By David Randall
NEW YORK (Reuters) - A U.S. proposal to slash nicotine levels in cigarettes may have smoked some investors out of Altria Group Inc (N:MO), whose Marlboro line is the top-selling U.S. brand, but long-term stockholders are staying put after decades of dividend hikes in August.
Altria, informally known as "Big Mo" before its split from Phillip Morris International Inc (N:PM) in 2008, fell as much as 12 percent after the Federal Drug Administration on July 28 proposed cutting nicotine in cigarettes to "non-addictive" levels to encourage a shift to potentially less harmful e-cigarettes.
Fund managers have said that might cut into cigarette sales, but tobacco companies have enough pricing power to weather declines and keep paying well-above market dividends.
That means Altria's dividend, which has been raised every August since at least 1981, continues to look safe. Its shares are up 1.6 percent since the start of August, compared with a 0.4 percent gain in the benchmark S&P 500 index (SPX).
"When you project out earnings in the future, even with a hit from the FDA policy, you can see that the dividend is well covered for years to come," said Gary Bradshaw, a fund manager at Dallas-based Hodges Capital, which holds Phillip Morris shares.
The dividend increases have helped Altria shares rise an average of 3.3 percent every August since 1981, according to Reuters data, compared with a 0.8 percent gain for the S&P 500. Overall, gains in that month have accounted for roughly one-quarter of the stock's 14.3 percent annualized price return since August 1981.
Altria pays a dividend yield of 3.7 percent, compared with Phillip Morris' 3.6 percent and the S&P 500's 2.3 percent.
"It seems clear that uncertainty is back and, with that, some level of overhang on valuations in the near term," Bonnie Herzog, a Wells Fargo (NYSE:WFC) analyst, wrote in an analyst note. That could boost the chances of Philip Morris acquiring Altria, she added.
Altria trades at a price-to-earnings ratio of 8.7, near its 52-week low. But Philip Morris, a leader in e-cigarette technology, has a multiple of 25.6, near its 52-week high.
While tobacco stock prices are expected to hit a ceiling over the next few years, their dividends are unlikely to be cut because any FDA proposals could take years to implement, Herzog said.
"In our minds, the biggest risk is that the stock could be range bound near-term but long-term investors can get paid to wait," she said.