Shelly Banjo is a Bloomberg Gadfly columnist covering industrial companies and conglomerates. She previously was a reporter at Quartz and the Wall Street Journal.

Believe it or not, the tobacco industry is on a tear. 

Growth investors quit tobacco a while back, seeing it as a utility, with reliable cash streams better suited for big pension funds and other institutional investors (at least those not averse to owning sin stocks). Consumers were aware of tobacco's harmful health effects, and many thought the companies would slowly wind down.

Except maybe not: The three big U.S.-based tobacco companies -- Reynolds, Altria, and Philip Morris -- returned 103 percent, 87 percent, and 34 percent to investors over the past two years, respectively, compared to a 14 percent return on the S&P 500. 

On Fire
Tobacco stocks have outperformed the S&P 500

At a February investor conference, Newport maker Reynolds American -- helped by its recent acquisition of rival Lorillard -- deemed 2015 the cigarette industry's best year in terms of volume since 2006. While global smoking rates have been declining, about 20 percent of people around the world still smoke (just down from 22 percent in 2005), according to Euromonitor. In countries such as Russia, Greece and Chile, those numbers climb to about 40 percent of the population. 

Lighting Up
U.S. cigarette shipment volume growth
Source: Bloomberg Intelligence
Reynold's volume rise reflects the company's $25 billion acquisition of Lorillard

Some of the industry's performance can be chalked up to consolidation. A stream of mergers over the past few decades left just a handful of big tobacco companies. The giants that remain have the power to raise cigarette prices every year as taxes and other costs go up (taxes represent 70 percent of the price of a cigarette, according to Bloomberg Intelligence). The field is likely to narrow even further, with additional mergers at home and abroad. Many tobacco companies already work together on joint ventures and new-product research and development. 

There are also macroeconomic effects at work. Five years ago, U.S. drivers paid around $4 a gallon for gas, compared with less than $2 a gallon today. Because half of tobacco sales occur at the gas station, according to Euromonitor, low gas prices tend to boost cigarette sales, leaving consumers extra money to buy more packs or higher-quality cigarettes. 

Savings At The Pump
Daily national average gasoline prices
Source: Bloomberg

But perhaps the most interesting development is the industry's greater focus on research and technology, spawning a host of new smoking alternatives, from electronic cigarettes and chewing tobacco to vapor and smoking-cessation products. Representing just 1 percent of the $900 billion global tobacco retail market today, there is plenty of room for growth.

Initially, the industry feared some of these new products would draw smokers away from traditional cigarettes. Instead they are having an "add-on effect," giving consumers more occasions to consume tobacco, according to Bloomberg Intelligence analyst Kenneth Shea. For example, a smoker who prefers conventional cigarettes at home might use e-cigs or vapor products at a friend's house or a bar, where traditional cigarettes are less accepted or possibly forbidden. In the past, a smoker might have just abstained from tobacco in those places.

As companies spend big to develop new products they claim carry "reduced health risks," Euromonitor expects global vapor device sales to reach $23 billion in 2019, up from $10 billion in 2015

Sure, the long U.S. tobacco stock rally could flame out. But the billions of dollars Big Tobacco is sinking into new technology suggests otherwise. 

Philip Morris, for example, is investing in a new tobacco product called iQOS, which uses a temperature-controlled electrical heating system to heat tobacco instead of burning it. It hasn't gotten FDA approval yet, but it's for sale in countries such as Italy, Switzerland, and Japan.

While the jury is still out on whether these products are indeed safer than conventional cigarettes, the new technology led Wells Fargo to add Philip Morris to its top stock picks last week. In a 43-page report, Wells analyst Bonnie Herzog said the new iQOS business could be worth an incremental $27 a share to Philip Morris. It's currently trading at around $96 a share. 

Marijuana is waiting as another potential growth opportunity. Though we're not yet close to federal legalization of marijuana, Big Tobacco could quickly dominate the marijuana business when federal regulations appear. As one tobacco executive told Gadfly earlier this year, these companies already know how to operate and make money in a highly regulated industry, and marijuana will likely be that. 

Tobacco could stay lit for a while.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Shelly Banjo in New York at

To contact the editor responsible for this story:
Mark Gongloff at