The Dow Slumbers as Big Tobacco Holds the S&P Back

A merger between two of Altria's biggest competitors isn't enough to excite investors this morning.

May 22, 2014 at 12:05PM

American markets are not doing much this Thursday in the absence of earthshaking economic news. While initial jobless claims rose more than expected last week, to 326,000, the total number of people receiving unemployment benefits has reached its lowest level since the start of the recession in December 2007. Existing home sales, however, barely moved -- the 1.3% uptick for April was much lower than the modest 2.2% increase many economists had expected. Markit's preliminary U.S. manufacturing index report also showed a month-over-month improvement, from April's 55.4 to 56.2 today (anything over 50 points indicates expansion) .

Longview

In light of this generally decent-but-unimpressive rack of reports, the Dow Jones Industrial Average (DJINDICES:^DJI) was 0.1% higher as of 12:05 p.m. EDT, while the S&P 500 (SNPINDEX:^GSPC) rose 0.3%. The Dow's components are a slow-moving bunch today, with none consistently trading more than 1% higher or lower than their closing prices from Wednesday afternoon. The S&P is enjoying a broad but weak rally, as about 390 of its 500 components are in positive territory, but only four of them held gains of greater than 4%.

The S&P has a few notable movers today, though -- Dollar Tree (NASDAQ:DLTR) is leading the index's 500 components with a 7.5% gain after narrowly beating Wall Street's profit projections for its first quarter. The discount retailer's $2 billion in quarterly sales barely missed the $2.01 billion consensus, but its earnings of $0.67 per share cleared the $0.66 estimate. However, the company's full-year guidance now looks rather weak: the projection for earnings per share of $2.94 to $3.12 is down from the earlier estimate, and it also falls below Wall Street's $3.17 consensus. Investors may want to be cautious, as Dollar Tree's share price has been running away from its fundamentals since recovering from a 2012 crash:

DLTR Chart

DLTR data by YCharts.

Tobacco stocks Lorillard (NYSE:LO) and Reynolds American (NYSE:RAI) are the two biggest losers among all S&P 500 components, with respective drops of 4.9% and 1.9%. Reynolds is said to be in talks to buy its smaller rival. The deal, reported last night by several major media outlets, would further consolidate the ever-shrinking American tobacco industry and create a second-place competitor that could challenge longtime leader Altria (NYSE: MO).

This isn't the first time the two companies have faced merger rumors, but talks have apparently reached an advanced stage. The Wall Street Journal reported last night that this deal, which would also require the involvement of Reynolds' minority owner British American Tobacco, might raise regulatory scrutiny, as it would create a de facto duopoly between Altria, which controls roughly half of the U.S. cigarette market, and the new Reynolds-Lorillard, which would account for about 40% of that market. The deal also highlights where the real growth has been in the tobacco industry -- over the past few years, Lorillard is the only one of these three companies to move its top line markedly higher. All three, however, have used copious share buybacks and cost-cutting measures to juice their bottom lines:

RAI Revenue (TTM) Chart

RAI Revenue (TTM) data by YCharts.

This deal might draw more publicity, and scrutiny, to the tobacco industry than it's seen in years. This tie-up might be necessary to maintain momentum among the industry's leaders, but it could easily result in a backlash that dents everyone's profitability.

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Alex Planes holds no financial position in any company mentioned here. Add him on Google+ or follow him on Twitter @TMFBiggles for more insight into markets, history, and technology.

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