David Stevenson: Why I'm taking a punt on online gambling stocks
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There’s something of an urban myth surrounding the idea of sin stocks, the antithesis of the current fad for environmental, social and governance (ESG) investing.
The idea behind the myth is that these are stocks that do ‘no good’, are in effect forbidden fruit and deliberately shunned by investors, but because they have dropped off ESG-sensitive radars they tend to outperform.
A study a few years back by Robeco, an ESG and quant-friendly asset management firm, confirmed what most of us always knew. Sure, some sin stocks outperform some of the time but that’s not because they are hated. They thrive because they are often quality companies with high margins and careful allocation of capital. Their business model makes them thrive, not their shunned status.
With this in mind, I wanted to highlight another potential fast growth sin stock area – online gambling and sports betting. This is the focus of a brand new exchange traded fund (ETF) out early next month -hopefully next week- which I think might interest even the most jaded sceptic of all things thematic.
There are now focused equity ETFs for virtually every bit of the global tech spectrum: cybersecurity, robotics, biotech, you name it and there’s a concentrated index tracker following it.
Many investors are quite rightly deeply suspicious for all the predictable reasons. But there is one thematic that is I think much more interesting: legalisation. In other words, a land grab into a space, usually in the US, that for various puritanical, and in some cases rational, reasons has been illegal.
The obvious example is cannabis legalisation which is now spreading like ivy all over the States. It will also soon apply to psychedelic treatments, the subject of an FT column next month and explored in recent, excellent detail by a BBC documentary last week.
Sports betting the next big opportunity
Sports betting and iGaming is the next big legalisation frontier. The US has always had a slightly odd attitude towards gambling; it’s OK if it happens in big casinos, owned by massive corporates (and Native American tribes) but most other forms of sports betting is illegal.
I have to say that I think the very liberalised UK attitude is arguably too lenient but there has to be a middle ground and the US might, at last be inching towards this. It also helps that there is a massive growth market in Asia for many of the same products and it will therefore come as no surprise that many of the existing big US gambling businesses are hustling like crazy into this space, trying to elbow out the innovative European players.
It’s also important to distinguish between sports betting, which is emerging from the shadows at a greater speed because it has more public support, especially from the fans, and the industry - many of the sports teams are enthusiastic participants.
Online iGaming is encountering much more stern resistance, not least from the existing casino-based players. And lest we forget, the US gambling industry is not exactly a minnow, pulling in revenues of $125bn (£88.3bn), the equivalent of $245 per adult a year.
Plus of course there is the huge illegal sports betting market. One recent report estimated that there were $150bn in illegal bets wagered in 2018, many in the sports betting market. So, unsurprisingly, change is coming and as with cannabis its coming on a state by state basis.
The US market for sports betting and iGaming was worth $2.3bn in 2020. Of course, there’s the usual splatter gun of estimates for possible market growth but it’s worth noting that two existing players, Draftkings and MGM, reckon that total market revenues could be around $60-62bn if sports betting and iGaming was legal across all states.
They both expect sports betting to be legal across 65% of population resulting in a market estimate of $14bn, whereas with iGaming these two businesses reckon that it could be legal across 30-35% of the population, resulting in a $13bn market. And remember that whatever works in the US will probably also be exported to Asia or even globally. According to one estimate, global online gaming has been growing at a 11% compound annual growth rate for the last few years.
How to take a punt on the theme
How big might the sports betting market end up becoming? Morgan Stanley reckons the average spend per adult will be around $45, which compares to Australia’s existing legal market worth $3.3bn or $178 per adult. The UK market is worth $4.7bn or $91 per adult.
Within this field and going back to my initial point about quality stocks, the existing margins are typically around 30%, according to Draftkings and MGM.
So, I think we can all accept that as ‘fast growing’ thematics go, this is a much more interesting area and arguably more exciting than say cannabis, where a bunch of scrappy newbies are vying for business – and are still proving their core business profitability.
Sports betting by contrast is a space where existing leviathans will try and grab market share and boost margins.
Cue the new ETF out next month, the Hanetf Sports Betting & iGaming (BETZ) ETF. The index behind has been devised by an outfit called Fischer Gaming, a consulting firm with deep experience in this area. Its principal Aaron Fischer was a former industry executive and stockmarket analyst.
As with many of these thematic indices, it’s a mix of pure plays, semi-detached existing brands, and picks and shovels working behind the scenes. In effect, around two thirds of the companies in the index are consumer-facing companies, with the remaining third made up of those ‘picks and shovels’ infrastructure suppliers, including tech businesses.
In terms of geographical exposure, something like 60% of the companies are listed in Europe, with the remainder in the US and one Australian company.
In the tables below I have tried to give readers some idea of the fundamentals behind a smattering of the bigger players in the index. I have used fundamental data from Sharepad to build the table, and there are the usual caveats around sourcing accurate data.
As you can see, the 15 business I can access data for are a high-performing bunch. Over the last year their average share price has risen 78%, and over the last three years that figure is 159%.
But valuations, as you would expect for a high growth focused thematic, are a bit eye-watering. The average trailing price to earnings ratio is 119x, although forecast earnings per share (EPS) growth is 43%.
So, as with any sector that looks exciting and is experiencing fast growth, you have to decide whether you think these multiples stack up, assuming of course that you can hold your nose around such an ESG unfriendly space.
The stocks owned bythe Hanetf Sports Betting & iGaming (BETZ) ETF
