FTSE 350 Outlook: Tobacco

However, investors should bear in mind that defensive shares can also underperform during a bear market. And in this cycle, tobacco shares could certainly get out of breath. One of the major differences with the dot.com crash is that tobacco shares enter this downturn on stretched valuation. Imperial and British American Tobacco trade on 2008 PE ratios of 17.5 and 17.7 respectively, when their historic earnings multiples are normally closer to 10 to 12 times.

Some analysts have justified these valuations given the cost savings expected from Imperial's acquisition of Altadis, the Franco-Spanish cigarette maker. But the argument looks weak given the strong appreciation of BAT's shares. What's more, the Altadis acquisition will also significantly increase Imperial's exposure to the US market, notably in cigars which fall directly into the discretionary spending that is likely to be cut.

And while declining sales are nothing new in mature markets, the rate of revenue erosion could accelerate dramatically. Britain, Italy and Spain imposed a smoking ban in public places last year, and France and eight German states have followed suit this year. And worryingly for the cigarette manufacturers, some emerging markets are also adopting more restrictive legislation. Indeed, Turkey - a country where 40 per cent of the adult population smoke - has recently voted for a ban which is due to come in force next year.

For the time being, emerging markets will continue to help boost the tobacco giants' revenues and profits. And the generous dividend and regular share buybacks will certainly continue to play well with investors. But shareholders should keep a watchful eye on signs of share weaknesses, to make sure that the gains generated during the past five years do not end up in smoke.