3 Aerospace-Defense Stocks to Watch as Air Traffic Prospects Look Bright
Impressive projections for airline revenues, as stated by the International Air Transport Association (IATA), bode well for aerospace-defense stocks that are engaged in commercial aerospace-related operations. Yet pandemic-induced supply-chain disruption in the U.S. defense electronics space remains a threat to stocks in the aerospace-defense space. Nevertheless, the outlook remains bright for the defense side of the aerospace-defense industry, cushioned by steady government support, which should keep investors interested in this industry. The frontrunners in the aerospace-defense industry are Lockheed Martin LMT, Airbus Group EADSY and General Dynamics GD.
About the Industry
The Zacks Aerospace-Defense industry comprises companies that primarily design and manufacture heavy-built products like commercial as well as military jets and helicopters, tankers and other combat vehicles, missiles, combatant ships as well as auxiliary ships, submarines, bombs, guns, space transportation vehicles, military satellites and a few more. The industry also includes cyber security players who offer information technology (IT) services and C4ISR (command, control, communications, computers, intelligence, surveillance and reconnaissance) solutions. A portion of revenues comes from defense contractors, offering spare parts, aircraft modification, ship repair and overhaul services and supply chain management services.
4 Trends Shaping the Future of the Aerospace-Defense Industry
Improved Air Traffic Outlook Boosts Prospects: Recovering global air traffic data in recent times has boosted the near-term growth prospects of the industry. As stated in a report published by the International Air Transport Association (IATA) in November 2022, industry-wide revenue per kilometer increased 41.3% year over year. This must have driven IATA to forecast that total airline revenues should increase to an estimated 93% of the pre-pandemic level in 2023. Such impressive projections bode well for commercial aerospace giants, which have long borne the brunt of poor air travel in the form of delayed jet deliveries and, in some cases, cancellation of their orders altogether by airlines.
Expanding Defense Budget Remains a Growth Catalyst: While the commercial aerospace market has been recovering steadily over the past couple of quarters, the defense side of the industry stood its ground amid the COVID-19 crisis, cushioned by steady government support. To this end, it is imperative to mention that the U.S. House passed the $839 billion National Defense Authorization Act in July 2022, thereby authorizing the U.S. government to spend $37 billion more than what President Joe Biden had requested in his budget for national security spending. Such improved budgetary provisions set the stage for industry players focused on the defense business to win more contracts, which should enhance their top line.
Supply Chain Issues May Hurt: Significant supply-chain disruption has been observed in the Aerospace and Defense industry, of late, courtesy of the pandemic-induced lower aircraft demand and restrictions on the movement of people and goods. This primarily affected smaller suppliers, like aircraft parts makers, especially those with heavy exposure to commercial aerospace and the aftermarket business. Although the global economy has started to improve, lingering market disequilibria will likely continue to keep prices high, including that of labor, as estimated by IATA. This, in turn, might keep the growth trajectory of the U.S. aerospace and defense industry constricted, to some extent, in the near term.
Strengthening Dollar Adds to industry Woes: The recently appreciating U.S. dollar is adding another layer of cost to airlines’ operations, which are already burdened with high inflation and jet fuel prices. The Federal Reserve’s policy rate now stands at 4.5%, having started 2022 at 0.25%, and will likely peak in 2023 in the vicinity of 5%, as reported by IATA. All U.S. dollar-denominated costs are rising for airlines, which earn revenues in non-U.S. currency. Similarly, the debt burden has increased for all non-dollar-based entities that have borrowed in dollars. Such a burden on airlines might lead to lower aircraft delivery, thereby hurting aerospace-defense industry players that operate in commercial aerospace, in particular.
Zacks Industry Rank Indicates Bright Prospects
The Zacks Aerospace-Defense industry is housed within the broader Zacks Aerospace sector. It currently carries a Zacks Industry Rank #80, which places it in the top 32% of more than 250 Zacks industries.
The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates bright near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.
Before we present a few aerospace-defense stocks that you may want to add to your portfolio, let’s take a look at the industry’s recent stock market performance and valuation picture.
Industry Beats S&P 500, Lags Sector
The Aerospace-Defense industry has outperformed the Zacks S&P 500 composite but underperformed its own sector over the past year. The stocks in this industry have collectively lost 7.5% compared with the Aerospace sector’s slip of 0.8%. The Zacks S&P 500 composite has gone down 11.8% in the said timeframe.
One-Year Price Performance
Industry's Current Valuation
On the basis of the trailing 12-month EV/Sales ratio, which is used for valuing capital-intensive stocks like aerospace-defense, the industry is currently trading at 1.90, compared with the S&P 500’s 3.36 and the sector’s 2.25.
Over the past five years, the industry has traded as high as 1.99X, as low as 1.51X, and at the median of 1.81X, as the charts show below.
EV-Sales Ratio TTM
3 Aerospace-Defense Stocks to Keep in Your Watchlist
Airbus Group: Based in Mendelweg, Netherlands, Airbus develops, manufactures, markets and sells commercial jet aircraft, military transport aircraft and special mission aircraft, civil and military helicopters, satellites, orbital infrastructures and launchers as well as space-related services missiles systems, military combat and training aircraft. On Jan 27, 2023, the company announced that Air France-KLM Group has placed a firm order for four A350Fs, the brand new Airbus widebody freighter. This surely reflects the significant position that Airbus already enjoys in the rapidly growing freighter market backed by its expanding e-commerce business worldwide.
The Zacks Consensus Estimate for Airbus’ 2022 sales implies a solid improvement of 11% from the 2021 reported figure. The stock also boasts an average four-quarter earnings surprise of 59.88%. EADSY currently carries a Zacks Rank #2 (Buy).
Price & Consensus: EADSY
Lockheed Martin: Based in Bethesda, MD, Lockheed is the largest defense contractor in the world, with its main areas of focus being defense, space, intelligence, homeland security and information technology, including cyber security. The company recently announced that along with the Defense Advanced Research Projects Agency, Air Force Research Lab and Aerojet Rocketdyne, Lockheed Martin has accomplished the primary objectives during its second Hypersonic Air-breathing Weapon Concept (HAWC) flight test, doubling the amount of scramjet-powered vehicle data. This indicates Lockheed’s significance in the booming hypersonic technologies market.
Lockheed currently boasts a long-term earnings growth rate of 6.9%. The company delivered an earnings surprise of 6.86% in the last reported quarter. LMT currently has a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
Price & Consensus: LMT
General Dynamics: Based in Falls Church, VA, General Dynamics is the leading designer and builder of nuclear-powered submarines and a leader in surface combatants and auxiliary ship design and construction for the U.S. Navy. It is also a premier manufacturer and integrator of land combat solutions worldwide, along with renowned business jets. The company announced on Jan 26, 2023 that its G700 jet has achieved 25 speed records on the recently completed G700 world tour. This should bolster General Dynamics’ position in the business jet market.
GD boasts a long-term earnings growth rate of 8.6%. The company delivered an average earnings surprise of 2.63% in the last four quarters. General Dynamics currently holds a Zacks Rank #3.
Price & Consensus: GD
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