Investing in Defense Stocks During a Time of Global Uncertainty

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Where there's war, there's money to be made, and rising geopolitical tension in the Middle East, and the two-year-long war in Ukraine are leaving investors to shield their portfolios with defense stocks as governments bolster their defense budgets with plans to increase defense stockpiles and upgrade long-range military vehicle and aircraft fleets.

There's perhaps no better time than being in the business of defense contracting than right now. Defense companies tend to make the bulk of their profits from big-time procurement deals with government agencies such as the Defense Department in the U.S. and the Ministry of Defence (MOD) in the United Kingdom.

For instance, last year, President Biden allotted more than $816.7 billion in federal funding for the Defense Department after signing the Fiscal 2023 National Defense Authorization Act into law.

For the 2024/25 financial year, the UK is projected to spend more than $60 billion in real cash terms on their defense budget, an almost $20 billion increase compared to the 2020/21 financial year. Over in Europe, NATO Allies will be spending 2% of their combined GDP on defense for the first time. Allies will be investing more than $380 billion into defense programs, including the replenishing of their stockpiles.

The unfortunate reality is that war makes money, and global superpowers are pumping billions into defense and aerospace companies to help bolster national defense programs and transform legacy strategies with cutting-edge technology.

Aerospace And Defense Stock Diversification

Continuing uncertainty across the Middle East and geopolitical hotspots around the world could help U.S. defense contractors bolster their earnings in the coming months. For investors, this could be a time to load up on aerospace and defense stocks, although the answer to this is not as clear-cut as one might think.

For instance, following the initial attacks on Israel on October 7, 2023, the iShares U.S. Aerospace & Defense ETF soared roughly 7%. Back in February 2022, the MSCI World Aerospace and Defense Industry Index and MSCI World Index managed to outperform the market following the invasion of Ukraine by neighboring Russia.

Unfortunately, the instability experienced across parts of the Middle East and in Ukraine has been a regularity for many of these funds. Yet, based on historic events that have played a significant role in the performance of aerospace and defense stocks, the consensus remains that near-term political intervention can leave stocks flip-flopping when compared to the broader market.

In that case, investors usually look at filling their portfolios with stocks that can provide long-term stability, rather than short-term gains. More than this, aerospace and defense stocks tend to lag behind the general market, and only experience rapid intervals of growth following the outbreak of war or conflict. Working with such a strategy would require investors to consider a mix of diverse defense options that provide them with an assumed outcome further supported by a forward-looking strategy and consider the play between supply and demand.

Finding Companies In Key Market Positions

The bereaved reality of current affairs provides investors with an opportunity to consider long-term defense players that could be a complimentary addition to their portfolios. However, for some, the question regarding the political and social climate under which these companies operate only further creates a more moral-like challenge for investors looking to promote ESG-centered investment strategies.

With the continued conflict sweeping across parts of the world, here's a rundown of the defense companies that could provide investors with some stability and long-term gain.

Northrop Grumman

Northrop Grumman (NYSE:NOC) is one of the largest U.S. Department of Defense contractors, and provides global aerospace, defense, and security products and services to a large portfolio of governments, outside of the United States.

Commercial partners include Australia, the United Kingdom, South Korea, Japan, and the Middle East. Northrop Grumman focuses on global security provision, with a portion of their business portfolio dedicated to nuclear security, including missiles, submarines, and stealth bombers.

During the Q4 2023 financial reporting call, Chair, CEO, and President of Northrop Grumman, Kathy Warden shared that the current geopolitical landscape has allowed them to position their strategy well to compete and win in the growing market.

Recent developments taking shape across the world have added to the company's top line, including a revenue increase of over 7 percent in 2023. Furthermore, the company ended the year with more than $1 billion above its midpoint compared to its original 2023 guidance.

Overall, the company is currently in a positive position, with a $84.2 billion backlog for 2023, and seeing nearly $40 billion in sales for the full year.

Last year, following the initial attacks in Israel, NOC rose by nearly 12% in a single day before sliding and rising another 6% in the following days. Year-to-date (YTD) performance is down slightly by 4%, however, the company's diverse business portfolio and mixed product offering are helping it remain at the top spot of investors.

General Electric

Formed by the multinational conglomerate General Electric (NYSE:GE), GE Aerospace might not be the newest kid on the block, however, the company is taking off at full speed, and seeing major partnerships with the U.S. government, and more importantly, the U.S. Department of Defense.

GE Aerospace offers commercial military and water propulsion engine capabilities. According to the company, GE Aerospace has been assigned to produce aircraft engines for 100% of new production F-15s ordered during the last decade, including all Advanced F-15 aircraft.

For Q4 2023, General Electric reported a steady 7 percent increase in organic orders, which totaled more than $21.7 billion, and represented an 8% increase from the previous quarter. For the full year however, orders totaled more than $79.2 billion, which was a total 25% increase in yearly orders and organic orders.

Elsewhere, GE Aerospace managed to deliver higher-than-expected orders for the fourth quarter and managed to deliver double-digit growth for the full year. Overall, the company claims that commercial support and strength in services currently represent 70% of GE Aerospace revenue.

GE Aerospace signed a lucrative deal with Emirates following an order of 202 GE9X engines and spares. This partnership will help to power the Dubai-based airline operator fleet of Boeing 777X, and totaling Emirates' total order of GE9X engines to 460.

For investors, GE could be a suitable option that helps to provide them with stability, but more than this, access to General Electric's diverse business profile, which includes both GE Aerospace and their renewable energy arm, GE Vernova, which experienced an operating improvement of $1 billion for the fiscal 2023 year.

Parsons Corporation

Parsons Corp (NYSE:PSN) is a global security and defense technology company that generates most of its revenue from federal and state-funded contracts.

Already this year, Parsons has been awarded several high-value contracts, including a $48 million task order for army command and control system integrations. Then there's a $25 million transit improvement contract awarded by the City of Oakland; a $115 million Department of Labor Facilities Management project, and the company has been included in a $200 million GSA construction management contract.

Parsons has a robust business strategy, which allows them to oversee multiple projects, ranging from cyber security infrastructure, nation security, and intelligence including energy infrastructure, water and wastewater development, transportation, and urban development.

Based on fourth-quarter financial results, Parsons ended the year on a high note, including organic revenue growth of 34%, and roughly $1.5 billion in full-year revenue, an increase of roughly 35% year over year.

Critical infrastructure revenue, which oversees federal security and intelligence projects witnessed similar growth, with revenue increasing $111 million, or 21% to roughly $651 million. The company claims that organic growth of 20% was the largest contributor, and increasing activity volumes in the Middle East and North America were mostly responsible for the positive organic revenue turnaround.

For 2024, PSN shares have already managed to climb by 19.65%, with shares seeing a significant boost of 11% halfway through February. Looking at the longer scale, PSN is more than 60% up from the same time last year, with share prices now above $74.00 per share, compared to $44.47 per share last year this time.

Again, Parsons is in that sweet spot where investors would want it to be. The company has reported positive fundamentals, has positive forward-looking guidance, and has closely partnered with several government agencies that will help keep them in business for the next several years, at least.

Lockheed Martin

A list of defense stocks isn't complete without Lockheed Martin (NYSE:LMT). As one of the top suppliers for the U.S. government, seeing more than 18 contracts since 2018, totaling more than $5 billion, and with $1.9 billion of NASA contracts since 2019, Lockheed is a leading pioneer in all-domain operations for both military and commercial customers.

Already, investors are well aware of the company's seemingly lucrative portfolio, which includes projects such as military and defense aircraft, maritime systems, sustainment and training systems, cybersecurity, autonomy, artificial intelligence (AI), and transformative technology.

Where there's government money and contrast involved, there's a good chance that Lockheed Martin is following closely behind. Last year proved to be yet another successful year for the company, reporting more than $67.6 billion in full-year sales, and a total of $18.9 billion in fourth-quarter sales. For the fourth quarter, the company reported more than $2.4 billion in cash from operations, and over $1.7 billion in free cash flow for the same quarter.

The company has released its 2024 financial outlook, and most of its guidance is around holding up a free cash flow above $6 billion. For 2024, Lockheed is aiming to have free cash flow between $6.0 billion and $6.3 billion, compared to $6.2 billion in 2023.

Elsewhere, the company is further planning to improve its joint procurement policies with both public and private partners, improve favorable negotiation terms with the U.S. government, and further determine the risk assessment, development, sustainment, performance, and delivery of programs, including the F-35 aircraft program.

There is however a downside to LMT at the moment. Analysts that have been touting the idea of LMT reaching above $500 per share are now finding it fairly difficult to support their performance guidance following the announcement of President Biden looking to cut F-35 aircraft delivery by 18%.

What's more, potential budget cuts by the Department of Defense could further hamper forward-looking growth for LMT, and push stock prices lower, despite the ongoing uncertainty across tension-riddled hotspots around the world.

Huntington Ingalls Industries Inc

Huntington (NYSE:HII) is considered to be one of the largest military ship and sea vessel manufacturers in the United States. The company has over 135 years of experience in naval ship design, construction, and integration. Advancements in technology have further enabled the company to tap into new opportunities for artificial intelligence (AI) and electronic warfare systems to design and build unmanned and completely autonomous training.

Jumping right into their financials, HII reported recorded annual revenues of more than $11.5 billion, increasing more than 7.3 percent year over year. On a quarterly basis, revenues rose 3.2% year over year and were up to $3.2 billion.

The positive revenue turnaround was largely due to better-than-expected performance across all business segments, and the total backlog increased to more than $48.1 billion due to more than $12.5 billion in new contracts being awarded throughout last year.

Their financial outlook for the year ahead shows the company looking to boost its shipbuilding revenue performance between $8l8 and $9.1 billion, with an operating margin between 7.6% and 7.8%. Elsewhere, mission technologies are also expected to outperform current margins, with the forward guidance set at between $2.7 to $2.75 billion segment operation revenue.

As part of its mission statement for the year ahead, the company has told shareholders that various key factors, including labor market challenges, supply chain disruptions, costs relating to pension and healthcare costs, cyber security threats, and other future disruptions are some of their main priorities this year.

Tension in the waters around the Middle East could further bolster Hunting Ingal's performance this year, as the U.S. has already started deploying ships to the region following the Israeli-Hamas and now Somali-backed Houthi attacks taking place in the region.

Could this fallout bring Huntington new contracts in the near future requires further consideration, however, for investors this brings a long-term strategy that could help them take better advantage of conflict scenarios that could help boost their portfolio's performance.

Finishing Off

Another year of war and conflict is driving investors to lock in defense stocks in an attempt to tap into new opportunities that can provide them with a long-term strategic ability to outperform weaker markets, and steadily ride on the back of defense companies reeling in billions in government contracts and funding.

However, investors are wondering whether all this conflict and tension could actually help bolster company performance on the stock market. Better yet, understanding the long-term need for these companies at a time when more investors are hoping to move towards ESG-focused investments could play in direct opposition to their investment goals.

This article first appeared on GuruFocus.