When war breaks out, defense companies tend to make money. That means aerospace and defense stocks can serve as safe havens for investor cash during geopolitical unrest.
In the immediate aftermath of the Israel-Hamas War, shares of military contractors spiked as both institutional and retail investors bought in, according to VandaTrack research.
The iShares U.S. Aerospace & Defense ETF, which tracks companies including Raytheon, Lockheed Martin, Boeing, General Dynamics and Northrop Grumman, has surged by about 7% since the initial attacks on Israel earlier this month.
What's happening: On a recent earnings call, Lockheed Martin executives highlighted the Israel and Ukraine conflicts as potential drivers for increased revenue in the coming years.
"In the longer term there are some things that are changing significantly. One is the global threat environment and the geopolitical situations getting more concerning and challenging," said Jim Taiclet, chairman, president and CEO of Lockheed Martin Corporation on Tuesday. "That's refocusing the US and certainly our allies around the world on national defense in an increasing manner."
Some Wall Street titans are also concerned about the possibility that the conflict could widen beyond Israel and Hamas. JPMorgan Chase CEO Jamie Dimon told investors on Friday that "now may be the most dangerous time the world has seen in decades." The Israel-Hamas war and the war in Ukraine, he said, "may have far-reaching impacts on energy and food markets, global trade and geopolitical relationships."
Sam Stovall, chief investment strategist at CFRA, also pointed out that there have been several instances of conflict in the Middle East "that triggered or exacerbated US recessions and bear markets, such as the Yom Kippur War in 1973 and Iraq's invasion of Kuwait in 1990."
Strong gains, loosely held: Despite the recent growth in share prices, defense stocks have faced a challenging year. What's making things especially difficult for defense contractors is that President Joe Biden's proposed budget, which includes a 4% increase in defense spending to $814 billion, remains in limbo, since Congress must act by November 17 to pass an appropriations bill or another continuing resolution to prevent a government shutdown. So far this year, the S&P 500 aerospace and defense index has lost about 8.5%, even with the recent gains.
And even the latest gains could be short lived. Defense stocks typically rise after military conflicts but soon lose those gains.
Following Russia's invasion of Ukraine, the iShares defense ETF surged by 5%, with Lockheed Martin and Northrop Grumman's shares jumping about 20%. But within six months, these stocks reverted, losing most of their gains.
"If the war remains confined between Israel and Palestinians, it's likely that the markets will forget about it after a few days," said Raffi Boyadjian, an analyst at XM. A significant increase to the US defense budget could drive a sustained rally, he said, but that's unlikely due to Congressional challenges and the limited scope of the Israel-Hamas conflict.
Meanwhile, investors seem unfazed. The 10-year Treasury note's yield neared a 16-year high on Tuesday. Typically, rates drop during extended conflicts as traders opt for safer assets. Steady crude futures suggest investors aren't anticipating the conflict to spread to oil-rich nations.
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