Al Root

It's been three years since Russia invaded Ukraine, adding to geopolitical tensions and putting upward pressure on U.S. and European defense budgets.

The war has had a mixed impact on defense stocks, however, showing investors that it is always more than just one or two things that move shares over the years. Looking back can help investors figure out what the next few years might look like for the sector.

"Feb. 24 marked the third year of Russia's large-scale invasion of Ukraine, though arguably, efforts by Russia to seize Ukrainian territory started in 2014, if not earlier," wrote Capital Alpha analyst Byron Callan in a Tuesday note, adding that European defense stocks appeared to get the biggest boost from the conflict.

Shares of large European defense contractors, including BAE Systems and Thales, returned about 55% a year for the past three years. The S&P 500 returned about 12%.

At the start of the Ukraine war, the European group traded for less than 10 times estimated earnings. Now, it trades for closer to 26 times.

Shares of Lockheed Martin, General Dynamics, Northrop Grumman, and L3Harris Technologies returned about 4% a year on average. Price/earnings ratios have expanded for U.S. companies, but not as much as they have for their European counterparts. The four trade for about 16 times estimated earnings. In 2022, they traded for about 13 times.

Adding smaller capitalization defense companies into the mix, including Kratos Defense & Security and AeroVironment, the average annual return goes to 10%.

AeroVironment stock has been the best performer, returning about 33% a year for three years. Unmanned systems and "drones have been an over-arching theme in the war, and they've made maneuver difficult," added Callan. "They haven't led to strategic advantage, [though]. They've killed tanks and other vehicles in large numbers, but Russia and Ukraine still use tanks and other vehicles in offensive and defensive operations. Troops still need protection."

Several emergent pressures, including potential budget cuts, contracting reform, and the impact of President Trump's new Department of Government Efficiency, have weighed on the sector. Those changes favor smaller firms again, wrote Callan. That would mean more outperformance for the likes of AeroVironment and Kratos. That isn't a call to buy those two stocks, though; Callan covers the sector but doesn't have price targets and ratings for individual stocks.

Investors should remember Callan's observation that "troops still need protection." That could signal a rebound for traditional defense contractors -- even in a war theater populated by more drones and unmanned technology.

Write to Al Root at allen.root@dowjones.com

This content was created by Barron's, which is operated by Dow Jones & Co. Barron's is published independently from Dow Jones Newswires and The Wall Street Journal.

(END) Dow Jones Newswires

Al Root

It's been three years since Russia invaded Ukraine, adding to geopolitical tensions and putting upward pressure on U.S. and European defense budgets.

The war has had a mixed impact on defense stocks, however, showing investors that it is always more than just one or two things that move shares over the years. Looking back can help investors figure out what the next few years might look like for the sector.

"Feb. 24 marked the third year of Russia's large-scale invasion of Ukraine, though arguably, efforts by Russia to seize Ukrainian territory started in 2014, if not earlier," wrote Capital Alpha analyst Byron Callan in a Tuesday note, adding that European defense stocks appeared to get the biggest boost from the conflict.

Shares of large European defense contractors, including BAE Systems and Thales, returned about 55% a year for the past three years. The S&P 500 returned about 12%.

At the start of the Ukraine war, the European group traded for less than 10 times estimated earnings. Now, it trades for closer to 26 times.

Shares of Lockheed Martin, General Dynamics, Northrop Grumman, and L3Harris Technologies returned about 4% a year on average. Price/earnings ratios have expanded for U.S. companies, but not as much as they have for their European counterparts. The four trade for about 16 times estimated earnings. In 2022, they traded for about 13 times.

Adding smaller capitalization defense companies into the mix, including Kratos Defense & Security and AeroVironment, the average annual return goes to 10%.

AeroVironment stock has been the best performer, returning about 33% a year for three years. Unmanned systems and "drones have been an over-arching theme in the war, and they've made maneuver difficult," added Callan. "They haven't led to strategic advantage, [though]. They've killed tanks and other vehicles in large numbers, but Russia and Ukraine still use tanks and other vehicles in offensive and defensive operations. Troops still need protection."

Several emergent pressures, including potential budget cuts, contracting reform, and the impact of President Trump's new Department of Government Efficiency, have weighed on the sector. Those changes favor smaller firms again, wrote Callan. That would mean more outperformance for the likes of AeroVironment and Kratos. That isn't a call to buy those two stocks, though; Callan covers the sector but doesn't have price targets and ratings for individual stocks.

Investors should remember Callan's observation that "troops still need protection." That could signal a rebound for traditional defense contractors -- even in a war theater populated by more drones and unmanned technology.

Write to Al Root at allen.root@dowjones.com

This content was created by Barron's, which is operated by Dow Jones & Co. Barron's is published independently from Dow Jones Newswires and The Wall Street Journal.

(END) Dow Jones Newswires

February 25, 2025 15:05 ET (20:05 GMT)

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