Defense Contractors Are Making a Killing

Stock prices for Lockheed Martin, General Dynamics, Raytheon and Northrop Grumman set all-time record highs last week as it became increasingly clear that President Obama was committed to a massive, sustained air war in Iraq and Syria.

It’s nothing short of a windfall for these and other huge defense contractors, who’ve been getting itchy about federal budget pressures that threatened to slow the rate of increase in military spending.

Now, with U.S. forces literally blowing through tens of millions of dollars of munitions a day, the industry is not just counting on vast spending to replenish inventory, but hoping for a new era of reliance on supremely expensive military hardware.

“To the extent we can shift away from relying on troops and rely more heavily on equipment — that could present an opportunity,” Jack Ablin, chief investment officer at BMO Private Bank, whose $66 billion portfolio includes Northrop Grumman Corp. and Boeing Co. shares, told Bloomberg.

Defense contractor stocks have far exceeded the performance of the broader market. A Bloomberg index of four of the largest Pentagon contractors rose 19 percent this year, compared to 2.2 percent for the S&P 500.

It’s the munition makers who “stand to reap the biggest windfall, especially in the short term,” says Fortune magazine, citing Raytheon’s long-range Tomahawk missiles, and Lockheed Martin’s Hellfires, among others. “Small diameter bombs could be a huge winner, since aircraft can carry more of them in a single sortie,” one analyst tells the magazine.

U.S. forces used 47 Tomahawk missiles on Monday alone, at $1.5 million apiece.

Smart “small-diameter bombs” cost about $250,000 each.

Richard Clough writes for Bloomberg:

For defense companies, the offensive against Islamic State and al-Qaeda extremists is more than a showcase for big-ticket weapons such as Lockheed’s F-22 Raptor fighter, the stealth jet that debuted in combat this week.

In its first night of airstrikes into Syria, the U.S. dropped about 200 munitions and launched 47 Raytheon-made Tomahawk cruise missiles, according to U.S. Central Command. The military also deployed Boeing’s GBU-32 Joint Direct Attack Munitions and Hellfire missiles from Bethesda, Maryland-based Lockheed, creating an opening for restocking U.S. arsenals.

Tory Newmyer’s article in Fortune does a great job of depicting the new giddiness in the defense industry:

New fights mean new stuff, after all. And following the U.S. withdrawal from Iraq and Afghanistan—and the belt-tightening at the Pentagon imposed by steep budget cuts—military suppliers are lining up to meet a suddenly restored need for their wares….

[D]efense analysts are pointing to a pair of sure-bet paydays from the new campaign: for those making and maintaining the aircraft, manned and unmanned, that will swarm the skies over the region, and for those producing the missiles and munitions that will arm them.

“The drone builders are going to have a field day,” says Dov Zakheim, who served as Pentagon Comptroller during the George W. Bush administration….

Indeed, the widening conflict could even reverse the trend of tapering investments in the technology, says Mark Gunzinger, a retired Air Force colonel and former deputy assistant secretary of defense now at the Center for Strategic and Budgetary Assessments. “One of the things that can help a new capability break through is an operational stressor, like a major air campaign,” he says….

In the longer run, one defense appropriations lobbyist predicts—a hopeful note in his voice: “we’re going to have to bust through the budget caps” imposed on the military by the sequester cuts. “We can’t fight this on the cheap,” he says.

Zacks Investment Research urges investors to buy Lockheed Martin, General Dynamics and Northrop Grumman:

It is likely that the conflict with ISIS will continue for a while. Such a campaign is likely to provide impetus for defense stocks in the days and weeks ahead. These stocks would make excellent additions to your portfolio.

The Pentagon recently estimated that military operations in Iraq were costing an average of $7.5 million a day between June and last week — an annual rate of about $2.7 billion. But even if costs ballooned to, say, $15 billion a year, the figure would still be dwarfed by the approximately $1.3 billion a week we’re still spending in Afghanistan.

And for now, there’s no cash flow problem: Obama can just dip into the “Overseas Contingency Operations” budget, the $85 billion “all-purpose war funding credit card” Congress just gave him – $26 billion more than he had even asked for.

Photo of Tomahawk cruise missiles launching in the Red Sea; U.S. Navy via Getty Images.