Aerospace & Defense Stock Outlook

In the words of President Obama, “the terrorist threat has evolved into a new phase.”

The importance of the aerospace & defense industry stems from the strategic role it plays in the country’s security. As threats turn into ever new shapes involving asymmetric, air-sea power, cyber, urban, non-state organizations, and many more, the defense capabilities of a country need to morph accordingly to contain them.

A politically unstable planet has led to various nations stepping up their defense capabilities. The direct beneficiary of a volatile geo-economy is undoubtedly the aerospace and defense players. The U.S. defense firms have particularly tasted success in the ‘rest of the world.’ Countries allied to U.S. policy are spending substantially on sophisticated artillery to wage the war against terror and sectarian forces. The crisis has been acutely felt with the meteoric rise of the Islamic State of Iraq and Syria (ISIS), a situation that President Obama coined “the network of death.”

Moreover, the aerospace and defense industry has gained from fleet renewals at airlines worldwide. Demand for more fuel-efficient aircraft, a growing international market and increasing application of unmanned aircraft in warfare today have driven up sales in this sector.

On top of it, the recent budget agreement is a net positive for the defense players. Given the signs of an improving labor market, the U.S. economy is also on track to grow 2.3% in the final quarter of 2015, per the Atlanta Federal Reserve’s GDPNow forecast model.

Budget Updates

On Nov 25, 2015, President Obama signed a $607 billion annual defense policy bill. The bipartisan budget deal gives the U.S. Department of Defense (DoD) big-time relief, raising the 2016 spending cap by $33 billion and the 2017 cap by $23 billion. That allows the Pentagon to get a total of $607 billion in 2016 and $610 billion in 2017.

Though the budget agreement provides $5 billion less than what the President had requested for fiscal 2016, it increased the security spending limit by about $25 billion or about 5% to $548.1 billion for the fiscal over fiscal 2015. It also provided $58.8 billion in funding for the Pentagon’s separate war fund, the overseas contingency operations (“OCO”) fund.

Overall, the new budget deal provided the Pentagon with a two-year budget certainty. This is especially important as defense programs require long-term strategic planning and multi-year acquisition contracts. Again, the agreement gives the military a higher budget than it would have witnessed under the spending caps. This provides some respite following six consecutive years of budget austerities.

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