Defense Contractors Win Big Amid U.S.-Iran Tension: 4 Picks

Escalating tensions in the Middle East may have dragged the broader markets down, but defense companies have gained considerably so far this week and could continue to do so. Rising possibilities of a war between the United States and Iran could well spur demand for military weapons and equipment.

In the past five trading sessions as of Jan 7, the S&P 500 Aerospace & Defense Index gained 3.7% and the Dow Jones U.S. Aerospace & Defense Index climbed as much as 3.6%.

U.S.-Iran on the Brink of a War

Hostilities between the United States and Iran increased following the assassination of the latter’s top military chief Qassem Soleimani on Jan 3. Soleimani was killed in a U.S. airstrike authorized by President Donald Trump.

Since then, Iran has taken certain retaliatory steps again the United States. The Islamic Republic announced that it would no longer abide by a 2015 nuclear deal with global powers and launched more than a dozen ballistic missiles against multiple bases housing U.S. troops in Iraq on Jan 7.

Secretary of Defense Mark Esper said that although the United States doesn’t seek to start a war with Iran, it is prepared to finish one.

The U.S.-Iran relation has been rather rocky given tensions over a 2015 nuclear deal. But hostility spiked last year over U.S. economic sanctions on Iran and its shooting down of a U.S. drone over the Strait of Hormuz.

Last year, large arms’ manufacturers across the industry told investors that the rising U.S.-Iran conflict could be good for business, according to The Intercept. Thomas Kennedy, the CEO of Raytheon Company (NYSE:RTN) , indicated that Iran (in January 2019) is one of the “demand signals” that could shape the U.S. defense budget.

Marillyn Hewson, CEO of Lockheed Martin Corporation (NYSE:LMT) , also spoke of increasing threats from Iran during the company’s investor call last January.

Per CNBC, defense companies usually surpass the broader market in the six months after a critical event in the Middle East.

Shares of prominent defense contractors such as Huntington Ingalls Industries, Inc. (NYSE:HII) , Leidos Holdings, Inc. (NYSE:LDOS) , Northrop Grumman Corporation (NYSE:NOC) , Raytheon Company and Lockheed Martin Corporation have moved north since the assassination of Soleimani, beating the broader market.

FY20 Defense Budget’s Major Focus: Aircraft and Shipbuilding

The U.S.-Iran tensions are also a major factor behind the growth in the country’s Overseas Contingency Operations (OCO). As of October 2019, additional deployments of 14,000 U.S. military personnel were made in and around the Persian Gulf.

In fact, President Trump approved a massive defense bill for fiscal 2020 in December, which brings to investors’ attention the country’s significant budget allocation to its OCO.

OCO is worth $71.5 billion out of the total national defense budget of $738 billion this year. The $738 billion fiscal 2020 budget marks a $21 billion rise over what Congress enacted for fiscal 2019.

But the highlights of Pentagon’s whopping defense budget request this year were its spending in aircraft and shipbuilding domains. The Pentagon had asked for $57.7 billion for the military’s air domain and $34.7 billion for the Navy’s fleet.

4 Defense Contractors Well Ahead in the Game

We have, therefore, chosen four defense contractors that have spread their tentacles deep in areas of defense manufacturing (aircraft, shipbuilding and missiles), security solutions and intelligence systems. Each of these stocks carries a Zacks Rank #1 (Strong Buy) or 2 (Buy).

Huntington Ingalls Industries, Inc. is a designer and builder of military ship.

The Zacks Consensus Estimate for Huntington Ingalls’ current-year earnings has moved 7.4% north over the past 60 days. Shares of this Zacks Rank #1 company have risen 39.1%, outperforming the Zacks Aerospace - Defense industry’s rise of 20.1% over a year. You can see the complete list of today’s Zacks #1 Rank stocks here.

Leidos Holdings, Inc. is a services and solutions provider in the defense and intelligence markets. The company offers national security solutions and systems for air, land, sea, space and cyberspace. It also provides technology, intelligence systems, command and control, data analytics, logistics, cybersecurity solutions along with intelligence analysis and operations support services to critical missions.

The Zacks Consensus Estimate for Leidos’ current-year earnings has climbed 1.1% over the past 60 days. Shares of this Zacks Rank #2 company have risen 83.2%, outperforming the Zacks Aerospace - Defense industry’s rise in a year.

Northrop Grumman Corporation is a security company. The company’s areas of operations are aerospace systems, innovation systems, mission systems and technology services segments.

The Zacks Consensus Estimate for Northrop Grumman’s current-year earnings has moved 0.7% upward over the past 60 days. Shares of this Zacks Rank #2 company have risen 48.7% in the past year, outperforming the Zacks Aerospace - Defense industry.

Raytheon Company is a developer of integrated products, services and solutions for the defense industry. The company operates in integrated defense systems, intelligence, information and services, missile systemsspace and airborne systems and forcepoint.

The Zacks Consensus Estimate for Raytheon’s current-year earnings has moved 0.08% north over the past 30 days. Shares of this Zacks Rank #1 company have risen 43.4%, outperforming the Zacks Aerospace - Defense Equipment industry’s rise of 41.9% over a year.

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