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Sequester Isn't Squelching Defense Stocks

11 April 2013 in Trading Ideas

It was merely weeks ago when anxieties surrounding the imminent $1.2 trillion mandatory spending cuts by the federal government had shareholders of the country’s biggest defense stocks running for cover.

And who could blame them – considering, for example, that Lockheed Martin’s (LMT) CEO had said late last year that the onset of cuts, known as the sequester, would force him to send layoff notice to all of his 120,000 employees, including a real cut of as much as 10% of his workforce.

Like Mark Twain’s early demise, reports of the death of defense stocks have been greatly exaggerated, and for investors there has been nothing like breaking through uncertainty about the impact of defense budget cuts to breathe some life into the stocks of the sector’s biggest players.

Since the March 1 cuts took effect, while the S&P 500 has gained 3.6%, Boeing (BA) has risen 13.4%, Northrop Grumman (NOC) is up 8.9%, Lockheed has jumped 8.4% and Raytheon (RTN) has increased 6.2%.

The Modern Warfare motif has gained 7.5% since March 1, and is up 4.6% in 2013, and 17.2% in the past 12 months while the S&P 500 is up 10.2% for the year to date and 13.7% for the most recent 12-month period.

Of course, the certainty surrounding the sequester cuts isn’t all that certain, but that may have been sufficient for those investing in defense stocks. According to The Hill, sequestration will cut $41 billion from the Pentagon’s 2013 budget, which runs through September. However, that amount represents about 6% of the current Defense budget, and in reality, major defense firms are still working on contracts from past budget years.1

Even a Boeing spokesman recently admitted that it was “still too early” to know what kind of effects the sequester cuts will have.

And it’s not like the possibility of cuts had taken the larger defense firms by complete surprise. They’ve endeavored to diversify their revenue streams with boosts in commercial business. A recent Deloitte survey showed, many firms have been preparing for lower military budgets for years by shrinking payrolls, cutting costs and expanding to foreign markets.

Still, as The Hill pointed out, many defense experts anticipate that the cuts will eventually levy some pain on the sector, however the likelihood of a sudden or sharp jolt looks increasingly remote.

1Jeremy Herb, “Defense company stocks have soared since sequester’s ax fell,” TheHill.com, April 3, 2013, http://thehill.com/blogs/defcon-hill/budget-appropriations/291557-defense-stocks-have-soared-since-the-sequesters-ax-fell, (accessed April 9, 2013).

Photo courtesy of Northrop Grumman Corporation