After five years of budget cuts that left us with a shrunken military and defense department, President Trump is keeping true to his campaign promises by expanding the United States naval fleet, adding more fighter aircraft to the Air Force, and modernizing missile defense and cybersecurity.
Quite recently, the Trump administration released a new budgetary blueprint that called for significant increases in military spending, along with corresponding cuts in many other areas of the government.
As explained by The Office of Managements and Budget (OMB) director, Mick Mulvaney, the new budget was designed to send an explicit message to our allies and potential adversaries that this is a strong-power administration.
It was also meant to send another clear message to the American citizens, as well: This administration is willing to make drastic, controversial cuts to fund that “strong-power” message.
This, unfortunately, means reallocating funds from other popular sectors of U.S. policy, such as from foreign aid, the environment, the arts and humanities, and even from the fortunes of the most vulnerable Americans.
The areas that will see the biggest proposed cuts include as follows:
- Environmental Protection Agency (EPA): -31%
- Department of State (DOS): -29%
- Department of Agriculture (USDA): -21%
- Army Corps of Engineers (USACE): -16%
Agencies that will see the biggest proposed increases are as follows:
- Department of Veteran Affairs (VA): +6%
- Department of Homeland Security (DHS): +7%
- Department of Defense (DoD): +10%
Alongside defense, the agencies where the White House proposes spending increases are almost entirely military and national security related.
In total, the DHS would see a hike in funding by 6.8%, the VA would see 5.9%, and the National Nuclear Security Administration (NNSA) would see 11.3%.
As with any other White House budget, this blueprint is more like a political document than an accurate predictor of government spending.
Trump wants lawmakers to boost military spending in the coming fiscal year by 10%, or $54 billion.
Rather than raise taxes or increase the deficit, the president is calling for equivalent cuts in other areas.
The Winners of the Arms Race
Trump’s budget plan gives a specific nod to Lockheed Martin Corporation (NYSE: LMT) in making specific investments in its F-35 fighter jets.
The Trump administration and Lockheed Martin have obviously come to an agreement after clashing with the President earlier in the year via Twitter over some price discrepancies.
The same goes for The Boeing Company (NYSE: BA) regarding Air Force One.
Lockheed Martin was the largest single contractor for the U.S. government in 2015, according to Federal Procurement Report data, bringing in more than $36 billion in federal contract obligations.
A similar pattern should ensue in 2017 and into 2018 if all military budgetary increases pass through the Senate.
Other defense companies that could reap the benefits of the budgetary increases include:
- Raytheon Company (NYSE: RTN)
- General Dynamics Corporation (NYSE: GD)
- Rockwell Collins, Inc. (NYSE: COL)
- L3 Technologies, Inc. (NYSE: LLL)
- Northrop Grumman Corporation (NYSE: NOC)
Jim Corridore, director of industrials equity research at CFRA Investment Research in New York, had the following to say about the prospects of these defense companies’ stocks with the impending spending increases:
These companies are seeing more contracts being offered up, and I think now is the time to buy the stocks. This is a historic change in government priorities.
In a message to Congress contained in the budget proposal, President Trump writes that his call for increased defense funding “is vital to rebuilding and preparing our Armed Forces for the future.”
The blueprint repeals the defense sequestration that occurred under the Budget Control Act of 2011 and increases spending across various military branches.
The military budget will include personnel costs such as salary and benefits, operations and maintenance of facilities around the world, and the development and buying of weapons.
According to Credit Suisse analyst Robert Spingarn, it’s this latter point that investors should pay particular attention to as much of the research and development and procurement money flows directly to contractors.
Even though the defense market has been priced in quite a bit already, there could still be some more buying opportunities.
But even if the budgets come in lower than predicted, there could still be room for growth.
But if margins do come under some duress, companies with less prime contracting work such as L3 Technologies; Harris Corporation (NYSE: HRS); and FLIR Systems, Inc. (NASDAQ: FLIR) could be more attractive alternatives to those who fear headline risks with some of the other big-name contractors.
And for those who are willing to research and are familiar with the defense industry, there could be pockets available for longer-term investors that not everyone in the market is paying attention to.
The top defense stocks that are expected to perform well under the new budget implementations will be:
- Boeing
– YTD Return: +9.74%
– 1 Yr. Return: +50.85% - L3 Technologies
– YTD Return: +10.77%
– 1 Yr. Return: +46.23% - General Dynamics Corporation
– YTD Return: +9.31%
– 1 Yr. Return: +42.03% - TransDigm Group Incorporated (NYSE: TDG)
– YTD Return: +1.40%
– 1 Yr. Return: +33.27% - Northrop Grumman Corporation
– YTD Return: +4.71%
– 1 Yr. Return: +29.97% - Lockheed Martin Corporation
– YTD Return: +6.16%
– 1 Yr. Return: +27.90% - Raytheon Company
– YTD Return: +7.32%
– 1 Yr. Return: +27.65% - Rockwell Collins
-YTD Return: +0.82%
-1 Yr. Return: +12.50%
The Nuclear Bottom Line
World leaders will sharply turn to the leader of the world’s most powerful and costliest fighting force, and who vowed to kick off one of the “greatest military buildups in American history” at the Conservative Political Action Conference (CPAC) back in February.
According to data released this month by the Stockholm International Peace Research Institute (SIPRI), between the years 2012 and 2016, international arms deals increased by 8.4% over the previous five-year period, the highest increase for any five-year period since the end of the Cold War.
Trump not only wants to add new numbers to military fleets, but he has also pledged to overhaul the American arsenal of atomic weapons, bombers, submarines, and land-based missiles, which he formerly called obsolete.
Some label the military and nuclear buildup as a dangerous arms race now that tensions are rising with Russia — a policy that hasn’t been seen since the start of the Cold War.
Trump has also implied recently that he might withdraw from the treaty that limits the number of nuclear weapons the U.S. and Russia can have ready for use… or for war.
To be completely fair, Trump did not start this arms race.
That honor goes to former President Obama, who set the U.S. on a shopping spree that was designed to spend more than $1 trillion on nuclear weapons over the next three decades.
Trump’s revitalization of our military and defense departments is not altogether a bad idea.
During tumultuous times, it’s always good to be prudent and prepared for whatever may come.
That’s all for now.
Until next time,
John Peterson
Pro Trader Today