Here's Why Morgan Stanley Still Thinks It's Good Time To Buy Defense Stocks

Here's Why Morgan Stanley Still Thinks It's Good Time To Buy Defense Stocks
  • Morgan Stanley analyst Kristine T Liwag said after defense stocks closed up 20% in 2022 versus the S&P down 19%, the sector has since underperformed the broader market by 6.5% in the new year.
  • The move lower in 2023 has partly been driven by a shift in sentiment after reports emerged indicating that House Republicans may be gearing up to oppose wider spending, which could alter the U.S. defense budget's growth trajectory, added the analyst.
  • The analyst also sees profit-taking after a strong 2022 contributing to the recent selloff. The analyst still thinks it's a good time to buy defense.
  • In the analyst's view, potential cuts to the Defense budget are not a slam dunk, and the sentiment could reverse should fears of deep cuts, which the analyst sees as overblown today, start to ease.
  • The analyst sees the recent pullback in Northrop Grumman Corp NOC stock price providing an attractive opportunity to accumulate shares and reiterate both the Overweight rating and Top Pick designation.
  • While the company screens expensive at a 15% premium to peers, the analyst sees few substitutes for NOC's best-of-breed portfolio and continues to view the stock as the defense ballast to own.
  • The analyst sees NOC as well-aligned to some of the fastest-growing areas of the U.S. defense budget, including space and nuclear modernization.
  • Reporting suggests Kevin McCarthy may have entertained a deal to make him House Speaker that would propose a $75 billion cut to defense spending, amounting to a 9% Y/Y cut.
  • The analyst views the likelihood of this cut as remote. Deep cuts to defense are likely to meet material opposition from GOP defense hawks, the analyst added.
  • The GOP controls the House by a slim majority and defense spending requires approval by both the House and Senate, along with the President.
  • Also, bipartisan support for defense spending is on the rise, in the analyst's view, as Russia/Ukraine conflict and tensions with China have underscored the need for continued Defense investment.
  • While the analyst currently sees fears of deep cuts as overblown, if support for cuts moves from a minority view to a mainstream view, a downside risk to the defense cycle could emerge.
  • The analyst is watching for potential increases in planned buyback activity for Defense Primes.
  • As a baseline, Lockheed Martin Corp LMT guided to $4 billion in share repurchases in 2023, and NOC guided to slightly higher than $1.5 billion.
  • Price Action: NOC shares are trading higher by 1.80% at $450.28 on the last check Friday.
  • Photo Via Company

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