Fuelled by the Sept. 11 terrorist attacks, which led to the conflicts in Afghanistan and Iraq, global military spending surged by 45% during the last decade to an all-time high of $1.46-trillion in 2008.
While the United States is the world’s military power at 41.5% of total expenditures and close to 70% control of the global market for arms exports, faster-growing economies and the proximity of many geopolitical hot spots has made the developing world the most rapid area of growth.
These trends, identified in an extensive report by National Bank Financial analysts Angelo Katsoras and Pierre Fournier suggest that global instability might make the military industry the ultimate defensive investment.
They recommend targeting military contractors with significant exposure to the developing world such as Lockheed Martin, as opposed to those with most of their business in the developed world.
The analysts also tell clients to look for companies that supply cutting-edge military products designed for unconventional warfare and terrorist threats. These include satellite imagery firms like DigitalGlobe, GeoEye, ITT and Ball Aerospace. Canada’s Com Dev International is indirectly related to this field as a supplier of communication satellite components.
Thirdly, the analysts suggest investors consider buying shares in names that provide military equipment and related services required by soldiers on the ground.
ITT, Mantech and Chemring Group produce devices that detect roadside bombs; L-3 Communications, Raytheon and General Dynamics make computer networks specializing in intelligence; L-3, American Science and Engineering, and Smiths Detection are some of the world’s leading suppliers of body and luggage scanners for airports; Rockwell Collins designs advanced navigation and communication systems.
Companies active in the unmanned aeriel vehicles sector include General Atomics Aeronautical Systems, L-3, Northrop, and Aerospace Industries and Elbit System – both from Israel. Raytheon and Integrated Defense Systems produce Partriot missile interceptors.
While rising government debt levels may force countries to rein in defence spending, the analysts cite China’s growing military clout and its desire to narrow the gap between America’s military advantages over it as a large source of increased spending.
“The more economically and militarily powerful China becomes, the more confident and aggressive it is in defending its national security interests against the United States,” they said. “China, once Russia’s largest customer, is slowly emerging as one of its biggest competitors.”
The analysts note that while most of China’s defence production is done by firms that are not publicly listed, Aviation Industry of China stands out as the country’s leading maker of both military and civilian aircraft.
Unlike Western countries, they point out that China does not shy away from selling to pariah nations such as Iran, Myanmar, Sudan, Zimbabwe and Venezuela. One of the geopolitical goals of selling weapons to some of these countries is to facilitate access to their natural resources.
With China beefing up its defence spending, this has raised concerns among its Asian neighbours who have increased their military expenditures in response.
At the same time, Russia has begun to re-arm following the collapse of the Soviet Union in 1989 and the devastating effect this had on its army.
India is also boosting its arms purchases and was the world’s tenth highest military spender in 2008, according to the Stockholm International Peace Research Institute. With $30-billion in defence spending that year, it registered a 44% increase since 1999.
China and India also happen to be competing for regional influence, despite the fact that trade between the two nations hit a record of $52-billion in 2008, National Bank noted.
The analysts highlighted Mahindra & Mahindra’s joint venture with BAE to eventually produce mine-resistant all terrain vehicles. They also mentioned Indian engineering and construction firm Larsen & Tourbro, which will build the shipyard for six submarines from Italy’s Fincantieri and France’s Thales, as well as state-controlled Hindustan Aeronautic, which is building fighter jets for the Indian military.
Then of course there is the Middle East, where countries spent $75.6-billion on the military in 2008. That represents an increase of 56% from 1998.
“A combination of revenue from oil sales, and increasing geopolitical regional tensions, means that defence spending looks set to accelerate at an even quicker pace over the next few years,” the analysts said.
Growing concerns about Iran have been a boon for U.S. arm sales, they note, with Middle Eastern countries accounting for more than half of U.S. arm exports between 2001 and 2008. However, the majority of the sales have come in the last few years.
South America has also gone shopping for arms, with some of the growth in defence outlays attributed to economics and the rise in commodity prices. Increasing tension between several South American countries is another driver, particularly with Venezuela and Columbia.
Brazil meanwhile, as the region’s most powerful country, needs to protect its vast natural resources and its border to prevent any spillover from conflicts elsewhere. Violent conflicts between indigenous groups, farmers and criminals must also be controlled.
In Brazil, Fiat Iveco is helping manufacture more than 2,000 armoured vehicles, while aviation company Embraer is active in the fighter aircraft market.
Meanwhile, National Bank notes that Western Europe has for the most part, defied the trend of increased defence spending. Between 1999 and 2008, its military spending only grew by 5%.
“This small increase in military spending results from a lack of serious military threats, a slow economy and an unwillingness to sacrifice social programs for increased defence spending,” the analysts wrote.
History has shown that one of the first things a nation does as it gets richer is to upgrade its defence forces. Combine that with increasing geopolitical tensions, the national security issues facing the United States and no shortage of hotspots around the world, and National Bank’s analysts think we’ll likely see a continued increase in military spending globally for the foreseeable future.
In fact, in the unlikely event of a major decline in U.S. defence spending, they anticipate rising expenditures in the developing world will more than make up the difference.
“While certainly not immune to downturns, the defence sector has historically been spared from major cuts when such periods have coincided with increased geopolitical tensions.”
Jonathan Ratner
Photos: An Iraqi soldier rides in a M1A1 Abrams tank during the celebration of Iraqi armed forces day in Baghdad January 6, 2010. (REUTERS/Saad Shalash), Paramilitary recruits take part in a training session at an army base in Shenyang, Liaoning province, March 5, 2008. (REUTERS/Stringer)
