Ticker Tape: A Financial Briefing by Baruch College’s Investment Management Group

As the geopolitical landscape continues moving with uncertainty and the world is entering a phase of heightened technological development, a constant focus is the aerospace and defense sector. Overall the aerospace and defense industry strengthened in 2018 as revenues increased by 7.65 percent, almost quadrupling last year’s 2.1 percent growth. Events such as the political dispute between the United States and China pose security threats for many governments involved.

In response, the U.S. government has signed the omnibus spending bill, which set the Department of Defense’s budget at $700 billion, which is about a 20 percent increase in two years. As a whole, Deloitte analysts expect a growth in global defense spending at a compounded annual growth rate of 3 percent from 2017-2022. Tensions in developing countries such as India also factor into this continued growth, which shows little signs of slowing down.

At the moment, the aerospace market is dominated by large key players, such as Airbus and Boeing, which control a combined 92.4 percent of the commercial aircraft market.

Growth in the aerospace industry is fueled by a rise in the middle class, which is estimated at an additional 140 million individuals annually. This leads to increased capital expenditure in related fields such as air travel, which was recorded at a record-high backlog of 14,215 commercial aircraft units at the end of 2017. The industry is facing increased demand and is becoming consolidated and more efficient moving forward.

Increased global fears of warfare and border disputes and increased trade activity are the primary drivers for growth in the aerospace sector. The Pentagon is pivoting its defense focus toward China, Russia, North Korea and Iran, and there is a renewed market for aerospace presence in these regions. China is also active in land disputes such as that in the South China Sea, which contributes to the overall security threat in the region.

As a result, aerospace defense companies with a large government client base have seen a sharp uptick in their contract flow. Lockheed Martin — with U.S. government agencies as its largest client — has recently been awarded a $2.9 billion contract for the manufacture of missile warning satellites for the U.S. Air Force. This is reflective of the tense political situation worldwide and translates into overall gains for the aerospace defense sector.

Globalization and an increasing reliance on intellectual capital have resulted in businesses and individuals traveling overseas at one of the highest rates in recent years. In total, revenue passenger miles increased 7 percent in 2017, which is above 6 percent annual growth for the third consecutive year.

As a result, major aircraft manufacturers are looking internally toward the growth of their processes, as well as key acquisitions in the mergers and acquisitions’ space to continue innovating.

Boeing has recently acquired a majority stake in the commercial aircraft arm of Brazilian plane maker Embraer S.A. for $3.8 billion, effectively thrusting the large American maker into the lower-end aircraft market.

The expansion of aerospace company operations through mergers and acquisitions opens up the possibility for increased solutions for large-scale institutional clients, such as governments and private contractors. Furthermore, the opportunity for machine learning and automation in aiding the manufacturing process are touted possibilities in the sector.

Drone use for inspection of aircraft wear and tear and inventory management on blockchain systems are just a few examples of the potential for future aircraft production, which could be implemented into company processes in the coming years. As a whole, the aerospace sector is in the process of entering the next generation of solutions and has a positive forward outlook.

Increasing global tensions are driving growth for the defense industry. The United States and China have recently taken aggressive stances toward each other. President Donald Trump imposed multiple tariffs on Chinese goods, with China responding by imposing its own tariffs on U.S. goods.

There is also increased demand for defense and military products in emerging markets. For example, ISIS is a major threat to countries in Africa such as Syria, Iraq and Afghanistan. These countries are forced to spend money on defense to protect themselves against terror strikes and cyberattacks.

Due to these global tensions, defense stocks will become hot investments for the next five years. The leaders in defense are the participants of the Pentagon’s Boeing MQ-25A Stingray competition.

This competition was designed to create the U.S. Navy’s first carrier-based drone, with Boeing winning the competition and an $805 million contract to produce four naval drones. The competitors also included Lockheed Martin and General Atomics. Lockheed Martin is the world’s biggest defense contractor and specializes in aerospace defense. General Atomics is a private company that specializes in creating military drones.

Another driver for the defense industry is the need for cybersecurity. Cyberattacks such as data threats, ransomware and malware outbreaks can cause critical disruption for unprepared countries. Data breaches have surged over the past years with digital security company Gemalto reporting that 1.38 billion records were breached in 2016 and 1.9 billion records breached in the first half of 2017. These data breaches can lead to leaked personal data and identify theft, which has affected 15.4 million consumers.

Due to these threats, the cybersecurity market is expected to grow from $138 billion in 2017 to $248.26 billion in 2022. The main attackers are Russia, China, Iran and North Korea, which has been testing destructive cyberattacks aimed toward the United States and its allies.

To combat this, the U.S. government has invested a lot of money in companies that can protect it from these attacks. Companies that the United States has relied on are Booz Allen Hamilton, Palo Alto Networks and CyberArk. Booz protects the government’s information through encryption, which has shown to be the most effective way to protect data.

Palo Alto Networks protects its customers through next-generation firewalls and is best positioned among its competitors to experience robust growth in 2019. CyberArk is unique because it actually protects companies from internal threats such as corporate spies or disgruntled employees. As a whole, the defense sector is in the process of heating up as countries have prioritized spending on defense to protect themselves from other countries and cyberattacks.

The aerospace and defense industry has experienced significant growth in 2018, with expectations of greater growth in 2019. On the aerospace side, global fears of warfare have caused the government to sign contracts with aerospace securities to protect themselves from outside threats.

Due to growing globalization and improved transportation, many middle-class citizens from emerging markets have traveled overseas at higher rates. Finally, major aerospace manufacturers are looking to move into the merger and acquisitions’ space in order to attract new clients.

On the defense side, global tensions have resulted in many countries spending money on defense to protect themselves from cyberattacks and missile and drone attacks.

The U.S. government has taken many steps to give defense companies new opportunities, such as increasing the defense spending bill and creating competition between the defense titans to improve technology. Overall, the aerospace and defense industry is anticipating the emergence of conflict and new-age technology, and it is well-positioned to reap its benefits.

By Anqin Chen, Nikhil Kumar and Liam Minerva

October 22, 2018

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