The world is in the midst of a military arms race. Investors and traders would be foolish to ignore it, writes Jon Markman, editor of The Power Elite and Tech Trend Trader.
A multiple-stage rocket blasts off from Russia and enters space. From there, it rains ballistic nuclear missiles on unsuspecting Floridians.
Welcome to the morbid fantasy of Vladimir Putin.
A video surfaced of the Russian authoritarian addressing federal legislators on March 1. With animations as a backdrop, he claimed the capability to destroy any target on Earth.
It would be easy to dismiss Putin’s threats as political theater. Kim Jong-un, North Korea’s dictator, repeatedly threatens U.S. targets. He too boasts of advanced rocketry, and doomsday annihilation.
This is different. Russia’s nuclear arsenal is second only to America’s. It is home to some of the brightest engineering minds. Ethnocentric tradition is strong.
Putin likes to brag about the Russian rebirth. When the Soviet Union splintered, a quarter of the territory — and almost half the population — was lost. Forty-one percent of GDP vanished. Add in declining energy prices and economic sanctions championed by the U.S.
The once-proud empire was reduced to a so-called emerging nation. And Putin carries that chip on his shoulder.
“Despite all of the difficulties we faced over the years, economic and financial problems, problems with our defense industry, with our armed forces, Russia remained a nuclear power, but nobody wanted to talk to us seriously,” Putin told the assembly. “They kept ignoring us. Nobody listened to us. So, listen to us now.”
The ascendant Russia is a world power, with renewed military might. The missile system Putin is proffering is not ballistic. Its range is unlimited.
He claims current defense systems would be useless.
In the 1950s, the Soviet Union, depleted by the Second World War, struck fear in the hearts of Westerners with Sputnik. It was a tiny satellite, no bigger than a beach ball, but its success drew fears of ballistic missiles carrying nuclear warheads to California and New York. For the next five decades, the Cold War raged.
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It was a scary time. It was also an amazing era of American ingenuity, and invention.
I am a bottom-up investor. I have spent decades perfecting a method to identify the very best companies. These are special businesses, with disciplined management philosophies. They have been able to succeed, in good times and bad, by exploiting niches. They have built durable competitive advantages through prudent investment.
I call these businesses The Power Elite because they do not need big secular trends to succeed.
However, there is a big, secular trend is underway. The world is in the midst of a military arms race. Investors would be foolish to ignore it.
Although defense spending already represents 16% of all government spending, budgets are growing. And there is no political appetite to change the trajectory. The 2017 National Defense Authorization Act allocated $700 billion for defense appropriations. In a rare display of bipartisanship, senators voted 89-9 in favor.
Putin’s latest antics will only harden their resolve.
Lockheed Martin (LMT) is currently the prime contractor for a system called Terminal High Altitude Area Defense. With a range of 124 miles … and the capability to intercept missiles both inside, and just outside, the Earth’s atmosphere … it is the best defense against Putin’s new missiles.
Since 2005, THAAD, which defends against missiles in the descent phase, has a perfect record of knocking down targets. It also has an impressive list of subcontractors, including Raytheon (RTN), Boeing (BA), Honeywell (HON) and BAE Systems.
The second part is important.
What makes this a unique opportunity for investors is the structure of the sector. Big defense contracts are rarely winner-take-all. They consist of one contractor taking the lead and the rest assuming smaller roles. The structure leads to collaboration, and innovation. It also leads to safe margins.
The aftermath is very low volatility, predictable financial results and rising stock prices.
According to Morningstar, the five-year, compound average rate of return for the aerospace and defense sector is 28%. A $10,000 investment during that frame would have swollen to $26,842.
I have been recommending that my members add Lockheed Martin, Boeing and Northrop Grumman (NOC) into weakness. They have five-year compound growth rates of 33.5%, 36.3, and 40.5% respectively.
All of these stocks have fallen back recently. Traders fear a trade war is coming because of President Trump’s statement about steel and aluminum.
That is the wrong threat, the wrong war.
Do not lose focus. This weakness is an opportunity.
Best wishes,
Jon D. Markman
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