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US President Donald Trump recently confirmed he plans to raise defence spending by 10% from current levels, seeking to cut costs across the civil service to pay for it. This has driven a substantial rally for US defence sector stocks. Trump’s also pressuring NATO nations into raising their expenditure to reach the target of spending 2% of gross domestic product (GDP) on defence. Given this, could the rally in the defense sector extend to European stocks?
The 10% rise in US defense spending is something of a contentious issue. It comes alongside Trump’s announcement of $1 trillion in infrastructure spending. Funding for both of these massive commitments is unclear. Quite frankly, unless Congress is going to accept adding to the country’s huge debt piles, something has to give. With that in mind, there is no guarantee we will actually see these plans come to fruition. The rise in defence spending is actually not as unprecedented as it might seem, coming off the back of a circa 20% cut in defence spending under Barack Obama. Given the pressure Trump placed upon Lockheed Martin over the rising costs of the renewal of the F35 aircraft fleet, there is also reason to believe profit margins could continue to suffer irrespectively of the amount of new orders.
With Trump pushing NATO members into raising military spending towards the 2% of GDP target, it is clear European firms could also benefit from a rise in orders. Looking at the chart below (Source: The Economist), it is easy to see that while a handful of nations currently fulfil their 2% mandate, most spend somewhere between 1% and 2%. With a 10% rise in US spending equating to around $66 billion, the 0.5%-1% rise across the majority of the ‘others’ section plus Germany would equate to around $142-72 billion of additional spending.