Goldman Sachs Just Might Have it Wrong on Defense Stocks

Barron's recently highlighted a Goldman Sachs research report by analyst Noah Poponak downgrading three large defense stocks stocks, namely Lockheed-Martin, Northrup-Grumman and Raytheon (See: Goldman Sachs Is Cautious on Defense Stocks, Cuts Lockheed, Northrop, Raytheon | Barron's (barrons.com)(Paywall) A key reason for the downgrade was that Poponak believes deficit and debt worries will spill over into defense appropriations putting at risk the record $800 billion scheduled for this year and future spending, as well. 

To be sure such an outcome would not be out of the question, but Poponak while recognizing the geopolitical threats the United States and its allies are facing, he ignores the fundamental fact that defense spending as a share of GDP is now running at a postwar low. According to FRED data (BEA series A824RE) defense spending as of the third quarter of 2022 accounted for 3.6% of GDP, its lowest share since 1940 when it accounted for 2.7% of GDP. 

Presented below is the history for selected dates:

Date           Defense Share      Comments

Q3:52              16.0%              Korean War peak

Q3:67              11.2                  Vietnam peak

Q3:86                7.9                 Reagan Buildup peak

Q4:00                3.8                 Peace Dividend

Q3:09-Q4:10     5.5                 Afghan/Iraq peak

Q3:22                3.6                 Current

Thus it would be just as easy to argue that given the growing threat coming out of China, a Russia off the rails in Ukraine, North Korean nukes and the potential for Iranian nukes; that from over-spending on defense the U.S., despite current budgetary issues, is grossly under-spending. The world is far more dangerous now than when the U.S. was the global super-power in 2000.

Note: In the interest of full disclosure I am long several defense stocks including two of those mentioned.