That rumbling you heard this morning was the mad, frantic shuffling of papers and budget proposals inside the offices of defense contractors around the Washington Beltway, as they prepare to justify their appropriations amid a political shift in the nation's capital. The Democrats, led by U.S. President-elect Barack Obama, are taking over the town. And while the security needs of the post-September 11 era and two wars mean major U.S. defense spending cuts are unlikely, changes in priorities and the demands of the financial crisis could create "a dramatically different defense spending landscape" for defense contractors like Lockheed Martin (NYSE: LMT) and Northrop Grumman (NYSE: NOC)," says economist Peter Dawson.
More support for troops on ground?
"What we may see from President-elect Obama is a shift toward increased U.S. Army troop strength and the basic armor and weapon systems that support them, to take stress off our forces in Iraq and Afghanistan, and to improve results in the wars, and less emphasis on costly, high-tech weapon systems," Dawson said. "If that's the case, an Obama Administration could seek to delay production of the Navy's DDG-1000 Zumwalt class destroyer, additional purchases of the new F-22 fighter jets, and other programs."
The DDG-1000 destroyer is jointly built by Northrop Grumman and General Dynamics (NYSE: GD). The F-22 is built by Lockheed Martin. Northrop's shares rose 44 cents to $48.50, Lockheed's gained 62 cents to $86.53, and General Dynamics fell $1.30 to $62.47 in mid-day Wednesday trading.
Dawson underscored that he does not see U.S. defense spending -- which increased a whopping 72% to $672 billion last year, fiscal 2008, from $381 billion in 2000 -- undergoing real cuts, but, rather, "a shift in priorities that key contractors will feel noticeably."
"Defense spending has been traveling at 100 miles per hour. The Democrats [along with Obama] are going to moderate that. Just call it a shift that will take money from tech and put more money into boots on the ground," Dawson said. "There's always that possibility that the Democrats could choose to do both, but given the money needed for the bank rescue and other programs to help the economy, the chance that they'll do both are pretty close to nil." Dawson added that he does not own stock in or have an investment stake in any defense contractor.
Another contractor that could be affected, in Dawson's view: Boeing (NYSE: BA). "The Obama Administration may choose to buy fewer C-17 transports. "It's not as high-tech as a new jet fighter, but C-17s are Cold War-oriented, which is not as high a priority given the theatre wars the U.S. is currently fighting, so it could also face a cut," Dawson said. Boeing's shares fell $2.79 to $50.83 on Wednesday at mid-day.
Defense Stock Analysis: As economist Dawson noted, we're very, very early in the fiscal 2010 federal budget battle, but owners of defense contractor stocks should take note: defense spending shifts are likely up ahead. Moreover, the period of 'rhetoric for dollars' -- where defense contractors attempt to justify their programs and weapon system as vital to national security -- has begun, and there will be winners and losers.
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