Defense stocks are in a bear market. New defense technology, however, may just be in a bubble. Investors can use that setup to find value in defense stocks that are suddenly out of favor.
Geopolitical tensions are running high, and defense spending is off the charts, while wars in Iran and Ukraine have shown how lower-cost autonomous drones are upending conventional wisdom about how wars are fought, how long it takes to develop weapons, and who develops them.
Still, shares of traditional defense contractors haven't performed well. Coming into Monday trading, Northrop Grumman and Lockheed Martin shares were down 28% and 23%, respectively, since fighting between Iran and the U.S. began.
One reason for the malaise in the traditional defense stocks is that new defense entrants are taking most of the attention, and "some already sport sky-high valuations on the public and private markets," says Vertical Research Partners analyst Rob Stallard.
Palmer Luckey's defense startup Anduril, for instance, is worth about $60 billion in private markets. That's about as much as L3Harris Technologies and not too far away from Northrop Grumman.
That values Anduril at about 14 times estimated 2026 sales. Anduril is growing much faster, but L3Harris and Northrop trade for closer to three and two times 2026 estimated sales, respectively.
Investors seem to assume that much of the growth in defense procurement spending will flow to upstarts that can supply lower-cost, AI-infused solutions developed in months rather than years. It's a risk, but "old defense is not dead," adds Stallard.
For starters, militaries around the world still need highly engineered, higher-cost systems. Air superiority can't be won with quadcopter drones, which are essentially smart munitions. And the U.S. military couldn't fight as effectively without the naval power needed to project force and locate assets around the globe.
Those more expensive systems will need to be procured and maintained for decades to come, even as the ability to manufacture lower-cost munitions and drones rises.
What's more, "the eventual winners in these crowded [startup] spaces are unclear, as are the potential financial returns," wrote Stallard on Monday. "Old defense may not be as sexy as defense tech at the moment, but pesky issues like profits and cash flow tend to be factors that investors ultimately like, and old defense can continue to generate."
Stallard believes the legacy defense contractors will continue to get the lion's share of defense spending, with high-cost system spending growing 2% to 3% annually well into the next decade. Spending on more affordable systems will grow at multiples of that pace, but still won't account for more than 20% of total spending by 2033. (And some of that spending will flow to traditional contractors offering lower-cost solutions.)
To be sure, there are steps legacy contractors can take to prepare for the future. Move faster, partner with startups, invest in startups and software, spin off higher-growth businesses, and look for growth overseas.
Four traditional contractors Stallard sees value in are BAE Systems, General Dynamics, L3Harris, and Textron. He also likes materials supplier Howmet Aerospace, which can make parts for any company. All five are rated Buy.
Among Stallard's peers, Northrop remains a popular stock with 72% of analysts covering the company rating the shares Buy. The average Buy-rating ratio for S&P 500 shares typically ranges from about 55% to 60%.
For investors looking beyond expensive defense-tech startups, those six stocks could offer value following the post-Iran selloff in traditional defense shares.
Write to Al Root at allen.root@dowjones.com
This content was created by Barron's, which is operated by Dow Jones & Co. Barron's is published independently from Dow Jones Newswires and The Wall Street Journal.
(END) Dow Jones Newswires
July 20, 2026 11:11 ET (15:11 GMT)
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