In the European markets, there is a concern about the US administration’s messages that the security of our continent is no longer a priority for them. Investors are watching closely how peace talks between the US and Russia are unfolding and also the meetings in Paris where the future of Europe’s defense is discussed. They are also pricing in the likelihood of increased domestic military spending. These concerns are pushing up European defense stocks, writes eToro analyst for Romania, Bogdan Maioreanu.
German defense giant Rheinmetall has seen its shares surge more than 52% percent from the beginning of this year. Hensoldt, also from Germany, is up over 37%, Sweden’s Saab 28%, Leonardo (Italy) 38%, and Thales (France) 35%. Meanwhile, US defense stocks are having mixed results with Lockheed Martin down 11% and Northrop-Grumman -8% while Boeing is up 5% this year.
A study by McKinsey shows that European defense spending is on the rise, standing at an average of 2.2%of GDP in 2024. Estonia and Latvia have announced commitments to spend 5.0% of GDP, and Poland plans to reach 4.7% in 2025. NATO has a standard definition of defense spending: “payments made by a national government specifically to meet the needs of its armed forces.” This means that not all of the budget contributes to conventional and hybrid deterrent and combat capabilities as some will have to go to salaries, pensions, and other expenses.
EU member states’ total defense expenditure between 2021 and 2024, rose by more than 30%. In 2024, it reached an estimated €326 billion, about 1.9% of EU GDP. In 2024, defense equipment procurement spending reached beyond €90 billion. This corresponds to a potential year-on-year increase of more than 50%. Total spending on defense research and development in the EU reached €13 billion in 2024. In 2023, the European defense industry generated a turnover of €158.8 billion, a 16.9% increase compared to the previous year. The turnover was split between aeronautics: €64.8 billion, naval: €37.9 billion and land: €56.2 billion. This growth was evident across all three key sectors – military aeronautics, naval and land – with growth rates of 15.8%, 17.7% and 17.7% respectively.
McKinsey calculated that if total defense spending in a given country were to rise from 2.2 to 3.0 percent of GDP (an increase of 36.0%), this could translate into a 47.0% increase in spending on conventional or hybrid deterrence and combat-related defense. The EU is considering rule changes allowing governments to increase military spending without falling foul of the bloc’s excessive budget deficit.
Also, a JPMorgan analysis suggests that every 0.5% increase in European defense spending is worth about $115 billion annually, the equivalent of around €110 billion, of which 40% is likely to be spent on weapon systems. Of the equipment spending, they expect only 30% to head toward U.S. defense contractors. As, most likely, European countries will increase their defense spending, the looming trade war with the US will probably direct even more money toward the European defense industry rather than the US one.
But there are some challenges ahead. Europe’s military equipment is diverse, the allies’ militaries need to be able to work together and interoperability is essential. While the US has in total 32 weapon systems, in Europe this number is 172, which is 5 times bigger, found McKinsey. For example, in the US military, there are 3 types of armoured infantry fighting vehicles, but in Europe, these are 23 types. This raises the issue of supply chains but also what to modernise or what type of weapon to buy to the detriment of others.
This prompted Italian group Leonardo’s CEO to declare that Europe spends a little less than half as much on defense as the United States. And the EU spends it on 30 programs and the U.S. on 10. But to gain critical mass, EU defense contractors must get bigger. This is why he believes that the European Union’s anti-trust officials must stay out of the defense sector and allow local firms to merge, integrate, and build a critical mass to face global competition.
The pressure on Europe’s defense might support the industry to rapidly evolve into a bigger conglomerate able to timely provide the necessary weapons and munitions to the European military. But this is still a lengthy process. While in general, geopolitical tensions are not good for financial markets, for the investors in the European defense sector might bring the long awaited rebound of the market.
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