NEW YORK >> With war fears hounding Wall Street this past week, it would seem one winning bet would be defense stocks, particularly as a U.S. military buildup continues in the Middle East. So why is much of the sector trading at 52-week lows? Talk of war not
helping defense stocksBy Hope Yen
Associated PressThe Philadelphia Stock Exchange's Defense Sector Index hit a new low Thursday, and the 17 companies making up the index have dropped about 15 percent this year, compared with the S&P 500's loss of 4 percent. Top defense contractors such as Lockheed Martin and Boeing also set new lows.
That comes despite President Bush's proposed $379 billion defense budget for fiscal 2003, a $40 billion jump from last year. And the spending proposals do not include the costs of a possible war, which administration officials estimated Friday at $60 billion to $100 billion or more.
Analysts say defense stocks may be sliding now because they were pushed too high by Wall Street anticipation of higher security spending than materialized following the 2001 terrorist attacks. Investors also may be betting on a short war in Iraq or questioning whether there will be a war at all.
"Defense stocks were materially overvalued to begin with based on the industry's long-term earnings growth and profitability prospects," said Robert Friedman, senior aerospace and defense analyst for Standard & Poor's. "Stock prices are just now re-entering the atmosphere again."
Indeed, the Defense Sector Index gained more than 40 percent in the months after Sept. 11, 2001, although it has lost that and more since then.
In recent weeks, the index has slid even as the United States deployed more than 200,000 troops in the Persian Gulf. Yesterday, U.S. officials lobbied for the necessary votes for a new U.N. Security Council resolution authorizing force against Iraq despite resistance from nations such as Russia and France.
"With war and uncertainty being bad for business, defense companies are no exception," said Nicolas Owens, defense and aerospace analyst for Morningstar Inc. "People are saying, depending on how this conflict goes, it might change defense priorities and spending."
Owens argued that expectations of war may have been priced into the stocks long ago.
"Defense companies make most of their money from long-term development projects and are not really tied to military conflicts," he said. "They're in the business of readiness. I would believe the Pentagon already has a healthy inventory given the buildup that we have seen."
In addition, while defense spending saw double-digit growth in 2003, some analysts are expecting increases in coming years of a modest 4 percent or so.
Doug Sandler, chief equity strategist at Wachovia Securities, said prospects may be better for the larger contractors that focus solely on defense because companies that have both commercial and defense businesses are vulnerable to economic cycles, such as the downturn in the airline industry.
"I think the reality is that we are going to continue spending on defense equipment and products for a long time," he said.
Other analysts suggested stock winners could be smaller companies that gain government contracts in the event of a war with Iraq, such as those specializing in surveillance equipment.
But Friedman advised investors to keep a longer-term focus.
"One shouldn't buy stocks based on what short-term market psychology is," he said.
For the week, the three main gauges snapped a two-week winning streak. The Dow had a weekly loss of 127.03, or 1.6 percent. It closed yesterday at 7,891.08.
The Nasdaq was down 11.50, or 0.9 percent, for the week to end at 1,337.52 yesterday. The S&P 500 index fell 7.02, 0.8 percent, to finish at 841.15.
For the week, the Russell 2000 index fell 3.84, or 1.1 percent, to 360.52.
The Wilshire 5000 Total Market Index, which tracks more than 5,700 U.S.-based companies, ended the week at 7,972.60, down 63.37 from the previous week. A year ago, the index was at 10,560.01.
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