The BAE Systems (LSE: BA) share price has been flying, and the same goes for two other FTSE 100 defence-focused stocks, Babcock International Group (LSE: BAB) and Rolls-Royce (LSE: RR).
Investors who hold these shares will be delighted, but those who don’t may be kicking themselves for missing out. Well, today might offer them a chance, as the market dips. The FTSE 100‘s down around 1.5% this morning (17 October), and these three shares are among the biggest fallers.
Babcock’s down almost 4.5%, while BAE Systems and Rolls-Royce have each fallen 3%. These aren’t dramatic moves, but given how hot these stocks have been lately, some will be tempted to take advantage. Anyone looking to start investing in the sector might see this as an opening.
Strong demand and full order books
The global backdrop remains grim, which perversely benefits defence companies. Western nations are rearming in response to the threat from Russia and China. Germany recently relaxed its debt rules to fund a military spending surge, and that’s good news for contractors. These trends have powered shares higher and boosted portfolios.
Over the last 12 months, Babcock’s been the second-best performer on the blue-chip index, up an astonishing 143%, just behind Fresnillo.
Rolls-Royce is close behind, up 105%. BAE Systems has been steadier, but it’s still risen 45%. Over five years, the gains are even more striking: BAE Systems up 295%, Babcock up 360% and Rolls-Royce a staggering 1,400% (although defence isn’t the only story here).
These shares have already delivered extraordinary returns, so today’s fall’s hardly a disaster. Unfortunately, it’s not as exciting a buying opportunity as I first thought.
Still richly valued
None of them look cheap, despite the sell-off. BAE Systems trades on a price-to-earnings ratio of 27.8, Babcock’s sits at 23.5, and Rolls-Royce’s is a heady 56.2. That’s expensive, but investors are still banking on strong long-term growth.
Taking a long-term view
After my initial excitement about today’s dip, I’ve had to cool a little. Defence stocks have had such a powerful run that further short-term gains may be limited. Still, for anyone looking to build long-term wealth in a booming sector, I think BAE Systems is still worth considering. Babcock’s lower valuation and strong momentum make it tempting too. But I suspect Rolls-Royce has gone as far and as fast as it can. Expectations are sky-high and the slightest profits miss could be punished.
I hold BAE Systems and Rolls-Royce, and hope to do so for years and with luck, decades. I’m not in a major rush to top them up today though. I’m keeping a closer eye on Babcock, which I don’t hold, because it’s cheaper and may have more growth potential. Let’s see how much share price volatility the next few weeks brings.
I think there are much bigger bargains on the FTSE 100 today, and I’ll be turning my attention to them.
