Shifting investor sentiment and new risks for U.S. defense companies: what banks are writing

U.S. defense and aerospace companies begin reporting this week. On October 21, Lockheed Martin, Northrop Grumman and RTX Corporation, among others, will present their financial results for the third quarter. All three companies are on the list of recommendations from Deutsche Bank and Morgan Stanley. What should you consider when investing in this sector?

Deutsche Bank wrote two weeks before the start of the reporting season that investors' perceptions of defense stocks are changing: they now see them as growth stocks, not value stocks.

This was helped, among other things, by the fact that Lockheed Martin - the largest defense contractor in the U.S. - recorded a one-time $1.6 billion loss on old contracts in the second quarter. Investors now believe key companies in the sector have already dealt with potential losses and are more focused on growth. It is supported by the recent budget bill, which provides for $156 billion in defense spending over the coming year, and strong export demand from the Foreign Military Sales program.

The bank identified four key themes for commercial aviation companies reporting for the third quarter: Revise, Reaccelerate, Resist and Reclaim. "We remain optimistic about the sector, particularly highlighting equipment suppliers and engine services," the bank said in its materials.

Morgan Stanley notes that the valuations of aerospace companies have become more balanced before reporting for the third quarter of 2025. Before the publication of results for the second quarter, their shares were trading at a premium of about 50% to the S&P 500 index, while now it is 38%, which is closer to the average level of 39% over the past three years.

Morgan Stanley among the risks for companies in the sector names the shutdown, which began in the U.S. on October 1. The severity of the consequences largely depends on how long it will last. "So far, the situation is more inconvenient than critical, and a short-term government shutdown looks manageable for the largest defense companies. However, the longer it lasts, the higher the risks," the bank said in an Oct. 15 filing.

Since 1976, funding for federal agencies has been interrupted two dozen times. The most similar to the current situation is the 2013 shutdown, according to Morgan Stanley analysts - 12 years ago, none of the bills were approved, which led to a complete shutdown of the federal government for 16 days, including a complete halt in defense funding. During that time, stocks of major defense companies lagged the S&P 500 index by about 3%, but after the government "reopening" they outperformed the S&P 500 by 10% after 60 days.

Morgan Stanley wrote that defense contractors will begin giving their first performance projections for 2026 on the third quarter 2025 reporting calls. The Big Beautiful Bill approved $150 billion in defense spending, including $24.4 billion for the Golden Dome anti-missile program. The current shutdown could slow down the process of distributing funds for specific contracts. And most companies will not yet fully account for the expected increase in spending in their forecasts for next year, Morgan Stanley believes.

"Given this, we would view the stock's weakness after a possible subdued outlook as a buying opportunity," the bank said in a note. Analysts believe that companies will revise their forecasts in the future when the financing situation becomes clearer.

Among the risks for the sector, the bank notes the deteriorating situation on the rare-earth metals market. Earlier this month, China imposed additional restrictions on their supplies to the United States, and they are critical to the U.S. defense industry. According to the bank, the Lockheed F-35 fighter jet contains about 920 pounds of rare earth metals, the Arleigh Burke destroyer 5,200, and the Virginia submarine 9,200. The Pentagon has a goal of building its own supply chain by 2027 to meet defense needs entirely domestically.

Both Morgan Stanley and Deutsche Bank highlight Northrop Grumman.

Morgan Stanley kept the company among its top picks and raised its target price for its shares from $625 to $720, up 19.6% from the closing price on Oct. 20. The bank believes the company will outperform the sector due to its strong portfolio and cash flow growth. Northrop Grumman is now competing with Boeing to develop the next-generation F/A-XX fighter jet. A win could significantly strengthen its position in the US aircraft industry.

Deutsche Bank raised its rating on Northrop Grumman from "hold" to "buy" and its target price from $575 to $700, which implies a 16.3% upside from the closing price on Oct. 20. The bank believes the company could accelerate production of the B-21 bomber by the end of 2025, it also notes that Northrop Grumman could be awarded a contract to produce the F/A-XX fighter jet.

The market consensus for the company's third-quarter revenue, according to LSEG Workspace, is $10.7 billion, which implies 7% year-over-year growth. Earnings per share may decline to $6.46 from $7.02.

RTX Corporation is another company from Morgan Stanley's top pick list. The bank expects that even with a probable correction after strong quarterly results, the company's shares are worth buying on drawdowns. The company is well positioned in the market due to its wide diversification of businesses, from civil aircraft and engines to defense programs. Morgan Stanley last gave it an "above market" recommendation on July 23 and raised its target price from $165 to $180, up 12% from the closing price on Oct. 20.

On October 8 analysts at Deutsche Bank reiterated a "buy" rating and raised their target price on RTX Corporation from $172 to $195, up 21.3% from the company's closing price on October 20. Their report says RTX could show earnings in both the short and long term.

According to LSEG, the market expects third-quarter earnings per share to decline 8% year-over-year to $1.41 and revenue to grow 6% to $21.3 billion.

Another choice of the two banks is Howmet Aerospace (will release its third quarter report on October 30). Morgan Stanley considers it the best among component suppliers. Analysts of the bank note that after strong results of the second quarter, the market may react to the next good reports with short-term profit taking, as it happened before. If that happens, Morgan Stanley also recommends buying shares on drawdown.

Deutsche Bank maintained a "buy" rating and a $220 target price for Howmet Aerospace, which implies a 14.3% upside from the closing price on Oct. 20. Its analysts expect the company to report EBITDA 1-5% better than market expectations. They see the company as the main beneficiary of Boeing and Airbus' production rate recovery.

According to LSEG, the market expects the company to report third quarter revenue of $2 billion and EPS of $0.91.

Morgan Stanley raised its target price on Lockheed shares from $530 to $630, maintaining an "above market" rating. The upside potential is 24.5% from the closing price on October 20. The bank considers the company one of the main beneficiaries of the Golden Dome program and the increase in the defense budget.

Analysts expect Lockheed to report a "strong" book-to-bill indicator (demonstrates how many new orders the company has received compared to those already completed for the same period) - primarily due to the approval of orders for the delivery of a batch of 296 F-35 aircraft for $24.3 billion. This contract as a whole brings the company about 30% of revenue. The bank also mentions other large orders - for 99 CH-53K helicopters for $10.9 billion and for the production of Patriot interceptor missiles for $9.8 billion for the U.S. Army.

The bank's forecast for the company's free cash flow was $3.11 billion (consensus: $2.89 billion).

According to LSEG Workspace, the company will report earnings per share down 6.9% year-over-year to $6.36 and revenue up 8.8% to $18.6 billion.

This article was AI-translated and verified by a human editor