A confluence of factors have combined to make defense technology a compelling ETF investment theme including:
- Rising global instability, such as the conflicts in the Middle East and Ukraine;
- Years of underinvestment in defense and military equipment, especially in Europe;
- NATO’s goal that its members allocate 2% of GDP to defense by 2024;
- Heightened demand for modern defense solutions that utilize technologies like artificial intelligence (AI), cyber defense, and unmanned vehicles and robotics;
- The reconfiguration of supply chains and joint procurement to facilitate more scalable solutions.
It is no wonder that global military expenditures saw a record high of $2.44 trillion in 2023. Last year’s 6.8% increase represented the ninth consecutive year of increases. It’s also the sharpest year-over-year rise since 2009, according to the Stockholm International Peace Research Institute (SIPRI). Although the United States and China accounted for half the world’s global military spending last year, SIPRI’s data indicates that Europe has seen the greatest acceleration of spending.
Russia’s invasion of Ukraine was a major wakeup call for all NATO countries, but especially countries bordering Russia. For years “peace dividend” policies prevailed in the post-Cold War era. National security concerns became a lower priority in favor of economic growth. Now, formerly “neutral” countries like Sweden and Finland have joined NATO. To quote the head of the International Monetary Fund, “The peace dividend era is gone, and defense expenditures have to go up.”
EU defense spending increased to a new high of $295 billion (270 billion euros) in 2023, and the EU has unveiled its first defense industrial strategy plan “encouraging EU countries to invest more, better, together, and European.” That’s already happening, with France and Germany moving forward with their partnership to develop a battlefield tank at a cost of billions of euros. As a first effort to combine some of Europe’s 27 military-industrial complexes, the deal is a historic achievement.
Top 15 countries with the highest military spending in 2023
Source: SIPRI Military Expenditure Database, April 2024.
Defense ETF Plays to Consider
One way to play this trend is to invest in defense-themed ETFs. This year’s top performer among non-levered defense ETFs is a defense tech-focused product, the Global X Defense Tech ETF (SHLD). In addition to holding traditional defense and aerospace companies, it also holds defense technology names — like Palantir (PLTR) — that are benefiting from their AI and GPS-assisted defense capabilities. The ETF is up 22.2% YTD and has gained $164 million in assets since its launch on September 11, 2023.
It should be noted that there are also two very successful European UCITS ETFs focused on the defense technology theme. There’s the VanEck Defense ETF (DFNS), which has raised over $750 million since its launch on March 31, 2023, and the HAN Future of Defence UCITS ETF (NATO), which launched on July 4, 2023. NATO has more than $380 million in asset flows and tracks a VettaFi Index, the EQM Future of Defence Index. It is aptly focused on holdings with NATO or NATO+ country exposure. It also includes future-of-defense, cyber defense, and defense technology companies.
Both of these European UCITS ETF products have ESG screening, which is something new for this category. Prior to the Russia-Ukraine conflict, institutional investors had traditionally avoided the defense sector on ESG concerns. However, the war has spurred a shift in perception for many investors. Given the success of these products in Europe, it is likely that U.S. versions of these products will emerge as well.
Other ETF Plays on the Future of Defense
Other ETF themes aligned with the shifting spend in defense are artificial intelligence (AI), robotics, unmanned autonomous vehicles (UAV), and cybersecurity. Cyberspace is now considered a military domain along with land, air, and sea.
ETFs to consider with AI, Robotics, and UAV exposure include the Global X Robotics & Artificial Intelligence ETF (BOTZ), the ARK Autonomous Technology and Robotics ETF (ARKQ), and the ROBO Global Artificial Intelligence ETF (THNQ).
Finally, one closet play on the future of defense theme is the Procure Space ETF (UFO). UFO tracks a VettaFi index, the S-Network Space Index. Its top holdings include many names critical to satellite communications, space mobility and logistics, and space defense. Essentially, space has become a contested domain. Euroconsult reports that last year government space budgets saw an all-time combined high of $117 billion, roughly half of which were defense expenditures.
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