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Will the 2015 Military Budget Hurt Defense Stocks?


From the Buzz & Banter: The programs of Lockheed, Boeing, Northrop, and Raytheon will continue to be funded while spending on personnel declines.

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1. Since I mentioned it as a short-term trade on Friday on the Buzz & Banter [subscription required], I wanted to note that I have moved up my stops on NutriSystem (NASDAQ:NTRI) with the intention of exiting before earnings are released on Wednesday. The stock is already making the move above $16, which I expected after it had announced earnings, giving me a profitable exit without risking a downside surprise caused by the earnings release or guidance.

2. Never underestimate the potential for business model changes to alter industry dynamics. Bloomberg reported on the "Peak Car" era today, hinting that, while the auto industry will increase global manufacturing capacity to 120 million units by 2016, which is about 50% higher than last year's production, the auto industry also needs to prepare for more car sharing among urban populations. This means less car buying. There is no doubt that emerging market (and many US) consumers cannot afford the hefty price tags on many cars and trucks sold today, but I don't expect people to give up their cars. Rather, I have been expecting electric bikes, Segways, and other vehicles to disrupt the personal transportation industry from the low end. The article suggested, instead, that the purchasing model may change the industry, and it is not a factor to which I had given much thought. I have been reading more about an emerging partnership-home-purchasing model (as oppposed to a household-based model) as well, and these new models could be important in moving us to a more sustainable economy. We live in an era of peak banking and peak debt levels, when everything is purchased on credit, and the production of high-price, long-lived assets like autos and homes are important to the level of GDP. However, the ability to drive economic growth through debt extension and asset ownership has been exhausted. Smart people have begun to look at new purchase models that are more capital efficient and that could lead to more sustainable demand models, but with potentially different levels of equilibrium.

3. The Department of Defense (DoD) will preview what is expected to be a $500 billion 2015 budget today. There has been a lot of talk about the military emphasizing a smaller but more technologically advanced fighting force. The key here is that the "big iron" programs of Lockheed (NYSE:LMT), Boeing, (NYSE:BA), Northrop (NYSE:NOC), and Raytheon (NYSE:RTN) will continue to be funded while spending on personnel declines. Expect cuts to order numbers, though this has been signaled for some time. The Asian Pivot will require continued spending on the Navy and Air Force while Army and funding for ground forces continue to decline. As I have mentioned before, look for these cuts to US funding to be made up for by "sales" of technology to allies, especially Japan, which has been increasing its defense procurements.

Twitter: @Honest_T

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Position in NTRI

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