Interview
Asia’s defense awakening: Higher domestic spend, more exports
- Asia's defense spending and manufacturing shifts are projected as a structural trend persisting for many years.
- Japan's defense spending is forecast to rise toward 2% of GDP and potentially higher, though the specific trajectory remains uncertain.
- Korean defense exports are expected to develop as a revenue growth pillar in North America, transitioning from near-zero current exposure to securing orders like the first from the U.S. Navy's NGLS program.
- The U.S. Navy's approximately $2 trillion investment implies roughly $70 billion annually, offering Korean firms a potential 10% to 15% market share in naval projects excluding aircraft carriers and submarines.
- Future opportunities for Korea in the U.S. Army and Air Force include pending projects such as self-propelled howitzer modernization, MCT modular charger local production, and a trainer jet supply RFP by next year.
- Non-U.S. exports from Korea are anticipated to serve as a catalyst for earnings revisions beyond 2030 despite current contributions being limited.
- Approximately 80% of current Korean defense exports target Europe, with over half directed to Poland due to Ukraine war-related inventory shortages.
- Order pipelines remain focused on Eastern Europe and the Middle East, including Phase 3 Poland orders, Romanian infantry fighting vehicle and tank orders, and discussions following conflicts in Iran.
- A base case scenario projects the combined order book of major Korean defense exporters could nearly double in a single quarter, driven by approximately $50 billion in potential interceptor and air defense orders.
- Strong order book expansion potential is expected over the next three to five years from the Middle East, Eastern Europe, and Western Europe.
- The Spain howitzer order is expected to trigger a snowball effect across Western Europe, with a general target of 25% of export revenue coming from non-U.S. regions offering higher margins and growth.
- Korean defense stocks are expected to benefit from a narrowing valuation gap versus global peers as discounts shrink and regional diversification prompts valuation re-rating.
- Rising order book visibility from regions outside of Poland is identified as the key catalyst for Korean defense stock performance.
- Asia is expected to support the U.S. maritime industry by supplying experienced shipbuilders and "blank ships" or kits for U.S. completion, though direct munition sourcing is considered unlikely due to political factors.
- Asia may eventually serve as a supplier for critical minerals and energetics, though current contribution in these areas is not substantial.
- The primary hurdles for increased U.S. reliance on Asian defense suppliers are political restrictions regarding "not made in the U.S." content rather than capacity limitations.
- U.S. defense revenue is not expected to peak for at least another two years, sustained by a three-year backward-looking rolling average of outlays and multi-year industry backlogs even if the budget remains flat.
- Growth in missile systems and defense consumables is projected to continue through the early 2030s, driven by the need to replenish inventory such as the 800 to 1,000 Tomahawk missiles consumed in recent actions.
- Korean defense exporters anticipate earnings will not peak soon, with a strong catalyst expected to lift earnings for the next four to five years.
- A President's Summit scheduled for May is expected to result in order values reaching approximately $176 trillion across various defense sectors, potentially doubling backlog figures in a single quarter.