Could shares of red-hot Babcock, Rolls-Royce and BAE Systems continue to rise again in 2026?
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BAE Systems (LSE: BA) shares rose almost 10 times the pace of FTSE 100 last week, it rose 17.05%, compared to 1.74% for the rest of the index. They are driven by the US invasion of Venezuela, and President Trump is asking for a significant increase in the US military budget, from $901bn this year, to $1.5trn in 2027.
The current tense situation may be bad news for world peace. But it’s good news for the UK’s largest defense manufacturer pureplay, which has lucrative US navy, electronic systems and weapons orders. It’s a boost for smaller UK defense stocks too, such as the FTSE 100-listed Babcock International Group (LSE: BAB). It was the second fastest riser on the blue-chip index last week, up 15.4%.
Over the past 12 months, these two stocks have risen 73% and 195% respectively. Five years of work is great fun.
I’d rather there was world peace and these two stocks had no more momentum, but that’s not the world we live in. The gains from the post-Cold War peace have been spent. Today, investors have a share of the defense sector.
An attack on the defensive stocks of the FTSE 100
Company Rolls-Royce Holdingswhich also has a weapons category, ranked fifth last week with a gain of 8%. But have they gone as far as possible?
Rolls-Royce is surprisingly expensive with a revenue figure of 62, although it has fingers in other pies than defense.
BAE Systems has a P/E of 29.5, Babcock at 28.8. And it’s not cheap. Both boast massive order books of £78.3bn and £9.9bn respectively, providing visibility into production and revenue over the years. Although Babcock’s backlog is very low, the small company, with capital of around £7.3bn, is dwarfed by BAE’s £60bn. Undoubtedly, that gives it room to grow.
Interestingly, it appears that UK defense stocks now have one clear edge over their US counterparts. Trump has also announced measures to freeze US defense contractor allocations and share purchases unless they speed up arms production. That’s a blow to investors in US defense stocks, as this new priority could squeeze free cash flow and margins. BAE Systems, Babcock and Rolls-Royce will not face the same pressure.
Assignments
However, there is also a danger here. The US government has threatened to withdraw contracts from firms that prioritize shareholder returns over investment in plants and energy. But will Trump actually change these contracts to Britain’s and European defense rivals who are not bound by these rules? There is a risk that investors will run away from this idea. That’s just my opinion.
It’s also worth mentioning that Germany is also increasing defense spending, with plans of 649 billion euros over five years for modernization, while pressure is growing on the British government to up its game as well. It is short of money, as other European governments would like to spend on other things if given the chance.
As the ugly war in Ukraine continues and the US makes threats over Greenland, world peace unfortunately seems a more distant dream than ever. Some won’t touch a defensive stock for moral reasons, but otherwise I think investors would consider exposure to BAE Systems. et al. It’s just an expensive time to buy them, so I think share price growth should slow down from here.
We may even see dips. Be aware of yourself.
