When it comes to buying into the sector, if you believe that the entire industry will continue to climb — and Chung does think the sector overall will continue to outperform — then you can purchase an exchange-traded fund, like the iShares U.S. Aerospace and Defense ETF (ITA), which is the largest defense-sector ETF, with $4.5 billion in net assets.
The fund, which is up nearly 29 percent this year, holds U.S. operations that manufacture commercial and military defense equipment — all of the large-cap defense stocks, like Boeing, United Technologies and Lockheed Martin, are in the portfolio. For mutual fund buyers, Fidelity Select Defense and Aerospace fund, which also holds the brand-name defense companies such as Boeing, Northrop, Raytheon and Rockwell Collins, among others, is a popular choice. It’s rated four stars by Morningstar and is up 28 percent year-to-date.
Those who want to make a bet on an individual stock, though, should look for companies with attractive cash-flow yields, product-line diversity and wide geographic exposure, says Hiatt. Companies with low leverage and an ability to return money to shareholders through dividends or buybacks is important, too, adds Chung.
He likes General Dynamics, Harris and Northrop Grumman, partly because they have strong CEOs, good cash-flow yields and certain divisions, like radios for Harris and unmanned aircraft for Northrop, which should experience strong growth over the next several years.
No matter what you buy, though, the prospect of conflict and increasing military budgets worldwide should continue to push these stocks even higher.
“The world isn’t getting safer, and there’s a need for these companies’ services,” says Chung. “We feel comfortable about their competitive advantages, and their moats are wide. That’s a good backdrop.”
— By Bryan Borzykowski, special to CNBC.com