Please ensure Javascript is enabled for purposes of website accessibility

Why Raytheon Company, Lockheed Martin Corporation, and Northrop Grumman Corporation all Rose Over 10% in January

By Reuben Gregg Brewer - Feb 6, 2018 at 3:29PM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

These military-industrial conglomerates have had a good run, but here's why the last few days of January were particularly good for investors

What happened

The shares of Raytheon Company (RTN), Lockheed Martin Corporation (LMT 0.83%), and Northrop Grumman Corporation (NOC 1.63%) were all trending steadily higher throughout the month of January. In fact, they were each up in the low single digits on Jan. 24. But by the time the month was over, they had all rocketed to low double-digit gains, with most of the advance taking place over just a few days. When January finally drew to a close, Lockheed was up 10.5%, Northrop had advanced just under 11%, and Raytheon led the group with a stock move of 11.2%, according to data provided by S&P Global Market Intelligence.

So what

The big story here was earnings related. On Jan. 25, Raytheon and Northrop both reported earnings that pleased investors. It wasn't so much the results from 2017, which were actually hampered by the tax code change, but the outlooks provided for the future. Essentially, the management teams of both companies are expecting a good year in 2018, at least partly because of a supportive administration in Washington, D.C.   

A military drone flying

Image source: Getty Images

Lockheed Martin didn't report its results until a few days later, but its shares went up along with Raytheon's and Northrop's on investor hopes that its earnings would be a good read, too. They weren't disappointed, with Lockheed's Jan. 29 earnings release largely presenting a positive outlook for the new year.   

Military-industrial peer General Dynamics Corporation (GD 1.18%) also got in on the act, with its share up around 9.4% in January. General Dynamics reported its earnings on Jan. 24. The company's update specifically noted strong demand on the military side of its business, leading to an increase in its backlog in that segment. In other words, there was widespread strength in the sector driven by strong business fundamentals.   

Now what

At this point, investors are expecting solid years from General Dynamics, Lockheed, Raytheon, and Northrop in 2018. As you might expect, their stocks moved higher along with their positive earnings updates and outlooks. But that means that investors have already priced a lot of good news into the stocks.

LMT PE Ratio (TTM) Chart

LMT PE Ratio (TTM) data by YCharts

Here's the problem: Investors were already pricing in good news before the earnings updates. In fact, all four of these companies were already looking a little expensive relative to their own histories and the broader market in late 2017. While investors may view the current round of earnings and suggest those valuations are justified, a little caution may be in order.

It's worth looking at some numbers here. General Dynamics' five-year average P/E is around 17, but its forward P/E is nearly 20. Lockheed Martin's five-year average is 18.5, with a forward P/E of around 26. Northrop's average P/E is around 16.5 and its forward P/E is roughly 23. And for Raytheon, those numbers are 17 and 21, respectively. That's just one metric; the trend toward overvaluation shows up in price to book, price to sales, and price to cash flow, too. Their dividends are, uniformly, below their five-year averages as well. 

That's not to suggest that 2018 will be worse than investors expect. The issue is the balance between price and value, and at this point all four of these government contractors look expensive. There's no question that the 2017 earnings releases here were good reading, but investors who care about valuation should think very carefully before jumping on this bandwagon.

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

Lockheed Martin Corporation Stock Quote
Lockheed Martin Corporation
LMT
$433.52 (0.83%) $3.56
General Dynamics Corporation Stock Quote
General Dynamics Corporation
GD
$223.86 (1.18%) $2.61
Raytheon Company Stock Quote
Raytheon Company
RTN
Northrop Grumman Corporation Stock Quote
Northrop Grumman Corporation
NOC
$486.37 (1.63%) $7.80

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning analyst team.

Stock Advisor Returns
311%
 
S&P 500 Returns
110%

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 07/02/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.