The Aerospace and Defense industry depends largely on the
spending pattern of government departments for growth, with the
U.S. defense budget having a direct bearing on the sector. While
U.S. defense spending has been affected by the
Budget Control Act of 2011
in recent times, several other opportunities of growth have kept
the sector afloat.
As a background, the sequester, put into effect in March 2013,
resulted in broad budget cuts (at least to the rate of growth in
most segments). These were, however, made in an even manner
between the defense and non-defense categories.
This slowdown in defense spending compels companies to often
fall back on joint ventures, strategic alliances and big
international orders to pool their resources, allowing them
access to new markets (Read:
Can The Defense ETFs Soar Despite Headwinds?
In fact, the impact of budget sequestration proved to be
less-than-feared. This has led to a rally in the Defense and
Aerospace securities across the board.
A pick up in defense spending in certain other countries such
as India, Japan, the United Arab Emirates, Saudi Arabia and
Brazil is also opening up business doors to the U.S. - the global
leader in the Aerospace and Defense sector (Read:
Time to Buy This Aerospace and Defense ETF?
Strategic alliances with other foreign nations often entail
the U.S. to share its military technology and supply weapons to
its allies which in turn boost the sector's revenues.
Commercial opportunities as well
On the other hand, commercial orders are also increasing.
There is a significant visibility in aerospace volume growth over
the next several years based on the commercial airplane
According to Aerospace Industries Association (AAI), the U.S.
aerospace and defense industry recorded a massive
in net exports in 2012. This is quite above president Obama's
goal of doubling exports by 2015, at least for this sector. The
data ensures that the sector is not that hurt by the uncertainty
related to sequestration.
Further, contracts with Defense Advanced Research Projects
Agency (DARPA) - which develops new technologies for military and
restructuring activities within companies that reduce workforce
and increase productivity - are the major tailwinds in the
However, the picture isn't entirely rosy. Sequestration still
remains an overhang both on the civil and military sectors. Also,
the companies with limited international exposure might fall into
trouble in a tight-budget U.S. environment.
That is why finding a top ranked pick in this segment is so
important. In order to do this, investors can look to the Zacks
ETF Rank in order to help them find a top notch aerospace and
About the Zacks ETF Rank
The Zacks ETF Rank provides a recommendation for the ETF in
the context of our outlook for the underlying industry, sector,
style box or asset class (Read:
Zacks ETF Rank Guide
). Our proprietary methodology also takes into account the risk
preferences of investors.
are ranked on a scale of 1 (Strong Buy) to 5 (Strong Sell) while
they also receive one of three risk ratings, namely Low, Medium
The aim of our models is to select the best ETFs within each
risk category. We assign each ETF one of the five ranks within
each risk bucket. Thus, the Zacks Rank reflects the expected
return of an ETF relative to other products with a similar level
of risk (see more in the
For investors seeking to apply this methodology to their
portfolio in the Defense and Aerospace sector, we have taken a
closer look at the top ranked PPA. This ETF has a Zacks ETF Rank
of 1 or 'Strong Buy' (see the full list of
) and details about it are highlighted below:
PowerShares Aerospace & Defense Fund (
Launched in October 2005, the PowerShares Aerospace &
Defense Fund (PPA) - is a passively managed ETF designed to
provide broad exposure to the US defense, homeland security and
aerospace sector. PPA tracks the SPADE Defense Index, and has
amassed a net asset base of $58.6 million.
Holding 48 stocks in its basket, the fund is moderately
diversified across individual securities. The product puts more
than 50% of its total assets in the top 10 holdings, suggesting
that company-specific risk is higher.
The Boeing Co.
Lockheed Martin Corp
Honeywell International Inc
) are its top three holdings with a respective weight of 7.23%,
6.49% and 6.31%. These companies are offering strong growth
prospects at the current level. The sector breakdown for this
fund is 81.9% industrial, 15% information technology and 3.1%
While this choice is an expensive one in the U.S. aerospace
& defense space with around 66 bps of annual fees, its daily
trading volume of 15,000 is low, but is still higher than the two
iShares Dow Jones US Aerospace & Defense ETF
SPDR S&P Aerospace & Defense ETF
) - in this space.
The fund structure calls for a value tilt for the product,
along with a focus on large cap securities. Mid cap securities
are also substantial in the ETF, occupying one third of the fund.
The focus on value and large cap securities makes this fund a
PPA started the year 2013 on a solid note thanks to the
optimism surrounded by the improving US economic indicators and
better-positioning of the defense sector. It has returned about
17.6% for the one-year period ending Mar 31, 2013 and about 17.8%
in the year-to-date time frame.
The product also pays an annual dividend yield of 1.76%. PPA
has hit a low of $18.20 and a high of $25.27 in the last one
year. The fund is currently hovering near its 52-week high price.
PPA is strongly correlated with the S&P 500 index as
indicated by an R-Squared value of 81.6%.
Should current trends continue in the market, PPA could remain
a solid pick for investors seeking to make a play on the space.
Budget fears have turned out to be overblown, and both aerospace
and defense products are in demand across the globe, suggesting a
decent outlook for PPA ahead.
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BOEING CO (BA): Free Stock Analysis Report
ISHARS-DJ AEROS (ITA): ETF Research Reports
LOCKHEED MARTIN (LMT): Free Stock Analysis
PWRSH-AERO&DEF (PPA): ETF Research
SPDR-SP AER&DEF (XAR): ETF Research
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