ROI-Asian defence firms may be surprise winners of rising geopolitical tensions: Raychaudhuri

By Manishi Raychaudhuri

HONG KONG, Jan 22 (Reuters) - Geopolitical tensions were sky-high in 2025, and U.S. President Donald Trump's recent military actions in Venezuela and bid for Greenland suggest the international temperature won’t be dropping any time soon. One surprising market winner from all this could be Asian defence firms.

Defence expenditures are rising across the world. NATO countries committed in June to spend 2.8% of their gross domestic product on defence in 2026, increasing that to 5% by 2035. Key member Germany has an interim target of 3.5% of GDP by 2029. Japan is also planning to double defence spending to 2% of GDP by 2027, and Trump wants to boost the 2027 U.S. military budget to $1.5 trillion from the $901 billion approved by Congress for 2026.
Given this backdrop, it's unsurprising that defence companies’ shares outperformed strongly in 2025. European defence exchange-traded funds almost doubled from the beginning of 2025 through early January 2026, while the high-flying Magnificent Seven U.S. tech stocks appreciated just over 20%. Asian and U.S. defence stocks were up around 75% and 50%, respectively, in that period.

Looking to the next 12 months, Asian defence companies have the potential to outstrip European defence majors because they benefit from two trends: rising exports to the European Union and a sharp increase in domestic defence manufacturing across Asia as countries seek to replace imports.

BOOMING EXPORTS

Europe's armaments demand is increasingly being met by Asian defence companies, with South Korean firms taking the lead. The North Asian country is the world’s 10th-largest arms exporter, accounting for 2% of total arms exports from 2020-24, according to the Stockholm International Peace Research Institute (SIPRI). Over this period, 53% of South Korea’s defence exports went to Europe, with 46% going to Poland alone.

Some European countries, notably Poland, are now buying more from Asian companies than from their U.S. counterparts. Timely supplies and cheaper prices for products of equivalent quality are often tilting the balance in favour of the Korean firms.

South Korea is not the only game in town, however. SIPRI’s list of the top 100 arms producers features 23 Asian companies: eight Chinese, five Japanese, four South Korean, three Indian and one each from Taiwan, Singapore and Indonesia. With the exception of the Chinese firms, all have seen their revenues grow meaningfully over the past year.

DOMESTIC FOCUS

The Asian defence story is also rooted in the rising “insourcing” of defence manufacturing. Based on the belief that an effective national security strategy demands a homegrown military industrial complex, Asian countries are increasingly focusing on domestic manufacturing to replace imports.

Several ASEAN states have set aggressive defence indigenization goals. For example, Indonesia plans to raise local content in major defence equipment from 40% in 2026 to 60% by 2030, while Vietnam aims to boost the portion of domestic inputs in defence radars, simulators, and artificial intelligence from about 32% in 2025 to 50% by 2030.

The pole position is occupied by India, the world's second-largest arms importer, according to SIPRI. In 2015, India set a target of 70% "defence indigenization" by 2027, up from 35-40% at that time. It's well positioned to reach this target, with 65% of India’s defence equipment manufactured locally as of 2025. Much of this growth has come at the expense of Russia, which has seen its average arms exports to India fall significantly over the past decade.

STRONGER GROWTH, CHEAPER VALUATIONS

Relatively attractive valuations may also propel Asian defence stocks in 2026. Just look at a sample of 20 firms from SIPRI's top 100 arms producers. These include industry leaders in Europe and the U.S. as well as Asian firms with market caps above $10 billion and available consensus earnings estimates.

A stock whose forecast earnings growth is higher than its price-to-earnings multiple is usually treated as cheap. In investment parlance, its price-earnings-to-growth, or PEG, multiple is less than one.

By this metric, nine stocks out of our sample of 20 qualify as cheap, and six of them are Asian.

Four of the six are Korean defence giants: Korea Aerospace 047810.KS, Hanwha Aerospace 012450.KS, Hyundai Rotem 064350.KS and LIG Nex1 079550.KS. China’s Jonhon Optronic 002179.SZ and Japan’s Kawasaki Heavy Industries 7012.T also squeeze into the cheap silo.

Even within this bucket, growth is tilted towards the Asian firms. Four of the five companies with the highest earnings growth forecasts here are Korean. Germany’s Rheinmetall RHMG.DE is the only non-Asian defence firm from this sample that qualifies as both cheap and high-growth.

While Asian defence firms appear well positioned to outperform this year, significant headwinds remain. Most importantly, American and European firms continue to lead in cutting-edge areas like AI, quantum communications, hypersonics, and advanced autonomous systems, as the Australian Strategic Policy Institute points out.

Supply chain vulnerabilities also remain for Asian manufacturers, as seen recently when China halted exports of rare earths and other critical "dual-use" materials to Japan.

To sustain the Asian companies' rapid growth, therefore, research and development efforts would likely need to expand robustly and the uninterrupted flow of critical materials would need to be ensured.

European defence companies enjoyed a rapid rise last year, but as investors look for strong growth and more attractive valuations, their attention may now shift toward the Asian market leaders.

(The views expressed here are those of Manishi Raychaudhuri, the founder and CEO of Emmer Capital Partners Ltd and the former head of Asia-Pacific Equity Research at BNP Paribas Securities.)

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