BAE shares surge as UBS predicts 'huge' jump in defence spending for Europe

Analysts at UBS have suggested that markets are overlooking a predicted rise in defence spending by European countries, despite the recent value surge of arms manufacturers like BAE Systems.

In an analyst note, UBS upgraded BAE's share price target from 1,600p to 2,450p and also elevated European arms dealers Saab and Thales to a Buy rating, as reported by City AM.

The analysts stated, "Investors are currently pricing in 2.5 per cent GDP spent on defence in 2030 with the European defence players likely to take market share from US primes."

However, UBS anticipates that defence expenditure will reach 2.8 per cent of European GDP by 2030, potentially rising to as much as 3.3 per cent in subsequent years.

"This may prove conservative. During the cold war European NATO members spent three to six per cent of GDP on defence, and the investments required in this cycle are likely to be higher," the analysts added.

They also projected defence spending could peak at 3.5 per cent of European GDP, particularly if the US hastens its military withdrawal from Europe.

UBS has also eliminated a 1.75 per cent penalty on arms manufacturer shares previously affected by ESG risks, citing a shift in investor perceptions of the sector.

European nations have committed to increasing their military budgets following warnings from Donald Trump that the continent needs to bolster military support for Ukraine ahead of a proposed peace agreement with Russia.

Analysts at UBS have highlighted a recent whitepaper from the European Union, which advocates for increased defence spending in European businesses, as a significant sign of change.

The whitepaper states, "The United States, traditionally a strong ally, is clear that it believes it is over-committed in Europe and needs to rebalance, reducing its historical role as a primary security guarantor,".

Further comments from the arms industry, such as those from European missile manufacturer MBDA regarding an influx of orders from Europe, have bolstered the belief that a larger proportion of domestic expenditure is on the horizon.

In light of anticipated higher weapons spending, the analysts have revised their price targets for several defence firms, including BAE.

UBS analysts regard BAE as the premier defence company in the sector, stating, "It has the most diversified product suite and geographical diversification with a solidified yet growing presence in the end markets that we expect to benefit well from the defence macro theme."

Despite not matching the record-breaking stock price surges seen by other European defence companies in recent months, BAE's stock has still risen by 17 per cent over the past year.

UBS attributes the company's underperformance to its 45 per cent exposure to the US market. However, they believe that despite uncertainty surrounding reforms in the US Department of Defence, the market is overestimating the risk.