Global military spending surges and reaches record high

Global military spending hit a record nearly $2.9 trillion in 2025, up 2.9% in real terms, with Europe driving the increase as spending rose 14% to $864 billion and NATO members lifted outlays to $1.581 trillion. The U.S. fell 7.5% to $954 billion, largely due to the absence of new Ukraine-related supplemental funding, while Russia and Ukraine kept expanding spending at $190 billion and $84.1 billion, respectively. SIPRI also warned that NATO’s new 5% of GDP target by 2035 could encourage creative accounting, underscoring transparency risks across alliance budgets.

Analysis

The real market signal is not the headline defense total; it is the shift in who is forced to fund it. Europe’s rearmament is increasingly a fiscal-multiplier story for domestic industry, but it also raises a hidden tax on growth via higher sovereign issuance, crowding out, and a persistent bid for credit protection on the weakest balance sheets. The beneficiaries are less the prime contractors alone and more the full stack of dual-use infrastructure, munitions, electronics, power systems, and transport logistics that scale into multi-year replenishment cycles.

The U.S. dip looks cyclical, not secular, and that matters for positioning. The removal of Ukraine-related supplemental spending creates a temporary hole in headline demand, but the approval pipeline implies a re-acceleration next year; market participants are likely underestimating how fast procurement and inventory restocking can reprice once appropriations convert into obligations. The second-order effect is that suppliers with long lead-time bottlenecks and pricing power should see margin expansion before unit volumes fully inflect.

The biggest contrarian risk is that Europe’s fiscal expansion becomes self-limiting. If bond yields remain elevated, governments may shift from broad-based capability buildouts to accounting-friendly capex and incrementalism, which would favor firms with exposure to maintenance, software, and sustainment over pure new-build platforms. In Asia, Taiwan and Japan’s spending trajectory is more strategically durable, but it also increases escalation risk around export controls, semiconductor shipping lanes, and industrial power demand — a channel that can spill into industrials, utilities, and insurers, not just defense names.

The market is probably underpricing how much of this cycle is about capacity constraints rather than end demand. The best trade is to own the bottlenecks: munitions, propulsion, secure comms, radar, and military logistics, while fading lower-quality prime contractors that rely on accounting optics and margin reset narratives. Over a 6-18 month horizon, the asymmetry is still positive for defense suppliers, but the risk/reward is better in the subcontractor layer and in European capital goods with defense exposure than in crowded headline defense ETFs.

Key Decisions for Investors

• Long RHM.DE / SAAB-B.ST basket vs short a broad European industrials ETF for 6-12 months; thesis is that rearmament flows through constrained high-value subsystems faster than to general cyclicals, with 15-25% upside in the basket if procurement converts as expected.
• Buy RTX and NOC on pullbacks over the next 1-3 months; use 3-6 month calls to express the view that U.S. supplemental funding will re-accelerate bookings before revenue catches up, offering convexity to the 2026 appropriations reset.
• Pair long BAE and LDO.MI vs short highly leveraged sovereign-credit proxies in Europe for 6-12 months; if funding stress forces creative accounting, the defense cash generators should outperform the broader “defense spend” trade.
• Add exposure to munitions/sensor supply chain names such as CW and KLAC-adjacent defense electronics suppliers over 6-18 months; these names benefit from long-cycle replenishment and tighter capacity than prime contractors, improving pricing power and margin durability.
• Avoid chasing broad defense ETFs after strength; instead wait for yield-driven selloffs in Europe and buy the weakest-quality prime contractor names only if backlog revisions confirm actual spend conversion, not just political announcements.