Why are defense stocks swinging from boom to bust? They went from a 1,000% increase in 4 years to a 40% decline in a matter of months.
stocks swinging from boom to bust: The belief that they would benefit from the government’s push for domestic procurement caused defense companies’ stocks to soar during the last four years, sometimes by more than 1,000%. Those stocks are now plunging.
New Delhi: The narrative-driven spike in defense company stock prices has finally subsided, with some of these equities dropping 20–40% in a matter of months. According to analysts, the dramatic increase in these stocks following the COVID-19 outbreak was caused by “newbie” investors who wanted to follow in the footsteps of a thriving stock market and were persuaded to do so by social media influencers.
These investors now have to deal with the realities of defense industries’ low profitability and project delays.
Why are defense stocks swinging from boom to bust?: The nine defense stocks that The Awadh Times has examined grew by an average of 606 percent between January 2020 and April 2024, according to data from the Bombay Stock Exchange (BSE). However, some outliers, such as Hindustan Aeronautics (881 percent) and Mazagon Dock Shipbuilders (1,308 percent), significantly outperformed this average.
The belief that the Indian government’s plan to source more of its defense procurement from domestic industries will benefit these businesses immediately was a major factor in this boom in defense equities.
Photo Credit: The Print
The Awadh Times previously reported on this narrative-driven stock market fervor in a multi-indicator analysis that suggested a bubble was developing in the Indian stock market.
The increase in the number of new and inexperienced investors entering the market since the COVID-19 pandemic, their gullibility in the face of social media influencers’ investment advice, and their fear of missing out (FOMO) on the current stock market boom are the factors that stock market analysts believe are at play.
This meant, however, that these new and frequently youthful investors disregarded industry-specific elements that affect the profitability of defense enterprises, like the unique risk of project cost and schedule overruns and the reliance of these businesses on a single customer—the government.
The stock prices of some defense corporations have recently dropped sharply in recent months as a result of investors losing interest as project delays became evident and fresh orders to defense industries started to fade.
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Plans are thwarted by a narrative that is losing momentum: stocks swinging from boom to bust
The shipbuilders have been hardest hit by the shift in investor sentiment among defense-related stocks. Cochin Shipyard, a shipbuilding and repair company situated in Kochi, has experienced the largest decline in recent months, dropping more than 40% from its July peak this year. Since then, the stock price of Garden Reach Shipbuilders & Engineers, a shipbuilding company situated in Kolkata, has dropped by around 30%.
According to V.K. Vijayakumar, chief investment strategist at Geojit Financial Services, “there are execution challenges in segments like shipping.” Shipbuilding requires a significant amount of capital, and it can take months or even years to complete an order. Time and expense overruns are possible.
The “newbies” in the market were only purchasing these stocks because they heard that the company had received an order or because a “finfluencer told them to,” he continued, demonstrating how the market was ignoring all of these difficulties.
In support of this, Kunal Shah, senior research analyst at Carnelian Asset Management & Advisors, stated that “many expectations were built in way ahead of what could actually happen in the form of numbers and order books because of the narrative.”
Additionally, the analysts noted that investors disregarded the defense industry’s fundamental structure, which results in low profitability.
According to Vijayakumar, the government is the only buyer in the defense industry, making it a monopsony. Additionally, defense industries have narrow profit margins because the government is unlikely to purchase at premium pricing. However, the new investors ignore all of that.
In a note published earlier this month, ICICI Securities also mentioned the poor performance of defense companies and connected it to order delays.
It stated that new orders had “fallen short of expectations” and that “defense stocks have not fared well over the last couple of months, mainly due to a relative dearth of fresh orders and delay in expected orders.”
The markets are now sensing that.
FOMO and the potential for manipulating the stock market: stocks swinging from boom to bust
Shah clarified this by referring to the “FOMO” phenomena, which is a motivating factor for stock purchases that appears to be waning.
He clarified, “What happens is that first FOMO plays out, and then it fades.” “The story is developed, followed by FOMO as everyone is immersed, and then things begin to fade out.”
Put another way, new investors joined the bandwagon as a result of the explosive rise in defense company stock prices over the previous few years. However, this FOMO effect faded as sector fundamentals took center stage.
The manipulation of stock prices in corporations with low levels of floating stock—the quantity available for the public to buy and sell—could also be at play.
“A cartel of operators may buy excessively when there is low floating stock,” Vijayakumar clarified. Since the government owns the majority of the holdings in these situations, there won’t be a corresponding sale. Thus, the price is raised by this purchasing when there is a shortage.
When the price is high, these market manipulators may decide to sell, flooding the market with their holdings and making money while simultaneously causing the stock price to plummet.
“But that doesn’t negate the structural long-term narrative in defense, which we remain firmly committed to,” Shah said. “However, one must undoubtedly be mindful of overvaluations, which are currently being rationalized and have more room to be rationalized.”
