Finding Hidden Value in the Future of Global Security

Companies supporting efforts to create a more secure and stable world could provide equity investors with an attractive source of long-term returns.

The quest for a secure future has risen to the top of national agendas everywhere. We believe a growing focus on energy transition and security, supply chains and cybersecurity will create real long-term opportunities for equity investors in an array of companies.

In a world of macroeconomic and geopolitical risk, equity investors are seeking sources of earnings growth that are driven by durable structural trends. From trade tensions to the pandemic to inflation and war, a sense of insecurity has shaken markets over the last several years. Deglobalization compounds the challenges. Governments are scrambling to safeguard their societies and economies.

Three themes are at the center of efforts to support the security of the future: energy transition and security, supply chain security and national defense/cybersecurity. We believe spending on these themes through 2030 could approach levels close to the amount of investment in cloud computing and e-commerce over the past decade, with growth rates that are well above the average for the broader US market (Display).

Energy Transition: Securing Stable Power Sources

Countries around the world increasingly realize that their traditional energy supply is far more vulnerable than previously thought. Historically, the world has sourced much of its oil and natural gas from a small set of countries. Russia’s invasion of Ukraine and instability in the Middle East have highlighted the risks. The energy transition is creating risk and opportunities for governments and investors. In response, massive capital is being spent worldwide to build out wind, solar and nuclear power capabilities, as well as for transmission and distribution networks (Display). 

Consider how the transition away from coal and other fossil fuels prompts infrastructure investments. Since renewable power and other power-generation facilities are often located in different areas than traditional energy sources, new transmission and distribution infrastructure is needed to harness and transport this power to markets. Companies like MasTec, an engineering and construction group with expertise in large-scale projects, will be instrumental for a successful transition.

While nuclear power remains controversial in some regions, it is still an important way for some countries to gain energy security without increasing fossil fuel dependence. France, the UK and India are among the countries that are expanding their nuclear capacity, according to the International Energy Agency. Cameco, a Canadian uranium supplier, can help provide stable fuel supplies for existing and new reactors.

Supply Chain Security: Reshoring to Reduce Risk

The pandemic exposed serious vulnerabilities in supply chains across industries. And more than half a century of globalization is coming to an end due to geopolitical realignment. Companies are racing to create supply chains closer to home markets to reduce these risks. Despite added costs, many companies want to avoid the massive dislocations they experienced during the pandemic and reduce their dependency on foreign supply. In the US alone, between $3 trillion and $5 trillion in total spending is needed to make up for underinvestment since 2008 (Display above).

No matter where a company is based, relocating closer to home requires an infrastructure revamp. This is spurring a wave of investment in logistics, warehousing and automation. In our view, these trends will increase demand for trucks as well as for parts and service, as existing fleets work harder. Companies like PACCAR, a manufacturer of commercial trucks and parts, will be integral players to facilitate this shift.

Manufacturers must also reconsider sources of key raw materials. Take the aerospace market, where titanium is essential for manufacturing commercial aircraft. Historically, Russia provided a significant amount of global aerospace-quality titanium, but commercial aerospace companies are now searching for more secure alternatives. ATI, a US-based company that manufactures aircraft-grade titanium, is expanding its capacity in anticipation of a massive demand increase in the coming years.

In technology, we’re also seeing the early stages of a spending surge to build domestically located semiconductor manufacturing and data centers. In the US, government subsidies are supporting a massive build-out of semiconductor production capacity. Growing capital expenditures in semiconductors will benefit companies such as Lam Research, which produces equipment to deposit specialized films on wafers and etch the patterns used for circuit design.

National Defense and Cybersecurity: Addressing Physical and Digital Threats

The Russia-Ukraine war, tensions in East Asia and conflict in the Middle East have refocused attention on defense. In the US, defense spending was just 4% of GDP in 2023—the lowest in more than half a century, and historically a level that signaled an imminent reversal. In Europe, defense spending posted its steepest year-over-year surge in 2022, according to the Stockholm International Peace Research Institute.

In our digitally connected world, cybersecurity has become an urgent priority. It’s also a particularly interesting segment of the defense market for investors. Spending on cybersecurity is consistently growing by between 10% and 15% a year, according to Gartner (Display). The addressable market for cybersecurity is projected by McKinsey to reach between $1.5 trillion and $2 trillion, more than triple its size today.

Countries seeking to bolster their cyber defense desperately need more domestic computing capacity. Booz Allen Hamilton enjoys a high market share of the new US government programs designed to improve cyber defense, as well as a competitive advantage in hiring talent with security clearances, enabling it to win federal government contracts. Other companies help provide specialized infrastructure for cybersecurity. For example, COPT Defense Properties is a real estate investment trust that owns and operates technically sophisticated buildings capable of storing and transmitting secure data, which has attracted many US government or defense firms as tenants.

Investing in Security: Seek Attractive Valuations and Solid Businesses

Today’s market conditions are complex, with uncertain macroeconomic and geopolitical issues clouding the near-term outlook. Meanwhile, market performance was extremely concentrated in 2023, leaving the shares of many companies lagging despite strong growth potential. Many investors are seeking new sources of long-term return potential for this environment.

In our view, companies that address these new emerging security themes may enjoy powerful catalysts for long-term growth that are less vulnerable to macroeconomic volatility or economic growth cycles. Equity investors seeking to capture this potential should look for companies with undervalued shares that don’t reflect their ability to benefit from increased security spending. Creating an equity portfolio with exposure to the companies at the heart of global security efforts can provide investors with attractive sources of earnings power for a world of strategic change.