Claremont Colleges

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CMC Senior Theses CMC Student Scholarship

2024

The Impact of Wars on US Defense Stock Returns

Viksit Verma
Claremont McKenna College

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Recommended Citation
Verma, Viksit, "The Impact of Wars on US Defense Stock Returns" (2024). CMC Senior Theses. 3560.
https://scholarship.claremont.edu/cmc_theses/3560

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 Claremont McKenna College

The Impact of Wars on US

Defense Stock Returns

submitted to
Professor Fan Yu

by
Viksit Verma

for
senior thesis
April 16, 2024
 Table of Contents

Abstract and Motivation for Writing on this Topic……………………. 2-6

Introduction…………….………………………………………………… 7-9

Literature Review ……………………………………………………….. 10-13

Data ……………………………………………………………………….. 14-18

I) Data Constraints………………………………………………… 14-15

II) Data and Information Collected………………………………. 15-18

Methodological Framework and Results ……………………………….. 19-31

I) Event Selection…………………………………………………… 21-22

II) Event Window…………………………………………………. 22-31

i) Event 1: Russia-Ukraine War……………………………. 22-28

ii) Event 2: Israel-Hamas Conflict………………………….. 28-31

Limitations………………………………………………………………… 32

Conclusion………………………………………………………………… 33-34

2
 Abstract

This thesis examines the financial performance and market impact of defense and

aerospace companies during periods of war and conflict. The study examines a sample of 9 firms

representing the defense sector, and utilizes an event study methodology to assess stock returns

during specific geopolitical events, namely the Russia-Ukraine War and the Israel-Hamas

conflict. The study generally reveals positive abnormal returns during conflicts, indicating lower

volatility and reduced market risk for the sample of defense firms compared to the broader

market. All abnormal returns are statistically significant for the Russia-Ukraine War. For the

Israel-Hamas conflict, abnormal returns for 4 out of 9 firms are statistically significant, likely

due to its regional nature and smaller scale.

Past literature review attributes this effect to the predictable increase in government

spending during war periods, which reduces earnings dispersion for future quarters. However,

the impact varies with the geographic location of the conflict, and the scale and degree of direct

involvement by the United States. Although the analysis aimed to correlate firm-specific

characteristics like firm size, ex-military board membership, and government contract history

with abnormal returns during these two events, results were not statistically significant.

Nevertheless, the trend supports existing literature suggesting that increased defense spending

can reduce stock volatility in this sector and generally yields positive abnormal returns.

3
 Acknowledgement

Conducting this study has been a fulfilling project and I would like to thank Professor

Fan Yu for his support and guidance at every step. He was critical in keeping me accountable

while giving me the flexibility to work on my own time. I was able to brainstorm ideas and how

to best conduct the analysis and research in the context of my major.

I would also like to thank the RDS faculty and directors for giving me the opportunity to

present my thesis. Finally, thank you to the entire Claremont McKenna community, faculty and

students, for being a part of my academic and professional journey, contributing to my

well-rounded development. I have been able to gain a holistic perspective here, with my

education being at the intersection of philosophical thought, scientific inquiry, and economic and

financial analysis. My thesis aims to be synonymous with the nature of my learnings at CMC and

reflects my engagement with interest cultivated here.

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 Motivation for Writing on this Topic

At the culmination of my academic journey at CMC, I wanted to write a paper rooted in

finance, but also one that lay at the intersection of policy, human nature, history and philosophy.

This topic, for me, enables me to attain that singularity and produce meaningful insights on war

economics, track the performance of weapon system manufacturers, and update past work on a

topic so consequential but less spoken of.

War and conflict have been by products of our inherent nature, as described in Hobbes’

Leviathan, as individuals are in a “war of all against all.” The natural state of mankind is thus a

state of war. Machiavelli’s ‘The Prince’ advocates ruthless pragmatism for preserving the

‘empire’ and Aristotle talks about justice as the propagation of the “common good”. Is

Blackrock, the world’s largest investor in defense companies, then, wrong in making investments

in defense companies? Or are they funding weapons of mass destruction? Should the United

States of America not protect its interest on foreign soil, and does the notion of ‘sin stocks’ take

us away from the reality of the world as it is? These are pressing questions that warranted my

attention, and with the increasing popularity of ESG funds, I was curious to understand if

shunning defense companies was such a good idea. Considering the inevitability of conflict and

war, I want to assume that the future will also have its share. We can choose to sit on the

sidelines, or assess the value in owning aerospace and defense companies.

The US military and its cutting-edge technology has been a major contributor to its

economic strength. One of the factors that allowed the US to become a financial powerhouse is

America’s ability to safeguard itself and its allies in times of crises. This imbues trust in the US

economic stability. Considering this, the aerospace and defense industry is a critical component

in America’s economic machinery. There is a growing sense among the populace that we are

5
living in a world where crises happen on the off chance. However, history and data suggest that

these are recurring events and need to trickle down into our investing philosophy as such.

Additionally, addressing the impact of current events was a way for me to say something

original. On doing a literature review, I found scarce documentation and study of war and its

impact on defense company stock performance. My thesis also provides an update to economic

papers written on stock volatility after the US invasion of Afghanistan (2001) and Iraq (2003).

6
 1. Introduction

War and geopolitical conflict have periodically adorned human history. Even with

relentless efforts to foster peace and stable economic relations, war has prevailed. The extent of

war is better understood with this disturbing fact in contemporary history: conflict took place in

every year of the 20th century. It has been estimated that 187 million people died as a result of

war in the last 120 years, with the real number likely being significantly higher. Starting with the

Trojan Wars and Greco-Persian Wars, all the way to World Wars I and II, Russia-Ukraine war

and the Israel-Hamas conflict - economic tremors of armed conflict can be felt through the

course of history.

Turning to recent history, A U.S. intelligence report assessed that the Ukraine war has

cost Russia 315,000 dead and injured troops, or nearly 90% of the personnel it had when the

conflict began. The Reuters report also assessed that Moscow's losses in personnel and armored

vehicles to Ukraine's military have set back Russia’s military modernization by 18 years. Turning

our attention East, Israel’s aerial and ground offensive has been one of the most devastating

military campaigns in recent history, displacing nearly 85% of Gaza’s 2.3 million people and

leveling wide swaths of the tiny coastal enclave. More than half a million people in Gaza — a

quarter of the population — are starving, according to a report Thursday from the United Nations

and other agencies.

As we are aware, there are severe tangible economic and financial implications of armed

conflict. For context, the U.S. Budgetary Costs of the Post-9/11 Wars, published on September 1,

2021, estimates the total costs including future obligations stands at a staggering $8 trillion in

current dollars. This amount includes funding America’s military conflicts on foreign soil,

counter-terror operations, interest on Overseas Contingency Operations borrowings (OCO)

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borrowings, and post 9/11 Veterans’ Medical Care and Disability. Additionally, the US dedicated

approximately 3.5% of its GDP towards the Department of Defense annually. For 2023, this

figure is pegged at ~$745bn, and is aimed at protecting “US economic and humanitarian

interests,” according to a ‘Budget Overview’ by the US DoD.

Figure 1: Military spending in the US between 2000 to 2022

For the defense industry, the overarching sentiment is that, “In any case, there is no room

for reasonable doubt : the armament industry does not always desire war, unless it is in some

distant country. What it wants is well-armed peace and permanent tension. Too cloudless a peace

is a misfortune – but so may be a war. The constant threat of war: that is what is most promising

8
for this particular business” (Lewinsohn, 1936, p. 150). Such tension causes an increase in

defense spending, which is associated with positive stock returns in the aerospace and defense

industry.

In lieu of the recurrence of such events, it becomes imperative to understand the impact

of conflicts on defense stocks. Our concern here is with defense companies catering to the US

DoD, specifically towards maintaining strategic nuclear deterrence and deter strategic,

non-nuclear attacks, and ‘Major Weapons Programs’. Even though one part of the world believes

that it is ‘unethical’ to invest in ‘sin’ stocks, and are allocating funds towards ESG-friendly

companies. But is this the right financial decision? By taking an average frequency of conflict

and war, we will understand the movement in stock prices post an ‘event’, that is, war or conflict

over a defined event window. By analyzing stock price performance, this research will reveal

how conflicts impact the performance of defense company stock returns.

This research has far reaching implications on the construction of stock portfolios, the

setting up of defense-related manufacturing companies, and data and software companies.

Investors, both retail and institutional, should be able to turn to this paper as one of the most

comprehensive papers on the impact of major conflicts on defense stocks. Merriam Webster

defines war as "a state of open and declared armed hostile conflict between states or nations".

This literature review is consistent with this definition of conflicts. A relentless search on

‘Google Scholar shows sparse research on this topic. Most studies previously published assess

the impact of conflicts on financial markets as a whole, and not specifically on companies

associated with the defense sector. This array of loosely tied research compels me to assess the

beneficiaries of unending government defense spending.

9
 2. Literature Review

This research thesis is an attempt to assess the impact of selected geopolitical events on

U.S. aerospace and defense stocks. What follows in this section is a detailed literature review of

the most relevant studies conducted on this subject.

"Performance Analysis of Defense Stocks on the Background of Peace and Conflict in

the Post-Cold-War Era" (Auer, 2013) conducts a comprehensive analysis of aerospace and

defense stocks' reactions to conflictive and cooperative world events between 1990 and 2012.

Unlike prior literature, it employs a large international sample of companies and events without

hindsight bias. Findings suggest that annual returns of defense stocks correlate with defense

spending, while abnormal returns following geopolitical events depend on war location relative

to the event and the company’s involvement in the defense industry.

"Stock Volatility and the War Puzzle" by Gustavo S. Cortes, Angela Vossmeyer, Marc D.

Weidenmier addresses the "war puzzle," wherein stock markets exhibit lower volatility during

major wars and conflicts despite heightened uncertainty. This study, published in 2022, assesses

newly constructed data on more than 100 years of defense spending. It suggests that American

conflicts fought on foreign soil reduce stock volatility by preserving domestic capital stock.

Additionally, it hypothesizes that wartime military spending stabilizes firms' expected profits,

thus lowering stock volatility for firms that produce military goods. Empirical analysis using

U.S. military spending data supports this hypothesis, showing a significant negative effect of

defense expenditures on stock volatility. The study finds that stock volatility is 33 percent lower

during major wars and periods of conflict since 1921, even though inflation and money supply

show wide variations.” On the other hand, this study does not extend the analysis to stock market

returns of defense companies.

10
 Using stock returns from a sample of 94 countries over the period from 22 January to 24

March 2022, “The Impact of Ukraine Russia War on world stock market returns” (Boungou and

Yatie, 2022) document a negative relationship between the Ukraine–Russia war and world stock

market returns. This was the first empirical evidence provided for assessing the impact of the

Russia-Ukraine conflict on the stock markets. Prior to this research, there were purportedly no

empirical studies exploring the impact of the Ukraine–Russia war on world stock markets. This

paper is an attempt to fill this gap. However , they do not look into the stock performance of

defense companies.

Chen & Siems (2004) paper investigates the impact of 14 terrorist/military attacks from

1915 to 2004 on financial markets, particularly focusing on the Dow Jones Industrial Index.

They find that 12 out of 14 cases result in negative abnormal returns (AR), indicating a negative

market reaction to terror events. Additionally, they analyze the effect of 9/11 on global markets,

observing that the U.S. stock market recovered faster than others, attributing this to the

accommodative policy of the U.S. Federal Reserve Bank (Fed). Evidence suggests that this

increased market resilience can be partially explained by a stable banking/financial sector that

provides adequate liquidity to promote market stability and minimize panic.

Eldor & Melnick (2004): Examining the impact of terrorist attacks in Israel on Israeli

financial markets, this paper highlights that the market response to terror events depends on their

individual characteristics, such as location, type, and casualties. Intensified Palestinian terror

attacks after September 27, 2000 had a permanent negative effect on the stock market but not on

the foreign currency market. The stock market decline indicates that, beyond the loss of life and

personal injuries to victims, the terror attacks had real economic costs that reduced firms’

11
expected profits. Given the position of the balance of payments, the terror did not affect the value

of the shekel.

Capelle-Blancard and Couderc (2008), in their paper, “What Drives the Market Value of

Firms in the Defense Industry” investigate the drivers of significant stock price changes within

the defense industry. Utilizing a systematic event study methodology, the authors analyze data

from the 58 largest publicly listed defense companies spanning from 1995 to 2005. Through an

examination of statistically significant abnormal returns and associated information releases, the

study unveils notable insights. While confirming the influence of typical news events observed

across industries, such as formal earnings announcements and analysts' recommendations, the

research also identifies industry-specific factors. Specifically, geopolitical events emerge as

influential drivers of stock price movements within the defense sector, alongside the noteworthy

impact of bids and contracts frequency. This understanding sheds light on the unique dynamics

shaping stock prices within the defense industry, offering valuable insights for investors and

industry analysts alike. Specifically, “three specific features of the defense industry must be

underlined: (i) The high frequency of bid-related news: nearly 15% of the largest abnormal

returns in our sample. (ii) The relevance of geopolitical events: 8.1% of the largest abnormal

returns in our sample. (iii) The importance of public military spending: 5.4% of the largest

abnormal returns in our sample.” This will supplement my own thesis in explaining abnormal

returns.

“The Reaction of Defense Stocks to War News War” (Mastroianni, 1995) is a key paper

written around this topic. It documents that such news affects defense stocks: single factor

method used as the return generating process and tested for robustness using the GARCH

12
approach. Mastroianni uses the event study methodology on 34 events within the 24-year time

frame 1967 to 1991. He divides the time frame into five thematic periods within which he uses

different companies in his samples. The number of companies observed exceeds all previous

papers on the matter; Mastroianni uses an estimation method where the event window is

parameterized through dummy variables, which heavily affects the statistical significance.

Furthermore, Mastroianni looks at every event individually and fails to generalize his

observations, which makes it difficult to summarize his findings. He concludes that 12 out 34

events show significant ARs with a positive sign.

Previously conducted studies attempt to answer the research question around the

significance of abnormal returns posted by defense companies during geopolitical conflict. Thus,

my thesis is an attempt to update prior research and study the research question in the context of

recent events. Specifically, these events will be the Russia-Ukraine war and Israel-Hamas

conflict. Writing around recent events is an opportunity to say something original, and

supplement prior research.

13
3. Data

I) Data Constraints

This study is conducted on 9 individual firms and a diversified i-shares Aerospace &

Defense portfolio with 35 holdings. A smaller sample size for individual firms is selected for two

reasons. First, based on the Department of Defense reports discerning contract awards, these

companies represent the industry comprehensively. They have a history of supplying weapon

systems to the US Armed Forces, and given their products, were beneficiaries of contract wins in

2021. Considering this, I wanted to study the impact of wars on companies that i) were highly

likely to be impacted by this event, ii) would almost certainly make it to an investor’s defense

portfolio, and iii) have major institutional holdings. Secondly, for manageability purposes, I

thought it better to conduct a thorough analysis of these representative companies.

A representative sample of firms that supply equipment, or list receiving government

contracts, are included in the analysis, with the exception of firms lacking headquarters

information, those with negative book value of equity, entities with missing financial data, and

firms not listed on the NYSE, NASDAQ, or AMEX exchanges. This exclusion criteria ensures a

focused examination of publicly traded defense companies with clean financial data and market

presence. This sample provides sufficient variability in terms of manufacturing capacity,

products, and market capitalization. This would likely produce robust results, and mitigate the

constraints associated with studying a small sample size.

All the individual companies analyzed in this study were likely to be involved in USA’s

military efforts in Ukraine. Three small and mid-cap companies were also included in the sample

to observe whether firm size impacts abnormal returns, discussed ahead. Raytheon Technologies

14
(RTX.N) and Lockheed Martin Corp (LMT.N) are among the key manufacturers of defense

systems. Other major players in the defense industry include Boeing Co (BA.N), Northrop

Grumman (NOC.N), General Dynamics (GD.N), and L3Harris Technologies (LHX.N). Howmet

Aerospace (NYSE:HWM), Parsons Corporation (NYSE:PSN) and Curtiss-Wright (NYSE:CW)

were the smaller-cap companies I picked as part of the sample, in accordance with the criterion

discerned previously.

II) Data and Information Considered

By analyzing historical stock return data, the research seeks to understand whether

significant geopolitical events affect the stock prices of defense companies. The selection of

defense companies was based on a history of procuring government’s Department of Defense

contracts and tracking current contracts announced by the DoD. These contracts were matched

with the industry leading producers of such equipment.

Furthermore, extensive research was conducted into understanding the weapon systems,

radars, and other machinery that was contracted by the DoD. This data was collected from USA

Spending, a website maintained by the government of the US. News articles and DoD

announcements were also used to track such contracts. Please see below a list of all orders

tracked. The purpose of this was to understand what firms were major beneficiaries of

government contracts. As discussed, a sample of 9 such firms, that were direct beneficiaries of

government contracts, were benchmarked against the Vanguard Aerospace and Defense ETF

(NYSE: ITA) and the SPY.

15
Figure 2: Defense contracts received by Major Contractors in 2022

16
Table 1: Weapon Systems Contracted out in 2021-22 (Department of Defense)

Equipment Quantity

High Mobility Artillery Rocket Systems (HIMARS) 39

National Advanced Surface-to-Air Missile Systems (NASAMS) 12

Patriot air defense battery 1

Air surveillance radars 21

Abrams tanks 31

T-72B tanks 45

Bradley infantry fighting vehicles 186

M113 Armored Personnel Carriers 300

Stryker Armored Personnel Carriers 189

Stinger anti-aircraft missiles 2,000+

Javelin anti-armor systems 10,000+

Other anti-armor systems 90,000+

Phoenix Ghost UAS, F-35, F-22, Switchblade UAS, Other UAS Not specified

155 mm Howitzers 198

105 mm Howitzers 72

Mortar systems 227

17
Remote Anti-Armor Mine (RAAM) Systems Not specified

Tube-Launched, Optically-Tracked, WireGuided (TOW) missiles 9,000+

High-speed anti-radiation missiles (HARMs), Laser guided rocket systems Not specified

Grenade launchers 35,000+

18
4. Methodological Framework

The research methodology employed in this thesis utilizes data sourced from Yahoo

Finance and Capital IQ platforms, providing interactive functionalities tailored to retrieving all

stock return data.

The event study methodology adopted in this research entails a well-defined process.

Initially, daily firm-specific returns are calculated alongside daily market returns. Then, excess

returns are calculated by stripping out the effect of daily interest rates. Subsequently, CAPM

beta, a critical measure of stock volatility relative to the broader market, is calculated within a

predetermined pre-event window. Beta is calculated by regressing stock returns (independent

variable) on market returns (dependent variable). We use this beta to estimate predicted returns

for the event window using the Capital Asset Pricing Model (CAPM) single-factor model.

Finally, abnormal returns are calculated by subtracting predicted returns from actual returns.

Essentially, abnormal returns are computed using the market model, which estimates

expected returns based on historical stock performance and market indices. Daily returns for

defense stocks and the control group are calculated, and abnormal returns are derived by

subtracting expected returns from actual returns (calculated using the CAPM).

19
 CAPM

E (Ri) = Rf + β(MRP)

Where, E (Ri)is the expected return of asset i

Rf is the risk-free rate

MRP is the market risk premium

Β is the beta coefficient of asset i

Abnormal Returns

AR i ​=R i − E[R i ]​

where AR i is the abnormal returns of asset i

R i is the actual returns of the asset i

E[R i ​] is the Expected return of the asset i using CAPM

CARt is the cumulative abnormal returns of the asset i during the event window and is calculated

as the sum of AR i

CARt = ∑AR i ​

20
 Stock Performance Around Russian Invasion of Ukraine

Figure 3: Stock performance of major defense companies around the first event window (see specifically for Jan -

April 2022), showing marked outperformance against the NYSE benchmark.

I) Event Selection

Significant wars and conflicts studied here are selected based on current events. Each

event is defined with specific start and end dates, delineating the period of heightened

geopolitical tension and military engagement. Specifically, for this thesis, these events will be the

Russia-Ukraine war and Israel-Hamas conflict. Notedly, the Russia-Ukraine conflict is an event

that renders extensive American and global intervention. It is less regional in nature as compared

to Hamas’ attack on Israel. We can estimate this using the number of casualties, the amount of

aid packages and defense contracts awarded. According to the Russian Ministry of Defense, the

number of Ukrainian casualties is estimated to be 444,000 between February 2022 and March

21
2024. On the other hand, the Armed Forces of Ukraine estimate 409,820 losses for the Russian

forces. According to the US Department of State, military aid provided to Ukraine since Russia’s

full scale invasion of Ukraine amounted to $44.2B.

During the same time, for my second event, as of 8 April 2024, over 34,000 people were

killed on both sides. The US provided $3.8B in aid to Israel, a considerably smaller amount as

compared to its funding for Ukraine’s resistance. Considering this, the study adjusts the event

windows to reflect the scale of war and estimated American company involvement. Thus, for the

second event, I hypothesize smaller differences in abnormal returns and volatility between

pre-event and the event window. Hamas’ attack on Israel was a surprise attack and provides a

natural experiment for an event study, with the window being shorter to better capture the surprise.

II) Event Window

a) Event 1. Russian Invasion of Ukraine

The event window begins with the announcement of war or a severe provocation that

could mark the beginning of the war. A window of 57 days is chosen to allow for comprehensive

analysis of stock price movements around the identified events. This window could be switched

to compare for any aberrations.

i) Major Events Dates for the Event Window

Satellite imagery showed a significant deployment of Russian troops to its border with

Belarus during mid-December-early-January 2021-22. Commercial satellite imagery and media

22
sources showed heavy armory and weapons moving toward Ukraine with no official explanation

from the Kremlin. According to the American Ministry of Foreign Relations, “Russia’s foreign

ministry called on the United States and NATO to cease military activity in Eastern Europe and

Central Asia, commit to no further NATO expansion toward Russia, and prevent Ukraine from

joining NATO in the future. The United States and other NATO allies rejected these demands

and threatened to impose severe economic sanctions if Russia took aggressive action against

Ukraine.” Early February 2022 - negotiations between the United States, Russia, and European

powers failed to bring about a resolution. The United States warned of Russia's intention to

invade Ukraine. Satellite imagery showed the largest deployment of troops since the Cold War

and the United States warned that Russia intended to invade Ukraine.

February 24, 2022: Putin announced the beginning of a full-scale land, sea, and air

invasion of Ukraine. They first targeted Ukrainian military assets and cities across the country.

Evidently, this marks the day of the event in my study. Ukraine became the world's third biggest

arms importer in 2022, ranking fifth among the US' main arms export destinations, according to

data from Statista.

23
Table 2: Findings Summary for event 1: Russia Ukraine War

Cumulative
Abnormal Actual Pre-event Event Window
Firm CAPM Returns Returns Beta Beta

RTX 2.05% 10.38% 12.43% 0.89 0.65

Lockheed 2.11% 19.70% 21.81% 0.93 0.02

L3Harris 1.97% 21.41% 23.83% 0.89 0.47

Huntington Ingalls 2.17% 8.48% 10.65% 0.92 0.50

Northrop Grumman 2.14% 17.73% 19.87% 0.95 0.31

General Dynamics 2.09% 13.73% 15.82% 0.92 0.26

Howmet Aero 2.73% 2.53% 5.27% 1.36 1.20

Curtiss-Wright 2.47% 8.39% 10.86% 1.18 0.75

Parsons 1.97% 21.41% 23.38% 0.84 1.04

ITA (not stat. significant) 2.28% 0.05% 2.33% 1.02 -0.14

Note: T-test was performed to check for statistical significance of abnormal returns. All results were statistically

significant at the 5% confidence level for the Russia-Ukraine war, except the A&D i-shares ITA fund. T-test value

exceeded the critical value for all other observations.

24
Actual Returns of sample firms (Event 1)

Figure 4: Actual Returns. We can see elevated returns during the event window discerned for capturing the impact of

Russia-Ukraine war impact on defense stock returns where the SPY returned -5%.

25
Expected versus abnormal returns

Figure 5: CAPM and Abnormal Returns. Expected returns are much lower than the abnormal returns we observe.

Pre-event beta vs event beta

26
Figure 6: Pre-event beta and during the event window. The extra demand driving defense firms is not shared by the

overall economy. So, the proportion of defense stock return variance explained by the market return goes down, as

explained by the beta and low R-squared during the event window.

27
Figure 7: Firm specific abnormal returns during the first event window

28
Event 2. Hamas Attack on Israel

An important point to be understood here is that Israel has been a regular recipient of aid

from the US. 15% of Israel’s defense budget comes from the US. However, this is not to say that

some of the funding is not returned to the US in the form of defense contracts to US companies.

The expectation of abnormal returns in US defense company stocks comes from additional aid

packages expected, therefore. On October 7, 2023, Hamas executed one of the deadliest attacks

in Israel’s history. In response, Israel waged unprecedented aerial and ground attacks on Gaza

after Hamas-led attacks on Israel. Approximate numbers peg Palenstinians deaths at 30,000 at a

historic pace.

On March 6, the Washington Post reported that only two of 100 separate foreign military

sales since October 7 have been public, with the rest falling below Congressional notification

thresholds, together "amounting to thousands of precision-guided munitions, small-diameter

bombs, bunker busters, small arms and other lethal aid." Additionally, the House passed a

$14.2B military aid package to Israel on Nov 2. This package was yet to pass the Senate, and is

not considered a sub-event. The discerned event date for the Israel-Hamas conflict is October 6,

2024, denoted T. Returns are calculated for T-10, and T+10. The shorter event window for

Israel-Hamas compared to Ukraine-Russia reflects the scale of war as previously elaborated.

29
Table 3. Summarizing all event 2 (Israel-Hamas conflict) findings

Cumulative Event
Abnormal Actual Pre-event Window
Firm CAPM Returns Returns S&P Beta Beta

RTX 0.94% -3.86% -2.92% -2.38% 0.89 0.52

Lockheed 0.92% 0.15% 1.07% -2.38% 0.93 0.51

L3Harris 0.87% 0.98% 1.85% -2.38% 0.89 0.66

Huntington
Ingalls 0.95% 1.05% 2.00% -2.38% 0.92 0.77
Northrop
Grumman 0.94% 2.86% 3.80% -2.38% 0.95 0.39
General
Dynamics 0.92% 0.94% 1.86% -2.38% 0.92 0.85

Howmet Aero 1.15% -6.49% -5.33% -2.38% 1.36 0.92

Curtiss-Wright 1.06% -4.15% -3.09% -2.38% 1.18 0.84

Parsons 0.87% 0.98% 1.85% -2.38% 0.84 0.68

ITA 1.02% -4.31% -3.29% -2.38% 1.02 -0.24

Note: T-test was performed to check for statistical significance of abnormal returns. Results were statistically

significant at the 5% confidence level for the bolded firms for the Israel-Hamas conflict. T-test value exceeded the

critical value for these firms.

30
CAPM vs Abnormal Returns for Firms with Statistically Significant

Abnormal Returns

Figure 8: CAPM vs Abnormal returns for the 4 firms for Event 2

Actual Returns versus the S&P Returns during Hamas-Attack on Israel

Figure 9: Actual returns for defense companies during Israel - Hamas conflict whose abnormal returns were

statistically significant versus the SPY

31
Difference between pre-event beta and beta during event window 2

Figure 10: Event versus historical beta for firms with statistically significant Abnormal Returns for Israel-Hamas

conflict

Firm Wise Abnormal Returns Showing Spike on D-Day

Figure 11: Statistically significant abnormal returns for the second event

32
 Given the scale of the Israel-Hamas conflict, and it being a largely regional conflict, we

hypothesized smaller abnormal returns. Here, we see a smaller impact of the event, as

hypothesized. The results are significant for only 4 out of the 9 assets analyzed and show smaller

abnormal returns. Furthermore, this study also aimed to understand abnormal returns during both

events by analyzing three factors: firm size, presence of ex-military board members, and history

of winning defense contracts. However, all firms in the study shared these characteristics,

making it difficult to draw firm-specific conclusions. Additionally, due to the small sample size

and limited observation set, particularly within the event windows, the results lacked statistical

significance, even concerning firm size.

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5. Limitations
Limitations in the event study may arise from data availability of exact events that may

have impacted stock prices. For example, it is incredibly hard to extrapolate the effect of

government contracts received by specific firms on given days.

The research may have survivorship bias because it researches hand-picked companies

with a history of getting defense contracts. These are industry leaders, and bake in the

assumption that they will receive contracts from the government, and thus have some impact

from the event. This was done to study firms that are most likely to be in a portfolio of defense

companies. Secondly, the market model relies on assumptions of market efficiency and

correlation between stock returns and market indices. Unforeseen external factors or concurrent

events may confound the analysis, necessitating careful interpretation of results.

Additionally, using separate firms as opposed to a portfolio may record some errors in

individual stock betas, which would be canceled in a portfolio approach. Lastly, by grouping

securities in a portfolio, we can reduce the random component in variation in returns (about

70%), and thereby get a much clearer view of the relationship between systematic risk and

return.

As a mitigating factor, this study conducts analysis on the ITA portfolio that consists of

35 firms. Moreover, the focus here was to study a sample portfolio that is most likely to replicate

an investor’s choice of firms.

34
6. Conclusion
War and conflict have continually and periodically impacted the course of history. While

we understand the broader economic and humanitarian implications of war, its impact on defense

companies and our portfolio construction are less understood. This thesis suggests including

leading defense and aerospace companies in our equity portfolios, given lower volatility and

higher returns specific to the industry - disproportionately shared by major government

contractors.

The analysis was conducted as an event study that utilized a market model, with data

retrieved from CapIQ and Yahoo Finance for stock returns and the S&P 500. Department of

Defense and USA Spending websites were utilized to track government contracts, and various

primary sources like news articles and USA Foreign Affairs Ministry website were used to track

the timeline and unfolding of events. These became the basis for constructing my event window.

My findings were concurrent with past research, generally showing positive abnormal

returns. That is, events of war and conflict positively impacted leading defense companies.

Beyond specific companies that were studied as part of my sample, the index of defense and

aerospace companies also shows positive abnormal returns during the Russia-Ukraine War but

not the Israel-Hamas conflict. This is possibly because of low American involvement in the war,

as explained in literature review, where location of the war and American involvement is an

important factor explaining stock returns.

All firms showed lower beta during the event window as compared to their historical

pre-event betas. This shows lower volatility in defense companies, associated with reduced

dispersion in earnings due to increased government spending as a possible explanation. This

supports the relevant literature review and updates it for current events, with major reference to

35
“Stock volatility and the War Puzzle”, which shows a 33% reduction in volatility for producers

of military goods during events of war.

This thesis finds positive abnormal returns in defense companies and the ITA for a major

war, Russian invasion of Ukraine. It is also able to establish statistical significance for four of the

nine defense companies in the second selected event: Israel-Hamas conflict. Additionally, stock

volatility reduces during both events, supplementing prior literature. Lastly, this study tried to

explain the abnormal returns during the event window using three variables: firm size, presence

of ex-military board members, and a history of winning defense contracts with the government.

These were meant to be firm specific observations. However, all firms had an ex-military board

member and a history of getting defense contracts. Moreover, given the small sample size and set

of observations, constrained by the length of the event windows, our results were not statistically

significant, even for firm size. For explaining this, prior literature alludes to i) frequency of bid

related news, ii) increased defense spending, and iii) relevance of geopolitical events as being

correlated with positive abnormal returns.

Further research can be conducted into the impact of supply chain disruptions and

increased commodity costs affecting availability of raw material, and therefore, limiting weapon

manufacturing. Researchers could look into how these costs and disruption affect defense

company balance sheets and profitability. Finally, this research is important for asset

management portfolios, now increasingly divided by ESG metrics, in making sound financial

decisions and recognizing the value in holding leading aerospace and defense companies during

global conflicts.

36
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