Can the UK boost defence spending – and which stocks might benefit if it does?

Introduction: A Growing Imperative for UK Defence

In a world increasingly fraught with geopolitical tensions, the issue of national security is more pressing than ever. The UK government has responded to these challenges by unveiling a Defence Investment Plan (DIP) that aims to ramp up defence spending to £80 billion by 2029. This ambitious plan reflects a broader trend of rising military expenditures globally, with total global military spending reaching an unprecedented $2.9 trillion in 2025, according to the Stockholm International Peace Research Institute. Despite this increase, the UK’s defence budget is still poised to fall short of NATO's recommended threshold of 5% of a nation’s GDP, leading many to question the sufficiency of the DIP.

The Context: Global Defence Spending on the Rise

Military spending around the world has skyrocketed, with Europe alone experiencing a 25% increase in 2025. Such figures highlight a concerted effort by nations to enhance their military capabilities in response to various threats, including cyber-attacks, territorial disputes, and asymmetric warfare. Tom Bailey, head of research at ETF issuer HANetf, notes that while the UK has seen a 32% increase in defence spending over the past decade, this pales in comparison to the more significant hikes observed in countries like Germany, Poland, and Japan.

As global dynamics shift and the threats evolve, the UK government faces mounting pressure to bolster its military capabilities. Former Defence Secretary John Healey has openly criticized the DIP for its perceived inadequacies, stating that it "falls well short" of what is required during such perilous times. His resignation, along with that of armed forces minister Al Carns, underscores the urgency and dissatisfaction enveloping the current defence strategy.

The Economics of Defence Spending: A Balancing Act

The challenge for the UK government is not merely to increase defence spending but to do so without exacerbating an already precarious fiscal situation. Economic growth remains sluggish, and rising debt levels pose a significant risk. Neil Wilson, UK investor strategist at Saxo, emphasizes that any attempts to boost military expenditure could trigger adverse reactions in the debt markets.

This complicates the fiscal landscape, as recent historical examples illustrate the difficulties faced by governments attempting to balance military needs with economic constraints. For instance, Germany’s recent decision to scrap a new warship program highlights the serious challenges that even more robust economies face when trying to meet military spending commitments.

What Lies Ahead: Key Components of the Defence Investment Plan

The Defence Investment Plan was initially anticipated to be unveiled at the end of last year but faced delays due to negotiations between the Ministry of Defence (MoD) and the Treasury. Ultimately, the DIP allocates £298 billion to defence over the next four years, including an additional £15 billion in spending. Among its key components are:

• Nuclear Deterrent: £20 billion earmarked for enhancing the UK’s nuclear capabilities, including the procurement of F-35A stealth fighter jets.
• Drone Investment: £5 billion set aside for drones and autonomous systems, reflecting a strategic pivot towards modern warfare technology.
• Space and Cyber Capabilities: £3.2 billion for bolstering space capabilities and £2.5 billion for cyber and electromagnetic defence systems.

While these figures may seem substantial, they are relatively modest when compared to the US’s multi-year Drone Dominance programme, which commands a budget of approximately $55 billion.

The Stakes: Implications for Defence Stocks

With increased defence spending on the horizon, investors are keen to identify which companies stand to benefit. Historically, the UK’s defence procurement has favored domestic firms, with about 45% of MoD spending directed towards UK-headquartered companies since 2019. However, there is also a notable shift away from over-reliance on US firms, a trend driven by the unpredictability of US foreign policy.

Among the companies poised to gain from heightened UK defence spending are:

• BAE Systems (LON:BA): A key player in the development of the Tempest jet, BAE Systems saw its shares rise nearly 10% shortly after the DIP announcement.
• Chemring (LON:CHG): Specializing in sensors and electronic warfare, Chemring is positioned to capitalize on the MoD’s technological shift.
• Rolls-Royce (LON:RR): Benefiting from nuclear power initiatives and the Tempest project, Rolls-Royce's stock performance has been robust, gaining 45% over the past year.
• QinetiQ (LON:QQ): Focused on artificial intelligence and robotics, QinetiQ is another company to watch as defence strategies evolve.

Additionally, smaller companies like Filtronic (LON:FTC), Concurrent (LON:CNC), and MS International (LON:MSI) are also worth monitoring, as they possess significant defence contracts and may benefit from increased spending.

The Market Response: Why Defence Stocks Haven’t Soared

Despite the optimistic outlook for UK defence spending, defence stocks have not responded as favorably as one might expect. After an initial surge following the DIP announcement, BAE Systems’ stock has only managed a modest 2.4% increase in the year leading up to July 8. Similarly, while Rolls-Royce enjoyed a 45% rise, much of this growth occurred prior to the DIP’s unveiling, and the stock fell by 1.1% post-announcement.

Several factors contribute to this lukewarm market response:

• Underwhelming Expectations: Investors anticipated a more significant boost to UK defence spending, and the market had priced in expectations of a more substantial increase.
• Disappointment with the DIP: The relatively modest nature of the DIP has left many investors feeling disappointed, as it failed to fully address the growing needs of the UK's military.

Investment Strategies: How to Gain Exposure to UK Defence

For investors looking to capitalize on the anticipated growth in UK defence spending, there are several avenues to consider. Direct investment in individual defence stocks is one option, but the landscape is also ripe for exchange-traded funds (ETFs) that offer diversified exposure to the sector. Notable ETFs include:

• HANetf Future of European Defence Screened UCITS ETF (LON:NAVY): Focuses specifically on European defence companies, with about 25% of assets allocated to UK firms.
• WisdomTree Europe Defence UCITS ETF (LON:WDEP): Another ETF with significant exposure to European defence markets.

For those interested in a broader approach, open-ended funds and investment trusts focusing on defence are less common but may include holdings in major players like Rolls-Royce and BAE Systems.

Conclusion: Navigating the Future of UK Defence Spending

As the UK government embarks on its ambitious Defence Investment Plan, the implications for the defence sector and associated stocks are complex and multifaceted. While increasing military expenditure is essential for national security, it must be balanced against economic realities and fiscal constraints. Investors should remain vigilant, closely monitoring both market reactions and the evolving political landscape.

In this ever-changing arena, understanding the nuanced dynamics of defence spending will be crucial for making informed investment decisions. As the world becomes increasingly interconnected, the stakes for both national security and market performance have never been higher. For those willing to navigate this intricate landscape, ample opportunities may lie ahead.

Stay tuned for further developments as the UK defence strategy unfolds, and consider how these changes might impact your investment portfolio.