High-Flying Defense Stocks Tumble: Market Jitters or DoD Cuts?

Key Points

• The Department of Defense (DoD) plans to reduce its budget by $50 billion annually over the next five years, an 8% reduction.
• High-flying defense and technology stocks like Palantir and Axon experienced sharp declines following the headline.
• The muted response from major defense giants suggests the budget cuts may be more noise than a fundamental shift.

In recent days, shares of several major defense companies have experienced significant declines, mirroring broader market sell-offs. The downward pressure on leading technology and defense stocks like Palantir and Axon Enterprise appears to be driven by a combination of escalating recession fears and a risk-off approach in the markets, trade war concerns, and a newly announced budget-cutting initiative by the U.S. Department of Defense (DoD).

On February 19, the Pentagon, under the direction of newly appointed Defense Secretary Pete Hegseth, announced a plan to slash its budget by $50 billion annually over the next five years, approximately an 8% reduction each year. While the specifics of these cuts remain unclear, the news has raised concerns about how deeply they might affect defense contractors, who rely heavily on government contracts for their revenue streams.

The Immediate Market Reaction

Unsurprisingly, the announcement triggered a wave of selling in several high-flying defense stocks. Palantir NASDAQ: PLTR, which derives nearly 40% of its revenue from government contracts, saw its stock price tumble on February 19, along with other defense stocks that were previously up significantly year-to-date(YTD).

This drop came despite the company’s strong momentum earlier in the year, with shares surging almost 70% YTD before the news, only to now fall 32% from their all-time high.

However, some analysts, such as Dan Ives, remain bullish on Palantir. Ives emphasized that Palantir’s leadership in AI technology and its robust commercial growth (54% year-over-year in Q4 2024) could help offset potential losses from defense budget cuts. He pointed out that the budget reductions appear to be targeting "woke" programs and bureaucratic overhead rather than AI and drone initiatives, which remain key priorities for the DoD.

Axon Enterprise NASDAQ: AXON also experienced a sharp sell-off, breaking its uptrend and slipping from an all-time high reached just the day before the DoD announcement.

Though Axon has some exposure to the DoD, its core business focuses more on law enforcement and public safety, making it less vulnerable to direct cuts than traditional defense contractors.

Axon’s Q4 revenue growth of 34% year over year further underscores its diversified customer base and strong commercial momentum.

The Larger Defense Picture: Lockheed Martin's Stability

Interestingly, Lockheed Martin NYSE: LMT, the largest defense contractor in the U.S., showed relative stability in response to the news. And they weren’t the only ones. Shares of General Dynamics, which has significant exposure through naval programs and land systems, remained essentially unchanged, similar to LMT.

This muted reaction suggests investors may believe the cuts will spare critical weapons systems and procurement budgets, focusing instead on non-essential spending. Furthermore, Lockheed's more attractive valuation, with a forward P/E of 14.98, likely insulated it from the sharp sell-off in higher-multiple stocks like Palantir and Axon.

Other defense giants, such as Northrop Grumman and RTX, were largely unscathed by the headline and overall market sell-off. This reinforces the idea that the sharp declines in AXON and PLTR reflected the broader market's risk-off sentiment rather than a direct fallout from the DoD budget cut announcement.

Noise or Fundamental Change?

The key question now is whether these DoD cuts mark a fundamental shift for defense companies or simply represent short-term noise. The lack of a sharp sell-off in Lockheed Martin and other defense giants suggests that the headline may be more noise for now, as investors wait for further details on which programs will be affected.

Sharp declines in high-flying stocks like Palantir and Axon appear more tied to broader market profit-taking and risk-off behavior than direct ramifications from the proposed budget cuts. Short-term volatility will likely persist until more specifics emerge about the $50 billion in annual reductions, but the long-term impact remains uncertain.