• 23 NATO allies are expected to meet the defence spending guidelines this year, up from just 11 last year
• The UK is expected to increase defence spending to 2.5% of GDP, ahead of the NATO 2% guideline, over the next decade
• Total defence spending last year grew by the steepest amount in 15 years

With the Russian invasion of Ukraine, the need for military modernization and an increasing number of regional conflicts around the world, it is no surprise that defence spending has been on the rise. In 2014, following Russia’s annexation of Crimea and instability in the Middle East, members of NATO committed to spending 2% of national GDP on defence annually. When this was first brought into force in 2014, only three Allies actually met this ‘guideline’. This year, it is expected that 23 of the 32 NATO Allies will meet this target, up from just 11 in 2023. The below chart is a year out of date but shows quite clearly the increase in defence spending over the last decade of NATO members. Unsurprisingly, the countries bordering or near Russia are topping the chart:

Source: House of Commons Library, UK defence spending, 03 May 2024

The UK

Rishi Sunak in his Spring Budget of this year, pledged to increase UK defence spending to 2.5% of GDP by 2030 which equates to £75 billion. Since then, Labour have taken over but have carried forward this commitment, adding that they will achieve it ‘as soon as we can’. The problem is where does this money come from? We are already expecting a ‘painful’ October budget to cover a £22 billion shortfall this year. Civil service job cuts are something that Sunak was going to look at but with unemployment on the rise over the last couple of years, it may be that the 2.5% goal is pushed back a little further.

The Rest of the world

If you look back at the 70s and 80s during the Cold War, military spending around the world was between 3% and 4% of GDP so it has declined significantly since then (as a share of GDP). Countries have allocated more of their budgets to education, health and the transition to net zero. However, international tensions are rising and there is a world in which we get back to that 4% level of spending on defence.  China increased their spending on defence by 6% from 2022 to 2023 whilst Japan and Taiwan both increased their spending by 11%. The US’ spending has remained high, whilst Emerging Market countries like India and Brazil have also ramped up spending lately. In total, military spending rose by 6.8% to $2.4 trillion, the steepest year on year % increase since 2009.

Bowmore Portfolios and the investment opportunity

The investment opportunity in defence spending will always be a controversial one. Almost all of the funds within our ESG portfolios employ negative screening where they completely avoid any companies in the defence industry. The couple that don’t completely exclude it instead underweight it. Our ESG portfolios have just 0.5% exposure to military contracting which comes through a small allocation to a US passive fund. As stewards of capital, we do want to capitalise on the investment opportunities out there and the increasing trend in defence spending. Our Core portfolios, therefore, have a slightly larger 2.2% exposure to military.

The funds we hold invest in companies that are not involved in anything too controversial like cluster munitions, but instead focus on the defence side. An example would be Safran that makes surveillance and secure communication systems, aircraft equipment as well as technologies involved in space exploration and satellite propulsion. This company is up 32% over the last year.