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Incredibly, Rolls-Royce (LSE: RR) shares are up 2,127% in the last five years. Somebody who had invested £10,000 at the start of that run would have an astonishing £222,700 today.
No UK blue-chip comes close to matching its upwards velocity. It’s one of the most astonishing FTSE 100 share price recoveries in my investment lifetime, and it doesn’t appear to be over yet. Over the last 12 months, the Rolls-Royce share price is still one of the best performers on the FTSE 100, climbing 124%.
FTSE 100 defence heroes
This turbo-charged performance is down to a number of factors, including the post-pandemic recovery in flying times, and probably the single most important driver of all, the appointment of CEO Tufan Erginbilgic in January 2023.
Instead of demoralising staff and investors with his opening gambit of damning Rolls-Royce as a “burning platform”, he somehow energised them. And the energy still burns, as it explores new growth opportunities in areas such as many mini-nuclear plants and defence.
With a price-to-earnings (P/E) ratio of almost 57 it’s very expensive and I would normally steer well clear. The same would apply to two other FTSE 100 stocks that have also done well lately: Babcock International Group (LSE: BAB) and BAE Systems (LSE: BA).
Babcock grows at speed
The Babcock share price is up 169% over 12 months, outpacing Rolls, and 463% over five years. BAE Systems is up 62% and 308% over the same timescale.
Somebody who had invested £10,000 in each of these two FTSE 100 defence stocks five years ago would have £56,400 and £40,800 today, with dividends on top.
Unsurprisingly, neither are cheap. Babcock trades on a P/E ratio of around 24.5, with BAE Systems nudging 29. While nowhere near as pricey as Rolls-Royce, investors are clearly pricing in plenty of growth to come.
BAE Systems has a huge order book
This is understandable, looking at their order books. Babcock, the smaller of the two with a market cap of £6.38bn, currently has a mighty £10.4bn contract backlog. BAE, a bigger £58.8bn enterprise, has an even bigger order backlog, of £75.4bn. And that’s despite a slight dip in orders lately.
This gives investors massive earnings visibility, but it doesn’t guarantee the shares will keep rising. Making money isn’t enough. Investors want to see revenue and profits to rise at speed. Underperformance will be punished. Naturally, the same goes for Rolls-Royce. It’s mighty valuation demands that ‘Turbo Tufan’ continues to break the sound barrier, or at least, beat profits guidance.
I’m a little wary of buying them today, because there’s scope for disappointment here. But then I read the awful news, and my doubts fade away.
Powers outside of NATO continue to worry Western Governments. Germany is planning to ramp up its defence spending. The UK and Europe are planning a drone wall. Heaven knows what Donald Trump is up to. Babcock is talking of a “new era for defence” and tragically, I think it’s right.
Of couse, European governments could fail to live up to defence pledges. Tensions could ease, and investors move on. But I still think having exposure to these three stocks in a balanced portfolio is a no-brainer. And despite their heady evaluations, I think all three are worth considering today.
