U.S. Defense Sector Resilience Amid Shifting Equity Mandates: Strategic Positioning for Long-Term Investors

The U.S. defense sector has long been a cornerstone of economic and geopolitical stability, adapting to shifting political priorities and regulatory landscapes. As of 2025, the sector faces a unique confluence of challenges and opportunities, driven by evolving equity mandates and legislative priorities. For long-term investors, understanding these dynamics is critical to identifying resilient opportunities in a sector poised for sustained growth.

Historical Context: Defense Spending and Political Cycles

From 2000 to 2025, U.S. defense spending has oscillated in response to geopolitical events and administration priorities. The George W. Bush administration's post-9/11 surge in defense spending-peaking at 4% of GDP-was followed by sequester-driven reductions under Obama and Trump, bringing spending closer to 3.5% of GDP. The Biden administration has reversed this trend, with the 2025 defense budget reaching $850 billion (3% of GDP), reflecting a strategic pivot toward countering China and Russia. This historical pattern underscores the sector's ability to adapt to political cycles while maintaining long-term relevance.

Recent legislative actions, such as the Biden-McCarthy agreement of 2023, have set the defense budget on a growth trajectory, albeit at a modest pace compared to the 3–5% annual real growth proposed by many strategists. The National Defense Authorization Act (NDAA) for Fiscal Year 2025 (S.4638) further solidifies this trend, authorizing $142 billion for procurement and $122 billion for R&D, with a focus on domestic manufacturing and advanced technologies like the CH-53K helicopter and Virginia-class submarines.

Equity Mandates and Regulatory Shifts: A Double-Edged Sword

The defense sector's resilience is increasingly tested by shifting equity mandates. Executive Order 14173, issued in January 2025, mandates the termination of federal DEI programs deemed to violate anti-discrimination laws, emphasizing merit-based practices. This has significant implications for defense contractors, which must now revise internal DEI initiatives and affirm compliance with anti-discrimination statutes in all contracts. The Department of Justice (DOJ) has reinforced these policies, identifying race-based hiring preferences and segregated training as presumptively unlawful.

For investors, these regulatory shifts create both risks and opportunities. Federal contractors face heightened legal exposure, including potential enforcement actions under the False Claims Act, if their DEI practices are found non-compliant. The DOJ's encouragement of whistleblower reporting further amplifies litigation risks and reputational damage for non-compliant firms. Conversely, companies that align with merit-based employment and transparent, skills-driven practices may gain a competitive edge, particularly as the sector prioritizes efficiency and accountability.

Strategic Positioning for Long-Term Investors

The defense sector's growth is underpinned by structural tailwinds, including global defense spending reaching $2.718 trillion in 2024 and a surge in defense ETF assets to $35 billion. Investors should focus on firms that align with the sector's evolving priorities:

1. Domestic Manufacturing and Supply Chain Resilience: The Office of Strategic Capital (OSC), established in 2023, is deploying credit-based financial products to support critical technologies such as microelectronics and autonomous systems. Companies like Lockheed Martin and Raytheon, which benefit from NDAA-funded procurement contracts, are well-positioned to capitalize on this trend.

2. Technological Innovation: The 2025 NDAA's emphasis on R&D and modernization ensures sustained demand for advanced systems. Investors should prioritize firms with strong R&D pipelines and partnerships with the DoD, as these are likely to secure long-term contracts.

3. Private Equity Involvement: While private equity firms have accelerated innovation in areas like AI and autonomous systems, their short-term focus introduces financial fragility. Investors must weigh the potential for rapid growth against the risks of high debt burdens and limited investment timelines.

4. Geopolitical Diversification: The rise of European and Middle Eastern defense ETFs highlights the sector's global expansion. Investors with a long-term horizon may benefit from diversifying across regions, particularly as European nations increase defense spending in response to regional tensions.

Conclusion: Navigating Uncertainty with a Long-Term Lens

The U.S. defense sector's resilience lies in its ability to adapt to shifting political and regulatory environments. While equity mandates like Executive Order 14173 introduce compliance challenges, they also create opportunities for companies that prioritize merit-based practices and operational efficiency. For long-term investors, the key is to focus on structural growth drivers-domestic manufacturing, technological innovation, and geopolitical demand-while mitigating risks through diversified portfolios and rigorous due diligence.

As the sector navigates this complex landscape, strategic positioning will be critical. Investors who align with the DoD's priorities and support companies with robust compliance frameworks are likely to reap the rewards of a sector that remains central to national security and economic stability.