Defense Contractors at a Crossroads: Navigating European Skepticism and Geopolitical Shifts

The defense industry has long thrived on the bedrock of transatlantic alliances, but the winds of change are blowing. For U.S. defense contractors like Lockheed Martin, the question is no longer whether Europe will remain a key market, but how quickly the continent's growing strategic autonomy will reshape the landscape. With the European Union's aggressive rearmament agenda and a recalibration of U.S. foreign policy under the Trump administration, the long-term viability of U.S. defense exports faces a critical test.

The EU's Strategic Rebalancing

The European Union's 2025 defense procurement policies signal a deliberate pivot toward self-reliance. The SAFE (Security Action for Europe) instrument, a €150 billion fund, and the broader ReArm Europe plan—totaling €800 billion—aim to reduce dependency on external suppliers, including the U.S. By 2030, European defense spending is projected to reach 3% of GDP, with equipment procurement quadrupling to 1.5% of GDP. These figures are staggering, but the implications for U.S. firms are nuanced.

While the U.S. still dominates European defense markets (63% of EU defense spending in 2022–2023 went to U.S. contractors), the EU's Defence Readiness Omnibus—a regulatory overhaul introduced in June 2025—seeks to streamline procurement, reduce bureaucratic hurdles, and prioritize European industrial capacity. For example, the 65% cost-origin rule in ReArm Europe mandates that at least two-thirds of a defense product's cost must come from European firms. This creates a double-edged sword: while it opens the door for U.S. companies to collaborate with European partners (e.g., Raytheon's NASAMS joint ventures), it also erects barriers to standalone U.S. exports.

Tariffs, Trade Deals, and Tactical Adjustments

The U.S.-EU trade agreement signed in July 2025, while touted as a win for American defense exports, is not a panacea. The deal includes non-tariff barrier reductions and a commitment by the EU to purchase “hundreds of billions” of U.S. military equipment. However, European officials have clarified that procurement remains a national decision, not a collective EU obligation. This ambiguity leaves room for skepticism.

For Lockheed Martin, the immediate financial impact of tariffs is manageable. The company's CEO, Jim Taiclet, has emphasized that cost-plus contracts and adjustment clauses in fixed-price deals provide a buffer. Yet, the long-term risks are clear: as Europe invests in its own defense industrial base—bolstered by the European Chips Act and Net-Zero Industry Act—the demand for U.S. systems may plateau. The EU's push for strategic enablers like semiconductors and advanced sensors, areas where the U.S. has traditionally held an edge, could further erode American dominance.

Geopolitical Realities and Market Realities

The re-election of Donald Trump has accelerated European efforts to reduce reliance on U.S. security guarantees. U.S. Vice President J.D. Vance's call for Europe to “step up in a big way” has been interpreted as a signal that American support may not be as unambiguous as in the past. This has spurred the EU to prioritize indigenous production of critical systems, from fighter jets to cyber defenses.

For investors, the key question is whether U.S. defense firms can adapt to this new reality. Lockheed Martin's strategy of forming joint ventures and local partnerships (e.g., its work with European firms on the GEM-T interceptor) is a step in the right direction. However, the company's exposure to high-cost, low-volume programs—such as the F-35—remains a vulnerability. The EU's emphasis on dual-use technologies and AI-driven systems also presents an opportunity for U.S. firms with advanced R&D capabilities, but only if they can align with European strategic priorities.

Investment Implications

The defense sector is inherently cyclical, but the current shift is structural. For companies like Lockheed Martin, the path forward requires a delicate balance: leveraging existing strengths in high-end systems while investing in partnerships that align with European autonomy goals. Investors should monitor two key metrics:
1. Contract flexibility: How well companies can adjust to cost overruns and regulatory changes.
2. Geographic diversification: The ability to offset European market risks with growth in Asia-Pacific or Middle Eastern markets.

In the short term, Lockheed Martin's financial resilience and contractual safeguards provide a buffer. However, the long-term outlook hinges on its ability to navigate the EU's evolving procurement landscape. For now, the stock appears undervalued relative to its peers, but the risks of a prolonged shift in European defense spending cannot be ignored.

Conclusion

The defense industry is at a crossroads. While U.S. firms remain indispensable for advanced systems, the EU's push for strategic autonomy is reshaping the rules of the game. For investors, the lesson is clear: diversification and adaptability will be the keys to long-term success in an era of geopolitical uncertainty. As Europe rearms and repositions, the question is not whether U.S. defense exports will decline, but how quickly—and how much room there is for innovation and collaboration to fill the gap.