Investing in India's Defence Sector

The Indian defence sector is witnessing a significant transformation, driven by rising defence budgets, import substitution initiatives, and a growing focus on indigenous production. Investors seeking exposure to this promising sector can consider investing defence thematic funds

Defence Spending: US, China, and India Compared

Military spending is a significant indicator of a nation’s defence priorities. Here’s a quick comparison of the top three spenders:

• United States: The US reigns supreme, spending a whopping $886 billion (approx. ₹7.2 crore crore) in 2024. This accounts for nearly 37% of global military expenditure.
• China: China trails closely behind with an estimated $296 billion (approx. ₹24.2 lakh crore) spent in 2023. Their spending has been steadily increasing, reflecting their growing military ambitions.
• India: India stands as the fourth-largest spender globally, allocating $75 billion (approx. ₹6.1 lakh crore) in its 2024-25 budget. This represents a significant portion (around 13%) of its overall national expenditure.

Why Consider Investing in India’s Defence Sector?

The Indian defence sector is on an upswing, attracting investor interest. Here’s a quick look at the reasons why:

• Growth Potential: Government initiatives like import substitution and increased defence spending are fueling sector growth.
• Strategic Importance: India’s focus on self-reliance in defence creates long-term demand for domestic players.
• Diversification: Investing in defence spreads your portfolio across various defence companies, mitigating individual stock risk.
• High Returns (Potential): The growing sector presents the potential for high capital appreciation over the long term
• Shifting World Order: A changing global landscape from a unipolar to a multipolar world order could lead to increased international tensions and a greater emphasis on national security, potentially benefiting Indian defence companies.

How to invest in Defence Sector?

As of today, only one actively managed fund directly invests in the Indian defence sector: HDFC Defence Fund launched by HDFC Mutual Fund in June 2023. This fund has delivered impressive returns, generating over 116.57% in its first year.

The fund is managed by Mr. Abhishek Poddar, who boasts extensive experience in the financial sector. He brings over 17 years of combined experience, including 13 years in equity research, 1 year in investment banking, and 3 years in corporate finance and risk audit.

The benchmark index for HDFC Defence Fund is the Nifty India Defence Total Return Index (TRI). This index tracks the performance of companies in the Indian defence sector. You may also look at the detailed presentation about this fund.

New Passive Option Emerges

Motilal Oswal Mutual Fund recently launched a New Fund Offer (NFO) for a passively managed investment option based on the Nifty India Defence Index. This NFO of Motilal Oswal NIFTY INDIA DEFENCE INDEX FUND is open for investment until June 24th, 2024, providing a chance to participate in the sector’s growth through a passive approach. Take a look at this detailed presentation about this NFO.

One can do lumpsum or SIP based investment in this fund. For SIP minimum investment is of Rs. 500/-

What is a Nifty Defence Index Fund?

The Nifty Defence Index, launched by NSE Indices in 2018, tracks the performance of companies in the Indian defence sector. Stocks from the Nifty Total Market Index are eligible for inclusion if they belong to relevant basic industries or derive at least 10% of their revenue from defence. These selections are based on the 6-month average free-float market capitalization, with a maximum weightage of 20% assigned to any single stock. Currently, the index comprises 15 companies.

Higher Volatility Compared to Nifty 50

It’s important to note that the Nifty Defence Index exhibits significantly higher volatility compared to the broader Nifty 50 index. The standard deviation, a key volatility measure, stands at 25.56 and 25.95 for 1 and 5 years respectively for the Defence Index.

Rich Valuation

As of today, the Nifty Defence Index trades at a premium valuation, with a P/E ratio of 58.72. This suggests that investors are pricing in strong future growth expectations for the sector.

Top constituents by weightage

Benefits of Nifty Defence Index Funds

• Growth Potential: The Indian defence sector is projected for significant growth due to various government initiatives and rising security concerns. A Nifty Defence Index Fund allows you to participate in this potential upsurge.
• Diversification: These funds offer instant diversification across various defence companies, mitigating risks associated with individual company performance.
• Passive Management: Unlike actively managed funds, Nifty Defence Index Funds passively track the index, resulting in lower fees and potentially stronger long-term performance.
• Convenience: These funds offer a hassle-free way to invest in the defence sector, eliminating the need for individual stock picking.

Things to Consider

• Market Volatility: The defence sector can be susceptible to geopolitical tensions and government policies, leading to higher volatility compared to broader market indices.
• Investment Horizon: Nifty Defence Index Funds are suited for investors with a long-term investment horizon, as the sector’s growth is expected to unfold over time.

Conclusion

Defence themed funds offer a compelling option for investors seeking exposure to the growing Indian defence sector. HDFC Defence Fund and Motilal Oswal NIFTY INDIA DEFENCE INDEX FUND give you option to invest in companies which may benifit from India’s defense sector. With the potential for long-term capital appreciation and diversification benefits, these funds can be a valuable addition to your investment portfolio. Remember, thorough research and understanding your risk tolerance are crucial before making any investment decisions.

Thinking about defence sector investments? Let’s chat! We can help you determine if it’s a good fit for your portfolio.