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Geopolitical tensions have pushed defense back to the center of market attention. Whether it’s the war in Ukraine, escalating conflicts in the Middle East, or rivalries between India and Pakistan – the global demand for military strength is rising. The world is rearming. According to the Stockholm International Peace Research Institute (SIPRI), global military spending rose by 9.4 percent in 2024 to USD 2.7 trillion. Europe recorded the strongest increase of +17 percent, breaking with three decades of restraint since the end of the Cold War.

«Money alone is not enough. Europe’s armies have been shrinking for decades, and stockpiles are running low.»

The Nato summit in June 2025 sent a clear signal: by 2035, member states are to allocate 5 percent of GDP to defense, including 3.5 percent to direct military spending. That would amount to USD 4.2 trillion annually – nearly double today’s level. Germany, with a relatively moderate debt ratio of around 62 percent, would have some fiscal leeway, while France, Italy, and the UK, each exceeding 100 percent, face much tighter constraints.

In Brussels, concerns are growing over so-called «defense washing» – the risk that projects such as digital infrastructure or climate initiatives could be reclassified as defense spending to meet target ratios. 

Europe’s Industry Under Pressure

Money alone is not enough. Europe’s armed forces have dwindled for decades, and their supplies are scarce. A 2022 German report found that ammunition reserves would last only a few days and that just 30 percent of naval helicopters were operational.  In 1990, the Bundeswehr had 215 battalions; by 2015, that number had fallen to just 44. Similar declines were seen in Italy, France, and the UK. 

«Europe’s fragmented landscape makes it difficult to build effective capacities.»

To counter this, the EU launched the Security Action for Europe (SAFE) fund in May 2025, totaling EUR 150 billion. It aims to finance joint procurement and strengthen the European defense industry. By 2035, 60 percent of equipment should be sourced from within Europe. 

Nevertheless, the gap with the US remains vast: the Pentagon alone requested USD 142 billion for research and development in 2026 – more than six times the total European defense R&D budget of 2023. Europe’s fragmented industrial landscape further complicates efforts to build robust capabilities. 

Unlike in the past, the current rearmament wave enjoys broad public backing. Surveys show that the share of NATO citizens supporting higher defense spending rose from 29 percent in 2021 to 41 percent in 2024. Political leaders have taken note: former German Chancellor Olaf Scholz called in 2024 for a «shift to mass production of weapons» to close supply gaps.

A Global Arms Race

Rearmament is not just a European issue. Budgets are also rising across Asia and the Middle East. For European manufacturers, this poses a dilemma: prioritize domestic reindustrialization or serve export markets?

«Companies like Palantir are driving the digitalization of defense through artificial intelligence.»

Since France, Germany, Italy, and the UK rank among the world’s largest arms exporters, a stronger domestic focus could alienate foreign clients. Saudi Arabia, for example, turned to the US and concluded a historic USD 142 billion deal in May 2025 – a sign of potential market shifts ahead. 

An Investment Case With Risks

The surge in defense spending is already reflected in financial markets. Shares of defense and technology companies have risen sharply since 2023 and are among the top performers in their sectors. European firms such as Leonardo and Babcock reported strong order growth and higher profits, though US stocks have outpaced them. Companies like Palantir are spearheading the digital transformation of defense through AI and consistently beating earnings forecasts.

«Negative developments at key players can have outsized effects.»

At the same time, the sector is exposed to significant uncertainties. Defense companies depend heavily on government budgets. Political shifts, export restrictions, or project delays can quickly impact profits. 

The market is also highly concentrated, meaning setbacks at a few key players can have disproportionate effects. For investors, broad diversification remains essential to capture opportunities while cushioning risks. 

The new rearmament cycle is reshaping not only security policy but also industrial strategy, public finances, and financial markets. Europe faces the challenge of rebuilding industrial capacity, while the US continues to dominate technologically. For investors, this global defense boom presents a field of opportunity – but one that comes with risks that cannot simply be priced away.

Dmitrii Ponomarev is Product Manager at VanEck.

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