Morgan Stanley on Tuesday issued an “Attractive” outlook for the North American aerospace and defense sectors heading into 2026, citing a continued imbalance where demand is outpacing supply growth. The firm’s analysis, authored by Equity Analyst Kristine T. Liwag and her team, includes a significant re-stacking of ratings for major defense primes.
The report also introduces a new industry coverage area, Government Services, with an initial “In-Line” view.
Major defense rating changes
Morgan Stanley is adjusting its ratings for several key defense contractors based on an updated risk-reward analysis and valuation multiples rolled over to 2027 estimates:
- General Dynamics (GD): Upgraded to Overweight from Equal-weight. The price target is raised by 6% to $408.
- L3Harris Technologies (LHX): Upgraded to Overweight from Equal-weight. The price target is raised by 5% to $367.
- Lockheed Martin (LMT): Downgraded to Equal-weight from Overweight. The price target is significantly lowered by 14% to $543.
Northrop Grumman Corp. (NOC) retains its Overweight rating and is named the Top Pick in Defense, despite a slight reduction in its price target to $714.
Defense offers ‘attractive value’
The firm’s bullish stance on defense is underpinned by the view that the sector currently offers attractive value. Despite a strong median outperformance of approximately 27% year-to-date in 2025 compared to the S&P 500’s (SP500) approximately 16% gain, the sector’s stocks are not fully reflecting the upside trend from US Defense budget growth.
Defense primes are currently trading at an approximately 33% median discount to the S&P 500 (on next 12-month price per free cash flow), suggesting attractive value heading into 2026.
Aerospace outlook: Continued strength despite high multiples
The Commercial Aerospace sector, which outperformed the S&P 500 in 2025 (up roughly 21%-22% versus roughly 16% for the S&P 500), is also rated Attractive. Positive drivers include healthy global air traffic growth (up about 5% in 2025) and stable to increasing aircraft production rates from original equipment manufacturers like Boeing (BA), Airbus (EADSF) (EADSY) and Embraer (ERJ).
However, the report notes a potential for increased volatility:
The industry is exiting 2025 with multiples towards the high end of the historical upcycle range at approximately 32 times next 12-month price-to-earnings, a ~43% premium versus the S&P 500, which could increase volatility in share prices.
Morgan Stanley’s Top Pick in aerospace is RTX.
Key Aerospace ‘Holiday Shopping List’ Picks (All Overweight):
Government Services Segment
The newly introduced Government Services sector receives an In-Line industry view. Morgan Stanley is maintaining current ratings in this segment, including Equal-weight for Amentum Holdings (AMTM) and Underweight for V2X (VVX).