It turns out that perhaps the most reliable defensive play may be the defense sector itself. While the major indices led by the tech-centric Nasdaq Composite suffered a significant correction, military contractors – particularly Northrop Grumman (NOC) – performed reasonably well. With geopolitical flashpoints rising to a fever pitch, NOC stock appears to be a cynically relevant wager.
Yes, the immediate financial concern focuses on the possibility that the hype over artificial intelligence may have run its course. Conspicuously, tech juggernaut Nvidia (NVDA) – which manufactures the graphics processors that undergird generative AI platforms – suffered a drop of nearly 2% on Friday. In the past month, NVDA gave up 12.55% of market value.
Another problematic innovator is chipmaker Intel (INTC). As Barchart content partner Motley Fool mentioned, Intel’s second-quarter results were disastrous, posting adjusted earnings per share of 2 cents against an estimate calling for 10 cents. Revenue also missed, landing at $12.83 billion as opposed to the anticipated count of $12.98 billion.
Adding to the woes, the tech firm will cut 15% of its workforce. During the trailing month, INTC fell almost 31%, a catastrophic sentiment shift as investors previously held hope for a possible turnaround. About the only promising sector available right now is seemingly defense.
It’s cynical to mention it. However, with Middle East tensions rising amid Israel’s airstrike in Iran that killed a Hamas leader, hopes of some semblance for international stability are fraught. In addition, Russia’s invasion of Ukraine shows no sign of slowing. The world is becoming more dangerous, not less.
That’s awful for global citizens. However, it’s an unavoidable goldmine for defense plays like NOC stock.
Unusual Options Activity Shines a Spotlight on NOC Stock
Following the close of the Aug. 2 session, NOC stock represented one of the highlights in Barchart’s screener for unusual stock options volume. This data interface provides retail investors with important clues as to what the smart money may be doing with its funds.
For Northrop specifically, total options volume landed at 9,909 contracts versus an open interest reading of 45,852. Further, Friday’s volume represented a 168.68% lift from the trailing one-month average metric. Breaking down the details, call volume stood at 8,086 contracts versus put volume of 1,823.
On paper, this framework appears bullish: call options give holders the right but not the obligation to acquire the underlying security at the listed strike price. However, it’s also true that for every option that is bought, the same option is sold. By figuring out who is on each side of the transaction, we can get a better feel for the true sentiment.
For that, we turn to Barchart’s options flow screener, which exclusively focuses on big block transactions likely placed by institutional or professional traders; in other words, the real smart money. Here, the case for NOC stock takes a nuanced turn.
On Friday, net trade sentiment sat at $-403,300 favoring the bears. Stated differently, when all the option premiums were totaled, the premiums from bearish sentiment options ($-592,600) outweighed those of bullish sentiment options ($189,300). So, are the big dogs also betting against NOC stock?
It might not be quite that simple. Out of all the bearish sentiment options, only one – a contract with a $490 strike price that expired on Friday – was a put. All other transactions were call options. Based on the broader fundamentals, that tells me that these could potentially be covered calls.
Northrop shareholders might not see much upside after NOC stock gained 13% in the trailing month. Therefore, they can collect income from the premiums of the covered calls if NOC moves generally sideways.
More Upside Isn’t Out of the Question
Nevertheless, it’s not impossible for NOC stock to move up. Again, tensions in the Middle East are boiling over. That has serious implications regarding the stability of global oil supply chains. Further, with the AP reporting that F-16 fighter jets have arrived in Ukraine, the conflict in Eastern Europe will also likely not fade anytime soon. Throw in our contentious domestic politics and the defense sector looks awfully intriguing.
Plus, the valuation of NOC stock – even with the recent boost – isn’t that bad. Right now, shares trade hands at 1.81X trailing-year sales. That’s slightly higher than the underlying aerospace and defense sector’s average multiple of 1.79X. However, with analysts projecting fiscal 2024 sales to hit $41.35 billion, NOC is trading at 1.75X forward revenue.
With opportunities in other market segments fading, Northrop Grumman is one of the few viable enterprises. It certainly belongs on your radar.
On the date of publication, Josh Enomoto did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
