You might not expect to find stocks like Broadcom (NASDAQ:AVGO) or Crowdstrike (NASDAQ:CRWD) in a defense ETF, but the SPDR S&P Kensho Future Security ETF (NYSEARCA:FITE) is a unique defense ETF that takes a differentiated, forward-looking approach to national security and the defense industry.
The concept of warfare is rapidly evolving and now increasingly encompasses cyber warfare, drones, space, and other new arenas. That’s why the FITE ETF goes beyond tanks, fighter planes, and missiles and expands the definition of defense to include companies involved in software, cybersecurity, drones, robotics, and more.
I’m bullish on FITE because this differentiated ETF enables investors to capitalize on this nascent theme.
What is the FITE ETF’s Strategy?
FITE invests in an index called the S&P Kensho Future Security Index. According to fund sponsor State Street (NYSE:STT), the index is comprised of “companies whose products and services are driving innovation behind future security, which includes the areas of cybersecurity, advanced border security, and the following areas for military application: robotics, drones and drone technologies, space technology, wearable technologies and virtual or augmented reality activities.”
Thus, the ETF allows investors to “invest in a portfolio of companies involved in the future of warfare and a nation’s security.”
A Portfolio Built for the Future of War
FITE holds 60 stocks, and its top 10 holdings account for just 20.8% of the fund, so FITE is fairly diversified and does a good job of limiting concentration risk.
Below is an overview of FITE’s top 10 holdings using TipRanks’ holdings tool.
While war is still fought on the battlefield, it is increasingly moving into new fronts, and FITE’s portfolio capitalizes on this shift.
One key arena is cyberspace. The Heritage Foundation states, “No threat facing America has grown as fast, or in a manner as difficult to understand, as the danger from cyberattacks.” It reports that the most dangerous cyberattacks come not from lone hackers in a basement but sophisticated nation-state hackers who view cyber warfare as a new avenue to attack the United States. Terrorist organizations and sophisticated networks of cyber criminals also contribute to the threat.
The United States isn’t the only country that must remain vigilant against cyberwarfare. In the current conflict between Russia and Ukraine, Russia has been able to utilize cyber attacks to take down portions of Ukraine’s electrical grid. In the Middle East, Iran and Saudi Arabia have long had a tense relationship, and 10 years ago, Iran was able to utilize a computer virus to destroy 30,000 computers belonging to Saudi ARAMCO.
FITE owns leading cybersecurity stocks like Palo Alto Networks (NASDAQ:PANW), Crowdstrike (NASDAQ:CRWD), Zscaler (NASDAQ:ZS), and SentinelOne (NYSE:S) that are crucial to fighting against cyber attacks and should benefit from the long-term need for their services arising from this threat.
Beyond cyberspace, emerging technologies like automation, robotics, and artificial intelligence are making their way into modern conflict, as illustrated by the rise of drone warfare.
In the Russia-Ukraine conflict, both sides have made extensive use of drones. Drones offer many advantages because they can be automated or controlled remotely. Thus, they don’t require a pilot. They are also relatively cheap, making them a cost-effective option for militaries that don’t have the resources to employ traditional airpower.
The Council for Foreign Relations reports that the Russia-Ukraine conflict “has demonstrated the battlefield advantages of drones, which have become smaller, more lethal, easier to operate, and available to almost anyone.”
FITE gives investors exposure to this trend via its ownership of stocks like AeroVironment (NASDAQ:AVAV), a leading manufacturer of unmanned aerial systems and other robotic systems, which should benefit from the rising use of drones on the battlefield. Furthermore, traditional companies that FITE invests in, like Northrop Grumman (NYSE:NOC), Boeing (NYSE:BA), and Lockheed Martin (NYSE:LMT) are also involved in drones.
Space is another emerging theatre in war. While it may sound like science fiction, space warfare is becoming a reality. Examples can include attacks on satellites from the ground using missiles or lasers and attempts to jam or disable satellites. The Wall Street Journal reports that the United States, China, and Russia have all increasingly turned to unmanned satellites to increase their capacity for waging war in the final frontier. The number of tracked objects in space has doubled over the last five years.
FITE holds a combination of space-specific stocks and traditional aerospace stocks that give investors exposure to this theme. Space-specific holdings include Rocket Lab USA (NASDAQ:RKLB) and Planet Labs (NYSE:PL). Traditional defense and aerospace holdings that have forayed into space include Boeing and Lockheed Martin. FITE also invests in some satellite companies like ViaSat (NASDAQ:VSAT) and Iridium Communications (NASDAQ:IRDM).
FITE also has positions in legacy defense contractors like Raytheon (NYSE:RTX), Kratos Defense & Security (NASDAQ:KTOS), Huntington Ingalls (NYSE:HII), and the other aforementioned traditional defense companies. Many of these companies are heavily involved in traditional defense systems, but they are also developing and offering futuristic technologies of their own.
You can see FITE’s multifaceted, wider approach to defense and security in the breakdown of its holdings by subsector. Nearly one-third of FITE’s holdings (31.7%) can be classified as traditional aerospace and defense stocks. This is followed closely by systems software companies, which comprise 27.4% of the fund. Communications equipment has a weighting of 9.8%, the electronics equipment and instruments subsector has a weighting of 6.0%, and research and consulting services have a weighting of 5.8%.
Long-Term Performance
FITE returned a red-hot 28.5% in 2023 as investor interest in artificial intelligence, robotics, and software picked up. Its three-year performance is a bit underwhelming, though. As of December 31, it generated an annualized three-year return of 6.5%. But further out, its five-year annualized return of 14.1% is much more impressive.
Given the fact that the companies FITE invests in are becoming increasingly important to national security and defense in the United States and around the world, I am willing to bet that its returns going forward outpace its three-year return.
What is FITE’s Expense Ratio?
FITE has an expense ratio of 0.45%, meaning an investor will pay $45 on a $10,000 investment in the ETF annually. This isn’t particularly cheap, but it also isn’t egregiously expensive for a specialized ETF like this.
Is FITE Stock a Buy, According to Analysts?
Turning to Wall Street, FITE earns a Moderate Buy consensus rating based on 41 Buys, 19 Holds, and one Sell rating assigned in the past three months. The average FITE stock price target of $61.88 implies 12.65% upside potential.
The Takeaway
The idea of war is clearly evolving. Traditional defense companies will still play an important role, but the increasing use of automated technologies and cyber attacks as new ways to wage war means that cybersecurity, artificial intelligence, and other cutting-edge technologies will play a crucial role in defense and national security.
I am bullish on FITE because it is a unique ETF that allows investors to capitalize on this compelling long-term trend and casts a wide net that encompasses many stocks that may benefit from it. Furthermore, FITE’s long-term performance, including its 14.1% annualized return over the past five years (as of December 31), inspires confidence.
