Buy when there’s blood in the streets: How geopolitical adverse events can push defense stock returns to the extreme

In this paper, we address the controversial question of whether the defense sector can benefit from adverse geopolitical events. To this end, we employ the Tail Index Regression (TIR) methodology proposed by Wang and Tsai (2009) and recently extended by Nicolau et al. (2023) to assess whether adverse geopolitical events drive extreme right-tail returns for ten major European and U.S. defense companies. Our results show that such shocks significantly amplify positive returns, but only for a subset of firms specializing in high-demand segments such as combat aviation, land-based military systems, and cybersecurity. Moreover, we find that geopolitical acts exert a stronger influence than threats, and that the impact is persistent over time for certain companies. Overall, while our findings highlight the heterogeneous exposure of defense firms to geopolitical risk, they also suggest that defense stocks may serve as effective hedging instruments during periods of elevated geopolitical tension, offering valuable insights for both policymakers and investors.