2 Under-the-Radar Defense Stocks That Could Double as Military Budgets Surge

Defense stocks are in demand again, thanks to the Iran war and the war in Ukraine. While the S&P 500 is down around 1% so far this year, the iShares U.S. Aerospace & Defense ETF is up more than 11%.

There are obvious ways to benefit from this trend, such as investing in large-cap defense stocks such as L3Harris, Northrop Grumman, and Lockheed Martin. However, those giants are relatively stable, so their growth is less likely to escalate quickly.

However, under-the-radar defense stocks such as AeroVironment (NASDAQ: AVAV) and Kratos Defense & Security Solutions (NASDAQ: KTOS) could deliver better returns because they have higher growth profiles.

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AeroVironment's growth is on autopilot

AeroVironment makes small- and medium-sized drones, space-based platforms, directed energy systems, and cyberwarfare and electronic warfare products. Its drones have been battle-tested in Ukraine, and the conflict in Iran will no doubt lead to a call for more drone manufacturing by the U.S. and its allies.

The defense company's shares, while up more than 68% over the past year, are down more than 14% so far in 2026. The impetus for that decline was the company's fiscal 2026 third-quarter earnings report, which disappointed investors.

In the quarter, which ended Jan. 31, AeroVironment lost $0.06 per share, compared to its earnings per share (EPS) of $0.16 in the prior-year period. However, revenue climbed 143% to $4.08 million. That rise was mainly due to its purchase of BlueHalo in May, which helped establish its market presence in larger drones, space technology, and autonomous underwater vehicles. AeroVironment also has a funded backlog of $1.1 billion.

The reason management gave for the bottom-line issues was that it received fewer orders from the U.S. Space Force, particularly from its Satellite Communications Augmentation Resource (SCAR) program. BlueHalo provides antennas for the SCAR program. On the other side, the Defense Department is ramping up orders for the company's drones.

This year, the company is forecasting revenue between $1.85 billion and $1.95 billion, up from just $820.6 million last year, and adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) of $265 million to $285 million, which would be an increase of 14.5% at the midpoint.

Kratos is there to help the U.S. reload

Kratos Defense & Security Solutions' shares are up more than 15% so far in 2026 and more than 200% over the past year. The San Diego-based company focuses on affordable, rapidly developed military technology, including drones, unmanned systems, satellite and space communications, radar and missile guidance, and missiles.

In 2025, the company reported revenue of $1.35 billion, up 18.5%. In 2026, it is predicting sales of $1.59 billion to $1.67 billion, a 21.4% jump at the midpoint. EPS in 2025 rose 18% to $0.13. That type of growth is what makes the stock so attractive in the long term.

Kratos is in the process of buying Israeli satellite mobile systems company Orbit Technologies for $356.3 million, with the deal expected to close at the end of March. It also just received a $7 million production contract award from an unnamed customer to make a counter-UAS system -- essentially an anti-drone shield that stops threats before they reach their targets.

Great long-term prospects for both companies

It's important to note that, even as comparatively under-the-radar defense stocks, both of these companies have relatively high valuations. However, given their ability to quickly respond to U.S. defense needs, both are likely to see double-digit percentage revenue growth over the next few years.

Because they are relatively small companies, their stocks are likely to experience more volatility, but their willingness to expand through acquisitions and their sales of high-margin technology speak well for their long-term prospects.

James Halley has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends AeroVironment, Kratos Defense & Security Solutions, and L3Harris Technologies. The Motley Fool recommends Lockheed Martin. The Motley Fool has a disclosure policy.