Why Indian Defence Stocks are Falling After Budget 2026 — Despite Higher Spending

Indian defence stocks saw a sharp sell-off immediately after the Union Budget 2026, surprising many investors who hoped for a positive outcome.

On February 1, the Nifty Defence index fell nearly 9% during special Sunday trading session. The weakness did not stop there. On February 2, the index slipped another ~1.8%, with most defence stocks continuing to trade in the red.

At first glance, this reaction appeared puzzling. After all, the government did increase defence spending. But the market’s response had little to do with cuts or negative policy signals. Instead, it was driven by expectations that were far higher than what the Budget ultimately delivered.

Expectations Were Already Running Ahead of Reality

Defence stocks had been among the strongest performers over the past year. The rally was built on a powerful narrative: rising geopolitical tensions after Operation Sindoor, steady order inflows for defence PSUs, and a clear government push towards indigenisation under Atmanirbhar Bharat.

By the time Budget 2026 arrived, the market had already priced in something more than incremental growth. Investors were expecting a decisive jump in defence capital expenditure a signal that spending would accelerate meaningfully rather than just continue on its existing path.

That “big moment” never came.

What the Budget Actually Delivered

The budget did raise defence allocations, but the increase was measured, not transformational.

India’s defence capital expenditure for FY27 (2026–27) has been set at approximately ₹2.19 lakh crore, up from about ₹1.80 lakh crore in FY26. This represents an absolute increase of roughly ₹39,000 crore, translating to around 21–22% year-on-year growth.Spending on modernisation rose by around 24%. In absolute terms, these numbers are strong. In market terms, they were not strong enough to justify the valuations that had built up ahead of the Budget.

Compounding this was the fact that FY26 had already seen heavy spending. Nearly 62% of the year’s defence capex had been utilised by November itself, setting a high base. This made it harder for FY27 numbers to look like a sharp acceleration.

Brokerages were quick to point out the absence of any “big bang” announcements no large one-off procurement decisions, no dramatic policy overhaul, and no front-loaded capex push that could reset growth expectations upward.

Valuations Left No Room for Disappointment

Perhaps the most important reason behind the sell-off was valuation.

Defence stocks had rallied hard going into the Budget. When expectations are stretched, even good news can feel inadequate. Once it became clear that Budget 2026 was evolutionary rather than revolutionary, profit booking set in.

This selling pressure was amplified by a broader risk-off tone in the market. Higher STT on derivatives weighed on trading sentiment, and investors were already cautious across high-beta sectors. Defence stocks, sitting on strong recent gains, became natural candidates for profit-taking.

Where the Selling Was Most Visible

The correction was broad-based, affecting both large PSUs and mid-cap defence names. Stocks such as Garden Reach Shipbuilders, Bharat Dynamics, Paras Defence, Hindustan Aeronautics, Bharat Electronics, Mazagon Dock, Cochin Shipyard, and BEML all saw sharp declines, with some falling in double digits on Budget day itself.

By February 2, nearly the entire Nifty Defence index was trading lower in the first half, underlining that this was a sector-wide reset rather than a stock-specific issue.

The Budget Wasn’t Negative for Defence

It’s important to separate market reaction from policy reality.

The Budget did include several constructive elements. Allocation for “Other Equipment” which includes missiles, UAVs, radars, and electronic warfare systems, rose sharply. Customs duty exemptions were extended to key aircraft and defence manufacturing components. The long-term policy thrust towards domestic manufacturing and defence exports remains firmly in place.

Most analysts agree that the structural story around Indian defence manufacturing has not changed. What has changed is the near-term pace of expectations.

What This Means for Investors Going Forward

The recent correction marks a shift in how the market will treat defence stocks.

The sector is moving from an expectation-driven phase to an execution-driven one. Going ahead, stock performance will depend less on headlines and more on order execution, margins, delivery timelines, and export traction.

Volatility may persist in the short term, but for long-term investors, the correction helps reset valuations to more sustainable levels.

The Bottom Line

Defence stocks did not fall because the government disappointed on spending.

They fell because the budget did not exceed already elevated expectations. In markets, disappointment does not require bad news; it only requires news that is less good than what was priced in.

For now, the defence story is intact. The hype, for now, has just cooled.