S&P 500 GICS sector reclassification details, implications for investors

The
S&P/GICS reclassification will create a new sector for tech
companies.
Chris
Hondros/Getty

• MSCI and S&P are soon to make some changes to how
  tech companies are categorized on the S&P 500 for the first
  time since 1999.   
• On September 28, a new Communication Services sector
  will replace the current Telecoms sector, and will include
  some of the biggest stocks including Facebook and
  Netflix.
• It’s only the second sector addition since 1999, and is
  a recognition of how consolidation has melded the telecom,
  media, and internet industries together.  
• Exchange-traded funds that track S&P 500 sectors
  will be most affected by the reclassification, and some big
  providers are already making changes ahead of the
  implementation. 

Some big changes are coming to the US stock market.

On September 28, S&P Dow Jones Indices and GICS will
create a new sector for tech, media, and telecoms companies, and
it’s a change that will affect many of the the biggest and most
popular stocks on the market. 

Here’s what you need to know. 

What is happening? 

S&P and MSCI are ditching the existing Telecoms sector and
creating a new Communications Services sector. This new
sector will include companies that provide platforms for
communication, of course, and those that operate various kinds of
media.

It will also fold in companies in the Consumer Discretionary
Sector that are currently classified in the Media and Internet
& Direct Marketing Retail sub-industries, and some companies
in the existing Information Technology sector.

Communications Services will be the largest sector of the S&P
500 with about a 10% weighting, according to Wells Fargo. 

Here’s a detailed map of all the changes: 

Morgan Stanley

Why does it matter? 

Apple is currently housed in the Technology sector, and in the
Communications Equipment industry. These categories are
determined by the Global Industry Classification Standard, or
GICS, which is maintained by MSCI and S&P.

These boxes make sense for Apple,
considering that the world’s most valuable company still makes
most of its money by selling iPhones. But over time, these
categories have become more fluid for other tech companies. Is
Verizon, with its recently acquired media arm Oath, really just a
telecoms company? Is Facebook, now one of the world’s
largest distributors of news, a social network or a media company
or both?

The new sector aims to address these questions. 

The GICS is keeping up with how much evolution has taken place in
tech. Facebook
didn’t even exist at the height of the tech bubble in 1999, the
same year that MSCI and S&P first implemented the GICS.

And so, the GICS reclassification is a reminder of sorts to
markets about what these companies really do, and it aims to
reflect where companies earn most of their revenues from.

“The lines among media, communications, and content are blurred,”
David Blitzer, chairman of the index committee at S&P Dow
Jones Indices, said. “It is time to acknowledge this convergence
and the overlapping services these companies provide.”

The most recent precedent for this kind of GICS reclassification
also provides insight into why the ‘right’ sector grouping
matters. 

In September 2016, S&P and MSCI removed real estate companies
and some real estate investment trusts (REITS) from Financials to
create a new sector.  

Real Estate, from its breakout as a sector through August 15,
2018, returned almost nothing — 0.5% — versus a 39% rally for
Financials. This performance gap suggests investors focused on
very different fundamentals for these once-unified sectors. 

Which stocks are going to be affected? 

The change is going to affect some of the biggest and most
popular tech companies, including Facebook and Alphabet. Both
will move from the old tech sector to the new communication
services group. Also, their sub-industry will change from one
called internet software & services to interactive media
& services. 

Netflix, another one of the so-called FANG stocks, is also
getting reshuffled. It’s going from the consumer discretionary
sector, where it lives with companies like McDonald’s
and Ralph
Lauren, to the new communication group. Disney and 21st
Century Fox are making the same industry move.

“DVD rentals” is not the only thing that comes to mind when
Netflix is mentioned these days. Big spending on original content
and licenses is a key part of its business. So
Netflix’s sub-industry will change from Internet &
Direct Marketing Retail to the more appropriate Films &
Entertainment category. 

MSCI plans to release a final list of all the stocks affected
before flipping the switches on September 28. 

What does this mean for the stock market?

Exchange-traded funds designed to track specific industries will
be affected.

Vanguard, the $5.1 trillion investor that essentially invented
the equity index fund, announced in March that it was temporarily
creating
custom benchmarks for the Vanguard Consumer Discretionary
Index Fund, the Vanguard Information Technology Index Fund, and
the Vanguard Telecommunication Services Index Fund. 

“These changes don’t require any action from investors,” Vanguard
said in a statement, indicating that it’s doing the heavy lifting
behind the scenes. 

BlackRock is
overhauling its iShares Global Telecom ETF to become the
iShares Global Comm Services ETF, and changing the kinds of
companies it tracks accordingly. 

“Longer-term, the ‘less sexy’ & somewhat
‘forgotten’ Telco names may gain mindshare
& potentially garner more portfolio-manager
interest/dollars as reclassification stirs a
re-acquaintance,” Chris Harvey, the head of US equity and quant
strategy at Wells Fargo, said.

But unlike the Real Estate reclassification, most investors are
no strangers to a good number companies being reshuffled, such as
FANG stocks. 

Wells Fargo estimates that the reclassification will affect about
10% of the S&P 500, and so investors need not do much on the
drawing board. Some stocks are getting moved around, but their
weights on the index are not, so the reshuffle itself may not be
a big market mover. 

See also: