Understanding S&P’s GICS® Sector Realignment

What:

S&P Dow Jones Indices and MSCI are making major changes to the Global Industry Classification Standards (GICS®) structure effective the close of business September 21. The Telecommunication Services sector will be expanded to include selected companies from the Information Technology and Consumer Discretionary sectors and will be renamed Communication Services.

Some of the more notable stocks making moves are:
Company Ticker(s) New Sector Old Sector
Alphabet GOOG/GOOGL Communication Services Information Technology
Facebook FB Communication Services Information Technology
Netflix NFLX Communication Services Consumer Discretionary
Walt Disney DIS Communication Services Consumer Discretionary

Why:

Technology is constantly changing. As an example, many have shifted way from landlines to cellphones and IP phones. Even the way people communicate is changing. Whether it be texting or other apps, older technologies have to change and adapt. This allows for disruptive companies to emerge that offer new ways to connect and interact. The result is a technology sector that contains companies that simply leverage technology to deliver many different services that are not related to a more traditional technology company. To fix this, a realignment of the technology and telecommunications sectors is necessary.

Our Take:

As we see it, there are two key drivers behind the reclassification and changing the name from Telecommunications to Communications Services. First, the Telecommunications Sector was down to just three companies: Verizon (VZ), Century Link (CTL), and AT&T (T) making it somewhat irrelevant as a standalone sector. Secondly, the reclassification aligns companies with the sector that best represents their business model and provides a relevant peer group. For example, Alphabet (GOOGL) and Facebook (FB) generate a significant amount of revenue from advertising, very different from longstanding tech giants, such as Intel and Cisco. The realignment also reduces the impact the Information Technology sector will have on the S&P 500 lowering its weight from 26% to 20% of the total index.

We think it makes sense, but it won’t be perfect. The sector will be concentrated, with Alphabet and Facebook having a combined weight of 47% in the new sector. But even with its shortfalls, we still think its a step in the right direction.

How does it impact GWS?

We are always appreciative when opportunities to increase our potential sources of return and risk, so the new Communication Services Select Sector ETF (XLC) is a welcome addition. Because our investment process is quantitative, every additional data point enhances our ability to precisely measure risk of each asset in the portfolio and more efficiently optimize for the current risk environment.

To illustrate this point, let’s use Alphabet as an example. Currently Alphabet represents approximately 10% of the Information Technology sector and therefore has a meaningful impact on the risk characteristics of the sector. This is important because the risk characteristics between Alphabet and “true” technology companies will likely be very different. Alphabet’s metrics may mask what’s really happening in the technology sector as a whole. This is because Alphabet’s growth and profitability are impacted by different economic drivers than many of the companies in the sector. By realigning the sectors, we now have a more meaningful data point consisting of closely aligned peer groups that helps us increase our probability of success. Overall this is a positive change for GWS and will enhance our ability to continue delivering the results Advisors and their clients expect.


THIS DOCUMENT HAS BEEN PREPARED BY PARITAS CAPITAL MANAGEMENT, LLC (“PARITAS”) SOLELY FOR THE PURPOSES OF PROVIDING SUMMARY INFORMATION REGARDING PARITAS AND ITS GLOBAL WEALTH STRATEGY (“GWS”) COMPOSITE. THE INFORMATION CONTAINED HEREIN IS NOT, AND SHOULD NOT BE CONSTRUED, AS AN OFFER OR SOLICITATION OF AN OFFER TO BUY ANY FINANCIAL INSTRUMENT. AN INVESTMENT IN ACCORDANCE WITH THE GWS COMPOSITE DESCRIBED HEREIN HAS NOT BEEN APPROVED OR DISAPPROVED BY THE UNITED STATES SECURITIES AND EXCHANGE COMMISSION (“SEC”), ANY STATE SECURITIES COMMISSION, OR OTHER ANY OTHER REGULATORY AUTHORITY, NOR HAVE ANY OF THESE AUTHORITIES PASSED UPON OR ENDORSED THE MERITS OR THE ACCURACY OR ADEQUACY OF THIS DOCUMENT. ANY REPRESENTATION TO THE CONTRARY IS UNLAWFUL AND A CRIMINAL OFFENSE.

ANY REPRODUCTION, DISTRIBUTION, OR OTHER UNAUTHORIZED USE OF THIS DOCUMENT, AS A WHOLE OR IN PART, OR THE DISCLOSURE OF THE CONTENTS HEREOF, OTHER THAN TO THE RECIPIENTS FINANCIAL, TAX AND/OR LEGAL ADVISORS WITHOUT THE PRIOR WRITTEN CONSENT OF PARITAS IS PROHIBITED.

THE BENCHMARK INDEX REFERRED TO HEREIN IS A BLEND OF 60% MSCI ACWI INDEX AND 40% BARCLAYS US AGGREGATE BOND INDEX. THE INDICES INCLUDED TO SHOW RELATIVE MARKET PERFORMANCE FOR THE PERIODS INDICATED ARE NOT NECESSARILY STANDARDS OF COMPARISON, SINCE INDICES ARE UNMANAGED, BROADLY BASED AND DIFFER IN NUMEROUS RESPECTS FROM THE GWS COMPOSITE. MARKET INDEX INFORMATION WAS COMPILED FROM SOURCES THAT PARITAS BELIEVES TO BE RELIABLE. HOWEVER, PARITAS DOES NOT GUARANTEE THE ACCURACY OR COMPLETENESS OF SUCH DATA.

AN INVESTMENT IN ACCORDANCE WITH THE GWS COMPOSITE MAY NOT BE SUITABLE FOR ALL INVESTORS. THIS MATERIAL HAS BEEN PREPARED FOR INFORMATIONAL PURPOSES ONLY, AND IS NOT INTENDED TO PROVIDE, AND SHOULD NOT BE RELIED ON FOR, INVESTMENT, ACCOUNTING, LEGAL OR TAX ADVICE.

INVESTING INVOLVES RISK, INCLUDING THE POTENTIAL OF LOSS OF SOME OR ALL PRINCIPAL INVESTED. INTERESTED PARTIES ARE ENCOURAGED TO REVIEW PARITAS’ FORM ADV PART 2, AS WELL AS PERTINENT PROSPECTUS/PRODUCT DESCRIPTIONS TO CONSIDER SUCH RISK PRIOR TO INVESTING. THERE IS NO GUARANTEE THAT A DIVERSIFIED PORTFOLIO WILL ENHANCE OVERALL RETURNS OR OUTPERFORM A NON-DIVERSIFIED PORTFOLIO. DIVERSIFICATION DOES NOT PROTECT AGAINST MARKET RISK. STOCK INVESTING INVOLVES RISK INCLUDING LOSS OF PRINCIPAL. PAST PERFORMANCE IS NO GUARANTEE OR PROMISE OF FUTURE SUCCESS.

THE SHARES OF EXCHANGE-TRADED FUNDS (“ETFS”) MAY TRADE AT PRICES AT, BELOW, OR ABOVE THEIR MOST RECENT NET ASSET VALUE. EQUITY SECURITIES WILL FLUCTUATE IN PRICE; THE VALUE OF INVESTMENTS IN ACCORDANCE WITH THE GWS COMPOSITE WILL THUS FLUCTUATE, AND THIS MAY RESULT IN A LOSS. SECURITIES IN CERTAIN FOREIGN COUNTRIES MAY BE LESS LIQUID, MORE VOLATILE, AND LESS SUBJECT TO GOVERNMENTAL SUPERVISION THAN IN THE UNITED STATES. THE VALUES OF THESE SECURITIES MAY BE AFFECTED BY CHANGES IN CURRENCY RATES, APPLICATION OF A COUNTRY’S SPECIFIC TAX LAWS, CHANGES IN GOVERNMENT ADMINISTRATION, AND ECONOMIC AND MONETARY POLICY. EMERGING MARKET SECURITIES CARRY SPECIAL RISKS, SUCH AS LESS DEVELOPED OR LESS EFFICIENT TRADING MARKETS, A LACK OF COMPANY INFORMATION, AND DIFFERING AUDITING AND LEGAL STANDARDS.

AN INVESTMENT IN BONDS CARRIES RISK. IF INTEREST RATES RISE, BOND PRICES USUALLY DECLINE. THE LONGER A BOND’S MATURITY, THE GREATER THE IMPACT A CHANGE IN INTEREST RATES CAN HAVE ON ITS PRICE. SELLING A BOND BEFORE IT REACHES ITS MATURITY MAY RESULT IN A LOSS UPON ITS SALE. BONDS ALSO CARRY THE RISK OF DEFAULT, WHICH IS THE RISK THAT THE ISSUER IS UNABLE TO MAKE FURTHER INCOME AND PRINCIPAL PAYMENTS. OTHER RISKS, INCLUDING INFLATION RISK, CALL RISK, AND PRE-PAYMENT RISK, ALSO APPLY. HIGH YIELD SECURITIES (ALSO REFERRED TO AS “JUNK BONDS”) INHERENTLY HAVE A HIGHER DEGREE OF MARKET RISK, DEFAULT RISK, AND CREDIT RISK.

PARITAS CAPITAL MANAGEMENT, LLC IS A REGISTERED INVESTMENT ADVISOR WITH THE STATES OF CALIFORNIA, CONNECTICUT, MASSACHUSETTS, NEW JERSEY, NEW YORK, PENNSYLVANIA, AND TEXAS.

About the author: Douglas Hedley

Leave a Reply

Your email address will not be published.