What sector reclassifications mean

Investors might need to relearn some long-held assumptions following a major reshuffle of stock sector classifications.

Leading astronomers made a surprise ruling 12 years ago: Pluto, the smallest planet circling the sun, is not a planet at all.

The cosmic reclassification, giving Earth seven planetary neighbors instead of eight, had ripple effects. Stargazers quibbled over Pluto’s demotion. Grade-schoolers dropped the “P” in jingles for memorizing the solar system. But for most people, Pluto’s revised status didn’t change the way they see the heavens.

Celestial definitions came to mind ahead of a rare move by major index providers to change how more than 2,100 companies across the globe are classified. As with Pluto, fund investors will need to relearn some long-held assumptions as a result of the changes. Most index funds that track broad benchmarks such as the S&P 500 or the MSCI World won’t be affected, but many others geared toward specific business sectors and industries will be. For some, the shifts could prove an opportunity to rethink what they own.

What makes a “tech” company?

Why change things? MSCI and S&P are updating their Global Industry Classification Standards (GICS), a framework developed in 1999, to reflect major changes to the global economy and capital markets, particularly in technology.

Take Google, a company long synonymous with “tech” and internet software. Google parent Alphabet derives the bulk of its revenue from advertising, but also makes money from apps and hardware, and operates side ventures including Waymo, a unit that makes self-driving cars. Decisions about what makes a “tech” giant are not as simple as they once were.

The sector classification overhaul, set in motion last year, will begin in September and affect three of the 11 sector classifications that divide the global stock market. A newly created Communications Services sector will replace a grouping that is currently called Telecommunications Services. The new group will be populated by legacy Telecom stocks, as well as certain stocks from the Information Technology and Consumer Discretionary categories.

Some high-profile stocks will be assigned to new sectors after the reclassification. Facebook and Alphabet will move from Information Technology to Communications Services in GICS-tracking indexes. Meanwhile, Netflix will move from Consumer Discretionary to Communications Services. None of what the media has dubbed the FANG stocks (Facebook, Amazon.com, Netflix and Google parent Alphabet) will be classified as Information Technology after the GICS changes, perhaps a surprise to those who think of internet innovation as “tech.” The same applies to China’s BAT stocks (Baidu, Alibaba Group and Tencent). All of these were Information Technology stocks before the changes; none will be after.

What will this mean in Canada?

Here in Canada, the impact of the reclassification is more muted. Fewer than 20 TSX-listed companies being shifted from Information Technology or Consumer Discretionary into the new Communications Services. Among them are Cineplex Inc. and Shaw Communications, which are both migrating from Consumer Discretionary into Communications Services.

While the impact in Canada isn’t Earth-shattering, index change-ups can remind investors to make sure they know what they own.

 

Chris Dieterich is a strategist in BlackRock’s ETF and Index Investments Group and a regular contributor to The Blog.

Steven Leong is a Director and a member of BlackRock’s iShares Global Markets and Investments group.

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