In addition to the next anticipated fed rate hike, there’s a lesser-known factor set to take effect later this year that may impact markets, and may even cause a flash crash. The change that’s coming has to do with both the S&P and MSCI overhauling their global industry classification system (GICS), and Jim Puplava offered his insight as to how this might shake out.
A New Sector Emerges
This system, known as GICS, determines which stocks fall into what sectors, industry groups, and sub industries. The changes that are coming are important, Puplava stated, because the system determines what stocks go into various sector funds or ETFs.
The restructuring of GICS is going to generate a lot of asset reshuffling, and the biggest change is the introduction of a new sector called the communications sector, which is going to replace telecommunications.
The new sector will make telecommunications as a sector extinct, and is going to be comprised of cherry-picked stocks from the tech, consumer discretionary, and telecom sectors, respectively.
“The new sector will be huge, and when I say huge, it will become the fourth-largest sector for investing,” Puplava said. “No. 1 is technology. No. 2 is healthcare. No. 3 is financials. The new communication sector will become No. 4.”
Timeline for Restructuring
The S&P plans to reconstitute its indexes after the market closes on September 28, Puplava noted, and MSCI is going to change its indexes effective December 2.
Keep a close watch on how markets perform on October 1 after the S&P change to get an idea of how these changes will impact investing.
Next, be sure to mark your calendar to note how markets handle MSCI’s index changes on December 4.
“This is going to be a big thing,” Puplava said. “At this point, we simply do not know what this is going to look like.”
Puplava has often noted that there is a bubble in passive index investing, and this classification change is likely to lead to further concentration of a few big names in a few sectors.
For example, Apple, Amazon, Facebook, and Alphabet will become the heavyweights within the new communication services sector.
The reclassification will likely ripple across markets, Puplava noted, triggering a substantial migration of stocks. Index managers will have to get rid of those indexes or stocks that are no longer part of their mandate for their index.
And it isn’t just the communications sector that is changing, Puplava added. They're going to reweight technology and consumer discretionary, and some of these indexes are going to become even more highly concentrated in the future.
It won’t be surprising if we see more companies, other than just Apple and Amazon, achieve trillion dollar market caps, such as Google, Microsoft and several others.
Beyond watching how markets react to the changes that are coming, Puplava stated, it will be important to see how the financial services industry makes sector recommendations going forward.
As the business cycle ages, this classification change will have broad implications with the creation of the new sector, meaning we could see dislocations and shifts as asset distribution adjusts.
There is going to be a lot of reshuffling that's going to take place on September 28th and on December 3, respectively, Puplava noted. The tech sector profile is probably going to shrink and be downsized. The hot new sector will likely be the communication services sector, where we’ll find the companies that have had the highest growth rate over the last few years.
The communications sector is also changing, with the addition to some of these high-flyers, half of which will come from tech. The other half consists of media companies and telecom companies such as CBS, Comcast, Netflix, and the old stalwarts such as Verizon and AT&T.
Even telephone companies have moved into the media sector with AT&T buying Time Warner and Verizon buying Yahoo, Puplava noted.
In addition to paying attention to the Fed’s actions for the rest of this year, investors will do well to carefully monitor how these reclassifications impact markets and financial sector weightings.
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