August 10, 2018

Major Indexes Add a New Sector to Combat Concentration: Communication Services Coming to the S&P 500

There’s no doubt that Technology stocks have dominated the U.S. large cap equity space. In past posts, we’ve discussed the concentration of the giant FAANG stocks and the fact that large cap equity indexes like the S&P 500 are heavily tilted toward the Technology sector, with tech making up 26% of the S&P 500.1 The industry has recognized the too-heavy tech weighting, and we are about to see a significant change to the sector structure. S&P Dow Jones and MSCI Indexes will be adding a new sector – Communications Services – and moving some of the tech giants, including Alphabet (Google’s parent company), Facebook, and Netflix, into this new sector. The Communications Services sector will replace its previously named counterpart, Telecommunications Services.

The new Communications Services sector will not be free of the concentration issue: Alphabet and Facebook will still comprise about 44% of this new sector in the S&P 500 to begin with2, even though 21 other companies will be joining them, some from Technology and some from Consumer Discretionary. Other notable companies coming over to Communications Services include FAANG stock Netflix, Disney, Comcast, and Twitter. Morgan Stanley estimates the new sector will be the third-largest based on market value, comprising 13.2% of the S&P 500’s total.3 These changes will begin on September 21 of this year.

This change is fairly unprecedented; sector changes happen infrequently. In 2016, the Real estate sector was separated from Financials, but that had a much smaller impact. Because the Technology industry has dominated both the market and the indexes to such a degree, this seems a sensible move both from a weighting perspective but also in terms of better describing the industry landscape.

What does this mean for investors? For most, not much; nothing in the market or stocks changes, only the categories are shifting. Be prepared to see sector information broken out in the new way, and a somewhat more balanced weighting across equity sectors!
 

1 “Technology stocks make up too much of the S&P 500, so  the index has a big move planned for Google, Facebook” by  Nicholas Colas; CNBC: Aug. 6, 2018: https://www.cnbc.com/2018/08/06/tech-stocks-make-up-too-much-of-sp-500-but-index-has-a-fix-in-works.html

2Ibid.

3 “A new S&P 500 sector is coming soon. Here’s how it     would’ve performced over the past five years,” by Ryan    Vlastelica; MarketWatch; Mar. 22, 2018: https://www.marketwatch.com/story/a-new-sp-500-sector-is-coming-soon-heres-how-it-wouldve-performed-over-the-past-5-years-2018-03-21