investing

Do You Own ETFs? Heed the GICS Shakeup

Coming changes to how stocks are classified by industry and sector could have repercussions for investors in many exchange-traded funds.

If you invest in exchange-traded funds, you’ll want to take a close look at the stocks and other securities held by your ETFs as 2018 progresses.

Two of the most prominent providers of indexes that determine what ETFs own are shaking up how they classify many popular stocks, including Facebook (FB) and Alphabet (GOOGL). Since the vast majority of ETFs are passively managed, the underlying index dictates what ETF managers buy and sell.

ETF investors received a heads-up that changes were coming, but the potential significance of the changes is becoming more apparent. Index providers S&P Dow Jones Indices and MSCI announced in November that they were looking to make changes to the structure of what’s called the Global Industry Classification Standard (GICS), which determines how stocks are sorted into sectors, industries and even sub-industries. The changes are slated to take effect at the end of September. On Thursday, S&P Dow Jones Indices and MSCI revealed the identities of 200 stocks (PDF) that would be affected by the changes.

ETF investors would be wise to pay attention.

The most significant GICS overhaul is coming to the telecom sector. The previously named Telecommunication Services Sector that was mostly known for the likes of AT&T (T) and Verizon (VZ) will now be broadened and renamed Communication Services. The new Communication Services sector will include telecoms, but also draw new companies out of three other buckets:

  • Media Industry: Includes companies such as Comcast (CMCSA), which provides cable and Internet service, operates broadcast and cable channels, and includes the film production studio Universal Pictures, among other business arms.
  • Internet & Direct Marketing Retail Sub-Industry: Includes companies such as TripAdvisor (TRIP), which provides travel reviews and booking services.
  • Information Technology Sector: Includes companies such as Facebook, the ubiquitous social media site that connects people from around the world.

Yes, these changes are complicated, but that’s all the more reason for ETF investors to pay close attention. To help, here’s a simplified example of how GICS changes could affect your portfolio. Let’s look at the changes we theoretically could see in the Vanguard Information Technology ETF (VGT) – a popular tech ETF that holds more than $18 billion in assets. 

Getty Images

Based on the chart above that shows the stocks held by the ETF that could be reclassified by the GICS changes, nearly 20% of VGT’s portfolio could change over, including prominent names such as Facebook and both share classes of Google parent Alphabet. The resulting classification shifts could mean that those stocks would end up moving into the Vanguard Telecom Services ETF (VOX), which also would bring in a few consumer discretionary stocks, including Walt Disney (DIS) and Dish Network (DISH). This could drastically alter the dynamics of both funds.

The VGT has averaged 13.4% annual gains over the past decade, versus just 5.9% annual returns for the VOX and its motley crew of sleepy telecom companies. The flipside? Those telecoms power a 4%-plus yield in VOX, versus just 1% for the VGT. So both income and growth potential alike could be in flux.

Some popular funds might be affected differently. For instance, the $400 billion Technology Select Sector SPDR Fund (XLK) already meshes tech companies such as Facebook and Alphabet with telecoms such as AT&T. However, it likely will be impacted by the influx of a few large consumer discretionary stocks migrating into telecommunications. Meanwhile, holdings such as eBay (EBAY) could move out of XLK and into the Consumer Discretionary Select Sector SPDR Fund (XLY).

The takeaway here? If you own any sector or industry ETFs, in particular, it’s time to pay close attention to the “Press Releases” or “Literature” section of your fund provider’s website. Over the next few months, many ETF providers are sure to release updates on what the new GICS classifications mean. Take them seriously: They could drastically alter the risk, growth potential and income generation profiles of some of your most important holdings.

EDITOR'S NOTE: This story has been updated to reflect potential changes to the XLK.

Most Popular

Your Guide to Roth Conversions
Special Report
Tax Breaks

Your Guide to Roth Conversions

A Kiplinger Special Report
February 25, 2021
9 Great Growth ETFs for 2022 and Beyond
ETFs

9 Great Growth ETFs for 2022 and Beyond

These growth ETFs offer exposure to higher-risk, higher-reward stocks while lessening the risk of a single stock torpedoing your returns.
January 18, 2022
The 10 Best Closed-End Funds (CEFs) for 2022
CEFs

The 10 Best Closed-End Funds (CEFs) for 2022

These high-yielding CEFs won't just significantly boost your portfolio income. They'll also allow you to buy their underlying stocks and bonds at a di…
January 12, 2022

Recommended

Semiconductor Stocks: A Smart Bet for the Long Haul
Becoming an Investor

Semiconductor Stocks: A Smart Bet for the Long Haul

Stocks in this growing industry will stay in demand long after supply-chain snarls are unraveled.
January 26, 2022
The Right Dividend Stock Fund for You
Becoming an Investor

The Right Dividend Stock Fund for You

Dividend stock strategies come in many different flavors. Here's what to look for.
January 26, 2022
Primecap Odyssey Growth Has a Rough Year
mutual funds

Primecap Odyssey Growth Has a Rough Year

The fund trailed the S&P by a wide margin, but over the long haul Primecap's managers have not disappointed shareholders.
January 26, 2022
Could the Stock Market Crash for Real? Here’s How to Prepare
investing

Could the Stock Market Crash for Real? Here’s How to Prepare

After a long march to record heights, the stock market tripped into correction territory in January. How should you react? Thoughtfully.
January 25, 2022