investing

A Sector Redo Shuffles Stocks

Some of the market's biggest names are on the move, dealing a new hand to index funds that invest in these corners of the market.

If you own mutual funds or exchange-traded funds dedicated to particular sectors of the market, you may wake up on October 1 to find that some of your stock holdings aren’t where you left them. Market index providers S&P Dow Jones Indices and MSCI Inc. are changing the Global Industry Classification Standard (GICS)—the system used to divide stocks within indexes, including Standard & Poor’s 500-stock index, into industry sectors. The realignment, which will go into effect after the market closes on September 28, will result in changes to three of the current 11 sectors: consumer discretionary, information technology and telecommunications services.

The last sector will be renamed communication services and will group together companies involved in social media, content creation, and internet and telecom services. Joining the likes of AT&T and Verizon in the sector will be internet firms such as Facebook and Alphabet, which were formerly classified as information technology companies, as well as media heavyweights Walt Disney, Comcast and Netflix, which used to be grouped with consumer discretionary companies (firms that provide nonessential goods or services). The information technology sector will also surrender internet retailers such as eBay and Alibaba, which will join the consumer discretionary sector.

Who Will Notice

Investors in broad stock market indexes likely won’t notice the change, but those who use sector funds as diversifiers or strategic plays should examine their holdings after the switch. The high-yielding, value-oriented telecom sector is about to be dominated by fast-growing companies. Some 60% of the sector will operate in social media, online gaming and cloud computing, says Leuthold Group research director Scott Opsal. Stripped of its large internet names, the tech sector will be a purer play on software, hardware and semiconductors.

All told, the move will reshuffle about 10% of the S&P 500, forcing mutual funds and ETFs that track the affected sectors to trade billions of dollars’ worth of stock to get themselves properly aligned. Although some of that trading is already under way, investors could yet see some temporary choppiness in the market. Some financial firms have taken steps to smooth out the impact of the move. Vanguard’s ETFs in the affected sectors began tracking custom benchmarks in May, and they have been gradually buying and selling shares to move the funds into the planned alignment. State Street Global Advisors, which runs the SPDR ETFs, launched an ETF in June that tracks the new communications sector.

The shift will cause some mutual funds and ETFs to offload major positions in Alphabet, Facebook and Netflix, all of which have enjoyed huge run-ups in recent years. ETF investors are unlikely to receive a tax bill, thanks to the practice among ETFs of routinely swapping shares with institutional market makers to limit capital gains.

Investors in mutual funds forced to sell shares will likely receive a capital gains distribution, which will be taxed at 15% in most brackets and 20% for taxpayers in the 37% tax bracket for ordinary income. Fund sponsors will announce any distribution in advance, should investors wish to sell before the distribution date. Tax considerations alone shouldn’t dictate whether you sell a fund, but if its makeover is substantial, consider whether you still want to own it.

Most Popular

Your Guide to Roth Conversions
Special Report
Tax Breaks

Your Guide to Roth Conversions

A Kiplinger Special Report
February 25, 2021
11 Best Monthly Dividend Stocks and Funds to Buy
Kiplinger's Investing Outlook

11 Best Monthly Dividend Stocks and Funds to Buy

Your bills come monthly. Why not your dividend checks? These are some of 2021's best monthly dividend stocks and funds for easier income planning.
May 25, 2021
4 Strategies to Reduce Taxes in Retirement
retirement planning

4 Strategies to Reduce Taxes in Retirement

Don’t let the possibility of higher taxes in the future sink your retirement income plan. Consider these four ways to help manage your taxes, keeping …
May 31, 2021

Recommended

Bonds: 10 Things You Need to Know
Investing for Income

Bonds: 10 Things You Need to Know

Bonds can be more complex than stocks, but it's not hard to become a knowledgeable fixed-income investor.
July 22, 2020
3 Essentials for a Successful Retirement
retirement planning

3 Essentials for a Successful Retirement

To plan for the next phase of your life, you need clear strategies to provide for these three retirement needs.
June 13, 2021
Invest in a Roth 401(k) If You Can
401(k)s

Invest in a Roth 401(k) If You Can

Workers of all ages can benefit from stashing away after-tax money now in exchange for tax-free withdrawals in the future.
June 11, 2021
5 Key Considerations as You Craft Your Retirement Plan
retirement planning

5 Key Considerations as You Craft Your Retirement Plan

No retirement plan is complete without covering these five key areas.
June 10, 2021