Innovation Stretches Beyond Labels

Some of the market’s most innovative companies now call a new sector home, as part of a revamp of the Global Industry Classification Standard used by index providers to classify stocks. Franklin Equity Group’s Matt Moberg, portfolio manager, Franklin DynaTech Fund, explains why he thinks the changes may not go far enough.

On September 28, MSCI and S&P Dow Jones Indices officially renamed and reconstituted the telecommunications services sector under the Global Industry Classification Standard (GICS) they use to categorize stocks. The new communications services sector includes media and telecom stocks, as well as companies currently in other sectors.

It may seem like a simple administrative change, but some of the world’s largest companies, as defined by market capitalization, migrated to the new sector. For example, Google-parent Alphabet moved from the information technology (IT) sector, as did Facebook.1 Netflix shifted out of the consumer discretionary sector.2

In November 2017, MSCI and S&P suggested there has been an evolution over the last several years in how we communicate and access content.3 As a result, the index providers said they were constructing the new communications services sector to include a mix of companies that “facilitate communication and offer content through various media.”4

Innovation Is Often Misclassified

We broadly agree with the GICS reclassification and believe the new sector homes for many stocks better reflect their core business lines. However, we might suggest the GICS reform doesn’t go far enough. As long-term investors, we classify companies according to their “end-market,” or the need that is being met.

For example, certain credit card companies are addressing a massive shift in the consumer finance landscape, enabling the huge growth in e-commerce, but also convenience at the point of sale. Ten years ago, it would have been rare to pay for a cup of coffee with a credit card. Now it’s standard practice. So, in our view, these credit card companies belong in the financials sector, not the IT sector where they will continue to reside.