In the wake of the most recent reorganization of industry classifications, the already depleted technology sector will lose even more enterprises, increasing stock concentration to record heights.
In 2018, the Global Industry Classification Standards (GICS) framework categorized Facebook (now Meta), Netflix, Twitter, Snap, and Alphabet, the parent company of Google, as communication services firms. With Amazon already classified as a consumer discretionary firm, only Apple remained technically a tech stock among the notorious five FAANGs.
So Visa and Mastercard, two of the five largest surviving technology businesses, will be reclassified as financials with PayPal and Fiserv, but Automatic Data Processing and PayChex will be transferred to industrials.
Apple and Microsoft, which currently account for a combined 44.4% of the S&P 500 Information Technology sector, will now account for over 50% of the sector.
“The modifications strengthen our unfavorable opinion of technology exchange-traded funds, which will become increasingly concentrated. We favor sector ETFs with equal weighting, according to experts at BofA Securities.
Yet, the effect will vary considerably from fund to fund. The $158bn Invesco QQQ ETF (QQQ), which is commonly seen as a technology fund, will be unaffected since it invests in the largest non-financial Nasdaq-listed firms regardless of industry, including PepsiCo, Walgreens Boots Alliance, and Marriott International.
According to statistics from Morningstar Direct, the ramifications for the $49bn Vanguard Information Technology ETF (VGT) and the $40.1bn Technology Select Sector SPDR ETF (XLK), the world’s two largest sector ETFs, may vary, in part, because they are already as concentrated as US laws allow.
According to the US Internal Revenue Code, regulated investment companies, which include funds, must ensure that no more than 25% of their assets are invested in a single issuer or company at the end of each quarter and that the total weight of all issuers representing more than 5% of the fund does not exceed 50%.
Apple, Microsoft, and Nvidia, the third-largest surviving technology business, have a combined weighting of 50.45% of the S&P 500 Technology Select Sector Index monitored by XLK, while Apple’s weighting is 23.04 %.
This implies that their weight cannot increase following the recalculation, which will take place for S&P indexes after the close of trade on March 17.
Thus, the index and any fund that tracks it, such as XLK, will underweight the big three relatives to their underlying market capitalizations and overweight the other technology firms, led by Broadcom, Cisco Systems, and Salesforce.
Matthew Bartolini, head of SPDR Americas research at State Street Global Advisors, described the modifications as “quite minimal in terms of weighting, and the fund will continue to have a highly diversified exposure to the technology sector.”
VGT, on the other hand, follows small and mid-cap tech equities in addition to the blue-chip stocks in the S&P 500, so its exposure to the larger corporations is significantly diminished.
As of January 31, the most recent date for which data is available, VGT’s aggregate exposure to Apple, Microsoft, and Nvidia was 43.6%, allowing it potential to grow when MSCI (whose index VGT monitors) implements the GICS revisions in May.
Hence, VGT’s exposures will likely align with the underlying market capitalizations, but they will become increasingly concentrated in a few stocks.
Vanguard stated that it was currently analyzing the potential impact on its funds, but that “GICS adjustments will have little effect on investors in widely diversified equities funds such as Total Stock Market Index or 500 Index.”
The iShares US Technology ETF (IYW), which tracks a variation of the Russell 1000 Technology index, follows a different path. Instead of adhering to the GICS structure, FTSE Russell utilizes its own Industry Classification Benchmark.
As a result, IYW invests in firms such as Meta, Google, and Pinterest that are off-limits to VGT and XLK. The next GICS adjustments will lessen the gap, as FTSE Russell does not categorize Visa and Mastercard as technology equities (they are instead classified as the two largest industrial businesses in the United States). Please utilize the sharing options accessible via the share button located at the top or side of each story. Copying articles for distribution is a violation of the FT.com Terms and Conditions and Copyright Policy. Send an email to email@example.com to purchase additional rights. With the gift article service, subscribers may send up to 10 or 20 articles each month to friends and family. The effects of the GICS reorganization will continue to spread. BofA predicts this will result in a net sale of the payment giants, with tech funds selling $15 billion worth of shares and financials funds purchasing only $11 billion.
Visa and Mastercard are on course to become the second- and fourth-largest companies, respectively, in the S&P 500 financials sector, with a combined market capitalization of about $800 billion.
Bartolini backed the move of Visa and Mastercard, stating that, given their ties to the financial industry, they “should probably be in financials.” According to our talks with investors, this shift is quite well received,” he noted.
About the association of the FAANGs moniker with technology, Bartolini stated, “It’s catchy, it grabbed on, and it might lead to confusion.”