Real Money's editors tasked with me writing a column on the upcoming reclassification of MSCI's Global Industry Classification Standard (GICS.) According to the many articles I have now read on the topic, these GICS categories are widely used by fund managers when analyzing their portfolio compositions. According to my friends who actively manage mutual fund portfolios, however, GICS are largely useless in the composition of their portfolios.
This is yet another example of the ETF-ization (if I may coin a new phrase) of this market. People who are paid to create alpha stopped paying attention to GICS many years ago, but ETF companies are wedded to them. In fact, State Street (STT) has already created a new sector SPDR ETF (XLC) to mirror the Communications Services GICS, which won't even exist until the close of trading on September 28th.
So, this is where the fundamentals are not easily captured in an ETF box. Take Amazon (AMZN) , for example. Amazon is part of the Consumer Discretionary sector for GICS purposes (and will remain so after the reclassification) and resides in the industry of "Internet & direct marketing retail." Fair enough. Amazon is a retailer of products mainly to consumers, but that is such a broad brush statement that it is nearly worthless. Amazon's most important business--in my eyes, anyway--is Amazon Web Services, the giant in cloud-based backend services. Most consumers will never interface with AWS directly, but the next time you cue up a movie on Netflix (NFLX) , you should realize that it is AWS's massive infrastructure that is powering that viewing.
Apple (AAPL) will stay in the Information Technology (IT) sector, while Alphabet (GOOGL) , Facebook (FB) and Baidu (BIDU) will be reclassified into Communications Services and eBay (EBAY) and Alibaba (BABA) move from IT to consumer discretionary. So, the "softer," more service-oriented companies are leaving Apple to dominate IT even more than it already does. That said, Apple would not have that market capitalization dominance if not for the growth in its services segment. If Apple only made handsets there would be no way to justify a $1 trillion valuation, but the fund managers who own it are smart enough to realize that nuance, regardless of GICS box.
The real move on the margin is the creation of the new sector Communications Services. Looking at the weightings of its tracking ETF, XLC, I find it to be unattractive, to say the least. XLC currently has 25.2% weighting in the combined two classes of Alphabet stock and a 17.7% weighting in Facebook. That 43% concentration in the two tech giants is scary to me, as I believe the biggest risk facing tech stocks is regulation and that Facebook and Google are the two biggest candidates for increased government scrutiny. This week's congressional hearings (which Google essentially bypassed, by refusing to send a C-level representative) resolved nothing, and the fear of regulation is going to over hang those two (three if you count both classes of Alphabet stock) in my opinion.
The real content creators in XLC like Disney (DIS) , AT&T (T) (with the newly christened Warner Media) and Netflix combine for only 14.5% of XLC's holdings. That's the exposure I would be seeking in a Communications Services ETF, but when those three stocks have a combined weight that is lower than Facebook's, I find that less appealing.
So, I believe we are moving into the the type of market I often pine for, a stock picker's market. In such an environment, ETFs become less attractive and rigid boxes like GICS classifications lose almost all value. Let's let analysts be analysts and let fund managers pick stocks. It takes copious amounts of research, but as I have always said, nerds rule!
(Amazon, Apple, Alphabet, Facebook and DIS are holdings in Jim Cramer's Action Alerts PLUS member club. Want to be alerted before Jim Cramer buys or sells AMZN, AAPL, GOOGL, FB or DIS? Learn more now.)