Sector Alert: Communication Services About To Get Sexier

At the end of September, the Telecom Services Sector will cease to exist, and the new Communication Services sector will be born.  I created this post following a morning of Googling to try and gather the best information out there.  Let's review what is happening, how it will affect existing sectors, and how investors should think about this change.

S&P Global (which coincidentally has a pretty solid long-term chart) announced the transition in late 2017, but I've found that even institutional investors are under-prepared for this change.  The reason for the sector redesign is to acknowledge a group of stocks that evolved into similar businesses over time.  

To create this new sector, they are taking some of the largest stocks (FB, GOOG) from Information Technology, as well as the media names (DIS, CMCSA, etc.) from Consumer Discretionary, and combining them with the existing Telecom names (T, VZ).

The resulting sector will make up about 10% of the S&P 500, similar to the weight of Industrials.  State Street Global Advisors pointed out that this new sector will become the fourth biggest sector (give or take), and Technology and Consumer Discretionary will both decrease in weight.

The XLC has only been trading since mid-June, but Bloomberg has a theoretical value going back for many years.

The biggest impact I see is that Consumer Discretionary instantly becomes a bit less important, with big media including Disney and Netflix rotating out of the sector.  It also means that a sector like Telecom Services, which was a rounding error that consisted of basically two stocks, now elevates in stature with the inclusion of all these important names.  

It's worth noting that this is a fairly concentrated sector, with over 43% of the weight in just two companies- Facebook and Alphabet.

According to analysis by MSCI, this transition also takes a defensive sector like Telecoms and turns it into a cyclical sector.  There will now be more offensive names like the consumer tech stocks to complement the traditional defensive names.  As my friend Sam Stovall at CFRA put it, "They're certainly making a big change to the sector personality."

How will this affect existing sectors?  My conversations tell me that the impact will be minimal in terms of individual names.  However, for institutional investors looking at sector allocation, this could have significant implications for their sector tilts.

For advisors and individuals, the XLC (Communications Services Sector ETF) is already trading and this provides an opportunity to increase allocation to this new bucket of stocks.  When you look through companies that comprise the ETF, you can see that this is a group you should not overlook in your analysis.


Disclaimer: This blog is for educational purposes only, and should not be construed as financial advice.  Please see the Disclaimer page for full details.