How Tech Reshuffling By S&P May Shake Up The Stock Market

Market index provider S&P Dow Jones Indices has unveiled plans to spread high-flying mega-cap technology stocks more broadly among the industry sectors that roll up to the full S&P 500 Index (SPX), The Wall Street Journal reports.

Currently, the so-called FAAMG group of five tech stocks are also the five largest U.S. stocks by market cap. However, only four of these are classified as information technology stocks right now. Once Standard & Poor's (S&P) reworks the sectors later this year, only two FAAMGs will remain in the tech sector, per the Journal.

The Big Shift

FAAMG member Inc. (AMZN), as well as FAANG member Netflix Inc. (NFLX), are consumer discretionary stocks in the current categorization. This is based on their respective core businesses, online retailing and online streaming of entertainment videos.

S&P plans, per the WSJ, to create a new communication services sector in September. Netflix will join it, as will FAAMG members Facebook Inc. (FB) and Alphabet Inc. (GOOGL), the parent of Google. The latter two are in the information technology sector today. As a result, Apple Inc. (AAPL) and Microsoft Corp. (MSFT) will be the only FAAMG stocks still in the tech sector. The Journal says that various other index providers globally, including MSCI, are planning to shift stocks out of their own tech categories.

Slimming Down Tech

A large part of the problem faced by S&P, per the Journal, is that the information technology sector now accounts for about 25% of the total market cap of the S&P 500 Index (SPX). Just by removing Alphabet and Facebook, tech's weight will drop to about 20%, per

Meanwhile, Amazon and Netflix have a combined weight of 30% in the consumer discretionary sector, which otherwise is populated by apparel makers, retailers, hotels, and restaurants, among others. Netflix is up by 1,095% over five years and by 68% YTD, while the numbers for Amazon are 499% and 36%, per adjusted closing prices from Yahoo Finance. (For more, see also: Amazon, Netflix Selling At 'Crazy' Prices Poised For Big Sell-Off.)

The S&P 500 Information Technology Index (S5INFT) is up by 152% over the five years through March 14, while its year-to-date return has been 10.1%, per S&P Dow Jones Indices. The figures for the S&P 500 Consumer Discretionary Index (S5COND) are, respectively, 100% and 6.9%, while those for the full S&P 500 are 76% and 2.8%.

Big Impacts

If the likes of Netflix, Facebook, and Alphabet keep soaring, that is likely to attract investments into the new communications services sector by index-oriented investors, the Journal notes. It also will mean a massive rebalancing of the portfolios in existing index funds and passive ETFs.

"All else equal, there will be higher momentum for these communications stocks," as Sam Stovall, chief investment strategist at financial research firm CFRA, told the WSJ, adding, "In the short term, they probably could end up outperforming." On the other hand, if Netflix continues to soar, its removal would make consumer discretionary less attractive.

One possibility not mentioned by the Journal is that the redistribution of tech stocks might make their new sectors more volatile than they are now. As veteran tech analyst and portfolio manager Paul Meeks recently observed, tech stocks tend to have high beta risk, making for much sharper price swings than the broader market, both up and down. (For more, see also: Why a 20% Plunge In Tech Stocks Is a Buying Opportunity.)

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