GICS: Overview

Equity Market Analysis Requires Understanding Market Structure

When you enter a large food market, you always look to the signs for guidance. Otherwise you just stumble around the aisles.

Same thing should apply to the capital market.

I believe the most critical element of securities analysis is one's understanding of the data structure of capital markets. By understanding equity market structure, for instance, you can use your knowledge to better analyze stocks and make decisions when you buy and sell.

The Standard & Poor's and Dow Jones organizations have categorized the equity market into the following hierarchical list:

sectors,
industry groups,
industries, and
sub-industries.

Standard & Poor's and Morgan Stanley Capital International (MSCI) jointly launched the global Industry Classification Standard (GICS) in 1999. Dow Jones & Co, another leading provider of global indices, offers a competing, but quite similar, classification system.

Investment professionals tend to use the S&P system, including using the S&P 500 market index as their performance baseline index; whereas the public and the general media tend to use the Dow Jones system of sector and industry classification as well as the Dow Jones 30 Industrial Average as their baseline market index.

While I use the S&P GICS structure for my programmed trading models, and for most discussions on this website, I also use the DJ service, which you can find at the CBS MarketWatch web site. Go to Investor Tools and then to Industry Analyzer.

Although I will list and discuss all this information, here is a web link to the GICS information. And, here is the link to the 2004 GICS tables in Excel spreadsheet format (but for in-depth study, please note that they will be changed in 2Q05).
http://www.msci.com/equity/gics.html
http://www.msci.com/equity/GICS_map2004.xls

It matters little whether you use the S&P or the DJ system. The important point is that you understand market structure and use this knowledge to your advantage while analyzing markets and making decisions.

GICS Example:

GICS might seem at first glance to be a big deal but really, it's not.

Look, for instance, at the Sector 20: Industrial sector. It is comprised of three Industry Groups: Capital Goods (2010), Commercial Services & Supplies (2020), and Transportation (2030).

The Transportation Industry Group is comprised of five Industries: Air Freight & Logistics (203010), Airlines (203020), Marine Transport (203030), Land Transport (203040), and Transportation Infrastructure (203050).

The Land Transport Industry is comprised of two sub-industries: Railroads (20304010) and Trucking (20304020).

That isn't too complicated, is it?

GICS Sectors (10)
10	Energy
15	Basic Materials
20	Industrial
25	Consumer Discretionary
30	Consumer Staples
35	Health Care
40	Financials
45	Information Technology
50	Telecommunication Services
55	Utilities


GICS Industry Groups (24)

1010	Energy
1510	Materials
2010	Capital Goods
2020	Commercial Services & Supplies
2030	Transportation
2510	Automobile & Components
2520	Consumer Durables & Apparel
2530	Hotels, Restaurants & Leisure
2540	Media
2550	Retailing
3010	Food & Staples Retailing
3020	Food, Beverage & Tobacco
3030	Household & Personal Products
3510	Health Care Equipment & Services
3520	Pharmaceuticals & Biotechnology
4010	Banks
4020	Diversified Financials
4030	Insurance
4040	Real Estate
4510	Software & Services
4520	Technology Hardware & Equipment
4530	Semiconductors & Semicon Equipment
5010	Telecommunication Services
5510	Utilities

GICS Industries (62)
101010	Energy Equipment & Services
101020	Oil & Gas
151010	Chemicals
151020	Construction Materials
151030	Containers & Packaging
151040	Metals & Mining
151050	Paper & Forest Products
201010	Aerospace & Defense
201020	Building Products
201030	Construction & Engineering
201040	Electrical Equipment
201050	Industrial Conglomerates
201060	Machinery
201070	Trading Companies & Distributors
202010	Commercial Services & Supplies
203010	Air Freight & Logistics
203020	Airlines
203030	Marine Transport
203040	Land Transport
203050	Transportation Infrastructure
251010	Auto Components
251020	Automobiles
252010	Household Durables
252020	Leisure Equipment & Products
252030	Textiles, Apparel & Luxury Goods
253010	Hotels, Restaurants & Leisure
254010	Media
255010	Distributors
255020	Internet & Catalog Retail
255030	Multi-line Retail
255040	Specialty Retail
301010	Food & Staples Retailing
302010	Beverages
302020	Food Products
302030	Tobacco
303010	Household Products
303020	Personal Products
351010	Health Care Equipment & Supplies
351020	Health Care Providers & Services
352010	Biotechnology
352020	Pharmaceuticals
401010	Commercial Banks
401020	Thrifts & Mortgage Finance
402010	Diversified Financial Services
402020	Consumer Finance
402030	Capital Markets
403010	Insurance
404010	Real Estate
451010	Internet Software & Services
451020	IT Services
451030	Software
452010	Communications Equipment
452020	Computer & Peripherals
452030	Electronic Equipment & Instruments
452040	Office Electronics
453010	Semiconductors & Semiconductor Equipment
501010	Diversified Telecommunication Services
501020	Wireless Telecommunication Services
551010	Electric Utilities
551020	Gas Utilities
551030	Multi-Utilities & Unregulated Power
551040	Water Utilities

GICS Sub-Industries (132)
10101010	Oil & Gas Drilling
10101020	Oil & Gas Equipment & Services
10102010	Integrated Oil & Gas
10102020	Oil & Gas Exploration & Production
10102030	Oil & Gas Refining, Marketing & Transportation
15101010	Commodity Chemicals
15101020	Diversified Chemicals
15101030	Fertilizers & Agricultural Chemicals
15101040	Industrial Gases
15101050	Specialty Chemicals
15102010	Construction Materials
15103010	Metal & Glass Containers
15103020	Paper Packaging
15104010	Aluminum
15104020	Diversified Metals & Mining
15104030	Gold
15104040	Precious Metals & Minerals
15104050	Steel
15105010	Forest Products
15105020	Paper Products
20101010	Aerospace & Defense
20102010	Building Products
20103010	Construction & Engineering
20104010	Electrical Components & Equipment
20104020	Heavy Electrical Equipment
20105010	Industrial Conglomerates
20106010	Construction, Farm Machine, Heavy Truck
20106020	Industrial Machinery
20107010	Trading Companies & Distributors
20201010	Commercial Printing
20201030	Diversified Commercial Services
20201040	Employment Services
20201050	Environmental Services
20201060	Office Services & Supplies
20301010	Air Freight & Logistics
20302010	Airlines
20303010	Marine
20304010	Railroads
20304020	Trucking
20305010	Airport Services
20305020	Highways & Railtracks
20305030	Marine Ports & Services
25101010	Auto Parts & Equipment
25101020	Tires & Rubber
25102010	Automobile Manufacturers
25102020	Motorcycle Manufacturers
25201010	Consumer Electronics
25201020	Home Furnishings
25201030	Homebuilding
25201040	Household Appliances
25201050	Housewares & Specialties
25202010	Leisure Products
25202020	Photographic Products
25203010	Apparel, Accessories & Luxury Gds
25203020	Footwear
25203030	Textiles
25301010	Casinos & Gaming
25301020	Hotels, Resorts & Cruise Lines
25301030	Leisure Facilities
25301040	Restaurants
25401010	Advertising
25401020	Broadcasting & Cable TV
25401030	Movies & Entertainment
25401040	Publishing
25501010	Distributors
25502010	Catalog Retail
25502020	Internet Retail
25503010	Department Stores
25503020	General Merchandise Stores
25504010	Apparel Retail
25504020	Computer & Electronics Retail
25504030	Home Improvement Retail
25504040	Specialty Stores
30101010	Drug Retail
30101020	Food Distributors
30101030	Food Retail
30101040	Hypermarkets & Super Centers
30201010	Brewers
30201020	Distillers & Vintners
30201030	Soft Drinks
30202010	Agricultural Products
30202030	Packaged Foods & Meats
30203010	Tobacco
30301010	Household Products
30302010	Personal Products
35101010	Health Care Equipment
35101020	Health Care Supplies
35102010	Health Care Distributors
35102050	Health Care Services
35102020	Health Care Facilities
35102030	Managed Health Care
35201010	Biotechnology
35202010	Pharmaceuticals
40101010	Diversified Banks
40101050	Regional Banks
40102010	Thrifts & Mortgage Finance
40201020	Other Diversified Financial Services
40201030	Multi-Sector Holdings
40201040	Specialized Finance
40202010	Consumer Finance
40203010	Asset Mgmt & Custody Banks
40203020	Investment Banking & Brokerage
40203030	Diversified Capital Markets
40301010	Insurance Brokers
40301020	Life & Health Insurance
40301030	Multi-line Insurance
40301040	Property & Casualty Insurance
40301050	Reinsurance
40401010	Real Estate Investment Trusts
40401020	Real Estate Mgmt & Development
45101010	Internet Software & Services
45102010	IT Consulting & Other Services
45102020	Data Processing & Outsourced Svc
45103010	Application Software
45103020	Systems Software
45103030	Home Entertainment Software
45201020	Communications Equipment
45202010	Computer Hardware
45202020	Computer Storage & Peripherals
45203010	Electronic Equipment Manufacturers
45203020	Electronic Manufacturing Services
45203030	Technology Distributors
45204010	Office Electronics
45301010	Semiconductor Equipment
45301020	Semiconductors
50101010	Alternative Carriers
50101020	Integrated Telecommunication Svc
50102010	Wireless Telecommunication Svc
55101010	Electric Utilities
55102010	Gas Utilities
55103010	Multi-Utilities & Unregulated Power
55104010	Water Utilities

Market Relationships:

Market data structure is important because it represents the most important thing that matters to you, which is price.

Now, it's always hard to start something if you can't figure out the beginning, and yet most investors don't even know what they are. What they are happens to be a trader of securities, and securities may be debt or equity or some derivative of these, which is all paper.

Securities are not physical or real, like real property (land) or commodities (oil, metals, agricultural goods).

Being paper, the security represents a price. Hence, security traders happen to trade prices. The point being, they don't invest directly in corporations.

Take General Motors for example. It manufactures automobiles, like the Cadillac. Its stock trades on the NYSE under the ticker symbol GM, presently (1Q05) at about US$37.

If I want to buy 1,000 shares of GM, I'll have to pay about $37,000. If I want to buy a small Cadillac, I'll have to pay about the same amount.

In one case I hold something physical (which makes me an owner of a depreciating asset) and in the other I hold paper (which makes me a securities trader, hopefully of an appreciating asset).

Now if I happened to be Bill Gates and decided to buy the company, I'd have to fork over about $21 billion for the equity plus assume a ton of debt (which then makes me an investor in a business corporation).

Do you get my point? It's important.

Investors seek control of a company, which could be for various reasons, whereas security traders are motivated by portfolio gain. They trade prices.

Here is a cartoon that is my favorite as it pokes fun of securities traders who get emotionally attached to the stocks in their portfolio. It's by Bernard Shoenbaum " and it's in the Book of Cartoon's by Barron's, which I recommend:

The mere fact you think that securities trading is "investing" is testament to the fact the sell-side has educated you to think in terms of them creating products and you buying them, and holding them.

If you want to invest in a company's assets and operations, which is a direct investment, then you must study the company from the bottom up--i.e., balance sheet and income statement.

But if you want to trade in securities for purposes of creating wealth from portfolio investing, then you must first and foremost study the market from the top down, and that requires understanding the structure of markets.

And you were taught to believe that portfolio investing required a bottom-up approach. Ha!

I like to keep things simple. As a securities trader, I trade prices. And, my paradigm for trading prices is simply labelled â€˜cause and effect'.

A securities trader has to study price movement. Studying the key causal factors that influence market prices logically does that.

So, why fight logic?

Major Causal Factors:

By using a top-down structured approach to studying market prices, and with sufficient analysis of market time series data, you'll soon get to a point of understanding that the market does not operate in a vacuum. You will observe multiple nested relationships existing within the data that I refer to as causal factors. And, I say you cannot effectively trade the capital markets without understanding these relationships.

Some market relationships are on account of the sectors (and industry groups, industries and sub-industries) being affected by the same causal factors.

So what are they? Well they could be internal (i.e., the company) or external (i.e., the capital market).

The major external determinants of stock prices, in addition to other stock prices, are:

interest rates and foreign exchange, i.e., related to paper assets
the economy, i.e., related to spending and consumption, and
commodity prices, i.e., related to real assets.

Consumer spending or business spending data, which are published monthly and not easily explained by economists, mostly affect (and reflect the present state of) the economy.

The data on the prices of debt paper or real assets (i.e., interest rates, foreign exchange rates and commodity prices) is real-time and the impact on equity prices is more obvious.

But all three factors are important in the equity pricing model, and they are dynamic.

The major internal determinants of stock prices are:

business model, which is typically created by its founder, and which may be modified to a degree over time by its management, and
operating performance of the management, are the key internal factors that bear on its stock price.

As to these internal factors, I believe the business model is the most important determinant of market price, and that the importance of executive (i.e., policy and strategy) management is over-emphasized in terms of importance to securities traders.

Due to a position of management control and authority, some of these CEOs sell themselves as creators of the universe, which is hardly the case. Take former NYSE CEO Richard Grasso as an example.

But, in terms of the power of the business model, look at, for example, Messrs Page and Brin, who created the ubiquitous product Google. This is a great product, but I believe there are at least 100,000 executive managers in the world qualified to run the company. There are probably at least 10,000 who could sit in the CEO chair, and management's performance wouldn't change a whit.

So I ask, why are some of these persons paid multi tens of millions per year to run shareholder-owned corporations? I'll tell you: boardroom politics. Nothing more.

And if these individuals were not complicitly linked to and supported by the sell-side, many of them wouldn't even have a job.

Once securities traders can see the business model for a company (and its relationship with interest rates, the economy, and commodity prices), they can pretty much tell how the company's metrics are going to play out for the time they will actually hold an unhedged stock in their portfolio, which in the case of the average professional investor is less than one year.

Trading then becomes, you see, a matter of top-down securities analysis.

I believe that most market relationships are simple, and that Wall Street and all their high-paid analysts and economists make this subject seem far more complex than it really is.

If you as a securities trader just take the top down view, without getting into unnecessary complexities, the important concepts are really so simple that if the common man fails to understand them in a matter of minutes, they are not worth your time, or mine.

Market Data Trends and Cycles:

Of greater significance than static levels of the macro-factors (interest rates, forex rates, economic data and commodity prices), investors ought to focus on the trends and cycles in this data.

As an example, this morning the 10-year U.S. Treasury Note is priced to yield 4.22 percent. As an absolute number, that doesn't tell me too much. Whatever is the number, it's already priced into the market. The only important concept is the direction of that number.

Is it headed to 4.00 percent or 4.50 percent? Now, that's important.

At times, interest rates are relatively low and at times high. By that we mean there is a very long term mean average price and sometimes interest rates are above and sometimes below that mean average.

The same thing applies to commodity prices. Typically, when commodity prices are high, interest rates are high, and when that happens, paper assets are priced low.

Goods and services are produced at high cost or low cost depending mostly because of the interest rate and commodity price cycles. When paper assets are priced low, the interest rates are high and the cost of production to the financial services industry and the utilities that have to pay these high rates is high. Therefore their profit is lower than average.

That's when the commodity prices are high—at the peak of the inflation cycle. And, when the producer of natural resources, like the energy group or the metals group, has high prices, they also have high profits.

But they sell to consumers who have to pay those high costs, and higher than average cost leads to lower than average profits.

For instance when the cost of fuel oil is high, the airlines suffer. Also when interest rates are high the high debt airline group also suffer there too.

Like most things in life, what's good for one group is bad for another.

The trick then is to study the major factors in the capital markets and the inter-relationships that exist in the stock market as a result.

Sometimes I do this to make a decision; sometimes I do it just to confirm my assessment of markets.

Because these relationships in the short-term are often inconsistent, I am always looking at the relativity and materiality weight of the evidence.

You'll be able to spot important relationships if you look long and hard. Then, you can act accordingly.

For instance, let's look at the oil price again.

Crude oil is part of the Commodity Research Bureau (CRB) index. So higher oil prices are typically followed by higher agricultural commodity and metals commodity prices.

With higher oil price, I'd like to see a higher gold price. But gold is priced in U.S. dollars, so a higher gold price would mean a lower U.S. dollar, which in turn means a higher price to currencies like the Swiss franc or the Canadian Dollar as they are more asset-backed.

If the U.S. Dollar (USD) starts trending down, I'd expect to see rising interest rates to be dominant in each cyclic phase. Obviously I'm looking at the long-term trends, not the day-to-day prices.

Oil prices also affect the integrated producers and in turn would affect the prices of the oil refiner and the oil marketer. The marketer having higher prices usually means that their customers, like airlines, have lower profits.

Oil prices also affect the oilfield services companies and the drillers because higher oil prices leads to more production and exploration activity, which means they have more revenues. Higher revenues usually lead to higher profits, which lead to higher share prices.

If the driller sub-industry stocks are up, so too should the sub-industry offshore drillers.

Accordingly, the natural gas producers and pipelines should be up, but their customers, the utilities, should be down. And when I see the utility stock prices down, then I expect to see higher interest rates.

You can easily extend this analysis into the general economy as well.

Soon, you've covered all markets " all industries in all major countries.

Are you starting to see how these things work?

Cyclic Rotation in Markets:

Some investors spend lots of time screening or reading screens of the Best and Worst Performing Stocks, but you ought to first understand the stock groupings and get a sense of how these companies have similar business operations and must react to similar macro forces in their operating environments.

In terms of corporate income statement (i.e., Profit & Loss) issues, you will note that revenues to one group represent costs to another.

In terms of balance sheet issues, you will see that the asset, liability and shareholders' equity structures are fairly consistent within companies of the same groupings.

Just as corporations must operate in the same complex environment as their competitors, it is absolutely true that stocks do not operate in a vacuum either.

Market forces such as interest rates, commodity prices, foreign exchange, business/personal consumption, and so on, are factors that bear down on these different stock groupings. Investors need to have a sense of just how they do.

As time goes by, as you understand the macro forces, you will see there is a cyclic rotation to the equity market. You have to get in tune with it, and to the extent you do, I believe you will succeed in the market.

Understanding cyclic rotation in markets is important because it is often used as a cover for theme stories in the market, contrived by equity salespersons. You do, of course, know that the sell-side tells stories in order to sell their inventory positions (excuse me, listed and IPO stocks).

Wall Street calls them "investment" ideas. For instance, if it's March, it must be time to tell investment stories about the coming hot days of summer, so let's prepare some notes about the beer wars.

I see this kind of thing all the time, mostly, I think, because it takes a big sell-side organization like a Morgan Stanley a long time to create sales documents (excuse me, analyst reports), to have them approved by multiple internal departments (since the left hand wants to know what the right hand is doing " for self protection), and to distribute these reports to thousands of equity salespersons (excuse me, financial advisors) for pitching one buyer at a time (excuse me, valued client).

Independent investors don't need this kind of â€˜cycle-in, cycle-out' advice. Intelligent people can easily do the research, analysis and decision-making on their own.

But to analyze stocks and make investment decisions that build more valuable portfolios, investors need to first understand the structure of equity markets. In my view, the MCSI Standard & Poor's classification (GICS) is the place to start.

The Big Picture; The Little Picture:

The GICS is a global system. It was developed by S&P in response to the investment community's need for one complete, consistent set of global sector and industry definitions that reflects today's economy and also be flexible enough to change as the professional investment world changes. So, you will find the same system in place for stocks listed in Canada, UK, Australia or whatever.

For 99% of investors, the most basic understanding of GICS is all you need to know regarding market structure in order to get started. Once you understand how these sectors, industry groups, industries and sub-industries are categorized, you can begin to think about inter-relationships that exist between share prices and causal factors such as interest rates, the economy, and commodity prices.

Only then can investors see the big picture.

In a similar vein, I'll ask the rhetorical question, how could foresters possibly understand a forest without knowing the names of the different trees, their growing conditions, and whatever?

Obviously they couldn't. They need to see the little picture too.

Unlike the good forest ranger however, Wall Street is not going to help you gain this level of understanding of equity markets, because they intend to have you rely on their financial services. Their corporate profits and personal compensation depend on it.

As an aside, there is nothing fundamentally wrong with any financial services company that is free of conflicts of interest, but regrettably, most are.

In summary, securities traders need to take control of their own portfolios, do their own research and analysis and make their own decisions. In order to succeed, they need to see the little picture as well as the big one.

I say that understanding equity market structure (GICS), and the influences on stock prices, will give you a needed leg up on Wall Street, where you'd be surprised at how few in the sell-side have even a basic knowledge of this subject.

Sector Rotation of Stocks:

When you hear the expression that a rising tide floats all boats, bear in mind that it's a big world, and not all boats are on the same body of water. In some cases, the tide is rising, but in others it is peaking, falling or bottoming.

A simpler analogy might be to a single wave. Some parts of the wave are rising and others have rolled over and starting to fall.

In the classic investment cycle, the ten GICS sectors (energy stocks, basic materials stocks, capital goods and industrials stocks, consumer discretionary spending stocks, consumer staple spending stocks, healthcare & biotech stocks, financial service stocks, technology stocks, telecom service stocks, and utility stocks) rotate in and out of investor favor as the economic cycle progresses.

The leading edge of the typical wave in equity markets is the Utilities, Telecom Services and Financial Services sectors. The laggards are the Capital Goods, Basic Materials and Energy sectors. Leading the middle group is the Consumer Staples sector, followed by Healthcare, Consumer Discretionary, and Technology.

This is called the idealized market cycle.

The cycle doesn't always unfold that way because we don't live in a perfect world. But, there is definitely a rhythm to capital markets just as there is in most natural phenomena in our life " like ECG heart wave and EEG brain wave graphs, or sheet music, the four seasons, lunar cycles, menstrual cycles or the ocean tides.

I could go on about cycles but suffice it to say that the capital markets have rhythm (actually multiple rhythms caused by the influence of different causal factors, which work in varying degrees). It's up to us students of the market to find the rhythm and exploit it.

Critics of the sector rotation concept falsely accuse its advocates of dwelling on the importance of technical analysis. They want you to think you can become a successful stock picker, but not a successful market timer.

But, that's just because they happen to have a few stocks to sell you, and while they may be good quality stocks, the time they're selling them just might not be the best time to buy.

In my mind "- and this point is important -- sector rotation studies require investors to think through the impact of interest rates, bond yields, consumer confidence, industrial production, retail demand, and commodity prices, on every company's business model.

Most companies in the same industry/industry group/sector have quite similar, if not the same, business models. It's up to the student of the market to understand how all major factors impact on a company's business model, because that's the key to understanding the rhythms of stock prices.

Believe me, a true understanding of sector rotation will tap into every aspect of your investing knowledge and, in fact, demand of you that you apply all types of fundamental, technical and quantitative analysis.

Now you can see that the subject matter of sector rotation is hardly just technical. You have to understand the "cause and effect" paradigm to stock prices. But, the accomplishment will be very enjoyable and well worth it.

As a professional money manager in the 1980s, I would study for 24-hours straight (and occasionally longer) on the sophisticated tools I used, squiggly price smoothing lines, overlaying the price tracks of the different industries and sub-industries on top of one another.

Not once in that endeavour did I look at a high-low-close-volume bar chart or any other kind of chart. Trend smoothing lines would tell me the rhythms of the various market groups, and my understanding of the fundamentals and quantitative factors would then fill in the blanks.

In time (usually it takes a couple of months if I happened to get away from the routine), I would start to just breathe like the market.

I could tell you, for example, when the pharmaceuticals were reversing up or the gold prices turning down. Or, I could spot the time to sell the U.S. and buy Germany for instance.

Breathe in. Breathe out.

As I knew that everything in the capital markets is, in fact, linked to something else, I would study hours on end looking for possible causal relationships.

The study process became a natural experience where I became one with the market. Seriously.

Breathe in. Breathe out.

Then I'd go off to do a corporate finance deal for several weeks, or get distracted on some other issue, where upon my return I'd have to start over again to get back in tune with the market's rhythm.

Summing Up:

An investor is a trader in securities just like a business operator is a trader in goods and services. Trading in securities means trading prices. Because they are based on natural phenomena, prices rise and fall in an ebb-and-flow rhythm.

In order to ascertain the equity market's rhythm, what the independent investor needs to do is to study the GICS sector/industry group/industry classification system.

You need to become aware of how companies that compete for market share in the real world are subject to the same influences, such as interest rates, economic factors, commodity prices, and foreign exchange.

Then you have to watch investment capital flowing in and out of sectors as capital owners and money managers re-position their portfolios to better manage risks and exploit opportunities that result from a changing environment.

In time, you will see that there is an ebb and flow to this movement of capital. You will anticipate it, and therein sit your prospects for success as a securities trader.

Once you are able to understand these things, and feel comfortable in applying your analysis to your decision-making, I assure you that never again will you listen to the sell-side and their complicit media friends.

Others who don't look at the market in this way can simply listen to, and be misled by, Humungous Bank & Broker.

Posted by Bill Cara at January 19, 2005 7:38 PM