Global Industry Classification Standard: Explained
BY TIO Staff
|July 27, 2024The Global Industry Classification Standard (GICS) is a critical tool in the world of trading and investment. It provides a comprehensive, consistent framework for classifying companies into specific industries based on their primary business activities. This classification system, developed by MSCI and Standard & Poor's (S&P), is widely accepted by the global financial community and is used by thousands of market participants worldwide.
Understanding the GICS is crucial for anyone involved in trading, as it provides a common language for discussing and analyzing companies and industries. It helps traders and investors to compare companies across borders and make informed investment decisions. This article will delve into the intricacies of the GICS, explaining its structure, purpose, and importance in the trading world.
Origins and Purpose of GICS
The Global Industry Classification Standard was introduced in 1999 by MSCI and S&P, two leading providers of global equity indices. The main purpose of GICS was to offer an accurate, comprehensive and forward-looking framework for investment research, portfolio management and asset allocation. The need for such a system arose from the increasing globalization of financial markets and the consequent need for a universal standard that could be used across different regions and sectors.
Before the introduction of GICS, there was no globally accepted standard for categorizing companies. Different investment firms and research institutions had their own classification systems, which often led to confusion and inconsistency. GICS was designed to address this issue by providing a common, universally accepted standard for classifying companies based on their primary business activities.
Development and Evolution of GICS
Since its inception, GICS has evolved to keep pace with the changing global economy. The structure of GICS is dynamic and reflects the state of the global economy. It is reviewed annually and, if necessary, revised to ensure that it continues to accurately represent the global market landscape.
For instance, in 2018, a significant revision was made to the GICS structure to reflect the rapidly growing influence of technology and digital communication services in the global economy. This resulted in the creation of a new sector called "Communication Services," which includes companies involved in diverse areas such as social media, search engines, digital advertising, and gaming.
Structure of GICS
The GICS structure consists of four levels of classification: sectors, industry groups, industries, and sub-industries. Each company is assigned a unique GICS code that identifies its classification at each of these four levels. This hierarchical structure allows for a detailed classification of each company and provides a high level of granularity.
At the highest level, GICS divides the global economic landscape into 11 sectors such as Financials, Health Care, Information Technology, and so on. Each sector is further divided into industry groups, which are then divided into industries, and finally, sub-industries. This detailed classification system allows for a precise categorization of companies and facilitates accurate comparison and analysis.
Understanding GICS Codes
Each company is assigned a unique GICS code that identifies its classification at each of the four levels. This eight-digit code provides a detailed snapshot of the company's primary business activities. For example, a company with a GICS code of 30302010 belongs to the Consumer Discretionary sector (30), the Automobiles & Components industry group (3020), the Auto & Truck Manufacturers industry (302010), and the Automobile Manufacturers sub-industry (30201010).
Understanding these codes is crucial for traders and investors, as it allows them to quickly identify a company's primary business activities and compare it with other companies in the same or different sectors. This can be particularly useful when conducting sector analysis or building a diversified portfolio.
Importance of GICS in Trading
The GICS plays a vital role in the trading world. It provides a consistent and accurate framework for classifying companies, which is essential for conducting investment analysis, building portfolios, and managing risk. By providing a common language for discussing and analyzing companies, GICS helps traders and investors make informed decisions.
For instance, by classifying companies into specific sectors, GICS allows traders to conduct sector analysis, which is a key component of top-down investment analysis. Similarly, by providing a detailed classification of companies, GICS helps investors build diversified portfolios by ensuring that they invest in companies from a variety of sectors and industries.
Role of GICS in Index Construction
Another key role of GICS is in the construction of market indices. Many leading index providers, including MSCI and S&P, use GICS to classify companies in their indices. This ensures that the indices accurately represent the global economic landscape and provide a reliable benchmark for investors.
For example, the S&P 500, one of the most widely followed equity indices in the world, is constructed using GICS. Each company in the index is classified according to its GICS code, and the index is divided into sectors based on these classifications. This allows investors to easily compare the performance of different sectors and make informed investment decisions.
Limitations of GICS
While GICS is a powerful tool for classifying companies, it is not without its limitations. One of the main criticisms of GICS is that it classifies companies based on their primary business activities, which may not always accurately reflect the diversity of a company's operations. For instance, a technology company that also has a significant retail operation would be classified under the Information Technology sector, even though a significant portion of its revenue may come from its retail operation.
Another limitation of GICS is that it may not always keep pace with the rapidly changing global economy. While GICS is reviewed annually and revised as necessary, some critics argue that this is not frequent enough to capture the rapid changes in the global economic landscape. Despite these limitations, GICS remains the most widely accepted standard for classifying companies and is a critical tool in the world of trading and investment.
Alternatives to GICS
While GICS is the most widely used classification system, there are other systems that traders and investors can use. One such system is the Industry Classification Benchmark (ICB), developed by Dow Jones and FTSE. The ICB also uses a hierarchical structure to classify companies, but it divides the global economy into 10 industries, 19 supersectors, 41 sectors, and 114 subsectors.
Another alternative is the North American Industry Classification System (NAICS), which is used by federal statistical agencies in North America for classifying business establishments. While these alternatives offer different perspectives, GICS remains the most widely accepted and used classification system in the global financial community.
Conclusion
The Global Industry Classification Standard is a critical tool in the world of trading. It provides a comprehensive, consistent framework for classifying companies based on their primary business activities. By providing a common language for discussing and analyzing companies, GICS plays a vital role in investment research, portfolio management, and risk management.
Despite its limitations, GICS remains the most widely accepted standard for classifying companies and is used by thousands of market participants worldwide. Whether you are a trader, an investor, or a market analyst, understanding the GICS is crucial for making informed decisions and succeeding in the global financial markets.
Start Trading with Precision
Now that you understand the importance of the Global Industry Classification Standard in navigating the financial markets, take your trading to the next level with TIOmarkets. As a top rated forex broker, we offer a robust online trading platform where you can trade over 300 instruments across Forex, indices, stocks, commodities, and futures markets with low fees. Join our community of 170,000+ traders in over 170 countries and enhance your trading skills with our comprehensive educational resources. Ready to dive into the world of trading with clarity and confidence? Create a Trading Account today and embark on your journey to success.
Risk disclaimer: CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money. Never deposit more than you are prepared to lose. Professional client’s losses can exceed their deposit. Please see our risk warning policy and seek independent professional advice if you do not fully understand. This information is not directed or intended for distribution to or use by residents of certain countries/jurisdictions including, but not limited to, USA & OFAC. The Company holds the right to alter the aforementioned list of countries at its own discretion.
Join us on social media
Behind every blog post lies the combined experience of the people working at TIOmarkets. We are a team of dedicated industry professionals and financial markets enthusiasts committed to providing you with trading education and financial markets commentary. Our goal is to help empower you with the knowledge you need to trade in the markets effectively.
Related Posts
undefined