Technology sector and benchmark changes – what does it mean for investors?

22/11/2018

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With MSCI reclassifying Technology sector constituents at the end of November, Richard Clode, Alison Porter and Graeme Clark, portfolio managers in the UK-based Janus Henderson Global Technology Team, explain why the new index is not fit for purpose, what the change means for investors and the adjustment being made by the team at a benchmark level.​ 
 
 
Summary:
  • The MSCI Information Technology (IT) index will be changing at the end of November to reflect the GICS reclassification of some technology stocks.
  • Janus Henderson’s UK-based Global Technology Team believes the new MSCI IT Index will be unrepresentative of the technology sector with the exclusion of internet companies.
  • After client consultation, they are changing their benchmark to a more representative composite covering the IT and Communication Services sectors.
  • The strategy’s investment philosophy and approach - built around a commitment to high conviction active management - will not change.
  
What’s happening?
MSCI’s Global Industry Classification Standard (GICS) is creating a new Communications Services sector. This will lead to the reclassification of many internet companies, including Alphabet, Facebook and Tencent, which will move from the Technology sector to Communication Services. Game software companies will also move to this new sector while Alibaba and eBay will join Amazon in Consumer Discretionary. 
  
In our view, the remodelled MSCI ACWI IT Index is no longer fit for benchmarking purposes. Not only will it be unrepresentative of the Technology sector but concentration issues that already exist will be exacerbated. For example, Apple will comprise 15% of the new index and Microsoft will have a 12% weighting. For UCITS vehicles like ours, this will be unworkable for portfolio construction or performance measurement purposes, with it being impossible to replicate the benchmark given that no more than 10% of the portfolio is permitted in a single holding.
 
What are we doing about it?
Following consultation both internally and with clients, we are moving our Global Technology strategy’s benchmark to a composite MSCI All Countries World IT + Communication Services Index. We have considered a broad range of alternatives but believe that this change provides the best outcome for clients, with minimal impact to the strategy or our approach. 
 
This benchmark change will ensure that the majority of internet stocks - a long-held overweight and historic source of alpha for the strategy - remain as part of the core benchmark. This will allow us to continue to invest in, and communicate views on, names such as Alphabet, Facebook and Tencent. 
 
Does this have any impact on the team’s investment approach?
Our investment process and philosophy will not change. The stocks we hold will not change and we will continue to take a high conviction1, relatively concentrated2 approach. Our strategy will continue to be a core technology vehicle and we have created this custom benchmark in order to minimise disruption to this approach.
 
We have never used GICS to define our investment universe3 or to tell us what a technology company is. For example, neither Amazon nor Netflix have ever been classified as technology companies nor appeared in the MSCI ACWI IT Index but that has not stopped us from owning them. We will continue to implement our existing investment process to reflect our high conviction, active management4 style being index aware but not constrained.
 
What will change at a metrics level?
The only changes investors should expect to see will be tracking error* and active share* looking slightly higher with the new index. However, the underlying volatility* and beta* will be broadly similar as our stocks will not change and the weightings of those stocks will see only minor changes. The risk profile of the strategy and the underlying risk awareness of the investment process will not change.  
 
How does the change impact the performance fee?
Performance measurement for the Janus Henderson Horizon Global Technology Fund (SICAV) and the high-water mark5 are currently based on the MSCI ACWI IT Index.  Given the performance of the fund under different management and following a different process during the internet bubble (when it was benchmarked against the MSCI ACWI Index) the fund remains well below the high-water mark, which would trigger the performance fee, on most share classes. Even for those share classes with a more realistic chance of generating performance fees, we will waive those fees with effect from 1 December 2018 while the fund remains benchmarked to the new MSCI ACWI IT Index as we seek regulatory approval to change the benchmark and update the fund’s prospectus, which could take more than a year.  Shareholders will be notified separately about this in due course.
 
When will these changes take place?
MSCI will reflect these GICS reclassifications in its index weightings at the end of November 2018 as part of its semi-annual index review. While the team’s portfolio construction will immediately reflect these changes, the regulatory approval to change the performance fee benchmark and update to the prospectus (including shareholder notification) could take until early 2020. All fund performance information will continue to be reflected against the existing benchmark until this change occurs.
 
*Please see Janus Henderson Glossary, link below. 
 
Glossary:
1conviction: conviction equates to the fund manager’s confidence in investing in a particular stock, sector or country and would normally be reflected in a significant overweight or underweight position in the fund.
2 concentrated: a concentrated fund typically holds fewer stocks - less than 50 holdings - relative to the size of the universe, and may have very large positions or a concentration towards certain sectors or countries.
3investment universe: a specific group or category of investments that share certain characteristics. Investment managers typically specify a universe of securities that defines some of the investing parameters for a particular fund.
4active management: an investment approach where a fund manager actively takes decisions about which and what proportion of investments to hold, often with a goal of outperforming a specific index. It relies on a fund manager’s investment skill. The opposite of passive investing.
5 high-water mark: the highest peak in value that a fund has reached. The high-water mark is designed to ensure that the manager does not get paid large sums for poor performance. If the manager loses money over a period, he must get the fund above the high-water mark before receiving a performance bonus. It also ensures that investors do not pay performance-based fees twice for the same performance level.
 

These are the views of the author at the time of publication and may differ from the views of other individuals/teams at Janus Henderson Investors. Any securities, funds, sectors and indices mentioned within this article do not constitute or form part of any offer or solicitation to buy or sell them.

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Janus Henderson Horizon Global Technology Fund

The Janus Henderson Horizon Fund (the “Fund”) is a Luxembourg SICAV incorporated on 30 May 1985, managed by Henderson Management S.A. Any investment application will be made solely on the basis of the information contained in the Fund’s prospectus (including all relevant covering documents), which will contain investment restrictions. This document is intended as a summary only and potential investors must read the Fund’s prospectus and key investor information document before investing. A copy of the Fund’s prospectus and key investor information document can be obtained from Henderson Global Investors Limited in its capacity as Investment Manager and Distributor.

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