S&P Dow Jones Indices has adopted a major overhaul of its rules for classifying equities into growth and value styles, marking a shift intended to modernize how companies are sorted.
Key Highlights of the New Rules:
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New Criteria: The revised methodology incorporates intangible assets, forward earnings, and free cash flow to evaluate a company’s financial standing and relative cheapness.
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Dropped Metrics: The 12-month price momentum criteria previously used to rank a company’s growth potential has been completely removed.
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Addressing Accounting Flaws: Historically, conventional value metrics (like price-to-book ratios) struggled with modern, intellectual-property-heavy companies because accounting standards treat research, development, and other internally developed intangible assets as expenses rather than balance-sheet assets. This often made innovation-driven companies look artificially expensive and kept them out of value indices.
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Timeline: The new rules will officially take effect during the annual index reconstitution before the market opens on December 21.
Market Impact:
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Passive Funds Affected: Approximately $375 billion in passive index-tracking funds are tied to the affected gauges and will need to adjust their holdings to align with the new constituents.
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Broad Industry Trend: S&P is not alone in rethinking these frameworks; other major index providers like FTSE Russell have also been reviewing their index splits (such as the traditional 50/50 growth-value split) due to the massive market dominance of technology and asset-light giants.
