The North American Industry Classification System (NAICS) codes are important tools for investors to analyze and compare companies in the same industry. Understanding NAICS codes allows investors to identify trends, growth opportunities, and risks within specific sectors. By grouping companies using the naics code system, investors can better evaluate market capitalization, revenue size, and profitability across competitors. When researching individual stocks or broad market sectors for investment, checking the naics code provides crucial context on the company’s peer group and macro environment. This article will examine key insights and conclusions on how naics codes support investment research and analysis.
NAICS codes help categorize companies into industries
The NAICS code system was developed by the governments of US, Canada, and Mexico to standardize industry classifications across North America. The six-digit hierarchical code allows clear segmentation of business establishments based on their primary economic activity. NAICS codes have largely replaced the older four-digit SIC (Standard Industrial Classification) system for categorizing industries. With NAICS codes, investors can quickly identify the sector, sub-sector, industry group, and specific industry of any company. For example, a biopharmaceutical firm engaged in drug discovery research would have the NAICS code 325411 representing the ‘Medicinal and Botanical Manufacturing’ industry under the broader Pharmaceutical and Medicine Manufacturing subsector.
NAICS codes help compare companies within an industry
When researching an industry for potential investments, NAICS codes help investors analyze and benchmark companies within the same sector. The codes allow easy filtering and segmentation of industry peers to evaluate relative valuation, profitability, leverage, growth rates, and other metrics. For example, an investor considering the Software industry can filter a database of companies by the NAICS code 511210 (Software Publishers) to only view direct competitors. By comparing financial ratios across the peer group, they can identify relatively undervalued stocks with attractive upside potential within the industry.
NAICS codes provide context on macro industry trends
Beyond company-level comparisons, NAICS codes also provide top-down perspective on the trends, drivers, and risks influencing an entire industry. Investors can analyze historical growth patterns and secular shifts within a NAICS code to inform their views on future performance. For example, the proliferation of mobile gaming is captured within the NAICS code 511210 (Software Publishers) and helps explain the outsized growth of certain publishers. Macro secular trends linked to population, regulation, technology, and other external factors can be analyzed effectively through the lens of NAICS industry groups.
NAICS hierarchy allows drill-down analysis
The multi-tier NAICS hierarchy enables investors to analyze industries at various levels of granularity. The broadest 2-digit NAICS codes provide a high-level sector perspective while the 6-digit level offers analysis on specialized niche industries. Investors can drill down or up based on the level of precision required. For example, analyzing renewable energy trends across the ’22 Utilities’ sector differs greatly from looking at competitive dynamics within the specific 6-digit NAICS code 221118 (Other Electric Power Generation). The NAICS hierarchy provides flexibility for investment research across different scopes.
NAICS codes help construct focused industry portfolios
For investors implementing sector strategies, NAICS codes are invaluable for building concentrated portfolios within industries primed for outperformance. Screens and filters based on NAICS codes allow targeted identification of stocks within favored sectors of the market. For example, an investor bullish on factory automation can screen for leading companies within the NAICS 339900 code (Other Miscellaneous Manufacturing). Stock baskets and funds built around NAICS defined industries allow investors to gain focused exposure to specialized growth themes.
In summary, NAICS industry codes are indispensable tools for investment analysis across both individual companies and macro sectors. By classifying companies into detailed industries using NAICS, investors gain critical context and comparison benchmarks to identify promising opportunities. The codes also provide insights into secular shifts influencing industry groups over time. Whether performing micro-level stock research or constructing thematic sector portfolios, the NAICS classification system supports effective investment decisions.