Index Funds

From Phinvestopedia

Index Funds in the Philippines are passive investment vehicles designed to replicate the performance of a specific market benchmark, most commonly the Philippine Stock Exchange Composite Index (PSEi). These funds offer regular Filipino investors a way to own a diversified portfolio of the country's top 30 corporations—such as SM Investment, Ayala Corporation, and BDO Unibank—without needing to purchase individual stocks. While globally popularized as a low-cost wealth-building tool, the local adoption of index funds faces unique challenges, including relatively high fees compared to international standards and a market that has seen extended periods of stagnation.

The concept of index investing in the Philippines emerged later than in developed markets like the US.

  • Early Adoption (2000s): For years, the only option for Filipino investors was "Unit Investment Trust Funds" (UITFs) or Mutual Funds managed by major banks. These were often actively managed, with index trackers being a niche product.
  • The ETF Milestone (2013): A significant shift occurred with the launch of the First Metro Philippine Equity Exchange Traded Fund (FMETF) in December 2013. This was the country's first and currently only Exchange Traded Fund (ETF), offering a lower management fee structure (approx. 0.50%) compared to traditional bank funds.
  • Performance Cycles: The popularity of index funds tracks the performance of the PSEi.
    • Bull Run (2010–2018): The index surged from ~3,000 to over 9,000 points, fueling interest in passive investing as "buy and hold" strategies yielded massive returns.
    • Stagnation (2019–Present): The PSEi has largely moved sideways, trading between the 6,000 and 7,000 levels for several years. This lack of capital appreciation has tested the "passive" thesis, leading some investors to question the viability of index investing during prolonged bear markets.

Causes

The rise of index funds in the Philippines is driven by several structural and behavioral factors:

  • Active Management Failure: Historical data suggests that a large majority of actively managed funds in the Philippines fail to beat the PSEi benchmark over a 10-year horizon after fees are deducted.
  • Simplicity for Beginners: For the average employee or OFW (Overseas Filipino Worker), analyzing financial statements is impractical. Index funds provide an "automatic" diversification into the top 30 companies.
  • Lower Barrier to Entry: Digital wallets like GCash (GInvest) and Maya have lowered the minimum investment amounts to as low as ₱50, democratizing access to funds that previously required ₱10,000 or more to open.

Key Impacts/Disconnects

Despite the theoretical benefits, there are significant disconnects in the local implementation of index investing.

  • The Fee Disconnect: In the US, index fund expense ratios are often as low as 0.03%. In the Philippines, many bank-offered index UITFs still charge management fees ranging from 1.00% to 1.50%. This "fee drag" significantly eats into long-term compounding, especially when the market returns are flat.
  • Liquidity Trap: The only ETF (FMETF) suffers from relatively low trading volume compared to major stocks. While sufficient for retail investors, this liquidity risk can discourage high-net-worth individuals from moving millions of pesos in and out of the fund quickly.
  • Inflation vs. Returns: In recent years (2022–2024), the Philippines experienced inflation rates topping 5–8%. With the PSEi often delivering negative or flat returns during the same period, real returns (Return minus Inflation) for index investors have been negative, causing frustration among new investors.

Market Landscape

The market is currently divided into two main delivery systems for index investing:

Comparison of Index Fund Types in PH
Feature Exchange Traded Fund (ETF) Unit Investment Trust Fund (UITF)
Example FMETF BPI Philippine Equity Index, BDO Equity Index
Where to Buy Stock Broker (COL, FirstMetroSec) Banks, GCash, Maya
Fees (Approx) Low (~0.50% p.a.) High (~1.00% - 1.50% p.a.)
Trading Real-time during market hours End-of-day NAVPU
Minimum Price of 10 shares (~₱1,000) Varies (₱50 - ₱10,000)
  • Exchange Traded Funds (ETF): Currently, FMETF is the sole option. It is bought and sold like a stock. It is generally the mathematical choice for long-term holders due to the lowest fees.
  • Bank UITFs/Mutual Funds: Offered by BPI, BDO, Metrobank, and others. These are more accessible (auto-debit from payroll accounts) but carry higher costs.

Foreign Index Investing

A significant trend in the 2020s is the massive shift of Filipino retail capital toward foreign markets, particularly the United States.

Popularity and Drivers

  • Performance Divergence: Investors have noted a stark contrast between the local PSEi (stagnant) and US indices like the S&P 500 and Nasdaq-100, which have historically delivered 8-10% average annual returns in USD terms.
  • Currency Hedge: Investing in foreign funds implicitly allows Filipinos to hold assets in US Dollars. As the Philippine Peso historically depreciates against the Dollar, investors gain from both asset appreciation and currency exchange value.
  • Tech Exposure: The PSEi is dominated by banks and real estate. Filipinos seeking exposure to global technology giants (e.g., Apple, Microsoft, NVIDIA) must look to foreign indices like the Nasdaq.

Foreign Index Investment Options for Filipinos

Filipinos currently have two primary routes to access funds tracking the S&P 500, Dow Jones, or global indices:

1. Local Feeder Funds
How it works: Local banks (BPI, BDO, Security Bank, EastWest) offer "Feeder Funds" that take your Pesos or Dollars and invest them into a target US fund (usually Vanguard or BlackRock).
Pros: extremely convenient; no need to send money abroad; estate taxes are handled under Philippine law.
Cons: High fees (Feeder fees + Target fund fees can total 0.75% - 1.50%); slow processing times (holidays in both PH and US affect trading).
2. International Brokerages
How it works: Opening an account directly with a foreign broker. This has become easier with digital KYC (Know Your Customer) processes.
* Interactive Brokers (IBKR): Widely considered the "gold standard" for serious Filipino investors.
Benefit: Allows access to Irish-Domiciled ETFs (e.g., VWRA, CSPX). These funds benefit from a tax treaty that lowers the dividend withholding tax from 30% to 15% for non-US residents.
Barrier: Funding the account usually requires a wire transfer or services like Wise.
* Gotrade / eToro: Fintech apps popular with younger investors.
Benefit: User-friendly interfaces; allows fractional shares (investing as little as $1); often cheaper to fund via local bank transfers.
Risk: Some platforms operate as CFDs (Contract for Differences) or have different regulatory protections compared to traditional brokers like IBKR.
* US Estate Tax Warning: Filipinos investing directly in US-domiciled assets (via Gotrade or US brokers) effectively face a 40% US Estate Tax on assets exceeding $60,000 upon death. This drives wealthier investors toward the Irish-domiciled ETFs available on IBKR.

Conflicting Perspectives

Debates regarding index funds in the Philippines often center on market efficiency and growth potential.

The "Boglehead" Purist View
Advocates argue that "timing the market" is futile. They believe the Philippine economy will inevitably grow over decades. They recommend buying FMETF consistently regardless of market price.
The "Globalist" View
A growing faction argues that Filipino investors should avoid the PSEi entirely due to the weak Peso and governance issues. They suggest the "solution" is ignoring local index funds in favor of US Dollar-denominated global ETFs (like Vanguard's VOO or VTI) to hedge against local economic instability.
The "Dividend" / Trader View
Critics argue that because the PSEi moves sideways for years, "passive" investors lose money to inflation. They advocate for active trading or buying high-dividend stocks (REITs) directly to generate cash flow.

Proposed Solutions

For regular Filipinos navigating these challenges, financial educators propose several strategies:

  • Peso Cost Averaging (PCA):
    • Concept: Investing a fixed amount (e.g., ₱5,000) every month regardless of market movements.
    • Benefit: Removes emotional stress and smooths out purchase price over time.
  • Cost Optimization (Buying FMETF):
    • Concept: Opening a stock brokerage account to buy FMETF instead of using convenient bank UITFs.
    • Benefit: Saves approximately 0.50% to 1.00% in fees annually.
  • Global Diversification Strategy:
    • Concept: Allocating a significant portion (e.g., 50-80%) of the portfolio to World or US Index funds via IBKR or Feeder Funds.
    • Benefit: Protects wealth from local currency devaluation and captures global growth, while keeping a smaller portion in the PH market for local upside.

Sources

See also

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