How To Create Your Own Index Fund

Before we discuss what index fund is, let's discuss what is a stock index.

Stock Index

A stock index is a collection of stocks which is used as reference price for the stock market. Usually, the stocks included on the index are those frequently traded and  their public float is not too small (ex. Public float must be at least 10%).

For the Philippine market, below are the popular indexes:

1. Philippine Stock Exchange Index (PSEi)
   
   The PSEi is composed of 30 different stocks. Shown above are the stocks with highest weight/percentage on the index.
   See here for latest index composition.
2. Morgan Stanley Capital International (MSCI) Philippine Index
   
   The MSCI Phils. Index is compose of 21 different stocks. Shown above are the stocks with highest weight/percentage on the index.
   See here for latest index composition.

Index Fund

Index fund is an investment product that follows the index. They are also called passively manage funds because the fund manager does not perform stock picking, instead they just copy the composition of the index. Below are some examples:

• First Metro ETF (link)
  You can buy shares of this fund (Symbol: FMETF) using your stock broker account.
• BPI Philippine Index Fund (link)
  You can go to the nearest bank branch to open an account for this fund.

Unfortunately, these funds charges management fees. For FMETF, it is maximum of 2.0%. For BPI index fund, it's fixed at 1.5%. These fees goes to the trading charges (although this should be one time only) and wages of the fund managers (someone got to pay those bankers, right?).

DIY Index Fund

Now, let's discuss how to create your own index fund.

Requirements:

1. Monthly contribution of at least 8000 php
   It is important to buy at least 8000 php to minimize commission rate
2. Broker account (ex. COL financial account)
3. For new investors: patience and courage

Steps:

1. For every month, compare the percentage of each stock in your portfolio against the weighting in the index.
   
2. Buy the stock with the biggest gap below the weighing in the index.

Below is a sample portfolio progression for 3 years using this method. This uses the top 10 stocks in PSEi and assumes prices and weightings do not change. The stock with the largest gap to target is bought every month.