Can The Philippines ETF Keep up Its Torrid Pace in 2013?

The iShares MSCI Philippines Investable Market Index Fund EPHE, one of this year's top-performing non-leveraged ETFs, is enduring one of its toughest weeks in a while. Whether it has been because of Typhoon Bopha, a disappointing September foreign direct investment number other reasons, EPHE has dropped 1.1 percent since Monday. Arguably, the main catalyst behind EPHE's drop this week is news the Philippine central bank kept interest rates unchanged at its latest meeting, which concluded Thursday. With a third-quarter GDP report that showed growth of 7.1 percent compared with the 5.4 percent economists expected, there may not be a need for the central bank to lower rates. Still, one rough week may have some investors wondering if EPHE and the Philippine economy can keep the good times going in 2012. While acknowledging flaws in the Philippine economy, rampant poverty and a still large agriculture presence, the answer is yes, EPHE can keep its wining ways going next year. Here is why. Potential For An Investment-Grade Rating Philippine policymakers have been adamant in their desire to see the country's credit rating lifted to investment-grade territory. Earlier this year, Standard & Poor's finally got around to raising the country's long-term foreign currency-denominated debt to BB+ from BB, the highest rating since 2003. That rating is just one notch below investment grade and it is the same rating S&P has on Indonesia, Southeast Asia's largest economy. In May, Moody's Investors Service raised its outlook on the Philippines to positive. Last month, the ratings agency upped its rating on Philippine debt to Ba1, one level below investment grade territory. The country's gross international reserves soared to a record $82.09 billion in October and the debt-to-GDP ratio is less than 51 percent. Should the Philippines get the investment-grade nod, ETFs such as the PowerShares Emerging Markets Sovereign Debt Portfolio PCY and the WisdomTree Asia Local Debt Fund ALD, which have modest exposure to Philippine sovereign debt, could get a small boost. Exports Weather The Storm As a member of the Association of Southeast Asian Nations (ASEAN), the Philippines should be heavily dependent on China as a destination for its exports, right? That is somewhat true, but just 12.8 percent of Philippine exports in the first half of 2012 went to China. That puts China well behind the Philippines' two largest trading partners – Japan and the U.S.. Japan and the U.S. combined for a third of the Philippine export market in the first half of this year. That means the Philippines economy has been chugging along when its two largest trade partners economically fragile at the moment. Actually, Japan is mired in another recession. China's improving economy will help the Philippines, but the data indicate the latter is not as correlated to the former as some investors might think. Outsourcing It is common for many Americans to think that when they are talking to a customer service representative based outside the U.S. that they are speaking with someone in India. The reality is the Philippines the top business process outsourcing destination in the world, according to IBM. The Philippines is also the top call center destination. In 2011, the country generated $11 billion in revenue from business process outsourcing and nearly 640,000 Filipinos worked in the field. Buoyed by lower labor costs and the fact that many Filipinos are good English speakers, business process outsourcing could be a $25 billion industry there by 2016 representing nine percent to 10 percent of the total economy, according to the Philippine Daily Inquirer. That speaks to a growing Philippine middle class, rising domestic consumption and reduced dependence on exports, all factors that bode well for the future of this economy and EPHE. For more on ETFs, click here.