MERRILL LYNCH
INDEX
FUNDS, INC.
[GRAPHIC OMITTED]
STRATEGIC
Performance
Quarterly Report
March 31, 1999
<PAGE>
MERRILL LYNCH INDEX FUNDS, INC.
Officers and Directors
Terry K. Glenn, President and Director
Jack B. Sunderland, Director
Stephen B. Swensrud, Director
J. Thomas Touchton, Director
Joseph T. Monagle Jr., Senior Vice President
Christopher G. Ayoub, Senior Vice President and Portfolio Manager
Gregory Mark Maunz, Senior Vice President and Portfolio Manager
Eric S. Mitofsky, Senior Vice President and Portfolio Manager
Jeffrey B. Hewson, Vice President and Portfolio Manager
Donald C. Burke, Vice President and Treasurer
Ira P. Shapiro, Secretary
- --------------------------------------------------------------------------------
Gerald M. Richard, Treasurer and Norman R. Harvey, Senior Vice President of
Merrill Lynch Index Funds, Inc. have recently retired. Their colleagues at
Merrill Lynch Asset Management, L.P. join the Fund's Board of Directors in
wishing Mr. Richard and Mr. Harvey well in their retirements.
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Custodian
For Merrill Lynch Aggregate Bond Index Fund,
Merrill Lynch S&P 500 Index Fund and
Merrill Lynch Small Cap Index Fund:
Merrill Lynch Trust Company
800 Scudders Mill Road
Plainsboro, NJ 08536
For Merrill Lynch International Index Fund:
State Street Bank and Trust Company
P.O. Box 351
Boston, MA 02101
Transfer Agent
Financial Data Services, Inc.
4800 Deer Lake Drive East
Jacksonville, FL 32246-6484
(800) 637-3863
<PAGE>
Merrill Lynch Index Funds, Inc., March 31, 1999
DEAR SHAREHOLDER
We are pleased to provide you with this quarterly report for Merrill Lynch Index
Funds, Inc. In this report, we will discuss the invest ment environments for and
performances of Merrill Lynch Aggregate Bond Index Fund, Merrill Lynch
International Index Fund, Merrill Lynch S&P 500 Index Fund and Merrill Lynch
Small Cap Index Fund. (Complete performance informa tion, including average
annual total returns, can be found on pages 6 and 7 of this report to
shareholders.)
Merrill Lynch Aggregate Bond Index Fund
The primary investment objective of Merrill Lynch Aggregate Bond Index Fund is
to seek to provide investment returns that, before expenses, replicate the total
return of the unmanaged Lehman Brothers Aggregate Bond Index. This Index is a
highly recognized and widely referenced benchmark and often used when meas
- -uring performance in the investment-grade fixed-income market. For the quarter
ended March 31, 1999, the Fund's Class A and Class D Shares had total returns of
- -0.70% and -0.75%, respectively, compared to a total return of -0.50% for the
Index.
At March quarter-end, there were 7,422 securities in the Index, up from 6,482 a
year ago. The Index consists of securities from three major high-quality
investment sectors. The weighting of each sector is determined by the relative
market value of all eligible securities outstanding within the three sectors. To
be eligible, securities must be fixed rate, mature in one year or later, and
meet minimum size of issue requirements. As of March 31, 1999, the US Government
and agency bond sector was the largest, representing 44.6% of the Index. The US
Government agency mortgage-backed securities (MBS) sector was the next largest
at 31.8%, and investment-grade corporate securities accounted for 23.6%.
The Fund seeks to achieve its objective by investing all of its assets in
Merrill Lynch Aggregate Bond Index Series. As of March 31, 1999, the Series was
comprised of 212 positions that possessed similar characteristics to the Index.
Investments in the three sectors were 34 securities in US Government and agency
issues, 34 securities in US Government agency MBS and 144 securities in
investment-grade corporate bonds.
Each of the three sectors within the Series is separately managed, although the
US Govern ment and agency and corporate sectors are managed similarly. In these
two sectors, the Series seeks to neutralize duration. Duration is an indicator
of expected price volatility of a security (or group of securities) when
interest rates change. Therefore, if the duration of each sector is identical to
the corresponding sector in the Index, then the price movement of that sector in
the Series should match the price movement in the Index of that particular
sector. In addition, duration matching techniques are not complete until we
conduct an analysis of the duration exposure for each part of the yield curve
and match the distribution of the duration to ensure identical exposure.
Therefore, the Series applies neutral partial duration in addition to total
duration management to ensure tracking errors do not surface as a result of
changes in the shape of the yield curve.
In addition to duration matching, we employ other strategies to match the Series
to its index counterpart. It is critical that industry subsector exposure along
with credit rating neutrality are achieved in order for tracking deviation to
remain at a minimum level.
Unlike the US Government and agency and corporate sectors, which have
well-defined maturities and therefore absolute durations, the MBS sector of the
Series is subject to prepayments, which impact duration. Since analysis can be
done to estimate future prepayments, the duration can be calculated assuming
these projected prepayments. However, since an uncertainty of prepayments
exists, there also is an uncertainty of duration. Accordingly, rather than
managing the MBS sector using duration neutrality, we manage this sector of the
Series by matching product. This entails having neutral exposure to coupon
(5.5%-11%), mortgage original term (30-year, 15-year and balloon) and agency
issues.
Merrill Lynch International Index Fund
For the three months ended March 31, 1999, Merrill Lynch International Index
Fund's Class A and Class D Shares had total returns of +2.33% and +2.24%,
respectively. This compares to the Fund's benchmark, the unmanaged Morgan
Stanley Capital International EAFE (Europe, Australasia, Far East) Gross
Domestic Product (GDP) Weighted Index (MSCI EAFE Index), which produced a total
return of +2.06% in US dollar terms for the quarter ended March 31, 1999.
Strong returns in the Pacific Rim component of the MSCI EAFE Index during the
first quarter of 1999 overcame relative weakness in European currency markets,
and led the GDP Weighted MSCI EAFE Index in its positive total return for the
March quarter. For the second quarter in a row, the strong showing by Japan led
to a greater return contribution from the Pacific Rim region than from Europe.
In US dollar terms, the MSCI Pacific Index had a total return of +11.19% during
the first quarter of 1999, while MSCI Europe Index returned -2.11% for the same
period. Unexpected weakness in the euro, the newly formed unit of currency for
10 of the MSCI EAFE Index's European countries, overcame generally strong
first-quarter results in the local equity markets. The euro's decline of nearly
10% more than offset strong gains in some of the local equity markets. The GDP
Weighted MSCI EAFE Index was led by double-digit gains in Japan, which led all
markets in the Pacific Rim during the first quarter with a return of +12.18% (in
US dollar terms). This helped the GDP Weighted MSCI EAFE Index, given that Japan
comprises over one-third of the weight of this Index, as compared with its
market-capitalization weighting of only 23%. Of the large European components of
the Index, only the United Kingdom managed to post a gain (+4.32%) during the
first quarter of the year. Germany and Spain posted returns of -9.27% and
- -7.15%, respectively. Similarly, Italy and France declined by 3.01% and 2.06%,
respectively. Finland was the best-performing EAFE market in the first quarter,
with a total return of +17.99%, and Norway's market, lifted by higher oil
prices, produced a total return of +10.13% for the same three-month period.
(References to securities markets of all countries in this letter to
shareholders correspond to those countries' market weightings in the MSCI EAFE
Index and are in US dollars.)
Merrill Lynch International Index Fund invests all of its assets in Merrill
Lynch International Index Series, which has the same investment objective as the
Fund. There are two principal investments made by the Series in its attempt to
replicate the returns of the Index. First, the Series holds a basket of stocks
designed to replicate the returns of the Index, with share quantities designed
to closely approximate each country's actual weight in the Index. In addition,
the Series maintains positions in several foreign futures contracts, which are
available in most of the major foreign markets in the EAFE Index. These futures
contracts provide an efficient mechanism for maintaining equity while also
keeping a pool of liquidity available to meet potential Fund redemption
activity. As of March 31, 1999, the Series' equity portfolio was valued at
$149.6 million, and the Series' foreign futures contracts were valued at $3.8
million. It is the Series' goal to be as close as possible to 100% invested at
all times. The Fund's net assets stood at $130.5 million on March 31, 1999.
Merrill Lynch S&P 500 Index Fund
Having reached an all-time high of 1241.81 on December 29, 1998, the Standard &
Poor's 500 Composite (S&P 500) Index spent most of January and February 1999 in
a relatively narrow range from 1225 to 1275. The Index closed out the month of
February at 1238.33, little changed from where 1998 had ended. As consensus grew
during March that 1999 could be a year of strong economic and corporate earnings
growth, renewed strength took the S&P 500 Index to new highs by the second week
of the month, with its first-ever finish above 1300 occurring on March 15. The
rest of March witnessed a continual volatility of the Index above and below
1300, crossing that level five more times by March 31. The March
2 & 3
<PAGE>
Merrill Lynch Index Funds, Inc., March 31, 1999
quarter ended with a two-day slide that carried the Index back to 1286.37,
resulting in a gain of 4.65% for the Index.
In some respects, the first quarter of 1999 provided investment results that
looked substantially similar to much of the recent past, with
small-capitalization and mid-capitalization stocks badly underperforming
large-cap issues during this period. The Russell 2000 Index lost 5.77% in the
year's first quarter, while the S&P MidCap Index declined by 6.68%.
Large-capitalization stocks, in par ticular those in the technology and
financial sectors, continued to power the Index's advances in the first quarter.
One major difference was renewed strength in the price of oil, resulting in a
strong revival in the energy sector in March, which was easily the Index's best
performing group for the month. Breadth continued on the negative side however,
as 56% of the 500 companies in the Index suffered price declines in the first
quarter, with the average stock gaining only 0.3%. Once again, this led to a
quarter in which diversified US stock funds badly underperformed the S&P 500
Index, posting an average return of only +0.93%, according to Lipper Analytical
Services, Inc.
For the quarter ended March 31, 1999, Merrill Lynch S&P 500 Index Fund's Class A
and Class D Shares had total returns of +4.77% and +4.71%, respectively. Since
inception (April 3, 1997) to March 31, 1999, the Fund's Class A and Class D
Shares provided total returns of +75.75% and +74.89%, respectively. This
compares to the Fund's benchmark, the unmanaged S&P 500 Index, which had total
returns of +4.98% for the quarter ended March 31, 1999 and +76.86% for the same
period since inception to March 31, 1999.
The Fund invests all of its assets in Merrill Lynch S&P 500 Index Series, which
has the same investment objective as the Fund. The principal investments of the
Series are a fully replicating portfolio of all 500 stocks in the Index and a
long position in S&P 500 futures contracts, which are used to quickly convert
most daily cash flows into the Series into equity exposure. At the end of March,
the Series' equity portfolio was valued at $1.4 billion. In addition, the Series
held a long position in futures contracts. As always, it is the Series' goal to
be 100% invested in the S&P 500 Index at all times.
During the quarter ended March 31, 1999, composition change activity in the S&P
500 Index continued at a brisk pace. As a result, the Series added to its
portfolio the stocks of: McKesson HBOC Inc., SouthTrust Corp., AmSouth
Bancorporation, Century Telephone Enterprises and Kansas City Southern
Industries.
Merrill Lynch Small Cap Index Fund
The underperformance of small- capitalization stocks relative to large-cap
stocks continued into the first quarter of 1999 as the unmanaged Russell 2000
Index provided a total return of -5.42%, lagging the total return of the
unmanaged Standard & Poor's 500 Index by more than ten percentage points.
Small-cap stocks sustained a strong rally into the end of 1998 (up by 16.31% in
the fourth quarter of 1998) as the Russell 2000 Index finished the year at
421.96, its highest level since July 30, 1998 just before the summer's
calamitous sell-off. The Index's momentum could not be sustained, however, as
the Russell 2000 Index peaked just one week into 1999, and then drifted lower
for the remainder of the March quarter. Continued advances in large-cap growth
stocks continued to attract most investors' interest and cash. The Index closed
the first quarter of 1999 at 397.63, a level it had first attained and surpassed
nearly two years earlier, in July 1997. In stark contrast to the continued
record-shattering performance of large-cap stock indexes, the Russell 2000 Index
closed the first quarter nearly 100 points, or 19.1%, below its all-time high of
491.41 on April 21, 1998.
The highly negative breadth of its constituents produced the decline of the
Russell 2000 Index in the first quarter. In this three-month period, declining
stocks outnumbered advancing issues by an overwhelming margin of more than two
and a half to one. Just below the surface of this generally weak quarter were
some explosive gains made by many of the Index's internet stocks. Twenty-eight
of the Russell 2000's constituents more than doubled in the first quarter, many
of these from the internet category. Of the Index's top ten performers in the
first quarter, six were Internet-related, including DoubleClick Inc. (+309%),
CNET, Inc. (+292%), CMGI Inc. (+244%), RealNetworks, Inc. (+241%), Excite, Inc.
(+233%) and Verisign, Inc. (+160%). These spectacular gains led to significant
increases in the overall weighting of this group within the Index. Among the
Index's top ten weightings at the end of March were CMGI Inc., E*TRADE Group,
Inc., Excite, Inc., Lycos, Inc. and DoubleClick Inc.
For the quarter ended March 31, 1999, Merrill Lynch SmallCap Index Fund's Class
A and Class D Shares had total returns of -5.74% and -5.84%, respectively. Since
inception (April 9, 1997), the Fund's Class A and Class D Shares provided total
returns of +15.97% and +15.38%, respectively. The Fund's benchmark, the
unmanaged Russell 2000 Index had total returns of -5.42% for the quarter ended
March 31, 1999 and +17.45% for the same period since inception to March 31,
1999.
In Conclusion
We appreciate your investment in Merrill Lynch Index Funds, Inc., and we look
forward to assisting you with your investment needs in the months and years
ahead.
Sincerely,
/s/ Terry K. Glenn
Terry K. Glenn
President
/s/ Christopher G. Ayoub
Christopher G. Ayoub
Senior Vice President and
Co-Portfolio Manager
Merrill Lynch Aggregate Bond Index Fund
/s/ Gregory Mark Maunz
Gregory Mark Maunz
Senior Vice President and
Co-Portfolio Manager
Merrill Lynch Aggregate Bond Index Fund
/s/ Jeffrey B. Hewson
Jeffrey B. Hewson
Vice President and
Co-Portfolio Manager
Merrill Lynch Aggregate Bond Index Fund
/s/ Eric S. Mitofsky
Eric S. Mitofsky
Senior Vice President and
Portfolio Manager
Merrill Lynch International Index Fund
Merrill Lynch S&P 500 Index Fund
Merrill Lynch Small Cap Index Fund
April 16, 1999
4 & 5
<PAGE>
Merrill Lynch Index Funds, Inc., March 31, 1999
PERFORMANCE DATA
About Fund Performance
Investors are able to purchase shares of the Fund through the Merrill Lynch
Select PricingSM System, which offers two pricing alternatives:
o Class A Shares do not incur a maximum initial sales charge (front-end
load) or deferred sales charge and bear no ongoing distribution or account
maintenance fees. Class A Shares are available only to eligible investors.
o Class D Shares do not incur a maximum initial sales charge or deferred
sales charge and bear no ongoing distribution fee. In addition, Class D
Shares are subject to an ongoing account maintenance fee of 0.25%.
None of the past results shown should be considered a representation of future
performance. Figures shown in the "Recent Performance Results" and "Average
Annual Total Return" tables assume reinvestment of all dividends and capital
gains distributions at net asset value on the pay able or ex-dividend date.
Investment return and principal value of shares will fluctuate so that shares,
when redeemed, may be worth more or less than their original cost. Dividends
paid to each class of shares will vary because of the different levels of
account maintenance, distribution and transfer agency fees applicable to each
class, which are deducted from the income available to be paid to shareholders.
Aggregate Bond Index Fund
Recent Performance Results
<TABLE>
<CAPTION>
Standardized
12 Month 3 Month Since Inception 30-Day Yield
Total Return Total Return Total Return As of 3/31/99
========================================================================================================
<S> <C> <C> <C> <C>
ML Aggregate Bond Index Fund Class A Shares* +6.20% -0.70% +18.04% 5.63%
- --------------------------------------------------------------------------------------------------------
ML Aggregate Bond Index Fund Class D Shares* +5.94 -0.75 +17.46 5.38
- --------------------------------------------------------------------------------------------------------
Lehman Brothers Aggregate Bond Index** +6.49 -0.50 +18.85 --
========================================================================================================
</TABLE>
* Total investment returns are based on changes in net asset values for the
periods shown, and assume reinvestment of all dividends and capital gains
distributions at net asset value on the payable date. The Fund commenced
operations on 4/03/97.
** This unmanaged market-weighted Index is comprised of investment-grade
corporate bonds (rated BBB or better), mortgages and US Treasury and
Government agency issues with at least one year to maturity. Since
inception total return is from 4/03/97 to 3/31/99.
International Index Fund
Recent Performance Results
<TABLE>
<CAPTION>
12 Month 3 Month Since Inception
Total Return Total Return Total Return
==========================================================================================
<S> <C> <C> <C>
ML International Index Fund Class A Shares* + 9.85% +2.33% +39.43%
- ------------------------------------------------------------------------------------------
ML International Index Fund Class D Shares* + 9.62 +2.24 +38.75
- ------------------------------------------------------------------------------------------
MSCI EAFE Index--GDP Weighted** +10.24 +2.06 +36.19
==========================================================================================
</TABLE>
* Total investment returns are based on changes in net asset values for the
periods shown, and assume reinvestment of all dividends and capital gains
distributions at net asset value on the ex-dividend date. The Fund
commenced operations on 4/09/97.
** This unmanaged gross domestic product-weighted Index is comprised of
equity securities of companies from various industrial sectors whose
primary trading markets are located outside the United States and which
are selected from among the larger-capitalization companies in such
markets. Since inception total return is from 4/30/97 to 3/31/99.
S&P 500 Index Fund
Recent Performance Results
<TABLE>
<CAPTION>
12 Month 3 Month Since Inception
Total Return Total Return Total Return
==========================================================================================
<S> <C> <C> <C>
ML S&P 500 Index Fund Class A Shares* +18.08% +4.77% +75.75%
- ------------------------------------------------------------------------------------------
ML S&P 500 Index Fund Class D Shares* +17.74 +4.71 +74.89
- ------------------------------------------------------------------------------------------
S&P 500 Index** +18.46 +4.98 +76.86
==========================================================================================
</TABLE>
* Total investment returns are based on changes in net asset value for the
periods shown, and assume reinvestment of all dividends and capital gains
distributions at net asset value on the ex-dividend date. The Fund
commenced operations on 4/03/97.
** This unmanaged broad-based Index is comprised of common stocks. Since
inception total return is from 4/03/97 to 3/31/99.
Small Cap Index Fund
Recent Performance Results
<TABLE>
<CAPTION>
12 Month 3 Month Since Inception
Total Return Total Return Total Return
==========================================================================================
<S> <C> <C> <C>
ML Small Cap Index Fund Class A Shares* -16.96% -5.74% +15.97%
- ------------------------------------------------------------------------------------------
ML Small Cap Index Fund Class D Shares* -17.21 -5.84 +15.38
- ------------------------------------------------------------------------------------------
Russell 2000 Index** -16.26 -5.42 +17.45
==========================================================================================
</TABLE>
* Total investment returns are based on changes in net asset value for the
periods shown, and assume reinvestment of all dividends and capital gains
distributions at net asset value on the ex-dividend date. The Fund
commenced operations on 4/09/97.
** This unmanaged Index is comprised of approximately 2,000
smaller-capitalization common stocks from various industrial sectors.
Since inception total return is from 4/09/97 to 3/31/99.
Aggregate Bond Index Fund
Average Annual Total Return
% Return
================================================================================
Class A Shares
================================================================================
Year Ended 3/31/99 +6.20%
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Inception (4/03/97) through 3/31/99 +8.68
- --------------------------------------------------------------------------------
% Return
================================================================================
Class D Shares
================================================================================
Year Ended 3/31/99 +5.94%
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Inception (4/03/97) through 3/31/99 +8.41
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International Index Fund
Average Annual Total Return
% Return
================================================================================
Class A Shares
================================================================================
Year Ended 3/31/99 + 9.85%
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Inception (4/09/97) through 3/31/99 +18.33
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% Return
================================================================================
Class D Shares
================================================================================
Year Ended 3/31/99 + 9.62%
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Inception (4/09/97) through 3/31/99 +18.03
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S&P 500 Index Fund
Average Annual Total Return
% Return
================================================================================
Class A Shares
================================================================================
Year Ended 3/31/99 +18.08%
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Inception (4/03/97) through 3/31/99 +32.72
- --------------------------------------------------------------------------------
% Return
================================================================================
Class D Shares
================================================================================
Year Ended 3/31/99 +17.74%
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Inception (4/03/97) through 3/31/99 +32.40
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Small Cap Index Fund
Average Annual Total Return
% Return
================================================================================
Class A Shares
================================================================================
Year Ended 3/31/99 -16.96%
- --------------------------------------------------------------------------------
Inception (4/09/97) through 3/31/99 + 7.79
- --------------------------------------------------------------------------------
% Return
================================================================================
Class D Shares
================================================================================
Year Ended 3/31/99 -17.21%
- --------------------------------------------------------------------------------
Inception (4/09/97) through 3/31/99 + 7.51
- --------------------------------------------------------------------------------
6 & 7
<PAGE>
This report is not authorized for use as an offer of sale or a solicitation of
an offer to buy shares of the Funds unless accompanied or preceded by the Funds'
current prospectus. Past performance results shown in this report should not be
considered a representation of future performance. Investment return and
principal value of shares will fluctuate so that shares, when redeemed, may be
worth more or less than their original cost. Statements and other information
herein are as dated and are subject to change.
Merrill Lynch
Index Funds, Inc.
Box 9011
Princeton, NJ
08543-9011 Index Q--3/99
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