Shekel strength

October 16, 2015

Against the background of the ongoing wave of terror in Israel’s towns and cities, the Israeli financial system has remained strong and stable. Indeed, it often seems that the financial markets are indifferent, even aloof, from what is going on at street level. What is important is to understand why.


The main reason is that the people who manage pension and hedge funds and insurance companies, understand that individual incidents, however tragic, do not affect a country’s economy. In the Israeli case, we know from bitter experience that even quite large military events – last year’s ‘Tsuk Eitan’ mini-war in Gaza is an excellent example – do not have a lasting impact on the economy and on the financial markets. Investment institutions have to look beyond the individual pain and personal tragedy, to focus on the big picture.


That much is true for Israeli investment professionals, who know first-hand what is going on. They are dominant players in the domestic share and bond markets, although foreign investment institutions are also active in these. But the foreigners are dominant in the foreign exchange market, where the shekel is traded against the dollar, euro and every other global currency.


Strong economy = strong shekel


The strength of the shekel, not just in recent days and weeks but also over the years in security crises of differing magnitudes, is a reflection of the strength of the underlying economy. That strength is well-understood by the foreign money managers, most of whom are not Jewish and have little or no exposure to Israeli life. They may sympathise with Israelis’ pain, but their reaction is guided not by their heart but by their head, which analyses Israel’s overall economic success.


That explains why over the long term – say, a five or even ten-year horizon – the shekel has proved itself as a stable currency. Its short-term fluctuations stem primarily from wider trends in the international markets, not from domestic Israeli developments. Overall, the shekel trades in line with most other non-dollar currencies, so that when the US dollar is strengthening, the shekel falls against it – although usually by less than other currencies do.


But the financial world today is not limited to the developed countries of North America and Western Europe. It also encompasses a broad range of ‘Emerging Markets (EM)’, from China to Brazil to Turkey and even extends to the former Communist countries in central and eastern Europe.


For investment institutions, this division of the world and its currencies into ‘developed’ and ’emerging’ allows each fund or manager to specialize in one or the other – and to further specialize in shares or bonds, or a more specific category of financial assets.


The shekel as a ‘safe haven’


The extraordinary thing is that most of the big financial institutions still categorize Israel as an emerging market – although, by most criteria, the Israel economy long ago advanced from ’emerging’ to ‘developed’. The explanation for this behavior is nothing to do with anti-Israel sentiment, or anti-Semitism, or anti-anything. Like most things the money people do, keeping Israel – and some other strong and mature economies, such as the Czech Republic – in the ‘EM universe’ is done entirely for their own interests.


What happens when the EM sector is weak, or even hit by a crisis – such as has been the case this year? If you manage an EM fund or portfolio, you can’t run away by putting your money in the US or Europe – you have to stay within the EM group. So you need strong and stable EM countries that can serve as a ‘safe haven’ when there is a storm. That’s why it’s useful to have Israel and others labeled EM and thus available for investment, even though they are not ’emerging’ at all.


As a result of this, while money managers pulled huge sums out of EM markets around the world during 2015, causing their markets to slump and their currencies to fall, the Israeli markets and the shekel have been almost unaffected. The shekel has remained roughly stable versus the dollar, which means it has strengthened considerably against the currencies of the EM countries.

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