The Israeli shekel is unstoppable. In just a few minutes during trading on Monday morning, the Israeli currency strengthened to 3.338 to the dollar, its highest since 2008, before settling at a representative rate of 3.339.
What is behind the shekel’s strength? Haven’t currency dealers in Tel Aviv and London learned that the government in Israel is stuck in a rut? That there isn’t and may never be a state budget? That we’re on the way to a fourth general election in just two years? That one-fifth of the workforce is unemployed? That the international credit rating agencies have warned that if the government doesn’t present an economic plan for the day after the coronavirus epidemic, they may lower the country’s rating?
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The answer to all these questions is that currency traders are perfectly cognizant of the Israeli economic reality, but the Israeli financial reality is almost the complete opposite. What the average Israeli sees is very different from what a currency dealer sees.
From the latter’s perspective, the situation couldn’t be better and the coronavirus is partly responsible for that. Why? The currency market should always be seen from two perspectives – the short term and the long term. Exchange rate fluctuations also reflect not just what is happening in Israel but what is happening in the world and sometimes a combination of the two.
Short-term: Selling dollars
In recent months, the shekel’s strength against the dollar and other currencies has been mainly a global story. The greenback has been weakening against many other currencies on the assumption that the pandemic is coming to an end. Investors are ready to begin buying riskier assets and are selling the dollars they had been accumulating.
Dealers call this greater appetite “risk on,” and when it develops the dollar tends to weaken. That includes against the shekel.
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When global share markets are rising, the dollar weakens in Israel almost automatically, for an additional reason: the need for local institutional investors, which manage assets of approximately 3 trillion shekels ($900 billion), to sell dollars as a hedge against their dollar-denominated equity assets.
Israeli institutions have been investing an increasing share of their portfolios in overseas shares, but that increases the institutions’ anxiety about change in the exchange rate, which if they go the wrong way will reduce their returns in shekel terms.
So they sell dollars when their overseas shares are rising and sell the greenback when they fall. Because Wall Street has enjoyed a sustained rally since November 3, Election Day in the United States, Israeli institutions have been forced to sell dollars. The shekel has thus strengthened.
Long-term: Dollars are pouring into Israel
The bigger story, the one that determines the long-term direction of the shekel-dollar exchange rate, is about something else entirely, namely how much foreign currency flows into Israel and how much flows out. Here the issue isn’t speculation or predictions about the future, which are in any case difficult to make, but about current flows of cash.
Here, the picture is very clear. Despite the coronavirus crisis, perhaps even because of it, Israel continues to be a growing magnet for foreign investment, mainly in high-tech.
This is the statistic that shows just how powerful that magnet is: According to the Central Bureau of Statistics, in the first half of the year Israel drew $16 billion in foreign investment. That compares with $19 billion for all of 2019, before the onset of COVID-19.
This is a huge rise in the rate of dollars flowing into Israel and is the main factor for the shekel’s persistent gains. Analysts say the trend is likely to continue for a long time to come. Some of them, such as Joseph (Yossi Fraiman), the CEO of the Prico group, say that the dollar could eventually sink to 3 shekels and even 2.80 shekels.
In recent months, the coronavirus has unexpectedly contributed to the shekel’s strength, too. In normal times the inflow of dollars from foreign investment and donations from Diaspora Jews are balanced out by the net outflow of dollars from imports and exports. Exports bring in dollars and while imports of goods and services send them out.
During the coronavirus pandemic, Israeli exports have held fairly steady, but imports have fallen sharply because of the lockdowns and the lower level of economic activity. Israelis consumers have bought less of everything, many of them imported products. Nor have they been able to easily fly abroad, in effect importing the products and services they buy while on vacation.
The effect has been a surplus of dollars that has gradually strengthened the shekel.
The foreign exchange market is a market of flows, how much money is flowing into the country and how much is flowing out. In recent months, dollars have been flowing in because of the surge in foreign investment and institutional investors’ hedging their equity portfolios combined with the drop in exports and in Israelis traveling overseas.
If the coronavirus vaccines that have been announced in recent days prove effective, some of these trends will dissipate: Imports will rise, outgoing tourism will return and energy prices are likely to climb. Demand for dollars will grow.
But even after the coronavirus, so long as Israeli high-tech remains an attractive investment proposition, foreign investors will be piling into Israel. On the balance, the strong shekel looks here to stay.