Zionism? Not in Your Portfolio

We have a proposal for you.

How about investing everything you have - in your apartment, your provident funds, life insurance policy, savings, investment portfolio, pension - in Spain's stock market? Spanish shares, Spanish deposits, Spanish bonds?

No? Oh, how about investing 80% of the shares component in your portfolio, in Polish stocks? Okay, how about German?

Alright, so how about taking everything you own and putting it into Singaporean stocks and bonds - or take all that property you accrued and concentrate it in Bogota. Yes, that one, the capital of Colombia.

We have a sneaking feeling that although some of the markets we mentioned are growing like weeds, and have done beautifully by investors in recent years, you don't feel like concentrating all your investments in any one of them.

Let us try one last time.

How about investing 90% or 95% of your assets in one of the smallest countries in the world, a country that was at war a year ago, when missiles were raining down on its towns and cities? A country whose southern border is under perennial attack, a country that some say is the No. 1 target of nascent nuclear power Iran, a country that has a violent civil war raging just 100 kilometers away from its center? A country that's been at on-again off-again violent conflict with a large population living alongside?

Aha! You like that one. You buy that marketing strategy, exotic as it sounds. Buy it? You bought it ages ago!

You like that strategy

The Bank of Israel says that you, the average Israeli, have placed between 80% to 85% of all your assets in the Israeli stock and bond market, in Israeli deposits and property.

Once it was easy to explain why we were putting all out money into Israel. Simply, there were vast obstacles to exporting any investments, and until three years ago, tax on capital gains made abroad was vastly higher than tax on local capital gains.

Today the regulatory and tax obstacles have been removed. Only two excuses remain for our bizarre penchant for locals securities.

One is that if you live in Israel and intend to stay here, you want to protect yourself against any local increase in product prices and assets. Investments in Israeli stocks, bonds and property is the best way to achieve that aim.

Two: you have more information about local investments than foreign ones.

But that's no excuse. The global village gets flatter by the day, and the into revolution has changed the rules of the game. Any investor can get information on the markets or companies or securities at the click of a mouse.

So why do our investment managers at the banks and elsewhere keep fencing us into the local market?

They can't find an excuse for their policy in the textbooks on financing and investments. Diversification is the heart of financial theory. Yet the only diversification in many Israeli portfolios is between local shares and local bonds, which leaves the portfolio's risk/reward equation entirely Israeli. The result is that your apartment, your job, your investments in provident funds and pensions, your savings, are all in Israel.

Is it the taste of malabi?

Why are the investment managers concentrating their investments in Israel?

We can think of a few reasons.

When they invest our money locally, they can easily charge us management fees running to 2% of our assets, sometimes as much as 4%, claiming they're worth it. In some cases they aren't; few manage to beat the market over time. But most clients don't realize that.

But if they're going to invest your money overseas, most Israeli investment managers have to carry out the transactions year before buying service from some foreign investment manager. Or, they'll have to buy units in ETFs or some other certificate that tracks a foreign exchange. That is because most Israeli investment managers have no talent in picking shares or sectors overseas, be they in Bogota or Brazil or the United States of A.

You wonder, what do I need my investment manager for? To buy the management services of some other investment manager? To buy ETFs for me? If I want to invest abroad, I can buy ETFs myself, at a quarter of the cost.

Another problem is the benchmark. If the Israeli client looks mainly at the local market, then he may wonder why his portfolio of foreign stocks is losing ground while the local market is rising.

Back-scratching club

Another issue: Israel's capital market is a tiny community of a few hundred companies and about ten major underwriting companies. The members of this clique are tightly networked, openly and covertly, based on their control over the public portfolio of some NIS 2 trillion.

That clique grew enormously, and fast, in the last couple of years, thanks to the Bachar reform. Competition grew fierce. But the clique is characterized by more than professionalism, loyalty and competition: it is also characterized by "scratch my back and I'll scratch yours". Buy from me and I'll buy from you.

An Israeli investment manager wanting in to that club has no incentive to buy American stocks or Chinese shares or Brazilian bonds, whose underwriters and advisers he'll never meet.

Also, the seven years ending in January 2007 generated 9.4% returns a year, in dollar terms, while the MSCI generated 3.6%, and the S&P-500 index generated 2.9%.

However, if we now look at the seven years before that, we get the opposite picture. The S&P-500 index generated 20.5%, the MSCI produced 17.5% and Tel Aviv provided 7.2%.

Jonathan Nassie of Peilim, who presented this data at TheMarker-Deloitte capital market conference last week, shows what happens when you put the two periods together.

A portfolio comprised of 50% Tel Aviv and 50% MSCI shares would have outperformed by 75%, with a standard deviation (risk) lower than 33%.

The conclusion is clear. The world is round and investment managers have to start realizing that Tel Aviv is not at its center. Wake up and smell the international flowers or suffer the added risk. We may live in Israel, we may bring up our children here, we may build our futures in the Holy Land. But when it comes to investments and business, globalization and international diversification are a must.