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Israeli Bonds Gain as Stronger Shekel May Limit Rate Increases
By Tal Barak
June 1 (Bloomberg) -- Israel's government bonds rose for a fifth day on speculation the strengthening shekel will ease inflation and reduce the prospect of higher interest rates.
Israel's shekel rose to an 11-year high against the dollar on May 30 after the economy expanded at a faster rate than economists forecast and as the unemployment rate fell to an 11-year low. The shekel has gained 19 percent against the U.S. dollar this year, reducing the impact of dollar-linked imports and housing costs, which are part of the inflation index.
``The meaningful strengthening of the shekel supports lower inflation and will make it harder for the Bank of Israel to raise rates,'' Tel Aviv-based Leader Capital Markets Ltd. said in an e- mailed report today.
The yield on the 6.5 percent Shahar bond due January 2016 fell 3 basis points to 5.66 percent at the close in Tel Aviv, the lowest in five weeks. The price of the note, which moves inversely to the yield, gained 0.28 shekel, or 28 agorot per 100 shekel face amount, to 107.28.
Israel's gross domestic product expanded an annualized 5.4 percent in the first quarter, compared with the 4.2 percent median estimate of economists surveyed by Bloomberg. The unemployment rate fell in the first quarter to 6.3 percent, from a revised 6.7 percent in the last quarter in 2007, and 7.8 percent in the same period last year.
The Bank of Israel on May 26 raised its benchmark interest rate a quarter-point to 3.5 percent to curb inflation. Inflation quickened to a five-year high of 4.7 percent in April, compared with the government's target of between 1 percent and 3 percent.
The shekel gained 0.4 percent to 3.2370 per dollar on May 30, from 3.2492 the previous day, a fifth day of gains. It was the best performer among 11 emerging-market currencies tracked by Bloomberg in Europe, the Middle East and Africa in the past three months, gaining 12.3 percent.
Bloomberg.com
Israeli inflation will reach 1.5 percent in the next 12 months, according to the Bank of Israel's survey of economists' forecasts released Tuesday. Those estimates have fallen from a high of 2.7% in July.
An alternative inflation estimate based on bond yields was 1.2% percent over the same period, down from as high as 1.9% in July, it said.
Inflation expectations have declined following an 8% rally in the shekel against the dollar since August 1, triggered by interest rate increases. Bank of Israel Governor Stanley Fischer raised the key lending rate in July and August by a total of 0.5 percentage point to 4%.
"The transmission between the exchange rate and the consumer price index is very strong and very quick," Vered Dar, chief economist at Psagot Ofek Investment House Ltd. said in a report. She added that, assuming the exchange rate remains at about 4 shekels to the dollar, the October index will drop by 0.1%.
The central bank also reported that Israel's M1 money supply, which includes consumer and corporate cash and checking accounts, fell 1.1% in September, its first contraction since January. That reduced the increase in M1 for the past 12 months to 20.5% from 21.8% the previous month, the highest since January 2006.
Bank Hapoalim Ltd. said Tuesday it expects inflation in the next 12 months to reach 1.8%, raising it from last month's forecast of 1.2%
The Central Bureau of Statistics reported late Monday that the consumer-price index fell 0.5% in September, its first monthly drop since February.
Since August 29, Fischer has held interest rates steady, and all seven economists surveyed by Bloomberg expect he will do so again on October 29.
"We had very low inflation for September, at the low end of expectations," said Jonathan Katz, an economist at HSBC Bank Plc in Jerusalem. "With such a low number, and low core inflation, this signifies there's no reason to raise rates."
Summary of Israel's Foreign Exchange Activity in April 2006
In April the NIS appreciated sharply: by 3.5 percent against the dollar, and by 2.3 percent against the basket of currencies. The dollar weakened also against other currencies in April––by 3.3 percent against the euro, and by 1.6 percent against emerging markets' currencies.
Exchange-rate risk––as measured by the implied volatility of NIS/$ options––declined slightly during the month, to about 5.5 percent..
Data released today by the Foreign Exchange Activity Department of the Bank of Israel show that the appreciation of the NIS resulted from the combined effects of global factors, i.e., the worldwide weakening of the dollar, and domestic factors apparently deriving from the decline of uncertainty as the political situation in Israel became clearer after the General Election.
The data show that nonresidents were net sellers of foreign currency in significant quantities, mainly via short-term instruments, for the most part via derivatives. With regard to long-term instruments, direct investment continued at a similar level to that in recent months, and it is worth noting that although prices on the Tel Aviv Stock Exchange fluctuated, nonresidents continued investing, albeit in modest quantities. At the same time the global flow of investments into emerging markets continued, but also at lower levels than previously.
The business sector purchased short-term foreign currency, via derivatives, following the pattern it has established in the last few years, whereby it purchases foreign currency when the NIS appreciates, and sells foreign currency when the NIS depreciates, thereby acting as a stabilizer in the foreign currency market. Portfolio investment in foreign securities evident in the last few months also continued.
The reduction in households' accumulation in mutual funds specializing in overseas investments from its levels in previous months continued in April.
Institutional investors continued their increased investments abroad, and since the beginning of the year this investment totals about $ 1.4 billion.
Main Indicators of Activity in the NIS/FX Market FX sales (+), FX purchases (–)
$ million
2004 2005 Mar 2006 Apr 2006
1. Nonresidents
Total direct and portfolio (shares and bonds) investmenta
6,083 10,394 1,215 507
Portfolio investment in Israeli securities (bonds and shares) (+)
4,349
4,330
691
46
Of which: In portfolio shares on the TASE (+)
502
2,136
136
91
In Israeli bonds on the TASE (+)
45
512
288
–72
Israeli issues abroad (bonds and shares)
2,842
1,290
171
10
Direct investment (+)
1,734
6,064
524
461
Purchases of local-currency assets via derivatives (+)
311
–2,303
93
1,472
2. Business sector
Accumulation in foreign-currency deposits (-)
–1,981
–3,256
–591
–55
Net foreign-currency bank credit taken from banks in Israel (+)
Accumulation (-) in mutual funds specializing in forex
–228
–912
–281
–134
Accumulation (-) in forex deposits in banks in Israel
–662
–1,429
–164
–312
a Excluding government bonds floated abroad.
The Euro is predicted by major analysts to go up to the 140 range by June 2007. This means an investment of a few thousand dollars can easily triple within the next year.
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