Israel’s shekel is held back by central bank

Kathleen Brooks
AS THE Federal Reserve announced that interest rates would remain low for the foreseeable future earlier this month, the Bank of Israel (BOI) has been getting ready to hike interest rates.

The BOI, which is led by Stanley Fischer, upped interest rates on the back of a spike higher in inflation expectations to 3.2 per cent. And there could be more hikes to come. Yesterday, GDP data for the second quarter was released, which showed that the economy expanded by 4.7 per cent, the fastest pace for two years. While a strong economic backdrop and a rising interest rate differential with the US and Europe should indicate further gains for the shekel, investors need be aware of the BOI.

The Bank faces a difficult balancing act in the months to come: not only does it have to cap inflation expectations but it has to keep the shekel in check so it doesn’t make Israeli exports less competitive.

“The BOI isn’t the only central bank struggling with this problem,” says Henrik Gullberg at Deutsche Bank. But Gullberg adds that, unlike other central banks, the BOI tends to intervene with some force when the shekel is above their comfort zone. “The market is aware that the BOI is active in terms of managing its currency and that puts a cap on how quickly the shekel can appreciate.”

Phil McHugh from Currencies Direct says that the threat of BOI intervention should keep the shekel range-bound for the rest of the year: “The Bank tends to intervene around the New Israeli shekel (NIS) 3.70 mark against the dollar. That is where the pain starts setting in for exporters.”

There is no clear medium or long-term outcome for the shekel, adds McHugh, which could make it fairly choppy for the foreseeable future. He would suggest that investors consider buying the shekel when it reaches the NIS 3.87 level against the dollar (currently it is NIS 3.78). However, investors need to be nimble and get out before it reaches the NIS 3.70 mark.

But if the global growth outlook picks up, specifically if US growth looks like it is getting a second wind, then that is a “different kettle of fish,” says McHugh, as the BOI might be more flexible with how far it will allow the shekel to appreciate. Likewise, Societe Generale warns that political tension could weigh on the currency. If there is an escalation of tensions between Israel and Lebanon, as there have been in recent days, then the shekel could be in for a period of weakness.

So if investors want to ride on the coattails of strong Israeli growth, they need to be nimble and watch out for signals from the BOI.