Merrill Lynch: Developed Markets status natural for Israel

Merrill Lynch analysts Haim Israel and Micha Goldberg call Israel's upcoming classification as a developed market by Morgan Stanley a natural progression, and puts Israel where it belongs.

The analysts say that Israel's economy was somewhat unremarkable compared to emerging market countries. Its growth, while strong, still lagged behind that of other emerging markets in the last bull market; as a net commodity importer, higher commodity prices weigh on its performance; and its relatively high dividend payouts and economic stability are less appreciated in emerging markets investing.

In contrast, compared against developed market economies, some of those handicaps become selling points. Its GDP growth looks "quite appealing" compared with the new peer group; a 2% population growth rate gives a boost to GDP growth; its economy is stable compared to countries like Portugal, Ireland, Greece, Spain, and Dubai and that is reflected in considerably lower spreads on credit default swaps; and there is a high dividend payout focus.

When the move to the developed markets index is made, on May 31, Merrill Lynch calculates that Israel's index weighting will fall from 3% in the Emerging Market index and 14.49% in the EMEA index, to 0.95% of the international benchmark EAFE index, and 0.44% of the MSCI World index. The analysts also believe that Check Point Software Technologies Ltd. (Nasdaq: CHKP), which only trades on Nasdaq not the Tel Aviv Stock Exchange (TASE) will not be in the new Israel index, which will bring the weighting even lower (0.89% of EAFE).

Analysts Israel and Goldberg see a net investment by passive investors those simply tracking the relevant MSCI indices of $3.3 billion, as Emerging Markets index investors sell, and developed market index investors buy. Merrill Lynch estimates that 89% of the new investment will go to five large shares Teva Pharmaceutical Industries Ltd. (Nasdaq: TEVA; TASE: TEVA) (net inflow of 2.1 billion), Israel Chemicals Ltd. (TASE: ICL), Bank Leumi (TASE: LUMI), Bank Hapoalim (TASE: POLI), and Bezeq The Israeli Telecommunication Co. Ltd. (TASE: BEZQ).

The analysts expect active money managers to focus on ten large cap stocks.

Haim Israel told "Globes", "Beginning in January, it is possible to notice an exit by active money, that is, hedge funds and foreign investors that are not tracking indexes." He said, "Every time there are rises in the indexes, we see an exit by active money. From this perspective, the end result is that second tier stocks will suffer from the upgrade, since Israel's weighting will be smaller and those stocks will be smaller in the new world."

Merrill Lynch points to several reasons to invest in Israel, including a high cash level among local institutional investors. They claim that even if 10% of the cash on the sidelines goes back into the market, "we could easily see another 20-30% spike in the Tel Aviv 100." Merrill Lynch also finds confidence in Teva's large (65%) weighting in the Israel index, as that makes "any global crisis quite irrelevant for the index." They also note that the Morgan Stanley Israel index has outperformed in recent "mega" crises, including the Asian debt crisis in the late 1990s.

The sectors (and companies) in which Merrill Lynch recommends investing include telecommunications due to high dividend yield, which is 2.5 times higher than the developed markets average (Bezeq, Partner Communications Ltd. (Nasdaq: PTNR; TASE: PTNR; LSE:PCCD), Cellcom Israel Ltd. (NYSE:CEL));agrochemicals, saying the 2009 agrochemical recession is over (Israel Chemicals, Makhteshim Agan Industries Ltd. (TASE: MAIN)), and banks (Bank Hapoalim, Mizrahi Tefahot Bank (TASE:MZTF), which it says is best geared to benefit from Basel II, Bank Leumi, Israel Discount Bank (TASE: DSCT)), and the healthcare sector, or rather Teva.

Merrill Lynch was bought by Bank of America in 2008 and is now a wholly-owned subsidiary of the bank.

Published by Globes [online], Israel business news - www.globes-online.com - on March 1, 2010

Merrill Lynch: Developed Markets status natural for Israel

Analysts: Israel's economy is stable compared to countries like Portugal, Ireland, Greece, Spain, and Dubai and that is reflected in considerably lower spreads on credit default swaps.