Will the bulls play again this year in Tel Aviv?

Market followers predict more big economic and stock gains in 2006.

bulls statue tel aviv 88 (photo credit: )
bulls statue tel aviv 88
(photo credit: )
Israel's leading economists and analysts are painting a bullish outlook for the country's economy in 2006 on the back of a strong performance in 2005. And they're not about to let a little election uncertainty get in the way. "Elections may represent a short-term uncertainty, but we would use associated market weakness as a buying opportunity, similar to the opportunity created by last year's disengagement from Gaza," said UBS analyst Joseph Wolf. The country's benchmark stock index, the TA-25 set records throughout 2005 while topping the 800 mark for the first time ever in December and is expected to continue to move higher in the run-up to the March elections. "The TA-25, at 815 trades at 13x our forward estimated earnings but we still see further multiple expansion in 2006," said Wolf. "We don't see any reason for panic despite election time," Wolf added. "If anything, the coming elections are proving to be a positive catalyst for the market based on preliminary indications of a broad centrist coalition forming - Prime Minister Ariel Sharon will remain in power, but in charge of a broader, more stable coalition." Analyst Khatija Paruk at Deutsche Bank also assumes a Kadima victory in the upcoming election, and hence a continuation of current fiscal policy. Leo Leiderman, chief economist of Bank Hapoalim believes the economy is in such a good state that it would be a shame if political changes would lead to steps that would harm or halt the blooming economy. Nevertheless, economists and analysts do see some uncertainty and risk for the country's market because of the question of how the government will be formed. "The biggest risk from a fiscal perspective would be if the Labor Party under Amir Peretz won the most seats in the Knesset," said Paruk. Similarly, UBS warned that if the Labor Party pushed for the Ministry of Finance under a Kadima/Labor coalition, there would be a risk to the market given the more socialist tendencies of Peretz, including his desire to raise the minimum wage. On the other hand, HSBC, which recommends to its clients a "neutral" position on Israel, said the capital market would be forgiving of increased social spending in a broad Sharon-Peretz coalition, if one is established. "To satisfy Peretz's social spending agenda, Sharon may have to sacrifice some budget discipline as he pursues his aim of establishing Israel's permanent borders," HSBC remarked in a recent note to clients, adding that the market would see the benefits of the goal as being worth some sacrifice. Booming growth Given a fairly predictable election outcome and a steady stream of continued strong economic data, experts expects Israel's economy will grow between 4.1% and 5.4% this year. "2006 promises to be one of the best years the Israeli economy has seen in a long time with GDP growth of 5.4% supported by interest rates at 5%, which still allows the economy to bloom, a low government deficit, rising business output and profitability, and continuing export growth rates," said Shlomo Maoz, chief economist at Excellence Nessuah. Even HSBC's more conservative prediction is that Israel's economy will grow by 4.6% in 2006, which would still be the best performance since the high-tech boom in 2000. Further, HSBC believes the Bank of Israel is likely to raise the interest rate in line with US Federal Reserve moves, thus re-establishing a positive interest rate gap. On the other side of the fence, Deutsche Bank and Gaon Investment House are more cautious about their outlooks. "Looking ahead to 2006, we expect some moderation in GDP growth to 4.1% year-onyear. Household spending should continue to be supported by tax cuts and declining unemployment, but expected higher interest rates are likely to offset this somewhat. We expect investment to remain strong and net exports should also be a positive contributor to GDP growth," said Deutsche's Paruk. Benny Sharvit, head of research and global markets at Gaon Investment House expects GDP growth of 4.3% in view of dependence on the real interest rate once the effects of inflation have been factored in. "For 2006, we forecast three more interest rate hikes reaching 5.25% by year-end at an inflation rate of 2.1%," he said. A shining shekel HSBC projects that the shekel-dollar rate will reach NIS 4.46 by the end of 2006, while the shekel will weaken against the euro to NIS 5.94. "The shekel remains fundamentally undervalued in our view, and we believe the balance of payments will be shekel supportive in 2006. While the shekel remains vulnerable to the event risk and election related uncertainty, we believe there are prospects for further nominal and real appreciation from the second quarter of 2006," said Paruk at Deutsche. Continued interest from abroad was also expected to contribute to ongoing market gains. "Foreign investors have been driving the market surge in 2005 and they are going to continue to be here," said Gaon's Sharvit. At the same time, however, there is a growing interest of local institutional investors in new financial structures and markets outside of Israel. "2005 saw a monthly capital flow of $1b. out of Israel," said Hapoalim's Leiderman, who expects the trend of outflows to continue. Picks for '06 Analysts believe there could be more joy for foreign investors in bank and chemical stocks during 2006. Assuming an average of 4.5% economic growth in 2006, earnings from the banking sector will be boosted from the sales of their holdings in asset management companies pursuant to the Bachar reform of the capital market, and they will likely share the profits with shareholders through dividends. HSBC's stock picks are Bank Leumi, Bank Hapoalim and telecommunications giant Bezeq in anticipation of efficiency measures and heavy dividends. UBS also likes the banks, favoring Bank Hapoalim over Bank Leumi. UBS' 12-month price target for Bank Hapoalim is NIS 26, which is 25% above its present level on the Tel Aviv Stock Exchange. Its price objective for Bank Leumi is NIS 18, which confers a more modest 6% premium over its share price. "We also see the communications market as a "buy," said Wolf. "For less volatile exposure, we recommend the chemical exporters such as Israel Chemicals." In the tech sector, HSBC likes Nice Systems and Lipman Electronic Engineering, which both offer good growth potential and might well carry out acquisitions in 2006, the investment bank predicts. Credit outlook Only in the second quarter of 2006 after the results of the elections and the budget are in do analysts see credit rating agencies turning their eye back on Israel. "Credit agencies will not be in a rush reiterating their ratings as they will first want to check the budget. In this context political aspects such as who is going to be prime minister and more importantly finance minister will be crucial," said Sharvit. He added that he expected an upgrade of Israel's A- credit rating to an A. Sharvit isn't alone in his outlook for an improved credit rating. "Israel's credit rating on international markets could improve a few months after elections, depending on what the government does, and what economic decisions it makes," said Governor of the Bank of Israel Prof. Stanley Fischer said in December.