BlueStar Israel Equity Update · BlueStar Israel Equity Update Fourth Quarter 2012 What’s Inside 1. The BlueStar Israel Global Index in 2012 YTD 2-4. About the BlueStar Israel Global
This document is posted to help you gain knowledge. Please leave a comment to let me know what you think about it! Share it to your friends and learn new things together.
Global equities continued to rise in Q3 2012. Global Israeli
equities rebounded in September after testing 52-week lows in Q1,
Q2 and again in Q3 2012.
During Q3 2012, the BlueStar Israel Global Index (BIGI) gained
5.46% while the S&P 500 gained 6.53%, MSCI EAFE gained 6.98%,
and the MSCI EM Index rose by 7.89%.
Israel’s technology companies led the recovery in Israeli equities
higher, though financials, oil & gas companies, and basic materials
companies were relatively strong into the close of the quarter as the
Euro-zone recession and debt debacle along with slower global
economic growth weighed on Israel’s technology exporters.
Volume on the TASE has been steadily declining throughout 2012.
Foreign investors’ appetite for locally listed shares picked up a bit in
July but fell sharply in August.
Major geopolitical risks seem to have been deferred after PM
Netanyahu’s address to the UN general assembly, and economic
policy management has been rewarded with credit-rating affirmations
and stable outlooks granted by Moody’s and Standard & Poor’s.
Q3 2012 in Review & Year End Outlook
BIGI Performance (BlueStar Israel Global Index Jan 2010- September 2012)
1
About the BlueStar Israel Global Index The BlueStar Israel Global Index (’BIGI’) provides a benchmark for investors to track the broadest and deepest universe of Israeli
public companies. The index is constructed using BlueStar Indexes’ unique methodology and proprietary database of Israeli and
Israel-linked companies. BIGI includes the largest and most liquid companies as well as mid and small cap companies that display
sufficient liquidity for global investors. The index methodology allows for the inclusion of Israeli companies listed on the Tel Aviv
Stock Exchange as well as other exchanges such as the London Stock Exchange, New York Stock Exchange, and NASDAQ. The
BlueStar Israel Global Index has been created to provide investors with an investable product allowing them to quickly take
advantage of both event-driven news and long-term economic trends as the economy and companies of Israel continue to evolve.
BlueStar Israel Global Index Technical Analysis and Valuation
PE (Sept 30 2012) Dividend Yield (Sept 30 2012)
BlueStar Israel Global Index 25.8 2.26%
The technical picture for Israeli stocks, as measured by the broad-based BlueStar Israel Global Index (BIGI), has become more constructive, though a bullish trend is not yet confirmed. BIGI repeatedly tested key support during Q2 2012 around the index level of 195/200 (see solid red support line on two-year chart), and tested this level repeatedly throughout the third quarter which just ended. As indicated by the solid black downtrend line on both the two-year and five-year charts, the short/medium-term outlook for Israeli stocks remains challenging, with a breakout above the 225 index level needed to confidently reassert a bullish trend. What makes us more constructive for the fourth quarter and early 2013 is that the vital support levels of 194/197 did (just barely) hold during the summer and, after BIGI successfully reclaimed the 200 index level, it managed to hold above 200 during September and the start of October. We now consider the 200/205 level as new support for BIGI, with the possibility of a break above the aforementioned one-year downtrend line (on the two-year performance chart below) a distinct possibility. The longer-term outlook for Israeli equities could become bullish only if the index breaks back into – and ideally through - the channel connecting the 2008/2009 lows, as illustrated in the BIGI five-year chart, which spans the entire 2008-2009 global financial crisis. This corresponds with the 225/230 level mentioned above. As we mentioned in last month’s Outlook, the first sign that this might be possible would be a pulse above 212/215 between now and the end of the Jewish Holiday season in early October, which indeed occurred. To review the long-term analysis of the patterns on the five-year chart, BIGI, like other Israeli indexes, bottomed in late October 2008 and again in early March 2009, followed by a powerful rally into spring 2010. After a short correction, BIGI surged to lifetime highs in late 2010 through spring 2011, only to correct deeply again amidst Europe’s financial crisis, Israel’s domestic social protest and nuclear threats from Iran. It found solid support during late 2011 at the key technical level of 195. This corresponds with an uptrend beginning with the early 2009 bottom (solid red uptrend line), and the horizontal support zone dating back to autumn 2007 (solid red line), also at approximately the 195 BIGI level. As noted above, this level was repeatedly probed in June and July 2012, and again later in the summer, and by the end of last month and Q3, has confirmed the support at this level.
If the 200/205 level is maintained during October and Q4, a rally toward the downtrend line (solid black line) which began in mid-late 2011 at the 225/230 index level can occur. If this is broken, a rally to strong resistance is projected to be at 239/240, as highlighted by the solid green line. If this resistance is broken, we see the projected upside potential of the index to be at the 300 level by early-2013, though most likely following a consolidation at the 2011 high of 275. From a risk management perspective, the revised stop-loss at the 195/197 level articulated in our September Outlook stop-loss remains valid, but those with a shorter-term perspective should move their stop-loss up to 200/205 in BIGI for the remainder of autumn. If these levels are breached and confirmed with a weekly close of BIGI below 195, the longer-term outlook will shift dramatically, and any rallies should be sold. A breach of 195/192 will increase the likelihood that the spring 2011 peaks represent the ‘head’ of a massive ‘head and shoulders’ pattern which would project a major decline to around 135, just above the autumn 2008/March 2009 lows. However, if these newly-adjusted higher stop-loss levels hold, and a rally can lift BIGI decisively above 225 level, there is some hope that this major multi-year support level will have held, and can potentially form a base for a sustained rally. If the latter scenario develops, we would expect medium/long-term targets as high as the 270/275 level for BIGI by spring 2013.
Source: BlueStar Global Investors LLC (Jan 1 2010- September 30 2012)
Source: BlueStar Global Investors LLC (January 1 2007- September 30 2012)
6
Technical Analysis: BlueStar Israel Global Index Top Ten Holdings (& Weights)
Shares of companies in the Oil & Gas industry were up in Q3 2012 as the recommendations of the Tzemach Committee were revealed. It has been decided that gas partnerships will be allowed to export between 50% and 75% of gas reserves depending on the size of the reserve (this is still contingent on the actual amount of proven reserves to be found in Israel’s waters, reserves must first be sufficient for domestic Israeli use). A factor holding back Israeli Oil & Gas exploration shares throughout the first two quarters of the year included the recognition that a global oil major would be needed to help finance and support the development of Israel’s Oil & Gas program and that, without the allowance of exports, there would be no economic incentive for an oil major to participate. The Leviathan Partners (Noble Energy, Avner, Delek Drilling, and Ratio) received offers for acquisition of up to 30% of rights to natural gas licenses in Leviathan fields: Total SA and Gazprom are the supposed front runners and Australia’s Woodside Energy is supposedly interested as well. Additionally, there have been some rumors floating around that Exxon Mobile and Chevron are interested too. It is unlikely that any company with significant operations in Arab countries would participate in Israel’s energy industry. A new debate is heating up between the Leviathan partners as to what type of strategic partner they are seeking. If they are seeking the highest bidder then Gazprom would supposedly win. On the other hand Gazprom may be too politically entangled to make for a serious long-term and value producing partner. Other developments in Israel’s energy industry from Q3 2012 were: 1- No gas was found at the previously-promising Myra 1 well; 2- "’By 2018-2019, gas from Eastern Mediterranean may find its way to Greece and through Greece to the rest of Europe, providing diversification and security of supply as well diversification of routes,’ Interconnector Turkey-Greece-Italy pipeline (ITGI) director of international activities Dimitris Manolis told ‘Reuters.’” (as reported in a “Globes” Sept. 12 article ); 3- Israel agreed to open talks with the Palestinian Authority to develop the marine natural gas fields offshore from Gaza; 4- Drilling at the Sarah license commenced and the target depth is supposed to be reached by early November. The Sarah well has an estimated 1.5 trillion cubic feet of natural gas with a 54% rate of success.
Energy
Financials as a whole have been rising on easing concerns over the stability of Israel’s financial system attributable to: positive developments regarding Israel’s sovereign debt rating stability, stable interest rate outlook, rising mortgage and real estate markets, and reduced exposure to PIIGS (Portugal, Italy, Ireland, Greece, and Spain) debt. Regarding PIIGS sovereign debt, Israeli banks have the largest exposure to Spain at NIS 714 million, followed by Italy and Ireland. They have less significant exposure to Greece and Portugal. In August, the Bank of Israel, on recommendations of the Committee on Concentration in the Economy, ordered banks to eliminate certain fees considered to be predatory or unfair to consumers. This will hurt banks’ profitability. An additional risk to Israeli banks, especially those with high
Sector
as defined by
BlueStar Indexes
Q3 2012
Performance
Q2 2012
Performance
Q1 2012
Performance
Technology 1.40% -4.51% 3.77%
Basic Materials 0.93% -0.89% 0.58%
Oil & Gas 0.76% -1.57% 0.30%
Financials 0.73% -2.66% 0.89%
Health Care 0.31% 0.13% 2.07%
Industrials 0.26% -0.79% 0.26%
Telecommunications 0.25% -2.12% -1.08%
Consumer Services 0.22% -0.40% 0.22%
Consumer Goods -0.03% -0.60% 0.05%
Utilities -0.07% -0.12% 0.06%
Telecom Service Providers Israel’s telecommunications companies came under heavy pressure from the end of 2011 through Q2 2012. A changing regulatory environment and the recommendation of the committee on concentration in the economy have led to the entry of new competitors in this industry, Golan and HOT telecom. The new entrants are still in serious recruitment mode offering what many analysts feel are unsustainable pricing incentives to switch from Cellcom, Partner, or Bezeq. The three bigger players have been coming out with lower-rate and all-inclusive plans of their own. The big three companies are also beginning to streamline operations to adjust to the new competitive environment, making investing in the telco's more appealing given recent stock price drops. Talk of mergers or acquisitions are right now centered around Partner but new regulations may open the sector up to more M&A activity. Given the aforementioned stock-price drops, investors seem to have put a floor under the sector, and the telecommunications sector rose in Q3 2012. 8
exposure to the mortgage market (like Mizrahi Tefahot Bank), is that the Bank of Israel is keeping a close eye on developments in real estate prices; though bank officials say no action is currently necessary, they may need to intervene in the mortgage market at some point. Given global economic growth concerns, it is unlikely that the Bank of Israel would raise interest rates to cool the housing market, so direct intervention is more probable if any action will be taken at all.
Developments in the Corporate Arena and Capital Markets
Corporate Structure
Israel’s economy has long been dominated by large corporate pyramids. Corporate pyramids are a type of holding structure which enable families or a few large investors to retain control of the subsidiaries of their core company, while keeping their exposure to the cash flows of these subsidiaries low. As the pyramid adds levels of subsidiaries and cross-holdings, the core investors’ exposure to cash flows is reduced at a faster and faster rate. This creates moral hazards in decision making and asymmetric information availability on those subsidiaries which are publicly traded. Additionally, the corporate pyramids have been able to take advantage of under-the-radar cash transfers between its holdings, funding one failing company with dividends or loans from the operating profits of another, in addition to creating barriers to entry for new competitors. Israel ranks fourth in the world in percentage of public companies belonging to one of the ten largest holdings companies at 41%. Also, 88% of Israeli public companies have a controlling shareholder. In response to public protests in Israel that resulted from growing real inflation and a growing poverty rate despite unprecedented levels of GDP and corporate profits, Prime Minister Netanyahu established a Committee on Market Competitiveness. The Committee has taken several measures toward breaking up some of these large corporate holding structures. It has forced them to split financial and non-financial holdings, has made limitations on board members, and has prohibited majority shareholders from exerting decision-making influence on companies below certain layers of a corporate pyramid. This prohibition will also force institutional investors and portfolio managers to participate in shareholder voting proactively, giving voice to non-majority shareholders. The effects of such measures will be seen over the course of several quarters or years. Other developments include effects of the Committee on Concentration in the economy. We have seen immediate positive effects on the Israeli consumer in the way of increased competition in the telecommunications market and the announcement that dairy imports will be allowed in the future, and we expect greater competition in most sectors of the Israeli economy.
The major hurdles for Israel’s equity market in continuing to develop and gain international attention are low liquidity and relatively low market capitalizations. However, as the corporate pyramids divest holdings, financial institutions and investors may become more interested in trading the common shares of the divested companies as their free-floated shares will increase. Non-residents invested net $260 million in TASE-listed shares and net $280 million in foreign-listed Israeli shares in July but invested only a net $160 million in August and preliminary data for September shows this slide continuing. Israelis were net sellers of $120 million in foreign shares and Israel’s net foreign direct investment position was -$100 million.
Equity Market
Israel Non-Government Bond Index (Jan 2010 – Sept 2012)
Debt Market In July, business sector debt increased by 0.3% to NIS 791 billion and has increased a total of 1.3% in 2012 year-to-date. Household debt increased by 0.8% in July to NIS 378 billion. The total volume of new mortgages granted in August was NIS 5.8 billion, a new record after NIS 4.9 billion in new mortgages was granted in July. Israeli banks continue writing down debt and reducing exposure to PIIGS sovereign debt. Some thawing in the “credit freeze” in Israel is beginning, though corporate and bank debt issues are still arising in isolated instances. For example: bank regulators ordered banks to classify IDB’s debt as problem debt with the highest risk in September. Though the Bank of Israel policy interest rate is projected to remain stable at 2.25% through the end of 2013, the yield spread between 10 year Israeli and U.S. government bonds increased by 10 bps in Q3 2012 mostly as a result of increased inflation expectations in Israel and a new round of monetary easing in the U.S. 9
Israel Economic Review & Outlook
Israel’s GDP Growth Factors During the third quarter of 2012 both the Bureau of Statistics and the Bank of Israel revised their 2012 GDP forecasts upwards while lowering 2013 GDP forecasts. The Bureau of Statistics predicts Israeli 2012 GDP growth to be 3.5% while the Bank of Israel is calling for a 3.2% growth rate based on better-than-expected export data. However, the Bank of Israel has lowered its expectations for 2013 GDP growth to just 3.0% based on the Euro-zone recession and Israeli government tax policies. The two major risk factors to the Israeli economy from the Bank of Israel’s point of view are geopolitical uncertainties which could lead to a rise in the price of oil and/or a reduction in exports, and the prospect of the Euro zone breaking up. Looking forward to 2013, the largest declines in GDP growth are expected to come from private consumption and investment expenditures with government spending set to rise and net exports (roughly equal to the current account) set to return to a positive figure: The current account deficit for 2012 is estimated by the Bank of Israel to be $800 million while the bank expects a surplus of $1.5 billion in 2013.
Fiscal Policy Tax receipts are lower than the seasonal path in 2012 to date and the Bank of Israel is expecting a budget deficit of 3.5% – 4.0% of GDP in 2012. The government implemented several new taxes and policies in Q3 2012. The first of was the 1% rise in the VAT which is expected to contribute to inflation and bring NIS 1.2 billion in revenue for the government in 2012. Additionally in September, the Knesset Finance committee passed the trapped profits bill to allow companies to use profits accumulated in Israel for foreign investment so long as they pay a (reduced) tax on these profits and 50% of these profits are used to invest in one of the following: productive assets at plants, Research and Development, or hiring new employees. Yields on government bonds increased in Q3, in line with worldwide trends and increased inflation expectations. The yield gap between 10 year Israeli and U.S. government bonds increased by 10 bps to 280 bps. Israel’s sovereign risk premium declined by 16 bps. The labor market in Israel continued to strengthen although at a slower rate. Employment growth continued in Q3 2012 and though the number of job vacancies declined by 4.5% in September, the number of vacancies filled increased over the past month.
Inflation and Monetary Policy The CPI for August rose by 1% which was above expectations. Housing prices rose 1.1%, transport prices (including gas) rose 1.8%, and fresh produce prices rose 7.9%. Inflation is expected to continue to rise due to: 1- increased VAT, import taxes, and income taxes; 2- continued rise in housing and energy prices; and 3- depreciation of the Shekel. The Bank of Israel lowered interest rates twice in 2012 from 2.75% to 2.25%. The interest rate has remained at 2.25% throughout Q3 2012 and is expected to remain there through 2013.
New Israeli Shekel Performance After substantial weakening through most of 2012 YTD, the NIS strengthened vs the USD in September in line with global trends after the Fed announced QE3. The shekel, however, depreciated vs the Euro but the nominal effective exchange rate (measure of the NIS vs a basket of major currencies ignoring prices) appreciated by 1.5%. Currency appreciation is typically viewed as a negative development for an export-oriented economy, however it also represents economic strength and financial stability.
Though Israeli and U.S. equities gained in Q3 2012 and Israeli equities outpaced U.S. equities by over 200 bps in September, we cannot say that U.S. and Israeli market have “re-coupled”, as there is minimal evidence of correlation between the two markets in
the past several months. However, the divergence between Israeli and U.S. equities over the past sixth months or so represents the largest performance differential between the two markets in recent years, and we attribute this mostly to overblown fears of
geopolitical risks in the local market. As we have seen repeatedly, investors in Israeli markets typically overreact to geopolitical risks and long-term investors are rewarded with strong outperformance once fear-based selling subsides.
Geopolitical and political risks still exist, however, and they will likely continue to pressure Israeli equities well into the first quarter of next year after both U.S. presidential and Israeli Prime Ministerial elections are over. The continuing crisis in Syria is entangling
Turkey and Russia and has enormous potential of spilling over into the broader Middle East region. These risks and rocket attacks on the country of the past few months have helped hold Israeli equities down and contributed most to the divergence between Israeli
and other developed-market equities.
In late September and early October, we started to see the effects of Western sanctions on Iran, which had the goal of deterring the country from developing a nuclear weapon. The Iranian currency continues to plunge and inflation remains in double-digits;
protesters began taking to the streets in Tehran. Additionally, we learned from Prime Minister Netanyahu in his address to the UN General Assembly what his “red line” is and that any Israeli strike against Iran will not occur until early-mid 2013. We believe these
developments have led to the release of much of the geopolitical pressure on Global Israeli Equities.
BLUESTAR INDEXES MAKES NO EXPRESS OR IMPLIED WARRANTIES, AND HEREBY EXPRESSLY DISCLAIMS ALL WARRANTIES OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE WITH RESPECT TO ANY OF THE BLUESTAR INDEXES OR ANY DATA INCLUDED THEREIN. IN NO EVENT SHALL BLUESTAR HAVE ANY LIABILITY FOR ANY SPECIAL, PUNITIVE, INDIRECT, OR CONSEQUENTIAL DAMAGES (INCLUDING LOST PROFITS), EVEN IF NOTIFIED OF THE POSSIBILITY OF SUCH DAMAGES. BLUESTAR INDEXES AND ISE AND ITS AFFILIATES MAKE NO WARRANTY, EXPRESS OR IMPLIED, AS TO THE RESULTS TO BE OBTAINED BY ANY PERSON OR ENTITY FROM THE USE OF THE INDEX, TRADING BASED ON THE INDEX, OR ANY DATA INCLUDED THEREIN IN CONNECTION WITH THE TRADING OF BLUESTAR INDEX ETFS OR FOR ANY OTHER USE. BLUESTAR INDEXES AND NYSE AND ITS AFFILIATES MAKE NO WARRANTIES, EXPRESS OR IMPLIED, AND HEREBY EXPRESSLY DISCLAIM ALL WARRANTIES OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE OR USE WITH RESPECT TO THE INDEX OR ANY DATA INCLUDED THEREIN. THE INDEX INFORMATION CALCULATED AND DISSEMINATED AND ANY OTHER DATA DISSEMINATED BY BLUESTAR INDEXES AND ISE OR ANY OF THEIR AFFILIATES OR AGENTS ARE FOR INFORMATIONAL PURPOSES ONLY AND ARE NOT INTENDED FOR TRADING PURPOSES. AS SUCH, THE INDEX INFORMATION AND OTHER INFORMATION DISSEMINATED BY BLUESTAR AND ISE ARE PROVIDED ON AN “AS IS” BASIS. BLUESTAR AND ISE MAKES NO WARRANTY, EXPRESS OR IMPLIED, RELATING TO THE INDEX INFORMATION OR OTHER INFORMATION COVERED BY THIS AGREEMENT, INCLUDING, BUT NOT LIMITED TO, EXPRESS OR IMPLIED WARRANTIES OF MERCHANTABILITY, FITNESS FOR A PARTICULAR PURPOSE OR USE, TITLE OR NONINFRINGEMENT. BLUESTAR INDEXES AND THE ISE DO NOT WARRANT THAT THE INDEX INFORMATION WILL BE UNINTERRUPTED OR ERROR-FREE, THAT DEFECTS WILL BE CORRECTED, OR THAT THE INDEX INFORMATION IS FREE OF VIRUSES OR OTHER HARMFUL COMPONENTS. BLUESTAR INDEXES AND ISE DO NOT WARRANT OR REPRESENT THE USE OF THE INDEX INFORMATION IN TERMS OF ITS CORRECTNESS, ACCURACY OR RELIABILITY.