Middle East stock markets are surviving the breakdown this year in the region's peace process.
Some managers are downplaying the latest political strife as they eye opportunities ranging from Israel's lowered interest rates to Egypt's privatizations.
And although regional conflict has worsened, it doesn't seem likely to last. Quite a few investors believe the stalled Middle East peace process will be reactivated eventually.
But the regional picture is far from rosy. Israel's market, which had surged early in the year, clearly forfeited some gains as political news worsened. As of April 30, Israel's Mishtanim stock index of the Tel Aviv market had advanced 16.6%, in dollar terms, for the year to date. But that was a drop from its 27% gain in dollars at its Feb. 18 peak.
(By comparison, the 80 Israeli companies that trade on the NASDAQ market in the United States have performed relatively poorly this year in line with weakness in small, high-tech companies generally.)
According to the global stand-alone indexes of the International Finance Corp., Egypt's market was up 36.3% in dollar terms in the first quarter, while Morocco's rose 31.4% and Jordan's fell 2.6%. (The IFC's Israeli index is not yet available.) In the first quarter, the Morgan Stanley Capital International Israel index was up 11.4%. All returns are without dividends reinvested.
Despite its 1997 gains, the Israeli market has had its obvious deterrents. Because of turmoil in the region, the $11 million Growth Fund of Israel failed to attract enough investors, said Laurence Dwyer, senior vice president of the New England Investment Cos., Boston. As a result, that fund folded Jan. 31 after just more than a year in existence. The fund had been created by New England Funds, a unit of NEIC, and B'nai B'rith.
But Middle East politics didn't undermine Cowen & Co.'s Polaris Fund II. That $125 million private equity fund will provide growth capital to emerging technology companies in Israel. According to Cowen, the fund was oversubscribed from its original $75 million target. (Polaris Fund II is managed by DS Polaris Ltd., and sponsored by Dovrat, Shrem & Co. Ltd., a large Israeli investment bank.)
"The successful fund-raising proves the faith placed by American investors in Israeli technological innovation and the management ability of Polaris," said Itschak Shrem, vice chairman of the Dovrat, Shrem Group in a statement. "In some areas like telecommunications and biotechnology, Israel is one of the leading countries in the world, and these are the areas in which the fund will concentrate."
Technological prowess isn't Israel's only attraction right now. Other draws include falling interest rates (the rate that Israel's central bank lends to commercial banks is 13.9% - down from a peak of 17% last July) and this year's modest currency decline from relatively high levels. The latter is expected to give a boost to Israeli companies with sizable exports.
What's more, the IFC soon will be providing a possible market incentive. As of May 19, the IFC will offer a stand-alone Israeli market index in its global and investible index series. And at a future date, the IFC will integrate Israel into its composite indexes. (As of now, Jordan's is the only Middle East market in the IFC's composite indexes. However, Israel's and Jordan's markets are included in the MSCI Emerging Markets Free index.)
"We remain bullish on Israel," said Jack Sorensen, vice president of Bennett Capital Management, Burlington, Vt. That firm specializes in investing in emerging markets of the Middle East, Europe and Africa. In Bennett's portfolios, Israel's market weighs in at a hefty 19% - up from 16% at the end of last year. The firm used this year's drop in NASDAQ-traded Israeli shares to boost its overall Israeli holdings.
To Bennett, Israel's attractions include its continuing economic growth, stocks that are cheap relative to comparable U.S. and European companies, and the currency decline. Among the Israeli companies Bennett likes are ECI Telecom, Teva Pharmaceuticals, and Orvotech. Bennett also likes Egypt's market, where it has roughly a 6% exposure.
BEA Associates, New York, has an overweighted 14.5% exposure to Israel, Jordan and Turkey combined in its core emerging market fund. That weighting is up from just below 10% at the beginning of the year.
BEA Executive Director William P. Sterling said any sharp sell-off in Mideast markets for political reasons would be a buying opportunity. He cited the "value picture." Specifically, "if you look at various measures of value, like price-to-book ratio or price-to-cash flow, the emerging markets of Europe and the Middle East stand out as attractive buys relative to emerging Asia," he said.
Since about the end of last year, State Street Global Advisors, Boston, gradually has been increasing its weighting to Israel in active emerging markets portfolios. While the firm is "comfortable where we are now" - with about a 2% to 3% exposure in its global emerging markets portfolios - it might "buy into" future weakness in the Israeli market, said Managing Director Robert Furdak. As attractions he cited valuations - including a p/e ratio of about 13 -and an expected improvement in corporate earnings. In contrast, "in Asia, more analysts are decreasing rather than increasing their earnings estimates," Mr. Furdak said.
Montgomery Asset Management, San Francisco, has between 1.5% and 2% combined in the markets of Israel, Egypt and Morocco. While Israel claims the largest share of that allocation, 1%, the firm actually is "more enthused about Egypt," said Vinit Bodas, regional portfolio manager. Attractions include Egypt's privatization process, which "picked up steam in the early part of last year, and a lot of companies came into the public arena at reasonably cheap valuations," he said.
Grantham, Mayo, Van Otterloo & Co. also likes Egypt's market, in which it began investing in the fourth quarter of 1996. It now has a 2% exposure, and would raise it if the market were more liquid, said Arjun Divecha, managing director in the Berkeley, Calif., office. As attractions, Mr. Divecha cited Egypt's "government has been doing all the right things in the past year and a half" - including its "huge" privatization program.
In contrast, he doesn't like Israel's market: "Even before the peace process unraveled, the market seemed expensive."