TEL AVIV - Israel's provident and pension plans are not expected to rush into international investing, despite the Finance Ministry's decision to scrap restrictions on foreign investments.
Starting in October, Israel's provident plans and those pension plans set up since 1995 - with assets of 122 billion Israeli shekels ($25 billion) - will be free of the quantitative investment restrictions that to date have limited their ability to invest in domestic and international equities.
The new regulations will scrap the 20% ceiling on foreign investments and a requirement that at least 50% of plan assets be invested in local government bonds.
The change will not include the so-called "old" pension plans, established before 1995, that are largely invested in non-tradable government bonds and, with assets under management of 106 billion shekels, represent the largest portion of the Israeli pension market. When the reforms first were discussed, trustees and members of the "old" plans were concerned they would have less access to the non-tradable government bonds if investment limits on them are removed.
While the changes are a step toward greater liberalization, some trustees and members like the security a of having as much as possible invested in the government-guaranteed bonds.
Local consultants and money managers say foreign investment will not begin in earnest until the 35% capital gains tax on non-domestic equities and bonds held by pension plans is reduced or scrapped altogether.
The government-sponsored Rabinowitz Committee, established to review taxation on pension plans, is expected to recommend within the next two months cutting or even killing the capital gains tax for pension plans, said Roni Biram, chairman of Excellence Investing, a bank and investing company in Tel Aviv. Insured funds and provident plans offered by insurers pay no tax on their offshore investments.
Limits possible
"Don't hold your breath," said Yaron Bloch, director of sales trading at UBS Warburg Israel, Tel Aviv. Recent weakness in the shekel and ongoing hostilities in the region might encourage the government to limit investment outflows as much as possible, he added.
But it is also these factors that might encourage Israeli institutional investors to put more money abroad despite the capital gains tax, said Gil Bufman, chief economist at Bank Leumi, Tel Aviv. In a report published in mid-May, he estimated institutional investors could put up to 20% of plan assets abroad in the next five to seven years.
Most of these assets will be invested in U.S. and European equities, said Richard Robinson, director of Rothschild Asset Management, London, and head of the group's Israel operations. This is partly because Israeli institutions are more familiar with these markets, but also because the Ministry of Finance, headed by Sylvan Shalom, has limited offshore investing to those countries with sovereign ratings of more than A.
"That is a bit absurd, considering Israel's sovereign rating is less than single A", said Mr. Bloch.
Pension and provident plans are discussing increasing their exposure to international equities and bonds, but there have not yet been moves to begin allocating assets, he added.
According to Excellence's Mr. Biram, Israeli pension plans invest less than 2% in international assets despite a decision late last year by the Ministry of Finance to raise the ceiling on international investment to 20% of plan assets from 5% previously. It is possible that within the next 10 years pension plans could invest up to half of their assets in international equities and fixed income, if current taxes on offshore investing are reduced, he said.
And once one pension plan starts to explore offshore investing, other plans will follow quickly, as local pension plans tend to act in a pack in relation to investment strategy, said Rothschild's Mr. Robinson.
Most pension plan assets now are held in domestic government and corporate bonds.
The so-called "old" pension plans are required to allocate 70% of total assets to special purpose non-tradable government bonds designed specifically for pension plans and offering a guaranteed rate of interest at 5.5 percentage points above inflation.
At least 20% of the assets of these plans also have to be invested in tradable government or corporate bonds. The balance of plan assets is split between mortgage deposits and equities, said UBS Warburg's Mr. Bloch.
These plans tend to be quite conservative and their existing investment rules will not be changed as a result of the reforms expected in October, he added.
Equity investments
"New" defined contribution pension plans, set up after 1995 when the "old" plans were closed to new members, invest up to 20% of plan assets in domestic equity but still are relatively small with total assets of 15 billion shekels.
Provident funds for retirement had total assets of 107 billion shekels at the end of last year. These funds tend to have a greater allocation to equities, on average 15.7% of plan assets, but they invest less than 2% of total assets abroad, even though many of them are offered by insurance companies and are exempt from the 35% capital gains tax, said UBS' Mr. Bloch. Fixed income accounts for around 50% of plan the balance is generally invested in cash, real estate and private equity.
Excellence's Mr. Biram said pension plans increasingly were frustrated with poor returns from the domestic market. The growth in pension assets has outpaced the development of the local capital market and many pension plans are unable to sufficiently diversify their investment portfolios through local investments.
