Israel’s promotion from emerging market (EM) to developed market (DM) status by MSCI at the end of May – the first such move for a decade – could give local equities a bumpier ride than some investors might be hoping for, says Andrew Howell, EM strategist at Citi Investment Research.

He suggests most EM investors have not yet begun liquidating positions in Israel, while DM investors will be slow to raise their exposure to full weight, at least initially.

He says factors that might dissuade some fund managers from getting involved include Israel’s relatively small weight in the global index, its geographic remoteness and associated geopolitical risk. And domestic investors are unlikely to be able to pick up the slack, particularly with local interest rates rising, he says.

Mr Howell also notes that history is hardly encouraging. “Since MSCI launched its EM indices in 1988, it has transferred two markets from emerging to developed – Portugal in 1997 and Greece in 2001.

“Greece is by far the most worrisome case. Given the special circumstances there, we do not want to read too much into this example. But surely some of the challenges faced by Greece also apply to Israel today – relatively illiquid, not well known by developed fund managers, and too small to be a “must-own” market.

“As we see it, history suggests taking a cautious stance in the weeks surrounding Israel’s promotion.”


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