Analyzing the prospects of the shekel's uncertain future

The recent fluctuations in the exchange rate between the US dollar and the Israeli shekel have left financial markets and investors in a state of uncertainty. The shekel has been losing ground against the dollar for some time now, and this trend shows no sign of slowing down. Various factors, including political developments and global market conditions, are contributing to the shekel's decline. In this article, we will examine the prospects of the shekel based on the recent events and market dynamics.

Political Turmoil and shift towards pessimism

One of the key drivers behind the shekel's depreciation has been the ongoing political turmoil in Israel. The proposed judicial system reform by Justice Minister Yariv Levin has sent shockwaves through the financial system. The uncertainty surrounding these reforms has made investors nervous, leading to a higher risk premium on the dollar-shekel exchange rate. Without this uncertainty, the dollar would likely stand at a lower rate, around NIS 3.35-3.55.

The upcoming discussions at the High Court and the constant talk of a potential constitutional crisis have only added to the uncertainty. Foreign investors, in particular, fear the consequences of such a crisis, and this has weighed on the shekel.

In the early stages of the shekel's volatility, market movements were more balanced. Positive statements and progress in political discussions had the potential to strengthen the shekel. However, recent events have shown a shift towards pessimism. Even positive developments like a favorable rating report from Fitch or significant arms deals have failed to convince investors to bet on the shekel. It appears that there are now more buyers than sellers in the market.

Psychology and Wall Street's influence

The foreign exchange market is influenced by psychology, and speculators often drive market sentiment. Each time a resistance line is breached, it encourages further depreciation of the shekel. Currently, the shekel has settled above NIS 3.80 level and is pushing toward another key level of NIS 3.85. Should this key barrier fall, analysts will be looking at potential resistance point at NIS 3.90.

Wall Street's performance has also impacted the shekel-dollar exchange rate. Until recently, when Wall Street was strong, institutions tended to sell dollars and reduce their foreign exchange exposure. However, the situation changed in August when the US government bond yields increased, and stocks declined. Institutions had to sell more shekels to maintain their foreign exchange exposure. Additionally, the dollar's status as a safe-haven asset has led to its global strengthening, affecting the shekel's value.

Foreign Investments

Another factor contributing to the shekel's decline is the growing preference among savers and investors for foreign investments, particularly those tied to the S&P 500 index. The allure of foreign markets has led to increased capital outflows from Israel, putting further pressure on the shekel.

Foreign entities and banks have played a significant role in the shekel's decline. For instance, Citigroup reported shorting the shekel and profiting from it. Several foreign banks have issued pessimistic forecasts for the shekel, citing political risks and the potential for a constitutional crisis. JP Morgan economists, in particular, maintain a bearish outlook on the shekel.

The uncertainty surrounding the future of the Bank of Israel's governor, Prof. Amir Yaron and a sharp decline in the foreign investments in Israel (approximately 60% in the first quarter of 2023), have also contributed to the shekel's depreciation.

Bank of Israel's Approach

Despite the volatility, the Bank of Israel has refrained from intervention, preferring to let the market find its pricing. The governor has stated that they have the tools to intervene if market failures or extreme conduct occur.

The shekel's prospects remain uncertain, driven by a combination of political, psychological, and global market factors. Investors and market participants will closely monitor upcoming events and developments in the hope of gaining clarity on the shekel's future trajectory. However, as long as uncertainty persists, the shekel may continue to face downward pressure against the US dollar.

This article originally appeared here and is reposted with permission.