Understanding the History of Israel Bonds and the Evolution of the Israeli Focused Investment Options

The State of Israel first initiated Israel Bonds in 1951. Since then, the country has issued bonds through its securities underwriter known as the Development Corporation for Israel (DCI). Initially, the government of Israel issued bonds to the Jewish community members who wanted to assist the country. These bonds were provided as plain vanilla “bullet bonds”[1].  Later, Israel established branches in Europe and Canada and diversified its products and services. In turn, this increased the diversification of its investor categories, such as insurance organizations, large banks, and U.S. local municipalities. This paper aims at exploring the nature of Israel bonds to identify suitability issues.

Structure of Israel Bonds

According to Israel Bond International, an Israel Bond is considered to be a loan that can be made to the Israeli State. The State utilizes the loaned money to assist in reinforcing all sections of its contemporary, creative and diverse economy. The bonds are supported by the full credit and faith of the Israel state, which has made interest and capital payments timely and consistenmtly ever since they were first issued. At its conception, Israel bonds only provided one type of instrument. As the program grew successfully, Israel increased the investment options including the Maccabee Issue Bonds, Jubilee Issue Bonds, Floating Rate LIBOR Bonds, eMitzvah Bonds and Mazel Tov Bonds. The rates of most bonds change twice each month. The rates of treasury bonds and spread determine the interest of fixed-rate bonds.  Rates for floating rate bonds are the same as LIBOR[2] rate for half a year in effect on the preliminary determination date, added or subtracted a spread that is fixed all through till maturity.

 

Israel Bonds compared to Non-Israel Bonds

Unlike other foreign nations’ bonds, Israeli government offices based in the United States sell the country’s bonds directly . This arrangement is beneficial because it eliminates brokerage fees. The bonds pay interest and principal in US dollars, thus eliminating the risk of currency fluctuation that affect most international ventures. For these reasons, purchasing Israel bonds is somewhat analogous to a U.S. investor who buys U.S. Treasury securities directly from the Federal Reserve, although the bonds themselves are of course very different.

Even though Israel has never defaulted on its debt obligations, the country’s credit worthiness is lower than that of the U.S. and rates are therefore typically somewhat higher to compensate. Another major factor to consider it that the market price of a U.S. government bond issuance is determined by demand[3] via an auction after the Treasury announces the amount of the bonds that it intends to issue. Treasury executives first declare the coupon rate and then, based on the existing interest rates on the sale day, the bonds sell at a discount or premium to face value[4]. The interest rate stays unchanged, thus those who purchase and keep treasuries relish a set produce to maturity. They are also liquid; a dynamic secondary market for treasuries implies that anyone can sell at any moment although that market will price the bonds in real time and relative to the then-prevailaing interest rate levels and any perceived risk issues.

 

Investors’ attitudes toward Israel Bonds

Although Israel has never failed to pay principal or interest rates on any of its debts, potential buyers are warned of theoretically possible credit risk. Securities issued by sovereign countries utilize debt markets to generate capital to meet costs and venture in infrastructure. This implies that the bonds issued are debt instruments that offer increased payout upon maturity. Essentially, the holder of the bonds is loaning money to the sovereign in trade for high future payback. Therefore, sovereigns use the bond market as tools for the venture and even utilize bonds for debt service, implying that the bonds issued today are meant for paying the corresponding maturing bonds that were sold earlier . Some investors have shown great interest in sovereign bonds by increasingly buying them despite the rise in global national debts, likely because of their liquidity. The fact that several U.S. commercial banks have been willing to lend the full face value of an Israel Bond for further investment in those bonds (which become additional collateral) speaks volumes about the safety of these investments.

 

Israel Equities: An excellent way to directly invest in the Country’s businesses

Investing in Israel equities involve buying shares of private companies[5] anticipating that those companies will grow in value overtime in the form of capital gains and/or through dividends paid periodically to shareholders[6]. Although volatile, equity investing has historically been a better approach for long-term investors seeking growth because the potential for increasing value of the invested principal amount is typically higher than those of investing in bonds.

Another benefit of equity investing is that numerous options are available even for a small initial investment. The evolution of the ETF (Exchange Traded Fund) industry has provided a low cost and tax-efficient way to access investments in diversified grouping of Israeli equities.

Thus, while Israel bonds can fill a valuable role, and are appropriate for some investors, for the vast majority of investors looking for a financial connection with Israel with long term upside, investing in Israel equities has been better approach. Savvy investors understand that equity markets have historically moved up over time, but not all the time – and that volatility has been the price paid for the stellar rewards that they have reaped.

Conclusion: There is no one-size-fits-all approach.  Perhaps the best approach for an investor may be to utilize both Equities and Bonds by determining a holistic asset allocation appropriate for that person’s long-term investment objectives and taking into account factors such as risk tolerance and portfolio time horizon.

 

References
Development Company for Israel Limited. (2018, September 6). State of Israel Bond Issuance Programme. Retrieved from https://www.israelbondsintl.com/lang-pdf/Information-Memorandum%20-%20Sept%202018.PDF
Elo, M., & Riddle, L. (2016). Understanding diaspora investment. In Diaspora business (pp. 13-28). Brill.
Israel Bond Intl. (2020). What is an Israel Bond? Retrieved from https://israelbondsintl.com/
Rambarran, J., & Ramlakhan, P. (2014). Diaspora Bonds and Caribbean Economic Development. In Global Diasporas and Development (pp. 105-120). Springer, New Delhi.
Joshua K. (2014). Investing In Israel: The Impact of Geopolitical Risk. Retrieved from https://bluestarindexes.com/wp-content/uploads/2016/03/Investing-in-Israel-The-Impact-of-Geopolitical-Risk-Sept-2014.pdf (Accessed 2020, September 21)
[1] Bullet bonds are securities which pay no interest during the life of the bond, but rather pays the interest all at once at the maturity date of the bond.
[2] LIBOR is an abbreviation for “London Interbank Origination Rate.”  LIBOR is a short-term, overnight interest rate that large banks charge each other and if used globally as a benchmark for which other interest rates, such as those on Israel Bonds, are set.
[3] Demand includes the bids submitted by large Broker-Dealers; this process is called Direct Bidding.
[4] For example, if the Treasury declares that prior to an auction of 10-Year Treasury Notes that the coupon rate is to be 2%, if yields for comparable existing risk-free bonds is 1.9%, then those Notes will be issued at a Premium.  Similarly, if yields for comparable existing risk-free bonds is 2.1%, then those Notes will be issued at a Discount.
[5] This can include a company in which the Israeli government owns stake, either partially or wholly.
[6] These dividends are usually announced prior to their payments, and are typically constant or grow slowly, over time.  The amount of dividend payments are independent from a company’s stock price.