Global index provider MSCI is considering reassigning Israel to a new region, likely Europe, which would open the door to large amounts of passive inflows for the Israeli capital markets.
MSCI, which provides equity, fixed income, and hedge fund indexes, upgraded Israel from an emerging to developed market in 2010. However, it is the only country in the Middle East in that category, making it easier for investors to miss, according to analysts.
MSCI is now seeking market feedback on whether investors prefer Israel in a different regional classification rather than the Middle East.
Israel's securities regulator cited MSCI as saying it was focusing on a reassignment for Israel to Europe, which would expose the capital market to billions of dollars of possible new investment.
"The MSCI Israel Index has more economic exposure to Europe than to the Pacific and Middle East regions," MSCI said, noting that the most exposure still comes from North America.
Nothing is certain, though, since Israel is the only market classified as Middle Eastern in the MSCI World Index after a similar survey of international institutional investors in 2012. MSCI said a decision will be announced on or before Feb. 28.
MSCI said it also found that the "3-year pairwise rolling correlations" of weekly index returns show a higher absolute correlation between the Israeli index with the World, Europe, and Pacific indexes than it does with the index for Gulf countries.
Israel lost large emerging market passive investments with its upgrade to a developed one more than a decade ago, when it went from more than 3% in the emerging market index to less than 0.5% of the developed ones, and daily trade volumes in Tel Aviv have still not fully recovered.
Israel had thought it would reap billions of dollars after being upgraded and has lobbied for years to move out of Europe and the Middle East Index to just Europe.
"The problem was that Israel became a very small fish in a much bigger pond" and portfolio managers largely opted to not add Israeli stocks, said Neil Corney, country chief of Citi Israel.
Another issue that has stood in the way of Israel joining the Europe index is its Sunday-Thursday trading week, analysts said.
Corney said that should the Israel index be reassigned to Europe, which it is closer to in terms of culture, per capita GDP, and budget deficit, "it's likely to increase the amount of investment from offshore."
Bank Leumi Chief Economist Gil Bufman noted that any further foreign inflows could further strengthen the shekel, which is already at a 26-year high versus the dollar partly because of inflows to Israel's tech sector.
The Israel Securities Authority said it has been working for two years with MSCI, trying to shore up Israel's position among foreign investors.