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By Christian A. DeHaemer

Over the past twenty years, the up-and-coming Israeli stock market has taken on the world and come out winning.

In a country of only 7.7 million people, Israel's Tel Aviv Stock Exchange has managed to include over 622 companies, and Israel has the most foreign stocks listed in New York. Not too shabby.

For the five years prior to the global slump of 2008, Israel managed to grow GDP 5% annually. And, due to years of prudent fiscal policy and a resilient banking sector, the economy has rebounded quickly.

Following GDP growth of 4% in 2008, Israel's GDP contracted 0.3% in 2009; however, The Economist expects GDP to expand by 3.7% with unemployment under 7%.

This growth rate is better than that of other countries in the Organization for Economic Cooperation and Development (OECD), which Israel was recently invited to join.

And yet with the constant threat of a nuclear Iran, and Hamas doing what they do, most people wouldn’t think of Israel as a good investment.

These people would be wrong.

The Tel Aviv 25 index hit an all-time high last month of 1,237.85 points, pushed by strong economic growth. The index has since pulled back to 1,162 with the global decline in stocks.

Massive Opportunity in Emerging Markets

Companies like Teva are the reason you want to invest in Israel and other emerging markets.

I discovered Teva Pharmaceutical (NASDAQ: TEVA) about 12 years ago, when it was trading around $2 a share:


TEVA

It now trades at $55 and is a $50 billion company.

In fact Israeli companies are all over the place...

I was at the air show at Andrew's Air Force Base in D.C. this past weekend. The announcer was touting a special new helmet that allows a helicopter pilot to aim his chain gun just by looking at a target; a device inside his helmet aims the gun by scanning the pilot's eyes.

Despite the hype from the announcer, this technology is not new — and it’s not even American...

It hails from Elbit Systems (NASDAQ: ESLT), one of the world’s largest defense system companies and another Israeli stock that went from $1.50 to $40 before pulling back a bit recently.

Gap Trade on MSCI Rerating

In spite of violent altercations with its neighbors and seemingly intractable politics, Israel has managed to turn itself from a largely agricultural economy into the high-tech economy we're witnessing today.

The country's two major exports are technology and cut diamonds.

These gains have led to a rerating by MSCI World Index. The MSCI is used as a benchmark for the top global stocks; estimated assets benchmarked to MSCI indices have grown to over U.S. $3 trillion over the past 35 years.

I point this out to emphasize the significance that as of May 26 — one week from today — the MSCI Israel Index will be included in the MSCI World Index (which includes most developed markets), as well as in the MSCI EAFE Index (which includes only Europe, Australasia and the Far East).

Until now, Israel has been classed in MSCI's emerging sector. Israel's emerging market status has meant that it constituted 2.8% of the Emerging Markets index and 13% of the MSCI EMEMEA index, which includes emerging markets in Europe, the Middle East, and Africa.

According to Merrill Lynch:

Israel is expected to garner close to 0.4 percent of the World Index. It is estimated that Israel would rank 18th of the 24 developed market countries and have similar weightings to Denmark and Belgium, but higher than Portugal, Ireland, Greece, New Zealand and Norway.

The Money Switch

This means that right now, those managers who run emerging market funds must dump their Israeli stocks... but those that run developed market funds must wait until May 26 to buy.

A Citigroup report said "$2.8 billion in passive outflows were expected from Israeli stocks with the change — but eventually would be more than offset by inflows of $3.6 billion."

Due to the recent sell-off, this provides a sweet buying opportunity...

These new inflows of cash will go to the big blue chip stocks: companies like Teva Pharmaceutical Industries (NASDAQ: TEVA), Israel Chemicals (OTCPK:ISCHY), Bezeq Israel Telecom (OTCPK:BZQIF), and the largest banks, Leumi (OTC:BLMIF) and Hapoalim (OTCPK:BKHYY).

Source: Israeli Stocks Upgraded from 'Emerging' to 'Developed'