Report on the Investment of Israel's Foreign Exchange Reserves in 2016
· Israel's foreign exchange reserves totaled $98.4 billion at the end of 2016, an increase of $8 billion over the course of the year. Bank of Israel purchases, totaling $6 billion, were the main factor in the increase.
· At the end of 2016, the level of reserves—the equivalent of about 30 percent of GDP—is within the range of the appropriate level of reserves as set by the Governor, of $70–110 billion (21–34 percent of GDP). As a share of GDP, the reserves increased this year by one percentage point compared with 2015.
· In 2016, the holding rate of return on the reserves was 1.56 percent in terms of the numeraire, which is a basket of currencies—primarily comprised of the dollar and euro. The rate of return is similar to the average return since the global crisis, and greater than the average return over the past three years of 1.16 percent.
· The ability to achieve a relatively high return, despite the negative return on a considerable portion of bonds issued by major European countries, in which about one-third of the reserves are invested, is the result of a long term process, in which the share of reserves invested in risk assets—equities and corporate bonds—was gradually increased.
· In 2016, the reserves portfolio benefited from the continued strong performance of equity markets in the investment countries. Due to the strong markets, active management—the investment’s actual deviation from the numeraire benchmark—contributed 135 basis points this year, the largest contribution in the past decade.
· The percentage of risk assets in the reserves portfolio was increased this year as well: actual investment in equities increased to 10 percent, from 9.2 percent, and actual investment in corporate bonds increased to 4.8 percent, from 4.6 percent. Despite the increased percentage of risk assets, the reserves portfolio’s level of volatility was similar this year to its volatility in the previous year. This was due to a decline of volatility in markets, against the background of excess liquidity in them and due to a negative correlation between the duration premium and the equity premium.
· The maximum permitted allocations in equities and corporate bonds were revised within the framework of the investment policy guidelines, with the goal of increasing the flexibility to manage the portfolio without changing the maximum permitted risk—the maximum permitted investment in equities was increased from 12 to 15 percent, the maximum permitted investment in corporate bonds was increased from 6 to 15 percent, and the maximum combined investment in equities and corporate bonds was constrained to 25 percent of the reserves.