The fact that the Israeli market has held up quite strongly in the face of this war points to an impressive maturity among investors The Israeli-Hizbullah war has been at the forefront of the news for the last three weeks. The potential that this flare-up may spread across the whole Middle East has investors throughout the world worried. The fact that the Israeli market has held up quite strongly in the face of this war points to an impressive maturity that has taken place among Israeli investors over the last five years.

Let’s turn back the clock. It’s the winter of 2001-2002: the threat of Israel being pulled into a regional war with Iraq is very real. The global economy is reeling with the bursting of the high-tech bubble, followed by the terrorist attack against the United States on 9/11, and the declaration that the United States is at war with Al-Qaeda; domestic economic growth is at a standstill; Israelis are sending money abroad in droves; the shekel goes into a freefall versus the U.S. dollar, dropping by 15% in a matter of weeks; interest rates on short-term Israeli government bonds go over 11%; the Tel-Aviv stock exchange (TASE) drops by more than 50%, and pundits are predicting that Israel is in real danger of becoming the next Argentina.

Fast forward to May 2006: Israel’s 2005 GDP growth was the highest in the western world at 5.2%, and 2006 GDP growth is estimated at 4%. Unemployment has been falling; the shekel has been very stable. Taxes continue to fall. Warren Buffet makes his largest international investment ever when he buys Iscar, the world?s leading innovator of metal cutting tools and techniques for machining, for $4 billion. As a result, the TASE is trading at an all-time high.

Only two months later and Israel has been thrust into a war against the terror organization Hizbullah. What is very interesting to note is the maturity of the Israeli economy and financial markets during this current crisis. After an initial two-day drop, the shekel has since returned to its pre-war levels. While the immediate stock market reaction during the first two days of the war was a 10% drop on the TASE, the market subsequently moved up, meaning that the TASE has in fact only dropped by 5% since the start of the war. The market looks as if it will weather this storm. This is certainly something that would have been unimaginable five years ago.

The question is how much of an impact these current events will ultimately have on the Israeli economy. The Fitch Credit rating agency says that it expects Israel’s 2006 GDP growth to be over 4%, which correlates to a consensus among Israeli economists expecting only a slight decline in GDP of roughly 2 to 4 basis points, due to these events. Fitch also said that the Israeli economy is stable, and strong enough to make it through a war.

Up until the beginning of this war, Israel was one of the world’s hottest investment destinations. In addition to Buffet, global stalwarts such as Johnson and Johnson, Intel, ebay, Kodak, Cisco, Alcatel, Broadcom, Microsoft, BMC Software, Verifone and PMC Sierra all bought Israeli companies in the last year.

The war certainly hasn’t affected Israeli ingenuity. Historically, times of war produce new cutting-edge technology, which, over the course of a few years, finds its way down to civilian applications. If you look around at the products you use on a daily basis, you will find embedded in them key Israeli intellectual property. From voice mail to instant messaging to the firewall that sits on your computer, the technological revolution of the past decades is, and continues to be, powered by Israeli technology. None of this has changed as a result of the war. In fact Hewlett-Packard last week announced it was buying Mercury Interactive for $4.5 billion, in the biggest Israeli deal ever.

The investment firm CIBC wrote to investors that Israeli companies trading in New York were already trading at historically low multiples, even before the events in Lebanon began. Keep in mind that almost all of the US-traded Israeli stocks do most of their business outside Israel, and are not being impacted by the war. After their recent fall, they have become even cheaper making for an even more compelling long-term investment.