Israel shekel slumps despite $45 billion central bank pledge

• Central bank to sell FX, offer dollar liquidity through swaps
• Policymakers are intervening after deadly attack by Hamas

Israel's shekel slumped even after the Bank of Israel said it was prepared to sell tens of billions of dollars in foreign exchange to support the currency after a surprise attack by Hamas militants on Saturday led the government to declare war.

The central bank said it would sell as much as $30 billion and extend up to $15 billion through swap mechanisms as part of an unprecedented program to support markets, according to a statement on Monday. The goal of operating in the market during the coming period is to smooth out volatility in the shekel's exchange rate and provide the necessary liquidity, it said.

The Bank of Israel's extraordinary intervention marks a u-turn from its concern about excessive appreciation and is the first time it's selling foreign exchange to prop up the shekel since it was allowed to trade freely. The move follows the deadliest attack on Israel in decades, with hundreds dead and Prime Minister Benjamin Netanyahu saying the fight against Hamas in the Gaza Strip will be both lengthy and difficult.

Israel's currency slid to a session low despite the intervention, after briefly erasing losses when it was announced. The currency was down 2% to 3.9235 against the dollar as of 1:01pm local time, its weakest since 2016.

The country's benchmark TA-35 stock index rose 0.2% after recouping a loss of as much as 1.3% earlier Monday. The measure plunged 6.5% on Sunday. Stock markets across the Middle East fell amid concerns the war might escalate into a broader conflict, with Dubai's benchmark gauge losing 2.9%.

"In circumstances like this, maintaining stability is more important than levels," said Geoffrey Yu, a currency and macro strategist at BNY Mellon in London. "In the short term, there will be some volatility in markets, but we expect this to be manageable. The liquidity support is expected and the Bank of Israel is very much experienced in such matters."

Policymakers have resisted supporting the shekel even as investor concerns surrounding the government's controversial efforts to weaken the power of the judiciary weighed on the currency for months. The shekel is one of the biggest losers this year among a basket of 31 major currencies tracked by Bloomberg.

Israel's central bank is likely to raise interest rates further and could reintroduce bond buying to support the shekel and financial markets as fighting continued for a third day, according to Deutsche Bank AG.

While geopolitical tensions had only a minimal impact on the currency in the past, this time, "pressure on the shekel seems unavoidable," Deutsche Bank strategists led by Christian Wietoska said in a note.

A program of currency interventions begun more than a decade ago by then-Governor Stanley Fischer to stem the surging shekel helped the central bank amass reserves that now surpass a third of gross domestic product. They stood at nearly $203 billion at the end of August.

Monday's move is the first intervention by the central bank in about two years. US President Joe Biden has also pledged "rock solid" US support for Israel.

"Given the scale of reserves and US support, I would expect pretty minimal impact on rates and the currency move not to extend much beyond current levels, certainly not at speed" said Paul McNamara, a London-based fund manager at GAM UK.

The war has also unnerved bond investors on Monday. The price of Israel's 100-year debt due in the year 2120 fell 4.7 cents to 64.9 cents on the dollar, the lowest since since it was sold in 2020.

The cost to insure the nation's debt against default jumped 25 basis points to 84, the most since 2009.