Omicron: a lot of unanswered questions for financial markets

Omicron has changed the story for financial markets, and all of the sudden it seems all previous risks are out the window. As if transported back to some of the dark days of 2020, the overarching mood in the markets is being shaped by the risk of the pandemic, further lockdowns and weaker economic growth. The response in price action of course has been predictable: totally risk-off, with stocks down steeply, led by cyclicals and any sector exposed to travel and lockdowns; bond prices surging as inflation and rate tightening expectations become unwound, with the US 10 year yield down 16 points; commodity prices plunging, with the expected hit to growth seeing crude tumble by as much as 13%; and funding currencies like the Yen and Siss Franc rallying and commodity currencies falling, as yields dropped and carries trades were unwound.

How is Omicron impacting financial markets?

Markets are pricing in an uncertain few weeks now, as the slow process of searching for answers about Omicron plays out. The US VIX is back at 27 or so, in a clear indication that risk remains to the downside for equities, and that we might be set for a lot of big intraday and day to day swings in the markets. The crux of the issues of course is whether Omicron will lead to the sort of lockdowns, disruptions and weaker economic activity that plagued the globe at the outset of the pandemic, and before vaccines became our ticket to freedom. Just a few of the questions that need to be answered: How infectious is Omicron? Is it resistant to the vaccine? Does it cause more severe illness? How far has it already spread? The answers, medical experts are saying, won’t be known for a few weeks. So while those question remain unanswered, the markets could be an anxious and volatile place.

Is this going to be March 2020 all over again?

To be fair, there are a few voices out there suggesting moderation is required in approaching this situation, and that maybe things aren’t as dire as they seem. For one, mutations of the virus have to be expected as time goes by. There’s also some early evidence that although perhaps more infectious, Omicron leads to milder outcomes, which in a way could actually be a positive development in the pandemic. From a market technicals point of view, it’s likely Friday’s very bearish price action was exacerbated by thinner liquidity due to the US Thanksgiving Day holiday, meaning that maybe the sell-off isn’t exactly reflective of the actual extent of the risk Omicron poses. At that, there’s the chance this revaluing in markets is a largely one and done situation, whereby markets efficiently discount a meaningful but marginal change in the outlook, and then move on.

Naturally, only time will tell how it all plays-out. Most probably, there’ll be at least a few days of heightened volatility as markets continue to digest the situation, and begin to move headline to headline to play in shift in sentiment that may occur from good or bad news.