Market Reaction: November 29, 2021
The identification of a new COVID variant ("Omicron") with a large number of spike protein mutations drove world financial markets sharply lower on Friday. It will take several weeks to understand the virulence, transmissibility and immunity-escaping profile of the variant.
In our view, Omicron may become a serious public health issue, slowing the pace of economic recovery and reopening, but may fail to materially change the existing global health landscape. As of this past weekend, our discussions with epidemiological experts suggest the former is more likely.
Markets moved rapidly, assuming Omicron represents a variant that could displace Delta as the dominant strain. Experts see a strong probability that current vaccines and boosters will prove less effective, but not wholly ineffective, in preventing infection. Treatments appear more likely to be effective in preventing hospitalizations and testing for the variant is already working well.
Over the course of the pandemic, economic activity has become less and less sensitive to each new wave of COVID, including Delta. While we assume this underlying will hold, the most sensitive of activities - particularly international travel - seem sure to be setback meaningfully.
With greater international coordination, industry experience and government preparation, a significant new variant is highly unlikely to send the world economy into a new recession, but it will slow the path of recovery and extend supply shortages.
Prior to Omicron's arrival, markets were repricing a transition in monetary policy to fight inflation unleashed by macro stimulus, supply disruptions and shortages of goods. Omicron will now slow this repricing. To an unknown extent, the period of negative real interest rates will be extended if a new wave of infections occurs.
The winter spread of the Delta variant in Europe and the US even before Omicron's arrival seemed underpriced in markets. As such, "reopening trades" were particularly hard hit on Friday with Global airlines falling 7.0% and crude oil posting a 12.8% daily decline, the largest drop since April 2020.
The Citi "leave your home" basket fell 3.9% Friday while the "stay at home" basket fell 0.5%. For comparison, during the global spread of the Delta variant, the relative performance of "leave your home" dropped 17% from mid-May to mid-July.
With so little knowledge of Omicron, setting market expectations for its future impact is, by nature, speculative. The sharp reaction Friday and a pattern of "diminishing shock value" may imply that half of the impact of a full new pandemic wave has already been priced in.