What was supposed to be a quiet post-Thanksgiving Friday has turned into a heavy sell-off day in equities as the US markets react to the spread of a new Covid-19 variant in South Africa and Botswana.
To date, relatively little is known about the variant scientifically known as B.1.1.529. It was originally identified in Botswana and has rapidly spread with fewer than 100 cases identified so far.
South African Health Minister Joe Phaahla said the variant is "of serious concern” and Maria Van Kerkhove, infectious disease epidemiologist for the World Health Organization, said the variant is highly mutated, which can have an impact on how the virus behaves.
“A lot of eyes will be on how severe it is and whether it completely evades vaccines,” Jim Reid, Deutsche Bank’s head of global fundamental credit strategy, wrote in a report this morning that was sent to Capital.com. “At this stage very little is known… Suffice to say at this stage no one in markets will have any idea which way this will go.”
The emergence of the variant is causing a big flight to safety, which is to say money is moving out of equities and into the perceived safety of US Treasury bills.
The yield on the benchmark 10-year Treasury note rallied 13 basis points lower on Friday to 1.51% from 1.64% on Wednesday (there was no trading on Thursday for the Thanksgiving holiday). Yields fall when prices rise.
Equities were cleaved at the open. The Dow Jones Industrial Average fell to an intraday low of 34,805.88, down 998 points from the previous close. The S&P 500 shed as much as 2.2% and the Nasdaq dropped as much as 1.9%.
The so-called “fear index”, the CBOE Volatility Index, briefly jumped more than 50% to 28.02.
Due to a correlation between lower rates and long-duration equities the Nasdaq could perform slightly better than the other indices today, according to a note sent to Capital.com from Andrew Brenner, head of international fixed income at National Alliance Securities.
Spot crude oil fell more than 10% to drop below $70 per barrel.
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Prior to Friday, momentum had clearly swung in favour of the hawks who were calling for the Federal Reserve to accelerate its reduction of asset purchases and increase interest rates sooner in order to combat rising inflation.
Indeed, earlier in the week Goldman Sachs predicted the Fed will reduce its purchases by $30bn per month from its current pace of $15bn per month. Goldman also raised its expectations for 0.25% rate increases to three next year from a range of one to two with lift-off from near zero expected in June.
However, the new Covid-19 variant is causing some reversal of that sentiment. For example, the thought of masking, more distancing and bans of public gatherings is hurting consumer confidence across Europe, according to Jennifer Lee, a senior economist with BMO. Austria started its 10-day lockdown on Monday, Slovakia is embarking on a two-week lockdown, and the Netherlands' is in the midst of a partial three-week lockdown.
These lockdowns and the spread of a new variant could cause central banks around the world to keep their accommodative interest rate and asset purchase policies in place for longer, yet some remain more concerned about rising inflation.
“Our view is that inflation is still a bigger problem for markets than Covid,” Ronald Quigley, head of fixed income syndicate at Mischler Financial Group, wrote in a note this morning sent to Capital.com. “We said at the beginning of the week, the battle is between Covid versus Inflation, and while Covid clearly won the battle fears this morning, we still believe that Inflation is paramount, and the Fed will have to address this aggressively.”