Stocks extend relief rally as Omicron fears ease

Risk assets are taking comfort from subsiding fears surrounding the Omicron variant, with stock markets extending this week’s relief rally. Asian indices are mostly in the green while US futures point to another day of gains, with the S&P 500 just 0.38% away from its record high. The benchmark US dollar index is easing slightly, while the VIX index is moving back closer to 20, the average reading for this year.

Omicron risks could pull rug from under relief rally

Of course, these are still early days and attempts to restore global equities to record highs could be on shaky ground. Recent gains are not yet fully assured as markets run the risk of being too complacent over the downside risks stemming from this latest variant, without yet knowing the true extent of Omicron’s potential impact on the global economy.

After all, Covid cases are still surging in major economies from Germany to South Korea. Also, an initial study out of South Africa showed that those vaccinated with Pfizer’s doses show a 40-fold drop in produced antibodies against the Omicron variant.

While investors can take heart from the fact that this isn’t the world’s first attempt in stemming Covid-19’s spread, one cannot rule out more abrupt selloffs from risk assets, especially if ongoing vaccination efforts and other virus-curbing measures are found wanting against Omicron or future variants. Even as optimism abounds for the time being, some measure of caution remains warranted.

Inflation and Fed policy remain major themes in 2022 outlook

Besides ongoing pandemic-related developments, global investors still have multiple risks to contend with going into the new year, including surging inflation that could lead to more aggressive policy tightening by major central banks. Such concerns will frame this Friday’s release of the US consumer price index.

Stubbornly elevated price pressures would justify Fed Chair Jerome Powell’s hawkish pivot last week and could pave the way for accelerated tapering by the Fed, a decision which could arrive at next week’s FOMC meeting. In the event that markets raise their expectations for US rate hikes in 2022, that could spell even more gains for the greenback, perhaps to the chagrin of commodities and the rest of the FX complex.