The Investment Scientist

Archive for May 2021

Last week, I wrote an article on inflation and stock returns. This week I will continue the theme but study it from a different angle. 

Specifically, last April the inflation rate was 0.3%, but this April it was 4.2%. In one year’s time, the inflation rate has gone up nearly 4%, what does that portend for the stock market? Again, Taro helped me run the numbers and we came up with this scatter plot relating inflation changes to stock returns. Please look at it and see if you can draw some inferences yourself.

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Since I started investment management fifteen years ago, I can’t recall a time when the risk of inflation is as pronounced as it is today. Since the onset of the pandemic, the Fed has created $5 trillion worth of money. Now, as the economy is reopening, the torrent of money is gushing into circulation, lifting inflation to 4.16% in April alone and possibly higher down the road. How the market behaves is our study today. 

I asked Taro to look up Bob Shiller’s dataset and Kenneth French’s dataset and run a correlation analysis of stock returns vs inflation. Here is the result in a chart along with my observations. 

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Author

Michael Zhuang is principal of MZ Capital, a fee-only independent advisory firm based in Washington, DC.

Twitter: @mzhuang

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