24 June 2022
There is a general misconception that high inflation will always mean a fall in stock markets. While not to say this does not happen on numerous occasions, the connection between inflation and stock-market performances is not as straightforward as you might assume. A recent report on the S&P 500 index and the impact of inflation has cast a fascinating light on this subject.
The following table illustrates the top 10 periods of high US annual inflation and the performance of the S&P 500:-
|
Inflation |
S&P 500 |
Real return |
Year |
|
14.4% |
5.2% |
-9.2% |
1947 |
|
13.6% |
31.7% |
18.1% |
1980 |
|
11.3% |
18.5% |
7.2% |
1979 |
|
11.1% |
-25.9% |
-37.0% |
1974 |
|
10.9% |
19.2% |
8.3% |
1942 |
|
10.3% |
-4.7% |
-15.0% |
1981 |
|
9.1% |
37.0% |
27.9% |
1975 |
|
8.5% |
-8.4% |
-16.9% |
1946 |
|
7.9% |
23.7% |
15.8% |
1951 |
|
7.7% |
5.7% |
-2.0% |
1948 |
There are several factors to take into consideration when looking at the above table:-
• Average rate of inflation 10.48%
So, when looking at the ten highest annual inflation rates in recent times, compared to stock market performance, markets have predominately held their own. This will surprise many people who automatically assume high inflation leads to disappointing stock-market performance.
Looking at the above table, in these periods of high inflation, the annual performance of the S&P 500 only slipped into negative territory on three occasions out of 10. However, when you adjust this headline performance to account for inflation, this increases to 5 occasions out of 10 where the market has delivered relative negative performance. Even in a worst-case scenario, not exactly the doom and gloom that many people would have you expect?
While inflation and stock-market performance are two of the most common figures in investment and economic analysis, are we not comparing apples and pears?
Let’s take a look at the figures in more detail to see if we are comparing like for like or two different indicators:-
Since upward pressure on prices builds up over time, taking a while to show through in peak inflation figures, inflation is a historical indicator. While still a valid economic indicator, pressure on household incomes will already have been felt before inflation reaches anywhere near a peak.
The whole concept of the stock market is the ability to buy a share today based on a company's short to medium-term prospects. While many believe stock markets look forward, anything up to 9 months, this is a hot topic of debate. However, what is not disputed is the fact that stock markets look forward while inflation is a historical indicator.
Even in the depths of a high inflation environment, with low economic growth, investors need to look to the future. Market sentiment could quickly turn at the first sign of recovery, and prices respond accordingly. So even though we may be feeling the pain at the moment, which budgets under pressure and inflation out of control, this will not last forever. Whether ever-increasing interest rates are the answer is debatable, but for many central banks, it is a relatively basic economic tool they have come to rely upon.
As long as there is a degree of volatility, short-term/day traders will be faced with numerous potential trading opportunities. While it is essential to appreciate the past performance, inflation and the stock market, it is also important to look ahead. Often trading on relatively small margins, this means that the efficiency of dealing platforms and a competitive charging structure are crucial.
Global Investment Strategy UK is constantly investing in new technology, creating efficiencies and performance gains we can pass on to customers in the shape of a competitive charging structure.
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