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Stocks and Inflation

Stocks and Inflation

March 31, 2021
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As we continue LPL Research’s Inflation Week, today we will examine how stocks have historically done at different inflation levels. For more color on our views on inflation, look out for tomorrow’s blog, where we’ll examine some of the factors that have kept inflation low and that will likely continue to put a lid on inflation in the future.

Looking at S&P 500 Index returns going back to 1950, stocks have tended to like low inflation. As shown below, the lower inflation is, the better the S&P 500 Index returns tend to be, although the strong performance for negative inflation may be due to markets rebounding off of lows. Taking it a step further, if inflation is trending lower, then stocks do much better (18.8% on average) versus if inflation is trending higher (6.4% on average).

View enlarged chart.

“You can’t argue with history, as it sure appears that inflation that’s under control is a tailwind for stocks,” explained LPL Chief Market Strategist Ryan Detrick. “It is when inflation starts to turn higher that it can knock stocks down. Given our base case is for modest inflation, this is another feather in the cap for the bulls.”

Looking at a scatter plot of inflation and the S&P 500, there is a fairly wide dispersion in some cases, so this is by no means a perfect indicator. Still, the regression line moves from the upper left to the lower right, suggesting lower inflation indeed historically has benefitted stocks more than higher inflation.

View enlarged chart.

The inflation question is one that isn’t going away, especially as the US continues to add more fiscal and monetary stimulus. Although this isn’t a very consensus call, we think inflation will be capped once we get past 2021 and this should help stocks overall.

 

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