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Inflation vs. stock market returns

by Sylvain Lapointe
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Canada’s inflation rate has accelerated to its highest level in a decade. In October 2020, it remained at 4.7% for the year. We can see this with food and gas prices. This inflation rate is the highest since February 2003, almost 20 years ago.[1] However, the US remains higher with a level never reached in nearly 40 years.[2] Still, we must be careful when calculating and interpreting this difference because the variables differ. For example, our neighbour includes the price of used cars in their calculations, while Canada does not.  

This reality got me thinking about rising inflation’s influence on stock market performance. In an article in La Presse on August 19, 2021, Charles Emond, President and CEO of the Caisse de dépôt et placement, said:

“We have a strong economy and rising inflation. And yet, central banks are keeping interest rates very low. This has a lot of consequences for the portfolio. It persuades a lot of people want to become shareholders rather than creditors. That stimulates the stock market.”

Other articles, however, mention that if this level of inflation persists, it could have a negative impact on the stock market. But what is its real impact on the stock market?

Let’s analyze the annual US inflation rate from 1928-2020.

Inflation S&P500

Source : https://awealthofcommonsense.com/2021/10/inflation-vs-stock-market-returns/

There does not seem to be a clear correlation between the two figures. This disconnection is probably because the stock market is supposed to be forward-looking. In contrast, inflation is calculated based largely on past data. So even if we lag the numbers to account for this discrepancy, there appears to be no clear relationship.

In fact, even when inflation was higher than today, the stock market has shown good strength.

Here is a table ranking the highest calendar annual inflation rates with corresponding stock market returns

The average S&P500 return from 1947-1976 was 9.4%, which is about the index long-term average return for over 90 years. Eight of these 17 years offered double-digit returns, and almost a third of the returns were above 20% when inflation was at its peak.

Of course, the real return is lower after considering inflation, but this is not a total disaster for stock markets during sustained inflationary periods.

When you think about it, it makes sense that companies do not absorb all the price increases, and much of the extra cost is passed on to consumers. Isn’t that the very definition of inflation?

So while the costs of doing business are rising, the profits are too. Amazingly, some of the highest earnings growth occurred in the 1940s and 1970s. It occurred that these decades had some of the highest inflation rates in history.

I won’t pretend to know what will happen regarding future price levels. Your guess is as good as mine! However, we do know that if inflation continues at these levels for a long time, the stock market will not necessarily suffer.


[1] L’inflation poursuit son ascension — LaPresse — 17 November 2021

[1] L’inflation au plus haut depuis 39 ans — Agence France-Presse — 11 December 2021




The information contained in this article were prepared by Sylvain Lapointe, an Investment Advisor attached to: PEAK Securities Inc.; they were obtained from sources we believe to be reliable but are not certified and may be incomplete. The author is not responsible for readers’ financial decisions following this reading. The views expressed here do not necessarily reflect PEAK Securities Inc. PEAK Securities Inc. is a member of the Canadian Investor Protection Fund.

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