Stock Prices versus Implied Inflation

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Posted on 5 January 2012 by David Merkel

Eddy Elfenbein wrote a good post recently on the stock market versus inflation expectations.? When I read it, I said to myself, “Wait, is the relationship between nominal and real rates really 1:1, or is it more complex?”? Though it is not certain, the regressions that I ran indicated that 1:1 was not falsified by the data.? The regression:

Inflation expectations determined the much of the value of the S&P 500 for the last nine years.

And you can see the relationship here as well:

The short answer is “yes, inflation expectations have driven stock valuations for the last nine years.”

I’ve been spending time on issues like this for a variety of reasons, and I’ll try to explain them in the near term, but that’s all for now.

9 thoughts on “Stock Prices versus Implied Inflation”

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cold.as.ice says:

5 January 2012 at 12:54 pm

Since we are well above the line at “you are here” perhaps this is another way to see oversold?
1. David Merkel says:
  
  5 January 2012 at 6:06 pm
  
  Overbought, but I’m not sure how much confidence I would put into this as a timing tool — what the right timeframe would be for gauging periods of reversion or momentum.
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Lucas says:

10 January 2012 at 8:55 am

How does a value investor do “permanent asset allocation” differently then others? Would a value philosophy simply pick the stock portion differently?
1. Lucas says:
  
  10 January 2012 at 8:57 am
  
  This comment was supposed to be in the permanent asset allocation blog.

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