Chart of the Week: Inflation Rates and Stock Prices

Chart of the Week: Inflation Rates and Stock Prices

The recent report that headline inflation fell to 8.5% in July from 9.1% in June had tongues wagging about the U.S. economy having passed through “peak inflation.”

Yet even if inflation has peaked, it is likely to remain elevated for months to come. From an investment perspective, though, what’s important isn’t the level of inflation but its direction—is it increasing or decreasing?

Starting with the S&P 500 index’s 1957 inception, we can put each calendar year into one of two piles—years of rising and years of falling inflation—based on the change in the consumer price index from January through December.

As you can see in the chart, stocks performed three times better, up 13.0% on average, in years of falling inflation versus a 4.3% average in years when inflation rose.

Of course, there are no guarantees when it comes to the stock market. It’s also possible that inflation has simply taken a breather and didn’t peak in June. But should inflation trend lower over the next year or so, and if history holds true, investors could feel a tailwind for stock market gains.

Note: Chart shows the average calendar-year price return for the S&P 500 index during years when the consumer price index rose or fell year-over-year from 1957 through 2021. Sources: S&P Dow Indices, U.S. Bureau of Labor Statistics, Adviser.

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