Stocks Can Surmount a Return of Inflation

25 March 2021

2 min read

Walt Czaicki, CFA | Senior Investment Strategist—Equities

David Wong| Senior Investment Strategist and Global Co-Head—Equity Business Development; Co-Chair—Responsible Investing Steering Committee, Asia-Pacific

Moderate Inflation Has Not Curbed US Stock Gains in the Past

Past performance and current analysis do not guarantee future results.
As of December 31, 2020
Source: Federal Reserve Bank of St. Louis, S&P and AllianceBernstein (AB)

As US inflation expectations grow, many investors are concerned about the potential impact on stocks. Our research shows that US equities have delivered solid returns during periods of moderate inflation for more than seven decades.

Inflation hasn’t been on investors’ radar screens for a long time. But today, with a massive $1.9 trillion US stimulus program under way—and an infrastructure plan of $2 trillion under consideration— inflation is a real possibility.

US Stocks Performed Well in Modest Inflationary Periods

Is inflation bad for stocks? Not necessarily. Since 1948, when inflation was within a 2%–4% range, US stocks posted quarterly returns of 2.7% on average, according to our research (Display). During the same period, inflation was within the 2%–4% range for 108 quarters. Our economists expect US inflation to reach 2.1% by the end of 2021 and to trend sideways thereafter.

Higher inflation can be a problem for equity returns, which fell to 1.0% on average when inflation exceeded 4%. Yet even with inflationary pressures building, that kind of dip in returns isn’t likely in the near future. Indeed, according to the Federal Reserve Bank of St. Louis, five-year forward inflation expectations reached 2.1% in late March, up from about 1.3% a year ago. While stocks performed better during periods of negative inflation, these performance patterns were skewed upwards by extraordinary early-stage recoveries from recession in the late 1940s and early 2009.

Consider Prudent Portfolio Adjustments

That doesn’t mean investors should be complacent. Rising inflation can erode the value of real investment returns and prompt an increase in interest rates. And rising rates boost the discount rate used to value stocks, which tends to reduce valuation multiples, particularly for growth stocks. But modest inflation can also help companies increase nominal earnings growth, which can offset a potential compression of stock multiples.

So, investors should check allocations within and across asset classes for inflation sensitivity. Different securities respond differently to inflation, both within equities and across asset classes. Consider expanding an allocation to value stocks that generally perform better when interest rates rise. Ensure that growth holdings have advantages such as pricing power, which could help support returns if multiples come under pressure. Making prudent adjustments to an allocation can help position portfolios for a changing environment. But, based on historical performance trends, there’s no need to fear that stocks are inherently vulnerable to a return of moderate inflation.

The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AB portfolio-management teams. Views are subject to revision over time.

About the Authors

Walt Czaicki, CFA

Walt Czaicki serves as a Senior Vice President and Senior Investment Strategist for Equities at AB. He rejoined the firm in 2015 and has been in the investment-management industry since 1986. Czaicki's roles have ranged from a fundamental equity research analyst and portfolio manager to chief investment officer. Prior to rejoining AB, he worked on the buy side for a Regions Financial predecessor organization, as well as at Commerce Trust Company and Bank of America. Czaicki holds a BSBA in finance and an MBA, both from Saint Louis University. He is a CFA charterholder. Location: Dallas

David Wong

David Wong is a Senior Vice President, Senior Investment Strategist and Global Co-Head of Equity Business Development, and Co-Chair of AB’s Responsible Investing Steering Committee in Asia-Pacific. He joined AB in 2015, bringing two decades of experience in global equity markets to the firm. Prior to joining AB, Wong was a partner at Janchor Partners, a Hong Kong–based long/short equity hedge fund with US$2 billion in assets under management (AUM). Before that, he set up the Hong Kong office for GMT Capital, an Atlanta-based long/short equity hedge fund with $5 billion in AUM, where he served as portfolio manager and head of Asian investments. Over Wong’s eight years at the two hedge funds, he was responsible for global investments in technology stocks and served as a generalist portfolio manager for the Asia-Pacific region, including Japan. He was also the founder and managing director of Mobile Adventures, a pan-Asian wireless content company. Wong started his career as an equity research analyst at Bankers Trust and Deutsche Bank; at Deutsche, he managed a team of five associates as the firm’s regional semiconductor analyst. He holds a BA in political science from Yale University. Location: Hong Kong

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