Folks-
All we hear about now a days is INFLATION! I am personally not seeing a lot of good input on the relation between inflation and stocks! I wanted to find out first hand how the stocks may perform when CPI gets this high, that is to say current range of 8-9%.
Note this analysis is only valid for these periods where the inflation while very high, is still manageable in the sense it is not hyper inflation. In hyper inflationary times the purchasing power of the currency can get cut in half every few months. Those times indeed tend to be extremely bullish for the stocks as the stocks make new highs while the currency makes new lows every day pretty much - look at Zimbabwe and Argentina for example in recent memory.
To do this analysis, the only comparable period I found in recent memory in the US was that of 1970 to 1980.
Many of us were not born then, so I had to go back look up inflation data as well as the S&P500 price performance amongst which markets did better compared to the S&P500. For S&P500 prices, I selected the monthly close prices but it suffices to say it represents the range of price quite well.
What was inflation like in the 1970s?
Here in figure A you can see the inflation between 1970 and 1980 for most part ranged between 5% and almost 15% with 5 % rather being the low end of it. So very high, persistent inflation with brief periods of respite.
How did S&P500 do during this same period?
Well, it did not do much.
See Chart B with the S&P500 go no where for 10 years as it opened and closed around 100 dollars . In fact the return was around -10%. DOW JONES opened AND closed at 800! Nothing to show for 10 years!
The only solace I take in this is that it was 100 then and it is almost 4000 now! So for any one with sufficiently long time frame, it may still work out if they HODL long enough. 0DTE? Tough luck guys :)
Looking at high inflation and the S&P500
They seem to have an inverse releationship. Persistent High inflation = problem for S&P500. Chart C below. Left (Blue) is S&P500 . Right (Orange) axis is inflation rate.
What will have done better under this period?
Both real estate and energy stocks like the oil stocks did very well.
Oil returned around 80% and REITS returned around 20% in this same period when S&P500 shed about 20%. Land and real estate were huge winners.
What else did good?
Gold and silver had tremendous runs in this decade rising about 10X. Gold was about 30 dollars to the ounce at start of the 1970 and it closed the decade at about 400.
Commodities like grain, wheat, corn and livestock did very well. So anything really physical, hard assets outperformed other assets during this decade.
Energy , grains and RE already have had great returns this one year. Gold and Silver seems to be the only laggards.
Are we really in the 1970s, 50 years later in 2020s?
It depends but there are definitely some parallels.
Like today we had very high inflation. Like today we had very high debt. However unlike today we also had higher unemployment. You could argue that this could catch up as the time goes and that may be a fair point.
Also consider what finally turned the tide on high inflation?
Well at the start of 1979, Chinese markets opened up to the world and China started exporting deflation and it started gnawing at the high US inflation. At start of this decade, 40 years later I see that trend now reverses. China is shutting down - involuntary or by design remains to be seen but they are actually now exporting inflation rather than deflation in form of curbed supply chains.
When you look at the oil, you see parallels to 1970. CAPEX has been limited in the oil, renewable energy is just NOT there yet to meet the demand and add to the mix an unfriendly regime to the fossil fuels- this is perfect recipe for sustained energy costs for time to come.
My conclusion:
Based on these factors and historic parallels, I think unless the inflation were to come down significantly this may very well be a lost decade for the S&P500 and its high flying growth stocks and mega caps which all happen to be growth names.
When did this tide turn?
S&P500 started picking up after 1980 when inflation started coming back below 5%. See chart D below. 1980 in fact was a great bull market in the S&P500, probably made possible by that collapse in inflation below 5%.
I was my self curious about this topic and wanted to do a deeper dive into previous high inflationary times using correlated markets. This is my personal journal and research which I am happy to share. This is not a recommendation or advice to do any thing. This is certainly not a call to the 0DTE gang to load up on the puts :)
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Real Estate is the conundrum to me.
From 1970-1980 the average sale prices of homes sold went from 23,900 to 66,400 (+177%). No other decade comes close.
In comparison, prior to the great recession the average home sale price rose from 169,800 in Q1 2001 to 257,400 Q1 2007 (+51.5%)
In the current market if you want to use Pre-COVID prices as the starting point. The average home sale price from Q2 2020 was 322,600 now it's 428,000 (+32.8). I think we see this number around 40% before things adjust.
Why did RE do so well in the 1970's when rates were double digit for the most part?
Lived through the 70-80 inflation. I wished I put all in 30 year treasury at 10%.
Wondering, if the smae inflation is currently experienced by other G7, G20 countries? They should be because all relied on Globalization AKA cheap labor to profit. It was win win for all many countires GDP went up and stock markets too. Maybe there is still juice left to be squeezed -- southeast asia, south asia and africa where G20s corporation can still grow buy using the available cheap labor.