Correlation of stock/bond performance vs. inflation
Source: Bureau of Economic Analysis, Bloomberg Finance, L.P. and FS Investments, as of April 30, 2022.
- Equity and fixed income markets both fell this week, driven by a notable jump in rates across the yield curve as the Fed hiked rates 75 bps. Fed Chair Powell’s accompanying commentary also prepared investors for what will most likely be a longer battle with inflation than policymakers may have anticipated just one week ago, before the latest upside inflation surprise.
- Year to date, stocks have fallen -22.5% while core fixed income is down -11.5%, marking the worst-ever start to the year (as we approach the midway point) for the traditional 60/40 portfolio.1
- As the highly correlated decline across both markets has shown, not only does inflation impact stock and bond returns, but also the relationship between the two. In fact, the correlation between stocks and bonds has been positive more than negative over time, as the chart shows.2 Yet, it has jumped when inflation (black line) has been elevated and declined when inflation was largely contained, as was true for much of the past decade.
- If history is any guide, returns across stocks and bonds may remain highly correlated through the coming quarters as Fed and private economists alike keep their inflation forecasts elevated for the balance of 2022.
- As inflation continues to target the 60/40 portfolio, investors would be wise in adding alternative and lower-correlated investments that have the potential to generate real returns amid a higher inflationary environment to their portfolios.
