Stock market returns & Inflation Rates

Inflation and its effects

The inflation rates recently released for October 2021 were higher than economists predicted and many in the financial media have predicted that the Federal Reserve may raise interest rates by mid-2022 now. Many analysts and market commentators are also saying that as interest rates rise, consumer spending will decrease and that will lead to lower earnings and ultimately lower stock prices. On the surface, it seems like a plausible conclusion, but do the assumptions in these statements hold up when we use history as a guide and look back at the last 50 years.

Using history as a guide

The following charts look closer at the past 50 years of inflation data, stock market returns and rising Federal Funds rates (the interest rate set by the Federal Reserve).

On all the charts below, the red line is the rate of consumer inflation, the blue line is the annual return of the Wilshire 5000 market index¹ with dividends reinvested, and the green line is the Federal Funds rate.²

Chart 1: Annual Percentage Change of Consumer Prices and the US Stock Market, 1972 – 2021

The chart above shows that over the past 50 years, the broadest index of US stocks, the Wilshire 5000 annually outpaced inflation 76% of the time and by an average of 8.4%.
Of those few times that inflation was higher than stock market returns, most were during recessionary periods for the US economy shown by the gray shaded areas of the chart. When inflation was over 5% in the past 50 years, the Wilshire 5000 outpaced inflation 64% of the time with average returns 5% greater than inflation.

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