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The big headline this past week on the economic front was the uptick in the September CPI report. The beat was subtle, only 0.1% above estimates, so I think it’s still too early to come to concrete conclusions.

That being said, I do think inflation will become a problem again… just not yet.

In my view, this has to do with the oil market, which remains range-bound. Unless crude oil starts surging higher, I don’t expect there to be a meaningful uptick in inflationary pressures.

The big question, of course, is how stocks would handle such a macroeconomic development. Let’s discuss this further… 

The Real Correlation Between Stocks and Inflation

I want to set the record straight on the relationship between stocks and inflation. Have a look at this long-term S&P chart below, which also includes the correlation with the CPI index on the lower part of the chart.

The first thing that stands out to me is that whenever we see a big dip in the correlation between CPI and the S&P, it turns out to be a great buying opportunity.

Think about if you had “backed up the truck” on stocks back in 2008 or 2009, 2012, 2016, and most recently, in late 2022, you’d probably be pretty pleased with the performance.

History shows that stocks are the best hedge against inflation in the long run. But there is a caveat to this - stocks tend to struggle when inflationary pressures are accelerating, which is what we saw in 2022.

In the prior instances displayed on the chart (2008 to 2009, 2012, and 2016), the market was more concerned with deflation. The CPI was dropping instead of rising like it did in 2022.

When inflation is accelerating to the upside, or increasing month-over-month from 3% to 5%, for example, commodities actually do better than stocks. But when inflation is present, but decelerating, say from 4% to 2%, stocks will do much better.

Keep this in mind as we navigate this market environment. In the meantime, I think you’ll be pleased to hear my Tale of the Tape update come Monday.

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