Time-varying inflation risk and stock returns

We show that inflation risk is priced in stock returns and that inflation risk premia in the cross-section and the aggregate market vary over time, even changing sign as in the early 2000s. This time variation is due to both price and quantities of inflation risk changing over time. Using a consumpt...

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Bibliographic Details
Published in:Journal of financial economics 2020-05, Vol.136 (2), p.444-470
Main Authors: Boons, Martijn, Duarte, Fernando, de Roon, Frans, Szymanowska, Marta
Format: Article
Language:English
Subjects:
Asset pricing
Consumption
Cross-sectional asset-pricing
Individual stock returns
Inflation
Inflation hedging
Mathematical models
Nominal-real covariance
Prices
Return on assets
Time-varying inflation risk premium
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Summary:We show that inflation risk is priced in stock returns and that inflation risk premia in the cross-section and the aggregate market vary over time, even changing sign as in the early 2000s. This time variation is due to both price and quantities of inflation risk changing over time. Using a consumption-based asset pricing model, we argue that inflation risk is priced because inflation predicts real consumption growth. The historical changes in this predictability and in stocks’ inflation betas can account for the size, variability, predictability, and sign reversals in inflation risk premia.
ISSN:0304-405X
1879-2774
DOI:10.1016/j.jfineco.2019.09.012