STOCK MARKET REACTION TO GOOD AND BAD INFLATION NEWS

Johan Anders Knif · James W. Kolari · Seppo Pynnönen

53 citations0/0 files storedThe Journal of Financial Research

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Financial Markets and Investment Strategies Monetary Policy and Economic Impact Market Dynamics and Volatility

Abstract

Abstract This article shows that differentiating between good and bad inflation news is important to understanding how inflation affects stock market returns. Summing positive and negative inflation shocks as in previous studies tends to wash out or mute the effects of inflation news on stock returns. More specifically, we find that, depending on the economic state, positive and negative inflation shocks can produce a variety of stock market reactions. We conclude that the effect of inflation on stock returns is conditional on whether investors perceive inflation shocks as good or bad news in different economic states.

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References

1993On the Relation between the Expected Value and the Volatility of the Nominal Excess Return on Stocks 1998Investor Psychology and Security Market Under‐ and Overreactions 1986Economic Forces and the Stock Market 1992ARCH modeling in finance n.d.A model of investor sentiment /1992Quasi-maximum likelihood estimation and inference in dynamic models with time-varying covariances 1998A model of investor sentiment1We are grateful to the NSF for financial support, and to Oliver Blanchard, Alon Brav, John Campbell (a referee), John Cochrane, Edward Glaeser, J.B. Heaton, Danny Kahneman, David Laibson, Owen Lamont, Drazen Prelec, Jay Ritter (a referee), Ken Singleton, Dick Thaler, an anonymous referee, and the editor, Bill Schwert, for comments.1 1977Asset returns and inflation

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