Description:
This study examines whether common stocks provide a hedge against inflation by focusing on a short-term analysis of US markets. Evidence from the aggregate stock market confirms a negative relation between stock returns and inflation, thereby providing no support for the Fisher hypothesis. Testing of sectoral stocks indicates that most sectors present negative signs, confirming the Fama proxy hypothesis. The exception is the energy sector that shows a positive sign, exhibit a hedging capacity against inflation.. This study introduces inflation-induced equity market volatility as an incremental variable, which consistently produces a negative effect on stock returns. Ignoring this element will produce a biased estimator of inflation’s effect on stock returns. When changes in the inflation series were split into two regimes, evidence consistently shows that stock returns are negatively correlated with upward changes in inflation (except for the energy sector stocks) but positively correlated with downward movements of inflation. While including the interacting term between a change in monetary policy uncertainty and lagged equity market volatility, produces evidence, which has an enhanced negative effect on stock returns