The effect of inflation on stock prices Essay Example | Topics and Well Written Essays - 750 words

The effect of inflation on stock prices - Essay Example inflation is dependent on the time horizons as it is subject to fluctuations over shorter periods but more stable over a long term horizon (Sharpe Steven, 2000). In the global scenario some companies can react to inflation by raising their prices but this can be affected by the competition as others may not be subject to the same inflationary trends within their own insulated economies ((Little, Ken). Inflation results in the rise in prices of the stocks with no corresponding increase in value with the ultimate loss to the investors in that particular stock. Theoretically the stocks are a good hedge against inflation because a company’s earnings and revenues usually grow at the same rate as inflation (Little, Ken). Some of the good inflation hedge instruments are gold, real estate and money market funds. Different sectors in the stock market show variable response to inflationary trends. Fixed instruments like government securities and bonds tend to be secure investments but y ield very poor returns in the face of inflation as the purchasing power of the currency is greatly reduced and moreover the taxes on the gains accumulated over a period of time negate the interest earned over that span. Investments in stocks are therefore recommended to defeat inflation as it serves as an insulator against the devaluation of money as the companies are themselves more worried about the profitability of their assets and take adequate steps and means to tide over inflationary and other trends affecting stock markets. The art of preserving one’s wealth during recession requires great insight into the market situation and switching funds between risky and safe investment instruments from time to time are the hallmarks of a good investor. The true stock market price after adjustment for inflation is the real indicator of the status of one’s investments. If the stock market goes up at a better rate than the inflation, the profits will depend upon the difference between the two