According to AMP Capital chief economist Shane Oliver, the answer is simple. Speaking in an AMP Capital insights paper, he said there’s a link between share market volatility and inflation.
Further, he explained that as investors recalibrate their expectations of share market performance, volatility and inflation react accordingly.
“Investors have been used to low volatility for so long, low inflation, low interest rates, low bond yields and that was factored into many investment markets, obviously including share markets,” he said.
“Now we are moving into a world of possibly higher inflation, higher interest rates, investors have to reprice and adjust their expectations.”
Continuing, Mr Oliver observed that market commentators and investors are seeing increased inflation in the US, with some considering this a positive while other regard it as a negative.
“For example, if interest rates go up, bond yields go up, that makes share markets a little less attractive compared to bonds and cash at the margin, and investors need to make that adjustment,” Mr Oliver said.
“[Further] you’ve got this ongoing battle with some saying inflation’s on the way, higher interest rates – that’s bad.
“At the same time, others are saying we’ve got stronger profits growth coming through, so it’s not that bad. I think we’re seeing a bit of a battle between the bulls and the bears going on.”
Reflecting on the year so far, Mr Oliver said it’s been “a bit perverse in a way”, given that the good news of wage growth and a long-awaited pick-up in inflation has triggered investor anxiety.
With this in mind, he reminded investors that higher inflation is not a bad thing, it just means they “have to adjust their expectations and that’s what’s causing the volatility”.