Dear Amira, numerous studies have looked at the impact of inflation on stock returns. Unfortunately, these studies have produced conflicting results when several factors are taken into account, namely geography and time period. Most studies conclude that expected inflation can either positively or negatively impact stocks, depending on the ability to hedge and the government’s monetary policy. But unexpected inflation did show more conclusive findings, most notably being a strong positive correlation to stock returns during economic contractions, demonstrating that the timing of the economic cycle is particularly important for investors to gauge the impact on stock returns. This correlation is also thought to stem from the fact that unexpected inflation contains new information about future prices. Similarly, greater volatility of stock movements was correlated with higher inflation rates.

The influence is indeed ambigous.  Let us first consider rather stable currency like USD. If we consider a choice model for an investor in US market between holding risk-free bond and risky stock, then inflation will lower real return to bond and then the demand for stocks will rise causing the rise in their price.

The stock markets of emerging economies typically react negatively on high inflation, seeing it as a sign of economic weakness.

Dear Amira Akl Ahmed

Greetings,

I think it depend on the reason of the inflation  if it is reflect good situation in the market as liquidity so it it is also reflect positively in stock market and added value of GDP. But in case the negative sign of inflation , in most cases , so the effect also negative in the stock markets and liquidity of trading . Any way, this issue need to test to show the results,

Best Regards,

So, I think the above answers are about the effect of inflation level on equity prices. The other question is about the effect of inflation uncertainty (variability) on stock prices.  How could we measure inflation uncertainty? Are GARCH models applicable in measuring inflation uncertainty?

Check out the following paper: Lin, Shu-Chin (2009), "Inflation and Real Stock Returns Revisited." Economic Inquiry, 47(4), 787-795.

Regarding the second question of measuring inflation uncertainty, GARCH family models are widely used. Generally, researchers estimate different GARCH- type models and then they choose the model with lowest information criterion as the best model in computing uncertainty

Dear Amira, I would try to assess how inflation affects the performance of stock markets looking for its impact in specific companies. Companies with substantial real assets usually are regarded as save havens against inflation and tend to perform well. Companies with fixed debts also tend to perform well, while companies with liabilities linked to floating interest rates, tend to perform badly. Are the prices of the products sold by a given company administered by the government? Politicians usually try to control administered prices in an attempt to control inflation, that damages the profitability of companies in those economic sectors. Bottom line, I agree with the previous answers, the effects are uneven, it depends of many factors. In regard to uncertainty about future levels of inflation, in general I would consider it damaging to stocks, but if there are no other investment opportunities offering protection against inflation, say, in a country with capital controls and limited opportunities to hedge against devaluation of the currency, raising uncertainty may result in appreciation of stocks.

Dear Amira, attached you will find a survey summarizing potential impact of inflation on corporate investment and another one with empirical evidence on this realtionship

Article Inflation and corporate investment – a critical survey

Article Does Inflation Harm Corporate Investment? Empirical Evidence...

Theoretically, it is a little vague to explain. But there is a vast number of empirical studies focusing on the nexus of inflation and stock market. You can google and find them easily.

 I think on average, it can be argued that theoretically there must be no systematic impact of inflation on stock market in real terms, because in the face of inflation firms can increase the price of their products. And also inflation, given a free market setting, cannot impacts significantly the real return of bonds, because the bonds issuers, who tend to think in real terms, increase the nominal interest on their bonds in the face of inflation, leaving the real term of bonds unchanged.  

Rising inflation can be costly for consumers, stocks and the economy. Value stocks perform better in high inflation periods and growth stocks perform better when inflation is low. Stocks tend to be more volatile when inflation is elevated.