There's No Free Lunch: Increased Central Bank Risk-Taking Raises Alarms

investing.com:

A couple of months ago, in this article, I argued that one characteristic of higher-inflation environments is that the volatility of inflation numbers is also high.

While it does not automatically follow that high inflation volatility implies that inflation itself will remain high, it is suggestive that cries of relief for the end of the inflationary episode might possibly be premature.

Today, I expected to make a similar observation about correlations, but as you’ll see, my investigations took a different turn. Previously, I’ve noted that when inflation rises above roughly 2.5%, stocks and bonds tend to become correlated – which messes up a key part of the value of a 60-40 portfolio.

Here’s an updated version of my favorite chart illustrating that phenomenon. Sure enough, now that inflation has been above 2.5% for 3 years, correlations between stocks and bonds have returned to what they were back when inflation last mattered to investors: the 1965-2000 period. This has happened before, and it really isn’t surprising.

But it’s more than just stocks and bonds. I recently had the opportunity to look at the three-way correlations between stocks, bonds, and commodities. It is very unusual for all three of these correlations to be positive with each other: stocks to bonds, bonds to commodities, and stocks to commodities.

Generally, if you average those three correlations, you get something positive, but right now, the rolling 12-month correlations of those three asset classes average nearly 0.8.

In fact, the recent peak in this average of the three correlations (the heavy blue line) is the highest since TIPS was first issued in 1997.

It’s a little strange when you think about it: rising inflation ought to be bad for stocks