Following a January stronger-than-expected wage growth report and CPI reading, inflation looks to be on the rise. Though these reports contributed to the return of market volatility, the steady economic growth and strong labor market conditions over the past few years have always implied inflation should be higher. We are likely now (finally) in a period of reflation, meaning low to rising inflation rates. With inflation starting at such a low rate, why does an increase matter?

Investors are concerned about a rise in inflation because rising bond yields hurt bond prices and upward wage pressures potentially hurt stock prices. On top of that, the Federal Reserve is in the precarious position of having to raise rates at just the right pace, fast enough to keep the economy from overheating but not so fast that they spark a recession.

So are these concerns justified? We looked at how stocks and bonds have done, over time, in periods of reflation. The chart below examines the return of these assets in months of low or rising inflation, both the average of these periods in the last 25 years, and the average since the Global Financial Crisis (GFC). As you can see, on average, stocks compounded at approximately 2% monthly, while bonds experienced a 0.4% monthly return. That's not to say that in each month these investments experienced positive returns, but for a long term investor, the phase we've entered now does not spell disaster.

 

Meanwhile, it is important to note that a strong economy is one of the reasons for the rise in inflation. With earnings expectations still looking robust and an economy set to grow healthily through 2018, investors should have much that pleases them.