Stocks and bonds tend to move more in tandem during inflationary periods, but bonds can still provide significant diversification benefits, as well as play a critical role in providing ballast and reducing risk.
That’s one of the key takeaways from our recently published 2026 Diversification Landscape report.
Christine Benz, David Reyna, Jack Shannon, and I examined how different asset classes performed in the past couple of years, how correlations have evolved, and what those changes mean for investors and financial advisors trying to build well-diversified portfolios.
We also looked at how major asset classes performed during periods of market stress, such as recessions, high inflation, and rising interest rates. Each of these environments presents its own challenges.
Not only do previously established correlation patterns often shift, but some asset classes typically fare better than others, we found.
Here are some of the key findings from our research.
Stock/Bond Correlations During Inflationary Periods
How closely stocks and bonds move together is one of the most fundamental things for investors to get a handle on. As residual assets, stocks have more upside potential but are guaranteed to be riskier. Bonds are inherently safer because their owners get more of their cash flows upfront and generally have a high level of certainty about receiving their principal back at maturity.
Because stocks and bonds are structurally different, they generally don’t move in lockstep. Since 1960, correlations between stocks and bonds have averaged about 0.08. In a portfolio context, that gives bonds additional risk-reduction benefits—over and above their lower volatility on a stand-alone basis.
However, the correlation between stocks and bonds isn’t static. Periods of low inflation create the best conditions for stock/bond correlations. Thanks in part to below-average inflation, rolling three-year correlations between stocks and bonds were consistently negative (or barely above zero) from November 2000 through 2020.
However, the resurgence in inflation that started in May 2021 made market conditions much more challenging. Supply chain disruptions, a tight labor market, the war in Ukraine, and strong economic growth all conspired to push up inflation from its previously benign levels. The Consumer Price Index rose by more than 7% year over year by the end of 2021 and reached as high as 9% by mid-2022. Inflationary pressures eased from 2023 through 2025, but inflation remained above the Federal Reserve’s stated target of 2%.
As a result, correlations between stocks and bonds sharply increased starting in 2021. The recent uptrend in correlations has been unusually dramatic but not unprecedented, though. The stock/bond correlation has often been positive over other periods of high inflation, defined as periods when year-over-year inflation increased by at least 5% and remained high for at least six months.
Risk, Returns, and Correlations: Inflationary Periods
As shown in the exhibit above, correlations between stocks and bonds rose during some but not all inflationary periods. In general, correlations increased the most during periods when inflation was both high (in the double digits) and protracted (lasting at least three years). The post-World War II era saw an unusually high spike in inflation (driven by the removal of wartime wage and price controls, combined with large numbers of troops coming home), but the increase in consumer prices lasted only about a year. More recently, surging economic growth in China fueled rising consumer prices in 2007 and 2008, but inflation remained below 6% and lasted less than a year.
The most dramatic correlation upturns took place in the periods from February 1966 through January 1970 (driven by low unemployment and surging economic growth) and February 1977 through March 1980 (driven by soaring oil prices, the oil embargo and related price shocks, and expansionary monetary policies). Correlations ended up in a similar range (0.26 and 0.28, respectively) in both periods. Thanks to the rapidly shifting landscape for both interest rates and inflation, the recent upturn in stock/bond correlations has been even more pronounced.
Performance Trends
In addition to correlation patterns, the study also delves into performance trends across asset classes. Higher inflation makes for a more challenging environment for stocks, as it leads to higher operating costs in the form of raw materials, components, wages, and other expenses. On average, US large-cap stocks have posted nominal returns of about 3% per year across the inflationary periods we examined—well below the average inflation rate in the same periods. Stocks tend to fare even worse when inflation is extremely high and/or unexpected, such as the period from July 1972 through December 1974. As cumulative inflation topped 24% over that period, large-cap stocks lost more than 13% per year, and small-cap stocks lost more than 22%.
Higher inflation can also make conditions challenging on the fixed-income side, but the impact is usually less direct. A surge in inflation often prompts the Federal Reserve to hike interest rates, reducing bond prices and leading to tighter comovement between stocks and bonds. As a result, core bonds have posted nominal returns of about 2.2% per year over the inflationary periods highlighted in the exhibit below, and long-term Treasuries have fared a bit worse. Both areas suffered their worst showings during the most recent inflationary period from June 2021 through March 2023. Not only did interest rates have nowhere to go but up, but bonds also had less of a yield cushion to offset losses as rates increased.
Asset-Class Returns (%) During Inflationary Periods
Across other asset classes, both developed- and emerging-market stocks have typically fared the worst during periods of high inflation, partly because it often results in interest rate hikes that strengthen the US dollar. A stronger dollar, in turn, means lower returns on non-US assets when translated back into dollars, as well as a heavier burden for emerging markets with dollar-denominated debt. REITs have also performed poorly in most inflationary periods, despite their often-touted ability to hike up rents as inflation increases.
On the positive side, both gold and other commodities have often excelled during periods of high inflation. However, gold prices stagnated in the late 1980s partly because higher bond yields increased the opportunity cost of holding non-income-producing assets. Other commodities have been a more reliable inflation hedge partly because products such as oil and natural gas account for a significant percentage of consumer spending, so it makes sense that their prices tend to rise when inflation is increasing. More broadly, demand for commodities tends to increase during periods of robust economic growth, which can also push inflation higher.
Portfolio Implications
There are a couple of key lessons to draw from these patterns. Stocks and bonds tend to move more in tandem during inflationary periods, but bonds can still provide significant diversification benefits, as well as play a critical role in providing ballast and reducing risk. Treasury Inflation-Protected Securities, in particular, can be a valuable tool for hedging inflation risk, especially when they offer positive real yields.
