• John Y. Campbell
  • Luis Viceira


May 30, 2023, Paper: "The co-movement of Treasury bonds and stocks is an important indicator for both policy makers and for long-term investors. A positive co-movement between nominal Treasury bonds and stocks, as in the 1980s, means that nominal bonds amplify the volatility of stock investors’ portfolios. This pattern tends to arise when investors anticipate inflation that is accompanied by a recession, which often results from an adverse supply shock – driving up prices – and a quick and energetic interest rate hike – tipping the economy into a recession. The importance of Treasury bond-stock co-movement has been increasingly recognized in policy circles as an important policy indicator of supply-driven inflationary pressures and the risk of a monetary policy-induced stagflation (see for example the Economic Report of the President, March 2023, pp.61-62). Policy makers also recognize the importance of bond-stock co-movement for the appeal of Treasury bonds to investors and the term premia they demand to hold these bonds — the government would find it more expensive to borrow if long-duration Treasury bonds are no longer seen as useful hedges against equity risk. So far, the post-pandemic risks of Treasury bonds look markedly different from the 1980s despite disruptions to energy supply, suggesting that investors are pricing in a less aggressive Fed response and a softer landing. Going forward, the risks of nominal Treasury bonds will provide a useful tool to track market expectations of stagflation risk and its sources."