Bond-stock Price Comovements: Evidence from the 1960s to the 1990s

The correlation between sovereign bond prices and stock prices was positive from the 1970s to 2000 and then turned negative. Researchers have investigated this phenomenon using data from the 1970s to the present. This paper uses data beginning in the 1960s, when there were negative correlations between bond and stock prices, to investigate how positive bond-stock price comovements arose. Evidence from identified vector autoregressions indicates that monetary policy shocks beginning in the late 1960s caused bond and stock prices to covary positively. Evidence from estimating a multi-factor model indicates that news of both monetary policy and inflation contributed to positive bond-stock comovements. The findings imply that rising inflation now that elicits contractionary monetary policy could alter bonds’ risk characteristics, causing them to again covary positively with stocks. To this end, policymakers should be vigilant that large budget deficits do not stoke inflation.