Real Stock Returns and Inflation in Pakistan

This study examines the relationship between inflation rate and real stock return on the basis of monthly and annual data from 1972 to 2002. The Full Information Maximum Likelihood (FIML) is used to estimate the causal relationship between inflation rate and real stock returns. The empirical results indicate that when the real output growth rate is controlled the negative relationship between real stock return and inflation rate disappear. This result is consistent with Fama (1981) conjecture. However, the relationship between real returns and unexpected growth and unexpected inflation is negative and significant to be important findings. Keywords: Real Stock Returns, Inflation, Pakistan