Stock interest rate risk and inflation shocks

To link to full-text access for this article, visit this link: http://dx.doi.org/10.1016/j.ejor.2009.03.025 Byline: Francisco JareA[+ or -]o, Eliseo Navarro Keywords: Flow-through capability; Stock duration; Sectorial analysis Abstract: In this paper we proceed to estimate a measure of the flow-through capability of the firms listed on the Spanish Stock Exchange. The flow-through capability is defined as the ability of firms to transmit inflation shocks to the prices of the products and services sold by the company. According to a strand of the literature, this flow-through capability can to some extent explain the so called 'stock duration paradox', which is the difference between the theoretical stock duration derived from the DDM model and its empirical estimates. The line of reasoning suggests that if a company can pass on inflation shocks to the prices of its own outputs and then to profits and dividends, nominal interest rate changes due to variations in the expected inflation will have a limited impact on stock prices. So in this paper we first estimate the flow-through capability for different industries and find great differences among them. Then we analyse the link between flow-through capability and stock duration and find a significant negative relationship between them, as claimed by part of the literature. Author Affiliation: Departamento de Analisis Economico y Finanzas, Universidad de Castilla-La Mancha, Facultad de Ciencias Economicas y Empresariales de Albacete, Plaza de la Universidad, 1, 02071 Albacete, EspaA[+ or -]a, Spain Article History: Received 9 July 2008; Accepted 16 March 2009