Hi everyone,
We can see that there is an inflation component in the Grinold Model…It is positively related to the return to equities.
The expected nominal earnings growth component (i+g)
But do we include this component when the firm cannot effectively pass the increase in inflation to the consumers(can’t raise prices)
“She notes that U.S. firms cannot raise prices to fully compensate for inflation because of the current elasticity of demand”
Well think about it this way return on a stock has an inflation component. Return is real return plus inflation. I don’t really think it has much to do with sales per say, but just actual return of stock (noniminal). Real return is just what is the return for that company if there is no inflation in the return. In your example, since they can’t pass inflation to consumers real return will decrease (same price, higher cost). The inflation effect on the company should only affect real return since it’s baked into the profitability.