Disinflation is investors' new best friend

Disinflation is investors' new best friend! Ironic, given that this word is making many nervous. But falling inflation could actually be a great thing for equity investors. To be clear, I'm talking about disinflation and not outright deflation. Disinflation is the more probable outcome given quantitative easing in Europe and Japan, record low global interest rates and monetary easing in China. In contrast, deflation is not typically good for just about any asset class - unless it's mild deflation, in which case, it may be almost as good. Research done by US research company The Leuthold Group in 2010 showed that when inflation was around zero to -2.4%, the S&P500 Index gained 18.2% on average. How about Australia? I've compiled a chart showing the performance of the ASX All Ordinaries contrasted against Australian inflation. Periods of declining inflation has coincided with robust share market gains. Another interesting observation is that this period of disinflation comes at a time when experts are arguing about whether equities are overvalued, particularly in the US. If this benign pricing environment persists, markets may actually have further to climb.