If I set an order to Refunded from the status dropdown, does the stock go back?

No. Choosing Refunded in the status dropdown reverses the order's credits (wallet, reward points, coupon and unpaid affiliate commission), but it doesn't add stock back. Only Cancelled releases stock on a status change.

To have returned items restocked automatically, put the return through the returns flow:

1. On Plugins → Return Settings, open the Refund tab, turn on Restock returned items and click Save Refund.
2. Handle the customer's request in Orders → Returns. Click Approve, then Complete. Stock goes back when you click Complete.

For a return you've already marked Refunded by hand, add the units back yourself on the product, or in Inventory if you track stock by location.

Refunded and the other return statuses only appear in the dropdown while the Return Settings plugin is active.