What is consumer sentiment?

Consumer sentiment is a measure of how households feel about current economic conditions and their expectations for the future. The two most prominent US measures are the University of Michigan Consumer Sentiment Index and the Conference Board Consumer Confidence Index, each based on surveys of households but using different methodologies and sampling approaches.

The Michigan survey, which is the more market-moving of the two, asks respondents about their personal financial situation, business conditions over the next 12 months and five years, and buying conditions for major household items. The index is scaled so that 100 represents the base year (1966). Readings above 100 indicate above-average sentiment, while readings below 100 indicate below-average sentiment.

Consumer sentiment matters because consumer spending represents approximately 70% of US GDP. When consumers feel confident about their finances and the economy, they are more likely to spend, especially on big-ticket items like cars, appliances, and homes. When sentiment deteriorates, consumers pull back, which can slow economic growth. Research shows that sentiment is a modest but statistically significant predictor of future consumer spending, particularly for discretionary categories.

Sentiment can diverge from actual economic conditions for extended periods. During 2022-2023, consumer sentiment remained depressed despite low unemployment and strong income growth, driven largely by dissatisfaction with inflation, particularly food and gasoline prices. This divergence between "hard" economic data and "soft" survey data raised debates about which better reflected the true state of the economy.

For investors, extreme readings in consumer sentiment can serve as contrarian indicators. Very low sentiment has historically been associated with above-average subsequent stock market returns, as pessimism often peaks near market bottoms. Very high sentiment has been associated with below-average forward returns. However, sentiment works best as one input within a broader analytical framework rather than as a standalone timing signal.