The Role of Consumer Sentiment in the Stock Market: A Multivariate Dynamic Mixture Model With Threshold Effects

ABSTRACT We consider the relationship between stock prices, volatility and consumer sentiment. The analysis is based on a new multivariate model defined as a time‐varying mixture of dynamic models in which contemporaneous relationships among variables are allowed and the mixing weights have a threshold‐type structure. We discuss issues related to the stability of the model and the estimation of its parameters. Our empirical results show that consumer sentiment significantly affects the S&P 500 price–dividend ratio and market volatility in at least one of the model's two regimes, which are associated with endogenously determined low and high consumer sentiment.