The service and manufacturing sectors make up the bulk of the GDP of many countries. Therefore, it is always important to take into account the general state of these industries. One of the most useful studies is the US Institute for Supply Management (ISM) Manufacturing PMI, which reflects manufacturing activity over the previous month. As well as the index of business activity in the non-manufacturing sector. In today's article, we will discuss both of these economic releases.
Index of business activity in the non-manufacturing sector
The Non-Manufacturing Purchasing Managers' Index (PMI) is published by the Institute of Supply Management (ISM). The institute was founded in 1915 and became the world's first supply management institute. This report is a composite index that helps assess the economic health of the US economy.
Even though the Manufacturing PMI has been around for much longer, it was also necessary to measure the economic situation in the services sector. This is especially true since the service sector makes up the majority of US GDP at present. This is how the ISM Non-Manufacturing report or the index of business activity in the non-manufacturing sector appeared. This report has been published by ISM since 1998.
The data is collected from surveys of about 400 purchasing managers in over 65 different non-manufacturing industries, including mining, agriculture, retail and others. The report is published monthly on the third day of each month and reflects the state of the economy for the previous month. The Non-Manufacturing Composite Index (NMI) is based on four weighted measures: new orders, business activity, employment, and supplier outreach.
When the index exceeds 50, it shows that the economy is growing, while the index below 50 signals that the economy is in recession. In addition, a higher reading of the index is usually bullish for the US dollar. Conversely, a lower index reading is bearish for the US dollar. Positive data will also help boost stock prices over time.
As a rule, the ISM index of non-manufacturing activity slightly weakens the impact on the market compared to PMI data in the manufacturing industry. One reason for this is that the non-manufacturing sector tends to be much less volatile and more predictable than the manufacturing sector.
Manufacturing PMI
This index measures manufacturing activity over a specific period of time. The ISM PMI Manufacturing report is published every month, namely on the first business day of the month. The data reflects activity in the economy over the previous month.
The manufacturing sector is an important component of the overall economic situation in a country. While the manufacturing sector of the US economy accounts for less than 15% of total GDP, its health is nonetheless an important economic factor that many traders and investors watch.
The report is a diffusion index, that is, it is compiled from various components, which are also influenced by various seasonal factors. The PMI business activity index takes into account the following indicators: new orders, employment, deliveries and stocks.
The ISM report is compiled by asking more than 400 purchasing and supply managers about their future expectations for production, inventory, employment and new orders. The average value is 50. Thus, if the index rises above 50, this indicates economic growth, while a value below 50 indicates a recession in the economy.
The ISM PMI is the leading indicator. It helps predict future spending that drives economic growth. The indicator tends to reflect future changes in the economy.
If there is a jump in the value of the PMI index, that is, an increase in output, this can lead to serious economic shifts. Also, if there is a decline in the manufacturing PMI index, this means that the output has decreased, and this can lead to a worsening of the economic situation.
ISM Institute Tip Reports
The ISM non-manufacturing PMI is a fairly new indicator compared to the manufacturing index. However, it is becoming increasingly important as the service industry is the fastest growing component of the US economy.
Through these reports, a trader or investor can obtain important sentiment data covering all manufacturing and service industries, which account for more than 90% of total GDP in the United States. These reports are released during the first few days of the month and therefore can sometimes set the mood in the market until the end of the month. In addition, these reports may give a hint about the payroll report, which is published on the first Friday of each month.
The ISM non-manufacturing index can move in one direction or another over many months, which can provide valuable insight into the health of the services sector. One of the main benefits of evaluating the ISM report is that the data provide valuable information at the national level rather than at the regional level. Some of the surveys of local purchasing managers include the Philadelphia Fed report, the Empire State Manufacturing Report, and the Chicago Purchasing Managers Index.
However, there are some drawbacks that traders and investors need to be aware of about ISM reports. As mentioned earlier, these reports consist of surveys. Therefore, the data can sometimes be quite subjective, as they are not based on empirical statistics.
For example, purchasing managers interviewed may be strongly influenced by a number of factors, including recent orders, internal company meetings, or their own biases.
Data on the index of business activity in the non-manufacturing sector have been published only since 1998. However, this is not the case for the Manufacturing PMI, which can be traced back to 1948.
ISM Report Details
The ISM Purchasing Manager's reports for the manufacturing and non-manufacturing sectors can be seen as a barometer for the US economy. These reports are usually the main indicators of future economic growth or recession. Thus, if purchasing managers are optimistic and report rising costs, then traders may assume that they will have an opportunity to see bullish market sentiment in the future.
At the beginning of the release, the most important PMI indicator NMI is published, which in our example is 58.6. Based on this figure, day traders try to position short-term price spikes. NMI is a composite index based on four main indicators: business activity, new orders, employment and deliveries. You will see each of these components listed separately.
We also see the index score for previous months and the percentage change for two months. The Direction and Rate of change columns provide a quick understanding of the state of the economy based on these numbers. For example, 58.6 is the most recent figure, which predicts the economy will grow faster than usual.
In the far right column you will find information about ISM production numbers. This is useful when comparing two-part reports. For example, the manufacturing PMI data for the month was recorded at 58.7, up from the 57.3 level from the previous month. At the same time, the percentage increase in the manufacturing index (+1.4) lags behind the changes in the non-manufacturing sector (+1.8).
How to trade the business activity index?
As we have learned, a composite PMI above 50 indicates that the US economy is expanding. In addition, when the index value has been above the base level of 50 for several months, this tells us that the economy continues to be strong and stable.
When the number falls below 50, it indicates that the US economy is in decline. If the index has been below the base level of 50 for several months, this could indicate a potential recession.
In addition to the long-term forecast that we can make using the ISM indicators, short-term traders can use the ISM economic release to evaluate short-term price movements. One of the most popular types of news trading methodologies using the ISM report is trading on the discrepancy between expected results and actual data.
For example, if economists expect the value to exceed 55 and the actual index to be 52 or 53, then the market may react to this discrepancy after the release of the report. In this case, fundamental traders are likely to expect the lower-than-expected figure to be bearish for the dollar and short-term momentum from the dollar's weakness can be exploited.
For example, you can sell the USD/JPY pair or buy the EUR/USD pair for short-term day trading or scalping. However, traders need to be aware of other news events as well as important support and resistance levels that could override ISM reports.
Summing up
The manufacturing and non-manufacturing business activity index can help a trader assess underlying economic conditions and trends. We've looked at the important components that make up the reports, as well as how investors can read the actual report. We have also discussed some of the advantages of the ISM index, as well as some of the disadvantages.
Traders may use these releases for short-term trading opportunities, but caution should be exercised here as relying solely on reports without taking into account market context or other factors in the decision-making process can lead to unforeseen consequences.