Use ISM Manufacturing Index to Understand U.S. Economic Conditions

ISM Manufacturing Index: an Indicator of Economic Conditions

ISM Manufacturing Index is one of the most important indicators for the manufacturing industry. The data is published by the Institute for Supply Management and it is collected from questionnaire surveys of over 350 purchasing managers from firms in the manufacturing industry.

Due to the survey items are correlated with the GDP, the calculation method has been changed since January 2008. By comparing the current month with the prior month, respondents are asked to report on new orders, production, employment, backlog of orders and inventories, and select from three answer choices: “Better”, “Same”, or “Worse”.

Example

● New orders: (Compared to the previous month) Better, Same, Worse
● Production: (Compared to the previous month) Better, Same, Worse
● Employment: (Compared to the previous month) Better, Same, Worse
● Backlog of orders: (Compared to the previous month) Better, Same, Worse
● Inventories: (Compared to the previous month) Better, Same, Worse

Because the resulting number of the survey includes variations and it is difficult to make a judgment on the indication of change, when it is published as the economic indicator, it includes the monthly statistics and the survey data is seasonally adjusted.

The ISM publishes two indices: ISM Manufacturing Index and ISM Non-Manufacturing Index. The ISM Manufacturing Index, one of the indices that indicate the economic conditions, is released on the first business day of each month. Many investors pay close attention to this index as they see it as an early indicator of the U.S. economic performance.

In addition, this indicator is used as one of the criteria to determine interest rates. In the past, the Federal Reserve Board (FRB) has never raised interest rate when the ISM Manufacturing Index showed a rate of decrease. Therefore, it can be said that, by looking at this index, it is possible to predict when the FRB will raise interest rates.

Differences between ISM Manufacturing Index and ISM Non-Manufacturing Index

The ISM Manufacturing Index and ISM Non-Manufacturing Index are published by the Institute for Supply Management (ISM). Whereas the ISM Manufacturing Index is based on surveys of firms from the manufacturing sector, the ISM Non-Manufacturing Index is based on data from other sectors except for manufacturing, such as service sector. Even though both of these indices indicate economic conditions, they are released on different dates. The ISM Manufacturing Index is released on the first business day of each month and the ISM Non-Manufacturing Index is released on the third business day of each month.

For the manufacturing index, it is important to look at the composite index PMI (Purchasing Managers Index). For the non-manufacturing index, it is necessary to look at the NMI (Non-Manufacturing Index). When the reading is above 50%, it indicates that the economy is expanding, and when the reading is below 50%, it indicates that the economy is contracting.

In addition, the comments of the author are also included in the reports. While it can be served as a useful reference when you read the data, please also pay attention to it.

An Indicator Similar to ISM Manufacturing Index

Besides the ISM Manufacturing Index which is used as an early indicator of the U.S. economic conditions, there is another similar index: Business Outlook Survey (also known as Philadelphia Fed Report). The Business Outlook Survey, released by the Federal Reserve Bank of Philadelphia, is a survey of firms in the manufacturing sector in the Third Federal Reserve District.

Many investors pay attention to the Business Outlook Survey. This is because that, compared with the ISM Manufacturing Index which is released on the first business day of the next month, the Business Outlook Survey is released earlier and it is published on the third Thursday of the current month.

The Business Outlook Survey is an indicator of the economic conditions and economic activities in the manufacturing sector in the Third Federal Reserve District (i.e., Pennsylvania, New Jersey, and Delaware). Even though it does not cover a large area, many investors still look at the index because it is released earlier than the ISM Manufacturing Index.

Predicate Trends in the Foreign Exchange Market by Looking at the ISM Manufacturing Index

Finally, let’s take a look at how to forecast movements in the foreign exchange market when the ISM Manufacturing Index is released.

As mentioned above, in the ISM Manufacturing Index and ISM Non-Manufacturing Index, a reading above 50% indicates an economic expansion and a reading below 50% indicates an economic contraction. Basically, when the ISM Manufacturing Index is above 50%, investors are likely to buy US dollar, and when the index is below 50%, they are likely to sell US dollar.

Since most investors pay attention to this index, it is also essential for you to take a close look at it. In addition, it is necessary to note that, in order to buy US dollar, investors would sell other currencies.

Because the index is an indicator of the economic performance and correlated with the GDP, it is very essential that you follow closely the release of indices, such as, Empire State Manufacturing Survey, Business Outlook Survey, and ISM Manufacturing Index.

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