The Importance of PMI's in Forex Trading



Forex brokers will always have a reference on their website to the economic calendar for the period ahead. This economic calendar shows what important news will be released and when and this news is being ranked based on the impact they might have on the markets.

Forex markets are all about interest rates and what central banks will do with the interest rates and monetary policy when they meet. Central banks are looking at the economy’s evolution during the period before the meeting and will interpret that data in order to see if the economy improved, stagnated or worsened. The first thing that matters for a central bank is inflation, followed by jobs data. Inflation is part of a central bank’s mandate (a regular mandate is to keep inflation below or close to two percent), therefore fluctuations in inflation are being seen by market making wild moves. This is because traders are trying to anticipate what that release will mean for the central bank interest rate decision and monetary policy next time the central bank’s governing body meets.

Exactly the same thing is happening with the PMI’s release. These PMI’s are actually surveys carried out in all major economies and purchasing managers are being asked questions like how does the number of employees changed in the last period, if there are any changes in inventory levels, new orders, what is their prediction regarding the business for the next six months, and so on. The idea is to have an overall overview by averaging these answers in order to find out the state of a specific sector in an economy. Normally PMI’s are calculated for the manufacturing and services sectors, but there are economies that calculate the PMI also for the construction sector if that is an important part of the Gross Domestic Product (GDP).

In the United States, the releases are being called ISM Manufacturing and Non-Manufacturing and the acronym come from Institute for Supply Management (ISM), the one that carries on the surveys. ISM’s are calculated only for the manufacturing and services sector. The next thing that matters is the type of the economy one is analyzing, and in the case of forex trading, the currency that represents the economy where the PMI/ISM is released is going to move more or less based on that. For example, the United Kingdom economy is a service based economy and this means that economic releases that relate to the services sector matter more for the UK GDP than other releases. It means the PMI Services for the United Kingdom is more important than PMI Manufacturing or PMI Construction. Therefore, a miss on the last two may not move markets that much if the PMI Services still prints solid numbers.

Either PMI or ISM, the interpretation is the same: sectors in an economy are being analyzed based on the 50 level. Any sector that has a PMI above the 50 level is considered to be expanded, while a level below 50 shows a contraction and it is not a good sign for the overall economy. What matters also is the trending component of these PMI’s. For example, a PMI that is steady over the 50 level and rising month over month shows the economy “heating” and the central bank may intervene to cool down that steep ascending path. Like it is the case with inflation too, no central bank wants to see inflation going well above 2% as levels like 3% or more are being met with interest rate cuts and therefore traders will sell that respective currency. The same is valid with the PMI releases as levels like 60 while showing a very steep pace of economic activity, are being seen with skepticism by central bankers as the overall idea is for the economy to gradually improve over time, not abruptly. The PMI and ISM releases are calculated on a monthly basis and therefore traders know how to position for the next central bank meeting.

The best example came in the last couple of weeks from the United States as there is a lot of debate regarding whether the Fed is going to hike rates again or not. As the Fed insists that this is going to be data dependent (meaning if good data is coming in the period until the next meeting, a new rate hike may be in cards, if not, no new hike), eyes are on the economic releases prior to that event. The ISM Manufacturing in the United States came first and it printed below the 50 level, showing for the first time in many months that the manufacturing sector slipped into recession. Normally, this is not positive for the currency and traders sold the USD on expectations that it is impossible for the Fed to hike rates at the next meeting with the manufacturing sector in a recession. However, considering the fact that the United States Economy is a service based one as well, it all depended on what the ISM Non-Manufacturing will look like. This one disappointed as well, as it fell from above 55 to barely above 51 and the USD was being sold across the board. EURUSD, AUDUSD, and GBPUSD moved for more than one hundred pips on the news as expectations for a rate hike were dropping. However, it doesn’t mean that a rate hike will not come, only that traders sold the US dollar on such bad news from both ISM Manufacturing and Non-Manufacturing releases. Therefore, PMI and ISM have a very important role in trading the currency markets and can create volatile conditions based on trader’s interpretation of these releases. 

Summary: Purchasing Managers Index (PMI) is a highly regarded economfic release that comes between two central banks meetings and it is offering important information about the overall state of an economy. Central banks are closely watching PMI’s evolution and traders know that these releases offer an educated guess about what central bankers will do when they will meet to set the interest rates.



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