The purchasing managers' index (PMI) is an economic indicator based on surveys of businesses in a given sector. The most common PMI surveys are the manufacturing PMI and the services PMI. These are released for the United States and many other developed countries, including members of the Eurozone.
Understanding the PMI can provide insight into recent market conditions and identify potential economic slowdowns.
What Is the Purchasing Managers' Index?
The purchasing managers' index consists of several surveys of purchasing managers at businesses in manufacturing or services. These surveys are compiled into a single numeric result depending on one of several possible answers to each question. The exact questions and answers on the surveys vary based on the surveyor. The two most common surveyors are the Institute of Supply Management (ISM) and IHS Markit.
The most common survey items are:
- New orders
- Factory output
- Suppliers' delivery times
- Stocks of purchases
The most common answers include:
- No change
Most economic indicators look at historic data to draw conclusions. Economic surveys offer a glimpse into the future. This makes them extra valuable to investors who want to predict what's next, rather than look at the past.
Investors use PMI surveys as leading indicators of economic health. They offer insight into sales, employment, inventory, and pricing. Manufacturing sector purchases tend to react to consumer demand and are often among the first signs of a slowdown. They are also some of the most highly watched economic indicators because they tend to be the first major survey released each month.
How Does the PMI Work?
The PMI is a diffusion index. This means it measures change across multiple indicators. A diffusion index is very useful for spotting economic turning points, such as unemployment rates from the Bureau of Labor Statistics.
The PMI can point to whether economic conditions are better or worse at the companies surveyed. The formula used to calculate the PMI assigns weights to each common element and then multiplies them by 1 for improvement, 0.5 for no change, and 0 for deterioration.
Here is how the formula appears:
PMI = (P1*1) + (P2*0.5) + (P3*0)
P1 = Percentage of answers reporting improvement
P2 = Percentage of answers reporting no change
P3 = Percentage of answers reporting deterioration
A reading above 50 suggests improvement. A reading below 50 suggests deterioration. The groups also divide the survey into the manufacturing and services sectors since manufacturing is export-dependent, and services are more sensitive to the domestic economy.
What It Means for Individual Investors
The purchasing managers' index is an important indicator for international investors looking to form an opinion on economic growth. Many investors use the PMI as a leading indicator of gross domestic product (GDP) growth or decline. Central banks also use the results of PMI surveys when setting monetary policy. This can be seen in the Federal Reserve's meeting minutes.
In general, higher PMI levels correlate with higher GDP. However, the relationship between PMI and GDP varies based on the country's stage of economic development.
Individual components of the PMI can also be useful in markets. Here's how. The bond markets watch the growth in supplier deliveries and prices paid. These figures can provide insight into the potential for inflation. Since bonds are fixed-income assets, inflation has a harmful effect that can erode their prices. Investors interested in specific sectors may also look at the purchasing trends within the vertical markets.
How to Find PMI Data
The purchasing managers' index is published in different places, depending on the company and country. For instance, both IHS Markit and ISM publish PMI data for the United States. China's Bureau of Statistics provides its own set of figures. In general, most investors trust the two most popular sources—ISM and IHS Markit—for PMI data.
International investors can find the latest PMI data for other countries by using websites like Trading Economics. PMI data is also widely reported by the financial media, so investors can easily check into the implications of any changes.
If the PMI moves lower in a given country, investors may want to consider reducing their exposure to the country's equity markets. They can then increase exposure to other countries' equities with growing PMI readings. It also helps to look at price-related data when analyzing the impact of potentially higher inflation on international bonds. In general, higher inflation readings mean that investors may want to reduce their exposure to the bond market, given the potential for lower prices.
- The purchasing managers' index surveys purchasing managers at businesses in sectors like manufacturing and services.
- Common surveyors include the Institute of Supply Management (ISM) and IHS Markit Group.
- Analysts and investors use the PMI to forecast GDP growth.