How to Trade the US ISM Services PMI: A Comprehensive Guide
Introduction
The US ISM Services PMI (Purchasing Managers’ Index) provides valuable insights into the non-manufacturing sector, covering industries such as finance, insurance, real estate, and more.
This guide will share the exact strategy that professional traders use to take money from the 95% of losing retail traders. By following our step-by-step guide, you’ll learn how to level the playing field and effectively trade the ISM Services PMI report.
Understanding the US ISM Services PMI
The ISM Services PMI, released monthly by the Institute for Supply Management (ISM), measures the economic health of the service sector. It includes data on business activity, new orders, employment, and supplier deliveries. As a forward-looking indicator, it provides a glimpse into future economic activity and trends in the service sector.
Why ISM Services PMI Matters
- Service Sector Health: It provides detailed insights into the performance and health of the service sector, which constitutes a significant portion of the US economy.
- Economic Indicator: The ISM Services PMI is a leading indicator, often used to gauge overall economic activity and future growth prospects.
- Market Sentiment: It can influence market sentiment, especially if the report shows significant deviations from expectations.
Why ISM Services PMI Often Won’t Move the Market
- Competing Data: The ISM Services PMI is released shortly after the ISM Manufacturing PMI, which can sometimes overshadow its impact. Additionally, other significant economic reports released around the same time can divert attention away from the ISM Services PMI.
- Tier 2 Status: It’s not as prominent as NFP or CPI, so it usually doesn’t create significant market waves. Traders often prioritize other economic indicators over the ISM Services PMI.
Trading Strategy for ISM Services PMI
Step 1: Analyze Federal Reserve Priorities
The first step is to understand what data points the Federal Reserve is currently focused on. If the Fed is focused on the service sector, then the ISM Services PMI will have significant volatility because the Fed may base its interest rate decisions on this data release.
To quickly determine the Fed’s current focus, you can use our Professional Economic Calendar, which includes a fundamental guide. This resource helps traders stay updated on the data points that matter most to the Fed, providing a strategic advantage.
Step 2: Use High-Low Expectation Forecasts
Professional traders rely on high-low forecasts to gauge market expectations accurately. Here’s a more detailed look at why these forecasts are crucial:
- Institutional Forecasts: Professional economic calendars include high and low estimates from top institutions. This broader range of expectations offers a more comprehensive picture of potential outcomes.
- Market Shocks: When a report exceeds the high estimate or falls below the low estimate, it’s a huge shock to markets because no analyst expected it. Such deviations often result in sharp market movements.
- Lightning Bolt Feature: This tool immediately signals a deviation above the high or below the low of analyst expectations. When a deviation occurs, the lightning bolt feature alerts traders instantly, allowing them to act without delay. The quick reaction to unexpected data can be the difference between a profitable trade and a missed opportunity.
Understanding High-Low Forecasts
Economic forecasts are derived from surveys of credible institutions, each providing their best estimate on upcoming data points. Retail calendars typically present the median of these estimates, which can be misleading. The median forecast doesn’t reveal the full range of expectations and, therefore, doesn’t indicate how surprising an actual data release is compared to the extremes of analysts’ projections.
In contrast, professional economic calendars include both high and low estimates. This additional information shows the analysts’ expectations at the extreme ends of their projections. Great trading opportunities arise when data releases fall outside these high and low estimates, creating market shocks that move prices significantly.
Step 3: Choosing the Most Volatile Instrument to Trade
Using insights from institutional reports, traders can select the most responsive currency pairs. For example, if USD/JPY is particularly sensitive to economic data as outlined by the City Economic Surprise Index and the ISM Services PMI shows a significant deviation, this pair could be an ideal target for trading.
- City Economic Surprise Index: This report identifies currency pairs that react strongly to economic surprises. It highlights pairs that are sensitive to data deviations, helping traders focus on the most responsive markets.
- Risk-Reversal Report: This report shows market positioning, revealing a buildup of call or put options on certain currency pairs. Understanding these positions helps traders choose a pair that may have orders susceptible to getting liquidated upon the release of an economic data point.
- CFTC Report: This report details hedge funds' positions. If many big players are long the EUR/USD but then data comes out in favor of the USD, some of those funds might have to unwind their positions, leading to an outsized move. Good thing you didn’t trade the GBP/USD.
Trading Strategy for ISM Services PMI
Confirm Fed Focus
Ensure the Federal Reserve is currently emphasizing service sector data. If the service sector is a primary focus, the ISM Services PMI will have a higher likelihood of moving the market. Remember, if the central bank is focused on the data point, it’s because they are using that data point to make a decision on rates. This is the reason data points that are focused on cause volatility. Sometimes the central bank is focused on a data point inside a data point. Like the Federal Reserve has often called out average hourly earnings as the key thing they are looking for inside the Non-Farm Payroll report.
Check Forecast Ranges
Before the data release, review the high and low forecast expectations for the event. Plan to trade only if the actual data significantly exceeds the high estimate or falls below the low estimate. This strategy ensures you act on genuinely surprising data and there will most likely be a follow-through reaction.
Monitor Revisions
Check for any conflicting revisions in the data, as these can alter the initial market reaction. Make sure the primary release and any revisions align to support your trade.
Enter Trade Promptly
Once you confirm the deviation, act quickly to enter your trade. Enter within the first 30 seconds. Speed is crucial, as market reactions to significant data surprises happen rapidly.
Set Stop and Take Profit
Using insights from institutional reports, traders can select the most responsive currency pairs. For example, if USD/JPY is particularly sensitive to economic data as outlined by the City Economic Surprise Index and the ISM Services PMI shows a significant deviation, this pair could be an ideal target for trading.
- Stop-Loss: Place your stop-loss below the low of the initial spike candle to protect against adverse movements.
- Take Profit: Aim for 15-30 pips for tier 2 events like the ISM Services PMI, adjusting based on market conditions and volatility.
Managing the Trade
- After the Initial Run: Look for a shallow pullback around a 23% Fibonacci retracement or near support/resistance levels. This initial pullback can provide an opportunity to enter the trade again after you’ve taken a few points off the table after your first entry.
- Break Even: Move your stop-loss to break even as soon as possible to protect your gains. In general, the stronger the release, the shallower the pullback. The other reason for moving to break even is that the market should want to buy off your S&R level and continue to the highs of the one-minute candle and break. If that doesn’t happen, something could be off.
- Reentries: If your initial position is stopped out at break even, consider reentering at deeper retracements, such as the 38% or 50% Fibonacci levels. Use nearby support and resistance levels to guide your reentry points.
Conclusion
While the US ISM Services PMI report may not always lead to significant market movements, understanding its nuances and using a professional trading strategy can help you capitalize on unexpected deviations.
If you don’t have the tools mentioned above, try out our Professional Economic Calendar Package and use institutional tools to level the playing field. By following these steps, you’ll be well-prepared to trade the ISM Services PMI report effectively, leveraging the same strategies that professional traders use to profit from this economic data release.