ISM Services and Composite Measures
Why Services PMI Matters More Than Manufacturing
The US economy is approximately 70% services. While manufacturing PMI gets significant attention (historical significance, global trade implications), the ISM Services PMI arguably provides a better signal of overall economic health.
Services sectors covered:
- Healthcare
- Finance and insurance
- Retail trade
- Transportation
- Professional services
- Accommodation and food services
- Information technology
The point is: When manufacturing contracts but services expand, the economy typically keeps growing. When services contract, recession risk is elevated.
ISM Services Index Structure
The ISM Services PMI (also called the ISM Non-Manufacturing Index) uses a similar methodology to the manufacturing survey but with different component weights:
| Component | Weight |
|---|---|
| Business Activity | 25% |
| New Orders | 25% |
| Employment | 25% |
| Supplier Deliveries | 25% |
Note: Inventories is not included in the services headline PMI, reflecting that many service businesses do not hold physical inventory.
The calculation: ISM Services PMI = (Business Activity x 0.25) + (New Orders x 0.25) + (Employment x 0.25) + (Supplier Deliveries x 0.25)
Key Thresholds for Services
| Reading | Interpretation |
|---|---|
| Above 55 | Strong services expansion |
| 50-55 | Moderate expansion |
| 48-50 | Borderline—may signal slowing |
| Below 48 | Services contraction (rare) |
Historical context:
- Services PMI has spent less than 10% of its history below 50
- During the 2008-2009 recession, it fell to 37.8
- Pandemic low (April 2020): 41.8
- Long-run average: approximately 55
Worked example (October 2024):
- Business Activity: 57.2
- New Orders: 57.4
- Employment: 53.0
- Supplier Deliveries: 56.4
- Headline Services PMI: 56.0 (solid expansion)
Business Activity vs. New Orders
Business Activity: Measures current output levels—what is happening right now in the services sector.
New Orders: Measures incoming demand—what will drive activity in coming months.
The practical insight: Rising new orders with stable business activity suggests acceleration ahead. Falling new orders with elevated business activity suggests deceleration ahead.
Employment Component and Payrolls
The services employment subindex correlates with service-sector payroll gains in the monthly employment report.
| Employment Subindex | Typical Payroll Implications |
|---|---|
| Above 55 | Strong service-sector job gains likely |
| 50-55 | Moderate job growth |
| Below 50 | Potential service-sector job losses |
The caveat: The correlation is imperfect. The employment subindex measures whether more firms are hiring than firing—not the magnitude of hiring.
Prices Paid in Services
The services prices paid subindex captures input cost pressures across labor-intensive sectors.
Why it matters for inflation: Services inflation is stickier than goods inflation. Elevated services prices paid often precedes persistent core inflation readings.
Threshold interpretation:
- Above 60: Significant cost pressures (inflationary)
- 50-60: Moderate increases
- Below 50: Cost pressures easing
Composite PMI Indicators
S&P Global publishes a Composite PMI that combines manufacturing and services into a single reading:
The calculation: Composite PMI = (Manufacturing PMI x Manufacturing Share) + (Services PMI x Services Share)
For the US: Services weight is approximately 70%, manufacturing 30%.
Why composites matter:
- Single number for overall economy
- Better GDP correlation than either sector alone
- Useful for cross-country comparisons
Manufacturing vs. Services Divergence
The two sectors can send conflicting signals:
| Manufacturing | Services | Interpretation |
|---|---|---|
| Contracting | Expanding | Economy likely growing; manufacturing-specific weakness |
| Expanding | Contracting | Unusual—watch closely for recession risk |
| Both contracting | Elevated recession probability | |
| Both expanding | Broad-based growth |
2023-2024 example: Manufacturing contracted (below 50) for much of the period while services remained firmly in expansion (above 52). The economy grew despite manufacturing weakness.
Sector-Level Breakdown
The ISM Services report includes industry-level commentary. Useful sectors to monitor:
- Healthcare: Often resilient; demographic tailwind
- Retail trade: Consumer demand signal
- Finance and insurance: Credit conditions indicator
- Construction: Interest rate sensitive
- Transportation: Goods demand signal
The durable lesson: When multiple service sectors simultaneously report deterioration, take it seriously.
Common Pitfalls
- Focusing only on manufacturing PMI: Services drives most of the US economy
- Ignoring component details: The headline can mask divergent trends
- Comparing US and Eurozone composites directly: Different sector weights
- Treating single-month readings as trends: Use three-month averages for trend signals
Checklist for ISM Services Day
Before the release (third business day of month):
- Know consensus expectation for headline
- Note manufacturing PMI released earlier in the week
- Check for sector-specific news that might affect readings
After the release:
- Compare to manufacturing PMI for divergence signals
- Check employment subindex for payroll implications
- Note prices paid for inflation outlook
- Review industry comments for sector-specific insights
Next Step
For the next quarter, track both ISM Manufacturing and ISM Services PMI side by side. Calculate the spread between them. When the spread widens significantly (services stronger than manufacturing by 5+ points), investigate which goods-producing sectors are weak and whether services can carry the economy.