U.S. manufacturing activity was in contraction for a seventh straight month in October, and the pace of decline unexpectedly accelerated, as firms remain reluctant to invest in new capacity on concerns that federal fiscal policy could be inflationary whichever major party wins the Nov. 5 election, the latest monthly data from the Institute for Supply Management showed. The sector index compiled by the ISM, which indicates general direction, fell to 46.5 in October after being flat at 47.2 in September and edging up 0.4 point to 47.2 in August. The latest reading came in well below the median economist forecast of 47.6.

"Demand remains subdued, as companies showed an unwillingness to invest in capital and inventory," Timothy Fiore, chair of the ISM Manufacturing Business Survey Committee, said in a statement, repeating his recent assessment. Firms are concerned that fiscal policies proposed by both the Democrats and Republicans could ignite a resurgence in inflation and make it"a lot harder" for the Federal Reserve to guide inflationary around its 2% target while keeping the economy from slumping, he told reporters.

Looking ahead, Fiore projected that the ISM would pop above the crucial 50 mark in February 2025, by which time companies should be able to assess how inflationary the new administration's economic policy would be. He reminded that the ISM index tends to lead conditions in the sector by six to nine months.

It was difficult to determine how much the recent hurricanes dampened overall manufacturing activity in October but they appear to have temporary, limited effects, hampering some production and pushing up the costs, he said. An uptick in the prices paid subindex is a"blip" caused by disrupted transportation and does not reflect economic fundamentals, he stressed.

Among the five subindexes that directly factor into the manufacturing PMI, the new orders index contracted in October for the seventh consecutive month, registering 47.1, an increase of 1.0 point compared to September figure of 46.1. The production index dipped 3.6 points to 46.2 after rising to 49.8 in September from 44.8 in August, which was the lowest since 34.2 in May 2020, when world demand plunged at the initial phase of the pandemic.

The employment index stood at 44.4, up 0.5 point from 43.9 in September."Respondents' companies are continuing to reduce head counts through layoffs, attrition and hiring freezes," Fiore said.

The supplier deliveries index fell 0.2 point to 52.0 after rising 1.7 points to 52.2. This is the only ISM subindex that is inversed; a reading of above 50 indicates slower deliveries. The manufacturing inventories index stood at 42.6, down 1.3 points from 43.9 the previous month. It has remained under the neutral line of 50 for the past 21 months except in August 2024.

Among other subindexes, the prices paid index was at 54.8, up 6.5 points from the September reading of 48.3. The increase was led by energy and transportation costs, which was partially offset by weakness in the steel markets.

Purchasing managers data are expected to show ongoing contraction with the ISM index nearly unmoved at 47.6 in October versus 47.2 in September.

The manufacturing composite index from the Institute for Supply Management is a diffusion index calculated from five of the eleven sub-components of a monthly survey of purchasing managers at roughly 300 manufacturing firms nationwide. The survey queries purchasing managers about the general direction (tracked in volumes) of production, new orders, order backlogs, their own inventories, customer inventories, employment, supplier deliveries, exports, and imports. Data on changes in input prices (prices paid) are also tracked. The five components of the composite index are new orders, production, employment, supplier deliveries, and inventories (their own, not customer inventories). The five components are equally weighted. The questions are qualitative rather than quantitative; that is, they ask about the general direction rather than the specific level of activity. Each question is adjusted into a diffusion index which is calculated by adding the percentage of positive responses to one-half of the unchanged responses.

Investors need to keep their fingers on the pulse of the economy because it dictates how various types of investments will perform. By tracking economic data such as the ISM manufacturing index, investors will know what the economic backdrop is for the various markets. The stock market likes to see healthy economic growth because that translates to higher corporate profits. The bond market prefers less rapid growth and is extremely sensitive to whether the economy is growing too quickly and causing potential inflationary pressures.

The ISM manufacturing data give a detailed look at the manufacturing sector, how busy it is and where things are headed. Since the manufacturing sector is a major source of cyclical variability in the economy, this report has a big influence on the markets. More than one of the ISM sub-indexes provide insight on commodity prices and clues regarding the potential for developing inflation. The Federal Reserve keeps a close watch on this report which helps it to determine the direction of interest rates when inflation signals are flashing in these data. As a result, the bond market is highly sensitive to this report.

Importance
The ISM manufacturing composite index indicates overall factory sector trends. The relevance of this indicator is enhanced by the fact that it is available very early in the month and is not subject to revision.

Interpretation
The bond market will rally (fall) when the ISM manufacturing index is weaker (stronger) than expected. Equity markets prefer lower interest rates and could rally with the bond market. However, a healthy manufacturing sector, indicated by rising ISM index levels, bodes well for corporate earnings and is bullish for the stock market.

The level of the ISM manufacturing index indicates whether manufacturing and the overall economy are growing or declining. Historically, readings of 50 percent or above are associated with an expanding manufacturing sector and healthy GDP growth overall. Readings below 50 indicate a contracting manufacturing sector but overall GDP growth is still positive until the ISM index falls below 42.5 (based on statistics through January 2011). Readings in between these two levels suggest that manufacturing is declining while GDP is still growing but only very slowly.

In addition to the ISM manufacturing composite index, the various sub-components contain useful information about manufacturing activity. The production component is related to industrial production, new orders to durable goods orders, employment to factory payrolls, prices to producer prices, export orders to merchandise trade exports and import orders to merchandise imports.

Vendor (supplier) deliveries are an important component of report. The more slowly orders are filled and delivered, the stronger the economic growth and the greater the potential for inflation. When orders are filled quickly, it means that producers don't have as many to fill.

The ISM manufacturing composite index and its sub-components can be subject to some monthly volatility, making the three-month average of the monthly levels more indicative of the trend.