ISM Services PMI Preview: Why the inflation component could trigger a dollar rebound

Timing is everything. As the release of Nonfarm Payrolls has triggered a downward dollar correction, the next significant release could unleash fresh dollar strength – almost regardless of the outcome. 

The ISM Services Purchasing Managers' Index for June is released on July 6, after the NFP. That means it does not serve as a hint toward the labor figures but is still useful to gauge the state of America's largest sector. There are good reasons to assume the focus would be on the Prices Paid component – which represents inflation. 

What the recent reaction tells us

The reaction to the ISM Manufacturing PMI provides hints about the dollar's reaction. While its Employment component – a clue toward the jobs report – missed estimates, the dollar advanced. Why? Purchasing managers in the industrial sector reported sky-high inflationary pressures – an all-time record high of 92.1 points.

Source: FXStreet

The same scenario could repeat itself in the services sector. Neverthless, the economic calendar is pointing to a drop of from 80.6 in May to 69.6 for this forward-looking inflation gauge. A low bar opens the door to an upside surprise.

Moreover, the Nonfarm Payrolls report included a relatively moderate increase in wages – 0.3% MoM and 3.6% YoY – that reflected a lack of inflationary pressures coming from American workers' pockets. If this component exceeds estiamtes, it would rewrite the inflation narrative – this time in favor of the US dollar. 

The headline ISM Services PMI is also expected to retreat but remain at on high ground at 63.5, far above the 50-point threshold separating expansion from contraction. Even in case of a miss, any score above 60 represents fast growth, and substatnailly above pre-pandemic levels.

Source: FXStreet

Timing 

Zooming out from these top-tier figures, the Federal Reserve is still on course to taper its bond-buiying scheme, a first step toward raising interest rate. That June meeting is what triggered the greenback's gains. The NFP's headline outstanding increase of 850,000 jobs strrenthened that notion, yet the publication served as a trigger to undo some of bullish dollar positions, which had become overstretched. It also came ahead of a long weekend, adding to the need to balance things out.

The ISM Services PMI is the first significant post-NFP/post-Independence Day weekend release, and it could serve as the trigger for the dollar to resume its broad uptrend. In addition, it is released ahead of the Fed's meeting minutes on Wednesday, and that could also remind traders of the bank's newly found hawkishness. 

Conclusion

The ISM Services PMI and its all-important Prices PAid component are projected to drop and come after the dollar corrected to the downside. A small beat of estimates – especially in the inflation gauge – could reignite the dollar rally.