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Over the last few days I've posted a number of entries related to the "Delta Factor" (DF) analysis. This flurry of DF articles came about as a result of questions tied to entry into the market. If one is holding cash, when is a good time to begin investing that cash into equity and bond vehicles, be it individual stocks, index mutual funds, or index ETFs? Readers know I am partial to non-managed index ETFs such as those available from Vanguard and iShares.

Assuming one is holding cash, what clues are available indicating it is time to be invested?

  1. Investors using the ITA Risk Reduction model are fully invested in the asset classes we are using in this model. That would indicate one should be fully invested. However, the market has had a nice run since the price of the individual ETFs moved from below to above their respective 195-Day EMAs. Therefore, we need more clues.
  2. Is the Relative Strength Indicator (RSI) hovering below or near the 30% level? Likely not at this time as the market already made a nice move.
  3. What is the "Delta Factor" indicating and why should one place any confidence in this indicator? To answer the question of confidence, I took a few iShare equity ETFs and ran a few analysis during market "inflection" points. The reason for selecting iShare ETFs is that they have longer historical records and we are going back into the early 2000s for some of our data. Vanguard ETFs did not exist at this time.

For the first set of numbers I'll select only QQQ and SPY as both have records that go back to early 1999. The dot.com bubble began to unravel in early 2000 and was nearly finished by 2003. Check these numbers. QQQ was crushed in the crash, while the S&P 500 (NYSEARCA:SPY) held up rather well. The analysis spanned the period from 4/1/1999 through 4/1/2002.

Now we move on to 8/1/2000 through 8/1/2003 where we can include more ETFs with sufficient historical data. We are now seeing the future projections exceed the historical performance in a number of cases. QQQ in particular looks to have a high probability of doing well over the next six to twelve months. Remember, this is what DF looked like on August 1 of 2003. What was the "Delta Factor" showing in August of 2007. Check out the next screen shot.

The following "Delta Factor" data runs from 8/1/2004 through 8/1/2007 or a few months before the market hit its peak before the 2008 crash. Note the negative signals that were showing up in the Delta column. Future projections were falling behind historical results. This does not bode well for advocates of reversion-to-the-mean.

What was the story for these same ETFs come December 1 of 2007. Take a look in the next table.

We see the same results for the 12/1/2004 through 12/1/2007 period. It was not a good time to be moving into these equity ETFs.

Where do these same ETFs stand right now if we select 4/3/2009 through 4/3/2012? What is your guess? Are you surprised the market is overbought if the "Delta Factor" provides any clues? Please keep in mind that I used a three-year period for this analysis so I am starting the analysis very close to the bottom of the last bear market. Regardless, it does give one pause before throwing a lot of money into the equities market.

Several points to keep in mind. I've found that the "Delta Factor" tends to be a few months early with its projections. For this reason, the market may not hit a top for several months. This is why it is critical to watch the signals generated by the ITA Risk Reduction model. The TLT ETF is one where we will likely begin to sell when the portfolios holding this ETF are examined this month.

Source: QPP Analysis Of iShare ETFs Over Different Periods