If one is launching a new portfolio or added an asset class to the portfolio, when does it make sense to purchase an ETF? While there is no perfect answer to this question, one can use the laws of probability through the projections of something I call the "Delta Factor." Before looking at an extensive list of ETFs under current market conditions, let's go back three years to April 13th of 2009. The broad market was just off the bear market lows. What were the "Delta Factor" projections showing at that time?
In the following analysis I was limited in the ETFs I could use due to the historical data requirements. For that reason I selected a number of iShare ETFs plus SPY and QQQ, two broad market ETFs.
The Delta column is simply the difference between the Future and Historical percentages. Note the vast majority of green (positive) background colors and no red backgrounds. Similarly, the "Delta Factor" (DF) column is filled with Buy and Hold projections. DF uses a standard broad market as the reference. In other words, is the individual ETF expected to outperform the standard? I use Vanguard's Total Stock Market Index Fund (MUTF:VTSMX) as the reference point when calculating DF.
The first screen shot shows the DF projections as of April 13, 2009.
In the following screen shot we observe the "Delta Factor" projections based on the current market conditions. The projections are not as compelling as they were three years ago. The situation is mixed, particularly when looking down the Delta Column. Future projections for most of the ETFs are only slightly above the Historical performance. In other words, we have had a great run over the past three years and this is not likely to be repeated over the next three years. At least the probability arguments are not strong for a repeat performance.
However, there are pockets of opportunity and they reside mainly in the international markets such as VEU, VWO, and RWX.
Disclaimer: Running behind the scenes is a software program called Quantext Portfolio Planner,developed by Geoff Considine, a contributor to Seeking Alpha. The "Delta Factor" calculation is highly dependent on the Future projections column and anytime one is extrapolating data, there are inherent dangers. Therefore consider these projections as probability possibilities, not absolute predictions.
DF is frequently discussed in portfolio development at ITA Wealth Management.