2 ETFs Stand Out Among 11 Sectors

by: Lowell Herr

While I favor building portfolios around asset classes instead of sectors, from time to time I will analyze the eleven sectors using Vanguard ETFs. In the following analysis I used a business cycle of five years. This period takes into account the bear market of 2008 and early 2009 as well as the bull market or recovery since March of 2009.

Behind the "Delta Factor" analysis, shown below, is a software program, Quantext Portfolio Planner, developed by Geoff Considine. The "Delta Factor" uses historical data, five years in this example, and the future projections based on a reversion-to-the-mean analysis. That difference forms the Delta column data. Individual sectors are compared against a market standard to come up with a probability projection for each portion of the market.

Since this is a value oriented analysis, it comes as no surprise that VFH, the financial sector, is projected to do well over the next year to three years. The second sector expected to perform above average is domestic REITs or VNQ in particular.

(Click charts to expand)

To view a few market inflection points and "Delta Factor" projections, check out this site. From experience, I've observed that the "Delta Factor" tends to provide both Buy and Sell signals a few months early. However, this problem has a solution.

Rather than buy too early, one can revert to the Point & Figure charts and wait for positive indicators as shown in the following graph.

While neither the "Delta Factor" or the P&F graphs are without error, the combination does provide the investor with a probability tilt of when to sell and when to buy. This is the slight edge we are looking for to enhance portfolio performance with respect to an appropriate benchmark.

Disclosure: I am long VNQ.