Last week, Bruce Zaro says a series of surprisingly positive buy signals started showing up on his radar screen.

With stocks still tumbling and credit markets in a deep freeze, the portfolio manager figured such signs were simply a product of unusual levels of volatility.

But the performance readings gleamed from his database and customized set of charts haven't fluctuated. As a result, the chief technical strategist at Delta Global Advisors says he's confident enough now to start making plans to wade back into stocks.

Zaro isn't moving helter-skelter into everything, though. Instead, he's sticking to large-cap exchange-traded funds. In fact, Zaro says that mega-caps seem particularly ripe at this time. 

Conditions remain murky at best, he cautions. That means even though targeting blue chips is the safest way to go at this point, his research suggests that investors also need to be aware of differences in benchmarks tied to different large-cap ETFs.

Zaro has been doing comparison tests between equal-weighted indexes and those weighting holdings by traditional market-cap sizes.

In particular, Zaro has been studying backtested as well as actual returns for the underlying benchmarks of a pair of large-cap ETFs. Those are Rydex S&P Equal Weight (AMEX: RSP) and iShares S&P 500 Index (NYSE: IVV).

Zaro says he's found that from May 10, 2000 through Oct. 24, 2008, patterns of index returns represented by the equal-weighted RSP consistently outperformed those of IVV.

That is, until last week. Since then, that multi-year relative strength edge held by RSP's portfolio started to evaporate. Now, it has reversed course. 

That's significant, says Zaro, since the equal-weighted outperformance picture has been so heavily skewed towards RSP. In the past eight years through last week, RSP’s benchmark had returned a cumulative return of -4.77%, while IVV posted -36.82%, according to his data. 

More Than A Head Fake

Is it just a blip? “Typically, relative strength relationships we’ve studied like this with similar ETFs have stayed in place for two years. In this case, it stayed in place for eight years,” said Zaro.

Of course, there have been times when such indicators have gone awry. But Zaro smoothes short-term gyrations in returns by averaging them over several different time periods. In the case of RSP vs. IVV, returns were averaged over a monthly timeline.

"The last significant change we've seen before last week came in January 1991," said Zaro. "At that time, the data indicated cap-weighted S&P 500 tracking indexes started to outperform equal-weighted blue chip indexes. And that outperformance lasted nine years."

He added: "History would suggest we're on the cusp of a major transition to cap-weight from equal-weight indexes among large-cap stock ETFs." 

Since equal-weighted ETFs are often associated with portfolios emphasizing smaller-cap-sized stocks than the S&P 500 Index, Zaro believes that an apparent shift in market sentiment signals a broader move favoring large-cap names.

It's a theme that others have picked up on recently. (See related story here.) But the significance to equal-weighted funds is something that Zaro and his colleagues at Delta Global view as perhaps one of the first concrete signals investors can start to plan on these days.

"It's still too early because we haven't seen enough signs that the selling has abated and buying momentum had come in," he said. "But once the market has clearly turned, we're prepared to start moving client assets into cap-weighted indexes and away from equal-weighted index types of ETFs."

Delta Global is based in Huntington Beach, Calif. It serves mainly institutional investors, but it also has a private client group that serves high net worth individuals. Zaro and his research staff work from offices in Plymouth, Mass.

Looking For An Entry Point 

In order to see a confirmation of this relationship change, he's looking for a breakout by IVV's per share price. That would mean the ETF would have to sell at $99 or greater before he'd move client money into the portfolio. On Tuesday, it closed at $94.19 per share.

"I'm probably going to start to look at initiating positions pretty soon and then add significantly after we see a breakout at around $99 per share," said Zaro.

To play the cap-weighted ETFs, he's also looking at Rydex Russell Top 50 ETF (AMEX: XLG) and the Vanguard Mega Cap 300 Index ETF (NYSE: MGC).

"This is looking like a period when mega-cap stocks could do very well relative to smaller-cap stocks," said Zaro.

On XLG, he's preparing to initiate positions at $78 per share. It enters trading on Wednesday at $75.17. The ETF is heavily skewed toward top holdings such as: Exxon Mobil at 8%, General Electric at 4.5% and Procter & Gamble at 4.4%.

With MGC, Zaro's looking at initiating a partial position in the next few days. He would consider adding substantially to those positions at $34.50 per share. It closed at $33.01 on Tuesday. It has similar names, but different weightings than XLG. For example, Microsoft has 2.5% in the Vanguard ETF, while about 2% in XLG. And MGC's top name is also Exxon, but with half as much of a weighting. 

"The Vanguard ETF has the same basic names, but its weightings are spread around a bit more and it's not quite as top-heavy as XLG," said Zaro.

But he stresses that a more consistent uptrend in the market might be weeks away. "These ETFs are trading at very depressed levels right now that mask their underlying strengths over the longer term," said Zaro. "We're remaining patient, however, and wading back into ETFs that look the strongest to us right now."