Ch.10 · Benchmarks and Performance Evaluation · medium
What is 'tracking error' and why is it important for passive funds?
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EXPLANATION
Tracking error measures how closely a passive fund (index fund or ETF) replicates its benchmark. It is the standard deviation of the difference between fund and benchmark returns. For passive funds, lower tracking error is better — it means the fund accurately mirrors the index. Sources of tracking error include cash drag, rebalancing costs, and expense ratio.
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