What is tracking error?
Posted by: Labdhi Mehata on Jun 15, 2020, 06.30 AM IST
1. Tracking error is one of the measures of financial performance used to gauge how well an investment is performing versus its benchmark over a given period of time.
2. It determines the difference between the return fluctuations of an investment portfolio like a mutual fund scheme and the return fluctuations of its benchmark.
2. It determines the difference between the return fluctuations of an investment portfolio like a mutual fund scheme and the return fluctuations of its benchmark.
3. A fund with a low tracking error means its portfolio is closely following its benchmark whereas one with high tracking errors indicates that it is not following the benchmark.
4. The manager of a passively managed fund, like index fund, aims at keeping the differential return as low as possible thereby minimising the tracking error.
5. In index funds, tracking error cannot be zero due to expense ratio, cash flows of the fund and realigning the portfolio when index composition changes.
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