What is the tracking error of 1. index fund?
Index fund is an investment tool based on a specific index, and its portfolio completely or partially copies the constituent stocks of the index. Tracking error refers to the difference between the performance of index fund and the index it tracks. For example, the performance of an index fund lags behind the index by 2%, so its tracking error is 2%.
Second, the causes of tracking error
The causes of tracking error can be divided into two categories: internal factors and external factors.
Internal factors include fund management fees, cash management, selection of constituent stocks, weight distribution, etc. Fund management fee refers to the cost of managing the fund, which is the fee that index funds must pay and can affect the rate of return of the fund. Cash management means that when a fund buys and sells constituent stocks, it may need a certain amount of cash to pay transaction expenses and liquidation expenses. The choice of constituent stocks refers to the ability and method of fund managers to choose stocks. Weight distribution refers to how the fund allocates funds to reflect the relative weight of each constituent stock in the index.
External factors include market environment, stock price fluctuation and index reconstruction. Market environment refers to the overall performance of the market, including stock market, bond market and commodity market. Stock price fluctuation refers to the fluctuation range of stock price, which will affect the performance of index funds. Index reconstruction refers to the change of index constituent stocks, which may have an impact on the performance of index funds.
Thirdly, how to evaluate the tracking error?
The most commonly used index to evaluate tracking error is tracking error rate, that is, the difference between the annual return rate of index fund and the annual return rate of the index it tracks. The lower the tracking error rate, the closer the performance of index funds is to the index they track. Another indicator is the information ratio, that is, the ratio of excess return to tracking error of index funds. The higher the information ratio, the closer the performance of index funds is to the index they track.
Fourthly, how to reduce the tracking error?
The method for reducing the tracking error comprises the following steps:
1. Reduce the management fee: the management fee is the fee that the index fund must pay, so reducing the management fee can reduce the tracking error.
2. Optimize cash management: Cash management means that when a fund buys and sells constituent stocks, it may need a certain amount of cash to pay transaction costs and liquidation costs. Optimizing cash management can reduce cash holdings and thus reduce tracking errors.
3. Optimize the selection of constituent stocks: Optimizing the selection of constituent stocks can improve the ability and methods of fund managers to select stocks, thus improving the performance of index funds.
4. Optimize the weight distribution: Optimizing the weight distribution can improve the fund's ability to allocate funds to reflect the relative weight of the constituent stocks in the index, thus improving the performance of the index fund.
Tracking error refers to the difference between the performance of index fund and the index it tracks. The most commonly used indicators for evaluating tracking error are tracking error rate and information ratio. The methods to reduce tracking error include reducing management expenses, optimizing cash management, optimizing the selection of constituent stocks and optimizing weight distribution. Investors should carefully evaluate the tracking error of index funds and choose funds with lower tracking error.