Your Index Fund Is Not Doing Exactly What You Think
In recent one of my clients asked me, Rahul I have read the technical term “Tracking Error”. Who tracks what & what does this word “Error” stands for. Today I thought let me share over it quick & may be worth knowing mostly if you own an index fund or ETF.
You know how we say index funds simply mirror the market? Well technically true, yes. But practically there is always a small gap. It is called tracking error, it measures how consistently your fund follows its benchmark on a day-to-day basis.
Let us think of it this way. e.g If Nifty 50 gives 15% and your fund gives 14.8%, that 0.2% gap is straightforward calculation. But tracking error tells you whether that gap stayed steady every single day or jumped around.
A fund drifting even slightly from its benchmark is like a slow puncture process, you don't notice it instantly but over the period it costs you. Costs, execution timing, late dividends these are the usual culprits.
Next time when you pick an index fund, look beyond the returns. The fund that tracked its index most consistently, is perhaps doing its job properly. Hope you got this clear now?
Rahul Karandikar
After two decades in technology, Rahul now works with individuals and families who want to think about money with clarity, patience, and a long-term perspective.
