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NISM Certifications · NISM-Series-XXI-A: Portfolio Management Services (PMS) Distributors · Collective Investment Vehicles

An investor bought units of an exchange traded fund (ETF) tracking the Nifty 50 at Rs 200 per unit. The ETF's NAV that day was Rs 198 and the Nifty 50 fell by 1% the next day with no tracking difference. Tracking error for an ETF is best understood as:

Tracking error is the standard deviation of the differences between an ETF's returns and its benchmark's returns over time. It shows how consistently the fund follows the index. A premium or discount to NAV on one day is separate from tracking error.

  1. AThe difference between the buying price and NAV on the purchase day
  2. BThe standard deviation of the difference between the ETF's returns and its benchmark's returnsCorrect
  3. CThe brokerage paid on purchase
  4. DThe fall in the index on a given day

Explanation

Tracking error measures the variability, as a standard deviation, of the return differences between the ETF and its benchmark over time. The premium of market price over NAV (Rs 200 vs Rs 198) is a different matter, so option A is wrong. Brokerage and index moves are not tracking error.

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