How index ETFs track their benchmarks (2024)

FAQs

How index ETFs track their benchmarks? ›

The most common way to create an index portfolio is to fully replicate a target index by purchasing securities according to their relative weight in the index. This process helps ensure an ETF tightly tracks its index while closely matching key index characteristics.

Actively Managed ETFs. Passive ETFs are commonly referred to as index funds, which track specific benchmarks. Passive ETFs aim to replicate the benchmark's performance and the fund's asset allocation is based on this goal.

ETFs track a benchmark index by holding all the securities in the index. To closely replicate the performance of the index, the ETF will hold the securities in equal proportion to their weighting in the index.

A favored measure is tracking difference—a statistic that looks at how far an ETF has lagged its benchmark, on average, over a one-year period. Tracking difference incorporates the effects of an entire range of management decisions, from securities lending to optimization decisions.

You can also use a benchmark that tracks a similar set of investments (for example, the S&P 500 Index) to monitor the performance of active ETFs. Fees and expenses paid by the ETF reduce its returns – the ETF returns will not exactly match the returns of the benchmark.

The S&P 500 is widely used to (i) direct capital through “passive” investing, (ii) benchmark investment portfolios, and (iii) evaluate firm performance.

There are big differences between how well different ETFs can track an index. Some ETFs can beat their index; others fall several points below it.

The fund employs a passively managed, full-replication approach, investing in the stocks comprising the index with similar proportions. Through this approach, Vanguard's S&P 500 ETF seeks to offer a complete exposure to the index it monitors and minimize the tracking error.

The most common way to create an index portfolio is to fully replicate a target index by purchasing securities according to their relative weight in the index. This process helps ensure an ETF tightly tracks its index while closely matching key index characteristics.

With a physical ETF, the ETF provider attempts to track an index by buying the underlying assets of the index with the same weight as in the index, in order to mirror its rise and fall (full replication). If the ETF provider only invests in a selection of the assets, this is called sampling.

What metrics are used to compare ETFs? ›

Power Rankings. Compare ETF themes based on popular financial metrics, including 3-month fund flows, 3-month return, AUM, expense ratio, dividend yield and issuer revenue.

Compare the market price to the NAV to determine if the ETF is trading at a premium or discount to its NAV. If the market price is higher than the NAV, the ETF is trading at a premium. If the NAV is lower than the price, the ETF is trading at a discount.

Morningstar excels in its ability to provide a holistic analysis of ETFs. Investors can access detailed information on a fund's historical performance, risk metrics, and expense ratios.

ETF performance is usually assessed according to metrics like capital gains, dividends, expense ratios, and overall net asset value. Investors need to examine an ETF's historical and current performance, composition, and risk-adjusted returns to make an informed investment decision.

A benchmark is a standard that is used to measure the change in an asset's value or another metric over time. In investing, benchmarks are used as a reference point for the performance of securities, mutual funds, exchange-traded funds, portfolios, or other financial instruments.

An actively managed ETF is an exchange-traded fund with a manager or team making decisions about the holdings. Generally, an actively managed ETF does not adhere to any passive investment strategy. Many actively managed ETFs track a benchmark index, but managers may deviate from it as they see fit.

An index fund is a type of mutual fund or exchange-traded fund that aims to mimic the performance of an index, such as the S&P 500^®. Index funds tend to offer investors lower costs and taxes than some other types of funds. They're also relatively lower maintenance.

The Lipper Institutional Money Market Fund Average is a widely recognized and accepted benchmark for money market fund performance. The Index is a measure of the total return market value performance average of funds tracked by Lipper Analytical Services, Inc.