What Are Tracker Funds?
A tracker fund is a type of index fund designed to mirror the performance of a specific market index or a portion of it. These funds aim to replicate the holdings and return rates of their target indices, thereby offering investors broad market exposure at a lower cost.
Key Points to Remember
- Broad Market Tracking: Tracker funds are pooled investments tracking a whole market index or its segment.
- Passively Managed: They focus on replication functions to match the index’s performance without active stock-picking.
- Customization Options: Modern tracker funds can be customized for sectors, themes, and specific market segments.
- Cost Efficiency: These funds generally offer lower investment costs and expenses through index replication.
- Innovation in Market Funds: Enhanced customization allows for more tailored investment opportunities.
How Tracker Funds Work
The term “tracker fund” originates from their principal goal, which is to track the performance of a market index. The concept has dramatically evolved, leading to increased options in the investment market.
Investing in a tracker fund is typically a type of passive investment strategy. Initially, these funds provided a low-cost investment avenue granting access to numerous securities within a market index. The major benefit lies in the lower expense ratios that these funds offer.
Well-known U.S. market indices include the S&P 500, Dow Jones Industrial Average, and Nasdaq Composite. Investors often pick tracker funds over actively managed funds since most fund managers do not consistently outperform these broad indexes.
Most tracker funds come as income units or accumulation units. The former pays out earned income to the fund holders as cash, while the latter reinvents it within the fund.
Special Considerations in Tracker Funds
As financial markets have adapted, investment firms have paired with specialized index creators or designed their own customized indices, aiming for more distinctive investment solutions. Hence, modern tracker funds now come with a broader purview.
These passively managed tracker funds reflect customized indices focusing on unique market segments, themes, and sectors. They extend beyond the traditional growth and value strategies to indexes filtered by diverse characteristics and fundamentals.
Despite this customization, tracker funds maintain low costs for investors through index replication strategies. Significant fund transactions only occur when a customized index undergoes its routine annual reconstitution.
Investors benefit from having a more extensive array of investment options while fund managers can sidestep challenges in surpassing market performance.
Prominent Examples of Tracker Funds
Tracker funds encompass almost every market index globally. A well-known example is the SPDR S&P 500 ETF (SPY), managing $364 billion in assets as of mid-2021, and coming with an expense ratio of 0.0945%. Matchingly, its year-to-date return as of May 2021 closely aligned with the S&P 500’s 12.55% return.
In contrast, companies sometimes develop proprietary indices, offering tailored tracker funds. A notable instance is the Fidelity Quality Factor ETF (FQAL), which emulates the Fidelity U.S. Quality Factor Index focusing on high-quality large-cap and mid-cap stocks.
This Fidelity ETF provides exposure to quality U.S. stocks at reduced costs due to its index-based design. As of May 2021, the fund reported a 34.2% return over the past twelve months while slightly underperforming the Russell 1000’s 42.52% return within the same period.
Related Terms: Investment Fund, ETF, Market Index, Passive Investing, Expense Ratio.
References
- State Street Global Advisors. “SPDR® S&P 500® ETF Trust”.
- Fidelity. “Snapshot: FQAL”.
- Ycharts. “Russell 1000”.
