Exchange traded funds (ETFs) get straight A’s in performance tracking. ETFs listed in the U.S. saw low index tracking error in 2006, delivering returns fairly in line with their target benchmarks. John Spence of MarketWatch.com reports tracking error in 2006 averages 0.29% for U.S. major-market ETFs, 0.33% for U.S. style ETFs, 0.61% for U.S. sector and industry funds, 0.72% for international portfolios and 0.09% for fixed-income ETFs. The sources for ETF tracking error involve fees and expenses, portfolio "optimization", index changes and policies on reinvestment of dividends.

ETFs that focus more on illiquid ares like small-caps and emerging markets stocks have higher tracking error due to trading spreads, liquidity and portfolio-management issues.

The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.

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