Analyzing and Mitigating Tracking Error in Passive Equity Investing

As a portfolio manager at a large investment firm, you have been tasked with constructing a passive equity portfolio that closely tracks the performance of the S&P 500 Index. Your supervisor has emphasized the importance of minimizing tracking error in the portfolio's performance relative to the index.

Consider the various causes of tracking error, including sampling error, non-synchronous trading, and differences in sector allocations. Discuss how these factors can impact a passive strategy's tracking error and the methods that can be utilized to mitigate these effects.

In your response, provide a detailed analysis that interprets tracking error in the context of passive investment management. Additionally, suggest optimal strategies for maintaining tracking error within acceptable limits while pursuing a passive investment style.