Understanding Tracking Error in Passive Equity Investing

Jane is a portfolio manager responsible for managing a passive equity investment strategy that aims to replicate the performance of the S&P 500 index. She is reviewing the performance of her fund compared to the index and is particularly focused on understanding the concept of tracking error.

Tracking error, which measures the volatility of the difference between the returns of the portfolio and its benchmark, is critical for assessing how well the fund is doing in relation to the index it aims to mimic. As Jane analyzes her portfolio, she considers factors that could impact her fund's tracking error.

Which of the following statements about tracking error and factors affecting it is TRUE?