Buoyancy in arbitrage funds: Do you want to join the bull run?

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The raging second wave of Covid-19 and localised lockdowns have resulted in volatility in stock markets and looking to make the optimum use of this period of uncertainty, smart investors pumped in Rs 7,245 crore into arbitrage funds. These funds are considered as one of the safest among equity-oriented schemes and also offer superior tax benefits compared to debt funds.

“Arbitrage funds make sense when money is to be parked for 6-12 months. Since they fall under equity mutual fund category they are taxed as per short term capital gain rate of 15% whereas debt funds are taxed as per your income tax slab, which can be higher than 15%,” explained Kaustubh Belapurkar, Director – Manager Research at Morningstar Investment Adviser.

In a volatile market, the opportunity for arbitrage increases as the spread between spot and future price widens. 

What are arbitrage funds?

Arbitrage funds are equity-oriented hybrid funds that finds a price difference of the same security between two or more markets and capitalising on it. As an investor, if you find the price of a stock to be different in the futures and spot markets, then you have an opportunity to cash in on it. But this requires a certain level of expertise and a lot of research in understanding how the market will function. That’s where arbitrage mutual funds come into play.

For example, the equity share of a company XYZ trades in the cash market at Rs 100 and in the future market at Rs 105. The fund manager buys XYZ shares from the cash market at Rs 100 and shorts a futures contract to sell the shares at Rs 105. Towards the end of the month when the prices coincide, the fund manager will sell the shares in the futures market and generate a risk-free profit of Rs 5 per share less the transaction costs.

“Investing in arbitrage funds makes more sense when markets are slightly volatile and choppy as we have seen from the past few months arbitrage opportunities exists or the premium that exists in the market has widened,” said Belapurkar.

Best performing arbitrage funds

(Disclaimer: The above list is for informational purpose only. Before investing, please consult your financial advisor)