What is Arbitrage?
Arbitrage means simultaneous buying and selling of an asset in two different markets to profit from price inefficiencies between the markets. The cash and the futures market are the two markets for arbitrage.
In the cash or spot market, transactions happen in real-time. In the futures market, you can buy the rights to purchase or sell equity shares on a future date at a predetermined price. The price of an asset in the futures market can be higher or lower than the spot market depending on investors’ sentiment, and arbitrage funds try to capitalise on this price difference.
What are Arbitrage Funds?
Arbitrage funds are low-risk, average-return mutual funds that work on the principle of arbitrage. These funds aim to generate profit for investors by transacting in the derivative and the cash market. Since the funds simultaneously buy and sell assets, they avoid the risks associated with long-term investments.
Who should invest?
Arbitrage funds generate low-risk profits from simultaneously buying and selling assets. So, these funds are suitable for risk-averse investors to park their surplus capital safely when there are persistent market fluctuations.
Arbitrage Funds Returns
Returns depend on the number of arbitrage opportunities available in the market. While the returns are average, arbitrage funds perform better when the market is fluctuating.
Things to remember
- Manager: Fund manager is responsible for effectively identifying and leveraging arbitrage opportunities.
- Risks: These funds trade on the stock exchanges, so counterparty risks are not involved. Also, arbitrage funds don’t attract risks like other diversified equity mutual funds.
- Returns: As the buying and selling opportunities are narrow, the returns are average.
- Cost: These funds charge an annual expense ratio, which is a percentage of the total fund invested and includes the fund manager’s fee and fund management charges.
- Tax: Arbitrage funds are treated as equity funds, and taxes are levied on them per the capital gain tax rules.
- Goal: These funds are excellent for short or medium-term investment goals.
Top five arbitrage funds in India
- Invesco India Arbitrage Fund
- Kotak Equity Arbitrage Fund
- Edelweiss Arbitrage Fund
- Tata Arbitrage Fund
- Nippon India Arbitrage Fund