What do Arbitrage Funds mean?
To understand an Arbitrage Fund, let’s first look at the word “Arbitrage.” Arbitrage is when you buy something at a lower price in one place and sell it at a higher price in another. It’s a way to make a profit without risk. This happens because sometimes markets don’t work perfectly, causing the same item to be sold at different prices.
For example, imagine Hindustan Unilever (HUL) stock is selling for ₹ 2,375.50 (as of 6th Feb 2025) on one exchange and ₹2,375.60 on another. An investor can buy the stock at ₹2,375.50 and sell it for ₹ 2,375.60/- making a small profit of 10 paise per share with no risk. This is called arbitrage.
Arbitrage happens in different markets, like stock exchanges, futures markets, or even currency exchanges, when there is a price difference. Arbitrage Funds are mutual funds that use these price differences to make money. They buy an asset in one market and sell it in another at a higher price. For example, a stock costs ₹100 in the cash market and ₹105 in the futures market. An arbitrage fund buys it in the cash market and sells it in the futures market. This results in a ₹5 profit.
The best thing about arbitrage funds is that they are considered low-risk investments. Since the buying and selling happen simultaneously, there is no chance of prices changing unexpectedly. Even if the market becomes volatile and prices go up and down quickly, these funds can still profit.
Arbitrage funds are perfect for people who want to invest at a low risk and still earn good returns, especially when the market is volatile. They are taxed like equity mutual funds, which can benefit tax efficiency.
Key Features of Arbitrage Funds:
- Low Risk: Arbitrage funds are considered safe because the fund manager tries to reduce the risk by hedging (protecting against losses). These funds are not affected much by market volatility.
- Benefit from Market Volatility: When the market is more volatile, there are more chances to find mispriced assets, which can help these funds perform better.
- Taxation: Even though arbitrage funds are low risk, they are taxed like equity funds. This means they can give you tax benefits similar to equity investments.
- Not an Alternative to Debt Funds: While arbitrage funds carry lower risk than stocks, they are not a substitute for debt funds, as they don’t react much to interest rate changes.
- Returns Depend on Fund Manager’s Skill: The fund manager’s ability to spot arbitrage opportunities is key. Since more funds are now available, these opportunities can become more challenging, which may lower the returns.
Example: Some popular arbitrage funds include the Invesco India Arbitrage Fund and the HDFC Arbitrage Fund.
When investing in these funds, talking to a mutual fund distributor is always a good idea. They can guide you and help you pick the best options based on your goals and needs.
In short, arbitrage funds are a great option if you are looking for low-risk investments with the potential for moderate returns. They make money by finding price differences between markets and capitalizing on them.
