Arbitrage Funds Gain Popularity as Investors Pour in Rs.4,300 Crore in January
Arbitrage funds are gaining popularity among investors due to frequent market fluctuations with major indices showing negative trends. Many investors invested in this fund in January as this fund provide stable returns and tax benefits.
According to the data from the Association of Mutual Funds in India (AMFI), hybrid funds saw inflows of Rs.8,768 crore in January which is more than double the amount in December. Under this category, arbitrage funds were the top choice getting Rs.4292 crore. There is a big difference from the previous month, which saw outflows of Rs.409 crore.
The profits are made in arbitrage funds by taking advantage of the price differences in different market conditions. Stocks are bought at a lower price and sold them at a higher price in the market to make a profit.
One of the main reasons of popularity of this fund is its tax treatment. As we know, these are taxed the same way as the equity funds, this makes them more tax efficient compared to other traditional fixed income investments, where tax rates are mostly higher.
Experts suggest that the increasing investments in arbitrage funds are due to their consistent returns, which have been better than some debt funds over the past one to two years. They also offer tax benefits and serve as a more secure bet at times of uncertainty in the markets.
Though arbitrage funds reduce price risk, investors should be careful of carrying risk because future spreads can change that would impact returns. Liquidity risk is very less due to the process of physical settlement.
Interest rate fluctuations also have an effect on arbitrage fund returns. In the past, when interest rates fall, arbitrage yields tends to shrink.
Industry experts feel that arbitrage funds are better compared to short-term debt funds or fixed deposits than regular equity funds. In contrast to index-based arbitrage strategies, these funds put money into stock futures, which leads to slight fluctuation in performance. They, however, yield higher returns compared to short-duration debt funds.
Over the last few years, market conditions have created profitable arbitrage opportunities. Direct plans of arbitrage funds have given almost 8% in returns in the last one year compared to about 7% for short-duration debt funds such as liquid and overnight funds. Due to their equity tax advantage, arbitrage funds offer after-tax returns than debt funds.
Arbitrage funds are compared to the Nifty 50 Arbitrage Index, and the majority of funds have recently performed better than this index. The index returns have been in the range of 7-7.5%, whereas top arbitrage funds have returned 7-8.2% in the last one year. Large fund houses with big arbitrage funds are Kotak MF (AUM – Rs.57,567 crore), SBI MF (Rs.32,169 crore), and ICICI Prudential MF (Rs.25,324 crore).
Though past performance has been consistent, experts believes that future returns are expected to be influenced by macroeconomic conditions and interest rates. The recent 8% return may prove challenging to sustain, with expectations of between 7-7.5% in the future.
Arbitrage funds have witnessed high demand from all kinds of investors such as retail investors, high-net-worth individuals, and corporates. Arbitrage funds are preferably used for cash management since the investors get their money back after a minimal lock-in period of about 25 days.
Total asset under management (AUM) in this segment has increased substantially to Rs.2.40 lakh crore, three times higher than the earlier lows. Most of the times investors prefer to remain invested for more than a year, although the lock-in period is very less, mainly because of the tax advantage of investment in equities.
With consistent inflows, tax efficiency, and low risk, arbitrage funds remain a favored choice for investors seeking stable returns in a volatile market.
