Arbitrage Mutual Funds: Basics and Benefits Explained
Many experts believe that taking advantage of arbitrage opportunities is a great way to grow wealth. Arbitrage means finding a price difference for the same asset in two different markets and making a profit from it. For example, if you notice that the price of a stock is different in the futures and spot markets, you have an opportunity to make a profit. However, understanding these market dynamics requires a lot of time and research, which most investors may not have.
This is where Arbitrage Mutual Funds come in handy. In this article, we’ll break down what Arbitrage Funds are, how they work, and the benefits they offer.
What are Arbitrage Funds?
Arbitrage Funds are a type of equity-oriented hybrid mutual fund. These funds aim to profit from price differences in the market. For instance, there might be a mismatch in prices between two stock exchanges or between the spot and futures market. The fund manager buys and sells shares at the same time, making a profit from the difference between the buying and selling prices.
This is different from traditional investing, where you buy an asset and wait for its value to grow before selling it. In arbitrage funds, the fund manager buys equities only when there’s a clear chance to earn returns. If there are no arbitrage opportunities, the fund invests in safer options like short-term debt instruments and money market securities. Since the price differences are usually small, the fund manager has to make several trades in one day to generate reasonable profits.
Features of Arbitrage Funds:
Here are the key features of Arbitrage Funds:
- Equity-oriented: At least 65% of the fund’s portfolio is invested in equities or equity-related instruments.
- Hedged Exposure: The portfolio is structured with hedged positions to reduce risk.
- Low-risk: These funds tend to be less risky than other equity funds and can perform well, especially when compared to non-equity investments after taxes.
- Works well in volatile markets: These funds perform best in unstable or volatile markets, where price fluctuations create arbitrage opportunities.
Features of Arbitrage Funds:
Here are the key features of Arbitrage Funds:
- Equity-oriented: At least 65% of the fund’s portfolio is invested in equities or equity-related instruments.
- Hedged Exposure: The portfolio is structured with hedged positions to reduce risk.
- Low-risk: These funds tend to be less risky than other equity funds and can perform well, especially when compared to non-equity investments after taxes.
- Works well in volatile markets: These funds perform best in unstable or volatile markets, where price fluctuations create arbitrage opportunities.
Benefits of Investing in Arbitrage Funds:
Here are some advantages of investing in Arbitrage Funds:
- Lower Risks: Since the fund manager buys and sells securities at the same time, the risk of holding onto an investment long-term is minimized. Additionally, arbitrage funds also invest in debt instruments when there aren’t enough arbitrage opportunities, further lowering risk.
- Good for Low-risk Investors: Arbitrage funds are suitable for investors who want to take advantage of market fluctuations but are not comfortable with high-risk investments.
- Higher Returns in Volatile Markets: During times of market volatility, arbitrage funds can often outperform safer investments like fixed deposits (FDs) and liquid funds.
FAQ's About Arbitrage Funds:
Arbitrage Funds are mutual funds that make money from price differences in the derivatives and cash (spot) markets by buying and selling simultaneously.
These funds are ideal for beginners or investors with a low-risk appetite.
The returns from arbitrage funds depend on how many arbitrage opportunities are available and how well the fund manager can capitalize on them. Volatile markets tend to offer more opportunities, while calmer markets provide fewer.
The main risks include unpredictable payoffs and high expense ratios. If the market is stable and there are fewer arbitrage opportunities, returns might not be as high.
Arbitrage funds allow you to profit from market volatility without taking on much risk. This makes them a great option for conservative investors looking to make steady gains.
Note:
This blog aims to provide general information about Arbitrage Mutual Funds and should be used for educational purposes only. Always do your research or consult a financial advisor before making any investment decisions.
