Arbitrage funds have stood as a popular choice for several investors looking for low-risk investments that offer stability to the portfolio and satisfactory return. These funds come under the hybrid fund category. They balance equity investments with debt instruments when arbitrage opportunities are limited. Arbitrage funds capitalise on price differences between the cash and futures markets to generate returns for investors.
With several arbitrage funds available, it is challenging to make the optimal decision. This article offers you the arbitrage funds meaning and major factors to consider when choosing the arbitrage fund for your investment.
Arbitrage Funds Meaning
Arbitrage funds are equity-oriented funds that integrate opportunities for arbitrage in the market. These opportunities can include different pricing in the future and spot markets, as well as a pricing mismatch between any two exchanges or more. The fund manager of arbitrage funds purchases and sells the shares at a single time and gains the difference between the purchasing price and selling price of the share.
Unlike traditional investing, where investors buy assets and wait for their value to appreciate, arbitrage funds generate returns through the simultaneous buying and selling of securities. The price difference between the purchasing and selling price of the share is very small, which is why the fund manager needs to make multiple trades in a single day to earn a good profit.
Under arbitrage funds, the fund manager invests in equities when they get an appropriate opportunity to earn the returns. In case there are no arbitrage opportunities available, the fund manager makes an investment in the short-term money market instruments to maintain liquidity and stability.
Key Factors To Consider When Choosing the Best Arbitrage Fund
Now that you know the arbitrage funds meaning, when choosing the best arbitrage fund for your investment, make sure to consider the key points given below:
Fund Expenses
Certain ongoing charges, such as exit loads and total expense ratio, can slash returns in the long run. Since arbitrage funds aim to provide steady returns, investors should prefer funds with lower expense ratios to maximise profits.
Fund Management Experience
Fund managers’ credentials are crucial because the implementation of arbitrage strategies relies on their skills and experience. Funds handled by experienced managers must be prioritised. An investor can go through the details, such as years of arbitrage experience, past designations, and other managed schemes on the fund house websites and AMFI.
In addition, by learning how arbitrage funds work and regularly reviewing them, you and your fund manager can ensure that the selected investment will continuously offer as expected over the desired time duration.
Long-Term Returns Of the Fund
Analyse the long-term returns of the fund and experience the consistency in returns. You can find data on financial websites or news portals. Even though past returns and performance are crucial, remember that they do not present the real picture of the performance of the fund.
Underlying Securities Of the Fund
Go through the company’s stocks, where the fund will be investing, its money, and the industries in which these companies function. It should not be very concentrated in a few stocks or sectors, rather well-diversified.
Size Of the Fund
Larger arbitrage funds may struggle to exploit short-lived opportunities effectively, as executing large trades without impacting prices can be challenging.
Quarterly or Monthly Factsheets
Regular factsheets offer insights into cash levels, strategy, portfolio, turnover, and stock and sector concentration.
Expense Ratio
Make sure to check the fund’s expense ratio. A higher expense ratio can eventually reduce your overall profits in the long run.
Why Invest In Arbitrage Funds?
Some potential reasons for investors to invest in arbitrage funds include the following:
Decent Returns
Arbitrage funds come with decent returns. These returns are usually more than those of traditional instruments such as fixed deposits. In addition, the taxation of arbitrage funds makes it more tax-friendly than fixed deposits.
Gain the Most From Volatile Markets
Markets are entirely volatile. However, due to this volatility, arbitrage opportunities are created in the market. When markets go down or up regularly, arbitrage opportunities are more frequent.
Final Thoughts
In addition to understanding the arbitrage funds meaning, proper selection and in-depth research based on qualitative and quantitative merits are important to identify the optimal arbitrage fund. Investors who have an investment horizon for a year can invest in arbitrage funds. Even though these funds help you achieve profits from the price differentiation, they are subject to market risks and liquidity constraints.
Santosh Kumar, the author behind IndiasStuffs.com, is passionate about sharing valuable insights on a variety of topics, including lifestyle, technology, and Indian culture.
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