The calendar year 2015 has been a year of consolidation. After seeing
the 30K peak the markets have seen a phase of correction amidst the bout of
volatility. These volatile conditions have been conducive for specialized theme
of mutual funds, known as arbitrage funds.
Arbitrage is basically buying in one market and simultaneously selling
of an asset in another to gain from the temporary price difference. It is
considered as a riskless profit for an investor. Arbitrage funds use these
price differences and execute the strategies in various segments such as
cash-cash, cash-future etc.
Swing Patterns
Before we delve more in arbitrage funds, following is the analysis of
daily swing patterns of Sensex. In CY
2015, Sensex has witnessed the highest 77 sessions of 200-300 points’ swings,
62 sessions in 300-400 points band. In CY 2014, Sensex saw the highest, 91
sessions of 100-200 points’ swings and 88 sessions in 200-300 points band.
Another striking difference in these 2 graphs is, 2015 observed more
high range swing sessions (300 to 800 points) vis-à-vis CY 2014. It was a tough
fight between 100-200 band and 200-300 band in 2014 but in 2015, 200-300 band
gained prominence over others. These conditions are best suited for arbitrage
funds and with use of algorithmic trading these index swings might grow leaps
and bounds.
Arbitrage Funds – a
hybrid option
Arbitrage
funds are categorized as equity funds (with average exposure of more than 65%
of equity) but are comparable to debt funds from the return perspective. They
offer a near risk-free return along with tax advantage against debt funds i.e
no long term capital gain tax if one holds it for more than 1 year. In case of
short term capital gains too, arbitrage funds enjoy a tax advantage over debt
funds with the indexation benefit factored-in.
The
above image captures the performance of “Arbitrage Funds” operational in Indian
MF scene. All the funds are yielding
positive on YTD basis. The performance of these stocks have also never faltered
on other timelines as well with “Reliance Arbitrage” being the consistent
performer with returns of above 8%.
On
the AUM front, Arbitrage funds basket has more than doubled from Rs 12000
crores of AUM in Jan 15 to around 30000 crores in Nov 15. JM funds leads the
pack with Rs 5675 crores of corpus. Most of these funds have an exit load of
0.25% to 0.50% applicable for 90 days tenure.
In a nutshell,
investors need to understand the concept of derivatives before investing in any
arbitrage fund. It should not be treated as an equity fund aiming for capital
appreciation. The returns of these
funds are directly proportional to the volatility in equity markets: the more,
the merrier.
Exposure to these funds should not be more than
5% to 10% of the overall portfolio. They can be a good investment candidate for
short term or as a “parking fund” for long term equity investments as they
offer a tax advantage over debt funds.
The article has been originally published on Finalaya
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