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.
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.
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.
Funds Returns – sorted on YTD Performance (as on 9-12-2015)
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.
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.