Smart money waiting on the sidelines in Arbitrage funds

Mumbai : Arbitrage funds, a category with assets worth ₹2.35 lakh crore, have received inflows of ₹89,400 crore in the last 12 months as rich investors use these schemes to park money for short-term needs. These funds now account for 53% of the net inflows into the hybrid category, according to data from WhiteOak Capital Mutual Fund.

Higher returns than debt funds along with the benefit of equity taxation are driving investors to arbitrage funds.

Distributors point out that many savvy investors are using these schemes to park money as they believe valuations are rich and wait for a correction to deploy more money.

Data from Value Research show that over the last one year, arbitrage funds returned 7.25%, while liquid funds gave 7.13%, and overnight funds returned 6.63%.

Fund managers say that returns from arbitrage funds have slipped by about 50 basis points in the last few months due to large flows in the category and a fall in short-term rates. “There has been a pullback in the markets since the general election results in June, with investors cutting long positions and slowing down their rollovers,” said Bhavesh Jain, fund manager and co-head of factor investing at Edelweiss Mutual Fund.

This has led to returns coming down by 25-50 basis points in the last three months. However, fund managers expect rates to be firm and investors to earn 6.5-7% in the coming months.

Arbitrage funds are a category of hybrid mutual funds that generate returns by capitalising on price differences in various markets through the simultaneous buying and selling of securities. They reduce risk by completely hedging equity exposure and do not carry credit risk. Arbitrage funds are categorised as equity funds for taxation because they allocate a minimum of 65% of their assets to equities.

“Tax efficiency is drawing investors towards arbitrage funds, Arbitrage funds are tax efficient for rich investors compared to liquid
funds or overnight funds,” said Harshad Chetanwala, cofounder of MyWealthGrowth.com.

Compared to debt funds, which are taxed as per slab rates and rich investors pay 30%, short-term gains in arbitrage funds are taxed at 20%, while long-term gains are taxed at 12.5%.

“The arbitrage segment is likely to remain buoyant due to the addition of 45 new stocks in F&O and no rate cuts likely in the next three months,” Jain of Edelweiss said.