Basics of Arbitrage Funds
What are Arbitrage Funds?
Arbitrage is the process of buying stocks or shares in one market and selling it in another to exploit the price difference. An Arbitrage Fund is a type of hybrid fund which aims to capitalise on proï¬table arbitrage opportunities (price differential in a stock) between cash and derivatives segments of the equity market. Thus opportunity lies in generating a good return between these differences.
So how do Arbitrage Funds work?
These funds will initiate an arbitrage position by buying a stock in the cash segment and selling simultaneously equal quantity of the stock in the futures segment of the market. The positions thus initiated are to be reversed before or during the expiry of the futures series.
Features of Arbitrage Funds
· Endeavor to generate positive returns during market volatility
· Tax-efï¬cient, as tax treatment is similar to equity funds
· Offer relatively risk-free returns among equity investments
· Aims to generate returns through fully hedged exposure to equities
*How are Arbitrage Funds taxed?
Arbitrage funds hold a minimum of 65% in equities where the same is hedged, thus they are taxed as equity-oriented funds. If an investor redeems investments after one year, the gains from overall equities are tax-free up to Rs 1 lakh. Beyond this limit, the investor has to pay 10% long term capital gains tax. The short-term capital gains tax is also lower than other debt funds at 15%.
Who are Arbitrage Funds best suited for?
· Investors who look for low-risk but reasonable returns in a volatile market can consider arbitrage funds as a viable option
· Investors, especially those in the higher income tax bracket can use them to park money for a short period
· Investors with an investment horizon of more than 3 months can park a portion of their portfolio to arbitrage funds
*The tax provisions mentioned above are as per current tax laws and are subject to change.
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