Investors willing to diversify their holdings tend to invest in different kinds of mutual funds. You can buy bonds, stocks, and many other securities when you combine funds from several sources. Fund managers are usually your fund supervisors and have a goal of producing profits or income for you using different types of funds. When talking about different types, arbitrage funds are distinct in terms of their investment strategies and traits.
Buying and selling investments in several markets is the goal of an arbitrage fund. Through arbitrage funds, people can benefit from even small price differences in these markets. If you are thinking about investing in arbitrage funds, you should know how they operate and how they differ from other mutual funds. This is essential before investing. Read the article to learn about arbitrage funds and find the differences between an arbitrage fund and other mutual funds.
What Are Arbitrage Funds?
Arbitrage funds meaning–a sort of hybrid mutual fund that earns money by taking advantage of pricing gaps across different markets. Investors can use these funds to invest in equities and equity-related products. These funds make use of the mismatches between the cash and futures markets.
How Do Arbitrage Funds Work?
Arbitrage funds make money from market inefficiencies. Investors purchase and sell the same security in various marketplaces. Index arbitrage is another option where an ETF is purchased at a discount, and the underlying equities are sold at higher prices. They are relatively low-risk investments because of this method. It provides profits without much exposure to market volatility.
Key Differences from Other Mutual Funds
While you now understand what arbitrage funds meaning is, let us look at the key differences between arbitrage funds and other types of mutual funds:
Investment Strategy
- Arbitrage Funds: They focus on making use of the price differences between markets. They require active trading and market analysis that helps them identify and earn profit on these discrepancies.
- Other Mutual Funds: They generally invest in a diversified portfolio of stocks, bonds, or a mix of both. Their mutual fund returns are more dependent on the overall market performance.
Risk Level
- Arbitrage Funds: Offer low to moderate risk, as they are market-neutral and aim to generate consistent returns regardless of market conditions.
- Other Mutual Funds: Risk levels vary. Equity funds are generally at a higher risk, while debt funds offer lower risk but also lower returns.
Return Potential
- Arbitrage Funds: The arbitrage fund provides moderate returns. And these funds are enough for periods of high market volatility.
- Other Mutual Funds: Returns are sometimes higher. As in the case of equity funds, they come with greater risk.
Liquidity
- Arbitrage Funds: Moderate liquidity, with redemption typically taking 2-3 business days.
- Other Mutual Funds: Vary in liquidity. Liquid funds usually offer high liquidity with redemption on a T+1 basis.
Taxation
- Arbitrage Funds: Taxed as equity funds, with long-term capital gains taxed at 10% after one year.
- Other Mutual Funds: Taxation varies. Debt funds, for instance, are subject to short-term capital gains tax if held for less than three years.
Comparison with Other Mutual Funds
Other types of mutual funds are often compared to arbitrage funds. Here are the key differences:
| Aspect | Arbitrage Funds | Other Mutual Funds |
| Strategy | Profits from price differences in cash & futures markets. | Invests in stocks, bonds, or both for growth or income. |
| Risk | Low to moderate, market-neutral. | Varies—high for equity, low for debt. |
| Returns | Moderate, stable | Equity: High; Debt: Stable. |
| Liquidity | Moderate (2-3 days). | Liquid: High; Equity: Longer. |
| Taxation | STCG: 15%, LTCG: 10% (if gains > ₹1L/year). | Equity: Same as arbitrage. Debt: STCG as per slab, LTCG 20% with indexation. |
| Ideal For | Low-risk, short-term investors. | Equity: Long-term growth. Debt: Short-term stability. |
| Cost | Higher due to frequent trading. | Liquid & debt: Lower; Equity: Varies. |
| Redemption | Exit load if <30 days. | Liquid: No exit load; Equity: Lock-ins possible. |
Pros and Cons of Arbitrage Funds
- Pros:
- Market-neutral, reducing exposure to market risk.
- Potential for consistent returns through price inefficiencies.
- Long-term capital gains tax at 10% after one year.
- Cons:
- Returns can be limited during low volatility.
- High transaction costs due to frequent trading.
- Dependent on market volatility for profitability.
In a Nutshell
So, now you know the key differences between arbitrage funds and other mutual funds. Arbitrage is for those investors who plan to profit from market mismatches with moderate risk. They are very different from other mutual funds when it comes to investment plans, risk factors, and tax treatment. However, other mutual funds have different investment strategies and risk levels. So, they are also suitable for various other financial goals. Therefore, any investor who wants to invest in mutual funds should first have clear goals and also know how long they want to invest in them.
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