Assets under management (AUM) of arbitrage funds doubled to ₹1.74 lakh crore since March 2023. As per Value Research data, this category has returned 7.1% over the last one year, compared with overnight funds that returned 6.60% and liquid funds 7.02%.
Investors are increasingly using this category to park idle money typically for their short-term needs which historically went into overnight and liquid funds – debt schemes that bet on high-quality short-term bonds.
“Equity markets continue to be positive, short-term interest rates are on the higher side as interest rate cuts are 3-4 months away leading to higher returns from arbitrage funds, which in turn is attracting more flows,” says Bhavesh Jain, fund manager – hybrid and solutions at Edelweiss Mutual Fund.
Given the positive sentiment for equity and high short-term rates, fund managers believe returns from these funds post expense will continue to remain between 7% and 7.5%.
“Previously in September 2021, arbitrage AUM made a peak of ₹1,21,000 crore. Wherein Arbitrage single stock future (SSF) was 50% of overall SSF open interest. The arbitrage AUM now stands at ₹1,77 lakh crore and it is now 41% of SSF OI, lower than 50% during the peak it made in September 2021,”says Jain. Hence fund managers believe despite rising assets, fund managers feel there is enough room to deploy incremental flows into this category, without compromising on returns.
Arbitrage is a process of identifying a gap between the price in the cash market and its corresponding price in the futures market. Equity arbitrage funds seek to identify this spread between stock Spot and Future price and attempt to capture it in an efficient risk-free manner. Arbitrage funds reduce risk by completely hedging equity exposure, distinguishing them from liquid funds by their absence of credit risk.
With volatility ahead and interest in mid and small caps high, and interest rate cuts some time away, wealth managers believe arbitrage funds could continue to be in demand. They work well for investors looking to park money while waiting for a correction in stocks or for those who need money after 3 months to a year and are looking for deployment.
