Sucheta Dalal :The gimmick called arbitrage funds
Sucheta Dalal

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The gimmick called arbitrage funds  

February 25, 2010

Fund companies push arbitrage funds as one of the best options in a volatile market environment for those investors who wish to invest in a low-risk portfolio and yet gain decent returns. Theoretically, these funds benefit from the arbitrage opportunities arising out of price differences between the equity and derivatives segment of the stock market. So, these funds should do well when the market is volatile. But as is usual with mutual funds, the reality is different. Or rather, as with any other mutual fund product, the reality is simple: like all other funds, arbitrage funds also make money mainly when the market is rallying for a while. Volatility kills them!

What else explains the following facts? In the past two years, the Indian markets have remained highly volatile as it saw a bull run as well as a bear run. Arbitrage funds should have done extremely well in this period. If we look at the past two years’ performance of 12 arbitrage funds, it was terrible—only three funds outperformed and nine underperformed. Over three years, out of a total of nine funds, five funds outperformed while the others underperformed—an outcome akin to the toss of a coin. The performance of the 15 funds that were available over the past one year is hardly surprising, either; seven funds outperformed and eight underperformed. Again, the outcome of a coin toss.

So, what is so great about arbitrage funds? They are just another marketing gimmick of a complicated product. Over the past one year, most of these funds have given a return of 4%. A bank fixed deposit for a period of one year gives a return of 6%. The performance of these funds over the period of six months and three months were pathetic. Their returns were just 1%-2%. — Moneylife Digital Team

-- Sucheta Dalal