YOUR QUERIES: MUTUAL FUNDS: In volatile markets, look at arbitrage funds with a 3-6 month horizon

Keep in mind, widening of the unfold differential can result in arbit-rage funds delivering destructive returns for very quick durations.

I’ve been investing in liquid funds for 5 years and now the returns are very low. Ought to I have a look at arbitrage funds within the hybrid class?

Suresh Mathur

Liquid funds are usually utilized by buyers to park their emergency corpus. The underlying investments are diversified throughout excessive (safer) credit score high quality devices with minimal period threat. Since 2019, the RBI has minimize the coverage fee sharply (250 bps) and introduced a slew of measures to help the slowdown within the economic system. The measures introduced together with abund-ant liquidity within the banking system resulted in yields falling throughout the yield curve, significantly on the shorter finish. Consequently, liquid funds have delivered low returns over the previous 12 months.

Arbitrage schemes are hybrid funds, which take arbitrage positions in fairness and associated devices for at the least 65% of the portfolio, and park the remaining corpus in principally high-quality fixed-income devices and money & equivalents. These funds seize the worth differential between the spot and futures markets. The unfold differential displays the charges within the money-market charges and consequently the efficiency of arbitrage funds is mostly near that of liquid funds. The unfold differ-ential rises in occasions of excessive volatility within the fairness markets, presenting an oppor-tunity for recent investments to capitalise on the upper charges (relative to cash market charges) prevalent within the markets.

Arbitrage funds rating over liquid funds owing to their beneficial taxation, which yield increased post-tax returns for a similar degree of pre-tax returns. For holding durations of as much as 1 12 months, the short-term capital good points are taxed at 15% (excluding cess and surcharge, if relevant), as in comparison with the 30% tax fee for liquid (and different debt funds) for buyers within the highest tax bracket.

For holding interval of 1-3 years, good points in arbitrage funds are taxed at 10% (solely extra good points above Rs 1 lakh are taxed), in comparison with 30% for the very best tax bracket investor. Buyers with a horizon of at the least 3-6 months can look to enter such funds, significantly throughout unstable durations. Arbitrage funds have an exit load of 1-6 months. Keep in mind, widening of the unfold differential can result in arbit-rage funds delivering destructive returns for very quick durations. Additionally, assess fixed-income portion of such funds in respect of underlying credit score and period threat.

The author is director, Funding Advisory, Morningstar Funding Adviser (India). Ship your queries to fepersonalfinance@expressindia.com