Difference between arbitrage and equity funds

Mutual funds provide investors with diversified exposure to various assets. By pooling funds from different investors, these funds engage in the acquisition of stocks, bonds, and other securities, ensuring a broad investment spectrum.

However, with this wide variety of options comes a potential roadblock – investing choices can be complex, especially when comparing different fund types. Two popular investment options – arbitrage funds and equity funds – might sound similar, but they are inherently quite different.

Let's dissect their characteristics to identify the ideal vehicle for your investment journey.

• Table of contents

1. Understanding arbitrage funds
2. Understanding equity funds
3. Differences between arbitrage and equity funds

Understanding arbitrage funds

Arbitrage funds can be a suitable option for investors seeking to capitalise on volatile markets while managing risk. Although their returns tend to be modest, arbitrage funds rely heavily on market inefficiencies. These funds are categorised as equity-oriented hybrid funds and they exploit price differentials in various markets, mainly pricing mismatches between exchanges or disparities between spot and futures markets.

This approach contrasts with traditional investing, as the arbitrage fund manager invests in equities and also in equity derivatives when a definite opportunity for returns arises. In the absence of arbitrage opportunities, the fund shifts to short-term money market instruments and debt securities. Notably, the price differences involved are usually minimal, requiring multiple daily trades for a reasonable profit.

Bajaj Finserv Asset Management Limited offers the Bajaj Finserv Arbitrage Fund, an open-ended scheme strategically investing in arbitrage opportunities. The scheme aims to generate returns by capitalising on arbitrage possibilities in the cash and derivatives segments of equity markets, with a balanced investment in debt and money market instruments. The Nifty 50 Arbitrage Index (TRI) serves as the benchmark, indicating the relatively low-risk nature of the principal investment. The scheme is tailored for investors eyeing short-term income and potential gains from arbitrage opportunities. However, it is crucial for investors to consult a financial advisor before making any investment decisions. For a detailed scheme information, clickhere

Understanding equity funds

Equity funds are an integral part of the investment landscape. They invest your money directly in company stocks, seeking long-term capital appreciation through company growth and dividend pay-outs. Equity Funds cater to diverse risk appetites, offering options from aggressive growth focused on young, high-potential companies to balanced solutions combining relative stability of blue-chip with growth possibilities. While offering the potential for reasonable returns, they also carry higher risk due to market fluctuations and individual company performance.

For example, Bajaj Finserv Asset Management Limited offers the Bajaj Finserv Large and Mid Cap Fund, an open-ended equity scheme strategically investing in both large cap and mid cap stocks. The fund's objective is to foster long-term capital appreciation through a diversified portfolio of equity and equity-related securities, chiefly focusing on large and mid-cap stocks across various sectors. Benchmarked against Nifty Large Midcap 250 TRI, this product caters to investors seeking wealth creation over the long term. The fund provides both direct and regular plans. However, investors should be aware of the high risk associated with their principal.

Differences between arbitrage and equity funds

Some of the key differences between arbitrage funds vs equity funds are -

Investment approach: Arbitrage funds exploit short-term price gaps, while equity funds focus on long-term company growth potential.

Risk profile: Arbitrage funds generally carry lower risk due to their focus on predictable price discrepancies, while equity funds are inherently more volatile due to market and company-specific factors.

Return potential: Arbitrage funds typically offer a moderate, consistent return potential, while equity funds have the potential for higher growth but more unpredictable returns. A mutual fund SIP calculator can help you assess the difference in return potential of the two avenues. Just enter your monthly SIP amount and expected rate of returns (which will be lower for arbitrage funds than regular equity funds) and compare the final investment values. Do note however that the calculator assumes a fixed rate of return for its estimates. In reality, returns are not guaranteed and will fluctuate based on market movements.

Investment horizon: Arbitrage funds are more suited for shorter-term goals due to their focus on quick gains, while equity funds can be a good option for long-term wealth creation goals due to their reliance on company growth.

Conclusion

Choosing between arbitrage and equity funds depends on your risk tolerance and investment timeline. Arbitrage funds offer lower risk and predictable returns for shorter-term objectives, while equity funds unlock the potential for higher returns but demand a longer horizon and tolerance for volatility. Understanding these distinct features and your own financial priorities empowers you to select the optimal route towards achieving your investment goals. Always remember to consult a financial advisor before zeroing in on any investment product.

FAQs:

What is the main difference between arbitrage funds and equity funds?

A. Arbitrage funds capitalise on pricing gaps in securities across different markets, while equity funds invest in company stocks for long-term growth.

Which type of fund is more suitable for short-term investments?

A. Arbitrage funds are suitable for short-term financial goals, while equity funds, due to their inherent volatility, are better for a long-term investment horizon.

Are arbitrage funds less risky than equity funds?

A. Arbitrage funds exhibit lower risk due to their strategy, while equity funds involve higher market and company-specific risks.

Mutual Fund investments are subject to market risks, read all scheme related documents carefully.
This document should not be treated as endorsement of the views/opinions or as investment advice. This document should not be construed as a research report or a recommendation to buy or sell any security. This document is for information purpose only and should not be construed as a promise on minimum returns or safeguard of capital. This document alone is not sufficient and should not be used for the development or implementation of an investment strategy. The recipient should note and understand that the information provided above may not contain all the material aspects relevant for making an investment decision. Investors are advised to consult their own investment advisor before making any investment decision in light of their risk appetite, investment goals and horizon. This information is subject to change without any prior notice.