What is Arbitrage Fund?

The stock market has seen a lot of volatility in the recent past, so investors are looking for options that offer low risk, solid returns and tax savings. In such a situation, Arbitrage Funds have emerged as a smart option. These funds profit from the difference in prices in different segments of the market, and that too without taking much risk. If you want a safe alternative to FD or liquid fund but also want a little better return then this blog is for you, where we will understand “What is Arbitrage Fund”.

What is Arbitrage Fund? Meaning & Definition Explained

Arbitrage Fund is a mutual fund that makes profit by taking advantage of the price difference in the stock market. In simple words, when the price of a stock is different in two different markets such as cash market and futures market. the fund manager makes a deal to buy and sell at the same time to cash in on that difference. This technique is called “Arbitrage Strategy”.

Arbitrage Funds are usually divided into three components –

• investment in equities,
• hedging in the derivatives market,
• and a small amount in debt instruments (such as government bonds or corporate debt) to ensure stable and balanced returns.

Since these funds are classified as equity mutual funds, taxation is also done as per equity rules, which makes them tax-friendly as well.

The role of the fund manager is very important in this, as they decide when and in which stock there is an opportunity for arbitrage. They try to make profits at low risk by making the right trades at the right time.

Arbitrage Funds are therefore seen as “low-risk equity investments” especially beneficial for investors who expect safety as well as slightly better returns.

How Do Arbitrage Funds Work? Behind the Scenes

Arbitrage Funds follow a unique strategy where they earn money by exploiting the price difference in two different segments of the stock market – the cash market and the futures market.

Suppose, the price of a company’s stock is ₹500 in the cash market, while at the same time its futures price is ₹510. In such a case, the fund manager buys the stock at ₹500 in the cash market and sells it at ₹510 in the futures market. When the delivery date of the futures arrives, both the prices become equal and a fixed profit (arbitrage gain) of ₹10 is made – without taking the risk of market fluctuations.

Price Convergence & Return Locking : This strategy is based on the principle that the futures and cash prices eventually become equal. Due to this ‘price convergence’, the returns are fixed in advance, making this investment less risky.

Volatility is an Opportunity : The more volatility there is in the market, the more opportunities there are for arbitrage. This means that when the stock market is volatile, these funds have more opportunities to make profits while traditional investors are scared.

How is arbitrage different from trading?

Although this strategy may seem like trading, arbitrage is a hedged and systematic process. It has low risk because every trade is locked in from both sides (buy and sell). Trading is usually directional, where profits depend on the direction of the market.

Arbitrage Fund Returns: How much can you expect?

Arbitrage Funds do not have fixed returns, but according to data from the last few years, these funds have given an average return of 4% to 6.5% annually. If there is more volatility in the market, these returns can increase. However, they tend to reduce when the market is stable.

In this way, Arbitrage Funds try to deliver stable and tax-efficient returns with low risk especially for investors who want a slightly better option than FDs or Liquid Funds.

Who Should Invest in Arbitrage Funds? Ideal Investor Profile

Arbitrage Funds are a great option for investors who are looking for stable returns with low risk. They are especially suitable for those who want to avoid stock market volatility but also want slightly better returns than FDs or liquid funds.

Risk-averse investors : If you are an investor who does not want to take risk, then Arbitrage Fund is suitable for you. Because these funds deal in both cash and futures markets simultaneously, the market fluctuations do not have a direct impact on the returns. This strategy makes the investment safe.

Short-term investors : If you need to park money for a period of 3 to 12 months, then Arbitrage Funds can be a better option. These can give good returns compared to FDs or liquid funds and are also more beneficial in terms of tax. The special thing is that 15% short term capital gain tax is levied on holding for less than a year and 10% long term capital gain tax (tax free up to ₹ 1 lakh) is levied on holding for more than a year.

Investors in high tax bracket : For investors who fall in the 30% or more tax slab, Arbitrage Funds can become a tax-efficient investment option. Because they are taxed like equity funds, tax savings are possible even in a short time.

Better option than conservative debt funds : Arbitrage Funds are also perfect for investors who invest in traditional debt funds but want slightly better returns. These funds have very low risk, but still they make small profits according to the market movement, which makes the overall return slightly better.

Investment process is easy and flexible : Investing in Arbitrage Funds is very easy. You can buy them through online platforms like Zerodha Coin, Groww, Paytm Money or directly from the fund house’s website. Both SIP and Lump Sum methods are available for investment and one can start with a minimum of ₹5000.

Benefits of Arbitrage Funds

Not dependent on market direction : The biggest feature of Arbitrage Funds is that these funds work on the strategy of earning profits whether the market goes up or down. Their market-neutral strategy i.e. the technique of dealing on both sides makes them less risky and keeps the returns stable.

A means of saving taxes : Since Arbitrage Funds are taxed like equity funds, the profit on them is more tax-friendly. Profit up to ₹ 1 lakh on investment for more than a year is tax-free, due to which these funds offer a much better tax structure than FD and debt funds.

Easy withdrawal when needed : These funds have good liquidity. Most Arbitrage Funds have an exit load of only 30 to 60 days, after which you can withdraw your investment without any additional charge. This facility is beneficial for those who want to park money for a short period of time.

Better performance in volatile markets : When market volatility increases, Arbitrage Funds start getting more price differences, which enables them to give better returns. Market volatility becomes an opportunity for them not a cause for worry.

Better than traditional options : If you want slightly better returns than traditional investment options like FD or liquid funds but do not want to take much risk, then Arbitrage Fund can prove to be a balanced and smart investment option. It also gives you security and the possibility of better returns along with tax savings.

Risks and Limitations of Arbitrage Funds

There are fewer opportunities in a stable market : The success of Arbitrage Funds depends on the difference in prices between the cash market and the futures market. If the market is very stable and there is no volatility, then the price difference becomes very low. This directly affects the returns of the fund and the investor may get less profit than expected.

Returns are not guaranteed : These funds may be considered low risk, but it does not mean that the returns are fixed. Arbitrage strategy is effective only when there are continuous small differences in the market. As soon as these differences end, the performance of the fund also gets limited.

The skill of the fund manager is very important : Since arbitrage opportunities are only for a short time, the fund manager has to take a quick decision. If the decision is delayed or the right deal is not made, the opportunity for profit may be lost. In such a situation, the investor’s return directly depends on the efficiency of the fund manager.

Long term growth potential limited : The objective of Arbitrage Funds is not capital growth, rather these funds try to give stable returns from small profits. So if you want big returns or wealth creation in the long term, then these funds cannot be called suitable from that point of view.

Believing them as ‘no-risk’ is a misconception : Although these funds have low risk, they are not completely risk-free. Market conditions, management strategy and availability of opportunity all these things can affect the performance of the fund. So considering them as a 100% safe option is a common but wrong belief.

Arbitrage Fund Taxation in India

Arbitrage Funds are classified as equity mutual funds for tax purposes. Hence, they are taxed according to the same tax rules as equity funds making them more tax-friendly than debt funds and FDs.

Investment held for less than 1 year: Short Term Capital Gain Tax (STCG)

If you have invested in an Arbitrage Fund for less than 1 year, then whatever profit you make from it is called Short Term Capital Gain.

Investment for more than 1 year: Long Term Capital Gain Tax (LTCG)

If you have invested in an Arbitrage Fund for more than 1 year, then the profit earned from it is called Long Term Capital Gain.

Best Arbitrage Funds in India 

Arbitrage Funds vs Liquid Funds: Which is Better?

How to Invest in Arbitrage Funds in India?

Step 1: Choose an investment platform

First choose a trusted platform like Rupeezy , Groww, Zerodha Coin, Paytm Money, Dhan or directly the website of the Mutual Fund company (AMC).

Step 2: Complete the KYC process

Now do online KYC by giving your PAN, Aadhaar and bank details. This has to be done once, then you can invest in any fund.

Step 3: Select an Arbitrage Fund

Now choose a good Arbitrage Fund from the fund list – like Kotak, ICICI, Nippon etc. Make sure to check AUM, past returns and expense ratio.

Step 4: Choose the investment mode (SIP or Lumpsum)

If you want, start SIP with ₹500/₹1,000 or invest in a lump sum. Regular investment in SIP is easy.

Step 5: Decide the investment period

To get good returns from Arbitrage Funds, keep an investment period of at least 3–6 months. This can also avoid exit load.

Step 6: Track the fund 

After investing, check the NAV and performance of the fund from time to time. If needed, you can change the fund or rebalance the portfolio.

Also Read : Top Women Investors in India 2025

Conclusion

Arbitrage Funds are a great option for investors who want better returns and tax benefits than FDs with low risk. These funds are suitable for both short-term and medium-term investments, especially when you want to earn a little extra while keeping your capital safe. By choosing the right platform, fund and period, you can get stable and smart returns from Arbitrage Funds. Before investing, it is important to understand the cost, tax and risk of the fund only then the right financial plan will be made.