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Alternative to Debt Funds

JM Equity & Derivative Fund seeks to capitalize upon the arbitrage opportunities emerging out of pricing mismatch between the cash and the derivatives markets

Many a times we see that the prices of stocks in the derivatives and the cash markets do not move in tandem. For example, if the premium on a stock's futures contract over its stock price in cash markets is significant enough to make meaningful profits, a person can simply buy the stock in the cash market and sell its future in the derivatives market. By doing this, he will lock a certain amount of profit, which will be realised on the date of expiry of the futures contract. And since this profit will accrue irrespective of wherever the market goes, it is a risk-free profit from arbitrage.

Though you cannot expect huge gains from such a strategy but there is definitely a value proposition for the risk-averse investors. Such funds are comparable with income funds in their risk-return profile even though the investment strategy is significantly different.

With one-year returns of 7.27 per cent, the fund has beaten a majority of medium-term debt funds. Its monthly performance record shows that the returns have been consistent month on month. In fact, the fund has under-performed an average debt medium-term fund only in two months of its 12-month existence. And this has been achieved by taking minimal risk, since the equity positions are always hedged and insulated from market gyrations, while the debt holdings bear high credit rating and low maturity profile. Being an interval fund, redemptions are available only for a particular period. Though it restricts liquidity, but it is suitable for an arbitrage fund.

Apart from equities and derivatives, the fund parks its remaining corpus in a host of short-term debt instruments like term deposits, floating rate bonds and call money markets among others. When the fund was launched, one of the apprehensions was that the fund may not find enough arbitrage opportunities and end up being a liquid or a short-term debt fund. But there seems to be no dearth of arbitrage opportunities. Since launch, the fund has consistently been investing in 65-70 stocks in cash and derivatives markets of the total of 116 stocks traded in the derivative markets.

With the category of debt funds not performing well in the recent years, debt fund investors don't have much to choose from. But an arbitrage fund could be a solution to fill this gap till the time debt funds are back in vogue.