Arbitrage funds safe if time horizon is at least six months

December 2, 2014 1:57 AM

If the RBI cuts rates, how will my debt mutual funds benefit in the long run? Should I buy more units now?

If the RBI cuts rates, how will my debt mutual funds benefit in the long run? Should I buy more units now?
—Shubham Bose
Debt MFs benefit when yields go down as bond prices have an inverse relation with interest rates. Bond prices rise as interest rates fall, resulting in additional returns for bond funds. The decision to buy more units should depend on your current holdings in such products and whether your portfolio is sufficiently diversified.

I applied for an FMP, but a few days later the fund house returned my money without citing any reason. Is there a solution?
—Atul Dogra
Assuming there were no problems with the application, another reason could be that the MF was not able to meet the 20/25 rule for this particular FMP. The rule states that each fund needs to have a minimum of 20 investors, with not more than 25% from a single investor. Also, the FMP needs to collect a minimum amount of Rs 20 crore. If it is not able to meet any of these three conditions, it needs to refund the money to investors. You can check with your financial adviser or the fund house as to why the application was rejected.

Though most of my friends are selling gold ETFs, I believe it will recover lost ground in the next one year. What do you suggest?
—Amit Singhal
Gold is a good diversifier for the portfolio and it should form a small part of your asset allocation. Its prices normally go up during times of high inflation and/or currency depreciation, and the metal also acts as a safe haven during financial crises. The decision to buy/sell/hold should be made based on whether you are on track as far as your desired allocation in the metal is concerned.
Does one need to pay long-term capital gains tax on balanced funds? Are there are ways to set off losses against short-term capital gains?
—GS Sunder
As balanced funds maintain an allocation of over 65% in equity, they are classified as equity funds for income tax purposes. Hence, there is no long-term capital gains tax on them. You can set off short-term capital losses against any short-term capital gains that you may have. For specific guidance, it is better to consult your tax adviser.

I want to invest in a 10-year SIP for my child’s education. What’s their track record like?
—Pramod Kumar
Three kinds of child plans are available in India: one that’s similar to MIPs with about 20% allocation to equity; another that’s similar to balanced funds with about 60% allocation to equity; and another that invests 100% in equity. Their track records are mixed and, importantly, they do not offer any significant advantage over regular MFs. You might be better off investing in balanced funds, MIPs or equity funds depending on your risk profile. But it is important to maintain discipline and not redeem the investments for other reasons.

What are arbitrage funds? How safe are they?
—Prateek Chauhan
Arbitrage funds buy stocks on the cash market and sell an equivalent amount of futures. The premium at which the futures trade is the return from these funds. Therefore, these funds are safe with a minimum time horizon of six months. The returns would, however, vary based on the premiums at which the futures trade compared to the cash price. Also, since arbitrage opportunities are limited, we have seen returns from these funds trend low after the combined AUMs of arbitrage funds cross a certain threshold.

By Niranjan Risbood
The writer is director, manager research, Morningstar India
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