Arbitrage mutual funds present an avenue for investors seeking returns over a year or more. These funds capitalize on price discrepancies between cash and derivatives markets. They are taxed like equity funds, with a 12.5% long-term capital gains tax after one year. Volatility can enhance arbitrage opportunities, making these funds suitable for those not wanting to predict interest rate movements.

Best arbitrage mutual funds to invest in May 2026

Synopsis

Arbitrage mutual funds present an avenue for investors seeking returns over a year or more. These funds capitalize on price discrepancies between cash and derivatives markets. They are taxed like equity funds, with a 12.5% long-term capital gains tax after one year. Volatility can enhance arbitrage opportunities, making these funds suitable for those not wanting to predict interest rate movements.

Do you want to park your money for a year or more? Are you looking for the best after-tax returns? Consider investing in arbitrage mutual funds.

Arbitrage funds look for arbitrage opportunities available between the cash and derivatives markets. In other words, the fund managers in these schemes look for the price difference that they can exploit between the cash and derivatives markets. They may also invest in debt securities and equities if there are no arbitrage opportunities available in the market.

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LTCG tax

Arbitrage funds are taxed like equity mutual funds. This means they qualify for long term capital gains tax of 12.5% if investments are held for more than a year. If investments are for less than a year, short term capital gains tax of 20% will be applicable.

Volatility in the stock market may help arbitrage funds as it will offer better arbitrage opportunities. Also, returns from arbitrage funds have nothing to do with the interest rate regime as they invest in arbitrage opportunities. So they may be suitable for investors who don’t want to take a call on interest rates.

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Arbitrage opportunities

However, you should keep in mind that there may be periods when there are not many arbitrage opportunities available in the market. This can happen when the market is headed in a single direction. A volatile market is helpful to arbitrage funds as there will be more arbitrage opportunities available.

Here are our recommended arbitrage schemes you can consider investing to take care of your short-term needs. There is no change in the list this month as all schemes have retained their place in the list. Watch out for our monthly updates to ensure your schemes are faring well.

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Best arbitrage funds to invest in May 2026

Kotak Arbitrage Fund

Nippon India Arbitrage Fund

Methodology

ETMutualFunds.com has employed the following parameters for shortlisting the hybrid mutual fund schemes.

1. Mean rolling returns: Rolled daily for the last three years.

2. Consistency in the last three years: Hurst Exponent, H is used for computing the consistency of a fund. The H exponent is a measure of randomness of NAV series of a fund. Funds with high H tend to exhibit low volatility compared to funds with low H.

i) When H equals 0.5, the series of returns is said to be a geometric Brownian time series. This type of time series is difficult to forecast.

ii) When H is less than 0.5, the series is said to be mean reverting.

iii) When H is greater than 0.5, the series is said to be persistent. The larger the value of H, the stronger is the trend of the series

3. Downside risk: We have considered only the negative returns given by the mutual fund scheme for this measure.

X = Returns below zero

Y = Sum of all squares of X

Z = Y/number of days taken for computing the ratio

Downside risk = Square root of Z

4. Outperformance

i) Equity portion: It is measured by Jensen's Alpha for the last three years. Jensen's Alpha shows the risk-adjusted return generated by a mutual fund scheme relative to the expected market return predicted by the Capital Asset Pricing Model (CAPM). Higher Alpha indicates that the portfolio performance has outstripped the returns predicted by the market.

Average returns generated by the MF Scheme =

[Risk Free Rate + Beta of the MF Scheme * {(Average return of the index - Risk Free Rate}

ii) Debt portion: Fund Return – Benchmark return. Rolling returns rolled daily is used for computing the return of the fund and the benchmark and subsequently the Active return of the fund.

5. Asset size: For Hybrid funds, the threshold asset size is Rs 50 crore

(Disclaimer: past performance is no guarantee for future performance.)

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