March 31, 1997
THE GARZARELLI FUNDS
The Garzarelli Funds (the "Trust") is a no-load, open-end investment
management company, commonly known as a mutual fund. The Trust presently
consists of one diversified investment portfolio, individually referred to as a
"Fund."
Garzarelli Investment Management, LLC (the "Adviser") serves as the Investment
Adviser to the Fund. Elaine M. Garzarelli, founder and Chairperson of the
Adviser, is responsible for the overall strategic management of the Fund.
Affinity Investment Advisers, Inc. (the "Sub-Adviser") acts as Sub-Adviser to
the Fund.
The GARZARELLI BALANCED FUND seeks long-term growth of capital and current
income, consistent with reasonable investment risk. The Fund may emphasize
investments in common stocks and other equity-type securities or securities
acquired primarily to produce income, or a combination of both, depending on the
assessment of market conditions by the Fund's Adviser. Except during temporary
defensive periods, at least 25% of the Fund's assets will be invested in fixed
income senior securities and at least 25% of the Fund's total assets will be
invested in equity securities.
This Prospectus sets forth concisely the information about the Fund that you
should know before investing. You are advised to read this Prospectus carefully
and keep it for future reference.
A Statement of Additional Information, dated March 31, 1997, which is
incorporated herein by reference, has been filed with the Securities and
Exchange Commission. The Statement of Additional Information, which may be
revised from time to time, contains further information about the Fund and is
available, without charge, by writing to the Fund at P.O. Box 674, Milwaukee, WI
53201-0674, or calling 1-800-378-1405. If you wish to contact the Fund via
overnight delivery, send it to: The Garzarelli Funds, 207 East Buffalo Street,
Suite 315, Milwaukee, WI 53202-5712.
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS
A CRIMINAL OFFENSE.
THE DATE OF THIS PROSPECTUS IS MARCH 31, 1997.
TABLE OF CONTENTS
Prospectus Summary...............................................
Expense Summary..................................................
The Garzarelli Funds.............................................
Other Investment Policies and Risk Considerations................
Investment Limitations...........................................
Management of the Fund...........................................
Pricing of Fund Shares...........................................
How to Purchase Shares...........................................
How to Exchange Shares...........................................
How to Redeem Shares.............................................
Dividends and Distributions......................................
Shareholder Reports and Information..............................
Retirement Plans.................................................
Service and Distribution Plan....................................
Taxes............................................................
Capital Structure................................................
Transfer and Dividend Disbursing Agent, Custodian
and Independent Auditors.......................................
Fund Performance.................................................
NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY
REPRESENTATIONS NOT CONTAINED IN THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH
INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED
BY THE FUND OR ITS DISTRIBUTOR. THE PROSPECTUS DOES NOT CONSTITUTE AN OFFERING
BY THE FUND OR ITS DISTRIBUTION IN ANY JURISDICTION IN WHICH SUCH OFFERING MAY
NOT LAWFULLY BE MADE.
PROSPECTUS SUMMARY
TYPE OF COMPANY The Fund is a no-load, diversified series of an open-end,
investment management company.
INVESTMENT OBJECTIVE The investment objective for the Garzarelli Balanced Fund
is long-term growth of capital and current income, consistent with reasonable
investment risk.
INVESTMENT POLICY The Garzarelli Balanced Fund (the "Fund") may emphasize
investments in equity-type securities or securities acquired primarily to
produce income or a combination of both. The assets of the Fund will be
allocated among these classes of securities based on the Adviser's assessment of
market conditions. Except during temporary defensive periods, at least 25% of
the Fund's assets will be invested in fixed income senior securities and at
least 25% of the Fund's assets will be invested in equity securities.
RISK FACTORS AND SPECIAL CONSIDERATIONS An investment in the Fund is subject to
certain risks, as set forth in detail under "OTHER INVESTMENT POLICIES AND RISK
CONSIDERATIONS." As with other mutual funds, there can be no assurance that
the Fund will achieve its investment objective. The Fund, to the extent set
forth under "OTHER INVESTMENT POLICIES AND RISK CONSIDERATIONS," may engage in
the following practices: the use of repurchase and reverse repurchase
agreements, investing in foreign securities, the lending of portfolio securities
and investing in derivatives.
OFFERING PRICE The public offering price of the Fund is equal to its net asset
value per share.
SHARES OFFERED Shares of the Fund are a separate investment portfolio of The
Garzarelli Funds, a Delaware business trust.
MINIMUM PURCHASE The minimum initial investment is $1,000 with $50 minimum
subsequent investments. Such minimum initial investment is reduced to $500 if
purchases are made in connection with an IRA or a Gift to Minors account. Both
minimum initial and subsequent investments may be waived if purchases are made
pursuant to a payroll deduction plan.
DIVIDENDS Dividends from net investment income are declared and paid quarterly
for the Fund. Net realized capital gains are distributed at least annually.
INVESTMENT ADVISER Garzarelli Investment Management, LLC (the "Adviser").
SUB-ADVISER Affinity Investment Advisers, Inc.
ADMINISTRATOR/DISTRIBUTOR Sunstone Financial Group, Inc. (the
"Administrator") acts as Administrator for the Fund. Sunstone Distribution
Services, LLC (the "Distributor"), an affiliate of the Administrator, acts as
the Distributor of the Fund.
EXPENSE SUMMARY
The following table is designed to assist you in understanding the expenses you
will bear directly or indirectly as a shareholder of the Fund. Shareholder
Transaction Expenses are charges that you pay when buying or selling shares of
the Fund. Annual Operating Expenses are paid out of the Fund's assets and
include fees for portfolio management, maintenance of shareholder accounts,
general Fund administration, shareholder servicing, accounting and other
services. The Annual Operating Expenses are the expenses expected to be
incurred by the Fund during the Fund's initial fiscal year. Actual total
operating expenses may be higher or lower than those indicated. An example
based on the summary is also shown.
GARZARELLI
BALANCED
FUND
----
SHAREHOLDER TRANSACTION EXPENSES
Maximum Sales Load Imposed None
on Purchases
Maximum Sales Load Imposed
on Reinvested Dividends None
Deferred Sales Load Imposed on
Redemptions None
Redemption Fees(1) None
Exchange Fees None
ANNUAL OPERATING EXPENSES
(AS A PERCENTAGE OF AVERAGE NET ASSETS)
Management Fees 0.75%
12b-1 Fees(2) 0.25%
Other Expenses (net of reimbursement)(3)(4) 0.25%
-----
Total Operating Expenses (net of 1.25%
reimbursement)(4)
(1) A fee of $10.00 is charged for each wire redemption.
(2) The maximum level of distribution expenses is 0.25% per annum of the Fund's
average net assets. See "Service and Distribution Plan" for further
details. The distribution expenses for long-term shareholders may total
more than the maximum sales charge that would have been permissible if
imposed entirely as an initial sales charge.
(3) Such expenses include custodian, transfer agency and administration fees
and other customary Fund expenses.
(4) The Fund's Adviser has voluntarily agreed to limit the total operating
expenses of the Fund (excluding interest, taxes, brokerage and
extraordinary expense) to an annual rate of 1.25% of the Fund's average net
assets until at least October 31, 1997, subject to earlier termination by
the Adviser on 30 days' notice. The Fund estimates that absent the
limitation, Other Expenses of the Fund would initially be approximately
0.56%, and the Total Annual Operating Expenses of the Fund would initially
be approximately 1.56%.
EXAMPLE
Based on the foregoing table, you would pay the following expenses on a $1,000
investment, assuming (i) a 5% annual return and (ii) redemption at the end of
each time period:
GARZARELLI
BALANCED
FUND
----
One Year $13
Three Years $40
The examples shown above should not be considered representations of past or
future expenses or rates of return. The Fund is newly organized and actual
operating expenses and investment return may be more or less than those shown.
Information about the actual performance of the Fund will be contained in the
Fund's future annual reports to shareholders, which may be obtained without
charge when they become available.
THE GARZARELLI FUNDS
The Garzarelli Funds (the "Trust") is a no-load, open-end, management
investment company, commonly known as a mutual fund, which is registered under
the Investment Company Act of 1940 (the "1940 Act"). The Trust presently
consists of one diversified investment portfolio: the Garzarelli Balanced Fund
(the "Fund").
GARZARELLI BALANCED FUND
The investment objective of the Fund is long-term growth of capital and current
income, consistent with reasonable investment risk. The Fund seeks to achieve
its objective by investing in common stocks and other equity-type securities,
corporate and government debt securities and short-term money market
instruments. Except during temporary defensive periods, at least 25% of the
Fund's total assets will be invested in fixed income senior securities and at
least 25% of the Fund's total assets will be invested in equity securities.
Otherwise, the percentages of assets invested in equity, fixed income and money
market securities are not fixed and will vary depending on the Adviser's
assessment of economic and market conditions. Through active portfolio
management, the Adviser will consider the relative returns from asset allocation
as well as individual security selection, in seeking to achieve the Fund's
objective.
In seeking to achieve the investment objective of the Fund, the Adviser
initially utilizes a modeling process which assists in determining the extent to
which participation in the equity markets may best achieve the Fund's investment
objective. When the model, together with other market conditions and economic
factors considered by the Adviser, favors equities, the Fund will invest more
significantly in equity securities. When the model indicates the contrary, the
Fund will invest more significantly in fixed income securities (including money
market instruments) and may employ other defensive hedging strategies.
With respect to the equity component of the Fund, the Adviser identifies which
industry sectors should be emphasized based on its assessment of market and
economic conditions, and utilizing quantitative and qualitative investment
techniques. In constructing the Fund's investment portfolio and in utilizing the
foregoing procedures, the Adviser attempts to achieve the Fund's investment
objective while seeking risk levels equal to or lower than the stock market in
general.
Elaine M. Garzarelli, founder and Chairperson of the Adviser, designed the
modeling process used by the Adviser and is primarily responsible for
determining whether to emphasize equities or fixed income securities and for
identifying the industry sectors to be emphasized. Ms. Garzarelli has over 20
years of experience as a stock market strategist, including serving as Managing
Director and Chief Quantitative Strategist for Shearson Lehman/American Express.
The actual equity and fixed income weighting of the portfolio is primarily the
responsibility of an investment committee of the Adviser. The investment
committee of the Adviser selects the specific fixed income securities in which
the Fund invests. In consultation with and subject to the approval of the
Adviser's investment committee, Mr. Gregory Lai, a principal of the Sub-Adviser,
selects the specific equity securities in which the Fund invests. See
"Management of the Fund."
OTHER INVESTMENT POLICIES
AND RISK CONSIDERATIONS
GENERAL. Because shares of the Fund represent an investment in securities with
fluctuating market prices, you should understand that the net asset value per
share of the Fund will vary as the aggregate value of the Fund's portfolio
securities increases or decreases. An investment in the Fund should be
considered a long-term investment.
The investment objective, policies and practices of the Fund, unless otherwise
specifically stated, are not fundamental and may be changed by the Board of
Trustees without shareholder approval. See "Investment Limitations." Because
of the risks inherent in all investments, there can be no assurance that the
objective of the Fund will be met.
In addition to the investment policies described above (and subject to certain
restrictions described below), the Fund may invest in the following securities
and may employ some or all of the following investment techniques, some of which
may present special risks as described below. A more complete discussion of
certain of these securities and investment techniques and the associated risks
is contained in the Statement of Additional Information.
EQUITY SECURITIES. The Fund may invest in equity securities, including common
stock, preferred stock, convertible securities, warrants and rights. To the
extent that the Fund's portfolio is primarily invested in common stocks and
other equity-type securities, the Fund's net asset value may be subject to
greater fluctuation than a portfolio primarily invested in fixed income
securities.
FIXED INCOME SECURITIES. The Fund may invest in fixed income securities issued
by domestic or foreign corporations or other entities, or by U.S. or foreign
governments or their agencies or instrumentalities. The Fund is not limited as
to the maturity of its fixed income investments. Corporate and foreign
governmental debt securities are subject to the risk of the issuer's inability
to meet principal and interest payments on the obligations (credit risk), and
may also be subject to price volatility due to such factors as interest rate
sensitivity, market perception of the creditworthiness of the issuer and
general market liquidity (market risk). The market value of all debt
obligations is affected by changes in the prevailing interest rates, and
generally reacts inversely to interest rate changes. If the prevailing interest
rates decline, the market value of debt obligations generally increases. If the
prevailing interest rates increase, the market value of debt obligations
generally decreases. In general, the longer the maturity of the debt
obligation, the greater the sensitivity to changes in interest rates.
In order to reduce the risk of non-payment of principal or interest on these
securities, the Fund will invest only in fixed income securities which are, at
the time of purchase, investment grade. "Investment grade fixed income
securities" are those rated within the four highest rating categories by
Moody's Investors Service, Inc. ("Moody's") (Baa or higher), Standard & Poor's
Corporation ("S&P") (BBB or higher), or other nationally recognized securities
rating organizations, or securities which are unrated but deemed by the Adviser
or Sub-Adviser to be comparable in quality to instruments that are so rated.
Securities in the fourth highest grade may possess speculative characteristics
and changes in economic conditions are more likely to affect the issuer's
capacity to pay interest and repay principal. Subsequent to its purchase by the
Fund, a rated security may cease to be rated or its rating may be reduced below
the minimum rating required for purchase by the Fund. The Adviser or Sub-
Adviser will consider such an event in determining whether the Fund should
continue to hold the security, but such an event will not require the Fund to
dispose of the security. See the Statement of Additional Information for a
description of applicable debt ratings.
Fixed income securities in which the Fund may invest include obligations issued
by the U.S. government or by any agency, instrumentality or sponsored enterprise
thereof supported by the full faith and credit of the U.S. government, the
authority of the issuer to borrow from the U.S. Treasury, or the discretionary
authority of the U.S. government to purchase the obligations of the agency,
instrumentality or enterprise; obligations fully guaranteed as to principal and
interest by an agency, instrumentality or sponsored enterprise of the U.S.
government; obligations of the U.S. government agencies, instrumentalities or
sponsored enterprises which are not guaranteed; and obligations issued by U.S.
and foreign corporations.
FOREIGN SECURITIES. The Fund may invest without limitation in securities of
foreign issuers which are publicly traded in the United States, either directly
or through sponsored and unsponsored American Depository Receipts ("ADRs").
ADRs typically are issued by a U.S. bank or trust company and evidence ownership
of underlying securities issued by a foreign corporation. Unsponsored ADRs
differ from sponsored ADRs in that the establishment of unsponsored ADRs are not
approved by the issuer of the underlying securities. As a result, available
information concerning the issuer may not be as current or reliable as the
information for sponsored ADRs, and the price of unsponsored ADRs may be more
volatile.
In addition, the Fund may invest up to 25% of its net assets in securities of
foreign issuers that are not publicly traded in the United States. Investments
in foreign securities involve special risks and costs and opportunities which
are in addition to those inherent in domestic investments. Political, economic
or social instability of the issuer or the country of issue, the possibility of
expropriation or confiscatory taxation, limitations on the removal of assets or
diplomatic developments, and the possibility of adverse changes in investment or
exchange control regulations are among the inherent risks. Foreign companies
are not subject to the regulatory requirements of U.S. companies and, as such,
there may be less publicly available information about such companies.
Moreover, foreign companies are not subject to uniform accounting, auditing and
financial reporting standards and requirements comparable to those applicable to
U.S. companies. Dividends and interest payable on the Fund's foreign portfolio
securities may be subject to foreign withholding taxes. To the extent such
taxes are not offset by credits or deductions allowed to investors under U.S.
federal income tax law, such taxes may reduce the net return to shareholders.
See "Taxes" in the Statement of Additional Information. Because of these and
other factors, securities of foreign companies acquired by the Fund may be
subject to greater fluctuation than securities of domestic companies.
FORWARD CURRENCY EXCHANGE CONTRACTS. Some of the foreign securities held by the
Fund may be denominated in foreign currencies. Other securities, such as ADRs,
may be denominated in U.S. dollars, but have a value that is dependent on the
performance of a foreign security, as valued in the currency of its home
country. As a result, the value of the Fund may be affected by changes in the
exchange rates between foreign currencies and the dollar, as well as by changes
in the market values of the securities themselves. The performance of foreign
currencies relative to the dollar may be a factor in the overall performance of
the Fund.
To protect against adverse movements in exchange rates between currencies, the
Fund may enter into forward currency exchange contracts. A forward currency
exchange contract obligates the Fund to purchase or sell a specific currency at
a future date at a specific price. The Fund may elect to enter into a forward
currency exchange contract with respect to a specific purchase or sale of a
security, or with respect to the Fund's positions generally.
By entering into a forward currency exchange contract with respect to the
specific purchase or sale of a security denominated in a foreign currency, the
Fund can "lock in" an exchange rate between the trade and settlement dates for
that purchase or sale. This practice is sometimes referred to as "transaction
hedging." The Fund may enter into transaction hedging contracts with respect
to all or a substantial portion of its foreign securities trades.
When the Adviser or Sub-Adviser believes that a particular currency may decline
in value compared to the dollar, the Fund may enter into forward currency
exchange contracts to sell the value of some or all of the Fund's portfolio
securities either denominated in, or whose value is tied to, that currency.
This practice is sometimes referred to as "portfolio hedging." The Fund may
not enter into a portfolio hedging transaction where it would be obligated to
deliver an amount of foreign currency in excess of the aggregate value of the
Fund's securities or other assets denominated in, or whose value is tied to,
that currency.
If the Fund enters into a forward currency exchange contract, the Fund, when
required, will segregate eligible assets in an amount sufficient to cover its
obligation under the contract. Those assets will be valued at market daily, and
if the value of the segregated securities declines, additional cash or
securities will be added so that the value of the account is not less than the
amount of the Fund's commitment.
Predicting the relative future values of currencies is very difficult, and there
is no assurance that any attempt to protect the Fund against adverse currency
movements through the use of forward currency exchange contracts will be
successful. In addition, the use of forward currency exchange contracts tends
to limit the potential gains that might result from a positive change in the
relationships between the foreign currency and the U.S. dollar.
OPTIONS. The Fund may write (i.e., sell) covered call and secured put options,
and buy put or call options, which are sometimes referred to as derivatives.
These options may relate to particular securities or stock indices, and may or
may not be listed on a securities exchange and may or may not be issued by the
Options Clearing Corporation.
Options trading is a highly specialized activity that entails greater than
ordinary investment risks. In addition, unlisted options are not subject to the
protections afforded purchasers of listed options issued by the Options Clearing
Corporation, which performs the obligations of its members if they default. The
primary risks associated with the use of options are: (1) the imperfect
correlation between the change in market value of the instruments held by the
Fund and the price of the option; (2) possible lack of a liquid secondary
market; (3) losses caused by unanticipated market movements; and (4) the
Adviser's ability to predict correctly the direction of securities prices and
economic factors. For further discussion of risks involved with the use of
options, see "Additional Investment Information -- Options" in the Statement
of Additional Information.
FUTURES CONTRACTS. The Fund may enter into futures contracts (or options
thereon). The acquisition or sale of a futures contract could occur, for
example, if the Fund held or considered purchasing equity securities and sought
to protect itself from fluctuations in prices without buying or selling those
securities. The Fund may purchase put and call options on futures contracts.
An option on a futures contract provides the holder with the right to enter into
a "long" position in the underlying futures contract, in the case of a call
option, or a "short" position in the underlying futures contract, in the case
of a put option, at a fixed exercise price to a stated expiration date. Upon
exercise of the option by the holder, a contract market clearing house
establishes a corresponding short position for the writer of the option, in the
case of a call option, or a corresponding long position, in the case of a put
option. In the event an option is exercised, parties will be subject to all the
risks associated with trading of futures contracts. The amount of risk the Fund
would assume if it bought an option on a futures contract would be the premium
paid for the option plus related transaction costs.
The Fund will not, as to any positions, whether long, short or a combination
thereof, enter into futures and options thereon for which the aggregate initial
margins and premiums exceed 5% of the fair market value of its total assets
after taking into account unrealized gains and losses on options entered into.
When required by guidelines of the Securities and Exchange Commission, the Fund
will set aside permissible liquid assets in a segregated account to secure its
potential obligations under its futures or options positions.
The successful use of futures contracts and options thereon draws upon skills
and experience which are different from those needed to select the other
securities in which the Fund invests. Should market conditions change in an
unexpected manner, the Fund may not achieve the desired benefits of futures and
options on futures or may realize losses and consequently be in a less favorable
position than if such strategies had not been used. For further discussion of
risks involved with the use of futures and options on futures, see "Additional
Investment Information - Futures Contracts" in the Statement of Additional
Information.
DERIVATIVES. In addition to options and financial futures, consistent with its
objective, the Fund may invest in a broad array of financial instruments and
securities in which the value of the instrument or security is "derived" from
the performance of an underlying asset or a "benchmark" such as a security
index, an interest rate or a currency ("derivatives"). Derivatives are most
often used to manage investment risk, to increase or decrease exposure to an
asset class or benchmark (as a hedge or to enhance return), or to create an
investment position indirectly (often because it is more efficient or less
costly than direct investment). The type of derivatives used by the Fund and
the techniques employed by the Adviser and Sub-Adviser may change over time as
new derivatives and strategies are developed or regulatory changes occur. The
Adviser and Sub-Adviser will evaluate the risks presented by the derivative
instruments purchased by the Fund, and will determine in connection with their
day-to-day management of the Fund, how they will be used in furtherance of the
Fund's investment objective. The Fund does not intend to invest in inverse
floaters and interest-only or principal-only securities.
Derivative instruments present, to varying degrees, risk that the performance of
the underlying assets, exchange rates or indices will decline; that the dealer
or other counterparty to the transaction will fail to pay its obligations; that,
if interest or exchange rates change adversely, the value of the derivative
instrument will decline more than the assets, rates or indices on which it is
based; that the Fund will be unable to sell a derivative instrument when it
wants because of lack of market depth or market disruption; that the value of a
derivative instrument (such as an option) will not correlate exactly to the
value of the underlying assets, rates or indices on which it is based; and that
loss will occur as a result of inadequate systems and controls, human error or
otherwise.
CONVERTIBLE SECURITIES. The Fund may invest in convertible securities. The
Fund will only purchase convertible securities which are investment grade.
("Baa" or higher by Moody's or BBB or higher by Standard & Poor's or of a
similar rating by a nationally recognized securities rating organization, or
unrated but deemed by the Adviser or Sub-Adviser to be comparable in quality to
instruments that are so rated.) See "Fixed Income Securities." A convertible
security may be converted either at a stated price or rate within a specified
period of time into a specified number of shares of common stock. By investing
in convertible securities, the Fund seeks the opportunity, through the
conversion feature, to participate in a portion of the capital appreciation of
the common stock into which the securities are convertible, while earning higher
current income than is available from the common stock. See "Fixed Income
Securities." Subsequent to its purchase by the Fund, a rated security may
cease to be rated or its rating may be reduced below the minimum rating required
for purchase by the Fund. The Adviser or Sub-Adviser will consider such an
event in determining whether the Fund should continue to hold the security. The
Adviser or Sub-Adviser expects, however, to sell promptly any convertible debt
securities that fall below a Baa rating quality as a result of these events.
See the Statement of Additional Information for a description of applicable debt
ratings.
TEMPORARY, DEFENSIVE POSITION. In times when the Adviser believes that severe
adverse economic or market conditions justify such actions, the Fund may invest
temporarily up to 100% of its assets in short-term, high-quality money market
instruments. The Fund may also invest in such instruments pending investment,
to meet anticipated redemption requests, and/or to retain the flexibility to
respond promptly to changes in market and economic conditions. It is impossible
to predict when or for how long the Adviser may employ these strategies.
The Fund may invest in commercial paper and other cash equivalents rated A-1 or
A-2 by S&P or Prime-1 or Prime-2 by Moody's, repurchase agreements, commercial
paper master notes (which are demand instruments bearing interest at rates which
are fixed to known lending rates and automatically adjusted when such lending
rates change) of issuers whose commercial paper is rated A-1 or A-2 by S&P or
Prime-1 or Prime-2 by Moody's, and unrated debt securities which are deemed by
the Adviser to be of comparable quality. The Fund may also invest in U.S.
Treasury Bills and Notes, certificates of deposit of domestic branches of U.S.
banks and corporate bonds with remaining maturities of 13 months or less. For
debt obligations other than commercial paper, these securities are limited to
those rated at least Aa by Moody's or AA by S&P, or unrated but deemed by the
Adviser to be of comparable quality.
The Fund's investment in money market instruments for the foregoing reasons may
also include securities issued by other investment companies that invest in high
quality, short-term debt securities (i.e., money market instruments). In
addition to the advisory fees and other expenses the Fund bears directly in
connection with its own operations, as a shareholder of another investment
company, the Fund would bear its pro rata portion of the other investment
company's advisory fees and other expenses, and such fees and other expenses
will be borne indirectly by the Fund's shareholders.
ZERO-COUPON OBLIGATIONS. The Fund may also invest in zero-coupon obligations of
the U.S. government or its agencies or instrumentalities, tax exempt issuers and
corporate issuers, including rights to stripped coupon and principal payments
("strips"). Zero-coupon bonds do not make regular interest payments; rather,
they are sold at a discount from face value. Principal and accreted discount
(representing interest accrued but not paid) are paid at maturity. Strips are
debt securities that are stripped of their interest after the securities are
issued, but otherwise are comparable to zero-coupon bonds. The market value of
strips and zero-coupon bonds generally fluctuates in response to changes in
interest rates to a greater degree than do interest-paying securities of
comparable term and quality.
SECURITIES LENDING. From time to time, the Fund may lend securities from its
portfolio to brokers, dealers, and other financial institutions. Such loans may
not exceed 33 1/3% of the value of the Fund's total assets. In connection with
such loans, the Fund will receive collateral consisting of cash, U.S. government
securities or irrevocable letters of credit which will be maintained at all
times in an amount equal to at least 100% of the current market value of the
loaned securities. The Fund may increase its income through the investment of
such collateral. The Fund continues to be entitled to payments in amounts equal
to the interest, dividends and other distributions payable on the loaned
security and receive interest on the amount of the loan. Such loans will be
terminable at any time upon specified notice. The Fund may experience risk of
loss if the institution to whom it lends portfolio securities breaches its
agreement with the Fund. The Fund is currently authorized to lend portfolio
securities, but has no present intention to do so.
PORTFOLIO TURNOVER AND BROKERAGE ALLOCATION. In order to achieve the Fund's
investment objective, the Adviser and Sub-Adviser will generally purchase and
sell securities without regard to the length of time the security has been held
and, accordingly, it can be expected that the rate of portfolio turnover may be
substantial. The Adviser or Sub-Adviser intends to purchase a given security
whenever it believes it will contribute to the stated objective of the Fund,
even if the same security has only recently been sold. Subject to the foregoing,
the Fund may sell a given security, no matter for how long or for how short a
period it has been held in the portfolio, and no matter whether the sale is at a
gain or loss, if the Adviser or Sub-Adviser believes that it is appropriate to
do so. Since investment decisions are based on the anticipated contribution of
the security in question to the Fund's objective the rate of portfolio turnover
is irrelevant when the Adviser or Sub-Adviser believes a change is in order to
achieve its objective, and the Fund's annual portfolio turnover rate may vary
from year to year. It is presently anticipated the portfolio turnover rate for
the Fund generally will not exceed 150%. However, this should not be considered
as a limiting factor and actual turnover rates may exceed this if the Adviser or
Sub-Adviser deems it appropriate.
High portfolio turnover in any year will result in the payment by the Fund of
above-average transaction costs and could result in the payment by shareholders
of above-average amounts of taxes on realized investment gains. Distributions
to shareholders of such investment gains, to the extent they consist of net
short-term capital gains, will be considered ordinary income for federal income
tax purposes.
INVESTMENT LIMITATIONS
The Fund has adopted certain fundamental investment restrictions that may be
changed only with the approval by a majority of the Fund's outstanding shares.
The following description summarizes several of the Fund's fundamental
restrictions which have been adopted to maintain portfolio diversification and
reduce risk.
The Fund may not:
1. purchase the securities of any issuer if the purchase would cause more than
5% of the value of the Fund's total assets to be invested in securities of
any one issuer (except securities issued or guaranteed by the U.S.
government or any agency or instrumentality thereof), or purchase more than
10% of the outstanding voting securities of any one issuer, except that up
to 25% of the Fund's total assets may be invested without regard to these
limitations;
2. invest 25% or more of its total assets at the time of purchase in
securities of issuers whose principal business activities are in the same
industry; and
3. borrow money except for temporary purposes in amounts up to 33 1/3% of the
value of its total assets at the time of borrowing.
A list of the Fund's objective, policies and restrictions, both fundamental and
nonfundamental, is set forth in the Statement of Additional Information. In
order to provide a degree of flexibility, the Fund's investment objective, as
well as other policies which are not deemed fundamental, may be modified by the
Board of Trustees without shareholder approval. Any change in the Fund's
investment objective may result in the Fund having an investment objective
different from the objective which the shareholder considered appropriate at the
time of investment in the Fund.
MANAGEMENT OF THE FUND
As a Delaware Business Trust, the business affairs of the Trust are managed by
its Board of Trustees. The Trust, on behalf of the Fund, has entered into an
investment advisory agreement (the "Investment Advisory Agreement") with
Garzarelli Investment Management, LLC (the "Adviser"), 100 South Wacker Drive,
Suite 2100, Chicago, IL 60606-4002. The Adviser has also entered into a sub-
advisory agreement (the "Sub-Advisory Agreement") with Affinity Investment
Advisers, Inc. (the "Sub-Adviser"), 840 Newport Center Drive, Suite 450,
Newport Beach, CA 92660. Pursuant to the Investment Advisory Agreement and
Sub-Advisory Agreement, the Adviser and Sub-Adviser furnish continuous
investment advisory services to the Fund. Pursuant to the Sub-Advisory
Agreement, the Sub-Adviser will select the equity assets of the Fund, in
consultation with and subject to the approval of the Adviser's investment
committee, and will provide such other investment advice, research and
assistance as the Adviser may, from time to time, reasonably request.
INVESTMENT ADVISER AND SUB-ADVISER
The Adviser was organized on July 12, 1995, as an Illinois limited liability
company. Elaine Garzarelli, the Chairperson and a director of the Adviser, is
the majority shareholder of the Adviser, and controls the Adviser. The Adviser
is a registered investment adviser providing investment advisory services to
individuals and institutions. The Sub-Adviser was organized on April 24, 1992
as a California corporation. Gregory R. Lai controls the Sub-Adviser. The Sub-
Adviser is a registered investment adviser providing investment advisory
services to individuals and institutions. Neither the Adviser nor the Sub-
Adviser has any prior experience managing a U.S. registered investment company.
In managing the Fund, Ms. Garzarelli is primarily responsible for determining
whether to emphasize equities or fixed income securities and for identifying
industry sectors to be emphasized. Ms. Garzarelli founded the Adviser in 1995,
and has served as its Chairperson since its inception. Prior thereto, Ms.
Garzarelli served as Managing Director and Chief Quantitative Strategist for
Shearson Lehman Bros. and its predecessors and its successors from 1984 to 1994.
She has over 20 years experience as a stock market strategist.
The actual equity and fixed income weighting of the portfolio is primarily the
responsibility of an investment committee of the Adviser. The investment
committee of the Adviser selects the specific fixed income securities for
investment by the Fund. Gregory R. Lai, CFA, a principal of the Sub-Adviser, in
consultation with and subject to the approval of the Adviser's investment
committee, is primarily responsible for making the selection of specific equity
securities for investment by the Fund. Mr. Lai has been a principal of the Sub-
Adviser since 1992. Prior thereto, he was a portfolio manager and research
analyst at PIMCO, from 1988 to 1992.
Pursuant to the Investment Advisory Agreement between the Adviser and the Trust
on behalf of the Fund, the Adviser furnishes continuous investment advisory
services and management to the Fund.
The Adviser and Sub-Adviser supervise and manage the investment portfolio of the
Fund, and subject to such policies as the Board of Trustees of the Trust may
determine, direct the purchase or sale of investment securities in the day-to-
day management of the Fund's investment portfolio. Under the Investment
Advisory Agreement and the Sub-Advisory Agreement, the Adviser and Sub-Adviser,
at their own expense and without reimbursement from the Trust, furnish office
space and all necessary office facilities, equipment and executive personnel for
making the investment decisions necessary for managing the Fund and maintaining
the Trust's organization, and will pay the salaries and fees of all officers and
trustees of the Trust (except the fees paid to disinterested trustees). For the
foregoing, the Adviser will receive a monthly fee at the annual rate of 0.75% on
the average daily net assets of the Fund. In turn, the Adviser pays the Sub-
Adviser for its services a sub-advisory fee of 12% of the advisory fee received
by the Adviser (net of any fee waivers or expense reimbursements).
ADMINISTRATION
Pursuant to an Administration and Fund Accounting Agreement (the
"Administration Agreement"), Sunstone Financial Group, Inc. (the
"Administrator"), 207 East Buffalo Street, Suite 400, Milwaukee, WI 53202-
5712, acts as administrator for the Fund. The Administrator, at its own expense
and without reimbursement from the Fund, furnishes office space and all
necessary office facilities, equipment, supplies and clerical and executive
personnel for performing the services required to be performed by it under the
Administration Agreement. For its administrative services (which include
clerical, compliance, regulatory, fund accounting and other services), the
Administrator receives from the Fund a fee, computed daily and payable monthly,
based on the Fund's average daily net assets at the annual rate of 0.20 of 1.0%
on the first $50,000,000 of average daily net assets, 0.13 of 1.0% on the next
$50,000,000 of average daily net assets, and 0.05 of 1.0% on the average daily
net assets over $100 million, subject to an annual minimum of $65,000, plus out-
of-pocket expenses. The minimum annual fee is subject to an automatic annual
escalation of 5%. In addition, the Administrator received from the Fund $35,000
for organizational services provided by the Administrator.
DISTRIBUTION
Sunstone Distribution Services, LLC (the "Distributor") acts as distributor
for the Fund pursuant to a Distribution Agreement between the Distributor and
the Trust. Shares also may be sold by authorized dealers who have entered into
dealer agreements with the Distributor or the Trust. Pursuant to the
Distribution Agreement, the Fund will: (1) pay the Distributor a fee, payable
monthly, at the annual rate of 0.025% of the Fund's average daily net assets,
subject to a minimum aggregate annual fee of $25,000; and (2) reimburse the
Distributor's out-of-pocket expenses; provided, however, that if during any
annual period, such compensation and reimbursement payments and other payments
under the Service and Distribution Plan exceed 0.25% of the Fund's average daily
net assets, the Distributor will rebate such excess to the Fund. See "Service
and Distribution Plan."
EXPENSES
The Fund pays all of its own expenses, including without limitation, the cost of
preparing and printing its registration statements required under the Securities
Act of 1933 and the 1940 Act and any amendments thereto, the expense of
registering its shares with the Securities and Exchange Commission and the
various states, the printing and distribution costs of prospectuses mailed to
existing investors, reports to investors, reports to government authorities and
proxy statements, fees paid to trustees who are not interested persons of the
Adviser or Sub-Adviser, interest charges, taxes, legal expenses, association
membership dues, auditing services, insurance premiums, brokerage commissions
and expenses in connection with portfolio transactions, fees and expenses of the
custodian of the Fund's assets, printing and mailing expenses and charges and
expenses of dividend disbursing agents, accounting services agents, registrars
and stock transfer agents.
PRICING OF FUND SHARES
The price you pay when buying the Fund's shares, and the price you receive when
selling (redeeming) the Fund's shares, is the net asset value of the shares next
determined after receipt by the Fund of a purchase or redemption request in
proper form. No front end sales charge or commission of any kind is added by
the Fund upon a purchase and no charge is deducted upon a redemption. The Fund
currently charges a $10 fee for each redemption made by wire. See "How to
Redeem Shares."
The per share net asset value of the Fund is determined by dividing the total
value of its net assets (meaning its assets less its liabilities) by the total
number of its shares outstanding at that time. The net asset value is
determined as of the close of regular trading (currently 3:00 p.m. Central time)
on the New York Stock Exchange on each day the New York Stock Exchange is open
for trading. This determination is applicable to all transactions in shares of
the Fund prior to that time and after the previous time as of which the net
asset value was last determined. Accordingly, investments accepted or
redemption requests received in proper form prior to the close of regular
trading on a day the New York Stock Exchange is open for trading will be valued
as of the close of trading, and investments accepted or redemption requests
received in proper form after that time will be valued as of the close of the
next trading day.
Investments are considered received only when your check, wired funds or
electronically transferred funds are received by the Fund in accordance with the
procedures set forth herein. Investments by telephone pursuant to your prior
authorization to the Fund to draw on your bank account are considered received
when the proceeds from the bank account are received and accepted by the Fund,
which generally takes two to three banking days.
Securities which are traded on a recognized securities exchange are valued at
the last sale price on the securities exchange on which such securities are
primarily traded. Securities traded on only over-the-counter markets are valued
on the basis of closing over-the-counter trade prices. Securities for which
there were no transactions are valued at the closing bid prices. Debt
securities (other than short-term instruments) are valued at prices furnished by
a pricing service, subject to review and possible revision by the Fund's
Adviser. Any modification of the price of a debt security furnished by a
pricing service is made pursuant to procedures adopted by the Trust's Board of
Trustees. Debt instruments maturing within 60 days are valued by the amortized
cost method. Any other securities for which market quotations are not readily
available are valued by a method that the Trust's Board of Trustees believes
represents fair value.
HOW TO PURCHASE SHARES
The Fund is no-load, so you may purchase, redeem or exchange shares directly at
net asset value without paying a sales charge. Because the Fund's net asset
value changes daily, your purchase price will be the next net asset value
determined after the Fund receives and accepts your purchase order. See
"Pricing of Fund Shares."
INITIAL MINIMUM ADDITIONAL MINIMUM
TYPE OF ACCOUNT INVESTMENT INVESTMENT
- --------------- --------------- ------------------
Regular $1,000 $50
Automatic Investment Plan $1,000 $50
Individual Retirement Account ("IRA") $500 $50
Gift to Minors $500 $50
The Fund reserves the right to reject any order for the purchase of its shares
or to limit or suspend, without prior notice, the offering of its shares. The
required minimum investments may be waived in the case of qualified retirement
plans. The Fund will not accept your account if you are investing for another
person as attorney-in-fact. The Fund also will not accept accounts with a
"Power of Attorney" or "POA" in the registration section of the Purchase
Application.
HOW TO OPEN YOUR ACCOUNT BY MAIL. Please complete the Purchase Application.
You may duplicate any application or you can obtain additional copies of the
Purchase Application and a copy of the IRA Purchase Application from the Fund by
calling 1-800-378-1405. (PLEASE COMPLETE AN IRA APPLICATION TO ESTABLISH AN
IRA.)
Your completed Purchase Application should be mailed directly to:
The Garzarelli Funds
P.O. Box 674
Milwaukee, WI 53201-0674
To purchase shares by overnight or express mail, please use the following street
address:
The Garzarelli Funds
207 East Buffalo Street, Suite 315
Milwaukee, WI 53202-5712
All applications must be accompanied by payment in the form of a check made
payable to "The Garzarelli Funds." All purchases must be made in U.S. dollars
and checks must be drawn on U.S. banks. No cash, credit cards or third party
checks will be accepted. When a purchase is made by check and a redemption is
made shortly thereafter, the Fund will delay the mailing of a redemption check
until the purchase check has cleared your bank, which may take seven business
days from the purchase date. If you contemplate needing to exchange or redeem
your investment shortly after purchase, you should purchase the shares by wire
as discussed below.
HOW TO OPEN YOUR ACCOUNT BY WIRE. You may make purchases by direct wire
transfers. To ensure proper credit to your account, YOU MUST CALL THE FUND AT
1-800-378-1405 FOR INSTRUCTIONS AND TO OBTAIN AN INVESTOR ACCOUNT NUMBER PRIOR
TO WIRING FUNDS. Funds should be wired through the Federal Reserve System as
follows:
UMB Bank, n.a.
A.B.A. Number 101000695
For credit to The Garzarelli Funds
Account Number 9870784335
For further credit to:
(investor account number)
(name or account registration)
(Social Security or Taxpayer Identification Number)
(identify which Fund to purchase)
A PURCHASE APPLICATION MUST BE RECEIVED BY THE FUND TO ESTABLISH PRIVILEGES AND
TO VERIFY YOUR ACCOUNT INFORMATION. PAYMENT OF REDEMPTION PROCEEDS MAY BE
DELAYED AND TAXES MAY BE WITHHELD UNLESS THE FUND RECEIVES A PROPERLY COMPLETED
AND EXECUTED PURCHASE APPLICATION. The Fund reserves the right to refuse a
telephone transaction if it believes it advisable to do so.
IF YOU HAVE ANY QUESTIONS, CALL THE FUND AT 1-800-378-1405.
HOW TO ADD TO YOUR ACCOUNT BY MAIL. You may make additional investments by mail
or by wire in the minimums listed previously. When adding to an account by
mail, you should send the Fund your check, together with a subsequent investment
slip from a recent statement. If this investment slip is unavailable you should
send a signed note giving the full name of the account and the account number.
See "Additional Purchase Information" for more information regarding purchases
made by check or electronic funds transfer.
HOW TO ADD TO YOUR ACCOUNT BY ELECTRONIC FUNDS TRANSFER. You may also make
additional investments by telephone or in writing through electronic funds
transfers if you have previously selected this service. By selecting this
service, you authorize the Fund to draw on your preauthorized bank account as
shown on the records of the Fund and receive the proceeds by electronic funds
transfer. Electronic funds transfers may be made commencing 10 business days
after receipt by the Fund of your request to adopt this service. This time
period allows the Fund to verify your bank information. Investments made by
electronic funds transfer in any one account must be in an amount of at least
$50 and will be effective at the net asset value next computed after receipt by
the Fund of the proceeds from your bank account. See "Additional Purchase
Information" for more information regarding purchases made by check or
electronic funds transfer. Changes to bank information must be made in writing
and signed by all registered holders of the account with the signatures
guaranteed by a commercial bank or trust company in the United States, a member
firm of the National Association of Securities Dealers, Inc. or other eligible
guarantor institution. A NOTARY PUBLIC IS NOT AN ACCEPTABLE GUARANTOR. See
"Pricing of Fund Shares." This service may be selected by calling the Fund at
1-800-378-1405 for the necessary form and instructions.
HOW TO ADD TO YOUR ACCOUNT BY WIRE. For additional investments made by wire
transfer, you should use the wiring instructions listed previously. Be sure to
include your account number. WIRED FUNDS ARE CONSIDERED RECEIVED AND ACCEPTED
ON THE DAY THEY ARE DEPOSITED IN THE FUND'S ACCOUNT IF THEY REACH THE FUND'S
BANK ACCOUNT BY THE FUND'S CUT-OFF TIME FOR PURCHASES AND ALL REQUIRED
INFORMATION IS PROVIDED IN THE WIRE INSTRUCTIONS. THE WIRE INSTRUCTIONS WILL
DETERMINE THE TERMS OF THE PURCHASE TRANSACTION.
AUTOMATIC INVESTMENT PLAN. You may make purchases of shares of the Fund
automatically on a regular basis ($50 minimum per transaction). You must meet
the Automatic Investment Plan's (the "AIP Plan") minimum initial investment of
$1,000 before the AIP Plan may be established. Under the AIP Plan, your
designated bank or other financial institution debits a preauthorized amount to
your account each month and applies the amount to the purchase of Fund shares.
The Fund requires 10 business days after its receipt of your request to initiate
the AIP Plan to verify your account information. Generally, the AIP Plan will
begin on the next transaction date scheduled by the Fund for the AIP Plan
following this 10 business day period. AIP Plan transactions are scheduled for
the 5th and/or 20th of every month. AIP Plan transactions may also be scheduled
monthly, quarterly or annually. The AIP Plan can be implemented with any
financial institution that is a member of the Automated Clearing House. No
service fee is currently charged by the Fund for participation in the AIP Plan.
You will receive a statement on a QUARTERLY basis showing the purchases made
under the AIP Plan. A $20 fee will be imposed by the Fund if sufficient funds
are not available in your account or your account has been closed at the time of
the automatic transaction AND YOUR PURCHASE WILL BE CANCELED. YOU WILL ALSO BE
RESPONSIBLE FOR ANY LOSSES SUFFERED BY THE FUND AS A RESULT. When a purchase is
made pursuant to the AIP Plan, and a redemption of such shares is requested
shortly thereafter, the Fund may delay payment of the redemption proceeds for up
to seven days from the purchase date. This delay allows the Fund to verify that
the proceeds used to purchase the shares were properly debited from your
designated bank or other financial institution. You may adopt the AIP Plan at
the time an account is opened by completing the appropriate section of the
Purchase Application. You may obtain an Application to establish the AIP Plan
after an account is opened by calling the Fund at 1-800-378-1405. In the event
you discontinue participation in the AIP Plan, the Fund reserves the right to
redeem your Fund account involuntarily, upon 60 days' written notice, if the
account's net asset value is $1,000 or less.
PURCHASING SHARES THROUGH OTHER INSTITUTIONS. If you purchase shares through a
program of services offered or administered by a broker-dealer, financial
institution, or other service provider, you should read the program materials,
including information relating to fees, in addition to the Fund's Prospectus.
Certain services of the Fund may not be available or may be modified in
connection with the program of services provided. The Fund may only accept
requests to purchase additional shares into a broker-dealer street name account
from the broker-dealer.
Certain broker-dealers, financial institutions, or other service providers that
have entered into an agreement with the Trust may enter purchase orders on
behalf of their customers by telephone, with payment to follow within several
days as specified in the agreement. The Fund may effect such purchase orders at
the net asset value next determined after receipt of the telephone purchase
order. It is the responsibility of the broker-dealer, financial institution or
other service provider to place the order with the Fund on a timely basis. If
payment is not received within the time specified in the agreement, the broker-
dealer, financial institution or other service provider could be held liable for
any resulting fees or losses.
ADDITIONAL PURCHASE INFORMATION. The Fund will charge a $20 service fee against
your account for any check or electronic funds transfer that is returned unpaid
and YOUR PURCHASE WILL BE CANCELED. YOU WILL ALSO BE RESPONSIBLE FOR ANY LOSSES
SUFFERED BY THE FUND AS A RESULT. In order to relieve you of responsibility for
the safekeeping and delivery of stock certificates, the Fund does not issue
certificates.
When a purchase is made by check and a redemption is requested shortly
thereafter, the Fund will delay payment of the redemption proceeds or the
completion of an exchange until the purchase check has cleared your bank, which
may take seven business days from the purchase date. This delay allows the Fund
to verify that proceeds used to purchase Fund shares will not be returned due to
insufficient funds and is intended to protect the remaining investors from loss.
Signature guarantees must be signed by an authorized signatory of the bank,
trust company or member firm and "Signature Guaranteed" must appear with the
signature. The Fund may decline to accept a purchase order upon receipt when,
in the judgment of the Fund, it would not be advisable to do so.
HOW TO EXCHANGE SHARES
You may exchange all or a portion of your investment from the Fund to the
Northern Money Market Fund (the "Money Market Fund"). This expanded exchange
feature is subject to the minimum purchase and redemption amounts set forth in
this Prospectus ($1,000 minimum, $500 subsequent). You MUST obtain a copy of
the Money Market Fund prospectus from Sunstone Investor Services, LLC, and you
are advised to read it carefully before authorizing any investment in shares of
the Money Market Fund.
If you desire to use the expanded exchange privilege, you should contact the
Fund at 1-800-378-1405 for further information about the procedures and the
effective times for exchanges. Generally, exchange requests received and
accepted by the Fund by 3:00 p.m. (Central time) or the close of the New York
Stock Exchange, if different, on a day during which the Fund's net asset value
is determined will be effective that day for both the Fund being purchased and
the Fund being redeemed. Please note that when exchanging from the Fund to the
Money Market Fund, you will begin accruing income from the Money Market Fund the
day following the exchange. When exchanging less than all of the balance from
the Money Market Fund to the Fund, your exchange proceeds will exclude accrued
and unpaid income from the Money Market Fund through the date of exchange. When
exchanging your entire balance from the Money Market Fund, accrued income will
automatically be exchanged into the Fund when the income is collected and paid
from the Money Market Fund, at the end of the month. An exchange from the Fund
to the Money Market Fund is treated the same as an ordinary sale and purchase
for federal income tax purposes.
See "Additional Redemption Information" regarding purchases made by check.
The Fund is intended to be a long-term investment vehicle and not designed to
provide investors with a means of speculating on short-term market movements.
In addition, because excessive trading can hurt the Fund's performance and
shareholders, the Fund reserves the right to temporarily or permanently
terminate, with or without advance notice, the exchange privilege of any
investor who makes excessive use of the exchange privilege (e.g., more than five
exchanges per calendar year). Your exchanges may be restricted or refused if
the Fund receives or anticipates simultaneous orders affecting significant
portions of the Fund's assets. In particular, a pattern of exchanges with a
"market timer" strategy may be disruptive to the Fund. Therefore, the maximum
number of exchanges you wish to make may be restricted. Contact the Fund for
additional information concerning the exchange privilege.
AUTOMATIC EXCHANGE PLAN. You may make automatic monthly exchanges from one
Money Market Fund account to a Fund account ($50 minimum per transaction). An
exchange from one Fund to another is treated the same as an ordinary sale and
purchase for federal income tax purposes and generally you will realize a
capital gain or loss. You must meet the Fund's minimum initial investment
requirements before this plan is established. You may adopt the plan at the
time an account is opened by completing the appropriate section of the Purchase
Application. You may obtain an Application to establish the Automatic Exchange
Plan after an account is open by calling the Fund at 1-800-378-1405.
Signature guarantees must be signed by an authorized signatory of a bank, trust
company, or member firm and "Signature Guaranteed" must appear with the
signature.
HOW TO REDEEM SHARES
You may redeem shares of the Fund at any time. The price at which the shares
will be redeemed is the net asset value per share next determined after
redemption instructions are received and accepted by the Fund. See "Pricing of
Fund Shares." There are no charges for the redemption of shares except that a
fee of $10 is charged by the transfer agent for each wire redemption and a fee
is charged when redeeming shares in an IRA. Refer to the IRA Disclosure
Statement & Custodial Agreement for additional information on IRA accounts and
fees. Depending upon the redemption price you receive, you may realize a
capital gain or loss for federal income tax purposes.
HOW TO REDEEM BY MAIL. To redeem shares by mail, simply send an unconditional
written request to the Fund specifying the number of shares or dollar amount to
be redeemed, the name of the Fund, the name(s) on the account registration and
the account number. If the dollar amount requested to be redeemed is greater
than the current account value as determined by the net asset value on the
effective date of the redemption, the entire account balance will be redeemed.
A request for redemption must be signed exactly as the shares are registered.
If the amount requested is greater than $25,000, or the proceeds are to be sent
to a person other than the shareholder(s) of record or to a location other than
the address of record, each signature must be guaranteed by a commercial bank or
trust company in the United States, a member firm of the National Association of
Securities Dealers, Inc. or other eligible guarantor institution. A NOTARY
PUBLIC IS NOT AN ACCEPTABLE GUARANTOR. Additional documentation may be required
for the redemption of shares held in corporate, partnership or fiduciary
accounts. See "Additional Redemption Information" for instructions on
redeeming shares in corporate accounts. Additional documentation is required
for the redemption of shares held by persons acting pursuant to a Power of
Attorney. In case of any questions contact the Fund in advance.
The Fund will mail payment for redemption within seven days after it receives
proper instructions for redemption. However, the Fund will delay payment for
seven business days on redemptions of recent purchases made by check. This
allows the Fund to verify that the check used to purchase Fund shares will not
be returned due to insufficient funds and is intended to protect the remaining
investors from loss.
HOW TO REDEEM BY TELEPHONE. See "Additional Redemption Information" regarding
telephone redemptions. Shares may be redeemed, in an amount up to $25,000, by
calling the Fund at 1-800-378-1405. Proceeds redeemed by telephone will be
mailed to your address, or wired or transmitted by electronic funds transfer to
your preauthorized bank account as shown on the records of the Fund. A
redemption request in excess of $25,000 must be made in writing and signed by
each registered holder of the account with signatures guaranteed by a commercial
bank or trust company in the United States, a member firm of the National
Association of Securities Dealers, Inc. or other eligible guarantor institution.
A NOTARY PUBLIC IS NOT AN ACCEPTABLE GUARANTOR. A telephone redemption request
will not be processed within 30 calendar days after an address change. A
redemption request within that 30-day time period must be in writing and signed
by each registered holder of the account with signatures guaranteed. A NOTARY
PUBLIC IS NOT AN ACCEPTABLE GUARANTOR. Telephone redemptions must be in amounts
of $500 or more.
Payment of the redemption proceeds for Fund shares redeemed by telephone where
you request wire payment will normally be made in federal funds on the next
business day. There is currently a $10 fee for each wire redemption. It will
be deducted from your redemption proceeds. Electronically transferred funds
will ordinarily arrive at your bank within two to three banking days after
transmission. To change the designated account, send a written request with the
signature(s) guaranteed to the Fund. Once the funds are transmitted, the time
of receipt and the availability of the funds are not within the Fund's control.
The Fund reserves the right to delay payment for a period of up to seven days
after receipt of the redemption request.
The Fund reserves the right to refuse a telephone redemption or exchange
transaction if it believes it is advisable to do so. Procedures for redeeming
or exchanging shares of the Fund by telephone may be modified or terminated by
the Fund at any time. In an effort to prevent unauthorized or fraudulent
redemption or exchange requests by telephone, the Fund has implemented
procedures designed to reasonably assure that telephone instructions are
genuine. These procedures include: requesting verification of certain personal
information; recording telephone transactions; confirming transactions in
writing; and restricting transmittal of redemption proceeds to preauthorized
designations. Other procedures may be implemented from time to time. If
reasonable procedures are not implemented, the Fund may be liable for any loss
due to unauthorized or fraudulent transactions. In all other cases, you are
liable for any loss for unauthorized transactions.
You should be aware that during periods of substantial economic or market
change, telephone or wire redemptions may be difficult to implement. If you are
unable to contact the Fund by telephone, you may also redeem shares by
delivering or mailing the redemption request to: The Garzarelli Funds, P.O. Box
674, Milwaukee, WI 53201-0674. If you wish to send the information via
overnight delivery, you may send it to: The Garzarelli Funds, 207 East Buffalo
Street, Suite 315, Milwaukee, WI 53202-5712. REDEMPTION REQUESTS ATTEMPTED VIA
FAX WILL NOT BE ACCEPTED BY THE FUND.
ADDITIONAL REDEMPTION INFORMATION. When a purchase is made by check and a
redemption is requested shortly thereafter, the Fund will delay payment of the
redemption proceeds until the purchase check has cleared your bank, which may
take seven business days from the purchase date. This delay allows the Fund to
verify that proceeds used to purchase Fund shares will not be returned due to
insufficient funds and is intended to protect the remaining investors from loss.
Any redemption or transfer of ownership request for corporate accounts will
require the following WRITTEN documentation:
1. A written letter of instruction signed by the required number of authorized
officers, along with their respective positions. For redemption requests
in excess of $25,000, the written request must be signature guaranteed. A
signature guarantee may be obtained from a commercial bank or trust company
in the United States, a member firm of the National Association of
Securities Dealers, Inc. or other guarantor and "Signature Guaranteed"
must appear with the signature. A NOTARY PUBLIC IS NOT AN ACCEPTABLE
GUARANTOR.
2. A dated copy of your Corporate Resolution that states who is empowered to
act, transfer or sell assets on behalf of the corporation.
3. If the Corporate Resolution is more than 60 days old from the date of the
transaction request, a Certificate of Incumbency from the Corporate
Secretary which specifically states the officer or officers named in the
resolution have the authority to act on the account. The Certificate of
Incumbency must be dated within 60 days of the requested transaction. IF
THE CORPORATE RESOLUTION CONFERS AUTHORITY ON OFFICERS BY TITLE AND NOT BY
NAME, THE CERTIFICATE OF INCUMBENCY MUST NAME THE OFFICER(S) AND THEIR
TITLE(S).
Signature guarantees must be signed by an authorized signatory of a bank, trust
company or member firm and "Signature Guaranteed" must appear with the
signature.
When redeeming shares from the Money Market Fund, if you redeem less than all of
the balance of your account, your redemption proceeds will exclude accrued and
unpaid income through the date of the redemption. When redeeming your entire
balance from the Money Market Fund, accrued income will be paid separately when
the income is collected and paid from the Money Market Fund, at the end of the
month.
The Fund reserves the right to suspend or postpone redemptions during any period
when: trading on the New York Stock Exchange ("Exchange") is restricted, as
determined by the Securities and Exchange Commission ("SEC"), or that the
Exchange is closed for other than customary weekend and holiday closing; the SEC
has by order permitted such suspension; or an emergency, as determined by the
SEC, exists, making disposal of portfolio securities or valuation of net assets
of the Fund not reasonably practicable.
Due to the relatively high cost of maintaining small accounts, if your account
balance falls below the $1,000 minimum as a result of a redemption or exchange,
you will be given a 60 day notice to reestablish the minimum balance or activate
an Automatic Investment Plan. If this requirement is not met, your account may
be closed and the proceeds sent to you. If your account balance in the Money
Market Fund is redeemed, accrued interest will be paid at the end of the
following month.
SYSTEMATIC WITHDRAWAL PLAN. The Fund offers a Systematic Withdrawal Plan which
allows you to designate that a fixed amount ($100 minimum per transaction
limited to those shareholders with a balance of $10,000 or greater upon
commencement of participation in the Systematic Withdrawal Plan) be distributed
to you at regular intervals. The redemption takes place on the 5th or 20th of
the month, but if the day you designate falls on a Saturday, Sunday or legal
holiday, the distribution shall be made on the prior business day. Any changes
made to distribution information must be made in writing and signed by each
registered holder of the account with signatures guaranteed by a commercial bank
or trust company in the United States, a member firm of the National Association
of Securities Dealers, Inc. or other eligible guarantor institution. A NOTARY
PUBLIC IS NOT AN ACCEPTABLE GUARANTOR.
The Systematic Withdrawal Plan may be terminated by you at any time without
charge or penalty, and the Fund reserves the right to terminate or modify the
Systematic Withdrawal Plan upon 60 days' written notice. Withdrawals involve
redemption of Fund shares and may result in a gain or loss for federal income
tax purposes. An application for participation in the Systematic Withdrawal
Plan may be obtained from the Fund by calling 1-800-378-1405.
DIVIDENDS AND DISTRIBUTIONS
The Fund intends to pay dividends from net investment income quarterly and
distribute substantially all net realized capital gains at least annually. The
Fund may make additional distributions if necessary to avoid imposition of a 4%
excise tax or other tax on undistributed income and gains. You may elect to
reinvest all income dividends and capital gains distributions in shares of the
Fund or receive cash as designated on the Purchase Application. Income
dividends and capital gains distributions received in cash may only be sent by
wire if in amounts of $500 or more. You may change your election at any time by
sending written notification to the Fund. The election is effective for
distributions with a dividend record date on or after the date that the Fund
receives notice of the elections. If you do not specify an election, all income
dividends and capital gains distributions will automatically be reinvested in
full and fractional shares of the Fund. Shares will be purchased at the net
asset value in effect on the business day after the dividend record date and
will be credited to your account on such date. Reinvested dividends and
distributions receive the same tax treatment as those paid in cash. Dividends
and capital gains distributions, if any, will reduce the net asset value of the
Fund by the amount of the dividend or capital gains distribution.
SHAREHOLDER REPORTS AND INFORMATION
The Fund will provide the following statements and reports:
CONFIRMATION STATEMENTS Except for Automatic Investment Plans, after each
transaction that affects the account balance or account registration, you will
receive a confirmation statement. Participants in the Automatic Investment Plan
will receive quarterly confirmations of all automatic transactions.
ACCOUNT STATEMENTS All shareholders will receive quarterly account statements.
FINANCIAL REPORTS Financial reports are provided to shareholders semi-annually.
Annual reports will include audited financial statements. To reduce Fund
expenses, one copy of each report will be mailed to each Taxpayer Identification
Number even though the investor may have more than one account in the Fund.
If you need additional copies of previous statements, you may order statements
for the current and preceding year at no charge. Statements for earlier years
are available for $5 each. Call 1-800-378-1405 to order past statements. If
you need information on your account with the Fund or if you wish to submit any
applications, redemption requests, inquiries or notifications, you should
contact: The Garzarelli Funds, P.O. Box 674, Milwaukee, WI 53201-0674 or call 1-
800-378-1405. If you wish to send the information via overnight delivery, you
may send it to: The Garzarelli Funds, 207 East Buffalo Street, Suite 315,
Milwaukee, WI 53202-5712.
RETIREMENT PLANS
The Fund makes available a program under which you may establish an IRA with the
Fund and purchase shares through such account. The minimum initial investment
in the Fund for an IRA is $500. The Fund also offers a tax-sheltered custodial
account designed to qualify under Section 403(b)(7) of the Internal Revenue Code
which is available for use by employees of certain educational, non-profit,
hospital and charitable organizations.
The Fund may be used as an investment vehicle for established defined
contribution plans, including Simplified Employee Pension ("SEPs"), 401(k),
profit-sharing and money purchase pension plans ("Retirement Plans").
You may obtain additional information regarding Retirement Plans by calling the
Fund at 1-800-378-1405.
SERVICE AND DISTRIBUTION PLAN
The Fund has adopted a Service and Distribution Plan (the "Plan") pursuant to
Rule 12b-1 under the 1940 Act. The Plan authorizes payments by the Fund in
connection with the distribution of their shares at an annual rate, as
determined from time to time by the Board of Trustees, of up to 0.25% of the
Fund's average daily net assets.
Payments may be made by the Fund under the Plan for the purpose of financing any
activity primarily intended to result in the sale of shares of the Fund as
determined by the Board of Trustees. Such activities include advertising,
compensation for sales and sales marketing activities of financial institutions
and others, such as dealers or other distributors, shareholder account
servicing, production and dissemination of prospectuses and sales and marketing
materials, and capital or other expenses of associated equipment, rent,
salaries, bonuses, interest and other overhead. To the extent any activity is
one which the Fund may finance without a Plan, the Fund may also make payments
to finance such activity outside of the Plan and not subject to its limitations.
Payments under the Plan are not tied exclusively to actual distribution and
service expenses, and the payments may exceed distribution and service expenses
actually incurred.
TAXES
The Fund intends to qualify for treatment as a regulated investment company
under the Internal Revenue Code (the "Code"). In each taxable year that the
Fund so qualifies, the Fund (but not its shareholders) will be relieved of
federal income tax on that part of its investment company taxable income and net
capital gain that is distributed to shareholders.
Dividends from the Fund's investment company taxable income (whether paid in
cash or reinvested in additional shares) are taxable to its shareholders as
ordinary income to the extent of the Fund's earnings and profits. Distributions
of the Fund's net capital gain, when designated as such, are taxable to its
shareholders as long-term capital gain, regardless of how long they have held
their Fund shares and whether such distributions are paid in cash or reinvested
in additional Fund shares. The Fund provides federal tax information to its
shareholders annually, including information about dividends and other
distributions paid during the preceding year.
The Fund will be required to withhold federal income tax at a rate of 31%
("backup withholding") from dividend payments and redemption and exchange
proceeds if you fail to provide a certified Social Security or Taxpayer
Identification Number or IRS Form W-8.
The foregoing is only a summary of some of the important federal tax
considerations generally affecting the Fund and its shareholders. See "Taxes"
in the Statement of Additional Information for further discussion. There may be
other federal, state or local tax considerations applicable to you as an
investor. You therefore are urged to consult your tax adviser regarding any
tax-related issues.
CAPITAL STRUCTURE
The Trust is a business trust established under Delaware law. The Trust was
established under a Certificate of Trust dated as of October 1, 1996. The
Trust's shares have no par value. Shares of the Trust may be issued in one or
more series or "Funds" and each Fund may have more than one class of shares.
The Fund is currently authorized to issue a single class of shares, and the
Garzarelli Balanced Fund is currently the Trust's only Fund. The Fund's shares
may be issued in an unlimited number by the trustees of the Trust.
Shares issued by the Fund have no preemptive, conversion or subscription rights.
Each whole share is entitled to one vote as to any matter on which it is
entitled to vote and each fractional share is entitled to a proportionate
fractional vote. Shareholders have equal and exclusive rights as to dividends
and distributions as declared by the Fund and to the net assets of the Fund upon
liquidation or dissolution. The Fund, as a separate series of the Trust, votes
on matters affecting the Fund (e.g., approval of the Advisory Agreement). The
Fund and all future series of the Trust will vote as a single class on matters
affecting all series of the Trust (e.g., election or removal of trustees).
Voting rights are not cumulative, so that the holders of more than 50% of the
shares voting in any election of trustees can, if they so choose, elect all of
the trustees of the Trust. While the Trust is not required and does not intend
to hold annual meetings of shareholders, such meetings may be called by trustees
at their discretion, or upon demand by the holders of 10% or more of the
outstanding shares of the Trust. Shareholders may receive assistance in
communicating with other shareholders in connection with the election or removal
of trustees pursuant to the provisions of Section 16(c) of the 1940 Act.
As of the date of this Prospectus, Elaine M. Garzarelli owned all of the
outstanding shares of the Fund. It is contemplated that the public offering of
the shares of the Fund will reduce Elaine M. Garzarelli's holdings to less than
5% of the total shares outstanding.
TRANSFER AND DIVIDEND DISBURSING AGENT, CUSTODIAN AND INDEPENDENT AUDITORS
Sunstone Investor Services, LLC, 207 East Buffalo Street, Suite 400, Milwaukee,
WI 53202-5712, acts as the Fund's Transfer and Dividend Disbursing Agent.
Sunstone Investor Services, LLC, is an affiliate of Sunstone Financial Group,
Inc. who serves as the Fund's Administrator. See "Management of the Fund."
UMB Bank, n.a., which has its principal address at 928 Grand Avenue, Kansas
City, MO, 64141, acts as Custodian of the Fund's investments. Neither the
Transfer and Dividend Disbursing Agent nor the Custodian has any part in
deciding the Fund's investment policies or which securities are to be purchased
or sold for the Fund's portfolio. Ernst & Young, LLP has been selected to serve
as independent auditors of the Trust.
FUND PERFORMANCE
From time to time, the Fund may advertise its "average annual total return"
over various periods of time. An average annual total return refers to the rate
of return which, if applied to an initial investment at the beginning of a
stated period and compounded over the period, would result in the redeemable
value of the investment at the end of the stated period assuming reinvestment of
all dividends and distributions and reflecting the effect of all recurring fees.
A shareholder's investment in the Fund and its return are not guaranteed and
will fluctuate according to market conditions. When considering "average"
annual total return figures for periods longer than one year, you should note
that the Fund's annual total return for any one year in the period might have
been greater or less than the average for the entire period. The Fund also may
use "aggregate" total return figures for various periods, representing the
cumulative change in value of an investment in the Fund for a specific period
(again reflecting changes in the Fund's share price and assuming reinvestment of
dividends and distributions).
The Fund may quote its average annual total and/or aggregate total return for
various time periods in advertisements or communications to shareholders. The
Fund may also compare its performance to that of other mutual funds and to stock
and other relevant indices or to rankings prepared by independent services or
industry publications. For example, the Fund's total return may be compared to
data prepared by Lipper Analytical Services, Inc., Morningstar, Inc., Micropal
Data, Inc., Value Line Mutual Fund Survey and CDA Investment Technologies, Inc.
Total return data as reported in such national financial publications as THE
WALL STREET JOURNAL, THE NEW YORK TIMES, INVESTOR'S BUSINESS DAILY, USA TODAY,
BARRON'S, MONEY and FORBES as well as in publications of a local or regional
nature, may be used in comparing the Fund's performance.
The Fund's total return may also be compared to such indices as the Dow Jones
Industrial Average, Standard & Poor's 500 Composite Stock Price Index, Nasdaq
Composite OTC Index or Nasdaq Industrials Index, Consumer Price Index and
Russell 2000 Index. Further information on performance measurement may be found
in the Statement of Additional Information. Performance quotations of the Fund
represent its past performance and should not be considered as representative of
future results. The investment return and principal value of an investment in
the Fund will fluctuate so that an investor's shares, when redeemed, may be
worth more or less than their original cost. The methods used to compute the
Fund's total return and yield are described in more detail in the Statement of
Additional Information.
THE GARZARELLI FUNDS
STATEMENT OF ADDITIONAL INFORMATION
FOR THE
GARZARELLI BALANCED FUND
This Statement of Additional Information dated March 31, 1997, is meant to
be read in conjunction with the Prospectus dated March 31, 1997, for the
Garzarelli Balanced Fund, (the "Fund") and is incorporated by reference in its
entirety into the Prospectus. Because this Statement of Additional Information
is not itself a prospectus, no investment in shares of the Fund should be made
solely upon the information contained herein. Copies of the Prospectus for the
Fund may be obtained by writing The Garzarelli Funds, P.O. Box 674, Milwaukee,
Wisconsin 53201-0674, or calling 1-800-378-1405. Capitalized terms used but not
defined herein have the same meanings as in the Prospectus.
TABLE OF CONTENTS
Page
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ADDITIONAL INVESTMENT INFORMATION................................ S- 3
INVESTMENT RESTRICTIONS.......................................... S-15
ADDITIONAL TRUST INFORMATION..................................... S-17
Trustees and Officers....................................... S-17
Control Persons and Principal Holders of Securities......... S-18
Investment Adviser.......................................... S-19
Administrator............................................... S-20
Custodian, Transfer Agent and Dividend Paying Agent......... S-21
Legal Counsel .............................................. S-21
Independent Auditors........................................ S-21
DISTRIBUTION OF SHARES........................................... S-21
PORTFOLIO TRANSACTIONS AND BROKERAGE............................. S-21
TAXES............................................................ S-23
DESCRIPTION OF SHARES............................................ S-25
RETIREMENT PLANS................................................. S-28
PERFORMANCE INFORMATION.......................................... S-29
PURCHASE, EXCHANGE AND REDEMPTION OF SHARES;
DETERMINATION OF NET ASSET VALUE................................. S-31
OTHER INFORMATION................................................ S-31
FINANCIAL STATEMENTS............................................. S-32
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NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY
REPRESENTATIONS NOT CONTAINED IN THIS STATEMENT OF ADDITIONAL INFORMATION OR IN
THE PROSPECTUS IN CONNECTION WITH THE OFFERING MADE BY THE PROSPECTUS AND, IF
GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS
HAVING BEEN AUTHORIZED BY THE FUND. THE PROSPECTUS DOES NOT CONSTITUTE AN
OFFERING BY THE FUND IN ANY JURISDICTION IN WHICH SUCH OFFERING MAY NOT LAWFULLY
BE MADE.
ADDITIONAL INVESTMENT INFORMATION
The following supplements the investment objective and policies of the Fund
as set forth in the Prospectus.
The Garzarelli Funds (the "Trust") is a no-load, open-end, management
investment company, commonly known as a mutual fund. The Trust presently
consists of one diversified investment portfolio referred to as a "Fund."
Garzarelli Investment Management LLC ("Adviser") serves as the investment
adviser to the Fund. Elaine M. Garzarelli, founder and Chairperson of the
Adviser, designed the modeling process used by the Adviser and is primarily
responsible for determining whether to emphasize equities or fixed income
securities and for identifying the industry sectors to be emphasized. Affinity
Investment Advisers, Inc. ("Sub-Adviser") acts as Sub-Adviser to the Fund.
GARZARELLI BALANCED FUND. The investment objective of the Garzarelli
Balanced Fund is long-term growth of capital and current income, consistent with
reasonable investment risk. The Fund seeks to achieve its objective by
investing in common stocks and other equity-type securities, corporate and
government debt securities and short-term money market instruments. Except
during a temporary defensive period, at least 25% of the Fund's total assets
will be invested in fixed income senior securities and at least 25% of the
Fund's total assets will be invested in equity securities. Otherwise, the
percentages of assets invested in equity, fixed income and money market
securities are not fixed and will vary depending on the Adviser's assessment of
economic and market conditions. Through active portfolio management, the
Adviser and Sub-Adviser will consider the relative returns from asset allocation
as well as individual security selection, in seeking to achieve the Fund's
objective.
TEMPORARY, DEFENSIVE POSITION. The Fund may invest in a variety of money
market instruments for temporary defensive purposes, pending investment, to meet
anticipated redemption requests and/or to retain the flexibility to respond
promptly to changes in market and economic conditions. Commercial paper
represents short-term unsecured promissory notes issued in bearer form by banks
or bank holding companies, corporations and finance companies. Certificates of
deposit are generally negotiable certificates issued against funds deposited in
a commercial bank for a definite period of time and earning a specified return.
Repurchase Agreements are agreements to purchase portfolio securities from
financial institutions subject to the seller's agreement to repurchase them at a
mutually agreed upon date and price. Bankers' acceptances are negotiable drafts
or bills of exchange, normally drawn by an importer or exporter to pay for
specific merchandise, which are "accepted" by a bank, meaning, in effect, that
the bank unconditionally agrees to pay the face value of the instrument on
maturity. Fixed time deposits are bank obligations payable at a stated maturity
date and bearing interest at a fixed rate. Fixed time deposits may be withdrawn
on demand by the investor, but may be subject to early withdrawal penalties that
vary depending upon market conditions and the remaining maturity of the
obligation. There are no contractual restrictions on the right to transfer a
beneficial interest in a fixed time deposit to a third party, although there is
no market for such deposits. Bank notes and bankers' acceptances rank junior to
deposit liabilities of the bank and pari passu with other senior, unsecured
obligations of the bank. Bank notes are classified as "other borrowings" on a
bank's balance sheet, while deposit notes and certificates of deposit are
classified as deposits. Bank notes are not insured by the Federal Deposit
Insurance Corporation or any other insurer. Deposit notes are insured by the
Federal Deposit Insurance Corporation only to the extent of $100,000 per
depositor per bank.
UNITED STATES GOVERNMENT SECURITIES. To the extent consistent with its
investment objective, the Fund may invest in a variety of U.S. Treasury
obligations consisting of bills, notes and bonds, which principally differ only
in their interest rates, maturities and time of issuance. The Fund may also
invest in other securities issued or guaranteed by the U.S. government, its
agencies or instrumentalities. Obligations of certain agencies and
instrumentalities, such as the Government National Mortgage Association
("GNMA"), are supported by the full faith and credit of the U.S. Treasury;
others, such as those of the Export-Import Bank of the United States, are
supported by the right of the issuer to borrow from the Treasury; others, such
as those of the Federal National Mortgage Association ("FNMA"), are supported
by the discretionary authority of the U.S. government to purchase the agency's
obligations; still others, such as those of the Student Loan Marketing
Association ("SLMA"), are supported only by the credit of the
instrumentalities. No assurance can be given that the U.S. government would
provide financial support to its agency or instrumentalities if it is not
obligated to do so by law.
Securities guaranteed as to principal and interest by the U.S. government,
its agencies or instrumentalities are deemed to include: (a) securities for
which the payment of principal and interest is backed by an irrevocable letter
of credit issued by the U.S. government or an agency or instrumentality thereof;
and (b) participations in loans made to foreign governments or their agencies
that are so guaranteed. The secondary market for certain of these
participations is limited. Such participations will therefore be regarded as
illiquid. No assurance can be given that the U.S. government would provide
financial support to its agencies or instrumentalities if it is not obligated to
do so by law.
ILLIQUID SECURITIES. The Fund may invest up to 15% of its net assets in
illiquid securities (i.e., securities that cannot be disposed of within seven
days in the normal course of business at approximately the amount at which the
Fund has valued the securities). The Board of Trustees or its delegate has the
ultimate authority to determine which securities are liquid or illiquid for
purposes of this limitation. Certain securities exempt from registration or
issued in transactions exempt from registration ("restricted securities") under
the Securities Act of 1933, as amended ("Securities Act") that may be resold
pursuant to Rule 144A or Regulation S under the Securities Act, may be
considered liquid. The Board has delegated to the Adviser or Sub-Adviser the
day-to-day determination of the liquidity of a security, although it has
retained oversight and ultimate responsibility for such determinations.
Although no definite quality criteria are used, the Board has directed the
Adviser to consider such factors as (i) the nature of the market for a security
(including the institutional private or international resale market), (ii) the
terms of these securities or other instruments allowing for the disposition to a
third party or the issuer thereof (e.g., certain repurchase obligations and
demand instruments), (iii) the availability of market quotations (e.g., for
securities quoted in PORTAL system), and (iv) other permissible relevant
factors.
Restricted securities may be sold in privately negotiated or other exempt
transactions, qualified non-U.S. transactions, such as under Regulation S, or in
a public offering with respect to which a registration statement is in effect
under the Securities Act. Where registration is required, the Fund may be
obligated to pay all or part of the registration expenses and a considerable
time may elapse between the decision to sell and the sale date. If, during such
period, adverse market conditions were to develop, the Fund might obtain a less
favorable price than prevailed when it decided to sell. Restricted securities
will be priced at fair value as determined in good faith by the Board.
If through the appreciation of illiquid securities or the depreciation of
liquid securities, the Fund should be in a position where more than 15% of the
value of its net assets are invested in illiquid assets, including restricted
securities which are not readily marketable, the Fund will take such steps as it
deems advisable, if any, to reduce the percentage of such securities to 15% or
less of the value of its net assets.
FOREIGN SECURITIES. Investments in foreign countries involve certain risks
which are not typically associated with U.S. investments. There may be less
publicly available information about foreign companies comparable to reports and
ratings published about U.S. companies. Foreign companies are not generally
subject to uniform accounting, auditing, and financial reporting standards and
requirements comparable to those applicable to U.S. companies. There also may
be less government supervision and regulation of foreign stock exchanges,
brokers and listed companies than in the United States.
Foreign stock markets may have substantially less volume than the New York
Stock Exchange, and securities of comparable U.S. companies. Brokerage
commissions and other transaction costs on foreign securities exchanges
generally are higher than in the United States.
Because investment in foreign companies will usually involve currencies of
foreign countries, and because the Fund may temporarily hold funds in bank
deposits in foreign currencies during the course of investment programs, the
value of the assets of the Fund as measured in U.S. dollars may be affected
favorably or unfavorably by changes in foreign currency exchange rates and
exchange control regulations, and the Fund may incur costs in connection with
conversion between various currencies. A change in the value of any foreign
currency relative to the U.S. dollar, when the Fund holds that foreign currency
or a security denominated in that foreign currency, will cause a corresponding
change in the dollar value of the Fund assets denominated or traded in that
country.
OPTIONS AND FUTURES
OPTIONS. General. The Fund may purchase and write (i.e. sell) put and
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call options. Such options may relate to particular securities or stock
indices, and may or may not be listed on a domestic or foreign securities
exchange and may or may not be issued by the Options Clearing Corporation.
Options trading is a highly specialized activity that entails greater than
ordinary investment risk. Options may be more volatile than the underlying
instruments, and therefore, on a percentage basis, an investment in options may
be subject to greater fluctuation than an investment in the underlying
instruments themselves.
A call option for a particular security gives the purchaser of the option
the right to buy, and the writer (seller) the obligation to sell, the underlying
security at the stated exercise price at any time prior to the expiration of the
option, regardless of the market price of the security. The premium paid to the
writer is in consideration for undertaking the obligation under the option
contract. A put option for a particular security gives the purchaser the right
to sell the security at the stated exercise price at any time prior to the
expiration date of the option, regardless of the market price of the security.
Stock index options are put options and call options on various stock
indexes. In most respects, they are identical to listed options on common
stocks. The primary difference between stock options and index options occurs
when index options are exercised. In the case of stock options, the underlying
security, common stock, is delivered. However, upon the exercise of an index
option, settlement does not occur by delivery of the securities comprising the
index. The option holder who exercises the index option receives an amount of
cash if the closing level of the stock index upon which the option is based is
greater than, in the case of a call, or less than, in the case of a put, the
exercise price of the option. This amount of cash is equal to the difference
between the closing price of the stock index and the exercise price of the
option expressed in dollars times a specified multiple. A stock index
fluctuates with changes in the market value of the stocks included in the index.
For example, some stock index options are based on a broad market index, such as
the Standard & Poor's 500 or the Value Line Composite Index or a narrower market
index, such as the Standard & Poor's 100. Indexes may also be based on an
industry or market segment, such as the AMEX Oil and Gas Index or the Computer
and Business Equipment Index. Options on stock indexes are currently traded on
the following exchanges: the Chicago Board Options Exchange, the New York Stock
Exchange, the American Stock Exchange, the Pacific Stock Exchange, and the
Philadelphia Stock Exchange.
The Fund's obligation to sell an instrument subject to a call option
written by it, or to purchase an instrument subject to a put option written by
it, may be terminated prior to the expiration date of the option by the Fund's
execution of a closing purchase transaction, which is effected by purchasing on
an exchange an option of the same series (i.e., same underlying instrument,
exercise price and expiration date) as the option previously written. A closing
purchase transaction will ordinarily be effected to realize a profit on an
outstanding option, to prevent an underlying instrument from being called, to
permit the sale of the underlying instrument or to permit the writing of a new
option containing different terms on such underlying instrument. The cost of
such a liquidation purchase plus transactions costs may be greater than the
premium received upon the original option, in which event the Fund will have
incurred a loss in the transaction. There is no assurance that a liquid
secondary market will exist for any particular option. An option writer, unable
to effect a closing purchase transaction, will not be able to sell the
underlying instrument or liquidate the assets held in the segregated account
until the option expires or the optioned instrument is delivered upon exercise
with the result that the writer in such circumstances will be subject to the
risk of market decline or appreciation in the instrument during such period.
If an option purchased by the Fund expires unexercised, the Fund realizes a
loss equal to the premium paid. If the Fund enters into a closing sale
transaction on an option purchased by it, the Fund will realize a gain if the
premium received by the Fund on the closing transaction is more than the premium
paid to purchase the option, or a loss if it is less. If an option written by
the Fund expires on the stipulated expiration date or if the Fund enters into a
closing purchase transaction, it will realize a gain (or loss if the cost of a
closing purchase transaction exceeds the net premium received when the option is
sold). If an option written by the Fund is exercised, the proceeds of the sale
will be increased by the net premium originally received and the Fund will
realize a gain or loss.
Federal Tax Treatment of Options. Certain option transactions have special
--------------------------------
tax results for the Fund. Expiration of a call option written by the Fund will
result in short-term capital gain. If the call option is exercised, the Fund
will realize a gain or loss from the sale of the security covering the call
option and, in determining such gain or loss, the option premium will be
included in the proceeds of the sale.
If the Fund writes options other than "qualified covered call options,"
as defined in Section 1092 of the Internal Revenue Code of 1986, as amended (the
"Code"), or purchases puts, any losses on such options transactions, to the
extent they do not exceed the unrealized gains on the securities covering the
options, may be subject to deferral until the securities covering the options
have been sold.
In the case of transactions involving "nonequity options," as defined in
Code Section 1256, the Fund will treat any gain or loss arising from the lapse,
closing out or exercise of such positions as 60% long-term and 40% short-term
capital gain or loss as required by Section 1256 of the Code. In addition, such
positions must be marked-to-market as of the last business day of the year, and
gain or loss must be recognized for federal income tax purposes in accordance
with the 60%/40% rule discussed above even though the position has not been
terminated. A "nonequity option" includes options involving stock indexes
such as the Standard & Poor's 500 and 100 indexes.
Certain Risks Regarding Options. There are several risks associated with
-------------------------------
transactions in options. For example, there are significant differences between
the securities and options markets that could result in an imperfect correlation
between these markets, causing a given transaction not to achieve its
objectives. In addition, a liquid secondary market for particular options,
whether traded over-the-counter or on an exchange, may be absent for reasons
which include the following: there may be insufficient trading interest in
certain options; restrictions may be imposed by an exchange on opening
transactions or closing transactions or both; trading halts, suspensions or
other restrictions may be imposed with respect to particular classes or series
of options or underlying securities or currencies; unusual or unforeseen
circumstances may interrupt normal operations on an exchange; the facilities of
an exchange or the Options Clearing Corporation may not at all times be adequate
to handle current trading volume; or one or more exchanges could, for economic
or other reasons, decide or be compelled at some future date to discontinue the
trading of options (or a particular class or series of options), in which event
the secondary market on that exchange (or in that class or series of options)
would cease to exist, although outstanding options that had been issued by the
Options Clearing Corporation as a result of trades on that exchange would
continue to be exercisable in accordance with their terms.
Successful use by the Fund of options on stock indexes will be subject to
the ability of the Adviser or Sub-Adviser to correctly predict movements in the
directions of the stock market. This requires different skills and techniques
than predicting changes in the prices of individual securities. In addition,
the Fund's ability to effectively hedge all or a portion of the securities in
its portfolio, in anticipation of or during a market decline, through
transactions in put options on stock indexes, depends on the degree to which
price movements in the underlying index correlate with the price movements of
the securities held by the Fund. Inasmuch as the Fund's securities will not
duplicate the components of an index, the correlation will not be perfect.
Consequently, the Fund will bear the risk that the prices of its securities
being hedged will not move in the same amount as the prices of its put options
on the stock indexes. It is also possible that there may be a negative
correlation between the index and the Fund's securities which would result in a
loss on both such securities and the options on stock indexes acquired by the
Fund.
The hours of trading for options may not conform to the hours during which
the underlying securities are traded. To the extent that the options markets
close before the markets for the underlying securities, significant price and
rate movements can take place in the underlying markets that cannot be reflected
in the options markets. The purchase of options is a highly specialized
activity which involves investment techniques and risks different from those
associated with ordinary portfolio securities transactions. The purchase of
stock index options involves the risk that the premium and transaction costs
paid by the Fund in purchasing an option will be lost as a result of
unanticipated movements in prices of the securities comprising the stock index
on which the option is based.
There is no assurance that a liquid secondary market on an options exchange
will exist for any particular option, or at any particular time, and for some
options no secondary market on an exchange or elsewhere may exist. If the Fund
is unable to close out a call option on securities that it has written before
the option is exercised, the Fund may be required to purchase the optioned
securities in order to satisfy its obligation under the option to deliver such
securities. If the Fund is unable to effect a closing sale transaction with
respect to options on securities that it has purchased, it would have to
exercise the option in order to realize any profit and would incur transaction
costs upon the purchase and sale of the underlying securities.
COVER FOR OPTIONS POSITIONS. Transactions using options (other than
options that the Fund has purchased) expose the Fund to an obligation to another
party. The Fund will not enter into any such transactions unless it owns either
(1) an offsetting ("covered") position in securities or other options or (2)
cash, receivables and short-term debt securities with a value sufficient at all
times to cover its potential obligations not covered as provided in (1) above.
The Fund will comply with Securities and Exchange Commission (the "SEC")
guidelines regarding cover for these instruments and, if the guidelines so
require, set aside cash, U.S. government securities or other liquid securities
in a segregated account with its Custodian in the prescribed amount. Under
current SEC guidelines, the Fund will segregate assets to cover transactions in
which the Fund writes or sells options.
Assets used as cover or held in a segregated account cannot be sold while
the position in the corresponding option is open, unless they are replaced with
similar assets. As a result, the commitment of a large portion of the Fund's
assets to cover or segregated accounts could impede portfolio management or the
Fund's ability to meet redemption requests or other current obligations.
FUTURES CONTRACTS. The Fund may enter into futures contracts (or options
thereon). U.S. futures contracts are traded on exchanges which have been
designated "contract markets" by the Commodity Futures Trading Commission
("CFTC") and must be executed through a futures commission merchant (an
"FCM") or brokerage firm which is a member of the relevant contract market.
Although futures contracts by their terms call for the delivery or acquisition
of the underlying commodities or a cash payment based on the value of the
underlying commodities, in most cases the contractual obligation is offset
before the delivery date of the contract by buying, in the case of a contractual
obligation to sell, or selling, in the case of a contractual obligation to buy,
an identical futures contract on a commodities exchange. Such a transaction
cancels the obligation to make or take delivery of the commodities.
The acquisition or sale of a futures contract could occur, for example, if
the Fund held or considered purchasing equity securities and sought to protect
itself from fluctuations in prices without buying or selling those securities.
For example, if prices were expected to decrease, the Fund could sell equity
index futures contracts, thereby hoping to offset a potential decline in the
value of equity securities in the portfolio by a corresponding increase in the
value of the futures contract position held by the Fund and thereby prevent the
Fund's net asset value from declining as much as it otherwise would have. The
Fund also could protect against potential price declines by selling portfolio
securities and investing in money market instruments. However, since the
futures market is more liquid than the cash market, the use of futures contracts
as an investment technique would allow the Fund to maintain a defensive position
without having to sell portfolio securities.
Similarly, when prices of equity securities are expected to increase,
futures contracts could be bought to attempt to hedge against the possibility of
having to buy equity securities at higher prices. This technique is sometimes
known as an anticipatory hedge. Since the fluctuations in the value of futures
contracts should be similar to those of equity securities, the Fund could take
advantage of the potential rise in the value of equity securities without buying
them until the market had stabilized. At that time, the futures contracts could
be liquidated and the Fund could buy equity securities on the cash market.
The Fund may also enter into interest rate futures contracts. Interest
rate futures contracts currently are traded on a variety of fixed income
securities, including long-term U.S. Treasury Bonds, Treasury Notes, Government
National Mortgage Association modified pass-through mortgage-backed securities,
U.S. Treasury Bills, bank certificates of deposit and commercial paper.
Futures contracts entail risks. Although the Adviser and Sub-Adviser
believe that use of such contracts could benefit the Fund, if the Adviser and
Sub-Adviser's investment judgment were incorrect, the Fund's overall performance
could be worse than if the Fund had not entered into futures contracts. For
example, if the Fund hedged against the effects of a possible decrease in prices
of securities held in the Fund's portfolio and prices increased instead, the
Fund would lose part or all of the benefit of the increased value of these
securities because of offsetting losses in the Fund's futures positions. In
addition, if the Fund had insufficient cash, it might have to sell securities
from its portfolio to meet margin requirements. Those sales could be at
increased prices which reflect the rising market and could occur at any time
when the sales would be disadvantageous to the Fund.
The ordinary spreads between prices in the cash and futures markets, due to
differences in the nature of those markets, are subject to distortions. First,
the ability of investors to close out futures contracts through offsetting
transactions could distort the normal price relationship between the cash and
futures markets. Second, to the extent the participants decide to make or take
delivery, liquidity in the futures markets could be reduced and prices in the
futures markets distorted. Third, from the point of view of speculators, the
margin deposit requirements in the futures markets are less onerous than margin
requirements in the securities market. Therefore, increased participation by
speculators in the futures markets may cause temporary price distortions. Due
to the possibility of the foregoing distortions, a correct forecast of general
price trends still may not result in a successful use of futures.
The prices of futures contracts depend primarily on the value of their
underlying instruments. Because there are a limited number of types of futures
contracts, it is possible that the standardized futures contracts available to
the Fund would not match exactly the Fund's current or potential investments.
The Fund might buy or sell futures contracts based on underlying instruments
with different characteristics from the securities in which it would typically
invest -- for example, by hedging investments in portfolio securities with a
futures contract based on a broad index of securities -- which involves a risk
that the futures position might not correlate precisely with the performance of
the Fund's investments.
Futures prices can also diverge from the prices of their underlying
instruments, even if the underlying instruments closely correlate with the
Fund's investments. Futures prices are affected by such factors as current and
anticipated short-term interest rates, changes in volatility of the underlying
instruments, and the time remaining until expiration of the contract. Those
factors may affect securities prices differently from futures prices. Imperfect
correlations between the Fund's investments and its futures positions could also
result from differing levels of demand in the futures markets and the securities
markets, from structural differences in how futures and securities are traded,
and from imposition of daily price fluctuation limits for futures contracts.
The Fund would be able to buy or sell futures contracts with a greater or
lesser value than the securities it wished to hedge or was considering
purchasing in order to attempt to compensate for differences in historical
volatility between the futures contract and the securities, although this might
not be successful in all cases. If price changes in the Fund's futures
positions were poorly correlated with its other investments, its futures
positions could fail to produce desired gains or result in losses that would not
be offset by the gains in the Fund's other investments.
The Fund will not, as to any positions, whether long, short or a
combination thereof, enter into futures and options thereon for which the
aggregate initial margins and premiums exceed 5% of the fair market value of its
assets after taking into account unrealized gains and losses on options entered
into. In the case of an option that is "in-the-money," the in-the-money
amount may be excluded in computing such 5%. In general a call option on a
future is "in-the-money" if the value of the future exceeds the exercise
("strike") price of the call; a put option on a future is "in-the-money" if
the value of the future which is the subject of the put is exceeded by the
strike price of the put. As to long positions which are used as part of the
Fund's portfolio strategies the "underlying commodity value" of the Fund's
futures and options thereon must not exceed the sum of (i) cash set aside in an
identifiable manner, or short-term U.S. debt obligations or other dollar-
denominated high-quality, short-term money instruments so set aside, plus sums
deposited on margin; (ii) cash proceeds from existing investments due in 30
days; and (iii) accrued profits held at the futures commission merchant. The
"underlying commodity value" of a future is computed by multiplying the size
of the future by the daily settlement price of the future. For an option on a
future, that value is the underlying commodity value of the future underlying
the option.
Unlike the situation in which the Fund purchases or sells a security, no
price is paid or received by the Fund upon the purchase or sale of a futures
contract. Instead, the Fund is required to deposit in a segregated asset
account an amount of cash or qualifying securities (currently U.S. Treasury
bills), currently in a minimum amount of $15,000. This is called "initial
margin." Such initial margin is in the nature of a performance bond or good
faith deposit on the contract. However, since losses on open contracts are
required to be reflected in cash in the form of variation margin payments, the
Fund may be required to make additional payments during the term of a contract
to its broker. Such payments would be required, for example, where, during the
term of an interest rate futures contract purchased by the Fund, there was a
general increase in interest rates, thereby making the Fund's portfolio
securities less valuable. In all instances involving the purchase of financial
futures contracts by the Fund, an amount of cash together with such other
securities as permitted by applicable regulatory authorities to be utilized for
such purpose, at least equal to the market value of the future contracts, will
be deposited in a segregated account with the Fund's custodian to collateralize
the position. At any time prior to the expiration of a futures contract, the
Fund may elect to close its position by taking an opposite position which will
operate to terminate the Fund's position in the futures contract.
Because futures contracts are generally settled within a day from the date
they are closed out, compared with a settlement period of three days for some
types of securities, the futures markets can provide superior liquidity to the
securities markets. Nevertheless, there is no assurance a liquid secondary
market will exist for any particular futures contract at any particular time.
In addition, futures exchanges may establish daily price fluctuation limits for
futures contracts and may halt trading if a contract's price moves upward or
downward more than the limit in a given day. On volatile trading days when the
price fluctuation limit is reached, it would be impossible for the Fund to enter
into new positions or close out existing positions. If the secondary market for
a futures contract were not liquid because of price fluctuation limits or
otherwise, the Fund would not promptly be able to liquidate unfavorable futures
positions and potentially could be required to continue to hold a futures
position until the delivery date, regardless of changes in its value. As a
result, the Fund's access to other assets held to cover its future positions
also could be impaired.
OPTIONS ON FUTURES CONTRACTS. The Fund may purchase put and call options
on futures contracts. An option on a futures contract provides the holder with
the right to enter into a "long" position in the underlying futures contract,
in the case of a call option, or a "short" position in the underlying futures
contract, in the case of a put option, at a fixed exercise price to a stated
expiration date. Upon exercise of the option by the holder, a contract market
clearing house establishes a corresponding short position for the writer of the
option, in the case of a call option, or a corresponding long position, in the
case of a put option. In the event that an option is exercised, the parties
will be subject to all the risks associated with the trading of futures
contracts, such as payment of variation margin deposits.
A position in an option on a futures contract may be terminated by the
purchaser or seller prior to expiration by effecting a closing purchase or sale
transaction, subject to the availability of a liquid secondary market, which is
the purchase or sale of an option of the same series (i.e., the same exercise
price and expiration date) as the option previously purchased or sold. The
difference between the premiums paid and received represents the trader's profit
or loss on the transaction.
An option, whether based on a futures contract, a stock index or a
security, becomes worthless to the holder when it expires. Upon exercise of an
option, the exchange or contract market clearing house assigns exercise notices
on a random basis to those of its members which have written options of the same
series and with the same expiration date. A brokerage firm receiving such
notices then assigns them on a random basis to those of its customers which have
written options of the same series and expiration date. A writer therefore has
no control over whether an option will be exercised against it, nor over the
time of such exercise.
The purchase of a call option on a futures contract is similar in some
respects to the purchase of a call option on an individual security. Depending
on the pricing of the option compared to either the price of the futures
contract upon which it is based or the price of the underlying instrument,
ownership of the option may or may not be less risky than ownership of the
futures contract or the underlying instrument. As with the purchase of futures
contracts, when the Fund is not fully invested it could buy a call option on a
futures contract to hedge against a market advance.
The purchase of a put option on a futures contract is similar in some
respects to the purchase of protective put options on portfolio securities. For
example, the Fund would be able to buy a put option on a futures contract or
hedge the Fund's portfolio against the risk of falling prices.
The amount of risk the Fund would assume if it bought an option on a
futures contract would be the premium paid for the option plus related
transaction costs. In addition to the correlation risks discussed above, the
purchase of an option also entails the risk that changes in the value of the
underlying futures contract will not fully be reflected in the value of the
options bought.
RISK FACTORS OF INVESTING IN FUTURES AND OPTIONS. The successful use of
the investment practices described above with respect to futures contracts and
options on futures contracts, draws upon skills and experience which are
different from those needed to select the other instruments in which the Fund
invests. Should interest or exchange rates or the prices of securities or
financial indices move in an unexpected manner, the Fund may not achieve the
desired benefits of futures and options or may realize losses and thus be in a
worse position than if such strategies had not been used.
The Fund's ability to dispose of its positions in the foregoing instruments
will depend on the availability of liquid markets in the instruments. Markets
in a number of the instruments are relatively new and still developing and it is
impossible to predict the amount of trading interest that may exist in those
instruments in the future. Particular risks exist with respect to the use of
each of the foregoing instruments and could result in such adverse consequences
to the Fund as the possible loss of the entire premium paid for an option bought
by the Fund, and the possible need to defer closing out positions in certain
instruments to avoid adverse tax consequences. As a result, no assurance can be
given that the Fund will be able to use those instruments effectively for the
purposes set forth above.
INVESTMENT COMPANIES. The Fund currently intends to limit its investments
in securities issued by other investment companies so that, as determined
immediately after a purchase of such securities is made: (a) not more than 5%
of the value of the Fund's total assets will be invested in the securities of
any one investment company; (b) not more than 10% of the value of its total
assets will be invested in the aggregate in securities of investment companies
as a group; and (c) not more than 3% of the outstanding voting stock of any one
investment company will be owned by the Fund or by the Trust as a whole.
WARRANTS. The Fund may purchase warrants and similar rights, which are
privileges issued by corporations enabling the owners to subscribe to and
purchase a specified number of shares of the corporation at a specified price
during a specific period of time. The purchase of warrants involves the risk
that the Fund could lose the purchase value of a warrant if the right to
subscribe to additional shares is not exercised prior to the warrant's
expiration. Also, the purchase of warrants involves the risk that the effective
price paid for the warrant added to the subscription price of the related
security may exceed the value of the subscribed security's market price such as
when there is no movement in the level of the underlying security. Warrants
attached to other securities acquired by the Fund are not subject to this
restriction.
CONVERTIBLE SECURITIES. Convertible securities entitle the holder to
receive interest paid or accrued on debt or the dividend paid on preferred stock
until the convertible securities mature or are redeemed, converted or exchanged.
Prior to conversion, convertible securities have characteristics similar to
ordinary debt securities or preferred stocks in that they normally provide a
stable stream of income with generally higher yields than those of common stock
of the same or similar issuers. Convertible securities rank senior to common
stock in a corporation's capital structure and therefore generally entail less
risk of loss of principal than the corporation's common stock.
In selecting convertible securities for the Fund, the Adviser and Sub-
Adviser will consider among other factors, its evaluation of the
creditworthiness of the issuers of the securities; the interest or dividend
income generated by the securities; the potential for capital appreciation of
the securities and the underlying common stocks; the prices of the securities
relative to other comparable securities and to the underlying common stocks;
whether the securities are entitled to the benefits of sinking funds or other
protective conditions; diversification of the Fund's portfolio as to issuers;
and whether the securities are rated by a rating agency and, if so, the ratings
assigned.
The value of convertible securities is a function of their investment value
(determined by yield in comparison with the yields of other securities of
comparable maturity and quality that do not have a conversion privilege) and
their conversion value (their worth, at market value, if converted into the
underlying common stock). The investment value of convertible securities is
influenced by changes in interest rates, with investment value declining as
interest rates increase and increasing as interest rates decline, and by the
credit standing of the issuer and other factors. The conversion value of
convertible securities is determined by the market price of the underlying
common stock. If the conversion value is low relative to the investment value,
the price of the convertible securities is governed principally by their
investment value. To the extent the market price of the underlying common stock
approaches or exceeds the conversion price, the price of the convertible
securities will be increasingly influenced by their conversion value. In
addition, convertible securities generally sell at a premium over their
conversion value determined by the extent to which investors place value on the
right to acquire the underlying common stock while holding fixed income
securities.
Capital appreciation for the Fund may result from an improvement in the
credit standing of an issuer whose securities are held in the Fund or from a
general lowering of interest rates, or a combination of both. Conversely, a
reduction in the credit standing of an issuer whose securities are held by the
Fund or a general increase in interest rates may be expected to result in
capital depreciation to the Fund.
CALCULATION OF PORTFOLIO TURNOVER RATE. The portfolio turnover rate for
the Fund is calculated by dividing the lesser of purchases or sales of portfolio
investments for the reporting period by the monthly average value of the
portfolio investments owned during the reporting period. The calculation
excludes all securities, including options, whose maturities or expiration dates
at the time of acquisition are one year or less. Portfolio turnover may vary
greatly from year to year as well as within a particular year, and may be
affected by cash requirements for redemption of shares and by requirements which
enable the Fund to receive favorable tax treatment. The Fund is not restricted
by policy with regard to portfolio turnover and will make changes in its
investment portfolio from time to time as business and economic conditions as
well as market prices may dictate. It is anticipated the portfolio turnover
rate for the Fund generally will not exceed 150%. However, this should not be
considered as a limiting factor.
INVESTMENT RESTRICTIONS
Consistent with the Fund's investment objective, the Fund has adopted
certain investment restrictions. The following restrictions supplement those
set forth in the Prospectus. Unless otherwise noted, whenever an investment
restriction states a maximum percentage of the Fund's assets that may be
invested in any security or other asset, such percentage restriction will be
determined immediately after and as a result of the Fund's acquisition of such
security or other asset. Accordingly, any subsequent change in values, net
assets, or other circumstances will not be considered when determining whether
the investment complies with the Fund's investment limitations except with
respect to the Fund's restrictions on borrowings as set forth in restriction 7,
below.
The Fund's fundamental restrictions cannot be changed without the approval
of the holders of the lesser of: (i) 67% of the Fund's shares present or
represented at a shareholders meeting at which the holders of more than 50% of
such shares are present or represented; or (ii) more than 50% of the outstanding
shares of the Fund.
THE FOLLOWING ARE THE FUND'S FUNDAMENTAL INVESTMENT RESTRICTIONS.
The Fund may not:
1. Issue senior securities, except as permitted under the Investment
Company Act of 1940 (the "Investment Company Act"); provided, however, the Fund
may engage in transactions involving options, futures and options on futures
contracts.
2. Lend money or securities (except by purchasing debt securities or
entering into repurchase agreements or lending portfolio securities).
3. With respect to seventy-five percent (75%) of its total assets,
purchase (a) the securities of any issuer (except securities issued or
guaranteed by the U.S. government or any agency or instrumentality thereof
("U.S. Government Securities"), if such purchase would cause more than five
percent (5%) of the value of the Fund's total assets to be invested in
securities of any one issuer or (b) more than ten percent (10%) of the
outstanding voting securities of any one issuer.
4. Purchase the securities of any issuer if, as a result, 25% or more of
the value of its total assets, determined at the time an investment is made,
exclusive of U.S. Government Securities, are in securities issued by companies
primarily engaged in the same industry.
5. Act as an underwriter or distributor of securities other than shares of
the Fund except to the extent that the Fund's participation as part of a group
in bidding or by bidding alone, for the purchase or permissible investments
directly from an issuer or selling shareholders for the Fund's own portfolio may
be deemed to be an underwriting, and except to the extent that the Fund may be
deemed an underwriter under the Securities Act, by virtue of disposing of
portfolio securities.
6. Purchase or sell real estate (but this shall not prevent the Fund from
investing in securities that are backed by real estate or issued by companies
that invest or deal in real estate or in participation interests in pools of
real estate mortgage loans).
7. Borrow money, except that the Fund may borrow money from a bank for
temporary or emergency purposes (not for leveraging) in an amount not exceeding
33 1/3% of the value of its total assets (including the amount borrowed) less
liabilities (other than borrowings). Any borrowings that exceed 33 1/3% of the
Fund's total assets by reason of a decline in net asset value will be reduced
within three days to the extent necessary to comply with the 33 1/3% limitation.
Transactions involving options, futures and options on futures, will not be
deemed to be borrowings if properly covered by a segregated account where
appropriate.
8. Purchase or sell physical commodities or commodities contracts unless
acquired as a result of ownership of securities or other instruments (but this
shall not prevent the Fund from engaging in transactions involving foreign
currencies, futures contracts, options on futures contracts or options, or from
investing in securities or other instruments backed by physical commodities).
THE FOLLOWING INVESTMENT RESTRICTIONS ARE NOT FUNDAMENTAL, AND MAY BE
CHANGED WITHOUT SHAREHOLDER APPROVAL.
The Fund may not:
1. Purchase securities of other investment companies except to the extent
permitted by the Investment Company Act and the rules and regulations
thereunder.
2. Make investments for the purpose of exercising control or management of
any company except that the Fund may vote portfolio securities in the Fund's
discretion.
3. Acquire illiquid securities if, as a result of such investments, more
than fifteen percent (15%) of the Fund's net assets (taken at market value at
the time of each investment) would be invested in illiquid securities.
"Illiquid securities" means securities that cannot be disposed of within seven
days in the normal course of business at approximately the amount at which the
Fund has valued the securities.
4. Purchase securities on margin (except to obtain such short-term credits
as are necessary for the clearance of purchases and sales of securities) or
participate in a joint trading account; provided, however, the Fund may (i)
purchase or sell futures contracts, (ii) make initial and variation margin
payments in connection with purchases or sales of futures contracts or options
on futures contracts, (iii) write or invest in put or call options on securities
and indexes, and (iv) engage in foreign currency transactions. (The "bunching"
of orders for the sale or purchase of marketable portfolio securities with other
accounts under the management of the Adviser or Sub-Adviser to save brokerage
costs or average prices among them is not deemed to result in a securities
trading account.)
5. Purchase any new portfolio securities when borrowings exceed 5% of
total assets.
The Fund may make commitments more restrictive than the restrictions
listed above so as to permit the sale of shares of the Fund in certain states.
Should the Fund determine that a commitment is no longer in the best interest of
the Fund and its shareholders, the Fund reserves the right to revoke the
commitment by terminating the sale of Fund shares in the state involved.
In determining industry classification with respect to the Fund, the
Adviser and Sub-Adviser intend to use the industry classification titles in the
Standard Industrial Classification Manual.
A guarantee of a security is not deemed to be a security issued by the
guarantor when the value of all securities issued and guaranteed by the
guarantor, and owned by the Fund, does not exceed 10% of the value of the Fund's
total assets.
ADDITIONAL TRUST INFORMATION
TRUSTEES AND OFFICERS. Information regarding the Board of Trustees and
officers of the Fund, including their principal business occupations during at
least the last five years, is set forth below. Each trustee who is an
"interested person," as defined in the 1940 Act, is indicated by an asterisk.
Except where otherwise indicated, each of the individuals below has served in
his or her present capacity with the Trust since March 14, 1997. The address of
each of the officers and trustees is c/o The Garzarelli Funds, 100 South Wacker
Drive, Suite 2100, Chicago, Illinois 60606-4002.
*ELAINE M. GARZARELLI, CHAIRPERSON
For 10 years until the end of 1994, Ms. Garzarelli was Managing Director and
Chief Quantitative Strategist for Shearson Lehman/American Express. Since 1995,
she has served as Chairperson of Garzarelli Investment Management, LLC, which is
the Adviser to the Fund. Age 45.
*H. STEEL BOKHOF, JR., PRESIDENT, PRINCIPAL EXECUTIVE OFFICER AND TRUSTEE
Mr. Bokhof is the President of the Adviser and has served in such capacity since
the incorporation of the Adviser in July 1995. Since November 1989, he has been
a general partner of Graver, Bokhof, Goodwin and Sullivan, L.P., an investment
adviser. Age 59.
IDELLE A. HOWITT, TRUSTEE
In 1991, Ms. Howitt founded and is the managing director of Howitt & Associates,
a business consulting firm based in Manhattan that specializes in the financial
valuation of closely held businesses. Age 47.
MARGARET E. LEAK, TRUSTEE
Ms. Leak is Senior Vice President of the Atlantic Mutual Insurance Companies, a
property/casualty insurance company, where she is the chief administrative
officer. Age 50.
PAMELA J. MARALDO, TRUSTEE
Ms. Maraldo is currently Director of Managed Care at Columbia University. Prior
to that she was a consultant to the ANIMIS Company. From 1992 to 1995 she was
President of Planned Parenthood Federation of America. Age 49.
ANDREW J. GOODWIN, III, SECRETARY, TREASURER, PRINCIPAL FINANCIAL OFFICER AND
PRINCIPAL ACCOUNTING OFFICER
Since 1991, Mr. Goodwin has served as General Partner of Graver, Bokhof, Goodwin
& Sullivan, a registered investment adviser. Since 1995, he also has served as
a Managing Director of Garzarelli Investment Management, LLC, which is the
Adviser to the Fund. Age 53.
The trustees and officers who are "interested persons" as designated above
receive no compensation from the Trust. The table below shows amounts estimated
to be paid or accrued to those trustees who are not designated "interested
persons" during the Trust's full fiscal year. The Trust has not adopted any
pension or retirement plans for the benefit of any of the trustees.
COMPENSATION TABLE
Estimated
Aggregate Compensation
Name of Person from Trust
-------------- ----------------------
Elaine M. Garzarelli $0
H. Steel Bokhof, Jr. $0
Margaret E. Leak $9,000
Idelle A. Howitt $9,000
Pamela J. Maraldo $9,000
CONTROL PERSONS AND PRINCIPAL HOLDERS OF SECURITIES. As of March 11, 1997,
the date hereof, Elaine M. Garzarelli owned of record 100% of the outstanding
shares of the Fund and therefore controlled the Fund. Shareholders with a
controlling interest could effect the outcome of proxy voting or the direction
of management of the Trust. It is contemplated that the public offering of the
shares of the Fund will reduce Elaine M. Garzarelli's holdings to less than 5%
of the total shares outstanding.
INVESTMENT ADVISER. The investment adviser to the Fund is Garzarelli
Investment Management LLC (the "Adviser"). The Adviser was organized on July
12, 1995. The Sub-Adviser to the Fund is Affinity Investment Advisors, Inc.
("Sub-Adviser"). The Sub-Adviser was organized on April 24, 1992. Gregory R.
Lai controls the Sub-Adviser. Elaine M. Garzarelli is the founder and
Chairperson of the Adviser and owns a majority of the outstanding interest of
the Adviser. As such, she controls the Adviser. Optimum Group, LLC owns the
remaining interest in the Adviser. H. Steel Bokhof, Jr., Andrew J. Goodwin,
III, Steven F. Graver and James Francis Sullivan each own 25% of the voting
shares of Optimum Group, LLC. Prior to founding the Adviser, Ms. Garzarelli
served as Managing Director and Chief Quantitative Strategist for Shearson
Lehman Bros. and its predecessors and its successors from 1984 to 1994. She has
over 20 years experience as a stock market strategist. In managing the Fund,
Ms. Garzarelli is primarily responsible for determining whether to emphasize
equities or fixed income securities and for identifying industry sectors to be
emphasized.
The actual equity and fixed income weighting of the portfolio is primarily
the responsibility of an investment committee of the Adviser. The investment
committee of the Adviser selects the specific fixed income securities for
investment by the Fund. Gregory R. Lai, CFA, a principal of the Sub-Adviser, in
consultation with and subject to the approval of the Adviser's investment
committee, is primarily responsible for selecting the specific equity securities
for investment by the Fund. Mr. Lai has been a principal of the Sub-Adviser
since 1992. Prior thereto, he was a portfolio manager and research analyst at
PIMCO from 1988 to 1992.
The Trust, on behalf of the Fund, has entered into an investment advisory
agreement with the Adviser (the "Investment Advisory Agreement"). The Adviser
also has entered into a sub-advisory agreement with the Sub-Adviser (the "Sub-
Advisory Agreement"). Pursuant to the Investment Advisory Agreement, the
Adviser provides continuous investment advisory services to the Fund. Pursuant
to the Sub-Advisory Agreement, the Sub-Adviser will, in consultation with the
Adviser's investment committee, select the specific equity securities for
investment by the Fund and will provide such other investment advice, research
and assistance as the Adviser may, from time to time, reasonably request. The
Adviser and Sub-Adviser also provide the Fund with office space, equipment and
personnel necessary to operate and administer the Fund's business and to
supervise the provision of services by third parties. The Investment Advisory
Agreement and the Sub-Advisory Agreement for the Fund are dated as of March 31,
1997. The Investment Advisory Agreement and Sub-Advisory Agreement have an
initial term of two years and thereafter are required to be approved annually by
the Board of Trustees of the Trust or by vote of a majority of the Fund's
outstanding voting securities (as defined in the 1940 Act). The annual renewal
must also be approved by the vote of a majority of the Fund's trustees who are
not parties to the Investment Advisory Agreement or Sub-Advisory Agreement or
interested persons of any such party, cast in person at a meeting called for the
purpose of voting on such approval. The Investment Advisory Agreement and Sub-
Advisory Agreement are terminable without penalty with respect to the Fund, on
60 days' written notice by the Trustees, by vote of a majority of the Fund's
outstanding voting securities, or by the Adviser or Sub-Adviser, and will
terminate automatically in the event of its assignment. Additionally, the
Adviser may terminate the Sub-Advisory Agreement at any time. The Sub-Advisory
Agreement shall terminate automatically in the event the Advisory Agreement is
terminated.
As compensation for its services, the Fund pays to the Adviser a monthly
fee at the annual rate of 0.75% on the average daily net assets of the Fund.
The Adviser pays to the Sub-Adviser for its services a sub-advisory fee of 12%
of the advisory fee received by the Adviser (net of any expense reimbursements).
From time to time, the Adviser may voluntarily waive all or a portion of its fee
for the Fund. The organizational expenses of the Fund were advanced by the
Adviser and will be reimbursed by the Fund over a period of not more than 60
months.
The Adviser voluntarily agreed to reimburse the Fund to the extent
aggregate annual operating expenses as described above exceed 1.25% of the
average daily net assets of the Fund until at least October 31, 1997, subject to
earlier termination by the Adviser on 30 days' notice. Reimbursement of
expenses in excess of this limitation will be made on a monthly basis and will
be paid to the Fund by reducing the Adviser's fee, subject to later adjustment,
month by month, for the remainder of the Fund's fiscal year. The Adviser may
from time to time voluntarily absorb expenses for the Fund in addition to the
reimbursement of expenses in excess of the foregoing.
The Investment Advisory Agreement and Sub-Advisory Agreement provide that
the Adviser and Sub-Adviser shall not be liable to the Fund or its shareholders
for any error of judgment or mistake of law or for anything other than willful
misfeasance, bad faith, gross negligence or reckless disregard of its
obligations or duties. The Investment Advisory Agreement and the Sub-Advisory
Agreement also provide that nothing therein shall limit the freedom of the
Adviser or Sub-Adviser and its affiliates to render investment supervisory and
corporate administrative services to other investment companies, to act as
investment adviser or investment counselor to other persons, firms or
corporations, or to engage in other business activities.
ADMINISTRATOR. Sunstone Financial Group, Inc. (the "Administrator")
provides various administrative and fund accounting services to the Fund (which
includes clerical, compliance, regulatory, fund accounting and other services)
pursuant to an Administration and Fund Accounting Agreement with the Trust on
behalf of the Fund. The Administration and Fund Accounting Agreement will
remain in effect for an initial 1 year term and thereafter as long as its
continuance is specifically approved at least annually by the Board of Trustees
of the Trust and the Administrator. The Administration and Fund Accounting
Agreement may be terminated on not less than 90 days' notice after the
expiration of the initial term, without the payment of any penalty, by the Board
of Trustees of the Trust or by the Administrator. Under the Administration and
Fund Accounting Agreement, the Administrator is not liable for any loss suffered
by the Fund or its shareholders in connection with the performance of the
Administration and Fund Accounting Agreement, except a loss resulting from
willful misfeasance, bad faith or negligence on the part of the Administrator in
the performance of its duties. The Administration and Fund Accounting Agreement
also provides that the Administrator may provide similar services to others
including other investment companies.
CUSTODIAN, TRANSFER AGENT AND DIVIDEND PAYING AGENT. UMB Bank, n.a. serves
as the custodian and Sunstone Investor Services, LLC, serves as the transfer and
dividend paying agent for the Fund. Sunstone Investor Services, LLC is an
affiliate of Sunstone Financial Group, Inc., the Fund's Administrator. Under
the terms of the respective agreements, UMB Bank, n.a. is responsible for the
receipt and delivery of the Fund's securities and cash, and Sunstone Investor
Services, LLC, is responsible for processing purchase and redemption requests
for the securities of the Fund as well as the recordkeeping of ownership of the
Fund's securities, payment of dividends as declared by the Trustees and the
issuance of confirmations of transactions and annual statements to shareholders.
UMB Bank, n.a. and Sunstone Investor Services, LLC do not exercise any
supervisory functions over the management of the Fund or the purchase and sale
of securities.
LEGAL COUNSEL. Vedder, Price, Kaufman and Kammholz, with offices at 222
North LaSalle Street, Chicago, Illinois 60601-1003, serves as counsel to the
Fund.
INDEPENDENT AUDITORS. Ernst & Young, LLP are the independent auditors for
the Fund. They are responsible for performing an audit of the Fund's year-end
financial statements as well as providing accounting and tax advice to the
management of the Fund.
DISTRIBUTION OF SHARES
As set forth in the Prospectus, the Fund has adopted a Service and
Distribution Plan (the "Plan") pursuant to Rule 12b-1 under the 1940 Act. The
Plan authorizes payments by the Fund in connection with the distribution of its
shares at an annual rate, as determined from time to time by the Board of
Trustees, of up to 0.25% of the Fund's average daily net assets.
The Plan may be terminated for the Fund at any time by a vote of the
trustees of the Trust who are not interested persons of the Trust and who have
no direct or indirect financial interest in the Plan or any agreement related
thereto (the "Rule 12b-1 Trustees") or by a vote of a majority of the
outstanding shares of the Fund. Margaret E. Leak, Idelle A. Howitt and Pamela
J. Maraldo are currently the Rule 12b-1 Trustees. Any change in the Plan that
would materially increase the distribution expenses of the Fund provided for in
the Plan requires approval of the shareholders of the Fund and the Board of
Trustees, including the Rule 12b-1 Trustees.
While the Plan is in effect, the selection and nomination of trustees who
are not interested persons of the Trust will be committed to the discretion of
the trustees of the Trust who are not interested persons of the Trust. The
Board of Trustees must review the amount and purposes of expenditures pursuant
to the Plan quarterly as reported to it by the officers of the Trust. Unless
otherwise terminated, the Plan will continue in effect for as long as its
continuance is specifically approved at least annually by the Board of Trustees,
including the Rule 12b-1 Trustees.
PORTFOLIO TRANSACTIONS AND BROKERAGE
The Adviser and Sub-Adviser are responsible for decisions to buy and sell
securities for the Fund, and for the placement of its portfolio business and the
negotiation of the commissions to be paid on such transactions, subject to the
supervision of the Trust's Board of Trustees. It is the policy of the Adviser
and Sub-Adviser to seek the best execution at the best security price available
with respect to each transaction, in light of the overall quality of brokerage
and research services provided to the Adviser and Sub-Adviser.
The Adviser and Sub-Adviser will place orders pursuant to its investment
determination for the Fund either directly with the issuer or with any broker or
dealer. In executing portfolio transactions and selecting brokers or dealers,
the Adviser and Sub-Adviser will use their best efforts to seek on behalf of the
Fund the best overall terms available. In selecting brokers and assessing the
best overall terms available for any transaction, the Adviser and Sub-Adviser
shall consider all factors that it deems relevant, including the breadth of the
market in the security, the price of the security, the financial condition and
execution capability of the broker or dealer, and reasonableness of the
commission, if any, both for the specific transaction and on a continuing basis.
The most favorable price to the Fund means the best net price without regard to
the mix between purchase or sale price and commission, if any. Over-the-counter
securities are generally purchased or sold directly with principal market makers
who retain the difference in their cost in the security and its selling price.
In some instances, the Adviser and Sub-Adviser may determine that better prices
are available from non-principal market makers who are paid commissions
directly.
In evaluating the best overall terms available, and in selecting the
broker-dealer to execute a particular transaction, the Adviser and Sub-Adviser
may also consider the brokerage and research services (as those terms are
defined in Section 28(e) of the Securities Exchange Act of 1934) provided to the
Fund and/or other accounts over which the Adviser and Sub-Adviser or an
affiliate of the Adviser and Sub-Adviser exercises investment discretion. While
the Adviser and Sub-Adviser believe these services have substantial value, they
are considered supplemental to their own efforts in the performance of their
duties. Other clients of the Adviser and Sub-Adviser may indirectly benefit
from the availability of these services to the Adviser and Sub-Adviser, and the
Fund may indirectly benefit from services available to the Adviser and Sub-
Adviser as a result of transactions for other clients. The Adviser and Sub-
Adviser are authorized to pay to a broker or dealer who provides such brokerage
and research services a commission for executing a portfolio transaction for the
Fund which is in excess of the amount of commission another broker or dealer
would have charged for effecting that transaction if, but only if, the Adviser
and Sub-Adviser determine in good faith that such commission was reasonable in
relation to the value of the brokerage and research services provided by such
broker or dealer viewed in terms of that particular transaction or in terms of
the overall responsibilities the Adviser and Sub-Adviser have to the Fund. In
no instance, however, will portfolio securities be purchased from or sold to the
Adviser and Sub-Adviser, or any affiliated person of either the Trust or the
Adviser and Sub-Adviser, acting as principal in the transaction, except to the
extent permitted by the SEC through rules, regulations, decisions and no-action
letters.
The Adviser and Sub-Adviser may retain advisory clients in addition to the
Fund and place portfolio transactions for these accounts. Research services
furnished by firms through which the Fund effects its securities transactions
may be used by the Adviser and Sub-Adviser in servicing all of its accounts; not
all of such services may be used by the Adviser and Sub-Adviser in connection
with the Fund. In the opinion of the Adviser and Sub-Adviser, it will not be
possible to separately measure the benefits from research services to each of
the accounts (including the Fund) to be managed by the Adviser and Sub-Adviser.
Because the volume and nature of the trading activities of the accounts will not
be uniform, the amount of commissions in excess of those charged by another
broker paid by each account for brokerage and research services will vary.
However, such costs to the Fund will not, in the opinion of the Adviser and Sub-
Adviser, be disproportionate to the benefits to be received by the Fund on a
continuing basis.
TAXES
GENERAL
In order to qualify for treatment as a regulated investment company ("RIC")
under the Code, the Fund must distribute to its shareholders for each taxable
year at least 90% of its investment company taxable income (consisting generally
of net investment income, net short-term capital gain and net gains from certain
foreign currency transactions) ("Distribution Requirement") and must meet
several additional requirements. With respect to the Fund, these requirements
include the following: (1) the Fund must derive at least 90% of its gross
income each taxable year from dividends, interest, payments with respect to
securities loans, and gains from the sale or other disposition of securities or
foreign currencies, or other income (including gains from options, futures or
forward contracts) derived with respect to its business of investing in
securities or those currencies ("Income Requirement"); (2) the Fund must derive
less than 30% of its gross income each taxable year from the sale or other
disposition of securities, or any of the following, that were held for less than
three months - options, futures or forward contracts (other than those on
foreign currencies), or foreign currencies (or options, futures or forward
contracts thereon) that are not directly related to the Fund's principal
business of investing in securities (or options and futures with respect to
securities) ("Short-Short Limitation"); (3) at the close of each quarter of the
Fund's taxable year, at least 50% of the value of its total assets must be
represented by cash and cash items, U.S. government securities, securities of
other RICs, and other securities, with these other securities limited, with
respect to any one issuer, to an amount that does not exceed 5% of the value of
the Fund's total assets and that does not represent more than 10% of the
issuer's outstanding voting securities; and (4) at the close of each quarter of
the Fund's taxable year, not more than 25% of the value of its total assets may
be invested in securities (other than U.S. government securities or the
securities of other RICs) of any one issuer.
Dividends and other distributions declared by the Fund in, and payable to
shareholders of record as of a date in, October, November or December of any
year will be deemed to have been paid by the Fund and received by the
shareholders on December 31 of that year if the distributions are paid by the
Fund during the following January. Accordingly, those distributions will be
taxed to shareholders for the year in which that December 31 falls.
A portion of the dividends from the Fund's investment company taxable
income (whether paid in cash or reinvested in additional Fund shares) may be
eligible for the dividends-received deduction allowed to corporations. The
eligible portion may not exceed the aggregate dividends received by the Fund
from U.S. corporations. However, dividends received by a corporate shareholder
and deducted by it pursuant to the dividends-received deduction are subject to
the alternative minimum tax.
If shares of the Fund are sold at a loss after being held for six months or
less, the loss will be treated as long-term, instead of short-term, capital loss
to the extent of any capital gain distributions received on those shares.
Investors also should be aware that if shares are purchased shortly before the
record date for any distribution, the shareholder will pay full price for the
shares and receive some portion of the price back as a taxable dividend or
capital gain distribution.
The Fund will be subject to a nondeductible 4% excise tax to the extent it
fails to distribute by the end of any calendar year substantially all of its
ordinary income for that year and capital gain net income for the one-year
period ending on October 31 of that year, plus certain other amounts.
FOREIGN TAXES
Dividends and interest received by the Fund may be subject to income,
withholding, or other taxes imposed by foreign countries that would reduce the
yield on the Fund's portfolio securities. Tax conventions between certain
countries and the United States may reduce or eliminate these foreign taxes,
however, and many foreign countries do not impose taxes on capital gains in
respect of investments by foreign investors. If more than 50% of the value of
the Fund's total assets at the close of its taxable year consists of securities
of foreign corporations, the Fund will be eligible to, and may, file an election
with the Internal Revenue Service that will enable its shareholders, in effect,
to receive the benefit of the foreign tax credit with respect to any foreign
income taxes paid by it. Pursuant to the election, the Fund will treat those
taxes as dividends paid to its shareholders and each shareholder will be
required to (1) include in gross income, and treat as paid by him, his
proportionate share of those taxes, (2) treat his share of those taxes and of
any dividend paid by the Fund that represents income from foreign sources as his
own income from those sources, and (3) either deduct the taxes deemed paid by
him in computing his taxable income or, alternatively, use the foregoing
information in calculating the foreign tax credit against his federal income
tax. The Fund will report to its shareholders their respective shares of the
Fund's income from sources within, and taxes paid to, foreign countries if it
makes this election.
PASSIVE FOREIGN INVESTMENT COMPANIES
If the Fund acquires stock in certain non-U.S. corporations that receive at
least 75% of their annual gross income from passive sources (such as sources
that produce interest, dividends, rental, royalty or capital gain income) or
hold at least 50% of their assets in such passive sources ("passive foreign
investment companies"), the Fund could be subject to federal income tax and
additional interest charges on "excess distributions" received from such
companies or gains from the sale of stock in such companies, even if all income
or gain actually received by the Fund is timely distributed to its shareholders.
The Fund would not be able to pass through to its shareholders any credit or
deduction for such tax. In some cases, elections may be available that would
ameliorate these adverse tax consequences, but such elections would require the
Fund to include certain amounts as income or gain (subject to the distribution
requirements described above) without a concurrent receipt of cash and could
result in the conversion of capital gain to ordinary income. The Fund may limit
its investments in passive foreign investment companies or dispose of such
investments if potential adverse tax consequences are deemed material in
particular situations.
NON U.S. SHAREHOLDERS
Distributions of net investment income by the Fund to a shareholder who, as
to the United States, is a nonresident alien individual, nonresident alien
fiduciary of a trust or estate, foreign corporation, or foreign partnership
("foreign shareholder") will be subject to U.S. withholding tax at a rate of 30%
(or lower treaty rate). Withholding will not apply if a dividend paid by the
Fund to a foreign shareholder is "effectively connected with the conduct of a
U.S. trade or business," in which case the reporting and withholding
requirements applicable to domestic taxpayers will apply. Distributions of net
capital gain are not subject to withholding, but in the case of a foreign
shareholder who is a nonresident alien individual, such distributions ordinarily
will be subject to U.S. income tax at a rate of 30% (or lower treaty rate) if
the individual is physically present in the United States for more than 182 days
during the taxable year and the distributions are attributable to a fixed place
of business maintained by an individual in the United States.
The foregoing is a general and abbreviated summary of certain U.S. federal
income tax considerations affecting the Fund and its shareholders. Investors
are urged to consult their own tax advisers for more detailed information and
for information regarding any foreign, state and local taxes applicable to
distributions received from the Fund.
DESCRIPTION OF SHARES
The Trust Agreement permits the Board of Trustees to issue an unlimited
number of full and fractional shares of one or more separate series or classes
representing interests in different investment portfolios. The Trust may
hereafter create series in addition to the Fund. Under the terms of the Trust
Agreement, each share of the Fund has no par value, represents a proportionate
interest in the Fund with each other share of its class and is entitled to such
dividends and distributions out of the income belonging to the Fund as are
declared by the Trustees. Upon any liquidation of the Fund, shareholders are
entitled to share in the net assets of the Fund available for distribution.
Shares do not have any preemptive or conversion rights. The right of redemption
is described in the Prospectus. Pursuant to the terms of the 1940 Act, the
right of a shareholder to redeem shares and the date of payment by the Fund may
be suspended for more than seven days (a) for any period during which the New
York Stock Exchange is closed, other than the customary weekends or holidays, or
trading in the markets the Fund normally utilizes closed or are restricted as
determined by the SEC, (b) during any emergency, as determined by the SEC, as a
result of which it is not reasonably practicable for the Fund to dispose of
instruments owned by it or fairly to determine the value of its net assets, or
(c) for such other period as the SEC may by order permit for the protection of
the shareholders of the Fund. The Trust may also suspend or postpone the
recordation of the transfer of its shares upon the occurrence of any of the
foregoing conditions. In addition, the Trust reserves the right to adopt, by
action of the Trustees, a policy pursuant to which it may, without shareholder
approval, redeem all of a shareholder's shares (a) if such shares have an
aggregate value below a designated amount, (b) to the extent that such
shareholder owns shares equal to or in excess of a percentage of the outstanding
shares determined from time to time by the Trustees; (c) to the extent that such
shareholder owns shares equal to or in excess of a percentage, determined from
time to time by the Trustees, of the outstanding shares of the Trust, or (d) if
the Trustees determine that it is not practical, efficient or advisable to
continue the operation of the Fund and that any applicable requirements of the
1940 Act have been met. Shares when issued as described in the Prospectus are
validly issued, fully paid and nonassessable.
In the event additional Funds are created, the proceeds received by each
Fund for each issue or sale of its shares, and all net investment income,
realized and unrealized gain and proceeds thereof, subject only to the rights of
creditors, will be specifically allocated to and constitute the underlying
assets of that Fund. The underlying assets of each Fund will be segregated on
the books of accounts, and will be charged with the liabilities in respect to
that Fund and with a share of the general liabilities of the Trust. Expenses
with respect to the portfolios of the Trust will normally be allocated in
proportion to the net asset value of the respective portfolios except where
allocations of direct expenses can otherwise be fairly made.
Rule 18f-2 under the 1940 Act provides that any matter required by the
provisions of the 1940 Act or applicable state law, or otherwise, to be
submitted to the holders of the outstanding voting securities of an investment
company such as the Trust shall not be deemed to have been effectively acted
upon unless approved by the holders of a majority of the outstanding shares of
each investment portfolio affected by such matter. Rule 18f-2 further provides
that an investment portfolio shall be deemed to be affected by a matter unless
the interest of each investment portfolio in the matter are substantially
identical or the matter does not affect any interest of the investment
portfolio. Under the Rule, the approval of an investment advisory agreement, a
distribution plan subject to Rule 12b-1 under the 1940 Act or any change in a
fundamental investment policy would be effectively acted upon with respect to an
investment portfolio only if approved by a majority of the outstanding shares of
such investment portfolio. However, Rule 18f-2 also provides that the
ratification of the appointment of independent accountants, the approval of the
principal underwriting contracts and the election of Trustees may be effectively
acted upon by shareholders of the Trust voting together in the aggregate without
regard to a particular investment portfolio.
The term "majority of the outstanding shares" of either the Trust or a
particular Fund or investment portfolio means the vote of the lesser of (i) 67%
or more of the shares of the Trust or such fund or portfolio present at a
meeting, if the holders of more than 50% of the outstanding shares of the Trust
or such fund or portfolio are present or represented by proxy, or (ii) more than
50% of the outstanding shares of the Trust or such Fund or portfolio.
As a general matter, the Trust does not hold annual or other meetings of
shareholders. This is because the Trust Agreement provides for shareholders
voting only for the election or removal of one or more Trustees, if a meeting is
called for that purpose, and for certain other designated matters. Each Trustee
serves until the next meeting of shareholders, if any, called for the purpose of
considering the election or reelection of such Trustee or of a successor to such
Trustee, and until the election and qualification of his successor, if any,
elected at such meeting, or until such Trustee sooner dies, resigns, retires or
is removed by the holders of two-thirds of the shares.
The Trust Agreement provides that each Trustee of the Trust will be liable
for his or her own willful misfeasance, bad faith, gross negligence or reckless
disregard of the duties involved in the conduct of the office of Trustees
("disabling conduct"), and for nothing else, and will not be liable for errors
of judgment or mistakes of fact or law. The Trust Agreement provides further
that the Trust will indemnify Trustees and officers of the Trust against
liabilities and expenses incurred in connection with litigation and other
proceedings in which they may be involved (or with which they may be threatened)
by reason of their positions with the Trust, except that no Trustee or officer
will be indemnified against any liability to the Trust or its shareholders to
which he would otherwise be subject by reason of disabling conduct.
The Trust Agreement provides that each shareholder, by virtue of becoming
such, will be held to have expressly assented and agreed to the terms of the
Trust Agreement and to have become a party thereto.
The Trust Agreement also contains procedures for the removal of Trustees by
its shareholders. At any meeting of shareholders, duly called and at which a
quorum is present, the shareholders may, by the affirmative vote of the holders
of two-thirds of the votes entitled to be cast thereon, remove any Trustee or
Trustees from office and may elect a successor or successors to fill any
resulting vacancies for unexpired terms of removed Trustees.
Upon the written request of the holders of shares entitled to not less than
ten percent (10%) of all the votes entitled to be cast at such meeting, the
Secretary of the Trust shall promptly call a special meeting of shareholders for
the purpose of voting upon the question of removal of any Trustee. Whenever ten
or more shareholders of record who have been such for at least six months
preceding the date of application, and who hold in the aggregate at least one
percent (1%) of the total outstanding shares shall apply to the Trust's
Secretary in writing, stating that they wish to communicate with other
shareholders with a view to obtaining signatures to submit a request for a
meeting as described above and accompanied by a form of communication and
request which they wish to transmit, the Secretary shall within five business
days after such application either: (1) afford to such applicants access to a
list of the names and addresses of all shareholders as recorded on the books of
the Trust; or (2) inform such applicants as to the approximate number of
shareholders of record and the approximate cost of mailing to them the proposed
communication and form of request.
If the Secretary elects to follow the course specified in clause (2) of the
last sentence of the preceding paragraph, the Secretary, upon the written
request of such applicants, accompanied by a tender of the material to be mailed
and of the reasonable expenses of mailing, shall, with reasonable promptness,
mail such material to all shareholders of record at their addresses as recorded
on the books unless within five business days after such tender the Secretary
shall mail to such applicants and file with the SEC, together with a copy of the
material to be mailed, a written statement signed by at least a majority of the
Board of Trustees to the effect that in their opinion either such material
contains untrue statements of fact or omits to state facts necessary to make the
statements contained therein not misleading, or would be in violation of
applicable law, and specifying the basis of such opinion.
After opportunity for hearing upon the objections specified in the written
statement so filed, the SEC may, and if demanded by the Board of Trustees or by
such applicants shall, enter an order either sustaining one or more of such
objections or refusing to sustain any of them. If the SEC shall enter an order
refusing to sustain any of such objections, or if, after the entry of an order
sustaining one or more of such objections, the SEC shall find, after notice and
opportunity for hearing, that all objections so sustained have been met, and
shall enter an order so declaring, the Secretary shall mail copies of such
material of all shareholders with reasonable promptness after the entry of such
order and the renewal of such tender.
RETIREMENT PLANS
Individuals who receive compensation or earned income, even if they are
active participants in a qualified retirement plan (or certain similar
retirement plans), may establish their own tax-sheltered Individual Retirement
Account ("IRA"). The Fund offers a prototype IRA plan which may be adopted by
individuals. There is currently no charge for establishing an account, although
there is an annual maintenance fee.
Earnings on amounts held in an IRA are not taxed until withdrawal.
However, the amount of deduction, if any, allowed for IRA contributions is
limited for individuals who are active participants in an employer-maintained
retirement plan and whose incomes exceed specific limits.
A description of applicable service fees and certain limitations on
contributions and withdrawals, as well as application forms, are available from
Sunstone Investor Services, LLC upon request at 1-800-378-1405. The IRA
documents contain a disclosure statement which the Internal Revenue Service
requires to be furnished to individuals who are considering adopting the IRA.
Because a retirement program involves commitments covering future years, it is
important that the investment objective of the Fund be consistent with the
participant's retirement objectives. Premature withdrawals from a retirement
plan will result in adverse tax consequences. Consultation with a competent
financial and tax adviser regarding the foregoing retirement plans is
recommended.
The Fund also makes available a tax-sheltered custodial account designed to
qualify under section 403(b)(7) of the Internal Revenue Code which is available
for use by employees of certain educational, non-profit, hospital and charitable
organizations.
PERFORMANCE INFORMATION
The Fund may from time to time advertise performance data such as "average
annual total return" and "total return." To facilitate the comparability of
historical performance data from one mutual fund to another, the SEC has
developed guidelines for the calculation of average annual total return.
The average annual total return for the Fund for a specific period is found
by first taking a hypothetical $10,000 investment ("initial investment") in the
Fund's shares on the first day of the period and computing the "redeemable
value" of that investment at the end of the period. The redeemable value is
then divided by the initial investment, and this quotient is taken to the Nth
root (N representing the number of years in the period) and 1 is subtracted from
the result, which is then expressed as a percentage. The calculation assumes
that all income and capital gains dividends paid by the Fund have been
reinvested at net asset value on the reinvestment dates during the period. This
calculation can be expressed as follows:
N
P(1 + T) = ERV
Where: T = average annual total return.
ERV = ending redeemable value at the end of the period covered by the
computation of a hypothetical $1,000 payment made at the beginning
of the period.
P = hypothetical initial payment of $1,000.
N = period covered by the computation, expressed in terms of years.
Total return performance for a specific period is calculated by first
taking an investment ("initial investment") in the Fund's shares on the first
day of the period and computing the "ending value" of that investment at the end
of the period. The total return percentage is then determined by subtracting
the initial investment from the ending value and dividing the remainder by the
initial investment and expressing the result as a percentage. The calculation
assumes that all income and capital gains dividends paid by the Fund have been
reinvested at net asset value on the reinvestment dates during the period.
Total return may also be shown as the increased dollar value of the investment
over the period or as a cumulative total return which represents the change in
value of an investment over a stated period and may be quoted as a percentage or
as a dollar amount.
The calculations of average annual total return and aggregate total return
assume the reinvestment of all dividends and capital gain distributions on the
reinvestment dates during the period. The ending redeemable value is determined
by assuming complete redemption of the hypothetical investment and the deduction
of all nonrecurring charges at the end of the period covered by the
computations.
The Fund's performance figures will be based upon historical results and
will not necessarily be indicative of future performance. The Fund's returns
and net asset value will fluctuate and the net asset value of shares when sold
may be more or less than their original cost. Any additional fees charged by a
dealer or other financial services firm would reduce the returns described in
this section.
From time to time, in marketing and other literature, the Fund's
performance may be compared to the performance of other mutual funds in general
or to the performance of particular types of mutual funds with similar
investment goals, as tracked by independent organizations. Among these
organizations, Lipper Analytical Services, Inc. ("Lipper"), a widely used
independent research firm which ranks mutual funds by overall performance,
investment objective and assets, may be cited. Lipper performance figures are
based on changes in net asset value, with all income and capital gains dividends
reinvested. Such calculations do not include the effect of any sales charges
imposed by other funds. The Fund will be compared to Lipper's appropriate fund
category, that is, by fund objective and portfolio holdings.
The Fund's performance may also be compared to the performance of other
mutual funds by Morningstar, Inc., which ranks funds on the basis of historical
risk and total return. Morningstar's rankings range from five stars (highest)
to one star (lowest) and represent Morningstar's assessment of the historical
risk level and total return of a fund as a weighted average for 3, 5, and 10
year periods. Rankings are not absolute or necessarily predictive of future
performance.
Evaluations of Fund performance made by independent sources may also be
used in advertisements concerning the Fund, including reprints of or selections
from, editorials or articles about the Fund. Sources for Fund performance and
articles about the Fund may include publications such as MONEY, FORBES,
KIPLINGER'S, FINANCIAL WORLD, BUSINESS WEEK, U.S. NEWS AND WORLD REPORT, THE
WALL STREET JOURNAL, BARRON'S and a variety of investment newsletters.
The Fund may compare its performance to a wide variety of indices and
measures of inflation including the Standard & Poor's Index of 500 Stocks and
the NASDAQ Over-the-Counter Composite Index. There are differences and
similarities between the investments that the Fund may purchase for its
portfolio and the investments measured by these indices.
Occasionally statistics may be used to specify a fund's volatility or risk.
Measures of volatility or risk are generally used to compare a fund's net asset
value or performance relative to a market index. One measure of volatility is
beta. Beta is the volatility of a fund relative to the total market as
represented by the Standard & Poor's 500 Stock Index. A beta of more than 1.00
indicates volatility greater than the market, and a beta of less than 1.00
indicates volatility less than the market. Another measure of volatility or
risk is standard deviation. Standard deviation is used to measure variability
of net asset value or total return around an average, over a specified period of
time. The premise is that greater volatility connotes greater risk undertaken
in achieving performance.
Marketing and other Trust literature may include a description of the
potential risks and rewards associated with an investment in the Fund. The
description may include a "risk/return spectrum" which compares the Fund to a
broad category of funds, such as money market, bond or equity funds, in terms of
potential risks and returns. Risk/return spectrums also may depict funds that
invest in both domestic and foreign securities or a combination of bond and
equity securities. Money market funds are designed to maintain a constant $1.00
share price and have a fluctuating yield. Share price, yield and total return
of the bond fund will fluctuate. The share price and return of an equity fund
also will fluctuate. The description may also compare the Fund to bank
products, such as certificates of deposit. Unlike mutual funds, certificates of
deposit are insured up to $100,000 by the U.S. government and offer a fixed rate
of return.
PURCHASE, EXCHANGE AND REDEMPTION OF SHARES;
DETERMINATION OF NET ASSET VALUE
As set forth in the Prospectus, the net asset value of the Fund will be
determined as of the close of trading on each day the New York Stock Exchange is
open for trading. The New York Stock Exchange is open for trading Monday
through Friday except New Year's Day, Presidents' Day, Good Friday, Memorial
Day, Independence Day, Labor Day, Thanksgiving Day, and Christmas Day.
Additionally, if any of the aforementioned holidays falls on a Saturday, the New
York Stock Exchange will not be open for trading on the preceding Friday, and
when any such holiday falls on a Sunday, the New York Stock Exchange will not be
open for trading on the following Monday unless unusual business conditions
exist, such as the ending of a monthly or the yearly accounting period.
Shares of the Fund may be exchanged for shares of the Northern Money Market
Fund as provided in the Prospectus. Sunstone Investor Services, LLC receives a
service fee from the Northern Money Market Fund at the annual rate of 0.25 of 1%
of the average daily net asset value of the shares of the Fund exchanged into
the Northern Money Market Fund.
OTHER INFORMATION
It is possible that conditions may exist in the future which would, in the
opinion of the Board of Trustees, make it undesirable for the Fund to pay for
redemptions in cash. In such cases the Board may authorize payment to be made
in portfolio securities of the Fund.
The Prospectus and this Statement of Additional Information do not contain
all the information included in the Registration Statement filed with the
Commission under the Securities Act with respect to the securities offered by
the Fund's Prospectus. Certain portions of the Registration Statement have been
omitted from the Prospectus and this Statement of Additional Information,
pursuant to the rules and regulations of the Commission. The Registration
Statement including the exhibits filed therewith may be examined at the office
of the Commission in Washington, D.C.
Statements contained in the Prospectus or in this Statement of Additional
Information as to the contents of any contract or other documents referred to
are not necessarily complete, and in each instance reference is made to the copy
of such contract or other document filed as an exhibit to the Registration
Statement of which the Prospectus and this Statement of Additional Information
form a part, each such statement being qualified in all respects by such
reference.
FINANCIAL STATEMENTS
The following financial statement has been audited and is attached hereto:
1. Report of Independent Accountants.
2. Statement of Assets and Liabilities as of March 11, 1997.
3. Notes to Financial Statement.
APPENDIX A
Commercial Paper Ratings
- ------------------------
A Standard & Poor's commercial paper rating is a current assessment of the
likelihood of timely payment of debt having an original maturity of no more than
365 days. The following summarizes the rating categories used by Standard &
Poor's for commercial paper in which the Fund may invest:
"A-1" - Issue's degree of safety regarding timely payment is strong.
Those issues determined to possess extremely strong safety characteristics are
denoted "A-1+."
"A-2" - Issue's capacity for timely payment is satisfactory. However, the
relative degree of safety is not as high as for issues designated "A-1."
Moody's commercial paper ratings are opinions of the ability of issuers to
repay punctually promissory obligations not having an original maturity in
excess of 9 months. The following summarizes the rating categories used by
Moody's for commercial paper in which the Funds may invest:
"Prime-1" - Issuer or related supporting institutions are considered to
have a superior capacity for repayment of short-term promissory obligations.
Prime-1 repayment capacity will normally be evidenced by the following
capacities: leading market positions in well-established industries; high rates
of return on funds employed; conservative capitalization structures with
moderate reliance on debt and ample asset protection; broad margins in earning
coverage of fixed financial charges and high internal cash generation; and well-
established access to a range of financial markets and assured sources of
alternate liquidity.
"Prime-2" - Issuer or related supporting institutions are considered to
have a strong capacity for repayment of short-term promissory obligations. This
will normally be evidenced by many of the characteristics cited above but to a
lesser degree. Earnings trends and coverage ratios, while sound, will be more
subject to variation. Capitalization characteristics, while still appropriate,
may be more affected by external conditions. Ample alternative liquidity is
maintained.
The three rating categories of Duff & Phelps for investment grade commercial
paper are "Duff 1," "Duff 2" and "Duff 3." Duff & Phelps employs three
designations, "Duff 1+," "Duff 1" and "Duff 1-," within the highest rating
category. The following summarizes the rating categories used by Duff & Phelps
for commercial paper in which the Fund may invest:
"Duff 1+" - Debt possesses highest certainty of timely payment. Short-
term liquidity, including internal operating factors and/or access to
alternative sources of funds, is outstanding, and safety is just below risk-free
U.S. Treasury short-term obligations.
"Duff 1" - Debt possesses very high certainty of timely payment.
Liquidity factors are excellent and supported by good fundamental protection
factors. Risk factors are minor.
"Duff 1-" - Debt possesses high certainty of timely payment. Liquidity
factors are strong and supported by good fundamental protection factors. Risk
factors are very small.
"Duff 2" - Debt possesses good certainty of timely payment. Liquidity
factors and company fundamentals are sound. Although ongoing funding need may
enlarge total financing requirements, access to capital markets is good.
Fitch short-term ratings apply to debt obligations that are payable on
demand or have original maturities of up to three years. The highest rating
category of Fitch for short-term obligations is "F-1." Fitch employs two
designations, "F-1+" and "F-1," within the highest category. The following
summarizes the rating categories used by Fitch for short-term obligations in
which the Funds may invest:
"F-1+" - Securities possess exceptionally strong credit quality. Issues
assigned this rating are regarded as having the strongest degree of assurance
for timely payment.
"F-1" - Securities possess very strong credit quality. Issues assigned
this rating reflect an assurance of timely payment only slightly less in degree
than issues rated "F-1+."
Fitch may also use the symbol "LOC" with its short-term ratings to indicate
that the rating is based upon a letter of credit issued by a commercial bank.
Thomson BankWatch short-term ratings assess the likelihood of an untimely or
incomplete payment of principal or interest of unsubordinated instruments having
a maturity of one year or less which are issued by a bank holding company or an
entity within the holding company structure. The following summarizes the
ratings used by Thomson BankWatch in which the Fund may invest:
"TBW-1" - This designation represents Thomson BankWatch's highest rating
category and indicates a very high degree of likelihood that principal and
interest will be paid on a timely basis.
"TBW-2" - this designation indicates that while the degree of safety
regarding timely payment of principal and interest is strong, the relative
degree of safety is not as high as for issues rated "TBW-1."
IBCA assesses the investment quality of unsecured debt with an original
maturity of less than one year which is issued by bank holding companies and
their principal bank subsidiaries. The following summarizes the rating
categories used by IBCA for short-term debt ratings in which the Fund may
invest:
"A1" - Obligations are supported by the highest capacity for timely
repayment. Where issues possess a particularly strong credit feature, a rating
of A1+ is assigned.
"A2" - Obligations are supported by a good capacity for timely repayment.
Corporate Long-Term Investment Grade Debt Ratings
- -------------------------------------------------
STANDARD & POOR'S INVESTMENT GRADE DEBT RATINGS
A Standard & Poor's corporate or municipal debt rating is a current
assessment of the creditworthiness of an obligor with respect to a specific
obligation. This assessment may take into consideration obligors such as
guarantors, insurers, or lessees. The debt rating is not a recommendation to
purchase, sell, or hold a security, inasmuch as it does not comment as to market
price or suitability for a particular investor.
The ratings are based on current information furnished by the issuer or
obtained by S&P from other sources it considers reliable. S&P does not perform
an audit in connection with any rating and may, on occasion, rely on unaudited
financial information. The ratings may be changed, suspended, or withdrawn as a
result of changes in, or unavailability of, such information, or for other
circumstances.
The ratings are based, in varying degrees, on the following considerations:
1. Likelihood of default - capacity and willingness of the obligor as
to the timely payment of interest and repayment of principal in
accordance with the terms of the obligation.
2. Nature of and provisions of the obligation.
3. Protection afforded by, and relative position of, the obligation in
the event of bankruptcy, reorganization, or other arrangement under
the laws of bankruptcy and other laws affecting creditors' rights.
AAA - Debt rated 'AAA' has the highest rating assigned by Standard &
Poor's. Capacity to pay interest and repay principal is extremely strong.
AA - Debt rated 'AA' has a very strong capacity to pay interest and repay
principal and differs from the highest rated issues only in small degree.
A - Debt rated 'A' has a strong capacity to pay interest and repay principal
although it is somewhat more susceptible to the adverse effects of changes in
circumstances and economic conditions than debt in higher rated categories.
BBB - Debt rated 'BBB' is regarded as having an adequate capacity to pay
interest and repay principal. Whereas it normally exhibits adequate protection
parameters, adverse economic conditions or changing circumstances are more
likely to lead to a weakened capacity to pay interest and repay principal for
debt in this category than in higher rated categories.
MOODY'S LONG-TERM INVESTMENT GRADE DEBT RATINGS
Aaa - Bonds which are rated Aaa are judged to be of the best quality. They
carry the smallest degree of investment risk and are generally referred to as
"gilt edged." Interest payments are protected by a large or by an
exceptionally stable margin and principal is secure. While the various
protective elements are likely to change, such changes as can be visualized are
most unlikely to impair the fundamentally strong position of such issues.
Aa - Bonds which are rated Aa are judged to be of high quality by all
standards. Together with the Aaa group they comprise what are generally known
as high grade bonds. They are rated lower than the best bonds because margins
of protection may not be as large as in Aaa securities or fluctuation of
protective elements may be of greater amplitude or there may be other elements
present which make the long-term risk appear somewhat larger than in Aaa
securities.
A - Bonds which are rated A possess many favorable investment attributes and
are to be considered as upper-medium grade obligations. Factors giving security
to principal and interest are considered adequate, but elements may be present
which suggest a susceptibility to impairment some time in the future.
Baa - Bonds which are rated Baa are considered as medium-grade obligations
(i.e., they are neither highly protected nor poorly secured). Interest payments
and principal security appear adequate for the present but certain protective
elements may be lacking or may be characteristically unreliable over any great
length of time. Such bonds lack outstanding investment characteristics and in
fact have speculative characteristics as well.
FITCH INVESTORS SERVICE, INC. INVESTMENT GRADE BOND RATINGS
Fitch investment grade bond ratings provide a guide to investors in
determining the credit risk associated with a particular security. The ratings
represent Fitch's assessment of the issuer's ability to meet the obligations of
a specific debt issue or class of debt in a timely manner.
The rating takes into consideration special features of the issue, its
relationship to other obligations of the issuer, the current and prospective
financial condition and operating performance of the issuer and any guarantor,
as well as the economic and political environment that might affect the issuer's
future financial strength and credit quality.
Fitch ratings do not reflect any credit enhancement that may be provided by
insurance policies or financial guaranties unless otherwise indicated.
Bonds that have the same rating are of similar but not necessarily identical
credit quality since the rating categories do not fully reflect small
differences in the degrees of credit risk.
Fitch ratings are not recommendations to buy, sell, or hold any security.
Ratings do not comment on the adequacy of market price, the suitability of any
security for a particular investor, or the tax-exempt nature of taxability of
payments made in respect of any security.
Fitch ratings are based on information obtained from issuers, other
obligors, underwriters, their experts, and other sources Fitch believes to be
reliable. Fitch does not audit or verify the truth or accuracy of such
information. Ratings may be changed, suspended, or withdrawn as a result of
changes in, or the unavailability of, information or for other reasons.
AAA Bonds considered to be investment grade and of the highest credit
quality. The obligor has an exceptionally strong ability to pay
interest and repay principal, which is unlikely to be affected by
reasonably foreseeable events.
AA Bonds considered to be investment grade and of very high credit
quality. The obligor's ability to pay interest and repay principal is
very strong, although not quite as strong as bonds rated 'AAA.'
Because bonds rated in the 'AAA' and 'AA' categories are not
significantly vulnerable to foreseeable future developments, short-
term debt of the issuers is generally rated 'F-1+.'
A Bonds considered to be investment grade and of high credit quality.
The obligor's ability to pay interest and repay principal is
considered to be strong, but may be more vulnerable to adverse changes
in economic conditions and circumstances than bonds with higher
ratings.
BBB Bonds considered to be investment grade and of satisfactory credit
quality. The obligor's ability to pay interest and repay principal is
considered to be adequate. Adverse changes in economic conditions and
circumstances, however, are more likely to have adverse impact on
these bonds, and therefore impair timely payment. The likelihood that
the ratings of these bonds will fall below investment grade is higher
than for bonds with higher ratings.
The rating takes into consideration special features of the issue, its
relationship to other obligations of the issuer, the current and prospective
financial condition and operating performance of the issuer and any guarantor,
as well as the economic and political environment that might affect the issuer's
future financial strength.
Bonds that have the same rating are of similar but not necessarily identical
credit quality since the rating categories cannot fully reflect the differences
in the degrees of credit risk. Moreover, the character of the risk factor
varies from industry to industry and between corporate, health care and
municipal obligations.
DUFF & PHELPS, INC. LONG-TERM INVESTMENT GRADE DEBT RATINGS
These ratings represent a summary opinion of the issuer's long-term
fundamental quality. Rating determination is based on qualitative and
quantitative factors which may vary according to the basic economic and
financial characteristics of each industry and each issuer. Important
considerations are vulnerability to economic cycles as well as risks related to
such factors as competition, government action, regulation, technological
obsolescence, demand shifts, cost structure, and management depth and expertise.
The projected viability of the obligor at the trough of the cycle is a critical
determination.
Each rating also takes into account the legal form of the security (e.g.,
first mortgage bonds, subordinated debt, preferred stock, etc.). The extent of
rating dispersion among the various classes of securities is determined by
several factors including relative weightings of the different security classes
in the capital structure, the overall credit strength of the issuer, and the
nature of covenant protection. Review of indenture restrictions is important to
the analysis of a company's operating and financial constraints.
The Credit Rating Committee formally reviews all ratings once per quarter
(more frequently, if necessary). Ratings of 'BBB-' and higher fall within the
definition of investment grade securities, as defined by bank and insurance
supervisory authorities.
RATING
SCALE DEFINITION
- ------------------------------------------------------------------
AAA Highest credit quality. The risk factors
are negligible, being only slightly more
than for risk-free U.S. Treasury debt.
- ------------------------------------------------------------------
AA+ High credit quality. Protection factors
AA are strong. Risk is modest, but may vary
AA- slightly from time to time because of
economic conditions.
- ------------------------------------------------------------------
A+ Protection factors are average but
A adequate. However, risk factors are more
A- variable and greater in periods of economic
areas.
- ------------------------------------------------------------------
BBB+ Below average protection factors, but still
BBB considered sufficient for prudent
BBB- investment. Considerable volatility in
risk during economic cycles.
- ------------------------------------------------------------------
