PAINEWEBBER S&P 500 Index Fund
51 West 52nd Street
New York, New York 10019-6114
STATEMENT OF ADDITIONAL INFORMATION
PaineWebber S&P 500 Index Fund is a diversified series of PaineWebber
Index Trust ("Trust"), a professionally managed open-end management investment
company.
The fund's investment adviser, administrator and distributor is
Mitchell Hutchins Asset Management Inc. ("Mitchell Hutchins"), a wholly owned
asset management subsidiary of PaineWebber Incorporated ("PaineWebber"). As the
fund's distributor, Mitchell Hutchins has appointed PaineWebber to serve as
dealer for the sale of fund shares.
Portions of the fund's Annual Report to Shareholders are incorporated
by reference into this Statement of Additional Information ("SAI"). The Annual
Report accompanies this SAI. You may obtain an additional copy of the Annual
Report without charge by calling toll-free 1-800-647-1568.
This SAI is not a prospectus and should be read only in conjunction
with the fund's current Prospectus dated September 30, 2000. A copy of the
Prospectus may be obtained by calling any PaineWebber Financial Advisor or
correspondent firm or by calling toll-free 1-800-647-1568. This SAI is dated
September 30, 2000.
TABLE OF CONTENTS
PAGE
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The Fund and Its Investment Policies...................................... 2
The Fund's Investments, Related Risks and Limitations..................... 2
Strategies Using Derivative Instruments................................... 8
Organization of the Fund; Trustees and Officers; Principal
Holders and Management Ownership of Securities............................. 13
Investment Advisory, Administration and Distribution Arrangements......... 20
Portfolio Transactions.................................................... 24
Reduced Sales Charges, Additional Exchange and Redemption Information
and Other Services.................................................. 26
Valuation of Shares....................................................... 31
Performance Information................................................... 31
Taxes..................................................................... 33
Other Information......................................................... 35
Financial Statements...................................................... 36
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THE FUND AND ITS INVESTMENT POLICIES
The fund's investment objective may not be changed without
shareholder approval. Except where noted, the other investment policies of the
fund may be changed by its board without shareholder approval. As with other
mutual funds, there is no assurance that the fund will achieve its investment
objective.
The fund's investment objective is to replicate the total return of
the Standard & Poor's 500 Composite Stock Index ("S&P 500 Index"), before fees
and expenses. The fund seeks to achieve its objective by investing substantially
all of its assets in common stocks issued by companies in the S&P 500 Index and
in related derivatives, such as options and futures contracts, that simulate
investment in the Index. The fund invests at least 65% of its total assets in a
substantial majority of the common stocks issued by companies represented in the
S&P 500 Index.
The fund invests in substantially all 500 stocks in the S&P 500 Index
in proportion to their weighting in the Index and, ordinarily, invests in at
least 450 stocks that are represented in the Index. If the fund experiences
exceptional levels of purchases or redemptions, the fund may be delayed in
rebalancing its portfolio to reflect the weightings of the common stocks
reflected in the Index or may hold less than 450 stocks of the Index. The fund
will be rebalanced as soon as practicable to reflect the common stock weightings
represented in the Index and may use derivative instruments to replicate the
weightings of the Index in the interim. From time to time, adjustments may be
made in the fund's investments because of changes in the composition of the
Index. The fund will invest 25% or more of its total assets in securities of
issuers in the same industry if necessary to replicate the weighting of that
particular industry in the S&P 500 Index.
The fund attempts to achieve a correlation, over time, between the
performance of its investments and that of the S&P 500 Index of at least 0.95,
before deduction of fees and expenses. A correlation of 1.00 would represent
perfect correlation between the fund's performance and that of the Index. The
performance of the fund versus that of the Index is compared at least weekly. If
an unexpected tracking error develops, the fund's portfolio will be rebalanced
to bring it into line with the Index. There can be no assurance that the fund
will achieve its expected results.
The fund is authorized to invest up to 35% of its total assets in
cash or money market instruments, although it expects these investments will
represent a much smaller portion of its total assets under normal circumstances.
The fund may invest up to 15% of its net assets in illiquid securities. It may
purchase securities on a when-issued basis and may purchase or sell securities
for delayed delivery. The fund may lend its portfolio securities to qualified
broker-dealers or institutional investors in an amount up to 33 1/3% of its
assets. The fund may borrow money from banks or through reverse repurchase
agreements for temporary or emergency purposes, but not in excess of 33 1/3 % of
its total assets. The costs associated with borrowing may reduce the fund's net
income. The fund also may invest in securities of other investment companies.
THE FUND'S INVESTMENTS, RELATED RISKS AND LIMITATIONS
The following supplements the information contained in the Prospectus
concerning the fund's investments, related risks and limitations. Except as
otherwise indicated in the Prospectus or SAI, the fund has established no policy
limitations on its ability to use the investments or techniques discussed in
these documents.
EQUITY SECURITIES. Equity securities include common stocks, most
preferred stocks and securities that are convertible into them, including common
stock purchase warrants and rights, equity interests in trusts, partnerships,
joint ventures or similar enterprises and receipts. Common stocks, the most
familiar type, represent an equity (ownership) interest in a corporation.
Preferred stock has certain fixed income features, like a bond, but
actually it is equity that is senior to a company's common stock. Convertible
bonds may be converted into or exchanged for a prescribed amount of common stock
of the same or a different issuer within a particular period of time at a
specified price or formula. Depositary receipts typically are issued by banks or
trust companies and evidence ownership of underlying equity securities.
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While past performance does not guarantee future results, equity
securities historically have provided the greatest long-term growth potential in
a company. However, their prices generally fluctuate more than other securities
and reflect changes in a company's financial condition and in overall market and
economic conditions. Common stocks generally represent the riskiest investment
in a company. It is possible that the fund may experience a substantial or
complete loss on an individual equity investment. While this is possible with
bonds, it is less likely.
MONEY MARKET INSTRUMENTS. The fund may invest in money market
instruments for temporary purposes, to reinvest cash collateral from its
securities lending activities or for cash management purposes. These instruments
are short-term debt obligations and similar securities and include: (1)
securities issued or guaranteed as to interest and principal by the U.S.
government or one of its agencies or instrumentalities; (2) debt obligations of
U.S. banks, savings associations, insurance companies and mortgage bankers, (3)
commercial paper and other short-term obligations of corporations, partnerships,
trusts and similar entities; (4) repurchase agreements; and (5) other investment
companies that invest exclusively in money market instruments and similar
private investment vehicles. Money market instruments include longer-term bonds
that have variable interest rates or other special features that give them the
financial characteristics of short-term debt. In addition, the fund may hold
cash and may invest in participation interests in the money market securities
mentioned above without limitation.
INVESTING IN FOREIGN SECURITIES. To the extent the fund holds U.S.
dollar denominated securities of foreign issuers, the securities may not be
registered with the Securities and Exchange Commission ("SEC"), and the issuers
thereof may not be subject to its reporting requirements. Accordingly, there may
be less publicly available information concerning foreign issuers of securities
held by the fund than is available concerning U.S. companies. Foreign companies
are not generally subject to uniform accounting, auditing and financial
reporting standards or to other regulatory requirements comparable to those
applicable to U.S. companies.
Investing in foreign securities involves more risks than investing in
United States securities. The value of foreign securities is subject to social,
economic and political developments in the countries where the issuers operate
and to changes in foreign currency values, as well as risks resulting from the
differences between the regulations to which U.S. and foreign issuers are
subject. These risks may include expropriation, confiscatory taxation,
withholding taxes on interest and/or dividends, limitations on the use of or
transfer of fund assets and political or social instability or diplomatic
developments. Moreover, individual foreign economies may differ favorably or
unfavorably from the U.S. economy in such respects as growth of gross national
product, rate of inflation, capital reinvestment, resource self-sufficiency and
balance of payments position. In those European countries that are using the
Euro as a common currency unit, individual national economies may be adversely
affected by the inability of national governments to use monetary policy to
address their own economic or political concerns.
The fund may invest in foreign securities only if the securities are
traded in the U.S. directly or through American Depositary Receipts ("ADRs").
ADRs are receipts typically issued by a U.S. bank or trust company evidencing
ownership of the underlying securities. They generally are in registered form,
are denominated in U.S. dollars and are designed for use in the U.S. securities
markets. For purposes of the fund's investment policies, ADRs are deemed to have
the same classification as the underlying securities they represent. Thus, an
ADR representing ownership of common stock will be treated as common stock.
ADRs are publicly traded on exchanges or over-the-counter in the
United States and are issued through "sponsored" or "unsponsored" arrangements.
In a sponsored ADR arrangement, the foreign issuer assumes the obligation to pay
some or all of the depository's transaction fees, whereas under an unsponsored
arrangement, the foreign issuer assumes no obligations and the depository's
transaction fees are paid directly by the ADR holders. In addition, less
information is available in the United States about an unsponsored ADR than
about a sponsored ADR.
Investment income and gains realized on certain foreign securities in
which the fund may invest may be subject to foreign withholding or other taxes
that could reduce the return on these securities. Tax treaties between the
United States and foreign countries, however, may reduce or eliminate the amount
of foreign taxes to which the fund would be subject.
REPURCHASE AGREEMENTS. Repurchase agreements are transactions in
which the fund purchases securities or other obligations from a bank or
securities dealer (or its affiliate) and simultaneously commits to resell them
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to the counterparty at an agreed-upon date or upon demand and at a price
reflecting a market rate of interest unrelated to the coupon rate or maturity of
the purchased obligations. The fund maintains custody of the underlying
obligations prior to their repurchase, either through its regular custodian or
through a special "tri-party" custodian or sub-custodian that maintains separate
accounts for both the fund and its counterparty. Thus, the obligation of the
counterparty to pay the repurchase price on the date agreed to or upon demand
is, in effect, secured by such obligations.
Repurchase agreements carry certain risks not associated with direct
investments in securities, including a possible decline in the market value of
the underlying obligations. If their value becomes less than the repurchase
price, plus any agreed-upon additional amount, the counterparty must provide
additional collateral so that at all times the collateral is at least equal to
the repurchase price plus any agreed-upon additional amount. The difference
between the total amount to be received upon repurchase of the obligations and
the price that was paid by the fund upon acquisition is accrued as interest and
included in its net investment income. Repurchase agreements involving
obligations other than U.S. government securities (such as commercial paper and
corporate bonds) may be subject to special risks and may not have the benefit of
certain protections in the event of the counterparty's insolvency. If the seller
or guarantor becomes insolvent, the fund may suffer delays, costs and possible
losses in connection with the disposition of collateral. The fund intends to
enter into repurchase agreements only in transactions with counterparties
believed by Mitchell Hutchins to present minimum credit risks.
REVERSE REPURCHASE AGREEMENTS. Reverse repurchase agreements involve
the sale of securities held by the fund subject to the fund's agreement to
repurchase the securities at an agreed-upon date or upon demand and at a price
reflecting a market rate of interest. Reverse repurchase agreements are subject
to the fund's limitation on borrowings and may be entered into only with banks
or securities dealers or their affiliates. While a reverse repurchase agreement
is outstanding, the fund will maintain, in a segregated account with its
custodian, cash or liquid securities, marked to market daily, in an amount at
least equal to its obligations under the reverse repurchase agreement. See "The
Fund's Investments, Related Risks and Limitations - Segregated Accounts."
Reverse repurchase agreements involve the risk that the buyer of the
securities sold by the fund might be unable to deliver them when the fund seeks
to repurchase. In the event that the buyer of securities under a reverse
repurchase agreement files for bankruptcy or becomes insolvent, the buyer or
trustee or receiver may receive an extension of time to determine whether to
enforce the fund's obligation to repurchase the securities, and the fund's use
of the proceeds of the reverse repurchase agreement may effectively be
restricted pending such decision.
ILLIQUID SECURITIES. The term "illiquid securities" means securities
that cannot be disposed of within seven days in the ordinary course of business
at approximately the amount at which the fund has valued the securities and
includes, among other things, purchased over-the-counter options, repurchase
agreements maturing in more than seven days and restricted securities other than
those Mitchell Hutchins has determined are liquid pursuant to guidelines
established by the fund's board. The assets used as cover for options written by
the fund will be considered illiquid unless the options are sold to qualified
dealers who agree that the fund may repurchase the options at a maximum price to
be calculated by a formula set forth in the option agreements. The cover for an
over-the-counter option written subject to this procedure would be considered
illiquid only to the extent that the maximum repurchase price under the formula
exceeds the intrinsic value of the option. The fund may not be able to readily
liquidate its investments in illiquid securities and may have to sell other
investments if necessary to raise cash to meet its obligations. The lack of a
liquid secondary market for illiquid securities may make it more difficult for
the fund to assign a value to those securities for purposes of valuing its
portfolio and calculating its net asset value.
Restricted securities are not registered under the Securities Act of
1933, as amended ("Securities Act"), and may be sold only in privately
negotiated or other exempted transactions or after a Securities Act registration
statement has become effective. Where registration is required, the fund may be
obligated to pay all or part of the registration expenses and a considerable
period may elapse between the time of the decision to sell and the time the fund
may be permitted to sell a security under an effective registration statement.
If, during such a period, adverse market conditions were to develop, the fund
might obtain a less favorable price than prevailed when it decided to sell.
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Not all restricted securities are illiquid. A large institutional
market has developed for many U.S. and foreign securities that are not
registered under the Securities Act. Institutional investors generally will not
seek to sell these instruments to the general public, but instead will often
depend either on an efficient institutional market in which such unregistered
securities can be readily resold or on an issuer's ability to honor a demand for
repayment. Therefore, the fact that there are contractual or legal restrictions
on resale to the general public or certain institutions is not dispositive of
the liquidity of such investments.
Institutional markets for restricted securities also have developed
as a result of Rule 144A under the Securities Act, which establishes a "safe
harbor" from the registration requirements of the Securities Act for resales of
certain securities to qualified institutional buyers. Such markets include
automated systems for the trading, clearance and settlement of unregistered
securities of domestic and foreign issuers, such as the PORTAL System sponsored
by the National Association of Securities Dealers, Inc. An insufficient number
of qualified institutional buyers interested in purchasing Rule 144A-eligible
restricted securities held by the fund, however, could affect adversely the
marketability of such portfolio securities, and the fund might be unable to
dispose of them promptly or at favorable prices.
The board has delegated the function of making day-to-day
determinations of liquidity to Mitchell Hutchins pursuant to guidelines approved
by the board. Mitchell Hutchins takes into account a number of factors in
reaching liquidity decisions, including (1) the frequency of trades for the
security, (2) the number of dealers that make quotes for the security, (3) the
number of dealers that have undertaken to make a market in the security, (4) the
number of other potential purchasers and (5) the nature of the security and how
trading is effected (e.g., the time needed to sell the security, how bids are
solicited and the mechanics of transfer). Mitchell Hutchins monitors the
liquidity of restricted securities in the fund's portfolio and reports
periodically on such decisions to the board.
Mitchell Hutchins also monitors the fund's overall holdings of
illiquid securities. If the fund's holdings of illiquid securities exceed its
limitation on investments in illiquid securities for any reason (such as a
particular security becoming illiquid, changes in the relative market values of
portfolio securities or shareholder redemptions), Mitchell Hutchins will
consider what action would be in the best interests of the fund and its
shareholders. Such action may include engaging in an orderly disposition of
securities to reduce the fund's holdings of illiquid securities. However, the
fund is not required to dispose of illiquid securities under these
circumstances.
LENDING OF PORTFOLIO SECURITIES. The fund is authorized to lend its
portfolio securities to broker-dealers or institutional investors that Mitchell
Hutchins deems qualified. Lending securities enables the fund to earn additional
income, but could result in a loss or delay in recovering these securities. The
borrower of the fund's portfolio securities must maintain acceptable collateral
with the fund's custodian in an amount, marked to market daily, at least equal
to the market value of the securities loaned, plus accrued interest and
dividends. Acceptable collateral is limited to cash, U.S. government securities
and irrevocable letters of credit that meet certain guidelines established by
Mitchell Hutchins. The fund may reinvest cash collateral in money market
instruments or other short-term liquid investments, including other investment
companies. The fund also may reinvest cash collateral in private investment
vehicles similar to money market funds, including one managed by Mitchell
Hutchins. In determining whether to lend securities to a particular
broker-dealer or institutional investor, Mitchell Hutchins will consider, and
during the period of the loan will monitor, all relevant facts and
circumstances, including the creditworthiness of the borrower. The fund will
retain authority to terminate any of its loans at any time. The fund may pay
reasonable fees in connection with a loan and may pay the borrower or placing
broker a negotiated portion of the interest earned on the reinvestment of cash
held as collateral. The fund will receive amounts equivalent to any dividends,
interest or other distributions on the securities loaned. The fund will regain
record ownership of loaned securities to exercise beneficial rights, such as
voting and subscription rights, when regaining such rights is considered to be
in the fund's interest.
Pursuant to procedures adopted by the board governing the fund's
securities lending program, PaineWebber has been retained to serve as lending
agent for the fund. The board also has authorized the payment of fees (including
fees calculated as a percentage of invested cash collateral) to PaineWebber for
these services. The board periodically reviews all portfolio securities loan
transactions for which PaineWebber has acted as lending agent. PaineWebber also
has been approved as a borrower under the fund's securities lending program.
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WARRANTS. Warrants are securities permitting, but not obligating,
holders to subscribe for other securities or commodities. Warrants do not carry
with them the right to dividends or voting rights with respect to the securities
that they entitle their holder to purchase, and they do not represent any rights
in the assets of the issuer. As a result, warrants may be considered more
speculative than certain other types of investments. In addition, the value of a
warrant does not necessarily change with the value of the underlying securities,
and a warrant ceases to have value if it is not exercised prior to its
expiration date.
WHEN-ISSUED AND DELAYED DELIVERY SECURITIES. The fund may purchase a
security on a when-issued basis or may purchase or sell securities for delayed
delivery, I.E., for issuance or delivery to or by the fund later than a normal
settlement date for such securities at a stated price and yield. The fund
generally would not pay for such securities or start earning interest on them
until they are received. However, when the fund undertakes a when-issued or
delayed delivery obligation, it immediately assumes the risks of ownership,
including the risks of price fluctuation. Failure of the issuer to deliver a
security purchased by the fund on a when-issued or delayed delivery basis may
result in the fund's incurring or missing an opportunity to make an alternative
investment.
A security purchased on a when-issued or delayed delivery basis is
recorded as an asset on the commitment date and is subject to changes in market
value, generally based upon changes in the level of interest rates. Thus,
fluctuation in the value of the security from the time of the commitment date
will affect the fund's net asset value. When the fund commits to purchase
securities on a when-issued or delayed delivery basis, its custodian segregates
assets to cover the amount of the commitment. See "The Fund's Investments,
Related Risks and Limitations--Segregated Accounts." The fund's when-issued and
delayed delivery purchase commitments could cause its net asset value per share
to be more volatile.
INVESTMENTS IN OTHER INVESTMENT COMPANIES. The fund may invest in
securities of other investment companies, subject to limitations under the
Investment Company Act of 1940, as amended ("Investment Company Act"). Among
other things, these limitations currently restrict the fund's aggregate
investments in other investment companies to no more than 10% of its total
assets. The fund's investment in certain private investment vehicles are not
subject to this restriction. The shares of other investment companies are
subject to the management fees and other expenses of those companies, and the
purchase of shares of some investment companies requires the payment of sales
loads and (in the case of closed-end investment companies) sometimes substantial
premiums above the value of such companies' portfolio securities. At the same
time, the fund would continue to pay its own management fees and expenses with
respect to all its investments, including shares of other investment companies.
The fund may invest in the shares of other investment companies when, in the
judgment of Mitchell Hutchins, the potential benefits of the investment outweigh
the payment of any management fees and expenses and, where applicable, premium
or sales load.
SEGREGATED ACCOUNTS. When the fund enters into certain transactions
to make future payments to third parties, including the purchase of securities
on a when-issued or delayed delivery basis and reverse repurchase agreements, it
will maintain with an approved custodian in a segregated account cash or liquid
securities, marked to market daily, in an amount at least equal to the fund's
obligation or commitment under such transactions. As described below under
"Strategies Using Derivative Instruments," segregated accounts may also be
required in connection with certain transactions involving options and futures
contracts.
INVESTMENT LIMITATIONS OF THE FUND
FUNDAMENTAL INVESTMENT LIMITATIONS. The following investment
limitations cannot be changed for the fund without the affirmative vote of the
lesser of (a) more than 50% of its outstanding shares or (b) 67% or more of the
shares present at a shareholders' meeting if more than 50% of its outstanding
shares are represented at the meeting in person or by proxy. If a percentage
restriction is adhered to at the time of an investment or transaction, a later
increase or decrease in percentage resulting from changing values of portfolio
securities or amount of total assets will not be considered a violation of any
of the following limitations. With regard to the borrowings limitation in
fundamental limitation (3), the fund will comply with the applicable
restrictions of Section 18 of the Investment Company Act.
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The fund will not:
(1) purchase securities of any one issuer if, as a result, more
than 5% of the fund's total assets would be invested in securities of that
issuer or the fund would own or hold more than 10% of the outstanding
voting securities of that issuer, except that up to 25% of the fund's
total assets may be invested without regard to this limitation, and except
that this limitation does not apply to securities issued or guaranteed by
the U.S. government, its agencies and instrumentalities or to securities
issued by other investment companies.
The following interpretation applies to, but is not a part of,
this fundamental restriction: Mortgage- and asset-backed securities will
not be considered to have been issued by the same issuer by reason of the
securities having the same sponsor, and mortgage- and asset-backed
securities issued by a finance or other special purpose subsidiary that
are not guaranteed by the parent company will be considered to be issued
by a separate issuer from the parent company.
(2) purchase any security if, as a result of that purchase, 25%
or more of the fund's total assets would be invested in securities of
issuers having their principal business activities in the same industry,
except that this limitation does not apply to investments in securities
issued or guaranteed by the U.S. government, its agencies or
instrumentalities or to municipal securities and provided that the fund
will invest 25% or more of its total assets in securities of issuers in
the same industry if necessary to replicate the weighting of that
particular industry in the S&P 500 Index.
(3) issue senior securities or borrow money, except as permitted
under the Investment Company Act and then not in excess of 33 1/3% of the
fund's total assets (including the amount of the senior securities issued
but reduced by any liabilities not constituting senior securities) at the
time of the issuance or borrowing, except that the fund may borrow up to
an additional 5% of its total assets (not including the amount borrowed)
for temporary or emergency purposes.
(4) make loans, except through loans of portfolio securities or
through repurchase agreements, provided that for purposes of this
restriction, the acquisition of bonds, debentures, other debt securities
or instruments, or participations or other interests therein and
investments in government obligations, commercial paper, certificates of
deposit, bankers' acceptances or similar instruments will not be
considered the making of a loan.
(5) engage in the business of underwriting securities of other
issuers, except to the extent that the fund might be considered an
underwriter under the federal securities laws in connection with its
disposition of portfolio securities.
(6) purchase or sell real estate, except that investments in
securities of issuers that invest in real estate and investments in
mortgage-backed securities, mortgage participations or other instruments
supported by interests in real estate are not subject to this limitation,
and except that the fund may exercise rights under agreements relating to
such securities, including the right to enforce security interests and to
hold real estate acquired by reason of such enforcement until that real
estate can be liquidated in an orderly manner.
(7) purchase or sell physical commodities unless acquired as a
result of owning securities or other instruments, but the fund may
purchase, sell or enter into financial options and futures, forward and
spot currency contracts, swap transactions and other financial contracts
or derivative instruments.
NON-FUNDAMENTAL LIMITATIONS. The following investment restrictions
are non-fundamental and may be changed by the vote of the board without
shareholder approval. If a percentage restriction is adhered to at the time of
an investment or transaction, a later increase or decrease in percentage
resulting from changing values of portfolio securities or amount of total assets
will not be considered a violation of any of the following limitations.
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The fund will not:
(1) invest more than 15% of its net assets in illiquid
securities.
(2) purchase portfolio securities while borrowings in excess of
5% of its total assets are outstanding.
(3) purchase securities on margin, except for short-term credit
necessary for clearance of portfolio transactions and except that the fund
may make margin deposits in connection with its use of financial options
and futures, forward and spot currency contracts, swap transactions and
other financial contracts or derivative instruments.
(4) engage in short sales of securities or maintain a short
position, except that the fund may (a) sell short "against the box" and
(b) maintain short positions in connection with its use of financial
options and futures, forward and spot currency contracts, swap
transactions and other financial contracts or derivative instruments.
(5) purchase securities of other investment companies, except
to the extent permitted by the Investment Company Act or under the terms
of an exemptive order granted by the SEC and except that this limitation
does not apply to securities received or acquired as dividends, through
offers of exchange, or as a result of reorganization, consolidation, or
merger.
STRATEGIES USING DERIVATIVE INSTRUMENTS
GENERAL DESCRIPTION OF DERIVATIVE INSTRUMENTS. The fund may use a
variety of financial instruments ("Derivative Instruments"), including certain
options, futures contracts (sometimes referred to as "futures") and options on
futures contracts. The fund may enter into transactions involving one or more
types of Derivative Instruments under which the full value of its portfolio is
at risk. Under normal circumstances, however, the fund's use of these
instruments will place at risk a much smaller portion of its assets. The
particular Derivative Instruments that may be used by the fund are described
below.
The fund might not use any Derivative Instruments or derivative
strategies, and there can be no assurance that using any strategy will succeed.
If the fund is incorrect in its judgment on market values, interest rates or
other economic factors in using a Derivative Instrument or strategy, the fund
may have lower net income and a net loss on the investment.
OPTIONS ON SECURITIES -- A call option is a short-term contract
pursuant to which the purchaser of the option, in return for a premium, has the
right to buy the security underlying the option at a specified price at any time
during the term of the option or at specified times or at the expiration of the
option, depending on the type of option involved. The writer of the call option,
who receives the premium, has the obligation, upon exercise of the option during
the option term, to deliver the underlying security against payment of the
exercise price. A put option is a similar contract that gives its purchaser, in
return for a premium, the right to sell the underlying security at a specified
price during the option term or at specified times or at the expiration of the
option, depending on the type of option involved. The writer of the put option,
who receives the premium, has the obligation, upon exercise of the option during
the option term, to buy the underlying security at the exercise price.
OPTIONS ON SECURITIES INDICES -- A securities index assigns relative
values to the securities included in the index and fluctuates with changes in
the market values of those securities. A securities index option operates in the
same way as a more traditional securities option, except that exercise of a
securities index option is effected with cash payment and does not involve
delivery of securities. Thus, upon exercise of a securities index option, the
purchaser will realize, and the writer will pay, an amount based on the
difference between the exercise price and the closing price of the securities
index.
SECURITIES INDEX FUTURES CONTRACTS -- A securities index futures
contract is a bilateral agreement pursuant to which one party agrees to accept,
and the other party agrees to make, delivery of an amount of cash equal to a
specified dollar amount times the difference between the securities index value
at the close of trading of the contract and the price at which the futures
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contract is originally struck. No physical delivery of the securities comprising
the index is made. Generally, contracts are closed out prior to the expiration
date of the contract.
OPTIONS ON FUTURES CONTRACTS -- Options on futures contracts are
similar to options on securities, except that an option on a futures contract
gives the purchaser the right, in return for the premium, to assume a position
in a futures contract (a long position if the option is a call and a short
position if the option is a put), rather than to purchase or sell a security, at
a specified price at any time during the option term. Upon exercise of the
option, the delivery of the futures position to the holder of the option will be
accompanied by delivery of the accumulated balance that represents the amount by
which the market price of the futures contract exceeds, in the case of a call,
or is less than, in the case of a put, the exercise price of the option on the
future. The writer of an option, upon exercise, will assume a short position in
the case of a call and a long position in the case of a put.
GENERAL DESCRIPTION OF STRATEGIES USING DERIVATIVE INSTRUMENTS. The
fund may use Derivative Instruments to simulate full investment in the S&P 500
Index while retaining a cash balance for management purposes, such as to provide
liquidity to meet anticipated shareholder sales of fund shares and for fund
operating expenses. As part of its use of Derivative Instruments for the cash
management purposes, the fund may attempt to reduce the risk of adverse price
movements ("hedge") in the securities of the S&P 500 Index while investing cash
received from investor purchases of fund shares or selling securities to meet
shareholder redemptions. The fund may also use Derivative Instruments to reduce
transaction costs and to facilitate trading.
Hedging strategies can be broadly categorized as "short hedges" and
"long hedges." A short hedge is a purchase or sale of a Derivative Instrument
intended partially or fully to offset potential declines in the value of one or
more investments held in the fund's portfolio. Thus, in a short hedge the fund
takes a position in a Derivative Instrument whose price is expected to move in
the opposite direction of the price of the investment being hedged. For example,
the fund might purchase a put option on a security to hedge against a potential
decline in the value of that security. If the price of the security declined
below the exercise price of the put, the fund could exercise the put and thus
limit its loss below the exercise price to the premium paid plus transaction
costs. In the alternative, because the value of the put option can be expected
to increase as the value of the underlying security declines, the fund might be
able to close out the put option and realize a gain to offset the decline in the
value of the security.
Conversely, a long hedge is a purchase or sale of a Derivative
Instrument intended partially or fully to offset potential increases in the
acquisition cost of one or more investments that the fund intends to acquire.
Thus, in a long hedge, the fund takes a position in a Derivative Instrument
whose price is expected to move in the same direction as the price of the
prospective investment being hedged. For example, the fund might purchase a call
option on a security it intends to purchase in order to hedge against an
increase in the cost of the security. If the price of the security increased
above the exercise price of the call, the fund could exercise the call and thus
limit its acquisition cost to the exercise price plus the premium paid and
transaction costs. Alternatively, the fund might be able to offset the price
increase by closing out an appreciated call option and realizing a gain.
Derivative Instruments on securities generally are used to hedge
against price movements in one or more particular securities positions that the
fund owns or intends to acquire. Derivative Instruments on stock indices, in
contrast, generally are used to hedge against price movements in broad stock
market sectors.
The use of Derivative Instruments is subject to applicable
regulations of the SEC, the several options and futures exchanges upon which
they are traded and the Commodity Futures Trading Commission ("CFTC"). In
addition, the fund's ability to use Derivative Instruments may be limited by tax
considerations. See "Taxes."
In addition to the products, strategies and risks described below and
in the Prospectus, Mitchell Hutchins may discover additional opportunities in
connection with Derivative Instruments and with hedging, income, return and gain
strategies. These new opportunities may become available as regulatory
authorities broaden the range of permitted transactions and as new Derivative
Instruments and techniques are developed. Mitchell Hutchins may utilize these
opportunities for the fund to the extent that they are consistent with the
fund's investment objective and permitted by its investment limitations and
applicable regulatory authorities. The fund's Prospectus or SAI will be
supplemented to the extent that new products or techniques involve materially
different risks than those described below or in the Prospectus.
9
<PAGE>
SPECIAL RISKS OF STRATEGIES USING DERIVATIVE INSTRUMENTS. The use of
Derivative Instruments involves special considerations and risks, as described
below. Risks pertaining to particular Derivative Instruments are described in
the sections that follow.
(1) There might be imperfect correlation between price movements
of a Derivative Instrument and price movements of the investments that are
being hedged. For example, if the value of a Derivative Instrument used in
a short hedge increased by less than the decline in value of the hedged
investment, the hedge would not be fully successful. Such a lack of
correlation might occur due to factors unrelated to the value of the
investments being hedged, such as speculative or other pressures on the
markets in which the Derivative Instruments are traded. The effectiveness
of hedges using Derivative Instruments on indices will depend on the
degree of correlation between price movements in the index and price
movements in the securities being hedged.
(2) Hedging strategies, if successful, can reduce risk of loss
by wholly or partially offsetting the negative effect of unfavorable price
movements in the investments being hedged. However, hedging strategies can
also reduce opportunity for gain by offsetting the positive effect of
favorable price movements in the hedged investments. For example, if the
fund entered into a short hedge because Mitchell Hutchins projected a
decline in the price of a security in that fund's portfolio, and the price
of that security increased instead, the gain from that increase might be
wholly or partially offset by a decline in the price of the Derivative
Instrument. Moreover, if the price of the Derivative Instrument declined
by more than the increase in the price of the security, the fund could
suffer a loss. In either such case, the fund would have been in a better
position had it not hedged at all.
(3) As described below, the fund might be required to maintain
assets as "cover," maintain segregated accounts or make margin payments
when it takes positions in Derivative Instruments involving obligations to
third parties (i.e., Derivative Instruments other than purchased options).
If the fund was unable to close out its positions in such Derivative
Instruments, it might be required to continue to maintain such assets or
accounts or make such payments until the positions expired or matured.
These requirements might impair the fund's ability to sell a portfolio
security or make an investment at a time when it would otherwise be
favorable to do so, or require that the fund sell a portfolio security at
a disadvantageous time. The fund's ability to close out a position in a
Derivative Instrument prior to expiration or maturity depends on the
existence of a liquid secondary market or, in the absence of such a
market, the ability and willingness of a counterparty to enter into a
transaction closing out the position. Therefore, there is no assurance
that any hedging position can be closed out at a time and price that is
favorable to the fund.
COVER FOR STRATEGIES USING DERIVATIVE INSTRUMENTS. Transactions using
Derivative Instruments, other than purchased options, 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,
currencies or other options or futures contracts or (2) cash or liquid
securities with a value sufficient at all times to cover its potential
obligations to the extent not covered as provided in (1) above. The fund will
comply with SEC guidelines regarding cover for such transactions and will, if
the guidelines so require, set aside cash or liquid securities in a segregated
account with its custodian in the prescribed amount.
Assets used as cover or held in a segregated account cannot be sold
while the position in the corresponding Derivative Instrument is open, unless
they are replaced with similar assets. As a result, committing a large portion
of the fund's assets to cover positions or to segregated accounts could impede
portfolio management or the fund's ability to meet redemption requests or other
current obligations.
OPTIONS. The fund may purchase put and call options, and write (sell)
covered put or call options on securities in which it invests and indices of
those securities. The purchase of call options may serve as a long hedge, and
the purchase of put options may serve as a short hedge. The fund may also use
options to attempt to enhance return or realize gains by increasing or reducing
its exposure to the securities in the S&P 500 Index without purchasing or
selling the underlying securities. Writing covered put or call options can
enable the fund to enhance income by reason of the premiums paid by the
purchasers of such options. Writing covered call options serves as a limited
short hedge, because declines in the value of the hedged investment would be
offset to the extent of the premium received for writing the option. However, if
the security appreciates to a price higher than the exercise price of the call
10
<PAGE>
option, it can be expected that the option will be exercised and the fund will
be obligated to sell the security at less than its market value. Writing covered
put options serves as a limited long hedge, because increases in the value of
the hedged investment would be offset to the extent of the premium received for
writing the option. However, if the security depreciates to a price lower than
the exercise price of the put option, it can be expected that the put option
will be exercised and the fund will be obligated to purchase the security at
more than its market value. The securities or other assets used as cover for
over-the-counter options written by the fund would be considered illiquid to the
extent described under "The Fund's Investments, Related Risks and
Limitations--Illiquid Securities."
The value of an option position will reflect, among other things, the
current market value of the underlying investment, the time remaining until
expiration, the relationship of the exercise price to the market price of the
underlying investment, the historical price volatility of the underlying
investment and general market conditions. Options normally have expiration dates
of up to nine months. Generally, over-the-counter options on bonds are
European-style options. This means that the option can only be exercised
immediately prior to its expiration. This is in contract to American-style
options that may be exercised at any time. There are also other types of options
that may be exercised on certain specified dates before expiration. Options that
expire unexercised have no value.
The fund may effectively terminate its right or obligation under an
option by entering into a closing transaction. For example, the fund may
terminate its obligation under a call or put option that it had written by
purchasing an identical call or put option; this is known as a closing purchase
transaction. Conversely, the fund may terminate a position in a put or call
option it had purchased by writing an identical put or call option; this is
known as a closing sale transaction. Closing transactions permit the fund to
realize profits or limit losses on an option position prior to its exercise or
expiration.
The fund may purchase and write both exchange-traded and
over-the-counter options. Currently, many options on equity securities (stocks)
are exchange-traded. Exchange markets for options on bonds exist but are
relatively new, and these instruments are primarily traded on the
over-the-counter market. Exchange-traded options in the United States are issued
by a clearing organization affiliated with the exchange on which the option is
listed which, in effect, guarantees completion of every exchange-traded option
transaction. In contrast, over-the-counter options are contracts between the
fund and its counterparty (usually a securities dealer or a bank) with no
clearing organization guarantee. Thus, when the fund purchases or writes an
over-the-counter option, it relies on the counterparty to make or take delivery
of the underlying investment upon exercise of the option. Failure by the
counterparty to do so would result in the loss of any premium paid by the fund
as well as the loss of any expected benefit of the transaction.
The fund's ability to establish and close out positions in
exchange-listed options depends on the existence of a liquid market. The fund
intends to purchase or write only those exchange-traded options for which there
appears to be a liquid secondary market. However, there can be no assurance that
such a market will exist at any particular time. Closing transactions can be
made for over-the-counter options only by negotiating directly with the
counterparty, or by a transaction in the secondary market if any such market
exists. Although the fund will enter into over-the-counter options only with
counterparties that are expected to be capable of entering into closing
transactions with the fund, there is no assurance that the fund will in fact be
able to close out an over-the-counter option position at a favorable price prior
to expiration. In the event of insolvency of the counterparty, the fund might be
unable to close out an over-the-counter option position at any time prior to its
expiration.
If the fund were unable to effect a closing transaction for an option
it had purchased, it would have to exercise the option to realize any profit.
The inability to enter into a closing purchase transaction for a covered put or
call option written by the fund could cause material losses because the fund
would be unable to sell the investment used as cover for the written option
until the option expires or is exercised.
LIMITATIONS ON THE USE OF OPTIONS. The fund's use of options is
governed by the following guidelines, which can be changed by its board without
shareholder vote:
(1) The fund may purchase a put or call option, including any
straddle or spread, only if the value of its premium, when aggregated with the
premiums on all other options held by the fund, does not exceed 5% of its total
assets.
11
<PAGE>
(2) The aggregate value of securities underlying put options written
by the fund, determined as of the date the put options are written, will not
exceed 50% of its net assets.
(3) The aggregate premiums paid on all options (including options on
securities, securities indices and futures contracts) purchased by the fund that
are held at any time will not exceed 20% of its net assets.
FUTURES. The fund may purchase and sell futures contracts that are
related to securities in which it is permitted to invest, such as securities
index futures contracts. The fund may purchase put and call options, and write
covered put and call options, on futures in which it is allowed to invest. The
purchase of futures or call options thereon can serve as a long hedge, and the
sale of futures or the purchase of put options thereon can serve as a short
hedge. Writing covered call options on futures contracts can serve as a limited
short hedge, and writing covered put options on futures contracts can serve as a
limited long hedge, using a strategy similar to that used for writing covered
options on securities or indices. In addition, the fund may purchase or sell
futures contracts or purchase options thereon to increase or reduce its exposure
to an asset class without purchasing or selling the underlying securities,
either as a hedge or to enhance return or realize gains.
No price is paid upon entering into a futures contract. Instead, at
the inception of a futures contract the fund is required to deposit in a
segregated account with its custodian, in the name of the futures broker through
whom the transaction was effected, "initial margin" consisting of cash,
obligations of the United States or obligations fully guaranteed as to principal
and interest by the United States, in an amount generally equal to 10% or less
of the contract value. Margin must also be deposited when writing a call option
on a futures contract, in accordance with applicable exchange rules. Unlike
margin in securities transactions, initial margin on futures contracts does not
represent a borrowing, but rather is in the nature of a performance bond or
good-faith deposit that is returned to the fund at the termination of the
transaction if all contractual obligations have been satisfied. Under certain
circumstances, such as periods of high volatility, the fund may be required by
an exchange to increase the level of its initial margin payment, and initial
margin requirements might be increased generally in the future by regulatory
action.
Subsequent "variation margin" payments are made to and from the
futures broker daily as the value of the futures position varies, a process
known as "marking to market." Variation margin does not involve borrowing, but
rather represents a daily settlement of each fund's obligations to or from a
futures broker. When the fund purchases an option on a future, the premium paid
plus transaction costs is all that is at risk. In contrast, when the fund
purchases or sells a futures contract or writes a call option thereon, it is
subject to daily variation margin calls that could be substantial in the event
of adverse price movements. If the fund has insufficient cash to meet daily
variation margin requirements, it might need to sell securities at a time when
such sales are disadvantageous.
Holders and writers of futures positions and options on futures can
enter into offsetting closing transactions, similar to closing transactions on
options, by selling or purchasing, respectively, an instrument identical to the
instrument held or written. Positions in futures and options on futures may be
closed only on an exchange or board of trade that provides a secondary market.
The fund intends to enter into futures transactions only on exchanges or boards
of trade where there appears to be a liquid secondary market. However, there can
be no assurance that such a market will exist for a particular contract at a
particular time.
Under certain circumstances, futures exchanges may establish daily
limits on the amount that the price of a future or related option can vary from
the previous day's settlement price; once that limit is reached, no trades may
be made that day at a price beyond the limit. Daily price limits do not limit
potential losses because prices could move to the daily limit for several
consecutive days with little or no trading, thereby preventing liquidation of
unfavorable positions.
If the fund were unable to liquidate a futures or related options
position due to the absence of a liquid secondary market or the imposition of
price limits, it could incur substantial losses. The fund would continue to be
subject to market risk with respect to the position. In addition, except in the
case of purchased options, the fund would continue to be required to make daily
variation margin payments and might be required to maintain the position being
hedged by the future or option or to maintain cash or securities in a segregated
account.
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<PAGE>
Certain characteristics of the futures market might increase the risk
that movements in the prices of futures contracts or related options might not
correlate perfectly with movements in the prices of the investments being
hedged. For example, all participants in the futures and related options markets
are subject to daily variation margin calls and might be compelled to liquidate
futures or related options positions whose prices are moving unfavorably to
avoid being subject to further calls. These liquidations could increase price
volatility of the instruments and distort the normal price relationship between
the futures or options and the investments being hedged. Also, because initial
margin deposit requirements in the futures market are less onerous than margin
requirements in the securities markets, there might be increased participation
by speculators in the futures markets. This participation also might cause
temporary price distortions. In addition, activities of large traders in both
the futures and securities markets involving arbitrage, "program trading" and
other investment strategies might result in temporary price distortions.
LIMITATIONS ON THE USE OF FUTURES AND RELATED OPTIONS. The fund's use
of futures and related options is governed by the following guidelines, which
can be changed by its board without shareholder vote:
(1) To the extent the fund enters into futures contracts and options
on futures positions that are not for bona fide hedging purposes (as defined by
the CFTC), the aggregate initial margin and premiums on those positions
(excluding the amount by which options are "in-the-money") may not exceed 5% of
its net assets.
(2) The aggregate premiums paid on all options (including options on
securities, securities indices and futures contracts) purchased by the fund that
are held at any time will not exceed 20% of its net assets.
(3) The aggregate margin deposits on all futures contracts and
options thereon held at any time by the fund will not exceed 5% of its total
assets.
ORGANIZATION OF THE FUND; TRUSTEES AND OFFICERS; PRINCIPAL HOLDERS AND
MANAGEMENT OWNERSHIP OF SECURITIES
The Trust was formed on May 27, 1997 as a business trust under the
laws of Delaware. The Trust has one operating series and is governed by a board
of trustees which is authorized to establish additional series and to issue an
unlimited number of shares of beneficial interest of each existing or future
series, par value $0.001 per share.
The trustees and executive officers of the Trust, their ages,
business addresses and principal occupations during the past five years are:
<TABLE>
<CAPTION>
NAME AND ADDRESS; AGE POSITION WITH TRUST BUSINESS EXPERIENCE; OTHER DIRECTORSHIPS
--------------------- ------------------- ----------------------------------------
<S> <C> <C>
Margo N. Alexander*+; 53 Trustee and President Mrs. Alexander is Chairman (since March 1999),
chief executive officer and a director of
Mitchell Hutchins (since January 1995), and an
executive vice president and a director of
PaineWebber (since March 1984). Mrs. Alexander
is president and a director or trustee of 30
investment companies for which Mitchell
Hutchins, PaineWebber or one of their
affiliates serves as investment adviser.
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<PAGE>
NAME AND ADDRESS; AGE POSITION WITH TRUST BUSINESS EXPERIENCE; OTHER DIRECTORSHIPS
--------------------- ------------------- ----------------------------------------
Richard Q. Armstrong; 65 Trustee Mr. Armstrong is chairman and principal of
R.Q.A. Enterprises R.Q.A. Enterprises (management consulting firm)
One Old Church Road (since April 1991 and principal occupation
Unit #6 since March 1995). Mr. Armstrong was chairman
Greenwich, CT 06830 of the board, chief executive officer and
co-owner of Adirondack Beverages (producer and
distributor of soft drinks and sparkling/still
waters) (October 1993-March 1995). He was a
partner of The New England Consulting Group
(management consulting firm) (December
1992-September 1993). He was managing director
of LVMH U.S. Corporation (U.S. subsidiary of
the French luxury goods conglomerate, Louis
Vuitton Moet Hennessey Corporation) (1987-1991)
and chairman of its wine and spirits
subsidiary, Schieffelin & Somerset Company
(1987-1991). Mr. Armstrong is a director or
trustee of 29 investment companies for which
Mitchell Hutchins, PaineWebber or one of their
affiliates serves as investment adviser.
E. Garrett Bewkes, Jr.**+; 74 Trustee and Chairman of Mr. Bewkes is a director of Paine Webber Group
the Board of Trustees Inc. ("PW Group") (holding company of
PaineWebber and Mitchell Hutchins). Prior to
1996, he was a consultant to PW Group. He
serves as a consultant to PaineWebber (since
May 1999). Prior to 1988, he was chairman of
the board, president and chief executive
officer of American Bakeries Company. Mr.
Bewkes is a director of Interstate Bakeries
Corporation. Mr. Bewkes is a director or
trustee of 40 investment companies for which
Mitchell Hutchins, PaineWebber or one of their
affiliates serves as investment adviser.
14
<PAGE>
NAME AND ADDRESS; AGE POSITION WITH TRUST BUSINESS EXPERIENCE; OTHER DIRECTORSHIPS
--------------------- ------------------- ----------------------------------------
Richard R. Burt; 53 Trustee Mr. Burt is chairman of IEP Advisors, LLP
1275 Pennsylvania Ave., N.W. (international investments and consulting firm)
Washington, DC 20004 (since March 1994) and a partner of McKinsey &
Company (management consulting firm) (since
1991). He is also a director of
Archer-Daniels-Midland Co. (agricultural
commod-ities), Hollinger International Co.
(publishing), Homestake Mining Corp. (gold
mining), six investment companies in the
Deutsche Bank family of funds, nine investment
companies in the Flag Investors family of
funds, The Central European Fund, Inc. and The
Germany Fund, Inc., vice chairman of Anchor
Gaming (provides technology to gaming and
wagering industry) (since July 1999) and
Chairman of Weirton Steel Corp. (makes and
finishes steel products) (since April 1996). He
was the chief negotiator in the Strategic Arms
Reduction Talks with the former Soviet Union
(1989-1991) and the U.S. Ambassador to the
Federal Republic of Germany (1985-1989). Mr.
Burt is a director or trustee of 29 investment
companies for which Mitchell Hutchins,
PaineWebber or one of their affiliates serves
as investment adviser.
Meyer Feldberg; 58 Trustee Mr. Feldberg is Dean and Professor of
Columbia University Management of the Graduate School of Business,
101 Uris Hall Columbia University. Prior to 1989, he was
New York, NY 10027 president of the Illinois Institute of
Technology. Dean Feldberg is also a director of
Primedia, Inc. (publishing), Federated
Department Stores, Inc. (operator of department
stores) and Revlon, Inc. (cosmetics). Dean
Feldberg is a director or trustee of 37
investment companies for which Mitchell
Hutchins, PaineWebber or one of their
affiliates serves as investment adviser.
George W. Gowen; 71 Trustee Mr. Gowen is a partner in the law firm of
666 Third Avenue Dunnington, Bartholow & Miller. Prior to May
New York, NY 10017 1994, he was a partner in the law firm of
Fryer, Ross & Gowen. Mr. Gowen is a director or
trustee of 37 investment companies for which
Mitchell Hutchins, PaineWebber or one of their
affiliates serves as investment adviser.
15
<PAGE>
NAME AND ADDRESS; AGE POSITION WITH TRUST BUSINESS EXPERIENCE; OTHER DIRECTORSHIPS
--------------------- ------------------- ----------------------------------------
Frederic V. Malek; 63 Trustee Mr. Malek is chairman of Thayer Capital
1455 Pennsylvania Ave., N.W. Partners (merchant bank) and chairman of Thayer
Suite 350 Hotel Investors II and Lodging Opportunities
Washington, DC 20004 Fund (hotel investment partnerships). From
January 1992 to November 1992, he was campaign
manager of Bush-Quayle '92. From 1990 to 1992,
he was vice chairman and, from 1989 to 1990, he
was president of Northwest Airlines Inc. and
NWA Inc. (holding company of Northwest Airlines
Inc.). Prior to 1989, he was employed by the
Marriott Corporation (hotels, restaurants,
airline catering and contract feeding), where
he most recently was an executive vice
president and president of Marriott Hotels and
Resorts. Mr. Malek is also a director of Aegis
Communications, Inc. (tele-services), American
Management Systems, Inc. (management consulting
and computer related services), Automatic Data
Processing, Inc. (computing services), CB
Richard Ellis, Inc. (real estate services), FPL
Group, Inc. (electric services), Global
Vacation Group (packaged vacations), HCR/Manor
Care, Inc. (health care), SAGA Systems, Inc.
(software company) and Northwest Airlines Inc.
Mr. Malek is a director or trustee of 29
investment companies for which Mitchell
Hutchins, PaineWebber or one of their
affiliates serves as investment adviser.
Carl W. Schafer; 64 Trustee Mr. Schafer is president of the Atlantic
66 Witherspoon Street, #1100 Foundation (charitable foundation supporting
Princeton, NJ 08542 mainly oceanographic exploration and research).
He is a director of Labor Ready, Inc.
(temporary employment), Roadway Express, Inc.
(trucking), The Guardian Group of Mutual Funds,
the Harding, Loevner Funds, E.I.I. Realty Trust
(investment company), Evans Systems, Inc.
(motor fuels, convenience store and diversified
company), Electronic Clearing House, Inc.
(financial transactions processing), Frontier
Oil Corporation and Nutraceutix, Inc.
(biotech-nology company). Prior to January
1993, he was chairman of the Investment
Advisory Committee of the Howard Hughes Medical
Institute. Mr. Schafer is a director or trustee
of 29 investment companies for which Mitchell
Hutchins, PaineWebber or one of their
affiliates serves as investment adviser.
16
<PAGE>
NAME AND ADDRESS; AGE POSITION WITH TRUST BUSINESS EXPERIENCE; OTHER DIRECTORSHIPS
--------------------- ------------------- ----------------------------------------
Brian M. Storms*+; 46 Trustee Mr. Storms is president and chief operating
officer of Mitchell Hutchins (since March
1999). Mr. Storms was president of Prudential
Investments (1996-1999). Prior to joining
Prudential, he was a managing director at
Fidelity Investments. Mr. Storms is a director
or trustee of 30 investment companies for which
Mitchell Hutchins, PaineWebber or one of their
affiliates serves as investment adviser.
T. Kirkham Barneby*; 54 Vice President Mr. Barneby is a managing director and chief
investment officer -- quantitative
investments of Mitchell Hutchins. Mr. Barneby
is a vice president of seven investment
companies for which Mitchell Hutchins,
PaineWebber or one of their affiliates serves
as investment adviser.
Thomas Disbrow ***; 34 Vice President and Mr. Disbrow is a first vice president and a
Assistant Treasurer senior manager of the mutual fund finance
department of Mitchell Hutchins. Prior to
November 1999, he was a vice president of
Zweig/Glaser Advisers. Mr. Disbrow is a vice
president and assistant treasurer of 30
investment companies for which Mitchell
Hutchins, PaineWebber or one of their
affiliates serves as investment adviser.
Amy R. Doberman**; 38 Vice President Ms. Doberman is a senior vice president and
general counsel of Mitchell Hutchins. From
December 1996 through July 2000, she was
general counsel of Aeltus Investment
Management, Inc. Prior to working at Aeltus,
Ms. Doberman was a Division of Investment
Management Assistant Chief Counsel at the
SEC. Ms. Doberman is a vice president of 29
investment companies and a vice president and
secretary of one investment company for which
Mitchell Hutchins, PaineWebber or one of their
affiliates serves as investment adviser.
John J. Lee***; 32 Vice President and Mr. Lee is a vice president and a manager of
Assistant Treasurer the mutual fund finance department of Mitchell
Hutchins. Prior to September 1997, he was an
audit manager in the financial services
practice of Ernst & Young LLP. Mr. Lee is a
vice president and assistant treasurer of 30
investment companies for which Mitchell
Hutchins, PaineWebber or one of their
affiliates serves as investment adviser.
17
<PAGE>
NAME AND ADDRESS; AGE POSITION WITH TRUST BUSINESS EXPERIENCE; OTHER DIRECTORSHIPS
--------------------- ------------------- ----------------------------------------
Kevin J. Mahoney***; 35 Vice President and Mr. Mahoney is a first vice president and a
Assistant Treasurer senior manager of the mutual fund finance
department of Mitchell Hutchins. From August
1996 through March 1999, he was the manager of
the mutual fund internal control group of
Salomon Smith Barney. Prior to August 1996, he
was an associate and assistant treasurer for
BlackRock Financial Management L.P. Mr. Mahoney
is a vice president and assistant treasurer of
30 investment companies for which Mitchell
Hutchins, PaineWebber or one of their
affiliates serves as investment adviser.
Ann E. Moran***; 43 Vice President and Ms. Moran is a vice president and a manager of
Assistant Treasurer the mutual fund finance department of Mitchell
Hutchins. Ms. Moran is a vice president and
assistant treasurer of 30 investment companies
for which Mitchell Hutchins, PaineWebber or one
of their affiliates serves as investment
adviser.
Dianne E. O'Donnell**; 48 Vice President and Ms. O'Donnell is a senior vice president and
Secretary deputy general counsel of Mitchell Hutchins.
Ms. O'Donnell is a vice president and secretary
of 29 investment companies and vice president
and assistant secretary of one investment
company for which Mitchell Hutchins,
PaineWebber or one of their affiliates serves
as investment adviser.
Paul H. Schubert***; 37 Vice President and Mr. Schubert is a senior vice president and the
Treasurer director of the mutual fund finance department
of Mitchell Hutchins. Mr. Schubert is a vice
president and treasurer of 30 investment
companies for which Mitchell Hutchins,
PaineWebber or one of their affiliates serves
as investment adviser.
Barney A. Taglialatela***; 39 Vice President and Mr. Taglialatela is a vice president and a
Assistant Treasurer manager of the mutual fund finance department
of Mitchell Hutchins. Mr. Taglialatela is a
vice president and assistant treasurer of 30
investment companies for which Mitchell
Hutchins, PaineWebber or one of their
affiliates serves as investment adviser.
Keith A. Weller**; 39 Vice President and Mr. Weller is a first vice president and
Assistant Secretary associate general counsel of Mitchell Hutchins.
Mr. Weller is a vice president and assistant
secretary of 30 investment companies for which
Mitchell Hutchins, PaineWebber or one of their
affiliates serves as investment adviser.
</TABLE>
__________________
* This person's business address is 51 West 52nd Street, New York, New York
10019-6114.
** This person's business address is 1285 Avenue of the Americas, New York,
New York 10019-6028.
18
<PAGE>
*** This person's business address is Newport Center III, 499 Washington
Blvd., 14th Floor, Jersey City, New Jersey 07310-1998.
+ Mrs. Alexander, Mr. Bewkes and Mr. Storms are "interested persons" of the
fund as defined in the Investment Company Act by virtue of their positions
with Mitchell Hutchins, PaineWebber, and/or PW Group.
The Trust pays trustees who are not "interested persons" of the Trust
$1,000 for each series and $150 per series for attending each board meeting and
each separate meeting of a board committee. The Trust has only one operating
series and thus pays each such trustee $1,000 annually, plus any additional
amounts due for board or committee meetings. Each chairman of the audit and
contract review committees of individual funds within the PaineWebber fund
complex receives additional compensation aggregating $15,000 annually from the
relevant funds. All trustees are reimbursed for any expenses incurred in
attending meetings. Trustees and officers own in the aggregate less than 1% the
outstanding shares of the fund. Because PaineWebber and Mitchell Hutchins
perform substantially all the services necessary for the operation of the Trust
and the fund, the Trust requires no employees. No officer, director or employee
of Mitchell Hutchins or PaineWebber presently receives any compensation from the
Trust for acting as a trustee or officer.
The table below includes certain information related to the
compensation of the Trust's current trustees who held office with the Trust or
with other PaineWebber funds during the periods indicated.
<TABLE>
COMPENSATION TABLE+
<CAPTION>
AGGREGATE TOTAL COMPENSATION
COMPENSATION FROM THE TRUST AND
NAME OF PERSON, POSITION FROM THE TRUST* THE FUND COMPLEX**
------------------------ --------------- ------------------
<S> <C> <C>
Richard Q. Armstrong,
Trustee................................ $ 1,780 $ 104,650
Richard R. Burt,
Trustee................................. 1,780 102,850
Meyer Feldberg,
Trustee................................. 2,440 143,650
George W. Gowen,
Trustee................................. 1,780 138,400
Frederic V. Malek,
Trustee................................. 1,780 104,650
Carl W. Schafer,
Trustee................................. 1,750 104,650
</TABLE>
--------------------
+ Only independent trustees are compensated by the PaineWebber identified
above; trustees who are "interested persons" as Investment Company Act, do
not receive compensation.
* Represents fees paid to each trustee indicated during the fiscal year ended
May 31, 2000.
** Represents total compensation paid during the calendar year ended December
31, 1999, by 31 investment companies (34 in the case of Messrs. Feldberg and
Gowen) for which Mitchell Hutchins, PaineWebber or one of their affiliates
served as investment adviser. No fund within the PaineWebber fund complex
has a bonus, pension, profit sharing or retirement plan.
PRINCIPAL HOLDERS AND MANAGEMENT OWNERSHIP OF SECURITIES. As of
August 31, 2000, directors and officers owned in the aggregate less than 1% of
the outstanding shares of any class of the fund.
As of August 31, 2000, the following shareholders were shown in the
fund's records as owning 5% or more of Class A shares of the fund:
19
<PAGE>
PERCENTAGE OF CLASS A SHARES
BENEFICIALLY OWNED AS OF
NAME AND ADDRESS* AUGUST 31, 2000
----------------- ---------------
Legacy Corporation #2
c/o Brown Bros. Harriman Trust 6.86%
Brett R. West
Pamela T. West JTWROS 7.06%
IBEW Local #5
Welfare Benefit Plan - "A" 5.14%
DTD 08/11/95
PaineWebber Cust
Howard C. Michaelsen Jr. 5.24%
PAC Foundation Inc.
Attn: William Ross III 6.42%
--------
* The shareholders listed may be contacted c/o Mitchell Hutchins
Asset Management Inc., 51 West 52nd Street, New York, NY 10019-6114.
INVESTMENT ADVISORY, ADMINISTRATION
AND DISTRIBUTION ARRANGEMENTS
INVESTMENT ADVISORY AND ADMINISTRATION ARRANGEMENTS. Mitchell
Hutchins acts as the investment adviser and administrator to the fund pursuant
to a contract ("Advisory Contract") with the Trust. Under the Advisory Contract,
the fund pays Mitchell Hutchins a fee, computed daily and paid monthly, at the
annual rate of 0.20% of average daily net assets.
During the fiscal years ended May 31, 2000, May 31, 1999 and the
fiscal period December 31, 1997 (commencement of operations) to May 31, 1998,
Mitchell Hutchins earned (or accrued) advisory fees in the amounts of $145,401,
$49,416 and $8,340, respectively (all of which was waived).
Under the terms of the Advisory Contract, the fund bears all expenses
incurred in its operation that are not specifically assumed by Mitchell
Hutchins. Expenses borne by the fund include the following: (1) the cost
(including brokerage commissions) of securities purchased or sold by the fund
and any losses incurred in connection therewith; (2) fees payable to and
expenses incurred on behalf of the fund by Mitchell Hutchins; (3) organizational
expenses; (4) filing fees and expenses relating to the registration and
qualification of the fund's shares under federal and state securities laws and
maintenance of such registrations and qualifications; (5) fees and salaries
payable to trustees and officers who are not interested persons (as defined in
the Investment Company Act) of the Trust or Mitchell Hutchins; (6) all expenses
incurred in connection with the trustees' services, including travel expenses;
(7) taxes (including any income or franchise taxes) and governmental fees; (8)
costs of any liability, uncollectible items of deposit and other insurance or
fidelity bonds; (9) any costs, expenses or losses arising out of a liability of
or claim for damages or other relief asserted against the Trust or fund for
violation of any law; (10) legal, accounting and auditing expenses, including
legal fees of special counsel for the independent trustees; (11) charges of
custodians, transfer agents and other agents; (12) costs of preparing share
certificates; (13) expenses of setting in type and printing prospectuses,
statements of additional information and supplements thereto, reports and proxy
materials for existing shareholders, and costs of mailing such materials to
shareholders; (14) any extraordinary expenses (including fees and disbursements
of counsel) incurred by the fund; (15) fees, voluntary assessments and other
expenses incurred in connection with membership in investment company
organizations; (16) costs of tabulating proxies and costs of meetings of
shareholders, the board and any committees thereof; (17) the cost of investment
company literature and other publications provided to trustees and officers;
(18) costs of mailing, stationery and communications equipment; (19) expenses
incident to any dividend, withdrawal or redemption options; (20) charges and
20
<PAGE>
expenses of any outside pricing service used to value portfolio securities; (21)
interest on borrowings of the fund; and (22) fees or expenses related to license
agreements with respect to securities indices.
Under the Advisory Contract, Mitchell Hutchins will not be liable for
any error of judgment or mistake of law or for any loss suffered by the fund in
connection with the performance of the Advisory Contract, except a loss
resulting from willful misfeasance, bad faith or gross negligence on the part of
Mitchell Hutchins in the performance of its duties or from reckless disregard of
its duties and obligations thereunder. The Advisory Contract terminates
automatically upon assignment and is terminable at any time without penalty by
the board or by vote of the holders of a majority of the fund's outstanding
voting securities on 60 days' written notice to Mitchell Hutchins, or by
Mitchell Hutchins on 60 days' written notice to the fund.
SECURITIES LENDING. During the fiscal year ended May 31, 2000, the
fund paid (or accrued) $1,500 to PaineWebber for its services as securities
lending agent. During the fiscal year ended May 31, 1999 and the fiscal period
December 31, 1997 (commencement of operations) to May 31, 1998, the fund paid
(or accrued) no fees to PaineWebber for its services as securities lending agent
because the fund did not engage in any securities lending activities.
NET ASSETS. The following table shows the approximate net assets as
of August 31, 2000, sorted by category of investment objective, of the
investment companies as to which Mitchell Hutchins serves as adviser or
sub-adviser. An investment company may fall into more than one of the categories
below.
NET ASSETS
INVESTMENT CATEGORY $ MIL
------------------- -----
Domestic (excluding Money Market)............... $9,488.0
Global ....................................... 4,859.5
Equity/Balanced................................. 10,093.1
Fixed Income (excluding Money Market)........... 4,254.4
Taxable Fixed Income...................... 2,833.2
Tax-Free Fixed Income..................... 1,421.2
Money Market Funds.............................. 43,370.7
PERSONAL TRADING POLICIES. The fund, its investment adviser and its
principal underwriter each have adopted a code of ethics under rule 17j-1 of the
Investment Company Act, which permits personnel covered by the rule to invest in
securities that may be purchased or held by the fund but prohibits fraudulent,
deceptive or manipulative conduct in connection with that personal investing.
DISTRIBUTION ARRANGEMENTS. Mitchell Hutchins acts as the distributor
of each class of shares of the fund under separate distribution contracts with
the Trust ("Distribution Contracts") that require Mitchell Hutchins to use its
best efforts, consistent with its other businesses, to sell shares of the fund.
Shares of the fund are offered continuously. Under separate dealer agreements
between Mitchell Hutchins and PaineWebber relating to each class of shares of
the fund (collectively, "PW Dealer Agreements"), PaineWebber and its
correspondent firms sell the fund's shares. Mitchell Hutchins is located at 51
West 52nd Street, New York, New York 10019-6114 and PaineWebber is located at
1285 Avenue of the Americas, New York, New York 10019-6028.
Under separate plans of distribution pertaining to the Class A shares
and Class C shares adopted by the Trust in the manner prescribed under Rule
12b-1 under the Investment Company Act ("Class A Plan" and "Class C Plan,"
collectively, "Plans"), the fund pays Mitchell Hutchins a service fee, accrued
daily and payable monthly, at the annual rate of 0.25% of the average daily net
assets of Class A and Class C shares of the fund. Under the Class C Plan, the
fund pays Mitchell Hutchins a distribution fee, accrued daily and payable
monthly at the annual rate of 0.75% of the average daily net assets of the Class
C shares. The fund pays Mitchell Hutchins no distribution fees with respect to
its Class A shares. There is no distribution plan with respect to Class Y shares
and the fund pays no service or distribution fees with respect to its Class Y
shares.
21
<PAGE>
Mitchell Hutchins uses the service fees under the Plans for Class A
and C shares primarily to pay PaineWebber for shareholder servicing, currently
at the annual rate of 0.25% of the aggregate investment amounts maintained in
the fund by PaineWebber clients. PaineWebber then compensates its Financial
Advisors for shareholder servicing that they perform and offsets its own
expenses in servicing and maintaining shareholder accounts.
Mitchell Hutchins uses the distribution fees under the Class C Plan
to:
o Offset the commissions it pays to PaineWebber for selling each
fund's Class C shares.
o Offset the fund's marketing costs attributable to such class,
such as preparation, printing and distribution of sales
literature, advertising and prospectuses to prospective
investors and related overhead expenses, such as employee
salaries and bonuses.
PaineWebber compensates Financial Advisors when Class C shares are
bought by investors, as well as on an ongoing basis. Mitchell Hutchins receives
no special compensation from any of the funds or investors at the time C shares
are bought.
Mitchell Hutchins receives the proceeds of the initial sales charge
paid when Class A shares are bought and of the contingent deferred sales charge
paid upon sales of shares. These proceeds may be used to cover distribution
expenses.
The Plans and the related Distribution Contracts for Class A and
Class C shares specify that the fund must pay service and distribution fees to
Mitchell Hutchins for its service- and distribution-related activities, not as
reimbursement for specific expenses incurred. Therefore, even if Mitchell
Hutchins' expenses exceed the service or distribution fees it receives, the fund
will not be obligated to pay more than those fees. On the other hand, if
Mitchell Hutchins' expenses are less than such fees, it will retain its full
fees and realize a profit. Expenses in excess of service and distribution fees
received or accrued through the termination date of a Plan will be Mitchell
Hutchins' sole responsibility and not that of the fund. Annually, the board
reviews the Plan and Mitchell Hutchins' corresponding expenses for each class
separately from the Plan and expenses of the other class.
Among other things, each Plan provides that (1) Mitchell Hutchins
will submit to the board at least quarterly, and the trustees will review,
reports regarding all amounts expended under the Plan and the purposes for which
such expenditures were made, (2) the Plan will continue in effect only so long
as it is approved at least annually, and any material amendment thereto is
approved, by the board, including those trustees who are not "interested
persons" of the Trust and who have no direct or indirect financial interest in
the operation of the Plan or any agreement related to the Plan, acting in person
at a meeting called for that purpose, (3) payments by the fund under the Plan
shall not be materially increased without the affirmative vote of the holders of
a majority of the outstanding shares of the relevant class of the fund and (4)
while the Plan remains in effect, the selection and nomination of trustees who
are not "interested persons" of the Trust shall be committed to the discretion
of the trustees who are not "interested persons" of the Trust.
In reporting amounts expended under the Plan to the board, Mitchell
Hutchins allocates expenses attributable to the sale of each class of the fund's
shares to such class based on the ratio of sales of shares of such class to the
sales of all classes of shares. The fees paid by one class of the fund's shares
will not be used to subsidize the sale of another class of the fund's shares.
For the fiscal year ended May 31, 2000, the fund paid (or accrued) to
Mitchell Hutchins service fees of $65,635 under the Class A Plan and service and
distribution fees of $350,602 under the Class C Plan.
Mitchell Hutchins estimates that it and its parent corporation,
PaineWebber, incurred the following shareholder service-related and
distribution-related expenses with respect to the fund during the fiscal year
ended May 31, 2000:
22
<PAGE>
CLASS A
Marketing and advertising............................... $ 94,844
Amortization of commissions............................. --
Printing of prospectuses and SAIs....................... 1,489
Branch network costs allocated and interest expense..... 28,213
Service fees paid to PaineWebber Financial Advisors..... 25,395
CLASS C
Marketing and advertising............................... 125,840
Amortization of commissions............................. 101,761
Printing of prospectuses and SAIs....................... 1,977
Branch network costs allocated and interest expense..... 38,824
Service fees paid to PaineWebber Financial Advisors..... 33,921
"Marketing and advertising" includes various internal costs allocated
by Mitchell Hutchins to its efforts at distributing the fund's shares. These
internal costs encompass office rent, salaries and other overhead expenses of
various departments and areas of operations of Mitchell Hutchins. "Branch
network costs allocated and interest expense" consist of an allocated portion of
the expenses of various PaineWebber departments involved in the distribution of
the fund's shares, including the PaineWebber retail branch system.
In approving the fund's overall Flexible PricingSM system of
distribution, the board considered several factors, including that
implementation of Flexible Pricing would (1) enable investors to choose the
purchasing option best suited to their individual situation, thereby encouraging
current shareholders to make additional investments in the fund and attracting
new investors and assets to the fund to the benefit of the fund and its
shareholders, (2) facilitate distribution of the fund's shares and (3) maintain
the competitive position of the fund in relation to other funds that have
implemented or are seeking to implement similar distribution arrangements.
In approving the Class A Plan, the board considered all the features
of the distribution system, including (1) the conditions under which initial
sales charges would be imposed and the amount of such charges, (2) Mitchell
Hutchins' belief that the initial sales charge combined with a service fee would
be attractive to PaineWebber Financial Advisors and correspondent firms,
resulting in greater growth of the fund than might otherwise be the case, (3)
the advantages to the shareholders of economies of scale resulting from growth
in the fund's assets and potential continued growth, (4) the services provided
to the fund and its shareholders by Mitchell Hutchins, (5) the services provided
by PaineWebber pursuant to the PW Dealer Agreement with Mitchell Hutchins and
(6) Mitchell Hutchins' shareholder service-related expenses and costs.
In approving the Class C Plan, the board considered all the features
of the distribution system, including (1) the advantage to investors in having
no initial sales charges deducted from the fund purchase payments and instead
having the entire amount of their purchase payments immediately invested in fund
shares, (2) the advantage to investors in being free from contingent deferred
sales charges upon redemption for shares held more than one year and paying for
distribution on an ongoing basis, (3) Mitchell Hutchins' belief that the ability
of PaineWebber Financial Advisors and correspondent firms to receive sales
compensation for their sales of Class C shares on an ongoing basis, along with
continuing service fees, while their customers invest their entire purchase
payments immediately in Class C shares and generally do not face contingent
deferred sales charges, would prove attractive to the Financial Advisors and
correspondent firms, resulting in greater growth to the fund than might
otherwise be the case, (4) the advantage to the shareholders of economies of
scale resulting from growth in the fund's assets and potential continued growth,
(5) the services provided to the fund and its shareholders by Mitchell Hutchins,
(6) the services provided by PaineWebber pursuant to the PW Dealer Agreement
with Mitchell Hutchins and (7) Mitchell Hutchins' shareholder service- and
distribution-related expenses and costs. The board members also recognized that
Mitchell Hutchins' willingness to compensate PaineWebber and its Financial
Advisors without the concomitant receipt by Mitchell Hutchins of initial sales
charges or contingent deferred sales charges upon redemption, was conditioned
upon its expectation of being compensated under the Class C Plan.
With respect to each Plan, the board considered all compensation that
Mitchell Hutchins would receive under the Plan and the Distribution Contract,
including service fees and, as applicable, initial sales charges, distribution
23
<PAGE>
fees and contingent deferred sales charges. The board also considered the
benefits that would accrue to Mitchell Hutchins under the Plan in that Mitchell
Hutchins would receive service, distribution (where applicable) and advisory
fees that are calculated based upon a percentage of the average net assets of
the fund and would increase if the Plan were successful and the fund attained
and maintained significant asset levels.
Under the Distribution Contract between the fund and Mitchell
Hutchins for the Class A shares for the periods set forth below, Mitchell
Hutchins earned the following approximate amounts of sales charges and retained
the following approximate amounts, net of concessions to PaineWebber as dealer.
<TABLE>
FISCAL YEARS ENDED
------------------ FISCAL PERIOD ENDED
MAY 31, 2000 MAY 31, 1999 MAY 31, 1998*
------------ ------------ ------------
<CAPTION>
<S> <C> <C> <C>
Earned........................ $ 99,638 $ 75,471 $ 0
Retained...................... 61,097 47,086 0
</TABLE>
------------------
* The period December 31, 1997 (commencement of operations) to May
31, 1998.
Mitchell Hutchins earned and retained the following contingent
deferred sales charges paid upon certain redemptions of fund shares for the
fiscal year ended May 31, 2000:
Class A.......................... $ 0
Class C.......................... 47,500
PORTFOLIO TRANSACTIONS
Subject to policies established by the board, Mitchell Hutchins is
responsible for the execution of the fund's portfolio transactions and the
allocation of brokerage transactions. In executing portfolio transactions,
Mitchell Hutchins generally seeks to obtain the best net results for the fund,
taking into account such factors as the price (including the applicable
brokerage commission or dealer spread), size of order, difficulty of execution
and operational facilities of the firm involved. While Mitchell Hutchins
generally seeks reasonably competitive commission rates, payment of the lowest
commission is not necessarily consistent with obtaining the best net results.
Prices paid to dealers in principal transactions, through which some equity
securities and most debt securities are traded, generally include a "spread,"
which is the difference between the prices at which the dealer is willing to
purchase and sell a specific security at the time. The fund may invest in
securities traded in the over-the-counter market and will engage primarily in
transactions directly with the dealers who make markets in such securities,
unless a better price or execution could be obtained by using a broker. For the
fiscal years ended May 31, 2000, May 31, 1999 and the period December 31, 1997
(commencement of operations) to May 31, 1998, the fund paid $18,065, $17,687 and
$4,199 in brokerage commissions, respectively.
The fund has no obligation to deal with any broker or group of
brokers in the execution of portfolio transactions. The fund contemplates that,
consistent with the policy of obtaining the best net results, brokerage
transactions may be conducted through PaineWebber. The board has adopted
procedures in conformity with Rule 17e-1 under the Investment Company Act to
ensure that all brokerage commissions paid to PaineWebber are reasonable and
fair. Specific provisions in the Advisory Contract authorize PaineWebber to
effect portfolio transactions for the fund on a national securities exchange of
which it is a member and to retain compensation in connection with such
transactions. Any such transactions will be effected and related compensation
paid only in accordance with applicable SEC regulations. For the fiscal years
ended May 31, 2000, May 31, 1999 and the period December 31, 1997 (commencement
of operations) to May 31, 1998, the fund paid no brokerage commissions to
PaineWebber or any other affiliate of Mitchell Hutchins.
Transactions in futures contracts are executed through futures
commission merchants ("FCMs"), who receive brokerage commissions for their
services. The fund's procedures in selecting FCMs to execute its transactions in
futures contracts, including procedures permitting the use of PaineWebber, are
similar to those in effect with respect to brokerage transactions in securities.
24
<PAGE>
In selecting brokers, Mitchell Hutchins will consider the full range
and quality of a broker's services. Consistent with the interests of the fund
and subject to the review of the board, Mitchell Hutchins may cause the fund to
purchase and sell portfolio securities through brokers who provide Mitchell
Hutchins with brokerage or research services. The fund may pay those brokers a
higher commission than may be charged by other brokers, provided that Mitchell
Hutchins determines in good faith that such commission is reasonable in terms
either of that particular transaction or of the overall responsibility of
Mitchell Hutchins to the fund and its other clients.
Research services obtained from brokers may include written reports,
pricing and appraisal services, analysis of issues raised in proxy statements,
educational seminar, subscriptions, portfolio attribution and monitoring
services, and computer hardware, software and access charges which are directly
related to investment research. Research services may be received in the form of
written reports, online services, telephone contacts and personal meetings with
security analysts, economists, corporate and industry spokespersons and
government representatives.
For the fiscal year ended May 31, 2000, Mitchell Hutchins directed
$352,682 in portfolio transactions to brokers chosen because they provided
research services, for which the fund paid $406 in commissions.
For purchases or sales with broker-dealer firms which act as
principal, Mitchell Hutchins seeks best execution. Although Mitchell Hutchins
may receive certain research or execution services in connection with these
transactions, it will not purchase securities at a higher price or sell
securities at a lower price than would otherwise be paid if no weight were
attributed to the services provided by the executing dealer. Mitchell Hutchins
may engage in agency transactions in over-the-counter equity and debt securities
in return for research and execution services. These transactions are entered
into only pursuant to procedures that are designed to ensure that the
transaction (including commissions) is at least as favorable as it would have
been if effected directly with a market-maker that did not provide research or
execution services.
Research services and information received from brokers or dealers
are supplemental to Mitchell Hutchins' own research efforts and, when utilized,
are subject to internal analysis before being incorporated into their own
investment processes. Information and research services furnished by brokers or
dealers through which or with which the fund effects securities transactions may
be used by Mitchell Hutchins in advising other funds or accounts and,
conversely, research services furnished to Mitchell Hutchins by brokers or
dealers in connection with other funds or accounts that it advises may be used
in advising the fund.
Investment decisions for the fund and for other investment accounts
managed by Mitchell Hutchins are made independently of each other in light of
differing considerations for the various accounts. However, the same investment
decision may occasionally be made for the fund and one or more accounts. In
those cases, simultaneous transactions are inevitable. Purchases or sales are
then averaged as to price and allocated between the fund and the other
account(s) as to amount in a manner deemed equitable to the fund and the other
account(s). While in some cases this practice could have a detrimental effect
upon the price or value of the security as far as the fund is concerned, or upon
its ability to complete its entire order, in other cases it is believed that
simultaneous transactions and the ability to participate in volume transactions
will benefit the fund.
The fund will not purchase securities that are offered in
underwritings in which PaineWebber is a member of the underwriting or selling
group, except pursuant to procedures adopted by the board pursuant to Rule 10f-3
under the Investment Company Act. Among other things, these procedures require
that the spread or commission paid in connection with such a purchase be
reasonable and fair, the purchase be at not more than the public offering price
prior to the end of the first business day after the date of the public offering
and that PaineWebber or any affiliate thereof not participate in or benefit from
the sale to the fund.
As of May 31, 2000, the fund owned securities issued by the following
companies which are regular broker-dealers for the fund:
25
<PAGE>
ISSUER TYPE OF SECURITY VALUE
------ ---------------- -----
Morgan Stanley Dean Witter & Co. Common stock $ 647,437
Lehman Brothers Holdings Inc. Common stock 77,188
Bear Stearns Common stock 39,375
PORTFOLIO TURNOVER. The fund's annual portfolio turnover rate may
vary greatly from year to year, but will not be a limiting factor when
management deems portfolio changes appropriate. The portfolio turnover rate is
calculated by dividing the lesser of the fund's annual sales or purchases of
portfolio securities (exclusive of purchases or sales of securities whose
maturities at the time of acquisition were one year or less) by the monthly
average value of securities in the portfolio during the year. For the fiscal
years ended May 31, 2000 and May 31, 1999, the fund's portfolio turnover rates
were 5% and 62%, respectively.
REDUCED SALES CHARGES, ADDITIONAL EXCHANGE AND REDEMPTION
INFORMATION AND OTHER SERVICES
WAIVERS OF SALES CHARGES/CONTINGENT DEFERRED SALES CHARGES--CLASS A
SHARES. The following additional sales charge waivers are available for Class A
shares if you:
o Purchase shares through a variable annuity offered only to
qualified plans. For investments made pursuant to this waiver,
Mitchell Hutchins may make payments out of its own resources to
PaineWebber and to the variable annuity's sponsor, adviser or
distributor in a total amount not to exceed l% of the amount
invested;
o Acquire shares through an investment program that is not
sponsored by PaineWebber or its affiliates and that charges
participants a fee for program services, provided that the
program sponsor has entered into a written agreement with
PaineWebber permitting the sale of shares at net asset value to
that program. For investments made pursuant to this waiver,
Mitchell Hutchins may make a payment to PaineWebber out of its
own resources in an amount not to exceed 1% of the amount
invested. For subsequent investments or exchanges made to
implement a rebalancing feature of such an investment program,
the minimum subsequent investment requirement is also waived;
o Acquire shares in connection with a reorganization pursuant to
which the fund acquires substantially all of the assets and
liabilities of another fund in exchange solely for shares of the
acquiring fund; or
o Acquire shares in connection with the disposition of proceeds
from the sale of shares of Managed High Yield Plus Fund Inc.
that were acquired during the fund's initial public offering of
shares and that meet certain other conditions described in its
prospectus
In addition, reduced sales charges on Class A shares are available
through the combined purchase plan or through rights of accumulation described
below. Class A share purchases of $1 million or more are not subject to an
initial sales charge; however, if a shareholder sells these shares within one
year after purchase, a contingent deferred sales charge of 1% of the offering
price or the net asset value of the shares at the time of sale by the
shareholder, whichever is less, is imposed.
COMBINED PURCHASE PRIVILEGE--CLASS A SHARES. Investors and eligible
groups of related fund investors may combine purchases of Class A shares of the
fund with concurrent purchases of Class A shares of any other PaineWebber mutual
fund and thus take advantage of the reduced sales charges indicated in the table
of sales charges for Class A shares in the Prospectus. The sales charge payable
on the purchase of Class A shares of the fund and Class A shares of such other
funds will be at the rates applicable to the total amount of the combined
concurrent purchases.
An "eligible group of related fund investors" can consist of any
combination of the following:
26
<PAGE>
(a) an individual, that individual's spouse, parents and children;
(b) an individual and his or her Individual Retirement Account
("IRA");
(c) an individual (or eligible group of individuals) and any company
controlled by the individual(s) (a person, entity or group that holds 25% or
more of the outstanding voting securities of a corporation will be deemed to
control the corporation, and a partnership will be deemed to be controlled by
each of its general partners);
(d) an individual (or eligible group of individuals) and one or more
employee benefit plans of a company controlled by individual(s);
(e) an individual (or eligible group of individuals) and a trust
created by the individual(s), the beneficiaries of which are the individual
and/or the individual's spouse, parents or children;
(f) an individual and a Uniform Transfers to Minors Act/Uniform Gifts
to Minors Act account created by the individual or the individual's spouse;
(g) an employer (or group of related employers) and one or more
qualified retirement plans of such employer or employers (an employer
controlling, controlled by or under common control with another employer is
deemed related to that other employer); or
(h) individual accounts related together under one registered
investment adviser having full discretion and control over the accounts. The
registered investment adviser must communicate at least quarterly through a
newsletter or investment update establishing a relationship with all of the
accounts.
RIGHTS OF ACCUMULATION--CLASS A SHARES. Reduced sales charges are
available through a right of accumulation, under which investors and eligible
groups of related fund investors (as defined above) are permitted to purchase
Class A shares among related accounts at the offering price applicable to the
total of (1) the dollar amount then being purchased plus (2) an amount equal to
the then-current net asset value of the purchaser's combined holdings of Class A
fund shares and Class A shares of any other PaineWebber mutual fund. The
purchaser must provide sufficient information to permit confirmation of his or
her holdings, and the acceptance of the purchase order is subject to such
confirmation. The right of accumulation may be amended or terminated at any
time.
REINSTATEMENT PRIVILEGE--CLASS A SHARES. Shareholders who have
redeemed Class A shares may reinstate their account without a sales charge by
notifying the transfer agent of such desire and forwarding a check for the
amount to be purchased within 365 days after the date of redemption. The
reinstatement will be made at the net asset value per share next computed after
the notice of reinstatement and check are received. The amount of a purchase
under this reinstatement privilege cannot exceed the amount of the redemption
proceeds. Gain on a redemption will be taxable regardless of whether the
reinstatement privilege is exercised, although a loss arising out of a
redemption will not be deductible to the extent the reinstatement privilege is
exercised within 30 days after redemption, in which event an adjustment will be
made to the shareholder's tax basis for shares acquired pursuant to the
reinstatement privilege. Gain or loss on a redemption also will be readjusted
for federal income tax purposes by the amount of any sales charge paid on Class
A shares, under the circumstances and to the extent described in "Taxes --
Special Rule for Class A Shareholders," below.
PURCHASES OF CLASS Y SHARES THROUGH THE PACESM MULTI ADVISOR PROGRAM.
An investor who participates in the PACESM Multi Advisor Program is eligible to
purchase Class Y shares. The PACESM Multi Advisor Program is an advisory program
sponsored by PaineWebber that provides comprehensive investment services,
including investor profiling, a personalized asset allocation strategy using an
appropriate combination of funds, and a quarterly investment performance review.
Participation in the PACESM Multi Advisor Program is subject to payment of an
advisory fee at the effective maximum annual rate of 1.5% of assets. Employees
of PaineWebber and its affiliates are entitled to a waiver of this fee. Please
contact your PaineWebber Financial Advisor or PaineWebber's correspondent firms
for more information concerning mutual funds that are available through the
PACESM Multi Advisor Program.
27
<PAGE>
PURCHASES OF CLASS A SHARES THROUGH THE PAINEWEBBER INSIGHTONESM
PROGRAM. Investors who purchase shares through the PaineWebber InsightOneSM
Program are eligible to purchase Class A shares without a sales load. The
PaineWebber InsightOneSM Program offers a non-discretionary brokerage account to
investors for an asset-based fee at an annual rate of up to 1.50% of the assets
in the account. Account holders may purchase or sell certain investment products
without paying commissions or other markups/markdowns.
ADDITIONAL EXCHANGE AND REDEMPTION INFORMATION. As discussed in the
Prospectus, eligible shares of the fund may be exchanged for shares of the
corresponding class of most other PaineWebber mutual funds. Class Y shares are
not eligible for exchange. Shareholders will receive at least 60 days' notice of
any termination or material modification of the exchange offer, except no notice
need be given if, under extraordinary circumstances, either redemptions are
suspended under the circumstances described below or the fund temporarily delays
or ceases the sales of its shares because it is unable to invest amounts
effectively in accordance with the fund's investment objective, policies and
restrictions.
If conditions exist that make cash payments undesirable, the fund
reserves the right to honor any request for redemption by making payment in
whole or in part in securities chosen by the fund and valued in the same way as
they would be valued for purposes of computing the fund's net asset value. Any
such redemption in kind will be made with readily marketable securities, to the
extent available. If payment is made in securities, a shareholder may incur
brokerage expenses in converting these securities into cash.
The fund may suspend redemption privileges or postpone the date of
payment during any period (1) when the New York Stock Exchange is closed or
trading on the New York Stock Exchange is restricted as determined by the SEC,
(2) when an emergency exists, as defined by the SEC, that makes it not
reasonably practicable for the fund to dispose of securities owned by it or
fairly to determine the value of its assets or (3) as the SEC may otherwise
permit. The redemption price may be more or less than the shareholder's cost,
depending on the market value of the fund's portfolio at the time.
SERVICE ORGANIZATIONS. The fund may authorize service organizations,
and their agents, to accept on its behalf purchase and redemption orders that
are in "good form" in accordance with the policies of those service
organizations. The fund will be deemed to have received these purchase and
redemption orders when a service organization or its agent accepts them. Like
all customer orders, these orders will be priced based on the fund's net asset
value next computed after receipt of the order by the service organizations or
their agents. Service organizations may include retirement plan service
providers who aggregate purchase and redemption instructions received from
numerous retirement plans or plan participants.
AUTOMATIC INVESTMENT PLAN. PaineWebber offers an automatic investment
plan with a minimum initial investment of $1,000 through which the fund will
deduct $50 or more on a monthly, quarterly, semi-annual or annual basis from the
investor's bank account to invest directly in the fund. Participation in the
Automatic Investment Plan enables an investor to use the technique of "dollar
cost averaging." When an investor invests the same dollar amount each month
under the Plan, the investor will purchase more shares when the fund's net asset
value per share is low and fewer shares when the net asset value per share is
high. Using this technique, an investor's average purchase price per share over
any given period will be lower than if the investor purchased a fixed number of
shares on a monthly basis during the period. Of course, investing through the
automatic investment plan does not assure a profit or protect against loss in
declining markets. Additionally, because the automatic investment plan involves
continuous investing regardless of price levels, an investor should consider his
or her financial ability to continue purchases through periods of low price
levels. An investor should also consider whether a large, single investment
would qualify for sales load reductions.
SYSTEMATIC WITHDRAWAL PLAN. The systematic withdrawal plan allows
investors to set up monthly, quarterly (March, June, September and December),
semi-annual (June and December) or annual (December) withdrawals from their
PaineWebber mutual fund accounts. Minimum balances and withdrawals vary
according to the class of shares:
o Class A and Class C shares. Minimum value of fund shares is
$5,000; minimum withdrawals of $100.
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<PAGE>
Withdrawals under the systematic withdrawal plan will not be subject
to a contingent deferred sales charge if the investor withdraws no more than 12%
of the value of the fund account when the investor signed up for the Plan during
the first year under the Plan. Shareholders who elect to receive dividends or
other distributions in cash may not participate in this plan.
An investor's participation in the systematic withdrawal plan will
terminate automatically if the "Initial Account Balance" (a term that means the
value of the fund account at the time the investor elects to participate in the
systematic withdrawal plan) less aggregate redemptions made other than pursuant
to the systematic withdrawal plan is less than $5,000 for Class A and Class C
shareholders. Purchases of additional shares of the fund concurrent with
withdrawals are ordinarily disadvantageous to shareholders because of tax
liabilities. On or about the 20th of each month for monthly, quarterly,
semi-annual or annual plans, PaineWebber will arrange for redemption by the fund
of sufficient fund shares to provide the withdrawal payments specified by
participants in the fund's systematic withdrawal plan. The payments generally
are mailed approximately five Business Days (defined under "Valuation of
Shares") after the redemption date. Withdrawal payments should not be considered
dividends, but sale proceeds, with the tax consequences described under
"Dividends and Taxes" in the Prospectus. If periodic withdrawals continually
exceed reinvested dividends and other distributions, a shareholder's investment
may be correspondingly reduced. A shareholder may change the amount of the
systematic withdrawal or terminate participation in the systematic withdrawal
plan at any time without charge or penalty by written instructions with
signatures guaranteed to PaineWebber or PFPC. Instructions to participate in the
plan, change the withdrawal amount or terminate participation in the plan will
not be effective until five days after written instructions with signatures
guaranteed are received by PFPC. Shareholders may request the forms needed to
establish a systematic withdrawal plan from their PaineWebber Financial
Advisors, correspondent firms or PFPC at 1-800-647-1568.
INDIVIDUAL RETIREMENT ACCOUNTS. Self-directed IRAs are available
through PaineWebber in which purchases of PaineWebber mutual funds and other
investments may be made. Investors considering establishing an IRA should review
applicable tax laws and should consult their tax advisers.
TRANSFER OF ACCOUNTS. If investors holding shares of the fund in a
PaineWebber brokerage account transfer their brokerage accounts to another firm,
the fund shares will be moved to an account with PFPC. However, if the other
firm has entered into a selected dealer agreement with Mitchell Hutchins
relating to the fund, the shareholder may be able to hold fund shares in an
account with the other firm.
PAINEWEBBER RMA RESOURCE ACCUMULATION PLANSM
PAINEWEBBER RESOURCE MANAGEMENT ACCOUNT(R) (RMA(R))
Shares of PaineWebber mutual funds, including the fund (each a "PW
Fund" and, collectively, the "PW funds") are available for purchase through the
RMA Resource Accumulation Plan ("Plan") by customers of PaineWebber and its
correspondent firms who maintain Resource Management Accounts ("RMA
accountholders"). The Plan allows an RMA accountholder continually to invest in
one or more of the PW Funds at regular intervals, with payment for shares
purchased automatically deducted from the client's RMA account. The client may
elect to invest at monthly or quarterly intervals and may elect either to invest
a fixed dollar amount (minimum $100 per period) or to purchase a fixed number of
shares. A client can elect to have Plan purchases executed on the first or
fifteenth day of the month. Settlement occurs three Business Days (defined under
"Valuation of Shares") after the trade date, and the purchase price of the
shares is withdrawn from the investor's RMA account on the settlement date from
the following sources and in the following order: uninvested cash balances,
balances in RMA money market funds, or margin borrowing power, if applicable to
the account.
To participate in the Plan, an investor must be an RMA accountholder,
must have made an initial purchase of the shares of each PW Fund selected for
investment under the Plan (meeting applicable minimum investment requirements)
and must complete and submit the RMA Resource Accumulation Plan Client Agreement
and Instruction Form available from PaineWebber. The investor must have received
a current prospectus for each PW Fund selected in connection with enrolling in
the Plan. Information about mutual fund positions and outstanding instructions
under the Plan are noted on the RMA accountholder's account statement.
Instructions under the Plan may be changed at any time, but may take up to two
weeks to become effective.
29
<PAGE>
The terms of the Plan, or an RMA accountholder's participation in the
Plan, may be modified or terminated at any time. It is anticipated that, in the
future, shares of other PW Funds and/or mutual funds other than the PW Funds may
be offered through the Plan.
PERIODIC INVESTING AND DOLLAR COST AVERAGING. Periodic investing in
the PW Funds or other mutual funds, whether through the Plan or otherwise, helps
investors establish and maintain a disciplined approach to accumulating assets
over time, deemphasizing the importance of timing the market's highs and lows.
Periodic investing also permits an investor to take advantage of "dollar cost
averaging." By investing a fixed amount in mutual fund shares at established
intervals, an investor purchases more shares when the price is lower and fewer
shares when the price is higher, thereby increasing his or her earning
potential. Of course, dollar cost averaging does not guarantee a profit or
protect against a loss in a declining market, and an investor should consider
his or her financial ability to continue investing through periods of low share
prices. However, over time, dollar cost averaging generally results in a lower
average original investment cost than if an investor invested a larger dollar
amount in a mutual fund at one time. In deciding whether to use dollar cost
averaging, an investor should also consider whether a large, single investment
would qualify for sales load reductions.
PAINEWEBBER'S RESOURCE MANAGEMENT ACCOUNT. In order to enroll in the
Plan, an investor must have opened an RMA account with PaineWebber or one of its
correspondent firms. The RMA account is PaineWebber's comprehensive asset
management account and offers investors a number of features, including the
following:
o monthly Premier account statements that itemize all account
activity, including investment transactions, checking activity
and Platinum MasterCard(R) transactions during the period, and
provide unrealized and realized gain and loss estimates for most
securities held in the account;
o comprehensive year-end summary statements that provide
information on account activity for use in tax planning and tax
return preparation;
o automatic "sweep" of uninvested cash into the RMA
accountholder's choice of one of the six RMA money market funds
-- RMA Money Market Portfolio, RMA U.S. Government Portfolio,
RMA Tax-Free Fund, RMA California Municipal Money Fund, RMA New
Jersey Municipal Money Fund and RMA New York Municipal Money
Fund. AN INVESTMENT IN A MONEY MARKET FUND IS NOT INSURED OR
GUARANTEED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION OR ANY
OTHER GOVERNMENT AGENCY. ALTHOUGH A MONEY MARKET FUND SEEKS TO
PRESERVE THE VALUE OF YOUR INVESTMENT AT $1.00 PER SHARE, IT IS
POSSIBLE TO LOSE MONEY BY INVESTING IN A MONEY MARKET FUND.
o check writing, with no per-check usage charge, no minimum amount
on checks and no maximum number of checks that can be written.
RMA accountholders can code their checks to classify
expenditures. All canceled checks are returned each month;
o Platinum MasterCard(R), with or without a line of credit, which
provides RMA accountholders with direct access to their accounts
and can be used with automatic teller machines worldwide.
Purchases on the Platinum MasterCard(R) are debited to the RMA
account once monthly, permitting accountholders to remain
invested for a longer period of time;
o unlimited electronic funds transfers and bill payment service
for an additional fee;
o 24-hour access to account information through toll-free numbers,
and more detailed personal assistance during business hours from
the RMA Service Center;
o expanded account protection to the net equity securities balance
in the event of the liquidation of PaineWebber. This protection
does not apply to shares of the PW Funds that are held directly
at PFPC and not through PaineWebber; and
o automatic direct deposit of checks into your RMA account and
automatic withdrawals from the account.
30
<PAGE>
The annual account fee for an RMA account is $85, which includes the
Platinum MasterCard(R), with an additional fee of $40 if the investor selects an
optional line of credit with the Platinum MasterCard(R).
VALUATION OF SHARES
The fund determines its net asset value per share separately for each
class of shares normally as of the close of regular trading (usually 4:00 p.m.,
Eastern time) on the New York Stock Exchange on each Business Day, which is
defined as each Monday through Friday when the New York Stock Exchange is open.
Prices will be calculated earlier when the New York Stock Exchange closes early
because trading has been halted for the day. Currently the New York Stock
Exchange is closed on the observance of the following holidays: New Year's Day,
Martin Luther King, Jr. Day, Presidents' Day, Good Friday, Memorial Day,
Independence Day, Labor Day, Thanksgiving Day and Christmas Day.
Securities that are listed on exchanges normally are valued at the
last sale price on the day the securities are valued or, lacking any sales on
such day, at the last available bid price. In cases where securities are traded
on more than one exchange, the securities are generally valued on the exchange
considered by Mitchell Hutchins as the primary market. Securities traded in the
over-the-counter market and listed on the Nasdaq Stock Market ("Nasdaq")
normally are valued at the last available sale price on Nasdaq prior to
valuation; other over-the-counter securities are valued at the last bid price
available prior to valuation. The amortized cost method of valuation generally
is used to value debt obligations with 60 days or less remaining until maturity,
unless the board determines that this does not represent fair value. All other
securities and other assets are valued at fair value as determined in good faith
by or under the direction of the board.
PERFORMANCE INFORMATION
The fund's performance data quoted in advertising and other
promotional materials ("Performance Advertisements") represents past performance
and is not intended to indicate future performance. The investment return and
principal value of an investment will fluctuate so that an investor's shares,
when redeemed, may be worth more or less than their original cost.
TOTAL RETURN CALCULATIONS. Average annual total return quotes
("Standardized Return") used in the fund's Performance Advertisements are
calculated according to the following formula:
P(1 + T)n = ERV
where: P = a hypothetical initial payment of $1,000 to
purchase shares of a specified class
T = average annual total return of shares of that
class
n = number of years
ERV = ending redeemable value of a hypothetical $1,000
payment at the beginning of that period.
Under the foregoing formula, the time periods used in Performance
Advertisements will be based on rolling calendar quarters, updated to the last
day of the most recent quarter prior to submission of the advertisement for
publication. Total return, or "T" in the formula above, is computed by finding
the average annual change in the value of an initial $1,000 investment over the
period. In calculating the ending redeemable value, for Class A shares, the
maximum 2.5% sales charge is deducted from the initial $1,000 payment and, for
Class C shares, the applicable contingent deferred sales charge imposed on a
redemption of Class C shares held for the period is deducted. All dividends and
other distributions are assumed to have been reinvested at net asset value.
The fund also may refer in Performance Advertisements to total return
performance data that are not calculated according to the formula set forth
above ("Non-Standardized Return"). The fund calculates Non-Standardized Return
for specified periods of time by assuming an investment of $1,000 in fund shares
and assuming the reinvestment of all dividends and other distributions. The rate
of return is determined by subtracting the initial value of the investment from
the ending value and by dividing the remainder by the initial value. Neither
initial nor contingent deferred sales charges are taken into account in
calculating Non-Standardized Return; the inclusion of those charges would reduce
the return.
31
<PAGE>
The following table shows performance information for the fund's
outstanding shares for the life of each class.
<TABLE>
<CAPTION>
CLASS CLASS A CLASS C CLASS Y
(INCEPTION DATE) (10/2/98) (10/7/98) (12/31/97)
--------- --------- ----------
<S> <C> <C> <C>
Year ended May 31, 2000:
Standardized Return............... (5.49)% (4.37)% (3.06)%
Non-Standardized Return........... (3.06)% (3.40)% (3.06)%
Inception to May 31, 2000:
Standardized Return............... 23.11% 23.90% 18.01%
Non-Standardized Return........... 25.00% 24.43% 18.01%
</TABLE>
OTHER INFORMATION. In Performance Advertisements, the fund may
compare its Standardized Return with data published by Lipper Analytical
Services, Inc. ("Lipper"), CDA Investment Technologies, Inc. ("CDA"),
Wiesenberger Investment Companies Service ("Wiesenberger"), Investment Company
Data, Inc. ("ICD") or Morningstar Mutual Funds ("Morningstar"), with the
performance of recognized stock and other indices, including (but not limited
to) the S&P 500 Index, the Dow Jones Industrial Average, the International
Finance Corporation Global Total Return Index, the Nasdaq Composite Index, the
Russell 2000 Index, the Wilshire 5000 Index, the Lehman Bond Index, the Lehman
Brothers 20+ Year Treasury Bond Index, the Lehman Brothers Government/Corporate
Bond Index, other similar Lehman Brothers indices or components thereof, 30-year
and 10-year U.S. Treasury bonds, the Morgan Stanley Capital International
Perspective Indices, the Morgan Stanley Capital International Energy Sources
Index, the Standard & Poor's Oil Composite Index, the Morgan Stanley Capital
International World Index, the Salomon Smith Barney Non-U.S. Dollar Index, the
Salomon Smith Barney Non-U.S. World Government Bond Index, the Salomon Smith
Barney World Government Index, other similar Salomon Smith Barney indices or
components thereof and changes in the Consumer Price Index as published by the
U.S. Department of Commerce. The fund also may refer in such materials to mutual
fund performance rankings and other data, such as comparative asset, expense and
fee levels, published by Lipper, CDA, Wiesenberger, ICD or Morningstar.
Performance Advertisements also may refer to discussions of the fund and
comparative mutual fund data and ratings reported in independent periodicals,
including (but not limited to) THE WALL STREET JOURNAL, MONEY MAGAZINE, FORBES,
BUSINESS WEEK, FINANCIAL WORLD, BARRON'S, FORTUNE, THE NEW YORK TIMES, THE
CHICAGO TRIBUNE, THE WASHINGTON POST AND THE KIPLINGER LETTERS. Comparisons in
Performance Advertisements may be in graphic form.
The fund may include discussions or illustrations of the effects of
compounding in Performance Advertisements. "Compounding" refers to the fact
that, if dividends or other distributions on the fund investment are reinvested
in additional fund shares, any future income or capital appreciation of the fund
would increase the value, not only of the original fund investment, but also of
the additional fund shares received through reinvestment. As a result, the value
of the fund investment would increase more quickly than if dividends or other
distributions had been paid in cash. The fund may also generally discuss or
illustrate the increasingly popular benefits of investing through an index fund,
such as immediate diversification; convenience; relatively lower portfolio
turnover and expected transaction costs; and the likelihood that lower portfolio
turnover will result in otherwise higher after-tax returns.
The fund may also compare its performance with the performance of
bank certificates of deposit (CDs) as measured by the CDA Certificate of Deposit
Index, the Bank Rate Monitor National Index and the averages of yields of CDs of
major banks published by Banxquote(R) Money Markets. In comparing the fund's
performance to CD performance, investors should keep in mind that bank CDs are
insured in whole or in part by an agency of the U.S. government and offer fixed
principal and fixed or variable rates of interest, and that bank CD yields may
vary depending on the financial institution offering the CD and prevailing
interest rates. Shares of the fund are not insured or guaranteed by the U.S.
government and returns and net asset values will fluctuate. The fund invests
primarily in common stocks. An investment in the fund involves greater risks
than an investment in either a money market fund or a CD.
32
<PAGE>
The fund may also compare its performance to general trends in the
stock and bond markets, as illustrated by the following graph prepared by
Ibbotson Associates, Chicago*.
<TABLE>
IBBOTSON CHART PLOT POINTS
[OBJECT OMITTED]
Chart showing performance of S&P 500, long-term U.S. government bonds,
Treasury Bills and inflation from 1925 through 1999
<CAPTION>
YEAR COMMON STOCKS LONG-TERM GOV'T BONDS INFLATION/CPI TREASURY BILLS
<S> <C> <C> <C> <C>
1925 $10,000 $10,000 $10,000 $10,000
1926 $11,162 $10,777 $9,851 $10,327
1927 $15,347 $11,739 $9,646 $10,649
1928 $22,040 $11,751 $9,553 $11,028
1929 $20,185 $12,153 $9,572 $11,552
1930 $15,159 $12,719 $8,994 $11,830
1931 $8,590 $12,044 $8,138 $11,957
1932 $7,886 $14,073 $7,300 $12,072
1933 $12,144 $14,062 $7,337 $12,108
1934 $11,969 $15,472 $7,486 $12,128
1935 $17,674 $16,243 $7,710 $12,148
1936 $23,669 $17,464 $7,803 $12,170
1937 $15,379 $17,504 $8,045 $12,207
1938 $20,165 $18,473 $7,821 $12,205
1939 $20,082 $19,570 $7,784 $12,208
1940 $18,117 $20,761 $7,859 $12,208
1941 $16,017 $20,955 $8,622 $12,216
1942 $19,275 $21,629 $9,423 $12,248
1943 $24,267 $22,080 $9,721 $12,291
1944 $29,060 $22,702 $9,926 $12,332
1945 $39,649 $25,139 $10,149 $12,372
1946 $36,449 $25,113 $11,993 $12,416
1947 $38,529 $24,454 $13,073 $12,478
1948 $40,649 $25,285 $13,426 $12,580
1949 $48,287 $26,916 $13,184 $12,718
1950 $63,601 $26,932 $13,948 $12,870
1951 $78,875 $25,873 $14,767 $13,063
1952 $93,363 $26,173 $14,898 $13,279
1953 $92,439 $27,125 $14,991 $13,521
1954 $141,084 $29,075 $14,916 $13,638
1955 $185,614 $28,699 $14,972 $13,852
1956 $197,783 $27,096 $15,400 $14,193
1957 $176,457 $29,117 $15,866 $14,639
1958 $252,975 $27,342 $16,145 $14,864
1959 $283,219 $26,725 $16,387 $15,303
1960 $284,549 $30,407 $16,629 $15,711
1961 $361,060 $30,703 $16,741 $16,045
1962 $329,545 $32,818 $16,946 $16,483
1963 $404,685 $33,216 $17,225 $16,997
1964 $471,388 $34,381 $17,430 $17,598
1965 $530,081 $34,625 $17,765 $18,289
1966 $476,737 $35,889 $18,361 $19,159
1967 $591,038 $32,594 $18,920 $19,966
1968 $656,415 $32,509 $19,814 $21,005
1969 $600,590 $30,860 $21,024 $22,388
1970 $624,653 $34,596 $22,179 $23,849
1971 $714,058 $39,173 $22,924 $24,895
1972 $849,559 $41,400 $23,706 $25,851
1973 $725,003 $40,942 $25,792 $27,643
1974 $533,110 $42,725 $28,939 $29,855
1975 $731,443 $46,653 $30,969 $31,588
1976 $905,842 $54,470 $32,458 $33,193
1977 $840,766 $54,095 $34,656 $34,893
1978 $895,922 $53,458 $37,784 $37,398
1979 $1,061,126 $52,799 $42,812 $41,279
1980 $1,405,137 $50,715 $48,120 $45,917
1981 $1,336,161 $51,657 $52,421 $52,671
1982 $1,622,226 $72,507 $54,451 $58,224
1983 $1,987,451 $72,979 $56,518 $63,347
1984 $2,111,991 $84,274 $58,753 $69,586
1985 $2,791,166 $110,371 $60,968 $74,960
1986 $3,306,709 $137,446 $61,657 $79,580
1987 $3,479,675 $133,716 $64,376 $83,929
1988 $4,064,583 $146,650 $67,221 $89,257
1989 $5,344,555 $173,215 $70,345 $96,728
1990 $5,174,990 $183,924 $74,640 $104,286
1991 $6,755,922 $219,420 $76,927 $110,121
1992 $7,274,115 $237,092 $79,159 $113,982
1993 $8,000,785 $280,339 $81,334 $117,284
1994 $8,105,379 $258,556 $83,510 $121,862
1995 $11,139,184 $340,435 $85,630 $128,680
1996 $13,709,459 $337,265 $88,475 $135,381
1997 $18,272,762 $390,735 $89,897 $142,496
1998 $23,495,420 $441,777 $91,513 $149,416
1999 $28,456,286 $402,177 $93,998 $156,414
</TABLE>
----------------------
Source: Stocks, Bonds, Bills and Inflation 1999 Yearbook(TM)Ibbotson Assoc.,
Chi. (annual updates work by Roger G. Ibbotson & Rex A. Sinquefield).
The chart is shown for illustrative purposes only and does not
represent the fund's performance. These returns consist of income and capital
appreciation (or depreciation) and should not be considered an indication or
guarantee of future investment results. Year-to-year fluctuations in certain
markets have been significant, and negative returns have been experienced in
certain markets from time to time. Stocks are measured by the S&P 500 Index, an
unmanaged weighted index comprising 500 widely held common stocks and varying in
composition. Unlike investors in bonds and U.S. Treasury bills, common stock
investors do not receive fixed income payments and are not entitled to repayment
of principal. These differences contribute to investment risk. Returns shown for
long-term government bonds are based on U.S. Treasury bonds with 20-year
maturities. Inflation is measured by the Consumer Price Index. The indexes are
unmanaged and are not available for investment.
Over time, although subject to greater risks and higher volatility,
stocks have outperformed all other investments by a wide margin, offering a
solid hedge against inflation. From 1925 to 1999, stocks beat all other
traditional asset classes. A $10,000 investment in the S&P 500 grew to
$28,456,286, significantly more than any other investment.
TAXES
BACKUP WITHHOLDING. The fund is required to withhold 31% of all
dividends, capital gain distributions and redemption proceeds payable to
individuals and certain other non-corporate shareholders who do not provide the
fund or PaineWebber with a correct taxpayer identification number. Withholding
at that rate also is required from dividends and capital gain distributions
payable to those shareholders who otherwise are subject to backup withholding.
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SALE OR EXCHANGE OF FUND SHARES. A shareholder's sale (redemption) of
shares may result in a taxable gain or loss, depending on whether the
shareholder receives more or less than his or her adjusted basis for the shares
(which normally includes any initial sales charge paid on Class A shares). An
exchange of the fund's shares for shares of another PaineWebber mutual fund
generally will have similar tax consequences. In addition, if the fund's shares
are bought within 30 days before or after selling other shares of the fund
(regardless of class) at a loss, all or a portion of that loss will not be
deductible and will increase the basis of the newly purchased shares.
SPECIAL RULE FOR CLASS A SHAREHOLDERS. A special tax rule applies
when a shareholder sells or exchanges Class A shares within 90 days of purchase
and subsequently acquires Class A shares of the same or another PaineWebber
mutual fund without paying a sales charge due to the 365-day reinstatement
privilege or the exchange privilege. In these cases, any gain on the sale or
exchange of the original Class A shares would be increased, or any loss would be
decreased, by the amount of the sales charge paid when those shares were bought,
and that amount would increase the basis of the PaineWebber mutual fund shares
subsequently acquired.
QUALIFICATION AS A REGULATED INVESTMENT COMPANY. The fund intends to
continue to qualify for treatment as a regulated investment company ("RIC")
under the Internal Revenue Code. To so qualify, 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 and net short-term
capital gain) and must meet several additional requirements. 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 other
income (including gains from options or futures) derived with respect to its
business of investing in securities ("Income Requirement"); (2) 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 that are limited, in respect of
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 (3) 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. If the fund failed to qualify for treatment as
a RIC for any taxable year, (1) it would be taxed as an ordinary corporation on
its taxable income for that year (even if it distributed that income to its
shareholders) and (2) the shareholders would treat all those distributions,
including distributions of net capital gain (the excess of net long-term capital
gain over net short-term capital loss) as dividends (that is, ordinary income)
to the extent of the fund's earnings and profits. In addition, the fund could be
required to recognize unrealized gains, pay substantial taxes and interest and
make substantial distributions before requalifying for RIC treatment.
OTHER INFORMATION. Dividends and other distributions the fund
declares in October, November or December of any year that are payable to
shareholders of record on a date in any of those months will be deemed to have
been paid by the fund and received by the shareholders on December 31 of that
year if the fund pays the distributions during the following January.
A portion of the dividends from the fund's investment company taxable
income (whether paid in cash or additional 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 indirectly to the
federal alternative minimum tax.
If fund shares 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 dividend or capital gain distribution, the shareholder will
pay full price for the shares and receive some portion of the price back as a
taxable 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.
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The use of hedging strategies involving Derivative Instruments, such
as writing (selling) and purchasing options and futures contracts, involves
complex rules that will determine for income tax purposes the amount, character
and timing of recognition of the gains and losses the fund realizes in
connection therewith. Gains from options and futures contracts that the fund
derives with respect to its business of investing in securities will be treated
as qualifying income under the Income Requirement.
The foregoing is only a general summary of some of the important
federal tax considerations generally affecting the fund and its shareholders. No
attempt is made to present a complete explanation of the federal tax treatment
of the fund's activities, and this discussion is not intended as a substitute
for careful tax planning. Accordingly, potential investors are urged to consult
their own tax advisers for more detailed information and for information
regarding any state, local or foreign taxes applicable to the fund and to
dividends and other distributions therefrom.
OTHER INFORMATION
DELAWARE BUSINESS TRUST. The Trust is an entity of the type commonly
known as a Delaware business trust. Although Delaware law statutorily limits the
potential liabilities of a Delaware business trust's shareholders to the same
extent as it limits the potential liabilities of a Delaware corporation,
shareholders of the fund could, under certain conflicts of laws jurisprudence in
various states, be held personally liable for the obligations of the Trust or
the fund. However, the Trust's trust instrument disclaims shareholder liability
for acts or obligations of the Trust or its series (the fund) and requires that
notice of such disclaimer be given in each written obligation made or issued by
the trustees or by any officers or officer by or on behalf of the Trust, a
series, the trustees or any of them in connection with the Trust. The trust
instrument provides for indemnification from the fund's property for all losses
and expenses of any series shareholder held personally liable for the
obligations of the fund. Thus, the risk of a shareholder's incurring financial
loss on account of shareholder liability is limited to circumstances in which
the fund itself would be unable to meet its obligations, a possibility which
Mitchell Hutchins believes is remote and not material. Upon payment of any
liability incurred by a shareholder solely by reason of being or having been a
shareholder of the fund, the shareholder paying such liability will be entitled
to reimbursement from the general assets of the fund. The trustees intend to
conduct the operations of the fund in such a way as to avoid, as far as
possible, ultimate liability of the shareholders for liabilities of the fund.
CLASSES OF SHARES. A share of a class of the fund represents an
identical interest in its investment portfolio and has the same rights,
privileges and preferences. However, each class may differ with respect to sales
charges, if any, distribution and/or service fees, if any, other expenses
allocable exclusively to each class, voting rights on matters exclusively
affecting that class, and its exchange privilege, if any. The different sales
charges and other expenses applicable to the different classes of shares of the
fund will affect the performance of those classes. Each share of the fund is
entitled to participate equally in dividends, other distributions and the
proceeds of any liquidation of the fund. However, due to the differing expenses
of the classes, dividends and liquidation proceeds on Class A, C and Y shares
will differ.
VOTING RIGHTS. Shareholders of the fund are entitled to one vote for
each full share held and fractional votes for fractional shares held. Voting
rights are not cumulative and, as a result, the holders of more than 50% of all
the shares of the fund (so long as it is the sole series of the Trust) may elect
all of the trustees of the Trust. The shares of the fund will be voted together,
except that only the shareholders of a particular class of the fund may vote on
matters affecting only that class, such as the terms of a Rule 12b-1 Plan as it
relates to the class.
The fund does not hold annual meetings. Shareholders of record of no
less than two-thirds of the outstanding shares of the Trust may remove a trustee
through a declaration in writing or by vote cast in person or by proxy at a
meeting called for that purpose. A meeting will be called to vote on the removal
of the trustee at the written request of holders of 10% of the outstanding
shares of the Trust.
CLASS-SPECIFIC EXPENSES. The fund may determine to allocate certain
of its expenses to the specific classes of the fund's shares to which those
expenses are attributable. For example, the fund's Class C shares bear higher
transfer agency fees per shareholder account than those borne by Class A or
Class Y shares. The higher fee is imposed due to the higher costs incurred by
the transfer agent in tracking shares subject to a contingent deferred sales
charge because, upon redemption, the duration of the shareholder's investment
must be determined to determine the applicable charge. Although the transfer
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agency fee will differ on a per account basis as stated above, the specific
extent to which the transfer agency fees will differ between the classes as a
percentage of net assets is not certain, because the fee as a percentage of net
assets will be affected by the number of shareholder accounts in each class and
the relative amounts of net assets in each class.
CUSTODIAN AND RECORDKEEPING AGENT; TRANSFER AND DIVIDEND AGENT. State
Street Bank and Trust Company, located at 1776 Heritage Drive, North Quincy,
Massachusetts 02171, serves as custodian and recordkeeping agent for the fund.
PFPC Inc., a subsidiary of PNC Bank, N.A., serves as the fund's transfer and
dividend disbursing agent. It is located at 400 Bellevue Parkway, Wilmington, DE
19809.
ADDITIONAL INFORMATION CONCERNING THE S&P 500 INDEX. The fund is not
sponsored, endorsed, sold or promoted by Standard & Poor's, a division of The
McGraw-Hill Companies, Inc. ("S&P"). S&P makes no representation or warranty,
express or implied, to the shareholders of the fund or any member of the public
regarding the advisability of investing in securities generally or in the fund
particularly or the ability of the S&P 500 Index to track general stock market
performance. S&P's only relationship to Mitchell Hutchins or the fund is the
licensing of certain trademarks and trade names of S&P and the S&P 500 Index,
which is determined, composed, and calculated by S&P without regard to Mitchell
Hutchins or the fund. S&P has no obligation to take the needs of Mitchell
Hutchins or the shareholders of the fund into consideration in determining,
composing or calculating the S&P 500 Index. S&P is not responsible for and has
not participated in the timing of the issuance or sale of the fund's shares or
the determination or calculation of the equation by which shares of the fund are
priced or converted into cash. S&P has no obligation or liability in connection
with the administration of the fund or the marketing or sale of the fund's
shares.
S&P DOES NOT GUARANTEE THE ACCURACY AND/OR THE COMPLETENESS OF THE
S&P 500 INDEX OR ANY DATA INCLUDED THEREIN, AND S&P SHALL HAVE NO LIABILITY FOR
ANY ERRORS, OMISSIONS OR INTERRUPTIONS THEREIN. S&P MAKES NO WARRANTY, EXPRESS
OR IMPLIED, AS TO RESULTS TO BE OBTAINED BY THE FUND OR ITS SHAREHOLDERS OR ANY
OTHER PERSON OR ENTITY FROM THE USE OF THE S&P 500 INDEX OR ANY DATA INCLUDED
THEREIN. S&P MAKES NO EXPRESS OR IMPLIED WARRANTIES AND EXPRESSLY DISCLAIMS ALL
WARRANTIES OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE OR USE WITH
RESPECT TO THE S&P 500 INDEX OR ANY DATA INCLUDED THEREIN. WITHOUT LIMITING ANY
OF THE FOREGOING, IN NO EVENT SHALL S&P HAVE ANY LIABILITY FOR ANY SPECIAL,
PUNITIVE, INDIRECT, OR CONSEQUENTIAL DAMAGES (INCLUDING LOST PROFITS), EVEN IF
NOTIFIED OF THE POSSIBILITY OF SUCH DAMAGES.
COUNSEL. The law firm of Kirkpatrick & Lockhart LLP, 1800
Massachusetts Avenue, N.W., Washington, D.C. 20036-1800, serves as counsel to
the fund. Kirkpatrick & Lockhart LLP also acts as counsel to PaineWebber and
Mitchell Hutchins in connection with other matters.
AUDITORS. Ernst & Young LLP, 787 Seventh Avenue, New York, New York
10019, serves as independent auditors for the fund.
FINANCIAL STATEMENTS
The fund's Annual Report to Shareholders for the fiscal year ended
May 31, 2000 is a separate document supplied with this SAI, and the financial
statements, accompanying notes and report of independent auditors appearing
therein are incorporated herein by this reference.
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<PAGE>
YOU SHOULD RELY ONLY ON THE INFORMATION
CONTAINED IN THE PROSPECTUS AND THIS
STATEMENT OF ADDITIONAL INFORMATION. THE
FUND AND ITS DISTRIBUTOR HAVE NOT
AUTHORIZED ANYONE TO PROVIDE YOU WITH
INFORMATION THAT IS DIFFERENT. THE
PROSPECTUS AND THIS STATEMENT OF
ADDITIONAL INFORMATION ARE NOT AN OFFER
TO SELL SHARES OF THE FUND IN ANY
JURISDICTION WHERE THE FUND OR ITS
DISTRIBUTOR MAY NOT LAWFULLY SELL THOSE
SHARES.
------------ PAINEWEBBER
S&P 500 INDEX FUND
STATEMENT OF ADDITIONAL INFORMATION
SEPTEMBER 30, 2000
PAINEWEBBER
(C)2000 PaineWebber Incorporated. All rights reserved.
