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STATEMENT OF ADDITIONAL INFORMATION
RYDEX VARIABLE TRUST
6116 EXECUTIVE BOULEVARD, SUITE 400
ROCKVILLE, MARYLAND 20852
800/820-0888
301/468-8520
Rydex Variable Trust (the "Trust") is a no-load mutual fund complex with
twenty-two separate investment portfolios (the "Funds"). This Statement of
Additional Information ("SAI") relates to Shares of following portfolios:
NOVA FUND
URSA FUND
OTC FUND
ARKTOS FUND*
PRECIOUS METALS FUND
U.S. GOVERNMENT BOND FUND
JUNO FUND
BANKING FUND*
BASIC MATERIALS FUND*
BIOTECHNOLOGY FUND*
CONSUMER PRODUCTS FUND*
ELECTRONICS FUND*
ENERGY FUND*
ENERGY SERVICES FUND*
FINANCIAL SERVICES FUND*
HEALTH CARE FUND*
LEISURE FUND*
RETAILING FUND*
TECHNOLOGY FUND*
TELECOMMUNICATIONS FUND*
TRANSPORTATION FUND*
U.S. GOVERNMENT MONEY MARKET FUND
This Statement of Additional Information is not a prospectus. It should be read
in conjunction with the Trust's Prospectus, dated November 1, 1998. A copy of
the Trust's Prospectus is available, without charge, upon request to the Trust
at the address above or by telephoning the Trust at the telephone numbers above.
*CURRENTLY, SHARES OF THESE FUNDS ARE NOT BEING OFFERED OR SOLD.
The date of this Statement of Additional Information is November 2, 1998,
as supplemented January 4, 1999.
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STATEMENT OF ADDITIONAL INFORMATION
TABLE OF CONTENTS
PAGE
GENERAL INFORMATION ABOUT THE TRUST. . . . . . . . . . . . . . . . . . . . . .3
ADDITIONAL INFORMATION ABOUT THE SECTOR FUNDS. . . . . . . . . . . . . . . . .3
DESCRIPTION OF THE MONEY MARKET FUND . . . . . . . . . . . . . . . . . . . . .7
INVESTMENT POLICIES, TECHNIQUES AND RISK FACTORS . . . . . . . . . . . . . . .7
INVESTMENT RESTRICTIONS. . . . . . . . . . . . . . . . . . . . . . . . . . . 16
PORTFOLIO TRANSACTIONS AND BROKERAGE . . . . . . . . . . . . . . . . . . . . 20
MANAGEMENT OF THE TRUST. . . . . . . . . . . . . . . . . . . . . . . . . . . 21
PRINCIPAL HOLDERS OF SECURITIES. . . . . . . . . . . . . . . . . . . . . . . 28
DETERMINATION OF NET ASSET VALUE . . . . . . . . . . . . . . . . . . . . . . 29
PERFORMANCE INFORMATION. . . . . . . . . . . . . . . . . . . . . . . . . . . 31
CALCULATION OF RETURN QUOTATIONS . . . . . . . . . . . . . . . . . . . . . . 31
INFORMATION ON COMPUTATION OF YIELD. . . . . . . . . . . . . . . . . . . . . 33
PURCHASE AND REDEMPTION OF SHARES. . . . . . . . . . . . . . . . . . . . . . 34
DIVIDENDS, DISTRIBUTIONS, AND TAXES. . . . . . . . . . . . . . . . . . . . . 35
OTHER INFORMATION. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 38
COUNSEL. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 39
AUDITORS AND CUSTODIAN . . . . . . . . . . . . . . . . . . . . . . . . . . . 39
FINANCIAL STATEMENTS . . . . . . . . . . . . . . . . . . . . . . . . . . . . 39
APPENDIX . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .A-1
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GENERAL INFORMATION ABOUT THE TRUST
The Trust, an open-end management investment company, was organized as a
Delaware business trust on June 11, 1998. The Trust is permitted to offer
separate portfolios of shares. Shares of the Funds are available through
certain deferred variable annuity and variable insurance contracts ("Contracts")
offered through insurance companies, as well as to certain retirement plan
investors. Additional Funds and/or classes may be created from time to time.
Currently, the Trust has twenty-two separate series. All payments received by
the Trust for shares of any fund belong to that fund. Each fund has its own
assets and liabilities. This SAI relates to shares of the Nova Fund, the Ursa
Fund, the OTC Fund, the Arktos Fund, the Precious Metals Fund (the "Metals
Fund"), the U.S. Government Bond Fund (the "Bond Fund"),the Juno Fund, the U.S.
Government Money Market Fund (the "Money Market Fund") and fourteen "Sector
Funds" (collectively the "Funds"). The Trust offers shares in the following
Sector Funds: Banking Fund, Basic Materials Fund, Biotechnology Fund, Consumer
Products Fund, Electronics Fund, Energy Fund, Energy Services Fund, Financial
Services Fund, Health Care Fund, Leisure Fund, Retailing Fund, Technology Fund,
Telecommunications Fund, and Transportation Fund.
The Trust is a successor to The Rydex Advisor Variable Annuity Account (the
"Separate Account"), a managed separate account of Conseco Variable Insurance
Company ("Conseco Variable") and the subaccounts of the Separate Account (the
"Rydex Subaccounts"). The Rydex Subaccounts were divided into the Nova
Subaccount, the Ursa Subaccount, the Juno Subaccount, the OTC Subaccount, the
Precious Metals Subaccount, the U.S. Government Bond Subaccount and the Money
Market Subaccount. A substantial portion of the assets of each of the Rydex
Subaccounts were transferred to the respective Funds of the Trust in connection
with the commencement of operations of the Trust. To obtain historical
financial information about the Rydex Subaccounts, please call 1-888-820-0888.
ADDITIONAL INFORMATION ABOUT THE SECTOR FUNDS
BANKING FUND
As discussed in the Prospectus, the Fund may invest in companies engaged in
accepting deposits and making commercial and principally non-mortgage consumer
loans. In addition, these companies may offer services such as merchant
banking, consumer and commercial finance, discount brokerage, leasing and
insurance. These companies may concentrate their operations within a specific
part of the country rather than operating predominantly on a national or
international scale.
BASIC MATERIALS FUND
As discussed in the Prospectus, the Fund may invest in companies engaged in the
manufacture, mining, processing, or distribution of raw materials and
intermediate goods used in the industrial sector. The Fund may invest in
companies handling products such as chemicals, lumber, paper, cooper, iron ore,
nickel, steel, aluminum, textiles, cement, and gypsum. The Fund may also invest
in the securities of mining, processing, transportation, and distribution
companies, including equipment suppliers and railroads.
BIOTECHNOLOGY FUND
As discussed in the Prospectus, the Fund may invest in companies engaged in the
research, development, sale, and manufacture of various biotechnological
products, services and processes. These include companies involved with
developing or experimental technologies such as generic engineering, hybridoma
and
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recombinant DNA techniques and monoclonal antibodies. The Fund may also invest
in companies that manufacture and/or distribute biotechnological and biomedical
products, including devices and instruments, and that provide or benefit
significantly from scientific and technological advances in biotechnology. Some
biotechnology companies may provide processes or services instead of, or in
addition to, products.
The description of the biotechnology sector may be interpreted broadly to
include applications and developments in such areas as human health care
(cancer, infectious disease, diagnostics and therapeutics); pharmaceuticals (new
drug development and production); agricultural and veterinary applications
(improved seed varieties, animal growth hormones); chemicals (enzymes, toxic
waste treatment); medical/surgical (epidermal growth factor, in vivo
imaging/therapeutics); and industry (biochips, fermentation, enhanced mineral
recovery).
CONSUMER PRODUCTS FUND
As discussed in the Prospectus, the Fund may invest in companies engaged in the
manufacture of goods to consumers, both domestically and internationally. The
Fund may invest in companies that manufacture durable products such as
furniture, major appliances, and personal computers. The Fund also may invest
in companies that manufacture, wholesale or retail non-durable goods such as
beverages, tobacco, health care products, household and personal care products,
apparel, and entertainment products (E.G., books, magazines, TV, cable, movies,
music, gaming, and sports). In addition, the Fund may invest in consumer
products and services such as lodging, child care, convenience stores, and car
rentals.
ELECTRONICS FUND
As discussed in the Prospectus, the Fund may invest in companies engaged in the
design, manufacture, or sale of electronic components (semiconductors,
connectors, printed circuit boards and other components); equipment vendors to
electronic component manufactures; electronic component distributors; and
electronic instruments and electronic systems vendors. In addition, the Fund
may invest in companies in the fields of defense electronics, medical
electronics, consumer electronics, advanced manufacturing technologies
(computer-aided design and computer-aided manufacturing [CAD/CAM],
computer-aided engineering, and robotics), lasers and electro-optics, and
other developing electronics technologies.
ENERGY FUND
As discussed in the Prospectus, the Fund may invest in companies in the energy
field, including the conventional areas of oil, gas, electricity and coal, and
alternative sources of energy such as nuclear, geothermal, oil shale and solar
power. The business activities of companies in which the Fund may invest
include production, generation, transmission, refining, marketing, control,
distribution or measurement of energy or energy fuels such as petrochemicals;
providing component parts or services to companies engaged in the above
activities; energy research or experimentation; and environmental activities
related to pollution control. Companies participating in new activities
resulting from technological advances or research discoveries in the energy
field may also be considered for this Fund.
ENERGY SERVICES FUND
As discussed in the Prospectus, the Fund may invest in companies in the energy
service field, including those that provide services and equipment to the
conventional areas of oil, gas, electricity and coal, and alternative sources of
energy such as nuclear, geothermal, oil shale and solar power. The Fund may
invest in companies involved in providing services and equipment for drilling
processes such as offshore and onshore drilling, drill bits, drilling rig
equipment, drilling string equipment, drilling fluids, tool joints and wireline
logging.
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Many energy service companies are engaged in production and well maintenance,
providing such products and services as packers, perforating equipment, pressure
pumping, downhole equipment, valves, pumps, compression equipment, and well
completion equipment and service. Certain companies supply energy providers
with exploration technology such as seismic data, geological and geophysical
services, and interpretation of this data. The Fund may also invest in
companies with a variety of underwater well services, helicopter services,
geothermal plant design or construction, electric and nuclear plant design or
construction, energy related capital equipment, mining related equipment or
services, and high technology companies serving these industries.
FINANCIAL SERVICES FUND
As discussed in the Prospectus, the Fund may invest in companies that are
involved in the financial sector, including commercial and investment banks,
savings and loan associations, consumer and industrial finance companies,
securities brokerage companies, real estate-related companies, leasing
companies, and a variety of firms in all segments of the insurance industry such
as multi-line, property and casualty, and life insurance.
The financial services sector is currently undergoing relatively rapid change as
existing distinctions between financial service segments become less clear. For
instance, recent business combinations have included insurance, finance, and
securities brokerage under single ownership. Some primarily retail corporations
have expanded into securities and insurance industries. Moreover, the federal
laws generally separating commercial and investment banking are currently being
studied by Congress.
Securities and Exchange Commission ("SEC") regulations provide that the Fund may
not invest more than 5% of its total assets in the securities of any one
company that derives more than 15% of its revenues from brokerage or investment
management activities. These companies, as well as those deriving more than 15%
of profits from brokerage and investment management activities, will be
considered to be "principally engaged" in this Fund's business activity. Rule
12d3-1 under the Investment Company Act of 1940 (the "1940 Act"), allows
investment portfolios such as this Fund, to invest in companies engaged in
securities-related activities subject to certain conditions. Purchases of
securities of a company that derived 15% or less of gross revenues during its
most recent fiscal year from securities-related activities (I.E., broker/dealer,
underwriting, or investment advisory activities) are subject only to the same
percentage limitations as would apply to any other security the Fund may
purchase. The Fund may purchase securities of an issuer that derived more than
15% of it gross revenues in its most recent fiscal year from securities-related
activities, subject to the following conditions:
a. the purchase cannot cause more than 5% of the Fund's total assets to be
invested in securities of that issuer;
b. for any equity security, the purchase cannot result in the Fund owing more
than 5% of the issuer's outstanding securities in that class;
c. for a debt security, the purchase cannot result in the fund owing more than
10% of the outstanding principal amount of the issuer's debt securities.
In applying the gross revenue test, an issuer's own securities-related
activities must be combined with its ratable share of securities-related
revenues from enterprises in which it owns a 20% or greater voting or equity
interest. All of the above percentage limitations, as well as the issuer's
gross revenue test, are
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applicable at the time of purchase. With respect to warrants, rights, and
convertible securities, a determination of compliance with the above limitations
shall be made as though such warrant, right, or conversion privilege had been
exercised. The Fund will not be required to divest its holding of a particular
issuer when circumstances subsequent to the purchase cause one of the above
conditions to not be met. The purchase of a general partnership interest in a
securities-related business is prohibited.
HEALTH CARE FUND
As discussed in the Prospectus, the Fund may invest in companies that are
involved in the health care industry including companies engaged in the design,
manufacture, or sale of products or services used for or in connection with
health care or medicine. Companies in the health care sector may include
pharmaceutical companies; firms that design, manufacture, sell, or supply
medical, dental, and optical products, hardware or services; companies involved
in biotechnology, medical diagnostic, and biochemical research and development,
as well as companies involved in the operation of health care facilities.
LEISURE FUND
As discussed in the Prospectus, the Fund may invest in companies engaged in the
design, production, or distribution of goods or services in the leisure
industries including television and radio broadcasting or manufacturing
(including cable television); motion pictures and photography; recordings and
musical instruments; publishing, including newspapers and magazines; sporting
goods and camping and recreational equipment; and sports arenas. Other goods
and services may include toys and games (including video and other electronic
games), amusement and theme parks, travel and travel-related services, hotels
and motels, leisure apparel or footwear, tobacco products, and gaming casinos.
RETAILING FUND
As discussed in the Prospectus, the Fund may invest in companies that are
involved in the retailing sector including companies engaged in merchandising
finished goods and services primarily to individual consumers. Companies in
which the Fund may invest include general merchandise retailers, department
stores, restaurant franchises, drug stores, motor vehicle and marine dealers,
and any specialty retailers selling a single category of merchandise such as
apparel, toys, jewelry, consumer electronics, or home improvement products. The
Fund may also invest in companies engaged in selling goods and services through
alternative means such as direct telephone marketing, mail order, membership
warehouse clubs, computer, or video based electronic systems.
TECHNOLOGY FUND
As discussed in the Prospectus, the Fund may invest in companies that are
involved in the technology sector including companies which the Advisor
believes have, or will develop, products, processes or services that will
provide or will benefit significantly from technological advances and
improvements. These may include, for example, companies that develop, produce,
or distribute products or services in the computer, semiconductor, electronics,
communications, health care, and biotechnology sectors.
TELECOMMUNICATIONS FUND
As discussed in the Prospectus, the Fund may invest in companies that are
involved in the telecommunications sector including companies engaged in the
development, manufacture, or sale of communications services and/or equipment.
Companies in the telecommunications field offer a variety of services and
products, including local and long-distance telephone service; cellular, paging,
local and wide-area product networks; satellite, microwave and cable television;
Internet access; and equipment used to
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provide these products and services. Long-distance telephone companies may also
have interests in developing technologies, such as fiber optics and data
transmission. Certain types of companies in which the Fund may invest are
engaged in fierce competition for a share of the market for goods or services
such as private and local area networks, or are engaged in the sale of telephone
set equipment.
TRANSPORTATION FUND
As discussed in the Prospectus, the Fund may invest in companies that are
involved in the transportation sector, including companies engaged in providing
transportation services or companies engaged in the design, manufacture,
distribution, or sale of transportation equipment. Transportation services may
include companies involved in the movement of freight and/or people such as
airline, railroad, ship, truck, and bus companies. Other service companies
include those that provide leasing and maintenance for automobiles, trucks,
containers, rail cars, and planes. Equipment manufacturers include makers of
trucks, automobiles, planes, containers, rail cars, or any other mode of
transportation and their related products. In addition, the Fund may invest in
companies that sell fuel-saving devices to the transportation industries and
those that sell insurance and software developed primarily for transportation
companies.
DESCRIPTION OF THE MONEY MARKET FUND
As discussed in the Prospectus, the Money Market Fund seeks to provide security
of principal, high current income, and liquidity. The Money Market Fund invests
primarily in money market instruments issued or guaranteed as to principal and
interest by the U.S. Government, its agencies or instrumentalities, and may
invest any remaining assets in receipts and enter into repurchase agreements
fully collateralized by U.S. Government Securities.
The Money Market Fund is governed by SEC rules which impose certain liquidity,
maturity and diversification requirements. The Money Market Fund's assets are
valued using the amortized cost method, which enables the Money Market Fund to
maintain a stable NAV. All securities purchased by the Money Market Fund must
have remaining maturities of 397 days or less. Although the Money Market Fund
is managed to maintain a stable price per share of $1.00, there is no guarantee
that the price will be constantly maintained.
INVESTMENT POLICIES, TECHNIQUES AND RISK FACTORS
GENERAL
Each Fund's investment objective and permitted investments are described in the
Prospectuses under the headings "FUND INFORMATION" and "FUND PERFORMANCE AND FEE
INFORMATION". The following information supplements, and should be read in
conjunction with, those sections of the Prospectuses.
Portfolio management is provided to each Fund by the Trust's investment adviser,
PADCO Advisors II, Inc., a Maryland corporation with offices at 6116 Executive
Boulevard, Suite 400, Rockville, Maryland 20852 (the "Advisor"). The investment
strategies of the Funds discussed below and in the Prospectuses may be used by a
Fund if, in the opinion of the Advisor, these strategies will be advantageous to
that Fund. A Fund is free to reduce or eliminate its activity in any of those
areas without changing the Fund's fundamental investment policies. There is no
assurance that any of these strategies or any other strategies and methods of
investment available to a Fund will result in the achievement of that Fund's
objectives.
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BORROWING
The Nova Fund, the Bond Fund and the Sector Funds may borrow money, including
borrowing for investment purposes. Borrowing for investment is known as
leveraging. Leveraging investments, by purchasing securities with borrowed
money, is a speculative technique which increases investment risk, but also
increases investment opportunity. Since substantially all of a Fund's assets
will fluctuate in value, whereas the interest obligations on borrowings may be
fixed, the net asset value per share of the Fund will increase more when the
Fund's portfolio assets increase in value and decrease more when the Fund's
portfolio assets decrease in value than would otherwise be the case. Moreover,
interest costs on borrowings may fluctuate with changing market rates of
interest and may partially offset or exceed the returns on the borrowed funds.
Under adverse conditions, the Nova Fund, the Bond Fund, or the Sector Funds
might have to sell portfolio securities to meet interest or principal payments
at a time investment considerations would not favor such sales. The Nova Fund,
the Bond Fund and the Sector Funds intend to use leverage during periods when
the Advisor believes that the respective Fund's investment objective would be
furthered.
Each Fund may borrow money to facilitate management of the Fund's portfolio by
enabling the Fund to meet redemption requests when the liquidation of portfolio
instruments would be inconvenient or disadvantageous. Such borrowing is not for
investment purposes and will be repaid by the borrowing Fund promptly.
As required by the 1940 Act, a Fund must maintain continuous asset coverage
(total assets, including assets acquired with borrowed funds, less liabilities
exclusive of borrowings) of 300% of all amounts borrowed. If, at any time, the
value of the Fund's assets should fail to meet this 300% coverage test, the
Fund, within three days (not including Sundays and holidays), will reduce the
amount of the Fund's borrowings to the extent necessary to meet this 300%
coverage. Maintenance of this percentage limitation may result in the sale of
portfolio securities at a time when investment considerations otherwise indicate
that it would be disadvantageous to do so.
In addition to the foregoing, the Funds are authorized to borrow money from a
bank as a temporary measure for extraordinary or emergency purposes in amounts
not in excess of 5% of the value of the Fund's total assets. This borrowing is
not subject to the foregoing 300% asset coverage requirement The Funds are
authorized to pledge portfolio securities as the Advisor deems appropriate in
connection with any borrowings.
FOREIGN ISSUERS
The Metals Fund and the Sector Funds may invest in issuers located outside the
United States. The Metals Fund and the Sector Funds may purchase American
Depository Receipts ("ADRs"), "ordinary shares," or "New York shares" in the
United States. ADRs are dollar-denominated receipts representing interests in
the securities of a foreign issuer, which securities may not necessarily be
denominated in the same currency as the securities into which they may be
converted. ADRs are receipts typically issued by United States banks and trust
companies which evidence ownership of underlying securities issued by a foreign
corporation. Generally, ADRs in registered form are designed for use in
domestic securities markets and are traded on exchanges or over-the-counter in
the United States. Ordinary shares are shares of foreign issuers that are
traded abroad and on a United States exchange. New York shares are shares that
a foreign issuer has allocated for trading in the United States. ADRs, ordinary
shares, and New York shares all may be purchased with and sold for U.S. dollars,
which protect the Funds from the foreign settlement risks described below.
Investing in foreign companies may involve risks not typically associated with
investing in United States companies. The value of securities denominated in
foreign currencies, and of dividends from such securities,
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can change significantly when foreign currencies strengthen or weaken relative
to the U.S. dollar. Foreign securities markets generally have less trading
volume and less liquidity than United States markets, and prices in some foreign
markets can ve very volatile. Many foreign countries lack uniform accounting
and disclosure standards comparable to those that apply to United States
companies, and it may be more difficult to obtain reliable information regarding
a foreign issuer's financial condition and operations. In addition, the costs
of foreign investing, including withholding taxes, brokerage commissions, and
custodial fees, generally are higher than for United States investments.
Investing in companies located abroad carries political and economic risks
distinct from those associated with investing in the United States. Foreign
investment may be affected by actions of foreign governments adverse to the
interests of United States investors, including the possibility of expropriation
or nationalization of assets, confiscatory taxation, restrictions on United
States investment, or on the ability to repatriate assets or to convert currency
into U.S. dollars. There may be a greater possibility of default by foreign
governments or foreign-government sponsored enterprises. Investments in foreign
countries also involve a risk of local political, economic, or social
instability, military action or unrest, or adverse diplomatic developments.
With regard to the Metals Fund, at the present time, five countries are the
major producers and processors of gold bullion and other precious metals and
minerals. In order of magnitude, these producers and processors are: the
Republic of South Africa, the former republics of the former Soviet Union,
Canada, the United States, and Australia. Political and economic conditions in
South Africa and the former republics of the former Soviet Union may have a
direct effect on the mining, distribution, and price of precious metals and
minerals, and on the sales of central bank gold holdings. South African mining
stocks represent a special risk in view of the history of political unrest in
that country. Besides that factor, various government bodies such as the South
African Ministry of Mines and the Reserve Bank of South Africa exercise
regulatory authority over mining activity and the sale of gold. The policies of
these South African government bodies in the future could be detrimental to the
Metals Fund's ability to achieve its objectives.
ILLIQUID SECURITIES
While none of the Funds anticipates doing so, each Fund may purchase illiquid
securities, including securities that are not readily marketable and securities
that are not registered ("restricted securities") under the Securities Act of
1933, as amended (the "1933 Act"), but which can be offered and sold to
"qualified institutional buyers" under Rule 144A under the 1933 Act. A Fund
will not invest more than 15% (10% with respect to the Money Market Fund) of the
Fund's net assets in illiquid securities. Each Fund will adhere to a more
restrictive limitation on the Fund's investment in illiquid securities as
required by the securities laws of those jurisdictions where shares of the Fund
are registered for sale. The term "illiquid securities" for this purpose 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. Under the current guidelines of the staff of the Securities and
Exchange Commission (the "Commission"), illiquid securities also are considered
to include, among other securities, purchased over-the-counter options, certain
cover for over-the-counter options, repurchase agreements with maturities in
excess of seven days, and certain securities whose disposition is restricted
under the Federal securities laws. The Fund may not be able to sell illiquid
securities when the Advisor considers it desirable to do so or may have to sell
such securities at a price that is lower than the price that could be obtained
if the securities were more liquid. In addition, the sale of illiquid
securities also may require more time and may result in higher dealer discounts
and other selling expenses than does the sale of securities that are not
illiquid. Illiquid securities also may be more difficult to value due to the
unavailability of reliable market quotations for such securities, and investment
in illiquid securities may
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have an adverse impact on net asset value.
Institutional markets for restricted securities have developed as a result of
the promulgation of Rule 144A under the 1933 Act, which provides a "safe harbor"
from 1933 Act registration requirements for qualifying sales to institutional
investors. When Rule 144A restricted securities present an attractive
investment opportunity and other meet selection criteria, a Fund may make such
investments. whether or not such securities are "illiquid" depends on the market
that exists for the particular security. The trustees of the Trust (the
"Trustees") have delegated the responsibility for determining the liquidity of
Rule 144A restricted securities which may be invested in by a Fund to the
Advisor.
INVESTMENTS IN OTHER INVESTMENT COMPANIES
The Funds (other than the Bond Fund, the Money Market Fund, and the Sector
Funds) presently may invest in the securities of other investment companies to
the extent that such an investment would be consistent with the requirements of
Section 12(d)(1) of the 1940 Act. A Fund, therefore, may invest in the
securities of another investment company (the "acquired company") provided that
the Fund, immediately after such purchase or acquisition, does not own in the
aggregate: (i) more than 3% of the total outstanding voting stock of the
acquired company; (ii) securities issued by the acquired company having an
aggregate value in excess of 5% of the value of the total assets of the Fund; or
(iii) securities issued by the acquired company and all other investment
companies (other than Treasury stock of the Fund) having an aggregate value in
excess of 10% of the value of the total assets of the Fund. The Bond Fund, the
Money Market Fund and the Sector Funds may invest in the securities of other
investment companies only as part of a merger, reorganization, or acquisition,
subject to the requirements of the 1940 Act.
If a Fund invests in, and, thus, is a shareholder of, another investment
company, the Fund's shareholders will indirectly bear the Fund's proportionate
share of the fees and expenses paid by such other investment company, including
advisory fees, in addition to both the management fees payable directly by the
Fund to the Fund's own investment adviser and the other expenses that the Fund
bears directly in connection with the Fund's own operations.
LENDING OF PORTFOLIO SECURITIES
Subject to the investment restrictions set forth below, each of the Funds may
lend portfolio securities to brokers, dealers, and financial institutions,
provided that cash equal to at least 100% of the market value of the securities
loaned is deposited by the borrower with the Fund and is maintained each
business day in a segregated account pursuant to applicable regulations. while
such securities are on loan, the borrower will pay the lending Fund any income
accruing thereon, and the Fund may invest the cash collateral in portfolio
securities, thereby earning additional income. A Fund will not lend its
portfolio securities if such loans are not permitted by the laws or regulations
of any state in which the Fund's shares are qualified for sale, and the Funds
will not lend more than 33 1/3% of the value of the Fund's total assets, except
that the Money Market Fund will not lend more than 10% of the value of the Money
Market Fund's total assets. Loans would be subject to termination by the
lending Fund on four business days' notice, or by the borrower on one day's
notice. Borrowed securities must be returned when the loan is terminated. Any
gain or loss in the market price of the borrowed securities which occurs during
the term of the loan inures to the lending Fund and that Fund's shareholders. A
lending Fund may pay reasonable finders, borrowers, administrative, and
custodial fees in connection with a loan.
OPTIONS TRANSACTIONS
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OPTIONS ON SECURITIES. The Nova Fund, the OTC Fund, the Metals Fund and the
Sector Funds may buy call options and write (sell) put options on securities,
and the Ursa Fund and the Arktos Fund may buy put options and write call options
on securities for the purpose of realizing the Fund's investment objective. By
wiring a call option on securities, a Fund becomes obligated during the term of
the option to sell the securities underlying the option at the exercise price if
the option is exercised. By writing a put option, a Fund becomes obligated
during the term of the option to purchase the securities underlying the option
at the exercise price if the option is exercised.
During the term of the option, the writer may be assigned an exercise notice by
the broker-dealer through whom the option was sold. The exercise notice would
require the writer to deliver, in the case of a call, or take delivery of, in
the case of a put, the underlying security against payment of the exercise
price. This obligation terminates upon expiration of the option, or at such
earlier time that the writer effects a closing purchase transaction by
purchasing an option covering the same underlying security and having the same
exercise price and expiration date as the one previously sold. Once an option
has been exercised, the writer may not execute a closing purchase transaction.
To secure the obligation to deliver the underlying security in the case of a
call option, the writer of a call option is required to deposit in escrow the
underlying security or other assets in accordance with the rules of the Option
Clearing Corporation (the "OCC"), an institution created to interpose itself
between buyers and sellers of options. The OCC assumes the other side of every
purchase and sale transaction on an exchange and, by doing so, gives its
guarantee to the transaction.
OPTIONS ON SECURITY INDEXES. The Nova Fund, the OTC Fund, the Metals Fund and
the Sector Funds may purchase call options and write put options, and the Ursa
Fund and the Arktos Fund may purchase put options and write call options, on
stock indexes listed on national securities exchanges or traded in the
over-the-counter market as an investment vehicle for the purpose of realizing
the Fund's investment objective.
Options on indexes are settled in cash, not in delivery of securities. The
exercising holder of an index option receives, instead of a security, cash equal
to the difference between the closing price of the securities index and the
exercise price of the option. When a Fund writes a covered option on an index,
the Fund will be required to deposit and maintain with a custodian cash or
liquid securities equal in value to the aggregate exercise price of a put or
call option pursuant to the requirements and the rules of the applicable
exchange. If, at the close of business on any day, the market value of the
deposited securities falls below the contract price, the Fund will deposit with
the custodian cash or liquid securities equal in value to the deficiency.
OPTIONS ON FUTURES CONTRACTS. Under Commodities Futures Trading Commission
("CFTC") Regulations, a Fund (other than the Money Market Fund) may engage in
futures transactions, either for "bona fide hedging" purposes, as this term is
defined in the CFTC Regulations, or for non-hedging purposes to the extent that
the aggregate initial margins and option premiums required to establish such
non-hedging positions do not exceed 5% of the liquidation value of the Fund's
portfolio. In the case of an option on futures contracts that is "in-the-money"
at the time of purchase (I.E., the amount by which the exercise price of the put
option exceeds the current market value of the underlying security, or the
amount by which the current market value of the underlying security exceeds the
exercise price of the call option), the in-the-money amount may be excluded in
calculating this 5% limitation.
When a Fund purchases or sells a stock index futures contract, or sells an
option thereon, the Fund "covers" its position. To cover its position, a Fund
may maintain with its custodian bank (and marked-to-market on a daily basis), a
segregated account consisting of cash or liquid securities that, when added to
any amounts
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deposited with a futures commission merchant as margin, are equal to the market
value of the futures contract or otherwise "cover" its position. If the Fund
continues to engage in the described securities trading practices and properly
segregates assets, the segregated account will function as a practical limit on
the amount of leverage which the Fund may undertake and on the potential
increase in the speculative character of the Fund's outstanding portfolio
securities. Additionally, such segregated accounts will generally assure the
availability of adequate funds to meet the obligations of the Fund arising from
such investment activities.
A Fund may cover its long position in a futures contract by purchasing a put
option on the same futures contract with a strike price (I.E., an exercise
price) as high or higher than the price of the futures contract. In the
alternative, if the strike price of the put is less than the price of the
futures contract, the Fund will maintain in a segregated account cash or liquid
securities equal in value to the difference between the strike price of the put
and the price of the futures contract. A Fund may also cover its long position
in a futures contract by taking a short position in the instruments underlying
the futures contract, or by taking positions in instruments with prices which
are expected to move relatively consistently with the futures contract. A Fund
may cover its short position in a futures contract by taking a long position in
the instruments underlying the futures contracts, or by taking positions in
instruments with prices which are expected to move relatively consistently with
the futures contract.
A Fund may cover its sale of a call option on a futures contract by taking a
long position in the underlying futures contract at a price less than or equal
to the strike price of the call option. In the alternative, if the long
position in the underling futures contracts is established at a price greater
than the strike price of the written (sold) call, the Fund will maintain in a
segregated account cash or liquid securities equal in value to the difference
between the strike price of the call and the price of the futures contract. A
Fund may also cover its sale of a call option by taking positions in instruments
with prices which are expected to move relatively consistently with the call
option. A Fund may cover its sale of a put option on a futures contract by
taking a short position in the underlying futures contract at a price greater
than or equal to the strike price of the put option, or, if the short position
in the underlying futures contract is established at a price less than the
strike price of the written put, the Fund will maintain in a segregated account
cash or liquid securities equal in value to the difference between the strike
price of the put and the price of the futures contract. A Fund may also cover
its sale of a put option by taking positions in instruments with prices which
are expected to move relatively consistently with the put option.
PORTFOLIO TURNOVER
As discussed in the Trust's prospectus, the Trust anticipates that investors in
the Funds, as part of an asset allocation investment strategy, will frequently
purchase and/or redeem shares of the Funds . The nature of the Funds as asset
allocation tools will cause the Funds to experience substantial portfolio
turnover. (See "Risk Considerations" in the Trust's Prospectus). Because each
Fund's portfolio turnover rate to a great extent will depend on the purchase,
redemption, and exchange activity of the Fund's investors, it is very difficult
to estimate what the Fund's actual turnover rate will be in the future.
However, the Trust expects that the portfolio turnover experienced by the Funds
will be substantial.
REPURCHASE AGREEMENTS
As discussed in the Trust's Prospectus, each of the Funds may enter into
repurchase agreements with financial institutions. The Funds each follow
certain procedures designed to minimize the risks inherent in such agreements.
These procedures include effecting repurchase transactions only with large,
well-capitalized and well-established financial institutions whose condition
will be continually monitored by the Advisor. In
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addition, the value of the collateral underlying the repurchase agreement will
always be at least equal to the repurchase price, including any accrued interest
earned on the repurchase agreement. In the event of a default or bankruptcy by
a selling financial institution, a Fund will seek to liquidate such collateral.
However, the exercising of each Fund's right to liquidate such collateral could
involve certain costs or delays and, to the extent that proceeds from any sale
upon a default of the obligation to repurchase were less than the repurchase
price, the Fund could suffer a loss. It is the current policy of each of the
Funds, other than the Money Market Fund, not to invest in repurchase agreements
that do not mature within seven days if any such investment, together with any
other illiquid assets held by the Fund, amounts to more than 15% (10% with
respect to the Money Market Fund) of the Fund's total assets. The investments
of each of the Funds in repurchase agreements, at times, may be substantial
when, in the view of the Advisor, liquidity or other considerations so warrant.
REVERSE REPURCHASE AGREEMENTS
The Ursa Fund, the Juno Fund, and the Money Market Fund may use reverse
repurchase agreements as part of that Fund's investment strategy. Reverse
repurchase agreements involve sales by a Fund of portfolio assets concurrently
with an agreement by the Fund to repurchase the same assets at a later date at a
fixed price. Generally, the effect of such a transaction is that the Fund can
recover all or most of the cash invested in the portfolio securities involved
during the term of the reverse repurchase agreement, while the Fund will be able
to keep the interest income associated with those portfolio securities. Such
transactions are advantageous only if the interest cost to the Fund of the
reverse repurchase transaction is less than the cost of obtaining the cash
otherwise. Opportunities to achieve this advantage may not always be available,
and the Funds intend to use the reverse repurchase technique only when this will
be to the Fund's advantage to do so. Each Fund will establish a segregated
account with the Trust's custodian bank in which the Fund will maintain cash or
cash equivalents or other portfolio securities equal in value to the Fund's
obligations in respect of reverse repurchase agreements.
SHORT SALES
The Ursa Fund, the Arktos Fund, and the Juno Fund also may engage in short sales
transactions under which the Fund sells a security it does not own. To complete
such a transaction, the Fund must borrow the security to make delivery to the
buyer. The fund then is obligated to replace the security borrowed by
purchasing the security at the market price at the time of replacement. The
price at such time may be more or less than the price at which the security was
sold by the Fund. Until the security is replaced, the Fund is required to pay
to the lender amounts equal to any dividends or interest which accrue during the
period of the loan. To borrow the security, the Fund also may be required to
pay a premium, which would increase the cost of the security sold. The proceeds
of the short sale will be retained by the broker, to the extent necessary to
meet the margin requirements, until the short position is closed out.
Until the Ursa Fund, Arktos Fund, or Juno Fund closes its short position or
replaces the borrowed security, the Fund will: (a) maintain a segregated
account containing cash or liquid securities at such a level that (i) the amount
deposited in the account plus the amount deposited with the broker as collateral
will equal the current value of the security sold short and (ii) the amount
deposited in the segregated account plus the amount deposited with the broker as
collateral will not be less than the market value of the security at the time
the security was sold short; or (b) otherwise cover the Fund's short position.
Each of the Funds may sell up to 100% of its portfolio short.
The Nova Fund, the OTC Fund, the Metals Fund and the Sector Funds each may
engage in short sales
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if, at the time of the short sale, the Fund owns or has the right to acquire an
equal amount of the security being sold at no additional cost. These Funds may
make a short sale when the Fund wants to sell the security the Fund owns at a
current attractive price, in order to hedge or limit the exposure of the Fund's
position.
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STOCK INDEX FUTURES CONTRACTS
A Fund may buy and sell stock index futures contracts with respect to any stock
index traded on a recognized stock exchange or board of trade. A stock index
futures contract is a contract to buy or sell units of an index at a specified
future date at a price agreed upon when the contract is made. The stock index
futures contract specifies that no delivery of the actual stocks making up the
index will take place. Instead, settlement in cash must occur upon the
termination of the contract, with the settlement being the difference between
the contract price and the actual level of the stock index at the expiration of
the contract.
At the time a Fund purchases a futures contract, an amount of cash, U.S.
Government securities or other liquid securities equal to the market value of
the futures contract will be deposited in a segregated account with the Fund's
custodian. When writing a futures contract, the Fund will maintain with its
custodian liquid assets that, when added to the amounts deposited with a futures
commission merchant or broker as margin, are equal to the market value of the
instruments underlying the contract. Alternatively, a Fund may "cover" its
position by owning the instruments underlying the contract (or, in the case of
an index futures contract, a portfolio with a volatility substantially similar
to that of the index on which the futures contract is based), or holding a call
option permitting the Fund to purchase the same futures contract at a price no
higher than the price of the contract written by the Fund (or at a higher price
if the difference is maintained in liquid assets with the Fund's custodian).
TRACKING ERROR
Funds which seek to duplicate the performance of their respective benchmarks, as
discussed in the Prospectus, do not expect that the returns over a year will
deviate adversely from their respective benchmarks by more than ten percent,
several factors may affect their ability to achieve this correlation. Among
these are: (1) Fund expenses, including brokerage (which may, be increased by
high portfolio turnover); (2) less than all of the securities in the benchmark
being held by a Fund and securities not included in the benchmark being held by
a Fund; (3) an imperfect correlation between the performance of instruments held
by a Fund, such as futures contracts and options, and the dance of the
underlying securities in the cash market; (4) bid-ask spreads (the effect of
which may be increased by portfolio turnover); (5) a Fund holds instruments
traded in a market that has become illiquid or disrupted; (6) Fund share prices
being rounded to the nearest cent; (7) changes to the benchmark index that are
not disseminated in advance; (8) the need to conform a Fund's portfolio holdings
to comply with investment restrictions or policies or regulatory or tax law
requirements; or (9) market movements that run counter to a leveraged Fund's
investments (which will cause divergence between the Fund and its benchmark over
time due to the mathematical effects of leveraging). Market movements that run
counter to a leveraged Fund's investments will cause some divergence between the
Fund and its benchmark over time due to the mathematical effects of leveraging.
The magnitude of the divergence is dependent upon the magnitude of the market
movement, its duration, and the degree to which the Fund is leveraged. The
tracking error of a leveraged Fund is generally small during a well-defined
uptrend or downtrend in the market when measured from price peak to price peak,
access a market decline and subsequent recovery, however, the deviation of the
Fund from its benchmark may be significant.
U.S. GOVERNMENT SECURITIES
The Bond Fund invests primarily in U.S. Government Securities, and each of the
other Funds also may invest in U.S. Government Securities. The Juno Fund may
enter into short transactions on U.S. Government Securities. Securities issued
or guaranteed by the U.S. Government or its agencies or instrumentalities
include U.S. Treasury securities, which are backed by the full faith and credit
of the U.S. Treasury and which differ only in their interest rates, maturities,
and times of issuance. U.S. Treasury bills have initial maturities of one year
or less; U.S. Treasury notes have initial maturities of one to ten years; and
U.S. Treasury bonds
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generally have initial maturities of greater than ten years. Certain U.S.
Government Securities are issued or guaranteed by agencies or instrumentalities
of the U.S. Government including, but not limited to, obligations of U.S.
Government agencies or instrumentalities such as Fannie Mae, the Government
National Mortgage Association, the Small Business Administration, the Federal
Farm Credit Administration, the Federal Home Loan Banks, Banks for Cooperatives
(including the Central Bank for Cooperatives), the Federal Land Banks, the
Federal Intermediate Credit Banks, the Tennessee Valley Authority, the
Export-Import Bank of the United States, the Commodity Credit Corporation, the
Federal Financing Bank, the Student Loan Marketing Association, and the National
Credit Union Administration.
Some obligations issued or guaranteed by U.S. Government agencies and
instrumentalities, including, for example, Government National Mortgage
Association pass-through certificates, are supported by the full faith and
credit of the U.S. Treasury. Other obligations issued by or guaranteed by
Federal agencies, such as those securities issued by Fannie Mae, are supported
by the discretionary authority of the U.S. Government to purchase certain
obligations of the Federal agency, while other obligations issued by or
guaranteed by Federal agencies, such as those of the Federal Home Loan Banks,
are supported by the right of the issuer to borrow from the U.S. Treasury, while
the U.S. Government provides financial support to such U.S. Government-sponsored
Federal agencies, no assurance can be given that the U.S. Government will always
do so, since the U.S. Government is not so obligated by law. U.S. Treasury
notes and bonds typically pay coupon interest semi-annually and repay the
principal at maturity. The Bond Fund will invest in such U.S. Government
Securities only when the Advisor is satisfied that the credit risk with respect
to the issuer is minimal.
WHEN-ISSUED AND DELAYED-DELIVERY SECURITIES
Each Fund, from time to time, in the ordinary course of business, may purchase
securities on a when-issued or delayed-delivery basis (I.E., delivery and
payment can take place between a month and 120 days after the date of the
transaction). These securities are subject to market fluctuation and no
interest accrues to the purchaser during this period. At the time a Fund makes
the commitment to purchase securities on a when-issued or delayed-delivery
basis, the Fund will record the transaction and thereafter reflect the value of
the securities, each day, of such security in determining the Fund's net asset
value. A Fund will not purchase securities on a when-issued or delayed-delivery
basis if, as a result, more than 15% (10% with respect to the Money Market Fund)
of the Fund's net assets would be so invested. At the time of delivery of the
securities, the value of the securities may be more or less than the purchase
price. The Fund will also establish a segregated account with the Fund's
custodian bank in which the Fund will maintain cash or liquid securities equal
to or greater in value than the Fund's purchase commitments for such when-issued
or delayed-delivery securities. The Trust does not believe that a Fund's net
asset value or income will be adversely affected by the Fund's purchase of
securities on a when-issued or delayed-delivery basis.
YEAR 2000
The Trust depends on the smooth functioning of computer systems in almost every
aspect of its business. Like other mutual funds, businesses and individuals
around the world, the Trust could be adversely affected if the computer systems
used by its service providers do not properly process dates on and after January
1, 2000 and distinguish between the year 2000 and the year 1900. The Trust has
asked its service providers whether they expect to have their computer systems
adjusted for the year 2000 transition, and received assurances from each from
each that its system is expected to accommodate the year 2000 without material
adverse consequences to the Trust. The Trust and its shareholders may
experience losses if these assurances prove to be incorrect or as a result of
year 2000 computer difficulties experienced by issuers of portfolio securities
or third parties, such as custodians, banks, broker-dealers or others with which
the Trust does business.
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ZERO COUPON BONDS
The Bond Fund and the Juno Fund may invest in U.S. Treasury zero-coupon bonds.
These securities are U.S. Treasury bonds which have been stripped of their
unmatured interest coupons, the coupons themselves, and receipts or certificates
representing interests in such stripped debt obligations and coupons. Interest
is not paid in cash during the term of these securities, but is accrued and paid
at maturity. Such obligations have greater price volatility than coupon
obligations and other normal interest-paying securities, and the value of zero
coupon securities reacts more quickly to changes in interest rates than do
coupon bonds. Since dividend income is accrued throughout the term of the zero
coupon obligation, but is not actually received until maturity, the Fund may
have to sell other securities to pay said accrued dividends prior to maturity of
the zero coupon obligation. Unlike regular U.S. Treasury bonds which pay
semi-annual interest, U.S. Treasury zero coupon bonds do not generate
semi-annual coupon payments. Instead, zero coupon bonds are purchased at a
substantial discount from the maturity value of such securities, the discount
reflecting the current value of the deferred interest; this discount is
amortized as interest income over the life of the security, and is taxable even
though there is no cash return until maturity. Zero coupon U.S. Treasury issues
originally were created by government bond dealers who bought U.S. Treasury
bonds and issued receipts representing an ownership interest in the interest
coupons or in the principal portion of the bonds. Subsequently, the U.S.
Treasury began directly issuing zero coupon bonds with the introduction of
"Separate Trading of Registered Interest and Principal of Securities" (or
"STRIPS"). While zero coupon bonds eliminate the reinvestment risk of regular
coupon issues, that is, the risk of subsequently investing the periodic interest
payments at a lower rate than that of the security held, zero coupon bonds
fluctuate much more sharply than regular coupon-bearing bonds. Thus, when
interest rates rise, the value of zero coupon bonds will decrease to a greater
extent than will the value of regular bonds having the same interest rate.
INVESTMENT RESTRICTIONS
FUNDAMENTAL POLICIES
The following investment limitations (and those set forth in the Prospectuses)
are fundamental policies of the Funds which cannot be changed with respect to a
Fund without the consent of the holders of a majority of that Fund's outstanding
shares. The term "majority of the outstanding shares" means the vote of (i) 67%
or more of a Fund's shares present at a meeting, if more than 50% of the
outstanding shares of that Fund are present or represented by proxy, or (ii)
more than 50% of that Fund's outstanding shares, whichever is less.
A Fund shall not:
1. Lend any security or make any other loan if, as a result, more than
33 1/3% of the value of the Fund's total assets would be lent to other
parties, except (i) through the purchase of a portion of an issue of
debt securities in accordance with the Fund's investment objective,
policies, and limitations, or (ii) by engaging in repurchase
agreements with respect to portfolio securities, or (iii) through the
loans of portfolio securities provided the borrower maintains
collateral equal to at least 100% of the value of the borrowed
security and marked-to-market daily.
2. Underwrite securities of any other issuer.
3. Purchase, hold, or deal in real estate or oil and gas interests,
although the Fund may purchase
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and sell securities that are secured by real estate or interests
therein and may purchase mortgage-related securities and may hold and
sell real estate acquired for the Fund as a result of the ownership of
securities.
4. Issue any senior security (as such term is defined in Section 18(f) of
the 1940 Act) (including the amount of senior securities issued but
excluding liabilities and indebtedness not constituting senior
securities), except that the Fund may issue senior securities in
connection with transactions in options, futures, options on futures,
and other similar investments, and except as otherwise permitted
herein and in Investment Restriction Nos. 5, 7, 8, and 9, as
applicable to the Fund.
5. Pledge, mortgage, or hypothecate the Fund's assets, except to the
extent necessary to secure permitted borrowings and to the extent
related to the deposit of assets in escrow in connection with (i) the
writing of covered put and call options, (ii) the purchase of
securities on a forward-commitment or delayed-delivery basis, and
(iii) collateral and initial or variation margin arrangements with
respect to currency transactions, options, futures contracts,
including those relating to indexes, and options on futures contracts
or indexes.
6. Invest in commodities except that the Fund may purchase and sell
futures contracts, including those relating to securities, currencies,
indexes, and options on futures contracts or indexes and currencies
underlying or related to any such futures contracts, and purchase and
sell currencies (and options thereon) or securities on a
forward-commitment or delayed-delivery basis.
6.1 THE METALS FUND MAY (a) TRADE IN FUTURES CONTRACTS AND OPTIONS ON
FUTURES CONTRACTS; OR (b) INVEST IN PRECIOUS-METALS AND PRECIOUS
MINERALS.
7. Invest 25% or more of the value of the Fund's total assets in the
securities of one or more issuers conducting their principal business
activities in the same industry. This limitation does not apply to
investments or obligations of the U.S. Government or any of its
agencies or instrumentalities.
7.1 THE METALS FUND WILL INVEST 25% OR MORE OF THE VALUE OF THE ITS
TOTAL ASSETS IN THE SECURITIES IN THE METALS-RELATED AND
MINERALS-RELATED INDUSTRIES.
8. Borrow money, except (i) as a temporary measure for extraordinary or
emergency purposes and then only in amounts not in excess of 5% of the
value of the Fund's total assets from a bank or (ii)in an amount up to
one-third of the value of the Fund's total assets, including the
amount borrowed, in order to meet redemption requests without
immediately selling portfolio instruments. This provision is not for
investment leverage but solely to facilitate management of the
portfolio by enabling the Fund to meet redemption requests when the
liquidation of portfolio instruments would be inconvenient or
disadvantageous.
8.1 THE NOVA FUND AND THE BOND FUND MAY BORROW MONEY, SUBJECT TO THE
CONDITIONS OF PARAGRAPH 8, FOR THE PURPOSE OF INVESTMENT
LEVERAGE.
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8.2 THE JUNO FUND MAY BORROW MONEY, SUBJECT TO THE CONDITIONS OF
PARAGRAPH 8, BUT SHALL NOT MAKE PURCHASES WHILE BORROWING IN
EXCESS OF 5% OF THE VALUE OF ITS ASSETS. FOR PURPOSES OF THIS
SUBPARAGRAPH, FUND ASSETS INVESTED IN REVERSE REPURCHASE
AGREEMENTS ARE INCLUDED IN THE AMOUNTS BORROWED.
9. Make short sales of portfolio securities or purchase any portfolio
securities on margin, except for such short-term credits as are
necessary for the clearance of transactions. The deposit or payment
by the Fund of initial or variation margin in connection with futures
or options transactions is not considered to be a securities purchase
on margin. The Fund may engage in short sales if, at the time of the
short sale, the Fund owns or has the right to acquire an equal amount
of the security being sold at no additional cost ("selling against the
box").
9.1 THE URSA FUND, THE ARKTOS FUND, AND THE JUNO FUND MAY ENGAGE IN
SHORT SALES OF PORTFOLIO SECURITIES OR MAINTAIN A SHORT POSITION
IF AT ALL TIMES WHEN A SHORT POSITION IS OPEN (i) THE FUND
MAINTAINS A SEGREGATED ACCOUNT WITH THE FUND'S CUSTODIAN TO COVER
THE SHORT POSITION IN ACCORDANCE WITH THE POSITION OF THE
SECURITIES AND EXCHANGE COMMISSION OR (ii) THE FUND OWNS AN EQUAL
AMOUNT OF SUCH SECURITIES OR SECURITIES CONVERTIBLE INTO OR
EXCHANGEABLE, WITHOUT PAYMENT OF ANY FURTHER CONSIDERATION, FOR
SECURITIES OF THE SAME ISSUE AS, AND EQUAL IN AMOUNT TO, THE
SECURITIES SOLD SHORT.
FUNDAMENTAL POLICIES APPLICABLE TO THE MONEY MARKET FUND
The Money Market Fund shall not:
10. Make loans to others except through the purchase of qualified debt
obligations, loans of portfolio securities and entry into repurchase
agreements.
11. Lend the Money Market Fund's portfolio securities in excess of 15% of
the Money Market Fund's total assets. Any loans of the Money Market
Fund's portfolio securities will be made according to guidelines
established by the Board of Trustees of the Trust, including
maintenance of cash collateral of the borrower equal at all times to
the current market value of the securities loaned.
12. Issue senior securities, except as permitted by the Money Market
Fund's investment objectives and policies.
13. Write or purchase put or call options.
14. Invest in securities of other investment companies, except as these
securities may be acquired as part of a merger, consolidation,
acquisition of assets, or plan of reorganization.
15. Mortgage, pledge, or hypothecate the Money Market Fund's assets except
to secure permitted borrowings. In those cases, the Money Market Fund
may mortgage, pledge, or hypothecate assets having a market value not
exceeding the lesser of the dollar amounts
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borrowed or 15% of the value of total assets of the Money Market Fund
at the time of the borrowing.
16. Make short sales of portfolio securities or purchase any portfolio
securities on margin, except for such short-term credits as are
necessary for the clearance of transactions.
FUNDAMENTAL POLICIES OF THE SECTOR FUNDS
A Sector Fund may not:
17. Borrow money in an amount exceeding 33 1/3% of the value of its total
assets, provided that, for purposes of this limitation, investment
strategies which either obligate the Fund to purchase securities or
require that Fund to segregate assets are not considered to be
borrowing. Asset coverage of a least 300% is required for all
borrowing, except where the Fund has borrowed money for temporary
purposes in amounts not exceeding 5% of its total assets. The Fund
will not purchase securities while its borrowing exceed 5% of its
total assets.
18. Make loans if, as a result, more than 33 1/3% of its total assets
would be lent to other parties, except that the Fund may (i) purchase
or hold debt instruments in accordance with its investment objective
and policies; (ii) enter into repurchase agreements; and (iii) lend
its securities.
19. Purchase or sell real estate, physical commodities, or commodities
contracts, except that the Fund may purchase (i) marketable securities
issued by companies which own or invest in real estate (including real
estate investment trusts), commodities, or commodities contracts; and
(ii) commodities contracts relating to financial instruments, such as
financial futures contracts and options on such contracts.
20. Issue senior securities (as defined in the 1940 Act) except as
permitted by rule, regulation or order of the SEC.
21. Act as an underwriter of securities of other issuers except as it may
be deemed an underwriter in selling a portfolio security.
22. Invest in interests in oil, gas, or other mineral exploration or
development programs and oil, gas or mineral leases.
NON-FUNDAMENTAL POLICIES
The following investment limitations are non-fundamental policies of the Funds
and may be changed with respect to any Fund by the Board of Trustees.
Each Fund may not:
1. Invest in warrants.
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2. Invest in real estate limited partnerships.
3. Invest in mineral leases.
Each Sector Fund may not:
4. Pledge, mortgage or hypothecate assets except to secure borrowing
permitted by the Fund's fundamental limitation on borrowing.
5. Invest in companies for the purpose of exercising control.
6. Purchase securities on margin or effect short sales, except that a
Fund may (i) obtain short-term credits as necessary for the clearance
of security transactions; (ii) provide initial and variation margin
payments in connection with transactions involving futures contracts
and options on such contracts; and (iii) make short sales "against the
box" or in compliance with the SEC's position regarding the asset
segregation requirements imposed by Section 18 of the 1940 Act.
7. Invest its assets in securities of any investment company, except as
permitted by the 1940 Act or any rule, regulation or order of the
SEC.
8. Purchase or hold illiquid securities, I.E., securities that cannot be
disposed of for their approximate carrying value in seven days or less
(which term includes repurchase agreements and time deposits maturing
in more than seven days) if, in the aggregate, more than 15% of its
net assets would be invested in illiquid securities.
The foregoing percentages are: (i) based on total assets (except for the
limitation on illiquid securities, which is based on net assets); (ii) will
apply at the time of the purchase of a security; and (iii) shall not be
considered violated unless an excess or deficiency occurs or exists immediately
after and as a result of a purchase of such security.
PORTFOLIO TRANSACTIONS AND BROKERAGE
Subject to the general supervision by the Trustees, the Advisor is responsible
for decisions to buy and sell securities for each of the Funds, the selection of
brokers and dealers to effect the transactions, and the negotiation of brokerage
commissions, if any. The Advisor expects that the Funds may execute brokerage
or other agency transactions through registered broker-dealers, for a
commission, in conformity with the 1940 Act, the Securities Exchange Act of
1934, as amended, and the rules and regulations thereunder.
The Advisor may serve as an investment manager to a number of clients, including
other investment companies. It is the practice of the Advisor to cause purchase
and sale transactions to be allocated among the Funds and others whose assets
the Advisor manages in such manner as the Advisor deems equitable. The main
factors considered by the Advisor in making such allocations among the Funds and
other client accounts of the Advisor are the respective investment objectives,
the relative size of portfolio holdings of the same or comparable securities,
the availability of cash for investment, the size of investment commitments
generally
21
<PAGE>
held, and the opinions of the person(s) responsible, if any, for managing the
portfolios of the Funds and the other client accounts.
The policy of each Fund regarding purchases and sales of securities for the
Fund's portfolio is that primary consideration will be given to obtaining the
most favorable prices and efficient executions of transactions. Consistent with
this policy, when securities transactions are effected on a stock exchange, each
Fund's policy is to pay commissions which are considered fair and reasonable
without necessarily determining that the lowest possible commissions are paid in
all circumstances. Each Fund believes that a requirement always to seek the
lowest possible commission cost could impede effective portfolio management and
preclude the Fund and the Advisor from obtaining a high quality of brokerage and
research services. In seeking to determine the reasonableness of brokerage
commissions paid in any transaction, the Advisor relies upon its experience and
knowledge regarding commissions generally charged by various brokers and on its
judgment in evaluating the brokerage and research services received from the
broker effecting the transaction. Such determinations are necessarily
subjective and imprecise, as in most cases an exact dollar value for those
services is not ascertainable.
Purchases and sales of U.S. Government securities are normally transacted
through issuers, underwriters or major dealers in U.S. Government Securities
acting as principals. Such transactions are made on a net basis and do not
involve payment of brokerage commissions. The cost of securities purchased from
an underwriter usually includes a commission paid by the issuer to the
underwriters; transactions with dealers normally reflect the spread between bid
and asked prices.
In seeking to implement a Fund's policies, the Advisor effects transactions with
those brokers and dealers who the Advisor believes provide the most favorable
prices and are capable of providing efficient executions. If the Advisor
believes such prices and executions are obtainable from more than one broker or
dealer, the Advisor may give consideration to placing portfolio transactions
with those brokers and dealers who also furnish research and other services to
the Fund or the Advisor. Such services may include, but are not limited to, any
one or more of the following: information as to the availability of securities
for purchase or sale; statistical or factual information or opinions pertaining
to investment; wire services; and appraisals or evaluations of portfolio
securities. If the broker-dealer providing these additional services is acting
as a principal for its own account, no commissions would be payable. If the
broker-dealer is not a principal, a higher commission may be justified, at the
determination of the Advisor, for the additional services.
The information and services received by the Advisor from brokers and dealers
may be of benefit to the Advisor in the management of accounts of some of the
Advisor's other clients and may not in all cases benefit a Fund directly. while
the receipt of such information and services is useful in varying degrees and
would generally reduce the amount of research or services otherwise performed by
the Advisor and thereby reduce the Advisor's expenses, this information and
these services are of indeterminable value and the management fee paid to the
Advisor is not reduced by any amount that may be attributable to the value of
such information and services.
For the fiscal year ended December 31, 1997, the Funds' predecessor paid the
following brokerage commissions:
Metals Fund $19,733
22
<PAGE>
MANAGEMENT OF THE TRUST
The Trustees are responsible for the general supervision of the Trust's
business. The day-to-day operations of the Trust are the responsibilities of
the Trust's officers. The names and addresses (and ages) of the Trustees and
the officers of the Trust and the officers of the Advisor, together with
information as to their principal business occupations during the past five
years, are set forth below. Fees and expenses for non-interested Trustees will
be paid by the Trust.
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
NAME; ADDRESS; AGE POSITION PRINCIPAL OCCUPATION(s) DURING THE PAST 5
HELD WITH YEARS
THE TRUST
- --------------------------------------------------------------------------------
<S> <C> <C>
*ALBERT P. VIRAGH, Chairman of Chairman of the Board and President of the
JR. (57) the Board of Rydex Series Trust , 1993 to present;
6116 Executive Trustees and Chairman of the Board, President, and
Boulevard Suite 400 President of Treasurer of PADCO Advisors, Inc.,
Rockville, Maryland the Trust investment adviser to the Rydex Series
20852 Trust, 1993 to present; Chairman of the
Board, President, and Treasurer of PADCO
Service Company, Inc., shareholder and
transfer agent servicer to the Rydex
Series Trust and the Trust, 1993 to
present; Chairman of the Board of Managers
of the Separate Account, 1996 to November
1998; Chairman of the Board, President,
and Treasurer of PADCO Advisors II, Inc.,
investment adviser to the Separate Account
and the Trust, 1996 to present; Chairman
of the Board, President, and Treasurer of
PADCO Financial Services, Inc., a
registered broker-dealer, 1996 to present;
Vice President of Rushmore Investment
Advisors Ltd., a registered investment
adviser, 1985 to 1993.
- --------------------------------------------------------------------------------
COREY A. COLEHOUR Trustee of Manager of the Separate Account, 1996 to
(52) the Trust November 1998; Trustee of the Rydex Series
6116 Executive Trust, 1993 to present; Senior Vice
Boulevard Suite 400 President of Marketing of Schield
Rockville, Maryland Management Company, a registered
20852 investment adviser, 1985 to present.
- --------------------------------------------------------------------------------
J. KENNETH DALTON Trustee of Manager of the Separate Account, 1996 to
(57) the Trust November 1998; Trustee of the Rydex Series
6116 Executive Trust, 1993 to present; Mortgage Banking
Boulevard Suite 400 Consultant and Investor, The Dalton Group,
Rockville, Maryland April 1995 to present; President, CRAM
20852 Mortgage Group, Inc. 1966 to April 1995.
- --------------------------------------------------------------------------------
</TABLE>
23
<PAGE>
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
NAME; ADDRESS; AGE POSITION PRINCIPAL OCCUPATION(s) DURING THE PAST 5
HELD WITH YEARS
THE TRUST
- --------------------------------------------------------------------------------
<S> <C> <C>
JOHN O. DEMARET Trustee of Manager of the Separate Account, 1997 to
(57) the Trust November 1998; Trustee of the Rydex Series
6116 Executive Trust, 1997 to present; Founder and Chief
Boulevard Suite 400 Executive Officer, Health Cost Controls
Rockville, Maryland America, Chicago, Illinois, 1987 to 1996;
20852 sole practitioner, Chicago, Illinois, 1984
to 1987; General Counsel for the Chicago
Transit Authority, 1981 to 1984; Senior
Partner, O'Halloran, LaVarre & Demaret,
Northbrook, Illinois, 1978 to 1981.
- --------------------------------------------------------------------------------
*L. GREGORY Trustee of Manager of the Separate Account, 1996 to
GLOECKNER (45) the Trust November 1998; Senior Vice President,
11815 North Conseco, Inc., October 1994 to the
Pennsylvania Street present; Vice President, Continuum, August
Carmel, Indiana to October 1994; Vice President, Variable
46032 Product Administrator, Monarch Life
Insurance Company and First Variable Life
Company, 1993 to 1994; self-employed
consultant from 1991 to 1993; and Vice
President, Beneficial Standard Life
Insurance Company, 1989 to 1991.
- --------------------------------------------------------------------------------
PATRICK T. Trustee of Manager of the Separate Account, 1997 to
MCCARVILLE (55) the Trust November 1998; Trustee of the Rydex Series
6116 Executive Trust, 1997 to present; Founder and Chief
Boulevard, Executive Officer, Par Industries, Inc.,
Suite 400 Northbrook, Illinois, 1977 to present;
Rockville, President and Chief Executive Officer,
Maryland 20852 American Health Resources, Northbrook,
Illinois, 1984 to 1986.
- --------------------------------------------------------------------------------
ROGER SOMERS (53) Trustee of Manager of the Separate Account, 1996 to
6116 Executive the Trust November 1998; Trustee of the Rydex Series
Boulevard, Trust, 1993 to present; President, Arrow
Suite 400 Limousine, 1963 to present.
Rockville,
Maryland 20852
- --------------------------------------------------------------------------------
ROBERT M. STEELE Secretary Vice President of PADCO Advisors, Inc.,
(40) and Vice investment adviser to the Rydex Series
6116 Executive President of Trust, 1994 to present; Secretary and Vice
Boulevard, the Trust President of the Separate Account, 1996 to
Suite 400 November 1998; Vice President of PADCO
Rockville, Advisors II, Inc., investment adviser to
Maryland 20852 the Separate Account and the Trust, 1996
to present; Vice President of The Boston
Company, Inc., an institutional money
management firm, 1987 to 1994.
- --------------------------------------------------------------------------------
</TABLE>
24
<PAGE>
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
NAME; ADDRESS; AGE POSITION PRINCIPAL OCCUPATION(s) DURING THE PAST 5
HELD WITH YEARS
THE TRUST
- --------------------------------------------------------------------------------
<S> <C> <C>
CARL G. VERBONCOEUR Vice Chief Financial Officer of PADCO Financial
(45) President of Services, Inc., 1997 to present; Vice
6116 Executive Operations President of Operations and Treasurer of
Boulevard, and the Rydex Series Trust, 1997 to present;
Suite 400 Treasurer of Vice President of Operations of the
Rockville, the Trust Separate Account, 1997 to November 1998;
Maryland 20852 Senior Vice President, Crestar Bank, 1995
to 1997; Senior Vice President, Crestar
Asset Management Company, a registered
investment adviser, 1993 to 1995; Vice
President Perpetual Savings Bank, 1987 to
1993.
- --------------------------------------------------------------------------------
MICHAEL P. BYRUM Vice Vice President of PADCO Advisors, Inc.
(28) President since 1998; Employee and senior portfolio
6116 Executive and manager of PADCO Advisors, Inc., 1993 to
Boulevard, Assistant 1998; Portfolio manager of The Rydex OTC
Suite 400 Secretary of Fund (since 1997), The Rydex Ursa Fund
Rockville, the Trust (since 1997) and the Rydex Arktos Fund
Maryland 20852 (since 1998), each a series of the Rydex
Series Trust; Assistant Secretary of the
Separate Account, 1996 to November 1998;
Employee of PADCO Advisors II Inc.,
investment adviser to the Separate Account
and the Trust, 1994 to present; Investment
Representative, Money Management
Associates, a registered investment
adviser, 1992 to 1993.
- --------------------------------------------------------------------------------
</TABLE>
___________________
* This trustee is deemed to be an "interested person" of the Trust, within
the meaning of Section 2(a)(19) of the 1940 Act, inasmuch as this person is
affiliated with the Advisor or the sponsor of the Separate Account, as
described herein.
The aggregate compensation paid by the Separate Account to each of its Managers
serving during the fiscal year ended March 31, 1998, is set forth in the table
below. The compensation arrangements between the Trust and its Trustees will be
the same.
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------
AGGREGATE PENSION OR ESTIMATED ANNUAL
NAME OF PERSON, COMPENSATION RETIREMENT BENEFITS BENEFITS UPON
POSITION FROM TRUST ACCRUED AS PART OF RETIREMENT
TRUST'S EXPENSES
- -------------------------------------------------------------------------------
<S> <C> <C> <C>
Albert P. Viragh, $0 $0 $0
Jr.*, CHAIRMAN AND
PRESIDENT
- -------------------------------------------------------------------------------
Corey A. Colehour, $6,000 $0 $0
TRUSTEE
- -------------------------------------------------------------------------------
J. Kenneth Dalton, $6,000 $0 $0
TRUSTEE
- -------------------------------------------------------------------------------
</TABLE>
25
<PAGE>
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------
AGGREGATE PENSION OR ESTIMATED ANNUAL
NAME OF PERSON, COMPENSATION RETIREMENT BENEFITS BENEFITS UPON
POSITION FROM TRUST ACCRUED AS PART OF RETIREMENT
TRUST'S EXPENSES
- -------------------------------------------------------------------------------
<S> <C> <C> <C>
Roger Somers, $6,000 $0 $0
TRUSTEE
- -------------------------------------------------------------------------------
John O. Demaret, $1,500** $0 $0
TRUSTEE
- -------------------------------------------------------------------------------
Patrick T. $1,500** $0 $0
McCarville, TRUSTEE
- -------------------------------------------------------------------------------
L. Gregory $0 $0 $0
Gloeckner*, TRUSTEE
- -------------------------------------------------------------------------------
</TABLE>
*Denotes an "interested person" of the Trust.
**Messrs. Demaret and McCarville were elected to the Board of Trustees in
December 1997.
As of the date of this Statement of Additional Information, the Trustees and the
officers of the Trust, as a group, owned, of record and beneficially, less than
1.0% of the outstanding shares of each Fund.
THE ADVISORY AGREEMENT
Under an investment advisory agreement with the Advisor, dated August 11, 1998,
the Advisor serves as the investment adviser for each series of the Trust and
provides investment advice to the Funds and oversees the day-to-day operations
of the Funds, subject to direction and control by the Trustees and the officers
of the Trust. As of December 31, 1998, net assets under management of the
Advisor and its affiliates were approximately $3.9 billion. Pursuant to the
advisory agreement with the Advisor, the Funds pay the Advisor the following
fees at an annual rate based on the average daily net assets for each respective
Fund, as set forth in the table below. The advisory fee contractual rate paid
to the Advisor by the Funds, respectively, is the same as was paid by the Rydex
Subaccounts, respectively. The aggregate advisory fees paid to the Advisor for
management of the Rydex Subaccounts since inception of the Rydex Subaccounts is
also set forth in the table below.
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------
ADVISORY FEES PAID (NET OF
FUND/SUBACCOUNT REIMBURSEMENTS)
-----------------------------
ANNUAL ADVISORY FEE 1997 1998*
CONTRACTUAL RATE
- -------------------------------------------------------------------------------
<S> <C> <C> <C>
Nova Subaccount 0.75% $0 $14,697
Ursa Subaccount 0.90% $0 $ 9,753
OTC Subaccount 0.75% $0 $11,599
Metals Subaccount 0.75% $0 $ 1,193
Bond Subaccount 0.50% $0 $ 188
Juno Subaccount 0.90% $0 $ 275
Money Market Subaccount 0.50% $0 $ 2,298
Sector Funds(1) 0.85% N/A N/A
- -------------------------------------------------------------------------------
</TABLE>
26
<PAGE>
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------
ADVISORY FEES PAID (NET OF
FUND/SUBACCOUNT REIMBURSEMENTS)
-----------------------------
ANNUAL ADVISORY FEE 1997 1998*
CONTRACTUAL RATE
- -------------------------------------------------------------------------------
<S> <C> <C> <C>
Arktos Fund(1) 0.90% N/A N/A
- -------------------------------------------------------------------------------
</TABLE>
*For period from January 1, 1998 to June 30, 1998.
(1)There were no Sector Fund or Arktos Fund equivalents among the Rydex
Subaccounts.
The Advisor manages the investment and the reinvestment of the assets of each of
the Funds, in accordance with the investment objectives, policies, and
limitations of the Fund, subject to the general supervision and control of the
Trustees and the officers of the Trust. The Advisor bears all costs associated
with providing these advisory services and the expenses of the Trustees of the
Trust who are affiliated with or interested persons of the Advisor. The
Advisor, from its own resources, including profits from advisory fees received
from the Funds, provided such fees are legitimate and not excessive, may make
payments to broker-dealers and other financial institutions for their expenses
in connection with the distribution of Fund shares, and otherwise currently pay
all distribution costs for Fund shares.
The Advisor, which has its office at 6116 Executive Boulevard, Suite 400,
Rockville, Maryland 20852, was incorporated in the State of Maryland on July 5,
1994. Albert P. Viragh, Jr., the Chairman of the Board of Trustees and the
President of the Advisor, owns a controlling interest in the Advisor.
THE SERVICE AGREEMENT
General administrative, shareholder, dividend disbursement, transfer agent, and
registrar services are provided to the Trust and the Funds by PADCO Service
Company, Inc., 6116 Executive Boulevard, Suite 400, Rockville, Maryland 20852
(the "Servicer"), subject to the general supervision and control of the Trustees
and the officers of the Trust, pursuant to a service agreement between the Trust
and the Servicer, dated August 11, 1998. The Servicer is wholly-owned by Albert
P. Viragh, Jr., who is the Chairman of the Board and the President of the Trust
and the sole controlling person and majority owner of the Advisor.
Under the service agreement, the Servicer provides the Trust and each Fund with
all required general administrative services, including, without limitation,
office space, equipment, and personnel; clerical and general back office
services; bookkeeping, internal accounting, and secretarial services; the
determination of net asset values; and the preparation and filing of all
reports, registration statements, proxy statements, and all other materials
required to be filed or furnished by the Trust and each Fund under Federal and
state securities laws. The Servicer also maintains the shareholder account
records for each Fund, distributes dividends and distributions payable by each
Fund, and produces statements with respect to account activity for each Fund and
each Fund's shareholders. The Servicer pays all fees and expenses that are
directly related to the services provided by the Servicer to each Fund; each
Fund reimburses the Servicer for all fees and expenses incurred by the Servicer
which are not directly related to the services the Servicer provides to the Fund
under the service agreement. The Servicer may compensate third parties for
providing certain shareholder services on behalf of the Servicer.
The service fee contractual rate paid to the Servicer by the Funds,
respectively, is the same as was paid by the Rydex Subaccounts, respectively,
and is set forth in the table below. The aggregate service fees paid to the
Servicer for administration of the Rydex Subaccounts since inception of the
Rydex Subaccounts (May 7, 1997) is also set forth in the table below.
27
<PAGE>
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------
SERVICE FEES PAID (NET OF
ANNUAL SERVICE REIMBURSEMENTS)
FUND FEE RATE ----------------------------
1997 1998*
- ------------------------------------------------------------------------------
<S> <C> <C> <C>
Nova Subaccount 0.25% $0 $16,255
- ------------------------------------------------------------------------------
Ursa Subaccount 0.25% $0 $7,376
- ------------------------------------------------------------------------------
OTC Subaccount 0.20% $0 $6,653
- ------------------------------------------------------------------------------
Metals Subaccount 0.20% $0 $1,113
- ------------------------------------------------------------------------------
Bond Subaccount 0.20% $0 $ 215
- ------------------------------------------------------------------------------
Juno Subaccount 0.25% $0 $ 269
- ------------------------------------------------------------------------------
Money Market Subaccount 0.20% $0 $ 920
- ------------------------------------------------------------------------------
Arktos Fund(1) 0.25% N/A N/A
- ------------------------------------------------------------------------------
Sector Funds(1) 0.20% N/A N/A
- ------------------------------------------------------------------------------
</TABLE>
*For period from January 1, 1998 to June 30, 1998.
(1)There were no Sector Fund or Arktos Fund equivalents among the Rydex
Subaccounts.
INVESTOR SERVICES PLAN
Pursuant to an Investor Services Plan dated January 1, 1999, PFS directly, or
indirectly through other service providers determined by PFS ("Service
Providers"), provides investor services to owners of Contacts who, indirectly
through insurance company separate accounts, invest in shares of the Funds
("Investors"). Investor services include some or all of the following:
printing Fund prospectuses and statements of additional information and mailing
them to Investors or to financial advisors who allocate funds for investments in
Shares of the Funds on behalf of Investors ("Financial Advisors"); forwarding
communications from the Funds to Investors or Financial Advisors, including
proxy solicitation material and annual and semiannual reports; assistance in
facilitating and processing transactions in Shares of the Funds in connection
with strategic or tactical asset allocation investing; assistance in providing
the Fund with advance information on strategic and tactical asset allocation
trends and anticipated investment activity in and among the Funds; assisting
Investors who wish or need to change Financial Advisors; and providing support
services to Financial Advisors, including, but not limited to: (a) providing
Financial Advisors with updates on policies and procedures; (b) answering
questions of Financial Advisors regarding the Funds' portfolio investments; (c)
providing performance information to Financial Advisors regarding the Funds; (d)
providing information to Financial Advisors regarding the Funds' investment
objectives; (e) providing investor account information to Financial Advisors;
and (f) redeeming Fund Shares, if necessary, for the payment of Financial
Advisor fees.
For these services, the Trust compensates PFS at an annual rate not exceeding
.25% of the Funds' average daily net assets. Currently, the rate of
compensation is 0.10%. PFS is authorized to use its fee to compensate Services
Providers for providing Investor services. The fee will be paid from the assets
of the Funds and will be calculated and accrued daily and paid within fifteen
(15) days of the end of each month.
28
<PAGE>
COSTS AND EXPENSES
Each Fund bears all expenses of its operations other than those assumed by the
Advisor or the Servicer. Fund expenses include: the management fee; the
servicing fee (including administrative, transfer agent, and shareholder
servicing fees); custodian and accounting fees and expenses; legal and auditing
fees; securities valuation expenses; fidelity bonds and other insurance
premiums; expenses of preparing and printing prospectuses, confirmations, proxy
statements, and shareholder reports and notices; registration fees and expenses;
proxy and annual meeting expenses, if any; all Federal, state, and local taxes
(including, without limitation, stamp, excise, income, and franchise taxes);
organizational costs; non-interested Trustees' fees and expenses; the costs and
expenses of redeeming shares of the Fund; fees and expenses paid to any
securities pricing organization; dues and expenses associated with membership in
any mutual fund organization; and costs for incoming telephone WATTS lines. In
addition, each of the Funds pays an equal portion of the Trustee fees and
expenses for attendance at Trustee meetings for the Trustees of the Trust who
are not affiliated with or interested persons of the Advisor.
Effective January 1, 1998, PADCO and the Servicer have voluntarily agreed to
waive their respective advisory and subaccount administration fees and to bear
any Subaccount expenses which would cause the ratios of expenses to average net
assets (including insurance expenses) for the Nova, Ursa, OTC, Precious Metals,
Bond, Juno, and Money Market Subaccounts to exceed 3.60%, 3.70%, 3.60%, 3.60%,
3.20%, 3.70%, and 3.00% (collectively the "Adjusted Expense Ratios"). Effective
November 1, 1998, PADCO and the Servicer have voluntarily agreed to waive their
respective advisory and administration fees and to bear any expenses which would
cause the ratios of expenses to average net assets (excluding insurance
expenses) for the Nova, Ursa, OTC, Precious Metals, Bond, Juno and Money Market
Funds to exceed 2.20%, 2.30%, 2.20%, 2.20%, 1.80%, 2.30% and 1.60%,
respectively. Prior to January 1, 1998, PADCO and the Servicer voluntarily
agreed to waive their respective fees and to bear any Subaccount expenses which
would cause the ratios of expenses to average net assets (including insurance
expenses) for the Nova, Ursa, OTC, Precious Metals, Bond, Juno, and Money Market
Subaccounts to exceed 2.80%, 2.90%, 2.80%, 2.80%, 2.40%, 2.90% and 2.20%
(collectively, the "Initial Expense Ratios"). Absent this voluntary waiver and
reimbursement, the aggregate total Subaccount annual expense ratios for the
Nova, Ursa, OTC, Precious Metals, Bond, Juno, and Money Market Subaccounts (as
of April 13, 1998) that would have been applicable had these fees and expenses
been in effect during the Separate Account's previous fiscal year, would have
been 3.96%, 4.11%, 3.96%, 3.96%, 3.66%, 4.11% and 3.60%, respectively, for the
Separate Account's fiscal year ended December 31, 1997.
During the period from October 24, 1997 to October 24, 1999, fees waived or
expenses paid or assumed by PADCO and the Servicer under certain voluntary
agreements are subject to full reimbursements whenever the expense ratio of a
Fund (or its predecessor Subaccount) is below the expense ratio for that Fund
(or its predecessor Subaccount) or to partial reimbursements whenever the
expense ratio of a Fund (or its predecessor Subaccount) is below the Adjusted
Expense Ratio for that Fund (or its predecessor Subaccount). During the period
from January 1, 1998 to October 24, 1999, fees waived or expenses paid or
assumed by PADCO and the Servicer under these voluntary agreements are subject
to full reimbursements whenever the expense ratio of a Fund (or its predecessor
Subaccount) is below the Adjusted Expense Ratio for that Fund (or its
predecessor Subaccount). Under no circumstances would such reimbursements cause
a Fund (or its predecessor Subaccount) expense ratio to exceed the Initial
Expense Ratio or the Adjusted Expense Ratio, as applicable. No reimbursement
will be made by a Fund (or its predecessor Subaccount) after October 24, 1999.
For the period from October 24, 1997 to December 31, 1997, the fees waived and
the expenses paid or assumed by PADCO and the Servicer that are subject to
reimbursement to PADCO and the Servicer by
29
<PAGE>
the Nova, Ursa, OTC, Precious Metals, Bond, Juno, and Money Market Funds'
predecessor Subaccounts amounted to $106,519, $50,027, $36,400, $8,312, $7,321
and $210,946, respectively; provided, that such reimbursement by the respective
Subaccount to PADCO and the Servicer does not cause the ratios of expenses to
average net assets for the Nova, Ursa, OTC, Precious Metals, Bond, Juno and
Money Market to exceed 2.80%, 2.90%, 2.80%, 2.80%, 2.40%, 2.90% and 2.20%,
respectively (I.E., their respective Initial Expense Ratio). For the Funds,
such reimbursements will only be made if the reimbursements do not cause the
ratios of expenses to average net assets for the Nova, Ursa, OTC, Precious
Metals, Bond, Juno and Money Market Funds to exceed 1.40%, 1.50%, 1.40%, 1.40%,
1.00%, 1.50% and 0.80%, respectively (I.E., the Funds' initial expense ratios).
Conseco Variable and PADCO have advanced the organizational expenses of the
Funds' predecessor Separate Account. These expenses (a total of approximately
$821,573) will be reimbursed by the Funds and amortized over a five year period.
These amortized reimbursements will be allocated among the Funds daily and
reconciled and settled monthly on the basis of relative Fund net assets.
PRINCIPAL HOLDERS OF SECURITIES
As of September 1, 1998, to the knowledge of the Trust, there were no beneficial
owners of 5% or more of the shares of the Funds. Upon commencement of
operation, the Trust expects Conseco Variable to become a beneficial owner of
more than 5% of the shares of the Funds.
DETERMINATION OF NET ASSET VALUE
The net asset value of a Fund serves as the basis for the purchase and
redemption price of that Fund's shares. The net asset value per share of a Fund
is calculated by dividing the market value of the Fund's securities plus the
values of its other assets, less all liabilities, by the number of outstanding
shares of the Fund. If market quotations are not readily available, a security
will be valued at fair value by the Board of Trustees or by the Advisor using
methods established or ratified by the Board of Trustees.
For purposes of determining net asset value per share of a Fund, options and
futures contracts will be valued 15 minutes after the 4:00 P.M., Eastern Time,
close of regular trading on the NYSE, except that futures contracts traded on
the Chicago Board of Trade ("CBOT") will be valued at 3:00 P.M., Eastern Time,
the close of trading of that exchange. Options on securities and indices
purchased by a Fund generally are valued at their last bid price in the case of
exchange-traded options or, in the case of options traded in the
over-the-counter ("OTC") market, the average of the last bid price as obtained
from two or more dealers unless there is only one dealer, in which case that
dealer's price is used. The value of a futures contract equals the unrealized
gain or loss on the contract settlement price for a like contract acquired on
the day on which the futures contract is being valued. The value of options on
futures contracts is determined based upon the current settlement price for a
like option acquired on the day on which the option is being valued. A
settlement price may not be used for the foregoing purposes if the market makes
a limit move with respect to a particular commodity.
On days when the CBOT is closed during its usual business hours, but the shares
of the Bond Fund or Juno Fund have been purchased, redeemed, and/or exchanged,
the portfolio securities held by the Bond Fund or Juno Fund which are traded on
the CBOT are valued at the earlier of (i) the time of the execution of the last
trade of the day for the Bond Fund or Juno Fund in those CBOT-traded portfolio
securities and (ii) the time
30
<PAGE>
of the close of the CBOT Evening Session. On days when the CBOT is closed
during its usual business hours and there is no need for the Bond Fund or Juno
Fund to execute trades on the CBOT, the value of the CBOT-traded portfolio
securities held by the Bond Fund or Juno Fund will be the mean of the bid and
asked prices for those CBOT-traded portfolio securities at the open of the CBOT
Evening Session.
OTC securities held by a Fund shall be valued at the last sales price or, if no
sales price is reported, the mean of the last bid and asked price is used. The
portfolio securities of a Fund that are listed on national exchanges are taken
at the last sales price of such securities on such exchange; if no sales price
is reported, the mean of the last bid and asked price is used. For valuation
purposes, all assets and liabilities initially expressed in foreign currency
values will be converted into U.S. dollar values at the mean between the bid and
the offered quotations of such currencies against U.S. dollars as last quoted by
any recognized dealer. If such quotations are not available, the rate of
exchange will be determined in good faith by the Advisor based on guidelines
adopted by the Trustees. Dividend income and other distributions are recorded
on the ex-dividend date, except for certain dividends from foreign securities
which are recorded as soon as the Trust is informed after the ex-dividend date.
Illiquid securities, securities for which reliable quotations or pricing
services are not readily available, and all other assets will be valued at their
respective fair value as determined in good faith by, or under procedures
established by, the Trustees, which procedures may include the delegation of
certain responsibilities regarding valuation to the Advisor or the officers of
the Trust. The officers of the Trust report, as necessary, to the Trustees
regarding portfolio valuation determination. The Trustees, from time to time,
will review these methods of valuation and will recommend changes which may be
necessary to assure that the investments of the Funds are valued at fair value.
AMORTIZED COST METHOD
The Money Market Fund will utilize the amortized cost method in valuing its
portfolio securities for purposes of determining the net asset value of its
shares even though the portfolio securities may increase or decrease in market
value, generally, in connection with changes in interest rates. The amortized
cost method of valuation involves valuing a security at its cost adjusted by a
constant amortization to maturity of any discount or premium, regardless of the
impact of fluctuating interest rates on the market value of the instrument while
this method provides certainty in valuation, this method may result in periods
during which value, as determined by amortized cost, is higher or lower than the
price the Money Market Fund would receive if this Fund sold the instrument.
During such periods, the yield to investors in the Money Market Fund may differ
somewhat from that obtained in a similar company which uses mark-to-market
values for all its portfolio securities. For example, if the use of amortized
cost resulted in a lower (higher) aggregate portfolio value on a particular day,
a prospective investor in the Money Market Fund would be able to obtain a
somewhat higher (lower) yield than would result from investment in such a
similar company and existing investors would receive less (more) investment
income. The purpose of this method of calculation is to facilitate the
maintenance of a constant net asset value per share of $1.00.
The Money Market Fund's use of the amortized cost method is permitted pursuant
to Rule 2a-7 under the 1940 Act (the "Rule"). The Rule requires that the Money
Market Fund limit its investments to U.S. dollar-denominated instruments that
meet the Rule's quality, maturity and diversification requirements. The Rule
also requires the Money Market Fund to maintain a dollar-weighted average
portfolio maturity of not more than ninety days and precludes the purchase of
any instrument with a remaining maturity of more than thirteen months.
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The Money Market Fund may only purchase Eligible Securities. Eligible
Securities are securities which: (a) have remaining maturities of thirteen
months or less; (b) either (i) are rated in the two highest short-term rating
categories by any two nationally-recognized statistical rating organizations
("NSROs") that have issued a short-term rating with respect to the security or
class of debt obligations of the issuer, or (ii) if only one NSRO has issued a
short-term rating with respect to the security, then by that NSRO; (c) were
long-term securities at the time of issuance whose issuers have outstanding
short-term debt obligations which are comparable in priority and security and
has a ratings as specified in (b) above; or (d) if no rating is assigned by any
NSRO as provided in (b) and (c) above, the unrated securities are determined by
the Trustees to be of comparable quality to any rated securities.
As permitted by the Rule, the Trustees have delegated to the Advisor, subject to
the Trustees' oversight pursuant to guidelines and procedures adopted by the
Trustees, the authority to determine which securities present minimal credit
risks and which unrated securities are comparable in quality to rated
securities.
If the Trustees determine that it is no longer in the best interests of the
Money Market Fund and its shareholders to maintain a stable price of $1.00 per
share, or if the Trustees believe that maintaining such price no longer reflects
a market-based net asset value per share, the Trustees have the right to change
from an amortized cost basis of valuation to valuation based on market
quotations. The Money Market Fund will notify shareholders of any such change.
PERFORMANCE INFORMATION
From time to time, each of the Funds (other than the Money Market Fund) may
include the Fund's total return in advertisements or reports to shareholders or
prospective shareholders. Quotations of average annual total return for a Fund
will be expressed in terms of the average annual compounded rate of return on a
hypothetical investment in the Fund over a period of at least one, five, and ten
years (up to the life of the Fund) (the ending date of the period will be
stated). Total return of a Fund is calculated from two factors: the amount of
dividends earned by each Fund share and by the increase or decrease in value of
the Fund's share price. See "Calculation of Return Quotations."
Performance information for each of the Funds contained in reports to
shareholders or prospective shareholders, advertisements, and other promotional
literature may be compared to the record of various unmanaged indexes.
Performance information for the Nova Fund, the Ursa Fund, and the Metals Fund
may be compared to various unmanaged indexes, including, but not limited to, the
S&P 500 Index or the Dow Jones Industrial Average. Performance information for
the Metals Fund also may be compared to its current benchmark, the XAU Index.
Performance information for the OTC and Arktos Funds may be compared to various
unmanaged indexes, including, but not limited to, its current benchmark, the
NASDAQ 100 Index-TM-, and the NASDAQ Composite Index-TM-. The OTC Fund has the
ability to invest in securities not included in the NASDAQ 100 Index-TM- or the
NASDAQ Composite Index-TM-, and the OTC Fund's investment portfolio may or may
not be similar in composition to NASDAQ 100 Index-TM- or the NASDAQ Composite
Index-TM-. Performance information for the Bond Fund and the Juno Fund may be
compared to various unmanaged indexes, including, but not limited to, the
Shearson Lehman Government (LT) Index.
Such unmanaged indexes may assume the reinvestment of dividends, but generally
do not reflect deductions for operating costs and expenses. In addition, a
Fund's total return may be compared to the performance of broad groups of
comparable mutual funds with similar investment goals, as such performance is
tracked and
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published by such independent organizations as Lipper Analytical Services, Inc.
("Lipper"), and CDA Investment Technologies, Inc., among others, when Lipper's
tracking results are used, the Fund will be compared to Lipper's appropriate
fund category, that is, by fund objective and portfolio holdings. Performance
figures are based on historical results and are not intended to indicate future
performance.
In addition, rankings, ratings, and comparisons of investment performance and/or
assessments of the quality of shareholder service appear in numerous financial
publications such as MONEY, FORBES, KIPLINGER'S MAGAZINE, PERSONAL INVESTOR,
MORNINGSTAR, INC., and similar sources.
CALCULATION OF RETURN QUOTATIONS
For purposes of quoting and comparing the performance of a Fund (other than the
Money Market Fund) to that of other mutual funds and to other relevant market
indexes in advertisements or in reports to shareholders, performance for the
Fund may be stated in terms of total return. Under the rules of the SEC ("SEC
Rules"), Funds advertising performance must include total return quotes
calculated according to the following formula:
n
P(1+T) = ERV
Where: P = a hypothetical initial payment of $1,000;
T = average annual total return;
n = number of years (1, 5 or 10); and
ERV = ending redeemable value of a hypothetical $1,000
payment, made at the beginning of the 1, 5 or 10 year
periods, at the end of the 1, 5, or 10 year periods (or
fractional portion thereof).
Under the foregoing formula, the time periods used in advertising will be based
on rolling calendar quarters, updated to the last day of the most recent quarter
prior to submission of the advertising for publication, and will cover 1, 5, and
10 year periods or a shorter period dating from the effectiveness of the
Registration Statement of the Trust In calculating the ending redeemable value,
all dividends and distributions by a Fund are assumed to have been reinvested at
net asset value as described in the Trust's Prospectus on the reinvestment dates
during the period. Total return, or 'T' in the formula above, is computed by
finding the average annual compounded rates of return over the 1, 5, and 10 year
periods (or fractional portion thereof) that would equate the initial amount
invested to the ending redeemable value.
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<PAGE>
For the period from the respective commencement of continuous operations of
certain of the Funds' predecessor Subaccounts to December 31, 1997, the average
annual compounded rate of return of the respective Subaccounts (other than the
Money Market Fund), assuming the reinvestment of all dividends and
distributions, was as follows in the table below. The predecessor Rydex
Subaccounts were subject to certain insurance-related expenses to which the
Funds will not necessarily be subject.
<TABLE>
<CAPTION>
FOR THE PERIOD
FROM THE
COMMENCEMENT
OF CONTINUOUS
OPERATIONS TO
DECEMBER 31, 1997
-----------------
<S> <C>
Nova Subaccount(1) 22.11%
Ursa Subaccount(2) -13.48%
OTC Subaccount(3) 6.54%
Precious Metals Subaccount(4) -29.85%
U.S. Government Bond Subaccount(5) 9.84%
Juno Subaccount(6) N/A
</TABLE>
_________________________
(1)The Nova Subaccount commenced operations on May 7, 1997.
(2)The Ursa Subaccount commenced continuous operations on June 10, 1997. Prior
to that time, due to the nature of the investment activity, the Fund's
predecessor experienced periods with zero net assets. Periods of operation,
including returns for each discrete period, were as follows: May 7, 1997 to May
21, 1997 (-3.65%); May 27, 1997 to June 3, 1997 (.69%); and June 10, 1997 to
December 31, 1997 (-13.48%).
(3)The OTC Subaccount commenced operations on May 7, 1997.
(4)The Precious Metals Subaccount commenced operations on May 29, 1997.
(5)The U.S. Government Bond Subaccount commenced continuous operations on August
18, 1997. Prior to that time, due to the nature of the investment activity, the
Fund's predecessor experienced periods with zero net assets. Periods of
operation, including returns for each discrete period, were as follows: May 29,
1997 to June 5, 1997 (1.45%); June 24, 1997 to July 14, 1997 (2.32%); July 21,
1997 to August 12, 1997 (-3.70%); and August 18, 1997 to December 31, 1997
(9.84%).
(6)The Juno Subaccount commenced continuous operations on March 4, 1998. Prior
to that time, due to the nature of the investment activity, the Fund's
predecessor experienced periods with zero net assets. For the period ended
December 31, 1997, periods of operation, including returns for each discrete
period, were as follows: May 7, 1997 to June 3, 1997 (-1.41%); June 16, 1997 to
July 2, 1997 (-.09%); July 7, 1997 (-.46%); July 24, 1997 to August 11, 1997
(2.82%); August 26, 1997 to October 19, 1997 (-2.01%); and October 22, 1997 to
December 11, 1997 (-4.14%).
INFORMATION ON COMPUTATION OF YIELD
THE BOND FUND
In addition to the total return quotations discussed above, the Bond Fund also
may advertise its yield based on a thirty-day (or one month) period ended on the
date of the most recent balance sheet included in the Trust's Registration
Statement, computed by dividing the net investment income per share of the Fund
earned during the period by the maximum offering price per Fund share on the
last day of the period, according to the following formula:
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<PAGE>
a-b 6
YIELD = 2(--- + 1) -
cd 1
Where: a = dividends and interest earned during the period;
b = expenses accrued for the period (net of
reimbursements);
c = the average daily number of shares outstanding
during the period that were entitled to receive
dividends; and
d = the maximum offering price per share on the last
day of the period.
Under this formula, interest earned on debt obligations for purposes of "a"
above, is calculated by (i) computing the yield to maturity of each obligation
held by the Bond Fund based on the market value of the obligation (including
actual accrued interest) at the close of business on the last day of each month,
or, with respect to obligations purchased during the month, the purchase price
(plus actual accrued interest), (ii) dividing that figure by 360 and multiplying
the quotient by the market value of the obligation (including actual accrued
interest as referred to above) to determine the interest income on the
obligation that is in the Bond Fund's portfolio (assuming a month of thirty
days), and (iii) computing the total of the interest earned on all debt
obligations and all dividends accrued on all equity securities during the
thirty-day or one month period. In computing dividends accrued, dividend income
is recognized by accruing 1/360 of the stated dividend rate of a security each
day that the security is in the Fund's portfolio. Undeclared earned income,
computed in accordance with generally accepted accounting principles, may be
subtracted from the maximum offering price calculation required pursuant to "d"
above.
The Bond Fund from time to time may also advertise its yield based on a
thirty-day period ending on a date other than the most recent balance sheet
included in the Trust's Registration Statement, computed in accordance with the
yield formula described above, as adjusted to conform with the differing period
for which the yield computation is based.
Any quotation of performance stated in terms of yield (whether based on a
thirty-day or one month period) will be given no greater prominence than the
information prescribed under SEC Rules. In addition, all advertisements
containing performance data of any kind will include a legend disclosing that
such performance data represents past performance and that 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 the original cost of such
shares.
THE MONEY MARKET FUND
The Money Market Fund's annualized current yield, as may be quoted from time to
time in advertisements and other communications to shareholders and potential
investors, is computed by determining, for a stated seven-day period, the net
change, exclusive of capital changes and income other than investment income, in
the value of a hypothetical pre-existing account having a balance of one share
at the beginning of the period, subtracting a hypothetical charge reflecting
deductions from shareholder accounts, and dividing the difference by the value
of the account at the beginning of the base period to obtain the base period
return, and then multiplying the base period return by 365 divided by 7.
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<PAGE>
The Money Market Fund's annualized effective yield, as may be quoted from time
to time in advertisements and other communications to shareholders and potential
investors, is computed by determining (for the same stated seven-day period as
the current yield) the net change, exclusive of capital changes and including
the value of additional shares purchased with dividends and any dividends
declared therefrom (which reflect deductions of all expenses of the Money Market
Fund such as management fees), in the value of a hypothetical pre-existing
account having a balance of one share at the beginning of the period, and
dividing the difference by the value of the account at the beginning of the base
period to obtain the base period return, and then compounding the base period
return by adding 1, raising the sum to a power equal to 365 divided by 7, and
subtracting 1 from the result.
The yields quoted in any advertisement or other communication should not be
considered a representation of the yields of the Money Market Fund in the future
since the yield is not fixed. Actual yields will depend not only on the type,
quality, and maturities of the investments held by the Money Market Fund and
changes in interest rates on such investments, but also on changes in the Money
Market Fund's expenses during the period.
Yield information may be useful in reviewing the performance of the Money Market
Fund and for providing a basis for comparison with other investment
alternatives. However, unlike bank deposits or other investments which
typically pay a fixed yield for a stated period of time, the Money Market Fund's
yield fluctuates.
PURCHASE AND REDEMPTION OF SHARES
SUSPENSION OF THE RIGHT OF REDEMPTION
The Funds may suspend the right of redemption or the date of payment: (i) for
any period during which the NYSE, the Federal Reserve Bank of New York, the
NASDAQ, the Chicago Mercantile Exchange ("CME"), the CBOT, or any other
exchange, as appropriate, is closed (other than customary weekend or holiday
closings), or trading on the NYSE, the NASDAQ, the CME, the CBOT, or any other
exchange, as appropriate, is restricted; (ii) for any period during which an
emergency exists so that sales of a Fund's investments or the determination of
its NAV is not reasonably practicable; or (iii) for such other periods as the
SEC may permit for the protection of a Fund's investors.
HOLIDAYS
The NYSE, the Federal Reserve Bank of New York, the NASDAQ, the CME, the CBOT,
and other U.S. exchanges are closed on weekends and on the following holidays:
(i) New Year's Day, Martin Luther King Jr.'s Birthday, President's Day, Good
Friday, Memorial Day, July Fourth, Labor Day, Columbus Day, Thanksgiving Day,
and Christmas Day; and (ii) the preceding Friday if any of these holidays falls
on a Saturday, or the subsequent Monday if any of these holidays falls on a
Sunday. Although the Trust expects the same holiday schedules to be observed in
the future, each of the aforementioned exchanges may modify its holiday schedule
at any time.
REDEMPTIONS IN-KIND
The Trust intends to pay your redemption proceeds in cash. However, under
unusual conditions that make the payment in cash unwise (and for the protection
of the remaining shareholders of the Fund) the Trust reserves the right to pay
all, or part, of your redemption proceeds in liquid securities with a market
value equal to the redemption price (redemption in-kind). Although it is
highly unlikely that your shares would
36
<PAGE>
ever actually be redeemed in kind, you would probably have to pay brokerage
costs to sell the securities distributed to you.
DIVIDENDS, DISTRIBUTIONS, AND TAXES
DIVIDENDS AND DISTRIBUTIONS
Dividends from net investment income and any distributions of net realized
capital gains from each of the Funds will be distributed as described in the
Trust's Prospectus under "Dividends and Distributions." All such distributions
of a Fund normally automatically will be reinvested without charge in additional
shares of the same Fund.
The Money Market Fund intends to declare dividends daily from net investment
income (and net short-term capital gains, if any) and distribute such dividends
monthly. Net income, for dividend purposes, includes accrued interest and
accretion of original issue and market discount, plus or minus any short-term
gains or losses realized on sales of portfolio securities, less the amortization
of market premium and the estimated expenses of the Money Market Fund. Net
income will be calculated immediately prior to the determination of net asset
value per share of the Money Market Fund.
The Trustees may revise the dividend policy, or postpone the payment of
dividends, if the Money Market Fund should have or anticipate any large
unexpected expense, loss, or fluctuation in net assets which, in the opinion of
the Trustees, might have a significant adverse effect on shareholders of the
Money Market Fund. On occasion, in order to maintain a constant $1.00 per share
net asset value for the Money Market Fund, the Trustees may direct that the
number of outstanding shares of the Money Market Fund be reduced in each
shareholder's account.
With respect to the investment by the Bond Fund in U.S. Treasury zero coupon
bonds, a portion of the difference between the issue price of zero coupon
securities and the face value of such securities (the "original issue discount")
is considered to be income to the Bond Fund each year, even though the Bond Fund
will not receive cash interest payments from these securities. This original
issue discount (imputed income) will comprise a part of the investment company
taxable income of the Bond Fund which must be distributed to shareholders of the
Bond Fund in order to maintain the qualification of the Bond Fund as a regulated
investment company (a "RIC") under Subchapter M of the U.S. Internal Revenue
Code of 1986, as amended (the "Code"), as described immediately below under
"Regulated Investment Company Status," and to avoid Federal income tax at the
level of the Bond Fund.
REGULATED INVESTMENT COMPANY STATUS
As a RIC, a Fund would not be subject to Federal income taxes on the net
investment income and capital gains that the Fund distributes to the Fund's
shareholders.
Each of the Funds will seek to qualify for treatment as a RIC under the Code.
Provided that a Fund (i) is a RIC and (ii) distributes at least 90% of the
Fund's net investment income (including, for this purpose, net realized
short-term capital gains), the Fund itself will not be subject to Federal income
taxes to the extent the Fund's net investment income and the Fund's net realized
long- and short-term capital gains, if any, are distributed to the Fund's
shareholders. To avoid an excise tax on its undistributed income, each Fund
generally must distribute at least 98% of its income, including its net
long-term capital gains. One of several requirements for RIC qualification is
that the Fund must receive at least 90% of the Fund's gross income each
37
<PAGE>
year from dividends, interest, payments with respect to securities loans, gains
from the sale or other disposition of securities or foreign currencies, or other
income derived with respect to the Fund's investments in stock, securities, and
foreign currencies (the "90% Test"). Income from investments in precious metals
and in precious minerals will not qualify as gross income from "securities" for
purposes of the 90% Test. The Metals Fund, therefore, intends to restrict its
investment in precious metals and in precious minerals to avoid a violation of
the 90% Test.
If a fund were to fail to qualify as an RIC for one or more taxable years, the
Fund could then qualify (or re-qualify) as an RIC for a subsequent taxable year
only if the Fund had distributed to the Fund's shareholders a taxable dividend
equal to the full amount of any earnings or profits (less the interest charge
mentioned below, if applicable) attributable to such period. The fund might
also be required to pay to the U.S. Internal Revenue Service (the "IRS")
interest on 50% of such accumulated earnings and profits. In addition, pursuant
to the Code and an interpretative notice issued by the IRS, if the Fund should
fail to qualify as an RIC and should thereafter seek to re-qualify as an RIC,
the Fund may be subject to tax on the excess (if any) of the fair market of the
Fund's assets over the Fund's basis in such assets, as of the day immediately
before the first taxable year for which the Fund seeks to re-qualify as an RIC.
If a fund determines that the fund will not qualify as an RIC under Subchapter M
of the Code, the Fund will establish procedures to reflect the anticipated tax
liability in the Fund's net asset value.
SECTION 817(h) DIVERSIFICATION
Section 817(h) of the Code requires that the assets of each Fund be adequately
diversified so that insurance companies that invest in their shares, and not
variable annuity contract owners, are considered the owners of the shares for
federal income tax purposes. Each Fund ordinarily must satisfy the
diversification requirements within one year after contract owner funds are
first allocated to the particular Fund. In order to meet the diversification
requirements of regulations issued under Section 817(h), each Fund will meet the
following test: no more than 55% of the assets will be invested in any one
investment; no more than 70% of the assets will be invested in any two
investments; no more than 80% of the assets will be invested in any three
investments; and no more than 90% will be invested in any four investments.
Each Fund must meet the above diversification requirements within 30 days of the
end of each calendar quarter.
SPECIAL CONSIDERATIONS APPLICABLE TO THE METALS FUND AND THE SECTOR FUNDS
In general, with respect to the Metals Fund and the Sector Funds, gains from
"foreign currencies" and from foreign currency options, foreign currency
futures, and forward foreign exchange contracts ("forward contracts") relating
to investments in stock, securities, or foreign currencies will be qualifying
income for purposes of determining whether the Fund qualifies as a RIC. It is
currently unclear, however, who will be treated as the issuer of a foreign
currency instrument or how foreign currency options, futures, or forward
contracts will be valued for purposes of the RIC diversification requirements
applicable to the Fund.
Under the Code, special rules are provided for certain transactions in a foreign
currency other than the taxpayer's functional currency (I.E., unless certain
special rules apply, currencies other than the U.S. dollar). In general,
foreign currency gains or losses from forward contracts, from futures contracts
that are not "regulated futures contracts," and from unlisted options will be
treated as ordinary income or loss under the Code. Also, certain foreign
exchange gains derived with respect to foreign fixed-income securities are also
subject to special treatment. In general, any such gains or losses will
increase or decrease the amount of the Fund's investment company taxable income
available to be distributed to shareholders as ordinary income,
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<PAGE>
rather than increasing or decreasing the amount of the Fund's net capital gain.
Additionally, if such losses exceed other investment company taxable income
during a taxable year, the Fund would not be able to make any ordinary dividend
distributions.
A Fund may incur a liability for dividend withholding tax as a result of
investment in stock or securities of foreign corporations. If, at any year end,
more than 50% of the assets of a Fund are comprised of stock or securities of
foreign corporations, a Fund may elect to "pass through" to shareholders the
amount of foreign taxes paid by that Fund. A Fund will make such an election
only if that Fund deems this to be in the best interests of its shareholders.
If a Fund does not qualify to make this election or does qualify, but does not
choose to do so, the imposition of such taxes would directly reduce the return
to an investor from an investment in that Fund.
TRANSACTIONS BY THE FUNDS
If a call option written by a Fund expires, the amount of the premium received
by the Fund for the option will be short-term or long-term capital gain to the
Fund depending on the Fund's holding period for the underlying security or
underlying futures contract. If such an option is closed by a Fund, any gain or
loss realized by the Fund as a result of the closing purchase transaction will
be short-term or long-term capital gain or loss depending on the Fund's holding
period for the underlying security or underlying futures contract. If the
holder of a call option exercises the holder's right under the option, any gain
or loss realized by the Fund upon the sale of the underlying security or
underlying futures contract pursuant to such exercise will be short-term or
long-term capital gain or loss to the Fund depending on the Fund's holding
period for the underlying security or underlying futures contract.
With respect to call options purchased by a Fund, the Fund will realize
short-term or long-term capital gain or loss if such option is sold and will
realize short-term or long-term capital loss if the option is allowed to expire
depending on the Fund's holding period for the call option. If such a call
option is exercised, the amount paid by the Fund for the option will be added to
the basis of the stock or futures contract so acquired.
A Fund has available to it a number of elections under the Code concerning the
treatment of option transactions for tax purposes. A Fund will utilize the tax
treatment that, in the Fund's judgment, will be most favorable to a majority of
investors in the Fund. Taxation of these transactions will vary according to
the elections made by the Fund. These tax considerations may have an impact on
investment decisions made by the Fund.
Each of the Nova Fund, the Ursa Fund, the OTC Fund, the Arktos Fund, the Metals
Fund and the Sector Funds in its operations also will utilize options on stock
indexes. Options on "broad based" stock indexes are classified as "nonequity
options" under the Code. Gains and losses resulting from the expiration,
exercise, or closing of such nonequity options, as well as gains and losses
resulting from futures contract transactions, will be treated as long-term
capital gain or loss to the extent of 60% thereof and short-term capital gain or
loss to the extent of 40% thereof (hereinafter, "blended gain or loss"). In
addition, any nonequity option and futures contract held by a Fund on the last
day of a fiscal year will be treated as sold for market value on that date, and
gain or loss recognized as a result of such deemed sale will be blended gain or
loss.
The trading strategies of each of the Nova Fund, the Ursa Fund, the OTC Fund,
the Arktos Fund, the Metals Fund and the Sector Funds involving nonequity
options on stock indexes may constitute "straddle" transactions. "Straddles"
may affect the taxation of such instruments and may cause the postponement of
39
<PAGE>
recognition of losses incurred in certain closing transactions. Each of these
four Funds will also have available to the Fund a number of elections under the
Code concerning the treatment of option transactions for tax purposes. Each
such Fund will utilize the tax treatment that, in the Fund's judgment, will be
most favorable to a majority of investors in the Fund. Taxation of these
transactions will vary according to the elections made by the Fund. These tax
considerations may have an impact on investment decisions made by the Fund.
A Fund's transactions in options, under some circumstances, could preclude the
Fund's qualifying for the special tax treatment available to investment
companies meeting the requirements of Subchapter M of the Code. However, it is
the intention of each Fund's portfolio management to limit gains from such
investments to less than 10% of the gross income of the Fund during any fiscal
year in order to maintain this qualification.
OTHER ISSUES
Each Fund may be subject to tax or taxes in certain states where the Fund does
business. Furthermore, in those states which have income tax laws, the tax
treatment of a Fund and of Fund shareholders with respect to distributions by
the Fund may differ from Federal tax treatment.
Shareholders are urged to consult their own tax advisors regarding the
application of the provisions of tax law described in this Statement of
Additional Information in light of the particular tax situations of the
shareholders and regarding specific questions as to Federal, state, or local
taxes.
OTHER INFORMATION
VOTING RIGHTS
You receive one vote for every full Fund share owned. Each Fund or class of a
Fund will vote separately on matters relating solely to that Fund or class. All
shares of the Funds are freely transferable.
As a Delaware business trust, the Trust is not required to hold annual
Shareholder meetings unless otherwise required by the 1940 Act. However, a
meeting may be called by Shareholders owning at least 10% of the outstanding
shares of the Trust. If a meeting is requested by Shareholders, the Trust will
provide appropriate assistance and information to the Shareholders who requested
the meeting. Shareholder inquiries can be made by calling 1-800-820-0888 or
301-468-8520, or by writing to the Trust at 6116 Executive Boulevard, Suite 400,
Rockville, Maryland 20852.
REPORTING
You will receive the Trust's unaudited financial information and audited
financial statements. In addition, the Trust will send you proxy statements and
other reports. If you are a customer of a financial institution that has
purchased shares of a Fund for your account, you may, depending upon the nature
of your account, receive all or a portion of this information directly from your
financial institution.
SHAREHOLDER INQUIRIES
You may call 800-820-0888 or 301-468-8520 to obtain information on account
statements, procedures, and other related information.
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<PAGE>
COUNSEL
Morgan, Lewis & Bockius LLP, 1800 M Street, N.W., Washington, D.C. 20036, serves
as counsel to the Trust.
AUDITORS AND CUSTODIAN
Deloitte & Touche LLP, 117 Campus Drive, Princeton, New Jersey 08540, are the
auditors and the independent certified public accountants of the Trust and each
of the Funds. Star Bank, N.A. (the "Custodian"), Star Bank Center, 425 Walnut
Street, Cincinnati, Ohio 45202, serves as custodian for the Trust and the Funds
under a custody agreement between the Trust and the Custodian. Under the
custody agreement, the Custodian holds the portfolio securities of each Fund and
keeps all necessary related accounts and records.
FINANCIAL STATEMENTS
The financial statements for the for the Separate Account for the period ended
June 30, 1998, including notes thereto and the report of PricewaterhouseCoopers
have been filed with the SEC and are incorporated by reference into this
Statement of Additional Information.
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APPENDIX A
BOND RATINGS
Below is a description of Standard & Poor's Ratings Group ("Standard & Poor's")
and Moody's Investors Service, Inc. ("Moody's") bond rating categories.
STANDARD & POOR'S RATINGS
GROUP CORPORATE BOND RATINGS
AAA -- This is the highest rating assigned by Standard & Poor's to a debt
obligation and indicates an extremely strong capacity to pay principal and
interest.
AA -- Bonds rated "AA" also qualify as high-quality debt obligations. Capacity
to pay principal and interest is very strong, and in the majority of instances
they differ from "AAA" issues only in small degree.
A -- Bonds rated "A" have a strong capacity to pay principal and interest,
although they are somewhat more susceptible to the adverse effects of changes in
circumstances and economic conditions than bonds in higher rated categories.
BBB -- Bonds rated "BBB" are regarded as having an adequate capability to pay
principal and interest. Whereas they normally exhibit adequate protection
parameters, adverse economic conditions or changing circumstances are more
likely to lead to a weakened capacity to pay principal and interest for bonds in
this category than for bonds in higher rated categories.
BB -- Bonds rated "BB" have less near-term vulnerability to default than other
speculative issues. However, they face major ongoing uncertainties or exposure
to adverse business, financial, or economic conditions which could lead to
inadequate capacity to meet timely interest and principal payments.
B -- Bonds rated "B" have a greater vulnerability to default but currently have
the capacity to meet interest payments and principal repayments. Adverse
business, financial, or economic conditions will likely impair capacity or
willingness to pay interest and repay principal.
CCC -- Bonds rated "CCC" have a currently identifiable vulnerability to default
and are dependent upon favorable business, financial, and economic conditions to
meet timely payment of interest and repayment of principal. In the event of
adverse business, financial, or economic conditions, they are not likely to have
the capacity to pay interest and repay principal.
MOODY'S INVESTORS SERVICE, INC.
CORPORATE BOND RATINGS
Aaa -- Bonds rate "Aaa" are judged to be of the best quality. They carry the
smallest degree of investment risk and are generally referred to a "gilt-edged."
Interest payments are protected by a large or by an exceptionally stable margin,
and principal is secure. While the various protective elements are likely
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to change, such changes as can be visualized are most unlikely to impair the
fundamentally strong position of such issues.
Aa -- Bonds rate "Aa" are judged to be of high quality by all standards.
Together with the Aaa group, they comprise what are generally known as high
grade bonds. They are rated lower than the best bonds because margins of
protections may not be as large as in "Aaa" securities or fluctuation of
protective elements may be of greater amplitude or there may be other elements
present which make the long term risk appear somewhat larger than in "Aaa"
securities.
A -- Bonds rated "A" possess many favorable investment attributes, and are to be
considered as upper medium grade obligations. Factors giving security principal
and interest are considered adequate but elements may be present which suggest a
susceptibility to impairment sometime in the future.
Baa -- Bonds rated "Baa" are considered as medium grade obligations (I.E., they
are neither highly protected nor poorly secured). Interest payments and
principal security appear adequate for the present but certain protective
elements may be lacking or may be characteristically unreliable over any great
length of time. Such bonds lack outstanding investment characteristics and in
fact have speculative characteristics as well.
Ba -- Bonds rated "Ba" are judged to have speculative elements. Their future
cannot be considered as well assured. Often the protection of interest and
principal payments may be very moderate and thereby not well safeguarded during
both good and bad times over the future. Uncertainty of position characterizes
bonds in this class.
B -- Bonds rated "B" generally lack characteristics of the desirable investment.
Assurance of interest and principal payments or maintenance of other terms of
the contract over any longer period of time may be small.
Caa -- Bonds rated "Caa" are of poor standing. Such issues may be in default or
there may be present elements of danger with respect to principal or interest.
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