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SBL FUND
Members of The Security Benefit Group of Companies
700 SW Harrison, Topeka, Kansas 66636-0001
(785) 431-3127
(800) 888-2461
This Statement of Additional Information is not a Prospectus. It should be read
in conjunction with the SBL Fund Prospectus dated May 1, 2000, as it may be
supplemented from time to time. A Prospectus may be obtained by writing the
Fund, 700 SW Harrison, Topeka, Kansas 66636-0001, or by calling (785) 431-3127
or (800) 888-2461, ext. 3127.
STATEMENT OF ADDITIONAL INFORMATION
MAY 1, 2000, AS SUPPLEMENTED MAY 10, 2000
RELATING TO THE SBL FUND PROSPECTUS DATED MAY 1, 2000 AS IT MAY BE SUPPLEMENTED
FROM TIME TO TIME
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INVESTMENT MANAGER
Security Management Company, LLC
700 SW Harrison Street
Topeka, Kansas 66636-0001
CUSTODIANS
UMB Bank, N.A.
928 Grand Avenue
Kansas City, Missouri 64106
State Street Bank and Trust Company
225 Franklin
Boston, Massachusetts 02110
INDEPENDENT AUDITORS
Ernst & Young LLP
One Kansas City Place
1200 Main Street
Kansas City, Missouri 64105-2143
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TABLE OF CONTENTS
WHAT IS SBL FUND?........................................................... 3
INVESTMENT OBJECTIVES AND POLICIES OF THE SERIES............................ 3
Series A (Equity Series)................................................. 4
Series B (Large Cap Value Series)........................................ 4
Series C (Money Market Series)........................................... 5
Series D (Global Series)................................................. 7
Series E (Diversified Income Series)..................................... 9
Series G (Large Cap Growth Series)....................................... 10
Series H (Enhanced Index Series)......................................... 11
Series I (International Series).......................................... 13
Series J (Mid Cap Growth Series)......................................... 15
Series K (Global Strategic Income Series)................................ 16
Series L (Capital Growth Series)......................................... 21
Series M (Global Total Return Series).................................... 22
Series N (Managed Asset Allocation Series)............................... 23
Series O (Equity Income Series).......................................... 27
Series P (High Yield Series)............................................. 28
Series Q (Small Cap Value Series)........................................ 30
Series S (Social Awareness Series)....................................... 30
Series T (Technology Series)............................................. 31
Series V (Mid Cap Value Series).......................................... 32
Series W (Main Street Growth and Income(R) Series)....................... 33
Series X (Small Cap Growth Series)....................................... 33
Series Y (Select 25 Series).............................................. 35
INVESTMENT METHODS AND RISK FACTORS......................................... 35
American Depositary Receipts............................................. 36
Shares of Other Investment Companies..................................... 36
Repurchase Agreements.................................................... 36
Real Estate Securities................................................... 37
Debt Obligations......................................................... 38
Special Risks Associated with Low-Rated and
Comparable Unrated Debt Securities..................................... 38
Put and Call Options..................................................... 40
Trading in Futures....................................................... 44
Swaps, Caps, Floors and Collars.......................................... 50
Spread Transactions...................................................... 51
Hybrid Instruments....................................................... 51
Lending of Portfolio Securities.......................................... 52
Other Lending/Borrowing.................................................. 52
Zero Coupon Securities................................................... 52
When-Issued Securities................................................... 53
Mortgage-Backed Securities............................................... 53
Asset-Backed Securities.................................................. 54
Guaranteed Investment Contracts ("GICs")................................. 56
Restricted Securities.................................................... 56
Warrants................................................................. 56
Certain Risks of Foreign Investing....................................... 56
INVESTMENT POLICY LIMITATIONS............................................... 60
OFFICERS AND DIRECTORS...................................................... 61
REMUNERATION OF DIRECTORS AND OTHERS........................................ 63
SALE AND REDEMPTION OF SHARES............................................... 63
INVESTMENT MANAGEMENT....................................................... 64
Portfolio Management..................................................... 68
Code of Ethics........................................................... 70
PORTFOLIO TURNOVER.......................................................... 71
BROKERAGE ENHANCEMENT PLAN.................................................. 71
DETERMINATION OF NET ASSET VALUE............................................ 72
PORTFOLIO TRANSACTIONS...................................................... 73
DISTRIBUTIONS AND FEDERAL INCOME TAX CONSIDERATIONS......................... 74
Code Section 817(h) Diversification...................................... 75
Passive Foreign Investment Companies..................................... 75
Options, Futures and Forward Contracts and Swap Agreements............... 76
Market Discount.......................................................... 76
Original Issue Discount.................................................. 77
Constructive Sales....................................................... 77
Foreign Taxation......................................................... 77
Foreign Currency Transactions............................................ 77
Distributions............................................................ 77
Other Taxes.............................................................. 77
OWNERSHIP AND MANAGEMENT.................................................... 77
CAPITAL STOCK AND VOTING.................................................... 78
CUSTODIANS, TRANSFER AGENT AND DIVIDEND-PAYING AGENT........................ 78
INDEPENDENT AUDITORS........................................................ 78
PERFORMANCE INFORMATION..................................................... 78
FINANCIAL STATEMENTS........................................................ 80
APPENDIX A
Description of Short-Term Instruments.................................... 81
Description of Commercial Paper Ratings.................................. 81
Description of Corporate Bond Ratings.................................... 81
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WHAT IS SBL FUND?
SBL Fund (the "Fund"), a Kansas corporation, was organized by Security Benefit
Life Insurance Company ("SBL") on May 26, 1977, and serves as the investment
vehicle for certain SBL variable annuity and variable life insurance separate
accounts. Shares of the Fund will be sold to SBL for allocation to such separate
accounts which are established for the purpose of funding variable annuity and
variable life insurance contracts issued by SBL. The Fund reserves the right to
expand the class of persons eligible to purchase shares of any Series of the
Fund or to reject any offer.
The Fund is an open-end management investment company of the series type
registered under the Investment Company Act of 1940, which currently issues its
shares in twenty two series: Series A, Series B, Series C, Series D, Series E,
Series G, Series H, Series I, Series J, Series K, Series L, Series M, Series N,
Series O, Series P, Series Q, Series S, Series T, Series V, Series W, Series X
and Series Y ("Series"). The assets of each Series are held separate from the
assets of the other Series and each Series has investment objectives which
differ from those of the other Series.
SBL, organized originally as a fraternal benefit society under the laws of the
State of Kansas, commenced business February 22, 1892, and became a mutual life
insurance company under its present name on January 2, 1950. It became a stock
company under a mutual holding company structure on July 31, 1998. Its home
office is located at 700 SW Harrison Street, Topeka, Kansas 66636-0001. SBL is
licensed in the District of Columbia and all states except New York.
All investment companies are required to operate within the limitations imposed
by their fundamental investment policies. (See "Investment Objectives and
Policies of the Series," this page, and "Investment Policy Limitations," page
60.)
As an open-end investment company, the Fund provides an arrangement by which
investors may invest in a company which itself invests in securities. Each
Series represents a diversified securities portfolio (other than Series G and
Series T, which are non-diversified portfolios within the meaning of the
Investment Company Act of 1940) under professional management, and the value of
shares held by SBL's separate accounts will fluctuate with changes in the value
of the Series' portfolio securities. As an open-end company, the Fund is
obligated to redeem its shares upon demand at current net asset value. (See
"Sale and Redemption of Shares," page 63.)
Professional investment advice is provided to the Fund and to each Series by
Security Management Company, LLC (the "Investment Manager"), which is ultimately
controlled by SBL. The Investment Manager has engaged OppenheimerFunds, Inc.
("Oppenheimer") to provide investment advisory services to Series D and Series W
of the Fund. The Investment Manager has engaged Bankers Trust Company ("Bankers
Trust") to provide investment advisory services to Series H and I of the Fund.
The Investment Manager has engaged Wellington Management Company, LLP
("Wellington Management") to provide investment advisory services to Series K, M
and T of the Fund. The Investment Manager has engaged T. Rowe Price Associates,
Inc. ("T. Rowe Price") to provide investment advisory services to Series N and
O. The Investment Manager has engaged Strong Capital Management, Inc. ("Strong")
to provide investment advisory services to Series Q and X. The Investment
Manager has engaged Alliance Capital Management L.P. to provide investment
advisory services to Series L.
Pursuant to an investment advisory contract with the Fund, the Investment
Manager is paid an annual advisory fee of .75% of the average net assets of
Series A, Series B, Series E, Series H, Series S, Series J, Series K, Series P,
Series V and Series Y; .5% of the average net assets of Series C; 1.00% of the
average net assets of Series D, Series G, Series L, Series M, Series N, Series
O, Series Q, Series T, Series W and Series X; and 1.10% of the average net
assets of Series I, computed daily and payable monthly. The Investment Manager
has agreed that the total annual expenses of each Series (including the
management compensation but excluding brokerage commissions, interest, taxes and
extraordinary expenses) will not exceed any expense limitation imposed by any
state. (See page 64 for a discussion of the Investment Manager and the
Investment Advisory Contract.) The Fund also receives administrative, accounting
and transfer agency services from the Investment Manager for which the Fund pays
a fee.
INVESTMENT OBJECTIVES AND POLICIES OF THE SERIES
The investment objective and policies of each Series are described below. There
are risks inherent in the ownership of any security and there can be no
assurance that such objectives will be achieved. The objectives and policies,
except those enumerated under "Investment Policy Limitations," page 60, may be
modified at any time without stockholder approval.
To comply with regulations under Section 817(h) of the Internal Revenue Code,
each Series of the SBL Fund is required to diversify its investments so that on
the last day of each quarter of a calendar year no more than 55% of the value of
its assets is represented by securities of any one issuer, no more than 70% is
represented by securities of any two issuers, no more than 80% is represented by
securities of any three issuers, and no more than 90% is represented by
securities of any four issuers. As to U.S. Government securities, each U.S.
Government agency and instrumentality is to be treated as a separate issuer.
SERIES A (EQUITY SERIES) -- The investment objective of Series A is to seek
long-term capital growth by investing in those securities which, in the opinion
of the Investment Manager, have the most long-term capital growth potential.
Series A seeks to achieve its objective by investing primarily in a broadly
diversified portfolio of common stocks (which may include American Depositary
Receipts (ADRs) or securities with common stock characteristics, such as
securities convertible into common stocks. See the discussion of ADRs and the
risks associated with investing in ADRs under "Investment Methods and Risk
Factors." Series A may also invest in preferred stocks, bonds and other debt
securities. Income potential will be considered to the extent doing so is
consistent with Series A's investment objective of long-term capital growth.
Series A may invest its assets temporarily in cash and money market instruments
for defensive purposes. Series A invests for long-term growth of capital and
does not intend to place emphasis upon short-term trading profits.
Series A may invest in a variety of investment companies, including those that
seek to track the composition and performance of a specific index. Series A may
use these index-based investments as a way of managing its cash position, to
gain exposure to the equity markets, or a particular sector of the equity
market, while maintaining liquidity.
From time to time, Series A may purchase securities on a "when-issued" or
"delayed delivery basis" in excess of customary settlement periods for the type
of security involved. Securities purchased on a when-issued basis are subject to
market fluctuation and no interest or dividends accrue to the Series prior to
the settlement date. Series A will establish a segregated account with its
custodian bank in which it will maintain cash or liquid securities equal in
value to commitments for such when-issued or delayed delivery securities. Series
A may also invest up to 5% of its total assets in warrants (other than those
attached to other securities) which entitle the holder to buy equity securities
at a specific price during or at the end of a particular period. A warrant
ceases to have value if it is not exercised prior to its expiration date. Series
A may also invest in options and futures contracts.
SERIES B (LARGE CAP VALUE SERIES) -- The investment objective of Series B is to
provide long-term growth of capital with secondary emphasis on income. Assets of
the Series may be invested in various types of securities, which may include (i)
securities convertible into common stocks; (ii) preferred stocks; (iii) debt
securities issued by U.S. corporations; (iv) securities issued by the U.S.
Government or any of its agencies or instrumentalities, including Treasury
bills, certificates of indebtedness, notes and bonds; (v) securities issued by
foreign governments, their agencies, and instrumentalities, and foreign
corporations, provided that such securities are denominated in U.S. dollars;
(vi) higher yielding, high risk debt securities (commonly referred to as "junk
bonds") and zero coupon securities. In the selection of securities for
investment, the potential for appreciation and future dividends is given more
weight than current dividends. See the discussion of ADRs and the risks
associated with investing in ADRs under "Investment Methods and Risk Factors."
From time to time, Series B may purchase government bonds or commercial notes on
a temporary basis for defensive purposes.
With respect to its investment in debt securities, there is no percentage
limitation on the amount of Series B's assets that may be invested within any
particular rating classification. Series B may invest in higher yielding,
longer-term fixed-income securities in the lower rating (higher risk) categories
of the recognized rating services (commonly referred to as "junk bonds"). These
include securities rated Ba or lower by Moody's Investors Service, Inc. or BB or
lower by Standard & Poor's Corporation. Securities rated Ba or lower by Moody's
or BB or lower by Standard & Poor's are regarded as predominantly speculative
with respect to the ability of the issuer to meet principal and interest
payments. (See the Appendix for a description of the various bond ratings
utilized by the rating services.) However, the Investment Manager will not rely
principally on the ratings assigned by the rating services. Because Series B
will invest in lower rated securities and unrated securities of comparable
quality, the achievement of the Series' investment objective may be more
dependent on the Investment Manager's own credit analysis than would be true if
investing in higher rated securities.
To the extent that Series B invests in the high yield, high risk bonds described
above, its share price and yield are expected to fluctuate more than the share
price and yield of a fund investing in higher quality, shorter-term securities.
High yield bonds may be more susceptible to real or perceived adverse economic
and competitive industry conditions than investment grade bonds. A projection of
an economic downturn, or higher interest rates, for example, could cause a
decline in high yield bond prices because an advent of such events could lessen
the ability of highly leveraged companies to make principal and interest
payments on its debt securities. In addition, the secondary trading market for
high yield bonds may be less liquid than the market for higher grade bonds,
which can adversely affect the ability of the Series to dispose of its portfolio
securities. Bonds for which there is only a "thin" market can be more difficult
to value inasmuch as objective pricing data may be less available and judgment
may play a greater role in the valuation process. See the discussion of the
risks associated with investing in high yield bonds under "Investment Methods
and Risk Factors" - "Special Risks Associated with Low-Rated and Comparable
Unrated Bonds." The Series may purchase securities that are restricted as to
disposition under the federal securities laws, provided that such securities are
eligible for resale to qualified institutional investors pursuant to Rule 144A
under the Securities Act of 1933 and subject to the Series' policy that not more
than 10% of its net assets will be invested in illiquid securities. See
"Investment Methods and Risk Factors" - "Restricted Securities."
The Series may enter into futures contracts (a type of derivative) (or options
thereon) to hedge all or a portion of the portfolio, as an efficient means of
adjusting its exposure to the stock market or to increase returns. The Series
will not use futures contracts for leveraging purposes. The Series will limit
its use of futures contracts so that initial margin deposits or premiums on such
contracts used for non-hedging purposes will not equal more than 5% of the
Series' net asset value. The Series may also write call and put options on a
covered basis and purchase put and call options on securities and financial
indices. Futures contracts, options and the risks associated with such
instruments are described in further detail under "Investment Methods and Risk
Factors."
The Series may invest in real estate investment trusts ("REITs") and other real
estate industry investments. See the discussion of real estate securities under
"Investment Methods and Risk Factors."
The Series also may invest in zero coupon securities which are debt securities
that pay no cash income but are sold at substantial discounts from their face
value. Certain zero coupon securities also are sold at substantial discounts but
provide for the commencement of regular interest payments at a deferred date.
See "Investment Methods and Risk Factors" for a discussion of zero coupon
securities.
As discussed above, Series B may invest in foreign debt securities that are
denominated in U.S. dollars. Such foreign debt securities may include debt of
foreign governments, including Brady Bonds, and debt of foreign corporations.
The Series expects to limit its investment in foreign debt securities, excluding
Canadian securities, to not more than 15% of its total assets and its investment
in debt securities of issuers in emerging markets, excluding Brady Bonds, to not
more than 5% of its net assets. Many emerging market debt securities are not
rated by United States rating agencies such as Moody's and S&P and the majority
of emerging market debt securities are considered to have a credit quality below
investment grade. The Series' ability to achieve its investment objective is
thus more dependent on the credit analysis of the Series' Investment Manager
than would be the case if the Series were to invest only in higher quality
bonds. See the discussion of the risks associated with investing in foreign
securities, emerging markets, and Brady Bonds under "Investment Methods and Risk
Factors."
SERIES C (MONEY MARKET SERIES) -- The investment objective of Series C is to
seek as high a level of current income as is consistent with preservation of
capital. The Series will attempt to achieve its objective by investing at least
95% of its total assets, measured at the time of investment, in a diversified
portfolio of highest quality money market instruments. The Series may also
invest up to 5% of its total assets, measured at the time of investment, in
money market instruments that are in the second-highest rating category for
short-term debt obligations. The Series may invest in money market instruments
with maturities of not longer than thirteen months, consisting of the following:
U.S. GOVERNMENT SECURITIES. Obligations issued or guaranteed (as to principal or
interest) by the United States Government or its agencies (such as the Small
Business Administration, the Federal Housing Administration and Government
National Mortgage Association), or instrumentalities (such as Federal Home Loan
Banks and Federal Land Banks), and instruments fully collateralized with such
obligations, such as repurchase agreements.
Some U.S. Government securities, such as treasury bills and bonds, are supported
by the full faith and credit of the U.S. Treasury; others are supported by the
right of the issuer to borrow from the Treasury; others, such as those of the
Federal National Mortgage Association, are supported by the discretionary
authority of the U.S. Government to purchase the agency's obligations; still
others such as those of the Student Loan Marketing Association, are supported
only by the credit of the instrumentality.
BANK OBLIGATIONS. Obligations of banks or savings and loan associations that are
members of the Federal Deposit Insurance Corporation, and instruments fully
collateralized with such obligations, such as repurchase agreements.
CORPORATE OBLIGATIONS. Commercial paper issued by corporations and rated Prime-1
or Prime-2 by Moody's Investors Service, Inc. or A-1 or A-2 by Standard & Poor's
Corporation, or other corporate debt instruments rated Aaa or Aa or better by
Moody's or AAA or AA or better by Standard & Poor's, subject to the limitations
on investment in instruments in the second-highest rating category, discussed
below. (See the Appendix for a description of the commercial paper and corporate
bond ratings.)
Series C may invest in instruments having rates of interest that are adjusted
periodically according to a specified market rate for such investments
("Variable Rate Instruments"). The interest rate on a Variable Rate Instrument
is ordinarily determined by reference to, or is a percentage of, an objective
standard such as a bank's prime rate or the 91-day U.S. Treasury Bill rate. The
Series does not purchase certain Variable Rate Instruments that have a preset
cap above which the rate of interest may not rise. Generally, the changes in the
interest rate on Variable Rate Instruments reduce the fluctuation in the market
value of such securities. Accordingly, as interest rates decrease or increase,
the potential for capital appreciation or depreciation is less than for
fixed-rate obligations. Series C determines the maturity of Variable Rate
Instruments in accordance with Rule 2a-7 under the Investment Company Act of
1940 which generally allows the Series to consider the maturity date of such
instruments to be the period remaining until the next readjustment of the
interest rate rather than the maturity date on the face of the instrument.
Series C may also invest in guaranteed investment contracts ("GICs") issued by
insurance companies subject to the Series' policy that not more than 10% of the
total net assets will be invested in illiquid securities. See "Investment
Methods and Risk Factors" for a discussion of GICs.
Certain of the securities acquired by Series C may be restricted as to
disposition under federal securities laws, provided that such restricted
securities are eligible for resale pursuant to Rule 144A under the Securities
Act of 1933. Rule 144A, adopted by the Securities and Exchange Commission in
1990, provides a nonexclusive safe harbor exemption from the registration
requirements of the Securities Act for the resale of certain securities to
certain qualified buyers. One of the primary purposes of the Rule is to create
resale liquidity for certain securities that would otherwise be treated as
illiquid investments. In accordance with its investment policies, the Fund is
not permitted to invest more than 10% of its total net assets in illiquid
securities. The Investment Manager, under procedures adopted by the Board of
Directors, will determine whether securities eligible for resale under Rule 144A
are liquid or not. Investing in Rule 144A securities may have the effect of
increasing the amount of the Series' assets invested in illiquid assets. See
"Investment Methods and Risk Factors" - "Restricted Securities."
Series C may invest only in U.S. dollar denominated money market instruments
that present minimal credit risk and, with respect to 95% of its total assets,
measured at the time of investment, that are of the highest quality. The
Investment Manager will determine whether a security presents minimal credit
risk under procedures adopted by the Fund's Board of Directors. A security will
be considered to be highest quality (1) if rated in the highest rating category,
(e.g., Aaa or Prime-1 by Moody's or AAA or A-1 by Standard & Poor's) by (i) any
two nationally recognized statistical rating organizations ("NRSRO's") or, (ii)
if rated by only one NRSRO, by that NRSRO; (2) if issued by an issuer that has
short-term debt obligations of comparable maturity, priority, and security and
that are rated in the highest rating category by (i) any two NRSRO's or, (ii) if
rated by only one NRSRO, by that NRSRO; or (3) an unrated security that is of
comparable quality to a security in the highest rating category as determined by
the Investment Manager and whose acquisition is approved or ratified by the
Board of Directors. With respect to 5% of its total assets, measured at the time
of investment, the Series may also invest in money market instruments that are
in the second-highest rating category for short-term debt obligations (e.g.,
rated Aa or Prime-2 by Moody's or AA or A-2 by S&P). A money market instrument
will be considered to be in the second-highest rating category under the
criteria described above with respect to instruments considered highest quality,
as applied to instruments in the second-highest rating category.
Series C may not invest more than 5% of its total assets, measured at the time
of investment, in the securities of any one issuer that are of the highest
quality or more than the greater of 1% of its total assets or $1,000,000,
measured at the time of investment, in securities of any one issuer that are in
the second-highest rating category, except that these limitations shall not
apply to U.S. Government securities. The Series may exceed the 5% limitation for
up to three business days after the purchase of the securities of any one issuer
that are of the highest quality, provided that the Series has no more than one
such investment outstanding at any time. In the event that an instrument
acquired by the Series is downgraded, the Investment Manager, under procedures
approved by the Board of Directors, (or the Board of Directors itself if the
Investment Manager becomes aware that a security has been downgraded below the
second-highest rating category and the Investment Manager does not dispose of
the security within five business days) shall promptly reassess whether such
security presents minimal credit risk and determine whether or not to retain the
instrument. In the event that an instrument is acquired by the Series that
ceases to be eligible for the Series, the Investment Manager will promptly
dispose of such security in an orderly manner, unless the Board of Directors
determines that this would not be in the best interests of the Series.
While Series C does not intend to engage in short-term trading, portfolio
securities may be sold without regard to the length of time that they have been
held. A portfolio security could be sold prior to maturity to take advantage of
new investment opportunities or yield differentials, or to preserve gains or
limit losses due to changed economic conditions or the financial condition of
the issuer, or for other reasons.
Series C will invest in money market instruments of varying maturities (but no
longer than 13 months) in an effort to earn as high a level of current income as
is consistent with preservation of capital and liquidity. While investing only
in high quality money market instruments, investment in Series C is not without
risk. The market value of fixed income securities is generally affected by
changes in the level of interest rates. An increase in interest rates will
generally reduce the market value of fixed income investments, and a decline in
interest rates will generally increase their value. Instruments with longer
maturities are subject to greater fluctuations in value from general interest
rate changes than are shorter term issues. Such market value changes could cause
changes in the net asset value per share. (See "Determination of Net Asset
Value," page 72.) To reduce the effect of fluctuating interest rates on the net
asset value of its shares, Series C intends to maintain a weighted average
maturity in its portfolio of not more than 90 days. In addition to general
market risks, Series C's investments in non-government obligations are subject
to the ability of the issuer to satisfy its obligations. See the Appendix for a
description of the principal types of securities and instruments in which Series
C will invest.
SERIES D (GLOBAL SERIES) -- The investment objective of Series D is to seek
long-term growth of capital primarily through investment in common stocks and
equivalents of companies domiciled in foreign countries and the United States.
Series D will seek to achieve its objective through investment in a diversified
portfolio of securities which will consist primarily of all types of common
stocks, which may include ADRs, and equivalents (the following constitute
equivalents: convertible debt securities, warrants and options). See "Investment
Methods and Risk Factors" - "American Depositary Receipts." Series D may also
invest in preferred stocks, bonds and other debt obligations, which include
money market instruments of foreign and domestic companies and U.S. Government
and foreign governments, governmental agencies and international organizations.
The Series may also invest in real estate investment trusts (REITs). For a full
description of the Series' investment objective and policies, see the
Prospectus.
Certain of the securities purchased by Series D may be restricted as to
disposition under the federal securities laws, provided that such restricted
securities are eligible for resale to qualified institutional investors pursuant
to Rule 144A under the Securities Act of 1933 and subject to the Fund's policy
that not more than 10% of total net assets will be invested in illiquid
securities. The Investment Manager, under procedures adopted by the Board of
Directors, will determine whether securities eligible for resale under Rule 144A
are liquid or not. In making this determination, the Investment Manager, under
the supervision of the Board of Directors, will consider trading markets for the
specific security taking into account the unregistered nature of a Rule 144A
security. In addition, the Investment Manager may consider: (1) the frequency of
trades and quotes; (2) the number of dealers and potential purchasers; (3)
dealer undertakings to make a market; and (4) the nature of the security and of
the marketplace trades (e.g. the time needed to dispose of the security, the
method of soliciting offers and the mechanics of transfer). The liquidity of
Rule 144A securities will be monitored and if as a result of changed conditions
it is determined that a Rule 144A security is no longer liquid, Series D's
holdings of illiquid securities will be reviewed to determine what, if any,
steps are required to assure that it does not invest more than 10% of its net
assets in illiquid securities. Investing in Rule 144A securities could have the
effect of increasing the amount of the Series' assets invested in illiquid
securities, and there may be undesirable delays in selling illiquid securities.
See "Investment Methods and Risk Factors" - "Restricted Securities."
In seeking to achieve its investment objective, Series D can, but is not
required, to engage in the following investment practices:
TRANSACTION HEDGING. When Series D enters into contracts for purchase or sale of
a portfolio security denominated in a foreign currency, it may be required to
settle a purchase transaction in the relevant foreign currency or receive the
proceeds of a sale in that currency. In either event, Series D will be obligated
to acquire or dispose of such foreign currency as is represented by the
transaction by selling or buying an equivalent amount of United States dollars.
Furthermore, the Series may wish to "lock in" the United States dollar value of
the transaction at or near the time of a purchase or sale of portfolio
securities at the exchange rate or rates then prevailing between the United
States dollar and the currency in which the foreign security is denominated.
Therefore, Series D can, for a fixed amount of United States dollars, enter into
a forward foreign exchange contract for the purchase or sale of the amount of
foreign currency involved in the underlying securities transaction. In so doing,
Series D will attempt to insulate itself against possible losses and gains
resulting from a change in the relationship between the United States dollar and
the foreign currency during the period between the date a security is purchased
or sold and the date on which payment is made or received. This process is known
as "transaction hedging." To effect the translation of the amount of foreign
currencies involved in the purchase and sale of foreign securities and to effect
the "transaction hedging" described above, Series D can purchase or sell foreign
currencies on a "spot" (i.e. cash) basis or on a forward basis whereby the
Series purchases or sells a specific amount of foreign currency, at a price set
at the time of the contract, for receipt of delivery at a specified date which
may be any fixed number of days in the future.
Such spot and forward foreign exchange transactions may also be utilized to
reduce the risk inherent in fluctuations in the exchange rate between the United
States dollar and the relevant foreign currency when foreign securities are
purchased or sold for settlement beyond customary settlement time (as described
below). Neither type of foreign currency transaction will eliminate fluctuations
in the prices of Series D's portfolio or securities or prevent loss if the price
of such securities should decline.
PORTFOLIO HEDGING. Some or all of Series D's portfolio will be denominated in
foreign currencies. As a result, in addition to the risk of change in the market
value of portfolio securities, the value of the portfolio in United States
dollars is subject to fluctuations in the exchange rate between such foreign
currencies and the United States dollar. When, in the opinion of the Series'
Sub-Adviser, OppenheimerFunds, Inc. ("Oppenheimer"), it is desirable to limit or
reduce exposure in a foreign currency in order to moderate potential changes in
the United States dollar value of the portfolio, Series D can enter into a
forward foreign currency exchange contract by which the United States dollar
value of the underlying foreign portfolio securities can be approximately
matched by an equivalent United States dollar liability. This technique is known
as "portfolio hedging" and moderates or reduces the risk of change in the United
States dollar value of the Series' portfolio only during the period before the
maturity of the forward contract (which will not be in excess of one year).
Series D, for hedging purposes only, can also enter into forward currency
exchange contracts to increase its exposure to a foreign currency that
Oppenheimer expects to increase in value relative to the United States dollar.
Series D will not attempt to hedge all of its foreign portfolio positions and
will enter into such transactions only to the extent, if any, deemed appropriate
by Oppenheimer. Hedging against a decline in the value of currency does not
eliminate fluctuations in the prices of portfolio securities or prevent losses
if the prices of such securities decline. The Series seeks to limit its exposure
in foreign currency exchange contracts in a particular foreign currency to the
amount of its assets denominated in that currency or a closely-correlated
currency. The precise matching of the amounts under forward contracts and the
value of its securities involved will not be possible because the future value
of securities denominated in foreign currencies will change as a consequence of
market movements between the date the forward contract is entered into and the
date it is sold.
FORWARD COMMITMENTS. Series D may make contracts to purchase securities for a
fixed price at a future date beyond customary settlement time ("forward
commitments") because new issues of securities are typically offered to
investors, such as Series D, on that basis. Forward commitments involve a risk
of loss if the value of the security to be purchased declines prior to the
settlement date. This risk is in addition to the risk of decline in value of
Series D's other assets. Although the Series will enter into such contracts with
the intention of acquiring the securities, Series D may dispose of a commitment
prior to settlement if Oppenheimer deems it appropriate to do so. Series D may
realize short-term profits or losses upon the sale of forward commitments.
COVERED CALL OPTIONS. The Series can buy and sell certain kinds of put and call
options. Series D may write only covered call options. Since it can be expected
that a call option will be exercised if the market value of the underlying
security increases to a level greater than the exercise price, this strategy
will generally be used when Oppenheimer believes that the call premium received
by the Series, plus anticipated appreciation in the price of the underlying
security, up to the exercise price of the call, will be greater than the
appreciation in the price of the security. Up to 25% of the Series' total assets
may be subject to written calls. Series D can purchase put and call options
written by others. Series D intends to limit such transactions to less than 5%
of total Series assets. See the discussion of writing covered call options under
"Investment Methods and Risk Factors."
SERIES E (DIVERSIFIED INCOME SERIES) -- The investment objective of Series E is
to provide current income with security of principal. In pursuing its investment
objective, the Series will invest in a broad range of debt securities, including
(i) securities issued by U.S. and Canadian corporations; (ii) securities issued
or guaranteed by the U.S. government or any of its agencies or
instrumentalities, including Treasury bills, certificates of indebtedness, notes
and bonds; (iii) securities issued or guaranteed by the Dominion of Canada or
provinces thereof; (iv) securities issued by foreign governments, their agencies
and instrumentalities, and foreign corporations, provided that such securities
are denominated in U.S. dollars; (v) higher yielding, high risk debt securities
(commonly referred to as "junk bonds"); (vi) certificates of deposit issued by a
U.S. branch of a foreign bank ("Yankee CDs"); (vii) investment grade
mortgage-backed securities ("MBSs"); (viii) investment grade asset-backed
securities; (ix) zero coupon securities and (x) interest rate and total return
swap agreements. It is anticipated that the Series will maintain a dollar
weighted average duration of 4 to 10 years.
Series E may invest in corporate debt securities rated Baa or higher by Moody's
or BBB or higher by S&P at the time of purchase, or if unrated, of equivalent
quality as determined by the Investment Manager. See Appendix A for a
description of corporate bond ratings. Included in such securities may be
convertible bonds or bonds with warrants attached which are rated at least Baa
or BBB at the time of purchase, or if unrated, of equivalent quality as
determined by the Investment Manager. A "convertible bond" is a bond, debenture
or preferred share which may be exchanged by the owner for common stock or
another security, usually of the same company, in accordance with the terms of
the issue. A "warrant" confers upon its holder the right to purchase an amount
of securities at a particular time and price. Securities rated Baa by Moody's or
BBB by S&P have speculative characteristics.
Series E may invest up to 25% of its net assets in higher yielding debt
securities in the lower rating (higher risk) categories of the recognized rating
services (commonly referred to as "junk bonds"). Such securities include
securities rated Ba or lower by Moody's or BB or lower by S&P and are regarded
as predominantly speculative with respect to the ability of the issuer to meet
principal and interest payments. The Series will not invest in junk bonds which
are rated in default at the time of purchase. See "Investment Methods and Risk
Factors" for a discussion of the risks associated with investing in such
securities.
U.S. Government securities are obligations of or guaranteed by the U.S.
Government, its agencies or instrumentalities. These include bills, certificates
of indebtedness, notes and bonds issued by the Treasury or by agencies in
instrumentalities of the U.S. Government. Some U.S. Government securities, such
as Treasury bills and bonds, are supported by the full faith and credit of the
U.S. Treasury, others are supported by the right of the issuer to borrow from
the Treasury; others, such as those of the Federal National Mortgage
Association, are supported by the discretionary authority of the U.S. Government
to purchase the agency's obligations; still others, such as those of the Student
Loan Marketing Association, are supported only by the credit of the
instrumentality. Although U.S. Government securities are guaranteed by the U.S.
Government, its agencies or instrumentalities, shares of the Fund are not so
guaranteed in any way. The diversification rules under Section 817(h) of the
Internal Revenue Code limit the ability of Series E to invest more than 55% of
its assets in the securities of any one U.S. Government agency or
instrumentality.
Series E may purchase securities which are obligations of, or guaranteed by, the
Dominion of Canada or provinces thereof, and Canadian corporate debt securities.
Canadian securities would not be purchased if subject to the foreign interest
equalization tax and unless payable in U.S. dollars.
For fixed-income securities such as corporate debt securities or U.S. Government
securities, the market value is generally affected by changes in the level of
interest rates. An increase in interest rates will tend to reduce the market
value of fixed-income investments, and a decline in interest rates will tend to
increase their value. In addition, debt securities with longer maturities, which
tend to produce higher yields, are subject to potentially greater capital
appreciation and depreciation than obligations with shorter maturities.
Series E may invest in Yankee CDs which are certificates of deposit issued by a
U.S. branch of a foreign bank denominated in U.S. dollars and held in the U.S.
Yankee CDs are subject to somewhat different risks than are the obligations of
domestic banks. The Series also may invest in debt securities issued by foreign
governments, their agencies and instrumentalities and foreign corporations,
provided that such securities are denominated in U.S. dollars. The Series'
investments in foreign securities, including Canadian securities, will not
exceed 25% of the Series' net assets. See "Investment Methods and Risk Factors"
for a discussion of the risks associated with investing in foreign securities.
Series E may invest without limit in investment grade mortgage-backed securities
(MBSs), including mortgage pass-through securities and collateralized mortgage
obligations (CMOs). The Series may invest up to 10% of its net assets in
securities known as "inverse floating obligations," "residual interest bonds,"
or "interest-only" (IO) or "principal-only" (PO) bonds, the market values of
which generally will be more volatile than the market values of most MBSs. For a
discussion of MBSs and the risks associated with such securities, see
"Investment Methods and Risk Factors." Series E may also invest without limit in
investment grade asset-backed securities. For a discussion of the different
types of asset-backed securities and their associated risks, see "Investment
Methods and Risk Factors."
The Series may enter into interest rate and total return swap agreements. Series
E may buy and sell futures contracts, exchange-traded and over-the-counter put
and call options, including index options, securities options, and options on
futures, provided that a call or put may be purchased only if after such
purchase, the value of all call and put options held by the Series will not
exceed 5% of the Series' total assets. The Series may write only covered put and
call options.
The Series may invest in zero coupon securities which are debt securities that
pay no cash income but are sold at substantial discounts from their face value.
Certain zero coupon securities also are sold at substantial discounts but
provide for the commencement of regular interest payments at a deferred date.
See "Investment Methods and Risk Factors" for a discussion of zero coupon
securities.
Series E may acquire certain securities that are restricted as to disposition
under the federal securities laws, including securities that are eligible for
resale to qualified institutional investors pursuant to Rule 144A under the
Securities Act of 1933, subject to the Series' policy that not more than 15% of
the Series' net assets will be invested in illiquid assets. See "Investment
Methods and Risk Factors" for a discussion of restricted securities.
Series E may purchase securities on a "when-issued" or "delayed delivery basis"
in excess of customary settlement periods for the types of security involved.
For a discussion of such securities, see "Investment Methods and Risk Factors" -
"When-Issued Securities."
Series E may, for defensive purposes, invest part or all of its assets in money
market instruments such as those appropriate for investment by Series C.
SERIES G (LARGE CAP GROWTH SERIES) -- The investment objective of Series G is
long-term capital growth. It pursues this objective by primarily investing in
common stock and other equity securities of large capitalization companies that,
in the opinion of the Investment Manager, have long-term capital growth
potential. The Series invests primarily in a portfolio of common stocks, which
may include American Depositary Receipts ("ADRs") or securities with common
stock characteristics, such as securities convertible into common stocks. The
Series also may invest in preferred stocks, bonds and other debt securities.
Since investments are made based on their potential for long-term capital
growth, any current income that the Series may earn is expected to be incidental
to the objective of long-term capital growth. Series G invests for long-term
growth of capital and does not intend to place emphasis upon short-term trading
profits. The Series defines large capitalization companies as those whose total
market value is at least $5 billion at the time of purchase. The Series is
non-diversified within the meaning of the Investment Company Act of 1940, which
means that it may hold a larger position in a smaller number of securities than
a diversified series. In addition, Series G is permitted to concentrate its
investments in a particular industry or group of industries, though it has no
present intention to do so.
The Investment Manager uses a growth-oriented strategy to choose stocks, which
means that is invests in companies whose earnings are believed to be in a
relatively strong growth trend. In identifying companies with favorable growth
prospects, the Investment Manager considers factors such as prospects for
above-average sales and earnings growth; high return on invested capital;
overall financial strength; competitive advantages, including innovative
products and services; effective research, product development and marketing;
and stable, capable management.
To manage risk in declining or volatile markets, the Investment Manager may
invest more in cash, fixed-income securities and stocks that provide income.
Fixed-income securities include U.S. government securities, foreign debt
securities that are denominated in U.S. dollars and high yield securities (also
referred to as "junk bonds"). Although the Series would do this only in seeking
to avoid losses, the Series may be unable to pursue its investment objective
during that time, and it could reduce the benefit from any upswing in the
market.
Series G may purchase securities that have not been registered under the federal
securities laws, provided that the securities are eligible for resale pursuant
to Rule 144A.
The Series may enter into futures contracts (a type of derivative) (or options
thereon) to hedge all or a portion of its portfolio or as an efficient means of
adjusting its exposure to the stock market or to increase returns. The Series
may also write call and put options on a covered basis and purchase put and call
options on securities and financial indices.
From time to time, the Series may purchase securities on a "when-issued" or
"delayed delivery" basis in excess of customary settlement periods for the type
of security involved. Securities purchased on a when-issued basis are subject to
market fluctuation and no interest or dividends accrue to the Series prior to
the settlement date. The Series will establish a segregated account with its
custodian bank in which it will maintain cash or liquid securities equal in
value to commitments for such when-issued or delayed delivery securities. The
Series also may invest in warrants (other than those attached to other
securities) which entitle the holder to buy equity securities at a specific
price during or at the end of a particular period. A warrant ceases to have
value if it is not exercised prior to its expiration date. For a discussion of
the risks associated with the securities and investment techniques available to
Series G, see the "Investment Methods and Risk Factors" section of this
statement of additional information.
SERIES H (ENHANCED INDEX SERIES) -- The investment objective of the Series is to
outperform the Standard & Poor's 500 Composite Stock Price index (the "S&P
500(R) Index") through stock selection resulting in different weightings of
common stocks relative to the index.
The Series will primarily include the common stock of companies included in the
S&P 500. The S&P 500 is an index of 500 common stocks, most of which trade on
the New York Stock Exchange Inc. (the "NYSE"). The Sub-Adviser, Bankers Trust
Company, believes that the S&P 500 is representative of the performance of
publicly traded common stocks in the U.S. in general.
In seeking to outperform the S&P 500, the Sub-Adviser starts with a portfolio of
stocks representative of the holdings of the index. It then uses a set of
quantitative criteria that are designed to indicate whether a particular stock
will predictably generate returns that will exceed or be less than the
performance of the S&P 500. Based on these criteria, the Sub-Adviser determines
whether the Series should overweight, underweight or hold a neutral position in
the stock relative to the proportion of the S&P 500 that the stock represents.
While the majority of the issues held by the Series will have neutral weightings
to the S&P 500, approximately 100 will be over or underweighted relative to the
index. In addition, the Sub-Adviser may determine based on the quantitative
criteria that certain S&P 500 stocks should not be held by the Series in any
amount. As an operating policy, under normal market conditions, the Series will
invest at least 80% of its assets in equity securities of companies in the index
and in futures contracts representative of the stocks in the index. The
Sub-Adviser intends to monitor the sector and security weightings of the Series
relative to the composition of the S&P 500 Index. As noted in the prospectus,
the Sub-Adviser will overweight and underweight securities in the index based on
whether they believe a stock will generate returns that will exceed or be less
than the index. While the Series seeks to modestly outperform the S&P 500 Index,
the Series expects that its returns will have a coefficient correlation of .90%
to the S&P 500 Index. The Sub-Adviser believes that the various quantitative
criteria used to determine which issues to over or underweight will balance each
other so that the overall risk of the Series will not be materially different
than risk of the S&P 500 itself.
The Sub-Adviser will not purchase the stock of its parent company, Bankers Trust
New York Corporation, which is included in the S&P 500.
ABOUT THE S&P 500. The S&P 500 is a well-known stock market index that includes
common stocks of 500 companies from several industrial sectors representing a
significant portion of the market value of all common stocks publicly traded in
the United States, most of which are listed on the NYSE. Stocks in the S&P 500
are weighted according to their market capitalization (i.e., the number of
shares outstanding multiplied by the stock's current price). The composition of
the S&P 500 is determined by S&P and is based on such factors as the market
capitalization and trading activity of each stock and its adequacy as a
representation of stocks in a particular industry group, and may be changed from
time to time. "Standard & Poor's(R)", "S&P 500(R)", "Standard & Poor's 500", and
"500" are trademarks of the McGraw-Hill Companies, Inc.
The Series is not sponsored, endorsed, sold or promoted by Standard & Poor's, a
division of the McGraw-Hill Companies, Inc. ("S&P").
INVESTMENT CONSIDERATIONS. The Series may be appropriate for investors who are
willing to endure stock market fluctuations in pursuit of potentially higher
long-term returns. The Series invests primarily for growth. The Series is
intended to be a long-term investment vehicle and is not designed to provide
investors with a means of speculating on short-term market movements.
As a mutual fund investing primarily in common stocks, the Series is subject to
market risk--i.e., the possibility that common stock prices will decline over
short or even extended periods. The U.S. stock market tends to be cyclical, with
periods when stock prices generally rise and periods when prices generally
decline.
As a diversified mutual fund, no more than 5% of the assets of the Series may be
invested in the securities of one issuer (other than U.S. Government
Securities), except that up to 25% of the Series' assets may be invested without
regard to this limitation. The Series will not invest more than 25% of its
assets in the securities of issuers in any one industry. In the unlikely event
that the S&P 500 should concentrate to an extent greater than that amount, the
Series' ability to achieve its objective may be impaired. No more than 15% of
the Portfolio's net assets may be invested in illiquid or not readily marketable
securities (including repurchase agreements and time deposits with maturities of
more than seven days).
The Fund may maintain up to 25% of its assets in short-term debt securities and
money market instruments to meet redemption requests or to facilitate investment
in the securities of the S&P 500. Securities index futures contracts and related
options, warrants and convertible securities may be used for several reasons: to
simulate full investment in the S&P 500 while retaining a cash fund for
management purposes, to facilitate trading, to reduce transaction costs or to
seek higher investment returns when a futures contract, option, warrant or
convertible security is priced more attractively than the underlying equity
security or S&P 500. These instruments may be considered derivatives. See
"Investment Methods and Risk Factors" for more information about futures,
options and warrants.
The following discussion contains more detailed information about types of
instruments in which the Series may invest and strategies the Sub-Adviser may
employ in pursuit of the Series' investment objective.
OTHER EQUITY SECURITIES. As part of one of the strategies used to outperform the
S&P 500, the Series may invest in the equity securities of companies that are
not included in the S&P 500. These equity securities may include securities of
companies that are the subject of publicly announced acquisitions or other major
corporate transactions. Securities of some of these companies may perform much
like a fixed income investment because the market anticipates that the
transaction will likely be consummated, resulting in a cash payment for the
securities. In such cases, the Series may enter into securities index futures
contracts and/or related options as described in this statement of additional
information in order to maintain its exposure to the equity markets when
investing in these companies. While this strategy is intended to generate
additional gains for the Series without materially increasing the risk to which
the Series is subject, there can be no assurance that the strategy will achieve
its intended results.
SHORT-TERM INSTRUMENTS. When the Series experiences large cash inflows through
the sale of securities and desirable equity securities that are consistent with
the Series' investment objective are unavailable in sufficient quantities or at
attractive prices, the Series may hold short-term investments for a limited time
pending availability of such equity securities. Short-term instruments consist
of: (i) short-term obligations issued or guaranteed by the U.S. Government or
any of its agencies or instrumentalities or by any of the states; (ii) other
short-term debt securities rated AA or higher by S&P or Aa or higher by Moody's
or, if unrated, of comparable quality in the opinion of the Sub-Adviser; (iii)
commercial paper; (iv) bank obligations, including negotiable certificates of
deposit, time deposits and bankers' acceptances; and (v) repurchase agreements.
At the time the Series invests in commercial paper, bank obligations or
repurchase agreements, the issuer or the issuer's parent must have outstanding
debt rated AA or higher by S&P or Aa or higher by Moody's or outstanding
commercial paper or bank obligations rated A-1 by S&P or Prime-1 by Moody's; or,
if no such ratings are available, the instrument must be of comparable quality
in the opinion of the Sub-Adviser.
U.S. GOVERNMENT OBLIGATIONS. The Series may invest in obligations issued or
guaranteed by U.S. Government, its agencies or instrumentalities. These
obligations may or may not be backed by the "full faith and credit" of the
United States. In the case of securities not backed by the full faith and credit
of the United States, the Series must look principally to the federal agency
issuing or guaranteeing the obligation for ultimate repayment, and may not be
able to assert a claim against the United States itself in the event the agency
or instrumentality does not meet its commitments. Securities in which the Series
may invest that are not backed by the full faith and credit of the United States
include, but are not limited to, obligations of the Tennessee Valley Authority,
the Federal Home Loan Mortgage Corporation and the U.S. Postal Service, each of
which has the right to borrow from the U.S. Treasury to meet its obligations,
and obligations of the Federal Farm Credit System and the Federal Home Loan
Banks, both of whose obligations may be satisfied only by the individual credits
of each issuing agency. Securities which are backed by the full faith and credit
of the United States include obligations of the Government National Mortgage
Association, the Farmers Home Administration, and the Export-Import Bank.
WHEN-ISSUED AND DELAYED DELIVERY SECURITIES. The Series may purchase securities
on a when-issued or delayed delivery basis. For example, delivery of and payment
for these securities can take place a month or more after the date of the
purchase commitment. The purchase price and the interest rate payable, if any,
on the securities are fixed on the purchase commitment date or at the time the
settlement date is fixed. The value of such securities is subject to market
fluctuation and no interest accrues to the Portfolio until settlement takes
place. See "Investment Methods and Risk Factors" - "When Issued Securities" for
more information.
EQUITY INVESTMENTS. The Series may invest in equity securities listed on any
domestic securities exchange or traded in the over-the-counter market as well as
certain restricted or unlisted securities. They may or may not pay dividends or
carry voting rights. Common stock occupies the most junior position in a
company's capital structure.
REVERSE REPURCHASE AGREEMENTS. The Series may borrow for temporary or emergency
purposes, such as meeting larger than anticipated redemption requests, and not
for leverage, by among other things, agreeing to sell portfolio securities to
financial institutions such as banks and broker-dealers and to repurchase them
at a mutually agreed date and price (a "reverse repurchase agreement"). At the
time the Series enters into a reverse repurchase agreement it will place in a
segregated custodial account cash or other liquid assets having a value equal to
the repurchase price, including accrued interest. Reverse repurchase agreements
involve the risk that the market value of the securities sold by the Series may
decline below the repurchase price of those securities. Reverse repurchase
agreements are considered to be borrowings by the Series.
CONVERTIBLE SECURITIES. Convertible securities may be debt securities or
preferred stocks that may be converted into common stock or that carry the right
to purchase common stock. Convertible securities entitle the holder to exchange
the securities for a specified number of shares of common stock, usually of the
same company, at specified prices within a certain period of time.
The terms of any convertible security determine its ranking in a company's
capital structure. In the case of subordinated convertible debentures, the
holders' claims on assets and earnings are subordinated to the claims of other
creditors, and are senior to the claims of preferred and common shareholders. In
the case of preferred stock, the holders' claims on assets and earnings are
subordinated to the claims of all creditors and are senior to the claims of
common shareholders.
DERIVATIVES. The Series may invest in various instruments that are commonly
known as derivatives. Generally, a derivative is a financial arrangement, the
value of which is based on, or "derived" from, a traditional security, asset, or
market index. Some "derivatives" such as mortgage-related and other asset-backed
securities are in many respects like any other investment, although they may be
more volatile or less liquid than more traditional debt securities. There are,
in fact, many different types of derivatives and many different ways to use
them. There are a range of risks associated with those uses. Futures and options
are commonly used for traditional hedging purposes to attempt to protect a fund
from exposure to changing interest rates, securities prices or currency exchange
rates and as a low cost method of gaining exposure to a particular securities
market without investing directly in those securities.
The Series will only use derivatives for hedging purposes. While derivatives can
be used as leveraged investments, the Series may not use them to leverage its
net assets. Derivatives will not be used to increase portfolio risk above the
level that would be achieved using only traditional investment securities or to
acquire exposure to changes in the value of assets or indices that by themselves
would not be purchased for the Series. The Series will not invest in such
instruments as part of a temporary defensive strategy (in anticipation of
declining stock prices) to protect against potential market declines. See
"Investment Methods and Risk Factors" for more information about options and
futures.
SERIES I (INTERNATIONAL SERIES) -- The investment objective of the Series is
long-term capital appreciation from investment in foreign equity securities (or
other securities with equity characteristics); the production of any current
income is incidental to this objective. The Series invests primarily in
established companies based in developed countries outside the United States,
but may also invest in emerging market securities. There can be no assurance
that the investment objective of the Series will be achieved.
The Series is designed for investors who are willing to accept short-term
domestic and/or foreign stock market fluctuations in pursuit of potentially
higher long-term returns.
The Series is not itself a balanced investment plan. Investors should consider
their investment objective and tolerance for risk when making an investment
decision.
The value of the Series' investments varies based upon many factors. Stock
values fluctuate, sometimes dramatically, in response to the activities of
individual companies and general market and economic conditions. Over time,
however, stocks have shown greater long-term growth potential than other types
of securities. Lower quality securities offer higher yields, but also carry more
risk. Because many foreign investments are denominated in foreign currencies,
changes in the value of these currencies can significantly affect the Series'
share price. General economic factors in the various world markets can also
impact the value of an investor's investment. When an investor sells his or her
shares, they may be worth more or less than what the investor paid for them.
The following is a discussion of the various investments of and techniques
employed by the Series. Additional information about the investment policies of
the Series appears in "Investment Methods and Risk Factors" herein.
Under normal circumstances, the Series will invest at least 65% of the value of
its total assets in the equity securities of foreign issuers, consisting of
common stock and other securities with equity characteristics. These issuers are
primarily established companies based in developed countries outside the United
States. However the Series may also invest in securities of issuers in
underdeveloped countries. Investments in these countries will be based upon what
the Sub-Adviser, Bankers Trust Company ("Bankers Trust"), believes to be an
acceptable degree of risk in anticipation of superior returns. The Series will
at all times be invested in the securities of issuers based in at least three
countries other than the United States. For further discussion of the unique
risks associated with investing in foreign securities in both developed and
underdeveloped countries, see "Investment Objectives and Risk Factors" -
"Certain Risks of Foreign Investing" herein.
The Series' investments will generally be diversified among several geographic
regions and countries. Criteria for determining the appropriate distribution of
investments among various countries and regions include the prospects for
relative growth among foreign countries, expected levels of inflation,
government policies influencing business conditions, the outlook for currency
relationships and the range of alternative opportunities available to
international investors.
In countries and regions with well-developed capital markets where more
information is available, Bankers Trust will seek to select individual
investments for the Fund. Criteria for selection of individual securities
include the issuer's competitive position, prospects for growth, management
strength, earnings quality, underlying asset value, relative market value and
overall marketability. The Series may invest in securities of companies having
various levels of net worth, including smaller companies whose securities may be
more volatile than securities offered by larger companies with higher levels of
net worth.
In other countries and regions where capital markets are underdeveloped or not
easily accessed and information is difficult to obtain, the Series may choose to
invest only at the market level through use of options or futures based upon an
established index of securities issued by local issuers. Similarly, country
exposure may also be achieved through investments in other registered investment
companies. Restrictions on both these types of investments are more fully
described below.
The remainder of the Series' assets will be invested in dollar and non-dollar
denominated short-term instruments. These investments are subject to the
conditions discussed in more detail below.
The Series invests primarily in common stocks and other securities with equity
characteristics. For purposes of the Series' policy of investing at least 65% of
the value of its total assets in the equity securities of foreign issuers,
"equity securities" are defined as common stock, preferred stock, trust or
limited partnership interests, rights and warrants, and convertible securities
(consisting of debt securities or preferred stock that may be converted into
common stock or that carry the right to purchase common stock). The Series
invests in securities listed on foreign or domestic securities exchanges and
securities traded in foreign or domestic over-the-counter markets and may invest
in restricted or unlisted securities.
The Series may also utilize the following investments and investment techniques
and practices: American Depositary Receipts ("ADRs"), Global Depositary Receipts
("GDRS"), European Depositary Receipts ("EDRs"), Rule 144A securities,
when-issued and delayed deliver securities, securities lending, repurchase
agreements, foreign currency exchange transactions, options on stocks, options
on foreign stock indices, futures contracts on foreign stock indices, and
options on futures contracts. See "Investment Methods and Risk Factors" for
further information.
The Series intends to stay invested in the securities described above to the
extent practical in light of its objective and long-term investment perspective.
However, the Series' assets may be invested in short-term instruments with
remaining maturities of 397 days or less (or in money market mutual funds) to
meet anticipated redemptions and expenses or for day-to-day operating purposes
and when, in Banker Trust's opinion, it is advisable to adopt a temporary
defensive position because of unusual or adverse conditions affecting the equity
markets. In addition, when the Series experiences large cash inflows through the
sale of securities, and desirable equity securities that are consistent with the
Series' investment objective are unavailable in sufficient quantities or at
attractive prices, the Series may hold short-term investments for a limited time
pending availability of such equity securities. Short-term instruments consist
of foreign and domestic: (i) short-term obligations of sovereign governments,
their agencies, instrumentalities, authorities or political subdivisions; (ii)
other short-term debt securities rated Aa or higher by Moody's Investors
Service, Inc. ("Moody's") or AA or higher by Standard & Poor's Ratings Services
("S&P") or, if unrated, of comparable quality in the opinion of Bankers Trust;
(iii) commercial paper; (iv) bank obligations, including negotiable certificates
of deposit, time deposits and bankers' acceptances; and (v) repurchase
agreements. At the time the Series invests in commercial paper, bank obligations
or repurchase agreements, the issuer or the issuer's parent must have
outstanding commercial paper or bank obligations rated Prime-1 by Moody's or A-1
by S&P; or, if no such rating are available, the instrument must be of
comparable quality in the opinion of Bankers Trust. These instrument may be
denominated in U.S. dollars or in foreign currencies that have been determined
to be of high quality by a nationally recognized statistical rating
organization, or if unrated, by Bankers Trust. For more information on these
rating categories see the "Appendix".
As a diversified mutual fund, no more than 5% of the assets of the Series may be
invested in the securities of one issuer (other than U.S. government
securities), except that up to 25% of the Series' assets may be invested without
regard to this limitation. The Series will not invest more than 25% of its
assets in the securities of issuers in any one industry. These are fundamental
investment policies of the Series which may not be changed without shareholder
approval. No more than 15% of the Series' net assets may be invested in illiquid
or not readily marketable securities (including repurchase agreements and time
deposits maturing in more than seven calendar days).
SERIES J (MID CAP GROWTH SERIES) -- The investment objective of Series J is to
seek capital appreciation by investing in a diversified portfolio of common
stocks (which may include ADRs), preferred stocks, debt securities, and
securities convertible into common stocks. See "Investment Methods and Risk
Factors" - "American Depositary Receipts." On a temporary basis, there may be
times when Series J may invest its assets in cash or money market instruments
for defensive purposes.
Securities selected for their appreciation possibilities will be primarily
common stocks or other securities having the investment characteristics of
common stocks, such as securities convertible into common stocks. Securities
will be selected on the basis of their appreciation and growth potential.
Current income will not be a factor in selecting investments, and any such
income should be considered incidental. Securities considered to have capital
appreciation and growth potential will often include securities of smaller and
less mature companies. These companies often have a unique proprietary product
or profitable market niche and the potential to grow very rapidly. Such
companies may present greater opportunities for capital appreciation because of
high potential earnings growth, but may also involve greater risk. They may have
limited product lines, markets or financial resources, and they may be dependent
on a small or inexperienced management team. Their securities may trade less
frequently and in limited volume, and only in the over-the-counter market or on
smaller securities exchanges. As a result, the securities of smaller companies
may have limited marketability and may be subject to more abrupt or erratic
changes in value than securities of larger, more established companies.
Series J may also invest in larger companies where opportunities for
above-average capital appreciation appear favorable.
Series J may purchase securities on a "when-issued" or "delayed delivery basis"
in excess of customary settlement periods for the type of security involved.
Securities purchased on a when-issued basis are subject to market fluctuation
and no interest or dividends accrue to the Series prior to the settlement date.
Series J will establish a segregated account with its custodian bank in which it
will maintain cash or liquid securities equal in value to commitments for such
when-issued or delayed delivery securities. See "Investment Methods and Risk
Factors" - "When-Issued Securities."
The Series may enter into futures contracts (or options thereon) to hedge all or
a portion of its portfolio, or as an efficient means of adjusting its exposure
to the stock market. The Series will not use futures contracts for leveraging
purposes. The Series will limit its use of futures contracts so that initial
margin deposits or premiums on such contracts used for non-hedging purposes will
not equal more than 5% of the Series' net asset value. Futures contracts (and
options thereon) and the risks associated with such instruments are described in
further detail under "Investment Methods and Risk Factors."
The Series may invest in a variety of investment companies, including those that
seek to track the composition and performance of a specific index. The Series
may use these index-based investments as a way of managing its cash position, to
gain exposure to the equity markets, or a particular sector of the equity
market, while maintaining liquidity.
In seeking capital appreciation, Series J may, during certain periods, trade to
a substantial degree in securities for the short term. That is, the Series may
be engaged essentially in trading operations based on short-term market
considerations, as distinct from long-term investments based on fundamental
evaluations of securities. This investment policy is speculative and involves
substantial risk.
SERIES K (GLOBAL STRATEGIC INCOME SERIES) -- The primary investment objective of
Series K is to provide high current income. Capital appreciation is a secondary
objective. The Series, under normal circumstances, invests substantially all of
its assets in debt securities of issuers in the United States, developed foreign
countries and emerging markets.
The Series' fixed income investments normally consist of (i) fixed income
securities issued or guaranteed by U.S. or foreign governments or any of their
political subdivisions, authorities, agencies or instrumentalities, or by
supranational entities (international organizations designed or supported by
multiple foreign governmental entities to promote economic reconstruction or
development); (ii) corporate fixed income securities issued by U.S. or foreign
companies and denominated in the U.S. dollar or foreign currencies; (iii)
foreign or domestic bank obligations, including certificates of deposit,
bankers' acceptances and time deposits; (iv) commercial paper issued by foreign
or domestic companies, (v) convertible debt securities and equity securities or
other equity interests obtained on conversion from such convertible debt
securities, (vi) mortgage-backed, asset-backed and other similar securities, and
(vii) collateralized mortgage obligations, including interest-only bonds and
principal-only bonds, residual interest bonds, inverse floating obligations, and
other structured or derivative fixed income securities. The Series may also
invest in preferred stock. The Series may also invest in futures and options for
purposes of adjusting country exposure, hedging or income enhancement.
The Series may invest in debt securities of any quality, including investment
grade and high yield debt securities. Investment grade securities are those
rated at the time of purchase Baa or better by Moody's or BBB or better by S&P,
or unrated securities that are deemed to be of comparable quality by the
Sub-Adviser. High yield debt securities (also known as "junk bonds") are those
rated at the time of purchase below Baa by Moody's or BBB by S&P, or unrated
securities that are deemed to be of comparable quality by the Sub-Adviser.
Investment grade securities rated at or below BBB by S&P or Baa by Moody's have
speculative characteristics and may be more susceptible than higher grade bonds
to adverse economic conditions or other adverse circumstances which may result
in a weakened capacity to make principal and interest payments.
The Sub-Adviser monitors emerging markets continuously for changing economic and
political circumstances involving such countries. In determining the appropriate
distribution of investments among various countries and geographic regions for
the Series, the Sub-Adviser analyzes the risk/reward profile of all investments
and ordinarily considers the following factors: prospects for relative economic
growth among the different countries in which the Series may invest; expected
levels of inflation; government policies influencing business conditions; the
outlook for currency relationships; and the range of the individual investment
opportunities available to international investors.
A portion of Series K's portfolio will be denominated in foreign currencies. As
a result, in addition to the risk of change in the market value of portfolio
securities, the value of the portfolio in U.S. dollars is subject to
fluctuations in the exchange rates between such foreign currencies and the U.S.
dollar. The Series will seek to protect against currency exchange rate changes
that are adverse to its foreign currency positions by hedging selected
investments to the U.S. dollar.
In order to limit or reduce exposure in a foreign currency, Series K will enter
into forward foreign currency exchange contracts by which the U.S. dollar value
of underlying foreign portfolio securities can be approximately matched by an
equivalent U.S. dollar liability. This technique is known as "portfolio hedging"
and moderates or reduces the risk of change in the U.S. dollar value of the
Series' portfolio only during the period before the maturity of the forward
contract (which will not be in excess of one year). Series K will also enter
into forward currency exchange contracts on an opportunistic basis to increase
its exposure to a foreign currency that the Sub-Adviser expects will increase in
value relative to the U.S. dollar. Series K will not attempt to hedge all of its
foreign portfolio positions and will enter into such transactions only to the
extent, if any, deemed appropriate by the Sub-Adviser. Hedging against a decline
in the value of currency does not eliminate fluctuations in the prices of
portfolio securities or prevent losses if the prices of such securities decline.
For a discussion of the additional risks associated with investment in foreign
securities, including currency risk, see "Investment Methods and Risk Factors."
The Series may invest in mortgage-related and asset-backed securities, including
mortgage pass-through securities and collateralized mortgage obligations. For a
discussion of mortgage-related and asset-backed securities and the risks
associated with such securities, see "Investment Methods and Risk Factors."
The Series may also invest in zero coupon securities, which are debt securities
that pay no cash income but are sold at substantial discounts from their face
value. Certain zero coupon securities also are sold at substantial discounts but
provide for the commencement of regular interest payments at a deferred date.
See "Investment Methods and Risk Factors" for a discussion of zero coupon
securities.
The Series may invest in the following types of money market instruments (i.e.,
debt instruments with less than 12 months remaining until maturity) denominated
in U.S. dollars or other currencies: (a) obligations issued or guaranteed by the
U.S. or foreign governments, their agencies, instrumentalities or
municipalities; (b) obligations of supranational organizations; (c) finance
company obligations, corporate commercial paper and other short-term commercial
obligations; (d) bank obligations (including certificates of deposit, time
deposits, demand deposits and bankers' acceptances), subject to the restriction
that the Series may not invest more than 25% of its total assets in bank
securities; (e) repurchase agreements with respect to the foregoing; and (f)
other substantially similar short-term debt securities with comparable
characteristics.
The Series may take advantage of other investment instruments developed in the
future to the extent that they are consistent with its investment objective and
strategies and applicable legal and regulatory requirements.
SAMURAI AND YANKEE BONDS. Subject to its fundamental investment restrictions,
the Series may invest in yen-denominated bonds sold in Japan by non-Japanese
issuers ("Samurai bonds"), and may invest in dollar-denominated bonds sold in
the United States by non-U.S. issuers ("Yankee bonds"). It is the policy of the
Series to invest in Samurai or Yankee bond issues only after taking into account
considerations of quality and liquidity, as well as yield.
COMMERCIAL BANK OBLIGATIONS. For the purposes of the Series' investment policies
with respect to bank obligations, obligations of foreign branches of U.S. banks
and of foreign banks are obligations of the issuing bank and may be general
obligations of the parent bank. Such obligations, however, may be limited by the
terms of a specific obligation and by government regulation. As with investment
in non-U.S. securities in general, investments in the obligations of foreign
branches of U.S. banks and of foreign banks may subject the Series to investment
risks that are different in some respect from those of investments in
obligations of domestic issuers.
REPURCHASE AGREEMENTS, REVERSE REPURCHASE AGREEMENTS AND ROLL TRANSACTIONS.
Although repurchase agreements carry certain risks not associated with direct
investments in securities, the Series intends to enter into repurchase
agreements only with banks and broker/dealers believed by the Sub-Adviser to
present minimal credit risks in accordance with guidelines approved by the
Fund's Board of Directors. The Sub-Adviser will review and monitor the
creditworthiness of such counterparties.
The Series will invest only in repurchase agreements collateralized at all times
in an amount at least equal to the repurchase price plus accrued interest. To
the extent that the proceeds from any sale of such collateral upon a default in
the obligation to repurchase were less than the repurchase price, the Series
would suffer a loss. If the financial institution which is party to the
repurchase agreement petitions for bankruptcy or otherwise becomes subject to
bankruptcy or other liquidation proceedings there may be restrictions on the
Series' ability to sell the collateral and the Series could suffer a loss. The
Series will not enter into a repurchase agreement with a maturity of more than
seven days if, as a result, more than 15% of the value of its total net assets
would be invested in such repurchase agreements and other illiquid investments
and securities for which no readily available market exists.
The Series may enter into reverse repurchase agreements. A reverse repurchase
agreement is a borrowing transaction in which the Series transfers possession of
a security to another party, such as a bank or broker/dealer, in return for
cash, and agrees to repurchase the security in the future at an agreed upon
price, which includes an interest component. The Series also may engage in
"roll" borrowing transactions which involve the Series' sale of fixed income
securities together with a commitment (for which the Series may receive a fee)
to purchase similar, but not identical, securities at a future date. The Series
will maintain, in a segregated account with a custodian, cash or liquid
securities in an amount sufficient to cover its obligation under "roll"
transactions and reverse repurchase agreements.
FORWARD COMMITMENTS. The Series may enter into contracts to purchase securities
for a fixed price at a future date beyond customary settlement time ("forward
commitments") if the Series holds, and maintains until the settlement date in a
segregated account, cash or liquid securities in an amount sufficient to meet
the purchase price, or if the Series enters into offsetting contracts for the
forward sale of other securities it owns. Forward commitments may be considered
securities in themselves, and involve a risk of loss if the value of the
security to be purchased declines prior to the settlement date, which risk is in
addition to the risk of decline in the value of the Series' other assets. Where
such purchases are made through dealers, the Series relies on the dealer to
consummate the sale. The dealer's failure to do so may result in the loss to the
Series of an advantageous yield or price. Although the Series will generally
enter into forward commitments with the intention of acquiring securities for
the Series or for delivery pursuant to options contracts it has entered into,
the Series may dispose of a commitment prior to settlement if the Sub-Adviser
deems it appropriate to do so. The Series may realize short-term profits or
losses upon the sale of forward commitments.
BORROWING. The Series' operating policy on borrowing provides that the Series
will not borrow money in order to purchase securities and the Series may borrow
up to 5% of its total assets for temporary or emergency purposes and to meet
redemptions. This policy may be changed by the Fund's Board of Directors. Any
borrowing by the Series may cause greater fluctuation in the value of its shares
than would be the case if the Series did not borrow.
SHORT SALES. The Series is authorized to make short sales. A short sale is a
transaction in which the Series sells a security or currency in anticipation
that the market price of that security or currency will decline. The Series may
make short sales as a form of hedging to offset potential declines in long
positions in securities it owns and in order to maintain portfolio flexibility.
The Series may also enter into short sales of securities and currencies in order
to hedge the currency exchange risk associated with assets denominated in
foreign currencies, adjust the portfolio's exposure to a particular currency,
manage risk or enhance income, or as a substitute for purchasing or selling
securities. The loss to the Series could be substantial if the price of the
security or currency sold short does not decline in value.
In a short sale of securities, the seller does not immediately deliver the
securities sold and does not receive the proceeds from the sale. To make
delivery to the purchaser, the executing broker borrows the securities being
sold short on behalf of the seller. The seller is said to have a short position
in the securities sold until it delivers the securities sold, at which time it
receives the proceeds of the sale. To secure its obligation to deliver
securities sold short, the Series will deposit in a separate account with its
custodian an equal amount of the securities sold short or securities convertible
into or exchangeable for such securities at no cost. The Series could close out
a short position by purchasing and delivering an equal amount of the securities
sold short, rather than by delivering securities already held by the Series,
because the Series might want to continue to receive interest and dividend
payments on securities in its portfolio that are convertible into the securities
sold short.
ILLIQUID SECURITIES. The Series may invest up to 15% of total net assets in
illiquid securities. Securities may be considered illiquid if the Series cannot
reasonably expect to receive approximately the amount at which the Series values
such securities within seven days. The sale of illiquid securities, if they can
be sold at all, generally will require more time and result in higher brokerage
charges or dealer discounts and other selling expenses than will the sale of
liquid securities, such as securities eligible for trading on U.S. securities
exchanges or in the over-the-counter markets. Moreover, restricted securities,
which may be illiquid for purposes of this limitation, often sell, if at all, at
a price lower than similar securities that are not subject to restrictions on
resale.
With respect to liquidity determinations generally, the Fund's Board of
Directors has the ultimate responsibility for determining whether specific
securities, including restricted securities purchased pursuant to Rule 144A
under the Securities Act of 1933, are liquid or illiquid. The Board has
delegated the function of making day-to-day determinations of liquidity to the
Sub-Adviser in accordance with procedures approved by the Fund's Board of
Directors. The Sub-Adviser takes into account a number of factors in reaching
liquidity decisions, including, but not limited to: (i) the frequency of trading
in the security; (ii) the number of dealers that make quotes for the security;
(iii) the number of dealers that have undertaken to make a market in the
security; (iv) the number of other potential purchasers; and (v) the nature of
the security and how trading is effected (e.g., the time needed to sell the
security, how offers are solicited and the mechanics of transfer). The
Sub-Adviser will monitor the liquidity of securities held by the Series and
report periodically on such decisions to the Board of Directors.
OPTIONS, FUTURES AND FORWARD CURRENCY STRATEGIES.
WRITING COVERED CALL OPTIONS. The Series may write (sell) covered call options
and purchase options to close out options previously written by the Series.
Covered call options generally will be written on securities and currencies
which in the opinion of the Sub-Adviser are not expected to make any major price
moves in the near future but which, over the long term, are deemed to be
attractive investments for the Series. The Sub-Adviser and the Series believe
that writing of covered call options is less risky than writing uncovered or
"naked" options, which the Series will not do. For more information about
writing covered call options, see the discussion under "Investment Methods and
Risk Factors."
WRITING COVERED PUT OPTIONS. The Series may write covered put options and
purchase options to close out options previously written by the Series. A put
option gives the purchaser of the option the right to sell, and the writer
(seller) the obligation to buy, the underlying security or currency at the
exercise price during the option period. The option may be exercised at any time
prior to its expiration date. The operation of put options in other respects,
including their related risks and rewards, is substantially identical to that of
call options. See the discussion of writing covered put options under
"Investment Methods and Risk Factors."
PURCHASING PUT OPTIONS. The Series may purchase put options. As the holder of a
put option, the Series would have the right to sell the underlying security or
currency at the exercise price at any time during the option period. The Series
may enter into closing sale transactions with respect to such options, exercise
them or permit them to expire. See the discussion of purchases of put options
under "Investment Methods and Risk Factors."
The premium paid by the Series when purchasing a put option will be recorded as
an asset in the Series' statement of assets and liabilities. This asset will be
adjusted daily to the option's current market value, which will be the latest
sale price at the time at which the net asset value per share of the Series is
computed (at the close of regular trading on the NYSE), or, in the absence of
such sale, the latest bid price. The asset will be extinguished upon expiration
of the option, the writing of an identical option in a closing transaction, or
the delivery of the underlying security or currency upon the exercise of the
option.
PURCHASING CALL OPTIONS. The Series may purchase call options. As the holder of
a call option, the Series would have the right to purchase the underlying
security or currency at the exercise price at any time during the option period.
The Series may enter into closing sale transactions with respect to such
options, exercise them or permit them to expire. Call options may be purchased
by the Series for the purpose of acquiring the underlying security or currency
for its portfolio. For a discussion of purchases of call options, see
"Investment Methods and Risk Factors."
The Series may attempt to accomplish objectives similar to those involved in
using Forward Contracts (defined below), as described in the Prospectus, by
purchasing put or call options on currencies. A put option gives the Series as
purchaser the right (but not the obligation) to sell a specified amount of
currency at the exercise price until the expiration of the option. A call option
gives the Series as purchaser the right (but not the obligation) to purchase a
specified amount of currency at the exercise price until its expiration. The
Series might purchase a currency put option, for example, to protect itself
during the contract period against a decline in the dollar value of a currency
in which it holds or anticipates holding securities. If the currency's value
should decline against the dollar, the loss in currency value should be offset,
in whole or in part, by an increase in the value of the put. If the value of the
currency instead should rise against the dollar, any gain to the Series would be
reduced by the premium it had paid for the put option. A currency call option
might be purchased, for example, in anticipation of, or to protect against, a
rise in the value against the dollar of a currency in which the Series
anticipates purchasing securities.
Currency options may be either listed on an exchange or traded over-the-counter
("OTC options"). Listed options are third-party contracts (i.e., performance of
the obligations of the purchaser and seller is guaranteed by the exchange or
clearing corporation), and have standardized strike prices and expiration dates.
OTC options are two-party contracts with negotiated strike prices and expiration
dates. The Securities and Exchange Commission ("SEC") staff considers OTC
options to be illiquid securities. The Series will not purchase an OTC option
unless the Series believes that daily valuations for such options are readily
obtainable. OTC options differ from exchange-traded options in that OTC options
are transacted with dealers directly and not through a clearing corporation
(which guarantees performance). Consequently, there is a risk of non-performance
by the dealer. Since no exchange is involved, OTC options are valued on the
basis of a quote provided by the dealer. In the case of OTC options, there can
be no assurance that a liquid secondary market will exist for any particular
option at any specific time.
INTEREST RATE AND CURRENCY FUTURES CONTRACTS. The Series may enter into interest
rate or currency futures contracts ("Futures" or "Futures Contracts") as a hedge
against changes in prevailing levels of interest rates or currency exchange
rates in order to establish more definitely the effective return on securities
or currencies held or intended to be acquired by the Series. The Series' hedging
may include sales of Futures as an offset against the effect of expected
increases in interest rates or currency exchange rates, and purchases of Futures
as an offset against the effect of expected declines in interest rates or
currency exchange rates.
The Series will enter into Futures Contracts which are traded on futures
exchanges and are standardized as to maturity date and underlying financial
instrument. The principal interest rate and currency Futures exchanges in the
United States are the Board of Trade of the City of Chicago and the Chicago
Mercantile Exchange. Futures exchanges and trading are regulated under the
Commodity Exchange Act by the Commodity Futures Trading Commission ("CFTC").
Futures are exchanged in London at the London International Financial Futures
Exchange.
Although techniques other than sales and purchases of Futures Contracts could be
used to reduce the Series' exposure to interest rate and currency exchange rate
fluctuations, the Series may be able to hedge exposure more effectively and at a
lower cost through using Futures Contracts. A Futures Contract generally
provides for the future sale by one party and purchase by another party of a
specified amount of a specific financial instrument (debt security or currency)
for a specified price at a designated date, time and place. Brokerage fees are
incurred when a Futures Contract is bought or sold, and margin deposits must be
maintained at all times the Futures Contract is outstanding. For a discussion of
Futures Contracts and the risks associated with investing in Futures Contracts,
see "Investment Methods and Risk Factors."
In the case of a Futures Contract sale, the Series either will set aside
amounts, as in the case of a Futures Contract purchase, own the security
underlying the contract or hold a call option permitting the Series to purchase
the same Futures Contract at a price no higher than the contract price. Assets
used as cover cannot be sold while the position in the corresponding Futures
Contract is open, unless they are replaced with similar assets. As a result, the
commitment of a significant portion of the Series' assets to cover could impede
portfolio management or the Series' ability to meet redemption requests or other
current obligations.
OPTIONS ON FUTURES CONTRACTS. Options on Futures Contracts are similar to
options on securities or currencies except that options on Futures Contracts
give the purchaser the right, in return for the premium paid, to assume a
position in a Futures Contract (a long position if the option is a call and a
short position if the option is a put), rather than to purchase or sell the
Futures Contract, at a specified exercise price at any time during the period of
the option. Upon exercise of the option, the delivery of the Futures position by
the writer of the option to the holder of the option will be accompanied by
delivery of the accumulated balance in the writer's Futures margin account which
represents the amount by which the market price of the Futures Contract, at
exercise, exceeds (in the case of a call) or is less than (in the case of a put)
the exercise price of the option on the Futures Contract. If an option is
exercised on the last trading day prior to the expiration date of the option,
the settlement will be made entirely in cash equal to the difference between the
exercise price of the option and the closing level of the securities, currencies
or index upon which the Futures Contracts are based on the expiration date.
Purchasers of options who fail to exercise their options prior to the exercise
date suffer a loss of the premium paid.
As an alternative to purchasing call and put options on Futures, the Series may
purchase call and put options on the underlying securities or currencies
themselves. Such options would be used in a manner identical to the use of
options on Futures Contracts.
To reduce or eliminate the leverage then employed by the Series, or to reduce or
eliminate the hedge position then currently held by the Series, the Series may
seek to close out an option position by selling an option covering the same
securities or contract and having the same exercise price and expiration date.
Trading in options on Futures Contracts began relatively recently. The ability
to establish and close out positions on such options will be subject to the
development and maintenance of a liquid secondary market. It is not certain that
this market will develop. For a discussion of options on Futures Contracts and
associated risks, see "Investment Methods and Risk Factors."
FORWARD CURRENCY CONTRACTS AND OPTIONS ON CURRENCY. A forward currency contract
("Forward Contract") is an obligation, generally arranged with a commercial bank
or other currency dealer, to purchase or sell a currency against another
currency at a future date and price as agreed upon by the parties. The Series
may accept or make delivery of the currency at the maturity of the Forward
Contract or, prior to maturity, enter into a closing transaction involving the
purchase or sale of an offsetting contract. The Series may enter into Forward
Contracts either with respect to specific transactions or with respect to the
Series' portfolio positions. The Series will utilize Forward Contracts only on a
covered basis. See the discussion of such contracts and related options under
"Investment Methods and Risk Factors."
INTEREST RATE AND CURRENCY SWAPS. The Series usually will enter into interest
rate swaps on a net basis if the contract so provides, that is, the two payment
streams are netted out in a cash settlement on the payment date or dates
specified in the instrument, with the Series receiving or paying, as the case
may be, only the net amount of the two payments. Inasmuch as swaps, caps, floors
and collars are entered into for good faith hedging purposes, the Investment
Manager and the Series believe that they do not constitute senior securities
under the 1940 Act if appropriately covered and, thus, will not treat them as
being subject to the Series' borrowing restrictions. Interest rate swaps involve
the exchange by the Series with another party of their respective commitments to
pay or receive interest (for example, an exchange of floating rate payments for
fixed rate payments) with respect to a notional amount of principal. A currency
swap is an agreement to exchange cash flows on a notional amount based on
changes in the values of the reference indices. The purchase of a cap entitles
the purchaser to receive payments on a notional principal amount from the party
selling the cap to the extent that a specified index exceeds a predetermined
interest rate. The purchase of an interest rate floor entitles the purchaser to
receive payments on a notional principal amount from the party selling the floor
to the extent that a specified index falls below a predetermined interest rate
or amount. A collar is a combination of a cap and a floor that preserves a
certain return within a predetermined range of interest rates or values.
If a counterparty defaults, the Series may have contractual remedies pursuant to
the agreements related to the transactions. The swap market has grown
substantially in recent years, with a large number of banks and investment
banking firms acting both as principals and as agents utilizing standardized
swap documentation. As a result, the swap market has become relatively liquid.
Caps, floors and collars are more recent innovations for which standardized
documentation has not yet been fully developed and, for that reason, they are
less liquid than swaps.
SERIES L (CAPTIAL GROWTH SERIES) -- The objective of Series L is capital growth
rather than current income. Since investments are made based upon their
potential for capital appreciation, current income is incidental to the
objective of capital growth. The Series will seek to achieve its objective
through aggressive investment policies and, therefore, is not intended for
investors whose principal objective is assured income or conservation of
capital. Ordinarily, the annual portfolio turnover rate may be in excess of
100%.
In seeking its investment goal, the Series invests predominantly in the equity
securities (common stocks, securities convertible into common stocks and rights
and warrants to subscribe for or purchase common stocks) of a limited number of
large, carefully selected, high-quality American companies that, in the judgment
of the Series' Sub-Adviser, Alliance Capital Management, L.P. ("Alliance") are
likely to achieve superior earnings growth. Normally, about 40 companies are
represented in the Series' investment portfolio with the most highly regarded of
these companies usually constituting approximately 70% of the Series' net
assets. The Series thus differs from more typical equity mutual funds by
investing most of its assets in a relatively small number of intensively
researched companies and is designed for those seeking to accumulate capital
over time with less volatility than that associated with investment in smaller
companies.
Alliance's investment strategy for the Series emphasizes stock selection and
investment in the securities of a limited number of issuers. Alliance relies
heavily upon the fundamental analysis and research of its large internal
research staff, which generally follows a primary research universe of more than
600 companies that have strong management, superior industry positions,
excellent balance sheets and superior earnings growth prospects. An emphasis is
placed on identifying companies whose substantially above average prospective
earnings growth is not fully reflected in current market valuations.
Alliance expects the average weighted market capitalization of companies
represented in the Series' portfolio (that is the number of a company's shares
outstanding multiplied by the price per share) to normally be in the range of or
exceed the average weighted market capitalization of companies comprising the
"S&P 500" (Standard & Poor's 500 Composite Stock Price Index), a widely
recognized unmanaged index of market activity based upon the aggregate
performance of a selected portfolio of publicly traded common stocks, including
monthly adjustments to reflect the reinvestment of dividends and other
distributions which reflects the total return of securities comprising the
Index, including changes in market prices as well as accrued investment income,
which is presumed to be reinvested. Investments are made based upon their
potential for capital appreciation. Current income will be incidental to that
objective. Because of the market risks inherent in any investment, the selection
of securities on the basis of their appreciation possibilities cannot ensure
against possible loss in value, and there is, of course, no assurance that the
Series' investment objective will be met.
Alliance expects that, under normal circumstances, the Series will invest at
least 85% of the value of its total assets in the equity securities of American
companies (except when in a temporary defensive position). The Series defines
American companies to be entities (i) that are organized under the laws of the
United States, and (ii) the equity securities of which are traded principally in
the United States securities markets.
The Series may invest in both listed and unlisted domestic and foreign
securities, and in restricted securities, and in other assets having no ready
market, but not more than 10% of the Series' total assets may be invested in all
such restricted or not readily marketable assets at any one time. Restricted
securities may be sold only in privately negotiated transactions or in a public
offering with respect to which a registration statement is in effect under the
Securities Act, or pursuant to Rule 144 promulgated under such Act. Where
registration is required, the Series may be obligated to pay all or part of the
registration expense, and a considerable period may elapse between the time of
the decision to sell and the time the Series may be permitted to sell a security
under an effective registration statement. If during such a period adverse
market conditions were to develop, the Series might obtain a less favorable
price than that which prevailed when it decided to sell. Restricted securities
and other not readily marketable assets will be valued in such a manner as the
Board of Directors of the Fund in good faith deems appropriate to reflect their
fair market value.
SPECIAL SITUATIONS. Series L will invest in special situations from time to
time. A special situation arises when, in the opinion of Alliance, the
securities of a particular company will, within a reasonably estimable period of
time, be accorded market recognition at an appreciated value solely by reason of
a development particularly or uniquely applicable to that company, and
regardless of general businessditions or movements of the market as a whole.
Developments creating special situations might include, among others,
liquidations, reorganizations, recapitalizations or mergers, material
litigation, technological breakthroughs and new management or management
policies. Although large and well-known companies may be involved, special
situations often involve much greater risk than is inherent in ordinary
investment securities.
SHORT SALES. Series L may not sell securities short, except that it may make
short sales against the box. Such sales may be used in some cases by the Series
to defer the realization of gain or loss for federal income tax purposes on
securities then owned by the Series. However, if the Series has unrealized gain
with respect to a security and enters into a short sale with respect to such
security, the Series generally will be deemed to have sold the appreciated
security and thus will recognize gain for tax purposes.
OPTIONS. Series L may write call options and may purchase and sell put and call
options written by others, combinations thereof, or similar options.
It is the Series' policy not to write a call option if the premium to be
received by the Series in connection with such options would not produce an
annualized return of at least 15% of the then market value of the securities
subject to the option. Commissions, stock transfer taxes and other expenses of
the Series must be deducted from such premium receipts. Option premiums vary
widely depending primarily on supply and demand. Calls written by the Series
will ordinarily be sold either on a national securities exchange or through put
and call dealers, most, if not all, of which are members of a national
securities exchange on which options are traded, and will in such case be
endorsed or guaranteed by a member of a national securities exchange or
qualified broker-dealer, which may be Donaldson, Lufkin & Jenrette Securities
Corporation, an affiliate of Alliance.
Series L will not sell a call option written or guaranteed by it if, as a result
of such sale, the aggregate of the Series' securities subject to outstanding
call options (valued at the lower of the option price or market value of such
securities) would exceed 15% of the Series' total assets. The Series will not
sell any call option if such sale would result in more than 10% of the Series'
assets being committed to call options written by the Series which, at the time
of sale by the Series, have a remaining term of more than 100 days. For a
discussion of the risks associated with using options, see "Investment Methods
and Risk Factors."
SERIES M (GLOBAL TOTAL RETURN SERIES) -- The investment objective of Series M is
high total return, consisting of capital appreciation and current income.
Through the Sub-Adviser's security selection of global equity and fixed income
securities and global asset allocation, the Series seeks to exceed the total
return of a blended benchmark consisting of 80% MSCI World Equity Index in U.S.
dollars and 20% Salomon Brothers World Government Bond Index in U.S. dollars.
The Series has the flexibility to invest in any region of the world. For a
discussion of the additional risks associated with investment in foreign
securities, including currency risk, see "Investment Methods and Risk Factors."
Management of the Series includes selection of equity and fixed income
securities as well as asset allocation functions. Derivative instruments may be
utilized to implement asset allocation decisions, adjust exposure to a
particular currency, manage risk and enhance income.
ASSET ALLOCATION. The Series' Sub-Adviser, Wellington Management Company, LLP,
conducts fundamental and quantitative investment research, and uses this
research to allocate the Series' assets among global investment opportunities.
The Series' exposure to country, stock, bond and currency markets is based on a
fundamental assessment of the relative attractiveness of each asset class and
currency as well as the associated risks. Four key elements determine the
relative attractiveness of financial markets: valuation, economic environment,
interest rates, and market interrelationships. The relative importance of the
factors is determined by an analytical process that captures the unique
differences between countries and currencies. Asset allocation exposures are
determined by a disciplined portfolio management system that balances portfolio
expected return with the risks associated with the exposures.
EQUITY INVESTMENTS. The Sub-Adviser uses proprietary techniques to affirm its
fundamental evaluation of equity securities. These quantitative techniques
consist of: valuation analysis, which includes the use of a dividend discount
model and cash flow analysis, and momentum analysis, which includes an
assessment of a company's earnings momentum and stock price momentum. These
quantitative techniques identify those securities that are: attractive from the
fundamental perspective, inexpensive based on the quantitative valuation
factors, and timely according to the quantitative momentum factors. The Series'
equity investments consist of common stocks and other securities with equity
characteristics such as preferred stock, convertible securities, warrants and
rights, as well as domestic, European or global depositary receipts. For a
discussion of depositary receipts, see "Investment Methods and Risk Factors."
FIXED INCOME INVESTMENTS. Global bond investments are allocated among various
issuers, geographic regions, and currency denominations. Extensive in-house
credit research, currency assessment, and focused fixed income analysis
identifies global opportunities to enhance return.
The Series' may enter into any of the investments and strategies permitted for
the Series K.
The Series may invest in fixed income securities of any quality, including
investment grade and high yield debt securities. Investment grade securities are
those rated at the time of purchase Baa or better by Moody's or BBB or better by
S&P, or unrated securities that are deemed to be of comparable quality by the
Sub-Adviser. High yield debt securities (also known as "junk bonds") are those
rated at the time of purchase below Baa by Moody's or BBB by S&P, or unrated
securities that are deemed to be of comparable quality by the Sub-Adviser.
Non-investment grade securities rated at or below BBB by S&P or Baa by Moody's
have speculative characteristics and may be more susceptible than higher grade
bonds to adverse economic conditions or other adverse circumstances which may
result in a weakened capacity to make principal and interest payments.
For a discussion of the additional risks associated with investment in foreign
securities, including currency risk, see "Investment Methods and Risk Factors."
DERIVATIVE INSTRUMENTS. The Series may enter into futures and options contracts
on securities, financial indices and currencies, as well as options on futures
contracts. See the discussion of such contracts and related options under
"Investment Methods and Risk Factors."
To manage currency risk, enhance return, facilitate the purchase and sale of
foreign securities, and implement allocation policies, the Series may engage in
foreign currency transactions involving the purchase and sale of forward foreign
currency exchange contracts. Forward currency transactions involve the risk that
anticipated currency movements will not be accurately predicted and the Series'
total return could be adversely affected as a result. For a discussion of
forward currency transactions and the risks associated with such transactions,
see "Investment Methods and Risk Factors."
Options, futures contracts, options on futures, currency forwards and other
derivative instruments may not always be successful strategies and their prices
can be highly volatile. Using these instruments could lower the Series' total
return and the potential loss from the use of such instruments can exceed the
Series' initial investment in such vehicles. The Series will not use derivative
instruments for leveraging purposes.
REPURCHASE AGREEMENTS. The Series intends to enter into repurchase agreements
only with banks and broker/dealers believed by the Sub-Adviser to present
minimal credit risks in accordance with guidelines approved by the Fund's Board
of Directors. The Sub-Adviser will review and monitor the creditworthiness of
such counterparties. The Series will not enter into a repurchase agreement with
a maturity of more than seven days if, as a result, more than 15% of the value
of its total net assets would be invested in such repurchase agreements and
other illiquid investments and securities for which no readily available market
exists.
The Series may invest in any of the derivative instruments and money market
instruments permitted for the Series K. In addition, the Series may take
advantage of other investment instruments developed in the future to the extent
that they are consistent with its investment objective and strategies and
applicable legal and regulatory requirements.
SERIES N (MANAGED ASSET ALLOCATION SERIES) -- The investment objective of Series
N is to seek a high level of total return by investing primarily in a
diversified group of fixed income and equity securities.
The Series is designed to balance the potential appreciation of common stocks
with the income and principal stability of bonds over the long term. Over the
long term, the Series expects to allocate its assets so that approximately 40%
of such assets will be in the fixed income sector (as defined below) and
approximately 60% in the equity sector (as defined below). This mix may vary
over shorter time periods within the ranges set forth below:
--------------------------------------------
RANGE
--------------------------------------------
Fixed Income Sector 30-50%
Equity Sector 50-70%
--------------------------------------------
The primary consideration in varying from the 60-40 allocation will be the
outlook of the Series' Sub-Adviser, T. Rowe Price Associates, Inc. ("T. Rowe
Price"), for the different markets in which the Series invests. Shifts between
the fixed income and equity sectors will normally be done gradually and T. Rowe
Price will not attempt to precisely "time" the market. There is, of course no
guarantee that T. Rowe Price's gradual approach to allocating the Series' assets
will be successful in achieving the Series' objective. The Series will maintain
cash reserves to facilitate the Series' cash flow needs (redemptions, expenses
and purchases of Series securities) and it may invest in cash reserves without
limitation for temporary defensive purposes.
Assets allocated to the fixed income portion of the Series primarily will be
invested in U.S. and foreign investment grade bonds, high yield bonds,
short-term investments and currencies, as needed to gain exposure to foreign
markets. Assets allocated to the equity portion of the Series will be allocated
among U.S. and non-dollar large, medium and small-cap companies, currencies and
futures.
The Series' fixed income sector will be allocated among investment grade, high
yield, U.S. and non-dollar debt securities and currencies generally within the
ranges indicated below:
--------------------------------------------
RANGE
--------------------------------------------
Investment Grade 50-100%
High Yield 0-30%
Non-dollar 0-30%
Cash Reserves 0-20%
--------------------------------------------
Investment grade debt securities include long, intermediate and short-term
investment grade debt securities (e.g., AAA, AA, A or BBB by S&P or if not
rated, of equivalent investment quality as determined by T. Rowe Price).
Non-dollar debt securities include non-dollar denominated government and
corporate debt securities or currencies of at least three countries. See
"Investment Methods and Risk Factors" - "Certain Risks of Foreign Investing" for
a discussion of the risks involved in foreign investing. High-yield securities
include high-yielding, income-producing debt securities in the lower rating
categories (commonly referred to as "junk bonds") and preferred stocks including
convertible securities. Quality will generally range from lower-medium to low
and the Series may also purchase bonds in default if, in the opinion of T. Rowe
Price, there is significant potential for capital appreciation. Lower-rated debt
obligations are generally considered to be high risk investments. See
"Investment Methods and Risk Factors" for a discussion of the risks involved in
investing in high-yield, lower-rated debt securities. Securities which may be
held as cash reserves include liquid short-term investments of one year or less
having the highest ratings by at least one established rating organization, or
if not rated, of equivalent investment quality as determined by T. Rowe Price.
The Series may use currencies to gain exposure to an international market prior
to investing in non-dollar securities.
While the maturities of the fixed income securities will vary with T. Rowe
Price's view of market conditions, the weighted average maturity of the fixed
income portion as a whole (except for cash reserves) is expected to be in the
range of 7-12 years.
The Series' equity sector will be allocated among large and small capitalization
("Large Cap" and "Small Cap" respectively), U.S. and non-dollar equity
securities, currencies and futures.
Large Cap securities generally include stocks of well-established companies with
capitalization over $1 billion which can produce increasing dividend income. The
Series exposure to smaller companies is not expected to be substantial and will
not constitute more than 30% of the equity portion of the portfolio.
Non-dollar securities, which may compromise up to 35% of the equity portfolio of
the Series, include foreign currencies and common stocks of established non-U.S.
companies. Investments may be made solely for capital appreciation or solely for
income or any combination of both for the purpose of achieving a higher overall
return. T. Rowe Price intends to diversify the non-dollar portion of the Series'
portfolio broadly among countries and to normally have at least three different
countries represented. The countries of the Far East and Western Europe as well
as South Africa, Australia, Canada, and other areas (including developing
countries) may be included. Under unusual circumstances, however, investment may
be substantially in one or two countries. Some of the countries in which the
Series may invest may be considered to be developing and may involve special
risks. For a discussion of the risks involved in investment in foreign
securities, see "Investment Methods and Risk Factors" - "Certain Risks of
Foreign Investing."
Futures may be used to gain exposure to equity markets where there is
insufficient cash to purchase a diversified portfolio of stocks. Currencies may
also be held to gain exposure to an international market prior to investing in a
non-dollar stock.
Medium and small cap securities include common stocks of small companies or
companies which offer the possibility of accelerated earnings growth because of
rejuvenated management, new products or structural changes in the economy.
Current income is not a factor in the selection of these stocks. Higher risks
are often associated with smaller companies. These companies may have limited
product lines, markets and financial resources, or they may be dependent on a
small or inexperienced management group. In addition, their securities may trade
less frequently and in limited volume and move more abruptly than securities of
larger companies. However, securities of smaller companies may offer greater
potential for capital appreciation since they are often overlooked or
undervalued by investors.
The Series' foreign investments are also subject to currency risk described
under "Investment Methods and Risk Factors" - "Currency Fluctuations." To manage
this risk and facilitate the purchase and sale of foreign securities, the Series
may engage in foreign currency transactions involving the purchase and sale of
forward foreign currency exchange contracts. Although forward currency
transactions will be used primarily to protect the Series from adverse currency
movements, they also involve the risk that anticipated currency movements will
not be accurately predicted and the Series' total return could be adversely
affected as a result. For a discussion of forward currency transactions and the
risks associated with such transactions, see "Investment Methods and Risk
Factors" - "Forward Currency Contracts and Related Options" and "Purchase and
Sale of Currency Futures Contracts and Related Options." Purchases by the Series
of currencies in substitution of purchases of stocks and bonds will subject the
Series to risks different from a fund invested solely in stocks and bonds.
The Series' investments include, but are not limited to, equity and fixed income
securities of various types and the Series may utilize the investment methods
and investment vehicles described below.
The Series may enter into futures contracts (a type of derivative) (or options
thereon) to hedge all or a portion of its portfolio, as a hedge against changes
in prevailing levels of interest rates or currency exchange rates, or as an
efficient means of adjusting its exposure to the bond, stock, and currency
markets. The Series will not use futures contracts for leveraging purposes. The
Series will limit its use of futures contracts so that initial margin deposits
or premiums on such contracts used for non-hedging purposes will not equal more
than 5% of the Series' net asset value. The Series may also write call and put
options and purchase put and call options on securities, financial indices, and
currencies. The aggregate market value of the Series' portfolio securities or
currencies covering call or put options will not exceed 25% of the Series' net
assets. The Series may enter into foreign futures and options transactions. As
part of its investment program and to maintain greater flexibility, the Series
may invest in instruments which have the characteristics of futures, options and
securities, known as "hybrid instruments." For a discussion of such instruments
and the risks involved in investing therein, see "Investment Methods and Risk
Factors" -- "Hybrid Instruments."
The Series may acquire illiquid securities in an amount not exceeding 15% of net
assets. Because an active trading market does not exist for such securities the
sale of such securities may be subject to delay and additional costs. The Series
will not invest more than 5% of its total assets in restricted securities (other
than securities eligible for resale under Rule 144A of the Securities Act of
1933). Series N may invest in securities on a "when-issued" or "delayed delivery
basis" in excess of customary settlement periods for the type of security
involved. For a discussion of restricted and when-issued securities, see
"Investment Methods and Risk Factors."
The Series may invest in asset-backed securities, which securities involve
certain risks. For a discussion of asset-backed securities and the risks
involved in investment in such securities, see the discussion under "Investment
Methods and Risk Factors." The Series may invest in mortgage-backed securities
issued or guaranteed by the U.S. Government, its agencies or instrumentalities
or institutions such as banks, insurance companies and savings and loans. Some
of these securities, such as GNMA certificates, are backed by the full faith and
credit of the U.S. Treasury while others, such as Freddie Mac certificates, are
not. The Series may also invest in collateralized mortgage obligations (CMOs)
and stripped mortgage securities (a type of derivative). Stripped mortgage
securities are created by separating the interest and principal payments
generated by a pool of mortgage-backed bonds to create two classes of
securities, "interest only" (IO) and "principal only" (PO) bonds. There are
risks involved in mortgage-backed securities, CMOs and stripped mortgage
securities. See "Investment Methods and Risk Factors" for an additional
discussion of such securities and the risks involved therein.
The Series may invest in zero coupon securities which are debt securities that
pay no cash income but are sold at substantial discounts from their face value.
Certain zero coupon securities also are sold at substantial discounts but
provide for the commencement of regular interest payments at a deferred date.
See "Investment Methods and Risk Factors" for a discussion of zero coupon
securities.
While the Series will remain invested in primarily common stocks and bonds, it
may, for temporary defensive purposes, invest in cash reserves without
limitation. The Series may establish and maintain reserves as T. Rowe Price
believes is advisable to facilitate the Series' cash flow needs. Cash reserves
include money market instruments, including shares of the Reserve Investment
Fund, a T. Rowe Price money market fund established for the exclusive use of the
T. Rowe Price family of mutual funds and other clients of T. Rowe Price and
repurchase agreements, in the two highest categories. Short-term securities may
be held in the equity sector as collateral for futures contracts. These
securities are segregated and may not be available for the Series' cash flow
needs.
The Series may invest in debt or preferred equity securities convertible into or
exchangeable for equity securities and warrants. As a fundamental policy, for
the purpose of realizing additional income, the Series may lend securities with
a value of up to 33 1/3% of its total assets to broker-dealers, institutional
investors, or other persons. Any such loan will be continuously secured by
collateral at least equal to the value of the securities loaned. For a
discussion of the limitations on lending and risks of lending, see "Investment
Methods and Risk Factors" - "Lending of Portfolio Securities." The Series may
also invest in real estate investment trusts (REITs). For a discussion of REITs
and certain risks involved therein, see this Statement of Additional Information
and the Fund's Prospectus under "Investment Methods and Risk Factors."
FIXED INCOME SECURITIES. Fixed income securities in which the Series may invest
include, but are not limited to, those described below.
U.S. GOVERNMENT OBLIGATIONS. Bills, notes, bonds and other debt securities
issued by the U.S. Treasury. These are direct obligations of the U.S. Government
and differ mainly in the length of their maturities.
U.S. GOVERNMENT AGENCY SECURITIES. Issued or guaranteed by U.S. Government
sponsored enterprises and federal agencies. These include securities issued by
the Federal National Mortgage Association, Government National Mortgage
Association, Federal Home Loan Bank, Federal Land Banks, Farmers Home
Administration, Banks for Cooperatives, Federal Intermediate Credit Banks,
Federal Financing Bank, Farm Credit Banks, the Small Business Association, and
the Tennessee Valley Authority. Some of these securities are supported by the
full faith and credit of the U.S. Treasury, and the remainder are supported only
by the credit of the instrumentality, which may or may not include the right of
the issuer to borrow from the Treasury.
BANK OBLIGATIONS. Certificates of deposit, bankers' acceptances, and other
short-term debt obligations. Certificates of deposit are short-term obligations
of commercial banks. A bankers' acceptance is a time draft drawn on a commercial
bank by a borrower, usually in connection with international commercial
transactions. Certificates of deposits may have fixed or variable rates. The
Series may invest in U.S. banks, foreign branches of U.S. banks, U.S. branches
of foreign banks and foreign branches of foreign banks.
SAVINGS AND LOAN OBLIGATIONS. Negotiable certificates of deposit and other
short-term debt obligations of savings and loan associations.
COLLATERALIZED MORTGAGE OBLIGATIONS (CMOS). CMOs are obligations fully
collateralized by a portfolio of mortgages or mortgage-related securities.
Payments of principal and interest on the mortgages are passed through to the
holders of the CMOs on the same schedule as they are received, although certain
classes of CMOs have priority over others with respect to the receipt of
prepayments on the mortgages. Therefore, depending on the type of CMOs in which
a Series invests, the investment may be subject to a greater or lesser risk of
prepayment than other types of mortgage-related securities.
MORTGAGE-BACKED SECURITIES. Mortgage-backed securities are securities
representing interest in a pool of mortgages. After purchase by the Series, a
security may cease to be rated or its rating may be reduced below the minimum
required for purchase by the Series. Neither event will require a sale of such
security by the Series. However, T. Rowe Price will consider such event in its
determination of whether the Series should continue to hold the security. To the
extent that the ratings given by Moody's or S&P may change as a result of
changes in such organizations or their rating systems, the Series will attempt
to use comparable ratings as standards for investments in accordance with the
investment policies contained in the Fund's Prospectus.
The Series may also invest in the securities of certain supranational entities,
such as the International Development Bank.
For a discussion of mortgage-backed securities and certain risks involved
therein, see this Statement of Additional Information and the Fund's Prospectus
under "Investment Methods and Risk Factors."
ASSET-BACKED SECURITIES. The Series may invest a portion of its assets in debt
obligations known as asset-backed securities. The credit quality of most
asset-backed securities depends primarily on the credit quality of the assets
underlying such securities, how well the entity issuing the security is
insulated from the credit risk of the originator or any other affiliated
entities and the amount and quality of any credit support provided to the
securities. The rate of principal payment on asset-backed securities generally
depends on the rate of principal payments received on the underlying assets
which in turn may be affected by a variety of economic and other factors. As a
result, the yield on any asset-backed security is difficult to predict with
precision and actual yield to maturity may be more or less than the anticipated
yield to maturity.
AUTOMOBILE RECEIVABLE SECURITIES. The Series may invest in asset-backed
securities which are backed by receivables from motor vehicle installment sales
contracts or installment loans secured by motor vehicles ("Automobile Receivable
Securities").
CREDIT CARD RECEIVABLE SECURITIES. The Series may invest in asset-backed
securities backed by receivables from revolving credit card agreements ("Credit
Card Receivable Securities").
OTHER ASSETS. T. Rowe Price anticipates that asset-backed securities backed by
assets other than those described above will be issued in the future. The Series
may invest in such securities in the future if such investment is otherwise
consistent with its investment objective and policies. For a discussion of these
securities, see this Statement of Additional Information and the Fund's
Prospectus under "Investment Methods and Risk Factors."
In addition to the investments described in the Fund's Prospectus, the Series
may invest in the following:
ADDITIONAL FUTURES AND OPTIONS CONTRACTS. Although the Series has no current
intention of engaging in financial futures or options transactions other than
those described above, it reserves the right to do so. Such futures or options
trading might involve risks which differ from those involved in the futures and
options described above.
SERIES O (EQUITY INCOME SERIES) -- The investment objective of Series O is to
seek to provide substantial dividend income and also capital appreciation by
investing primarily in dividend-paying common stocks of established companies.
In pursuing its objective, the Series emphasizes companies with favorable
prospects for increasing dividend income, and secondarily, capital appreciation.
Over time, the income component (dividends and interest earned) of the Series'
investments is expected to be a significant contributor to the Series' total
return. Total return is expected to consist primarily of dividend income and
secondarily of capital appreciation (or depreciation).
The Series may invest up to 25% of its total assets in U.S. dollar denominated
and non U.S. dollar denominated securities issued by foreign issuers. For a
discussion of the risks involved in foreign securities investments, see this
Statement of Additional Information and the Prospectus under "Investment Methods
and Risk Factors."
The investment program of the Series is based on several premises. First, the
Series' Sub-Adviser, T. Rowe Price, believes that, over time, dividend income
can account for a significant component of the total return from equity
investments. Second, dividends are normally a more stable and predictable source
of return than capital appreciation. While the price of a company's stock
generally increases or decreases in response to short-term earnings and market
fluctuations, its dividends are generally less volatile. Finally, T. Rowe Price
believes that stocks which distribute a high level of current income tend to
have less price volatility than those which have below average dividends.
To achieve its objective, the Series, under normal circumstances, will invest at
least 65% of its assets in income-producing common stocks, whose prospects for
dividend growth and capital appreciation are considered favorable by T. Rowe
Price. To enhance capital appreciation potential, the Series also uses a
value-oriented approach, which means it invests in stocks it believes are
currently undervalued in the market place. The Series' investments will
generally be made in companies which share some of the following
characteristics: established operating histories; above-average current dividend
yields relative to the S&P 500; low price-earnings ratios relative to the S&P
500; sound balance sheets and other financial characteristics; and low stock
price relative to company's underlying value as measured by assets, earnings,
cash flow or business franchises.
The Series may also invest its assets in fixed income securities (corporate,
government, and municipal bonds of various maturities). The Series would invest
in municipal bonds when the expected total return from such bonds appears to
exceed the total returns obtainable from corporate or government bonds of
similar credit quality.
Series O may invest in debt securities of any type without regard to quality or
rating. Such securities would be purchased in companies which meet the
investment criteria for the Series. Such securities may include securities rated
below investment grade (e.g., securities rated Ba or lower by Moody's or BB or
lower by S&P). The Series will not purchase such a security (commonly referred
to as a "junk bond") if immediately after such purchase the Series would have
more than 10% of its total assets invested in such securities. See "Investment
Methods and Risk Factors" - "Special Risks Associated with Low-Rated and
Comparable Unrated Debt Securities" for a discussion of the risks associated
with investing in such securities.
Although the Series will invest primarily in U.S. common stocks, it may also
purchase other types of securities, for example, foreign securities, convertible
securities, real estate investment trusts (REITs) and warrants, when considered
consistent with the Series' investment objective and program. The Series'
investments in foreign securities include non-dollar denominated securities
traded outside of the U.S. and dollar denominated securities traded in the U.S.
(such as ADRs). The Series may invest up to 25% of its total assets in foreign
securities. See the discussions of the risks associated with investing in
foreign securities under "American Depositary Receipts," "Currency Fluctuations"
and "Certain Risks of Foreign Investing."
The Series may also engage in a variety of investment management practices, such
as buying and selling futures and options. The Series may buy and sell futures
contracts (and options on such contracts) to manage its exposure to changes in
securities prices and foreign currencies and as an efficient means of adjusting
its overall exposure to certain markets. The Series may purchase or write (sell)
call and put options on securities, financial indices, and foreign currencies.
It is the Series' operating policy that initial margin deposits and premiums on
options used for non-hedging purposes will not equal more than 5% of the Series'
net asset value and, with respect to options on securities, the total market
value of securities against which the Series has written call or put options may
not exceed 25% of its total assets. The Series will not commit more than 5% of
its total assets to premiums when purchasing call or put options. The Series may
also invest up to 10% of its total assets in hybrid instruments which are
described under "Investment Methods and Risk Factors" - "Hybrid Instruments."
Also see the discussions of futures, options and forward currency transactions
under "Investment Methods and Risk Factors."
The Series may also invest in restricted securities described under "Investment
Methods and Risk Factors." The Series' investment in such securities, other than
Rule 144A securities, is limited to 5% of its net assets. Series O may invest in
securities on a "when-issued" or "delayed delivery basis" as discussed in
"Investment Methods and Risk Factors." The Series may borrow up to 33 1/3% of
its total assets; however, the Series may not purchase securities when
borrowings exceed 5% of its total assets. The Series may hold a certain portion
of its assets in money market securities, including shares of the Reserve
Investment Fund, a T. Rowe Price money market fund established for the exclusive
use of the T. Rowe Price family of mutual funds and other clients of T. Rowe
Price and repurchase agreements, in the two highest rating categories, maturing
in one year or less. For temporary, defensive purposes, the Series may invest
without limitation in such securities. The Series may lend securities to
broker-dealers, other institutions, or other persons to earn additional income.
The value of loaned securities may not exceed 33 1/3% of the Series' total
assets. See "Investment Methods and Risk Factors" - "Lending of Portfolio
Securities" for a discussion of the risks associated with securities lending.
SERIES P (HIGH YIELD SERIES) -- The investment objective of Series P is to seek
high current income. Capital appreciation is a secondary objective. Under normal
circumstances, the Series will seek its investment objective by investing
primarily in a broad range of income producing securities, including (i) higher
yielding, higher risk, debt securities (commonly referred to as "junk bonds");
(ii) preferred stock; (iii) securities issued by foreign governments, their
agencies and instrumentalities, and foreign corporations, provided that such
securities are denominated in U.S. dollars; (iv) mortgage-backed securities
("MBSs"); (v) asset-backed securities; (vi) securities issued or guaranteed by
the U.S. Government or any of its agencies or instrumentalities, including
Treasury bills, certificates of indebtedness, notes and bonds; (vii) securities
issued or guaranteed by, the Dominion of Canada or provinces thereof; and (viii)
zero coupon securities. Series P may also invest up to 35% of its assets in
common stocks (which may include ADRs), warrants and rights. Under normal
circumstances, at least 65% of the Series' total assets will be invested in
high-yielding, high risk debt securities.
Series P may invest up to 100% of its assets in debt securities that, at the
time of purchase, are rated below investment grade ("high yield securities" or
"junk bonds"), which involve a high degree of risk and are predominantly
speculative. For a description of debt ratings and a discussion of the risks
associated with investing in junk bonds, see "Investment Methods and Risk
Factors." Included in the debt securities which the Series may purchase are
convertible bonds, or bonds with warrants attached. A "convertible bond" is a
bond, debenture, or preferred share which may be exchanged by the owner for
common stock or another security, usually of the same company, in accordance
with the terms of the issue. A "warrant" confers upon the holder the right to
purchase an amount of securities at a particular time and price. See "Investment
Methods and Risk Factors" for a discussion of the risks associated with such
securities.
The Series may purchase securities which are obligations of, or guaranteed by,
the Dominion of Canada or provinces thereof and debt securities issued by
Canadian corporations. Canadian securities will not be purchased if subject to
the foreign interest equalization tax and unless payable in U.S. dollars. The
Series may also invest in debt securities issued by foreign governments
(including Brady Bonds), their agencies and instrumentalities and foreign
corporations (including those in emerging markets), provided such securities are
denominated in U.S. dollars. The Series' investment in foreign securities,
excluding Canadian securities, will not exceed 25% of the Series' net assets.
See "Investment Methods and Risk Factors" for a discussion of the risks
associated with investing in foreign securities, Brady Bonds and emerging
markets.
The Series may invest in MBSs, including mortgage pass-through securities and
collateralized mortgage obligations (CMOs). The Series may invest in securities
known as "inverse floating obligations," "residual interest bonds," and
"interest only" (IO) and "principal only" (PO) bonds, the market values of which
generally will be more volatile than the market values of most MBSs. This is due
to the fact that such instruments are more sensitive to interest rate changes
and to the rate of principal prepayments than are most other MBSs. The Series
will hold less than 25% of its total assets in MBSs. For a discussion of MBSs
and the risks associated with such securities, see "Investment Methods and Risk
Factors."
The Series may also invest up to 15% of its total assets in asset-backed
securities. These include secured debt instruments backed by automobile loans,
credit card loans, home equity loans, manufactured housing loans and other types
of secured loans providing the source of both principal and interest payments.
Asset-backed securities are subject to risks similar to those discussed with
respect to MBSs. See "Investment Methods and Risk Factors."
The Series may invest in U.S. Government securities. U.S. Government securities
include bills, certificates of indebtedness, notes and bonds issued by the
Treasury or by agencies or instrumentalities of the U.S. Government.
The Series may invest in zero coupon securities which are debt securities that
pay no cash income but are sold at substantial discounts from their face value.
Certain zero coupon securities also are sold at substantial discounts but
provide for the commencement of regular interest payments at a deferred date.
See "Investment Methods and Risk Factors" for a discussion of zero coupon
securities.
Series P may acquire certain securities that are restricted as to disposition
under federal securities laws, including securities eligible for resale to
qualified institutional investors pursuant to Rule 144A under the Securities Act
of 1933, subject to the Series' policy that not more than 15% of the Series' net
assets will be invested in illiquid assets. See "Investment Methods and Risk
Factors" for a discussion of restricted securities.
Series P may purchase securities on "when-issued" or "delayed delivery basis" in
excess of customary settlement periods for the type of security involved. The
Series may also purchase or sell securities on a "forward commitment" basis and
may enter into "repurchase agreements," "reverse repurchase agreements" and
"roll transactions." The Series may lend securities to broker/dealers, other
institutions or other persons to earn additional income. The value of loaned
securities may not exceed 33 1/3% of the Series' total assets. In addition, the
Series may purchase loans, loan participations and other types of direct
indebtedness.
The Series may enter into futures contracts (a type of derivative) (or options
thereon) to hedge all or a portion of its portfolio, as a hedge against changes
in prevailing levels of interest rates or as an efficient means of adjusting its
exposure to the bond market. The Series will not use futures contracts for
leveraging purposes. The Series will limit its use of futures contracts so that
initial margin deposits or premiums on such contracts used for non-hedging
purposes will not equal more than 5% of the Series' net asset value. The Series
may purchase call and put options and write such options on a "covered" basis.
The Series may also enter into interest rate and index swaps and purchase or
sell related caps, floors and collars. See "Investment Methods and Risk Factors"
for a discussion of the risks associated with these types of investments.
The Series' investment in warrants, valued at the lower of cost or market, will
not exceed 5% of the Series' net assets. Included within this amount, but not to
exceed 2% of the Series' net assets, may be warrants which are not listed on the
New York or American Stock Exchange. Warrants acquired by the Series in units or
attached to securities may be deemed to be without value.
From time to time, Series P may invest part or all of its assets in U.S.
Government securities, commercial notes or money market instruments. It is
anticipated that the weighted average maturity of the Series portfolio will
range from 5 to 15 years under normal circumstances.
SERIES Q (SMALL CAP VALUE SERIES) -- The objective of Series Q is capital
growth. Under normal circumstances, the Series will seek its investment
objective by investing at least 65% of its assets in stocks of
small-capitalization companies that the Series' Sub-Adviser, Strong Capital
Management, Inc., believes are undervalued relative to the market based on
earnings, cash flow or asset value. In seeking its objective the Series can
invest in a broad array of securities and financial instruments, including, but
not limited to (i) convertible securities; (ii) debt securities in all rating
categories; and (iii) foreign securities (including ADRs, EDRs, foreign
investment companies and foreign currencies). The Series may also invest in a
wide array of instruments which are commonly referred to as derivatives, which
may include options, futures, spread transactions, and swap agreements.
The Series may invest in options (exchange traded and OTC) for any lawful
purpose consistent with its investment objective such as hedging or managing
risk. The Series may buy or write (sell) put and call options on assets, such as
securities, currencies, financial commodities, and indices of debt and equity
securities and enter into closing transactions with respect to such options to
terminate an existing position.
Series Q may use futures contracts for any lawful purpose consistent with its
investment objective such as hedging or managing risk. The Series may enter into
futures contracts, including, but not limited to, interest rate and index
futures. The Fund may also purchase put and call options, and write covered put
and call options, on futures in which it is allowed to invest. The Series may
also write put options on futures contracts while at the same time purchasing
call options on the same futures contracts in order to create synthetically a
long futures contract position. Such options would have the same strike prices
and expiration dates. The Series will engage in this strategy only when Strong
believes it is more advantageous to the Series than purchasing the futures
contract.
Series Q may use spread transactions for any lawful purpose consistent with its
investment objective such as hedging or managing risk. The Series may purchase
covered spread options from securities dealers. Such covered spread options are
not presently exchange-listed or exchange-traded. The purchase of a spread
option gives the Series the right to put, or sell, a security that it owns at a
fixed dollar spread or fixed yield spread in relation to another security that
the Series does not own, but which is used as a benchmark. The risk to the
Series in purchasing covered spread options is the cost of the premium paid for
the spread option and any transactions costs. In addition, there is no assurance
that closing transactions will be available. The purchase of spread options will
be used to protect the Series against adverse changes in prevailing credit
quality spreads, i.e., the yield spread between high quality and lower quality
securities. Such protection is only provided during the life of the spread
option.
Series Q may enter into interest rate, securities index, commodity, or security
and currency exchange rate swap agreements for any lawful purpose consistent
with the Series' investment objective, such as for the purpose of attempting to
obtain or preserve a particular desired return or spread at a lower cost to the
Series than if the Series had invested directly in an instrument that yielded
that desired return or spread. The Series also may enter into swaps in order to
protect against an increase in the price of, or the currency exchange rate
applicable to, securities that the Series anticipates purchasing at a later
date.
In addition to the derivative instruments and strategies described above and in
the Prospectus, Strong expects to discover additional derivative instruments and
other hedging or risk management techniques. Strong may utilize these new
derivative instruments and techniques to the extent that they are consistent
with the Series' investment objective and permitted by the Series' investment
limitations, operating policies, and applicable regulatory authorities.
The Series may also invest in restricted securities (including Rule 144A
securities), repurchase agreements, reverse repurchase agreements, standby
commitments, warrants, short sales against the box and when issued and delayed
delivery securities.
For a discussion of the risks associated with the securities and investment
techniques available to Series Q, see the "Investment Methods and Risk Factors"
section of this statement of additional information.
SERIES S (SOCIAL AWARENESS SERIES) -- The investment objective of Series S is to
seek capital appreciation. In seeking its objective, Series S will invest in
various types of securities which meet certain social criteria established for
the Series. The Series may also invest in companies that are included in the
Domini 400 Social Index, which companies will be deemed to comply with the
Series' social criteria. Series S will invest in a diversified portfolio of
common stocks (which may include ADRs), convertible securities, preferred stocks
and debt securities. See "Investment Methods and Risk Factors" - "American
Depositary Receipts." From time to time, the Series may purchase government
bonds or commercial notes on a temporary basis for defensive purposes.
Series S will seek investments that comply with the Series' social criteria and
that offer investment potential. Because of the limitations on investment
imposed by the social criteria, the availability of investment opportunities for
the Series may be limited as compared to those of similar funds which do not
impose such restrictions on investment.
Securities selected for their appreciation possibilities will be primarily
common stocks or other securities having the investment characteristics of
common stocks, such as securities convertible into common stocks. Securities
will be selected on the basis of their appreciation and growth potential.
Securities considered to have capital appreciation and growth potential will
often include securities of smaller and less mature companies. Such companies
may present greater opportunities for capital appreciation because of high
potential earnings growth, but may also involve greater risk. They may have
limited product lines, markets or financial resources, and they may be dependent
on a limited management group. Their securities may trade less frequently and in
limited volume, and only in the over-the-counter market or on smaller securities
exchanges. As a result, the securities of smaller companies may have limited
marketability and may be subject to more abrupt or erratic changes in value than
securities of larger, more established companies. The Series may also invest in
larger companies where opportunities for above-average capital appreciation
appear favorable and the Series' social criteria are satisfied.
Series S may enter into futures contracts (a type of derivative) (or options
thereon) to hedge all or a portion of its portfolio or as an efficient means of
adjusting its exposure to the stock market. The Series will limit its use of
futures contracts so that initial margin deposits or premiums on such contracts
used for non-hedging purposes will not equal more than 5% of the Series' net
assets. The Series may also write call and put options on a covered basis and
purchase put and call options on securities and financial indices. See the
discussion of options and futures contracts under "Investment Methods and Risk
Factors."
Series S will not invest in securities of companies that engage in the
production of nuclear energy, alcoholic beverages or tobacco products.
In addition, the Series will not invest in securities of companies that
significantly engage in: (1) the manufacture of weapon systems; (2) practices
that, on balance, have a detrimental effect on the environment; or (3) the
gambling industry. Series S will monitor the activities identified above to
determine whether they are significant to an issuer's business. Significance may
be determined on the basis of the percentage of revenue generated by, or the
size of operations attributable to, such activities. The Series may invest in an
issuer that engages in the activities set forth above, in a degree that is not
deemed significant by the Investment Manager. In addition, the Series will seek
out companies that have contributed substantially to the communities in which
they operate, have a positive record on employment relations, have made
substantial progress in the promotion of women and minorities or in the
implementation of benefit policies that support working parents, or have taken
notably positive steps in addressing environmental challenges.
The Investment Manager will evaluate an issuer's activities to determine whether
it engages in any practices prohibited by the Series' social criteria. In
addition to its own research with respect to an issuer's activities, the
Investment Manager will also rely on other organizations that publish
information for investors concerning the social policy implications of corporate
activities. The Investment Manager may rely upon information provided by
advisory firms that provide social research on U.S. corporations, such as
Kinder, Lydenberg, Domini & Co., Inc., Franklin Insight, Inc. and
Prudential-Bache Capital Funding. Investment selection on the basis of social
attributes is a relatively new practice and the sources for this type of
information are not well established. The Investment Manager will continue to
identify and monitor sources of such information to screen issuers which do not
meet the social investment restrictions of the Series.
If after purchase of an issuer's securities by Series S, it is determined that
such securities do not comply with the Series' social criteria, the securities
will be eliminated from the Series' portfolio within a reasonable time. This
requirement may cause the Series to dispose of a security at a time when it may
be disadvantageous to do so.
SERIES T (TECHNOLOGY SERIES) -- The objective of Series T is long-term capital
appreciation. The Series pursues its objective by investing, under normal
circumstances, at least 80% of its total assets in the equity securities of
technology companies. The Series will be concentrated and expects to hold
approximately 30 to 50 positions. The Series is non-diversified within the
meaning of the Investment Company Act of 1940. The Series may invest up to 40%
of its total assets in foreign securities. The Series may actively trade its
investments without regard to the length of time they have been owned by the
Series.
The Sub-Adviser, Wellington Management Company, LLP, uses fundamental analysis
to choose technology securities in foreign and U.S. markets. The Series'
investment approach is based on analyzing the competitive outlook for the
technology sector, identifying those industries likely to benefit from the
current and expected future environment, and identifying individual
opportunities. The Sub-adviser's evaluation of technology companies rests on its
solid knowledge of the overall competitive environment including supply and
demand characteristics, trends, existing product evaluations, and new product
developments within the technology sector. Fundamental research is focused on
direct contact with company management, suppliers, and competitors.
Asset allocation within the Series reflects the Sub-adviser's opinion of the
relative attractiveness of stocks within the industries of the technology
sector, near term macroeconomic events that may detract or enhance an industry's
attractiveness, and the number of undervalued opportunities in each industry.
Opportunities dictate the magnitude and frequency of changes in asset allocation
among industries, but some representation typically is maintained in each major
industry, including computer software, computer hardware, semiconductors and
equipment, communications equipment, and internet and new media.
Stocks considered for purchase typically share the following attributes:
* A positive change in operating results is anticipated
* Unrecognized or undervalued capabilities are present
* The quality of management indicates that these factors will be converted to
shareholder values.
Stocks will be considered for sale from the Series when:
* Target prices are achieved
* Earnings and/or return expectations are marked down due to fundamental changes
in the company's operating outlook
* More attractive value in a comparable company is available.
The Series may invest in securities denominated in any currency. The Series may
invest a portion of its assets in options, futures and forward currency
contracts. Generally, these derivative instruments involve the obligation, in
the case of futures and forwards, or the right, in the case of options, to
purchase or sell financial instruments in the present or at a future date. These
derivatives strategies will be used:
* To adjust the portfolio's exposure to a particular currency
* To manage risk
* As a substitute for purchasing or selling securities
REPURCHASE AGREEMENTS. The Series intends to enter into repurchase agreements
only with banks and broker/dealers believed by the Sub-Adviser to present
minimal credit risks in accordance with guidelines approved by the Fund's Board
of Directors. The Sub-Adviser will review and monitor the creditworthiness of
such counterparties. The Series will not enter into a repurchase agreement with
a maturity of more than seven days if, as a result, more than 15% of the value
of its total net assets would be invested in such repurchase agreements and
other illiquid investments and securities for which no readily available market
exists.
Under adverse market conditions, the Series could invest some or all of its
assets in cash, fixed-income securities, money market securities or repurchase
agreements. Although the Series would do this only in seeking to avoid losses,
it could reduce the benefit from any upswing in the market. For a discussion of
the risks associated with the securities and investment techniques available to
Series T, see the "Investment Methods and Risk Factors" section of this
statement of additional information.
SERIES V (MID CAP VALUE SERIES) -- The investment objective of Series V is to
seek long-term growth of capital. Series V will seek to achieve its objective
through investment in a diversified portfolio of securities. Under normal
circumstances the Series will consist primarily of various types of common
stock, which may include ADRs, and securities convertible into common stocks
which the Investment Manager believes are undervalued relative to assets,
earnings, growth potential or cash flows. See the discussion of ADRs under
"Investment Methods and Risk Factors." Under normal circumstances, the Series
will invest at least 65% of its assets in the securities of companies which the
Investment Manager believes are undervalued.
Series V may also invest in (i) preferred stocks; (ii) warrants; and (iii)
investment grade debt securities (or unrated securities of comparable quality).
The Series may purchase securities on a "when-issued" or "delayed delivery
basis" in excess of customary settlement periods for the type of security
involved. The Series may purchase securities which are restricted as to
disposition under the federal securities laws, provided that such securities are
eligible for resale to qualified institutional investors pursuant to Rule 144A
under the Securities Act of 1933 and subject to the Series' policy that not more
than 15% of its total assets will be invested in illiquid securities. Series V
reserves the right to invest its assets temporarily in cash and money market
instruments when, in the opinion of the Investment Manager, it is advisable to
do so on account of current or anticipated market conditions. The Series may
utilize repurchase agreements on an overnight basis or bank demand accounts,
pending investment in securities or to meet potential redemptions or expenses.
See the discussion of when-issued securities, Rule 144A securities and
repurchase agreements under "Investment Methods and Risk Factors."
SERIES W (MAIN STREET GROWTH & INCOME(R) SERIES) -- The objective of Series W is
total return (which includes growth in the value of its shares as well as
current income) from equity and debt securities. The Series pursues its
objective by investing mainly in common stocks of U.S. companies, but it can
also invest in other equity securities such as preferred stocks and securities
convertible into common stocks. Although the Series does not have any
requirements as to the capitalization of issuers in which it invests, the
Series' Sub-Adviser, OppeneheimerFunds, Inc., currently emphasizes the stocks of
large-capitalization companies in the portfolio. In selecting securities for the
Series' portfolio, OppenheimerFunds evaluates the merits of particular
securities primarily through the exercise of its own investment analysis and
application of the multi-factor quantitative models discussed in the prospectus.
That process may include, among other things, evaluation of the issuer's
historical operations, prospects for the industry of which the issuer is part,
the issuer's financial condition, its pending product developments and business
(and those of competitors), the effect of general market and economic conditions
on the issuer's business, and legislative proposals that might affect the
issuer.
In seeking its objective the Series can invest in a broad array of securities
and financial instruments, including, but not limited to (i) equity securities;
(ii) convertible securities; (iii) debt securities in all rating categories;
(iv) foreign securities (including ADRs, and EDRs); (v) rights and warrants;
(vi) all types of assets backed securities and mortgage related securities
(including CMOs, REMICs and stripped mortgage backed securities); (vii)
when-issued and delayed delivery securities; (viii) repurchase and reverse
repurchase agreements; (ix) restricted securities (including securities eligible
for resale to qualified institutional purchasers under Rule 144A) and (x) real
estate investment trusts ("REITs"). The Series may also invest in a wide array
of instruments which are commonly referred to as derivatives, which may include
options, futures, forward contract spread transactions, and swap agreements.
For a discussion of the risks associated with the securities and investment
techniques available to Series W, see the "Investment Methods and Risk Factors"
section of this statement of additional information.
SERIES X (SMALL CAP GROWTH SERIES) -- The investment objective of Series X is to
seek long-term growth of capital. The Series invests primarily in equity
securities of small market capitalization companies ("small company stocks").
Market capitalization means the total market value of a company's outstanding
common stock. The Series anticipates that under normal market conditions, the
Series will invest at least 65% of its assets in equity securities of domestic
and foreign companies with market capitalizations substantially similar to that
of companies in the Russell 2000(TM) Growth Index at the time of purchase. The
equity securities in which the Series may invest include common stocks,
preferred stocks (both convertible and non-convertible), warrants and rights. It
is anticipated that the Series will invest primarily in companies whose
securities are traded on foreign or domestic stock exchanges or in the
over-the-counter market ("OTC"). The Series also may invest in securities of
emerging growth companies. Emerging growth companies are companies which have
passed their start-up phase and which show positive earnings and prospects of
achieving significant profit and gain in a relatively short period of time.
Under normal conditions, the Series intends to invest primarily in small company
stocks; however, the Series is also permitted to invest up to 35% of its assets
in equity securities of domestic and foreign issuers, debt obligations and
domestic and foreign money market instruments, including bankers acceptances,
certificates of deposit and discount notes of U.S. Government securities. Debt
obligations in which the Series may invest will be investment grade debt
obligations, although the Series may invest up to 5% of its assets in
non-investment grade debt obligations. In addition, for temporary or emergency
purposes, the Series can invest up to 100% of total assets in cash, cash
equivalents, U.S. Government securities, commercial paper and certain other
money market instruments, as well as repurchase agreements collateralized by
these types of securities. The Series also may invest in reverse repurchase
agreements and shares of other non-affiliated investment companies. See the
discussion of such securities under "Investment Methods and Risk Factors."
The Series may purchase an unlimited number of foreign securities, including
securities of companies in emerging markets. The Series may invest in foreign
securities, either directly or indirectly through the use of depositary
receipts. Depositary receipts, including American Depositary Receipts ("ADRs"),
European Depository Receipts and American Depository Shares are generally issued
by banks or trust companies and evidence ownership of underlying foreign
securities. The Series also may invest in securities of foreign investment funds
or trusts (including passive foreign investment companies). See the discussion
of foreign securities, emerging growth stocks, currency risk and ADRs under
"Investment Methods and Risk Factors."
Some of the countries in which the Series may invest may not permit direct
investment by outside investors. Investment in such countries may only be
permitted through foreign government-approved or government-authorized
investment vehicles, which may include other investment companies. Investing
through such vehicles may involve frequent or layered fees or expenses and may
also be subject to limitation under the Investment Company Act of 1940. See
"Investment Methods and Risk Factors" - "Shares of Other Investment Companies"
in the Prospectus for more information.
The Series may purchase and sell foreign currency on a spot basis and may engage
in forward currency contracts, currency options and futures transactions for
hedging or risk management purposes. See the discussion of such transactions and
currency risk under "Investment Methods and Risk Factors."
At various times the Series may invest in derivative instruments for hedging or
risk management purposes or for any other permissible purpose consistent with
the Series' investment objective. Derivative transactions in which the Series
may engage include the writing of covered put and call options on securities and
the purchase of put and call options thereon, the purchase of put and call
options on securities indexes and exchange-traded options on currencies and the
writing of put and call options on securities indexes. The Series may enter into
spread transactions and swap agreements. The Series also may buy and sell
financial futures contracts which may include interest-rate futures, futures on
currency exchanges, and stock and bond index futures contracts. The Series may
enter into any futures contracts and related options without limit for "bona
fide hedging" purposes (as defined in the Commodity Futures Trading Commission
regulations) and for other permissible purposes, provided that aggregate initial
margin and premiums on positions engaged in for purposes other than "bona fide
hedging" will not exceed 5% of its net asset value, after taking into account
unrealized profits and losses on such contracts. See "Investment Methods and
Risk Factors" for more information on options, futures and other derivative
instruments.
The Series may acquire warrants which are securities giving the holder the
right, but not the obligation, to buy the stock of an issuer at a given price
(generally higher than the value of the stock at the time of issuance), on a
specified date, during a specified period, or perpetually. Warrants may be
acquired separately or in connection with the acquisition of securities. The
Series may purchase warrants, valued at the lower of cost or market value, of up
to 5% of the Series' net assets. Included in that amount, but not to exceed 2%
of the Series' net assets, may be warrants that are not listed on any recognized
U.S. or foreign stock exchange. Warrants acquired by the Series in units or
attached to securities are not subject to these restrictions.
The Series may engage in short selling against the box, provided that no more
that 15% of the value of the Series' net assets is in deposits on short sales
against the box at any one time. The Series also may invest in real estate
investment trusts ("REITs") and other real estate industry companies or
companies with substantial real estate investments. See the discussion of real
estate securities under "Investment Methods and Risk Factors."
The Series may invest in restricted securities, including Rule 144A securities.
See the discussion of restricted securities under "Investment Methods and Risk
Factors." The Series also may invest without limitation in securities purchased
on a when-issued or delayed delivery basis as discussed under "Investment
Methods and Risk Factors."
While there is careful selection and constant supervision by the Series'
Sub-Adviser, Strong Capital Management, Inc. ("Strong"), there can be no
guarantee that the Series' objective will be achieved. Strong invests in
companies whose earnings are believed to be in a relatively strong growth trend,
and, to a lesser extent, in companies in which significant further growth is not
anticipated but which are perceived to be undervalued. In identifying companies
with favorable growth prospects, Strong considers factors such as prospects for
above-average sales and earnings growth; high return on invested capital;
overall financial strength; competitive advantages, including innovative
products and services; effective research, product development and marketing;
and stable, capable management.
Investing in securities of small-sized and emerging growth companies may involve
greater risks than investing in larger, more established issuers since these
securities may have limited marketability and, thus, they may be more volatile
than securities of larger, more established companies or the market averages in
general. Because small-sized companies normally have fewer shares outstanding
than larger companies, it may be more difficult for the Series to buy or sell
significant numbers of such shares without an unfavorable impact on prevailing
prices. Small-sized companies may have limited product lines, markets or
financial resources and may lack management depth. In addition, small-sized
companies are typically subject to wider variations in earnings and business
prospects than are larger, more established companies. There is typically less
publicly available information concerning small-sized companies than for larger,
more established ones.
Securities of issuers in "special situations" also may be more volatile, since
the market value of these securities may decline in value if the anticipated
benefits do not materialize. Companies in "special situations" include, but are
not limited to, companies involved in an acquisition or consolidation;
reorganization; recapitalization; merger, liquidation or distribution of cash,
securities or other assets; a tender or exchange offer, a breakup or workout of
a holding company; litigation which, if resolved favorably, would improve the
value of the companies' securities; or a change in corporate control.
Although investing in securities of emerging growth companies or issuers in
"special situations" offers potential for above-average returns if the companies
are successful, the risk exists that the companies will not succeed and the
prices of the companies' shares could significantly decline in value. Therefore,
an investment in the Series may involve a greater degree of risk than an
investment in other mutual funds that seek long-term growth of capital by
investing in better-known, larger companies.
SERIES Y (SELECT 25 SERIES) -- The investment objective of the Series is to seek
long-term growth of capital. It is a diversified fund that pursues its objective
by normally concentrating its investments in a core position of 20-30 common
stocks of growth companies which have exhibited consistent above average
earnings growth. The Investment Manager selects as the core position for the
Series, what it believes to be premier growth companies. The Investment Manager
uses a "bottom-up" approach in selecting growth stocks. Portfolio holdings will
be replaced when one or more of the companies' fundamentals have changed and, in
the opinion of the Investment Manager, it is no longer a premier growth company.
There can be no assurance that the Series' objective will be achieved.
The Series may invest in (i) common stocks; (ii) preferred stocks; (iii) foreign
securities (including ADRs); and (iv) investment grade debt securities (or
unrated securities of comparable quality). The Series may invest in a variety of
investment companies, including those that seek to track the composition and
performance of a specific index. The Series may use these index-based
investments as a way of managing its cash position, to gain exposure to the
equity markets, or a particular sector of the equity market, while maintaining
liquidity. The Series may purchase securities on a "when-issued" or "delayed
delivery basis" in excess of customary settlement periods for the type of
security involved. The Series may purchase securities which are restricted as to
disposition under the federal securities laws, including securities that are
eligible for resale to qualified institutional investors pursuant to Rule 144A
under the Securities Act of 1933 and subject to the Series' policy that not more
than 15% of its net assets will be invested in illiquid securities. The Series
reserves the right to invest its assets temporarily in cash and money market
instruments when, in the opinion of the Investment Manager, it is advisable to
do so on account of current or anticipated market conditions. The Series may
utilize repurchase agreements on an overnight basis or bank demand accounts,
pending investment in securities or to meet potential redemptions or expenses.
See the discussion of foreign securities, when issued securities, restricted
securities and repurchase agreements under "Investment Methods and Risk
Factors."
INVESTMENT METHODS AND RISK FACTORS
Some of the risk factors related to certain securities, instruments and
techniques that may be used by one or more of the Series are described in the
"Main Risks" and "Investment Policies and Management Practices " sections of the
Prospectus and in this Statement of Additional Information. The following is a
description of certain additional risk factors related to various securities,
instruments and techniques. The risks so described only apply to those Series
which may invest in such securities and instruments or which use such
techniques. Also included is a general description of some of the investment
instruments, techniques and methods which may be used by one or more of the
Series. The methods described only apply to those Series which may use such
methods. Although a Series may employ the techniques, instruments and methods
described below, consistent with its investment objective and policies and any
applicable law, no Series will be required to do so.
AMERICAN DEPOSITARY RECEIPTS -- Each of the Series (except Series C and E) of
the Fund may purchase American Depositary Receipts ("ADRs") which are issued
generally by U.S. banks and which represent the deposit with the bank of a
foreign company's securities. ADRs are publicly traded on exchanges or
over-the-counter in the United States. Investors should consider carefully the
substantial risks involved in investing in securities issued by companies of
foreign nations, which are in addition to the usual risks inherent in domestic
investments. ADRs and European Depositary Receipts ("EDRs") or other securities
convertible into securities of issuers based in foreign countries are not
necessarily denominated in the same currency as the securities into which they
may be converted. Generally, ADRs, in registered form, are denominated in U.S.
dollars and are designed for use in the U.S. securities markets, while EDRs
(also referred to as Continental Depositary Receipts ("CDRs"), in bearer form,
may be denominated in other currencies and are designed for use in European
securities markets. ADRs are receipts typically issued by a U.S. bank or trust
company evidencing ownership of the underlying securities. EDRs are European
receipts evidencing a similar arrangement and GDRs are global receipts
evidencing a similar arrangement. For purposes of the Series' investment
policies, ADRs, EDRs and GDRs are deemed to have the same classification as the
underlying securities they represent. Thus, an ADR, EDR or GDR representing
ownership of common stock will be treated as common stock.
Depositary receipts are issued through "sponsored" or "unsponsored" facilities.
A sponsored facility is established jointly by the issuer of the underlying
security and a depositary, whereas a depositary may establish an unsponsored
facility without participation by the issuer of the deposited security. Holders
of unsponsored depositary receipts generally bear all the cost of such
facilities and the depositary of an unsponsored facility frequently is under no
obligation to distribute shareholder communications received from the issuer of
the deposited security or to pass through voting rights to the holders of such
receipts in respect of the deposited securities.
SHARES OF OTHER INVESTMENT COMPANIES -- Each of the Series may invest in other
investment companies, which may include index-based investments such as SPDRs
(based on the S&P 500), MidCap SPDRs (based on the S&P MidCap 400 Index), Select
Sector SPDRs (based on sectors or industries of the S&P 500 Index), Nasdaq-100
Index Tracking Stocks (based on the Nasdaq-100 Index) and DIAMONDS (based on the
Dow Jones Industrial Average). To the extent a Series invests in other
investment companies, it will incur its pro rata share of the underlying
investment companies' expenses. In addition, a Series will be subject to the
effects of business and regulatory developments that affect an underlying
investment company or the investment company industry generally. The Series'
investment in shares of other investment companies may not exceed immediately
after purchase 10% of the Series' total assets and no more than 5% of its total
assets may be invested in the shares of any one investment company. Series N and
Series O may each invest up to 25% of their assets in shares of the Reserve
Investment Fund. The Reserve Investment Fund is a managed money market fund that
is not available to the public. The Fund does not charge investment management
fees, although it does incur other operating expenses.
REPURCHASE AGREEMENTS -- A repurchase agreement involves a purchase by the
Series of a security from a selling financial institution (such as a bank,
savings and loan association or broker-dealer) which agrees to repurchase such
security at a specified price and at a fixed time in the future, usually not
more than seven days from the date of purchase. The resale price is in excess of
the purchase price and reflects an agreed upon yield effective for the period of
time the Series' money is invested in the security.
Currently, Series A, B, C, E, S, J, P, V and Y may enter into repurchase
agreements only with federal reserve system member banks with total assets of at
least one billion dollars and equity capital of at least one hundred million
dollars and "primary" dealers in U.S. Government securities. These Series may
enter into repurchase agreements, fully collateralized by U.S. Government or
agency securities, only on an overnight basis.
Repurchase agreements are considered to be loans by the Fund under the
Investment Company Act of 1940. Engaging in any repurchase transaction will be
subject to any rules or regulations of the Securities and Exchange Commission or
other regulatory authorities. Not more than 10% of the net assets of Series A,
B, C, D, E, S, J, and W and not more than 15% of the net assets of Series V and
Y will be invested in illiquid assets, which include repurchase agreements with
maturities of over seven days.
Series D may enter into repurchase agreements only with (a) securities dealers
that have a total capitalization of at least $40,000,000 and a ratio of
aggregate indebtedness to net capital of no more than 4 to 1, or, alternatively,
net capital equal to 6% of aggregate debit balances, or (b) banks that have at
least $1,000,000,000 in assets and a net worth of at least $100,000,000 as of
its most recent annual report. In addition, the aggregate repurchase price of
all repurchase agreements held by each Series with any broker shall not exceed
15% of the total assets of the Series or $5,000,000, whichever is greater. The
Series will not enter into repurchase agreements maturing in more than seven
days if the aggregate of such repurchase agreements and other illiquid
investments would exceed 10% of total assets for Series D.
Series I may enter into repurchase agreements only with issuers who,
individually or with issuer's parent, have outstanding debt rated AA or higher
by S&P or Aa or higher by Moody's or outstanding commercial paper or bank
obligations rated A-1 by S&P or Prime-1 by Moody's; or if no such ratings are
available, the instrument must be of comparable quality in the opinion of the
Sub-Adviser.
Series X may enter into repurchase agreements with (a) well-established
securities dealers or (b) banks that are members of the Federal Reserve System.
Any such dealer or bank will have a credit rating with respect to its short-term
debt of at least A1 by Standard & Poor's Corporation, P1 by Moody's Investors
Service, Inc., or the equivalent rating by the Investment Manager or relevant
Sub-Adviser. Series X may enter into repurchase agreements with maturities of
over seven days, provided that the Series may not invest more than 15% of its
net assets in illiquid securities.
Series N and O may enter into repurchase agreements only with (a) securities
dealers that have a net capital in excess of $50,000,000, are reasonably
leveraged, and are otherwise considered as appropriate entities with which to
enter into repurchase agreements, or (b) banks that are included on T. Rowe
Price's list of established banks. To determine whether a dealer or bank
qualifies under these criteria, T. Rowe Price's Credit Committee will conduct a
thorough examination to determine that the applicable financial and
profitability standards have been met. Series N and O will not under any
circumstances enter into a repurchase agreement of a duration of more than seven
business days if, as a result, more than 15% of the value of the Series' net
assets would be so invested or invested in illiquid securities. Generally, the
Series will not commit more than 50% of its gross assets to repurchase
agreements or more than 5% of its total assets to repurchase agreements of any
one vendor.
In the event of a bankruptcy or other default of a seller of a repurchase
agreement, the Series could experience both delays in liquidating the underlying
securities and losses, including (a) possible decline in the value of the
underlying security during the period while the Series seeks to enforce its
rights thereto; (b) possible subnormal levels of income and lack of access to
income during this period; and (c) expenses of enforcing its rights. The Board
of Directors of the Fund has promulgated guidelines with respect to repurchase
agreements.
Certain Series may enter into reverse repurchase agreements with the same
parties with whom they may enter into repurchase agreements. Under a reverse
repurchase agreement, the Series would sell securities and agree to repurchase
them at a particular price at a future date. Reverse repurchase agreements
involve the risk that the market value of the securities retained in lieu of
sale by the Series may decline below the price of the securities the Series has
sold but is obligated to repurchase. In the event the buyer of securities under
a reverse repurchase agreement files for bankruptcy or becomes insolvent, such
buyer or its trustee or receiver may receive an extension of time to determine
whether to enforce the Series' obligation to repurchase the securities, and the
Series' use of the proceeds of the reverse repurchase agreement may effectively
be restricted pending such decision.
Certain Series also may enter into "dollar rolls," in which the Series sells
fixed income securities for delivery in the current month and simultaneously
contracts to repurchase substantially similar (same type, coupon and maturity)
securities on a specified future date. During the roll period, the Series would
forego principal and interest paid on such securities. The Series would be
compensated by the difference between the current sales price and the forward
price for the future purchase, as well as by the interest earned on the cash
proceeds of the initial sale.
At the time a Series enters into reverse repurchase agreements or dollar rolls,
it will establish and maintain a segregated account with its custodian
containing cash or liquid securities having a value not less than the repurchase
price, including accrued interest. Reverse repurchase agreements and dollar
rolls will be treated as borrowings and will be deducted from a Series'
borrowing limitation.
REAL ESTATE SECURITIES -- Certain Series may invest in equity securities of real
estate investment trusts ("REITs") and other real estate industry companies or
companies with substantial real estate investments and therefore, such Series
may be subject to certain risks associated with direct ownership of real estate
and with the real estate industry in general. These risks include, among others:
possible declines in the value of real estate; possible lack of availability of
mortgage funds; extended vacancies of properties; risks related to general and
local economic conditions; overbuilding; increases in competition, property
taxes and operating expenses; changes in zoning laws; costs resulting from the
clean-up of, and liability to third parties for damages resulting from,
environmental problems; casualty or condemnation losses; uninsured damages from
floods, earthquakes or other natural disasters; limitations on and variations in
rents; and changes in interest rates.
REITs are pooled investment vehicles which invest primarily in income producing
real estate or real estate related loans or interests. REITs are generally
classified as equity REITs, mortgage REITs or hybrid REITs. Equity REITs invest
the majority of their assets directly in real property and derive income
primarily from the collection of rents. Equity REITs can also realize capital
gains by selling properties that have appreciated in value. Mortgage REITs
invest the majority of their assets in real estate mortgages and derive income
from the collection of interest payments. REITs are not taxed on income
distributed to shareholders provided they comply with several requirements of
the Internal Revenue Code, as amended ( the "Code"). Certain REITs may be
self-liquidating in that a specific term of existence is provided for in the
trust document. Such trusts run the risk of liquidating at an economically
inopportune time.
DEBT OBLIGATIONS -- Yields on short, intermediate, and long-term securities are
dependent on a variety of factors, including the general conditions of the money
and bond markets, the size of a particular offering, the maturity of the
obligation, and the rating of the issue. Debt securities with longer maturities
tend to produce higher yields and are generally subject to potentially greater
capital appreciation and depreciation than obligations with shorter maturities
and lower yields. The market prices of debt securities usually vary, depending
upon available yields. An increase in interest rates will generally reduce the
value of portfolio investments, and a decline in interest rates will generally
increase the value of portfolio investments. The ability of the Series to
achieve its investment objectives is also dependent on the continuing ability of
the issuers of the debt securities in which the Series invest to meet their
obligations for the payment of interest and principal when due.
SPECIAL RISKS ASSOCIATED WITH LOW-RATED AND COMPARABLE UNRATED DEBT SECURITIES
- -- Low-rated and comparable unrated securities, while generally offering higher
yields than investment-grade securities with similar maturities, involve greater
risks, including the possibility of default or bankruptcy. They are regarded as
predominantly speculative with respect to the issuer's capacity to pay interest
and repay principal. Certain Series may also purchase low rated and comparable
unrated securities which are in default when purchased. The special risk
considerations in connection with such investments are discussed below. See the
Appendix of this Statement of Additional Information for a discussion of
securities ratings.
The low-rated and comparable unrated securities market is relatively new, and
its growth paralleled a long economic expansion. As a result, it is not clear
how this market may withstand a prolonged recession or economic downturn. Such a
prolonged economic downturn could severely disrupt the market for and adversely
affect the value of such securities.
All interest-bearing securities typically experience appreciation when interest
rates decline and depreciation when interest rates rise. The market values of
low-rated and comparable unrated securities tend to reflect individual corporate
developments to a greater extent than do higher-rated securities, which react
primarily to fluctuations in the general level of interest rates. Low-rated and
comparable unrated securities also tend to be more sensitive to economic
conditions than are higher-rated securities. As a result, they generally involve
more credit risks than securities in the higher-rated categories. During an
economic downturn or a sustained period of rising interest rates, highly
leveraged issuers of low-rated and comparable unrated securities may experience
financial stress and may not have sufficient revenues to meet their payment
obligations. The issuer's ability to service its debt obligations may also be
adversely affected by specific corporate developments, the issuer's inability to
meet specific projected business forecasts, or the unavailability of additional
financing. The risk of loss due to default by an issuer of low-rated and
comparable unrated securities is significantly greater than issuers of
higher-rated securities because such securities are generally unsecured and are
often subordinated to other creditors. Further, if the issuer of a low-rated and
comparable unrated security defaulted, a Series might incur additional expenses
to seek recovery. Periods of economic uncertainty and changes would also
generally result in increased volatility in the market prices of low-rated and
comparable unrated securities and thus in a Series' net asset value.
As previously stated, the value of such a security will decrease in a rising
interest rate market and accordingly, so will a Series' net asset value. If a
Series experiences unexpected net redemptions in such a market, it may be forced
to liquidate a portion of its portfolio securities without regard to their
investment merits. Due to the limited liquidity of high-yield securities
(discussed below) a Series may be forced to liquidate these securities at a
substantial discount. Any such liquidation would reduce a Series' asset base
over which expenses could be allocated and could result in a reduced rate of
return for a Series.
Low-rated and comparable unrated securities typically contain redemption, call,
or prepayment provisions which permit the issuer of such securities containing
such provisions to, at their discretion, redeem the securities. During periods
of falling interest rates, issuers of high-yield securities are likely to redeem
or prepay the securities and refinance them with debt securities with a lower
interest rate. To the extent an issuer is able to refinance the securities or
otherwise redeem them, a Series may have to replace the securities with a
lower-yielding security, which would result in a lower return for a Series.
Credit ratings issued by credit-rating agencies evaluate the safety of principal
and interest payments of rated securities. They do not, however, evaluate the
market value risk of low-rated and comparable unrated securities and, therefore,
may not fully reflect the true risks of an investment. In addition,
credit-rating agencies may or may not make timely changes in a rating to reflect
changes in the economy or in the condition of the issuer that affect the market
value of the security. Consequently, credit ratings are used only as a
preliminary indicator of investment quality. Investments in low-rated and
comparable unrated securities will be more dependent on the Investment Manager
or relevant Sub-Adviser's credit analysis than would be the case with
investments in investment-grade debt securities. The Investment Manager or
relevant Sub-Adviser employs its own credit research and analysis, which
includes a study of existing debt, capital structure, ability to service debt
and to pay dividends, the issuer's sensitivity to economic conditions, its
operating history, and the current trend of earnings. The Investment Manager or
relevant Sub-Adviser continually monitors the investments in a Series' portfolio
and carefully evaluates whether to dispose of or to retain low-rated and
comparable unrated securities whose credit ratings or credit quality may have
changed.
A Series may have difficulty disposing of certain low-rated and comparable
unrated securities because there may be a thin trading market for such
securities. Because not all dealers maintain markets in all low-rated and
comparable unrated securities, there is no established retail secondary market
for many of these securities. A Series anticipates that such securities could be
sold only to a limited number of dealers or institutional investors. To the
extent a secondary trading market does exist, it is generally not as liquid as
the secondary market for higher-rated securities. The lack of a liquid secondary
market may have an adverse impact on the market price of the security. As a
result, a Series' asset value and a Series' ability to dispose of particular
securities, when necessary to meet a Series' liquidity needs or in response to a
specific economic event, may be impacted. The lack of a liquid secondary market
for certain securities may also make it more difficult for the Fund to obtain
accurate market quotations for purposes of valuing a Series. Market quotations
are generally available on many low-rated and comparable unrated issues only
from a limited number of dealers and may not necessarily represent firm bids of
such dealers or prices for actual sales. During periods of thin trading, the
spread between bid and asked prices is likely to increase significantly. In
addition, adverse publicity and investor perceptions, whether or not based on
fundamental analysis, may decrease the values and liquidity of low-rated and
comparable unrated securities, especially in a thinly-traded market.
Recent legislation has been adopted and from time to time, proposals have been
discussed regarding new legislation designed to limit the use of certain
low-rated and comparable unrated securities by certain issuers. An example of
legislation is a recent law which requires federally insured savings and loan
associations to divest their investment in these securities over time. New
legislation could further reduce the market because such legislation, generally,
could negatively affect the financial condition of the issuers of high-yield
securities, and could adversely affect the market in general. It is not
currently possible to determine the impact of the recent legislation on this
market. However, it is anticipated that if additional legislation is enacted or
proposed, it could have a material effect on the value of low-rated and
comparable unrated securities and the existence of a secondary trading market
for the securities.
LOAN PARTICIPATIONS AND ASSIGNMENTS. Certain Series may invest in fixed and
floating rate loans ("Loans") arranged through private negotiations between a
corporate or foreign entity and one or more financial institutions ("Lenders').
Certain Series may also invest in participations in Loans ("Participations") and
assignments of portions of Loans from third parties ("Assignments").
Participations typically will result in a Series having a contractual
relationship only with the Lender, not with the borrower. The Series will have
the right to receive payments of principal, interest and any fees to which it is
entitled only from the Lender selling the Participation and only upon receipt by
the Lender of the payments from the borrower. In connection with purchasing
Participations, the Series generally will have no right to enforce compliance by
the borrower with the terms of the loan agreement relating to the Loan ("Loan
Agreement"), nor any rights of set-off against the borrower, and the Series may
not directly benefit from any collateral supporting the Loan in which it has
purchased the Participation. As a result, the Series will assume the credit risk
of both the borrower and the Lender that is selling the Participation.
In the event of the insolvency of the Lender selling a Participation, the Series
may be treated as a general creditor of the Lender and may not benefit from any
set-off between the Lender and the borrower. The Series will acquire
Participations only if the Lender interpositioned between the Series and the
borrower is determined by the Investment Manager or relevant Sub-Adviser to be
creditworthy. Where a Series purchases Assignments from Lenders, the Series will
acquire direct rights against the borrower on the Loan. However, since
Assignments are arranged through private negotiations between potential
assignees and assignors, the rights and obligations acquired by the Series as
the purchaser of an Assignment may differ from, and be more limited than, those
held by the assigning Lender.
A Series may have difficulty disposing of Assignments and Participations. The
liquidity of such securities is limited and the Series anticipate that such
securities could be sold only to a limited number of institutional investors.
The lack of a liquid secondary market could have an adverse impact on the value
of such securities and on the Series' ability to dispose of particular
Assignments or Participations when necessary to meet the Series' liquidity needs
or in response to a specific economic event, such as a deterioration in the
creditworthiness of the borrower. The lack of a liquid secondary market for
Assignments and Participations also may make it more difficult for a Series to
assign a value to those securities for purposes of valuing the Series' portfolio
and calculating its net asset value.
PUT AND CALL OPTIONS--
WRITING (SELLING) COVERED CALL OPTIONS. A call option gives the holder (buyer)
the "right to purchase" a security or currency at a specified price (the
exercise price), at expiration of the option (European style) or at any time
until a certain date (the expiration date) (American style). So long as the
obligation of the writer of a call option continues, he may be assigned an
exercise notice by the broker-dealer through whom such option was sold,
requiring him to deliver the underlying security or currency against payment of
the exercise price. This obligation terminates upon the expiration of the call
option, or such earlier time at which the writer effects a closing purchase
transaction by repurchasing an option identical to that previously sold.
Certain Series may write (sell) "covered" call options and purchase options to
close out options previously written by the Series. In writing covered call
options, the Series expects to generate additional premium income which should
serve to enhance the Series' total return and reduce the effect of any price
decline of the security or currency involved in the option. Covered call options
will generally be written on securities or currencies which, in the opinion of
the Investment Manager or relevant Sub-Adviser, are not expected to have any
major price increases or moves in the near future but which, over the long term,
are deemed to be attractive investments for the Series.
The Series will write only covered call options. This means that the Series will
own the security or currency subject to the option or an option to purchase the
same underlying security or currency, having an exercise price equal to or less
than the exercise price of the "covered" option, or will establish and maintain
with its custodian for the term of the option, an account consisting of cash or
liquid securities having a value equal to the fluctuating market value of the
optioned securities or currencies.
Series securities or currencies on which call options may be written will be
purchased solely on the basis of investment considerations consistent with the
Series' investment objectives. The writing of covered call options is a
conservative investment technique believed to involve relatively little risk (in
contrast to the writing of naked or uncovered options, which the Series will not
do), but capable of enhancing the Series' total return. When writing a covered
call option, the Series, in return for the premium, gives up the opportunity for
profit from a price increase in the underlying security or currency above the
exercise price, but conversely, retains the risk of loss should the price of the
security or currency decline. Unlike one who owns securities or currencies not
subject to an option, the Series has no control over when it may be required to
sell the underlying securities or currencies, since it may be assigned an
exercise notice at any time prior to the expiration of its obligations as a
writer. If a call option which the Series has written expires, the Series will
realize a gain in the amount of the premium; however, such gain may be offset by
a decline in the market value of the underlying security or currency during the
option period. If the call option is exercised, the Series will realize a gain
or loss from the sale of the underlying security or currency.
Call options written by the Series will normally have expiration dates of less
than nine months from the date written. The exercise price of the options may be
below, equal to, or above the current market values of the underlying securities
or currencies at the time the options are written. From time to time, the Series
may purchase an underlying security or currency for delivery in accordance with
an exercise notice of a call option assigned to it, rather than delivering such
security or currency from its portfolio. In such cases, additional costs may be
incurred.
The premium received is the market value of an option. The premium the Series
will receive from writing a call option will reflect, among other things, the
current market price of the underlying security or currency, the relationship of
the exercise price to such market price, the historical price volatility of the
underlying security or currency, and the length of the option period. Once the
decision to write a call option has been made, the Investment Manager or
relevant Sub-Adviser, in determining whether a particular call option should be
written on a particular security or currency, will consider the reasonableness
of the anticipated premium and the likelihood that a liquid secondary market
will exist for those options. The premium received by the Series for writing
covered call options will be recorded as a liability of the Series. This
liability will be adjusted daily to the option's current market value, which
will be the latest sale price at the time at which the net asset value per share
of the Series is computed (close of the New York Stock Exchange), or, in the
absence of such sale, the latest asked price. The option will be terminated upon
expiration of the option, the purchase of an identical option in a closing
transaction, or delivery of the underlying security or currency upon the
exercise of the option.
The Series will realize a profit or loss from a closing purchase transaction if
the cost of the transaction is less or more than the premium received from the
writing of the option. Because increases in the market price of a call option
will generally reflect increases in the market price of the underlying security
or currency, any loss resulting from the repurchase of a call option is likely
to be offset in whole or in part by appreciation of the underlying security or
currency owned by the Series.
WRITING (SELLING) COVERED PUT OPTIONS. A put option gives the purchaser of the
option the right to sell, and the writer (seller) has the obligation to buy, the
underlying security or currency at the exercise price during the option period
(American style) or at the expiration of the option (European style). So long as
the obligation of the writer continues, he may be assigned an exercise notice by
the broker-dealer through whom such option was sold, requiring him to make
payment of the exercise price against delivery of the underlying security or
currency. The operation of put options in other respects, including their
related risks and rewards, is substantially identical to that of call options.
Certain Series may write American or European style covered put options and
purchase options to close out options previously written by the Series.
Certain Series may write put options on a covered basis, which means that the
Series would either (i) maintain in a segregated account cash or liquid
securities in an amount not less than the exercise price at all times while the
put option is outstanding; (ii) sell short the security or currency underlying
the put option at the same or higher price than the exercise price of the put
option; or (iii) purchase an option to sell the underlying security or currency
subject to the option having an exercise price equal to or greater than the
exercise price of the "covered" option at all times while the put option is
outstanding. (The rules of a clearing corporation currently require that such
assets be deposited in escrow to secure payment of the exercise price.) The
Series would generally write covered put options in circumstances where the
Investment Manager or relevant Sub-Adviser wishes to purchase the underlying
security or currency for the Series' portfolio at a price lower than the current
market price of the security or currency. In such event the Series would write a
put option at an exercise price which, reduced by the premium received on the
option, reflects the lower price it is willing to pay. Since the Series would
also receive interest on debt securities or currencies maintained to cover the
exercise price of the option, this technique could be used to enhance current
return during periods of market uncertainty. The risk in such a transaction
would be that the market price of the underlying security or currency would
decline below the exercise price less the premiums received. Such a decline
could be substantial and result in a significant loss to the Series. In
addition, the Series, because it does not own the specific securities or
currencies which it may be required to purchase in the exercise of the put, can
not benefit from appreciation, if any, with respect to such specific securities
or currencies.
PREMIUM RECEIVED FROM WRITING CALL OR PUT OPTIONS. A Series will receive a
premium from writing a put or call option, which increases such Series' return
in the event the option expires unexercised or is closed out at a profit. The
amount of the premium will reflect, among other things, the relationship of the
market price of the underlying security to the exercise price of the option, the
term of the option and the volatility of the market price of the underlying
security. By writing a call option, a Series limits its opportunity to profit
from any increase in the market value of the underlying security above the
exercise price of the option. By writing a put option, a Series assumes the risk
that it may be required to purchase the underlying security for an exercise
price higher than its then current market value, resulting in a potential
capital loss if the purchase price exceeds the market value plus the amount of
the premium received, unless the security subsequently appreciates in value.
CLOSING TRANSACTIONS. Closing transactions may be effected in order to realize a
profit on an outstanding call option, to prevent an underlying security or
currency from being called, or to permit the sale of the underlying security or
currency. A Series may terminate an option that it has written prior to its
expiration by entering into a closing purchase transaction in which it purchases
an option having the same terms as the option written. A Series will realize a
profit or loss from such transaction if the cost of such transaction is less or
more than the premium received from the writing of the option. In the case of a
put option, any loss so incurred may be partially or entirely offset by the
premium received from a simultaneous or subsequent sale of a different put
option. Because increases in the market price of a call option will generally
reflect increases in the market price of the underlying security, any loss
resulting from the purchase of a call option is likely to be offset in whole or
in part by unrealized appreciation of the underlying security owned by such
Series.
Furthermore, effecting a closing transaction will permit the Series to write
another call option on the underlying security or currency with either a
different exercise price or expiration date or both. If the Series desires to
sell a particular security or currency from its portfolio on which it has
written a call option, or purchased a put option, it will seek to effect a
closing transaction prior to, or concurrently with, the sale of the security or
currency. There is, of course, no assurance that the Series will be able to
effect such closing transactions at a favorable price. If the Series cannot
enter into such a transaction, it may be required to hold a security or currency
that it might otherwise have sold. When the Series writes a covered call option,
it runs the risk of not being able to participate in the appreciation of the
underlying securities or currencies above the exercise price, as well as the
risk of being required to hold on to securities or currencies that are
depreciating in value. This could result in higher transaction costs. The Series
will pay transaction costs in connection with the writing of options to close
out previously written options. Such transaction costs are normally higher than
those applicable to purchases and sales of portfolio securities.
PURCHASING CALL OPTIONS. Certain Series may purchase American or European call
options. The Series may enter into closing sale transactions with respect to
such options, exercise them or permit them to expire. The Series may purchase
call options for the purpose of increasing its current return.
Call options may also be purchased by a Series for the purpose of acquiring the
underlying securities or currencies for its portfolio. Utilized in this fashion,
the purchase of call options enables the Series to acquire the securities or
currencies at the exercise price of the call option plus the premium paid. At
times the net cost of acquiring securities or currencies in this manner may be
less than the cost of acquiring the securities or currencies directly. This
technique may also be useful to a Series in purchasing a large block of
securities or currencies that would be more difficult to acquire by direct
market purchases. So long as it holds such a call option rather than the
underlying security or currency itself, the Series is partially protected from
any unexpected decline in the market price of the underlying security or
currency and in such event could allow the call option to expire, incurring a
loss only to the extent of the premium paid for the option.
The Series may also purchase call options on underlying securities or currencies
it owns in order to protect unrealized gains on call options previously written
by it. Call options may also be purchased at times to avoid realizing losses.
For example, where the Series has written a call option on an underlying
security or currency having a current market value below the price at which such
security or currency was purchased by the Series, an increase in the market
price could result in the exercise of the call option written by the Series and
the realization of a loss on the underlying security or currency with the same
exercise price and expiration date as the option previously written.
PURCHASING PUT OPTIONS. Certain Series may purchase American or European style
put options. The Series may enter into closing sale transactions with respect to
such options, exercise them or permit them to expire. A Series may purchase a
put option on an underlying security or currency (a "protective put") owned by
the Series as a defensive technique in order to protect against an anticipated
decline in the value of the security or currency. Such hedge protection is
provided only during the life of the put option when the Series, as the holder
of the put option, is able to sell the underlying security or currency at the
put exercise price regardless of any decline in the underlying security's market
price or currency's exchange value. The premium paid for the put option and any
transaction costs would reduce any capital gain otherwise available for
distribution when the security or currency is eventually sold.
A Series may purchase put options at a time when the Series does not own the
underlying security or currency. By purchasing put options on a security or
currency it does not own, the Series seeks to benefit from a decline in the
market price of the underlying security or currency. If the put option is not
sold when it has remaining value, and if the market price of the underlying
security or currency remains equal to or greater than the exercise price during
the life of the put option, the Series will lose its entire investment in the
put option. In order for the purchase of a put option to be profitable, the
market price of the underlying security or currency must decline sufficiently
below the exercise price to cover the premium and transaction costs, unless the
put option is sold in a closing sale transaction.
DEALER OPTIONS. Certain Series may engage in transactions involving dealer
options. Certain risks are specific to dealer options. While the Series would
look to a clearing corporation to exercise exchange-traded options, if the
Series were to purchase a dealer option, it would rely on the dealer from whom
it purchased the option to perform if the option were exercised. Exchange-traded
options generally have a continuous liquid market while dealer options have
none. Consequently, the Series will generally be able to realize the value of a
dealer option it has purchased only by exercising it or reselling it to the
dealer who issued it. Similarly, when the Series writes a dealer option, it
generally will be able to close out the option prior to its expiration only by
entering into a closing purchase transaction with the dealer to which the Series
originally wrote the option. While the Series will seek to enter into dealer
options only with dealers who will agree to and which are expected to be capable
of entering into closing transactions with the Series, there can be no assurance
that the Series will be able to liquidate a dealer option at a favorable price
at any time prior to expiration. Failure by the dealer to do so would result in
the loss of the premium paid by the Series as well as loss of the expected
benefit of the transaction. Until the Series, as a covered dealer call option
writer, is able to effect a closing purchase transaction, it will not be able to
liquidate securities (or other assets) used as cover until the option expires or
is exercised. In the event of insolvency of the contra party, the Series may be
unable to liquidate a dealer option. With respect to options written by the
Series, the inability to enter into a closing transaction may result in material
losses to the Series. For example, since the Series must maintain a secured
position with respect to any call option on a security it writes, the Series may
not sell the assets which it has segregated to secure the position while it is
obligated under the option. This requirement may impair the Series' ability to
sell portfolio securities at a time when such sale might be advantageous.
The Staff of the SEC has taken the position that purchased dealer options and
the assets used to secure the written dealer options are illiquid securities.
The Series may treat the cover used for written OTC options as liquid if the
dealer agrees that the Series may repurchase the OTC option it has written for a
maximum price to be calculated by a predetermined formula. In such cases, the
OTC option would be considered illiquid only to the extent the maximum
repurchase price under the formula exceeds the intrinsic value of the option. To
this extent, the Series will treat dealer options as subject to the Series'
limitation on illiquid securities. If the SEC changes its position on the
liquidity of dealer options, the Series will change its treatment of such
instruments accordingly.
CERTAIN RISK FACTORS IN WRITING CALL OPTIONS AND IN PURCHASING CALL AND PUT
OPTIONS. During the option period, a Series, as writer of a call option has, in
return for the premium received on the option, given up the opportunity for
capital appreciation above the exercise price should the market price of the
underlying security increase, but has retained the risk of loss should the price
of the underlying security decline. The writer has no control over the time when
it may be required to fulfill its obligation as a writer of the option. The risk
of purchasing a call or put option is that the Series may lose the premium it
paid plus transaction costs. If the Series does not exercise the option and is
unable to close out the position prior to expiration of the option, it will lose
its entire investment.
An option position may be closed out only on an exchange which provides a
secondary market. There can be no assurance that a liquid secondary market will
exist for a particular option at a particular time and that the Series can close
out its position by effecting a closing transaction. If the Series is unable to
effect a closing purchase transaction, it cannot sell the underlying security
until the option expires or the option is exercised. Accordingly, the Series may
not be able to sell the underlying security at a time when it might otherwise be
advantageous to do so. Possible reasons for the absence of a liquid secondary
market include the following: (i) insufficient trading interest in certain
options; (ii) restrictions on transactions imposed by an exchange; (iii) trading
halts, suspensions or other restrictions imposed with respect to particular
classes or series of options or underlying securities; (iv) inadequacy of the
facilities of an exchange or the clearing corporation to handle trading volume;
and (v) a decision by one or more exchanges to discontinue the trading of
options or impose restrictions on orders. In addition, the hours of trading for
options may not conform to the hours during which the underlying securities are
traded. To the extent that the options markets close before the markets for the
underlying securities, significant price and rate movements can take place in
the underlying markets that cannot be reflected in the options markets. The
purchase of options is a highly specialized activity which involves investment
techniques and risks different from those associated with ordinary Series
securities transactions.
Each exchange has established limitations governing the maximum number of call
options, whether or not covered, which may be written by a single investor
acting alone or in concert with others (regardless of whether such options are
written on the same or different exchanges or are held or written on one or more
accounts or through one or more brokers). An exchange may order the liquidation
of positions found to be in violation of these limits and it may impose other
sanctions or restrictions.
OPTIONS ON STOCK INDICES. Options on stock indices are similar to options on
specific securities except that, rather than the right to take or make delivery
of the specific security at a specific price, an option on a stock index gives
the holder the right to receive, upon exercise of the option, an amount of cash
if the closing level of that stock index is greater than, in the case of a call,
or less than, in the case of a put, the exercise price of the option. This
amount of cash is equal to such difference between the closing price of the
index and the exercise price of the option expressed in dollars multiplied by a
specified multiple. The writer of the option is obligated, in return for the
premium received, to make delivery of this amount. Unlike options on specific
securities, all settlements of options on stock indices are in cash and gain or
loss depends on general movements in the stocks included in the index rather
than price movements in particular stocks. A stock index futures contract is an
agreement in which one party agrees to deliver to the other an amount of cash
equal to a specific amount multiplied by the difference between the value of a
specific stock index at the close of the last trading day of the contract and
the price at which the agreement is made. No physical delivery of securities is
made.
RISK FACTORS IN OPTIONS ON INDICES. Because the value of an index option depends
upon the movements in the level of the index rather than upon movements in the
price of a particular security, whether the Series will realize a gain or a loss
on the purchase or sale of an option on an index depends upon the movements in
the level of prices in the market generally or in an industry or market segment
rather than upon movements in the price of the individual security. Accordingly,
successful use of positions will depend upon the ability of the Investment
Manager or relevant Sub-Adviser to predict correctly movements in the direction
of the market generally or in the direction of a particular industry. This
requires different skills and techniques than predicting changes in the prices
of individual securities.
Index prices may be distorted if trading of securities included in the index is
interrupted. Trading in index options also may be interrupted in certain
circumstances, such as if trading were halted in a substantial number of
securities in the index. If this occurred, a Series would not be able to close
out options which it had written or purchased and, if restrictions on exercise
were imposed, might be unable to exercise an option it purchased, which would
result in substantial losses.
Price movements in Series securities will not correlate perfectly with movements
in the level of the index and therefore, a Series bears the risk that the price
of the securities may not increase as much as the level of the index. In this
event, the Series would bear a loss on the call which would not be completely
offset by movements in the prices of the securities. It is also possible that
the index may rise when the value of the Series' securities does not. If this
occurred, a Series would experience a loss on the call which would not be offset
by an increase in the value of its securities and might also experience a loss
in the market value of its securities.
Unless a Series has other liquid assets which are sufficient to satisfy the
exercise of a call on the index, the Series will be required to liquidate
securities in order to satisfy the exercise.
When a Series has written a call on an index, there is also the risk that the
market may decline between the time the Series has the call exercised against
it, at a price which is fixed as of the closing level of the index on the date
of exercise, and the time the Series is able to sell securities. As with options
on securities, the Investment Manager or relevant Sub-Adviser will not learn
that a call has been exercised until the day following the exercise date, but,
unlike a call on securities where the Series would be able to deliver the
underlying security in settlement, the Series may have to sell part of its
securities in order to make settlement in cash, and the price of such securities
might decline before they could be sold.
If a Series exercises a put option on an index which it has purchased before
final determination of the closing index value for the day, it runs the risk
that the level of the underlying index may change before closing. If this change
causes the exercised option to fall "out-of-the-money" the Series will be
required to pay the difference between the closing index value and the exercise
price of the option (multiplied by the applicable multiplier) to the assigned
writer. Although the Series may be able to minimize this risk by withholding
exercise instructions until just before the daily cutoff time or by selling
rather than exercising an option when the index level is close to the exercise
price, it may not be possible to eliminate this risk entirely because the cutoff
time for index options may be earlier than those fixed for other types of
options and may occur before definitive closing index values are announced.
TRADING IN FUTURES -- Certain Series may enter into financial futures contracts,
including stock and bond index, interest rate and currency futures ("futures or
futures contracts"). A futures contract provides for the future sale by one
party and purchase by another party of a specified amount of a specific
financial instrument (e.g., units of a stock index) for a specified price, date,
time and place designated at the time the contract is made. Brokerage fees are
incurred when a futures contract is bought or sold and margin deposits must be
maintained. Entering into a contract to buy is commonly referred to as buying or
purchasing a contract or holding a long position. Entering into a contract to
sell is commonly referred to as selling a contract or holding a short position.
Unlike when the Series purchases or sells a security, no price would be paid or
received by the Series upon the purchase or sale of a futures contract. Upon
entering into a futures contract, and to maintain the Series' open positions in
futures contracts, the Series would be required to deposit with its custodian in
a segregated account in the name of the futures broker an amount of cash or
liquid securities, known as "initial margin." The margin required for a
particular futures contract is set by the exchange on which the contract is
traded, and may be significantly modified from time to time by the exchange
during the term of the contract. Futures contracts are customarily purchased and
sold on margins that may range upward from less than 5% of the value of the
contract being traded.
Margin is the amount of funds that must be deposited by the Series with its
custodian in a segregated account in the name of the futures commission
merchant, or directly with the futures commission merchant in accordance with
Rule 17f-6 under the Investment Company Act of 1940, in order to initiate
futures trading and to maintain the Series' open position in futures contracts.
A margin deposit is intended to ensure the Series' performance of the futures
contract. The margin required for a particular futures contract is set by the
exchange on which the futures contract is traded, and may be significantly
modified from time to time by the exchange during the term of the futures
contract.
If the price of an open futures contract changes (by increase in the case of a
sale or by decrease in the case of a purchase) so that the loss on the futures
contract reaches a point at which the margin on deposit does not satisfy margin
requirements, the broker will require an increase in the margin. However, if the
value of a position increases because of favorable price changes in the futures
contract so that the margin deposit exceeds the required margin, the broker will
pay the excess to the Series.
These subsequent payments, called "variation margin," to and from the futures
broker, are made on a daily basis as the price of the underlying assets
fluctuate making the long and short positions in the futures contract more or
less valuable, a process known as "marking to the market." The Series expects to
earn interest income on its margin deposits. Although certain futures contracts,
by their terms, require actual future delivery of and payment for the underlying
instruments, in practice most futures contracts are usually closed out before
the delivery date. Closing out an open futures contract purchase or sale is
effected by entering into an offsetting futures contract purchase or sale,
respectively, for the same aggregate amount of the identical securities and the
same delivery date. If the offsetting purchase price is less than the original
sale price, the Series realizes a gain; if it is more, the Series realizes a
loss. Conversely, if the offsetting sale price is more than the original
purchase price, the Series realizes a gain; if it is less, the Series realizes a
loss. The transaction costs must also be included in these calculations. There
can be no assurance, however, that the Series will be able to enter into an
offsetting transaction with respect to a particular futures contract at a
particular time. If the Series is not able to enter into an offsetting
transaction, the Series will continue to be required to maintain the margin
deposits on the futures contract.
For example, the Standard & Poor's 500 Stock Index is composed of 500 selected
common stocks, most of which are listed on the New York Stock Exchange. The S&P
500 Index assigns relative weightings to the common stocks included in the
Index, and the Index fluctuates with changes in the market values of those
common stocks. In the case of the S&P 500 Index, contracts are to buy or sell
500 units. Thus, if the value of the S&P 500 Index were $150, one contract would
be worth $75,000 (500 units x $150). The stock index futures contract specifies
that no delivery of the actual stock making up the index will take place.
Instead, settlement in cash occurs. Over the life of the contract, the gain or
loss realized by the Fund will equal the difference between the purchase (or
sale) price of the contract and the price at which the contract is terminated.
For example, if the Fund enters into a futures contract to buy 500 units of the
S&P 500 Index at a specified future date at a contract price of $150 and the S&P
500 Index is at $154 on that future date, the Fund will gain $2,000 (500 units x
gain of $4). If the Fund enters into a futures contract to sell 500 units of the
stock index at a specified future date at a contract price of $150 and the S&P
500 Index is at $152 on that future date, the Fund will lose $1,000 (500 units x
loss of $2).
Options on futures are similar to options on underlying instruments except that
options on futures give the purchaser the right, in return for the premium paid,
to assume a position in a futures contract (a long position if the option is a
call and a short position if the option is a put), rather than to purchase or
sell the futures contract, at a specified exercise price at any time during the
period of the option. Upon exercise of the option, the delivery of the futures
position by the writer of the option to the holder of the option will be
accompanied by the delivery of the accumulated balance in the writer's futures
margin account which represents the amount by which the market price of the
futures contract, at exercise, exceeds (in the case of a call) or is less than
(in the case of a put) the exercise price of the option on the futures contract.
Alternatively, settlement may be made totally in cash. Purchasers of options who
fail to exercise their options prior to the exercise date suffer a loss of the
premium paid.
The writer of an option on a futures contract is required to deposit margin
pursuant to requirements similar to those applicable to futures contracts. Upon
exercise of an option on a futures contract, the delivery of the futures
position by the writer of the option to the holder of the option will be
accompanied by delivery of the accumulated balance in the writer's margin
account. This amount will be equal to the amount by which the market price of
the futures contract at the time of exercise exceeds, in the case of a call, or
is less than, in the case of a put, the exercise price of the option on the
futures contract.
Commissions on financial futures contracts and related options transactions may
be higher than those which would apply to purchases and sales of securities
directly. From time to time, a single order to purchase or sell futures
contracts (or options thereon) may be made on behalf of the Series and other
mutual funds or portfolios of mutual funds for which the Investment Manager or
relevant Sub-Adviser serves as adviser or sub-adviser. Such aggregated orders
would be allocated among the Series and such other mutual funds or series of
mutual funds in a fair and non-discriminatory manner.
A public market exists in interest rate futures contracts covering primarily the
following financial instruments: U.S. Treasury bonds; U.S. Treasury notes;
Government National Mortgage Association ("GNMA") modified pass-through
mortgage-backed securities; three-month U.S. Treasury bills; 90-day commercial
paper; bank certificates of deposit; and Eurodollar certificates of deposit. It
is expected that Futures contracts trading in additional financial instruments
will be authorized. The standard contract size is generally $100,000 for Futures
contracts in U.S. Treasury bonds, U.S. Treasury notes, and GNMA pass through
securities and $1,000,000 for the other designated Futures contracts. A public
market exists in Futures contracts covering a number of indexes, including, but
not limited to, the Standard & Poor's 500 Index, the Standard & Poor's 100
Index, the NASDAQ 100 Index, the Value Line Composite Index and the New York
Stock Exchange Composite Index.
Stock index futures contracts may be used to provide a hedge for a portion of
the Series' portfolio, as a cash management tool, or as an efficient way for the
Investment Manager or relevant Sub-Adviser to implement either an increase or
decrease in portfolio market exposure in response to changing market conditions.
Stock index futures contacts are currently traded with respect to the S&P 500
Index and other broad stock market indices, such as the New York Stock Exchange
Composite Stock Index and the Value Line Composite Stock Index. The Series may,
however, purchase or sell futures contracts with respect to any stock index.
Nevertheless, to hedge the Series' portfolio successfully, the Series must sell
futures contracts with respect to indexes or subindexes whose movements will
have a significant correlation with movements in the prices of the Series'
securities.
Interest rate or currency futures contracts may be used as a hedge against
changes in prevailing levels of interest rates or currency exchange rates in
order to establish more definitely the effective return on securities or
currencies held or intended to be acquired by the Series. In this regard, the
Series could sell interest rate or currency futures as an offset against the
effect of expected increases in interest rates or currency exchange rates and
purchase such futures as an offset against the effect of expected declines in
interest rates or currency exchange rates.
The Series may enter into futures contracts which are traded on national or
foreign futures exchanges and are standardized as to maturity date and
underlying financial instrument. The principal financial futures exchanges in
the United States are the Board of Trade of the City of Chicago, the Chicago
Mercantile Exchange, the New York Futures Exchange, and the Kansas City Board of
Trade. Futures exchanges and trading in the United States are regulated under
the Commodity Exchange Act by the Commodity Futures Trading Commission ("CFTC").
Futures are traded in London at the London International Financial Futures
Exchange, in Paris at the MATIF and in Tokyo at the Tokyo Stock Exchange.
Although techniques other than the sale and purchase of futures contracts could
be used for the above-referenced purposes, futures contracts offer an effective
and relatively low cost means of implementing the Series' objectives in these
areas.
CERTAIN RISKS RELATING TO FUTURES CONTRACTS AND RELATED OPTIONS. There are
special risks involved in futures transactions.
VOLATILITY AND LEVERAGE. The prices of futures contracts are volatile and are
influenced, among other things, by actual and anticipated changes in the market
and interest rates, which in turn are affected by fiscal and monetary policies
and national and international policies and economic events.
Most United States futures exchanges limit the amount of fluctuation permitted
in futures contract prices during a single trading day. The daily limit
establishes the maximum amount that the price of a futures contract may vary
either up or down from the previous day's settlement price at the end of a
trading session. Once the daily limit has been reached in a particular type of
futures contract, no trades may be made on that day at a price beyond that
limit. The daily limit governs only price movement during a particular trading
day and therefore does not limit potential losses, because the limit may prevent
the liquidation of unfavorable positions. Futures contract prices have
occasionally moved to the daily limit for several consecutive trading days with
little or no trading, thereby preventing prompt liquidation of futures positions
and subjecting some futures traders to substantial losses.
Because of the low margin deposits required, futures trading involves an
extremely high degree of leverage (although the Series' use of futures will not
result in leverage, as is more fully described below). As a result, a relatively
small price movement in a futures contract may result in immediate and
substantial loss, as well as gain, to the investor. For example, if at the time
of purchase, 10% of the value of the futures contract is deposited as margin, a
subsequent 10% decrease in the value of the futures contract would result in a
total loss of the margin deposit, before any deduction for the transaction
costs, if the account were then closed out. A 15% decrease would result in a
loss equal to 150% of the original margin deposit, if the contract were closed
out. Thus, a purchase or sale of a futures contract may result in losses in
excess of the amount invested in the futures contract. However, the Series would
presumably have sustained comparable losses if, instead of the futures contract,
it had invested in the underlying instrument and sold it after the decline.
Furthermore, in the case of a futures contract purchase, in order to be certain
that the Series has sufficient assets to satisfy its obligations under a futures
contract, the Series earmarks to the futures contract cash or liquid securities
equal in value to the current value of the underlying instrument less the margin
deposit.
LIQUIDITY. The Series may elect to close some or all of its futures positions at
any time prior to their expiration. The Series would do so to reduce exposure
represented by long futures positions or increase exposure represented by short
futures positions. The Series may close its positions by taking opposite
positions which would operate to terminate the Series' position in the futures
contracts. Final determinations of variation margin would then be made,
additional cash would be required to be paid by or released to the Series, and
the Series would realize a loss or a gain.
Futures contracts may be closed out only on the exchange or board of trade where
the contracts were initially traded. Although the Series intends to purchase or
sell futures contracts only on exchanges or boards of trade where there appears
to be an active market, there is no assurance that a liquid market on an
exchange or board of trade will exist for any particular contract at any
particular time. In such event, it might not be possible to close a futures
contract, and in the event of adverse price movements, the Series would continue
to be required to make daily cash payments of variation margin. However, in the
event futures contracts have been used to hedge the underlying instruments, the
Series would continue to hold the underlying instruments subject to the hedge
until the futures contracts could be terminated. In such circumstances, an
increase in the price of the underlying instruments, if any, might partially or
completely offset losses on the futures contract. However, as described below,
there is no guarantee that the price of the underlying instruments will, in
fact, correlate with the price movements in the futures contract and thus
provide an offset to losses on a futures contract.
HEDGING RISK. A decision of whether, when, and how to hedge involves skill and
judgment, and even a well-conceived hedge may be unsuccessful to some degree
because of unexpected market behavior, market or interest rate trends. There are
several risks in connection with the use by the Series of futures contracts as a
hedging device. One risk arises because of the imperfect correlation between
movements in the prices of the futures contracts and movements in the prices of
the underlying instruments which are the subject of the hedge. The Investment
Manager or relevant Sub-Adviser will, however, attempt to reduce this risk by
entering into futures contracts whose movements, in its, judgment, will have a
significant correlation with movements in the prices of the Series' underlying
instruments sought to be hedged.
Successful use of futures contracts by the Series for hedging purposes is also
subject to the Investment Manager or relevant Sub-Adviser's ability to correctly
predict movements in the direction of the market. It is possible that, when the
Series has sold futures to hedge its portfolio against a decline in the market,
the index, indices, or underlying instruments on which the futures are written
might advance and the value of the underlying instruments held in the Series'
portfolio might decline. If this were to occur, the Series would lose money on
the futures and also would experience a decline in value in its underlying
instruments. However, while this might occur to a certain degree, it is believed
that over time the value of the Series' portfolio will tend to move in the same
direction as the market indices which are intended to correlate to the price
movements of the underlying instruments sought to be hedged. It is also possible
that if the Series were to hedge against the possibility of a decline in the
market (adversely affecting the underlying instruments held in its portfolio)
and prices instead increased, the Series would lose part or all of the benefit
of increased value of those underlying instruments that it has hedged, because
it would have offsetting losses in its futures positions. In addition, in such
situations, if the Series had insufficient cash, it might have to sell
underlying instruments to meet daily variation margin requirements. Such sales
of underlying instruments might be, but would not necessarily be, at increased
prices (which would reflect the rising market). The Series might have to sell
underlying instruments at a time when it would be disadvantageous to do so.
In addition to the possibility that there might be an imperfect correlation, or
no correlation at all, between price movements in the futures contracts and the
portion of the portfolio being hedged, the price movements of futures contracts
might not correlate perfectly with price movements in the underlying instruments
due to certain market distortions. First, all participants in the futures market
are subject to margin deposit and maintenance requirements. Rather than meeting
additional margin deposit requirements, investors might close futures contracts
through offsetting transactions which could distort the normal relationship
between the underlying instruments and futures markets. Second, the margin
requirements in the futures market are less onerous than margin requirements in
the securities markets, and as a result the futures market might attract more
speculators than the securities markets do. Increased participation by
speculators in the futures market might also cause temporary price distortions.
Due to the possibility of price distortion in the futures market and also
because of the imperfect correlation between price movements in the underlying
instruments and movements in the prices of futures contracts, even a correct
forecast of general market trends by the Investment Manager or relevant
Sub-Adviser might not result in a successful hedging transaction over a very
short time period.
CERTAIN RISKS OF OPTIONS ON FUTURES CONTRACTS. The Series may seek to close out
an option position by writing or buying an offsetting option covering the same
index, underlying instruments, or contract and having the same exercise price
and expiration date. The ability to establish and close out positions on such
options will be subject to the maintenance of a liquid secondary market. Reasons
for the absence of a liquid secondary market on an exchange include the
following: (i) there may be insufficient trading interest in certain options;
(ii) restrictions may be imposed by an exchange on opening transactions or
closing transactions or both; (iii) trading halts, suspensions or other
restrictions may be imposed with respect to particular classes or series of
options, or underlying instruments; (iv) unusual or unforeseen circumstances may
interrupt normal operations on an exchange; (v) the facilities of an exchange or
a clearing corporation may not at all times be adequate to handle current
trading volume; or (vi) one or more exchanges could, for economic or other
reasons, decide or be compelled at some future date to discontinue the trading
of options (or a particular class or series of options), in which event the
secondary market on that exchange (or in the class or series of options) would
cease to exist, although outstanding options on the exchange that had been
issued by a clearing corporation as a result of trades on that exchange would
continue to be exercisable in accordance with their terms. There is no assurance
that higher than anticipated trading activity or other unforeseen events might
not, at times, render certain of the facilities of any of the clearing
corporations inadequate, and thereby result in the institution by an exchange of
special procedures which may interfere with the timely execution of customers'
orders.
REGULATORY LIMITATIONS. The Series will engage in transactions in futures
contracts and options thereon only for bona fide hedging, yield enhancement and
risk management purposes, in each case in accordance with the rules and
regulations of the CFTC.
The Series may not enter into futures contracts or options thereon if, with
respect to positions which do not qualify as bona fide hedging under applicable
CFTC rules, the sum of the amounts of initial margin deposits on the Series'
existing futures and premiums paid for options on futures would exceed 5% of the
net asset value of the Series after taking into account unrealized profits and
unrealized losses on any such contracts it has entered into; provided, however,
that in the case of an option that is in-the-money at the time of purchase, the
in-the-money amount may be excluded in calculating the 5% limitation.
The Series' use of futures contracts will not result in leverage. Therefore, to
the extent necessary, in instances involving the purchase of futures contracts
or call options thereon or the writing of put options thereon by the Series, an
amount of cash or liquid securities, equal to the market value of the futures
contracts and options thereon (less any related margin deposits), will be
identified in an account with the Series' custodian or on the books of the Fund
to cover the position, or alternative cover will be employed.
In addition, CFTC regulations may impose limitations on the Series' ability to
engage in certain yield enhancement and risk management strategies. If the CFTC
or other regulatory authorities adopt different (including less stringent) or
additional restrictions, the Series would comply with such new restrictions.
FOREIGN FUTURES AND OPTIONS. Participation in foreign futures and foreign
options transactions involves the execution and clearing of trades on or subject
to the rules of a foreign board of trade. Neither the National Futures
Association nor any domestic exchange regulates activities of any foreign boards
of trade, including the execution, delivery and clearing of transactions, or has
the power to compel enforcement of the rules of a foreign board of trade or any
applicable foreign law. This is true even if the exchange is formally linked to
a domestic market so that a position taken on the market may be liquidated by a
transaction on another market. Moreover, such laws or regulations will vary
depending on the foreign country in which the foreign futures or foreign options
transaction occurs. For these reasons, customers who trade foreign futures or
foreign options contracts may not be afforded certain of the protective measures
provided by the Commodity Exchange Act, the CFTC's regulations and the rules of
the National Futures Association and any domestic exchange, including the right
to use reparations proceedings before the Commission and arbitration proceedings
provided by the National Futures Association or any domestic futures exchange.
In particular, funds received from the Series for foreign futures or foreign
options transactions may not be provided the same protections as funds received
in respect of transactions on United States futures exchanges. In addition, the
price of any foreign futures or foreign options contract and, therefore, the
potential profit and loss thereon may be affected by any variance in the foreign
exchange rate between the time an order is placed and the time it is liquidated,
offset or exercised.
FORWARD CURRENCY CONTRACTS AND RELATED OPTIONS. A forward foreign currency
exchange contract involves an obligation to purchase or sell a specific currency
at a future date, which may be any fixed number of days from the date of the
contract agreed upon by the parties, at a price set at the time of the Contract.
These contracts are principally traded in the interbank market conducted
directly between currency traders (usually large, commercial banks) and their
customers. A forward contract generally has no deposit requirement, and no
commissions are charged at any stage for trades.
Depending on the investment policies and restrictions applicable to a Series, a
Series will generally enter into forward foreign currency exchange contracts
under two circumstances. First, when a Series enters into a contract for the
purchase or sale of a security denominated in a foreign currency, it may desire
to "lock in" the U.S. dollar price of the security. By entering into a forward
contract for the purchase or sale, for a fixed amount of dollars, of the amount
of foreign currency involved in the underlying security transactions, the Series
will be able to protect itself against a possible loss resulting from an adverse
change in the relationship between the U.S. dollar and the subject foreign
currency during the period between the date the security is purchased or sold
and the date on which payment is made or received.
Second, when the Investment Manager or relevant Sub-Adviser believes that the
currency of a particular foreign country may suffer or enjoy a substantial
movement against another currency, including the U.S. dollar, it may enter into
a forward contract to sell or buy the amount of the former foreign currency,
approximating the value of some or all of the Series' portfolio securities
denominated in such foreign currency. Alternatively, where appropriate, the
Series may hedge all or part of its foreign currency exposure through the use of
a basket of currencies or a proxy currency where such currencies or currency act
as an effective proxy for other currencies. In such a case, the Series may enter
into a forward contract where the amount of the foreign currency to be sold
exceeds the value of the securities denominated in such currency. The use of
this basket hedging technique may be more efficient and economical than entering
into separate forward contracts for each currency held in the Series. The
precise matching of the forward contract amounts and the value of the securities
involved will not generally be possible since the future value of such
securities in foreign currencies will change as a consequence of market
movements in the value of those securities between the date the forward contract
is entered into and the date it matures. The projection of short-term currency
market movement is extremely difficult, and the successful execution of a
short-term hedging strategy is highly uncertain.
The Series will also not enter into such forward contracts or maintain a net
exposure to such contracts where the consummation of the contracts would
obligate the Series to deliver an amount of foreign currency in excess of the
value of the Series' portfolio securities or other assets denominated in that
currency. The Series, however, in order to avoid excess transactions and
transaction costs, may maintain a net exposure to forward contracts in excess of
the value of the Series' portfolio securities or other assets to which the
forward contracts relate (including accrued interest to the maturity of the
forward contract on such securities) provided the excess amount is "covered" by
liquid securities, denominated in any currency, at least equal at all times to
the amount of such excess. For these purposes "the securities or other assets to
which the forward contracts relate may be securities or assets denominated in a
single currency, or where proxy forwards are used, securities denominated in
more than one currency. Under normal circumstances, consideration of the
prospect for currency parities will be incorporated into the longer term
investment decisions made with regard to overall diversification strategies.
However, the Investment Manager and relevant Sub-Advisers believe that it is
important to have the flexibility to enter into such forward contracts when it
determines that the best interests of the Series will be served.
At the maturity of a forward contract, the Series may either sell the portfolio
security and make delivery of the foreign currency, or it may retain the
security and terminate its contractual obligation to deliver the foreign
currency by purchasing an "offsetting" contract obligating it to purchase, on
the same maturity date, the same amount of the foreign currency.
As indicated above, it is impossible to forecast with absolute precision the
market value of portfolio securities at the expiration of the forward contract.
Accordingly, it may be necessary for a Series to purchase additional foreign
currency on the spot market (and bear the expense of such purchase) if the
market value of the security is less than the amount of foreign currency the
Series is obligated to deliver and if a decision is made to sell the security
and make delivery of the foreign currency. Conversely, it may be necessary to
sell on the spot market some of the foreign currency received upon the sale of
the portfolio security if its market value exceeds the amount of foreign
currency the Series is obligated to deliver. However, as noted, in order to
avoid excessive transactions and transaction costs, the Series may use liquid
securities, denominated in any currency, to cover the amount by which the value
of a forward contract exceeds the value of the securities to which it relates.
If the Series retains the portfolio security and engages in an offsetting
transaction, the Series will incur a gain or a loss (as described below) to the
extent that there has been movement in forward contract prices. If the Series
engages in an offsetting transaction, it may subsequently enter into a new
forward contract to sell the foreign currency. Should forward prices decline
during the period between the Series entering into a forward contract for the
sale of a foreign currency and the date it enters into an offsetting contract
for the purchase of the foreign currency, the Series will realize a gain to the
extent the price of the currency it has agreed to sell exceeds the price of the
currency it has agreed to purchase. Should forward prices increase, the Series
will suffer a loss to the extent the price of the currency it has agreed to
purchase exceeds the price of the currency it has agreed to sell.
The Series' dealing in forward foreign currency exchange contracts will
generally be limited to the transactions described above. However, the Series
reserve the right to enter into forward foreign currency contracts for different
purposes and under different circumstances. Of course, the Series are not
required to enter into forward contracts with regard to their foreign
currency-denominated securities and will not do so unless deemed appropriate by
the Investment Manager or relevant Sub-Adviser. It also should be realized that
this method of hedging against a decline in the value of a currency does not
eliminate fluctuations in the underlying prices of the securities. It simply
establishes a rate of exchange at a future date. Additionally, although such
contracts tend to minimize the risk of loss due to a decline in the value of the
hedged currency, at the same time, they tend to limit any potential gain which
might result from an increase in the value of that currency.
Although the Series value their assets daily in terms of U.S. dollars, they do
not intend to convert their holdings of foreign currencies into U.S. dollars on
a daily basis. They will do so from time to time, and investors should be aware
of the costs of currency conversion. Although foreign exchange dealers do not
charge a fee for conversion, they do realize a profit based on the difference
(the "spread") between the prices at which they are buying and selling various
currencies. Thus, a dealer may offer to sell a foreign currency to a Series at
one rate, while offering a lesser rate of exchange should the Series desire to
resell that currency to the dealer.
PURCHASE AND SALE OF CURRENCY FUTURES CONTRACTS AND RELATED OPTIONS. As noted
above, a currency futures contract sale creates an obligation by a Series, as
seller, to deliver the amount of currency called for in the contract at a
specified future time for a specified price. A currency futures contract
purchase creates an obligation by a Series, as purchaser, to take delivery of an
amount of currency at a specified future time at a specified price. Although the
terms of currency futures contracts specify actual delivery or receipt, in most
instances the contracts are closed out before the settlement date without the
making or taking of delivery of the currency. Closing out of a currency futures
contract is effected by entering into an offsetting purchase or sale
transaction. Unlike a currency futures contract, which requires the parties to
buy and sell currency on a set date, an option on a currency futures contract
entitles its holder to decide on or before a future date whether to enter into
such a contract. If the holder decides not to enter into the contract, the
premium paid for the option is fixed at the point of sale.
SWAPS, CAPS, FLOORS AND COLLARS -- Certain Series may enter into interest rate,
securities index, commodity, or security and currency exchange rate swap
agreements for any lawful purpose consistent with the Series' investment
objective, such as for the purpose of attempting to obtain or preserve a
particular desired return or spread at a lower cost to the Series than if the
Series had invested directly in an instrument that yielded that desired return
or spread. The Series also may enter into swaps in order to protect against an
increase in the price of, or the currency exchange rate applicable to,
securities that the Series anticipates purchasing at a later date. Swap
agreements are two-party contracts entered into primarily by institutional
investors for periods ranging from a few weeks to several years. In a standard
"swap" transaction, two parties agree to exchange the returns (or differentials
in rates of return) earned or realized on particular predetermined investments
or instruments. The gross returns to be exchanged or "swapped" between the
parties are calculated with respect to a "notional amount," i.e., the return on
or increase in value of a particular dollar amount invested at a particular
interest rate, in a particular foreign currency, or in a "basket" of securities
representing a particular index. Swap agreements may include interest rate caps,
under which, in return for a premium, one party agrees to make payments to the
other to the extent that interests rates exceed a specified rate, or "cap";
interest rate floors under which, in return for a premium, one party agrees to
make payments to the other to the extent that interest rates fall below a
specified level, or "floor"; and interest rate collars, under which a party
sells a cap and purchases a floor, or vice versa, in an attempt to protect
itself against interest rate movements exceeding given minimum or maximum
levels.
The "notional amount" of the swap agreement is the agreed upon basis for
calculating the obligations that the parties to a swap agreement have agreed to
exchange. Under most swap agreements entered into by the Series, the obligations
of the parties would be exchanged on a "net basis." Consequently, the Series'
obligation (or rights) under a swap agreement will generally be equal only to
the net amount to be paid or received under the agreement based on the relative
value of the positions held by each party to the agreement (the "net amount").
The Series' obligation under a swap agreement will be accrued daily (offset
against amounts owed to the Series) and any accrued but unpaid net amounts owed
to a swap counterparty will be covered by the maintenance of a segregated
account consisting of cash or liquid securities.
Whether a Series' use of swap agreements will be successful in furthering its
investment objective will depend, in part, on the Investment Manager or relevant
Sub-Adviser's ability to predict correctly whether certain types of investments
are likely to produce greater returns than other investments. Swap agreements
may be considered to be illiquid. Moreover, the Series bears the risk of loss of
the amount expected to be received under a swap agreement in the event of the
default or bankruptcy of a swap agreement counterparty. Certain restrictions
imposed on the Series by the Internal Revenue Code may limit a Series' ability
to use swap agreements. The swaps market is largely unregulated.
The Series will enter swap agreements only with counterparties that the
Investment Manager or relevant Sub-Adviser reasonably believes are capable of
performing under the swap agreements. If there is a default by the other party
to such a transaction, the Series will have to rely on its contractual remedies
(which may be limited by bankruptcy, insolvency or similar laws) pursuant to the
agreements related to the transaction. Series P will not enter into any swap,
cap, floor, collar or other derivative transaction unless, at the time of
entering into the transaction, the unsecured long-term debt rating of the
counterparty, combined with any credit enhancements, is rated at least A by
Moody's or S&P or has an equivalent rating from a nationally recognized
statistical rating organization or is determined to be of equivalent credit
quality by the Investment Manager.
SPREAD TRANSACTIONS -- Certain Series may purchase covered spread options from
securities dealers. Such covered spread options are not presently
exchange-listed or exchange-traded. The purchase of a spread option gives the
Series the right to put, or sell, a security that it owns at a fixed dollar
spread or fixed yield spread in relationship to another security that the Series
does not own, but which is used as a benchmark. The risk to the Series in
purchasing covered spread options is the cost of the premium paid for the spread
option and any transaction costs. In addition, there is no assurance that
closing transactions will be available. The purchase of spread options will be
used to protect the Series against adverse changes in prevailing credit quality
spreads, i.e., the yield spread between high quality and lower quality
securities. Such protection is only provided during the life of the spread
option.
HYBRID INSTRUMENTS -- Hybrid instruments combine the elements of futures
contracts or options with those of debt, preferred equity or a depository
instrument ("Hybrid Instruments"). Often these Hybrid Instruments are indexed to
the price of a commodity or particular currency or a domestic or foreign debt or
equity securities index. Hybrid Instruments may take a variety of forms,
including, but not limited to, debt instruments with interest or principal
payments or redemption terms determined by reference to the value of a currency
or commodity at a future point in time, preferred stock with dividend rates
determined by reference to the value of a currency, or convertible securities
with the conversion terms related to a particular commodity. The risks of
investing in Hybrid Instruments reflect a combination of the risks from
investing in securities, futures and currencies, including volatility and lack
of liquidity. Reference is made to the discussion of futures and forward
contracts in this Statement of Additional Information for a discussion of these
risks. Further, the prices of the Hybrid Instrument and the related commodity or
currency may not move in the same direction or at the same time. Hybrid
Instruments may bear interest or pay preferred dividends at below market (or
even relatively nominal) rates. In addition, because the purchase and sale of
Hybrid Instruments could take place in an over-the-counter market or in a
private transaction between the Series and the seller of the Hybrid Instrument,
the creditworthiness of the contract party to the transaction would be a risk
factor which the Series would have to consider. Hybrid Instruments also may not
be subject to regulation of the CFTC, which generally regulates the trading of
commodity futures by U.S. persons, the SEC, which regulates the offer and sale
of securities by and to U.S. persons, or any other governmental regulatory
authority.
LENDING OF PORTFOLIO SECURITIES -- For the purpose of realizing additional
income, certain of the Series may make secured loans of Series securities
amounting to not more than 33 1/3% of its total assets. Securities loans are
made to broker/dealers, institutional investors, or other persons pursuant to
agreements requiring that the loans be continuously secured by collateral at
least equal at all times to the value of the securities lent marked to market on
a daily basis. The collateral received will consist of cash, U.S. Government
securities, letters of credit or such other collateral as may be permitted under
its investment program. While the securities are being lent, the Series will
continue to receive the equivalent of the interest or dividends paid by the
issuer on the securities, as well as interest on the investment of the
collateral or a fee from the borrower. The Series has a right to call each loan
and obtain the securities on five business days' notice or, in connection with
securities trading on foreign markets, within such longer period of time which
coincides with the normal settlement period for purchases and sales of such
securities in such foreign markets. The Series will not have the right to vote
securities while they are being lent, but it will call a loan in anticipation of
any important vote. The risks in lending portfolio securities, as with other
extensions of secured credit, consist of possible delay in receiving additional
collateral or in the recovery of the securities or possible loss of rights in
the collateral should the borrower fail financially. Loans will only be made to
persons deemed by the Investment Manager or relevant Sub-Adviser to be of good
standing and will not be made unless, in the judgment of the Investment Manager
or relevant Sub-Adviser, the consideration to be earned from such loans would
justify the risk.
OTHER LENDING/BORROWING -- Subject to approval by the Securities and Exchange
Commission, Series N and O may make loans to, or borrow funds from, other mutual
funds or portfolios of mutual funds sponsored or advised by T. Rowe Price or
Rowe Price-Fleming International, Inc. The Series have no intention of engaging
in these practices at this time.
ZERO COUPON SECURITIES -- Zero coupon securities pay no cash income and are sold
at substantial discounts from their value at maturity. When held to maturity,
their entire income, which consists of accretion of discount, comes from the
difference between the issue price and their value at maturity. Zero coupon
securities are subject to greater market value fluctuations from changing
interest rates than debt obligations of comparable maturities which make current
distributions of interest (cash). Zero coupon securities which are convertible
into common stock offer the opportunity for capital appreciation as increases
(or decreases) in market value, of such securities closely follows the movements
in the market value of the underlying common stock. Zero coupon convertible
securities generally are expected to be less volatile than the underlying common
stocks, as they usually are issued with maturities of 15 years or less and are
issued with options and/or redemption features exercisable by the holder of the
obligation entitling the holder to redeem the obligation and receive a defined
cash payment.
Zero coupon securities include securities issued directly by the U.S. Treasury,
and U.S. Treasury bonds or notes and their unmatured interest coupons and
receipts for their underlying principal ("coupons") which have been separated by
their holder, typically a custodian bank or investment brokerage firm. A holder
will separate the interest coupons from the underlying principal (the "corpus")
of the U.S. Treasury security. A number of securities firms and banks have
stripped the interest coupons and receipts and then resold them in custodial
receipt programs with a number of different names, including "Treasury Income
Growth Receipts" (TIGRSTM) and Certificate of Accrual on Treasuries (CATSTM).
The underlying U.S. Treasury bonds and notes themselves are held in book-entry
form at the Federal Reserve Bank or, in the case of bearer securities (i.e.,
unregistered securities which are owned ostensibly by the bearer or holder
thereof), in trust on behalf of the owners thereof. Counsel to the underwriters
of these certificates or other evidences of ownership of the U.S. Treasury
securities have stated that, for federal tax and securities purposes, in their
opinion purchasers of such certificates, such as the Series, most likely will be
deemed the beneficial holder of the underlying U.S. Government securities.
The U. S. Treasury has facilitated transfers of ownership of zero coupon
securities by accounting separately for the beneficial ownership of particular
interest coupon and corpus payments on Treasury securities through the Federal
Reserve book-entry record keeping system. The Federal Reserve program as
established by the Treasury Department is known as "STRIPS" or "Separate Trading
of Registered Interest and Principal of Securities." Under the STRIPS program,
the Series will be able to have its beneficial ownership of zero coupon
securities recorded directly in the book-entry recordkeeping system in lieu of
having to hold certificates or other evidences of ownership of the underlying
U.S. Treasury securities.
When U.S. Treasury obligations have been stripped of their unmatured interest
coupons by the holder, the principal or corpus is sold at a deep discount
because the buyer receives only the right to receive a future fixed payment in
the security and does not receive any rights to periodic interest (cash)
payments. Once stripped or separated, the corpus and coupons may be sold
separately. Typically, the coupons are sold separately or grouped with other
coupons with like maturity dates and sold bundled in such form. Purchasers of
stripped obligations acquire, in effect, discount obligations that are
economically identical to the zero coupon securities that the Treasury sells
itself.
WHEN-ISSUED SECURITIES -- Certain Series may from time to time purchase
securities on a "when-issued" basis. At the time the Series makes the commitment
to purchase a security on a when-issued basis, it will record the transaction
and reflect the value of the security in determining its net asset value. The
Series do not believe that net asset value or income will be adversely affected
by purchase of securities on a when-issued basis. The Series will maintain cash
and marketable securities equal in value to commitments for when-issued
securities.
The price of when-issued securities, which may be expressed in yield terms, is
fixed at the time the commitment to purchase is made, but delivery and payment
for the when-issued securities take place at a later date. Normally, the
settlement date occurs within 90 days of the purchase. During the period between
purchase and settlement no payment is made by the Series to the issuer and no
interest accrues to the Series. Forward commitments involve a risk of loss if
the value of the security to be purchased declines prior to the settlement date,
which risk is in addition to the risk of decline in value of the Series' other
assets. While when-issued securities may be sold prior to the settlement date,
the Series intends to purchase such securities for the purpose of actually
acquiring them unless a sale appears desirable for investment reasons.
MORTGAGE-BACKED SECURITIES -- Mortgage-backed securities (MBSs), including
mortgage pass-through securities and collateralized mortgage obligations (CMOs),
include certain securities issued or guaranteed by the United States Government
or one of its agencies or instrumentalities, such as the Government National
Mortgage Association (GNMA), Federal National Mortgage Association (FNMA), or
Federal Home Loan Mortgage Corporation (FHLMC); securities issued by private
issuers that represent an interest in or are collateralized by mortgage-backed
securities issued or guaranteed by the U.S. Government or one of its agencies or
instrumentalities; and securities issued by private issuers that represent an
interest in or are collateralized by mortgage loans. A mortgage pass-through
security is a pro rata interest in a pool of mortgages where the cash flow
generated from the mortgage collateral is passed through to the security holder.
CMOs are obligations fully collateralized by a portfolio of mortgages or
mortgage-related securities.
Certain Series may invest in securities known as "inverse floating obligations,"
"residual interest bonds," and "interest-only" (IO) and "principal-only" (PO)
bonds, the market values of which will generally be more volatile than the
market values of most MBSs due to the fact that such instruments are more
sensitive to interest rate charges and to the rate of principal prepayments than
are most other MBSs. An inverse floating obligation is a derivative adjustable
rate security with interest rates that adjust or vary inversely to changes in
market interest rates. The term "residual interest" bond is used generally to
describe those instruments in collateral pools, such as CMOs, which receive
excess cash flow generated by the pool once all other bondholders and expenses
have been paid. IOs and POs are created by separating the interest and principal
payments generated by a pool of mortgage-backed bonds to create two classes of
securities. Generally, one class receives interest only payments (IO) and the
other class principal only payments (PO). MBSs have been referred to as
"derivatives" because the performance of MBSs is dependent upon and derived from
underlying securities.
Investment in MBSs poses several risks, including prepayment, market and credit
risks. Prepayment risk reflects the chance that borrowers may prepay their
mortgages faster than expected, thereby affecting the investment's average life
and perhaps its yield. Borrowers are most likely to exercise their prepayment
options at a time when it is least advantageous to investors, generally
prepaying mortgages as interest rates fall, and slowing payments as interest
rates rise. Certain classes of CMOs may have priority over others with respect
to the receipt of prepayments on the mortgages and the Series may invest in CMOs
which are subject to greater risk of prepayment. Market risk reflects the chance
that the price of the security may fluctuate over time. The price of MBSs may be
particularly sensitive to prevailing interest rates, the length of time the
security is expected to be outstanding and the liquidity of the issue. In a
period of unstable interest rates, there may be decreased demand for certain
types of MBSs, and a Series invested in such securities wishing to sell them may
find it difficult to find a buyer, which may in turn decrease the price at which
they may be sold. IOs and POs are acutely sensitive to interest rate changes and
to the rate of principal prepayments. They are very volatile in price and may
have lower liquidity than most mortgage-backed securities. Certain CMOs may also
exhibit these qualities, especially those which pay variable rates of interest
which adjust inversely with and more rapidly than short-term interest rates.
Credit risk reflects the chance that the Fund may not receive all or part of its
principal because the issuer or credit enhancer has defaulted on its
obligations. Obligations issued by U.S. Government-related entities are
guaranteed by the agency or instrumentality, and some, such as GNMA
certificates, are supported by the full faith and credit of the U.S. Treasury;
others are supported by the right of the issuer to borrow from the Treasury;
others, such as those of the FNMA, are supported by the discretionary authority
of the U.S. Government to purchase the agency's obligations; still others, are
supported only by the credit of the instrumentality. Although securities issued
by U.S. Government-related agencies are guaranteed by the U.S. Government, its
agencies or instrumentalities, shares of the Series are not so guaranteed in any
way. The performance of private label MBSs, issued by private institutions, is
based on the financial health of those institutions. There is no guarantee the
Series' investment in MBSs will be successful, and the Series' total return
could be adversely affected as a result.
ASSET-BACKED SECURITIES -- Asset-backed securities directly or indirectly
represent a participation interest in, or are secured by and payable from, a
stream of payments generated by particular assets such as motor vehicle or
credit card receivables. Payments of principal and interest may be guaranteed up
to certain amounts and for a certain time period by a letter of credit issued by
a financial institution unaffiliated with the entities issuing the securities.
Asset-backed securities may be classified as pass-through certificates or
collateralized obligations.
Pass-through certificates are asset-backed securities which represent an
undivided fractional ownership interest in an underlying pool of assets.
Pass-through certificates usually provide for payments of principal and interest
received to be passed through to their holders, usually after deduction for
certain costs and expenses incurred in administering the pool. Because
pass-through certificates represent an ownership interest in the underlying
assets, the holders thereof bear directly the risk of any defaults by the
obligors on the underlying assets not covered by any credit support. See "Types
of Credit Support."
Asset-backed securities issued in the form of debt instruments, also known as
collateralized obligations, are generally issued as the debt of a special
purpose entity organized solely for the purpose of owning such assets and
issuing such debt. Such assets are most often trade, credit card or automobile
receivables. The assets collateralizing such asset-backed securities are pledged
to a trustee or custodian for the benefit of the holders thereof. Such issuers
generally hold no assets other than those underlying the asset-backed securities
and any credit support provided. As a result, although payments on such
asset-backed securities are obligations of the issuers, in the event of defaults
on the underlying assets not covered by any credit support (see "Types of Credit
Support"), the issuing entities are unlikely to have sufficient assets to
satisfy their obligations on the related asset-backed securities.
METHODS OF ALLOCATING CASH FLOWS. While many asset-backed securities are issued
with only one class of security, many asset-backed securities are issued in more
than one class, each with different payment terms. Multiple class asset-backed
securities are issued for two main reasons. First, multiple classes may be used
as a method of providing credit support. This is accomplished typically through
creation of one or more classes whose right to payments on the asset-backed
security is made subordinate to the right to such payments of the remaining
class or classes. See "Types of Credit Support". Second, multiple classes may
permit the issuance of securities with payment terms, interest rates or other
characteristics differing both from those of each other and from those of the
underlying assets. Examples include so-called "strips" (asset-backed securities
entitling the holder to disproportionate interests with respect to the
allocation of interest and principal of the assets backing the security), and
securities with a class or classes having characteristics which mimic the
characteristics of non-asset-backed securities, such as floating interest rates
(i.e., interest rates which adjust as a specified benchmark changes) or
scheduled amortization of principal.
Asset-backed securities in which the payment streams on the underlying assets
are allocated in a manner different than those described above may be issued in
the future. The Series may invest in such asset-backed securities if such
investment is otherwise consistent with its investment objectives and policies
and with the investment restrictions of the Series.
TYPES OF CREDIT SUPPORT. Asset-backed securities are often backed by a pool of
assets representing the obligations of a number of different parties. To lessen
the effect of failures by obligors on underlying assets to make payments, such
securities may contain elements of credit support. Such credit support falls
into two classes: liquidity protection and protection against ultimate default
by an obligor on the underlying assets. Liquidity protection refers to the
provision of advances, generally by the entity administering the pool of assets,
to ensure that scheduled payments on the underlying pool are made in a timely
fashion. Protection against ultimate default ensures ultimate payment of the
obligations on at least a portion of the assets in the pool. Such protection may
be provided through guarantees, insurance policies or letters of credit obtained
from third parties, through various means of structuring the transaction or
through a combination of such approaches. Examples of asset-backed securities
with credit support arising out of the structure of the transaction include
"senior-subordinated securities" (multiple class asset-backed securities with
certain classes subordinate to other classes as to the payment of principal
thereon, with the result that defaults on the underlying assets are borne first
by the holders of the subordinated class) and asset-backed securities that have
"reserve Portfolios" (where cash or investments, sometimes funded from a portion
of the initial payments on the underlying assets, are held in reserve against
future losses) or that have been "over collateralized" (where the scheduled
payments on, or the principal amount of, the underlying assets substantially
exceeds that required to make payment of the asset-backed securities and pay any
servicing or other fees). The degree of credit support provided on each issue is
based generally on historical information respecting the level of credit risk
associated with such payments. Delinquency or loss in excess of that anticipated
could adversely affect the return on an investment in an asset-backed security.
Additionally, if the letter of credit is exhausted, holders of asset-backed
securities may also experience delays in payments or losses if the full amounts
due on underlying sales contracts are not realized.
AUTOMOBILE RECEIVABLE SECURITIES. Asset-Backed Securities may be backed by
receivables from motor vehicle installment sales contracts or installment loans
secured by motor vehicles ("Automobile Receivable Securities"). Since
installment sales contracts for motor vehicles or installment loans related
thereto ("Automobile Contracts") typically have shorter durations and lower
incidences of prepayment, Automobile Receivable Securities generally will
exhibit a shorter average life and are less susceptible to prepayment risk.
Most entities that issue Automobile Receivable Securities create an enforceable
interest in their respective Automobile Contracts only by filing a financing
statement and by having the servicer of the Automobile contracts, which is
usually the originator of the Automobile Contracts, take custody thereof. In
such circumstances, if the servicer of the Automobile Contracts were to sell the
same Automobile Contracts to another party, in violation of its obligation not
to do so, there is a risk that such party could acquire an interest in the
Automobile Contracts superior to that of the holders of Automobile Receivable
Securities. Also although most Automobile Contracts grant a security interest in
the motor vehicle being financed, in most states the security interest in a
motor vehicle must be noted on the certificate of title to create an enforceable
security interest against competing claims of other parties. Due to the large
number of vehicles involved, however, the certificate of title to each vehicle
financed, pursuant to the Automobile Contracts underlying the Automobile
Receivable Security, usually is not amended to reflect the assignment of the
seller's security interest for the benefit of the holders of the Automobile
Receivable Securities. Therefore, there is the possibility that recoveries on
repossessed collateral may not, in some cases, be available to support payments
on the securities. In addition, various state and federal securities laws give
the motor vehicle owner the right to assert against the holder of the owner's
Automobile Contract certain defenses such owner would have against the seller of
the motor vehicle. The assertion of such defenses could reduce payments on the
Automobile Receivable Securities.
CREDIT CARD RECEIVABLE SECURITIES. Asset-Backed Securities may be backed by
receivables from revolving credit card agreements ("Credit Card Receivable
Securities"). Credit balances on revolving credit card agreements ("Accounts")
are generally paid down more rapidly than are Automobile Contracts. Most of the
Credit Card Receivable Securities issued publicly to date have been Pass-Through
Certificates. In order to lengthen the maturity of Credit Card Receivable
Securities, most such securities provide for a fixed period during which only
interest payments on the underlying Accounts are passed through to the security
holder and principal payments received on such Accounts are used to fund the
transfer to the pool of assets supporting the related Credit Card Receivable
Securities of additional credit card charges made on an Account. The initial
fixed period usually may be shortened upon the occurrence of specified events
which signal a potential deterioration in the quality of the assets backing the
security, such as the imposition of a cap on interest rates. The ability of the
issuer to extend the life of an issue of Credit Card Receivable Securities thus
depends upon the continued generation of additional principal amounts in the
underlying accounts during the initial period and the non-occurrence of
specified events. An acceleration in cardholders' payment rates or any other
event which shortens the period during which additional credit card charges on
an Account may be transferred to the pool of assets supporting the related
Credit Card Receivable Security could shorten the weighted average life and
yield of the Credit Card Receivable Security.
Credit cardholders are entitled to the protection of a number of state and
federal consumer credit laws, many of which give such holders the right to set
off certain amounts against balances owed on the credit card, thereby reducing
amounts paid on Accounts. In addition, unlike most other Asset Backed
Securities, Accounts are unsecured obligations of the cardholder.
GUARANTEED INVESTMENT CONTRACTS ("GICS") -- Certain Series may invest in GICs.
When investing in GICs, the Series makes cash contributions to a deposit fund of
an insurance company's general account. The insurance company then credits
guaranteed interest to the deposit fund on a monthly basis. The GICs provide
that this guaranteed interest will not be less than a certain minimum rate. The
insurance company may assess periodic charges against a GIC for expenses and
service costs allocable to it, and the charges will be deducted from the value
of the deposit fund. Series C may invest only in GICs that have received the
requisite ratings by one or more NRSROs. Because a Series may not receive the
principal amount of a GIC from the insurance company on 7 days' notice or less,
the GIC is considered an illiquid investment. In determining average portfolio
maturity, GICs will be deemed to have a maturity equal to the period of time
remaining until the next readjustment of the guaranteed interest rate.
RESTRICTED SECURITIES -- Restricted securities may be sold only in privately
negotiated transactions or in a public offering with respect to which a
registration statement is in effect under the Securities Act of 1933 (the "1933
Act"). Where registration is required, the Series may be obligated to pay all or
part of the registration expenses and a considerable period may elapse between
the time of the decision to sell and the time the Series may be permitted to
sell a security under an effective registration statement. If, during such a
period, adverse market conditions were to develop, the Series might obtain a
less favorable price than prevailed when it decided to sell. Restricted
securities will be priced at fair value as determined in accordance with
procedures prescribed by the Board of Directors. If through the appreciation of
restricted securities or the depreciation of unrestricted securities or the
depreciation of liquid securities, the Series should be in a position where more
than the percentage of its net assets permitted under the respective Series
operating policy are invested in illiquid assets, including restricted
securities, the Series will take appropriate steps to protect liquidity.
The Series may purchase securities which while privately placed, are eligible
for purchase and sale under Rule 144A under the 1933 Act. This rule permits
certain qualified institutional buyers, such as the Series, to trade in
privately placed securities even though such securities are not registered under
the 1933 Act. The Investment Manager or relevant Sub-Adviser, under the
supervision of the Fund's Board of Directors, will consider whether securities
purchased under Rule 144A are illiquid and thus subject to the Series'
restriction on investment of its assets in illiquid securities. A determination
of whether a Rule 144A security is liquid or not is a question of fact. In
making this determination, the Investment Manager or relevant Sub-Adviser will
consider the trading markets for the specific security taking into account the
unregistered nature of a Rule 144A security. In addition the Investment Manager
or relevant Sub-Adviser could consider the (1) frequency of trades and quotes,
(2) number of dealers and potential purchasers, (3) dealer undertakings to make
a market, and (4) the nature of the security and of marketplace trades (e.g.,
the time needed to dispose of the security, the method of soliciting offers and
the mechanics of transfer). The liquidity of Rule 144A securities would be
monitored, and if as a result of changed conditions it is determined that a Rule
144A security is no longer liquid, the Series' holdings of illiquid securities
would be reviewed to determine what, if any, steps are required to assure that
the Series does not invest more than permitted in illiquid securities. Investing
in Rule 144A securities could have the effect of increasing the amount of the
Series' assets invested in illiquid securities if qualified institutional buyers
are unwilling to purchase such securities.
WARRANTS -- Investment in warrants is pure speculation in that they have no
voting rights, pay no dividends, and have no rights with respect to the assets
of the corporation issuing them. Warrants basically are options to purchase
equity securities at a specific price valid for a specific period of time. They
do not represent ownership of the securities but only the right to buy them.
Warrants differ from call options in that warrants are issued by the issuer of
the security which may be purchased on their exercise, whereas call options may
be written or issued by anyone. The prices of warrants do not necessarily move
parallel to the prices of the underlying securities, and a warrant ceases to
have value if it is not exercised prior to its expiration date.
CERTAIN RISKS OF FOREIGN INVESTING--
RISKS OF CONVERSION TO EURO. On January 1, 1999, eleven countries in the
European Monetary Union adopted the euro as their official currency. However,
their current currencies (for example, the franc, the mark, and the lire) will
also continue in use until January 1, 2002. After that date, it is expected that
only the euro will be used in those countries. A common currency is expected to
confer some benefits in those markets, by consolidating the government debt
market for those countries and reducing some currency risks and costs. However,
the conversion to the new currency could have a negative impact on the Series
operationally. The exact impact is not known, but it could affect the value of
some of the Series holdings and increase its operational costs.
BRADY BONDS. Certain Series may invest in "Brady Bonds," which are debt
restructurings that provide for the exchange of cash and loans for newly issued
bonds. Brady Bonds are securities created through the exchange of existing
commercial bank loans to public and private entities in certain emerging markets
for new bonds in connection with debt restructuring under a debt restructuring
plan introduced by former U.S. Secretary of the Treasury, Nicholas F. Brady.
Brady Bonds have been issued by the governments of Argentina, Brazil, Bulgaria,
Costa Rica, Dominican Republic, Ecuador, Jordan, Mexico, Nigeria, Panama, Peru,
The Philippines, Uruguay, Venezuela, and are expected to be issued by other
emerging market countries. Approximately $150 billion in principal amount of
Brady Bonds has been issued to date. Investors should recognize that Brady Bonds
have been issued only recently and, accordingly, do not have a long payment
history. Brady Bonds may be collateralized or uncollateralized, are issued in
various currencies (primarily the U.S. dollar) and are actively traded in the
secondary market for Latin American debt. The Salomon Brothers Brady Bond Index
provides a benchmark that can be used to compare returns of emerging market
Brady Bonds with returns in other bond markets, e.g., the U.S. bond market.
Series K may invest in either collateralized or uncollateralized Brady Bonds
denominated in various currencies, while Series B and Series P may invest only
in collateralized bonds denominated in U.S. dollars. U.S. dollar-denominated,
collateralized Brady Bonds, which may be fixed rate par bonds or floating rate
discount bonds, are collateralized in full as to principal by U.S. Treasury zero
coupon bonds having the same maturity as the bonds. Interest payments on such
bonds generally are collateralized by cash or securities in an amount that, in
the case of fixed rate bonds, is equal to at least one year of rolling interest
payments or, in the case of floating rate bonds, initially is equal to at least
one year's rolling interest payments based on the applicable interest rate at
the time and is adjusted at regular intervals thereafter.
EMERGING COUNTRIES. Certain Series may invest in debt securities in emerging
markets. Investing in securities in emerging countries may entail greater risks
than investing in debt securities in developed countries. These risks include
(i) less social, political and economic stability; (ii) the small current size
of the markets for such securities and the currently low or nonexistent volume
of trading, which result in a lack of liquidity and in greater price volatility;
(iii) certain national policies which may restrict a Series' investment
opportunities, including restrictions on investment in issuers or industries
deemed sensitive to national interests; (iv) foreign taxation; and (v) the
absence of developed structures governing private or foreign investment or
allowing for judicial redress for injury to private property. Sovereign debt of
emerging countries may be in default or present a greater risk of default.
POLITICAL AND ECONOMIC RISKS. Investing in securities of non-U.S. companies may
entail additional risks due to the potential political and economic instability
of certain countries and the risks of expropriation, nationalization,
confiscation or the imposition of restrictions on foreign investment and on
repatriation of capital invested. In the event of such expropriation,
nationalization or other confiscation by any country, a Series could lose its
entire investment in any such country.
An investment in a Series which invests in non-U.S. companies is subject to the
political and economic risks associated with investments in emerging markets.
Even though opportunities for investment may exist in emerging markets, any
change in the leadership or policies of the governments of those countries or in
the leadership or policies of any other government which exercises a significant
influence over those countries, may halt the expansion of or reverse the
liberalization of foreign investment policies now occurring and thereby
eliminate any investment opportunities which may currently exist.
Investors should note that upon the accession to power of authoritarian regimes,
the governments of a number of emerging market countries previously expropriated
large quantities of real and personal property similar to the property which
will be represented by the securities purchased by the Series. The claims of
property owners against those governments were never finally settled. There can
be no assurance that any property represented by securities purchased by a
Series will not also be expropriated, nationalized, or otherwise confiscated. If
such confiscation were to occur, the Series could lose a substantial portion of
its investments in such countries. The Series' investments would similarly be
adversely affected by exchange control regulation in any of those countries.
RELIGIOUS AND ETHNIC INSTABILITY. Certain countries in which a Series may invest
may have vocal minorities that advocate radical religious or revolutionary
philosophies or support ethnic independence. Any disturbance on the part of such
individuals could carry the potential for wide-spread destruction or
confiscation of property owned by individuals and entities foreign to such
country and could cause the loss of the Series' investment in those countries.
FOREIGN INVESTMENT RESTRICTIONS. Certain countries prohibit or impose
substantial restrictions on investments in their capital markets, particularly
their equity markets, by foreign entities such as the Series. As illustrations,
certain countries require governmental approval prior to investments by foreign
persons, or limit the amount of investment by foreign persons in a particular
company, or limit the investments by foreign persons to only a specific class of
securities of a company that may have less advantageous terms than securities of
the company available for purchase by nationals. Moreover, the national policies
of certain countries may restrict investment opportunities in issuers or
industries deemed sensitive to national interests. In addition, some countries
require governmental approval for the repatriation of investment income, capital
or the proceeds of securities sales by foreign investors. A Series could be
adversely affected by delays in, or a refusal to grant, any required
governmental approval for repatriation, as well as by the application to it of
other restrictions on investments.
NON-UNIFORM CORPORATE DISCLOSURE STANDARDS AND GOVERNMENTAL REGULATION. Foreign
companies are subject to accounting, auditing and financial standards and
requirements that differ, in some cases significantly, from those applicable to
U.S. companies. In particular, the assets, liabilities and profits appearing on
the financial statements of such a company may not reflect its financial
position or results of operations in the way they would be reflected had such
financial statements been prepared in accordance with U.S. generally accepted
accounting principles. Most of the securities held by the Series will not be
registered with the SEC or regulators of any foreign country, nor will the
issuers thereof be subject to the SEC's reporting requirements. Thus, there will
be less available information concerning foreign issuers of securities held by
the Series than is available concerning U.S. issuers. In instances where the
financial statements of an issuer are not deemed to reflect accurately the
financial situation of the issuer, the Investment Manager and relevant
Sub-Adviser will take appropriate steps to evaluate the proposed investment,
which may include on-site inspection of the issuer, interviews with its
management and consultations with accountants, bankers and other specialists.
There is substantially less publicly available information about foreign
companies than there are reports and ratings published about U.S. companies and
the U.S. Government. In addition, where public information is available, it may
be less reliable than such information regarding U.S. issuers.
CURRENCY FLUCTUATIONS. Because a Series, under normal circumstances, may invest
substantial portions of its total assets in the securities of foreign issuers
which are denominated in foreign currencies, the strength or weakness of the
U.S. dollar against such foreign currencies will account for part of the Series'
investment performance. A decline in the value of any particular currency
against the U.S. dollar will cause a decline in the U.S. dollar value of the
Series' holdings of securities denominated in such currency and, therefore, will
cause an overall decline in the Series' net asset value and any net investment
income and capital gains to be distributed in U.S. dollars to shareholders of
the Series.
The rate of exchange between the U.S. dollar and other currencies is determined
by several factors including the supply and demand for particular currencies,
central bank efforts to support particular currencies, the movement of interest
rates, the pace of business activity in certain other countries and the U.S.,
and other economic and financial conditions affecting the world economy.
Although the Series values its assets daily in terms of U.S. dollars, the Series
does not intend to convert holdings of foreign currencies into U.S. dollars on a
daily basis. The Series will do so from time to time, and investors should be
aware of the costs of currency conversion. Although foreign exchange dealers do
not charge a fee for conversion, they do realize a profit based on the
difference ("spread") between the prices at which they are buying and selling
various currencies. Thus, a dealer may offer to sell a foreign currency to the
Series at one rate, while offering a lesser rate of exchange should the Series
desire to sell that currency to the dealer.
ADVERSE MARKET CHARACTERISTICS. Securities of many foreign issuers may be less
liquid and their prices more volatile than securities of comparable U.S.
issuers. In addition, foreign securities exchanges and brokers generally are
subject to less governmental supervision and regulation than in the U.S., and
foreign securities exchange transactions usually are subject to fixed
commissions, which generally are higher than negotiated commissions on U.S.
transactions. In addition, foreign securities exchange transactions may be
subject to difficulties associated with the settlement of such transactions.
Delays in settlement could result in temporary periods when assets of the Series
are uninvested and no return is earned thereon. The inability of the Series to
make intended security purchases due to settlement problems could cause it to
miss attractive opportunities. Inability to dispose of a portfolio security due
to settlement problems either could result in losses to the Series due to
subsequent declines in value of the portfolio security or, if the Series has
entered into a contract to sell the security, could result in possible liability
to the purchaser. The Investment Manager or relevant Sub-Adviser will consider
such difficulties when determining the allocation of the Series' assets.
NON-U.S. WITHHOLDING TAXES. A Series' investment income and gains from foreign
issuers may be subject to non-U.S. withholding and other taxes, thereby reducing
the Series' investment income and gains.
INVESTMENT AND REPATRIATION RESTRICTIONS. Foreign investment in the securities
markets of certain foreign countries is restricted or controlled in varying
degrees. These restrictions may at times limit or preclude investment in certain
of such countries and may increase the costs and expenses of a Series.
Investments by foreign investors are subject to a variety of restrictions in
many developing countries. These restrictions may take the form of prior
governmental approval, limits on the amount or type of securities held by
foreigners, and limits on the types of companies in which foreigners may invest.
Additional or different restrictions may be imposed at any time by these or
other countries in which a Series invests. In addition, the repatriation of both
investment income and capital from several foreign countries is restricted and
controlled under certain regulations, including in some cases the need for
certain government consents. These restrictions may in the future make it
undesirable to invest in these countries.
MARKET CHARACTERISTICS. Foreign securities may be purchased in over-the-counter
markets or on stock exchanges located in the countries in which the respective
principal offices of the issuers of the various securities are located, if that
is the best available market. Foreign stock markets are generally not as
developed or efficient as, and may be more volatile than, those in the United
States. While growing in volume, they usually have substantially less volume
than U.S. markets and a Series' portfolio securities may be less liquid and more
volatile than securities of comparable U.S. companies. Equity securities may
trade at price/earnings multiples higher than comparable United States
securities and such levels may not be sustainable. Fixed commissions on foreign
stock exchanges are generally higher than negotiated commissions on United
States exchanges, although a Series will endeavor to achieve the most favorable
net results on its portfolio transactions. There is generally less government
supervision and regulation of foreign stock exchanges, brokers and listed
companies than in the United States. Moreover, settlement practices for
transactions in foreign markets may differ from those in United States markets,
and may include delays beyond periods customary in the United States.
INFORMATION AND SUPERVISION. There is generally less publicly available
information about foreign companies comparable to reports and ratings that are
published about companies in the United States. Foreign companies are also
generally not subject to uniform accounting, auditing and financial reporting
standards, practices and requirements comparable to those applicable to United
States companies.
COSTS. Investors should understand that the expense ratio of the Series that
invest in foreign securities can be expected to be higher than investment
companies investing in domestic securities since the cost of maintaining the
custody of foreign securities and the rate of advisory fees paid by the Series
are higher.
OTHER. With respect to certain foreign countries, especially developing and
emerging ones, there is the possibility of adverse changes in investment or
exchange control regulations, expropriation or confiscatory taxation,
limitations on the removal of funds or other assets of the Series, political or
social instability, or diplomatic developments which could affect investments by
U.S. persons in those countries.
EASTERN EUROPE. Changes occurring in Eastern Europe and Russia today could have
long-term potential consequences. As restrictions fail, this could result in
rising standards of living, lower manufacturing costs, growing consumer
spending, and substantial economic growth. However, investment in the countries
of Eastern Europe and Russia is highly speculative at this time. Political and
economic reforms are too recent to establish a definite trend away from
centrally-planned economies and state owned industries. In many of the countries
of Eastern Europe and Russia, there is no stock exchange or formal market for
securities. Such countries may also have government exchange controls,
currencies with no recognizable market value relative to the established
currencies of western market economies, little or no experience in trading in
securities, no financial reporting standards, a lack of a banking and securities
infrastructure to handle such trading, and a legal tradition which does not
recognize rights in private property. In addition, these countries may have
national policies which restrict investments in companies deemed sensitive to
the country's national interest. Further, the governments in such countries may
require governmental or quasi-governmental authorities to act as custodian of
the Series' assets invested in such countries and these authorities may not
qualify as a foreign custodian under the Investment Company Act of 1940 and
exemptive relief from such Act may be required. All of these considerations are
among the factors which could cause significant risks and uncertainties to
investment in Eastern Europe and Russia.
INVESTMENT POLICY LIMITATIONS
Each of the Funds operates within certain fundamental policies. These
fundamental policies may not be changed without the approval of the lesser of
(i) 67% or more of the Funds' shares present at a meeting of shareholders if the
holders of more than 50% of the outstanding shares of the Fund are present or
represented by proxy, or (ii) more than 50% of the Fund's outstanding voting
shares. Other restrictions in the form of operating policies are subject to
change by the Fund's Board of Directors without shareholder approval. Any
investment restrictions that involve a maximum percentage of securities or
assets shall not be considered to be violated unless an excess over the
percentage occurs immediately after, and is caused by, an acquisition of
securities or assets of, or borrowing by, the Fund. Calculation of the Fund's
total assets for compliance with any of the following fundamental or operating
policies or any other investment restrictions set forth in the Fund's prospectus
or Statement of Additional Information will not include cash collateral held in
connection with a Fund's securities lending activities.
FUNDAMENTAL POLICIES -- The fundamental policies of the Funds are:
1. PERCENT LIMIT ON ASSETS INVESTED IN ANY ONE ISSUER Not to invest more than
5% of its total assets in the securities of any one issuer (other than
obligations of, or guaranteed by, the U.S. Government, its agencies and
instrumentalities); provided that this limitation applies only with respect
to 75% of the Fund's total assets. (Fundamental policy number one does not
apply to Series G or to Series T.)
2. PERCENT LIMIT ON SHARE OWNERSHIP OF ANY ONE ISSUER Not to purchase a
security if, as a result, with respect to 75% of the value of the Fund's
total assets, more than 10% of the outstanding voting securities of any one
issuer would be held by the Fund (other than obligations issued or
guaranteed by the U.S. Government, its agencies or instrumentalities).
(Fundamental policy number two does not apply to Series G or to Series T.)
3. UNDERWRITING Not to act as an underwriter of securities issued by others,
except to the extent that a Fund may considered an underwriter within the
meaning of the Securities Act of 1933 in the disposition of restricted
securities.
4. INDUSTRY CONCENTRATION Not to invest in an amount equal to, or in excess of,
25% or more of the Fund's total assets in a particular industry (other than
securities of the of U.S. Government, its agencies or instrumentalities);
provided however, that this policy does not apply to Series G or to Series T
which are permitted to invest more that 25% of their respective total assets
in a particular industry or group of industries.
5. REAL ESTATE Not to purchase or sell real estate unless acquired as a result
of ownership of securities or other instruments (but this shall not prevent
a Fund from investing in securities or other instruments backed by real
estate or securities of companies engaged in the real estate business).
6. COMMODITIES Not to purchase or sell physical commodities, except that a Fund
may enter into futures contracts and options thereon.
7. LOANS Not to lend any security or make any other loan if, as a result, more
than 33 1/3% of an 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 its investment objectives and policies, or (ii) by
engaging in repurchase agreements with respect to portfolio securities.
8. BORROWING Not to borrow in excess of 33 1/3% of a Fund's total assets.
9. SENIOR SECURITIES Not to issue senior securities, except as permitted under
the Investment Company Act of 1940.
For the purposes of Fundamental Policies (2) and (4) above, each governmental
subdivision, i.e., state, territory, possession of the United States or any
political subdivision of any of the foregoing, including agencies, authorities,
instrumentalities, or similar entities, or of the District of Columbia shall be
considered a separate issuer if its assets and revenues are separate from those
of the governmental body creating it and the security is backed only by its own
assets and revenues. Further, in the case of an industrial development bond, if
the security is backed only by the assets and revenues of a non-governmental
user, then such non-governmental user will be deemed to be the sole issuer. If
an industrial development bond or government issued security is guaranteed by a
governmental or other entity, such guarantee would be considered a separate
security issued by the guarantor.
OPERATING POLICIES -- The operating policies of the Funds are:
1. LOANS The Funds may not lend assets other than securities to other parties.
(This limitation does not apply to purchases of debt securities or to
repurchase agreements.)
2. BORROWING The Funds may not borrow money or securities for any purposes
except that borrowing up to 10% of the Fund's total assets from commercial
banks is permitted for emergency or temporary purposes.
3. OPTIONS The Funds may buy and sell exchange- traded and over-the-counter put
and call options, including index options, securities options, currency
options and options on futures, provided that a call or put may be purchased
only if after such purchase, the value all call and put options held by a
Fund will not exceed 5% of the Fund's total assets. The Funds may write only
covered put and call options.
4. OIL AND GAS PROGRAMS The Funds may not invest in oil, gas, mineral leases or
other mineral exploration or development of programs.
5. INVESTMENT COMPANIES Except in connection with a merger, consolidation,
acquisition, or reorganization, the Funds may not invest in securities of
other investment companies, except in compliance with the Investment Company
Act of 1940 or the condition of an exemptive order from the SEC regarding
the purchase of securities of money market funds managed by a Sub-adviser.
6. CONTROL OF PORTFOLIO COMPANIES The Funds may not invest in companies for the
purpose of exercising management or control.
7. SHORT SALES The Funds may not sell securities short, unless it owns or has
the right to obtain securities equivalent in kind and amount to the
securities sold short, and provided that transactions in futures contracts
and options are not deemed to constitute selling securities short.
8. MARGINS The Funds do not intend to purchase securities on margin, except
that the Funds may obtain such short-term credits as are necessary for the
clearance of transactions, and provided that margin payments in connection
with futures contracts and options on futures contracts shall not constitute
purchasing securities on margin.
OFFICERS AND DIRECTORS
The management of the Fund's business and affairs is the responsibility of the
Board of Directors. The officers of the Fund manage its day-to-day operations
and are responsible to the Fund's Board of Directors. The directors and officers
of the Fund and their principal occupations for at least the last five years are
as follows. Unless otherwise noted, the address of each officer and director is
700 Harrison Street, Topeka, Kansas 66636-0001.
NAME, ADDRESS, POSITIONS HELD WITH THE FUNDS AND PRINCIPAL OCCUPATIONS DURING
THE PAST FIVE YEARS
JOHN D. CLELAND*
- ----------------
POSITION HELD WITH THE FUND--Chairman of the Board and Director
PRINCIPAL OCCUPATIONS--Senior Vice President and Managing Member Representative,
Security Management Company, LLC; Senior Vice President, Security Benefit Group,
Inc. and Security Benefit Life Insurance Company.
DONALD A. CHUBB, JR.**
- ----------------------
2222 SW 29th Street, Topeka, Kansas 66611
POSITION HELD WITH THE FUND--Director
PRINCIPAL OCCUPATIONS--Business broker, Griffith & Blair Realtors. Prior to
1997, President, Neon Tube Light Company, Inc.
PENNY A. LUMPKIN**
- ------------------
3616 Canterbury Town Road, Topeka, Kansas 66610
POSITION HELD WITH THE FUND--Director
PRINCIPAL OCCUPATIONS--Owner, Vivian's Gift Shop (Corporate Retail); Vice
President, Palmer Companies (Small Business and Shopping Center Development) and
Bellairre Shopping Center (Managing and Leasing ); Partner, Goodwin Enterprises
(Retail). Prior to 1999, Vice President and Treasurer, Palmer News, Inc.; Vice
President, M/S News, Inc. and Secretary, Kansas City Periodicals.
MARK L. MORRIS, JR.**
- ---------------------
5500 SW 7th Street, Topeka, Kansas 66606
POSITION HELD WITH THE FUND--Director
PRINCIPAL OCCUPATIONS--Veterinary Nutrition Consultant. Former General Partner,
Mark Morris Associates (Veterinary Research and Education).
MAYNARD F. OLIVERIUS
- --------------------
1500 SW 10th Avenue, Topeka, Kansas 66604
POSITION HELD WITH THE FUND--Director
PRINCIPAL OCCUPATIONS--President and Chief Executive Officer, Stormont-Vail
Health Care.
JAMES R. SCHMANK*
- -----------------
POSITION HELD WITH THE FUND--President and Director
PRINCIPAL OCCUPATIONS--President and Managing Member Representative, Security
Management Company, LLC; Senior Vice President, Security Benefit Group, Inc. and
Security Benefit Life Insurance Company.
TERRY A. MILBERGER
- ------------------
POSITION HELD WITH THE FUND--Vice President
PRINCIPAL OCCUPATIONS--Senior Vice President and Senior Portfolio Manager,
Security Management Company, LLC; Senior Vice President, Security Benefit Group,
Inc. and Security Benefit Life Insurance Company.
AMY J. LEE
- ----------
POSITION HELD WITH THE FUND--Secretary
PRINCIPAL OCCUPATIONS--Secretary, Security Management Company, LLC; Vice
President, Associate General Counsel and Assistant Secretary, Security Benefit
Group, Inc. and Security Benefit Life Insurance Company.
BRENDA M. HARWOOD
- -----------------
POSITION HELD WITH THE FUND--Treasurer
PRINCIPAL OCCUPATIONS--Assistant Vice President and Treasurer, Security
Management Company, LLC; Assistant Vice President, Security Benefit Group, Inc.
and Security Benefit Life Insurance Company.
CINDY L. SHIELDS
- ----------------
POSITION HELD WITH THE FUND--Vice President
PRINCIPAL OCCUPATIONS--Second Vice President and Portfolio Manager, Security
Management Company, LLC; Second Vice President, Security Benefit Group, Inc. and
Security Benefit Life Insurance Company.
THOMAS A. SWANK
- ---------------
POSITION HELD WITH THE FUND--Vice President
PRINCIPAL OCCUPATIONS--Senior Vice President and Director of Fixed Income,
Security Management Company, LLC; Senior Vice President and Chief Investment
Officer, Security Benefit Group, Inc. and Security Benefit Life Insurance
Company.
STEVEN M. BOWSER
- ----------------
POSITION HELD WITH THE FUND--Vice President
PRINCIPAL OCCUPATIONS--Vice President and Portfolio Manager, Security Management
Company, LLC; Second Vice President, Security Benefit Group, Inc. and Security
Benefit Life Insurance Company.
JAMES P. SCHIER
- ---------------
POSITION HELD WITH THE FUND--Vice President
PRINCIPAL OCCUPATIONS--Vice President and Senior Portfolio Manager, Security
Management Company, LLC; Second Vice President, Security Benefit Group, Inc. and
Security Benefit Life Insurance Company. Prior to February 1997, Assistant Vice
President and Senior Research Analyst, Security Management Company, LLC. Prior
to August 1995, Portfolio Manager, Mitchell Capital Management. Prior to March
1993, Vice President and Portfolio Manager, Fourth Financial.
CHRISTOPHER D. SWICKARD
- -----------------------
POSITION HELD WITH THE FUND--Assistant Secretary
PRINCIPAL OCCUPATIONS--Assistant Secretary, Security Management Company, LLC;
Assistant Vice President and Assistant Counsel, Security Benefit Group, Inc. and
Security Benefit Life Insurance Company.
*These directors are deemed to be "interested persons" of the Funds under the
Investment Company Act of 1940, as amended, by reason of their positions with
the Funds' Investment Manager and/or the parent of the Investment Manager.
**These directors serve on the Funds' joint audit committee, the purpose of
which is to meet with the independent auditors, to review the work of the
auditors, and to oversee the handling by Security Management Company, LLC of
the accounting functions for the Funds.
The officers of the Fund hold identical offices in the other Funds in the
Security Group of Funds, with the exceptions noted below. Other than his or her
position with SBL Fund: Mr. Milberger is a Vice President only of Security
Equity Fund and Security Growth & Income Fund; Mr. Schier is a Vice President
only of Security Equity Fund and Security Ultra Fund; Ms. Shields is a Vice
President only of Security Equity Fund; Mr. Bowser is a Vice President only of
Security Income Fund; Mr. Swank is a Vice President only of Security Income
Fund. The directors of the Fund are also directors of each of the other Funds in
the Security Group of Funds. See the table under "Investment Management," page
68, for positions held by such persons with the Investment Manager. Ms. Lee is
also Secretary and Ms. Harwood is Treasurer of Security Distributors, Inc.
("SDI"). Mr. Cleland is also director and Vice President of SDI. Mr. Schmank is
also a director of SDI.
REMUNERATION O DIRECTORS AND OTHERS
The Fund pays each of its directors, except those directors who are "interested
persons" of the Fund, an annual retainer of $12,000 and a fee of $2,500 per
meeting, plus reasonable travel costs, for each meeting of the board attended.
The Fund pays a fee of $1,500 per meeting and reasonable travel costs for each
meeting of the Fund's audit committee attended by those directors who serve on
the committee. The meeting fee (including the Audit Committee meeting) and
travel costs are paid proportionately by each of the seven registered investment
companies to which the Adviser provides investment advisory services
(collectively, the "Security Fund Complex") based on the Fund's net assets. Such
fees and travel costs are paid by the Fund pursuant to the Fund's Administrative
Services Agreement dated April 1, 1987, as amended.
The Fund does not pay any fees to, or reimburse expenses of, its Directors who
are considered "interested persons" of the Fund. The aggregate compensation paid
by the Fund to each of the Directors during its fiscal year ended December 31,
1999, and the aggregate compensation paid to each of the Directors during
calendar year 1999 by the Security Fund Complex are set forth below. Each of the
Directors is a director of each of the other registered investment companies in
the Security Fund Complex
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------------------------
AGGREGATE PENSION OR RETIREMENT ESTIMATED ANNUAL TOTAL COMPENSATION FROM
NAME OF DIRECTOR COMPENSATION BENEFITS ACCRUED AS BENEFITS UPON THE SECURITY FUND COMPLEX,
OF THE FUND FROM SBL FUND PART OF FUND EXPENSES RETIREMENT INCLUDING THE FUND
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Donald A. Chubb, Jr. $15,250 0 0 $30,500
John D. Cleland 0 0 0 0
Penny A. Lumpkin 14,750 0 0 29,500
Mark L. Morris, Jr. 15,250 0 0 30,500
Maynard Oliverius 14,750 0 0 29,500
James R. Schmank 0 0 0 0
Harold G. Worswick* 0 0 0 0
- ------------------------------------------------------------------------------------------------------------------------------------
<FN>
*Mr. Worswick retired as a fund director February 1996. Mr. Worswick received deferred compensation in the amount of $8,386 during
the year ended December 31, 1999.
</FN>
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
Security Management Company, LLC compensates its officers and directors who may
also serve as officers or directors of the Fund. On March 31, 2000, the Fund's
officers and directors (as a group) beneficially owned less than 1% of the
outstanding shares of the Fund.
SALE AND REDEMPTION OF SHARES
Shares of the Fund are sold and redeemed at their net asset value next
determined after receipt of a purchase or redemption order. No sales or
redemption charge is made. The value of shares redeemed may be more or less than
the shareholder's cost, depending upon the market value of the portfolio
securities at the time of redemption. Payment for shares redeemed will be made
as soon as practicable after receipt, but in no event later than seven days
after tender, except that the Fund may suspend the right of redemption during
any period when trading on the New York Stock Exchange is restricted or such
Exchange is closed for other than weekends or holidays, or any emergency is
deemed to exist by the Securities and Exchange Commission.
INVESTMENT MANAGEMENT
Security Management Company, LLC (the "Investment Manager"), 700 Harrison
Street, Topeka, Kansas, serves as investment adviser to the Fund. The Investment
Manager also acts as investment adviser to the following mutual funds: Security
Equity Fund, Security Growth and Income Fund, Security Ultra Fund, Security
Income Fund, Security Cash Fund, and Security Municipal Bond Fund.
The Investment Manager is controlled by its members, Security Benefit Life
Insurance Company and Security Benefit Group, Inc. ("SBG"). SBG is an insurance
and financial services holding company wholly-owned by Security Benefit Life
Insurance Company, 700 Harrison Street, Topeka, Kansas 66636-0001. Security
Benefit Life, a stock life insurance company and incorporated under the laws of
Kansas, is controlled by Security Benefit Corp. ("SBC"). SBC is wholly-owned by
Security Mutual Holding Company, which is in turn controlled by Security Benefit
Life policyholders.
The Investment Manager serves as investment adviser to the Fund under an
Investment Advisory Contract which was approved by the Fund's Board of Directors
on November 30, 1999 and was approved by shareholders on January 26, 2000 and
which became effective on January 27, 2000. The contract may be terminated
without penalty at any time by either party on 60 days' written notice and is
automatically terminated in the event of its assignment.
Pursuant to the Investment Advisory Contract, the Investment Manager furnishes
investment advisory, statistical and research facilities, supervises and
arranges for the purchase and sale of securities on behalf of the Fund, and
provides for the compilation and maintenance of records pertaining to the
investment advisory function. For such services, the Investment Manager is
entitled to receive compensation on an annual basis equal to .75% of the average
net assets of Series A, Series B, Series E, Series H, Series J, Series K, Series
P, Series S, Series V and Series Y; .5% of the average net assets of Series C;
1.00% of the average net assets of Series D, Series G, Series L, Series M,
Series N, Series O, Series Q, Series T, Series W and Series X; and 1.10% of the
average net assets of Series I, computed on a daily basis and payable monthly.
During the last three fiscal years, SBL Fund paid the following amounts to the
Investment Manager for its services: 1999 - $32,441,129; 1998 - $28,302,875; and
1997 - $22,864,309. For the fiscal year ended December 31, 1997 the Investment
Manager waived its entire advisory fee for Series K and P in the amounts of
$110,691 and $29,276, respectively. For the period May 1, 1997 (date of
inception) to December 31, 1997, the Investment Manager waived its entire
advisory fee for Series V in the amount of $13,412. For the period October 15,
1997 (date of inception) to December 31, 1997, the Investment Manager waived its
entire advisory fee for Series X in the amount of $5,148. For the fiscal year
ended December 31, 1998, the Investment Manager waived its entire advisory fee
for Series P and X in the amounts of $82,559 and $37,804, respectively. For the
period January 1, 1998 to April 30, 1998, the Investment Manager waived the
advisory fees of Series K and V in the amounts of $38,300 and $22,594,
respectively. For the period January 1, 1999 through November 30, 1999, the
Investment Manager waived the advisory fee of Series P and X in the amounts of
$120,622 and $93,866, respectively.
The Investment Manager has entered into a sub-advisory agreement with
OppenheimerFunds, Inc. ("Oppenheimer"), Two World Trade Center, New York, New
York 10048-0203, to provide investment advisory services to Series D and Series
W. Pursuant to this agreement, Oppenheimer furnishes investment advisory,
statistical and research facilities, supervises and arranges for the purchase
and sale of securities on behalf of Series D and Series W and provides for the
compilation and maintenance of records pertaining to such investment advisory
services, subject to the control and supervision of the Fund's Board of
Directors and the Investment Manager. For such services, the Investment Manager
pays Oppenheimer an annual fee equal to a percentage of the average daily
closing value of the combined net assets of Series D and another fund in the
Security Fund complex, computed on a daily basis as follows: 0.35% of the
combined average daily net assets up to $300 million, plus 0.30% of such assets
over $300 million up to $750 million and 0.25% of such assets over $750 million.
The Investment Manager pays Oppenheimer an annual fee equal to a percentage of
the average daily closing value of the net assets of Series W, computed on a
daily basis as follows: 0.35% of the average daily net assets up to $50 million,
plus 0.30% of such assets over $50 million up to $250 million and 0.25% of such
assets over $250 million.
OppenheimerFunds, Inc (including subsidiaries and affiliates) managed more than
$120 billion in assets as of March 31, 2000, including other mutual funds with
more than five million shareholder accounts.
The Investment Manager has entered into a sub-advisory agreement with Bankers
Trust Company, 130 Liberty Street, New York, New York 10006, to provide
investment advisory services to Series H and I. Pursuant to the agreement,
Bankers Trust furnishes investment advisory, statistical and research
facilities, supervises and arranges for the purchase and sale of securities on
behalf of Series H and I and provides for the compilation and maintenance of
records pertaining to such investment advisory services, subject to the control
and supervision of the Fund's Board of Directors and the Investment Manager. For
such services to Series H, the Investment Manager pays Bankers Trust an annual
fee equal to a percentage of the average daily closing value of the combined net
assets of Series H and another fund in the Security Fund complex, computed on a
daily basis as follows: 0.20% of the combined average daily net assets of $100
million or less; and 0.15% of the combined average daily net asset of more than
$100 million but less than $300 million; and 0.13% of the combined average daily
net assets of more than $300 million. The Investment Manager also will pay
Bankers Trust the following minimum fees with respect to the Series H (i) no
minimum fee in the first year Series H begins operations; (ii) $100,000 in the
Series' second year of operations; and (iii) $200,000 in the third and following
years of the Series' operations. For such services to Series I, the Investment
Manager pays Bankers Trust an annual fee equal to a percentage of the average
daily closing value of the combined net assets of Series I and another fund in
the Security Fund complex, computed on a daily basis as follows: 0.60% of the
combined average daily net assets of $200 million or less and 0.55% of the
combined average daily net assets of more than $200 million.
Bankers Trust is wholly owned by Bankers Trust Corporation. Bankers Trust
Company ("Bankers Trust"), a New York banking corporation with principal offices
at 130 Liberty Street New York, New York 10006, is a wholly owned subsidiary of
Bankers Trust Corporation and an indirect subsidiary of Deutsche Bank AG
("Deutsche Bank"). Bankers Trust has more than 50 years of experience managing
retirement assets for the nation's largest corporations and institutions.
Deutsche Bank is split into 5 business divisions, including Deutsche Asset
Management, which encompasses the investment management capabilities of Bankers
Trust. As of December 31, 1999, Deutsche Asset Management had $580 billion in
assets under management globally; and in the U.S., Deutsche Asset Management is
responsible for $287 billion in client assets. Bankers Trust managed $270.5
billion of the $287 billion in client assets.
The Investment Manager has entered into a sub-advisory agreement with Wellington
Management Company, LLP, 75 State Street, Boston, Massachusetts, 02109 to
provide investment advisory services to Series K, Series M and Series T.
Wellington Management is a limited liability partnership which traces its
origins to 1928. It currently manages over $248 billion in assets on behalf of
investment companies, employee benefit plans, endowments, foundations and other
institutions and individuals. Pursuant to the agreement, Wellington Management
furnishes investment advisory and research facilities, supervises and arranges
for the purchase and sale of securities on behalf of Series K, Series M and
Series T and provides for the compilation and maintenance of records pertaining
to such investment advisory services, subject to the control and supervision of
the Fund's Board of Directors and the Investment Manager. The Investment Manager
pays Wellington Management a fee equal, on an annual basis, to .50% of the
average net assets of Series K which are less than $50 million and .40% of the
average net assets of Series K of $50 million and over. Such fee is calculated
daily and paid monthly. Wellington Management company has agreed to cap its fee
for the first year at .40% of Series K's average net assets. For the services
provided to Series M under the agreement, the Investment Manager pays Wellington
Management an annual fee equal to a percentage of the average daily closing
value of the net assets of Series M, according to the following schedule:
----------------------------------------------------------
AVERAGE DAILY NET ASSETS OF THE SERIES ANNUAL FEE
----------------------------------------------------------
$0 to $50 million .50%
Over $50 million to $100 million .40%
Over $100 million to $250 million .35%
Over $250 million or more .30%
----------------------------------------------------------
Wellington Management has agreed to cap its fee for the first year at .45% of
Series M's average net assets. For the services provided to Series T under the
agreement, the Investment Manager pays Wellington Management an annual fee equal
to an annual rate of .50% of the combined average daily net assets of Series T
and the Technology Series of Security Equity Fund.
The Investment Manager has entered into a sub-advisory agreement with Alliance
Capital Management L.P. ("Alliance") to provide investment advisory services to
Series L. Pursuant to this agreement, Alliance furnishes investment advisory and
research facilities, supervises and arranges for the purchase and sale of
securities on behalf of Series L and provides for the compilation and
maintenance of records pertaining to such investment advisory services, subject
to the control and supervision of the Fund's Board of Directors and the
Investment Manager. For such services, the Investment Manager pays Alliance an
annual fee equal to and annual rate of .50% of the average daily net assets of
Series L. Alliance is a New York Stock Exchange listed company with principal
offices at 1345 Avenue of the Americas, New York, New York 10105.
Alliance is a leading international adviser managing client accounts with assets
as of December 31, 1999, totaling more than $368 billion (of which more than
$169 billion represented assets of investment companies). As of December 31,
1999 Alliance managed retirement assets for many of the largest public and
private employee benefit plans (including 31 of the nation's FORTUNE 100
companies), for public employee retirement funds in 31 states, for investment
companies, and for foundations, endowments, banks and insurance companies
worldwide. The 52 registered investment companies managed by Alliance comprising
105 separate investment portfolios, currently have approximately 5 million
shareholder accounts.
Alliance Capital Management Corporation ("ACMC") is the general partner of
Alliance and a wholly owned subsidiary of The Equitable Life Assurance Society
of the United States ("Equitable"). Equitable, one the largest life insurance
companies in the United States, is the beneficial owner of an approximately
55.4% partnership interest in Alliance. Alliance Capital Management Holding L.P.
("Alliance Holding") owns an approximately 41.9% partnership interest in
Alliance. Equity interests in Alliance Holding are traded on the New York Stock
Exchange in the form of units. Approximately 98% of such interests are owned by
the public and management or employees of Alliance and approximately 2% of are
owned by Equitable. Equitable is a wholly owned subsidiary of AXA Financial,
Inc. ("AXA Financial"), a Delaware corporation whose shares are traded on the
New York Stock Exchange. AXA Financial serves as the holding company for the
Adviser, Equitable and Donaldson, Lufkin & Jenrette, Inc., an integrated
investment and merchant bank. As of June 30, 1999, AXA, a French insurance
holding company, owned approximately 58.2% of the issued and outstanding shares
of common stock in AXA Financial.
The Series L may from time to time place orders for the purchase or sale of
securities (including listed call options) with Donaldson, Lufkin & Jenrette
Securities Corporation (DLJ), an affiliate of Alliance, and with brokers which
may have their transactions cleared or settled, or both, by the Pershing
Division of DLJ for which DLJ may receive a portion of the brokerage commission.
With respect to orders placed with DLJ for execution on a national securities
exchange, commissions received must conform to Section 17(e)(2)(A) of the 1940
Act and Rule 17e-1 thereunder, which permit an affiliated person of a registered
investment company (such as the Series), or any affiliated person of such
person, to receive a brokerage commission from such registered investment
company provided that such commission is reasonable and fair compared to the
commissions received by other brokers in connection with comparable transactions
involving similar securities during a comparable period of time.
The Investment Manager has engaged T. Rowe Price Associates, Inc. ("T. Rowe
Price"), 100 East Pratt Street, Baltimore, Maryland 21202 to provide investment
advisory services to Series N and O. T. Rowe Price was organized in 1937 and
later incorporated under the laws of the State of Maryland by the late Thomas
Rowe Price, Jr., Pursuant to the agreements, T. Rowe Price furnishes investment
advisory services, supervises and arranges for the purchase and sale of
securities on behalf of Series N and O and provides for the compilation and
maintenance of records pertaining to such investment advisory services, subject
to the control and supervision of the Board of Directors of the Fund and the
Investment Manager. T. Rowe Price is presently a publicly held company which
with its affiliates manages over $179 billion in assets for over 8 million
individuals and institutional investor accounts. The Investment Manager pays T.
Rowe Price, on an annual basis, an amount equal to .50% of the average net
assets of Series N which are less than $50 million and .40% of the average net
assets of Series N of $50 million and over, for management services provided to
Series N. Pending approval at the May 5, 2000 meeting of the Fund's Board of
Directors, the Investment Manager will pay T. Rowe Price, on an annual basis, an
amount equal to .50% of the average net assets of Series N which are less than
$25 million and .35% of the average net assets of Series N of $25 million and
over, for management services provided to Series N. The Investment Manager pays
T. Rowe Price, on an annual basis, an amount equal to .50% of the first $20
million of average daily net assets of Series O and .40% of such assets in
excess of $20,000,000 for management services provided to Series O. For any
month in which the average daily net assets of Series O exceed $50 million, T.
Rowe Price will waive .10% of its fee on the first $20 million of Series O's
average daily net assets. T. Rowe Price's fees for investment management
services are calculated daily and payable monthly.
The Investment Manager has engaged Strong Capital Management, Inc. , 100
Heritage Reserve, Menomonee, Wisconsin 53051, to provide investment advisory
services to Series Q and Series X. Strong was established in 1974 and as of
December 31, 1999 manages over $38 billion in assets. The Investment Manager
pays Strong with respect to Series X, an annual fee based on the combined
average net assets of Series X and another fund in the Security Fund complex.
The fee is equal to .50% of the combined average net assets under $150 million,
.45% of the combined average net assets at or above $150 million but less than
$500 million, and .40% of the combined average net assets at or above $500
million. With respect to Series Q, the Investment Manager pays Strong an annual
fee equal to a percentage of Series Q's average daily net assets as follows:
.50% of the average net assets under $150 million, .45% of the average net
assets at or above $150 million but less than $500 million, and .40% of the
average net assets at or above $500 million.
The Investment Manager has agreed that the total annual expenses of any Series,
including its compensation from such Series, but excluding brokerage
commissions, interest, taxes, and extraordinary expenses, will not exceed the
level of expenses which the Fund is permitted to bear under the most restrictive
expense limitation imposed by any state in which shares of the Fund are then
offered for sale and, with respect to Series I, has agreed to cap the total
annual expenses of Series to 2.25% and of Series H and Y to 1.75% respectively
(excluding interest, taxes, extraordinary expenses, brokerage fees and
commissions). (The Investment Manager is not aware of any state that currently
imposes limits on the level of mutual fund expenses.) The Investment Manager
will, on a monthly basis, contribute such funds or waive such portion of its
management fee as may be necessary to insure that the aggregate expenses of any
Series will not exceed any such limitation.
Pursuant to an Administrative Services Agreement, dated April 1, 1987, as
amended, the Investment Manager also acts as the administrative agent for the
Fund and as such performs administrative functions and the bookkeeping,
accounting and pricing functions for the Fund. For this service the Investment
Manager receives, on an annual basis:
1. Annual Administration Fee of:
a. .045% for Series A, B, C, D, E, I, J, K, M, N, O, P, S, T and V of SBL
Fund (based on average daily net asset values)
b. .09% for Series G, H, L, Q, W, X and Y of SBL Fund (based on average
daily net asset values)
Plus
2. Global Administration Fee of:
a. For each of Series D, K, M and N of SBL Fund, an annual fee equal to the
greater of .10 percent of its average net assets or $60,000;
b. For Series I of SBL Fund, an annual fee equal to the greater of .10
percent of its average net assets or $45,000 in the year ending January
28, 2001 and $60,000 thereafter;
c. For each of Series T of SBL Fund, an annual fee equal to the greater of
.10 percent of its average net assets or (i) $30,000 in the year ending
April 30, 2001, (ii) $45,000 in the year ending April 30, 2002 and (iii)
$60,000 thereafter.
The Global Administration Fee is assessed to compensate the Investment Manager
for the increased costs associated with providing administrative services to
these Series.
The administrative fees paid by the Fund during its fiscal years ended December
31, 1999, 1998 and 1997, were $2,411,211, $2,129,577, and $1,774,347,
respectively.
Under the same Agreement, the Investment Manager acts as the transfer agent for
the Fund. As such, it processes purchase and redemption transactions and acts as
the dividend disbursing agent for the separate accounts of Security Benefit Life
Insurance Company to which shares of the Fund are sold. For this service, the
Investment Manager receives an annual maintenance fee of $8.00 per account, and
a transaction fee of $1.00 per transaction. The transfer agency fees paid by the
Fund during its fiscal years ended December 31, 1999, 1998, and 1997, were
$59,603, $52,490, and $36,972, respectively.
The expense ratio of each Series for the fiscal year ended December 31, 1999,
was as follows:
------------------------ ------------------------
EXPENSE EXPENSE
SERIES RATIO SERIES RATIO
------------------------ ------------------------
Series A 0.81% Series M 1.36%
Series B 0.82% Series N 1.17%
Series C 0.57% Series O 1.09%
Series D 1.21% Series P 0.18%
Series E 0.82% Series S 0.82%
Series H 1.04% Series V 0.84%
Series I 2.25% Series X 0.57%
Series J 0.82% Series Y 0.97%
Series K 1.62%
------------------------- -------------------------
For the period January 1, 1999 to November 30, 1999, the Investment Manager
waived the management fees of Series P and X. In the absence of such waivers,
the expense ratios for Series P and X would have been higher.
The Fund will pay all its expenses not assumed by the Investment Manager
including directors' fees; fees and expenses of custodian; taxes and
governmental fees; interest charges; any membership dues; brokerage commissions;
reports, proxy statements, and notices to stockholders; costs of stockholder and
other meetings; and legal, auditing and accounting expenses. The Fund will also
pay all expenses in connection with the Fund's registration under the Investment
Company Act of 1940 and the registration of its capital stock under the
Securities Act of 1933.
The following persons are affiliated with the Fund and also with the Investment
Manager in the capacities indicated:
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------------------
NAME POSITION WITH SBL FUND POSITIONS WITH SECURITY MANAGEMENT COMPANY, LLC
- ----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
James R. Schmank President and Director President and Managing Member Representative
John D. Cleland Chairman of the Board and Director Senior Vice President and Managing Member Representative
Terry A. Milberger Vice President Senior Vice President and Senior Portfolio Manager
James P. Schier Vice President Vice President and Senior Portfolio Manager
Cindy L. Shields Vice President Second Vice President and Portfolio Manager
Amy J. Lee Secretary Secretary
Brenda M. Harwood Treasurer Assistant Vice President and Treasurer
Thomas A. Swank Vice President Senior President and Director of Fixed Income
Steven M. Bowser Vice President Vice President and Portfolio Manager
Christopher D. Swickard Assistant Secretary Assistant Secretary
- ----------------------------------------------------------------------------------------------------------------------------
</TABLE>
PORTFOLIO MANAGEMENT--
CHARLES ALBERS, Senior Vice President at OppenheimerFunds, has co-managed Series
W (Main Street Growth & Income(R) Series) since its inception in May of 2000.
Prior to joining Oppenheimer Funds in 1998, Mr. Albers was with the investment
management subsidiary of The Guardian Life Insurance Company. Mr. Albers holds a
bachelor of arts from Kenyon College and an M.B.A. degree from Columbia
University. He is a Chartered Financial Analyst.
STEVE BOWSER, Vice President and Portfolio Manager of the Investment Manager,
has co-managed Series E (Diversified Income Series) since June 1997. Prior to
joining the Investment Manager in 1992, he was Assistant Vice President and
Portfolio Manager with the Federal Home Loan Bank of Topeka from 1989 to 1992.
He was employed at the Federal Reserve Bank of Kansas City in 1988 and began his
career with the Farm Credit System from 1982 to 1987, serving as Senior
Financial Analyst and Assistant Controller. He graduated with a Bachelor of
Science degree from Kansas State University in 1982. He is a Chartered Financial
Analyst.
DAVID J. GOERZ, III, Vice President at Wellington Management, has had day-to-day
responsibility for managing Series M since May 1, 1999. Mr. Goerz is the head of
Wellington Management's Tactical Asset Allocation research group. Prior to
joining Wellington Management in 1995, Mr. Goerz was Senior Investment
Strategist and Product Manager at TSA Capital Management (1994-1995) and Senior
Quantitative Analyst at ARCO Investment Management (1990-1994). Mr. Goerz earned
a B.S. degree in applied mathematics from the University of California, Los
Angeles and an M.S. degree in operations research from Stanford University.
SYED J. HASNAIN, Senior Vice President and Large Cap Growth Portfolio Manager
with Alliance has been the manager of Series L (Capital Growth Series) since
inception in May of 2000. Mr. Hasnain joined Alliance in 199_ after working as a
strategist with Merrill Lynch Capital Markets. Previously he was an
international economist with Citicorp and a financial analyst at Goldman Sachs &
Co. He holds a M. Phil. from Cambridge University, an Sc.B. from Brown
University, and studied towards a doctorate at Stanford Business School.
LUCIUS T. HILL, III, Senior Vice President at Wellington Management, has had
day-to-day responsibility for managing Series K (Global Strategic Income Series)
since March 30, 1999. Mr. Hill chairs Wellington Management's Core Bond Strategy
Group, which sets investment policy guidelines for portfolios managed in the
Core Bond and Strategic Total Return styles. Mr. Hill is also a member of
Wellington Management's Strategic Total Return Strategy Group. Prior to joining
Wellington Management in 1993, Mr. Hill was a corporate bond trader at C.S.
First Boston Corporation (1986-1990), and a money market trader at Dean Witter
Reynolds (1983-1986). Mr. Hill earned a B.A. degree in economics and political
science from Yale University and an M.B.A. degree from Columbia Business School.
DEAN S. BARR, Managing Director and Head of Global Quantitative Index
Strategies, has been co-manager of Series H (Enhanced Index Series) since he
joined Bankers Trust in September 1999. Prior to joining Bankers Trust, he was
Chief Investment Officer of Active Quantitative Strategies at State Street
Global Advisors. He has a bachelor's degree from Cornell University and an MBA
in finance from New York University Graduate School of Business.
MANISH KESHIVE, Vice President of Bankers Trust, has been co-manager of Series H
(Enhanced Index Series) since September 1999. He joined Bankers Trust in 1996.
Prior to joining Bankers Trust, he was a student earning a B.S. degree in
Technology from the Indian Institute of Technology in 1993 and an M.S. degree
from the Massachusetts Institute of Technology in 1995.
MICHAEL LEVY, Managing Director of Bankers Trust, has been co-lead manager of
Series I (International Series) since its inception in May 1999. He has been a
portfolio manager of other investment products with similar investment
objectives since joining Bankers Trust in 1993. Mr. Levy is Bankers Trust's
International Equity Strategist and is head of the international equity team. He
has served in each of these capacities since 1993. The international equity team
is responsible for the day-to-day management of the Fund as well as other
international equity portfolios managed by Bankers Trust. Mr. Levy's experience
prior to joining Bankers Trust includes senior equity analyst with Oppenheimer &
Company, as well as positions in investment banking, technology and
manufacturing enterprises. He has 27 years of business experience, of which 17
years have been in the investment industry.
TERRY A. MILBERGER, Senior Vice President and Senior Portfolio Manager of the
Investment Manager, has managed Series A (Equity Series) since 1989. He has been
the lead manager of Series Y (Select 25 Series) since its inception in May 1999
and has managed Series B (Large Cap Value Series) since March 7, 2000. Mr.
Milberger has more than 20 years of investment experience. He began his career
as an investment analyst in the insurance industry and from 1974 through 1978 he
served as an assistant portfolio manager for the Investment Manager. He was then
employed as Vice President of Texas Commerce Bank and managed its pension fund
assets until he returned to the Investment Manager in 1981. Mr. Milberger holds
a bachelor's degree in business and an M.B.A. from the University of Kansas and
is a Chartered Financial Analyst.
NIKOLAOS D. MONOYIOS, Vice President at OppenheimerFunds, has co-managed Series
W (Main Street Growth & Income Series(R) since its inception in May of 2000.
Prior to joining Oppenheimer Funds in 1998, Mr. Monoyios was with the investment
management subsidiary of The Guardian Life Insurance Company. Mr. Monoyios holds
a bachelor of arts in economics from Princeton University and an M.B.A. degree
from Columbia University. He is a Chartered Financial Analyst.
EDMUND M. NOTZON, Managing Director of T. Rowe Price and a Senior Portfolio
Manager in the firm's Taxable Bond Department, has managed Series N (Managed
Asset Allocation Series) since its inception in 1995. He joined T. Rowe Price in
1989 and has been managing investments since 1991. Prior to joining T. Rowe
Price, Mr. Notzon was Director of the Analysis and Evaluation Division at the
U.S. Environmental Protection Agency.
RONALD C. OGNAR, Portfolio Manager of Strong, has managed Series X (Small Cap
Growth Series) since its inception in 1997. He is a Chartered Financial Analyst
with more than 25 years of investment experience. Mr. Ognar joined Strong in
April 1993 after two years as a principal and portfolio manager with RCM Capital
Management. For approximately 3 years prior to his position at RCM Capital
Management, he was a portfolio manager at Kemper Financial Services in Chicago.
Mr. Ognar began his investment career in 1968 at LaSalle National Bank. He is a
graduate of the University of Illinois with a bachelor's degree in accounting.
ROBERT REINER, Managing Director at Bankers Trust, has been co-lead manager of
Series I (International Series) since its inception in May 1999. He has been a
portfolio manager of other investment products with similar investment
objectives since joining Bankers Trust in 1994. At Bankers Trust, he has been
involved in developing analytical and investment tools for the group's
international equity team; his primary focus has been on Japanese and European
markets. Prior to joining Bankers Trust, he was an equity analyst and also
provided macroeconomic coverage for Scudder, Stevens & Clark from 1993 to 1994.
He previously served as Senior Analyst at Sanford C. Bernstein & Co. from 1991
to 1992, and was instrumental in the development of Bernstein's International
Value Fund. Mr. Reiner spent more than nine years at Standard & Poor's
Corporation, where he was a member of its international ratings group. His
tenure included managing the day-to-day operations of the Standard & Poor's
Corporation Tokyo office for three years.
I. CHARLES RINALDI, portfolio manager at Strong, has been the manager of Series
Q since its inception in May of 2000. He has over 25 years of investment
experience. He joined Strong in December 1997. Prior to joining Strong, Mr.
Rinaldi was employed by Mutual of America Capital Management Corporation (MOA)
as a Vice President from November 1989 to January 1994 and as a Senior Vice
President from January 1994 to November 1997. Mr. Rinaldi received his bachelors
in Science from St. Michael's College in 1965 and his Masters of Business
Administration in Finance from Babson College in 1970.
BRIAN C. ROGERS, Managing Director and Portfolio Manager for T. Rowe Price, has
managed Series O (Equity Income Series) since its inception in 1995. He joined
T. Rowe Price in 1982 and has been managing investments since 1983.
JAMES P. SCHIER, Vice President and Senior Portfolio Manager of the Investment
Manager, has managed Series J (Mid Cap Growth Series) since January 1998 and
Series V (Mid Cap Value Series) since its inception in 1997. He has 17 years
experience in the investment field and is a Chartered Financial Analyst. While
employed by the Investment Manager, he also served as a research analyst. Prior
to joining the Investment Manager in 1995, he was a portfolio manager for
Mitchell Capital Management from 1993 to 1995. From 1988 to 1995 he served as
Vice President and Portfolio Manager for Fourth Financial. Prior to 1988, Mr.
Schier served in various positions in the investment field for Stifel Financial,
Josepthal & Company and Mercantile Trust Company. Mr. Schier earned a Bachelor
of Business degree from the University of Notre Dame and an M.B.A. from
Washington University.
CINDY L. SHIELDS, Second Vice President and Portfolio Manager of the Investment
Manager, has managed Series S (Social Awareness Series) since 1994 and has
managed Series G (Large Cap Growth Series) since its inception in May, 2000. She
joined the Investment Manager in 1989. Ms. Shields graduated from Washburn
University with a Bachelor of Business Administration degree, majoring in
finance and economics. She is a Chartered Financial Analyst with ten years of
investment experience.
DAVID G. TOUSSAINT, portfolio manager of the Investment Manager, has managed
Series P (High Yield Series) since April 2000. Mr. Toussaint has nine years of
investment experience and is a Chartered Financial Analyst. In addition, Mr.
Toussaint holds a CPA certificate. Prior to joining the Investment Manager in
2000, he was with Allstate Insurance Company as an investment analyst and in
various managerial positions in their investment operations group. Mr. Toussaint
earned a bachelor of arts degree in Economics from the University of Illinois, a
master of science degree in Accountancy from DePaul University and an M.B.A.
from the University of Chicago.
JULIE WANG, Director at Bankers Trust, has been co-manager of Series I
(International Series) since its inception in May 1999. She has been a manager
of other investment products with similar investment objectives since joining
Bankers Trust in 1994. Ms. Wang has primary focus on the Asia-Pacific region and
the Fund's emerging market exposure. Prior to joining Bankers Trust, Ms. Wang
was an investment manager at American International Group, where she advised in
the management of $7 billion of assets in Southeast Asia, including private and
listed equities, bonds, loans and structured products. Ms. Wang received her
B.A. degree in economics from Yale University and her M.B.A. from the Wharton
School.
WELLINGTON MANAGEMENT COMPANY'S GLOBAL TECHNOLOGY TEAM has managed Series T
(Technology Series) since its inception in May of 2000. The Technology Team is
comprised of a group of global industry analysts who focus on various industries
of the Technology sector. The Technology Team is supported by a significant
number of specialized fundamental, quantitative and technical analysts;
macro-economic analysts and traders.
WILLIAM L. WILBY, Senior Vice President of Oppenheimer, became manager of Series
D (Global Series) in November 1998. Prior to joining Oppenheimer in 1991, he was
an international managing investment strategist at Brown Brothers Harriman & Co.
Prior to Brown Brothers, Mr. Wilby was a managing director and portfolio manager
at AIG Global Investors. He joined AIG from Northern Trust Bank in Chicago,
where he was an international pension manager. Before starting his career in
portfolio management, Mr. Wilby was an international financial economist at
Northern Trust Bank and at the Federal Reserve Bank in Chicago. Mr. Wilby is a
graduate of the United States Military Academy and holds an M.A. and a Ph.D. in
International Monetary Economics from the University of Colorado. He is a
Chartered Financial Analyst.
FRANK WHITSELL, Research Analyst of the Investment Manager, has co-managed
Series Y (Select 25 Series) since February 2000. He joined the Investment
Manager in 1994. Mr. Whitsell graduated from Washburn University with a bachelor
of business administration degree, majoring in accounting and finance, and an
MBA.
MARK ZAVANELLI, Associate Portfolio Manager at OppenheimerFunds, has co-managed
Series W (Main Street Growth and Income(R) Series) since its inception in May of
2000. Prior to joining Oppenheimer Funds in 1998, Mr. Zavanelli was President of
Waterside Capital Management, a registered investment advisor (from August 1995)
and a financial research analyst for Elder Research (from June 1997). Mr.
Zavanelli holds a bachelor of science from the Wharton School, University of
Pennsylvania. He is a Chartered Financial Analyst.
CODE OF ETHICS -- The Fund, the Investment Manager and the Distributor have a
written code of ethics (the "Code of Ethics") which requires all access persons
to obtain prior clearance before engaging in any personal securities
transactions. Access persons include officers and directors of the Fund and
Investment Manager and employees that participate in, or obtain information
regarding, the purchase or sale of securities by the fund or whose job relates
to the making of any recommendations with respect to such purchases or sales.
All access persons must report their personal securities transactions within ten
days of the end of each calendar quarter. Access persons will not be permitted
to effect transactions in a security if it: (a) is being considered for purchase
or sale by the Fund; (b) is being purchased or sold by the Fund; or (c) is being
offered in an initial public offering. Portfolio managers are also prohibited
from purchasing or selling a security within seven calendar days before or after
a Fund that he or she manages trades in that security. Any material violation of
the Code of Ethics is reported to the Board of the Fund. The Board also reviews
the administration of the Code of Ethics on an annual basis. In addition, each
Sub-Adviser has its own code of ethics to which its portfolio managers and other
access persons are subject.
PORTFOLIO TURNOVER
Generally, long-term rather than short-term investments will be made by the Fund
for Series A, B, E, P and S. Although portfolio securities generally will be
purchased with a view to long-term potential, subsequent changes in the
circumstances of a particular company or industry, or in general economic
conditions, may indicate that sale of a portfolio security is desirable without
regard to the length of time it has been held or to the tax consequences
thereof. The annual portfolio turnover rate of Series A, D, J, K, M, S and V may
exceed 100% and at times may exceed 150%. The annual turnover rate of Series E,
K and P may exceed 100%. The annual turnover rate of Series B, N and O is not
generally expected to exceed 100%. The annual turnover rate of Series X is not
generally expected to exceed 200%.
Portfolio turnover is defined as the lesser of purchases or sales of portfolio
securities divided by the average market value of portfolio securities owned
during the year, determined monthly. The annual portfolio turnover rates for
Series A, B, D, E, H, I, J, K, M, N, O, P, S, V, X and Y for the fiscal years
ended December 31, 1999, 1998, and 1997 are as follows:
- --------------------------------------------------------------------------------
1999 1998 1997
- --------------------------------------------------------------------------------
Series A ........................ 49% 39% 61%
Series B ........................ 73% 119% 62%
Series D ........................ 76% 166% 129%
Series E ........................ 25% 70% 106%
Series H ........................ 52%*** --- ---
Series I ........................ 98%*** --- ---
Series J ........................ 55% 94% 107%
Series K ........................ 208% 57% 85%
Series N ........................ 24% 10% 28%
Series O ........................ 35% 20% 21%
Series P ........................ 29% 87% 77%
Series S ........................ 24% 23% 49%
Series V ........................ 57% 72% 79%*
Series X ........................ 283% 367% 402%**
Series Y ........................ 54%*** --- ----
- --------------------------------------------------------------------------------
*Annualized portfolio turnover rate for the period May 1, 1997 (date of
inception) to December 31, 1997.
**Annualized portfolio turnover rate for the period October 15, 1997 (date of
inception) to December 31, 1997.
***Annualized portfolio turnover rate for the period May 3, 1999 (date of
inception) to December 31, 1999.
- --------------------------------------------------------------------------------
For this purpose the term "securities" does not include government securities or
debt securities maturing within one year after acquisition. Since Series C's
investment policies require a maturity shorter than 13 months, the portfolio
turnover rate will generally be 0%, although the portfolio will turn over many
times during a year.
BROKERAGE ENHANCEMENT PLAN
The Board of Directors of the Fund, including all of the Directors who are not
"interested persons" (as defined in the Investment Company Act of 1940) of the
Funds, the Investment Manager, the Distributor (referred to as the "Independent
Directors") and the Fund's, shareholders have voted pursuant to the provisions
of Rule 12b-1 under the Investment Company Act of 1940 to adopt a Brokerage
Enhancement Plan (the "Plan") for the purpose of utilizing the Fund's brokerage
commissions, to the extent available, to promote the sale and distribution of
the Fund's shares (through the sale of variable insurance products funded by the
Fund).
Under the Plan, the Distributor, on behalf of the Fund is authorized to direct
the Investment Manager or a Sub-Adviser to effect brokerage transactions in
portfolio securities through certain broker-dealers, consistent with the
obligation to achieve best price and execution. These broker-dealers have agreed
either (i) to pay a portion of their commission from the purchase and sale of
securities to the Distributor or other introducing brokers ("Brokerage
Payments") that provide distribution activities, or (ii) or to provide brokerage
credits, benefits or other services ("Brokerage Credits") to be used for
distribution activities in addition to the execution of the trade. The
Distributor will use a part of the Brokerage Payments to defray legal and
administrative costs associated with implementation of the Plan. These expenses
are expected to be minimal. The remainder of the Brokerage Payments or Brokerage
Credits generated will be used by the Distributor to finance activities
principally intended to result in the sale of the Funds' shares. These
activities will include, but are not limited to:
* holding or participating in seminars and sales meetings promoting the sale of
the Fund's shares
* paying marketing fees requested by broker-dealers who sell the Fund
* training sales personnel
* creating and mailing advertising and sales literature
* financing any other activity that is intended to result in the sale of the
Fund's shares.
The Distributor is obligated to use all amounts generated under the Plan for
distribution expenses, except for a small amount to be used to defray the
incidental costs associated with implementation of the Plan. The Plan may
indirectly benefit the Distributor in that amounts expended under the Plan may
help defray, in whole or in part, distribution expenses that otherwise might be
borne by the Distributor or an affiliate.
The Plan provides (i) that it will be subject to annual approval by the
Directors and the Independent Directors; (ii) that the Distributor must provide
the Directors a quarterly written report of payments made under the Plan and the
purpose of the payments; and (iii) that the Plan may be terminated at any time
by the vote of a majority of the Independent Directors. The Plan may not be
amended to increase materially the amount to be spent for distribution without
shareholder approval, and all material Plan amendments must be approved by a
vote of the Independent Directors. In addition, the selection and nomination of
the Independent Directors must be committed to the Independent Directors.
DETERMINATION OF NET ASSET VALUE
As discussed in the Prospectus for the Fund, the net asset value per share of
each Series is determined as of the close of regular trading hours on the New
York Stock Exchange (normally 3:00 p.m. Central time) on each day that the
Exchange is open for trading (other than a day on which no shares of a Series
are tendered for redemption and no order to purchase shares of a Series is
received). The New York Stock Exchange is open for trading Monday through Friday
except when closed in observance of the following holidays: New Year's Day,
Martin Luther King, Jr. Day, President's Day, Good Friday, Memorial Day, July
Fourth, Labor Day, Thanksgiving Day and Christmas. The determination is made by
dividing the value of the portfolio securities of each Series, plus any cash or
other assets (including dividends accrued but not collected), less all
liabilities (including accrued expenses but excluding capital and surplus), by
the number of shares of each Series outstanding. In determining asset value,
securities listed or traded on a recognized securities exchange are valued on
the basis of the last sale price. If there are no sales on a particular day,
then the securities shall be valued at the last bid price. All other securities
for which market quotations are available are valued on the basis of the last
current bid price. If there is no bid price, or if the bid price is deemed to be
unsatisfactory by the board of directors or the Fund's Investment Manager, then
the securities shall be valued in good faith by such method as the board of
directors determines will reflect their fair market value. Circumstances under
which the board of directors or the Fund's Investment Manager may consider the
bid price include instances in which the spread between the bid and the asked
prices is substantial, trades have been infrequent or the size of the trades
which have occurred are not representative of the Fund's holdings.
As stated in the Prospectus, the Fund's short-term debt securities may be valued
by the amortized cost method. As a result of using this method, during periods
of declining interest rates, the yield on shares of these Series (computed by
dividing the annualized income of the Fund by the net asset value computed as
described above) may tend to be higher than a like computation made by a fund
with identical investments utilizing a method of valuation based upon market
prices and estimates of market prices for all of its portfolio instruments.
Thus, if the use of amortized cost by the Fund for instruments with remaining
maturities of 60 days or less resulted in a lower aggregate portfolio value on a
particular day, a prospective investor would be able to obtain a somewhat higher
yield than would result from investment in a fund utilizing solely market values
and existing investors in these Series would receive less investment income. The
converse would apply in a period of rising interest rates. To the extent that,
in the opinion of the board of directors, the amortized cost value of a
portfolio instrument or instruments does not represent fair value thereof as
determined in good faith, the board of directors will take appropriate action
which would include a revaluation of all or an appropriate portion of the
portfolio based upon current market factors.
Generally, trading in foreign securities markets is substantially completed each
day at various times prior to the close of the New York Stock Exchange. The
values of foreign securities used in computing the net asset value of the shares
of certain Series of the Fund generally are determined as of the close of such
foreign markets or the close of the New York Stock Exchange if earlier. Foreign
currency exchange rates are generally determined prior to the close of the New
York Stock Exchange. Trading on foreign exchanges and in foreign currencies may
not take place on every day the New York Stock Exchange is open. Conversely
trading in various foreign markets may take place on days when the New York
Stock Exchange is not open and on other days when the Fund's net asset values
are not calculated. Therefore, the shares of a Series which invests in foreign
securities may be significantly affected on days when investors have no access
to the Series. The calculation of the net asset value for Series that invest in
foreign securities may not occur contemporaneously with the determination of the
most current market prices for the securities included in such calculation, and
events affecting the value of such securities and such exchange rates that occur
between the times at which they are determined and the close of the New York
Stock Exchange will not be reflected in the computation of net asset value. If
during such periods, events occur that materially affect the value of such
securities, the securities will be valued at their fair market value as
determined in good faith by the directors.
For purposes of determining the net asset value per share of the Fund, all
assets and liabilities initially expressed in foreign currencies will be
converted into United States dollars at the mean between the bid and offer
prices of such currencies against United States dollars quoted by any major U.S.
bank.
PORTFOLIO TRANSACTIONS
Transactions in portfolio securities shall be effected in such manner as deemed
to be in the best interests of the Fund and the respective Series. In reaching a
judgment relative to the qualifications of a broker-dealer ("broker") to obtain
the best execution of a particular transaction, all relevant factors and
circumstances will be taken into account by the Investment Manager or relevant
Sub-Adviser, including the overall reasonableness of commissions paid to the
broker, the firm's general execution and operational capabilities and its
reliability and financial condition. The execution of portfolio transactions may
be directed to brokers who furnish investment information or research services
to the Investment Manager or relevant Sub-Adviser. Such information and research
services include advice as to the value of securities, the advisability of
investing in, purchasing, or selling securities, the availability of securities
or purchasers or sellers of securities, and furnishing analyses and reports
concerning issues, industries, securities, economic factors and trends,
portfolio strategy, and performance of accounts. Such investment information and
research services may be furnished by brokers in many ways, including: (1)
on-line data base systems, the equipment for which is provided by the broker,
that enable registrant to have real-time access to market information, including
quotations; (2) economic research services, such as publications, chart services
and advice from economists concerning macroeconomic information; and (3)
analytical investment information concerning particular corporations. If a
transaction is directed to a broker supplying such information or services, the
commission paid for such transaction may be in excess of the commission another
broker would have charged for effecting that transaction, provided that the
Investment Manager shall have determined in good faith that the commission is
reasonable in relation to the value of the investment information or research
services provided, viewed in terms of either that particular transaction or the
overall responsibilities of the Investment Manager with respect to all accounts
as to which it exercises investment discretion. The Investment Manager may use
all, none or some of such information and services in providing investment
advisory services to the mutual funds under its management, including the Fund.
Portfolio transactions, including options, futures contracts and options on
futures transactions and the purchase or sale of underlying securities upon the
exercise of options, for Series H and I may also be executed through Bankers
Trust or any subsidiary or affiliate to the extent and in the manner permitted
by applicable law.
In addition, brokerage transactions may be placed with brokers who sell variable
contracts offered by SBL or shares of the Funds managed by the Investment
Manager and who may or may not also provide investment information and research
services. The Investment Manager may, consistent with the NASD Rules of Fair
Practice, consider sales of shares of the Fund in the selection of a broker. The
Fund may also buy securities from, or sell securities to, dealers acting as
principals or market makers.
Securities held by the Series may also be held by other investment advisory
clients of the Investment Manager or relevant Sub-Adviser, including other
investment companies. In addition, Security Benefit Life Insurance Company
("SBL"), may also hold some of the same securities as the Series. When selecting
securities for purchase or sale for a Series, the Investment Manager may at the
same time be purchasing or selling the same securities for one or more of such
other accounts. Subject to the Investment Manager's obligation to seek best
execution, such purchases or sales may be executed simultaneously or "bunched."
It is the policy of the Investment Manager not to favor one account over the
other. Any purchase or sale orders executed simultaneously (which may also
include orders from SBL) are allocated at the average price and as nearly as
practicable on a pro rata basis (transaction costs will also generally be shared
on a pro rata basis) in proportion to the amounts desired to be purchased or
sold by each account. In those instances where it is not practical to allocate
purchase or sale orders on a pro rata basis, then the allocation will be made on
a rotating or other equitable basis. While it is conceivable that in certain
instances this procedure could adversely affect the price or number of shares
involved in a Series' transaction, it is believed that the procedure generally
contributes to better overall execution of the Series' portfolio transactions.
With respect to the allocation of initial public offerings ("IPOs"), the
Investment Manager may determine not to purchase such offerings for certain of
its clients (including investment company clients) due to the limited number of
shares typically available to the Investment Manager in an IPO.
The following table sets forth the brokerage fees paid by the Fund during the
last three fiscal years and certain other information:
- --------------------------------------------------------------------------------
TRANSACTIONS DIRECTED TO
AND COMMISSIONS PAID
BROKERAGE TO BROKER-DEALERS WHO
TOTAL COMMISSIONS ALSO PERFORMED SERVICES
BROKERAGE PAID TO SECURITY -------------------------
COMMISSIONS DISTRIBUTORS,INC., BROKERAGE
YEAR PAID THE UNDERWRITER TRANSACTIONS COMMISSIONS
- --------------------------------------------------------------------------------
1999 $6,212,124 $0 $1,019,772,582 $1,722,398
1998 7,618,644 0 1,354,008,797 2,342,771
1997 5,230,854 0 879,465,514 3,471,380
- --------------------------------------------------------------------------------
DISTRIBUTIONS AND FEDERAL INCOME TAX CONSIDERATIONS
The following summarizes certain federal income tax considerations generally
affecting the Series. No attempt is made to present a detailed explanation of
the tax treatment of the Series or their shareholders. The discussion is based
upon present provisions of the Internal Revenue Code of 1986, as amended (the
"Code"), the regulations promulgated thereunder, and judicial and administrative
ruling authorities, all of which are subject to change, which change may be
retroactive.
Each Series intends to qualify annually and to elect to be treated as a
regulated investment company under the Internal Revenue Code of 1986, as amended
(the "Code").
To qualify as a regulated investment company, each Series must, among other
things: (i) derive in each taxable year at least 90% of its gross income from
dividends, interest, payments with respect to certain securities loans, and
gains from the sale or other disposition of stock, securities or foreign
currencies, or other income derived with respect to its business of investing in
such stock, securities, or currencies ("Qualifying Income Test"); (ii) diversify
its holdings so that, at the end of each quarter of the taxable year, (a) at
least 50% of the market value of the Series' assets is represented by cash, cash
items, U.S. Government securities, the securities of other regulated investment
companies, and other securities, with such other securities of any one issuer
limited for the purposes of this calculation to an amount not greater than 5% of
the value of the Series' total assets and 10% of the outstanding voting
securities of such issuer, and (b) not more than 25% of the value of its total
assets is invested in the securities of any one issuer (other than U.S.
Government securities or the securities of other regulated investment
companies), or of two or more issuers which the Series controls (as that term is
defined in the relevant provisions of the Code) and which are determined to be
engaged in the same or similar trades or businesses or related trades or
businesses; and (iii) distribute at least 90% of the sum of its investment
company taxable income (which includes, among other items, dividends, interest,
and net short-term capital gains in excess of any net long-term capital losses)
and its net tax-exempt interest each taxable year. The Treasury Department is
authorized to promulgate regulations under which foreign currency gains would
constitute qualifying income for purposes of the Qualifying Income Test only if
such gains are directly related to investing in securities (or options and
futures with respect to securities). To date, no such regulations have been
issued.
A Series qualifying as a regulated investment company generally will not be
subject to U.S. federal income tax on its investment company taxable income and
net capital gains (any net long-term capital gains in excess of the net
short-term capital losses), if any, that it distributes to shareholders. Each
Series intends to distribute to its shareholders, at least annually,
substantially all of its investment company taxable income and any net capital
gains.
Generally, regulated investment companies, like the Series, must distribute
amounts on a timely basis in accordance with a calendar year distribution
requirement in order to avoid a nondeductible 4% excise tax. Generally, to avoid
the tax, a regulated investment company must distribute during each calendar
year, (i) at least 98% of its ordinary income (not taking into account any
capital gains or losses) for the calendar year, (ii) at least 98% of its capital
gains in excess of its capital losses (adjusted for certain ordinary losses) for
the 12-month period ending on October 31 of the calendar year, and (iii) all
ordinary income and capital gains for previous years that were not distributed
during such years. To avoid application of the excise tax, each Series intends
to make its distributions in accordance with the calendar year distribution
requirement. A distribution is treated as paid on December 31 of the calendar
year if it is declared by a Series in October, November or December of that year
to shareholders of record on a date in such a month and paid by the Series
during January of the following calendar year. Such distributions are taxable to
shareholders in the calendar year in which the distributions are declared,
rather than the calendar year in which the distributions are received. The
excise tax provisions described above do not apply to a regulated investment
company, like a Series, all of whose shareholders at all times during the
calendar year are segregated asset accounts of life insurance companies where
the shares are held in connection with variable contracts. (For this purpose,
any shares of a Series attributable to an investment in the Series not exceeding
$250,000 made in connection with the organization of the Series shall not be
taken into account.) Accordingly, if this condition regarding the ownership of
shares of a Series is met, the excise tax will be inapplicable to that Series.
If, as a result of exchange controls or other foreign laws or restrictions
regarding repatriation of capital, a Series were unable to distribute an amount
equal to substantially all of its investment company taxable income (as
determined for U.S. tax purposes) within applicable time periods, the Series
would not qualify for the favorable federal income tax treatment afforded
regulated investment companies, or, even if it did so qualify, it might become
liable for federal taxes on undistributed income. In addition, the ability of a
Series to obtain timely and accurate information relating to its investments is
a significant factor in complying with the requirements applicable to regulated
investment companies, in making tax-related computations, and in complying with
the Code Section 817(h) diversification requirements. Thus, if a Series were
unable to obtain accurate information on a timely basis, it might be unable to
qualify as a regulated investment company, its tax computations might be subject
to revisions (which could result in the imposition of taxes, interest and
penalties), or it might be unable to satisfy the Code Section 817(h)
diversification requirements.
CODE SECTION 817(H) DIVERSIFICATION -- To comply with regulations under Section
817(h) of the Code, each Series will be required to diversify its investments so
that on the last day of each quarter of a calendar year, no more than 55% of the
value of its assets is represented by any one investment, no more than 70% is
represented by any two investments, no more than 80% is represented by any three
investments, and no more than 90% is represented by any four investments.
Generally, securities of a single issuer are treated as one investment and
obligations of each U.S. Government agency and instrumentality are treated for
purposes of Section 817(h) as issued by separate issuers.
In connection with the issuance of the diversification regulations, the Treasury
Department announced that it would issue future regulations or rulings
addressing the circumstances in which a variable contractowner's control of the
investments of a separate account may cause the contractowner, rather than the
insurance company, to be treated as the owner of the assets held by the separate
account. If the variable contractowner is considered the owner of the securities
underlying the separate account, income and gains produced by those securities
would be included currently in the contractowner's gross income. These future
rules and regulations proscribing investment control may adversely affect the
ability of certain Series of the Fund to operate as described herein. There is,
however, no certainty as to what standards, if any, Treasury will ultimately
adopt. In the event that unfavorable rules or regulations are adopted, there can
be no assurance that the Series will be able to operate as currently described
in the Prospectus, or that a Series will not have to change its investment
objective or objectives, investment policies, or investment restrictions.
PASSIVE FOREIGN INVESTMENT COMPANIES -- Some of the Series may invest in stocks
of foreign companies that are classified under the Code as passive foreign
investment companies ("PFICs"). In general, a foreign company is classified as a
PFIC if at least one half of its assets constitutes investment-type assets or
75% or more of its gross income is investment-type income. Under the PFIC rules,
an "excess distribution" received with respect to PFIC stock is treated as
having been realized ratably over a period during which the Series held the PFIC
stock. The Series itself will be subject to tax on the portion, if any, of the
excess distribution that is allocated to the Series' holding period in prior
taxable years (an interest factor will be added to the tax, as if the tax had
actually been payable in such prior taxable years) even though the Series
distributes the corresponding income to shareholders. Excess distributions
include any gain from the sale of PFIC stock as well as certain distributions
from a PFIC. All excess distributions are taxable as ordinary income.
A Series may be able to elect alternative tax treatment with respect to PFIC
stock. Under an election that currently may be available, a Series generally
would be required to include in its gross income its share of the earnings of a
PFIC on a current basis, regardless of whether any distributions are received
from the PFIC. If this election is made, the special rules, discussed above,
relating to the taxation of excess distributions, would not apply. In addition,
another election may be available that would involve marking to market a Series'
PFIC stock at the end of each taxable year (and on certain other dates
prescribed in the Code), with the result that unrealized gains are treated as
though they were realized. If this election were made, tax at the Series level
under the PFIC rules would be eliminated, but a Series could, in limited
circumstances, incur nondeductible interest charges. A Series' intention to
qualify annually as a regulated investment company may limit the Series'
elections with respect to PFIC stock.
Because the application of the PFIC rules may affect, among other things, the
character of gains, the amount of gain or loss and the timing of the recognition
of income with respect to PFIC stock, as well as subject a Series itself to tax
on certain income from PFIC stock, the amount that must be distributed to
shareholders, and which will be taxed to shareholders as ordinary income or
long-term capital gain, may be increased or decreased substantially as compared
to a fund that did not invest in PFIC stock.
OPTIONS, FUTURES AND FORWARD CONTRACTS AND SWAP AGREEMENTS -- Certain options,
futures contracts, and forward contracts in which a Series may invest may be
"Section 1256 contracts." Gains or losses on Section 1256 contracts generally
are considered 60% long-term and 40% short-term capital gains or losses;
however, foreign currency gains or losses arising from certain Section 1256
contracts may be treated as ordinary income or loss. Also, Section 1256
contracts held by a Series at the end of each taxable year (and at certain other
times as prescribed pursuant to the Code) are "marked to market" with the result
that unrealized gains or losses are treated as though they were realized.
Generally, the hedging transactions undertaken by a Series may result in
"straddles" for U.S. federal income tax purposes. The straddle rules may affect
the character of gains (or losses) realized by a Series. In addition, losses
realized by a Series on positions that are part of a straddle may be deferred
under the straddle rules, rather than being taken into account in calculating
the taxable income for the taxable year in which such losses are realized.
Because only a few regulations implementing the straddle rules have been
promulgated, the tax consequences of transactions in options, futures, forward
contracts, swap agreements and other financial contracts to a Series are not
entirely clear. The transactions may increase the amount of short-term capital
gain realized by a Series which is taxed as ordinary income when distributed to
shareholders.
A Series may make one or more of the elections available under the Code which
are applicable to straddles. If a Series makes any of the elections, the amount,
character and timing of the recognition of gains or losses from the affected
straddle positions will be determined under rules that vary according to the
election(s) made. The rules applicable under certain of the elections may
operate to accelerate the recognition of gains or losses from the affected
straddle positions.
Because application of the straddle rules may affect the character of gains or
losses, defer losses and/or accelerate the recognition of gains or losses from
the affected straddle positions, the amount which must be distributed to
shareholders, and which will be taxed to shareholders as ordinary income or
long-term capital gain, may be increased or decreased as compared to a fund that
did not engage in such hedging transactions.
Because only a few regulations regarding the treatment of swap agreements, and
related caps, floors and collars, have been implemented, the tax consequences of
such transactions are not entirely clear. The Series intend to account for such
transactions in a manner deemed by them to be appropriate, but the Internal
Revenue Service might not necessarily accept such treatment. If it did not, the
status of a Series as a regulated investment company, and the Series' ability to
satisfy the Code Section 817(h) diversification requirements, might be affected.
The requirements applicable to a Series' qualification as a regulated investment
company may limit the extent to which a Series will be able to engage in
transactions in options, futures contracts, forward contracts, swap agreements
and other financial contracts.
MARKET DISCOUNT -- If a Series purchases a debt security at a price lower than
the stated redemption price of such debt security, the excess of the stated
redemption price over the purchase price is "market discount". If the amount of
market discount is more than a DE MINIMIS amount, a portion of such market
discount must be included as ordinary income (not capital gain) by the Series in
each taxable year in which the Series owns an interest in such debt security and
receives a principal payment on it. In particular, the Series will be required
to allocate that principal payment first to the portion of the market discount
on the debt security that has accrued but has not previously been includable in
income. In general, the amount of market discount that must be included for each
period is equal to the lesser of (i) the amount of market discount accruing
during such period (plus any accrued market discount for prior periods not
previously taken into account) or (ii) the amount of the principal payment with
respect to such period. Generally, market discount accrues on a daily basis for
each day the debt security is held by a Series at a constant rate over the time
remaining to the debt security's maturity or, at the election of the Series, at
a constant yield to maturity which takes into account the semi-annual
compounding of interest. Gain realized on the disposition of a market discount
obligation must be recognized as ordinary interest income (not capital gain) to
the extent of the "accrued market discount."
ORIGINAL ISSUE DISCOUNT -- Certain debt securities acquired by the Series may be
treated as debt securities that were originally issued at a discount. Very
generally, original issue discount is defined as the difference between the
price at which a security was issued and its stated redemption price at
maturity. Although no cash income on account of such discount is actually
received by a Series, original issue discount that accrues on a debt security in
a given year generally is treated for federal income tax purposes as interest
and, therefore, such income would be subject to the distribution requirements
applicable to regulated investment companies.
Some debt securities may be purchased by the Series at a discount that exceeds
the original issue discount on such debt securities, if any. This additional
discount represents market discount for federal income tax purposes (see above).
CONSTRUCTIVE SALES -- Recently enacted rules may affect the timing and character
of gain if a Series engages in transactions that reduce or eliminate its risk of
loss with respect to appreciated financial positions. If the Series enters into
certain transactions in property while holding substantially identical property,
the Series would be treated as if it had sold and immediately repurchased the
property and would be taxed on any gain (but not loss) from the constructive
sale. The character of gain from a constructive sale would depend upon the
Series' holding period in the property. Loss from a constructive sale would be
recognized when the property was subsequently disposed of, and its character
would depend on the Series' holding period and the application of various loss
deferral provisions of the Code.
FOREIGN TAXATION -- Income received by a Series from sources within a foreign
country may be subject to withholding and other taxes imposed by that country.
Tax conventions between certain countries and the U.S. may reduce or eliminate
such taxes. The payment of such taxes will reduce the amount of dividends and
distributions paid to shareholders.
FOREIGN CURRENCY TRANSACTIONS -- Under the Code, gains or losses attributable to
fluctuations in exchange rates which occur between the time a Series accrues
income or other receivables or accrues expenses or other liabilities denominated
in a foreign currency and the time that Series actually collects such
receivables or pays such liabilities generally are treated as ordinary income or
ordinary loss. Similarly, on disposition of debt securities denominated in a
foreign currency and on disposition of certain futures contracts, forward
contracts and options, gains or losses attributable to fluctuations in the value
of foreign currency between the date of acquisition of the security or contract
and the date of disposition also are treated as ordinary gain or loss. These
gains or losses, referred to under the Code as "Section 988" gains or losses,
may increase or decrease the amount of a Series' investment company taxable
income to be distributed to its shareholders as ordinary income.
DISTRIBUTIONS -- Distributions of any investment company taxable income by a
Series are taxable to the shareholders as ordinary income. Net capital gains
designated by a Series as capital gain dividends will be treated, to the extent
distributed, as long-term capital gains in the hands of the shareholders,
regardless of the length of time the shareholders may have held the shares. Any
distributions that are not from a Series' investment company taxable income or
net capital gains may be characterized as a return of capital to shareholders
or, in some cases, as capital gain. A distribution will be treated as paid on
December 31 of the calendar year if it is declared by a Series in October,
November or December of that year to shareholders of record on a date in such a
month and paid by the Series during January of the following calendar year. Such
distributions will be taxable to shareholders in the calendar year in which they
are declared, rather than the calendar year in which they are received.
OTHER TAXES -- The foregoing discussion is general in nature and is not intended
to provide an exhaustive presentation of the tax consequences of investing in a
Series. Distributions may also be subject to additional state, local and foreign
taxes, depending on each shareholder's particular situation. Depending upon the
nature and extent of a Series' contacts with a state or local jurisdiction, the
Series may be subject to the tax laws of such jurisdiction if it is regarded
under applicable law as doing business in, or as having income derived from, the
jurisdiction. Shareholders are advised to consult their own tax advisers with
respect to the particular tax consequences to them of an investment in a Series.
OWNERSHIP AND MANAGEMENT
As of April 30, 2000, SBL controls the Fund by virtue of its indirect ownership
of 100% of the outstanding shares of the Fund as custodian of SBL Variable
Annuity Account III, SBL Variable Annuity Account IV, Variflex, Variflex LS,
Variflex Signature, Variflex ES, Variflex Extra Credit, Security Elite Benefit
and Varilife.
CAPITAL STOCK AND VOTING
The Fund has authorized the issuance of an indefinite number of shares of
capital stock of $1.00 par value. Its shares are currently issued in twenty-two
Series: Series A, Series B, Series C, Series D, Series E, Series G, Series H,
Series I, Series J, Series K, Series L, Series M, Series N, Series O, Series P,
Series Q, Series S, Series T, Series V, Series W, Series X and Series Y. The
shares of each Series represent pro rata beneficial interest in that Series'
assets and in the earnings and profits or losses derived from the investment of
such assets. Upon issuance and sale, such shares will be fully paid and
nonassessable. They are fully transferable and redeemable. These shares have no
preemptive rights, but the stockholders of each Series are entitled to receive
dividends as declared for that Series by the board of directors of the Fund.
The shares of each Series have cumulative voting rights for the election of
directors. Within each respective Series, each share has equal voting rights
with each other share and there are no preferences as to conversion, exchange,
retirement or liquidation. On other matters, all shares, (irrespective of
Series) are entitled to one vote each. Pursuant to the rules and regulations of
the Securities and Exchange Commission, in certain instances, a vote of the
outstanding shares of the combined Series may not modify the rights of holders
of a particular Series without the approval of a majority of the shares of that
Series.
CUSTODIANS, TRANSFER AGENT AND DIVIDEND-PAYING AGENT
At the Board of Directors meeting, held May 5, 2000, the Directors approved a
proposal to replace Chase Manhattan Bank, n.a. as custodian for Series D, I, K,
M, N and O. Chase Manhattan Bank will be replaced by State Street Bank and Trust
Company, 225 Franklin, Boston, Massachusetts 02110. The transfer of the Series'
assets from Chase Manhattan Bank to State Street Bank and Trust Company is
expected to be complete by September 2000.
State Street Bank and Trust Company currently acts as custodian for the
portfolio securities of Series G, L, Q, T and W, including those held by foreign
banks and foreign securities depositories which qualify as eligible foreign
custodians under the rules adopted by the SEC.
UMB Bank, N.A., 928 Grand Avenue, Kansas City, Missouri 64106, acts as the
custodian for the portfolio securities of Series A, B, C, E, H, J, P, S, V and X
of the Fund. Security Management Company, LLC is the Fund's transfer and
dividend-paying agent.
INDEPENDENT AUDITORS
The firm of Ernst & Young LLP, has been approved by the Fund's stockholders to
serve as the Fund's independent auditors, and as such, the firm will perform the
annual audit of the Fund's financial statements.
PERFORMANCE INFORMATION
The Fund may, from time to time, include the yield for Series C and the average
annual total return and the total return of the Series in advertisements or
reports to shareholders or prospective investors.
For Series C, the current yield will be based upon the seven calendar days
ending on the date of calculation ("the base period"). The total net investment
income earned, exclusive of realized capital gains and losses or unrealized
appreciation and depreciation, during the base period, on a hypothetical
pre-existing account having a balance of one share will be divided by the value
of the account at the beginning of that period. The resulting figure ("the base
period return") will then be multiplied by 365/7 to obtain the current yield.
Series C's current yield for the seven-day period ended December 31, 1999 was
4.86%.
Series C's effective (or compound) yield for the same period was 4.98%. The
effective yield reflects the compounding of the current yield by reinvesting all
dividends and will be computed by compounding the base period return by adding 1
to the base period return, raising the sum to a power equal to 365 divided by 7,
and subtracting 1 from the result.
Quotations of average annual total return for a Series will be expressed in
terms of the average annual compounded rate of return of a hypothetical
investment in the Series over certain periods that will include periods of 1, 5
and 10 years (up to the life of the Series), calculated pursuant to the
following formula:
P(1 + T)n = ERV
(where P = a hypothetical initial payment of $1,000, T = the average annual
total return, n = the number of years, and ERV = the ending redeemable value of
a hypothetical $1,000 payment made at the beginning of the period). All total
return figures assume that all dividends and distributions are reinvested when
paid.
For the 1-, 5- and 10-year periods ended December 31, 1999, the average annual
total return was the following:
- --------------------------------------------------------------------------------
1 YEAR 5 YEARS 10 YEARS
- --------------------------------------------------------------------------------
Series A ......................... 8.14% 23.98% 16.14%
Series B ......................... 1.50% 16.33% 12.23%
Series C ......................... 4.63% 5.09% 4.85%
Series D ......................... 53.67% 20.67% 11.37%
Series E ......................... -3.77% 6.13% 6.59%
Series H ......................... 12.32%(7) --- ---
Series I ......................... 30.00%(7) --- ---
Series J ......................... 61.86% 26.43% 22.45%(1)
Series K ......................... 1.19% 7.52%(2) ---
Series M ......................... 13.97% 11.79%(2) ---
Series N ......................... 9.74% 14.53%(2) ---
Series O ......................... 3.13% 16.66%(2) ---
Series P ......................... 1.32% 7.88%(3) ---
Series S ......................... 17.18% 23.45% 16.60%(4)
Series V ......................... 18.88% 25.12%(5) ---
Series X ......................... 87.20% 36.78%(6) ---
Series Y ......................... 23.70%(7) --- ---
- --------------------------------------------------------------------------------
1 For the period October 1, 1992 (date of inception) to December 31, 1999.
2 For the period June 1, 1995 (date of inception) to December 31, 1999.
3 For the period August 5, 1996 (date of inception) to December 31, 1999.
4 For the period May 1, 1991 (date of inception) to December 31, 1999.
5 For the period May 1, 1997 (date of inception) to December 31, 1999.
6 For the period October 15, 1997 (date of inception) to December 31, 1999.
7 For the period May 3, 1999 (date of inception) to December 31, 1999, and is
not annualized.
- --------------------------------------------------------------------------------
Quotations of cumulative total return for any Series will also be based on a
hypothetical investment in the Series for a certain period, and will assume that
all dividends and distributions are reinvested when paid. The cumulative total
return is calculated by subtracting the value of the investment at the beginning
of the period from the ending value and dividing the remainder by the beginning
value. The Investment Manager has waived the management fee for Series K, P, V
and X during certain periods and in the absence of such waiver, the performance
quoted would be reduced.
For the period from December 31, 1989 to December 31, 1999, (or since inception
where applicable) the cumulative total return was the following:
- --------------------------------------------------------------------------------
CUMULATIVE CUMULATIVE
SERIES TOTAL RETURN SERIES TOTAL RETURN
------------------------------- -------------------------------
Series A 346.65% Series M 66.72%(2)
Series B 216.90% Series N 86.29%(2)
Series C 60.59% Series O 102.75%(2)
Series D 193.49% Series P 29.51%(3)
Series E 89.26% Series S 278.87%(4)
Series H 12.32%(7) Series V 81.98%(5)
Series I 30.00%(7) Series X 100.03%(6)
Series J 334.39%(1) Series Y 23.70%(7)
Series K 39.43%(2)
- --------------------------------------------------------------------------------
1 For the period October 1, 1992 (date of inception) to December 31, 1999.
2 For the period June 1, 1995 (date of inception) to December 31, 1999.
3 For the period August 5, 1996 (date of inception) to December 31, 1999.
4 For the period May 1, 1991 (date of inception) to December 31, 1999.
5 For the period May 1, 1997 (date of inception) to December 31, 1999.
6 For the period October 15, 1997 (date of inception) to December 31, 1999.
7 For the period May 3, 1999 (date of inception) to December 31, 1999, and is
not annualized.
- --------------------------------------------------------------------------------
Performance information for a Series may be compared, in reports and promotional
literature, to: (i) the Standard & Poor's 500 Stock Index ("S&P 500"), Dow Jones
Industrial Average ("DJIA"), or other unmanaged indices so that investors may
compare a Series' results with those of a group of unmanaged securities widely
regarded by investors as representative of the securities markets in general;
(ii) other groups of mutual funds tracked by Lipper Analytical Services, a
widely used independent research firm which ranks mutual funds by overall
performance, investment objectives, and assets, or tracked by other services,
companies, publications, or persons who rank mutual funds on overall performance
or other criteria; and (iii) the Consumer Price Index (measure for inflation) to
assess the real rate of return from an investment in the Series. Unmanaged
indices may assume the reinvestment of dividends but generally do not reflect
deductions for administrative and management costs and expenses.
Such mutual fund rating services include the following: Lipper Analytical
Services; Morningstar, Inc.; Investment Company Data; Schabacker Investment
Management; Wiesenberger Investment Companies Service; Computer Directions
Advisory (CDA); and Johnson's Charts.
Quotations of average annual total return or total return for the Fund will not
take into account charges and deductions against the Separate Accounts to which
the Fund shares are sold or charges and deductions against the Contracts issued
by Security Benefit Life Insurance Company. Performance information for any
Series reflects only the performance of a hypothetical investment in the Series
during the particular time period on which the calculations are based.
Performance information should be considered in light of the Series' investment
objectives and policies, characteristics and quality of the portfolios and the
market conditions during the given time period, and should not be considered as
a representation of what may be achieved in the future.
FINANCIAL STATEMENTS
The audited financial statements of the Fund for the fiscal year ended December
31, 1999, which are contained in the Annual Report of SBL Fund are incorporated
herein by reference. Copies of the Annual Report are provided to every person
requesting a copy of the Statement of Additional Information.
<PAGE>
APPENDIX A
- --------------------------------------------------------------------------------
DESCRIPTION OF SHORT-TERM INSTRUMENTS
U.S. GOVERNMENT SECURITIES -- Federal agency securities are debt obligations
which principally result from lending programs of the U.S. Government. Housing
and agriculture have traditionally been the principal beneficiaries of federal
credit programs, and agencies involved in providing credit to agriculture and
housing account for the bulk of the outstanding agency securities.
Some U.S. Government securities, such as treasury bills and bonds, are supported
by the full faith and credit of the U.S. Treasury, others are supported by the
right of the issuer to borrow from the Treasury; others, such as those of the
Federal National Mortgage Association, are supported by the discretionary
authority of the U.S. Government to purchase the agency's obligations; still
others such as those of the Student Loan Marketing Association, are supported
only by the credit of the instrumentality.
U.S. Treasury bills are issued with maturities of any period up to one year.
Three-month bills are currently offered by the Treasury on a 13-week cycle and
are auctioned each week by the Treasury. Bills are issued in bearer form only
and are sold only on a discount basis, and the difference between the purchase
price and the maturity value (or the resale price if they are sold before
maturity) constitutes the interest income for the investor.
CERTIFICATES OF DEPOSIT -- A certificate of deposit is a negotiable receipt
issued by a bank or savings and loan association in exchange for the deposit of
funds. The issuer agrees to pay the amount deposited plus interest to the bearer
of the receipt on the date specified on the certificate.
COMMERCIAL PAPER -- Commercial paper is generally defined as unsecured
short-term notes issued in bearer form by large well-known corporations and
finance companies. Maturities on commercial paper range from a few days to nine
months. Commercial paper is also sold on a discount basis.
BANKERS' ACCEPTANCES -- A banker's acceptance generally arises from a short-term
credit arrangement designed to enable businesses to obtain funds to finance
commercial transactions. Generally, an acceptance is a time draft drawn on a
bank by an exporter or an importer to obtain a stated amount of funds to pay for
specific merchandise. The draft is then "accepted" by a bank that, in effect,
unconditionally guarantees to pay the face value of the instrument on its
maturity date.
DESCRIPTION OF COMMERCIAL PAPER RATINGS
A Prime rating is the highest commercial paper rating assigned by Moody's
Investors Service, Inc. ("Moody's"). Issuers rated Prime are further referred to
by use of numbers 1, 2 and 3 to denote relative strength within this highest
classification. Among the factors considered by Moody's in assigning ratings are
the following: (1) evaluation of the management of the issuer; (2) economic
evaluation of the issuer's industry or industries and an appraisal of
speculative type risks which may be inherent in certain areas; (3) evaluation of
the issuer's products in relation to competition and customer acceptance; (4)
liquidity; (5) amount and quality of long-term debt; (6) trend of earnings over
a period of 10 years; (7) financial strength of a parent company and the
relationships which exist with the issuer; and (8) recognition by management of
obligations which may be present or may arise as a result of public interest
questions and preparations to meet such obligations.
Commercial paper rated "A" by Standard & Poor's Corporation ("S&P") has the
highest rating and is regarded as having the greatest capacity for timely
payment. Commercial paper rated A-1 by S&P has the following characteristics.
Liquidity ratios are adequate to meet cash requirements. Long-term senior debt
is rated "A" or better. The issuer has access to at least two additional
channels of borrowing. Basic earnings and cash flow have an upward trend with
allowance made for unusual circumstances. Typically, the issuer's industry is
well established and the issuer has a strong position within the industry. The
reliability and quality of management are unquestioned. Relative strength or
weakness of the above factors determine whether the issuer's commercial paper is
rated A-1, A-2 or A-3.
DESCRIPTION OF CORPORATE BOND RATINGS
MOODY'S INVESTORS SERVICE, INC.--
AAA -- Bonds which are rated Aaa are judged to be of the best quality. They
carry the smallest degree of investment risk and are generally referred to as
"gilt-edge." Interest payments are protected by a large or by an exceptionally
stable margin and principal is secure. While the various protective elements are
likely to change, such changes as can be visualized are most unlikely to impair
the fundamentally strong position of such issues.
AA -- Bonds which are rated Aa are judged to be of high quality by all
standards. Together with the Aaa group they comprise what are generally known as
high grade bonds. They are rated lower than the best bonds because margins of
protection may not be as large as in Aaa securities or fluctuation of protective
elements may be of greater amplitude or there may be other elements present
which make the long-term risks appear somewhat larger than in Aaa securities.
A -- Bonds which are rated A possess many favorable investment attributes and
are to be considered as upper medium grade obligations. Factors giving security
to principal and interest are considered adequate, but elements may be present
which suggest a susceptibility to impairment sometime in the future.
BAA -- Bonds which are rated Baa are considered as medium grade obligations,
i.e., they are neither highly protected nor poorly secured. Interest payments
and principal security appear adequate for the present, but certain protective
elements may be lacking or may be characteristically unreliable over any great
length of time. Such bonds lack outstanding investment characteristics and in
fact have speculative characteristics as well.
BA -- Bonds which are 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 which are rated B generally lack characteristics of the desirable
investment. Assurance of interest and principal payments or of maintenance of
other terms of the contract over any long period of time may be small.
CAA -- Bonds which are 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.
CA -- Bonds which are rated Ca represent obligations which are speculative in a
high degree. Such issues are often in default or have other marked shortcomings.
C -- Bonds which are rated C are the lowest rated class of bonds and issues so
rated can be regarded as having extremely poor prospects of ever attaining any
real investment standing.
STANDARD & POOR'S CORPORATION--
AAA -- Bonds rated AAA have the highest rating assigned by Standard & Poor's to
debt obligation. Capacity to pay interest and repay principal is extremely
strong.
AA -- Bonds rated AA have a very strong capacity to pay interest and repay
principal and differ from the highest rated issues only in small degree.
A -- Bonds rated A have a strong capacity to pay interest and repay principal
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 capacity to pay
interest and repay principal. Whereas they normally exhibit adequate protection
parameters, adverse economic conditions or changing circumstances are more
likely to lead to a weakened capacity to pay interest and repay principal for
bonds in this category than for bonds in higher rated categories.
BB, B, CCC, CC -- Bonds rated BB, B, CCC and CC are regarded, on balance, as
predominately speculative with respect to the issuer's capacity to pay interest
and repay principal in accordance with the terms of obligation. BB indicates the
lowest degree of speculation and CC the highest degree of speculation. While
such bonds will likely have some quality and protective characteristics, these
are outweighed by large uncertainties or major risk exposures to adverse
conditions.
C -- The rating C is reserved for income bonds on which no interest is being
paid.
D -- Debt rated D is in default and payment of interest and/or repayment of
principal is in arrears.
