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VANGUARD
INTERNATIONAL VALUE
PORTFOLIO
Semiannual Report - June 30, 1998
[PHOTO]
[THE VANGUARD GROUP LOGO]
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OUR CREW MAKES THE DIFFERENCE
Throughout our history, The Vanguard Group has received considerable attention
as the low-cost provider of mutual funds. While such accolades are gratifying,
we are most proud, not of our low operating expenses or the billions of dollars
we manage, but of our sterling reputation created by the Vanguard crew.
We recognize that it is our crew members--more than 7,000 highly motivated
men and women--who form the cornerstone of our operations. We could not survive
long--let alone prosper--without them. That's why we chose this fiscal year's
fund reports to celebrate the spirit, enthusiasm, and achievements of our crew.
(We call those who work at Vanguard crew members, not employees, because they
operate as a team to accomplish our mission of serving you, our clients.)
But while we prize the collective contributions of our crew, we also take
time to recognize the importance of the individual. Each calendar quarter, we
present our Award For Excellence to a handful of crew members who have
demonstrated particular excellence in the performance of their jobs and who
embody "The Vanguard Spirit." Our report cover shows only a few of the more than
300 crew members who have received this distinction since 1984.
They, along with the rest of our valiant crew, look forward to serving you
in the years ahead.
[PHOTO] [PHOTO]
John C. Bogle John J. Brennan
Senior Chairman Chairman & CEO
<TABLE>
<CAPTION>
CONTENTS
<S> <C>
A MESSAGE TO OUR SHAREHOLDERS ....................... 1
THE MARKETS IN PERSPECTIVE .......................... 4
REPORT FROM THE ADVISER ............................. 6
PORTFOLIO PROFILE ................................... 8
PERFORMANCE SUMMARY ................................. 11
FINANCIAL STATEMENTS ................................ 12
</TABLE>
All comparative mutual fund data are from Lipper Analytical Services, Inc., or
Morningstar unless otherwise noted.
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FELLOW SHAREHOLDER,
Thanks to a powerful bull market in European stocks, the first half of
1998 was a generally rewarding time for international equity investors. Vanguard
International Value Portfolio earned +17.5% for the half-year, surpassing the
returns of both our comparative standards.
The table at right presents the portfolio's total return (capital change
plus reinvested dividends) and those of our principal benchmarks: the average
international stock fund, as calculated by Lipper Analytical Services, and the
unmanaged Morgan Stanley Capital International Europe, Australasia, Far East
(EAFE) Index. The portfolio's return is based on an increase in net asset value
from $22.64 per share on December 31, 1997, to $26.18 per share on June 30,
1998, with the latter figure adjusted for a dividend of $0.01 per share paid
from net investment income and a distribution of $0.42 per share paid from net
realized capital gains.
<TABLE>
<CAPTION>
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TOTAL RETURNS
SIX MONTHS ENDED
JUNE 30, 1998
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<S> <C>
Vanguard International Value Portfolio +17.5%
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Average International Fund +16.1%
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MSCI EAFE Index +16.1%
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</TABLE>
THE PERIOD IN REVIEW
Europe's stock markets were the global leaders during the first half of 1998,
surpassing even the excellent returns earned in the United States. The story was
decidedly different in most Asian and emerging markets, where stock prices
generally slumped in response to continuing currency and economic weakness. The
U.S. dollar's gains versus most currencies detracted somewhat from the positive
returns earned in local currencies in Europe and worsened the losses from
Pacific Rim markets. Such currency fluctuations--which can diminish or augment
returns earned abroad--are a risk that international stock investors assume in
addition to the wide price swings that are part and parcel of holding common
stocks.
Taken together, international stocks provided an excellent half-year
return of +16.1%, as measured by the EAFE Index, which is weighted to reflect
the market capitalization of the world's established markets. But this result
disguises the wide variations in market performances. European stocks as a group
were up a truly remarkable +26.5% in U.S.-dollar terms during the first half of
1998. Returns were cut a little--from +27.1% in local currencies--by a slight
rise in the dollar's value.
In the Pacific, Japan's recession and a renewed bout of currency weakness
hurt stock prices, especially in the smaller markets. While Japan's stocks were
off -2.5% in U.S.-dollar terms, declines exceeded 25% in Hong Kong, Malaysia,
Thailand, and Singapore--markets already depressed from tumbles taken in 1997.
Emerging markets were weak in Latin America (Brazil, -15.9%; Mexico, -22.2%) as
well as in Asia.
In the United States, the bull market in stocks continued during the
half-year, led by large-capitalization growth stocks. Stock prices wobbled at
times--the Standard & Poor's 500 Composite Stock Price Index dropped -1.9% on
April 27 alone as concerns mounted about Asia's economic woes--but the S&P 500
advanced in every month except May. On balance, the S&P 500 Index earned +17.7%,
an extraordinary gain for a six-month period.
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The International Value Portfolio acquitted itself well amid all the
uncertainty in the world's markets. It's +17.5% return was 1.4 percentage points
above the +16.1% earned by both the average international stock fund and the
EAFE Index. The advantage over our peers was especially noteworthy given that
the portfolio's stake in the ailing Japanese stock market was more than double
that of the average international fund.
The disciplined stock-selection process of our adviser, UBS International
Investment London, kept the portfolio out of some trouble spots (Latin America's
markets, for example) and produced a group of stocks that, on balance, performed
very well.
We also attribute part of our edge over competitors to our low operating
costs: Our annualized expense ratio of 0.51% of assets is more than a full
percentage point below the 1.67% expense ratio charged by the average
international stock fund. This cost advantage, which we expect to endure over
time, is like a steady tailwind in our pursuit of superior long-term returns.
IN SUMMARY
Both the rewards and risks of international stocks were evident during the first
half of 1998, demonstrating the soundness of the portfolio's diversified
approach to international investing. The risks of international stocks make them
appropriate, we believe, for only a portion of a U.S. investor's holdings.
However, we also believe that over the long term they offer the benefit of
additional diversification to investors who also hold domestic stock, bond, and
money market funds.
Once such diversified portfolios are constructed--in accordance with each
investor's particular time horizon, financial situation, and risk
tolerance--investors should be well positioned to "stay the course" toward their
long-term financial goals.
/s/ JOHN C. BOGLE /s/ JOHN J. BRENNAN
John C. Bogle John J. Brennan
Senior Chairman Chairman and
Chief Executive Officer
July 15, 1998
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NOTICE TO SHAREHOLDERS
At a special meeting on June 30, 1998, shareholders of Vanguard International
Value Portfolio overwhelmingly approved four proposals. The proposals and voting
results were:
1. REORGANIZATION INTO A DELAWARE BUSINESS TRUST. This change will reduce the
amount of state taxes paid each year by some Vanguard funds. Vanguard
International Value Portfolio will not realize any tax savings as a result of
the change, but it will benefit from the efficiency of being organized the same
way as other Vanguard funds. Approved by 97.96% of the shares voted, as follows:
<TABLE>
<CAPTION>
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FOR AGAINST ABSTAIN
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<S> <C> <C>
18,310,085 172,349 208,727
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</TABLE>
2a. INVESTMENT LIMITATION CHANGES--INTERFUND LENDING PROGRAM. This change
permits International Value Portfolio to participate in Vanguard's interfund
lending program, which allows funds to loan money to each other if--and only
if--it makes good financial sense to do so on both sides of the transaction. The
interfund lending program won't be an integral part of your fund's investment
program; it is a contingency arrangement for managing unusual cash flows.
Approved by 95.93% of the shares voted, as follows:
<TABLE>
<CAPTION>
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FOR AGAINST ABSTAIN
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<S> <C> <C>
17,930,425 394,240 366,495
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</TABLE>
2b. INVESTMENT LIMITATION CHANGES--BORROWING MONEY AND PLEDGING ASSETS. This
change sets standard limits of 15% of net assets on the amount of money Vanguard
funds can borrow from all sources and on the amount of assets that can be
pledged to secure any loans. Approved by 95.26% of the shares voted, as follows:
<TABLE>
<CAPTION>
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FOR AGAINST ABSTAIN
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<S> <C> <C>
17,804,820 474,238 412,103
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</TABLE>
2d. INVESTMENT LIMITATION CHANGES--INVESTMENTS IN UNSEASONED COMPANIES. This
change eliminates the portfolio's policy of not investing more than 5% of net
assets in securities issued by companies that have fewer than three years of
operating history, taking into account any predecessors. The policy was unduly
restrictive. Approved by 81.90% of the shares voted, as follows:
<TABLE>
<CAPTION>
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FOR AGAINST ABSTAIN
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<S> <C> <C>
15,308,604 2,908,424 474,133
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</TABLE>
3
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THE MARKETS IN PERSPECTIVE
Six Months Ended June 30, 1998
Blue skies predominated for U.S. financial markets during the first six months
of 1998, and even the occasional clouds had silver linings. The bond market
provided solid returns during the half-year, while the stock market's
performance was extraordinarily strong.
After expanding at a 5.4% annual pace during the first quarter, the U.S.
economy kept steaming along through June, fueled by powerful increases in
household spending. Consumers had reason to be upbeat: plentiful jobs
(unemployment fell to 4.3% of the workforce in May); rising wages (personal
income in May was 5.9% higher than in May 1997); and tame inflation (consumer
prices in June were up only 1.7% from a year before).
The economic push provided by consumers more than compensated for the drag
caused by Asia's severe economic problems. Weakening currencies and business
slowdowns in Asia cut into U.S. exports and lowered the cost of Asian imports,
causing the U.S. trade deficit to hit record levels. Ominously, Asia's problems
appear to be more serious and enduring than many economists expected. Yet for
Americans this "Asian contagion" has a bright side: It serves as an escape valve
for the inflationary pressures that ordinarily would be expected to build up
with the U.S. economy humming along at high speed.
<TABLE>
<CAPTION>
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TOTAL RETURNS
PERIODS ENDED JUNE 30, 1998
----------------------------------------
6 MONTHS 1 YEAR 5 YEARS*
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<S> <C> <C> <C>
EQUITY
S&P 500 Index 17.7% 30.2% 23.1%
Russell 2000 Index 4.9 16.5 16.0
MSCI EAFE Index 16.1 6.4 10.3
- ----------------------------------------------------------------------------------
FIXED-INCOME
Lehman Aggregate Bond Index 3.9% 10.5% 6.9%
Lehman 10-Year Municipal Bond Index 2.6 8.5 6.6
Salomon Brothers Three-Month
U.S. Treasury Bill Index 2.6 5.3 4.9
- ----------------------------------------------------------------------------------
OTHER
Consumer Price Index 1.1% 1.7% 2.5%
- ----------------------------------------------------------------------------------
</TABLE>
*Annualized.
U.S. EQUITY MARKETS
The mixture of robust economic growth and anemic inflation was a tonic for the
U.S. stock market. Although prices generally rose, there were striking
disparities in returns between large-capitalization and small-cap stocks and
between growth and value stocks. The large-cap-dominated S&P 500 earned 17.7%
during the six months, nearly double the 9.4% return on the rest of the market
(as measured by the Wilshire 4500 Index) and more than triple the 4.9% return on
the small-cap Russell 2000 Index. Within the S&P 500 Index, growth stocks were
up 23.1%, while value stocks rose 12.1%.
A decline in interest rates contributed to the stock market's rise, as
falling rates on bonds tend to make equities more attractive and to boost the
price investors will pay for each dollar of a stock's earnings or dividends. Yet
growth in earnings and dividends--the long-term underpinning of stock
prices--was unimpressive during the first half of 1998.
Corporate earnings estimates were reduced in June, the tenth consecutive
month in which securities analysts have cut their earnings estimates, according
to I/B/E/S International, a financial research group. Earnings by the S&P 500
companies were expected to
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rise by only about 2% for the first half of 1998, I/B/E/S reported. With gains
in prices outstripping increases in earnings and dividends, stock valuations are
at or near all-time highs, an indication that investors expect ideal conditions
to continue.
Technology stocks were the best-performing sector during the first half of
1998, generating a 32.7% return. Three other sectors of the stock market--health
care, consumer discretionary stocks such as retailers, and auto &
transportation--each provided returns of about 25% for the six months. Companies
involved in energy, chemicals, or other commodity-based businesses were
generally laggards. Prices of many commodities have declined as Asia's economic
funk cuts demand for energy and other industrial materials in the face of
plentiful supplies.
U.S. FIXED-INCOME MARKETS
Investors in fixed-income securities enjoyed a moderate rise in the market value
of their holdings because of declining interest rates. This price appreciation,
added to coupon interest income, resulted in solid total returns. The 3.9% total
return of the Lehman Aggregate Bond Index during the half-year brought its
return for the 12 months ended June 30 to 10.5%, or a very generous 8.8% after
adjustment for inflation.
Yields on 10-year and 30-year U.S. Treasury bonds declined by 29 basis
points (0.29 percentage point) to 5.45% and 5.63%, respectively, during the
first half of 1998, with most of the drop occurring during the second quarter.
The yield on 3-month Treasury bills declined 36 basis points to 4.99%. Mild
inflation--consumer prices were up 1.1% for the half-year--enabled rates to
decline despite the economy's strong growth.
Yields on corporate and municipal bonds did not decline as far as those on
Treasury securities because of a large increase in the supply of new bonds
issued by companies and municipalities taking advantage of lower rates to
refinance old debt. Similarly, mortgage-backed securities did not match
Treasuries' performance because of expectations that large numbers of homeowners
would pay off old, higher-coupon mortgage loans and refinance with new,
lower-rate loans.
INTERNATIONAL EQUITY MARKETS
Stock markets in Europe soared while those in Asia and most emerging economies
suffered steep declines in U.S.-dollar terms. The 16.1% overall return from
international markets, as measured by the Morgan Stanley Capital International
Europe, Australasia, Far East Index, masked the divergence between Europe and
other regions.
Europe's markets were up 27.1% when measured in local currencies and 26.5%
in U.S. dollars, after adjusting for a slight overall rise in the dollar's
value. Stocks benefited from an upswing in most European economies, from signs
that corporate managers are increasingly focused on shareholder value, and from
optimism concerning next year's planned adoption of the euro as a single
European currency.
In the Pacific, which is dominated by Japan's stock market, stocks were
buffeted by several problems: slowing growth in economic activity; continued
instability in currencies; political upheavals; and widespread worries about
corporate and banking insolvencies. On balance, the region's stocks fell 6.0% in
U.S.-dollar terms. Japanese stocks were down 2.5%, but losses were more severe
in the region's smaller markets.
Emerging markets were, on balance, down sharply. Asian stock markets were
hurt by continued weakness in the currency values of several countries, by
Japan's recession, and by a growing conviction that the region's economic
troubles are far from transitory. Venezuela and Mexico, both key oil-producing
nations, were hard hit by falling oil prices.
5
<PAGE> 8
REPORT FROM THE ADVISER
Vanguard International Value Portfolio provided a total return of 17.5% during
the first half of 1998. This exceeded the 16.1% return earned by both the MSCI
EAFE Index and the average international equity fund.
We believe that the best long-term returns are likely to be achieved by
buying good companies whose shares are selling below their intrinsic worth while
selling those companies that have seen their valuations rise too high. The surge
in European markets, particularly in continental Europe, over the last 18 months
and the concurrent decline of Japan and other Asian markets have presented us
with many opportunities to switch the portfolio's emphasis from Europe to Asia.
At the start of the year, our largest single-country "bet" versus the
Index was in France, where the portfolio held 15.9% of its equities compared
with the EAFE weighting of 8.0%. This reflected our view of prospects for
individual companies and the specific actions they are taking to improve their
profitability, rather than a view on the French market or economy. Many
companies we held epitomized the changes that were happening across Europe,
where managements, often under new leadership, have increased their emphasis on
improving the profitability of their businesses. The results of this change are
now becoming evident in reported earnings and have led to good stock
performance. This is a major factor in the returns of the portfolio's
continental European holdings, in particular our French stocks, many of which
are up more than 50% so far this year.
Asia, on the other hand, has had to confront the risk that it could
continue in a downward spiral. Many economies that over the last decade grew at
annual rates of 5% to 10% are facing the prospect of economic contraction. A
sell-off in the yen, prompted by concerns about the stability of the Japanese
financial system, has caused a further setback for Asia. The risk is that the
yen's weakness could precipitate a future round of currency depreciation
throughout Asia, perhaps even including China.
The turmoil in Asia may not appear to be a promising background for
investment. However, for an investor prepared to buy companies whose valuations
are depressed in the expectation that their prospects will eventually improve,
Asia today looks more attractive than at any time during the 1990s. When
exuberance was at its peak, we held little or nothing in most Asian countries.
Although we did not anticipate either the timing or the extent of the region's
economic collapse over the last 12 months, we were convinced that investors were
unrealistically bullish in their expectations. Now the reverse applies. For the
U.S.-dollar-based investor, the Japanese market has fallen more than 30% in the
last 12 months, while the other major markets in Asia have lost more than 50%.
As for emerging markets such as Indonesia, Korea, and Thailand, stock market
declines have been even worse.
During the six-month period under review, we raised our Japanese weighting
from neutral in relation to the Index to an overweight of about 4 percentage
points. We did so because as the year progressed, a number of European companies
achieved our price targets, whereas Japanese companies became cheaper.
6
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Our research has shown that within Japan the best investment opportunities are
companies that emphasize the domestic market rather than export markets. Stock
market sentiment toward these companies is at its lowest, and many of them are
underresearched. To cite one of our holdings, Mitsubishi Estate--a major owner
of central Tokyo real estate-sells at a discount to even conservative estimates
of the company's underlying asset value. Its land is valued on its books at
initial acquisition cost. Even in light of the collapse in Japanese real estate
values this decade, the land's true value is significantly understated.
Turning to the rest of Asia, we have started to take a more positive
attitude toward Hong Kong. Historically, investors had overly optimistic
expectations for Hong Kong's growth because of its unique relationship with
China, and they thus bid Hong Kong stocks to unrealistically high valuations.
With the effects of Asia's economic problems now apparent, share prices have
collapsed. After a careful reevaluation of the leading companies in Hong Kong,
using very cautious assumptions, we have concluded that some companies' share
prices have dropped far enough to make them attractive opportunities. We have
therefore raised our weighting in Hong Kong from zero to 1.2% of assets, a stake
almost in line with the EAFE Index weighting.
The portfolio's exposure to emerging Asian markets that are not in the
Index rose from 3.9% at year-end 1997 to 5.0% on June 30. Much of our buying
occurred in early January when confidence in these markets was very low. While
we do not wish to minimize the extent of the financial restructuring that will
be needed in these economies, we expect them to resume above-par growth before
too long. Given the indiscriminate selling that has hit the region's stocks, our
emphasis was on buying companies with sound core businesses, good management,
and relatively strong balance sheets.
To conclude, European markets have surged in the last 12 months and now
fully reflect the recovery in profits that is occurring because of corporate
restructuring and broad economic recovery. We have therefore started to take
profits on our European holdings. And, though economic prospects in Asia show no
immediate sign of improving, we feel this has largely been discounted by the
stock market, so we are purchasing quality Asian companies that satisfy our
value criteria.
Wilson Phillips, Portfolio Manager
Robin Apps, Portfolio Manager
UBS International Investment London Limited
July 10, 1998
INVESTMENT PHILOSOPHY
The portfolio reflects a belief that superior long-term investment results can
be achieved by investing in a diversified portfolio of international stocks that
are generally out of favor or undervalued by fundamental measures such as
price/earnings ratio or dividend yield.
7
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PORTFOLIO PROFILE
International Value Portfolio
This Profile provides a snapshot of the portfolio's characteristics as of June
30, 1998, compared where appropriate to an unmanaged index. Key elements of this
Profile are defined on page 9.
<TABLE>
<CAPTION>
PORTFOLIO CHARACTERISTICS
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INTERNATIONAL MSCI EAFE
VALUE
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<S> <C> <C>
Number of Stocks 151 1,107
Turnover Rate 25%* --
Expense Ratio 0.51%* --
Cash Reserves 5.2% --
</TABLE>
*Annualized.
<TABLE>
<CAPTION>
PORTFOLIO ALLOCATION BY REGION
- -------------------------------------------------
<S> <C>
EUROPE 62%
JAPAN 25%
PACIFIC (MINUS JAPAN) 8%
EMERGING MARKETS 5%
</TABLE>
<TABLE>
<CAPTION>
VOLATILITY MEASURES
- ----------------------------------------------------------------
INTERNATIONAL
VALUE MSCI EAFE
- ----------------------------------------------------------------
<S> <C> <C>
R-Squared 0.83 1.00
Beta 0.88 1.00
</TABLE>
<TABLE>
<CAPTION>
TEN LARGEST HOLDINGS (% OF TOTAL NET ASSETS)
- -------------------------------------------------
<S> <C>
Nestle SA (Registered) 4.7%
Bayer AG 4.4
Elf Aquitaine SA 3.2
Electrolux AB Series B 3.2
Volkswagen AG 3.0
Akzo Nobel NV 2.7
Allied Domecq PLC 2.6
BTR PLC 2.0
BG PLC 1.9
AXA-UAP SA 1.9
- -------------------------------------------------
Top Ten 29.6%
</TABLE>
Country Diversification (% of Common Stocks) can be found on page 10.
8
<PAGE> 11
BETA. A measure of the magnitude of a portfolio's past share-price fluctuations
in relation to the ups and downs of the overall market (or appropriate market
index). The market (or index) is assigned a beta of 1.00, so a portfolio with a
beta of 1.20 would have seen its share price rise or fall by 12% when the
overall market rose or fell by 10%.
CASH RESERVES. The percentage of a portfolio's net assets invested in "cash
equivalents"--highly liquid, short-term, interest-bearing securities. This
figure does not include cash invested in futures contracts to simulate stock
investment.
COUNTRY DIVERSIFICATION. The percentages of a portfolio's common stock invested
in securities of various countries.
EXPENSE RATIO. The percentage of a portfolio's average net assets used to pay
its annual administrative and advisory expenses. These expenses directly reduce
returns to investors.
NUMBER OF STOCKS. An indicator of diversification. The more stocks a portfolio
holds, the more diversified it is and the more likely to perform in line with
the overall stock market.
PORTFOLIO ALLOCATION BY REGION. This chart shows the geographic distribution of
a portfolio's holdings.
R-SQUARED. A measure of how much of a portfolio's past returns can be explained
by the returns from the overall market (or its benchmark index). If a
portfolio's total return were precisely synchronized with the overall market's
return, its R-squared would be 1.00. If a portfolio's returns bore no
relationship to the market's returns, its R-squared would be 0.
TEN LARGEST HOLDINGS. The percentage of net assets that a portfolio has invested
in its ten largest holdings. (The average for stock mutual funds is about 30%.)
As this percentage rises, a portfolio's returns are likely to be more volatile
because they are more dependent on the fortunes of a few companies.
TURNOVER RATE. An indication of trading activity during the period. Portfolios
with high turnover rates incur higher transaction costs and are more likely to
distribute capital gains (which are taxable to investors).
9
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<TABLE>
<CAPTION>
PORTFOLIO PROFILE (continued)
COUNTRY DIVERSIFICATION (% OF COMMON STOCKS)
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JUNE 30, 1997 JUNE 30, 1998
-------------------------------------------------
INTERNATIONAL INTERNATIONAL
VALUE VALUE MSCI EAFE
- --------------------------------------------------------------------------
<S> <C> <C> <C>
Australia ............... 6.8% 4.3% 2.3%
Austria ................. 0.0 0.0 0.4
Belgium ................. 0.0 0.0 1.8
Denmark ................. 1.8 1.6 1.0
Finland ................. 0.0 0.0 1.0
France .................. 17.0 14.5 9.6
Germany ................. 5.6 10.4 11.4
Greece .................. 0.0 0.4 0.0
Hong Kong ............... 0.0 1.2 1.7
Indonesia ............... 0.7 0.3 0.0
Ireland ................. 0.0 0.0 0.5
Italy ................... 1.7 1.5 4.6
Japan ................... 26.0 25.0 20.6
Malaysia ................ 0.3 0.1 0.5
Netherlands ............. 4.1 6.3 5.9
New Zealand ............. 1.0 0.6 0.2
Norway .................. 1.4 0.4 0.6
Philippines ............. 0.5 0.6 0.0
Portugal ................ 0.8 0.3 0.6
Singapore ............... 1.2 1.6 0.5
South Korea ............. 2.2 2.8 0.0
Spain ................... 0.9 0.0 3.3
Sweden .................. 5.3 5.9 3.2
Switzerland ............. 6.1 5.9 7.9
Thailand ................ 1.1 1.3 0.0
United Kingdom .......... 15.5 15.0 22.4
- --------------------------------------------------------------------------
Total 100.0% 100.0% 100.0%
</TABLE>
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PERFORMANCE SUMMARY
All of the data on this page represent past performance, which cannot be used to
predict future returns that may be achieved by the portfolio. Note, too, that
both share price and return can fluctuate widely, so an investment in the
portfolio could lose money.
<TABLE>
<CAPTION>
INTERNATIONAL VALUE PORTFOLIO
TOTAL INVESTMENT RETURNS: MAY 16, 1983-JUNE 30, 1998
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INTERNATIONAL VALUE PORTFOLIO MSCI EAFE
FISCAL CAPITAL INCOME TOTAL TOTAL
YEAR RETURN RETURN RETURN RETURN
- ----------------------------------------------------------------------
<S> <C> <C> <C> <C>
1983 4.0% 1.8% 5.8% 11.0%
1984 -4.9 4.1 -0.8 7.9
1985 36.1 4.2 40.3 56.7
1986 46.8 3.9 50.7 69.9
1987 22.1 1.8 23.9 24.9
1988 14.8 4.0 18.8 28.6
1989 22.8 3.2 26.0 10.8
1990 -15.1 2.8 -12.3 -23.2
1991 6.9% 3.1% 10.0% 12.5%
1992 -11.0 2.3 -8.7 -11.8
1993 27.0 3.5 30.5 32.9
1994 3.5 1.8 5.3 8.1
1995 7.0 2.6 9.6 11.6
1996 7.5 2.7 10.2 6.4
1997 -7.2 2.6 -4.6 2.1
1998* 17.4 0.1 17.5 16.1
- ----------------------------------------------------------------------
</TABLE>
*Six months ended June 30, 1998.
See Financial Highlights table on page 17 for dividend and capital gains
information for the past five years.
<TABLE>
<CAPTION>
AVERAGE ANNUAL TOTAL RETURNS: PERIODS ENDED JUNE 30, 1998
- ----------------------------------------------------------------------------------------------------
10 Years
Inception ---------------------------
Date 1 Year 5 Years Capital Income Total
- ----------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
International Value Portfolio 5/16/1983 -0.23% 9.57% 5.64% 2.59% 8.23%
- ----------------------------------------------------------------------------------------------------
</TABLE>
11
<PAGE> 14
FINANCIAL STATEMENTS
June 30, 1998 (unaudited)
STATEMENT OF NET ASSETS
This Statement provides a detailed list of the portfolio's holdings, including
each security's market value on the last day of the reporting period. Securities
are grouped and subtotaled by asset type (common stocks, bonds, etc.) and by
country. Other assets are added to, and liabilities are subtracted from, the
value of Total Investments to calculate the portfolio's Net Assets. Finally, Net
Assets are divided by the outstanding shares of the portfolio to arrive at its
share price, or Net Asset Value (NAV) Per Share.
At the end of the Statement of Net Assets, you will find a table
displaying the composition of the portfolio's net assets on both a dollar and
per-share basis. Because all income and any realized gains must be distributed
to shareholders each year, the bulk of net assets consists of Paid in Capital
(money invested by shareholders). The amounts shown for Undistributed Net
Investment Income and Accumulated Net Realized Gains usually approximate the
sums the portfolio had available to distribute to shareholders as income
dividends or capital gains as of the statement date, but may differ because
certain investments or transactions may be treated differently for financial
statement and tax purposes. Any Accumulated Net Realized Losses, and any
cumulative excess of distributions over net income or net realized gains, will
appear as negative balances. Unrealized Appreciation (Depreciation) is the
difference between the market value of the portfolio's investments and their
cost, and reflects the gains (losses) that would be realized if the portfolio
were to sell all of its investments at their statement-date values.
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------
MARKET
INTERNATIONAL VALUE*
VALUE PORTFOLIO SHARES (000)
- ----------------------------------------------------------------------
<S> <C> <C>
COMMON STOCKS (94.8%)
- ----------------------------------------------------------------------
AUSTRALIA (4.0%)
Australia & New Zealand
Bank Group Ltd. 641,000 $ 4,422
- - Burns Philp & Co., Ltd. 2,304,020 185
Coles Myer Ltd. 1,000,000 3,901
Foster's Brewing Group Ltd. 1,661,000 3,909
Goodman Fielder Ltd. 3,167,000 4,609
Mount Isa Mines Holdings Ltd. 12,148,873 5,868
Pacific Dunlop Ltd. 2,300,000 3,717
Pasminco Ltd. 5,883,000 4,481
WMC Ltd. 1,498,000 4,508
-----------
35,600
-----------
DENMARK (1.5%)
BG Bank A/S 69,310 4,293
Tele Danmark A/S B Shares 97,000 9,309
-----------
13,602
-----------
FRANCE (13.7%)
AXA-UAP SA 150,000 16,871
Alcatel Alsthom SA 30,535 6,217
Banque Nationale de Paris SA 172,871 14,125
Compagnie de Saint-Gobain SA 86,852 16,103
Elf Aquitaine SA 199,700 28,075
Esso SA 8,063 759
Groupe Danone SA 57,420 15,832
Lafarge SA 54,166 5,599
Societe National d'Exploitation
Industrielle de Tabacs et
Allumettes SA 104,213 4,723
Total SA B Shares 97,800 12,714
-----------
121,018
-----------
GERMANY (9.9%)
Bayer AG 745,030 38,551
Man AG 28,100 10,960
Schering AG 72,530 8,539
Varta AG 15,480 2,987
- - Volkswagen AG 26,923 25,998
-----------
87,035
-----------
GREECE (0.3%)
- - STET Hellas
Telecommunications SA ADR 73,664 3,057
-----------
HONG KONG (1.2%)
Hong Kong Land Holdings Ltd. 4,960,000 6,200
Sun Hung Kai Properties Ltd. 473,000 2,008
Wharf Holdings Ltd. 2,128,000 2,101
-----------
10,309
-----------
INDONESIA (0.3%)
PT Bank Dagang Nasional
Indonesia (Foreign) 3,100,998 16
PT Bank Internasional
Indonesia (Foreign) 23,408,000 474
PT Indah Kiat Pulp &
Paper Corp. 7,786,985 1,486
- - PT Indah Kiat Pulp &
Paper Corp. Warrants
Exp. 7/11/2002 96,504 11
- - PT Inti Indorayon Utama 545,000 20
PT Kalbe Farma 706,000 19
PT Pabrik Kertas Tjiwi Kimia 3,175,751 397
PT Unilever Indonesia 9,900 19
-----------
2,442
-----------
</TABLE>
12
<PAGE> 15
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------
MARKET
VALUE*
SHARES (000)
- ----------------------------------------------------------------------
<S> <C> <C>
ITALY (1.5%)
Ente Nazionale
Idrocarburi SpA 1,960,800 $ 12,774
-----------
JAPAN (23.5%)
Chugoku Electric
Power Co., Ltd. 184,100 2,650
Fuji Photo Film Co., Ltd. 100,000 3,480
Hitachi Ltd. 1,731,000 11,288
Hokkaido Electric
Power Co., Ltd. 68,400 957
Ishikawajima-Harima
Heavy Industries Co. 1,179,000 2,149
Itoham Foods, Inc. 333,000 1,440
JGC Corp. 698,000 1,705
Japan Tobacco, Inc. 537 3,633
Japan Wool Textile Co., Ltd. 326,000 1,550
Kajima Corp. 600,000 1,643
Kansai Paint Co., Ltd. 1,167,000 2,691
Koito Manufacturing Co., Ltd. 922,000 4,551
Kyudenko Corp. 172,000 1,125
Kyushu Electric
Power Co., Inc. 215,200 3,357
Marudai Food Co., Ltd. 897,000 2,081
Matsushita Electric
Industrial Co., Ltd. 670,000 10,766
Mitsubishi Chemical Corp. 3,387,000 6,126
Mitsubishi Estate Co., Ltd. 1,344,000 11,815
Mitsubishi Heavy
Industries Ltd. 1,150,000 4,342
Mitsubishi Materials Corp. 1,840,000 3,752
Nihon Cement Co., Ltd. 2,034,000 4,074
Nikko Securities Co., Ltd. 2,315,000 9,591
Nippon Yusen Kabushiki
Kaisha Co. 2,708,000 9,171
Nishimatsu Construction Co. 671,000 3,288
Nissan Fire & Marine
Insurance Co., Ltd. 1,154,000 3,966
Nisshin Oil Mills Ltd. 297,000 642
Nisshinbo Industries, Inc. 1,284,000 5,135
Okumura Corp. 300,000 1,053
Sakura Bank Ltd. 3,979,000 10,321
Sanwa International Trust
1.25% Cvt. Pfd. 82 1,812
Sekisui House Ltd. 335,000 2,595
Sharp Corp. 560,000 4,535
Sony Corp. 41,000 3,530
Sumitomo Forestry Co. 143,000 803
Sumitomo Marine &
Fire Insurance Co. 1,350,000 7,548
Tokyo Gas Co., Ltd. 3,367,000 7,497
Tokyo Steel Manufacturing Co. 725,000 3,730
Tokyu Construction Co., Ltd. 595,000 493
Toray Industries, Inc. 684,000 3,549
Tostem Corp. 721,000 9,341
Toyo Seikan Kaisha Ltd. 597,000 7,313
Uny Co., Ltd. 180,000 2,918
West Japan Railway Co. 2,908 10,540
Yamaha Motor Co., Ltd. 919,000 5,761
Yamanouchi
Pharmaceuticals Co., Ltd. 322,000 6,705
-----------
207,012
-----------
MALAYSIA (0.1%)
Hong Leong Industries Bhd. 417,200 310
Malaysia International
Shipping Corp., Bhd. (Foreign) 530,666 774
-----------
1,084
-----------
NETHERLANDS (6.0%)
- - Akzo Nobel NV 106,400 23,652
ING Groep NV 151,099 9,894
Koninklijke KNP BT NV 376,838 11,334
Philips Electronics NV 52,150 4,384
TNT Groep 126,838 3,242
-----------
52,506
-----------
NEW ZEALAND (0.6%)
Brierley Investments Ltd. 2,736,300 1,364
Fletcher Challenge Ltd. Forest 18,168 10
Fletcher Challenge Ltd. Paper 454,200 505
Lion Nathan Ltd. 1,516,100 3,368
-----------
5,247
-----------
NORWAY (0.3%)
Den Norske Bank ASA 586,900 3,075
-----------
PHILIPPINES (0.6%)
- - EEI Corp. 4,435,000 119
JG Summit Holdings Inc.
Class B 3,226,000 139
Metropolitan Bank & Trust Co. 1,266 7
- - Philex Mining Corp. Class B 5,710,500 103
Philippine Long Distance
Telephone Co. 86,000 1,959
San Miguel Corp. Class B 2,046,500 2,699
-----------
5,026
-----------
PORTUGAL (0.3%)
Electricidade de Portugal SA 100,000 2,325
-----------
SINGAPORE (1.6%)
Dairy Farm International
Holdings Ltd. 1,585,740 1,697
Development Bank of
Singapore Ltd. (Foreign) 624,000 3,453
Jardine Strategic Holdings Ltd. 651,000 1,237
Keppel Corp., Ltd. 4,320,250 6,495
United Overseas Land Ltd. 1,500,000 808
-----------
13,690
-----------
SOUTH KOREA (2.7%)
Housing & Commercial Bank 21,781 73
Hyundai Motor Co., Ltd. 263,710 2,670
- - Hyundai Motor Co., Ltd. GDR 380,000 688
- - Kookmin Bank 960,626 3,568
Korea Electric Power Corp. 396,100 4,226
- - Korean Air Co. 174,450 450
LG Chemical Ltd. 200,000 1,107
Pohang Iron & Steel Co., Ltd. 840 28
SK Corp. 435,300 2,663
</TABLE>
13
<PAGE> 16
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------
MARKET
INTERNATIONAL VALUE*
VALUE PORTFOLIO SHARES (000)
- ----------------------------------------------------------------------
<S> <C> <C>
SK Telecom Co. 9,558 4,469
Samsung Electronics Co., Ltd. 1,111 34
- - Samsung Heavy Industries Co. 101,580 507
- - Shinhan Bank Co. 901,882 2,995
-----------
23,478
-----------
SWEDEN (5.6%)
Astra AB A Shares 433,200 8,854
Electrolux AB Series B 1,628,475 27,975
Forenings Sparbanken AB 130,000 3,912
Mandamus Fastigheter AB 6,500 41
Stora Kopparbergs Berglags
AB A Shares 550,000 8,655
-----------
49,437
-----------
SWITZERLAND (5.6%)
Nestle SA (Registered) 19,170 41,024
Schindler Holding AG (Ptg. Ctf.) 5,530 8,422
-----------
49,446
-----------
THAILAND (1.2%)
Bangkok Bank PLC (Foreign) 2,528,700 3,109
- - Italian-Thai Development PLC
(Foreign) 151,400 77
Shinawatra Computer &
Communications PLC (Foreign) 898,200 3,270
- - Siam Pulp & Paper PLC (Foreign) 251,100 172
- - TPI Polene PLC (Foreign) 91,875 7
- - TelecomAsia PLC (Foreign) 3,375,000 977
Thai Farmers Bank PLC
(Foreign) 3,340,000 2,941
Thai Military Bank PLC (Foreign) 816,349 100
Thai Plastic & Chemical PLC
(Foreign) 187,850 349
- - Thai Telephone &
Telecommunication PLC
(Foreign) 140,625 18
-----------
11,020
-----------
UNITED KINGDOM (14.3%)
Allied Domecq PLC 2,464,800 23,153
B.A.T. (British American
Tobacco) Industries PLC 1,479,143 14,808
BG PLC 2,922,000 16,893
BTR PLC 6,227,580 17,664
Coats Viyella PLC 1,734,500 2,127
MEPC PLC 1,500,000 13,189
Marley PLC 3,500,000 6,307
Peninsular & Oriental Steam
Navigation Co. 118,197 1,702
Safeway PLC 1,160,651 7,601
Smith & Nephew PLC 1,138,650 2,840
Tarmac PLC 2,717,401 4,851
United Biscuits Holdings PLC 2,613,000 10,464
United Utilities PLC 269,580 3,920
-----------
125,519
-----------
- ----------------------------------------------------------------------
TOTAL COMMON STOCKS
(COST $837,209) 834,702
- ----------------------------------------------------------------------
- ----------------------------------------------------------------------
Face Market
Amount Value*
(000) (000)
- ----------------------------------------------------------------------
TEMPORARY CASH INVESTMENTS (21.7%)
- ----------------------------------------------------------------------
REPURCHASE AGREEMENTS
Collateralized by U.S. Government
Obligations in a Pooled
Cash Account
5.67%, 7/1/1998 $ 44,752 $ 44,752
5.76%, 7/1/1998--Note F 146,430 146,430
- ----------------------------------------------------------------------
TOTAL TEMPORARY CASH INVESTMENTS
(COST $191,182) 191,182
- ----------------------------------------------------------------------
TOTAL INVESTMENTS (116.5%)
(COST $1,028,391) 1,025,884
- ----------------------------------------------------------------------
OTHER ASSETS AND LIABILITIES (-16.5%)
- ----------------------------------------------------------------------
Other Assets--Note C 7,654
Security Lending Collateral
Payable to Brokers--Note F (146,430)
Other Liabilities (6,941)
-----------
(145,717)
- ----------------------------------------------------------------------
NET ASSETS (100%)
- ----------------------------------------------------------------------
Applicable to 33,620,857 outstanding
.001 par value shares of beneficial interest
(unlimited authorization) $880,167
======================================================================
NET ASSET VALUE PER SHARE $26.18
======================================================================
</TABLE>
*See Note A in Notes to Financial Statements.
- -Non-Income-Producing Security.
ADR--American Depositary Receipt.
GDR--Global Depositary Receipt.
(Ptg. Ctf.)--Participating Certificate.
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------
AT JUNE 30, 1998, NET ASSETS CONSISTED OF:
- ----------------------------------------------------------------------
AMOUNT PER
(000) SHARE
- ----------------------------------------------------------------------
<S> <C> <C>
Paid in Capital $847,779 $25.20
Undistributed Net Investment
Income--Note D 9,648 .29
Accumulated Net Realized
Gains--Note D 25,403 .76
Unrealized Depreciation--Note E
Investment Securities (2,507) (.07)
Foreign Currencies (156) --
- ----------------------------------------------------------------------
NET ASSETS $880,167 $26.18
======================================================================
</TABLE>
14
<PAGE> 17
STATEMENT OF OPERATIONS
This Statement shows dividend and interest income earned by the portfolio during
the reporting period, and details the operating expenses charged to the
portfolio. These expenses directly reduce the amount of investment income
available to pay to shareholders as dividends. This Statement also shows any Net
Gain (Loss) realized on the sale of investments, and the increase or decrease in
the Unrealized Appreciation (Depreciation) on investments during the
period--these amounts include the effect of foreign currency movements on the
value of the portfolio's securities. Currency gains (losses) on the translation
of other assets and liabilities, combined with the results of any investments in
forward currency contracts during the period, are shown separately.
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
INTERNATIONAL VALUE PORTFOLIO
SIX MONTHS ENDED JUNE 30, 1998
(000)
- --------------------------------------------------------------------------------
<S> <C>
INVESTMENT INCOME
INCOME
Dividends* $ 12,561
Interest 1,218
-------------
Total Income 13,779
-------------
EXPENSES
Investment Advisory Fees--Note B
Basic Fee 690
Performance Adjustment (179)
The Vanguard Group--Note C
Management and Administrative 1,206
Marketing and Distribution 107
Custodian Fees 363
Auditing Fees 4
Shareholders' Reports 17
Annual Meeting and Proxy Costs 4
Trustees' Fees and Expenses 1
-------------
Total Expenses 2,213
- --------------------------------------------------------------------------------
NET INVESTMENT INCOME 11,566
- --------------------------------------------------------------------------------
REALIZED NET GAIN (LOSS)
Investment Securities Sold 25,742
Foreign Currencies (1,469)
- --------------------------------------------------------------------------------
REALIZED NET GAIN 24,273
- --------------------------------------------------------------------------------
CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION)
Investment Securities 96,531
Foreign Currencies 72
- --------------------------------------------------------------------------------
CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION) 96,603
- --------------------------------------------------------------------------------
NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS $132,442
================================================================================
</TABLE>
*Dividends are net of foreign withholding taxes of $1,392,000.
15
<PAGE> 18
STATEMENT OF CHANGES IN NET ASSETS
This Statement shows how the portfolio's total net assets changed during the two
most recent reporting periods. The Operations section summarizes information
detailed in the Statement of Operations. The amounts shown as Distributions to
shareholders from the portfolio's net income and capital gains may not match the
amounts shown in the Operations section, because distributions are determined on
a tax basis and may be made in a period different from the one in which the
income was earned or the gains were realized on the financial statements. The
Capital Share Transactions section shows the amount shareholders invested in the
portfolio, either by purchasing shares or by reinvesting distributions, as well
as the amounts redeemed. The corresponding numbers of Shares Issued and Redeemed
are shown at the end of the Statement.
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------------
INTERNATIONAL VALUE PORTFOLIO
--------------------------------------
SIX MONTHS YEAR
ENDED ENDED
JUN. 30, 1998 DEC. 31, 1997
(000) (000)
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
INCREASE (DECREASE) IN NET ASSETS
OPERATIONS
Net Investment Income $ 11,566 $ 21,259
Realized Net Gain 24,273 83,733
Change in Unrealized Appreciation (Depreciation) 96,603 (141,401)
--------------------------------------
Net Increase (Decrease) in Net Assets Resulting from Operations 132,442 (36,409)
--------------------------------------
DISTRIBUTIONS
Net Investment Income (334) (21,269)
Realized Capital Gain (14,196) (91,909)
--------------------------------------
Total Distributions (14,530) (113,178)
--------------------------------------
CAPITAL SHARE TRANSACTIONS(1)
Issued 132,804 208,395
Issued in Lieu of Cash Distributions 13,682 105,942
Redeemed (160,993) (304,542)
--------------------------------------
Net Increase (Decrease) from Capital Share Transactions (14,507) 9,795
- ----------------------------------------------------------------------------------------------------------------------
Total Increase (Decrease) 103,405 (139,792)
- ----------------------------------------------------------------------------------------------------------------------
NET ASSETS
Beginning of Period 776,762 916,554
--------------------------------------
End of Period $880,167 $776,762
======================================================================================================================
(1)Shares Issued (Redeemed)
Issued 5,170 7,512
Issued in Lieu of Cash Distributions 509 4,564
Redeemed (6,362) (11,052)
--------------------------------------
Net Increase (Decrease) in Shares Outstanding (683) 1,024
======================================================================================================================
</TABLE>
16
<PAGE> 19
FINANCIAL HIGHLIGHTS
This table summarizes the portfolio's investment results and distributions to
shareholders on a per-share basis. It also presents the portfolio's Total Return
and shows net investment income and expenses as percentages of average net
assets. These data will help you assess: the variability of the portfolio's net
income and total returns from year to year; the relative contributions of net
income and capital gains to the portfolio's total return; how much it costs to
operate the portfolio; and the extent to which the portfolio tends to distribute
capital gains. The table also shows the Portfolio Turnover Rate, a measure of
trading activity. A turnover rate of 100% means that the average security is
held in the portfolio for one year.
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------------
INTERNATIONAL VALUE PORTFOLIO
YEAR ENDED DECEMBER 31,
FOR A SHARE OUTSTANDING SIX MONTHS ENDED ---------------------------------------------------------
THROUGHOUT EACH PERIOD JUNE 30, 1998 1997 1996 1995 1994 1993
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD $22.64 $27.54 $31.11 $31.48 $31.04 $24.44
- -------------------------------------------------------------------------------------------------------------------------
INVESTMENT OPERATIONS
Net Investment Income .34 .690 .82 .750 .55 .50
Net Realized and Unrealized Gain (Loss)
on Investments 3.63 (1.945) 2.20 2.185 1.08 6.91
-----------------------------------------------------------------------
Total from Investment Operations 3.97 (1.255) 3.02 2.935 1.63 7.41
-----------------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment Income (.01) (.690) (.82) (.790) (.56) (.81)
Distributions from Realized Capital Gains (.42) (2.955) (5.77) (2.515) (.63) --
-----------------------------------------------------------------------
Total Distributions (.43) (3.645) (6.59) (3.305) (1.19) (.81)
- -------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD $26.18 $22.64 $27.54 $31.11 $31.48 $31.04
=========================================================================================================================
TOTAL RETURN 17.49% -4.58% 10.22% 9.65% 5.25% 30.49%
=========================================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Period (Millions) $880 $777 $917 $988 $1,053 $982
Ratio of Total Expenses to
Average Net Assets 0.51%* 0.49% 0.50% 0.47% 0.34% 0.40%
Ratio of Net Investment Income to
Average Net Assets 2.68%* 2.36% 2.50% 2.29% 1.71% 1.76%
Portfolio Turnover Rate 25%* 37% 82% 47% 40% 39%
- -------------------------------------------------------------------------------------------------------------------------
</TABLE>
*Annualized.
17
<PAGE> 20
NOTES TO FINANCIAL STATEMENTS
Vanguard International Value Portfolio is registered under the Investment
Company Act of 1940 as a diversified open-end investment company, or mutual
fund. The portfolio invests in securities of foreign issuers, which may subject
it to investment risks not normally associated with investing in securities of
United States corporations.
A. The following significant accounting policies conform to generally accepted
accounting principles for mutual funds. The portfolio consistently follows such
policies in preparing its financial statements.
1. SECURITY VALUATION: Equity securities are valued at the latest quoted
sales prices as of the close of trading on the New York Stock Exchange
(generally 4:00 p.m. Eastern time) on the valuation date; such securities not
traded on the valuation date are valued at the mean of the latest quoted bid and
asked prices. Prices are taken from the primary market in which each security
trades. Temporary cash investments are valued at cost, which approximates market
value. Securities for which market quotations are not readily available are
valued by methods deemed by the Board of Trustees to represent fair value.
2. FOREIGN CURRENCY: Securities and other assets and liabilities
denominated in foreign currencies are translated into U.S. dollars at the
exchange rate on the valuation date as employed by Morgan Stanley Capital
International in the calculation of its indexes.
Realized gains (losses) and unrealized appreciation (depreciation) on
investment securities include the effects of changes in exchange rates since the
securities were purchased, combined with the effects of changes in security
prices. Fluctuations in the value of other assets and liabilities resulting from
changes in exchange rates are recorded as unrealized foreign currency gains
(losses) until the asset or liability is settled in cash, when they are recorded
as realized foreign currency gains (losses).
3. FEDERAL INCOME TAXES: The portfolio intends to continue to qualify as a
regulated investment company and distribute all of its taxable income.
Accordingly, no provision for federal income taxes is required in the financial
statements.
4. REPURCHASE AGREEMENTS: The portfolio, along with other members of The
Vanguard Group, transfers uninvested cash balances to a Pooled Cash Account,
which is invested in repurchase agreements secured by U.S. government
securities. Securities pledged as collateral for repurchase agreements are held
by a custodian bank until the agreements mature. Each agreement requires that
the market value of the collateral be sufficient to cover payments of interest
and principal; however, in the event of default or bankruptcy by the other party
to the agreement, retention of the collateral may be subject to legal
proceedings.
5. DISTRIBUTIONS: Distributions to shareholders are recorded on the
ex-dividend date. Distributions are determined on a tax basis and may differ
from net investment income and realized capital gains for financial reporting
purposes.
6. OTHER: Dividend income is recorded on the ex-dividend date. Security
transactions are accounted for on the date securities are bought or sold. Costs
used to determine realized gains (losses) on the sale of investment securities
are those of the specific securities sold.
B. UBS International Investment London Ltd. provides investment advisory
services to the portfolio for a fee calculated at an annual percentage rate of
average net assets. The basic advisory fee is subject to quarterly adjustments
based on performance relative to the Morgan Stanley Capital International
Europe, Australasia, Far East Index. For the six months ended June 30, 1998, the
advisory fee represented an effective annual basic rate of 0.16% of the
portfolio's average net assets, before a decrease of $179,000 (0.04%) based on
performance.
C. The Vanguard Group furnishes at cost corporate management, administrative,
marketing, and distribution services. The costs of such services are allocated
to the portfolio under methods approved by the Board of Trustees. At June 30,
1998, the portfolio had contributed capital of $175,000 to
18
<PAGE> 21
Vanguard (included in Other Assets), representing 0.3% of Vanguard's
capitalization. The portfolio's Trustees and officers are also Directors and
officers of Vanguard.
D. During the six months ended June 30, 1998, the portfolio purchased
$102,472,000 of investment securities and sold $156,942,000 of investment
securities, other than temporary cash investments.
During the six months ended June 30, 1998, the portfolio realized net
foreign currency losses of $1,469,000, which decreased distributable net income
for tax purposes; accordingly, such losses have been reclassified from
accumulated net realized gains to undistributed net investment income.
E. At June 30, 1998, net unrealized depreciation of investment securities for
financial reporting and federal income tax purposes was $2,507,000, consisting
of unrealized gains of $195,097,000 on securities that had risen in value since
their purchase and $197,604,000 in unrealized losses on securities that had
fallen in value since their purchase.
The portfolio had net unrealized foreign currency losses of $156,000
resulting from the translation of other assets and liabilities at June 30, 1998.
F. The market value of securities on loan to brokers/dealers at June 30, 1998,
was $137,098,000, for which the portfolio held cash collateral of $146,430,000.
Cash collateral received is invested in repurchase agreements.
19
<PAGE> 22
TRUSTEES AND OFFICERS
JOHN C. BOGLE
Senior Chairman of the Board and Director of The Vanguard Group, Inc., and of
each of the investment companies in The Vanguard Group.
JOHN J. BRENNAN
Chairman, Chief Executive Officer, and Director of The Vanguard Group, Inc., and
of each of the investment companies in The Vanguard Group.
BARBARA BARNES HAUPTFUHRER
Director of The Great Atlantic and Pacific Tea Co., IKON Office Solutions, Inc.,
Raytheon Co., Knight-Ridder, Inc., Massachusetts Mutual Life Insurance Co., and
Ladies Professional Golf Association; Trustee Emerita of Wellesley College.
BRUCE K. MacLAURY
President Emeritus of The Brookings Institution; Director of American Express
Bank Ltd., The St. Paul Companies, Inc., and National Steel Corp.
BURTON G. MALKIEL
Chemical Bank Chairman's Professor of Economics, Princeton University; Director
of Prudential Insurance Co. of America, Amdahl Corp., Baker Fentress & Co., The
Jeffrey Co., and Southern New England Telecommunications Co.
ALFRED M. RANKIN, JR.
Chairman, President, and Chief Executive Officer of NACCO Industries, Inc.;
Director of NACCO Industries, The BFGoodrich Co., and The Standard Products Co.
JOHN C. SAWHILL
President and Chief Executive Officer of The Nature Conservancy; formerly,
Director and Senior Partner of McKinsey & Co. and President of New York
University; Director of Pacific Gas and Electric Co., Procter & Gamble Co., and
NACCO Industries.
JAMES O. WELCH, JR.
Retired Chairman of Nabisco Brands, Inc.; retired Vice Chairman and Director of
RJR Nabisco; Director of TECO Energy, Inc., and Kmart Corp.
J. LAWRENCE WILSON
Chairman and Chief Executive Officer of Rohm & Haas Co.; Director of Cummins
Engine Co. and The Mead Corp.; Trustee of Vanderbilt University.
OTHER FUND OFFICERS
RAYMOND J. KLAPINSKY
Secretary; Managing Director and Secretary of The Vanguard Group, Inc.;
Secretary of each of the investment companies in The Vanguard Group.
RICHARD F. HYLAND
Treasurer; Principal of The Vanguard Group, Inc.; Treasurer of each of the
investment companies in The Vanguard Group.
KAREN E. WEST
Controller; Principal of The Vanguard Group, Inc.; Controller of each of the
investment companies in The Vanguard Group.
OTHER VANGUARD OFFICERS
R. GREGORY BARTON
Managing Director, Legal Department.
ROBERT A. DiSTEFANO
Managing Director, Information Technology.
JAMES H. GATELY
Managing Director, Individual Investor Group.
KATHLEEN C. GUBANICH
Managing Director, Human Resources.
IAN A. MacKINNON
Managing Director, Fixed Income Group.
F. WILLIAM McNABB, III
Managing Director, Institutional Investor Group.
MICHAEL S. MILLER
Managing Director, Planning and Development.
RALPH K. PACKARD
Managing Director and Chief Financial Officer.
GEORGE U. SAUTER
Managing Director, Core Management Group.
"STANDARD & POOR'S(R)," "S&P(R)," "S&P 500(R)," "STANDARD & POOR'S 500," AND
"500" ARE TRADEMARKS OF THE MCGRAW-HILL COMPANIES, INC. FRANK RUSSELL
COMPANY IS THE OWNER OF TRADEMARKS AND COPYRIGHTS RELATING TO THE
RUSSELL INDEXES. "WILSHIRE 4500" AND "WILSHIRE 5000" ARE
TRADEMARKS OF WILSHIRE ASSOCIATES.
<PAGE> 23
VANGUARD FAMILY OF FUNDS
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Fixed Income Securities Fund
GNMA Portfolio
High Yield Corporate Portfolio
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Treasury Portfolio
Long-Term Corporate
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Short-Term Corporate
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Municipal Bond Fund
High-Yield Portfolio
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BALANCED FUNDS
Asset Allocation Fund
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Portfolio
LifeStrategy Portfolios
Conservative Growth
Portfolio
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STAR Portfolio
Tax-Managed Fund
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Wellesley Income Fund
Wellington Fund
Q462-6/1998
(C) 1998 Vanguard Marketing
Corporation, Distributor.
All rights reserved.
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