Table of Contents
USAA Family of Funds 1
Message from the President 2
Investment Review:
USAA California Bond Fund 4
USAA California Money Market Fund 10
Financial Information:
Independent Auditors' Report 13
Statements of Assets and Liabilities 14
Portfolios of Investments in Securities:
USAA California Bond Fund 16
USAA California Money Market Fund 21
Notes to Portfolios of Investments in Securities 26
Statements of Operations 27
Statements of Changes in Net Assets 28
Notes to Financial Statements 29
Important Information
Through our ongoing efforts to reduce expenses and respond to shareholder
requests, your annual and semiannual report mailings are "streamlined." One copy
of each report is sent to each address, rather than to every registered owner.
For many shareholders and their families, this eliminates duplicate copies,
saving paper and postage costs to the Fund.
If you are the primary shareholder on at least one account, prefer not to
participate in streamlining, and would like to continue receiving one report per
registered account owner, you may request this in writing to:
USAA Investment Management Company
Attn: Report Mail
9800 Fredericksburg Road
San Antonio, TX 78284-8916
or phone a Mutual Fund Representative at 1-800-531-8448 during business hours.
This report is for the information of the shareholders and others who have
received a copy of the currently effective prospectus of the USAA California
Funds, managed by USAA Investment Management Company (IMCO). It may be used as
sales literature only when preceded or accompanied by a current prospectus which
gives further details about the Fund.
USAA with the eagle is registered in the U.S. Patent & Trademark Office.
(Copyright)1998, USAA. All rights reserved.
USAA Family of Funds Summary
Fund Minimum
Type/Name Volatility Investment*
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CAPITAL APPRECIATION
===================================================================
Aggressive Growth Very high $3,000
Emerging Markets(1) Very high $3,000
USAA First Start Growth Moderate to high $3,000
Gold(1) Very high $3,000
Growth Moderate to high $3,000
Growth & Income Moderate $3,000
International(1) Moderate to high $3,000
S&P 500 Index(2) Moderate $3,000
Science & Technology(5) Very high $3,000
World Growth(1) Moderate to high $3,000
ASSET ALLOCATION
====================================================================
Balanced Strategy(1) Moderate $3,000
Cornerstone Strategy(1) Moderate $3,000
Growth and Tax
Strategy(3) Moderate $3,000
Growth Strategy(1) Moderate to high $3,000
Income Strategy Low to moderate $3,000
INCOME -TAXABLE
====================================================================
GNMA Low to moderate $3,000
Income Moderate $3,000
Income Stock Moderate $3,000
Short-Term Bond Low $3,000
INCOME - TAX EXEMPT
====================================================================
Long-Term(3) Moderate $3,000
Intermediate-Term(3) Low to moderate $3,000
Short-Term(3) Low $3,000
State Bond Income(3)** Moderate $3,000
MONEY MARKET
====================================================================
Money Market(4) Very low $3,000
Tax Exempt
Money Market(3),(4) Very low $3,000
Treasury Money
Market Trust(4) Very low $3,000
State Money Market(3),(4)** Very low $3,000
(1) Foreign investing is subject to additional risks, which are discussed in
the funds' prospectuses.
(2) S&P 500(Registered Trademark) is a trademark of The McGraw-Hill Companies,
Inc. and has been licensed for use. The Product is not sponsored, sold or
promoted by Standard & Poor's, and Standard & Poor's makes no
representation regarding the advisability of investing in the Product.
(3) Some income may be subject to state or local taxes or the federal
alternative minimum tax.
(4) An investment in a money market fund is neither insured nor guaranteed by
the U.S. Government, and there is no assurance that any of the funds will
be able to maintain a stable net asset value of $1 per share.
(5) This Fund may be more volatile than a fund that diversifies across many
industries.
* The InveStart(Registered Trademark) program is available for investors
without the $3,000 initial investment required to open an IMCO mutual fund
account. A mutual fund account can be opened with no initial investment if
you elect to have monthly automatic investments of at least $50 from a bank
account. InveStart is not available on tax-exempt funds or the S&P 500
Index Fund. The minimum initial investment for IRAs is $250, except for the
$2,000 minimum required for the S&P 500 Index Fund. IRAs are not available
for tax-exempt funds. The Growth and Tax Strategy Fund is not available as
an investment for your IRA because the majority of its income is tax
exempt.
** California, Florida, New York, Texas, and Virginia funds available to
residents only.
Non-deposit investment products are not insured by the FDIC, are not deposits or
other obligations of, or guaranteed by, USAA Federal Savings Bank, and are
subject to investment risks, and may lose value.
For more complete information about the mutual funds managed and distributed by
USAA IMCO, including charges and expenses, please call 1-800-531-8181 for a
prospectus. Read it carefully before you invest.
Message from the President
In the last few years I have turned my attention more and more to the
subject of tax-efficient investing. Though a few fund companies
are beginning to write about this subject, it remains off the beaten
track of mutual fund investing. But I believe it is of great importance.
[PHOTOGRAPH OF PRESIDENT: MICHAEL J.C. ROTH, CFA APPEARS HERE]
Just recently a close friend whom I have advised for years asked me, "Will my
tax bracket be lower when I retire?" I told him, "No. I will not permit that." I
believe that much financial planning makes an invalid assumption that a
retiree's tax bracket will fall substantially when retirement comes. But it is
quite possible for a person whose income is in a high tax bracket to build an
estate that will sustain that bracket upon retirement. If that occurs,
tax-efficient investing can be very important.
For a mutual fund investor that means maximizing potential tax-exempt income and
long-term capital gains. Unfortunately all of the distributions from IRAs,
401(k)s, and variable annuities will be taxed as ordinary income. But a
non-sheltered portfolio of index funds or efficiently run equity portfolios can
be harvested principally as long-term capital gains at a 20% tax rate. And an
accompanying investment in tax-exempt funds may provide the fixed-income buffer
to stock market risk along with the potential for significant tax-exempt
returns. Such a non-sheltered portfolio may be a valuable addition to an
individual's investment plan and may provide valuable assistance while you live
through your retirement.
Much of the attention of financial planners is concentrated on preparing for
retirement. You must not overlook the fact that you have a good possibility of
enjoying decades of reward for your good planning after you retire.
Sincerely,
Michael J.C. Roth, CFA
President and
Vice Chairman of the Board
For more information about mutual funds managed and distributed by USAA IMCO,
including charges and expenses, please call for a prospectus. Read it carefully
before investing.
Investment Review
USAA CALIFORNIA BOND FUND
OBJECTIVE: Provide California investors with a high level of current interest
income that is exempt from federal and California state income taxes.
TYPES OF INVESTMENTS: Invests primarily in long-term investment grade California
tax-exempt securities.
- -----------------------------------------------------------------------------
3/31/97 3/31/98
=============================================================================
Net Assets $440.2 Million $533.7 Million
Net Asset Value Per Share $10.50 $11.17
- -----------------------------------------------------------------------------
- -----------------------------------------------------------------------------
AVERAGE ANNUAL TOTAL RETURNS AND 30-DAY SEC YIELD* AS OF 3/31/98
=============================================================================
1 Year 5 Years Since Inception on 8/1/89 30-Day SEC Yield
12.33% 7.02% 7.88% 4.53%
- -----------------------------------------------------------------------------
* Calculated as prescribed by the Securities and Exchange Commission.
Total return equals income return plus share price change and assumes
reinvestment of all dividends and capital gain distributions. No adjustment has
been made for taxes payable by shareholders on their reinvested dividends and
capital gain distributions. The performance data quoted represent past
performance and are not an indication of future results. Investment return and
principal value of an investment will fluctuate, and an investor's shares, when
redeemed, may be worth more or less than their original cost.
- ----------------------------------
CUMULATIVE PERFORMANCE COMPARISON
- ----------------------------------
A chart in the form of a line graph appears here, comparing the cumulative
performance of a $10,000 Investment for the USAA California Bond Fund, Lehman
Brothers Municipal Bond Index and the Lipper California Municipal Debt Funds
Average. The data points from the graph are as follows:
USAA California Bond Fund
Year Amount
- -------- -------
08/01/89 $10,000
08/31/89 $ 9,823
02/28/90 $10,160
08/31/90 $10,391
02/28/91 $11,155
08/31/91 $11,686
02/29/92 $12,193
08/31/92 $12,842
02/28/93 $13,891
08/31/93 $14,575
02/28/94 $14,639
08/31/94 $14,233
02/28/95 $14,649
08/31/95 $15,371
02/29/96 $16,382
08/31/96 $16,557
02/28/97 $17,472
08/31/97 $18,231
02/28/98 $19,279
03/31/98 $19,316
Lehman Brothers Municipal Bond Index
Year Amount
- ---- ------
08/01/89 $10,000
08/31/89 $ 9,902
02/28/90 $10,294
08/31/90 $10,538
02/28/91 $11,243
08/31/91 $11,780
02/29/92 $12,366
08/31/92 $13,095
02/28/93 $14,068
08/31/93 $14,693
02/28/94 $14,847
08/31/94 $14,714
02/28/95 $15,127
08/31/95 $16,018
02/29/96 $16,798
08/31/96 $16,857
02/28/97 $17,723
08/31/97 $18,416
02/28/98 $19,343
03/31/98 $19,360
Lipper California Municipal Debt Funds Average
Year Amount
- ---- ------
08/01/89 $10,000
08/31/89 $ 9,883
02/28/90 $10,210
08/31/90 $10,386
02/28/91 $11,022
08/31/91 $11,551
02/29/92 $12,061
08/31/92 $12,756
02/28/93 $13,740
08/31/93 $14,369
02/28/94 $14,495
08/31/94 $14,191
02/28/95 $14,555
08/31/95 $15,209
02/29/96 $16,085
08/31/96 $16,090
02/28/97 $16,859
08/31/97 $17,560
02/28/98 $18,457
03/31/98 $18,456
Data since inception on 8/1/89 through 3/31/98
The broad-based Lehman Brothers Municipal Bond Index is an unmanaged index that
tracks total return performance for the long-term investment grade tax-exempt
bond market. The Lipper California Municipal Debt Funds Average is the average
performance level of all California Municipal Debt Funds, as computed by Lipper
Analytical Services, an independent organization that monitors the performance
of mutual funds. All tax-exempt bond funds will find it difficult to outperform
the Lehman Index, since funds have expenses.
Message from the Manager
[PHOTOGRAPH OF PORTFOLIO MANAGER: ROBERT R. PARISEAU, CFA IS HERE]
THE ECONOMY
The U.S. economy continues its 8th year of expansion with remarkably few signs
of inflation. The yield on the 30-year U.S. Treasury Bond (the "Long Bond") fell
to a decade low of 5.69% on January 12, 1998. Nevertheless, bond investors now
seem less confident that the weakness in Asia, higher productivity, El Nino, a
relatively tight monetary policy and other factors will suppress inflationary
pressures. Concerns over the robust U.S. economy have been a recurrent theme for
many months now. Currently, investors seem to lack a consensus regarding the
direction of the next interest rate adjustment by the Federal Open Market
Committee (FOMC, or "the Fed"). Personally, I'm more confident that economic
conditions are more akin to the stable prices and real growth experienced in the
1950s than the high inflation of the 1970s.
YOUR DIVIDEND YIELD
As interest rates have fallen, our sales force has received inquiries from
investors asking whether high coupon(1) bonds will be called away from various
USAA tax-exempt funds. These investors are obviously concerned that their fund's
yield will drop dramatically. The majority of municipal bonds permit issuers to
"call," or redeem, a bond many years before the stated maturity. Typically,
municipal bonds may not be called until after ten years from the date of issue.
An issuer would call, or refinance, a bond for the same primary reason that a
homeowner would refinance a mortgage -- when interest rates drop sufficiently to
more than offset the cost of refinancing.
Let me assure you that I am very conscious of call features. I continually
evaluate the relative market value of various bond coupons and their respective
call dates. For high coupon bonds, I typically hold them as long as possible. If
I sold a higher coupon bond at a large premium (i.e. market value exceeds face
value), the Fund would lose the tax-exempt income stream prematurely. In
addition, the transaction may trigger a federal capital gain tax for our
investors. I consciously manage the Fund to minimize capital gain distributions.
When high coupon bonds are eventually called, typically the impact on the Fund's
distribution yield is quite muted, maybe a few basis points (a basis point is
0.01%) for even a very large position of the Fund's highest yielding bond.
PORTFOLIO STRATEGY
I focus primarily on generating maximum tax-exempt income that potentially could
produce the best after-tax total return over a 3-5 year investment horizon. I do
not buy exotic derivatives, nor do I hedge the portfolio with futures contracts.
I have no intention of purchasing municipal bonds that are subject to the
federal alternative minimum tax (AMT) for individuals. In fact, since inception,
the California Bond Fund has never distributed income that was subject to the
AMT. Of course, I would certainly advise our shareholders if there were a change
in the Federal Tax Code that compels me to reconsider my position on the AMT. I
remain cautious about investing in municipal lease obligations.
(1) A bond's coupon is the fixed amount of interest that is paid annually
stated as a percentage of face value, normally $1000. For example, a
6.5% coupon pays $65 (6.5% times $1000= $65) normally in two semiannual
payments of $32.50 for the life of the bond.
In the graphic below, notice that income typically is the largest component of
total return.
Average Annual Compounded Returns with
Reinvestment of Dividends - Periods Ending March 31, 1998
- -------------------------------------------------------------------------------
TOTAL DIVIDEND PRICE
RETURN EQUALS RETURN PLUS CHANGE
- -------------------------------------------------------------------------------
Since 8/1/89 7.88% = 6.26% + 1.62%
- -------------------------------------------------------------------------------
5 Years 7.02% = 5.89% + 1.13%
- -------------------------------------------------------------------------------
1 Year 12.33% = 5.95% + 6.38%
- -------------------------------------------------------------------------------
A chart in the form of a bar graph appears here, illustrating the Annual Total
Returns and Compounded Dividend Returns of the USAA California Bond Fund for
the 8-year period ended March 31, 1998.
Total Return for years **Compounded Dividend
ended Yield for years ended:
- ---------------------- ----------------------
03/31/90 1.97% 03/31/90 4.47%
03/31/91 9.46% 03/31/91 7.10%
03/31/92 9.52% 03/31/92 6.81%
03/31/93 12.56% 03/31/93 6.51%
03/31/94 0.31% 03/31/94 5.15%
03/31/95 6.89% 03/31/95 6.19%
03/31/96 9.35% 03/31/96 6.08%
03/31/97 6.60% 03/31/97 5.93%
03/31/98 12.33% 03/31/98 5.95%
Change in Share Price
- ----------------------
03/31/90 -2.50%
03/31/91 2.36%
03/31/92 2.71%
03/31/93 6.05%
03/31/94 -4.84%
03/31/95 0.70%
03/31/96 3.27%
03/31/97 0.67%
03/31/98 6.38%
*Compounded Dividend yield calculation includes only income distributions.
Total return equals income return plus share price change and assumes
reinvestment of all dividends and capital gain distributions. Dividend return is
the income dividends received over the period assuming reinvestment of all
dividends. Share price change is the change in net asset value over the period
adjusted for capital gain distributions. No adjustment has been made for taxes
payable by shareholders on their reinvested dividends and capital gain
distributions. The performance data quoted represent past performance and are
not an indication of future results. Investment return and principal value of an
investment will fluctuate, and an investor's shares, when redeemed, may be worth
more or less than their original cost.
THE MUNICIPAL MARKET
Interest rates have fallen almost the entire fiscal year. The yield on the
30-year U.S. Treasury Bond (the "Long Bond") began the fiscal year at 7.10% and
ended the period at 5.93%. The tone of the municipal bond market is similar to
what I described last September in the Semiannual Report. In general, the
municipal market does not reward an investor for buying bonds much beyond 20
years in maturity, although on occasion I have found some interesting values.
And similar to last fall, I have been buying fewer BBB and A-rated bonds
compared to the past, because of their low yields relative to higher rated
bonds.
YOUR FUND'S PERFORMANCE -- MORNINGSTAR 5 STAR FUND
Your Fund's net asset value per share increased by $.67, or 6.4%, since March
31, 1997. I'm very pleased to say that your Fund's performance earned 5-star
ratings from Morningstar for the overall, 3-, and 5-year periods ended March 31,
1998, overall and among 1,525 and 782 funds, respectively, in the municipal bond
fund category.(2) The Fund's performance compared very favorably to its peer
group.
While past performance is no guarantee of future results, the Fund's dividend
distribution yield(3) for the past 12 months was 5.36%, as compared to the
Lipper's California Municipal Debt Funds average of 4.70% for the 104 funds in
the category.* For the same period and category, the Fund's total return(4) was
12.33% as compared to the Lipper average of 10.85%.
12 MONTH DIVIDEND YIELD
-----------------------
A chart in the form of a bar graph appears here illustrating the comparison of
the 12 Month Dividend Yield of the USAA California Bond Fund to the 12 Month
Dividend Yield of the Lipper California Municipal Debt Funds Average from
3/31/91 to 3/31/98.
USAA California Bond Lipper California Municipal
Fund Yield Debt Funds Average Yield
-------------------- --------------------------
03/31/91 6.63% 6.6%
03/31/92 6.4% 6.39%
03/31/93 5.77% 5.77%
03/31/94 5.8% 5.74%
03/31/95 5.83% 5.55%
03/31/96 5.74% 5.21%
03/31/97 5.77% 5.06%
03/31/98 5.36% 4.7%
The graph represents data from 3/31/91-3/31/98.
* Refer to page 4 for the Lipper Average definition.
Past performance is no guarantee of future results.
(2) Morningstar proprietary ratings reflect historical risk-adjusted
performance through March 31, 1998. The ratings are subject to change
monthly. Morningstar ratings are calculated from the Fund's 3-, 5-, and
10-year average annual total returns, as applicable, in excess of 90-day
Treasury bill returns with appropriate fee adjustments, and a risk factor
that reflects fund performance below 90-day Treasury bill returns. There is
a 3-year minimum performance requirement before a fund is rated. Overall
rating is a weighted average of a fund's 3-, 5-, and 10-year ratings, as
applicable. The top ten percent of the funds in a rating category receive
five stars, and the next 22.5% receive four stars.
(3) 12-month dividend yield is computed by dividing income dividends paid
during the previous 12 months by the latest month-end net asset value
adjusted for capital gains distributions.
(4) Total return equals income return plus share price change and assumes
reinvestment of dividends and capital gains distributions.
THE STATE OF CALIFORNIA
California's broad-based economic expansion owes much to the high technology,
electronic manufacturing, motion picture/television production, and business
services industries. Reflecting this robust environment, California's annual
unemployment rate improved to 6.3% in 1997 compared to 7.2% in 1996 and the
national rate of 4.9% in 1997. Expectations are for healthy economic growth in
1998. The Asian economic crisis may slow California's growth, but the extent is
not clear. Fitch IBCA recently upgraded the state's credit rating to "AA-" while
Moody's and Standard & Poor's maintain their A1 and A+ ratings, respectively.
The state budget relies heavily upon two revenue sources for 80% of General Fund
revenues. These two sources, the state personal income tax and sales tax, are
very sensitive to economic cycles. The economic rebound has boosted revenues
from these taxes significantly -- a critical contribution to the state's
improved financial position. However, the state's budget reserve languishes at
relatively low levels and remains a concern. Governor Wilson has proposed
issuing about $7 billion in bonds over the next year for education, water,
prisons and various other projects. We will closely monitor these and other
issues that might impact your Fund's holdings.
The table below compares the yield of the USAA California Bond Fund with a
taxable equivalent investment.
To match the USAA California Bond Fund's closing 30-Day SEC yield of 4.53% and:
- ------------------------------------------------------------------------------
Assuming California State Tax Rate of: 8.00% 9.30% 9.30% 9.30%
and a Marginal Federal Tax Rate of: 28% 31% 36% 39.6%
- ------------------------------------------------------------------------------
A fully Taxable Investment must pay: 6.84% 7.24% 7.80% 8.27%
- ------------------------------------------------------------------------------
This table is based on a hypothetical investment calculated for illustrative
purposes only. It is not an indication of performance of the USAA Family of
Funds.
---------------------
PORTFOLIO RATINGS/MIX
MARCH 31, 1998
---------------------
A pie chart is shown here depicting the Portfolio Mix as of March 31, 1998 of
the USAA California Bond Fund to be:
AA - 9%, AAA - 37%, A - 31%, BBB - 23%
This chart reflects the highest rating of either Moody's Investors Service,
Standard & Poor's Rating Group, or Fitch Investors Service. Unrated securities
that have been determined by USAAIMCO to be of equivalent investment quality to
categories AAA and BBB account for 1.7% and 5%, respectively, of the Fund's
investments.
Note: Income may be subject to federal, state or local taxes, or the alternative
minimum tax.
See page 16 for a complete listing of the Portfolio of Investments in
Securities.
Investment Review
USAA CALIFORNIA MONEY MARKET FUND
OBJECTIVE: Provide California investors with a high level of current interest
income that is exempt from federal and California state income taxes, while
preserving capital and maintaining liquidity.
TYPES OF INVESTMENTS: High quality California tax-exempt securities with
maturities of 397 days or less. The Fund will maintain a dollar-weighted average
portfolio maturity of 90 days or less and will endeavor to maintain a constant
net asset value per share of $1.00.*
* An investment in this Fund is neither insured nor guaranteed by the U.S.
Government, and there can be no assurance that the Fund will maintain a stable
net asset value of $1.00 per share.
- ------------------------------------------------------------------------------
3/31/97 3/31/98
==============================================================================
Net Assets $341.1 Million $431.8 Million
Net Asset Value Per Share $1.00 $1.00
- ------------------------------------------------------------------------------
- ------------------------------------------------------------------------------
AVERAGE ANNUAL TOTAL RETURNS AND 7-DAY SIMPLE YIELD AS OF 3/31/98
==============================================================================
1 Year 5 Years Since Inception on 8/1/89 7-Day Simple Yield
3.35% 3.06% 3.59% 3.31%
- ------------------------------------------------------------------------------
Total return equals income return and assumes reinvestment of all dividends and
any capital gain distributions. No adjustment has been made for taxes payable by
shareholders on their reinvested dividends and capital gain distributions. Past
performance is no guarantee of future results. Yields and returns fluctuate. The
7-day yield quotation more closely reflects current earnings of the Fund than
the total return quotation.
- ----------------------
7-DAY YIELD COMPARISON
- ----------------------
A chart in the form of a line graph appears here illustrating the comparison of
the 7 day Yield of the USAA California Money Market Fund and the IBC/Donoghue's
State Specific SB (Stock Broker) and GP (General Purpose) (Tax-Free): California
Money Funds.
USAA California
Money Market Fund IBC/Donoghue
----------------- ------------
03/25/97 3.01% 2.63%
04/29/97 3.76% 3.49%
05/27/97 3.54% 3.2%
06/24/97 3.59% 3.24%
07/29/97 3.28% 2.94%
08/26/97 3.03% 2.7%
09/30/97 3.58% 3.21%
10/28/97 3.3% 2.97%
11/25/97 3.54% 3.14%
12/30/97 3.63% 3.22%
01/27/98 3.12% 2.75%
02/24/98 3.09% 2.58%
03/30/98 3.29%* 2.89%*
Data represent the last Monday of each month
*Ending date 3/30/98
The graph tracks the Fund's 7-day simple yield against IBC Financial Data, Inc.
State Specific SB (Stock Broker) & GP (General Purpose) (Tax-Free): California
Money Funds, an average of money market fund yields.
Message from the Manager
[PHOTOGRAPH OF PORTFOLIO MANAGER: JOHN C. BONNELL, CFA IS HERE]
THE MARKET
How long can the economy continue to expand? How long can inflation stay low
despite rising wages and falling unemployment? To what extent will Asian
economic problems affect our economy? Who knows!
It certainly would be nice to have the foresight to answer the above questions,
but even with the correct answers, one would not know whether to lock in one
year rates or invest in shorter term securities. As mentioned in the last
semiannual report, the short-term municipal market is primarily driven by supply
and demand relationships.
The Federal Reserve increased the federal funds rate (the rate banks charge one
another for overnight loans) .25% in March 1997. The Fed has been on hold since
then. For the last twelve months, one year treasury bill yields generally
declined within a range of 6.07% to 5.08%, and ended March 1998 at 5.39%. During
the same period, yields on municipal notes, as measured by the Bond Buyer's
One-Year Note Index,(1) ranged from 3.97% to 3.51%, and ended March 1998 at
3.64%. Supply and demand factors caused a spike up in yield at the end of the
calendar year. Yields were low during the first three months of 1998 as the
market experienced large cash inflows (which increased demand) during a period
of little new supply. How long will this continue? Again, no one really knows.
However certain seasonal factors and corporate buying habits are more
predictable and should produce buying opportunities to lock in higher yields.
(1) Bond Buyer Index is the industry standard for yields of investment-grade
municipal bonds.
STRATEGY
Your Fund strives to meet its objective in any prevailing market environment.
Rather than trying to predict future interest rates, we focus on buying the best
relative value in the market at any given time. This reflects our longstanding
commitment to credit research, and a judgment as to whether the Fund would be
sufficiently compensated with additional yield to invest in longer term
securities. Because of the lack of supply during the first three months of
1998(and low yields on what was available), your Fund's average maturity is
relatively short. This will provide the liquidity necessary to take advantage of
higher yields during the coming months as opportunities arise.
PERFORMANCE
While past performance is no guarantee of future results, for the 12 months
ending March 31, 1998, your Fund ranked 2 out of 44 California Money Market
Funds according to IBC Financial Data, Inc. with a compounded dividend yield of
3.30%. The average for the category over the same period was 2.98%.
CALIFORNIA
California's economy continues to improve. The broad-based economic expansion is
characterized by major gains in high technology manufacturing and services,
including computer software, electronic manufacturing, and motion
picture/television production, as well as other business services. Reflecting
this business environment, California's annual unemployment rate improved to
6.3% in 1997 from 7.2% in 1996. The corresponding national rates were 4.9% in
1997 and 5.4% in 1996. Expectations are for the economy to show healthy growth
in 1998, although the Asian economic crisis is expected to have some diminishing
effects on the state's economy.
The state budget, with its high reliance on the cyclically sensitive personal
income tax and sales tax, has benefited from the economic rebound, and this is
reflected in the state's improved financial condition. Despite this improvement,
minimal state budget reserves pose vulnerability and remain a concern.
The state's debt position is moderate but expected to increase given the
Governor's proposal to issue approximately $7 billion in bonds over the next
year. Proceeds will be used for education, water, prisons and various other
projects. Fitch IBCA recently upgraded the state's credit rating to "AA-" while
Moody's and Standard & Poor's maintain their A1 and A+ ratings, respectively.
- ------------------------------------
CUMULATIVE PERFORMANCE COMPARISON
- ------------------------------------
A chart in the form of a line graph appears here, comparing the cumulative
performance of a $10,000 investment of the USAA California Money Market Fund.
The data is from 8/01/89 to 3/31/98. The data points from the graph are as
follows:
USAA California Money Market Fund
Year Amount
- ------- -------
08/01/89 $10,000
08/31/89 $10,044
02/28/90 $10,324
08/31/90 $10,609
02/28/91 $10,893
08/31/91 $11,128
02/29/92 $11,347
08/31/92 $11,512
02/28/93 $11,655
08/31/93 $11,790
02/28/94 $11,916
08/31/94 $12,057
02/28/95 $12,250
08/31/95 $12,477
02/28/96 $12,697
08/31/96 $12,899
02/28/97 $13,105
08/31/97 $13,323
02/28/98 $13,543
03/31/98 $13,579
Past performance is no guarantee of future results and the value of your
investment will vary according to the fund's performance. Income may be subject
to federal, state or local taxes, or to the alternative minimum tax. For the
7-day yield information, please refer to the Fund's Investment Review page.
An investment in this Fund is neither insured nor guaranteed by the U.S.
Government and there is no assurance that the Fund will maintain a stable net
asset value of $1 per share.
See page 21 for a complete listing of the Portfolio of Investments in
Securities.
Independent Auditors' Report
The Shareholders and Board of Directors
USAA TAX EXEMPT FUND, INC.:
We have audited the accompanying statements of assets and liabilities, including
the portfolios of investments in securities, of the USAA California Bond and
USAA California Money Market Funds, portfolios of the USAA Tax Exempt Fund, Inc.
as of March 31, 1998, and the related statements of operations for the year then
ended, the statements of changes in net assets for each of the years in the
two-year period then ended, and financial highlights presented in note 7 to the
financial statements for each of the years in the five-year period then ended.
These financial statements and financial highlights are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements and financial highlights based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements and financial highlights. Our procedures included confirmation of
securities owned as of March 31, 1998, by correspondence with the custodian and
brokers. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of the
USAA California Bond and USAA California Money Market Funds, portfolios of the
USAA Tax Exempt Fund, Inc. as of March 31, 1998, the results of their operations
for the year then ended, the changes in their net assets for each of the years
in the two-year period then ended, and the financial highlights for each of the
years in the five-year period then ended, in conformity with generally accepted
accounting principles.
KPMG Peat Marwick LLP
San Antonio, Texas
May 8, 1998
<TABLE>
STATEMENTS OF ASSETS AND LIABILITIES
(IN THOUSANDS)
March 31, 1998
<CAPTION>
USAA
USAA California
California Money Market
Bond Fund Fund
------------------------------
<S> <C> <C>
ASSETS
Investments in securities, at market value
(identified cost of $487,339 and $424,416, respectively) $ 529,818 $ 424,416
Cash 386 935
Receivables:
Capital shares sold 30 607
Interest 7,838 3,871
Securities sold - 3,082
--------- --------
Total assets 538,072 432,911
--------- --------
LIABILITIES
Securities purchased 2,985 -
Capital shares redeemed 381 907
USAA Investment Management Company 142 116
USAA Transfer Agency Company 13 16
Accounts payable and accrued expenses 57 58
Dividends on capital shares 747 60
--------- ---------
Total liabilities 4,325 1,157
--------- ---------
Net assets applicable to capital shares outstanding $ 533,747 $ 431,754
========= =========
REPRESENTED BY:
Paid-in capital $ 491,508 $ 431,754
Accumulated net realized loss on investments (240) -
Net unrealized appreciation of investments 42,479 -
--------- ---------
Net assets applicable to capital shares outstanding $ 533,747 $ 431,754
========= =========
Capital shares outstanding 47,782 431,754
========= =========
Authorized shares of $.01 par value 60,000 625,000
========= =========
Net asset value, redemption price, and offering price per share $ 11.17 $ 1.00
========= =========
</TABLE>
See accompanying notes to financial statements.
CATEGORIES & DEFINITIONS
PORTFOLIOS OF INVESTMENTS IN SECURITIES
March 31, 1998
Fixed-Rate Instruments - consist of municipal bonds, notes, and commercial
paper. The interest rate is constant to maturity. Prior to maturity, the price
of a fixed-rate instrument generally varies inversely to the movement of
interest rates.
Put Bonds - provide the right to sell the bond at face value at specific tender
dates prior to final maturity. The put feature shortens the effective maturity
to the next tender date.
Variable Rate Demand Notes (VRDN) - provide the right, on any business day, to
sell the security at face value on either that day or in seven days. The
interest rate is adjusted at a stipulated daily, weekly, or monthly interval to
a rate that reflects current market conditions. In money market funds, the
effective maturity is the date on which the underlying principal amount may be
recovered or the next rate adjustment date consistent with regulatory
requirements. In bond funds, the effective maturity is the next put date. Most
VRDNs possess a credit enhancement.
Credit Enhancement (CRE) - adds the financial strength of the provider of the
enhancement to support the issuer's ability to repay the principal when due. The
enhancement may be provided by either a high quality bank, insurance company, or
other corporation, or a collateral trust. Typically, the rating agencies
evaluate the security based upon the credit standing of the provider of the
credit enhancement, rather than the credit standing of the issuer. If the
securities are enhanced by a bond insurer, scheduled principal and interest
payments are insured by:
(1) Municipal Bond Insurance Association.
(2) AMBAC Indemnity Corp.
(3) Financial Guaranty Insurance Co.
(4) Financial Security Assurance, Inc.
(5) College Construction Loan Insurance Association.
The insurance does not guarantee the market value of the municipal bonds.
PORTFOLIO DESCRIPTION ABBREVIATIONS
COP Certificate of Participation
CP Commercial Paper
CRE Credit Enhanced
GO General Obligation
IDA Industrial Development
Authority/Agency
IDRB Industrial Development
Revenue Bond
MFH Multi-Family Housing
PCRB Pollution Control Revenue Bond
RAN Revenue Anticipation Note
RB Revenue Bond
TRAN Tax Revenue Anticipation Note
<TABLE>
USAA CALIFORNIA BOND FUND
PORTFOLIO OF INVESTMENTS IN SECURITIES
(IN THOUSANDS)
March 31, 1998
<CAPTION>
Principal Coupon Final Market
Amount Security Rate Maturity Value
- ----------------------------------------------------------------------------------------
<C> <S> <C> <C> <C>
FIXED RATE INSTRUMENTS (99.0%)
California (95.0%)
Adelanto School District GO,
$ 4,715 Series 1997A (CRE) 1,c 5.67% 9/01/21 $ 1,397
5,530 Series 1997A (CRE) 1,c 5.67 9/01/22 1,554
5,190 Alameda Housing Auth. MFH RB,
Series 1989A 7.50 2/20/31 5,361
7,500 Antelope Valley Healthcare District RB,
Series 1997B (CRE)4 5.20 1/01/27 7,324
4,210 Campbell Union School District GO,
Series 1998 (CRE) 3,c 5.20 8/01/19 1,391
30,000 Central Valley Finance Auth. RB,
Series 1993 6.20 7/01/20 31,790
Commerce Community Development
Commission Tax Allocation Bonds,
3,740 Series 1997A, Project #1 (CRE) 1,c 5.50 8/01/22 1,056
3,740 Series 1997A, Project #1 (CRE) 1,c 5.50 8/01/23 1,001
Contra Costa Water District RB,
7,175 Series D (CRE)2 6.38 10/01/22 7,979
2,650 Series G (CRE)1 5.50 10/01/19 2,728
Department of Water Resources RB,
11,000 Series Ka 6.00 12/01/21 11,961
5,400 Series L 5.75 12/01/19 5,636
5,000 Desert Hospital District COP (CRE) 4,a 6.39 7/28/20 5,539
Educational Facilities Auth. RB,
9,500 Series 1991 (CRE)a 7.15 5/01/21 10,539
5,000 Series 1992 6.00 2/15/17 5,295
1,775 Series 1992 6.88 9/01/22 2,000
8,990 Series 1992 6.50 10/01/22 10,012
9,000 Series 1994 (CRE)5 6.20 5/01/21 9,872
8,015 Series 1995 6.00 10/01/25 8,491
8,050 Series 1995A 5.60 12/01/20 8,230
Fontana Unified School District Zero
Coupon Convertible GO,
2,500 Series 1990D (CRE) 3,c 5.80 5/01/17 2,371
2,000 Series 1990D (CRE) 3,c 5.85 5/01/22 1,889
8,270 Foothill/Eastern Transportation Corridor
Agency RB, Series 1995A 5.00 1/01/35 7,768
2,385 Fresno COP, Series 1991 8.50 5/01/16 2,543
Health Facilities Financing Auth. RB,
8,000 Series 1990a 7.50 10/01/10 8,811
6,500 Series 1990A (CRE) 7.70 9/01/10 7,144
35,000 Series 1990Ae 6.50 12/01/20 37,387
11,500 Series 1991 (CRE) 6.75 6/01/21 12,373
3,175 Series 1992A (CRE)1 6.38 10/01/22 3,471
3,500 Series 1993C 5.60 5/01/33 3,561
2,000 Series 1994 (CRE) 6.50 9/01/14 2,209
5,000 Series 1994A 6.63 7/01/18 5,544
1,000 Series 1997A (CRE) 5.50 1/01/19 1,024
6,200 Series 1997C (CRE) 4,d 5.13 8/15/22 6,094
4,180 Hollister Joint Powers Financing Auth. RB 5.90 12/01/23 4,328
Housing Finance Agency Home
Mortgage RB,
865 Series 1988F 7.88 8/01/19 887
10,310 Series 1991Fe 6.85 8/01/17 11,010
5,990 Series 1994A 6.55 8/01/26 6,427
3,000 Housing Finance Agency MFH RB,
Series 1996A (CRE)2 6.05 8/01/27 3,160
1,500 Housing Finance Agency RB,
Series 1997D 5.85 8/01/17 1,579
5,455 Imperial Beach MFH RB, Series 1995A 6.45 9/01/25 5,827
5,000 Metropolitan Water District RB,
Series 1992 5.50 7/01/19 5,103
12,000 Modesto Irrigation District RB,
Series 1992A (CRE)2 6.13 9/01/19 13,185
3,000 Mojave Water Agency Improvement
District GOa 6.60 9/01/22 3,359
10,975 New Haven Unified School District GO,
Series 1997A (CRE) 4,c 6.10 8/01/21 2,944
10,570 Pleasanton Joint Powers Financing
Auth. RB, Series 1993A 6.15 9/02/12 11,318
13,400 Riverside County Public Financing Auth.
Tax Allocation RB, Series 1997A 5.63 10/01/33 13,639
Sacramento Cogeneration Auth. RB,
3,700 Series 1995 5.88 7/01/15 3,881
6,500 Series 1995 6.50 7/01/21 7,102
6,000 Series 1995 6.00 7/01/22 6,363
7,040 San Diego MFH RB, Series 1995A 6.45 5/01/25 7,482
San Joaquin Hills Transportation Corridor
Agency RB,
13,500 Senior Lien a 6.75 1/01/32 15,261
97,650 Series 1997A (CRE) 1,c 5.67 1/15/32 16,729
10,035 San Joaquin Hills Transportation Corridor
Agency Senior Lien RB 5.00 1/01/33 9,513
11,320 San Mateo Sewer RB, Series 1992 (CRE)2 6.30 8/01/17 12,328
12,455 Southern California Public Power Auth. RB,
Series 1989 (CRE) 6.00 7/01/18 12,721
Statewide Communities Development
Auth. COP,
13,500 Huntington Memorial Hospital (CRE)5 5.80 7/01/26 14,323
5,420 Lutheran Homes (CRE) 5.75 11/15/21 5,661
4,000 Series 1996A (CRE) 5.50 9/01/14 4,105
1,055 The Arc of San Diego (CRE) 5.63 5/01/21 1,092
1,000 Stockton Health Facilities RB, Series A 5.70 12/01/14 1,022
Suisun City Public Financing Auth. RB,
12,055 Series A c 5.32 10/01/28 2,352
20,080 Series A c 5.37 10/01/33 2,946
Univ. of California RB,
12,000 Series 1991A a,e 6.88 9/01/16 13,520
4,000 Series 1996 (CRE)2 5.75 7/01/24 4,219
18,000 Vallejo Sanitation and Flood Control COP,
Series 1993 (CRE) 3,d 5.00 7/01/19 17,859
Washington Township Hospital RB,
9,500 Series 1993 5.50 7/01/18 9,572
7,845 Series 1993 5.25 7/01/23 7,726
Watsonville Insured Hospital RB,
5,000 Series 1995A (CRE) 6.35 7/01/24 5,456
1,515 Series 1996A (CRE) 6.20 7/01/12 1,688
Puerto Rico (4.0%)
Electric Power Auth. RB,
10,500 Series 1995Z 5.25 7/01/21 10,429
10,000 Series X 6.13 7/01/21 10,912
--------
Total fixed rate instruments (cost: $485,894) 528,373
--------
VARIABLE RATE DEMAND NOTES (0.3%)
California
200 Chula Vista IDRB, Series 1996A 3.70 7/01/21 200
945 Irvine Assessment District RB,
Number 94-15 (CRE) 4.10 9/02/20 945
300 Irvine Ranch Water District RB,
Series 1991 (CRE) 3.80 8/01/16 300
--------
Total variable rate demand notes (cost: $1,445) 1,445
--------
Total investments (cost: $487,339) $529,818
========
</TABLE>
PORTFOLIO SUMMARY BY INDUSTRY
-----------------------------
Hospitals 21.2%
Electric/Gas Utilities - Municipal 15.6
Water/Sewer Utilities - Municipal 13.0
Escrowed Bonds 12.9
Education 8.2
Toll Roads 6.4
Real Estate Tax/Free 6.1
Multi-Family Housing 4.1
Nursing/Continuing Care Centers 4.0
Single-Family Housing 3.7
General Obligations 2.2
Healthcare - Miscellaneous 1.2
Buildings .5
Special Assessment/Tax/Fee .2
------
Total 99.3%
======
<TABLE>
USAA CALIFORNIA MONEY MARKET FUND
PORTFOLIO OF INVESTMENTS IN SECURITIES
(IN THOUSANDS)
March 31, 1998
<CAPTION>
Principal Coupon Final
Amount Security Rate Maturity Value
- ---------------------------------------------------------------------------------------
<C> <S> <C> <C> <C>
VARIABLE RATE DEMAND NOTES (64.9%)
California
$ 6,770 Alameda Contra Costa Schools Financing
Auth. COP, Series 1996A (CRE) 3.45% 7/01/16 $ 6,770
2,000 Alameda County IDA IDRB, Series 1994 3.65 6/01/04 2,000
3,800 Central Unified School District COP,
Series 1995 (CRE) 3.75 6/01/15 3,800
9,100 Corona MFH RB, Series 1985B (CRE)b 3.80 2/01/05 9,100
7,280 Covina Redevelopment Agency MFH RB,
Series 1994A (CRE) 3.80 12/01/15 7,280
4,250 Educational Facilities Auth. RB,
Series 1997 (CRE) 3.55 3/01/27 4,250
4,800 Fillmore COP, Series 1997 (CRE) 3.65 5/01/29 4,800
Foothill/Eastern Transportation
Corridor Agency RB,
600 Series 1995D (CRE) 4.40 1/02/35 600
10,900 Series 1995E (CRE) 3.30 1/02/35 10,900
Fremont COP,
2,500 Series 1991 (CRE) 4.20 8/01/22 2,500
2,000 Series 1998 (CRE) 3.45 8/01/28 2,000
4,500 Gardena Financing Agency RB,
Series 1991 (CRE) 4.10 9/01/11 4,500
10,925 Grand Terrace MFH RB,
Series 1985A (CRE) 4.25 12/01/11 10,925
4,900 Huntington Beach MFH RB,
Series 1985A (CRE) 4.00 2/01/10 4,900
3,455 Irvine Assessment District RB,
Number 94-15 (CRE) 4.00 9/02/20 3,455
Irvine Ranch Water District RB,
2,000 Series 1991 (CRE) 3.80 8/01/16 2,000
3,600 Series 1993 (CRE) 3.80 4/01/33 3,600
13,200 Series 1993A (CRE) 3.75 5/01/09 13,200
9,000 Lancaster MFH RB, Series 1984A (CRE)b 3.75 11/01/04 9,000
7,000 Loma Linda Water RB, Series 1995 (CRE) 3.75 6/01/25 7,000
Los Angeles County Housing Auth. MFH RB,
6,500 Series 1985H (CRE) 4.25 12/01/07 6,500
2,500 Series 1991A (CRE) 4.40 12/01/15 2,500
2,629 Series 1991B (CRE) 4.40 12/01/15 2,629
3,950 Series 1994B (CRE) 3.80 9/01/18 3,950
4,300 Monrovia Redevelopment Agency COP,
Series 1984 (CRE) 3.65 12/01/14 4,300
2,625 Montebello Public Improvement Corp.
COP, Series 1997B (CRE) 4.05 4/01/25 2,625
12,000 Monterey County Financing Auth. RB,
Series 1995A (CRE) 4.30 9/01/36 12,000
7,950 Monterey Regional Waste Management
Auth. RB, Series 1995A (CRE) 4.30 4/01/15 7,950
8,715 Moreno Valley COP (CRE) 3.65 6/01/27 8,715
2,400 Ontario Redevelopment Agency Housing
Financing RB, Series 1997A (CRE) 3.95 9/01/27 2,400
Orange County Apartment
Development RB,
8,100 Series 1984D (CRE) 3.78 8/01/19 8,100
2,300 Series 1985T (CRE)b 3.80 10/01/07 2,300
14,145 Series 1992B (CRE) 3.75 11/01/05 14,145
7,940 Orange County Sanitation District COP,
Series 1990-92A (CRE) 3.80 8/01/15 7,940
6,300 Orange County Special Financing Auth. RB,
Series 1995B (CRE) 4.05 11/01/14 6,300
1,000 Pomona Public Financing Auth. RB,
Series 1994M (CRE) 3.95 2/01/09 1,000
5,890 Riverside County Housing Auth. MFH RB,
Series 1985-0 (CRE)b 3.80 12/01/05 5,890
Sacramento County MFH RB,
900 Series 1985B (CRE) 4.30 4/15/07 900
4,055 Series 1985E (CRE) 3.50 9/15/07 4,055
4,000 Series 1996D (CRE) 4.35 12/01/21 4,000
8,200 San Bernardino County COP,
Series 1996 (CRE) 3.65 11/01/25 8,200
San Bernardino County MFH RB,
550 Series 1985A (CRE)b 3.80 6/01/05 550
1,500 Series 1985B (CRE)b 3.80 6/01/05 1,500
5,025 San Bernardino IDA RB,
Series 1992 (CRE) 3.75 2/01/12 5,025
8,300 San Diego MFH RB, Series 1993A (CRE) 3.95 12/01/15 8,300
5,750 Statewide Communities Development
Auth. RB, Series 1995D (CRE) 3.70 12/01/22 5,750
Statewide Communities Development
Auth. COP,
2,200 Covenant Retirement Communities,
Series 1992 (CRE) 3.50 12/01/22 2,200
3,775 Institute for Defense Analysis,
Series 1992 (CRE) 3.70 11/01/22 3,775
7,535 Northern California Retired
Officers Community, Series 1996 (CRE) 3.75 6/01/26 7,535
16,000 Torrance Hospital RB, Series 1992 (CRE) 3.60 2/01/22 16,000
700 Union City MFH RB, Series 1989B (CRE) 4.30 11/01/07 700
---------
Total variable rate demand notes (cost: $280,314) 280,314
---------
PUT BONDS (4.8%)
California
Pollution Control Financing Auth. PCRB,
2,660 Series 1984 4.00 5/15/02 2,660
5,260 Series 1984B 3.90 6/15/05 5,260
12,700 Public Capital Improvement Finance Auth.
RB, Series 1988C (CRE) 3.60 6/01/28 12,700
---------
Total put bonds (cost: $20,620) 20,620
---------
FIXED RATE INSTRUMENTS (28.6%)
California
2,350 Auburn Union School District TRAN,
Series 1997 4.25 10/13/98 2,355
15,000 State GO Tax Exempt CP Notes 3.25 4/03/98 15,000
3,400 Long Beach TRAN, Series 1997-98 4.50 10/08/98 3,412
15,000 Los Angeles Department of Water and
Power CP (CRE) 3.10 4/01/98 15,000
4,050 New Haven Unified School District TRAN,
Series 1997 4.25 6/30/98 4,054
4,600 Orange County Fire Auth. TRAN,
Series 1997 4.25 9/17/98 4,607
2,500 Placer Union High School District
GO TRAN, Series 1997 4.45 9/10/98 2,506
8,700 Pomona GO TRAN, Series 1997 4.50 7/16/98 8,713
6,000 State RAN, Series 1997 4.50 6/30/98 6,014
13,500 San Bernardino County GO TRAN,
Series 1997-98A 4.50 6/30/98 13,523
1,620 San Leandro Unified School District
GO TRAN, Series 1997 4.25 6/30/98 1,621
10,500 San Ramon Valley Unified School District
TRAN, Series 1997 - 1998 4.00 11/11/98 10,508
7,210 Santa Rosa High School District TRAN,
Series 1997-98 4.50 7/02/98 7,221
17,400 School Cash Reserve Program Auth. RB,
Series 1997A (CRE) 2 4.75 7/02/98 17,437
9,000 Whittier Union High School District
GO TRAN, Series 1997 4.25 6/30/98 9,009
2,500 Yucaipa-Calimesa Joint Unified School
District GO TRAN, Series 1997 4.25 6/30/98 2,502
---------
Total fixed rate instruments (cost: $123,482) 123,482
---------
Total investments (cost: $424,416) $ 424,416
=========
</TABLE>
PORTFOLIO SUMMARY BY INDUSTRY
-----------------------------
Multi-Family Housing 24.3%
General Obligations 20.5
Water/Sewer Utilities - Municipal 11.7
Buildings 5.0
Education 5.0
Nursing Care 4.2
Hospitals 3.7
Appropriated Debt 3.5
Electric/Gas Utilities - Municipal 3.5
Finance - Municipal 2.9
Special Assessment/Tax/Fee 2.8
Toll Roads 2.7
Lodging/Hotel 2.2
Oil - International Integrated 1.8
Solid Waste Disposal 1.8
Other 2.7
----
Total 98.3%
====
NOTES TO PORTFOLIOS OF INVESTMENTS IN SECURITIES
March 31, 1998
GENERAL NOTES
Values of securities are determined by procedures and practices discussed in
note 1 to the financial statements.
The cost of securities for federal income tax purposes is approximately the same
as that reported in the financial statements.
The percentages shown represent the percentage of the investments to net assets.
SPECIFIC NOTES
(a) Prerefunded to various dates prior to maturity at the call price.
(b) These securities were purchased within the terms of a private placement
memorandum and are subject to a seven day demand feature. Under procedures
adopted by the Board of Directors, the adviser has determined that these
securities are liquid. At March 31, 1998, these securities represented 6.6% of
the USAA California Money Market Fund's net assets.
(c) Zero Coupon security. Rate represents the effective yield at date of
purchase. For the USAA California Bond Fund these securities represented 6.7% of
the Fund's net assets.
(d) At March 31, 1998, the cost of securities purchased on a delayed delivery
basis for the USAA California Bond Fund was $3.0 million.
(e) At March 31, 1998, these securities were segregated to cover delayed
delivery purchases.
See accompanying notes to financial statements.
STATEMENTS OF OPERATIONS
(IN THOUSANDS)
Year ended March 31, 1998
USAA
USAA California
California Money Market
Bond Fund Fund
-------------------------
Net investment income:
Interest income $28,632 $14,173
------- -------
Expenses:
Management fees 1,548 1,212
Transfer agent's fees 236 200
Custodian's fees 92 102
Postage 14 16
Shareholder reporting fees 5 8
Directors' fees 4 4
Registration fees 17 6
Professional fees 22 22
Other 15 12
------- -------
Total expenses 1,953 1,582
------- -------
Net investment income 26,679 12,591
------- -------
Net realized and unrealized gain on investments:
Net realized gain 3,782 -
Change in net unrealized appreciation/depreciation 25,458 -
------- -------
Net realized and unrealized gain 29,240 -
------- -------
Increase in net assets resulting from operations $55,919 $12,591
======= =======
See accompanying notes to financial statements.
<TABLE>
STATEMENTS OF CHANGES IN NET ASSETS
(IN THOUSANDS)
Years ended March 31,
<CAPTION>
USAA USAA
California California
Bond Fund Money Market Fund
---------------------------------------------
1998 1997 1998 1997
---------------------------------------------
<S> <S> <C> <C> <C>
From operations:
Net investment income $ 26,679 $ 24,521 $ 12,591 $ 9,994
Net realized gain on investments 3,782 3,635 - -
Change in net unrealized appreciation/
depreciation of investments 25,458 (890) - -
-------- -------- -------- --------
Increase in net assets resulting from
operations 55,919 27,266 12,591 9,994
-------- -------- -------- --------
Distributions to shareholders from:
Net investment income (26,679) (24,521) (12,591) (9,994)
-------- -------- -------- --------
From capital share transactions:
Proceeds from shares sold 94,320 66,664 453,369 371,516
Dividend reinvestments 18,614 16,992 11,833 9,315
Cost of shares redeemed (48,658) (55,350) (374,576) (336,052)
-------- -------- -------- --------
Increase in net assets from
capital share transactions 64,276 28,306 90,626 44,779
-------- -------- -------- --------
Net increase in net assets 93,516 31,051 90,626 44,779
Net assets:
Beginning of period 440,231 409,180 341,128 296,349
-------- -------- -------- --------
End of period $533,747 $440,231 $431,754 $341,128
======== ======== ======== ========
Change in shares outstanding:
Shares sold 8,611 6,327 453,369 371,516
Shares issued for dividends reinvested 1,696 1,610 11,833 9,315
Shares redeemed (4,451) (5,255) (374,576) (336,052)
-------- -------- -------- --------
Increase in shares outstanding 5,856 2,682 90,626 44,779
======== ======== ======== ========
</TABLE>
See accompanying notes to financial statements.
NOTES TO FINANCIAL STATEMENTS
March 31, 1998
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
USAA Tax Exempt Fund, Inc. (the Company), registered under the Investment
Company Act of 1940, as amended, is a diversified, open-end management
investment company incorporated under the laws of Maryland consisting of ten
separate funds. The information presented in this annual report pertains only to
the USAA California Bond Fund and USAA California Money Market Fund (the Funds).
The Funds have a common objective of providing California investors with a high
level of current interest income that is exempt from federal and California
state income taxes. The USAA California Money Market Fund has a further
objective of preserving capital and maintaining liquidity.
A. Security valuation - Investments in the USAA California Bond Fund are valued
each business day by a pricing service (the Service) approved by the Company's
Board of Directors. The Service uses the mean between quoted bid and asked
prices or the last sale price to price securities when, in the Service's
judgement, these prices are readily available and are representative of the
securities' market values. For many securities, such prices are not readily
available. The Service generally prices these securities based on methods which
include consideration of yields or prices of municipal securities of comparable
quality, coupon, maturity and type, indications as to values from dealers in
securities, and general market conditions. Securities which are not valued by
the Service, and all other assets, are valued in good faith at fair value using
methods determined by the Manager under the general supervision of the Board of
Directors. Securities purchased with maturities of 60 days or less and, pursuant
to Rule 2a-7 of the Investment Company Act of 1940, as amended, all securities
in the USAA California Money Market Fund, are stated at amortized cost which
approximates market value.
B. Federal taxes - Each Fund's policy is to comply with the requirements of the
Internal Revenue Code applicable to regulated investment companies and to
distribute substantially all of its income to its shareholders. Therefore, no
federal income or excise tax provision is required.
C. Investments in securities - Security transactions are accounted for on the
date the securities are purchased or sold (trade date). Gain or loss from sales
of investment securities is computed on the identified cost basis. Interest
income is recorded daily on the accrual basis. Premiums and original issue
discounts are amortized over the life of the respective securities. Market
discounts are not amortized. Any ordinary income related to market discounts is
recognized upon disposition of the securities. The Funds concentrate their
investments in California municipal securities and therefore may be exposed to
more credit risk than portfolios with a broader geographical diversification.
D. Use of estimates - The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that may affect the reported amounts in the financial
statements.
(2) LINES OF CREDIT
The Funds participate with other USAA funds in two joint short-term revolving
loan agreements totaling $850 million, one with USAA Capital Corporation
(CAPCO), an affiliate of the Manager ($750 million uncommitted), and one with
NationsBank of Texas, N.A. ($100 million committed). The purpose of the
agreements is to meet temporary or emergency cash needs, including redemption
requests that might otherwise require the untimely disposition of securities.
Subject to availability under its agreement with CAPCO, each Fund may borrow
from CAPCO an amount up to 5% of its total assets at CAPCO's borrowing rate with
no markup. Subject to availability under its agreement with NationsBank, each
Fund may borrow from NationsBank an amount which, when added to outstanding
borrowings under the CAPCO agreement, does not exceed 15% of its total assets at
NationsBank's borrowing rate plus a markup. The Funds had no borrowings under
either of these agreements during the year ended March 31, 1998.
(3) DISTRIBUTIONS
Net investment income is accrued daily as dividends and distributed to
shareholders monthly. Distributions of realized gains from security transactions
not offset by capital losses are made in the succeeding fiscal year or as
otherwise required to avoid the payment of federal taxes. At March 31, 1998, the
USAA California Bond Fund had capital loss carryovers for federal income tax
purposes of approximately $240 thousand which, if not offset by subsequent
capital gains will expire in 2003. It is unlikely that the Company's Board of
Directors will authorize a distribution of capital gains realized in the future
until the capital loss carryovers have been utilized or expire.
The Funds completed their fiscal year on March 31, 1998. Federal law (Internal
Revenue Code of 1986, as amended, and the regulations thereunder) requires each
Fund to notify its shareholders after the close of its taxable year as to what
portion of its earnings was exempt from federal taxation and dividend
distributions which represent long-term capital gains. The net investment income
earned and distributed by each of the Funds was 100% tax exempt for federal and
California state income tax purposes. There were no long-term capital gain
distributions for the year ended March 31, 1998.
(4) INVESTMENT TRANSACTIONS
Cost of purchases and proceeds from sales/maturities of securities for the year
ended March 31, 1998 were as follows:
USAA California USAA California
Bond Fund Money Market Fund
($000) ($000)
-----------------------------------
Purchases $161,026 $815,189
Sales/maturities $ 97,373 $727,798
For the USAA California Bond Fund, cost of purchases and proceeds from
sales/maturities excludes short-term securities.
Gross unrealized appreciation and depreciation of investments at March 31, 1998
was as follows:
Appreciation Depreciation Net
($000) ($000) ($000)
------------------------------------------------
USAA California Bond Fund $ 42,684 $ 205 $42,479
(5) TRANSACTIONS WITH MANAGER
A. Management fees - The investment policies of the Funds and the management of
the Funds' portfolios are carried out by USAA Investment Management Company (the
Manager). Management fees are computed as a percentage of aggregate average net
assets (ANA) of both Funds combined, which on an annual basis is equal to .50%
of the first $50 million, .40% of that portion over $50 million but not over
$100 million, and .30% of that portion over $100 million. These fees are
allocated on a proportional basis to each Fund monthly based upon ANA.
B. Transfer agent's fees - USAA Transfer Agency Company, d/b/a USAA Shareholder
Account Services, an affiliate of the Manager, provides transfer agent services
to the Funds based on an annual charge of $26 per shareholder account plus
out-of-pocket expenses.
C. Underwriting services - The Manager provides exclusive underwriting and
distribution of the Funds' shares on a continuing best efforts basis. The
Manager receives no commissions or fees for this service.
(6) TRANSACTIONS WITH AFFILIATES
Certain directors and officers of the Funds are also directors, officers, and/or
employees of the Manager. None of the affiliated directors or Fund officers
received any compensation from the Funds.
<TABLE>
(7) FINANCIAL HIGHLIGHTS
Per share operating performance for a share outstanding throughout each period
is as follows:
<CAPTION>
Year Ended March 31,
------------------------------------------------------
1998 1997 1996 1995 1994
------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net asset value at
beginning of period $ 10.50 $ 10.43 $ 10.10 $ 10.03 $ 10.75
Net investment income .60 .61 .60 .59 .59
Net realized and
unrealized gain(loss) .67 .07 .33 .07 (.52)
Distributions from net
investment income (.60) (.61) (.60) (.59) (.59)
Distributions of realized
capital gains - - - - (.20)
-------- -------- --------- --------- --------
Net asset value at
end of period $ 11.17 $ 10.50 $ 10.43 $ 10.10 $ 10.03
======== ======== ========= ========= ========
Total return(%)* 12.33 6.60 9.35 6.89 .31
Net assets at end
of period(000) $533,747 $440,231 $ 409,180 $ 372,877 $382,766
Ratio of expenses to
average net assets(%) .40 .41 .42 .44 .44
Ratio of net investment
income to average
net assets(%) 5.47 5.74 5.74 5.98 5.40
Portfolio turnover(%) 20.16 23.72 23.09 28.86 102.85
</TABLE>
*Assumes reinvestment of all dividend income and capital gains distributions
during the period.
<TABLE>
<CAPTION>
Year Ended March 31,
------------------------------------------------------
1998 1997 1996 1995 1994
------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net asset value at
beginning of period $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00
Net investment income .03 .03 .04 .03 .02
Distributions from net
investment income (.03) (.03) (.04) (.03) (.02)
-------- -------- --------- --------- --------
Net asset value at
end of period $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00
======== ======== ========= ========= ========
Total return(%)* 3.35 3.23 3.58 2.94 2.22
Net assets at end
of period(000) $431,754 $341,128 $ 296,349 $ 266,764 $247,303
Ratio of expenses to
average net assets(%) .41 .45 .47 .47 .49
Ratio of net investment
income to average
net assets(%) 3.30 3.19 3.52 2.91 2.19
</TABLE>
*Assumes reinvestment of all dividend income distributions during the period.
Directors
Robert G. Davis, Chairman of the Board
Michael J.C. Roth, President and Vice Chairman of the Board
John W. Saunders, Jr., Vice President
Barbara B. Dreeben
Howard L. Freeman, Jr.
Robert L. Mason
Richard A. Zucker
Investment Adviser, Underwriter and Distributor
USAA Investment Management Company
9800 Fredericksburg Road
San Antonio, Texas 78288
Transfer Agent
USAA Shareholder Account Services
9800 Fredericksburg Road
San Antonio, Texas 78288
Custodian
State Street Bank and Trust Company
P.O. Box 1713
Boston, Massachusetts 02105
Legal Counsel
Goodwin, Procter & Hoar LLP
Exchange Place
Boston, Massachusetts 02109
Independent Auditors
KPMG Peat Marwick LLP
112 East Pecan, Suite 2400
San Antonio, Texas 78205
Telephone Assistance
Call toll free - Central Time
Monday - Friday 8:00 a.m. to 8:00 p.m.
Saturdays 8:30 a.m. to 5:00 p.m.
For Additional Information On Mutual Funds
1-800-531-8181, (in San Antonio) 456-7211
For account servicing, exchanges or redemptions
1-800-531-8448, (in San Antonio) 456-7202
Recorded Mutual Fund Price Quotes
24-Hour Service (from any phone)
1-800-531-8066, (in San Antonio) 498-8066
Mutual Fund Touchline(Registered Trademark)
(from Touchtone phones only)
For account balance, last transaction or fund prices
1-800-531-8777, (in San Antonio) 498-8777
