<PAGE> 1
VANGUARD
STAR FUND
[PHOTO]
ANNUAL
REPORT
DECEMBER 31, 1998
[THE VANGUARD GROUP LOGO]
<PAGE> 2
AT VANGUARD, WE BELIEVE THAT TRADITION MATTERS
Our 8,000 crew members embrace the traditional values on which our success is
built, including integrity, hard work, thrift, teamwork, and fair dealing on
behalf of our clients.
This year, our report cover pays homage to three anniversaries, each of great
significance to The Vanguard Group:
- - The 200th anniversary of the Battle of the Nile, which commenced on August
1, 1798. HMS Vanguard, the victorious British flagship at the Nile, is our
namesake. And its motto-- "Leading the way"--serves as a guiding principle
for our company.
- - The 100th birthday, on July 23, of Walter L. Morgan, founder of Wellington
Fund, the oldest member of what became The Vanguard Group. Mr. Morgan was
friend and mentor to Vanguard founder John C. Bogle, and helped to shape the
standards and business principles that Mr. Bogle laid down for Vanguard at
its beginning nearly 25 years ago: a stress on balanced, diversified
investments; insistence on fair dealing and candor with clients; and a focus
on long-term investing. To our great regret, Mr. Morgan died on September 2.
- - The 70th anniversary, on December 28, of the incorporation of Vanguard
Wellington Fund. It is the nation's oldest balanced mutual fund, and one of
only a handful of funds created in the 1920s that are still in operation.
Although Vanguard constantly tackles new challenges, adopts new technology, and
develops new services, we treasure the traditions and values that set us apart
in a crowded, competitive industry. And we salute our shareholders, whose
support and trust we strive to earn each and every day.
[PHOTO]
CONTENTS
A MESSAGE TO
OUR SHAREHOLDERS
1
THE MARKETS IN
PERSPECTIVE
5
PERFORMANCE SUMMARY
7
FUND PROFILE
8
FINANCIAL STATEMENTS
10
REPORT OF
INDEPENDENT ACCOUNTANTS
16
All comparative mutual fund data
are from Lipper or Morningstar,
unless otherwise noted.
<PAGE> 3
FELLOW SHAREHOLDER,
<TABLE>
<S> <C>
[PHOTO] [PHOTO]
JOHN J. BRENNAN JOHN C. BOGLE
Chairman & CEO Senior Chairman
</TABLE>
Vanguard STAR Fund earned +12.4% during 1998, a year when U.S. financial
markets encountered considerable turbulence en route to yet another strong
performance.
Gains in 1998 were largest for large-capitalization growth stocks,
although bond and money markets provided returns well in excess of inflation.
The favorable overall environment and STAR's balanced investment
policy--holding approximately 62.5% of assets in stock funds, 25% in bond
funds, and 12.5% in cash reserves through a money market fund--resulted in a
double-digit return for the fourth consecutive year.
The adjacent table presents the fund's total return (capital change plus
reinvested dividends). STAR's gain exceeded that of a comparable portfolio made
up of mutual funds weighted in accordance with our asset-allocation guidelines.
However, returns for both STAR and this composite fund substantially lagged the
return of a composite made up of benchmark indexes representing the asset
classes in which we invest. These benchmarks are: for stocks, the Standard &
Poor's 500 Composite Stock Price Index; for bonds, the Lehman Brothers
Aggregate Bond Index; and for cash reserves, the Salomon Smith Barney 3-Month
U.S. Treasury Bill Index.
Our return is based on an increase in net asset value from $17.38 per
share on December 31, 1997, to $17.96 per share on December 31, 1998, adjusted
for dividends totaling $0.58 per share paid from net investment income and
distributions totaling $0.98 per share from net realized capital gains. At
year-end, our annualized yield was 3.1%.
<TABLE>
<CAPTION>
- ------------------------------------------------------
TOTAL RETURNS
YEAR ENDED
DECEMBER 31, 1998
- ------------------------------------------------------
<S> <C>
Vanguard STAR Fund +12.4%
- ------------------------------------------------------
Composite Fund Average* +11.3%
- ------------------------------------------------------
STAR Composite Index* +20.9%
- ------------------------------------------------------
S&P 500 Index +28.6%
Lehman Aggregate Bond Index + 8.7
Salomon Smith Barney
3-Month Treasury Index + 5.1
- ------------------------------------------------------
</TABLE>
*The Star Composite Index is weighted 62.5% S&P 500 Index, 25% Lehman Aggregate
Bond Index, and 12.5% Salomon Smith Barney 3-Month Treasury Index. The
Composite Fund Average is similarly weighted using the average general equity
mutual fund, average fixed-income fund, and average money market fund,
respectively.
FINANCIAL MARKETS IN REVIEW
The U.S. economy grew at a robust pace--more than 3%--during 1998 as it
shrugged off the effects of serious financial problems in Asia, Russia, and
Latin America. Troubles abroad slowed demand for American exports and boosted
demand for imported goods, widening the U.S. trade deficit. But the domestic
economy got a powerful push from higher consumer spending, which was encouraged
by low unemployment (4.3% at year-end) and higher wages (up about 4%, well
above the 1.6% inflation rate).
The optimism that kept shopping malls and automobile showrooms busy was
also a factor in the financial markets. Stock prices shot up during the first
half of the year, despite news that corporate earnings actually declined
slightly, and by July 17 the S&P 500 Index had gained +23.3%. But fears that
Asia's financial troubles were spreading
1
<PAGE> 4
worldwide touched off a sharp decline: Over the following six weeks, the S&P
500 Index fell -19.2%. Declines were much steeper for smaller stocks: The
Russell 2000 Index of small-cap stocks declined nearly -40% from its mid-April
peak to its low in October.
The stock market then revived with remarkable speed and vigor. By
year-end, the S&P 500 Index was again in record territory, having gained +28.6%
for the year. This result, however, masked weakness elsewhere in the market.
The Wilshire 4500 Equity Index, which comprises all the stocks not included in
the S&P 500, gained just +8.6%, while the small-cap Russell 2000 Index declined
- -2.5%. In the entire market, more stocks declined in price than rose. Among
large-cap stocks, there was a huge gap between returns on growth and value
stocks: The S&P 500's growth component gained +42.2% during the year, nearly
three times the +14.7% return on its value stocks.
Interest rates declined on balance during 1998. Bond prices, which move in
the opposite direction from interest rates, generally rose. Price appreciation
accounted for 2 percentage points of the 8.7% total return of the Lehman
Aggregate Bond Index. Rates fell furthest--roughly 1 percentage point--for
U.S. Treasury securities. Treasury bond prices benefited from a "flight to
quality" as many investors shunned riskier securities. Prices of high-yield, or
"junk," bonds generally declined as investors reexamined their willingness to
assume greater risk.
1998 PERFORMANCE OVERVIEW
Returns from the Vanguard funds held by STAR Fund varied widely, as shown in
the table below. The table shows the percentage of assets represented by each
of STAR's holdings along with the return for each during 1998. All the
underlying funds earned positive returns, although these ranged from a mere
+0.8% for Windsor Fund, STAR's second-largest holding, to a remarkable +40.0%
for the U.S. Growth Fund. STAR's equity holdings on balance earned far less
than the S&P 500 Index primarily because our largest holdings--Windsor II Fund
and Windsor Fund--emphasize value stocks, which were the market's laggards.
Only two of our underlying funds (U.S. Growth and Morgan Growth) emphasize
large-cap growth stocks, which were the best-performing part of the market.
PRIMECAP Fund, which invests in both large- and mid-cap growth stocks, provided
a very competitive return. Explorer Fund managed a gain of +3.5%, although
small-cap growth stocks, which it emphasizes, earned just +1.2% as a group
during 1998.
<TABLE>
<CAPTION>
- -------------------------------------------------------------
TOTAL RETURNS
PERCENTAGE OF YEAR ENDED
VANGUARD FUND STAR ASSETS DECEMBER 31, 1998
- -------------------------------------------------------------
<S> <C> <C>
STOCK FUNDS
Windsor II 27.3% +16.4%
Windsor 15.4 + 0.8
Explorer 5.3 + 3.5
Morgan Growth 5.2 +22.3
U.S. Growth 5.1 +40.0
PRIMECAP 5.1 +25.4
- -------------------------------------------------------------
BOND FUNDS
Long-Term Corporate 12.5% + 9.2%
GNMA 12.3 + 7.1
- -------------------------------------------------------------
MONEY MARKET FUND
Prime 11.8% + 5.4%
- -------------------------------------------------------------
COMBINED 100.0% +12.4%
- -------------------------------------------------------------
</TABLE>
Although they've been the market's leaders for the past five years,
large-cap growth stocks won't always dominate. We expect that smaller stocks
and value stocks will, as they have in the past, enjoy periods of superior
relative performance. Our balanced investment policy provides exposure to all
these sectors.
2
<PAGE> 5
STAR's fixed-income segments--the Prime Money Market Fund and our GNMA and
Long-Term Corporate Funds--provided returns that outpaced those of comparable
mutual funds and far exceeded inflation. The two bond funds benefited from the
decline in interest rates and from their high credit quality.
While our performance lagged well behind the composite index, STAR's gain
of +12.4% did marginally exceed the +11.3% return for our composite mutual fund
average, based on average returns for other funds and weighted to match our
balanced asset allocation target of 62.5% in stock funds, 25% in bond funds,
and 12.5% in money market funds. This was the seventh consecutive year in which
we succeeded in outperforming this group of our peers.
LONG-TERM PERFORMANCE OVERVIEW
STAR Fund's long-term record is solid, both on an absolute basis and in
relation to peer mutual funds. The table below presents the returns of STAR and
our comparative standards during the past decade, showing how an initial
$10,000 investment in each would have grown, assuming the reinvestment of
income dividends and capital gain distributions. STAR's average return of
+13.5% was 1.2 percentage points higher than that of the balanced composite
fund benchmark.
That seemingly modest margin resulted in a difference of $3,377 in the
ending value of the hypothetical $10,000 investments--equivalent to more than
one-third the initial investment. Vanguard's low costs are the main reason for
our advantage. STAR itself bears no direct operating expenses, although STAR
shareholders incur their share of the costs of running our underlying funds.
During 1998, these costs amounted to 0.37% of average net assets, nearly a
percentage point lower than the 1.27% average expense ratio charged by funds in
the composite average. Lower costs, then, have accounted for most of our excess
return.
During the past decade, we trailed the return on our benchmark composite
index by an average of 1.6 percentage points annually. This shortfall is due
mainly to the unusually wide disparity in returns on growth and value stocks.
As noted earlier, the majority of STAR's stock holdings are in value funds--the
two Windsors. During the past decade, large value stocks within the S&P 500
earned an average return of +16.7% a year, 4.6 percentage points behind the
+21.3% return on large growth stocks in the index. Also, because the composite
index exists only on paper, it has no operating or trading costs, which is an
advantage over even our low-cost funds.
Our annualized return of +13.5% during the decade was well above the
long-term historical average for such a balanced portfolio. While we are
grateful for these results, they create two potential dangers. The first is
that investors may have unrealistic expectations for future returns. Investors
who base plans on such assumptions may fall well short of their financial goals
if returns revert to lower levels, as we would expect. The second danger is
that investors may underestimate the risks that are part of investing. In eight
of the past ten
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------
TOTAL RETURNS
10 YEARS ENDED DECEMBER 31, 1998
---------------------------------
AVERAGE FINAL VALUE OF
ANNUAL A $10,000
RATE INITIAL INVESTMENT
- ---------------------------------------------------------------------
<S> <C> <C>
Vanguard STAR Fund +13.5% $35,354
- ---------------------------------------------------------------------
Composite Fund Average +12.3% $31,977
- ---------------------------------------------------------------------
STAR Composite Index +15.1% $40,736
- ---------------------------------------------------------------------
S&P 500 Index +19.2% $57,963
- ---------------------------------------------------------------------
Lehman Aggregate Bond Index + 9.3% $24,237
- ---------------------------------------------------------------------
</TABLE>
3
<PAGE> 6
years, STAR's total return exceeded 10%, while it suffered only slight declines
in the other years (-3.6% in 1990 and -0.2% in 1994). The stock and bond
markets are capable of steeper declines. Investors who understand that
downturns will occur, and are a risk that must be endured in pursuit of
investment rewards, may find it easier to stay on an even keel when the seas
get stormy.
IN SUMMARY
The tumultuous markets in 1998 amply demonstrated the advantages of a balanced
investment approach. Investors who held a mix of stock funds, bond funds, and
money market funds participated in the markets' bounty but were spared some
measure of the anxiety felt during the midyear downturn in stocks.
We have always believed that investors are well served by selecting a mix
of stocks, bonds, and cash reserves appropriate to their investment time
horizon, goals, and risk tolerance, and then sticking with their plan. Vanguard
STAR Fund embodies this approach, and we will "stay the course" in implementing
it.
<TABLE>
<S> <C>
/s/ JOHN C. BOGLE /s/ JOHN J. BRENNAN
John C. Bogle John J. Brennan
Senior Chairman Chairman and
Chief Executive Officer
</TABLE>
January 11, 1999
NOTE: You'll observe that we have made a minor change in the name of STAR Fund.
We replaced the word "portfolio" with "fund" as part of a broader effort to
simplify the names in our fund lineup.
4
<PAGE> 7
THE MARKETS IN PERSPECTIVE
YEAR ENDED DECEMBER 31, 1998 [PHOTO]
Financial markets continued to produce solid overall gains during 1998. After
overcoming a sharp, six-week setback in July and August, the S&P 500 Index
gained 28.6% for the year, marking the first time the index had produced
returns of 20% or more in four consecutive years. Bond prices rose as interest
rates generally declined over the year. Returns from overseas stock markets
varied widely, with big gains in Europe, small gains in the Pacific, and losses
in most emerging markets.
U.S. STOCK MARKETS
Large-capitalization stocks--especially those of large growth companies--were
the best performers during 1998. The 50 largest stocks within the S&P 500 Index
earned more than 40%, while the return of the other 450 stocks was less than
17%. The stock market as a whole, as measured by the Wilshire 5000 Equity
Index, earned 23.4%. Small-cap stocks, represented by the Russell 2000 Index,
declined 2.5% for the year.
The huge gap between returns of large and small stocks was not the
only oddity during the year. Among large stocks there also was a large
disparity in performance between growth and value stocks. Within the s&p 500
index, growth stocks rose 42.2%, While value stocks were up 14.7%. The gap of
27.5 Percentage points is the largest in the 23 years that the growth and value
components have been tracked.
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------
AVERAGE ANNUALIZED RETURNS
PERIODS ENDED DECEMBER 31, 1998
-------------------------------
1 YEAR 3 YEARS 5 YEARS
- ------------------------------------------------------------------------
<S> <C> <C> <C>
STOCKS
S&P 500 Index 28.6% 28.2% 24.1%
Russell 2000 Index -2.5 11.6 11.9
MSCI EAFE Index 20.3 9.3 9.5
- ------------------------------------------------------------------------
BONDS
Lehman Aggregate Bond Index 8.7% 7.3% 7.3%
Lehman 10 Year Municipal Bond Index 6.8 6.8 6.4
Salomon Smith Barney 3-Month
U.S. Treasury Bill Index 5.1 5.2 5.1
- ------------------------------------------------------------------------
OTHER
Consumer Price Index 1.6% 2.2% 2.4%
- ------------------------------------------------------------------------
</TABLE>
Stocks rose strongly during the first half of the year. But after hitting
a then-record high on July 17, the S&P 500 Index fell by 19.2% during the
following six weeks. Declines were steeper for most smaller stocks. The Russell
2000 Index fell nearly 40% from its peak in April before climbing back during
the fourth quarter.
The summer slump in stock prices reflected several factors that raised
anxiety among investors and prompted a reconsideration of risk that extended
past stocks to bonds. Among these factors were deteriorating corporate
earnings; Russia's default on its debts; sharp swings in currency exchange
rates; and lingering economic weakness in Asia.
Although these sources of uncertainty remained as the year went on, many
investors reacted not by abandoning stocks, but by selecting large, well-known
stocks they perceived as reliable vehicles for long-term growth. The strong
rebound in prices during the fourth quarter was due in large part to the
calming influence on jittery markets of the Federal Reserve Board's decision to
cut short-term interest rates by 0.75 percentage point.
5
<PAGE> 8
Technology stocks led the market's advance during 1998, rising 83%.
Investors were attracted by rapid revenue growth and a belief that consumers
and businesses will keep spending freely on computers, software, and computer
services. Speculation also played a role in the surge. Burgeoning activity on
the Internet sent many stocks, even those with no hint of profitability,
skyrocketing. The bulge in Internet stock prices prompted comparisons with such
historic asset "bubbles" as Japan's stock market in the late 1980s and the
tulip-bulb mania in Holland in the 1630s.
Health care and utilities, especially telecommunications providers, also
soared, achieving returns of more than 43%. Both sectors benefited from rising
demand for their products and a perception that they are somewhat protected
from foreign economic troubles and foreign competition. Consumer-related stocks
such as retailers also did well, reflecting strength in consumer spending.
Americans spent almost every after-tax dollar they earned during 1998. Jobs
were abundant; unemployment fell to 4.3% by year-end.
The worst-performing groups were two directly harmed by falling commodity
prices: oil drilling and services firms in the "other energy" category (-36%)
and materials & processing firms (-1%), such as paper, steel, and chemical
makers. Producer-durables companies, such as machinery and aircraft makers,
eked out a 2% return as companies saw falling sales abroad and rising
competition at home from foreign firms.
U.S. BOND MARKETS
The fall in interest rates during 1998 was steepest for U.S. Treasury
securities, which benefited from heightened aversion to risk among investors
and from a slight decrease in supply, thanks to a $70 billion federal budget
surplus. The low inflation rate--consumer prices were up just 1.6%--gave the
Federal Reserve the flexibility to cut short-term rates even though economic
growth was strong.
Yields on long-term Treasury issues fell by roughly 1 percentage point,
and the 30-year Treasury bond's yield was 5.09% on December 31. Lower rates
mean higher bond prices, and the Lehman Brothers Long U.S. Treasury Index
earned a total return of 13.5%, an astounding margin of nearly 12 percentage
points over the inflation rate.
Bonds lacking the unquestioned credit quality of Treasuries did not fare
as well, reflecting a repricing of risk and a "flight to quality" by investors
who began to feel they had been underestimating risk. One result was price
declines that nearly offset the interest earned on high-yield "junk" bonds.
However, high-quality corporate bonds and mortgage-backed securities generally
held up well. The Lehman Aggregate Bond Index, which encompasses Treasury,
mortgage, and high-quality corporate securities and has an intermediate-term
average maturity, earned a solid 8.7%.
Yields on long-term municipal bonds declined only slightly during the
year, and by December 31 were only a tad lower than yields on long-term
Treasuries. This was striking because the interest on municipals is exempt from
federal income tax.
INTERNATIONAL STOCK MARKETS
Europe's stock markets beat even the S&P 500 Index's gaudy return, gaining
28.7% in U.S.-dollar terms, with about 5% of the gain due to a fall in the
dollar versus most European currencies. Pacific-region stocks rose 2.6%,
although it took a fall in the dollar's value versus the Japanese yen to
overcome losses in local-currency terms. Overall, developed international
markets, as measured by the MSCI EAFE Index, earned 20.3%.
Investors' confidence in emerging markets continued to evaporate in 1998,
and stocks in these markets fell about 25% as a group. The few bright spots
included South Korea (+141%) and the Philippines (+13%), which had suffered big
declines in 1997.
6
<PAGE> 9
PERFORMANCE SUMMARY
STAR FUND
All of the data on this page represent past performance, which cannot be used
to predict future returns that may be achieved by the fund. Note, too, that
both share price and return can fluctuate widely, so an investment in the fund
could lose money.
<TABLE>
<CAPTION>
TOTAL INVESTMENT RETURNS: MARCH 29, 1985-DECEMBER 31, 1998
- ----------------------------------------------------------
STAR FUND COMPOSITE*
FISCAL CAPITAL INCOME TOTAL TOTAL
YEAR RETURN RETURN RETURN RETURN
- ----------------------------------------------------------
<S> <C> <C> <C> <C>
1985 14.5% 0.5% 15.0% 15.1%
1986 5.5 8.4 13.9 12.6
1987 -5.5 7.2 1.7 3.1
1988 11.7 7.3 19.0 11.8
1989 11.8 7.0 18.8 18.0
1990 -9.6 6.0 -3.6 -1.6
1991 18.1 6.1 24.2 26.9
1992 6.3 4.2 10.5 8.0
1993 7.1 3.8 10.9 10.6
1994 -4.1 3.9 -0.2 -1.2
1995 23.7 4.9 28.6 23.3
1996 12.0 4.1 16.1 13.6
1997 17.3 3.9 21.2 17.9
1998 9.0 3.4 12.4 11.3
- ----------------------------------------------------------
</TABLE>
*62.5% average general equity fund, 25% average fixed-income fund, and 12.5%
average money market fund.
See Financial Highlights table on page 14 for dividend and capital gains
information for the past five years.
<TABLE>
<CAPTION>
CUMULATIVE PERFORMANCE: DECEMBER 31, 1988-DECEMBER 31, 1998
- ------------------------------------------------------------------------------
STAR Fund Composite STAR Composite S&P 500
Fund Average* Index** Index
<S> <C> <C> <C> <C> <C>
1988 12 10000 10000 10000 10000
1989 03 10549 10466 10500 10709
1989 06 11286 11120 11318 11654
1989 09 11941 11805 12133 12902
1989 12 11880 11796 12435 13168
1990 03 11594 11612 12211 12772
1990 06 11919 12160 12840 13575
1990 09 10643 10984 11777 11709
1990 12 11450 11606 12612 12759
1991 03 12858 13004 13857 14612
1991 06 12848 13031 13923 14579
1991 09 13507 13825 14612 15359
1991 12 14218 14732 15599 16647
1992 03 14264 14733 15322 16227
1992 06 14715 14632 15679 16536
1992 09 15158 15049 16175 17057
1992 12 15712 15904 16708 17916
1993 03 16444 16407 17352 18698
1993 06 16655 16656 17538 18789
1993 09 17313 17317 17953 19275
1993 12 17422 17596 18233 19722
1994 03 16890 17151 17691 18974
1994 06 17068 16826 17715 19054
1994 09 17465 17511 18308 19986
1994 12 17386 17387 18357 19983
1995 03 18668 18365 19731 21929
1995 06 20094 19623 21239 24022
1995 09 21441 20827 22432 25931
1995 12 22364 21437 23553 27492
1996 03 23153 22162 24269 28967
1996 06 23720 22888 25021 30267
1996 09 24445 23437 25674 31203
1996 12 25967 24363 27248 33804
1997 03 26147 24086 27723 34710
1997 06 28783 26615 31004 40770
1997 09 31009 28818 32786 43824
1997 12 31460 28728 33684 45083
1998 03 34085 31022 36774 51372
1998 06 34521 31140 37813 53068
1998 09 31714 28396 35976 47789
1998 12 35354 31977 40736 57963
</TABLE>
<TABLE>
<CAPTION>
AVERAGE ANNUAL TOTAL RETURNS
PERIODS ENDED DECEMBER 31, 1998
---------------------------------- FINAL VALUE OF A
1 YEAR 5 YEARS 10 YEARS $10,000 INVESTMENT
- ------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
STAR Fund 12.38% 15.20% 13.46% $35,354
Composite Fund Average* 11.30 12.69 12.33 31,977
STAR Composite Index** 20.94 17.44 15.08 40,736
S&P 500 Index 28.58 24.06 19.21 57,963
- ------------------------------------------------------------------------------
</TABLE>
*62.5% average general equity fund, 25% average fixed-income fund, and 12.5%
average money market fund.
**62.5% S&P 500 Index, 25% Lehman Aggregate Bond Index, and 12.5% Salomon Smith
Barney 3-Month Treasury Index.
<TABLE>
<CAPTION>
AVERAGE ANNUAL TOTAL RETURNS: PERIODS ENDED DECEMBER 31, 1998
- ------------------------------------------------------------------------------
10 YEARS
INCEPTION ---------------------------
DATE 1 YEAR 5 YEARS CAPITAL INCOME TOTAL
- ------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
STAR Fund 3/29/1985 12.38% 15.20% 8.72% 4.74% 13.46%
- ------------------------------------------------------------------------------
</TABLE>
7
<PAGE> 10
FUND PROFILE
STAR FUND
This Profile presents key characteristics of the fund as of December 31, 1998,
including its allocations to various asset classes and to underlying Vanguard
funds. Key elements of this Profile are defined on page 9.
<TABLE>
<CAPTION>
FINANCIAL ATTRIBUTES
- -----------------------------------------
<S> <C>
Yield 3.1%
Expense Ratio 0%
Average Weighted Expense Ratio* 0.37%
</TABLE>
*For underlying funds.
<TABLE>
<CAPTION>
FUND ASSET ALLOCATION
- -----------------------------------------
<S> <C>
STOCKS 63%
BONDS 25%
CASH RESERVES 12%
</TABLE>
<TABLE>
<CAPTION>
VOLATILITY MEASURES
- -----------------------------------------
STAR S&P 500
- -----------------------------------------
<S> <C> <C>
R-Squared 0.95 1.00
Beta 0.62 1.00
</TABLE>
<TABLE>
<CAPTION>
ALLOCATION TO UNDERLYING VANGUARD FUNDS
- -----------------------------------------
<S> <C>
Windsor II Fund 27.3%
Windsor Fund 15.4
Explorer Fund 5.3
Morgan Growth Fund 5.2
U.S. Growth Fund 5.1
PRIMECAP Fund 5.1
Long-Term Corporate Fund 12.5
GNMA Fund 12.3
Prime Money Market Fund 11.8
- -----------------------------------------
Total 100.0%
</TABLE>
FIXED-INCOME INVESTMENT FOCUS
- -----------------------------------------
[GRAPH]
EQUITY INVESTMENT FOCUS
- -----------------------------------------
[GRAPH]
8
<PAGE> 11
ALLOCATION TO UNDERLYING VANGUARD FUNDS. This table shows the distribution of a
fund's assets in underlying Vanguard funds.
AVERAGE WEIGHTED EXPENSE RATIO. Funds that invest in other Vanguard funds incur
no direct expenses, but do bear their share of the operating, administrative,
and advisory expenses of the underlying funds. The average weighted expense
ratio is the average of these expense ratios, weighted in proportion to the
amount of the fund represented by each underlying fund.
BETA. A measure of the magnitude of a fund'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 fund 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%.
EQUITY INVESTMENT FOCUS. This grid indicates the focus of a fund's equity
holdings in terms of two attributes: market capitalization (large, medium, or
small) and relative valuation (growth, value, or a blend).
EXPENSE RATIO. The percentage of a fund's average net assets used to pay its
annual administrative and advisory expenses. These expenses directly reduce
returns to investors.
FIXED-INCOME INVESTMENT FOCUS. This grid indicates the focus of a fund's
fixed-income holdings in terms of two attributes: average maturity (short,
medium, or long) and average credit quality (Treasury/agency, investment-grade
corporate, or below investment-grade).
FUND ASSET ALLOCATION. This chart shows the proportions of a fund's holdings
allocated to different types of assets.
R-SQUARED. A measure of how much of a fund's past returns can be explained by
the returns from the overall market (or its benchmark index). If a fund's total
return were precisely synchronized with the overall market's return, its
R-squared would be 1.00. If a fund's returns bore no relationship to the
market's returns, its R-squared would be 0.
YIELD. A snapshot of a fund's income from interest and dividends. The yield,
expressed as a percentage of the fund's net asset value, is based on income
earned over the past 30 days (7 days for money market funds) and is annualized,
or projected forward for the coming year.
9
<PAGE> 12
FINANCIAL STATEMENTS
DECEMBER 31, 1998
[PHOTO]
STATEMENT OF NET ASSETS
This Statement provides a detailed list of the fund's investments in shares of
each Vanguard fund, along with the value of each investment on the last day of
the reporting period. Other assets are added to, and liabilities are subtracted
from, the value of Total Investments to calculate the fund's Net Assets.
Finally, Net Assets are divided by the outstanding shares of the fund 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 fund'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 fund had
available to distribute to shareholders as income dividends or capital gains as
of the statement date. 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 fund's investments and their cost, and reflects
the gains (losses) that would be realized if the fund were to sell all of its
investments at their statement-date values.
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------
MARKET
VALUE*
STAR FUND SHARES (000)
- ------------------------------------------------------------------------------
INVESTMENT COMPANIES (100.2%)
- ------------------------------------------------------------------------------
<S> <C> <C>
STOCK FUNDS (63.5%)
Vanguard Windsor II Fund 74,196,353 $2,214,761
Vanguard Windsor Fund 80,385,390 1,251,601
Vanguard Explorer Fund 7,528,059 426,916
Vanguard Morgan Growth Fund 21,257,569 419,199
Vanguard U.S. Growth Fund 10,952,156 410,596
Vanguard PRIMECAP Fund 8,604,599 410,095
-----------
5,133,168
-----------
BOND FUNDS (24.9%)
Vanguard Long-Term Corporate Fund 109,288,172 1,015,287
Vanguard GNMA Fund 95,203,116 994,873
-----------
2,010,160
-----------
MONEY MARKET FUND (11.8%)
Vanguard Prime Money Market Fund Investor Shares 952,878,894 952,879
-----------
- ------------------------------------------------------------------------------
TOTAL INVESTMENT COMPANIES
(COST $6,247,192) 8,096,207
- ------------------------------------------------------------------------------
<CAPTION>
FACE
AMOUNT
(000)
- ------------------------------------------------------------------------------
TEMPORARY CASH INVESTMENT (0.1%)
- ------------------------------------------------------------------------------
<S> <C> <C>
REPURCHASE AGREEMENT
Collateralized by U.S. Government Obligations
in a Pooled Cash Account 4.76%, 1/4/1999
(COST $11,512) $11,512 11,512
- ------------------------------------------------------------------------------
TOTAL INVESTMENTS (100.3%)
(COST $6,258,704) 8,107,719
- ------------------------------------------------------------------------------
</TABLE>
10
<PAGE> 13
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------
MARKET
VALUE*
(000)
- ------------------------------------------------------------------------------
OTHER ASSETS AND LIABILITIES (-0.3%)
- ------------------------------------------------------------------------------
<S> <C> <C>
Other Assets $ 25,301
Liabilities (50,394)
-----------
(25,093)
- ------------------------------------------------------------------------------
NET ASSETS (100%)
- ------------------------------------------------------------------------------
Applicable to 450,026,748 outstanding $.001 par
value shares of beneficial interest
(unlimited authorization) $8,082,626
==============================================================================
NET ASSET VALUE PER SHARE $17.96
==============================================================================
</TABLE>
*See Note A in Notes to Financial Statements.
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------
AT DECEMBER 31, 1998, NET ASSETS CONSISTED OF:
- ------------------------------------------------------------------------------
AMOUNT PER
(000) SHARE
- ------------------------------------------------------------------------------
<S> <C> <C>
Paid in Capital $6,233,825 $13.85
Undistributed Net Investment Income 1,026 --
Overdistributed Net Realized Gains (1,240) --
Unrealized Appreciation--Note D 1,849,015 4.11
- ------------------------------------------------------------------------------
NET ASSETS $8,082,626 $17.96
==============================================================================
</TABLE>
11
<PAGE> 14
STATEMENT OF OPERATIONS
This Statement shows the fund's Income Distributions Received from the other
Vanguard funds in which it invests. This Statement also shows any Capital Gain
Distributions Received from the other funds' realized net gains, Net Gain
(Loss) realized on the sale of investments, and the increase or decrease in the
Unrealized Appreciation (Depreciation) on investments during the period.
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------
STAR FUND
YEAR ENDED DECEMBER 31, 1998
(000)
- -------------------------------------------------------------------------------------
<S> <C>
INVESTMENT INCOME
INCOME
Income Distributions Received $247,247
Interest 136
- -------------------------------------------------------------------------------------
NET INVESTMENT INCOME--Note B 247,383
- -------------------------------------------------------------------------------------
REALIZED NET GAIN
Capital Gain Distributions Received 363,842
Investment Securities Sold 48,714
- -------------------------------------------------------------------------------------
REALIZED NET GAIN 412,556
- -------------------------------------------------------------------------------------
CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION) OF INVESTMENT SECURITIES 239,881
- -------------------------------------------------------------------------------------
NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS $899,820
=====================================================================================
</TABLE>
12
<PAGE> 15
STATEMENT OF CHANGES IN NET ASSETS
This Statement shows how the fund'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 fund'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 fund, 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>
- -------------------------------------------------------------------------------------
STAR FUND
YEAR ENDED DECEMBER 31,
------------------------
1998 1997
(000) (000)
- -------------------------------------------------------------------------------------
<S> <C> <C>
INCREASE IN NET ASSETS
OPERATIONS
Net Investment Income $ 247,383 $ 229,478
Realized Net Gain 412,556 464,498
Change in Unrealized Appreciation (Depreciation) 239,881 571,126
------------------------
Net Increase in Net Assets Resulting from Operations 899,820 1,265,102
------------------------
DISTRIBUTIONS
Net Investment Income (246,270) (226,950)
Realized Capital Gain (412,420) (466,547)
------------------------
Total Distributions (658,690) (693,497)
------------------------
CAPITAL SHARE TRANSACTIONS(1)
Issued 956,647 954,494
Issued in Lieu of Cash Distributions 642,212 678,488
Redeemed (1,112,742) (712,635)
------------------------
Net Increase from Capital Share Transactions 486,117 920,347
- -------------------------------------------------------------------------------------
Total Increase 727,247 1,491,952
- -------------------------------------------------------------------------------------
NET ASSETS
Beginning of Year 7,355,379 5,863,427
------------------------
End of Year $8,082,626 $7,355,379
=====================================================================================
(1)Shares Issued (Redeemed)
Issued 52,426 55,184
Issued in Lieu of Cash Distributions 35,613 39,523
Redeemed (61,339) (41,066)
------------------------
Net Increase in Shares Outstanding 26,700 53,641
=====================================================================================
</TABLE>
13
<PAGE> 16
FINANCIAL HIGHLIGHTS
This table summarizes the fund's investment results and distributions to
shareholders on a per-share basis. The table also presents the fund's Total
Return and shows net investment income and expenses as percentages of average
net assets. The expense ratio is zero because the fund pays no direct expenses;
the fund's share of the expenses of the other funds in which it invests reduces
the income received from them. The data in the table will help you assess: the
variability of the fund's net income and total returns from year to year; the
relative contributions of net income and capital gains to the fund's total
return; the extent to which the fund tends to distribute capital gains; and the
portion of capital gains distributions representing the "pass-through" of
capital gains distributions received from other Vanguard funds. 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 fund for one year.
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------
STAR FUND
YEAR ENDED DECEMBER 31,
----------------------------------------------
FOR A SHARE OUTSTANDING THROUGHOUT EACH YEAR 1998 1997 1996 1995 1994
- -------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF YEAR $17.38 $15.86 $15.03 $12.61 $13.41
- -------------------------------------------------------------------------------------------------------------
INVESTMENT OPERATIONS
Net Investment Income .58 .60 .58 .590 .53
Capital Gain Distributions Received .86 1.06 .63 .435 .26
Net Realized and Unrealized Gain (Loss) on Investments .70 1.65 1.19 2.550 (.82)
----------------------------------------------
Total from Investment Operations 2.14 3.31 2.40 3.575 (.03)
----------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment Income (.58) (.59) (.59) (.590) (.52)
Distributions from Realized Capital Gains (.98) (1.20) (.98) (.565) (.25)
----------------------------------------------
Total Distributions (1.56) (1.79) (1.57) (1.155) (.77)
- -------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF YEAR $17.96 $17.38 $15.86 $15.03 $12.61
============================================================================================================
TOTAL RETURN 12.38% 21.15% 16.11% 28.64% -0.21%
=============================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Year (Millions) $8,083 $7,355 $5,863 $4,842 $3,766
Ratio of Total Expenses to Average Net Assets--Note B 0% 0% 0% 0% 0%
Ratio of Net Investment Income to Average Net Assets 3.18% 3.46% 3.71% 4.12% 4.01%
Portfolio Turnover Rate 16% 15% 18% 13% 9%
=============================================================================================================
</TABLE>
14
<PAGE> 17
NOTES TO FINANCIAL STATEMENTS
Vanguard STAR Fund is registered under the Investment Company Act of 1940 as an
open-end investment company, or mutual fund. The fund follows a balanced
investment strategy by investing in selected Vanguard funds. The fund invests
60% to 70% of its net assets in U.S. stock funds (predominantly
large-capitalization value stock funds), 20% to 30% in bond funds, and about
10% in a money market fund.
A. The following significant accounting policies conform to generally accepted
accounting principles for mutual funds. The fund consistently follows such
policies in preparing its financial statements.
1. VALUATION: Investments are valued at the net asset value of each
Vanguard fund determined as of the close of the New York Stock Exchange
(generally 4:00 p.m. Eastern time) on the valuation date. Temporary cash
investments are valued at cost, which approximates market value.
2. FEDERAL INCOME TAXES: The fund 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.
3. DISTRIBUTIONS: Distributions to shareholders are recorded on the
ex-dividend date.
4. REPURCHASE AGREEMENTS: The fund, 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. OTHER: Income and capital gain distributions received are 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. Under a special service agreement, The Vanguard Group furnishes corporate
management, administrative, marketing, and distribution services to the fund.
The special service agreement provides that Vanguard will reimburse the fund's
expenses to the extent of savings in administrative and marketing costs
realized by Vanguard in the operation of the fund. Accordingly, all expenses
incurred by the fund during the year ended December 31, 1998, were reimbursed
by Vanguard. The fund's Trustees and officers are also Directors and officers
of Vanguard and the funds in which the fund invests.
C. During the year ended December 31, 1998, the fund purchased $1,490,443,000
of investment securities and sold $1,091,333,000 of investment securities other
than money market fund and temporary cash investments.
D. At December 31, 1998, unrealized appreciation of investment securities for
financial reporting and federal income tax purposes was $1,849,015,000,
consisting entirely of unrealized gains on securities that had risen in value
since their purchase.
15
<PAGE> 18
REPORT OF INDEPENDENT
ACCOUNTANTS
[PHOTO]
To the Shareholders and
Trustees of Vanguard STAR Fund
In our opinion, the accompanying statement of net assets and the related
statements of operations and of changes in net assets and the financial
highlights present fairly, in all material respects, the financial position of
Vanguard STAR Fund (the "Fund") at December 31, 1998, the results of its
operations for the year then ended, the changes in its net assets for each of
the two years in the period then ended and the financial highlights for each of
the five years in the period then ended, in conformity with generally accepted
accounting principles. These financial statements and financial highlights
(hereafter referred to as "financial statements") are the responsibility of the
Fund's management; our responsibility is to express an opinion on these
financial statements based on our audits. We conducted our audits of these
financial statements in accordance with generally accepted auditing standards
which require that we plan and perform the audit to obtain reasonable assurance
about whether the financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits, which included
confirmation of securities at December 31, 1998 by correspondence with the
custodian, provide a reasonable basis for the opinion expressed above.
PricewaterhouseCoopers LLP
Thirty South Seventeenth Street
Philadelphia, Pennsylvania 19103
February 2, 1999
SPECIAL 1998 TAX INFORMATION (UNAUDITED) FOR VANGUARD STAR FUND
This information for the fiscal year ended December 31, 1998, is included
pursuant to provisions of the Internal Revenue Code.
The fund distributed $345,086,000 as capital gain dividends (from net
long-term capital gains) to shareholders during the fiscal year ended December
31, 1998, all of which is desig-nated as a 20% rate gain distribution.
For corporate shareholders, 20.8% of investment income (dividend income plus
short-term gains, if any) qualifies for the dividends-received deduction.
16
<PAGE> 19
TRUSTEES AND OFFICERS
JOHN C. BOGLE
Founder, Senior Chairman of the Board, and Director/Trustee of The Vanguard
Group, Inc., and each of the investment companies in The Vanguard Group.
JOHN J. BRENNAN
Chairman of the Board, Chief Executive Officer, and Director/Trustee of The
Vanguard Group, Inc., and 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.
JOANN HEFFERNAN HEISEN
Vice President, Chief Information Officer, and a member of the Executive
Committee of Johnson & Johnson; Director of Johnson & Johnson-Merck Consumer
Pharmaceuticals Co., Women First HealthCare, Inc., Recording for the Blind and
Dyslexic, The Medical Center at Princeton, and Women's Research and Education
Institute.
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, Banco Bilbao Gestinova, 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.,
NACCO Industries, and Newfield Exploration Co.
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.
THOMAS J. HIGGINS
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> 20
VANGUARD
MILESTONES
[GRAPHIC]
The Vanguard Group is
named for HMS Vanguard,
Admiral Horatio Nelson's flagship
at the Battle of the Nile on
August 1, 1798. Our founder,
John C. Bogle, chose the name
after reading Nelson's inspiring
tribute to his fleet: "Nothing could
withstand the squadron . . .
with the judgment of the captains,
together with their valour, and that
of the officers and men of every
description, it was absolutely irresistible."
[GRAPHIC]
Walter L. Morgan, founder of
Wellington Fund, the nation's
oldest balanced mutual fund
and forerunner of today's family
of some 100 Vanguard funds,
celebrated his 100th birthday on
July 23, 1998. Mr. Morgan,
a true investment pioneer, died
six weeks later on September 2.
[GRAPHIC]
Wellington Fund,
The Vanguard Group's oldest fund,
was incorporated by Mr. Morgan
70 years ago, on December 28, 1928.
The fund was named after
the Duke of Wellington,
whose forces defeated
Napoleon Bonaparte at the
Battle of Waterloo in 1815.
[THE VANGUARD GROUP LOGO]
Post Office Box 2600
Valley Forge, Pennsylvania 19482
FUND INFORMATION
1-800-662-7447
INDIVIDUAL ACCOUNT SERVICES
1-800-662-2739
INSTITUTIONAL INVESTOR SERVICES
1-800-523-1036
www.vanguard.com
[email protected]
All Vanguard funds are offered by prospectus only. Prospectuses contain more
complete information on advisory fees, distribution charges, and other expenses
and should be read carefully before you invest or send money. Prospectuses can
be obtained directly from The Vanguard Group.
Q560-02/11/1999
(C) 1999 Vanguard Marketing Corporation, Distributor. All rights reserved.
<PAGE> 21
VANGUARD
LIFESTRATEGY FUNDS
VANGUARD LIFESTRATEGY INCOME FUND
VANGUARD LIFESTRATEGY CONSERVATIVE
GROWTH FUND
VANGUARD LIFESTRATEGY MODERATE
GROWTH FUND
VANGUARD LIFESTRATEGY GROWTH FUND
[PHOTO]
ANNUAL
REPORT
DECEMBER 31, 1998
[THE VANGUARD GROUP LOGO]
<PAGE> 22
AT VANGUARD, WE BELIEVE THAT TRADITION MATTERS
Our 8,000 crew members embrace the traditional values on which our success is
built, including integrity, hard work, thrift, teamwork, and fair dealing on
behalf of our clients.
This year, our report cover pays homage to three anniversaries, each of great
significance to The Vanguard Group:
- - The 200th anniversary of the Battle of the Nile, which commenced on August 1,
1798. HMS Vanguard, the victorious British flagship at the Nile, is our
namesake. And its motto--"Leading the way"--serves as a guiding principle for
our company.
- - The 100th birthday, on July 23, of Walter L. Morgan, founder of Wellington
Fund, the oldest member of what became The Vanguard Group. Mr. Morgan was
friend and mentor to Vanguard founder John C. Bogle, and helped to shape the
standards and business principles that Mr. Bogle laid down for Vanguard at
its beginning nearly 25 years ago: a stress on balanced, diversified
investments; insistence on fair dealing and candor with clients; and a focus
on long-term investing. To our great regret, Mr. Morgan died on September 2.
- - The 70th anniversary, on December 28, of the incorporation of Vanguard
Wellington Fund. It is the nation's oldest balanced mutual fund, and one of
only a handful of funds created in the 1920s that are still in operation.
Although Vanguard constantly tackles new challenges, adopts new technology, and
develops new services, we treasure the traditions and values that set us apart
in a crowded, competitive industry. And we salute our shareholders, whose
support and trust we strive to earn each and every day.
[PHOTO]
CONTENTS
A MESSAGE TO
OUR SHAREHOLDERS
1
THE MARKETS IN
PERSPECTIVE
6
PERFORMANCE SUMMARIES
8
FUND PROFILES
12
FINANCIAL STATEMENTS
17
REPORT OF
INDEPENDENT ACCOUNTANTS
30
All comparative mutual fund data
are from Lipper or Morningstar,
unless otherwise noted.
<PAGE> 23
FELLOW SHAREHOLDER,
[PHOTO] [PHOTO]
John J. Brennan John C. Bogle
Chairman & CEO Senior Chairman
The four Vanguard LifeStrategy Funds provided excellent returns during 1998, a
tumultuous year for the stock and bond markets. Our returns ranged from +13.2%
for the Income Fund (which holds about 80% of its assets in bonds) to +21.4% for
the Growth Fund (which holds about 80% of its assets in stocks).
<TABLE>
<CAPTION>
- -----------------------------------------------------
TOTAL RETURNS
YEAR ENDED
DECEMBER 31, 1998
- -----------------------------------------------------
<S> <C>
LIFESTRATEGY INCOME +13.2%
Income Composite Index* +11.2
- -----------------------------------------------------
LIFESTRATEGY CONSERVATIVE GROWTH +15.9%
Conservative Growth Composite Index* +14.2
- -----------------------------------------------------
LIFESTRATEGY MODERATE GROWTH +19.0%
Moderate Growth Composite Index* +17.8
- -----------------------------------------------------
LIFESTRATEGY GROWTH +21.4%
Growth Composite Index* +20.5
- -----------------------------------------------------
</TABLE>
*Total returns for the composite indexes are derived by applying the fund's
target allocation to the results of the following benchmarks: for U.S. stocks,
the Wilshire 5000 Equity Index; for international stocks, the Total
International Composite Index; for bonds, the Lehman Brothers Aggregate Bond
Index; and for cash reserves, the Salomon Smith Barney 3-Month U.S. Treasury
Bill Index.
The adjacent table shows the total return (capital change plus reinvested
dividends) of each fund for the year. Also shown are the results of the
composite indexes that are benchmarks for the funds. These composites are
constructed from unmanaged indexes in proportions that match the target
asset-class weightings of the respective funds. Each of our funds outgained its
composite index.
Detailed per-share figures, including net asset values at the beginning
and end of the year, income dividends, and capital gains distributions, are
presented along with each fund's yield as of December 31, 1998, in the table on
page 5. As you know, the LifeStrategy Funds are "funds of funds" that invest in
up to five underlying Vanguard funds. The value of each LifeStrategy Fund's
year-end holdings is listed in the Financial Statements beginning on page 17.
FINANCIAL MARKETS IN REVIEW
The U.S. economy grew at a robust pace--more than 3%--during 1998 as it shrugged
off the effects of serious financial problems in Asia, Russia, and Latin
America. Troubles abroad slowed demand for American exports and boosted demand
for imported goods, increasing the U.S. trade deficit. But the domestic economy
got a powerful push from higher consumer spending, which was encouraged by low
unemployment (4.3% at year-end) and higher wages (up about 4%, well above the
1.6% inflation rate).
The optimism that kept shopping malls and automobile showrooms busy was
also a factor in the financial markets. Stock prices shot up during the first
half of the year, despite news that corporate earnings actually declined
slightly, and by July 17 the Standard & Poor's 500 Composite Stock Price Index
had gained 23.3%. But fears that Asia's financial troubles were spreading
worldwide touched off a sharp decline: Over the following six weeks, the S&P 500
Index fell -19.2%. Declines were much steeper for smaller stocks: The Russell
2000 Index of small-capitalization stocks declined nearly -40% from its
mid-April peak to its low in October.
The stock market then revived with remarkable speed and vigor. By
year-end, the S&P 500 Index was again in record territory, having gained +28.6%
for the year. This
1
<PAGE> 24
result, however, masked weakness elsewhere in the market. The Wilshire 4500
Equity Index, which comprises stocks not included in the S&P 500, gained just
+8.6%, while the small-cap Russell 2000 Index declined -2.5%. In all, more
stocks declined in price than rose. Among large-cap stocks, there was a huge gap
between returns on growth and value stocks: The S&P 500's growth component
gained +42.2% during the year, nearly three times the +14.7% return on its value
stocks.
Interest rates declined on balance during 1998, and bond prices, which
move in the opposite direction from interest rates, generally rose. Price
appreciation accounted for 2 percentage points of the +8.7% total return of the
Lehman Aggregate Bond Index. Rates fell furthest--roughly 1 percentage
point--for U.S. Treasury securities. Treasury bond prices benefited from a
"flight to quality" as many investors shunned riskier securities. Prices of
high-yield, or "junk," bonds generally declined as investors reexamined their
willingness to assume greater risk.
FISCAL 1998 PERFORMANCE OVERVIEW
The LifeStrategy Funds apply a balanced approach to investing in stocks and
bonds (and in cash instruments, when deemed appropriate by the adviser of the
underlying Asset Allocation Fund). Each LifeStrategy Fund holds a different mix
of stocks and bonds, giving it a proportionally greater or lesser emphasis on
current income and growth of capital. During 1998, the funds benefited from the
U.S. stock market's continuing rise and from bond and money market returns that
were well in excess of inflation. All the Vanguard funds held by the
LifeStrategy Funds earned positive returns, ranging from +6.6% for the
Short-Term Corporate Fund (held by the LifeStrategy Income and Conservative
Growth Funds) to +25.4% for the Asset Allocation Fund, in which each
LifeStrategy Fund invests 25% of its assets. The other underlying Vanguard funds
are the Total Bond Market Index Fund (which earned +8.6%), Total International
Stock Index Fund (+15.6%), and Total Stock Market Index Fund (+23.3%).
Each LifeStrategy Fund invests a fixed proportion of its assets in four
or five of these underlying funds to reach its target allocation of stocks and
bonds. This target allocation, as shown in the following table, assumes that the
Asset Allocation Fund holds a mixture of 60% stocks and 40% bonds. However, the
adviser of the Asset Allocation Fund changes its asset mix periodically, causing
the actual holdings of each LifeStrategy Fund to vary moderately from the target
proportions. During 1998, the Asset Allocation Fund's stock holdings varied from
50% to 80% of assets. These allocation shifts proved beneficial: The Asset
Allocation Fund's +25.4% return was 2.8 percentage points higher than the +22.6%
return that would have resulted from fixed weightings of 60% in the S&P 500
Index and 40% in long-term U.S. Treasury bonds.
<TABLE>
<CAPTION>
TARGET AND ACTUAL ASSET ALLOCATIONS (DECEMBER 31, 1998)
- --------------------------------------------------------------------------------------------------------------
STOCKS* BONDS RESERVES
------------------------ ------------------------- ------------------------
LIFESTRATEGY FUND TARGET ACTUAL TARGET ACTUAL TARGET ACTUAL
- --------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Income 20% 21% 80% 79% 0% 0%
Conservative Growth 40 41 60 59 0 0
Moderate Growth 60 61 40 39 0 0
Growth 80 80 20 20 0 0
- --------------------------------------------------------------------------------------------------------------
</TABLE>
*International stock positions for the Income, Conservative Growth, Moderate
Growth, and Growth Funds equal, respectively, 0%, 5%, 10%, and 15% of assets.
2
<PAGE> 25
One premise of balanced funds is that by blending investments in stocks
and bonds, whose returns are not precisely synchronized, the investor is
somewhat cushioned against the volatility of financial markets. This theory
worked in practice for LifeStrategy shareholders during 1998. During the stock
market's advances, our funds' returns were lower than those of an all-stock
portfolio. But from July 17 to August 31, when the S&P 500 Index tumbled -19.2%,
the LifeStrategy Funds experienced smaller declines: -2.7% for the Income Fund,
- -7.3% for the Conservative Growth Fund, -11.6% for the Moderate Growth Fund, and
- -15.8% for the Growth Fund. Our funds allow investors to select a trade-off of
potential risk and reward that suits their own financial situation and tolerance
for market fluctuations.
With respect to stocks, the LifeStrategy Funds are well represented in
the large-cap arena that has dominated recent U.S. market performance. The stock
holdings of the Asset Allocation Fund mimic the large-cap-dominated S&P 500
Index. Each LifeStrategy Fund also invests in the Total Stock Market Index Fund,
which tracks the Wilshire 5000 Index. S&P 500 stocks account for more than 70%
of the value of the Wilshire 5000 Index, with mid- and small-cap stocks
accounting for the remainder and providing additional diversification. Three of
the LifeStrategy Funds--Conservative Growth, Moderate Growth, and Growth--also
invest in international stocks through the Total International Stock Index Fund.
Its advance of +15.6% during the year was a solid outcome, if less than U.S.
stocks. International markets often perform differently from U.S. markets, and
at times provide significantly better or worse returns.
The fixed-income portions of the LifeStrategy Funds--the Short-Term
Corporate Fund and the Total Bond Market Index Fund--provided returns that
outpaced those of comparable bond funds during the year. The diversification
benefit of bonds was most apparent during August, when stocks suffered their
sharpest declines while positive total returns in the +1% to +2% range were
achieved by the Short-Term Corporate and the Total Bond Market Index Funds.
Using index funds for most of our investments helps to keep costs low.
The LifeStrategy Funds incur no direct expenses, but they do share in the
expenses of the underlying funds. Operating expenses of the underlying funds,
weighted to reflect their roles in the LifeStrategy Funds, amounted to 0.29% of
average net assets during 1998, more than a full percentage point below the
1.31% average expense ratio for similarly targeted mutual funds. Because they
follow a buy-and-hold imperative, index funds typically have lower turnover
rates and incur lower transaction costs than actively managed funds.
These low costs and the value added through the allocation shifts in the
Asset Allocation Fund were key factors in the truly extraordinary margin of
superiority that each LifeStrategy Fund enjoyed during 1998 versus a comparable
mutual fund benchmark. An additional factor is a greater bias in our underlying
index funds toward large-cap stocks than among competing general-equity mutual
funds. The adjacent table tells the tale.
<TABLE>
<CAPTION>
- -----------------------------------------------------------------
TOTAL RETURNS
YEAR ENDED DECEMBER 31, 1998
---------------------------------------
VANGUARD MUTUAL FUND
LIFESTRATEGY FUND FUND BENCHMARK* DIFFERENCE
- -----------------------------------------------------------------
<S> <C> <C> <C>
Income +13.2% + 7.6% +5.6%
Conservative Growth +15.9 + 9.4 +6.5
Moderate Growth +19.0 +11.2 +7.8
Growth +21.4 +12.5 +8.9
- -----------------------------------------------------------------
</TABLE>
*Each benchmark is a blended composite that weights the average comparable
mutual fund for each asset class in proportion with the target weighting of the
LifeStrategy fund.
LIFETIME PERFORMANCE OVERVIEW
Although they are only a little more than four years old, the Vanguard
3
<PAGE> 26
LifeStrategy Funds have established solid track records both in terms of
absolute returns and in comparison with their competitive standards: other
mutual funds of their type and the relevant composite indexes.
<TABLE>
<CAPTION>
TOTAL RETURNS
SEP. 30, 1994, TO DEC. 31, 1998
-------------------------------
AVERAGE FINAL VALUE OF
ANNUAL A $10,000
RATE INITIAL INVESTMENT
- --------------------------------------------------------------------
<S> <C> <C>
LIFESTRATEGY INCOME +13.5% $17,150
Mutual Fund Benchmark + 9.8 14,869
Income Composite Index +11.9 16,135
- --------------------------------------------------------------------
LIFESTRATEGY CONSERVATIVE GROWTH +15.7% $18,592
Mutual Fund Benchmark +11.7 15,980
Conservative Growth
Composite Index +14.4 17,698
- --------------------------------------------------------------------
LIFESTRATEGY MODERATE GROWTH +18.3% $20,414
Mutual Fund Benchmark +14.1 17,511
Moderate Growth Composite Index +17.7 19,988
- --------------------------------------------------------------------
LifeStrategy Growth +20.5% $22,117
Mutual Fund Benchmark +15.9 18,698
Growth Composite Index +20.1 21,780
- --------------------------------------------------------------------
</TABLE>
The adjacent table presents the returns earned by each of our
LifeStrategy Funds since their inception on September 30, 1994, and shows how an
initial investment of $10,000 in each fund would have grown, assuming
reinvestment of income dividends and capital gains distributions. It presents
the same information for the composite mutual fund benchmark and composite index
appropriate to each LifeStrategy Fund. As the table shows, we have earned, on
average, 3.7 to 4.6 percentage points more per year than the averages for peer
funds. Such margins add up to significant sums. For example, an investment of
$10,000 in the Growth Fund on September 30, 1994, would have grown to $22,117,
compared with $18,698 for the average competitor. The difference of $3,419 in
the ending value of the two hypothetical $10,000 investments is a margin of more
than one-third the original stake.
We emphasize that investors should not regard the lifetime results of our
LifeStrategy Funds as typical, either in an absolute sense or relative to other
funds. Financial market returns have been extraordinarily generous during the
past four years, and it would not be prudent to expect returns to continue at
such high levels indefinitely. Also, part of the wide margins of superiority we
have achieved versus the composite fund averages stemmed from the U.S. stock
market's bias toward large-cap stocks during the past four years. The typical
equity mutual fund has a larger proportion of its assets invested in mid- and
small-cap stocks than do either the Asset Allocation Fund or the Total Stock
Market Index Fund. Since the LifeStrategy Funds began operations, large-cap
stocks have led the market's advance. We would expect smaller stocks to be the
market's leaders during other periods.
While we are grateful for the markets' generosity in recent years, it
creates two potential dangers. The first is that investors may have unrealistic
expectations for future returns. Investors who base plans on the assumption that
high returns will continue may fall well short of their financial goals if
returns revert to lower levels. The second danger is that investors may
underestimate the risks that are part of investing. While returns have been
positive for each LifeStrategy Fund in each of the past four years, the stock
and bond markets are capable of producing steep declines. Investors who
understand that downturns will occur, and are a risk that must be endured in
pursuit of investment rewards, may find it easier to stay on an even keel when
the seas get stormy.
IN SUMMARY
The advantages of a balanced investment approach were amply demonstrated during
1998. Investors who held a mix of stock funds, bond funds, and money market
funds participated
4
<PAGE> 27
in the markets' bounty, but were spared a measure of the anxiety felt during the
midyear downturn in stocks.
We have always believed that investors are well served by selecting a mix
of stocks, bonds, and cash reserves appropriate to their investment time
horizon, goals, and risk tolerance, and then sticking with their plan. The
Vanguard LifeStrategy Funds embody this approach, and we will "stay the course"
in implementing it.
/s/ JOHN C. BOGLE /s/ JOHN J. BRENNAN
John C. Bogle John J. Brennan
Senior Chairman Chairman and
Chief Executive Officer
January 13, 1999
NOTE: You'll observe that we have made a minor change in the name of each of the
Vanguard LifeStrategy Funds. We replaced "portfolio" with "fund" as part of a
broader effort to clarify the names in our fund lineup.
<TABLE>
<CAPTION>
FUND STATISTICS
- ------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE PER SHARE 12 MONTHS
---------------------------------- -------------------------------
DECEMBER 31, DECEMBER 31, INCOME CAPITAL GAINS SEC
LIFESTRATEGY FUND 1997 1998 DIVIDENDS DISTRIBUTIONS YIELD*
- ------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Income $12.43 $13.22 $0.63 $0.19 5.01%
Conservative Growth 13.40 14.71 0.59 0.20 4.08
Moderate Growth 14.81 16.86 0.51 0.245 3.13
Growth 16.04 18.79 0.41 0.265 2.21
- ------------------------------------------------------------------------------------------------------------------------
</TABLE>
*30-day advertised yield net of expenses at month-end.
5
<PAGE> 28
THE MARKETS IN PERSPECTIVE
YEAR ENDED DECEMBER 31, 1998
[PHOTO]
Financial markets continued to produce solid overall gains during 1998. After
overcoming a sharp, six-week setback in July and August, the S&P 500 Index
gained 28.6% for the year, marking the first time the index had produced returns
of 20% or more in four consecutive years. Bond prices rose as interest rates
generally declined over the year. Returns from overseas stock markets varied
widely, with big gains in Europe, small gains in the Pacific, and losses in most
emerging markets.
U.S. STOCK MARKETS
Large-capitalization stocks--especially those of large growth companies--were
the best performers during 1998. The 50 largest stocks within the S&P 500 Index
earned more than 40%, while the return of the other 450 stocks was less than
17%. The stock market as a whole, as measured by the Wilshire 5000 Equity Index,
earned 23.4%. Small-cap stocks, represented by the Russell 2000 Index, declined
2.5% for the year.
The huge gap between returns of large and small stocks was not the only
oddity during the year. Among large stocks there also was a large disparity in
performance between growth and value stocks. Within the S&P 500 Index, growth
stocks rose 42.2%, while value stocks were up 14.7%. The gap of 27.5 percentage
points is the largest in the 23 years that the growth and value components have
been tracked.
<TABLE>
<CAPTION>
AVERAGE ANNUALIZED RETURNS
PERIODS ENDED DECEMBER 31, 1998
-----------------------------------
1 YEAR 3 YEARS 5 YEARS
- ------------------------------------------------------------------------------
<S> <C> <C> <C>
STOCKS
S&P 500 Index 28.6% 28.2% 24.1%
Russell 2000 Index -2.5 11.6 11.9
MSCI EAFE Index 20.3 9.3 9.5
- ------------------------------------------------------------------------------
BONDS
Lehman Aggregate Bond Index 8.7% 7.3% 7.3%
Lehman 10 Year Municipal Bond Index 6.8 6.8 6.4
Salomon Smith Barney 3-Month
U.S. Treasury Bill Index 5.1 5.2 5.1
- ------------------------------------------------------------------------------
OTHER
Consumer Price Index 1.6% 2.2% 2.4%
- ------------------------------------------------------------------------------
</TABLE>
Stocks rose strongly during the first half of the year. But after hitting
a then-record high on July 17, the S&P 500 Index fell by 19.2% during the
following six weeks. Declines were steeper for most smaller stocks. The Russell
2000 Index fell nearly 40% from its peak in April before climbing back during
the fourth quarter.
The summer slump in stock prices reflected several factors that raised
anxiety among investors and prompted a reconsideration of risk that extended
past stocks to bonds. Among these factors were deteriorating corporate earnings;
Russia's default on its debts; sharp swings in currency exchange rates; and
lingering economic weakness in Asia.
Although these sources of uncertainty remained as the year went on, many
investors reacted not by abandoning stocks, but by selecting large, well-known
stocks they perceived as reliable vehicles for long-term growth. The strong
rebound in prices during the fourth quarter was due in large part to the calming
influence on jittery markets of the Federal Reserve Board's decision to cut
short-term interest rates by 0.75 percentage point.
6
<PAGE> 29
Technology stocks led the market's advance during 1998, rising 83%.
Investors were attracted by rapid revenue growth and a belief that consumers and
businesses will keep spending freely on computers, software, and computer
services. Speculation also played a role in the surge. Burgeoning activity on
the Internet sent many stocks, even those with no hint of profitability,
skyrocketing. The bulge in Internet stock prices prompted comparisons with such
historic asset "bubbles" as Japan's stock market in the late 1980s and the
tulip-bulb mania in Holland in the 1630s.
Health care and utilities, especially telecommunications providers, also
soared, achieving returns of more than 43%. Both sectors benefited from rising
demand for their products and a perception that they are somewhat protected from
foreign economic troubles and foreign competition. Consumer-related stocks such
as retailers also did well, reflecting strength in consumer spending. Americans
spent almost every after-tax dollar they earned during 1998. Jobs were abundant;
unemployment fell to 4.3% by year-end.
The worst-performing groups were two directly harmed by falling commodity
prices: oil drilling and services firms in the "other energy" category (-36%)
and materials & processing firms (-1%), such as paper, steel, and chemical
makers. Producer-durables companies, such as machinery and aircraft makers, eked
out a 2% return as companies saw falling sales abroad and rising competition at
home from foreign firms.
U.S. BOND MARKETS
The fall in interest rates during 1998 was steepest for U.S. Treasury
securities, which benefited from heightened aversion to risk among investors and
from a slight decrease in supply, thanks to a $70 billion federal budget
surplus. The low inflation rate--consumer prices were up just 1.6%--gave the
Federal Reserve the flexibility to cut short-term rates even though economic
growth was strong.
Yields on long-term Treasury issues fell by roughly 1 percentage point,
and the 30-year Treasury bond's yield was 5.09% on December 31. Lower rates mean
higher bond prices, and the Lehman Brothers Long U.S. Treasury Index earned a
total return of 13.5%, an astounding margin of nearly 12 percentage points over
the inflation rate.
Bonds lacking the unquestioned credit quality of Treasuries did not fare
as well, reflecting a repricing of risk and a "flight to quality" by investors
who began to feel they had been underestimating risk. One result was price
declines that nearly offset the interest earned on high-yield "junk" bonds.
However, high-quality corporate bonds and mortgage-backed securities generally
held up well. The Lehman Aggregate Bond Index, which encompasses Treasury,
mortgage, and high-quality corporate securities and has an intermediate-term
average maturity, earned a solid 8.7%.
Yields on long-term municipal bonds declined only slightly during the
year, and by December 31 were only a tad lower than yields on long-term
Treasuries. This was striking because the interest on municipals is exempt from
federal income tax.
INTERNATIONAL STOCK MARKETS
Europe's stock markets beat even the S&P 500 Index's gaudy return, gaining 28.7%
in U.S.-dollar terms, with about 5% of the gain due to a fall in the dollar
versus most European currencies. Pacific-region stocks rose 2.6%, although it
took a fall in the dollar's value versus the Japanese yen to overcome losses in
local-currency terms. Overall, developed international markets, as measured by
the MSCI EAFE Index, earned 20.3%.
Investors' confidence in emerging markets continued to evaporate in 1998,
and stocks in these markets fell about 25% as a group. The few bright spots
included South Korea (+141%) and the Philippines (+13%), which had suffered big
declines in 1997.
7
<PAGE> 30
PERFORMANCE SUMMARY
LIFESTRATEGY INCOME FUND
All of the data on this page represent past performance, which cannot be used to
predict future returns that may be achieved by the fund. Note, too, that both
share price and return can fluctuate widely, so an investment in the fund could
lose money.
<TABLE>
<CAPTION>
TOTAL INVESTMENT RETURNS: SEPTEMBER 30, 1994-DECEMBER 31, 1998
- --------------------------------------------------------------
LIFESTRATEGY INCOME FUND MUTUAL FUND
BENCHMARK*
FISCAL CAPITAL INCOME TOTAL TOTAL
YEAR RETURN RETURN RETURN RETURN
- --------------------------------------------------------------
<C> <C> <C> <C> <C>
1994 -1.2% 1.4% 0.2% -0.2%
1995 17.7 5.3 23.0 16.0
1996 1.9 5.7 7.6 7.5
1997 8.5 5.7 14.2 11.0
1998 7.9 5.3 13.2 7.6
- --------------------------------------------------------------
</TABLE>
*A composite fund average weighted 60% average fixed-income fund, 20% average
general equity fund, and 20% average money market fund.
See Financial Highlights table on page 25 for dividend and capital gains
information since the fund's inception.
<TABLE>
<CAPTION>
CUMULATIVE PERFORMANCE: SEPTEMBER 30, 1994-DECEMBER 31, 1998
- ----------------------------------------------------------------------
Income
Lipper Income Lehman
LifeStrategy Composite Composite Aggregate
Income Fund Average Index Bond Index
<S> <C> <C> <C> <C>
9/30/94 10000 10000 10000 10000
1994 12 10020 9984 10034 10038
1995 03 10618 10393 10545 10544
1995 06 11354 10910 11157 11186
1995 09 11780 11249 11522 11405
1995 12 12324 11583 11960 11891
1996 03 12323 11676 11996 11681
1996 06 12476 11857 12174 11747
1996 09 12739 12098 12414 11965
1996 12 13266 12447 12843 12324
1997 03 13276 12412 12851 12255
1997 06 14088 13063 13591 12704
1997 09 14700 13649 14167 13126
1997 12 15153 13814 14506 13512
1998 03 15800 14320 15058 13723
1998 06 16219 14489 15366 14044
1998 09 16356 14235 15437 14638
1998 12 17150 14869 16135 14,689
</TABLE>
<TABLE>
<CAPTION>
AVERAGE ANNUAL TOTAL RETURNS
PERIODS ENDED DECEMBER 31, 1998
-------------------------------- FINAL VALUE OF A
1 YEAR SINCE INCEPTION $10,000 INVESTMENT
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
LifeStrategy Income Fund 13.17% 13.53% $17,150
Mutual Fund Benchmark* 7.64 9.78 14,869
Income Composite Index** 11.22 11.91 16,135
Lehman Aggregate Bond Index 8.69 9.46 14,689
- ------------------------------------------------------------------------------------------------------------
</TABLE>
*Acomposite fund average weighted 60% average fixed-income fund, 20% average
general equity fund, and 20% average money market fund.
**60% Lehman Aggregate Bond Index, 20% Wilshire 5000 Index, and 20% Salomon
Smith Barney 3-Month Treasury Index.
<TABLE>
<CAPTION>
AVERAGE ANNUAL TOTAL RETURNS: PERIODS ENDED DECEMBER 31, 1998
- ---------------------------------------------------------------------------------------------------------
SINCE INCEPTION
INCEPTION --------------------------------
DATE 1 YEAR CAPITAL INCOME TOTAL
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
LifeStrategy Income Fund 9/30/1994 13.17% 8.00% 5.53% 13.53%
- ---------------------------------------------------------------------------------------------------------
</TABLE>
8
<PAGE> 31
PERFORMANCE SUMMARY
LIFESTRATEGY CONSERVATIVE GROWTH FUND
All of the data on this page represent past performance, which cannot be used to
predict future returns that may be achieved by the fund. Note, too, that both
share price and return can fluctuate widely, so an investment in the fund could
lose money.
<TABLE>
<CAPTION>
TOTAL INVESTMENT RETURNS: SEPTEMBER 30, 1994-DECEMBER 31, 1998
- --------------------------------------------------------------
LIFESTRATEGY CONSERVATIVE MUTUAL FUND
GROWTH FUND BENCHMARK*
FISCAL CAPITAL INCOME TOTAL TOTAL
YEAR RETURN RETURN RETURN RETURN
- --------------------------------------------------------------
<S> <C> <C> <C> <C>
1994 -1.3% 1.4% 0.1% -0.5%
1995 19.3 5.0 24.3 18.0
1996 5.6 4.8 10.4 10.0
1997 12.0 4.8 16.8 13.1
1998 11.3 4.6 15.9 9.4
- --------------------------------------------------------------
</TABLE>
*A composite fund average weighted 40% average fixed-income fund, 35% average
general equity fund, 20% average money market fund, and 5% average international
fund.
See Financial Highlights table on page 26 for dividend and capital gains
information since the fund's inception.
<TABLE>
<CAPTION>
CUMULATIVE PERFORMANCE: SEPTEMBER 30, 1994-DECEMBER 31, 1998
- -----------------------------------------------------------------------------------
Conservative
LifeStrategy Growth Lehman
Conservative Mutual Fund Composite Aggregate Wilshire 5000
Growth Benchmark Index Bond Index Index
<S> <C> <C> <C> <C> <C>
9/30/94 10000 10000 10000 10000 10000
1994 12 10010 9949 10011 10038 9922
1995 03 10618 10374 10566 10544 10816
1995 06 11371 10944 11202 11186 11828
1995 09 11897 11416 11702 11405 12908
1995 12 12447 11738 12158 11891 13536
1996 03 12617 11977 12358 11681 14304
1996 06 12854 12256 12621 11747 14939
1996 09 13137 12504 12878 11965 15355
1996 12 13736 12913 13389 12324 16414
1997 03 13768 12853 13417 12255 16507
1997 06 14942 13805 14513 12704 19296
1997 09 15680 14587 15242 13126 21191
1997 12 16044 14608 15498 13512 21560
1998 03 17098 15458 16459 13723 24427
1998 06 17509 15590 16775 14044 24885
1998 09 17081 14788 16295 14638 21901
1998 12 18592 15980 17698 14,689 26,602
</TABLE>
<TABLE>
<CAPTION>
AVERAGE ANNUAL TOTAL RETURNS
PERIODS ENDED DECEMBER 31, 1998
-------------------------------- FINAL VALUE OF A
1 YEAR SINCE INCEPTION $10,000 INVESTMENT
- -------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
LifeStrategy Conservative Growth Fund 15.88% 15.70% $18,592
Mutual Fund Benchmark* 9.39 11.66 15,980
Conservative Growth Composite Index** 14.19 14.37 17,698
Lehman Aggregate Bond Index 8.69 9.46 14,689
Wilshire 5000 Index 23.39 25.87 26,602
- -------------------------------------------------------------------------------------------------------------
</TABLE>
*A composite fund average weighted 40% average fixed-income fund, 35% average
general equity fund, 20% average money market fund, and 5% average
international fund.
**40% Lehman Aggregate Bond Index, 35% Wilshire 5000 Index, 20% Salomon
Smith Barney 3-Month Treasury Index, and 5% Total International Composite Index.
<TABLE>
<CAPTION>
AVERAGE ANNUAL TOTAL RETURNS: PERIODS ENDED DECEMBER 31, 1998
- -----------------------------------------------------------------------------------------------------------------
SINCE INCEPTION
INCEPTION ------------------------------
DATE 1 YEAR CAPITAL INCOME TOTAL
- -----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
LifeStrategy Conservative Growth Fund 9/30/1994 15.88% 10.85% 4.85% 15.70%
- -----------------------------------------------------------------------------------------------------------------
</TABLE>
9
<PAGE> 32
PERFORMANCE SUMMARY
LIFESTRATEGY MODERATE GROWTH FUND
All of the data on this page represent past performance, which cannot be used to
predict future returns that may be achieved by the fund. Note, too, that both
share price and return can fluctuate widely, so an investment in the fund could
lose money.
<TABLE>
<CAPTION>
TOTAL INVESTMENT RETURNS: SEPTEMBER 30, 1994-DECEMBER 31, 1998
- --------------------------------------------------------------
LIFESTRATEGY MODERATE MUTUAL FUND
GROWTH FUND BENCHMARK*
FISCAL CAPITAL INCOME TOTAL TOTAL
YEAR RETURN RETURN RETURN RETURN
- --------------------------------------------------------------
<S> <C> <C> <C> <C>
1994 -2.1% 1.4% -0.7% -1.1%
1995 24.1 3.8 27.9 22.1
1996 9.0 3.7 12.7 12.5
1997 15.9 3.9 19.8 16.0
1998 15.5 3.5 19.0 11.2
- --------------------------------------------------------------
</TABLE>
*A composite fund average weighted 50% average general equity fund, 40% average
fixed-income fund, and 10% average international fund.
See Financial Highlights table on page 26 for dividend and capital gains
information since the fund's inception.
<TABLE>
<CAPTION>
CUMULATIVE PERFORMANCE: SEPTEMBER 30, 1994-DECEMBER 31, 1998
- ------------------------------------------------------------------------------------------
Moderate
LifeStrategy Growth Lehman
Moderate Mutual Fund Composite Aggregate Wilshire 5000
Growth Fund Benchmark Index Bond Index Index
<S> <C> <C> <C> <C> <C>
9/30/94 10000 10000 10000 10000 10000
1994 12 9930 9886 9969 10038 9922
1995 03 10605 10378 10640 10544 10816
1995 06 11441 11079 11405 11186 11828
1995 09 12123 11705 12063 11405 12908
1995 12 12705 12070 12614 11891 13536
1996 03 12999 12414 12914 11681 14304
1996 06 13315 12786 13254 11747 14939
1996 09 13612 13061 13544 11965 15355
1996 12 14320 13579 14197 12324 16414
1997 03 14331 13453 14194 12255 16507
1997 06 15942 14802 15772 12704 19296
1997 09 16870 15872 16749 13126 21191
1997 12 17150 15754 16964 13512 21560
1998 03 18679 17032 18436 13723 24427
1998 06 19108 17136 18807 14044 24885
1998 09 18054 15684 17746 14638 21901
1998 12 20414 17511 19988 14,689 26,602
</TABLE>
<TABLE>
<CAPTION>
AVERAGE ANNUAL TOTAL RETURNS
PERIODS ENDED DECEMBER 31, 1998
-------------------------------- FINAL VALUE OF A
1 YEAR SINCE INCEPTION $10,000 INVESTMENT
- -----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
LifeStrategy Moderate Growth Fund 19.03% 18.27% $20,414
Mutual Fund Benchmark* 11.15 14.08 17,511
Moderate Growth Composite Index** 17.83 17.69 19,988
Lehman Aggregate Bond Index 8.69 9.46 14,689
Wilshire 5000 Index 23.39 25.87 26,602
- -----------------------------------------------------------------------------------------------------------
</TABLE>
* Acomposite fund average weighted 50% average general equity fund, 40% average
fixed-income fund, and 10% average international fund.
** 50% Wilshire 5000 Index, 40% Lehman Aggregate Bond Index, and 10% Total
International Composite Index.
<TABLE>
<CAPTION>
AVERAGE ANNUAL TOTAL RETURNS: PERIODS ENDED DECEMBER 31, 1998
- ---------------------------------------------------------------------------------------------------------------
SINCE INCEPTION
INCEPTION --------------------------------
DATE 1 YEAR CAPITAL INCOME TOTAL
- ---------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
LifeStrategy Moderate Growth Fund 9/30/1994 19.03% 14.41% 3.86% 18.27%
- ---------------------------------------------------------------------------------------------------------------
</TABLE>
10
<PAGE> 33
PERFORMANCE SUMMARY
LIFESTRATEGY GROWTH FUND
All of the data on this page represent past performance, which cannot be used to
predict future returns that may be achieved by the fund. Note, too, that both
share price and return can fluctuate widely, so an investment in the fund could
lose money.
<TABLE>
<CAPTION>
TOTAL INVESTMENT RETURNS: SEPTEMBER 30, 1994-DECEMBER 31, 1998
- --------------------------------------------------------------
LIFESTRATEGY GROWTH FUND MUTUAL FUND
BENCHMARK*
FISCAL CAPITAL INCOME TOTAL TOTAL
YEAR RETURN RETURN RETURN RETURN
- --------------------------------------------------------------
<S> <C> <C> <C> <C>
1994 -1.5% 1.4% -0.1% -1.5%
1995 26.0 3.2 29.2 24.1
1996 12.5 2.9 15.4 15.1
1997 19.4 2.9 22.3 18.1
1998 18.8 2.6 21.4 12.5
- --------------------------------------------------------------
</TABLE>
*A composite fund average weighted 65% average general equity fund, 20% average
fixed-income fund, and 15% average international fund.
See Financial Highlights table on page 27 for dividend and capital gains
information since the fund's inception.
<TABLE>
<CAPTION>
CUMULATIVE PERFORMANCE: SEPTEMBER 30, 1994-DECEMBER 31, 1998
- --------------------------------------------------------------------
Growth
LifeStrategy Mutual Fund Composite Wilshire 5000
Growth Fund Benchmark Index Index
<S> <C> <C> <C> <C>
9/30/94 10000 10000 10000 10000
1994 12 9990 9850 9944 9922
1995 03 10684 10357 10658 10816
1995 06 11539 11111 11447 11828
1995 09 12311 11874 12245 12908
1995 12 12911 12224 12814 13536
1996 03 13381 12725 13295 14304
1996 06 13789 13205 13729 14939
1996 09 14105 13481 14033 15355
1996 12 14901 14068 14782 16414
1997 03 14922 13911 14798 16507
1997 06 16970 15612 16812 19296
1997 09 18067 16923 17979 21191
1997 12 18218 16618 18077 21560
1998 03 20274 18329 20090 24427
1998 06 20683 18379 20467 24885
1998 09 18854 16199 18627 21901
1998 12 22117 18698 21780 26,602
</TABLE>
<TABLE>
<CAPTION>
AVERAGE ANNUAL TOTAL RETURNS
PERIODS ENDED DECEMBER 31, 1998
-------------------------------- FINAL VALUE OF A
1 YEAR SINCE INCEPTION $10,000 INVESTMENT
- --------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
LifeStrategy Growth Fund 21.40% 20.52% $22,117
Mutual Fund Benchmark* 12.52 15.86 18,698
Growth Composite Index** 20.48 20.09 21,780
Wilshire 5000 Index 23.39 25.87 26,602
- --------------------------------------------------------------------------------------------------
</TABLE>
* Acomposite fund average weighted 65% average general equity fund, 20% average
fixed-income fund, and 15% average international fund.
** 65% Wilshire 5000 Index, 20% Lehman Aggregate Bond Index, and 15% Total
International Composite Index.
<TABLE>
<CAPTION>
AVERAGE ANNUAL TOTAL RETURNS: PERIODS ENDED DECEMBER 31, 1998
- ----------------------------------------------------------------------------------------------------------
SINCE INCEPTION
INCEPTION -------------------------------
DATE 1 YEAR CAPITAL INCOME TOTAL
- ----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
LIFESTRATEGY GROWTH FUND 9/30/1994 21.40% 17.44% 3.08% 20.52%
- ----------------------------------------------------------------------------------------------------------
</TABLE>
11
<PAGE> 34
FUND PROFILE
LIFESTRATEGY INCOME FUND
This Profile provides a snapshot of the fund's characteristics as of December
31, 1998, including its allocations to various asset classes and to underlying
Vanguard funds. Key elements of this Profile are defined on page 13.
<TABLE>
<CAPTION>
FINANCIAL ATTRIBUTES
- -----------------------------------------
<S> <C>
Yield 5.0%
Expense Ratio 0%
Average Weighted Expense Ratio* 0.29%
</TABLE>
*For underlying funds.
<TABLE>
<CAPTION>
FUND ASSET ALLOCATION
- ----------------------------------------
<S> <C>
BONDS 79%
STOCKS 21%
</TABLE>
<TABLE>
<CAPTION>
VOLATILITY MEASURES
- --------------------------------------------------
LIFESTRATEGY LEHMAN
INCOME INDEX*
- --------------------------------------------------
<S> <C> <C>
R-Squared 0.68 1.00
Beta 0.24 1.00
</TABLE>
*Lehman Aggregate Bond Index.
<TABLE>
<CAPTION>
ALLOCATION TO UNDERLYING FUNDS
- ------------------------------------------------------
<S> <C>
Vanguard Asset Allocation Fund 25.6%
Vanguard Short-Term Corporate Fund 19.3
Vanguard Total Bond Market Index Fund 49.5
Vanguard Total Stock Market Index Fund 5.6
- ------------------------------------------------------
Total 100.0%
</TABLE>
EQUITY INVESTMENT FOCUS
- ----------------------------------
[GRAPH]
FIXED-INCOME INVESTMENT FOCUS
- ----------------------------------
[GRAPH]
12
<PAGE> 35
ALLOCATION TO UNDERLYING FUNDS. This table shows the distribution of investments
in underlying Vanguard funds.
AVERAGE WEIGHTED EXPENSE RATIO. Funds that invest in other Vanguard mutual funds
incur no direct expenses, but do bear their share of the operating,
administrative, and advisory expenses of the underlying funds. The average
weighted expense ratio is the average of these expense ratios, weighted in
proportion to the amount of the fund represented by each underlying fund.
BETA. A measure of the magnitude of a fund'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 fund 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%.
EQUITY INVESTMENT FOCUS. This grid indicates the focus of a fund's equity
holdings in terms of two attributes: market capitalization (large, medium, or
small) and relative valuation (growth, value, or a blend).
EXPENSE RATIO. The percentage of a fund's average net assets used to pay its
annual administrative and advisory expenses. These expenses directly reduce
returns to investors.
FIXED-INCOME INVESTMENT FOCUS. This grid indicates the focus of a fund's
fixed-income holdings in terms of two attributes: average maturity (short,
medium, or long) and average credit quality (Treasury/agency, investment-grade
corporate, or below investment-grade).
FUND ASSET ALLOCATION. This chart shows the proportions of a fund's holdings
allocated to different types of assets.
R-SQUARED. A measure of how much of a fund's past returns can be explained by
the returns from the overall market (or its benchmark index). If a fund's total
return were precisely synchronized with the overall market's return, its
R-squared would be 1.00. If a fund's returns bore no relationship to the
market's returns, its R-squared would be 0.
YIELD. A snapshot of a fund's income from interest and dividends. The yield,
expressed as a percentage of the fund's net asset value, is based on income
earned over the past 30 days and is annualized, or projected forward for the
coming year. The index yield is based on the current annualized rate of
dividends paid on stocks in the index.
13
<PAGE> 36
FUND PROFILE
LIFESTRATEGY CONSERVATIVE GROWTH FUND
This Profile provides a snapshot of the fund's characteristics as of December
31, 1998, including its allocations to various asset classes and to underlying
Vanguard funds. Key elements of this Profile are defined on page 13.
<TABLE>
<CAPTION>
FINANCIAL ATTRIBUTES
- -------------------------------------------
<S> <C>
Yield 4.1%
Expense Ratio 0%
Average Weighted Expense Ratio* 0.29%
</TABLE>
*For underlying funds.
<TABLE>
<CAPTION>
FUND ASSET ALLOCATION
- ----------------------------------------------
<S> <C>
BONDS 0.59%
STOCKS 0.41%
</TABLE>
<TABLE>
<CAPTION>
VOLATILITY MEASURES
- -----------------------------------------------------------
LIFESTRATEGY
CONSERVATIVE GROWTH S&P 500
- -----------------------------------------------------------
<S> <C> <C>
R-Squared 0.94 1.00
Beta 0.42 1.00
</TABLE>
<TABLE>
<CAPTION>
ALLOCATION TO UNDERLYING FUNDS
- -------------------------------------------------------
<S> <C>
Vanguard Asset Allocation Fund 25.1%
Vanguard Short-Term Corporate Fund 19.6
Vanguard Total Bond Market Index Fund 29.5
Vanguard Total International Stock
Index Fund 5.1
Vanguard Total Stock Market Index Fund 20.7
- -------------------------------------------------------
Total 100.0%
</TABLE>
EQUITY INVESTMENT FOCUS
- --------------------------------
[GRAPH]
FIXED-INCOME INVESTMENT FOCUS
- --------------------------------
[GRAPH]
14
<PAGE> 37
FUND PROFILE
LIFESTRATEGY MODERATE GROWTH FUND
This Profile provides a snapshot of the fund's characteristics as of December
31, 1998, including its allocations to various asset classes and to underlying
Vanguard funds. Key elements of this Profile are defined on page 13.
<TABLE>
<CAPTION>
FINANCIAL ATTRIBUTES
- --------------------------------------------
<S> <C>
Yield 3.1%
Expense Ratio 0%
Average Weighted Expense Ratio* 0.29%
</TABLE>
*For underlying funds.
<TABLE>
<CAPTION>
FUND ASSET ALLOCATION
- ------------------------------------------
<S> <C>
STOCKS 61%
BONDS 39%
</TABLE>
<TABLE>
<CAPTION>
VOLATILITY MEASURES
- ----------------------------------------------------------
LIFESTRATEGY
MODERATE GROWTH S&P 500
- ----------------------------------------------------------
<S> <C> <C>
R-Squared 0.98 1.00
Beta 0.60 1.00
</TABLE>
<TABLE>
<CAPTION>
ALLOCATION TO UNDERLYING FUNDS
- -------------------------------------------------------
<S> <C>
Vanguard Asset Allocation Fund 24.7%
Vanguard Total Bond Market Index Fund 29.5
Vanguard Total International Stock
Index Fund 10.1
Vanguard Total Stock Market Index Fund 35.7
- -------------------------------------------------------
Total 100.0%
</TABLE>
EQUITY INVESTMENT FOCUS
- --------------------------------
[GRAPH]
FIXED-INCOME INVESTMENT FOCUS
- --------------------------------
[GRAPH]
15
<PAGE> 38
FUND PROFILE
LIFESTRATEGY GROWTH FUND
This Profile provides a snapshot of the fund's characteristics as of December
31, 1998, including its allocations to various asset classes and to underlying
Vanguard funds. Key elements of this Profile are defined on page 13.
<TABLE>
<CAPTION>
FINANCIAL ATTRIBUTES
- ---------------------------------------------
<S> <C>
Yield 2.2%
Expense Ratio 0%
Average Weighted Expense Ratio* 0.29%
</TABLE>
*For underlying funds.
<TABLE>
<CAPTION>
FUND ASSET ALLOCATION
- ---------------------------------
<S> <C>
STOCKS 80%
BONDS 20%
</TABLE>
<TABLE>
<CAPTION>
VOLATILITY MEASURES
- ----------------------------------------------------------
LIFESTRATEGY
GROWTH S&P 500
- ----------------------------------------------------------
<S> <C> <C>
R-Squared 0.98 1.00
Beta 0.78 1.00
</TABLE>
<TABLE>
<CAPTION>
ALLOCATION TO UNDERLYING FUNDS
- -------------------------------------------------------
<S> <C>
Vanguard Asset Allocation Fund 24.7%
Vanguard Total Bond Market Index Fund 9.9
Vanguard Total International Stock
Index Fund 15.0
Vanguard Total Stock Market Index Fund 50.4
- -------------------------------------------------------
Total 100.0%
</TABLE>
EQUITY INVESTMENT FOCUS
- -----------------------------
[GRAPH]
FIXED-INCOME INVESTMENT FOCUS
- -------------------------------
[GRAPH]
16
<PAGE> 39
FINANCIAL STATEMENTS
DECEMBER 31, 1998
[PHOTO]
STATEMENT OF NET ASSETS
This Statement provides a detailed list of the fund's investments in shares of
each Vanguard fund, along with the value of each investment on the last day of
the reporting period. Other assets are added to, and liabilities are subtracted
from, the value of Total Investments to calculate the fund's Net Assets.
Finally, Net Assets are divided by the outstanding shares of the fund 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 fund'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 fund had available to distribute to shareholders as income dividends or
capital gains as of the statement date. 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 fund's investments and their cost,
and reflects the gains (losses) that would be realized if the fund were to sell
all of its investments at their statement-date values.
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------
MARKET
VALUE*
LIFESTRATEGY INCOME FUND SHARES (000)
- ------------------------------------------------------------------------------------------------------
<S> <C> <C>
INVESTMENT COMPANIES (100.5%)
- ------------------------------------------------------------------------------------------------------
STOCK FUND (5.7%)
Vanguard Total Stock Market Index Fund Investor Shares 928,494 $ 25,459
---------
BALANCED FUND (25.8%)
Vanguard Asset Allocation Fund 4,742,871 115,631
BOND FUNDS (69.0%)
Vanguard Total Bond Market Index Fund Investor Shares 21,710,859 222,971
Vanguard Short-Term Corporate Fund Investor Shares 8,009,988 86,828
---------
309,799
---------
- ------------------------------------------------------------------------------------------------------
TOTAL INVESTMENT COMPANIES
(COST $414,362) 450,889
- ------------------------------------------------------------------------------------------------------
<CAPTION>
FACE
AMOUNT
(000)
- ------------------------------------------------------------------------------------------------------
TEMPORARY CASH INVESTMENT (0.7%)
- ------------------------------------------------------------------------------------------------------
REPURCHASE AGREEMENT
Collateralized by U.S. Government Obligations in a Pooled Cash Account
4.76%, 1/4/1999
(COST $3,216) $3,216 3,216
- ------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS (101.2%)
(COST $417,578) 454,105
- ------------------------------------------------------------------------------------------------------
</TABLE>
17
<PAGE> 40
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------
MARKET
VALUE*
LIFESTRATEGY INCOME FUND (000)
- -------------------------------------------------------------------------------------------------------
<S> <C> <C>
OTHER ASSETS AND LIABILITIES (-1.2%)
- -------------------------------------------------------------------------------------------------------
Other Assets $ 2,986
Liabilities (8,194)
-----------
(5,208)
- -------------------------------------------------------------------------------------------------------
NET ASSETS (100%)
- -------------------------------------------------------------------------------------------------------
Applicable to 33,947,823 outstanding $ .001 par value shares of
beneficial interest (unlimited authorization) $448,897
=======================================================================================================
NET ASSET VALUE PER SHARE $13.22
=======================================================================================================
*See Note A in Notes to Financial Statements.
<CAPTION>
- -------------------------------------------------------------------------------------------------------
AT DECEMBER 31, 1998, NET ASSETS CONSISTED OF:
- -------------------------------------------------------------------------------------------------------
AMOUNT PER
(000) SHARE
- -------------------------------------------------------------------------------------------------------
Paid in Capital $412,498 $12.15
Undistributed Net Investment Income 37 --
Overdistributed Net Realized Gains (165) --
Unrealized Appreciation--Note D 36,527 1.07
=======================================================================================================
NET ASSETS $448,897 $13.22
=======================================================================================================
</TABLE>
18
<PAGE> 41
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------------------
MARKET
VALUE*
LIFESTRATEGY CONSERVATIVE GROWTH FUND SHARES (000)
- --------------------------------------------------------------------------------------------------------------
<S> <C> <C>
INVESTMENT COMPANIES (99.8%)
- --------------------------------------------------------------------------------------------------------------
STOCK FUNDS (25.8%)
Vanguard Total Stock Market Index Fund Investor Shares 10,660,062 $ 292,299
Vanguard Total International Stock Index Fund 6,485,012 72,567
------------
364,866
------------
BALANCED FUND (25.0%)
Vanguard Asset Allocation Fund 14,522,340 354,055
------------
BOND FUNDS (49.0%)
Vanguard Total Bond Market Index Fund Investor Shares 40,688,232 417,868
Vanguard Short-Term Corporate Fund Investor Shares 25,503,197 276,455
------------
694,323
------------
- --------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENT COMPANIES
(COST $1,229,554) 1,413,244
- --------------------------------------------------------------------------------------------------------------
<CAPTION>
FACE
AMOUNT
(000)
- --------------------------------------------------------------------------------------------------------------
TEMPORARY CASH INVESTMENT (0.2%)
- --------------------------------------------------------------------------------------------------------------
REPURCHASE AGREEMENT
Collateralized by U.S. Government Obligations in a Pooled Cash Account
4.76%, 1/4/1999
(Cost $3,330) $3,330 3,330
- --------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS (100.0%)
(COST $1,232,884) 1,416,574
- --------------------------------------------------------------------------------------------------------------
OTHER ASSETS AND LIABILITIES
- --------------------------------------------------------------------------------------------------------------
Other Assets 10,136
Liabilities (11,001)
------------
(865)
- --------------------------------------------------------------------------------------------------------------
NET ASSETS (100%)
- --------------------------------------------------------------------------------------------------------------
Applicable to 96,214,872 outstanding $.001 par value shares of beneficial interest
(unlimited authorization) $1,415,709
==============================================================================================================
NET ASSET VALUE PER SHARE $14.71
==============================================================================================================
*See Note A in Notes to Financial Statements.
<CAPTION>
- --------------------------------------------------------------------------------------------------------------
AT DECEMBER 31, 1998, NET ASSETS CONSISTED OF:
- --------------------------------------------------------------------------------------------------------------
AMOUNT PER
(000) SHARE
- --------------------------------------------------------------------------------------------------------------
Paid in Capital $1,232,692 $12.81
Overdistributed Net Investment Income (602) (.01)
Overdistributed Net Realized Gains (71) --
Unrealized Appreciation--Note D 183,690 1.91
==============================================================================================================
NET ASSETS $1,415,709 $14.71
==============================================================================================================
</TABLE>
19
<PAGE> 42
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------
MARKET
VALUE*
LIFESTRATEGY MODERATE GROWTH FUND SHARES (000)
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C>
INVESTMENT COMPANIES (99.9%)
- ----------------------------------------------------------------------------------------------------------------
STOCK FUNDS (45.7%)
Vanguard Total Stock Market Index Fund Investor Shares 28,634,694 $ 785,163
Vanguard Total International Stock Index Fund 19,760,234 221,117
------------
1,006,280
------------
BALANCED FUND (24.7%)
Vanguard Asset Allocation Fund 22,284,364 543,293
------------
BOND FUND (29.5%)
Vanguard Total Bond Market Index Fund Investor Shares 63,211,771 649,185
------------
- ----------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENT COMPANIES
(COST $1,793,040) 2,198,758
- ----------------------------------------------------------------------------------------------------------------
<CAPTION>
FACE
AMOUNT
(000)
- ----------------------------------------------------------------------------------------------------------------
TEMPORARY CASH INVESTMENT (0.1%)
- ----------------------------------------------------------------------------------------------------------------
REPURCHASE AGREEMENT
Collateralized by U.S. Government Obligations in a Pooled Cash Account
4.76%, 1/4/1999
(COST $3,235) $3,235 3,235
- ----------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS (100.0%)
(COST $1,796,275) 2,201,993
- ----------------------------------------------------------------------------------------------------------------
OTHER ASSETS AND LIABILITIES
- ----------------------------------------------------------------------------------------------------------------
Other Assets 15,131
Liabilities (15,180)
-----------
(49)
- ----------------------------------------------------------------------------------------------------------------
NET ASSETS (100%)
- ----------------------------------------------------------------------------------------------------------------
Applicable to 130,619,841 outstanding $.001 par value shares of beneficial interest
(unlimited authorization) $2,201,944
================================================================================================================
NET ASSET VALUE PER SHARE $16.86
================================================================================================================
*See Note A in Notes to Financial Statements.
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------
AT DECEMBER 31, 1998, NET ASSETS CONSISTED OF:
- ----------------------------------------------------------------------------------------------------------------
AMOUNT PER
(000) SHARE
- ----------------------------------------------------------------------------------------------------------------
Paid in Capital $1,797,077 $13.76
Overdistributed Net Investment Income (419) --
Overdistributed Net Realized Gains (432) --
Unrealized Appreciation--Note D 405,718 3.10
================================================================================================================
NET ASSETS $2,201,944 $16.86
================================================================================================================
</TABLE>
20
<PAGE> 43
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------
MARKET
VALUE*
LIFESTRATEGY GROWTH FUND SHARES (000)
- ------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
INVESTMENT COMPANIES (100.0%)
- ------------------------------------------------------------------------------------------------------------------
STOCK FUNDS (65.4%)
Vanguard Total Stock Market Index Fund Investor Shares 35,371,618 $ 969,890
Vanguard Total International Stock Index Fund 25,847,285 289,231
------------
1,259,121
------------
BALANCED FUND (24.7%)
Vanguard Asset Allocation Fund 19,496,994 475,337
------------
BOND FUND (9.9%)
Vanguard Total Bond Market Index Fund Investor Shares 18,504,418 190,040
------------
- ------------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENT COMPANIES
(COST $1,499,236) 1,924,498
- ------------------------------------------------------------------------------------------------------------------
<CAPTION>
FACE
AMOUNT
(000)
- ------------------------------------------------------------------------------------------------------------------
TEMPORARY CASH INVESTMENT (0.1%)
- ------------------------------------------------------------------------------------------------------------------
REPURCHASE AGREEMENT
Collateralized by U.S. Government Obligations in a Pooled Cash Account
4.76%, 1/4/1999
(COST $2,328) $2,328 2,328
- ------------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS (100.1%)
(COST $1,501,564) 1,926,826
- ------------------------------------------------------------------------------------------------------------------
OTHER ASSETS AND LIABILITIES (-0.1%)
- ------------------------------------------------------------------------------------------------------------------
Other Assets 8,828
Liabilities (11,532)
------------
(2,704)
- ------------------------------------------------------------------------------------------------------------------
NET ASSETS (100%)
- ------------------------------------------------------------------------------------------------------------------
Applicable to 102,378,923 outstanding $.001 par value shares of beneficial interest
(unlimited authorization) $1,924,122
==================================================================================================================
NET ASSET VALUE PER SHARE $18.79
==================================================================================================================
*See Note A in Notes to Financial Statements.
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------
AT DECEMBER 31, 1998, NET ASSETS CONSISTED OF:
- ------------------------------------------------------------------------------------------------------------------
AMOUNT PER
(000) SHARE
- ------------------------------------------------------------------------------------------------------------------
Paid in Capital $1,499,575 $14.64
Overdistributed Net Investment Income (482) --
Overdistributed Net Realized Gains (233) --
Unrealized Appreciation--Note D 425,262 4.15
==================================================================================================================
NET ASSETS $1,924,122 $18.79
==================================================================================================================
</TABLE>
21
<PAGE> 44
STATEMENT OF OPERATIONS
This Statement shows each fund's Income Distributions Received from the other
Vanguard funds in which it invests. This Statement also shows any Capital Gain
Distributions Received from the other funds' realized net gains, Net Gain (Loss)
realized on the sale of investments, and the increase or decrease in the
Unrealized Appreciation (Depreciation) on investments during the period.
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------------------------------
LIFESTRATEGY LIFESTRATEGY
LIFESTRATEGY CONSERVATIVE MODERATE LIFESTRATEGY
INCOME GROWTH GROWTH GROWTH
FUND FUND FUND FUND
---------------------------------------------------------------------
YEAR ENDED DECEMBER 31, 1998
---------------------------------------------------------------------
(000) (000) (000) (000)
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
INVESTMENT INCOME
INCOME
Income Distributions Received $18,082 $ 47,728 $ 61,225 $ 38,967
Interest 32 54 109 87
- -------------------------------------------------------------------------------------------------------------------------
NET INVESTMENT INCOME--Note B 18,114 47,782 61,334 39,054
- -------------------------------------------------------------------------------------------------------------------------
REALIZED NET GAIN
Capital Gain Distributions Received 6,112 18,655 30,275 26,126
Investment Securities Sold 118 44 480 64
- -------------------------------------------------------------------------------------------------------------------------
REALIZED NET GAIN 6,230 18,699 30,755 26,190
- -------------------------------------------------------------------------------------------------------------------------
CHANGE IN UNREALIZED APPRECIATION
(DEPRECIATION) OF INVESTMENT SECURITIES 19,239 97,520 220,429 233,545
- -------------------------------------------------------------------------------------------------------------------------
NET INCREASE IN NET ASSETS RESULTING
FROM OPERATIONS $43,583 $164,001 $312,518 $298,789
=========================================================================================================================
</TABLE>
22
<PAGE> 45
STATEMENT OF CHANGES IN NET ASSETS
This Statement shows how each fund'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 fund'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
fund, 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>
- -------------------------------------------------------------------------------------------------------------------------
LIFESTRATEGY LIFESTRATEGY
INCOME FUND CONSERVATIVE GROWTH FUND
---------------------------- ------------------------------
YEAR ENDED DECEMBER 31,
-------------------------------------------------------------------
1998 1997 1998 1997
(000) (000) (000) (000)
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
INCREASE IN NET ASSETS
OPERATIONS
Net Investment Income $ 18,114 $ 10,541 $ 47,782 $ 28,957
Realized Net Gain 6,230 1,876 18,699 11,135
Change in Unrealized Appreciation (Depreciation) 19,239 12,899 97,520 56,446
-------------------------------------------------------------------
Net Increase in Net Assets Resulting
from Operations 43,583 25,316 164,001 96,538
-------------------------------------------------------------------
DISTRIBUTIONS
Net Investment Income (18,129) (10,467) (48,539) (28,823)
Realized Capital Gain (6,279) (1,902) (18,656) (10,984)
-------------------------------------------------------------------
Total Distributions (24,408) (12,369) (67,195) (39,807)
-------------------------------------------------------------------
CAPITAL SHARE TRANSACTIONS(1)
Issued 273,108 130,219 721,533 382,488
Issued in Lieu of Cash Distributions 21,361 10,467 63,978 37,567
Redeemed (108,685) (61,177) (269,557) (136,332)
-------------------------------------------------------------------
Net Increase from Capital Share Transactions 185,784 79,509 515,954 283,723
- -------------------------------------------------------------------------------------------------------------------------
Total Increase 204,959 92,456 612,760 340,454
- -------------------------------------------------------------------------------------------------------------------------
NET ASSETS
Beginning of Year 243,938 151,482 802,949 462,495
-------------------------------------------------------------------
End of Year $448,897 $243,938 $1,415,709 $802,949
=========================================================================================================================
(1)Shares Issued (Redeemed)
Issued 21,063 10,739 50,880 29,511
Issued in Lieu of Cash Distributions 1,632 859 4,416 2,855
Redeemed (8,368) (5,091) (19,020) (10,535)
-------------------------------------------------------------------
Net Increase in Shares Outstanding 14,327 6,507 36,276 21,831
=========================================================================================================================
</TABLE>
23
<PAGE> 46
STATEMENT OF CHANGES IN NET ASSETS (continued)
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------------
LIFESTRATEGY LIFESTRATEGY
MODERATE GROWTH FUND GROWTH FUND
--------------------------------- ------------------------------
YEAR ENDED DECEMBER 31,
---------------------------------------------------------------------
1998 1997 1998 1997
(000) (000) (000) (000)
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
INCREASE IN NET ASSETS
OPERATIONS
Net Investment Income $ 61,334 $ 40,635 $ 39,054 $ 25,648
Realized Net Gain 30,755 19,065 26,190 20,378
Change in Unrealized Appreciation (Depreciation) 220,429 133,867 233,545 129,235
---------------------------------------------------------------------
Net Increase in Net Assets Resulting
from Operations 312,518 193,567 298,789 175,261
---------------------------------------------------------------------
DISTRIBUTIONS
Net Investment Income (61,591) (40,797) (39,473) (25,360)
Realized Capital Gain (30,946) (18,847) (26,309) (20,474)
---------------------------------------------------------------------
Total Distributions (92,537) (59,644) (65,782) (45,834)
---------------------------------------------------------------------
CAPITAL SHARE TRANSACTIONS(1)
Issued 874,948 535,843 712,132 516,946
Issued in Lieu of Cash Distributions 86,634 55,672 64,618 45,132
Redeemed (337,628) (193,147) (269,352) (136,459)
---------------------------------------------------------------------
Net Increase from Capital Share Transactions 623,954 398,368 507,398 425,619
- -------------------------------------------------------------------------------------------------------------------------
Total Increase 843,935 532,291 740,405 555,046
- -------------------------------------------------------------------------------------------------------------------------
NET ASSETS
Beginning of Year 1,358,009 825,718 1,183,717 628,671
------------------------------------ --------------------------------
End of Year $2,201,944 $1,358,009 $1,924,122 $1,183,717
=========================================================================================================================
(1)Shares Issued (Redeemed)
Issued 55,074 37,852 40,609 33,989
Issued in Lieu of Cash Distributions 5,182 3,820 3,460 2,860
Redeemed (21,344) (13,628) (15,501) (9,004)
---------------------------------------------------------------------
Net Increase in Shares Outstanding 38,912 28,044 28,568 27,845
=========================================================================================================================
</TABLE>
24
<PAGE> 47
FINANCIAL HIGHLIGHTS
This table summarizes each fund's investment results and distributions to
shareholders on a per-share basis. The table also presents the fund's Total
Return and shows net investment income and expenses as percentages of average
net assets. The expense ratio is zero because the fund pays no direct expenses;
its share of the expenses of the other funds in which it invests reduces the
income received from them. The data in the table will help you assess: the
variability of the fund's net income and total returns from year to year; the
relative contributions of net income and capital gains to the fund's total
return; the extent to which the fund tends to distribute capital gains; and the
portion of capital gains distributions representing the "pass-through" of
capital gains distributions received from other Vanguard funds. 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 fund for one year.
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------------
LIFESTRATEGY INCOME FUND
YEAR ENDED DECEMBER 31,
--------------------------------------------- SEP. 30* TO
FOR A SHARE OUTSTANDING THROUGHOUT EACH PERIOD 1998 1997 1996 1995 DEC. 31, 1994
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD $12.43 $11.55 $11.54 $ 9.88 $10.00
- -------------------------------------------------------------------------------------------------------------------------
INVESTMENT OPERATIONS
Net Investment Income .63 .63 .64 .49 .14
Capital Gain Distributions Received .20 .15 .19 .09 --
Net Realized and Unrealized Gain (Loss) on Investments .78 .83 .03 1.66 (.12)
-------------------------------------------------------------
Total from Investment Operations 1.61 1.61 .86 2.24 .02
-------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment Income (.63) (.63) (.64) (.49) (.14)
Distributions from Realized Capital Gains (.19) (.10) (.21) (.09) --
-------------------------------------------------------------
Total Distributions (.82) (.73) (.85) (.58) (.14)
- -------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD $13.22 $12.43 $11.55 $11.54 $ 9.88
=========================================================================================================================
TOTAL RETURN 13.17% 14.23% 7.65% 22.99% 0.20%
=========================================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Period (Millions) $449 $244 $151 $121 $11
Ratio of Expenses to Average Net Assets--Note B 0% 0% 0% 0% 0%
Ratio of Net Investment Income to Average Net Assets 5.24% 5.54% 5.66% 5.76% 7.31%**
Portfolio Turnover Rate 3% 6% 22% 4% 1%
=========================================================================================================================
</TABLE>
*Inception.
**Annualized.
25
<PAGE> 48
<TABLE>
<CAPTION>
FINANCIAL HIGHLIGHTS (continued)
- --------------------------------------------------------------------------------------------------------------------------
LIFESTRATEGY CONSERVATIVE GROWTH FUND
YEAR ENDED DECEMBER 31,
--------------------------------------------- SEP. 30* TO
FOR A SHARE OUTSTANDING THROUGHOUT EACH PERIOD 1998 1997 1996 1995 DEC. 31, 1994
- --------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD $13.40 $12.14 $11.68 $ 9.89 $10.03
- --------------------------------------------------------------------------------------------------------------------------
INVESTMENT OPERATIONS
Net Investment Income .58 .56 .53 .47 .14
Capital Gain Distributions Received .20 .18 .20 .11 .01
Net Realized and Unrealized Gain (Loss) on Investments 1.32 1.27 .46 1.80 (.14)
-------------------------------------------------------------
Total from Investment Operations 2.10 2.01 1.19 2.38 .01
-------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment Income (.59) (.56) (.53) (.47) (.14)
Distributions from Realized Capital Gains (.20) (.19) (.20) (.12) (.01)
-------------------------------------------------------------
Total Distributions (.79) (.75) (.73) (.59) (.15)
- --------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD $14.71 $13.40 $12.14 $11.68 $ 9.89
==========================================================================================================================
TOTAL RETURN 15.88% 16.81% 10.36% 24.35% 0.10%
==========================================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Period (Millions) $1,416 $803 $462 $219 $41
Ratio of Expenses to Average Net Assets--Note B 0% 0% 0% 0% 0%
Ratio of Net Investment Income to Average Net Assets 4.32% 4.61% 4.86% 5.14% 7.07%**
Portfolio Turnover Rate 3% 1% 2% 1% 0%
==========================================================================================================================
</TABLE>
*Inception.
**Annualized.
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------------
LIFESTRATEGY MODERATE GROWTH FUND
YEAR ENDED DECEMBER 31,
------------------------------------------------ SEP. 30* TO
FOR A SHARE OUTSTANDING THROUGHOUT EACH PERIOD 1998 1997 1996 1995 DEC. 31, 1994
- --------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD $14.81 $12.97 $12.11 $ 9.86 $10.08
- --------------------------------------------------------------------------------------------------------------------------
INVESTMENT OPERATIONS
Net Investment Income .510 .490 .44 .36 .14
Capital Gain Distributions Received .241 .236 .22 .13 .01
Net Realized and Unrealized Gain (Loss) on Investments 2.054 1.819 .87 2.25 (.22)
----------------------------------------------------------------
Total from Investment Operations 2.805 2.545 1.53 2.74 (.07)
----------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment Income (.510) (.490) (.44) (.36) (.14)
Distributions from Realized Capital Gains (.245) (.215) (.23) (.13) (.01)
----------------------------------------------------------------
Total Distributions (.755) (.705) (.67) (.49) (.15)
- --------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD $16.86 $14.81 $12.97 $12.11 $ 9.86
==========================================================================================================================
TOTAL RETURN 19.03% 19.77% 12.71% 27.94% -0.70%
==========================================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Period (Millions) $2,202 $1,358 $826 $235 $35
Ratio of Expenses to Average Net Assets--Note B 0% 0% 0% 0% 0%
Ratio of Net Investment Income to Average Net Assets 3.43% 3.72% 3.98% 4.42% 7.10%**
Portfolio Turnover Rate 5% 2% 3% 1% 0%
==========================================================================================================================
</TABLE>
*Inception.
**Annualized.
26
<PAGE> 49
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------------------------------------
LIFESTRATEGY GROWTH FUND
YEAR ENDED DECEMBER 31,
---------------------------------------------- SEP. 30* TO
FOR A SHARE OUTSTANDING THROUGHOUT EACH PERIOD 1998 1997 1996 1995 DEC. 31, 1994
- --------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD $16.04 $13.68 $12.36 $ 9.93 $10.10
- --------------------------------------------------------------------------------------------------------------------------
INVESTMENT OPERATIONS
Net Investment Income .410 .39 .34 .32 .13
Capital Gain Distributions Received .264 .28 .24 .14 .02
Net Realized and Unrealized Gain (Loss) on Investments 2.751 2.36 1.32 2.43 (.16)
-------------------------------------------------------------
Total from Investment Operations 3.425 3.03 1.90 2.89 (.01)
-------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment Income (.410) (.38) (.35) (.31) (.14)
Distributions from Realized Capital Gains (.265) (.29) (.23) (.15) (.02)
-------------------------------------------------------------
Total Distributions (.675) (.67) (.58) (.46) (.16)
- --------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD $18.79 $16.04 $13.68 $12.36 $ 9.93
==========================================================================================================================
TOTAL RETURN 21.40% 22.26% 15.41% 29.24% -0.10%
==========================================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Period (Millions) $1,924 $1,184 $629 $217 $38
Ratio of Expenses to Average Net Assets--Note B 0% 0% 0% 0% 0%
Ratio of Net Investment Income to Average Net Assets 2.53% 2.84% 3.18% 3.67% 7.06%**
Portfolio Turnover Rate 2% 1% 0% 1% 1%
==========================================================================================================================
</TABLE>
*Inception.
**Annualized.
27
<PAGE> 50
NOTES TO FINANCIAL STATEMENTS
Vanguard LifeStrategy Funds comprises the LifeStrategy Income Fund, LifeStrategy
Conservative Growth Fund, LifeStrategy Moderate Growth Fund, and LifeStrategy
Growth Fund, each of which is registered under the Investment Company Act of
1940 as an open-end investment company, or mutual fund. Each fund follows a
balanced investment strategy by investing in selected Vanguard funds to achieve
its targeted allocation of assets to U.S. stocks, international stocks, bonds,
and short-term reserves.
A. The following significant accounting policies conform to generally accepted
accounting principles for mutual funds. The funds consistently follow such
policies in preparing their financial statements.
1. Valuation: Investments are valued at the net asset value of each
Vanguard fund determined as of the close of the New York Stock Exchange
(generally 4:00 p.m. Eastern time) on the valuation date. Temporary cash
investments are valued at cost, which approximates market value.
2. Federal Income Taxes: Each fund 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.
3. 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.
4. Repurchase Agreements: Each fund, 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. Other: Income and capital gain distributions received are 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. Under a special service agreement, The Vanguard Group furnishes corporate
management, administrative, marketing, and distribution services to the funds.
The special service agreement provides that Vanguard will reimburse the funds'
expenses to the extent of savings in administrative and marketing costs realized
by Vanguard in the operation of the funds. Accordingly, all expenses incurred by
the funds during the year ended December 31, 1998, were reimbursed by Vanguard.
The funds' Trustees and officers are also Directors and officers of Vanguard and
the funds in which the funds invest.
C. During the year ended December 31, 1998, purchases and sales of investment
securities were:
<TABLE>
<CAPTION>
----------------------------------------------------------------------------------
(000)
---------------------------------------
LIFESTRATEGY FUND PURCHASES SALES
----------------------------------------------------------------------------------
<S> <C> <C>
Income $200,080 $10,912
Conservative Growth 549,341 34,344
Moderate Growth 708,599 87,788
Growth 538,090 30,015
----------------------------------------------------------------------------------
</TABLE>
28
<PAGE> 51
D. At December 31, 1998, net unrealized appreciation of investment securities
for financial reporting and federal income tax purposes was:
<TABLE>
<CAPTION>
---------------------------------------------------------------------------------------
(000)
---------------------------------------------------------
NET
APPRECIATED DEPRECIATED UNREALIZED
LIFESTRATEGY FUND SECURITIES SECURITIES APPRECIATION
---------------------------------------------------------------------------------------
<S> <C> <C> <C>
Income $ 36,527 -- $ 36,527
Conservative Growth 183,690 -- 183,690
Moderate Growth 405,718 -- 405,718
Growth 425,262 -- 425,262
---------------------------------------------------------------------------------------
</TABLE>
29
<PAGE> 52
REPORT OF INDEPENDENT
ACCOUNTANTS
[PHOTO]
To the Shareholders and
Trustees of Vanguard LifeStrategy Funds
In our opinion, the accompanying statements of net assets and the related
statements of operations and of changes in net assets and the financial
highlights present fairly, in all material respects, the financial position of
Vanguard LifeStrategy Income Fund, Vanguard LifeStrategy Conservative Growth
Fund, Vanguard LifeStrategy Moderate Growth Fund and Vanguard LifeStrategy
Growth Fund (hereafter referred to as the "Funds") at December 31, 1998, the
results of each of their operations for the year then ended, the changes in each
of their net assets for each of the two years in the period then ended and the
financial highlights for each of the periods indicated, in conformity with
generally accepted accounting principles. These financial statements and
financial highlights (hereafter referred to as "financial statements") are the
responsibility of the Funds' management; our responsibility is to express an
opinion on these financial statements based on our audits. We conducted our
audits of these financial statements in accordance with generally accepted
auditing standards which require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits, which included confirmation of securities at December 31, 1998 by
correspondence with the custodian, provide a reasonable basis for the opinion
expressed above.
PricewaterhouseCoopers LLP
Thirty South Seventeenth Street
Philadelphia, Pennsylvania 19103
February 2, 1999
30
<PAGE> 53
SPECIAL 1998 TAX INFORMATION (UNAUDITED) FOR VANGUARD LIFESTRATEGY FUNDS
This information for the fiscal year ended December 31, 1998, is included
pursuant to provisions of the Internal Revenue Code.
The Income, Conservative Growth, Moderate Growth, and Growth Funds
distributed $3,305,000, $9,793,000, $16,420,000, and $13,895,000,
respectively, as capital gain dividends (from net long-term capital gains)
to shareholders during the fiscal year ended December 31, 1998, all of which
is designated as 20% rate gain distributions.
For corporate shareholders, the percentage of investment income
(dividend income plus short-term gains, if any) that qualifies for the
dividends-received deduction is as follows:
<TABLE>
---------------------------------------------------------------
<S> <C>
LifeStrategy Income Fund 3.4%
LifeStrategy Conservative Growth Fund 7.2
LifeStrategy Moderate Growth Fund 12.4
LifeStrategy Growth Fund 20.9
---------------------------------------------------------------
</TABLE>
31
<PAGE> 54
TRUSTEES AND OFFICERS
JOHN C. BOGLE
Founder, Senior Chairman of the Board, and Director/Trustee of The Vanguard
Group, Inc., and each of the investment companies in The Vanguard Group.
JOHN J. BRENNAN
Chairman of the Board, Chief Executive Officer, and Director/Trustee of The
Vanguard Group, Inc., and 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.
JOANN HEFFERNAN HEISEN
Vice President, Chief Information Officer, and a member of the Executive
Committee of Johnson & Johnson; Director of Johnson & Johnson-Merck Consumer
Pharmaceuticals Co., Women First HealthCare, Inc., Recording for the Blind and
Dyslexic, The Medical Center at Princeton, and Women's Research and Education
Institute.
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, Banco Bilbao Gestinova, 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.,
NACCO Industries, and Newfield Exploration Co.
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.
THOMAS J. HIGGINS
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> 55
VANGUARD
MILESTONES
[GRAPHIC]
The Vanguard Group is
named for HMS Vanguard,
Admiral Horatio Nelson's flagship
at the Battle of the Nile on
August 1, 1798. Our founder,
John C. Bogle, chose the name
after reading Nelson's inspiring
tribute to his fleet: "Nothing could
withstand the squadron . . .
with the judgment of the captains,
together with their valour, and that
of the officers and men of every
description, it was absolutely irresistible."
[GRAPHIC]
Walter L. Morgan, founder of
Wellington Fund, the nation's
oldest balanced mutual fund
and forerunner of today's family
of some 100 Vanguard funds,
celebrated his 100th birthday on
July 23, 1998. Mr. Morgan,
a true investment pioneer, died
six weeks later on September 2.
[GRAPHIC]
Wellington Fund,
The Vanguard Group's oldest fund,
was incorporated by Mr. Morgan
70 years ago, on December 28, 1928.
The fund was named after the Duke of Wellington,
whose forces defeated
Napoleon Bonaparte at the
Battle of Waterloo in 1815.
[THE VANGUARD GROUP LOGO]
Post Office Box 2600
Valley Forge, Pennsylvania 19482
FUND INFORMATION
1-800-662-7447
INDIVIDUAL ACCOUNT SERVICES
1-800-662-2739
INSTITUTIONAL INVESTOR SERVICES
1-800-523-1036
www.vanguard.com
[email protected]
All Vanguard funds are offered by prospectus only. Prospectuses contain more
complete information on advisory fees, distribution charges, and other expenses
and should be read carefully before you invest or send money. Prospectuses can
be obtained directly from The Vanguard Group.
Q880-02/17/1999
(C) 1999 Vanguard Marketing Corporation, Distributor. All rights reserved.
