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PAINEWEBBER TAX-MANAGED EQUITY FUND
1285 AVENUE OF THE AMERICAS
NEW YORK, NEW YORK 10019
STATEMENT OF ADDITIONAL INFORMATION
PaineWebber Tax-Managed Equity Fund ("Fund") is a diversified series of
PaineWebber Managed Investment Trust ("Trust"), a professionally managed,
open-end management investment company organized as a Massachusetts business
trust. The Fund's investment objective is to seek to maximize after-tax total
return by investing primarily in a diversified portfolio of equity securities
believed by Mitchell Hutchins to have the potential for above-average earnings
growth with reasonable valuations. No assurance can be given that the Fund
will be able to achieve its investment objective.
Mitchell Hutchins Asset Management Inc. ("Mitchell Hutchins"), a wholly
owned asset management subsidiary of PaineWebber Incorporated ("PaineWebber"),
serves as investment adviser, administrator and distributor for the Fund. As
distributor, Mitchell Hutchins has appointed PaineWebber as the exclusive
dealer for the sale of Fund shares.
This Statement of Additional Information is not a prospectus and should be
read only in conjunction with the Fund's current Prospectus, dated October 4,
1998 (as revised October 23, 1998). A copy of the Prospectus may be obtained
by calling any PaineWebber investment executive or correspondent firm or by
calling toll-free 1-800-647-1568. This Statement of Additional Information is
dated October 4, 1998 (as revised October 23, 1998).
INVESTMENT POLICIES AND RESTRICTIONS
The following supplements the information contained in the Prospectus
concerning the Fund's investment policies and limitations. Except as otherwise
indicated in the Prospectus or Statement of Additional Information, there are
no policy limitations on the Fund's ability to use the investments or
techniques discussed in these documents.
MONEY MARKET INSTRUMENTS. Money market instruments in which the Fund may
invest include U.S. Treasury bills and other obligations issued or guaranteed
as to interest and principal by the U.S. government, its agencies and
instrumentalities; obligations of U.S. banks (including certificates of
deposit and bankers' acceptances); interest-bearing savings deposits in U.S.
commercial banks and savings associations; commercial paper and other short-
term corporate obligations; and variable and floating-rate securities and
repurchase agreements. In addition, the Fund may hold cash and may invest in
participation interests in the money market securities mentioned above to the
extent that it is permitted to invest in money market instruments.
YIELD FACTORS AND RATINGS. Moody's Investors Service, Inc. ("Moody's"),
Standard & Poor's, a division of The McGraw-Hill Companies, Inc. ("S&P"), and
other nationally recognized statistical rating organizations ("NRSROs") are
private services that provide ratings of the credit quality of bonds, other
debt obligations and certain other securities. A description of the ratings
assigned to corporate debt obligations by Moody's and S&P is included in the
Appendix to this Statement of Additional Information. The Fund may use these
ratings in determining whether to purchase, sell or hold a security. It should
be emphasized, however, that ratings are general and are not absolute
standards of quality. Consequently, securities with the same maturity,
interest rate and rating may have different market prices.
Ratings of debt securities represent the NRSROs' opinions regarding their
quality, are not a guarantee of quality, and may be reduced after the Fund has
acquired the security. Mitchell Hutchins will consider such an event in
determining whether the Fund should continue to hold the security but is not
required to dispose of it. In the event that, due to a downgrade of one or
more debt securities, an amount in excess of the permitted percentage of the
Fund's net assets is held in securities rated below investment grade and
comparable unrated securities, the Fund will engage in an orderly disposition
of such securities to the extent necessary to ensure that its holdings of such
securities does not exceed that percentage.
Investment grade bonds are those rated within the four highest categories by
S&P or Moody's. Moody's fourth highest category (Baa) includes securities
that, in its opinion, have speculative features. For
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example, changes in economic conditions or other circumstances are more likely
to lead to a weakened capacity to make principal and interest payments than is
the case for higher-rated debt instruments. The Fund may also invest in
securities that are comparably rated by another NRSRO and in unrated
securities if they are deemed to be of comparable quality. Credit ratings
attempt to evaluate the safety of principal and interest payments and do not
evaluate the volatility of a bond's value or its liquidity. There is a risk
that bonds will be downgraded by NRSROs. The NRSROs may fail to make timely
changes in credit ratings in response to subsequent events, so that an
issuer's current financial condition may be better or worse than the rating
indicates.
Debt securities rated Ba or lower by Moody's, BB or lower by S&P, comparably
rated by another NRSRO or determined by Mitchell Hutchins to be of comparable
quality are below investment grade, are deemed by those agencies to be
predominantly speculative with respect to the issuer's capacity to pay
interest and repay principal and may involve major risk exposure to adverse
conditions. Lower rated debt securities generally offer a higher current yield
than that available for investment grade issues, but they involve higher
risks, in that they are especially subject to adverse changes in general
economic conditions and in the industries in which the issuers are engaged, to
changes in the financial condition of the issuers and to price fluctuations in
response to changes in interest rates. During periods of economic downturn or
rising interest rates, highly leveraged issuers may experience financial
stress which could adversely affect their ability to make payments of interest
and principal and increase the possibility of default. In addition, such
issuers may not have more traditional methods of financing available to them
and may be unable to repay debt at maturity by refinancing. The risk of loss
due to default by such issuers is significantly greater because such
securities frequently are unsecured and subordinated to the prior payment of
senior indebtedness.
The market for lower rated debt securities has expanded rapidly in recent
years, which has been a period of generally expanding growth and lower
inflation. These securities will be susceptible to greater risk when economic
growth slows or reverses and when inflation increases or deflation occurs. In
the past, the prices of many lower rated debt securities declined
substantially, reflecting an expectation that many issuers of such securities
might experience financial difficulties. As a result, the yields on lower
rated debt securities rose dramatically. However, such higher yields did not
reflect the value of the income stream that holders of such securities
expected, but rather the risk that holders of such securities could lose a
substantial portion of their value as a result of the issuers' financial
restructuring or defaults. There can be no assurance that such declines will
not recur. The market for lower rated debt issues generally is thinner and
less active than that for higher quality securities, which may limit the
Fund's ability to sell such securities at fair value in response to changes in
the economy or financial markets. Adverse publicity and investor perceptions,
whether or not based on fundamental analysis, may also decrease the values and
liquidity of non-investment grade securities, especially in a thinly traded
market.
RISK CONSIDERATIONS RELATING TO FOREIGN SECURITIES. Securities of foreign
issuers may not be registered with the Securities and Exchange Commission
("SEC"), nor may the issuers thereof be subject to its reporting requirements.
Accordingly, there may be less publicly available information concerning
foreign issuers of securities held by the Fund than is available concerning
U.S. companies. Foreign companies are not generally subject to uniform
accounting, auditing and financial reporting standards or to other regulatory
requirements comparable to those applicable to U.S. companies.
The Fund may invest in foreign securities by purchasing American Depository
Receipts ("ADRs"). Generally, ADRs, in registered form, are denominated in
U.S. dollars and are designed for use in the U.S. securities markets. ADRs are
receipts typically issued by a U.S. bank or trust company evidencing ownership
of the underlying securities. For purposes of the Fund's investment policies,
ADRs are deemed to have the same classification as the underlying securities
they represent. Thus, an ADR representing ownership of common stock will be
treated as common stock. ADRs are publicly traded on exchanges or over-the-
counter ("OTC") in the United States and are issued through "sponsored" or
"unsponsored" arrangements. In a sponsored ADR arrangement, the foreign issuer
assumes the obligation to pay some or all of the depositary's transaction
fees, whereas under an unsponsored arrangement, the foreign issuer assumes no
obligations and the depositary's transaction fees are paid directly by the ADR
holders. In addition, less information is available in the United States about
an unsponsored ADR than about a sponsored ADR.
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Investment income on certain foreign securities in which the Fund may invest
may be subject to foreign withholding or other taxes that could reduce the
return on these securities. Tax treaties between the United States and foreign
countries, however, may reduce or eliminate the amount of foreign taxes to
which the Fund would be subject.
ILLIQUID SECURITIES. The Fund may invest up to 15% of its net assets in
illiquid securities. The term "illiquid securities" for this purpose means
securities that cannot be disposed of within seven days in the ordinary course
of business at approximately the amount at which the Fund has valued the
securities and includes, among other things, purchased OTC options, repurchase
agreements maturing in more than seven days and restricted securities other
than those Mitchell Hutchins has determined are liquid pursuant to guidelines
established by the Trust's board of trustees ("board"). The assets used as
cover for OTC options written by the Fund will be considered illiquid unless
the OTC options are sold to qualified dealers who agree that the Fund may
repurchase any OTC option it writes at a maximum price to be calculated by a
formula set forth in the option agreement. The cover for an OTC option written
subject to this procedure would be considered illiquid only to the extent that
the maximum repurchase price under the formula exceeds the intrinsic value of
the option.
Restricted securities are not registered under the Securities Act of 1933
("1933 Act") and may be sold only in privately negotiated transactions or
other exempted transactions or after a 1933 Act registration statement has
become effective. Where registration is required, the Fund may be obligated to
pay all or part of the registration expenses and a considerable period may
elapse between the time of the decision to sell and the time the Fund may be
permitted to sell a security under an effective registration statement. If,
during such a period, adverse market conditions were to develop, the Fund
might obtain a less favorable price than prevailed when it decided to sell.
Not all restricted securities are illiquid. A large institutional market has
developed for certain securities that are not registered under the 1933 Act.
Institutional investors generally will not seek to sell these instruments to
the general public, but instead will often depend either on an efficient
institutional market in which such unregistered securities can be readily
resold or on an issuer's ability to honor a demand for repayment. Therefore,
the fact that there are contractual or legal restrictions on resale to the
general public or certain institutions is not dispositive of the liquidity of
such investments.
Institutional markets for restricted securities also have developed as a
result of Rule 144A, which establishes a "safe harbor" from the registration
requirements of the 1933 Act for resales of certain securities to qualified
institutional buyers. Such markets include automated systems for the trading,
clearance and settlement of unregistered securities of domestic and foreign
issuers, such as the PORTAL System sponsored by the National Association of
Securities Dealers, Inc. An insufficient number of qualified institutional
buyers interested in purchasing Rule 144A-eligible restricted securities held
by the Fund, however, could affect adversely the marketability of such
portfolio securities, and the Fund might be unable to dispose of such
securities promptly or at favorable prices.
The board has delegated the function of making day-to-day determinations of
liquidity to Mitchell Hutchins, pursuant to guidelines approved by the board.
Mitchell Hutchins takes into account a number of factors in reaching liquidity
decisions, including (1) the frequency of trades for the security, (2) the
number of dealers that make quotes for the security, (3) the number of dealers
that have undertaken to make a market in the security, (4) the number of other
potential purchasers and (5) the nature of the security and how trading is
effected (e.g., the time needed to sell the security, how offers are solicited
and the mechanics of transfer). Mitchell Hutchins monitors the liquidity of
restricted securities in the Fund's portfolio and reports periodically on such
decisions to the board.
CONVERTIBLE SECURITIES. A convertible security entitles the holder to
receive interest paid or accrued on debt or the dividend paid on preferred
stock until the convertible security matures or is redeemed, converted or
exchanged. Before conversion, convertible securities have characteristics
similar to non-convertible debt securities in that they ordinarily provide a
stable stream of income with generally higher yields than those of common
stocks of the same or similar issuers. Convertible securities rank
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senior to common stock in a corporation's capital structure but are usually
subordinated to comparable non-convertible securities.
Convertible securities have unique investment characteristics in that they
generally (1) have higher yields than common stocks, but lower yields than
comparable non-convertible securities, (2) are less subject to fluctuation in
value than the underlying stock since they have fixed income characteristics
and (3) provide the potential for capital appreciation if the market price of
the underlying common stock increases. The value of a convertible security is
a function of its "investment value" (determined by its yield comparison with
the yields of other securities of comparable maturity and quality that do not
have a conversion privilege) and its "conversion value" (the security's worth,
at market value, if converted into the underlying common stock). The
investment value of a convertible security is influenced by changes in
interest rates, with investment value declining as interest rates increase and
increasing as interest rates decline. The credit standing of the issuer and
other factors also may have an effect on the convertible security's investment
value. The conversion value of a convertible security is determined by the
market price of the underlying common stock. If the conversion value is low
relative to the investment value, the price of the convertible security is
governed principally by its investment value, and generally the conversion
value decreases as the convertible security approaches maturity. To the extent
the market price of the underlying common stock approaches or exceeds the
conversion price, the price of the convertible security will be increasingly
influenced by its conversion value. In addition, a convertible security
generally will sell at a premium over its conversion value determined by the
extent to which investors place value on the right to acquire the underlying
common stock while holding a fixed income security.
A convertible security may be subject to redemption at the option of the
issuer at a price established in the convertible security's governing
instrument. If a convertible security held by the Fund is called for
redemption, the Fund will be required to permit the issuer to redeem the
security, convert it into underlying common stock or sell it to a third party.
Lower rated convertible securities generally offer a higher current yield
than that available from higher grade issues, but they involve higher risks,
in that they are especially subject to adverse changes in general economic
conditions and in the industries in which the issuers are engaged, to changes
in the financial condition of the issuers and to price fluctuation in response
to changes in interest rates. During periods of economic downturn or rising
interest rates, highly leveraged issuers may experience financial stress,
which could adversely affect their ability to make payments of principal and
interest (or, in the case of convertible preferred stock, dividends) and
increase the possibility of default. In addition, such issuers may not have
more traditional methods of financing available to them, and may be unable to
repay debt at maturity by refinancing. The risk of loss due to default by such
issuers is significantly greater because such securities frequently are
unsecured and subordinated to the prior payment of senior indebtedness.
U.S. GOVERNMENT SECURITIES. Government securities in which the Fund may
invest include direct obligations of the U.S. Treasury and obligations issued
or guaranteed by the U.S. government or one of its agencies or
instrumentalities (collectively, "U.S. government securities"). Direct
obligations of the U.S. Treasury include a variety of securities that differ
in their interest rates, maturities and dates of issuance. Among the U.S.
government securities that may be held by the Fund are instruments that are
supported by the full faith and credit of the United States and securities
that are supported primarily or solely by the creditworthiness of the
government-related issuer.
REPURCHASE AGREEMENTS. Repurchase agreements are transactions in which the
Fund purchases securities or other obligations and simultaneously commits to
resell them to the counterparty at an agreed-upon date or upon demand and at a
price reflecting a market rate of interest unrelated to the coupon rate or
maturity of the purchased obligations. The Fund maintains custody of the
underlying obligations prior to their repurchase either through its regular
custodian or through a special "tri-party" custodian or subcustodian that
maintains separate accounts for both the Fund and its counterparty. Thus, the
obligation of the counterparty to pay the repurchase price on the date agreed
to or upon demand is, in effect, secured by such obligations. If their value
becomes less than the repurchase price, plus any
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agreed-upon additional amount, the counterparty must provide additional
collateral so that at all times the collateral is at least equal to the
repurchase price, plus any agreed-upon additional amount. The difference
between the total amount to be received upon repurchase of the obligations and
the price that was paid by the Fund upon acquisition is accrued as interest
and included in its net investment income.
The Fund intends to enter into repurchase agreements only with banks and
dealers in transactions believed by Mitchell Hutchins to present minimal
credit risks in accordance with guidelines established by the board.
REVERSE REPURCHASE AGREEMENTS. The Fund may enter into reverse repurchase
agreements with banks and securities dealers up to an aggregate value of not
more than 5% of the Fund's net assets. Such agreements involve the sale of
securities held by the Fund subject to its agreement to repurchase the
securities at an agreed-upon date and price reflecting a market rate of
interest. Such agreements are considered to be borrowings and may be entered
into only for temporary purposes. While a reverse repurchase agreement is
outstanding, the Fund's custodian segregates assets to cover the Fund's
obligations under the reverse repurchase agreement. See "Investment Policies
and Restrictions--Segregated Accounts."
Reverse repurchase agreements involve the risk that the buyer of the
securities sold by the Fund might be unable to deliver them when the Fund
seeks to repurchase. If the buyer of securities under a reverse repurchase
agreement files for bankruptcy or becomes insolvent, the buyer or a trustee or
receiver may receive an extension of time to determine whether to enforce the
Fund's obligation to repurchase the securities, and the Fund's use of the
proceeds of the reverse repurchase agreement may effectively be restricted
pending such decision.
LENDING OF PORTFOLIO SECURITIES. The Fund is authorized to lend portfolio
securities up to 33 1/3% of its total assets to broker-dealers or
institutional investors that Mitchell Hutchins deems qualified, but only when
the borrower maintains with the Fund's custodian bank acceptable collateral,
marked to market daily, in an amount at least equal to the market value of the
securities loaned, plus accrued interest and dividends. Acceptable collateral
is limited to cash, U.S. government securities and irrevocable letters of
credit that meet certain guidelines established by Mitchell Hutchins. The Fund
may reinvest any cash collateral in money market investments or other short-
term liquid investments. In determining whether to lend securities to a
particular broker-dealer or institutional investor, Mitchell Hutchins will
consider, and during the period of the loan will monitor, all relevant facts
and circumstances, including the creditworthiness of the borrower. The Fund
will retain authority to terminate any of its loans at any time. The Fund may
pay reasonable fees in connection with a loan and may pay the borrower or
placing broker a negotiated portion of the interest earned on the reinvestment
of cash held as collateral. The Fund will receive amounts equivalent to any
dividends, interest or other distributions on the securities loaned. The Fund
will regain record ownership of loaned securities to exercise beneficial
rights, such as voting and subscription rights and rights to dividends,
interest or other distributions, when regaining such rights is considered to
be in the Fund's interest.
Pursuant to procedures adopted by the board governing the Fund's securities
lending program, PaineWebber has been retained to serve as lending agent for
the Fund. The board also has authorized the Fund to pay fees (including fees
calculated as a percentage of invested cash collateral) to PaineWebber for
these services. The board periodically reviews all portfolio securities loan
transactions for which PaineWebber acted as lending agent.
SHORT SALES "AGAINST THE BOX". The Fund may engage in short sales of
securities it owns or has the right to acquire at no added cost through
conversion or exchange of other securities it owns (short sales "against the
box"). To make delivery to the purchaser in a short sale, the executing broker
borrows the securities being sold short on behalf of the Fund, and the Fund is
obligated to replace the securities borrowed at a date in the future. When the
Fund sells short, it establishes a margin account with the broker effecting
the short sale, and deposits collateral with the broker. In addition, the Fund
maintains with its custodian, in a segregated account, the securities that
could be used to cover the short sale. The Fund will incur transaction costs,
including interest expense, in connection with opening, maintaining and
closing short sales against the box. The Fund currently does not expect to
have obligations under short sales that at any time during the coming year
exceed 5% of its net assets.
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The Fund might make a short sale "against the box" in order to hedge against
market risks when Mitchell Hutchins believes that the price of a security may
decline, thereby causing a decline in the value of a security owned by the
Fund or a security convertible into or exchangeable for a security owned by
the Fund. In such case, any loss in the Fund's long position after the short
sale should be reduced by a corresponding gain in the short position.
Conversely, any gain in the long position after the short sale should be
reduced by a corresponding loss in the short position. The extent to which
gains or losses in the long position are reduced will depend upon the amount
of the securities sold short relative to the amount of the securities the Fund
owns, either directly or indirectly, and in the case where the Fund owns
convertible securities, changes in the investment values or conversion
premiums of such securities.
WHEN-ISSUED AND DELAYED DELIVERY SECURITIES. The Fund may purchase
securities on a "when-issued" basis or may purchase or sell securities for
"delayed delivery." In when-issued or delayed delivery transactions, delivery
of the securities occurs beyond normal settlement periods, but the Fund
generally would not pay for such securities or start earning interest or
dividends on them until they are delivered. However, when the Fund purchases
securities on a when-issued or delayed delivery basis, it immediately assumes
the risks of ownership, including the risk of price fluctuation. Failure by a
counterparty to deliver a security purchased on a when-issued or delayed
delivery basis may result in a loss or missed opportunity to make an
alternative investment. Depending on market conditions, the Fund's when-issued
and delayed delivery purchase commitments could cause its net asset value per
share to be more volatile, because such securities may increase the amount by
which the Fund's total assets, including the value of when-issued and delayed
delivery securities held by the Fund, exceeds its net assets.
A security purchased on a when-issued or delayed delivery basis is recorded
as an asset on the commitment date and is subject to changes in market value,
generally based on changes in the level of interest rates. Thus, fluctuation
in the value of the security from the time of the commitment date will affect
the Fund's net asset value. When the Fund agrees to purchase securities on a
when-issued basis, its custodian segregates assets to cover the amount of the
commitment. See "Investment Policies and Restrictions--Segregated Accounts."
The Fund purchases when-issued securities only with the intention of taking
delivery, but may sell the right to acquire the security prior to delivery if
Mitchell Hutchins deems it advantageous to do so, which may result in capital
gain or loss to the Fund.
SEGREGATED ACCOUNTS. When the Fund enters into certain transactions that
involve obligations to make future payments to third parties, such as reverse
repurchase agreements or the purchase of securities on a when-issued or
delayed delivery basis, it will maintain with an approved custodian in a
segregated account cash or liquid securities, marked to market daily, in an
amount at least equal to the Fund's obligation or commitment under such
transactions. As described below under "Strategies Using Derivative
Instruments," segregated accounts may also be required in connection with
certain transactions involving options and futures contracts.
FUNDAMENTAL INVESTMENT LIMITATIONS. The following fundamental investment
limitations cannot be changed for the Fund without the affirmative vote of the
lesser of (a) more than 50% of the outstanding shares of the Fund or (b) 67%
or more of the shares of the Fund present at a shareholders' meeting if more
than 50% of the outstanding shares are represented at the meeting in person or
by proxy. If a percentage restriction is adhered to at the time of an
investment or transaction, a later increase or decrease in percentage
resulting from a change in values of portfolio securities or amount of total
assets will not be considered a violation of any of the following limitations.
The Fund will not:
(1) purchase securities of any one issuer if, as a result, more than 5% of
the Fund's total assets would be invested in securities of that issuer
or the Fund would own or hold more than 10% of the outstanding voting
securities of that issuer, except that up to 25% of the Fund's total
assets may be invested without regard to this limitation, and except
that this limitation does not apply to securities issued or guaranteed
by the U.S. government, its agencies and instrumentalities or to
securities issued by other investment companies.
The following interpretation applies to, but is not a part of, this
fundamental limitation: Mortgage- and asset-backed securities will not
be considered to have been issued by the same issuer by reason of the
securities having the same sponsor, and mortgage- and asset-backed
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securities issued by a finance or other special purpose subsidiary that
are not guaranteed by the parent company will be considered to be
issued by a separate issuer from the parent company.
(2) purchase any security if, as a result of that purchase, 25% or more of
the Fund's total assets would be invested in securities of issuers
having their principal business activities in the same industry, except
that this limitation does not apply to securities issued or guaranteed
by the U.S. government, its agencies or instrumentalities or to
municipal securities.
(3) issue senior securities or borrow money, except as permitted under the
Investment Company Act of 1940 ("1940 Act") and then not in excess of
33 1/3% of the Fund's total assets (including the amount of the senior
securities issued but reduced by any liabilities not constituting
senior securities) at the time of the issuance or borrowing, except
that the Fund may borrow up to an additional 5% of its total assets
(not including the amount borrowed) for temporary or emergency
purposes.
(4) make loans, except through loans of portfolio securities or through
repurchase agreements, provided that for purposes of this restriction,
the acquisition of bonds, debentures, other debt securities or
instruments, or participations or other interests therein and
investments in government obligations, commercial paper, certificates
of deposit, bankers' acceptances or similar instruments will not be
considered the making of a loan.
(5) engage in the business of underwriting securities of other issuers,
except to the extent that the Fund might be considered an underwriter
under the federal securities laws in connection with its disposition of
portfolio securities.
(6) purchase or sell real estate, except that investments in securities of
issuers that invest in real estate and investments in mortgage-backed
securities, mortgage participations or other instruments supported by
interests in real estate are not subject to this limitation, and except
that the Fund may exercise rights under agreements relating to such
securities, including the right to enforce security interests and to
hold real estate acquired by reason of such enforcement until that real
estate can be liquidated in an orderly manner.
(7) purchase or sell physical commodities unless acquired as a result of
owning securities or other instruments, but the Fund may purchase, sell
or enter in financial options and futures, forward and spot currency
contracts, swap transactions and other financial contracts or
derivative instruments.
NON-FUNDAMENTAL LIMITATIONS. The following investment restrictions are not
fundamental and may be changed by the board without shareholder approval.
The Fund will not:
(1) invest more than 15% of its net assets in illiquid securities, a term
which means securities that cannot be disposed of within seven days in
the ordinary course of business at approximately the amount at which it
has valued the securities and includes, among other things, repurchase
agreements maturing in more than seven days.
(2) purchase portfolio securities while borrowings in excess of 5% of its
total assets are outstanding.
(3) purchase securities on margin, except for short-term credit necessary
for clearance of portfolio transactions and except that the Fund may
make margin deposits in connection with its use of financial options
and futures, forward and spot currency contracts, swap transactions and
other financial contracts or derivative instruments.
(4) engage in short sales of securities or maintain a short position,
except that the Fund may (a) sell short "against the box" and (b)
maintain short positions in connection with its use of financial
options and futures, forward and spot currency contracts, swap
transactions and other financial contracts or derivative instruments.
(5) purchase securities of other investment companies, except to the extent
permitted by the 1940 Act (and except that the Fund will not purchase
securities of registered open-end investment companies or registered
unit investment trusts in reliance on sections 12(d)(1)(F) or
12(d)(1)(G) of the 1940 Act) and except that this limitation does not
apply to securities received or acquired as dividends, through offers
of exchange, or as a result of reorganization, consolidation, or
merger.
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STRATEGIES USING DERIVATIVE INSTRUMENTS
GENERAL DESCRIPTION OF DERIVATIVE INSTRUMENTS. Mitchell Hutchins may use a
variety of financial instruments ("Derivative Instruments"), including certain
options, futures contracts (sometimes referred to as "futures") and options on
futures contracts, to attempt to hedge the Fund's portfolio, to simulate full
investment by the Fund while retaining a cash balance for fund management
purposes (such as to provide liquidity to meet anticipated shareholder sales
of Fund shares and for Fund operating expenses), to facilitate trading, or to
enhance returns. The Fund may enter into transactions involving one or more
types of Derivative Instruments under which the full value of its portfolio is
at risk. Under normal circumstances, however, the Fund's use of Derivative
Instruments will place at risk a much smaller portion of its assets. In
particular, the Fund may use the Derivative Instruments described below:
OPTIONS ON EQUITY AND DEBT SECURITIES--A call option is a short-term
contract pursuant to which the purchaser of the option, in return for a
premium, has the right to buy the security underlying the option at a
specified price at any time during the term of the option or at specified
times or at the expiration of the option, depending on the type of option
involved. The writer of the call option, who receives the premium, has the
obligation, upon exercise of the option during the option term, to deliver the
underlying security against payment of the exercise price. A put option is a
similar contract that gives its purchaser, in return for a premium, the right
to sell the underlying security at a specified price during the option term or
at specified times or at the expiration of the option, depending on the type
of option involved. The writer of the put option, who receives the premium,
has the obligation, upon exercise of the option during the option term, to buy
the underlying security at the exercise price.
OPTIONS ON SECURITIES INDICES--A securities index assigns relative values to
the securities included in the index and fluctuates with changes in the market
values of those securities. A securities index option operates in the same way
as a more traditional securities option, except that exercise of a securities
index option is effected with cash payment and does not involve delivery of
securities. Thus, upon exercise of a securities index option, the purchaser
will realize, and the writer will pay, an amount based on the difference
between the exercise price and the closing price of the securities index.
SECURITIES INDEX FUTURES CONTRACTS--A securities index futures contract is a
bilateral agreement pursuant to which one party agrees to accept, and the
other party agrees to make, delivery of an amount of cash equal to a specified
dollar amount times the difference between the securities index value at the
close of trading of the contract and the price at which the futures contract
is originally struck. No physical delivery of the securities comprising the
index is made. Generally, contracts are closed out prior to the expiration
date of the contract.
INTEREST RATE FUTURES CONTRACTS--Interest rate futures contracts are
bilateral agreements pursuant to which one party agrees to make, and the other
party agrees to accept, delivery of a specified type of debt security at a
specified future time and at a specified price. Although such futures
contracts by their terms call for actual delivery or acceptance of debt
securities, in most cases the contracts are closed out before the settlement
date without the making or taking of delivery.
OPTIONS ON FUTURES CONTRACTS--Options on futures contracts are similar to
options on securities, except that an option on a futures contract gives the
purchaser the right, in return for the premium, to assume a position in a
futures contract (a long position if the option is a call and a short position
if the option is a put), rather than to purchase or sell a security, at a
specified price at any time during the option term. Upon exercise of the
option, the delivery of the futures position to the holder of the option will
be accompanied by delivery of the accumulated balance that represents the
amount by which the market price of the futures contract exceeds, in the case
of a call, or is less than, in the case of a put, the exercise price of the
option on the future. The writer of an option, upon exercise, will assume a
short position in the case of a call and a long position in the case of a put.
GENERAL DESCRIPTION OF STRATEGIES USING DERIVATIVE INSTRUMENTS. Hedging
strategies can be broadly categorized as "short hedges" and "long hedges." A
short hedge is a purchase or sale of a Derivative Instrument intended to
partially or fully offset potential declines in the value of one or more
investments held in the Fund's portfolio. Thus, in a short hedge, the Fund
takes a position in a Derivative Instrument whose price is expected to move in
the opposite direction of the price of the investment being
8
<PAGE>
hedged. For example, the Fund might purchase a put option on a security to
hedge against a potential decline in the value of that security. If the price
of the security declined below the exercise price of the put, the Fund could
exercise the put and thus limit its loss below the exercise price to the
premium paid plus transaction costs. In the alternative, because the value of
the put option can be expected to increase as the value of the underlying
security declines, the Fund might be able to close out the put option and
realize a gain to offset the decline in the value of the security.
Conversely, a long hedge is a purchase or sale of a Derivative Instrument
intended partially or fully to offset potential increases in the acquisition
cost of one or more investments that the Fund intends to acquire. Thus, in a
long hedge, the Fund takes a position in a Derivative Instrument whose price
is expected to move in the same direction as the price of the prospective
investment being hedged. For example, the Fund might purchase a call option on
a security it intends to purchase in order to hedge against an increase in the
cost of the security. If the price of the security increased above the
exercise price of the call, the Fund could exercise the call and thus limit
its acquisition cost to the exercise price plus the premium paid and
transaction costs. Alternatively, the Fund might be able to offset the price
increase by closing out an appreciated call option and realizing a gain.
The Fund may purchase and write (sell) straddles on securities or indices of
securities. A long straddle is a combination of a call and a put option
purchased on the same security or on the same futures contract, where the
exercise price of the put is equal to the exercise price of the call. The Fund
might enter into a long straddle when Mitchell Hutchins believes it likely
that the prices of the securities will be more volatile during the term of the
option than the option pricing implies. A short straddle is a combination of a
call and a put written on the same security where the exercise price of the
put is equal to the exercise price of the call. The Fund might enter into a
short straddle when Mitchell Hutchins believes it unlikely that the prices of
the securities will be as volatile during the term of the option as the option
pricing implies.
Derivative Instruments on securities generally are used to hedge against
price movements in one or more particular securities positions that the Fund
owns or intends to acquire. Derivative Instruments on stock indices, in
contrast, generally are used to hedge against price movements in broad equity
market sectors in which the Fund has invested or expects to invest. Derivative
Instruments on debt securities may be used to hedge either individual
securities or broad fixed income market sectors.
The use of Derivative Instruments is subject to applicable regulations of
the SEC, the several options and futures exchanges upon which they are traded
and the Commodity Futures Trading Commission ("CFTC"). In addition, the Fund's
ability to use Derivative Instruments may be limited by tax considerations.
See "Taxes."
In addition to the products, strategies and risks described below and in the
Prospectus, Mitchell Hutchins expects to discover additional opportunities in
connection with Derivative Instruments and with hedging, income and gain
strategies. These new opportunities may become available as regulatory
authorities broaden the range of permitted transactions and as new Derivative
Instruments and other techniques are developed. Mitchell Hutchins may utilize
these opportunities to the extent that they are consistent with the Fund's
investment objective and permitted by the Fund's investment limitations and
applicable regulatory authorities. The Fund's Prospectus or Statement of
Additional Information will be supplemented to the extent that new products or
techniques involve materially different risks than those described below or in
the Prospectus.
SPECIAL RISKS OF STRATEGIES USING DERIVATIVE INSTRUMENTS. The use of
Derivative Instruments involves special considerations and risks, as described
below. Risks pertaining to particular Derivative Instruments are described in
the sections that follow.
(1) Successful use of most Derivative Instruments depends upon the ability
of Mitchell Hutchins to predict movements of the overall securities and
interest rate markets, which requires different skills than predicting
changes in the prices of individual securities. While Mitchell Hutchins
is experienced in the use of Derivative Instruments, there can be no
assurance that any particular hedging strategy adopted will succeed.
(2) There might be imperfect correlation, or even no correlation, between
price movements of a Derivative Instrument and price movements of the
investments being hedged. For example, if
9
<PAGE>
the value of a Derivative Instrument used in a short hedge increased by
less than the decline in value of the hedged investment, the hedge would
not be fully successful. Such a lack of correlation might occur due to
factors affecting the markets in which Derivative Instruments are
traded, rather than the value of the investments being hedged.
The effectiveness of hedges using Derivative Instruments on indices will
depend on the degree of correlation between price movements in the index
and price movements in the securities being hedged. Because the Fund
invests primarily in common stocks of issuers meeting the specific
criteria described in the Prospectus, there might be a significant lack
of correlation between the portfolio and the stock indices underlying
any such Derivative Instruments used by the Fund.
(3) Hedging strategies, if successful, can reduce risk of loss by wholly or
partially offsetting the negative effect of unfavorable price movements
in the investments being hedged. However, hedging strategies can also
reduce opportunity for gain by offsetting the positive effect of
favorable price movements in the hedged investments. For example, if
the Fund entered into a short hedge because Mitchell Hutchins projected
a decline in the price of a security in the Fund's portfolio, and the
price of that security increased instead, the gain from that might be
wholly or partially offset by a decline in the price of the Derivative
Instrument. Moreover, if the price of the Derivative Instrument
declined by more than the increase in the price of the security, the
Fund could suffer a loss. In either such case, the Fund would have been
in a better position had it not hedged at all.
(4) As described below, the Fund might be required to maintain assets as
"cover," maintain segregated accounts or make margin payments when it
takes positions in Derivative Instruments involving obligations to
third parties (i.e., Derivative Instruments other than purchased
options). If the Fund were unable to close out its positions in such
Derivative Instruments, it might be required to continue to maintain
such assets or accounts or make such payments until the positions
expired or matured. These requirements might impair a Fund's ability to
sell a portfolio security or make an investment at a time when it would
otherwise be favorable to do so, or require that the Fund sell a
portfolio security at a disadvantageous time. The Fund's ability to
close out a position in a Derivative Instrument prior to expiration or
maturity depends on the existence of a liquid secondary market or, in
the absence of such a market, the ability and willingness of a contra
party to enter into a transaction closing out the position. Therefore,
there is no assurance that any hedging position can be closed out at a
time and price that is favorable to the Fund.
COVER FOR STRATEGIES USING DERIVATIVE INSTRUMENTS. Transactions using
Derivative Instruments, other than purchased options, expose the Fund to an
obligation to another party. The Fund will not enter into any such
transactions unless it owns either (1) an offsetting ("covered") position in
securities, other options or futures contracts or (2) cash and liquid
securities, with a value sufficient at all times to cover its potential
obligations to the extent not covered as provided in (1) above. The Fund will
comply with SEC guidelines regarding cover for these transactions and will, if
the guidelines so require, set aside cash or liquid securities in a segregated
account with its custodian in the prescribed amount.
Assets used as cover or held in a segregated account cannot be sold while
the position in the corresponding Derivative Instrument is open, unless they
are replaced with similar assets. As a result, the committing of a large
portion of the Fund's assets to cover positions or to segregate accounts could
impede portfolio management or the Fund's ability to meet redemption requests
or other current obligations.
OPTIONS. The Fund may purchase put and call options, and write (sell)
covered put or call options, on equity and debt securities and stock indices.
The purchase of call options serves as a long hedge, and the purchase of put
options serves as a short hedge. Writing covered call options serves as a
limited short hedge, because declines in the value of the hedged investment
would be offset to the extent of the premium received for writing the option.
However, if the security appreciates to a price higher than the exercise price
of the call option, it can be expected that the option will be exercised and
the Fund will be
10
<PAGE>
obligated to sell the security at less than its market value. Writing covered
put options serves as a limited long hedge because increases in the value of
the hedged investment would be offset to the extent of the premium received
for writing the option. However, if the security depreciates to a price lower
than the exercise price of the put option, it can be expected that the put
option will be exercised and the Fund will be obligated to purchase the
security at more than its market value. The securities or other assets used as
cover for OTC options written by the Fund would be considered illiquid to the
extent described under "Investment Policies and Restrictions--Illiquid
Securities."
The value of an option position will reflect, among other things, the
current market value of the underlying investment, the time remaining until
expiration, the relationship of the exercise price to the market price of the
underlying investment, the historical price volatility of the underlying
investment and general market conditions. Options normally have expiration
dates of up to nine months. Options that expire unexercised have no value.
The Fund may effectively terminate its right or obligation under an option
by entering into a closing transaction. For example, the Fund may terminate
its obligation under a call or put option that it had written by purchasing an
identical call or put option; this is known as a closing purchase transaction.
Conversely, the Fund may terminate a position in a put or call option it had
purchased by writing an identical put or call option; this is known as a
closing sale transaction. Closing transactions permit the Fund to realize
profits or limit losses on an option position prior to its exercise or
expiration.
The Fund may purchase and write both exchange-traded and OTC options.
Exchange markets for options on debt securities exist but are relatively new,
and these instruments are primarily traded on the OTC market. Exchange-traded
options in the United States are issued by a clearing organization affiliated
with the exchange on which the option is listed which, in effect, guarantees
completion of every exchange-traded option transaction. In contrast, OTC
options are contracts between the Fund and its counterparty (usually a
securities dealer or a bank) with no clearing organization guarantee. Thus,
when the Fund purchases or writes an OTC option, it relies on the counterparty
to make or take delivery of the underlying investment upon exercise of the
option. Failure by the counterparty to do so would result in the loss of any
premium paid by the Fund as well as the loss of any expected benefit of the
transaction.
Generally, the OTC debt options used by the Fund are European-style options.
This means that the option is only exercisable immediately prior to its
expiration. This is in contrast to American-style options, which are
exercisable at any time prior to the expiration date of the option.
The Fund's ability to establish and close out positions in exchange-traded
options depends on the existence of a liquid market. The Fund intends to
purchase or write only those exchange-traded options for which there appears
to be a liquid secondary market. However, there can be no assurance that such
a market will exist at any particular time. Closing transactions can be made
for OTC options only by negotiating directly with the counterparty, or by a
transaction in the secondary market if any such market exists. Although the
Fund will enter into OTC options only with counterparties that are expected to
be capable of entering into closing transactions with the Fund, there is no
assurance that the Fund will in fact be able to close out an OTC option
position at a favorable price prior to expiration. In the event of insolvency
of the counterparty, the Fund might be unable to close out an OTC option
position at any time prior to its expiration.
If the Fund were unable to effect a closing transaction for an option it had
purchased, it would have to exercise the option to realize any profit. The
inability to enter into a closing purchase transaction for a covered put or
call option written by the Fund could cause material losses because the Fund
would be unable to sell the investment used as cover for the written option
until the option expires or is exercised.
The Fund may purchase and write put and call options on indices in much the
same manner as the more traditional options discussed above, except the index
options may serve as a hedge against overall fluctuations in a securities
market (or market sector) rather than anticipated increases or decreases in
the value of a particular security.
11
<PAGE>
LIMITATIONS ON THE USE OF OPTIONS. The Fund's use of options is governed by
the following guidelines, which can be changed by the board without
shareholder vote:
(1) The Fund may purchase a put or call option, including any straddle or
spread, only if the value of its premium, when aggregated with the
premiums on all other options held by the Fund, does not exceed 5% of
its total assets.
(2) The aggregate value of underlying securities on which the Fund writes
covered calls will not exceed 50% of its total assets.
(3) To the extent cash or cash equivalents, including U.S. government
securities, are maintained in a segregated account to collateralize
options written on securities or stock indices, the Fund will limit
collateralization to 20% of its net assets.
FUTURES. The Fund may purchase and sell stock index futures contracts and
interest rate futures contracts. The Fund may also purchase put and call
options, and write covered put and call options, on futures in which it is
allowed to invest. The purchase of futures or call options thereon can serve
as a long hedge, and the sale of futures or the purchase of put options
thereon can serve as a short hedge. Writing covered call options on futures
contracts can serve as a limited short hedge, and writing covered put options
on futures contracts can serve as a limited long hedge, using a strategy
similar to that used for writing covered options on securities or indices.
No price is paid upon entering into a futures contract. Instead, at the
inception of a futures contract the Fund is required to deposit in a
segregated account with its custodian, in the name of the futures broker
through whom the transaction was effected, "initial margin" consisting of cash
obligations of the U.S. government or obligations fully guaranteed as to
principal and interest by the United States, in an amount generally equal to
10% or less of the contract value. Margin must also be deposited when writing
a call option on a futures contract, in accordance with applicable exchange
rules. Unlike margin in securities transactions, initial margin on futures
contracts does not represent a borrowing, but rather is in the nature of a
performance bond or good-faith deposit that is returned to the Fund at the
termination of the transaction if all contractual obligations have been
satisfied. Under certain circumstances, such as periods of high volatility,
the Fund may be required by an exchange to increase the level of its initial
margin payment, and initial margin requirements might be increased generally
in the future by regulatory action.
Subsequent "variation margin" payments are made to and from the futures
broker daily as the value of the futures position varies, a process known as
"marking to market." Variation margin does not involve borrowing, but rather
represents a daily settlement of the Fund's obligations to or from a futures
broker. When the Fund purchases an option on a future, the premium paid plus
transaction costs is all that is at risk. In contrast, when the Fund purchases
or sells a futures contract or writes a call option thereon, it is subject to
daily variation margin calls that could be substantial in the event of adverse
price movements. If the Fund has insufficient cash to meet daily variation
margin requirements, it might need to sell securities at a time when such
sales are disadvantageous.
Holders and writers of futures positions and options on futures can enter
into offsetting closing transactions, similar to closing transactions on
options, by selling or purchasing, respectively, an instrument identical to
the instrument held or written. Positions in futures and options on futures
may be closed only on an exchange or board of trade that provides a secondary
market. The Fund intends to enter into futures transactions only on exchanges
or boards of trade where there appears to be a liquid secondary market.
However, there can be no assurance that such a market will exist for a
particular contract at a particular time.
Under certain circumstances, futures exchanges may establish daily limits on
the amount that the price of a future or related option can vary from the
previous day's settlement price; once that limit is reached, no trades may be
made that day at a price beyond the limit. Daily price limits do not limit
potential losses because prices could move to the daily limit for several
consecutive days with little or no trading, thereby preventing liquidation of
unfavorable positions.
12
<PAGE>
If the Fund were unable to liquidate a futures or related options position
due to the absence of a liquid secondary market or the imposition of price
limits, it could incur substantial losses. The Fund would continue to be
subject to market risk with respect to the position. In addition, except in
the case of purchased options, the Fund would continue to be required to make
daily variation margin payments and might be required to maintain the position
being hedged by the future or option or to maintain cash or securities in a
segregated account.
Certain characteristics of the futures market might increase the risk that
movements in the prices of futures contracts or related options might not
correlate perfectly with movements in the prices of the investments being
hedged. For example, all participants in the futures and related options
markets are subject to daily variation margin calls and might be compelled to
liquidate futures or related options positions whose prices are moving
unfavorably to avoid being subject to further calls. These liquidations could
increase price volatility of the instruments and distort the normal price
relationship between the futures or options and the investments being hedged.
Also, because initial margin deposit requirements in the futures market are
less onerous than margin requirements in the securities markets, there might
be increased participation by speculators in the futures markets. This
participation also might cause temporary price distortions. In addition,
activities of large traders in both the futures and securities markets
involving arbitrage, "program trading" and other investment strategies might
result in temporary price distortions.
LIMITATIONS ON THE USE OF FUTURES AND RELATED OPTIONS. The Fund's use of
futures and related options is governed by the following guidelines, which can
be changed by the board without shareholder vote:
(1) To the extent the Fund enters into futures contracts and options on
futures positions that are not for bona fide hedging purposes (as
defined by the CFTC), the aggregate initial margin and premiums on
those positions (excluding the amount by which options are "in-the-
money") may not exceed 5% of its net assets.
(2) The aggregate premiums paid on all options (including options on
securities and stock or bond indices and options on futures contracts)
purchased by the Fund that are held at any one time will not exceed 20%
of its net assets.
(3) The aggregate margin deposits on all futures contracts and options
thereon held at any one time by the Fund will not exceed 5% of its
total assets.
13
<PAGE>
TRUSTEES AND OFFICERS; PRINCIPAL HOLDERS OF SECURITIES
The trustees and executive officers of the Trust, their ages, business
addresses and principal occupations during the past five years are:
<TABLE>
<CAPTION>
POSITION WITH THE BUSINESS EXPERIENCE;
NAME, ADDRESS* AND AGE TRUST OTHER DIRECTORSHIPS
---------------------------- ----------------- -----------------------------
<C> <C> <S>
Margo N. Alexander**; 51 Trustee and Mrs. Alexander is president,
President chief executive officer and
a director of Mitchell
Hutchins (since January
1995) and also an executive
vice president and a
director of PaineWebber
(since March 1984). Mrs.
Alexander is president and a
director or trustee of 32
investment companies for
which Mitchell Hutchins,
PaineWebber or their
affiliates serve as
investment adviser.
Richard Q. Armstrong; 63 Trustee Mr. Armstrong is chairman and
One Old Church Road principal of R.Q.A. Enter-
Unit #6 prises (management consult-
Greenwich, CT 06830 ing firm) (since April 1991
and principal occupation
since March 1995). He was
chairman of the board, chief
executive officer and co-
owner of Adirondack Bever-
ages (producer and distribu-
tor of soft drinks and spar-
kling/ still waters) (Octo-
ber 1993-March 1995). Mr.
Armstrong was a partner of
the New England Consulting
Group (management consulting
firm) (December 1992-Septem-
ber 1993). He was managing
director of LVMH U.S. Corpo-
ration (U.S. subsidiary of
the French luxury goods con-
glomerate, Louis Vuitton
Moet Hennessey Corporation)
(1987-1991) and chairman of
its wine and spirits subsid-
iary, Schieffelin & Somerset
Company (1987-1991). Mr.
Armstrong is a director or
trustee of 31 investment
companies for which Mitchell
Hutchins, PaineWebber or
their affiliates serve as
investment adviser.
E. Garrett Bewkes, Jr.**; 72 Trustee and Mr. Bewkes is a director of
Chairman of the Paine Webber Group Inc. ("PW
Board of Trustees Group") (holding company of
PaineWebber and Mitchell
Hutchins). Prior to December
1995, he was a consultant to
PW Group. Prior to 1988, he
was chairman of the board,
president and chief execu-
tive officer of American
Bakeries Company. Mr. Bewkes
is a director of Interstate
Bakeries Corporation. Mr.
Bewkes is a director or
trustee of 34 investment
companies for which Mitchell
Hutchins, PaineWebber or
their affiliates serve as
investment adviser.
</TABLE>
14
<PAGE>
<TABLE>
<CAPTION>
POSITION
WITH THE BUSINESS EXPERIENCE;
NAME, ADDRESS* AND AGE TRUST OTHER DIRECTORSHIPS
---------------------------- -------- --------------------------------------
<C> <C> <S>
Richard R. Burt; 51 Trustee Mr. Burt is chairman of IEP Advisors,
1275 Pennsylvania Ave., N.W. Inc. (international investments and
Washington, D.C. 20004 consulting firm) (since March 1994)
and a partner of McKinsey & Company
(management consulting firm) (since
1991). He is also a director of Ar-
cher-Daniels-Midland Co. (agricul-
tural commodities), Hollinger Inter-
national Co. (publishing), Homestake
Mining Corp., Powerhouse Technologies
Inc. and Wierton Steel Corp. He was
the chief negotiator in the Strategic
Arms Reduction Talks with the former
Soviet Union (1989-1991) and the U.S.
Ambassador to the Federal Republic of
Germany (1985-1989). Mr. Burt is a
director of trustee of 31 investment
companies for which Mitchell
Hutchins, PaineWebber or their affil-
iates serve as investment adviser.
Mary C. Farrell**; 48 Trustee Ms. Farrell is a managing director,
senior investment strategist, and
member of the Investment Policy Com-
mittee of PaineWebber. Ms. Farrell
joined PaineWebber in 1982. She is a
member of the Financial Women's Asso-
ciation and Women's Economic Round-
table and appears as a regular panel-
ist on Wall $treet Week with Louis
Rukeyser. She also serves on the
Board of Overseers of New York
University's Stern School of Busi-
ness. Ms. Farrell is a director or
trustee of 31 investment companies
for which Mitchell Hutchins,
PaineWebber or their affiliates serve
as investment adviser.
Meyer Feldberg; 56 Trustee Mr. Feldberg is Dean and Professor of
Columbia University Man- agement of the Graduate School
101 Uris Hall of Busi- ness, Columbia University.
New York, New York 10027 Prior to 1989, he was president of
the Illinois Institute of Technology.
Dean Feldberg is also a director of
Primedia Inc., Federated Department
Stores Inc., and Revlon, Inc. Dean
Feldberg is a director or trustee of
33 investment companies for which
Mitchell Hutchins, PaineWebber or
their affiliates serve as investment
adviser.
George W. Gowen; 69 Trustee Mr. Gowen is a partner in the law firm
666 Third Avenue of Dunnington, Bartholow & Miller.
New York, New York 10017 Prior to May 1994, he was a partner
in the law firm of Fryer, Ross & Gow-
en. Mr. Gowen is a director or
trustee of 31 investment companies
for which Mitchell Hutchins,
PaineWebber or their affiliates serve
as investment adviser.
</TABLE>
15
<PAGE>
<TABLE>
<CAPTION>
POSITION
WITH THE BUSINESS EXPERIENCE;
NAME, ADDRESS* AND AGE TRUST OTHER DIRECTORSHIPS
------------------------------ -------- ------------------------------------
<C> <C> <S>
Frederic V. Malek; 61 Trustee Mr. Malek is chairman of Thayer Cap-
1455 Pennsylvania Avenue, N.W. ital Partners (merchant bank). From
Suite 350 January 1992 to November 1992, he
Washington, D.C. 20004 was campaign manager of Bush-Quayle
"92. From 1990 to 1992, he was vice
chairman, and from 1989 to 1990, he
was president of Northwest Airlines
Inc., NWA Inc. (holding company of
Northwest Airlines Inc.) and Wings
Holdings Inc. (holding company of
NWA Inc.) Prior to 1989, he was em-
ployed by the Marriott Corporation
(hotels, restaurants, airline ca-
tering and contract feeding), where
he most recently was an executive
vice president and president of
Marriott Hotels and Resorts. Mr.
Malek is also a director of Ameri-
can Management Systems, Inc. (man-
agement consulting and computer-re-
lated services), Automatic Data
Processing, Inc., CB Commercial
Group, Inc. (real estate services),
Choice Hotels International (hotel
and hotel franchising), FPL Group,
Inc. (electric services), Manor
Care, Inc. (health care) and North-
west Airlines Inc. Mr. Malek is a
director or trustee of 31 invest-
ment companies for which Mitchell
Hutchins, PaineWebber or their af-
filiates serve as investment
adviser.
Carl W. Schafer; 62 Trustee Mr. Schafer is president of the At-
66 Witherspoon Street lantic Foundation (charitable foun-
#1100 dation supporting mainly oceano-
Princeton, N.J. 08542 graphic exploration and research).
He is a director of Base Ten Sys-
tems, Inc. (software), Roadway Ex-
press, Inc. (trucking), The Guard-
ian Group of Mutual Funds, the Har-
ding, Loevner Funds, Evans Systems,
Inc. (a motor fuels, convenience
store and diversified company),
Electronic Clearing House, Inc.
(financial transactions process-
ing), Frontier Oil Corporation and
Nutraceutix Inc. (biotechnology).
Prior to January 1993, Mr. Schafer
was chairman of the Investment Ad-
visory Committee of the Howard
Hughes Medical Institute. Mr. Scha-
fer is a director or trustee of 31
investment companies for which
Mitchell Hutchins, PaineWebber or
their affiliates serve as invest-
ment adviser.
</TABLE>
16
<PAGE>
<TABLE>
<CAPTION>
NAME, ADDRESS* AND POSITION WITH THE BUSINESS EXPERIENCE;
AGE TRUST OTHER DIRECTORSHIPS
--------------------- ------------------- ----------------------------------
<C> <C> <S>
Julieanna Berry; 35 Vice President Ms. Berry is a first vice presi-
dent and a portfolio manager of
Mitchell Hutchins. Ms. Berry is a
vice president of two investment
companies for which Mitchell
Hutchins, PaineWebber or their
affiliates serve as investment
adviser.
Lawrence Chinsky; 29 Vice President and Mr. Chinsky is an assistant vice
Assistant Treasurer president and investment monitor-
ing officer of the mutual fund
finance department of Mitchell
Hutchins. Prior to August 1997,
he was a securities compliance
examiner with the Office of Com-
pliance, Inspections and Examina-
tions in the New York Regional
Office of the SEC. Mr. Chinsky is
vice president and assistant
treasurer of 32 investment compa-
nies for which Mitchell Hutchins,
PaineWebber or their affiliates
serve as investment adviser.
Karen L. Finkel; 40 Vice President Mrs. Finkel is a senior vice pres-
ident and a portfolio manager of
Mitchell Hutchins. Mrs. Finkel is
a vice president of two invest-
ment companies for which Mitchell
Hutchins, PaineWebber or their
affiliates serve as investment
adviser.
James F. Keegan; 38 Vice President Mr. Keegan is a senior vice presi-
dent and a portfolio manager of
Mitchell Hutchins. Prior to March
1996, he was director of fixed
income strategy and research of
Merrion Group, L.P. From 1987 to
1994, he was a vice president of
global investment management of
Bankers Trust. Mr. Keegan is a
vice president of three invest-
ment companies for which Mitchell
Hutchins, PaineWebber or their
affiliates serve as investment
adviser.
John J. Lee; 30 Vice President and Mr. Lee is a vice president and a
Assistant Treasurer manager of the mutual fund fi-
nance department of Mitchell
Hutchins. Prior to September
1997, he was an audit manager in
the financial services practice
of Ernst & Young LLP. Mr. Lee is
a vice president and assistant
treasurer of 32 investment compa-
nies for which Mitchell Hutchins,
PaineWebber or their affiliates
serve as investment adviser.
Thomas J. Libassi; 39 Vice President Mr. Libassi is a senior vice pres-
ident and portfolio manager of
Mitchell Hutchins. Prior to May
1994, he was a vice president of
Keystone Custodian Funds Inc.
with portfolio management respon-
sibility. Mr. Libassi is a vice
president of six investment com-
panies for which Mitchell
Hutchins, PaineWebber or their
affiliates serve as investment
adviser.
</TABLE>
17
<PAGE>
<TABLE>
<CAPTION>
POSITION WITH THE BUSINESS EXPERIENCE;
NAME, ADDRESS* AND AGE TRUST OTHER DIRECTORSHIPS
------------------------- ------------------- ------------------------------
<C> <C> <S>
Dennis McCauley; 51 Vice President Mr. McCauley is a managing di-
rector and chief investment
officer--fixed income of
Mitchell Hutchins. Prior to
December 1994, he was a di-
rector of fixed income in-
vestments of IBM Corporation.
Mr. McCauley is a vice presi-
dent of 22 investment compa-
nies for which Mitchell
Hutchins, PaineWebber or
their affiliates serve as in-
vestment adviser.
Ann E. Moran; 41 Vice President and Ms. Moran is a vice president
Assistant Treasurer and a manager of the mutual
fund finance department of
Mitchell Hutchins. Ms. Moran
is a vice president and as-
sistant treasurer of 32 in-
vestment companies for which
Mitchell Hutchins,
PaineWebber or their affili-
ates serve as investment ad-
viser.
Dianne E. O'Donnell; 46 Vice President and Ms. O'Donnell is a senior vice
Secretary president and deputy general
counsel of Mitchell Hutchins.
Ms. O'Donnell is a vice pres-
ident and secretary of 31 in-
vestment companies and vice
president and assistant sec-
retary of one investment com-
pany for which Mitchell
Hutchins, PaineWebber or
their affiliates serve as in-
vestment adviser.
Emil Polito; 38 Vice President Mr. Polito is a senior vice
president and director of op-
erations and control for
Mitchell Hutchins. Mr. Polito
is a vice president of 32 in-
vestment companies for which
Mitchell Hutchins, Paine-
Webber or their affiliates
serve as investment adviser.
Victoria E. Schonfeld; 47 Vice President Ms. Schonfeld is a managing
director and general counsel
of Mitchell Hutchins. Prior
to May 1994, she was a part-
ner in the law firm of Arnold
& Porter. Ms. Schonfeld is a
vice president of 31 invest-
ment companies and a vice
president and secretary of
one investment company for
which Mitchell Hutchins,
PaineWebber or their affili-
ates serve as investment ad-
viser.
Paul H. Schubert; 35 Vice President and Mr. Schubert is a senior vice
Treasurer president and director of the
mutual fund finance depart-
ment of Mitchell Hutchins.
From August 1992 to August
1994, he was a vice president
at BlackRock Financial Man-
agement Inc. Mr. Schubert is
a vice president and trea-
surer of 32 investment compa-
nies for which Mitchell
Hutchins, PaineWebber or
their affiliates serve as in-
vestment adviser.
</TABLE>
18
<PAGE>
<TABLE>
<CAPTION>
POSITION WITH THE BUSINESS EXPERIENCE;
NAME, ADDRESS* AND AGE TRUST OTHER DIRECTORSHIPS
-------------------------- ------------------- -----------------------------
<C> <C> <S>
Nirmal Singh; 42 Vice President Mr. Singh is a senior vice
president and a portfolio
manager of Mitchell
Hutchins. Mr. Singh is a
vice president of four in-
vestment companies for which
Mitchell Hutchins,
PaineWebber or their affili-
ates serve as investment ad-
viser.
Barney A. Taglialatela; 37 Vice President and Mr. Taglialatela is a vice
Assistant Treasurer president and a manager of
the mutual fund finance de-
partment of Mitchell
Hutchins. Prior to February
1995, he was a manager of
the mutual fund finance di-
vision of Kidder Peabody As-
set Management, Inc. Mr.
Taglialatela is a vice pres-
ident and assistant trea-
surer of 32 investment com-
panies for which Mitchell
Hutchins, PaineWebber or
their affiliates serve as
investment adviser.
Mark A. Tincher; 43 Vice President Mr. Tincher is a managing di-
rector and chief investment
officer--equity investments
of Mitchell Hutchins. Prior
to March 1995, he was a vice
president and directed the
U.S. funds management and
equity research areas of
Chase Manhattan Private
Bank. Mr. Tincher is a vice
president of 13 investment
companies for which Mitchell
Hutchins, PaineWebber or
their affiliates serve as
investment adviser.
Craig M. Varrelman; 39 Vice President Mr. Varrelman is a senior
vice president and a portfo-
lio manager of Mitchell
Hutchins. Mr. Varrelman is a
vice president of four in-
vestment companies for which
Mitchell Hutchins,
PaineWebber or their affili-
ates serve as investment ad-
viser.
Keith A. Weller; 37 Vice President and Mr. Weller is a first vice
Assistant Secretary president and associate gen-
eral counsel of Mitchell
Hutchins. Prior to May 1995,
he was an attorney in pri-
vate practice. Mr. Weller is
a vice president and assis-
tant secretary of 31 invest-
ment companies for which
Mitchell Hutchins,
PaineWebber or their affili-
ates serve as investment ad-
viser.
</TABLE>
- --------
* Unless otherwise indicated, the business address of each listed person is
1285 Avenue of the Americas, New York, New York 10019.
** Mrs. Alexander, Mr. Bewkes and Ms. Farrell are "interested persons" of the
Trust as defined in the 1940 Act by virtue of their positions with Mitchell
Hutchins, PaineWebber, and/or PW Group.
19
<PAGE>
The Trust pays trustees who are not "interested persons" of the Trust $1,000
annually for each series. The Trust presently has eight series and thus pays
such trustees $8,000 annually. For each series, the Trust pays $150 for each
board meeting and separate meeting of the board committee (other than
committee meetings held on the same day as the board meeting). In addition,
the Trust pays any additional amounts due for board or committee meetings.
Each chairman of the audit and contract review committees of individual funds
within the PaineWebber fund complex receives additional compensation
aggregating $15,000 annually. All board members are reimbursed for any
expenses incurred in attending meetings. Because PaineWebber and Mitchell
Hutchins perform substantially all of the services necessary for the operation
of the Trust and the Fund, the Trust requires no employees. No officer,
director or employee of Mitchell Hutchins or PaineWebber presently receives
any compensation from the Trust for acting as a board member or officer.
The table below includes certain information relating to the compensation of
the Trust's current trustees who held office with the Trust or with other
PaineWebber funds during the fiscal year indicated.
COMPENSATION TABLE+
<TABLE>
<CAPTION>
ESTIMATED
AGGREGATE TOTAL
ANNUAL COMPENSATION
COMPENSATION FROM
FROM THE THE FUND
NAME OF PERSON, POSITION TRUST COMPLEX(1)
- ------------------------ ------------ ------------
<S> <C> <C>
Richard Q. Armstrong, Trustee......................... $14,000 $ 94,885
Richard R. Burt, Trustee.............................. $14,000 $ 87,085
Meyer Feldberg, Trustee............................... $14,000 $117,853
George W. Gowen, Trustee.............................. $17,640 $101,567
Frederic V. Malek, Trustee............................ $14,000 $ 95,845
Carl W. Schafer, Trustee.............................. $14,000 $ 94,885
</TABLE>
- --------
+ Only independent members of the board are compensated by the Trust and
identified above; trustees who are "interested persons," as defined by the
1940 Act, do not receive compensation.
(1) Represents total compensation paid to each Trustee during the calendar
year ended December 31, 1997; no fund within the fund complex has a bonus,
pension, profit sharing or retirement plan.
CONTROL PERSONS AND PRINCIPAL HOLDERS OF SECURITIES. As of October 23, 1998,
Mitchell Hutchins owned of record 100% of the outstanding Shares, and none of
the Trustees and officers of the Fund beneficially owned any of the
outstanding Shares.
INVESTMENT ADVISORY AND DISTRIBUTION ARRANGEMENTS
INVESTMENT ADVISORY ARRANGEMENTS. Mitchell Hutchins acts as the investment
adviser and administrator of the Fund pursuant to an advisory contract
("Advisory Contract") with the Trust. Under the Advisory Contract, the Fund
pays Mitchell Hutchins a fee, computed daily and paid monthly, at the annual
rate of 0.75% of the Fund's average daily net assets, computed daily and paid
monthly. PaineWebber provides transfer agency related services to the Fund
pursuant to a delegation of authority from PFPC Inc. and is compensated for
those services by PFPC Inc., not the Fund.
Under the terms of the Advisory Contract, the Fund bears all expenses
incurred in its operation that are not specifically assumed by Mitchell
Hutchins. Expenses borne by the Fund include the following: (1) the cost
(including brokerage commissions) of securities purchased or sold by the Fund
and any losses incurred in connection therewith; (2) fees payable to and
expenses incurred on behalf of the Fund by Mitchell Hutchins; (3)
organizational expenses; (4) filing fees and expenses relating to the
registration and qualification of the Fund's shares under federal and state
securities laws and maintenance of such registrations and qualifications; (5)
fees and salaries payable to trustees and officers who are not interested
persons (as defined in the 1940 Act) of the Fund or Mitchell Hutchins; (6) all
20
<PAGE>
expenses incurred in connection with the trustees' services, including travel
expenses; (7) taxes (including any income or franchise taxes) and governmental
fees; (8) costs of any liability, uncollectible items of deposit and other
insurance or fidelity bonds; (9) any costs, expenses or losses arising out of
a liability of or claim for damages or other relief asserted against the Trust
or Fund for violation of any law; (10) legal, accounting and auditing
expenses, including legal fees of special counsel for the independent
trustees; (11) charges of custodians, transfer agents and other agents; (12)
costs of preparing share certificates; (13) expenses of setting in type and
printing prospectuses, statements of additional information and supplements
thereto, reports and proxy materials for existing shareholders, and costs of
mailing such materials to shareholders; (14) any extraordinary expenses
(including fees and disbursements of counsel) incurred by the Fund; (15) fees,
voluntary assessments and other expenses incurred in connection with
membership in investment company organizations; (16) costs of mailing and
tabulating proxies and costs of meetings of shareholders, the board and any
committees thereof; (17) the cost of investment company literature and other
publications provided to trustees and officers; and (18) costs of mailing,
stationery and communications equipment.
Under the Advisory Contract, Mitchell Hutchins will not be liable for any
error of judgment or mistake of law or for any loss suffered by the Fund in
connection with the performance of the contracts, except a loss resulting from
willful misfeasance, bad faith or gross negligence on the part of Mitchell
Hutchins in the performance of its duties or from reckless disregard of its
duties and obligations thereunder. The Advisory Contract terminates
automatically upon assignment and is terminable at any time without penalty by
the board or by vote of the holders of a majority of the Fund's outstanding
voting securities on 60 days' written notice to Mitchell Hutchins, or by
Mitchell Hutchins on 60 days' written notice to the Fund.
NET ASSETS. The following table shows the approximate net assets as of
August 31, 1998, sorted by category of investment objective, of the investment
companies for which Mitchell Hutchins serves as adviser or sub-adviser. An
investment company may fall into more than one of the categories below.
<TABLE>
<CAPTION>
INVESTMENT CATEGORY NET ASSETS
------------------- ----------
($ MIL)
<S> <C>
Domestic (excluding Money Market)............................... $ 7,065.7
Global.......................................................... 3,506.5
Equity/Balanced................................................. 5,530.6
Fixed Income (excluding Money Market)........................... 5,058.7
Taxable Fixed Income.......................................... 3,474.7
Tax-Free Fixed Income......................................... 1,584.0
Money Market Funds.............................................. 29,448.7
</TABLE>
PERSONNEL TRADING POLICIES. Mitchell Hutchins personnel may invest in
securities for their own accounts pursuant to a code of ethics that describes
the fiduciary duty owed to shareholders of PaineWebber mutual funds and other
Mitchell Hutchins' advisory accounts by all Mitchell Hutchins' directors,
officers and employees, establishes procedures for personal investing and
restricts certain transactions. For example, employee accounts generally must
be maintained at PaineWebber, personal trades in most securities require pre-
clearance and short-term trading and participation in initial public offerings
generally are prohibited. In addition, the code of ethics puts restrictions on
the timing of personal investing in relation to trades by PaineWebber funds
and other Mitchell Hutchins advisory clients.
DISTRIBUTION ARRANGEMENTS. Mitchell Hutchins acts as the distributor of each
class of shares of the Fund under a distribution contract with the Trust
("Distribution Contract") that require Mitchell Hutchins to use its best
efforts, consistent with its other businesses, to sell shares of the Fund.
Shares of the Fund are offered continuously. Under an exclusive dealer
agreement between Mitchell Hutchins and PaineWebber relating to each class of
shares ("Exclusive Dealer Agreement"), PaineWebber and its correspondent firms
sell the Fund's shares.
Under a plan of distribution pertaining to the Class A, Class B and Class C
shares adopted by the Trust in the manner prescribed under Rule 12b-1 under
the 1940 Act ("Class A Plan," "Class B Plan"
21
<PAGE>
and "Class C Plan," collectively, "Plans"), the Fund pays Mitchell Hutchins a
service fee, accrued daily and payable monthly, at the annual rate of 0.25% of
the average daily net assets for each class. Under the Class B Plan and the
Class C Plan, the Fund also pays Mitchell Hutchins a distribution fee, accrued
daily and payable monthly, at the annual rate of 0.75% of the average daily
net assets of the Class B shares and Class C shares, respectively. There is no
distribution plan with respect to the Fund's Class Y shares.
Among other things, each Plan provides that (1) Mitchell Hutchins will
submit to the board at least quarterly, and the trustees will review, reports
regarding all amounts expended under the Plan and the purposes for which such
expenditures were made, (2) the Plan will continue in effect only so long as
it is approved at least annually, and any material amendment thereto is
approved, by the board, including those trustees who are not "interested
persons" of the Trust and who have no direct or indirect financial interest in
the operation of the Plan or any agreement related to the Plan, acting in
person at a meeting called for that purpose, (3) payments by the Fund under
the Plan shall not be materially increased without the affirmative vote of the
holders of a majority of the outstanding shares of the relevant class of the
Fund, and (4) while the Plan remains in effect, the selection and nomination
of trustees who are not "interested persons" of the Trust shall be committed
to the discretion of the trustees who are not "interested persons" of the
Trust.
In reporting amounts expended under the Plans to the trustees, Mitchell
Hutchins allocates expenses attributable to the sale of each class of the
Fund's shares to such class based on the ratio of sales of shares of such
class to the sales of all three classes of shares. The fees paid by one class
of the Fund's shares will not be used to subsidize the sale of any other class
of Fund shares.
"Marketing and advertising" includes various internal costs allocated by
Mitchell Hutchins to its efforts at distributing the Fund's shares. These
internal costs encompass office rent, salaries and other overhead expenses of
various departments and areas of operations of Mitchell Hutchins. "Branch
network costs allocated and interest expense" consist of an allocated portion
of the expenses of various PaineWebber departments involved in the
distribution of the Fund's shares, including the PaineWebber retail branch
system.
In approving the Fund's overall Flexible PricingSM system of distribution,
the board considered several factors, including that implementation of
Flexible Pricing would (1) enable investors to choose the purchasing option
best suited to their individual situation, thereby encouraging current
shareholders to make additional investments in the Fund and attracting new
investors and assets to the Fund to the benefit of the Fund and its
shareholders, (2) facilitate distribution of the Fund's shares and (3)
maintain the competitive position of the Fund in relation to other funds that
have implemented or are seeking to implement similar distribution
arrangements.
In approving the Class A Plan, the board considered all the features of the
distribution system, including (1) the conditions under which initial sales
charges would be imposed and the amount of such charges, (2) Mitchell
Hutchins' belief that the initial sales charge combined with a service fee
would be attractive to PaineWebber investment executives and correspondent
firms, resulting in greater growth of the Fund than might otherwise be the
case, (3) the advantages to the shareholders of economies of scale resulting
from growth in the Fund's assets and potential continued growth, (4) the
services provided to the Fund and its shareholders by Mitchell Hutchins, (5)
the services provided by PaineWebber pursuant to its Exclusive Dealer
Agreement with Mitchell Hutchins and (6) Mitchell Hutchins' shareholder
service-related expenses and costs.
In approving the Class B Plan, the board considered all the features of the
distribution system, including (1) the conditions under which contingent
deferred sales charges would be imposed and the amount of such charges, (2)
the advantage to investors in having no initial sales charges deducted from
Fund purchase payments and instead having the entire amount of their purchase
payments immediately invested in Fund shares, (3) Mitchell Hutchins' belief
that the ability of PaineWebber investment executives and correspondent firms
to receive sales commissions when Class B shares are sold and continuing
service fees thereafter while their customers invest their entire purchase
payments
22
<PAGE>
immediately in Class B shares would prove attractive to the investment
executives and correspondent firms, resulting in greater growth of the Fund
than might otherwise be the case, (4) the advantages to the shareholders of
economies of scale resulting from growth in the Fund's assets and potential
continued growth, (5) the services provided to the Fund and its shareholders
by Mitchell Hutchins, (6) the services provided by PaineWebber pursuant to its
Exclusive Dealer Agreement with Mitchell Hutchins and (7) Mitchell Hutchins'
shareholder service- and distribution-related expenses and costs. The trustees
also recognized that Mitchell Hutchins' willingness to compensate PaineWebber
and its investment executives, without the concomitant receipt by Mitchell
Hutchins of initial sales charges, was conditioned upon its expectation of
being compensated under the Class B Plan.
In approving the Class C Plan, the board considered all the features of the
distribution system, including (1) the advantage to investors in having no
initial sales charges deducted from Fund purchase payments and instead having
the entire amount of an investor's purchase payments immediately invested in
Fund shares, (2) the advantage to investors in being free from contingent
deferred sales charges upon redemption for shares held more than one year and
paying for distribution on an ongoing basis, (3) Mitchell Hutchins' belief
that the ability of PaineWebber investment executives and correspondent firms
to receive sales compensation for their sales of Class C shares on an ongoing
basis, along with continuing service fees, while their customers invest their
entire purchase payments immediately in Class C shares and generally do not
face contingent deferred sales charges, would prove attractive to the
investment executives and correspondent firms, resulting in greater growth to
the Fund than might otherwise be the case, (4) the advantages to the
shareholders of economies of scale resulting from growth in the Fund's assets
and potential continued growth, (5) the services provided to the Fund and its
shareholders by Mitchell Hutchins, (6) the services provided by PaineWebber
pursuant to its Exclusive Dealer Agreement with Mitchell Hutchins and (7)
Mitchell Hutchins' shareholder service- and distribution-related expenses and
costs. The trustees also recognized that Mitchell Hutchins' willingness to
compensate PaineWebber and its investment executives without the concomitant
receipt by Mitchell Hutchins of initial sales charges or contingent deferred
sales charges upon redemption, was conditioned upon its expectation of being
compensated under the Class C Plan.
With respect to each Plan, the board considered all compensation that
Mitchell Hutchins would receive under the Plan and the Distribution Contract,
including service fees and, as applicable, initial sales charges, distribution
fees and contingent deferred sales charges. The board also considered the
benefits that would accrue to Mitchell Hutchins under each Plan in that
Mitchell Hutchins would receive service, distribution and advisory fees which
are calculated based upon a percentage of the average net assets of the Fund,
which fees would increase if the Plan were successful and the Fund attained
and maintained significant asset levels.
PORTFOLIO TRANSACTIONS
Subject to policies established by the board, Mitchell Hutchins is
responsible for the execution of the Fund's portfolio transactions and the
allocation of brokerage transactions. In executing portfolio transactions,
Mitchell Hutchins seeks to obtain the best net results for the Fund, taking
into account such factors as the price (including the applicable brokerage
commission or dealer spread), size of order, difficulty of execution and
operational facilities of the firm involved. While Mitchell Hutchins generally
seeks reasonably competitive commission rates, payment of the lowest
commission is not necessarily consistent with obtaining the best net results.
Prices paid to dealers in principal transactions, through which most debt
securities and some equity securities are traded, generally include a
"spread," which is the difference between the prices at which the dealer is
willing to purchase and sell a specific security at the time. The Fund may
invest in securities traded in the OTC market and will engage primarily in
transactions directly with the dealers who make markets in such securities,
unless a better price or execution could be obtained by using a broker.
The Fund has no obligation to deal with any broker or group of brokers in
the execution of portfolio transactions. The Fund contemplates that,
consistent with the policy of obtaining the best net results,
23
<PAGE>
brokerage transactions may be conducted through PaineWebber. The board has
adopted procedures in conformity with Rule 17e-1 under the 1940 Act to ensure
that all brokerage commissions paid to PaineWebber are reasonable and fair.
Specific provisions in the Advisory Contract authorize PaineWebber and any of
its affiliates that is a member of a national security exchange to effect
portfolio transactions for the Fund on such exchange and to retain
compensation in connection with such transactions. Any such transactions will
be effected and related compensation paid only in accordance with applicable
SEC regulations.
Transactions in futures contracts are executed through futures commission
merchants ("FCMs"), who receive brokerage commissions for their services. The
Fund's procedures in selecting FCMs to execute their transactions in futures
contracts, including procedures permitting the use of PaineWebber, are similar
to those in effect with respect to brokerage transactions in securities.
Consistent with the interests of the Fund and subject to the review of its
board, Mitchell Hutchins may cause the Fund to purchase and sell portfolio
securities from and to dealers or through brokers who provide Mitchell
Hutchins with research, analysis, advice and similar services. The Fund may
pay to those brokers a higher commission than may be charged by other brokers,
provided that Mitchell Hutchins determines in good faith that such commission
is reasonable in terms either of that particular transaction or of the overall
responsibility of Mitchell Hutchins to the Fund and its other clients and that
the total commissions paid by the Fund will be reasonable in relation to the
benefits to the Fund over the long term.
For purchases or sales with broker-dealer firms which act as principal,
Mitchell Hutchins seeks best execution. Although Mitchell Hutchins may receive
certain research or execution services in connection with these transactions,
Mitchell Hutchins will not purchase securities at a higher price or sell
securities at a lower price than would otherwise be paid if no weight were
attributed to the services provided by the executing dealer. Moreover,
Mitchell Hutchins will not enter into any explicit soft dollar arrangements
relating to principal transactions and will not receive in principal
transactions the types of services which could be purchased for hard dollars.
Mitchell Hutchins may engage in agency transactions in OTC equity and debt
securities in return for research and execution services. These transactions
are entered into only in compliance with procedures ensuring that the
transaction (including commissions) is at least as favorable as it would have
been if effected directly with a market-maker that did not provide research or
execution services. These procedures include Mitchell Hutchins receiving
multiple quotes from dealers before executing the transactions on an agency
basis.
Information and research services furnished by brokers or dealers through
which or with which the Fund effect securities transactions may be used by
Mitchell Hutchins in advising other funds or accounts and, conversely,
information and research services furnished to Mitchell Hutchins by brokers or
dealers in connection with other funds or accounts that either of them advises
may be used in advising the Fund. Information and research received from
brokers or dealers will be in addition to, and not in lieu of, the services
required to be performed by Mitchell Hutchins under the Advisory Contracts.
Investment decisions for the Fund and for other investment accounts managed
by Mitchell Hutchins are made independently of each other in light of
differing considerations for the various accounts. However, the same
investment decision may occasionally be made for the Fund and one or more of
such accounts. In such cases, simultaneous transactions are inevitable.
Purchases or sales are then averaged as to price and allocated between the
Fund and such other account(s) as to amount according to a formula deemed
equitable to the Fund and such account(s). While in some cases this practice
could have a detrimental effect upon the price or value of the security as far
as the Fund is concerned, or upon their ability to complete their entire
order, in other cases it is believed that coordination and the ability to
participate in volume transactions will be beneficial to the Fund.
The Fund will not purchase securities that are offered in underwritings in
which PaineWebber is a member of the underwriting or selling group, except
pursuant to procedures adopted by the board pursuant to Rule 10f-3 under the
1940 Act. Among other things, these procedures require that the spread or
commission paid in connection with such a purchase be reasonable and fair, the
purchase be at not
24
<PAGE>
more than the public offering price prior to the end of the first business day
after the date of the public offering and that PaineWebber or any affiliate
thereof not participate in or benefit from the sale to the Fund.
PORTFOLIO TURNOVER. The Fund's annual portfolio turnover rates may vary from
year to year, but they will not be a prohibitive factor when management deems
portfolio changes appropriate. The portfolio turnover rate is calculated by
dividing the lesser of the Fund's annual sales or purchases of portfolio
securities (exclusive of purchases or sales of securities whose maturities at
the time of acquisition were one year or less) by the monthly average value of
securities in the portfolio during the year.
REDUCED SALES CHARGES, ADDITIONAL EXCHANGE AND REDEMPTION
INFORMATION AND OTHER SERVICES
COMBINED PURCHASE PRIVILEGE--CLASS A SHARES. Investors and eligible groups
of related Fund investors may combine purchases of Class A shares of the Fund
with concurrent purchases of Class A shares of any other PaineWebber mutual
fund and thus take advantage of the reduced sales charges indicated in the
table of sales charges for Class A shares in the Prospectus. The sales charge
payable on the purchase of Class A shares of the Fund and Class A shares of
such other funds will be at the rates applicable to the total amount of the
combined concurrent purchases.
An "eligible group of related Fund investors" can consist of any combination
of the following:
(a) an individual, that individual's spouse, parents and children;
(b) an individual and his or her Individual Retirement Account ("IRA");
(c) an individual (or eligible group of individuals) and any company
controlled by the individual(s) (a person, entity or group that holds
25% or more of the outstanding voting securities of a corporation will
be deemed to control the corporation, and a partnership will be deemed
to be controlled by each of its general partners);
(d) an individual (or eligible group of individuals) and one or more
employee benefit plans of a company controlled by such individual(s);
(e) an individual (or eligible group of individuals) and a trust created by
the individual(s), the beneficiaries of which are the individual and/or
the individual's spouse, parents or children;
(f) an individual and a Uniform Gifts to Minors Act/Uniform Transfers to
Minors Act account created by the individual or the individual's
spouse;
(g) an employer (or group of related employers) and one or more qualified
retirement plans of such employer or employers (an employer
controlling, controlled by or under common control with another
employer is deemed related to that other employer); or
(h) an individual's accounts related together under one registered
investment adviser having full discretion and control over the
accounts. The registered investment adviser must communicate at least
quarterly through a newsletter or investment update establishing a
relationship with all of the accounts.
RIGHTS OF ACCUMULATION--CLASS A SHARES. Reduced sales charges are available
through a right of accumulation, under which investors and eligible groups of
related Fund investors (as defined above) are permitted to purchase Class A
shares of the Fund among related accounts at the offering price applicable to
the total of (1) the dollar amount then being purchased plus (2) an amount
equal to the then-current net asset value of the purchaser's combined holdings
of Class A Fund shares and Class A shares of any other PaineWebber mutual
fund. The purchaser must provide sufficient information to permit confirmation
of his or her holdings, and the acceptance of the purchase order is subject to
such confirmation. The right of accumulation may be amended or terminated at
any time.
WAIVERS OF SALES CHARGES--CLASS B SHARES. Among other circumstances, the
contingent deferred sales charge on Class B shares is waived where a total or
partial redemption is made within one year
25
<PAGE>
following the death of the shareholder. The contingent deferred sales charge
waiver is available where the decedent is either the individual shareholder or
owns the shares with his or her spouse as a joint tenant with right of
survivorship. This waiver applies only to redemption of shares held at the
time of death.
ADDITIONAL EXCHANGE AND REDEMPTION INFORMATION. As discussed in the
Prospectus, eligible shares of the Fund may be exchanged for shares of the
corresponding class of most other PaineWebber mutual funds. This exchange
privilege is available only in those jurisdictions where the sale of
PaineWebber fund shares to be acquired through such exchange may be legally
made. Shareholders will receive at least 60 days' notice of any termination or
material modification of the exchange offer, except no notice need be given of
an amendment whose only material effect is to reduce the exchange fee and no
notice need be given if, under extraordinary circumstances, either redemptions
are suspended under the circumstances described below or the Fund temporarily
delays or ceases the sales of its shares because it is unable to invest
amounts effectively in accordance with the Fund's investment objective,
policies and restrictions.
If conditions exist that make cash payments undesirable, the Fund reserves
the right to honor any request for redemption by making payment in whole or in
part in securities chosen by the Fund and valued in the same way as they would
be valued for purposes of computing the Fund's net asset value. Any such
redemption in kind will be made with readily marketable securities, to the
extent available. If payment is made in securities, a shareholder may incur
brokerage expenses in converting these securities into cash. The Trust has
elected, however, to be governed by Rule 18f-1 under the 1940 Act, under which
the Fund is obligated to redeem shares solely in cash up to the lesser of
$250,000 or 1% of its net asset value during any 90-day period for one
shareholder. This election is irrevocable unless the SEC permits its
withdrawal. The Fund may suspend redemption privileges or postpone the date of
payment during any period (1) when the New York Stock Exchange ("NYSE") is
closed or trading on the NYSE is restricted as determined by the SEC, (2) when
an emergency exists, as defined by the SEC, that makes it not reasonably
practicable for the Fund to dispose of securities owned by it or fairly to
determine the value of its assets or (3) as the SEC may otherwise permit. The
redemption price may be more or less than the shareholder's cost, depending on
the market value of the Fund's portfolio at the time.
SERVICE ORGANIZATIONS. The Fund may authorize service organizations, and
their agents, to accept on its behalf purchase and redemption orders that are
in "good form." The Fund will be deemed to have received these purchase and
redemption orders when a service organization or its agent accepts them. Like
all customers orders, these orders will be priced based on the Fund's net
asset value next computed after receipt of the order by the service
organizations or these agents. Service organizations may include retirement
plan service providers who aggregate purchase and redemption instructions
received from numerous retirement plans or plan participants.
AUTOMATIC INVESTMENT PLAN. Participation in the Automatic Investment Plan
enables an investor to use the technique of "dollar cost averaging." When the
investor invests the same dollar amount each month under the Plan, the
investor will purchase more shares when the Fund's net asset value per share
is low and fewer shares when the net asset value per share is high. Using this
technique, an investor's average purchase price per share over any given
period will be lower than if the investor purchased a fixed number of shares
on a monthly basis during the period. Of course, investing through the
automatic investment plan does not assure a profit or protect against loss in
declining markets. Additionally, because the automatic investment plan
involves continuous investing regardless of price levels, an investor should
consider his or her financial ability to continue purchases through periods of
both high and low price levels.
SYSTEMATIC WITHDRAWAL PLAN. An investor's participation in the systematic
withdrawal plan will terminate automatically if the "Initial Account Balance"
(a term that means the value of the Fund account at the time the investor
elects to participate in the systematic withdrawal plan) less aggregate
redemptions made other than pursuant to the systematic withdrawal plan is less
than $5,000 for Class A and Class C shareholders or $20,000 for Class B
shareholders. Purchases of additional Fund shares concurrent with withdrawals
are ordinarily disadvantageous to shareholders because of tax liabilities and,
26
<PAGE>
for Class A shares, initial sales charges. On or about the 20th of each month
for monthly, quarterly, semiannual or annual plans, PaineWebber will arrange
for redemption by the Fund of sufficient Fund shares to provide the withdrawal
payment specified by participants in the Fund's systematic withdrawal plan.
The payment generally is mailed approximately five Business Days (defined
under "Valuation of Shares") after the redemption date. Withdrawal payments
should not be considered dividends, but redemption proceeds, with the tax
consequences described under "Dividends & Taxes" in the Prospectus. If
periodic withdrawals continually exceed reinvested dividends, a shareholder's
investment may be correspondingly reduced. A shareholder may change the amount
of the systematic withdrawal or terminate participation in the systematic
withdrawal plan at any time without charge or penalty by written instructions
with signatures guaranteed to PaineWebber or PFPC Inc. ("Transfer Agent").
Instructions to participate in the plan, change the withdrawal amount or
terminate participation in the plan will not be effective until five days
after written instructions with signatures guaranteed are received by the
Transfer Agent. Shareholders may request the forms needed to establish a
systematic withdrawal plan from their PaineWebber investment executives,
correspondent firms or the Transfer Agent at 1-800-647-1568.
REINSTATEMENT PRIVILEGE--CLASS A SHARES. As described in the Prospectus,
shareholders who have redeemed their Class A shares may reinstate their
account in the Fund without a sales charge. Shareholders may exercise the
reinstatement privilege by notifying the Transfer Agent of such desire and
forwarding a check for the amount to be purchased within 365 days after the
date of redemption. The reinstatement will be made at the net asset value per
share next computed after the notice of reinstatement and check are received.
The amount of a purchase under this reinstatement privilege cannot exceed the
amount of the redemption proceeds. Gain on a redemption is taxable regardless
of whether the reinstatement privilege is exercised; however, a loss arising
out of a redemption will not be deductible to the extent the reinstatement
privilege is exercised within 30 days after redemption, and an adjustment will
be made to the shareholder's tax basis for shares acquired pursuant to the
reinstatement privilege. Gain or loss on a redemption also will be adjusted
for federal income tax purposes by the amount of any sales charge paid on
Class A shares, under the circumstances and to the extent described in
"Dividends & Taxes" in the Prospectus.
PAINEWEBBER RMA RESOURCE ACCUMULATION PLAN/SM/;
PAINEWEBBER RESOURCE MANAGEMENT ACCOUNT(R) (RMA)(R)
Shares of PaineWebber mutual funds (each a "PW Fund" and, collectively, the
"PW Funds") are available for purchase through the RMA Resource Accumulation
Plan ("Plan") by customers of PaineWebber and its correspondent firms who
maintain Resource Management Accounts ("RMA Accountholders"). The Plan allows
an RMA accountholder to continually invest in one or more of the PW Funds at
regular intervals, with payment for shares purchased automatically deducted
from the client's RMA account. The client may elect to invest at monthly or
quarterly intervals and may elect either to invest a fixed dollar amount
(minimum $100 per period) or to purchase a fixed number of shares. A client
can elect to have Plan purchases executed on the first or fifteenth day of the
month. Settlement occurs three Business Days (defined under "Valuation of
Shares") after the trade date, and the purchase price of the shares is
withdrawn from the investor's RMA account on the settlement date from the
following sources and in the following order: uninvested cash balances,
balances in RMA money market funds, or margin borrowing power, if applicable
to the account.
To participate in the Plan, an investor must be an RMA accountholder, must
have made an initial purchase of the shares of each PW Fund selected for
investment under the Plan (meeting applicable minimum investment requirements)
and must complete and submit the RMA Resource Accumulation Plan Client
Agreement and Instruction Form available from PaineWebber. The investor must
have received a current prospectus for each PW Fund selected prior to
enrolling in the Plan. Information about mutual fund positions and outstanding
instructions under the Plan are noted on the RMA accountholder's account
statement. Instructions under the Plan may be changed at any time, but may
take up to two weeks to become effective.
27
<PAGE>
The terms of the Plan, or an RMA accountholder's participation in the Plan,
may be modified or terminated at any time. It is anticipated that, in the
future, shares of other PW Funds and/or mutual funds other than the PW Funds
may be offered through the Plan.
PERIODIC INVESTING AND DOLLAR COST AVERAGING. Periodic investing in the PW
Funds or other mutual funds, whether through the Plan or otherwise, helps
investors establish and maintain a disciplined approach to accumulating assets
over time, de-emphasizing the importance of timing the market's highs and
lows. Periodic investing also permits an investor to take advantage of "dollar
cost averaging." By investing a fixed amount in mutual fund shares at
established intervals, an investor purchases more shares when the price is
lower and fewer shares when the price is higher, thereby increasing his or her
earning potential. Of course, dollar cost averaging does not guarantee a
profit or protect against a loss in a declining market, and an investor should
consider his or her financial ability to continue investing through periods of
both high and low share prices. However, over time, dollar cost averaging
generally results in a lower average original investment cost than if an
investor invested a larger dollar amount in a mutual fund at one time.
PAINEWEBBER'S RESOURCE MANAGEMENT ACCOUNT. In order to enroll in the Plan,
an investor must have opened an RMA account with PaineWebber or one of its
correspondent firms. The RMA account is PaineWebber's comprehensive asset
management account and offers investors a number of features, including the
following:
. monthly Premier account statements that itemize all account activity,
including investment transactions, checking activity and Gold
MasterCard (R) transactions during the period, and provide unrealized and
realized gain and loss estimates for most securities held in the account;
. comprehensive preliminary 9-month and year-end summary statements that
provide information on account activity for use in tax planning and tax
return preparation;
. automatic "sweep" of uninvested cash into the RMA accountholder's choice
of one of the six RMA money market funds--RMA Money Market Portfolio, RMA
U.S. Government Portfolio, RMA Tax-Free Fund, RMA California Municipal
Money Fund, RMA New Jersey Municipal Money Fund and RMA New York
Municipal Money Fund. An investment in a money market fund is not insured
or guaranteed by the Federal Deposit Insurance Corporation or any other
government agency. Although a money market fund seeks to preserve the
value of your investment at $1.00 per share, it is possible to lose money
by investing in a money market fund;
. check writing, with no per-check usage charge, no minimum amount on
checks and no maximum number of checks that can be written. RMA
accountholders can code their checks to classify expenditures. All
canceled checks are returned each month;
. Gold MasterCard, with or without a line of credit, which provides RMA
accountholders with direct access to their accounts and can be used with
automatic teller machines worldwide. Purchases on the Gold MasterCard are
debited to the RMA account once monthly, permitting accountholders to
remain invested for a longer period of time;
. 24-hour access to account information through toll-free numbers, and more
detailed personal assistance during business hours from the RMA Service
Center;
. expanded account protection to $100 million in the event of the
liquidation of PaineWebber. This protection does not apply to shares of
the RMA money market funds or the PW Funds because those shares are held
at the transfer agent and not through PaineWebber; and
. automatic direct deposit of checks into your RMA account and automatic
withdrawals from the account.
The annual account fee for an RMA account is $85, which includes the Gold
MasterCard, with an additional fee of $40 if the investor selects an optional
line of credit with the Gold MasterCard.
28
<PAGE>
CONVERSION OF CLASS B SHARES
Class B shares of the Fund will automatically convert to Class A shares of
the Fund, based on the relative net asset values per share of each class, as
of the close of business on the first Business Day (as defined under
"Valuation of Shares") of the month in which the sixth anniversary of the
initial issuance of such Class B shares occurs. For the purpose of calculating
the holding period required for conversion of Class B shares, the date of
initial issuance shall mean (i) the date on which such Class B shares were
issued, or (ii) for Class B shares obtained through an exchange, or a series
of exchanges, the date on which the original Class B shares were issued. For
purposes of conversion to Class A shares, Class B shares purchased through the
reinvestment of dividends and other distributions paid in respect of Class B
shares will be held in a separate sub-account. Each time any Class B shares in
the shareholder's regular account (other than those in the sub-account)
convert to Class A shares, a pro rata portion of the Class B shares in the
sub-account will also convert to Class A shares. The portion will be
determined by the ratio that the shareholder's Class B shares converting to
Class A shares bears to the shareholder's total Class B shares not acquired
through dividends and other distributions.
The availability of the conversion feature is subject to the continuing
availability of an opinion of counsel to the effect that the dividends and
other distributions paid on Class A and Class B shares will not result in
"preferential dividends" under the Internal Revenue Code and the conversion of
shares will not constitute a taxable event. If the conversion feature ceased
to be available, the Class B shares would not be converted and would continue
to be subject to the higher ongoing expenses of the Class B shares beyond six
years from the date of purchase. Mitchell Hutchins has no reason to believe
that this condition for the availability of the conversion feature will not be
met.
VALUATION OF SHARES
The Fund determines their net asset values per share separately for each
class of shares, normally as of the close of regular trading (generally 4:00
p.m., Eastern time) on the NYSE on each Business Day, which is defined as each
Monday through Friday when the NYSE is open. Prices will be calculated earlier
when the NYSE closes early because trading has been halted for the day.
Currently the NYSE is closed on the observance of the following holidays: New
Year's Day, Martin Luther King, Jr. Day, Presidents' Day, Good Friday,
Memorial Day, Independence Day, Labor Day, Thanksgiving Day and Christmas Day.
Securities that are listed on U.S. stock exchanges are valued at the last
sale price prior to valuation on the day the securities are valued or, lacking
any sales on such day, at the last available bid price. In cases where
securities are traded on more than one exchange, the securities are generally
valued on the exchange considered by Mitchell Hutchins as the primary market.
Securities traded in the OTC market and listed on The Nasdaq Stock Market
("Nasdaq") are valued at the last trade price on Nasdaq prior to valuation;
other OTC securities are valued at the last bid price available prior to
valuation (other than investments that mature in 60 days or less, which are
valued as described below).
Securities and assets for which market quotations are not readily available
are valued at fair value as determined in good faith by or under the direction
of the board. It should be recognized that judgment often plays a greater role
in valuing thinly traded securities and lower rated convertible securities
than is the case with respect to securities for which a broader range of
dealer quotations and last-sale information is available. The amortized cost
method of valuation generally is used to value debt obligations with 60 days
or less remaining until maturity, unless the board determines that this does
not represent fair value.
29
<PAGE>
PERFORMANCE INFORMATION
The Fund's performance data quoted in advertising and other promotional
materials ("Performance Advertisements") represent past performance and are
not intended to indicate future performance. The investment return and
principal value of an investment will fluctuate so that an investor's shares,
when redeemed, may be worth more or less than their original cost.
TOTAL RETURN CALCULATIONS. Average annual total return quotes ("Standardized
Return") used in the Fund's Performance Advertisements are calculated
according to the following formula:
P(1 + T)n = ERV
where: P = a hypothetical initial payment of $1,000 to purchase shares of a
specified class
T = average annual total return of shares of that class
n = number of years
ERV = ending redeemable value of a hypothetical $1,000 payment at the
beginning of that period.
Under the foregoing formula, the time periods used in Performance
Advertisements will be based on rolling calendar quarters, updated to the last
day of the most recent quarter prior to submission of the advertisement for
publication. Total return, or "T" in the formula above, is computed by finding
the average annual change in the value of an initial $1,000 investment over
the period. In calculating the ending redeemable value, for Class A shares,
the maximum 4.5% sales charge is deducted from the initial $1,000 payment and,
for Class B and Class C shares, the applicable contingent deferred sales
charge imposed on a redemption of Class B or Class C shares held for the
period is deducted. All dividends and other distributions are assumed to have
been reinvested at net asset value.
The Fund also may refer in Performance Advertisements to total return
performance data that are not calculated according to the formula set forth
above ("Non-Standardized Return"). The Fund calculates Non-Standardized Return
for specified periods of time by assuming an investment of $1,000 in Fund
shares and assuming the reinvestment of all dividends and other distributions.
The rate of return is determined by subtracting the initial value of the
investment from the ending value and by dividing the remainder by the initial
value. Neither initial nor contingent deferred sales charges are taken into
account in calculating Non-Standardized Return; the inclusion of those charges
would reduce the return.
Both Standardized Return and Non-Standardized Return for Class B shares for
periods of over six years reflect conversion of the Class B shares to Class A
shares at the end of the sixth year.
OTHER INFORMATION. In Performance Advertisements, the Fund may compare their
Standardized Return and/or their Non-Standardized Return with data published
by Lipper Analytical Services, Inc. ("Lipper"), CDA Investment Technologies,
Inc. ("CDA"), Wiesenberger Investment Companies Service ("Wiesenberger"),
Investment Company Data, Inc. ("ICD") or Morningstar Mutual Funds
("Morningstar"), with the performance of recognized stock and other indices,
including the Standard & Poor's 500 Composite Stock Price Index ("S&P 500"),
the Standard & Poor's 600 Small-Cap Index, the Standard & Poor's 400 Mid-Cap
Index, the Dow Jones Industrial Average ("DJIA"), the Nasdaq Composite Index,
the Russell 2000 Index, the Russell 1000 Index (including Value and Growth
sub-indexes), the Wilshire 5000 Index, the Lehman Bond Index, 30-year and 10-
year U.S. Treasury bonds, the Morgan Stanley Capital International World Index
and changes in the Consumer Price Index as published by the U.S. Department of
Commerce. The Fund also may refer in such materials to mutual fund performance
rankings and other data, such as comparative asset, expense and fee levels,
published by Lipper, CDA, Wiesenberger, ICD or Morningstar. Performance
Advertisements also may refer to discussions of the Fund and comparative
mutual fund data and ratings reported in independent periodicals, including
THE WALL STREET JOURNAL, MONEY MAGAZINE, SMART MONEY, MUTUAL FUNDS, FORBES,
BUSINESS WEEK, FINANCIAL WORLD, BARRON'S, FORTUNE, THE NEW YORK TIMES, THE
CHICAGO TRIBUNE, THE WASHINGTON POST and THE KIPLINGER LETTERS. Comparisons in
Performance Advertisements may be in graphic form.
30
<PAGE>
The Fund may include discussions or illustrations of the effects of
compounding in Performance Advertisements. "Compounding" refers to the fact
that, if dividends or other distributions on the Fund investment are
reinvested in additional Fund shares, any future income or capital
appreciation of the Fund would increase the value, not only of the original
Fund investment, but also of the additional Fund shares received through
reinvestment. As a result, the value of the Fund investment would increase
more quickly than if dividends or other distributions had been paid in cash.
The Fund may also compare their performance with the performance of bank
certificates of deposit (CDs) as measured by the CDA Certificate of Deposit
Index, the Bank Rate Monitor National Index and the averages of yields of CDs
of major banks published by Banxquote(R) Money Markets. In comparing the
Fund's performance to CD performance, investors should keep in mind that bank
CDs are insured in whole or in part by an agency of the U.S. government and
offer fixed principal and fixed or variable rates of interest, and that bank
CD yields may vary depending on the financial institution offering the CD and
prevailing interest rates. Shares of the Fund are not insured or guaranteed by
the U.S. government and returns and net asset value will fluctuate. The debt
securities held by the Fund generally have longer maturities than most CDs and
may reflect interest rate fluctuations for longer term securities. An
investment in the Fund involves greater risks than an investment in either a
money market fund or a CD.
The Fund may also compare their performance to general trends in the stock
and bond markets, as illustrated by the following graphs prepared by Ibbotson
Associates, Chicago. The charts are shown for illustrative purposes only and
do not represent the Fund's performance.
<TABLE>
<CAPTION>
S&P 500 TR SMALL CAP U.S. LT Gvt TR U.S. IT Gvt TR U.S. 30 Day TBill TR U.S. Inflation
---------- --------- -------------- -------------- -------------------- --------------
<S> <C> <C> <C> <C> <C> <C>
1925 $ 10,000 $ 10,000 $ 10,000 $ 10,000 $ 10,000 $ 10,000
1926 $ 11,162 $ 10,028 $ 10,777 $ 10,538 $ 10,327 $ 9,851
1927 $ 15,347 $ 12,243 $ 11,739 $ 11,014 $ 10,649 $ 9,646
1928 $ 22,040 $ 17,103 $ 11,751 $ 11,116 $ 11,028 $ 9,553
1929 $ 20,185 $ 8,319 $ 12,153 $ 11,764 $ 11,552 $ 9,572
1930 $ 15,159 $ 5,146 $ 12,719 $ 12,576 $ 11,830 $ 8,994
1931 $ 8,590 $ 2,586 $ 12,044 $ 12,284 $ 11,957 $ 8,138
1932 $ 7,886 $ 2,446 $ 14,073 $ 13,366 $ 12,072 $ 7,300
1933 $ 12,144 $ 5,941 $ 14,062 $ 13,610 $ 12,108 $ 7,337
1934 $ 11,969 $ 7,380 $ 15,472 $ 14,835 $ 12,128 $ 7,486
1935 $ 17,674 $ 10,346 $ 16,243 $ 15,874 $ 12,148 $ 7,710
1936 $ 23,669 $ 17,051 $ 17,464 $ 16,360 $ 12,170 $ 7,803
1937 $ 15,379 $ 7,160 $ 17,504 $ 16,614 $ 12,207 $ 8,045
1938 $ 20,165 $ 9,508 $ 18,473 $ 17,650 $ 12,205 $ 7,821
1939 $ 20,082 $ 9,541 $ 19,570 $ 18,448 $ 12,208 $ 7,784
1940 $ 18,117 $ 9,049 $ 20,761 $ 18,994 $ 12,208 $ 7,859
1941 $ 16,017 $ 8,235 $ 20,955 $ 19,088 $ 12,216 $ 8,622
1942 $ 19,275 $ 11,900 $ 21,629 $ 19,458 $ 12,248 $ 9,423
1943 $ 24,267 $ 22,417 $ 22,080 $ 20,005 $ 12,291 $ 9,721
1944 $ 29,060 $ 34,459 $ 22,702 $ 20,364 $ 12,332 $ 9,926
1945 $ 39,649 $ 59,825 $ 25,139 $ 20,816 $ 12,372 $ 10,149
1946 $ 36,449 $ 52,870 $ 25,113 $ 21,025 $ 12,416 $ 11,993
1947 $ 38,529 $ 53,354 $ 24,454 $ 21,216 $ 12,478 $ 13,073
1948 $ 40,649 $ 52,227 $ 25,285 $ 21,608 $ 12,580 $ 13,426
1949 $ 48,287 $ 62,541 $ 26,916 $ 22,110 $ 12,718 $ 13,184
1950 $ 63,601 $ 86,774 $ 26,932 $ 22,266 $ 12,870 $ 13,948
1951 $ 78,875 $ 93,546 $ 25,873 $ 22,346 $ 13,063 $ 14,767
1952 $ 93,363 $ 96,377 $ 26,173 $ 22,711 $ 13,279 $ 14,898
1953 $ 92,439 $ 90,125 $ 27,125 $ 23,445 $ 13,521 $ 14,991
1954 $141,084 $144,725 $ 29,075 $ 24,074 $ 13,638 $ 14,916
1955 $185,614 $174,308 $ 28,699 $ 23,917 $ 13,852 $ 14,972
1956 $197,783 $181,774 $ 27,096 $ 23,817 $ 14,193 $ 15,400
1957 $176,457 $155,289 $ 29,117 $ 25,684 $ 14,639 $ 15,866
1958 $252,975 $256,051 $ 27,342 $ 25,353 $ 14,864 $ 16,145
1959 $283,219 $298,039 $ 26,725 $ 25,254 $ 15,303 $ 16,387
1960 $284,549 $288,230 $ 30,407 $ 28,223 $ 15,711 $ 16,629
1961 $361,060 $380,716 $ 30,703 $ 28,744 $ 16,045 $ 16,741
1962 $329,545 $335,401 $ 32,818 $ 30,344 $ 16,483 $ 16,946
1963 $404,685 $414,440 $ 33,216 $ 30,842 $ 16,997 $ 17,225
1964 $471,388 $511,927 $ 34,381 $ 32,089 $ 17,598 $ 17,430
1965 $530,081 $725,674 $ 34,625 $ 32,416 $ 18,289 $ 17,765
1966 $476,737 $674,791 $ 35,889 $ 33,935 $ 19,159 $ 18,361
1967 $591,038 $1,238,704 $ 32,594 $ 34,278 $ 19,966 $ 18,920
1968 $656,415 $1,684,285 $ 32,509 $ 35,832 $ 21,005 $ 19,814
1969 $600,590 $1,262,332 $ 30,860 $ 35,568 $ 22,388 $ 21,024
1970 $624,653 $1,042,259 $ 34,596 $ 41,564 $ 23,849 $ 22,179
1971 $714,058 $1,214,228 $ 39,173 $ 45,189 $ 24,895 $ 22,924
1972 $849,559 $1,268,069 $ 41,400 $ 47,521 $ 25,851 $ 23,706
1973 $725,003 $876,179 $ 40,942 $ 49,709 $ 27,643 $ 25,792
1974 $533,110 $701,424 $ 42,725 $ 52,538 $ 29,855 $ 28,939
1975 $731,443 $1,071,887 $ 46,663 $ 56,652 $ 31,588 $ 30,969
1976 $905,842 $1,686,909 $ 54,470 $ 63,943 $ 33,193 $ 32,458
1977 $840,766 $2,114,997 $ 54,095 $ 64,842 $ 34,893 $ 34,656
1978 $895,922 $2,611,199 $ 53,458 $ 67,103 $ 37,398 $ 37,784
1979 $1,061,126 $3,746,139 $ 52,799 $ 69,850 $ 41,279 $ 42,812
1980 $1,405,137 $5,239,922 $ 50,715 $ 72,581 $ 45,917 $ 48,120
1981 $1,336,161 $5,967,169 $ 51,657 $ 79,443 $ 52,671 $ 52,421
1982 $1,622,226 $7,638,290 $ 72,507 $102,558 $ 58,224 $ 54,451
1983 $1,987,451 $10,668,278 $ 72,979 $110,154 $ 63,347 $ 56,518
1984 $2,111,991 $9,956,805 $ 84,274 $125,596 $ 69,586 $ 58,753
1985 $2,791,166 $12,412,341 $110,371 $151,131 $ 74,960 $ 60,968
1986 $3,306,709 $13,262,748 $137,446 $174,011 $ 79,580 $ 61,657
1987 $3,479,675 $12,029,656 $133,716 $179,065 $ 83,929 $ 64,376
1988 $4,064,583 $14,781,351 $146,650 $189,991 $ 89,257 $ 67,221
1989 $5,344,555 $16,285,901 $173,215 $215,236 $ 96,728 $ 70,345
1990 $5,174,990 $12,774,487 $183,924 $236,179 $104,286 $ 74,640
1991 $6,755,922 $18,476,288 $219,420 $272,697 $110,121 $ 76,927
1992 $7,274,115 $22,790,386 $237,092 $292,305 $113,982 $ 79,159
1993 $8,000,785 $27,571,472 $280,339 $125,159 $117,294 $ 81,334
1994 $8,105,379 $28,427,732 $258,556 $308,433 $121,862 $ 83,510
1995 $11,139,184 $38,223,980 $340,436 $360,255 $128,681 $ 85,630
1996 $13,709,459 $44,959,933 $337,265 $367,817 $135,381 $ 88,475
1997 $18,272,762 $55,199,693 $390,736 $398,644 $142,496 $ 90,092
</TABLE>
These returns assume reinvestment of income and capital appreciation (or
depreciation) and should not be considered an indication or guarantee of
future investment results. These returns do not account for transaction costs.
The average return represents a compound annual return. Year-to-year
fluctuations in certain markets have been significant and negative returns
have been experienced in certain markets from time to time. Common stocks are
measured by the S&P 500, an unmanaged weighted index comprising 500 widely
held common stocks and varying in composition. Unlike investors in bonds and
U.S. Treasury bills, common stock investors do not receive fixed income
payments and are not entitled to repayment of principal. These differences
contribute to investment risk. Returns shown for long-term government bonds
are based on U.S. Treasury bonds with 20-year maturities. Inflation is
measured by the Consumer Price Index. The indices are unmanaged and are not
available for investment.
- --------
Source: Stocks, Bonds, Bills and Inflation 1998 Yearbook(TM) Ibbotson Assoc.,
Chi., (annual updates work by Roger C. Ibbotson & Rex A. Sinquefield).
31
<PAGE>
Over time, stocks have outperformed all other investments by a wide margin,
offering a solid hedge against inflation. From 1925 to 1997, stocks beat all
other traditional asset classes.
[GRAPH APPEARS HERE]
Compound Annual Return
Stocks..................................................11.0%
Stocks After Taxes...................................... 8.5%
Bonds................................................... 5.2%
Bonds After Taxes....................................... 3.8%
Cash.................................................... 3.8%
Cash After Taxes........................................ 2.1%
Inflation............................................... 3.1%
Federal income tax is calculated using the actual 1925-1997 marginal tax
rates for a single taxpayer earning $75,000 in 1989 dollars every year. (This
annual income is adjusted using the Consumer Price Index in order to obtain
the corresponding income level for each year.) No state income taxes are
included. The following assumptions have also been made: 1) stocks purchased
were held for five years, then sold, and the capital gains realized; 2) the
net proceeds from the sale were reinvested and dividends were taxed when
earned and reinvested; 3) bonds were turned over 19 times within the 73-year
period at various times; and 4) capital gains were realized at the time of
sale and reinvested.
- --------
Source: Ibbotson Associates, used with permission. Data is as of December
1997.
TAXES
To qualify for treatment as a regulated investment company ("RIC") under the
Internal Revenue Code, the Fund must distribute to its shareholders for each
taxable year at least 90% of its investment company taxable income (consisting
generally of net investment income and net short-term capital gain)
("Distribution Requirement") and must meet several additional requirements.
These requirements include the following: (1) the Fund must derive at least
90% of its gross income each taxable year from dividends, interest, payments
with respect to securities loans and gains from the sale or other disposition
of securities, or other income (including gains from options or futures)
derived with respect to its business of investing in securities ("Income
Requirement"); (2) at the close of each quarter of the Fund's taxable year, at
least 50% of the value of its total assets must be represented by cash and
cash items, U.S. government securities, securities of other RICs and other
securities, with these other securities limited, in respect of any one issuer,
to an amount that does not exceed 5% of the value of the Fund's total assets
and that does not represent more than 10% of the issuer's outstanding voting
securities; and (3) at the close of each quarter of the Fund's taxable year,
not more than 25% of the value of its total assets may be invested in
securities (other than U.S. government securities or the securities of other
RICs) of any one issuer.
Dividends and other distributions declared by the Fund in December and
payable to shareholders of record on a date in that month will be deemed to
have been paid by the Fund and received by the shareholders on December 31
even if the distributions are paid by the Fund during the following
32
<PAGE>
January. Accordingly, those distributions will be taxed to shareholders for
the year in which that December 31 falls.
A portion of the dividends from the Fund's investment company taxable income
(whether paid in cash or additional shares) may be eligible for the dividends-
received deduction allowed to corporations. The eligible portion may not
exceed the aggregate dividends received by the Fund from U.S. corporations.
However, dividends received by a corporate shareholder and deducted by it
pursuant to the dividends-received deduction are subject indirectly to the
federal alternative minimum tax.
If Fund shares are sold at a loss after being held for six months or less,
the loss will be treated as long-term, instead of short-term, capital loss to
the extent of any capital gain distributions received on those shares.
Investors also should be aware that if shares are purchased shortly before the
record date for any dividend or capital gain distribution, the investor will
pay full price for the shares and receive some portion of the price back as a
taxable distribution.
The Fund will be subject to a nondeductible 4% excise tax ("Excise Tax") to
the extent it fails to distribute by the end of any calendar year
substantially all of its ordinary income for that year and capital gain net
income for the one-year period ending on October 31 of that year, plus certain
other amounts.
The Fund may invest in the stock of "passive foreign investment companies"
("PFICs") if such stock is a permissible investment. A PFIC is a foreign
corporation--other than a "controlled foreign corporation" (i.e., a foreign
corporation in which, on any day during its taxable year, more than 50% of the
total voting power of its voting stock or the total value of all of its stock
is owned, directly, indirectly, or constructively, by "U.S. shareholders,"
defined as U.S. persons that individually own, directly, indirectly, or
constructively, at least 10% of that voting power) as to which the Fund is a
shareholder--that, in general, meets either of the following tests: (1) at
least 75% of its gross income is passive or (2) an average of at least 50% of
its assets produce, or are held for the production of, passive income. Under
certain circumstances, the Fund will be subject to federal income tax on a
portion of any "excess distribution" received on the stock of a PFIC or of any
gain from disposition of that stock (collectively "PFIC income"), plus
interest thereon, even if the Fund distributes the PFIC income as a taxable
dividend to its shareholders. The balance of the PFIC income will be included
in the Fund's investment company taxable income and, accordingly, will not be
taxable to it to the extent it distributes that income to its shareholders.
If the Fund invests in a PFIC and elects to treat the PFIC as a "qualified
electing fund" ("QEF"), then in lieu of the foregoing tax and interest
obligation, the Fund will be required to include in income each year its pro
rata share of the QEF's annual ordinary earnings and net capital gain (the
excess of net long-term capital gain over net short-term capital loss)--which
probably would have to be distributed by the Fund to satisfy the Distribution
Requirement and avoid imposition of the Excise Tax--even if those earnings and
gain are not distributed to the Fund by the QEF. In most instances it will be
very difficult, if not impossible, to make this election because of certain
requirements thereof.
The Fund may elect to "mark to market" its stock in any PFIC. "Marking-to-
market," in this context, means including in ordinary income each taxable year
the excess, if any, of the fair market value of the stock over the Fund's
adjusted basis therein as of the end of that year. Pursuant to the election,
the Fund also would be allowed to deduct (as an ordinary, not capital, loss)
the excess, if any, of its adjusted basis in PFIC stock over the fair market
value thereof as of the taxable year-end, but only to the extent of any net
mark-to-market gains with respect to that stock included in income by the Fund
for prior taxable years. The Fund's adjusted basis in each PFIC's stock
subject to the election would be adjusted to reflect the amounts of income
included and deductions taken thereunder.
The use of hedging strategies involving Derivative Instruments, such as
writing (selling) and purchasing options and futures contracts, involves
complex rules that will determine for income tax purposes the amount,
character and timing of recognition of the gains and losses the Fund realizes
in connection therewith. Gains from options and futures derived by the Fund
with respect to its business of investing in securities will qualify as
permissible income under the Income Requirement.
33
<PAGE>
If the Fund has an "appreciated financial position"--generally, an interest
(including an interest through an option, futures contract or short sale) with
respect to any stock, debt instrument (other than "straight debt") or
partnership interest the fair market value of which exceeds its adjusted
basis--and enters into a "constructive sale" of the same or substantially
similar property, the Fund will be treated as having made an actual sale
thereof, with the result that gain will be recognized at that time. A
constructive sale generally consists of a short sale, an offsetting notional
principal contract or a futures contract entered into by the Fund or a related
person with respect to the same or substantially similar property. In
addition, if the appreciated financial position is itself a short sale or such
a contract, acquisition of the underlying property or substantially similar
property will be deemed a constructive sale. The foregoing will not apply,
however, to any transaction during any taxable year that otherwise would be
treated as a constructive sale if the transaction is closed within 30 days
after the end of that year and the Fund holds the appreciated financial
position unhedged for 60 days after that closing (i.e., at no time during that
60-day period is the Fund's risk of loss with respect to that position reduced
by reason of certain specified transactions with respect to substantially
similar or related property, such as having an option to sell, being
contractually obligated to sell, making a short sale or granting an option to
buy substantially identical stock or securities).
OTHER INFORMATION
The Trust is an entity of the type commonly known as a "Massachusetts
business trust." Under Massachusetts law, shareholders of the Fund could,
under certain circumstances, be held personally liable for the obligations of
the Trust or Fund. However, the Declaration of Trust disclaims shareholder
liability for acts or obligations of the Trust or the Fund and requires that
notice of such disclaimer be given in each note, bond, contract, instrument,
certificate or undertaking made or issued by the trustees or by any officers
or officer by or on behalf of the Trust or Fund, the trustees or any of them
in connection with the Trust. The Declaration of Trust provides for
indemnification from the Fund's property for all losses and expenses of any
shareholder held personally liable for the obligations of the Fund. Thus, the
risk of a shareholder's incurring financial loss on account of shareholder
liability is limited to circumstances in which the Fund itself would be unable
to meet its obligations, a possibility that Mitchell Hutchins believes is
remote and not material. Upon payment of any liability incurred by a
shareholder solely by reason of being or having been a shareholder, the
shareholder paying such liability will be entitled to reimbursement from the
general assets of the Fund. The trustees intend to conduct the operations of
the Fund in such a way as to avoid, as far as possible, ultimate liability of
the shareholders for liabilities of the Fund.
CLASS-SPECIFIC EXPENSES. The Fund may determine to allocate certain of its
expenses (in addition to service and distribution fees) to the specific
classes of its shares to which those expenses are attributable. For example,
Class B shares and Class C shares bear higher transfer agency fees per
shareholder account than those borne by Class A shares or Class Y shares. The
higher fee is imposed due to the higher costs incurred by the Transfer Agent
in tracking shares subject to a contingent deferred sales charge because, upon
redemption, the duration of the shareholder's investment must be determined in
order to determine the applicable charge. Although the transfer agency fee
will differ on a per account basis as stated above, the specific extent to
which the transfer agency fees will differ between the classes as a percentage
of net assets is not certain, because the fee as a percentage of net assets
will be affected by the number of shareholder accounts in each class and the
relative amounts of net assets in each class.
COUNSEL. The law firm of Kirkpatrick & Lockhart LLP, 1800 Massachusetts
Avenue, N.W., Washington, D.C. 20036-1800, serves as counsel to the Fund.
Kirkpatrick & Lockhart LLP also acts as counsel to PaineWebber and Mitchell
Hutchins in connection with other matters.
AUDITORS. Ernst & Young llp, 787 Seventh Avenue, New York, New York 10019,
serves as independent auditors for the Fund.
34
<PAGE>
APPENDIX
DESCRIPTION OF MOODY'S CORPORATE LONG-TERM BOND RATINGS
AAA. Bonds which are rated Aaa are judged to be of the best quality. They
carry the smallest degree of investment risk and are generally referred to as
"gilt edged." Interest payments are protected by a large or by an
exceptionally stable margin and principal is secure. While the various
protective elements are likely to change, such changes as can be visualized
are most unlikely to impair the fundamentally strong position of such issues;
AA. Bonds which are rated Aa are judged to be of high quality by all
standards. Together with the Aaa group they comprise what are generally known
as high grade bonds. They are rated lower than the best bonds because margins
of protection may not be as large as in Aaa securities or fluctuation of
protective elements may be of greater amplitude or there may be other elements
present which make the long term risks appear somewhat larger than in Aaa
securities; A. Bonds which are rated A possess many favorable investment
attributes and are to be considered as upper medium grade obligations. Factors
giving security to principal and interest are considered adequate but elements
may be present which suggest a susceptibility to impairment sometime in the
future; BAA. Bonds which are rated Baa are considered as medium grade
obligations, i.e., they are neither highly protected nor poorly secured.
Interest payments and principal security appear adequate for the present but
certain protective elements may be lacking or may be characteristically
unreliable over any great length of time. Such bonds lack outstanding
investment characteristics and in fact have speculative characteristics as
well; BA. Bonds which are rated Ba are judged to have speculative elements;
their future cannot be considered as well assured. Often the protection of
interest and principal payments may be very moderate and thereby not well
safeguarded during both good and bad times over the future. Uncertainty of
position characterizes bonds in this class; B. Bonds which are rated B
generally lack characteristics of the desirable investment. Assurance of
interest and principal payments or of maintenance of other terms of the
contract over any long period of time may be small; CAA. Bonds which are rated
Caa are of poor standing. Such issues may be in default or there may be
present elements of danger with respect to principal or interest; CA. Bonds
which are rated Ca represent obligations which are speculative in a high
degree. Such issues are often in default or have other marked shortcomings; C.
Bonds which are rated C are the lowest rated class of bonds and issues so
rated can be regarded as having extremely poor prospects of ever attaining any
real investment standing.
Note: Moody's apply numerical modifiers, 1, 2 and 3 in each generic rating
classification from "AA" through "CAA" in its corporate bond rating system.
The modifier 1 indicates that the security ranks in the higher end of its
generic rating category, the modifier 2 indicates a mid-range ranking, and the
modifier 3 indicates that the issue ranks in the lower end of its generic
rating category.
DESCRIPTION OF S&P CORPORATE DEBT RATINGS
AAA. An obligation rated AAA has the highest rating assigned by S&P. The
obligor's capacity to meet its financial commitment on the obligation is
extremely strong; AA. An obligation rated AA differs from the higher rated
issues only in small degree. The obligor's capacity to meet its financial
commitment on the obligation is very strong; A. An obligation rated A is
somewhat more susceptible to the adverse effects of changes in circumstances
and economic conditions than obligations in higher rated categories. However,
the obligor's capacity to meet its financial commitment on the obligation is
still strong; BBB. An obligation rated BBB exhibits adequate protection
parameters. However, adverse economic conditions or changing circumstances are
more likely to lead to a weakened capacity of the obligor to meet its
financial commitment on the obligation; BB, B, CCC, CC, C. Obligations rated
BB, B, CCC, CC and C are regarded as having significant speculative
characteristics. BB indicates the least degree of speculation and C the
highest. While such debt will likely have some quality and protective
characteristics, these may be outweighed by large uncertainties or major
exposures to adverse conditions; BB. An obligation rated BB is less vulnerable
to nonpayment than other speculative issues. However, it faces major ongoing
uncertainties or exposure to adverse business, financial, or economic
conditions which could lead to the obligor's inadequate capacity to meet its
financial commitment on the obligation; BB. An obligation rated BB is less
vulnerable to nonpayment than other speculative issues. However, it faces
major ongoing uncertainties or exposure to adverse business, financial, or
economic conditions
A-1
<PAGE>
which could lead to the obligor's inadequate capacity to meet its financial
commitment on the obligation; B. An obligation rated B is more vulnerable to
nonpayment than obligations rated BB, but the obligor currently has the
capacity to meet its financial commitment on the obligation. Adverse business,
financial, or economic conditions will likely impair the obligor's capacity or
willingness to meet its financial commitment on the obligation; CCC. An
obligation rated CCC is currently vulnerable to nonpayment and is dependent
upon favorable business, financial and economic conditions for the obligor to
meet its financial commitments on the obligation. In the event of adverse
business, financial, or economic conditions, the obligor is not likely to have
the capacity to meet its financial commitment on the obligation; CC. An
obligation rated CC is currently highly vulnerable to nonpayment; C. The C
rating may be used to cover a situation where a bankruptcy petition has been
filed or similar action has been taken, but payments on this obligation are
being continued; D. An obligation rated D is in payment default. The D rating
category is used when payments on an obligation are not made on the date due
even if the applicable grace period has not expired, unless S&P believes that
such payments will be made during such grace period. The D rating also will be
used upon the filing of a bankruptcy petition or the taking of a similar
action if payments on an obligation are jeopardized.
Plus (+) or Minus (-): The ratings from "AA" to "CCC" may be modified by the
addition of a plus or minus sign to show relative standing within the major
rating categories.
A-2
<PAGE>
NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY
REPRESENTATIONS NOT CONTAINED IN THE PROSPECTUS OR IN THIS STATEMENT OF
ADDITIONAL INFORMATION IN CONNECTION WITH THE OFFERING MADE BY THE PROSPECTUS
AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED
UPON AS HAVING BEEN AUTHORIZED BY THE FUND OR ITS DISTRIBUTOR. THE PROSPECTUS
AND THIS STATEMENT OF ADDITIONAL INFORMATION DO NOT CONSTITUTE AN OFFERING BY
THE FUND OR BY THE DISTRIBUTOR IN ANY JURISDICTION IN WHICH SUCH OFFERING MAY
NOT LAWFULLY BE MADE.
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TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Statement of Additional Information...................................... 1
Investment Policies and Restrictions..................................... 1
Strategies Using Derivative Instruments ................................. 8
Trustees and Officers; Principal Holders of Securities................... 14
Investment Advisory and Distribution Arrangements........................ 20
Portfolio Transactions................................................... 23
Reduced Sales Charges, Additional Exchange and Redemption Information and
Other Services ......................................................... 25
Conversion of Class B Shares............................................. 29
Valuation of Shares...................................................... 29
Performance Information.................................................. 30
Taxes.................................................................... 32
Other Information........................................................ 34
Appendix................................................................. A-1
</TABLE>
(C) 1998 PaineWebber Incorporated
PAINEWEBBER TAX-MANAGED EQUITY FUND
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Statement of Additional Information
October 4, 1998
(As Revised
October 23, 1998)
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PAINEWEBBER
