FEDERATED ARMS FUND
Institutional Shares
PROSPECTUS
The Institutional Shares offered by this prospectus represent interests in a
diversified portfolio of securities of Federated ARMs Fund (the "Trust"). The
Trust is an open-end management investment company (a mutual fund).
The investment objective of the Trust is to provide current income consistent
with minimal volatility of principal. The Trust concentrates at least 65% of the
value of its total assets in adjustable and floating rate mortgage securities
("ARMs") which are issued or guaranteed as to payment of principal and interest
by the U.S. government, its agencies or instrumentalities.
THE SHARES OFFERED BY THIS PROSPECTUS ARE NOT DEPOSITS OR OBLIGATIONS OF ANY
BANK, ARE NOT ENDORSED OR GUARANTEED BY ANY BANK, AND ARE NOT INSURED BY THE
FEDERAL DEPOSIT INSURANCE CORPORATION, THE FEDERAL RESERVE BOARD, OR ANY OTHER
GOVERNMENT AGENCY. INVESTMENT IN THESE SHARES INVOLVES INVESTMENT RISKS,
INCLUDING THE POSSIBLE LOSS OF PRINCIPAL.
This prospectus contains the information you should read and know before you
invest in Institutional Shares of the Trust. Keep this prospectus for future
reference.
The Trust has also filed a Statement of Additional Information for Institutional
Shares and Institutional Service Shares dated October 31, 1998, with the
Securities and Exchange Commission ("SEC"). The information contained in the
Statement of Additional Information is incorporated by reference into this
prospectus. You may request a copy of the Statement of Additional Information or
a paper copy of this prospectus if you have received your prospectus
electronically, free of charge by calling 1-800- 341-7400. To obtain other
information or to make inquiries about the Trust, contact the Trust at the
address listed in the back of this prospectus. The Statement of Additional
Information, material incorporated by reference into this document, and other
information regarding the Trust are maintained electronically with the SEC at
Internet Web site (http://www.sec.gov).
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION NOR HAS THE SECURITIES AND EXCHANGE COMMISSION PASSED
UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE
CONTRARY IS A CRIMINAL OFFENSE.
Prospectus dated October 31, 1998
TABLE OF CONTENTS
Summary of Trust Expenses 1
Financial Highlights-Institutional Shares 2
General Information 3
Year 2000 Statement 3
Investment Information 3
Investment Objective 3
Investment Policies 3
Investment Limitations 7
Trust Information 7
Management of the Trust 7
Distribution of Institutional Shares 8
Administration of the Trust 8
Net Asset Value 9
Investing in Institutional Shares 9
Share Purchases 9
Exchange Privilege 9
Minimum Investment Required 9
What Shares Cost 9
Confirmations and Account Statements 10
Dividends 10
Capital Gains 10
Redeeming Institutional Shares 10
Telephone Redemption 10
Written Requests 10
Accounts with Low Balances 11
Shareholder Information 11
Voting Rights 11
Tax Information 11
Federal Income Tax 11
State and Local Taxes 11
Performance Information 11
Other Classes of Shares 12
Financial Highlights-Institutional Service Shares 13
Financial Statements 14
Report of Ernst & Young LLP, Independent Auditors 23
SUMMARY OF TRUST EXPENSES
<TABLE>
<CAPTION>
INSTITUTIONAL SHARES
SHAREHOLDER TRANSACTION EXPENSES
<S> <C>
Maximum Sales Charge Imposed on Purchases (as a percentage of offering price) None
Maximum Sales Charge Imposed on Reinvested Dividends (as a percentage of
offering price) None
Contingent Deferred Sales Charge (as a percentage of original purchase price or
redemption proceeds, as applicable) None
Redemption Fee (as a percentage of amount redeemed, if applicable) None
Exchange Fee None
<CAPTION>
ANNUAL OPERATING EXPENSES
(As a percentage of average net assets)
<S> <C> <C>
Management Fee (after waiver)(1) 0.41%
12b-1 Fee None
Total Other Expenses 0.14%
Shareholder Services Fee (after waiver)(2) 0.00%
Total Operating Expenses(3) 0.55%
</TABLE>
(1) The management fee has been reduced to reflect the voluntary waiver of a
portion of the management fee. The adviser can terminate this voluntary waiver
at any time at its sole discretion. The maximum management fee is 0.60%.
(2) The shareholder services fee has been reduced to reflect the voluntary
waiver of the shareholder services fee. The shareholder services provider can
terminate this voluntary waiver at any time at its sole discretion. The maximum
shareholder services fee is 0.25%.
(3) The total operating expenses would have been 0.99% absent the voluntary
waivers of a portion of the management fee and the shareholder services fee.
The purpose of this table is to assist an investor in understanding the various
costs and expenses that a shareholder of Institutional Shares of the Trust will
bear, either directly or indirectly. For more complete descriptions of the
various costs and expenses, see "Investing in Institutional Shares" and "Trust
Information." Wire-transferred redemptions of less than $5,000 may be subject to
additional fees.
EXAMPLE
You would pay the following expenses on a $1,000 investment,
assuming (1) 5% annual return and (2) redemption at the end of each
time period.
1 Year $6
3 Years $18
5 Years $31
10 Years $69
THE ABOVE EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTATION OF PAST OR FUTURE
EXPENSES. ACTUAL EXPENSES MAY BE GREATER OR LESS THAN THOSE SHOWN.
FINANCIAL HIGHLIGHTS--INSTITUTIONAL SHARES
FEDERATED ARMS FUND
(FOR A SHARE OUTSTANDING THROUGHOUT EACH PERIOD)
Reference is made to the Report of Ernst & Young LLP, Independent Auditors, on
page 23.
<TABLE>
<CAPTION>
YEAR ENDED AUGUST 31
1998 1997 1996 1995 1994 1993 1992 1991 1990 1989
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE,
BEGINNING OF PERIOD $ 9.74 $ 9.64 $ 9.65 $ 9.63 $ 9.98 $10.01 $ 9.67 $ 8.99 $ 9.47 $ 8.88
INCOME FROM
INVESTMENT OPERATIONS
Net investment income 0.56 0.59 0.58 0.56 0.45 0.50 0.63 0.69 0.71 0.72
Net realized and
unrealized gain (loss)
on investments (0.07) 0.10 (0.01) 0.02 (0.35) (0.03) 0.42 0.68 (0.48) 0.59
Total from invest
ment operations 0.49 0.69 0.57 0.58 0.10 0.47 1.05 1.37 0.23 1.31
LESS DISTRIBUTIONS
Distributions from
net investment income (0.56) (0.59) (0.58) (0.56) (0.45) (0.50) (0.63) (0.69) (0.71) (0.72)
Total distributions
from net realized gain
on investments -- -- -- -- -- -- (0.08) -- -- --
Total distributions (0.56) (0.59) (0.58) (0.56) (0.45) (0.50) (0.71) (0.69) (0.71) (0.72)
NET ASSET VALUE,
END OF PERIOD $ 9.67 $ 9.74 $ 9.64 $ 9.65 $ 9.63 $ 9.98 $10.01 $ 9.67 $ 8.99 $ 9.47
TOTAL RETURN(A) 5.13% 7.31% 6.02% 6.21% 0.99% 4.82% 11.21% 15.73% 2.45% 15.25%
RATIOS TO AVERAGE
NET ASSETS
Expenses 0.55% 0.55% 0.55% 0.55% 0.55% 0.51% 0.51% 0.78% 0.78% 0.79%
Net investment income 5.77% 6.03% 5.94% 5.74% 4.51% 4.97% 5.95% 7.36% 7.62% 7.81%
Expense waiver/
reimbursement(b) 0.44% 0.44% 0.44% 0.43% 0.14% 0.21% 0.32% 1.02% 1.02% 0.95%
SUPPLEMENTAL DATA
Net assets, end of
period (000 omitted) $420,988 $498,220 $653,313 $856,500 $1,238,813 $2,669,888 $1,090,944 $30,330 $26,261 $25,574
Portfolio turnover 56% 84% 134% 124% 65% 36% 38% 127% 170% 85%
</TABLE>
(a) Based on net asset value, which does not reflect the sales charge or
contingent deferred sales charge, if applicable.
(b) This voluntary expense decrease is reflected in both the expense and net
investment income ratios shown above.
(See Notes which are an integral part of the Financial Statements)
GENERAL INFORMATION
The Trust was established as a Massachusetts business trust under a Declaration
of Trust dated May 24, 1985. The Declaration of Trust permits the Trust to offer
separate series of shares of beneficial interest representing interests in
separate portfolios of securities. The shares in any one portfolio may be
offered in separate classes. As of the date of this prospectus, the Board of
Trustees (the "Trustees") has established two classes of shares, Institutional
Shares and Institutional Service Shares. This prospectus relates only to
Institutional Shares (the "Shares") of the Trust.
Shares of the Trust are sold primarily to accounts for which financial
institutions act in a fiduciary or agency capacity, and other accounts where a
financial institution maintains master accounts with an aggregate investment of
at least $400 million in certain mutual funds which are advised or distributed
by affiliates of Federated Investors, Inc. Shares are also made available to
financial intermediaries, public, and private organizations. In addition, Shares
are designed to provide an appropriate investment for particular financial
institutions that are subject to government agency regulations, including credit
unions, savings associations, and national banks. An investment in the Trust
serves as a convenient means of accumulating an interest in a professionally
managed, diversified portfolio which invests at least 65% of the value of its
total assets in U.S. government securities, all of which government securities
will be adjustable and floating rate mortgage securities which are issued or
guaranteed as to payment of principal and interest by the U.S. government, its
agencies, or instrumentalities. A minimum initial investment of $25,000 over a
90-day period is required.
Shares are currently sold and redeemed at net asset value without a sales charge
imposed by the Trust.
YEAR 2000 STATEMENT
Like other mutual Trusts and business organizations worldwide, the Trust's
service providers (among them, the adviser, distributor, administrator, and
transfer agent) must ensure that their computer systems are adjusted to properly
process and calculate date-related information from and after January 1, 2000.
Many software programs and, to a lesser extent, the computer hardware in use
today cannot distinguish the year 2000 from the year 1900. Such a design flaw
could have a negative impact in the handling of securities trades, pricing and
accounting services. The Trust and its service providers are actively working on
necessary changes to computer systems to deal with the year 2000 issue and
believe that systems will be year 2000 compliant when required. Analysis
continues regarding the financial impact of instituting a year 2000 compliant
program on the Trust's operations.
INVESTMENT INFORMATION
INVESTMENT OBJECTIVE
The investment objective of the Trust is to provide current income consistent
with minimal volatility of principal. Current income includes, in general,
discount earned on U.S. Treasury bills and agency discount notes, interest
earned on mortgage- related securities and other U.S. government securities, and
short-term capital gains. The investment objective cannot be changed without
approval of shareholders. The Trust anticipates that it will experience minimal
volatility of principal due to the frequent adjustments to interest rates on
adjustable and floating rate mortgage securities which comprise the portfolio.
Of course, there can be no assurance that the Trust will be able to maintain
minimal volatility of principal or that it will achieve its investment
objective. The Trust endeavors to achieve its investment objective, however, by
following the investment policies described in this prospectus.
INVESTMENT POLICIES
Except as otherwise noted, the investment policies described below may not be
changed by the Trustees without shareholder approval. The Trust will limit its
investments to those that are permitted for purchase by federal savings
associations pursuant to applicable rules, regulations, or interpretations of
the Office of Thrift Supervision and by federal credit unions under the Federal
Credit Union Act and the rules, regulations, and interpretations of the National
Credit Union Administration (the "NCUA"). Should additional permitted
investments be allowed as a result of future changes in applicable regulations
or federal laws, the Trust reserves the right, without shareholder approval, to
make such investments consistent with the Trust's investment objective,
policies, and limitations. Further, should existing statutes or regulations
change so as to cause any securities held by the Trust to become ineligible for
purchase by federal savings associations or federal credit unions, the Trust
will dispose of those securities at times advantageous to the Trust.
As operated within the above limitations, and pursuant to the Trust's investment
policy, which may be changed without shareholder approval, to limit its
investment to securities that are appropriate direct investments for national
banks, the Trust will also serve as an appropriate vehicle for a national bank
as an investment for its own account.
ACCEPTABLE INVESTMENTS
The Trust pursues its investment objective by investing at least 65% of the
value of its total assets in a professionally managed portfolio of U.S.
government securities. As a matter of investment policy, which may be changed
without shareholder approval, all of these U.S. government securities will be
adjustable and floating rate mortgage securities which are issued or guaranteed
as to payment of principal and interest by the U.S. government, its agencies, or
instrumentalities.
The types of mortgage securities in which the Trust may invest include the
following:
* adjustable rate mortgage securities;
* collateralized mortgage obligations;
* real estate mortgage investment conduits; and
*other securities collateralized by or representing interests in real estate
mortgages whose interest rates reset at periodic intervals and are issued or
guaranteed by the U.S. government, its agencies, or instrumentalities.
In addition to the securities described above, the Trust may also invest in
direct obligations of the U.S. Treasury, such as U.S. Treasury bills, notes, and
bonds, as well as obligations of U.S. government agencies or instrumentalities
which are not collateralized by or represent interests in real estate mortgages,
as described above.
The Trust may also invest in mortgage-related securities, as defined in Section
3(a)(41) of the Securities Exchange Act of 1934, as amended, which are issued by
private entities such as investment banking firms and companies related to the
construction industry. The privately issued mortgage related securities in which
the Trust may invest include:
* privately issued securities which are collateralized by pools of mortgages
in which each mortgage is guaranteed as to payment of principal and interest
by an agency or instrumentality of the U.S. government;
* privately issued securities which are collateralized by pools of mortgages
in which payment of principal and interest are guaranteed by the issuer and
such guarantee is collateralized by U.S. government securities; and
*other privately issued securities in which the proceeds of the issuance are
invested in mortgage-backed securities and payment of the principal and
interest are supported by the credit of any agency or instrumentality of the
U.S. government.
The privately issued mortgage-related securities provide for a periodic payment
consisting of both interest and principal. The interest portion of these
payments will be distributed by the Trust as income, and the capital portion
will be reinvested.
The prices of fixed income securities fluctuate inversely to the direction of
interest rates.
ADJUSTABLE RATE MORTGAGE SECURITIES ("ARMS")
ARMs are pass-through mortgage securities with adjustable rather than fixed
interest rates. The ARMs in which the Trust invests are issued by Government
National Mortgage Association ("GNMA"), Federal National Mortgage Association
("FNMA"), and Federal Home Loan Mortgage Corporation ("FHLMC") and are actively
traded. The underlying mortgages which collateralize ARMs issued by GNMA are
fully guaranteed by the Federal Housing Administration ("FHA") or Veterans
Administration ("VA"), while those collateralizing ARMs issued by FHLMC or FNMA
are typically conventional residential mortgages conforming to strict
underwriting size and maturity constraints.
Unlike conventional bonds, ARMs pay back principal over the life of the ARM
rather than at maturity. Thus, a holder of the ARM, such as the Trust, would
receive monthly scheduled payments of principal and interest and may receive
unscheduled principal payments representing payments on the underlying
mortgages. At the time that a holder of the ARM reinvests the payments and any
unscheduled prepayments of principal that it receives, the holder may receive a
rate of interest which is actually lower than the rate of interest paid on the
existing ARM. As a consequence, ARMs may be a less effective means of "locking
in" long-term interest rates than other types of U.S. government securities.
Not unlike other U.S. government securities, the market value of ARMs will
generally vary inversely with changes in market interest rates. Thus, the market
value of ARMs generally declines when interest rates rise and generally rises
when interest rates decline.
While ARMs generally entail less risk of a decline during periods of rapidly
rising rates, ARMs may also have less potential for capital appreciation than
other similar investments (e.g., investments with comparable maturities)
because, as interest rates decline, the likelihood increases that mortgages will
be prepaid. Furthermore, if ARMs are purchased at a premium, mortgage
foreclosures and unscheduled principal payments may result in some loss of a
holder's principal investment to the extent of the premium paid. Conversely, if
ARMs are purchased at a discount, both a scheduled payment of principal and an
unscheduled prepayment of principal would increase current and total returns and
would accelerate the recognition of income, which would be taxed as ordinary
income when distributed to shareholders.
COLLATERALIZED MORTGAGE OBLIGATIONS ("CMOS")
CMOs are bonds issued by single-purpose, stand-alone finance subsidiaries or
trusts of financial institutions, government agencies, investment bankers, or
companies related to the construction industry. CMOs purchased by the Trust may
be:
* collateralized by pools of mortgages in which each mortgage is guaranteed
as to payment of principal and interest by an agency or instrumentality of
the U.S. government;
* collateralized by pools of mortgages in which payment of principal and
interest is guaranteed by the issuer and such guarantee is collateralized by
U.S. government securities; or
*securities in which the proceeds of the issuance are invested in mortgage
securities and payment of the principal and interest are supported by the
credit of an agency or instrumentality of the U.S. government. The Trust will
only purchase CMOs which are investment grade, as rated by a nationally
recognized statistical rating organization.
REAL ESTATE MORTGAGE INVESTMENT CONDUITS ("REMICS")
REMICs are offerings of multiple class real estate mortgage-backed securities
which qualify and elect treatment as such under provisions of the Internal
Revenue Code. Issuers of REMICs may take several forms, such as trusts,
partnerships, corporations, associations, or a segregated pool of mortgages.
Once REMIC status is elected and obtained, the entity is not subject to federal
income taxation. Instead, income is passed through the entity and is taxed to
the person or persons who hold interests in the REMIC. A REMIC interest must
consist of one or more classes of "regular interests," some of which may offer
adjustable rates (the type in which the Trust primarily invests), and a single
class of "residual interests." To qualify as a REMIC, substantially all of the
assets of the entity must be in assets directly or indirectly secured
principally by real property.
REGULATORY COMPLIANCE
In accordance with the Rules and Regulations of the NCUA, unless the purchase is
made solely to reduce interest-rate risk, the Trust will not invest in any CMO
or REMIC security that meets any of the following three tests: (1) the CMO or
REMIC has an expected average life greater than 10 years; (2) the average life
of the CMO or REMIC extends by more than four years assuming an immediate and
sustained parallel shift in the yield curve of plus 300 basis points, or
shortens by more than six years assuming an immediate and sustained parallel
shift in the yield curve of minus 300 basis points; or (3) the estimated change
in the price of the CMO or REMIC is more than 17%, due to an immediate and
sustained parallel shift in the yield curve of plus or minus 300 basis points.
Neither test (1) nor (2) above apply to floating or adjustable rate CMOs or
REMICs with all of the following characteristics: (a) the interest rate of the
instrument is reset at least annually; (b) the interest rate is below the
contractual cap of the instrument; (c) the instrument is tied to a widely-used
market rate; and (d) the instrument varies directly (not inversely) and is reset
in proportion with the index's changes.
The Trust may not purchase a residual interest in a CMO or REMIC. In addition,
the Trust will not purchase zero coupon securities with maturities greater than
10 years.
RESETS
The interest rates paid on the ARMs, CMOs, and REMICs in which the Trust invests
generally are readjusted or reset at intervals of one year or less to an
increment over some predetermined interest rate index. There are two main
categories of indices: those based on U.S. Treasury securities and those derived
from a calculated measure, such as a cost of funds index or a moving average of
mortgage rates. Commonly utilized indices include the one-year and five-year
constant maturity Treasury note rates, the three-month Treasury bill rate, the
180-day Treasury bill rate, rates on longer-term Treasury securities, the
National Median Cost of Funds, the one-month or three-month London Interbank
Offered Rate (LIBOR), the prime rate of a specific bank, or commercial paper
rates. Some indices, such as the one-year constant maturity Treasury note rate,
closely mirror changes in market interest rate levels. Others tend to lag
changes in market rate levels and tend to be somewhat less volatile.
CAPS AND FLOORS
The underlying mortgages which collateralize the ARMs, CMOs, and REMICs in which
the Trust invests will frequently have caps and floors which limit the maximum
amount by which the loan rate to the residential borrower may change up or down:
(1) per reset or adjustment interval and (2) over the life of the loan. Some
residential mortgage loans restrict periodic adjustments by limiting changes in
the borrower's monthly principal and interest payments rather than limiting
interest rate changes. These payment caps may result in negative amortization.
The value of mortgage securities in which the Trust invests may be affected if
market interest rates rise or fall faster and farther than the allowable caps or
floors on the underlying residential mortgage loans. An example of the effect of
caps and floors on a residential mortgage loan may be found in the Statement of
Additional Information. Additionally, even though the interest rates on the
underlying residential mortgages are adjustable, amortization and prepayments
may occur, thereby causing the effective maturities of the mortgage securities
in which the Trust invests to be shorter than the maturities stated in the
underlying mortgages.
TEMPORARY INVESTMENTS
For defensive purposes only, the Trust may also invest temporarily in cash and
money market instruments during times of unusual market conditions and to
maintain liquidity. Money market instruments may include obligations such as:
* obligations of the U.S. government or its agencies or instrumentalities;
and
* repurchase agreements.
REPURCHASE AGREEMENTS
Repurchase agreements are arrangements in which banks, broker/dealers, and other
recognized financial institutions sell U.S. government securities or other
securities to the Trust and agree at the time of sale to repurchase them at a
mutually agreed upon time and price within one year from the date of
acquisition. To the extent that the original seller does not repurchase the
securities from the Trust, the Trust could receive less than the repurchase
price on any sale of such securities.
LENDING OF PORTFOLIO SECURITIES
In order to generate additional income, the Trust may lend portfolio securities
on a short-term or a long-term basis up to one-third of the value of its total
assets to broker/dealers, banks, or other institutional borrowers of securities.
The Trust will only enter into loan arrangements with broker/dealers, banks, or
other institutions which the investment adviser has determined are creditworthy
under guidelines established by the Trust's Board of Trustees and will receive
collateral in the form of cash or U.S. government securities equal to at least
100% of the value of the securities loaned.
There is the risk that when lending portfolio securities, the securities may not
be available to the Trust on a timely basis and the Trust may, therefore, lose
the opportunity to sell the securities at a desirable price. In addition, in the
event that a borrower of securities would file for bankruptcy or become
insolvent, disposition of the securities may be delayed pending court action.
WHEN-ISSUED AND DELAYED DELIVERY TRANSACTIONS
The Trust may purchase securities on a when-issued or delayed delivery basis.
These transactions are arrangements in which the Trust purchases securities with
payment and delivery scheduled for a future time. The seller's failure to
complete these transactions may cause the Trust to miss a price or yield
considered to be advantageous. Settlement dates may be a month or more after
entering into these transactions, and the market values of the securities
purchased may vary from the purchase prices. Accordingly, the Trust may pay
more/less than the market value of the securities on the settlement date.
The Trust may dispose of a commitment prior to settlement if the adviser deems
it appropriate to do so. In addition, the Trust may enter into transactions to
sell its purchase commitments to third parties at current market values and
simultaneously acquire other commitments to purchase similar securities at later
dates. The Trust may realize short-term profits or losses upon the sale of such
commitments.
PORTFOLIO TURNOVER
The Trust does not intend to invest for the purpose of seeking short-term
profits, however securities in its portfolio will be sold whenever the Trust's
investment adviser believes it is appropriate to do so in light of the Trust's
investment objective, without regard to the length of time a particular security
may have been held.
INVESTMENT LIMITATIONS
The Trust will not:
*invest in stripped mortgage securities, including securities which represent a
share of only the interest payments or only the principal payments from
underlying mortgage related securities;
*borrow money directly or through reverse repurchase agreements (arrangements
in which the Trust sells a portfolio instrument for a percentage of its cash
value with an agreement to buy it back on a set date) or pledge securities
except, under certain circumstances, the Trust may borrow up to one-third of
the value of its net assets and pledge up to 10% of the value of its total
assets to secure such borrowings; or
*invest more than 5% of the value of its total assets in securities of issuers
which have records of less than three years of continuous operations, including
the operation of any predecessor. With respect to the asset- backed securities,
the Trust will treat the originator of the asset pool as the company issuing
the securities for purposes of determining compliance with this limitation.
The above investment limitations cannot be changed without shareholder approval.
The following limitation, however, may be changed by the Trustees without
shareholder approval. Shareholders will be notified before any material change
in this limitation becomes effective.
The Trust will not:
*invest more than 15% of its net assets in securities which are illiquid,
including repurchase agreements providing for settlement in more than seven
days after notice.
TRUST INFORMATION
MANAGEMENT OF THE TRUST
BOARD OF TRUSTEES
The Trust is managed by a Board of Trustees. The Trustees are responsible for
managing the Trust's business affairs and for exercising all the Trust's powers
except those reserved for the shareholders. The Executive Committee of the Board
of Trustees handles the Board's responsibilities between meetings of the Board.
INVESTMENT ADVISER
Investment decisions for the Trust are made by Federated Management, the Fund's
investment adviser (the "Adviser"), subject to direction by the Trustees. The
Adviser continually conducts investment research and supervision for the Trust
and is responsible for the purchase or sale of portfolio instruments, for which
it receives an annual fee from the Trust.
ADVISORY FEES
The Adviser receives an annual investment advisory fee equal to 0.60% of the
Trust's average daily net assets. The Adviser may voluntarily choose to waive a
portion of its fee or reimburse the Trust for certain operating expenses. This
does not include reimbursement to the Trust of any expenses incurred by
shareholders who use the transfer agent's subaccounting facilities. The Adviser
can terminate this voluntary waiver of its advisory fee at any time in its sole
discretion.
ADVISER'S BACKGROUND
Federated Management, a Delaware business trust organized on April 11, 1989, is
a registered investment adviser under the Investment Advisers Act of 1940. It is
a subsidiary of Federated Investors, Inc. All of the Class A (voting) shares of
Federated Investors, Inc., are owned by a trust, the trustees of which are John
F. Donahue, Chairman and Director of Federated Investors, Inc., Mr. Donahue's
wife, and Mr. Donahue's son, J. Christopher Donahue, who is President and
Director of Federated Investors, Inc.
Federated Management and other subsidiaries of Federated Investors, Inc., serve
as investment advisers to a number of investment companies and private accounts.
Certain other subsidiaries also provide administrative services to a number of
investment companies. With over $120 billion invested across more than 300
Trusts under management and/or administration by its subsidiaries, as of
December 31, 1997, Federated Investors, Inc., is one of the largest mutual fund
investment managers in the United States. With more than 2,000 employees,
Federated continues to be led by the management who founded the company in 1955.
Federated funds are presently at work in approximately 4,000 institutions
nationwide.
Both the Trust and the Adviser have adopted strict codes of ethics governing the
conduct of all employees who manage the Trust and its portfolio securities.
These codes recognize that such persons owe a fiduciary duty to the Trust's
shareholders and must place the interests of shareholders ahead of the
employees' own interest. Among other things, the codes: require preclearance and
periodic reporting of personal securities transactions; prohibit personal
transactions in securities being purchased or sold, or being considered for
purchase or sale, by the Trust; prohibit purchasing securities in initial public
offerings; and prohibit taking profits on securities held for less than sixty
days. Violations of the codes are subject to review by the Board of Trustees,
and could result in severe penalties.
Todd A. Abraham, Kathleen M. Foody-Malus, and Robert E. Cauley are the
Trust's portfolio managers. Mr. Abraham has been a portfolio manager of the
Trust since August 1995. Mr. Abraham joined Federated Investors, Inc., or
its predecessor in 1993 as an Investment Analyst and has been a Vice
President of the Trust's Adviser since 1997. Mr. Abraham served as an
Assistant Vice President of the Adviser from 1995 until 1997. Mr. Abraham
served as a Portfolio Analyst at Ryland Mortgage Company from 1992 to 1993
and as a Bond Administrator at Ryland Asset Management Company from 1990 to
1992. Mr. Abraham is a Chartered Financial Analyst and received his M.B.A. in
Finance from Loyola College.
Ms. Foody-Malus has been a portfolio manager of the Trust since January 1992.
Ms. Foody-Malus joined Federated Investors, Inc., or its predecessor in 1983
and has been a Vice President of the Trust's Adviser since 1993. Ms. Foody-
Malus served as an Assistant Vice President of the Adviser from 1990 until
1992. Ms. Foody-Malus received her M.B.A. in Accounting/Finance from the
University of Pittsburgh.
Robert E. Cauley has been a portfolio manager of the Trust since
October 1997. Mr. Cauley joined Federated Investors, Inc., or its
predecessor in 1996 as an Assistant Vice President of the Trust's Adviser.
Mr. Cauley served as an Associate in the Asset-Backed Securities Group at
Lehman Brothers Holding, Inc. from 1994 to 1996. From 1992 to 1994,
Mr. Cauley served as a Senior Associate/Corporate Finance at Barclays Bank,
PLC. Mr. Cauley earned his M.S.I.A., concentrating in Finance and Economics,
from Carnegie Mellon University.
DISTRIBUTION OF INSTITUTIONAL SHARES
Federated Securities Corp. is the principal distributor for Shares of the
Trust. It is a Pennsylvania corporation organized on November 14, 1969, and
is the principal distributor for a number of investment companies. Federated
Securities Corp. is a subsidiary of Federated Investors, Inc.
SHAREHOLDER SERVICES
The Trust has entered into a Shareholder Services Agreement with Federated
Shareholder Services, a subsidiary of Federated Investors, Inc., under which the
Trust may make payments up to 0.25% of the average daily net asset value of its
Shares, computed at an annual rate, to obtain certain personal services for
shareholders and to maintain shareholder accounts. From time to time and for
such periods as deemed appropriate, the amount stated above may be reduced
voluntarily.
Under the Shareholder Services Agreement, Federated Shareholder Services will
either perform shareholder services directly or will select financial
institutions to perform shareholder services. Financial institutions will
receive fees based upon shares owned by their clients or customers. The
schedules of such fees and the basis upon which such fees will be paid will be
determined from time to time by the Trust and Federated Shareholder Services.
SUPPLEMENTAL PAYMENTS TO FINANCIAL INSTITUTIONS
In addition to payments made pursuant to the Shareholder Services Agreement,
Federated Securities Corp. and Federated Shareholder Services, from their own
assets, may pay financial institutions supplemental fees for the performance of
substantial sales services, distribution-related support services, or
shareholder services. The support may include sponsoring sales, educational and
training seminars for their employees, providing sales literature, and
engineering computer software programs that emphasize the attributes of the
Trust. Such assistance will be predicated upon the amount of Shares the
financial institution sells or may sell, and/or upon the type and nature of
sales or marketing support furnished by the financial institution. Any payments
made by the distributor may be reimbursed by the Trust's Adviser or its
affiliates.
ADMINISTRATION OF THE TRUST
ADMINISTRATIVE SERVICES
Federated Services Company, a subsidiary of Federated Investors, Inc., provides
administrative personnel and services (including certain legal and financial
reporting services) necessary to operate the Trust. Federated Services Company
provides these at an annual rate which relates to the average aggregate daily
net assets of all funds advised by subsidiaries of Federated Investors, Inc.,
("Federated Funds") as specified below:
MAXIMUM AVERAGE AGGREGATE
FEE DAILY NET ASSETS
0.150% on the first $250 million
0.125% on the next $250 million
0.100% on the next $250 million
0.075% on assets in excess of $750 million
The administrative fee received during any fiscal year shall be at least
$125,000 per portfolio and $30,000 per each additional class of shares.
Federated Services Company may choose voluntarily to waive a portion of its fee.
NET ASSET VALUE
The Trust's net asset value per Share fluctuates. The net asset value for Shares
is determined by adding the interest of the Shares in the market value of all
securities and other assets of the Trust, subtracting the interest of the Shares
in the liabilities of the Trust and those attributable to Shares, and dividing
the remainder by the total number of Shares outstanding. The net asset value for
Shares will exceed that of Institutional Service Shares due to the variance in
daily net income realized by each class as a result of different distribution
charges incurred by the classes. Such variance will reflect only accrued net
income to which the shareholders of a particular class are entitled.
INVESTING IN INSTITUTIONAL SHARES
SHARE PURCHASES
Shares are sold on days on which the New York Stock Exchange is open. Shares may
be purchased either by wire or mail.
To purchase Shares of the Trust, open an account by calling Federated Securities
Corp. Information needed to establish the account will be taken over the
telephone. The Trust reserves the right to reject any purchase request.
BY WIRE
To purchase Shares by Federal Reserve wire, call the Trust before 4:00 p.m.
(Eastern time) to place an order. The order is considered received immediately.
Payment by federal funds must be received before 3:00 p.m. (Eastern time) on the
next business day following the order. Federal funds should be wired as follows:
Federated Shareholder Services Company, c/o State Street Bank and Trust Company,
Boston, Massachusetts; Attention: EDGEWIRE; For Credit to: Federated ARMs
Fund-Institutional Shares; Trust Number (this number can be found on the account
statement or by contacting the Trust); Group Number or Order Number; Nominee or
Institution Name; ABA Number 011000028. Shares cannot be purchased on days on
which the New York Stock Exchange is closed and on federal holidays restricting
wire transfers. Questions on wire purchases should be directed to your
shareholder services representative at the telephone number listed on your
account statement.
BY MAIL
To purchase Shares by mail, send a check made payable to Federated ARMs Fund-
Institutional Shares to: Federated Shareholder Services Company, P.O. Box 8600,
Boston, Massachusetts 02266-8600. Orders by mail are considered received after
payment by check is converted by the transfer agent's bank, State Street Bank
and Trust Company ("State Street Bank"), into federal funds. This is normally
the next business day after State Street Bank receives the check.
EXCHANGE PRIVILEGE
Financial institutions that maintain master accounts with an aggregate
investment of at least $400 million in Federated Funds may exchange their Shares
for Institutional Service Shares of the Trust.
MINIMUM INVESTMENT REQUIRED
The minimum initial investment in the Trust is $25,000 plus any financial
intermediary's fee, if applicable. However, an account may be opened with a
smaller amount as long as the $25,000 minimum is reached within 90 days. The
minimum investment for an institutional investor will be calculated by combining
all accounts it maintains with the Trust. Accounts established through a
financial intermediary may be subject to a smaller minimum investment.
WHAT SHARES COST
Shares are sold at their net asset value next determined after an order is
received. There is no sales charge imposed by the Trust. Investors who purchase
Shares through a financial intermediary may be charged an additional service fee
by that financial intermediary.
The net asset value is determined as of the close of trading (normally 4:00
p.m., Eastern time) on the New York Stock Exchange, Monday through Friday,
except on: (i) days on which there are not sufficient changes in the value of
the Trust's portfolio securities that its net asset value might be materially
affected; (ii) days on which no Shares are tendered for redemption and no orders
to purchase Shares are received; and (iii) 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.
CONFIRMATIONS AND ACCOUNT STATEMENTS
Shareholders will receive detailed confirmations of transactions. In addition,
shareholders will receive periodic statements reporting all account activity,
including dividends paid. The Trust will not issue share certificates.
DIVIDENDS
Dividends are declared daily and paid monthly. Dividends are declared just prior
to determining net asset value. If an order for Shares is placed on the
preceding business day, Shares purchased by wire begin earning dividends on the
business day wire payment is received by State Street Bank. If the order for
Shares and payment by wire are received on the same day, Shares begin earning
dividends on the next business day. Shares purchased by check begin earning
dividends on the business day after the check is converted, upon instruction of
the transfer agent, into federal funds. Dividends are automatically reinvested
on payment dates in additional Shares unless cash payments are requested by
contacting the Trust.
CAPITAL GAINS
Capital gains realized by the Trust, if any, will be distributed at least once
every twelve months.
REDEEMING INSTITUTIONAL SHARES
The Trust redeems Shares at their net asset value next determined after the
Trust receives the redemption request. Investors who redeem Shares through a
financial intermediary may be charged a service fee by that financial
intermediary. Redemptions will be made on days on which the Trust computes its
net asset value. Redemption requests must be received in proper form and can be
made by telephone request or by written request.
TELEPHONE REDEMPTION
Shareholders may redeem their Shares by telephoning the Trust before 4:00 p.m.
(Eastern time). The proceeds will normally be wired the following business day,
but in no event longer than seven days later, to the shareholder's account at a
domestic commercial bank that is a member of the Federal Reserve System. If at
any time the Trust shall determine it necessary to terminate or modify this
method of redemption, shareholders would be promptly notified.
An authorization form permitting the Trust to accept telephone requests must
first be completed. Authorization forms and information on this service are
available from Federated Securities Corp. Telephone redemption instructions may
be recorded. If reasonable procedures are not followed by the Trust, it may be
liable for losses due to unauthorized or fraudulent telephone instructions.
In the event of drastic economic or market changes, the shareholders may
experience difficulty in redeeming by telephone. If such a case should occur,
another method of redemption, such as that discussed in "Written Requests,"
should be considered.
WRITTEN REQUESTS
Shares may be redeemed by sending a written request to Federated Shareholder
Services Company, P.O. Box 8600, Boston Massachusetts 02266-8600. Call the Trust
for specific instructions before redeeming by letter. The shareholder will be
asked to provide in the request his name, the Trust name, the class of shares,
his account number, and the share or dollar amount requested. If Share
certificates have been issued, they should be sent unendorsed with the written
request by registered or certified mail to the address above noted.
SIGNATURES
Shareholders requesting a redemption of any amount to be sent to an address
other than that on record with the Trust, or a redemption payable other than to
the shareholder of record must have their signatures guaranteed by:
*a trust company or commercial bank whose deposits are insured by the Bank
Insurance Fund ("BIF"), which is administered by the Federal Deposit Insurance
Corporation ("FDIC");
* a member of the New York, American, Boston, Midwest, or Pacific Stock
Exchanges;
*a savings bank or savings association whose deposits are insured by the
Savings Association Insurance Fund ("SAIF"), which is administered by the FDIC;
or
*any other "eligible guarantor institution," as defined in the Securities
Exchange Act of 1934.
The Trust does not accept signatures guaranteed by a notary public.
The Trust and its transfer agent have adopted standards for accepting signature
guarantees from the above institutions. The Fund and its transfer agent reserve
the right to amend these standards at any time without notice.
RECEIVING PAYMENT
Normally, a check for the proceeds is mailed within one business day, but in no
event more than seven days, after receipt of a proper written redemption
request.
ACCOUNTS WITH LOW BALANCES
Due to the high cost of maintaining accounts with low balances, the Trust may
redeem Shares in any account and pay the proceeds to the shareholder if the
account balance falls below a required minimum value of $25,000 due to
shareholder redemptions. This requirement does not apply, however, if the
balance falls below $25,000 because of changes in the Trust's net asset value.
Before Shares are redeemed to close an account, the shareholder is notified in
writing and allowed 30 days to purchase additional Shares to meet the minimum
requirement.
SHAREHOLDER INFORMATION
VOTING RIGHTS
Each Share of the Trust gives the shareholder one vote in Trustee elections and
other matters submitted to shareholders for vote. All shares of each portfolio
in the Trust have equal voting rights except that, in matters affecting only a
particular class, only shares of that particular class are entitled to vote.
As a Massachusetts business trust, the Trust is not required to hold annual
shareholder meetings. Shareholder approval will be sought only for certain
changes in the Trust's operation and for the election of Trustees under certain
circumstances.
Trustees may be removed by the Trustees or by shareholders at a special meeting.
A special meeting shall be called by the Trustees upon the written request of
shareholders owning at least 10% of the Trust's outstanding shares of all
portfolios entitled to vote.
TAX INFORMATION
FEDERAL INCOME TAX
The Trust will pay no federal income tax because the Trust expects to meet
requirements of the Internal Revenue Code, as amended, applicable to regulated
investment companies and to receive the special tax treatment afforded to such
companies.
The Trust will be treated as a single, separate entity for federal income tax
purposes so that income (including capital gains) and losses related by the
Trust's other portfolios, if any, will not be combined for tax purposes with
those realized by the Trust.
Unless otherwise exempt, shareholders are required to pay federal income tax on
any dividends and other distributions, including capital gains distributions,
received. This applies whether dividends and distributions are received in cash
or as additional Shares. Distributions representing long-term capital gains, if
any, will be taxable to shareholders as long-term capital gains no matter how
long the shareholders have held the Shares.
STATE AND LOCAL TAXES
Shareholders are urged to consult their own tax advisers regarding the status of
their accounts under state and local tax laws.
PERFORMANCE INFORMATION
From time to time the Trust advertises its total return and yield for
Institutional Shares.
Total return represents the change, over a specified period of time, in the
value of an investment in Institutional Shares after reinvesting all income and
capital gain distributions. It is calculated by dividing that change by the
initial investment and is expressed as a percentage.
The yield of Institutional Shares is calculated by dividing the net investment
income per share (as defined by the SEC) earned by Institutional Shares over a
thirty-day period by the offering price per share of Institutional Shares on the
last day of the period. This number is then annualized using semi-annual
compounding. The yield does not necessarily reflect income actually earned by
Institutional Shares and, therefore, may not correlate to the dividends or other
distributions paid to shareholders.
The Institutional Shares are sold without any sales charge or other similar
nonrecurring charges.
Total return and yield will be calculated separately for Institutional Shares
and Institutional Service Shares.
From time to time, advertisements for the Trust may refer to ratings, rankings,
and other information in certain financial publications and/or compare the
Trust's performance to certain indices.
OTHER CLASSES OF SHARES
The Trust also offers another class of shares called Institutional Service
Shares. Institutional Service Shares are sold to banks and other institutions
that hold assets in an agency capacity and rely upon the distribution services
provided by the distributor for the marketing of these shares, as well as to
retail customers of such institutions, and are subject to a minimum initial
investment of $25,000. Institutional Service Shares are sold at net asset value
and are distributed pursuant to a Rule 12b-1 Plan adopted by the Trust whereby
the distributor is paid a fee of 0.25% of the Institutional Service Shares'
average net assets.
Shares and Institutional Service Shares are subject to certain of the same
expenses. Expense differences between Shares and Institutional Service
Shares may affect the performance of each class.
To obtain more information and a prospectus for Institutional Service Shares,
investors may call 1-800-341-7400.
FINANCIAL HIGHLIGHTS--INSTITUTIONAL SERVICE SHARES
FEDERATED ARMS FUND
(FOR A SHARE OUTSTANDING THROUGHOUT EACH PERIOD)
Reference is made to the Report of Ernst & Young LLP, Independent Auditors, on
page 23.
<TABLE>
<CAPTION>
YEAR ENDED AUGUST 31,
1998 1997 1996 1995 1994 1993 1992(A)
<S> <C> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD $ 9.74 $ 9.64 $ 9.65 $ 9.63 $ 9.98 $10.01 $ 9.98
INCOME FROM INVESTMENT OPERATIONS
Net investment income 0.53 0.56 0.55 0.54 0.42 0.48 0.18
Net realized and unrealized gain (loss) on investments (0.07) 0.10 (0.01) 0.02 (0.35) (0.03) 0.03
Total from investment operations 0.46 0.66 0.54 0.56 0.07 0.45 0.21
LESS DISTRIBUTIONS
Distributions from net investment income (0.53) (0.56) (0.55) (0.54) (0.42) (0.48) (0.18)
NET ASSET VALUE, END OF PERIOD $ 9.67 $ 9.74 $ 9.64 $ 9.65 $ 9.63 $ 9.98 $10.01
TOTAL RETURN(B) 4.87% 7.05% 5.75% 5.94% 0.74% 4.56% 2.11%
RATIOS TO AVERAGE NET ASSETS
Expenses 0.80% 0.80% 0.80% 0.80% 0.80% 0.76% 0.76%*
Net investment income 5.55% 5.78% 5.69% 5.44% 4.26% 4.72% 5.46%*
Expense waiver/reimbursement(c) 0.44% 0.44% 0.44% 0.43% 0.23% 0.21% 0.32%*
SUPPLEMENTAL DATA
Net assets, end of period (000 omitted) $48,685 $87,322 $109,536 $135,689 $255,891 $499,418 $113,095
Portfolio turnover 56% 84% 134% 124% 65% 36% 38%
</TABLE>
* Computed on an annualized basis.
(a) Reflects operations for the period from May 4, 1992 (date of initial public
investment) to August 31, 1992.
(b) Based on net asset value, which does not reflect the sales charge or
contingent deferred sales charge, if applicable.
(c) This voluntary expense decrease is reflected in both the expense and net
investment income ratios shown above.
(See Notes which are an integral part of the Financial Statements)
PORTFOLIO OF INVESTMENTS
FEDERATED ARMS FUND
<TABLE>
<CAPTION>
PRINCIPAL
AMOUNT VALUE
<C> <S> <C>
U.S.GOVERNMENT INSTRUMENTALITIES--98.0%
FEDERATED HOME LOAN MORTGAGE CORP. ARM--33.6%
$152,768,623 7.423% - 7.693%, 2/1/2019 - 7/1/2030 $157,988,520
FEDERATED HOME LOAN MORTGAGE CORP. REMIC--1.8%
8,330,728 Series 1544-E, 6.250%, 6/15/2008 8,371,881
FEDERATED HOME LOAN MORTGAGE CORP.--7.5%
18,519,901 7.000%, 4/1/2013 - 5/1/2013 18,936,598
15,820,000 6.500%, 9/1/2013 16,032,621
Total 34,969,219
FEDERATED NATIONAL MORTGAGE ASSOCIATION ARM--13.0%
59,971,420 6.132% - 7.578%, 9/1/2018 - 5/1/2036 60,940,863
FEDERATED NATIONAL MORTGAGE ASSOCIATION REMIC--5.6%
15,000,000 Series 98-36PA, 6.250%, 7/18/2013 15,233,787
11,138,000 Series 93-206E, 5.650%, 5/25/2017 11,158,271
Total 26,392,058
FEDERATED NATIONAL MORTGAGE ASSOCIATION--6.1%
27,304,778 6.500% - 12.000%, 3/1/2013 - 4/1/2018 28,583,413
GOVERNMENT NATIONAL MORTGAGE ASSOCIATION ARM--21.9%
51,186,904 7.000%, 8/20/2017 - 9/20/2024 52,205,507
31,144,354 6.875%, 3/20/2016 - 3/20/2023 31,814,671
4,788,874 6.000%, 10/20/2027 4,838,822
7,433,214 5.500%, 5/20/2028 7,472,461
7,000,000 5.000%, 8/20/2028 6,980,330
Total 103,311,791
GOVERNMENT NATIONAL MORTGAGE ASSOCIATION--8.5%
2,744,413 12.000%, 9/15/2013 - 1/15/2014 3,184,576
19,799,314 11.500%, 10/15/2010 - 4/15/2020 22,636,103
12,295,962 11.000%, 12/15/2009 - 7/15/2020 13,867,545
Total 39,688,224
TOTAL U.S.GOVERNMENT INSTRUMENTALITIES (IDENTIFIED COST
$458,727,258) 460,245,969
</TABLE>
FEDERATED ARMS FUND
<TABLE>
<CAPTION>
PRINCIPAL
AMOUNT VALUE
<C> <S> <C>
U.S.GOVERNMENT INSTRUMENTALITIESCONTINUED
(A)REPURCHASE AGREEMENTS5.8%
$ 11,390,000 BT Securities Corp., 5.800%, dated 8/31/1998, due 9/1/1998 $ 11,390,000
15,820,000 (b)Morgan Stanley Group, Inc., 5.530%, dated 8/12/1998,
due 9/17/1998 15,820,000
TOTAL REPURCHASE AGREEMENTS (AT AMORTIZED COST) 27,210,000
TOTAL INVESTMENTS (IDENTIFIED COST $485,937,258)(C) $487,455,969
</TABLE>
(a) The repurchase agreements are fully collateralized by U.S. Government
and/or agency obligations based on market prices at the date of the portfolio.
The investments in the repurchase agreement are through participation in joint
accounts with other Federated funds.
(b) Although final maturity falls beyond seven days, a liquidity feature is
included in each transaction to permit termination of the repurchase agreement
within seven days.
(c) The cost of investments for federal tax purposes amounts to $485,937,258.
The net unrealized appreciation of investments on a federal tax basis amounts to
$1,518,711 which is comprised of $2,611,043 appreciation and $1,092,332
depreciation at August 31, 1998.
Note: The categories of investments are shown as a percentage of net assets
($469,673,092) at August 31, 1998.
The following acronyms are used throughout this portfolio:
ARM--Adjustable Rate Mortgage
REMIC--Real Estate Mortgage Investment Conduit
(See Notes which are an integral part of the Financial Statements)
STATEMENT OF ASSETS AND LIABILITIES
FEDERATED ARMS FUND
AUGUST 31, 1998
<TABLE>
<CAPTION>
<S> <C> <C>
ASSETS:
Total investments in securities, at value
(identified and tax cost $485,937,258) $487,455,969
Cash 2,587
Income receivable 6,917,359
Receivable for shares sold 49,379
Total assets 494,425,294
LIABILITIES:
Payable for investments purchased $23,058,723
Payable for shares redeemed 125,813
Income distribution payable 1,484,509
Accrued expenses 83,157
Total liabilities 24,752,202
NET ASSETS for 48,583,956 shares outstanding $469,673,092
NET ASSETS CONSIST OF:
Paid in capital $547,860,049
Net unrealized appreciation of investments 1,518,711
Accumulated net realized loss on investments (79,755,456)
Undistributed net investment income 49,788
Total Net Assets $469,673,092
NET ASSET VALUE, OFFERING PRICE AND REDEMPTION PROCEEDS PER SHARE:
INSTITUTIONAL SHARES:
$420,988,205 / 43,547,672 shares outstanding $9.67
INSTITUTIONAL SERVICE SHARES:
$48,684,887 / 5,036,284 shares outstanding $9.67
</TABLE>
(See Notes which are an integral part of the Financial Statements)
STATEMENT OF OPERATIONS
FEDERATED ARMS FUND
YEAR ENDED AUGUST 31, 1998
<TABLE>
<S> <C> <C> <C>
INVESTMENT INCOME:
Interest $ 35,061,884
EXPENSES:
Investment advisory fee $ 3,325,847
Administrative personnel and services fee 418,154
Custodian fees 68,668
Transfer and dividend disbursing agent fees and expenses 57,421
Directors'/Trustees' fees 18,535
Auditing fees 19,728
Legal fees 5,932
Portfolio accounting fees 124,162
Distribution services feeInstitutional Service Shares 235,234
Shareholder services feeInstitutional Shares 1,150,547
Shareholder services feeInstitutional Service Shares 235,234
Share registration costs 27,375
Printing and postage 24,912
Insurance premiums 6,647
Taxes 4,367
Miscellaneous 9,315
Total expenses 5,732,078
Waivers
Waiver of investment advisory fee $(1,037,318) Waiver of distribution services
fee--Institutional Service Shares (232,412) Waiver of shareholder services
fee--Institutional Shares (1,150,547) Waiver of shareholder services
fee--Institutional Service Shares (2,823)
Total waivers (2,423,100)
Net expenses 3,308,978
Net investment income 31,752,906
REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS:
Net realized gain on investments 1,245,992
Net change in unrealized depreciation of investments (5,409,340)
Net realized and unrealized loss on investments (4,163,348)
Change in net assets resulting from operations $ 27,589,558
</TABLE>
(See Notes which are an integral part of the Financial Statements)
STATEMENT OF CHANGES IN NET ASSETS
FEDERATED ARMS FUND
<TABLE>
<CAPTION>
YEAR ENDED AUGUST 31,
1998 1997
<S> <C> <C>
INCREASE (DECREASE) IN NET ASSETS:
OPERATIONS
Net investment income $ 31,752,906 $ 39,745,870
Net realized gain on investments ($1,245,992 and $3,411,098,
respectively, as computed for federal tax purposes) 1,245,992 3,454,717
Net change in unrealized appreciation/depreciation (5,409,340) 3,918,165
Change in net assets resulting from operations 27,589,558 47,118,752
DISTRIBUTIONS TO SHAREHOLDERS
Distributions from net investment income
Institutional Shares (26,468,625) (34,210,612)
Institutional Service Shares (5,231,032) (5,578,429)
Change in net assets resulting from distributions to shareholders (31,699,657) (39,789,041)
SHARE TRANSACTIONS
Proceeds from sale of shares 85,623,659 56,479,068
Net asset value of shares issued to shareholders in payment of
distributions declared 9,463,263 9,827,175
Cost of shares redeemed (206,845,928) (250,943,388)
Change in net assets resulting from share transactions (111,759,006) (184,637,145)
Change in net assets (115,869,105) (177,307,434)
NET ASSETS:
Beginning of period 585,542,197 762,849,631
End of period (including undistributed net investment income of
$50,240 and $0, respectively) $ 469,673,092 $ 585,542,197
</TABLE>
(See Notes which are an integral part of the Financial Statements)
NOTES TO FINANCIAL STATEMENTS
FEDERATED ARMS FUND
AUGUST 31, 1998
ORGANIZATION
Federated ARMs Fund (the "Trust") is registered under the Investment Company Act
of 1940, as amended (the "Act"), as a diversified, open-end management
investment company. The Trust offers two classes of shares: Institutional Shares
and Institutional Service Shares. The investment objective of the Trust is to
provide current income consistent with minimal volatility of principal.
SIGNIFICANT ACCOUNTING POLICIES
The following is a summary of significant accounting policies consistently
followed by the Trust in the preparation of its financial statements. These
policies are in conformity with generally accepted accounting principles.
INVESTMENT VALUATIONS
U.S. government and agency securities are generally valued at the mean of the
latest bid and asked price as furnished by an independent pricing service.
Short-term securities are valued at the prices provided by an independent
pricing service. However, short-term securities with remaining maturities of
sixty days or less at the time of purchase may be valued at amortized cost,
which approximates fair market value.
REPURCHASE AGREEMENTS
It is the policy of the Trust to require the custodian bank to take possession,
to have legally segregated in the Federal Reserve Book Entry System, or to have
segregated within the custodian bank's vault, all securities held as collateral
under repurchase agreement transactions. Additionally, procedures have been
established by the Trust to monitor, on a daily basis, the market value of each
repurchase agreement's collateral to ensure that the value of collateral at
least equals the repurchase price to be paid under the repurchase agreement
transaction.
The Trust will only enter into repurchase agreements with banks and other
recognized financial institutions such as broker/dealers which are deemed by the
Trust's adviser to be creditworthy pursuant to guidelines and/or standards
reviewed or established by the Board of Trustees (the "Trustees"). Risks may
arise from the potential inability of counterparties to honor the terms of the
repurchase agreement. Accordingly, the Trust could receive less than the
repurchase price on the sale of collateral securities.
INVESTMENT INCOME, EXPENSES, AND DISTRIBUTIONS
Interest income and expenses are accrued daily. Bond premium and discount, if
applicable, are amortized as required by the Internal Revenue Code, as amended
(the "Code"). Distributions to shareholders are recorded on the ex- dividend
date.
FEDERAL TAXES
It is the Trust's policy to comply with the provisions of the Code applicable to
regulated investment companies and to distribute to shareholders each year
substantially all of its income. Accordingly, no provisions for federal tax are
necessary. Distributions in excess of net investment income were the result of
certain book and tax timing differences. These distributions do not represent a
return of capital for federal income tax purposes.
At August 31, 1998, the Trust, for federal tax purposes, had a capital loss
carryforward of $79,755,305, which will reduce the Trust's taxable income
arising from future net realized gain on investments, if any, to the extent
permitted by the Code, and thus will reduce the amount of the distributions to
shareholders which would otherwise be necessary to relieve the Trust of any
liability for federal tax. Pursuant to the Code, such capital loss carryforward
will expire as follows:
EXPIRATION YEAR EXPIRATION AMOUNT
2002 $13,884,955
2003 57,180,753
2004 8,689,597
WHEN-ISSUED AND DELAYED DELIVERY TRANSACTIONS
The Trust may engage in when-issued or delayed delivery transactions. The Trust
records when-issued securities on the trade date and maintains security
positions such that sufficient liquid assets will be available to make payment
for the securities purchased. Securities purchased on a when- issued or delayed
delivery basis are marked to market daily and begin earning interest on the
settlement date.
DOLLAR ROLL TRANSACTIONS
The Trust enters into dollar roll transactions, with respect to mortgage
securities issued by GNMA, FNMA, and FHLMC, in which the Trust sells mortgage
securities to financial institutions and simultaneously agrees to accept
substantially similar (same type, coupon and maturity) securities at a later
date at an agreed upon price. Dollar roll transactions are short-term financing
arrangements which will not exceed twelve months. The Trust will use the
proceeds generated from the transactions to invest in short-term investments,
which may enhance the Trust's current yield and total return. During the year
ended August 31, 1998, the Trust did not enter into dollar roll transactions.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts of assets, liabilities, expenses and revenues reported in the
financial statements. Actual results could differ from those estimated.
OTHER
Investment transactions are accounted for on the trade date.
SHARES OF BENEFICIAL INTEREST
The Declaration of Trust permits the Trustees to issue an unlimited number of
full and fractional shares of beneficial interest (without par value) for each
class of shares. Transactions in shares were as follows:
<TABLE>
<CAPTION>
YEAR ENDED AUGUST 31,
1998 1997
INSTITUTIONAL SHARES SHARES AMOUNT SHARES AMOUNT
<S> <C> <C> <C> <C>
Shares sold 3,030,823 $ 29,442,519 4,079,073 $ 39,681,438
Shares issued to shareholders in payment
of distributions declared 658,748 6,398,162 841,597 8,186,144
Shares redeemed (11,287,079) (109,644,658) (21,517,755) (209,231,332)
Net change resulting from Institutional
Share transactions (7,597,508) $ (73,803,977) (16,597,085) $(161,363,750)
<CAPTION>
YEAR ENDED AUGUST 31,
1998 1997
INSTITUTIONAL SERVICE SHARES SHARES AMOUNT SHARES AMOUNT
<S> <C> <C> <C> <C>
Shares sold 5,771,167 $ 56,181,140 1,728,054 $ 16,797,630
Shares issued to shareholders in payment
of distributions declared 315,591 3,065,101 168,679 1,641,031
Shares redeemed (10,014,646) (97,201,270) (4,290,564) (41,712,056 )
Net change resulting from Institutional
Share transactions (3,927,888) $ (37,955,029) (2,393,831) $ (23,273,395)
Net change resulting from share transactions (11,525,396) $ (111,759,006) (18,990,916) $ (184,637,145)
</TABLE>
INVESTMENT ADVISORY FEE AND OTHER TRANSACTIONS WITH AFFILIATES
INVESTMENT ADVISORY FEE
Federated Management, the Trust's investment adviser (the "Adviser"), receives
for its services an annual investment advisory fee equal to 0.60% of the Trust's
average daily net assets. The Adviser may voluntarily choose to waive any
portion of its fee. The Adviser can modify or terminate this voluntary waiver at
any time at its sole discretion.
ADMINISTRATIVE FEE
Federated Services Company ("FServ"), under the Administrative Services
Agreement, provides the Trust with administrative personnel and services. The
fee paid to FServ is based on the level of average aggregate daily net assets of
all funds advised by subsidiaries of Federated Investors, Inc. for the period.
The administrative fee received during the period of the Administrative Services
Agreement shall be at least $125,000 per portfolio and $30,000 per each
additional class of shares.
DISTRIBUTION SERVICES FEE
The Trust has adopted a Distribution Plan (the "Plan") pursuant to Rule 12b- 1
under the Act. Under the terms of the Plan, the Trust will compensate Federated
Securities Corp. ("FSC"), the principal distributor, from the net assets of the
Trust to finance activities intended to result in the sale of the Trust's
Institutional Service Shares. The Plan provides that the Trust may incur
distribution expenses up to 0.25% of the average daily net assets of the
Institutional Service Shares, annually, to compensate FSC. FSC may voluntarily
choose to waive any portion of its fee. FSC can modify or terminate this
voluntary waiver at any time at its sole discretion.
SHAREHOLDER SERVICES FEE
Under the terms of a Shareholder Services Agreement with Federated Shareholder
Services ("FSS"), the Trust will pay FSS up to 0.25% of average daily net assets
of the Trust shares for the period. The fee paid to FSS is used to finance
certain services for shareholders and to maintain shareholder accounts. FSS may
voluntarily choose to waive any portion of its fee. FSS can modify or terminate
this voluntary waiver at any time at its sole discretion.
TRANSFER AND DIVIDEND DISBURSING AGENT FEES AND EXPENSES
FServ, through its subsidiary, Federated Shareholder Services Company ("FSSC")
serves as transfer and dividend disbursing agent for the Trust. The fee paid to
FSSC is based on the size, type, and number of accounts and transactions made by
shareholders.
PORTFOLIO ACCOUNTING FEES
FServ maintains the Trust's accounting records for which it receives a fee. The
fee is based on the level of the Trust's average daily net assets for the
period, plus out-of-pocket expenses.
GENERAL
Certain of the Officers and Trustees of the Trust are Officers and Directors or
Trustees of the above companies.
INVESTMENT TRANSACTIONS
Purchases and sales of investments, excluding short-term securities, for the
period ended August 31, 1998, were as follows:
PURCHASES $302,292,697
SALES $408,134,782
YEAR 2000 (UNAUDITED)
Similar to other financial organizations, the Trust could be adversely affected
if the computer systems used by the Trust's service providers do not properly
process and calculate date-related information and data from and after January
1, 2000. The Trust's Adviser and Administrator are taking measures that they
believe are reasonably designed to address the Year 2000 issue with respect to
computer systems that they use and to obtain reasonable assurances that
comparable steps are being taken by each of the Trust's other service providers.
At this time, however, there can be no assurance that these steps will be
sufficient to avoid any adverse impact to the Trust.
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
To the Trustees and Shareholders of
Federated ARMs Fund:
We have audited the accompanying statement of assets and liabilities of
Federated ARMs Fund, including the portfolio of investments, as of August 31,
1998, and the related statement of operations for the year then ended, the
statement of changes in net assets for each of the two years in the period then
ended, and financial highlights for each of the periods presented therein. These
financial statements and financial highlights are the responsibility of the
Trust's management. Our responsibility is to express an opinion on these
financial statements and financial highlights based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned as of
August 31, 1998, by correspondence with the custodian and brokers, or other
appropriate auditing procedures where replies from brokers were not received. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of
Federated ARMs Fund at August 31, 1998, the results of its operations for the
year then ended, the changes in its net assets for each of the two years in the
period then ended, and the financial highlights for each of the periods
presented therein, in conformity with generally accepted accounting principles.
ERNST & YOUNG LLP
Pittsburgh, Pennsylvania
October 9, 1998
[GRAPHIC]
FEDERATED ARMS FUND
Institutional Shares
PROSPECTUS
OCTOBER 31, 1998
A Diversified Portfolio of Federated ARMs Fund, an Open-End Management
Investment Company
FEDERATED ARMS FUND
INSTITUTIONAL SHARES
Federated Investors Funds
5800 Corporate Drive
Pittsburgh, PA 15237-7000
DISTRIBUTOR
Federated Securities Corp.
Federated Investors Tower
1001 Liberty Avenue
Pittsburgh, PA 15222-3779
INVESTMENT ADVISER
Federated Management
Federated Investors Tower
Pittsburgh, PA 15222-3779
CUSTODIAN
State Street Bank and
Trust Company
P.O. Box 8600
Boston, MA 02266-8600
TRANSFER AGENT AND
DIVIDEND DISBURSING AGENT
Federated Shareholder
Services Company
P.O. Box 8600
Boston, MA 02266-8600
INDEPENDENT AUDITORS
Ernst & Young LLP
One Oxford Centre
Pittsburgh, PA 15219
Federated Securities Corp., Distributor
1-800-341-7400
www.federatedinvestors.com
Cusip 314082108
8100309A-IS (10/98)
[GRAPHIC]
FEDERATED ARMS FUND
Institutional Service Shares
PROSPECTUS
The Institutional Service Shares offered by this prospectus represent interests
in a diversified portfolio of securities of Federated ARMs Fund (the "Trust").
The Trust is an open-end management investment company (a mutual fund).
The investment objective of the Trust is to provide current income consistent
with minimal volatility of principal. The Trust concentrates at least 65% of the
value of its total assets in adjustable and floating rate mortgage securities
("ARMs") which are issued or guaranteed as to payment of principal and interest
by the U.S. government, its agencies or instrumentalities.
THE SHARES OFFERED BY THIS PROSPECTUS ARE NOT DEPOSITS OR OBLIGATIONS OF ANY
BANK, ARE NOT ENDORSED OR GUARANTEED BY ANY BANK, AND ARE NOT INSURED BY THE
FEDERAL DEPOSIT INSURANCE CORPORATION, THE FEDERAL RESERVE BOARD, OR ANY OTHER
GOVERNMENT AGENCY. INVESTMENT IN THESE SHARES INVOLVES INVESTMENT RISKS,
INCLUDING THE POSSIBLE LOSS OF PRINCIPAL.
This prospectus contains the information you should read and know before you
invest in Institutional Service Shares of the Trust. Keep this prospectus for
future reference.
The Trust has also filed a Statement of Additional Information for Institutional
Shares and Institutional Service Shares dated October 31, 1998, with the
Securities and Exchange Commission ("SEC"). The information contained in the
Statement of Additional Information is incorporated by reference into this
prospectus. You may request a copy of the Statement of Additional Information or
a paper copy of this prospectus if you have received your prospectus
electronically, free of charge, by calling 1-800- 341-7400. To obtain other
information or to make inquiries about the Trust, contact the Trust at the
address listed in the back of this prospectus. The Statement of Additional
Information, material incorporated by reference into this document, and other
information regarding the Trust are maintained electronically with the SEC at
Internet Web site (http://www.sec.gov).
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION NOR HAS THE SECURITIES AND EXCHANGE COMMISSION PASSED
UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE
CONTRARY IS A CRIMINAL OFFENSE.
Prospectus dated October 31, 1998
TABLE OF CONTENTS
Summary of Trust Expenses 1
Financial Highlights-Institutional Service Shares 2
General Information 3
Year 2000 Statement 3
Investment Information 3
Investment Objective 3
Investment Policies 3
Investment Limitations 6
Trust Information 7
Management of the Trust 7
Distribution of Institutional Service Shares 8
Administration of the Trust 9
Net Asset Value 9
Investing in Institutional Service Shares 9
Share Purchases 9
Exchange Privilege 9
Minimum Investment Required 10
What Shares Cost 10
Confirmations and Account Statements 10
Dividends 10
Capital Gains 10
Redeeming Institutional Service Shares 10
Telephone Redemption 10
Written Requests 10
Accounts with Low Balances 11
Shareholder Information 11
Voting Rights 11
Tax Information 11
Federal Income Tax 11
State and Local Taxes 11
Performance Information 12
Other Classes of Shares 12
Financial Highlights-Institutional Shares 13
Financial Statements 14
Report of Ernst & Young LLP, Independent Auditors 23
SUMMARY OF TRUST EXPENSES
<TABLE>
<CAPTION>
INSTITUTIONAL SERVICE SHARES
SHAREHOLDER TRANSACTION EXPENSES
<S> <C>
Maximum Sales Charge Imposed on Purchases (as a percentage of offering price) None
Maximum Sales Charge Imposed on Reinvested Dividends (as a percentage of
offering price) None
Contingent Deferred Sales Charge (as a percentage of original purchase price or
redemption proceeds, as applicable) None
Redemption Fee (as a percentage of amount redeemed, if applicable) None
Exchange Fee None
<CAPTION>
ANNUAL OPERATING EXPENSES
(As a percentage of average net assets)
<S> <C> <C>
Management Fee (after waiver)(1) 0.41%
12b-1 Fee (after waiver)(2) 0.00%
Total Other Expenses 0.39%
Shareholder Services Fee 0.25%
Total Operating Expenses(3) 0.80%
</TABLE>
(1) The management fee has been reduced to reflect the voluntary waiver of a
portion of the management fee. The adviser can terminate this voluntary waiver
at any time at its sole discretion. The maximum management fee is 0.60%.
(2) The 12b-1 fee has been reduced to reflect the voluntary waiver of the 12b-
1 fee. The distributor can terminate this voluntary waiver at any time at its
sole discretion. The maximum 12b-1 fee is 0.25%.
(3)The total operating expenses would have been 1.24% absent the voluntary
waivers of a portion of the management fee and the 12b-1 fee.
The purpose of this table is to assist an investor in understanding the various
costs and expenses that a shareholder of Institutional Service Shares of the
Trust will bear, either directly or indirectly. For more complete descriptions
of the various costs and expenses, see "Investing in Institutional Service
Shares" and "Trust Information." Wire-transferred redemptions of less than
$5,000 may be subject to additional fees.
EXAMPLE
You would pay the following expenses on a $1,000 investment,
assuming (1) 5% annual return and (2) redemption at the end of each
time period.
1 Year $8
3 Years $26
5 Years $44
10 Years $99
THE ABOVE EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTATION OF PAST OR FUTURE
EXPENSES. ACTUAL EXPENSES MAY BE GREATER OR LESS THAN THOSE SHOWN.
FINANCIAL HIGHLIGHTS--INSTITUTIONAL SERVICE SHARES
FEDERATED ARMS FUND
(FOR A SHARE OUTSTANDING THROUGHOUT EACH PERIOD)
Reference is made to the Report of Ernst & Young LLP, Independent Auditors, on
page 23.
<TABLE>
<CAPTION>
YEAR ENDED AUGUST 31,
1998 1997 1996 1995 1994 1993 1992(A)
<S> <C> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD $ 9.74 $ 9.64 $ 9.65 $ 9.63 $ 9.98 $10.01 $ 9.98
INCOME FROM INVESTMENT OPERATIONS
Net investment income 0.53 0.56 0.55 0.54 0.42 0.48 0.18
Net realized and unrealized gain (loss) on investments (0.07) 0.10 (0.01) 0.02 (0.35) (0.03) 0.03
Total from investment operations 0.46 0.66 0.54 0.56 0.07 0.45 0.21
LESS DISTRIBUTIONS
Distributions from net investment income (0.53) (0.56) (0.55) (0.54) (0.42) (0.48) (0.18)
NET ASSET VALUE, END OF PERIOD $ 9.67 $ 9.74 $ 9.64 $ 9.65 $ 9.63 $ 9.98 $10.01
TOTAL RETURN(B) 4.87% 7.05% 5.75% 5.94% 0.74% 4.56% 2.11%
RATIOS TO AVERAGE NET ASSETS
Expenses 0.80% 0.80% 0.80% 0.80% 0.80% 0.76% 0.76%*
Net investment income 5.55% 5.78% 5.69% 5.44% 4.26% 4.72% 5.46%*
Expense waiver/reimbursement(c) 0.44% 0.44% 0.44% 0.43% 0.23% 0.21% 0.32%*
SUPPLEMENTAL DATA
Net assets, end of period (000 omitted) $48,685 $87,322 $109,536 $135,689 $255,891 $499,418 $113,095
Portfolio turnover 56% 84% 134% 124% 65% 36% 38%
</TABLE>
* Computed on an annualized basis.
(a) Reflects operations for the period from May 4, 1992 (date of initial public
investment) to August 31, 1992.
(b) Based on net asset value, which does not reflect the sales charge or
contingent deferred sales charge, if applicable.
(c) This voluntary expense decrease is reflected in both the expense and net
investment income ratios shown above.
(See Notes which are an integral part of the Financial Statements)
GENERAL INFORMATION
The Trust was established as a Massachusetts business trust under a Declaration
of Trust dated May 24, 1985. The Declaration of Trust permits the Trust to offer
separate series of shares of beneficial interest representing interests in
separate portfolios of securities. The shares in any one portfolio may be
offered in separate classes. As of the date of this prospectus, the Board of
Trustees (the "Trustees") has established two classes of shares, Institutional
Service Shares and Institutional Shares. This prospectus relates only to
Institutional Service Shares (the "Shares") of the Trust.
Shares of the Trust are designed to give banks and other institutions that hold
assets in an agency capacity and rely upon the distribution services provided by
the distributor for the marketing of these Shares, as well as to retail
customers of such institutions, a convenient means of accumulating an interest
in a professionally managed, diversified portfolio which invests at least 65% of
the value of its total assets in U.S. government securities, all of which
government securities will be adjustable and floating rate mortgage securities
which are issued or guaranteed as to payment of principal and interest by the
U.S. government, its agencies or instrumentalities. In addition, the Trust is
designed to provide an appropriate investment for particular financial
institutions which are subject to government agency regulations, including
credit unions, savings associations, and national banks. A minimum initial
investment of $25,000 over a 90-day period is required.
Shares are currently sold and redeemed at net asset value without a sales charge
imposed by the Trust.
YEAR 2000 STATEMENT
Like other mutual Trusts and business organizations worldwide, the Trust's
service providers (among them, the adviser, distributor, administrator and
transfer agent) must ensure that their computer systems are adjusted to properly
process and calculate date-related information from and after January 1, 2000.
Many software programs and, to a lesser extent, the computer hardware in use
today cannot distinguish the year 2000 from the year 1900. Such a design flaw
could have a negative impact in the handling of securities trades, pricing and
accounting services. The Trust and its service providers are actively working on
necessary changes to computer systems to deal with the year 2000 issue and
believe that systems will be year 2000 compliant when required. Analysis
continues regarding the financial impact of instituting a year 2000 compliant
program on the Trust's operations.
INVESTMENT INFORMATION
INVESTMENT OBJECTIVE
The investment objective of the Trust is to provide current income consistent
with minimal volatility of principal. Current income includes, in general,
discount earned on U.S. Treasury bills and agency discount notes, interest
earned on mortgage- related securities and other U.S. government securities, and
short-term capital gains. The investment objective cannot be changed without
approval of shareholders. The Trust anticipates that it will experience minimal
volatility of principal due to the frequent adjustments to interest rates on
adjustable and floating rate mortgage securities which comprise the portfolio.
Of course, there can be no assurance that the Trust will be able to maintain
minimal volatility of principal or that it will achieve its investment
objective. The Trust endeavors to achieve its investment objective, however, by
following the investment policies described in this prospectus.
INVESTMENT POLICIES
Except as otherwise noted, the investment policies described below may not be
changed by the Trustees without shareholder approval.
The Trust will limit its investments to those that are permitted for purchase by
federal savings associations pursuant to applicable rules, regulations, or
interpretations of the Office of Thrift Supervision and by federal credit unions
under the Federal Credit Union Act and the rules, regulations, and
interpretations of the National Credit Union Administration (the "NCUA"). Should
additional permitted investments be allowed as a result of future changes in
applicable regulations or federal laws, the Trust reserves the right, without
shareholder approval, to make such investments consistent with the Trust's
investment objective, policies, and limitations. Further, should existing
statutes or regulations change so as to cause any securities held by the Trust
to become ineligible for purchase by federal savings associations or federal
credit unions, the Trust will dispose of those securities at times advantageous
to the Trust.
As operated within the above limitations, and pursuant to the Trust's investment
policy, which may be changed without shareholder approval, to limit its
investments to securities that are appropriate direct investments for national
banks, the Trust will also serve as an appropriate vehicle for a national bank
as an investment for its own account.
ACCEPTABLE INVESTMENTS
The Trust pursues its investment objective by investing at least 65% of the
value of its total assets in a professionally managed portfolio of U.S.
government securities. As a matter of investment policy, which may be changed
without shareholder approval, all of these U.S. government securities will be
adjustable and floating rate mortgage securities which are issued or guaranteed
as to payment of principal and interest by the U.S. government, its agencies, or
instrumentalities.
The types of mortgage securities in which the Trust may invest include the
following:
* adjustable rate mortgage securities;
* collateralized mortgage obligations;
* real estate mortgage investment conduits; and
*other securities collateralized by or representing interests in real estate
mortgages whose interest rates reset at periodic intervals and are issued or
guaranteed by the U.S. government, its agencies, or instrumentalities.
In addition to the securities described above, the Trust may also invest in
direct obligations of the U.S. Treasury, such as U.S. Treasury bills, notes, and
bonds, as well as obligations of U.S. government agencies or instrumentalities
which are not collateralized by or represent interests in real estate mortgages,
as described above.
The Trust may also invest in mortgage-related securities, as defined in Section
3(a)(41) of the Securities Exchange Act of 1934, which are issued by private
entities such as investment banking firms and companies related to the
construction industry. The privately issued mortgage related securities in which
the Trust may invest include:
* privately issued securities which are collateralized by pools of mortgages
in which each mortgage is guaranteed as to payment of principal and interest
by an agency or instrumentality of the U.S. government;
* privately issued securities which are collateralized by pools of mortgages
in which payment of principal and interest are guaranteed by the issuer and
such guarantee is collateralized by U.S. government securities; and
*other privately issued securities in which the proceeds of the issuance are
invested in mortgage-backed securities and payment of the principal and
interest are supported by the credit of any agency or instrumentality of the
U.S. government.
The privately issued mortgage-related securities provide for a periodic payment
consisting of both interest and principal. The interest portion of these
payments will be distributed by the Trust as income, and the capital portion
will be reinvested.
The prices of fixed income securities fluctuate inversely to the direction of
interest rates.
ADJUSTABLE RATE MORTGAGE SECURITIES ("ARMS")
ARMs are pass-through mortgage securities with adjustable rather than fixed
interest rates. The ARMs in which the Trust invests are issued by Government
National Mortgage Association ("GNMA"), Federal National Mortgage Association
("FNMA"), and Federal Home Loan Mortgage Corporation ("FHLMC") and are actively
traded. The underlying mortgages which collateralize ARMs issued by GNMA are
fully guaranteed by the Federal Housing Administration ("FHS") or Veterans
Administration ("VA"), while those collateralizing ARMs issued by FHLMC or FNMA
are typically conventional residential mortgages conforming to strict
underwriting size and maturity constraints.
Unlike conventional bonds, ARMs pay back principal over the life of the ARM
rather than at maturity. Thus, a holder of the ARM, such as the Trust, would
receive monthly scheduled payments of principal and interest and may receive
unscheduled principal payments representing payments on the underlying
mortgages. At the time that a holder of the ARM reinvests the payments and any
unscheduled prepayments of principal that it receives, the holder may receive a
rate of interest which is actually lower than the rate of interest paid on the
existing ARM. As a consequence, ARMs may be a less effective means of "locking
in" long-term interest rates than other types of U.S. government securities.
Not unlike other U.S. government securities, the market value of ARMs will
generally vary inversely with changes in market interest rates. Thus, the market
value of ARMs generally declines when interest rates rise and generally rises
when interest rates decline.
While ARMs generally entail less risk of a decline during periods of rapidly
rising rates, ARMs may also have less potential for capital appreciation than
other similar investments (e.g., investments with comparable maturities)
because, as interest rates decline, the likelihood increases that mortgages will
be prepaid. Furthermore, if ARMs are purchased at a premium, mortgage
foreclosures and unscheduled principal payments may result in some loss of a
holder's principal investment to the extent of the premium paid. Conversely, if
ARMs are purchased at a discount, both a scheduled payment of principal and an
unscheduled prepayment of principal would increase current and total returns and
would accelerate the recognition of income, which would be taxed as ordinary
income when distributed to shareholders.
COLLATERALIZED MORTGAGE OBLIGATIONS ("CMOS")
CMOs are bonds issued by single-purpose, stand-alone finance subsidiaries or
trusts of financial institutions, government agencies, investment bankers, or
companies related to the construction industry. CMOs purchased by the Trust may
be:
* collateralized by pools of mortgages in which each mortgage is guaranteed
as to payment of principal and interest by an agency or instrumentality of
the U.S. government;
* collateralized by pools of mortgages in which payment of principal and
interest is guaranteed by the issuer and such guarantee is collateralized by
U.S. government securities; or
* securities in which the proceeds of the issuance are invested in mortgage
securities and payment of the principal and interest are supported by the
credit of an agency or instrumentality of the U.S. government.
The Trust will only purchase CMOs which are investment grade, as rated by a
nationally recognized statistical rating organization.
REAL ESTATE MORTGAGE INVESTMENT CONDUITS ("REMICS")
REMICs are offerings of multiple class real estate mortgage-backed securities
which qualify and elect treatment as such under provisions of the Internal
Revenue Code. Issuers of REMICs may take several forms, such as trusts,
partnerships, corporations, associations, or a segregated pool of mortgages.
Once REMIC status is elected and obtained, the entity is not subject to federal
income taxation. Instead, income is passed through the entity and is taxed to
the person or persons who hold interests in the REMIC. A REMIC interest must
consist of one or more classes of "regular interests," some of which may offer
adjustable rates (the type in which the Trust primarily invests), and a single
class of "residual interests." To qualify as a REMIC, substantially all of the
assets of the entity must be in assets directly or indirectly secured
principally by real property.
REGULATORY COMPLIANCE
In accordance with the Rules and Regulations of the NCUA, unless the purchase is
made solely to reduce interest-rate risk, the Trust will not invest in any CMO
or REMIC security that meets any of the following three tests: (1) the CMO or
REMIC has an expected average life greater than 10 years; (2) the average life
of the CMO or REMIC extends by more than four years assuming an immediate and
sustained parallel shift in the yield curve of plus 300 basis points, or
shortens by more than six years assuming an immediate and sustained parallel
shift in the yield curve of minus 300 basis points; or (3) the estimated change
in the price of the CMO or REMIC is more than 17%, due to an immediate and
sustained parallel shift in the yield curve of plus or minus 300 basis points.
Neither test (1) nor (2) above apply to floating or adjustable rate CMOs or
REMICs with all of the following characteristics: (a) the interest rate of the
instrument is reset at least annually; (b) the interest rate is below the
contractual cap of the instrument; (c) the instrument is tied to a widely-used
market rate; and (d) the instrument varies directly (not inversely) and is reset
in proportion with the index's changes.
The Trust may not purchase a residual interest in a CMO or REMIC. In addition,
the Trust will not purchase zero coupon securities with maturities greater than
10 years.
RESETS
The interest rates paid on the ARMs, CMOs, and REMICs in which the Trust invests
generally are readjusted or reset at intervals of one year or less to an
increment over some predetermined interest rate index. There are two main
categories of indices: those based on U.S. Treasury securities and those derived
from a calculated measure, such as a cost of funds index or a moving average of
mortgage rates. Commonly utilized indices include the one-year and five-year
constant maturity Treasury note rates, the three-month Treasury bill rate, the
180-day Treasury bill rate, rates on longer-term Treasury securities, the
National Median Cost of Funds, the one-month or three-month London Interbank
Offered Rate (LIBOR), the prime rate of a specific bank, or commercial paper
rates. Some indices, such as the one-year constant maturity Treasury note rate,
closely mirror changes in market interest rate levels. Others tend to lag
changes in market rate levels and tend to be somewhat less volatile.
CAPS AND FLOORS
The underlying mortgages which collateralize the ARMs, CMOs, and REMICs in which
the Trust invests will frequently have caps and floors which limit the maximum
amount by which the loan rate to the residential borrower may change up or down:
(1) per reset or adjustment interval and (2) over the life of the loan. Some
residential mortgage loans restrict periodic adjustments by limiting changes in
the borrower's monthly principal and interest payments rather than limiting
interest rate changes. These payment caps may result in negative amortization.
The value of mortgage securities in which the Trust invests may be affected if
market interest rates rise or fall faster and farther than the allowable caps or
floors on the underlying residential mortgage loans. An example of the effect of
caps and floors on a residential mortgage loan may be found in the Statement of
Additional Information. Additionally, even though the interest rates on the
underlying residential mortgages are adjustable, amortization and prepayments
may occur, thereby causing the effective maturities of the mortgage securities
in which the Trust invests to be shorter than the maturities stated in the
underlying mortgages.
TEMPORARY INVESTMENTS
For defensive purposes only, the Trust may also invest temporarily in cash and
money market instruments during times of unusual market conditions and to
maintain liquidity. Money market instruments may include obligations such as:
* obligations of the U.S. government or its agencies or instrumentalities;
and
* repurchase agreements.
REPURCHASE AGREEMENTS
Repurchase agreements are arrangements in which banks, broker/dealers, and other
recognized financial institutions sell U.S. government securities or other
securities to the Trust and agree at the time of sale to repurchase them at a
mutually agreed upon time and price within one year from the date of
acquisition. To the extent that the original seller does not repurchase the
securities from the Trust, the Trust could receive less than the repurchase
price on any sale of such securities.
LENDING OF PORTFOLIO SECURITIES
In order to generate additional income, the Trust may lend portfolio securities
on a short-term or a long-term basis up to one-third of the value of its total
assets to broker/dealers, banks, or other institutional borrowers of securities.
The Trust will only enter into loan arrangements with broker/dealers, banks, or
other institutions which the investment adviser has determined are creditworthy
under guidelines established by the Trust's Board of Trustees and will receive
collateral in the form of cash or U.S. government securities equal to at least
100% of the value of the securities loaned.
There is the risk that when lending portfolio securities, the securities may not
be available to the Trust on a timely basis and the Trust may, therefore, lose
the opportunity to sell the securities at a desirable price. In addition, in the
event that a borrower of securities would file for bankruptcy or become
insolvent, disposition of the securities may be delayed pending court action.
WHEN-ISSUED AND DELAYED DELIVERY TRANSACTIONS
The Trust may purchase securities on a when-issued or delayed delivery basis.
These transactions are arrangements in which the Trust purchases securities with
payment and delivery scheduled for a future time. The seller's failure to
complete these transactions may cause the Trust to miss a price or yield
considered to be advantageous. Settlement dates may be a month or more after
entering into these transactions, and the market values of the securities
purchased may vary from the purchase prices. Accordingly, the Trust may pay
more/less than the market value of the securities on the settlement date.
The Trust may dispose of a commitment prior to settlement if the adviser deems
it appropriate to do so. In addition, the Trust may enter into transactions to
sell its purchase commitments to third parties at current market values and
simultaneously acquire other commitments to purchase similar securities at later
dates. The Trust may realize short-term profits or losses upon the sale of such
commitments.
PORTFOLIO TURNOVER
The Trust does not intend to invest for the purpose of seeking short-term
profits, however securities in its portfolio will be sold whenever the Trust's
investment adviser believes it is appropriate to do so in light of the Trust's
investment objective, without regard to the length of time a particular security
may have been held.
INVESTMENT LIMITATIONS
The Trust will not:
*invest in stripped mortgage securities, including securities which represent a
share of only the interest payments or only the principal payments from
underlying mortgage related securities;
*borrow money directly or through reverse repurchase agreements (arrangements
in which the Trust sells a portfolio instrument for a percentage of its cash
value with an agreement to buy it back on a set date) or pledge securities
except, under certain circumstances, the Trust may borrow up to one-third of
the value of its net assets and pledge up to 10% of the value of its total
assets to secure such borrowings; or
*invest more than 5% of the value of its total assets in securities of issuers
which have records of less than three years of continuous operations, including
the operation of any predecessor. With respect to the asset- backed securities,
the Trust will treat the originator of the asset pool as the company issuing
the securities for purposes of determining compliance with this limitation.
The above investment limitations cannot be changed without shareholder approval.
The following limitation, however, may be changed by the Trustees without
shareholder approval. Shareholders will be notified before any material change
in this limitation becomes effective.
The Trust will not:
*invest more than 15% of its net assets in securities which are illiquid,
including repurchase agreements providing for settlement in more than seven
days after notice.
TRUST INFORMATION
MANAGEMENT OF THE TRUST
BOARD OF TRUSTEES
The Trust is managed by a Board of Trustees. The Trustees are responsible for
managing the Trust's business affairs and for exercising all the Trust's powers
except those reserved for the shareholders. The Executive Committee of the Board
of Trustees handles the Board's responsibilities between meetings of the Board.
INVESTMENT ADVISER
Investment decisions for the Trust are made by Federated Management, the Trust's
investment adviser (the "Adviser"), subject to direction by the Trustees. The
Adviser continually conducts investment research and supervision for the Trust
and is responsible for the purchase or sale of portfolio instruments, for which
it receives an annual fee from the Trust.
ADVISORY FEES
The Adviser receives an annual investment advisory fee equal to 0.60% of the
Trust's average daily net assets. The Adviser may voluntarily choose to waive a
portion of its fee or reimburse the Trust for certain operating expenses. This
does not include reimbursement to the Trust of any expenses incurred by
shareholders who use the transfer agent's subaccounting facilities. The Adviser
can terminate this voluntary waiver of its advisory fee at any time in its sole
discretion.
ADVISER'S BACKGROUND
Federated Management, a Delaware business trust organized on April 11, 1989, is
a registered investment adviser under the Investment Advisers Act of 1940. It is
a subsidiary of Federated Investors, Inc. All of the Class A (voting) shares of
Federated Investors, Inc., are owned by a trust, the trustees of which are John
F. Donahue, Chairman and Director of Federated Investors, Inc., Mr. Donahue's
wife, and Mr. Donahue's son, J. Christopher Donahue, who is President and
Director of Federated Investors, Inc.
Federated Management and other subsidiaries of Federated Investors, Inc., serve
as investment advisers to a number of investment companies and private accounts.
Certain other subsidiaries also provide administrative services to a number of
investment companies. With over $120 billion invested across more than 300 funds
under management and/or administration by its subsidiaries, as of December 31,
1997, Federated Investors, Inc., is one of the largest mutual fund investment
managers in the United States. With more than 2,000 employees, Federated
continues to be led by the management who founded the company in 1955. Federated
funds are presently at work in approximately 4,000 financial institutions
nationwide.
Both the Trust and the Adviser have adopted strict codes of ethics governing the
conduct of all employees who manage the Trust and its portfolio securities.
These codes recognize that such persons owe a fiduciary duty to the Trust's
shareholders and must place the interests of shareholders ahead of the
employees' own interest. Among other things, the codes: require preclearance and
periodic reporting of personal securities transactions; prohibit personal
transactions in securities being purchased or sold, or being considered for
purchase or sale, by the Trust; prohibit purchasing securities in initial public
offerings; and prohibit taking profits on securities held for less than 60 days.
Violations of the codes are subject to review by the Board of Trustees, and
could result in severe penalties.
Todd A. Abraham, Kathleen M. Foody-Malus, and Robert E. Cauley are the
Trust's portfolio managers. Mr. Abraham has been a portfolio manager of the
Trust since August 1995. Mr. Abraham joined Federated Investors, Inc. or its
predecessor in 1993 as an Investment Analyst and has been a Vice President of
the Trust's Adviser since 1997. Mr Abraham served as an Assistant Vice
President of the Adviser from 1995 until 1997. Mr. Abraham served as a
Portfolio Analyst at Ryland Mortgage Company from 1992 to 1993 and as a Bond
Administrator at Ryland Asset Management Company from 1990 to 1992.
Mr. Abraham is a Chartered Financial Analyst and received his M.B.A. in
Finance from Loyola College.
Ms. Foody-Malus has been a portfolio manager of the Trust since January 1992.
Ms. Foody-Malus joined Federated Investors, Inc. or its predecessor in 1983
and has been a Vice President of the Trust's Adviser since 1993. Ms. Foody-
Malus served as an Assistant Vice President of the Adviser from 1990 until
1992. Ms. Foody-Malus received her M.B.A. in Accounting/Finance from the
University of Pittsburgh.
Robert E. Cauley has been a portfolio manager of the Trust since
October 1997. Mr. Cauley joined Federated Investors, Inc. or its predecessor
in 1996 as an Assistant Vice President of the Trust's Adviser. Mr. Cauley
served as an Associate in the Asset-Backed Securities Group at Lehman
Brothers Holding, Inc. from 1994 to 1996. From 1992 to 1994, Mr. Cauley
served as a Senior Associate/Corporate Finance at Barclays Bank, PLC.
Mr. Cauley earned his M.S.I.A., concentrating in Finance and Economics, from
Carnegie Mellon University.
DISTRIBUTION OF INSTITUTIONAL SERVICE SHARES
Federated Securities Corp. is the principal distributor for Shares of the
Trust. It is a Pennsylvania corporation organized on November 14, 1969, and
is the principal distributor for a number of investment companies. Federated
Securities Corp. is a subsidiary of Federated Investors, Inc.
DISTRIBUTION PLAN AND SHAREHOLDER SERVICES
Under a distribution plan adopted in accordance with Rule 12b-1 under the
Investment Company Act of 1940 (the "Plan"), the distributor may be paid a fee
by the Trust in an amount computed at an annual rate of up to 0.25% of the
average daily net asset value of the Shares. The distributor may select
financial institutions such as banks, fiduciaries, custodians for public funds,
investment advisers, and broker/dealers to provide sales services or
distribution-related support services as agents for their clients or customers.
The Plan is a compensation-type plan. As such, the Trust makes no payments to
the distributor except as described above. Therefore, the Trust does not pay for
unreimbursed expenses of the distributor, including amounts expended by the
distributor in excess of amounts received by it from the Trust, interest,
carrying, or other financing charges in connection with excess amounts expended,
or the distributor's overhead expenses. However, the distributor may be able to
recover such amounts or may earn a profit from future payments made by the Trust
under the Plan.
In addition, the Trust has entered into a Shareholder Services Agreement with
Federated Shareholder Services, a subsidiary of Federated Investors, Inc. under
which the Trust may make payments up to 0.25% of the average daily net asset
value of its shares to obtain certain personal services for shareholders and to
maintain shareholder accounts. From time to time and for such periods as deemed
appropriate, the amount stated above may be reduced voluntarily.
Under the Shareholder Services Agreement, Federated Shareholder Services will
either perform shareholder services directly or will select financial
institutions to perform shareholder services. Financial institutions will
receive fees based upon shares owned by their clients or customers. The
schedules of such fees and the basis upon which fees will be paid will be
determined from time to time by the Trust and Federated Shareholder Services.
SUPPLEMENTAL PAYMENTS TO FINANCIAL INSTITUTIONS
In addition to payments made pursuant to the Distribution Plan and Shareholder
Services Agreement, Federated Securities Corp. and Federated Shareholder
Services, from their own assets, may pay financial institutions supplemental
fees for the performance of substantial sales services, distribution-related
support services, or shareholder services. The support may include sponsoring
sales, educational and training seminars for their employees, providing sales
literature, and engineering computer software programs that emphasize the
attributes of the Trust. Such assistance will be predicated upon the amount of
shares the financial institution sells or may sell, and/or upon the type and
nature of sales or marketing support furnished by the financial institution. Any
payments made by the distributor may be reimbursed by the Trust's Adviser or its
affiliates.
ADMINISTRATION OF THE TRUST
ADMINISTRATIVE SERVICES
Federated Services Company, a subsidiary of Federated Investors, Inc., provides
administrative personnel and services (including certain legal and financial
reporting services) necessary to operate the Trust. Federated Services Company
provides these at an annual rate which relates to the average aggregate daily
net assets of all funds advised by subsidiaries of Federated Investors, Inc.
("Federated Funds") as specified below:
MAXIMUM AVERAGE AGGREGATE
FEE DAILY NET ASSETS
0.150% on the first $250 million
0.125% on the next $250 million
0.100% on the next $250 million
0.075% on assets in excess of $750 million
The administrative fee received during any fiscal year shall be at least
$125,000 per portfolio and $30,000 per each additional class of shares.
Federated Services Company may choose voluntarily to waive a portion of its fee.
NET ASSET VALUE
The Trust's net asset value per share fluctuates. The net asset value for Shares
is determined by adding the interest of the Shares in the market value of all
securities and other assets of the Trust, subtracting the interest of the Shares
in the liabilities of the Trust and those attributable to Shares, and dividing
the remainder by the total number of Shares outstanding. The net asset value for
Institutional Shares will exceed that of Shares due to the variance in daily net
income realized by each class as a result of different distribution charges
incurred by the classes. Such variance will reflect only accrued net income to
which the shareholders of a particular class are entitled.
INVESTING IN INSTITUTIONAL SERVICE SHARES
SHARE PURCHASES
Shares are sold on days on which the New York Stock Exchange is open. Shares may
be purchased either by wire or mail.
To purchase Shares of the Trust, open an account by calling Federated Securities
Corp. Information needed to establish the account will be taken over the
telephone. The Trust reserves the right to reject any purchase request.
BY WIRE
To purchase Shares by Federal Reserve wire, call the Trust before 4:00 p.m.
(Eastern time) to place an order. The order is considered received immediately.
Payment by federal funds must be received before 3:00 p.m. (Eastern time) on the
next business day following the order. Federal funds should be wired as follows:
Federated Shareholder Services Company, c/o State Street Bank and Trust Company,
Boston, Massachusetts; Attention: EDGEWIRE; For Credit to: Federated ARMs
Fund-Institutional Service Shares; Trust Number (this number can be found on the
account statement or by contacting the Trust); Group Number or Order Number;
Nominee or Institution Name; ABA Number 011000028. Shares cannot be purchased on
days on which the New York Stock Exchange is closed and on federal holidays
restricting wire transfers. Questions on wire purchases should be directed to
your shareholder services representative at the telephone number listed on your
account statement.
BY MAIL
To purchase Shares by mail, send a check made payable to Federated ARMs Fund-
Institutional Service Shares to: Federated Shareholder Services Company, P.O.
Box 8600, Boston, Massachusetts 02266-8600. Orders by mail are considered
received after payment by check is converted by the transfer agent's bank, State
Street Bank and Trust Company ("State Street Bank"), into federal funds. This is
normally the next business day after State Street Bank receives the check.
EXCHANGE PRIVILEGE
Financial institutions that maintain master accounts with an aggregate
investment of at least $400 million in Federated Funds may exchange their Shares
for Institutional Shares of the Trust.
MINIMUM INVESTMENT REQUIRED
The minimum initial investment in the Trust is $25,000 plus any non-affiliated
bank or broker's fee, if applicable. However, an account may be opened with a
smaller amount as long as the $25,000 minimum is reached within 90 days. An
institutional investor's minimum investment will be calculated by combining all
accounts it maintains with the Trust. Accounts established through a
non-affiliated bank or broker may be subject to a smaller minimum investment.
WHAT SHARES COST
Shares are sold at their net asset value next determined after an order is
received. There is no sales charge imposed by the Trust. Investors who purchase
Shares through a non-affiliated bank or broker may be charged an additional
service fee by that bank or broker.
The net asset value is determined as of the close of trading (normally 4:00
p.m., Eastern time) on the New York Stock Exchange, Monday through Friday,
except on: (i) days on which there are not sufficient changes in the value of
the Trust's portfolio securities that its net asset value might be materially
affected; (ii) days on which no Shares are tendered for redemption and no orders
to purchase Shares are received; and (iii) 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.
CONFIRMATIONS AND ACCOUNT STATEMENTS
Shareholders will receive detailed confirmations of transactions. In addition,
shareholders will receive periodic statements reporting all account activity,
including dividends paid. The Trust will not issue share certificates.
DIVIDENDS
Dividends are declared daily and paid monthly. Dividends are declared just prior
to determining net asset value. If an order for Shares is placed on the
preceding business day, Shares purchased by wire begin earning dividends on the
business day wire payment is received by State Street Bank. If the order for
Shares and payment by wire are received on the same day, Shares begin earning
dividends on the next business day. Shares purchased by check begin earning
dividends on the business day after the check is converted, upon instruction of
the transfer agent, into federal funds. Dividends are automatically reinvested
on payment dates in additional Shares unless cash payments are requested by
contacting the Trust.
CAPITAL GAINS
Capital gains realized by the Trust, if any, will be distributed at least once
every twelve months.
REDEEMING INSTITUTIONAL SERVICE SHARES
The Trust redeems Shares at their net asset value next determined after the
Trust receives the redemption request. Redemptions will be made on days on which
the Trust computes its net asset value. Redemption requests must be received in
proper form and can be made by telephone request or by written request.
TELEPHONE REDEMPTION
Shareholders may redeem their Shares by telephoning the Trust before 4:00 p.m.
(Eastern time). The proceeds will normally be wired the following business day,
but in no event longer than seven days later, to the shareholder's account at a
domestic commercial bank that is a member of the Federal Reserve System. If at
any time the Trust shall determine it necessary to terminate or modify this
method of redemption, shareholders would be promptly notified.
An authorization form permitting the Trust to accept telephone requests must
first be completed. Authorization forms and information on this service are
available from Federated Securities Corp. Telephone redemption instructions may
be recorded. If reasonable procedures are not followed by the Fund, it may be
liable for losses due to unauthorized or fraudulent telephone instructions.
In the event of drastic economic or market changes, the shareholders may
experience difficulty in redeeming by telephone. If such a case should occur,
another method of redemption, such as that discussed in "Written Requests,"
should be considered.
WRITTEN REQUESTS
Shares may be redeemed by sending a written request to Federated Shareholder
Services Company, P.O. Box 8600, Boston, Massachusetts 02266-8600. Call the
Trust for specific instructions before redeeming by letter. The shareholder will
be asked to provide in the request his name, the Trust name, the class of
shares, his account number, and the share or dollar amount requested. If Share
certificates have been issued, they should be sent unendorsed with the written
request by registered or certified mail to the address above noted.
SIGNATURES
Shareholders requesting a redemption of any amount to be sent to an address
other than that on record with the Trust, or a redemption payable other than to
the shareholder of record must have their signatures guaranteed by:
*a trust company or commercial bank whose deposits are insured by the Bank
Insurance Fund ("BIF"), which is administered by the Federal Deposit Insurance
Corporation ("FDIC");
* a member of the New York, American, Boston, Midwest, or Pacific Stock
Exchanges;
*a savings bank or savings association whose deposits are insured by the
Savings Association Insurance Fund ("SAIF"), which is administered by the FDIC;
or
*any other "eligible guarantor institution," as defined in the Securities
Exchange Act of 1934.
The Trust does not accept signatures guaranteed by a notary public.
The Trust and its transfer agent have adopted standards for accepting signature
guarantees from the above institutions. The Trust and its transfer agent reserve
the right to amend these standards at any time without notice.
RECEIVING PAYMENT
Normally, a check for the proceeds is mailed within one business day, but in no
event more than seven days, after receipt of a proper written redemption
request.
ACCOUNTS WITH LOW BALANCES
Due to the high cost of maintaining accounts with low balances, the Trust may
redeem Shares in any account and pay the proceeds to the shareholder if the
account balance falls below a required minimum value of $25,000 due to
shareholder redemptions. This requirement does not apply, however, if the
balance falls below $25,000 because of changes in the Trust's net asset value.
Before Shares are redeemed to close an account, the shareholder is notified in
writing and allowed 30 days to purchase additional Shares to meet the minimum
requirement.
SHAREHOLDER INFORMATION
VOTING RIGHTS
Each Share of the Trust gives the shareholder one vote in Trustee elections and
other matters submitted to shareholders for vote. All shares of each portfolio
in the Trust have equal voting rights except that, in matters affecting only a
particular class, only shares of that particular class are entitled to vote.
As a Massachusetts business trust, the Trust is not required to hold annual
shareholder meetings. Shareholder approval will be sought only for certain
changes in the Trust's operation and for the election of Trustees under certain
circumstances.
Trustees may be removed by the Trustees or by shareholders at a special meeting.
A special meeting shall be called by the Trustees upon the written request of
shareholders owning at least 10% of the Trust's outstanding shares of all
portfolios entitled to vote.
TAX INFORMATION
FEDERAL INCOME TAX
The Trust will pay no federal income tax because the Trust expects to meet
requirements of the Internal Revenue Code, as amended, applicable to regulated
investment companies and to receive the special tax treatment afforded to such
companies.
The Trust will be treated as a single, separate entity for federal income tax
purposes so that income (including capital gains) and losses related by the
Trust's other portfolios, if any, will not be combined for tax purposes with
those realized by the Trust.
Unless otherwise exempt, shareholders are required to pay federal income tax on
any dividends and other distributions, including capital gains distributions,
received. This applies whether dividends and distributions are received in cash
or as additional Shares. Distributions representing long-term capital gains, if
any, will be taxable to shareholders as long-term capital gains no matter how
long the shareholders have held the Shares.
STATE AND LOCAL TAXES
Shareholders are urged to consult their own tax advisers regarding the status of
their accounts under state and local tax laws.
PERFORMANCE INFORMATION
From time to time, the Trust advertises its total return and yield for
Institutional Service Shares.
Total return represents the change, over a specified period of time, in the
value of an investment in Institutional Service Shares after reinvesting all
income and capital gain distributions. It is calculated by dividing that change
by the initial investment and is expressed as a percentage.
The yield of Institutional Service Shares is calculated by dividing the net
investment income per share (as defined by the SEC) earned by Institutional
Service Shares over a 30-day period by the offering price per share of
Institutional Service Shares on the last day of the period. This number is then
annualized using semi-annual compounding. The yield does not necessarily reflect
income actually earned by Institutional Service Shares and, therefore, may not
correlate to the dividends or other distributions paid to shareholders.
The Institutional Service Shares are sold without any sales charge or other
similar nonrecurring charges.
Total return and yield will be calculated separately for Institutional Service
Shares and Institutional Shares.
From time to time, advertisements for the Trust may refer to ratings, rankings,
and other information in certain financial publications and/or compare the
Trust's performance to certain indices.
OTHER CLASSES OF SHARES
The Trust also offers another class of shares called Institutional Shares.
Institutional Shares are sold primarily to accounts for which financial
institutions act in a fiduciary or agency capacity, and other accounts where a
financial institution maintains master accounts with an aggregate investment of
at least $400 million in certain mutual funds which are advised or distributed
by affiliates of Federated Investors, Inc. Shares are also made available to
financial intermediaries, public, and private organizations. A minimum initial
investment of $25,000 over a 90-day period is required. Institutional Shares are
sold at net asset value and are distributed without a Rule 12b-1 Plan.
Shares and Institutional Shares are subject to certain of the same expenses.
Expense differences between Shares and Institutional Shares may affect the
performance of each class.
To obtain more information and a prospectus for Institutional Shares, investors
may call 1-800-341-7400.
FINANCIAL HIGHLIGHTS--INSTITUTIONAL SHARES
FEDERATED ARMS FUND
(FOR A SHARE OUTSTANDING THROUGHOUT EACH PERIOD)
Reference is made to the Report of Ernst & Young LLP, Independent Auditors, on
page 23.
<TABLE>
<CAPTION>
YEAR ENDED AUGUST 31
1998 1997 1996 1995 1994 1993 1992 1991 1990 1989
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE,
BEGINNING OF PERIOD $ 9.74 $ 9.64 $ 9.65 $ 9.63 $ 9.98 $10.01 $ 9.67 $ 8.99 $ 9.47 $ 8.88
INCOME FROM
INVESTMENT OPERATIONS
Net investment income 0.56 0.59 0.58 0.56 0.45 0.50 0.63 0.69 0.71 0.72
Net realized and
unrealized gain (loss)
on investments (0.07) 0.10 (0.01) 0.02 (0.35) (0.03) 0.42 0.68 (0.48) 0.59
Total from invest
ment operations 0.49 0.69 0.57 0.58 0.10 0.47 1.05 1.37 0.23 1.31
LESS DISTRIBUTIONS
Distributions from
net investment income (0.56) (0.59) (0.58) (0.56) (0.45) (0.50) (0.63) (0.69) (0.71) (0.72)
Total distributions
from net realized gain
on investments -- -- -- -- -- -- (0.08) -- -- --
Total distributions (0.56) (0.59) (0.58) (0.56) (0.45) (0.50) (0.71) (0.69) (0.71) (0.72)
NET ASSET VALUE,
END OF PERIOD $ 9.67 $ 9.74 $ 9.64 $ 9.65 $ 9.63 $ 9.98 $10.01 $ 9.67 $ 8.99 $ 9.47
TOTAL RETURN(A) 5.13% 7.31% 6.02% 6.21% 0.99% 4.82% 11.21% 15.73% 2.45% 15.25%
RATIOS TO AVERAGE
NET ASSETS
Expenses 0.55% 0.55% 0.55% 0.55% 0.55% 0.51% 0.51% 0.78% 0.78% 0.79%
Net investment income 5.77% 6.03% 5.94% 5.74% 4.51% 4.97% 5.95% 7.36% 7.62% 7.81%
Expense waiver/
reimbursement(b) 0.44% 0.44% 0.44% 0.43% 0.14% 0.21% 0.32% 1.02% 1.02% 0.95%
SUPPLEMENTAL DATA
Net assets, end of
period (000 omitted) $420,988 $498,220 $653,313 $856,500 $1,238,813 $2,669,888 $1,090,944 $30,330 $26,261 $25,574
Portfolio turnover 56% 84% 134% 124% 65% 36% 38% 127% 170% 85%
</TABLE>
(a) Based on net asset value, which does not reflect the sales charge or
contingent deferred sales charge, if applicable.
(b) This voluntary expense decrease is reflected in both the expense and net
investment income ratios shown above.
(See Notes which are an integral part of the Financial Statements)
PORTFOLIO OF INVESTMENTS
FEDERATED ARMS FUND
AUGUST 31, 1998
<TABLE>
<CAPTION>
PRINCIPAL
AMOUNT VALUE
<C> <S> <C>
U.S.GOVERNMENT INSTRUMENTALITIES--98.0%
FEDERATED HOME LOAN MORTGAGE CORP. ARM--33.6%
$152,768,623 7.423% - 7.693%, 2/1/2019 - 7/1/2030 $157,988,520
FEDERATED HOME LOAN MORTGAGE CORP. REMIC--1.8%
8,330,728 Series 1544-E, 6.250%, 6/15/2008 8,371,881
FEDERATED HOME LOAN MORTGAGE CORP.--7.5%
18,519,901 7.000%, 4/1/2013 - 5/1/2013 18,936,598
15,820,000 6.500%, 9/1/2013 16,032,621
Total 34,969,219
FEDERATED NATIONAL MORTGAGE ASSOCIATION ARM--13.0%
59,971,420 6.132% - 7.578%, 9/1/2018 - 5/1/2036 60,940,863
FEDERATED NATIONAL MORTGAGE ASSOCIATION REMIC--5.6%
15,000,000 Series 98-36PA, 6.250%, 7/18/2013 15,233,787
11,138,000 Series 93-206E, 5.650%, 5/25/2017 11,158,271
Total 26,392,058
FEDERATED NATIONAL MORTGAGE ASSOCIATION--6.1%
27,304,778 6.500% - 12.000%, 3/1/2013 - 4/1/2018 28,583,413
GOVERNMENT NATIONAL MORTGAGE ASSOCIATION ARM--21.9%
51,186,904 7.000%, 8/20/2017 - 9/20/2024 52,205,507
31,144,354 6.875%, 3/20/2016 - 3/20/2023 31,814,671
4,788,874 6.000%, 10/20/2027 4,838,822
7,433,214 5.500%, 5/20/2028 7,472,461
7,000,000 5.000%, 8/20/2028 6,980,330
Total 103,311,791
GOVERNMENT NATIONAL MORTGAGE ASSOCIATION--8.5%
2,744,413 12.000%, 9/15/2013 - 1/15/2014 3,184,576
19,799,314 11.500%, 10/15/2010 - 4/15/2020 22,636,103
12,295,962 11.000%, 12/15/2009 - 7/15/2020 13,867,545
Total 39,688,224
TOTAL U.S.GOVERNMENT INSTRUMENTALITIES (IDENTIFIED COST
$458,727,258) 460,245,969
</TABLE>
FEDERATED ARMS FUND
<TABLE>
<CAPTION>
PRINCIPAL
AMOUNT VALUE
<C> <S> <C>
U.S.GOVERNMENT INSTRUMENTALITIES--CONTINUED
(A)REPURCHASE AGREEMENTS--5.8%
$ 11,390,000 BT Securities Corp., 5.800%, dated 8/31/1998, due 9/1/1998 $ 11,390,000
15,820,000 (b)Morgan Stanley Group, Inc., 5.530%, dated 8/12/1998,
due 9/17/1998 15,820,000
TOTAL REPURCHASE AGREEMENTS (AT AMORTIZED COST) 27,210,000
TOTAL INVESTMENTS (IDENTIFIED COST $485,937,258)(C) $487,455,969
</TABLE>
(a) The repurchase agreements are fully collateralized by U.S. Government
and/or agency obligations based on market prices at the date of the portfolio.
The investments in the repurchase agreement are through participation in joint
accounts with other Federated funds.
(b) Although final maturity falls beyond seven days, a liquidity feature is
included in each transaction to permit termination of the repurchase agreement
within seven days.
(c) The cost of investments for federal tax purposes amounts to $485,937,258.
The net unrealized appreciation of investments on a federal tax basis amounts to
$1,518,711 which is comprised of $2,611,043 appreciation and $1,092,332
depreciation at August 31, 1998.
Note: The categories of investments are shown as a percentage of net assets
($469,673,092) at August 31, 1998.
The following acronyms are used throughout this portfolio:
ARM--Adjustable Rate Mortgage
REMIC--Real Estate Mortgage Investment Conduit
(See Notes which are an integral part of the Financial Statements)
STATEMENT OF ASSETS AND LIABILITIES
FEDERATED ARMS FUND
AUGUST 31, 1998
<TABLE>
<CAPTION>
<S> <C> <C>
ASSETS:
Total investments in securities, at value
(identified and tax cost $485,937,258) $487,455,969
Cash 2,587
Income receivable 6,917,359
Receivable for shares sold 49,379
Total assets 494,425,294
LIABILITIES:
Payable for investments purchased $23,058,723
Payable for shares redeemed 125,813
Income distribution payable 1,484,509
Accrued expenses 83,157
Total liabilities 24,752,202
NET ASSETS for 48,583,956 shares outstanding $469,673,092
NET ASSETS CONSIST OF:
Paid in capital $547,860,049
Net unrealized appreciation of investments 1,518,711
Accumulated net realized loss on investments (79,755,456)
Undistributed net investment income 49,788
Total Net Assets $469,673,092
NET ASSET VALUE, OFFERING PRICE AND REDEMPTION PROCEEDS PER SHARE:
INSTITUTIONAL SHARES:
$420,988,205 / 43,547,672 shares outstanding $9.67
INSTITUTIONAL SERVICE SHARES:
$48,684,887 / 5,036,284 shares outstanding $9.67
</TABLE>
(See Notes which are an integral part of the Financial Statements)
STATEMENT OF OPERATIONS
FEDERATED ARMS FUND
YEAR ENDED AUGUST 31, 1998
<TABLE>
<S> <C> <C> <C>
INVESTMENT INCOME:
Interest $ 35,061,884
EXPENSES:
Investment advisory fee $ 3,325,847
Administrative personnel and services fee 418,154
Custodian fees 68,668
Transfer and dividend disbursing agent fees and expenses 57,421
Directors'/Trustees' fees 18,535
Auditing fees 19,728
Legal fees 5,932
Portfolio accounting fees 124,162
Distribution services feeInstitutional Service Shares 235,234
Shareholder services feeInstitutional Shares 1,150,547
Shareholder services feeInstitutional Service Shares 235,234
Share registration costs 27,375
Printing and postage 24,912
Insurance premiums 6,647
Taxes 4,367
Miscellaneous 9,315
Total expenses 5,732,078
Waivers
Waiver of investment advisory fee $(1,037,318) Waiver of distribution services
fee--Institutional Service Shares (232,412) Waiver of shareholder services
fee--Institutional Shares (1,150,547) Waiver of shareholder services
fee--Institutional Service Shares (2,823)
Total waivers (2,423,100)
Net expenses 3,308,978
Net investment income 31,752,906
REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS:
Net realized gain on investments 1,245,992
Net change in unrealized depreciation of investments (5,409,340)
Net realized and unrealized loss on investments (4,163,348)
Change in net assets resulting from operations $ 27,589,558
</TABLE>
(See Notes which are an integral part of the Financial Statements)
STATEMENT OF CHANGES IN NET ASSETS
FEDERATED ARMS FUND
<TABLE>
<CAPTION>
YEAR ENDED AUGUST 31,
1998 1997
<S> <C> <C>
INCREASE (DECREASE) IN NET ASSETS:
OPERATIONS
Net investment income $ 31,752,906 $ 39,745,870
Net realized gain on investments ($1,245,992 and $3,411,098,
respectively, as computed for federal tax purposes) 1,245,992 3,454,717
Net change in unrealized appreciation/depreciation (5,409,340) 3,918,165
Change in net assets resulting from operations 27,589,558 47,118,752
DISTRIBUTIONS TO SHAREHOLDERS
Distributions from net investment income
Institutional Shares (26,468,625) (34,210,612)
Institutional Service Shares (5,231,032) (5,578,429)
Change in net assets resulting from distributions to shareholders (31,699,657) (39,789,041)
SHARE TRANSACTIONS
Proceeds from sale of shares 85,623,659 56,479,068
Net asset value of shares issued to shareholders in payment of
distributions declared 9,463,263 9,827,175
Cost of shares redeemed (206,845,928) (250,943,388)
Change in net assets resulting from share transactions (111,759,006) (184,637,145)
Change in net assets (115,869,105) (177,307,434)
NET ASSETS:
Beginning of period 585,542,197 762,849,631
End of period (including undistributed net investment income of
$50,240 and $0, respectively) $ 469,673,092 $ 585,542,197
</TABLE>
(See Notes which are an integral part of the Financial Statements)
NOTES TO FINANCIAL STATEMENTS
FEDERATED ARMS FUND
AUGUST 31, 1998
ORGANIZATION
Federated ARMs Fund (the "Trust") is registered under the Investment Company Act
of 1940, as amended (the "Act"), as a diversified, open-end management
investment company. The Trust offers two classes of shares: Institutional Shares
and Institutional Service Shares. The investment objective of the Trust is to
provide current income consistent with minimal volatility of principal.
SIGNIFICANT ACCOUNTING POLICIES
The following is a summary of significant accounting policies consistently
followed by the Trust in the preparation of its financial statements. These
policies are in conformity with generally accepted accounting principles.
INVESTMENT VALUATIONS
U.S. government and agency securities are generally valued at the mean of the
latest bid and asked price as furnished by an independent pricing service.
Short-term securities are valued at the prices provided by an independent
pricing service. However, short-term securities with remaining maturities of
sixty days or less at the time of purchase may be valued at amortized cost,
which approximates fair market value.
REPURCHASE AGREEMENTS
It is the policy of the Trust to require the custodian bank to take possession,
to have legally segregated in the Federal Reserve Book Entry System, or to have
segregated within the custodian bank's vault, all securities held as collateral
under repurchase agreement transactions. Additionally, procedures have been
established by the Trust to monitor, on a daily basis, the market value of each
repurchase agreement's collateral to ensure that the value of collateral at
least equals the repurchase price to be paid under the repurchase agreement
transaction.
The Trust will only enter into repurchase agreements with banks and other
recognized financial institutions such as broker/dealers which are deemed by the
Trust's adviser to be creditworthy pursuant to guidelines and/or standards
reviewed or established by the Board of Trustees (the "Trustees"). Risks may
arise from the potential inability of counterparties to honor the terms of the
repurchase agreement. Accordingly, the Trust could receive less than the
repurchase price on the sale of collateral securities.
INVESTMENT INCOME, EXPENSES, AND DISTRIBUTIONS
Interest income and expenses are accrued daily. Bond premium and discount, if
applicable, are amortized as required by the Internal Revenue Code, as amended
(the "Code"). Distributions to shareholders are recorded on the ex- dividend
date.
FEDERAL TAXES
It is the Trust's policy to comply with the provisions of the Code applicable to
regulated investment companies and to distribute to shareholders each year
substantially all of its income. Accordingly, no provisions for federal tax are
necessary. Distributions in excess of net investment income were the result of
certain book and tax timing differences. These distributions do not represent a
return of capital for federal income tax purposes.
At August 31, 1998, the Trust, for federal tax purposes, had a capital loss
carryforward of $79,755,305, which will reduce the Trust's taxable income
arising from future net realized gain on investments, if any, to the extent
permitted by the Code, and thus will reduce the amount of the distributions to
shareholders which would otherwise be necessary to relieve the Trust of any
liability for federal tax. Pursuant to the Code, such capital loss carryforward
will expire as follows:
EXPIRATION YEAR EXPIRATION AMOUNT
2002 $13,884,955
2003 57,180,753
2004 8,689,597
WHEN-ISSUED AND DELAYED DELIVERY TRANSACTIONS
The Trust may engage in when-issued or delayed delivery transactions. The Trust
records when-issued securities on the trade date and maintains security
positions such that sufficient liquid assets will be available to make payment
for the securities purchased. Securities purchased on a when- issued or delayed
delivery basis are marked to market daily and begin earning interest on the
settlement date.
DOLLAR ROLL TRANSACTIONS
The Trust enters into dollar roll transactions, with respect to mortgage
securities issued by GNMA, FNMA, and FHLMC, in which the Trust sells mortgage
securities to financial institutions and simultaneously agrees to accept
substantially similar (same type, coupon and maturity) securities at a later
date at an agreed upon price. Dollar roll transactions are short-term financing
arrangements which will not exceed twelve months. The Trust will use the
proceeds generated from the transactions to invest in short-term investments,
which may enhance the Trust's current yield and total return. During the year
ended August 31, 1998, the Trust did not enter into dollar roll transactions.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts of assets, liabilities, expenses and revenues reported in the
financial statements. Actual results could differ from those estimated.
OTHER
Investment transactions are accounted for on the trade date.
SHARES OF BENEFICIAL INTEREST
The Declaration of Trust permits the Trustees to issue an unlimited number of
full and fractional shares of beneficial interest (without par value) for each
class of shares. Transactions in shares were as follows:
<TABLE>
<CAPTION>
YEAR ENDED AUGUST 31,
1998 1997
INSTITUTIONAL SHARES SHARES AMOUNT SHARES AMOUNT
<S> <C> <C> <C> <C>
Shares sold 3,030,823 $ 29,442,519 4,079,073 $ 39,681,438
Shares issued to shareholders in payment
of distributions declared 658,748 6,398,162 841,597 8,186,144
Shares redeemed (11,287,079) (109,644,658) (21,517,755) (209,231,332)
Net change resulting from Institutional
Share transactions (7,597,508) $ (73,803,977) (16,597,085) $(161,363,750)
<CAPTION>
YEAR ENDED AUGUST 31,
1998 1997
INSTITUTIONAL SERVICE SHARES SHARES AMOUNT SHARES AMOUNT
<S> <C> <C> <C> <C>
Shares sold 5,771,167 $ 56,181,140 1,728,054 $ 16,797,630
Shares issued to shareholders in payment
of distributions declared 315,591 3,065,101 168,679 1,641,031
Shares redeemed (10,014,646) (97,201,270) (4,290,564) (41,712,056 )
Net change resulting from Institutional
Share transactions (3,927,888) $ (37,955,029) (2,393,831) $ (23,273,395)
Net change resulting from share transactions (11,525,396) $ (111,759,006) (18,990,916) $ (184,637,145)
</TABLE>
INVESTMENT ADVISORY FEE AND OTHER TRANSACTIONS WITH AFFILIATES
INVESTMENT ADVISORY FEE
Federated Management, the Trust's investment adviser (the "Adviser"), receives
for its services an annual investment advisory fee equal to 0.60% of the Trust's
average daily net assets. The Adviser may voluntarily choose to waive any
portion of its fee. The Adviser can modify or terminate this voluntary waiver at
any time at its sole discretion.
ADMINISTRATIVE FEE
Federated Services Company ("FServ"), under the Administrative Services
Agreement, provides the Trust with administrative personnel and services. The
fee paid to FServ is based on the level of average aggregate daily net assets of
all funds advised by subsidiaries of Federated Investors, Inc. for the period.
The administrative fee received during the period of the Administrative Services
Agreement shall be at least $125,000 per portfolio and $30,000 per each
additional class of shares.
DISTRIBUTION SERVICES FEE
The Trust has adopted a Distribution Plan (the "Plan") pursuant to Rule 12b- 1
under the Act. Under the terms of the Plan, the Trust will compensate Federated
Securities Corp. ("FSC"), the principal distributor, from the net assets of the
Trust to finance activities intended to result in the sale of the Trust's
Institutional Service Shares. The Plan provides that the Trust may incur
distribution expenses up to 0.25% of the average daily net assets of the
Institutional Service Shares, annually, to compensate FSC. FSC may voluntarily
choose to waive any portion of its fee. FSC can modify or terminate this
voluntary waiver at any time at its sole discretion.
SHAREHOLDER SERVICES FEE
Under the terms of a Shareholder Services Agreement with Federated Shareholder
Services ("FSS"), the Trust will pay FSS up to 0.25% of average daily net assets
of the Trust shares for the period. The fee paid to FSS is used to finance
certain services for shareholders and to maintain shareholder accounts. FSS may
voluntarily choose to waive any portion of its fee. FSS can modify or terminate
this voluntary waiver at any time at its sole discretion.
TRANSFER AND DIVIDEND DISBURSING AGENT FEES AND EXPENSES
FServ, through its subsidiary, Federated Shareholder Services Company ("FSSC")
serves as transfer and dividend disbursing agent for the Trust. The fee paid to
FSSC is based on the size, type, and number of accounts and transactions made by
shareholders.
PORTFOLIO ACCOUNTING FEES
FServ maintains the Trust's accounting records for which it receives a fee. The
fee is based on the level of the Trust's average daily net assets for the
period, plus out-of-pocket expenses.
GENERAL
Certain of the Officers and Trustees of the Trust are Officers and Directors or
Trustees of the above companies.
INVESTMENT TRANSACTIONS
Purchases and sales of investments, excluding short-term securities, for the
period ended August 31, 1998, were as follows:
PURCHASES $302,292,697
SALES $408,134,782
YEAR 2000 (UNAUDITED)
Similar to other financial organizations, the Trust could be adversely affected
if the computer systems used by the Trust's service providers do not properly
process and calculate date-related information and data from and after January
1, 2000. The Trust's Adviser and Administrator are taking measures that they
believe are reasonably designed to address the Year 2000 issue with respect to
computer systems that they use and to obtain reasonable assurances that
comparable steps are being taken by each of the Trust's other service providers.
At this time, however, there can be no assurance that these steps will be
sufficient to avoid any adverse impact to the Trust.
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
To the Trustees and Shareholders of
Federated ARMs Fund:
We have audited the accompanying statement of assets and liabilities of
Federated ARMs Fund, including the portfolio of investments, as of August 31,
1998, and the related statement of operations for the year then ended, the
statement of changes in net assets for each of the two years in the period then
ended, and financial highlights for each of the periods presented therein. These
financial statements and financial highlights are the responsibility of the
Trust's management. Our responsibility is to express an opinion on these
financial statements and financial highlights based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned as of
August 31, 1998, by correspondence with the custodian and brokers, or other
appropriate auditing procedures where replies from brokers were not received. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of
Federated ARMs Fund at August 31, 1998, the results of its operations for the
year then ended, the changes in its net assets for each of the two years in the
period then ended, and the financial highlights for each of the periods
presented therein, in conformity with generally accepted accounting principles.
ERNST & YOUNG LLP
Pittsburgh, Pennsylvania
October 9, 1998
[GRAPHIC]
FEDERATED ARMS FUND
Institutional Service Shares
PROSPECTUS
OCTOBER 31, 1998
A Diversified Portfolio of Federated ARMs Fund, an Open-End Management
Investment
Company
FEDERATED ARMS FUND
INSTITUTIONAL SERVICE SHARES
Federated Investors Funds
5800 Corporate Drive
Pittsburgh, PA 15237-7000
DISTRIBUTOR
Federated Securities Corp.
Federated Investors Tower
1001 Liberty Avenue
Pittsburgh, PA 15222-3779
INVESTMENT ADVISER
Federated Management
Federated Investors Tower
Pittsburgh, PA 15222-3779
CUSTODIAN
State Street Bank and
Trust Company
P.O. Box 8600
Boston, MA 02266-8600
TRANSFER AGENT AND
DIVIDEND DISBURSING AGENT
Federated Shareholder
Services Company
P.O. Box 8600
Boston, MA 02266-8600
INDEPENDENT AUDITORS
Ernst & Young LLP
One Oxford Centre
Pittsburgh, PA 15219
Federated Securities Corp., Distributor
1-800-341-7400
www.federatedinvestors.com
Cusip 314082207
8100309A-SS (10/98)
[GRAPHIC]
FEDERATED ARMS FUND
INSTITUTIONAL SHARES
INSTITUTIONAL SERVICE SHARES
STATEMENT OF ADDITIONAL INFORMATION
This Statement of Additional Information should be read with the respective
prospectus for Institutional Shares or Institutional Service Shares of Federated
ARMs Fund (the "Trust") dated October 31, 1998. This Statement is not a
prospectus. You may request a copy of a prospectus or a paper copy of this
Statement, if you have received it electronically, free of charge by calling
1-800-341-7400.
FEDERATED ARMS FUND
FEDERATED INVESTORS FUNDS
5800 CORPORATE DRIVE
PITTSBURGH, PENNSYLVANIA 15237-7000
Statement dated October 31, 1998
[Graphic]>
Federated Securities Corp., Distributor
Federated Investors, Inc.
Federated Investors Tower
1001 Liberty Avenue
Pittsburgh, PA 15222-3779
1-800-341-7400
www.federatedinvestors.com
Cusip 314082108
Cusip 314082207
8100309B (10/98)
[Graphic]>
TABLE OF CONTENTS
GENERAL INFORMATION ABOUT THE TRUST 1
INVESTMENT OBJECTIVE AND POLICIES 1
Types of Investments 1
When-Issued and Delayed Delivery Transactions 2
Repurchase Agreements 2
Lending of Portfolio Securities 2
Reverse Repurchase Agreements 2
Portfolio Turnover 2
INVESTMENT LIMITATIONS 3
Stripped Mortgage Securities 3
Buying on Margin 3
Issuing Senior Securities and Borrowing Money 3
Pledging Assets 3
Diversification of Investments 3
Investing in Real Estate 3
Investing in Commodities 3
Underwriting 3
Lending Cash or Securities 3
Selling Short 3
Investing in Illiquid Securities 3
Investing in Securities of Other
Investment Companies 4
Investing in New Issuers 4
FEDERATED ARMS FUND MANAGEMENT 5
Fund Ownership 8
Trustee Compensation 9
Trustee Liability 9
INVESTMENT ADVISORY SERVICES 9
Adviser to the Trust 9
Advisory Fees 10
Other Related Services 10
BROKERAGE TRANSACTIONS 10
OTHER SERVICES 10
Trust Administration 10
Custodian and Portfolio Accountant 10
Transfer Agent 10
Independent Auditors 11
PURCHASING SHARES 11
Distribution Plan (Institutional Service Shares
only) and Shareholder Services 11
Conversion to Federal Funds 11
DETERMINING NET ASSET VALUE 11
Determining Value of Securities 11
REDEEMING SHARES 12
Exchanging Securities for Trust Shares 12
Trust 12
Redemption in Kind 12
TAX CONSEQUENCES 12
MASSACHUSETTS PARTNERSHIP LAW 12
TAX STATUS 13
The Trust's Tax Status 13
Shareholders' Tax Status 13
Capital Gains 13
TOTAL RETURN 13
YIELD 13
PERFORMANCE COMPARISONS 14
Economic and Market Information 14
ABOUT FEDERATED INVESTORS, INC. 15
Mutual Fund Market 15
APPENDIX 15
GENERAL INFORMATION ABOUT THE TRUST
Federated ARMs Fund (the "Trust") was established as a Massachusetts business
trust under a Declaration of Trust dated May 24, 1985. The Declaration of Trust
permits the Trust to offer separate series and classes of shares.
Shares of the Trust are offered in two classes, Institutional Shares and
Institutional Service Shares (individually and collectively referred to as the
"Shares"). This Statement of Additional Information relates to both of the
above-mentioned Shares of the Trust.
INVESTMENT OBJECTIVE AND POLICIES
The Trust's investment objective is to provide current income consistent with
minimal volatility of principal. Current income includes, in general, discount
earned on U.S. Treasury bills and agency discount notes, interest earned on
mortgage-related securities and other U.S. government securities, and short-term
capital gains. The investment objective cannot be changed without approval of
shareholders. The Trust anticipates that it will experience minimal volatility
of principal due to the frequent adjustments to interest rates on adjustable and
floating rate mortgage securities which comprise the portfolio. Of course, there
can be no assurance that the Trust will be able to maintain minimal volatility
of principal or that it will achieve its investment objective. The Trust
endeavors to achieve its investment objective, however, by following the
investment policies described in each prospectus and this Statement of
Additional Information.
TYPES OF INVESTMENTS
The Trust will invest at least 65% of the value of its total assets in
adjustable and floating rate mortgage securities which are issued or guaranteed
as to payment of principal and interest by the U.S. government, its agencies or
instrumentalities. These securities and other U.S. government or agency
obligations are backed by:
* the full faith and credit of the U.S. Treasury;
* the issuer's right to borrow from the U.S. Treasury;
* the discretionary authority of the U.S. government to purchase certain
obligations of agencies or instrumentalities; or
* the credit of the agency or instrumentality issuing the obligations.
Examples of agencies and instrumentalities which may not always receive
financial support from the U.S. government are:
* Federal Farm Credit System, including the National Bank for Cooperatives, Farm
Credit Banks, and Banks for Cooperatives;
* Federal Home Loan Banks;
* Federal National Mortgage Association;
* Student Loan Marketing Association; and
* Federal Home Loan Mortgage Corporation.
PRIVATELY ISSUED MORTGAGE-RELATED SECURITIES
Privately issued mortgage-related securities generally represent an ownership
interest in federal agency mortgage pass-through securities, such as those
issued by Government National Mortgage Association. The terms and
characteristics of the mortgage instruments may vary among pass-through mortgage
loan pools.
The market for such mortgage-related securities has expanded considerably since
its inception. The size of the primary issuance market and the active
participation in the secondary market by securities dealers and other investors
make government-related pools highly liquid.
CAPS AND FLOORS
The value of mortgage-related securities in which the Trust invests may be
affected if interest rates rise or fall faster and farther than the allowable
caps on the underlying residential mortgage loans. For example, consider a
residential mortgage loan with a rate which adjusts annually, an initial
interest rate of 10%, a 2% per annum interest rate cap, and a 5% life of loan
interest rate cap. If the index against which the underlying interest rate on
the residential mortgage loan is compared-such as the one-year Treasury- moves
up by 3%, the residential mortgage loan rate may not increase by more than 2% to
12% the first year. As one of the underlying residential mortgages for the
securities in which the Trust invests, the residential mortgage would depress
the value of the securities and, therefore, the net asset value of the Trust. If
the index against which the interest rate on the underlying residential mortgage
loan is compared moves up no faster or farther than the cap on the underlying
mortgage loan allows, or if the index moves down as fast or faster than the
floor on the underlying mortgage loan allows, the mortgage would maintain or
improve the value of the securities in which the Trust invests and, therefore,
the net asset value of the Trust.
WHEN-ISSUED AND DELAYED DELIVERY TRANSACTIONS
These transactions are made to secure what is considered to be an advantageous
price or yield for the Trust. No fees or other expenses, other than normal
transaction costs, are incurred. However, liquid assets of the Trust sufficient
to make payment for the securities to be purchased are segregated on the Trust's
records at the trade date. These assets are marked to market daily and are
maintained until the transaction has been settled.
The Trust does not intend to engage in when-issued and delayed delivery
transactions to an extent that would cause the segregation of more than 20% of
the total value of its assets.
REPURCHASE AGREEMENTS
The Trust requires its custodian to take possession of the securities subject to
repurchase agreements, and these securities are marked to market daily. To the
extent that the original seller does not repurchase the securities from the
Trust, the Trust could receive less than the repurchase price on any sale of
such securities. In the event that a defaulting seller files for bankruptcy or
becomes insolvent, disposition of such securities by the Trust might be delayed
pending court action. The Trust believes that under the regular procedures
normally in effect for custody of the Trust's portfolio securities subject to
repurchase agreements, a court of competent jurisdiction would rule in favor of
the Trust and allow retention or disposition of such securities. The Trust will
only enter into repurchase agreements with banks and other recognized financial
institutions, such as broker/dealers, which are deemed by the Trust's Adviser to
be creditworthy pursuant to guidelines established by the Board of Trustees (the
"Trustees").
LENDING OF PORTFOLIO SECURITIES
The collateral received when the Trust lends portfolio securities must be valued
daily and, should the market value of the loaned securities increase, the
borrower must furnish additional collateral to the Trust. During the time
portfolio securities are on loan, the borrower pays the Trust any dividends or
interest paid on such securities. Loans are subject to termination at the option
of the Trust or the borrower. The Trust may pay reasonable administrative and
custodial fees in connection with a loan and may pay a negotiated portion of the
interest earned on the cash or equivalent collateral to the borrower or placing
broker.
REVERSE REPURCHASE AGREEMENTS
The Trust may also enter into reverse repurchase agreements. These transactions
are similar to borrowing cash. In a reverse repurchase agreement, the Trust
transfers possession of a portfolio instrument to another person, such as a
financial institution, broker, or dealer, in return for a percentage of the
instrument's market value in cash, and agrees that on a stipulated date in the
future the Trust will repurchase the portfolio instrument by remitting the
original consideration plus interest at an agreed upon rate. The use of reverse
repurchase agreements may enable the Trust to avoid selling portfolio
instruments at a time when a sale may be deemed to be disadvantageous, but the
ability to enter into reverse repurchase agreements does not ensure that the
Trust will be able to avoid selling portfolio instruments at a disadvantageous
time.
When effecting reverse repurchase agreements, liquid assets of the Trust, in a
dollar amount sufficient to make payment for the obligations to be purchased,
are segregated at the trade date. These assets are marked to market daily and
are maintained until the transaction is settled.
During the period any reverse repurchase agreements are outstanding, but only to
the extent necessary to assure completion of the reverse repurchase agreements,
the Trust will restrict the purchase of portfolio instruments to money market
instruments maturing on or before the expiration date of the reverse repurchase
agreements.
PORTFOLIO TURNOVER
The Trust will not attempt to set or meet a portfolio turnover rate since any
turnover would be incidental to transactions undertaken in an attempt to achieve
the Trust's investment objective. For the fiscal years ended August 31, 1998,
and 1997, the portfolio turnover rates were 56% and 84%, respectively.
INVESTMENT LIMITATIONS
STRIPPED MORTGAGE SECURITIES
The Trust will not invest in stripped mortgage securities, including securities
which represent a share of only the interest payments or only the principal
payments from underlying mortgage related securities.
BUYING ON MARGIN
The Trust will not purchase any securities on margin but may obtain such
short-term credits as may be necessary for the clearance of transactions.
ISSUING SENIOR SECURITIES AND BORROWING MONEY
The Trust will not issue senior securities except that the Trust may borrow
money and engage in reverse repurchase agreements in amounts up to one-third of
the value of its net assets, including the amounts borrowed.
The Trust will not borrow money or engage in reverse repurchase agreements for
investment leverage, but rather as a temporary, extraordinary, or emergency
measure or to facilitate management of the portfolio by enabling the Trust to
meet redemption requests when the liquidation of portfolio securities is deemed
to be inconvenient or disadvantageous. The Trust will not purchase any
securities while any such borrowings are outstanding.
During the period any reverse repurchase agreements are outstanding, but only to
the extent necessary to assure completion of the reverse repurchase agreements,
the Trust will restrict the purchase of portfolio instruments to money market
instruments maturing on or before the expiration date of the reverse repurchase
agreements.
PLEDGING ASSETS
The Trust will not mortgage, pledge, or hypothecate any assets except to secure
permitted borrowings. In those cases, it may pledge assets having a market value
not exceeding the lesser of the dollar amounts borrowed or 10% of the value of
total assets at the time of the borrowing.
DIVERSIFICATION OF INVESTMENTS
With respect to securities comprising 75% of the value of its total assets, the
Trust will not purchase securities of any one issuer (other than cash, cash
items, or securities issued or guaranteed by the government of the United States
or its agencies or instrumentalities and repurchase agreements collateralized by
U.S. government securities) if, as a result, more than 5% of the value of its
total assets would be invested in securities of that issuer.
INVESTING IN REAL ESTATE
The Trust will not buy or sell real estate, although it may invest in the
securities of companies whose business involves the purchase or sale of real
estate or in securities which are secured by real estate or interests in real
estate.
INVESTING IN COMMODITIES
The Trust will not purchase or sell commodities.
UNDERWRITING
The Trust will not underwrite any issue of securities, except as it may be
deemed to be an underwriter under the Securities Act of 1933 in connection with
the sale of securities in accordance with its investment objective, policies,
and limitations.
LENDING CASH OR SECURITIES
The Trust will not lend any of its assets, except portfolio securities up to
one-third of the value of its total assets.
SELLING SHORT
The Trust will not sell securities short.
INVESTING IN ILLIQUID SECURITIES
The Trust will not invest more than 15% of its net assets in securities which
are illiquid, including repurchase agreements providing for settlement in more
than seven days after notice.
INVESTING IN SECURITIES OF OTHER INVESTMENT COMPANIES
The Trust will not purchase securities of other investment companies, except by
purchases in the open market involving only customary brokerage commissions and
as a result of which not more than 5% of the value of its total assets would be
invested in such securities, or except as part of a merger, consolidation, or
other acquisition.
INVESTING IN NEW ISSUERS
The Trust will not invest more than 5% of the value of its total assets in
securities of issuers which have records of less than three years of continuous
operations, including the operation of any predecessor. With respect to the
asset-backed securities, the Trust will treat the originator of the asset pool
as the company issuing the securities for purposes of determining compliance
with this limitation.
The above investment limitations cannot be changed without shareholder approval.
Except with respect to borrowing money, if a percentage limitation is adhered to
at the time of investment, a later increase or decrease in percentage resulting
from any change in value or net assets will not result in a violation of such
restriction.
The Trust did not engage in reverse repurchase agreements, purchase securities
of other investment companies, borrow money, or invest in illiquid securities in
excess of 5% of the value of its total assets during the last fiscal year and
has no present intent to do so in the coming fiscal year.
For purposes of its policies and limitations, the Trust considers certificates
of deposit and demand and time deposits issued by a U.S. branch of a domestic
bank having capital, surplus, and undivided profits in excess of $100,000,000 at
the time of investment to be "cash items."
FEDERATED ARMS FUND MANAGEMENT
Officers and Trustees are listed with their addresses, birthdates, present
positions with Federated ARMs Fund, and principal occupations.
John F. Donahue@*
Federated Investors Tower
Pittsburgh, PA
Birthdate: July 28, 1924
Chairman and Trustee
Chief Executive Officer and Director or Trustee of the
Funds; Chairman and Director, Federated Investors, Inc.;
Chairman and Trustee, Federated Advisers, Federated
Management, and Federated Research; Chairman and Director,
Federated Research Corp. and Federated Global Research
Corp.; Chairman, Passport Research, Ltd. Mr. Donahue is the father of
J. Christopher Donahue, Executive Vice President of the Company.
Thomas G. Bigley
15 Old Timber Trail
Pittsburgh, PA
Birthdate: February 3, 1934
Trustee
Director or Trustee of the Funds; Director, Member of Executive Committee,
Children's Hospital of Pittsburgh; formerly, Senior Partner, Ernst & Young LLP;
Director, MED 3000 Group, Inc.; Director, Member of Executive Committee,
University of Pittsburgh.
John T. Conroy, Jr.
Wood/IPC Commercial Department
John R. Wood and Associates, Inc., Realtors
3255 Tamiami Trail North
Naples, FL
Birthdate: June 23, 1937
Trustee
Director or Trustee of the Funds; President, Investment
Properties Corporation; Senior Vice-President, John R. Wood
and Associates, Inc., Realtors; Partner or Trustee in
private real estate ventures in Southwest Florida; formerly,
President, Naples Property Management, Inc. and Northgate
Village Development Corporation.
Nicholas P. Constantakis
175 Woodshire Drive
Pittsburgh, PA
Birthdate: September 3, 1939
Trustee
Director or Trustee of the Funds; formerly, Partner,
Andersen Worldwide SC.
William J. Copeland
One PNC Plaza-23rd Floor
Pittsburgh, PA
Birthdate: July 4, 1918
Trustee
Director or Trustee of the Funds; Director and Member of the Executive
Committee, Michael Baker, Inc.; formerly, Vice Chairman and Director, PNC Bank,
N.A., and PNC Bank Corp.; Director, Ryan Homes, Inc.; Director, United Refinery;
Chairman, Pittsburgh Foundation; Director, Forbes Fund; Chairman, Pittsburgh
Civic Light Opera.
James E. Dowd, Esq.
571 Hayward Mill Road
Concord, MA
Birthdate: May 18, 1922
Trustee
Director or Trustee of the Funds; Attorney-at-law; Director,
The Emerging Germany Fund, Inc.; formerly, President, Boston
Stock Exchange, Inc.; Regional Administrator, United States
Securities and Exchange Commission.
Lawrence D. Ellis, M.D.*
3471 Fifth Avenue, Suite 1111
Pittsburgh, PA
Birthdate: October 11, 1932
Trustee
Director or Trustee of the Funds; Professor of Medicine,
University of Pittsburgh; Medical Director, University of
Pittsburgh Medical Center-Downtown; Hematologist, Oncologist, and Internist,
Presbyterian and Montefiore
Hospitals; formerly Member, National Board of Trustees,
Leukemia Society of America.
Edward L. Flaherty, Jr., Esq.@
Miller, Ament, Henny & Kochuba
205 Ross Street
Pittsburgh, PA
Birthdate: June 18, 1924
Trustee
Director or Trustee of the Funds; Attorney of Counsel, Miller, Ament, Henny &
Kochuba; Director, Eat'N Park Restaurants, Inc.; formerly, Counsel, Horizon
Financial, F.A., Western Region; Partner, Meyer and Flaherty.
Glen R. Johnson*
Federated Investors Towers
Pittsburgh, PA
Birthdate: May 2, 1929
President and Trustee
President and/or Trustee of some of the Funds; staff member, Federated
Securities Corp.
Peter E. Madden
One Royal Palm Way
100 Royal Palm Way
Palm Beach, FL
Birthdate: March 16, 1942
Trustee
Director or Trustee of the Funds; formerly, Representative, Commonwealth of
Massachusetts General Court; President, State Street Bank and Trust Company and
State Street Corporation; Director, VISA USA and VISA International; Chairman
and Director, Massachusetts Banker Association; Director, Depository Trust
Corporation.
John E. Murray, Jr., J.D., S.J.D.
President, Duquesne University
Pittsburgh, PA
Birthdate: December 20, 1932
Trustee
Director or Trustee of the Funds; President, Law Professor, Duquesne University;
Consulting Partner, Mollica & Murray; formerly, Dean and Professor of Law,
University of Pittsburgh School of Law; Dean and Professor of Law, Villanova
University School of Law.
Wesley W. Posvar
1202 Cathedral of Learning
University of Pittsburgh
Pittsburgh, PA
Birthdate: September 14, 1925
Trustee
Director or Trustee of the Funds; President, World Society for Ekistics, Athens;
Professor, International Politics; Management Consultant; Trustee, Carnegie
Endowment for International Peace, RAND Corporation, Online Computer Library
Center, Inc., National Defense University and U.S. Space Foundation; President
Emeritus, University of Pittsburgh; Founding Chairman, National Advisory Council
for Environmental Policy and Technology, Federal Emergency Management Advisory
Board and Czech Management Center, Prague; formerly, Professor, United States
Military Academy; Professor, United States Air Force Academy.
Marjorie P. Smuts
4905 Bayard Street
Pittsburgh, PA
Birthdate: June 21, 1935
Trustee
Director or Trustee of the Funds; Public Relations/ Marketing/Conference
Planning; formerly, National Spokesperson, Aluminum Company of America; business
owner.
J. Christopher Donahue
Federated Investors Tower
Pittsburgh, PA
Birthdate: April 11, 1949
Executive Vice President
President or Executive Vice President of the Funds;
President and Director, Federated Investors, Inc., President
and Trustee, Federated Advisers, Federated Management, and
Federated Research; President and Director, Federated
Research Corp. and Federated Global Research Corp.;
President, Passport Research, Ltd.; Trustee, Federated
Shareholder Services Company and Federated Shareholder
Services; Director, Federated Services Company; Director or
Trustee of some of the Funds. Mr. Donahue is the son of John
F. Donahue, Chairman and Trustee of the Company.
Edward C. Gonzales
Federated Investors Tower
Pittsburgh, PA
Birthdate: October 22, 1930
Executive Vice President
Trustee or Director of some of the Funds; President, Executive Vice President
and Treasurer of some of the Funds; Vice Chairman, Federated Investors Inc.;
Vice President, Federated Advisers, Federated Management, Federated Research,
Federated Research Corp., Federated Global Research Corp. and Passport Research,
Ltd.; Executive Vice President and Director, Federated Securities Corp.;
Trustee, Federated Shareholder Services Company.
John W. McGonigle
Federated Investors Tower
Pittsburgh, PA
Birthdate: October 26, 1938
Executive Vice President, Secretary, and Treasurer
Executive Vice President and Secretary of the Funds; Treasurer of some of the
Funds; Executive Vice President, Secretary, and Director, Federated Investors
Inc.; Trustee, Federated Advisers, Federated Management, and Federated Research;
Director, Federated Research Corp. and Federated Global Research Corp.; Trustee,
Federated Shareholder Services Company; Director, Federated Services Company;
President and Trustee, Federated Shareholder Services; Director, Federated
Securities Corp.
Richard B. Fisher
Federated Investors Tower
Pittsburgh, PA
Birthdate: May 17, 1923
Vice President
President or Vice President of some of the Funds; Director or Trustee of some of
the Funds; Executive Vice President, Federated Investors Inc.; Chairman and
Director, Federated Securities Corp.
*This Trustee is deemed to be an "interested person" as defined in the
Investment Company Act of 1940.
@Member of the Executive Committee. The Executive Committee of the Board of
Trustees handles the responsibilities of the Board between meetings of the
Board.
As used in the table above, "The Funds" and "Funds" mean the following
investment companies: Automated Government Money Trust; Blanchard Funds;
Blanchard Precious Metals Fund, Inc.; Cash Trust Series II; Cash Trust Series,
Inc.; CCB Funds; DG Investor Series; Edward D. Jones & Co. Daily Passport Cash
Trust; Federated Adjustable Rate U.S. Government Fund, Inc.; Federated American
Leaders Fund, Inc.; Federated ARMs Fund; Federated Core Trust; Federated Equity
Funds; Federated Equity Income Fund, Inc.; Federated Fund for U.S. Government
Securities, Inc.; Federated GNMA Trust; Federated Government Income Securities,
Inc.; Federated Government Trust; Federated High Income Bond Fund, Inc.;
Federated High Yield Trust; Federated Income Securities Trust; Federated Income
Trust; Federated Index Trust; Federated Institutional Trust; Federated Insurance
Series; Federated Investment Portfolios; Federated Investment Trust; Federated
Master Trust; Federated Municipal Opportunities Fund, Inc.; Federated Municipal
Securities Fund, Inc.; Federated Municipal Trust; Federated Short-Term Municipal
Trust; Federated Short-Term U.S. Government Trust; Federated Stock and Bond
Fund, Inc.; Federated Stock Trust; Federated Tax-Free Trust; Federated Total
Return Series, Inc.; Federated U.S. Government Bond Fund; Federated U.S.
Government Securities Fund: 1-3 Years; Federated U.S. Government Securities
Fund: 2-5 Years; Federated U.S. Government Securities Fund: 5-10 Years;
Federated Utility Fund, Inc.; Fixed Income Securities, Inc.; High Yield Cash
Trust; Intermediate Municipal Trust; International Series, Inc.; Investment
Series Funds, Inc.; Investment Series Trust; Liberty Term Trust, Inc.-1999;
Liberty U.S. Government Money Market Trust; Liquid Cash Trust; Managed Series
Trust; Money Market Management, Inc.; Money Market Obligations Trust; Money
Market Obligations Trust II; Money Market Trust; Municipal Securities Income
Trust; Newpoint Funds; Regions Funds; RIGGS Funds; Targeted Duration Trust;
Tax-Free Instruments Trust; The Planters Funds; The Virtus Funds; Trust for
Financial Institutions; Trust for Government Cash Reserves; Trust for Short-Term
U.S. Government Securities; Trust for U.S. Treasury Obligations; WesMark Funds;
WCT Funds; and World Investment Series, Inc.
FUND OWNERSHIP
Officers and Trustees own less than 1% of the Fund's outstanding shares. As of
October 12, 1998 the following shareholders of record owned 5% or more of the
Institutional Service Shares of the Fund: Hawaii Federal & State Employee
Federal Credit Union, Hilo, Hawaii, owned approximately 962,095 shares (21.99%);
First National Bank of Decatur a/o Decatur Imaging Center, Decatur, Illinois,
owned approximately 292,361 shares (6.68%) and Sun Bank as Trustee for Southwest
Vollusia Health Car Corp., AHS, Orlando, Florida, owned approximately 233,495
shares (5.34%).
As of October 12, 1998, the following shareholder of record owned 5% or more of
the Institutional Shares of the Fund: APCO Employees Credit Union, Birmingham,
Alabama, owned approximately 6,008,538 shares (13.96%), and Alabama Corporate
Credit Union, Birmingham, Alabama, owned approximately
2,391,794 shares (5.56%).
TRUSTEE COMPENSATION
<TABLE>
<CAPTION>
NAME, AGGREGATE
POSITION WITH COMPENSATION TOTAL COMPENSATION PAID
TRUST FROM TRUST*# FROM FUND COMPLEX
<S> <C> <S>
John F. Donahue
Chairman and Trustee $0 $0 for the Trust and
56 other investment companies in the Fund Complex
Thomas G. Bigley
Trustee $1,418 $111,222 for the Trust and
56 other investment companies in the Fund Complex
John T. Conroy, Jr.
Trustee $1,560 $122,362 for the Trust and
56 other investment companies in the Fund Complex
Nicholas P. Constantakis
Trustee $1,056 $0 for the Trust and
36 other investment companies in the Fund Complex**
William J.Copeland
Trustee $1,560 $122,362 for the Trust and
56 other investment companies in the Fund Complex
James E. Dowd, Esq.
Trustee $1,560 $122,362 for the Trust and
56 other investment companies in the Fund Complex
Lawrence D. Ellis, M.D.
Trustee $1,418 $111,222 for the Trust and
56 other investment companies in the Fund Complex
Edward L. Flaherty, Jr., Esq.
Trustee $1,560 $122,362 for the Trust and
56 other investment companies in the Fund Complex
Peter E. Madden
Trustee $1,418 $111,222 for the Trust and
56 other investment companies in the Fund Complex
John E. Murray, Jr., J.D., S.J.D.
Trustee $1,418 $111,222 for the Trust and
56 other investment companies in the Fund Complex
Wesley W. Posvar
Trustee $1,418 $111,222 for the Trust and
56 other investment companies in the Fund Complex
Marjorie P. Smuts
Trustee $1,418 $111,222 for the Trust and
56 other investment companies in the Fund Complex
</TABLE>
*Information is furnished for the fiscal year ended August 31, 1998.
**Mr. Constantakis became a member of the Board of Trustees/Directors on
February 23, 1998. He did not earn any fees for servicing the Fund Complex since
these fees are reported as of the end of the last calendar year.
#The aggregate compensation is provided for the Trust which is comprised of
one portfolio.
+The information is provided for the last calendar year.
TRUSTEE LIABILITY
The Trust's Declaration of Trust provides that the Trustees will not be liable
for errors of judgment or mistakes of fact or law. However, they are not
protected against any liability to which they would otherwise be subject by
reason of willful misfeasance, bad faith, gross negligence, or reckless
disregard of the duties involved in the conduct of their office.
INVESTMENT ADVISORY SERVICES
ADVISER TO THE TRUST
The Fund's investment adviser is Federated Management (the "Adviser"). It is
a subsidiary of Federated Investors, Inc. All of the voting securities of
Federated Investors, Inc. are owned by a trust, the trustees of which are
John F. Donahue, his wife, and his son, J. Christopher Donahue.
The Adviser shall not be liable to the Trust or any shareholder of the Trust for
any losses that may be sustained in the purchase, holding, or sale of any
security, or for anything done or omitted by it, except acts or omissions
involving willful misfeasance, bad faith, gross negligence, or reckless
disregard of the duties imposed upon it by its contract with the Trust.
ADVISORY FEES
For its advisory services, the Adviser receives an annual investment advisory
fee as described in the prospectus. During the fiscal years ended August 31,
1998, 1997, and 1996, the Adviser earned $3,325,847, $3,977,723, and $5,228,816,
respectively, of which $1,037,318, $1,270,395, and $1,618,615, respectively,
were voluntarily waived because of undertakings to limit the Trust's expenses.
OTHER RELATED SERVICES
Affiliates of the Adviser may, from time to time, provide certain electronic
equipment and software to institutional customers in order to facilitate the
purchase of shares of funds offered by Federated Securities Corp.
BROKERAGE TRANSACTIONS
When selecting brokers and dealers to handle the purchase and sale of portfolio
instruments, the Adviser looks for prompt execution of the order at a favorable
price. In working with dealers, the Adviser will generally use those who are
recognized dealers in specific portfolio instruments, except when a better price
and execution of the order can be obtained elsewhere. The Adviser makes
decisions on portfolio transactions and selects brokers and dealers subject to
guidelines established by the Trustees. The Adviser may select brokers and
dealers who offer brokerage and research services. These services may be
furnished directly to the Trust or to the Adviser and may include: advice as to
the advisability of investing in securities; security analysis and reports;
economic studies; industry studies; receipt of quotations for portfolio
evaluations; and similar services. Research services provided by brokers and
dealers may be used by the Adviser or its affiliates in advising the Trust and
other accounts. To the extent that receipt of these services may supplant
services for which the Adviser or its affiliates might otherwise have paid, it
would tend to reduce their expenses. The Adviser and its affiliates exercise
reasonable business judgment in selecting brokers who offer brokerage and
research services to execute securities transactions. They determine in good
faith that commissions charged by such persons are reasonable in relationship to
the value of the brokerage and research services provided. During the fiscal
year(s) ended August 31, 1998, 1997, and 1996, the Trust paid no brokerage
commissions.
Although investment decisions for the Trust are made independently from those of
the other accounts managed by the Adviser, investments of the type the Trust may
make may also be made by those other accounts. When the Trust and one or more
other accounts managed by the Adviser are prepared to invest in, or desire to
dispose of, the same security, available investments or opportunities for sales
will be allocated in a manner believed by the Adviser to be equitable to each.
In some cases, this procedure may adversely affect the price paid or received by
the Trust or the size of the position obtained or disposed of by the Trust. In
other cases, however, it is believed that coordination and the ability to
participate in volume transactions will be to the benefit of the Trust.
OTHER SERVICES
TRUST ADMINISTRATION
Federated Services Company, a subsidiary of Federated Investors, Inc., provides
administrative personnel and services to the Trust for a fee as described in the
prospectus. From March 1, 1994 to March 1, 1998, Federated Administrative
Services, a subsidiary of Federated Investors, Inc., served as the Trust's
Administrator. For purposes of this Statement of Additional Information,
Federated Services Company and Federated Administrative Services may hereinafter
collectively be referred to as the "Administrators." For the fiscal years ended
August 31, 1998, 1997, and 1996, the Administrators earned $418,154, $500,691,
and $659,077, respectively.
CUSTODIAN AND PORTFOLIO ACCOUNTANT
State Street Bank and Trust Company, Boston, Massachusetts, is custodian for the
securities and cash of the Trust. Federated Services Company, Pittsburgh,
Pennsylvania, provides certain accounting and recordkeeping services with
respect to the Trust's portfolio investments. The fee paid for this service is
based upon the level of the Trust's average net assets for the period, plus
out-of-pocket expenses.
TRANSFER AGENT
Federated Services Company, through its registered transfer agent, Federated
Shareholder Services Company, maintains all necessary shareholder records. For
its services, the transfer agent receives a fee based on size, type, number of
accounts and transactions made by shareholders.
INDEPENDENT AUDITORS
The independent auditors for the Fund are Ernst & Young LLP, Pittsburgh,
Pennsylvania.
PURCHASING SHARES
Shares are sold at their net asset value without a sales charge on days the New
York Stock Exchange is open for business. The procedure for purchasing Shares is
explained in the respective prospectuses under "Investing in Institutional
Shares" or "Investing in Institutional Service Shares."
DISTRIBUTION PLAN (INSTITUTIONAL SERVICE SHARES ONLY) AND SHAREHOLDER
SERVICES
These arrangements permit the payment of fees to financial institutions, the
distributor, and Federated Shareholder Services to stimulate distribution
activities and to cause services to be provided to shareholders by a
representative who has knowledge of the shareholder's particular circumstances
and goals. These activities and services may include, but are not limited to:
marketing efforts; providing office space, equipment, telephone facilities, and
various clerical, supervisory, computer, and other personnel as necessary or
beneficial to establish and maintain shareholder accounts and records;
processing purchase and redemption transactions and automatic investments of
client account cash balances; answering routine client inquiries; and assisting
clients in changing dividend options, account designations, and addresses.
With respect to the Institutional Service Shares, by adopting the Distribution
Plan, the Board of Trustees expects that the Trust will be able to achieve a
more predictable flow of cash for investment purposes and to meet redemptions.
This will facilitate more efficient portfolio management and assist the Trust in
pursuing its investment objectives. By identifying potential investors whose
needs are served by the Trust's objectives, and properly servicing these
accounts, the Trust may be able to curb sharp fluctuations in rates of
redemptions and sales.
Other benefits, which may be realized under either arrangement, may include: (1)
providing personal services to shareholders; (2) investing shareholder assets
with a minimum of delay and administrative detail; (3) enhancing shareholder
recordkeeping systems; and (4) responding promptly to shareholders' requests and
inquiries concerning their accounts.
For the fiscal period ended August 31, 1998, payments in the amount of $235,234
were made pursuant to the Distribution Plan (Institutional Service Shares only),
of which $232,412 was voluntarily waived. In addition, for this period, the
Trust paid shareholder services fees in the amount of 235,234 (Institutional
Service Shares) and $1,150,547 (Institutional Shares), of which $2,823
(Institutional Service Shares) and $1,150,547 (Institutional Shares) was
voluntarily waived.
CONVERSION TO FEDERAL FUNDS
It is the Trust's policy to be as fully invested as possible so that maximum
interest may be earned. To this end, all payments from shareholders must be in
federal funds or be converted into federal funds before shareholders begin to
earn dividends. Federated Services Company acts as the shareholder's agent in
depositing checks and converting them to federal funds.
DETERMINING NET ASSET VALUE
Net asset value generally changes each day. The days on which net asset value is
calculated by the Trust are described in each prospectus.
DETERMINING VALUE OF SECURITIES
Market values of the Trust's portfolio securities are determined as follows:
* as provided by an independent pricing service;
* for short-term obligations, according to the mean between bid and asked
prices, as furnished by an independent pricing service, or for short-term
obligations with remaining maturities of 60 days or less at the time of
purchase, at amortized cost unless the Trustees determines this is not fair
value; or
* at fair value as determined in good faith by the Trustees.
Prices provided by independent pricing services may be determined without
relying exclusively on quoted prices. Pricing services may consider:
* yield;
* quality;
* coupon rate;
* maturity;
* type of issue;
* trading characteristics; and
* other market data.
REDEEMING SHARES
The Trust redeems Shares at the next computed net asset value after the Trust
receives the redemption request. Redemption procedures are explained in the
respective prospectus under "Redeeming Institutional Shares," or "Redeeming
Institutional Service Shares." Although State Street Bank and Trust Company does
not charge for telephone redemptions, it reserves the right to charge a fee for
the cost of wire-transferred redemptions of less than $5,000.
EXCHANGING SECURITIES FOR TRUST SHARES
Investors may exchange certain securities or a combination of securities and
cash for Shares. The securities and any cash must have a market value of at
least $25,000. Any securities to be exchanged must meet the investment objective
and policies of the Trust, must have a readily ascertainable market value, and
must not be subject to restrictions on resale, the Trust reserves the right to
determine the acceptability of securities to be exchanged. Securities accepted
by the Trust are valued in the same manner as the Trust values its assets.
Investors wishing to exchange securities should first contact Federated
Securities Corp. Shares purchased by exchange of U.S. government securities
cannot be redeemed by telephone for fifteen business days to allow time for the
transfer to settle. An investor should forward the securities in negotiable form
with an authorized letter of transmittal to Federated Securities Corp. The Trust
will notify the investor of its acceptance and valuation of the securities
within five business days of their receipt by State Street Bank and Trust
Company. The basis of the exchange will depend upon the net asset value of
Shares on the day the securities are valued. One Share of the Trust will be
issued for each equivalent amount of securities accepted.
TRUST
Any interest earned on the securities prior to the exchange will be considered
in valuing the securities. All interest, dividend, subscription, conversion, or
other rights attached to the securities become the property of the Trust, along
with the securities. Exercise of this exchange privilege is treated as a sale
for federal income tax purposes. Depending upon the cost basis of the securities
exchanged for Shares, a gain or loss may be realized by the investor.
REDEMPTION IN KIND
The Trust is obligated to redeem shares solely in cash up to $250,000 or 1% of
the Trust's net asset value, whichever is less, for any one shareholder within a
90-day period. Any redemption beyond this amount will also be in cash unless the
Trustees determine that further payments should be in kind. In such cases, the
Trust will pay all or a portion of the remainder of the redemption in portfolio
instruments valued in the same way as the Trust determines net asset value. the
portfolio instruments will be selected in a manner that the trustees deem fair
and equitable. Redemption in kind is not as liquid as a cash redemption. If
redemption is made in kind, shareholders who sell these securities could receive
less that the redemption value and could incur transaction costs.
TAX CONSEQUENCES
Exercise of this exchange privilege is treated as a sale for federal income tax
purposes. Depending upon the cost basis of the securities exchanged for Shares,
a gain or loss may be realized by the investor.
MASSACHUSETTS PARTNERSHIP LAW
Under certain circumstances, shareholders may be held personally liable as
partners under Massachusetts law for acts or obligations of the Trust. To
protect its shareholders, the Trust has filed legal documents with Massachusetts
that expressly disclaim the liability of its shareholders for acts or
obligations of the Trust. These documents require notice of this disclaimer to
be given in each agreement, obligation, or instrument the Trust or its Trustees
enter into or sign. In the unlikely event a shareholder is held personally
liable for the Trust's obligations, the Trust is required to use its property to
protect or compensate the shareholder. On request, the Trust will defend any
claim made and pay any judgment against a shareholder for any act or obligation
of the Trust. Therefore, financial regulated investment companies and to receive
the special tax treatment afforded to such companies. To qualify for this
treatment, the Trust must, among other requirements:
* derive at least 90% of its gross income from dividends, interest, and gains
from the sale of securities;
* derive less than 30% of its gross income from the sale of securities held less
than three months;
* invest in securities within certain statutory limits; and
* distribute to its shareholders at least 90% of its net income earned during
the year.
TAX STATUS
THE TRUST'S TAX STATUS
The Trust will pay no federal income tax because it expects to meet the
requirements of Subchapter M of the Internal Revenue Code applicable to
regulated investment companies and to receive the special tax treatment afforded
to such companies. To qualify for this treatment, the Trust must, among other
requirements:
* derive at least 90% of its gross income from dividends, interest, and gains
from the sale of securities;
* invest in securities within certain statutory limits; and
* distribute to its shareholders at least 90% of its net income earned during
the year.
SHAREHOLDERS' TAX STATUS
Shareholders are subject to federal income tax on dividends and capital gains
received as cash or additional shares. No portion of any income dividend paid by
the Trust is eligible for the dividends received deduction or exclusion
available to corporations. These dividends, and any short-term capital gains,
are taxable as ordinary income.
CAPITAL GAINS
Shareholders will pay federal tax at capital gains rates on long-term capital
gains distributed to them regardless of how long they have held the Shares.
TOTAL RETURN
The Trust's average annual total return for Institutional Shares for the
one-year, five-year, and ten-year periods ended August 31, 1998, were 5.13%,
5.11%, and 7.41%, respectively. The Trust's average annual total return for
Institutional Service Shares for the one-year and five-year periods ended August
31, 1998 and for the period from April 4, 1992 (date of initial public
investment) to August 31, 1998, were 4.87%, 4.85%, and 4.90%, respectively.
The average annual total return for both classes of shares of the Trust is the
average compounded rate of return for a given period that would equate a $1,000
initial investment to the ending redeemable value of that investment. The ending
redeemable value is computed by multiplying the number of shares owned at the
end of the period by the net asset value per share at the end of the period. The
number of shares owned at the end of the period is based on the number of shares
purchased at the beginning of the period with $1,000, adjusted over the period
by any additional shares, assuming the monthly reinvestment of all dividends and
distributions.
YIELD
The Trust's yield for Institutional Shares for the thirty-day period ended
August 31, 1998 was 5.46%. The Trust's yield for Institutional Service Shares
was 5.21% for the same period.
The yield for both classes of shares of the Trust is determined by dividing the
net investment income per share (as defined by the SEC) earned by either class
of shares over a thirty-day period by the maximum offering price per share by
either class of shares on the last day of the period. This value is then
annualized using semi-annual compounding. This means that the amount of income
generated during the thirty-day period is assumed to be generated each month
over a twelve-month period and is reinvested every six months. The yield does
not necessarily reflect income actually earned by either class because of
certain adjustments required by the SEC and, therefore, may not correlate to the
dividends or other distributions paid to shareholders.
To the extent that financial institutions and broker/dealers charge fees in
connection with services provided in conjunction with an investment in either
class of shares, performance will be reduced for those shareholders paying those
fees.
PERFORMANCE COMPARISONS
The performance of both classes of shares depends upon such variables as:
* portfolio quality;
* average portfolio maturity;
* types of instruments in which the portfolio is invested;
* changes in interest rates and market value of portfolio securities;
* changes in the Trust's or either class of Share's expenses; and
* various other factors.
Either class of Share's performance fluctuates on a daily basis largely because
net earnings and offering price per share fluctuate daily. Both net earnings and
maximum offering price per share are factors in the computation of yield and
total return.
Investors may use financial publications and/or indices to obtain a more
complete view of the Trust's performance. When comparing performance, investors
should consider all relevant factors such as the composition of any index used,
prevailing market conditions, portfolio compositions of other funds, and methods
used to value portfolio securities and compute maximum offering price. The
financial publications and/or indices which the Trust uses in advertising may
include:
* LEHMAN BROTHERS ADJUSTABLE RATE MORTGAGE FUNDS AVERAGE is comprised of all
agency guaranteed securities with coupons that periodically adjust over a spread
of a published index.
* LEHMAN BROTHERS 1-3 YEAR GOVERNMENT INDEX is comprised of all publicly issued,
non-convertible domestic debt of the U.S. government, or any agency thereof, or
any quasi-federal corporation. The index also includes corporate debt guaranteed
by the U.S. government. Only notes and bonds with a minimum maturity of one year
and maximum maturity of 2.9 years are included.
* LIPPER ANALYTICAL SERVICES, INC., ranks funds in various fund categories by
making comparative calculations using total return. Total return assumes the
reinvestment of all capital gains distributions and income dividends and takes
into account any change in net asset value over a specific period of time. From
time to time, the Trust will quote its Lipper ranking in the "U.S. Mortgage
Funds" category in advertising and sales literature.
* MORNINGSTAR, INC., an independent rating service, is the publisher of the
bi-weekly Mutual Fund Values. Mutual Fund Values rates more than 1,000 NASDAQ-
listed mutual funds of all types, according to their risk-adjusted returns. The
maximum rating is five stars, and ratings are effective for two weeks.
Advertising and other promotional literature may include charts, graphs and
other illustrations using the Trust's returns, or returns in general, that
demonstrate basic investment concepts such as tax-deferred compounding,
dollar-cost averaging and systematic investment. In addition, the Trust can
compare its performance, or performance for the types of securities in which it
invests, to a variety of other investments, such as bank savings accounts,
certificates of deposit, and Treasury bills.
ECONOMIC AND MARKET INFORMATION
Advertising and sales literature for the Trust may include discussions of
economic, financial and political developments and their effect on the
securities market. Such discussions may take the form of commentary on these
developments by the Trust portfolio managers and their views and analysis on how
such developments could affect the Trust. In addition, advertising and sales
literature may quote statistics and give general information about the mutual
fund industry, including the growth of the industry, from sources such as the
Investment Company Institute.
ABOUT FEDERATED INVESTORS, INC.
Federated Investors, Inc. is dedicated to meeting investor needs which is
reflected in its investment decision making-structured, straightforward, and
consistent. This has resulted in a history of competitive performance with a
range of competitive investment products that have gained the confidence of
thousands of clients and their customers.
The company's disciplined security selection process is firmly rooted in sound
methodologies backed by fundamental and technical research. Investment decisions
are made and executed by teams of portfolio managers, analysts, and traders
dedicated to specific market sectors. These traders handle trillions of dollars
in annual trading volume.
In the government sector, as of December 31, 1997, Federated Investors, Inc.
managed 9 mortgage-backed, 6 government/agency and 18 government money market
mutual funds, with assets approximating $5.9 billion, $1.5 billion, and $35
billion, respectively. Federated trades approximately $400 million in U.S.
government and mortgage-backed securities daily and places approximately $23
billion in repurchase agreements each day. Federated introduced the first U.S.
government fund to invest in U.S. government bond securities in 1969. Federated
has been a major force in the short- and intermediate-term government markets
since 1982 and currently manages approximately $36 billion in government funds
within these maturity ranges.
The Chief Investment Officers responsible for oversight of the various
investment sectors within Federated Investor, Inc. are: U.S. equity and high
yield-J. Thomas Madden; U.S. fixed income-William D. Dawson, III; and
International-Henry A. Frantzen. The Chief Investment Officers are Executive
Vice Presidents of the Federated advisory companies.
MUTUAL FUND MARKET
Thirty-seven percent of American households are pursuing their financial goals
through mutual funds. These investors, as well as businesses and institutions,
have entrusted over $4.4 trillion to the more than 6,700 funds available.*
Federated Investors, Inc., through its subsidiaries, distributes mutual funds
for a variety of investment applications. Specific markets include:
INSTITUTIONAL CLIENTS
Federated Investors, Inc. meets the needs of approximately 900 institutional
clients nationwide by managing and servicing separate accounts and mutual funds
for a variety of applications, including defined benefit and defined
contribution programs, cash management, and asset/liability management.
Institutional clients include corporations, pension funds, tax-exempt entities,
foundations/endowments, insurance companies, and investment and financial
advisors. The marketing effort to these institutional clients is headed by John
B. Fisher, President, Institutional Sales Division.
BANK MARKETING
Other institutional clients include close relationships with more than 1,600
banks and trust organizations. Virtually all of the trust divisions of the top
100 bank holding companies use Federated funds in their clients' portfolios. The
marketing effort to trust clients is headed by Timothy C. Pillion, Senior Vice
President, Bank Marketing & Sales.
BROKER/DEALERS AND BANK BROKER/DEALER SUBSIDIARIES
Federated funds are available to consumers through major brokerage firms
nationwide-we have over 2,200 broker/dealer and bank broker/dealer
relationships across the country-supported by more wholesalers than any
other mutual fund distributor. Federated's service to financial
professionals and institutions has earned it high ratings in several surveys
performed by DALBAR, Inc. DALBAR is recognized as the industry benchmark for
service quality measurement. The marketing effort to these firms is headed by
James F. Getz, President, Federated Securities Corp. Source: Investment
Company Institute
APPENDIX
STANDARD & POOR'S LONG-TERM DEBT RATING DEFINITIONS
AAA--Debt rated "AAA" has the highest rating assigned by Standard & Poor's.
Capacity to pay interest and repay principal is extremely strong.
AA--Debt rated "AA" has a very strong capacity to pay interest and repay
principal and differs from the higher rated issues only in small degree.
A--Debt rated "A" has a strong capacity to pay interest and repay principal
although it is somewhat more susceptible to the adverse effects of changes in
circumstances and economic conditions than debt in higher rated categories.
BBB--Debt rated "BBB" is regarded as having an adequate capacity to pay interest
and repay principal. Whereas it normally exhibits adequate protection
parameters, adverse economic conditions or changing circumstances are more
likely to lead to a weakened capacity to pay interest and repay principal for
debt in this category than in higher rated categories.
BB--Debt rated "BB" has less near-term vulnerability to default than other
speculative issues. However, it faces major ongoing uncertainties or exposure to
adverse business, financial, or economic conditions which could lead to
inadequate capacity to meet timely interest and principal payments. The "BB"
rating category is also used for debt subordinated to senior debt that is
assigned an actual or implied "BBB" rating.
B--Debt rated "B" has a greater vulnerability to default but currently has the
capacity to meet interest payments and principal repayments. Adverse business,
financial, or economic conditions will likely impair capacity or willingness to
pay interest and repay principal. The "B" rating category is also used for debt
subordinated to senior debt that is assigned an actual or implied "BB" rating.
MOODY'S INVESTORS SERVICE, INC. CORPORATE BOND RATING DEFINITIONS
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 some time 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 "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.
FITCH INVESTORS SERVICE, INC. INVESTMENT GRADE BOND RATING DEFINITIONS
AAA--Bonds considered to be investment grade and of the highest credit quality.
The obligor has an exceptionally strong ability to pay interest and repay
principal, which is unlikely to be affected by reasonably foreseeable events.
AA--Bonds considered to be investment grade and of very high credit quality. The
obligor's ability to pay interest and repay principal is very strong, although
not quite as strong as bonds rated "AAA." Because bonds rated in the "AAA" and
"AA" categories are not significantly vulnerable to foreseeable future
developments, short-term debt of these issuers is generally rated "F- 1+."
A--Bonds considered to be investment grade and of high credit quality. The
obligor's ability to pay interest and repay principal is considered to be
strong, but may be more vulnerable to adverse changes in economic conditions and
circumstances than bonds with higher ratings.
BBB--Bonds considered to be investment grade and of satisfactory credit quality.
The obligor's ability to pay interest and repay principal is considered to be
adequate. Adverse changes in economic conditions and circumstances, however, are
more likely to have adverse impact on these bonds, and therefore impair timely
payment. The likelihood that the ratings of these bonds will fall below
investment grade is higher than for bonds with higher ratings.
BB--Bonds are considered speculative. The obligor's ability to pay interest and
repay principal may be affected over time by adverse economic changes. However,
business and financial alternatives can be identified which could assist the
obligor in satisfying its debt service requirements.
B--Bonds are considered highly speculative. While bonds in this class are
currently meeting debt service requirements, the probability of continued timely
payment of principal and interest reflects the obligor's limited margin of
safety and the need for reasonable business and economic activity throughout the
life of the issue.
Federated ARMs Fund
Institutional Shares and Institutional Service Shares
Annual Report for Fiscal Year Ended August 31, 1998
MANAGEMENT DISCUSSION AND ANALYSIS
Federated ARMS Fund (the "Trust") provides shareholders with a professionally
managed portfolio of U.S. government adjustable rate securities. By prospectus,
the Trust portfolio invests at least 65% of its total assets in U.S. government
adjustable and floating rate securities. As of August 31, 1998, the Trust had
68% of its total assets invested in U.S. government adjustable rate securities.
The Trust is rated "AAAf " by Standard & Poor's* and "Aaa" by Moody's** for
credit quality.
The financial crisis in Asia dominated activity in the U.S. Treasury market
during the first half of the fiscal year. Investors in the U.S. Treasury market
benefited as interest rates declined on average by a half of one percent. This
sharp drop in interest rates stimulated demands by the consumer and corporate
spending on investments in the first half of 1998. During the second half of the
fiscal year, the development of financial crises in Russia and Latin America
benefited U.S. Treasury investors. The "flight to quality" bid for U.S. Treasury
securities intensified. Unlike the first half of the fiscal year's downtrend,
all non-U.S. Treasury fixed income sectors came under pressure as yield spreads
widened to U.S. Treasuries.
The adjustable rate market was under pressure the entire fiscal year. The rally
in the U.S. Treasury market kept prepayment concerns in the forefront. During
the fiscal year, the 10-year U.S. Treasury rallied 137 basis points, and the
spread between 1- and 10-year Treasurys flattened by 66 basis points. For an
adjustable rate mortgage ("ARM") homeowner, this past year has been the best
opportunity to refinance to a fixed rate mortgage. The other issue facing the
adjustable rate market is the uncertainty surrounding supply and liquidity. The
potential exists for an increase in the supply of Government National Mortgage
Association ("GNMA") ARMs. Supply was constrained earlier in 1998 due to the
announcement by the Federal Housing Administration ("FHA") that they had reached
their limit to guarantee GNMA ARMs for their fiscal year. The FHA's new fiscal
year begins October 1, 1998, and the potential for an increase in supply is a
risk to the ARMs market. The ARMs market near term could experience wider
spreads due to fast prepayment speeds and increased supply.
Within the adjustable rate sector, the Trust continues to emphasize seasoned
ARMs. The seasoned ARMs sector has substantially lower prepayment risk relative
to newer originated adjustable rate mortgage securities. Allocation of the other
35% is to securities that offer prepayment protection. This portion of the
portfolio favors a mortgage origination barbell. The combination of securities
10+ years old and newly originated mortgage securities improves the overall
portfolio prepayment profile. The older securities consist of fixed rate premium
mortgage securities that are no longer subject to heavy prepayment activity.
Newly originated securities purchased were 15-year 6-7% coupons. This overall
portfolio structure of seasoned ARMs and a blend of different origination fixed
rate mortgages should reduce prepayment exposure.
As of August 31, 1998, the Trust recorded net assets of $469.7 million with
an average 30-day yield as calculated under SEC guidelines of 5.46%*** for
Institutional Shares and 5.21%*** for Institutional Service Shares based
upon a net asset value of $9.67. The Trust's net total rate of return for the
fiscal year ended August 31, 1998, was 5.13%*** for the Institutional Shares
and 4.87%*** for the Institutional Service Shares compared to 6.06% for the
Merrill Lynch 1-Year Treasury Index,+ 7.27% for the Merrill Lynch 2-Year
Treasury Index,+ and 4.93% for the Lipper ARM Fund Average.++
* An AAAf rating means that the Trust's portfolio holdings and counterparties
provide extremely strong protection against losses from credit defaults. Ratings
are subject to change, and do not remove market risks.
** Bond funds rated Aaa by Moody's are judged to be of an investment quality
similar to Aaa-rated fixed income obligations, that is, they are judged to be of
the best quality. Ratings are subject to change, and do not remove market risks.
*** Data quoted represents past performance and is not indicative of future
results. Investment return and principal value will fluctuate, so when shares
are redeemed, they may be worth more or less than the original cost.
+ Merrill Lynch 1-Year and Merrill Lynch 2-Year Treasury Indexes are unmanaged
indexes tracking U.S. government securities. They are produced by Merrill
Lynch, Pierce, Fenner & Smith, Inc.
++ Lipper Averages represent the average total returns reported by all mutual
funds designated by Lipper Analytical Services as falling into the respective
categories indicated.
Federated ARMs Fund
Institutional Shares
GROWTH OF $25,000 INVESTED IN FEDERATED ARMS FUND
The graph below illustrates the hypothetical investment of $25,000* in
Federated ARMs Fund (Institutional Shares) (the "Trust") from August 31, 1988
to August 31, 1998 compared to the Lehman Brothers 1-3 Year Government Bond
Index (LB1-3GBI)+, the Lehman Brothers Adjustable Rate Mortgage Index
(LBARMI)+, and the Lipper Adjustable Rate Mortgage Funds Average (LARMFA)++.
[Graphic](see appendix)
PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE PERFORMANCE. YOUR INVESTMENT
RETURN AND PRINCIPAL VALUE WILL FLUCTUATE SO WHEN SHARES ARE REDEEMED, THEY
MAY BE WORTH MORE OR LESS THAN ORIGINAL COST. MUTUAL FUNDS ARE NOT
OBLIGATIONS OF OR GUARANTEED BY ANY BANK AND ARE NOT FEDERALLY INSURED.
This report must be preceded or accompanied by the Trust's prospectus dated
October 31, 1998, and, together with financial statements contained
therein, constitutes the Trust's annual report.
* The Trust's performance assumes the reinvestment of all dividends and
distributions. The LB1-3GBI, LBARMI, and the LARMFA have been adjusted to
reflect reinvestment of dividends on securities in the indices and the average.
** For this illustration, the LBARMI and the LARMFA began their performance on
1/31/92, in conjunction with the change in investment policy of the Trust. The
indices have been assigned a beginning value of $36,062, the value of the Trust
on 1/31/92.
+ The LB1-3GBI and the LBARMI are not adjusted to reflect sales charges,
expenses, or other fees that the SEC requires to be reflected in the Trust's
performance. The indices are unmanaged.
++ The LARMFA represents the average of the total returns reported by all of the
mutual funds designated by Lipper Analytical Services, Inc. as falling into the
category, and is not adjusted to reflect any sales charges. However, these
total returns are reported net of expenses or other fees that the SEC requires
to be reflected in a fund's performance.
Note: The Trust changed its investment policy from investing primarily in
intermediate and long-term U.S. Treasury securities to investing primarily
in adjustable rate U.S. government mortgage securities, effective 1/20/92.
Federated ARMs Fund
Institutional Service Shares
GROWTH OF $25,000 INVESTED IN FEDERATED ARMS FUND
The graph below illustrates the hypothetical investment of $25,000* in
Federated ARMs Fund (Institutional Service Shares) (the "Trust") from April
25, 1992 (start of performance) to August 31, 1998 compared to the Lehman
Brothers 1-3 Year Government Bond Index (LB1-3GBI)+, the Lehman Brothers
Adjustable Rate Mortgage Index (LBARMI)+, and the Lipper Adjustable Rate
Mortgage Funds Average (LARMFA)++.
[Graphic]
PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE PERFORMANCE. YOUR INVESTMENT
RETURN AND PRINCIPAL VALUE WILL FLUCTUATE SO WHEN SHARES ARE REDEEMED, THEY
MAY BE WORTH MORE OR LESS THAN ORIGINAL COST. MUTUAL FUNDS ARE NOT
OBLIGATIONS OF OR GUARANTEED BY ANY BANK AND ARE NOT FEDERALLY INSURED.
This report must be preceded or accompanied by the Trust's prospectus dated
October 31, 1998, and, together with financial statements contained therein,
constitutes the Trust's annual report.
* The Trust's performance assumes the reinvestment of all dividends and
distributions. The LB1-3GBI, LBARMI, and the LARMFA have been adjusted to
reflect reinvestment of dividends on securities in the indices and the
average.
+ The LB1-3GBI and the LBARMI are not adjusted to reflect sales charges,
expenses, or other fees that the SEC requires to be reflected in the Trust's
performance. The indices are unmanaged.
++ The LARMFA represents the average of the total returns reported by all of
the mutual funds designated by Lipper Analytical Services, Inc. as falling
into the category, and is not adjusted to reflect any sales charges. However,
these total returns are reported net of expenses or other fees that the SEC
requires to be reflected in a fund's performance.
[Graphic]
Federated Securities Corp., Distributor
Federated Investors, Inc.
Federated Investors Tower
1001 Liberty Avenue
Pittsburgh, PA 15222-3779
1-800-341-7400
www.federatedinvestors.com
Cusip 314082108
Cusip 314082207
G00567-01ARS (10/98)
[Graphic]
Appendix
A1. The graphic presentation displayed here consists of a line graph entitled
"Growth of $25,000 Invested in Federated ARMs Fund (Institutional Shares)". The
corresponding components of the line graph are listed in the upper left hand
corner. The Federated ARMs Fund (Institutional Shares) (the "Trust") is
represented by a solid line. The Lehman Brothers 1-3 Year Government Bond Index
(LB1-3GBI) is represented by a dotted line. The Lehman Brothers Adjustable Rate
Mortgage Index (LBARMI) is represented by a broken line and the Lipper
Adjustable Rate Mortgage Funds Average (LARMFA) is represented by a
dotted/broken line. The line graph is a visual representation of a comparison of
change in value of a $25,000 hypothetical investment in the Institutional Shares
of the Trust, the LB1-3GBI, LBARMI and the LARMFA. The "x" axis reflects
computation periods from 8/31/88 to 8/31/98. The "y" axis reflects the cost of
the investment, ranging from $24,000 to $64,000. The right margin reflects the
ending value of the hypothetical investment in the Trust's Institutional Shares
compared to the LB1-3GBI, LBARMI and the LARMFA. The ending values were $51,084,
$50,820, $62,623, and $53,553, respectively. The legend in the bottom quadrant
of the graphic presentation indicates the Trust's Institutional Share Average
Annual Total Returns for the one-year, five-year, ten-year periods ended 8/31/98
and from the Trust's start of performance (12/3/85) to 8/31/98. The total
returns were 5.13%, 5.11%, 7.41% and 6.64%, respectively.
A2. The graphic presentation displayed here consists of a line graph entitled
"Growth of $25,000 Invested in Federated ARMs Fund (Institutional Service
Shares)". The corresponding components of the line graph are listed in the upper
left hand corner. The Federated ARMs Fund (Institutional Service Shares) (the
"Trust") are represented by a solid line. The Lehman Brothers 1-3 Year
Government Bond Index (LB1-3GBI) is represented by a dotted line. The Lehman
Brothers Adjustable Rate Mortgage Index (LBARMI) is represented by a broken line
and the Lipper Adjustable Rate Mortgage Funds Average (LARMFA) is represented by
a dotted/broken line. The line graph is a visual representation of a comparison
of change in value of a $25,000 hypothetical investment in the Institutional
Shares of the Trust, the LB1-3GBI, LBARMI and the LARMFA. The "x" axis reflects
computation periods from 4/25/92 to 8/31/98. The "y" axis reflects the cost of
the investment, ranging from $25,000 to $37,000. The right margin reflects the
ending value of the hypothetical investment in the Trust's Institutional Shares
compared to the LB1-3GBI, LBARMI and the LARMFA. The ending values were $33,868,
$36,205, $36,641, and $31,625, respectively. The legend in the bottom quadrant
of the graphic presentation indicates the Trust's Institutional Service Share
Average Annual Total Returns for the one-year, five-year periods ended 8/31/98
and from the Trust's start of performance (4/25/92) to 8/31/98. The total
returns were 4.87%, 4.85%, and 4.90%, respectively
