1933 Act File No. 33-3165
1940 Act File No. 811-4579
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form N-1A
REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 X
Pre-Effective Amendment No. ....................
Post-Effective Amendment No. 44 ...................... X
and/or
REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940 X
Amendment No. 42 ..................................... X
Blanchard Funds
(Exact Name of Registrant as Specified in Charter)
Federated Investors Tower, Pittsburgh, Pennsylvania 15222-3779
(Address of Principal Executive Offices)
(412) 288-1900
(Registrant's Telephone Number)
John W. McGonigle, Esquire,
Federated Investors Tower,
Pittsburgh, Pennsylvania 15222-3779
(Name and Address of Agent for Service)
It is proposed that this filing will become effective:
immediately upon filing pursuant to paragraph (b)
_X on November 30, 1997, pursuant to paragraph (b)
60 days after filing pursuant to paragraph (a) (i) on pursuant to paragraph
(a) (i). 75 days after filing pursuant to paragraph (a)(ii) on
_________________ pursuant to paragraph (a)(ii) of Rule 485.
If appropriate, check the following box:
This post-effective amendment designates a new effective date for a
previously filed post-effective amendment.
Copies To:
Matthew G. Maloney, Esquire
Dickstein Shapiro Morin & Oshinsky LLP
2101 L Street, N.W.
Washington, D.C. 20037
<PAGE>
CROSS REFERENCE SHEET
This Amendment to the Registration Statement of Blanchard Funds, which consists
of six investment portfolios: (1) Blanchard Asset Allocation Fund; (2) Blanchard
Flexible Income Fund; (3) Blanchard Flexible Tax-Free Bond Fund; (4) Blanchard
Global Growth Fund; (5) Blanchard Growth & Income Fund; and (6) Blanchard
Short-Term Flexible Income Fund, relates to all portfolios with exception of
Blanchard Growth & Income Fund and is comprised of the following:
Part A. INFORMATION REQUIRED IN A PROSPECTUS.
Prospectus Heading
(Rule 404(c) Cross Reference)
Item 1. (1-6) Cover Page.
Item 2. (1-6) Summary of Fund Expenses.
Item 3. (1-6) Financial Highlights; (1) Performance Information; (5)
Performance Computation Information.
Item 4. (1) General Information; (1) Who May Want to Invest; (1)
Investment Information: (1) Investment Objective; (1)
Investment Policies; (1) Additional Risk Considerations; (1)
Investment Risks Associated With Investment in Equity and Debt
Securities; (1) Portfolio Turnover; (2-4,6) The Funds'
Investment Objectives and Policies; (2-4,6) Additional
Investment Information; (2-4,6)Certain Investment Strategies
and Policies; (2-4,6) Other Investment Policies; (5) Fund
Objective; (5) Investment Policies; (5) Investment Approach;
(5) Other Investment Practices; (5) Limiting Investment Risks;
(5) Risk Factors.
Item 5. (1) Blanchard Funds Information; (1-6) Management of the
Fund(s); (2-4,6) Portfolio Advisory Services; (2-4,6) The
Portfolio Advisers; (2-4,6) Distribution of Shares of the
Funds.
Item 6. (1) Effect of Banking Laws; (1) Shareholder Information;
(1) Tax Information; (2-4,6) Tax Matters; (2-6) Additional
Information About the Funds; (5) Additional Information about
the Fund and the Portfolio.
Item 7. (1-6) How to Invest; (1-6) Investor Services; (2-6)
Distribution of Shares of the Fund(s).
Item 8. (1-6) How to Redeem.
Item 9. (1-6) Not Applicable.
<PAGE>
Part B. INFORMATION REQUIRED IN A STATEMENT OF ADDITIONAL INFORMATION
Item 10. (1-6) Cover Page.
Item 11. (1-6) Table of Contents.
Item 12. (1) General Information About the Fund; (3,5-6) General
Information and History.
Item 13. (1-4,6) Investment Objective and Policies; (5) Investment
Objective, Policies and Restrictions; (2-4,6) Investment
Restrictions; (1) Investment Limitations.
Item 14. (1)Blanchard Asset Allocation Fund Management; (2-4,5)
Blanchard Funds Management; (5) The Management of the Fund.
Item 15. (1-6) Fund Ownership; (1-6) Trustees Compensation.
Item 16. (1) Investment Advisory Services; (2-6) Management Services;
(1-6) Distribution Plan; (1-6) Administrative Services; (1-6)
Transfer Agent; (1-6) Custodian; (1-6) Independent Auditors.
Item 17. (1) Brokerage Transactions; (2-6) Portfolio Transactions.
Item 18. (1) Massachusetts Partnership Law; (2-6) Description of the
Fund.
Item 19. (1) Determining Net Asset Value; (2-6) Computation of Net
Asset Value; (1) Purchasing Shares; (1) Redeeming Shares;
(2-6) Additional Purchase and Redemption Information.
Item 20. (1) Tax Status; (2-6) Tax Matters.
Item 21. (1-6) Not Applicable
Item 22. (1) Total Return; (1) Yield; (1) Performance Comparisons;
(2-6) Performance Information.
Item 23. (2-4,6) Incorporated herein by reference to the Funds' Annual
Reports for the fiscal year ended September 30, 1997
(File Nos. 33-3165 and 811-4579); (1) Filed in Part A; (5)
To be filed by Amendment.
BLANCHARD
GROUP OF FUNDS
BLANCHARD
ASSET ALLOCATION FUND
Prospectus
November 30, 1997
BLANCHARD
BLANCHARD ASSET ALLOCATION FUND
(A PORTFOLIO OF BLANCHARD FUNDS)
PROSPECTUS
The shares of Blanchard Asset Allocation Fund (the "Fund") offered by this
prospectus represent interests in a diversified portfolio in Blanchard Funds
(the "Trust"), an open-end management investment company (a mutual fund). The
Fund seeks to maximize total return over the long term by allocating its assets
among stocks, bonds, short-term instruments, and other investments.
INVESTMENT PRODUCTS ARE NOT DEPOSITS, OBLIGATIONS OF, OR GUARANTEED BY ANY
BANK. THEY ARE NOT INSURED BY THE FDIC. THEY INVOLVE RISK, INCLUDING THE
POSSIBLE LOSS OF PRINCIPAL INVESTED.
This prospectus contains the information you should read and know before you
invest in the Fund. Keep this prospectus for future reference.
The Fund has also filed a Statement of Additional Information dated November 30,
1997, with the Securities and Exchange Commission. 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 this copy electronically,
free of charge, by calling 1-800-829-3863. To obtain other information, or make
inquiries about the Fund, contact Signet Financial Services, Inc. at
1-800-829-3863. The Statement of Additional Information, material incorporated
by reference into this document and other information regarding the Fund, is
maintained electronically with the SEC at Internet Web site
(http://www.sec.gov).
The Board of Trustees of the Trust has approved an Agreement and Plan of
Reorganization, on behalf of the Fund, pursuant to which, on or about February
27, 1998, all of the assets, and certain liabilities of the Fund would be
acquired in exchange for shares of a similarly managed fund (the "Acquiring
Fund") that is advised by an affiliate of First Union Corporation. The
reorganization would result in the liquidation and termination of the Fund.
Pursuant to the reorganization, holders of Shares of the Fund would receive,
tax-free, that number of shares of the Acquiring Fund having a value equal to
the value of such shareholders' Shares immediately prior to the reorganization.
Consummation of the reorganization is subject to approval of the shareholders of
the Fund at a meeting scheduled to be held on February 20, 1998.
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
Prospectus dated November 30, 1997
TABLE OF CONTENTS
- --------------------------------------------------------------------------------
SUMMARY OF FUND EXPENSES 1 INVESTOR SERVICES 22
- ------------------------------------- ------------------------------------
FINANCIAL HIGHLIGHTS 2 Automatic Withdrawal Plan 22
- ------------------------------------- Retirement Plans 22
GENERAL INFORMATION 5 Exchange Privilege 23
- -------------------------------------
WHO MAY WANT TO INVEST 5 HOW TO REDEEM 23
- ------------------------------------- -------------------------------------
INVESTMENT INFORMATION 5 General Information 24
- ------------------------------------- ------------------------------------
Investment Objective 5 SHAREHOLDER INFORMATION 25
Investment Policies 5 -------------------------------------
Additional Risk Considerations 16 Voting Rights 25
Investment Risks Associated with
Investment in Equity and Debt EFFECT OF BANKING LAWS 25
Securities 17 -------------------------------------
Portfolio Turnover 17 TAX INFORMATION 26
- ------------------------------------- -------------------------------------
BLANCHARD FUNDS INFORMATION 17 Federal Income Tax 26
- -------------------------------------
Management of the Fund 17 PERFORMANCE INFORMATION 26
Distribution of Fund Shares 19 -------------------------------------
Administration of the Funds 20 Total Return 26
Yield Information 27
NET ASSET VALUE 20 Distribution Rate 27
- ------------------------------------- Comparative Results 27
HOW TO INVEST 21
- ------------------------------------- FINANCIALS 29
Purchases by Mail 21 -------------------------------------
General Information 22 INDEPENDENT AUDITORS' REPORT 37
-------------------------------------
ADDRESSES 38
-------------------------------------
BLANCHARD ASSET ALLOCATION FUND
SUMMARY OF FUND EXPENSES
- -------------------------------------------------------------------------------
SHAREHOLDER TRANSACTION EXPENSES
<TABLE>
<S> <C>
Maximum Sales Load Imposed on Purchases (as a percentage of offering
price).................................................................... None
Maximum Sales Load on Reinvested Dividends (as a percentage of offering
price).................................................................... None
Deferred Sales Load (as a percentage of original purchase price
or redemption proceeds, as applicable)................................... None
Redemption Fees (as a percentage of amount redeemed, if applicable)....... None
Exchange Fee.............................................................. None
</TABLE>
ANNUAL FUND OPERATING EXPENSES
(As a percentage of average net assets)
<TABLE>
<S> <C>
Management Fee (after waiver) (1)......................................... 0.00%
12b-1 Fees (2)............................................................ 0.00%
Other Expenses (after waivers) (3)........................................ 1.00%
Total Fund Operating Expenses (after waiver) (4)........................ 1.00%
</TABLE>
(1) The estimated management fee has been reduced to reflect the anticipated
voluntary waiver by the investment advisor. The advisor may terminate this
voluntary waiver at any time at its sole discretion. The maximum management
fee is 1.00%.
(2) The Fund has no present intention of paying or accruing 12b-1 fees during
the fiscal year ending September 30, 1998. If the Fund were paying or
accruing 12b-1 fees, the Fund would be able to pay up to 0.25% of its
average daily net assets.
(3) Other Expenses would be 5.90% absent the voluntary waivers of the custodian
fees, a portion of the administrative fees, and the assumption of other
operating expenses by the advisor.
(4) Total Annual Fund Operating Expenses would be 6.90%, absent the voluntary
waiver of the advisory fees, administrative fees, custodian fees, and the
assumption by the advisor described above in notes 1 and 3.
Total Operating expenses in the table above are based on expenses expected to
be incurred during the fiscal year ending September 30, 1998. The total
operating expenses were 1.00% for the fiscal year ended September 30, 1997 and
would have been 5.57% absent the waivers of the management fee, administrative
fee, custodian fee, and the assumption of other operating expenses by the
advisor.
THE PURPOSE OF THIS TABLE IS TO ASSIST AN INVESTOR IN UNDERSTANDING THE
VARIOUS COSTS AND EXPENSES THAT A SHAREHOLDER WILL BEAR EITHER DIRECTLY OR
INDIRECTLY. FOR MORE COMPLETE DESCRIPTIONS OF THE VARIOUS COSTS AND EXPENSES,
SEE "HOW TO INVEST." WIRE-TRANSFERRED REDEMPTIONS MAY BE SUBJECT TO AN
ADDITIONAL FEE.
LONG-TERM SHAREHOLDERS MAY PAY MORE THAN THE ECONOMIC EQUIVALENT OF THE
MAXIMUM FRONT-END SALES CHARGE PERMITTED UNDER THE RULES OF THE NATIONAL
ASSOCIATION OF SECURITIES DEALERS, INC.
<TABLE>
<S> <C> <C> <C> <C>
EXAMPLE 1 Year 3 Years 5 Years 10 Years
- ------- ------ ------- ------- --------
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. The Fund
charges no redemption
fees.......................................... $10 $32 $55 $122
</TABLE>
THE ABOVE EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTATION OF PAST OR
FUTURE EXPENSES. ACTUAL EXPENSES MAY BE GREATER OR LESS THAN THOSE SHOWN. THIS
EXAMPLE IS BASED ON ESTIMATED DATA FOR FISCAL YEAR ENDING SEPTEMBER 30, 1998.
BLANCHARD ASSET ALLOCATION FUND
FINANCIAL HIGHLIGHTS
- -------------------------------------------------------------------------------
(FOR A SHARE OUTSTANDING THROUGHOUT EACH PERIOD)
Reference is made to the Independent Auditors' Report on page 37.
<TABLE>
<CAPTION>
YEAR ENDED PERIOD ENDED
SEPTEMBER 30, SEPTEMBER 30,
1997 1996 (A)
- ------------------------------------------------- ------------- -------------
<S> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD $10.51 $10.00
- -------------------------------------------------
INCOME FROM INVESTMENT OPERATIONS
- -------------------------------------------------
Net investment income 0.61 0.17
- -------------------------------------------------
Net realized and unrealized gain on investments
and futures contracts 3.27 0.34
- ------------------------------------------------- ------ ------
Total from investment operations 3.88 0.51
- ------------------------------------------------- ------ ------
LESS DISTRIBUTIONS
- -------------------------------------------------
Distributions from net investment income (0.31) --
- -------------------------------------------------
Distributions from net realized gain on invest-
ments
and futures contracts (0.45) --
- ------------------------------------------------- ------ ------
Total distributions (0.76) --
- ------------------------------------------------- ------ ------
NET ASSET VALUE, END OF PERIOD $13.63 $10.51
- ------------------------------------------------- ------ ------
TOTAL RETURN (B) 38.64% 5.10%
- -------------------------------------------------
RATIOS TO AVERAGE NET ASSETS
- -------------------------------------------------
Expenses 1.00% 1.00%*
- -------------------------------------------------
Net investment income 5.08% 5.39%*
- -------------------------------------------------
Expense waiver/reimbursement (c) 4.57% 6.24%*
- -------------------------------------------------
SUPPLEMENTAL DATA
- -------------------------------------------------
Net assets, end of period (000 omitted) $4,669 $3,368
- -------------------------------------------------
Portfolio turnover 22% 33%
- -------------------------------------------------
</TABLE>
* Computed on an annualized basis.
(a) Reflects operations for the period from June 6, 1996 (date of initial public
investment) to September 30, 1996.
(b) Based on net asset value.
(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 January 24, 1986. 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. With respect to this Fund, as of the date of this
prospectus, the Board of Trustees (the "Board" or "Trustees") has not
established separate classes of shares. A minimum initial investment of $3,000
($2,000 for qualified retirement plans, such as IRAs and Keoghs) is required.
The minimum subsequent investment requirement for the Fund is $200. The Fund is
advised by Virtus Capital Management, Inc.
Fund shares are sold and redeemed at net asset value.
WHO MAY WANT TO INVEST
- -------------------------------------------------------------------------------
The Fund is designed for long-term investors who are willing to tolerate market
fluctuation in pursuit of potentially high long-term returns. Since the Fund
uses options and futures to gain additional economic exposure to the stock and
bond markets, Fund share prices can fluctuate significantly. When a shareholder
sells his or her shares, they may be worth more or less than what the
shareholder paid for them.
INVESTMENT INFORMATION
- -------------------------------------------------------------------------------
INVESTMENT OBJECTIVE
The investment objective of the Fund is to maximize total return over the long
term by allocating its assets among stocks, bonds, short-term instruments, and
other instruments. The investment objective cannot be changed without
shareholder approval. While there is no assurance that the Fund will achieve its
investment objective, it endeavors to do so by following the investment policies
described in this prospectus.
INVESTMENT POLICIES
The Fund's investment policies permit investments in any type of domestic
security (and in foreign equity securities that trade on the United States
securities exchanges, and foreign income securities that are denominated in U.S.
dollars), in any proportion deemed appropriate by Mellon Capital Management
Corporation (the "Portfolio Adviser"), except as noted below. In addition, the
Fund may invest in options and futures contracts. The Portfolio Adviser has
broad latitude in selecting the class of investments and market sectors in which
the Fund will invest. The Fund is not a "balanced" fund and, therefore, will not
be required to continually maintain at least 25% of its assets in fixed income
senior securities. Unlike shareholders of other types of funds, a shareholder of
the Fund confers substantially more investment discretion on the Portfolio
Adviser, enabling the Portfolio Adviser to allocate the Fund's investments among
a wide variety of investment choices.
In seeking to maximize total return, the Portfolio Adviser allocates the Fund's
investments principally among three major asset classes (as discussed below):
stocks, bonds, and short-term instruments.
Options and futures may be used, separately or in combination, to gain
additional economic exposure to an asset class. See "Derivative Contracts and
Securities" and "Futures and Options on Futures."
The Portfolio Adviser regularly reviews the Fund's investment allocation, and
will vary such allocation to emphasize the asset classes that, in the Portfolio
Adviser's then-current judgment, provide the most favorable total return
outlook. While the Fund's investments will generally be spread among the asset
classes in varying proportions, there is no limitation on the amount that may be
invested in any one asset class, and the Fund may at times be fully invested in
stocks, bonds, or short-term instruments if the Portfolio Adviser perceives
those asset classes to offer the most favorable total return outlook. In
addition, options and futures may be used to gain additional economic exposure
to an asset class.
In making asset allocation decisions, the Portfolio Adviser will evaluate
projections of risk, market conditions, economic conditions, volatility, yields,
and returns, among others. The Portfolio Adviser seeks to diversify the Fund's
holdings within each asset class, in order to moderate risks. The Portfolio
Adviser will use database systems to help analyze past situations and trends,
portfolio management professionals to determine asset allocation, and its own
credit analysis as well as credit analyses provided by rating services.
The Fund seeks total return over the long term; however, asset shifts among
classes will be made at the Portfolio Adviser's discretion.
The short-term instrument class includes all types of securities and short-term
instruments with remaining maturities of three years or less. The Portfolio
Adviser will seek to maximize total return within the short-term instrument
class by taking advantage of yield differentials between different instruments
and issuers. Short-term instruments may include corporate debt securities such
as commercial paper and notes; asset-backed securities; government securities
issued by the United States government or its agencies or instrumentalities;
bank deposits and other financial institution obligations; repurchase agreements
involving any type of security; and other similar short-term instruments. These
instruments must be denominated in United States dollars.
The bond class includes all varieties of domestic fixed-income securities. The
Portfolio Adviser seeks to maximize total returns within the bond class by
adjusting the Fund's investments in securities with different credit qualities,
maturities, and coupon or dividend rates, and by seeking to take advantage of
yield differentials between securities. Securities in this class may include
bonds, notes, adjustable rate preferred stocks, convertible bonds,
mortgage-related and asset-backed securities, domestic government and government
agency securities, zero coupon bonds, and other intermediate and long-term
securities. As with the short-term class, these securities must be denominated
in United States dollars.
At no time will more than 20% of the Fund's assets in any asset category be
invested in foreign securities.
The stock class consists of a diversified portfolio of common stocks selected by
the Portfolio Adviser from those stocks which trade on the United States
securities exchanges, including those stocks which comprise the Standard &
Poor's 500 Composite Stock Price Index* (the "S&P 500 Index"), although the Fund
does not track the S&P 500 Index or attempt to track the S&P 500 Index's returns
by holding a representative sample of this Index.
The Fund may buy and sell options and futures contracts to manage its exposure
to changing security prices, as an efficient means of managing allocations
between asset classes and as a means of increasing total return. The Fund may
invest in options and futures based on any type of security or index, including
options and futures not traded on exchanges.
Some options and futures strategies, including selling futures, buying puts, and
writing calls, tend to hedge the Fund's investments against price fluctuations.
Other strategies including buying futures, writing puts, and buying calls, tend
to increase market exposure. Options and futures may be combined with each other
or with forward contracts, in order to adjust the risk and return
characteristics of an overall strategy.
In addition to strategies designed to hedge its portfolio, the Fund may purchase
put options or write call options on United States stock indexes and government
securities to attempt to profit from declines in stock or bond prices. The
Adviser may enter into these strategies when it anticipates negative returns
from the underlying stock or bond markets. If prices do not decline as
anticipated, the Fund may experience losses from short strategies that are not
offset by gains from its other investments.
CORPORATE DEBT SECURITIES. The corporate bonds, notes, and convertible debt
securities in which the Fund may invest must be rated, at the time of purchase,
BBB or better by Standard and Poor's Ratings Group ("S&P"), or Fitch Investors
Services ("Fitch"), or Baa or better by Moody's Investors Service, Inc.
(Moody's), or, if unrated, be of comparable quality as determined by the Fund's
adviser. (If a security's rating is reduced below the required minimum after the
Fund has purchased it, the Fund is not required to sell the security, but may
consider doing so.) Bonds rated "BBB" by Standard & Poor's or Fitch or "Baa" by
Moody's have speculative characteristics. Changes in economic conditions or
other circumstances are more likely to lead to a weakened capacity to make
principal and interest payments than higher rated bonds.
COMMERCIAL PAPER. The Fund may invest in commercial paper rated A-1 by S&P, or
Prime-1 by Moody's, or F-1 by Fitch and money market instruments (including
commercial paper) which are unrated but of comparable quality, including
Canadian Commercial Paper ("CCPs") and Europaper.
CONVERTIBLE SECURITIES. The Fund may invest in convertible securities.
Convertible securities are fixed income securities which may be exchanged or
converted into a predetermined number of the issuer's underlying common stock at
the option of the holder during a specified time period. Convertible securities
may take the form of convertible preferred stock, convertible bonds or
debentures, units consisting of "usable" bonds and warrants or a combination of
the features of several of these securities.
ZERO COUPON SECURITIES. The Fund may invest in zero coupon bonds and zero
coupon convertible securities. The Fund may invest in zero coupon bonds in
order to receive the rate of return through the appreciation of the bond. This
application is extremely attractive in a falling rate environment as the price
of the bond rises rapidly in value as opposed to regular coupon bonds. A zero
coupon bond makes no periodic interest payments and the entire obligation
becomes due only upon maturity.
- --------
* "Standard & Poor's(R)", "S&P(R)", and "S&P 500(R)" and "Standard & Poor's 500"
are trademarks of McGraw Hill, Inc. and have been licensed for use by Mellon
Capital Management Corporation ("MCM").
The Fund is not sponsored, endorsed, sold or promoted by Standard & Poor's
("S&P"). S&P makes no representation or warranty, express or implied, to the
owners of the Fund or any member of the public
Zero coupon convertible securities are debt securities which are issued at a
discount to their face amount and do no entitle the holder to any periodic
payments of interest prior to maturity. Rather, interest earned on zero coupon
convertible securities accretes at a stated yield until the security reaches its
face amount at maturity. Zero coupon convertible securities are convertible into
a specific number of shares of the issuer's common stock. In addition, zero
coupon convertible securities usually have put features that provide the holder
with the opportunity to sell the bonds to the issuer at a stated price before
maturity.
Generally, the price of zero coupon securities are more sensitive to
fluctuations in interest than are conventional bonds and convertible securities.
In addition, federal tax law requires the holder of a zero coupon security to
recognize income from the security prior to the receipt of cash payments. To
maintain its qualification as a regulated investment company and to avoid
liability of federal income taxes, the Fund will be required to distribute
income accrued from zero coupon securities which it owns, and may have to sell
portfolio securities (perhaps at disadvantageous times) in order to generate
cash to satisfy these distribution requirements.
BANK INSTRUMENTS. The Fund may invest in instruments of domestic and foreign
banks and savings and loans (such as certificates of deposit, demand and time
deposits, savings shares, and bankers' acceptances) if they have capital,
surplus, and undivided profits over $100,000,000, or if the principal amount
of the instrument is insured by the Bank Insurance Fund ("BIF"), which is
administered by the Federal Deposit Insurance Corporation ("FDIC") or the
Savings Association Insurance Fund ("SAIF"), which is administered by the
FDIC. These instruments may include Eurodollar Certificates of Deposit
("ECDs"), Yankee Certificates of Deposit ("Yankee CDs"), and Eurodollar Time
Deposits ("ETDs").
- --------
Footnote continued from page 5.
regarding the advisability of investing in securities generally or in the Fund
particularly or the ability of the S&P 500 Index to track general stock market
performance. S&P's only relationship to MCM is the licensing of certain
trademarks and trade names of S&P and of the S&P 500 Index which is determined,
composed and calculated by S&P without regard to MCM or the Fund. S&P has no
obligation to take the needs of MCM or the owners of the Fund into
consideration in determining, composing or calculating the S&P 500 Index. S&P
is not responsible for and has not participated in the determination of the
prices and amount of the Fund or the timing of the issuance or sale of the Fund
or in the determination or calculation of the equation by which the Fund is to
be converted into cash. S&P has no obligation or liability in connection with
the administration, marketing or trading of the Fund.
S&P DOES NOT GUARANTEE THE ACCURACY AND/OR THE COMPLETENESS OF THE S&P 500
INDEX OR ANY DATA INCLUDED THEREIN AND S&P SHALL HAVE NO LIABILITY FOR ANY
ERRORS, OMISSIONS, OR INTERRUPTIONS THEREIN. S&P MAKES NO WARRANTY, EXPRESS OR
IMPLIED, AS TO RESULTS TO BE OBTAINED BY MCM, OWNERS OF THE FUND, OR ANY OTHER
PERSON OR ENTITY FROM THE USE OF THE S&P 500 INDEX OR ANY DATA INCLUDED
THEREIN. S&P MAKES NO EXPRESS OR IMPLIED WARRANTIES, AND EXPRESSLY DISCLAIMS
ALL WARRANTIES OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE OR USE
WITH RESPECT TO THE S&P 500 INDEX OR ANY DATA INCLUDED THEREIN. WITHOUT
LIMITING ANY OF THE FOREGOING, IN NO EVENT SHALL S&P HAVE ANY LIABILITY FOR ANY
SPECIAL, PUNITIVE, INDIRECT, OR CONSEQUENTIAL DAMAGES (INCLUDING LOST PROFITS),
EVEN IF NOTIFIED OF THE POSSIBILITY OF SUCH DAMAGES.
AMERICAN DEPOSITORY RECEIPTS ("ADRS"). The Fund may invest in ADRs. ADRs are
receipts typically issued by an American bank or trust company that evidence
ownership of underlying securities issued by a foreign issuer.
FLOATING RATE CORPORATE DEBT OBLIGATIONS. The Fund expects to invest in floating
rate corporate debt obligations, including increasing rate securities. Floating
rate securities are generally offered at an initial interest rate which is at or
above prevailing market rates. The interest rate paid on these securities is
then reset periodically (commonly every 90 days) to an increment over some
predetermined interest rate index. Commonly utilized indices include the
three-month Treasury bill rate, the six-month Treasury bill rate, the one-month
or three-month London Interbank Offered Rate (LIBOR), the prime rate of a bank,
the commercial paper rates, or the longer-term rates on U.S. Treasury
securities.
Increasing rate securities, which currently do not make up a significant share
of the market in corporate debt securities, are generally offered at an initial
interest rate which is at or above prevailing market rates. Interest rates are
reset periodically (most commonly every 90 days) at different levels on a
predetermined scale. These levels of interest are ordinarily set at
progressively higher increments over time. Some increasing rate securities may,
by agreement, revert to a fixed rate status. These securities may also contain
features which allow the issuer the option to convert the increasing rate of
interest to a fixed rate under such terms, conditions, and limitations as are
described in each issue's prospectus.
FIXED RATE CORPORATE DEBT OBLIGATIONS. The Fund will also invest in fixed rate
securities, including fixed rate securities with short-term characteristics.
Fixed rate securities with short-term characteristics are long-term debt
obligations but are treated in the market as having short maturities because
call features of the securities may make them callable within a short period of
time. A fixed rate security with short-term characteristics would include a
fixed income security priced close to call or redemption price or a fixed income
security approaching maturity, where the expectation of call or redemption is
high.
Fixed rate securities tend to exhibit more price volatility during times of
rising or falling interest rates than securities with floating rates of
interest. This is because floating rate securities, as described above, behave
like short-term instruments in that the rate of interest they pay is subject to
periodic adjustments based on a designated interest rate index. Fixed rate
securities pay a fixed rate of interest and are more sensitive to fluctuating
interest rates. In periods of rising interest rates, the value of a fixed rate
security is likely to fall. Fixed rate securities with short-term
characteristics are not subject to the same price volatility as fixed rate
securities without such characteristics. Therefore, they behave more like
floating rate securities with respect to price volatility.
VARIABLE RATE DEMAND NOTES. The Fund may purchase variable rate demand notes.
Variable rate demand notes are long-term corporate debt instruments that have
variable or floating interest rates and provide the Fund with the right to
tender the security for repurchase at its stated principal amount plus accrued
interest. Such securities typically bear interest at a rate that is intended to
cause the securities to trade at par. The interest rate may float or be adjusted
at regular intervals (ranging from daily to annually), and is normally based on
a published interest rate or interest rate index. Many variable rate demand
notes allow the Fund to demand the repurchase of the security on not more than
seven days prior notice. Other notes only permit the Fund to tender the security
at the time of each interest rate adjustment or at other fixed intervals. See
"Demand Features."
U.S. GOVERNMENT SECURITIES. The Fund may invest in U.S. government securities,
which generally include direct obligations of the U.S. Treasury (such as U.S.
Treasury bills, notes, and bonds) and obligations (including mortgage-backed
securities, bonds, notes and discount notes) issued or guaranteed by the
following U.S. government agencies or instrumentalities: Farm Credit System,
including the National Bank for Cooperatives, Farm Credit Banks, and Banks for
Cooperatives; Farmers Home Administration; Federal Home Loan Banks; Federal Home
Loan Mortgage Corporation; Federal National Mortgage Association; Government
National Mortgage Association; and Student Loan Marketing Association. These
securities are backed by: the full faith and credit of the U.S. Treasury; the
issuer's right to borrow an amount limited to a specific line of credit 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, the securities of which are
permissible investments which may not always receive financial support from the
U.S. government are: 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.
MORTGAGE-BACKED SECURITIES. The Fund may invest in mortgage-backed securities
rated BBB or Baa or better by a nationally recognized statistical rating
organization, or which are of comparable quality in the judgment of the Adviser.
Mortgage-backed securities are securities that directly or indirectly represent
a participation in, or are secured by and payable from, mortgage loans on real
property.) There are currently four basic types of mortgagebacked securities:
(i) those issued or guaranteed by the U.S. government or one of its agencies or
instrumentalities, such as Government National Mortgage Association ("Ginnie
Mae"), the Federal National Mortgage Association ("Fannie Mae") and Federal Home
Loan Mortgage Corporation ("Freddie Mac"); (ii) those issued by private issuers
that represent an interest in or are collateralized by mortgage-backed
securities issued or guaranteed by the U.S. government or one of its agencies or
instrumentalities; (iii) those issued by private issuers that represent an
interest in or are collateralized by whole loans or mortgage-backed securities
without a government guarantee but usually having some form private credit
enhancement; and (iv) 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.
The privately issued mortgage-related securities provide for a periodic payment
consisting of both interest and/or principal. The interest portion of these
payments will be distributed by the Fund as income, and the capital portion will
be reinvested.
ADJUSTABLE RATE MORTGAGE SECURITIES ("ARMS"). The Fund may invest in ARMS.
ARMS are pass-through mortgage-backed securities with adjustable rather than
fixed interest rates. The ARMS in which the Fund invests are issued by Ginnie
Mae, Fannie Mae, and Freddie Mac and are actively traded. The underlying
mortgages which collateralize ARMS issued by Ginnie Mae are fully guaranteed
by the Federal Housing Administration or Veterans Administration, while those
collateralizing ARMS issued by Fannie Mae or Freddie Mac are typically
conventional residential mortgages conforming to strict underwriting size and
maturity constraints.
COLLATERALIZED MORTGAGE OBLIGATIONS ("CMOS"). The Fund may invest in CMOs.
CMOs are debt obligations collateralized by mortgage loans or mortgage
pass-through securities.
Typically, CMOs are collateralized by Ginnie Mae, Fannie Mae or Freddie Mac
certificates, but may be collateralized by whole loans or private pass-through
securities. CMOs may have fixed or floating rates of interest.
The Fund will invest only in CMOs that are rated BBB or Baa or better by a
nationally recognized statistical rating organization. The Fund may also
invest in certain CMOs which are issued by private entities such as investment
banking firms and companies related to the construction industry. The CMOs in
which the Fund may invest may be: (i) 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;
(ii) securities which are 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; (iii)
collateralized by pools of mortgages in which payment of principal and
interest is dependent upon the underlying pool of mortgages with no U.S.
government guarantee; or (iv) other securities in which the proceeds of the
issuance are invested in mortgagebacked securities and payment of the
principal and interest is supported by the credit of any agency or
instrumentality of the U.S.
government.
REAL ESTATE MORTGAGE INVESTMENT CONDUITS ("REMICS"). The Fund may invest in
REMICs. REMICs are offerings of multiple class mortgage-backed securities
which qualify and elect treatment as such under provisions of the Internal
Revenue Code, as amended. Issuers of REMICs may take several forms, such as
trusts, partnerships, corporations, associations, or segregated pools 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 of interest, and a single class of
"residual interests." To qualify as a REMIC, substantially all the assets of
the entity must be in assets directly or indirectly secured principally by
real property.
ASSET-BACKED SECURITIES. The Fund may invest in asset-backed securities.
Asset-backed securities have structural characteristics similar to
mortgage-backed securities but have underlying assets that generally are not
mortgage loans or interests in mortgage loans. The Fund may invest in
asset-backed securities rated BBB or Baa or better by a nationally recognized
statistical rating organization including, but not limited to, interests in
pools of receivables, such as motor vehicle installment obligations and credit
card receivables, equipment leases, manufactured housing (mobile home) leases,
or home equity loans. These securities may be in the form of pass-through
instruments or asset-backed bonds. The securities are issued by nongovernmental
entities and carry no direct or indirect government guarantee.
INVESTMENT RISKS OF MORTGAGE-BACKED AND ASSET-BACKED SECURITIES. Mortgage-
backed and asset-backed securities generally pay back principal and interest
over the life of the security. At the time the Fund reinvests the payments and
any unscheduled prepayments of principal received, the Fund may receive a rate
of interest which is actually lower than the rate of interest paid on these
securities ("prepayment risks"). Mortgage-backed and asset-backed securities are
subject to higher prepayment risks than most other types of debt instruments
with prepayment risks because the underlying mortgage loans or the collateral
supporting asset-backed securities may be prepaid without penalty or premium.
Prepayment risks on mortgage-backed securities tend to increase during periods
of declining mortgage interest rates because many borrowers refinance their
mortgages to take advantage of the more favorable rates. Prepayments on
mortgage-backed securities are also affected by other factors, such as the
frequency with which people sell their homes or elect to make unscheduled
payments on their mortgages. Although asset-backed securities generally are less
likely to experience substantial prepayments than are mortgage-backed
securities, certain factors that affect the rate of prepayments on
mortgage-backed securities also affect the rate of prepayments on asset-backed
securities.
While mortgage-backed securities generally entail less risk of a decline during
periods of rapidly rising interest rates, mortgage-backed securities 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 mortgage-backed securities 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
mortgage-backed securities 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.
Asset-backed securities present certain risks that are not presented by
mortgage-backed securities. Primarily, these securities do not have the benefit
of the same security interest in the related collateral. Credit card receivables
are generally unsecured and the debtors are entitled to the protection of a
number of state and federal consumer credit laws, many of which give such
debtors the right to set off certain amounts owed on the credit cards, thereby
reducing the balance due. Most issuers of assetbacked securities backed by motor
vehicle installment purchase obligations permit the servicer of such receivables
to retain possession of the underlying obligations. If the servicer sells these
obligations to another party, there is a risk that the purchaser would acquire
an interest superior to that of the holders of the related asset-backed
securities. Further, if a vehicle is registered in one state and is then
re-registered because the owner and obligor moves to another state, such
re-registration could defeat the original security interest in the vehicle in
certain cases. In addition, because of the large number of vehicles involved in
a typical issuance and technical requirements under state laws, the trustee for
the holders of asset-backed securities backed by automobile receivables may not
have a proper security interest in all of the obligations backing such
receivables. Therefore, there is the possibility that recoveries on repossessed
collateral may not, in some cases, be available to support payments on these
securities.
SHORT-TERM INSTRUMENTS. The Fund may invest in U.S. and foreign short-term
money market instruments, including:
. commercial paper rated A-1 or A-2 by S&P, Prime-1 or Prime-2 by Moody's, or
F-1 or F-2 by Fitch, and Europaper (dollar-denominated commercial paper
issued outside the United States) rated A-1, A-2, Prime-1, or Prime-2;
. instruments of domestic and foreign banks and savings and loans (such as
certificates of deposit, demand and time deposits, savings shares, and
bankers' acceptances) if they have capital, surplus, and undivided profits
of over $100,000,000, or if the principal amount of the instrument is
insured by the Bank Insurance Fund, which is administered by the Federal
Deposit Insurance Corporation ("FDIC"), or the Savings Association
Insurance Fund, which is also administered by the FDIC. These instruments
may include Eurodollar Certificates of Deposit ("ECDs"), Yankee
Certificates of Deposit ("Yankee CDs"), and Eurodollar Time Deposits
("ETDs");
. obligations of the U.S. government or its agencies or instrumentalities;
. repurchase agreements;
. securities of other investment companies; and
. other short-term instruments which are not rated but are determined by
the Adviser to be of comparable quality to the other obligations in which
the Fund may invest.
OPTIONS TRANSACTIONS. The Fund may engage in options transactions. The Fund may
purchase and sell options both to increase total return and to hedge against the
effect of changes in the value of portfolio securities due to anticipated
changes in interest rates and market conditions.
The Fund may write (i.e., sell) covered call options and covered put options. By
writing a call option, the Fund becomes obligated during the term of the option
to deliver the securities underlying the option upon payment of the exercise
price. By writing a put option, the Fund becomes obligated during the term of
the option to purchase the securities underlying the option at the exercise
price if the option is exercised.
All options written by the Fund must be "covered" options. This means that, so
long as the Fund is obligated as the writer of a call option, it will own the
underlying securities subject to the option (or in the case of call options on
U.S. Treasury bills, substantially similar securities) or have the right to
obtain such securities without payment of further consideration (or have the
right to sell the underlying securities without payment of further
consideration, or have segregated cash in the amount of any additional
consideration).
The Fund will be considered "covered" with respect to a put option it writes, if
so long as it is obligated as the writer of the put option, it deposits and
maintains with its custodian in a segregated account liquid assets having a
value equal to or greater than the exercise price of the option (or has the
right to purchase a put option with an exercise price equal to or greater than
the exercise price of the written put option).
The principal reason for writing call or put options is to manage price
volatility (or risk). In addition, the Fund will attempt to obtain, through a
receipt of premiums, a greater current return than would be realized on the
underlying securities alone. The Fund receives a premium from writing a call or
put option which it retains whether or not the option is exercised. By writing a
call option, the Fund might lose the potential for gain on the underlying
security while the option is open, and by writing a put option, the Fund might
become obligated to purchase the underlying security for more than its current
market price upon exercise. The Fund will write put options only on securities
which the Fund wishes to have in its portfolio and where the Fund has
determined, as an investment consideration, that it is willing to pay the
exercise price of the option.
The Fund may purchase put options and call options. Such investments in put and
call options may not exceed 5% of the Fund's assets, represented by the premium
paid, and will only relate to specific securities (or groups of specific
securities) in which the Fund may invest. The Fund may purchase call and put
options for the purpose of offsetting previously written call and put options of
the same series.
If the Fund is unable to effect a closing purchase transaction with respect to
covered options it has written, the Fund will not be able to sell the underlying
securities or dispose of assets held in a segregated account until the options
expire or are exercised. Put options may also be purchased to protect against
price movements in particular securities in the Fund's portfolio. A put option
gives the Fund, in return for a premium, the right to sell the underlying
securities to the writer (seller) at a specified price during the term of the
option. The Fund will purchase options only to the extent permitted by the
policies of state securities authorities in states where shares of the Fund is
qualified for offer and sale.
The Fund may generally purchase and write over-the-counter options on portfolio
securities in negotiated transactions with the buyers or writers of the options
since options on the portfolio securities held by the Fund are not traded on an
exchange. The Fund purchases and writes options only with investment dealers and
other financial institutions (such as commercial banks or savings and loan
associations) deemed creditworthy by the Fund's investment adviser.
Over-the-counter options are two-party contracts with price and terms negotiated
between buyer and seller. In contrast, exchange-traded options are third-party
contracts with standardized strike prices and expiration dates and are purchased
from a clearing corporation. Exchange-traded options have a continuous liquid
market while over-the-counter options may not.
FUTURES AND OPTIONS ON FUTURES. The Fund may purchase and sell futures contracts
to hedge against the effect of changes in the value of portfolio securities due
to anticipated changes in interest rates and market conditions. In addition, the
Fund may use futures contracts as a means of increasing total return. Futures
contracts call for the delivery of particular instruments at a certain time in
the future. These instruments may include interest rate instruments, fixed
income securities, Eurodollars, or contracts based on stock indices. The seller
of the contract agrees to make delivery of the type of instrument called for in
the contract, and the buyer agrees to take delivery of the instrument at the
specified future time.
Stock index futures contracts are based on indices that reflect the market value
of common stock of the firms included in the indices. An index future contract
is an agreement to which two parties agree to take or make delivery of an amount
of cash equal to the difference between the value of the index at the close of
the last trading day of the contract and the price at which the index contract
was originally written.
The Fund may also write call options and purchase put options on futures
contracts as a hedge to attempt to protect securities in its portfolio against
decreases in value. When the Fund writes a call option on a futures contract, it
is undertaking the obligation of selling a futures contract at a fixed price at
any time during a specified period if the option is exercised. Conversely, as
purchaser of a put option on a futures contract, the Fund is entitled (but not
obligated) to sell a futures contract at the fixed price during the life of the
option.
The Fund may also write put options and purchase call options on futures
contracts as hedges against rising purchase prices of portfolio securities. The
Fund will use these transactions to attempt to protect its ability to purchase
portfolio securities in the future at price levels existing at the time it
enters into the transactions. When the Fund writes a put option on a futures
contract, it is undertaking to buy a particular futures contract at a fixed
price at any time during a specified period if the option is exercised. As a
purchaser of a call option on a futures contract, the Fund is entitled (but not
obligated) to purchase a futures contract at a fixed price at any time during
the life of the option.
The Fund may not purchase or sell futures contracts or related options if
immediately thereafter the sum of the amount of margin deposits on the Fund's
existing futures positions and premiums paid for related options would exceed 5%
of the market value of the Fund's total assets. In addition, certain provisions
of the Internal Revenue Code of 1986, as amended (the "Code"), may limit the
Fund's use of futures contracts and options. When the Fund purchases futures
contracts, an amount of cash and cash equivalents, equal to the underlying
commodity value of the futures contracts (less any related margin deposits),
will be deposited in a segregated account with the Fund's custodian (or the
broker, if legally permitted) to collateralize the position and thereby insure
that the use of such futures contract is unleveraged. When the Fund sells
futures contracts, it will either own or have the right to receive the
underlying future or security, or will make deposits to collateralize the
position as discussed above.
RISKS. When the Fund uses futures and options on futures as hedging devices,
there is a risk that the prices of the securities subject to the futures
contracts may not correlate perfectly with the prices of the securities in the
Fund's portfolio. This may cause the futures contract and any related options
to react differently than the portfolio securities to market changes. In
addition, the Fund's investment adviser could be incorrect in its expectations
about the direction or extent of market factors such as stock price movements.
In these events, the Fund may lose money on the futures contract or option.
It is not certain that a secondary market for positions in futures contracts
or for options will exist at all times. Although the investment adviser will
consider liquidity before entering into these transactions, there is no
assurance that a liquid secondary market on an exchange or otherwise will
exist for any particular futures contract or option at any particular time. A
Fund's ability to establish and close out futures and options positions
depends on this secondary market.
SHORT SELLING. The Fund may make short sales with respect to futures, pursuant
to a fundamental policy. Short sales are transactions in which the Fund sells a
security it does not own in anticipation of a decline in the market value of
that security. To complete such a transaction, the Fund must borrow the security
to make delivery to the buyer. The Fund then is obligated to replace the
security borrowed by purchasing it at the market price at the time of
replacement. The price at such time may be more or less than the price at which
the security was sold by the Fund. Until the security is replaced, the Fund is
required to pay to the lender amounts equal to any dividends or interest which
accrue during the period of the loan. To borrow the security, the Fund also may
be required to pay a premium, which would increase the cost of the security
sold. The proceeds of the short sale will be retained by the broker, to the
extent necessary to meet margin requirements, until the short position is closed
out.
Until the Fund replaces a borrowed security in connection with a short sale, the
Fund will be required to maintain a daily segregated account, containing cash or
U.S. government securities, at such a level that (i) the amount deposited in the
account plus the amount deposited with the broker as collateral will at all
times equal to at least 100% of the current value of the security sold short and
(ii) the amount deposited in the segregated account plus the amount deposited
with the broker as collateral will not be less than the market value of the
security at the time it was sold short.
SPECIAL RISKS ASSOCIATED WITH SHORT SELLING. The Fund will incur a loss as a
result of the short sale if the price of the security increases between the
date of the short sale and the date on which the Fund replaces the borrowed
security; conversely, the Fund will realize a gain if the security declines in
price between those dates. This result is the opposite of what one would
expect from a cash purchase of a long position in a security. The amount of
any gain will be decreased, and the amount of any loss increased, by the
amount of any premium or amounts in lieu of interest the Fund may be required
to pay in connection with a short sale.
LEVERAGE THROUGH BORROWING. The Fund may borrow for investment purposes
pursuant to a fundamental policy. This borrowing, which is known as
leveraging, generally will be unsecured, except to the extent the Fund enters
into the reverse repurchase agreements described below. The Investment Company
Act of 1940 requires the Fund to maintain continuous asset coverage (that is,
total assets including borrowings, less liabilities exclusive of borrowings)
of 300% of the amount borrowed. If the 300% asset coverage should decline as a
result of market fluctuations or other reasons, the Fund may be required to
sell some of its portfolio holdings within three days to reduce the debt and
restore the 300% asset coverage, even though it may be disadvantageous from an
investment standpoint to sell securities at that time.
SPECIAL RISKS ASSOCIATED WITH LEVERAGING. Borrowing by the Fund creates an
opportunity for increased net income but, at the same time, creates special
risk considerations. For example, leveraging may exaggerate the effect on net
asset value of any increase or decrease in the market value of the Fund's
portfolio. To the extent the income derived from securities purchased with
borrowed funds exceeds the interest the Fund will have to pay, the Fund's net
income will be greater than if borrowing were not used. Conversely, if the
income from the assets retained with borrowed funds is not sufficient to cover
the cost of borrowing, the net income of the Fund will be less than if
borrowing were not used, and, therefore, the amount available for distribution
to shareholders as dividends will be reduced. The Fund also may be required to
maintain minimum average balances in connection with such borrowing or to pay
a commitment or other fee to maintain a line of credit; either of these
requirements would increase the cost of borrowing over the stated interest
rate.
Among the forms of borrowing in which the Fund may engage is the entry into
reverse repurchase agreements with banks, brokers or dealers. These transactions
involve the transfer by the Fund of an underlying debt instrument in return for
cash proceeds based on a percentage of the value of the security. The Fund
retains the right to receive interest and principal payments on the security. At
an agreed upon future date, the Fund repurchases the security at an agreed-upon
price. In certain types of agreements, there is no agreed upon repurchase date,
and interest payments are calculated daily, often based on the prevailing U.S.
government securities or other high-quality liquid debt securities at least
equal to the aggregate amount of its reverse repurchase obligations, plus
accrued interest, in certain cases, in accordance with releases promulgated by
the Securities and Exchange Commission. The Securities and Exchange Commission
views reverse repurchase transactions as collateralized borrowings by the Fund.
These agreements, which are treated as if reestablished each day, are expected
to provide the Fund with a flexible borrowing tool.
REPURCHASE AGREEMENTS. The securities in which the Fund invests may be purchased
pursuant to repurchase agreements. Repurchase agreements are arrangements in
which banks, broker/dealers, and other recognized financial institutions sell
securities to the Fund and agree at the time of sale to repurchase them at a
mutually agreed upon time and price. To the extent that the original seller does
not repurchase the securities from the Fund, the Fund could receive less than
the repurchase price on any sale of such securities.
INVESTING IN SECURITIES OF OTHER INVESTMENT COMPANIES. The Fund may invest in
the securities of other investment companies, but will not own more than 3% of
the total outstanding voting stock of any investment company, invest more than
5% of total assets in any one investment company, or invest more than 10% of
total assets in investment companies in general. The Fund will invest in other
investment companies primarily for the purpose of investing short-term cash
which has not yet been invested in other portfolio instruments. It should be
noted that investment companies incur certain expenses such as management fees
and, therefore, any investment by the Fund in shares of another investment
company would be subject to such duplicate expenses. VCM will waive its
investment advisory fee on assets invested in securities of open-end investment
companies.
WHEN-ISSUED AND DELAYED DELIVERY TRANSACTIONS. The Fund may purchase securities
on a when-issued or delayed delivery basis. These transactions are arrangements
in which the Fund purchases securities with payment and delivery scheduled for a
future time. The seller's failure to complete these transactions may cause the
Fund 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
value of the securities purchased may vary from the purchase prices.
Accordingly, the Fund may pay more or less than the market value of the
securities on the settlement date.
The Fund may dispose of a commitment prior to settlement if the Portfolio
Adviser deems it appropriate to do so. In addition, the Fund 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 Fund may realize short-term profits or losses
upon the sale of such commitments.
LENDING OF PORTFOLIO SECURITIES. In order to generate additional income, the
Fund may lend portfolio securities on a short-term or long-term basis, to
broker/dealers, banks, or other institutional borrowers of securities. The Fund
will only enter into loan arrangements with broker/dealers, banks, or other
institutions which the Portfolio Adviser has determined are creditworthy under
guidelines established by the 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 at all times. This policy is fundamental and cannot be changed
without the approval of holders of a majority of the Fund's shares.
There is the risk that when lending portfolio securities, the securities may not
be available to the Fund on a timely basis and the Fund 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.
RESTRICTED AND ILLIQUID SECURITIES. The Fund may invest in restricted
securities. Restricted securities are any securities in which the Fund may
otherwise invest pursuant to its investment objective and policies but which are
subject to restrictions on resale under federal securities law. However, the
Fund will limit investments in illiquid securities, including (where applicable)
restricted securities not determined by the Trustees to be liquid,
non-negotiable time deposits, over-the-counter options, and repurchase
agreements providing for settlement in more than seven days after notice, to 15%
of its net asset.
BORROWING MONEY. The Fund will not borrow money directly or through reverse
repurchase agreements (arrangements in which the Fund 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
Fund may borrow up to one-third of the value of its total assets and pledge
assets as necessary to secure such borrowings. This policy is fundamental and
cannot be changed without the approval of holders of a majority of the Fund's
shares.
DIVERSIFICATION. With respect to 75% of the value of total assets, the Fund will
not invest more than 5% in 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 or acquire more than 10% of the outstanding voting
securities of any one issuer. This policy is fundamental and cannot be changed
without the approval of holders of a majority of the Fund's shares.
DERIVATIVE CONTRACTS AND SECURITIES. The term "derivative" has traditionally
been applied to certain contracts (including, futures, forward, option and swap
contracts) that "derive" their value from changes in the value of an underlying
security, currency, commodity or index. Certain types of securities that
incorporate the performance characteristics of these contracts are also referred
to as "derivatives." The term has also been applied to securities "derived" from
the cash flows from underlying securities, mortgages or other obligations.
Derivative contracts and securities can be used to reduce or increase the
volatility of an investment portfolio's total performance. While the response of
certain derivative contracts and securities to market changes may differ from
traditional investments, such as stock and bonds, derivatives do not necessarily
present greater market risks than traditional investments. The Fund will only
use derivative contracts for the purposes disclosed in the applicable prospectus
sections above. To the extent that the Fund invests in securities that could be
characterized as derivatives, it will only do so in a manner consistent with its
investment objectives, policies and limitations.
ADDITIONAL RISK CONSIDERATIONS
FOREIGN SECURITIES. The Fund may invest in foreign securities. Investing in
foreign securities can carry higher returns and risks than those associated
with domestic investments.
FOREIGN COMPANIES. Differences between investing in foreign and U.S. companies
include:
. less publicly available information about foreign companies;
. the lack of uniform financial accounting standards applicable to foreign
companies;
. less readily available market quotations on foreign companies;
. differences in government regulation and supervision of foreign
securities exchanges, brokers, listed companies, and banks;
. generally lower foreign securities market volume;
. the likelihood that foreign securities may be less liquid or more
volatile;
. generally higher foreign brokerage commissions;
. possible difficulty in enforcing contractual obligations or obtaining
court judgments abroad because of differences in the legal systems;
. unreliable mail service between countries; and
. political or financial changes which adversely affect investments in some
countries.
U.S. GOVERNMENT POLICIES. In the past, U.S. government policies have
discouraged or restricted certain investments abroad. Although the Fund is
unaware of any current restrictions which would materially adversely affect
its ability to meet its investment objective and policies, investors are
advised that these U.S. government policies could be reinstituted.
INVESTMENT RISKS ASSOCIATED WITH INVESTMENT IN EQUITY AND DEBT SECURITIES
As with other mutual funds that invest in equity securities, the Fund is subject
to market risks. That is, the possibility exists that common stocks will decline
over short or even extended periods of time. The United States equity market
tends to be cyclical, experiencing both periods when stock prices generally
increase and periods when stock prices generally decrease.
In addition, with respect to fixed income securities, investors should be aware
that prices of fixed income securities generally fluctuate inversely to the
direction of interest rates.
PORTFOLIO TURNOVER
Although the Fund does not intend to invest for the purpose of seeking
short-term profits, securities in its portfolio will be sold whenever the
Portfolio Adviser believes it is appropriate to do so in light of the Fund's
investment objective, without regard to the length of time a particular security
may have been held. The Portfolio Adviser does not anticipate that the Fund's
annual turnover rate will exceed 200% under normal market conditions. A higher
rate of portfolio turnover may lead to increased costs and may also result in
higher taxes paid by the Fund's shareholders.
BLANCHARD FUNDS INFORMATION
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MANAGEMENT OF THE FUND
BOARD OF TRUSTEES. The Board of Trustees (the "Board" or the "Trustees") is
responsible for managing the business affairs of the Trust and for exercising
all of the powers of the Fund except those reserved for the shareholders. The
Executive Committee of the Board of Trustees handles the Board's
responsibilities between meetings of the Board.
MANAGER. Virtus Capital Management, Inc. ("VCM"), the Fund's Manager, is
responsible for managing the Fund and overseeing the investment of its assets.
In addition, VCM selects, monitors, and evaluates the Fund's Portfolio
Adviser. VCM will review the Portfolio Adviser's performance record
periodically, and will make exchanges, if necessary, subject to Board and
shareholder approval.
MANAGEMENT FEES. VCM receives an annual management fee of 1.00% of the Fund's
average net assets. The fee paid by the Fund, while higher than the management
fee paid by other mutual funds in general, is comparable to fees paid by other
mutual funds with similar objectives and policies. The management contract
provides for the voluntary waiver of expenses by the VCM from time to time. VCM
can terminate this voluntary waiver of expenses at any time at its sole
discretion.
VCM'S BACKGROUND. VCM, a Maryland corporation formed in 1995, is a wholly-owned
subsidiary of Signet Banking Corporation. Signet Banking Corporation is a
multi-state holding company which has provided investment management services
since 1956. On July 18, 1997, Signet Banking Corporation entered into a
definitive Agreement and Plan of Reorganization whereby Signet Banking
Corporation would be acquired by First Union Corporation, a bank holding company
headquartered in Charlotte, North Carolina. VCM, which is a registered
investment adviser, had more than $1.9 billion in assets under management as of
September 30, 1997. As part of its regular banking operations, Signet Bank may
make loans to public companies. Thus, it may be possible, from time to time, for
the Fund to hold or acquire the securities of issuers which are also lending
clients of Signet Bank. The lending relationship will not be a factor in the
selection of securities.
THE PORTFOLIO ADVISER. Pursuant to the terms of an investment sub-advisory
agreement between the Fund's Manager, VCM, and Mellon Capital Management
Corporation, a Delaware corporation (the "Portfolio Adviser "), the Portfolio
Adviser furnishes portfolio advisory services for the Fund. Under the terms of
the sub-advisory agreement, the Portfolio Adviser has discretion to purchase and
sell securities for the Fund, except as limited by the Fund's investment
objective, policies and restrictions. Although the Portfolio Adviser's
activities are subject to general oversight by VCM and the Trustees, selection
of specific securities in which the Fund may invest are made by the Portfolio
Adviser. For the services provided and the expenses incurred by the Portfolio
Adviser pursuant to the sub-advisory agreement, the Portfolio Adviser is
entitled to receive an annual sub-advisory fee equal to .50% of the Fund's
average daily net assets up to $50 million; .375% on net assets between $50
million and $200 million, and .25% on net assets in excess of $200 million,
payable by VCM, in quarterly installments. The Portfolio Adviser may elect to
waive some or all of its fee. In no event shall the Fund be responsible for any
fees due to the Portfolio Adviser for its services to VCM.
THE PORTFOLIO ADVISER'S BACKGROUND. The Portfolio Adviser, which is located at
595 Market Street, 30th Floor, San Francisco, CA 94105, is a registered
investment advisory firm founded in 1983.
The Portfolio Adviser manages assets of approximately $46 billion. The Portfolio
Adviser is an indirect, wholly-owned subsidiary of Mellon Bank Corporation.
Dr. Tom Hazuka and Dr. Charles Jacklin are responsible for the day-to-day
management of the Fund.
Dr. Tom Hazuka is Executive Vice President of Mellon Capital Management
Corporation. As Chief Investment Officer, he is responsible for the portfolio
management and trading of domestic and international equities and fixed
income, as well as Tactical Asset Allocation strategies. Dr. Hazuka joined
Mellon Capital Management in 1986, as Manager of Fixed Income, in order to
create a fixed income capability. He was also given responsibility for Equity
Portfolio Management in 1988, and for Equity Arbitrage Trading in 1989. Dr.
Hazuka worked at Wells Fargo Investment Advisors from 1981 through 1986
primarily in a research capacity. Dr. Hazuka received his Ph.D. in Finance
from Stanford University in 1981. He received an M.B.A. from the University of
Connecticut in 1973, and a B.S. in Electrical Engineering from Stevens
Institute of Technology in 1966.
Dr. Jacklin is Senior Vice President and Director of Asset Allocation
Strategies at Mellon Capital Management Corporation. He is responsible for
overseeing domestic, international and global asset allocation strategies.
Prior to joining Mellon Capital Management Corporation, Dr. Jacklin was on the
finance faculty of Stanford University's Graduate School of Business. In
addition, he has been an instructor for the Stanford--London Business School
International Investment Management Program, the Stanford Financial Management
Program, and the Pacific Coast Banking School. For the academic year 19901991,
Dr. Jacklin served as Senior Staff Economist for Financial Markets and Banking
for the President's Council of Economic Advisers in Washington D.C. While at
the Council, he had primary responsibility for all matters related to financial
markets and banking. Prior to joining Stanford in 1987, Dr. Jacklin also served
on the finance faculty at the University of Chicago's Graduate School of
Business. From 1978 through 1980, Dr. Jacklin worked as a consultant with Ernst
& Ernst. Dr. Jacklin received his Ph.D. in Finance from Stanford University in
1985, and M.B.A. from the University of Illinois in 1978, and a B.S. in
Mathematics, cum laude, from the University of Maryland in 1976.
DISTRIBUTION OF FUND SHARES
Federated Securities Corp. is the principal distributor for shares of the
Fund. 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.
DISTRIBUTION PLAN. According to the provisions of a distribution plan adopted
pursuant to Investment Company Act Rule 12b-1, the Distributor may select
brokers and dealers to provide distribution and administrative services as to
shares of the Fund. The Distributor may also select administrators (including
financial institutions, fiduciaries, custodians for public funds and investment
advisers) to provide administrative services. Administrative services may
include, but are not limited to, the following functions: providing office
space, equipment, telephone facilities, and various personnel including
clerical, supervisory, and computer 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 regarding shares; assisting clients in
changing dividend options, account designations, and addresses; and providing
such other services as the Fund reasonably requests for its shares.
Brokers, dealers and administrators 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 Board,
provided that for any period the total amount of fees representing an expense to
the Fund shall not exceed an annual rate of .25% of the average daily net assets
of shares of the Fund held in accounts during the period for which the brokers,
dealers, and administrators provide services. Any fees paid by the distributor
with respect to shares of a Fund pursuant to the distribution plan will be
reimbursed by the Fund from the assets of the Fund.
The distributor will, periodically, uniformly offer to pay cash or promotional
incentives in the form of trips to sales seminars at luxury resorts, tickets or
other items to all dealers selling shares of the Fund. Such payments will be
predicated upon the amount of shares of the Fund that are sold by the dealers.
Such payments, if made, will be in addition to amounts paid under the
distribution plan and will not be an expense of the Fund.
ADMINISTRATIVE ARRANGEMENTS. The distributor may pay financial institutions a
fee based upon the average net asset value of shares of the Fund of their
customers invested in the Trust for providing administrative services. This fee,
if paid, will be reimbursed by VCM and not the Trust.
GLASS-STEAGALL ACT. The Glass-Steagall Act prohibits a depository institution
(such as a commercial bank or a savings association) from being an underwriter
or distributor of most securities. In the event the Glass-Steagall Act is deemed
to prohibit depository institutions from acting in the administrative capacities
described above or should Congress relax current restrictions on depository
institutions, the Board of Trustees will consider appropriate changes in the
administrative services.
ADMINISTRATION OF THE FUNDS
ADMINISTRATIVE SERVICES. Federated Administrative Services, a subsidiary of
Federated Investors, provides the Fund with certain administrative personnel and
services necessary to operate the Fund. Such services include shareholder
servicing and certain legal and accounting services. Federated Administrative
Services provides these at an annual rate as specified below:
<TABLE>
<CAPTION>
AVERAGE COMBINED AGGREGATE DAILY NET
MAXIMUM ASSETS OF THE TRUST/BLANCHARD PRECIOUS
AINISTRATIVE FEEM METALS FUND, INC. AND THE VIRTUS FUNDS
---------------- --------------------------------------
<S> <C>
.15% on the first $250 million
.125% on the next $250 million
.10% on the next $250 million
.075% on assets in excess of $750 million
</TABLE>
The administrative fee received during any fiscal year shall be at least
$75,000. Federated Administrative Services may voluntarily waive a portion of
its fee.
BROKERAGE TRANSACTIONS. Subject to the supervision of the Board and VCM,
decisions to buy and sell specific securities for the Fund are made by its
Portfolio Adviser. The Portfolio Adviser is authorized, subject to most
favorable price and execution, to place portfolio transactions with brokerage
firms that provide assistance in the distribution of Fund shares and/or supply
research. The Board has also authorized the Fund to allocate brokerage to the
Portfolio Adviser or an affiliated broker-dealer as well as to use the
Distributor, on an agency basis, or affiliates thereof, to effect portfolio
transactions which are executed on United States and foreign stock exchanges or
which are traded in the over-the-counter market. The Fund has adopted certain
procedures incorporating the standards of Rule 17e-1 of the 1940 Act, which
require that the commissions paid to the Portfolio Adviser or the Distributor or
to affiliated broker-dealers must be "reasonable and fair compared to the
commission, fee, or other remuneration received, or to be received, by other
brokers in connection with comparable transactions involving similar securities
during a comparable period of time." From time to time, the Fund may purchase
portfolio securities directly from dealers acting as principals, underwriters or
market makers. As these transactions are usually conducted on a net basis, no
brokerage commissions are paid by the Fund. Transactions are allocated to
various dealers selected by VCM or the Portfolio Adviser primarily on the basis
of prompt execution of orders at the most favorable prices. Transactions may be
allocated based on the sale of Fund shares. The Fund has determined that the
foregoing arrangements are in the best interest of the Fund's shareholders.
NET ASSET VALUE
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The Fund's net asset value per share fluctuates. It is determined by dividing
the sum of the market value of all securities and other assets, less
liabilities, by the number of shares outstanding.
HOW TO INVEST
- -------------------------------------------------------------------------------
You may purchase shares of any Fund from Federated Securities Corp., the Fund's
principal Distributor. You may also purchase shares from broker-dealers who have
entered into a dealer agreement with the Distributor at net asset value, which
is determined as of the close of trading (normally 4:00 p.m., New York time) on
the New York Stock Exchange. If your order is received after the above time,
your shares will be purchased at the net asset value of the next business day.
The Fund determines the net asset value of its shares on each day that the New
York Stock Exchange is open for business and on such other days as there is
sufficient trading in its securities to affect materially its net asset value
per share.
The minimum initial investment requirement is $3,000 and the minimum initial
investment requirement for qualified pension plans (IRAs, Keoghs, etc.) is
$2,000. The minimum investment requirement for additional investments is at
least $200 per investment. (The foregoing minimum investment requirements may be
modified or waived at any time at our discretion.)
PURCHASES BY MAIL
To purchase shares of the Fund by mail, simply send a completed Application
(included with this Prospectus or obtainable from the Fund), to the Blanchard
Group of Funds, c/o Signet Financial Services, Inc., P.O. Box 26301, Richmond,
VA 23260, together with a check payable to the Fund in payment for the shares.
If you need assistance in completing the application, call 1-800-829-3863.
All purchases must be made in U.S. dollars and checks must be drawn on a United
States bank. Payment for shares may not be made by third party checks; however,
second party checks are acceptable when properly endorsed. We reserve the right
to limit the number of checks for one account processed at one time. If your
check does not clear, your purchase will be canceled and you could be liable for
any losses or fees incurred. Payments transmitted by check are accepted subject
to collection at full face amount.
Order by mail are considered received after payment by check is converted into
Federal Funds. This is generally the next business day after Signet Financial
Services, Inc. ("Signet") receives the check.
PURCHASE BY WIRE. You may also purchase shares by bank wire. For opening new
accounts in this manner, please call 1-800-829-3863 (toll free) before wiring
your funds, and furnish the following information: the account registration and
address, and your taxpayer identification number (for individuals, a Social
Security number). When making additional investments by wire to your existing
accounts, please provide your account numbers. You must include your name and
telephone number, the amount being wired and the name of the wiring bank with
both new and existing account purchases.
Call Investor Services at 1-800-829-3863 to receive wiring instructions.
AUTOMATIC INVESTMENT PLANS. Regular monthly purchases of shares may be made by
direct deposit of Social Security and certain other government checks into your
account. Fund shares may be purchased at regular intervals selected by you by
automatic transferal of funds from a bank checking account that you may
designate. All such purchases require a minimum of $100 per transaction. Call
1-800-829-3863 for information and forms required to establish these Plans.
BY TELEPHONE. This service allows you to purchase additional shares quickly and
conveniently through an electronic transfer of money. When you make an
additional purchase by telephone, Blanchard will automatically debit your
predesignated bank account for the desired amount. To establish the telephone
purchase option on your new account you must complete the section on the
application and attach a "voided" check from your bank account. If your account
is already established, please call 1-800-829-3863 to request the appropriate
form. This option will become effective ten business days after the form is
received.
GENERAL INFORMATION
Dividends on the Fund are declared and paid annually. Capital gains realized by
the Fund, if any, will be distributed once every 12 months.
All ordinary income, dividends and capital gains distributions, if any, are
automatically reinvested at net asset value in additional Fund shares unless we
receive written notice from you, at least 30 days prior to the record day of
such distribution, requesting that your dividends and distributions be
distributed to you in cash. See "Tax Matters".
We reserve the right to suspend the offering of Fund shares for a period of
time. We also reserve the right to reject any purchase order.
Shareholders will receive detailed confirmations of transactions. In addition,
shareholders will receive periodic statements reporting all account activity,
including dividends paid. Share certificates are not issued.
INVESTOR SERVICES
- -------------------------------------------------------------------------------
AUTOMATIC WITHDRAWAL PLAN
If you purchase $10,000 or more of Fund shares, you may establish an Automatic
Withdrawal Plan to authorize a specified dollar amount to be paid periodically
to a designated payee. Under this Plan, all income dividends and capital gains
distributions will be reinvested in shares in your account at the applicable
payment dates' closing net asset value.
Your specified withdrawal payments are made monthly or quarterly in any amount
you choose, but not less than $100 per month or $300 quarterly. Please note that
any redemptions of your shares, which may result in a gain or loss for tax
purposes, may involve the use of principal, and may eventually use up all of the
shares in your account. Such payments do not provide a guaranteed annuity and
may be terminated for any shareholder by the Fund if the value of the account
drops below $10,000 due to transfer or redemption of shares. In such a case, the
shareholder will be notified that the withdrawal payments will be terminated.
The cost of administering the Automatic Withdrawal Plan for the benefit of
shareholders is the Fund expense.
RETIREMENT PLANS
We offer a Prototype Pension and Profit Sharing Plan, including Keogh Plans,
IRAs SEP-IRA Plans, IRA Rollover Accounts and 403(b) Plans. Plan support
services are available by calling 1-800-829-3863.
EXCHANGE PRIVILEGE
You may exchange your Fund shares for shares of another Fund in the Blanchard
Group of Funds or for Investment Shares of The Virtus Funds, on the basis of
relative net asset values per share at the time of exchange. No fees are charged
when you exchange from one Fund to another within the Blanchard Group of Funds
or into one of the aforementioned portfolios of The Virtus Funds. Before making
an exchange, you should read the Prospectus concerning the Fund into which your
exchange is being made.
To request an exchange by telephone, simply call 1-800-829-3863, prior to 4:00
p.m. New York time. Exchanges can be made in this manner only after you have
completed and sent to the Transfer Agent the telephone exchange authorization
form that is included on the New Account Application accompanying this
Prospectus and only if your account registration has not changed within the last
30 days. It is the Funds' policy to mail to you at your address of record,
within five business days after any telephone call transaction, a written
confirmation statement of the transaction. All calls will be recorded for your
protection. As a result of the Funds' policy, neither the Fund nor its transfer
agent will be responsible for any claims, losses or expenses for acting on
telephone instructions that they reasonably believe to be genuine. As a result
of the Fund's policy, neither the Fund nor Signet will be responsible for any
claims, losses or expenses for acting on telephone instructions that they
believe to be genuine.
Exchanges can only be made between accounts with identical account registration
and in states where shares of the other Funds are qualified for sale. We do not
place any limit on the number of exchanges that may be made and charge no fee
for effecting an exchange. The dollar amount of an exchange must meet the
initial investment requirement of the Fund into which the exchange is being
made. All subsequent exchanges into that Fund must be at least $1,000. We may
modify or suspend the Exchange Privilege at any time upon 60 days' written
notice.
Any exchange of shares is, in effect, a redemption of shares in one Fund and a
purchase of the other fund. You should consider the possible tax effects of an
exchange. To prevent excessive trading between Funds to the disadvantage of
other shareholders, we reserve the right to modify or terminate this Privilege
with respect to any shareholder.
A completed Purchase Application must be received by Signet before the Automatic
Withdrawal Plan, or Exchange Privilege may be used.
HOW TO REDEEM
- -------------------------------------------------------------------------------
You may redeem your shares on any business day at the next determined net asset
value calculated after your redemption request has been accepted by Signet as
described below. BY TELEPHONE. You may redeem you shares by telephone
by calling 1-800-8293863, prior to 4:00 p.m. New York time. All calls will be
recorded. Redemption of Fund shares can be made in this manner only after you
have executed and filed with Signet, the telephone redemption authorization form
which may be obtained from your Fund or Signet.
You may elect on the telephone redemption authorization form to have a
redemption in any amount of $250 or more mailed either to your registered
address, to your bank account, or to any other person you may designate. Should
you wish to review these instructions, simply complete and file a new telephone
redemption authorization form. There is no charge for this service. As long as
the identification procedures described above are followed, neither your Fund
nor Signet will be responsible for any claims, losses or expenses for acting on
telephone instructions that they believe to be genuine. See "Investor
Services--Exchange Privilege," for additional information with respect to losses
resulting from unauthorized telephone transactions.
You may also request, by placing a call to the telephone number set forth above,
redemption proceeds to be wired directly to the bank account that you have
designated on the authorization form. The minimum amount that may be redeemed in
this manner is $1,000. A check for proceeds of less than $1,000 will be mailed
to your address of record. The Funds do not impose a charge for this service.
However, the proceeds of a wire redemption may be subject to the usual and
customary charges imposed by Signet for the wiring of funds.
Under extraordinary market conditions, it may be difficult for you to redeem
your shares by telephone. Under these circumstances, you should consider
redeeming your shares by mail, as described below. BY MAIL. All other
redemption requests should be made in writing to the Blanchard Group of Funds,
c/o Signet Financial Services, Inc., P.O. Box 26301, Richmond, VA 23260. Where
share certificates have been issued, the certificates must be endorsed and must
accompany the redemption request. Signatures on redemption request for any
amount in excess of $25,000 and endorsed share certificates submitted for
redemption must be accompanied by signature guarantees from any eligible
guarantor institution approved by Signet in accordance with its Standards,
Procedures and Guidelines for the Acceptance of Signature Guarantees ("Signature
Guarantee Guidelines"). Eligible guarantor institutions generally include banks,
broker-dealers, credit unions, national securities exchanges, registered
securities association, clearing agencies and savings associations. All eligible
guarantor institutions must participate in the Securities Transfer Agents
Medallion Program ("STAMP") in order to be approved by Signet pursuant to the
Signature Guarantee Guidelines. Copies of the Signature Guarantee Guidelines and
information on STAMP can be obtained from Signet at (800) 829-3863. Signatures
on redemption requests for any amount must be guaranteed (as described above) if
the proceeds are not to be paid to the registered owner at the registered
address, or the registered address has changed within the previous 60 days. The
letter of instruction or a stock assignment must specify the account number and
the exact number of shares or dollar amount to be redeemed. It must be signed by
all registered shareholders in precisely the same way as originally registered.
The letter of instruction must also include any other supporting legal
documents, if required, in the case of estates, trusts, guardianships,
custodianships, corporations, partnerships, pension or profit sharing plans, or
other organizations.
GENERAL INFORMATION
Your redemption request becomes effective when it is received in proper form by
Signet prior to 4:00 p.m., Eastern time, or your redemption will occur on the
following business day. We will make payment for redeemed shares within seven
days after receipt by Signet. However, we may delay the forwarding of redemption
proceeds on shares which were recently purchased until the purchase check has
cleared, which may take up to 7 days or more. We may suspend the right of
redemption when the New York Stock Exchange is closed or when trading on the
Exchange is restricted, and under certain extraordinary circumstances in
accordance with the rules of the SEC. Due to the relatively high cost of
handling small investments, we reserve the right upon 60 days' written notice to
redeem, at net asset value, the shares of any shareholder whose account has a
value of less than $1,000, other than as a result of a decline in the net asset
value per share. We do not presently contemplate making such involuntary
redemptions and will not redeem any shares held in tax-sheltered retirement
plans in this category. We also reserve the right upon notice to shareholders to
charge a fee for any services provided herein that are currently free of charge.
SHAREHOLDER INFORMATION
- -------------------------------------------------------------------------------
VOTING RIGHTS
Each share of the Fund gives the shareholder one vote in Trustee elections and
other matters submitted to shareholders for vote. All shares of all classes of
each portfolio in the Trust have equal voting rights, except that in matters
affecting only a particular Fund or class, only shareholders of that Fund or
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 operation of the Trust or the Fund and
for the election of Trustees under certain circumstances. As of October 29,
1997, Bova & Company, Richmond, VA, owned 93.64% of the voting securities of the
Fund and, therefore, may, for certain purposes, be deemed to control the Fund
and be able to affect the outcome of certain matters presented for a vote of
shareholders.
Trustees may be removed by the Trustees or by shareholders at a special meeting.
A special meeting of the shareholders shall be called by the Trustees upon the
written request of shareholders owning at least 10% of the Trust's outstanding
shares.
EFFECT OF BANKING LAWS
- -------------------------------------------------------------------------------
Banking laws and regulations presently prohibit a bank holding company
registered under the federal Bank Holding Company Act of 1956 or any bank or
non-bank affiliate thereof from sponsoring, organizing, controlling or
distributing the shares of a registered, open-end investment company
continuously engaged in the issuance of its shares, and prohibit banks generally
from issuing, underwriting, or distributing securities. However, such banking
laws and regulations do not prohibit such a holding company affiliate or banks
generally from acting as investment adviser, transfer agent or custodian to such
an investment company or from purchasing shares of such a company as agent for
and upon the order of such a customer. Signet Trust Company is subject to such
banking laws and regulations.
Signet Trust Company believes, based on the advice of its counsel, that VCM may
perform the services for the Fund contemplated by its advisory agreement with
the Trust without violation of the Glass-Steagall Act or other applicable
banking laws or regulations. Changes in either federal or state statutes and
regulations relating to the permissible activities of banks and their
subsidiaries or affiliates, as well as further judicial or administrative
decisions or interpretations of such or future statutes and regulations, could
prevent VCM from continuing to perform all or a part of the above services for
its customers and/or the Fund. If it were prohibited from engaging in these
customer-related activities, the Trustees would consider alternative advisers
and means of continuing available investment services. In such event, changes in
the operation of the Fund may occur, including possible termination of any
automatic or other Fund share investment and redemption services then being
provided by VCM. It is not expected that existing shareholders would suffer any
adverse financial consequences (if another adviser with equivalent abilities to
VCM is found) as a result of any of these occurrences.
TAX INFORMATION
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FEDERAL INCOME TAX
The Fund will pay no federal income tax because it expects to meet requirements
of the Internal Revenue Code applicable to regulated investment companies and to
receive the special tax treatment afforded to such companies.
The Fund will be treated as a single, separate entity for federal income tax
purposes so that income (including capital gains) and losses realized by the
other portfolios of Blanchard Funds will not be combined for tax purposes with
those realized by the Fund.
Unless otherwise exempt, shareholders are required to pay federal income tax on
any dividends and other distribution, including capital gains, received. This
applies whether dividends and distributions are received in cash or as
additional shares.
Shareholders are urged to consult their own tax advisers regarding the status of
their accounts under state and local laws.
PERFORMANCE INFORMATION
- -------------------------------------------------------------------------------
Advertisements and communications to investors regarding the Fund may cite
certain performance and ranking information and may make performance comparisons
to other funds or to relevant indices, as described below. In addition, the
Fund's Portfolio Adviser and other outside analysts may, from time to time,
report on the market outlook for their investments as well as comment on the
historical reasons for these investments including as a hedge against inflation.
The Fund's performance may be calculated both in terms of total return and on
the basis of current yield over any period of time and may include a computation
of the Fund's distribution rate.
TOTAL RETURN
Cumulative total return data is computed by considering all elements of return,
including reinvestment of dividends and capital gains distribution, over a
stated period of time. Cumulative total return figures are not annualized and
represent the aggregate percentage or dollar value change over the period in
question.
Average annual return will be quoted for at least the one, five and ten year
periods ending on a recent calendar quarter (or if such periods have not yet
elapsed, at the end of a shorter period corresponding to the life of the Fund
for performance purposes). Average annual total return figures are annualized
and, therefore, represent the average annual percentage change over the period
in question.
YIELD INFORMATION
The term "yield" refers to the income generated by an investment over a
one-month or 30-day period. This income is computed by dividing the net
investment income per share earned during such period by the maximum public
offering price per share on the last day of the period, and then annualizing
such 30- day (or one month) yield in accordance with a formula prescribed by the
SEC which provides for compounding on a semi-annual basis. The Fund may also
quote tax-equivalent yield, which shows the taxable yield that an investor would
have to earn before taxes to equal the Fund's tax-free yield. The taxequivalent
yield is calculated by dividing the Fund's tax-exempt yield by the result of one
minus any combination of the stated federal, state, or city tax rate. If only a
portion of the Fund's income is tax-exempt only that portion is adjusted in the
calculation.
DISTRIBUTION RATE
The Fund may also quote distribution rates and/or effective distribution rates
in sales literature or other shareholders communications. The Fund's
distribution rate is computed by dividing the most recent monthly distribution
per share annualized by dividing the distribution rate by the ratio used to
annualize the distribution and reinvesting the resulting amount for a full year
on the basis of such ratio. The effective distribution rate will be higher than
the distribution rate because of the compounding effect of the assumed
reinvestment. The Fund's distribution rate may differ from its yield because the
distribution rate may contain net investment income and other items of income
(such as returns of capital), while yield reflects only earned interest and
dividend items of income.
COMPARATIVE RESULTS
From time to time in advertisements or sales material, the Fund may discuss its
performance rating and may be compared to the performance of other mutual funds
or mutual fund indexes as published by widely recognized independent mutual fund
reporting services such as Lipper Analytical Services, Inc., CDS and
Morningstar, Inc. The Fund may also discuss the past performance and ranking of
its Portfolio Adviser, and compare its performance to various investment
indexes. The Fund may use performance information as reported in publications of
general interest, national, financial and industry publications such as Forbes
or Money Magazine and various investment newsletters such as Donoghue's Money
Letter. In addition, the Fund may compare its total return to the total return
of indexes of U.S. markets or world markets, to that of other mutual funds,
individual country indexes, or other recognized indexes.
From time to time, the Fund may provide information on certain markets or
countries and specific equity securities and quote published editorial comments
and/or information from newspapers, magazines, investment newsletters and other
publications such as The Wall Street Journal, Money Magazine, Forbes, Barron's,
USA Today and Mutual Funds Magazine. The Fund may also compare the historical
returns on various investments, performance indexes of those investments and
economic indicators. In addition, the Fund may reprint articles about the Fund
and provide them to prospective shareholders. The Distributor may also make
available economic, financial and investment reports to shareholders and
prospective shareholders. In order to describe these reports, the Fund may
include descriptive information on the reports in advertising literature sent to
the public prior to the mailing of a prospectus. Performance information may be
quoted numerically or may be presented in a table, graph, chart or other
illustration. It should be noted that such performance ratings and comparisons
may be made with funds which may have different investment restrictions,
objectives, policies or techniques than the Fund, and that such other funds or
market indicators may be comprised of securities that differ significantly from
the Fund's investments.
Performance information will vary from time to time and past results are not
necessarily representative of future results. You should remember that the
Fund's performance is a function of portfolio managers in selecting the type and
quality of securities in which the Fund may invest, and is affected by
operation, distribution and marketing expenses.
BLANCHARD ASSET ALLOCATION FUND
PORTFOLIO OF INVESTMENTS
SEPTEMBER 30, 1997
- -------------------------------------------------------------------------------
<TABLE>
<CAPTION>
PRINCIPAL
AMOUNT OR
CONTRACTS VALUE
---------- ------------------------------------------------------ ----------
<C> <S> <C>
COMMERCIAL PAPER--9.6%
-----------------------------------------------------------------
$ 150,000 Ford Motor Credit Corp., 5.50%, 12/12/1997 $ 148,483
------------------------------------------------------
150,000 General Electric Capital Corp., 5.50%, 10/8/1997 149,840
------------------------------------------------------
150,000 New Center Asset Trust, 5.53%, 10/6/1997 149,885
------------------------------------------------------ ----------
TOTAL COMMERCIAL PAPER (IDENTIFIED COST $448,074) 448,208
------------------------------------------------------ ----------
CORPORATE NOTES--3.2%
-----------------------------------------------------------------
Hertz Corp., 5.50%, 12/12/1997 (IDENTIFIED COST 148,484
150,000 $148,350)
------------------------------------------------------ ----------
OPTIONS--8.7%
-----------------------------------------------------------------
4,000 (a)Call option on U.S. Long Bond, expires 11/14/1997 53,125
strike at 102
------------------------------------------------------
1,000 (a)Call option on S&P 500, expires 12/19/1997 strike 122,250
at 840
------------------------------------------------------
2,500 (a)Call option on S&P 500, expires 12/19/1997 strike 232,187
at 875
------------------------------------------------------ ----------
TOTAL OPTIONS (IDENTIFIED COST $194,838) 407,562
------------------------------------------------------ ----------
U.S. TREASURY--59.0%
-----------------------------------------------------------------
2,200,000 United States Treasury Bond, 8.75%, 5/15/2017
(IDENTIFIED COST $2,575,027) 2,754,125
------------------------------------------------------ ----------
(B) REPURCHASE AGREEMENT--18.6%
-----------------------------------------------------------------
868,352 CS First Boston, 6.05%, dated 9/30/1997, due 10/1/1997
(AT AMORTIZED COST) 868,352
------------------------------------------------------ ----------
TOTAL INVESTMENTS (IDENTIFIED COST $4,234,641) (C) $4,626,731
------------------------------------------------------ ----------
</TABLE>
(a) Non-income producing security.
(b) The repurchase agreement is fully collateralized by U.S. government and/or
agency obligations based on market prices at the date of the portfolio.
(c) The cost of investments for federal tax purposes amounts to $4,234,641. The
unrealized appreciation of investments on a federal tax basis amounts to
$392,090 at September 30, 1997.
Note: The categories of investments are shown as a percentage of net assets
($4,669,456) at September 30, 1997.
(See Notes which are an integral part of the Financial Statements)
BLANCHARD ASSET ALLOCATION FUND
STATEMENT OF ASSETS AND LIABILITIES
SEPTEMBER 30, 1997
- --------------------------------------------------------------------------------
<TABLE>
<S> <C> <C>
ASSETS:
- ------------------------------------
Investments in repurchase agreements $ 868,352
- ------------------------------------
Investments in securities 3,758,379
- ------------------------------------ ----------
Total investments in securities, at value
(identified and tax cost $4,234,641) $4,626,731
- ------------------------------------------------
Income receivable 72,858
- ------------------------------------------------ ----------
Total assets 4,699,589
- ------------------------------------------------
LIABILITIES:
- ------------------------------------
Payable for daily variation margin 3,625
- ------------------------------------
Accrued expenses 26,508
- ------------------------------------ ----------
Total liabilities 30,133
- ------------------------------------------------ ----------
NET ASSETS for 342,488 shares outstanding $4,669,456
- ------------------------------------------------ ----------
NET ASSETS CONSIST OF:
- ------------------------------------------------
Paid in capital $3,438,577
- ------------------------------------------------
Net unrealized appreciation of investments and
futures contracts 398,915
- ------------------------------------------------
Accumulated net realized gain on investments
and futures contracts 673,129
- ------------------------------------------------
Undistributed net investment income 158,835
- ------------------------------------------------ ----------
Total Net Assets $4,669,456
- ------------------------------------------------ ----------
NET ASSET VALUE, OFFERING PRICE AND REDEMPTION
PROCEEDS PER SHARE:
- ------------------------------------------------
$4,669,456 / 342,488 shares outstanding $13.63
- ------------------------------------------------ ----------
</TABLE>
(See Notes which are an integral part of the Financial Statements)
BLANCHARD ASSET ALLOCATION FUND
STATEMENT OF OPERATIONS
YEAR ENDED SEPTEMBER 30, 1997
- --------------------------------------------------------------------------------
<TABLE>
<S> <C> <C> <C>
INVESTMENT INCOME:
- ------------------------------------------------------------------
Interest $ 243,779
- ------------------------------------------------------------------
EXPENSES:
- ------------------------------------------------------
Management fee $ 40,068
- ------------------------------------------------------
Administrative personnel and services fee 75,000
- ------------------------------------------------------
Custodian fees 10,132
- ------------------------------------------------------
Transfer and dividend disbursing agent fees and
expenses 31,276
- ------------------------------------------------------
Directors'/Trustees' fees 1,750
- ------------------------------------------------------
Auditing fees 12,868
- ------------------------------------------------------
Legal fees 1,750
- ------------------------------------------------------
Portfolio accounting fees 39,469
- ------------------------------------------------------
Share registration costs 18
- ------------------------------------------------------
Printing and postage 7,080
- ------------------------------------------------------
Miscellaneous 3,790
- ------------------------------------------------------ ----------
Total expenses 223,201
- ------------------------------------------------------
Waivers and reimbursement--
- --------------------------------------------
Waiver of management fee $ (40,068)
- --------------------------------------------
Waiver of administrative personnel and
services fee (49,932)
- --------------------------------------------
Waiver of custodian fees (10,132)
- --------------------------------------------
Reimbursement of other operating expenses (83,000)
- -------------------------------------------- ---------
Total waivers and reimbursement (183,132)
- ------------------------------------------------------ ----------
Net expenses 40,069
- ------------------------------------------------------------------ ----------
Net investment income 203,710
- ------------------------------------------------------------------ ----------
REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS AND FUTURES
CONTRACTS:
- ------------------------------------------------------------------
Net realized gain on investments and futures contracts 914,849
- ------------------------------------------------------------------
Net change in unrealized appreciation of investments and futures
contracts 185,672
- ------------------------------------------------------------------ ----------
Net realized and unrealized gain on investments and futures
contracts 1,100,521
- ------------------------------------------------------------------ ----------
Change in net assets resulting from operations $1,304,231
- ------------------------------------------------------------------ ----------
</TABLE>
(See Notes which are an integral part of the Financial Statements)
BLANCHARD ASSET ALLOCATION FUND
STATEMENT OF CHANGES IN NET ASSETS
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
YEAR ENDED PERIOD ENDED
SEPTEMBER 30, SEPTEMBER 30,
1997 1996(A)
- -------------------------------------------------- ------------- -------------
<S> <C> <C>
INCREASE (DECREASE) IN NET ASSETS:
- --------------------------------------------------
OPERATIONS--
- --------------------------------------------------
Net investment income $ 203,710 $ 53,879
- --------------------------------------------------
Net realized gain (loss) on investments and futures contracts ($966,874 and
$68,583 net gain, respectively, as computed for federal tax
purposes) 914,849 (98,943)
- --------------------------------------------------
Net change in unrealized appreciation/depreciation
of
investments and futures contracts 185,672 213,243
- -------------------------------------------------- ---------- ----------
Change in net assets resulting from operations 1,304,231 168,179
- -------------------------------------------------- ---------- ----------
DISTRIBUTIONS TO SHAREHOLDERS--
- --------------------------------------------------
Distributions from net investment income (98,754) --
- --------------------------------------------------
Distributions from net realized gains (142,777) --
- -------------------------------------------------- ---------- ----------
Change in net assets resulting from
distributions to shareholders (241,531) --
- -------------------------------------------------- ---------- ----------
SHARE TRANSACTIONS--
- --------------------------------------------------
Proceeds from sale of shares 11 3,200,250
- --------------------------------------------------
Net asset value of shares issued to shareholders
in payment of distributions declared 238,434 --
- --------------------------------------------------
Cost of shares redeemed (18) (100)
- -------------------------------------------------- ---------- ----------
Change in net assets resulting from share
transactions 238,427 3,200,150
- -------------------------------------------------- ---------- ----------
Change in net assets 1,301,127 3,368,329
- --------------------------------------------------
NET ASSETS:
- --------------------------------------------------
Beginning of period 3,368,329 --
- -------------------------------------------------- ---------- ----------
End of period (including undistributed net
investment
income of $158,835 and $53,879, respectively) $4,669,456 $3,368,329
- -------------------------------------------------- ---------- ----------
</TABLE>
(a)For the period from June 6, 1996 (date of initial public investment) to
September 30, 1996.
(See Notes which are an integral part of the Financial Statements)
BLANCHARD ASSET ALLOCATION FUND
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1997
- -------------------------------------------------------------------------------
(1) ORGANIZATION
Blanchard Group of Funds consists of Blanchard Funds (the "Trust") and Blanchard
Precious Metals Fund, Inc. (the "Company") which are registered under the
Investment Company Act of 1940, as amended (the "Act"), as an open-end
management investment company. The Trust consists of six portfolios. The
financial statements included herein are only those of Blanchard Asset
Allocation Fund (the "Fund"), a diversified portfolio. The financial statements
of the other portfolios are presented separately. The assets of each portfolio
are segregated and a shareholder's interest is limited to the portfolio in which
shares are held. The investment objective of the Fund is to maximize total
return over the long term by allocating its assets among stocks, bonds,
short-term instruments, and other instruments.
(2) SIGNIFICANT ACCOUNTING POLICIES
The following is a summary of significant accounting policies consistently
followed by the Fund in the preparation of its financial statements. These
policies are in conformity with generally accepted accounting principles.
INVESTMENT VALUATIONS--U.S. government securities, listed corporate bonds,
options, futures, other fixed income and asset-backed securities, and unlisted
securities and private placement 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 Fund 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 Fund 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 Fund will only enter into repurchase agreements with banks and other
recognized financial institutions, such as broker/dealers, which are deemed by
the Fund's adviser to be creditworthy pursuant to the 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 Fund 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 Fund'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.
WHEN-ISSUED AND DELAYED DELIVERY TRANSACTIONS--The Fund may engage in when-
issued or delayed delivery transactions. The Fund 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.
FUTURES CONTRACTS--The Fund purchases stock index futures contracts to manage
cashflows, enhance yield, and to potentially reduce transaction costs. Upon
entering into a stock index futures contract with a broker, the Fund is
required to deposit in a segregated account a specified amount of cash or U.S.
government securities. Futures contracts are valued daily and unrealized gains
or losses are recorded in a "variation margin" account. Daily, the Fund
receives from or pays to the broker a specified amount of cash based upon
changes in the variation margin account. When a contract is closed, the Fund
recognizes a realized gain or loss. For the year ended September 30, 1997, the
Fund had realized gains on future contracts of $343,540. Future contracts have
market risks, including the risk that the change in the value of the contract
may not correlate with changes in the value of the underlying securities.
At September 30, 1997, the Fund had outstanding futures contracts as set forth
below:
<TABLE>
<CAPTION>
EXPIRATION UNREALIZED
DATE CONTRACTS TO RECEIVE POSITION APPRECIATION
------------- ------------------------- -------- ------------
<S> <C> <C> <C>
December 1997 1 S&P 500 December Future Long $6,825
</TABLE>
OPTIONS TRANSACTIONS--The Fund may purchase over-the-counter put and call
options to hedge against the effects of the fluctuations in interest rates and
other market conditions. The risk associated with purchasing and option is
that the Fund pays a premium whether or not the option is exercised.
Additionally, the Fund bears the risk of loss of premium and change in market
value should the counterparty not perform under the contract. Put and call
options purchased are accounted for in the same manner as portfolio
securities. For the period ended September 30, 1997, the Fund had realized
gains on options of $531,419.
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.
- -------------------------------------------------------------------------------
(3) 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).
Transactions in shares were as follows:
<TABLE>
<CAPTION>
YEAR ENDED PERIOD ENDED
SEPTEMBER 30, SEPTEMBER 30,
1997 1996*
- ---------------------------------------------- ------------- -------------
<S> <C> <C>
Shares sold 1 320,643
- ----------------------------------------------
Shares issued to shareholders in payment
of distributions declared 21,855 --
- ----------------------------------------------
Shares redeemed (1) (10)
- ---------------------------------------------- ------ -------
Net change resulting from share transactions 21,855 320,633
- ---------------------------------------------- ------ -------
</TABLE>
*For the period from June 6, 1996 (date of initial public investment) to
September 30, 1996.
(4) MANAGEMENT FEE AND OTHER TRANSACTIONS WITH AFFILIATES
MANAGEMENT FEE--Virtus Capital Management Inc., the Fund's manager (the
"Manager"), receives for its services an annual management fee equal to 1.00%
of the Fund's average daily net assets. The Manager may voluntarily choose to
waive any portion of its fee and/or reimburse certain operating expenses of
the Fund. The Manager can modify or terminate this voluntary waiver and/or
reimbursement at any time at its sole discretion.
SUB-ADVISORY FEE--Under the terms of a sub-advisory agreement between the
Manager and the Mellon Capital Management Corporation (the "Portfolio
Adviser"), the Portfolio Adviser receives an annual fee from the Manager equal
to 0.50% of the Fund's average daily net assets up to $50 million, 0.375% of
the Fund's net assets between $50 million and $200 million, and 0.25% on net
assets in excess of $200 million, payable by the Manager, in quarterly
installments.
ADMINISTRATIVE FEE--Federated Administrative Services ("FAS") provides the
Fund with certain administrative personnel and services. The fee paid to FAS
is based on the level of average combined aggregate net assets of the Trust,
the Blanchard Precious Metals Fund Inc., and the Virtus Funds, all of which
are advised by the Manager, for the period. The administrative fee received
during the period of the Administrative Services Agreement shall be at least
$75,000 per portfolio. FAS may voluntarily choose to waive a portion of its
fee.
DISTRIBUTION SERVICES FEE--The Fund has adopted a Distribution Plan (the
"Plan") pursuant to Rule 12b-1 under the Act. Under the terms of the Plan, the
Fund will reimburse Federated Securities Corp. ("FSC"), the principal
distributor, from the net assets of the Fund to finance activities intended to
result in the sale of the Fund's shares. The Plan provides that the Fund may
incur distribution expenses up to 0.25% of the average daily net assets of the
Fund, annually, to reimburse FSC. As of September 30, 1997, the fund accrued
no distribution services fee and has no intention of accruing this fee.
- -------------------------------------------------------------------------------
TRANSFER AGENT AND DIVIDEND DISBURSING AGENT FEES--Federated Services Company
("FServ"), through its subsidiary, Federated Shareholder Services Company
("FSSC") serves as transfer and dividend disbursing agent for the Fund. The
fee is paid to FSSC is based on size, type, and number of
accounts and transactions made by shareholders.
PORTFOLIO ACCOUNTING FEES--FServ maintains the Fund's accounting records for
which it receives a fee. The fee is based on the level of the Fund's average
daily net assets for the period, plus out-of-pocket expenses.
CUSTODIAN FEES--Signet Trust Company is the Fund's custodian. The fee is based
on the level of the Fund's average daily net assets for the period, plus
out-of-pocket expenses. The custodian may voluntarily choose to waive a
portion of its fee.
GENERAL--Certain of the Officers and Trustees of the Trust are Officers and
Directors or Trustees of the above companies.
(5) INVESTMENT TRANSACTIONS
Purchases and sales of investments, excluding short-term securities, for the
period ended September 30, 1997, were as follows:
<TABLE>
<S> <C>
PURCHASES $ 989,383
- --------- -----------
SALES $ 1,429,728
- --------- -----------
</TABLE>
(6) PROPOSED FUND MERGER
On July 18, 1997, Signet Banking Corporation ("Signet") entered into a
definitive Agreement and Plan of Reorganization whereby Signet was acquired by
First Union Corporation ("First Union"). It is anticipated that the merger will
be consummated on or about November 28, 1997. As a result of this
merger, First Union will succeed to the investment advisory and administrative
functions formerly performed for the funds by various units of Signet and
various unaffiliated parties. The Board of Trustees of the Trust has
approved an Agreement and Plan of Reorganization pursuant to which, on or about
February 27, 1998, all of the assets, and certain liabilities of the Funds would
be acquired in exchange for shares of a similarly managed fund (the "Acquiring
Fund") that is advised by affiliates of First Union. The reorganization would
result in the liquidation and termination of the Funds. Pursuant to the
reorganization, shareholders of the Funds will receive, tax-free, the number of
shares of the acquiring fund having a value equal to the value of their shares
immediately prior to the reorganization. Consummation of the reorganization is
subject to approval of the shareholders of the Funds.
INDEPENDENT AUDITORS' REPORT
- -------------------------------------------------------------------------------
To the Board of Directors of
Blanchard Asset Allocation Fund:
We have audited the accompanying statement of assets and liabilities, including
the portfolio of investments, of Blanchard Asset Allocation Fund (the "Fund") as
of September 30, 1997, and the related statements of operations for the year
then ended, the statements of changes in net assets for the years ended
September 30, 1997 and the period from June 6, 1996 to September 30, 1996, and
the financial highlights for the periods presented. These financial statements
and financial highlights are the responsibility of the Fund'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 the securities owned at
September 30, 1997 by correspondence with the custodian and brokers; where
replies were not received from brokers, we performed other auditing procedures.
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, such financial statements and financial
highlights present fairly, in all material respects, the financial position of
Blanchard Asset Allocation Fund as of September 30, 1997, the results of its
operations, the changes in its net assets and its financial highlights for the
respective stated periods in conformity with generally accepted accounting
principles. As more fully described in Note 6, in November, 1997 the
Fund is expected to enter into an Agreement and Plan of Reorganization, pursuant
to which (subject to Fund shareholder approval) on or about February 27, 1998,
all of the assets, and certain liabilities of the Fund would be acquired in
exchange for shares or a similarly managed Fund that is advised by affiliates of
First Union Corporation. The reorganization would result in the liquidation and
termination of the Fund.
Deloitte & Touche LLP
Pittsburgh, Pennsylvania
November 7, 1997
ADDRESSES
- --------------------------------------------------------------------------------
<TABLE>
<S> <C>
Blanchard Asset Allocation Fund Federated Investors Tower
Pittsburgh, Pennsylvania 15222-3779
- ---------------------------------------------------------------------------
Distributor
Federated Securities Corp. Federated Investors Tower
Pittsburgh, Pennsylvania 15222-3779
- ---------------------------------------------------------------------------
Manager
Virtus Capital Management, Inc. 707 East Main Street
Suite 1300
Richmond, Virginia 23219
- ---------------------------------------------------------------------------
Portfolio Adviser
Mellon Capital Management 595 Market Street, 30th Floor
Corporation San Francisco, California 94105
- ---------------------------------------------------------------------------
Custodian
Signet Trust Company 7 North Eighth Street
Richmond, Virginia 23219
- ---------------------------------------------------------------------------
Transfer Agent and Dividend Disbursing Agent
Federated Shareholder Services Federated Investors Tower
Company Pittsburgh, Pennsylvania 15222-3779
- ---------------------------------------------------------------------------
Independent Auditors
Deloitte & Touche LLP 2500 One PPG Place
Pittsburgh, Pennsylvania 15222
- ---------------------------------------------------------------------------
</TABLE>
The Blanchard Group of Funds are available through Signet Financial Servies,
Inc., member NASD, and are advised by an affiliate, Virtus Capital Management,
Inc., which is compensated for this service.
Investment products are not deposits, obligations of, or guaranteed by any bank.
They are not insured by the FDIC. They involve risk, including the possible loss
of principal invested.
(2194)
CUSIP 093212504
G01386-06 (11/97)
B L A N C H A R D
BLANCHARD
GROUP OF FUNDS
Blanchard Global Growth Fund
Blanchard Precious Metals Fund, Inc.
Blanchard Flexible Income Fund
Blanchard Short-Term Flexible Income Fund
Blanchard Flexible Tax-Free Bond Fund
Combined Prospectus
November 30, 1997
B L A N C H A R D
BLANCHARD GROUP OF FUNDS
COMBINED PROSPECTUS
. Blanchard Global Growth Fund
. Blanchard Precious Metals Fund, Inc.
. Blanchard Flexible Income Fund
. Blanchard Short-Term Flexible Income Fund
. Blanchard Flexible Tax-Free Bond Fund
Blanchard Funds (the "Trust"), which currently consists of six investment
portfolios, and Blanchard Precious Metals Fund, Inc. (the "Company"), which
currently consists of one investment portfolio (each portfolio individually
referred to as a "Fund" and collectively as the "Funds"), are open-end
management investment companies which offer separate investment alternatives for
different investor needs. This prospectus relates only to four portfolios of the
Trust and one portfolio of the Company. Virtus Capital Management, Inc. is the
Funds' overall manager. There is no guarantee that the Funds will achieve their
investment objectives. Please read this Prospectus carefully and retain
it for future reference. A copy of each Fund's Statement of Additional
Information, dated November 30, 1997, has been filed with the Securities and
Exchange Commission ("SEC") and is incorporated herein by reference. You may
request a copy of the Statements of Additional Information or a paper copy of
this Prospectus, if you have received your Prospectus electronically, free of
charge by calling 1-800-829- 3863. To obtain other information or make inquiries
about the Funds, contact Signet Financial Services, Inc. at 1-800-829-3863. The
Statements of Additional Information, material incorporated by reference into
this document, and other information regarding the Funds, is maintained
electronically with the SEC at Internet Web site (http://www.sec.gov).
The Board of Trustees/Directors of the Funds has approved an Agreement and Plan
of Reorganization, on behalf of each Fund, pursuant to which, on or about
February 27, 1998, all of the assets, and certain liabilities of each Fund would
be acquired in exchange for shares of certain similarly managed funds (the
"Acquiring Funds") that are advised by affiliates of First Union Corporation.
The reorganizations would result in the liquidation and termination of each
Fund. Pursuant to the reorganizations, holders of Shares of each Fund would
receive, tax-free, that number of shares of an Acquiring Fund having a value
equal to the value of such shareholders' Shares immediately prior to the
reorganizations. Consummation of the reorganizations is subject to approval of
the shareholders of the Funds at a meeting scheduled to be held on February 20,
1998.
The shares offered by this prospectus are not deposits, obligations of, or
guaranteed By Signet Bank or any of its affiliates, and are not insured by the
Federal Deposit Insurance Corporation, the Federal Reserve Board, or any other
government agency. In addition, they involve risk, including possible loss of
principal invested. 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
November 30, 1997
TABLE OF CONTENTS
- -------------------------------------------------------------------------------
HIGHLIGHTS 1 HOW TO REDEEM 21
- ------------------------------------- -------------------------------------
SUMMARY OF FUND EXPENSES 3 DISTRIBUTION OF SHARES OF THE
- ------------------------------------- FUNDS 23
-------------------------------------
FINANCIAL HIGHLIGHTS 4
- ------------------------------------- TAX MATTERS 24
-------------------------------------
THE FUNDS' INVESTMENT OBJECTIVES
AND POLICIES 6 PERFORMANCE INFORMATION 26
- ------------------------------------- -------------------------------------
MANAGEMENT OF THE FUNDS 16 ADDITIONAL INFORMATION ABOUT THE
- ------------------------------------- FUNDS 28
-------------------------------------
PORTFOLIO ADVISORY SERVICES 17
- ------------------------------------- ADDITIONAL INVESTMENT INFORMATION 30
-------------------------------------
HOW TO INVEST 18 CERTAIN INVESTMENT STRATEGIES AND
POLICIES 34
- ------------------------------------- -------------------------------------
INVESTOR SERVICES 20 APPENDIX A 46
- ------------------------------------- -------------------------------------
The Funds' investment objectives and policies are summarized below. See "The
Funds' Investment Objectives and Policies" for a more complete discussion.
BLANCHARD GLOBAL GROWTH FUND ("BGGF") seeks to provide long-term capital growth.
As worldwide investment and economic trends change rapidly, the flexible
investment strategy of the Fund permits it to follow a global allocation
strategy that contemplates shifts among strategic market sectors. These include
the following: U.S. Equities; U.S. Fixed Income; Foreign Equities; Foreign Fixed
Income; Precious Metals Securities; and Emerging Markets.
BLANCHARD PRECIOUS METALS FUND, INC. ("BPMF") seeks to provide long-term capital
appreciation and preservation of purchasing power through investments in
physical precious metals, such as gold, silver, platinum and palladium, and in
securities of companies involved with precious metals. A secondary objective of
the Fund is to reduce the risk of loss of capital and decrease the volatility
often associated with precious metals investments by changing the allocation of
its assets from precious metals securities to physical precious metals and/or
investing in short-term instruments and government securities during periods
when the Fund's portfolio manager believes the precious metals markets may
experience declines.
BLANCHARD FLEXIBLE INCOME FUND ("BFIF") seeks to provide high current income
while seeking opportunities for capital appreciation. The Fund is designed for
fixed-income investors with a long-term investment horizon. The Fund invests in
different fixed income securities markets: U.S. Government Securities,
Investment Grade Fixed Income Securities, High Yield Securities and
International Fixed Income Securities. In seeking its objective of high current
income, the Fund also takes into consideration preservation of capital.
BLANCHARD SHORT-TERM FLEXIBLE INCOME FUND ("BSTFIF") seeks to provide a high
level of current income consistent with preservation of capital by investing
primarily in a broad range of short-term debt securities. The Fund will normally
maintain a dollarweighted average portfolio maturity of three years or less. The
Fund intends to invest primarily in investment-grade securities.
BLANCHARD FLEXIBLE TAX-FREE BOND FUND ("BFTFBF") seeks to provide a high level
of current interest income exempt from Federal income tax consistent with the
preservation of principal. The Fund invests primarily in bonds of varying
maturities issued by or on behalf of states, territories and possessions of the
United States and the District of Columbia and their political subdivisions,
agencies, authorities and instrumentalities, the interest from which, in the
opinion of bond counsel for the issuer, is exempt from Federal income tax. The
Fund has no restrictions on the maturities of bonds that it may purchase.
Rather, it retains the flexibility to lengthen or shorten the overall maturity
of its portfolio based on its Portfolio Adviser's outlook on interest rate
movements, as it attempts to reduce any price volatility. The Fund invests
primarily in high quality, investment-grade bonds.
HIGHLIGHTS
- -------------------------------------------------------------------------------
FUND MANAGEMENT
Virtus Capital Management, Inc. ("VCM") provides the overall management
services necessary for the Funds' operations. As of September 30, 1997, VCM
had more than $1.9 billion in assets under management. VCM selected, and
continually monitors and evaluates, the Funds' Portfolio Advisers. The
Portfolio Advisers are responsible for the selection of each Fund's portfolio
investments.
VCM receives monthly compensation from each Fund based on the amount of assets
under management. VCM, not the Fund, pays the fees of each Portfolio Adviser
pursuant to a sub-advisory agreement. See "Management of the Funds" and
"Portfolio Advisory Services."
HOW TO INVEST AND REDEEM
You may purchase shares directly from Federated Securities Corp. (the
"Distributor"), which is each Fund's principal distributor. You may also
purchase shares from broker-dealers who have entered into a dealer agreement
with the Distributor.
The minimum amount required to open an account in any of the Funds is $3,000
($2,000 for qualified retirement plans, such as IRAs and Keoghs). The minimum
subsequent investment requirement for all Funds is $200. There is no fee for
additional investments made to existing accounts, nor is there a fee charged
when redeeming shares, sometimes called a back-end load. Each Fund has also
adopted a distribution plan which permits the reimbursement of distribution
expenses by the Fund on an annual basis. See "How to Invest" and "Distribution
of Shares of the Funds."
You may redeem your shares on any business day at the next determined net
asset value calculated after Signet Financial Services, Inc. ("Signet") has
received the redemption request in proper form. See "How to Redeem."
Each Fund reserves the right to close to further new investments if such Fund's
Portfolio Adviser believes that the Fund's size may hamper their effectiveness
in managing the portfolio. In this event, no new investments will be accepted
until further review. Shareholders who have established accounts prior to the
closure date will be allowed to add to their accounts.
INVESTOR SERVICES AND PRIVILEGES
The Funds offer certain investor services and privileges that may be suited to
your particular investment needs, including free Telephone Exchange
Privileges, Investment and Withdrawal Plans and various Retirement Plans. See
"Investor Services."
DIVIDENDS
BGGF and BPMF intend to declare dividends at least annually from net investment
income. BSTFIF, BFTFBF and BFIF intend to declare dividends daily and pay
monthly from net investment income. Dividends are automatically reinvested in
additional Fund shares at net asset value on the payment date and are reflected
in the statements we send you, unless you elect to receive them in cash, in
which case we will send you a monthly check. See "Tax Matters."
SPECIAL CONSIDERATIONS
The Funds are non-diversified funds. Non-diversified Funds may be invested in a
limited number of issues; thus, there may be greater risk in an investment in
these Funds than in diversified investment companies. Moreover, there are
potential risks associated with certain of the Funds' investments and additional
risk considerations that may be associated with certain techniques and
strategies employed by the Funds, including those relating to investments in
foreign securities and futures and options transactions. Such risks may not be
incurred by other investment companies which have similar investment objectives,
but which do not use these techniques and strategies.
Blanchard Funds is organized as a Massachusetts business trust, and the
Blanchard Precious Metals Fund, Inc. is organized as a Maryland corporation. In
each state, nomenclature varies. For convenience, in this Prospectus, you will
be referred to as "shareholders," your Fund shares as "shares" and your
directors or trustees as "Board Members." In addition, the portfolio advisers
will be collectively referred to as "Portfolio Advisers."
SUMMARY OF FUND EXPENSES
- -------------------------------------------------------------------------------
<TABLE>
<CAPTION>
BGGF BPMF BFIF BSTFIF BFTFBF
----- ----- ----- ------ ------
<S> <C> <C> <C> <C> <C>
SHAREHOLDER TRANSACTION EXPENSES
Maximum Sales Charge Imposed on Purchases
(as a percentage of offering price)........... None None None None None
Maximum Sales Charge Imposed on Reinvested
Dividends
(as a percentage of offering price)........... None None None None None
Contingent Deferred Sales Charge
(as a percentage of original purchase price
or redemption proceeds, as applicable)........ None None None None None
Redemption Fees (as a percentage of amount
redeemed, if applicable)...................... None None None None None
Exchange Fee................................... None None None None None
ANNUAL FUND OPERATING EXPENSES
(As a percentage of projected average net
assets)
Management Fee (after waiver if applicable)(1). 1.00% 1.00% 0.75% 0.75% 0.24%
12b-1 Fees (after waiver if applicable)(2)..... 0.75% 0.75% 0.25% 0.25% 0.00%
Other Expenses................................. 0.79% 0.76% 0.60% 0.53% 1.44%
Total Fund Operating Expenses
(after waivers if applicable)(3)........ 2.54% 2.51% 1.60% 1.53% 1.68%
</TABLE>
(1) The management fee has been reduced to reflect the voluntary waiver by the
investment adviser. The adviser can terminate this voluntary waiver at any
time at its sole discretion. The maximum management fee is 0.75% for the
Flexible Tax-Free Bond Fund.
(2) The maximum 12b-1 fee for the Flexible Tax-Free Bond Fund is 0.25%.
(3) The Total Fund Operating Expenses for the fiscal year ending September 30,
1997 were 2.39% for Global Growth Fund, 2.21% for Precious Metals Fund,
1.42% for Flexible Income Fund, 1.38% for Short-Term Flexible Income Fund,
and 1.00% for Flexible Tax-Free Bond Fund. The Total Fund Operating Expenses
for the Short-Term Flexible Income Fund and the Flexible Tax-Free Bond Fund
would have been 1.47% and 2.05%, respectively, absent the voluntary waivers.
Total Fund Operating Expenses in the table above are based on expenses
expected for the fiscal year ended September 30, 1998. Total Fund Operating
Expenses for the Flexible Tax-Free Bond Fund would be 2.44% absent the
voluntary waiver described above in note 1 and note 2.
THE PURPOSE OF THIS TABLE IS TO ASSIST AN INVESTOR IN UNDERSTANDING THE
VARIOUS COSTS AND EXPENSES THAT A SHAREHOLDER OF THE FUNDS WILL BEAR EITHER
DIRECTLY OR INDIRECTLY. FOR MORE COMPLETE DESCRIPTIONS OF THE VARIOUS COSTS AND
EXPENSES, SEE "MANAGEMENT OF THE FUNDS" AND "DISTRIBUTION OF SHARES OF THE
FUNDS".
LONG-TERM SHAREHOLDERS MAY PAY MORE THAN THE ECONOMIC EQUIVALENT OF THE
MAXIMUM FRONT-END SALES CHARGES PERMITTED UNDER THE RULES OF THE NATIONAL
ASSOCIATION OF SECURITIES DEALERS, INC.
EXAMPLE
You would pay the following expenses on a $1,000 investment assuming (1) 5%
annual return; (2) redemption at the end of each time period; and (3) payment of
the maximum sales load. As noted in the table above, the Funds charge no
redemption fees.
<TABLE>
<CAPTION>
BGGF BPMF BFIF BSTFIF BFTFBF
---- ---- ---- ------ ------
<S> <C> <C> <C> <C> <C>
1 Year............................................. $ 26 $ 25 $ 16 $ 16 $ 17
3 Years............................................ $ 79 $ 78 $ 51 $ 48 $ 53
5 Years............................................ $135 $134 $ 87 $ 83 $ 91
10 Years........................................... $288 $285 $190 $182 $199
</TABLE>
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--BLANCHARD GROUP OF FUNDS
- -------------------------------------------------------------------------------
(For a share outstanding throughout each period)
The financial highlights for the period ended September 30, 1997 have been
audited by Deloitte & Touche LLP, independent auditors of Blanchard Funds and
Blanchard Precious Metals Fund, Inc. (collectively referred to as the "Funds").
Their report dated October 31, 1997 on the Funds' financial statements for the
year ended September 30, 1997 is included in the Funds respective Annual
Reports, which are incorporated by reference. This table should be read in
conjunction with the Funds' financial statements and notes thereto, which may be
obtained free of charge from the Funds.
<TABLE>
<CAPTION>
Net realized and Distributions
unrealized from net
gain/(loss) on realized gains
investments, on investments,
Net asset futures Distributions Distributions futures
Year ended value, Net investment contracts, and Total from from net in excess of contracts, and
April 30/ beginning income/ foreign currency investment investment net investment Tax return foreign currency
September 30, of period operating (loss) transactions operations income income(f) of capital transactions
- ------------- --------- ---------------- ---------------- ---------- ------------- -------------- ---------- ----------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
BGGF
1987 $ 8.00 0.01 2.50 2.51 -- -- -- --
1988 $10.51 0.14 (0.21) (0.07) (0.12) -- -- (0.64)
1989 $ 9.68 0.22 0.49 0.71 (0.10) -- -- (0.18)
1990 $10.11 0.30 0.09 0.39 (0.38) -- -- (0.50)
1991 $ 9.62 0.30 0.14 0.44 (0.21) -- -- (0.21)
1992 $ 9.64 0.33 0.26 0.59 (0.31) -- -- --
1993 $ 9.92 0.25 0.32 0.57 (0.30) -- -- (0.19)
1994 $10.00 0.03 1.29 1.32 -- -- (1.28)
1995 $10.04 0.08 (0.19) (0.11) -- -- --
1996 $ 9.71 0.04 1.86 1.90 (0.04) (0.04) -- --
1996(a) $11.53 0.08 0.13 0.21 -- -- --
1997 $11.74 0.23 1.04 1.27 (0.21) -- -- (2.26)
BPMF
1989(b) $ 8.00 0.02 (0.83) (0.81) -- -- -- --
1990 $ 7.19 (0.03)(i) (0.59)(i) (0.62) -- -- (0.14) (0.03)
1991 $ 6.30 (0.08)(i) (0.93)(i) (1.01) -- -- -- --
1992 $ 5.29 (0.09)(i) (0.16)(i) (0.25) -- -- -- --
1993 $ 5.04 (0.08)(i) 1.87 (i) 1.79 -- -- -- --
1994 $ 6.83 (0.11)(i) 2.01 (i) 1.90 -- -- -- --
1995 $ 8.73 (0.02) (0.41) (0.43) -- -- (0.09) (0.03)
1996 $ 7.12 (0.10) 2.75 2.65 -- -- -- --
1996(a) $ 9.77 (0.10) (0.77) (0.87) -- -- -- --
1997 $ 8.90 (0.02) (0.96) (0.98) (0.30) -- -- (2.25)
BFIF
1993(c) $ 5.00 0.21 0.09 0.30 (0.21) -- -- --
1994 $ 5.09 0.40 (0.17) 0.23 (0.36) -- (0.03) (0.08)
1995 $ 4.85 0.30 (0.13) 0.17 (0.00)(m) -- (0.31) --
1996 $ 4.71 0.28 0.10 0.38 (0.31) -- -- --
1996(a) $ 4.78 0.15 0.04 0.19 (0.13) -- (0.00)(m) --
1997 $ 4.84 0.30 0.15 0.45 (0.30) -- (0.01) --
BSTFIF
1993(d) $ 3.00 0.00 (m) 0.00 (m) 0.00 (m) (0.00)(m) -- -- (0.00)(m)
1994 $ 3.00 0.17 (0.06) 0.11 (0.17) -- -- (0.01)
1995 $ 2.93 0.15 -- 0.15 (0.14) (0.00)(m) -- --
1996 $ 2.94 0.22 -- 0.22 (0.17) (0.00)(m) -- --
1996(a) $ 2.99 0.07 0.01 0.08 (0.06) (0.00)(m) (0.01) --
1997 $ 3.00 0.17 0.04 0.21 (0.17) -- -- (0.00)(m)
BFTFBF
1994(e) $ 5.00 0.18 (0.20) (0.02) (0.18) -- -- (0.03)
1995 $ 4.77 0.24 0.26 0.50 (0.23) (0.01) -- --
1996 $ 5.03 0.22 0.13 0.35 (0.22) -- -- --
1996(a) $ 5.16 0.11 0.15 0.26 (0.11) -- -- --
1997 $ 5.31 0.25 0.25 0.50 (0.25) -- -- --
</TABLE>
* Computed on an annualized basis.
(a) The Funds have changed their fiscal year end from April 30 to September 30.
Reflects operations for the period from May 1, 1996 to September 30, 1996.
(b) Reflects operations for the period from June 22, 1988 (date of initial
public investment) to April 30, 1989.
(c) Reflects operations for the period from November 2, 1992 (commencement of
operations) to April 30, 1993.
(d) Reflects operations for the period from April 16, 1993 (commencement of
operations) to April 30, 1993.
(e) Reflects operations for the period from August 12, 1993 (commencement of
operations) to April 30, 1994.
(f) Distributions are determined in accordance with income tax regulations which
may differ from generally accepted accounting principles. These
distributions do not represent a return of capital for federal income tax
purposes.
(g) Based on net asset value.
(h) This voluntary expense decrease is reflected in both the expense and net
investment income ratios shown above.
FINANCIAL HIGHLIGHTS--BLANCHARD GROUP OF FUNDS
- -------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Distributions
in excess of net Ratios to Average Net Assets
realized gains ------------------------------------------
on investments, Net
futures investment Expense Average
contracts, and Net asset income/ waiver/ Net assets, Commission
foreign currency Total value, end Total operating reimburse- end of period rate
transactions(f) distributions of period return(g) Expenses (loss) ment(h) (000 omitted) paid(n)
- ---------------- ------------- ---------- --------- -------- ---------- ---------- ------------- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
-- -- $10.51 31.38% 3.10%* 0.34%* -- $149,018 --
-- (0.76) $ 9.68 (0.57%) 2.28% 1.42% -- $246,048 --
-- (0.28) $10.11 7.55% 2.29% 2.27% -- $244,048 --
-- (0.88) $ 9.62 3.74% 2.28% 2.86% -- $233,300 --
-- (0.42) $ 9.64 4.61% 2.36% 2.84% -- $193,593 --
-- (0.31) $ 9.92 6.24% 2.31% 2.31% -- $128,047 --
-- (0.49) $10.00 6.08% 2.40% 1.72% -- $ 84,780 --
-- (1.28) $10.04 12.91% 2.61% 0.67% -- $109,805 --
(0.22) (0.22) $ 9.71 (1.04%) 2.51% 0.76% -- $ 87,088 --
-- (0.08) $11.53 19.68% 2.54% 0.38% -- $ 71,182 --
-- -- $11.74 1.91% 2.52%* 1.60%* -- $ 67,907 $0.0040
-- (2.47) $10.54 13.20% 2.39% 1.97% -- $ 62,197 $0.0049
-- -- $ 7.19 (10.20%) 3.99%*(j)(k) 0.77%*(j)(l) -- $ 25,837 --
(0.10) (0.27) $ 6.30 (10.90%) 2.95% (0.40%) -- $ 31,539 --
-- -- $ 5.29 (16.00%) 3.05% (1.28%) -- $ 24,924 --
-- -- $ 5.04 (4.70%) 3.09% (1.57%) -- $ 20,900 --
-- -- $ 6.83 35.50% 3.24% (1.46%) -- $ 32,636 --
-- -- $ 8.73 27.80% 2.46% (1.21%) -- $ 68,092 --
(1.06) (1.18) $ 7.12 (4.39%) 2.49% (1.48%) -- $ 75,282 --
-- $ 9.77 37.03% 2.36% (1.27%) -- $129,289 --
-- -- $ 8.90 (8.90%) 2.32%* (1.13%)* -- $ 87,888 $0.0199
-- (2.55) $ 5.37 (15.24%) 2.21% (0.45%) -- $ 67,037 $0.0125
-- (0.21) $ 5.09 6.17% 0.20%* 9.02%* -- $315,845 --
-- (0.47) $ 4.85 4.11% 1.30% 7.10% -- $550,254 --
-- (0.31) $ 4.71 3.74% 1.58% 6.52% -- $262,423 --
-- (0.31) $ 4.78 8.06% 1.56% 6.06% -- $206,235 --
-- (0.13) $ 4.84 3.95% 1.59%* 7.38%* 0.01%* $187,353 --
-- (0.31) $ 4.98 9.53% 1.42% 6.26% -- $155,223 --
-- (0.00)(m) $ 3.00 0.15% 3.03%* 3.89%* -- $ 2,000 --
-- (0.18) $ 2.93 3.72% 0.63% 5.64% 1.42% $ 42,381 --
-- (0.14) $ 2.94 5.34% 1.38% 4.80% 0.75% $ 23,445 --
-- (0.17) $ 2.99 7.47% 1.44% 5.49% 0.40% $177,766 --
-- (0.07) $ 3.00 2.61% 1.39%* 5.26%* 0.25%* $158,034 --
-- (0.17) $ 3.04 7.24% 1.38% 5.63% 0.09% $133,878 --
-- (0.21) $ 4.77 (0.48%) 0.00%* 6.79%* 2.22%* $ 23,267 --
-- (0.24) $ 5.03 10.74% 1.00% 4.87% 1.17% $ 19,496 --
-- (0.22) $ 5.16 6.86% 1.05% 4.43% 1.25% $ 22,723 --
-- (0.11) $ 5.31 5.02% 1.01%* 4.83%* 1.23%* $ 22,570 --
-- (0.25) $ 5.56 9.59% 1.00% 4.46% 1.05% $ 24,077 --
<CAPTION>
Distributions
in excess of net
realized gains
on investments,
futures
contracts, and Portfolio
foreign currency turnover
transactions(f) rate
- ----------------- ---------
<S> <C>
-- 70%
-- 120%
-- 85%
-- 88%
-- 78%
-- 109%
-- 138%
-- 166%
(0.22) 221%
-- 91%
-- 47%
-- 49%
-- 21%
(0.10) 56%
-- 57%
-- 62%
-- 66%
-- 174%
(1.06) 116%
176%
-- 36%
-- 97%
-- 129%
-- 346%
-- 455%
-- 347%
-- 87%
-- 101%
-- 36%
-- 212%
-- 84%
-- 291%
-- 21%
-- 80%
-- 190%
-- 170%
-- 275%
-- 25%
-- 163%
</TABLE>
(i) Calculated based on average shares outstanding-prior years amounts restated
for comparative purposes.
(j) Net of expense reimbursement.
(k) During the first year (1989), the net expense ratio to average net assets
would have been 4.03%, if a portion of the 12b-1 distribution and management
fees had not been waived by the prior distributor and prior manager,
respectively.
(l) The investment income ratio to average net assets would have been 0.72%, if
a portion of the 12b-1 distribution and management fees had not been waived
by the prior distributor and prior manager, respectively.
(m) Less than one cent per share.
(n) Represents total commissions paid on portfolio securities divided by total
portfolio shares purchased or sold on which commissions were charged. This
disclosure is required for fiscal years beginning on or after September 1,
1995.
(See Notes which are an integral part of the Financial Statements)
THE FUNDS' INVESTMENT OBJECTIVES AND POLICIES
- -------------------------------------------------------------------------------
The investment objectives and policies of each Fund are described below.
Specific investment techniques that may be employed by the Funds are described
in a separate section of this Prospectus and in each Fund's Statement of
Additional Information. Our investment objectives and certain policies, except
as noted, are fundamental and can only be changed by vote of a majority of the
outstanding shares of a particular Fund. We may not always achieve our
objectives, but will follow the investment standards described below.
BLANCHARD GLOBAL GROWTH FUND
The Fund seeks to provide long-term capital growth. Current income is incidental
to the Fund's objective. The Fund attempts to achieve its objective through the
implementation of the strategy outlined below. The Fund will invest, under
normal market conditions, at least 65% of the value of its total assets in
securities of at least three different countries.
The Fund's investment policies reflect the opinion of Mellon Capital Management
Corporation ("MCM" or the "Portfolio Adviser"), the Fund's portfolio adviser or
sub-adviser, that the world economic system is characterized by various cycles
affecting, among other things, business activities, inflation, interest rates,
currencies, and price levels and that by shifting its assets among the six
investment sectors, the Fund can take advantage of investment opportunities
created by such cycles. MCM believes that within each cycle, certain investment
sectors offer more investment opportunities than others. Naturally, there can be
no guarantee that MCM can predict business cycles with 100% accuracy or that the
objective of the Fund can be achieved.
When Fund management believes that market conditions warrant a temporary
defensive position, it may invest up to 100% of the Fund's assets in cash,
including foreign currencies, short-term instruments such as commercial paper,
bank certificates of deposit, bankers' acceptances, or repurchase agreements for
such securities and securities of the U.S. government and its agencies and
instrumentalities.
VCM has identified the following six strategic investment sectors which have
generally responded, both positively and negatively, to almost all major
economic trends. A percentage of the Fund's assets need not be allocated into
all sectors. The following table indicates the maximum percentage of total
assets of the Fund that may be invested in each sector. The Fund may have zero
percent allocated to any sector when deemed appropriate by MCM.
PERCENTAGE OF TOTAL ASSETS OF THE FUND IN EACH SECTOR
<TABLE>
<CAPTION>
SECTORS MAXIMUM
------- -------
<S> <C>
U.S. Equities Sector 65%
Foreign Equities Sector 65%
U.S. Fixed Income Sector 65%
Foreign Fixed Income Sector 65%
Precious Metals Securities Sector 25%
Emerging Markets Sector 15%
</TABLE>
The Portfolio Adviser will actively allocate Fund assets, through investments in
the U.S. Equities, Foreign Equities, U.S. Fixed Income and Foreign Fixed Income
Sectors, across the major debt and equity markets of the world, overweighting
sectors that the Portfolio Adviser believes are undervalued. The Portfolio
Adviser may also allocate Fund assets to the Precious Metals Securities Sector
and the Emerging Markets Sector in an attempt to further diversify portfolio
holdings, protect against increases in inflation and enhance overall returns.
The Portfolio Adviser will monitor currency exposure, and such exposure will be
actively hedged as currencies become overvalued.
It is possible that an overlapping of investments among the six investment
sectors may occur. For example, investments in U.S. equity securities are not
found only in the U.S. Equities Sector, as the Precious Metals Securities Sector
may invest in common stocks of U.S. precious metals-related companies as well.
Therefore, if the U.S. Equities Sector was at its maximum allocation of 65% of
the Fund's assets, and the Precious Metals Securities Sector had investments in
U.S. common stocks of precious metals companies, the total assets of the Fund
invested in U.S. equity securities could exceed 65%.
U.S. EQUITIES, FOREIGN EQUITIES, U.S. FIXED INCOME AND FOREIGN FIXED INCOME
SECTORS. Within the four U.S. and foreign equities and income sectors, the
Portfolio Adviser will use a highly disciplined process to determine the
percentage of the Fund's assets which will be from time-to-time allocated among
each U.S. and foreign country's markets, based upon the Portfolio Adviser's
assessment of risk and the degree by which each such market is currently
undervalued. (The foreign countries which will be included within the Foreign
Equities and the Foreign Fixed Income Sectors are the following: Australia,
Austria, Belgium, Canada, Denmark, France, Finland, Germany, Hong Kong, Ireland,
Italy, Japan, the Netherlands, New Zealand, Norway, Singapore/Malaysia, South
Africa, Spain, Sweden, Switzerland and the United Kingdom. This list may be
modified from time-to-time to conform to the list of countries included in the
Morgan Stanley Capital International World Index [the "Morgan Stanley Index"]).
In estimating the relative attractiveness of each asset class, MCM will take
into account various factors. Common stocks will be evaluated using a
"dividend-discount" model. This model provides an expected return of the
relevant common stock index of each market in which the Fund may invest (i.e.,
the Standard & Poor's 500 Composite Stock Price Index* [the "S&P 500 Index"] for
the U.S. Equities Sector, and the separate country indices comprising the Morgan
Stanley Index for the Foreign Equities Sector) based upon earnings for companies
whose stocks are included in such Indices. The expected bond return is that
expected to be produced by long-term bonds with credit risks similar to bonds
rated Aa by Moody's Investors Service, Inc. ("Moody's") or AA by Standard &
Poor's Ratings Group ("Standard & Poor's").
- --------
*"Standard & Poor's(R)," "S&P(R)," "S&P 500(R)" and "Standard & Poor's 500"
are trademarks of McGraw-Hill, Inc. and have been licensed for use by MCM.
The Fund is not sponsored, endorsed, sold or promoted by Standard & Poor's.
Standard & Poor's makes no representation or warranty, express or implied, to
the owners of the Fund or any member of the public regarding the advisability of
investing in securities generally or in the Fund particularly or the ability of
the S&P 500 Index to track general stock market performance. Standard & Poor's
only relationship to MCM is the licensing of certain trademarks and trade names
of Standard & Poor's and of the S&P 500 Index which is determined, composed and
calculated by Standard & Poor's without regard to MCM or the Fund. Standard &
Poor's has no obligation to take the needs of MCM or the Once expected return
and volatility (risk) estimates are developed for each asset class within the
four U.S. and foreign equity and fixed income sectors, the Portfolio Adviser
will attempt to identify apparent imbalances in the relative prices of the
securities of each market, using a computer model.
To implement its allocation strategy, the Portfolio Adviser will invest in the
following securities: (i) in the U.S. Equity Sector, the Portfolio Adviser will
invest in a diversified portfolio of common stocks which seeks to track the
performance of the S&P 500 Index; (ii) in the U.S. Fixed Income Sector, the
Portfolio Adviser will invest in a diversified portfolio of U.S. fixed income
obligations which seeks to track the performance of the Lehman Long- Term
Treasury Index; (iii) in the Foreign Equities Sector, the Portfolio Adviser will
invest in a diversified portfolio of common stocks which seeks to track the
performance of individual country segments of the Morgan Stanley Index; (iv) and
in the Foreign Fixed Income Sector, the Portfolio Adviser will invest in a
portfolio of foreign government fixed income obligations which seeks to track
the individual country segments of the Salomon Brothers World Government (5+)
Bond Index.
The Fund is not an "Index Fund," and thus does not have a policy of weighting
its portfolio so as to approximate the relative composition of the securities
contained in the indices which it seeks to track. Rather, it seeks to track
performance by investing in a select group of securities (each of which is
included in the relevant index) which the Portfolio Adviser believes, taken
together, will represent the performance of the index as a whole.
PRECIOUS METALS SECURITIES SECTOR. Precious metals securities include
securities of metal mining producer and non-producer companies that are
engaged in (i) the exploration, refining and development of gold, silver,
palladium, and platinum; (ii) the manufacture or production of products
incorporating such precious metals (for example, jewelry, photographic
supplies and medical equipment and supplies); or (iii) the marketing of
precious metals or precious metals products. Such
- --------
Footnote continued from page 7.
owners of the Fund into consideration in determining, composing or calculating
the S&P 500 Index. Standard & Poor's is not responsible for and has not
participated in the determination of the prices and amount of the Fund or the
timing of the issuance or sale of the Fund or in the determination or
calculation of the equation by which the Fund is to be converted into cash.
Standard & Poor's has no obligation or liability in connection with the
administration, marketing or trading of the Fund.
STANDARD & POOR'S DOES NOT GUARANTEE THE ACCURACY AND/OR THE COMPLETENESS OF THE
S&P 500 INDEX OR ANY DATA INCLUDED THEREIN AND STANDARD & POOR'S SHALL HAVE NO
LIABILITY FOR ANY ERRORS, OMISSIONS, OR INTERRUPTIONS THEREIN. STANDARD & POOR'S
MAKES NO WARRANTY, EXPRESS OR IMPLIED, AS TO RESULTS TO BE OBTAINED BY MCM,
OWNERS OF THE FUND, OR ANY OTHER PERSON OR ENTITY FROM THE USE OF THE S&P 500
INDEX OR ANY DATA INCLUDED THEREIN. STANDARD & POOR'S MAKES NO EXPRESS OR
IMPLIED WARRANTIES, AND EXPRESSLY DISCLAIMS ALL WARRANTIES OF MERCHANTABILITY OR
FITNESS FOR A PARTICULAR PURPOSE OR USE WITH RESPECT TO THE S&P 500 INDEX OR ANY
DATA INCLUDED THEREIN. WITHOUT LIMITING ANY OF THE FOREGOING, IN NO EVENT SHALL
STANDARD & POOR'S HAVE ANY LIABILITY FOR ANY SPECIAL, PUNITIVE, INDIRECT, OR
CONSEQUENTIAL DAMAGES (INCLUDING LOST PROFITS), EVEN IF NOTIFIED OF THE
POSSIBILITY OF SUCH DAMAGES.
marketing companies may be in the industries named above or in separate
industries that fall into the category of wholesale-retail trade. A company will
be considered to be "engaged in" such activity if it derives more than 50% of
its revenues from or devotes more than 50% of its assets to such activity.
In particular, the Portfolio Adviser may invest in (1) publicly-traded common
stocks, (2) securities convertible into common stocks, such as convertible
preferred stock, convertible debentures, convertible rights and warrants (to the
extent permissible by the Fund's investment policies), and (3) debt securities
of such companies, all of which are believed by the Portfolio Adviser to have
the potential for appreciation.
EMERGING MARKETS SECTOR. The Fund may invest in emerging country equity
securities, which would include common stock, preferred stock (including
convertible preferred stock), bonds, notes and debentures convertible into
common or preferred stock, stock purchase warrants and rights, equity interests
in trusts and partnerships and American, Global or other types of Depository
Receipts of companies; (i) the principal securities market for which is an
emerging country; (ii) that alone or on a consolidated basis derive 50% or more
of their annual revenue from either goods produced, sales made or services
performed in emerging countries; or (iii) that are organized under the laws of,
and with a principal office in, an emerging country. Determinations as to
eligibility will be made by the Portfolio Adviser based upon publicly available
information and inquiries made to the companies.
An emerging country is any country that the International Bank for
Reconstruction and Development (more commonly known as the World Bank) has
determined to have a low or middle income economy. There are currently over 130
countries which are considered to be emerging countries, approximately 40 of
which currently have stock markets. These countries generally include every
nation in the world except the United States, Canada, Japan, Australia, New
Zealand and most nations located in Western Europe. Currently investing in many
emerging countries is not feasible or may involve unacceptable political risks.
The Emerging Markets Sector will focus its investments on those emerging market
countries in which the Portfolio Adviser believes the economies are developing
strongly and in which the markets are becoming more sophisticated.
In addition to the normal determinants of interest rates, inflation, economic
growth and currency movements, country selections and weightings in emerging
growth markets are determined by developmental trends, credit ratings, the
political environment, market liquidity, progress towards privatization and the
degree of foreign investor interest. In addition to emphasizing industries which
are crucial to the development trend in a country and assessing financial
reporting standards and the availability of public information, stock selection
is based on a fundamental analysis of specific criteria including (i) quality of
management; (ii) stock fundamentals (strong earnings growth and profit
potential, positive cash flow, sound balance sheet, geographical sales and
profit spread, and good marketability in shares); and (iii) price and timing.
Depository receipts may not necessarily be denominated in the same currency as
the underlying securities into which they may be converted. In addition, the
issuers of the stock of unsponsored depository receipts are not obligated to
disclose material information in the United States and, therefore, there may not
be a correlation between such information and the market value of the depository
receipts.
OPTIONS AND FUTURES. With respect to all sectors, the Portfolio Adviser may
utilize stock and bond futures and options, currency hedging, and other
investment techniques described under "Certain Investment Strategies and
Policies--Options and Futures" and in the Fund's Statement of Additional
Information, subject to the limitations set forth therein.
BLANCHARD PRECIOUS METALS FUND, INC.
The Fund's primary investment objective is to provide long-term capital
appreciation and preservation of purchasing power through investments in
physical precious metals and securities of companies involved with precious
metals. A secondary objective is to reduce the risk of loss of capital and
decrease the volatility often associated with precious metals investments by
changing the allocation of the Fund's assets from precious metals securities to
physical precious metals investments and/or investing in short-term instruments
and government securities during periods when the Portfolio Adviser, Cavelti
Capital Management, Ltd., believes the precious metals markets may experience
declines.
For the purpose of this Fund, the term "Precious Metals Securities" refers to
the debt and equity securities of domestic and foreign companies listed on
domestic and foreign exchanges which are directly involved in the exploration,
development, mining, refining, manufacturing, dealing or marketing of precious
metals or precious metals products. A company will be considered to be "involved
in" such activity if it derives more than 50% of its revenues from or devotes
more than 50% of its assets to such activity. The Fund may invest in (1)
publicly-traded common stocks, (2) securities convertible into common stocks,
such as convertible preferred stock, convertible debentures, convertible rights
and warrants (to the extent permissible by the Fund's investment policies), and
(3) debt securities of such companies, all of which are believed by the
Portfolio Adviser to have the potential for appreciation. In addition, when the
Portfolio Adviser believes that market conditions warrant, the Fund may invest
up to 100% of its assets in certain short-term instruments.
The Fund may, from time to time, invest up to 5% of its assets in unrated
foreign debt securities which are judged by the Portfolio Adviser to be of at
least comparable quality to lower-rated U.S. debt securities (usually defined as
Baa or lower by Moody's or BBB or lower by Standard & Poor's). The selection of
unrated foreign debt securities will depend to a great extent on the credit
analysis performed by the Portfolio Adviser. Since it is possible that the Fund
could have up to 100% of its total assets in equity securities of domestic and
foreign companies directly involved in the exploration, development, mining,
refining, manufacturing, dealing or marketing of precious metals or precious
metals products, the Fund may be subject to greater risks and greater market
fluctuations than funds with a more diversified general equity portfolio.
The Fund may invest up to 49% of its total assets in physical precious metal of
gold, silver, platinum or palladium through holdings in bullion or precious
metals certificates or storage receipts representing the physical metals. When
the Fund invests in precious metals certificates and storage receipts, it
receives certificates evidencing ownership of specific amounts of precious
metals bullion, instead of taking physical possession of the bullion represented
by the certificate. The Fund relies on the issuers of such documents to maintain
the underlying precious metal on deposit. A default by any of the issuers could
expose the Fund to loss of the metal on deposit. The Fund will purchase
certificates from institutions where the certificate is 100% backed by physical
precious metals in the possession of the institutions and enter into such
transactions only with banks, brokers, dealers and clearinghouses which have
assets of over $1 billion and, in the Portfolio Adviser's opinion, have a high
degree of creditworthiness. The creditworthiness of the issuers will be
monitored by the Portfolio Adviser on an ongoing basis.
The Fund will not invest in coins. The Fund may purchase contracts for forward
delivery of physical precious metals. Forward contracts for precious metals are
contracts between the Fund and institutions dealing in precious metals for the
future receipt or delivery of metals at a price fixed at the time of the
transaction. While some of the Fund's investments may earn interest or
dividends, the Fund is not designed for investors seeking income. The Fund's
investment strategy calls for different approaches to the precious metals
markets in different economic and investment conditions.
As Precious Metals Securities have historically out-performed the price of the
physical metals during periods of generally rising precious metals prices, the
Fund will ordinarily tend to emphasize precious metals securities over physical
precious metals investments during such periods. However, to the extent that the
current behavior of precious metals markets does not conform to historical
patterns at any given time, investments of the Fund will be placed in those
markets believed by the Portfolio Adviser to have the most promising potential
for appreciation. Conversely, during periods of stable or falling precious
metals prices, physical precious metals have generally held their value better
than precious metals securities. Therefore, during those periods, the Fund will
tend to emphasize investments in physical precious metals investments.
As the Fund can invest in all four precious metals: gold, silver, platinum and
palladium, the Portfolio Adviser will attempt to capitalize on price
differentials in the metals markets. Although the Portfolio Adviser believes
that prices of gold, silver, platinum or palladium generally tend to move in the
same direction at the same time, with gold often setting the pace, experience
has proven that this is not always the case. The Fund, therefore, may emphasize
some metals over others when the Portfolio Adviser believes it is advisable to
do so. There is no assurance that the Portfolio Adviser's forecasts of precious
metals prices and the resulting allocation of the Fund's assets among precious
metals or between Precious Metals Securities and Physical Precious Metals
Investments will always be correct.
When the Portfolio Adviser believes that precious metals prices may suffer
declines, it may protect against market risk by increasing the Fund's cash
position. Under normal conditions, the Fund will have at least 65% of its total
assets invested in Precious Metals Securities and Physical Precious Metals
Investments. Under other circumstances, the Fund may invest up to 100% of its
assets in short-term instruments, including commercial paper, bank certificates
of deposit, bankers' acceptances and securities of the U.S. government and its
agencies and instrumentalities as well as in cash and cash equivalents
denominated in foreign currency.
The Portfolio Adviser believes that precious metals and securities of precious
metals related companies continue to offer excellent prospects for capital
appreciation and protection of your purchasing power, during any economic
environment, and especially during periods of inflation, as well as periods of
political and economic instability. The market for precious metals is worldwide;
therefore, precious metals prices are subject to many political, social and
economic influences, often resulting in high volatility. See "Risk Factors and
Special Considerations--Precious Metals and Precious Metals Securities" for
further details.
As physical precious metals earn no income, appreciation in the market price of
gold and other precious metals is the sole manner in which the Fund is able to
realize gains on these investments. Furthermore, the Fund encounters storage and
transaction costs in connection with its ownership of physical precious metals
which are higher than those attendant to the purchase, holding and disposition
of more traditional types of investments.
The Portfolio Adviser believes that physical precious metals are readily
marketable, and thus would not be subject to the Fund's limitation on investing
in illiquid securities described under "Certain Investment Strategies and
Policies--Illiquid Securities."
The production and marketing of gold and precious metals may be affected by the
action of certain governments and changes in existing governments. For example,
the mining of gold is highly concentrated in a few countries. Economic and
political conditions prevailing in these countries may have a direct effect on
the production and marketing of newly produced gold and sales of central bank
gold holdings. It is expected that a majority of gold mining companies in which
the Fund will invest will be located within the United States and Canada. For a
further discussion on this subject, including certain risk considerations and
limitations regarding investments in South African issuers, see "Investment
Techniques and Associated Risks--Precious Metals and Precious Metals
Securities."
BLANCHARD SHORT-TERM FLEXIBLE INCOME FUND
The investment objective of the Fund is to provide a high level of current
income consistent with preservation of capital by investing primarily in
short-term investment grade debt securities. The Fund's Portfolio Adviser is
OFFITBANK. The Fund is designed for investors seeking higher yields than are
available from money market funds, but who also want more price stability than
is offered by longer-term bond funds. Under normal market conditions, the Fund
will invest at least 80% of its assets in a broad range of U.S. debt securities
of all types. The Fund may invest up to 20% of the value of its assets in
securities of foreign issuers denominated in foreign currency and not publicly
traded in the United States.
Under normal market conditions, at least 65% of the value of the Fund's assets
will be invested in investment-grade bonds, which are considered to be those
rated at least Baa by Moody's or at least BBB by Standard & Poor's or, if
unrated, deemed to be of comparable quality by the Portfolio Adviser. The Fund
may invest less than 35% of its assets in lower-quality debt securities if the
Portfolio Adviser deems that such securities present attractive investment
opportunities. The Fund will not invest in debt securities rated lower than Caa
by Moody's and CCC by Standard & Poor's, or, if unrated, of comparable quality
in the Portfolio Adviser's opinion. Debt securities rated Baa by Moody's and BBB
by Standard & Poor's are considered investment grade obligations which lack
outstanding investment characteristics and may have speculative characteristics
as well. Debt securities rated Caa by Moody's and CCC by Standard & Poor's are
considered to have predominantly speculative characteristics with respect to
capacity to pay interest and repay principal and to be of poor standing. See
"Risk Factors--Lower Quality Debt Securities" for a discussion of certain risks,
and Appendix A.
Although it is intended that the average maturity of the Fund's portfolio will
be three years or less, the Fund retains the flexibility to increase the average
maturity to up to five years in times when abnormal market conditions warrant
temporary measures. Accordingly, the Fund's average maturity may vary, based on
the Portfolio Adviser's analysis of interest rate trends and other data. In
general, the Fund's average maturity will tend to be shorter when the Portfolio
Adviser expects interest rates to rise and longer when it expects interest rates
to decline. The Fund may invest in individual securities with terms to maturity
of greater than five years if the Fund's portfolio contains sufficient
short-term securities so that the weighted average maturity complies with the
above-stated policy. As the useful life of individual pools of assets underlying
certain obligations in which the Fund may invest may at times be of a shorter
duration than the stated maturity of the obligation itself, the Fund may
consider the useful life of such underlying assets as the maturity of the
obligation owned by the Fund.
Under normal market conditions, the Fund does not expect to have a substantial
portion of its assets invested in money market instruments. However, when the
Portfolio Adviser determines that adverse market conditions exist, the Fund may
adopt a temporary defensive posture and hold cash or invest its entire portfolio
in money market instruments. In addition, during times of international
political or economic uncertainty, most or all of the Fund's investments may be
made in the U.S. and denominated in U.S. dollars. To the extent the Fund is so
invested, the Fund's investment objective may not be achieved.
The Fund will invest in bonds, notes, mortgage securities, asset-backed
securities, government and government agency obligations, zero coupon
securities and convertible securities, and short-term obligations such as
banker's acceptances, certificates of deposit, repurchase agreements and
commercial paper, in any proportion that the Portfolio Adviser determines is
appropriate and in the best interest of shareholders. The Fund may invest in
U.S. government securities and in options, futures contracts and repurchase
transactions with respect to such securities. See "Additional Investment
Information."
The Fund may invest up to 20% of its assets in international securities
consisting of debt obligations and other fixed-income securities, in each case
denominated in non-U.S. currencies or composite currencies, including: debt
obligations issued or guaranteed by foreign national, provincial, state,
municipal or other governments with taxing authority or by their agencies or
instrumentalities; debt obligations of supranational entities (described below);
debt obligations of the U.S. government issued in non-dollar securities; and
debt obligations and other fixed-income securities of foreign and U.S. corporate
issuers (non-dollar denominated).
When investing in international securities, the Fund is not limited to
purchasing debt securities rated at the time of purchase by Moody's or Standard
& Poor's. However, the Fund is limited to the extent that it may not invest more
than 34.9% of its assets in lower quality debt securities. In making
international securities investments, the Portfolio Adviser may consider, among
other things, the relative growth and inflation rates of different countries.
The Portfolio Adviser may also consider expected changes in foreign currency
exchange rates, including the prospects for central bank intervention, in
determining the anticipated returns of securities denominated in foreign
currencies. The Portfolio Adviser may further evaluate, among other things,
foreign yield curves and regulatory and political factors, including the fiscal
and monetary policies of such countries.
The Fund may invest in any country where the Portfolio Adviser sees potential
for high income. It presently expects to invest primarily in non-dollar
denominated securities of issuers in the industrialized Western European
countries; in Canada, Japan, Australia and New Zealand; and in Latin America.
The Fund may invest up to 10% of its assets in the debt securities of issuers in
emerging market countries.
The Fund may invest, without limitation, in unrated debt securities issued by
foreign governments, their agencies and instrumentalities, where the foreign
government, its agency or instrumentality is rated less than Baa by Moody's or
less than BBB by Standard & Poor's, provided, however, that the Portfolio
Adviser has determined through its own credit analysis that the credit
characteristics of any such unrated security are equivalent to those of a
security rated at least Baa by Moody's or BBB by Standard & Poor's. To the
extent that the Portfolio Adviser has not made any such determination, such
unrated debt securities will be deemed to have the rating assigned by Moody's or
Standard & Poor's to the governmental entity. To the extent that such securities
are deemed to be rated less than Baa by Moody's or less than BBB by Standard &
Poor's, investment in such securities will be subject to the under 35%
limitation on investment in lower quality debt securities.
The obligations of foreign governmental entities, including supranational
issuers, have various kinds of government support. Obligations of foreign
governmental entities include obligations issued or guaranteed by national,
provincial, state or other governments with taxing power or by their agencies.
These obligations may or may not be supported by the full faith and credit of a
foreign government.
Supranational entities include international organizations designated or
supported by governmental entities to promote economic reconstruction or
development and international banking institutions and related government
agencies. Examples include the International Bank for Reconstruction and
Development (the World Bank), the European Steel and Coal Community, the Asian
Development Bank and the Inter-American Development Bank. The governmental
agencies, or "stockholders," usually make initial capital contributions to the
supranational entity and in many cases are committed to make additional capital
contributions if the supranational entity is unable to repay its borrowings.
Each supranational entity's lending activities are limited to a percentage of
its total capital (including "callable capital" contributed by members at the
entity's call), reserves and net income. The Fund does not have a policy of
concentrating investments in supranational entities.
BLANCHARD FLEXIBLE INCOME FUND
The investment objective of the Fund is to provide high current income while
seeking opportunities for capital appreciation. The Portfolio Adviser for the
Fund is OFFITBANK. The Fund intends to invest in the following fixed income
securities markets:
U.S. GOVERNMENT SECURITIES. This consists of debt obligations of the U.S.
government and its agencies and instrumentalities and related options,
futures contracts and repurchase agreements.
INVESTMENT GRADE FIXED INCOME SECURITIES. This consists of investment grade
fixed income securities, including mortgage related and asset backed
securities.
HIGH YIELD SECURITIES. This consists of higher yielding (and, therefore,
higher risk), lower rated U.S. corporate fixed income securities.
INTERNATIONAL FIXED INCOME SECURITIES. This consists of obligations of foreign
governments, their agencies and instrumentalities and other fixed income
securities denominated in foreign currencies or composite currencies including:
debt obligations issued or guaranteed by foreign national, provincial, state,
municipal or other governments with taxing authority or by their agencies or
instrumentalities; debt obligations of supranational entities (see discussion in
"Blanchard Short-Term Flexible Income Fund" above); debt obligations of the U.S.
government issued in non-dollar securities; and debt obligations and other fixed
income securities of foreign and U.S. corporate issuers (non-dollar
denominated). The Fund is not limited to purchasing debt securities rated at the
time of purchase by Moody's or Standard & Poor's.
The Fund may invest in any country where the Portfolio Adviser sees potential
for high income. It presently expects to invest primarily in non-dollar
denominated securities of issuers in the industrialized Western European
countries; in Canada, Japan, Australia and New Zealand; and in Latin America. In
making international fixed income securities investments, the Portfolio Adviser
may consider, among other things, the relative growth and inflation rates of
different countries. The Portfolio Adviser may also consider expected changes in
foreign currency exchange rates, including the prospects for central bank
intervention, in determining the anticipated returns of securities denominated
in foreign currencies. The Portfolio Adviser may further evaluate, among other
things, foreign yield curves and regulatory and political factors, including the
fiscal and monetary policies of such countries. The Fund may also invest up to
25% of its assets in the fixed income securities of issuers in emerging market
countries. It is the policy of the Fund not to invest more than 10% of its
assets in any one emerging market country, except that the Fund may invest up to
15% of its assets in fixed income securities of issuers in Mexico. For
additional information on each of these securities markets see "Additional
Investment Information."
The Portfolio Adviser believes that the ability to invest the Fund's assets
among these markets, as opposed to investing in any one, may enable the Fund to
enhance current income and increase opportunities for capital appreciation while
taking risk to principal into consideration. The Fund may invest up to 35% of
its assets in lower quality fixed income securities. There is no limit on the
percentage of Fund assets invested in any of the fixed income markets except for
High Yield Securities which is limited to less than 35%, and further limited to
the extent of any lower quality fixed income securities held in the
International Fixed Income Securities portfolio. At least 65% of the Fund's
total assets generally will be invested in income producing securities; however,
the Fund expects that substantially all of its total assets will be invested in
income-producing securities, together with certain futures, options and foreign
currency contracts and other investments described below. When the Portfolio
Adviser determines that adverse market conditions exist, the Fund may adopt a
temporary defensive posture and hold cash or invest its entire portfolio in
money market instruments. In addition, during times of international political
or economic uncertainty, most or all of the Fund's investments may be made in
the U.S. and denominated in U.S. dollars. For a complete discussion of the types
of investments in which the Fund will invest see "Additional Investment
Information."
BLANCHARD FLEXIBLE TAX-FREE BOND FUND
The Fund's investment objective is to provide a high level of current interest
income exempt from Federal income tax consistent with the preservation of
principal. The Fund will invest at least 65% of its assets in municipal bonds,
except when maintaining a temporary defensive position. The Fund's Portfolio
Adviser is The United States Trust Company of New York.
The Fund invests in municipal obligations which are determined by the Portfolio
Adviser to present minimal credit risks. As a matter of fundamental policy,
except during temporary defensive periods, the Fund will maintain at least 80%
of its assets in obligations exempt from federal income tax, including the
alternative minimum tax. (This policy may not be changed without the vote of the
holders of a majority of the Fund's outstanding shares.) However, from time to
time on a temporary defensive basis due to market conditions, the Fund may hold
uninvested cash reserves or invest in taxable obligations in such proportions
as, in the opinion of the Portfolio Adviser, prevailing market or economic
conditions may warrant. Uninvested cash reserves will not earn income. Interest
income from certain short-term holdings may be taxable to shareholders as
ordinary income.
The municipal obligations purchased by the Fund will consist of: (1) municipal
bonds rated "A" or better by Moody's or by Standard & Poor's or, in certain
instances, municipal bonds with lower ratings if they are deemed by the
Portfolio Adviser to be comparable to A-rated issues; (2) municipal notes rated
"MIG-2" or better ("VMIG-2" or better in the case of variable rate notes) by
Moody's or "SP-2" or better by Standard & Poor's and (3) municipal commercial
paper rated "Prime-2" or better by Moody's or "A-2" (collectively, "Municipal
Obligations"). If not rated, securities purchased by the Fund will be of
comparable quality to the above ratings as determined by the Portfolio Adviser
under the supervision of the Board Members. A discussion of Moody's and Standard
& Poor's rating categories is contained in Appendix A. The Fund may purchase and
sell municipal bond index and interest rate futures contracts as a hedge against
changes in market condition.
The Fund may also invest in securities issued by money market funds which are
investment companies that invest in high-quality, short-term securities and that
determine their net asset value per share based on the amortized cost or
penny-rounding method. Such securities will be acquired by the Fund within the
limits prescribed by the Investment Company Act of 1940 ("1940 Act"). By
investing in shares of money market funds, the Fund pays a portion of the
operating and management expenses of such money market funds, as well as its own
operating and management expenses. Investors should consider the tax
consequences of an investment by the Fund in money market funds distributing
taxable income. However, it is a policy of the Fund to maximize the percentage
of distributions to shareholders that are not subject to Federal income taxes.
MANAGEMENT OF THE FUNDS
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BOARD OF TRUSTEES/DIRECTORS. The Board of Trustees of Blanchard Funds and the
Board of Directors of BPMF (the "Boards" or the "Board Members") are responsible
for managing the business affairs of the Funds and for exercising all of the
powers of the Funds except those reserved for the shareholders. The Executive
Committee of the Boards handles the Boards' responsibilities between meetings of
the Boards.
MANAGER. VCM is responsible for managing the Funds and overseeing the investment
of their assets, subject at all times to the supervision of the Board Members.
In addition, VCM selects, monitors and evaluates the Portfolio Advisers. VCM
will review the Portfolio Advisers' performance records periodically, and will
make changes if necessary, subject to Board Member and shareholder approval.
MANAGEMENT FEES. VCM receives an annual management fee at annual rates equal
to percentages of the relevant Fund's average net assets as follows:
BGGF and BPMF--1.00% of the Fund's first $150 million of average daily net
assets, .875% of the Fund's average daily net assets in excess of $150 million
but not exceeding $300 million and .75% of the Fund's average daily net assets
in excess of $300 million. BFIF--.75%; BSTFIF--.75%; BFTFBF-- .75%. These fees
are higher than the fees paid by most investment companies because of the
complexity of managing these types of Funds.
The portion of the fee based upon the average daily net assets of the Fund shall
be accrued daily at the rate of 1/365th of the applicable percentage applied to
the daily net assets of the Fund.
The management contract provides for the voluntary waiver of expenses by VCM
from time to time. VCM can terminate this voluntary waiver of expenses at any
time with respect to a Fund at its sole discretion. VCM'S BACKGROUND. Virtus
Capital Management, Inc., a Maryland corporation formed in 1995, is a wholly
owned subsidiary of Signet Banking Corporation. Signet Banking Corporation is a
multi-state, bank holding company which has provided investment management
services since 1956. On July 18, 1997, Signet Banking Corporation entered into a
definitive Agreement and Plan of Reorganization whereby Signet Banking
Corporation would be acquired by First Union Corporation, a bank holding company
headquartered in Charlotte, North Carolina. VCM, which is a registered
investment adviser, manages, in addition to the Funds, The Virtus Funds and
three fixed income common trust funds.
PORTFOLIO ADVISORY SERVICES
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THE PORTFOLIO ADVISERS
To provide portfolio advisory services for the Funds, VCM has entered into
sub-advisory agreements with the Portfolio Advisers set forth below. The
Portfolio Advisers have extensive experience in investing and managing large
private and institutional accounts. Under the terms of each sub-advisory
agreement, the Portfolio Adviser has discretion to purchase and sell securities
for that Fund, except as limited by such Fund's investment objective, policies
and restrictions. Although each Portfolio Adviser's activities are subject to
general oversight by VCM and the Board Members, selection of specific securities
in which the Fund may invest are made by the Portfolio Adviser.
BLANCHARD GLOBAL GROWTH FUND
Mellon Capital Management Corporation is the Portfolio Adviser to the Fund. MCM
was established in 1983, and provides investment advisory services to investment
companies, pension plans, foundations, endowments and other institutions located
both in the U.S. and abroad. As of September 30, 1997, MCM had over $64.9
billion of assets under management. MCM, a wholly owned indirect subsidiary of
Mellon Bank Corporation, is located at 595 Market Street, Suite 3000, San
Francisco, California 94105.
The Fund's portfolio manager is Charles J. Jacklin. Mr. Jacklin has performed
this duty since May 1996. Mr. Jacklin manages and develops global asset
allocation strategies, and develops and implements MCM's value-added
investment strategies. Prior to joining MCM, he served on the finance
faculties of the Stanford University and University of Chicago Schools of
Business. Mr. Jacklin has also served as Senior Staff Economist for Financial
Markets and Banking for the President's Council of Economic Advisers, and had
primary responsibility for all matters related to financial markets and
banking. He has published a number of articles on finance and investment in
academic research journals, and is an associate editor for the Review of
Quantitative Finance and Accounting. Mr. Jacklin holds a Ph.D. in Finance from
Stanford University.
THE SUB-ADVISORY CONTRACT. The Sub-Advisory Contract provides that MCM shall pay
all expenses incurred by it and its staff in connection with the performance of
its services under the Sub-Advisory Contract, including the payment of salaries
of all officers and employees who are employed by it. VCM will pay MCM an annual
fee not to exceed .375% of the Fund's average daily net assets up to $100
million; .35% on net assets between $100 million and $150 million; and .325% on
net assets in excess of $150 million.
BLANCHARD SHORT-TERM FLEXIBLE INCOME FUND
BLANCHARD FLEXIBLE INCOME FUND
VCM has retained OFFITBANK, 520 Madison Avenue, New York, New York 10022 to
provide portfolio advisory services to the Funds. OFFITBANK, a New York State
chartered trust bank, is the continuation of the business of Offit Associates,
Inc., a registered investment adviser founded in December, 1982. The firm
converted to a trust bank in July, 1990. The core business of OFFITBANK is
portfolio management for institutions, non-profit organizations and wealthy
family groups. OFFITBANK specializes in fixed income management and offers its
clients a complete range of fixed income investments in capital markets
throughout the world. As of September 30, 1997, OFFITBANK had in excess of $9
billion in assets under management. Jack D. Burks, Managing Director of
OFFITBANK, has over 10 years of experience in Fixed Income Portfolio Management
and is responsible for the day-to-day management of the Funds' portfolios.
THE SUB-ADVISORY AGREEMENTS. The sub-advisory agreements between VCM and
OFFITBANK provide for the payment by VCM to OFFITBANK of a monthly fee at the
annual rate of .30% of the first $25 million of each Fund's average daily net
assets; .25% of the next $25 million of each Fund's average daily net assets;
and .20% of each Fund's average daily net assets in excess of $50 million.
BLANCHARD FLEXIBLE TAX-FREE BOND FUND
VCM has retained The United States Trust Company of New York ("U.S. Trust") to
provide portfolio advisory services to the Fund. U.S. Trust, a New York State
chartered bank and trust company established in 1853, managed in excess of $58
billion in assets as of September 30, 1997. U.S. Trust is a financial services
company that specializes in asset management, private banking, fiduciary and
securities services. Kenneth J. McAlley, an executive vice president of U.S.
Trust, has been actively engaged in municipal obligation portfolio management
with U.S. Trust for over 10 years and has been responsible for the Fund's
day-to-day investment decisions since the Fund's commencement of operations in
July of 1993. Mr. McAlley is a nationally recognized expert in municipal bond
investment strategy and has been favorably profiled in publications such as
Barrons, Forbes and Financial World.
THE SUB-ADVISORY AGREEMENT. Pursuant to the sub-advisory agreement between VCM
and U.S. Trust, VCM has agreed to pay U.S. Trust a monthly fee at the annual
rate of .20% of the Fund's average daily net assets.
BLANCHARD PRECIOUS METALS FUND, INC.
VCM has retained Cavelti Capital Management, Ltd., of Toronto, Canada to provide
portfolio advisory services to the Fund. Cavelti Capital Management, Ltd. is a
Canadian money management firm specializing in bullion and precious metals
mining shares and is a registered investment adviser with the SEC. As of
September 30, 1997, Cavelti Capital Management, Ltd. had $250 million in assets
under management. Peter C. Cavelti, the company's President and the Fund's
portfolio manager since its inception in June 1988, has extensive investment
experience in the field of precious metals and the firm's clients include
government agencies, financial institutions, mining companies and Canadian
closed-end funds.
THE SUB-ADVISORY AGREEMENT. Pursuant to the sub-advisory agreement between VCM
and Cavelti Capital Management, Ltd., VCM has agreed to pay Cavelti Capital
Management, Ltd. monthly compensation of the sum of the amounts determined by
applying the following annual rates to the Fund's aggregate daily net assets:
.30% of the Fund's net assets up to the first $150 million; .2625% of the Fund's
net assets in excess of $150 million but less than $300 million; and .255% of
the Fund's net assets in excess of $300 million.
HOW TO INVEST
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You may purchase shares of any Fund from Federated Securities Corp., the Funds'
principal Distributor. You may also purchase shares from broker-dealers who have
entered into a dealer agreement with the Distributor at net asset value, which
is determined as of the close of trading (normally 4:00 p.m., Eastern time) on
the New York Stock Exchange. If your order is received after the above time,
your shares will be purchased at the net asset value on the next business day.
Each Fund's net asset value per share is determined by dividing the value of
that Fund's net assets by the total number of its shares outstanding. Each Fund
determines the net asset value of its shares on each day that the New York Stock
Exchange is open for business and on such other days as there is sufficient
trading in its securities to affect materially its net asset value per share.
For all Funds the minimum initial investment requirement is $3,000 and the
minimum initial investment requirement for qualified pension plans (IRAs,
Keoghs, etc.) is $2,000. The minimum investment requirement for additional
investments in all of the Funds is at least $200 per investment. (The foregoing
minimum investment requirements may be modified or waived at any time at our
discretion.)
PURCHASES BY MAIL
To purchase shares of a Fund by mail, simply send a completed Application
(included with this Prospectus or obtainable from the Fund) to The Blanchard
Group of Funds, c/o Signet Financial Services, Inc., P.O. Box 26301, Richmond VA
23260, together with a check payable to the individual Fund in payment for the
shares. If you need assistance in completing the Application, call 1-800-
829-3863.
All purchases must be made in U.S. dollars and checks must be drawn on a United
States bank. Payment for shares may not be made by third party checks; however,
third party checks are acceptable for subsequent investments, when properly
endorsed. We reserve the right to limit the number of checks for one account
processed at one time. If your check does not clear, your purchase will be
cancelled and you could be liable for any losses or fees incurred. Payments
transmitted by check are accepted subject to collection at full face amount
which may take up to 7 calendar days.
Orders by mail are considered received after payment by check is converted into
federal funds. This is generally the next business day after Signet receives the
check.
PURCHASES BY WIRE. Call Investor Services at 1-800-829-3863 to receive wiring
instructions.
AUTOMATIC INVESTMENT PLANS. Regular monthly purchases of shares may be made by
direct deposit of Social Security and certain other government checks into your
account. Fund shares may be purchased at regular intervals selected by you by
automatic transferral of funds from a bank checking account that you may
designate. All such purchases require a minimum of $100 per transaction. Call
1-800-829-3863 for information and forms required to establish these Plans.
BY TELEPHONE. This service allows you to purchase additional shares quickly and
conveniently through an electronic transfer of money. When you make an
additional purchase by telephone, Blanchard will automatically debit your
predesignated bank account for the desired amount. To establish the telephone
purchase option on your new account, you must complete the section on the
Application and attach a "voided" check from your bank account. If your account
is already established, please call 1-800-829-3863 to request the appropriate
form. This option will become effective 15 calendar days after the form is
processed.
GENERAL INFORMATION
All ordinary income, dividends and capital gain distributions, if any, are
automatically reinvested at net asset value in additional Fund shares unless
we receive written notice from you, at least 30 days prior to the record day
of such distribution, requesting that your dividends and distributions be
distributed to you in cash. See "Tax Matters."
We reserve the right to suspend the offering of any Fund shares for a period of
time. We also reserve the right to reject any purchase order.
Shareholders will receive detailed confirmations of transactions. In addition,
shareholders will receive periodic statements reporting all account activity,
including dividends paid. Share certificates are not issued.
INVESTOR SERVICES
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RETIREMENT PLANS
We offer a Prototype Pension and Profit Sharing Plan, including Keogh Plans,
IRAs, SEP-IRA Plans, IRA Rollover Accounts and 403(b) Plans. Plan support
services are available by calling 1-800-829-3863.
AUTOMATIC WITHDRAWAL PLAN
If you purchase $10,000 or more of Fund shares, you may establish an Automatic
Withdrawal Plan to authorize a specified dollar amount to be paid periodically
to a designated payee. Under this Plan, all income dividends and capital gains
distributions will be reinvested in shares in your account at the applicable
payment dates' closing net asset value.
Your specified withdrawal payments are made monthly or quarterly in any amount
you choose, but not less than $100 per month or $300 quarterly. Please note that
any redemptions of your shares, which may result in a gain or loss for tax
purposes, may involve the use of principal, and may eventually use up all of the
shares in your account. Such payments do not provide a guaranteed annuity and
may be terminated for any shareholder by a Fund if, due to transfer or
redemption of shares, the value of the account drops below a minimum amount
deemed acceptable from time-to-time by the Fund. In such a case, the shareholder
will be notified that the withdrawal payments will be terminated. The cost of
administering the Automatic Withdrawal Plan for the benefit of shareholders is a
Fund expense.
EXCHANGE PRIVILEGE
You may exchange your Fund shares for shares of another Fund in the Blanchard
Group of Funds or for Investment Shares of any Virtus Fund at net asset value.
In addition, you may exchange your Fund Shares for shares of Federated Emerging
Market Fund at net asset value. No fees are charged in connection with any such
exchange. Before making an exchange, you should read the Prospectus concerning
the participating Fund into which your exchange is being made.
To request an exchange by telephone, simply call 1-800-829-3863, prior to 4:00
p.m., Eastern time. Exchanges can be made in this manner only if you have not
opted out of the Telephone Exchange Privilege, as described in the New Account
Application accompanying this Prospectus and only if your account registration
has not changed within the last 30 days.
It is the Funds' policy to mail to you at your address of record, within five
business days after any telephone call transaction, a written confirmation
statement of the transaction. All calls will be recorded for your protection. As
a result of the Funds' policy, neither a Fund nor Signet will be responsible for
any claims, losses or expenses for acting on telephone instructions that they
reasonably believe to be genuine. Since you may bear the risk of loss in the
event of an unauthorized telephone transaction, you should verify the accuracy
of telephone transactions immediately upon receipt of your confirmation
statement.
Exchanges can only be made between accounts with identical account registration
and in states where shares of the other Funds are qualified for sale. We do not
place any limit on the number of exchanges that may be made and charge no fee
for affecting an exchange. The dollar amount of an exchange must meet the
initial investment requirement of the Fund into which the exchange is being
made. All subsequent exchanges into that Fund must be at least $1,000. We may
modify or suspend the Exchange Privilege at any time upon 60 days' written
notice.
Any exchange of shares is, in effect, a redemption of shares in one Fund and a
purchase of shares of the other fund. You should consider the possible tax
effects of an exchange. To prevent excessive trading between Funds to the
disadvantage of other shareholders, we reserve the right to modify or terminate
this privilege with respect to any shareholder.
CHECK-WRITING PRIVILEGE
If you are a shareholder of Blanchard Flexible Income Fund or Blanchard Short
Term Flexible Income Fund, you may elect a service which allows you to write an
unlimited number of checks in any amount of $250 or more which will clear
through the Transfer Agent. There is no charge for this service for regular
checks; special business style checkbooks are assessed a $60 check printing fee.
If the amount of your check is less than $250, the check will be cleared but you
will be assessed a $10 charge. If the check exceeds the value of the shares in
your account, your check will be returned and a $10 fee deducted from your
account. You may not use the Check-Writing Privilege to close out your account
as you will not be able to ascertain the exact account balance of your account
on the date your check clears. To close out your account completely, you should
use the telephone or mail redemption procedures described below. Stop orders may
be placed on checks for a fee of $10. For further information on this service,
please call Investors' Services at 1-800- 829-3863.
The payee of a check may cash or deposit it in a bank; however, checks cannot be
presented in person at a branch office of the Transfer Agent for cash. When a
check is presented to the Transfer Agent for payment, it will cause the Fund to
redeem a sufficient number of shares to cover the amount of the check. You will
continue to earn daily income until the check is presented to the Transfer Agent
for payment. A COMPLETED NEW ACCOUNT APPLICATION OR SHAREHOLDER PRIVILEGE
FORM MUST BE RECEIVED BY SIGNET BEFORE THESE PRIVILEGES MAY BE USED.
HOW TO REDEEM
- -------------------------------------------------------------------------------
You may redeem your shares on any business day at the next determined net asset
value calculated after your redemption request has been accepted by Signet as
described below.
BY TELEPHONE. You may redeem your shares by telephone by calling 1-800-829-
3863, prior to 4:00 p.m., Eastern time. All calls will be recorded. Redemptions
of Fund shares can be made in this manner only after you have executed and filed
with Signet the telephone redemption authorization form which may be obtained
from your Fund or Signet.
You may elect on the telephone redemption authorization form to have a
redemption in any amount of $250 or more mailed either to your registered
address, to your bank account, or to any other person you may designate. Should
you wish to review these instructions, simply complete and file a new telephone
redemption authorization form. There is no charge for this service. As long as
the identification procedures described above are followed, neither your Fund
nor Signet will be responsible for any claims, losses or expenses for acting on
telephone instructions that they reasonably believe to be genuine. See "Investor
Services--Exchange Privilege" for additional information with respect to losses
resulting from unauthorized telephone transactions.
You may also request, by placing a call to the applicable telephone number set
forth above, redemption proceeds to be wired directly to the bank account that
you have designated on the authorization form. The minimum amount that may be
redeemed in this manner is $1,000. A check for proceeds of less than $1,000 will
be mailed to your address of record. The Funds do not impose a charge for this
service. However, the proceeds of a wire redemption may be subject to the usual
and customary charges imposed by Signet for the wiring of funds. In addition,
your designated bank may also impose a service charge.
Under extraordinary market conditions, it may be difficult for you to redeem
your shares by telephone. Under these circumstances, you should consider
redeeming your shares by mail, as described below.
BY MAIL. All other redemption requests should be made in writing to The
Blanchard Group of Funds, c/o Signet Financial Services, Inc., P.O. Box 26301,
Richmond VA 23260. Where share certificates have been issued, the certificates
should be sent by registered or certified mail with the redemption request.
Signatures on redemption requests for amounts in excess of $25,000 and share
certificates submitted for redemption must be accompanied by signature
guarantees from any eligible guarantor institution approved by Signet in
accordance with its Standards, Procedures and Guidelines for the Acceptance of
Signature Guarantees ("Signature Guarantee Guidelines"). Eligible guarantor
institutions generally include banks, broker-dealers, credit unions, national
securities exchanges, registered securities associations, clearing agencies and
savings associations. All eligible guarantor institutions must participate in
the Securities Transfer Agents Medallion Program ("STAMP") in order to be
approved by Signet pursuant to the Signature Guarantee Guidelines. Copies of the
Signature Guarantee Guidelines and information on STAMP can be obtained from
Signet at 1-800-829-3863. Signatures on redemption requests for any amount must
be guaranteed (as described above) if the proceeds are not to be paid to the
registered owner at the registered address, or the registered address has
changed within the previous 60 days. The letter of instruction or a stock
assignment must specify the account number and the exact number of shares or
dollar amount to be redeemed. It must be signed by all registered shareholders
in precisely the same way as originally registered. The letter of instruction
must also include any other supporting legal documents, if required, in the case
of estates, trusts, guardianships, custodianships, corporations, partnerships,
pension or profit sharing plans, or other organizations.
GENERAL INFORMATION
Your redemption request becomes effective when it is received in proper form by
Signet prior to 4:00 p.m. Eastern time or your redemption will occur on the
following business day. We will make payment for redeemed shares within seven
days after receipt by Signet. However, we may delay the forwarding of redemption
proceeds on shares which were recently purchased until the purchase check has
cleared, which may take up to 7 calendar days or more. We may suspend the right
of redemption when the New York Stock Exchange is closed or when trading on the
Exchange is restricted, and under certain extraordinary circumstances in
accordance with the rules of the SEC. Due to the relatively high cost of
handling small investments, we reserve the right upon 60 days' written notice to
redeem, at net asset value, the shares of any shareholder whose account has a
value of less than $1,000, other than as a result of a decline in the net asset
value per share. We do not presently contemplate making such involuntary
redemptions and will not redeem any shares held in tax-sheltered retirement
plans in this category. We also reserve the right upon notice to shareholders to
charge a fee for any services provided herein that are currently free of charge.
DISTRIBUTION OF SHARES OF THE FUNDS
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Federated Securities Corp. is the principal distributor for shares of the
Funds. 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.
DISTRIBUTION PLAN. According to the provisions of a distribution plan adopted
pursuant to Investment Company Act Rule 12b-1, the Distributor may select
brokers and dealers to provide distribution and administrative services as to
shares of the Funds. The Distributor may also select administrators (including
financial institutions, fiduciaries, custodians for public funds and investment
advisers) to provide administrative services. Administrative services may
include, but are not limited to, the following functions: providing office
space, equipment, telephone facilities, and various personnel including
clerical, supervisory, and computer, 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 regarding shares; assisting clients in
changing dividend options, account designations, and addresses; and providing
such other services as each Fund reasonably requests for its shares.
Brokers, dealers, and administrators 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 Boards,
provided that for any period the total amount of fees representing an expense to
the Trust or the Company shall not exceed an annual rate of .25% of the average
daily net assets of shares of BFIF, BSTFIF and BFTFBF and .75% of the average
daily net assets of shares of BGGF and BPMF held in the accounts during the
period for which the brokers, dealers, and administrators provide services. Any
fees paid by the Distributor with respect to shares of a Fund pursuant to the
distribution plan will be reimbursed by the Trust or the Company from the assets
of the shares of that Fund.
The Distributor will, periodically, uniformly offer to pay cash or promotional
incentives in the form of trips to sales seminars at luxury resorts, tickets or
other items to all dealers selling shares of the Funds. Such payments will be
predicated upon the amount of shares of the Funds that are sold by the dealer.
Such payments, if made, will be in addition to amounts paid under the
distribution plan and will not be an expense of a Fund.
ADMINISTRATIVE ARRANGEMENTS. The Distributor may pay financial institutions a
fee based upon the average net asset value of shares of their customers invested
in the Funds for providing administrative services. This fee, if paid, will be
reimbursed by VCM and not the Funds.
GLASS-STEAGALL ACT. The Glass-Steagall Act prohibits a depository institution
(such as a commercial bank or a savings association) from being an underwriter
or distributor of most securities. In the event the Glass-Steagall Act is deemed
to prohibit depository institutions from acting in the administrative capacities
described above or should Congress relax current restrictions on depository
institutions, the Boards will consider appropriate changes in the administrative
services.
ADMINISTRATIVE SERVICES. Federated Services Company, a subsidiary of Federated
Investors, provides the Funds with certain administrative personnel and services
necessary to operate each Fund. Such services include shareholder servicing and
certain legal and accounting services. Federated Services Company provides these
at an annual rate as specified below:
<TABLE>
<CAPTION>
AVERAGE COMBINED AGGREGATE DAILY
MAXIMUM NET ASSETS OF THE TRUST/CORPORATION
ADMINISTRATIVE FEE AND THE VIRTUS FUNDS
------------------ -----------------------------------
<C> <C> <S>
.150% on the first $250 million
.125% on the next $250 million
.100% on the next $250 million
.075% on assets in excess of $750 million
</TABLE>
The administrative fee received during any fiscal year shall be at least $75,000
per Fund. Federated Services Company may voluntarily waive a portion of its fee.
BROKERAGE TRANSACTIONS. Subject to the supervision of the Board Members and VCM,
decisions to buy and sell specific securities for a Fund are made by its
Portfolio Adviser. The Portfolio Advisers are authorized, subject to most
favorable price and execution, to place portfolio transactions with brokerage
firms that provide assistance in the distribution of Fund shares and/or supply
research. The Board Members have also authorized the Funds to allocate brokerage
to the Portfolio Advisers or an affiliated broker-dealer as well as to use the
Distributor, on an agency basis, or affiliates thereof, to effect portfolio
transactions which are executed on United States and foreign stock exchanges or
which are traded in the over-the-counter market. The Funds have adopted certain
procedures incorporating the standards of Rule 17e-1 of the 1940 Act which
require that the commissions paid to a Portfolio Adviser or the Distributor or
to affiliated broker-dealers must be "reasonable and fair compared to the
commission, fee, or other remuneration received, or to be received, by other
brokers in connection with comparable transactions involving similar securities
during a comparable period of time." From time to time, a Fund may purchase
portfolio securities directly from dealers acting as principals, underwriters or
market makers. As these transactions are usually conducted on a net basis, no
brokerage commissions are paid by that Fund. Transactions are allocated to
various dealers selected by VCM or the Portfolio Advisers primarily on the basis
of prompt execution of orders at the most favorable prices. Transactions may be
allocated based on the sale of Fund shares. The Funds have determined that the
foregoing arrangements are in the best interest of the Funds' shareholders. See
"Portfolio Transactions" in each Fund's Statement of Additional Information for
further information.
TAX MATTERS
- -------------------------------------------------------------------------------
Each Fund intends to qualify as a regulated investment company by satisfying the
requirements under Subchapter M of the Internal Revenue Code of 1986, as amended
(the "Code"), including the requirements with respect to diversification of
assets, distribution of income and sources of income. It is each Fund's policy
to distribute to its shareholders all of their investment income (net of
expenses) and any capital gains (net of capital losses) in accordance with the
timing requirements imposed by the Code, so that each Fund will satisfy the
distribution requirement of Subchapter M and not be subject to Federal income
taxes or the 4% excise tax. If a Fund fails to satisfy any of the Code
requirements for qualification as a regulated investment company, it will be
taxed at regular corporate tax rates on all of its taxable income (including any
capital gains) without any deduction for distributions to shareholders, and
distributions to you will be taxable as ordinary dividends (even if derived from
the Fund's net long-term capital gains) to the extent of the Fund's current and
accumulated earnings and profits.
Distributions by a Fund of the excess, if any, of its net long-term capital gain
over its net short-term capital loss that are designated as capital gain
dividends are taxable to shareholders as long-term capital gains, regardless of
the length of time a shareholder has held his shares. Distributions by a Fund of
its net investment income and the excess, if any, of its net short-term capital
gain over its net long-term capital loss are taxable to shareholders as ordinary
income. Depending on a Fund's investments, part or all of such ordinary income
dividends could be treated as: (1) dividends attributable to interest from
obligations of the United States Government ("U.S. Government Interest
Dividends") that would be exempt from state and local taxes; (2) dividends
attributable to qualifying dividends ("Qualifying Dividends") that for corporate
shareholders would qualify for the 70% dividends-received deduction; or (3)
dividends attributable to municipal obligations that would be excluded from
regular federal tax and partially exempt from state and local tax ("Exempt
Interest Dividends").
A portion of such dividends from the Blanchard Precious Metals Fund, Inc. and
Blanchard Global Growth Fund may be Qualifying Dividends. However, this portion
cannot exceed the aggregate amount of Qualifying Dividends from domestic
corporations received by such Funds during the year, and substantially less than
100% of the ordinary income dividends paid by such Funds may qualify for the
deduction.
Distributions by the Blanchard Flexible Tax-Free Bond Fund of its tax-exempt
interest income (net of expenses) that are designated as Exempt Interest
Dividends should be excluded from gross income for federal income tax purposes.
However, you are required to report the receipt of Exempt Interest Dividends,
together with other tax-exempt interest, on your federal income tax return. In
addition, Exempt Interest Dividends may be subject to the federal alternative
minimum tax and to state and local income tax, and will be taken into account in
determining the portion, if any, of Social Security benefits received which must
be included in gross income for federal income tax purposes.
Investment income that may be received by the Blanchard Global Growth Fund,
Blanchard Precious Metals Fund, Inc., Blanchard Flexible Income Fund, and
Blanchard Short-Term Flexible Income Fund from sources within foreign countries
may be subject to foreign taxes withheld at the source. The United States has
entered into tax treaties with many foreign countries which entitle such Funds
to a reduced rate of, or exemption from, taxes on such income. It is impossible
to determine the effective rate of foreign tax in advance since the amount of a
Fund's total assets to be invested in various countries is not known. If more
than 50% of the value of a Fund's total assets at the close of its taxable year
consists of stock or securities of foreign corporations, such Fund may elect to
"pass through" to its shareholders the amount of foreign taxes paid by the Fund.
If the Fund so elects, each shareholder would be required to include in gross
income, even though not actually received, his pro rata share of the foreign
taxes paid by the Fund, and would be treated as having paid his pro rata share
of such foreign taxes and, therefore, be allowed to either deduct such amount in
computing taxable income or use such amount (subject to various Code
limitations) as a foreign tax credit against federal income tax.
Distributions to you will be treated in the same manner for federal income tax
purposes whether you elect to receive them in cash or reinvest them in
additional shares. In general, you take distributions into account in the year
in which they are made. However, you are required to treat certain distributions
made during January as having been paid by a Fund and received by you on
December 31 of the preceding year. A statement setting forth the federal income
tax status (i.e., U.S. Government Interest Dividends, Qualifying Dividends,
Exempt Interest Dividends, or net capital gain dividends) of all distributions
made (or deemed made) during the year will be sent to you promptly after the end
of each year. If you purchase shares of a Fund just prior to the record date,
you will be taxed on the entire amount of the dividend received, even though the
net asset value per share on the date of such purchase may have reflected the
amount of such dividend.
Upon the sale or redemption of shares of a Fund, you will recognize gain or loss
in an amount equal to the difference between the proceeds of the sale or
redemption and your adjusted tax basis in the shares. Any loss realized upon a
taxable disposition of shares within six months from the date of their purchase
will be disallowed to the extent of any exempt-interest dividends received on
the shares and, to the extent not disallowed, will be treated as long-term
capital loss to the extent of any capital gain dividends received on such
shares. All or a portion of any loss realized upon a taxable disposition of
shares of a Fund may be disallowed if other shares of the Fund are purchased
within thirty days before or after such disposition.
If you are a non-resident alien or foreign entity shareholder, ordinary income
dividends paid to you generally will be subject to United States withholding at
a rate of 30% (or a lower rate under an applicable treaty). If you are a
non-United States shareholder, we urge you to consult your own tax advisor
concerning the applicability of United States withholding tax.
Under the back-up withholding rules of the Code, you may be subject to 31%
withholding of federal income tax on ordinary income dividends, capital gain
dividends, and redemption payments made by the Funds. In order to avoid this
back-up withholding, you must provide the Fund with a correct taxpayer
identification number (which, if you are an individual, is usually your Social
Security number), and certify that you are a corporation or otherwise exempt
from or not subject to back-up withholding.
The foregoing discussion of federal income tax consequences is based on tax laws
and regulations in effect on the date of this Prospectus, and is subject to
change by legislative or administrative action. As the foregoing discussion is
for general information only, you should also review the more detailed
discussion of federal income tax considerations relevant to the Funds that is
contained in the Funds' Statements of Additional Information. In addition, you
should consult with your own tax advisor as to the tax consequences of
investments in the Funds.
PERFORMANCE INFORMATION
- -------------------------------------------------------------------------------
Advertisements and communications to investors regarding the Funds may cite
certain performance and ranking information and may make performance comparisons
to other Funds or to relevant indices, as described below. In addition, the
Funds' Portfolio Advisers and other outside analysts may, from time to time,
report on the market outlook for their investments as well as comment on the
historical reasons for these investments including as a hedge against inflation.
The Funds' performance may be calculated both in terms of total return and on
the basis of current yield over any period of time and may include a computation
of a Fund's distribution rate.
TOTAL RETURN. Cumulative total return data is computed by considering all
elements of return, including reinvestment of dividends and capital gains
distribution, over a stated period of time. Cumulative total return figures are
not annualized and represent the aggregate percentage or dollar value change
over the period in question.
Average annual return will be quoted for at least the one, five and ten year
periods ending on a recent calendar quarter (or if such periods have not yet
elapsed, at the end of a shorter period corresponding to the life of a Fund for
performance purposes). Average annual total return figures are annualized and,
therefore, represent the average annual percentage change over the period in
question.
YIELD INFORMATION. The term "yield" refers to the income generated by an
investment over a one-month or 30-day period. This income is computed by
dividing the net investment income per share earned during such period by the
maximum public offering price per share on the last day of the period, and then
annualizing such 30-day (or one month) yield in accordance with a formula
prescribed by the SEC which provides for compounding on a semi-annual basis. The
Funds may also quote tax-equivalent yield, which shows the taxable yield that an
investor would have to earn before taxes to equal a Fund's tax-free yield. The
tax-equivalent yield is calculated by dividing a Fund's tax-exempt yield by the
result of one minus any combination of the stated federal, state, or city tax
rate. If only a portion of a Fund's income is tax-exempt, only that portion is
adjusted in the calculation.
DISTRIBUTION RATE. The Funds may also quote distribution rates and/or effective
distribution rates in sales literature or other shareholder communications. A
Fund's distribution rate is computed by dividing the most recent monthly
distribution per share annualized by dividing the distribution rate by the ratio
used to annualize the distribution and reinvesting the resulting amount for a
full year on the basis of such ratio. The effective distribution rate will be
higher than the distribution rate because of the compounding effect of the
assumed reinvestment. A Fund's distribution rate may differ from its yield
because the distribution rate may contain net investment income and other items
of income (such as returns of capital), while yield reflects only earned
interest and dividend items of income.
COMPARATIVE RESULTS. From time to time in advertisements or sales material, a
Fund may discuss its performance rating and may be compared to the performance
of other mutual funds or mutual fund indices as published by widely recognized
independent mutual fund reporting services such as Lipper Analytical Services,
Inc., CDA and Morningstar, Inc. A Fund may also discuss the past performance and
ranking of its Portfolio Adviser and compare its performance to various
investment indices. The Funds may use performance information as reported in
publications of general interest, national, financial and industry publications
such as Forbes or Money Magazine and various investment newsletters such as
Donoghue's Money Letter. In addition, the Funds may compare their total return
to the total return of indices of U.S. markets or world markets, to that of
other mutual funds, individual country indices, or other recognized indices.
From time to time, the Funds may provide information on certain markets or
countries and specific equity securities and quote published editorial comments
and/or information from newspapers, magazines, investment newsletters and other
publications such as The Wall Street Journal, Money Magazine, Forbes, Barron's,
USA Today and Mutual Funds Magazine. We may also compare the historical returns
on various investments, performance indices of those investments or economic
indicators. In addition, the Funds may reprint articles about a Fund and provide
them to prospective shareholders. The Distributor may also make available
economic, financial and investment reports to shareholders and prospective
shareholders. In order to describe these reports, the Funds may include
descriptive information on the reports in advertising literature sent to the
public prior to the mailing of a prospectus. Performance information may be
quoted numerically or may be presented in a table, graph, chart or other
illustration. It should be noted that such performance ratings and comparisons
may be made with funds which may have different investment restrictions,
objectives, policies or techniques than the Funds, and that such other funds or
market indicators may be comprised of securities that differ significantly from
the Funds' investments.
Advertising and other promotional literature may include charts, graphs and
other illustrations using a Fund's returns, or returns in general, that
demonstrate basic investment concepts such as tax-deferred compounding,
dollar-cost averaging and systematic investment. In addition, a Fund 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.
Advertising and sales literature for a Fund 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 Fund
portfolio managers and their views and analysis on how such developments could
affect the Funds. 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 ("ICI"). For example, according to the ICI, 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 $3.5 trillion to the more than 6,000 funds available.
Performance information will vary from time to time and past results are not
necessarily representative of future results. You should remember that a Fund's
performance is a function of portfolio management in selecting the type and
quality of securities in which a Fund may invest, and is affected by operating,
distribution and marketing expenses.
ADDITIONAL INFORMATION ABOUT THE FUNDS
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BLANCHARD FUNDS
Blanchard Funds (the "Trust") is a Massachusetts business trust organized on
January 24, 1986 which currently consists of six series. All of the series are
non-diversified series of the Trust. Under Massachusetts law, the Trust and its
series are generally not required to hold annual or special shareholder
meetings. However, special meetings of shareholders may be held for such
purposes as electing trustees, changing fundamental policies, approving an
investment management/advisory agreement or approving a distribution and
marketing plan, if any, and, at the request of the shareholders, to replace
trustees. Shareholders holding 10% or more of the Trust's outstanding shares may
call a special meeting of shareholders. Shareholders may remove trustees from
office whenever not less than two-thirds of the outstanding shares either
present a written declaration to the Transfer Agent or vote at a meeting called
for this purpose. In certain circumstances, shareholders shall be given access
to a list of the names and addresses of all other shareholders, the number of
shareholders and the cost of mailing a request to them.
BLANCHARD PRECIOUS METALS FUND, INC.
BPMF is a non-diversified investment company organized as a Maryland corporation
on June 1, 1987. As such, no annual or special meetings of Fund shareholders
will be held except as may be required by the Maryland General Corporation Law
or the 1940 Act, or as the Board of Directors of the Fund may determine.
A director of the Fund generally may be removed by the holders of not less than
a majority of the Fund's outstanding shares. In addition, the directors of the
Fund will promptly call a meeting of shareholders for any purpose or purposes,
including to vote on whether to remove any director(s) when requested to do so
in writing by record holders of not less than 10% of the outstanding shares of
the Fund. Finally, in certain circumstances, shareholders shall be given access
to a list of the names and addresses of all other shareholders or be informed by
the Fund of the number of shareholders and the cost of mailing their request.
ALL FUNDS
Shares of each series of the Trust represent shares of beneficial interest.
Shares of BPMF represent shares of common stock. Each share has equal rights
with respect to voting matters of that series or of BPMF. In the event of
dissolution or liquidation of a series or of BPMF, holders of shares will
receive pro rata, subject to the rights of creditors, the proceeds of the sale
of the assets less its liabilities. There are no preemptive or conversion rights
applicable to the shares of a Fund. Shares of a Fund, when issued, will be fully
paid, non-assessable and transferable. The Board Members may create additional
series of shares without shareholder approval. BPMF and each series of the Trust
is individually responsible only for its own expenses and operating costs and
incurs no liability with respect to the expenses and costs of any other series
or for BPMF, other than those which affect the Blanchard Group of Funds as a
group and are allocated among the series and/or BPMF based upon their relative
average net assets during the year. There is a remote possibility that one Fund
might become liable for any misstatement in the Prospectus about another Fund.
This Prospectus omits certain information contained in the registration
statement as filed with the SEC. Copies of the registration statement, including
items omitted herein, may be obtained from the SEC by paying the charges
prescribed under its rules and regulations. Each Fund's Statement of Additional
Information included in this registration statement may be obtained without
charge from your Fund.
No person has been authorized to give any information or to make any
representations other than those contained in this Prospectus and in the
Statements of Additional Information, and information or representations not
herein contained, if given or made, must not be relied upon as having been
authorized by a Fund. This Prospectus does not constitute an offer or
solicitation in any jurisdiction in which such offering may not lawfully be
made.
The Code of Ethics of the Investment Adviser and the Funds prohibits all
affiliated personnel from engaging in personal investment activities which
compete with or attempt to take advantage of the Funds' planned portfolio
transactions. The objective of the Code of Ethics of both the Funds and
Investment Adviser is that their operations be carried out for the exclusive
benefit of the Funds' shareholders. Both organizations maintain careful
monitoring of compliance with the Code of Ethics.
INDEPENDENT ACCOUNTANTS. Deloitte & Touche LLP, 2500 One PPG Place, Pittsburgh,
Pennsylvania 15222-5401 has been appointed the independent accountants for the
Funds.
CUSTODIAN. Signet Trust Company, Richmond, Virginia is custodian for the
securities and cash of the Funds. Under the Custodian Agreement, Signet Trust
Company holds the Funds' portfolio securities in safekeeping and keeps all
necessary records and documents relating to its duties.
TRANSFER AGENT AND DIVIDEND DISBURSING AGENT. Federated Shareholder Services
Company, Pittsburgh, Pennsylvania, is transfer agent for the Funds and
dividend disbursing agent for the Funds.
SHAREHOLDER INQUIRIES. Shareholder inquiries concerning the status of an account
or information concerning the Funds should be directed to Signet Financial
Services, Inc., P.O. Box 26301, Richmond VA 23260, or by calling 1-
800-829-3863.
ADDITIONAL INVESTMENT INFORMATION
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MUNICIPAL OBLIGATIONS (BFTFBF)
The two principal classifications of Municipal Obligations which may be held by
the Fund are "general obligation" securities and "revenue" securities. General
obligation securities are secured by the issuer's pledge of its full faith,
credit, and taxing power for the payment of principal and interest. Revenue
securities are payable only from the revenues derived from a particular facility
or class of facilities, or in some cases, from the proceeds of a special excise
tax or other specific revenue source such as the user of the facility being
financed. Private activity bonds held by the Fund are in most cases revenue
currencies and are not payable from the unrestricted revenues of the issuer.
Consequently, the credit quality of private activity revenue bonds is usually
directly related to the credit standing of the corporate user of the facility
involved.
The Fund's portfolio may also include "moral obligation" securities, which are
normally issued by special-purpose public authorities. If the issuer of moral
obligation securities is unable to meet its debt service obligation from current
revenues, it may draw on a reserve fund the restoration of which is a moral
commitment, but not a legal obligation of the state or municipality which
created the issuer. There is no limitation on the amount of moral obligation
securities that may be held by the Fund.
The Fund may also purchase custodial receipts evidencing the right to receive
either the principal amount or the periodic interest payments or both with
respect to specific underlying Municipal Obligations ("Stripped Municipal
Obligations"). In a typical custodial receipt arrangement, an issuer or a third
party owner of Municipal Obligation deposits such obligations with a custodian
in exchange for two classes of custodial receipts. The two classes have
different characteristics, but, in each case, payments on the two classes are
based on payments received on the underlying Municipal Obligations. One class
has the characteristics of a typical auction mechanism. This class' interest
rate generally is expected to be below the coupon rate of the underlying
Municipal Obligations and interest rate adjustments. The second class bears
interest at a rate that exceeds the interest rate typically borne by a security
of comparable quality and maturity; this rate also is adjusted, but in this case
inversely to changes in the rate of interest of the first class. If the interest
rate on the first class exceeds the coupon rate of the underlying Municipal
Obligations, its interest rate will exceed the rate paid on the second class. In
no event will the aggregate interest paid with respect to the two classes exceed
the interest paid by the underlying Municipal Obligations. The value of the
second class and similar securities should be expected to fluctuate more than
the value of a Municipal Obligation of comparable quality and maturity and their
purchase by the Fund should increase the volatility of its net assets value and,
thus, its price per share. These custodial receipts are sold in private
placements. The Fund also may purchase directly from issuers, and not in a
private placement, Municipal Obligations having the same characteristics as the
custodial receipts. The Fund intends to purchase Stripped Municipal Obligations
only when the yield thereon will be exempt from Federal income tax to the same
extent as interest on the underlying Municipal Obligations. Stripped Municipal
Obligations are considered illiquid securities subject to the 10% limit
described in "Investment Limitations" in the Statement of Additional
Information. The Fund may purchase and sell municipal bond index and interest
rate future contracts as a hedge against changes in market condition.
RISKS. Municipal bond prices are interest rate sensitive, which means that their
value varies inversely with the market interest rates. Thus, if market interest
rates have increased from the time a bond was purchased, the bond, if sold,
might be sold at a price less than its cost. Similarly, if market interest rates
have declined from the time a bond was purchased, the bond, if sold, might be
sold at a price greater than its cost. (In either instance, if the bond was held
to maturity, no loss or gain normally would be realized as a result of interim
market fluctuations.)
U.S. GOVERNMENT SECURITIES (BSTFIF, BFIF, BGGF)
The term "U.S. Government Securities" refers to debt securities denominated in
U.S. dollars issued or guaranteed by the U.S. government, by various of its
agencies, or by various instrumentalities established or sponsored by the U.S.
government. Certain of these obligations including U.S. Treasury bills, notes
and bonds, mortgage participation certificates guaranteed by the Government
National Mortgage Association ("GNMA") and Federal Housing Administration
debentures, are supported by the full faith and credit of the United States.
Other U.S. Government Securities issued or guaranteed by Federal agencies or
government sponsored enterprises are not supported by the full faith and credit
of the United States. These securities include obligations supported by the
right of the issuer to borrow from the U.S. Treasury, such as obligations of
Federal Home Loan Banks, and obligations supported only by the credit of the
instrumentality, such as Federal National Mortgage Association bonds. When
purchasing securities in the U.S. government market, the Portfolio Advisers may
take full advantage of the entire range of maturities of U.S. Government
Securities and may adjust the average maturity of the investments held in the
portfolio from time to time, depending on its assessment of relative yields of
securities of different maturities and its expectations of future changes in
interest rates. To the extent that a Fund invests in the mortgage market, the
Portfolio Advisers usually will evaluate, among other things, relevant economic,
environmental and security-specific variables such as housing starts, coupon and
age trends. To determine relative value among markets the Portfolio Advisers may
use tools such as yield/duration curves, break-even prepayment rate analysis and
holding-period-return scenario testing.
A Fund may seek to increase its current income by writing covered call or put
options with respect to some or all of the U.S. Government Securities held in
its portfolio. In addition, a Fund may at times, through the writing and
purchase of options on U.S. Government Securities, and the purchase and sale of
futures contracts and related options with respect to U.S. Government
Securities, seek to reduce fluctuations in net asset value by hedging against a
decline in the value of U.S. Government Securities owned by that Fund or an
increase in the price of such securities which such Fund plans to purchase,
although it is not the general practice to do so. Significant option writing
opportunities generally exist only with respect to longer term U.S. Government
Securities. Options on U.S. Government Securities and futures and related
options are not considered U.S. Government Securities; accordingly, they have a
different set of risks and features. These practices and related risks are
described in each Fund's Statement of Additional Information.
U.S. Government Securities are considered among the most creditworthy of fixed
income investments. Because of this added safety, the yields available from U.S.
Government Securities are generally lower than the yields available from
corporate debt securities. The value of U.S. Government Securities (like those
of fixed income securities generally) will change as interest rates fluctuate.
During periods of falling U.S. interest rates, the values of outstanding long
term U.S. Government Securities generally rise. Conversely, during periods of
rising interest rates, the values of such securities generally decline. The
magnitude of these fluctuations will generally be greater for securities with
longer maturities and the Funds expect that their portfolios of U.S. Government
Securities will be weighted towards the longer maturities at least to the extent
that they have written call options thereon. Although changes in the value of
U.S. Government Securities will not affect investment income from those
securities, they will affect a Fund's net asset value.
INVESTMENT GRADE FIXED INCOME SECURITIES (BSTFIF, BFIF, BGGF)
The Funds may invest in investment grade U.S. fixed income securities. Such
investments may include mortgage related securities that are not U.S. Government
Securities, asset backed securities and fixed income securities rated Baa or
higher by Moody's or BBB by Standard & Poor's. Fixed income securities rated Baa
by Moody's or BBB by Standard & Poor's are considered investment grade
obligations which lack outstanding investment characteristics and may have
speculative characteristics as well. See Appendix A for the descriptions of
these rating categories.
MORTGAGE RELATED SECURITIES. Mortgage related securities issued by financial
institutions (or separate trusts or affiliates of such institutions), even where
backed by U.S. Government Securities, are not considered U.S. Government
Securities. The mortgage pass-through market is marked by high liquidity and
credit quality. The primary risk that exists for mortgage pass-through
securities is interest rate risk. Changes in market yields will affect the value
of these securities as the price of fixed income securities generally increases
when interest rates decline and decreases when interest rates rise. Prices of
longer term securities generally increase or decrease more sharply than those of
shorter term securities in response to interest rate changes. In addition,
prepayment of principal on mortgage pass-through securities may make it
difficult to lock in interest rates for a fixed period of time. To the extent
that mortgage securities are purchased at prices that differ from par, these
prepayments (which are received at par) may make up a significant portion of the
pass-through total return. Generally, mortgage securities yield more than
Treasury securities of the same average life. For more information on
mortgage-related securities, see "Investment Objective and Policies" in each
Fund's Statement of Additional Information.
ASSET-BACKED SECURITIES. In general, asset-backed securities in which a Fund may
invest are issued as debt securities by special purpose corporations. These
securities represent an undivided ownership interest in a pool of installment
sales contracts and installment loans collateralized by, among other things,
credit card receivables and automobiles. The Funds will invest in, to the extent
available, (i) loan pass-through certificates or participations representing an
undivided ownership interest in pools of installment sales contracts and
installment loans (the "Participations") and (ii) debt obligations issued by
special purpose corporations which hold subordinated equity interests in such
installment sales contracts and installment loans. The Funds anticipate that a
substantial portion of the asset-backed securities in which they invest will
consist of the debt obligations of such special purpose corporations.
Asset-backed securities, in general, are of a shorter maturity (usually five
years) than most conventional mortgage-backed securities and historically have
been less likely to experience substantial prepayments. Furthermore, the effect
of prepayments on securities that have shorter maturities, such as asset-backed
securities, is much smaller than the effect of prepayments on securities having
longer maturities, such as mortgage-backed securities. The yield characteristics
of asset-backed securities differ from more traditional debt securities in that
interest and principal payments are paid more frequently, usually monthly, and
principal may be prepaid at any time. As a result, if a Fund purchases an
asset-backed security at a discount, similar to conventional mortgage-backed
securities, a prepayment rate that is faster than expected will increase yield
to maturity, while a prepayment rate that is slower than expected will reduce
yield to maturity. Conversely, if a Fund purchases an asset-backed security at a
premium, faster than expected prepayments will reduce, while slower than
expected prepayments will increase, yield to maturity. Prepayments may result
from a number of factors, including trade-ins and liquidations due to default,
as well as the receipt of proceeds from physical damage, credit, life and
disability insurance policies. The rate of prepayments on asset-backed
securities may also be influenced by a variety of economic and social factors,
including general measures of consumer confidence; accordingly, from time to
time, substantial amounts of prepayment may be available for reinvestment by a
Fund and will be subject to the prevailing interest rates at the time of
prepayment.
Asset-backed securities often contain elements of credit support to lessen the
effect of the potential failure by obligors to make timely payments on
underlying assets. Credit support falls into two categories: (i) liquidity
protection and (ii) protection against losses resulting from ultimate default by
an obligor on the underlying asset. Liquidity protection ensures that the pass
through of payments due on the installment sales contracts and installments on
loans which comprise the underlying pool occurs in a timely fashion. Protection
against losses resulting from ultimate default enhances the likelihood of
ultimate payment of the obligations on at least a portion of the assets in the
pool. Such protection may be provided through guarantees, insurance policies or
letters of credit obtained by the issuer or sponsor from third parties; through
various means of structuring the transaction, or through a combination of such
approaches. The Funds will not pay any additional fees for such credit support.
However, the existence of credit support may increase the market price of the
security. For more information on asset-backed securities, see "Investment
Objective and Policies" in each Fund's Statement of Additional Information.
HIGH YIELD/HIGHER-RISK SECURITIES (BSTFIF, BFIF)
Lower rated fixed income securities, including debt securities, convertible
securities and preferred stock and unrated corporate fixed income securities,
commonly referred to as "junk bonds," are considered speculative and involve
greater risk of default or price changes due to changes in the issuer's
creditworthiness than higher rated fixed income securities.
Convertible securities are bonds, debentures, notes, preferred stock or other
securities which may be converted or exchanged by the holder into shares of the
underlying common stock at a stated exchange ratio. A convertible security may
also be subject to redemption by the issuer but only after a date and under
certain circumstances (including a specified price) established on issue.
Adjustable rate preferred stocks are preferred stocks which adjust their
dividend rates quarterly based on specified relationships to certain indices of
U.S. Treasury Securities. A Fund may continue to hold securities obtained as a
result of the conversion of convertible securities held by such Fund when the
Portfolio Adviser believes retaining such securities is consistent with the
Fund's investment objective.
Differing yields on fixed income securities of the same maturity are a function
of several factors, including the relative financial strength of the issuers.
Higher yields are generally available from securities in the lower categories of
recognized rating agencies, i.e., Ba or lower by Moody's or BB or lower by
Standard & Poor's. A Fund may invest in any security which is rated by Moody's
or Standard & Poor's, or in any unrated security which the Portfolio Advisers
determine is of suitable quality. Securities in the rating categories below Baa
as determined by Moody's and BBB as determined by Standard & Poor's are
considered to be of poor standing and predominantly speculative. The rating
services descriptions of these rating categories, including the speculative
characteristic of the lower categories, are set forth in Appendix A.
Securities ratings are based largely on the issuer's historical financial
information and the rating agencies' investment analysis at the time of rating.
Consequently, the rating assigned to any particular security is not necessarily
a reflection of the issuer's current financial condition, which may be better or
worse than the rating would indicate. Although the Funds' Portfolio Advisers
will consider security ratings when making investment decisions in the High
Yield Market, they will perform their own investment analysis and will not rely
principally on the ratings assigned by the rating services. A Portfolio
Adviser's analysis generally may include, among other things, consideration of
the issuer's experience and managerial strength, changing financial condition,
borrowing requirements or debt maturity schedules, and its responsiveness to
changes in business conditions and interest rates. It also considers relative
values based on anticipated cash flow, interest or dividend coverage, asset and
earnings prospects.
CERTAIN INVESTMENT STRATEGIES AND POLICIES
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OPTIONS AND FUTURES TRANSACTIONS (BSTFIF, BFIF, BPMF, BGGF)
GENERAL. The successful use of these investment techniques depends on the
ability of Fund management to forecast interest rate and currency exchange rate
movements correctly. Should interest or exchange rates move in an unexpected
manner, a Fund may not achieve the anticipated benefits of futures contracts,
options or forward contracts or may realize losses and thus be in a worse
position than if such strategies had not been used. Unlike many exchange-traded
futures contracts and options on futures contracts, there are no daily price
fluctuation limits with respect to options on currencies and forward contracts,
and adverse market movements could therefore continue to an unlimited extent
over a period of time. In addition, the correlation between movements in the
prices of such instruments and movements in the price of the securities and
currencies hedged or used for cover will not be perfect and could produce
unanticipated losses. A Fund's ability to dispose of its positions in futures
contracts, options and forward contracts will depend on the availability of
liquid markets in such instruments. Markets in options and futures with respect
to a number of fixed income securities and currencies are relatively new and
still developing. It is impossible to predict the amount of trading interest
that may exist in various types of futures contracts, options and forward
contracts. If a secondary market does not exist with respect to an option
purchased or written by a Fund over-the-counter, it might not be possible to
effect a closing transaction in the option (i.e., dispose of the option) with
the result that (i) an option purchased by the Fund would have to be exercised
in order for the Fund to realize any profit and (ii) the Fund may not be able to
sell currencies or portfolio securities covering an option written by the Fund
until the option expires or it delivers the underlying futures contract or
currency upon exercise. Therefore, no assurance can be given that the Funds will
be able to utilize these instruments effectively for the purposes set forth
above. The selection of futures and option strategies requires skills different
from those needed to select portfolio securities; however, the Portfolio
Advisers do have experience in the use of futures and options. Furthermore, a
Fund's ability to engage in options and futures transactions may be limited by
tax considerations. See "Tax Matters" in each Fund's Statement of Additional
Information.
OPTIONS ON PORTFOLIO SECURITIES. (BSTFIF, BFIF, BGGF) A Fund, in seeking to
generate high current income, may write covered call options on certain of its
portfolio securities at such time and from time to time as Fund management shall
determine to be appropriate and consistent with the investment objective of the
Fund. A covered call option means that the Fund owns the security on which the
option is written. Generally, the Funds expect that options written by them will
be traded on recognized securities exchanges. In certain instances, however, a
Fund may purchase and sell options in the over-the-counter market ("OTC
Options"). A Fund's ability to close option positions established in the
over-the-counter market may be more limited than in the case of exchange-traded
options and may also involve the risk that securities dealers participating in
such transactions would fail to meet their obligations to the Fund. In addition,
the staff of the SEC has taken the position that OTC Options and the assets used
as "cover" should be treated as illiquid securities. There is no fixed limit on
the percentage of a Fund's assets upon which options may be written.
The Funds will receive a premium (less any commissions) from the writing of such
contracts, and it is believed that the total return to the Funds can be
increased through such premiums consistent with each Fund's investment
objective. The writing of option contracts is a highly specialized activity
which involves investment techniques and risks different from those ordinarily
associated with investment companies, although the Funds believe that the
writing of covered call options listed on an exchange or traded in the
over-the-counter market, where the Fund owns the underlying security, tends to
reduce such risks. The writer forgoes the opportunity to profit from an increase
in market price of the underlying security above the exercise price so long as
the option remains open. See each Fund's Statement of Additional Information for
more information.
FUTURES CONTRACTS AND OPTIONS ON FUTURES CONTRACTS. (BSTFIF, BFTFBF, BFIF, BGGF)
A Fund may enter into contracts for the purchase or sale for future delivery of
interest rate instruments, fixed-income securities, foreign currencies, or
contracts based on financial indices including any index of U.S. Government
Securities, foreign government securities or corporate debt securities ("futures
contracts") and may purchase and write put and call options to buy or sell
futures contracts ("options on futures contracts"). A "sale" of a futures
contract means the acquisition of a contractual obligation to deliver the
securities or foreign currencies called for by the contract at a specified price
on a specified date. A "purchase" of a futures contract means the incurring of a
contractual obligation to acquire the securities or foreign currencies called
for by the contract at a specified price on a specified date. Options on futures
contracts to be written or purchased by a Fund will be traded on U.S. or foreign
exchanges or over-the-counter. See "Additional Risks of Futures Contracts and
Related Options, Forward Foreign Currency Exchange Contracts and Options on
Foreign Currencies" below and in each Fund's Statement of Additional Information
for further discussion of the use, risks and costs of futures contracts and
options on futures contracts.
Although most futures contracts call for making or taking delivery of the
underlying securities, these obligations are typically cancelled or closed out
before the scheduled settlement date. The closing is accomplished by purchasing
(or selling) an identical futures contract to offset a short (or long) position.
Such an offsetting transaction cancels the contractual obligations established
by the original futures transaction. Other financial futures contracts call for
cash settlements rather than delivery of securities.
If the price of an offsetting futures transaction varies from the price of the
original futures transaction, the Funds will realize a gain or loss
corresponding to the difference. That gain or loss will tend to offset the
unrealized loss or gain on the hedged securities transaction, but may not always
or completely do so.
In contrast to the purchase or sale of a security, the full purchase price of
the futures contract is not paid or received by a Fund upon its purchase or
sale. Instead, the Funds will deposit in a segregated custodial account an
amount of cash or U.S. Treasury bills equal to approximately 5% of the value of
the contract. This amount is known as initial margin. The nature of initial
margin in futures transactions is different from that of margin in security
transactions in that futures contract margin does not involve the borrowing of
funds by the customer to finance the transactions. Rather, the initial margin is
in the nature of a performance bond or good faith deposit on the contract which
is returned to the Fund upon termination of the futures contract assuming all
contractual obligations have been satisfied. Subsequent payments to and from the
broker, called variation margin, will be made on a daily basis as the price of
the underlying security fluctuates making the long and short positions in the
futures contract more or less valuable, a process known as "mark to the market."
For example, when a Fund has purchased a futures contract and the price of the
underlying security has risen, that position will have increased in value and
the Fund will receive from the broker a variation margin payment equal to that
increase in value. Conversely, where a Fund has purchased a futures contract and
the price of the underlying security has declined, the position would be less
valuable and the Fund would be required to make a variation margin payment to
the broker. At any time prior to expiration of the futures contract, a Fund may
elect to terminate the position by taking an opposite position. A final
determination of variation margin is then made, additional cash is required to
be paid by or released to that Fund, and the Fund realizes a loss or gain. No
assurance can be given that the Funds will be able to take an opposite position.
The Funds will not (i) enter into any futures contracts or options on futures
contracts if immediately thereafter the aggregate of margin deposits on all the
outstanding futures contracts of a Fund and premiums paid on outstanding options
on futures contracts would exceed 5% of the market value of the total assets of
the Fund, or (ii) enter into any futures contracts or options on futures
contracts if the aggregate of the market value of the outstanding futures
contracts of a Fund and the market value of the currencies and futures contracts
subject to outstanding options written by the Fund would exceed 50% of the
market value of the total assets of that Fund.
OPTIONS ON FOREIGN CURRENCIES. (BSTFIF, BFIF, BGGF) The Funds may purchase and
write put and call options on foreign currencies to increase a Fund's gross
income and for the purpose of protecting against declines in the U.S. dollar
value of foreign currency denominated portfolio securities and against increases
in the U.S. dollar cost of such securities to be acquired. As in the case of
other kinds of options, however, the writing of an option on a foreign currency
constitutes only a partial hedge, up to the amount of the premium received, and
the Funds could be required to purchase or sell foreign currencies at
disadvantageous exchange rates, thereby incurring losses. The purchase of an
option on a foreign currency may constitute an effective hedge against
fluctuations in exchange rates although, in the event of rate movements adverse
to a Fund's position, it may forfeit the entire amount of the premium plus
related transaction costs. Options on foreign currencies to be written or
purchased by a Fund are traded on U.S. and foreign exchanges or
over-the-counter. There is no specific percentage limitation on a Fund's
investments in options on foreign currencies. See each Fund's Statement of
Additional Information for further discussion on the use, risks and costs of
options on foreign currencies.
FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS. (BSTFIF, BFIF, BGGF) The Funds will
purchase or sell forward foreign currency exchange contracts ("forward
contracts") as part of their portfolio investment strategy. A forward contract
is an obligation to purchase or sell a specific currency for an agreed price at
a future date which is individually negotiated and privately traded by currency
traders and their customers. A Fund may enter into a forward contract, for
example, when it enters into a contract for the purchase or sale of a security
denominated in a foreign currency in order to "lock in" the U.S. dollar price of
the security ("transaction hedge"). Additionally, for example, when a Fund
believes that a foreign currency may suffer a substantial decline against the
U.S. dollar, it may enter into a forward sale contract to sell an amount of that
foreign currency approximating the value of some or all of the Fund's portfolio
securities denominated in such foreign currency, or when a Fund believes that
the U.S. dollar may suffer a substantial decline against foreign currency, it
may enter into a forward purchase contract to buy that foreign currency for a
fixed dollar amount ("position hedge"). In this situation, a Fund may, in the
alternative, enter into a forward contract to sell a different foreign currency
for a fixed U.S. dollar amount where the Fund believes that the U.S. dollar
value of the currency to be sold pursuant to the forward contract will fall
whenever there is a decline in the U.S. dollar value of the currency in which
portfolio securities of the Fund are denominated ("cross-hedge"). The Funds'
custodian will place cash not available for investment or U.S. Government
Securities or other high quality debt securities in a separate account of a Fund
having a value equal to the aggregate amount of that Fund's commitments under
forward contracts entered into with respect to position hedges and crosshedges.
If the value of the securities placed in a separate account declines, additional
cash or securities will be placed in the account on a daily basis so that the
value of the account will equal the amount of the Fund's commitments with
respect to such contracts. As an alternative to maintaining all or part of the
separate account, a Fund may purchase a call option permitting the Fund to
purchase the amount of foreign currency being hedged by a forward sale contract
at a price no higher than the forward contract price or a Fund may purchase a
put option permitting the Fund to sell the amount of foreign currency subject to
a forward purchase contract at a price as high or higher than the forward
contract price. Unanticipated changes in currency prices may result in poorer
overall performance for a Fund than if it had not entered into such contracts.
Pursuant to the sub-advisory agreements, the Portfolio Advisers, where permitted
by law, will purchase and sell foreign exchange in the interbank dealer market
for a fee on behalf of a Fund, subject to certain procedures and reporting
requirements adopted by the Board Members.
ADDITIONAL RISKS OF FUTURES CONTRACTS AND RELATED OPTIONS, FORWARD FOREIGN
CURRENCY EXCHANGE CONTRACTS AND OPTIONS ON FOREIGN CURRENCIES. The market prices
of futures contracts may be affected by certain factors. First, all participants
in the futures market are subject to margin deposit and maintenance
requirements. Rather than meeting additional margin deposit requirements,
investors may close futures contracts through offsetting transactions which
could distort the normal relationship between the securities and futures
markets. Second, from the point of view of speculators, the deposit requirements
in the futures market are less onerous than margin requirements in the
securities market. Therefore, increased participation by speculators in the
futures market may also cause temporary price distortions.
In addition, futures contracts in which the Funds may invest may be subject to
commodity exchange imposed limitations on fluctuations in futures contract
prices during a single day. Such regulations are referred to as "daily price
fluctuation limits" or "daily limits." During a single trading day no trades may
be executed at prices beyond the daily limit. Once the price of a futures
contract has increased or decreased by an amount equal to the daily limit,
positions in those futures cannot be taken or liquidated unless both a buyer and
seller are willing to effect trades at or within the limit. Daily limits, or
regulatory intervention in the commodity markets, could prevent a Fund from
promptly liquidating unfavorable positions and adversely affect operations and
profitability.
Options on foreign currencies and forward foreign currency exchange contracts
("forward contracts") are not traded on contract markets regulated by the
Commodity Futures Trading Commission ("CFTC") and are not regulated by the SEC.
Rather, forward currency contracts are traded through financial institutions
acting as market-makers. Foreign currency options are traded on certain national
securities exchanges, such as the Philadelphia Stock Exchange and the Chicago
Board Options Exchange, subject to SEC regulation. In the forward currency
market, there are no daily price fluctuation limits, and adverse market
movements could therefore continue to an unlimited extent over a period of time.
Moreover, a trader of forward contracts could lose amounts substantially in
excess of its initial investments, due to the collateral requirements associated
with such positions.
Options on foreign currencies traded on national securities exchanges are within
the jurisdiction of the SEC, as are other securities traded on such exchanges.
As a result, many of the protections provided to traders on organized exchanges
will be available with respect to such transactions. In particular, all foreign
currency option positions entered into on a national securities exchange are
cleared and guaranteed by the OCC, thereby reducing the risk of counterparty
default. Further, a liquid secondary market in options traded on a national
securities exchange may exist, potentially permitting the Fund to liquidate open
positions at a profit prior to exercise or expiration, or to limit losses in the
event of adverse market movements.
The purchase and sale of exchange-traded foreign currency options, however, are
subject to the risks of the availability of a liquid secondary market described
above, as well as the risks regarding adverse market movements, margining of
options written, the nature of the foreign currency market, possible
intervention by governmental authorities and the effects of other political and
economic events. In addition, exercise and settlement of such options must be
made exclusively through the OCC, which has established banking relationships in
applicable foreign countries for this purpose. As a result, the OCC may, if it
determines that foreign governmental restrictions or taxes would prevent the
orderly settlement of foreign currency option exercises, or would result in
undue burdens on the OCC or its clearing member, impose special procedures on
exercise and settlement, such as technical changes in the mechanics of delivery
of currency, the fixing of dollar settlement prices or prohibitions on exercise.
In addition, futures contracts and related options and forward contracts and
options on foreign currencies may be traded on foreign exchanges, to the extent
permitted by the CFTC. Such transactions are subject to the risk of governmental
actions affecting trading in or the prices of foreign currencies or securities.
The value of such positions also could be adversely affected by (a) other
complex foreign political and economic factors, (b) lesser availability than in
the United States of data on which to make trading decisions, (c) delays in a
Fund's ability to act upon economic events occurring in foreign markets during
nonbusiness hours in the United States, (d) the imposition of different exercise
and settlement terms and procedures and margin requirements than in the United
States, and (e) lesser trading volume.
OTHER INVESTMENT POLICIES
REPURCHASE AGREEMENTS. The Funds may enter into repurchase agreements. Under a
repurchase agreement, a Fund acquires a debt instrument for a relatively short
period (usually not more than one week) subject to the obligation of the seller
to repurchase and the Fund to resell such debt instrument at a fixed price. The
resale price is in excess of the purchase price in that it reflects an
agreed-upon market interest rate effective for the period of time during which
that Fund's money is invested. The Funds' repurchase agreements will at all
times be fully collateralized in an amount at least equal to the purchase price
including accrued interest earned on the underlying securities. The instruments
held as collateral are valued daily, and as the value of instruments declines,
the Funds will require additional collateral. If the seller defaults and the
value of the collateral securing the repurchase agreement declines, a Fund may
incur a loss. If such a defaulting seller were to become insolvent and subject
to liquidation or reorganization under applicable bankruptcy or other laws,
disposition of the underlying securities could involve certain costs or delays
pending court action. Finally, it is not certain whether the Funds would be
entitled, as against a claim of the seller or its receiver, trustee in
bankruptcy or creditors, to retain the underlying securities. Repurchase
agreements are considered by the staff of the SEC to be loans by a Fund.
LENDING OF PORTFOLIO SECURITIES. (BSTFIF, BFTFBF, BFIF) In order to generate
additional income, each Fund may lend its portfolio securities in an amount up
to 33 1/3% of total Fund assets to broker-dealers, major banks, or other
recognized domestic institutional borrowers of securities not affiliated with
Sheffield. The borrower at all times during the loan must maintain cash or cash
equivalent collateral or provide to the Fund an irrevocable letter of credit
equal in value to at least 100% of the value of the securities loaned. During
the time portfolio securities are on loan, the borrower pays the Fund any
dividends or interest paid on such securities, and the Fund may invest the cash
collateral and earn additional income, or it may receive an agreed-upon amount
of interest income from the borrower who has delivered equivalent collateral or
a letter of credit. As with other extensions of credit, there are risks of delay
in recovery or even loss of rights in the collateral should the borrower of any
loaned securities fail financially.
WHEN-ISSUED AND FORWARD TRANSACTIONS AND STAND-BY COMMITMENTS. (BFTFBF) The Fund
may purchase eligible securities on a "when issued" basis and may purchase or
sell securities on a "forward commitment" basis. The Fund does not intend to
engage in "when issued" purchases and forward commitments for speculative
purposes, but only in furtherance of its investment objective. The Fund will
establish a segregated account with its custodian bank in which it will maintain
cash or other high quality debt securities determined daily to be equal in value
to the commitments for "when-issued" securities.
In addition, the Fund may acquire "stand-by commitments" with respect to
Municipal Obligations that it holds. Under a "stand-by commitment," a dealer
agrees to purchase, at the Fund's option, specified Municipal Obligations at a
specified price. The Fund will acquire "stand-by commitments" solely to
facilitate portfolio liquidity and does not intend to exercise its rights
thereunder for trading purposes. "Stand-by commitments" acquired by the Fund
would be valued at zero in determining the Fund's net asset value.
MONEY MARKET INSTRUMENTS. (BFTFBF, BPMF, BGGF, BFIF, BSTFIF) Money market
instruments include, but are not limited to, the following instruments:
government securities; commercial paper; bank certificates of deposit and
bankers' acceptances; and repurchase agreements related to any of the foregoing.
A Fund will only purchase commercial paper if it is rated Prime-1 or Prime-2 by
Moody's or A-1 or A-2 by Standard & Poor's or, if not rated, is considered by
Fund management to be of equivalent quality.
Under a defensive strategy, BSTFIF and BFIF may concentrate their investments in
securities issued by banks. Such investments may include certificates of
deposit, time deposits, bankers' acceptances, and obligations issued by bank
holding companies, as well as repurchase agreements entered into with banks.
ILLIQUID SECURITIES. (BSTFIF, BFIF, BGGF, BFTFBF, BPMF) The Funds will not
invest in illiquid securities if immediately after such investment more than 10%
of a Fund's total assets (taken at market value) would be invested in such
securities. See each Fund's Statement of Additional Information. For this
purpose, illiquid securities include (a) securities that are illiquid by virtue
of the absence of a readily available market or legal or contractual
restrictions on resale, (b) participation interests in loans that are not
subject to puts, (c) covered call options on portfolio securities written by a
Fund over-the-counter and the cover for such options and (d) repurchase
agreements not terminable within seven days. Securities that have legal or
contractual restrictions on resale but have a readily available market are not
deemed illiquid for purposes of this limitation.
Rule 144A under the Securities Act of 1933 allows a broader institutional
trading market for securities otherwise subject to restriction on resale to the
general public. Rule 144A establishes a "safe harbor" from the registration
requirements of the Securities Act of 1933 applicable to resales of certain
securities to qualified institutional buyers. The Portfolio Advisers anticipate
that the market for certain restricted securities such as institutional
commercial paper will expand further as a result of this regulation and the
development of automated systems for the trading, clearance and settlement of
unregistered securities of domestic and foreign issuers, such as the PORTAL
System sponsored by the National Association of Securities Dealers, Inc.
The Portfolio Adviser will monitor the liquidity of restricted securities in
each Fund's portfolio under the supervision of the Board Members. In reaching
liquidity decisions, the Portfolio Advisers will consider, inter alia, the
following factors: (1) the frequency of trades and quotes for the security; (2)
the number of dealers wanting to purchase or sell the security and the number of
other potential purchasers; (3) dealer undertakings to make a market in the
security and (4) the nature of the security and the nature of the marketplace
trades (e.g., the time needed to dispose of the security, the method of
soliciting offers and the mechanics of the transfer).
NON-DIVERSIFICATION. All of the Funds' portfolios are "non-diversified" which
means the Funds are not limited in the proportion of assets that may be invested
in the securities of a single issuer.
However, each Fund intends to conduct its operations so as to qualify as a
"regulated investment company" for purposes of the Code, which will relieve the
Funds of any liability for Federal income tax to the extent its earnings are
distributed to shareholders. See "Tax Matters." To so qualify, among other
requirements, each Fund will limit its investments so that, at the close of each
fiscal quarter, (i) not more than 25% of the market value of a Fund's total
assets will be invested in the securities of a single issuer, and (ii) with
respect to 50% of the market value of its total assets, not more than 5% of the
market value will be invested in the securities of a single issuer and a Fund
will not own more than 10% of the outstanding voting securities of a single
issuer. For purposes of the Funds' requirements to maintain diversification for
tax purposes, the issuer of a loan participation will be the underlying
borrower. In cases where a Fund does not have recourse directly against the
borrower, both the borrower and each agent bank and co-lender interposed between
the Fund and the borrower will be deemed issuers of the loan participation for
tax diversification purposes. A Fund's investments in U.S. Government Securities
are not subject to these limitations. Since the Funds may invest in a smaller
number of individual issuers than diversified investment companies, an
investment in the Funds may, under certain circumstances, present greater risks
to an investor than an investment in a diversified company.
PORTFOLIO TURNOVER. The Funds may engage in active short-term trading to benefit
from yield disparities among different issues of securities, to seek short-term
profits during periods of fluctuating interest rates, or for other reasons. Such
trading will increase a Fund's rate of turnover and the possible incidence of
short-term capital gain taxable as ordinary income. VCM anticipates that the
annual turnover in each Fund will not be in excess of 200%. An annual turnover
rate of 200% occurs, for example, when the dollar equivalent of all of the
securities in a Fund's portfolio are replaced twice in a period of one year. A
high rate of portfolio turnover involves correspondingly greater expenses than a
lower rate, including brokerage commissions or dealer mark-ups and other
transaction costs on the sale of securities and reinvestment in other
securities, which expenses must be borne by that Fund and its shareholders. High
portfolio turnover rates also may result in the realization of substantial net
short-term capital gains. In order to continue to qualify as a regulated
investment company for Federal tax purposes, less than 30% of the annual gross
income of a Fund must be derived from the sale of securities held by the Fund
for less than three months. See "Tax Matters."
RISK FACTORS AND SPECIAL CONSIDERATIONS
FOREIGN INVESTMENTS. (BSTFIF, BFIF, BGGF) Foreign investments involve certain
risks that are not present in domestic securities. Because the Funds intend to
purchase securities denominated in foreign currencies, a change in the value of
any such currency against the U.S. dollar will result in a corresponding change
in the U.S. dollar value of a Fund's assets and a Fund's income available for
distribution. In addition, although a portion of a Fund's investment income may
be received or realized in such currencies, the Code requires that each Fund
compute and distribute its income in U.S. dollars. Therefore, if the exchange
rate of any such currency declines after the Fund's income has been earned and
translated into U.S. dollars but before payment, a Fund could be required to
liquidate securities to make such distributions. Similarly, if an exchange rate
depreciates between the time a Fund incurs expenses in U.S. dollars and the time
such expenses are paid, the amount of such currency required to be converted
into U.S. dollars in order to pay such expenses in U.S. dollars will be greater
than the equivalent amount in any such currency of such expenses at the time
they were incurred. Under the Code, changes in an exchange rate which occur
between the time a Fund accrues interest or other receivables or accrues
expenses or other liabilities denominated in a foreign currency and the time a
Fund actually collects such receivables or pays such liabilities will result in
foreign exchange gains or losses that increase or decrease distributable taxable
net investment income. Similarly, dispositions of certain debt securities (by
sale, at maturity or otherwise) at a U.S. dollar amount which is higher or lower
than the Fund's original U.S. dollar cost may result in foreign exchange gains
or losses, which will increase or decrease distributable taxable net investment
income.
The values of foreign investments and the investment income derived from them
may also be affected unfavorably by changes in currency exchange control
regulations. Although the Funds will invest only in securities denominated in
foreign currencies that are fully exchangeable into U.S. dollars without legal
restriction at the time of investment, there is no assurance that currency
controls will not be imposed subsequently. In addition, the values of foreign
fixed-income investments will fluctuate in response to changes in U.S. and
foreign interest rates.
There may be less information publicly available about a foreign issuer than
about a U.S. issuer, and foreign issuers are not generally subject to
accounting, auditing and financial reporting standards and practices comparable
to those in the United States. The securities of some foreign issuers are less
liquid and at times more volatile than securities of comparable U.S. issuers.
Foreign brokerage commissions, custodial expenses and other fees are also
generally higher than for securities traded in the United States.
In addition, with respect to certain foreign countries, there is a possibility
of expropriation of assets, confiscatory taxation, political or financial
instability and diplomatic developments which could adversely affect the value
of investments in those countries. The Portfolio Advisers do not expect to
invest the Funds' assets in countries where they believe such events are likely
to occur.
Income received by a Fund from sources within foreign countries may be reduced
by withholding and other taxes imposed by such countries. Tax conventions
between certain countries and the United States may reduce or eliminate such
taxes. The Portfolio Advisers will attempt to minimize such taxes by timing of
transactions and other strategies, but there is no assurance that such efforts
will be successful. Any such taxes paid by a Fund will reduce its net income
available for distribution to shareholders.
Investors should recognize that investing in debt obligations and other
fixed-income securities of issuers in emerging countries involves certain
special considerations and risk factors, including those set forth below, which
are not typically associated with investing in debt obligations and other fixed
income securities of U.S. issuers.
Trading volume in emerging country securities markets is substantially less than
in the United States. Further, securities of some emerging country issuers are
less liquid and more volatile than securities of comparable U.S. issuers.
Commissions for trading on emerging country stock exchanges are generally higher
than commissions for trading on U.S. exchanges, although the Funds will endeavor
to achieve the most favorable net results on their portfolio transactions and
may, in certain instances, be able to purchase portfolio investments on other
stock exchanges where commissions are negotiable.
Issuers in emerging countries are not generally subject to uniform accounting,
auditing and financial reporting standards, practices and disclosure
requirements comparable to those applicable to U.S. issuers. Consequently, there
may be less publicly available information about an emerging country issuer than
about a U.S. issuer. Further, there is generally less government supervision and
regulation of foreign stock exchanges, brokers and listed issuers than in the
United States.
The Funds may invest in unlisted emerging country debt obligations and other
fixed-income securities, including investments in new and early stage issuers,
which may involve a high degree of business and financial risk that can result
in substantial losses. Because of the absence of any trading market for these
investments, a Fund may take longer to liquidate these positions than would be
the case for publicly traded securities. Although these securities may be resold
in privately negotiated transactions, the prices realized on these sales could
be less than those originally paid by the Fund. Further, issuers whose
securities are not publicly traded may not be subject to public disclosure and
other investor protection requirements applicable to publicly traded securities.
The economies of individual emerging countries may differ favorably or
unfavorably from the U.S. economy in such respects as growth of gross domestic
product, rate of inflation, currency depreciation, capital reinvestment,
resource self-sufficiency and balance of payments position. Further, the
economies of developing countries generally are dependent upon international
trade and, accordingly, have been and may continue to be adversely affected by
trade barriers, exchange controls, managed adjustments in relative currency
values and other protectionist measures imposed or negotiated by the countries
with which they trade. These economies also have been and may continue to be
adversely affected by economic conditions in the countries with which they
trade.
With respect to any emerging country, there is the possibility of
nationalization, expropriation or confiscatory taxation, political changes,
government regulation, social instability or diplomatic developments (including
war) which could affect adversely the economies of such countries or the value
of a Fund's investments in those countries. In addition, it may be difficult to
obtain and enforce a judgment in a court outside of the United States.
From time to time, BGGF may invest in Eastern Europe as investment opportunities
emerge in those markets, if the Portfolio Adviser deems it prudent in light of
then existing social, economic and political conditions. Investing in the
securities of issuers in Eastern Europe involves certain additional
considerations not usually associated with investing in securities of issuers in
more developed capital markets, including the following: (i) political and
economic considerations, such as greater risks of expropriation and
nationalization and less social, political and economic stability; (ii) the
small size of the markets for such securities, the low or nonexistent volume of
trading, the lack of liquidity and price volatility; (iii) restrictions on
investing in issuers or industries deemed sensitive to relevant national
interests; and (iv) the absence of developed legal structures governing private
and foreign investments and private property. Applicable accounting and
financial reporting standards in Eastern Europe may be substantially different
from U.S. accounting standards and, in certain Eastern European countries, no
reporting standards may exist. Consequently, substantially less information is
available to investors in Eastern Europe, and the information that is available
may not be conceptually comparable to, or prepared on the same basis as, that
available in more developed capital markets, which may make it difficult to
assess the financial status of particular companies. Upon the accession to power
of Communist regimes approximately 40 years ago, the governments of a number of
Eastern European countries expropriated a large amount of property. The claims
of many property owners against those governments were never finally settled.
There can be no assurance that the Fund's investments in Eastern Europe, if any,
would not also be appropriated, nationalized or otherwise confiscated, in which
case the Fund would lose its entire investment in the country involved. In
addition, any change in the leadership or policies of Eastern European countries
may halt the expansion of or reverse the liberalization of foreign investment
policies now occurring.
PRECIOUS METALS AND PRECIOUS METALS SECURITIES. (BPMF, BGGF) Investment in
securities of precious metals mining, exploration and processing companies
involves certain risks. Selective investment in such securities, however, may
offer a greater return than shares of domestic industrial issuers. The market
action of such securities has tended to move against, or independently of, the
market trend of industrial securities; therefore, the addition of securities of
companies involved in precious metals operations to an investor's portfolio may
increase the return and may reduce overall fluctuations in portfolio value.
Thus, an investment in a Fund should be considered part of an overall investment
program rather than as a complete investment program in itself.
Prices of precious metals mining securities can be volatile and tend to
experience greater volatility than the prices of physical precious metals. This
is due to the fact that the costs of mining precious metals remain relatively
fixed, so that an increase or decrease in the price of precious metals has a
direct and greater than proportional effect on the profitability of precious
metals mining companies. Investments tied to precious metals characteristically
involve high risk because of precious metals' price volatility. The price of
precious metals is affected by factors such as cyclical economic conditions,
political events and monetary policies of various countries (see "Investment
Objective and Policies--Additional Information Regarding Precious Metals and
Precious Metals Securities" in each Fund's Statement of Additional Information
for historic price information on gold bullion). During periods of rising
precious metals prices, investments in Precious Metals Securities will tend to
be emphasized with respect to a Fund.
The mining of gold is highly concentrated in a few countries. Currently, the
five largest producers of gold are the Republic of South Africa, certain
republics of the former Soviet Union, Canada, the United States and Australia.
Economic and political conditions prevailing in these countries may have a
direct effect on the production and marketing of newly produced gold and sales
of central bank gold holdings. At any given time, a substantial portion of the
investments of a Fund may be concentrated in one or a few foreign countries. See
"Investment Objective and Policies--Additional Information Regarding Precious
Metals and Precious Metals Securities" in each Fund's Statement of Additional
Information for further details on this subject.
RISK FACTORS-LOWER RATED FIXED INCOME SECURITIES. (BSTFIF) Lower quality fixed
income securities generally produce a higher current yield than do fixed income
securities of higher ratings. However, these fixed income securities are
considered speculative because they involve greater price volatility and risk
than do higher rated fixed income securities, and yields on these fixed income
securities will tend to fluctuate over time. Although the market value of all
fixed income securities varies as a result of changes in prevailing interest
rates (e.g., when interest rates rise, the market value of fixed income
securities can be expected to decline), values of lower rated fixed income
securities tend to react differently than the values of higher rated fixed
income securities. The prices of lower rated fixed income securities are less
sensitive to changes in interest rates than higher rated fixed income
securities. Conversely, lower rated fixed income securities also involve a
greater risk of default by the issuer in the payment of principal and income and
are more sensitive to economic downturns and recessions than higher rated fixed
income securities. The financial stress resulting from an economic downturn
could have a greater negative effect on the ability of issuers of lower rated
fixed income securities to service their principal and interest payments, to
meet projected business goals and to obtain additional financing than on more
creditworthy issuers. In the event of an issuer's default in payment of
principal or interest on such securities, or any other fixed income securities
in a Fund's portfolio, the net asset value of that Fund will be negatively
affected. Moreover, as the market for lower rated fixed income securities is a
relatively new one, a severe economic downturn might increase the number of
defaults, thereby adversely affecting the value of all outstanding lower rated
fixed income securities and disrupting the market for such securities. Fixed
income securities purchased by the Fund as part of an initial underwriting
present an additional risk due to their lack of market history. These risks are
exacerbated with respect to fixed income securities rated Caa or lower by
Moody's or CCC or lower by Standard & Poor's. Unrated fixed income securities
generally carry the same risks as do lower rated fixed income securities.
Lower quality debt securities are typically traded among a smaller number of
broker-dealers rather than in a broad secondary market. Purchasers of lower
quality debt securities tend to be institutions, rather than individuals, a
factor that further limits the secondary market. To the extent that no
established retail secondary market exists, many lower quality debt securities
may not be as liquid as Treasury and investment grade bonds. The ability of the
Fund to sell lower quality debt securities will be adversely affected to the
extent that such securities are thinly traded or illiquid. Moreover, the ability
of the Fund to value lower quality debt securities becomes more difficult, and
judgment plays a greater role in valuation, as there is less reliable, objective
data available with respect to such securities that are thinly traded or
illiquid. Unrated debt securities are not necessarily of lower quality than
rated debt securities, but they may not be attractive to as many buyers.
Because investors may perceive that there are greater risks associated with the
lower quality debt securities of the type in which the Funds may invest, the
yields and prices of such securities may tend to fluctuate more than those for
higher quality debt securities. Changes in perception of issuers'
creditworthiness tend to occur more frequently and in a more pronounced manner
in the lower quality segments of the debt securities market than do changes in
higher quality segments of the debt security market, resulting in greater yield
and price volatility. The speculative characteristics of lower rated debt
securities are set forth in Appendix A.
The Fund's Portfolio Adviser believes that the risks of investing in such high
yielding debt securities may be minimized through careful analysis of
prospective issuers. Although the opinions of ratings services such as Moody's
and Standard & Poor's are considered in selecting securities in which the Fund
may invest, the Portfolio Adviser evaluates the safety of the principal and the
interest payments of the security, not their market value risk. Additionally
credit rating agencies may experience slight delays in updating ratings to
reflect current events. The Portfolio Adviser relies, primarily on its own
credit analysis. This may suggest, however, that the achievement of the Fund's
investment objective is more dependent on the Portfolio Adviser's proprietary
credit analysis, than is otherwise the case for a Fund that invests exclusively
in higher quality debt securities. Once the rating of a portfolio security or
the quality determination ascribed by the Portfolio Adviser to an unrated debt
security has been downgraded, the Portfolio Adviser will consider all
circumstances deemed relevant in determining whether to continue to hold the
security.
APPENDIX A
- -------------------------------------------------------------------------------
DESCRIPTION OF MOODY'S INVESTORS SERVICE, INC.'S BOND RATINGS:
Investment grade debt securities are those rating categories indicated by an
asterisk (*).
*Aaa: Bonds which are rated Aaa are judged to be the best quality. They carry
the smallest degree of investment risk and are generally referred to as "gilt
edge". 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 fluctuations of protective elements
may be of greater amplitude or there may be other elements present which make
the long-term risks appear somewhat larger than in Aaa securities.
*A: Bonds which are rated A possess many favorable investment attributes and are
to be considered as upper medium grade obligations. Factors giving security to
principal and interest are considered adequate, but elements may be present
which suggest a susceptibility to impairment sometime in the future.
*Baa: Bonds which are rated Baa are considered as medium grade obligations,
i.e., they are neither highly protected nor poorly secured. Interest payments
and principal security appear adequate for the present, but certain protective
elements may be lacking or may be characteristically unreliable over any great
length of time. Such bonds lack outstanding investment characteristics and in
fact have speculative characteristics as well.
Ba: Bonds which are rated Ba are judged to have speculative elements; their
future cannot be considered as well assured. Often the protection of interest
and principal payments may be very moderate and thereby not well safeguarded
during other good and bad times over the future. Uncertainty of position
characterizes bonds in this class.
B: Bonds which are rated B generally lack characteristics of the desirable
investment. Assurance of interest and principal payments or of maintenance of
other terms of the contract over any long period of time may be small.
Caa: Bonds which are rated Caa are of poor standing. Such issues may be in
default or there may be present elements of danger with respect to principal
or interest.
CA: Bonds which are rated Ca represent obligations which are speculative in a
high degree. Such issues are often in default or have other marked
shortcomings.
C: Bonds which are rated C are the lowest rated class of bonds and issues so
rated can be regarded as having extremely poor prospects of ever attaining any
real investment standing.
NOTE: Moody's applies numerical modifiers, 1, 2 and 3 in each generic rating
classification from Aa through B in its bond rating system. The modifier 1
indicates that the security ranks in the higher end of its generic rating
category, the modifier 2 indicates a mid-range ranking, and the modifier 3
indicates that the issue ranks in the lower end of its generic rating category.
DESCRIPTION OF STANDARD & POOR'S CORPORATION'S BOND RATINGS:
Investment grade debt securities are those rating categories indicated by an
asterisk (*).
*AAA: Debt rated AAA have the highest rating assigned by Standard & Poor's to a
debt obligation. Capacity to pay interest and repay principal is extremely
strong.
*AA: Debt rated AA have a very strong capacity to pay interest and repay
principal and differ from the higher rated issues only in small degree.
*A: Debt rated A have a strong capacity to pay interest and repay principal
although they are somewhat more susceptible to the adverse effects of changes in
circumstances and economic conditions than bonds in higher rated categories.
*BBB: Debt rated BBB are regarded as having an adequate capacity to pay interest
and repay principal. Whereas they normally exhibit 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
bonds in this category than for bonds in higher rated categories.
BB, B, CCC, CC, C: Debt rated "BB," "B," "CCC," "CC" and "C" is regarded, on
balance, as predominantly speculative with respect to capacity to pay interest
and repay principal in accordance with the terms of the obligation. "BB"
indicates the lowest degree of speculation and "C" the highest degree of
speculation. While such debt will likely have some quality and protective
characteristics, these are outweighed by large uncertainties or major risk
exposures to adverse conditions.
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" or "BB-"
rating.
CCC: Debt rated "CCC" has a currently identifiable vulnerability to default, and
is dependent upon favorable business, financial, and economic conditions to meet
timely payment of interest and repayment of principal. In the event of adverse
business, financial or economic conditions, it is not likely to have the
capacity to pay interest and repay principal. The "C" rating category is also
used for debt subordinated to senior debt that is assigned an actual or implied
"B" or "B-" rating.
CC: The rating "CC" is typically applied to debt subordinated to senior debt
that is assigned an actual or implied "CCC" rating.
C: The rating "C" is typically applied to debt subordinated to senior debt which
is assigned an actual or implied "CCC-" debt rating. The "C" rating may be used
to cover a situation where a bankruptcy petition has been filed, but debt
service payments are continued.
C1: The rating "C1" is reserved for income bonds on which no interest is being
paid.
D: Debt rated "D" is in payment default. The "D" rating category is used when
interest payments or principal payments are not made on the date due even if the
applicable grace period has not expired, unless Standard & Poor's believes that
such payments will be made during such grace period. The "D" rating also will be
used upon the filing of a bankruptcy petition if debt service payments are
jeopardized.
PLUS (+) OR MINUS (-): The ratings from AA to CCC may be modified by the
addition of a plus or minus sign to show relative standing within the major
rating categories.
NR: Bonds may lack a Standard & Poor's rating because no public rating has been
requested, because there is insufficient information on which to base a rating,
or because S&P does not rate a particular type of obligation as a matter of
policy.
The Blanchard Group of Funds are available through Signet Financial Services,
Inc., member NASD, and are advised by an affiliate, Virtus Capital Management,
Inc., which is compensated for this service.
Investment products are not deposits, obligations of, or guaranteed by any bank.
They are not insured by the FDIC. They involve risk, including the possible loss
of principal invested.
The Blanchard Group of Funds are available through Signet Financial Servies,
Inc., member NASD, and are advised by an affiliate, Virtus Capital Management,
Inc., which is compensated for this service.
Investment products are not deposits, obligations of, or guaranteed by any bank.
They are not insured by the FDIC. They involve risk, including the possible loss
of principal invested.
B L A N C H A R D
(2414) 00/01/05/06/07PC0897
G01386-01 (11/97)
STATEMENT OF ADDITIONAL INFORMATION
BLANCHARD FLEXIBLE INCOME FUND
FEDERATED INVESTORS TOWER
PITTSBURGH, PA 15222-3779
This Statement is not a prospectus but should be read in conjunction with the
current prospectus dated November 30, 1997 (the "Prospectus"), pursuant to which
the Blanchard Flexible Income Fund (the "FUND") is offered. Please retain this
document for future reference.
To obtain the Prospectus please call the FUND at 1-800-829-3863.
TABLE OF CONTENTS Page
General Information and History 2
Investment Objective and Policies 2
Investment Restrictions 15
Portfolio Transactions 16
Computation of Net Asset Value 17
Performance Information 18
Additional Purchase and Redemption Information 20
Tax Matters 20
Blanchard Funds Management 25
Management Services 29
The Sub-Advisory Agreement 30
Custodian 31
Administrative Services 31
Purchasing Shares 32
Distribution Plan 32
Description of the FUND 32
Shareholder Reports 33
Manager
Virtus Capital Management, Inc.
Sub-Adviser
OFFITBANK
Distributor
Federated Securities Corp.
Custodian
Signet Trust Company
Transfer Agent
Federated Shareholder Services Company
Independent Accountants
Deloitte & Touche LLP
Dated: November 30, 1997
<PAGE>
GENERAL INFORMATION AND HISTORY
As described in the FUND's Prospectus, the FUND is a non-diversified
series of Blanchard Funds, a Massachusetts business trust that was organized
under the name "Blanchard Strategic Growth Fund" (the "Trust"). The trustees of
the Trust approved the change in the name of the Trust on December 4, 1990. The
FUND's investment objective is to provide high current income while seeking
opportunities for capital appreciation. There is no assurance that the FUND will
achieve its investment objective. This objective is a fundamental policy and may
not be changed except by a majority vote of shareholders.
INVESTMENT OBJECTIVE AND POLICIES
The following information supplements, and should be read in conjunction
with, the sections in the FUND's Prospectus entitled "Investment Objective and
Policies" and "Certain Investment Strategies and Policies."
The FUND intends to invest in the following fixed income securities
markets:
U.S. Government Securities. This consists of debt obligations of
the U.S. Government and its agencies and instrumentalities and
related options, futures and repurchase agreements.
Investment Grade Fixed Income Securities. This consists of
investment grade fixed income securities, including mortgage related
and asset backed securities.
High Yield Securities. This consists of higher yielding (and,
therefore, higher risk), lower rated U.S. corporate fixed income
securities.
International Fixed Income Securities. This consists of obligations
of foreign governments, their agencies and instrumentalities and
other fixed income securities denominated in foreign currencies or
composite currencies.
OFFITBANK, the FUND's portfolio adviser, believes that the ability to
invest the FUND's assets among these markets, as opposed to investing in any
one, may enable the FUND to enhance current income and increase opportunities
for capital appreciation while taking risk to principal into consideration. The
Fund may invest up to 35% of its assets in lower quality fixed income
securities. There is no limit on the percentage of FUND assets invested in any
of the fixed income markets except for High Yield Securities which is limited to
35%, and further limited to the extent of any lower quality fixed income
securities held in the International Fixed Income Securities portfolio. See
"Risk Factors - Lower Rated Fixed Income Securities" in the FUND's Prospectus.
At least 65% of the FUND's total assets generally will be invested in
income-producing securities; however, the FUND expects that substantially all of
its total assets will be invested in income-producing securities, together with
certain futures, options and foreign currency contracts and other investments
described below.
The investment objective of providing high current income while seeking
opportunities for capital appreciation is a fundamental policy and may not be
changed without the authorization of the holders of a majority of the
outstanding shares of the FUND, as defined in the Investment Company Act of
1940, as amended (the "1940 Act"). The other investment policies may be changed
with the approval of the FUND's Board of Trustees, except as set forth under
"Investment Restrictions" in this Statement of Additional Information.
U.S. GOVERNMENT SECURITIES
FUND assets invested in this market will be invested exclusively in U.S.
Government Securities and in options, futures contracts and repurchase
transactions with respect to such securities. As used in this Prospectus, the
term "U.S. Government Securities" refers to debt securities denominated in U.S.
dollars issued or guaranteed by the U.S. government, by various of its agencies,
or by various instrumentalities established or sponsored by the U.S. government.
Certain of these obligations including U.S. Treasury bills, notes and bonds,
mortgage participation certificates guaranteed by the Government National
Mortgage Association ("GNMA"), and Federal Housing Administration debentures,
are supported by the full faith and credit of the United States. Other U.S.
Government Securities issued or guaranteed by federal agencies or government
sponsored enterprises are not supported by the full faith and credit of the
United States. These securities include obligations supported by the right of
the issuer to
<PAGE>
borrow from the U.S. Treasury, such as obligations of Federal Home Loan Banks,
and obligations supported only by the credit of the instrumentality, such as
Federal National Mortgage Association Bonds. When purchasing securities in the
U.S. Government market, OFFITBANK may take full advantage of the entire range of
maturities of U.S. Government Securities and may adjust the average maturity of
the investments held in the portfolio from time to time, depending on its
assessment of relative yields of securities of different maturities and its
expectations of future changes in interest rates. To the extent that the FUND
invests in the mortgage market, OFFITBANK usually will evaluate, among other
things, relevant economic, environmental and security-specific variables such as
housing starts, coupon and age trends. To determine relative value among markets
OFFITBANK may use tools such as yield/duration curves, break-even prepayment
rate analysis and holding-period-return scenario testing.
The FUND may seek to increase its current income by writing covered call
or put options with respect to some or all of the U.S. Government Securities
held in its portfolio. In addition, the FUND may at times, through the writing
and purchase of options on U.S. Government Securities, and the purchase and sale
of futures contracts and related options with respect to U.S. Government
Securities, seek to reduce fluctuations in net asset value by hedging against a
decline in the value of U.S. Government Securities owned by the FUND or an
increase in the price of such Securities which the FUND plans to purchase,
although it is not the general practice to do so. Significant option writing
opportunities generally exist only with respect to longer term U.S. Government
Securities. Options on U.S. Government Securities and futures and related
options are not considered U.S. Government Securities; accordingly, they have a
different set of risks and features. These practices and related risks are
described in "Certain Investment Strategies and Policies" in the FUND's
Prospectus and in "Investment Objective and Policies" in this Statement of
Additional Information.
DESCRIPTION OF CERTAIN U.S. GOVERNMENT MORTGAGE-RELATED SECURITIES
GNMA CERTIFICATES
Government National Mortgage Association. The Government National Mortgage
Association is a wholly-owned corporate instrumentality of the United States
within the U.S. Department of Housing and Urban Development. GNMA's principal
programs involve its guarantees of privately issued securities backed by pools
of mortgages.
Nature of GNMA Certificates. GNMA Certificates are mortgage-backed
securities. The Certificates evidence part ownership of a pool of mortgage
loans. The Certificates which the FUND purchases are of the modified
pass-through type. Modified pass-through Certificates entitle the holder to
receive all interest and principal payments owed on the mortgage pool, net of
fees paid to the GNMA Certificate issuer and GNMA, regardless of whether or not
the mortgagor actually makes the payment.
GNMA Certificates are backed by mortgages and, unlike most bonds, their
principal amount is paid back by the borrower over the length of the loan rather
than in a lump sum at maturity. Principal payments received by the FUND will be
reinvested in additional GNMA Certificates or in other permissible investments.
GNMA Guarantee. The National Housing Act authorizes GNMA to guarantee the
timely payment of principal of and interest on securities backed by a pool of
mortgages insured by the Federal Housing Administration ("FHA") or the Farmers
Home Administration or guaranteed by the Veterans Administration ("VA"). The
GNMA guarantee is backed by the full faith and credit of the United States. GNMA
is also empowered to borrow without limitation from the U.S. Treasury if
necessary to make any payments required under its guarantee.
Life of GNMA Certificates. The average life of a GNMA Certificate is
likely to be substantially less than the original maturity of the mortgage pools
underlying the securities. Prepayments of principal by mortgagors and mortgage
foreclosures will result in the return of a portion of principal invested before
the maturity of the mortgages in the pool.
As prepayment rates of individual mortgage pools will vary widely, it is
not possible to predict accurately the average life of a particular issue of
GNMA Certificates. However, statistics published by the FHA are normally used as
an indicator of the expected average life of GNMA Certificates. These statistics
indicate that the average life of single-family dwelling mortgages with 25-30
year maturities (the type of mortgages backing the vast majority of GNMA
Certificates) is approximately twelve years. For this reason, it is customary
for pricing purposes to consider GNMA Certificates as 30-year mortgage-backed
securities which prepay fully in the twelfth year.
<PAGE>
Yield Characteristics of GNMA Certificates. The coupon rate of interest of
GNMA Certificates is lower than the interest rate paid on the VA-guaranteed or
FHA-insured mortgages underlying the Certificates, but only by the amount of the
fees paid to GNMA and the GNMA Certificate issuer. For the most common type of
mortgage pool, containing single-family dwelling mortgages, GNMA receives an
annual fee of 0.06 of one percent of the outstanding principal for providing its
guarantee, and the GNMA Certificate issuer is paid an annual servicing fee of
0.44 of one percent for assembling the mortgage pool and for passing through
monthly payments of interest and principal to Certificate holders.
The coupon rate by itself, however, does not indicate the yield which will
be earned on the Certificates for the following reasons:
1. Certificates are usually issued at a premium or discount, rather than
at par.
2. After issuance, Certificates usually trade in the secondary market at a
premium or discount.
3. Interest is paid monthly rather than semi-annually as is the case
for traditional bonds. Monthly compounding has the effect of raising
the effective yield earned on GNMA Certificates.
4. The actual yield of each GNMA Certificate is influenced by the
prepayment experience of the mortgage pool underlying the
Certificate. If mortgagors prepay their mortgages, the principal
returned to Certificate holders may be reinvested at higher or lower
rates.
In quoting yields for GNMA Certificates, the customary practice is to
assume that the Certificates will have a twelve-year life. Compared on this
basis, GNMA Certificates have historically yielded roughly 1/4 of one percent
more than high grade corporate bonds and 1/2 of one percent more than U.S.
Government and U.S. Government agency bonds. As the life of individual pools may
vary widely, however, the actual yield earned on any issue of GNMA Certificates
may differ significantly from the yield estimated on the assumption of a
twelve-year life.
Market for GNMA Certificates. Since the inception of the GNMA
mortgage-backed securities program in 1970, the amount of GNMA Certificates
outstanding has grown rapidly. The size of the market and the active
participation in the secondary market by securities dealers and many types of
investors make GNMA Certificates highly liquid instruments. Quotes for GNMA
Certificates are readily available from securities dealers and depend on, among
other things, the level of market rates, the Certificate's coupon rate and the
prepayment experience of the pool of mortgages backing each Certificate.
FNMA SECURITIES
The Federal National Mortgage Association ("FNMA") was established in 1938
to create a secondary market in mortgages insured by the FHA. FNMA issues
guaranteed mortgage pass-through certificates ("FNMA Certificates"). FNMA
Certificates resemble GNMA Certificates in that each FNMA Certificate represents
a pro rata share of all principal and interest payments made and owed on the
underlying pool. FNMA guarantees timely payment of interest and principal on
FNMA Certificates. The FNMA guarantee is not backed by the full faith and credit
of the United States.
FHLMC SECURITIES
The Federal Home Loan Mortgage Corporation ("FHLMC") was created in 1970
to promote development of a nationwide secondary market in conventional
residential mortgages. The FHLMC issues two types of mortgage pass-through
securities ("FHLMC Certificates"): mortgage participation certificates ("PCs")
and guaranteed mortgage certificates ("GMCs"). PCs resemble GNMA Certificates in
that each PC represents a pro rata share of all interest and principal payments
made and owned on the underlying pool. The FHLMC guarantees timely monthly
payment of interest on PCs and the ultimate payment of principal. GMCs also
represent a pro rata interest in a pool of mortgages. However, these instruments
pay interest semiannually and return principal once a year in guaranteed minimum
payments. The expected average life of these securities is approximately ten
years. The FHLMC guarantee is not backed by the full faith and credit of the
United States.
<PAGE>
SPECIAL CONSIDERATIONS
U.S. Government Securities are considered among the most creditworthy of
fixed income investments. Because of this added safety, the yields available
from U.S. Government Securities are generally lower than the yields available
from corporate debt securities. The values of U.S. Government Securities (like
those of fixed income securities generally) will change as interest rates
fluctuate. During periods of falling U.S. interest rates, the values of
outstanding long term U.S. Government Securities generally rise. Conversely,
during periods of rising interest rates, the values of such securities generally
decline. The magnitude of these fluctuations will generally be greater for
securities with longer maturities and the FUND expects that its portfolio of
U.S. Government Securities will be weighted towards the longer maturities at
least to the extent that it has written call options thereon. Although changes
in the value of U.S. Government securities will not affect investment income
from those securities, they will affect the FUND's net asset value.
INVESTMENT GRADE FIXED INCOME SECURITIES
The FUND may invest in other investment grade U.S. fixed income
securities. Such investments may include mortgage related securities that are
not U.S. Government Securities, asset backed securities and fixed income
securities rated Baa or higher by Moody's Investors Service, Inc. ("Moody's") or
BBB by Standard & Poor's Ratings Group ("Standard & Poor's"). Fixed income
securities rated Baa by Moody's or BBB by Standard & Poor's are considered
investment grade obligations which lack outstanding investment characteristics
and may have speculative characteristics as well. See Appendix A in the FUND's
Prospectus for the rating securities descriptions of these rating categories.
MORTGAGE RELATED SECURITIES
Mortgage-related securities issued by financial institutions (or separate
trusts or affiliates of such institutions), even where backed by U.S. Government
securities, are not considered U.S. Government Securities.
The mortgage pass-through market is marked by high liquidity and credit
quality. The primary risk that exists for mortgage pass-through securities is
interest rate risk. Changes in market yields will affect the value of these
securities as the price of fixed income securities generally increases when
interest rates decline and decreases when interest rates rise. Prices of longer
term securities generally increase or decrease more sharply than those of
shorter term securities in response to interest rate changes. In addition,
prepayment of principal on mortgage pass-through securities may make it
difficult to lock in interest rates for a fixed period of time. To the extent
that mortgage securities are purchased at prices that differ from par, these
prepayments (which are received at par) may make up a significant portion of the
pass-through total return. Generally, mortgage securities yield more than
treasury securities of the same average life.
COLLATERALIZED MORTGAGE OBLIGATIONS
Collateralized mortgage obligations are debt obligations issued generally
by finance subsidiaries or trusts which are secured by mortgage-backed
certificates, including GNMA Certificates, FHLMC Certificates and FNMA
Certificates, together with certain funds and other collateral. Scheduled
distributions on the mortgage-backed certificates pledged to secure the
collateralized mortgage obligations, together with certain funds and other
collateral and reinvestment income thereon at an assumed reinvestment rate, will
be sufficient to make timely payments of interest on the obligations and to
retire the obligations not later than their stated maturity. Since the rate of
payment of principal of any collateralized mortgage obligation will depend on
the rate of payment (including prepayments) of the principal of the mortgage
loans underlying the mortgage-backed certificates, the actual maturity of the
obligation could occur significantly earlier than its stated maturity.
Collateralized mortgage obligations may be subject to redemption under certain
circumstances. The rate of interest borne by collateralized mortgage obligations
may be either fixed or floating. In addition, certain collateralized mortgage
obligations do not bear interest and are sold at a substantial discount (i.e., a
price less than the principal amount). Purchases of collateralized mortgage
obligations at a substantial discount involves a risk that the anticipated yield
on the purchase may not be realized if the underlying mortgage loans prepay at a
slower than anticipated rate, since the yield depends significantly on the rate
of prepayment of the underlying mortgages. Conversely, purchases of
collateralized mortgage obligations at a premium involve additional risk of loss
of principal in the event of unanticipated prepayments of the mortgage loans
underlying the mortgage-backed certificates since the premium may not have been
fully amortized at the time the obligation is repaid. The market value of
collateralized mortgage obligations purchased at a substantial premium or
discount is extremely volatile and the effects of prepayments on the underlying
mortgage loans may increase such volatility.
<PAGE>
Although payment of the principal of and interest on the mortgage-backed
certificates pledged to secure collateralized mortgage obligations may be
guaranteed by GNMA, FHLMC or FNMA, the collateralized mortgage obligations
represent obligations solely of their issuers and are not insured or guaranteed
by GNMA, FHLMC, FNMA or any other governmental agency or instrumentality, or by
any other person or entity. The issuers of collateralized mortgage obligations
typically have no significant assets other than those pledged as collateral for
the obligations.
ASSET BACKED SECURITIES
In general, asset-backed securities in which the FUND may invest are
issued as debt securities by special purpose corporations. These securities
represent an undivided ownership interest in a pool of installment sales
contracts and installment loans collateralized by, among other things, credit
card receivables and automobiles. The FUND will invest in, to the extent
available, (i) loan pass-through certificates or participations representing an
undivided ownership interest in pools of installment sales contracts and
installment loans (the "Participations") and (ii) debt obligations issued by
special purpose corporations which hold subordinated equity interests in such
installment sales contracts and installment loans. The FUND anticipates that a
substantial portion of the asset backed securities in which it invests will
consist of the debt obligations of such special purpose corporations.
Asset-backed securities, in general, are of a shorter maturity (usually
five years) than most conventional mortgage-backed securities and historically
have been less likely to experience substantial prepayments. Furthermore, the
effect of prepayments on securities that have shorter maturities, such as
asset-backed securities, is much smaller than the effect of prepayments on
securities having longer maturities, such as mortgage-backed securities. The
yield characteristics of asset-backed securities differ from more traditional
debt securities in that interest and principal payments are paid more
frequently, usually monthly, and principal may be prepaid at any time. As a
result, if the FUND purchases an asset-backed security at a discount, similar to
conventional mortgage-backed securities, a prepayment rate that is faster than
expected will increase yield to maturity, while a prepayment rate that is slower
than expected will have the opposite effect of reducing yield to maturity.
Conversely, if the FUND purchases an asset-backed security at a premium, faster
than expected prepayments will reduce, while slower than expected prepayments
will increase, yield to maturity. Prepayments may result from a number of
factors, including trade-ins and liquidations due to default, as well as the
receipt of proceeds from physical damage, credit, life and disability insurance
policies. The rate of prepayments on asset-backed securities may also be
influenced by a variety of economic and social factors, including general
measures of consumer confidence; accordingly, from time to time, substantial
amounts of prepayments may be available for reinvestment by the FUND and will be
subject to the prevailing interest rates at the time of prepayment.
Asset-backed securities often contain elements of credit support to lessen
the effect of the potential failure by obligors to make timely payments on
underlying assets. Credit support falls into two categories: (i) liquidity
protection and (ii) protection against losses resulting from ultimate default by
an obligor on the underlying asset. Liquidity protection ensures that the pass
through of payments due on the installment sales contracts and installment loans
which comprise the underlying pool occurs in a timely fashion. Protection
against losses resulting from ultimate default enhances the likelihood of
ultimate payment of the obligations on at least a portion of the assets in the
pool. Such protection may be provided through guarantees, insurance policies or
letters of credit obtained by the issuer or sponsor from third parties; through
various means of structuring the transaction, or through a combination of such
approaches. The FUND will not pay any additional fees for such credit support.
However, the existence of credit support may increase the market price of the
security.
As with Mortgage-Related Securities, Asset-Backed Securities are often
backed by a pool of assets representing the obligations of a number of different
parties and use similar credit enhancement techniques.
Asset-Backed Securities do not have the benefit of the same security
interest in the related collateral as do Mortgage-Related Securities. Credit
card receivables are generally unsecured and the debtors are entitled to the
protection of a number of state and federal consumer credit laws, many of which
give such debtors the right to set off certain amounts owed on the credit cards,
thereby reducing the balance due. Most issuers of automobile receivables permit
the servicers to retain possession of the underlying obligations. If the
servicer were to sell these obligations to another party, there is a risk that
the purchaser would acquire an interest superior to that of the holders of the
related automobile receivables. In addition, because of the large number of
vehicles involved in a typical issuance and technical requirements under state
laws, the trustee for the holders of the automobile receivables may not have a
perfected security interest in all of the obligations backing such receivables.
Therefore, there is the possibility that recoveries on repossessed collateral
may not, in some cases, be available to support payments on these securities.
<PAGE>
HIGH YIELD SECURITIES
The FUND may invest up to (but not including) 35% (further limited to the
extent of any lower quality fixed income securities held in the International
Fixed Income Securities portfolio) of its assets in higher yielding (and,
therefore, higher risk), lower rated U.S. corporate fixed income securities,
including debt securities, (commonly referred to as "junk bonds") convertible
securities and preferred stocks and unrated corporate fixed income securities.
Investments in high-yield securities entail greater risks than those involved in
higher-rated securities.
Convertible securities are bonds, debentures, notes, preferred stock or
other securities which may be converted or exchanged by the holder into shares
of the underlying common stock at a stated exchange ratio. A convertible
security may also be subject to redemption by the issuer but only after a date
and under certain circumstances (including a specified price) established on
issue. Adjustable rate preferred stocks are preferred stocks which adjust their
dividend rates quarterly based on specified relationships to certain indexes of
U.S. Treasury Securities. The FUND may continue to hold securities obtained as a
result of the conversion of convertible securities held by the FUND when
OFFITBANK believes retaining such securities is consistent with the FUND's
investment objective.
Differing yields on fixed income securities of the same maturity are a
function of several factors, including the relative financial strength of the
issuers. Higher yields are generally available from securities in the lower
categories of recognized rating agencies, i.e., Ba or lower by Moody's or BB or
lower by Standard & Poor's. The FUND may invest in any security which is rated
by Moody's or by Standard & Poor's, or in any unrated security which OFFITBANK
determines is of suitable quality. Securities in the rating categories below Baa
as determined by Moody's and BBB as determined by Standard & Poor's are
considered to be of poor standing and predominantly speculative. The rating
services descriptions of these rating categories, including the speculative
characteristics of the lower categories, are set forth in Appendix A in the
FUND's Prospectus.
Securities ratings are based largely on the issuer's historical financial
information and the rating agencies' investment analysis at the time of rating.
The medium to lower-rated securities in which the FUND may invest tend to offer
higher yields than higher-rated securities with the same maturities because the
historical financial condition of the issuers of such securities may not be as
strong as that of other issuers. The rating assigned to any particular security,
however, is not necessarily a reflection of the issuer's current financial
condition, which may be better or worse than the rating would indicate. Although
OFFITBANK will consider security ratings when making investment decisions in the
High Yield market, it will perform its own investment analysis and will not rely
principally on the ratings assigned by the rating services. OFFITBANK's analysis
generally may include, among other things, consideration of the issuer's
experience and managerial strength, changing financial condition, borrowing
requirements or debt maturity schedules, and its responsiveness to changes in
business conditions and interest rates. It also considers relative values based
on anticipated cash flow, interest or dividend coverage, asset coverage and
earnings prospects.
HIGH YIELD SECURITIES - RISK FACTORS. High Yield Securities are subject to
certain risks that may not be present with investments in higher grade
securities. See the FUND's Prospectus for more information.
EFFECT OF INTEREST RATE AND ECONOMIC CHANGES. The prices of High Yield
Securities tend to be less sensitive to interest rate changes than higher-rated
investments, but may be more sensitive to adverse economic changes or individual
corporate developments. Periods of economic uncertainty and changes generally
result in increased volatility in the market prices and yields of High Yield
Securities and thus in the FUND's net asset value. A strong economic downturn or
a substantial period of rising interest rates could severely affect the market
for High Yield Securities. In these circumstances, highly leveraged companies
might have greater difficulty in making principal and interest payments, meeting
projected business goals, and obtaining additional financing. Thus, there could
be a higher incidence of default. This would affect the value of such securities
and thus the FUND's net asset value. Further, if the issuer of a security owned
by the FUND defaults, the FUND might incur additional expenses to seek recovery.
THE HIGH YIELD SECURITIES MARKET. The market for High Yield Securities has
expanded in recent years and is relatively new. This expanded market has not yet
completely weathered an economic downturn. A further economic downturn or an
increase in interest rates could have a negative effect on the High Yield
Securities market and on the market value of the High Yield Securities held by
the FUND, as well as on the ability of the issuers of such securities to repay
principal and interest on their borrowings.
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CREDIT RATINGS. The credit ratings issued by credit rating services may not
fully reflect the true risks of an investment. For example, credit ratings
typically evaluate the safety of principal and interest payments, not market
value risk, of High Yield Securities. Also, credit rating agencies may fail to
change on a timely basis a credit rating to reflect changes in economic or
company conditions that affect a security's market value.
LIQUIDITY AND VALUATION. Lower-rated bonds are typically traded among a smaller
number of broker-dealers than in a broad secondary market. Purchasers of High
Yield Securities tend to be institutions, rather than individuals, which is a
factor that further limits the secondary market. To the extent that no
established retail secondary market exists, many High Yield Securities may not
be as liquid as higher-grade bonds. A less active and thinner market for High
Yield Securities than that available for higher quality securities may result in
more volatile valuations of the FUND's holding and more difficulty in executing
trades at favorable prices during unsettled market conditions.
The ability of the FUND to value or sell High Yield Securities will be
adversely affected to the extent that such securities are thinly traded or
illiquid. During such periods, there may be less reliable objective information
available and thus the responsibility of the FUND's Board of Trustees to value
High Yield Securities becomes more difficult, with judgment playing a greater
role. Further, adverse publicity about the economy or a particular issuer may
adversely affect the public's perception of the value, and thus liquidity, of a
High Yield Security, whether or not such perceptions are based on a fundamental
analysis.
LEGISLATION. Provisions of the Revenue Reconciliation Act of 1989 limit a
corporate issuer's deduction for a portion of the original issue discount on
"high yield discount" obligations (including certain pay-in-kind securities).
This limitation could have a materially adverse impact on the market for certain
High Yield Securities. In addition, the Financial Institutions Reform, Recovery,
and Enforcement Act of 1989 requires savings associations to divest their
holdings of High Yield Securities before July 1, 1994. This requirement also
could have a materially adverse impact on the market for High Yield Securities.
From time to time, legislators and regulators have proposed other legislation
that would limit the use of high yield debt securities in leveraged buyouts,
mergers and acquisitions. It is not certain whether such proposals, which also
could adversely affect High Yield Securities, will be enacted into law.
INTERNATIONAL FIXED INCOME SECURITIES
FUND assets invested in International Fixed Income Securities will be
invested in debt obligations and other fixed income securities, in each case
denominated in non-U.S. currencies or composite currencies including:
debt obligations issued or guaranteed by foreign national, provincial,
state, municipal or other governments with taxing authority or by their
agencies or instrumentalities;
debt obligations of supranational entities (described below);
debt obligations of the U.S. Government issued in non-dollar securities; and
debt obligations and other fixed income securities of foreign and U.S.
corporate issuers (non-dollar denominated).
When investing in International Fixed Income Securities, the FUND is not
limited to purchasing debt securities rated at the time of purchase by Moody's
or Standard & Poor's. However, the FUND is limited to the extent that it may not
invest more than 35% of its assets in all lower quality fixed income securities
held by the FUND (by aggregating the value of all such securities held in the
High Yield Securities and the International Fixed Income Securities portfolios).
In making international fixed income securities investments, OFFITBANK may
consider, among other things, the relative growth and inflation rates of
different countries. OFFITBANK may also consider expected changes in foreign
currency exchange rates, including the prospects for central bank intervention,
in determining the anticipated returns of securities denominated in foreign
currencies. OFFITBANK may further evaluate, among other things, foreign yield
curves and regulatory and political factors, including the fiscal and monetary
policies of such countries.
The FUND may invest in any country where OFFITBANK sees potential for high
income. It presently expects to invest primarily in non-dollar denominated
securities of issuers in the industrialized Western European countries; in
Canada, Japan, Australia and New Zealand; and in Latin America. The FUND may
also invest up to 15% of its assets in the fixed income securities of issuers in
emerging market countries.
See the FUND's Prospectus for more information.
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The obligations of foreign governmental entities, including supranational
issuers, have various kinds of government support. Obligations of foreign
governmental entities include obligations issued or guaranteed by national,
provincial, state or other governments with taxing power or by their agencies.
These obligations may or may not be supported by the full faith and credit of a
foreign government.
Supranational entities include international organizations designated or
supported by governmental entities to promote economic reconstruction or
development and international banking institutions and related government
agencies. Examples include the International Bank for Reconstruction and
Development (the World Bank), the European Steel and Coal Community, the Asian
Development Bank and the Inter-American Development Bank. The governmental
agencies, or "stockholders," usually make initial capital contributions to the
supranational entity and in many cases are committed to making additional
capital contributions if the supranational entity is unable to repay its
borrowings. Each supranational entity's lending activities are limited to a
percentage of its total capital (including "callable capital" contributed by
members at the entity's call), reserves and net income.
RISK FACTORS
See "Risk Factors - Lower Rated Fixed Income Securities" and Appendix A in
the FUND's Prospectus for more information concerning the risks of investing in
lower quality fixed income securities.
Foreign investments involve certain risks that are not present in domestic
securities. Because the FUND intends to purchase securities denominated in
foreign currencies, a change in the value of any such currency against the U.S.
dollar will result in a corresponding change in the U.S. dollar value of the
FUND's assets and the FUND's income available for distribution. In addition,
although a portion of the FUND's investment income may be received or realized
in such currencies, the Internal Revenue Code of 1986 (the "Code") requires that
the FUND compute and distribute its income in U.S. dollars. Therefore, if the
exchange rate for any such currency declines after the FUND's income has been
earned and translated into U.S. dollars but before payment, the FUND could be
required to liquidate portfolio securities to make such distributions.
Similarly, if an exchange rate depreciates between the time the FUND incurs
expenses in U.S. dollars and the time such expenses are paid, the amount of such
currency required to be converted into U.S. dollars in order to pay such
expenses in U.S. dollars will be greater than the equivalent amount in any such
currency of such expenses at the time they were incurred. Under the Code,
changes in an exchange rate which occur between the time the FUND accrues
interest or other receivables or accrues expenses or other liabilities
denominated in a foreign currency and the time the FUND actually collects such
receivables or pays such liabilities will result in foreign exchange gains or
losses that increase or decrease distributable net investment income. Similarly,
dispositions of certain debt securities (by sale, at maturity or otherwise) at a
U.S. dollar amount which is higher or lower than the FUND's original U.S. dollar
cost may result in foreign exchange gains or losses, which will increase or
decrease distributable net investment income.
The values of foreign investments and the investment income derived from
them may also be affected unfavorably by changes in currency exchange control
regulations. Although the FUND will invest only in securities denominated in
foreign currencies that are fully exchangeable into U.S. dollars without legal
restriction at the time of investment, there is no assurance that currency
controls will not be imposed subsequently. In addition, the values of foreign
fixed income investments will fluctuate in response to changes in U.S. and
foreign interest rates.
There may be less information publicly available about a foreign issuer
than about a U.S. issuer, and foreign issuers are not generally subject to
accounting, auditing and financial reporting standards and practices comparable
to those in the United States. The securities of some foreign issuers are less
liquid and at times more volatile than securities of comparable U.S. issuers.
Foreign brokerage commissions, custodial expenses and other fees are also
generally higher than for securities traded in the United States.
In addition, with respect to certain foreign countries, there is a
possibility of expropriation of assets, confiscatory taxation, political or
financial instability and diplomatic developments which could adversely affect
the value of investments in those countries. OFFITBANK does not expect to invest
the FUND's assets in countries where it believes such events are likely to
occur.
Income received by the FUND from sources within foreign countries may be
reduced by withholding and other taxes imposed by such countries. Tax
conventions between certain countries and the United States may reduce or
eliminate such taxes. OFFITBANK will attempt to minimize such taxes by timing of
transactions and other strategies, but there is no assurance that such efforts
will be successful. Any such taxes paid by the FUND will reduce its net income
available for distribution to shareholders.
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The FUND is a "non-diversified" investment company portfolio, which means
that the FUND is not limited in the proportion of its assets that may be
invested in the securities of a single issuer. However, the FUND intends to
conduct its operations so as to qualify as a "regulated investment company" for
purposes of the Internal Revenue Code of 1986, as amended (the "Code"), which
will relieve the FUND of any liability for Federal income tax to the extent its
earnings are distributed to shareholders. See "Distributions and Taxes." To so
qualify, among other requirements, the FUND will limit its investments so that,
at the close of each calendar quarter, (i) not more than 25% of the market value
of the FUND's total assets will be invested in the securities of a single
issuer, and (ii) with respect to 50% of the market value of its total assets,
not more than 5% of the market value of its total assets will be invested in the
securities of a single issuer and the FUND will not own more than 10% of the
outstanding voting securities of a single issuer. For purposes of the FUND's
requirements to maintain diversification for tax purposes, the issuer of a loan
participation will be the underlying borrower. In cases where the FUND does not
have recourse directly against the borrower, both the borrower and each agent
bank and co-lender interposed between the FUND and the borrower will be deemed
issuers of the loan participation for tax diversification purposes. The FUND's
investments in U.S. Government Securities are not subject to these limitations.
Since the FUND as a non-diversified investment company may invest in a smaller
number of individual issuers than a diversified investment company, an
investment in the FUND may, under certain circumstances, present greater risk to
an investor than an investment in a diversified company.
FUTURES CONTRACTS
The FUND may enter into contracts for the purchase or sale for future
delivery of fixed-income securities or foreign currencies which otherwise meet
the FUND's investment policies, to the extent permitted by the Commodity Futures
Trading Commission (the "CFTC"). U.S. futures contracts have been designed by
exchanges which have been designated "contract markets" by the CFTC, and must be
executed through a futures commission merchant, or brokerage firm, which is a
member of the relevant contract market. Futures contracts trade on a number of
contract markets, and, through their clearing corporations, the exchanges
guarantee performance of the contracts as between the clearing members of the
exchange. The FUND will enter into futures contracts which are based on debt
securities that are backed by the full faith and credit of the U.S. Government,
such as Treasury Notes, Government National Mortgage Association modified
pass-through mortgage-backed securities and three-month U.S. Treasury Bills. The
FUND may also enter into futures contracts which are based on non-U.S.
Government bonds.
An interest rate futures contract provides for the future sale by one
party and the purchase by the other party of a certain amount of a specific,
interest rate-sensitive financial instrument (debt security) at a specified
price, date, time and place. A foreign currency futures contract provides for
the future sale by one party and the purchase by the other party of a certain
amount of a specified foreign currency at a specified price, date, time and
place.
The FUND may not enter into futures transactions if the sum of the amount
of initial margin deposits on its existing futures contracts and premiums paid
for unexpired options would exceed 5% of the fair market value of the FUND's
total assets, after taking into account unrealized profits and unrealized losses
on commodity contracts it has entered into. The FUND will not use leverage when
it enters into long futures or options contracts and for each such long position
the FUND will deposit cash or cash equivalents, such as U.S. Government
Securities or high grade debt obligations, having a value equal to the
underlying commodity value of the contract as collateral with its custodian in a
segregated account.
No consideration is paid or received by the FUND upon entering into a
futures contract. Upon entering into a futures contract, the FUND will be
required to deposit in a segregated account with its custodian an amount of cash
or cash equivalents, such as U.S. Government Securities or high grade debt
obligations, equal to approximately 1% to 10% of the contract amount (this
amount is subject to change by the exchange on which the contract is traded and
brokers may charge a higher amount). This amount is known as "initial margin"
and is in the nature of a performance bond or good faith deposit on the contract
which is returned to the FUND upon termination of the futures contract, assuming
all contractual obligations have been satisfied. The broker will have access to
amounts in the margin account if the FUND fails to meet its contractual
obligations. Subsequent payments, known as "variation margin," to and from the
broker, will be made daily as the price of the currency or securities underlying
the futures contract fluctuates, making the long and short positions in the
futures contract more or less valuable, a process known as "marking-to-market."
At any time prior to the expiration of a futures contract, the FUND may elect to
close the position by taking an opposite position, which will operate to
terminate the FUND's existing position in the contract.
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There are several risks in connection with the use of futures contracts.
Successful use of futures contracts is subject to the ability of FUND management
to predict correctly movements in the price of the securities or currencies
underlying the particular transaction. These predictions and, thus, the use of
futures contracts involve skills and techniques that are different from those
involved in the management of portfolio securities.
Positions in futures contracts and options on futures contracts may be
closed out only on the exchange on which they were entered into (or through a
linked exchange). No secondary market for such contracts exists. Although the
FUND intends to enter into futures contracts only if there is an active market
for such contracts, there is no assurance that an active market will exist for
the contracts at any particular time. Most futures exchanges limit the amount of
fluctuation permitted in futures contract prices during a single trading day.
Once the daily limit has been reached in a particular contract, no trades may be
made that day at a price beyond that limit. It is possible that futures contract
prices could move to the daily limit for several consecutive trading days with
little or no trading, thereby preventing prompt liquidation of futures positions
and subjecting the FUND to substantial losses. In such event, and in the event
of adverse price movements, the FUND would be required to make daily cash
payments of variation margin.
OPTIONS ON FUTURES CONTRACTS
The FUND may purchase and write put and call options on interest rate and
foreign currency contracts that are traded on a U.S. exchange or board of trade
or a foreign exchange, to the extent permitted by the CFTC, and may enter into
closing transactions with respect to such options to terminate existing
positions. There is no guarantee that such closing transactions can be effected.
An option on an interest rate or foreign currency contract, as contrasted
with the direct investment in such a contract, gives the purchaser the right, in
return for the premium paid, to assume a position in an interest rate or foreign
currency contract at a specified exercise price at any time prior to the
expiration date of the option. Options on interest rate futures contracts
currently available include those with respect to U.S. Treasury Bonds, U.S.
Treasury Notes, U.S. Treasury Bills and Eurodollars. Options on foreign currency
futures currently available include those with respect to British Pounds, Swiss
Francs, Japanese Yen, Canadian Dollars and Australian Dollars. Upon exercise of
an option, the delivery of the futures position by the writer of the option to
the holder of the option will be accompanied by delivery of the accumulated
balance in the writer's futures margin account, which represents the amount by
which the market price of the futures contracts exceeds, in the case of a call,
or is less than, in the case of a put, the exercise price of the option on the
futures contract. The potential loss related to the purchase of an option on
futures contracts is limited to the premium paid for the option (plus
transaction costs). Because the value of the option is fixed at the point of
sale, there are no daily cash payments to reflect changes in the value of the
underlying contract; however, the value of the option does change daily and that
change would be reflected in the net asset value of the FUND.
OPTIONS ON FOREIGN CURRENCIES
The FUND may purchase and write options on foreign currencies to increase
its gross income in a manner similar to that in which futures contracts on
foreign currencies, or forward contracts, will be utilized.
The FUND intends to write covered call options on foreign currencies. A
call option written on a foreign currency by the FUND is "covered" if the FUND
owns the underlying foreign currency covered by the call or has an absolute and
immediate right to acquire that foreign currency without additional cash
consideration (or for additional cash consideration held in a segregated account
by its Custodian or by a designated sub-custodian) upon conversion or exchange
of other foreign currency held in its portfolio. A call option is also covered
if the FUND has a call on the same foreign currency and in the same principal
amount as the call written where the exercise price of the call held (a) is
equal to or less than the exercise price or the call written or (b) is greater
than the exercise price of the call written if the difference is maintained by
the FUND in cash, U.S. Government Securities and other high grade liquid debt
securities in a segregated account with its Custodian or with a designated
sub-custodian. As a writer of a covered put option, the FUND incurs an
obligation to buy the security underlying the option from the purchaser of the
put, at the option's exercise price at any time during the option period, at the
purchaser's election
<PAGE>
(certain listed and over-the-counter put options written by the FUND will be
exercisable by the purchaser only on a specific date). A put is "covered" if, at
all times, the FUND maintains, in a segregated account maintained on its behalf
at the FUND's custodian, cash, U.S. Government securities or other high grade
obligations in an amount equal to at least the exercise price of the option, at
all times during the option period. Similarly, a short put position could be
covered by the FUND by its purchase of a put option on the same security
(currency) as the underlying security of the written option, where the exercise
price of the purchased option is equal to or more than the exercise price of the
put written or less than the exercise price of the put written if the marked to
market difference is maintained by the FUND in cash, U.S. Government securities
or other high grade debt obligations which the FUND holds in a segregated
account maintained at its custodian.
FORWARD CURRENCY CONTRACTS
The FUND may engage in currency exchange transactions as a portfolio
management technique. The FUND will conduct its currency exchange transactions
either on a spot (i.e., cash) basis at the rate prevailing in the currency
exchange market, or through entering into forward contracts to purchase or sell
currency. A forward currency contract involves an obligation to purchase or sell
a specific currency at a future date, which may be any fixed number of days from
the date of the contract agreed upon by the parties, at a price set at the time
of the contract.
If a devaluation is generally anticipated, the FUND may not be able to
contract to sell the currency at a price above the devaluation level it
anticipates. The FUND will not enter into a currency transaction if, as a
result, it will fail to qualify as a regulated investment company under the Code
for any given year.
OPTIONS ON PORTFOLIO SECURITIES
The FUND may write only covered call option contracts. Currently, the
principal exchanges on which such options may be written are the Chicago Board
Option Exchange and the American, Philadelphia, and Pacific Stock Exchanges. In
addition, the FUND may purchase and sell options in the over-the-counter market
("OTC Options"). A call option gives the purchaser of the option the right to
buy the underlying security from the writer at the exercise price at any time
prior to the expiration of the contract, regardless of the market price of the
security during the option period. The premium paid to the writer is the
consideration for undertaking the obligations under the option contract. The
writer forgoes the opportunity to profit from an increase in the market price of
the underlying security above the exercise price so long as the option remains
open and covered, except insofar as the premium represents such a profit.
The staff of the Securities and Exchange Commission (the "SEC") has taken
the position that purchased over-the-counter options and the assets used as
cover for written over-the-counter options are illiquid securities. The FUND
will write OTC Options only with primary U.S. Government Securities dealers
recognized by the Board of Governors of the Federal Reserve System or member
banks of the Federal Reserve System ("primary dealers"). The FUND may also
write, to the extent available, OTC Options with non-primary dealers, such as
foreign dealers; however, unlike OTC Options written with primary dealers, any
OTC Options written with such non-primary dealers and the assets used as cover
for such options will be treated as illiquid securities. In connection with
these special arrangements, the FUND intends to establish standards for the
creditworthiness of the primary and non-primary dealers with which it may enter
into OTC Option contracts and those standards, as modified from time to time,
will be implemented and monitored by the Manager. Under these special
arrangements, the FUND will enter into contracts with primary and non-primary
dealers which provide that the FUND has the absolute right to repurchase an
option it writes at any time at a repurchase price which represents the fair
market value, as determined in good faith through negotiation between the
parties, but which in no event will exceed a price determined pursuant to a
formula contained in the contract. Although the specific details of the formula
may vary between contracts with different primary and non-primary dealers, the
formula will generally be based on a multiple of the premium received by the
FUND for writing the option, plus the amount, if any, by which the option is
"in-the-money." The formula will also include a factor to account for the
difference between the price of the security and the strike price of the option
if the option is written "out-of-the-money." Under such circumstances, and with
respect to OTC Options written with primary dealers only, the FUND will treat as
illiquid that amount of the "cover" assets equal to the amount by which the
formula price for the repurchase of the option is greater than the amount by
which the market value of the security subject to the option exceeds the
exercise price of the option (the amount by which the option is "in-the-money").
Although each agreement will provide that the FUND's repurchase price shall be
determined in good faith (and that it shall not exceed the maximum determined
pursuant to the formula) the formula price will not necessarily reflect the
market value of the option written, therefore, the FUND might pay more to
repurchase the OTC Option contract than the FUND would pay to close out a
similar exchange traded option.
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In determining the FUND's net asset value, the current market value of any
option written by the FUND is subtracted from net asset value. If the current
market value of the option exceeds the premium received by the FUND, the excess
represents an unrealized loss, and, conversely, if the premium exceeds the
current market value of the option, such excess would be unrealized gain.
ADDITIONAL RISKS OF OPTIONS ON FUTURES CONTRACTS, FORWARD CONTRACTS AND
OPTIONS ON FOREIGN CURRENCIES
Unlike transactions entered into by the FUND in certain futures contracts,
certain other futures contracts, options on foreign currencies and forward
contracts are not traded on contract markets regulated by the CFTC and forward
currency contracts are not regulated by the Commission. Instead, forward
currency contracts are traded through financial institutions acting as
market-makers. Foreign currency options are traded on certain national
securities exchanges, such as the Philadelphia Stock Exchange and the Chicago
Board options Exchange, subject to regulation by the Commission. In the forward
currency market, there are no daily price fluctuation limits, and adverse market
movements could therefore continue to an unlimited extent over a period of time.
Moreover, a trader of forward contracts could lose amounts substantially in
excess of its initial investments, due to the collateral requirements associated
with such positions.
Options on foreign currencies traded on national securities exchanges are
within the jurisdiction of the Commission, as are other securities traded on
such exchanges. As a result, many of the protections provided to traders on
organized exchanges will be available with respect to such transactions. In
particular, all foreign currency option positions entered into on a national
securities exchange are cleared and guaranteed by the Options Clearing
Corporation (the "OCC"), thereby reducing the risk of counterparty default.
Further, a liquid secondary market in options traded on a national securities
exchange may exist, potentially permitting the FUND to liquidate open positions
at a profit prior to exercise or expiration, or to limit losses in the event of
adverse market movements.
The purchase and sale of exchange-traded foreign currency options,
however, are subject to the risks of the availability of a liquid secondary
market described above, as well as the risks regarding adverse market movements,
margining of options written, the nature of the foreign currency market,
possible intervention by governmental authorities and the effects of other
political and economic events. In addition, exercise and settlement of such
options must be made exclusively through the OCC, which has established banking
relationships in applicable foreign countries for this purpose. As a result, the
OCC may, if it determines that foreign governmental restrictions or taxes would
prevent the orderly settlement of foreign currency option exercises, or would
result in undue burdens on the OCC or its clearing member, impose special
procedures on exercise and settlement, such as technical changes in the
mechanics of delivery of currency, the fixing of dollar settlement prices or
prohibitions on exercise.
In addition, future contracts, options on futures contracts, forward
contracts and options on foreign currencies may be traded on foreign exchanges,
to the extent permitted by the CFTC. Such transactions are subject to the risk
of governmental actions affecting trading in or the prices of foreign currencies
or securities. The value of such positions also could be adversely affected by
(a) other complex foreign political and economic factors, (b) lesser
availability than in the United States of data on which to make trading
decisions, (c) delays in the FUND's ability to act upon economic events
occurring in foreign markets during nonbusiness hours in the United States and
the United Kingdom, (d) the imposition of different exercise and settlement
terms and procedures and margin requirements than in the United States, and (e)
lesser trading volume.
Pursuant to the sub-advisory agreement, OFFITBANK, where permitted by law,
will purchase and sell foreign exchange in the interbank dealer market for a fee
on behalf of the FUND, subject to certain procedures and reporting requirements
adopted by the Board of Trustees.
REPURCHASE AGREEMENTS
The FUND may enter into repurchase agreements. Under a repurchase
agreement, the FUND acquires a debt instrument for a relatively short period
(usually not more than one week) subject to the obligation of the seller to
repurchase and the FUND to resell such debt instrument at a fixed price. The
resale price is in excess of the purchase price in that it reflects an
agreed-upon market interest rate effective for the period of time during which
the FUND's money is invested. The FUND's risk is limited to the ability of the
seller to pay the agreed-upon sum upon the delivery date. When the FUND enters
into a repurchase agreement, it obtains collateral having a value at least equal
to the amount of the purchase price. Repurchase agreements can be considered
loans as defined by the
<PAGE>
Investment Company Act of 1940, as amended (the "1940 Act"), collateralized by
the underlying securities. The return on the collateral may be more or less than
that from the repurchase agreement. The securities underlying a repurchase
agreement will be marked to market every business day so that the value of the
collateral is at least equal to the value of the loan, including the accrued
interest earned. In evaluating whether to enter into a repurchase agreement,
OFFITBANK will carefully consider the creditworthiness of the seller. If the
seller defaults and the value of the collateral securing the repurchase
agreement declines, the FUND may incur a loss.
LENDING OF PORTFOLIO SECURITIES
In order to generate additional income, the FUND may lend its portfolio
securities in an amount up to 33-1/3% of total FUND assets to broker-dealers,
major banks, or other recognized domestic institutional borrowers of securities.
No lending may be made to any companies affiliated with VCM or OFFITBANK. The
borrower at all times during the loan must maintain with the FUND cash or cash
equivalent collateral or provide to the FUND an irrevocable letter of credit
equal in value at all times to at least 100% of the value of the securities
loaned. During the time portfolio securities are on loan, the borrower pays the
FUND any dividends or interest paid on such securities, and the FUND may invest
the cash collateral and earn additional income, or it may receive an agreed-upon
amount of interest income from the borrower who has delivered equivalent
collateral or a letter of credit. Loans are subject to termination at the option
of the FUND or the borrower at any time. The FUND may pay reasonable
administrative and custodial fees in connection with a loan and may pay a
negotiated portion of the income earned on the cash to the borrower or placing
broker.
ILLIQUID SECURITIES
The FUND has adopted the following investment policy, which may be changed
by the vote of the Board of Trustees. The FUND will not invest in illiquid
securities if immediately after such investment more than 10% of the FUND's
total assets (taken at market value) would be invested in such securities. For
this purpose, illiquid securities include (a) securities that are illiquid by
virtue of the absence of a readily available market or legal or contractual
restrictions on resale, (b) participation interests in loans that are not
subject to puts, (c) covered call options on portfolio securities written by the
FUND over-the-counter and the cover for such options and (d) repurchase
agreements not terminable within seven days.
Historically, illiquid securities have included securities subject to
contractual or legal restrictions on resale because they have not been
registered under the Securities Act of 1933, as amended ("Securities Act"),
securities that are otherwise not readily marketable and repurchase agreements
having a maturity of longer than seven days. Securities that have not been
registered under the Securities Act are referred to as private placements or
restricted securities and are purchased directly from the issuer or in the
secondary market. Mutual funds do not typically hold a significant amount of
these restricted or other illiquid securities because of the potential for
delays on resale and uncertainty in valuation. Limitations on resale may have an
adverse effect on the marketability of portfolio securities and a mutual fund
might be unable to dispose of restricted or other illiquid securities promptly
or at reasonable prices and might thereby experience difficulty satisfying
redemptions within seven days. A mutual fund might also have to register such
restricted securities in order to dispose of them resulting in additional
expense and delay. Adverse market conditions could impede such a public offering
of securities.
In recent years, however, a large institutional market has developed for
certain securities that are not registered under the Securities Act including
repurchase agreements, commercial paper, foreign securities, municipal
securities and corporate bonds and notes. Institutional investors depend on an
efficient institutional market in which the unregistered security can be readily
resold or on an issuer's ability to honor a demand for repayment. The fact that
there are contractual or legal restrictions on resale to the general public or
to certain institutions may not be indicative of the liquidity of such
investments.
The FUND may invest up to 10% of its total assets in restricted securities
issued under Section 4(2) of the Securities Act, which exempts from registration
"transactions by an issuer not involving any public offering." Section 4(2)
instruments are restricted in the sense that they can only be resold through the
issuing dealer and only to institutional investors; they cannot be resold to the
general public without registration.
<PAGE>
The SEC has adopted Rule 144A, which allows a broader institutional
trading market for securities otherwise subject to restriction on resale to the
general public. Rule 144A establishes a "safe harbor" from the registration
requirements of the Securities Act applicable to resales of certain securities
to qualified institutional buyers. FUND management anticipates that the market
for certain restricted securities such as institutional commercial paper will
expand further as a result of this new regulation and the development of
automated systems for the trading, clearance and settlement of unregistered
securities of domestic and foreign issuers, such as the PORTAL System sponsored
by the National Association of Securities Dealers, Inc. (the "NASD").
FUND management will monitor the liquidity of restricted securities in the
FUND's portfolio under the supervision of the FUND's Trustees. In reaching
liquidity decision, FUND management will consider, inter alia, the following
factors: (1) the frequency of trades and quotes for the security; (2) the number
of dealers wishing to purchase or sell the security and the number of other
potential purchasers; (3) dealer undertakings to make a market in the security
and (4) the nature of the security and the nature of the marketplace trades
(e.g., the time needed to dispose of the security, the method of soliciting
offers and the mechanics of the transfer).
INVESTMENT RESTRICTIONS
Investment restrictions are fundamental policies and cannot be changed
without approval of the holders of a majority (as defined in the 1940 Act) of
the outstanding shares of the FUND. As used in the Prospectus and the Statement
of Additional Information, the term "majority of the outstanding shares" of the
FUND means, respectively, the vote of the lesser of (i) 67% or more of the
shares of the FUND present at a meeting, if the holders of more than 50% of the
outstanding shares of the FUND are present or represented by proxy, or (ii) more
than 50% of the outstanding shares of the FUND. The following are the FUND's
investment restrictions set forth in their entirety.
1. The FUND, a non-diversified management investment company, has the
following restrictions: (a) with respect to 50% of the FUND's total
assets, the FUND may not invest more than 5% of its total assets, at
market value, in the securities of one issuer (except the securities of
the U.S. Government, its agencies and instrumentalities) and (b) with
respect to the other 50% of the FUND's total assets, the FUND may not
invest more than 25% of the market value of its total assets in a single
issuer (except the securities of the U.S. Government, its agencies and
instrumentalities). These two restrictions, hypothetically, could give
rise to the FUND having securities of as few as twelve issuers.
2. The FUND will not purchase a security if, as a result: (a) it would own
more than 10% of any class or of the outstanding voting securities of any
single company; (b) more than 5% of its total assets would be invested in
the securities of companies (including predecessors) that have been in
continuous operation for less than 3 years; (c) more than 25% of its total
assets would be concentrated in companies within any one industry other
than the banking industry (except that this restriction does not apply to
U.S. Government Securities); or (d) more than 5% of net assets would be
invested in warrants or rights. (Included within that amount, but not to
exceed 2% of the value of the FUND's net assets, may be warrants which are
not listed on the New York or American Stock Exchanges.)
3. The FUND may borrow money from a bank solely for temporary or emergency
purposes (but not in an amount equal to more than 20% of the market value
of its total assets). This does not preclude the FUND from obtaining such
short-term credit as may be necessary for the clearance of purchases and
sales of its portfolio securities. The FUND will not purchase additional
securities while the amount of any borrowings is in excess of 5% of the
market value of its total assets.
4. The FUND will not make loans of money or securities except (i) through
repurchase agreements, (ii) through loan participations, and (iii) through
the lending of its portfolio securities as described in "Lending of
Portfolio Securities" in the Prospectus and in this Statement.
5. The FUND may not invest more than 5% of its total assets in the
securities of other investment companies or purchase more than 3% of any
other investment company's voting securities, except as they may be
acquired as part of a merger, consolidation or acquisition of assets.
6. The FUND may not pledge, mortgage or hypothecate its assets, except
that to secure borrowings permitted by Restriction 3 above. The FUND may
pledge securities having a value at the time of pledge not exceeding 10%
of the market value of the FUND's total assets.
<PAGE>
7. The FUND may not buy any securities or other property on margin (except
for such short term credits as are necessary for the clearance of
transactions) or engage in short sales.
8. The FUND may not invest in companies for the purpose of exercising
control or management.
9. The FUND may not underwrite securities issued by others except to the
extent that the FUND may be deemed an underwriter when purchasing or
selling portfolio securities.
10. The FUND may not purchase or retain securities of any issuer (other
than the shares of the FUND) if to the FUND's knowledge, those officers
and Trustees of the FUND and the officers and directors of VCM or
OFFITBANK, who individually own beneficially more than 1/2 of 1% of the
outstanding securities of such issuer, together own beneficially more than
5% of such outstanding securities.
11. The FUND may not purchase or sell real property (including limited
partnership interests, but excluding readily marketable interests in real
estate investment trusts or readily marketable securities of companies
which invest in real estate).
12. The FUND may not invest directly in oil, gas, or other mineral
exploration or development programs or leases.
13. The FUND may not issue senior securities.
In order to permit the sale of shares of the FUND in certain states, the
FUND may make commitments more restrictive than the restrictions described
above. Should the FUND determine that any such commitment is no longer in the
best interests of the FUND and its shareholders it will revoke the commitment by
terminating sales of its shares in the state(s) involved.
Percentage restrictions apply at the time of acquisition and any
subsequent change in percentages due to changes in market value of portfolio
securities or other changes in total assets will not be considered a violation
of such restrictions.
PORTFOLIO TRANSACTIONS
All orders for the purchase or sale of portfolio securities are placed on
behalf of the FUND by the Portfolio Manager subject to the supervision of VCM
and the Trustees and pursuant to authority contained in the Investment Advisory
Contract between the FUND and VCM, and the Sub-Advisory Agreement between VCM
and OFFITBANK. In selecting such brokers or dealers, OFFITBANK will consider
various relevant factors, including, but not limited to the best net price
available, the size and type of the transaction, the nature and character of the
markets for the security to be purchased or sold, the execution efficiency,
settlement capability, financial condition of the broker-dealer firm, the
broker-dealer's execution services rendered on a continuing basis and the
reasonableness of any commissions.
In addition to meeting the primary requirements of execution and price,
brokers or dealers may be selected who provide research services, or statistical
material or other services to the FUND or to OFFITBANK for the FUND's use, which
in the opinion of the Trustees, are reasonable and necessary to the FUND's
normal operations. Those services may include economic studies, industry
studies, security analysis or reports, sales literature and statistical services
furnished either directly to the FUND or to OFFITBANK. Such allocation shall be
in such amounts as VCM or OFFITBANK shall determine and OFFITBANK shall report
regularly to VCM who will in turn report to the Trustees on the allocation of
brokerage for such services.
The receipt of research from broker-dealers may be useful to OFFITBANK in
rendering investment management services to its other clients, and conversely,
such information provided by brokers or dealers who have executed orders on
behalf of OFFITBANK's other clients may be useful to OFFITBANK in carrying out
its obligations to the FUND. The receipt of such research may not reduce
OFFITBANK's normal independent research activities.
<PAGE>
OFFITBANK is authorized, subject to best price and execution, to place
portfolio transactions with brokerage firms that have provided assistance in the
distribution of shares of the FUND and are authorized to use Federated
Securities Corp. (the "Distributor"), and OFFITBANK or an affiliated
broker-dealer on an agency basis, to effect a substantial amount of the
portfolio transactions which are executed on the New York or American Stock
Exchanges, Regional Exchanges and Foreign Exchanges where relevant, or which are
traded in the Over-the-Counter market. Any profits resulting from portfolio
transactions earned by the Distributor as a result of FUND transactions will
accrue to the benefit of the shareholders of the Distributor who are also
shareholders of VCM. The Investment Advisory Contract does not provide for any
reduction in the advisory fee as a result of profits resulting from brokerage
commissions effected through the Distributor. In addition, the Sub-Advisory
Agreement between VCM and OFFITBANK does not provide for any reduction in the
advisory fees as a result of profits resulting from portfolio transactions
effected through OFFITBANK or an affiliated brokerage firm. For the fiscal year
ended September 30, 1997, and for the period from May 1, 1996 through September
30, 1996, the FUND paid no brokerage commissions. For the fiscal years ended
April 30, 1996, 1995 and 1994, the FUND paid no brokerage commissions.
The Trustees have adopted certain procedures incorporating the standards
of Rule 17e-1 issued under the 1940 Act which requires that the commissions paid
to the Distributor or to OFFITBANK or an affiliated broker-dealer must be
"reasonable and fair compared to the commission, fee or other remuneration
received or to be received by other brokers in connection with comparable
transactions involving similar securities during a comparable period of time."
The Rule and the procedures also contain review requirements and require VCM to
furnish reports to the Trustees and to maintain records in connection with such
reviews.
Brokers or dealers who execute portfolio transactions on behalf of the
FUND may receive commissions which are in excess of the amount of commissions
which other brokers or dealers would have charged for effecting such
transactions provided, VCM determines in good faith that such commissions are
reasonable in relation to the value of the brokerage and/or research services
provided by such executing brokers or dealers viewed in terms of a particular
transaction or VCM's overall responsibilities to the FUND.
It may happen that the same security will be held by other clients of VCM
or of OFFITBANK. When the other clients are simultaneously engaged in the
purchase or sale of the same security, the prices and amounts will be allocated
in accordance with a formula considered by VCM to be equitable to each, taking
into consideration such factors as size of account, concentration of holdings,
investment objectives, tax status, cash availability, purchase cost, holding
period and other pertinent factors relative to each account. In some cases this
system could have a detrimental effect on the price or volume of the security as
far as the FUND is concerned. In other cases, however, the ability of the FUND
to participate in volume transactions will produce better executions for the
FUND.
For the fiscal year ended September 30, 1997, and for the period from May
1, 1996 through September 30, 1996, and for the fiscal years ended April 30,
1996 and 1995, the FUND's annual rates of portfolio turnover were approximately
101%, 87%, 347% and 455%, respectively.
COMPUTATION OF NET ASSET VALUE
The net asset value of the FUND is determined at 4:00 p.m. (Eastern Time)
on each day that the New York Stock Exchange is open for business and on such
other days as there is sufficient trading in the FUND's securities to affect
materially the net asset value per share of the FUND. The FUND will be closed on
New Year's Day, Martin Luther King Day, Presidents' Day, Good Friday, Memorial
Day, Independence Day, Labor Day, Thanksgiving Day, and Christmas Day.
DETERMINING MARKET VALUE OF SECURITIES
Market or fair values of the FUND's portfolio securities are determined as
follows:
o according to the last reported sales price on a recognized
securities exchange, if available. (If a security is traded on more
than one exchange, the price on the primary market for that
security, as determined by the Adviser or sub-adviser, is used.);
o according to the last reported bid price, if no sale on the
recognized exchange is reported or if the security is traded
over-the-counter;
o for short-term obligations, according to the prices furnished by an
independent pricing service, except that short-term obligations with
remaining maturities of 60 days or less at the time of purchase, may
be valued at amortized cost; or
o 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 and may consider: institutional trading in
similar groups of securities; yield; quality ; coupon rate; maturity; type of
issue; trading characteristics; and other market data.
The FUND will value futures contracts, options and put options on futures
at their market values established by the exchanges at the close of option
trading on such exchanges unless the Board of Trustees determine in good faith
that another method of valuing options positions is necessary to appraise their
fair value. Over-the-counter put options will be valued at the mean between the
bid and asked prices.
TRADING IN FOREIGN SECURITIES
Trading in foreign securities may be completed at times which vary from
the closing of the New York Stock Exchange. In computing the net asset value,
the FUND values foreign securities at the latest closing price on the exchange
on which they are traded immediately prior to the closing of the New York Stock
Exchange. Certain foreign currency exchange rates are determined when such rates
are made available to the FUND at times prior to the close of the New York Stock
Exchange. Foreign securities quoted in foreign currencies are translated into U.
S. dollars at current rates. Occasionally, events that affect these values and
exchange rates may occur between the times at which they are determined and the
closing of the New York Stock Exchange. If such events materially affect the
value of portfolio securities, these securities may be valued at their fair
value as determined in good faith by the Trustees, although the actual
calculation may be done by others.
PERFORMANCE INFORMATION
For purposes of quoting and comparing the performance of the FUND to that
of other mutual funds and to stock or other relevant indices in advertisements
or in reports to Shareholders, performance will be stated both in terms of total
return and in terms of yield. The total return basis combines principal and
dividend income changes for the periods shown. Principal changes are based on
the difference between the beginning and closing net asset values for the period
and assume reinvestment of dividends and distributions paid by the FUND.
Dividends and distributions are comprised of net investment income and net
realized capital gains. Under the rules of the Commission, funds advertising
performance must include total return quotes calculated according to the
following formula:
P(1 + T)n = ERV
Where P = a hypothetical initial payment of $1,000
T = average annual total return
n = number of years (1, 5 or 10)
ERV = ending redeemable value of a hypothetical $1,000
payment made at the beginning of the 1, 5 or 10
year periods or at the end of the 1, 5 or 10 year
periods (or fractional portion thereof)
Under the foregoing formula the time periods used in advertising will be
based on rolling calendar quarters, updated to the last day of the most recent
quarter prior to submission of the advertising for publication, and will cover
one, five, and ten year periods or a shorter period dating from the
effectiveness of the FUND's registration statement. In calculating the ending
redeemable value, the pro rata share of the account opening fee is deducted from
the initial $1,000 investment and all dividends and distributions by the FUND
are assumed to have been reinvested at net asset value as described in the
prospectus on the reinvestment dates during the period. Total return, or "T" in
the formula above, is computed by finding the average annual compounded rates of
return over the 1, 5 and 10 year periods (or fractional portion thereof) that
would equate the initial amount invested to the ending redeemable value.
The FUND's aggregate annualized total rate of return, reflecting the
initial investment and reinvestment of all dividends and distributions for the
fiscal year ended September 30, 1997, and the period from May 1, 1996 through
September 30, 1996 was 9.53% and 3.95%, respectively. For the fiscal year ended
April 30, 1996 and since inception (November 2, 1992 through September 30, 1997)
the FUND's aggregate annualized total rates of return were 8.06% and 7.25%,
respectively.
The FUND may also from time to time include in such advertising a total
return figure that is not calculated according to the formula set forth above in
order to compare more accurately the FUND's performance with other measures of
investment return. For example, in comparing the FUND's total return with data
published by Lipper Analytical Services, Inc. or similar independent services or
financial publications, the FUND calculates its aggregate total return for the
specified periods of time by assuming the reinvestment of each dividend or other
distribution at net asset value on the reinvestment date. Percentage increases
are determined by subtracting the initial net asset value of the investment from
the ending net asset value and by dividing the remainder by the beginning net
asset value. The FUND does not, for these purposes, deduct the pro rata share of
the account opening fee which was in effect from November 2, 1992 to December,
1994 from the initial value invested. The FUND will, however, disclose the pro
rata share of the account opening fee and will disclose that the performance
data does not reflect such non-recurring charge and that inclusion of such
charge would reduce the performance quoted. Such alternative total return
information will be given no greater prominence in such advertising than the
information prescribed under the Commission's rules.
In addition to the total return quotations discussed above, the FUND may
advertise its yield based on a 30-day (or one month) period ended on the date of
the most recent balance sheet included in the FUND's Post-Effective Amendment to
its Registration Statement, computed by dividing the net investment income per
share earned during the period by the maximum offering price per share on the
last day of the period, according to the following formula:
YIELD 2[(a-b +1)6-1]
cd
Where: a = dividends and interest earned during the period.
b = expenses accrued for the period (net of reimbursements).
c = the average daily number of shares outstanding during the
period that were entitled to receive dividends.
d = the maximum offering price per share on the last day of
the period.
Under this formula, interest earned on debt obligations for purposes of
"all above, is calculated by (1) computing the yield to maturity of each
obligation held by the FUND based on the market value of the obligation
(including actual accrued interest) at the close of business on the last day of
each month, or, with respect to obligations purchased during the month, the
purchase price (plus actual accrued interest), (2) dividing that figure by 360
and multiplying the quotient by the market value of the obligation (including
actual accrued interest as referred to above) to determine the interest income
on the obligation for each day of the subsequent month that the obligation is in
the FUND's portfolio (assuming a month of 30 days) and (3) computing the total
of the interest earned on all debt obligations and all dividends accrued on all
equity securities during the 30-day or one month period. In computing dividends
accrued, dividend income is recognized by accruing 1/360 of the stated dividend
rate of a security each day that the security is in the FUND's portfolio. For
purposes of "b" above, Rule 12b-1 expenses are included among the expenses
accrued for the period. Any amounts representing sales charges will not be
included among these expenses; however, the FUND will disclose the pro rata
share of the account opening fee. Undeclared earned income, computed in
accordance with generally accepted accounting principles, may be subtracted from
the maximum offering price calculation required pursuant to "d" above.
Any quotation of performance stated in terms of yield will be given no
greater prominence than the information prescribed under the Commission's rules.
In addition, all advertisements containing performance data of any kind will
include a legend disclosing that such performance data represents past
performance and that the investment return and principal value of an investment
will fluctuate so that an investor's shares, when redeemed, may be worth more or
less than their original cost.
The FUND's yield for the 30-day period ended September 30, 1997, was 6.06%.
ADDITIONAL PURCHASE AND REDEMPTION INFORMATION
The FUND reserves the right to close an account that has dropped below
$1,000 in value for a period of three months or longer other than as a result of
a decline in the net asset value per share. Shareholders are notified at least
60 days prior to any proposed redemption and are invited to add to their account
if they wish to continue as shareholders of the FUND, however, the FUND does not
presently contemplate making such redemptions and the FUND will not redeem any
shares held in tax-sheltered retirement plans.
The FUND has elected to be governed by Rule 18f-1 of the 1940 Act, under
which the FUND is obligated to redeem the shares of any shareholder solely in
cash up to the lesser of 1% of the net asset value of the FUND or $250,000
during any 90-day period. Should any shareholder's redemption exceed this
limitation, the FUND can, at its sole option, redeem the excess in cash or in
portfolio securities. Such securities would be selected solely by the FUND and
valued as in computing net asset value. In these circumstances a shareholder
selling such securities would probably incur a brokerage charge and there can be
no assurance that the price realized by a shareholder upon the sale of such
securities will not be less than the value used in computing net asset value for
the purpose of such redemption.
TAX MATTERS
The following is only a summary of certain additional tax considerations
generally affecting the FUND and its shareholders that are not described in the
Prospectus. No attempt is made to present a detailed explanation of the tax
treatment of the FUND or its shareholders, and the discussion here and in the
Prospectus is not intended as a substitute for careful tax planning.
QUALIFICATION AS A REGULATED INVESTMENT COMPANY
The FUND has elected to be taxed as a regulated investment company under
Subchapter M of the Internal Revenue Code of 1986, as amended (the "Code"). As a
regulated investment company, the FUND is not subject to Federal income tax on
the portion of its net investment income (i.e., taxable interest, dividends and
other taxable ordinary income, net of expenses, including foreign currency gains
and loss) and capital gain net income (i.e., the excess of capital gains over
capital losses) that it distributes to shareholders, provided that it
distributes at least 90% of its investment company taxable income (i.e., net
investment income and the excess of net short-term capital gain over net
long-term capital loss) for the taxable year (the "Distribution Requirement"),
and satisfies certain other requirements of the Code that are described below.
Please note that the below-listed and defined "Short-Short Gain Test" has been
repealed pursuant to the Taxpayer Relief Act of 1997, effective for taxable
years beginning after the date of enactment. For purposes of the FUND, the
effective date of the repeal will be October 1, 1997. Distributions by the FUND
made during the taxable year or, under specified circumstances, within twelve
months after the close of the taxable year, will be considered distributions of
income and gains of the taxable year and can therefore satisfy the Distribution
Requirement.
In addition to satisfying the Distribution Requirement, a regulated
investment company must (1) derive at least 90% of its gross income from
dividends, interest, certain payments with respect to securities loans, gains
from the sale or other disposition of stock or securities or foreign currencies
(to the extent such currency gains are directly related to the regulated
investment company's principal business of investing in stock or securities) and
other income (including but not limited to gains from options, futures or
forward contracts) derived with respect to its business of investing in such
stock, securities or currencies (the "Income Requirement"); and (2) derive less
than 30% of its gross income (exclusive of certain gains on designated hedging
transactions that are offset by realized or unrealized losses on offsetting
positions) from the sale or other disposition of stock, securities or foreign
currencies (or options, futures or forward contracts thereon) held for less than
three months (the "Short-Short Gain Test"). For purposes of this calculations,
gross income includes tax-exempt income. However, foreign currency gains,
including those derived from options, futures and forwards, will not in any
event be characterized as Short-Short Gain if they are directly related to the
regulated investment company's investments in stock or securities (or options or
futures thereon). Because of the Short-Short Gain Test, the FUND may have to
limit the sale of appreciated securities that it has held for less than three
months. However, the Short-Short Gain Test will not prevent the FUND from
disposing of investments at a loss, since the recognition of a loss before the
expiration of the three-month holding period is disregarded for this purpose.
Interest (including original issue discount) received for this purpose by the
FUND at maturity or upon the disposition of a security held for less than three
months will not be treated as gross income derived from the sale or other
disposition of such security within the meaning of the Short-Short Gain Test.
However, income attributable to realized market appreciation will be treated as
gross income from the sale or other disposition of securities for this purpose.
In general, gain or loss recognized by the FUND on the disposition of an
asset will be a capital gain or loss. However, gain recognized on the
disposition of a debt obligation purchased by the FUND at a market discount
(generally, at a price less than its principal amount) will be treated as
ordinary income to the extent of the portion of the market discount which
accrued while the FUND held the debt obligation. In addition, under the rules of
Code Section 988, gain or loss recognized on the disposition of a debt
obligation denominated in a foreign currency or an option with respect thereto
(but only to the extent attributable to changes in foreign currency exchange
rates), and gain or loss recognized on the disposition of a forward foreign
currency contract, futures contract, option or similar financial instrument, or
of foreign currency itself, except for regulated futures contracts or non-equity
options subject to Section 1256, will generally be treated as ordinary income or
loss. At September 30, 1997, the FUND had capital loss carryovers of $12,071,274
which is available through 2002, $3,223,064 which is available through 2003, and
$1,335,786 which is available through 2004 to the extent provided by
regulations.
Generally, for purposes of determining whether capital gain or loss
recognized by the FUND on the disposition of an asset is long-term or
short-term, the holding period of the asset may be affected if (i) the asset is
used to close a "short sale" (which includes for certain purposes the
acquisition of a put option) or is substantially identical to another asset so
used, (ii) the asset is otherwise held by the FUND as part of a "straddle"
(which term generally excludes a situation where the asset is stock and the FUND
grants a qualified covered call option (which, among other things, must not be
deep-in-the-money) with respect thereto) or (iii) the asset is stock and the
FUND grants an in-the-money qualified covered call option with respect thereto.
However, for purposes of the Short-Short Gain Test, the holding period of the
asset disposed of may be reduced only in the case of clause (i) above. In
addition, the FUND may be required to defer the recognition of a loss on the
disposition of an asset held as part of a straddle to the extent of any
unrecognized gain on the offsetting position.
Any gain recognized by the FUND on the lapse of, or any gain or loss
recognized by the FUND from a closing transaction with respect to, an option
written by the FUND will be treated as a short-term capital gain or loss. For
purposes of the Short-Short Gain Test, the holding period of an option written
by the FUND will commence on the date it is written and end on the date it
lapses or the date a closing transaction is entered into. Accordingly, the FUND
may be limited in its ability to write options which expire within three months
and to enter into closing transactions at a gain within three months of the
writing of options.
Certain transactions that may be engaged in by the FUND (such as futures
contracts, certain foreign currency contracts, and options on stock indexes and
futures contracts) will be subject to special tax treatment as "Section 1256
contracts." Section 1256 contracts are treated as if they are sold for their
fair market value on the last business day of the taxable year, even though a
taxpayer's obligations (or rights) under such contract have not terminated (by
delivery, exercise, entering into a closing transaction or otherwise) as of such
date. Any gain or loss recognized as a consequence of the year-end deemed
disposition of Section 1256 contracts is combined with any other gain or loss
that was previously recognized upon the termination of Section 1256 contracts
during that taxable year. The net amount of such gain or loss for the entire
taxable year (including gain or loss arising as a consequence of the year-end
deemed sale of such contracts) is treated as 60% long-term capital gain or loss
and 40% short-term capital gain or loss (except for Section 1256 forward foreign
currency contracts, which are subject to Section 988 Rules). The Internal
Revenue Service has held in several private rulings (not necessarily applicable
to the FUND) that gains arising from Section 1256 contracts will be treated for
purposes of the Short-Short Gain Test as being derived from securities held for
not less than three months if the gains arise as a result of a constructive sale
under Code Section 1256. The FUND may elect not to have this special tax
treatment apply to Section 1256 contracts that are part of a "mixed straddle"
with other investments of the FUND that are not Section 1256 contracts.
Treasury Regulations permit a regulated investment company, in determining
its investment company taxable income and net capital gain (i.e., the excess of
net long-term capital gain over net short-term capital loss) for any taxable
year, to elect (unless it has made a taxable year election for excise tax
purposes as discussed below) to treat all or any part of any net capital loss,
any net long-term capital loss, or any net foreign currency loss incurred after
October 31 as if they had been incurred in the succeeding year.
In addition to satisfying the requirements described above, the fund must
satisfy an asset diversification test in order to qualify as a regulated
investment company. Under this test, at the close of each quarter of its taxable
year, at least 50% of the value of the FUND's assets must consist of cash and
cash items, U.S. Government securities, securities of other regulated investment
companies, and securities of other issuers (as to which the FUND has not
invested more than 5% of the value of the FUND's total assets in securities of
such issuer and as to which the FUND does not hold more than 10% of the
outstanding voting securities of such issuer), and no more than 25% of the value
of its total assets may be invested in the securities of any one issuer (other
than U.S. Government securities and securities of other regulated investment
companies), or in two or more issuers which the FUND controls and which are
engaged in the same or similar trades or businesses.
If for any taxable year the FUND does not qualify as a regulated
investment company, all of its taxable income (including its net capital gain)
will he subject to tax at regular corporate rates without any deduction for
distributions to shareholders, and such distributions will be taxable as
ordinary dividends to the extent of the FUND's current and accumulated earnings
and profits.
EXCISE TAX ON REGULATED INVESTMENT COMPANIES
A 4% non-deductible excise tax is imposed on a regulated investment
company that fails to distribute in each calendar year an amount equal to 98% of
ordinary taxable income for the calendar year and 98% of capital gain net income
for the one-year period ended on October 31 of such calendar year (or, at the
election of a regulated investment company having a taxable year ending November
30 or December 31, for its taxable year (a "taxable year election"). The balance
of such income must be distributed during the next calendar year. For the
foregoing purposes, a regulated investment company is treated as having
distributed any amount on which it is subject to income tax for any taxable year
ending in such calendar year.
For purposes of the excise tax, a regulated investment company shall (1)
reduce its capital gain net income (but not below its net capital gain) by the
amount of any net ordinary loss for the calendar year and (2) unless it has made
a taxable year election, exclude foreign currency gains and losses incurred
after October 31 of any year in determining the amount of ordinary taxable
income for the current calendar year (and, instead, include such gains and
losses in determining ordinary taxable income for the succeeding calendar year).
The FUND intends to make sufficient distributions or deemed distributions
of its ordinary taxable income and capital gain net income prior to the end of
each calendar year to avoid liability for the excise tax. However, investors
should note that the FUND may in certain circumstances be required to liquidate
portfolio investments to make sufficient distributions to avoid excise tax
liability.
FUND DISTRIBUTIONS
The FUND anticipates distributing substantially all of its investment
company taxable income for each taxable year. Such distributions will be taxable
to shareholders as ordinary income and treated as dividends for Federal income
tax purposes, but they will not qualify for the 70% dividends-received deduction
for corporations.
The FUND may either retain or distribute to shareholders its net capital
gain for each taxable year. The FUND currently intends to distribute any such
amounts. Net capital gain distributed and designated as a capital gain dividend
will be taxable to shareholders as long-term capital gain, regardless of the
length of time the shareholder has held his shares or whether such gain was
recognized by the FUND prior to the date on which the shareholder acquired his
shares.
<PAGE>
Investment income that may be received by the FUND from sources within
foreign countries may be subject to foreign taxes withheld at the source. The
United States has entered into tax treaties with many foreign countries which
entitle the FUND to a reduced rate of, or exemption from, taxes on such income.
It is impossible to determine the effective rate of foreign tax in advance since
the amount of the FUND's assets to be invested in various countries is not
known. If more than 50% of the value of the FUND's total assets at the close of
its taxable year consists of the stock or securities of foreign corporations,
the FUND may elect to "pass through" to the FUND's shareholders the amount of
foreign taxes paid by the FUND. If the FUND so elects, each shareholder would be
required to include in gross income, even though not actually received, its pro
rata share of the foreign taxes paid by the FUND, but would be treated as having
paid its pro rata share of such foreign taxes and would therefore be allowed to
either deduct such amount in computing taxable income or use such amount
(subject to various Code limitations) as a foreign tax credit against Federal
income tax (but not both). For purposes of the foreign tax credit limitation
rules of the Code, each shareholder would treat as foreign source income its pro
rata share of such foreign taxes plus the portion of dividends received from the
FUND representing income derived from foreign sources. No deduction for foreign
taxes could be claimed by an individual shareholder who does not itemize
deductions. Shareholders should consult their own tax advisors concerning the
application of the foreign tax credit to them.
Distributions by the FUND that do not constitute ordinary income dividends
or capital gain dividends will be treated as a return of capital to the extent
of (and in reduction of) the shareholder's tax basis in his shares; any excess
will be treated as gain from the sale of his shares, as discussed below.
Distributions by the FUND will be treated in the manner described above
regardless of whether such distributions are paid in cash or reinvested in
additional shares of the FUND (or of another fund). Shareholders receiving a
distribution in the form of additional shares will be treated as receiving a
distribution in an amount equal to the fair market value of the shares received,
determined as of the reinvestment date. In addition, if the net asset value at
the time a shareholder purchases shares of the FUND reflects undistributed net
investment income or recognized capital gain net income, or unrealized
appreciation in the value of the assets of the FUND, distributions of such
amounts will be taxable to the shareholder as dividends in the manner described
above, although such distributions economically constitute a return of capital
to the shareholder.
Ordinarily, shareholders are required to take distributions by the FUND
into account in the year in which the distributions are made. However, dividends
declared in October, November or December of any year and payable to
shareholders of record on a specified date in such a month will be deemed to
have been received by the shareholders (and made by the FUND) on December 31 of
such calendar year if such dividends are actually paid by January 31 of the
following year. Shareholders will be advised annually as to the U.S. federal
income tax consequences of distributions made (or deemed made) during the year.
The FUND will be required in certain cases to withhold and remit to the
U.S. Treasury 31% of ordinary income dividends and capital gain dividends, and
the proceeds of redemption of shares, paid to any shareholder (1) who has
provided either an incorrect tax identification number or no number at all, (2)
who is subject to backup withholding by the Internal Revenue Service for failure
to report the receipt of interest or dividend income properly, or (3) who has
failed to certify to the FUND that it is not subject to backup withholding or
that it is a corporation or other "exempt recipient."
SALE OR REDEMPTION OF SHARES
A shareholder will recognize gain or loss on the sale or redemption of
shares of the FUND in an amount equal to the difference between the proceeds of
the sale or redemption and the shareholder's adjusted tax basis in the shares.
All or a portion of any loss so recognized may be disallowed if the shareholder
purchases other shares of the FUND within 30 days before or after the sale or
redemption. In general, any gain or loss arising from (or treated as arising
from) the sale or redemption of shares of the FUND will be considered capital
gain or loss and will be long-term capital gain or loss if the shares were held
for longer than one year. However, any capital loss arising from the sale or
redemption of shares held for six months or less will be treated as a long-term
capital loss to the extent of the amount of capital gain dividends received on
such shares. For this purpose, the special holding period rules of Code Section
246(c)(3) and (4) generally will apply in determining the holding period of
shares. Long-term capital gains of noncorporate taxpayers are currently taxed at
a maximum rate 11.6% lower than the maximum rate applicable to ordinary income.
Capital losses in any year are deductible only to the extent of capital gains
plus, in the case of a noncorporate taxpayer, $3,000 of ordinary income.
<PAGE>
FOREIGN SHAREHOLDERS
Taxation of a shareholder who, as to the United States, is a nonresident
alien individual, foreign trust or estate, foreign corporation, or foreign
partnership ("foreign shareholder"), depends on whether the income from the FUND
is "effectively connected" with a U.S. trade or business carried on by such
shareholder.
If the income from the FUND is not effectively connected with a U.S. trade
or business carried on by a foreign shareholder, ordinary income dividends will
be subject to U.S. withholding tax at the rate of 30% (or lower applicable
treaty rate) upon the gross amount of the dividend. Furthermore, such a foreign
shareholder may be subject to U.S. withholding tax at the rate of 30% (or lower
treaty rate) on the gross income resulting from the FUND's election to treat any
foreign taxes paid by it as paid by its shareholders, but may not be allowed a
deduction against this gross income or a credit against this U.S. withholding
tax for the foreign shareholder's pro rata share of such foreign taxes which it
is treated as having been paid. Such a foreign shareholder would generally be
exempt from U.S. Federal income tax on gains realized on the sale of shares of
the FUND and capital gain dividends.
If the income from the FUND is effectively connected with a U.S. trade or
business carried on by a foreign shareholder, then ordinary income dividends,
capital gain dividends and any gains realized upon the sale of shares of the
FUND will be subject to U.S. Federal income tax at the rates applicable to U.S.
citizens or domestic corporations.
In the case of foreign noncorporate shareholders, the FUND may be required
to withhold U.S. Federal income tax at a rate of 31% on distributions that are
otherwise exempt from withholding tax (or taxable at a reduced treaty rate)
unless such shareholders furnish the FUND with proper notification of its
foreign status.
The tax consequences to a foreign shareholder entitled to claim the
benefits of an applicable tax treaty may be different from those described
herein. Foreign shareholders are urged to consult their own tax advisers with
respect to the particular tax consequences to them of an investment in the FUND,
including the applicability of foreign taxes.
EFFECT OF FUTURE LEGISLATION; LOCAL TAX CONSIDERATIONS
The foregoing general discussion of U.S. Federal income tax consequences
is based on the Code and the Treasury Regulations issued thereunder as in effect
on the date of this Statement of Additional Information. Future legislative or
administrative changes or court decisions may significantly change the
conclusions expressed herein, and any such changes or decisions may have a
retroactive effect with respect to the transactions contemplated herein.
Rules of state and local taxation of ordinary income dividends and capital
gain dividends from regulated investment companies often differ from the rules
for U.S. Federal income taxation described above. Shareholders are urged to
consult their tax advisers as to the consequences of these and other state and
local tax rules affecting an investment in the FUND under their particular
circumstances.
<PAGE>
<TABLE>
<CAPTION>
<S> <C>
BLANCHARD FUNDS MANAGEMENT
Officers and Trustees are listed with their addresses, birthdates, and present
positions with Blanchard Funds, and principal occupations.
JOHN F. DONAHUE@*
FEDERATED INVESTORS TOWER
PITTSBURGH, PA CHAIRMAN AND TRUSTEE OF THE FUND; Chairman and
BIRTHDATE: JULY 28, 1924 Trustee, Federated Investors, Federated Advisers, Federated Management, and
Federated Research; Chairman and Director, Federated Research Corp. and Federated
Global Research Corp.; Chairman, Passport Research, Ltd.; Chief Executive Officer and
Director or Trustee of the Funds. Mr. Donahue is
the father of J. Christopher Donahue, Executive Vice President of the Trust.
THOMAS G. BIGLEY
15 OLD TIMBER TRAIL
PITTSBURGH, PA
BIRTHDATE: FEBRUARY 3, 1934 TRUSTEE OF THE FUND; Chairman of the Board,
Children's Hospital of Pittsburgh
formerly, Senior Partner, Ernst &
Young LLP; Director, MED 3000 Group,
Inc.; Director, Member of Executive
Committee, University of Pittsburgh;
Director or Trustee of the Funds. .
JOHN T. CONROY, JR.
WOOD/IPC COMMERCIAL DEPARTMENT
JOHN R. WOOD AND ASSOCIATES,
INC., REALTORS
3255 TAMIAMI TRAIL NORTH
NAPLES, FL TRUSTEE OF THE FUND; President, Investment
BIRTHDATE: JUNE 23, 1937 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; Director or Trustee of the Funds.
WILLIAM J. COPELAND
ONE PNC PLAZA - 23RD FLOOR
PITTSBURGH, PA TRUSTEE OF THE FUND; Director and Member of the
BIRTHDATE: JULY 4, 1918 Executive Committee, Michael Baker, Inc.; formerly,
Vice Chairman and Director, PNC Bank, N.A., and
PNC Bank Corp. and Director, Ryan Homes, Inc.; Director or Trustee of the Funds.
JAMES E. DOWD
571 HAYWARD MILL ROAD
CONCORD, MA TRUSTEE OF THE FUND; Attorney-at-law; Director, The
BIRTHDATE: MAY 18, 1922 Emerging Germany Fund, Inc.; Director or Trustee of the Funds.
<PAGE>
LAWRENCE D. ELLIS, M.D.*
3471 FIFTH AVENUE, SUITE 1111
PITTSBURGH, PA TRUSTEE OF THE FUND; Professor of Medicine,
BIRTHDATE: OCTOBER 11, 1932 University of Pittsburgh; Medical Director, University of Pittsburgh Medical
Center - Downtown; Member, Board of Directors, University of
Pittsburgh Medical Center; formerly, Hematologist,
Oncologist, and Internist, Presbyterian and Montefiore Hospitals;
Director or Trustee of the Funds.
EDWARD L. FLAHERTY, JR.@
MILLER AMENT HENNY & KOCHUBA
205 ROSS STREET TRUSTEE OF THE FUND; Attorney of Counsel, Miller,
PITTSBURGH, PA Ament, Henny & Kochuba; Director, Eat'N Park
BIRTHDATE: JUNE 18, 1924 Restaurants, Inc.; formerly, Counsel, Horizon Financial, F.A.,
Western Region; Director or Trustee of the Funds. .
EDWARD C. GONZALES*
FEDERATED INVESTORS TOWER
PITTSBURGH, PA PRESIDENT, TREASURER AND TRUSTEE OF THE FUND;
BIRTHDATE: OCTOBER 22, 1930 Vice Chairman, Treasurer, and Trustee, Federated Investors; 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; Trustee or Director of some of
the Funds; President,
Executive Vice President and Treasurer of some of the Funds.
PETER E. MADDEN
ONE ROYAL PALM WAY
100 ROYAL PALM WAY
PALM BEACH, FL TRUSTEE OF THE FUND; Consultant; Former State
BIRTHDATE: MARCH 16, 1942 Representative, Commonwealth of Massachusetts; formerly, President, State Street
Bank and Trust Company and State Street Boston Corporation; Director or Trustee
of the Funds.
JOHN E. MURRAY, JR., J.D., S.J.D.
DUQUESNE UNIVERSITY
PITTSBURGH, PA TRUSTEE OF THE FUND; President, Law Professor,
BIRTHDATE: DECEMBER 20, 1932 Duquesne University; Consulting Partner, Mollica & Murray; Director or Trustee
of the Funds.
<PAGE>
WESLEY W. POSVAR
1202 CATHEDRAL OF LEARNING
UNIVERSITY OF PITTSBURGH
PITTSBURGH, PA TRUSTEE OF THE FUND; Professor, International
BIRTHDATE: SEPTEMBER 14, 1925 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; Director
or Trustee of the Funds. .
MARJORIE P. SMUTS
4905 BAYARD STREET
PITTSBURGH, PA TRUSTEE OF THE FUND; Public
BIRTHDATE: JUNE 21, 1935 Relations/Marketing/Conference Planning; Director or Trustee of the Funds.
J. CHRISTOPHER DONAHUE
FEDERATED INVESTORS TOWER
PITTSBURGH, PA EXECUTIVE VICE PRESIDENT OF THE FUND; President
BIRTHDATE: APRIL 11, 1949 and Trustee, Federated Investors, 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; President or Executive Vice President
of the Funds; Director or Trustee of some of the Funds. Mr. Donahue is the son of
John F. Donahue, Chairman and Trustee of the Trust.
JOHN W. MCGONIGLE
FEDERATED INVESTORS TOWER
PITTSBURGH, PA EXECUTIVE VICE PRESIDENT, AND SECRETARY
BIRTHDATE: OCTOBER 26, 1938 OF THE FUND; Executive Vice President, Secretary, and Trustee,
Federated Investors; 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.;
Executive Vice President and Secretary of the Funds; Treasurer of some of the Funds.
<PAGE>
RICHARD B. FISHER
FEDERATED INVESTORS TOWER
PITTSBURGH, PA VICE PRESIDENT OF THE FUND; Executive Vice
BIRTHDATE: MAY 17, 1923 President and Trustee, Federated
Investors, Chairman and Director,
Federated Securities Corp.; President
or Vice President of some of the
Funds; Director or Trustee of some of
the Funds.
JOESEPH S. MACHI
FEDERATED INVESTORS TOWER
PITTSBURGH, PA VICE PRESIDENT AND ASSISTANT TREASURER; Vice
BIRTHDATE: MAY 22, 1962 President and Assistant Treasurer of some of the Funds.
</TABLE>
* This Trustee is deemed to be an "interested person" of the Trust as defined
in the Investment Company Act of 1940, as amended.
@ Member of the Executive Committee. The Executive Committee of the Board of
Trustees handles the responsibilities of the Board of Trustees between
meetings of the Board.
As referred to in the list of Trustees and Officers, "Funds" includes the
following investment companies: 111 Corcoran Funds; Arrow Funds; Automated
Government Money Trust; Blanchard Funds; Blanchard Precious Metals Fund, Inc.;
Cash Trust Series II; Cash Trust Series, Inc. ; 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 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.; First Priority Funds;
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; RIMCO Monument
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; and World Investment Series, Inc.
FUND OWNERSHIP
As of October 29, 1997, Officers and Trustees own less than 1% of the
outstanding shares of each Fund.
To the best knowledge of the FUND, as of October 29, 1997, no shareholder
owned 5% or more of the outstanding shares of the FUND.
<PAGE>
OFFICERS AND TRUSTEES COMPENSATION
- ------------------------------------------------------------------------------
AGGREGATE COMPENSATION TOTAL COMPENSATION PAID
NAME, POSITION FROM TO TRUSTEES FROM THE
WITH THE TRUST THE TRUST* FUND AND FUND COMPLEX**
- ------------------------------------------------------------------------------
- ------------------------------------------------------------------------------
John F. Donahue, $0 $0 for the Fund Complex
Chairman and Trustee
Thomas G. Bigley, Trustee $1,011 $3,217 for the Fund
Complex
John T. Conroy, Jr., $1,114 $3,538 for the Fund
Trustee Complex
William J. Copeland, $1,114 $3,538 for the Fund
Trustee Complex
James E. Dowd, Trustee $1,114 $3,538 for the Fund
Complex
Lawrence D. Ellis, M.D., $1,011 $3,217 for the Fund
Trustee Complex
Edward L. Flaherty, Jr., $1,114 $3,538 for the Fund
Trustee Complex
Edward C. Gonzales, $0 $0 for the Fund Complex
President and Trustee
Peter E. Madden, Trustee $1,011 $3,217 for the Fund
Complex
John E. Murray, Jr., $1,011 $3,217 for the Fund
J.D., S.J.D., Trustee Complex
Wesley W. Posvar, Trustee $1,011 $3,217 for the Fund
Complex
Marjorie P. Smuts $1,011 $3,217 for the Fund
Trustee Complex
* The aggregate compensation for the fiscal year ended 9/30/97 is provided for
the Trust which is comprised of five portfolios. **The total compensation is
provided for the Fund Complex, which consists of the Blanchard Precious Metals
Fund, The Virtus Funds, and the
Trust. The information is provided for Blanchard Funds and Blanchard Precious
Metals Fund, Inc. and The Virtus Funds for the fiscal year ended 9/30/97.
MANAGEMENT SERVICES
MANAGER TO THE TRUST
The Trust's manager is Virtus Capital Management, Inc. ("VCM"), which is a
wholly-owned subsidiary of Signet Banking Corporation. Because of the internal
controls maintained by Signet Bank to restrict the flow of non-public
information, Fund investments are typically made without any knowledge of Signet
Bank's or its affiliates' lending relationships with an issuer.
The manager shall not be liable to the Trust, a Fund, or any shareholder
of any of the Funds 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.
MANAGEMENT FEES
For its services, VCM receives an annual management fee as described in
the prospectus. For the fiscal year ended September 30, 1997, and for the period
from May 1, 1996 through September 30, 1996, the FUND's investment management
fee paid to VCM was $1,273,719 and $610,104, respectively, less a voluntary
expense reimbursement of $0 and $8,181, respectively. For the fiscal year ended
April 30, 1996, the FUND's investment management fee paid to VCM and the prior
manager was $1,795,137, less voluntary expense reimbursement of $0. For the
fiscal year ended April 30, 1995, the FUND's investment management fee paid to
the prior manager was $2,723,672, less a voluntary expense reimbursement of
$43,422. For the fiscal year ended April 30, 1994, the FUND's investment
management fee paid to the prior manager was $4,285,213, less a voluntary
expense reimbursement of $1,252,529.
<PAGE>
THE SUB-ADVISORY AGREEMENT
OFFITBANK furnishes investment advisory services to the FUND pursuant to a
Sub-Advisory Agreement between VCM and OFFITBANK. Pursuant to the Sub-Advisory
Agreement, OFFITBANK supervises the investment and reinvestment of the cash,
securities or other properties comprising the FUND's portfolio, subject at all
times to the direction of VCM and the policies and control of the Trust's Board
of Trustees. OFFITBANK gives the FUND the benefit of its best judgment, efforts
and facilities in rendering its services as Sub-Adviser.
In carrying out its obligations, OFFITBANK:
(a) uses the same skill and care in providing such service as it uses in
providing services to fiduciary accounts for which it has investment
responsibilities; (b) obtains and evaluates pertinent information about
significant developments and economics, statistical and financial data,
domestic, foreign or otherwise, whether affecting the economy generally or the
FUND's portfolio and whether concerning the individual issuers whose securities
are included in the FUND's portfolio or the activities in which the issuers
engage, or with respect to securities which it considers desirable for inclusion
in the FUND's portfolio; (c) determines which issuers and securities shall be
represented in the FUND's portfolio and regularly reports thereon to the Trust's
Board of Trustees; (d) formulates and implements continuing programs for the
purchases and sales of the securities of such issuers and regularly reports
thereon to the Trust's Board of Trustees; (e) is authorized to give instructions
to the custodian and/or sub-custodian of the FUND appointed by the Trust's Board
of Trustees, as to deliveries of securities, transfers of currencies and
payments of cash for the account of the FUND, in relation to the matters
contemplated by this Agreement; and (f) takes, on behalf of the FUND, all
actions which appear to the Trust and VCM necessary to carry into effect such
purchase and sale programs and supervisory functions as aforesaid, including the
placing of orders for the purchase and sale of securities for the FUND and the
prompt reporting to VCM of such purchases and sales.
OFFITBANK is responsible for decisions to buy and sell securities for the
FUND's portfolio, broker-dealer selection, and negotiation of brokerage
commission rates. OFFITBANK's primary consideration in effecting a security
transaction will be execution at the most favorable price. In selecting a
broker-dealer to execute each particular transaction, OFFITBANK will take the
following into consideration: the best net price available, the reliability,
integrity and financial condition of the broker-dealer; the size of and
difficulty in executing the order; and the value of the expected contribution of
the broker-dealer to the investment performance of the FUND on a continuing
basis. Accordingly, the price to the FUND in any transaction may be less
favorable than that available from another broker-dealer if the difference is
reasonably justified by other aspects of the portfolio execution services
offered. Subject to such policies as the Board of Trustees may determine,
OFFITBANK shall not be deemed to have acted unlawfully or to have breached any
duty created under the Sub-Advisory Agreement or otherwise solely by reason of
its having caused the FUND to pay a broker or dealer for effecting a portfolio
investment transaction in excess of the amount of commission another broker or
dealer would have charged for effecting that transaction, if OFFITBANK
determines in good faith that such amount of commission was reasonable in
relation to the value of the brokerage and research services provided by such
broker or dealer, viewed in terms of either that particular transaction or
OFFITBANK's overall responsibilities with respect to the FUND and to its other
clients as to which it exercises investment discretion. Subject to such policies
as the Board of Trustees may determine, OFFITBANK will purchase and sell foreign
currency and futures contracts and other securities for the FUND. OFFITBANK is
further authorized to allocate the orders placed by it on behalf of the FUND to
any affiliated broker-dealer of the FUND or to such brokers and dealers who also
provide research or statistical material, or other services to the FUND, VCM or
OFFITBANK. Such allocation is in such amounts and proportions as OFFITBANK shall
determine and OFFITBANK will report on said allocations regularly to the Board
of Trustees of the Trust indicating the brokers to whom such allocations have
been made and the basis therefor.
Any investment program undertaken by OFFITBANK pursuant to the
Sub-Advisory Agreement, as well as any other activities undertaken by OFFITBANK
on behalf of the FUND pursuant thereto, is at all times subject to any
directives of the Board of Trustees of the Trust. VCM provides OFFITBANK with
written notice of all such directives, so long as the Sub-Advisory Agreement
remains in effect.
Pursuant to the Sub-Advisory Agreement, OFFITBANK maintains, at its
expense and without cost to VCM or the FUND, a trading function in order to
carry out its obligations to place orders for the purchase and sale of portfolio
securities for the FUND.
<PAGE>
Pursuant to the Sub-Advisory Agreement, upon request of VCM and with the
approval of the Trust's Board of Trustees, OFFITBANK may perform services on
behalf of the FUND which are not required by the Sub-Advisory Agreement. Such
services will be performed on behalf of the FUND and OFFITBANK's cost in
rendering such services may be billed monthly to VCM, subject to examination by
VCM's independent accountants. Payment or assumption by OFFITBANK of any FUND
expense that OFFITBANK is not required to pay or assume under the Sub-Advisory
Agreement shall not relieve VCM or OFFITBANK of any of their obligations to the
FUND or obligate OFFITBANK to pay or assume any similar FUND expense on any
subsequent occasions.
Pursuant to the Sub-Advisory Agreement, for the services to be rendered
and the facilities furnished hereunder, VCM pays OFFITBANK a monthly fee at the
annual rate of .30% of the FUND's first $25 million of average daily net assets;
plus .25% of the FUND's average daily net assets in excess of $25 million but
less than $50 million; plus .20% of the FUND's average daily net assets in
excess of $50 million. Compensation under the Sub-Advisory Agreement is
calculated and accrued daily and the amounts of the daily accruals are paid
monthly.
The fee paid to OFFITBANK by VCM for the fiscal year ended September 30,
1997, and for the period from May 1, 1996 through September 30, 1996, was
$377,158 and $178,414, respectively. The fee paid to OFFITBANK by the prior
manager and by VCM for the fiscal year ended April 30, 1996 was $516,503. The
fees paid to OFFITBANK by the prior manager for the fiscal year ended April 30,
1995 and 1994, were $763,516 and $1,100,253. The compensation paid to OFFITBANK
will not be reduced by the amount of brokerage commissions received by OFFITBANK
or its affiliated broker-dealer pursuant to Section 17(e)(2) of the 1940 Act.
Pursuant to the Sub-Advisory Agreement, OFFITBANK agrees that it will not
render advisory or sub-advisory services to any other similar publicly offered
no-load or low-load open-end investment company registered with the SEC while
the Sub-Advisory Agreement is in effect.
The Sub-Advisory Agreement was approved by the then Trustees on March 24,
1995. The Sub-Advisory Agreement will remain in force and effect for an initial
term of two years, and shall remain in effect thereafter from year to year,
provided that such continuance is specifically approved at least annually: (a)
(i) by the Trust's Board of Trustees or (ii) by the vote of a majority of the
FUND's outstanding voting securities (as defined in Section 2(a)(42) of the 1940
Act), and (b) by the affirmative vote of a majority of the Trustees who are not
parties to the Sub-Advisory Agreement or interested persons of a party to the
Sub-Advisory Agreement (other than as a Trustee of the Trust), by votes cast in
person at a meeting specifically called for such purpose.
The Sub-Advisory Agreement may be terminated at any time, without the
payment of any penalty, by vote of the Trust's Board of Trustees or by vote of a
majority of the FUND's outstanding voting securities (as defined in Section 2(a)
(42) of the 1940 Act), or by VCM or OFFITBANK on sixty (60) days' written notice
to the other party. The Sub-Advisory Agreement automatically terminates: (a) in
the event of its assignment, the term "assignment" having the meaning defined in
Section 2(a)(4) of the 1940 Act, or (b) in the event that the Investment
Advisory Contract between the FUND and VCM shall terminate.
CUSTODIAN
Signet Trust Company is custodian for the securities and cash of the
Funds. Under the Custodian Agreement, Signet Trust Company holds the Funds'
portfolio securities in safekeeping and keeps all necessary records and
documents relating to its duties. The custodian receives a fee at an annual rate
of .05% on the first $10 million of average net assets of each of the six
respective portfolios and .025% on average net assets in excess of $10 million.
There is a $20 fee imposed on each transaction. The custodian fee received
during any fiscal year shall be at least $1,000 per Fund.
ADMINISTRATIVE SERVICES
Federated Administrative Services, which is a subsidiary of Federated
Investors, provides administrative personnel and services to the Fund for the
fees set forth in the prospectus. For the fiscal year ended September 30, 1997,
and for the period from May 1, 1996 through September 30, 1996, and for the
fiscal year ended April 30, 1996, Federated Administrative Services earned
$165,355, $77,731 and $190,752, respectively, in administrative services fees.
For the fiscal years ended April 30, 1995 and 1994, the administrative services
fees were included as part of the Management fee.
<PAGE>
PURCHASING SHARES
Shares of the Fund 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 of the Fund is explained in the prospectus under
"Investing in Shares."
DISTRIBUTION PLAN
The Trust has adopted a Plan for Shares of the Fund pursuant to Rule 12b-1
which was promulgated by the Securities and Exchange Commission pursuant to the
Investment Company Act of 1940. The Plan provides that the FUND's Distributor
shall act as the Distributor of shares, and it permits the payment of fees to
brokers and dealers for distribution and administrative services and to
administrators for administrative services. The Plan is designed to (i)
stimulate brokers and dealers to provide distribution and administrative support
services to the Fund and its shareholders and (ii) stimulate administrators to
render administrative support services to the Fund and its shareholders. These
services are to be provided by a representative who has knowledge of the
shareholders' particular circumstances and goals, and include, but are not
limited to: providing office space, equipment, telephone facilities, and various
personnel including clerical, supervisory, and computer, 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 regarding the
Fund; assisting clients in changing dividend options, account designations, and
addresses; and providing such other services as the Trust reasonably requests.
For the fiscal year ended September 30, 1997, and for the period from May 1,
1996 through September 30, 1996, the Fund accrued payments under the Plan
amounting to $424,573 and $203,367, respectively. For the fiscal year ended
April 30, 1996, the Fund accrued payments under the Plan amounting to $598,379.
Other benefits which the Fund hopes to achieve through the Plan include,
but are not limited to the following: (1) an efficient and effective
administrative system; (2) a more efficient use of assets of shareholders by
having them rapidly invested in the Fund with a minimum of delay and
administrative detail; and (3) an efficient and reliable records system for
shareholders and prompt responses to shareholder requests and inquiries
concerning their accounts.
By adopting the Plan, the then Board of Trustees expected that the Fund
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 Fund in seeking to achieve its investment objectives.
By identifying potential investors in shares whose needs are served by the
FUND's objectives, and properly servicing these accounts, the FUND may be able
to curb sharp fluctuations in rates of redemptions and sales.
DESCRIPTION OF THE FUND
Shareholder and Trustee Liability. The FUND is a series of an entity of
the type commonly known as a "Massachusetts business trust." Under Massachusetts
law, shareholders of such a trust may, under certain circumstances, be held
personally liable for the obligations of the Trust. The FUND's Declaration of
Trust contains an express disclaimer of shareholder liability for acts or
obligations for the FUND and requires that notice of such disclaimer be given in
each agreement, obligation, or instrument entered into or executed by the FUND
or the Trustees. The Declaration of Trust provides for indemnification out of
the FUND property of any shareholder held personally liable for the obligations
of the FUND.
The Declaration of Trust also provides that the FUND shall, upon request,
assume the defense of any claim made against any shareholders for any act or
obligation of the FUND and satisfy any judgment thereon. Thus, the risk of a
shareholder incurring financial loss on account of shareholder liability is
limited to circumstances in which the FUND itself would be unable to meet its
obligations. VCM believes that, in view of the above, the risk of personal
liability to shareholders is remote. The Declaration of Trust further provides
that the Trustees will not be liable for errors of judgment or mistakes of fact
or law, but nothing in the Declaration of Trust protects a Trustee against any
liability to which he would otherwise be subject by reason of willful
misfeasance, bad faith, gross negligence, or reckless disregard of the duties
involved in the conduct of his office.
<PAGE>
Voting Rights. The FUND's capital consists of shares of beneficial
interest. Shares of the FUND entitle the holders to one vote per share. The
shares have no preemptive or conversion rights. The voting and dividend rights
and the right of redemption are described in the Prospectus. Shares are fully
paid and nonassessable, except as set forth under "Shareholder and Trustee
Liability" above. The shareholders have certain rights, as set forth in the
Declaration of Trust, to call a meeting for any purpose, including the purpose
of voting on removal of one or more Trustees.
The FUND may be terminated upon the sale of its assets to another open-end
management company if approved by the vote of the holders of a majority of the
outstanding shares of the FUND. The FUND may also be terminated upon liquidation
and distribution of its assets, if approved by a majority shareholder vote of
the FUND. Shareholders of the FUND shall be entitled to receive distributions as
a class of the assets belonging to the FUND. The assets of the FUND received for
the issue or sale of the shares of the FUND and all income earnings and the
proceeds thereof, subject only to the rights of creditors, are specially
allocated to the FUND, and constitute the underlying assets of the FUND.
SHAREHOLDER REPORTS
Shareholders will receive reports semi-annually showing the investments of
the FUND and other information. In addition, shareholders will receive annual
financial statements audited by the FUND's independent accountants.
The financial statements for the fiscal year ended September 30, 1997, are
incorporated herein by reference from the FUND's Annual Report dated September
30, 1997. A copy of the FUND'S Annual Report may be obtained without charge by
contacting Signet Financial Services, Inc. at 1-800-829-3863.
Cusip 093212306
G01386-11
STATEMENT OF ADDITIONAL INFORMATION
BLANCHARD FLEXIBLE TAX-FREE BOND FUND
FEDERATED INVESTORS TOWER
PITTSBURGH, PA 15222-3779
This Statement is not a prospectus but should be read in conjunction with the
current prospectus dated November 30, 1997 (the "Prospectus"), pursuant to which
the Blanchard Flexible Tax-Free Bond Fund (the "FUND") is offered. Please retain
this document for future reference.
To obtain the Prospectus please call the FUND at 1-800-829-3863.
TABLE OF CONTENTS Page
General Information and History 2
Investment Objective and Policies 2
Securities in Which the FUND May Invest 3
Investment Restrictions 8
Portfolio Transactions 9
Computation of Net Asset Value 10
Performance Information 11
Additional Purchase and Redemption Information 13
Tax Matters 13
Blanchard Funds Management 18
Management Services 22
Portfolio Management Services 23
Custodian 23
Administrative Services 24
Distribution Plan 24
Description of the FUND 24
Shareholder Reports 25
Appendix A - Description of Bond Ratings A-26
Manager
Virtus Capital Management, Inc.
Portfolio Adviser
United States Trust Company of New York
Distributor
Federated Securities Corp.
Custodian
Signet Trust Company
Transfer Agent
Federated Shareholder Services Company
Independent Accountants
Deloitte & Touche LLP
Dated: November 30, 1997
<PAGE>
GENERAL INFORMATION AND HISTORY
As described in the FUND's Prospectus, the FUND is a non-diversified
series of Blanchard Funds, a Massachusetts business trust that was organized
under the name "Blanchard Strategic Growth Fund" (the "Trust"). The trustees of
the Trust approved the change in the name of the Trust on December 4, 1990. The
FUND is a "no-load" fund which seeks to provide a high level of current interest
income exempt from Federal income tax consistent with the preservation of
principal. The FUND invests primarily in obligations of varying maturities
issued by or on behalf of states, territories and possessions of the United
States and the District of Columbia and their political subdivisions, agencies,
authorities and instrumentalities, the interest from which, in the opinion of
bond counsel for the issuer, is exempt from Federal income tax ("Municipal
Obligations"). There is no assurance that the FUND will achieve its investment
objective. This objective is a fundamental policy and may not be changed except
by a majority vote of shareholders.
INVESTMENT OBJECTIVE AND POLICIES
The following information supplements, and should be read in conjunction
with, the sections in the FUND's Prospectus entitled "Investment Objective and
Policies," "Securities in Which the Fund May Invest" and "Other Investment
Information."
The FUND's investment objective is to provide a high level of current
interest income exempt from Federal income tax consistent with the preservation
of principal. The FUND will invest at least 65% of its assets in Municipal
Obligations, except when maintaining a temporary defensive position.
The FUND invests in Municipal Obligations which are determined by U.S.
Trust to present minimal credit risks. As a matter of fundamental policy, except
during temporary defensive periods, the FUND will maintain at least 80% of its
assets in tax-exempt obligations. (This policy may not be changed without the
vote of the holders of a majority of the FUND's outstanding shares.) However,
from time to time on a temporary defensive basis due to market conditions, the
FUND may hold uninvested cash reserves or invest in taxable obligations in such
proportions as, in the opinion of U.S. Trust, prevailing market or economic
conditions may warrant. Uninvested cash reserves will not earn income. Should
the FUND invest in taxable obligations, it would purchase: (i) obligations of
the U.S. Treasury; (ii) obligations of agencies and instrumentalities of the
U.S. Government; (iii) money market instruments, such as certificates of
deposit, commercial paper, and bankers' acceptances; (iv) repurchase agreements
collateralized by U.S. Government obligations or other money market instruments;
(v) municipal bond index futures and interest rate futures contracts; or (vi)
securities issued by other investment companies that invest in high quality,
short-term securities. Interest income from certain short-term holdings may be
taxable to shareholders as ordinary income.
In seeking to achieve its investment objective, the FUND may invest in
"private activity bonds" (see "Municipal Obligations" below), the interest on
which is treated as a specific tax preference item under the Federal alternative
minimum tax. Investments in such securities, however, will not exceed, under
normal market conditions, 20% of the FUND's total assets when added together
with any taxable investments held by the FUND.
The Municipal Obligations purchased by the FUND will consist of: (1)
municipal bonds rated "A" or better by Moody's Investors Service, Inc.
("Moody's") or by Standard & Poor's Ratings Group ("S&P") or, in certain
instances, municipal bonds with lower ratings if they are deemed by U.S. Trust
to be comparable to A-rated issues; (2) municipal notes rated "MIG-2" or better
("VMIG-2" or better in the case of variable rate notes) by Moody's or "SP-2" or
better by S&P; and (3) municipal commercial paper rated "Prime-2" or better by
Moody's or "A-2" or better by S&P. If not rated, securities purchased by the
FUND will be of comparable quality to the above ratings as determined by U.S.
Trust under the supervision of the FUND's Board of Trustees. A discussion of
Moody's and S&P's rating categories is contained in Appendix A.
<PAGE>
Although the FUND does not presently intend to do so on a regular basis,
it may invest more than 25% of its assets in Municipal Obligations the interest
on which is paid solely from revenues of similar projects, if such investment is
deemed necessary or appropriate by U.S. Trust. To the extent that the FUND's
assets are concentrated in Municipal Obligations payable from revenues on
similar projects, the FUND will be subject to the peculiar risks presented by
such projects to a greater extent than it would be if the FUND's assets were not
so concentrated.
SECURITIES IN WHICH THE FUND MAY INVEST
MUNICIPAL OBLIGATIONS. The two principal classifications of Municipal
Obligations which may be held by the FUND are "general obligation" securities
and "revenue" securities. General obligation securities are secured by the
issuer's pledge of its full faith, credit, and taxing power for the payment of
principal and interest. Revenue securities are payable only from the revenues
derived from a particular facility or class of facilities or, in some cases,
from the proceeds of a special excise tax or other specific revenue source such
as the user of the facility being financed. Private activity bonds held by the
FUND are in most cases revenue securities and are not payable from the
unrestricted revenues of the issuer. Consequently, the credit quality of private
activity revenue bonds is usually directly related to the credit standing of the
corporate user of the facility involved.
The FUND's portfolio may also include "moral obligation" securities, which
are normally issued by special-purpose public authorities. If the issuer of
moral obligation securities is unable to meet its debt service obligations from
current revenues, it may draw on a reserve fund the restoration of which is a
moral commitment, but not a legal obligation of the state or municipality which
created the issuer. There is no limitation on the amount of moral obligation
securities that may be held by the FUND.
The FUND may also purchase custodial receipts evidencing the right to
receive either the principal amount or the periodic interest payments
("stripped") or both with respect to specific underlying Municipal Obligations.
In general, such "stripped" Municipal Obligations are offered at a substantial
discount in relation to the principal and/or interest payments which the holders
of the receipt will receive. To the extent that such discount does not produce a
yield to maturity for the investor that exceeds the original tax-exempt yield on
the underlying Municipal Obligation, such yield will be exempt from Federal
income tax for such investor to the same extent as interest on the underlying
Municipal Obligation. The FUNDs intend to purchase "stripped" Municipal
Obligations only when the yield thereon will be, as described above, exempt from
Federal income tax to the same extent as interest on the underlying Municipal
Obligations. "Stripped" Municipal Obligations are considered illiquid securities
subject to the 10% limit described in "Investment Limitations" in the Statement
of Additional Information.
FUTURES CONTRACTS. The FUND may purchase and sell municipal bond index and
interest rate futures contracts as a hedge against changes in market conditions.
A municipal bond index assigns values daily to the municipal bonds included in
the index based on the independent assessment of dealer-to-dealer municipal bond
brokers. A municipal bond index futures contract represents a firm commitment by
which two parties agree to take or make a delivery of an amount equal to a
specified dollar amount times the difference between the municipal bond index
value on the last trading date of the contract and the price at which the
futures contract is originally struck. No physical delivery of the underlying
securities in the index is made.
The FUND may enter into contracts for the future delivery of fixed-income
securities commonly known as interest rate futures contracts. Interest rate
futures contracts are similar to the municipal bond index futures contracts
except that, instead of a municipal bond index, the "underlying commodity" is
represented by various types of fixed-income securities.
The FUND will not engage in transactions in futures contracts for
speculation, but only as a hedge against changes in market values of securities
which it holds or intends to purchase where the transactions are intended to
reduce risks inherent in the management of the FUND. The FUND may engage in
futures contracts only to the extent permitted by the Commodity Futures Trading
Commission ("CFTC") and the Securities and Exchange Commission ("SEC").
<PAGE>
When investing in futures contracts, the FUND must satisfy certain asset
segregation requirements to ensure that the use of futures is unleveraged. When
the FUND takes a long position in a futures contract, it must maintain a
segregated account containing cash and/or certain liquid assets equal to the
purchase price of the contract, less any margin or deposit. When the FUND takes
a short position in a futures contract, the FUND must maintain a segregated
account containing cash and/or certain liquid assets equal to the market value
of the securities underlying such contract, less any margin or deposit, which
must be at least equal to the market price at which the short position was
established.
Transactions by the FUND in futures contracts may subject the FUND to a
number of risks. Successful use of futures by the FUND is subject to the ability
of U.S. Trust to anticipate correctly movements in the direction of the market.
In addition, there may be an imperfect correlation, or no correlation at all,
between movements in the price of the futures contracts and movements in the
price of the instruments being hedged. Further, there is no assurance that a
liquid market will exist for any particular futures contract at any particular
time. Consequently, the FUND may realize a loss on a futures transaction that is
not offset by a favorable movement in the price of securities which it holds or
intends to purchase, or it may be unable to close a futures position in the
event of adverse price movements. Any income from investments in futures
contracts will be taxable income of the FUND.
MONEY MARKET INSTRUMENTS. Money market instruments that may be purchased
by the FUND in accordance with its investment objectives and policies stated
above include, among other things, bank obligations, commercial paper and
corporate bonds with remaining maturities of 13 months or less.
Bank obligations include bankers' acceptances, negotiable certificates of
deposit, and non-negotiable time deposits earning a specified return and issued
by a U.S. bank which is a member of the Federal Reserve System or insured by the
Bank Insurance Fund of the Federal Deposit Insurance Corporation, or by a
savings association or savings bank which is insured by the Savings Association
Insurance Fund of the Federal Deposit Insurance Corporation. Investments in time
deposits are limited to no more than 5% of the value of the FUND's total assets
at time of purchase.
Investments by the FUND in commercial paper will consist of issues that
are rated "A-2" or better by S&P or "Prime-2" or better by Moody's. In addition,
the FUND may acquire unrated commercial paper that is determined by U.S. Trust
at the time of purchase to be of comparable quality to rated instruments that
may be acquired by the FUND.
Commercial paper may include variable and floating rate instruments. While
there may be no active secondary market with respect to a particular instrument
purchased by the FUND, the FUND may, from time to time as specified in the
instrument, demand payment of the principal of the instrument or may resell the
instrument to a third party. The absence of an active secondary market, however,
could make it difficult for the FUND to dispose of the instrument if the issuer
defaulted on its payment obligation or during periods that the FUND is not
entitled to exercise its demand rights, and the FUND could, for this or other
reasons, suffer a loss with respect to such instrument.
REPURCHASE AGREEMENTS. As stated above, the FUND may agree to purchase
portfolio securities subject to the seller's agreement to repurchase them at a
mutually agreed upon date and price ("repurchase agreements"). The FUND will
enter into repurchase agreements only with financial institutions such as banks
or broker/dealers which are deemed to be creditworthy by U.S. Trust under
guidelines approved by the FUND's Board of Trustees. The FUND will not enter
into repurchase agreements with U.S. Trust or its affiliates. Repurchase
agreements maturing in more than seven days will be considered illiquid
securities subject to the 10% limit described in "Investment Restrictions."
The seller under a repurchase agreement will be required to maintain the
value of the obligations subject to the agreement at not less than the
repurchase price. Default or bankruptcy of the seller would, however, expose the
FUND to possible delay in connection with the disposition of the underlying
securities or loss to the extent that proceeds from a sale of the underlying
securities were less than the repurchase price under the agreement. Income on
the repurchase agreements will be taxable.
<PAGE>
INVESTMENT COMPANY SECURITIES. The FUND may also invest in securities
issued by other investment companies that invest in high-quality, short-term
securities and that determine their net asset value per share based on the
amortized cost or penny-rounding method. In addition to the advisory fees and
other expenses the FUND bears directly in connection with its own operations, as
a shareholder of another investment company, the FUND would bear its pro rata
portion of the other investment company's advisory fees and other expenses. As
such, the FUND's shareholders would indirectly bear the expenses of the FUND and
the other investment company, some or all of which would be duplicative. Such
securities will be acquired by the FUND within the limits prescribed by the
Investment Company Act of 1940 (the "1940 Act").
WHEN-ISSUED AND FORWARD TRANSACTIONS AND STAND-BY COMMITMENTS. The FUND
may purchase eligible securities on a "when-issued" basis and may purchase or
sell securities on a "forward commitment" basis. These transactions involve a
commitment by the FUND to purchase or sell particular securities with payment
and delivery taking place in the future, beyond the normal settlement date, at a
stated price and yield. Securities purchased on a "forward commitment" or "when
issued" basis are recorded as an asset and are subject to changes in value based
upon changes in the general level of interest rates. It is expected that forward
commitments and "when-issued" purchases will not exceed 25% of the value of the
FUND's total assets absent unusual market conditions, and that the length of
such commitments will not exceed 45 days. The FUND does not intend to engage in
"when-issued" purchases and forward commitments for speculative purposes, but
only in furtherance of its investment objectives.
In addition, the FUND may acquire "stand-by commitments" with respect to
Municipal Obligations that it holds. Under a "stand-by commitment," a dealer
agrees to purchase, at the FUND's option, specified Municipal Obligations at a
specified price. The FUND will acquire "stand-by commitments" solely to
facilitate portfolio liquidity and does not intend to exercise its rights
thereunder for trading purposes. "Stand-by commitments" acquired by the FUND
would be valued at zero in determining the FUND's net asset value.
RISK FACTORS:
FUTURES CONTRACTS. The FUND may enter into contracts for the purchase or
sale for future delivery of municipal bond indices or fixed-income securities
which otherwise meet the FUND's investment policies, to the extent permitted by
the Commodity Futures Trading Commission (the "CFTC"). U.S. futures contracts
have been designed by exchanges which have been designated "contract markets" by
the CFTC, and must be executed through a futures commission merchant, or
brokerage firm, which is a member of the relevant contract market. Futures
contracts trade on a number of contract markets, and, through their clearing
corporations, the exchanges guarantee performance of the contracts as between
the clearing members of the exchange.
A municipal bond index futures contract represents a firm commitment by
which two parties agree to take or make a delivery of an amount equal to a
specified dollar amount times the difference between the municipal bond index
value on the last trading date of the contract and the price at which the
futures contract is originally struck. An interest rate futures contract
provides for the future sale by one party and the purchase by the other party of
a certain amount of a specific, interest rate-sensitive financial instrument
(debt security) at a specified price, date, time and place.
The FUND will not use leverage when it enters into long futures or options
contracts. For each such long position the FUND will deposit cash or cash
equivalents, such as U.S. Government Securities or high grade debt obligations,
having a value equal to the underlying commodity value of the contract as
collateral with its custodian in a segregated account.
No consideration is paid or received by the FUND upon entering into a
futures contract. Upon entering into a futures contract, the FUND will be
required to deposit in a segregated account with its custodian an amount of cash
or cash equivalents, such as U.S. Government Securities or high grade debt
obligations, equal to approximately 5% of the contract amount (this amount is
subject to change by the exchange on which the contract is traded and brokers
may charge a higher amount). This amount is known as "initial margin" and is in
the nature of a performance bond or good faith deposit on the contract which is
returned to the FUND upon termination of the futures contract, assuming all
contractual obligations have been satisfied. The broker will have access to
amounts in
<PAGE>
the margin account if the FUND fails to meet its contractual obligations.
Subsequent payments, known as "variation margin," to and from the broker, will
be made daily as the price of the currency or securities underlying the futures
contract fluctuates, making the long and short positions in the futures contract
more or less valuable, a process known as "marking-to-market." At any time prior
to the expiration of a futures contract, the FUND may elect to close the
position by taking an opposite position, which will operate to terminate the
FUND's existing position in the contract.
There are several risks in connection with the use of futures contracts.
Successful use of futures contracts is subject to the ability of FUND management
to predict correctly movements in the price of the securities or currencies
underlying the particular transaction. These predictions and, thus, the use of
futures contracts involve skills and techniques that are different from those
involved in the management of portfolio securities.
Positions in futures contracts may be closed out only on the exchange on
which they were entered into (or through a linked exchange). No secondary market
for such contracts exists. Although the FUND intends to enter into futures
contracts only if there is an active market for such contracts, there is no
assurance that an active market will exist for the contracts at any particular
time. Most futures exchanges limit the amount of fluctuation permitted in
futures contract prices during a single trading day. Once the daily limit has
been reached in a particular contract, no trades may be made that day at a price
beyond that limit. It is possible that futures contract prices could move to the
daily limit for several consecutive trading days with little or no trading,
thereby preventing prompt liquidation of futures positions and subjecting the
FUND to substantial losses. In such event, and in the event of adverse price
movements, the FUND would be required to make daily cash payments of variation
margin.
REPURCHASE AGREEMENTS. The FUND may enter into repurchase agreements.
Under a repurchase agreement, the FUND acquires a debt instrument for a
relatively short period (usually not more than one week) subject to the
obligation of the seller to repurchase and the FUND to resell such debt
instrument at a fixed price. The resale price is in excess of the purchase price
in that it reflects an agreed-upon market interest rate effective for the period
of time during which the FUND's money is invested. The FUND's risk is limited to
the ability of the seller to pay the agreed-upon sum upon the delivery date.
When the FUND enters into a repurchase agreement, it obtains collateral having a
value at least equal to the amount of the purchase price. Repurchase agreements
can be considered loans, as defined by the 1940 Act, collateralized by the
underlying securities. The return on the collateral may be more or less than
that from the repurchase agreement. The securities underlying a repurchase
agreement will be marked to market every business day so that the value of the
collateral is at least equal to the value of the loan, including the accrued
interest earned. In evaluating whether to enter into a repurchase agreement, the
Portfolio Adviser will carefully consider the creditworthiness of the seller. If
the seller defaults and the value of the collateral securing the repurchase
agreement declines, the FUND may incur a loss.
LENDING OF PORTFOLIO SECURITIES
In order to generate additional income, the FUND may lend its portfolio
securities in an amount up to 33-1/3% of total FUND assets to broker-dealers,
major banks, or other recognized domestic institutional borrowers of securities.
No lending may be made to any companies affiliated with VCM or the Portfolio
Adviser. The borrower at all times during the loan must maintain with the FUND
cash or cash equivalent collateral or provide to the FUND an irrevocable letter
of credit equal in value at all times to at least 100% of the value of the
securities loaned. During the time portfolio securities are on loan, the
borrower pays the FUND any dividends or interest paid on such securities, and
the FUND may invest the cash collateral and earn additional income, or it may
receive an agreed-upon amount of interest income from the borrower who has
delivered equivalent collateral or a letter of credit. Loans are subject to
termination at the option of the FUND or the borrower at any time. The FUND may
pay reasonable administrative and custodial fees in connection with a loan and
may pay a negotiated portion of the income earned on the cash to the borrower or
placing broker.
<PAGE>
ILLIQUID SECURITIES
The FUND has adopted the following investment policy, which may be changed
by the vote of the Board of Trustees. The FUND will not invest in illiquid
securities if immediately after such investment more than 10% of the FUND's
total assets (taken at market value) would be invested in such securities. The
staff of the SEC defines an illiquid security as any security that cannot be
disposed of within seven days in the ordinary course of business at
approximately the amount at which the company has valued the instrument.
Historically, illiquid securities have included securities subject to
contractual or legal restrictions on resale because they have not been
registered under the Securities Act of 1933, as amended ("Securities Act"),
securities that are otherwise not readily marketable and repurchase agreements
having a maturity of longer than seven days. Securities that have not been
registered under the Securities Act are referred to as private placements or
restricted securities and are purchased directly from the issuer or in the
secondary market. Mutual funds do not typically hold a significant amount of
these restricted or other illiquid securities because of the potential for
delays on resale and uncertainty in valuation. Limitations on resale may have an
adverse effect on the marketability of portfolio securities and a mutual fund
might be unable to dispose of restricted or other illiquid securities promptly
or at reasonable prices and might thereby experience difficulty satisfying
redemptions within seven days. A mutual fund might also have to register such
restricted securities in order to dispose of them resulting in additional
expense and delay. Adverse market conditions could impede such a public offering
of securities.
In recent years, however, a large institutional market has developed for
certain securities that are not registered under the Securities Act including
repurchase agreements, commercial paper, foreign securities, municipal
securities and corporate bonds and notes. Institutional investors depend on an
efficient institutional market in which the unregistered security can be readily
resold or on an issuer's ability to honor a demand for repayment. The fact that
there are contractual or legal restrictions on resale to the general public or
to certain institutions may not be indicative of the liquidity of such
investments.
The FUND may invest up to 10% of its total assets in restricted securities
issued under Section 4(2) of the Securities Act, which exempts from registration
"transactions by an issuer not involving any public offering." Section 4(2)
instruments are restricted in the sense that they can only be resold through the
issuing dealer and only to institutional investors; they cannot be resold to the
general public without registration.
The SEC has adopted Rule 144A, which allows a broader institutional
trading market for securities otherwise subject to restriction on resale to the
general public. Rule 144A establishes a "safe harbor" from the registration
requirements of the Securities Act applicable to resales of certain securities
to qualified institutional buyers. FUND management anticipates that the market
for certain restricted securities such as institutional commercial paper will
expand further as a result of this new regulation and the development of
automated systems for the trading, clearance and settlement of unregistered
securities of domestic and foreign issuers, such as the PORTAL System sponsored
by the National Association of Securities Dealers, Inc. (the "NASD").
FUND management will monitor the liquidity of restricted securities in the
FUND's portfolio under the supervision of the FUND's Trustees. In reaching
liquidity decision, FUND management will consider, inter alia, the following
factors: (1) the frequency of trades and quotes for the security; (2) the number
of dealers wishing to purchase or sell the security and the number of other
potential purchasers; (3) dealer undertakings to make a market in the security
and (4) the nature of the security and the nature of the marketplace trades
(e.g., the time needed to dispose of the security, the method of soliciting
offers and the mechanics of the transfer).
<PAGE>
INVESTMENT RESTRICTIONS
Investment restrictions are fundamental policies and cannot be changed
without approval of the holders of a majority (as defined in the 1940 Act) of
the outstanding shares of the FUND. As used in the Prospectus and the Statement
of Additional Information, the term "majority of the outstanding shares" of the
FUND means, respectively, the vote of the lesser of (i) 67% or more of the
shares of the FUND present at a meeting, if the holders of more than 50% of the
outstanding shares of the FUND are present or represented by proxy, or (ii) more
than 50% of the outstanding shares of the FUND. The following are the FUND's
investment restrictions set forth in their entirety.
1. The FUND, a non-diversified management investment company, at the close
of each quarter of the FUND's taxable year, has the following
restrictions: (a) with respect to 50% of the FUND's total assets, the FUND
may not invest more than 5% of its total assets, at market value, in the
securities of one issuer (except the securities of the U.S. Government,
its agencies and instrumentalities) and (b) with respect to the other 50%
of the FUND's total assets, the FUND may not invest more than 25% of the
market value of its total assets in a single issuer (except the securities
of the U.S. Government, its agencies and instrumentalities). These two
restrictions, hypothetically, could give rise to the FUND having
securities, other than U.S. Government securities, of as few as twelve
issuers.
2. The FUND will not purchase a security if, as a result: (a) it would own
more than 10% of any class or of the outstanding voting securities of any
single company; (b) more than 5% of its total assets would be invested in
the securities of companies (including predecessors) that have been in
continuous operation for less than 3 years; (c) more than 25% of its total
assets would be concentrated in companies within any one industry (except
that this restriction does not apply to U.S. Government securities); or
(d) more than 5% of net assets would be invested in warrants or rights.
(Included within that amount, but not to exceed 2% of the value of the
FUND's net assets, may be warrants which are not listed on the New York or
American Stock Exchanges.)
3. The FUND may borrow money from a bank solely for temporary or emergency
purposes (but not in an amount equal to more than 20% of the market value
of its total assets). This does not preclude the FUND from obtaining such
short-term credit as may be necessary for the clearance of purchases and
sales of its portfolio securities. The FUND will not purchase additional
securities while the amount of any borrowings is in excess of 5% of the
market value of its total assets.
4. The FUND will not make loans of money or securities except (i) through
repurchase agreements, (ii) through loan participations, and (iii) through
the lending of its portfolio securities as described in the Prospectus and
in this Statement of Additional Information.
5. The FUND may not invest more than 10% of its total assets in the
securities of other investment companies or purchase more than 3% of any
other investment company's voting securities, except as they may be
acquired as part of a merger, consolidation or acquisition of assets.
6. The FUND may not pledge, mortgage or hypothecate its assets, except
that to secure borrowings permitted by Restriction 3 above, the FUND may
pledge securities having a value at the time of pledge not exceeding 10%
of the market value of the FUND's total assets. Collateral arrangements
with respect to the FUND's permissible futures transactions, including
initial and variation margin, are not considered to be a pledge of assets
for purposes of this restriction.
7. The FUND may not buy any securities or other property on margin (except
for the deposit of initial or variation margin in connection with hedging
and risk management transactions and for such short term credits as are
necessary for the clearance of transactions) or engage in short sales.
8. The FUND may not invest in companies for the purpose of exercising
control or management.
<PAGE>
9. The FUND may not underwrite securities issued by others except to the
extent that the FUND may be deemed an underwriter when purchasing or
selling portfolio securities.
10. The FUND may not purchase or retain securities of any issuer (other
than the shares of the FUND) if to the FUND's knowledge, those officers
and Trustees of the FUND and the officers and directors of VCM or the
Portfolio Adviser who individually own beneficially more than 1/2 of 1% of
the outstanding securities of such issuer, together own beneficially more
than 5% of such outstanding securities.
11. The FUND may not purchase or sell real property (including limited
partnership interests, but excluding readily marketable securities of
companies which invest in real estate).
12. The FUND may not invest directly in oil, gas, or other mineral
exploration or development programs or leases.
13. The FUND may not issue senior securities.
In order to permit the sale of shares of the FUND in certain states, the
FUND may make commitments more restrictive than the restrictions described
above. Should the FUND determine that any such commitment is no longer in the
best interests of the FUND and its shareholders it will revoke the commitment by
terminating sales of its shares in the state(s) involved.
Percentage restrictions apply at the time of acquisition and any
subsequent change in percentages due to changes in market value of portfolio
securities or other changes in total assets will not be considered a violation
of such restrictions.
PORTFOLIO TRANSACTIONS
All orders for the purchase or sale of portfolio securities are placed on
behalf of the FUND by the Portfolio Adviser subject to the supervision of VCM
and the Trustees and pursuant to authority contained in the Investment Advisory
Contract between the FUND and VCM, and the Sub-Advisory Agreement between VCM
and the Portfolio Adviser. In selecting such brokers or dealers, the Portfolio
Adviser will consider various relevant factors, including, but not limited to
the best net price available, the size and type of the transaction, the nature
and character of the markets for the security to be purchased or sold, the
execution efficiency, settlement capability, financial condition of the
broker-dealer firm, the broker-dealer's execution services rendered on a
continuing basis and the reasonableness of any commissions.
In addition to meeting the primary requirements of execution and price,
brokers or dealers may be selected who provide research services, or statistical
material or other services to the FUND or to the Portfolio Adviser for the
FUND's use, which in the opinion of the Trustees, are reasonable and necessary
to the FUND's normal operations. Those services may include economic studies,
industry studies, security analysis or reports, sales literature and statistical
services furnished either directly to the FUND or to the Portfolio Adviser. Such
allocation shall be in such amounts as VCM or the Portfolio Adviser shall
determine and the Portfolio Adviser shall report regularly to VCM who will in
turn report to the Trustees on the allocation of brokerage for such services.
The receipt of research from broker-dealers may be useful to the Portfolio
Adviser in rendering investment management services to its other clients, and
conversely, such information provided by brokers or dealers who have executed
orders on behalf of the Portfolio Adviser's other clients may be useful to the
Portfolio Adviser in carrying out its obligations to the FUND. The receipt of
such research may not reduce the Portfolio Adviser's normal independent research
activities.
<PAGE>
The Portfolio Adviser is authorized, subject to best price and execution,
to place portfolio transactions with brokerage firms that have provided
assistance in the distribution of shares of the FUND and are authorized to use
Federated Securities Corp. ("the Distributor"), and the Portfolio Adviser or an
affiliated broker-dealer on an agency basis, to effect a substantial amount of
the portfolio transactions which are executed on the New York or American Stock
Exchanges, Regional Exchanges and Foreign Exchanges where relevant, or which are
traded in the Over-the-Counter market. Any profits resulting from portfolio
transactions earned by the Distributor as a result of FUND transactions will
accrue to the benefit of the shareholders of the Distributor who are also
shareholders of VCM. The Investment Advisory Contract does not provide for any
reduction in the management fee as a result of profits resulting from brokerage
commissions effected through the Distributor. In addition, the Sub-Advisory
Agreement between VCM and the Portfolio Adviser does not provide for any
reduction in the advisory fees as a result of profits resulting from portfolio
transactions effected through the Portfolio Adviser or an affiliated brokerage
firm. For the fiscal year ended September 30, 1997, and for the period from May
1, 1996 through September 30, 1996, and for the fiscal years ended April 30,
1996 and 1995, the FUND paid no brokerage commissions. For the period from
August 12, 1993 (commencement of operations) to April 30, 1994, the FUND paid no
brokerage commissions.
The Trustees have adopted certain procedures incorporating the standards
of Rule 17e-1 issued under the 1940 Act which requires that the commissions paid
to the Distributor or to the Portfolio Adviser or an affiliated broker-dealer
must be "reasonable and fair compared to the commission, fee or other
remuneration received or to be received by other brokers in connection with
comparable transactions involving similar securities during a comparable period
of time." The Rule and the procedures also contain review requirements and
require VCM to furnish reports to the Trustees and to maintain records in
connection with such reviews.
Brokers or dealers who execute portfolio transactions on behalf of the
FUND may receive commissions which are in excess of the amount of commissions
which other brokers or dealers would have charged for effecting such
transactions; provided, VCM determines in good faith that such commissions are
reasonable in relation to the value of the brokerage and/or research services
provided by such executing brokers or dealers viewed in terms of a particular
transaction or VCM's overall responsibilities to the FUND.
It may happen that the same security will be held by other clients of VCM
or of the Portfolio Adviser. When the other clients are simultaneously engaged
in the purchase or sale of the same security, the prices and amounts will be
allocated in accordance with a formula considered by VCM to be equitable to
each, taking into consideration such factors as size of account, concentration
of holdings, investment objectives, tax status, cash availability, purchase
cost, holding period and other pertinent factors relative to each account. In
some cases this system could have a detrimental effect on the price or volume of
the security as far as the FUND is concerned. In other cases, however, the
ability of the FUND to participate in volume transactions will produce better
executions for the FUND.
For the fiscal year ended September 30, 1997, and for the period from May
1, 1996 through September 30, 1996, and for the fiscal years ended April 30,
1996 and 1995, the FUND's annual rates of portfolio turnover were approximately
163%, 25%, 275%, and 170%, respectively.
COMPUTATION OF NET ASSET VALUE
The net asset value of the FUND is determined at 4:00 p.m. (Eastern Time)
on each day that the New York Exchange is open for business and on such other
days as there is sufficient trading in the FUND's securities to affect
materially the net asset value per share of the FUND. The FUND will be closed on
New Year's Day, Presidents' Day, Good Friday, Martin Luther King Day, Memorial
Day, Independence Day, Labor Day, Thanksgiving Day, and Christmas Day.
<PAGE>
DETERMINING MARKET VALUE OF SECURITIES
Market or fair values of the FUND's portfolio securities are determined as
follows:
o according to the last reported sales price on a recognized
securities exchange, if available. (If a security is traded on more
than one exchange, the price on the primary market for that
security, as determined by the Adviser or sub-adviser, is used.);
o according to the last reported bid price, if no sale on the
recognized exchange is reported or if the security is traded
over-the-counter;
o for short-term obligations, according to the prices furnished by an
independent pricing service, except that short-term obligations with
remaining maturities of 60 days or less at the time of purchase, may
be valued at amortized cost; or
o 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 and may consider: institutional trading in
similar groups of securities; yield; quality ; coupon rate; maturity; type of
issue; trading characteristics; and other market data.
PERFORMANCE INFORMATION
For purposes of quoting and comparing the performance of the FUND to that
of other mutual funds and to stock or other relevant indices in advertisements
or in reports to Shareholders, performance will be stated both in terms of total
return and in terms of yield. The total return basis combines principal and
dividend income changes for the periods shown. Principal changes are based on
the difference between the beginning and closing net asset values for the period
and assume reinvestment of dividends and distributions paid by the FUND.
Dividends and distributions are comprised of net investment income and net
realized capital gains. Under the rules of the Commission, funds advertising
performance must include total return quotes calculated according to the
following formula:
P(1 + T)n = ERV
Where P = a hypothetical initial payment of $1,000
T = average annual total return
n = number of years (1, 5 or 10)
ERV = ending redeemable value of a hypothetical $1,000
payment made at the beginning of the 1, 5 or 10
year periods or at the end of the 1, 5 or 10 year
periods (or fractional portion thereof)
Under the foregoing formula the time periods used in advertising will be
based on rolling calendar quarters, updated to the last day of the most recent
quarter prior to submission of the advertising for publication, and will cover
one, five, and ten year periods or a shorter period dating from the
effectiveness of the FUND's registration statement. In calculating the ending
redeemable value, the pro rata share of the account opening fee is deducted from
the initial $1,000 investment and all dividends and distributions by the FUND
are assumed to have been reinvested at net asset value as described in the
prospectus on the reinvestment dates during the period. Total return, or "T" in
the formula above, is computed by finding the average annual compounded rates of
return over the 1, 5 and 10 year periods (or fractional portion thereof) that
would equate the initial amount invested to the ending redeemable value.
<PAGE>
The FUND's aggregate annualized total rate of return, reflecting the
initial investment and reinvestment of all dividends and distributions for the
fiscal year ended September 30, 1997, and the period from May 1, 1996 through
September 30, 1996 was 9.59% and 7.27%, respectively. For the fiscal year ended
April 30, 1996 and since inception (August 12, 1993 through September 30, 1997)
the FUND's aggregate annualized total rates of return were 6.86% and 7.63%,
respectively.
The FUND may also from time to time include in such advertising a total
return figure that is not calculated according to the formula set forth above in
order to compare more accurately the FUND's performance with other measures of
investment return. For example, in comparing the FUND's total return with data
published by Lipper Analytical Services, Inc. and Morningstar, Inc., or similar
independent services or financial publications, the FUND calculates its
aggregate total return for the specified periods of time by assuming the
reinvestment of each dividend or other distribution at net asset value on the
reinvestment date. Percentage increases are determined by subtracting the
initial net asset value of the investment from the ending net asset value and by
dividing the remainder by the beginning net asset value. The FUND does not, for
these purposes, deduct the pro rata share of the account opening fee, which was
in effect from August, 1993 to 1994, from the initial value invested. The FUND
will, however, disclose the pro rata share of the account opening fee and will
disclose that the performance data does not reflect such non-recurring charge
and that inclusion of such charge would reduce the performance quoted. Such
alternative total return information will be given no greater prominence in such
advertising than the information prescribed under the Commission's rules.
In addition to the total return quotations discussed above, the FUND may
advertise its yield based on a 30-day (or one month) period ended on the date of
the most recent balance sheet included in the FUND's Post-Effective Amendment to
its Registration Statement, computed by dividing the net investment income per
share earned during the period by the maximum offering price per share on the
last day of the period, according to the following formula:
YIELD = 2[( a-b +1)6-1]
cd
Where: a = dividends and interest earned during the period.
b = expenses accrued for the period (net of reimbursements).
c = the average daily number of shares outstanding during the
period that were entitled to receive dividends.
d = the maximum offering price per share on the last day of
the period.
Under this formula, interest earned on debt obligations for purposes of
"a" above, is calculated by (1) computing the yield to maturity of each
obligation held by the FUND based on the market value of the obligation
(including actual accrued interest) at the close of business on the last day of
each month, or, with respect to obligations purchased during the month, the
purchase price (plus actual accrued interest), (2) dividing that figure by 360
and multiplying the quotient by the market value of the obligation (including
actual accrued interest as referred to above) to determine the interest income
on the obligation for each day of the subsequent month that the obligation is in
the FUND's portfolio (assuming a month of 30 days) and (3) computing the total
of the interest earned on all debt obligations and all dividends accrued on all
equity securities during the 30-day or one month period. In computing dividends
accrued, dividend income is recognized by accruing 1/360 of the stated dividend
rate of a security each day that the security is in the FUND's portfolio. For
purposes of "b" above, Rule 12b-1 expenses are included among the expenses
accrued for the period. Any amounts representing sales charges will not be
included among these expenses; however, the FUND will disclose the pro rata
share of the account opening fee. Undeclared earned income, computed in
accordance with generally accepted accounting principles, may be subtracted from
the maximum offering price calculation required pursuant to "d" above.
<PAGE>
Any quotation of performance stated in terms of yield will be given no
greater prominence than the information prescribed under the Commission's rules.
In addition, all advertisements containing performance data of any kind will
include a legend disclosing that such performance data represents past
performance and that the investment return and principal value of an investment
will fluctuate so that an investor's shares, when redeemed, may be worth more or
less than their original cost. The FUND'S yield for the 30-day period ended
September 30, 1997 was 4.18%.
ADDITIONAL PURCHASE AND REDEMPTION INFORMATION
The FUND reserves the right to close an account that has dropped below
$1,000 in value for a period of three months or longer other than as a result of
a decline in the net asset value per share. Shareholders are notified at least
60 days prior to any proposed redemption and are invited to add to their account
if they wish to continue as shareholders of the FUND, however, the FUND does not
presently contemplate making such redemptions and the FUND will not redeem any
shares held in tax-sheltered retirement plans.
The FUND has elected to be governed by Rule 18f-1 of the 1940 Act, under
which the FUND is obligated to redeem the shares of any shareholder solely in
cash up to the lesser of 1% of the net asset value of the FUND or $250,000
during any 90-day period. Should any shareholder's redemption exceed this
limitation, the FUND can, at its sole option, redeem the excess in cash or in
portfolio securities. Such securities would be selected solely by the FUND and
valued as in computing net asset value. In these circumstances a shareholder
selling such securities would probably incur a brokerage charge and there can be
no assurance that the price realized by a shareholder upon the sale of such
securities will not be less than the value used in computing net asset value for
the purpose of such redemption.
TAX MATTERS
The following is only a summary of certain additional tax considerations
generally affecting the FUND and its shareholders that are not described in the
Prospectus. No attempt is made to present a detailed explanation of the tax
treatment of the FUND or its shareholders, and the discussion here and in the
Prospectus is not intended as a substitute for careful tax planning.
QUALIFICATION AS A REGULATED INVESTMENT COMPANY
The FUND has elected to be taxed as a regulated investment company under
Subchapter M of the Internal Revenue Code of 1986, as amended (the "Code"). As a
regulated investment company, the FUND is not subject to Federal income tax on
the portion of its net investment income (i.e., taxable interest, dividends and
other taxable ordinary income, net of expenses, including foreign currency gains
and loss) and capital gain net income (i.e., the excess of capital gains over
capital losses) that it distributes to shareholders, provided that it
distributes at least 90% of its "investment company taxable income" (i.e., net
investment income and the excess of net short-term capital gain over net
long-term capital loss) for the taxable year (the "Distribution Requirement"),
and satisfies certain other requirements of the Code that are described below.
Please note that the below-listed and defined "Short-Short Gain Test" has been
repealed pursuant to the Taxpayer Relief Act of 1997, effective for taxable
years beginning after the date of enactment. For purposes of the FUND, the
effective date of the repeal will be October 1, 1997. Distributions by the FUND
made during the taxable year or, under specified circumstances, within twelve
months after the close of the taxable year, will be considered distributions of
income and gains of the taxable year and can therefore satisfy the Distribution
Requirement.
<PAGE>
In addition to satisfying the Distribution Requirement, a regulated
investment company with investment objectives, policies and restrictions similar
to the FUND must (1) derive at least 90% of its gross income from dividends,
interest, certain payments with respect to securities loans, gains from the sale
or other disposition of stock or securities and other income (including but not
limited to gains from options, futures or forward contracts) derived with
respect to its business of investing in such stock or securities (the "Income
Requirement"); and (2) derive less than 30% of its gross income (exclusive of
certain gains on designated hedging transactions that are offset by realized or
unrealized losses on offsetting positions) from the sale or other disposition of
stock, or securities or foreign currencies (or options, futures or forward
contracts thereon) held for less than three months (the "Short-Short Gain
Test"). Because of the Short-Short Gain Test, the FUND may have to limit the
sale of appreciated securities that it has held for less than three months.
However, the Short-Short Gain Test will not prevent the FUND from disposing of
investments at a loss, since the recognition of a loss before the expiration of
the three-month holding period is disregarded for this purpose. Interest
(including original issue discount) received by the FUND at maturity or upon the
disposition of a security held for less than three months will not be treated as
gross income derived from the sale or other disposition of such security within
the meaning of the Short-Short Gain Test. However, income attributable to
realized market appreciation will be treated as gross income from the sale or
other disposition of securities for this purpose. At September 30, 1997, the
FUND had a net capital loss carryover of $354,460, which is available through
the year 2003 to offset future capital gains.
In general, gain or loss recognized by the FUND on the disposition of an
asset will be a capital gain or loss. However, gain recognized on the
disposition of a debt obligation purchased by the FUND at a market discount
(generally, at a price less than its principal amount) will be treated as
ordinary income to the extent of the portion of the market discount which
accrued while the FUND held the debt obligation.
Generally, for purposes of determining whether capital gain or loss
recognized by the FUND on the disposition of an asset is long-term or
short-term, the holding period of the asset may be affected if (i) the asset is
used to close a "short sale" (which includes for certain purposes the
acquisition of a put option) or is substantially identical to another asset so
used, (ii) the asset is otherwise held by the FUND as part of a "straddle"
(which term generally excludes a situation where the asset is stock and the FUND
grants a qualified covered call option (which, among other things, must not be
deep-in-the-money) with respect thereto) or (iii) the asset is stock and the
FUND grants an in-the-money qualified covered call option with respect thereto.
However, for purposes of the Short-Short Gain Test, the holding period of the
asset disposed of may be reduced only in the case of clause (i) above. In
addition, the FUND may be required to defer the recognition of a loss on the
disposition of an asset held as part of a straddle to the extent of any
unrecognized gain on the offsetting position.
Any gain recognized by the FUND on the lapse of, or any gain or loss
recognized by the FUND from a closing transaction with respect to, an option
written by the FUND will be treated as a short-term capital gain or loss. For
purposes of the Short-Short Gain Test, the holding period of an option written
by the FUND will commence on the date it is written and end on the date it
lapses or the date a closing transaction is entered into. Accordingly, the FUND
may be limited in its ability to write options which expire within three months
and to enter into closing transactions at a gain within three months of the
writing of options.
Certain transactions that may be engaged in by the FUND (such as regulated
futures contracts and options on stock indexes and futures contracts) will be
subject to special tax treatment as "Section 1256 contracts." Section 1256
contracts are treated as if they are sold for their fair market value on the
last business day of the taxable year, even though a taxpayer's obligations (or
rights) under such contract have not terminated (by delivery, exercise, entering
into a closing transaction or otherwise) as of such date. Any gain or loss
recognized as a consequence of the year-end deemed disposition of Section 1256
contracts is taken into account for the taxable year together with any other
gain or loss that was previously recognized upon the termination of Section 1256
contracts during that taxable year. Any capital gain or loss for the taxable
year with respect to Section 1256 contracts (including any capital gain or loss
arising as a consequence of the year-end deemed sale of such contracts) is
<PAGE>
generally treated as 60% long-term capital gain or loss and 40% short-term
capital gain or loss. The FUND may elect not to have this special tax treatment
apply to Section 1256 contracts that are part of a "mixed straddle" with other
investments of the FUND that are not Section 1256 contracts. The Internal
Revenue Service has held in several private rulings and Treasury Regulations now
provide that gains arising from Section 1256 contracts will be treated for
purposes of the Short-Short Gain Test as being derived from securities held for
not less than three months if the gains arise as a result of a constructive sale
under Code Section 1256.
Treasury Regulations permit a regulated investment company, in determining
its investment company taxable income and net capital gain (i.e., the excess of
net long-term capital gain over net short-term capital loss) for any taxable
year, to elect (unless it has made a taxable year election for excise tax
purposes as discussed below) to treat all or any part of any net capital loss,
or any net long-term capital loss incurred after October 31 as if they had been
incurred in the succeeding year.
In addition to satisfying the requirements described above, the FUND must
satisfy an asset diversification test in order to qualify as a regulated
investment company. Under this test, at the close of each quarter of the FUND's
taxable year, at least 50% of the value of the FUND's assets must consist of
cash and cash items, U.S. Government securities, securities of other regulated
investment companies, and securities of other issuers (as to which the FUND has
not invested more than 5% of the value of the FUND's total assets in securities
of such issuer and as to which the FUND does not hold more than 10% of the
outstanding voting securities of such issuer), and no more than 25% of the value
of its total assets may be invested in the securities of any one issuer (other
than U.S. Government securities and securities of other regulated investment
companies), or in two or more issuers which the FUND controls and which are
engaged in the same or similar trades or businesses. Generally, options (call or
put) with respect to a security are treated as issued by the issuer of the
security and not by the issuer of the option.
If for any taxable year the FUND does not qualify as a regulated
investment company, all of its taxable income (including its net capital gain)
will he subject to tax at regular corporate rates without any deduction for
distributions to shareholders, and such distributions will be taxable as
ordinary dividends to the extent of the FUND's current and accumulated earnings
and profits. Such distributions generally will be eligible for the
dividends-received deduction in the case of corporate shareholders.
EXCISE TAX ON REGULATED INVESTMENT COMPANIES
A 4% non-deductible excise tax is imposed on a regulated investment
company that fails to distribute in each calendar year an amount equal to 98% of
ordinary taxable income for the calendar year and 98% of capital gain net income
for the one-year period ended on October 31 of such calendar year (or, at the
election of a regulated investment company having a taxable year ending November
30 or December 31, for its taxable year (a "taxable year election")). The
balance of such income must be distributed during the next calendar year. For
the foregoing purposes, a regulated investment company is treated as having
distributed any amount on which it is subject to income tax for any taxable year
ending in such calendar year.
For purposes of the excise tax, a regulated investment company shall (1)
reduce its capital gain net income (but not below its net capital gain) by the
amount of any net ordinary loss for the calendar year and (2) exclude foreign
currency gains and losses incurred after October 31 of any year (or after the
end of its taxable year if it has made a taxable year election) in determining
the amount of ordinary taxable income for the current calendar year (and,
instead, include such gains and losses in determining ordinary taxable income
for the succeeding calendar year).
The FUND intends to make sufficient distributions or deemed distributions
of its ordinary taxable income and capital gain net income prior to the end of
each calendar year to avoid liability for the excise tax. However, investors
should note that the FUND may in certain circumstances be required to liquidate
portfolio investments to make sufficient distributions to avoid excise tax
liability.
<PAGE>
FUND DISTRIBUTIONS
The FUND anticipates distributing substantially all of its investment
company taxable income for each taxable year. Such distributions will be taxable
to shareholders as ordinary income and treated as dividends for Federal income
tax purposes, but they will not qualify for the 70% dividends-received deduction
for corporations.
The FUND may either retain or distribute to shareholders its net capital
gain for each taxable year. The FUND currently intends to distribute any such
amounts. Net capital gain distributed and designated as a capital gain dividend
will be taxable to shareholders as long-term capital gain, regardless of the
length of time the shareholder has held his shares or whether such gain was
recognized by the FUND prior to the date on which the shareholder acquired his
shares.
Distributions by the FUND that do not constitute ordinary income dividends
or capital gain dividends will be treated as a return of capital to the extent
of (and in reduction of) the shareholder's tax basis in his shares; any excess
will be treated as gain from the sale of his shares, as discussed below.
Distributions by the FUND will be treated in the manner described above
regardless of whether such distributions are paid in cash or reinvested in
additional shares of the FUND (or of another fund). Shareholders receiving a
distribution in the form of additional shares will be treated as receiving a
distribution in an amount equal to the fair market value of the shares received,
determined as of the reinvestment date. In addition, if the net asset value at
the time a shareholder purchases shares of the FUND reflects undistributed net
investment income or recognized capital gain net income, or unrealized
appreciation in the value of the assets of the FUND, distributions of such
amounts will be taxable to the shareholder as dividends in the manner described
above, although such distributions economically constitute a return of capital
to the shareholder.
Ordinarily, shareholders are required to take distributions by the FUND
into account in the year in which the distributions are made. However, dividends
declared in October, November or December of any year and payable to
shareholders of record on a specified date in such a month will be deemed to
have been received by the shareholders (and made by the FUND) on December 31 of
such calendar year if such dividends are actually paid in January of the
following year. Shareholders will be advised annually as to the U.S. Federal
income tax consequences of distributions made (or deemed made) during the year.
The FUND will be required in certain cases to withhold and remit to the
U.S. Treasury 31% of ordinary income dividends and capital gain dividends, and
the proceeds of redemption of shares, paid to any shareholder (1) who has
provided either an incorrect tax identification number or no number at all, (2)
who is subject to backup withholding by the Internal Revenue Service for failure
to report the receipt of interest or dividend income properly, or (3) who has
failed to certify to the FUND that it is not subject to backup withholding or
that it is a corporation or other "exempt recipient."
SALE OR REDEMPTION OF SHARES
A shareholder will recognize gain or loss on the sale or redemption of
shares of the FUND in an amount equal to the difference between the proceeds of
the sale or redemption and the shareholder's adjusted tax basis in the shares.
All or a portion of any loss so recognized may be disallowed if the shareholder
purchases other shares of the FUND within 30 days before or after the sale or
redemption. In general, any gain or loss arising from (or treated as arising
from) the sale or redemption of shares of the FUND will be considered capital
gain or loss and will be long-term capital gain or loss if the shares were held
for longer than one year. However, any capital loss arising from the sale or
redemption of shares held for six months or less will be treated as a long-term
capital loss to the extent of the amount of capital gain dividends received on
such shares. For this purpose, the special holding period rules of Code Section
246(c)(3) and (4) generally will apply in determining the holding period of
shares. Long-term capital gains of noncorporate taxpayers are currently taxed at
a maximum rate 11.6% lower than the maximum rate applicable to ordinary income.
Capital losses in any year are deductible only to the extent of capital gains
plus, in the case of a noncorporate taxpayer, $3,000 of ordinary income.
<PAGE>
FOREIGN SHAREHOLDERS
Taxation of a shareholder who, as to the United States, is a nonresident
alien individual, foreign trust or estate, foreign corporation, or foreign
partnership ("foreign shareholder"), depends on whether the income from the FUND
is "effectively connected" with a U.S. trade or business carried on by such
shareholder.
If the income from the FUND is not effectively connected with a U.S. trade
or business carried on by a foreign shareholder, ordinary income dividends will
be subject to U.S. withholding tax at the rate of 30% (or lower applicable
treaty rate) upon the gross amount of the dividend. Furthermore, such a foreign
shareholder may be subject to U.S. withholding tax at the rate of 30% (or lower
treaty rate) on the gross income resulting from the FUND's election to treat any
foreign taxes paid by it as paid by its shareholders, but may not be allowed a
deduction against this gross income or a credit against this U.S. withholding
tax for the foreign shareholder's pro rata share of such foreign taxes which it
is treated as having been paid. Such a foreign shareholder would generally be
exempt from U.S. Federal income tax on gains realized on the sale of shares of
the FUND and capital gain dividends.
If the income from the FUND is effectively connected with a U.S. trade or
business carried on by a foreign shareholder, then ordinary income dividends,
capital gain dividends and any gains realized upon the sale of shares of the
FUND will be subject to U.S. Federal income tax at the rates applicable to U.S.
citizens or domestic corporations.
In the case of foreign noncorporate shareholders, the FUND may be required
to withhold U.S. Federal income tax at a rate of 31% on distributions that are
otherwise exempt from withholding tax (or taxable at a reduced treaty rate)
unless such shareholders furnish the FUND with proper notification of its
foreign status.
The tax consequences to a foreign shareholder entitled to claim the
benefits of an applicable tax treaty may be different from those described
herein. Foreign shareholders are urged to consult their own tax advisers with
respect to the particular tax consequences to them of an investment in the FUND,
including the applicability of foreign taxes.
EFFECT OF FUTURE LEGISLATION; LOCAL TAX CONSIDERATIONS
The foregoing general discussion of U.S. Federal income tax consequences
is based on the Code and the Treasury Regulations issued thereunder as in effect
on the date of this Statement of Additional Information. Future legislative or
administrative changes or court decisions may significantly change the
conclusions expressed herein, and any such changes or decisions may have a
retroactive effect with respect to the transactions contemplated herein.
Rules of state and local taxation of ordinary income dividends and capital
gain dividends from regulated investment companies often differ from the rules
for U.S. Federal income taxation described above. Shareholders are urged to
consult their tax advisers as to the consequences of these and other state and
local tax rules affecting an investment in the FUND under their particular
circumstances.
<PAGE>
BLANCHARD FUNDS MANAGEMENT
Officers and Trustees are listed with their addresses, birthdates, and present
positions with Blanchard Funds, and principal occupations.
<TABLE>
<CAPTION>
<S> <C>
JOHN F. DONAHUE@*
FEDERATED INVESTORS TOWER
PITTSBURGH, PA CHAIRMAN AND TRUSTEE OF THE FUND; Chairman and
BIRTHDATE: JULY 28, 1924 Trustee, Federated Investors, Federated Advisers, Federated Management, and
Federated Research; Chairman and Director, Federated Research Corp. and Federated
Global Research Corp.; Chairman, Passport Research, Ltd.; Chief Executive Officer and
Director or Trustee of the Funds. Mr. Donahue is
the father of J. Christopher Donahue, Executive Vice President of the Trust.
THOMAS G. BIGLEY
15 OLD TIMBER TRAIL
PITTSBURGH, PA
BIRTHDATE: FEBRUARY 3, 1934 TRUSTEE OF THE FUND; Chairman of the Board,
Children's Hospital of Pittsburgh
formerly, Senior Partner, Ernst &
Young LLP; Director, MED 3000 Group,
Inc.; Director, Member of Executive
Committee, University of Pittsburgh;
Director or Trustee of the Funds. .
JOHN T. CONROY, JR.
WOOD/IPC COMMERCIAL DEPARTMENT
JOHN R. WOOD AND ASSOCIATES,
INC., REALTORS
3255 TAMIAMI TRAIL NORTH
NAPLES, FL TRUSTEE OF THE FUND; President, Investment
BIRTHDATE: JUNE 23, 1937 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; Director or Trustee of the Funds.
WILLIAM J. COPELAND
ONE PNC PLAZA - 23RD FLOOR
PITTSBURGH, PA TRUSTEE OF THE FUND; Director and Member of the
BIRTHDATE: JULY 4, 1918 Executive Committee, Michael Baker, Inc.; formerly,
Vice Chairman and Director, PNC Bank, N.A., and
PNC Bank Corp. and Director, Ryan Homes, Inc.; Director or Trustee of the Funds.
JAMES E. DOWD
571 HAYWARD MILL ROAD
CONCORD, MA TRUSTEE OF THE FUND; Attorney-at-law; Director, The
BIRTHDATE: MAY 18, 1922 Emerging Germany Fund, Inc.; Director or Trustee of the Funds.
<PAGE>
LAWRENCE D. ELLIS, M.D.*
3471 FIFTH AVENUE, SUITE 1111
PITTSBURGH, PA TRUSTEE OF THE FUND; Professor of Medicine,
BIRTHDATE: OCTOBER 11, 1932 University of Pittsburgh; Medical Director, University of Pittsburgh Medical
Center - Downtown; Member, Board of Directors, University of
Pittsburgh Medical Center; formerly, Hematologist,
Oncologist, and Internist, Presbyterian and Montefiore Hospitals;
Director or Trustee of the Funds.
EDWARD L. FLAHERTY, JR.@
MILLER AMENT HENNY & KOCHUBA
205 ROSS STREET TRUSTEE OF THE FUND; Attorney of Counsel, Miller,
PITTSBURGH, PA Ament, Henny & Kochuba; Director, Eat'N Park
BIRTHDATE: JUNE 18, 1924 Restaurants, Inc.; formerly, Counsel, Horizon Financial, F.A.,
Western Region; Director or Trustee of the Funds. .
EDWARD C. GONZALES*
FEDERATED INVESTORS TOWER
PITTSBURGH, PA PRESIDENT, TREASURER AND TRUSTEE OF THE FUND;
BIRTHDATE: OCTOBER 22, 1930 Vice Chairman, Treasurer, and Trustee, Federated Investors; 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; Trustee or Director of some of
the Funds; President,
Executive Vice President and Treasurer of some of the Funds.
PETER E. MADDEN
ONE ROYAL PALM WAY
100 ROYAL PALM WAY
PALM BEACH, FL TRUSTEE OF THE FUND; Consultant; Former State
BIRTHDATE: MARCH 16, 1942 Representative, Commonwealth of Massachusetts; formerly, President, State Street
Bank and Trust Company and State Street Boston Corporation; Director or Trustee
of the Funds.
JOHN E. MURRAY, JR., J.D., S.J.D.
DUQUESNE UNIVERSITY
PITTSBURGH, PA TRUSTEE OF THE FUND; President, Law Professor,
BIRTHDATE: DECEMBER 20, 1932 Duquesne University; Consulting Partner, Mollica & Murray; Director or Trustee
of the Funds.
<PAGE>
WESLEY W. POSVAR
1202 CATHEDRAL OF LEARNING
UNIVERSITY OF PITTSBURGH
PITTSBURGH, PA TRUSTEE OF THE FUND; Professor, International
BIRTHDATE: SEPTEMBER 14, 1925 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; Director
or Trustee of the Funds. .
MARJORIE P. SMUTS
4905 BAYARD STREET
PITTSBURGH, PA TRUSTEE OF THE FUND; Public
BIRTHDATE: JUNE 21, 1935 Relations/Marketing/Conference Planning; Director or Trustee of the Funds.
J. CHRISTOPHER DONAHUE
FEDERATED INVESTORS TOWER
PITTSBURGH, PA EXECUTIVE VICE PRESIDENT OF THE FUND; President
BIRTHDATE: APRIL 11, 1949 and Trustee, Federated Investors, 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; President or Executive Vice President
of the Funds; Director or Trustee of some of the Funds. Mr. Donahue is the son of
John F. Donahue, Chairman and Trustee of the Trust.
JOHN W. MCGONIGLE
FEDERATED INVESTORS TOWER
PITTSBURGH, PA EXECUTIVE VICE PRESIDENT, AND SECRETARY
BIRTHDATE: OCTOBER 26, 1938 OF THE FUND; Executive Vice President, Secretary, and Trustee,
Federated Investors; 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.;
Executive Vice President and Secretary of the Funds; Treasurer of some of the Funds.
<PAGE>
RICHARD B. FISHER
FEDERATED INVESTORS TOWER
PITTSBURGH, PA VICE PRESIDENT OF THE FUND; Executive Vice
BIRTHDATE: MAY 17, 1923 President and Trustee, Federated
Investors, Chairman and Director,
Federated Securities Corp.; President
or Vice President of some of the
Funds; Director or Trustee of some of
the Funds.
JOESEPH S. MACHI
FEDERATED INVESTORS TOWER
PITTSBURGH, PA VICE PRESIDENT AND ASSISTANT TREASURER; Vice
BIRTHDATE: MAY 22, 1962 President and Assistant Treasurer of some of the Funds.
</TABLE>
* This Trustee is deemed to be an "interested person" of the Trust as defined
in the Investment Company Act of 1940, as amended.
@ Member of the Executive Committee. The Executive Committee of the Board of
Trustees handles the responsibilities of the Board of Trustees between
meetings of the Board.
As referred to in the list of Trustees and Officers, "Funds" includes the
following investment companies: 111 Corcoran Funds; Arrow Funds; Automated
Government Money Trust; Blanchard Funds; Blanchard Precious Metals Fund, Inc.;
Cash Trust Series II; Cash Trust Series, Inc. ; 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 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.; First Priority Funds;
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; RIMCO Monument
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; and World Investment Series, Inc.
FUND OWNERSHIP
As of October 29, 1997, Officers and Trustees own less than 1% of the
outstanding shares of each Fund.
To the best knowledge of the FUND, as of October 29, 1997, the following
shareholders owned 5% or more of the outstanding shares of the FUND: Stephens
Inc., Little Rock, AR, for the exclusive benefit of its customers, owned
approximately 547,502 shares (12.69%), and William J.
Harnett, Waldorf, MD, owned approximately 343,023 shares (7.95%).
OFFICERS AND TRUSTEES COMPENSATION
- ------------------------------------------------------------------------------
AGGREGATE COMPENSATION TOTAL COMPENSATION PAID
NAME, POSITION FROM TO TRUSTEES FROM THE
WITH THE TRUST THE TRUST* FUND AND FUND COMPLEX**
- ------------------------------------------------------------------------------
- ------------------------------------------------------------------------------
John F. Donahue, $0 $0 for the Fund Complex
Chairman and Trustee
Thomas G. Bigley, Trustee $1,011 $3,217 for the Fund
Complex
John T. Conroy, Jr., $1,114 $3,538 for the Fund
Trustee Complex
William J. Copeland, $1,114 $3,538 for the Fund
Trustee Complex
James E. Dowd, Trustee $1,114 $3,538 for the Fund
Complex
Lawrence D. Ellis, M.D., $1,011 $3,217 for the Fund
Trustee Complex
Edward L. Flaherty, Jr., $1,114 $3,538 for the Fund
Trustee Complex
Edward C. Gonzales, $0 $0 for the Fund Complex
President and Trustee
Peter E. Madden, Trustee $1,011 $3,217 for the Fund
Complex
John E. Murray, Jr., $1,011 $3,217 for the Fund
J.D., S.J.D., Trustee Complex
Wesley W. Posvar, Trustee $1,011 $3,217 for the Fund
Complex
Marjorie P. Smuts $1,011 $3,217 for the Fund
Trustee Complex
* The aggregate compensation for the fiscal year ended 9/30/97 is provided for
the Trust which is comprised of five portfolios. **The total compensation is
provided for the Fund Complex, which consists of the Blanchard Precious Metals
Fund, The Virtus Funds, and the
Trust. The information is provided for Blanchard Funds and Blanchard Precious
Metals Fund, Inc. and The Virtus Funds for the
fiscal year ended 9/30/97.
MANAGEMENT SERVICES
MANAGER TO THE TRUST
The Trust's manager is Virtus Capital Management, Inc. ("VCM"), which is a
wholly-owned subsidiary of Signet Banking Corporation. Because of the internal
controls maintained by Signet Bank to restrict the flow of non-public
information, Fund investments are typically made without any knowledge of Signet
Bank's or its affiliates' lending relationships with an issuer.
The manager shall not be liable to the Trust, a Fund, or any shareholder
of any of the Funds 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.
MANAGEMENT FEES
For its services, VCM receives an annual management fee as described in
the prospectus. For the fiscal year ended September 30, 1997, and for the period
from May 1, 1996 through September 30, 1996, the FUND's investment management
fee paid to VCM was $169,751 and $71,788, respectively, of which $142,067 and
$71,788, respectively, was voluntarily waived. For the fiscal year ended April
30, 1996, the FUND's investment management fee paid to the prior manager and to
VCM was $132,013 and $30,642, respectively, all of which was voluntary waived.
For the fiscal years ended April 30, 1995, the FUND's investment management fee
paid to the prior manager were $127,835, all of which was voluntarily waived.
For the period from August 12, 1993 (commencement of operations) to April 30,
1994, the FUND's investment management fee paid to the prior manager was
$89,180, all of which was voluntarily waived.
PORTFOLIO MANAGEMENT SERVICES
Pursuant to a sub-advisory agreement which became effective on July 12,
1995, (the "Sub-Advisory Agreement") between VCM and United States Trust Company
of New York ("U.S. Trust"), VCM has delegated to U.S. Trust the authority and
responsibility to make and execute decisions for the FUND within the framework
of the FUND's investment policies, subject to review by VCM and the Board of
Trustees of the FUND. Under the terms of the Sub-Advisory Agreement, U.S. Trust
has discretion to purchase and sell securities, except as limited by the FUND's
investment objective, policies and restrictions.
The Sub-Advisory Agreement provides for the payment to U.S. Trust, by VCM,
of monthly compensation based on the FUND's average daily net assets for
providing investment advice to the FUND and managing the investment of assets of
the FUND. For the services to be rendered, VCM shall pay U.S. Trust a monthly
fee at the annual rate of 0.20% of the FUND's average daily net assets. For the
fiscal year ended September 30, 1997, and for the period from May 1, 1996
through September 30, 1996, the aggregate amount paid to U.S. Trust by VCM was
$45,267 and $19,145, respectively. For the fiscal year ended April 30, 1996, the
aggregate amount paid to U.S. Trust and prior sub-adviser by VCM and the prior
manager was $42,605. For the fiscal year ended April 30, 1995 and the period
from August 12, 1993 (commencement of operations) to April 30, 1994, the
aggregate amounts paid to the prior sub-adviser by the prior manager were
$34,662 and $9,758, respectively.
The Sub-Advisory Agreement dated July 12, 1995 was approved by the FUND's
Board of Trustees and the FUND's shareholders. The Sub-Advisory Agreement
provides that it may be terminated without penalty by either the FUND or U.S.
Trust at any time by the giving of 60 days' written notice to the other and
terminates automatically in the event of "assignment", as defined in the
Investment Company Act. The Sub-Advisory Agreement provides that, unless sooner
terminated, it shall continue in effect from year to year only so long as such
continuance is specifically approved at least annually by either the Board of
Trustees of the FUND or by a vote of the majority of the outstanding voting
securities of the FUND, provided, that in either event, such continuance is also
approved by the vote of the majority of the Trustees who are not parties cast in
person at a meeting called for the purpose of voting on such approval.
CUSTODIAN
Signet Trust Company is custodian for the securities and cash of the
Funds. Under the Custodian Agreement, Signet Trust Company holds the Funds'
portfolio securities in safekeeping and keeps all necessary records and
documents relating to its duties. The custodian receives a fee at an annual rate
of .05% on the first $10 million of average net assets of each of the six
respective portfolios and .025% on average net assets in excess of $10 million.
There is a $20 fee imposed on each transaction. The custodian fee received
during any fiscal year shall be at least $1,000 per Fund.
<PAGE>
ADMINISTRATIVE SERVICES
Federated Administrative Services, which is a subsidiary of Federated
Investors, provides administrative personnel and services to the Funds for the
fees set forth in the prospectus. For the fiscal year ended September 30, 1997,
and for the period from May 1, 1996 through September 30, 1996, and for the
fiscal year ended April 30, 1996, Federated Administrative Services earned
$75,000, $31,438 and $31,841, respectively, in administrative services fees, of
which $39,951, $22,290 and $0, respectively, were voluntarily waived. For the
fiscal years ended April 30, 1995 and 1994, the administrative services fees
were included as part of the Management fee.
DISTRIBUTION PLAN
The Trust has adopted a Plan for Shares of the Fund pursuant to Rule 12b-1
which was promulgated by the Securities and Exchange Commission pursuant to the
Investment Company Act of 1940. The Plan provides that the Funds' Distributor
shall act as the Distributor of shares, and it permits the payment of fees to
brokers and dealers for distribution and administrative services and to
administrators for administrative services. The Plan is designed to (i)
stimulate brokers and dealers to provide distribution and administrative support
services to the Fund and its shareholders and (ii) stimulate administrators to
render administrative support services to the Fund and its shareholders. These
services are to be provided by a representative who has knowledge of the
shareholders' particular circumstances and goals, and include, but are not
limited to: providing office space, equipment, telephone facilities, and various
personnel including clerical, supervisory, and computer, 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 regarding the
Funds; assisting clients in changing dividend options, account designations, and
addresses; and providing such other services as the Trust reasonably requests.
For the fiscal year ended September 30, 1997, and for the period from May 1,
1996 through September 30, 1996, the FUND accrued payments under the Plan
amounting to $56,584 and $23,929, respectively, all of which were voluntarily
waived. For the fiscal year ended April 30, 1996 the FUND accrued payments under
the Plan amounting to $54,218, all of which was voluntarily waived.
Other benefits which the Fund hopes to achieve through the Plan include,
but are not limited to the following: (1) an efficient and effective
administrative system; (2) a more efficient use of assets of shareholders by
having them rapidly invested in the Fund with a minimum of delay and
administrative detail; and (3) an efficient and reliable records system for
shareholders and prompt responses to shareholder requests and inquiries
concerning their accounts.
By adopting the Plan, the then Board of Trustees expected that the Fund
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 Fund in seeking to achieve its investment objectives.
By identifying potential investors in shares whose needs are served by the
FUND's objective, and properly servicing these accounts, the Fund may be able to
curb sharp fluctuations in rates of redemptions and sales.
DESCRIPTION OF THE FUND
Shareholder and Trustee Liability. The FUND is a series of an entity of
the type commonly known as a "Massachusetts business trust." Under Massachusetts
law, shareholders of such a trust may, under certain circumstances, be held
personally liable for the obligations of the trust. The FUND's Declaration of
Trust contains an express disclaimer of shareholder liability for acts or
obligations of the FUND and requires that notice of such disclaimer be given in
each agreement, obligation, or instrument entered into or executed by the FUND
or the Trustees. The Declaration of Trust provides for indemnification out of
the FUND property of any shareholder held personally liable for the obligations
of the FUND.
<PAGE>
The Declaration of Trust also provides that the FUND shall, upon request,
assume the defense of any claim made against any shareholders for any act or
obligation of the FUND and satisfy any judgment thereon. Thus, the risk of a
shareholder incurring financial loss on account of shareholder liability is
limited to circumstances in which the FUND itself would be unable to meet its
obligations. VCM believes that, in view of the above, the risk of personal
liability to shareholders is remote. The Declaration of Trust further provides
that the Trustees will not be liable for errors of judgment or mistakes of fact
or law, but nothing in the Declaration of Trust protects a Trustee against any
liability to which he would otherwise be subject by reason of willful
misfeasance, bad faith, gross negligence, or reckless disregard of the duties
involved in the conduct of his office.
Voting Rights. The FUND's capital consists of shares of beneficial
interest. Shares of the FUND entitle the holders to one vote per share. The
shares have no preemptive or conversion rights. The voting and dividend rights
and the right of redemption are described in the Prospectus. Shares are fully
paid and nonassessable, except as set forth under "Shareholder and Trustee
Liability" above. The shareholders have certain rights, as set forth in the
Declaration of Trust, to call a meeting for any purpose, including the purpose
of voting on removal of one or more Trustees.
The FUND may be terminated upon the sale of its assets to another open-end
management company if approved by the vote of the holders of a majority of the
outstanding shares of the FUND. The FUND may also be terminated upon liquidation
and distribution of its assets, if approved by a majority shareholder vote of
the FUND. Shareholders of the FUND shall be entitled to receive distributions as
a class of the assets belonging to the FUND. The assets of the FUND received for
the issue or sale of the shares of the FUND and all income earnings and the
proceeds thereof, subject only to the rights of creditors, are specially
allocated to the FUND, and constitute the underlying assets of the FUND.
SHAREHOLDER REPORTS
Shareholders will receive reports semi-annually showing the investments of
the FUND and other information. In addition, shareholders will receive annual
financial statements audited by the FUND's independent accountants.
The financial statements for the fiscal year ended September 30, 1997, are
incorporated herein by reference from the FUND's Annual Report dated September
30, 1997. A copy of the FUND'S Annual Report may be obtained without charge by
contacting Signet Financial Services, Inc. at 1-800-829-3863.
<PAGE>
31
APPENDIX A
DESCRIPTION OF MOODY'S INVESTORS SERVICE, INC.'S
BOND RATINGS:
AAA: Bonds which are rated Aaa judged to be the best quality. They carry
the smallest degree of investment risk and are generally referred to as
"gilt-edge." 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 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 fluctuations of
protective elements may be of greater amplitude or there may be other elements
present which make the long-term risks appear somewhat larger than in Aaa
securities.
A: Bonds which are rated A possess many favorable investment attributes
and are to be considered as upper medium grade obligations. Factors giving
security to principal and interest are considered adequate, but elements may be
present which suggest a susceptibility to impairment sometime in the future.
NOTE: Moody's applies numerical modifiers, 1, 2 and 3 in the generic
rating classifications Aa and A in its bond rating system. The modifier 1
indicates that the security ranks in the higher end of its generic rating
category, the modifier 2 indicates a mid-range ranking, and the modifier 3
indicates that the issue ranks in the lower end of its generic rating category.
DESCRIPTION OF MOODY'S COMMERCIAL PAPER RATINGS:
Moody's commercial paper ratings are opinions of the ability of issuers to
repay punctually promissory obligations not having an original maturity in
excess of nine months.
Issuers rated PRIME-1 or P-1 (or related supporting institutions) have a
superior capacity for repayment of short-term promissory obligations. Prime-1 or
P-1 repayment capacity will normally be evidenced by the following
characteristics:
- Leading market positions in well-established industries.
- High rates of return on funds employed.
- Conservative capitalization structures with moderate reliance on
debt and ample asset protection.
- Broad margins in earnings coverage of fixed financial charges and
high internal cash generation.
- Well-established access to a range of financial markets and
assured sources of alternate liquidity.
Issuers rated PRIME-2 or P-2 (or related supporting institutions) have a
strong capacity for repayment of short-term promissory obligations. This will
normally be evidenced by many of the characteristics cited above but to a lesser
degree. Earnings trends and coverage ratios, while sound, will be more subject
to variation. Capitalization characteristics, while still appropriate, may be
more affected by external conditions. Ample alternate liquidity is maintained.
A-26
<PAGE>
DESCRIPTION OF STANDARD AND POOR'S CORPORATION'S
BOND RATINGS:
AAA: Bonds rated AAA have the highest rating assigned by S&P to a debt
obligation. Capacity to pay interest and repay principal is extremely strong.
AA: Bonds rated AA have a very strong capacity to pay interest; and repay
principal and differ from the higher rated issues only in small degree.
A: Bonds rated A have a strong capacity to pay interest and repay
principal although they are somewhat more susceptible to the adverse effects of
changes in circumstances and economic conditions than bonds in higher rated
categories.
PLUS (+) OR MINUS (-): The ratings AA and A may be modified by the addition
of a plus or minus sign to show relative standing within the major rating
categories.
NR: Bonds may lack a S&P rating because no public rating has been
requested, because there is insufficient information on which to base a rating,
or because S&P does not rate a particular type of obligation as a matter of
policy.
DESCRIPTION OF S&P'S COMMERCIAL PAPER RATINGS:
S&P's commercial paper ratings are current assessments of the likelihood
of timely payment of debts having an original maturity of no more than 365 days.
A: Issues assigned this highest rating are regarded as having the greatest
capacity for timely payment. Issues in this category are delineated with the
numbers 1, 2 and 3 to indicate the relative degree of safety.
A-1: This designation indicates that the degree of safety regarding timely
payment is either overwhelming or very strong. Those issues determined to
possess overwhelming safety characteristics are denoted with a plus (+) sign
designation.
A-2: Capacity for timely payment on issues with this designation is strong.
However, the relative degree of safety is not as high as for issues designated
"A-1."
NOTES WITH RESPECT TO ALL RATINGS:
Bonds which are unrated expose the investor to risks with respect to
capacity to pay interest or repay principal that are similar to the risks of
lower-rated bonds. The Fund is dependent on Fund management's judgment, analysis
and experience in the evaluation of such bonds.
Investors should note that the assignment of a rating to a bond by a
rating service may not reflect the effect of recent developments on the issuer's
ability to make interest and principal payments.
Cusip 093212603
G01386-13
A-27
STATEMENT OF ADDITIONAL INFORMATION
BLANCHARD GLOBAL GROWTH FUND
FEDERATED INVESTORS TOWER
PITTSBURGH, PA 15222-3779
This Statement is not a prospectus but should be read in conjunction with the
current prospectus dated November 30, 1997 (the "Prospectus"), pursuant to which
Blanchard Global Growth Fund (the "FUND") is offered. Please retain this
document for future reference.
To obtain the Prospectus please call the FUND at 1-800-829-3863.
TABLE OF CONTENTS Page
Investment Objective and Policies 2
Investment Restrictions 13
Portfolio Transactions 15
Computation of Net Asset Value 16
Performance Information 17
Additional Purchase and Redemption Information 18
Tax Matters 18
Blanchard Funds Management 24
Management Services 28
Portfolio Management Services 28
Custodian 29
Administrative Services 29
Distribution Plan 29
Description of the FUND 30
Shareholder Reports 31
Appendix A A-32
Manager
Virtus Capital Management, Inc.
Portfolio Adviser
Mellon Capital Management Corporation
Distributor
Federated Securities Corp.
Custodian
Signet Trust Company
Transfer Agent
Federated Shareholder Services Company
Independent Accountants
Deloitte & Touche LLP
Dated: November 30, 1997
<PAGE>
INVESTMENT OBJECTIVE AND POLICIES
The investment objective and policies of the FUND are set forth in the FUND's
Prospectus which refers to the following investment strategies and additional
information:
OPTIONS AND FUTURES STRATEGIES
Through the writing and purchase of options and the purchase and sale of
stock index futures contracts, interest rate futures contracts, foreign currency
futures contracts and related options on such futures contracts, Mellon Capital
Management Corporation ("MCM") may at times seek to hedge against a decline in
the value of securities included in the FUND's portfolio or an increase in the
price of securities which it plans to purchase for the FUND or to reduce risk or
volatility while seeking to enhance investment performance. Expenses and losses
incurred as a result of such hedging strategies will reduce the FUND's current
return.
The ability of the FUND to engage in the options and futures strategies
described below will depend on the availability of liquid markets in such
instruments. Markets in options and futures with respect to stock indices, U.S.
Government securities and foreign currencies are relatively new and still
developing. Although a FUND will not enter into an option or futures position
unless a liquid secondary market exists for such option or futures contract is
believed by FUND management to exist. There is no assurance that the FUND will
be able to effect closing transactions at any particular time or at an
acceptable price. Reasons for the absence of a liquid secondary market on an
Exchange include the following: (i) there may be insufficient trading interest
in certain options; (ii) restrictions may be imposed by an Exchange on opening
transactions or closing transactions or both; (iii) trading halts, suspensions
or other restrictions may be imposed with respect to particular classes or
series of options or underlying securities; (iv) unusual or unforeseen
circumstances may interrupt normal operations on an Exchange; (v) the facilities
of an Exchange or the Options Clearing Corporation ("OCC") may not at all times
be adequate to handle current trading volume; or (vi) one or more Exchanges
could, for economic or other reasons, decide or be compelled at some future date
to discontinue the trading of options (or a particular class or series of
options), in which event the secondary market thereon would cease to exist,
although outstanding options on that Exchange that had been issued by the OCC as
a result of trades on that Exchange would continue to be exercisable in
accordance with their terms.
Low initial margin deposits made upon the opening of a futures position
and the writing of an option involve substantial leverage. As a result,
relatively small movements in the price of the contract can result in
substantial unrealized gains or losses. However, to the extent the FUND
purchases or sells futures contracts and options on futures contracts and
purchases and writes options on securities and securities indexes for hedging
purposes, any losses incurred in connection therewith should, if the hedging
strategy is successful, be offset, in whole or in part, by increases in the
value of securities held by the FUND or decreases in the prices of securities
the FUND intends to acquire. It is impossible to predict the amount of trading
interest that may exist in various types of options or futures. Therefore, no
assurance can be given that the FUND will be able to utilize these instruments
effectively for the purposes stated below. Furthermore, the FUND's ability to
engage in options and futures transactions may be limited by tax considerations.
Although the FUND will only engage in options and futures transactions for
limited purposes, it will involve certain risks which are described in the
Prospectus. The FUND will not engage in options and futures transactions for
leveraging purposes.
WRITING COVERED OPTIONS ON SECURITIES
The FUND may write covered call options and covered put options on
optionable securities (stocks, bonds, foreign exchange, related futures, options
and options on futures) of the types in which it is permitted to invest in
seeking to attain its objective. Call options written by the FUND give the
holder the right to buy the underlying securities from the FUND at a stated
exercise price; put options give the holder the right to sell the underlying
security to the FUND at a stated price.
<PAGE>
The FUND may write only covered options, which means that, so long as the
FUND is obligated as the writer of a call option, it will own the underlying
securities subject to the option (or comparable securities satisfying the cover
requirements of securities exchanges). In the case of put options, the FUND will
maintain, in a segregated account, cash or short-term U.S. Government securities
with a value equal to or greater than the exercise price of the underlying
securities or will hold a purchased put option with a higher strike price than
the put written. The FUND may also write combinations of covered puts and calls
on the same underlying security.
The FUND will receive a premium from writing a put or call option, which
increases the FUND's return in the event the option expires unexercised or is
closed out at a profit. The amount of the premium will reflect, among other
things, the relationship of the market price of the underlying security to the
exercise price of the option, the term of the option and the volatility of the
market price of the underlying security. By writing a call option, the FUND
limits its opportunity to profit from any increase in the market value of the
underlying security above the exercise price of the option. By writing a put
option, the FUND assumes the risk that it may be required to purchase the
underlying security for an exercise price higher than its market value at the
time it is exercised resulting in a potential capital loss if the purchase price
is greater than the underlying securities current market value minus the amount
of the premium received, unless the security subsequently appreciates in value.
The FUND may terminate an option that it has written prior to its
expiration by entering into a closing purchase transaction in which it purchases
an option having the same terms as the option written. The FUND will realize a
profit or loss from such transaction if the cost of such transaction is less or
more, respectively, than the premium received from the writing of the option. In
the case of a put option, any loss so incurred may be partially or entirely
offset by the premium received from a simultaneous or subsequent sale of a
different put option. Because increases in the market price of a call option
will generally reflect increases in the market price of the underlying security,
any loss resulting from the repurchase of a call option is likely to be offset
in whole or in part by unrealized appreciation of the underlying security owned
by the FUND.
Options written by the FUND will normally have expiration dates not more
than one year from the date written. The exercise price of the options may be
below ("in-the-money"), equal to ("at-the-money") or above ("out-of-the-money")
the current market price of the underlying securities at the times the options
are written. The FUND may engage in buy-and-write transactions in which the FUND
simultaneously purchases a security and writes a call option thereon. Where a
call option is written against a security subsequent to the purchase of that
security, the resulting combined position is also referred to as buy-and-write.
Buy-and-write transactions using in-the-money call options may be utilized when
it is expected that the price of the underlying security will remain flat or
decline moderately during the option period. In such a transaction, the FUND's
maximum gain will be the premium received from writing the option reduced by any
excess of the price paid by the FUND for the underlying security over the
exercise price. Buy-and-write transactions using at-the-money call options may
be utilized when it is expected that the price of the underlying security will
remain flat or advance moderately during the option period. In such a
transaction, the FUND's gain will be limited to the premiums received from
writing the option. Buy-and-write transactions using out-of-the-money call
options may be utilized when it is expected that the premiums received from
writing the call option plus the appreciation in market price of the underlying
security up to the exercise price will be greater than the appreciation in the
price of the underlying security alone. In any of the foregoing situations, if
the market price of the underlying security declines, the amount of such decline
will be offset wholly or in part by the premium received and the FUND may or may
not realize a loss.
To the extent that a secondary market is available on the Exchanges, the
covered call option writer may liquidate his position prior to the assignment of
an exercise notice by entering a closing purchase transaction for an option of
the same series as the option previously written. The cost of such a closing
purchase, plus transaction costs, may be greater than the premium received upon
writing the original option, in which event the writer will have incurred a loss
in the transaction.
<PAGE>
PURCHASING PUT AND CALL OPTIONS ON SECURITIES
The FUND may purchase put options to protect its portfolio holdings in an
underlying security against a decline in market value. Such hedge protection is
provided during the life of the put option since the FUND, as holder of the put
option, is able to sell the underlying security at the put exercise price
regardless of any decline in the underlying security's market price. In order
for a put option to be profitable, the market price of the underlying security
must decline sufficiently below the exercise price to cover the premium and
transaction costs. By using put options in this manner, the FUND will reduce any
profit it might otherwise have realized in the underlying security by the
premium paid for the put option and by transaction costs.
The FUND may also purchase call options to hedge against an increase in
prices of securities that it wants ultimately to buy. Such hedge protection is
provided during the life of the call option since the FUND, as holder of the
call option, is able to buy the underlying security at the exercise price
regardless of any increase in the underlying security's market price. In order
for a call option to be profitable, the market price of the underlying security
must rise sufficiently above the exercise price to cover the premium and
transaction costs. By using call options in this manner, the FUND will reduce
any profit it might have realized had it bought the underlying security at the
time it purchased the call option by the premium paid for the call option and by
transaction costs.
PURCHASE AND SALE OF OPTIONS AND FUTURES ON STOCK INDICES
The FUND may purchase and sell options on stock indices and stock index
futures as a hedge against movements in the equity markets.
Options on stock indices are similar to options on specific securities
except that, rather than the right to take or make delivery of the specific
security at a specific price, an option on a stock index gives the holder the
right to receive, upon exercise of the option, an amount of cash if the closing
level of that stock index is greater than, in the case of a call, or less than,
in the case of a put, the exercise price of the option. This amount of cash is
equal to such difference between the closing price of the index and the exercise
price of the option expressed in dollars multiplied by a specified multiple. The
writer of the option is obligated, in return for the premium received, to make
delivery of this amount. Unlike options on specific securities, all settlements
of options on stock indices are in cash and gain or loss depends on general
movements in the stocks included in the index rather than on price movements in
particular stocks. Currently, index options traded include the S&P 100 Index,
the S&P 500 Index, the NYSE Composite Index, the AMEX Market Value Index, the
National Over-the-Counter Index and other standard broadly based stock market
indices. Options are also traded in certain industry or market segment indices
such as the Oil Index, the Computer Technology Index and the Transportation
Index.
A stock index futures contract is an agreement in which one party agrees
to deliver to the other an amount of cash equal to a specific dollar amount
multiplied by the difference between the value of a specific stock index at the
close of the last trading day of the contract and the price at which the
agreement is made. No physical delivery of securities is made.
If MCM, the FUND's portfolio adviser, expects general stock market prices
to rise, they might purchase a call option on a stock index or a futures
contract on that index as a hedge against an increase in prices on particular
equity securities they want ultimately to buy. If in fact the stock index does
rise, the price of the particular equity securities intended to be bought may
also increase, but that increase would be offset in part by the increase in the
value of the FUND's index option or futures contract resulting from the increase
in the index. If, on the other hand, MCM expects general stock market prices to
decline, the value of some or all of the equity securities in the FUND's
portfolio may also be expected to decline, but that decrease would be offset in
part by the increase in the value of the FUND's position in put options acquired
as a hedge against a potential decline.
PURCHASE AND SALE OF INTEREST RATE FUTURES
The FUND may purchase and sell U.S. dollar interest rate futures contracts
on U.S. Treasury bills, notes and bonds and non-U.S. dollar interest rate
futures contracts on foreign bonds for the purpose of hedging fixed income and
interest sensitive securities against the adverse effects of anticipated
movements in interest rates.
<PAGE>
The FUND may purchase futures contracts in anticipation of a decline in
interest rates when it is not fully invested in a particular market in which it
intends to make investments to gain market exposure that may in part or entirely
offset an increase in the cost of securities it intends to purchase. The FUND
does not consider purchases of futures contracts to be a speculative practice
under these circumstances. In a substantial majority of these transactions, the
FUND will purchase securities upon termination of the futures contract.
The FUND may sell U.S. dollar and non-U.S. dollar interest rate futures
contracts in anticipation of an increase in the general level of interest rates.
Generally, as interest rates rise, the market value of the fixed income
securities held by the FUND will fall, thus reducing the net asset value of the
FUND. This interest rate risk can be reduced without employing futures as a
hedge by selling long-term fixed income securities and either reinvesting the
proceeds in securities with shorter maturities or by holding assets in cash.
This strategy, however, entails increased transaction costs to the FUND in the
form of dealer spreads and brokerage commissions.
The sale of U.S. dollar and non-U.S. dollar interest rate futures
contracts provides an alternative means of hedging against rising interest
rates. As rates increase, the value of the FUND's short position in the futures
contracts will also tend to increase, thus offsetting all or a portion of the
depreciation in the market value of the FUND's investments which are being
hedged. While the FUND will incur commission expenses in entering and closing
out futures positions (which is done by taking an opposite position from the one
originally entered into, which operates to terminate the position in the futures
contract), commissions on futures transactions are lower than transaction costs
incurred in the purchase and sale of portfolio securities.
OPTIONS ON STOCK INDEX FUTURES CONTRACTS AND INTEREST RATE FUTURES CONTRACTS
The FUND may purchase and write call and put options on stock index and
interest rate futures contracts. The FUND may use such options on futures
contracts in connection with its hedging strategies in lieu of purchasing and
writing options directly on the underlying securities or stock indices or
purchasing and selling the underlying futures. For example, the FUND may
purchase put options or write call options on stock index futures or interest
rate futures, rather than selling futures contracts, in anticipation of a
decline in general stock market prices or rise in interest rates, respectively,
or purchase call options or write put options on stock index or interest rate
futures, rather than purchasing such futures, to hedge against possible
increases in the price of equity securities or debt securities, respectively,
which the FUND intends to purchase.
PURCHASE AND SALE OF CURRENCY FUTURES CONTRACTS AND RELATED OPTIONS
In order to hedge its portfolio and to protect it against possible
variations in foreign exchange rates pending the settlement of securities
transactions, the FUND may buy or sell foreign currencies or may deal in forward
currency contracts. The FUND may also invest in currency futures contracts and
related options. If a fall in exchange rates for a particular currency is
anticipated, the FUND may sell a currency futures contract or a call option
thereon or purchase a put option on such futures contract as a hedge. If it is
anticipated that exchange rates will rise, the FUND may purchase a currency
futures contract or a call option thereon or sell (write) a put option to
protect against an increase in the price of securities denominated in a
particular currency the FUND intends to purchase. These futures contracts and
related options thereon will be used only as a hedge against anticipated
currency rate changes, and all options on currency futures written by the FUND
will be covered.
A currency futures contract sale creates an obligation by the FUND, as
seller, to deliver the amount of currency called for in the contract at a
specified future time for a specified price. A currency futures contract
purchase creates an obligation by the FUND, as purchaser, to take delivery of an
amount of currency at a specified future time at a specified price. Although the
terms of currency futures contracts specify actual delivery or receipt, in most
instances the contracts are closed out before the settlement date without the
making or taking of delivery of the currency. Closing out of a currency futures
contract is effected by entering into an offsetting purchase or sale
transaction. Unlike a currency futures contract, which requires the parties to
buy and sell currency on a set date, an option on a currency futures contract
entitles its holder to decide on or before a future date whether to enter into
such a contract or let the option expire.
<PAGE>
The FUND will write (sell) only covered put and call options on currency
futures. This means that the FUND will provide for its obligations upon exercise
of the option by segregating sufficient cash or short-term obligations or by
holding an offsetting position in the option or underlying currency future, or a
combination of the foregoing. The FUND will, so long as it is obligated as the
writer of a call option on currency futures, own on a contract-for-contract
basis an equal long position in currency futures with the same delivery date or
a call option on stock index futures with the difference, if any, between the
market value of the call written and the market value of the call or long
currency futures purchased maintained by the FUND in cash, Treasury bills, or
other high-grade short-term obligations in a segregated account with its
custodian. If at the close of business on any day the market value of the call
purchased by the FUND falls below 100% of the market value of the call written
by the FUND, the FUND will so segregate an amount of cash, Treasury bills or
other high-grade short-term obligations equal in value to the difference.
Alternatively, the FUND may cover the call option through segregating with the
custodian an amount of the particular foreign currency equal to the amount of
foreign currency per futures contract option times the number of options written
by the FUND. In the case of put options on currency futures written by the FUND,
the FUND will hold the aggregate exercise price in cash, Treasury bills, or
other high-grade short-term obligations in a segregated account with its
custodian, or own put options on currency futures or short currency futures,
with the difference, if any, between the market value of the put written and the
market value of the puts purchased or the currency futures sold maintained by
the FUND in cash, Treasury bills or other high-grade short-term obligations in a
segregated account with its custodian. If at the close of business on any day
the market value of the put options purchased or the currency futures sold by
the FUND falls below 100% of the market value of the put options written by the
FUND, the FUND will so segregate an amount of cash, Treasury bills or other
high-grade short-term obligations equal in value to the difference.
If other methods of providing appropriate cover are developed, the FUND
reserves the right to employ them to the extent consistent with applicable
regulatory and exchange requirements.
In connection with transactions in stock index options, stock index
futures, interest rate futures, foreign currency futures and related options on
such futures, the FUND will be required to deposit as "initial margin" an amount
of cash and short-term U.S. Government securities generally equal to from 5% to
10% of the contract amount. Thereafter, subsequent payments (referred to as
"variation margin") are made to and from the broker to reflect changes in the
value of the futures contract.
OPTIONS ON FOREIGN CURRENCIES
The FUND may purchase and write options on foreign currencies to enhance
investment performance and for hedging purposes in a manner similar to that in
which futures contracts on foreign currencies, or forward contracts, will be
utilized as described above. For example, a decline in the dollar value of a
foreign currency in which portfolio securities are denominated will reduce the
dollar value of such securities, even if their value in the foreign currency
remains constant. In order to protect against such diminutions in the value of
portfolio securities, the FUND may purchase put options on the foreign currency.
If the value of the currency does decline, the FUND will have the right to sell
such currency for a fixed amount in dollars and will thereby offset, in whole or
in part, the adverse effect on its portfolio which otherwise would have
resulted.
Conversely, where a rise in the dollar value of a currency in which
securities to be acquired are denominated is projected, thereby increasing the
cost of such securities, the FUND may purchase call options thereon. The
purchase of such options could offset, at least partially, the effects of the
adverse movements in exchange rates. As in the case of other types of options,
however, the benefit to the FUND deriving from purchases of foreign currency
options will be reduced by the amount of the premium and related transaction
costs. In addition, where currency exchange rates do not move in the direction
or to the extent anticipated, the FUND could sustain losses on transactions in
foreign currency options which would require it to forego a portion or all of
the benefits of advantageous changes in such rates.
Also, where the FUND anticipates a decline in the dollar value of foreign
currency denominated securities due to adverse fluctuations in exchange rates it
could, instead of purchasing a put option, write a call option on the relevant
currency. If the expected decline occurs, the option will most likely not be
exercised, and the diminution in value of portfolio securities will be offset by
the amount of the premium received.
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Similarly, instead of purchasing a call option to hedge against an
anticipated increase in the dollar cost of securities to be acquired, the FUND
could write a put option on the relevant currency which, if the currency moves
in the manner projected, will expire unexercised and allow the FUND to hedge
such increased cost up to the amount of the premium. As in the case of other
types of options, however, the writing of a foreign currency option will
constitute only a partial hedge up to the amount of the premium, and only if
rates move in the expected direction. If this does not occur, the option may be
exercised and the FUND would be required to purchase or sell the underlying
currency at a loss which may not be offset by the amount of the premium. Through
the writing of options on foreign currencies, the FUND also may be required to
forego all or a portion of the benefits which might otherwise have been obtained
from favorable movements in exchange rates.
The FUND intends to write covered call options on foreign currencies. A
call option written on a foreign currency by the FUND is "covered" if the FUND
owns the underlying foreign currency covered by the call or has an absolute and
immediate right to acquire that foreign currency without additional cash
consideration (or for additional cash consideration held in a segregated account
by its custodian, which acts as the FUND's custodian, or by a designated
sub-custodian) upon conversion or exchange of other foreign currency held in its
portfolio. A call option is also covered if the FUND has a call on the same
foreign currency and in the same principal amount as the call written where the
exercise price of the call held (a) is equal to or less than the exercise price
or the call written or (b) is greater than the exercise price of the call
written if the difference is maintained by the FUND in cash, U.S. Government
Securities and other high-grade liquid debt securities in a segregated account
with its custodian or with a designated sub-custodian.
MORTGAGE AND ASSET-BACKED SECURITIES
Subject to the approval of the Board of Trustees of the FUND, the FUND may
invest in foreign mortgage-backed and asset-backed securities. The FUND will
only purchase mortgage-backed and asset-backed securities which, in its opinion,
equate generally to U.S. standards of "investment grade" obligations.
Mortgage-backed securities are securities that directly or indirectly
represent a participation in, or are secured by and payable from, mortgage loans
on real property, including pass-through securities and collateralized mortgage
obligations. The yield and credit characteristics of mortgage-backed securities
differ in a number of respects from traditional debt securities.
Asset-backed securities have similar structural characteristics to
mortgage-backed securities. However, the underlying assets are not mortgage
loans or interests in mortgage loans but include assets such as motor vehicle
installment sales or installment loan contracts, leases of various types of real
and personal property, and receivables from revolving credit (credit card)
agreement.
REPURCHASE AGREEMENTS
Repurchase agreements are transactions by which the FUND purchases a
security and simultaneously commits to resell that security to the seller at an
agreed upon price on an agreed upon date within a number of days (usually not
more than seven days) from the date of purchase. The resale price reflects the
purchase price plus an agreed upon market rate of interest which is unrelated to
the coupon rate or maturity of the purchased security. A repurchase agreement
involves the obligation of the seller to pay the agreed upon price, which
obligation is in effect secured by the value (at least equal to the amount of
the agreed upon resale price and marked-to-market daily) of the underlying
security. While it does not presently appear possible to eliminate all risks
from these transactions (particularly the possibility of a decline in the market
value of the underlying securities, as well as delay and costs to the FUND in
connection with bankruptcy proceedings) it is the policy of the FUND to limit
repurchase agreements to those member banks of the Federal Reserve System and
primary dealers in U.S. Government securities who are believed by the FUND's
Trustees to present minimum credit risk. Repurchase agreements maturing in more
than seven days are considered, for the purposes of the FUND's investment
restrictions, to be illiquid securities. No more than 10% of the FUND's net
assets may be held in illiquid securities (see "Investment Restrictions").
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FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS
The value of the assets of the Foreign Securities, Precious Metals
Securities and Bullion, Emerging Markets and Foreign Fixed Income Securities
investment sectors of the FUND as measured in U.S. dollars may be affected
favorably or unfavorably by changes in foreign currency exchange rates and
exchange control regulations, and the FUND may incur costs in connection with
conversions between various currencies.
The FUND may purchase or sell forward foreign currency exchange contracts
("forward contracts") to attempt to minimize the risk to the FUND from adverse
changes in the relationship between the U.S. dollar and foreign currencies. A
forward contract is an obligation to purchase or sell a specific currency for an
agreed price at a future date which is individually negotiated and privately
traded by currency traders and their customers. The FUND may enter into a
forward contract, for example, when it enters into a contract for the purchase
or sale of a security denominated in a foreign currency in order to "lock in"
the U.S. dollar price of the security ("transaction hedge"). Additionally, for
example, when the FUND believes that a foreign currency may suffer a substantial
decline against the U.S. dollar, it may enter into a forward sale contract to
sell an amount of that foreign currency approximating the value of some or all
of the FUND's securities denominated in such foreign currency, or when the FUND
believes that the U.S. dollar may suffer a substantial decline against foreign
currency, it may enter into a forward purchase contract to buy that foreign
currency for a fixed dollar amount ("position hedge"). In this situation, the
FUND may, in the alternative, enter into a forward contract to sell a different
foreign currency for a fixed U.S. dollar amount where it believes that the U.S.
dollar value of the currency to be sold pursuant to the forward contract will
fall whenever there is a decline in the U.S. dollar value of the currency in
which portfolio securities of the sector are denominated ("cross-hedge"). If the
FUND enters into a position hedging transaction, cash not available for
investment or U.S. Government Securities or other high quality debt securities
will be placed in a segregated account in an amount sufficient to cover the
FUND's net liability under such hedging transactions. If the value of the
securities placed in the segregated account declines, additional cash or
securities will be placed in the account so that the value of the account will
equal the amount of the FUND's commitment with respect to its position hedging
transactions. As an alternative to maintaining all or part of the separate
account, the FUND may purchase a call option permitting it to purchase the
amount of foreign currency being hedged by a forward sale contract at a price no
higher than the forward contract price or the FUND may purchase a put option
permitting it to sell the amount of foreign currency subject to a forward
purchase contract at a price as high or higher than the forward contract price.
Unanticipated changes in currency prices would result in lower overall
performance for the FUND than if it had not entered into such contracts.
While the pursuit of foreign currency gain is not a primary objective of
the FUND, the FUND may, from time to time, hold foreign currency to realize such
gains. (These gains constitute non-qualifying income that is subject to the 10%
limitation with respect to the "Income Requirements" of Subchapter M of the
Internal Revenue Code of 1986, as amended, which is discussed herein under
"Dividends, Capital Gains Distributions and Tax Matters".)
The FUND will enter into forward foreign currency exchange contracts as
described hereafter. When the FUND enters into a contract for the purchase or
sale of a security denominated in a foreign currency, it may desire to establish
the U.S. dollar cost or proceeds. By entering into a forward contract in U.S.
dollars for the purchase or sale of the amount of foreign currency involved in
an underlying security transaction, the FUND will be able to protect itself
against a possible loss between trade and settlement dates resulting from an
adverse change in the relationship between the U.S. dollar and such foreign
currency. However, this tends to limit potential gains which might result from a
positive change in such currency relationships.
When MCM believes that the currency of a particular foreign country may
suffer a substantial decline against the U.S. dollar, it may enter into a
forward contract to sell an amount of foreign currency approximating the value
of some or all of the FUND's portfolio securities denominated in such foreign
currency. The forecasting of short-term currency market movement is extremely
difficult and the successful execution of a short-term hedging strategy is
highly uncertain. Under normal circumstances consideration of the prospect for
currency parities will be incorporated into the longer term investment decisions
made with regard to overall strategies. However, the Trustees of the FUND
believe that it is important to have the flexibility to enter into such forward
contracts when MCM determines that the best interests of the FUND will be
served.
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Generally, the FUND will not enter into a forward foreign currency
exchange contract with a term of greater than one year. At the maturity of the
contract, the FUND may either sell the portfolio security and make delivery of
the foreign currency, or may retain the security and terminate the obligation to
deliver the foreign currency by purchasing an "offsetting" forward contract with
the same currency trader obligating the FUND to purchase, on the same maturity
date, the same amount of foreign currency.
It is impossible to forecast with absolute precision the market value of
portfolio securities at the expiration of the contract. Accordingly, it may be
necessary for the FUND to purchase additional foreign currency on the spot
market (and bear the expense of such purchase) if the market value of the
security is less than the amount of foreign currency the FUND is obligated to
deliver and if a decision is made to sell the security and make delivery of the
foreign currency. Conversely, it may be necessary to sell on the spot market
some of the foreign currency received upon the sale of the portfolio security if
its market value exceeds the amount of foreign currency the FUND is obligated to
deliver.
If the FUND retains the portfolio security and engages in an offsetting
transaction, the FUND will incur a gain or a loss (as described below) to the
extent that there has been movement in forward contract prices. If the FUND
engages in an offsetting transaction, it may subsequently enter into a new
forward contract to sell the foreign currency. Should forward prices decline
during the period between entering into a forward contract for the sale of a
foreign currency and the date the FUND enters into an offsetting contract for
the purchase of the foreign currency, the FUND will realize a gain to the extent
the price of the currency the FUND has agreed to sell exceeds the price of the
currency it has agreed to purchase. Should forward prices increase, the FUND
will suffer a loss to the extent the price of the currency the FUND has agreed
to purchase exceeds the price of the currency the FUND has agreed to sell.
The FUND's dealing in forward foreign currency exchange contracts will be
limited to the transactions described above. Of course, the FUND is not required
to enter into such transactions with regard to its foreign currency-denominated
securities and will not do so unless deemed appropriate by the Sector Managers.
It also should be realized that this method of protecting the value of the
FUND's portfolio securities against the decline in the value of a currency does
not eliminate fluctuations in the underlying prices of the securities. It simply
establishes a rate of exchange which one can achieve at some future point in
time. Additionally, although such contracts tend to minimize the risk of loss
due to a decline in the value of the hedged currency, at the same time they tend
to limit any potential gain which might result should the value of such currency
increase.
ADDITIONAL RISKS OF FUTURES CONTRACTS AND RELATED OPTIONS, FORWARD FOREIGN
CURRENCY EXCHANGE CONTRACTS AND OPTIONS ON FOREIGN CURRENCIES
The market prices of futures contracts may be affected by certain factors.
First, all participants in the futures market are subject to margin deposit and
maintenance requirements. Rather than meeting additional margin deposit
requirements, investors may close futures contracts through offsetting
transactions which could distort the normal relationship between the securities
and futures markets. Second, from the point of view of speculators, the deposit
requirements in the futures market are less onerous than margin requirements in
the securities market. Therefore, increased participation by speculators in the
futures market may also cause temporary price distortions.
In addition, futures contracts in which the FUND may invest may be subject
to commodity exchange imposed limitations on fluctuations in futures contract
prices during a single day. Such regulations are referred to as "daily price
fluctuation limits" or "daily limits." During a single trading day no trades may
be executed at prices beyond the daily limit. Once the price of a futures
contract has increased or decreased by an amount equal to the daily limit,
positions in those futures cannot be taken or liquidated unless both a buyer and
seller are willing to effect trades at or within the limit. Daily limits, or
regulatory intervention in the commodity markets, could prevent the FUND from
promptly liquidating unfavorable positions and adversely affect operations and
profitability.
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Options on foreign currencies and forward foreign currency exchange
contracts ("forward contracts") are not traded on contract markets regulated by
the Commodity Futures Trading Commission ("CFTC") and are not regulated by the
SEC. Rather, forward currency contracts are traded through financial
institutions acting as market-makers. Foreign currency options are traded on
certain national securities exchanges, such as the Philadelphia Stock Exchange
and the Chicago Board Options Exchange, subject to SEC regulation. In the
forward currency market, there are no daily price fluctuation limits, and
adverse market movements could therefore continue to an unlimited extent over a
period of time. Moreover, a trader of forward contracts could lose amounts
substantially in excess of its initial investments, due to the collateral
requirements associated with such positions.
Options on foreign currencies traded on national securities exchanges are
within the jurisdiction of the SEC, as are other securities traded on such
exchanges. As a result, many of the protections provided to traders on organized
exchanges will be available with respect to such transactions. In particular,
all foreign currency option positions entered into on a national securities
exchange are cleared and guaranteed by the OCC, thereby reducing the risk of
counterparty default. Further, a liquid secondary market in options traded on a
national securities exchange may exist, potentially permitting the FUND to
liquidate open positions at a profit prior to exercise or expiration, or to
limit losses in the event of adverse market movements.
The purchase and sale of exchange-traded foreign currency options,
however, are subject to the risks of the availability of a liquid secondary
market described above, as well as the risks regarding adverse market movements,
margining of options written, the nature of the foreign currency market,
possible intervention by governmental authorities and the effects of other
political and economic events. In addition, exercise and settlement of such
options must be made exclusively through the OCC, which has established banking
relationships in applicable foreign countries for this purpose. As a result, the
OCC may, if it determines that foreign governmental restrictions or taxes would
prevent the orderly settlement of foreign currency option exercises, or would
result in undue burdens on the OCC or its clearing member, impose special
procedures on exercise and settlement, such as technical changes in the
mechanics of delivery of currency, the fixing of dollar settlement prices or
prohibitions on exercise.
In addition, futures contracts and related options and forward contracts
and options on foreign currencies may be traded on foreign exchanges, to the
extent permitted by the CFTC. Such transactions are subject to the risk of
governmental actions affecting trading in or the prices of foreign currencies or
securities. The value of such positions also could be adversely affected by (a)
other complex foreign political and economic factors, (b) lesser availability
than in the United States of data on which to make trading decisions, (c) delays
in the FUND's ability to act upon economic events occurring in foreign markets
during nonbusiness hours in the United States and the United Kingdom, (d) the
imposition of different exercise and settlement terms and procedures and margin
requirements than in the United States, and (e) lesser trading volume.
ILLIQUID SECURITIES
The FUND has adopted the following investment policy, which may be changed
by the vote of the Board of Trustees. The FUND will not invest in illiquid
securities if immediately after such investment more than 10% of the FUND's
total assets (taken at market value) would be invested in such securities. For
this purpose, illiquid securities include (a) securities that are illiquid by
virtue of the absence of a readily available market or legal or contractual
restrictions on resale, (b) participation interests in loans that are not
subject to puts, (c) covered call options on portfolio securities written by the
FUND over-the-counter and the cover for such options and (d) repurchase
agreements not terminable within seven days.
Historically, illiquid securities have included securities subject to
contractual or legal restrictions on resale because they have not been
registered under the Securities Act of 1933, as amended ("Securities Act"),
securities that are otherwise not readily marketable and repurchase agreements
having a maturity of longer than seven days. Securities that have not been
registered under the Securities Act are referred to as private placements or
restricted securities and are purchased directly from the issuer or in the
secondary market. Mutual funds do not typically hold a significant amount of
these restricted or other illiquid securities because of the potential for
delays on resale and uncertainty in valuation. Limitations on resale may have an
adverse effect on the marketability of portfolio securities and a mutual fund
might be unable to dispose of restricted or other illiquid securities promptly
or at reasonable prices and might thereby experience difficulty satisfying
redemptions within seven days. A mutual fund might also have to register such
restricted securities in order to dispose of them resulting in additional
expense and delay. Adverse market conditions could impede such a public offering
of securities.
<PAGE>
In recent years, however, a large institutional market has developed for
certain securities that are not registered under the Securities Act including
repurchase agreements, commercial paper, foreign securities, municipal
securities and corporate bonds and notes. Institutional investors depend on an
efficient institutional market in which the unregistered security can be readily
resold or on an issuer's ability to honor a demand for repayment. The fact that
there are contractual or legal restrictions on resale to the general public or
to certain institutions may not be indicative of the liquidity of such
investments.
During the coming year, the FUND may invest up to 10% of its total assets
in restricted securities issued under Section 4(2) of the Securities Act, which
exempts from registration "transactions by an issuer not involving any public
offering". Section 4(2) instruments are restricted in the sense that they can
only be resold through the issuing dealer and only to institutional investors;
they cannot be resold to the general public without registration.
The Commission has adopted Rule 144A, which allows a broader institutional
trading market for securities otherwise subject to restriction on resale to the
general public. Rule 144A establishes a "safe harbor" from the registration
requirements of the Securities Act applicable to resales of certain securities
to qualified institutional buyers. FUND management anticipates that the market
for certain restricted securities such as institutional commercial paper will
expand further as a result of this regulation and the development of automated
systems for the trading, clearance and settlement of unregistered securities of
domestic and foreign issuers, such as the PORTAL System sponsored by the
National Association of Securities Dealers, Inc. (the "NASD").
FUND management will monitor the liquidity of restricted securities in the
FUND's portfolio under the supervision of the FUND's Trustees. In reaching
liquidity decision, FUND management will consider, inter alia, the following
factors: (1) the frequency of trades and quotes for the security; (2) the number
of dealers wishing to purchase or sell security and the number of other
potential purchasers; (3) dealer undertakings to make a market in the security
and (4) the nature of the security and the nature of the marketplace trades
(e.g., the time needed to dispose of the security, the method of soliciting
offers and the mechanics of the transfer).
REGULATORY MATTERS
In connection with its proposed futures and options transactions, the FUND
has filed with the Commodity Futures Trading commission ("CFTC") a notice of
eligibility for exemption from the definition of (and therefore from CFTC
regulation as) a "commodity pool operator" under the Commodity Exchange Act. The
FUND has represented in its notice of eligibility that:
(i) it will not purchase or sell futures or options on futures
contracts or stock indices if as a result the sum of the initial
margin deposits on its existing futures contracts and related
options positions and premiums paid for options on futures
contracts or stock indices would exceed 5% of the FUND's assets;
and
(ii) with respect to each futures contract purchased or long position in
an option contract, the FUND will set aside in a segregated account
cash or cash equivalents in an amount equal to the market value of
such contracts less the initial margin deposit.
The Staff of Securities and Exchange Commission ("Commission") has taken
the position that the purchase and sale of futures contracts and the writing of
related options may involve senior securities for the purposes of the
restrictions contained in Section 18 of the Investment Company Act of 1940 on
investment companies issuing senior securities. However, the Staff has issued
letters declaring that it will not recommend enforcement action under Section 18
if an investment company:
(i) sells futures contracts to offset expected declines in the value
of the investment company's portfolio securities, provided the
value of such futures contracts does not exceed the total market
value of those securities (plus such additional amount as may be
necessary because of differences in the volatility factor of the
portfolio securities vis a vis the futures contracts);
(ii) writes call options on futures contracts, stock indexes or other
securities, provided that such options are covered by the
investment company's holding of a corresponding long futures
position, by its ownership of portfolio securities which correlate
with the underlying stock index, or otherwise;
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(iii) purchases futures contracts, provided the investment company
establishes a segregated account ("cash segregated account")
consisting of cash or cash equivalents in an amount equal to the
total market value of such futures contracts less the initial
margin deposited therefor; and
(iv) writes put options on futures contracts, stock indices or other
securities, provided that such options are covered by the
investment company's holding of a corresponding short futures
position, by establishing a cash segregated account in an amount
equal to the value of its obligation under the option, or
otherwise.
The FUND will conduct its purchases and sales of futures contracts and
writing of related options transactions in accordance with the foregoing.
ADDITIONAL INFORMATION REGARDING PRECIOUS METALS AND PRECIOUS METALS SECURITIES
The production and marketing of gold and precious metals may be affected
by the action of certain governments and changes in existing governments. For
example, the mining of gold is highly concentrated in a few countries. In
current order of magnitude of production of gold bullion, the five largest
producers of gold are the Republic of South Africa, certain republics of the
former Soviet Union, Canada, Brazil and the United States. Economic and
political conditions prevailing in these countries may have a direct effect on
the production and marketing of newly produced gold and sales of central bank
gold holdings. It is expected that a majority of gold mining companies in which
the FUND will invest will be located within the United States and Canada.
Prices of Precious Metals Securities can be volatile and tend to
experience greater volatility than the prices of physical precious metals. This
is due to the fact that the costs of mining precious metals remain relatively
fixed, so that an increase or decrease in the price of precious metals has a
direct and greater than proportional effect on the profitability of precious
metals mining companies. Investments tied to precious metals characteristically
involve high risk because of precious metals' price volatility. The price of
precious metals is affected by factors such as cyclical economic conditions,
political events and monetary policies of various countries. During periods of
rising precious metals prices, the FUND will tend to emphasize investments in
Precious Metals Securities.
Under South African law, the only authorized sales agent for gold produced
in South Africa is the Reserve Bank of South Africa, which through its retention
policies controls the time and place of any sale of South African bullion. The
South African Ministry of Mines determines gold mining policy. South Africa
depends predominantly on gold sales for the foreign exchange necessary to
finance its imports, and its sales policy is necessarily subject to national
economic and political developments.
INVESTMENTS IN EMERGING COUNTRIES
The Emerging Markets sector of the FUND may invest indirectly in
securities of emerging country issuers through sponsored or unsponsored American
Depository Receipts ("ADRs"), Global Depository Receipts ("GDRs") and other
types of Depository Receipts (which, together with ADRs and GDRs, are
hereinafter referred to as "Depository Receipts"). Depository Receipts may not
necessarily be denominated in the same currency as the underlying securities
into which they may be converted. In addition, the issuers of the stock of
unsponsored Depository Receipts are not obligated to disclose material
information in the United States and, therefore, there may not be a correlation
between such information and the market value of the Depository Receipts.
Investing in emerging country securities involves certain considerations
not typically associated with investing in securities of U.S. companies,
including (1) restrictions on foreign investment and on repatriation of capital
invested in emerging countries, (2) currency fluctuations, (3) the cost of
converting foreign currency into U.S. dollars, (4) potential price volatility
and lesser liquidity of shares traded on emerging country securities markets and
(5) political and economic risks, including the risk of nationalization or
expropriation of assets and the risk of war. In addition, accounting, auditing,
financial and other reporting standards in emerging countries are not equivalent
to U.S. standards and, therefore, disclosure of certain material information may
not be made and less information may be available to investors investing in
emerging countries than in the United States. There is also generally less
governmental regulation of the securities industry in emerging countries than in
the United States.
<PAGE>
Moreover, it may be more difficult to obtain a judgment in a court outside the
United States. Interest and dividends paid on securities held by the FUND and
gains from the disposition of such securities may be subject to withholding
taxes imposed by emerging market countries. Historical experience indicates that
the markets of developing countries have been more volatile than the markets of
developed countries; however, securities traded in such markets often have
provided higher rates of return to investors. VCM believes that these
characteristics may be expected to continue in the future.
PORTFOLIO TURNOVER
Generally, the FUND's portfolio turnover rate is not expected to exceed
100%. A 100% portfolio turnover rate would occur if 100% of the securities owned
by the FUND were sold and either repurchased or replaced by it within one year.
However, the FUND may experience a temporary increase in portfolio turnover and
incur some additional transaction costs as a result of the restructuring
approved by the FUND's shareholders on January 15, 1992 as the new portfolio
managers invest FUND assets transferred to their management. The FUND's
portfolio turnover rate is, generally, the percentage computed by dividing the
lesser of FUND's purchases or sales exclusive of short-term securities and
bullion, by the average value of the FUND's total investments exclusive of
short-term securities and bullion. The portfolio turnover rate for the fiscal
year ended September 30, 1997, and for the period from May 1, 1996 through
September 30, 1996 was 49% and 47%, respectivley. The portfolio turnover rates
for the fiscal years ended April 30, 1996 and 1995, were 91% and 221%,
respectively. The FUND's portfolio's turnover rate for the fiscal year ended
April 30, 1995, was higher than normal due to volatile foreign markets. High
Portfolio turnover involves correspondingly greater brokerage commissions, other
transaction costs, and a possible increase in short-term capital gains or
losses. Shareholders are taxed on any such net gains at ordinary income rates.
Because any capital gains realized would be distributed to shareholders at
year-end, shareholders should consider the impact of such distributions on their
own tax position.
INVESTMENT RESTRICTIONS
Investment restrictions are fundamental policies and cannot be changed
without approval of the holders of a majority (as defined in the Investment
Company Act of 1940, as amended) of the outstanding shares of the FUND. As used
in the Prospectus and the Statement of Additional Information, the term
"majority of the outstanding shares" of the FUND means, respectively, the vote
of the lesser of (i) 67% or more of the shares of the FUND present at a meeting,
if the holders of more than 50% of the outstanding shares of the FUND are
present or represented by proxy, or (ii) more than 50% of the outstanding shares
of the FUND. The following are the FUND's investment restrictions set forth in
their entirety.
1. As a non-diversified management investment company, the FUND has the
following restrictions: (a) with respect to 50% of the FUND's total
assets, the FUND may not invest more than 5% of its total assets, at
market value, in the securities of one issuer (except the securities
of the U.S. Government, its agencies and instrumentalities) and (b)
with respect to the other 50% of the FUND's total assets, the FUND
may not invest more than 25% of the market value of its total assets
in a single issuer (except the securities of the U.S. Government,
its agencies and instrumentalities). These two restrictions,
hypothetically, could give rise to the FUND having as few as twelve
issuers.
2. The FUND will not purchase a security if, as a result: (a) it would
own more than 10% of any class or of the outstanding voting
securities of any single company; (b) more than 5% of its total
assets would be invested in the securities of companies (including
predecessors) that have been in continuous operation for less than 3
years; (c) more than 25% of its total assets would be concentrated
in companies within any one industry as such industries are defined
in the SIC/SEC Industries Code; or (d) more than 5% of total assets
would be invested in warrants or rights.
3. The FUND may borrow money from a bank solely for temporary or
emergency purposes (but not in an amount equal to more than 10% of
the market value of its total assets). The FUND will not purchase
additional securities while borrowing is in excess of 5% of the
market value of its total assets.
4. The FUND will not make loans of money or securities other than (a)
through the purchase of publicly distributed debt securities in
accordance with its investment objective and (b) through repurchase
agreements.
5. The FUND may not invest more than 5% of its total assets in the
securities of other investment companies or purchase more than 3%
of any other investment company's voting securities.
6. The FUND may not knowingly purchase or otherwise acquire securities
which are subject to legal or contractual restrictions on resale or
for which there is no readily available market if, as a result
thereof, more than 10% of the net assets of the FUND (taken at
market value) would be invested in such securities, including
repurchase agreements in excess of 7 days.
7. The FUND may not pledge, mortgage or hypothecate its assets, except
that to secure borrowings permitted by Restriction 3 above, the FUND
may pledge securities having a value at the time of pledge not
exceeding 10% of the market value of the FUND's total assets.
8. The FUND may not purchase or sell commodity contracts, except for
stock, bond, currency and other financial futures contracts. (see
"Investment Objective and Policies- Forward Foreign currency
Exchange Contracts").
9. The FUND may not buy or sell any securities or other property on
margin, except for such short term credits as are necessary for the
clearance of transactions, and except for margin payments in
connection with the use of stock, bond, currency and other financial
futures contracts; and the FUND may not engage in short sales.
10. The FUND may not invest in companies for the purpose of exercising
control or management.
11. The FUND may not underwrite securities issued by others except to
the extent that the FUND may be deemed an underwriter when
purchasing or selling portfolio securities.
12. The FUND may not purchase or retain securities of any issuer (other
than the shares of the FUND) if to the FUND's knowledge, those
officers and Trustees of the FUND and the officers and directors of
VCM, who individually own beneficially more than 1/2 of 1% of the
outstanding securities of such issuer, together own beneficially
more than 5% of such outstanding securities.
13. The FUND may not purchase or sell real estate (although it may
purchase securities secured by real estate interests or interests
therein, or issued by companies or investment trusts which invest in
real estate or interests therein).
14. The FUND may not invest directly in oil, gas, or other mineral
exploration or development programs; provided, however, that if
consistent with the objective of the FUND, the FUND may purchase
securities of issuers whose principal business activities fall
within such areas.
15. The FUND may not issue senior securities.
In order to permit the sale of shares of the FUND in certain states, the
FUND may make commitments more restrictive than the restrictions described
above. Should the FUND determine that any such commitment is no longer in the
best interests of the FUND and its shareholders it will revoke the commitment by
terminating sales of its shares in the state(s) involved. Pursuant to one such
commitment, the Trust has agreed that the FUND will not: (1) invest in warrants,
valued at the lower of cost or market, in excess of 5% of the value of the
FUND's net assets, and no more than 2% of such value may be warrants which are
not listed on the New York or American Stock Exchanges; and (2) make direct
investments in oil, gas or other mineral leases.
Percentage restrictions apply at the time of acquisition and any
subsequent change in percentages due to changes in market value of portfolio
securities or other changes in total assets will not be considered a violation
of such restrictions.
<PAGE>
PORTFOLIO TRANSACTIONS
All orders for the purchase or sale of portfolio securities are placed on
behalf of the FUND by MCM subject to the supervision of VCM and the Trustees and
pursuant to authority contained in the Investment Advisory Contract and the
Sub-Advisory Agreement between the FUND and VCM and VCM and MCM. In selecting
such brokers of dealers, MCM will consider various relevant factors, including,
but not limited to the best net price available, the size and type of the
transaction, the nature and character of the markets for the security to be
purchased or sold, the execution efficiency, settlement capability, financial
condition of the broker-dealer firm, the broker-dealer's execution services
rendered on a continuing basis and the reasonableness of any commissions.
In addition to meeting the primary requirements of execution and price,
brokers or dealers may be selected who provide research services, or statistical
material or other services to the FUND or to MCM for the FUND's use. Those
services may include economic studies, industry studies, security analysis or
reports, sales literature and statistical services furnished either directly to
the FUND or to MCM. Such allocation shall be in such amounts as VCM shall
determine and MCM shall report regularly to VCM who will in turn report to the
Trustees on the allocation of brokerage for such services. The Trustees must
determine that such services are reasonable and necessary to the FUND's normal
operations.
The receipt of research from broker-dealers may be useful to MCM in
rendering investment management services to their other clients, and conversely,
such information provided by brokers or dealers who have executed orders on
behalf of MCMs' other clients may be useful to MCM in carrying out their
obligations to the FUND.
MCM is authorized, subject to its best efforts to obtain best price and
execution, to place portfolio transactions with brokerage firms that have
provided assistance in the distribution of shares of the FUND and are authorized
to use Federated Securities Corp. (the "Distributor"), and MCM or its affiliated
broker-dealers on an agency basis, to effect a substantial amount of the
portfolio transactions which are executed on the New York or American Stock
Exchanges, Regional Exchanges and Foreign Exchanges where relevant, or which are
traded in the Over-the Counter market. Any profits resulting from brokerage
commissions earned by the Distributor as a result of FUND transactions will
accrue to the benefit of the shareholders of the Distributor who are
shareholders of VCM. The Investment Advisory Contract does not provided for any
reduction in the advisory fee as a result of profits resulting from brokerage
commissions effected through the Distributor. In addition, the Sub-Advisory
Agreement between VCM and MCM does not provide for any reduction in the advisory
fee as a result of profits resulting from brokerage commissions effected through
MCM or its affiliated brokerage firms.
The Trustees have adopted certain procedures incorporating the standards
of Rule 17e-1 issued under the Investment Company Act of 1940 (the "1940 Act")
which requires that the commissions paid the Distributor or to MCM or its
affiliated broker-dealers must be "reasonable and fair compared to the
commission, fee or other remuneration received or to be received by other
brokers in connection with comparable transactions involving similar securities
during a comparable period of time." The Rule and the procedures also contain
review requirements and require VCM to furnish reports to the Trustees and to
maintain records in connection with such reviews.
Brokers or dealers who execute portfolio transactions on behalf of the
FUND may receive commissions which are in excess of the amount of commissions
which other brokers or dealers would have charged for effecting such
transactions; provided, VCM determines in good faith that such commissions are
reasonable in relation to the value of the brokerage and/or research services
provided by such executing brokers or dealers viewed in terms of a particular
transaction or VCM's overall responsibilities to the FUND. For the fiscal year
ended September 30, 1997, and for the period from May 1, 1996 through September
30, 1996, the FUND incurred brokerage commission expenses of $39,451 and
$43,997, respectively, from the purchase and sale of portfolio securities none
of which was paid to Shufro, Rose & Ehrman, a Former Sector Manager of the FUND.
For the years ended April 30, 1996, 1995 and 1994, the FUND incurred brokerage
commission expenses of $166,428, $488,175 and $583,706, respectively, from the
purchase and sale of portfolio securities, of which $40,660, $173,599 and
$121,292, respectively, or approximately 24%, 36% and 21%, respectively, was
paid to Shufro, Rose & Ehrman, a Sector Manager of the FUND, for effecting 10%,
46% and 27%, respectively, of the FUND's aggregate dollar amount of transactions
involving the payment of commissions. Shufro, Rose & Ehrman operates under
standards which would allow it to receive no more than the remuneration which
would be expected to be received by an unaffiliated broker in a commensurate
arms-length transaction which is executed on the New York or
<PAGE>
American Stock Exchanges. Moreover, in effecting portfolio transactions through
Shufro, Rose & Ehrman, the cost of the brokerage commissions to the FUND in some
cases is less than that available from unaffiliated brokers. The reliability of
Shufro, Rose & Ehrman and the value of its expected contribution to the FUND,
viewed either in terms of a particular transaction or the portfolio manager's
overall responsibilities to the FUND, is also taken into consideration in
selecting Shufro, Rose & Ehrman to serve as the FUND's broker.
It may happen that the same security will be held by other clients of VCM
or of the portfolio managers. When the other clients are simultaneously engaged
in the purchase or sale of the same security, the prices and amounts will be
allocated in accordance with a formula considered by VCM to be equitable to
each, taking into consideration such factors as size of account, concentration
of holdings, investment objectives, tax status, cash availability, purchase
cost, holding period and other pertinent factors relative to each account. In
some cases this system could have a detrimental effect on the price or volume of
the security as far as the FUND is concerned. In other cases, however, the
ability of the FUND to participate in volume transactions will produce better
executions for the FUND.
COMPUTATION OF NET ASSET VALUE
The net asset value of the FUND is determined at 4:00 p.m. (Eastern Time)
on each day that the New York Exchange is open for business and on such other
days as there is sufficient trading in the FUND's securities to affect
materially the net asset value per share of the FUND. The FUND will be closed on
New Years Day, Martin Luther King Day, Presidents' Day, Good Friday, Memorial
Day, Independence Day, Labor Day, Thanksgiving Day, and Christmas Day.
DETERMINING MARKET VALUE OF SECURITIES
Market or fair values of the FUND's portfolio securities are determined as
follows:
o according to the last reported sales price on a recognized
securities exchange, if available. (If a security is traded on more
than one exchange, the price on the primary market for that
security, as determined by the Adviser or sub-adviser, is used.);
o according to the last reported bid price, if no sale on the
recognized exchange is reported or if the security is traded
over-the-counter;
o for short-term obligations, according to the prices furnished by an
independent pricing service, except that short-term obligations with
remaining maturities of 60 days or less at the time of purchase, may
be valued at amortized cost; or
o 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 and may consider: institutional trading in
similar groups of securities; yield; quality ; coupon rate; maturity; type of
issue; trading characteristics; and other market data.
The FUND will value futures contracts, options and put options on futures
at their market values established by the exchanges at the close of option
trading on such exchanges unless the Board of Trustees determine in good faith
that another method of valuing options positions is necessary to appraise their
fair value. Over-the-counter put options will be valued at the mean between the
bid and asked prices.
TRADING IN FOREIGN SECURITIES
Trading in foreign securities may be completed at times which vary from
the closing of the New York Stock Exchange. In computing the net asset value,
the FUND values foreign securities at the latest closing price on the exchange
on which they are traded immediately prior to the closing of the New York Stock
Exchange. Certain foreign currency exchange rates are determined when such rates
are made available to the FUND at times prior to the close of the New York Stock
Exchange. Foreign securities quoted in foreign currencies are translated into U.
S. dollars at current rates. Occasionally, events that affect these values and
exchange rates may occur between the times at which they are determined and the
closing of the New York Stock Exchange. If such events materially affect the
value of portfolio securities, these securities may be valued at their fair
value as determined in good faith by the Trustees, although the actual
calculation may be done by others.
<PAGE>
PERFORMANCE INFORMATION
For purposes of quoting and comparing the performance of the FUND to that
of other mutual funds and to stock or other relevant indices in advertisements
or in reports to Shareholders, performance will be stated in terms of total
return, rather than in terms of yield. The total return basis combines principal
and dividend income changes for the periods shown. Principal changes are based
on the difference between the beginning and closing net asset values for the
period and assume reinvestment of dividends and distributions paid by the FUND.
Dividends and distributions are comprised of net investment income and net
realized capital gains. Under the rules of the SEC, funds advertising
performance must include total return quotes calculated according to the
following formula:
P(1 + T)n = ERV
Where P = a hypothetical initial payment of $1,000
T = average annual total return
n = number of years (1, 5 or 10)
ERV = ending redeemable value of a hypothetical $1,000 payment made
at the beginning of the 1, 5 or 10 year periods or at the end
of the 1, 5 or 10 year periods (or fractional portion thereof)
Under the foregoing formula the time periods used in advertising will be
based on rolling calendar quarters, updated to the last day of the most recent
quarter prior to submission of the advertising for publication, and will cover
one, five, and ten year periods or a shorter period dating from the
effectiveness of the FUND's registration statement. In calculating the ending
redeemable value, the pro rata share of the account opening fee is deducted from
the initial $1,000 investment and all dividends and distributions by the FUND
are assumed to have been reinvested at net asset value as described in the
prospectus on the reinvestment dates during the period. Total return, or "T" in
the formula above, is computed by finding the average annual compounded rates of
return over the 1, 5 and 10 year periods (or fractional portion thereof) that
would equate the initial amount invested to the ending redeemable value.
The FUND's average annual total rate of return, reflecting the initial
investment of $1,000 and reinvestment of all dividends and distributions, for
the one-year, five-year and ten-year periods ended September 30, 1997, was
13.20%, 10.51%, and 6.44%, respectively.
The FUND may also from time to time include in such advertising a total
return figure that is not calculated according to the formula set forth above in
order to compare more accurately the FUND's performance with other measures of
investment return. For example, in comparing the FUND's total return with data
published by Lipper Analytical Services, Inc. or the Standard & Poor's 500 Stock
Index or the Dow Jones Industrial Average, the FUND calculates its aggregate
total return for the specified periods of time by assuming the reinvestment of
each dividend or other distribution at net asset value on the reinvestment date.
Percentage increases are determined by subtracting the initial net asset value
of the investment from the ending net asset value and by dividing the remainder
by the beginning net asset value. The FUND does not, for these purposes, deduct
the pro rata share of the account opening fee, which was in effect until
December, 1994 from the initial value invested. The FUND will, however, disclose
the pro rata share of the account opening fee and will disclose that the
performance data does not reflect such non-recurring charge and that inclusion
of such charge would reduce the performance quoted. Such alternative total
return information will be given no greater prominence in such advertising than
the information prescribed under SEC rules and all advertisements containing
performance data will include a legend disclosing that such performance data
represent past performance and that the investment return and principal value of
an investment will fluctuate so that an investor's shares, when redeemed, may be
worth more or less than their original cost.
<PAGE>
ADDITIONAL PURCHASE AND REDEMPTION INFORMATION
The FUND reserves the right to close an account that has dropped below
$1,000 in value for a period of three months or longer other than as a result of
a decline in the net asset value per share. Shareholders are notified at least
60 days prior to any proposed redemption and are invited to add to their account
if they wish to continue as a shareholder of the FUND, however, the FUND does
not presently contemplate making such redemptions and the FUND will not redeem
any shares held in tax-sheltered retirement plans.
The FUND has elected to be governed by Rule 18f-1 of the 1940 Act, under
which the FUND is obligated to redeem the shares of any shareholder solely in
cash up to the lesser of 1% of the net asset value of the FUND or $250,000
during any 90-day period. Should any shareholder's redemption exceed this
limitation, the FUND can, at its sole option, redeem the excess in cash or in
portfolio securities. Such securities would be selected solely by the FUND and
valued as in computing net asset value. In these circumstances a shareholder
selling such securities would probably incur a brokerage charge and there can be
no assurance that the price realized by a shareholder upon the sale of such
securities will not be less than the value used in computing net asset value for
the purpose of such redemption.
TAX MATTERS
The following is only a summary of certain additional tax considerations
generally affecting the FUND and its shareholders that are not described in the
Prospectus. No attempt is made to present a detailed explanation of the tax
treatment of the FUND or its shareholders, and the discussions here and in the
Prospectus are not intended as substitutes for careful tax planning.
QUALIFICATION AS A REGULATED INVESTMENT COMPANY
The FUND has elected to be taxed as a regulated investment company under
Subchapter M of the Internal Revenue Code of 1986, as amended (the "Code"). As a
regulated investment company, the FUND is not subject to federal income tax on
the portion of its net investment income (i.e., taxable interest, dividends and
other taxable ordinary income, net of expenses) and capital gain net income
(i.e., the excess of capital gains over capital losses) that it distributes to
shareholders, provided that it distributes at least 90% of its investment
company taxable income (i.e., net investment income and the excess of net
short-term capital gain over net long-term capital loss) for the taxable year
(the "Distribution Requirement"), and satisfies certain other requirements of
the Code that are described below. Please note that the below-listed and defined
"Short-Short Gain Test" has been repealed pursuant to the Taxpayer Relief Act of
1997, effective for taxable years beginning after the date of enactment. For
purposes of the FUND, the effective date of the repeal will be October 1, 1997.
Distributions by the FUND made during the taxable year or, under specified
circumstances, within twelve months after the close of the taxable year, will be
considered distributions of income and gains of the taxable year and can
therefore satisfy the Distribution Requirement.
In addition to satisfying the Distribution Requirement, a regulated
investment company must: (1) derive at least 90% of its gross income from
dividends, interest, certain payments with respect to securities loans, gains
from the sale or other disposition of stock or securities or foreign currencies
(to the extent such currency gains are directly related to the regulated
investment company's principal business of investing in stock or securities) and
other income (including but not limited to gains from options, futures or
forward contracts) derived with respect to its business of investing in such
stock, securities or currencies (the "Income Requirement"); and (2) derive less
than 30% of its gross income (exclusive of certain gains on designated hedging
transactions that are offset by realized or unrealized losses on offsetting
positions) from the sale or other disposition of stock, securities or foreign
currencies (or options, futures or forward contracts thereon) held for less than
three months (the "Short-Short Gain Test"). However, foreign currency gains,
including those derived from options, futures and forwards, will not in any
event be characterized as Short-Short Gain if they are directly related to the
regulated investment company's investments in stock or securities (or options or
futures thereon). Because of the Short-Short Gain Test, the FUND may have to
limit the sale of appreciated securities that it has held for less than three
months. However, the Short-Short Gain
<PAGE>
Test will not prevent the FUND from disposing of investments at a loss, since
the recognition of a loss before the expiration of the three-month holding
period is disregarded for this purpose. Interest (including original issue
discount) received by the FUND at maturity or upon the disposition of a security
held for less than three months will not be treated as gross income derived from
the sale or other disposition of such security within the meaning of the
Short-Short Gain Test. However, income that is attributable to realized market
appreciation will be treated as gross income from the sale or other disposition
of securities for this purpose.
In general, gain or loss recognized by the FUND on the disposition of an
asset will be a capital gain or loss. However, gain recognized on the
disposition of a debt obligation purchased by the FUND at a market discount
(generally, at a price less than its principal amount) will be treated as
ordinary income to the extent of the portion of the market discount which
accrued while the FUND held the debt obligation. In addition, under the rules of
Code Section 988, gain or loss recognized on the disposition of a debt
obligation denominated in a foreign currency or an option with respect thereto
(but only to the extent attributable to changes in foreign currency exchange
rates), and gain or loss recognized on the disposition of a foreign currency
forward contract, futures contract, option or similar financial instrument, or
of foreign currency itself, except for regulated futures contracts or non-equity
options subject to Code Section 1256 (unless the FUND elects otherwise), will
generally be treated as ordinary income or loss.
In general, for purposes of determining whether capital gain or loss
recognized by the FUND on the disposition of an asset is long-term or
short-term, the holding period of the asset may be affected if (i) the asset is
used to close a "short sale" (which includes for certain purposes the
acquisition of a put option) or is substantially identical to another asset so
used, (ii) the asset is otherwise held by the FUND as part of a "straddle"
(which term generally excludes a situation where the asset is stock and the FUND
grants a qualified covered call option (which, among other things, must not be
deep-in-the-money) with respect thereto) or (iii) the asset is stock and the
FUND grants an in-the-money qualified covered call option with respect thereto.
However, for purposes of the Short-Short Gain Test, the holding period of the
asset disposed of may be reduced only in the case of clause (i) above. In
addition, the FUND may be required to defer the recognition of a loss on the
disposition of an asset held as part of a straddle to the extent of any
unrecognized gain on the offsetting position.
Any gain recognized by the FUND on the lapse of, or any gain or loss
recognized by the FUND from a closing transaction with respect to, an option
written by the FUND will be treated as a short-term capital gain or loss. For
purposes of the Short-Short Gain Test, the holding period of an option written
by the FUND will commence on the date it is written and end on the date it
lapses or the date a closing transaction is entered into. Accordingly, the FUND
may be limited in its ability to write options which expire within three months
and to enter into closing transactions at a gain within three months of the
writing of options.
Certain transactions that may be engaged in by the FUND (such as regulated
futures contracts, certain foreign currency contracts, and options on stock
indexes and futures contracts) will be subject to special tax treatment as
"Section 1256 contracts." Section 1256 contracts are treated as if they are sold
for their fair market value on the last business day of the taxable year, even
though a taxpayer's obligations (or rights) under such contracts have not
terminated (by delivery, exercise, entering into a closing transaction or
otherwise) as of such date. Any gain or loss recognized as a consequence of the
year-end deemed disposition of Section 1256 contracts is taken into account for
the taxable year together with any other gain or loss that was previously
recognized upon the termination of Section 1256 contracts during that taxable
year. Any capital gain or loss for the taxable year with respect to Section 1256
contracts (including any capital gain or loss arising as a consequence of the
year-end deemed sale of such contracts) is generally treated as 60% long-term
capital gain or loss and 40% short-term capital gain or loss. The FUND, however,
may elect not to have this special tax treatment apply to Section 1256 contracts
that are part of a "mixed straddle" with other investments of the FUND that are
not Section 1256 contracts. The Internal Revenue Service (the "IRS") has held in
several private rulings (and Treasury Regulations now provide) that gains
arising from Section 1256 contracts will be treated for purposes of the
Short-Short Gain Test as being derived from securities held for not less than
three months if the gains arise as a result of a constructive sale under Code
Section 1256.
<PAGE>
The FUND may purchase securities of certain foreign investment funds or
trusts which constitute passive foreign investment companies ("PFICs") for
federal income tax purposes. If the FUND invests in a PFIC, it may elect to
treat the PFIC as a qualifying electing fund (a "QEF") in which event the FUND
will each year have ordinary income equal to its pro rata share of the PFIC's
ordinary earnings for the year and long-term capital gain equal to its pro rata
share of the PFIC's net capital gain for the year, regardless of whether the
FUND receives distributions of any such ordinary earning or capital gain from
the PFIC. If the FUND does not (because it is unable to, chooses not to or
otherwise) elect to treat the PFIC as a QEF, then in general (i) any gain
recognized by the FUND upon sale or other disposition of its interest in the
PFIC or any "excess distribution" (as defined) received by the FUND from the
PFIC will be allocated ratably over the FUND's holding period of its interest in
the PFIC, (ii) the portion of such gain or excess distribution so allocated to
the year in which the gain is recognized or the excess distribution is received
shall be included in the FUND's gross income for such year as ordinary income
(and the distribution of such portion by the FUND to shareholders will be
taxable as an ordinary income dividend, but such portion will not be subject to
tax at the FUND level), (iii) the FUND shall be liable for tax on the portions
of such gain or excess distribution so allocated to prior years in an amount
equal to, for each such prior year, (A) the amount of gain or excess
distribution allocated to such prior year multiplied by the highest corporate
tax rate in effect for such prior year plus (B) interest on the amount
determined under clause (A) for the period from the due date for filing a return
for such prior year until the date for filing a return for the year in which the
gain is recognized or the excess distribution is received at the rates and
methods applicable to underpayments of tax for such period, and (iv) the
distribution by the FUND to shareholders of the portions of such gain or excess
distribution so allocated to prior years (net of the tax payable by the FUND
thereon) will again be taxable to the shareholders as an ordinary income
dividend.
Under recently proposed Treasury Regulations the FUND can elect to
recognize as gain the excess, as of the last day of its taxable year, of the
fair market value of each share of PFIC stock over the FUND's adjusted tax basis
in that share ("mark to market gain"). Such mark to market gain will be included
by the FUND as ordinary income, such gain will not be subject to the Short-Short
Gain Test, and the FUND's holding period with respect to such PFIC stock
commences on the first day of the next taxable year. If the FUND makes such
election in the first taxable year it holds PFIC stock, the FUND will include
ordinary income from any mark to market gain, if any, and will not incur the tax
described in the previous paragraph.
Treasury Regulations permit a regulated investment company, in determining
its investment company taxable income and net capital gain (i.e., the excess of
net long-term capital gain over net short-term capital loss) for any taxable
year, to elect (unless it has made a taxable year election for excise tax
purposes as discussed below) to treat all or any part of any net capital loss,
any net long-term capital loss or any net foreign currency loss incurred after
October 31 as if it had been incurred in the succeeding year. As of September
30, 1997, the FUND did not have foreign currency losses to defer. At September
30, 1997, the FUND did not have a net capital loss carryover.
In addition to satisfying the requirements described above, the FUND must
satisfy an asset diversification test in order to qualify as a regulated
investment company. Under this test, at the close of each quarter of the FUND's
taxable year, at least 50% of the value of the FUND's assets must consist of
cash and cash items, U.S. Government securities, securities of other regulated
investment companies, and securities of other issuers (as to which the FUND has
not invested more than 5% of the value of the FUND's total assets in securities
of such issuer and as to which the FUND does not hold more than 10% of the
outstanding voting securities of such issuer), and no more than 25% of the value
of its total assets may be invested in the securities of any one issuer (other
than U.S. Government securities and securities of other regulated investment
companies), or in two or more issuers which the FUND controls and which are
engaged in the same or similar trades or businesses. Generally, an option (call
or put) with respect to a security is treated as issued by the issuer of the
security not the issuer of the option. However, with regard to forward currency
contracts, there does not appear to be any formal or informal authority which
identifies the issuer of such instrument.
If for any taxable year the FUND does not qualify as a regulated
investment company, all of its taxable income (including its net capital gain)
will be subject to tax at regular corporate rates without any deduction for
distributions to shareholders, and such distributions will be taxable to the
shareholders as ordinary dividends to the extent of the FUND's current and
accumulated earnings and profits. Such distributions generally will be eligible
for the dividends-received deduction in the case of corporate shareholders.
<PAGE>
EXCISE TAX ON REGULATED INVESTMENT COMPANIES
A 4% non-deductible excise tax is imposed on a regulated investment
company that fails to distribute in each calendar year an amount equal to 98% of
ordinary taxable income for the calendar year and 98% of capital gain net income
for the one-year period ended on October 31 of such calendar year (or, at the
election of a regulated investment company having a taxable year ending November
30 or December 31, for its taxable year (a "taxable year election")). The
balance of such income must be distributed during the next calendar year. For
the foregoing purposes, a regulated investment company is treated as having
distributed any amount on which it is subject to income tax for any taxable year
ending in such calendar year.
For purposes of the excise tax, a regulated investment company shall: (1)
reduce its capital gain net income (but not below its net capital gain) by the
amount of any net ordinary loss for the calendar year; and (2) exclude foreign
currency gains and losses incurred after October 31 of any year (or after the
end of its taxable year if it has made a taxable year election) in determining
the amount of ordinary taxable income for the current calendar year (and,
instead, include such gains and losses in determining ordinary taxable income
for the succeeding calendar year).
The FUND intends to make sufficient distributions or deemed distributions
of its ordinary taxable income and capital gain net income prior to the end of
each calendar year to avoid liability for the excise tax. However, investors
should note that the FUND may in certain circumstances be required to liquidate
portfolio investments to make sufficient distributions to avoid excise tax
liability.
FUND DISTRIBUTIONS
The FUND anticipates distributing substantially all of its investment
company taxable income for each taxable year. Such distributions will be taxable
to shareholders as ordinary income and treated as dividends for federal income
tax purposes, but they will qualify for the 70% dividends-received deduction for
corporate shareholders only to the extent discussed below.
The FUND may either retain or distribute to shareholders its net capital
gain for each taxable year. The FUND currently intends to distribute any such
amounts. Net capital gain is distributed and designated as a capital gain
dividend will be taxable to shareholders as long-term capital gain, regardless
of the length of time the shareholder has held his shares or whether such gain
was recognized by the FUND prior to the date on which the shareholder acquired
his shares. The Code provides, however, that under certain conditions only 50%
of the capital gain recognized upon the FUND's disposition of "small business"
stock will be subject to tax.
Ordinary income dividends paid by the FUND with respect to a taxable year
will qualify for the 70% dividends-received deduction generally available to
corporations (other than corporations, such as S corporations, which are not
eligible for the deduction because of their special characteristics and other
than for purposes of special taxes such as the accumulated earnings tax and the
personal holding company tax) to the extent of the amount of qualifying
dividends received by the FUND from domestic corporations for the taxable year.
A dividend received by the FUND will not be treated as a qualifying dividend (1)
if it has been received with respect to any share of stock that the FUND has
held for less than 46 days (91 days in the case of certain preferred stock),
excluding for this purpose under the rules of Code Section 246(c) (3) and (4):
(i) any day more than 45 days (or 90 days in the case of certain preferred
stock) after the date on which the stock becomes ex-dividend and (ii) any period
during which the FUND has an option to sell, is under a contractual obligation
to sell, has made and not closed a short sale of, is the grantor of a
deep-in-the-money or otherwise nonqualified option to buy, or has otherwise
diminished its risk of loss by holding other positions with respect to, such (or
substantially identical) stock; (2) to the extent that the FUND is under an
obligation (pursuant to a short sale or otherwise) to make related payments with
respect to positions in substantially similar or related property; or (3) to the
extent the stock on which the dividend is paid is treated as debt-financed under
the rules of Code Section 246A. Moreover, the dividends-received deduction for a
corporate shareholder may be disallowed or reduced (i) if the corporate
shareholder fails to satisfy the foregoing requirements with respect to its
shares of the FUND or (ii) by application of Code Section 246(b) which in
general limits the dividends-received deduction to 70% of the shareholder's
taxable income (determined without regard to the dividends-received deduction
and certain other items).
<PAGE>
Alternative minimum tax ("AMT") is imposed in addition to, but only to the
extent it exceeds, the regular tax and is computed at a maximum marginal rate of
28% for noncorporate taxpayers and 20% for corporate taxpayers on the excess of
the taxpayer's alternative minimum taxable income ("AMTI") over an exemption
amount. In addition, under the Superfund Amendments and Reauthorization Act of
1986, a tax is imposed for taxable years beginning after 1986 and before 1996 at
the rate of 0.12% on the excess of a corporate taxpayer's AMTI (determined
without regard to the deduction for this tax and the AMT net operating loss
deduction) over $2 million. For purposes of the corporate AMT and the
environmental super fund tax (which are discussed above), the corporate
dividends-received deduction is not itself an item of tax preference that must
be added back to taxable income or is otherwise disallowed in determining a
corporation's AMTI. However, corporate shareholders will generally be required
to take the full amount of any dividend received from the FUND into account
(without a dividends-received deduction) in determining its adjusted current
earnings, which are used in computing an additional corporate preference item
(i.e., 75% of the excess of a corporate taxpayer's adjusted current earnings
over its AMTI (determined without regard to this item and the AMT net operating
loss deduction)) includable in AMTI.
Investment income that may be received by the FUND from sources within
foreign countries may be subject to foreign taxes withheld at the source. The
United States has entered into tax treaties with many foreign countries which
entitle the FUND to a reduced rate of, or exemption from, taxes on such income.
It is impossible to determine the effective rate of foreign tax in advance since
the amount of the FUND's assets to be invested in various countries is not
known. If more than 50% of the value of the FUND's total assets at the close of
its taxable year consist of the stock or securities of foreign corporations, the
FUND may elect to "pass through" to the FUND's shareholders the amount of
foreign taxes paid by the FUND. If the FUND so elects, each shareholder would be
required to include in gross income, even though not actually received, his pro
rata share of the foreign taxes paid by the FUND, but would be treated as having
paid his pro rate share of such foreign taxes and would therefore be allowed to
either deduct such amount in computing taxable income or use such amount
(subject to various Code limitations) as a foreign tax credit against federal
income tax (but not both). For purposes of the foreign tax credit limitation
rules of the Code, each shareholder would treat as foreign source income his pro
rata share of such foreign taxes plus the portion of dividends received from the
FUND representing income derived from foreign sources. No deduction for foreign
taxes could be claimed by an individual shareholder who does not itemize
deductions. Each shareholder should consult his own tax adviser regarding the
potential application of foreign tax credits.
Distributions by the FUND that do not constitute ordinary income dividends
or capital gain dividends will be treated as a return of capital to the extent
of (and in reduction of) the shareholder's tax basis in his shares; any excess
will be treated as gain from the sale of his shares, as discussed below.
Distributions by the FUND will be treated in the manner described above
regardless of whether such distributions are paid in cash or reinvested in
additional shares of the FUND (or of another fund). Shareholders receiving a
distribution in the form of additional shares will be treated as receiving a
distribution in an amount equal to the fair market value of the shares received,
determined as of the reinvestment date. In addition, if the net asset value at
the time a shareholder purchases shares of the FUND reflects undistributed net
investment income or recognized capital gain net income, or unrealized
appreciation in the value of the assets of the FUND, distributions of such
amounts will be taxable to the shareholder as dividends in the manner described
above, although such distributions economically constitute a return of capital
to the shareholder.
Ordinarily, shareholders are required to take distributions by the FUND
into account in the year in which the distributions are made. However, dividends
declared in October, November or December of any year and payable to
shareholders of record on a specified date in such a month will be deemed to
have been received by the shareholders (and made by the FUND) on December 31 of
such calendar year if such dividends are actually paid in January of the
following year. Shareholders will be advised annually as to the U.S. federal
income tax consequences of distributions made (or deemed made) during the year.
The FUND will be required in certain cases to withhold and remit to the
U.S. Treasury 31% of ordinary income dividends and capital gain dividends, and
the proceeds of redemption of shares, paid to any shareholder (1) who has
provided either an incorrect tax identification number or no number at all, (2)
who is subject to backup withholding by the IRS for failure to report the
receipt of interest or dividend income properly, or (3) who has failed to
certify to the FUND that it is not subject to backup withholding or that it is a
corporation or other "exempt recipient."
<PAGE>
SALE OR REDEMPTION OF SHARES
A shareholder will recognize gain or loss on the sale or redemption of
shares of the FUND in an amount equal to the difference between the proceeds of
the sale or redemption and the shareholder's adjusted tax basis in the shares.
All or a portion of any loss so recognized may be disallowed if the shareholder
purchases other shares of the FUND within 30 days before or after the sale or
redemption. In general, any gain or loss arising from (or treated as arising
from) the sale or redemption of shares of the FUND will be considered capital
gain or loss and will be long-term capital gain or loss if the shares were held
for longer than one year. However, any capital loss arising from the sale or
redemption of shares held for six months or less will be treated as a long-term
capital loss to the extent of the amount of capital gain dividends received on
such shares. For this purpose, the special holding period rules of Code Section
246(c)(3) and (4) (discussed above in connection with the dividends-received
deduction for corporations) generally will apply in determining the holding
period of shares. Long-term capital gains of noncorporate taxpayers are
currently taxed at a maximum rate 11.6% lower than the maximum rate applicable
to ordinary income. Capital losses in any year are deductible only to the extent
of capital gains plus, in the case of a noncorporate taxpayer, $3,000 of
ordinary income.
FOREIGN SHAREHOLDERS
Taxation of a shareholder who, as to the United States, is a nonresident
alien individual, foreign trust or estate, foreign corporation, or foreign
partnership ("foreign shareholder"), depends on whether the income from the FUND
is "effectively connected" with a U.S. trade or business carried on by such
shareholder.
If the income from the FUND is not effectively connected with a U.S. trade
or business carried on by a foreign shareholder, ordinary income dividends will
be subject to U.S. withholding tax at the rate of 30% (or lower applicable
treaty rate, if any) upon the gross amount of the dividend. Furthermore, such a
foreign shareholder may be subject to U.S. withholding tax at the rate of 30%
(or lower treaty rate) on the gross income resulting from the FUND's election to
treat any foreign taxes paid by it as paid by its shareholders, but may not be
allowed a deduction against this gross income or a credit against this U.S.
withholding tax for the foreign shareholder's pro rata share of such foreign
taxes which it is treated as having been paid. Such a foreign shareholder would
generally be exempt from U.S. federal income tax on gains realized on the sale
of shares of the FUND and capital gain dividends.
If the income from the FUND is effectively connected with a U.S. trade or
business carried on by a foreign shareholder, then ordinary income dividends,
capital gain dividends, and any gains realized upon the sale of shares of the
FUND will be subject to U.S. federal income tax at the rates applicable to U.S.
citizens or domestic corporations.
In the case of foreign noncorporate shareholders, the FUND may be required
to withhold U.S. federal income tax at a rate of 31% on distributions that are
otherwise exempt from withholding tax (or taxable at a reduced treaty rate)
unless such shareholders furnish the FUND with proper notification of its
foreign status.
The tax consequences to a foreign shareholder entitled to claim the
benefits of an applicable tax treaty may be different from those described
herein. Foreign shareholders are urged to consult their own tax advisers with
respect to the particular tax consequences to them of an investment in the FUND,
including the applicability of foreign taxes.
EFFECT OF FUTURE LEGISLATION; LOCAL TAX CONSIDERATIONS
The foregoing general discussion of U.S. federal income tax consequences
is based on the Code and the Treasury Regulations issued thereunder as in effect
on the date of this Statement of Additional Information. Future legislative or
administrative changes or court decisions may significantly change the
conclusions expressed herein, and any such changes or decisions may have a
retroactive effect with respect to the transactions contemplated herein.
Rules of state and local taxation of ordinary income dividends and capital
gain dividends from regulated investment companies often differ from the rules
for U.S. federal income taxation described above. Shareholders are urged to
consult their tax advisers as to the consequences of these and other state and
local tax rules affecting an investment in the FUND under their particular
circumstances.
<PAGE>
BLANCHARD FUNDS MANAGEMENT
Officers and Trustees are listed with their addresses, birthdates, and present
positions with Blanchard Funds, and principal occupations.
<TABLE>
<CAPTION>
<S> <C>
JOHN F. DONAHUE@*
FEDERATED INVESTORS TOWER
PITTSBURGH, PA CHAIRMAN AND TRUSTEE OF THE FUND; Chairman and
BIRTHDATE: JULY 28, 1924 Trustee, Federated Investors, Federated Advisers, Federated Management, and
Federated Research; Chairman and Director, Federated Research Corp. and Federated
Global Research Corp.; Chairman, Passport Research, Ltd.; Chief Executive Officer and
Director or Trustee of the Funds. Mr. Donahue is
the father of J. Christopher Donahue, Executive Vice President of the Trust.
THOMAS G. BIGLEY
15 OLD TIMBER TRAIL
PITTSBURGH, PA
BIRTHDATE: FEBRUARY 3, 1934 TRUSTEE OF THE FUND; Chairman of the Board,
Children's Hospital of Pittsburgh
formerly, Senior Partner, Ernst &
Young LLP; Director, MED 3000 Group,
Inc.; Director, Member of Executive
Committee, University of Pittsburgh;
Director or Trustee of the Funds. .
JOHN T. CONROY, JR.
WOOD/IPC COMMERCIAL DEPARTMENT
JOHN R. WOOD AND ASSOCIATES,
INC., REALTORS
3255 TAMIAMI TRAIL NORTH
NAPLES, FL TRUSTEE OF THE FUND; President, Investment
BIRTHDATE: JUNE 23, 1937 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; Director or Trustee of the Funds.
WILLIAM J. COPELAND
ONE PNC PLAZA - 23RD FLOOR
PITTSBURGH, PA TRUSTEE OF THE FUND; Director and Member of the
BIRTHDATE: JULY 4, 1918 Executive Committee, Michael Baker, Inc.; formerly,
Vice Chairman and Director, PNC Bank, N.A., and
PNC Bank Corp. and Director, Ryan Homes, Inc.; Director or Trustee of the Funds.
JAMES E. DOWD
571 HAYWARD MILL ROAD
CONCORD, MA TRUSTEE OF THE FUND; Attorney-at-law; Director, The
BIRTHDATE: MAY 18, 1922 Emerging Germany Fund, Inc.; Director or Trustee of the Funds.
<PAGE>
LAWRENCE D. ELLIS, M.D.*
3471 FIFTH AVENUE, SUITE 1111
PITTSBURGH, PA TRUSTEE OF THE FUND; Professor of Medicine,
BIRTHDATE: OCTOBER 11, 1932 University of Pittsburgh; Medical Director, University of Pittsburgh Medical
Center - Downtown; Member, Board of Directors, University of
Pittsburgh Medical Center; formerly, Hematologist,
Oncologist, and Internist, Presbyterian and Montefiore Hospitals;
Director or Trustee of the Funds.
EDWARD L. FLAHERTY, JR.@
MILLER AMENT HENNY & KOCHUBA
205 ROSS STREET TRUSTEE OF THE FUND; Attorney of Counsel, Miller,
PITTSBURGH, PA Ament, Henny & Kochuba; Director, Eat'N Park
BIRTHDATE: JUNE 18, 1924 Restaurants, Inc.; formerly, Counsel, Horizon Financial, F.A.,
Western Region; Director or Trustee of the Funds. .
EDWARD C. GONZALES*
FEDERATED INVESTORS TOWER
PITTSBURGH, PA PRESIDENT, TREASURER AND TRUSTEE OF THE FUND;
BIRTHDATE: OCTOBER 22, 1930 Vice Chairman, Treasurer, and Trustee, Federated Investors; 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; Trustee or Director of some of
the Funds; President,
Executive Vice President and Treasurer of some of the Funds.
PETER E. MADDEN
ONE ROYAL PALM WAY
100 ROYAL PALM WAY
PALM BEACH, FL TRUSTEE OF THE FUND; Consultant; Former State
BIRTHDATE: MARCH 16, 1942 Representative, Commonwealth of Massachusetts; formerly, President, State Street
Bank and Trust Company and State Street Boston Corporation; Director or Trustee
of the Funds.
JOHN E. MURRAY, JR., J.D., S.J.D.
DUQUESNE UNIVERSITY
PITTSBURGH, PA TRUSTEE OF THE FUND; President, Law Professor,
BIRTHDATE: DECEMBER 20, 1932 Duquesne University; Consulting Partner, Mollica & Murray; Director or Trustee
of the Funds.
<PAGE>
WESLEY W. POSVAR
1202 CATHEDRAL OF LEARNING
UNIVERSITY OF PITTSBURGH
PITTSBURGH, PA TRUSTEE OF THE FUND; Professor, International
BIRTHDATE: SEPTEMBER 14, 1925 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; Director
or Trustee of the Funds. .
MARJORIE P. SMUTS
4905 BAYARD STREET
PITTSBURGH, PA TRUSTEE OF THE FUND; Public
BIRTHDATE: JUNE 21, 1935 Relations/Marketing/Conference Planning; Director or Trustee of the Funds.
J. CHRISTOPHER DONAHUE
FEDERATED INVESTORS TOWER
PITTSBURGH, PA EXECUTIVE VICE PRESIDENT OF THE FUND; President
BIRTHDATE: APRIL 11, 1949 and Trustee, Federated Investors, 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; President or Executive Vice President
of the Funds; Director or Trustee of some of the Funds. Mr. Donahue is the son of
John F. Donahue, Chairman and Trustee of the Trust.
JOHN W. MCGONIGLE
FEDERATED INVESTORS TOWER
PITTSBURGH, PA EXECUTIVE VICE PRESIDENT, AND SECRETARY
BIRTHDATE: OCTOBER 26, 1938 OF THE FUND; Executive Vice President, Secretary, and Trustee,
Federated Investors; 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.;
Executive Vice President and Secretary of the Funds; Treasurer of some of the Funds.
<PAGE>
RICHARD B. FISHER
FEDERATED INVESTORS TOWER
PITTSBURGH, PA VICE PRESIDENT OF THE FUND; Executive Vice
BIRTHDATE: MAY 17, 1923 President and Trustee, Federated
Investors, Chairman and Director,
Federated Securities Corp.; President
or Vice President of some of the
Funds; Director or Trustee of some of
the Funds.
JOESEPH S. MACHI
FEDERATED INVESTORS TOWER
PITTSBURGH, PA VICE PRESIDENT AND ASSISTANT TREASURER; Vice
BIRTHDATE: MAY 22, 1962 President and Assistant Treasurer of some of the Funds.
</TABLE>
* This Trustee is deemed to be an "interested person" of the Trust as defined
in the Investment Company Act of 1940, as amended.
@ Member of the Executive Committee. The Executive Committee of the Board of
Trustees handles the responsibilities of the Board of Trustees between
meetings of the Board.
As referred to in the list of Trustees and Officers, "Funds" includes the
following investment companies: 111 Corcoran Funds; Arrow Funds; Automated
Government Money Trust; Blanchard Funds; Blanchard Precious Metals Fund, Inc.;
Cash Trust Series II; Cash Trust Series, Inc. ; 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 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.; First Priority Funds;
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; RIMCO Monument
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; and World Investment Series, Inc.
FUND OWNERSHIP
As of October 29, 1997, Officers and Trustees own less than 1% of the
outstanding shares of each Fund.
To the best knowledge of the FUND, as of October 29, 1997, no shareholder
owned 5% or more of the outstanding shares of the FUND.
<PAGE>
OFFICERS AND TRUSTEES COMPENSATION
- ------------------------------------------------------------------------------
AGGREGATE COMPENSATION TOTAL COMPENSATION PAID
NAME, POSITION FROM TO TRUSTEES FROM THE
WITH THE TRUST THE TRUST* FUND AND FUND COMPLEX**
- ------------------------------------------------------------------------------
- ------------------------------------------------------------------------------
John F. Donahue, $0 $0 for the Fund Complex
Chairman and Trustee
Thomas G. Bigley, Trustee $1,011 $3,217 for the Fund
Complex
John T. Conroy, Jr., $1,114 $3,538 for the Fund
Trustee Complex
William J. Copeland, $1,114 $3,538 for the Fund
Trustee Complex
James E. Dowd, Trustee $1,114 $3,538 for the Fund
Complex
Lawrence D. Ellis, M.D., $1,011 $3,217 for the Fund
Trustee Complex
Edward L. Flaherty, Jr., $1,114 $3,538 for the Fund
Trustee Complex
Edward C. Gonzales, $0 $0 for the Fund Complex
President and Trustee
Peter E. Madden, Trustee $1,011 $3,217 for the Fund
Complex
John E. Murray, Jr., $1,011 $3,217 for the Fund
J.D., S.J.D., Trustee Complex
Wesley W. Posvar, Trustee $1,011 $3,217 for the Fund
Complex
Marjorie P. Smuts $1,011 $3,217 for the Fund
Trustee Complex
* The aggregate compensation for the fiscal year ended 9/30/97 is provided for
the Trust which is comprised of five portfolios. **The total compensation is
provided for the Fund Complex, which consists of the Blanchard Precious Metals
Fund, The Virtus Funds, and the
Trust. The information is provided for Blanchard Funds and Blanchard Precious
Metals Fund, Inc. and The Virtus Funds for the
fiscal year ended 9/30/97.
MANAGEMENT SERVICES
MANAGER TO THE TRUST
The Trust's manager is Virtus Capital Management, Inc. ("VCM"), which is a
wholly-owned subsidiary of Signet Banking Corporation. Because of the internal
controls maintained by Signet Bank to restrict the flow of non-public
information, FUND investments are typically made without any knowledge of Signet
Bank's or its affiliates' lending relationships with an issuer.
The manager shall not be liable to the Trust, a Fund, or any shareholder
of any of the Funds 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.
MANAGEMENT FEES
For its services, VCM receives an annual management fee as described in
the prospectus. For the fiscal year ended September 30, 1997, and for the period
from May 1, 1996 through September 30, 1996, the aggregate amount paid or
accrued by the FUND to VCM was $645,955 and $291,223, respectively. For the
fiscal year ended April 30, 1996, the aggregate amount paid or accrued by the
FUND to VCM and the prior manager was $783,420. For the fiscal years ended April
30, 1995 and 1994, the aggregate amounts paid or accrued by the FUND to the
prior manager were $983,753 and $943,678, respectively.
PORTFOLIO MANAGEMENT SERVICES
Pursuant to a sub-advisory agreement which became effective on May 28,
1996, (the "Sub-Advisory Agreement") between VCM and MCM, VCM has delegated to
MCM the authority and responsibility to make and execute decisions for the FUND
within the framework of the FUND's investment policies, subject to review by VCM
and the Board of Trustees of the FUND. Under the terms of the Sub-Advisory
Agreement, MCM has discretion to purchase and sell securities, except as limited
by the FUND's investment objective, policies and restrictions.
The Sub-Advisory Agreement provides for the payment to MCM, by VCM, an
annual fee based on the FUND's daily net assets. For a detailed description of
the Sub-Advisory Agreement see "Portfolio Advisory Services" in the FUND's
prospectus.
For the fiscal year ended September 30, 1997, and for the period from May
1, 1996 through September 30, 1996, the aggregate amount paid by VCM to MCM
under the Sub-Advisory Agreement was $243,134 and $108,872, respectively. For
the fiscal years ended April 30, 1996, 1995 and 1994, the aggregate amounts paid
by the prior manager to prior Portfolio Managers under prior Sub-Advisory
Agreements were as follows: Shufro Rose & Ehrman- $118,521, $90,508 $104,023,
respectively; Investment Advisers, Inc.- $15,149, $22,423 and $5,641,
respectively; and Cavelti Capital Management, Inc.- $11,507, $11,821 and
$10,556, respectively. For the fiscal years ended April 30, 1996 and 1995, the
aggregate amounts paid to Fiduciary International, Inc. were $140,258 and
$172,222, respectively. For the fiscal years ended April 30, 1996 and 1995, the
aggregate amounts paid to Martin Currie Inc. were $38,798 and $67,098,
respectively. For the fiscal year ended April 30, 1994, the aggregate amount
paid jointly to Fiduciary International, Inc. and Morgan Stanley Asset
Management, Inc. was $257,595. For the fiscal year ended April 30, 1994, the
aggregate amount paid jointly to Martin Currie Inc. and Morgan Stanley Asset
Management, Inc. was $49,870.
The Sub-Advisory Agreement provides that MCM's fee shall be reduced
proportionately based on the ratio of MCM's fee to VCM's fee in the event VCM's
fee is reduced as a result of a state expense limitation.
The Sub-Advisory Agreement, dated December 1, 1995, was approved by the
FUND's Trustees on November 14, 1995 and the FUND's shareholders on May 24,
1996. The Sub-Advisory Agreement provides that it may be terminated without
penalty by either the FUND or the MCM at any time by the giving of 60 days'
written notice to the other and terminates automatically in the event of
"assignment", as defined in the Investment Company Act. The Sub-Advisory
Agreement provides that, unless sooner terminated, it shall continue in effect
for an initial two year period and from year to year thereafter only so long as
such continuance is specifically approved at least annually by either the Board
of Trustees of the FUND or by a vote of the majority of the outstanding voting
securities of the FUND, provided, that in either event, such continuance is also
approved by the vote of the majority of the Trustees who are not parties to the
Sub-Advisory Agreement or "interested persons" of such parties cast in person at
a meeting called for the purpose of voting on such approval.
CUSTODIAN
Signet Trust Company is custodian for the securities and cash of the
Funds. Under the Custodian Agreement, Signet Trust Company holds the Funds'
portfolio securities in safekeeping and keeps all necessary records and
documents relating to its duties. The custodian receives a fee at an annual rate
of .05% on the first $10 million of average net assets of each of the six
respective portfolios and .025% on average net assets in excess of $10 million.
There is a $20 fee imposed on each transaction. The custodian fee received
during any fiscal year shall be at least $1,000 per Fund.
ADMINISTRATIVE SERVICES
Federated Administrative Services, which is a subsidiary of Federated
Investors, provides administrative personnel and services to the Funds for the
fees set forth in the prospectus. For the fiscal year ended September 30, 1997,
and for the period from May 1, 1996 through September 30, 1996, and for the
fiscal year ended April 30, 1996, Federated Administrative Services earned
$75,000, $31,438, and $70,488, respectively, in administrative services fees.
For the fiscal years ended April 30, 1995 and 1994, the administrative services
fees were included as part of the Management fee.
DISTRIBUTION PLAN
The Trust has adopted a Plan for Shares of the FUND pursuant to Rule 12b-1
which was promulgated by the Securities and Exchange Commission pursuant to the
Investment Company Act of 1940. The Plan provides that the FUNDs' Distributor
shall act as the Distributor of shares, and it permits the payment of fees to
brokers and dealers for distribution and administrative services and to
administrators for administrative services. The Plan is designed to (i)
stimulate brokers and dealers to provide distribution and administrative support
services to the FUND and its shareholders and (ii) stimulate administrators to
render administrative support services to the FUND and its shareholders. These
services are to be provided by a representative who has knowledge of the
shareholders' particular circumstances and goals, and include, but are not
limited to: providing office space, equipment, telephone facilities, and various
personnel including clerical, supervisory, and computer, 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 regarding the
FUNDs; assisting clients in changing dividend options, account designations, and
addresses; and providing such other services as the Trust reasonably requests.
For the fiscal year ended September 30, 1997, and for the period from May 1,
1996 through September 30, 1996, the FUND accrued payments under the Plan
amounting to $484,467 and $218,417, respectively. For the fiscal year ended
April 30, 1996, the FUND accrued payments under the Plan amounting to $586,707.
Other benefits which the FUND hopes to achieve through the Plan include,
but are not limited to the following: (1) an efficient and effective
administrative system; (2) a more efficient use of assets of shareholders by
having them rapidly invested in the FUND with a minimum of delay and
administrative detail; and (3) an efficient and reliable records system for
shareholders and prompt responses to shareholder requests and inquiries
concerning their accounts.
By adopting the Plan, the then Board of Trustees expected that the FUND
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 FUND in seeking to achieve its investment objectives.
By identifying potential investors in shares whose needs are served by the
FUND's objectives, and properly servicing these accounts, the FUND may be able
to curb sharp fluctuations in rates of redemptions and sales.
DESCRIPTION OF THE FUND
Shareholder and Trustee Liability. The FUND is a series of an entity of
the type commonly known as a "Massachusetts business trust". Under Massachusetts
law, shareholders of such a trust may, under certain circumstances, be held
personally liable for the obligations of the trust. The FUND's Declaration of
Trust contains an express disclaimer of shareholder liability for acts or
obligations for the FUND and requires that notice of such disclaimer be given in
each agreement, obligation, or instrument entered into or executed by the FUND
or the Trustees. The Declaration of Trust provides for indemnification out of
the FUND property of any shareholder held personally liable for the obligations
of the FUND.
The Declaration of Trust also provides that the FUND shall, upon request,
assume the defense of any claim made against any shareholders for any act or
obligation of the FUND and satisfy any judgment thereon. Thus, the risk of a
shareholder incurring financial loss on account of shareholder liability is
limited to circumstances in which the FUND itself would be unable to meet its
obligations. VCM believes that, in view of the above, the risk of personal
liability to shareholders is remote. The Declaration of Trust further provides
that the Trustees will not be liable for errors of judgment or mistakes of fact
or law, but nothing in the Declaration of Trust protects a Trustee against any
liability to which he would otherwise be subject by reason of willful
misfeasance, bad faith, gross negligence, or reckless disregard of the duties
involved in the conduct of his office.
Voting Rights. The FUND's capital consists of shares of beneficial
interest. Shares of the FUND entitle the holders to one vote per share. The
shares have no preemptive or conversion rights. The voting and dividend rights
and the right of redemption are described in the Prospectus. Shares are fully
paid and nonassessable, except as set forth under "Shareholder and Trustee
Liability" above. The shareholders have certain rights, as set forth in the
Declaration of Trust, to call a meeting for any purpose, including the purpose
of voting on removal of one or more Trustees.
The FUND may be terminated upon the sale of its assets to another open-end
management company if approved by the vote of the holders of a majority of the
outstanding shares of the FUND. The FUND may also be terminated upon liquidation
and distribution of its assets, if approved by a majority shareholder vote of
the FUND. Shareholders of the FUND shall be entitled to receive distributions as
a class of the assets belonging to the FUND. The assets of the FUND received for
the issue or sale of the shares of the FUND and all income earnings and the
proceeds thereof, subject only to the rights of creditors, are specially
allocated to the FUND, and constitute the underlying assets of the FUND.
SHAREHOLDER REPORTS
Shareholders will receive reports semi-annually showing the investments of
the FUND and other information. In addition, shareholders will receive annual
financial statements audited by the FUND's independent accountants.
The financial statements for the fiscal year ended September 30, 1997, are
incorporated herein by reference from the FUND's Annual Report dated September
30, 1997. A copy of the FUND'S Annual Report may be obtained without charge by
contacting Signet Financial Services, Inc. at 1-800-829-3863.
<PAGE>
APPENDIX A
DESCRIPTION OF MOODY'S INVESTORS SERVICE, INC.'S
BOND RATINGS:
Investment grade debt securities are those rating categories indicated by an
asterisk (*).
*AAA: Bonds which are rated Aaa are judged to be the best quality. They
carry the smallest degree of investment risk and are generally referred to as
"gilt-edge". 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 fluctuations 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: Bond which are rated A possess many favorable investment attributes
and are to be considered as upper medium grade obligations. Factors giving
security to principal and interest are considered adequate, but elements may be
present which suggest a susceptibility to impairment sometime in the future.
*BAA: Bonds which are rated Baa are considered as medium grade
obligations, i.e., they are neither highly protected nor poorly secured.
Interest payments and principal security appear adequate for the present, but
certain protective elements may be lacking or may be characteristically
unreliable over any great length of time. Such bonds lack outstanding investment
characteristics and in fact have speculative characteristics as well.
BA: Bonds which are rated Ba are judged to have speculative elements;
their future cannot be considered as well assured. Often the protection of
interest and principal payments may be very moderate and thereby not well
safeguarded during other good and bad times over the future. Uncertainty of
position characterizes bonds in this class.
B: Bonds which are rated B generally lack characteristics of the desirable
investment. Assurance of interest and principal payments or of maintenance of
other terms of the contract over any long period of time may be small.
CAA: Bonds which are rated Caa are of poor standing. Such issues may be in
default or there may be present elements of danger with respect to principal or
interest.
CA: Bonds which are rated Ca represent obligations which are speculative in
a high degree. Such issues are often in default or have other marked
shortcomings.
C: Bonds which are rated C are the lowest rated class of bonds and issues
so rated can be regarded as having extremely poor prospects of ever attaining
any real investment standing.
NOTE: Moody's applies numerical modifiers, 1, 2 and 3 in each generic
rating classification from Aa through B in its bond rating system. The modifier
1 indicates that the security ranks in the higher end of its generic rating
category, the modifier 2 indicates a mid-range ranking, and the modifier 3
indicates that the issue ranks in the lower end of its generic rating category.
DESCRIPTION OF MOODY'S COMMERCIAL PAPER RATINGS:
Moody's commercial paper ratings are opinions of the ability of issuers to
repay punctually promissory obligations not having an original maturity in
excess of nine months.
<PAGE>
Issuers rated PRIME-1 or P-1 (or related supporting institutions) have a
superior capacity for repayment of short-term promissory obligations. Prime-1 or
P-1 repayment capacity will normally be evidenced by the following
characteristics:
- Leading market positions in well-established industries.
- High rates of return on funds employed.
- Conservative capitalization structures with moderate reliance on
debt and ample asset protection.
- Broad margins in earnings coverage of fixed financial charges and
high internal cash generation.
- Well-established access to a range of financial markets and assured
sources of alternate liquidity.
Issuers rated PRIME-2 or P-2 (or related supporting institutions) have a
strong capacity for repayment of short-term promissory obligations. This will
normally be evidenced by many of the characteristics cited above but to a lesser
degree. Earnings trends and coverage ratios, while sound, will be more subject
to variation. Capitalization characteristics, while still appropriate, may be
more affected by external conditions. Ample alternate liquidity is maintained.
DESCRIPTION OF STANDARD & POOR'S CORPORATION'S
BOND RATINGS:
Investment grade debt securities are those rating categories indicated by an
asterisk (*).
*AAA: Debt rated AAA have the highest rating assigned by S&P to a debt
obligation. capacity to pay interest and repay principal is extremely strong.
*AA: Debt rated AA have a very strong capacity to pay interest; and repay
principal and differ from the higher rated issues only in small degree.
*A: Debt rated A have a strong capacity to pay interest and repay
principal although they are somewhat more susceptible to the adverse effects of
changes in circumstances and economic conditions than bonds in higher rated
categories.
*BBB: Debt rated BBB are regarded as having an adequate capacity to pay
interest and repay principal. Whereas they normally exhibit 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
bonds in this category than for bonds in higher rated categories.
BB, B, CCC, CC, C: Debt rated "BB," "B," "CCC," "CC" and "C" is regarded,
on balance, as predominantly speculative with respect to capacity to pay
interest and repay principal in accordance with the terms of the obligation.
"BB" indicates the lowest degree of speculation and "C" the highest degree of
speculation. While such debt will likely have some quality and protective
characteristics, these are outweighed by large uncertainties or major risk
exposures to adverse conditions.
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" or "BB-" rating.
<PAGE>
CCC: Debt rated "CCC" has a currently identifiable vulnerability to
default, and is dependent upon favorable business, financial, and economic
conditions to meet timely payment of interest and repayment of principal. In the
event of adverse business, financial or economic conditions, it is not likely to
have the capacity to pay interest and repay principal. The "C" rating category
is also used for debt subordinated to senior debt that is assigned an actual or
implied "B" or "B-" rating.
CC: The rating "CC" is typically applied to debt subordinated to senior
debt that is assigned an actual or implied "CCC" rating.
C: The rating "C" is typically applied to debt subordinated to senior debt
which is assigned an actual or implied "CCC-" debt rating. The "C" rating may be
used to cover a situation where a bankruptcy petition has been filed, but debt
service payments are continued.
C1: The rating "C1" is reserved for income bonds on which no interest is
being paid.
D: Debt rated "D" is in payment default. The "D" rating category is used
when interest payments or principal or principal payments are not made on the
date due even if the applicable grace period has not expired, unless S&P
believes that such payments will be made during such grace period. The "D"
rating also will be used upon the filing of a bankruptcy petition if debt
service payments are jeopardized.
PLUS (+) OR MINUS (-): The ratings from AA to CCC may be modified by the
addition of a plus or minus sign to show relative standing within the major
rating categories.
NR: Bonds may lack a S&P rating because no public rating has been
requested, because there is insufficient information on which to base a rating,
or because S&P does not rate a particular type of obligation as a matter of
policy.
DESCRIPTION OF S&P'S COMMERCIAL PAPER RATINGS:
S&P's commercial paper ratings are current assessments of the likelihood
of timely payment of debts having an original maturity of no more than 365 days.
A: Issues assigned this highest rating are regarded as having the greatest
capacity for timely payment. Issues in this category are delineated with the
numbers 1, 2 and 3 to indicate the relative degree of safety.
A-1: This designation indicates that the degree of safety regarding timely
payment is either overwhelming or very strong. Those issues determined to
possess overwhelming safety characteristics are denoted with a plus (+) sign
designation.
A-2: Capacity for timely payment on issues with this designation is strong.
However, the relative degree of safety is not as high as for issues designated
"A-1".
A-3: Issues carrying this designation have a satisfactory capacity for
timely payment. They are, however, somewhat more vulnerable to the adverse
effects of changes in circumstances than obligations carrying the higher
designations.
Cusip 093265106
G01386-09
STATEMENT OF ADDITIONAL INFORMATION
BLANCHARD SHORT-TERM FLEXIBLE INCOME FUND
FEDERATED INVESTORS TOWER
PITTSBURGH, PA 15222-3779
This Statement is not a prospectus but should be read in conjunction with the
current prospectus dated November 30, 1997 (the "Prospectus"), pursuant to which
the Blanchard Short-Term Flexible Income Fund (the "FUND") is offered. Please
retain this document for future reference.
To obtain the Prospectus please call the FUND at 1-800-829-3863.
TABLE OF CONTENTS Page
General Information and History 2
Investment Objective and Policies 2
Securities in Which the FUND May Invest 2
Investment Restrictions 15
Portfolio Transactions 17
Computation of Net Asset Value 18
Performance Information 19
Additional Purchase and Redemption Information 20
Tax Matters 21
Blanchard Funds Management 25
Management Services 30
The Sub-Advisory Agreement 30
Custodian 32
Administrative Services 32
Distribution Plan 32
Description of the FUND 33
Shareholder Reports 33
Manager
Virtus Capital Management, Inc.
Sub-Adviser
OFFITBANK
Distributor
Federated Services Corp.
Custodian
Signet Trust Company
Transfer Agent
Federated Shareholder Services Company
Independent Accountants
Deloitte & Touche LLP
Dated: November 30, 1997
<PAGE>
GENERAL INFORMATION AND HISTORY
As described in the FUND's Prospectus, the FUND is a non-diversified
series of Blanchard Funds, a Massachusetts business trust that was organized
under the name "Blanchard Strategic Growth Fund" (the "Trust"). The trustees of
the Trust approved the change in the name of the Trust on December 4, 1990. The
FUND's investment objective is to provide a high level of current income
consistent with preservation of capital by investing primarily in a broad range
of short-term debt securities. There is no assurance that the FUND will achieve
its investment objective. This objective is a fundamental policy and may not be
changed except by a majority vote of shareholders.
INVESTMENT OBJECTIVE AND POLICIES
The following information supplements, and should be read in conjunction
with, the sections in the FUND's Prospectus entitled "Investment Objective and
Policies," "Certain Portfolio Securities" and "Certain Investment Strategies and
Policies."
Under normal market conditions, the FUND will invest at least 80% of its
assets in a broad range of U.S. debt securities of all types. The FUND may
invest up to 20% of the value of its assets in securities of foreign issuers
denominated in foreign currency and not publicly traded in the United States.
At least 65% of the value of the FUND's assets will be invested in
investment-grade debt securities, which are considered to be those rated at
least Baa by Moody's Investors Service, Inc. ("Moody's") or at least BBB by
Standard & Poor's Corporation ("Standard & Poor's") or, if unrated, deemed to be
of comparable quality by OFFITBANK. The FUND may invest up to 35% of its assets
in lower-quality debt securities if OFFITBANK deems that such securities present
attractive investment opportunities. The FUND will not invest in debt securities
rated lower than Caa by Moody's and CCC by Standard & Poor's, or, if unrated,
are of comparable quality in OFFITBANK's opinion. Debt securities rated Baa by
Moody's and BBB by Standard & Poor's are considered investment grade obligations
which lack outstanding investment characteristics and may have speculative
characteristics as well. Debt securities rated Caa by Moody's and CCC by
Standard & Poor's are considered to have predominantly speculative
characteristics with respect to capacity to pay interest and repay principal and
to be of poor standing. See "Risk Factors -- Lower Quality Securities" and
Appendix A in the FUND's Prospectus.
Normally, the dollar-weighted average maturity of the FUND's portfolio
will be less than three years, but will never exceed five years. However, the
FUND may invest in individual securities with terms to maturity of greater than
five years if the FUND's portfolio contains sufficient short-term securities so
that the weighted average maturity complies with the above-stated policy. As the
useful life of individual pools of assets underlying certain obligations in
which the Fund may invest may at times be of a shorter duration than the stated
maturity of the obligation itself, the Fund may consider the useful life of such
underlying assets as the maturity of the obligation owned by the Fund. Although
it is intended that the average maturity of the FUND's portfolio will be three
years or less, the FUND retains the flexibility to increase the average maturity
up to five years if OFFITBANK considers it appropriate or advantageous to
investors. Accordingly, the FUND's average maturity may vary, based on
OFFITBANK's analysis of interest rate trends and other data. In general, the
FUND's average maturity will tend to be shorter when OFFITBANK expects interest
rates to rise and longer when it expects interest rates to decline.
Under normal market conditions, the FUND does not expect to have a
substantial portion of its assets invested in money market instruments. However,
when OFFITBANK determines that adverse market conditions exist, the FUND may
adopt a temporary defensive posture and invest its entire portfolio in money
market instruments. To the extent the FUND is so invested, the FUND's investment
objective may not be achieved.
SECURITIES IN WHICH THE FUND MAY INVEST
The FUND's portfolio may include, in any proportion, bonds, notes,
mortgage securities, asset-backed securities, government and government agency
obligations, zero coupon securities and convertible securities, and short-term
obligations such as bankers' acceptances, certificates of deposit, repurchase
agreements and commercial paper.
<PAGE>
The FUND may invest in U.S. government securities and in options, futures
contracts and repurchase transactions with respect to such securities. Certain
of these obligations including U.S. Treasury bills, notes and bonds, mortgage
participation certificates guaranteed by the Government National Mortgage
Association ("GNMA"), and Federal Housing Administration debentures, are
supported by the full faith and credit of the United States. Other U.S.
government securities issued or guaranteed by Federal agencies or government
sponsored enterprises are not supported by the full faith and credit of the
United States. These securities include obligations supported by the right of
the issuer to borrow from the U.S. Treasury, such as obligations of Federal Home
Loan Banks, and obligations supported only by the credit of the instrumentality,
such as Federal National Mortgage Association Bonds. When purchasing securities
in the U.S. government market, OFFITBANK may take full advantage of the entire
range of maturities of U.S. government securities and may adjust the average
maturity of the investments held in the portfolio from time to time, depending
on its assessment of relative yields of securities of different maturities and
its expectations of future changes in interest rates. To the extent that the
FUND invests in the mortgage market, OFFITBANK usually will evaluate, among
other things, relevant economic, environmental and security-specific variables
such as housing starts, coupon and age trends. To determine relative value among
markets OFFITBANK may use tools such as yield/duration curves, break-even
prepayment rate analysis and holding-period-return scenario testing.
The FUND may seek to increase its current income by writing covered call
or put options with respect to some or all of the U.S. government securities
held in its portfolio. In addition, the FUND may at times, through the writing
and purchase of options on U.S. government securities, and the purchase and sale
of futures contracts and related options with respect to U.S. government
securities, seek to reduce fluctuations in net asset value by hedging against a
decline in the value of U.S. government securities owned by the FUND or an
increase in the price of such securities which the FUND plans to purchase,
although it is not the general practice to do so. Significant option writing
opportunities generally exist only with respect to longer term U.S. government
securities. Options on U.S. government securities and futures and related
options are not considered U.S. government securities; accordingly, they have a
different set of risks and features. These practices and related risks are
described below.
U.S. government securities are considered among the most creditworthy of
fixed-income investments. Because of this added safety, the yields available
from U.S. government securities are generally lower than the yields available
from corporate debt securities. The values of U.S. government securities (like
those of fixed-income securities generally) will change as interest rates
fluctuate. During periods of falling U.S. interest rates, the values of
outstanding long term U.S. government securities generally rise. Conversely,
during periods of rising interest rates, the values of such securities generally
decline. The magnitude of these fluctuations will generally be greater for
securities with longer maturities and the FUND expects that its portfolio of
U.S. government securities will be weighted towards the longer maturities at
least to the extent that it has written call options thereon. Although changes
in the value of U.S. government securities will not affect investment income
from those securities, they will affect the FUND's net asset value.
The FUND may invest up to 35% of its assets in higher- yielding (and,
therefore, higher risk), lower rated bonds and other debt securities and
securities with debt-like characteristics, including U.S. corporate fixed-income
securities, convertible securities and preferred stocks and unrated corporate
fixed-income securities. Lower quality debt securities, commonly referred to as
"junk bonds," are considered speculative and involve greater risk of default or
price changes due to changes in the issuer's creditworthiness than higher
quality debt securities. See "Risk Factors-Lower Quality Debt Securities" below
for a discussion of certain risks.
Convertible securities are bonds, debentures, notes, preferred stock or
other securities which may be converted or exchanged by the holder into shares
of the underlying common stock at a stated exchange ratio. A convertible
security may also be subject to redemption by the issuer but only after a date
and under certain circumstances (including a specified price) established on
issue. Adjustable rate preferred stocks are preferred stocks which adjust their
dividend rates quarterly based on specified relationships to certain indexes of
U.S. Treasury Securities. The FUND may continue to hold securities obtained as a
result of the conversion of convertible securities held by the FUND when
OFFITBANK believes retaining such securities is consistent with the FUND's
investment objective.
<PAGE>
Differing yields on fixed-income securities of the same maturity are a
function of several factors, including the relative financial strength of the
issuers. Higher yields are generally available from securities in the lower
categories of recognized rating agencies, i.e., Ba or lower by Moody's or BB or
lower by Standard & Poor's. The FUND may invest in any security which is rated
by Moody's or by Standard & Poor's, or in any unrated security which OFFITBANK
determines is of suitable quality. Securities in the rating categories below Baa
as determined by Moody's and BBB as determined by Standard & Poor's are
considered to be of poor standing and predominantly speculative. The rating
services descriptions of these rating categories, including the speculative
characteristics of the lower categories, are set forth in Appendix A in the
FUND's Prospectus.
Securities ratings are based largely on the issuer's historical financial
information and the rating agencies' investment analysis at the time of rating.
Consequently, the rating assigned to any particular security is not necessarily
a reflection of the issuer's current financial condition, which may be better or
worse than the rating would indicate. Although OFFITBANK will consider security
ratings when making investment decisions in the high yield market, it will
perform its own investment analysis and will not rely principally on the ratings
assigned by the rating services. OFFITBANK's analysis generally may include,
among other things, consideration of the issuer's experience and managerial
strength, changing financial condition, borrowing requirements or debt maturity
schedules, and its responsiveness to changes in business conditions and interest
rates. It also considers relative values based on anticipated cash flow,
interest or dividend coverage, asset coverage and earnings prospects.
The FUND may invest up to 20% of its assets in international securities
consisting of debt obligations and other fixed-income securities, in each case
denominated in non-U.S. currencies or composite currencies, including: debt
obligations issued or guaranteed by foreign national, provincial, state,
municipal or other governments with taxing authority or by their agencies or
instrumentalities; debt obligations of supranational entities (described below);
debt obligations of the U.S. Government issued in non-dollar securities; and
debt obligations and other fixed-income securities of foreign and U.S. corporate
issuers (non-dollar denominated).
When investing in international securities, the FUND is not limited to
purchasing debt securities rated at the time of purchase by Moody's or Standard
& Poor's. However, the FUND is limited to the extent that it may not invest more
than 35% of its assets in lower quality debt securities. In making international
securities investments, OFFITBANK may consider, among other things, the relative
growth and inflation rates of different countries. OFFITBANK may also consider
expected changes in foreign currency exchange rates, including the prospects for
central bank intervention, in determining the anticipated returns of securities
denominated in foreign currencies. OFFITBANK may further evaluate, among other
things, foreign yield curves and regulatory and political factors, including the
fiscal and monetary policies of such countries.
The FUND may invest in any country where OFFITBANK sees potential for high
income. It presently expects to invest primarily in non-dollar denominated
securities of issuers in the industrialized Western European countries; in
Canada, Japan, Australia and New Zealand; and in Latin America. The FUND may
invest up to 10% of its assets in the debt securities of issuers in emerging
market countries.
The FUND may invest, without limitation, in unrated debt securities issued
by foreign governments, their agencies and instrumentalities, where the foreign
government, its agency or instrumentality is rated less than Baa by Moody's or
less than BBB by Standard & Poor's, provided, however, that OFFITBANK has
determined through its own credit analysis that the credit characteristics of
any such unrated security are equivalent to those of a security rated at least
Baa by Moody's or BBB by Standard & Poor's. To the extent that OFFITBANK has not
made any such determination, such unrated debt securities will be deemed to have
the rating assigned by Moody's or Standard & Poor's to the governmental entity.
To the extent that such securities are deemed to be rated less than Baa by
Moody's or less than BBB by Standard & Poor's, investment in such securities
will be subject to the overall 35% limitation on investment in lower quality
debt securities.
The obligations of foreign governmental entities, including supranational
issuers, have various kinds of government support. Obligations of foreign
governmental entities include obligations issued or guaranteed by national,
provincial, state or other governments with taxing power or by their agencies.
These obligations may or may not be supported by the full faith and credit of a
foreign government.
<PAGE>
Supranational entities include international organizations designated or
supported by governmental entities to promote economic reconstruction or
development and international banking institutions and related government
agencies. Examples include the International Bank for Reconstruction and
Development (the World Bank), the European Steel and Coal Community, the Asian
Development Bank and the Inter-American Development Bank. The governmental
agencies, or "stockholders," usually make initial capital contributions to the
supranational entity and in many cases are committed to making additional
capital contributions if the supranational entity is unable to repay its
borrowings. Each supranational entity's lending activities are limited to a
percentage of its total capital (including "callable capital" contributed by
members at the entity's call), reserves and net income. The FUND does not have a
policy of concentrating investments in supranational entities.
RISK FACTORS
LOWER QUALITY DEBT SECURITIES. The lower quality debt securities that may
comprise up to 35% of the FUND's investments generally produce a higher current
yield than do debt securities of higher quality. However, these debt securities
are considered speculative because they involve greater price volatility and
risk than do higher quality debt securities and yields on these debt securities
will tend to fluctuate over time. Although the market value of all debt
securities varies as a result of changes in prevailing interest rates (e.g.,
when interest rates rise, the market value of debt securities can be expected to
decline), values of lower quality debt securities tend to react differently than
the values of higher quality debt securities. The prices of lower quality debt
securities are less sensitive to changes in interest rates than higher quality
debt securities. Conversely, lower quality debt securities also involve a
greater risk of default by the issuer in the payment of principal and income and
are more sensitive to economic downturns and recessions than higher quality debt
securities. The financial stress resulting from an economic downturn could have
a greater negative effect on the ability of issuers of lower quality debt
securities to service their principal and interest payments, to meet projected
business goals and to obtain additional financing than on more creditworthy
issuers. In the event of an issuer's default in payment of principal or interest
on such securities, or any other debt securities in the FUND's portfolio, the
net asset value of the FUND will be negatively affected. Moreover, as the market
for lower quality debt securities is a relatively new one, a severe economic
downturn might increase the number of defaults, thereby adversely affecting the
value of all outstanding lower quality debt securities and disrupting the market
for such securities. Debt securities purchased by the FUND as part of an initial
underwriting present an additional risk due to their lack of market history.
These risks are exacerbated with respect to debt securities rated Caa by Moody's
or CCC by Standard & Poor's. Unrated debt securities generally carry the same
risks as do lower rated debt securities.
Lower quality debt securities are typically traded among a smaller number
of broker-dealers rather than in a broad secondary market. Purchasers of lower
quality debt securities tend to be institutions, rather than individuals, a
factor that further limits the secondary market. To the extent that no
established retail secondary market exists, many lower quality debt securities
may not be as liquid as Treasury and investment grade bonds. The ability of the
FUND to sell lower quality debt securities will be adversely affected to the
extent that such securities are thinly traded or illiquid. Moreover, the ability
of the FUND to value lower quality debt securities becomes more difficult, and
judgment plays a greater role in valuation, as there is less reliable, objective
data available with respect to such securities that are thinly traded or
illiquid. Unrated debt securities are not necessarily of lower quality than
rated debt securities, but they may not be attractive to as many buyers.
Because investors may perceive that there are greater risks associated
with the lower quality debt securities of the type in which the FUND may invest,
the yields and prices of such securities may tend to fluctuate more than those
for lower quality debt securities. Changes in perception of issuers'
creditworthiness tend to occur more frequently and in a more pronounced manner
in the lower quality segments of the debt securities market than do changes in
higher quality segments of the debt securities market, resulting in greater
yield and price volatility. The speculative characteristics of lower rated debt
securities are set forth in Appendix A in the FUND's Prospectus.
<PAGE>
OFFITBANK believes that the risks of investing in such high yielding, debt
securities may be minimized through careful analysis of prospective issuers.
Although the opinion of ratings services such as Moody's and Standard & Poor's
is considered in selecting portfolio securities, they evaluate the safety of the
principal and the interest payments of the security, not their market value
risk. Additionally, credit rating agencies may experience slight delays in
updating ratings to reflect current events. OFFITBANK relies, primarily, on its
own credit analysis (see above). This may suggest, however, that the achievement
of the FUND's investment objective is more dependent on OFFITBANK's proprietary
credit analysis, than is otherwise the case for a fund that invests exclusively
in higher quality debt securities.
Once the rating of a portfolio security or the quality determination
ascribed by OFFITBANK to an unrated debt security has been downgraded, OFFITBANK
will consider all circumstances deemed relevant in determining whether to
continue to hold the security, but in no event will the FUND retain such
securities if it would cause the FUND to have more than 35% of the value of its
assets invested in debt securities rated lower than Baa by Moody's or BBB or
Standard & Poor's, or if unrated, are judged by OFFITBANK to be of comparable
quality.
FOREIGN INVESTMENTS. Foreign investments involve certain risks that are
not present in domestic securities. Because the FUND intends to purchase
securities denominated in foreign currencies, a change in the value of any such
currency against the U.S. dollar will result in a corresponding change in the
U.S. dollar value of the FUND's assets and the FUND's income available for
distribution. In addition, although a portion of the FUND's investment income
may be received or realized in such currencies, the Internal Revenue Code of
1986 (the "Code") requires that the FUND compute and distribute its income in
U.S. dollars. Therefore, if the exchange rate for any such currency declines
after the FUND's income has been earned and translated into a U.S. dollar
equivalent, but before payment of the foreign currency denominated gain, the
FUND could be required to liquidate portfolio securities to make such
distributions. Similarly, if an exchange rate depreciates between the time the
FUND incurs expenses in U.S. dollars and the time such expenses are paid, the
amount of such currency required to be converted into U.S. dollars in order to
pay such expenses in U.S. dollars will be greater than the equivalent amount in
any such currency of such expenses at the time they were incurred. Under the
Code, changes in an exchange rate which occur between the time the FUND accrues
interest or other receivables or accrues expenses or other liabilities
denominated in a foreign currency and the time the FUND actually collects such
receivables or pays such liabilities will result in foreign exchange gains or
losses that increase or decrease distributable net investment income. Similarly,
dispositions of certain debt securities (by sale, at maturity or otherwise) at a
U.S. dollar amount which is higher or lower than the FUND's original U.S. dollar
cost may result in foreign exchange gains or losses, which will increase or
decrease distributable net investment income.
The values of foreign investments and the investment income derived from
them may also be affected unfavorably by changes in currency exchange control
regulations. Although the FUND will invest only in securities denominated in
foreign currencies that are fully exchangeable into U.S. dollars without legal
restriction at the time of investment, there is no assurance that currency
controls will not be imposed subsequently. In addition, the values of foreign
fixed-income investments will fluctuate in response to changes in U.S. and
foreign interest rates.
There may be less information publicly available about a foreign issuer
than about a U.S. issuer, and foreign issuers are not generally subject to
accounting, auditing and financial reporting standards and practices comparable
to those in the United States. The securities of some foreign issuers are less
liquid and at times more volatile than securities of comparable U.S. issuers.
Foreign brokerage commissions, custodial expenses and other fees are also
generally higher than for securities traded in the United States.
In addition, with respect to certain foreign countries, there is a
possibility of expropriation of assets, confiscatory taxation, political or
financial instability and diplomatic developments which could adversely affect
the value of investments in those countries. OFFITBANK does not expect to invest
the FUND's assets in countries where it believes such events are likely to
occur.
Income received by the FUND from sources within foreign countries may be
reduced by withholding and other taxes imposed by such countries. Tax
conventions between certain countries and the United States may reduce or
eliminate such taxes. OFFITBANK will attempt to minimize such taxes by timing of
transactions and other strategies, but there is no assurance that such efforts
will be successful. Any such taxes paid by the FUND will reduce its net income
available for distribution to shareholders.
<PAGE>
Investors should recognize that investing in debt obligations and other
fixed-income securities of issuers in emerging countries involves certain
special considerations and risk factors, including those set forth below, which
are not typically associated with investing in debt obligations and other
fixed-income securities of U.S. issuers.
Trading volume in emerging country securities markets is substantially
less than that in the United States. Further, securities of some emerging
country issuers are less liquid and more volatile than securities of comparable
U.S. issuers. Commissions for trading on emerging country stock exchanges are
generally higher than commissions for trading on U.S. exchanges, although the
FUND will endeavor to achieve the most favorable net results on its portfolio
transactions and may, in certain instances, be able to purchase its portfolio
investments on other stock exchanges where commissions are negotiable.
Issuers in emerging countries are not generally subject to uniform
accounting, auditing and financial reporting standards, practices and disclosure
requirements comparable to those applicable to U.S. issuers. Consequently, there
may be less publicly available information about an emerging country issuer than
about a U.S. issuer. Further, there is generally less government supervision and
regulation of foreign stock exchanges, brokers and listed issuers than in the
United States.
The FUND may invest in unlisted emerging country debt obligations and
other fixed-income securities, including investments in new and early stage
issuers, which may involve a high degree of business and financial risk that can
result in substantial losses. Because of the absence of any trading market for
these investments, the FUND may take longer to liquidate these positions than
would be the case for publicly traded securities. Although these securities may
be resold in privately negotiated transactions, the prices realized on these
sales could be less than those originally paid by the FUND. Further, issuers
whose securities are not publicly traded may not be subject to public disclosure
and other investor protection requirements applicable to publicly traded
securities.
The economies of individual emerging countries may differ favorably or
unfavorably from the U.S. economy in such respects as growth of gross domestic
product, rate of inflation, currency depreciation, capital reinvestment,
resource self-sufficiency and balance of payments position. Further, the
economies of developing countries generally are heavily dependent upon
international trade and, accordingly, have been and may continue to be adversely
affected by trade barriers, exchange controls, managed adjustments in relative
currency values and other protectionist measures imposed or negotiated by the
countries with which they trade. These economies also have been and may continue
to be adversely affected by economic conditions in the countries with which they
trade.
With respect to any emerging country, there is the possibility of
nationalization, expropriation or confiscatory taxation, political changes,
government regulation, social instability or diplomatic developments (including
war) which could affect adversely the economies of such countries or the value
of the FUND's investments in those countries. In addition, it may be difficult
to obtain and enforce a judgment in a court outside of the United States.
MORTGAGE-RELATED SECURITIES. The FUND may invest in mortgage-related
securities. The mortgage pass-through market is marked by high liquidity and
credit quality. The primary risk that exists for mortgage pass-through
securities is interest rate risk. Changes in market yields will affect the value
of these securities as the price of fixed-income securities generally increases
when interest rates decline and decreases when interest rates rise. Prices of
longer term securities generally increase or decrease more sharply than those of
shorter term securities in response to interest rate changes. In addition,
prepayment of principal on mortgage pass-through securities may make it
difficult to lock in interest rates for a fixed period of time. To the extent
that mortgage securities are purchased at prices that differ from par, these
prepayments (which are received at par) may make up a significant portion of the
pass-through total return. Generally, mortgage securities yield more than
Treasury securities of the same average life.
<PAGE>
ASSET-BACKED SECURITIES. The FUND may invest in asset-backed securities.
In general, asset-backed securities in which the FUND may invest are issued as
debt securities by special purpose corporations. These securities represent an
undivided ownership interest in a pool of installment sales contracts and
installment loans collateralized by, among other things, credit card receivables
and automobiles. The FUND will invest in, to the extent available, (i) loan
pass-through certificates or participations representing an undivided ownership
interest in pools of installment sales contracts and installment loans (the
"Participations") and (ii) debt obligations issued by special purpose
corporations which hold subordinated equity interests in such installment sales
contracts and installment loans. The FUND anticipates that a substantial portion
of the asset backed securities in which it invests will consist of the debt
obligations of such special purpose corporations.
Asset-backed securities, in general, are of a shorter maturity (usually
five years) than most conventional mortgage-backed securities and historically
have been less likely to experience substantial prepayments. Furthermore, the
effect of prepayments on securities that have shorter maturities, such as
asset-backed securities, is much smaller than the effect of prepayments on
securities having longer maturities, such as mortgage-backed securities. The
yield characteristics of asset-backed securities differ from more traditional
debt securities in that interest and principal payments are paid more
frequently, usually monthly, and principal may be prepaid at any time. As a
result, if the FUND purchases an asset-backed security at a discount, similar to
conventional mortgage-backed securities, a prepayment rate that is faster than
expected will increase yield to maturity, while a prepayment rate that is slower
than expected will have the opposite effect of reducing yield to maturity.
Conversely, if the FUND purchases an asset-backed security at a premium, faster
than expected prepayments will reduce, while slower than expected prepayments
will increase, yield to maturity. Prepayments may result from a number of
factors, including trade-ins and liquidations due to default, as well as the
receipt of proceeds from physical damage, credit, life and disability insurance
policies. The rate of prepayments on asset-backed securities may also be
influenced by a variety of economic and social factors, including general
measures of consumer confidence; accordingly, from time to time, substantial
amounts of prepayments may be available for reinvestment by the FUND and will be
subject to the prevailing interest rates at the time of prepayment.
Asset-backed securities often contain elements of credit support to lessen
the effect of the potential failure by obligors to make timely payments on
underlying assets. Credit support falls into two categories: (i) liquidity
protection and (ii) protection against losses resulting from ultimate default by
an obligor on the underlying asset. Liquidity protection ensures that the pass
through of payments due on the installment sales contracts and installment loans
which comprise the underlying pool occurs in a timely fashion. Protection
against losses resulting from ultimate default enhances the likelihood of
ultimate payment of the obligations on at least a portion of the assets in the
pool. Such protection may be provided through guarantees, insurance policies or
letters of credit obtained by the issuer or sponsor from third parties; through
various means of structuring the transaction, or through a combination of such
approaches. The FUND will not pay any additional fees for such credit support.
However, the existence of credit support may increase the market price of the
security.
DESCRIPTION OF CERTAIN MORTGAGE-RELATED SECURITIES
GNMA CERTIFICATES
Government National Mortgage Association. The Government National Mortgage
Association is a wholly-owned corporate instrumentality of the United States
within the U.S. Department of Housing and Urban Development. GNMA's principal
programs involve its guarantees of privately issued securities backed by pools
of mortgages.
Nature of GNMA Certificates. GNMA Certificates are mortgage-backed
securities. The Certificates evidence part ownership of a pool of mortgage
loans. The Certificates which the FUND purchases are of the modified
pass-through type. Modified pass-through Certificates entitle the holder to
receive all interest and principal payments owed on the mortgage pool, net of
fees paid to the GNMA Certificate issuer and GNMA, regardless of whether or not
the mortgagor actually makes the payment.
GNMA Certificates are backed by mortgages and, unlike most bonds, their
principal amount is paid back by the borrower over the length of the loan rather
than in a lump sum at maturity. Principal payments received by the FUND will be
reinvested in additional GNMA Certificates or in other permissible investments.
<PAGE>
GNMA Guarantee. The National Housing Act authorizes GNMA to guarantee the
timely payment of principal of and interest on securities backed by a pool of
mortgages insured by the Federal Housing Administration ("FHA") or the Farmers
Home Administration or guaranteed by the Veterans Administration ("VA"). The
GNMA guarantee is backed by the full faith and credit of the United States. GNMA
is also empowered to borrow without limitation from the U.S. Treasury if
necessary to make any payments required under its guarantee.
Life of GNMA Certificates. The average life of a GNMA Certificate is
likely to be substantially less than the original maturity of the mortgage pools
underlying the securities. Prepayments of principal by mortgagors and mortgage
foreclosures will result in the return of a portion of principal invested before
the maturity of the mortgages in the pool.
As prepayment rates of individual mortgage pools will vary widely, it is
not possible to predict accurately the average life of a particular issue of
GNMA Certificates. However, statistics published by the FHA are normally used as
an indicator of the expected average life of GNMA Certificates. These statistics
indicate that the average life of single-family dwelling mortgages with 25-30
year maturities (the type of mortgages backing the vast majority of GNMA
Certificates) is approximately twelve years. For this reason, it is customary
for pricing purposes to consider GNMA Certificates as 30-year mortgage-backed
securities which prepay fully in the twelfth year.
Yield Characteristics of GNMA Certificates. The coupon rate of interest of
GNMA Certificates is lower than the interest rate paid on the VA-guaranteed or
FHA-insured mortgages underlying the Certificates, but only by the amount of the
fees paid to GNMA and the GNMA Certificate issuer. For the most common type of
mortgage pool, containing single-family dwelling mortgages, GNMA receives an
annual fee of 0.06 of one percent of the outstanding principal for providing its
guarantee, and the GNMA Certificate issuer is paid an annual servicing fee of
0.44 of one percent for assembling the mortgage pool and for passing through
monthly payments of interest and principal to Certificate holders.
The coupon rate by itself, however, does not indicate the yield which will
be earned on the Certificates for the following reasons:
1. Certificates are usually issued at a premium or discount, rather than
at par.
2. After issuance, Certificates usually trade in the secondary market at a
premium or discount.
3. Interest is paid monthly rather than semi-annually as is the case
for traditional bonds. Monthly compounding has the effect of raising
the effective yield earned on GNMA Certificates.
4. The actual yield of each GNMA Certificate is influenced by the
prepayment experience of the mortgage pool underlying the
Certificate. If mortgagors prepay their mortgages, the principal
returned to Certificate holders may be reinvested at higher or lower
rates.
In quoting yields for GNMA Certificates, the customary practice is to
assume that the Certificates will have a twelve-year life. Compared on this
basis, GNMA Certificates have historically yielded roughly 1/4 of one percent
more than high grade corporate bonds and 1/2 of one percent more than U.S.
Government and U.S. Government agency bonds. As the life of individual pools may
vary widely, however, the actual yield earned on any issue of GNMA Certificates
may differ significantly from the yield estimated on the assumption of a
twelve-year life.
Market for GNMA Certificates. Since the inception of the GNMA
mortgage-backed securities program in 1970, the amount of GNMA Certificates
outstanding has grown rapidly. The size of the market and the active
participation in the secondary market by securities dealers and many types of
investors make GNMA Certificates highly liquid instruments. Quotes for GNMA
Certificates are readily available from securities dealers and depend on, among
other things, the level of market rates, the Certificate's coupon rate and the
prepayment experience of the pool of mortgages backing each Certificate.
<PAGE>
FNMA SECURITIES
The Federal National Mortgage Association ("FNMA") was established in 1938
to create a secondary market in mortgages insured by the FHA. FNMA issues
guaranteed mortgage pass-through certificates ("FNMA Certificates"). FNMA
Certificates resemble GNMA Certificates in that each FNMA Certificate represents
a pro rata share of all principal and interest payments made and owed on the
underlying pool. FNMA guarantees timely payment of interest and principal on
FNMA Certificates. The FNMA guarantee is not backed by the full faith and credit
of the United States.
FHLMC SECURITIES
The Federal Home Loan Mortgage Corporation ("FHLMC") was created in 1970
to promote development of a nationwide secondary market in conventional
residential mortgages. The FHLMC issues two types of mortgage pass-through
securities ("FHLMC Certificates"): mortgage participation certificates ("PCs")
and guaranteed mortgage certificates ("GMCs"). PCs resemble GNMA Certificates in
that each PC represents a pro rata share of all interest and principal payments
made and owned on the underlying pool. The FHLMC guarantees timely monthly
payment of interest on PCs and the ultimate payment of principal. GMCs also
represent a pro rata interest in a pool of mortgages. However, these instruments
pay interest semiannually and return principal once a year in guaranteed minimum
payments. The expected average life of these securities is approximately ten
years. The FHLMC guarantee is not backed by the full faith and credit of the
United States.
FUTURES CONTRACTS
The FUND may enter into contracts for the purchase or sale for future
delivery of fixed-income securities or foreign currencies which otherwise meet
the FUND's investment policies, to the extent permitted by the Commodity Futures
Trading Commission (the "CFTC"). U.S. futures contracts have been designed by
exchanges which have been designated "contract markets" by the CFTC, and must be
executed through a futures commission merchant, or brokerage firm, which is a
member of the relevant contract market. Futures contracts trade on a number of
contract markets, and, through their clearing corporations, the exchanges
guarantee performance of the contracts as between the clearing members of the
exchange. The FUND will enter into futures contracts which are based on debt
securities that are backed by the full faith and credit of the U.S. Government,
such as Treasury Notes, Government National Mortgage Association modified
pass-through mortgage-backed securities and three-month U.S. Treasury Bills. The
FUND may also enter into futures contracts which are based on non-U.S.
Government bonds.
An interest rate futures contract provides for the future sale by one
party and the purchase by the other party of a certain amount of a specific,
interest rate-sensitive financial instrument (debt security) at a specified
price, date, time and place. A foreign currency futures contract provides for
the future sale by one party and the purchase by the other party of a certain
amount of a specified foreign currency at a specified price, date, time and
place.
The FUND may not enter into futures transactions if the sum of the amount
of initial margin deposits on its existing futures contracts and premiums paid
for unexpired options would exceed 5% of the fair market value of the FUND's
total assets, after taking into account unrealized profits and unrealized losses
on commodity contracts it has entered into. The FUND will not use leverage when
it enters into long futures or options contracts and for each such long position
the FUND will deposit cash or cash equivalents, such as U.S. Government
Securities or high grade debt obligations, having a value equal to the
underlying commodity value of the contract as collateral with its custodian in a
segregated account.
No consideration is paid or received by the FUND upon entering into a
futures contract. Upon entering into a futures contract, the FUND will be
required to deposit in a segregated account with its custodian an amount of cash
or cash equivalents, such as U.S. Government Securities or high grade debt
obligations, equal to approximately 5% of the contract amount (this amount is
subject to change by the exchange on which the contract is traded and brokers
may charge a higher amount). This amount is known as "initial margin" and is in
the nature of a performance bond or good faith deposit on the contract which is
returned to the FUND upon termination of the futures contract, assuming all
contractual obligations have been satisfied. The broker will have access to
amounts in
<PAGE>
the margin account if the FUND fails to meet its contractual obligations.
Subsequent payments, known as "variation margin," to and from the broker, will
be made daily as the price of the currency or securities underlying the futures
contract fluctuates, making the long and short positions in the futures contract
more or less valuable, a process known as "marking-to-market." At any time prior
to the expiration of a futures contract, the FUND may elect to close the
position by taking an opposite position, which will operate to terminate the
FUND's existing position in the contract.
There are several risks in connection with the use of futures contracts.
Successful use of futures contracts is subject to the ability of FUND management
to predict correctly movements in the price of the securities or currencies
underlying the particular transaction. These predictions and, thus, the use of
futures contracts involve skills and techniques that are different from those
involved in the management of portfolio securities.
Positions in futures contracts and options on futures contracts may be
closed out only on the exchange on which they were entered into (or through a
linked exchange). No secondary market for such contracts exists. Although the
FUND intends to enter into futures contracts only if there is an active market
for such contracts, there is no assurance that an active market will exist for
the contracts at any particular time. Most futures exchanges limit the amount of
fluctuation permitted in futures contract prices during a single trading day.
Once the daily limit has been reached in a particular contract, no trades may be
made that day at a price beyond that limit. It is possible that futures contract
prices could move to the daily limit for several consecutive trading days with
little or no trading, thereby preventing prompt liquidation of futures positions
and subjecting the FUND to substantial losses. In such event, and in the event
of adverse price movements, the FUND would be required to make daily cash
payments of variation margin.
OPTIONS ON FUTURES CONTRACTS
The FUND may purchase and write put and call options on interest rate and
foreign currency contracts that are traded on a U.S. exchange or board of trade
or a foreign exchange, to the extent permitted by the CFTC, and may enter into
closing transactions with respect to such options to terminate existing
positions. There is no guarantee that such closing transactions can be effected.
An option on an interest rate or foreign currency contract, as contrasted
with the direct investment in such a contract, gives the purchaser the right, in
return for the premium paid, to assume a position in an interest rate or foreign
currency contract at a specified exercise price at any time prior to the
expiration date of the option. Options on interest rate futures contracts
currently available include those with respect to U.S. Treasury Bonds, U.S.
Treasury Notes, U.S. Treasury Bills and Eurodollars. Options on foreign currency
futures currently available include those with respect to British Pounds, Swiss
Francs, Japanese Yen, Canadian Dollars and Australian Dollars. Upon exercise of
an option, the delivery of the futures position by the writer of the option to
the holder of the option will be accompanied by delivery of the accumulated
balance in the writer's futures margin account, which represents the amount by
which the market price of the futures contracts exceeds, in the case of a call,
or is less than, in the case of a put, the exercise price of the option on the
futures contract. The potential loss related to the purchase of an option on
futures contracts is limited to the premium paid for the option (plus
transaction costs). Because the value of the option is fixed at the point of
sale, there are no daily cash payments to reflect changes in the value of the
underlying contract; however, the value of the option does change daily and that
change would be reflected in the net asset value of the FUND.
OPTIONS ON FOREIGN CURRENCIES
The FUND may purchase and write options on foreign currencies to increase
its gross income in a manner similar to that in which futures contracts on
foreign currencies, or forward contracts, will be utilized.
The FUND intends to write covered call options on foreign currencies. A
call option written on a foreign currency by the FUND is "covered" if the FUND
owns the underlying foreign currency covered by the call or has an absolute and
immediate right to acquire that foreign currency without additional cash
consideration (or for additional cash consideration held in a segregated account
by its Custodian or by a designated sub-custodian) upon conversion or exchange
of other foreign currency held in its portfolio. A call option is also covered
if the FUND has a call on the same foreign currency and in the same principal
amount as the call written where the exercise price of the call held (a) is
equal to or less than the exercise price or the call written or (b) is greater
than the exercise
<PAGE>
price of the call written if the difference is maintained by the FUND in cash,
U.S. Government Securities and other high grade liquid debt securities in a
segregated account with its Custodian or with a designated sub-custodian. As a
writer of a covered put option, the FUND incurs an obligation to buy the
security underlying the option from the purchaser of the put, at the option's
exercise price at any time during the option period, at the purchaser's election
(certain listed and over-the-counter put options written by the FUND will be
exercisable by the purchaser only on a specific date). A put is "covered" if, at
all times, the FUND maintains, in a segregated account maintained on its behalf
at the FUND's custodian, cash, U.S. Government securities or other high grade
obligations in an amount equal to at least the exercise price of the option, at
all times during the option period. Similarly, a short put position could be
covered by the FUND by its purchase of a put option on the same security
(currency) as the underlying security of the written option, where the exercise
price of the purchased option is equal to or more than the exercise price of the
put written or less than the exercise price of the put written if the marked to
market difference is maintained by the FUND in cash, U.S. Government securities
or other high grade debt obligations which the FUND holds in a segregated
account maintained at its custodian.
FORWARD CURRENCY CONTRACTS
The FUND may engage in currency exchange transactions as a portfolio
management technique. The FUND will conduct its currency exchange transactions
either on a spot (i.e., cash) basis at the rate prevailing in the currency
exchange market, or through entering into forward contracts to purchase or sell
currency. A forward currency contract involves an obligation to purchase or sell
a specific currency at a future date, which may be any fixed number of days from
the date of the contract agreed upon by the parties, at a price set at the time
of the contract.
If a devaluation is generally anticipated, the FUND may not be able to
contract to sell the currency at a price above the devaluation level it
anticipates. The FUND will not enter into a currency transaction if, as a
result, it will fail to qualify as a regulated investment company under the Code
for any given year.
OPTIONS ON PORTFOLIO SECURITIES
The FUND may write only covered call option contracts. Currently, the
principal exchanges on which such options may be written are the Chicago Board
Option Exchange and the American, Philadelphia, and Pacific Stock Exchanges. In
addition, the FUND may purchase and sell options in the over-the-counter market
("OTC Options"). A call option gives the purchaser of the option the right to
buy the underlying security from the writer at the exercise price at any time
prior to the expiration of the contract, regardless of the market price of the
security during the option period. The premium paid to the writer is the
consideration for undertaking the obligations under the option contract. The
writer forgoes the opportunity to profit from an increase in the market price of
the underlying security above the exercise price so long as the option remains
open and covered, except insofar as the premium represents such a profit.
The staff of the Securities and Exchange Commission (the "SEC") has taken
the position that purchased over-the-counter options and the assets used as
cover for written over-the-counter options are illiquid securities. The FUND
will write OTC Options only with primary U.S. Government Securities dealers
recognized by the Board of Governors of the Federal Reserve System or member
banks of the Federal Reserve System ("primary dealers"). The FUND may also
write, to the extent available, OTC Options with non-primary dealers, such as
foreign dealers; however, unlike OTC Options written with primary dealers, any
OTC Options written with such non-primary dealers and the assets used as cover
for such options will be treated as illiquid securities. In connection with
these special arrangements, the FUND intends to establish standards for the
creditworthiness of the primary and non-primary dealers with which it may enter
into OTC Option contracts and those standards, as modified from time to time,
will be implemented and monitored by the Manager. Under these special
arrangements, the FUND will enter into contracts with primary and non-primary
dealers which provide that the FUND has the absolute right to repurchase an
option it writes at any time at a repurchase price which represents the fair
market value, as determined in good faith through negotiation between the
parties, but which in no event will exceed a price determined pursuant to a
formula contained in the contract. Although the specific details of the formula
may vary between contracts with different primary and non-primary dealers, the
formula will generally be based on a multiple of the premium received by the
FUND for writing the option, plus the amount, if any, by which the option is
"in-the-money." The formula will also include a factor to account for the
difference between the price of the security and the strike price of the option
if the option is written "out-of-the-money." Under such circumstances, and with
respect to OTC
<PAGE>
Options written with primary dealers only, the FUND will treat as illiquid that
amount of the "cover" assets equal to the amount by which the formula price for
the repurchase of the option is greater than the amount by which the market
value of the security subject to the option exceeds the exercise price of the
option (the amount by which the option is "in-the-money"). Although each
agreement will provide that the FUND's repurchase price shall be determined in
good faith (and that it shall not exceed the maximum determined pursuant to the
formula) the formula price will not necessarily reflect the market value of the
option written, therefore, the FUND might pay more to repurchase the OTC Option
contract than the FUND would pay to close out a similar exchange traded option.
In determining the FUND's net asset value, the current market value of any
option written by the FUND is subtracted from net asset value. If the current
market value of the option exceeds the premium received by the FUND, the excess
represents an unrealized loss, and, conversely, if the premium exceeds the
current market value of the option, such excess would be unrealized gain.
RISKS OF OPTIONS ON FUTURES CONTRACTS, FORWARD CONTRACTS AND OPTIONS ON
FOREIGN CURRENCIES
Unlike transactions entered into by the FUND in certain futures contracts,
certain other futures contracts, options on foreign currencies and forward
contracts are not traded on contract markets regulated by the CFTC and forward
currency contracts are not regulated by the Commission. Instead, forward
currency contracts are traded through financial institutions acting as
market-makers. Foreign currency options are traded on certain national
securities exchanges, such as the Philadelphia Stock Exchange and the Chicago
Board options Exchange, subject to regulation by the Commission. In the forward
currency market, there are no daily price fluctuation limits, and adverse market
movements could therefore continue to an unlimited extent over a period of time.
Moreover, a trader of forward contracts could lose amounts substantially in
excess of its initial investments, due to the collateral requirements associated
with such positions.
Options on foreign currencies traded on national securities exchanges are
within the jurisdiction of the Commission, as are other securities traded on
such exchanges. As a result, many of the protections provided to traders on
organized exchanges will be available with respect to such transactions. In
particular, all foreign currency option positions entered into on a national
securities exchange are cleared and guaranteed by the Options Clearing
Corporation (the "OCC"), thereby reducing the risk of counterparty default.
Further, a liquid secondary market in options traded on a national securities
exchange may exist, potentially permitting the FUND to liquidate open positions
at a profit prior to exercise or expiration, or to limit losses in the event of
adverse market movements.
The purchase and sale of exchange-traded foreign currency options,
however, are subject to the risks of the availability of a liquid secondary
market described above, as well as the risks regarding adverse market movements,
margining of options written, the nature of the foreign currency market,
possible intervention by governmental authorities and the effects of other
political and economic events. In addition, exercise and settlement of such
options must be made exclusively through the OCC, which has established banking
relationships in applicable foreign countries for this purpose. As a result, the
OCC may, if it determines that foreign governmental restrictions or taxes would
prevent the orderly settlement of foreign currency option exercises, or would
result in undue burdens on the OCC or its clearing member, impose special
procedures on exercise and settlement, such as technical changes in the
mechanics of delivery of currency, the fixing of dollar settlement prices or
prohibitions on exercise.
In addition, future contracts, options on futures contracts, forward
contracts and options on foreign currencies may be traded on foreign exchanges,
to the extent permitted by the CFTC. Such transactions are subject to the risk
of governmental actions affecting trading in or the prices of foreign currencies
or securities. The value of such positions also could be adversely affected by
(a) other complex foreign political and economic factors, (b) lesser
availability than in the United States of data on which to make trading
decisions, (c) delays in the FUND's ability to act upon economic events
occurring in foreign markets during nonbusiness hours in the United States and
the United Kingdom, (d) the imposition of different exercise and settlement
terms and procedures and margin requirements than in the United States, and (e)
lesser trading volume.
Pursuant to the sub-advisory agreement, OFFITBANK, where permitted by law,
will purchase and sell foreign exchange in the interbank dealer market for a fee
on behalf of the FUND, subject to certain procedures and reporting requirements
adopted by the Board of Trustees.
<PAGE>
REPURCHASE AGREEMENTS
The FUND may enter into repurchase agreements. Under a repurchase
agreement, the FUND acquires a debt instrument for a relatively short period
(usually not more than one week) subject to the obligation of the seller to
repurchase and the FUND to resell such debt instrument at a fixed price. The
resale price is in excess of the purchase price in that it reflects an
agreed-upon market interest rate effective for the period of time during which
the FUND's money is invested. The FUND's risk is limited to the ability of the
seller to pay the agreed-upon sum upon the delivery date. When the FUND enters
into a repurchase agreement, it obtains collateral having a value at least equal
to the amount of the purchase price. Repurchase agreements can be considered
loans as defined by the Investment Company Act of 1940, as amended (the "1940
Act"), collateralized by the underlying securities. The return on the collateral
may be more or less than that from the repurchase agreement. The securities
underlying a repurchase agreement will be marked to market every business day so
that the value of the collateral is at least equal to the value of the loan,
including the accrued interest earned. In evaluating whether to enter into a
repurchase agreement, OFFITBANK will carefully consider the creditworthiness of
the seller. If the seller defaults and the value of the collateral securing the
repurchase agreement declines, the FUND may incur a loss.
LENDING OF PORTFOLIO SECURITIES
In order to generate additional income, the FUND may lend its portfolio
securities in an amount up to 33-1/3% of total FUND assets to broker-dealers,
major banks, or other recognized domestic institutional borrowers of securities.
No lending may be made to any companies affiliated with VCM or OFFITBANK. The
borrower at all times during the loan must maintain with the FUND cash or cash
equivalent collateral or provide to the FUND an irrevocable letter of credit
equal in value at all times to at least 100% of the value of the securities
loaned. During the time portfolio securities are on loan, the borrower pays the
FUND any dividends or interest paid on such securities, and the FUND may invest
the cash collateral and earn additional income, or it may receive an agreed-upon
amount of interest income from the borrower who has delivered equivalent
collateral or a letter of credit. Loans are subject to termination at the option
of the FUND or the borrower at any time. The FUND may pay reasonable
administrative and custodial fees in connection with a loan and may pay a
negotiated portion of the income earned on the cash to the borrower or placing
broker.
ILLIQUID SECURITIES
The FUND has adopted the following investment policy, which may be changed
by the vote of the Board of Trustees. The FUND will not invest in illiquid
securities if immediately after such investment more than 10% of the FUND's
total assets (taken at market value) would be invested in such securities. For
this purpose, illiquid securities include (a) securities that are illiquid by
virtue of the absence of a readily available market or legal or contractual
restrictions on resale, (b) participation interests in loans that are not
subject to puts, (c) covered call options on portfolio securities written by the
FUND over-the-counter and the cover for such options and (d) repurchase
agreements not terminable within seven days.
Historically, illiquid securities have included securities subject to
contractual or legal restrictions on resale because they have not been
registered under the Securities Act of 1933, as amended ("Securities Act"),
securities that are otherwise not readily marketable and repurchase agreements
having a maturity of longer than seven days. Securities that have not been
registered under the Securities Act are referred to as private placements or
restricted securities and are purchased directly from the issuer or in the
secondary market. Mutual funds do not typically hold a significant amount of
these restricted or other illiquid securities because of the potential for
delays on resale and uncertainty in valuation. Limitations on resale may have an
adverse effect on the marketability of portfolio securities and a mutual fund
might be unable to dispose of restricted or other illiquid securities promptly
or at reasonable prices and might thereby experience difficulty satisfying
redemptions within seven days. A mutual fund might also have to register such
restricted securities in order to dispose of them resulting in additional
expense and delay. Adverse market conditions could impede such a public offering
of securities.
<PAGE>
In recent years, however, a large institutional market has developed for
certain securities that are not registered under the Securities Act including
repurchase agreements, commercial paper, foreign securities, municipal
securities and corporate bonds and notes. Institutional investors depend on an
efficient institutional market in which the unregistered security can be readily
resold or on an issuer's ability to honor a demand for repayment. The fact that
there are contractual or legal restrictions on resale to the general public or
to certain institutions may not be indicative of the liquidity of such
investments.
The FUND may invest up to 10% of its total assets in restricted securities
issued under Section 4(2) of the Securities Act, which exempts from registration
"transactions by an issuer not involving any public offering." Section 4(2)
instruments are restricted in the sense that they can only be resold through the
issuing dealer and only to institutional investors; they cannot be resold to the
general public without registration.
The SEC has adopted Rule 144A, which allows a broader institutional
trading market for securities otherwise subject to restriction on resale to the
general public. Rule 144A establishes a "safe harbor" from the registration
requirements of the Securities Act applicable to resales of certain securities
to qualified institutional buyers. FUND management anticipates that the market
for certain restricted securities such as institutional commercial paper will
expand further as a result of this new regulation and the development of
automated systems for the trading, clearance and settlement of unregistered
securities of domestic and foreign issuers, such as the PORTAL System sponsored
by the National Association of Securities Dealers, Inc. (the "NASD").
FUND management will monitor the liquidity of restricted securities in the
FUND's portfolio under the supervision of the FUND's Trustees. In reaching
liquidity decision, FUND management will consider, inter alia, the following
factors: (1) the frequency of trades and quotes for the security; (2) the number
of dealers wishing to purchase or sell security and the number of other
potential purchasers; (3) dealer undertakings to make a market in the security
and (4) the nature of the security and the nature of the marketplace trades
(e.g., the time needed to dispose of the security, the method of soliciting
offers and the mechanics of the transfer).
INVESTMENT RESTRICTIONS
Investment restrictions are fundamental policies and cannot be changed
without approval of the holders of a majority (as defined in the 1940 Act) of
the outstanding shares of the FUND. As used in the Prospectus and the Statement
of Additional Information, the term "majority of the outstanding shares" of the
FUND means, respectively, the vote of the lesser of (i) 67% or more of the
shares of the FUND present at a meeting, if the holders of more than 50% of the
outstanding shares of the FUND are present or represented by proxy, or (ii) more
than 50% of the outstanding shares of the FUND. The following are the FUND's
investment restrictions set forth in their entirety.
1. The FUND, a non-diversified management investment company, has the
following restrictions: (a) with respect to 50% of the FUND's total
assets, the FUND may not invest more than 5% of its total assets, at
market value, in the securities of one issuer (except the securities of
the U.S. Government, its agencies and instrumentalities) and (b) with
respect to the other 50% of the FUND's total assets, the FUND may not
invest more than 25% of the market value of its total assets in a single
issuer (except the securities of the U.S. Government, its agencies and
instrumentalities). These two restrictions, hypothetically, could give
rise to the FUND having securities, other than U.S. government securities,
of as few as twelve issuers.
2. The FUND will not purchase a security if, as a result: (a) it would own
more than 10% of any class or of the outstanding voting securities of any
single company; (b) more than 5% of its total assets would be invested in
the securities of companies (including predecessors) that have been in
continuous operation for less than 3 years; (c) more than 25% of its total
assets would be concentrated in companies within any one industry (except
that this restriction does not apply to U.S. government securities); or
(d) more than 5% of net assets would be invested in warrants or rights.
(Included within that amount, but not to exceed 2% of the value of the
FUND's net assets, may be warrants which are not listed on the New York or
American Stock Exchanges.)
<PAGE>
3. The FUND may borrow money from a bank solely for temporary or emergency
purposes (but not in an amount equal to more than 20% of the market value
of its total assets). This does not preclude the FUND from obtaining such
short-term credit as may be necessary for the clearance of purchases and
sales of its portfolio securities. The FUND will not purchase additional
securities while the amount of any borrowings is in excess of 5% of the
market value of its total assets.
4. The FUND will not make loans of money or securities except (i) through
repurchase agreements, (ii) through loan participations, and (iii) through
the lending of its portfolio securities as described in "Lending of
Portfolio Securities" in the Prospectus and in this Statement.
5. The FUND may not invest more than 5% of its total assets in the
securities of other investment companies or purchase more than 3% of any
other investment company's voting securities, except as they may be
acquired as part of a merger, consolidation or acquisition of assets.
6. The FUND may not pledge, mortgage or hypothecate its assets, except
that to secure borrowings permitted by Restriction 3 above, the FUND may
pledge securities having a value at the time of pledge not exceeding 10%
of the market value of the FUND's total assets.
7. The FUND may not buy any securities or other property on margin (except
for such short term credits as are necessary for the clearance of
transactions) or engage in short sales.
8. The FUND may not invest in companies for the purpose of exercising
control or management.
9. The FUND may not underwrite securities issued by others except to the
extent that the FUND may be deemed an underwriter when purchasing or
selling portfolio securities.
10. The FUND may not purchase or retain securities of any issuer (other
than the shares of the FUND) if to the FUND's knowledge, those officers
and Trustees of the FUND and the officers and directors of VCM or
OFFITBANK, who individually own beneficially more than 1/2 of 1% of the
outstanding securities of such issuer, together own beneficially more than
5% of such outstanding securities.
11. The FUND may not purchase or sell real property (including limited
partnership interests, but excluding readily marketable interests in real
estate investment trusts or readily marketable securities of companies
which invest in real estate).
12. The FUND may not invest directly in oil, gas, or other mineral
exploration or development programs or leases.
13. The FUND may not issue senior securities.
In order to permit the sale of shares of the FUND in certain states, the
FUND may make commitments more restrictive than the restrictions described
above. Should the FUND determine that any such commitment is no longer in the
best interests of the FUND and its shareholders it will revoke the commitment by
terminating sales of its shares in the state(s) involved.
Percentage restrictions apply at the time of acquisition and any
subsequent change in percentages due to changes in market value of portfolio
securities or other changes in total assets will not be considered a violation
of such restrictions.
<PAGE>
PORTFOLIO TRANSACTIONS
All orders for the purchase or sale of portfolio securities are placed on
behalf of the FUND by the Portfolio Manager subject to the supervision of VCM
and the Trustees and pursuant to authority contained in the Investment Advisory
Contract between the FUND and VCM, and the Sub-Advisory Agreement between VCM
and OFFITBANK. In selecting such brokers or dealers, OFFITBANK will consider
various relevant factors, including, but not limited to the best net price
available, the size and type of the transaction, the nature and character of the
markets for the security to be purchased or sold, the execution efficiency,
settlement capability, financial condition of the broker-dealer firm, the
broker-dealer's execution services rendered on a continuing basis and the
reasonableness of any commissions.
In addition to meeting the primary requirements of execution and price,
brokers or dealers may be selected who provide research services, or statistical
material or other services to the FUND or to OFFITBANK for the FUND's use, which
in the opinion of the Trustees, are reasonable and necessary to the FUND's
normal operations. Those services may include economic studies, industry
studies, security analysis or reports, sales literature and statistical services
furnished either directly to the FUND or to OFFITBANK. Such allocation shall be
in such amounts as VCM or OFFITBANK shall determine and OFFITBANK shall report
regularly to VCM who will in turn report to the Trustees on the allocation of
brokerage for such services.
The receipt of research from broker-dealers may be useful to OFFITBANK in
rendering investment management services to its other clients, and conversely,
such information provided by brokers or dealers who have executed orders on
behalf of OFFITBANK's other clients may be useful to OFFITBANK in carrying out
its obligations to the FUND. The receipt of such research may not reduce
OFFITBANK's normal independent research activities.
OFFITBANK is authorized, subject to best price and execution, to place
portfolio transactions with brokerage firms that have provided assistance in the
distribution of shares of the FUND and are authorized to use Federated
Securities Corp. (the "Distributor"), and OFFITBANK or an affiliated
broker-dealer on an agency basis, to effect a substantial amount of the
portfolio transactions which are executed on the New York or American Stock
Exchanges, Regional Exchanges and Foreign Exchanges where relevant, or which are
traded in the Over-the-Counter market. Any profits resulting from portfolio
transactions earned by the Distributor as a result of FUND transactions will
accrue to the benefit of the shareholders of the Distributor who are also
shareholders of VCM. The Investment Advisory Contract does not provide for any
reduction in the advisory fee as a result of profits resulting from brokerage
commissions effected through the Distributor. In addition, the Sub-Advisory
Agreement between VCM and OFFITBANK does not provide for any reduction in the
advisory fees as a result of profits resulting from portfolio transactions
effected through OFFITBANK or an affiliated brokerage firm. For the fiscal year
ended September 30, 1997, and for the period from May 1, 1996 through September
30, 1996, the FUND paid no brokerage commissions. For the fiscal years ended
April 30, 1996, 1995 and 1994, the FUND paid no brokerage commissions.
The Trustees have adopted certain procedures incorporating the standards
of Rule 17e-1 issued under the 1940 Act which requires that the commissions paid
the Distributor or to OFFITBANK or an affiliated broker-dealer must be
"reasonable and fair compared to the commission, fee or other remuneration
received or to be received by other brokers in connection with comparable
transactions involving similar securities during a comparable period of time."
The Rule and the procedures also contain review requirements and require VCM to
furnish reports to the Trustees and to maintain records in connection with such
reviews.
Brokers or dealers who execute portfolio transactions on behalf of the
FUND may receive commissions which are in excess of the amount of commissions
which other brokers or dealers would have charged for effecting such
transactions; provided, VCM determines in good faith that such commissions are
reasonable in relation to the value of the brokerage and/or research services
provided by such executing brokers or dealers viewed in terms of a particular
transaction or VCM's overall responsibilities to the FUND.
<PAGE>
It may happen that the same security will be held by other clients of VCM
or of OFFITBANK. When the other clients are simultaneously engaged in the
purchase or sale of the same security, the prices and amounts will be allocated
in accordance with a formula considered by VCM to be equitable to each, taking
into consideration such factors as size of account, concentration of holdings,
investment objectives, tax status, cash availability, purchase cost, holding
period and other pertinent factors relative to each account. In some cases this
system could have a detrimental effect on the price or volume of the security as
far as the FUND is concerned. In other cases, however, the ability of the FUND
to participate in volume transactions will produce better executions for the
FUND.
For the fiscal year ended September 30, 1997, and for the period from May
1, 1996 through September 30, 1996, and for the fiscal years ended April 30,
1996 and 1995, the FUND's rates of portfolio turnover were approximately 80%,
21%, 291% and 84%, respectively.
COMPUTATION OF NET ASSET VALUE
The net asset value of the FUND is determined at 4:00 p.m. (Eastern Time)
on each day that the New York Exchange is open for business and on such other
days as there is sufficient trading in the FUND's securities to affect
materially the net asset value per share of the FUND. The FUND will be closed on
New Year's Day, Martin Luther King Day, Presidents' Day, Good Friday, Memorial
Day, Independence Day, Labor Day, Thanksgiving Day, and Christmas Day.
DETERMINING MARKET VALUE OF SECURITIES
Market or fair values of the FUND's portfolio securities are determined as
follows:
o according to the last reported sales price on a recognized
securities exchange, if available. (If a security is traded on more
than one exchange, the price on the primary market for that
security, as determined by the Adviser or sub-adviser, is used.);
o according to the last reported bid price, if no sale on the
recognized exchange is reported or if the security is traded
over-the-counter;
o for short-term obligations, according to the prices furnished by an
independent pricing service, except that short-term obligations with
remaining maturities of 60 days or less at the time of purchase, may
be valued at amortized cost; or
o 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 and may consider: institutional trading in
similar groups of securities; yield; quality ; coupon rate; maturity; type of
issue; trading characteristics; and other market data.
The FUND will value futures contracts, options and put options on futures
at their market values established by the exchanges at the close of option
trading on such exchanges unless the Board of Trustees determine in good faith
that another method of valuing options positions is necessary to appraise their
fair value. Over-the-counter put options will be valued at the mean between the
bid and asked prices.
TRADING IN FOREIGN SECURITIES
Trading in foreign securities may be completed at times which vary from
the closing of the New York Stock Exchange. In computing the net asset value,
the FUND values foreign securities at the latest closing price on the exchange
on which they are traded immediately prior to the closing of the New York Stock
Exchange. Certain foreign currency exchange rates are determined when such rates
are made available to the FUND at times prior to the close of the New York Stock
Exchange. Foreign securities quoted in foreign currencies are translated into U.
S. dollars at current rates. Occasionally, events that affect these values and
exchange rates may occur between the times at which they are determined and the
closing of the New York Stock Exchange. If such events materially affect the
value of portfolio securities, these securities may be valued at their fair
value as determined in good faith by the Trustees, although the actual
calculation may be done by others.
<PAGE>
PERFORMANCE INFORMATION
For purposes of quoting and comparing the performance of the FUND to that
of other mutual funds and to stock or other relevant indices in advertisements
or in reports to Shareholders, performance will be stated both in terms of total
return and in terms of yield. The total return basis combines principal and
dividend income changes for the periods shown. Principal changes are based on
the difference between the beginning and closing net asset values for the period
and assume reinvestment of dividends and distributions paid by the FUND.
Dividends and distributions are comprised of net investment income and net
realized capital gains. Under the rules of the Commission, funds advertising
performance must include total return quotes calculated according to the
following formula:
P(1 + T)n = ERV
Where P = a hypothetical initial payment of $1,000
T = average annual total return
n = number of years (1, 5 or 10)
ERV = ending redeemable value of a hypothetical $1,000
payment made at the beginning of the 1, 5 or 10 year
periods or at the end of the 1, 5 or 10 year periods
(or fractional portion thereof)
Under the foregoing formula the time periods used in advertising will be
based on rolling calendar quarters, updated to the last day of the most recent
quarter prior to submission of the advertising for publication, and will cover
one, five, and ten year periods or a shorter period dating from the
effectiveness of the FUND's registration statement. In calculating the ending
redeemable value, the pro rata share of the account opening fee is deducted from
the initial $1,000 investment and all dividends and distributions by the FUND
are assumed to have been reinvested at net asset value as described in the
prospectus on the reinvestment dates during the period. Total return, or "T" in
the formula above, is computed by finding the average annual compounded rates of
return over the 1, 5 and 10 year periods (or fractional portion thereof) that
would equate the initial amount invested to the ending redeemable value.
The FUND's aggregate annualized total rate of return, reflecting the
initial investment and reinvestment of all dividends and distributions for the
fiscal year ended September 30, 1997, and for the period from May 1, 1996
through September 30, 1996 was 7.24% and 2.61%, respectively. For the fiscal
year ended April 30, 1996 and for the life of the FUND (April 16, 1993 to
September 30, 1997) the FUND's aggregate annualized total rates of return were
7.47% and 5.95%, respectively.
The FUND may also from time to time include in such advertising a total
return figure that is not calculated according to the formula set forth above in
order to compare more accurately the FUND's performance with other measures of
investment return. For example, in comparing the FUND's total return with data
published by Lipper Analytical Services, Inc. or similar independent services or
financial publications, the FUND calculates its aggregate total return for the
specified periods of time by assuming the reinvestment of each dividend or other
distribution at net asset value on the reinvestment date. Percentage increases
are determined by subtracting the initial net asset value of the investment from
the ending net asset value and by dividing the remainder by the beginning net
asset value. The FUND does not, for these purposes, deduct the pro rata share of
the account opening fee, which was in effect until December 1994, from the
initial value invested. The FUND will, however, disclose the pro rata share of
the account opening fee and will disclose that the performance data does not
reflect such non-recurring charge and that inclusion of such charge would reduce
the performance quoted. Such alternative total return information will be given
no greater prominence in such advertising than the information prescribed under
the Commission's rules.
<PAGE>
In addition to the total return quotations discussed above, the FUND may
advertise its yield based on a 30-day (or one month) period ended on the date of
the most recent balance sheet included in the FUND's Post-Effective Amendment to
its Registration Statement, computed by dividing the net investment income per
share earned during the period by the maximum offering price per share on the
last day of the period, according to the following formula:
YIELD = 2[(a-b+1)6-1]
cd
Where: a = dividends and interest earned during the period.
b = expenses accrued for the period (net of reimbursements).
c = the average daily number of shares outstanding during the
period that were entitled to receive dividends.
d = the maximum offering price per share on the last day of
the period.
Under this formula, interest earned on debt obligations for purposes of
"all above, is calculated by (1) computing the yield to maturity of each
obligation held by the FUND based on the market value of the obligation
(including actual accrued interest) at the close of business on the last day of
each month, or, with respect to obligations purchased during the month, the
purchase price (plus actual accrued interest), (2) dividing that figure by 360
and multiplying the quotient by the market value of the obligation (including
actual accrued interest as referred to above) to determine the interest income
on the obligation for each day of the subsequent month that the obligation is in
the FUND's portfolio (assuming a month of 30 days) and (3) computing the total
of the interest earned on all debt obligations and all dividends accrued on all
equity securities during the 30-day or one month period. In computing dividends
accrued, dividend income is recognized by accruing 1/360 of the stated dividend
rate of a security each day that the security is in the FUND's portfolio. For
purposes of "b" above, Rule 12b-1 expenses are included among the expenses
accrued for the period. Any amounts representing sales charges will not be
included among these expenses; however, the FUND will disclose the pro rata
share of the account opening fee. Undeclared earned income, computed in
accordance with generally accepted accounting principles, may be subtracted from
the maximum offering price calculation required pursuant to "d" above.
Any quotation of performance stated in terms of yield will be given no
greater prominence than the information prescribed under the Commission's rules.
In addition, all advertisements containing performance data of any kind will
include a legend disclosing that such performance data represents past
performance and that the investment return and principal value of an investment
will fluctuate so that an investor's shares, when redeemed, may be worth more or
less than their original cost.
The FUND'S yield for the 30-day period ended September 30, 1997 was 5.34%.
ADDITIONAL PURCHASE AND REDEMPTION INFORMATION
The FUND reserves the right to close an account that has dropped below
$1,000 in value for a period of three months or longer other than as a result of
a decline in the net asset value per share. Shareholders are notified at least
60 days prior to any proposed redemption and are invited to add to their account
if they wish to continue as shareholders of the FUND, however, the FUND does not
presently contemplate making such redemptions and the FUND will not redeem any
shares held in tax-sheltered retirement plans.
The FUND has elected to be governed by Rule 18f-1 of the 1940 Act, under
which the FUND is obligated to redeem the shares of any shareholder solely in
cash up to the lesser of 1% of the net asset value of the FUND or $250,000
during any 90-day period. Should any shareholder's redemption exceed this
limitation, the FUND can, at its sole option, redeem the excess in cash or in
portfolio securities. Such securities would be selected solely by the FUND and
valued as in computing net asset value. In these circumstances a shareholder
selling such securities would probably incur a brokerage charge and there can be
no assurance that the price realized by a shareholder upon the sale of such
securities will not be less than the value used in computing net asset value for
the purpose of such redemption.
<PAGE>
TAX MATTERS
The following is only a summary of certain additional tax considerations
generally affecting the FUND and its shareholders that are not described in the
Prospectus. No attempt is made to present a detailed explanation of the tax
treatment of the FUND or its shareholders, and the discussion here and in the
Prospectus is not intended as a substitute for careful tax planning.
QUALIFICATION AS A REGULATED INVESTMENT COMPANY
The FUND has elected to be taxed as a regulated investment company under
Subchapter M of the Internal Revenue Code of 1986, as amended (the "Code"). As a
regulated investment company, the FUND is not subject to Federal income tax on
the portion of its net investment income (i.e., taxable interest, dividends and
other taxable ordinary income, net of expenses, including foreign currency gains
and loss) and capital gain net income (i.e., the excess of capital gains over
capital losses) that it distributes to shareholders, provided that it
distributes at least 90% of its "investment company taxable income" (i.e., net
investment income and the excess of net short-term capital gain over net
long-term capital loss) for the taxable year (the "Distribution Requirement"),
and satisfies certain other requirements of the Code that are described below.
Please note that the below-listed and defined "Short-Short Gain Test" has been
repealed pursuant to the Taxpayer Relief Act of 1997, effective for taxable
years beginning after the date of enactment. For purposes of the FUND, the
effective date of the repeal will be October 1, 1997. Distributions by the FUND
made during the taxable year or, under specified circumstances, within twelve
months after the close of the taxable year, will be considered distributions of
income and gains of the taxable year and can therefore satisfy the Distribution
Requirement.
In addition to satisfying the Distribution Requirement, a regulated
investment company must (1) derive at least 90% of its gross income from
dividends, interest, certain payments with respect to securities loans, gains
from the sale or other disposition of stock or securities or foreign currencies
(to the extent such currency gains are directly related to the regulated
investment company's principal business of investing in stock or securities) and
other income (including but not limited to gains from options, futures or
forward contracts) derived with respect to its business of investing in such
stock, securities or currencies (the "Income Requirement"); and (2) derive less
than 30% of its gross income (exclusive of certain gains on designated hedging
transactions that are offset by realized or unrealized losses on offsetting
positions) from the sale or other disposition of stock, securities or foreign
currencies (or options, futures or forward contracts thereon) held for less than
three months (the "Short-Short Gain Test"). However, foreign currency gains,
including those derived from options, futures and forwards, will not in any
event be characterized as Short-Short Gain if they are directly related to the
regulated investment company's investments in stock or securities (or options or
futures thereon). Because of the Short-Short Gain Test, the FUND may have to
limit the sale of appreciated securities that it has held for less than three
months. However, the Short-Short Gain Test will not prevent the FUND from
disposing of investments at a loss, since the recognition of a loss before the
expiration of the three-month holding period is disregarded for this purpose.
Interest (including original issue discount) received by the FUND at maturity or
upon the disposition of a security held for less than three months will not be
treated as gross income derived from the sale or other disposition of such
security within the meaning of the Short-Short Gain Test. However, income
attributable to realized market appreciation will be treated as gross income
from the sale or other disposition of securities for this purpose. At September
30, 1997, the FUND had a net capital loss carryover of $9,125,862, which is
available through 2003 to offset future capital gains. The FUND acquired a
capital loss carryforward of $9,885,574, which will expire in 2003, from
Blanchard Short-Term Global Income Fund as a result of the merger on February
12, 1996.
In general, gain or loss recognized by the FUND on the disposition of an
asset will be a capital gain or loss. However, gain recognized on the
disposition of a debt obligation purchased by the FUND at a market discount
(generally, at a price less than its principal amount) will be treated as
ordinary income to the extent of the portion of the market discount which
accrued while the FUND held the debt obligation. In addition, under the rules of
Code Section 988, gain or loss recognized on the disposition of a debt
obligation denominated in a foreign currency or an option with respect thereto
(but only to the extent attributable to changes in foreign currency exchange
rates), and gain or loss recognized on the disposition of a foreign currency
forward contract, futures contract, option or similar financial instrument, or
of foreign currency itself, except for regulated futures contracts or non-equity
options subject to Code Section 1256, will generally be treated as ordinary
income or loss.
<PAGE>
Generally, for purposes of determining whether capital gain or loss
recognized by the FUND on the disposition of an asset is long-term or
short-term, the holding period of the asset may be affected if (i) the asset is
used to close a "short sale" (which includes for certain purposes the
acquisition of a put option) or is substantially identical to another asset so
used, (ii) the asset is otherwise held by the FUND as part of a "straddle"
(which term generally excludes a situation where the asset is stock and the FUND
grants a qualified covered call option (which, among other things, must not be
deep-in-the-money) with respect thereto) or (iii) the asset is stock and the
FUND grants an in-the-money qualified covered call option with respect thereto.
However, for purposes of the Short-Short Gain Test, the holding period of the
asset disposed of may be reduced only in the case of clause (i) above. In
addition, the FUND may be required to defer the recognition of a loss on the
disposition of an asset held as part of a straddle to the extent of any
unrecognized gain on the offsetting position.
Any gain recognized by the FUND on the lapse of, or any gain or loss
recognized by the FUND from a closing transaction with respect to, an option
written by the FUND will be treated as a short-term capital gain or loss. For
purposes of the Short-Short Gain Test, the holding period of an option written
by the FUND will commence on the date it is written and end on the date it
lapses or the date a closing transaction is entered into. Accordingly, the FUND
may be limited in its ability to write options which expire within three months
and to enter into closing transactions at a gain within three months of the
writing of options.
Certain transactions that may be engaged in by the FUND (such as regulated
futures contracts, certain foreign currency contracts, and options on stock
indexes and futures contracts) will be subject to special tax treatment as
"Section 1256 contracts." Section 1256 contracts are treated as if they are sold
for their fair market value on the last business day of the taxable year, even
though a taxpayer's obligations (or rights) under such contract have not
terminated (by delivery, exercise, entering into a closing transaction or
otherwise) as of such date. Any gain or loss recognized as a consequence of the
year-end deemed disposition of Section 1256 contracts is taken into account for
the taxable year together with any other gain or loss that was previously
recognized upon the termination of Section 1256 contracts during that taxable
year. Any capital gain or loss for the taxable year with respect to Section 1256
contracts (including any capital gain or loss arising as a consequence of the
year-end deemed sale of such contracts) is generally treated as 60% long-term
capital gain or loss and 40% short-term capital gain or loss (except for Section
1256 forward foreign currency contracts, which are subject to Section 988
Rules). The FUND may elect not to have this special tax treatment apply to
Section 1256 contracts that are part of a "mixed straddle" with other
investments of the FUND that are not Section 1256 contracts. The Internal
Revenue Service has held in several private rulings that gains arising from
Section 1256 contracts will be treated for purposes of the Short-Short Gain Test
as being derived from securities held for not less than three months if the
gains arise as a result of a constructive sale under Code Section 1256.
Treasury regulations permit a regulated investment company, in determining
its investment company taxable income and net capital gain (i.e., the excess of
net long-term capital gain over net short-term capital loss) for any taxable
year, to elect (unless it has made a taxable year election for excise tax
purposes as discussed below) to treat all or any part of any net capital loss,
any net long-term capital loss, or any net foreign currency loss incurred after
October 31 as if they had been incurred in the succeeding year.
In addition to satisfying the requirements described above, the fund must
satisfy an asset diversification test in order to qualify as a regulated
investment company. Under this test, at the close of each quarter of the FUND's
taxable year, at least 50% of the value of the FUND's assets must consist of
cash and cash items, U.S. Government securities, securities of other regulated
investment companies, and securities of other issuers (as to which the FUND has
not invested more than 5% of the value of the FUND's total assets in securities
of such issuer and as to which the FUND does not hold more than 10% of the
outstanding voting securities of such issuer), and no more than 25% of the value
of its total assets may be invested in the securities of any one issuer (other
than U.S. Government securities and securities of other regulated investment
companies), or in two or more issuers which the FUND controls and which are
engaged in the same or similar trades or businesses. Generally, options (call or
put) with respect to a security are treated as issued by the issuer of the
security and not by the issuer of the option. However, with regard to forward
currency contracts, there does not appear to be any formal or informal authority
which identifies the issuer of such instrument.
<PAGE>
If for any taxable year the FUND does not qualify as a regulated
investment company, all of its taxable income (including its net capital gain)
will he subject to tax at regular corporate rates without any deduction for
distributions to shareholders, and such distributions will be taxable as
ordinary dividends to the extent of the FUND's current and accumulated earnings
and profits. Such distributions generally will be eligible for the
dividends-received deduction in the case of corporate shareholders.
EXCISE TAX ON REGULATED INVESTMENT COMPANIES
A 4% non-deductible excise tax is imposed on a regulated investment
company that fails to distribute in each calendar year an amount equal to 98% of
ordinary taxable income for the calendar year and 98% of capital gain net income
for the one-year period ended on October 31 of such calendar year (or, at the
election of a regulated investment company having a taxable year ending November
30 or December 31, for its taxable year (a "taxable year election")). The
balance of such income must be distributed during the next calendar year. For
the foregoing purposes, a regulated investment company is treated as having
distributed any amount on which it is subject to income tax for any taxable year
ending in such calendar year.
For purposes of the excise tax, a regulated investment company shall (1)
reduce its capital gain net income (but not below its net capital gain) by the
amount of any net ordinary loss for the calendar year and (2) exclude foreign
currency gains and losses incurred after October 31 of any year (or after the
end of its taxable year if it has made a taxable year election) in determining
the amount of ordinary taxable income for the current calendar year (and,
instead, include such gains and losses in determining ordinary taxable income
for the succeeding calendar year).
The FUND intends to make sufficient distributions or deemed distributions
of its ordinary taxable income and capital gain net income prior to the end of
each calendar year to avoid liability for the excise tax. However, investors
should note that the FUND may in certain circumstances be required to liquidate
portfolio investments to make sufficient distributions to avoid excise tax
liability.
FUND DISTRIBUTIONS
The FUND anticipates distributing substantially all of its investment
company taxable income for each taxable year. Such distributions will be taxable
to shareholders as ordinary income and treated as dividends for Federal income
tax purposes, but they will not qualify for the 70% dividends-received deduction
for corporations.
The FUND may either retain or distribute to shareholders its net capital
gain for each taxable year. The FUND currently intends to distribute any such
amounts. Net capital gain distributed and designated as a capital gain dividend
will be taxable to shareholders as long-term capital gain, regardless of the
length of time the shareholder has held his shares or whether such gain was
recognized by the FUND prior to the date on which the shareholder acquired his
shares.
Investment income that may be received by the FUND from sources within
foreign countries may be subject to foreign taxes withheld at the source. The
United States has entered into tax treaties with many foreign countries which
entitle the FUND to a reduced rate of, or exemption from, taxes on such income.
It is impossible to determine the effective rate of foreign tax in advance since
the amount of the FUND's assets to be invested in various countries is not
known. If more than 50% of the value of the FUND's total assets at the close of
its taxable year consists of the stock or securities of foreign corporations
(which is not likely), the FUND may elect to "pass through" to the FUND's
shareholders the amount of foreign taxes paid by the FUND. If the FUND so
elects, each shareholder would be required to include in gross income, even
though not actually received, his pro rata share of the foreign taxes paid by
the FUND, but would be treated as having paid his pro rata share of such foreign
taxes and would therefore be allowed to either deduct such amount in computing
taxable income or use such amount (subject to various Code limitations) as a
foreign tax credit against Federal income tax (but not both). For purposes of
the foreign tax credit limitation rules of the Code, each shareholder would
treat as foreign source income his pro rata share of such foreign taxes plus the
portion of dividends received from the FUND representing income derived from
foreign sources. No deduction for foreign taxes could be claimed by an
individual shareholder who does not itemize deductions. Each shareholder should
consult his own tax adviser regarding the potential application of foreign tax
credits.
<PAGE>
Distributions by the FUND that do not constitute ordinary income dividends
or capital gain dividends will be treated as a return of capital to the extent
of (and in reduction of) the shareholder's tax basis in his shares; any excess
will be treated as gain from the sale of his shares, as discussed below.
Distributions by the FUND will be treated in the manner described above
regardless of whether such distributions are paid in cash or reinvested in
additional shares of the FUND (or of another fund). Shareholders receiving a
distribution in the form of additional shares will be treated as receiving a
distribution in an amount equal to the fair market value of the shares received,
determined as of the reinvestment date. In addition, if the net asset value at
the time a shareholder purchases shares of the FUND reflects undistributed net
investment income or recognized capital gain net income, or unrealized
appreciation in the value of the assets of the FUND, distributions of such
amounts will be taxable to the shareholder as dividends in the manner described
above, although such distributions economically constitute a return of capital
to the shareholder.
Ordinarily, shareholders are required to take distributions by the FUND
into account in the year in which the distributions are made. However, dividends
declared in October, November or December of any year and payable to
shareholders of record on a specified date in such a month will be deemed to
have been received by the shareholders (and made by the FUND) on December 31 of
such calendar year if such dividends are actually paid in January of the
following year. Shareholders will be advised annually as to the U.S. Federal
income tax consequences of distributions made (or deemed made) during the year.
The FUND will be required in certain cases to withhold and remit to the
U.S. Treasury 31% of ordinary income dividends and capital gain dividends, and
the proceeds of redemption of shares, paid to any shareholder (1) who has
provided either an incorrect tax identification number or no number at all, (2)
who is subject to backup withholding by the Internal Revenue Service for failure
to report the receipt of interest or dividend income properly, or (3) who has
failed to certify to the FUND that it is not subject to backup withholding or
that it is a corporation or other "exempt recipient."
SALE OR REDEMPTION OF SHARES
A shareholder will recognize gain or loss on the sale or redemption of
shares of the FUND in an amount equal to the difference between the proceeds of
the sale or redemption and the shareholder's adjusted tax basis in the shares.
All or a portion of any loss so recognized may be disallowed if the shareholder
purchases other shares of the FUND within 30 days before or after the sale or
redemption. In general, any gain or loss arising from (or treated as arising
from) the sale or redemption of shares of the FUND will be considered capital
gain or loss and will be long-term capital gain or loss if the shares were held
for longer than one year. However, any capital loss arising from the sale or
redemption of shares held for six months or less will be treated as a long-term
capital loss to the extent of the amount of capital gain dividends received on
such shares. For this purpose, the special holding period rules of Code Section
246(c)(3) and (4) generally will apply in determining the holding period of
shares. Long-term capital gains of noncorporate taxpayers are currently taxed at
a maximum rate 11.6% lower than the maximum rate applicable to ordinary income.
Capital losses in any year are deductible only to the extent of capital gains
plus, in the case of a noncorporate taxpayer, $3,000 of ordinary income.
FOREIGN SHAREHOLDERS
Taxation of a shareholder who, as to the United States, is a nonresident
alien individual, foreign trust or estate, foreign corporation, or foreign
partnership ("foreign shareholder"), depends on whether the income from the FUND
is "effectively connected" with a U.S. trade or business carried on by such
shareholder.
If the income from the FUND is not effectively connected with a U.S. trade
or business carried on by a foreign shareholder, ordinary income dividends will
be subject to U.S. withholding tax at the rate of 30% (or lower treaty rate)
upon the gross amount of the dividend. Furthermore, such a foreign shareholder
may be subject to U.S. withholding tax at the rate of 30% (or lower applicable
treaty rate) on the gross income resulting from the FUND's election to treat any
foreign taxes paid by it as paid by its shareholders, but may not be allowed a
deduction against this gross income or a credit against this U.S. withholding
tax for the foreign shareholder's pro rata share of such foreign taxes which it
is treated as having been paid. Such a foreign shareholder would generally be
exempt from U.S. Federal income tax on gains realized on the sale of shares of
the FUND and capital gain dividends.
<PAGE>
If the income from the FUND is effectively connected with a U.S. trade or
business carried on by a foreign shareholder, then ordinary income dividends,
capital gain dividends and any gains realized upon the sale of shares of the
FUND will be subject to U.S. Federal income tax at the rates applicable to U.S.
citizens or domestic corporations.
In the case of foreign noncorporate shareholders, the FUND may be required
to withhold U.S. Federal income tax at a rate of 31% on distributions that are
otherwise exempt from withholding tax (or taxable at a reduced treaty rate)
unless such shareholders furnish the FUND with proper notification of its
foreign status.
The tax consequences to a foreign shareholder entitled to claim the
benefits of an applicable tax treaty may be different from those described
herein. Foreign shareholders are urged to consult their own tax advisers with
respect to the particular tax consequences to them of an investment in the FUND,
including the applicability of foreign taxes.
EFFECT OF FUTURE LEGISLATION; LOCAL TAX CONSIDERATIONS
The foregoing general discussion of U.S. Federal income tax consequences
is based on the Code and the Treasury Regulations issued thereunder as in effect
on the date of this Statement of Additional Information. Future legislative or
administrative changes or court decisions may significantly change the
conclusions expressed herein, and any such changes or decisions may have a
retroactive effect with respect to the transactions contemplated herein.
Rules of state and local taxation of ordinary income dividends and capital
gain dividends from regulated investment companies often differ from the rules
for U.S. Federal income taxation described above. Shareholders are urged to
consult their tax advisers as to the consequences of these and other state and
local tax rules affecting an investment in the FUND under their particular
circumstances.
BLANCHARD FUNDS MANAGEMENT
Officers and Trustees are listed with their addresses, birthdates, and present
positions with Blanchard Funds, and principal occupations.
<TABLE>
<CAPTION>
<S> <C>
JOHN F. DONAHUE@*
FEDERATED INVESTORS TOWER
PITTSBURGH, PA CHAIRMAN AND TRUSTEE OF THE FUND; Chairman and
BIRTHDATE: JULY 28, 1924 Trustee, Federated Investors, Federated Advisers, Federated Management, and
Federated Research; Chairman and Director, Federated Research Corp. and Federated
Global Research Corp.; Chairman, Passport Research, Ltd.; Chief Executive Officer and
Director or Trustee of the Funds. Mr. Donahue is
the father of J. Christopher Donahue, Executive Vice President of the Trust.
THOMAS G. BIGLEY
15 OLD TIMBER TRAIL
PITTSBURGH, PA
BIRTHDATE: FEBRUARY 3, 1934 TRUSTEE OF THE FUND; Chairman of the Board,
Children's Hospital of Pittsburgh
formerly, Senior Partner, Ernst &
Young LLP; Director, MED 3000 Group,
Inc.; Director, Member of Executive
Committee, University of Pittsburgh;
Director or Trustee of the Funds. .
JOHN T. CONROY, JR.
WOOD/IPC COMMERCIAL DEPARTMENT
JOHN R. WOOD AND ASSOCIATES,
INC., REALTORS
3255 TAMIAMI TRAIL NORTH
NAPLES, FL TRUSTEE OF THE FUND; President, Investment
BIRTHDATE: JUNE 23, 1937 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; Director or Trustee of the Funds.
WILLIAM J. COPELAND
ONE PNC PLAZA - 23RD FLOOR
PITTSBURGH, PA TRUSTEE OF THE FUND; Director and Member of the
BIRTHDATE: JULY 4, 1918 Executive Committee, Michael Baker, Inc.; formerly,
Vice Chairman and Director, PNC Bank, N.A., and
PNC Bank Corp. and Director, Ryan Homes, Inc.; Director or Trustee of the Funds.
JAMES E. DOWD
571 HAYWARD MILL ROAD
CONCORD, MA TRUSTEE OF THE FUND; Attorney-at-law; Director, The
BIRTHDATE: MAY 18, 1922 Emerging Germany Fund, Inc.; Director or Trustee of the Funds.
<PAGE>
LAWRENCE D. ELLIS, M.D.*
3471 FIFTH AVENUE, SUITE 1111
PITTSBURGH, PA TRUSTEE OF THE FUND; Professor of Medicine,
BIRTHDATE: OCTOBER 11, 1932 University of Pittsburgh; Medical Director, University of Pittsburgh Medical
Center - Downtown; Member, Board of Directors, University of
Pittsburgh Medical Center; formerly, Hematologist,
Oncologist, and Internist, Presbyterian and Montefiore Hospitals;
Director or Trustee of the Funds.
EDWARD L. FLAHERTY, JR.@
MILLER AMENT HENNY & KOCHUBA
205 ROSS STREET TRUSTEE OF THE FUND; Attorney of Counsel, Miller,
PITTSBURGH, PA Ament, Henny & Kochuba; Director, Eat'N Park
BIRTHDATE: JUNE 18, 1924 Restaurants, Inc.; formerly, Counsel, Horizon Financial, F.A.,
Western Region; Director or Trustee of the Funds. .
EDWARD C. GONZALES*
FEDERATED INVESTORS TOWER
PITTSBURGH, PA PRESIDENT, TREASURER AND TRUSTEE OF THE FUND;
BIRTHDATE: OCTOBER 22, 1930 Vice Chairman, Treasurer, and Trustee, Federated Investors; 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; Trustee or Director of some of
the Funds; President,
Executive Vice President and Treasurer of some of the Funds.
PETER E. MADDEN
ONE ROYAL PALM WAY
100 ROYAL PALM WAY
PALM BEACH, FL TRUSTEE OF THE FUND; Consultant; Former State
BIRTHDATE: MARCH 16, 1942 Representative, Commonwealth of Massachusetts; formerly, President, State Street
Bank and Trust Company and State Street Boston Corporation; Director or Trustee
of the Funds.
JOHN E. MURRAY, JR., J.D., S.J.D.
DUQUESNE UNIVERSITY
PITTSBURGH, PA TRUSTEE OF THE FUND; President, Law Professor,
BIRTHDATE: DECEMBER 20, 1932 Duquesne University; Consulting Partner, Mollica & Murray; Director or Trustee
of the Funds.
<PAGE>
WESLEY W. POSVAR
1202 CATHEDRAL OF LEARNING
UNIVERSITY OF PITTSBURGH
PITTSBURGH, PA TRUSTEE OF THE FUND; Professor, International
BIRTHDATE: SEPTEMBER 14, 1925 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; Director
or Trustee of the Funds. .
MARJORIE P. SMUTS
4905 BAYARD STREET
PITTSBURGH, PA TRUSTEE OF THE FUND; Public
BIRTHDATE: JUNE 21, 1935 Relations/Marketing/Conference Planning; Director or Trustee of the Funds.
J. CHRISTOPHER DONAHUE
FEDERATED INVESTORS TOWER
PITTSBURGH, PA EXECUTIVE VICE PRESIDENT OF THE FUND; President
BIRTHDATE: APRIL 11, 1949 and Trustee, Federated Investors, 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; President or Executive Vice President
of the Funds; Director or Trustee of some of the Funds. Mr. Donahue is the son of
John F. Donahue, Chairman and Trustee of the Trust.
JOHN W. MCGONIGLE
FEDERATED INVESTORS TOWER
PITTSBURGH, PA EXECUTIVE VICE PRESIDENT, AND SECRETARY
BIRTHDATE: OCTOBER 26, 1938 OF THE FUND; Executive Vice President, Secretary, and Trustee,
Federated Investors; 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.;
Executive Vice President and Secretary of the Funds; Treasurer of some of the Funds.
<PAGE>
RICHARD B. FISHER
FEDERATED INVESTORS TOWER
PITTSBURGH, PA VICE PRESIDENT OF THE FUND; Executive Vice
BIRTHDATE: MAY 17, 1923 President and Trustee, Federated
Investors, Chairman and Director,
Federated Securities Corp.; President
or Vice President of some of the
Funds; Director or Trustee of some of
the Funds.
JOESEPH S. MACHI
FEDERATED INVESTORS TOWER
PITTSBURGH, PA VICE PRESIDENT AND ASSISTANT TREASURER; Vice
BIRTHDATE: MAY 22, 1962 President and Assistant Treasurer of some of the Funds.
</TABLE>
* This Trustee is deemed to be an "interested person" of the Trust as defined
in the Investment Company Act of 1940, as amended.
@ Member of the Executive Committee. The Executive Committee of the Board of
Trustees handles the responsibilities of the Board of Trustees between
meetings of the Board.
As referred to in the list of Trustees and Officers, "Funds" includes the
following investment companies: 111 Corcoran Funds; Arrow Funds; Automated
Government Money Trust; Blanchard Funds; Blanchard Precious Metals Fund, Inc.;
Cash Trust Series II; Cash Trust Series, Inc. ; 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 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.; First Priority Funds;
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; RIMCO Monument
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; and World Investment Series, Inc.
FUND OWNERSHIP
As of October 29, 1997, Officers and Trustees own less than 1% of the
outstanding shares of each Fund.
To the best knowledge of the FUND, as of October 29, 1997, no shareholder
owned 5% or more of the outstanding shares of the FUND.
OFFICERS AND TRUSTEES COMPENSATION
- ------------------------------------------------------------------------------
AGGREGATE COMPENSATION TOTAL COMPENSATION PAID
NAME, POSITION FROM TO TRUSTEES FROM THE
WITH THE TRUST THE TRUST* FUND AND FUND COMPLEX**
- ------------------------------------------------------------------------------
- ------------------------------------------------------------------------------
John F. Donahue, $0 $0 for the Fund Complex
Chairman and Trustee
Thomas G. Bigley, Trustee $1,011 $3,217 for the Fund
Complex
John T. Conroy, Jr., $1,114 $3,538 for the Fund
Trustee Complex
William J. Copeland, $1,114 $3,538 for the Fund
Trustee Complex
James E. Dowd, Trustee $1,114 $3,538 for the Fund
Complex
Lawrence D. Ellis, M.D., $1,011 $3,217 for the Fund
Trustee Complex
Edward L. Flaherty, Jr., $1,114 $3,538 for the Fund
Trustee Complex
Edward C. Gonzales, $0 $0 for the Fund Complex
President and Trustee
Peter E. Madden, Trustee $1,011 $3,217 for the Fund
Complex
John E. Murray, Jr., $1,011 $3,217 for the Fund
J.D., S.J.D., Trustee Complex
Wesley W. Posvar, Trustee $1,011 $3,217 for the Fund
Complex
Marjorie P. Smuts $1,011 $3,217 for the Fund
Trustee Complex
* The aggregate compensation for the fiscal year ended 9/30/97 is provided for
the Trust which is comprised of five portfolios. **The total compensation is
provided for the Fund Complex, which consists of the Blanchard Precious Metals
Fund, The Virtus Funds, and the
Trust. The information is provided for Blanchard Funds and Blanchard Precious
Metals Fund, Inc. and The Virtus Funds for the
fiscal year ended 9/30/97.
<PAGE>
MANAGEMENT SERVICES
MANAGER TO THE TRUST
The Trust's manager is Virtus Capital Management, Inc. ("VCM"), which is a
wholly-owned subsidiary of Signet Banking Corporation. Because of the internal
controls maintained by Signet Bank to restrict the flow of non-public
information, Fund investments are typically made without any knowledge of Signet
Bank's or its affiliates' lending relationships with an issuer.
The manager shall not be liable to the Trust, a Fund, or any shareholder
of any of the Funds 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.
MANAGEMENT FEES
For its services, VCM receives an annual management fee as described in
the prospectus. For the fiscal year ended September 30, 1997, and for the period
from May 1, 1996 through September 30, 1996, the FUND's investment management
fee paid to VCM was $1,095,713 and $519,300, respectively, of which $129,528 and
$173,100, respectively, was voluntarily waived. For the fiscal year ended April
30, 1996, the FUND's investment management fee paid to the prior manager was
$32,746 of which $23,550 was voluntarily waived, and the FUND's investment
management fee paid to VCM was $389,107 of which $162,247 was voluntarily
waived. For the fiscal year ended April 30, 1995, the FUND's investment
management fee paid to the prior manager was $235,737 of which $181,185 was
voluntarily waived. For the fiscal year ended April 30, 1994, the FUND's
investment management fee paid to the prior manager was $192,383, all of which
was voluntarily waived.
THE SUB-ADVISORY AGREEMENT
OFFITBANK furnishes investment advisory services to the FUND pursuant to a
Sub-Advisory Agreement between VCM and OFFITBANK. Pursuant to the Sub-Advisory
Agreement, OFFITBANK supervises the investment and reinvestment of the cash,
securities or other properties comprising the FUND's portfolio, subject at all
times to the direction of VCM and the policies and control of the Trust's Board
of Trustees. OFFITBANK gives the FUND the benefit of its best judgment, efforts
and facilities in rendering its services as Sub-Adviser.
In carrying out its obligations, OFFITBANK:
(a) uses the same skill and care in providing such service as it
uses in providing services to fiduciary accounts for which it has investment
responsibilities; (b) obtains and evaluates pertinent information about
significant developments and economics, statistical and financial data,
domestic, foreign or otherwise, whether affecting the economy generally or the
FUND's portfolio and whether concerning the individual issuers whose securities
are included in the FUND's portfolio or the activities in which the issuers
engage, or with respect to securities which it considers desirable for inclusion
in the FUND's portfolio; (c) determines which issuers and securities shall be
represented in the FUND's portfolio and regularly reports thereon to the Trust's
Board of Trustees; (d) formulates and implements continuing programs for the
purchases and sales of the securities of such issuers and regularly reports
thereon to the Trust's Board of Trustees; (e) is authorized to give instructions
to the custodian and/or sub-custodian of the FUND appointed by the Trust's Board
of Trustees, as to deliveries of securities, transfers of currencies and
payments of cash for the account of the FUND, in relation to the matters
contemplated by this Agreement; and (f) takes, on behalf of the FUND, all
actions which appear to the Trust and VCM necessary to carry into effect such
purchase and sale programs and supervisory functions as aforesaid, including the
placing of orders for the purchase and sale of securities for the FUND and the
prompt reporting to VCM of such purchases and sales.
<PAGE>
OFFITBANK is responsible for decisions to buy and sell securities for the
FUND's portfolio, broker-dealer selection, and negotiation of brokerage
commission rates. OFFITBANK's primary consideration in effecting a security
transaction will be execution at the most favorable price. In selecting a
broker-dealer to execute each particular transaction, OFFITBANK will take the
following into consideration: the best net price available, the reliability,
integrity and financial condition of the broker-dealer; the size of and
difficulty in executing the order; and the value of the expected contribution of
the broker-dealer to the investment performance of the FUND on a continuing
basis. Accordingly, the price to the FUND in any transaction may be less
favorable than that available from another broker-dealer if the difference is
reasonably justified by other aspects of the portfolio execution services
offered. Subject to such policies as the Board of Trustees may determine,
OFFITBANK shall not be deemed to have acted unlawfully or to have breached any
duty created under the Sub-Advisory Agreement or otherwise solely by reason of
its having caused the FUND to pay a broker or dealer for effecting a portfolio
investment transaction in excess of the amount of commission another broker or
dealer would have charged for effecting that transaction, if OFFITBANK
determines in good faith that such amount of commission was reasonable in
relation to the value of the brokerage and research services provided by such
broker or dealer, viewed in terms of either that particular transaction or
OFFITBANK's overall responsibilities with respect to the FUND and to its other
clients as to which it exercises investment discretion. Subject to such policies
as the Board of Trustees may determine, OFFITBANK will purchase and sell foreign
currency and futures contracts and other securities for the FUND. OFFITBANK is
further authorized to allocate the orders placed by it on behalf of the FUND to
any affiliated broker-dealer of the FUND or to such brokers and dealers who also
provide research or statistical material, or other services to the FUND, VCM or
OFFITBANK. Such allocation is in such amounts and proportions as OFFITBANK shall
determine and OFFITBANK will report on said allocations regularly to the Board
of Trustees of the Trust indicating the brokers to whom such allocations have
been made and the basis therefor.
Any investment program undertaken by OFFITBANK pursuant to the
Sub-Advisory Agreement, as well as any other activities undertaken by OFFITBANK
on behalf of the FUND pursuant thereto, is at all times subject to any
directives of the Board of Trustees of the Trust. VCM provides OFFITBANK with
written notice of all such directives, so long as the Sub-Advisory Agreement
remains in effect.
Pursuant to the Sub-Advisory Agreement, OFFITBANK maintains, at its
expense and without cost to VCM or the FUND, a trading function in order to
carry out its obligations to place orders for the purchase and sale of portfolio
securities for the FUND.
Pursuant to the Sub-Advisory Agreement, upon request of VCM and with the
approval of the Trust's Board of Trustees, OFFITBANK may perform services on
behalf of the FUND which are not required by the Sub-Advisory Agreement. Such
services will be performed on behalf of the FUND and OFFITBANK's cost in
rendering such services may be billed monthly to VCM, subject to examination by
VCM's independent accountants. Payment or assumption by OFFITBANK of any FUND
expense that OFFITBANK is not required to pay or assume under the Sub-Advisory
Agreement shall not relieve VCM or OFFITBANK of any of their obligations to the
FUND or obligate OFFITBANK to pay or assume any similar FUND expense on any
subsequent occasions.
Pursuant to the Sub-Advisory Agreement, for the services to be rendered
and the facilities furnished hereunder, VCM pays OFFITBANK a monthly fee at the
annual rate of .30% of the FUND's first $25 million of average daily net assets;
plus .25% of the FUND's average daily net assets in excess of $25 million but
less than $50 million; plus .20% of the FUND's average daily net assets in
excess of $50 million.
For the fiscal year ended September 30, 1997, and for the period from May
1, 1996 through September 30, 1996, the fee paid by VCM to OFFITBANK was
$329,690 and $154,199, respectively. For the fiscal year ended April 30, 1996,
the fee paid by VCM and the prior manager to OFFITBANK was $101,549. For the
fiscal years ended April 30, 1995 and 1994, the fees paid by the prior manager
to OFFITBANK were $27,254 and $45,697, respectively. Compensation under the
Sub-Advisory Agreement is calculated and accrued daily and the amounts of the
daily accruals are paid monthly. The compensation paid to OFFITBANK will not be
reduced by the amount of brokerage commissions received by OFFITBANK or its
affiliated broker-dealer pursuant to Section 17(e)(2) of the 1940 Act.
Pursuant to the Sub-Advisory Agreement, OFFITBANK agrees that it will not
render advisory or sub-advisory services to any other similar publicly offered
no-load or low-load open-end investment company registered with the SEC while
the Sub-Advisory Agreement is in effect.
<PAGE>
The Sub-Advisory Agreement was approved by the then Trustees on March 24,
1995. The Sub-Advisory Agreement will remain in force and effect for an initial
term of two years, and shall remain in effect thereafter from year to year,
provided that such continuance is specifically approved at least annually: (a)
(i) by the Trust's Board of Trustees or (ii) by the vote of a majority of the
FUND's outstanding voting securities (as defined in Section 2(a)(42) of the 1940
Act), and (b) by the affirmative vote of a majority of the Trustees who are not
parties to the Sub-Advisory Agreement or interested persons of a party to the
Sub-Advisory Agreement (other than as a Trustee of the Trust), by votes cast in
person at a meeting specifically called for such purpose.
The Sub-Advisory Agreement may be terminated at any time, without the
payment of any penalty, by vote of the Trust's Board of Trustees or by vote of a
majority of the FUND's outstanding voting securities (as defined in Section 2(a)
(42) of the 1940 Act), or by VCM or OFFITBANK on sixty (60) days' written notice
to the other party. The Sub-Advisory Agreement automatically terminates: (a) in
the event of its assignment, the term "assignment" having the meaning defined in
Section 2(a)(4) of the 1940 Act, or (b) in the event that the Investment
Advisory Contract between the FUND and VCM shall terminate.
CUSTODIAN
Signet Trust Company is custodian for the securities and cash of the
Funds. Under the Custodian Agreement, Signet Trust Company holds the Funds'
portfolio securities in safekeeping and keeps all necessary records and
documents relating to its duties. The custodian receives a fee at an annual rate
of .05% on the first $10 million of average net assets of each of the six
respective portfolios and .025% on average net assets in excess of $10 million.
There is a $20 fee imposed on each transaction. The custodian fee received
during any fiscal year shall be at least $1,000 per Fund.
ADMINISTRATIVE SERVICES
Federated Administrative Services, which is a subsidiary of Federated
Investors, provides administrative personnel and services to the Funds for the
fees set forth in the prospectus. For the fiscal year ended September 30, 1997,
and for the period from May 1, 1996 through September 30, 1996, Federated
Administrative Services earned $142,259 and $66,161, respectively, in
administrative services fees. For the fiscal year ended April 30, 1996,
Federated Administrative Services earned $81,964 in administrative services
fees. For the fiscal years ended April 30, 1995 and 1994, the administrative
services fee was included as part of the Management fee.
DISTRIBUTION PLAN
The Trust has adopted a Plan for Shares of the Fund pursuant to Rule 12b-1
which was promulgated by the Securities and Exchange Commission pursuant to the
Investment Company Act of 1940. The Plan provides that the Funds' Distributor
shall act as the Distributor of shares, and it permits the payment of fees to
brokers and dealers for distribution and administrative services and to
administrators for administrative services. The Plan is designed to (i)
stimulate brokers and dealers to provide distribution and administrative support
services to the Fund and its shareholders and (ii) stimulate administrators to
render administrative support services to the Fund and its shareholders. These
services are to be provided by a representative who has knowledge of the
shareholders' particular circumstances and goals, and include, but are not
limited to: providing office space, equipment, telephone facilities, and various
personnel including clerical, supervisory, and computer, 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 regarding the
Funds; assisting clients in changing dividend options, account designations, and
addresses; and providing such other services as the Trust reasonably requests.
For the fiscal year ended September 30, 1997, and for the period from May 1,
1996 through September 30, 1996, and for the fiscal year ended April 30, 1996,
the Fund accrued payments under the Plan amounting to $365,238, $173,100 and
$140,612, of which $0, $0, and $36,364, respectively, were waived.
Other benefits which the Fund hopes to achieve through the Plan include,
but are not limited to the following: (1) an efficient and effective
administrative system; (2) a more efficient use of assets of shareholders by
having them rapidly invested in the Fund with a minimum of delay and
administrative detail; and (3) an efficient and reliable records system for
shareholders and prompt responses to shareholder requests and inquiries
concerning their accounts.
<PAGE>
By adopting the Plan, the then Board of Trustees expected that the Fund
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 Fund in seeking to achieve its investment objectives.
By identifying potential investors in shares whose needs are served by the
FUND's objectives, and properly servicing these accounts, the Fund may be able
to curb sharp fluctuations in rates of redemptions and sales.
DESCRIPTION OF THE FUND
Shareholder and Trustee Liability. The FUND is a series of an entity of
the type commonly known as a "Massachusetts business trust." Under Massachusetts
law, shareholders of such a trust may, under certain circumstances, be held
personally liable for the obligations of the trust. The FUND's Declaration of
Trust contains an express disclaimer of shareholder liability for acts or
obligations for the FUND and requires that notice of such disclaimer be given in
each agreement, obligation, or instrument entered into or executed by the FUND
or the Trustees. The Declaration of Trust provides for indemnification out of
the FUND property of any shareholder held personally liable for the obligations
of the FUND.
The Declaration of Trust also provides that the FUND shall, upon request,
assume the defense of any claim made against any shareholders for any act or
obligation of the FUND and satisfy any judgment thereon. Thus, the risk of a
shareholder incurring financial loss on account of shareholder liability is
limited to circumstances in which the FUND itself would be unable to meet its
obligations. VCM believes that, in view of the above, the risk of personal
liability to shareholders is remote. The Declaration of Trust further provides
that the Trustees will not be liable for errors of judgment or mistakes of fact
or law, but nothing in the Declaration of Trust protects a Trustee against any
liability to which he would otherwise be subject by reason of willful
misfeasance, bad faith, gross negligence, or reckless disregard of the duties
involved in the conduct of his office.
Voting Rights. The FUND's capital consists of shares of beneficial
interest. Shares of the FUND entitle the holders to one vote per share. The
shares have no preemptive or conversion rights. The voting and dividend rights
and the right of redemption are described in the Prospectus. Shares are fully
paid and nonassessable, except as set forth under "Shareholder and Trustee
Liability" above. The shareholders have certain rights, as set forth in the
Declaration of Trust, to call a meeting for any purpose, including the purpose
of voting on removal of one or more Trustees.
The FUND may be terminated upon the sale of its assets to another open-end
management company if approved by the vote of the holders of a majority of the
outstanding shares of the FUND. The FUND may also be terminated upon liquidation
and distribution of its assets, if approved by a majority shareholder vote of
the FUND. Shareholders of the FUND shall be entitled to receive distributions as
a class of the assets belonging to the FUND. The assets of the FUND received for
the issue or sale of the shares of the FUND and all income earnings and the
proceeds thereof, subject only to the rights of creditors, are specially
allocated to the FUND, and constitute the underlying assets of the FUND.
SHAREHOLDER REPORTS
Shareholders will receive reports semi-annually showing the investments of
the FUND and other information. In addition, shareholders will receive annual
financial statements audited by the FUND's independent accountants.
The financial statements for the fiscal year ended September 30, 1997, are
incorporated herein by reference from the FUND's Annual Report dated September
30, 1997. A copy of the FUND'S Annual Report may be obtained without charge by
contacting Signet Financial Services, Inc. at 1-800-829-3863.
Cusip 093212405
G01386-12
PART C. OTHER INFORMATION
ITEM 24. FINANCIAL STATEMENTS AND EXHIBITS
(a) Financial Statements. (2-4,6) Incorporated herein by reference
to the Funds' Annual Reports for the fiscal year ended
September 30, 1997 (File Nos. 33-3165 and 811-4579); (1) Filed
in Part A; (5) To be filed by Amendment.
(b) Exhibits
1. (i) Conformed Copy of Declaration of Trust of
Registrant.(22)
(ii) Conformed Copy of Amendment of Declaration of
Trust. (22)
2. Copy of By-laws of Registrant. (22)
3. Not Applicable
4. (i) Copy of Specimen Certificates for Shares of
Beneficial Interest of Registrant for Blanchard
Short-Term Flexible Income Fund, Blanchard Growth
& Income Fund, Blanchard Flexible Tax-Free Bond
Fund, Blanchard Capital Growth Fund. (22)
(ii) Copy of Specimen Certificates for Shares
of Beneficial Interest of Registrant for
Blanchard Global Growth Fund and Blanchard
Flexible Income Fund. (23)
5. (i) Conformed copy of Management Contract through and
including Exhibit C between Registrant, on behalf of
each of the series, and Virtus Capital
Management,Inc.(21)
(ii) Conformed copy of Sub-Advisory Agreements for
Blanchard Flexible Income Fund, Blanchard Short-Term
Flexible Income Fund, Blanchard Flexible Tax-Free
Bond Fund, and Blanchard Global Growth Fund between
Virtus Capital Management, Inc., and Shufro, Rose &
Ehrman; Investment Advisors, Inc.; Fiduciary
International, Inc.; OFFITBANK; Lombard Odier
International Portfolio Management Limited; Provident
Investment Counsel, Inc.; U.S. Trust Company of New
York; Mellon Capital Management Corporation; Martin
Currie Inc.; and Martin Currie Inc. from Item
5(b)(x)(a)(xviii) of the Blanchard Funds Registration
Statement filed with the Commission on August 7,
1995. (File Number 33-3165 and 811-4579). (21)
(iii) Conformed Copy of Sub-Advisory Agreement between
Virtus Capital Management, Inc. and Mellon Capital
Management, Inc. on behalf
of Blanchard Asset Allocation Fund. (23)
- -------------------------
+ All Exhibits Have been filed electronically.
21 Previously filed on August 27, 1996 in Post-Effective Amendment No. 37 to the
Registrant's Registration Statement. 22 Previously filed on December 23, 1996 in
Post-Effective Amendment No. 41 to the Registrant's Registration Statement. 23
Previously filed on August 26, 1997 in Post-Effective Amendment No. 43 to the
Registrant's Registration Statement.
<PAGE>
6. (i) Conformed copy of Distributor's Contract including
Exhibit C between Registrant and Federated Securities Corp.
(21) 7. Not Applicable. 8. (i) Conformed copy of Custodian
Contract between Registrant, on behalf of each series and
Signet Trust Company.(22)
(ii) Conformed copy of Amendment No. 1 to the Custodian
Contract between Registrant, on behalf of each
series and Signet Trust Company.(22)
(iii) Conformed Copy of Agreement for Fund Accounting,
Shareholder Recordkeeping and Custody Services
Procurement between Registrant, and Federated
Services Company. (23)
(iv) Conformed Copy of Sub-Custodian Agreement between
Signet Trust Company and The Bank of New York; (23)
9. (i) Conformed copy of Administrative Services Agreement
between Registrant and Federated Administrative
Services.(19)
10. Not applicable.
11. Conformed copy of consent of Deloitte & Touche LLP,
independent auditors for the Fund. (+)
12. Not applicable.
13. Conformed copy of Agreement re: initial $100,000
capital.(23)
14. Not applicable.
15. (i) Conformed copy of Distribution Plan including
Exhibit B. (21)
(ii) Copy of 12b-1 Agreement.(19)
(iii) Conformed Copy of Amendment #1 to Exhibit A of the
Distribution Plan.(23)
- -------------------------
+ All Exhibits Have been filed electronically.
19 Previously filed on October 17, 1995 in Post-Effective Amendment No. 31 to
the Registrant's Registration Statement. 21 Previously filed on August 27, 1996
in Post-Effective Amendment No. 37 to the Registrant's Registration Statement.
22 Previously filed on December 23, 1996 in Post-Effective Amendment No. 41 to
the Registrant's Registration Statement. 23 Previously filed on August 26, 1997
in Post-Effective Amendment No. 43 to the Registrant's Registration Statement.
<PAGE>
16. (i) Schedule of Performance Quotations for Global
(formerly Strategic) Growth Fund series.(5)
(ii) Schedule of Performance Quotations for Flexible
Income Fund series.(10)
(iii) Schedule of Performance Quotations for Flexible
Tax-Free Bond Fund series.(12)
(iv) Schedule of Performance Quotations for Emerging
Markets Fund (formerly Blanchard Asset Manager or
Blanchard Asset Allocation Fund) series.(12)
(v) Schedules of computation of performance quotations
for Growth & Income and Capital Growth series.(18)
17. Copy of Financial Data Schedules. (+)
18. Not applicable.
19. Conformed Copy of Power of Attorney.(23)
ITEM 25. Persons Controlled By or Under Common Control with Registrant
See "The Manager and Management Agreement" in the Prospectus and Statement
of Additional Information.
ITEM 26. Number of Holders or Securities
Number of Record Holders
Title of Class as of October 29, 1997
Blanchard Asset Allocation Fund 11
Blanchard Global Growth Fund 6,163
Blanchard Flexible Income Fund 12,017
Blanchard Short-Term Flexible Income Fund 11,747
Blanchard Flexible Tax-Free Bond Fund 912
Blanchard Growth & Income Fund 1,979
ITEM 27. Indemnification (20)
- -------------------------
+ All Exhibits Have been filed electronically.
5 Previously filed on July 3, 1990 in Post-Effective Amendment No. 6 to the
Registrant's Registration Statement. 10 Previously filed on September 3, 1992 in
Post-Effective Amendment No. 15 to the Registrant's Registration Statement. 12
Previously filed on May 25, 1993 in Post-Effective Amendment No. 17 to the
Registrant's Registration Statement. 18 Previously filed on August 7, 1995 in
Post-Effective Amendment No. 29 to the Registrant's Registration Statement. 20
Previously filed on February 27, 1996 in Post-Effective Amendment No. 33 to the
Registrant's Registration Statement. 23 Previously filed on August 26, 1997 in
Post-Effective Amendment No. 43 to the Registrant's Registration Statement.
<PAGE>
ITEM 28. Business and Other Connections or Investment Adviser
For a description of the other business of Virtus Capital Management, Inc.
see "Management of the Funds" (Blanchard Asset Allocation Fund Prospectus) and
"Fund Management" (Combined Blanchard Funds Prospectus) in Part A. The Officers
and Directors of Virtus Capital Management, Inc. are:
<TABLE>
<CAPTION>
<S> <C> <C>
John S. Hall President, Chief President & CIO, VCM since
Investment Officer & July 31, 1997; Managing
Director Director of Fixed Income and Fixed Income Portfolio Manager, VCM, since May,
1995; Senior Fixed Income Portfolio Manager (1992 to May, 1995) Hibernia
National Bank
Tanya Orr Bird Vice President and Equity Portfolio Manager, VCM,
and Director since September, 1995; Director, VCM, (October, 1994 to September, 1995);
Consultant, William M. Mercer Asset Planning Inc., (1989 to October 1994).
Josie Rosson Vice President and
Compliance Officer
Mike Siler Compliance Officer
</TABLE>
DIRECTORS
Leslie P. Hunter Sara Redding Wilson
Raymond E. Williams, Jr. T. Gaylon Layfield, III
Christopher Oddleifson Tanya Orr Bird
John S. Hall
For a description of the other business of Mellon Capital Management
Corporation see "Portofolio Advisory Services" in Part A. The Officers and
Directors of Mellon Capital Management Corporation are:
William L. Fouse Chairman Executive Committee, and Director
Thomas F Loeb Chairman and Chief Executive Officer,
Member Executive Committee, and Director
Thomas B Hazuka Executive Vice President,
and Chief Investment Officer
James R. Tufts Executive Vice President,
and Chief Operating Officer
Polly Shouse Executive Vice President
Susan M. Ellson Senior Vice President and Director,
Equity Portfolio Management
Charles J. Jacklin Senior Vice President and Director,
Asset Allocation Strategies
David Kwan Senior Vice President and
Director, Fixed Income and Trading
Lex C. Huberts Senior Vice President and
Director, Investment Research
Barbara W. Dougherty Senior Vice President and
Director, Client Services and Marketing
Communications
Douglas F. Dooley Senior Vice President and
Director, Investment Systems
Brenda J. Oakley Senior Vice President, and
Chief Administrative Officer
Bernadette L Bolger Senior Vice President and Chief Counsel
Richard J. Forster Senior Vice President, Marketing
James P. Paterno Senior Vice President, Marketing
Roger A. Warton Senior Vice President, Marketing
Christine Smith Vice President and Director, Compliance
and Risk Management
For a description of the other business of OFFITBANK see "Portofolio
Advisory Services" in Part A. The Officers and Directors of OFFITBANK are:
OFFICERS
Morris W. Offit Chairman of the Board, Chief Executive Officer,
and Managing Director
Leslie F.B. Ashburner Managing Director
Albert C. Bellas Managing Director
Jack D. Burks Managing Director
Carolyn N. Dolan Managing Director
John H. Haldeman, Jr. Managing Director
Richard M. Johnston Managing Director
Wallace Mathai-Davis Managing Director and Secretary
Stephen T. Shapiro Managing Director
Vincent B. Rella Managing Director and Controller
Stephen B. Wells Managing Director
Mary Gill Managing Director
Michael Faranello Managing Director
DIRECTORS
Morris W. Offit Chairman of the Board, Chief Executive Officer,
and Managing Director
<PAGE>
H. Furlong Baldwin Chairman and Chief Executive Officer,
Merchantile Bankshares, Inc.
Alessandro C.
di Montezemolo Former Chairman and Chief Executive Officer,
Marsh & McLennan Inc.
David I Margolis Chairman of the Executive Committee, Former
Chairman & Chief Executive Officer Coltec
Industries Inc.
Harvey M. Meyerhoff Chairman of the Board Magna Holdings
Dr. George R. Packard Former Dean, School of Advanced International
Studies The John Hopkins University
Edward V. Reagan President, The Jerome Levy Economics Institute of
Bard College
B. Lance Sauerteig,
Esq. President, BLS Strategic Capital, Inc., Former
President, First Spring Corporation
Richardo Steinbruch Grupo Vieuhna
For a description of the other business of United States Trust Company of
New York see "Portofolio Advisory Services" in Part A. The Officers and
Directors of United States Trust Company of New York are:
H. Marshall Schwarz Chairman of the Board and Director
(Principal Executive Officer)
John L. Kirby Treasurer and Chief Financial Officer
Richard E. Brinkman Senior Vice President and Comptroller
(Principal Accounting Officer)
Jeffrey S. Maurer President, Chief Operating Officer and Director
Frederick B. Taylor Vice Chairman of the Board, Chief Investment
Officer and Director
Samuel C. Butler Director
Frederic C. Hamiton Director
Paul W. Douglas Director
Daniel P. Davison Director
Carroll L.
Wainwright, Jr. Director
Orson D. Munn Director
Philippe de Montebello Director
Richard f. Tucker Director
Philip L. Smith Director
John H. Stookey Director
Antonia M. Grumbach Director
Robert N. Wilson Director
Peter O. Crisp Director
Peter L. Malkin Director
Eleanor Baum Director
Ruth A. Wooden Director
Item 29. Principal Underwriters:
(a)...Federated Securities Corp. the Distributor for shares of the
Registrant, acts as principal underwriter for the following open-end investment
companies, including the Registrant:
111 Corcoran Funds; Automated Government Money Trust; Blanchard Funds; Blanchard
Precious Metals Fund, Inc.; Cash Trust Series II; Cash Trust Series, Inc.; 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 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.; First
Priority Funds; Fixed Income Securities, Inc.; High Yield Cash Trust;
Independence One Mutual Funds; Intermediate Municipal Trust; International
Series, Inc.; Investment Series Funds, Inc.; Investment Series Trust; Liberty
U.S. Government Money Market Trust; Liquid Cash Trust; Managed Series Trust;
Marshall Funds, Inc.; Money Market Management, Inc.; Money Market Obligations
Trust; Money Market Obligations Trust II; Money Market Trust; Municipal
Securities Income Trust; Newpoint Funds; Peachtree Funds; RIMCO Monument Funds;
SouthTrust Vulcan Funds; Star Funds; Targeted Duration Trust; Tax-Free
Instruments Trust; The Planters Funds; The Virtus Funds; The Wachovia Funds; The
Wachovia Municipal Funds; Tower Mutual Funds; Trust for Financial Institutions;
Trust for Government Cash Reserves; Trust for Short-Term U.S. Government
Securities; Trust for U.S. Treasury Obligations; Vision Group of Funds, Inc.;
and World Investment Series, Inc.
Federated Securities Corp. also acts as principal underwriter for the
following closed-end investment company: Liberty Term Trust, Inc.- 1999.
<PAGE>
(b)
(1) (2) (3)
Name and Principal Positions and Offices Positions and Offices
Business Address With Distributor With Registrant
Richard B. Fisher Director, Chairman, Chief Vice President
Federated Investors Tower Executive Officer, Chief
Pittsburgh, PA 15222-3779 Operating Officer, Asst.
Secretary and Asst.
Treasurer, Federated
Securities Corp.
Edward C. Gonzales Director, Executive Vice President,
Federated Investors Tower President, Federated, Treasurer and
Pittsburgh, PA 15222-3779 Securities Corp. Trustee
Thomas R. Donahue Director, Assistant Secretary
Federated Investors Tower and Assistant Treasurer
Pittsburgh, PA 15222-3779 Federated Securities Corp
James F. Getz President-Broker/Dealer, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
John B. Fisher President-Institutional Sales, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
David M. Taylor Executive Vice President --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Mark W. Bloss Senior Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Richard W. Boyd Senior Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Laura M. Deger Senior Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Theodore Fadool, Jr. Senior Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Bryant R. Fisher Senior Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Christopher T. Fives Senior Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
James S. Hamilton Senior Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
<PAGE>
(1) (2) (3)
Name and Principal Positions and Offices Positions and Offices
Business Address With Distributor With Registrant
James M. Heaton Senior Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Keith Nixon Senior Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Solon A. Person, IV Senior Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Timothy C. Pillion Senior Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Thomas E. Territ Senior Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Teresa M. Antoszyk Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
John B. Bohnet Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Byron F. Bowman Vice President, Secretary, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Jane E. Broeren-Lambesis Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Mary J. Combs Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
R. Edmond Connell, Jr. Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
R. Leonard Corton, Jr. Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Kevin J. Crenny Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Daniel T. Culbertson Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
G. Michael Cullen Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
(1) (2) (3)
Name and Principal Positions and Offices Positions and Offices
Business Address With Distributor With Registrant
William C. Doyle Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Jill Ehrenfeld Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Mark D. Fisher Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Joseph D. Gibbons Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
John K. Goettlicher Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Craig S. Gonzales Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Richard C. Gonzales Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Bruce E. Hastings Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Beth A. Hetzel Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
James E. Hickey Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Brian G. Kelly Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
H. Joseph Kennedy Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Mark J. Miehl Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Richard C. Mihm Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
J. Michael Miller Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
(1) (2) (3)
Name and Principal Positions and Offices Positions and Offices
Business Address With Distributor With Registrant
Thomas A. Peters III Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Robert F. Phillips Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Richard A. Recker Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Eugene B. Reed Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
George D. Riedel Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Paul V. Riordan Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
John Rogers Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Brian S. Ronayne Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Thomas S. Schinabeck Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Edward L. Smith Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
David W. Spears Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
John A. Staley Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Jeffrey A. Stewart Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Richard Suder Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
William C. Tustin Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
(1) (2) (3)
Name and Principal Positions and Offices Positions and Offices
Business Address With Distributor With Registrant
Paul A. Uhlman Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Miles J. Wallace Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
John F. Wallin Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Richard B. Watts Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Edward J. Wojnarowski Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Michael P. Wolff Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Edward R. Bozek Assistant Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Terri E. Bush Assistant Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Charlene H. Jennings Assistant Vice President, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Denis McAuley Treasurer, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
Leslie K. Platt Assistant Secretary, --
Federated Investors Tower Federated Securities Corp.
Pittsburgh, PA 15222-3779
(c) Not applicable
<PAGE>
ITEM 30. Location of Accounts and Records
The accounts and records required to be maintained by Section 31(a) of the
Investment Company Act of 1940 and Rules 31a-1 through 31a-3 promulgated
thereunder are maintained at one of the following locations:
Blanchard Funds Federated Investors Tower
Pittsburgh, PA
Federated Shareholder Services P.O. Box 8600
Company (Transfer Agent,Dividend Boston, MA
Disbursing Agent and
Portfolio Recordkeeper)
Federated Administrative Federated Investors Tower
Services (Administrator) Pittsburgh, PA
Virtus Capital Management, Inc. 707 East Main Street
(Adviser) Suite 1300
Richmond, VA
Mellon Capital Management Corp. 595 Market Street
(Sub-Adviser) to Blanchard Suite 3000
Global Growth Fund and Blanchard San Francisco, CA
Asset Allocation Fund
OFFITBANK 520 Madison Avenue
(Sub-Adviser) to Blanchard New York, NY
Short-Term Flexible Income Fund
and Blanchard Flexible Income Fund
United States Trust Company of
New York 114 W. 47th Street
(Sub-Adviser) to Blanchard Flexible New York, NY
Tax-Free Bond Fund
Signet Trust Company 7 North Eighth Street
(Custodian) Richmond, VA
ITEM 31. Management Services
Not applicable.
ITEM 32. Undertakings
Registrant hereby undertakes to comply with the provisions of Section 16(c)
of the 1940 Act with respect to the removal of Trustees and the calling of
special shareholder meetings by shareholders.
Registrant undertakes to furnish each person to whom a prospectus is
delivered a copy of the latest annual report to shareholders, upon
request and without charge.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933 and the
Investment Company Act of 1940, the Registrant, BLANCHARD FUNDS, certifies that
it meets all the requirements for effectiveness of this Registration Statement
pursuant to Rule 485(b) under the Securities Act of 1933 and has duly caused
this Amendment to its Registration Statement to be signed on its behalf by the
undersigned, thereto duly authorized, all in the City of Pittsburgh and
Commonwealth of Pennsylvania, on the 26th day of November, 1997.
BLANCHARD FUNDS
BY: /s/C. Grant Anderson
C. Grant Anderson, Assistant Secretary
Attorney in Fact for John F. Donahue
November 26, 1997
Pursuant to the requirements of the Securities Act of 1933, this Amendment
to its Registration Statement has been signed below by the following person in
the capacity and on the date indicated:
NAME TITLE DATE
By: /s/C. Grant Anderson
C. Grant Anderson Attorney In Fact November 26, 1997
ASSISTANT SECRETARY For the Persons
Listed Below
John F. Donahue* Chairman and Trustee
(Chief Executive Officer)
Edward C. Gonzales* President, Treasurer
(Principal Financial and
Accounting Officer) and Trustee
Thomas G. Bigley* Trustee
John T. Conroy, Jr.* Trustee
William J. Copeland* Trustee
James E. Dowd* Trustee
Lawrence D. Ellis, M.D.* Trustee
Edward L. Flaherty, Jr.* Trustee
Peter E. Madden* Trustee
John E. Murray, Jr.* Trustee
Wesley W. Posvar* Trustee
Marjorie P. Smuts* Trustee
* By Power of Attorney
Exhibit (11) under Form N-1A
Exhibit 23 under 601/Reg. S-K
To the Board of Trustees and Shareholders of
Blanchard Group of Funds:
INDEPENDENT AUDITORS' CONSENT
We consent to the incorporation by reference in Post-Effective Amendment No. 44
to Registration Statement 33-3165 of Blanchard Group of Funds (comprising the
following portfolios: Blanchard Global Growth Fund, Blanchard Flexible Income
Fund, Blanchard Short-Term Flexible Income Fund, Blanchard Tax-Free Bond Fund
and Blanchard Asset Allocation Fund) of our reports dated November 7, 1997
appearing in the Annual Reports to Shareholders of Blanchard Group of Funds for
the year ended September 30, 1997, and to the references to us under the heading
"Financial Highlights" in the Prospectus, which is a part of such Registration
Statement.
By: DELOITTE & TOUCHE LLP
Deloitte & Touche LLP
Pittsburgh, Pennsylvania
November 21, 1997
<TABLE> <S> <C>
<S> <C>
<ARTICLE> 6
<SERIES>
<NUMBER> 11
<NAME> Blanchard Funds
Blanchard Asset Allocation Fund
<PERIOD-TYPE> 12-Mos
<FISCAL-YEAR-END> Sep-30-1997
<PERIOD-END> Sep-30-1997
<INVESTMENTS-AT-COST> 4,234,641
<INVESTMENTS-AT-VALUE> 4,626,731
<RECEIVABLES> 72,858
<ASSETS-OTHER> 0
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 4,699,589
<PAYABLE-FOR-SECURITIES> 0
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 30,133
<TOTAL-LIABILITIES> 30,133
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 3,438,577
<SHARES-COMMON-STOCK> 342,488
<SHARES-COMMON-PRIOR> 320,633
<ACCUMULATED-NII-CURRENT> 158,835
<OVERDISTRIBUTION-NII> 0
<ACCUMULATED-NET-GAINS> 673,129
<OVERDISTRIBUTION-GAINS> 0
<ACCUM-APPREC-OR-DEPREC> 398,915
<NET-ASSETS> 4,669,456
<DIVIDEND-INCOME> 0
<INTEREST-INCOME> 243,779
<OTHER-INCOME> 0
<EXPENSES-NET> 40,069
<NET-INVESTMENT-INCOME> 203,710
<REALIZED-GAINS-CURRENT> 914,849
<APPREC-INCREASE-CURRENT> 185,672
<NET-CHANGE-FROM-OPS> 1,304,231
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> 98,754
<DISTRIBUTIONS-OF-GAINS> 142,777
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 1
<NUMBER-OF-SHARES-REDEEMED>1
<SHARES-REINVESTED> 21,855
<NET-CHANGE-IN-ASSETS> 1,301,127
<ACCUMULATED-NII-PRIOR> 53,879
<ACCUMULATED-GAINS-PRIOR> (98,943)
<OVERDISTRIB-NII-PRIOR> 0
<OVERDIST-NET-GAINS-PRIOR>0
<GROSS-ADVISORY-FEES> 40,068
<INTEREST-EXPENSE> 0
<GROSS-EXPENSE> 223,201
<AVERAGE-NET-ASSETS> 4,003,387
<PER-SHARE-NAV-BEGIN> 10.510
<PER-SHARE-NII> 0.610
<PER-SHARE-GAIN-APPREC> 3.270
<PER-SHARE-DIVIDEND> 0.310
<PER-SHARE-DISTRIBUTIONS> 0.450
<RETURNS-OF-CAPITAL> 0.000
<PER-SHARE-NAV-END> 13.630
<EXPENSE-RATIO> 1.00
<AVG-DEBT-OUTSTANDING> 0
<AVG-DEBT-PER-SHARE> 0.000
</TABLE>
<TABLE> <S> <C>
<S> <C>
<ARTICLE> 6
<SERIES>
<NUMBER> 05
<NAME> Blanchard Funds
Blanchard Flexible Income Fund
<PERIOD-TYPE> 12-Mos
<FISCAL-YEAR-END> Sep-30-1997
<PERIOD-END> Sep-30-1997
<INVESTMENTS-AT-COST> 150,009,998
<INVESTMENTS-AT-VALUE> 153,764,062
<RECEIVABLES> 2,434,785
<ASSETS-OTHER> 15,094
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 156,213,941
<PAYABLE-FOR-SECURITIES> 0
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 991,240
<TOTAL-LIABILITIES> 991,240
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 168,418,381
<SHARES-COMMON-STOCK> 31,152,932
<SHARES-COMMON-PRIOR> 38,739,927
<ACCUMULATED-NII-CURRENT> 312,272
<OVERDISTRIBUTION-NII> 0
<ACCUMULATED-NET-GAINS> (16,630,125)
<OVERDISTRIBUTION-GAINS> 0
<ACCUM-APPREC-OR-DEPREC> 3,746,717
<NET-ASSETS> 155,222,701
<DIVIDEND-INCOME> 0
<INTEREST-INCOME> 13,043,023
<OTHER-INCOME> 0
<EXPENSES-NET> 2,415,271
<NET-INVESTMENT-INCOME> 10,627,752
<REALIZED-GAINS-CURRENT> 2,191,827
<APPREC-INCREASE-CURRENT> 2,926,980
<NET-CHANGE-FROM-OPS> 15,746,559
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> 10,302,558
<DISTRIBUTIONS-OF-GAINS> 0
<DISTRIBUTIONS-OTHER> 342,877
<NUMBER-OF-SHARES-SOLD> 6,828,666
<NUMBER-OF-SHARES-REDEEMED>16,127,237
<SHARES-REINVESTED> 1,711,576
<NET-CHANGE-IN-ASSETS> (32,129,840)
<ACCUMULATED-NII-PRIOR> 0
<ACCUMULATED-GAINS-PRIOR> (18,563,270)
<OVERDISTRIB-NII-PRIOR> 896,148
<OVERDIST-NET-GAINS-PRIOR>0
<GROSS-ADVISORY-FEES> 1,273,719
<INTEREST-EXPENSE> 0
<GROSS-EXPENSE> 2,415,271
<AVERAGE-NET-ASSETS> 169,656,099
<PER-SHARE-NAV-BEGIN> 4.840
<PER-SHARE-NII> 0.300
<PER-SHARE-GAIN-APPREC> 0.150
<PER-SHARE-DIVIDEND> 0.300
<PER-SHARE-DISTRIBUTIONS> 0.000
<RETURNS-OF-CAPITAL> 0.010
<PER-SHARE-NAV-END> 4.980
<EXPENSE-RATIO> 1.42
<AVG-DEBT-OUTSTANDING> 0
<AVG-DEBT-PER-SHARE> 0.000
</TABLE>
<TABLE> <S> <C>
<S> <C>
<ARTICLE> 6
<SERIES>
<NUMBER> 07
<NAME> Blanchard Funds
Blanchard Flexible Tax-Free Bond
Fund
<PERIOD-TYPE> 12-mos
<FISCAL-YEAR-END> Sep-30-1997
<PERIOD-END> Sep-30-1997
<INVESTMENTS-AT-COST> 22,419,979
<INVESTMENTS-AT-VALUE> 23,746,088
<RECEIVABLES> 406,612
<ASSETS-OTHER> 16,471
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 24,169,171
<PAYABLE-FOR-SECURITIES> 0
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 92,485
<TOTAL-LIABILITIES> 92,485
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 23,120,612
<SHARES-COMMON-STOCK> 4,328,344
<SHARES-COMMON-PRIOR> 4,253,272
<ACCUMULATED-NII-CURRENT> 0
<OVERDISTRIBUTION-NII> (15,574)
<ACCUMULATED-NET-GAINS> (354,461)
<OVERDISTRIBUTION-GAINS> 0
<ACCUM-APPREC-OR-DEPREC> 1,326,109
<NET-ASSETS> 24,076,686
<DIVIDEND-INCOME> 0
<INTEREST-INCOME> 1,236,154
<OTHER-INCOME> 0
<EXPENSES-NET> 226,334
<NET-INVESTMENT-INCOME> 1,009,820
<REALIZED-GAINS-CURRENT> 285,298
<APPREC-INCREASE-CURRENT> 784,728
<NET-CHANGE-FROM-OPS> 2,079,846
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> 1,005,915
<DISTRIBUTIONS-OF-GAINS> 0
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 1,901,018
<NUMBER-OF-SHARES-REDEEMED>1,995,557
<SHARES-REINVESTED> 169,611
<NET-CHANGE-IN-ASSETS> 1,506,552
<ACCUMULATED-NII-PRIOR> 0
<ACCUMULATED-GAINS-PRIOR> (639,759)
<OVERDISTRIB-NII-PRIOR> (19,479)
<OVERDIST-NET-GAINS-PRIOR>0
<GROSS-ADVISORY-FEES> 169,751
<INTEREST-EXPENSE> 0
<GROSS-EXPENSE> 464,936
<AVERAGE-NET-ASSETS> 22,649,564
<PER-SHARE-NAV-BEGIN> 5.310
<PER-SHARE-NII> 0.250
<PER-SHARE-GAIN-APPREC> 0.250
<PER-SHARE-DIVIDEND> 0.250
<PER-SHARE-DISTRIBUTIONS> 0.000
<RETURNS-OF-CAPITAL> 0.000
<PER-SHARE-NAV-END> 5.560
<EXPENSE-RATIO> 1.00
<AVG-DEBT-OUTSTANDING> 0
<AVG-DEBT-PER-SHARE> 0.000
</TABLE>
<TABLE> <S> <C>
<S> <C>
<ARTICLE> 6
<SERIES>
<NUMBER> 01
<NAME> Blanchard Funds
Blanchard Global Growth Fund
<PERIOD-TYPE> 12-mos
<FISCAL-YEAR-END> Sep-30-1997
<PERIOD-END> Sep-30-1997
<INVESTMENTS-AT-COST> 60,621,797
<INVESTMENTS-AT-VALUE> 61,251,942
<RECEIVABLES> 2,302,774
<ASSETS-OTHER> 0
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 63,554,716
<PAYABLE-FOR-SECURITIES> 1,024,123
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 333,227
<TOTAL-LIABILITIES> 1,357,350
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 53,968,473
<SHARES-COMMON-STOCK> 5,899,615
<SHARES-COMMON-PRIOR> 5,782,950
<ACCUMULATED-NII-CURRENT> 906,765
<OVERDISTRIBUTION-NII> 0
<ACCUMULATED-NET-GAINS> 7,100,967
<OVERDISTRIBUTION-GAINS> 0
<ACCUM-APPREC-OR-DEPREC> 821,161
<NET-ASSETS> 62,197,366
<DIVIDEND-INCOME> 376,712
<INTEREST-INCOME> 2,434,670
<OTHER-INCOME> 0
<EXPENSES-NET> 1,540,622
<NET-INVESTMENT-INCOME> 1,270,760
<REALIZED-GAINS-CURRENT> 8,407,403
<APPREC-INCREASE-CURRENT> (1,721,197)
<NET-CHANGE-FROM-OPS> 7,956,966
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> 1,170,525
<DISTRIBUTIONS-OF-GAINS> 12,602,965
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 973,160
<NUMBER-OF-SHARES-REDEEMED>2,237,898
<SHARES-REINVESTED> 1,381,403
<NET-CHANGE-IN-ASSETS> (5,709,763)
<ACCUMULATED-NII-PRIOR> 581,934
<ACCUMULATED-GAINS-PRIOR> 12,118,123
<OVERDISTRIB-NII-PRIOR> 0
<OVERDIST-NET-GAINS-PRIOR>0
<GROSS-ADVISORY-FEES> 645,955
<INTEREST-EXPENSE> 0
<GROSS-EXPENSE> 1,540,622
<AVERAGE-NET-ASSETS> 64,549,088
<PER-SHARE-NAV-BEGIN> 11.740
<PER-SHARE-NII> 0.230
<PER-SHARE-GAIN-APPREC> 1.040
<PER-SHARE-DIVIDEND> 0.210
<PER-SHARE-DISTRIBUTIONS> 2.260
<RETURNS-OF-CAPITAL> 0.000
<PER-SHARE-NAV-END> 10.540
<EXPENSE-RATIO> 2.39
<AVG-DEBT-OUTSTANDING> 0
<AVG-DEBT-PER-SHARE> 0.000
</TABLE>
<TABLE> <S> <C>
<S> <C>
<ARTICLE> 6
<SERIES>
<NUMBER> 06
<NAME> Blanchard Funds
Blanchard Short-Term Flexible
Income Fund
<PERIOD-TYPE> 12-mos
<FISCAL-YEAR-END> Sep-30-1997
<PERIOD-END> Sep-30-1997
<INVESTMENTS-AT-COST> 130,034,520
<INVESTMENTS-AT-VALUE> 132,831,593
<RECEIVABLES> 2,526,301
<ASSETS-OTHER> 17,490
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 135,375,384
<PAYABLE-FOR-SECURITIES> 0
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 1,497,849
<TOTAL-LIABILITIES> 1,497,849
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 140,351,915
<SHARES-COMMON-STOCK> 44,036,295
<SHARES-COMMON-PRIOR> 48,357,640
<ACCUMULATED-NII-CURRENT> 0
<OVERDISTRIBUTION-NII> (101,740)
<ACCUMULATED-NET-GAINS> (9,171,223)
<OVERDISTRIBUTION-GAINS> 0
<ACCUM-APPREC-OR-DEPREC> 2,798,583
<NET-ASSETS> 133,877,535
<DIVIDEND-INCOME> 0
<INTEREST-INCOME> 10,247,264
<OTHER-INCOME> 0
<EXPENSES-NET> 2,016,113
<NET-INVESTMENT-INCOME> 8,231,151
<REALIZED-GAINS-CURRENT> 483,971
<APPREC-INCREASE-CURRENT> 1,694,128
<NET-CHANGE-FROM-OPS> 10,409,250
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> 8,210,879
<DISTRIBUTIONS-OF-GAINS> 45,361
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 11,452,843
<NUMBER-OF-SHARES-REDEEMED>22,560,468
<SHARES-REINVESTED> 2,391,887
<NET-CHANGE-IN-ASSETS> 24,155,983
<ACCUMULATED-NII-PRIOR> 0
<ACCUMULATED-GAINS-PRIOR> (9,468,527)
<OVERDISTRIB-NII-PRIOR> (119,935)
<OVERDIST-NET-GAINS-PRIOR>0
<GROSS-ADVISORY-FEES> 1,095,713
<INTEREST-EXPENSE> 0
<GROSS-EXPENSE> 2,145,641
<AVERAGE-NET-ASSETS> 145,699,835
<PER-SHARE-NAV-BEGIN> 3.000
<PER-SHARE-NII> 0.170
<PER-SHARE-GAIN-APPREC> 0.040
<PER-SHARE-DIVIDEND> 0.170
<PER-SHARE-DISTRIBUTIONS> 0.000
<RETURNS-OF-CAPITAL> 0.000
<PER-SHARE-NAV-END> 3.040
<EXPENSE-RATIO> 1.38
<AVG-DEBT-OUTSTANDING> 0
<AVG-DEBT-PER-SHARE> 0.000
</TABLE>
