<PAGE> 1
================================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM N-1A
REGISTRATION STATEMENT (NO. 33-6001) UNDER
THE SECURITIES ACT OF 1933
PRE-EFFECTIVE AMENDMENT NO. [X]
POST-EFFECTIVE AMENDMENT NO. 16 [X]
AND
REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY
ACT OF 1940
AMENDMENT NO. 18 [X]
VANGUARD BOND INDEX FUND, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN CHARTER)
P.O. BOX 2600, VALLEY FORGE, PA 19482
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICE)
REGISTRANT'S TELEPHONE NUMBER (610) 669-1000
RAYMOND J. KLAPINSKY, ESQUIRE
P.O. BOX 876
VALLEY FORGE, PA 19482
IT IS PROPOSED THAT THIS FILING BECOME EFFECTIVE:
March 28, 1997, pursuant to paragraph (b) of Rule 485.
APPROXIMATE DATE OF PROPOSED PUBLIC OFFERING:
As soon as practicable after this Registration Statement becomes effective.
WE HAVE ELECTED TO REGISTER AN INDEFINITE NUMBER OF SHARES PURSUANT TO
REGULATION 24f-2 UNDER THE INVESTMENT COMPANY ACT OF 1940. REGISTRANT FILED ITS
RULE 24f-2 NOTICE FOR THE PERIOD ENDED DECEMBER 31, 1996 ON FEBRUARY 27, 1997.
================================================================================
<PAGE> 2
VANGUARD BOND INDEX FUND, INC.
CROSS REFERENCE SHEET
<TABLE>
<CAPTION>
FORM N-1A
ITEM NUMBER LOCATION IN PROSPECTUS
<C> <S> <C>
Item 1. Cover Page.................................... Cover Page
Item 2. Synopsis...................................... Highlights
Item 3. Condensed Financial Information............... Financial Highlights
Item 4. General Description of Registrant............. Investment Objective; Investment
Limitations; Investment Policies;
General Information
Item 5. Management of the Funds....................... Management of the Funds; General
Information
Item 6. Capital Stock and Other Securities............ Opening an Account and Purchasing
Shares; Selling Your Shares; The
Share Price of each Portfolio;
Dividends, Capital Gains, and Taxes;
General Information
Item 7. Purchase of Securities Being Offered.......... Cover Page; Opening an Account and
Purchasing Shares
Item 8. Redemption or Repurchase...................... Selling Your Shares
Item 9. Pending Legal Proceedings..................... Not Applicable
<CAPTION>
FORM N-1A LOCATION IN STATEMENT
ITEM NUMBER OF ADDITIONAL INFORMATION
<C> <S> <C>
Item 10. Cover Page.................................... Cover Page
Item 11. Table of Contents............................. Cover Page
Item 12. General Information and History............... Investment Objective and Policies
Item 13. Investment Objective and Policies............. Investment Objective and Policies;
Investment Limitations
Item 14. Management of the Fund........................ Management of the Fund
Item 15. Control Persons and Principal Holders of
Securities.................................... Management of the Fund
Item 16. Investment Advisory and Other Services........ Management of the Fund
Item 17. Brokerage Allocation.......................... Not Applicable
Item 18. Capital Stock and Other Securities............ Financial Statements
Item 19. Purchase, Redemption and Pricing of Securities
Being Offered................................. Purchase of Shares; Redemption of
Shares
Item 20. Tax Status.................................... Appendix
Item 21. Underwriters.................................. Not Applicable
Item 22. Calculations of Yield Quotations of Money
Market Fund................................... Not Applicable
Item 23. Financial Statements.......................... Financial Statements
</TABLE>
<PAGE> 3
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================================================================================
[VANGUARD BOND INDEX FUND LOGO] A Member of The Vanguard Group
- - --------------------------------------------------------------------------------
- - --------------------------------------------------------------------------------
PROSPECTUS -- MARCH 28, 1997
- - --------------------------------------------------------------------------------
NEW ACCOUNT INFORMATION: INVESTOR INFORMATION DEPARTMENT -- 1-800-662-7447
(SHIP)
- - --------------------------------------------------------------------------------
SHAREHOLDER ACCOUNT SERVICES: CLIENT SERVICES DEPARTMENT -- 1-800-662-2739
(CREW)
- - --------------------------------------------------------------------------------
INVESTMENT
OBJECTIVE
AND POLICIES Vanguard Bond Index Fund, Inc. (the "Fund"), is an
open-end diversified investment company designed as an
"index fund." The Fund consists of four distinct
portfolios: the Total Bond Market, Short-Term Bond,
Intermediate-Term Bond and Long-Term Bond Portfolios. Each
of the Portfolios invests in fixed-income securities with
prescribed maturity and credit quality standards in order
to match the investment performance of certain investment
grade bond indexes. There is no assurance that a Portfolio
will achieve its stated objective. Shares of the Fund are
neither insured nor guaranteed by any agency of the U.S.
Government, including the FDIC.
- - --------------------------------------------------------------------------------
OPENING AN
ACCOUNT To open a regular (non-retirement) account, please
complete and return the Account Registration Form. If you
need assistance in completing this Form, please call our
Investor Information Department. To open an Individual
Retirement Account (IRA), please use a Vanguard IRA
Adoption Agreement. To obtain a copy of this form, call
1-800-662-7447, Monday through Friday, from 8:00 a.m. to
9:00 p.m. and Saturday, from 9:00 a.m. to 4:00 p.m.
(Eastern time). The minimum initial investment is $3,000
or $1,000 for Uniform Gifts/Transfers to Minors Act
accounts. For certain investors investing $10 million or
more in the Total Bond Market Portfolio, the Fund offers a
second class of shares, Total Bond Market Portfolio
Institutional Shares, which are offered through a separate
prospectus. The Total Bond Market Portfolio and the Total
Bond Market Institutional Shares do not have the same
expenses; as a result, the two Portfolios' performance
could differ. To obtain information on the Total Bond
Market Portfolio Institutional Shares, please call
1-800-523-8066. The Fund is offered on a no-load basis
(i.e., there are no sales commissions or 12b-1 fees).
However, the Fund incurs expenses for management,
administrative and distribution services. Shareholders in
each Portfolio will also incur a $10 annual account
maintenance fee, deducted at a rate of $2.50 per quarter
from each Portfolio account.
- - --------------------------------------------------------------------------------
ABOUT THIS
PROSPECTUS This Prospectus is designed to set forth concisely the
information you should know about the Fund before you
invest. It should be retained for future reference. A
"Statement of Additional Information" containing
additional information about the Fund has been filed with
the Securities and Exchange Commission. This Statement is
dated March 28, 1997 and has been incorporated by
reference into this Prospectus. A copy may be obtained
without charge by writing to the Fund or by calling the
Investor Information Department.
- - --------------------------------------------------------------------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page Page Page
<S> <C> <C> <C>
Highlights ....................... 2 Implementation of SHAREHOLDER GUIDE
Fund Expenses .................... 5 Policies ........................ 14 Opening an Account and
Financial Highlights ............. 6 Investment Limitations ............. 17 Purchasing Shares ............... 24
Yield and Total Return ........... 8 Management of the Fund ............. 18 When Your Account Will Be
FUND INFORMATION Investment Adviser.................. 18 Credited ........................ 27
Investment Objective ............. 9 Performance Record ................. 19 Selling Your
Investment Policies .............. 9 Dividends, Capital Gains Shares .......................... 28
Investment Risks ................. 11 and Taxes ...........,........... 20 Exchanging Your Shares ............. 31
Who Should Invest ................ 14 The Share Price of Each Important Information About
Portfolio ....................... 21 Telephone Transactions .......... 32
General Information ................ 22 Transferring
Registration ................... 33
Other Vanguard Services ........... 33
</TABLE>
- - --------------------------------------------------------------------------------
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 COMMISSION PASSED UPON THE ACCURACY OR
ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL
OFFENSE.
- - --------------------------------------------------------------------------------
- - --------------------------------------------------------------------------------
<PAGE> 4
HIGHLIGHTS
OBJECTIVE AND
POLICIES The Fund is a no-load, open-end diversified investment
company designed as an "index" fund. The Fund consists of
four distinct Portfolios, each of which invests in
fixed-income securities with prescribed maturity and
credit quality standards in order to match the investment
performance of certain investment grade bond indexes.
There is no assurance that any of the Fund's Portfolios
will achieve its stated objective. PAGE 9
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FOUR SEPARATE
PORTFOLIOS Investors may choose to invest in any of four Portfolios
of the Fund:
TOTAL BOND MARKET PORTFOLIO -- seeks to match the
investment performance of the Lehman Brothers Aggregate
Bond Index, a broad market-weighted index which
encompasses U.S. Treasury and agency securities, corporate
investment grade bonds, international (dollar-denominated)
investment grade bonds, and mortgage-backed securities.
SHORT-TERM BOND PORTFOLIO -- seeks to match the investment
performance of the Lehman Brothers Mutual Fund Short (1-5)
Government/Corporate Index, a market-weighted index which
encompasses U.S. Treasury and agency securities and
investment grade corporate and international
(dollar-denominated) bonds, with maturities between 1 and
5 years.
INTERMEDIATE-TERM BOND PORTFOLIO -- seeks to match the
investment performance of the Lehman Brothers Mutual Fund
Intermediate (5-10) Government/Corporate Index, a
market-weighted index which encompasses U.S. Treasury and
agency securities and investment grade corporate and
international (dollar-denominated) bonds, with maturities
between 5 and 10 years.
LONG-TERM BOND PORTFOLIO -- seeks to match the investment
performance of the Lehman Brothers Mutual Fund Long (10+)
Government/Corporate Index, a market-weighted index which
encompasses U.S. Treasury and agency securities and
investment grade corporate and international
(dollar-denominated) bonds, with maturities greater than
10 years. PAGE 9
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RISK
CHARACTERISTICS Investors in the Fund are exposed to four types of risk
from fixed-income securities. (1) INTEREST RATE RISK is
the potential for fluctuations in bond prices due to
changing interest rates. (2) INCOME RISK is the potential
for a decline in a Portfolio's income due to falling
market interest rates. (3) CREDIT RISK is the possibility
that a bond issuer will fail to make timely payments of
either interest or principal to a Portfolio. (4)
PREPAYMENT RISK (applicable to the Total Bond Market
Portfolio which invests in mortgage-backed securities) or
CALL RISK (for corporate bonds) is the likelihood that,
during periods of falling interest rates, securities with
high stated interest rates will be prepaid (or "called")
prior to maturity, requiring a Portfolio to invest the
proceeds at generally lower interest rates.
The chart on page 3 summarizes interest rate, income,
credit and prepayment/call risks for the four Portfolios
of the Fund. As shown, interest rate risk should be low
for the
2
<PAGE> 5
Short-Term Bond Portfolio, moderate for the Total Bond
Market and Intermediate-Term Bond Portfolios, and high for
the Long-Term Bond Portfolio. PAGE 11
- - --------------------------------------------------------------------------------
RISK SUMMARY
<TABLE>
<S> <C> <C> <C> <C> <C> <C>
--------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
INTEREST INCOME CREDIT PREPAYMENT/
PORTFOLIO RATE RISK RISK RISK CALL RISK
<S> <C> <C> <C> <C> <C> <C>
--------------------------------------------------------------------------------
Total Bond Market Medium Medium Low Medium
Short-Term Bond Low High Low Low
Intermediate-Term Bond Medium Medium Low Low
Long-Term Bond High Low Low Medium
--------------------------------------------------------------------------------
</TABLE>
- - --------------------------------------------------------------------------------
THE VANGUARD
GROUP The Fund is a member of The Vanguard Group of Investment
Companies, a group of more than 30 investment companies
with more than 90 distinct investment portfolios and total
assets in excess of $250 billion. The Vanguard Group, Inc.
("Vanguard"), a subsidiary jointly owned by the Vanguard
Funds, provides all corporate management, administrative,
distribution, and shareholder accounting services on an
at-cost basis to the Funds in the Group. As a result,
Vanguard's operating expenses are substantially lower than
those of the mutual fund industry. PAGE 18
- - --------------------------------------------------------------------------------
INVESTMENT
ADVISER Vanguard's Fixed Income Group provides investment advisory
services on an at-cost basis to the Fund's four
Portfolios. PAGE 18
- - --------------------------------------------------------------------------------
FEES AND EXPENSES Shareholders in each Portfolio will incur an annual $10
maintenance fee which will be deducted from the dividend
income of each account. This fee will be waived for
shareholders with an account balance of $10,000 or
more. PAGE 5
- - --------------------------------------------------------------------------------
DIVIDEND POLICY Each Portfolio declares a dividend each business day based
on its ordinary income. Dividends are paid on the first
business day of each month. Net capital gain, if any, will
be distributed annually. Dividend and capital gains
distributions may be received in cash or reinvested in
additional shares. PAGE 20
- - --------------------------------------------------------------------------------
TAXES Dividends paid by the Fund's Portfolios are subject to
federal, state, and local income taxes. Any capital gains
distributions from a Portfolio are subject to federal
income tax, as well as any applicable state and local
taxes. A sale of shares -- whether by outright redemption,
checkwriting redemption or an exchange -- is a taxable
event and may result in a capital gain or loss. PAGE 20
- - --------------------------------------------------------------------------------
PURCHASING
SHARES You may purchase shares by mail, wire, or exchange from
another Vanguard Portfolio. The minimum initial investment
is $3,000 per Portfolio ($1,000 for retirement accounts
and Uniform Gifts/Transfers to Minors Act accounts); the
minimum for subsequent investments is $100. There are no
sales commissions or 12b-1 fees. PAGE 24
- - --------------------------------------------------------------------------------
3
<PAGE> 6
SELLING SHARES You may redeem shares of each Portfolio by mail, telephone
or check. Telephone redemption proceeds may be received by
mail or by wire. There is no charge for redemptions,
except for wire withdrawals under $5,000, which are
subject to a $5 charge. Your bank may also impose a fee
upon receipt of a wire. Each Portfolio's share price is
expected to fluctuate, and at the time of redemption may
be more or less than at the time of initial purchase,
resulting in a gain or loss. PAGE 28
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SERVICES TO
SHAREHOLDERS The Fund offers free checkwriting services (minimum $250
per check) for easy access to your account balance. PAGE
28
The Fund offers two special services: Fund Express, for
electronic transfers between the Fund and your bank
account; and Tele-Account, for "round-the-clock" telephone
access to your Fund account balance and certain
transactions. PAGE 33
- - --------------------------------------------------------------------------------
SPECIAL
CONSIDERATIONS (1) Each Portfolio may invest a portion of its assets in
bond (interest rate) futures contracts and options.
(2) Each Portfolio may lend its securities. PAGE 16
- - --------------------------------------------------------------------------------
4
<PAGE> 7
FUND EXPENSES The following table illustrates ALL expenses and fees that
you would incur as a shareholder of the Fund. The expenses
and fees set forth in the table are for the 1996 fiscal
year.
<TABLE>
<CAPTION>
TOTAL BOND SHORT-TERM INTERMEDIATE- LONG-TERM
SHAREHOLDER MARKET BOND TERM BOND BOND
TRANSACTION EXPENSES PORTFOLIO PORTFOLIO PORTFOLIO PORTFOLIO
<S> <C> <C> <C> <C>
------------------------------------------------------------------------------------
Sales Load Imposed on
Purchases*.................... None None None None
Sales Load Imposed on Reinvested
Dividends..................... None None None None
Redemption Fees**............... None None None None
Exchange Fees................... None None None None
</TABLE>
* A portfolio transaction fee, payable directly to the
Portfolio, may be imposed on aggregate purchases
expected to exceed $50 million for the Total Bond
Market Portfolio; $15 million for the Short-Term and
Intermediate-Term Bond Portfolios; and $2 million for
the Long-Term Bond Portfolio. See the Fund's Statement
of Additional Information for further information.
** Wire redemptions of less than $5,000 are subject to a
$5 processing fee.
<TABLE>
<CAPTION>
TOTAL BOND SHORT-TERM INTERMEDIATE- LONG-TERM
ANNUAL FUND MARKET BOND TERM BOND BOND
OPERATING EXPENSES PORTFOLIO PORTFOLIO PORTFOLIO PORTFOLIO
<S> <C> <C> <C> <C>
------------------------------------------------------------------------------------
Management & Administrative
Expenses+..................... 0.14% 0.14% 0.14% 0.08%
Investment Advisory Fees........ 0.01 0.01 0.01 0.01
12b-1 Fees...................... None None None None
Other Expenses
Distribution Costs............ 0.03 0.03 0.03 0.03
Miscellaneous Expenses........ 0.02 0.02 0.02 0.08
Total Other Expenses............ 0.05 0.05 0.05 0.11
----- ----- ---- ----
TOTAL OPERATING
EXPENSES............. 0.20%++ 0.20% 0.20% 0.20%
===== ===== ==== ====
+ For accounts of less than $10,000, each Portfolio assesses an annual account
maintenance fee of $10. This fee is in addition to the expenses set forth above.
++ The Portfolio's Institutional class of shares are offered at an estimated expense
ratio of .10% per year.
</TABLE>
The purpose of this table is to assist you in
understanding the various costs and expenses that you
would bear directly or indirectly as an investor in the
Fund.
EACH PORTFOLIO
CHARGES A $10 ACCOUNT
MAINTENANCE FEE Each Portfolio assesses an annual maintenance fee of $10
to offset the cost of maintaining smaller accounts. This
fee, which is paid directly by shareholders, is deducted
at a rate of $2.50 per quarter from the dividend income of
each account. See "Dividends, Capital Gains and Taxes" for
more information on this fee. The $10 fee amounts to 1.00%
on a $1,000 investment in a Portfolio, 0.33% on a $3,000
investment. This fee will be waived for shareholders with
an account balance of $10,000 or more.
5
<PAGE> 8
The following example illustrates the expenses that you
would incur on a $1,000 investment over various periods,
assuming (1) a 5% annual rate of return and (2) redemption
at the end of each period. A $10 annual fee payable on
accounts of less than $10,000 is not included. As noted in
the table on page 5, the Portfolios charge no redemption
fees of any kind.
<TABLE>
<CAPTION>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
------ ------- ------- --------
<S> <C> <C> <C> <C>
Total Bond Market Portfolio............ $2 $ 6 $11 $ 26
Short-Term Bond Portfolio.............. $2 $ 6 $11 $ 26
Intermediate-Term Bond Portfolio....... $2 $ 6 $11 $ 26
Long-Term Bond Portfolio............... $2 $ 6 $11 $ 26
</TABLE>
THIS EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTATION OF
PAST OR FUTURE EXPENSES OR PERFORMANCE. ACTUAL EXPENSES
MAY BE HIGHER OR LOWER THAN THOSE SHOWN.
- - --------------------------------------------------------------------------------
FINANCIAL
HIGHLIGHTS The following financial highlights information with
respect to the Total Bond Market, Short-Term Bond,
Intermediate-Term Bond and Long-Term Bond Portfolios, for
a share outstanding throughout each period presented, has
been audited by Price Waterhouse LLP, independent
accountants, whose report thereon was unqualified. This
information should be read in conjunction with the Fund's
December 31, 1996 financial statements and notes thereto,
which, together with the remaining portions of the Fund's
1996 Annual Report to Shareholders, are incorporated by
reference in the Statement of Additional Information and
this Prospectus, and which appear, along with the report
of Price Waterhouse LLP, in the Fund's 1996 Annual Report
to Shareholders. For a more complete discussion of the
Fund's performance, please see the Fund's 1996 Annual
Report to Shareholders which may be obtained without
charge by writing to the Fund or calling our Investor
Information Department at 1-800-662-7447.
6
<PAGE> 9
<TABLE>
<CAPTION>
------------------------------------------------------------------------------
TOTAL BOND MARKET PORTFOLIO
------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31,
------------------------------------------------------------------------------
1996 1995 1994 1993 1992 1991 1990 1989 1988 1987
------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING
OF PERIOD................ $10.14 $ 9.17 $10.06 $ 9.88 $ 9.99 $ 9.41 $ 9.44 $ 9.05 $ 9.20 $ 9.94
-
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
INVESTMENT OPERATIONS
Net Investment Income.... .640 .650 .622 .638 .699 .766 .796 .797 .807 .834
Net Realized and
Unrealized Gain (Loss)
on Investments......... (.300) .970 (.888) .300 (.018) .605 (.030) .390 (.150) (.740)
-
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
TOTAL FROM INVESTMENT
OPERATIONS......... .340 1.620 (.266) .938 .681 1.371 .766 1.187 .657 .094
- - ------------------------------------------------------------------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net
Investment Income...... (.640) (.650) (.622) (.638) (.699) (.766) (.796) (.797) (.807) (.834)
Distributions from
Realized Capital
Gains.................. -- -- (.002) (.120) (.092) (.025) -- -- -- --
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
TOTAL
DISTRIBUTIONS...... (.640) (.650) (.624) (.758) (.791) (.791) (.796) (.797) (.807) (.834)
- - ------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF
PERIOD................... $ 9.84 $10.14 $ 9.17 $10.06 $ 9.88 $ 9.99 $ 9.41 $ 9.44 $ 9.05 $ 9.20
========================================================================================================================
TOTAL RETURN (1).......... 3.58% 18.18% (2.66)% 9.68% 7.14% 15.25% 8.65% 13.65% 7.35% 1.14%
========================================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Period
(Millions)............... $2,962 $2,405 $1,731 $1,540 $1,066 $ 849 $ 277 $ 139 $ 58 $ 43
Ratio of Expenses to
Average Net Assets....... 0.20% 0.20% 0.18% 0.18% 0.20% 0.16% 0.21% 0.24% 0.30% 0.14%
Ratio of Net Investment
Income to Average Net
Assets................... 6.54% 6.66% 6.57% 6.24% 7.06% 7.95% 8.60% 8.49% 8.84% 9.01%
Portfolio Turnover Rate... 39% 36% 33% 50% 49% 31% 29% 33% 21% 77%
(1) Total return figures do not reflect the annual account maintenance fee of $10.
</TABLE>
<TABLE>
<CAPTION>
--------------------------------
SHORT-TERM BOND PORTFOLIO
---------------------------------------------
YEAR ENDED DEC. 31, MAR. 1+ TO
----------------------------- DEC. 31,
1996 1995 1994
------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD.............................................. $ 10.07 $ 9.50 $ 10.00
------ ------ ------
INVESTMENT OPERATIONS
Net Investment Income............................................................ .587 .623 .463
Net Realized and Unrealized Gain
(Loss) on Investments.......................................................... (.146) .570 (.500)
------ ------ ------
TOTAL FROM INVESTMENT OPERATIONS............................................. .441 1.193 (.037)
- - ------------------------------------------------------------------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment Income............................................. (.587) (.623) (.463)
Distributions from Realized Capital Gains........................................ (.004) -- --
------ ------ ------
TOTAL DISTRIBUTIONS.......................................................... (.591) (.623) (.463)
- - ------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD.................................................... $ 9.92 $ 10.07 $ 9.50
========================================================================================================================
TOTAL RETURN (1).................................................................. 4.55% 12.88% (0.37)%
========================================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Period (Millions).............................................. $ 328 $ 208 $ 77
Ratio of Expenses to Average Net Assets........................................... 0.20% 0.20% 0.18%*
Ratio of Net Investment Income to
Average Net Assets............................................................... 5.93% 6.28% 5.77%*
Portfolio Turnover Rate........................................................... 65% 65% 53%
(1) Total return figures do not reflect the annual account maintenance fee of $10.
* Annualized.
+ Subscription period for the Portfolio was from January 18, 1994, through February 28, 1994, during which time all assets were
held in money market instruments.
</TABLE>
- - --------------------------------------------------------------------------------
7
<PAGE> 10
<TABLE>
<CAPTION>
------------------------------- --------------------------------
INTERMEDIATE-TERM LONG-TERM
BOND PORTFOLIO BOND PORTFOLIO
------------------------------------------- --------------------------------------------
YEAR ENDED DEC. 31, MAR. 1+ TO YEAR ENDED DEC. 31, MAR. 1+ TO
--------------------------- DEC. 31, ---------------------------- DEC. 31,
1996 1995 1994 1996 1995 1994
------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF
PERIOD.............................. $10.37 $ 9.18 $ 10.00 $ 10.82 $ 8.96 $ 10.00
------ ------ ------ ------ ------ ------
INVESTMENT OPERATIONS
Net Investment Income............... .648 .661 .533 .674 .692 .586
Net Realized and Unrealized Gain
(Loss) on Investments............. (.406) 1.217 (.820) (.731) 1.884 (1.040)
------ ------ ------ ------ ------ ------
TOTAL FROM INVESTMENT
OPERATIONS.................... .242 1.878 (.287) (.057) 2.576 (.454)
- - ------------------------------------------------------------------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment
Income............................ (.648) (.661) (.533) (.674) (.692) (.586)
Distributions from Realized Capital
Gains............................. (.004) (.027) -- (.009) (.024) --
------ ------ ------ ------ ------ ------
TOTAL DISTRIBUTIONS............. (.652) (.688) (.533) (.683) (.716) .586)
- - ------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD....... $ 9.96 $10.37 $ 9.18 $ 10.08 $10.82 $ 8.96
========================================================================================================================
TOTAL RETURN (1)..................... 2.55% 21.07% (2.88)% (0.26)% 29.72% (4.53)%
========================================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Period
(Millions).......................... $ 460 $ 346 $ 71 $ 44 $ 24 $ 9
Ratio of Expenses to Average Net
Assets.............................. 0.20% 0.20% 0.18%* 0.20% 0.20% 0.18%*
Ratio of Net Investment Income to
Average Net Assets.................. 6.54% 6.55% 6.88%* 6.75% 6.90% 7.70%*
Portfolio Turnover Rate.............. 80% 71% 63% 46% 45% 70%
(1) Total return figures do not reflect the annual account maintenance fee of $10.
* Annualized.
+ Subscription period for the Portfolio was from January 18, 1994, through February 28, 1994, during which time all assets were
held in money market instruments.
</TABLE>
- - --------------------------------------------------------------------------------
YIELD AND
TOTAL RETURN From time to time each Portfolio may advertise its yield
and total return. Both yield and total return figures are
based on historical earnings and are not intended to
indicate future performance. The "total return" of a
Portfolio refers to the average annual compounded rates of
return over one-, five- and ten-year periods or for the
life of the Portfolio (as stated in the advertisement)
that would equate an initial amount invested at the
beginning of a stated period to the ending redeemable
value of the investment, assuming the reinvestment of all
dividend and capital gains distributions.
In accordance with industry guidelines set forth by the
U.S. Securities and Exchange Commission, the "30-day
yield" of a Portfolio is calculated by dividing the net
investment income per share earned during a 30-day period
by the net asset value per share on the last day of the
period. Net investment income includes interest and
dividend income earned on the Portfolio's securities; it
is net of all expenses and all recurring and nonrecurring
charges that have been applied to all shareholder
accounts. The yield calculation assumes that the net
investment income earned over 30 days is compounded
monthly for six months and then annualized. Methods used
to calculate advertised yields are standardized for all
stock and bond mutual funds. However, these methods differ
from the accounting methods used by a Portfolio to
maintain its books and records, and so the advertised
30-day yield may not fully reflect the income paid to an
investor's account.
- - --------------------------------------------------------------------------------
8
<PAGE> 11
INVESTMENT
OBJECTIVE
EACH PORTFOLIO
SEEKS TO MATCH
THE INVESTMENT
PERFORMANCE OF ITS
RESPECTIVE INDEX The Fund is an open-end diversified investment company
designed as an "index" fund. The Fund consists of four
Portfolios, each of which seeks to match the investment
results of a particular investment grade bond index
through the use of index sampling techniques. The Total
Bond Market Portfolio seeks to replicate the performance
of a broad market-weighted bond index, while the
Short-Term Bond, Intermediate-Term Bond and Long-Term
Bond Portfolios attempt to replicate the performance of
market-weighted bond indexes with prescribed maturity
standards. There is no assurance that any of the Fund's
Portfolios will achieve its stated objective.
The investment objective of each Portfolio is fundamental
and so cannot be changed without the approval of a
majority of a Portfolio's shareholders.
- - --------------------------------------------------------------------------------
INVESTMENT
POLICIES
EACH PORTFOLIO USES A
"PASSIVE" APPROACH
TO INVEST IN FIXED-
INCOME SECURITIES The four Portfolios of the Fund are not managed according
to traditional methods of "active" investment management,
which involve the buying and selling of securities based
upon economic, financial, and market analyses and
investment judgment. Instead, the Portfolios, utilizing a
"passive" or "indexing" investment approach, will attempt
to duplicate the investment performance of their
respective indexes through statistical sampling
procedures. Each Portfolio will invest in a group of
fixed-income securities selected from its respective index
which, when taken together, are expected to perform
similarly to the index as a whole. This sampling technique
is expected to enable each Portfolio to track the dividend
income and price movements of its respective index, while
minimizing brokerage, custodial and accounting costs. The
Portfolios are managed without regard to tax
ramifications.
The TOTAL BOND MARKET PORTFOLIO will invest in a portfolio
of fixed-income securities selected to match the Lehman
Brothers Aggregate Bond Index (the "Aggregate Bond
Index"). The Aggregate Bond Index is a broad
market-weighted index which encompasses four major classes
of investment grade fixed-income securities in the United
States: U.S. Treasury and agency securities, corporate
bonds, international (dollar-denominated) bonds, and
mortgage-backed securities, with maturities greater than
one year.
The SHORT-TERM BOND PORTFOLIO will invest in a portfolio
of fixed-income securities selected to match the Lehman
Brothers Mutual Fund Short (1-5) Government/ Corporate
Index (the "Short-Term Index"). The Short-Term Index is a
market-weighted index which encompasses three major
classes of investment grade fixed-income securities: U.S.
Treasury and agency securities, corporate bonds, and
international (dollar-denominated) bonds, all with
maturities between 1 and 5 years.
The INTERMEDIATE-TERM BOND PORTFOLIO will invest in a
portfolio of fixed-income securities selected to match the
Lehman Brothers Mutual Fund Intermediate (5-10)
Government/Corporate Index (the "Intermediate-Term
Index"). The Intermediate-Term Index is a market-weighted
index which encompasses three major classes of investment
grade fixed-income securities: U.S. Treasury and agency
securities, corporate bonds, and international
(dollar-denominated) bonds, all with maturities between 5
and 10 years.
9
<PAGE> 12
The LONG-TERM BOND PORTFOLIO will invest in a portfolio of
fixed-income securities selected to match the Lehman
Brothers Mutual Fund Long (10+) Government/ Corporate
Index (the "Long-Term Index"). The Long-Term Index is a
market-weighted index which encompasses three major
classes of investment grade fixed-income securities: U.S.
Treasury and agency securities, corporate bonds, and
international (dollar-denominated) bonds, all with
maturities greater than 10 years.
Each Portfolio will invest 80% or more of its assets in
securities included in its respective index. As of
December 31, 1996, the major classes of fixed-income
securities represented the following proportions of the
respective indexes total market values:
<TABLE>
<CAPTION>
AGGREGATE SHORT-TERM INTERMEDIATE- LONG-TERM
BOND INDEX INDEX TERM INDEX INDEX
---------- ---------- ------------- ---------
<S> <C> <C> <C> <C>
U.S. Treasury and
agency securities 52% 86% 57% 66%
Corporate bonds 14% 12% 32% 28%
International (dollar-
denominated) bonds 4% 2% 11% 6%
Mortgage-backed securities 30% 0% 0% 0%
Dollar-weighted average
maturity (Years) 8.7 yrs 2.7 yrs 7.6 yrs 23.3 yrs
</TABLE>
The Portfolios of the Fund may, from time to time,
substitute one type of investment grade bond for another.
For instance, a Portfolio may hold more short-term
corporate bonds (fewer short U.S. Treasury bonds) than
represented in the Index so as to increase income. This
corporate substitution strategy will entail the assumption
of additional credit risk; however, substantial
diversification within the corporate sector should
moderate issue-specific credit risk. In addition, current
investment policy restricts corporate substitutions to
issues with less than 4 years remaining to maturity and in
aggregate no more than 15% of net assets. Overall, credit
risk is expected to be very low for each of the
Portfolios.
Fixed-income securities will be primarily of investment
grade quality -- i.e., those rated at least Baa3 by
Moody's Investors Service, Inc. or BBB- by Standard &
Poor's Corporation. Securities rated Baa or BBB are
considered as medium grade obligations. Interest payments
and principal are regarded as adequate for the present but
certain protective elements found in higher rated bonds
may be lacking. Such bonds lack outstanding investment
characteristics and, in fact, have speculative
characteristics as well.
In its effort to duplicate the investment performance of
its Index, each Portfolio will invest in fixed-income
securities approximating its relative proportion of the
Index's total market value. For the Total Bond Market
Portfolio, these investments will include U.S. Treasury
and agency securities, mortgage-backed securities, and
corporate and international (dollar-denominated) bonds.
For the Short-Term Bond, Intermediate-Term Bond and
Long-Term Bond Portfolios, these investments include
10
<PAGE> 13
U.S. Treasury and agency securities, corporate debt and
international (dollar-denominated) debt. The Portfolios
may invest in U.S. Treasury bills, notes and bonds and
other "full faith and credit" obligations of the U.S.
Government. The Portfolios may also invest in U.S.
Government agency securities, which are debt obligations
issued or guaranteed by agencies or instrumentalities of
the U.S. Government. Such "agency" securities may not be
backed by the "full faith and credit" of the U.S.
Government. Such U.S. Government agencies may include the
Federal Farm Credit Banks, the Resolution Trust
Corporation and in the case of the Total Bond Market
Portfolio, the Government National Mortgage Association.
Even though they all carry top (AAA) credit ratings,
"agency" obligations are not explicitly guaranteed by the
U.S. Government and so are perceived as somewhat riskier
than comparable Treasury bonds.
Each Portfolio may also invest up to 20% of its assets in
short-term money market instruments, and may invest in
bond (interest rate) futures contracts and options to a
limited extent. Such securities will be held only to
invest uncommitted cash balances, to maintain liquidity to
meet shareholder redemptions, or to minimize trading
costs. The Portfolios will not invest in such securities
as part of a temporary defensive strategy (such as
altering the aggregate maturity of a Portfolio) to protect
the Fund against potential bond market declines. Each
Portfolio intends to remain fully invested, to the extent
practicable, in a pool of securities which will duplicate
the investment characteristics of the respective index.
See "Implementation of Policies" for a description of
other investment practices of the Fund.
The Fund is responsible for voting the shares of all
securities it holds.
These investment policies are not fundamental and so may
be changed by the Board of Directors without shareholder
approval. However, shareholders would be notified prior to
any material change.
- - --------------------------------------------------------------------------------
INVESTMENT
RISKS As mutual funds investing primarily in fixed-income
securities, the Portfolios are subject to interest rate,
income, call and credit risks. Since the Total Bond Market
Portfolio also invests in mortgage-backed securities, the
Portfolio is also subject to prepayment risk.
THE PORTFOLIOS ARE
SUBJECT TO INTEREST
RATE RISK INTEREST RATE RISK is the potential for fluctuations in
bond prices due to changing interest rates. As a rule,
bond prices vary inversely with interest rates. If
interest rates rise, bond prices generally decline; if
interest rates fall, bond prices generally rise. In
addition, for a given change in interest rates,
longer-maturity bonds fluctuate more in price than
shorter-maturity bonds. To compensate investors for these
larger fluctuations, longer-maturity bonds usually offer
higher yields than shorter-maturity bonds, other factors,
including credit quality, being equal.
These basic principles of bond prices also apply to U.S.
Government securities. A security backed by the "full
faith and credit" of the U.S. Government is guaranteed
only as to its stated interest rate and face value at
maturity, not its current market price. Just like other
fixed-income securities, government-guaranteed securities
will fluctuate in value when interest rates change.
11
<PAGE> 14
The TOTAL BOND MARKET and INTERMEDIATE-TERM BOND
PORTFOLIOS maintain an intermediate-term dollar-weighted
average maturity, and are therefore subject to a moderate
to high level of interest rate risk. Interest rate risk
for the SHORT-TERM BOND PORTFOLIO should be modest.
Because of the short-term dollar-weighted average
maturities, the Portfolio is expected to exhibit low to
moderate price fluctuations as interest rates change. The
LONG-TERM BOND PORTFOLIO is exposed to substantial
interest rate risk. The Portfolio is expected to have a
dollar-weighted average maturity in excess of 15 years
which exposes it to high to very high price fluctuations
due to changing interest rates.
As an illustration of interest rate risk, the chart below
depicts the effect of a two percentage point change in
interest rates on three bonds of varying maturities:
PERCENTAGE CHANGE IN PRICE OF A PAR BOND YIELDING 7.5%
----------------------------------------------------------
<TABLE>
<CAPTION>
STATED MATURITY 2 PERCENTAGE POINT
DECREASE IN
----------------------------- 2 PERCENTAGE POINT INTEREST RATES
INCREASE IN ------------------
INTEREST RATES
------------------
<S> <C> <C>
Short-Term (2.5 years) - 4.33% + 4.63%
Intermediate-Term (10 years) -12.71% +15.24%
Long-Term (20 years) -17.75% + 24.1%
</TABLE>
This chart is intended to provide you with guidelines for
determining the degree of interest rate risk you may be
willing to assume. The yield and price changes shown
should not be taken as representative of a Portfolio's
current or future yield or expected changes in a
Portfolio's share price.
THE PORTFOLIOS ARE
SUBJECT TO INCOME RISKINCOME RISK is the potential for a decline in a
Portfolio's income due to falling market interest rates.
In relative terms, income risk will be higher for the
Fund's shorter-term Portfolios and lower for the Fund's
longer-term Portfolios.
THE LONG-TERM BOND
PORTFOLIO IS SUBJECT TO
CALL RISK An additional risk associated with long-term corporate
bonds is call risk. CALL RISK is the possibility that
corporate bonds held by the Portfolio will be repaid prior
to maturity. Call provisions, common in many corporate
bonds, allow bond issuers to redeem bonds prior to
maturity (at a specific price). When interest rates are
falling, bond issuers often exercise these call
provisions, paying off bonds that carry high stated
interest rates and often issuing new bonds at lower rates.
For the Portfolio, the result would be that bonds with
high interest rates are "called" and must be replaced with
lower-yielding instruments. In these circumstances, the
income of the Portfolio would decline. Reflecting these
additional credit and call risks, the corporate portion of
the portfolio will generally offer higher yields than the
government portion.
THE TOTAL BOND
MARKET PORTFOLIO
IS SUBJECT TO
PREPAYMENT RISK As a mutual fund investing a portion of its assets in
mortgage-backed securities (see chart on page 10), the
Total Bond Market Portfolio is subject to prepayment risk
to a limited extent. PREPAYMENT RISK is the possibility
that, during periods of declining interest rates, the
principal invested in high-yielding mortgage-backed
securities
12
<PAGE> 15
will be repaid earlier than scheduled, and the Fund will
be forced to reinvest the unanticipated payments at
generally lower interest rates.
Prepayment risk has two important effects on the
Portfolio. First, when interest rates fall and principal
prepayments are reinvested at lower interest rates, the
income that the Portfolio derives from mortgage-backed
securities is reduced. Second, like other fixed-income
securities, mortgage-backed securities generally decline
in price when interest rates rise. However, because of
prepayment risk, mortgage-backed securities (and thus in
part the share price of the Portfolio and the value of the
Index) will not enjoy as large a gain in market value as
ordinary bonds when interest rates fall. In part to
compensate for prepayment risk, mortgage-backed securities
generally offer higher yields than bonds of comparable
credit quality and maturity.
CREDIT RISK IS EXPECTED
TO BE LOW CREDIT RISK is the possibility that an issuer of
securities held by a Portfolio will be unable to make
payments of either interest or principal. The credit risk
of a Portfolio is a function of the credit quality of its
underlying securities.
The credit quality of each Portfolio is expected to be
very high, and thus credit risk should be low. As of
December 31, 1996, the average quality, as rated by
Moody's Investors Service, Inc., of each Portfolio's
benchmark index was as follows:
<TABLE>
<S> <C>
Aggregate Bond Index............................. Aaa
Short-Term Bond Index............................ Aaa
Intermediate-Term Bond Index..................... Aa1
Long-Term Bond Index............................. Aa2
</TABLE>
To a limited extent, the Portfolios are also exposed to
EVENT RISK, the possibility that corporate fixed-income
securities held by the Portfolios may suffer a substantial
decline in credit quality and market value due to a
corporate restructuring. Corporate restructurings, such as
mergers, leveraged buyouts, takeovers or similar events,
are often financed by a significant expansion of corporate
debt. As a result of the added debt burden, the credit
quality and market value of a firm's existing debt
securities may decline significantly. While event risk may
be high for certain corporate and international
(dollar-denominated) securities held by the Portfolios,
event risk for each Portfolio in the aggregate should be
low because of each Portfolio's diversified holdings and
the small percentage of portfolio assets invested in these
securities.
The corporate substitution strategy will increase credit
risk somewhat, as short-term investment grade corporate
bonds are substituted for U.S. Treasury bonds and notes;
however, owing to the diversified nature of the
Portfolios, and policies limiting the maturity and maximum
amount of substitutions, the overall credit and event risk
of the Portfolios is expected to be low.
NO CURRENCY RISK
IN ANY PORTFOLIO While each of the chosen Lehman Index benchmarks do have
limited exposure to international bonds, there is no
currency risk associated with the investments since they
are all dollar-denominated.
- - --------------------------------------------------------------------------------
13
<PAGE> 16
WHO SHOULD
INVEST
INVESTORS SEEKING TO
PARTICIPATE IN THE
"BOND MARKET" AS A
WHOLE OR ITS VARIOUS
MATURITY SEGMENTS The Portfolios are designed for individual and
institutional investors seeking well-diversified, low-cost
ways to participate in the U.S. fixed-income markets. The
Portfolios will be essentially fully invested at all
times. Because the Total Bond Market Portfolio will
represent all major sectors of the investment grade fixed-
income securities market, the Portfolio is a suitable
vehicle for those investors seeking ownership in the "bond
market" as a whole, without regard to particular sectors.
The Short-Term Bond, Intermediate-Term Bond and Long-Term
Bond Portfolios are suitable vehicles for those investors
seeking ownership in specific maturity segments of the
"bond market." Each Portfolio concentrates on bonds of
various maturities as illustrated in the chart on page 10.
Because of the risks associated with bond investments,
each Portfolio is intended to be a long-term investment
vehicle and is not designed to provide investors with a
means of speculating on short-term bond market movements.
As with all longer-term, fixed-income investments, the
share price of the Total Bond Market, Intermediate-Term
Bond and Long-Term Bond Portfolios will vary, with the
Long-Term Bond Portfolio expected to exhibit the greatest
volatility. Share price volatility should be significantly
less for the Short-Term Bond Portfolio. Credit risk should
be minimal for each Portfolio. The investment risks are
described on page 11.
The Portfolios are also suitable for those investors with
common stock holdings who are seeking a complementary
fixed-income investment to create a more balanced asset
mix. Because of potential share price fluctuations, the
Portfolios may be inappropriate for investors who have
short-term objectives or who require stability of
principal.
- - --------------------------------------------------------------------------------
IMPLEMENTATION
OF POLICIES The Portfolios follow a variety of investment practices in
an effort to duplicate the total return of their
respective indexes.
THE PORTFOLIOS INVEST
IN FIXED-INCOME
SECURITIES Each Portfolio will invest at least 80% or more of its
assets in securities included in its benchmark index. The
indexes measure the total investment return (capital
change plus income) provided by a universe of fixed-income
securities, weighted by the market value outstanding of
each security. The securities included in each index
generally meet the following criteria, as defined by
Lehman Brothers: an outstanding market value of at least
$100 million; and investment grade quality -- i.e., rated
a minimum of Baa3 by Moody's Investors Service, Inc. or
BBB- by Standard & Poor's Corporation. The maturities of
securities included in each index will vary as described
on page 10.
THE PORTFOLIOS USE A
"SAMPLING" TECHNIQUE The Portfolios will be unable to hold all of the
individual issues which comprise the indexes because of
the large number of securities involved. Instead, each
Portfolio will hold a representative sample of the
securities in its respective index, selecting a few issues
to represent entire "classes" or types of securities in
the index. Each Portfolio will be constructed so as to
approximately match the composition of its benchmark index
as described on page 9 after adjusting for the corporate
substitution policy described on page 10. The corporate
substitution strategy only applies to the Total Bond
Market Portfolio and the Short-Term Bond Portfolio.
14
<PAGE> 17
At the broadest level, and adjusted for the corporate
substitution strategy, each Portfolio will seek to hold
securities which reflect the weighting of the major asset
classes in its respective index. For the Total Bond Market
Portfolio, these classes include U.S. Treasury and agency
securities, corporate bonds, and mortgage-backed
securities. For the Short-Term Bond, Intermediate-Term
Bond and Long-Term Bond Portfolios, the two major classes
of securities include U.S. Treasury and agency securities
and corporate bonds. For example, if U.S. Treasury and
agency securities represent approximately 60% of an
index's interest rate risk, then approximately 60% of the
respective Portfolio's interest rate risk will come from
such securities. Similarly, if corporate bonds represent
20% of the interest rate risk of an index, then they will
represent approximately 20% of the interest rate risk of
the Portfolio.
Such a sampling technique is expected to be an effective
means of substantially duplicating the income and capital
returns provided by each index. Over time, the correlation
between the performance of the Fund and an index is
expected to be 0.95 or higher. A correlation of 1.00 would
indicate perfect correlation, which would be achieved when
the net asset value of a Portfolio, including the value of
its dividend and capital gain distributions, increases or
decreases in exact proportion to changes in the index.
Because the Portfolios of the Fund incur operating
expenses, as opposed to their respective indexes, which do
not, a perfect correlation of 1.00 is unlikely to be
achieved. The performance of a Portfolio versus that of
its respective index is monitored daily. If a tracking
error develops, the Portfolio is rebalanced to bring it in
line with the index.
THE TOTAL BOND
MARKET PORTFOLIO
MAY INVEST IN
MORTGAGE-BACKED
SECURITIES As part of its effort to duplicate the investment
performance of its Index, the Total Bond Market Portfolio
may invest in mortgage-backed securities. Mortgage-backed
securities represent an interest in an underlying pool of
mortgages. Unlike ordinary fixed-income securities, which
generally pay a fixed rate of interest and return
principal upon maturity, mortgage-backed securities repay
both interest income and principal as part of their
periodic payments. Because the mortgages underlying
mortgage-backed certificates can be prepaid at any time by
homeowners or corporate borrowers, mortgage-backed
securities give rise to certain unique "prepayment" risks.
See "Investment Risks."
The Total Bond Market Portfolio may purchase
mortgage-backed securities issued by the Government
National Mortgage Association (GNMA), the Federal Home
Loan Mortgage Corporation (FHLMC), the Federal National
Mortgage Association (FNMA), and the Federal Housing
Authority (FHA). GNMA securities are guaranteed by the
U.S. Government as to the timely payment of principal and
interest; securities from other Government-sponsored
entities are generally not secured by an explicit pledge
of the U.S. Government. The Portfolio may also invest in
conventional mortgage securities, which are packaged by
private corporations and are not guaranteed by the U.S.
Government. Mortgage securities that are guaranteed by the
U.S. Government are guaranteed only as to the timely
payment of principal and interest. The market values of
the securities are not guaranteed and may fluctuate.
15
<PAGE> 18
EACH PORTFOLIO MAY
INVEST IN SHORT-TERM
MONEY MARKET
INSTRUMENTS Although they normally seek to remain substantially fully
invested in securities in the respective indexes, the
Portfolios may invest temporarily in certain short-term
money market instruments. Such securities may be used to
invest uncommitted cash balances or to maintain liquidity
to meet shareholder redemptions. These securities include:
obligations of the United States Government and its
agencies or instrumentalities; commercial paper, bank
certificates of deposit, and bankers' acceptances; and
repurchase agreements collateralized by these securities.
EACH PORTFOLIO MAY
LEND ITS SECURITIES Each Portfolio may lend its investment securities to
qualified institutional investors for either short-term or
long-term purposes of realizing additional income. Loans
of securities by a Portfolio will be collateralized by
cash, letters of credit, or securities issued or
guaranteed by the U.S. Government or its agencies. The
collateral will equal at least 100% of the current market
value of the loaned securities.
PORTFOLIO TURNOVER
IS NOT EXPECTED
TO EXCEED 50% Although it generally seeks to invest for the long term,
each Portfolio retains the right to sell securities
irrespective of how long they have been held. It is
anticipated that the annual portfolio turnover of each
Portfolio will not exceed 50%. A turnover rate of 50%
would occur, for example, if one half of the securities of
a Portfolio were replaced within one year. A portfolio
turnover rate of 100% may be considered high for a bond
index fund and would result in additional expenses.
DERIVATIVE
INVESTING
Derivatives are instruments whose values are linked to or
derived from an underlying security or index. The most
common and conventional types of derivative securities are
futures and options.
EACH PORTFOLIO MAY
INVEST IN DERIVATIVE
SECURITIES
Each Portfolio may invest in futures contracts and
options, but only to a limited extent. Specifically, a
Portfolio of the Fund may enter into futures contracts
provided that not more than 5% of its assets are required
as a futures contract deposit; in addition, a Portfolio
may enter into futures contracts and options transactions
only to the extent that obligations under such contracts
or transactions represent not more than 20% of the
Portfolio's assets.
Futures contracts and options may be used for several
common fund management strategies: to maintain cash
reserves while simulating full investment, to facilitate
trading, to reduce transaction costs, or to seek higher
investment returns when a specific futures contract is
priced more attractively than other futures contracts or
the underlying security or index.
The Portfolios may use futures contracts for bona fide
"hedging" purposes. In executing a hedge, a manager sells,
for example, stock index futures to protect against a
decline in the stock market. As such, if the market drops,
the value of the futures position will rise, thereby
offsetting the decline in value of the Portfolios' stock
holdings.
The Fund may also invest in other conventional derivatives
designed to replicate the risk/return characteristics of a
conventional fixed income note or bond. Such derivatives
would be managed, in both structure and concentration, to
adhere to the Fund's investment policy restrictions as to
market and credit risk.
16
<PAGE> 19
EACH PORTFOLIO MAY
INVEST IN CMOS The Portfolios also invest in a relatively conservative
class of collateralized mortgage obligations (CMOs) which
feature a high degree of cash flow predictability and less
vulnerability to mortgage prepayment risk. To reduce
credit risk, Vanguard purchases these less risky classes
of collateralized mortgage obligations issued only by
agencies of the U.S. Government or privately-issued
collateralized mortgage obligations that carry
high-quality investment-grade ratings.
FUTURES CONTRACTS
AND OPTIONS POSE
CERTAIN RISKS
The primary risks associated with the use of futures
contracts and options are: (i) imperfect correlation
between the change in market value of the bonds held by a
Portfolio and the prices of futures contracts and options;
and (ii) possible lack of a liquid secondary market for a
futures contract and the resulting inability to close a
futures position prior to its maturity date. The risk of
imperfect correlation will be minimized by investing in
those contracts whose price fluctuations are expected to
resemble those of the Portfolio's underlying securities.
The risk that a Portfolio will be unable to close out a
futures position will be minimized by entering into such
transactions on a national exchange with an active and
liquid secondary market.
The risk of loss in trading futures contracts in some
strategies can be substantial, due both to the low margin
deposits required and the extremely high degree of
leverage involved in futures pricing. As a result, a
relatively small price movement in a futures contract may
result in immediate and substantial loss (or gain) to the
investor. When investing in futures contracts, a Portfolio
will segregate cash or other liquid portfolio securities
in the amount of the underlying obligation.
- - --------------------------------------------------------------------------------
INVESTMENT
LIMITATIONS
EACH PORTFOLIO HAS
ADOPTED CERTAIN
FUNDAMENTAL
LIMITATIONS Each Portfolio has adopted certain limitations on its
investment practices. Specifically, a Portfolio will not:
(a) invest more than 5% of its assets in the securities of
any single issuer except obligations of the United
States Government or government agencies;
(b) purchase more than 5% of the voting securities of any
issuer;
(c) borrow money, except that each Portfolio may borrow
from banks (or through reverse repurchase agreements),
for temporary or emergency (not leveraging) purposes,
including the meeting of redemption requests which
might otherwise require the untimely disposition of
securities, in an amount not exceeding 15% of the
value of a Portfolio's net assets (including the
amount borrowed and the value of any outstanding
reverse repurchase agreements) at the time the
borrowing is made. Whenever borrowings exceed 5% of
the value of a Portfolio's net assets, the Portfolio
will not make any additional investments;
(d) pledge, mortgage or hypothecate its assets to an
extent greater than 5% of the value of its total
assets; and
(e) invest more than 25% of its assets in any one
industry.
These investment limitations are considered at the time
investment securities are purchased. The limitations
described here and in the Statement of Additional
Information are fundamental and may be changed only with
the approval of a majority of a Portfolio's shareholders.
- - --------------------------------------------------------------------------------
17
<PAGE> 20
MANAGEMENT
OF THE FUND
VANGUARD ADMINISTERS
AND DISTRIBUTES
THE FUND The Fund is a member of The Vanguard Group of Investment
Companies, a family of more than 30 investment companies
with more than 90 distinct portfolios and total assets in
excess of $250 billion. Through their jointly-owned
subsidiary, The Vanguard Group, Inc. ("Vanguard"), the
Fund and the other funds in the Group obtain at cost
virtually all of their corporate management,
administrative, shareholder accounting and distribution
services. Vanguard also provides investment advisory
services on an at-cost basis to certain Vanguard funds. As
a result of Vanguard's unique corporate structure, the
Vanguard funds have costs substantially lower than those
of most competing mutual funds. In 1996, the average
expense ratio (annual costs including advisory fees
divided by total net assets) for the Vanguard funds
amounted to approximately .29% compared to an average of
1.22% for the mutual fund industry (data provided by
Lipper Analytical Services).
The Officers of the Fund manage its day-to-day operations
and are responsible to the Fund's Board of Directors. The
Directors set broad policies for the Fund and choose its
Officers. A list of the Directors and Officers of the Fund
and a statement of their present positions and principal
occupations during the past five years can be found in the
Statement of Additional Information.
Vanguard employs a supporting staff of management and
administrative personnel needed to provide the requisite
services to the funds and also furnishes the funds with
necessary office space, furnishings and equipment. Each
fund pays its share of Vanguard's net expenses, which are
allocated among the funds under methods approved by the
Board of Directors (Trustees) of each fund. In addition,
each fund bears its own direct expenses, such as legal,
auditing and custodian fees.
Vanguard also provides distribution and marketing services
to the Vanguard funds. The funds are available on a
no-load basis (i.e., there are no sales commissions or
12b-1 fees). However, each fund bears its share of the
Group's distribution costs.
- - --------------------------------------------------------------------------------
INVESTMENT
ADVISER
VANGUARD MANAGES
THE FUND'S
INVESTMENTS Each Portfolio receives all investment advisory services
from Vanguard's Fixed Income Group. The Fixed Income Group
provides investment advisory services to more than 40
Vanguard money market and bond portfolios, both taxable
and tax-exempt. Total assets under management by
Vanguard's Fixed Income Group were approximately $79
billion as of December 31, 1996. The Portfolios are not
actively managed, but are instead administered by the
Fixed Income Group using computerized, quantitative
techniques. The Fixed Income Group is supervised by the
Officers of the Fund. Ian A. MacKinnon, Senior Vice
President of Vanguard, has been in charge of the Group
since its inception in 1981.
Mr. MacKinnon is responsible for setting the broad
investment strategies employed by the Fund, and for
overseeing the portfolio manager who implements those
strategies on a day-to-day basis.
The Fund's portfolio manager is Kenneth E. Volpert, a
Principal of Vanguard, who serves as portfolio manager of
the Vanguard Variable Insurance Fund -- High-Grade Bond
Portfolio and the bond portion of the Vanguard Balanced
Index Fund. Mr. Volpert began managing the Vanguard Bond
Index Fund in December 1992.
18
<PAGE> 21
For six years prior to joining Vanguard, Mr. Volpert was
associated with Mellon Bond Associates.
The Fixed Income Group places all orders for purchases and
sales of portfolio securities. Purchases of portfolio
securities are made either directly from the issuer or
from securities dealers. The Fixed Income Group may sell
portfolio securities prior to their maturity if
circumstances and considerations warrant and if it
believes such dispositions advisable. The Group seeks to
obtain the best available net price and most favorable
execution for all portfolio transactions.
- - --------------------------------------------------------------------------------
PERFORMANCE
RECORD The tables in this section provide investment results for
the Total Bond Market, Short-Term Bond, Intermediate-Term
Bond and Long-Term Bond Portfolios for several periods
throughout the Fund's lifetime. The results shown
represent "total return" investment performance, which
assumes the reinvestment of all capital gains and income
dividends for the indicated periods. Also included is
comparative information with respect to the unmanaged
Aggregate Bond Index described on page 9, and the Consumer
Price Index, a statistical measure of changes in the
prices of goods and services, the Lehman Mutual Fund
Short-Term (1-5) Government/Corporate Bond Index, the
Lehman Mutual Fund Intermediate (5-10)
Government/Corporate Bond Index, and the Lehman Mutual
Fund Long (10+) Government/Corporate Bond Index. The table
does not make any allowance for federal, state or local
income taxes, which shareholders must pay on a current
basis.
The results shown should not be considered a
representation of the total return from an investment made
in the Portfolio today. This information is provided to
help investors better understand the Portfolio and may not
provide a basis for comparison with other investments or
mutual funds.
AVERAGE ANNUAL TOTAL RETURN FOR
VANGUARD BOND INDEX FUND -- TOTAL BOND MARKET PORTFOLIO
<TABLE>
<CAPTION>
FISCAL PERIODS AGGREGATE CONSUMER
ENDED 12/31/96 BOND INDEX PRICE INDEX
--------------- TOTAL BOND ---------- -----------
MARKET PORTFOLIO
----------------
<S> <C> <C> <C>
1 Year 3.58% 3.63% 3.28%
3 Years 6.02 6.02 2.83
5 Years 6.97 7.04 2.84
10 Years 7.98 8.47 3.67
Lifetime* 7.95 8.40 3.69
</TABLE>
* December 11, 1986 to December 31, 1996.
AVERAGE ANNUAL TOTAL RETURN FOR
VANGUARD BOND INDEX FUND -- SHORT-TERM BOND PORTFOLIO
<TABLE>
<CAPTION>
FISCAL PERIODS LEHMAN MUTUAL FUND CONSUMER
ENDED 12/31/96 SHORT (1-5) GOVERNMENT/ PRICE INDEX
--------------- CORPORATE BOND INDEX -----------
SHORT-TERM ------------------------
BOND PORTFOLIO
----------------
<S> <C> <C> <C>
1 Year 4.55% 4.67% 3.28%
Lifetime* 5.88 5.98 2.79
</TABLE>
* March 1, 1994 to December 31, 1996.
19
<PAGE> 22
AVERAGE ANNUAL TOTAL RETURN FOR
VANGUARD BOND INDEX FUND -- INTERMEDIATE-TERM BOND
PORTFOLIO
<TABLE>
<CAPTION>
LEHMAN MUTUAL FUND
INTERMEDIATE (5-10)
FISCAL PERIODS INTERMEDIATE-TERM GOVERNMENT/ CONSUMER
ENDED 12/31/96 BOND PORTFOLIO CORPORATE BOND INDEX PRICE INDEX
-------------- ------------------ -------------------- -------------
<S> <C> <C> <C>
1 Year 2.55% 2.69% 3.28%
Lifetime* 6.82 6.97 2.79
</TABLE>
* March 1, 1994 to December 31, 1996.
AVERAGE ANNUAL TOTAL RETURN FOR
VANGUARD BOND INDEX FUND -- LONG-TERM BOND PORTFOLIO
<TABLE>
<CAPTION>
LEHMAN MUTUAL FUND
FISCAL PERIODS LONG-TERM LONG (10+) GOVERNMENT/ ONSUMER
ENDED 12/31/96 BOND PORTFOLIO CORPORATE BOND INDEX PRICE INDEX
-------------- -------------- ----------------------- ------------
<S> <C> <C> <C>
1 Year - 0.26% 0.14% 3.28%
Lifetime* 7.73 7.91 2.79
</TABLE>
* March 1, 1994 to December 31, 1996.
- - --------------------------------------------------------------------------------
DIVIDENDS,
CAPITAL GAINS
AND TAXES
EACH PORTFOLIO PAYS
MONTHLY DIVIDENDS Dividends consisting of virtually all of the ordinary
income of each Portfolio are declared daily and are
payable to shareholders of record at the time of
declaration. Such dividends are paid on the first business
day of each month. Capital gains distributions, if any,
are made annually.
Each Portfolio's dividend and capital gains distributions
may be reinvested in additional shares or received in
cash. See "Choosing a Distribution Option" for a
description of these distribution methods. Shareholders
who choose to reinvest their dividend distributions will
receive a quarterly (not monthly) confirmation statement.
Each Portfolio automatically deducts a $10 annual account
maintenance fee from the dividend income of each account
on a quarterly basis (at a rate of $2.50 per quarter). If
the monthly dividend for the account is less than the fee
to be deducted, the Portfolio will redeem sufficient
shares to make up the difference. The Board of Directors
reserves the right to change the annual account
maintenance fee to reflect the actual cost of maintaining
smaller shareholder accounts. For federal tax purposes,
the account maintenance fee does not reduce dividend
income and is treated as an investment expense (deductible
as a miscellaneous itemized deduction in the case of
individual investors). This fee will be waived for
shareholders with an account balance of $10,000 or more.
Pursuant to the Internal Revenue Code, certain dividend
and capital gains distributions declared by each Portfolio
during December, if received by share-
holders by January 31, are deemed to have been paid by the
Portfolio and received by shareholders on December 31 of
the prior year.
Each Portfolio intends to continue to qualify for taxation
as a "regulated investment company" under the Internal
Revenue Code so that it will not be subject to federal
income tax to the extent its income is distributed to
shareholders. Dividends paid by
20
<PAGE> 23
the Portfolio from net investment income and net
short-term capital gains, whether received in cash or
reinvested in additional shares, will be taxable to
shareholders as ordinary income. For corporate investors,
dividends paid by the Portfolios from net investment
income will generally not qualify for the intercorporate
dividends-received deduction.
Distributions paid by a Portfolio from long-term capital
gains, whether received in cash or reinvested in
additional shares, are taxable as long-term capital gains,
regardless of the length of time you have owned shares in
the Portfolio. Capital gains distributions are made when
the Portfolio realizes net capital gains on sales of
portfolio securities during the year. Realized capital
gains are not expected to be a significant or predictable
part of investment return of each Portfolio.
The Fund will notify you annually as to the tax status of
dividend and capital gains distributions paid by each
Portfolio.
A CAPITAL GAIN OR LOSS
MAY BE REALIZED
UPON EXCHANGE OR
REDEMPTION A sale of shares of a Portfolio is a taxable event and may
result in a capital gain or loss. A capital gain or loss
may be realized from an ordinary redemption of shares, a
checkwriting redemption, or an exchange of shares between
two mutual funds (or two portfolios of a mutual fund).
Dividend distributions, capital gains distributions, and
capital gains or losses from redemptions and exchanges may
be subject to state and local taxes.
Each Portfolio is required to withhold 31% of taxable
dividends, capital gains distributions, and redemptions
paid to shareholders who have not complied with IRS
taxpayer identification regulations. You may avoid this
withholding requirement by certifying on your Account
Registration Form your proper Social Security or Taxpayer
Identification Number and by certifying that you are not
subject to backup withholding.
The Fund has obtained a Certificate of Authority to do
business as a foreign corporation in Pennsylvania and
does business and maintains an office in that state. In
the opinion of counsel, the shares of the Fund are exempt
from Pennsylvania personal property taxes.
The tax discussion set forth above is included for
general information only. Prospective investors should
consult their own tax advisers concerning the tax
consequences of an investment in the Fund.
- - --------------------------------------------------------------------------------
THE SHARE PRICE
OF EACH PORTFOLIO Each Portfolio's share price or "net asset value" per
share is calculated by dividing the total assets of the
Portfolio, less all liabilities, by the total number of
shares outstanding except for the Total Bond Market
Portfolio whereby net asset value per share is calculated
by dividing total assets attributed to each share class
less liabilities attributed to each share class by the
shares outstanding for each share class. The net asset
value per share is determined as of the close of the New
York Stock Exchange (generally 4:00 p.m. Eastern time) on
each day that the Exchange is open for trading.
21
<PAGE> 24
Portfolio securities that are listed on a securities
exchange are valued at the last quoted sale price on the
day the valuation is made. Price information on listed
securities is taken from the exchange where the security
is primarily traded. Listed securities that are not traded
on the valuation date and for which market quotations are
readily available are valued at the mean between the bid
and asked prices. Unlisted securities for which market
quotations are readily available are valued at the latest
quoted bid price.
Bonds and other fixed-income securities may be valued on
the basis of prices provided by a pricing service when
such prices are believed to reflect the fair market value
of such securities. The prices provided by a pricing
service may be determined without regard to bid or last
sale prices of each security but take into account
institutional-size transactions in similar groups of
securities as well as any developments related to specific
securities. Short-term instruments (those with remaining
maturities of 60 days or less) may be valued at cost, plus
or minus any amortized discount or premium, which
approximates market. Other securities, including
restricted securities for which no quotations are readily
available, are valued at fair value as determined in good
faith by the Board of Directors.
The share price for each Portfolio can be found daily in
the mutual fund listings of most major newspapers under
the heading of Vanguard.
- - --------------------------------------------------------------------------------
GENERAL
INFORMATION The Fund is a Maryland corporation. The Articles of
Incorporation permit the Directors to issue 2,000,000,000
shares of common stock, with a $.001 par value. The Board
of Directors has the power to designate one or more
portfolios and classes of shares of common stock of such
portfolios and to classify or reclassify any unissued
shares with respect to such portfolios and classes.
Currently the Fund is offering shares of four series. The
Total Bond Market Portfolio offers two separate classes of
shares; the Total Bond Market Portfolio, which is open to
investors with a minimum investment of $3,000, and the
Total Bond Market Portfolio Institutional Shares which are
designed for investors who meet certain administrative
criteria and a minimum initial investment of $10 million.
The shares of each portfolio are fully paid and
non-assessable; have no preference as to conversion,
exchange, dividends, retirement or other features; and
have no pre-emptive rights. Such shares have
non-cumulative voting rights, meaning that the holders of
more than 50% of the shares voting for the election of
Directors can elect 100% of the Directors if they so
choose.
Annual meetings of shareholders will not be held except as
required by the Investment Company Act of 1940 and other
applicable law. An annual meeting will be held to vote on
the removal of a Director or Directors of the Fund if
requested in writing by the holders of not less than 10%
of the outstanding shares of the Fund.
All securities and cash for the Total Bond Market
Portfolio are held by Chase Manhattan Bank, New York, NY.
All securities and cash for the Short-Term Bond,
Intermediate-Term Bond and Long-Term Bond Portfolios are
held by State Street Bank and Trust Company, Boston, MA.
CoreStates Bank, N.A. Philadelphia, PA, holds daily cash
22
<PAGE> 25
balances that are used by the Fund's Portfolios to invest
in repurchase agreements or securities acquired in these
transactions. The Vanguard Group, Inc., Valley Forge, PA,
serves as the Fund's Transfer and Dividend Disbursing
Agent. Price Waterhouse LLP, serves as independent
accountants for the Fund and will audit its financial
statements annually. The Fund is not involved in any
litigation.
- - --------------------------------------------------------------------------------
23
<PAGE> 26
SHAREHOLDER GUIDE
OPENING AN
ACCOUNT AND
PURCHASING
SHARES You may open a regular (non-retirement) account, either by
mail or wire. Simply complete and return an Account
Registration Form and any required legal documentation,
indicating the Portfolio you have chosen and amount you
wish to invest. Your purchase must be equal to or greater
than the $3,000 minimum initial investment requirement in
any Portfolio ($1,000 for Uniform Gifts/Transfers to
Minors Act accounts). You must open a new Individual
Retirement Account by mail (IRAs may not be opened by
wire) using a Vanguard IRA Adoption Agreement. Your
purchase must be equal to or greater than the $1,000
minimum initial investment requirement, but no more than
$2,000 if you are making a regular IRA contribution.
Rollover contributions are generally limited to the amount
withdrawn within the past 60 days from an IRA or other
qualified retirement plan. If you need assistance with the
Account Registration Form or have any questions about the
Fund, please call our Investor Information Department
(1-800-662-7447). NOTE: For other types of account
registrations (e.g., corporations, associations, other
organizations, trusts or powers of attorney), please call
us to determine which additional forms you may need.
Each Portfolio's shares are purchased at the
next-determined net asset value after your investment has
been received. See "When Your Account Will Be Credited".
The Fund is offered on a no-load basis (i.e., there are no
sales commissions or 12b-1 fees).
PURCHASE
RESTRICTIONS 1) Because of the risks associated with bond investments,
each Portfolio is intended to be a long-term investment
vehicle and is not designed to provide investors with a
means of speculating on short-term bond market
movements. Excessive trading results in higher
transaction costs paid for by the remaining
shareholders. Consequently, the Fund reserves the right
to assess a transaction fee (payable to the Portfolio)
or to reject any specific purchase (and exchange
purchase) request. Shareholders subject to any
transaction fee will be notified by the Fund. The Fund
also reserves the right to suspend the offering of
shares for a period of time.
2) Vanguard will not accept third-party checks to purchase
shares of the Fund. Please be sure your purchase check
is made payable to the Vanguard Group.
ADDITIONAL
INVESTMENTS Subsequent investments may be made by mail ($100 minimum
per Portfolio), wire ($1,000 minimum), exchange from
another Vanguard Fund account ($100 minimum per
Portfolio), or Vanguard Fund Express. Subsequent
investments to Individual Retirement Accounts may be made
by mail ($100 minimum) or exchange from another Vanguard
Fund account. In some instances, contributions may be made
by wire or Vanguard Fund Express. Please call us for more
information on these options.
- - --------------------------------------------------------------------------------
24
<PAGE> 27
<TABLE>
<S> <C> <C>
ADDITIONAL INVESTMENTS
NEW ACCOUNT TO EXISTING ACCOUNTS
PURCHASING BY MAIL Please include the amount of Additional investments should
your initial investment and the include the Invest-by-Mail
Complete and sign the name of the Portfolios you have remittance form attached to your
enclosed Account selected on the registration Fund confirmation statements.
Registration Form form, make your check payable to Please make your check payable
The Vanguard Group (Portfolio to The Vanguard Group (Portfolio
Number), see below for the Number), write your account
appropriate number and mail to: number on your check, and using
the return envelope provided,
VANGUARD FINANCIAL CENTER mail to the address indicated on
P.O. BOX 2600 the Invest-by-Mail Form. See
VALLEY FORGE, PA 19482-2600 below for the appropriate
Portfolio number.
For express or VANGUARD FINANCIAL CENTER All written requests should be
registered mail, 455 DEVON PARK DRIVE mailed to one of the addresses
send to: WAYNE, PA 19087-1815 indicated for new accounts. Do
not send registered or express
mail to the post office box
address.
VANGUARD BOND INDEX FUND
Total Bond Market Portfolio -- 84
Short-Term Bond Portfolio -- 132
Intermediate-Term Bond Portfolio -- 314
Long-Term Bond Portfolio -- 522
------------------------------------------------------------------------
PURCHASING BY WIRE CORESTATES BANK, N.A.
ABA 031000011
Money should be CORESTATES ACCT NO 0101 9897
wired to: ATTN VANGUARD
VANGUARD BOND INDEX FUND
BEFORE WIRING NAME OF PORTFOLIO
ACCOUNT NUMBER
Please contact ACCOUNT REGISTRATION
Client Services
(1-800-662-2739)
</TABLE>
To assure proper receipt, please be sure your bank
includes the name of the Portfolio, the account number
Vanguard has assigned to you and the eight-digit
CoreStates number. If you are opening a new account,
please complete the Account Registration Form and mail it
to the "New Account" address above after completing your
wire arrangement. NOTE: Federal Funds wire purchase orders
will be accepted only when the Fund and Custodian Bank are
open for business.
- - --------------------------------------------------------------------------------
PURCHASING BY
EXCHANGE (from a
Vanguard account) You may open an account or purchase additional shares by
making an exchange from an existing Vanguard Fund account.
However, the Fund reserves the right to refuse any
exchange purchase request. Call our Client Services
Department
25
<PAGE> 28
(1-800-662-2739) for assistance. The new account will have
the same registration as the existing account.
- - --------------------------------------------------------------------------------
PURCHASING BY
FUND EXPRESS
Special Purchase and
Automatic Investment The Fund Express Special Purchase option lets you move
money from your bank account to your Vanguard account on
an "as needed" basis. Or if you choose the Automatic
Investment option, money will be moved automatically from
your bank account to your Vanguard account on the schedule
(monthly, bimonthly [every other month], quarterly,
semiannually, or annually) you select. To establish these
Fund Express options, please provide the appropriate
information on the Account Registration Form. We will send
you a confirmation of your Fund Express enrollment; please
wait two weeks before using the service.
- - --------------------------------------------------------------------------------
CHOOSING A
DISTRIBUTION
OPTION You must select one of three distribution options:
1. AUTOMATIC REINVESTMENT OPTION -- Both dividends and
capital gains distributions will be reinvested in
additional Fund shares. This option will be selected
for you automatically unless you specify one of the
other options.
2. CASH DIVIDEND OPTION -- Your dividends will be paid in
cash and your capital gains will be reinvested in
additional Fund shares.
3. ALL CASH OPTION -- Both dividend and capital gains
distributions will be paid in cash.
You may change your option by calling our Client Services
Department (1-800-662-2739).
In addition, an option to invest your cash dividends
and/or capital gains distributions in another Vanguard
Fund account is available. Please call our Client Services
Department (1-800-662-2739) for information. You may also
elect Vanguard Dividend Express which allows you to
transfer your cash dividends and/or capital gains
distributions automatically to your bank account. Please
see "Other Vanguard Services" for more information.
- - --------------------------------------------------------------------------------
TAX CAUTION
INVESTORS SHOULD ASK
ABOUT THE TIMING OF
CAPITAL GAINS AND
DIVIDEND DISTRIBUTIONS
BEFORE INVESTING Under Federal tax laws, the Fund is required to distribute
net capital gains and dividend income to Fund
shareholders. These distributions are made to all
shareholders who own Fund shares as of the distribution's
record date, regardless of how long the shares have been
owned. Purchasing shares just prior to the record date
could have a significant impact on your tax liability for
the year. For example, if you purchase shares immediately
prior to the record date of a sizable capital gain
distribution, you will be assessed taxes on the amount of
the capital gain distribution later paid even though you
owned the Fund shares for just a short period of time.
(Taxes are due on the distributions even if the dividend
or gain is reinvested in additional Fund shares.) While
the total value of your investment will be the same after
the capital gain distribution -- the amount of the capital
gain distribution will offset the drop in the net asset
value of the shares -- you should be aware of the tax
implications the timing of your purchase may have.
26
<PAGE> 29
Prospective investors should, therefore, inquire about
potential distributions before investing. The Fund's
annual capital gains distributions normally occur in
December, while income dividends are generally paid on the
first day of each month. For additional information on
distributions and taxes, see the section titled
"Dividends, Capital Gains, and Taxes."
- - --------------------------------------------------------------------------------
IMPORTANT
INFORMATION
ESTABLISHING OPTIONAL
SERVICES The easiest way to establish optional Vanguard services on
your account is to select the options you desire when you
complete your Account Registration Form. IF YOU WISH TO
ADD OPTIONS LATER, YOU MAY NEED TO PROVIDE VANGUARD WITH
ADDITIONAL INFORMATION AND A SIGNATURE GUARANTEE. PLEASE
CALL OUR CLIENT SERVICES DEPARTMENT (1-800-662-2739) FOR
FURTHER ASSISTANCE.
SIGNATURE
GUARANTEES For our mutual protection, we may require a signature
guarantee on certain written transaction requests. A
signature guarantee verifies the authenticity of your
signature and may be obtained from banks, brokers and any
other guarantor that Vanguard deems acceptable. A
SIGNATURE GUARANTEE CANNOT BE PROVIDED BY A NOTARY PUBLIC.
CERTIFICATES Share certificates will be issued upon request. If a
certificate is lost, you may incur an expense to replace
it.
BROKER-DEALER
PURCHASES If you purchase shares in Vanguard Funds through a
registered broker-dealer or investment adviser, the
broker-dealer or adviser may charge a service fee.
CANCELLING TRADES The Fund will not cancel any trade (e.g., a purchase,
exchange or redemption) believed to be authentic, received
in writing or by telephone, once the trade request has
been received.
ELECTRONIC
PROSPECTUS
DELIVERY You may receive a prospectus for the Fund or any of the
Vanguard Funds in an electronic format. Please call
1-800-231-7870 for additional information or see "Other
Vanguard Services -- Computer Access". You may also
receive a paper copy of the prospectus, by calling
1-800-662-7447.
- - --------------------------------------------------------------------------------
WHEN YOUR
ACCOUNT WILL
BE CREDITED The trade date is the date on which your account is
credited. If your purchase is made by check, Federal Funds
wire, or exchange, and is received by the close of regular
trading on the New York Stock Exchange, (generally 4:00
p.m. Eastern time), your trade date is the day of receipt.
If your purchase is received after the close of the
Exchange, your trade date is the next business day. Your
shares are purchased at the net asset value determined on
your trade date. You will begin to earn dividends on the
calendar day following the trade date. (For a Friday trade
date, you will begin earning dividends on Saturday).
In order to prevent lengthy processing delays caused by
the clearing of foreign checks, Vanguard will only accept
a foreign check which has been drawn in U.S. dollars and
has been issued by a foreign bank with a U.S.
correspondent bank. The name of the U.S. correspondent
bank must be printed on the face of the foreign check.
- - --------------------------------------------------------------------------------
27
<PAGE> 30
SELLING YOUR
SHARES You may withdraw any portion of the funds in your account
by redeeming shares at any time. (Please see "Important
Redemption Information.") You generally may initiate a
request by writing or by telephoning. Your redemption
proceeds are normally mailed, credited or
wired -- depending upon the method of withdrawal you have
PREVIOUSLY chosen -- within two business days after the
receipt of the request in Good Order.
- - --------------------------------------------------------------------------------
SELLING BY WRITING
A CHECK You may withdraw funds from your account by writing a
check payable in the amount of $250 or more. When a check
is presented for payment to the Fund's agent, CoreStates
Bank, the Fund will redeem sufficient shares in your
account at the next-determined net asset value to cover
the amount of the check. You cannot write a Vanguard check
to redeem shares that you purchased by check within the
previous ten days.
In order to establish the checkwriting option on your
account, all registered shareholders must sign a signature
card. After your completed signature card is received by
the Fund, an initial supply of checks will be mailed
within 10 business days. There is no charge for checks or
for their clearance. CORPORATIONS, TRUSTS, POWERS OF
ATTORNEY AND OTHER ORGANIZATIONS SHOULD CALL OR WRITE OUR
CLIENT SERVICES DEPARTMENT (1-800-662-2739) BEFORE
SUBMITTING SIGNATURE CARDS, AS ADDITIONAL DOCUMENTS MAY BE
REQUIRED TO ESTABLISH THE CHECKWRITING SERVICE.
Before establishing the checkwriting option, you should be
aware that:
1. Writing a check (a redemption of shares) is a taxable
event.
2. The Fund does not allow an account to be closed through
the checkwriting option.
3. Vanguard cannot guarantee a stop payment on any check.
If you wish to reverse a stop payment order, you must
do so in writing.
4. Shares held in certificate form cannot be redeemed
using the checkwriting option.
5. The Fund reserves the right to terminate or alter this
service at any time.
- - --------------------------------------------------------------------------------
SELLING BY MAIL Requests should be mailed to VANGUARD FINANCIAL CENTER,
VANGUARD BOND INDEX FUND, P.O. BOX 1120, VALLEY FORGE, PA
19482. (For express or registered mail, send your request
to Vanguard Financial Center, Vanguard Bond Index Fund,
455 Devon Park Drive, Wayne, PA 19087.)
The redemption price of shares will be the Portfolio's net
asset value next determined after Vanguard has received
all required documents in Good Order.
- - --------------------------------------------------------------------------------
DEFINITION OF
GOOD ORDER GOOD ORDER means that the request includes the following:
1. The account number and Portfolio name.
2. The amount of the transaction (specified in dollars or
shares).
3. The signatures of all owners EXACTLY as they are
registered on the account.
4. Any required signature guarantees.
5. Other supporting legal documentation that might be
required in the case of estates, corporations, trusts,
and certain other accounts.
6. Any certificates you are holding for the account.
28
<PAGE> 31
IF YOU HAVE QUESTIONS ABOUT THIS DEFINITION AS IT PERTAINS
TO YOUR REQUEST, PLEASE CALL CLIENT SERVICES
(1-800-662-2739).
- - --------------------------------------------------------------------------------
SELLING BY TELEPHONE To sell shares by telephone, you or your pre-authorized
representative may call our Client Services Department at
1-800-662-2739. For telephone redemptions, you may have
the proceeds sent to you either by mail or by wire. In
addition to the details below, please see "Important
Information About Telephone Transactions."
BY MAIL: Telephone mail redemption is automatically
established on your account unless you indicate otherwise
on your Account Registration Form. You may redeem any
amount by calling Vanguard. The proceeds will be paid to
the registered shareholders and mailed to the address of
record. PLEASE NOTE: As a protection against fraud, your
telephone mail redemption privilege will be suspended for
15 calendar days following any expedited address change to
your account. An expedited address change is one that is
made by telephone, by Vanguard Online, or, in writing,
without the signatures of all account owners.
BY WIRE: Telephone wire redemption must be specifically
elected for your account. The best time to elect telephone
wire redemption is at the time you complete your Account
Registration Form. If you do not presently have telephone
wire redemption and wish to establish it, please contact
Client Services.
With the wire redemption option, you may withdraw a
minimum of $1,000 and have the amount wired directly to
your bank account. Wire redemptions less than $5,000 are
subject to a $5 charge deducted by Vanguard. There is no
Vanguard charge for wire redemptions of $5,000 or more.
However, your bank may assess a separate fee to accept
incoming wires.
A request to change the bank associated with your wire
redemption option must be received in writing, signed by
each registered shareholder, and accompanied by a voided
check or preprinted deposit slip. A signature guarantee is
required if your bank registration is not identical to
your Vanguard Fund account registration.
- - --------------------------------------------------------------------------------
SELLING BY FUND
EXPRESS
Automatic Withdrawal
& Special Redemption If you select the Fund Express Automatic Withdrawal
option, money will be automatically moved from your
Vanguard Fund account to your bank account according to
the schedule you have selected. The Special Redemption
option lets you move money from your Vanguard account to
your bank account on an "as needed" basis. To establish
these Fund Express options, please provide the appropriate
information on the Account Registration Form. We will send
you a confirmation of your Fund Express service; please
wait two weeks before using the service.
- - --------------------------------------------------------------------------------
SELLING BY EXCHANGE You may sell shares of the Portfolio by making an exchange
into another Vanguard Fund account. Please see "Exchanging
Your Shares" for details.
- - --------------------------------------------------------------------------------
IMPORTANT REDEMPTION
INFORMATION Shares purchased by check or Fund Express may be redeemed
at any time. However, your redemption proceeds will not be
paid until payment for the purchase is collected, which
may take up to ten calendar days.
- - --------------------------------------------------------------------------------
29
<PAGE> 32
DELIVERY OF
REDEMPTION
PROCEEDS Redemption requests received by telephone prior to the
close of the New York Stock Exchange (generally 4:00 p.m.
Eastern time), are processed on the day of receipt and the
redemption proceeds are normally sent on the following
business day.
Redemption requests received by telephone after the close
of the Exchange are processed on the business day
following receipt and the proceeds are normally sent on
the second business day following receipt.
Redemption proceeds must be sent to you within seven days
of receipt of your request in Good Order except as
described above in "Important Redemption Information."
If you experience difficulty in making a telephone
redemption during periods of drastic economic or market
changes, your redemption request may be made by regular or
express mail. It will be implemented at the net asset
value next determined after your request has been received
by Vanguard in Good Order. The Fund reserves the right to
revise or terminate the telephone redemption privilege at
any time.
The Fund may suspend the redemption right or postpone
payment at times when the New York Stock Exchange is
closed or under any emergency circumstances as determined
by the United States Securities and Exchange Commission.
If the Board of Directors determines that it would be
detrimental to the best interests of the Fund's remaining
shareholders to make payment in cash, the Fund may pay
redemption proceeds in whole or in part by a distribution
in kind of readily marketable securities.
- - --------------------------------------------------------------------------------
VANGUARD'S AVERAGE
COST STATEMENT If you make a redemption from a qualifying account,
Vanguard will send you an Average Cost Statement which
provides you with the tax basis of the shares you
redeemed. Please see "Statements and Reports" for
additional information.
- - --------------------------------------------------------------------------------
LOW BALANCE FEE
AND MINIMUM
ACCOUNT BALANCE
REQUIREMENT Due to the relatively high cost of maintaining smaller
accounts, the Fund will automatically deduct a $10 annual
fee from non-retirement accounts with balances falling
below $2,500 ($500 for Uniform Gifts/Transfers to Minors
Act accounts). The fee generally will be waived for
investors whose aggregate Vanguard assets exceed $50,000.
In addition, the Fund reserves the right to liquidate any
non-retirement account that is below the minimum initial
investment amount of $3,000. If at any time the total
investment does not have a value of at least $3,000, you
may be notified that your account is below the Fund's
minimum account balance requirement. You would then be
allowed 60 days to make an additional investment before
the account is liquidated. Proceeds would be promptly paid
to the registered shareholder.
Vanguard will not liquidate your account if it has fallen
below $3,000 solely as a result of declining markets
(i.e., a decline in a Portfolio's net asset value).
- - --------------------------------------------------------------------------------
30
<PAGE> 33
EXCHANGING YOUR
SHARES Should your investment goals change, you may exchange your
shares of Vanguard Bond Index Fund for those of other
available Vanguard Funds.
EXCHANGING BY
TELEPHONE
Call Client Services
(1-800-662-2739) When exchanging shares by telephone, please have ready the
Fund name, account number, Social Security Number or
Employer Identification number listed on the account, the
exact name and address in which the account is registered.
Only the registered shareholder may complete such an
exchange. Requests for telephone exchanges received prior
to the close of trading on the New York Stock Exchange
(generally 4:00 p.m. Eastern time) are processed at the
close of business that same day. Requests received after
the close of the Exchange are processed the next business
day. TELEPHONE EXCHANGES ARE NOT ACCEPTED INTO OR FROM
NON-RETIREMENT INVESTMENTS, VANGUARD BALANCED INDEX FUND,
VANGUARD INDEX TRUST, VANGUARD INTERNATIONAL EQUITY INDEX
FUND, VANGUARD REIT INDEX PORTFOLIO AND VANGUARD
QUANTITATIVE PORTFOLIOS. If you experience difficulty in
making a telephone exchange, your exchange request may be
made by regular or express mail, and it will be
implemented at the closing net asset value on the date
received by Vanguard provided the request is received in
Good Order.
- - --------------------------------------------------------------------------------
EXCHANGING BY MAIL Please be sure to include on your exchange request the
name and account number of your current Portfolio, the
name of the Fund you wish to exchange into, the amount you
wish to exchange, and the signatures of all registered
account holders. Send your request to VANGUARD FINANCIAL
CENTER, VANGUARD BOND INDEX FUND, P.O. BOX 1120, VALLEY
FORGE, PA 19482. (For express or registered mail, send
your request to Vanguard Financial Center, Vanguard Bond
Index Fund, 455 Devon Park Drive, Wayne, PA 19087.)
- - --------------------------------------------------------------------------------
IMPORTANT EXCHANGE
INFORMATION Before you make an exchange, you should consider the
following:
- Please read the Fund's prospectus before making an
exchange. For a copy and for answers to any questions
you may have, call our Investor Information Department
(1-800-662-7447).
- An exchange is treated as a redemption and a purchase.
Therefore, you could realize a taxable gain or loss on
the transaction.
- Exchanges are accepted only if the registrations and the
taxpayer identification numbers of the two accounts are
identical.
- New accounts are not currently accepted in
Vanguard/Windsor Fund.
- The redemption price of shares redeemed by exchange is
the net asset value next determined after Vanguard has
received all required documentation in Good Order.
- When opening a new account by exchange, you must meet
the minimum investment requirement of the new Fund.
Every effort will be made to maintain the exchange
privilege. However, the Fund reserves the right to revise
or terminate its provisions, limit the amount of or reject
any exchange, as deemed necessary, at any time.
- - --------------------------------------------------------------------------------
31
<PAGE> 34
EXCHANGE
PRIVILEGE
LIMITATIONS The Fund's exchange privilege is not intended to afford
shareholders a way to speculate on short-term movements in
the market. Accordingly, in order to prevent excessive use
of the exchange privilege that may potentially disrupt the
management of the Fund and increase transaction costs, the
Fund has established a policy of limiting excessive
exchange activity.
Exchange activity generally will not be deemed excessive
if limited to TWO SUBSTANTIVE EXCHANGE REDEMPTIONS (AT
LEAST 30 DAYS APART) from a Portfolio of the Fund during
any twelve-month period. Notwithstanding these
limitations, the Fund reserves the right to reject any
purchase request (including exchange purchases from other
Vanguard portfolios) that is reasonably deemed to be
disruptive to efficient portfolio management.
- - --------------------------------------------------------------------------------
IMPORTANT
INFORMATION
ABOUT TELEPHONE
TRANSACTIONS The ability to initiate redemptions (except wire
redemptions) and exchanges by telephone is automatically
established on your account unless you request in writing
that telephone transactions on your account not be
permitted. The ability to initiate wire redemptions by
telephone will be established on your account only if you
specifically elect this option in writing.
To protect your account from losses resulting from
unauthorized or fraudulent telephone instructions,
Vanguard adheres to the following security procedures:
1. SECURITY CHECK. To request a transaction by telephone,
the caller must know (i) the name of the Portfolio;
(ii) the 10-digit account number; (iii) the exact name
and address used in the registration; and (iv) the
Social Security or employer identification number
listed on the account.
2. PAYMENT POLICY. The proceeds of any telephone
redemption by mail will be made payable to the
registered shareowner and mailed to the address of
record, only. In the case of a telephone redemption by
wire, the wire transfer will be made only in accordance
with the shareowner's prior written instructions.
Neither the Fund nor Vanguard will be responsible for the
authenticity of transaction instructions received by
telephone, provided that reasonable security procedures
have been followed. Vanguard believes that the security
procedures described above are reasonable, and that if
such procedures are followed, you will bear the risk of
any losses resulting from unauthorized or fraudulent
telephone transactions on your account.
- - --------------------------------------------------------------------------------
32
<PAGE> 35
TRANSFERRING
REGISTRATION You may transfer the registration of any of your Fund
shares to another person by completing a transfer form and
sending it to: VANGUARD FINANCIAL CENTER, P.O. BOX 1110,
VALLEY FORGE, PA 19482, ATTENTION: TRANSFER DEPARTMENT.
The request must be in Good Order. To obtain a transfer
form, please call our Client Services Department
(1-800-662-2739).
- - --------------------------------------------------------------------------------
STATEMENTS AND
REPORTS Vanguard will send you a confirmation statement each time
you initiate a transaction in your account. You will also
receive a comprehensive account statement at the end of
each calendar quarter. The fourth-quarter statement will
be a year-end statement, listing all transaction activity
for the entire calendar year.
Vanguard's Average Cost Statement provides you with the
average cost of shares redeemed from your account during
the calendar year, using the average cost single category
method. This service is available for most taxable
accounts opened since January 1, 1986. In general,
investors who redeemed shares from a qualifying Vanguard
account may expect to receive their Average Cost Statement
with their Portfolio Summary Statement. Please call our
Client Services Department (1-800-662-2739) for
information.
Financial reports on the Fund will be mailed to you
semiannually, according to the Fund's fiscal year-end.
- - --------------------------------------------------------------------------------
OTHER VANGUARD
SERVICES For more information about any of these services, please
call our Investor Information Department at
1-800-662-7447.
VANGUARD DIRECT
DEPOSIT SERVICE With Vanguard's Direct Deposit Service, most U.S.
Government checks (including Social Security and military
pension checks) and private payroll checks may be
automatically deposited into your Vanguard Fund account.
Separate brochures and forms are available for direct
deposit of U.S. Government and private payroll checks.
VANGUARD AUTOMATIC
EXCHANGE SERVICE Vanguard's Automatic Exchange Service allows you to move
money automatically among your Vanguard Fund accounts. For
instance, the service can be used to "dollar cost average"
from a money market portfolio into a stock or bond fund or
to contribute to an IRA or other retirement plan. Please
contact our Client Services Department at 1-800-662-2739
for additional information.
VANGUARD FUND
EXPRESS Vanguard's Fund Express allows you to transfer money
between your Fund account and your account at a bank,
savings and loan association, or a credit union that is a
member of the Automated Clearing House (ACH) system. You
may elect this service on the Account Registration Form or
call our Investor Information Department (1-800-662-7447)
for a Fund Express application.
Special rules govern how your Fund Express purchases or
redemptions are credited to your account. In addition,
some services of Fund Express cannot be used with specific
Vanguard Funds. For more information, please refer to the
Vanguard Fund Express brochure.
33
<PAGE> 36
VANGUARD DIVIDEND
EXPRESS Vanguard's Dividend Express allows you to transfer your
dividends and/or capital gains distributions automatically
from your Fund account, one business day after the Fund's
payable date, to your account at a bank, savings and loan
association, or a credit union that is a member of the
Automated Clearing House (ACH) system. You may elect this
service on the Account Registration Form or call our
Investor Information Department (1-800-662-7447) for a
Vanguard Dividend Express application.
VANGUARD
TELE-ACCOUNT Vanguard Tele-Account is a convenient, automated service
that provides share price, price change and yield
quotations on Vanguard Funds through any TouchToneTM
telephone. This service also lets you obtain information
about your account balance, your last transaction, and
your most recent dividend or capital gains payment. In
addition, you may perform investment exchanges of Vanguard
Fund shares and redemptions by check using Tele-Account.
To contact Vanguard's Tele-Account service, dial
1-800-ON-BOARD (1-800-662-6273). A brochure offering
detailed operating instructions is available from our
Investor Information Department (1-800-662-7447).
COMPUTER ACCESS
VANGUARD ONLINE
KEYWORD: vanguard Vanguard Online allows you to obtain information via your
personal computer on Fund share price, yield, and total
return. Vanguard Online is offered through America Online
(AOL). To establish an AOL account, call 1-800-238-6336.
VANGUARD ON THE
WORLD WIDE WEB
http://www.vanguard.com
Vanguard sponsors an education-oriented website offering
news and information about Vanguard Funds and services, as
well as interactive, easy-to-use investment planning
tools.
- - --------------------------------------------------------------------------------
34
<PAGE> 37
[THIS PAGE INTENTIONALLY LEFT BLANK]
<PAGE> 38
- - --------------------------------------------------------------------------------
<TABLE>
<S> <C> <C>
P084 [VANGUARD FLAG LOGO]
[VANGUARD BON INDEX FUND LOGO] [VANGUARD BOND INDEX FUND LOGO]
------------------------------ P R O S P E C T U S
THE VANGUARD GROUP MARCH 28, 1997
Vanguard Financial Center
P.O. Box 2600 [VANGUARD GROUP LOGO]
Valley Forge, PA 19482
INVESTOR INFORMATION
DEPARTMENT:
1-800-662-7447 (SHIP)
CLIENT SERVICES
DEPARTMENT:
1-800-662-2739 (CREW)
TELE-ACCOUNT FOR
24-HOUR ACCESS:
1-800-662-6273 (ON-BOARD)
TELECOMMUNICATION SERVICE
FOR THE HEARING-IMPAIRED:
1-800-662-2738
TRANSFER AGENT:
The Vanguard Group, Inc.
Vanguard Financial Center
Valley Forge, PA 19482
</TABLE>
- - --------------------------------------------------------------------------------
<PAGE> 39
- - --------------------------------------------------------------------------------
================================================================================
LOGO A Member of The Vanguard Group
- - --------------------------------------------------------------------------------
- - --------------------------------------------------------------------------------
PROSPECTUS -- MARCH 28, 1997
- - --------------------------------------------------------------------------------
FUND INFORMATION: PARTICIPANT SERVICES -- 1-800-523-1188
- - --------------------------------------------------------------------------------
INVESTMENT
OBJECTIVE
AND POLICIES Vanguard Bond Index Fund, Inc. (the "Fund"), is an open-end,
diversified investment company designed as an "index fund."
The Fund consists of four distinct portfolios, each of which
invests in fixed-income securities with prescribed maturity
and credit quality standards. The objective of each
Portfolio is to duplicate the total return (income plus
capital change) of publicly-traded investment grade
fixed-income securities in the aggregate by attempting to
duplicate the investment performance of certain investment
grade bond indexes. The Fund invests in a diversified
portfolio of U.S. Government and corporate bonds and
mortgage-backed securities. There is no assurance that a
Portfolio will achieve its stated objective. Shares of the
Fund are neither insured nor guaranteed by any agency of the
U.S. Government, including the FDIC.
- - --------------------------------------------------------------------------------
IMPORTANT NOTE This Prospectus is intended exclusively for participants in
employer-sponsored retirement or savings plans, such as
tax-qualified pension and profit-sharing plans and 401(k)
thrift plans, as well as 403(b) custodial accounts for
non-profit educational and charitable organizations. Another
version of this Prospectus, containing information on how to
open a personal investment account with the Fund, is
available for individual investors. To obtain a copy of that
version of the Prospectus, please call 1-800-662-7447. For
investors investing $10 million or more in the Total Bond
Market Portfolio and who meet certain administrative
criteria, the Fund offers a second class of shares, Total
Bond Market Portfolio Institutional Shares, which are
offered through a separate prospectus. To obtain information
on the Total Bond Market Portfolio Institutional Shares,
please call 1-800-523-8066.
- - --------------------------------------------------------------------------------
OPENING AN
ACCOUNT The Fund is an investment option under a retirement or
savings program sponsored by your employer. The
administrator of your retirement plan or your employee
benefits office can provide you with detailed information on
how to participate in your plan and how to elect the Fund as
an investment option.
If you have any questions about the Fund, please contact
Participant Services at 1-800-523-1188. If you have any
questions about your plan account, contact your plan
administrator or the organization that provides
recordkeeping services for your plan.
- - --------------------------------------------------------------------------------
ABOUT THIS
PROSPECTUS This Prospectus is designed to set forth concisely the
information you should know about the Fund before you
invest. It should be retained for future reference. A
"Statement of Additional Information" containing additional
information about the Fund has been filed with the
Securities and Exchange Commission. This Statement is dated
March 28, 1997 and has been incorporated by reference into
this Prospectus. A copy may be obtained without charge by
writing to the Fund or by calling Participant Services at
1-800-523-1188.
- - --------------------------------------------------------------------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page Page Page
<S> <C> <C>
Highlights ........................ 2 Investment Risks ................. 10 Dividends, Capital Gains and
Fund Expenses ..................... 4 Who Should Invest ................ 13 Taxes ......................... 19
Financial Highlights .............. 5 Implementation of The Share Price of Each
Yield and Total Return ............ 7 Policies ....................... 13 Portfolio ..................... 20
Investment Limitations ........... 16 General Information .............. 20
FUND INFORMATION Management of the Fund ........... 17
Investment Objective .............. 8 Investment Adviser ............... 17 SERVICE GUIDE
Investment Policies ............... 8 Performance Record ............... 18 Participating in Your Plan........ 22
</TABLE>
- - --------------------------------------------------------------------------------
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 COMMISSION PASSED UPON THE ACCURACY OR
ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL
OFFENSE.
- - --------------------------------------------------------------------------------
- - --------------------------------------------------------------------------------
<PAGE> 40
HIGHLIGHTS
OBJECTIVE AND
POLICIES The Fund is a no-load, open-end diversified investment
company designed as an "index" fund. The Fund consists of
four distinct Portfolios, each of which invests in
fixed-income securities with prescribed maturity and
credit quality standards in order to match the investment
performance of certain investment grade bond indexes.
There is no assurance that any of the Fund's Portfolios
will achieve its stated objective. PAGE 8
- - --------------------------------------------------------------------------------
FOUR SEPARATE
PORTFOLIOS Investors may choose to invest in any of four Portfolios
of the Fund:
TOTAL BOND MARKET PORTFOLIO -- seeks to match the
investment performance of the Lehman Brothers Aggregate
Bond Index, a broad market-weighted index which
encompasses U.S. Treasury and agency securities,
investment grade corporate bonds, international
(dollar-denominated) investment grade bonds, and mortgage-
backed securities.
SHORT-TERM BOND PORTFOLIO -- seeks to match the investment
performance of the Lehman Brothers Mutual Fund Short (1-5)
Government/Corporate Index, a market-weighted index which
encompasses U.S. Treasury and agency securities and
investment grade corporate and international
(dollar-denominated) bonds, with maturities between 1 and
5 years.
INTERMEDIATE-TERM BOND PORTFOLIO -- seeks to match the
investment performance of the Lehman Brothers Mutual Fund
Intermediate (5-10) Government/Corporate Index, a
market-weighted index which encompasses U.S. Treasury and
agency securities and investment grade corporate and
international (dollar-denominated) bonds, with maturities
between 5 and 10 years.
LONG-TERM BOND PORTFOLIO -- seeks to match the investment
performance of the Lehman Brothers Mutual Fund Long (10+)
Government/Corporate Index, a market-weighted index which
encompasses U.S. Treasury and agency securities and
investment grade corporate and international
(dollar-denominated) bonds, with maturities greater than
10 years. PAGE 8
- - --------------------------------------------------------------------------------
RISK
CHARACTERISTICS Investors in the Fund are exposed to four types of risk
from fixed-income securities. (1) INTEREST RATE RISK is
the potential for fluctuations in bond prices due to
changing interest rates. (2) INCOME RISK is the potential
for a decline in a Portfolio's income due to falling
market interest rates. (3) CREDIT RISK is the possibility
that a bond issuer will fail to make timely payments of
either interest or principal to a Portfolio. (4)
PREPAYMENT RISK (applicable to the Total Bond Market
Portfolio which invests in mortgage-backed securities) or
CALL RISK (for corporate bonds) is the likelihood that,
during periods of falling interest rates, securities with
high stated interest rates will be prepaid (or "called")
prior to maturity, requiring a Portfolio to invest the
proceeds at generally lower interest rates.
2
<PAGE> 41
The following chart summarizes interest rate, income,
credit and prepayment/call risks for the four Portfolios
of the Fund. As shown, interest rate risk should be low
for the Short-Term Bond Portfolio, moderate for the Total
Bond Market and Intermediate-Term Bond Portfolios, and
high for the Long-Term Bond Portfolio. PAGE 10
- - --------------------------------------------------------------------------------
RISK SUMMARY
<TABLE>
<CAPTION>
INTEREST INCOME CREDIT PREPAYMENT/
PORTFOLIO RATE RISK RISK RISK CALL RISK
<S> <C> <C> <C> <C>
--------------------------------------------------------------------------------
Total Bond Market Medium Medium Low Medium
Short-Term Bond Low High Low Low
Intermediate-Term Bond Medium Medium Low Low
Long-Term Bond High Low Low Medium
--------------------------------------------------------------------------------
</TABLE>
- - --------------------------------------------------------------------------------
THE VANGUARD
GROUP The Fund is a member of The Vanguard Group of Investment
Companies, a group of more than 30 investment companies
with more than 90 distinct investment portfolios and total
assets in excess of $250 billion. The Vanguard Group, Inc.
("Vanguard"), a subsidiary jointly owned by the Vanguard
Funds, provides all corporate management, administrative,
distribution, and shareholder accounting services on an
at-cost basis to the Funds in the Group. As a result,
Vanguard's operating expenses are substantially lower than
those of the mutual fund industry. PAGE 17
- - --------------------------------------------------------------------------------
INVESTMENT
ADVISER Vanguard's Fixed Income Group provides investment advisory
services on an at-cost basis to the Fund's four
Portfolios. PAGE 17
- - --------------------------------------------------------------------------------
DIVIDENDS, CAPITAL
GAINS AND TAXES Each Portfolio declares a dividend each business day based
on its ordinary income. Dividends are paid on the first
business day of each month. Net capital gain, if any, will
be distributed annually. Each Portfolio's dividend and
capital gains distributions are automatically reinvested
in additional shares.
If you utilize the Fund's Portfolios as an investment
option in an employer-sponsored retirement savings plan,
dividend and capital gains distributions from the
Portfolios will generally not be subject to current
taxation, but will accumulate on a tax-deferred
basis. PAGE 19
- - --------------------------------------------------------------------------------
SPECIAL
CONSIDERATIONS (1) Each Portfolio may invest a portion of its assets in
bond (interest rate) futures contracts and options.
(2) Each Portfolio may lend its securities. PAGE 15
- - --------------------------------------------------------------------------------
3
<PAGE> 42
FUND EXPENSES The following table illustrates ALL expenses and fees that
a shareholder of the Fund would incur. The expenses and
fees set forth in the table are for the 1996 fiscal year.
<TABLE>
<CAPTION>
TOTAL BOND SHORT-TERM INTERMEDIATE- LONG-TERM
SHAREHOLDER MARKET BOND TERM BOND BOND
TRANSACTION EXPENSES PORTFOLIO PORTFOLIO PORTFOLIO PORTFOLIO
<S> <C> <C> <C> <C>
------------------------------------------------------------------------------------
Sales Load Imposed on
Purchases*.................... None None None None
Sales Load Imposed on
Reinvested Dividends.......... None None None None
Redemption Fees**............... None None None None
Exchange Fees................... None None None None
</TABLE>
<TABLE>
<CAPTION>
TOTAL BOND SHORT-TERM INTERMEDIATE- LONG-TERM
ANNUAL FUND MARKET BOND TERM BOND BOND
OPERATING EXPENSES PORTFOLIO PORTFOLIO PORTFOLIO PORTFOLIO
<S> <C> <C> <C> <C>
------------------------------------------------------------------------------------
Management & Administrative
Expenses...................... 0.14% 0.14% 0.14% 0.08%
Investment Advisory Fees........ 0.01 0.01 0.01 0.01
12b-1 Fees...................... None None None None
Other Expenses
Distribution Costs.......... 0.03 0.03 0.03 0.03
Miscellaneous Expenses...... 0.02 0.02 0.02 0.08
----- ----- ------ -----
Total Other Expenses............ 0.05 0.05 0.05 0.11
------- ------- -------- -------
TOTAL OPERATING
EXPENSES............. 0.20% 0.20% 0.20% 0.20%
======= ======= ======== =======
* The Fund reserves the right to deduct a portfolio transaction fee, ranging from
0.15% to 0.25% and payable directly to the Portfolio, from purchases of a size
that is reasonably deemed to be disruptive to efficient portfolio management. See
text below.
** Wire redemptions of less than $5,000 are subject to a $5 processing fee.
</TABLE>
The purpose of this table is to assist you in
understanding the various costs and expenses that an
investor would bear directly or indirectly as a
shareholder in the Fund.
TRANSACTION FEE The Fund reserves the right to deduct a portfolio
transaction fee from purchases of the shares of each
Portfolio. Fees will not be charged on any investment
where the aggregate balance is expected to be less than
$50 million for the Total Bond Market Portfolio; $15
million for the Short-Term Bond Portfolio; $15 million for
the Intermediate-Term Bond Portfolio; and $2 million for
the Long-Term Bond Portfolio. Fees may be charged on the
entire lump-sum purchase for transactions that exceed or
are expected to exceed over the next twelve months, the
amount indicated for each Portfolio if such purchases are
reasonably deemed to be disruptive to efficient portfolio
management. Lump-sum purchases exceeding the indicated
amount for each Portfolio may be considered disruptive,
for example, if the portfolio manager incurs significant
transaction costs in purchasing portfolio securities
needed to match the investment performance of the
respective benchmark index. If such purchases can be
offset by redemptions of shares by other shareholders,
such fee may be waived or reduced. A prospective investor
may determine whether a fee will be charged by calling
their client representative or plan sponsor in advance of
their purchase. The fee, if imposed, will be 0.18% for the
Total Bond Market Portfolio; 0.23% for the
Intermediate-Term Bond Portfolio; 0.15% for the Short-Term
Bond Portfolio; and 0.20% for the Long-Term Bond
Portfolio. The fees are based on the
4
<PAGE> 43
portfolio manager's estimate of transaction costs, which
depends on the types of securities in which each Portfolio
invests.
The following example illustrates the expenses that you
would incur on a $1,000 investment over various periods,
assuming (1) a 5% annual rate of return and (2) redemption
at the end of each period. As noted in the table above,
the Portfolios charge no redemption fees of any kind.
<TABLE>
<CAPTION>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
------ ------- ------- --------
<S> <C> <C> <C> <C>
Total Bond Market Portfolio............... $2 $ 6 $11 $ 26
Short-Term Bond Portfolio................. $2 $ 6 $11 $ 26
Intermediate-Term Bond Portfolio.......... $2 $ 6 $11 $ 26
Long-Term Bond Portfolio.................. $2 $ 6 $11 $ 26
</TABLE>
THIS EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTATION OF
PAST OR FUTURE EXPENSES OR PERFORMANCE. ACTUAL EXPENSES
MAY BE HIGHER OR LOWER THAN THOSE SHOWN.
- - --------------------------------------------------------------------------------
FINANCIAL
HIGHLIGHTS The following financial highlights information with
respect to the Total Bond Market, Short-Term Bond,
Intermediate-Term Bond and Long-Term Bond Portfolios, for
a share outstanding throughout each period presented, has
been audited by Price Waterhouse LLP, independent
accountants, whose report thereon was unqualified. This
information should be read in conjunction with the Fund's
financial statements and notes thereto, which, together
with the remaining portions of the Fund's 1996 Annual
Report to Shareholders, are incorporated by reference in
the Statement of Additional Information and this
Prospectus, and which appear, along with the report of
Price Waterhouse LLP, in the Fund's 1996 Annual Report to
the Shareholders. For a more complete discussion of the
Fund's performance, please see the Fund's 1996 Annual
Report to Shareholders which may be obtained without
charge by writing to the Fund or calling Participant
Services at 1-800-523-1188.
5
<PAGE> 44
<TABLE>
<CAPTION>
--------------------------------------------------------------------------------
TOTAL BOND MARKET PORTFOLIO
--------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31,
--------------------------------------------------------------------------------
1996 1995 1994 1993 1992 1991 1990 1989 1988 1987
------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF
PERIOD............................. $10.14 $ 9.17 $10.06 $ 9.88 $ 9.99 $ 9.41 $ 9.44 $ 9.05 $ 9.20 $ 9.94
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
INVESTMENT OPERATIONS
Net Investment Income............. .640 .650 .622 .638 .699 .766 .796 .797 .807 .834
Net Realized and Unrealized
Gain (Loss) on Investments...... (.300) .970 (.888) .300 (.018) .605 (.030) .390 (.150) (.740)
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
TOTAL FROM INVESTMENT
OPERATIONS.................. .340 1.620 (.266) .938 .681 1.371 .766 1.187 .657 .094
- - -----------------------------------------------------------------------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment
Income.......................... (.640) (.650) (.622) (.638) (.699) (.766) (.796) (.797) (.807) (.834)
Distributions from Realized
Capital Gains................... -- -- (.002) (.120) (.092) (.025) -- -- -- --
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
TOTAL DISTRIBUTIONS........... (.640) (.650) (.624) (.758) (.791) (.791) (.796) (.797) (.807) (.834)
- - -----------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD...... $ 9.84 $10.14 $ 9.17 $10.06 $ 9.88 $ 9.99 $ 9.41 $ 9.44 $ 9.05 $ 9.20
=============================================================================================================================
TOTAL RETURN (1).................... 3.58% 18.18% (2.66)% 9.68% 7.14% 15.25% 8.65% 13.65% 7.35% 1.14%
=============================================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Period
(Millions)........................ $2,962 $2,405 $1,731 $1,540 $1,066 $849 $277 $139 $58 $43
Ratio of Expenses to Average
Net Assets........................ 0.20% 0.20% 0.18% 0.18% 0.20% 0.16% 0.21% 0.24% 0.30% 0.14%
Ratio of Net Investment Income to
Average Net Assets................ 6.54% 6.66% 6.57% 6.24% 7.06% 7.95% 8.60% 8.49% 8.84% 9.01%
Portfolio Turnover Rate............. 39% 36% 33% 50% 49% 31% 29% 33% 21% 77%
(1) Total return figures do not reflect the annual account maintenance fee of $10 (charged to individual investors).
</TABLE>
<TABLE>
<CAPTION>
-------------------------------------------
SHORT-TERM BOND PORTFOLIO
-------------------------------------------
YEAR ENDED DECEMBER 31,
---------------------- MAR. 1+ TO
1996 1995 DEC. 31, 1994
----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD..................................... $10.07 $ 9.50 $10.00
------ ------ ---------
INVESTMENT OPERATIONS
Net Investment Income.................................................. .587 .623 .463
Net Realized and Unrealized Gain
(Loss) on Investments................................................ (.146) .570 (.500)
------ ------ ---------
TOTAL FROM INVESTMENT OPERATIONS................................... .441 1.193 (.037)
- - -----------------------------------------------------------------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment Income................................... (.587) (.623) (.463)
Distributions from Realized Capital Gains.............................. (.004) -- --
------ ------ ---------
TOTAL DISTRIBUTIONS................................................ (.591) (.623) (.463)
- - -----------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD........................................... $ 9.92 $10.07 $ 9.50
=======================================================================================================================
TOTAL RETURN (1)......................................................... 4.55% 12.88% (0.37)%
=======================================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Period (Millions)..................................... $328 $208 $77
Ratio of Expenses to Average Net Assets.................................. 0.20% 0.20% 0.18%*
Ratio of Net Investment Income to
Average Net Assets..................................................... 5.93% 6.28% 5.77%*
Portfolio Turnover Rate.................................................. 65% 65% 53%
* Annualized.
+ Subscription period for the Portfolio was from January 18, 1994, through February 28, 1994, during which time all
assets were held in money market instruments.
(1) Total return figures do not reflect the annual account maintenance fee of $10.
</TABLE>
- - --------------------------------------------------------------------------------
6
<PAGE> 45
<TABLE>
<CAPTION>
---------------------------------- ----------------------------------
INTERMEDIATE-TERM LONG-TERM
BOND PORTFOLIO BOND PORTFOLIO
---------------------------------- ----------------------------------
YEAR ENDED DECEMBER YEAR ENDED DECEMBER
31, MAR. 1+ TO 31, MAR. 1+ TO
-------------------- DEC. 31, -------------------- DEC. 31,
1996 1995 1994 1996 1995 1994
--------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD...... $10.37 $ 9.18 $10.00 $10.82 $ 8.96 $10.00
------ ------ -------- ------ ------ --------
INVESTMENT OPERATIONS
Net Investment Income................... .648 .661 .533 .674 .692 .586
Net Realized and Unrealized
Gain (Loss) on Investments............ (.406) 1.217 (.820) (.731) 1.884 (1.040)
------ ------ -------- ------ ------ --------
TOTAL FROM INVESTMENT
OPERATIONS........................ .242 1.878 (.287) (.057) 2.576 (.454)
- - ----------------------------------------------------------------------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment Income.... (.648) (.661) (.533) (.674) (.692) (.586)
Distributions from Realized
Capital Gains......................... (.004) (.027) -- (.009) (.024) --
------ ------ -------- ------ ------ --------
TOTAL DISTRIBUTIONS................. (.652) (.688) (.533) (.683) (.716) (.586)
- - ----------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD............ $ 9.96 $10.37 $ 9.18 $10.08 $10.82 $ 8.96
============================================================================================================================
TOTAL RETURN (1).......................... 2.55% 21.07% (2.88)% (0.26)% 29.72% (4.53)%
============================================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Period (Millions)...... $460 $346 $71 $44 $24 $9
Ratio of Expenses to Average
Net Assets.............................. 0.20% 0.20% 0.18%* 0.20% 0.20% 0.18%*
Ratio of Net Investment Income to
Average Net Assets...................... 6.54% 6.55% 6.88%* 6.75% 6.90% 7.70%*
Portfolio Turnover Rate................... 80% 71% 63% 46% 45% 70%
(1) Total return figures do not reflect the annual account maintenance fee of $10.
* Annualized.
+ Subscription period for the Portfolio was from January 18, 1994, through February 28, 1994, during which time all assets
were held in money market instruments.
</TABLE>
- - --------------------------------------------------------------------------------
YIELD AND
TOTAL RETURN From time to time each Portfolio may advertise its yield
and total return. Both yield and total return figures are
based on historical earnings and are not intended to
indicate future performance. The "total return" of a
Portfolio refers to the average annual compounded rates of
return over one-, five- and ten-year periods or for the
life of the Portfolio (as stated in the advertisement)
that would equate an initial amount invested at the
beginning of a stated period to the ending redeemable
value of the investment, assuming the reinvestment of all
dividend and capital gains distributions.
In accordance with industry guidelines set forth by the
U.S. Securities and Exchange Commission, the "30-day
yield" of a Portfolio is calculated by dividing the net
investment income per share earned during a 30-day period
by the net asset value per share on the last day of the
period. Net investment income includes interest and
dividend income earned on the Portfolio's securities; it
is net of all expenses and all recurring and nonrecurring
charges that have been applied to all shareholder
accounts. The yield calculation assumes that the net
investment income earned over 30 days is compounded
monthly for six months and then annualized. Methods used
to calculate advertised yields are standardized for all
stock and bond mutual funds. However, these methods differ
from the accounting methods used by a Portfolio to
maintain its books and records, and so the advertised
30-day yield may not fully reflect the income paid to an
investor's account.
- - --------------------------------------------------------------------------------
7
<PAGE> 46
INVESTMENT
OBJECTIVE
EACH PORTFOLIO
SEEKS TO MATCH
THE INVESTMENT
PERFORMANCE OF ITS
RESPECTIVE INDEX The Fund is an open-end diversified investment company
designed as an "index" fund. The Fund consists of four
Portfolios, each of which seeks to match the investment
results of a particular investment grade bond index
through the use of index sampling techniques. The Total
Bond Market Portfolio seeks to replicate the performance
of a broad market-weighted bond index, while the
Short-Term Bond, Intermediate-Term Bond and Long-Term Bond
Portfolios attempt to replicate the performance of
market-weighted bond indexes with prescribed maturity
standards. There is no assurance that any of the Fund's
Portfolios will achieve its stated objective.
The investment objective of each Portfolio is fundamental
and so cannot be changed without the approval of a
majority of a Portfolio's shareholders.
- - --------------------------------------------------------------------------------
INVESTMENT
POLICIES
EACH PORTFOLIO USES A
"PASSIVE" APPROACH
TO INVEST IN FIXED-
INCOME SECURITIES The four Portfolios of the Fund are not managed according
to traditional methods of "active" investment management,
which involve the buying and selling of securities based
upon economic, financial, and market analyses and
investment judgment. Instead, the Portfolios, utilizing a
"passive" or "indexing" investment approach, will attempt
to duplicate the investment performance of their
respective indexes through statistical sampling
procedures. Each Portfolio will invest in a group of
fixed-income securities selected from its respective index
which, when taken together, are expected to perform
similarly to the index as a whole. This sampling technique
is expected to enable each Portfolio to track the dividend
income and price movements of its respective index, while
minimizing brokerage, custodial and accounting costs. The
Portfolios are managed without regard to tax
ramifications.
The TOTAL BOND MARKET PORTFOLIO will invest in a portfolio
of fixed-income securities selected to match the Lehman
Brothers Aggregate Bond Index (the "Aggregate Bond
Index"). The Aggregate Bond Index is a broad
market-weighted index which encompasses four major classes
of investment grade fixed-income securities in the United
States: U.S. Treasury and agency securities, corporate
bonds, international (dollar-denominated) bonds, and
mortgage-backed securities, with maturities greater than
one year.
The SHORT-TERM BOND PORTFOLIO will invest in a portfolio
of fixed-income securities selected to match the Lehman
Brothers Mutual Fund Short (1-5) Government/ Corporate
Index (the "Short-Term Index"). The Short-Term Index is a
market-weighted index which encompasses three major
classes of investment grade fixed-income securities: U.S.
Treasury and agency securities, corporate bonds and
international (dollar-denominated) bonds, all with
maturities between 1 and 5 years.
The INTERMEDIATE-TERM BOND PORTFOLIO will invest in a
portfolio of fixed-income securities selected to match the
Lehman Brothers Mutual Fund Intermediate (5-10)
Government/ Corporate Index (the "Intermediate-Term
Index"). The Intermediate-Term Index is a market-weighted
index which encompasses three major classes of investment
grade fixed-income securities: U.S. Treasury and agency
securities,
8
<PAGE> 47
corporate bonds and international (dollar-denominated)
bonds, all with maturities between 5 and 10 years.
The LONG-TERM BOND PORTFOLIO will invest in a portfolio of
fixed-income securities selected to match the Lehman
Brothers Mutual Fund Long (10+) Government/ Corporate
Index (the "Long-Term Index"). The Long-Term Index is a
market-weighted index which encompasses three major
classes of investment grade fixed-income securities: U.S.
Treasury and agency securities, corporate bonds and
international (dollar-denominated) bonds, all with
maturities greater than 10 years.
Each Portfolio will invest 80% or more of its assets in
securities included in its respective index. As of
December 31, 1996, the major classes of fixed-income
securities represented the following proportions of the
respective indexes total market values:
<TABLE>
<CAPTION>
AGGREGATE SHORT-TERM INTERMEDIATE- LONG-TERM
BOND INDEX INDEX TERM INDEX INDEX
---------- ---------- ------------- ---------
<S> <C> <C> <C> <C>
U.S. Treasury and agency
securities 52% 86% 57% 66%
Corporate bonds 14% 12% 32% 28%
International (dollar-
denominated) bonds 4% 2% 11% 6%
Mortgage-backed securities 30% 0% 0% 0%
Dollar-weighted average
maturity (Years) 8.7 yrs 2.7 yrs 7.6 yrs 23.3 yrs
</TABLE>
The Portfolios of the Fund may, from time to time,
substitute one type of investment grade bond for another.
For instance, a Portfolio may hold more short-term
corporate bonds (fewer short U.S. Treasury bonds) than
represented in the Index so as to increase income. This
corporate substitution strategy will entail the assumption
of additional credit risk; however, substantial
diversification within the corporate sector should
moderate issue-specific credit risk. In addition, current
investment policy restricts corporate substitutions to
issues with less than 4 years remaining to maturity and in
aggregate no more than 15% of net assets. Overall, credit
risk is expected to be very low for each of the
Portfolios.
Fixed-income securities will be primarily of investment
grade quality -- i.e., those rated at least Baa3 by
Moody's Investors Service, Inc. or BBB- by Standard &
Poor's Corporation. Securities rated Baa or BBB are
considered as medium grade obligations. Interest payments
and principal are regarded as adequate for the present but
certain protective elements found in higher rated bonds
may be lacking. Such bonds lack outstanding investment
characteristics and, in fact, have speculative
characteristics as well.
In its effort to duplicate the investment performance of
its Index, each Portfolio will invest in fixed-income
securities approximating its relative proportion of the
Index's
9
<PAGE> 48
total market value. For the Total Bond Market Portfolio,
these investments will include U.S. Treasury and agency
securities, mortgage-backed securities and corporate and
international (dollar-denominated) bonds. For the
Short-Term Bond, Intermediate-Term Bond and Long-Term Bond
Portfolios, these investments include U.S. Treasury and
agency securities, corporate debt and international
(dollar-denominated) debt. The Portfolios may invest in
U.S. Treasury bills, notes and bonds and other "full faith
and credit" obligations of the U.S. Government. The
Portfolios may also invest in U.S. Government agency
securities, which are debt obligations issued or
guaranteed by agencies or instrumentalities of the U.S.
Government. Such "agency" securities may not be backed by
the "full faith and credit" of the U.S. Government. Such
U.S. Government agencies may include the Federal Farm
Credit Banks, the Resolution Trust Corporation and in the
case of the Total Bond Market Portfolio, the Government
National Mortgage Association. Even though they all carry
top (AAA) credit ratings, "agency" obligations are not
explicitly guaranteed by the U.S. Government and so are
perceived as somewhat riskier than comparable Treasury
bonds.
Each Portfolio may also invest up to 20% of its assets in
short-term money market instruments, and may invest in
bond (interest rate) futures contracts and options to a
limited extent. Such securities will be held only to
invest uncommitted cash balances, to maintain liquidity to
meet shareholder redemptions, or to minimize trading
costs. The Portfolios will not invest in such securities
as part of a temporary defensive strategy (such as
altering the aggregate maturity of a Portfolio) to protect
the Fund against potential bond market declines. Each
Portfolio intends to remain fully invested, to the extent
practicable, in a pool of securities which will duplicate
the investment characteristics of the respective index.
See "Implementation of Policies" for a description of
other investment practices of the Fund.
The Fund is responsible for voting the shares of all
securities it holds.
These investment policies are not fundamental and so may
be changed by the Board of Directors without shareholder
approval. However, shareholders would be notified prior to
any material change.
- - --------------------------------------------------------------------------------
INVESTMENT
RISKS As mutual funds investing primarily in fixed-income
securities, the Portfolios are subject to interest rate,
income, call and credit risks. Since the Total Bond Market
Portfolio also invests in mortgage-backed securities, the
Portfolio is also subject to prepayment risk.
THE PORTFOLIOS ARE
SUBJECT TO INTEREST
RATE RISK INTEREST RATE RISK is the potential for fluctuations in
bond prices due to changing interest rates. As a rule,
bond prices vary inversely with interest rates. If
interest rates rise, bond prices generally decline; if
interest rates fall, bond prices generally rise. In
addition, for a given change in interest rates,
longer-maturity bonds fluctuate more in price than
shorter-maturity bonds. To compensate investors for these
larger fluctuations, longer-maturity bonds usually offer
higher yields than shorter-maturity bonds, other factors,
including credit quality, being equal.
10
<PAGE> 49
These basic principles of bond prices also apply to U.S.
Government securities. A security backed by the "full
faith and credit" of the U.S. Government is guaranteed
only as to its stated interest rate and face value at
maturity, not its current market price. Just like other
fixed-income securities, government-guaranteed securities
will fluctuate in value when interest rates change.
The TOTAL BOND MARKET and INTERMEDIATE-TERM BOND
PORTFOLIOS maintain an intermediate-term dollar-weighted
average maturity, and are therefore subject to a moderate
to high level of interest rate risk. Interest rate risk
for the SHORT-TERM BOND PORTFOLIO should be modest.
Because of the short-term dollar-weighted average
maturities, the Portfolio is expected to exhibit low to
moderate price fluctuations as interest rates change. The
LONG-TERM BOND PORTFOLIO is exposed to substantial
interest rate risk. The Portfolio is expected to have a
dollar-weighted average maturity in excess of 15 years
which exposes it to high to very high price fluctuations
due to changing interest rates.
As an illustration of interest rate risk, the chart below
depicts the effect of a two percentage point change in
interest rates on three bonds of varying maturities:
PERCENTAGE CHANGE IN PRICE OF A PAR BOND YIELDING 7.5%
----------------------------------------------------------
<TABLE>
<CAPTION>
2 PERCENTAGE POINT 2 PERCENTAGE POINT
INCREASE IN DECREASE IN
STATED MATURITY INTEREST RATES INTEREST RATES
------------------------------- ------------------ ------------------
<S> <C> <C>
Short-Term (2.5 years) - 4.33% + 4.63%
Intermediate-Term (10 years) -12.71% +15.24%
Long-Term (20 years) -17.75% + 24.1%
</TABLE>
This chart is intended to provide you with guidelines for
determining the degree of interest rate risk you may be
willing to assume. The yield and price changes shown
should not be taken as representative of a Portfolio's
current or future yield or expected changes in a
Portfolio's share price.
THE PORTFOLIOS ARE
SUBJECT TO INCOME
RISK INCOME RISK is the potential for a decline in a
Portfolio's income due to falling market interest rates.
In relative terms, income risk will be higher for the
Fund's shorter-term Portfolios and lower for the Fund's
longer-term Portfolios.
THE LONG-TERM BOND
PORTFOLIO IS SUBJECT
TO CALL RISK An additional risk associated with long-term corporate
bonds is call risk. CALL RISK is the possibility that
corporate bonds held by the Portfolio will be repaid prior
to maturity. Call provisions, common in many corporate
bonds, allow bond issuers to redeem bonds prior to
maturity (at a specific price). When interest rates are
falling, bond issuers often exercise these call
provisions, paying off bonds that carry high stated
interest rates and often issuing new bonds at lower rates.
For the Portfolio, the result would be that bonds with
high interest rates are "called" and must be replaced with
lower-yielding instruments. In these circumstances, the
income of the Portfolio would decline. Reflecting these
additional credit and call risks, the corporate portion of
the portfolio will generally offer higher yields than the
government portion.
11
<PAGE> 50
THE TOTAL BOND As a mutual fund investing a portion of its assets in
MARKET PORTFOLIO mortgage-backed securities (see chart on page 9), the
IS SUBJECT TO Total Bond Market Portfolio is subject to prepayment risk
PREPAYMENT RISK to a limited extent. PREPAYMENT RISK is the possibility
that, during periods of declining interest rates, the
principal invested in high-yielding mortgage-backed
securities will be repaid earlier than scheduled, and the
Fund will be forced to reinvest the unanticipated payments
at generally lower interest rates.
Prepayment risk has two important effects on the
Portfolio. First, when interest rates fall and principal
prepayments are reinvested at lower interest rates, the
income that the Portfolio derives from mortgage-backed
securities is reduced. Second, like other fixed-income
securities, mortgage-backed securities generally decline
in price when interest rates rise. However, because of
prepayment risk, mortgage-backed securities (and thus in
part the share price of the Portfolio and the value of the
Index) will not enjoy as large a gain in market value as
ordinary bonds when interest rates fall. In part to
compensate for prepayment risk, mortgage-backed securities
generally offer higher yields than bonds of comparable
credit quality and maturity.
CREDIT RISK IS CREDIT RISK is the possibility that an issuer of
EXPECTED TO BE LOW securities held by a Portfolio will be unable to make
payments of either interest or principal. The credit risk
of a Portfolio is a function of the credit quality of its
underlying securities.
The credit quality of each Portfolio is expected to be
very high, and thus credit risk should be low. As of
December 31, 1996, the average quality, as rated by
Moody's Investors Service, Inc., of each Portfolio's
benchmark index was as follows:
<TABLE>
<S> <C>
Aggregate Bond Index........................................ Aaa
Short-Term Bond Index....................................... Aaa
Intermediate-Term Bond Index................................ Aa1
Long-Term Bond Index........................................ Aa2
</TABLE>
To a limited extent, the Portfolios are also exposed to
EVENT RISK, the possibility that corporate fixed-income
securities held by the Portfolios may suffer a substantial
decline in credit quality and market value due to a
corporate restructuring. Corporate restructurings, such as
mergers, leveraged buyouts, takeovers or similar events,
are often financed by a significant expansion of corporate
debt. As a result of the added debt burden, the credit
quality and market value of a firm's existing debt
securities may decline significantly. While event risk may
be high for certain corporate and international
(dollar-denominated) securities held by the Portfolios,
event risk for each Portfolio in the aggregate should be
low because of each Portfolio's diversified holdings and
the small percentage of portfolio assets invested in these
securities.
The corporate substitution strategy will increase credit
risk somewhat, as short-term investment grade corporate
bonds are substituted for U.S. Treasury bonds and notes;
however, owing to the diversified nature of the
Portfolios, and policies limiting the maturity and maximum
amount of substitutions, the overall credit and event risk
of the Portfolios is expected to be low.
12
<PAGE> 51
NO CURRENCY RISK While each of the chosen Lehman Index benchmarks do have
IN ANY PORTFOLIO limited exposure to international bonds, there is no
currency risk associated with the investments since they
are all dollar-denominated.
- - --------------------------------------------------------------------------------
WHO SHOULD The Portfolios are designed for individual and
INVEST institutional investors seeking well-diversified, low-cost
ways to participate in the U.S. fixed-income markets. The
INVESTORS SEEKING TO Portfolios will be essentially fully invested at all
PARTICIPATE IN THE times. Because the Total Bond Market Portfolio will
"BOND MARKET" AS A represent all major sectors of the investment grade fixed-
WHOLE OR ITS VARIOUS income securities market, the Portfolio is a suitable
MATURITY SEGMENTS vehicle for those investors seeking ownership in the "bond
market" as a whole, without regard to particular sectors.
The Short-Term Bond, Intermediate-Term Bond and Long-Term
Bond Portfolios are suitable vehicles for those investors
seeking ownership in specific maturity segments of the
"bond market." Each Portfolio concentrates on bonds of
various maturities as illustrated in the chart on page 9.
Because of the risks associated with bond investments,
each Portfolio is intended to be a long-term investment
vehicle and is not designed to provide investors with a
means of speculating on short-term bond market movements.
As with all longer-term, fixed-income investments, the
share price of the Total Bond Market, Intermediate-Term
Bond and Long-Term Bond Portfolios will vary, with the
Long-Term Bond Portfolio expected to exhibit the greatest
volatility. Share price volatility should be significantly
less for the Short-Term Bond Portfolio. Credit risk should
be minimal for each Portfolio. The investment risks are
described on page 10.
The Portfolios are also suitable for those investors with
existing common stock holdings who are seeking a
complementary fixed-income investment to create a more
balanced asset mix.
- - --------------------------------------------------------------------------------
IMPLEMENTATION The Portfolios follow a variety of investment practices in
OF POLICIES an effort to duplicate the total return of their
respective indexes.
THE PORTFOLIOS INVEST Each Portfolio will invest at least 80% or more of its
IN FIXED INCOME assets in securities included in its benchmark index. The
SECURITIES indexes measure the total investment return (capital
change plus income) provided by a universe of fixed-income
securities, weighted by the market value outstanding of
each security. The securities included in each index
generally meet the following criteria, as defined by
Lehman Brothers: an outstanding market value of at least
$100 million; and investment grade quality -- i.e., rated
a minimum of Baa3 by Moody's Investors Service, Inc. or
BBB- by Standard & Poor's Corporation. The maturities of
securities included in each index will vary as described
on page 9.
THE PORTFOLIOS USE A The Portfolios will be unable to hold all of the
"SAMPLING" TECHNIQUE individual issues which comprise the indexes because of
the large number of securities involved. Instead, each
Portfolio will hold a representative sample of the
securities in its respective index, selecting a few issues
to represent entire "classes" or types of securities in
the index. Each Portfolio will be constructed so as to
approximately match the composition of its benchmark index
as described on page 8 after adjusting for the corporate
13
<PAGE> 52
substitution policy described on page 9. The corporate
substitution strategy only applies to the Total Bond
Market Portfolio and the Short-term Bond Portfolio.
At the broadest level, and adjusted for the corporate
substitution strategy, each Portfolio will seek to hold
securities which reflect the weighting of the major asset
classes in its respective index. For the Total Bond Market
Portfolio, these classes include U.S. Treasury and agency
securities, corporate bonds, and mortgage-backed
securities. For the Short-Term Bond, Intermediate-Term
Bond and Long-Term Bond Portfolios, the two major classes
of securities include U.S. Treasury and agency securities
and corporate bonds. For example, if U.S. Treasury and
agency securities represent approximately 60% of an
index's interest rate risk, then approximately 60% of the
respective Portfolio's interest rate risk will come from
such securities. Similarly, if corporate bonds represent
20% of the interest rate risk of an index, then they will
represent approximately 20% of the interest rate risk of
the Portfolio.
Such a sampling technique is expected to be an effective
means of substantially duplicating the income and capital
returns provided by each index. Over time, the correlation
between the performance of the Fund and an index is
expected to be 0.95 or higher. A correlation of 1.00 would
indicate perfect correlation, which would be achieved when
the net asset value of a Portfolio, including the value of
its dividend and capital gain distributions, increases or
decreases in exact proportion to changes in the index.
Because the Portfolios of the Fund incur operating
expenses, as opposed to their respective indexes, which do
not, a perfect correlation of 1.00 is unlikely to be
achieved. The performance of a Portfolio versus that of
its respective index is monitored daily. If a tracking
error develops, the Portfolio is rebalanced to bring it in
line with the index.
THE TOTAL BOND
MARKET PORTFOLIO
MAY INVEST IN
MORTGAGE-BACKED
SECURITIES As part of its effort to duplicate the investment
performance of its Index, the Total Bond Market Portfolio
may invest in mortgage-backed securities. Mortgage-backed
securities represent an interest in an underlying pool of
mortgages. Unlike ordinary fixed-income securities, which
generally pay a fixed rate of interest and return
principal upon maturity, mortgage-backed securities repay
both interest income and principal as part of their
periodic payments. Because the mortgages underlying
mortgage-backed certificates can be prepaid at any time by
homeowners or corporate borrowers, mortgage-backed
securities give rise to certain unique "prepayment" risks.
See "Investment Risks."
The Total Bond Market Portfolio may purchase
mortgage-backed securities issued by the Government
National Mortgage Association (GNMA), the Federal Home
Loan Mortgage Corporation (FHLMC), the Federal National
Mortgage Association (FNMA), and the Federal Housing
Authority (FHA). GNMA securities are guaranteed by the
U.S. Government as to the timely payment of principal and
interest; securities from other Government-sponsored
entities are generally not secured by an explicit pledge
of the U.S. Government. The Portfolio may also invest in
conventional mortgage securities, which are packaged by
private corporations and are not guaranteed by the U.S.
Government. Mortgage securities that are guaranteed by the
U.S. Government are guaranteed only as to the timely
payment of
14
<PAGE> 53
principal and interest. The market value of such
securities is not guaranteed and may fluctuate.
EACH PORTFOLIO MAY
INVEST IN SHORT-TERM
MONEY MARKET
INSTRUMENTS Although they normally seek to remain substantially fully
invested in securities in the respective indexes, each
Portfolio may invest temporarily in certain short-term
money market instruments. Such securities may be used to
invest uncommitted cash balances or to maintain liquidity
to meet shareholder redemptions. These securities include:
obligations of the United States Government and its
agencies or instrumentalities; commercial paper, bank
certificates of deposit, and bankers' acceptances; and
repurchase agreements collateralized by these securities.
EACH PORTFOLIO MAY
LEND ITS SECURITIES Each Portfolio may lend its investment securities to
qualified institutional investors for either short-term or
long-term purposes of realizing additional income. Loans
of securities by a Portfolio will be collateralized by
cash, letters of credit, or securities issued or
guaranteed by the U.S. Government or its agencies. The
collateral will equal at least 100% of the current market
value of the loaned securities.
PORTFOLIO TURNOVER
IS NOT EXPECTED TO
EXCEED 50% Although it generally seeks to invest for the long term,
each Portfolio retains the right to sell securities
irrespective of how long they have been held. It is
anticipated that the annual portfolio turnover of each
Portfolio will not exceed 50%. A turnover rate of 50%
would occur, for example, if one half of the securities of
a Portfolio were replaced within one year. A portfolio
turnover rate of 100% may be considered high for a bond
index fund and would result in additional expenses.
DERIVATIVE
INVESTING Derivatives are instruments whose values are linked to or
derived from an underlying security or index. The most
common and conventional types of derivative securities are
futures and options.
EACH PORTFOLIO MAY
INVEST IN DERIVATIVE
SECURITIES Each Portfolio may invest in futures contracts and
options, but only to a limited extent. Specifically, a
Portfolio of the Fund may enter into futures contracts
provided that not more than 5% of its assets are required
as a futures contact deposit; in addition, a Portfolio may
enter into futures contracts and options transactions only
to the extent that obligations under such contracts or
transactions represent not more than 20% of the
Portfolio's assets.
Futures contracts and options may be used for several
common fund management strategies: to maintain cash
reserves while simulating full investment, to facilitate
trading, to reduce transaction costs, or to seek higher
investment returns when a specific futures contract is
priced more attractively than other futures contracts or
the underlying security or index.
The Portfolios may use futures contracts for bona fide
"hedging" purposes. In executing a hedge, a manager sells,
for example, stock index futures to protect against a
decline in the stock market. As such, if the market drops,
the value of the futures position will rise, thereby
offsetting the decline in value of the Portfolios' stock
holdings.
The Fund may also invest in other conventional derivatives
designed to replicate the risk/return characteristics of a
conventional fixed income note or bond. Such
15
<PAGE> 54
derivatives would be managed, in both structure and
concentration, to adhere to the Fund's investment policy
restrictions as to market and credit risk.
EACH PORTFOLIO MAY
INVEST IN CMOS The Portfolios also invest in a relatively conservative
class of collateralized mortgage obligations (CMOs) which
feature a high degree of cash flow predictability and less
vulnerability to mortgage prepayment risk. To reduce
credit risk, Vanguard purchases these less risky classes
of collateralized mortgage obligations issued only by
agencies of the U.S. Government or privately-issued
collateralized mortgage obligations that carry
high-quality investment-grade ratings.
FUTURES CONTRACTS
AND OPTIONS POSE
CERTAIN RISKS The primary risks associated with the use of futures
contracts and options are: (i) imperfect correlation
between the change in market value of the bonds held by a
Portfolio and the prices of futures contracts and options,
and (ii) possible lack of a liquid secondary market for a
futures contract and the resulting inability to close a
futures position prior to its maturity date. The risk of
imperfect correlation will be minimized by investing in
those contracts whose price fluctuations are expected to
resemble those of the Portfolio's underlying securities.
The risk that a Portfolio will be unable to close out a
futures position will be minimized by entering into such
transactions on a national exchange with an active and
liquid secondary market.
The risk of loss in trading futures contracts in some
strategies can be substantial, due both to the low margin
deposits required and the extremely high degree of
leverage involved in futures pricing. As a result, a
relatively small price movement in a futures contract may
result in immediate and substantial loss (or gain) to the
investor. When investing in futures contracts, a Portfolio
will segregate cash or other liquid portfolio securities
in the amount of the underlying obligation.
- - --------------------------------------------------------------------------------
INVESTMENT
LIMITATIONS
EACH PORTFOLIO HAS
ADOPTED CERTAIN
FUNDAMENTAL
LIMITATIONS Each Portfolio has adopted certain limitations on its
investment practices. Specifically, a Portfolio will not:
(a) invest more than 5% of its assets in the securities of
any single issuer except obligations of the United
States Government or government agencies;
(b) purchase more than 5% of the voting securities of any
issuer;
(c) borrow money except from banks for temporary or
emergency purposes, and then only in an amount not in
excess of 15% of its total assets;
(d) pledge, mortgage or hypothecate its assets to an
extent greater than 5% of the value of its total
assets; and
(e) invest more than 25% of its assets in any one
industry.
These investment limitations are considered at the time
investment securities are purchased. The limitations
described here and in the Statement of Additional
Information are fundamental and may be changed only with
the approval of a majority of a Portfolio's shareholders.
- - --------------------------------------------------------------------------------
16
<PAGE> 55
MANAGEMENT
OF THE FUND
VANGUARD ADMINISTERS
AND DISTRIBUTES THE
FUND The Fund is a member of The Vanguard Group of Investment
Companies, a family of more than 30 investment companies
with more than 90 distinct portfolios and total assets in
excess of $250 billion. Through their jointly-owned
subsidiary, The Vanguard Group, Inc. ("Vanguard"), the
Fund and the other funds in the Group obtain at cost
virtually all of their corporate management,
administrative, shareholder accounting and distribution
services. Vanguard also provides investment advisory
services on an at-cost basis to certain Vanguard funds. As
a result of Vanguard's unique corporate structure, the
Vanguard funds have costs substantially lower than those
of most competing mutual funds. In 1996, the average
expense ratio (annual costs including advisory fees
divided by total net assets) for the Vanguard funds
amounted to approximately .29% compared to an average of
1.22% for the mutual fund industry (data provided by
Lipper Analytical Services).
The Officers of the Fund manage its day-to-day operations
and are responsible to the Fund's Board of Directors. The
Directors set broad policies for the Fund and choose its
Officers. A list of the Directors and Officers of the Fund
and a statement of their present positions and principal
occupations during the past five years can be found in the
Statement of Additional Information.
Vanguard employs a supporting staff of management and
administrative personnel
to provide the requisite services to the funds and also
furnishes the funds with necessary office space,
furnishings and equipment. Each fund pays its share of
Vanguard's net expenses, which are allocated among the
funds under methods approved by the Board of Directors
(Trustees) of each fund. In addition, each fund bears its
own direct expenses, such as legal, auditing and custodian
fees.
Vanguard also provides distribution and marketing services
to the Vanguard funds. The funds are available on a
no-load basis (i.e., there are no sales commissions or
12b-1 fees). However, each fund bears its share of the
Group's distribution costs.
- - --------------------------------------------------------------------------------
INVESTMENT
ADVISER
VANGUARD MANAGES
THE FUND'S
INVESTMENTS Each Portfolio receives all investment advisory services
from Vanguard's Fixed Income Group. The Fixed Income Group
provides investment advisory services to more than 40
Vanguard money market and bond portfolios, both taxable
and tax-exempt. Total assets under management by
Vanguard's Fixed Income Group were approximately $79
billion as of December 31, 1996. The Portfolios are not
actively managed, but are instead administered by the
Fixed Income Group using computerized, quantitative
techniques. The Fixed Income Group is supervised by the
Officers of the Fund. Ian A. MacKinnon, Senior Vice
President of Vanguard, has been in charge of the Group
since its inception in 1981.
Mr. MacKinnon is responsible for setting the broad
investment strategies employed by the Fund, and for
overseeing the portfolio manager who implements these
strategies on a day-to-day basis.
The Fund's portfolio manager is Kenneth E. Volpert, a
Principal of Vanguard, who
serves as portfolio manager of the Vanguard Variable
Insurance Fund -- High-Grade Bond Portfolio and the bond
portion of the Vanguard Balanced Index Fund. Mr. Volpert
began managing the Vanguard Bond Index Fund in December,
1992. For
17
<PAGE> 56
six years prior to joining Vanguard, Mr. Volpert was
associated with Mellon Bond Associates.
The Fixed Income Group places all orders for purchases and
sales of portfolio securities. Purchases of portfolio
securities are made either directly from the issuer or
from securities dealers. The Fixed Income Group may sell
portfolio securities prior to their maturity if
circumstances and considerations warrant and if it
believes such dispositions advisable. The Group seeks to
obtain the best available net price and most favorable
execution for all portfolio transactions.
- - --------------------------------------------------------------------------------
PERFORMANCE
RECORD The tables in this section provide investment results for
the Total Bond Market, Short-term Bond, Intermediate-term
Bond and Long-Term Bond Portfolios for several periods
throughout the Fund's lifetime. The results shown
represent "total return" investment performance, which
assumes the reinvestment of all capital gains and income
dividends for the indicated periods. Also included is
comparative information with respect to the unmanaged
Aggregate Bond Index described on page 8, the Consumer
Price Index, a statistical measure of changes in the
prices of goods and services, the Lehman Mutual Fund
Short-term (1-5) Government/Corporate Bond Index, the
Lehman Mutual Fund Intermediate (5-10)
Government/Corporate Bond Index, and the Lehman Mutual
Fund Long (10+) Government/Corporate Bond Index.
The results shown should not be considered a
representation of the total return from an investment made
in the Portfolio today. This information is provided to
help investors better understand the Portfolio and may not
provide a basis for comparison with other investments or
mutual funds which use a different method to calculate
performance.
AVERAGE ANNUAL TOTAL RETURN FOR
VANGUARD BOND INDEX FUND -- TOTAL BOND MARKET PORTFOLIO
----------------------------------------------------------
<TABLE>
<CAPTION>
FISCAL PERIODS TOTAL BOND AGGREGATE CONSUMER
ENDED 12/31/96 MARKET PORTFOLIO BOND INDEX PRICE INDEX
-------------- ---------------- ---------- -----------
<S> <C> <C> <C>
1 Year 3.58% 3.63% 3.28%
3 Years 6.02 6.02 2.83
5 Years 6.97 7.04 2.84
10 Years 7.98 8.47 3.67
Lifetime* 7.95 8.40 3.69
* December 11, 1986 to December 31, 1996.
</TABLE>
18
<PAGE> 57
AVERAGE ANNUAL TOTAL RETURN FOR
VANGUARD BOND INDEX FUND -- SHORT-TERM BOND PORTFOLIO
----------------------------------------------------------
<TABLE>
<CAPTION>
LEHMAN MUTUAL FUND
SHORT (1-5)
FISCAL PERIODS SHORT-TERM GOVERNMENT/ CONSUMER
ENDED 12/31/96 BOND PORTFOLIO CORPORATE BOND INDEX PRICE INDEX
-------------- -------------- -------------------- -----------
<S> <C> <C> <C>
1 Year 4.55% 4.67% 3.28%
Lifetime* 5.88 5.98 2.79
* March 1, 1994 to December 31, 1996.
</TABLE>
AVERAGE ANNUAL TOTAL RETURN FOR
VANGUARD BOND INDEX FUND -- INTERMEDIATE-TERM BOND
PORTFOLIO
----------------------------------------------------------
<TABLE>
<CAPTION>
LEHMAN MUTUAL FUND
INTERMEDIATE (5-10)
FISCAL PERIODS INTERMEDIATE-TERM GOVERNMENT/ CONSUMER
ENDED 12/31/96 BOND PORTFOLIO CORPORATE BOND INDEX PRICE INDEX
-------------- ----------------- -------------------- -----------
<S> <C> <C> <C>
1 Year 2.55% 2.69% 3.28%
Lifetime* 6.82 6.97 2.79
* March 1, 1994 to December 31, 1996.
</TABLE>
AVERAGE ANNUAL TOTAL RETURN FOR
VANGUARD BOND INDEX FUND -- LONG-TERM BOND PORTFOLIO
----------------------------------------------------------
<TABLE>
<CAPTION>
LEHMAN MUTUAL FUND
LONG (10+)
FISCAL PERIODS LONG-TERM GOVERNMENT/ CONSUMER
ENDED 12/31/96 BOND PORTFOLIO CORPORATE BOND INDEX PRICE INDEX
-------------- -------------- -------------------- -----------
<S> <C> <C> <C>
1 Year -0.26% 0.14% 3.28%
Lifetime* 7.73 7.91 2.79
* March 1, 1994 to December 31, 1996.
</TABLE>
- - --------------------------------------------------------------------------------
DIVIDENDS,
CAPITAL GAINS
AND TAXES
EACH PORTFOLIO PAYS
MONTHLY DIVIDENDS Dividends consisting of virtually all of the ordinary
income of each Portfolio are declared daily and are
payable to shareholders of record at the time of
declaration. Such dividends are paid on the first business
day of each month. Capital gains distributions, if any,
are made annually. Each Portfolio's dividend and capital
gains distributions are automatically reinvested in
additional shares. The Fund intends to continue to qualify
as a "regulated investment company" under the Internal
Revenue Code so that it will not be subject to federal
income tax to the extent that its income is distributed to
its shareholders.
If you utilize the Fund's Portfolios as an investment
option in an employer-sponsored retirement savings plan,
dividend and capital gains distributions from the
Portfolios will generally not be subject to current
taxation, but will accumulate on a tax-deferred basis. In
general, employer-sponsored retirement and savings plans
are governed by a complex set of tax rules. If you
participate in such a plan,
19
<PAGE> 58
consult your plan administrator, your plan's Summary Plan
Description, or a professional tax adviser regarding the
tax consequences of your participation in the plan and of
any plan contributions or withdrawals.
- - --------------------------------------------------------------------------------
THE SHARE PRICE OF
EACH PORTFOLIO Each Portfolio's share price or "net asset value" per
share is calculated by dividing the total assets of the
Portfolio, less all liabilities, by the total number of
shares outstanding except for the Total Bond Market
Portfolio whereby net asset value per share is calculated
by dividing total assets attributed to each share class
less liabilities attributed to each share class by the
shares outstanding for each share class. The net asset
value per share is determined as of the close of the New
York Stock Exchange (generally 4:00 p.m. Eastern time) on
each day that the Exchange is open for trading.
Portfolio securities that are listed on a securities
exchange are valued at the last quoted sale price on the
day the valuation is made. Price information on listed
securities is taken from the exchange where the security
is primarily traded. Listed securities that are not traded
on the valuation date and for which market quotations are
available are valued at the mean between the bid and asked
prices. Unlisted securities for which market quotations
are readily available are valued at the latest quoted bid
price.
Bonds and other fixed-income securities may be valued on
the basis of prices provided by a pricing service when
such prices are believed to reflect the fair market value
of such securities. The prices provided by a pricing
service may be determined without regard to bid or last
sale prices of each security but take into account
institutional-size transactions in similar groups of
securities as well as any developments related to specific
securities. Short-term instruments (those with remaining
maturities of 60 days or less) may be valued at cost, plus
or minus any amortized discount or premium, which
approximates market. Other securities, including
restricted securities for which no quotations are readily
available, are valued at fair value as determined in good
faith by the Board of Directors.
Each Portfolio's share price can be found daily in the
mutual fund listings of most major newspapers under the
heading of Vanguard.
- - --------------------------------------------------------------------------------
GENERAL
INFORMATION The Fund is a Maryland corporation. The Articles of
Incorporation permit the Directors to issue 2,000,000,000
shares of common stock, with a $.001 par value. The Board
of Directors has the power to designate one or more
portfolios and classes of shares of common stock of such
portfolios and to classify or reclassify any unissued
shares with respect to such portfolios and classes.
Currently the Fund is offering shares of four series. The
Total Bond Market Portfolio offers two separate classes of
shares; the Total Bond Market Portfolio which is open to
investors with a minimum investment of $3,000, and the
Total Bond Market Portfolio Institutional Shares which are
designed for investors who meet certain administrative
criteria and a minimum initial investment of $10 million.
The shares of each portfolio are fully paid and
non-assessable; have no preference as to conversion,
exchange, dividends, retirement or other features; and
have no
20
<PAGE> 59
pre-emptive rights. Such shares have non-cumulative voting
rights, meaning that the holders of more than 50% of the
shares voting for the election of Directors can elect 100%
of the Directors if they so choose.
Annual meetings of shareholders will not be held except as
required by the Investment Company Act of 1940 and other
applicable law. An annual meeting will be held to vote on
the removal of a Director or Directors of the Fund if
requested in writing by the holders of not less than 10%
of the outstanding shares of the Fund.
All securities and cash for the Total Bond Market
Portfolio are held by Chase Manhattan Bank, New York, NY.
All securities and cash for the Short-Term Bond,
Intermediate-Term Bond and Long-Term Bond Portfolios are
held by State Street Bank and Trust Company, Boston, MA.
CoreStates Bank, N.A. Philadelphia, PA, holds daily cash
balances that are used by the Fund's Portfolios to invest
in repurchase agreements or securities acquired in these
transactions. The Vanguard Group, Inc., Valley Forge, PA,
serves as the Fund's Transfer and Dividend Disbursing
Agent. Price Waterhouse LLP, serves as independent
accountants for the Fund and will audit its financial
statements annually. The Fund is not involved in any
litigation.
- - --------------------------------------------------------------------------------
21
<PAGE> 60
SERVICE GUIDE
PARTICIPATING IN
YOUR PLAN The Portfolios are available as an investment option in
your retirement or savings plan. The administrator of your
plan or your employee benefits office can provide you with
detailed information on how to participate in your plan
and how to elect the Fund as an investment option.
If you have any questions about the Fund, including the
Portfolio's investment objective, policies, risk
characteristics or historical performance, please contact
Participant Services (1-800-523-1188).
If you have questions about your account, contact your
plan administrator or the organization which provides
recordkeeping services for your plan.
- - --------------------------------------------------------------------------------
INVESTMENT OPTIONS
ALLOCATIONS, AND
PAYROLL CHANGES You may be permitted to elect different investment
options, alter the amounts contributed to your plan, or
change how contributions are allocated among your
investment options in accordance with your plan's specific
provisions. See your plan administrator or employee
benefits office for more details.
- - --------------------------------------------------------------------------------
TRANSACTIONS IN
FUND SHARES Purchases, exchanges or redemptions of a Portfolio's
shares are effective when received in "good order" by
Vanguard. "Good Order" means that complete information on
the purchase, exchange or redemption and the appropriate
signatures and monies have been received by Vanguard.
Vanguard must consider the interests of all Portfolio
shareholders. Therefore, for institutional investors who
are not participants in a retirement or savings plan, we
reserve the right to:
- Delay or reject any purchase or exchange request that
may disrupt the Portfolio's operation or performance.
- Revise or terminate the exchange privilege or limit the
amount of an exchange, at any time, without notice.
- Take up to seven days to deliver your redemption
proceeds.
- Pay redemption proceeds -- in whole or in
part -- through a distribution in kind of readily
marketable securities.
- - --------------------------------------------------------------------------------
MAKING EXCHANGES Your plan may allow you to exchange monies from one
investment option to another. Check with your plan
administrator for details on the rules governing exchanges
in your plan. Certain investment options, particularly
company stock or guaranteed investment contracts (GICs),
may be subject to unique restrictions.
Before making an exchange, you should consider the
following:
- If you are making an exchange to another Vanguard Fund
option, please read the Fund's prospectus. Contact
Participant Services (1-800-523-1188) for a copy.
- Exchanges are accepted by Vanguard only as permitted by
your plan. Your plan administrator can explain how
frequently exchanges are allowed.
- - --------------------------------------------------------------------------------
22
<PAGE> 61
[THIS PAGE INTENTIONALLY LEFT BLANK]
<PAGE> 62
<TABLE>
- - --------------------------------------------------------------------------------
<S> <C>
Vanguard Logo Flag Logo
--------------------------- Vanguard Logo
THE VANGUARD GROUP I N S T I T U T I O N A L
Vanguard Financial Center P R O S P E C T U S
P.O. Box 2900 MARCH 28, 1997
Valley Forge, PA 19482 VANGUARD LOGO
INSTITUTIONAL PARTICIPANT
SERVICES DEPARTMENT:
1-800-523-1188
TRANSFER AGENT:
The Vanguard Group, Inc.
Vanguard Financial Center
Valley Forge, PA 19482
I084
</TABLE>
- - --------------------------------------------------------------------------------
<PAGE> 63
- - --------------------------------------------------------------------------------
<TABLE>
<S> <C> <C>
FLAG
LOGO
VANGUARD LOGO
P R O S P E C T U S
MARCH 28, 1997
VANGUARD LOGO
</TABLE>
- - --------------------------------------------------------------------------------
<PAGE> 64
- - --------------------------------------------------------------------------------
================================================================================
Vanguard Bond Index LOGO
A Member of The Vanguard Group
================================================================================
PROSPECTUS -- MARCH 28, 1997
- - --------------------------------------------------------------------------------
FUND INFORMATION: PARTICIPANT SERVICES -- 1-800-523-8066
- - --------------------------------------------------------------------------------
INVESTMENT
OBJECTIVE
AND POLICIES The Total Bond Market Portfolio of Vanguard Bond Index
Fund, Inc. (the "Portfolio"), is an open-end, diversified
investment company designed as an "index fund." The
objective of the Portfolio is to duplicate the total
return (income plus capital change) of publicly-traded
investment grade fixed-income securities in the aggregate
by attempting to duplicate the investment performance of a
certain investment grade bond index. The Portfolio invests
in a diversified portfolio of U.S. Government and
corporate bonds and mortgage-backed securities. There is
no assurance that the Portfolio will achieve its stated
objective. Shares of the Portfolio are neither insured nor
guaranteed by any agency of the U.S. Government, including
the FDIC.
- - --------------------------------------------------------------------------------
INVESTMENT
ALTERNATIVES The Total Bond Market Portfolio of Vanguard Bond Index
Fund, Inc. offers two separate classes of shares to
investors. The "Total Bond Market Portfolio Institutional
Shares" are designed primarily for investors who meet
certain administrative requirements and a minimum initial
investment of $10 million. Only the Institutional class of
shares are offered through this prospectus. The second
class of shares, "Total Bond Market Portfolio" are
available to all institutional and individual investors
and are offered through a separate prospectus. To obtain
information on the "Total Bond Market Portfolio" class of
shares, please call 1-800-662-7447 (SHIP), Monday through
Friday, from 8:00 a.m. to 9:00 p.m. and Saturday from 9
a.m. to 4:00 p.m. (Eastern time).
- - --------------------------------------------------------------------------------
OPENING AN
ACCOUNT Shares of the Portfolio may be purchased by Federal Funds
wire. The minimum initial investment is $10 million.
- - --------------------------------------------------------------------------------
ABOUT THIS
PROSPECTUS This Prospectus is designed to set forth concisely the
information you should know about the Fund before you
invest. It should be retained for future reference. A
"Statement of Additional Information" containing
additional information about the Fund has been filed with
the Securities and Exchange Commission. This Statement is
dated March 28, 1997 and has been incorporated by
reference into this Prospectus. A copy may be obtained
without charge by writing to the Fund or by calling
Participant Services at 1-800-523-8066.
- - --------------------------------------------------------------------------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page Page Page
<S> <C> <C>
Portfolio Expenses ................ 2 Investment Risks .................. 7 Investment Adviser ................ 13
Financial Highlights .............. 3 Who Should Invest ................. 9 Dividends, Capital Gains and
Yield and Total Return ............ 4 Implementation of Taxes ........................... 14
Policies ........................ 9 The Share Price of The Portfolio .. 15
FUND INFORMATION Investment Limitations ............ 12 General Information ............... 15
Investment Objective .............. 5 Management of the Fund ............ 12 Shareholder Guide ................. 17
Investment Policies ............... 5
</TABLE>
- - --------------------------------------------------------------------------------
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 COMMISSION PASSED UPON THE ACCURACY OR
ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL
OFFENSE.
- - --------------------------------------------------------------------------------
- - --------------------------------------------------------------------------------
<PAGE> 65
PORTFOLIO The following table illustrates ALL expenses and fees that
EXPENSES you would incur as a shareholder of the Total Bond Market
Portfolio Institutional Shares and Total Bond Market
Portfolio Shares. The expenses and fees set forth in the
table are for the 1996 fiscal year.
<TABLE>
<CAPTION>
TOTAL BOND MARKET
PORTFOLIO TOTAL BOND MARKET
SHAREHOLDER TRANSACTION EXPENSES INSTITUTIONAL SHARES PORTFOLIO SHARES
<S> <C> <C> <C> <C> <C> <C> <C> <C>
---------------------------------------------------------------------------------------
Sales Load Imposed on Purchases*..... None None
Sales Load Imposed on Reinvested
Dividends.......................... None None
Redemption Fees**.................... None None
Exchange Fees........................ None None
</TABLE>
<TABLE>
<CAPTION>
ANNUAL FUND OPERATING EXPENSES
<S> <C> <C> <C> <C> <C> <C> <C> <C>
---------------------------------------------------------------------------------------
Management & Administrative
Expenses........................... 0.06% 0.14%
Investment Advisory Fees............. 0.01 0.01
12b-1 Fees........................... None None
Other Expenses
Distribution Costs............... 0.02 0.03
Miscellaneous Expenses........... 0.01 0.02
---- ----
Total Other Expenses................. 0.03 0.05
---- ----
TOTAL OPERATING EXPENSES.... 0.10% 0.20%
===== =====
</TABLE>
* The Portfolio reserves the right to deduct a portfolio
transaction fee of 0.18% payable directly to the
Portfolio, from purchases of a size that is reasonably
deemed to be disruptive to efficient portfolio
management. See text below.
** Wire redemptions of less than $5,000 are subject to a
$5 processing fee.
The purpose of this table is to assist you in
understanding the various costs and expenses that an
investor in the Portfolio would bear directly or
indirectly.
TRANSACTION FEE The Portfolio reserves the right to deduct a portfolio
transaction fee from purchases of the shares of the
Portfolio. Fees will not be charged on any investment less
than $50 million. Fees may be charged on the entire
lump-sum purchase for transactions that exceed or are
expected to exceed over the next twelve months $50 million
if such purchases are reasonably deemed to be disruptive
to efficient portfolio management. Lump-sum purchases over
$50 million may be considered disruptive, for example, if
the portfolio manager incurs significant transaction costs
in purchasing portfolio securities needed to match the
investment performance of the benchmark index. If such
purchases can be offset by redemptions of shares by other
shareholders, such fee may be waived or reduced. A
prospective investor may determine whether a fee will be
charged by calling their Institutional Investor Service
Representative in advance of their purchase. The fee, if
imposed, will be 0.18% of the purchase. The fee is based
on the portfolio manager's estimate of transaction costs,
which depends on the types of securities in which the
Portfolio invests.
The following example illustrates the expenses that you
would incur on a $1,000 investment over various periods,
assuming (1) a 5% annual rate of return and
2
<PAGE> 66
(2) redemption at the end of each period. As noted in the
table above, the Portfolio charges no redemption fees of
any kind.
<TABLE>
<CAPTION>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
------ ------- ------ --------
<S> <C> <C> <C> <C>
Total Bond Market
Portfolio -- Institutional Shares....... $1 $ 3 $ 6 $ 13
Total Bond Market Portfolio Shares........ $2 $ 6 $11 $ 26
</TABLE>
THIS EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTATION OF
PAST OR FUTURE EXPENSES OR PERFORMANCE. ACTUAL EXPENSES
MAY BE HIGHER OR LOWER THAN THOSE SHOWN.
- - --------------------------------------------------------------------------------
FINANCIAL The following financial highlights for a share outstanding
HIGHLIGHTS throughout each period presented, has been audited by
Price Waterhouse LLP, independent accountants, whose
report thereon was unqualified. This information should be
read in conjunction with the financial statements
appearing in the Fund's 1996 financial statements and
notes thereto, which, together with the remaining portions
of the Fund's 1996 Annual Report to Shareholders, are
incorporated by reference in the Statement of Additional
Information and this Prospectus, and which appear, along
with the report of Price Waterhouse LLP, in the Fund's
1996 Annual Report to Shareholders. For a more complete
discussion of the Fund's performance, please see the
Fund's 1996 Annual Report, which may be obtained without
charge by writing to the Fund or by calling our Investor
Information Department at 1-800-662-7447.
---------------------------------------------------
TOTAL BOND MARKET PORTFOLIO -- INSTITUTIONAL CLASS
---------------------------------------------------
<TABLE>
<CAPTION>
YEAR ENDED SEPT. 18, 1995+ TO
DECEMBER 31, 1996 DEC. 31, 1995
------------------------------------------------------------------------------------------
<S> <C> <C>
NET ASSET VALUE, BEGINNING OF PERIOD................ $ 10.14 $ 9.87
----------- ------------
INVESTMENT OPERATIONS
Net Investment Income............................. .650 .174
Net Realized and Unrealized Gain (Loss) on
Investments..................................... (.300) .270
----------- ------------
TOTAL FROM INVESTMENT OPERATIONS............ .350 .444
--------------------------------------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment Income.............. (.650) (.174)
Dividends from Realized Capital Gains............. -- --
----------- ------------
TOTAL DISTRIBUTIONS......................... (.650) (.174)
--------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD...................... $ 9.84 $10.14
==========================================================================================
TOTAL RETURN........................................ 3.68% 4.53%
==========================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Period (Millions)................ $ 1,024 $ 413
Ratio of Expenses on Average Net Assets............. 0.10% 0.10%*
Ratio of Net Investment Income to Average Net
Assets............................................ 6.66% 6.48%*
Portfolio Turnover Rate............................. 39% 36%
* Annualized.
+ Commencement of operations.
</TABLE>
3
<PAGE> 67
<TABLE>
<CAPTION>
--------------------------------------------------------------------------------
TOTAL BOND MARKET PORTFOLIO SHARES
--------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31,
--------------------------------------------------------------------------------
1996 1995 1994 1993 1992 1991 1990 1989 1988 1987
------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF
PERIOD............................. $10.14 $ 9.17 $10.06 $ 9.88 $ 9.99 $ 9.41 $ 9.44 $ 9.05 $ 9.20 $ 9.94
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
INVESTMENT OPERATIONS
Net Investment Income............. .640 .650 .622 .638 .699 .766 .796 .797 .807 .834
Net Realized and Unrealized
Gain (Loss) on Investments...... (.300) .970 (.888) .300 (.018) .605 (.030) .390 (.150) (.740)
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
TOTAL FROM INVESTMENT
OPERATIONS.................. .340 1.620 (.266) .938 .681 1.371 .766 1.187 .657 .094
- - -----------------------------------------------------------------------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment
Income.......................... (.640) (.650) (.622) (.638) (.699) (.766) (.796) (.797) (.807) (.834)
Distributions from Realized
Capital Gains................... -- -- (.002) (.120) (.092) (.025) -- -- -- --
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
TOTAL DISTRIBUTIONS........... (.640) (.650) (.624) (.758) (.791) (.791) (.796) (.797) (.807) (.834)
- - ------------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD...... $ 9.84 $10.14 $ 9.17 $10.06 $ 9.88 $ 9.99 $ 9.41 $ 9.44 $ 9.05 $ 9.20
==============================================================================================================================
TOTAL RETURN (1).................... 3.58% 18.18% (2.66)% 9.68% 7.14% 15.25% 8.65% 13.65% 7.35% 1.14%
=============================================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Period
(Millions)........................ $2,962 $2,405 $1,731 $1,540 $1,066 $849 $277 $139 $58 $43
Ratio of Expenses to Average
Net Assets........................ 0.20% 0.20% 0.18% 0.18% 0.20% 0.16% 0.21% 0.24% 0.30% 0.14%
Ratio of Net Investment Income to
Average Net Assets................ 6.54% 6.66% 6.57% 6.24% 7.06% 7.95% 8.60% 8.49% 8.84% 9.01%
Portfolio Turnover Rate............. 39% 36% 33% 50% 49% 31% 29% 33% 21% 77%
(1) Total return figures do not reflect the annual account maintenance fee of $10.
</TABLE>
- - --------------------------------------------------------------------------------
YIELD AND From time to time the Portfolio may advertise its yield
TOTAL RETURN and total return. Both yield and total return figures are
based on historical earnings and are not intended to
indicate future performance. The "total return" of a
Portfolio refers to the average annual compounded rates of
return over one-, five- and ten-year periods or for the
life of the Portfolio (as stated in the advertisement)
that would equate an initial amount invested at the
beginning of a stated period to the ending redeemable
value of the investment, assuming the reinvestment of all
dividend and capital gains distributions.
In accordance with industry guidelines set forth by the
U.S. Securities and Exchange Commission, the "30-day
yield" of a Portfolio is calculated by dividing the net
investment income per share earned during a 30-day period
by the net asset value per share on the last day of the
period. Net investment income includes interest and
dividend income earned on the Portfolio's securities; it
is net of all expenses and all recurring and nonrecurring
charges that have been applied to all shareholder
accounts. The yield calculation assumes that the net
investment income earned over 30 days is compounded
monthly for six months and then annualized. Methods used
to calculate advertised yields are standardized for all
stock and bond mutual funds. However, these methods differ
from the accounting methods used by the Portfolio to
maintain its books and records, and so the advertised
30-day yield may not fully reflect the income paid to an
investor's account.
- - --------------------------------------------------------------------------------
4
<PAGE> 68
INVESTMENT
OBJECTIVE The Institutional Shares are designed primarily for
institutional investors. The Total Bond Market Portfolio
is a no-load, open-end diversified investment company
designed as an "index" fund. The Portfolio invests in
fixed-income securities with prescribed maturity and
credit quality standards in order to match the investment
performance of the Lehman Brothers Aggregate Bond Index.
The Index is a broad market-weighted index which
encompasses U.S. Treasury and agency securities, corporate
investment grade bonds, international (dollar-denominated)
investment grade bonds, and mortgage-backed securities.
There is no assurance that the Portfolio will achieve its
stated objective.
The investment objective of the Portfolio is fundamental
and so cannot be changed without the approval of a
majority of a Portfolio's shareholders.
- - --------------------------------------------------------------------------------
INVESTMENT
POLICIES
THE PORTFOLIO USES A
"PASSIVE" APPROACH
TO INVEST IN FIXED-
INCOME SECURITIES The Portfolio is not managed according to traditional
methods of "active" investment management, which involve
the buying and selling of securities based upon economic,
financial, and market analyses and investment judgment.
Instead, the Portfolio, utilizing a "passive" or
"indexing" investment approach, will attempt to duplicate
the investment performance of its respective index through
statistical sampling procedures. The Portfolio will invest
in a group of fixed-income securities selected from the
Index which, when taken together, are expected to perform
similarly to the Index as a whole. This sampling technique
is expected to enable the Portfolio to track the dividend
income and price movements of the Index, while minimizing
brokerage, custodial and accounting costs. The Portfolio
is managed without regard to tax ramifications.
The TOTAL BOND MARKET PORTFOLIO will invest in a portfolio
of fixed-income securities selected to match the Lehman
Brothers Aggregate Bond Index (the "Aggregate Bond
Index"). The Aggregate Bond Index is a broad
market-weighted index which encompasses four major classes
of investment grade fixed-income securities in the United
States: U.S. Treasury and agency securities, corporate
bonds, international (dollar-denominated) bonds, and
mortgage-backed securities, with maturities greater than
one year.
The Portfolio will invest 80% or more of its assets in
securities included in the Index. As of December 31, 1996,
the major classes of fixed-income securities represented
the following proportions of the Index's total market
value:
<TABLE>
<CAPTION>
AGGREGATE
BOND INDEX
----------
<S> <C>
U.S. Treasury and agency securities 52%
Corporate bonds 14%
International (dollar-denominated) bonds 4%
Mortgage-backed securities 30%
Dollar-weighted average maturity (Years) 8.7 yrs
</TABLE>
5
<PAGE> 69
The Portfolio may, from time to time, substitute one type
of investment grade bond for another. For instance, a
Portfolio may hold more short-term corporate bonds (fewer
short U.S. Treasury bonds) than represented in the Index
so as to increase income. This corporate substitution
strategy will entail the assumption of additional credit
risk; however, substantial diversification within the
corporate sector should moderate issue-specific credit
risk. In addition, current investment policy restricts
corporate substitutions to issues with less than 4 years
remaining to maturity and in aggregate no more than 15% of
net assets. Overall, credit risk is expected to be very
low.
Fixed-income securities will be primarily of investment
grade quality -- i.e., those rated at least Baa3 by
Moody's Investors Service, Inc. or BBB- by Standard &
Poor's Corporation. Securities rated Baa or BBB are
considered as medium grade obligations. Interest payments
and principal are regarded as adequate for the present but
certain protective elements found in higher rated bonds
may be lacking. Such bonds lack outstanding investment
characteristics and, in fact, have speculative
characteristics as well.
In its effort to duplicate the investment performance of
the Index, the Portfolio will invest in fixed-income
securities approximating its relative proportion of the
Index's total market value. For the Total Bond Market
Portfolio, these investments will include U.S. Treasury
and agency securities, mortgage-backed securities and
corporate and international (dollar-denominated) bonds.
The Portfolio may invest in U.S. Treasury bills, notes and
bonds and other "full faith and credit" obligations of the
U.S. Government. The Portfolio may also invest in U.S.
Government agency securities, which are debt obligations
issued or guaranteed by agencies or instrumentalities of
the U.S. Government. Such "agency" securities may not be
backed by the "full faith and credit" of the U.S.
Government. Such U.S. Government agencies may include the
Federal Farm Credit Banks, the Resolution Trust
Corporation and the Government National Mortgage
Association. Even though they all carry top (AAA) credit
ratings, "agency" obligations are not explicitly
guaranteed by the U.S. Government and so are perceived as
somewhat riskier than comparable Treasury bonds.
The Portfolio may also invest up to 20% of its assets in
short-term money market instruments, and may invest in
bond (interest rate) futures contracts and options to a
limited extent. Such securities will be held only to
invest uncommitted cash balances, to maintain liquidity to
meet shareholder redemptions, or to minimize trading
costs. The Portfolio will not invest in such securities as
part of a temporary defensive strategy (such as altering
the aggregate maturity of the Portfolio) to protect the
Fund against potential bond market declines. The Portfolio
intends to remain fully invested, to the extent
practicable, in a pool of securities which will duplicate
the investment characteristics of the benchmark index. See
"Implementation of Policies" for a description of other
investment practices of the Portfolio.
6
<PAGE> 70
The Portfolio is responsible for voting the shares of all
securities it holds.
These investment policies are not fundamental and so may
be changed by the Board of Directors without shareholder
approval. However, shareholders would be notified prior to
any material change in either.
- - --------------------------------------------------------------------------------
INVESTMENT
RISKS As a mutual fund investing primarily in fixed-income
securities, the Portfolio is subject to interest rate,
income, call and credit risks. Since the Total Bond Market
Portfolio also invests in mortgage-backed securities, the
Portfolio is also subject to prepayment risk.
THE PORTFOLIO IS
SUBJECT TO INTEREST
RATE RISK INTEREST RATE RISK is the potential for fluctuations in
bond prices due to changing interest rates. As a rule,
bond prices vary inversely with interest rates. If
interest rates rise, bond prices generally decline; if
interest rates fall, bond prices generally rise. In
addition, for a given change in interest rates,
longer-maturity bonds fluctuate more in price than
shorter-maturity bonds. To compensate investors for these
larger fluctuations, longer-maturity bonds usually offer
higher yields than shorter-maturity bonds, other factors,
including credit quality, being equal.
These basic principles of bond prices also apply to U.S.
Government securities. A security backed by the "full
faith and credit" of the U.S. Government is guaranteed
only as to its stated interest rate and face value at
maturity, not its current market price. Just like other
fixed-income securities, government-guaranteed securities
will fluctuate in value when interest rates change.
The TOTAL BOND MARKET PORTFOLIO maintains an
intermediate-term dollar-weighted average maturity, and is
therefore subject to a moderate to high level of interest
rate risk. As an illustration of interest rate risk, the
chart below depicts the effect of a two percentage point
change in interest rates on three bonds of varying
maturities:
PERCENTAGE CHANGE IN PRICE OF A PAR BOND YIELDING 7.5%
----------------------------------------------------------
<TABLE>
<CAPTION>
2 PERCENTAGE POINT 2 PERCENTAGE POINT
INCREASE IN DECREASE IN
STATED MATURITY INTEREST RATES INTEREST RATES
------------------------------- ------------------ ------------------
<S> <C> <C>
Short-Term (2.5 years) - 4.33% + 4.63%
Intermediate-Term (10 years) -12.71% +15.24%
Long-Term (20 years) -17.75% + 24.1%
</TABLE>
This chart is intended to provide you with guidelines for
determining the degree of interest rate risk you may be
willing to assume. The yield and price changes shown
should not be taken as representative of the Portfolio's
current or future yield or expected changes in the
Portfolio's share price.
THE PORTFOLIO IS
SUBJECT TO INCOME
RISK INCOME RISK is the potential for a decline in the
Portfolio's income due to falling market interest rates.
In relative terms, income risk will be higher for the
Fund's shorter-term Portfolios and lower for the Fund's
longer-term Portfolios.
7
<PAGE> 71
THE PORTFOLIO
IS SUBJECT TO
PREPAYMENT RISK As a mutual fund investing a portion of its assets in
mortgage-backed securities (see chart on page 5), the
Total Bond Market Portfolio is subject to prepayment risk
to a limited extent. PREPAYMENT RISK is the possibility
that, during periods of declining interest rates, the
principal invested in high-yielding mortgage-backed
securities will be repaid earlier than scheduled, and the
Portfolio will be forced to reinvest the unanticipated
payments at generally lower interest rates.
Prepayment risk has two important effects on the
Portfolio. First, when interest rates fall and principal
prepayments are reinvested at lower interest rates, the
income that the Portfolio derives from mortgage-backed
securities is reduced. Second, like other fixed-income
securities, mortgage-backed securities generally decline
in price when interest rates rise. However, because of
prepayment risk, mortgage-backed securities (and thus in
part the share price of the Portfolio and the value of the
Index) will not enjoy as large a gain in market value as
ordinary bonds when interest rates fall. In part to
compensate for prepayment risk, mortgage-backed securities
generally offer higher yields than bonds of comparable
credit quality and maturity.
CREDIT RISK IS
EXPECTED TO BE LOW CREDIT RISK is the possibility that an issuer of
securities held by the Portfolio will be unable to make
payments of either interest or principal. The credit risk
of the Portfolio is a function of the credit quality of
its underlying securities.
The credit quality of the Portfolio is expected to be very
high, and thus credit risk should be low. As of December
31, 1996, the average quality, as rated by Moody's
Investors Service, Inc., was Aaa for the Aggregate Bond
Index.
To a limited extent, the Portfolio is also exposed to
EVENT RISK, the possibility that corporate fixed-income
securities held by the Portfolio may suffer a substantial
decline in credit quality and market value due to a
corporate restructuring. Corporate restructurings, such as
mergers, leveraged buyouts, takeovers or similar events,
are often financed by a significant expansion of corporate
debt. As a result of the added debt burden, the credit
quality and market value of a firm's existing debt
securities may decline significantly. While event risk may
be high for certain corporate and international
(dollar-denominated) securities held by the Portfolio,
event risk for the Portfolio in the aggregate should be
low because of the Portfolio's diversified holdings and
the small percentage of the Portfolio's assets invested in
these securities.
The corporate substitution strategy will increase credit
risk somewhat, as short-term investment grade corporate
bonds are substituted for U.S. Treasury bonds and notes;
however, owing to the diversified nature of the Portfolio,
and policies limiting the maturity and maximum amount of
substitutions, the overall credit and event risk of the
Portfolio is expected to be low.
NO CURRENCY RISK
IN THE PORTFOLIO
While the Aggregate Bond Index does have limited exposure
to international bonds, there is no currency risk
associated with the investments since they are all dollar
denominated.
- - --------------------------------------------------------------------------------
8
<PAGE> 72
WHO SHOULD The Portfolio is designed for individual and institutional
INVEST investors seeking well-diversified, low-cost ways to
participate in the U.S. fixed-income markets. The
INVESTORS SEEKING TO Portfolio will be essentially fully invested at all times.
PARTICIPATE IN THE Because the Total Bond Market Portfolio will represent all
"BOND MARKET" major sectors of the investment grade fixed-income
AS A WHOLE securities market, the Portfolio is a suitable vehicle for
those investors seeking ownership in the "bond market" as
a whole, without regard to particular sectors. The
Portfolio concentrates on bonds of various maturities.
Because of the risks associated with bond investments, the
Portfolio is intended to be a long-term investment vehicle
and is not designed to provide investors with a means of
speculating on short-term bond market movements. Investors
seeking to temporarily (less than two years) gain broad
bond market exposure at a low cost can generate excessive
transaction costs resulting in a risk of poor index
tracking.
As with all longer-term, fixed-income investments, the
share price of the Total Bond Market Portfolio will vary.
Credit risk should be minimal for the Portfolio. The
investment risks are described on page 7.
The Portfolio is also suitable for those investors with
existing common stock holdings who are seeking a
complementary fixed-income investment to create a more
balanced asset mix. Because of potential share price
fluctuations, the Portfolio may be inappropriate for
investors who have short-term objectives or who require
stability of principal.
- - --------------------------------------------------------------------------------
IMPLEMENTATION The Portfolio follows a variety of investment practices in
OF POLICIES an effort to duplicate the total return of its benchmark
index.
THE PORTFOLIO The Portfolio will invest at least 80% or more of its
INVESTS IN FIXED assets in securities included in its benchmark Index. The
INCOME SECURITIES Index measures the total investment return (capital change
plus income) provided by a universe of fixed-income
securities with maturities greater than one year, weighted
by the market value outstanding of each security. The
securities included in the Index generally meet the
following criteria, as defined by Lehman Brothers: an
outstanding market value of at least $100 million; and
investment grade quality -- i.e., rated a minimum of Baa3
by Moody's Investors Service, Inc. or BBB- by Standard &
Poor's Corporation.
THE PORTFOLIO USES A The Portfolio will be unable to hold all of the individual
"SAMPLING" TECHNIQUE issues which comprise the Index because of the large
number of securities involved. Instead, the Portfolio will
hold a representative sample of the securities in its
benchmark index, selecting a few issues to represent
entire "classes" or types of securities in the Index. The
Portfolio will be constructed so as to approximately match
the composition of its benchmark index as described on
page 5 after adjusting for the corporate substitution
policy described on page 5.
At the broadest level, and adjusted for the corporate
substitution strategy, the Portfolio will seek to hold
securities which reflect the weighting of the major asset
classes in its benchmark index. These classes include U.S.
Treasury and agency securities, corporate bonds, and
mortgage-backed securities. If U.S. Treasury and agency
securities represent approximately 60% of the Index's
interest rate risk, then
9
<PAGE> 73
approximately 60% of the Portfolio's interest rate risk
will come from such securities. Similarly, if corporate
bonds represent 20% of the interest rate risk of the
Index, then they will represent approximately 20% of the
interest rate risk of the Portfolio.
Such a sampling technique is expected to be an effective
means of substantially duplicating the income and capital
returns provided by the Index. Over time, the correlation
between the performance of the Portfolio and the Index is
expected to be 0.95 or higher. A correlation of 1.00 would
indicate perfect correlation, which would be achieved when
the net asset value of the Portfolio, including the value
of its dividend and capital gain distributions, increases
or decreases in exact proportion to changes in the Index.
Because the Portfolio incurs operating expenses, as
opposed to the Index, which does not, a perfect
correlation of 1.00 is unlikely to be achieved. The
performance of the Portfolio versus that of the Index is
monitored daily. If a tracking error develops, the
Portfolio is rebalanced to bring it in line with the
Index.
THE PORTFOLIO
MAY INVEST IN
MORTGAGE-BACKED
SECURITIES As part of its effort to duplicate the investment
performance of its Index, the Portfolio may invest in
mortgage-backed securities. Mortgage-backed securities
represent an interest in an underlying pool of mortgages.
Unlike ordinary fixed-income securities, which generally
pay a fixed rate of interest and return principal upon
maturity, mortgage-backed securities repay both interest
income and principal as part of their periodic payments.
Because the mortgages underlying mortgage-backed
certificates can be prepaid at any time by homeowners or
corporate borrowers, mortgage-backed securities give rise
to certain unique "prepayment" risks. See "Investment
Risks."
The Total Bond Market Portfolio may purchase
mortgage-backed securities issued by the Government
National Mortgage Association (GNMA), the Federal Home
Loan Mortgage Corporation (FHLMC), the Federal National
Mortgage Association (FNMA), and the Federal Housing
Authority (FHA). GNMA securities are guaranteed by the
U.S. Government as to the timely payment of principal and
interest; securities from other Government-sponsored
entities are generally not secured by an explicit pledge
of the U.S. Government. The Portfolio may also invest in
conventional mortgage securities, which are packaged by
private corporations and are not guaranteed by the U.S.
Government. Mortgage securities that are guaranteed by the
U.S. Government are guaranteed only as to the timely
payment of principal and interest. The market value of
such securities is not guaranteed and may fluctuate.
THE PORTFOLIO MAY
INVEST IN SHORT-TERM
MONEY MARKET
INSTRUMENTS Although the Portfolio normally seeks to remain
substantially fully invested in securities in the Index,
the Portfolio may invest temporarily in certain short-term
money market instruments. Such securities may be used to
invest uncommitted cash balances or to maintain liquidity
to meet shareholder redemptions. These securities include:
obligations of the United States Government and its
agencies or instrumentalities; commercial paper, bank
certificates of deposit, and bankers' acceptances; and
repurchase agreements collateralized by these securities.
10
<PAGE> 74
THE PORTFOLIO MAY
LEND ITS SECURITIES The Portfolio may lend its investment securities to
qualified institutional investors for either short-term or
long-term purposes of realizing additional income. Loans
of securities by a Portfolio will be collateralized by
cash, letters of credit, or securities issued or
guaranteed by the U.S. Government or its agencies. The
collateral will equal at least 100% of the current market
value of the loaned securities.
PORTFOLIO TURNOVER
IS NOT EXPECTED TO
EXCEED 50% Although it generally seeks to invest for the long term,
the Portfolio retains the right to sell securities
irrespective of how long they have been held. It is
anticipated that the annual portfolio turnover of the
Portfolio will not exceed 50%. A turnover rate of 50%
would occur, for example, if one half of the securities of
the Portfolio were replaced within one year. A portfolio
turnover rate of 100% may be considered high for a bond
index fund and would result in additional expenses.
DERIVATIVE
INVESTING Derivatives are instruments whose values are linked to or
derived from an underlying security or index. The most
common and conventional types of derivative securities are
futures and options.
THE PORTFOLIO MAY
INVEST IN DERIVATIVE
SECURITIES The Portfolio may invest in futures contracts and options,
but only to a limited extent. Specifically, the Portfolio
may enter into futures contracts provided that not more
than 5% of its assets are required as a futures contract
deposit; in addition, the Portfolio may enter into futures
contracts and options transactions only to the extent that
obligations under such contracts or transactions represent
not more than 20% of the Portfolio's assets.
Futures contracts and options may be used for several
common fund management strategies: to maintain cash
reserves while simulating full investment, to facilitate
trading, to reduce transaction costs, or to seek higher
investment returns when a specific futures contract is
priced more attractively than other futures contracts or
the underlying security or index.
The Portfolio may use futures contracts for bona fide
"hedging" purposes. In executing a hedge, a manager sells,
for example, stock index futures to protect against a
decline in the stock market. As such, if the market drops,
the value of the futures position will rise, thereby
offsetting the decline in value of the Portfolio's stock
holdings.
The Portfolio may also invest in other conventional
derivatives designed to replicate the risk/return
characteristics of a conventional fixed income note or
bond. Such derivatives would be managed, in both structure
and concentration, to adhere to the Fund's investment
policy restrictions as to market and credit risk.
THE PORTFOLIO MAY
INVEST IN CMOS The Portfolio also invests in a relatively conservative
class of collateralized mortgage obligations (CMOs) which
feature a high degree of cash flow predictability and less
vulnerability to mortgage prepayment risk. To reduce
credit risk, Vanguard purchases these less risky classes
of collateralized mortgage obligations issued only by
agencies of the U.S. Government or privately-issued
collateralized mortgage obligations that carry
high-quality investment-grade ratings.
FUTURES CONTRACTS
AND OPTIONS POSE
CERTAIN RISKS The primary risks associated with the use of futures
contracts and options are: (i) imperfect correlation
between the change in market value of the bonds held by a
Portfolio and the prices of futures contracts and options,
and (ii) possible lack of a liquid secondary market for a
futures contract and the resulting inability to close a
11
<PAGE> 75
futures position prior to its maturity date. The risk of
imperfect correlation will be minimized by investing in
those contracts whose price fluctuations are expected to
resemble those of the Portfolio's underlying securities.
The risk that the Portfolio will be unable to close out a
futures position will be minimized by entering into such
transactions on a national exchange with an active and
liquid secondary market.
The risk of loss in trading futures contracts in some
strategies can be substantial, due both to the low margin
deposits required and the extremely high degree of
leverage involved in futures pricing. As a result, a
relatively small price movement in a futures contract may
result in immediate and substantial loss (or gain) to the
investor. When investing in futures contracts, the
Portfolio will segregate cash or other liquid portfolio
securities in the amount of the underlying obligation.
- - --------------------------------------------------------------------------------
INVESTMENT
LIMITATIONS
THE PORTFOLIO HAS
ADOPTED CERTAIN
FUNDAMENTAL
LIMITATIONS The Portfolio has adopted certain limitations on its
investment practices. Specifically, the Portfolio will
not:
(a) invest more than 5% of its assets in the securities of
any single issuer except obligations of the United
States Government or government agencies;
(b) purchase more than 5% of the voting securities of any
issuer;
(c) borrow money except from banks for temporary or
emergency (not leveraging) purposes, including the
meeting of redemption requests which might otherwise
require the untimely disposition of securities, in an
amount not in excess of 15% of the value of the
Portfolio's net assets (including the amount borrowed
and the value of any outstanding reverse repurchase
agreements) at the time the borrowing is made.
Whenever borrowings exceed 5% of the value of the
Portfolio's net assets, the Portfolio will not make
any additional investments;
(d) pledge, mortgage or hypothecate its assets to an
extent greater than 5% of the value of its total
assets; and
(e) invest more than 25% of its assets in any one
industry.
These investment limitations are considered at the time
investment securities are purchased. The limitations
described here and in the Statement of Additional
Information are fundamental and may be changed only with
the approval of a majority of the Portfolio's
shareholders.
- - --------------------------------------------------------------------------------
MANAGEMENT
OF THE PORTFOLIO
VANGUARD ADMINISTERS
AND DISTRIBUTES THE
PORTFOLIO The Portfolio is a member of The Vanguard Group of
Investment Companies, a family of more than 30 investment
companies with more than 90 distinct portfolios and total
assets in excess of $250 billion. Through their
jointly-owned subsidiary, The Vanguard Group, Inc.
("Vanguard"), the Fund and the other funds in the Group
obtain at cost virtually all of their corporate
management, administrative, shareholder accounting and
distribution services. Vanguard also provides investment
advisory services on an at-cost basis to certain Vanguard
funds. As a result of Vanguard's unique corporate
structure, the Vanguard funds have costs substantially
lower than those of most competing mutual funds. In 1996,
the average expense ratio (annual costs including advisory
fees divided by total net assets) for the Vanguard funds
amounted to approximately .29% compared to an average of
1.22% for the mutual fund industry (data provided by
Lipper Analytical Services).
12
<PAGE> 76
The Officers of the Fund manage its day-to-day operations
and are responsible to the Fund's Board of Directors. The
Directors set broad policies for the Fund and choose its
Officers. A list of the Directors and Officers of the Fund
and a statement of their present positions and principal
occupations during the past five years can be found in the
Statement of Additional Information.
Vanguard employs a supporting staff of management and
administrative personnel to provide the requisite services
to the funds and also furnishes the funds with necessary
office space, furnishings and equipment. Each fund pays
its share of Vanguard's net expenses, which are allocated
among the funds under methods approved by the Board of
Directors (Trustees) of each fund. In addition, each fund
bears its own direct expenses, such as legal, auditing and
custodian fees.
Vanguard also provides distribution and marketing services
to the Vanguard funds. The funds are available on a
no-load basis (i.e., there are no sales commissions or
12b-1 fees). However, each fund bears its share of the
Group's distribution costs.
- - --------------------------------------------------------------------------------
INVESTMENT
ADVISER
VANGUARD MANAGES
THE FUND'S
INVESTMENTS The Portfolio receives all investment advisory services
from Vanguard's Fixed Income Group. The Fixed Income Group
provides investment advisory services to more than 40
Vanguard money market and bond portfolios, both taxable
and tax-exempt. Total assets under management by
Vanguard's Fixed Income Group were approximately $79
billion as of December 31, 1996. The Portfolio is not
actively managed, but is instead administered by the Fixed
Income Group using computerized, quantitative techniques.
The Fixed Income Group is supervised by the Officers of
the Fund. Ian A. MacKinnon, Senior Vice President of
Vanguard, has been in charge of the Group since its
inception in 1981.
Mr. MacKinnon is responsible for setting the broad
investment strategies employed by the Fund, and for
overseeing the portfolio manager who implements these
strategies on a day-to-day basis.
The Fund's portfolio manager is Kenneth E. Volpert, a
Principal of Vanguard, who serves as portfolio manager of
the Vanguard Variable Insurance Fund -- High-Grade Bond
Portfolio and the bond portion of the Vanguard Balanced
Index Fund. Mr. Volpert began managing the Vanguard Bond
Index Fund in December, 1992. For six years prior to
joining Vanguard, Mr. Volpert was associated with Mellon
Bond Associates.
The Fixed Income Group places all orders for purchases and
sales of portfolio securities. Purchases of portfolio
securities are made either directly from the issuer or
from securities dealers. The Fixed Income Group may sell
portfolio securities prior to their maturity if
circumstances and considerations warrant and if it
believes such dispositions advisable. The Group seeks to
obtain the best available net price and most favorable
execution for all portfolio transactions.
- - --------------------------------------------------------------------------------
13
<PAGE> 77
DIVIDENDS,
CAPITAL GAINS
AND TAXES
THE PORTFOLIO PAYS
MONTHLY DIVIDENDS Dividends consisting of virtually all of the ordinary
income of the Portfolio are declared daily and are payable
to shareholders of record at the time of declaration. Such
dividends are paid on the first business day of each
month. Capital gains distributions, if any, are made
annually.
The Portfolio's dividend and capital gains distributions
may be reinvested in additional shares or received in
cash. See "Choosing a Distribution Option" for a
description of these distribution methods. Shareholders
who choose to reinvest their dividend distributions will
receive a quarterly (not monthly) confirmation statement.
Pursuant to the Internal Revenue Code, certain dividend
and capital gains distributions declared by the Portfolio
during December, if received by shareholders by January
31, are deemed to have been paid by the Portfolio and
received by shareholders on December 31 of the prior year.
The Portfolio intends to continue to qualify for taxation
as a "regulated investment company" under the Internal
Revenue Code so that it will not be subject to federal
income tax to the extent its income is distributed to
shareholders. Dividends paid by the Portfolio from net
investment income and net short-term capital gains,
whether received in cash or reinvested in additional
shares, will be taxable to shareholders as ordinary
income. For corporate investors, dividends paid by the
Portfolio from net investment income will generally not
qualify for the intercorporate dividends-received
deduction.
Distributions paid by the Portfolio from long-term capital
gains, whether received in cash or reinvested in
additional shares, are taxable as long-term capital gains,
regardless of the length of time you have owned shares in
the Portfolio. Capital gains distributions are made when
the Portfolio realizes net capital gains on sales of
portfolio securities during the year. Realized capital
gains are not expected to be a significant or predictable
part of investment return of the Portfolio.
The Portfolio will notify you annually as to the tax
status of dividend and capital gains distributions paid by
the Portfolio.
A CAPITAL GAIN OR
LOSS MAY BE REALIZED
UPON EXCHANGE
OR REDEMPTION A sale of shares of the Portfolio is a taxable event and
may result in a capital gain or loss. A capital gain or
loss may be realized from an ordinary redemption of
shares, or an exchange of shares between two mutual funds
(or two portfolios of a mutual fund).
Dividend distributions, capital gains distributions, and
capital gains or losses from redemptions and exchanges may
be subject to state and local taxes.
The Portfolio is required to withhold 31% of taxable
dividends, capital gains distributions, and redemptions
paid to shareholders who have not complied with IRS
taxpayer identification regulations. You may avoid this
withholding requirement by certifying on your Account
Registration Form your Social Security or Taxpayer
Identification Number and by certifying that you are not
subject to backup withholding.
The Portfolio has obtained a Certificate of Authority to
do business as a foreign corporation in Pennsylvania and
does business and maintains an office in that
14
<PAGE> 78
state. In the opinion of counsel, the shares of the
Portfolio are exempt from Pennsylvania personal property
taxes.
The tax discussion set forth above is included for general
information only. Prospective investors should consult
their own tax advisers concerning the tax consequences of
an investment in the Portfolio.
- - --------------------------------------------------------------------------------
THE SHARE PRICE OF
THE PORTFOLIO The Total Bond Market Portfolio's share price or "net
asset value" per share is calculated by dividing the total
assets of the Portfolio, less all liabilities, by the
total number of shares outstanding. The net asset value
per share is determined as of the close of the New York
Stock Exchange (generally 4:00 p.m. Eastern time) on each
day that the Exchange is open for trading.
Portfolio securities that are listed on a securities
exchange are valued at the last quoted sale price on the
day the valuation is made. Price information on listed
securities is taken from the exchange where the security
is primarily traded. Listed securities that are not traded
on the valuation date and for which market quotations are
available are valued at the mean between the bid and asked
prices. Unlisted securities for which market quotations
are readily available are valued at the latest quoted bid
price.
Bonds and other fixed-income securities may be valued on
the basis of prices provided by a pricing service when
such prices are believed to reflect the fair market value
of such securities. The prices provided by a pricing
service may be determined without regard to bid or last
sale prices of each security but take into account
institutional-size transactions in similar groups of
securities as well as any developments related to specific
securities. Short-term instruments (those with remaining
maturities of 60 days or less) may be valued at cost, plus
or minus any amortized discount or premium, which
approximates market. Other securities, including
restricted securities for which no quotations are readily
available, are valued at fair value as determined in good
faith by the Board of Directors.
The Portfolio's share price can be found daily in the
mutual fund listings of most major newspapers under the
heading of Vanguard.
- - --------------------------------------------------------------------------------
GENERAL
INFORMATION The Total Bond Market Portfolio Institutional Shares is a
class of shares offered by the Vanguard Bond Index Fund,
Inc., a Maryland Corporation. The Articles of
Incorporation permit the Directors to issue 2,000,000,000
shares of common stock, with a $.001 par value. The Board
of Directors has the power to designate one or more
Portfolios and classes of shares of common stock of such
Portfolios and to classify or reclassify any unissued
shares with respect to such Portfolios and classes.
Currently the Fund is offering shares of four series. The
Total Bond Market Portfolio offers two separate classes of
shares; the Total Bond Market Portfolio which is open to
investors with a minimum investment of $3,000, and the
Total Bond Market Portfolio Institutional Shares which are
designed for investors who meet certain administrative
criteria and a minimum initial investment of $10 million.
15
<PAGE> 79
The shares of the Portfolio are fully paid and
non-assessable; have no preference as to conversion,
exchange, dividends, retirement or other features; and
have no pre-emptive rights. Such shares have
non-cumulative voting rights, meaning that the holders of
more than 50% of the shares voting for the election of
Directors can elect 100% of the Directors if they so
choose.
Annual meetings of shareholders will not be held except as
required by the Investment Company Act of 1940 and other
applicable law. An annual meeting will be held to vote on
the removal of a Director or Directors of the Fund if
requested in writing by the holders of not less than 10%
of the outstanding shares of the Fund.
All securities and cash for the Total Bond Market
Portfolio are held by Chase Manhattan Bank, New York, NY.
CoreStates Bank, N.A. Philadelphia, PA, holds daily cash
balances that are used by the Fund's Portfolios to invest
in repurchase agreements or securities acquired in these
transactions. The Vanguard Group, Inc., Valley Forge, PA,
serves as the Fund's Transfer and Dividend Disbursing
Agent. Price Waterhouse LLP, serves as independent
accountants for the Fund and will audit its financial
statements annually. The Fund is not involved in any
litigation.
- - --------------------------------------------------------------------------------
16
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SHAREHOLDER GUIDE
OPENING AN
ACCOUNT AND
PURCHASING
SHARES To open a new account, complete an Account Registration
Form and mail it to:
<TABLE>
<S> <C>
VANGUARD FINANCIAL CENTER
VANGUARD TOTAL BOND MARKET PORTFOLIO INSTITUTIONAL
SHARES
ATTN: INSTITUTIONAL INVESTOR SERVICES
P.O. BOX 1472
VALLEY FORGE, PA 19482
</TABLE>
For express or registered mail, send your registration
form to: Vanguard Financial Center, Vanguard Total Bond
Market Portfolio Institutional Shares, Attn: Institutional
Investor Services, 100 Vanguard Boulevard, Malvern, PA
19355.
Once the account has been opened, Vanguard will assign an
Institutional Investor Services Representative for future
account transactions.
Shares of the Portfolio may be purchased by Federal Funds
wire. The minimum initial investment for the Portfolio is
$10 million. Please contact your Institutional Investor
Services Representative or call the Vanguard Group at
1-800-523-8066 to notify the Portfolio of the intended
investment and to receive an account number. Wiring
instructions are provided below.
Because of the risks associated with bond investments, the
Portfolio is intended to be a long-term investment vehicle
and is not designed to provide investors with a means of
speculating on short-term bond market movements. Excessive
trading results in higher transaction costs paid for by
the remaining shareholders. Consequently, the Fund
reserves the right to assess a transaction fee (payable to
the Portfolio) or to reject any specific purchase (and
exchange purchase) request. Shareholders subject to any
transaction fee will be notified by the Fund. The Fund
also reserves the right to suspend the offering of shares
for a period of time.
The Portfolio's shares are purchased at the
next-determined net asset value after your investment has
been received. See "When Your Account Will be Credited".
The Fund is offered on a no-load basis (i.e., there are no
sales commissions or 12b-1 fees).
IMPORTANT NOTE
ON EXPENSES The Portfolio reserves the right to deduct a portfolio
transaction fee of 0.18% of the entire purchase from
purchases of the shares of the Portfolio which exceed or
are expected to exceed $50 million if such purchases are
reasonably deemed to be disruptive to efficient portfolio
management. The fee will be paid to the Portfolio to
offset transaction costs of buying securities. The fee is
not paid to Vanguard and is not a sales charge. Purchasers
of shares of a Portfolio may determine whether a fee will
be charged by calling their Institutional Investor Service
Representative in advance of their purchase.
17
<PAGE> 81
<TABLE>
<S> <C> <C>
ADDITIONAL Please contact your Additional investments may be made at any
INVESTMENTS Institutional Investor time by wiring monies to Vanguard. To
Services Representative ensure prompt investment, please notify
your Institutional Investor Services
Representative in advance of the wire.
-----------------------------------------------------------------------
PURCHASING BY WIRE CORESTATES BANK, N.A.
Money should be ABA 031000011
wired to: CORESTATES ACCT NO 0101 9897
ATTN VANGUARD
BEFORE WIRING VANGUARD BOND INDEX FUND
Please contact your TOTAL BOND MARKET PORTFOLIO INSTITUTIONAL SHARES
Institutional Investor ACCOUNT NUMBER
Services Representative ACCOUNT REGISTRATION
</TABLE>
To assure proper receipt, please be sure your bank
includes the name of the Portfolio, the account number
Vanguard has assigned to you and the eight-digit
CoreStates number. If you are opening a new account,
please complete the Account Registration Form and mail it
to the "New Account" address above after completing your
wire arrangement. NOTE: Federal Funds wire purchase orders
will be accepted only when the Fund and Custodian Bank are
open for business.
PURCHASING BY
EXCHANGE (FROM A
VANGUARD ACCOUNT) Purchases may also be made by exchange from an existing
Vanguard Fund account. However, the Portfolio reserves the
right to refuse any exchange purchase request. Please call
your Institutional Investor Services Representative or
call Participant Services at 1-800-523-8066 for more
information.
DIVIDEND
DISTRIBUTIONS
Dividend distributions paid by the Portfolio will be
automatically reinvested in additional Portfolio shares. A
cash dividend option is also available from the Portfolio.
Please contact your Institutional Investor Services
Representative for further information.
CERTIFICATES
Share certificates will not be issued for the Portfolio.
ELECTRONIC
PROSPECTUS
DELIVERY
If you would prefer to receive a prospectus for the Fund
or any of the Vanguard Funds in an electronic format.
Please call 1-800-231-7870 for additional information. If
you elect to do so, you may also receive a paper copy of
the prospectus, by calling 1-800-523-8066.
- - --------------------------------------------------------------------------------
DIVIDEND AND
TRADE DATE POLICY Investments will qualify for dividends on the date of
purchase under the following conditions:
- FOR INVESTMENTS OF $5 MILLION OR MORE: The Portfolio
must be notified of the intended purchase by 4:00 p.m.
(Eastern time) on the prior business day and the Federal
Funds wire must be received by Vanguard by 4:00 p.m.
(Eastern time) on the day of purchase.
18
<PAGE> 82
- FOR INVESTMENTS OF LESS THAN $5 MILLION: The Portfolio
must be notified of the intended purchase by 10:45 a.m.
(Eastern time) on the day of purchase and the Federal
Funds wire must be received by 4:00 p.m. (Eastern time).
Generally, if these requirements are not met, an
investment will begin to earn dividends on the business
day following receipt of a Federal Funds wire.
The trade date, the day on which an account is credited,
if generally the day on which the Portfolio receives an
investment in the form of Federal Funds. For purchases by
Federal Funds wire or by exchange, the Portfolio is
credited immediately with Federal Funds. If a purchase by
Federal Funds wire or exchange is received by the close of
the Exchange, the trade date is the day of receipt. If a
purchase is received after the close of the Exchange, the
trade date is the business day following the receipt of
the wire or exchange.
The Portfolio reserves the right to suspend the offering
of shares for a period of time. The Portfolio also
reserves the right to reject any specific purchase
request.
- - --------------------------------------------------------------------------------
SELLING SHARES
WIRE PROCEEDS Any portion of an account may be withdrawn by contacting
your Institutional Investor Services Representative. The
redemption proceeds will be wired to the bank account
indicated on the Account Registration Form on the business
day following receipt of a request.
For a redemption of an entire account balance, accrued
dividends will not be included in the initial redemption
wire, but will be sent separately by check or wire.
Wire redemptions of less than $5,000 are subject to a $5
charge deducted from the principal in your account. There
is no charge for wire redemptions of $5,000 or more, or
for subsequent dividend wires.
For our mutual protection, wiring instructions must be on
file at Vanguard prior to executing any redemption
request. A request to change the bank account associated
with the wire redemption feature or a request to wire
funds to a bank other than that on file must be received
in writing. A signature guarantee of an authorized officer
is required if the bank registration is not identical to
the Vanguard Fund account registration.
- - --------------------------------------------------------------------------------
SELLING BY EXCHANGE Shares may also be sold by making an exchange to another
Vanguard Fund account. For further information, please
contact your Institutional Investor Services
Representative.
- - --------------------------------------------------------------------------------
OTHER REDEMPTION
INFORMATION
The Portfolio may suspend the redemption rights or
postpone payment at times when the New York Stock Exchange
is closed or under any emergency circumstances as
determined by the United States Securities and Exchange
Commission.
- - --------------------------------------------------------------------------------
19
<PAGE> 83
REQUIRED
CONVERSION TO
INDIVIDUAL
SHARE CLASS The Portfolio reserves the right to convert an investor's
Total Bond Market Portfolio Institutional Shares into
Total Bond Market Portfolio Shares if the investor's
account balance falls below $10 million. Any such
conversion will be preceded by written notice to the
investor.
- - --------------------------------------------------------------------------------
EXCHANGING
SHARES Shares of the Portfolio may be exchanged for those of
other available Vanguard Portfolios or classes of
Portfolios either by telephone or mail. Contact your
Institutional Investor Services Representative for further
information. Telephone exchange requests must ordinarily
be received by the close of trading on the New York Stock
Exchange (generally 4:00 p.m. Eastern time) in order to be
processed on the date of receipt. The new Fund account
will bear the identical registration of the Vanguard Total
Bond Market Portfolio Institutional Shares account.
Telephone exchanges are not permitted for several Vanguard
Funds, and there also may be restrictions on new
investments in certain Funds. Large exchange requests
(i.e., those over $250,000) require prior approval by
Vanguard on behalf of the Fund. Contact your Institutional
Investor Services Representative for full information,
including a prospectus.
Neither the Portfolio nor Vanguard is responsible for the
authenticity of exchange instructions received by
telephone. Every effort will be made to maintain the
exchange privilege. However, the Portfolio reserves the
right to revise or terminate its provisions, limit the
amount of or reject any exchange, as deemed necessary, at
any time.
- - --------------------------------------------------------------------------------
IMPORTANT
INFORMATION
ABOUT TELEPHONE
TRANSACTIONS The ability to initiate redemptions (except wire
redemptions) and exchanges by telephone is automatically
established on your account unless you request in writing
that telephone transactions on your account not be
permitted. The ability to initiate wire redemptions by
telephone will be established on your account only if you
specifically elect this option in writing.
To protect your account from losses resulting from
unauthorized or fraudulent telephone instructions,
Vanguard adheres to the following security procedures:
1. SECURITY CHECK. To request a transaction by telephone,
the caller must know (i) the name of the Portfolio;
(ii) the 10-digit account number; (iii) the exact name
and address used in the registration; and (iv) the
Social Security or Employer Identification number
listed on the account.
2. PAYMENT POLICY. The proceeds of any telephone
redemption by mail will be made payable to the
registered shareowner and mailed to the address of
record, only. In the case of a telephone redemption by
wire, the wire transfer will be made only in accordance
with the shareowner's prior written instructions.
Neither the Portfolio nor Vanguard will be responsible for
the authenticity of transaction instructions received by
telephone, provided that reasonable security procedures
have been followed. Vanguard believes that the security
procedures described above are reasonable, and that if
such procedures are followed, you will
20
<PAGE> 84
bear the risk of any losses resulting from unauthorized or
fraudulent telephone transactions on your account.
- - --------------------------------------------------------------------------------
OTHER ACCOUNT
INFORMATION For corporate investors, a current corporate resolution
must be maintained on file at Vanguard at all times. The
initial application serves as a corporate resolution. Any
revisions to a corporate resolution must be submitted to
your Institutional Investor Services Representative at
Vanguard.
To change the registration of an account, a request must
be submitted in writing to Vanguard and include the
following information: the account number and portfolio
name; authorized signatures; any applicable signature
guarantees; and other supporting legal documents as
necessary.
All requests should be mailed to the following address:
VANGUARD FINANCIAL CENTER
ATTN: INSTITUTIONAL INVESTOR SERVICES
P.O. BOX 1472
VALLEY FORGE, PA 19482
- - --------------------------------------------------------------------------------
21
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<PAGE> 86
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<PAGE> 87
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<PAGE> 88
- - --------------------------------------------------------------------------------
<TABLE>
<S> <C>
VANGUARD LOGO
----------------------------
THE VANGUARD GROUP
Institutional Investor Service
Vanguard Financial Center
P.O. Box 2900
Valley Forge, PA 19482
INSTITUTIONAL PARTICIPANT
SERVICES DEPARTMENT:
1-800-523-8066
TRANSFER AGENT:
The Vanguard Group, Inc.
Vanguard Financial Center
Valley Forge, PA 19482
IC84
</TABLE>
- - --------------------------------------------------------------------------------
<PAGE> 89
PART B
VANGUARD BOND INDEX FUND
STATEMENT OF ADDITIONAL INFORMATION
MARCH 28, 1997
This Statement is not a prospectus, but should be read in conjunction with
the Fund's current Prospectus (dated March 28, 1997). To obtain the Prospectus
please call:
VANGUARD INVESTOR INFORMATION CENTER
1-800-662-7447
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Investment Policies....................................................................... 1
Investment Limitations.................................................................... 5
Yield and Total Return.................................................................... 6
Purchase of Shares........................................................................ 6
Redemption of Shares...................................................................... 7
Management of the Fund.................................................................... 8
Portfolio Transactions.................................................................... 10
Performance Measures...................................................................... 11
Financial Statements...................................................................... 13
Appendix -- Description of Bond Ratings................................................... 13
</TABLE>
INVESTMENT POLICIES
REPURCHASE AGREEMENTS Each Portfolio of the Fund may invest in repurchase
agreements with commercial banks, brokers or dealers to generate income from its
excess cash balances. A repurchase agreement is an agreement under which a
Portfolio acquires a money market instrument (generally a security issued by the
U.S. Government or an agency thereof, a banker's acceptance or a certificate of
deposit) from a Federal Reserve member bank with minimum assets of at least $2
billion or a registered securities dealer, subject to resale to the seller at an
agreed upon price and date (normally, the next business day). A repurchase
agreement may be considered a loan collateralized by securities. The resale
price reflects an agreed upon interest rate effective for the period the
instrument is held by a Portfolio and is unrelated to the interest rate on the
underlying instrument. In these transactions, the securities acquired by a
Portfolio (including accrued interest earned thereon) must have a total value in
excess of the value of the repurchase agreement and are held by a custodian bank
until repurchased. In addition, the Fund's Board of Directors will monitor each
Portfolio's repurchase agreement transactions generally and will establish
guidelines and standards for review of the creditworthiness of any bank, broker
or dealer party to a repurchase agreement with a Portfolio. No more than an
aggregate of 15% of a Portfolio's assets, at the time of investment, will be
invested in repurchase agreements having maturities longer than seven days and
securities subject to legal or contractual restrictions on resale, or for which
there are no readily available market quotations. From time to time, the Fund's
Board of Directors may determine that certain restricted securities known as
Rule 144A securities are liquid and not subject to the 15% limitation described
above.
The use of repurchase agreements involves certain risks. For example, if
the other party to the agreement defaults on its obligation to repurchase the
underlying security at a time when the value of the security has declined, a
Portfolio may incur a loss upon disposition of the security. If the other party
to the agreement becomes insolvent and subject to liquidation or reorganization
under the Bankruptcy Code or other laws, a court may determine that the
underlying security is collateral for a loan by a Portfolio not within its
control and therefore the Portfolio may not be able to substantiate its interest
in the underlying security and may be
1
<PAGE> 90
deemed an unsecured creditor of the other party to the agreement. While the
Fund's management acknowledges these risks, it is expected that they can be
controlled through careful monitoring procedures.
LENDING OF SECURITIES Each Portfolio of the Fund may lend its securities
to qualified institutional investors who need to borrow securities in order to
complete certain transactions, such as covering short sales, avoiding failures
to deliver securities or completing arbitrage operations. By lending its
portfolio securities, a Portfolio attempts to increase its net investment income
through the receipt of interest on the loan. Any gain or loss in the market
price of the securities loaned that might occur during the term of the loan
would be for the account of the Portfolio. A Portfolio may lend its portfolio
securities to qualified brokers, dealers, banks or other financial institutions,
so long as the terms, the structure and the aggregate amount of such loans are
not inconsistent with the Investment Company Act of 1940, or the Rules and
Regulations or interpretations of the Securities and Exchange Commission (the
"Commission") thereunder, which currently require that (a) the borrower pledge
and maintain with a Portfolio collateral consisting of cash, a letter of credit
issued by a domestic U.S. bank, or securities issued or guaranteed by the United
States Government having at all times not less than 100% of the value of the
securities loaned, (b) the borrower add to such collateral whenever the price of
the securities loaned rises (i.e. the borrower "marks to the market" on a daily
basis), (c) the loan be made subject to termination by a Portfolio at any time
and (d) the Portfolio receive reasonable interest on the loan (which may include
the Portfolio's investing any cash collateral in interest bearing short-term
investments), any distribution on the loaned securities and any increase in
their market value. Loan arrangements made by a Portfolio will comply with all
other applicable regulatory requirements, including the rules of the New York
Stock Exchange, which rules presently require the borrower, after notice, to
redeliver the securities within the normal settlement time of three business
days. All relevant facts and circumstances, including the creditworthiness of
the broker, dealer or institution, will be considered in making decisions with
respect to the lending of securities, subject to review by the Fund's Board of
Directors.
At the present time, the Staff of the Commission does not object if an
investment company pays reasonable negotiated fees in connection with loaned
securities, so long as such fees are set forth in a written contract and
approved by the investment company's Directors. In addition, voting rights pass
with the loaned securities, but if a material event will occur affecting an
investment on loan, the loan must be called and the securities voted.
FUTURES CONTRACTS AND OPTIONS Each Portfolio of the Fund may enter into
futures contracts, options, and options on futures contracts for the purpose of
remaining fully invested and reducing transactions costs. Futures contracts
provide for the future sale by one party and purchase by another party of a
specified amount of a specific security at a specified future time and at a
specified price. Futures contracts which are standardized as to maturity date
and underlying financial instrument are traded on national futures exchanges.
Futures exchanges and trading are regulated under the Commodity Exchange Act by
the Commodity Futures Trading Commission ("CFTC"), a U.S. Government Agency.
Assets committed to futures contracts will be segregated at the Fund's custodian
bank to the extent required by law.
Although futures contracts by their terms call for actual delivery or
acceptance of the underlying securities, in most cases the contracts are closed
out before the settlement date without the making or taking of delivery. Closing
out an open futures position is done by taking an opposite position ("buying" a
contract which has previously been "sold," or "selling" a contract previously
purchased) in an identical contract to terminate the position. Brokerage
commissions are incurred when a futures contract is bought or sold.
Futures traders are required to make a good faith initial margin deposit in
cash or securities with a broker or custodian to initiate and maintain open
positions in futures contracts. A margin deposit is intended to assure
completion of the contract (delivery or acceptance of the underlying security)
if it is not terminated prior to the specified delivery date. Minimal initial
margin requirements are established by the futures exchange and may be changed.
Brokers may establish deposit requirements which are higher than the exchange
minimums. Futures contracts are customarily purchased and sold with deposits
that may range upward from less than 5% of the value of the contract being
traded. A Portfolio's initial margin requirement is ordinarily in the form of
portfolio securities. These securities are segregated in a separate custody
account at the Portfolio's custodian bank; they are not delivered to the futures
dealer.
2
<PAGE> 91
After a futures contract position is opened, the value of the contract is
marked to market daily. If the futures contract price changes to the extent that
the margin on deposit does not satisfy margin requirements, payment of
additional "variation" margin will be required. Conversely, change in the
contract value may reduce the required margin, resulting in a repayment of
excess margin to the contract holder. Variation margin payments are made to and
from the futures broker for as long as the contract remains open. A Portfolio
expects to earn interest income on its initial margin deposits.
Traders in futures contracts may be broadly classified as either "hedgers"
or "speculators." Hedgers use the futures markets primarily to offset
unfavorable changes in the value of securities otherwise held for investment
purposes or expected to be acquired by them. Speculators are less inclined to
own the securities underlying the futures contracts which they trade, and use
futures contracts with the expectation of realizing profits from fluctuations in
the prices of underlying securities. The Portfolios intend to use futures
contracts only for bona fide hedging purposes.
Regulations of the CFTC applicable to the Fund require that all of its
futures transactions constitute bona fide hedging transactions. A Portfolio will
only sell futures contracts to protect securities it owns against price declines
or purchase contracts to protect against an increase in the price of securities
it intends to purchase. As evidence of this hedging interest, a Portfolio
expects that approximately 75% of its futures contract purchases will be
"completed," that is, equivalent amounts of related securities will have been
purchased or are being purchased by a Portfolio upon sale of open futures
contracts.
Although techniques other than the sale and purchase of futures contracts
could be used to control a Portfolio's exposure to market fluctuations, the use
of futures contracts may be a more effective means of hedging this exposure.
While a Portfolio will incur commission expenses in both opening and closing out
futures positions, these costs are lower than transaction costs incurred in the
purchase and sale of the underlying securities.
RESTRICTIONS ON THE USE OF FUTURES CONTRACTS A Portfolio will not enter
into futures contract transactions to the extent that, immediately thereafter,
the sum of its initial margin deposits on open contracts exceeds 5% of the
market value of its total assets. In addition, a Portfolio will not enter into
futures contracts to the extent that its outstanding obligations to purchase
securities under these contracts would exceed 20% of its total assets. Assets
committed to futures contracts or options will be held in a segregated account
at the Portfolio's custodian bank.
RISK FACTORS IN FUTURES TRANSACTIONS Positions in futures contracts may be
closed out only on an Exchange which provides a secondary market for such
futures. However, there can be no assurance that a liquid secondary market will
exist for any particular futures contract at any specific time. Thus, it may not
be possible to close a futures position. In the event of adverse price
movements, a Portfolio would continue to be required to make daily cash payments
to maintain its required margin. In such situations, if a Portfolio has
insufficient cash, it may have to sell portfolio securities to meet daily margin
requirements at a time when it may be disadvantageous to do so. In addition, a
Portfolio may be required to make delivery of the instruments underlying futures
contracts it holds. The inability to close options and futures positions also
could have an adverse impact on the ability to effectively hedge it.
A Portfolio will minimize the risk that it will be unable to close out a
futures contract by only entering into futures which are traded on national
futures exchanges and for which there appears to be a liquid secondary market.
The risk of loss in trading futures contracts in some strategies can be
substantial, due both to the low margin deposits required, and the extremely
high degree of leverage involved in futures pricing. As a result, a relatively
small price movement in a futures contract may result in immediate and
substantial loss (as well as gain) to the investor. For example, if at the time
of purchase, 10% of the value of the futures contract is deposited as margin, a
subsequent 10% decrease in the value of the futures contract would result in a
total loss of the margin deposit, before any deduction for the transaction
costs, if the account were then closed out. A 15% decrease would result in a
loss equal to 150% of the original margin deposit if the contract were closed
out. Thus, a purchase or sale of a futures contract may result in losses in
excess of the amount invested in the
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<PAGE> 92
contract. However, because the futures strategies of the Fund are engaged in
only for hedging purposes, the Adviser does not believe that the Portfolios are
subject to the risks of loss frequently associated with futures transactions. A
Portfolio would presumably have sustained comparable losses if, instead of the
futures contract, it had invested in the underlying financial instrument and
sold it after the decline.
Utilization of futures transactions by a Portfolio does involve the risk of
imperfect or no correlation where the securities underlying futures contracts
have different maturities than the portfolio securities being hedged. It is also
possible that a Portfolio could both lose money on futures contracts and also
experience a decline in value of its portfolio securities. There is also the
risk of loss by a Portfolio of margin deposits in the event of bankruptcy of a
broker with whom a Portfolio has an open position in a futures contract or
related option. Additionally, investments in futures contracts and options
involve the risk that the investment adviser will incorrectly predict stock
market and interest rate trends.
Most futures exchanges limit the amount of fluctuation permitted in futures
contract prices during a single trading day. The daily limit establishes the
maximum amount that the price of a futures contract may vary either up or down
from the previous day's settlement price at the end of a trading session. Once
the daily limit has been reached in a particular type of contract, no trades may
be made on that day at a price beyond that limit. The daily limit governs only
price movement during a particular trading day and therefore does not limit
potential losses, because the limit may prevent the liquidation of unfavorable
positions. Futures contract prices have occasionally moved to the daily limit
for several consecutive trading days with little or no trading, thereby
preventing prompt liquidation of future positions and subjecting some futures
traders to substantial losses.
FEDERAL TAX TREATMENT OF FUTURES CONTRACTS A Portfolio is required for
federal income tax purposes to recognize as income for each taxable year its net
unrealized gains and losses on certain futures contracts as of the end of the
year as well as those actually realized during the year. In most cases, any gain
or loss recognized with respect to a futures contract is considered to be 60%
long-term capital gain or loss and 40% short-term capital gain or loss, without
regard to the holding period of the contract. Furthermore, sales of futures
contracts which are intended to hedge against a change in the value of
securities held by a Portfolio may affect the holding period of such securities
and, consequently, the nature of the gain or loss on such securities upon
disposition. A Portfolio may be required to defer the recognition of losses on
futures contracts to the extent of any unrecognized gains on related positions
held by the Portfolio.
In order for a Portfolio to continue to qualify for Federal income tax
treatment as a regulated investment company, at least 90% of its gross income
for a taxable year must be derived from qualifying income; i.e., dividends,
interest, income derived from loans of securities, gains from the sale of
securities or of foreign currencies or other income derived with respect to a
Portfolio's business of investing in securities. In addition, gains realized on
the sale or other disposition of securities held for less than three months must
be limited to less than 30% of a Portfolio's annual gross income. It is
anticipated that any net gain realized from the closing out of futures contracts
will be considered gain from the sale of securities and therefore be qualifying
income for purposes of the 90% requirement. In order to avoid realizing
excessive gains on securities held less than three months, a Portfolio may be
required to defer the closing out of futures contracts beyond the time when it
would otherwise be advantageous to do so. It is anticipated that unrealized
gains on futures contracts, which have been open for less than three months as
of the end of a Portfolio's fiscal year and which are recognized for tax
purposes, will not be considered gains on sales of securities held less than
three months for the purpose of the 30% test.
A Portfolio will distribute to shareholders annually any net capital gains
which have been recognized for federal income tax purposes (including unrealized
gains at the end of a Portfolio's fiscal year) on futures transactions. Such
distributions will be combined with distributions of capital gains realized on a
Portfolio's other investments and shareholders will be advised on the nature of
the distributions.
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<PAGE> 93
INVESTMENT LIMITATIONS
The following restrictions and fundamental policies cannot be changed
without approval of the holders of a majority of the outstanding shares of a
Portfolio (as defined in the Investment Company Act of 1940). Each Portfolio may
not:
1) change its investment objective without shareholder approval, which is
to duplicate the total investment return (capital change plus income)
of publicly-traded investment grade fixed-income securities by
attempting to duplicate the investment performance of an investment
grade bond index using index matching and index sampling techniques;
2) invest in commodities or purchase real estate, although it may purchase
and sell interest rate futures contracts;
3) purchase securities on margin or sell securities short (the deposit or
payment by a Portfolio of initial or variation margin in order to
engage in an interest-rate futures contract is not considered the
purchase of a security on margin);
4) purchase more than 5% of the outstanding voting securities of any
company;
5) invest more than 5% of the value of its total assets in the securities
of any single issuer except obligations of the U.S. Government and its
instrumentalities;
6) borrow money, except that a Portfolio may borrow from banks (or through
reverse repurchase agreements), for temporary or emergency (not
leveraging) purposes, including the meeting of redemption requests
which might otherwise require the untimely disposition of securities,
in an amount not exceeding 15% of the value of a Portfolio's total
assets (including the amount borrowed) at the time the borrowing is
made. Whenever borrowings exceed 5% of the value of a Portfolio's total
assets, a Portfolio will not make any additional investments;
7) pledge, mortgage, or hypothecate any of its assets to an extent greater
than 5% of the value of its total assets;
8) issue senior securities. Collateral arrangements with regard to initial
and variation margin on interest-rate futures contracts shall not be
considered issuance of a senior security;
9) engage in the business of underwriting securities issued by other
persons, except to the extent that a Portfolio may technically be
deemed to be an underwriter under the Securities Act of 1933, as
amended, in disposing of portfolio securities;
10) purchase or otherwise acquire any security if, as a result, more than
15% of its net assets (including any investment in The Vanguard Group,
Inc.) would be invested in securities that are illiquid;
11) invest for the purpose of controlling management of any company;
12) invest in securities of other investment companies, except as they may
be acquired as a part of a merger, consolidation or acquisition of
assets or otherwise to the extent permitted by Section 12 of the 1940
Act. A Portfolio will invest only in investment companies which have
investment objectives and investment policies consistent with those of
the Portfolio;
13) have dealings on behalf of a Portfolio with officers and directors of
the Fund, except for the purchase or sale of securities on an agency or
commission basis;
14) make loans to any officers, directors or employees of the Fund;
15) invest in assessable securities or securities involving unlimited
liability on the part of the holders thereof;
16) make loans except (i) by purchasing bonds, debentures or similar
obligations (including repurchase agreements, which are either publicly
distributed or customarily purchased by institutional investors) and
(ii) by lending its securities to banks, brokers, dealers and other
financial institutions so
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<PAGE> 94
long as such loans are not inconsistent with the Investment Company Act
or the Rules and Regulations or interpretations of the Commission
thereunder;
17) invest directly in oil, gas or other mineral exploration or development
programs.
The investment limitations set forth above are considered at the time that
a Portfolio purchases securities. Notwithstanding these limitations, a Portfolio
may own all or any portion of the securities of, or make loans to, or contribute
to the costs or other financial requirements of any company which will be wholly
owned by the Fund and one or more other investment companies and is primarily
engaged in the business of providing, at-cost, management, administrative,
distribution or related services to the Fund and other investment companies. See
"The Vanguard Group." As a non-fundamental policy, the Fund will not invest more
than 5% of its assets in the securities of companies that, together with
predecessors, have been in continuous operation for less than three years.
YIELD AND TOTAL RETURN
The yield of the Total Bond Market Portfolio for the 30-day period ended
December 31, 1996 was +6.46%. The yield of the Short-Term Bond,
Intermediate-Term Bond, Long-Term Bond and the Total Bond Market Portfolio
Institutional Shares Portfolios for the 30-day period ended December 31, 1996
was +5.85%, +6.47%, +6.80% and +6.56% respectively. Yields are calculated daily
and premiums and discounts on asset-backed securities are not amortized.
The average annual total return of the Total Bond Market Portfolio for the
one- and five-year periods ended December 31, 1996 and since its inception on
December 11, 1986 was +3.58%*, +6.97%* and +8.02%*, respectively. The average
annual total return of the Short-Term Bond Portfolio for the one-year period
ended December 31, 1996 and since its inception on March 1, 1994 was +4.55%* and
+5.88%*. The average annual total return of the Intermediate-Term Bond Portfolio
for the one-year period ended December 31, 1996 and since its inception on March
1, 1994 was +2.55%* and +6.82%*. The average annual total return of the
Long-Term Bond Portfolio for the one-year period ended December 31, 1996 and
since its inception on March 1, 1994 was -0.26%* and +7.73%*. The average annual
total return of the Total Bond Market Portfolio Institutional Shares Portfolio
for the one-year period ended December 31, 1996 and since its inception on
September 18, 1995 was +3.68% and +6.46%. Total return is computed by finding
the average compounded rates of return over the one-year and since inception
periods set forth above that would equate an initial amount invested at the
beginning of the periods to the ending redeemable value of the investment.
*Performance figures are not adjusted for the annual account maintenance
fee of $10.
PURCHASE OF SHARES
The Fund reserves the right in its sole discretion (i) to suspend the
offerings of its shares, (ii) to reject purchase orders when in the judgment of
management such rejection is in the best interest of the Fund, and (iii) to
reduce or waive the minimum investment for or any other restrictions on initial
and subsequent investments as well as redemption fees for certain fiduciary
accounts or under circumstances where certain economies can be achieved in sales
of a Portfolio's shares. The Fund reserves the right to impose a transaction fee
on purchases of Portfolio shares totaling more than $5 million made during any
six-month period. Such fee would be payable to the Portfolio to offset the
transaction cost associated with securities investments.
The Fund reserves the right to deduct a portfolio transaction fee from
purchases of the shares of each Portfolio. Fees will not be charged on any
investment less than $50 million for the Total Bond Market Portfolio; $15
million for the Short-Term Bond Portfolio; $15 million for the Intermediate-Term
Bond Portfolio; and $2 million for the Long-Term Bond Portfolio. Fees may be
charged on the entire lump-sum purchase for transactions that exceed or are
expected to exceed over the next twelve months the amount indicated for each
Portfolio if such purchases are reasonably deemed to be disruptive to efficient
portfolio management. Lump-sum purchases exceeding the indicated amount for each
Portfolio may be considered disruptive, for example, if the portfolio manager
incurs significant transaction costs in purchasing portfolio securities needed
to match the investment performance of the respective benchmark index. If such
purchases can be offset by redemp-
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<PAGE> 95
tions of shares by other shareholders, such fee may be waived or reduced. A
prospective investor may determine whether a fee will be charged by calling
their client representative or plan sponsor in advance of their purchase. The
fee, if imposed, will be 0.18% for the Total Bond Market Portfolio; 0.23% for
the Intermediate-Term Bond Portfolio; 0.15% for the Short-Term Bond Portfolio;
and 0.20% for the Long-Term Bond Portfolio. The fees are based on the portfolio
manager's estimate of transaction costs, which depends on the types of
securities in which each Portfolio invests.
REDEMPTION OF SHARES
The Fund may suspend redemption privileges or postpone the date of payment
(i) during any period that the New York Stock Exchange is closed, or trading on
the Exchange is restricted as determined by the Securities and Exchange
Commission (the "Commission"), (ii) during any period when an emergency exists
as defined by the rules of the Commission as a result of which it is not
reasonably practicable for the Portfolio to dispose of securities owned by it,
or fairly to determine the value of its assets, and (iii) for such other periods
as the Commission may permit.
Each Portfolio has made an election with the Commission to pay in cash all
redemptions requested by any shareholder of record limited in amount during any
90-day period to the lesser of $250,000 or 1% of the net assets of the Portfolio
at the beginning of such period. Such commitment is irrevocable without the
prior approval of the Commission. Redemptions in excess of the above limits may
be paid in whole or in part, in investment securities or in cash, as the
Directors may deem advisable; however, payment will be made wholly in cash
unless the Directors believe that economic or market conditions exist which
would make such a practice detrimental to the best interests of the Fund. If
redemptions are paid in investment securities, such securities will be valued as
set forth in the Prospectus under "The Share Price of Each Portfolio" and a
redeeming shareholder would normally incur brokerage expenses if he converted
these securities to cash.
No charge is made by the Portfolio for redemptions. Any redemption may be
more or less than the shareholder's cost depending on the market value of the
securities held by a Portfolio.
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<PAGE> 96
MANAGEMENT OF THE FUND
DIRECTORS AND OFFICERS
The Officers of the Fund manage its day-to-day operations and are
responsible to the Fund's Board of Directors. The Directors set broad policies
for the Fund and choose its Officers. The following is a list of the Directors
and Officers of the Fund and a statement of their present positions and
principal occupations during the past five years. The mailing address of the
Directors and Officers of the Fund is Post Office Box 876, Valley Forge, PA
19482.
JOHN C. BOGLE, Chairman and Director*
Chairman and Director of The Vanguard Group, Inc., and of each of the
investment companies in The Vanguard Group; Director of The Mead Corporation,
General Accident Insurance and Chris-Craft Industries, Inc.
JOHN J. BRENNAN, President, Chief Executive Officer and Director*
President, Chief Executive Officer and Director of The Vanguard Group, Inc.
and of each of the investment companies in The Vanguard Group.
ROBERT E. CAWTHORN, Director
Chairman Emeritus and Director of Rhone-Poulenc Rorer, Inc.; Director of Sun
Company, Inc.; Director of Westinghouse Electric Corporation.
BARBARA BARNES HAUPTFUHRER, Director
Director of The Great Atlantic and Pacific Tea Company. ALCO Standard Corp.,
Raytheon Company, Knight-Ridder Inc., and Massachusetts Mutual Life Insurance
Co. and Trustee Emerita of Wellesley College.
BRUCE K. MACLAURY, Director
President Emeritus of The Brookings Institution; Director of American Express
Bank, Ltd., The St. Paul Companies, Inc., and National Steel Corporation.
BURTON G. MALKIEL, Director
Chemical Bank Chairman's Professor of Economics, Princeton University;
Director of Prudential Insurance Co. of America, Amdahl Corporation, Baker
Fentress & Co., The Jeffrey Co., and Southern New England Communications
Company.
ALFRED M. RANKIN, JR., Director
Chairman, President, and Chief Executive Officer of NACCO Industries, Inc.;
Director of The BFGoodrich Company and The Standard Products Company.
JOHN C. SAWHILL, Director
President and Chief Executive Officer, The Nature Conservancy; formerly,
Director and Senior Partner, McKinsey & Co., President, New York University;
Director of Pacific Gas and Electric Company, Procter & Gamble and NACCO
Industries.
JAMES O. WELCH, JR., Director
Retired Chairman of Nabisco Brands, Inc., retired Vice Chairman and Director
of RJR Nabisco; Director of TECO Energy, Inc.; and Director of Kmart
Corporation.
J. LAWRENCE WILSON, Director
Chairman and Chief Executive Officer of Rohm & Haas Company; Director of
Cummins Engine Company and Trustee of Vanderbilt University.
RAYMOND J. KLAPINSKY, Secretary*
Senior Vice President and Secretary of The Vanguard Group, Inc.; Secretary of
each of the investment companies in The Vanguard Group.
RICHARD F. HYLAND, Treasurer*
Treasurer of The Vanguard Group, Inc. and of each of the investment companies
in The Vanguard Group.
KAREN E. WEST, Controller*
Principal of The Vanguard Group, Inc.; Controller of each of the investment
companies in The Vanguard Group.
- - ---------------
*Officers of the Fund are "interested persons" as defined in the Investment
Company Act of 1940.
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<PAGE> 97
THE VANGUARD GROUP Vanguard Bond Index Fund is a member of The Vanguard
Group of Investment Companies which consists of more than 30 investment
companies.
Through their jointly-owned subsidiary, The Vanguard Group, Inc.
("Vanguard"), the Fund and the other Funds in the Group obtain at cost virtually
all of their corporate management, administrative and distribution services.
Vanguard also provides investment advisory services on an at-cost basis to
certain Vanguard Funds.
Vanguard employs a supporting staff of management and administrative
personnel needed to provide the requisite services to the Funds and also
furnishes the Funds with necessary office space, furnishings and equipment. Each
Fund pays its share of Vanguard's net expenses which are allocated among the
Funds under methods approved by the Board of Directors (Trustees) of each Fund.
In addition, each Fund bears its own direct expenses such as legal, auditing and
custodian fees.
The Fund's officers are also officers and employees of Vanguard. No officer
or employee owns, or is permitted to own, any securities of any external adviser
for the Funds.
The Vanguard Group adheres to a Code of Ethics established pursuant to Rule
17j-1 under the Investment Company Act of 1940. The Code is designed to prevent
unlawful practices in connection with the purchase or sale of securities by
persons associated with Vanguard. Under Vanguard's Code of Ethics certain
officers and employees of Vanguard who are considered access persons are
permitted to engage in personal securities transactions. However, such
transactions are subject to procedures and guidelines substantially similar to
those recommended by the mutual fund industry and approved by the U.S.
Securities and Exchange Commission.
The Vanguard Group was established and operates under a Funds' Service
Agreement which was approved by the shareholders of each of the Funds. The
amounts which each of the Funds has invested are adjusted from time to time in
order to maintain the proportionate relationship between each Fund's relative
net assets and its contribution to Vanguard's capital. At December 31, 1996 the
Fund had contributed capital of $418,000 to Vanguard representing 2.1% of its
capitalization. The Fund's Service Agreement provides as follows: (a) each
Vanguard Fund may invest up to .40% of its current net assets in Vanguard; and
(b) there is no other limitation on the aggregate amount that the Vanguard Funds
may contribute to Vanguard's capitalization.
MANAGEMENT Corporate management and administrative services include: (1)
executive staff; (2) accounting and financial; (3) legal and regulatory; (4)
shareholder account maintenance; (5) monitoring and control of custodian
relationships; (6) shareholder reporting; and (7) review and evaluation of
advisory and other services provided to the Funds by third parties. During the
year ended December 31, 1996 the Fund paid approximately $5,070,000 in
management and administration expenses.
DISTRIBUTION Vanguard provides all distribution and marketing activities
for the Funds in the Group. Vanguard Marketing Corporation, a wholly-owned
subsidiary of The Vanguard Group, Inc., acts as Sales Agent for the shares of
the Funds in connection with any sales made directly to investors in the states
of Florida, Missouri, New York, Ohio, Texas and such other states as it may be
required.
The principal distribution expenses are for advertising, promotional
materials and marketing personnel. Distribution services may also include
organizing and offering to the public, from time to time, one or more new
investment companies which will become members of the Group. The directors and
officers of Vanguard determine the amount to be spent annually on distribution
activities, the manner and amount to be spent on each Fund, and whether to
organize new investment companies.
One half of the distribution expenses of a marketing and promotional nature
is allocated among the Funds based upon relative net assets. The remaining one
half of those expenses is allocated among the Funds based upon each Fund's sales
for the preceding 24 months relative to the total sales of the Funds as a Group,
provided, however, that no Fund's aggregate quarterly rate of contribution for
distribution expenses of a marketing and promotional nature shall exceed 125% of
average distribution expense rate for the Group, and that no Fund shall incur
annual distribution expenses in excess of 20/100 of 1% of its average month-end
net assets. During the year ended December 31, 1996 the Fund paid approximately
$1,141,000 in distribution and marketing expenses which represented .03 of 1% of
its average month-end net assets.
INVESTMENT ADVISORY SERVICES Vanguard also provides investment advisory
services to Vanguard Municipal Bond Fund, Vanguard Money Market Reserves,
several Portfolios of Vanguard Fixed Income Securities Fund, Vanguard California
Tax-Free Fund, Vanguard New York Insured Tax-Free Fund, Vanguard New Jersey
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<PAGE> 98
Tax-Free Fund, Vanguard Ohio Tax-Free Fund, Vanguard Pennsylvania Tax-Free Fund,
Vanguard Florida Insured Tax-Free Fund, Vanguard Admiral Funds, Vanguard
Institutional Index Fund, Vanguard Index Trust, Vanguard International Equity
Index Fund, Vanguard Balanced Index Fund, Vanguard Tax-Managed Fund, the
Aggressive Growth Portfolio of Vanguard Horizon Fund, the REIT Index Portfolio
of Vanguard Specialized Portfolios, the Total International Portfolio of
Vanguard STAR Fund, several Portfolios of Vanguard Variable Insurance Fund, a
portion of Vanguard/Windsor II, a portion of Vanguard/Morgan Growth Fund as well
as several indexed separate accounts. These services are provided on an at-cost
basis from a money management staff employed directly by Vanguard. The
compensation and other expenses of this staff are paid by the Funds utilizing
these services. During the fiscal year ended December 31, 1996, the Fund paid
approximately $488,000 of Vanguard's expenses relating to investment advisory
services.
REMUNERATION OF DIRECTORS AND OFFICERS The Fund pays each Director, who is
not also an officer, an annual fee plus travel and other expenses incurred in
attending Board meetings. The Fund's officers and employees are paid by Vanguard
which, in turn, is reimbursed by the Fund and each other Fund in Group, for its
proportionate share of officers' and employees' salaries and retirement
benefits. During the year ended December 31, 1996, the Fund's share of
remuneration paid to its Officers and Directors was approximately $124,865.
Under its retirement plan, Vanguard contributes annually an amount equal to
10% of each officer's annual compensation plus 7% of that part of the officer's
compensation during the year, if any, that exceeds the Social Security Taxable
Wage Base then in effect. Directors who are not Officers are paid an annual fee
based on the number of years of service on the board, up to fifteen years of
service, upon retirement. The fee is equal to $1,000 for each year of service.
During the year ended December 31, 1996 the Fund's share of retirement benefits
paid to its Officers was approximately $3,150.
The following table provides detailed information with respect to the
amounts paid or accrued for the Directors for the fiscal year ended December 31,
1996.
VANGUARD BOND INDEX FUND
COMPENSATION TABLE
<TABLE>
<CAPTION>
AGGREGATE PENSION OR RETIREMENT ESTIMATED TOTAL COMPENSATION
COMPENSATION BENEFITS ACCRUED AS ANNUAL BENEFITS FROM ALL VANGUARD FUNDS
NAMES OF DIRECTORS FROM FUND PART OF FUND EXPENSES UPON RETIREMENT PAID TO DIRECTORS(2)
- - --------------------------- ------------ --------------------- --------------- -----------------------
<S> <C> <C> <C> <C>
John C. Bogle(1) -- -- -- --
John J. Brennan(1) -- -- -- --
Barbara Barnes Hauptfuhrer $1,243 $ 193 $15,000 $65,000
Robert E. Cawthorn $1,243 $ 161 $13,000 $65,000
Bruce K. MacLaury $1,344 $ 188 $12,000 $60,000
Burton G. Malkiel $1,243 $ 129 $15,000 $65,000
Alfred M. Rankin, Jr. $1,243 $ 102 $15,000 $65,000
John C. Sawhill $1,243 $ 121 $15,000 $65,000
James O. Welch, Jr. $1,243 $ 148 $15,000 $65,000
J. Lawrence Wilson $1,243 $ 107 $15,000 $65,000
</TABLE>
(1) As "Interested Directors," Messrs. Bogle and Brennan receive no compensation
for their service as Directors.
(2) The amounts reported in this column reflect the total compensation paid to
each Director for their service as Director or Trustee of 34 Vanguard Funds
(33 in the case of Mr. Malkiel; 27 in the case of Mr. MacLaury).
PORTFOLIO TRANSACTIONS
In placing portfolio transactions, the Fund uses its best judgment to
choose the broker most capable of providing the brokerage services necessary to
obtain best available price and most favorable execution. The full range and
quality of brokerage services available are considered in making these
determinations. In those instances where it is reasonably determined that more
than one broker can offer the brokerage services needed to obtain the best
available price and most favorable execution, consideration will be given to
those brokers which supply statistical information and provide other services in
addition to execution services to the Fund.
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<PAGE> 99
Since the Fund does not market its shares through intermediary brokers or
dealers, it is not the Fund's practice to allocate brokerage or principal
business on the basis of sales of its shares which may be made through such
firms. However, the Fund may place portfolio orders with qualified
broker-dealers who recommend the Fund to clients, and may, when a number of
brokers and dealers can provide best price and execution on a particular
transaction, consider the sale of Fund shares by a broker or dealer in selecting
among broker-dealers.
PERFORMANCE MEASURES
Vanguard may use reprinted material discussing the Vanguard Group, Inc. or
any of the member funds of the Vanguard Group of Investment Companies.
Each of the investment company members of the Vanguard Group, including
Vanguard Bond Index Fund, may from time to time, use one or more of the
following unmanaged indexes for comparative performance purposes.
STANDARD AND POOR'S 500 COMPOSITE STOCK PRICE INDEX -- is a well diversified
list of 500 companies representing the U.S. Stock Market.
WILSHIRE 5000 EQUITY INDEX -- consists of more than 7,000 common equity
securities, covering all stocks in the U.S. for which daily pricing is
available.
WILSHIRE 4500 EQUITY INDEX -- consists of all stocks in the Wilshire 5000 except
for the 500 stocks in the Standard and Poor's 500 Index.
RUSSELL 3000 STOCK INDEX -- a diversified portfolio of approximately 3,000
common stocks accounting for over 90% of the market value of publicly-traded
stocks in the U.S.
RUSSELL 2000 STOCK INDEX -- a subset of approximately 2,000 of the smallest
stocks contained in the Russell 3000, a widely-used benchmark for small
capitalization common stocks.
MORGAN STANLEY CAPITAL INTERNATIONAL EAFE INDEX -- is an arithmetic, market
value-weighted average of the performance of over 900 securities listed on the
stock exchanges of countries in Europe, Australasia and the Far East.
GOLDMAN SACHS 100 CONVERTIBLE BOND INDEX -- currently includes 71 bonds and 29
preferreds. The original list of names was generated by screening for
convertible issues of $100 million or greater in market capitalization. The
index is priced monthly.
SALOMON BROTHERS GNMA INDEX -- includes pools of mortgages originated by private
lenders and guaranteed by the mortgage pools of the Government National Mortgage
Association.
SALOMON BROTHERS HIGH-GRADE CORPORATE BOND INDEX -- consists of publicly-issued,
non-convertible corporate bonds rated Aa or Aaa. It is a value-weighted, total
return index, including approximately 800 issues with maturities of 12 years or
greater.
LEHMAN LONG-TERM TREASURY BOND INDEX -- is composed of all U.S. Treasury bonds
with maturities of 10 years or greater.
MERRILL LYNCH CORPORATE & GOVERNMENT BOND -- consists of over 4,500 U.S.
Treasury, agency and investment grade corporate bonds.
LEHMAN CORPORATE (Baa) BOND INDEX -- all publicly-offered fixed-rate,
nonconvertible domestic corporate bonds rated Baa by Moody's, with a maturity
longer than 1 year and with more than $25 million outstanding. This index
includes over 1,000 issues.
LEHMAN BROTHERS LONG-TERM CORPORATE BOND INDEX -- is a subset of the Lehman
Corporate Bond Index covering all corporate, publicly issued, fixed-rate,
nonconvertible U.S. debt issues rated at least Baa, with at least $50 million
principal outstanding and maturity greater than 10 years.
11
<PAGE> 100
BOND BUYER MUNICIPAL BOND INDEX -- is a yield index on current coupon high-grade
general obligation municipal bonds.
STANDARD & POOR'S PREFERRED INDEX -- is a yield index based upon the average
yield for four high-grade, non-callable preferred stock issues.
NASDAQ INDUSTRIAL INDEX -- is composed of more than 3,000 industrial issues. It
is a value-weighted index calculated on price change only and does not include
income.
COMPOSITE INDEX -- 70% Standard & Poor's 500 Index and 30% NASDAQ Industrial
Index.
COMPOSITE INDEX -- 65% Standard & Poor's 500 Index and 35% Lehman Long-Term
Corporate AA or Better Bond Index.
COMPOSITE INDEX -- 65% Lehman Long-Term Corporate AA or Better Bond Index and a
35% weighting in a blended equity composite (75% Standard & Poor's/BARRA Value
Index and 25% Standard & Poor's Utilities Index).
LEHMAN LONG-TERM CORPORATE AA OR BETTER BOND INDEX -- consists of all publicly
issued, fixed rate, nonconvertible investment grade, dollar-denominated,
SEC-registered corporate debt rated AA or AAA.
LEHMAN BROTHERS AGGREGATE BOND INDEX -- is a market-weighted index that contains
individually priced U.S. Treasury, agency, corporate, and mortgage pass-through
securities corporate rated BBB- or better. The Index has a market value of over
$4 trillion.
LEHMAN BROTHERS MUTUAL FUND SHORT (1-5) GOVERNMENT/CORPORATE INDEX -- is a
market-weighted index that contains individually priced U.S. Treasury, agency,
and corporate investment grade bonds rated BBB- or better with maturities
between 1 and 5 years. The index has a market value of over $1.3 trillion.
LEHMAN BROTHERS MUTUAL FUND INTERMEDIATE (5-10) GOVERNMENT/CORPORATE INDEX -- is
a market-weighted index that contains individually priced U.S. Treasury, agency,
and corporate securities rated BBB- or better with maturities between 5 and 10
years. The index has a market value of over $600 billion.
LEHMAN BROTHERS MUTUAL FUND LONG (10+) GOVERNMENT/CORPORATE INDEX -- is a
market-weighted index that contains individually priced U.S. Treasury, agency,
and corporate securities rated BBB- or better with maturities greater than 10
years. The index has a market value of over $900 billion.
LIPPER SMALL COMPANY GROWTH FUND AVERAGE -- the average performance of small
company growth funds as defined by Lipper Analytical Services, Inc. Lipper
defines a small company growth fund as a fund that by prospectus or portfolio
practice, limits its investments to companies on the basis of the size of the
company. From time to time, Vanguard may advertise using the average performance
and/or the average expense ratio of the small company growth funds. (This fund
category was first established in 1982. For years prior to 1982, the results of
the Lipper Small Company Growth category were estimated using the returns of the
Funds that constituted the Group at its inception.)
LIPPER BALANCED FUND AVERAGE -- an industry benchmark of average balanced funds
with similar investment objectives and policies, as measured by Lipper
Analytical Services, Inc.
LIPPER NON-GOVERNMENT MONEY MARKET FUND AVERAGE -- an industry benchmark of
average non-government money market funds with similar investment objectives and
policies, as measured by Lipper Analytical Services, Inc.
LIPPER GOVERNMENT MONEY MARKET FUND AVERAGE -- an industry benchmark of average
government money market funds with similar investment objectives and policies,
as measured by Lipper Analytical Services, Inc.
LIPPER GENERAL EQUITY FUND AVERAGE -- an industry benchmark of average general
equity funds with similar investment objectives and policies, as measured by
Lipper Analytical Services, Inc.
LIPPER FIXED INCOME FUND AVERAGE -- an industry benchmark of average fixed
income funds with similar investment objectives and policies, as measured by
Lipper Analytical Services, Inc.
12
<PAGE> 101
FINANCIAL STATEMENTS
The Fund's financial statements for the year ended December 31, 1996,
including the financial highlights for each of the five years in the period
ended December 31, 1996, appearing in the Fund's 1996 Annual Report to
Shareholders, and the report thereon of Price Waterhouse LLP, independent
accountants, also appearing therein, are incorporated by reference in this
Statement of Additional Information.
The Fund's 1996 Annual Report to Shareholders is enclosed with this
Statement of Additional Information.
APPENDIX -- DESCRIPTION OF BOND RATINGS
The Fund will invest primarily in investment grade bonds (i.e., those rated
at least Baa3 by Moody's Investors Service, Inc. or those rated BBB- by Standard
& Poor's Corporation.) In the event that a Bond held by the Fund is downgraded,
the adviser, may continue to hold such bond. Excerpts from Moody's Investors
Service, Inc. description of its four highest bond ratings:
Aaa -- judged to be the best quality by all standards. Together with the Aa
group they comprise what are generally known as high grade bonds; A -- possess
many favorable investment attributes and are to be considered as "upper medium
grade obligations"; Baa -- 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.
Moody's also supplies numerical indicators 1, 2 and 3 to rating categories.
The modifier 1 indicates that the obligation ranks in the higher end of its
generic rating category; the modifier 2 indicates a mid-range ranking; and 3
indicates a ranking toward the lower end of that generic rating category.
Excerpts from Standard & Poor's Corporation description of its four highest
bond ratings:
AAA -- highest rating assigned by S&P. Capacity to pay interest and repay
principal is extremely strong; AA -- also qualify as investment grade
obligations, a very strong capacity to pay interest and repay principal and
differs from AAA -- issues only in small degree; A -- regarded as upper medium
grade. They have a strong capacity to pay interest and repay principal although
it is somewhat susceptible to the adverse effects of changes in circumstances
and economic conditions than debt in higher rated categories; BBB -- regarded as
having an adequate capacity to pay interest and repay principal. Whereas it
normally exhibits adequate protection parameters, adverse economic conditions or
changing circumstances are more likely to lead to a weakened capacity to pay
interest and repay principal for debt in this category than in higher rated
categories.
Standard & Poor's applies indicators "+", no character and "-" to its
rating categories. The indicators show relative standing within the major rating
categories.
13
<PAGE> 102
PART C
VANGUARD BOND INDEX FUND, INC.
(FORMERLY BOND MARKET FUND)
OTHER INFORMATION
ITEM 24. FINANCIAL STATEMENTS AND EXHIBITS
(a) FINANCIAL STATEMENTS
The Registrant's financial statements for the year ended December 31, 1996,
including Price Waterhouse LLP's report thereon, are incorporated by reference,
in the Statement of Additional Information, from the Registrant's 1996 Annual
Report have been filed with the Commission. The financial statements included in
the Annual Report are:
1. Statement of Net Assets as of December 31, 1996.
2. Statement of Operations for the year ended December 31, 1996.
3. Statement of Changes in Net Assets for the Total Bond Market Portfolio,
for the years ended December 31, 1995 and 1996 and for the Short-Term
Bond, Intermediate-Term Bond and the Long-Term Bond Portfolios, for the
years ended December 31, 1995 and 1996.
4. Financial Highlights for each of the five years in the period ended
December 31, 1996 for the Total Bond Market Portfolio and for the
respective periods ended December 31, 1996 for the Short-Term Bond,
Intermediate-Term Bond and the Long-Term Bond Portfolios.
5. Notes to Financial Statements.
6. Report of Independent Accountants.
(b) EXHIBITS
1. Articles of Incorporation**
2. By-Laws of Registrant**
3. Not Applicable
4. Not Applicable
5. Not Applicable
6. Not Applicable
7. Reference is made to the section entitled "Management of the Fund" in
the Registrant's Statement of Additional Information
8. Form of Custody Agreement**
9. Form of Vanguard Service Agreement**
10. Opinion of Counsel**
11. Consent of Independent Accountants*
12. Financial Statements -- reference is made to (a) above
13. Not Applicable
14. Not Applicable
15. Not Applicable
16. Schedule for Computation of Performance Quotations*
27. Financial Data Schedule*
- - ---------------
* Filed herewith
** Previously filed
ITEM 25. PERSONS CONTROLLED BY OR UNDER COMMON CONTROL WITH REGISTRANT
Registrant is not controlled by or under common control with any person.
The officers of the Registrant, the investment companies in The Vanguard Group
of Investment Companies and The Vanguard Group, Inc. are identical. Reference
is made to the caption "General Information" in the Prospectus constituting
Part A and "Management of the Fund" in the Statement of Additional Information
constituting Part B of this Registration Statement.
<PAGE> 103
ITEM 26. NUMBER OF HOLDERS OF SECURITIES
As of December 31, 1996 there were 98,105 shareholders of the Total Bond
Market Portfolio, 4,248 shareholders of the Short-Term Bond Portfolio, 7,127
shareholders of the Intermediate-Term Bond Portfolio, 2,469 shareholders of the
Long-Term Bond Portfolio, and 71 shareholders of the Total Bond Market
Portfolio's Institutional shares.
ITEM 27. INDEMNIFICATION
Reference is made to Article XI of Registrant's Articles of Incorporation.
Insofar as indemnification for liability arising under the Securities Act
of 1933 may be permitted to directors, officers and controlling persons of the
registrant pursuant to the foregoing provisions, or otherwise, the registrant
has been advised that in the opinion of the Securities and Exchange Commission
such indemnification is against public policy as expressed in the Act and is,
therefore, unenforceable. In the event that a claim for indemnification against
such liabilities (other than the payment by the registrant of expenses incurred
or paid by a director, officer or controlling person of the registrant in the
successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the registrant will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Act and will be governed by the final adjudication of
such issue.
ITEM 28. BUSINESS AND OTHER CONNECTIONS OF INVESTMENT ADVISER
Investment advisory services are provided to the Registrant on an at-cost
basis by The Vanguard Group, Inc., a jointly-owned subsidiary of the Registrant
and the other Funds in the Group. See the information concerning The Vanguard
Group set forth in Parts A and B.
ITEM 29. PRINCIPAL UNDERWRITERS
(a) None
(b) Not Applicable
ITEM 30. LOCATION OF ACCOUNTS AND RECORDS
The books, accounts and other documents required by Section 31(a) under the
Investment Company Act and the rules promulgated thereunder will be maintained
in the physical possession of Registrant; Registrant's Transfer Agent, The
Vanguard Group, Inc. c/o The Vanguard Financial Center, Valley Forge,
Pennsylvania 19482; and the Registrant's Custodian, Morgan Guarantee Trust
Company of New York.
ITEM 31. MANAGEMENT SERVICES
Other than the Amended and Restated Funds' Service Agreement with The
Vanguard Group, Inc. which was previously filed as Exhibit 9(c) and described in
Part B hereof under "Management of the Fund;" the Registrant is not a party of
any management-related service contract.
ITEM 32. UNDERTAKINGS
Annual meetings of shareholders will not be held except as required by the
Investment Company Act of 1940 ("1940 Act") or other applicable law. Registrant
undertakes to comply with the provisions of Section 16(c) of the 1940 Act in
regard to shareholders' rights to call a meeting of shareholders for the purpose
of voting on the removal of Directors and to assist in shareholder
communications in such matters, to the extent required by law.
Registrant hereby undertakes to provide an Annual Report to Shareholders or
prospective investors, free of charge, upon request.
<PAGE> 104
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933 and the
Investment Company Act of 1940, the Registrant certifies that it meets the
requirements for effectiveness pursuant to paragraph (b) of Rule 485 under the
Securities Act of 1933 and that it has duly caused this Post-Effective Amendment
to this Registration Statement to be signed on its behalf by the undersigned,
thereunto duly authorized, in the Town of Valley Forge and the Commonwealth of
Pennsylvania, on the 21st day of March.
VANGUARD BOND INDEX FUND, INC.
BY: (Raymond J. Klapinsky) John J. Brennan*, President and Chief Executive
Officer
Pursuant to the requirements of the Securities Act of 1933, this
Post-Effective Amendment to the Registration Statement has been signed below by
the following persons in the capacities and on the date indicated:
BY: (Raymond J. Klapinsky)
John C. Bogle*, Chairman of the Board and Director
March 21, 1997
BY: (Raymond J. Klapinsky)
John J. Brennan*, President, Director and Chief Executive Officer
March 21, 1997
BY: (Raymond J. Klapinsky)
Robert E. Cawthorn*, Director
March 21, 1997
BY: (Raymond J. Klapinsky)
Barbara B. Hauptfuhrer*, Director
March 21, 1997
BY: (Raymond J. Klapinsky)
Bruce K. MacLaury
March 21, 1997
BY: (Raymond J. Klapinsky)
Burton G. Malkiel*, Director
March 21, 1997
BY: (Raymond J. Klapinsky)
Alfred M. Rankin, Jr.*, Director
March 21, 1997
BY: (Raymond J. Klapinsky)
John C. Sawhill*, Director
March 21, 1997
BY: (Raymond J. Klapinsky)
James O. Welch, Jr.*, Director
March 21, 1997
BY: (Raymond J. Klapinsky)
J. Lawrence Wilson*, Director
March 21, 1997
BY: (Raymond J. Klapinsky)
Richard F. Hyland*, Treasurer and Principal
Financial Officer and Accounting Officer
March 21, 1997
*By Power of Attorney. See File Number 2-14336, January 23, 1990. Incorporated
by Reference.
<PAGE> 105
INDEX TO EXHIBITS
<TABLE>
<S> <C>
Consent of Independent Accountants................................................... EX-99.B11
Schedule for Computation of Performance Quotations................................... EX-99.B16
Financial Data Schedule.............................................................. EX-27
</TABLE>
<PAGE> 1
EX-99.B11
CONSENT OF INDEPENDENT ACCOUNTANTS
We hereby consent to the incorporation by reference in the Prospectuses and
Statement of Additional Information constituting parts of this Post-Effective
Amendment No. 16 to the registration statement on Form N-1A (the "Registration
Statement") of our report dated January 31, 1997, relating to the financial
statements and financial highlights appearing in the December 31, 1996 Annual
Report to Shareholders of Vanguard Bond Index Fund, which are also incorporated
by reference into the Registration Statement. We also consent to the references
to us under the headings "Financial Highlights" and "General Information" in the
Prospectuses and "Financial Statements" in the Statement of Additional
Information.
PRICE WATERHOUSE LLP
Philadelphia, PA
March 20, 1997
<PAGE> 1
EX-99.B16
SCHEDULE FOR COMPUTATION OF PERFORMANCE QUOTATIONS
VANGUARD BOND INDEX FUND, INC. -- TOTAL BOND MARKET PORTFOLIO
1. Average Annual Total Return (As of December 31, 1996)
P (1 + T)(n) = ERV
<TABLE>
<C> <S>
Where:
P = a hypothetical initial payment of $1,000
T = average annual total return
N = number of years
ERV = ending redeemable value at the end of the period
EXAMPLE:
One Year
P = $1,000
T = +3.58%
N = 1
ERV = $1,035.80*
Five Year
P = $1,000
T = +6.97%
N = 5
ERV = $1,400.29*
Ten Year
P = $1,000
T = +8.02%
N = 10
ERV = $2,163.49*
</TABLE>
*Not adjusted for $10 account maintenance fee.
2. YIELD (30 Days Ended December 31, 1996)
Yield = 2[(a - b +1)(6)-1]
---------------------------
c X d
<TABLE>
<C> <S>
Where: a = dividends and interest paid during the period
b = expense dollars during the period (net of reimbursements)
c = the average daily number of shares outstanding during the period
d = the maximum offering price per share on the last day of the period
Example a = $15,989,572.39
b = $480,833.68
c = 296,499,889.686
d = $9.84
Yield = 6.46%
</TABLE>
<PAGE> 2
EX-99.B16
SCHEDULE FOR COMPUTATION OF PERFORMANCE QUOTATIONS
VANGUARD BOND INDEX FUND, INC. -- SHORT-TERM BOND PORTFOLIO
1. Average Annual Total Return (As of December 31, 1996)
P (1 + T)(n) = ERV
<TABLE>
<C> <S>
Where:
P = a hypothetical initial payment of $1,000
T = average annual total return
N = number of years
ERV = ending redeemable value at the end of the period
EXAMPLE:
One Year
P = $1,000
T = +4.55%
N = 1
ERV = $1,045.46
Five Year
P = $1,000
T = +5.88%*
N = *
ERV = $1,175.80*
</TABLE>
*Since inception -- March 1, 1996
2. YIELD (30 Days Ended December 31, 1996)
Yield = 2[(a - b +1)(6)-1]
---------------------------
c X d
<TABLE>
<C> <S>
Where: a = dividends and interest paid during the period
b = expense dollars during the period (net of reimbursements)
c = the average daily number of shares outstanding during the period
d = the maximum offering price per share on the last day of the period
Example a = $1,616,778.69
b = $53,341.74
c = 32,700,824.632
d = $9.92
Yield = 5.85%
</TABLE>
<PAGE> 3
EX-99.B16
SCHEDULE FOR COMPUTATION OF PERFORMANCE QUOTATIONS
VANGUARD BOND INDEX FUND, INC. -- INTERMEDIATE-TERM BOND PORTFOLIO
1. Average Annual Total Return (As of December 31, 1996)
P (1 + T)(n) = ERV
<TABLE>
<C> <S>
Where:
P = a hypothetical initial payment of $1,000
T = average annual total return
N = number of years
ERV = ending redeemable value at the end of the period
EXAMPLE:
One Year
P = $1,000
T = +2.55%
N = 1
ERV = $1,025.51
Five Year
P = $1,000
T = +6.82%*
N = *
ERV = $1,205.86*
</TABLE>
*Since inception -- March 1, 1994
2. YIELD (30 Days Ended December 31, 1996)
Yield = 2[(a - b +1)(6)-1]
---------------------------
c X d
<TABLE>
<C> <S>
Where: a = dividends and interest paid during the period
b = expense dollars during the period (net of reimbursements)
c = the average daily number of shares outstanding during the period
d = the maximum offering price per share on the last day of the period
Example a = $2,476,232.45
b = $74,585.33
c = 45,336,475.558
d = $9.96
Yield = 6.47%
</TABLE>
<PAGE> 4
EX-99.B16
SCHEDULE FOR COMPUTATION OF PERFORMANCE QUOTATIONS
VANGUARD BOND INDEX FUND, INC. -- TOTAL BOND MARKET PORTFOLIO -- INSTITUTIONAL
CLASS
1. Average Annual Total Return (As of December 31, 1996)
P (1 + T)(n) = ERV
<TABLE>
<C> <S>
Where:
P = a hypothetical initial payment of $1,000
T = average annual total return
N = number of years
ERV = ending redeemable value at the end of the period
EXAMPLE:
One Year
P = $1,000
T = +3.68%
N = 1
ERV = $1,036.84
Five Year
P = $1,000
T = +6.46%*
N = *
ERV = $1,083.79*
</TABLE>
*Since inception -- September 18, 1995
2. YIELD (30 Days Ended December 31, 1996)
Yield = 2[(a - b +1)(6)-1]
---------------------------
c X d
<TABLE>
<C> <S>
Where: a = dividends and interest paid during the period
b = expense dollars during the period (net of reimbursements)
c = the average daily number of shares outstanding during the period
d = the maximum offering price per share on the last day of the period
Example a = $5,282,642.49
b = $79,434.45
c = 97,986,028.151
d = $9.84
Yield = 6.56%
</TABLE>
<PAGE> 5
EX-99.B16
SCHEDULE FOR COMPUTATION OF PERFORMANCE QUOTATIONS
VANGUARD BOND INDEX FUND, INC. -- LONG-TERM BOND PORTFOLIO
1. Average Annual Total Return (As of December 31, 1996)
P (1 + T)(n) = ERV
<TABLE>
<C> <S>
Where:
P = a hypothetical initial payment of $1,000
T = average annual total return
N = number of years
ERV = ending redeemable value at the end of the period
EXAMPLE:
One Year
P = $1,000
T = -0.26%
N = 1
ERV = $997.37
Five Year
P = $1,000
T = +7.73%*
N = *
ERV = $1,235.18*
</TABLE>
*Since inception -- March 1, 1994
2. YIELD (30 Days Ended December 31, 1996)
Yield = 2[(a - b +1)(6)-1]
---------------------------
c X d
<TABLE>
<C> <S>
Where: a = dividends and interest paid during the period
b = expense dollars during the period (net of reimbursements)
c = the average daily number of shares outstanding during the period
d = the maximum offering price per share on the last day of the period
Example a = $254,137.99
b = $7,330.66
c = 4,385,122.140
d = $10.08
Yield = 6.80%
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 6
<CIK> 0000794105
<NAME> VANGUARD BOND INDEX FUND, INC.
<SERIES>
<NUMBER> 02
<NAME> SHORT-TERM BOND PORTFOLIO
<MULTIPLIER> 1,000
<CURRENCY> US
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> DEC-31-1996
<EXCHANGE-RATE> 1
<INVESTMENTS-AT-COST> 323555
<INVESTMENTS-AT-VALUE> 324645
<RECEIVABLES> 22467
<ASSETS-OTHER> 29
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 347141
<PAYABLE-FOR-SECURITIES> 7493
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 11356
<TOTAL-LIABILITIES> 18849
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 327288
<SHARES-COMMON-STOCK> 33094
<SHARES-COMMON-PRIOR> 20614
<ACCUMULATED-NII-CURRENT> 0
<OVERDISTRIBUTION-NII> 0
<ACCUMULATED-NET-GAINS> (86)
<OVERDISTRIBUTION-GAINS> 0
<ACCUM-APPREC-OR-DEPREC> 1090
<NET-ASSETS> 328292
<DIVIDEND-INCOME> 0
<INTEREST-INCOME> 17107
<OTHER-INCOME> 0
<EXPENSES-NET> 557
<NET-INVESTMENT-INCOME> 16550
<REALIZED-GAINS-CURRENT> (90)
<APPREC-INCREASE-CURRENT> (3312)
<NET-CHANGE-FROM-OPS> 13148
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> 16550
<DISTRIBUTIONS-OF-GAINS> 88
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 16763
<NUMBER-OF-SHARES-REDEEMED> 5726
<SHARES-REINVESTED> 1443
<NET-CHANGE-IN-ASSETS> 120695
<ACCUMULATED-NII-PRIOR> 0
<ACCUMULATED-GAINS-PRIOR> 92
<OVERDISTRIB-NII-PRIOR> 0
<OVERDIST-NET-GAINS-PRIOR> 0
<GROSS-ADVISORY-FEES> 32
<INTEREST-EXPENSE> 0
<GROSS-EXPENSE> 557
<AVERAGE-NET-ASSETS> 278625
<PER-SHARE-NAV-BEGIN> 10.07
<PER-SHARE-NII> 0.587
<PER-SHARE-GAIN-APPREC> (0.146)
<PER-SHARE-DIVIDEND> 0.587
<PER-SHARE-DISTRIBUTIONS> 0.004
<RETURNS-OF-CAPITAL> 0
<PER-SHARE-NAV-END> 9.92
<EXPENSE-RATIO> 0.20
<AVG-DEBT-OUTSTANDING> 0
<AVG-DEBT-PER-SHARE> 0
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 6
<CIK> 0000794105
<NAME> VANGUARD BOND INDEX FUND, INC.
<SERIES>
<NUMBER> 03
<NAME> INTERMEDIATE-TERM BOND PORTFOLIO
<MULTIPLIER> 1,000
<CURRENCY> US
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> DEC-31-1996
<EXCHANGE-RATE> 1
<INVESTMENTS-AT-COST> 450653
<INVESTMENTS-AT-VALUE> 456044
<RECEIVABLES> 39231
<ASSETS-OTHER> 560
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 495835
<PAYABLE-FOR-SECURITIES> 5402
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 30074
<TOTAL-LIABILITIES> 35476
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 458907
<SHARES-COMMON-STOCK> 46206
<SHARES-COMMON-PRIOR> 33335
<ACCUMULATED-NII-CURRENT> 0
<OVERDISTRIBUTION-NII> 0
<ACCUMULATED-NET-GAINS> (3939)
<OVERDISTRIBUTION-GAINS> 0
<ACCUM-APPREC-OR-DEPREC> 5391
<NET-ASSETS> 460359
<DIVIDEND-INCOME> 0
<INTEREST-INCOME> 29172
<OTHER-INCOME> 0
<EXPENSES-NET> 865
<NET-INVESTMENT-INCOME> 28307
<REALIZED-GAINS-CURRENT> (3931)
<APPREC-INCREASE-CURRENT> (11605)
<NET-CHANGE-FROM-OPS> 12771
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> 28307
<DISTRIBUTIONS-OF-GAINS> 166
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 28221
<NUMBER-OF-SHARES-REDEEMED> 17819
<SHARES-REINVESTED> 2469
<NET-CHANGE-IN-ASSETS> 114727
<ACCUMULATED-NII-PRIOR> 0
<ACCUMULATED-GAINS-PRIOR> 158
<OVERDISTRIB-NII-PRIOR> 0
<OVERDIST-NET-GAINS-PRIOR> 0
<GROSS-ADVISORY-FEES> 52
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