<PAGE>
As filed with the Securities and Exchange Commission on July 28, 2000
Securities Act File No. 33-6502
Investment Company Act File Act No. 811-4708
============================================================================
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM N-1A
REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 [X]
PRE-EFFECTIVE AMENDMENT NO. [_]
POST-EFFECTIVE AMENDMENT NO. 27 [X]
and/or
REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940 [X]
AMENDMENT NO. 26
(Check appropriate box or boxes)
SUNAMERICA INCOME FUNDS
(Exact Name of Registrant as Specified in Charter)
The SunAmerica Center
733 Third Avenue - Third Floor
New York, NY 10017 - 3204
(Address of Principal Executive Office)(Zip Code)
Registrant's telephone number, including area code: (800) 858-8850
Robert M. Zakem, Esq.
Senior Vice President and General Counsel
SunAmerica Asset Management Corp.
The SunAmerica Center
733 Third Avenue - Third Floor
New York, NY 10017-3204
(Name and Address for Agent for Service)
Copy to:
Margery K. Neale, Esq.
Swidler Berlin Shereff Friedman, LLP
The Chrysler Building
405 Lexington Avenue
New York, NY 10174
Approximate Date of Proposed Public Offering: As soon as practicable
after this Registration Statement becomes effective.
It is proposed that this filing will become effective (check
appropriate box)
[X] immediately upon filing pursuant to paragraph (b)
[_] on July __, 2000 pursuant to paragraph (b)
[_] 60 days after filing pursuant to paragraph (a)(1)
[_] on (date) pursuant to paragraph (a)(1)
[_] 75 days after filing pursuant to paragraph (a)(2)
[_] on (date) pursuant to paragraph (a)(2) of Rule 485.
If appropriate, check the following box:
[_] This post-effective amendment designates a new effective date
for a previously filed post-effective amendment.
<PAGE>
PROSPECTUS
July 28, 2000
SUNAMERICA INCOME FUNDS
[LOGO OF SUNAMERICA]
SunAmerica U.S. Government Securities Fund
[LOGO OF SUNAMERICA]
SunAmerica GNMA Fund
[LOGO OF SUNAMERICA]
SunAmerica Diversified Income Fund
[LOGO OF SUNAMERICA]
SunAmerica High Income Fund
[LOGO OF SUNAMERICA]
SunAmerica Tax Exempt Insured Fund
The Securities and
Exchange Commission has
not approved or
disapproved these
securities or passed
upon the adequacy of
this prospectus. Any
representation to the
contrary is a criminal
offense.
[LOGO OF SUNAMERICA MUTUAL FUNDS]
<PAGE>
Table of Contents
--------------------------------------------------------------------------------
<TABLE>
<S> <C>
FUND HIGHLIGHTS........................................ 2
SHAREHOLDER ACCOUNT INFORMATION........................ 11
MORE INFORMATION ABOUT THE FUNDS....................... 20
Fund Investment Strategies........................... 20
Glossary............................................. 22
Investment Terminology.............................. 22
Risk Terminology.................................... 23
FUND MANAGEMENT........................................ 24
FINANCIAL HIGHLIGHTS................................... 25
</TABLE>
[LOGO OF
SUNAMERICA
MUTUAL
FUNDS]
<PAGE>
11
Fund Highlights
--------------------------------------------------------------------------------
Q&A
The strategy of
"fixed income
investing" in
which each Fund
engages includes
utilizing
economic research
and analysis of
current economic
conditions,
potential
fluctuations in
interest rates,
and, where
relevant--
particularly with
respect to the
issuers of high-
yield, high-risk
bonds--the
strength of the
underlying
issuer. Each Fund
will utilize this
strategy to seek
current income,
as consistent
with its stated
level of risk, as
described in the
chart.
Duration is a
measure of the
volatility or
sensitivity of a
bond's market
value to changes
in interest
rates. Generally,
the higher the
duration, the
more sensitive a
bond's market
value will be to
interest rate
changes.
The Government
National Mortgage
Association
(GNMA) is a
government owned
corporation and a
federal agency.
GNMA guarantees,
with the full
faith and credit
of the U.S.
Government, full
and timely
payment of all
monthly principal
and interest
payments on the
mortgage-backed
pass-through
securities which
it issues. Shares
of the Fund
itself are not
guaranteed or
insured by the
U.S. government
or any government
entity.
The Tax Exempt
Insured Fund's
policy of
investing 80% of
its total assets
in municipal
bonds, the income
of which is
exempt from
federal income
taxes, is a
fundamental
policy of the
Fund, which may
not be changed
without the
approval of the
Fund's
shareholders.
The following questions and answers are designed to give you an overview of the
Trust, and to provide you with information about the Trust's five investment
portfolios, or "Funds," and their investment goals and principal strategies. No
goal may be changed without shareholder approval. There can be no assurance
that any Fund's investment goal will be met or that the net return on an in-
vestment will exceed what could have been obtained through other investment or
savings vehicles. More complete investment information is provided in chart
form, under "More Information About the Funds," which is on page 22, and the
glossary that follows on page 24.
Q: What are the Funds' investment goals, strategies and techniques?
A:
<TABLE>
<CAPTION>
Principal
Investment Investment Principal Investment
Fund Goal Strategy Techniques
------ ------------ ---------- ------------------------------
<C> <C> <C> <S>
U.S. Government high current fixed invests primarily in
Securities Fund income income securities of high credit
consistent investing quality issued or guaranteed
with by the U.S. government, or any
relative agency or instrumentality
safety of thereof
capital
GNMA Fund current fixed invests primarily in mortgage-
(Formerly Federal income, with income backed securities of high
Securities Fund) capital investing credit quality issued or
appreciation guaranteed by the Government
as a National Mortgage Association
secondary (GNMA)
objective
Diversified Income Fund a high level fixed invests in a diversified
of current income portfolio of securities
income investing consisting of: (i) U.S.
consistent government securities; (ii)
with foreign government and
moderate corporate debt securities; and
investment (iii) fixed income securities
risk, with issued by domestic
preservation corporations, including lower-
of capital rated high-yield securities
as a and securities with varying
secondary credit quality, without regard
objective to the maturities of such
securities
High Income Fund maximum fixed invests primarily in high-
current income yield, high-risk corporate
income investing bonds generally with
relatively low duration
Tax Exempt Insured Fund as high a fixed invests, under normal market
level of income conditions, at least 80% of
current investing its total assets in municipal
income bonds, the income of which is
exempt from exempt from federal income
federal taxes, and at least 65% of its
income taxes total assets in municipal
as is bonds that, in addition to
consistent having income exempt from
with federal income tax, are
preservation insured as to the scheduled
of capital payment of principal and
interest for as long as such
bonds are held by the Fund,
without regard to the
maturities of such securities
</TABLE>
2
<PAGE>
--------------------------------------------------------------------------------
Q:What are the principal risks of investing in the Funds?
A: The following section describes the principal risks of each Fund, and the
chart on pages 20 and 21 describes various additional risks.
Risks of Investing in Bonds
The bond market as a whole could go up or down (sometimes dramatically).
Interest rates and bond prices typically move inversely to each other,
therefore, as with any bond fund, the value of your investment in these
Funds may go up or down in response to changes in interest rates. Also, de-
faults (or even the potential for future default) by bond issuers may cause
the value of your investment in these Funds to go down.
Additional Principal Risks
In addition, shares of the Funds are not bank deposits and are not guaran-
teed or insured by any bank, government entity or the Federal Deposit In-
surance Corporation. Also, securities selected by a portfolio manager may
fail to produce the intended return. As with any mutual fund, there is no
guarantee that any Fund will be able to achieve its investment goals. If
the value of the assets of the Fund goes down, you could lose money.
Additional Principal Risks Specific to the Diversified Income, High Income
and Tax Exempt Insured Funds
The Diversified Income, High Income and Tax Exempt Insured Funds will in-
vest in bonds with various credit ratings. The creditworthiness of the is-
suer is always a factor in analyzing fixed income securities. An issuer
with a lower credit rating will be more likely than a higher rated issuer
to default or otherwise become unable to honor its financial obligations.
Additional Principal Risks Specific to the Diversified Income and High
Income Funds
The Diversified Income Fund may, and the High Income Fund will, invest in
"junk bonds," which are considered speculative. While SunAmerica seeks to
diversify the Fund and to engage in a credit analysis of each junk bond is-
suer in which it invests, junk bonds carry a substantial risk of default or
they may already be in default. The market price for junk bonds may fluctu-
ate more than higher-quality securities and may decline significantly. In
addition, it may be more difficult for a Fund to dispose of junk bonds or
to determine their value. Junk bonds may contain redemption or call provi-
sions that, if exercised during a period of declining interest rates, may
force a Fund to replace the security with a lower yielding security, which
would decrease the return on such Fund.
Additional Principal Risks Specific to the GNMA Fund
The GNMA Fund will invest significantly in mortgage-backed securities,
which entails the risk that the underlying principal may be "prepaid" at
any time. As a result of prepayments, in periods of declining interest
rates the Fund may be required to reinvest its assets in securities with
lower interest rates. In periods of increasing interest rates, prepayments
generally may decline, with the effect that the securities subject to pre-
payment risk held by the Fund may exhibit price characteristics of longer-
term debt securities.
Q:How have the Funds performed historically?
A: The following Risk/Return Bar Charts and Tables illustrate the risks of in-
vesting in the Funds by showing changes in the Funds' performance from cal-
endar year to calendar year, and compare the Funds' average annual returns
to those of an appropriate market index. Sales charges are not reflected in
the bar charts. If these amounts were reflected, returns would be less than
those shown. Of course, past performance is not necessarily an indication of
how a Fund will perform in the future.
3
<PAGE>
Fund Highlights
--------------------------------------------------------------------------------
U.S. GOVERNMENT SECURITIES FUND (Class B)
[GRAPH]
'90 9.01%
'91 9.87%
'92 5.26%
'93 4.39%
'94 -1.37%
'95 14.88%
'96 2.34%
'97 7.21%
'98 6.07%
'99 -1.83%
During the 10-year period shown in
the bar chart, the highest return
for a quarter was 4.56% (quarter
ended 12/31/95) and the lowest
return for a quarter was -1.84%
(quarter ended 3/31/96). The year-
to-date return as of 6/30/00 was
2.41%.
<TABLE>
<CAPTION>
Average Annual Total Returns
(as of
the calendar year ended Past One Past Five Past Ten Class A
December 31, 1999) Year Years Years Since Inception*
<S> <C> <C> <C> <C> <C>
U.S. Government Securities
Fund** Class A -5.88% 5.25% N/A 4.11%
Class B -5.76% 5.26% 5.47% --
Lehman Brothers Government
Index*** -2.25% 7.52% 7.53% 5.33%
</TABLE>
*Inception Date: Class A: 10/1/93; Class B: 3/3/86; Class II: 6/1/99.
Performance information for Class II shares is not provided because, as of
December 31, 1999, Class II shares had not been in existence for a complete
calendar year.
**Includes sales charges.
***The Lehman Brothers Government Index is a broad index composed solely of
U.S. Treasury Securities maturing from 1-30 years. The index is derived from
1,970 securities.
GNMA FUND (Class B)
[GRAPH]
'90 9.55%
'91 14.35%
'92 4.37%
'93 2.44%
'94 -1.64%
'95 17.30%
'96 3.47%
'97 9.47%
'98 7.89%
'99 -0.80%
During the 10-year period shown in
the bar chart, the highest return
for a quarter was 5.86% (quarter
ended 6/30/95) and the lowest
return for a quarter was -1.91%
(quarter ended 3/31/96). The year-
to-date return as of 6/30/00 was
3.41%.
<TABLE>
<CAPTION>
Average Annual Total Returns
(as of the calendar year ended Past One Past Five Past Ten Class A
December 31, 1999) Year Years Years Since Inception*
<S> <C> <C> <C> <C> <C>
GNMA Fund** Class A -4.82% 6.95% N/A 5.27%
Class B -4.77% 6.99% 6.48% --
Salomon Brothers GNMA
Index*** 2.01% 8.03% 7.91% 6.28%
</TABLE>
*Inception Date: Class A: 10/11/93; Class B: 4/25/83; Class II: 6/1/99.
Performance information for Class II shares is not provided because, as of
December 31, 1999, Class II shares had not been in existence for a complete
calendar year.
**Includes sales charges.
***The Salomon Brothers GNMA Index is comprised of 126 issues of 15 and 30-year
fixed-rate pass-through mortgage-backed securities.
4
<PAGE>
--------------------------------------------------------------------------------
DIVERSIFIED INCOME FUND (Class B)
During the 9-year period shown in
the bar chart, the highest return
for a quarter was 5.93% (quarter
ended 3/31/93) and the lowest
return for a quarter was -12.74%
(quarter ended 9/30/98). The year-
to-date return as of 6/30/00 was
2.94%.
[GRAPH]
'91 3.97%
'92 -0.27%
'93 14.39%
'94 -8.93%
'95 11.95%
'96 12.44%
'97 9.45%
'98 -6.73%
'99 6.22%
<TABLE>
<CAPTION>
Average Annual Total Returns Past One Past Five Class A Class B
(as of the calendar year ended Year Years Since Inception* Since Inception*
December 31, 1999)
<S> <C> <C> <C> <C> <C>
Diversified Income
Fund** Class A 1.81% 6.03% 3.69% --
Class B 2.22% 6.10% -- 4.54%
Lehman Brothers
Government Index*** -2.25% 7.52% 5.33% 7.35%
JP Morgan Global
Government Bond
Index**** -5.08% 7.08% 5.88% 6.45%
Merrill Lynch High Yield
Master II Index***** 2.51% 9.89% 8.25% 11.53%
</TABLE>
<TABLE>
<S> <C>
* Inception Date: Class A: 10/5/93; Class B: 4/6/91; Class II: 6/1/99. Performance information for
Class II shares is not provided because, as of December 31, 1999, Class II shares had not been in
existence for a complete calendar year.
** Includes sales charges.
*** The Lehman Brothers Government Index is a broad index composed solely of U.S. Treasury Securities
with maturities ranging from 1-30 years. The index is derived from 1,970 securities.
**** The JP Morgan Global Government Bond Index is comprised of 514 issues from 13 countries including
the U.S., U.K., Japan, Germany and Canada.
***** The Merrill Lynch High Yield Master II Index is an index composed solely of high yield bonds. The
index is derived from 1,085 bonds.
</TABLE>
5
<PAGE>
Fund Highlights
--------------------------------------------------------------------------------
HIGH INCOME FUND (Class A)
During the 10-year period shown in
the bar chart, the highest return
for a quarter was 12.30% (quarter
ended 3/31/91) and the lowest
return for a quarter was -9.89%
(quarter ended 9/30/98). The year-
to-date return as of 6/30/00 was
-0.05%.
[GRAPH]
'90 -7.08%
'91 36.59%
'92 20.92%
'93 17.05%
'94 -8.98%
'95 13.15%
'96 15.46%
'97 13.98%
'98 -5.68%
'99 5.39%
<TABLE>
<CAPTION>
Average Annual Total Returns Past One Past Five Past Ten Class B Class II
(as of the calendar year ended Year Years Years Since Inception* Since Inception*
December 31, 1999)
<S> <C> <C> <C> <C> <C> <C>
High Income Fund** Class A 0.38% 7.11% 8.71% -- --
Class B 0.73% 7.21% N/A 4.95% --
Class II 2.87% N/A N/A -- -2.43%
Merrill Lynch High Yield
Master II Index*** 2.51% 9.89% 11.21% 8.25% 2.01%
</TABLE>
* Inception Date: Class A: 9/19/86; Class B: 10/1/93; Class II: 2/2/98
** Includes sales charges.
*** The Merrill Lynch High Yield Master II Index is an index composed solely of
high yield bonds. The index is derived from 1,085 bonds.
TAX EXEMPT INSURED FUND (Class A)
During the 10-year period shown in
the bar chart, the highest return
for a quarter was 6.07% (quarter
ended 3/31/95) and the lowest
return for a quarter was -4.80%
(quarter ended 3/31/94). The year-
to-date return as of 6/30/00 was
3.45%.
[GRAPH]
'90 5.81%
'91 8.67%
'92 6.59%
'93 7.85%
'94 -3.99%
'95 15.66%
'96 3.33%
'97 8.63%
'98 5.55%
'99 -3.59%
<TABLE>
<CAPTION>
Average Annual Total Returns
(as of the calendar year ended Past One Past Five Past Ten Class B
December 31, 1999) Year Years Years Since Inception*
<S> <C> <C> <C> <C> <C>
Tax Exempt Insured Fund** Class A -8.17% 4.71% 4.79% --
Class B -8.04% 4.71% N/A 3.24%
Lehman Brothers Municipal
Bond
Index*** -2.07% 6.91% 6.89% 4.84%
</TABLE>
* Inception Date: Class A: 11/22/85; Class B: 10/4/93; Class II 6/1/99.
Performance information for Class II shares is not provided because, as of
December 31, 1999, Class II share had not been in existence for a complete
calendar year.
** Includes sales charges.
*** The Lehman Brothers Municipal Bond Index is a broad market performance
benchmark for the tax-exempt bond market. It is currently derived from
approximately 40,000 issues.
6
<PAGE>
--------------------------------------------------------------------------------
(THIS PAGE INTENTIONALLY LEFT BLANK)
7
<PAGE>
Fund Highlights
--------------------------------------------------------------------------------
Q:What are the Funds' expenses?
A:The following table describes the fees and expenses that you may pay if you
buy and hold shares of the Funds.
<TABLE>
<CAPTION>
U.S. Government Securities GNMA
Fund Fund
-------------------------- ----
Class A Class B Class II Class A Class B Class II
--------- --------- --------- ------- ------- --------
<S> <C> <C> <C> <C> <C> <C>
Shareholder Fees
(fees paid
directly from your investment)
Maximum Sales
Charge (Load) 4.75% 4.00% 2.00% 4.75% 4.00% 2.00%
Maximum Sales
Charge (Load)
Imposed on
Purchases (as a percentage
of offering
price)(/2/) 4.75% None 1.00% 4.75% None 1.00%
Maximum
Deferred Sales
Charge (Load)
(as a
percentage of
amount
redeemed)(/3/) None 4.00% 1.00% None 4.00% 1.00%
Maximum Sales
Charge (Load)
Imposed on
Reinvested
Dividends None None None None None None
Redemption
Fee(/4/) None None None None None None
Exchange Fee None None None None None None
Maximum Account
Fee None None None None None None
Annual Fund
Operating
Expenses
(expenses that
are deducted
from Fund
assets)
Management Fees 0.75% 0.75% 0.75% 0.51% 0.51% 0.51%
Distribution
(12b-1)
Fees(/5/) 0.35% 1.00% 1.00% 0.35% 1.00% 1.00%
Other Expenses 0.41% 0.43% 1.31% 0.51% 0.52% 2.57%
Total Annual
Fund Operating
Expenses 1.51% 2.18% 3.06% 1.37% 2.03% 4.08%
Expense
Reimbursement -- -- 0.86% -- -- 1.98%
Net
Expenses(/6/) 1.51% 2.18% 2.20% 1.37%(/7/) 2.03%(/7/) 2.10%(/7/)
</TABLE>
(1) Previously designated Class C shares.
(2) The front-end sales charge on Class A shares decreases with the size of the
purchase to 0% for purchases of $1 million or more.
(3) Purchases of Class A shares over $1 million will be subject to a contingent
deferred sales charge (CDSC) on redemptions made within one year of pur-
chase. The CDSC on Class B shares applies only if shares are redeemed
within six years of their purchase. The CDSC on Class II shares applies
only if shares are redeemed within eighteen months of their purchase. See
page 14 for more information on the CDSCs.
(4) A $15.00 fee may be imposed on wire or overnight mail redemptions.
(5) Because these fees are paid out of a Fund's assets on an on-going basis,
over time these fees will increase the cost of your investment and may cost
you more than paying other types of sales charges.
8
<PAGE>
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Diversified Income High Income Tax Exempt Insured
Fund Fund Fund
------------------ ----------- ------------------
Class A Class B Class II Class A Class B Class II(/1/) Class A Class B Class II
------- ------- -------- ------- ------- ------------- ------- ------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
4.75% 4.00% 2.00% 4.75% 4.00% 2.00% 4.75% 4.00% 2.00%
4.75% None 1.00% 4.75% None 1.00% 4.75% None 1.00%
None 4.00% 1.00% None 4.00% 1.00% None 4.00% 1.00%
None None None None None None None None None
None None None None None None None None None
None None None None None None None None None
None None None None None None None None None
0.65% 0.65% 0.65% 0.75% 0.75% 0.75% 0.50% 0.50% 0.50%
0.35% 1.00% 1.00% 0.35% 1.00% 1.00% 0.35% 1.00% 1.00%
0.51% 0.52% 4.66% 0.42% 0.40% 0.47% 0.43% 0.42% 5.65%
1.51% 2.17% 6.31% 1.52% 2.15% 2.22% 1.28% 1.92% 7.15%
-- -- 4.16% -- -- 0.12% -- -- 5.20%
1.51% 2.17% 2.15% 1.52% 2.15% 2.10% 1.28% 1.92% 1.95%
</TABLE>
(6) The Board of Trustees, including a majority of the Independent Trustees,
approved the Investment Advisory and Management Agreement subject to the
net expense ratio set forth above. The Adviser may not increase such ra-
tios, which are contractually required by agreement with the Board of
Trustees, without the approval of the Trustees, including a majority of the
Independent Trustees. The expense waivers and fee reimbursements will con-
tinue indefinitely, subject to termination by the Trustees, including a ma-
jority of the Independent Trustees.
(7) The Adviser is voluntarily waiving fees and/or reimbursing expenses so that
the total net expense ratios of the GNMA Fund do not exceed the following:
<TABLE>
<S> <C> <C>
Class A Class B Class II
------- ------- --------
0.99% 1.64% 1.64%
</TABLE>
9
<PAGE>
Fund Highlights
--------------------------------------------------------------------------------
EXAMPLE
This Example is intended to help you compare the cost of investing in the Funds
with the cost of investing in other mutual funds.
The Example assumes that you invest $10,000 in a Fund for the time periods
indicated and then redeem all of your shares at the end of those periods. The
Example also assumes that your investment has a 5% return each year and that
the Fund's operating expenses remain the same. Although your actual costs may
be higher or lower, based on these assumptions and the net expenses shown in
the fee table your costs would be:
If you redeem your investment at the end of the periods indicated:
<TABLE>
<CAPTION>
1 Year 3 Years 5 Years 10 Years
<S> <C> <C> <C> <C>
U.S. Government Securities Fund
(Class A shares)............................... $621 $930 $1,260 $2,191
(Class B shares)*.............................. 621 982 1,369 2,264
(Class II shares).............................. 421 781 1,268 2,609
GNMA Fund
(Class A shares)............................... 608 888 1,189 2,043
(Class B shares)*.............................. 606 937 1,293 2,110
(Class II shares).............................. 411 751 1,218 2,507
Diversified Income Fund
(Class A shares)............................... 621 930 1,260 2,191
(Class B shares)*.............................. 620 979 1,364 2,258
(Class II shares).............................. 416 766 1,243 2,558
High Income Fund
(Class A shares)............................... 622 932 1,265 2,201
(Class B shares)*.............................. 618 973 1,354 2,248
(Class II shares).............................. 411 751 1,218 2,507
Tax Exempt Insured Fund
(Class A shares)............................... 599 862 1,144 1,947
(Class B shares)*.............................. 595 903 1,237 1,999
(Class II shares).............................. 396 706 1,142 2,352
</TABLE>
<TABLE>
You would pay the following expenses if you did not redeem your shares:
<CAPTION>
1 Year 3 Years 5 Years 10 Years
<S> <C> <C> <C> <C>
U.S. Government Securities Fund
(Class A shares)............................... $621 $930 $1,260 $2,191
(Class B shares)*.............................. 221 682 1,169 2,264
(Class II shares).............................. 321 781 1,268 2,609
GNMA Fund
(Class A shares)............................... 608 888 1,189 2,043
(Class B shares)*.............................. 206 637 1,093 2,110
(Class II shares).............................. 311 751 1,218 2,507
Diversified Income Fund
(Class A shares)............................... 621 930 1,260 2,191
(Class B shares)*.............................. 220 679 1,164 2,258
(Class II shares).............................. 316 766 1,243 2,558
High Income Fund
(Class A shares)............................... 622 932 1,265 2,201
(Class B shares)*.............................. 218 673 1,154 2,248
(Class II shares).............................. 311 751 1,218 2,507
Tax Exempt Insured Fund
(Class A shares)............................... 599 862 1,144 1,947
(Class B shares)*.............................. 195 603 1,037 1,999
(Class II shares).............................. 296 706 1,142 2,352
</TABLE>
------
* Class B shares convert to Class A shares approximately seven years after pur-
chase as described in the section entitled "Shareholder Account Information"
on page 14. Therefore, expense information for years 8, 9 and 10 is the same
for both Class A and Class B shares.
10
<PAGE>
Shareholder Account Information
--------------------------------------------------------------------------------
SELECTING A SHARE CLASS
Each Fund offers three classes of shares: Class A, Class B and Class II shares.
Each class of shares has its own cost structure, so you can choose the one best
suited to your investment needs. Your broker or financial advisor can help you
determine which class is right for you.
Class A Class B Class II
. Front-end sales . No front-end . Front-end sales
charges, as sales charge; charge, as
described below. all your money described below.
There are goes to work for
several ways to you right away. . Higher annual
reduce these . Higher annual expenses than
charges, also expenses than Class A shares.
described below. Class A shares.
. Lower annual . Deferred sales
expenses than charge on shares . Deferred sales
Class B or Class you sell within charge on shares
II shares. six years of you sell within
purchase, as eighteen months
described below. of purchase, as
described below.
. No conversion to
. Automatic Class A.
conversion to
Class A shares
after
approximately
one year after
such time that
no CDSC would be
payable upon
redemption, as
described below,
thus reducing
future annual
expenses.
CALCULATION OF SALES CHARGES
Class A Sales Charges are as follows:
<TABLE>
<CAPTION>
Sales Charge Concession to Dealers
------------------------------------------------------
% of % of Net % of
Offering Amount Offering
Your Investment Price Invested Price
------------------------------------------------------
<S> <C> <C> <C>
Less than $100,000..................... 4.75% 4.99% 4.00%
$100,000 but less than $250,000........ 3.75% 3.90% 3.00%
$250,000 but less than $500,000........ 3.00% 3.09% 2.25%
$500,000 but less than $1,000,000...... 2.10% 2.15% 1.35%
$1,000,000 or more..................... None None 1.00%
</TABLE>
Investments of $1 million or more. Class A shares are available with no front-
end sales charge. However, a 1% CDSC is imposed on any shares you sell within
one year of purchase and a 0.50% CDSC is charged on any shares you sell after
the first year and within the second year after purchase.
Class B Shares are offered at their net asset value per share, without any ini-
tial sales charge. However, there is a CDSC on shares you sell within six years
of buying them. The longer the time between the purchase and the sale of
shares, the lower the rate of the CDSC:
Class B deferred charges:
<TABLE>
<CAPTION>
Years after purchase CDSC on shares being sold
<S> <C>
1st or 2nd year 4.00%
3rd or 4th year 3.00%
5th year 2.00%
6th year 1.00%
7th year and thereafter None
</TABLE>
Class II. Sales Charges are as follows:
<TABLE>
<CAPTION>
Concession
Sales Charge to Dealers
---------------------------------------------------------------------------------------
% of % of Net % of
Offering Amount Offering
Price Invested Price
---------------------------------------------------------------------------------------
<S> <C> <C>
1.00% 1.01% 1.00%
</TABLE>
There is also a CDSC of 1% on shares you sell within 18 months after you buy
them.
Determination of CDSC. Each CDSC is based on the original purchase cost or the
current market value of the shares being sold, whichever is less. There is no
CDSC on shares you purchase through reinvestment of dividends. To keep your
CDSC as low as possible, each time you place a request to sell shares we will
first sell any shares in your account that are not subject to a CDSC. If there
are not enough of these shares available, we will sell shares that have the
lowest CDSC.
For purposes of the CDSC, we count all purchases you make during a calendar
month as having been made on the FIRST day of that month.
11
<PAGE>
Shareholder Account Information
--------------------------------------------------------------------------------
SALES CHARGE REDUCTIONS AND WAIVERS
Waivers for Certain Investors. Various individuals and institutions may pur-
chase Class A shares without front-end sales charges, including:
. financial planners, institutions, broker-dealer representatives or regis-
tered investment advisers utilizing Fund shares in fee-based investment
products under an agreement with the Distributor (this waiver may also ap-
ply to front-end sales charges of Class II shares)
. participants in certain retirement plans that meet applicable conditions
. Trustees and other individuals who are affiliated with any Fund of the
SunAmerica Mutual Funds, and their families
. selling brokers and their employees and sales representatives and their
families
. participants in "Net Asset Value Transfer Program"
We will generally waive the CDSC for Class B or Class II shares in the follow-
ing cases:
. within one year of the shareholder's death or becoming disabled
. taxable distributions or loans to participants made by qualified retire-
ment plans or retirement accounts (not including rollovers) for which
SunAmerica serves as fiduciary
. Trustees and other individuals who are affiliated with any Fund or other
SunAmerica Mutual Funds and their families
. to make payments through the Systematic Withdrawal Plan (subject to cer-
tain conditions)
. participants in "Net Asset Value Transfer Program"
Reducing your Class A sales charges. There are several special purchase plans
that allow you to combine multiple purchases of Class A shares of SunAmerica
Mutual Funds to take advantage of the breakpoints in the sales charge schedule.
For information about the "Rights of Accumulation," "Letter of Intent," "Com-
bined Purchase Privilege," and "Reduced Sales Charges for Group Purchases,"
contact your broker or financial advisor, or consult the Statement of Addi-
tional Information.
To utilize: if you think you may be eligible for a sales charge reduction or
CDSC waiver, contact your broker or financial advisor.
Reinstatement privilege. If you sell shares of a Fund, within one year after
the sale, you may invest some or all of the proceeds of the sale in the same
share class of the same Fund without a sales charge. A shareholder may use the
reinstatement privilege only one time after selling such shares. If you paid a
CDSC when you sold your shares, we will credit your account with the dollar
amount of the CDSC at the time of sale. All accounts involved must be regis-
tered in the same name(s).
DISTRIBUTION AND SERVICE (12b-1) FEES
Each class of shares of each Fund has its own 12b-1 plan that provides for dis-
tribution and account maintenance and service fees (payable to the Distributor)
based on a percentage of average daily net assets, as follows:
<TABLE>
<CAPTION>
Account Maintenance and
Class Distribution Fee Service Fee
<S> <C> <C>
A 0.10% 0.25%
B 0.75% 0.25%
II 0.75% 0.25%
</TABLE>
Because 12b-1 fees are paid out of the Fund's assets on an ongoing basis, over
time these fees will increase the cost of your investment and may cost you more
than paying other types of sales charges.
OPENING AN ACCOUNT
Read this prospectus carefully.
Determine how much you want to invest. The minimum initial investments for the
Funds are as follows:
. non-retirement account: $500
. retirement account: $250
. dollar cost averaging: $500 to open; you must invest at least $25 a month
The minimum subsequent investments for the Funds are as follows:
. non-retirement account: $100
. retirement account: $25
. Complete the appropriate parts of the Account Application, carefully fol-
lowing the instructions. If you have questions, please contact your broker
or financial advisor or call Shareholder/Dealer Services at 1-800-858-
8850, extension 5125.
. Complete the appropriate parts of the Supplemental Account Application. By
applying for additional investor services now, you can avoid the delay and
inconvenience of having to submit an additional application if you want to
add services later.
. Make your initial investment using the chart on the next page. You can
initiate any purchase, exchange or sale of shares through your broker or
financial advisor.
12
<PAGE>
--------------------------------------------------------------------------------
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13
<PAGE>
Shareholder Account Information
--------------------------------------------------------------------------------
BUYING SHARES
Opening an account Adding to an account
By check
................................................................................
. Make out a check for the . Make out a check for the
investment amount, investment amount payable
payable to the specific to the specific Fund or
Fund or SunAmerica Funds. SunAmerica Funds.
. Deliver the check and . Include the stub from
your completed Account your Fund statement or a
Application (and note specifying the Fund
Supplemental Account name, your share class,
Application, if your account number and
applicable) to your the name(s) in which the
broker or financial account is registered.
advisor, or mail them to: . Indicate the Fund and
account number in the
SunAmerica Fund memo section of your
Services, Inc. check.
Mutual Fund Operations,
3rd Floor . Deliver the check and
The SunAmerica Center your stub or note to your
733 Third Avenue broker or financial
New York, New York advisor, or mail them to:
10017-3204.
Non-Retirement Accounts:
SunAmerica Fund Services,
. All purchases must be in Inc.
U.S. dollars. Cash will c/o NFDS
not be accepted. A $25.00
fee will be charged for P.O. Box 219373
all checks returned due
to insufficient funds. Kansas City, Missouri
64121-9373
Retirement Accounts:
SunAmerica Fund Services,
Inc.
Mutual Fund Operations, 3rd
Floor
The SunAmerica Center
733 Third Avenue
New York, New York 10017-
3204
By wire
................................................................................
. Deliver your completed . Instruct your bank to
application to your wire the amount of your
broker or financial investment to:
advisor or fax it to
SunAmerica Fund Services, State Street Bank & Trust
Inc. at 212-551-5585. Company
. Obtain your account num- Boston, MA
ber by referring to your ABA #0110-00028
statement or by calling DDA # 99029712
your broker or financial
advisor or Specify the Fund name, your
Shareholder/Dealer Serv- share class, your Fund num-
ices at 1-800-858-8850, ber, account number and the
ext. 5125. name(s) in which the account
is registered. Your bank may
. Instruct your bank to charge a fee to wire funds.
wire the amount of your
investment to:
State Street Bank & Trust Company
Boston, MA
ABA #0110-00028
DDA # 99029712
Specify the Fund name, your
choice of share class, your
new Fund number and account
number and the name(s) in
which the account is regis-
tered. Your bank may charge a
fee to wire funds.
To open or add to an account using dollar cost averaging, see "Additional In-
vestor Services."
14
<PAGE>
--------------------------------------------------------------------------------
SELLING SHARES
How Requirements
Through Your Broker or Financial Advisor
................................................................................
. Accounts of any type. . Call your broker or
. Sales of any amount. financial advisor to
place your order to sell
shares.
By mail
................................................................................
. Accounts of any type. . Write a letter of
instruction indicating
. Include all signatures the Fund name, your share
and any additional class, your account
documents that may be number, the name(s) in
required (see next page). which the account is
registered and the dollar
value or number of shares
. Mail the materials to: you wish to sell.
SunAmerica Fund Services, . Sales of $100,000 or more
Inc. require the letter of
instruction to have a
Mutual Fund Operations, signature guarantee.
3rd Floor
. A check will normally be
The SunAmerica Center mailed on the next
business day to the
name(s) and address in
733 Third Avenue which the account is
registered, or otherwise
New York, New York 10017- according to your letter
3204 of instruction.
By phone
................................................................................
. Most accounts.
. Sales of less than . Call Shareholder/Dealer
$100,000. Services at 1-800-858-
8850, extension 5125
between 8:30 a.m. and
7:00 p.m. (Eastern time)
on most business days.
State the Fund name, the
name of the person
requesting the
redemption, your share
class, your account
number, the name(s) in
which the account is
registered and the dollar
value or number of shares
you wish to sell.
. A check will be mailed to
the name(s) and address
in which the account is
registered, or to a dif-
ferent address indicated
in a written authoriza-
tion previously provided
to the Fund by the share-
holder(s) on the account.
By wire
................................................................................
. Request by mail to sell . Proceeds will normally be
any amount (accounts of wired on the next
any type). business day. A $15 fee
. Request by phone to sell will be deducted from
less than $100,000. your account.
To sell shares through a systematic withdrawal plan, see "Additional Investor
Services."
15
<PAGE>
Shareholder Account Information
--------------------------------------------------------------------------------
Selling shares in writing. In certain circumstances, you will need to make your
request to sell shares in writing. Corporations, executors, administrators,
trustees or guardians may need to include additional items with a request to
sell shares. You may also need to include a signature guarantee, which protects
you against fraudulent orders. You will need a signature guarantee if:
. your address of record has changed within the past 30 days
. you are selling more than $100,000 worth of shares
. you are requesting payment other than by a check mailed to the address of
record and payable to the registered owner(s)
You can generally obtain a signature guarantee from the following sources:
. a broker or securities dealer
. a federal savings, cooperative or other type of bank
. a savings and loan or other thrift institution
. a credit union
. a securities exchange or clearing agency
A notary public CANNOT provide a signature guarantee.
TRANSACTION POLICIES
Valuation of shares. The net asset value per share (NAV) for each Fund and
class is determined each business day at the close of regular trading on the
New York Stock Exchange (generally 4:00 p.m., Eastern time) by dividing the net
assets of each class by the number of such class's outstanding shares. Invest-
ments for which market quotations are readily available are valued at their
price as of the close of regular trading on the New York Stock Exchange for the
day. All other securities and assets for which market quotations are not read-
ily available are valued at fair value following procedures approved by the
Trustees.
Buy and sell prices. When you buy shares, you pay the NAV plus any applicable
sales charges, as described earlier. When you sell shares, you receive the NAV
minus any applicable CDSCs.
Execution of requests. Each Fund is open on those days when the New York Stock
Exchange is open for regular trading. We execute buy and sell requests at the
next NAV to be calculated after the Trust receives your request in good order.
If the Trust or the Distributor receives your order before the Fund's close of
business (generally 4:00 p.m., Eastern time), you will receive that day's clos-
ing price. If the Trust or the Distributor receives your order after that time,
you will receive the next business day's closing price. If you place your order
through a broker or financial advisor, you should make sure the order is trans-
mitted to the Fund before its close of business. The Trust and the Distributor
reserve the right to reject any order to buy shares.
During periods of extreme volatility or market crisis, a Fund may temporarily
suspend the processing of sell requests, or may postpone payment of proceeds
for up to three business days or longer, as allowed by federal securities laws.
Each of the Diversified Income Fund and High Income Fund may invest to a large
extent in securities that are primarily listed on foreign exchanges that trade
on weekends or other days when such Fund does not price its shares. As a re-
sult, the value of the Fund's shares may change on days when you will not be
able to purchase or redeem your shares.
If the Trust determines that it would be detrimental to the best interests of
the remaining shareholders of the Trust to make payment of redemption proceeds
wholly or partly in cash, the Trust may pay the redemption price by a distribu-
tion in kind of securities from the Trust in lieu of cash. However, the Trust
has made an election that requires it to pay a certain portion of redemption
proceeds in cash.
At various times, the Fund may be requested to redeem shares for which it has
not yet received good payment. The Fund may delay or cause to be delayed the
mailing of a redemption check until such time as good payment (e.g., cash or
certified check drawn on a United States bank) has been collected for the pur-
chase of such shares, which will not exceed 15 days.
Telephone transactions. For your protection, telephone requests are recorded in
order to verify their accuracy. In addition, Shareholder/Dealer Services will
take measures to verify the identity of the caller, such as asking for name,
account number, social security or other taxpayer ID number and other relevant
information. If appropriate measures are not taken, the Trust is responsible
for any losses that may occur to any account due to an unauthorized telephone
call. Also for your protection, telephone transactions are not permitted on ac-
counts whose names or addresses have changed within the past 30 days. At times
of peak activity, it may be difficult to place requests by phone. During these
times, consider sending your request in writing.
Exchanges. You may exchange shares of a Fund for shares of the same class of
any other fund distributed by SunAmerica Capital Services, Inc. Before making
an exchange, you should review a copy of the prospectus of the fund into which
you would like to exchange. All exchanges are subject to applicable minimum in-
vestment requirements. A Systematic Exchange Program is described under "Addi-
tional Investor Services."
<PAGE>
--------------------------------------------------------------------------------
If you exchange shares that were purchased subject to a CDSC, the CDSC will
continue to apply following the exchange. In determining the CDSC applicable to
shares being sold after an exchange, we will take into account the length of
time you held those shares prior to the exchange. Your CDSC schedule will not
change if you exchange Class II shares that you purchased prior to December 1,
1998 for another portfolio or fund's Class II shares (which currently have a
longer CDSC schedule).
Certificated shares. Most shares are electronically recorded. If you wish to
have certificates for your shares, please call Shareholder/Dealer Services at
1-800-858-8850 for further information. You may sell or exchange certificated
shares only by returning the certificates to the Funds, along with a letter of
instruction and a signature guarantee. The Funds do not issue certificates for
fractional shares.
Multi-party checks. The Trust may agree to accept a "multi-party check" in pay-
ment for Fund shares. This is a check made payable to the investor by another
party and then endorsed over to the Trust by the investor. If you use a multi-
party check to purchase shares, you may experience processing delays. In addi-
tion, the Trust is not responsible for verifying the authenticity of any en-
dorsement and assumes no liability for any losses resulting from a fraudulent
endorsement.
ADDITIONAL INVESTOR SERVICES
To select one or more of these additional services, complete the relevant
part(s) of the Supplemental Account Application. To add a service to an exist-
ing account, contact your broker or financial advisor, or call
Shareholder/Dealer Services at 1-800-858-8850, extension 5125.
Dollar Cost Averaging lets you make regular investments from your bank account
to the SunAmerica Mutual Funds of your choice. You determine the frequency and
amount of your investments, and you can terminate your participation at any
time.
Systematic Withdrawal Plan may be used for routine bill payment or periodic
withdrawals from your account. To use:
. Make sure you have at least $5,000 worth of shares in your account.
. Make sure you are not planning to invest more money in this account (buy-
ing shares during a period when you are also selling shares of the same
Fund is not advantageous to you, because of sales charges).
. Specify the payee(s) and amount(s). The payee may be yourself or any other
party, and there is no limit to the number of payees you may have, as long
as they are all on the same payment schedule. Each withdrawal must be at
least $50.
. Determine the schedule: monthly, quarterly, semi-annually, annually or in
certain selected months.
. Make sure your dividends and capital gains are being reinvested.
You cannot elect the systematic withdrawal plan if you have requested certifi-
cates for your shares.
Systematic Exchange Program may be used to exchange shares of a Fund periodi-
cally for the same class of shares of one or more other SunAmerica Mutual
Funds. To use:
. Specify the SunAmerica Mutual Fund(s) from which you would like money
withdrawn and into which you would like money invested.
. Determine the schedule: monthly, quarterly, semi-annually, annually or in
certain selected months.
. Specify the amount(s). Each exchange must be worth at least $25.
. Accounts must be registered identically; otherwise a signature guarantee
will be required.
Asset Protection Plan (optional). Anchor National Life Insurance Company offers
an Asset Protection Plan to certain investors in the Funds. The benefits of
this optional coverage payable at death will be related to the amounts paid to
purchase Fund shares and to the value of the Fund shares held for the benefit
of the insured persons. However, to the extent the purchased shares are re-
deemed prior to death, coverage with respect to these shares will terminate.
Purchasers of the Asset Protection Plan are required to authorize periodic re-
demptions of Fund shares to pay the premiums for this coverage. These redemp-
tions will not be subject to CDSCs but will have the same tax consequences as
any other Fund redemptions.
The Asset Protection Plan will be available to eligible persons who enroll for
the coverage within a limited time period after shares in any Fund are ini-
tially purchased or transferred. In addition, coverage cannot be made available
unless Anchor National knows for whose benefit shares are purchased. For in-
stance, coverage cannot be made available for shares registered in the name of
your broker unless the broker provides Anchor National with information regard-
ing the beneficial owners of the shares. In addition, coverage is available
only to shares purchased on behalf of natural persons between 21 and 75 years
of age; coverage is not available with respect to shares purchased for a re-
tirement account. Other restrictions on the coverage apply. This coverage may
not be available in all states and may be subject to additional restrictions or
limitations. Purchasers of shares should also make themselves familiar with the
impact on the Asset Protection Plan coverage of purchasing additional shares,
reinvestment of dividends and capital gains distributions and redemptions. An-
chor National is a SunAmerica company.
17
<PAGE>
Shareholder Account Information
--------------------------------------------------------------------------------
Please call 1-800-858-8850, extension 5660 for more information, including the
cost of the Asset Protection Plan option.
Retirement plans. SunAmerica Mutual Funds offer a range of qualified retirement
plans, including IRAs, Roth IRAs, Simple IRAs, SARSEPs, 401(k) plans, 403(b)
plans and other pension and profit-sharing plans. Using these plans, you can
invest in any SunAmerica Mutual Fund with a low minimum investment of $250 or,
for some group plans, no minimum investment at all. To find out more, call
Shareholder/Dealer Services at 1-800-858-8850, extension 5134.
DIVIDEND DISTRIBUTION AND ACCOUNT POLICIES
Account statements In general, you will receive account statements as follows:
. after every transaction that affects your account balance (except a divi-
dend reinvestment or automatic purchase from your bank account)
. after any changes of name or address of the registered owner(s)
. in all other circumstances, quarterly or annually, depending upon the Fund
Every year you should also receive, if applicable, a Form 1099 tax information
statement, mailed by January 31.
Dividends. The Funds generally distribute most or all of their net earnings in
the form of dividends. Ordinary income dividends, if any, are declared daily
and paid monthly. All capital gains distributions, if any, are paid annually by
the Funds.
Dividend Reinvestments. Your dividends and distributions, if any, will be auto-
matically reinvested in additional shares of the same Fund and share class on
which they were paid, unless you elect in writing, not less than five business
days prior to the payment date, to receive amounts in excess of $10 in cash.
Alternatively, dividends and distributions may be reinvested in any other
SunAmerica Mutual Fund or paid in cash (if more than $10). You will need to
complete the relevant part of the Account Application to elect one of these
other options. For existing accounts, contact your broker or financial advisor
or call Shareholder/Dealer Services at 1-800-858-8850, extension 5125 to change
dividend and distribution payment options.
Taxability of dividends. As long as a Fund meets the requirements for being a
tax-qualified regulated investment company, which each Fund has in the past and
intends to in the future, it pays no federal income tax on the earnings it dis-
tributes to shareholders.
Dividends you receive from a Fund whether reinvested or taken as cash, are gen-
erally considered taxable. Distributions of a Fund's net long-term capital
gains are taxable as capital gains; dividends from other sources are generally
taxable as ordinary income.
Dividends paid by the Tax Exempt Insured Fund generally will be exempt from
federal income taxes, as long as 50% or more of the value of that Fund's assets
at the end of each quarter is invested in state, municipal, and other obliga-
tions, the interest on which is excluded from gross income for federal tax pur-
poses. As mentioned, at least 80% of the Tax Exempt Insured Fund's assets will
be invested in such obligations during normal market conditions. Dividends at-
tributable to interest on taxable bonds, market discount and short-term capital
gains, however, will be subject to federal, state and local income tax at ordi-
nary income tax rates, and distribution of net long-term capital gains will be
taxable as capital gains. Some shareholders may be subject to federal alterna-
tive minimum tax liability. Tax-exempt interest from certain bonds is treated
as an item of tax preference, and may be attributed to shareholders. A portion
of all tax-exempt interest is includable as an upward adjustment in determining
a corporation's alternative minimum taxable income. These rules could make you
liable for the alternative minimum income tax (AMT).
"Buying into a Dividend." You should note that if you purchase shares just be-
fore a distribution, you will be taxed for that distribution like other share-
holders, even though that distribution represents simply a return of part of
your investment. You may wish to defer your purchase until after the record
date for the distribution, so as to avoid this tax impact.
The Form 1099 that is mailed to you every January details your dividends and
their federal tax category, although you should verify your tax liability with
your tax professional. Some dividends paid in January may be taxable as if they
had been paid the previous December.
Taxability of transactions. Any time you sell or exchange shares, it is consid-
ered a taxable event for you. Depending on the purchase price and the sale
price of the shares you sell or exchange, you may have a gain or a loss on the
transaction. You are responsible for any tax liabilities generated by your
transactions. If you hold Class B shares, you will not have a taxable event
when they convert into Class A shares.
Other Tax Considerations. If you are neither a lawful permanent resident nor a
citizen of the U.S. or if you are a foreign entity, ordinary income dividends
paid to you (which include distributions of net short-term capital gains) will
generally be subject to a 30% U.S. withholding tax, unless a lower treaty rate
applies.
By law, each Fund must withhold 31% of your distributions and proceeds if you
have not provided a correct taxpayer identification number or social security
number.
This section summarizes some of the consequences under current federal tax law
of an investment in a Fund. It is not a substitute for professional tax advice.
Consult your tax advisor about the potential tax consequences of an investment
in a Fund under all applicable laws.
Small accounts. If you draw down an account so that its total value is less
than $500 ($250 for retirement plan accounts), you may be asked to purchase
more shares within 60 days. If you do not take action, the Trust may close out
your account and mail you the proceeds. Alternatively, you may be charged a
$2.00 monthly charge to maintain your account. Your account will not be closed
if its drop in value is due to Fund performance or the effects of sales
charges.
18
<PAGE>
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19
<PAGE>
More Information About the Funds
--------------------------------------------------------------------------------
FUND INVESTMENT STRATEGIES
Each Fund has
its own
investment
goal and a
strategy for
pursuing it.
The chart
summarizes
information
about each
Fund's in-
vestment ap-
proach. Fol-
lowing this
chart is a
glossary that
further de-
scribes the
investment
and risk ter-
minology that
we use.
Please review
the glossary
in conjunc-
tion with
this chart.
<TABLE>
<CAPTION>
U.S. Government
Securities Fund GNMA Fund
<S> <C> <C>
What is the Fund's high current income current income, with
investment goal? consistent with capital appreciation
relative safety of as a secondary
capital objective
------------------------------------------------------------------------------
What principal investment fixed income investing fixed income
strategy does the Fund use investing
to implement its investment
goal?
------------------------------------------------------------------------------
What are the Fund's invests primarily in invests primarily in
principal investment securities of high mortgage-backed
techniques? credit quality issued securities
or guaranteed by the guaranteed by the
U.S. government, or Government National
any agency or Mortgage Association
instrumentality
thereof
------------------------------------------------------------------------------
What are the Fund's other . Mortgage-backed . U.S. Government
significant investment securities securities
techniques? . Short-term money . Short-term money
market instruments market instruments
. Zero-coupon . When
securities issued/delayed
. When issued/delayed delivery
delivery transactions
transactions
------------------------------------------------------------------------------
What other types of . Defensive . Defensive
securities may the Fund instruments instruments
normally invest in as part . Securities lending . Securities lending
of efficient portfolio (up to 33%) (up to 33%)
management or for return . Borrowing for . Borrowing for
enhancement purposes? temporary or temporary or
emergency purposes emergency purposes
(up to 5%) (up to 5%)
------------------------------------------------------------------------------
What risks may affect the . bond market . bond market
Fund? volatility volatility
. securities selection . securities
. interest rate selection
fluctuations . interest rate
. prepayment fluctuations
. illiquidity . prepayment
. hedging . illiquidity
. hedging
------------------------------------------------------------------------------
</TABLE>
20
<PAGE>
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Diversified Income High Income Tax Exempt Insured
Fund Fund Fund
<S> <C> <C>
a high level of current maximum current income as high a level of current
income consistent with income exempt from federal
moderate investment risk, income taxes as is
with preservation of consistent with
capital as a secondary preservation of capital
objective
-----------------------------------------------------------------------------------------------
fixed income investing fixed income investing fixed income investing
-----------------------------------------------------------------------------------------------
invests in U.S. government invests in high-yield, invests at least 80% in
securities; foreign high-risk corporate bonds tax-exempt municipal bonds
government and corporate generally with relatively and at least 65% in
debt securities; and fixed low duration municipal bonds that, in
income securities issued by addition to having income
domestic corporations, exempt from federal income
including lower-rated high- tax, also are insured as to
yield securities and the scheduled payment of
securities with varying principal and interest for
credit quality without as long as such bonds are
regard to the maturities of held by the Fund, without
such securities regard to the maturities of
such securities
-----------------------------------------------------------------------------------------------
. Zero-coupon securities . Foreign securities . Short-term money market
. Mortgage-backed . Short-term money market instruments
securities instruments . Illiquid securities
. Short-term money market . Zero-coupon securities
instruments . Preferred Stock
. Preferred Stock
-----------------------------------------------------------------------------------------------
. Defensive instruments . Defensive instruments . Defensive instruments
. Securities lending (up . Securities lending (up . Derivatives
to 33%) to 33%)
. Borrowing for temporary . Borrowing for temporary . Securities lending (up to
or or emergency purposes 33%)
emergency purposes (up (up to 5%) . Borrowing for temporary
to 5%) or emergency purposes (up
to 5%)
-----------------------------------------------------------------------------------------------
. bond market volatility . bond market volatility . bond market volatility
. securities selection . securities selection . securities selection
. interest rate . interest rate . interest rate
fluctuations fluctuations fluctuations
. credit quality . credit quality . credit quality
. junk bonds . junk bonds . illiquidity
. foreign exposure . foreign exposure . prepayment
. prepayment . prepayment . derivatives
. illiquidity . illiquidity . hedging
. hedging . hedging
-----------------------------------------------------------------------------------------------
</TABLE>
21
<PAGE>
More Information About the Funds
--------------------------------------------------------------------------------
GLOSSARY
The two best-
known debt
rating agen-
cies are
Standard &
Poor's Rat-
ings Servic-
es, a Divi-
sion of The
McGraw-Hill
Companies,
Inc. and
Moody's In-
vestors Serv-
ice, Inc.
"Investment
grade" refers
to any secu-
rity rated
"BBB" or
above by
Standard &
Poor's or
"Baa" or
above by
Moody's.
INVESTMENT TERMINOLOGY
Capital appreciation is growth of the value of an investment.
Preservation of capital means investing in a manner that tries to protect the
value of an investment against market movements and other economic events.
Fixed income securities provide consistent interest or dividend payments. They
include corporate bonds, notes, debentures, preferred stocks, convertible secu-
rities, U.S. government securities and mortgage-backed and asset-backed securi-
ties. The issuer of a senior fixed income security is obligated to make pay-
ments on this security ahead of other payments to security holders. An invest-
ment grade fixed income security is rated in one of the top four ratings cate-
gories by a debt rating agency (or is considered of comparable quality by the
Adviser).
A high yield bond is a high risk bond that does not meet the credit quality
standards of investment grade securities.
U.S. government securities are issued or guaranteed by the U.S. government, its
agencies and instrumentalities. Some U.S. government securities are issued or
unconditionally guaranteed by the U.S. Treasury. They are of the highest possi-
ble credit quality. While these securities are subject to variations in market
value due to fluctuations in interest rates, they will be paid in full if held
to maturity. Other U.S. government securities are neither direct obligations
of, nor guaranteed by, the U.S. Treasury. However, they involve federal spon-
sorship in one way or another. For example some are backed by specific types of
collateral; some are supported by the issuer's right to borrow from the Trea-
sury; some are supported by the discretionary authority of the Treasury to pur-
chase certain obligations of the issuer; and others are supported only by the
credit of the issuing government agency or instrumentality.
A municipal bond is a debt obligation of a state or local government entity,
which may support general governmental needs or special projects.
Asset-backed securities issued by trusts and special purpose corporations are
backed by a pool of assets, such as credit card or automobile loan receivables
representing the obligations of a number of different parties.
Mortgage-backed securities directly or indirectly provide funds for mortgage
loans made to residential home buyers. These include securities that represent
interests in pools of mortgage loans made by lenders such as commercial banks,
savings and loan institutions, mortgage bankers and others.
Short-term investments include money market securities such as short-term U.S.
government obligations, repurchase agreements, commercial paper, bankers' ac-
ceptances and certificates of deposit. These securities provide a Fund with
sufficient liquidity to meet redemptions and cover expenses.
Defensive investments include high quality fixed income securities, repurchase
agreements and other money market instruments. A Fund will make temporary de-
fensive investments in response to adverse market, economic, political or other
conditions. When a Fund takes a defensive position, it may miss out on invest-
ment opportunities that could have resulted from investing in accordance with
its principal investment strategy. As a result, a Fund may not achieve its in-
vestment goal.
The Government National Mortgage Association (GNMA) is a government owned cor-
poration and a federal agency. GNMA guarantees, with the full faith and credit
of the U.S. Government, full and timely payment of all monthly principal and
interest payments on the mortgage-backed pass-through securities which it is-
sues. Shares of the Fund itself are not guaranteed or insured by the U.S. gov-
ernment or any government entity.
Foreign securities are issued by companies located outside of the United States
and include securities issued by companies located in emerging markets and for-
eign debt obligations. Foreign securities may include American Depositary Re-
ceipts (ADRs) or other similar securities that convert into foreign securities
such as European Depository Receipts (EDRs) and Global Depository Receipts
(GDRs).
Illiquid securities are subject to legal or contractual restrictions that may
make them difficult to sell. A security that cannot easily be sold within seven
days will generally be considered illiquid. Certain restricted securities (such
as Rule 144A securities) are not generally considered illiquid because of their
established trading market.
22
<PAGE>
--------------------------------------------------------------------------------
A derivative instrument is a contract, such as an option or a future, whose
value is based on the performance of an underlying financial instrument.
Options and futures are contracts involving the right to receive or obligation
to deliver assets or money depending on the performance of one or more under-
lying assets or a market or economic index.
A zero-coupon security is a security that makes no periodic interest payments
but instead is sold at a deep discount from its face value.
Preferred stock is a class of capital stock that pays dividends at a specified
rate and has preference over common stock in the payment of dividends and the
liquidation of assets. Preferred stock does not ordinarily carry voting rights.
When-issued/delayed delivery transactions generally involve the purchase or
sale of a security with payment and delivery at some time in the future--i.e.
beyond normal settlement.
Securities lending involves a loan of securities by a Fund in exchange for cash
or collateral. The Fund earns interest on the loan while retaining ownership of
the security.
A Fund may borrow for temporary or emergency purposes including to meet redemp-
tions. Borrowing may exaggerate changes in the net asset value of Fund shares
and in the yield on a Fund's portfolio. Borrowing will cost a Fund interest ex-
pense and other fees. The costs of borrowing may reduce a Fund's return.
Future developments refer to securities and other instruments which do not
presently exist but may be developed in the future, provided that each such in-
vestment is consistent with the Fund's investment objectives, policies and re-
strictions and is otherwise legally permissible under federal and state laws.
The Prospectus will be amended or supplemented as appropriate to discuss any
such new investments.
Risk Terminology
Bond market volatility: The bond markets as a whole could go up or down (some-
times dramatically). This could affect the value of the securities in a Fund's
portfolio.
Securities selection: A strategy used by a Fund, or securities selected by its
portfolio manager, may fail to produce the intended return.
Interest rate fluctuations: Volatility of the bond market is due principally to
changes in interest rates. As interest rates rise, bond prices typically fall;
and as interest rates fall, bond prices typically rise. Longer-term and lower
coupon bonds tend to be more sensitive to changes in interest rates.
Credit quality: The creditworthiness of the issuer is always a factor in ana-
lyzing fixed income securities. An issuer with a lower credit rating will be
more likely than a higher rated issuer to default or otherwise become unable to
honor its financial obligations. This type of issuer will typically issue high
yield or "junk" bonds. In addition to the risk of default, junk bonds may be
more volatile, less liquid, more difficult to value and more susceptible to ad-
verse economic conditions or investor perceptions than other bonds.
Prepayment: Prepayment risk is the possibility that the principal of the loans
underlying mortgage-backed or other asset-backed securities may be prepaid at
any time. As a general rule, prepayments increase during a period of falling
interest rates and decrease during a period of rising interest rates. As a re-
sult of prepayments, in periods of declining interest rates a Fund may be re-
quired to reinvest its assets in securities with lower interest rates. In peri-
ods of increasing interest rates, prepayments generally may decline, with the
effect that the securities subject to prepayment risk held by a Fund may ex-
hibit price characteristics of longer-term debt securities.
Foreign exposure: Investments in foreign countries are subject to a number of
risks. A principal risk is that fluctuations in the exchange rates between the
U.S. dollar and foreign currencies may negatively affect an investment. In ad-
dition, there may be less publicly available information about a foreign com-
pany and it may not be subject to the same uniform accounting, auditing and fi-
nancial reporting standards as U.S. companies. Foreign governments may not reg-
ulate securities markets and companies to the same degree as the U.S. govern-
ment. Foreign investments will also be affected by local political or economic
developments and governmental actions. Consequently, foreign securities may be
less liquid, more volatile and more difficult to price than U.S. securities.
Historical experience indicates that the markets of emerging market countries
have been more volatile than more developed markets; however, such markets can
provide higher rates of return to investors.
Illiquidity: Certain securities may be difficult or impossible to sell at the
time and the price that the seller would like.
Derivatives: Derivatives are subject to general risks relating to heightened
sensitivity to market volatility, interest rate fluctuations, illiquidity and
creditworthiness of the counterparty to the derivatives transactions.
Hedging: Hedging is a strategy in which the Adviser uses a derivative security
to reduce certain risk characteristics of an underlying security or portfolio
of securities. While hedging strategies can be very useful and inexpensive ways
of reducing risk, they are sometimes ineffective due to unexpected changes in
the market. Moreover, while hedging can reduce or eliminate losses, it can also
reduce or eliminate gains.
23
<PAGE>
Fund Management
--------------------------------------------------------------------------------
Adviser. SunAmerica Asset Management Corp., which was organized in 1982 under
the laws of Delaware, selects and manages the investments, provides various ad-
ministrative services, and supervises the daily business affairs of each Fund.
In addition to managing the Funds, the Adviser serves as adviser, manager
and/or administrator for Anchor Pathway Fund, Anchor Series Trust, Brazos Mu-
tual Funds, SunAmerica Style Select Series, Seasons Series Trust, SunAmerica
Equity Funds, SunAmerica Money Market Funds, Inc., SunAmerica Series Trust and
SunAmerica Strategic Investment Series, Inc. The Adviser managed, advised or
administered assets in excess of $30 billion as of June 30, 2000.
For the fiscal year ended March 31, 2000, each Fund paid the Adviser a fee
equal to the following percentage of average daily net assets:
<TABLE>
<CAPTION>
Fund Fee
---- ---
<S> <C>
U.S. Government Securities Fund 0.75%
GNMA Fund 0.51%
Diversified Income Fund 0.65%
High Income Fund 0.75%
Tax Exempt Insured Fund 0.50%
</TABLE>
The Fixed Income Investment Team is responsible for the portfolio management of
each of the Funds. The Team is composed of four portfolio managers and research
analysts.
Distributor. SunAmerica Capital Services, Inc. (the "Distributor") distributes
each Fund's shares. The Distributor, a SunAmerica company, receives the initial
and deferred sales charges, all or a portion of which may be re-allowed to
other broker-dealers. In addition, the Distributor receives fees under each
Fund's 12b-1 plans.
The Distributor, at its expense, may from time to time provide additional com-
pensation to broker-dealers (including in some instances, affiliates of the
Distributor) in connection with sales of shares of a Fund. This compensation
may include (i) full re-allowance of the front-end sales charge on Class A
shares; (ii) additional compensation with respect to the sale of Class A, Class
B or Class II shares; or (iii) financial assistance to broker-dealers in con-
nection with conferences, sales or training programs for their employees, semi-
nars for the public, advertising campaigns regarding one or more of the Funds,
and/or other broker-dealer sponsored special events. In some instances, this
compensation will be made available only to certain broker-dealers whose repre-
sentatives have sold a significant number of shares of the Fund. Compensation
may also include payment for travel expenses, including lodging, incurred in
connection with trips taken by invited registered representatives for meetings
or seminars of a business nature. In addition, the following types of non-cash
compensation may be offered through sales contests: (i) travel mileage on major
air carriers; (ii) tickets for entertainment events (such as concerts or sport-
ing events); or (iii) merchandise (such as clothing, trophies, clocks, pens or
other electronic equipment). Broker-dealers may not use sales of the Fund's
shares to qualify for this compensation to the extent receipt of such compensa-
tion may be prohibited by applicable law or the rules of any self-regulatory
agency, such as the National Association of Securities Dealers, Inc. Dealers
who receive bonuses or other incentives may be deemed to be underwriters under
the Securities Act of 1933.
Certain laws and regulations limit the ability of banks and other depository
institutions to underwrite and distribute securities. However, in the opinion
of the Distributor based upon the advice of counsel, these laws and regulations
do not prohibit such depository institutions from providing other services to
investment companies of the type contemplated by the Funds' 12b-1 plans. Banks
and other financial services firms may be subject to various state laws regard-
ing these services, and may be required to register as dealers pursuant to
state law.
Administrator. SunAmerica Fund Services, Inc. assists the Funds' transfer agent
in providing shareholder services. The Administrator, a SunAmerica company, is
paid a monthly fee by each Fund for its services at the annual rate of 0.22% of
average daily net assets.
The Adviser, Distributor and Administrator are all located in The SunAmerica
Center, 733 Third Avenue, New York, New York 10017.
24
<PAGE>
Financial Highlights
--------------------------------------------------------------------------------
The Financial Highlights table for each Fund is intended to
help you understand the Fund's financial performance for the
past 5 years. Certain information reflects financial results
for a single Fund share. The total returns in each table repre-
sent the rate that an investor would have earned (or lost) on
an investment in a Fund (assuming reinvestment of all dividends
and distributions). This information has been audited by
PricewaterhouseCoopers LLP, whose report, along with each
Fund's financial statements, are included in the Trust's annual
report to shareholders, which is available upon request.
U.S. GOVERNMENT SECURITIES FUND
<TABLE>
<CAPTION>
Net
gain (loss)
on Invest-
Net Asset ments (both Dividends Net Asset Net Assets Ratio of
Value, Net realized Total from from net Value, end of expenses
Period beginning Investment and Investment Investment end of Total Period to average
Ended of period Income(/1/) unrealized) Operations Income period Return(/2/) (000's) net assets
------ --------- ----------- ----------- ---------- ---------- --------- ----------- ---------- ----------
Class A
-------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
3/31/96......... $8.23 $0.62 $ 0.16 $0.78 $(0.51) $8.50 $9.62% $125,504 1.44%(/3/)
3/31/97......... 8.50 0.59 (0.26) 0.33 (0.48) 8.35 3.98 113,171 1.54(/3/)
3/31/98......... 8.35 0.58 0.21 0.79 (0.48) 8.66 9.62 97,496 1.63
3/31/99......... 8.66 0.49 (0.07) 0.42 (0.43) 8.65 4.91 135,734 1.50
3/31/00......... 8.65 0.44 (0.37) 0.07 (0.41) 8.31 0.89 150,975 1.51
<CAPTION>
Class B
-------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
3/31/96......... $8.24 $0.55 $ 0.17 $0.72 $(0.45) $8.51 $8.87% $428,772 2.13%
3/31/97......... 8.51 0.54 (0.26) 0.28 (0.43) 8.36 3.31 289,040 2.18
3/31/98......... 8.36 0.52 0.20 0.72 (0.42) 8.66 8.80 207,950 2.26
3/31/99......... 8.66 0.45 (0.09) 0.36 (0.37) 8.65 4.25 113,521 2.15
3/31/00......... 8.65 0.40 (0.38) 0.02 (0.36) 8.31 0.23 42,273 2.18
<CAPTION>
Class II
--------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
6/01/99-
3/31/00(/3/) .. $8.49 $0.31 $(0.20) $0.11 $(0.28) $8.32 1.30% $ 907 2.20%(/4/)(/5/)
<CAPTION>
Ratio of net
Investment
Income
Period to average Portfolio
Ended net assets Turnover
------ ------------------- ---------
<S> <C> <C>
3/31/96......... $7.11%(/3/) 142%
3/31/97......... 7.01(/3/) 148
3/31/98......... 6.73 229
3/31/99......... 5.72 291
3/31/00......... 5.33 717
<CAPTION>
<S> <C> <C>
3/31/96......... 6.46 142%
3/31/97......... 6.36 148
3/31/98......... 6.11 229
3/31/99......... 5.10 291
3/31/00......... 4.69 717
<CAPTION>
<S> <C> <C>
6/01/99-
3/31/00(/3/) .. 4.50%(/4/)(/5/) 717%
</TABLE>
--------------------------------------------------------------------------------
GNMA FUND
<TABLE>
<CAPTION>
Net
gain (loss)
on Invest- Total Dividends Distri-
Net Asset Net ments (both from from net butions Net Asset Net Assets
Value, Invest- realized Invest- Invest- from Total Value, end of
Period beginning ment and ment ment capital distri- end of Total period
Ended of period Income(/1/) unrealized) operations Income gains butions period Return(/2/) (000's)
------ --------- ----------- ----------- ---------- --------- ------- ------- --------- ----------- ----------
Class A
-------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
3/31/96......... $ 9.98 $0.68 $ 0.40 $1.08 $(0.63) $ -- $(0.63) $ 10.43 $10.94% $40,278
3/31/97......... 10.43 0.65 (0.10) 0.55 (0.59) -- (0.59) 10.39 5.40 30,509
3/31/98......... 10.39 0.62 0.63 1.25 (0.59) (0.02) (0.61) 11.03 12.29 31,628
3/31/99......... 11.03 0.57 0.11 0.68 (0.53) (0.50) (1.03) 10.68 6.21 35,809
3/31/00......... 10.68 0.53 (0.29) 0.24 (0.50) -- (0.50) 10.42 2.40 44,155
<CAPTION>
Class B
-------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
3/31/96......... $10.01 $0.56 $ 0.44 $1.00 $(0.56) $ -- $(0.56) $ 10.45 10.13% $26,165
3/31/97......... 10.45 0.57 (0.08) 0.49 (0.52) -- (0.52) 10.42 4.82 18,929
3/31/98......... 10.42 0.55 0.63 1.18 (0.52) (0.02) (0.54) 11.06 11.54 18,837
3/31/99......... 11.06 0.50 0.12 0.62 (0.46) (0.50) (0.96) 10.72 5.63 26,061
3/31/00......... 10.72 0.46 (0.30) 0.16 (0.44) -- (0.44) 10.44 1.55 22,376
<CAPTION>
Class II
--------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
6/01/99-
3/31/00(/3/) .. $10.52 $0.37 $(0.09) $0.28 $(0.34) $ -- $(0.34) $ 10.46 2.72% $ 1,406
---------------------------------------------------------------------------------------------------------------------------
<CAPTION>
Ratio of net
Investment
Ratio of Income
expenses to
Period to average average Portfolio
Ended net assets net assets Turnover
------ ------------------ -------------------- ---------
<S> <C> <C> <C>
3/31/96......... $ 1.37% 6.12% 311%
3/31/97......... 1.41 6.11 426
3/31/98......... 1.47 5.75 529
3/31/99......... 1.41 5.19 456
3/31/00......... 1.37 5.06 910
<CAPTION>
<S> <C> <C> <C>
3/31/96......... 2.01% 5.64% 311%
3/31/97......... 2.07 5.46 426
3/31/98......... 2.13 5.09 529
3/31/99......... 2.07 4.53 456
3/31/00......... 2.03 4.41 910
<CAPTION>
<S> <C> <C> <C>
6/01/99-
3/31/00(/3/) .. 2.10%(/4/)(/5/) 4.34%(/4/)(/5/) 910%
---------------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Calculated based upon average shares outstanding
(2) Total return is not annualized and does not reflect sales load
(3) Commencement of sale of respective class of shares.
(4) Annualized
(5) Net of the following expense reimbursements (based on average net assets):
<TABLE>
<CAPTION>
3/31/96 3/31/97 3/31/00
------- ------- -------
<S> <C> <C> <C>
U.S. Government Securities Fund Class A............ .04% .01% --
U.S. Government Securities Fund Class II........... -- -- 0.86%
GNMA Fund Class II................................. -- -- 1.98%
</TABLE>
25
<PAGE>
Financial Highlights
--------------------------------------------------------------------------------
DIVERSIFIED INCOME FUND
<TABLE>
<CAPTION>
Net
gain (loss)
on Invest- Net
Net Asset ments (both Dividends Asset Net Assets Ratio of
Value, Net realized Total from from net Value, end of expenses
beginning Investment and Investment Investment end of Total period to average
Period Ended of period Income(/1/) unrealized) operations Income period Return(/2/) (000's) net assets
------------ --------- ----------- ----------- ---------- ---------- ------ ----------- ---------- ----------
Class A
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
3/31/96......... $4.14 $0.39 $0.16 $0.55 $(0.40) $4.29 13.78% $16,762 1.46%
3/31/97......... 4.29 0.37 0.10 0.47 (0.37) 4.39 11.43 22,601 1.42
3/31/98......... 4.39 0.40 0.27 0.67 (0.38) 4.68 15.84 25,517 1.45
3/31/99......... 4.68 0.40 (0.80) (0.40) (0.42) 3.86 (8.75) 28,470 1.46
3/31/00......... 3.86 0.38 (0.04) 0.34 (0.38) 3.82 9.49 30,633 1.51
<CAPTION>
Class B
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
3/31/96......... $4.15 $0.36 $0.17 $0.53 $(0.38) $4.30 13.09% $110,949 2.06%
3/31/97......... 4.30 0.35 0.10 0.45 (0.35) 4.40 10.73 78,081 2.04
3/31/98......... 4.40 0.38 0.26 0.64 (0.35) 4.69 15.11 63,397 2.06
3/31/99......... 4.69 0.39 (0.82) (0.43) (0.39) 3.87 (9.28) 36,629 2.09
3/31/00......... 3.87 0.36 (0.04) 0.32 (0.36) 3.83 8.79 24,476 2.17
<CAPTION>
Class II
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
6/01/99-
3/31/00(/3/).... $3.83 $0.25 $0.03 $0.28 $(0.28) $3.83 7.77% $1,454 2.15%(/4/)(/5/)
<CAPTION>
Ratio of net
Investment
Income
to average Portfolio
Period Ended net assets Turnover
------------ ------------------- ---------
<S> <C> <C>
3/31/96......... 8.96% 166%
3/31/97......... 8.68 131
3/31/98......... 8.83 157
3/31/99......... 9.84 49
3/31/00......... 9.99 62
<CAPTION>
<S> <C> <C>
3/31/96......... 8.42% 166%
3/31/97......... 8.05 131
3/31/98......... 8.14 157
3/31/99......... 9.22 49
3/31/00......... 9.45 62
<CAPTION>
<S> <C> <C>
6/01/99-
3/31/00(/3/)... 9.06%(/4/)(/5/) 62%
</TABLE>
--------------------------------------------------------------------------------
HIGH INCOME FUND
<TABLE>
<CAPTION>
Net
gain (loss)
on Invest- Net
Net Asset ments (both Dividends Asset Net Assets Ratio of
Value, Net realized Total from from net Value, end of expenses
beginning Investment and Investment Investment end of Total period to average
Period Ended of period Income(/1/) unrealized) operations Income period Return(/2/) (000's) net assets
------------ --------- ----------- ----------- ---------- ---------- ------ ----------- ---------- ----------
Class A
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
3/31/96......... $6.95 $0.67 $0.02 $0.69 $(0.69) $6.95 10.43% $35,963 1.53%
3/31/97......... 6.95 0.65 0.12 0.77 (0.66) 7.06 11.46 41,139 1.50
3/31/98......... 7.06 0.68 0.68 1.36 (0.64) 7.78 20.07 56,442 1.52
3/31/99......... 7.78 0.66 (1.12) (0.46) (0.69) 6.63 (6.07) 69,913 1.51
3/31/00......... 6.63 0.64 (0.51) 0.13 (0.65) 6.11 2.04 63,415 1.52
<CAPTION>
Class B
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
3/31/96......... $6.96 $0.62 $0.03 $0.65 $(0.65) $6.96 9.83% $91,800 2.06%(/5/)
3/31/97......... 6.96 0.61 0.12 0.73 (0.62) 7.07 10.78 98,383 2.11(/5/)
3/31/98......... 7.07 0.63 0.69 1.32 (0.60) 7.79 19.31 124,962 2.13
3/31/99......... 7.79 0.62 (1.13) (0.51) (0.64) 6.64 (6.62) 124,211 2.13
3/31/00......... 6.64 0.61 (0.53) 0.08 (0.61) 6.11 1.25 91,357 2.15
<CAPTION>
Class II
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
2/2/98-
3/31/98(/3/)... $7.70 $0.10 $0.07 $0.17 $(0.08) $7.79 2.18% $ 1,146 2.10%(/4/)(/5/)
3/31/99......... 7.79 0.59 (1.09) (0.50) (0.64) 6.65 (6.47) 10,116 2.10(/5/)
3/31/00......... 6.65 0.60 (0.52) 0.08 (0.61) 6.12 1.28 12.251 2.10(/5/)
<CAPTION>
Ratio of
net
Investment
Income
to average Portfolio
Period Ended net assets Turnover
------------ ------------------- ---------
<S> <C> <C>
3/31/96......... 9.36% 183%
3/31/97......... 9.10 164
3/31/98......... 9.13 236
3/31/99......... 9.48 120
3/31/00......... 10.10 124
<CAPTION>
<S> <C> <C>
3/31/96......... 8.85%(/5/) 183%
3/31/97......... 8.49(/5/) 164
3/31/98......... 8.51 236
3/31/99......... 8.84 120
3/31/00......... 9.48 124
<CAPTION>
<S> <C> <C>
2/2/98-
3/31/98(/3/)... 9.78%(/4/)(/5/) 236%
3/31/99......... 8.92(/5/) 120
3/31/00......... 9.51(/5/) 124
</TABLE>
----
(2) Total return is not annualized and does not reflect sales load
(3) Commencement of sale of class of shares
(4) Annualized
(5) Net of the following expense reimbursements (based on average net as-
sets):
<TABLE>
<CAPTION>
3/31/96 3/31/97 3/31/98 3/31/99 3/31/00
------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C>
Diversified Income Fund Class
II............................. -- -- -- -- 4.16%
High Income Fund Class B........ .08% .01% -- -- --
High Income Fund Class II....... -- -- 5.37% 0.48% 0.12%
</TABLE>
26
<PAGE>
--------------------------------------------------------------------------------
TAX EXEMPT INSURED FUND
<TABLE>
<CAPTION>
Net gain
(loss) on Ratio of
Investments Net Net expenses
Net Asset (both Dividends Asset Assets to
Value, Net realized Total from from net Value, end of average
beginning Investment and Investment Investment end of Total Period net
Period Ended of period Income(/1/) unrealized) Operations Income period Return(/2/) (000's) assets
------------ --------- ----------- ----------- ---------- ---------- ------ ----------- -------- --------
Class A
-------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
3/31/96......... $12.13 $0.59 $0.29 $0.88 $(0.59) $12.42 7.37% $121,957 1.22%
3/31/97......... 12.42 0.59 (0.07) 0.52 (0.59) 12.35 4.24 98,376 1.24
3/31/98......... 12.35 0.58 0.67 1.25 (0.57) 13.03 10.28 88,519 1.24
3/31/99......... 13.03 0.56 0.02 0.58 (0.54) 13.07 4.55 80,716 1.24
3/31/00......... 13.07 0.55 (0.71) (0.16) (0.54) 12.37 (1.20) 68,650 1.28
<CAPTION>
Class B
-------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
3/31/96......... $12.14 $0.50 $0.29 $0.79 $(0.51) $12.42 6.58% $29,315 1.90%
3/31/97......... 12.42 0.52 (0.08) 0.44 (0.51) 12.35 3.57 25,053 1.88
3/31/98......... 12.35 0.49 0.68 1.17 (0.48) 13.04 9.65 22,878 1.90
3/31/99......... 13.04 0.47 0.02 0.49 (0.46) 13.07 3.78 21,651 1.91
3/31/00......... 13.07 0.47 (0.71) (0.24) (0.46) 12.37 (1.83) 16,269 1.92
<CAPTION>
Class II
--------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
6/01/99-
3/31/00(/3/)... $12.83 $0.37 $(0.47) $(0.10) $(0.36) $12.37 (0.76)% $577 1.95%(/4/)(/5/)
<CAPTION>
Ratio of net
Investment
Income to
average Portfolio
Period Ended net assets Turnover
------------ ------------------- ---------
<S> <C> <C>
3/31/96......... 4.72% 46%
3/31/97......... 4.77 51
3/31/98......... 4.52 48
3/31/99......... 4.23 34
3/31/00......... 4.41 33
<CAPTION>
<S> <C> <C>
3/31/96......... 4.03% 46%
3/31/97......... 4.13 51
3/31/98......... 3.86 48
3/31/99......... 3.57 34
3/31/00......... 3.77 33
<CAPTION>
<S> <C> <C>
6/01/99-
3/31/00(/3/)... 3.82%(/4/)(/5/) 33%
</TABLE>
------
(1) Calculated based upon average shares outstanding
(2) Total return is not annualized and does not reflect sales load
(3) Commencement of sale of respective class of shares
(4) Annualized
(5) Net of the following expense reimbursements (based on average net assets):
<TABLE>
<CAPTION>
3/31/00
-------
<S> <C>
Tax Exempt Insured Fund Class II..... 5.20%
</TABLE>
27
<PAGE>
For More Information
--------------------------------------------------------------------------------
The following documents contain more information about the Funds and are avail-
able free of charge upon request:
Annual and Semiannual Reports. Contain financial statements, performance
data and information on portfolio holdings. The reports also contain a writ-
ten analysis of market conditions and investment strategies that signifi-
cantly affected a Fund's performance during the applicable period.
Statement of Additional Information (SAI). Contains additional information
about the Funds' policies, investment restrictions and business structure.
This prospectus incorporates the SAI by reference.
You may obtain copies of these documents or ask questions about the Funds by
contacting:
SunAmerica Fund Services, Inc.
Mutual Fund Operations
The SunAmerica Center
733 Third Avenue
New York, New York 10017-3204
1-800-858-8850, extension 5125
or
by calling your broker or financial advisor.
Information about the Funds (including the SAI) can be reviewed and copied at
the Public Reference Room of the Securities and Exchange Commission, Washing-
ton, D.C. Call 1-202-942-8090 for information on the operation of the Public
Reference Room. Information about the Funds is also available on the Securities
and Exchange Commission's web-site at http://www.sec.gov and copies may be ob-
tained upon payment of a duplicating fee by electronic request at the following
E-mail address: [email protected], or by writing the Public Reference Section
of the Securities and Exchange Commission, Washington, D.C. 20549-6009.
You should rely only on the information contained in this prospectus. No one is
authorized to provide you with any different information.
DISTRIBUTOR: SunAmerica Capital Services
INVESTMENT COMPANY ACT
File No. 811-4708
[SUN AMERICA MUTUAL
FUNDS LOGO APPEARS HERE]
IFPRO
<PAGE>
SUNAMERICA INCOME FUNDS
Statement of Additional Information
dated July 28, 2000
The SunAmerica Center General Marketing and
733 Third Avenue Shareholder Information
New York, NY 10017-3204 (800) 858-8850
SunAmerica Income Funds (the "Trust") is a mutual fund consisting of five
different investment funds: SunAmerica U.S. Government Securities Fund ("U.S.
Governmental Securities Fund"), SunAmerica GNMA Fund ("GNMA Fund"), SunAmerica
Diversified Income Fund ("Diversified Income Fund"), SunAmerica High Income Fund
("High Income Fund") and SunAmerica Tax Exempt Insured Fund ("Tax Exempt Insured
Fund"). Each Fund has distinct investment objectives and strategies.
This Statement of Additional Information is not a Prospectus, but should be
read in conjunction with the Trust's Prospectus dated July 28, 2000. The
Prospectus is incorporated by reference into this Statement of Additional
Information and this Statement of Additional Information is incorporated by
reference into the Prospectus. The Trust's audited financial statements are
incorporated into this Statement of Additional Information by reference to its
2000 annual report to shareholders. You may request a copy of the annual report
at no charge by calling (800) 858-8850 or writing the Trust at SunAmerica Fund
Services, Inc., Mutual Fund Operations, The SunAmerica Center, 733 Third Avenue,
New York, New York 10017-3204. Capitalized terms used herein but not defined
have the meanings assigned to them in the Prospectus.
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
----------
<S> <C>
History of the Funds................................................. B-2
Investment Objectives and Policies................................... B-3
Investment Restrictions.............................................. B-40
Trustees and Officers................................................ B-42
Adviser, Personal Securities Trading, Distributor and Administrator.. B-47
Portfolio Transactions and Brokerage................................. B-51
Additional Information Regarding Purchase of Shares.................. B-53
Additional Information Regarding Redemption of Shares................ B-61
Determination of Net Asset Value..................................... B-62
Performance Data..................................................... B-63
Dividends, Distributions and Taxes................................... B-69
Retirement Plans..................................................... B-73
Description of Shares................................................ B-75
Additional Information............................................... B-76
Financial Statements................................................. B-79
Appendix............................................................. Appendix-1
</TABLE>
<PAGE>
No dealer, salesman or other person has been authorized to give any
information or to make any representations, other than those contained in this
Statement of Additional Information or in the Prospectus, and, if given or made,
such other information or representations must not be relied upon as having been
authorized by the Trust, the Adviser or the Distributor. This Statement of
Additional Information and the Prospectus do not constitute an offer to sell or
a solicitation of an offer to buy any of the securities offered hereby in any
jurisdiction in which such an offer to sell or solicitation of an offer to buy
may not lawfully be made.
This Statement of Additional Information relates to the five different
investment funds of SunAmerica Income Funds, a Massachusetts business trust,
which is registered as an open-end investment company under the Investment
Company Act of 1940, as amended (the "1940 Act"). The five Funds are:
SunAmerica U.S. Government Securities Fund, SunAmerica GNMA Fund, SunAmerica
Diversified Income Fund, SunAmerica High Income Fund and SunAmerica Tax Exempt
Insured Fund.
HISTORY OF THE FUNDS
The Trust is a diversified, open-end management investment company. On
October 1, 1993, the Trust, which had been organized in 1986, reorganized with
certain mutual funds in SunAmerica Mutual Funds (the "Reorganization") and was
renamed "SunAmerica Income Funds." In the Reorganization, all outstanding
shares of the two existing series of the Trust, the Government Income Portfolio
(the "Government Income Portfolio") and the High Yield Portfolio (the "High
Yield Portfolio"), were redesignated Class A shares and renamed the U.S.
Government Securities Fund and the High Income Fund, respectively. In addition,
the SunAmerica U.S. Government Securities Fund series of SunAmerica Fund Group
("Old Government Securities") and the SunAmerica High Income Fund series of
SunAmerica Fund Group ("Old High Income") reorganized with, and its shareholders
received Class B shares of, the U.S. Government Securities Fund and the High
Income Fund, respectively.
With regard to the three additional series of the Trust, the GNMA Fund, the
Diversified Income Fund and the Tax Exempt Insured Fund, the SunAmerica GNMA
Fund (formerly named the "SunAmerica Federal Securities Fund") was reorganized
with, and its shareholders received Class B shares of, the SunAmerica GNMA Fund.
In addition, the SunAmerica Diversified Income Fund series of SunAmerica Multi-
Asset Portfolios, Inc. ("Old Diversified Income") was reorganized with, and its
shareholders received Class B shares of, the Diversified Income Fund. Until
December 16, 1992, Old Diversified Income had a different investment objective
and was named SunAmerica Global Short-Term Income Fund. Finally, the SunAmerica
Tax Exempt Insured Fund series of SunAmerica Tax Free Portfolios ("Old Tax
Exempt Insured") was reorganized with, and its shareholders received Class A
shares of, the Tax Exempt Insured Fund.
The Reorganization was approved by the shareholders of the Funds or their
predecessors who were entitled to vote with respect thereto, on September 23,
1993. The Trust consists of five Funds; each offers Class A, Class B and Class
II shares. Class C shares of High Income Fund commenced offering March 6, 1997,
and were redesignated Class II shares on December 1, 1998. Class II shares
B-2
<PAGE>
of the U.S. Government Securities, GNMA, Diversified Income and Tax Exempt
Insured Funds commenced offering on June 1, 1999. On July 28, 2000, SunAmerica
Federal Securities Fund was renamed SunAmerica GNMA Fund.
INVESTMENT OBJECTIVES AND POLICIES
For a description of the objectives, or "goals," of each of the Funds, see
"More Information About the Funds" in the Prospectus. The following information
is provided for those investors wishing to have more comprehensive information
than that contained in the Prospectus. Unless otherwise specified, each Fund
may invest in the following securities, but is not obligated to do so or to make
use of the following investment techniques. The stated percentage limitations
are applied to an investment at the time of purchase unless indicated otherwise.
U.S. Government Securities. Each Fund may invest in U.S. Treasury securities,
including bills, notes, bonds and other debt securities issued by the U.S.
Treasury. These instruments are direct obligations of the U.S. government and,
as such, are backed by the "full faith and credit" of the United States
government. They differ primarily in their interest rates, the lengths of their
maturities and the dates of their issuances. Each Fund may also invest in
securities issued by agencies or instrumentalities of the U.S. government.
These obligations, including those guaranteed by federal agencies or
instrumentalities, may or may not be backed by the "full faith and credit" of
the United States government. All of the foregoing are referred to collectively
as "U.S. government securities." Securities issued or guaranteed by agencies or
instrumentalities are supported by (i) the full faith and credit of the United
States, such as obligations of the Government National Mortgage Association
("GNMA"), the Farmers Home Administration ("FMHA") or the Export-Import Bank;
(ii) the limited authority of the issuer to borrow from the U.S. Treasury, such
as obligations of the Student Loan Marketing Association, the Federal Home Loan
Mortgage Association ("FHLMC"), or the Tennessee Valley Authority; and (iii) the
authority of the U.S. government to purchase certain obligations of the issuer,
such as obligations of the Federal National Mortgage Association ("FNMA"), the
Federal Farm Credit System or the Federal Home Loan Bank. No assurance can be
given that the U.S. government will provide financial support to its agencies
and instrumentalities as described in (ii) and (iii) above, other than as set
forth, since it is not obligated to do so by law. In the case of securities not
backed by the full faith and credit of the United States, a Fund must look
principally to the agency issuing or guaranteeing the obligation for ultimate
repayment and may not be able to assert a claim against the United States if the
agency or instrumentality does not meet its commitments. U.S. Government
Securities include certain mortgage-backed securities, as described below under
"Mortgage-Backed Securities."
Mortgage-Backed Securities. Each Fund may invest in mortgage-backed securities.
These securities represent participation interests in pools of residential
mortgage loans made by lenders such as commercial banks, savings and loan
institutions, mortgage bankers and others, which may or may not be guaranteed by
agencies or instrumentalities of the U.S. government.
Mortgage-backed securities differ from conventional debt securities, which
provide for periodic payment of interest in fixed amounts (usually semiannually)
with principal payments at
B-3
<PAGE>
maturity or specified call dates. Instead, these securities provide a monthly
payment, which consists of both interest and principal payments. In effect,
these payments are a "pass-through" of the monthly payments made by the
individual borrowers on their residential mortgage loans, net of any fees paid
to the issuer or guarantor of such securities. Additional payments are caused by
prepayments resulting from the sale of the underlying residential property,
refinancing or foreclosure (net of fees or costs that may be incurred). In
addition, prepayment of principal on mortgage-backed securities, which often
occurs when interest rates decline, can significantly change the realized yield
of these securities. Some mortgage-backed securities are described as "modified
pass-through." These securities entitle the holders to receive all interest and
principal payments owed on the mortgages in the pool, net of certain fees,
regardless of whether or not the mortgagors actually make the payments.
The yield on mortgage-backed securities is based on the average expected
life of the underlying pool of mortgage loans. Because the prepayment
characteristics of the underlying mortgages vary, it is not possible to predict
accurately the average life of a particular issue of pass-through certificates.
Mortgage-backed securities are often subject to more rapid repayment than their
stated maturity date would indicate as a result of the pass-through of
prepayments of principal on the underlying mortgage obligations. Thus, the
actual life of any particular pool will be shortened by any unscheduled or early
payments of principal and interest. Principal prepayments generally result from
the sale of the underlying property or the refinancing or foreclosure of
underlying mortgages. The occurrence of prepayments is affected by a wide range
of economic, demographic and social factors and, accordingly, it is not possible
to predict accurately the average life of a particular pool. Yield on such
pools is usually computed by using the historical record of prepayments for that
pool, or, in the case of newly-issued mortgages, the prepayment history of
similar pools. The actual prepayment experience of a pool of mortgage loans may
cause the yield realized by a Fund to differ from the yield calculated on the
basis of the expected average life of the pool.
Prepayments tend to increase during periods of declining interest rates
and will most likely decrease during periods of rising interest rates. When
prevailing interest rates rise, the value of a pass-through security may
decrease as do the value of other debt securities, but, when prevailing interest
rates decline, the value of a pass-through security is not likely to rise on a
comparable basis with other debt securities because of the prepayment feature of
pass-through securities. The reinvestment of scheduled principal payments and
unscheduled prepayments that a Fund receives may occur at higher or lower rates
than the original investment, thus affecting the yield of the Fund. Monthly
interest payments received by a Fund have a compounding effect which may
increase the yield to shareholders more than debt obligations that pay interest
semiannually. Because of those factors, mortgage-backed securities may be less
effective than U.S. Treasury bonds of similar maturity at maintaining yields
during periods of declining interest rates. Accelerated prepayments adversely
affect yields for pass-through securities purchased at a premium (i.e., at a
price in excess of the principal amount) and may involve additional risk of loss
of principal because the premium may not have been fully amortized at the time
the obligation is repaid. The opposite is true for pass-through securities
purchased at a discount. Each Fund may purchase mortgage-backed securities at a
premium or at a discount.
B-4
<PAGE>
The following is a description of GNMA, FNMA and FHLMC certificates, the
most widely available mortgage-backed securities:
GNMA Certificates. GNMA Certificates are mortgage-backed securities that
-----------------
evidence an undivided interest in a pool or pools of mortgages. GNMA
Certificates that each Fund may purchase are the modified pass-through type,
which entitle the holder to receive timely payment of all interest and principal
payments due on the mortgage pool, net of fees paid to the issuer and GNMA,
regardless of whether or not the mortgagor actually makes the payment.
GNMA guarantees the timely payment of principal and interest on securities
backed by a pool of mortgages insured by the FHA or the FMHA, or guaranteed by
the Veteran's Administration ("VA"). The GNMA guarantee is authorized by the
National Housing Act and is backed by the full faith and credit of the United
States. The GNMA is also empowered to borrow without limitation from the U.S.
Treasury if necessary to make any payments required under its guarantee.
The average life of a GNMA Certificate is likely to be substantially
shorter than the original maturity of the mortgages underlying the securities.
Prepayments of principal by mortgagors and mortgage foreclosure will usually
result in the return of the greater part of principal investment long before the
maturity of the mortgages in the pool. Foreclosures impose no risk to principal
investment because of the GNMA guarantee, except to the extent that a Fund has
purchased the certificates at a premium in the secondary market. As prepayment
rates of the individual mortgage pools vary widely, it is not possible to
predict accurately the average life of a particular issue of GNMA Certificates.
The coupon rate of interest of GNMA Certificates is lower than the interest
rate paid on the VA-guaranteed or FHA-insured mortgages underlying the GNMA
Certificates by the amount of the fees paid to GNMA and the issuer. The coupon
rate by itself, however, does not indicate the yield which will be earned on
GNMA Certificates. First, GNMA Certificates may trade in the secondary market
at a premium or discount. Second, interest is earned monthly, rather than
semiannually as with traditional bonds; monthly compounding raises the effective
yield earned. Finally, the actual yield of a GNMA Certificate is influenced by
the prepayment experience of the mortgage pool underlying it. For example, if
the higher-yielding mortgages from the pool are prepaid, the yield on the
remaining pool will be reduced.
FHLMC Certificates. FHLMC issues two types of mortgage pass-through
------------------
securities: mortgage participation certificates ("PCs") and guaranteed mortgage
certificates ("GMCs") (collectively, "FHLMC Certificates"). PCs resemble GNMA
Certificates in that each PC represents a pro rata share of all interest and
principal payments made and owed on the underlying pool. Like GNMA
Certificates, PCs are assumed to be prepaid fully in their twelfth year. The
FHLMC guarantees timely monthly payment of interest (and, under certain
circumstances, principal) of PCs and the ultimate payment of principal.
GMCs also represent a pro rata interest in a pool of mortgages. However,
these instruments pay interest semiannually and return principal once a year in
guaranteed minimum payments. The
B-5
<PAGE>
expected average life of these securities is approximately ten years. The FHLMC
guarantee is not backed by the full faith and credit of the U.S. government.
FNMA Certificates. FNMA issues guaranteed mortgage pass-through
-----------------
certificates ("FNMA Certificates"). FNMA Certificates represent a pro rata
share of all interest and principal payments made and owed on the underlying
pool. FNMA guarantees timely payment of interest and principal on FNMA
Certificates. The FNMA guarantee is not backed by the full faith and credit of
the U.S. government. However, FNMA guarantees timely payment of interest on
FNMA Certificates and the full return of principal.
Collateralized Mortgage Obligations. Another type of mortgage-backed
security in which each Fund may invest is a Collateralized Mortgage Obligation
("CMO"). CMOs are fully-collateralized bonds that are the general obligations
of the issuer thereof (e.g., the U.S. government, a U.S. government
instrumentality, or a private issuer). The U.S. Government Securities Fund will
not invest in privately issued CMOs except to the extent that they are
collateralized by securities of entities that are instrumentalities of the U.S.
government. CMOs generally are secured by an assignment to a trustee (under the
indenture pursuant to which the bonds are issued) of collateral consisting of a
pool of mortgages. Payments with respect to the underlying mortgages generally
are made to the trustee under the indenture. Payments of principal and interest
on the underlying mortgages are not passed through to the holders of the CMOs as
such (i.e., the character of payments of principal and interest is not passed
through, and therefore payments to holders of CMOs attributable to interest paid
and principal repaid on the underlying mortgages do not necessarily constitute
income and return of capital, respectively, to such holders), but such payments
are dedicated to payment of interest on and repayment of principal of the CMOs.
CMOs often are issued in two or more classes with varying maturities and stated
rates of interest. Because interest and principal payments on the underlying
mortgages are not passed through to holders of CMOs, CMOs of varying maturities
may be secured by the same pool of mortgages, the payments on which are used to
pay interest on each class and to retire successive maturities in sequence.
Unlike other mortgage-backed securities, CMOs are designed to be retired as the
underlying mortgages are repaid. In the event of prepayment on such mortgages,
the class of CMO first to mature generally will be paid down. Therefore,
although in most cases the issuer of CMOs will not supply additional collateral
in the event of such prepayment, there will be sufficient collateral to secure
CMOs that remain outstanding.
Certain CMOs may be deemed to be investment companies under the 1940 Act.
Each Fund intends to conduct operations in a manner consistent with this view,
and therefore generally may not invest more than 10% of its total assets in such
issuers without obtaining appropriate regulatory relief. In reliance on
Securities and Exchange Commission ("SEC") staff interpretations, each Fund may
invest in those CMOs and other mortgage-backed securities that are not by
definition excluded from the provisions of the 1940 Act, but have obtained
exemptive orders from the SEC from such provisions.
Stripped Mortgage-Backed Securities. The mortgage-backed securities in
which each Fund may invest include stripped mortgage-backed securities. Unlike
U.S. Treasury securities, which are
B-6
<PAGE>
stripped into separate securities for each interest and principal payment,
mortgage securities are generally stripped into only two parts: a PO (principal
only) strip representing all principal payments and an IO (interest-only) strip
representing all interest payments.
The feature that makes mortgage strips most useful in portfolio management
is their interest rate sensitivity. In principle, mortgage strips can be very
useful hedging devices for a variety of investors and portfolio managers.
However, determining the degree of interest sensitivity of mortgage strips in
different interest rate environments is extremely complicated.
The precise sensitivity of mortgage-backed securities and their associated
stripped securities to interest rate changes depends on many factors. First,
the prepayment effect makes the interest rate sensitivity of mortgage-backed
securities different from the interest sensitivity of Treasury securities.
Second, the prepayment effect makes the PO and IO mortgage-backed strips much
more sensitive, on average, to interest rates than the underlying mortgage-
backed security. Third, the prepayment effect is sometimes so strong that an IO
mortgage-backed strip will rise in value when interest rates rise and fall in
value when interest rates fall -- precisely the opposite relationship from
other fixed-income securities. This last feature of stripped mortgage-backed
securities, the positive relationship between the value of some IO strips and
interest rates, is particularly useful to investors who need to hedge a
portfolio of other fixed-income securities.
Mortgage-Backed Security Rolls. The U.S. Government Securities Fund, the
GNMA Fund and the Diversified Income Fund may enter into "forward roll"
transactions with respect to mortgage-backed securities issued by GNMA, FNMA or
FHLMC. In a forward roll transaction, the Fund will sell a mortgage-backed
security to a U.S. government agency or financial institution and simultaneously
agree to repurchase a similar security from the institution at a later date at
an agreed-upon price. The mortgage-backed securities that are repurchased will
bear the same interest rate as those sold, but generally will be collateralized
by different pools of mortgages with different prepayment histories than those
sold. Risks inherent in mortgage-backed security rolls include: (i) the risk
of prepayment prior to maturity, (ii) the possibility that a Fund may not be
entitled to receive interest and principal payments on the securities sold and
that the proceeds of the sale may have to be invested in money market
instruments (typically repurchase agreements) maturing not later than the
expiration of the roll, and (iii) the risk that the market value of the
securities sold by a Fund may decline below the price at which a Fund is
obligated to purchase the securities. Upon entering into a mortgage-backed
security roll a Fund will be required to place cash or other liquid securities
in a segregated account with its custodian in an amount equal to its obligation
under the roll; that amount is subject to the limitation on borrowing described
below under "Investment Restrictions."
Asset-Backed Securities. Each Fund except the Diversified Income Fund may
invest up to 15% of its net assets in asset-backed securities meeting such
Fund's credit quality restrictions. With respect to Diversified Income Fund,
the Fund may invest in asset-backed securities without limitation. These
securities, issued by trusts and special purpose corporations, are backed by a
pool of assets, such as credit card and automobile loan receivables,
representing the obligations of a number of different parties. Each Fund may
also invest in privately issued asset-backed securities.
B-7
<PAGE>
Asset-backed securities present certain risks. For instance, in the case
of credit card receivables, these securities may not have the benefit of any
security interest in the related collateral. Credit card receivables are
generally unsecured and the debtors are entitled to the protection of a number
of state and federal consumer credit laws, many of which give such debtors the
right to set off certain amounts owed on the credit cards, thereby reducing the
balance due. Most issuers of automobile receivables permit the servicer to
retain possession of the underlying obligations. If the servicer were to sell
these obligations to another party, there is a risk that the purchaser would
acquire an interest superior to that of the holders of the related automobile
receivables. In addition, because of the large number of vehicles involved in a
typical issuance and technical requirements under state laws, the trustee for
the holders of the automobile receivables may not have a proper security
interest in all of the obligations backing such receivables. Therefore, there
is the possibility that recoveries on repossessed collateral may not, in some
cases, be available to support payments on these securities.
Asset-backed securities are often backed by a pool of assets representing
the obligations of a number of different parties. To lessen the effect of
failures by obligors to make payments on underlying assets, the securities may
contain elements of credit support which fall into two categories: (i)
liquidity protection; and (ii) protection against losses resulting from ultimate
default by an obligor on the underlying assets. Liquidity protection refers to
the provision of advances, generally by the entity administering the pool of
assets, to ensure that the receipt of payments on the underlying pool occurs in
a timely fashion. Protection against losses resulting from ultimate default
ensures payment through insurance policies or letters of credit obtained by the
issuer or sponsor from third parties. The Fund will not pay any additional or
separate fees for credit support. The degree of credit support provided for
each issue is generally based on historical information respecting the level of
credit risk associated with the underlying assets. Delinquency or loss in
excess of that anticipated or failure of the credit support could adversely
affect the return on an investment in such a security.
Zero-Coupon Securities. The U.S. Government Securities Fund, the GNMA Fund, the
Diversified Income Fund, and the High Income Fund may invest in zero-coupon
securities issued by the U.S. Treasury and, in addition, (i) the Diversified
Income Fund and High Income Fund may invest in zero-coupon securities issued by
both domestic and foreign corporations, and (ii) the Tax Exempt Insured Fund may
invest in zero-coupon securities issued by state and local government entities.
Investors earn a return on a zero-coupon security by purchasing the bond at a
discount, that is, by paying less than the face value of the bond. Since there
are no periodic interest payments to reinvest, there is no reinvestment risk.
The yield of a zero-coupon held to maturity is the yield quoted when the bond is
sold. Because a zero-coupon security pays no interest to its holder during its
life or for a substantial period of time, it usually trades at a deep discount
from its face or par value and will be subject to greater fluctuations of market
value in response to changing interest rates than debt obligations of comparable
maturities which make current distributions of interest. Because the Funds
accrue taxable income from these securities without receiving cash, the Funds
may be required to sell portfolio securities in order to pay a dividend
depending upon the proportion of shareholders who elect to receive dividends in
cash rather than reinvesting dividends in additional shares of the Funds. The
Funds might also sell portfolio securities to maintain portfolio liquidity. In
either case,
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cash distributed or held by the Funds and not reinvested will hinder the Funds
in seeking a high level of current income.
Zero-Coupon U.S. Government Securities. Zero-coupon U.S. Government
Securities are: (i) U.S. Treasury notes and bonds which have been stripped of
their unmatured interest coupons and receipts; or (ii) certificates representing
interest in such stripped debt obligations or coupons.
Corporate Zero-Coupon Securities. Corporate zero-coupon securities are:
(i) notes or debentures that do not pay current interest and are issued at
substantial discounts from par value, or (ii) notes or debentures that pay no
current interest until a stated date one or more years into the future, after
which the issuer is obligated to pay interest until maturity, usually at a
higher rate than if interest were payable from the date of issuance and may also
make interest payments in kind (e.g., with identical zero-coupon securities).
Such corporate zero-coupon securities, in addition to the risks identified
above, are subject to the risk of the issuer's failure to pay interest and repay
principal in accordance with the terms of the obligation. A Fund must accrue
the discount or interest on high-yield bonds structured as zero-coupon
securities as income even though it does not receive a corresponding cash
interest payment until the security's maturity or payment date. See "Foreign
Securities" for a description of the risks involved in investments in foreign
corporations.
Participation Interests. The Diversified Income Fund and High Income Fund may
invest in loan participation interests, subject to the 10% of net assets
limitation on illiquid investments. These participation interests provide each
such Fund an undivided interest in a loan made by the issuing financial
institution in the proportion that the Fund's participation interest bears to
the total principal amount of the loan. The loan participations in which the
Funds may invest will typically be participating interests in loans made by a
syndicate of banks, represented by an agent bank that has negotiated and
structured the loan, to corporate borrowers to finance internal growth, mergers,
acquisitions, stock repurchases, leveraged buy-outs and other corporate
activities. Such loans may also have been made to governmental borrowers,
especially governments of developing countries (LOC debt). The loans underlying
such participations may be secured or unsecured, and each Fund may invest in
loans collateralized by mortgages on real property or which have no collateral.
The loan participations themselves may extend for the entire term of the loan or
may extend only for short "strips" that correspond to a quarterly or monthly
floating rate interest period on the underlying loan. Thus, a term of revolving
credit that extends for several years may be subdivided into shorter periods.
The Funds may purchase only those participation interests that mature in
one year or less, or, if maturing in more than one year, that have a floating
rate that is automatically adjusted at least once each year according to a
specified rate for such investments, such as the percentage of a bank's prime
rate. Participation interests are primarily dependent upon the creditworthiness
of the borrower for payment of interest and principal. Such borrowers may have
difficulty making payments and may have senior securities rated as low as "C" by
Moody's or "D" by S&P. In the event the borrower fails to pay scheduled interest
or principal payments, a Fund could experience a reduction in its income and
might experience a decline in the net asset value of its shares.
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The loan participations in which each Fund will invest will also vary in
legal structure. Occasionally, lenders assign to another institution both the
lender's rights and obligations under a credit agreement. Since this type of
assignment relieves the original lender of its obligations, it is called a
novation. More typically, a lender assigns only its right to receive payments
of principal and interest under a promissory note, credit agreement or similar
document. A true assignment shifts to the assignee the direct debtor-creditor
relationship with the underlying borrower. Alternatively, a lender may assign
only part of its rights to receive payments pursuant to the underlying
instrument or loan agreement. Such partial assignments, which are more
accurately characterized as "participating interests," do not shift the debtor-
creditor relationship to the assignee, who must rely on the original lending
institution to collect sums due and to otherwise enforce its rights against the
agent bank which administers the loan or against the underlying borrower.
No more than 5% of each Fund's net assets can be invested in participation
interests of the same issuing bank. Each Fund must look to the creditworthiness
of the borrowing entity, which is obligated to make payments of principal and
interest on the loan. In the event the borrower fails to pay scheduled interest
or principal payments, the Fund could experience a reduction in its income and
might experience a decline in the net asset value of its shares. In the event
of a failure by the financial institution to perform its obligation in
connection with the participation agreement, the Fund might incur certain costs
and delays in realizing payment or may suffer a loss or principal and/or
interest.
Foreign Securities. The Funds may also invest in debt obligations (which may be
denominated in U.S. dollars or in non-U.S. currencies) issued or guaranteed by
foreign corporations, certain supranational entities and foreign governments
(including political subdivisions having taxing authority) or their agencies and
instrumentalities, and debt obligations issued by U.S. corporations which are
either denominated in non-U.S. currencies or traded in the foreign markets
(e.g., Eurobonds). The Funds may purchase securities issued by issuers in any
country; provided that a Fund may not invest more than 25% of its respective
total assets in the securities issued by entities domiciled in any one foreign
country. There is no restriction as to the size of the issuer.
The percentage of the Diversified Income Fund's or High Income Fund's total
assets that will be allocated to foreign securities will vary depending on the
relative yields of foreign and U.S. securities, the economies of foreign
countries, the condition of such countries' financial markets, the interest rate
climate of such countries and the relationship of such countries' currency to
the U.S. dollar. These factors are judged on the basis of fundamental economic
criteria (e.g., relative inflation levels and trends, growth rate forecasts,
balance of payments status, and economic policies) as well as technical and
political data.
The Adviser may direct the investment of assets of the Diversified Income
Fund and the High Income Fund in securities of foreign issuers in the form of
American Depositary Receipts ("ADRs"), European Depositary Receipts ("EDRs") or
other similar securities convertible into securities of foreign issuers. These
securities may not necessarily be denominated in the same currency as the
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securities into which they may be converted. ADRs are receipts typically issued
by a U.S. bank or trust company evidencing ownership of the underlying
securities. EDRs are European receipts evidencing a similar arrangement. ADRs
may be sponsored or unsponsored. A sponsored ADR is issued by a depository
which has an exclusive relationship with the issuer of the underlying security.
An unsponsored ADR may be issued by any number of U.S. depositories. Holders of
unsponsored ADRs generally bear all the costs associated with establishing the
unsponsored ADR. The depository of an unsponsored ADR is under no obligation to
distribute shareholder communications received from the underlying issuer or to
pass through to the holders of the unsponsored ADR voting rights with respect to
the deposited securities or pool of securities. The Funds may invest in either
type of ADR. Although the U.S. investor holds a substitute receipt of ownership
rather than direct stock certificates, the use of the depository receipts in the
United States can reduce costs and delays as well as potential currency exchange
and other difficulties. The Funds may purchase securities in local markets and
direct delivery of these ordinary shares to the local depository of an ADR agent
bank in the foreign country. Simultaneously, the ADR agents create a
certificate that settles at the Fund's custodian in five days. The Funds may
also execute trades on the U.S. markets using existing ADRs. A foreign issuer
of the security underlying an ADR is generally not subject to the same reporting
requirements in the United States as a domestic issuer. Accordingly the
information available to a U.S. investor will be limited to the information the
foreign issuer is required to disclose in its own country and the market value
of an ADR may not reflect undisclosed material information concerning the issuer
of the underlying security. For purposes of a Fund's investment policies, the
Fund's investments in these types of securities will be deemed to be investments
in the underlying securities. Securities of foreign issuers that are
represented by ADRs or that are listed on a U.S. securities exchange are not
considered "foreign securities" for purposes of a Fund's 25% limitation on
investments in such securities.
The obligations of foreign governmental entities may or may not be
supported by the full faith and credit of a foreign government. Obligations of
supranational entities include those of international organizations designated
or supported by governmental entities to promote economic reconstruction or
development and of international banking institutions and related government
agencies. Examples include the International Bank for Reconstruction and
Development (the World Bank), the European Coal and Steel Community, the Asian
Development Bank and the Inter-American Development Bank. The governmental
members, or "stockholders," usually make initial capital contributions to the
supranational entity and in many cases are committed to make additional capital
contributions if the supranational entity is unable to repay its borrowings.
Each supranational entity's lending activities are limited to a percentage of
its total capital (including "callable capital" contributed by members at the
entity's call), reserves and net income. There is no assurance that foreign
governments will be able or willing to honor their commitments.
Investments in foreign securities, including securities of emerging market
countries, present special additional investment risks and considerations not
typically associated with investments in domestic securities, including
reduction of income by foreign taxes; fluctuation in value of foreign portfolio
investments due to changes in currency rates and control regulations (e.g.,
currency blockage); transaction charges for currency exchange; lack of public
information about foreign issuers; lack of uniform accounting, auditing and
financial reporting standards comparable to those
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applicable to domestic issuers; less volume on foreign exchanges than on U.S.
exchanges; greater volatility and less liquidity on foreign markets than in the
U.S.; less regulation of foreign issuers, stock exchanges and brokers than in
the U.S.; greater difficulties in commencing lawsuits; higher brokerage
commission rates than in the U.S.; increased possibilities in some countries of
expropriation, confiscatory taxation, political, financial or social instability
or adverse diplomatic developments; the imposition of foreign taxes on
investment income derived from such countries; and differences (which may be
favorable or unfavorable) between the U.S. economy and foreign economies. An
emerging market country is one that the World Bank, the International Finance
Corporation or the United Nations or its authorities has determined to have a
low or middle income economy. Historical experience indicates that the markets
of emerging market countries have been more volatile than more developed
markets; however, such markets can provide higher rates of return to investors.
The performance of investments in securities denominated in a foreign currency
("non-dollar securities") will depend on, among other things, the strength of
the foreign currency against the dollar and the interest rate environment in the
country issuing the foreign currency. Absent other events that could otherwise
affect the value of non-dollar securities (such as a change in the political
climate or an issuer's credit quality), appreciation in the value of the foreign
currency generally can be expected to increase the value of a Fund's non-dollar
securities in terms of U.S. dollars. A rise in foreign interest rates or decline
in the value of foreign currencies relative to the U.S. dollar generally can be
expected to depress the value of the Fund's non-dollar securities. Currencies
are evaluated on the basis of fundamental economic criteria (e.g., relative
inflation levels and trends, growth rate forecasts, balance of payments status
and economic policies) as well as technical and political data.
Because the Diversified Income Fund and the High Income Fund may purchase
securities denominated in foreign currencies, a change in the value of any such
currency against the U.S. dollar will result in a change in the U.S. dollar
value of each Fund's assets and income available for distribution. In addition,
although a portion of each Fund's investment income may be received or realized
in foreign currencies, the Fund will be required to compute and distribute its
income in U.S. dollars, and absorb the cost of currency fluctuations. Each Fund
may engage in foreign currency exchange transactions for hedging purposes to
protect against changes in future exchange rates. See "Hedging Strategies."
Costs will be incurred in connection with conversions between various
currencies.
The values of foreign investments and the investment income derived from
them may also be affected unfavorably by changes in currency exchange control
regulations. Although the Funds will invest only in securities denominated in
foreign currencies that at the time of investment do not have significant
government-imposed restrictions on conversion into U.S. dollars, there can be no
assurance against subsequent imposition of currency controls. In addition, the
values of foreign securities will fluctuate in response to changes in U.S. and
foreign interest rates.
Investments in foreign securities offer potential benefits not available
from investments solely in securities of domestic issuers by offering the
opportunity to invest in foreign issuers that appear to offer growth potential,
or in foreign countries with economic policies or business cycles different from
those of the U.S., or to reduce fluctuations in portfolio value by taking
advantage of
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foreign stock and bond markets that do not move in a manner parallel to U.S.
markets. From time to time, U.S. government policies have discouraged certain
investments abroad by U.S. investors, through taxation or other restrictions,
and it is possible that such restrictions could be reimposed.
Because the Diversified Income Fund and High Income Fund may invest in
securities that are primarily listed on foreign exchanges that trade on weekends
or other days when the Trust does not price its shares, the value of these
Fund's shares may change on days when a shareholder will not be able to purchase
or redeem shares.
Illiquid and Restricted Securities. Each Fund may invest up to 10% of its net
assets, determined as of the date of purchase, in illiquid securities including
repurchase agreements that have a maturity of longer than seven days or in other
securities that are illiquid by virtue of the absence of a readily available
market or legal or contractual restrictions on resale. Historically, illiquid
securities have included securities subject to contractual or legal restrictions
on resale because they have not been registered under the Securities Act of
1933, as amended ("Securities Act"), securities otherwise not readily marketable
and repurchase agreements having a maturity of longer than seven days.
Repurchase agreements subject to demand are deemed to have a maturity equal to
the notice period. Securities that have not been registered under the
Securities Act are referred to as private placements or restricted securities
and are purchased directly from the issuer or in the secondary market. Mutual
funds do not typically hold a significant amount of these restricted or other
illiquid securities because of the potential for delays on resale and
uncertainty in valuation. Limitations on resale may have an adverse effect on
the marketability of portfolio securities and a mutual fund might be unable to
dispose of restricted or other illiquid securities promptly or at reasonable
prices and might thereby experience difficulty satisfying redemptions within
seven days. A mutual fund might also have to register such restricted
securities in order to dispose of them, resulting in additional expense and
delay. There will generally be a lapse of time between a mutual fund's decision
to sell an unregistered security and the registration of such security promoting
sale. Adverse market conditions could impede a public offering of such
securities. When purchasing unregistered securities, each of the Funds will
generally seek to obtain the right of registration at the expense of the issuer
(except in the case of Rule 144A securities, discussed below).
In recent years, a large institutional market has developed for certain
securities that are not registered under the Securities Act, including
repurchase agreements, commercial paper, foreign securities, municipal
securities and corporate bonds and notes. Institutional investors depend on an
efficient institutional market in which the unregistered security can be readily
resold or on an issuer's ability to honor a demand for repayment. The fact that
there are contractual or legal restrictions on resale to the general public or
to certain institutions may not be indicative of the liquidity of such
investments.
For example, restricted securities that the Board of Trustees, or the
Adviser pursuant to guidelines established by the Board of Trustees, has
determined to be marketable, such as securities eligible for resale under Rule
144A promulgated under the Securities Act, or certain private placement of
commercial paper issued in reliance on an exemption from the Securities Act
pursuant to Section 4(2) thereof, may be deemed to be liquid for purposes of
this restriction. This investment
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practice could have the effect of increasing the level of illiquidity in a Fund
to the extent that qualified institutional buyers (as defined in Rule 144A)
become for a time uninterested in purchasing these restricted securities. In
addition, a repurchase agreement that by its terms can be liquidated before its
nominal fixed-term on seven days or less notice is regarded as a liquid
instrument. The Adviser will monitor the liquidity of such restricted securities
subject to the supervision of the Trustees. In reaching liquidity decisions the
Adviser will consider, inter alia, pursuant to guidelines and procedures
established by the Trustees, the following factors: (1) the frequency of trades
and quotes for the security; (2) the number of dealers wishing to purchase or
sell the security and the number of other potential purchasers; (3) dealer
undertakings to make a market in the security; and (4) the nature of the
security and the nature of the marketplace trades (i.e., the time needed to
dispose of the security, the method of soliciting offers and the mechanics of
the transfer). Subject to the applicable limitation on illiquid securities
investments, a fund may acquire securities issued by the U.S. government, its
agencies or instrumentalities in a private placement. To the extent that, for a
period of time, qualified institutional buyers cease purchasing such restricted
securities pursuant to Rule 144A, the Fund's investing in such securities may
have the effect of increasing the level of illiquidity in the Fund's portfolio
during such period.
Commercial paper issues in which the Funds may invest, include securities
issued by major corporations without registration under the Securities Act in
reliance on the exemption from such registration afforded by Section 3(a)(3)
thereof, and commercial paper issued in reliance on the so-called private
placement exemption from registration which is afforded by Section 4(2) of the
Securities Act ("Section 4(2) paper"). Section 4(2) paper is restricted as to
disposition under the Federal securities laws in that any resale must similarly
be made in an exempt transaction. Section 4(2) paper is normally resold to
other institutional investors through or with the assistance of investment
dealers who make a market in Section 4(2) paper, thus providing liquidity.
Section 4(2) paper that is issued by a company that files reports under the
Securities Exchange Act of 1934 is generally eligible to be sold in reliance on
the safe harbor of Rule 144A described above. A Fund's 10% limitation on
investments in illiquid securities includes Section 4(2) paper other than
Section 4(2) paper that the Adviser has determined to be liquid pursuant to
guidelines established by the Trustees. The Trustees delegated to the Adviser
the function of making day-to-day determinations of liquidity with respect to
Section 4(2) paper, pursuant to guidelines approved by the Trustees that require
the Adviser to take into account the same factors described above for other
restricted securities and require the Adviser to perform the same monitoring and
reporting functions.
The staff of the SEC has taken the position that purchased over-the-counter
("OTC") options and the assets used as "cover" for written OTC options are
illiquid. The assets used as cover for OTC options written by a Fund will be
considered illiquid unless the OTC options are sold to qualified dealers who
agree that the Fund may repurchase any OTC option it writes at a maximum price
to be calculated by a formula set forth in the option agreement. The cover for
an OTC option written subject to this procedure will be considered illiquid only
to the extent that the maximum repurchase price under the option formula exceeds
the intrinsic value of the option.
Short-Term and Temporary Defensive Instruments. In addition to its primary
investments, each Fund may also invest up to 10% of its total assets in money
market instruments for liquidity purposes
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(to meet redemptions and expenses). For temporary defensive purposes, each Fund
may invest up to 100% of its total assets in short-term fixed-income securities,
including corporate debt obligations and money market instruments rated in one
of the two highest categories by a nationally recognized statistical rating
organization (or determined by the Adviser to be of equivalent quality). A
description of securities ratings is contained in the Appendix to this Statement
of Additional Information.
Subject to the limitations described above, the following is a description
of the types of money market and short-term fixed-income securities in which the
Funds may invest:
U.S. Government Securities: See the section entitled "U.S. Government
Securities" above.
Commercial Paper: Commercial paper consists of short-term (usually from 1
to 270 days) unsecured promissory notes issued by entities in order to finance
their current operations. Each Fund's commercial paper investments may include
variable amount master demand notes and floating rate or variable rate notes.
Variable amount master demand notes and variable amount floating rate notes are
obligations that permit the investment of fluctuating amounts by a Fund at
varying rates of interest pursuant to direct arrangements between a Fund, as
lender, and the borrower. Master demand notes permit daily fluctuations in the
interest rates, while interest rates under variable amount floating rate notes
fluctuate on a weekly basis. These notes permit daily changes in the amounts
borrowed. A Fund has the right to increase the amount under these notes at any
time, up to the full amount provided by the note agreement, or to decrease the
amount, and the borrower may repay up to the full amount of the note without
penalty. Because these types of notes are direct lending arrangements between
the lender and the borrower, it is not generally contemplated that such
instruments will be traded and there is no secondary market for these notes.
Master demand notes are redeemable (and, thus, immediately repayable by the
borrower) at face value, plus accrued interest, at any time. Variable amount
floating rate notes are subject to next-day redemption, 14 days after the
initial investment therein. With both types of notes, a Fund's right to redeem
depends on the ability of the borrower to pay principal and interest on demand.
In connection with both types of note arrangements, a Fund considers earning
power, cash flow and other liquidity ratios of the issuer. These notes, as
such, are not typically rated by credit rating agencies. Unless they are so
rated, a Fund may invest in them only if at the time of an investment the issuer
has an outstanding issue of unsecured debt rated in one of the two highest
categories by a nationally recognized statistical rating organization.
Certificates of Deposit and Bankers' Acceptances: Certificates of deposit
are receipts issued by a bank in exchange for the deposit of funds. The issuer
agrees to pay the amount deposited plus interest to the bearer of the receipt on
the date specified on the certificate. The certificate usually can be traded in
the secondary market prior to maturity.
Bankers' acceptances typically arise from short-term credit arrangements
designed to enable businesses to obtain funds to finance commercial
transactions. Generally, an acceptance is a time draft drawn on a bank by an
exporter or an importer to obtain a stated amount of funds to pay for specific
merchandise. The draft is then "accepted" by another bank that, in effect,
unconditionally
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guarantees to pay the face value of the instrument on its maturity date. The
acceptance may then be held by the accepting bank as an earning asset or it may
be sold in the secondary market at the going rate of discount for a specific
maturity. Although maturities for acceptances can be as long as 270 days, most
maturities are six months or less.
The Funds will generally open interest-bearing accounts only with, or
purchase certificates of deposit or bankers' acceptances only from, banks or
savings and loan associations whose deposits are federally-insured and whose
capital is at least $50 million.
Corporate Obligations: Corporate debt obligations (including master demand
notes). For a further description of variable amount master demand notes, see
the section entitled "Commercial Paper" above.
Repurchase Agreements and Reverse Repurchase Agreements: See the sections
entitled "Repurchase Agreements" and "Reverse Repurchase Agreements" below.
Repurchase Agreements. Each Fund may enter into repurchase agreements only
involving securities in which it could otherwise invest and with selected banks
and securities dealers whose financial condition is monitored by the Adviser,
subject to the guidance of the Trustees in order to generate income while
providing liquidity. In such agreements, the seller agrees to repurchase a
security from a Fund at a mutually agreed-upon time and price. The period of
maturity is usually quite short, either overnight or a few days (and generally
within seven days) although it may extend over a number of months. The
repurchase price is in excess of the purchase price, reflecting an agreed-upon
rate of return effective for the period of time a Fund's money is invested in
the security. Whenever a Fund enters into a repurchase agreement, it obtains
collateral having a market value at least equal to 102% of the repurchase price,
including accrued interest. However, a Fund may collateralize the amount of
such transaction at 100% if the collateral is cash. The instruments held as
collateral are valued daily and if the value of the instruments declines, a Fund
will require additional collateral. If the seller under the repurchase
agreement defaults, the Fund may incur a loss if the value of the collateral
securing the repurchase agreement has declined and may incur disposition costs
in connection with liquidating the collateral. In addition, if bankruptcy
proceedings are commenced with respect to the seller of the security,
realization of the collateral by the Fund may be delayed or limited. The
Trustees have established guidelines to be used by the Adviser in connection
with transactions in repurchase agreements and will regularly monitor each
Fund's use of repurchase agreements. A Fund will not invest in repurchase
agreements maturing in more than seven days if the aggregate of such investments
along with other illiquid securities exceeds 10% of the value of its total
assets. However, for temporary defensive purposes, there is no limit on the
amount of a Fund's net assets that may be subject to repurchase agreements
having a maturity of seven days or less.
Reverse Repurchase Agreements. Each Fund may engage in reverse repurchase
agreements. In a reverse repurchase agreement, the Fund sells a security and
agrees to repurchase it at a mutually agreed upon date and price, reflecting the
interest rate effective for the term of the agreement. The Fund's investment of
the proceeds of a reverse repurchase agreement is the speculative factor known
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as leverage. The Funds will enter into a reverse repurchase agreement only if
the interest income from investment of the proceeds is expected to be greater
than the interest expense of the transaction and the proceeds are invested for a
period no longer than the term of the agreement. The Fund will segregate cash
or liquid securities in an amount at least equal to 102% of its purchase
obligations under these agreements (including accrued interest). In the event
that the buyer of securities under a reverse repurchase agreement files for
bankruptcy or becomes insolvent, the buyer or its trustee or receiver may
receive an extension of time to determine whether to enforce the Fund's
repurchase obligation, and the Fund's use of proceeds of the agreement may
effectively be restricted pending such decision. Reverse repurchase agreements
are considered to be borrowings and are subject to the percentage limitations on
borrowings. See "Investment Restrictions."
Interest-Rate Swap Transactions. The Diversified Income and the High Income
Fund may enter into either asset-based interest-rate swaps or liability-based
interest-rate swaps, depending on whether it is hedging its assets or its
liabilities. A Fund will usually enter into interest-rate swaps on a net basis,
i.e., the two payment streams are netted out, with the Fund receiving or paying,
as the case may be, only the net amount of the two payments. Since these
hedging transactions are entered into for good faith hedging purposes and a
segregated account has been established, the Adviser believes such obligations
do not constitute senior securities and, accordingly, will not treat them as
being subject to the borrowing restrictions applicable to each Fund. The net
amount of the excess, if any, of a Fund's obligations over its entitlements with
respect to each interest-rate swap will be accrued on a daily basis and an
amount of cash or liquid securities having an aggregate net asset value at least
equal to the accrued excess will be segregated in a manner that satisfies the
requirements of the 1940 Act. To the extent that a Fund enters into interest-
rate swaps on other than a net basis, the amount segregated will be the full
amount of the Fund's obligations, if any, with respect to such interest-rate
swaps, accrued on a daily basis. A Fund may pledge up to 5% of its net assets
in connection with interest-rate swap transactions. A Fund will not enter into
any interest-rate swaps unless the unsecured senior debt or the claims-paying
ability of the other party thereto is rated in the highest rating category of at
least one nationally recognized rating organization at the time of entering into
such transaction. If there is a default by the other party to such transaction,
a Fund will have contractual remedies pursuant to the agreement related to the
transaction. The swap market has grown substantially in recent years with a
large number of banks and investment banking firms acting both as principals and
as agents utilizing standardized swap documentation. As a result, the swap
market has become relatively liquid.
The use of interest-rate swaps is a highly speculative activity that
involves investment techniques and risks different from those associated with
ordinary portfolio securities transactions. If incorrect in its forecast of
market values, interest rates and other applicable factors, the investment
performance of a Fund would diminish compared to what it would have been if this
investment technique was never used.
A Fund may enter into interest-rate swaps only to hedge its portfolio.
Interest-rate swaps do not involve the delivery of securities or other
underlying assets or principal. Accordingly, the risk of loss with respect to
interest-rate swaps is limited to the net amount of interest payments that a
Fund is contractually obligated to make. If the other party to an interest-rate
swap defaults, a Fund's
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risk of loss consists of the net amount of interest payments that the Fund is
contractually entitled to receive. Since interest-rate swaps are individually
negotiated, a Fund expects to achieve an acceptable degree of correlation
between its rights to receive interest on its portfolio securities and its
rights and obligations to receive and pay interest pursuant to interest-rate
swaps.
When-Issued and Delayed-Delivery Securities. Each Fund may purchase or sell
such securities on a "when-issued" or "delayed-delivery" basis. Although a Fund
will enter into such transactions for the purpose of acquiring securities for
its portfolio or for delivery pursuant to options contracts it has entered into,
the Fund may dispose of a commitment prior to settlement. "When-issued" or
"delayed-delivery" refers to securities whose terms and indenture are available
and for which a market exists, but which are not available for immediate
delivery. While the Fund will purchase securities on a when-issued or delayed-
delivery basis only with the intention of acquiring the securities, the Fund may
sell the securities before the settlement date, if it is deemed advisable. At
the time the Fund makes the commitment to purchase securities on a when-issued
or delayed-delivery basis, the Fund will record the transaction and thereafter
reflect the value, each day, of such security in determining the net asset value
of the Fund. When such transactions are negotiated, the price (which is
generally expressed in yield terms) is fixed at the time the commitment is made,
but delivery and payment for the securities take place at a later date. During
the period between commitment by a Fund and settlement (generally within two
months but not to exceed 120 days), no payment is made for the securities
purchased by the purchaser, and no interest accrues to the purchaser from the
transaction. Such securities are subject to market fluctuation, and the value
at delivery may be less than the purchase price. A Fund will segregate cash or
liquid securities at least equal to the value of purchase commitments until
payment is made. A Fund will likewise segregate liquid assets in respect of
securities sold on a delayed-delivery basis.
A Fund will engage in when-issued transactions in order to secure what is
considered to be an advantageous price and yield at the time of entering into
the obligation. When a Fund engages in when-issued or delayed-delivery
transactions, it relies on the buyer or seller, as the case may be, to
consummate the transaction. Failure to do so may result in a Fund losing the
opportunity to obtain a price and yield considered to be advantageous. If a
Fund chooses (i) to dispose of the right to acquire a when-issued security prior
to its acquisition or (ii) to dispose of its right to deliver or receive against
a forward commitment, it may incur a gain or loss. (At the time a Fund makes a
commitment to purchase or sell a security on a when-issued or forward commitment
basis, it records the transaction and reflects the value of the security
purchased, or if a sale, the proceeds to be received in determining its net
asset value.)
To the extent a Fund engages in when-issued and delayed-delivery
transactions, it will do so for the purpose of acquiring or selling securities
consistent with its investment objectives and policies and not for the purposes
of investment leverage. A Fund enters into such transactions only with the
intention of actually receiving or delivering the securities, although (as noted
above) when-issued securities and forward commitments may be sold prior to the
settlement date. In addition, changes in interest rates in a direction other
than that expected by the Adviser before settlement, will affect the value of
such securities and may cause a loss to a Fund.
B-18
<PAGE>
When-issued transactions and forward commitments may be used to offset
anticipated changes in interest rates and prices. For instance, in periods of
rising interest rates and falling prices, a Fund might sell securities in its
portfolio on a forward commitment basis to attempt to limit its exposure to
anticipated falling prices. In periods of falling interest rates and rising
prices, a Fund might sell portfolio securities and purchase the same or similar
securities on a when-issued or forward commitment basis, thereby obtaining the
benefit of currently higher cash yields.
When, As and If Issued Securities. Each Fund may purchase securities on a
"when, as and if issued" basis under which the issuance of the security depends
upon the occurrence of a subsequent event, such as approval of a merger,
corporate reorganization or debt restructuring. The commitment for the purchase
of any such security will not be recognized until the Adviser determines that
issuance of the security is probable. At such time, each Fund will record the
transaction, and in determining its net asset value, will reflect the value of
the security daily. At such time, each Fund will also segregate cash or liquid
securities equal in value to recognized commitments for such securities. The
value of a Fund's commitments to purchase the securities of any one issuer,
together with the value of all securities of such issuer owned by a Fund, may
not exceed 5% of the value of the Fund's total assets at the time the initial
commitment to purchase such securities is made. Subject to the foregoing
restrictions, each Fund may purchase securities on such basis without limit. An
increase in the percentage of a Fund's assets committed to the purchase of
securities on a when, as and if issued basis, may increase the volatility of its
net asset value. The Adviser does not believe that the net asset value of the
Funds will be adversely affected by its purchase of securities on such basis.
Loans of Portfolio Securities. Consistent with applicable regulatory
requirements, each Fund may lend portfolio securities in amounts up to 33% of
total assets to brokers, dealers and other financial institutions, provided that
-------- ----
such loans are callable at any time by the Fund and are at all times secured by
cash or equivalent collateral that is equal to at least 102% of the market
value, determined daily, of the loaned securities. In lending its portfolio
securities, a Fund receives income while retaining the securities' potential for
capital appreciation. The advantage of such loans is that a Fund continues to
receive the interest and dividends on the loaned securities while at the same
time earning interest on the collateral, which will generally be invested in
short-term debt securities, including repurchase agreements. A loan may be
terminated by the borrower on one business day's notice or by a Fund at any
time. If the borrower fails to maintain the requisite amount of collateral, the
loan automatically terminates, and the Fund could use the collateral to replace
the securities while holding the borrower liable for any excess of replacement
cost over collateral. As with any extensions of credit, there are risks of
delay in recovery and in some cases, even loss of rights in the collateral
should the borrower of the securities fail financially. However, these loans of
portfolio securities will only be made to firms deemed by the Adviser to be
creditworthy. On termination of the loan, the borrower is required to return
the securities to a Fund; and any gain or loss in the market price of the loaned
security during the loan would inure to the Fund. Each Fund will pay reasonable
finders', administrative and custodial fees in connection with a loan of its
securities or may share the interest earned on collateral with the borrower.
B-19
<PAGE>
Since voting or consent rights that accompany loaned securities pass to the
borrower, each Fund will follow the policy of calling the loan in whole or in
part, as may be appropriate, to permit the exercise of such rights if the
matters involved would have a material effect on the Fund's investment in the
securities that are the subject of the loan.
Preferred Stocks. The Diversified Income Fund's investment in fixed income
securities issued by domestic corporations may include preferred stocks. In
addition, up to 20% of the High Income Fund's total assets may be invested in
common stocks, preferred stocks, or other equity securities. Dividends on some
preferred stock may be "cumulative" if stated dividends from prior periods have
not been paid. Preferred stock generally has a preference over common stock on
the distribution of a corporation's assets in the event of liquidation of the
corporation, and may be "participating," which means that it may be entitled to
a dividend exceeding the stated dividend in certain cases. The rights of
preferred stock are generally subordinate to rights associated with a
corporation's debt securities.
Warrants and Rights. The Diversified Income Fund may invest up to 5% of its
total assets (at the time of purchase) in warrants and rights. The Fund will
invest only in those warrants or rights: (i) acquired as part of a unit or
attached to other securities purchased by the Fund; or (ii) acquired as part of
a distribution from the issuer. Warrants basically are options to purchase
equity securities at specific prices valid for a specific period of time.
Prices of warrants do not necessarily move parallel to the prices of the
underlying securities. Rights are similar to warrants but normally have a short
duration and are distributed by the issuer to its shareholders. Warrants and
rights have no voting rights, pay no dividends and confer no rights, other than
the right to purchase the underlying stock, with respect to the assets of the
issuer.
Pay-In-Kind Bonds. Investments of the GNMA Fund, the Diversified Income Fund
and the High Income Fund in fixed-income securities may include pay-in-kind
bonds. These are securities which pay interest in either cash or additional
securities, at the issuer's option, for a specified period. Pay-in-kind bonds,
like zero-coupon bonds, are designed to give an issuer flexibility in managing
cash flow. Pay-in-kind bonds can be either senior or subordinated debt and
trade flat (i.e., without accrued interest). The price of pay-in-kind bonds is
expected to reflect the market value of the underlying debt plus an amount
representing accrued interest since the last payment. Pay-in-kind bonds are
usually less volatile than zero-coupon bonds, but more volatile than cash pay
securities.
Derivatives Strategies. Each Fund may write (i.e., sell) call options ("calls")
on securities that are traded on U.S. and foreign securities exchanges and over-
the-counter markets to enhance income through the receipt of premiums from
expired calls and any net profits from closing purchase transactions. After any
such sale up to 100% of a Fund's total assets may be subject to calls. All such
calls written by a Fund must be "covered" while the call is outstanding (i.e.,
the Fund must own the securities subject to the call or other securities
acceptable for applicable escrow requirements). Calls on Futures (defined
below) used to enhance income, must be covered by deliverable securities or by
liquid assets segregated to satisfy the Futures contract. If a call written by
the Fund is exercised, the Fund forgoes any profit from any increase in the
market price above the call price of the underlying investment on which the call
was written. In addition, the Fund could experience
B-20
<PAGE>
capital losses, which might cause previously distributed short-term capital
gains to be re-characterized as a non-taxable return of capital to shareholders.
Hedging Strategies. For hedging purposes as a temporary defensive maneuver,
each Fund may use forward contracts on foreign currencies ("Forward Contracts")
and each Fund may use interest-rate futures contracts, foreign currency futures
contracts, and stock and bond index futures contracts (together, "Futures"), as
well as call and put options on equity and debt securities, Futures, stock and
bond indices and foreign currencies (all the foregoing referred to as "Hedging
Instruments"); except that the U.S. Government Securities Fund, the GNMA Fund
and the Tax Exempt Insured Fund may not engage in foreign currency Futures and
options thereon. Hedging Instruments may be used to attempt: (i) to protect
against possible declines in the market value of a Fund's portfolio resulting
from downward trends in the equity and debt securities markets (generally due to
a rise in interest rates); (ii) to protect a Fund's unrealized gains in the
value of its equity and debt securities that have appreciated; (iii) to
facilitate selling securities for investment reasons; (iv) to establish a
position in the equity and debt securities markets as a temporary substitute for
purchasing particular equity and debt securities; or (v) to reduce the risk of
adverse currency fluctuations.
A Fund's strategy of hedging with Futures and options on Futures will be
incidental to its activities in the underlying cash market. When hedging to
attempt to protect against declines in the market value of a Fund's portfolio,
to permit a Fund to retain unrealized gains in the value of portfolio securities
which have appreciated, or to facilitate selling securities for investment
reasons, a Fund could: (i) sell Futures; (ii) purchase puts on such Futures or
securities; or (iii) write calls on securities held by it or on Futures. When
hedging to attempt to protect against the possibility that portfolio securities
are not fully included in a rise in value of the debt securities market, a Fund
could: (i) purchase Futures, or (ii) purchase calls on such Futures or on
securities. When hedging to protect against declines in the dollar value of a
foreign currency-denominated security, the Diversified Income Fund and the High
Income Fund could: (i) purchase puts on that foreign currency and on foreign
currency Futures; (ii) write calls on that currency or on such Futures; or (iii)
enter into Forward Contracts at a lower rate than the spot ("cash") rate.
Additional information about the Hedging Instruments the Funds may use is
provided below.
Options
-------
Options on Securities. As noted above, each Fund may write and purchase
call and put options on equity and debt securities.
When a Fund writes a call on a security, it receives a premium and agrees
to sell the underlying security to a purchaser of a corresponding call on the
same security during the call period (usually not more than 9 months) at a fixed
price (which may differ from the market price of the underlying security),
regardless of market price changes during the call period. A Fund has retained
the risk of loss should the price of the underlying security increase during the
call period, which may be offset to some extent by the premium.
B-21
<PAGE>
To terminate its obligation on a call it has written, a Fund may purchase a
corresponding call in a "closing purchase transaction." A profit or loss will
be realized, depending upon whether the net of the amount of the option
transaction costs and the premium received on the call written was more or less
than the price of the call subsequently purchased. A profit may also be
realized if the call expires unexercised, because a Fund retains the underlying
security and the premium received. Any such profits are considered short-term
capital gains for federal income tax purposes, and when distributed by the Fund,
are taxable as ordinary income. If a Fund could not effect a closing purchase
transaction due to lack of a market, it would hold the callable securities until
the call expired or was exercised.
When a Fund purchases a call (other than in a closing purchase
transaction), it pays a premium and has the right to buy the underlying
investment from a seller of a corresponding call on the same investment during
the call period at a fixed exercise price. A Fund benefits only if the call is
sold at a profit or if, during the call period, the market price of the
underlying investment is above the sum of the call price plus the transaction
costs and the premium paid and the call is exercised. If the call is not
exercised or sold (whether or not at a profit), it will become worthless at its
expiration date and a Fund will lose its premium payment and the right to
purchase the underlying investment.
A put option on securities gives the purchaser the right to sell, and the
writer the obligation to buy, the underlying investment at the exercise price
during the option period. Writing a put covered by segregated liquid assets
equal to the exercise price of the put, has the same economic effect to a Fund
as writing a covered call. The premium a Fund receives from writing a put
option represents a profit as long as the price of the underlying investment
remains above the exercise price. However, a Fund has also assumed the
obligation during the option period to buy the underlying investment from the
buyer of the put at the exercise price, even though the value of the investment
may fall below the exercise price. If the put expires unexercised, a Fund (as
the writer of the put) realizes a gain in the amount of the premium. If the put
is exercised, a Fund must fulfill its obligation to purchase the underlying
investment at the exercise price, which will usually exceed the market value of
the investment at that time. In that case, a Fund may incur a loss, equal to
the sum of the sale price of the underlying investment and the premium received
minus the sum of the exercise price and any transaction costs incurred.
A Fund may effect a closing purchase transaction to realize a profit on an
outstanding put option it has written or to prevent an underlying security from
being put. Furthermore, effecting such a closing purchase transaction will
permit a Fund to write another put option to the extent that the exercise price
thereof is secured by the deposited assets, or to utilize the proceeds from the
sale of such assets for other investments by the Fund. A Fund will realize a
profit or loss from a closing purchase transaction if the cost of the
transaction is less or more than the premium received from writing the option.
As described above, for writing covered calls, any and all such profits
described herein from writing puts are considered short-term gains for federal
tax purposes, and when distributed by a Fund, are taxable as ordinary income.
B-22
<PAGE>
When a Fund purchases a put, it pays a premium and has the right to sell
the underlying investment to a seller of a corresponding put on the same
investment during the put period at a fixed exercise price. Buying a put on an
investment a Fund owns enables the Fund to protect itself during the put period
against a decline in the value of the underlying investment below the exercise
price by selling such underlying investment at the exercise price to a seller of
a corresponding put. If the market price of the underlying investment is equal
to or above the exercise price and as a result the put is not exercised or
resold, the put will become worthless at its expiration date, and the Fund will
lose its premium payment and the right to sell the underlying investment
pursuant to the put. The put may, however, be sold prior to expiration (whether
or not at a profit.)
Buying a put on an investment a Fund does not own permits the Fund either
to resell the put or buy the underlying investment and sell it at the exercise
price. The resale price of the put will vary inversely with the price of the
underlying investment. If the market price of the underlying investment is
above the exercise price and as a result the put is not exercised, the put will
become worthless on its expiration date. In the event of a decline in the stock
market, a Fund could exercise or sell the put at a profit to attempt to offset
some or all of its loss on its portfolio securities.
When writing put options on securities, to secure its obligation to pay for
the underlying security, a Fund will deposit in escrow liquid assets with a
value equal to or greater than the exercise price of the underlying securities.
A Fund therefore forgoes the opportunity of investing the segregated assets or
writing calls against those assets. As long as the obligation of a Fund as the
put writer continues, it may be assigned an exercise notice by the broker-dealer
through whom such option was sold, requiring a Fund to take delivery of the
underlying security against payment of the exercise price. A Fund has no
control over when it may be required to purchase the underlying security, since
it may be assigned an exercise notice at any time prior to the termination of
its obligation as the writer of the put. This obligation terminates upon
expiration of the put, or such earlier time at which a Fund effects a closing
purchase transaction by purchasing a put of the same series as that previously
sold. Once a Fund has been assigned an exercise notice, it is thereafter not
allowed to effect a closing purchase transaction.
Options on Foreign Currencies. The Diversified Income Fund and the High
Income Fund may write and purchase calls on foreign currencies. A call written
by a Fund on a foreign currency is "covered" if the Fund owns the underlying
foreign currency covered by the call or has an absolute and immediate right to
acquire that foreign currency without additional cash consideration (or for
additional cash consideration held in a segregated account by its custodian)
upon conversion or exchange of other foreign currency held in its portfolio. A
call written by a Fund on a foreign currency is for cross-hedging purposes if it
is not covered, but is designed to provide a hedge against a decline in the U.S.
dollar value of a security which the Fund owns or has the right to acquire and
which is denominated in the currency underlying the option due to an adverse
change in the exchange rate. In such circumstances, a Fund collateralizes the
option by maintaining in a segregated account with the Fund's custodian, cash or
liquid securities in an amount not less than the value of the underlying foreign
currency in U.S. dollars marked-to-market daily. As with other kinds of option
transactions, the writing of an option on currency will constitute only a
partial hedge, up to the amount of the premium received. A Fund could be
required to purchase or sell currencies at
B-23
<PAGE>
disadvantageous exchange rates, thereby incurring losses. The purchase of an
option on currency may constitute an effective hedge against exchange rate
fluctuations; however, in the event of exchange rate movements adverse to a
Fund's position, the Fund may forfeit the entire amount of the premium plus
related transactions costs.
Options on Securities Indices. As noted above, each Fund may write and
purchase call and put options on securities indices. Puts and calls on broadly-
based securities indices are similar to puts and calls on securities except that
all settlements are in cash and gain or loss depends on changes in the index in
question (and thus on price movements in the securities market generally) rather
than on price movements in individual securities or Futures. When a Fund buys a
call on a securities index, it pays a premium. During the call period, upon
exercise of a call by a Fund, a seller of a corresponding call on the same
investment will pay the Fund an amount of cash to settle the call if the closing
level of the securities index upon which the call is based is greater than the
exercise price of the call. That cash payment is equal to the difference
between the closing price of the index and the exercise price of the call times
a specified multiple (the "multiplier"), which determines the total dollar value
for each point of difference. When a Fund buys a put on a securities index, it
pays a premium and has the right during the put period to require a seller of a
corresponding put, upon the Fund's exercise of its put, to deliver to the Fund
an amount of cash to settle the put if the closing level of the securities index
upon which the put is based is less than the exercise price of the put. That
cash payment is determined by the multiplier, in the same manner as described
above pertaining to calls.
Futures and Options on Futures
------------------------------
Futures. Upon entering into a Futures transaction, a Fund will be required
to deposit an initial margin payment with the futures commission merchant (the
"futures broker"). The initial margin payment will be deposited with the Fund's
custodian in an account registered in the futures broker's name; however, the
futures broker can gain access to that account only under specified conditions.
As the Future is marked-to-market to reflect changes in its market value,
subsequent margin payments, called variation margin, will be paid to or by the
futures broker on a daily basis. Prior to expiration of the Future, if a Fund
elects to close out its position by taking an opposite position, a final
determination of variation margin is made, additional cash is required to be
paid by or released to the Fund, and any loss or gain is realized for tax
purposes. All Futures transactions are effected through a clearinghouse
associated with the exchange on which the Futures are traded.
Interest-rate futures contracts are purchased or sold for hedging purposes
to attempt to protect against the effects of interest rate changes on a Fund's
current or intended investments in fixed-income securities. For example, if a
Fund owned long-term bonds and interest rates were expected to increase, that
Fund might sell interest-rate futures contracts. Such a sale would have much
the same effect as selling some of the long-term bonds in that Fund's portfolio.
However, since the Futures market is more liquid than the cash market, the use
of interest-rate futures contracts as a hedging technique allows a Fund to hedge
its interest rate risk without having to sell its portfolio securities. If
interest rates did increase, the value of the debt securities in the portfolio
would decline, but the value of that Fund's interest-rate futures contracts
would be expected to increase at
B-24
<PAGE>
approximately the same rate, thereby keeping the net asset value of that Fund
from declining as much as it otherwise would have. On the other hand, if
interest rates were expected to decline, interest-rate futures contracts may be
purchased to hedge in anticipation of subsequent purchases of long-term bonds at
higher prices. Since the fluctuations in the value of the interest-rate futures
contracts should be similar to that of long-term bonds, a Fund could protect
itself against the effects of the anticipated rise in the value of long-term
bonds without actually buying them until the necessary cash became available or
the market had stabilized. At that time, the interest-rate futures contracts
could be liquidated and that Fund's cash reserves could then be used to buy
long-term bonds on the cash market.
Purchases or sales of stock or bond index futures contracts are used for
hedging purposes to attempt to protect a Fund's current or intended investments
from broad fluctuations in stock or bond prices. For example, a Fund may sell
stock or bond index futures contracts in anticipation of or during a market
decline to attempt to offset the decrease in market value of the Fund's
securities portfolio that might otherwise result. If such decline occurs, the
loss in value of portfolio securities may be offset, in whole or part, by gains
on the Futures position. When a Fund is not fully invested in the securities
market and anticipates a significant market advance, it may purchase stock or
bond index futures contracts in order to gain rapid market exposure that may, in
part or entirely, offset increases in the cost of securities that the Fund
intends to purchase. As such purchases are made, the corresponding positions in
stock or bond index futures contracts will be closed out.
As noted above, the Diversified Income Fund and the High Income Fund may
purchase and sell foreign currency futures contracts for hedging to attempt to
protect current or intended investments from fluctuations in currency exchange
rates. Such fluctuations could reduce the dollar value of portfolio securities
denominated in foreign currencies, or increase the cost of foreign-denominated
securities to be acquired, even if the value of such securities in the
currencies in which they are denominated remains constant. A Fund may sell
futures contracts on a foreign currency, for example, when it holds securities
denominated in such currency and it anticipates a decline in the value of such
currency relative to the dollar. In the event such decline occurs, the
resulting adverse effect on the value of foreign-denominated securities may be
offset, in whole or in part, by gains on the Futures contracts. However, if the
value of the foreign currency increases relative to the dollar, a Fund's loss on
the foreign currency futures contract may or may not be offset by an increase in
the value of the securities since a decline in the price of the security stated
in terms of the foreign currency may be greater than the increase in value as a
result of the change in exchange rates.
Conversely, a Fund could protect against a rise in the dollar cost of
foreign-denominated securities to be acquired by purchasing Futures contracts on
the relevant currency, which could offset, in whole or in part, the increased
cost of such securities resulting from a rise in the dollar value of the
underlying currencies. When a Fund purchases futures contracts under such
circumstances, however, and the price of securities to be acquired instead
declines as a result of appreciation of the dollar, the Fund will sustain losses
on its futures position which could reduce or eliminate the benefits of the
reduced cost of portfolio securities to be acquired.
B-25
<PAGE>
Options on Futures. As noted above, each Fund may purchase and write
options on interest-rate futures contracts and stock and bond index futures
contracts, and the Diversified Income Fund and the High Income Fund may purchase
and write options on foreign currency futures contracts. (Unless otherwise
specified, options on interest-rate futures contracts, options on stock and bond
index futures contracts and options on foreign currency futures contracts are
collectively referred to as "Options on Futures.")
The writing of a call option on a Futures contract constitutes a partial
hedge against declining prices of the securities in a Fund's portfolio. If the
Futures price at expiration of the option is below the exercise price, the Fund
will retain the full amount of the option premium, which provides a partial
hedge against any decline that may have occurred in the Fund's portfolio
holdings. The writing of a put option on a Futures contract constitutes a
partial hedge against increasing prices of the securities or other instruments
required to be delivered under the terms of the Futures contract. If the
Futures price at expiration of the put option is higher than the exercise price,
a Fund will retain the full amount of the option premium which provides a
partial hedge against any increase in the price of securities which the Fund
intends to purchase. If a put or call option a Fund has written is exercised,
the Fund will incur a loss which will be reduced by the amount of the premium it
receives. Depending on the degree of correlation between changes in the value
of its portfolio securities and changes in the value of its Options on Futures
positions, a Fund's losses from exercised Options on Futures may to some extent
be reduced or increased by changes in the value of portfolio securities.
A Fund may purchase Options on Futures for hedging purposes, instead of
purchasing or selling the underlying Futures contract. For example, where a
decrease in the value of portfolio securities is anticipated as a result of a
projected market-wide decline or changes in interest or exchange rates, a Fund
could, in lieu of selling a Futures contract, purchase put options thereon. In
the event that such decrease occurs, it may be offset, in whole or part, by a
profit on the option. If the market decline does not occur, the Fund will
suffer a loss equal to the price of the put. Where it is projected that the
value of securities to be acquired by a Fund will increase prior to acquisition,
due to a market advance or changes in interest or exchange rates, a Fund could
purchase call Options on Futures, rather than purchasing the underlying Futures
contract. If the market advances, the increased cost of securities to be
purchased may be offset by a profit on the call. However, if the market
declines, the Fund will suffer a loss equal to the price of the call but the
securities which the Fund intends to purchase may be less expensive.
Forward Contracts
-----------------
The Diversified Income Fund and the High Income Fund may use Forward
Contracts. A Forward Contract involves bilateral obligations of one party to
purchase, and another party to sell, a specific currency at a future date (which
may be any fixed number of days from the date of the contract agreed upon by the
parties), at a price set at the time the contract is entered into. These
contracts are traded in the interbank market conducted directly between currency
traders (usually large commercial banks) and their customers. No price is paid
or received upon the purchase or sale of a Forward Contract.
B-26
<PAGE>
A Fund may use Forward Contracts to protect against uncertainty in the
level of future exchange rates. The use of Forward Contracts does not eliminate
fluctuations in the prices of the underlying securities a Fund owns or intends
to acquire, but it does fix a rate of exchange in advance. In addition,
although Forward Contracts limit the risk of loss due to a decline in the value
of the hedged currencies, at the same time they limit any potential gain that
might result should the value of the currencies increase. A Fund will not
speculate with Forward Contracts or foreign currency exchange rates.
A Fund may enter into Forward Contracts with respect to specific
transactions. For example, when a Fund enters into a contract for the purchase
or sale of a security denominated in a foreign currency, or when a Fund
anticipates receipt of dividend payments in a foreign currency, the Fund may
desire to "lock-in" the U.S. dollar price of the security or the U.S. dollar
equivalent of such payment by entering into a Forward Contract, for a fixed
amount of U.S. dollars per unit of foreign currency, for the purchase or sale of
the amount of foreign currency involved in the underlying transaction. A Fund
will thereby be able to protect itself against a possible loss resulting from an
adverse change in the relationship between the currency exchange rates during
the period between the date on which the security is purchased or sold, or on
which the payment is declared, and the date on which such payments are made or
received.
A Fund may also use Forward Contracts to lock in the U.S. dollar value of
portfolio positions ("position hedge"). In a position hedge, for example, when
a Fund believes that foreign currency may suffer a substantial decline against
the U.S. dollar, it may enter into a Forward Contract to sell an amount of that
foreign currency approximating the value of some or all of the Fund's portfolio
securities denominated in (or affected by fluctuations in, in the case of ADRs)
such foreign currency, or when a Fund believes that the U.S. dollar may suffer a
substantial decline against a foreign currency, it may enter into a Forward
Contract to buy that foreign currency for a fixed dollar amount. In this
situation a Fund may, in the alternative, enter into a Forward Contract to sell
a different foreign currency for a fixed U.S. dollar amount where the Fund
believes that the U.S. dollar value of the currency to be sold pursuant to the
forward contract will fall whenever there is a decline in the U.S. dollar value
of the currency in which portfolio securities of the Fund are denominated
("cross-hedged").
The Fund will segregate cash or liquid securities having a value equal to
the aggregate amount of the Fund's commitments under Forward Contracts entered
into with respect to position hedges and cross-hedges to the extent that such
positions are not otherwise covered. If the value of the segregated assets
declines, additional cash or liquid securities will be segregate on a daily
basis so that the value of the segregated assets will equal the amount of the
Fund's commitments with respect to such contracts. As an alternative to
segregating all or a portion of these assets, maintaining all or part of the
separate account, a Fund may purchase a call option permitting the Fund to
purchase the amount of foreign currency being hedged by a forward sale contract
at a price no higher than the Forward Contract price or the Fund may purchase a
put option permitting the Fund to sell the amount of foreign currency subject to
a forward purchase contract at a price as high or higher than the Forward
Contract price. Unanticipated changes in currency prices may result in poorer
overall performance for a Fund than if it had not entered into such contracts.
B-27
<PAGE>
The precise matching of the Forward Contract amounts and the value of the
securities involved will not generally be possible because the future value of
such securities in foreign currencies will change as a consequence of market
movements in the value of these securities between the date the Forward Contract
is entered into and the date it is sold. Accordingly, it may be necessary for a
Fund to purchase additional foreign currency on the spot (i.e., cash) market
(and bear the expense of such purchase), if the market value of the security is
less than the amount of foreign currency a Fund is obligated to deliver and if a
decision is made to sell the security and make delivery of the foreign currency.
Conversely, it may be necessary to sell on the spot market some of the foreign
currency received upon the sale of the portfolio security if its market value
exceeds the amount of foreign currency a Fund is obligated to deliver. The
projection of short-term currency market movements is extremely difficult, and
the successful execution of a short-term hedging strategy is highly uncertain.
Forward Contracts involve the risk that anticipated currency movements will not
be accurately predicted, causing a Fund to sustain losses on these contracts and
transactions costs.
At or before the maturity of a Forward Contract requiring a Fund to sell a
currency, the Fund may either sell a portfolio security and use the sale
proceeds to make delivery of the currency or retain the security and offset its
contractual obligation to deliver the currency by purchasing a second contract
pursuant to which the Fund will obtain, on the same maturity date, the same
amount of the currency that it is obligated to deliver. Similarly, a Fund may
close out a Forward Contract requiring it to purchase a specified currency by
entering into a second contract entitling it to sell the same amount of the same
currency on the maturity date of the first contract. A Fund would realize a
gain or loss as a result of entering into such an offsetting Forward Contract
under either circumstance to the extent the exchange rate or rates between the
currencies involved moved between the execution dates of the first contract and
offsetting contract.
The cost to a Fund of engaging in Forward Contracts varies with factors
such as the currencies involved, the length of the contract period and the
market conditions then prevailing. Because Forward Contracts are usually
entered into on a principal basis, no fees or commissions are involved. Because
such contracts are not traded on an exchange, a Fund must evaluate the credit
and performance risk of each particular counterparty under a Forward Contract.
Although a Fund values its assets daily in terms of U.S. dollars, it does
not intend to convert its holdings of foreign currencies into U.S. dollars on a
daily basis. A Fund may convert foreign currency from time to time, and
investors should be aware of the costs of currency conversion. Foreign exchange
dealers do not charge a fee for conversion, but they do seek to realize a profit
based on the difference between the prices at which they buy and sell various
currencies. Thus, a dealer may offer to sell a foreign currency to a Fund at
one rate, while offering a lesser rate of exchange should the Fund desire to
resell that currency to the dealer.
B-28
<PAGE>
Additional Information About Derivatives, Hedging Instruments and Their Use
---------------------------------------------------------------------------
The Fund's custodian, or a securities depository acting for the custodian,
will act as the Fund's escrow agent through the facilities of the Options
Clearing Corporation ("OCC"), as to the securities on which the Fund has written
options or as to other acceptable escrow securities, so that no margin will be
required for such transaction. OCC will release the securities on the
expiration of the option or upon a Fund's entering into a closing transaction.
An option position may be closed out only on a market which provides
secondary trading for options of the same series and there is no assurance that
a liquid secondary market will exist for any particular option. A Fund's option
activities may affect its turnover rate and brokerage commissions. The exercise
by a Fund of puts on securities will cause the sale of related investments, thus
increasing portfolio turnover. Although such exercise is within a Fund's
control, holding a put might cause the Fund to sell the related investments for
reasons which would not exist in the absence of the put. A Fund will pay a
brokerage commission each time it buys a put or call, sells a call, or buys or
sells an underlying investment in connection with the exercise of a put or call.
Such commissions may be higher than those which would apply to direct purchases
or sales of such underlying investments. Premiums paid for options are small in
relation to the market value of the related investments, and consequently, put
and call options offer large amounts of leverage. The leverage offered by
trading in options could result in a Fund's net asset value being more sensitive
to changes in the value of the underlying investments.
In the future, each Fund may employ derivatives, Hedging Instruments and
strategies that are not presently contemplated but which may be developed, to
the extent such investment methods are consistent with a Fund's investment
objectives, legally permissible and adequately disclosed.
Regulatory Aspects of Derivatives and Hedging Instruments
---------------------------------------------------------
Each Fund must operate within certain restrictions as to its long and short
positions in Futures and options thereon, under a rule (the "CFTC Rule") adopted
by the Commodity Futures Trading Commission (the "CFTC") under the Commodity
Exchange Act (the "CEA"), which excludes the Fund from registration with the
CFTC as a "commodity pool operator" (as defined in the CEA) if it complies with
the CFTC Rule. In particular, the Fund may (i) purchase and sell Futures and
options thereon for bona fide hedging purposes, as defined under CFTC
regulations, without regard to the percentage of the Fund's assets committed to
margin and option premiums, and (ii) enter into non-hedging transactions,
provided that the Fund may not enter into such non-hedging transactions if,
immediately thereafter, the sum of the amount of initial margin deposits on the
Fund's existing Futures positions and option premiums would exceed 5% of the net
assets of its portfolio, after taking into account unrealized profits and
unrealized losses on any such transactions. However, the Fund intends to engage
in Futures transactions and options thereon only for hedging purposes. Margin
deposits may consist of cash or securities acceptable to the broker and the
relevant contract market.
Transactions in options by a Fund are subject to limitations established by
each of the exchanges governing the maximum number of options that may be
written or held by a single investor or group of investors acting in concert,
regardless of whether the options were written or
B-29
<PAGE>
purchased on the same or different exchanges or are held in one or more accounts
or through one or more exchanges or brokers. Thus, the number of options a Fund
may write or hold may be affected by options written or held by other entities,
including other investment companies having the same or an affiliated investment
adviser. Position limits also apply to Futures. An exchange may order the
liquidation of positions found to be in violation of those limits and may impose
certain other sanctions. Due to requirements under the 1940 Act, when a Fund
purchases a Future, the Fund will segregate cash or liquid securities in an
amount equal to the market value of the securities underlying such Future, less
the margin deposit applicable to it.
Possible Risk Factors in Hedging
--------------------------------
In addition to the risks discussed in the Prospectus and above, there is a
risk in using short hedging by selling Futures to attempt to protect against
decline in value of a Fund's portfolio securities (due to an increase in
interest rates) that the prices of such Futures will correlate imperfectly with
the behavior of the cash (i.e., market value) prices of the Fund's securities.
The ordinary spreads between prices in the cash and Futures markets are subject
to distortions due to differences in the natures of those markets. First, all
participants in the Futures markets are subject to margin deposit and
maintenance requirements. Rather than meeting additional margin deposit
requirements, investors may close Futures contracts through offsetting
transactions that could distort the normal relationship between the cash and
Futures markets. Second, the liquidity of the Futures markets depend on
participants entering into offsetting transactions rather than making or taking
delivery. To the extent participants decide to make or take delivery, liquidity
in the Futures markets could be reduced, thus producing distortion. Third, from
the point of view of speculators, the deposit requirements in the Futures
markets are less onerous than margin requirements in the securities markets.
Therefore, increased participation by speculators in the Futures markets may
cause temporary price distortions.
If a Fund uses Hedging Instruments to establish a position in the debt
securities markets as a temporary substitute for the purchase of individual debt
securities (long hedging) by buying Futures and/or calls on such Futures or on
debt securities, it is possible that the market may decline; if the Adviser then
determines not to invest in such securities at that time because of concerns as
to possible further market decline or for other reasons, the Fund will realize a
loss on the Hedging Instruments that is not offset by a reduction in the price
of the debt securities purchased.
Borrowing. In seeking to enhance investment performance, the GNMA Fund,
Diversified Income Fund and High Income Fund may each increase its ownership of
securities by borrowing at fixed rates of interest and investing the borrowed
funds, subject to the restrictions stated herein. Such borrowing may have a
leveraging effect on a Fund. This practice may help a Fund increase the net
asset value of its shares in an amount greater than would otherwise be the case
when the market case when the market values of the securities purchased through
borrowing increase. In the event the return on an investment of borrowed monies
does not fully recover the costs of such borrowing, the net asset value of a
Fund's shares would be reduced by a greater amount than would otherwise be the
case. The effect of such borrowing will therefore tend to magnify the gains or
losses to a Fund as a result of investing the borrowed monies. During periods of
substantial borrowings, the net asset
B-30
<PAGE>
value of a Fund's shares would be reduced due to the added expense of interest
on borrowed monies. Each Fund is authorized to borrow and to pledge assets to
secure such borrowings, up to the maximum extent permissible under the 1940 Act
(i.e., 50% of its net assets). The time and extent to which a Fund may employ
leverage will be determined by the Adviser in light of changing facts and
circumstances, including general economic and market conditions, and will be
subject to applicable lending regulations of the Board of Governors of the
Federal Reserve Board. Any such borrowing will be made pursuant to the
requirements of the 1940 Act and will be made only to the extent that the value
of the Fund's asset less its liabilities other than borrowings is equal to at
least 300% of all borrowings including the proposed borrowing. If the value of a
Fund's asset so computed should fail to meet the 300% asset coverage
requirement, the Fund is required, within three business days, to reduce its
bank debt to the extent necessary to meet such requirement and may have to sell
a portion of its investments at a time when independent investment judgment
would not dictate such sale. Interest on money borrowed is an expense the Fund
would not otherwise incur, so that it may have little or no net investment
income during periods of substantial borrowings. Since substantially all of the
Fund's assets fluctuate in value, but borrowing obligations are fixed when the
Fund has outstanding borrowings, the net asset value per share of the Fund
correspondingly will tend to increase and decrease more when the Fund's assets
increase or decrease in value than would otherwise be the case. The Fund's
policy regarding use of borrowing is a fundamental policy, which may not be
changed without approval of the shareholders of the Fund.
In addition to the above, each Fund may borrow for temporary or emergency
purposes to settle trades or cover redemptions, to the extent prescribed in the
Trust's investment restrictions.
High-Yield/High-Risk Securities. The Diversified Income Fund may, and the High
Income Fund will, invest in lower-rated bonds commonly referred to as "junk
bonds." These securities are rated "Baa" or lower by Moody's Investors Service,
Inc. ("Moody's") or "BBB" or lower by Standard Poor's Rating Services, a
division of the McGraw-Hill Companies, Inc. ("S&P"). Each Fund may invest in
securities rated as low as "C" by Moody's or "D" by S&P. These ratings indicate
that the obligations are speculative and may be in default. In addition, each
such Fund may invest in unrated securities subject to the restrictions stated in
the Prospectus. The U.S. Government Securities Fund, the GNMA Fund and the Tax
Exempt Insured Fund will not invest in junk bonds.
Certain Risk Factors Relating to High-Yield, High-Risk Securities. It
should be noted that lower-rated securities are subject to risk factors such as:
(a) vulnerability to economic downturns and changes in interest rates; (b)
sensitivity to adverse economic changes and corporate developments; (c)
redemption or call provisions which may be exercised at inopportune times; (d)
difficulty in accurately valuing or disposing of such securities; (e) federal
legislation which could affect the market for such securities; and (f) special
adverse tax consequences associated with investments in certain high-yield,
high-risk bonds (e.g., zero-coupon bonds or pay-in-kind bonds).
Ratings assigned by Moody's and S&P to high-yield bonds, like other bonds,
attempt to evaluate the safety of principal and interest payments on those
bonds. However, such ratings do not assess the risk of a decline in the market
value of those bonds. In addition, ratings may fail to reflect recent events in
a timely manner and are subject to change. If a portfolio security's rating is
changed,
B-31
<PAGE>
the Adviser will determine whether the security will be retained based upon the
factors the Adviser considers in acquiring or holding other securities in the
portfolio. Investment in high-yield bonds may make achievement of a Fund's
objective more dependent on the Adviser's own credit analysis than is the case
for higher-rated bonds.
Market prices for high-yield bonds tend to be more sensitive than those for
higher-rated securities due to many of the factors described above, including
the credit-worthiness of the issuer, redemption or call provisions, the
liquidity of the secondary trading market and changes in credit ratings, as well
as interest rate movements and general economic conditions. In addition, yields
on such bonds will fluctuate over time. An economic downturn could severely
disrupt the market for high-yield bonds.
The risk of default in payment of principal and interest on high-yield
bonds is significantly greater than with higher-rated debt securities because
high-yield bonds are generally unsecured and are often subordinated to other
obligations of the issuer. Further, the issuers of high-yield bonds usually
have high levels of indebtedness and are more sensitive to adverse economic
conditions, such as recession or increasing interest rates. Upon a default,
bondholders may incur additional expenses in seeking recovery.
Growth of High-Yield, High-Risk Bond Market. The widespread expansion of
-------------------------------------------
government, consumer and corporate debt within the U.S. economy has made the
corporate sector more vulnerable to economic downturns or increased interest
rates. Further, an economic downturn could severely disrupt the market for
high-yield, high-risk bonds and adversely affect the value of outstanding bonds
and the ability of the issuers to repay principal and interest.
Sensitivity to Interest Rate and Economic Changes. High-yield, high-risk
-------------------------------------------------
bonds are very sensitive to adverse economic changes and corporate developments.
During an economic downturn or substantial period of rising interest rates,
highly leveraged issuers may experience financial stress that would adversely
affect their ability to service their principal and interest payment
obligations, to meet projected business goals, and to obtain additional
financing. If the issuer of a bond defaulted on its obligations to pay interest
or principal or entered into bankruptcy proceedings, a Fund may incur losses or
expenses in seeking recovery of amounts owed to it. In addition, periods of
economic uncertainty and change can be expected to result in increased
volatility of market prices of high-yield, high-risk bonds and a Fund's net
asset value.
Payment Expectations. High-yield, high-risk bonds may contain redemption
--------------------
or call provisions. If an issuer exercised these provisions in a declining
interest rate market, a Fund would have to replace the security with a lower
yielding security, resulting in a decreased return for investors. Conversely, a
high-yield, high-risk bond's value will decrease in a rising interest rate
market, as will the value of the Fund's assets. If the Fund experiences
significant unexpected net redemptions, this may force it to sell high-yield,
high-risk bonds without regard to their investment merits, thereby decreasing
the asset base upon which expenses can be spread and possibly reducing the
Fund's rate of return.
B-32
<PAGE>
Liquidity and Valuation. There is a thinly traded market for high-yield
-----------------------
bonds, and recent market quotations may not be available for some of these
bonds. Market quotations are generally available only from a limited number of
dealers and may not represent firm bids from such dealers or prices for actual
sales. As a result, the Diversified Income Fund and High Income Fund may have
difficulty valuing the high-yield bonds in their portfolios accurately and
disposing of these bonds at the time or price desired.
Legislation. Federal laws require the divestiture by federally insured
------------
savings and loan associations of their investments in high yield bonds and limit
the deductibility of interest by certain corporate issuers of high yield bonds.
These laws could adversely affect a Fund's net asset value and investment
practices, the secondary market for high yield securities, the financial
condition of issuers of these securities and the value of outstanding high yield
securities.
Taxes. A Fund may purchase debt securities (such as zero-coupon, pay-in-
------
kind or stripped securities) that contain original issue discount. Original
issue discount that accrues in a taxable year is treated as earned by a Fund and
therefore is subject to the distribution requirements of the Internal Revenue
Code of 1986, as amended (the "Code"). Because the original issue discount
earned by the Fund in a taxable year may not be represented by cash income, the
Fund may have to dispose of other securities and use the proceeds to make
distributions to shareholders.
As a result of all these factors, the net asset value of the High Income
Fund and the Diversified Income Fund, to the extent it invests in high-yield
bonds, is expected to be more volatile than the net asset value of funds which
invest solely in higher-rated debt securities. This volatility may result in an
increased number of redemptions from time to time. High levels of redemptions
in turn may cause a fund to sell its portfolio securities at inopportune times
and decrease the asset base upon which expenses can be spread.
Municipal Securities and Short-Term Taxable Securities. Subject to the
restrictions set forth in the Prospectus, the Tax Exempt Insured Fund seeks to
achieve its investment objective by investing in Municipal Securities and Short-
Term Taxable Securities (defined below).
Municipal Securities. "Municipal Securities" include long-term (i.e.,
maturing in over ten years) and medium-term (i.e., maturing from three to ten
years) municipal bonds ("Municipal Bonds") and short-term (i.e., maturing in one
day to three years) municipal notes and tax-exempt commercial paper ("Municipal
Notes"), and in each case refers to debt obligations issued by or on behalf of
states, territories and possessions of the United States and of the District of
Columbia and their political subdivisions, agencies and instrumentalities, the
interest from which is, in the opinion of bond counsel at the time of issuance,
exempt from federal income tax.
The two principal classifications of Municipal Bonds are general obligation
bonds and revenue or special obligation bonds. General obligation bonds are
secured by the issuer's pledge of its faith, credit and taxing power for the
payment of principal and interest. The term "issuer" means the agency,
authority, instrumentality or other political subdivision whose assets and
revenues are available for the payment of principal and interest on the bonds.
Revenue or special obligation bonds are payable only from the revenue derived
from a particular facility or class of facilities or,
B-33
<PAGE>
in some cases, from the proceeds of a special tax or other specific revenue
source and generally are not payable from the unrestricted revenues of the
issuer. There are, of course, variations in the quality of Municipal Bonds, both
within a particular classification and between classifications.
Municipal Housing Bonds are Municipal Bonds issued by state and municipal
authorities established to purchase single family and other residential
mortgages from commercial banks and other lending institutions within the
applicable state or municipality. Such Bonds are typically revenue or special
obligation bonds in that they are secured only by the authority issuing such
bonds. Such authorities are located in or have been established by at least 45
states and generally are intended to facilitate the construction and sales of
housing for low income families. Generally, the authorities are not entitled to
state or municipal appropriations from general tax revenues. As a result, and
because investors in Municipal Housing Bonds receive repayments of principal as
the underlying mortgages are paid prior to maturity, the yields obtainable on
such Bonds exceed those of other similarly rated Municipal Bonds. Municipal
Housing Bonds are used to purchase single family or other residential mortgages
which may or may not be insured by the FHA or guaranteed by the VA. Some
Municipal Housing Bonds, however, are used only to purchase residential
mortgages that are either insured by the FHA or guaranteed by the VA. Under FHA
insurance programs, upon the conveyance of the insured premises and compliance
with certain administrative procedures, the FHA pays mortgage insurance benefits
equal to the unpaid principal amount of the defaulted mortgage loan. Under a VA
guaranty, the VA guarantees the payment of a mortgage loan up to a maximum. The
liability of the VA on any such guaranty is reduced or increased pro rata with
any reduction or increase in the amount of indebtedness, but in no event will
the amount payable on the guaranty exceed the amount of the original guaranty.
Notwithstanding the dollar and percentage limitations of the guaranty, a
mortgagee will ordinarily suffer a monetary loss only when the difference
between the unsatisfied indebtedness and the proceeds of a foreclosure sale of
the mortgaged premises is greater than the original guaranty as adjusted. The
VA may, at its option and without regard to the guaranty, make full payment to a
mortgagee of the unsatisfied indebtedness on a mortgage loan upon its
assignment to the VA of the property. As most Municipal Housing Bonds are
secured only by the mortgages purchased, bonds used to purchase mortgages that
are either insured by the FHA or guaranteed by the VA will have less risk of
loss of principal than bonds used to purchase comparable mortgages that are not
insured by the FHA or guaranteed by the VA. Although the Fund will attempt to
diversify its holding of Municipal Housing Bonds geographically, there may be
similar factors affecting the mortgagor's ability to maintain, payments under
the underlying mortgages. Such factors could include changes in national and
state policies relating to transfer payments such as unemployment insurance and
welfare, and adverse economic developments, particularly those affecting less
skilled and low income workers.
The Fund may invest in Municipal Bonds which, on the date of investment,
are within the four highest ratings of Moody's ("Aaa," "Aa," "A," "Baa") or S&P
("AAA," "AA," "A," "BBB") or in Municipal Bonds which are not rated, provided
that in the opinion of the Adviser, such Municipal Bonds are comparable in
quality to those within the four highest ratings. Though bonds rated Baa or BBB
normally exhibit adequate protection parameters, adverse economic conditions or
changing circumstances are more likely to lead to a weakened capacity to pay
interest and repay principal for
B-34
<PAGE>
such bonds than for bonds in higher rated categories. Occasional speculative
factors apply to some bonds in this category.
The ratings of Moody's and S&P represent their respective opinions of the
qualities of the securities they undertake to rate and such ratings are general
and are not absolute standards of quality. In determining suitability of
investment in a particular unrated security, the Adviser will take into
consideration asset and debt coverage, the purpose of the financing, history of
the issuer, existence of other rated securities of the issuer and other general
conditions as may be relevant, including comparability to other issuers.
The Fund has no restrictions on the maturity of Municipal Securities in
which it may invest. The Fund seeks to invest in Municipal Securities of such
maturities that in the judgment of the Adviser will provide a high level of
current income consistent with liquidity requirements and market conditions
after taking into account the cost of any insurance obtainable on such Municipal
Securities. While short-term trading increases the Fund's turnover, the
execution costs for Municipal Securities are substantially less than for
equivalent dollar values of equity securities.
Generally, the value of Municipal Securities will change as the general
level of interest rates fluctuate. During periods of rising interest rates, the
value of outstanding long-term, fixed-income securities generally decline.
Conversely, during periods of falling interest rates, the value of such
securities generally increase. The value of the Fund's shares fluctuates with
the value of its investments. In addition, the individual credit ratings of
issuers' obligations, the ability of such issuers to make payments of interest
and principal on their obligations, and the value of any insurance applicable
thereto, also affects the value of the Fund's investments.
Yields on Municipal Bonds vary depending on a variety of factors, including
the general condition of the financial markets and of the municipal bond market,
the size of a particular offering, the maturity of the obligation and the credit
rating of the issuer. Generally, Municipal Bonds of longer maturities produce
higher current yields but are subject to greater price fluctuation due to
changes in interest rates, tax laws and other general market factors than are
Municipal Bonds with shorter maturities. Similarly, lower-rated Municipal Bonds
generally produce a higher yield than higher-rated Municipal Bonds due to the
perception of a greater degree of risk as to the ability of the issuer to pay
principal and interest obligations.
The Fund will not invest more than 25% of its total assets in Municipal
Securities, the issuers of which are located in the same state. On a temporary
defensive basis or due to market conditions, the Fund may invest up to 100% of
its total assets in Municipal Notes and Short-Term Taxable Securities (neither
of which are insured), as well as in repurchase agreements collateralized by
such securities.
Short-Term Taxable Securities. "Short-Term Taxable Securities" mature in
one year or less from the date of purchase and consist of the following
obligations, the income from which is subject to federal income tax:
obligations of the U.S. government, its agencies or instrumentalities, some of
which may be secured by the full faith and credit of the U.S. government and
some of which may be secured only by the credit of the agency or instrumentality
of the U.S. government issuing such
B-35
<PAGE>
obligations; corporate bonds or debentures rated within the four highest grades
by either Moody's or S&P; commercial paper rated by either of such rating
services (Prime-1 through Prime 2- or A-1 through A-2, respectively) or, if not
rated, issued by companies having an outstanding debt issue rated at least "A"
by either of such rating services; certificates of deposit and bankers'
acceptances of banks having assets in excess of $2 billion.
Insurance Feature. The Fund under normal market conditions invests at
least 65% of its total assets in Municipal Bonds that, at the time of purchase,
either (1) are insured under a Mutual Fund Insurance Policy issued to the Trust
for the benefit of the Fund by Financial Guaranty Insurance Company ("Financial
Guaranty") or another insurer (subject to the limitations set forth below); (2)
are insured under an insurance policy obtained by the issuer or underwriter of
such Municipal Bonds at the time of original issuance thereof (a "New Issue
Insurance Policy"); or (3) are without insurance coverage, provided that, an
-------- ----
escrow or trust account has been established pursuant to the documents creating
the Municipal Bonds and containing sufficient U.S. Government Securities backed
by the U.S. government's full faith and credit pledge in order to ensure payment
of principal and interest on such bonds. If a Municipal Bond is already covered
by a New Issue Insurance Policy when acquired by the Fund, then coverage will
not be duplicated by a Mutual Fund Insurance Policy; if a Municipal Bond, other
than that described in (3) above, is not covered by a New Issue Insurance Policy
then it may be covered by a Mutual Fund Insurance Policy purchased by the Trust
for the benefit of the Fund. The Fund may also purchase Municipal Notes that
are insured. However, in general, Municipal Notes are not presently issued with
New Issue Insurance Policies and the Fund does not generally expect to cover
Municipal Notes under its Mutual Fund Insurance Policy. Accordingly, the Fund
does not presently expect that any significant portion of the Municipal Notes it
purchases will be covered by insurance. Securities other than Municipal Bonds
and Notes purchased by the Fund are not covered by insurance. Although the
insurance feature reduces certain financial risks, the premiums for a Mutual
Fund Insurance Policy, which are paid from the Fund's assets, and the
restrictions on investments imposed by the guidelines in a Mutual Fund Insurance
Policy, reduce the Fund's current yield. For the fiscal year ended March 31,
2000, the premiums paid by Tax Exempt Insured Fund for a Mutual Fund Insurance
Policy were .01% of the average net assets of the Fund.
In order to be considered as eligible insurance by the Fund, such insurance
policies must guarantee the scheduled payment of all principal and interest on
the Municipal Bonds as they become due for as long as such Bonds remain held by
the Fund in the case of a Mutual Fund Insurance Policy, and for as long as such
Bonds are outstanding in the case of a New Issue Insurance Policy. However,
such insurance may provide that in the event of non-payment of interest or
principal when due with respect to an insured Municipal Bond, the insurer is not
obligated to make such payment until a specified time period after it has been
notified by the Fund that such non-payment has occurred. (The Financial
Guaranty Fund Policy described below provides that payments will be made on the
later of the date the principal or interest becomes due for payment or the
business day following the day on which Financial Guaranty shall have received
notice of non-payment from the Fund.) For these purposes, a payment of
principal may be due only at final maturity of the Municipal Bond and not at the
time any earlier sinking fund payment is due. The insurance does not guarantee
B-36
<PAGE>
the market value of the Municipal Bonds or the value of the shares of the Fund
and, except as described below, has no effect on the price or redemption value
of the Fund's shares.
It is anticipated that the insured Municipal Bonds held by the Fund will be
insured by Financial Guaranty (see "Financial Guaranty" below). However, the
Fund may obtain insurance on its Municipal Bonds or purchase insured Municipal
Bonds covered by policies issued by other insurers; provided, any such company
has a claims-paying ability rated "AAA" by S&P or "Aaa" by Moody's. S&P and
Moody's have rated the claims-paying ability of Financial Guaranty and the
Municipal Bonds insured by Financial Guaranty at "AAA" and "Aaa," respectively.
New Issue Insurance Policies. The New Issue Insurance Policies, if any,
----------------------------
will have been obtained by the issuer of the Municipal Bonds and all premiums
with respect to such Bonds for the lives thereof will have been paid in advance
by such issuer. Such policies are generally non-cancelable and will continue in
force so long as the Municipal Bonds are outstanding and the insurer remains in
business. Since New Issue Insurance Policies remain in effect as long as the
Bonds are outstanding, the insurance may have an effect on the resale value of
the Municipal Bonds. Therefore, New Issue Insurance Policies may be considered
to represent an element of market value in regard to Municipal Bonds thus
insured, but the exact effect, if any, of this insurance on such market value
cannot be estimated.
Mutual Fund Insurance Policy. The Trust has obtained a Mutual Fund
----------------------------
Insurance Policy (the "Fund Policy") on behalf of the Fund from Financial
Guaranty. Under the Fund Policy, if the principal of or interest on a bond
covered by the Fund Policy is due for payment, but is unpaid by reason of non-
payment by the issuer, Financial Guaranty, upon proper notice by the Fund, will
make a payment of such amount to a fiscal agent for the benefit of the Fund,
upon the fiscal agent receiving from the Fund (i) evidence of the Fund's right
to receive payment of the principal or interest due for payment and (ii)
evidence that all of the Fund's right to such payment of the principal or
interest due for payment shall thereupon vest with Financial Guaranty. The
principal of a bond is considered due for payment under the Fund Policy at the
stated maturity date of such bond or the date on which the same shall have been
duly called for mandatory sinking fund redemption. The principal of a bond will
not be considered due for payment under the Fund Policy by reason of a call for
redemption (other than a mandatory sinking fund redemption), acceleration or
other advancement of maturity. The interest on a bond is considered due under
the Fund Policy on the stated date for payment. "Non-payment," by an issuer of
bonds, is when that issuer has not provided, on a timely basis, sufficient funds
to the paying agent of the issuer for payment in full of all principal and
interest due for payment.
Financial Guaranty's obligation to insure any particular bond which it has
agreed to insure is subject only to the Fund's becoming the owner of such bond
(i) on or before the 100th day following the date on which the Fund purchases
such bond or (ii) on or before the 150th day following the purchase date in the
case of "when, as and if issued" bonds which the issuer thereof has failed on a
timely basis to deliver in definitive form to the purchasers thereof. So long
as the Fund becomes the owner on or before the 100th or 150th day following the
purchase date, as the case may be, such bond will be insured as of the purchase
date. Once the insurance under the Fund Policy
B-37
<PAGE>
is effective with respect to the Municipal Bonds, it covers the Municipal Bonds
only so long as the Fund is in existence, Financial Guaranty is still in
business, the covered Municipal Bonds continue to be held by the Fund, and the
Fund pays the insurance premium monthly with respect to the covered Municipal
Bonds. In the event of a sale of any Municipal Bond held by the Fund or payment
thereof prior to maturity, the Fund Policy terminates as to such Municipal Bond
and Financial Guaranty is liable only for those payments of principal and
interest which are then due and owing. However, if in the judgment of the
Adviser it would be to the Fund's advantage, the Trust, on behalf of the Fund,
may purchase additional insurance (if available at an acceptable premium) that
will extend the insurance coverage on such Municipal Bond until maturity.
The Fund Policy provides that it is non-cancelable by Financial Guaranty
except for non-payment of premiums. Once the Fund purchases a bond and begins
paying a premium for that bond based upon a stated annual premium, that annual
premium rate cannot be changed by Financial Guaranty so long as the bond is
owned by the Fund and insured under the Fund Policy. Similar Municipal Bonds
purchased at different times, however, may have different premiums. The Trust,
at the request of the Fund, may cancel the Fund Policy at any time upon written
notice to Financial Guaranty and may do so if the Fund determines that the
benefits of the Fund Policy are not justified by the expense involved. In the
event the Fund were to cancel the Fund Policy and not obtain a substitute, the
Fund would satisfy its investment policy concerning the portion of its portfolio
required to be invested in insured Municipal Bonds by limiting such investments
to Municipal Bonds covered by New Issue Insurance Policies. If adequate
quantities of such Municipal Bonds were not available, the Fund would promptly
seek approval of its shareholders to change its name and its fundamental
investment policy.
If the Fund discontinues insuring newly acquired Municipal Bonds with
Financial Guaranty, it has the right to continue paying premiums to Financial
Guaranty for all Municipal Bonds previously insured and still held by the Fund
and keep the insurance in force as to those Municipal Bonds. The insurance
premiums will be payable monthly in advance by the Fund based on a statement of
premiums duly supplied by Financial Guaranty. The amount of premiums due will
be computed on a daily basis for purchases and sales of covered Municipal Bonds
during the month. If the Fund sells a Municipal Bond or that Bond is redeemed,
Financial Guaranty will refund any unused portion of the premium.
Municipal Bonds are eligible for insurance under the Fund Policy if they
are, at the time of purchase by the Fund, identified separately or by category
in qualitative guidelines (based primarily on ratings) furnished by Financial
Guaranty, and are in compliance with the aggregate limitations on amounts set
forth in such guidelines. Premium variations are based, in part, on the rating
of the Municipal Bond being insured at the time the Fund purchases such Bond.
Financial Guaranty may be willing to insure only a portion of the outstanding
bonds, or issue of bonds, by any particular issuer. In such event, Financial
Guaranty will advise the Fund, on a quarterly basis, of any limitation on the
insurance available for such Municipal Bonds. Once Financial Guaranty has
established such a limitation, it cannot reduce that limitation for any issue
during that quarter, but Financial Guaranty may, at its sole discretion, remove
at any time, any Municipal Bond from its list of bonds eligible to be insured if
the credit quality of such Municipal Bond has materially deteriorated after the
B-38
<PAGE>
quarterly limitation is made. Once such Municipal Bond is removed from the list
of bonds eligible to be insured, the Fund cannot acquire insurance upon such
Municipal Bond from Financial Guaranty. Financial Guaranty, however, must
continue to insure the full amount of such bonds previously acquired so long as
they remain held by the Fund and were, at the time of purchase by the Fund,
considered eligible by Financial Guaranty. The qualitative guidelines and
aggregate amount limitations established by Financial Guaranty, from time to
time, will not necessarily be the same as those the Adviser would use to govern
selection of Municipal Bonds for the Fund's investments. Therefore, from time
to time, such guidelines and limitations may affect investment decisions. When
the Fund's investment policies are more restrictive than the qualitative
guidelines and aggregate amount limitations established by Financial Guaranty or
any other insurer, the Fund's policies will govern.
Because coverage under the Fund Policy terminates upon sale of a Municipal
Bond held by the Fund, the insurance does not have any effect on the resale
value of Municipal Bonds. Therefore, the Adviser may decide to retain any
insured Municipal Bonds which are in default or, in the view of the Adviser, in
significant risk of default and to recommend to the Trustees that the Fund place
a value on the insurance which will be equal to the difference between the
market value of the defaulted Municipal Bond and the market value of similar
Municipal Bonds of minimum investment grade (i.e., rated "BBB") that are not in
default. As a result, the Adviser may be unable to manage fully the Fund's
investments to the extent that it holds defaulted Municipal Bonds, which will
limit the ability of the Adviser in certain circumstances to purchase other
Municipal Bonds. While a defaulted Municipal Bond is held by the Fund, the Fund
continues to pay the insurance premium thereon, but also collects interest
payments from the insurer and retains the rights to collect the full amount of
principal from the insurer when the Municipal Bond comes due. The Fund expects
that the market value of a defaulted Municipal Bond covered by a New Issue
Insurance Policy will generally be greater than the market value of an otherwise
comparable defaulted Municipal Bond covered by the Fund Policy.
Secondary Market Insurance Policies. On behalf of the Fund, the Trust
-----------------------------------
may, at any time, purchase from Financial Guaranty a secondary market insurance
policy (a "Secondary Market Policy") on any Municipal Bond currently covered by
the Fund Policy at the time such Bond was purchased by the Fund. The coverage
and obligation to pay monthly premiums under the Fund Policy would cease with
the purchase by the Trust of a Secondary Market Policy.
By purchasing a Secondary Market Policy, the Trust would, upon payment of a
single premium, obtain similar insurance for the Fund against non-payment of
scheduled principal and interest for the remaining term Municipal Bond,
regardless of whether the Fund then owned the Bond. Such insurance coverage
will be non-cancelable and will continue in force so long as the Municipal Bonds
so insured are outstanding. The purpose of acquiring such a policy would be to
enable the Fund to sell the Municipal Bond to a third party as an "AAA"/"Aaa"
rated insured Municipal Bond at a market price higher than what otherwise might
be obtainable if the security were sold without the insurance coverage. (Such
rating is not automatic, however, and must specifically be requested for each
Municipal Bond.) Any difference between the excess of a Municipal Bond's market
value as an "AAA"/"Aaa" rated Municipal Bond over its market value
B-39
<PAGE>
without such rating and the single premium payment would inure to the Fund in
determining the net capital gain or loss realized by the Fund upon the sale of
the Bond.
Since Secondary Market Policies remain in effect as long as the Municipal
Bonds insured thereby are outstanding, such insurance may have an effect on the
resale value of such Bonds. Therefore, Secondary Market Policies may be
considered to represent an element of market value with regard to Municipal
Bonds thus insured, but the exact effect, if any, of this insurance on such
market value cannot be estimated. Since the Fund has the right under the Mutual
Fund Insurance Policy to purchase such Secondary Market Policy even if an
eligible Municipal Bond is currently in default as to any payments by the
issuer, the Fund would have the opportunity to sell such Bond, and not be
obligated to hold it in its portfolio in order to continue the Fund Policy in
force.
Financial Guaranty. Financial Guaranty is a wholly-owned subsidiary of
------------------
FGIC Corporation, a Delaware holding company. Financial Guaranty, domiciled in
the State of New York, commenced its business of providing insurance and
financial guarantees for a variety of investment instruments in January 1984.
FGIC Corporation is a subsidiary of General Electric Capital Corporation.
Neither FGIC Corporation nor General Electric Capital Corporation is obligated
to pay the debts of or the claims against Financial Guaranty. Financial
Guaranty, in addition to providing insurance for the payment of interest and
principal of municipal bonds and notes held in mutual fund portfolios, provides
insurance for all, or a portion of, new and secondary market issues of municipal
bonds and notes and for municipal bonds and notes held in unit investment trust
portfolios. It is also authorized, in some states, to write fire, property
damage liability, worker's compensation and employers' liability and fidelity
and surety insurance.
Financial Guaranty is currently licensed to provide insurance in 50 states
and the District of Columbia, files reports with state insurance regulatory
agencies and is subject to audit and review by such authorities. Such
regulation, however, is no guarantee that Financial Guaranty will be able to
perform its contracts of insurance in the event a claim should be made
thereunder at some time in the future.
The information relating to Financial Guaranty contained herein has been
furnished by Financial Guaranty. No representation is made herein as to the
accuracy or adequacy of such information subsequent to the date hereof. The
Fund may purchase insurance from Financial Guaranty or from other insurers. The
use of insurance will result in a lower yield to shareholders of the Fund than
would be the case if non-insured securities were purchased.
B-40
<PAGE>
INVESTMENT RESTRICTIONS
Each Fund is subject to a number of investment restrictions that are
fundamental policies and may not be changed without the approval of the holders
of a majority of that Fund's outstanding voting securities. A "majority of the
outstanding voting securities" of a Fund for this purpose means the lesser of
(i) 67% of the shares of the Fund represented at a meeting at which more than
50% of the outstanding shares are present in person or represented by proxy or
(ii) more than 50% of the outstanding shares. Unless otherwise indicated, all
percentage limitations apply to each Fund on an individual basis, and apply only
at the time the investment is made; any subsequent change in any applicable
percentage resulting from fluctuations in value will not be deemed an investment
contrary to these restrictions. Under these restrictions:
(1) Each Fund may not purchase securities on margin, but each Fund
may obtain such short-term credits as may be necessary for the
clearance of transactions;
(2) Each Fund may not issue senior securities or borrow money or
pledge its assets except that: (i) each Fund may borrow for
temporary or emergency purposes in amounts not exceeding 5%
(taken at the lower of cost or current value) of its total assets
(not including the amount borrowed) and pledge its assets to
secure such borrowings; (ii) the GNMA Fund, Diversified Income
Fund and High Income Fund may each borrow money to purchase
securities in amounts not exceeding 50% of its net assets and
pledge its assets to secure such borrowings; and (iii) the
Diversified Income Fund and the High Income Fund may pledge up to
5% of its assets in connection with interest-rate swaps;
(3) Each Fund may not purchase any security (other than obligations
of the U.S. government, its agencies, or instrumentalities) if as
a result: (i) as to 75% of the Fund's total assets (taken at
current value), more than 5% of such assets would then be
invested in securities of a single issuer, or (ii) more than 25%
of the Fund's total assets (taken at current value) would be
invested in a single industry, or (iii) the Fund would then hold
more than 10% of the outstanding voting securities of an issuer;
(4) Each Fund may not buy or sell commodities or commodity contracts
(except financial futures as described under "Investment
Objectives and Policies" above) or real estate or interests in
real estate, although it may purchase and sell securities which
are secured by real estate and securities of companies which
invest or deal in real estate;
(5) Each Fund may not act as underwriter except to the extent that,
in connection with the disposition of Fund securities, it may be
deemed to be an underwriter under certain Federal securities
laws;
B-41
<PAGE>
(6) Each Fund may not make loans, except through (i) repurchase
agreements (repurchase agreements with a maturity of longer than
7 days together with other illiquid assets being limited to 10%
of the Fund's total assets), (ii) loans of portfolio securities
(limited to 33% of a Fund's assets), (iii) participation in loans
to foreign governments or companies, and (iv) as otherwise
permitted by exemptive order of the SEC;
The following additional restrictions are not fundamental policies and may
be changed by the Trustees without a shareholder vote:
(7) Each Fund may not make short sales of securities to maintain a
short position, except that each Fund may effect short sales
against the box;
(8) Each Fund may not purchase any security if as a result the Fund
would then have more than 5% of its total assets (taken at
current value) invested in securities of companies (including
predecessors) less than three years old;
(9) Each Fund may not invest in any securities of any issuer if, to
the knowledge of the Fund, any officer, Trustee or director of
the Trust or of the Adviser owns more than 1/2 of 1% of the
outstanding securities of such issue, and such officers,
directors or Trustees who own more than 1/2 of 1% own in the
aggregate more than 5% of the outstanding securities of such
issuer;
(10) Each Fund may not make investments for the purpose of exercising
control or management;
(11) The Fund may not invest more than 10% of its net assets in
illiquid securities, including repurchase agreements that have a
maturity of longer than seven days, time deposits with a maturity
of longer than seven days, securities with legal or contractual
restrictions on resale and securities that are not readily
marketable in securities markets either within or without the
United States. Restricted securities eligible for resale
pursuant to Rule 144A under the Securities Act that have a
readily available market, and commercial paper exempted from
registration under the Securities Act pursuant to Section 4(2) of
the Securities Act that may be offered and sold to "qualified
institutional buyers" as defined in Rule 144A, which the Adviser
has determined to be liquid pursuant to guidelines established by
the Trustees, will not be considered illiquid for purposes of
this 10% limitation on illiquid securities;
(12) Each Fund may not invest in securities of other registered
investment companies, except by purchases in the open market
involving only customary brokerage commissions and as a result of
which the Fund will not hold more than 3% of the outstanding
voting securities of any one investment
B-42
<PAGE>
company, will not have invested more than 5% of its total assets
in any one investment company and will not have invested more
than 10% of its total assets in such securities of one or more
investment companies (each of the above percentages to be
determined at the time of investment), or except as part of a
merger, consolidation or other acquisition;
(13) Each Fund may not invest in interests in oil, gas or other
mineral exploration or development programs, although it may
invest in the securities of companies which invest in or sponsor
such programs; and
(14) The High Income Fund may not purchase any security if as a result
the Fund would then hold more than 10% of any class of securities
of an issuer (taking all common stock issues of an issuer as a
single class, all preferred stock issues as a single class, and
all debt issues as a single class).
TRUSTEES AND OFFICERS
The following table lists the Trustees and executive officers of the Trust,
their age, business addresses and principal occupations during the past five
years. The SunAmerica Mutual Funds consist of SunAmerica Equity Funds,
SunAmerica Income Funds, SunAmerica Money Market Funds, Inc., SunAmerica
Strategic Investment Series, Inc. and SunAmerica Style Select Series, Inc. An
asterisk indicates those Trustees who are "interested persons" as that term is
defined in the 1940 Act.
<TABLE>
<CAPTION>
Name, Age and Address Position with the Fund Principal Occupations During Past 5 Years
<S> <C> <C>
S. James Coppersmith, 66 Trustee Retired; formerly, President and General
7 Elmwood Road Manager, WCVB-TV, a division of the Hearst
Marblehead, MA 01945 Corp. (1982 to 1994); Director/Trustee of
SAMF and Anchor Series Trust ("AST").
Samuel M. Eisenstat, 59 Chairman of the Board Attorney, solo practitioner, Chairman of
430 East 86th Street the Boards of Directors/Trustees of SAMF
New York, NY 10028 and AST.
Stephen J. Gutman, 56 Trustee Partner and Managing Member of B.B.
515 East 79th Street Associates LLC (menswear specialty
New York, NY 10021 retailing and other activities) since June
1988; Director/Trustee of SAMF and AST.
Peter A. Harbeck*, 46 Trustee and President Director and President, the Adviser, since
The SunAmerica Center August 1995; Director, AIG Asset
733 Third Avenue Management International, Inc. ("AIGAMI")
New York, NY 10017-3204 since February 2000; Managing Director,
John McStay Investment Counsel, L.P.
("JMIC") since June 1999; Director,
</TABLE>
B-43
<PAGE>
<TABLE>
<CAPTION>
Name, Age and Address Position with the Fund Principal Occupations During Past 5 Years
<S> <C> <C>
SunAmerica Capital Services, Inc.
("SACS"), since August 1993; Director and
President, SunAmerica Fund Services,
Inc.("SAFS"), since May 1988; President,
SAMF and AST; Executive Vice President and
Chief Operating Officer, the Adviser, from
May 1988 to August 1995; Executive Vice
President, SACS, from November 1991 to
August 1995.
Sebastiano Sterpa, 70 Trustee Founder and Chairman of the Board of the
73473 Mariposa Drive Sterpa Group (real estate), since 1962;
Palm Desert, CA 92260 Director, Real Estate Business Service and
Countrywide Financial; Director/Trustee of
SAMF.
Yee-Seng "Michael" Cheah, 40 Vice President Portfolio Manager, SunAmerica, since July
The SunAmerica Center 1999; Director of the U.S. Bond Division,
733 Third Avenue, 3rd Floor Markets and Investment Department,
New York, NY 10017 Monetary Authority of Singapore from
1991 to 1999.
James T. McGrath, 32 Vice President Portfolio Manager, SunAmerica, since
The SunAmerica Center August 1997; Investment Assistant,
733 Third Avenue Assistant Vice President and Municipal
New York, New York 10017 Bond Trader, Chase Asset Management from 1991
to 1997.
John W. Risner, 40 Vice President Senior Portfolio Manager, SunAmerica,
The SunAmerica Center since February 1997; Vice President and
733 Third Avenue Senior Portfolio Manager, Value Line Asset
New York, New York 10017 Management, from April 1992 to January
1997.
Peter C. Sutton, 35 Treasurer Senior Vice President, the Adviser, since
The SunAmerica Center April 1997; Vice President, AIGAMI since
733 Third Avenue February 2000; Treasurer and Controller of
New York, NY 10017-3204 Seasons Series Trust ("Seasons"),
SunAmerica Series Trust ("SAST") and
Anchor Pathway Fund ("APF") since
February 2000; Treasurer of SAMF and
AST since February 1996; Vice President of
SAST and APF since 1994; formerly,
Assistant Treasurer of SAST and APF from
1994 to February 2000; Vice President,
Seasons, since April 1997; formerly, Vice
President, the Adviser, from 1994 to 1997;
Controller, SAMF and AST, from March 1993
to February 1996; Assistant Controller,
SAMF and AST, from 1990 to 1993.
</TABLE>
B-44
<PAGE>
<TABLE>
<CAPTION>
Name, Age and Address Position with the Fund Principal Occupations During Past 5 Years
<S> <C> <C>
Robert M. Zakem, 41 Secretary Senior Vice President and General Counsel,
The SunAmerica Center SunAmerica, since April 1993; Executive
733 Third Avenue Vice President, General Counsel and
New York, NY 10017-3204 Director, SACS, since August 1993; Vice
President, General Counsel and Assistant
Secretary, SAFS, since January 1994; Vice
President, SunAmerica Series Trust, Anchor
Pathway Fund and Seasons Series Trust;
Assistant Secretary, SunAmerica Series
Trust and Anchor Pathway Fund, since
September 1993; Assistant Secretary,
Seasons Series Trust, since April 1997;
formerly, Vice President and Associate
General Counsel, SunAmerica, from March
1992 to April 1993.
</TABLE>
Trustees and officers of the Trust are also trustees and officers of some
or all of the other investment companies managed, administered or advised by the
Adviser, and distributed by the Distributor and other affiliates.
The Trustees of the Trust are responsible for the overall supervision of
the operation of the Trust and each Fund and perform various duties imposed on
trustees of investment companies by the 1940 Act and under the Trust's
Declaration of Trust. The Trust pays each Trustee who is not an interested
person of the Trust or the Adviser (each a "disinterested" Trustee) annual
compensation in addition to reimbursement of out-of-pocket expenses in
connection with attendance at meetings of the Trustees. Specifically, each
disinterested Trustee receives a pro rata portion (based upon the Trust's net
assets) of $40,000 in annual compensation for acting as director or trustee to
all the retail funds in the SunAmerica Mutual Funds. In addition, Mr. Eisenstat
receives an aggregate of $2,000 in annual compensation for serving as the
Chairman of the Boards of the SunAmerica Mutual Funds. Officers of the Trust
receive no direct remuneration in such capacity from the Trust or any of the
Funds.
In addition, each disinterested Trustee also serves on the Audit Committee
of the Board of Trustees. The Audit Committee is charged with recommending to
the full Board the engagement or discharge of the Trust's independent
accountants; directing investigations into matters within the scope of the
independent accountants' duties; reviewing with the independent accountants the
audit plan and results of the audit; approving professional services provided by
the independent accountants and other accounting firms prior to the performance
of such services; reviewing the independence of the independent accountants;
considering the range of audit and non-audit fees; and preparing and submitting
Committee minutes to the full Board. Each member of the Audit Committee
receives an aggregate of $5,000 in annual compensation for serving on the Audit
B-45
<PAGE>
Committees of all the SunAmerica Mutual Funds and Anchor Series Trust. With
respect to the Trust, each member of the committee receives a pro rata portion
of the $5,000 annual compensation, based on the relative net assets of the
Trust. The Trust also has a Nominating Committee, comprised solely of
disinterested Trustees, which recommends to the Trustees those persons to be
nominated for election as Trustees by shareholders and selects and proposes
nominees for election by Trustees between shareholders' meetings. Members of
the Nominating Committee serve without compensation.
The Trustees (and Directors) of the SunAmerica Mutual Funds have adopted
the SunAmerica Disinterested Trustees' and Directors' Retirement Plan (the
"Retirement Plan") effective January 1, 1993 for the Trustees who are
disinterested Trustees. The Retirement Plan provides generally that if a
disinterested Trustee who has at least 10 years of consecutive service as a
disinterested Trustee of any of the SunAmerica Mutual Funds (an "Eligible
Trustee") retires after reaching age 60 but before age 70 or dies while a
Trustee, such person will be eligible to receive a retirement or death benefit
from each SunAmerica Mutual Fund with respect to which he or she is an Eligible
Trustee. With respect to Sebastiano Sterpa, the Disinterested Trustees have
determined to make an exception to existing policy and allow Mr. Sterpa to
remain on the Board past age 70, until he has served for ten years. Mr. Sterpa
will cease accruing retirement benefits upon reaching age 70, although such
benefits will continue to accrue interest as provided for in the Retirement
Plan. As of each birthday, prior to the 70th birthday, each Eligible Trustee
will be credited with an amount equal to (i) 50% of his or her regular fees
(excluding committee fees) for services as a disinterested Trustee of each
SunAmerica Mutual Fund for the calendar year in which such birthday occurs, plus
(ii) 8.5% of any amounts credited under clause (i) during prior years. An
Eligible Trustee may receive any benefits payable under the Retirement Plan, at
his or her election, either in one lump sum or in up to fifteen annual
installments.
The following table sets forth information summarizing the compensation of
each disinterested Trustee for his services as Trustee for the fiscal year ended
March 31, 2000. Neither the Trustees who are interested persons of the Trust
nor any officers of the Trust receive any compensation.
COMPENSATION TABLE
<TABLE>
<CAPTION>
Total Compensation
Aggregate Pension or Retirement Estimated from Registrant
Compensation Benefits Accrued as Part Annual Benefits and Fund Complex Paid
Trustee from Registrant of Fund Expenses* on Retirement** to Trustees*
------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
S. James $6,858 $46,156 $29,670 $65,000
Coppersmith
------------------------------------------------------------------------------------------------------------------------------
Samuel M. Eisenstat $7,178 $40,504 $46,089 $69,000
------------------------------------------------------------------------------------------------------------------------------
Stephen J. Gutman $6,858 $41,909 $60,912 $65,000
------------------------------------------------------------------------------------------------------------------------------
Sebastiano Sterpa $6,916 $16,300 $ 7,900 $43,333***
------------------------------------------------------------------------------------------------------------------------------
</TABLE>
* Information is as of March 31, 2000 for the five investment companies in the
complex that pay fees to
B-46
<PAGE>
these directors/trustees. The complex consists of the SunAmerica Mutual
Funds and Anchor Series Trust.
** Assuming participant elects to receive benefits in 15 yearly installments.
*** Mr. Sterpa is not a trustee of Anchor Series Trust.
As of June 30, 2000, the Trustees and officers of the Trust owned in the
aggregate less than 1% of the total outstanding shares of each class of each
Fund.
The following shareholders owned of record or beneficially 5% or more of
the indicated Fund Class' shares outstanding as of June 23, 2000: High Income
Fund - Class B - Merrill Lynch, Pierce, Fenner & Smith, Inc., Jacksonville, FL
32246 - owned of record 6%; Tax Exempt Insured Fund - Class B - Merrill Lynch,
Pierce, Fenner & Smith, Inc., Jacksonville, FL 32246 owned of record 11%; Tax
Exempt Insured Fund - Class II - SunAmerica Asset Management Corp., New York, NY
10017 - owned of record 32%; Advest Inc., Hartford, CT 06103 - owned of record
32%; Solomon Smith Barney Inc., New York, NY 10001 - owned of record 7%;
Donaldson Lufkin Jenrette Securities Corporation Inc., Jersey City, NJ - owned
of record 13%; GNMA Fund - Class A - Friends and Foundation of the San Francisco
Public Library, San Francisco, CA 94102 - owned of record 10%; Merrill Lynch
Pierce, Fenner & Smith, Inc., Jacksonville, FL 32246 - owned of record 7%; GNMA
Fund - Class II - SunAmerica Asset Management Corp., New York, NY 10017 - owned
of record 10%; Donaldson Lufkin Jenrette Securities Corporation Inc., Jersey
City, NJ 07303 - owned of record 36%; U. S. Government Fund - Class II -
Prudential Securities Inc., - fbo The Muzatko Revocable Trust, Seattle, WA 98136
- owned of record 9%; Donaldson Lufkin Jenrette Securities Corporation Inc.,
Jersey City, NJ 07303 - owned of record 15%; SunAmerica Asset Management Corp.,
New York, NY 10017 - owned of record 29%; Prudential Securities Inc., Ilwaco, WA
98324 - owned of record 8%; Diversified Income Fund - Class II - SunAmerica
Asset Management Corp., New York, NY 10017 - owned of record 12%; Paine Webber
for the Benefit of Six Smith Management LLC, Thousand Oaks, CA 91320 - owned of
record 27%; Anthony J. Costa fbo Anthony J. Costa Trust, Thousand Oaks, CA 91360
- owned of record 10%; Donaldson Lufkin Jenrette Securities Corporation Inc.,
Jersey City, NJ 07303 - owned of record 5%. A Shareholder who owns
beneficially, directly or indirectly, 25% or more of a Fund's outstanding voting
securities may be deemed to "control" (as defined in the 1940 Act) that Fund.
B-47
<PAGE>
ADVISER, PERSONAL SECURITIES TRADING,
DISTRIBUTOR AND ADMINISTRATOR
The Adviser. The Adviser, which was organized as a Delaware corporation in
1982, is located at The SunAmerica Center, 733 Third Avenue, New York, NY 10017-
3204, and acts as adviser to each of the Funds pursuant to the Investment
Advisory and Management Agreement dated January 1, 1999 (the "Advisory
Agreement") with the Trust, on behalf of each Fund. As of June 30, 2000, the
Adviser managed and/or administrated assets in excess of $30 billion. The
Adviser is a wholly-owned subsidiary of SunAmerica Inc., which in turn is a
wholly-owned subsidiary of American International Group, Inc. ("AIG"), the
leading U.S.-based international insurance organization.
AIG, a Delaware corporation, is a holding company that through its
subsidiaries is primarily engaged in a broad range of insurance and insurance
related activities and financial services in the United States and abroad. AIG,
through its subsidiaries, is also engaged in a range of financial services
activities.
Under the Advisory Agreement, the Adviser selects and manages the
investments of each Fund, provides various administrative services and
supervises the Funds' daily business affairs, subject to general review by the
Trustees.
Except to the extent otherwise specified in the Advisory Agreement, each
Fund pays, or causes to be paid, all other expenses of the Trust and each of the
Funds, including, without limitation, charges and expenses of any registrar,
custodian, transfer and dividend disbursing agent; brokerage commissions; taxes;
engraving and printing of share certificates; registration costs of the Funds
and their shares under federal and state securities laws; the cost and expense
of printing, including typesetting, and distributing Prospectuses and Statements
of Additional Information regarding the Funds, and supplements thereto, to the
shareholders of the Funds; all expenses of shareholders' and Trustees' meetings
and of preparing, printing and mailing proxy statements and reports to
shareholders; all expenses incident to any dividend, withdrawal or redemption
options; fees and expenses of legal counsel and independent accountants;
membership dues of industry associations; interest on borrowings of the Funds;
postage; insurance premiums on property or personnel (including Officers and
Trustees) of the Trust which inure to its benefit; extraordinary expenses
(including, but not limited to, legal claims and liabilities and litigation
costs and any indemnification relating thereto); and all other costs of the
Trust's operation.
As compensation for its services to the Funds, the Adviser receives a fee
from each Fund, payable monthly, computed daily at the following annual rates:
<TABLE>
<CAPTION>
Fund Fee
---- ---
<S> <C>
U.S. Government Securities Fund .75% of average daily net assets up to $200 million;
.72% of the next 200 million; and .55% of average
daily net assets in excess of $400 million.
</TABLE>
B-48
<PAGE>
<TABLE>
<CAPTION>
Fund Fee
---- ---
<S> <C>
GNMA Fund .55% of average daily net assets up to $25 million;
.50% of the next $25 million; and .45% of average daily net
assets in excess of $50 million.
Diversified Income Fund .65% of average daily net assets up to $350 million; and .60%
of average daily net assets in excess of $350 million.
High Income Fund .75% of average daily net assets up to $200 million;
.72% of the next $200 million; and .55% of average
daily net assets in excess of $400 million.
Tax Exempt Insured Fund .50% of average daily net assets up to $350 million;
and .45% of average daily net assets in excess of $350
million.
</TABLE>
The following table sets forth the total advisory fees received by the
Adviser from each Fund pursuant to the Advisory Agreement for the fiscal years
ended March 31, 2000, 1999 and 1998.
Advisory Fees
<TABLE>
<CAPTION>
Fund 2000 1999 1998
-----------------------------------------------------------------------------------------------
<S> <C> <C> <C>
U.S. Government Securities Fund $1,695,635 $2,064,005 $2,618,884
-----------------------------------------------------------------------------------------------
GNMA Fund 331,379 281,673 259,246
-----------------------------------------------------------------------------------------------
Diversified Income Fund 388,921 495,242 630,297
-----------------------------------------------------------------------------------------------
High Income Fund 1,371,154 1,367,902 1,128,548
-----------------------------------------------------------------------------------------------
Tax Exempt Insured Fund 464,485 534,307 582,729
-----------------------------------------------------------------------------------------------
</TABLE>
With respect to the Class II shares of High Income Fund (previously
designated Class C shares), for the fiscal years ended March 31, 1999, and March
31, 1998, expense reimbursements were given to the Fund by the Adviser in the
amount of $25,146 and $3,859.
Expense Reimbursements
<TABLE>
<CAPTION>
Fund March 2000
-------------------------------------------------------
<S> <C>
U.S. Government Securities Fund $11,439
-------------------------------------------------------
GNMA Fund 12,638
-------------------------------------------------------
Diversified Income Fund 14,189
-------------------------------------------------------
High Income Fund 14,981
-------------------------------------------------------
Tax Exempt Insured Fund 12,777
-------------------------------------------------------
</TABLE>
*The Adviser is voluntarily reimbursing expenses.
B-49
<PAGE>
The Advisory Agreement continues with respect to each Fund from year to
year, if such continuance is approved at least annually by vote of a majority of
the Trustees or by the holders of a majority of the respective Fund's
outstanding voting securities. Any such continuation also requires approval by
a majority of the Trustees who are not parties to the Advisory Agreement or
"interested persons" of any such party as defined in the 1940 Act by vote cast
in person at a meeting called for such purpose. The Advisory Agreement may be
terminated with respect to a Fund at any time, without penalty, on 60 days'
written notice by the Trustees, by the holders of a majority of the respective
Fund's outstanding voting securities or by the Adviser. The Advisory Agreement
automatically terminates with respect to each Fund in the event of its
assignment (as defined in the 1940 Act and the rules thereunder).
Under the terms of the Advisory Agreement, the Adviser is not liable to the
Funds, or their shareholders, for any act or omission by it or for any losses
sustained by the Funds or their shareholders, except in the case of willful
misfeasance, bad faith, gross negligence or reckless disregard of duty.
Personal Securities Trading. The Trust and the Adviser have adopted a written
Code of Ethics (the "Code of Ethics") which prescribes general rules of conduct
and sets forth guidelines with respect to personal securities trading by "Access
Persons" thereof. An Access Person as defined in the Code of Ethics is an
individual who is a trustee, director, officer, general partner or advisory
person of the Trust or the Adviser. The guidelines on personal securities
trading include: (i) securities being considered for purchase or sale, or
purchased or sold, by any investment company advised by the Adviser; (ii)
initial public offerings; (iii) private placements; (iv) blackout periods; (v)
short-term trading profits; (vi) gifts; and (vii) services as a director. These
guidelines are substantially similar to those contained in the Report of the
Advisory Group on Personal Investing issued by the Investment Company
Institute's Advisory Panel. The Adviser reports to the Board of Trustees on a
quarterly basis, as to whether there were any violations of the Code of Ethics
by Access Persons of the Trust or the Adviser during the quarter.
The Distributor. The Trust, on behalf of each Fund, has entered into a
distribution agreement (the "Distribution Agreement") with the Distributor, a
registered broker-dealer and an indirect wholly-owned subsidiary of AIG, to act
as the principal underwriter in connection with the continuous offering of each
class of shares of each Fund. The address of the Distributor is The SunAmerica
Center, 733 Third Avenue, New York, NY 10017-3204. The Distribution Agreement
provides that the Distributor has the exclusive right to distribute shares of
the Funds through its registered representatives and authorized broker-dealers.
The Distribution Agreement also provides that the Distributor will pay the
promotional expenses, including the incremental cost of printing prospectuses,
annual reports and other periodic reports respecting each Fund, for distribution
to persons who are not shareholders of such Fund and the costs of preparing and
distributing any other supplemental sales literature. However, certain
promotional expenses may be borne by the Funds (see "Distribution Plans" below).
The Distribution Agreement continues in effect from year to year, with
respect to each Fund, if such continuance is approved at least annually by vote
of a majority of the Trustees, including a majority of the disinterested
Trustees. The Trust or the Distributor each has the right to terminate
B-50
<PAGE>
the Distribution Agreement with respect to a Fund on 60 days' written notice,
without penalty. The Distribution Agreement automatically terminates with
respect to each Fund in the event of its assignment (as defined in the 1940 Act
and the rules thereunder).
The Distributor may, from time to time, pay additional commissions or
promotional incentives to brokers, dealers or other financial services firms
that sell shares of the Funds. In some instances, such additional commissions,
fees or other incentives may be offered only to certain firms, including Royal
Alliance Associates, Inc., SunAmerica Securities, Inc., Sentra Securities
Corporation, Spelman & Co., Inc., Financial Service Corporation and Advantage
Capital Corporation, affiliates of the Distributor, that sell or are expected to
sell during specified time periods certain minimum amounts of shares of the
Funds, or of other funds underwritten by the Distributor. In addition, the
terms and conditions of any given promotional incentive may differ from firm to
firm. Such differences will, nevertheless, be fair and equitable, and based on
such factors as size, geographic location, or other reasonable determinants, and
will in no way affect the amount paid to any investor.
Distribution Plans. As indicated in the Prospectus, the Trustees of the Trust
and the shareholders of each class of shares of each Fund have adopted
Distribution Plans (the "Class A Plan," the "Class B Plan," and the "Class II
Plan," and, collectively, the "Distribution Plans"). Reference is made to "Fund
Management" in the Prospectus for certain information with respect to the
Distribution Plans.
Under the Class A Plan, the Distributor may receive payments from a Fund at
an annual rate of up to 0.10% of average daily net assets of such Fund's Class A
shares to compensate the Distributor and certain securities firms for providing
sales and promotional activities for distributing that class of shares. Under
the Class B and Class II Plans, the Distributor may receive payments from a Fund
at the annual rate of up to 0.75% of the average daily net assets of such Fund's
Class B and Class II shares to compensate the Distributor and certain securities
firms for providing sales and promotional activities for distributing that class
of shares. The distribution costs for which the Distributor may be reimbursed
out of such distribution fees include fees paid to broker-dealers that have sold
Fund shares, commissions and other expenses such as sales literature, prospectus
printing and distribution and compensation to wholesalers. It is possible that
in any given year the amount paid to the Distributor under any of the
Distribution Plans will exceed the Distributor's distribution costs as described
above. The Distribution Plans provide that each class of shares of each Fund
may also pay the Distributor an account maintenance and service fee of up to
0.25% of the aggregate average daily net assets of such class of shares for
payments to broker-dealers for providing continuing account maintenance. In
this regard, some payments are used to compensate broker-dealers with account
maintenance and service fees in an amount up to 0.25% per year of the assets
maintained in a Fund by their customers.
The following table sets forth the distribution and account maintenance and
service fees the Distributor received from the Funds for the fiscal years ended
March 31, 2000, 1999 and 1998.
B-51
<PAGE>
Distribution and Service Maintenance Fees
<TABLE>
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
2000 1999 1998
-----------------------------------------------------------------------------------------------------------------------
Class A Class B Class II Class A Class B Class II Class A Class B Class II*
-----------------------------------------------------------------------------------------------------------------------
U.S. $521,036 $ 769,994 $ 13,242 $376,010 $1,709,028 N/A $374,850 $2,483,056 N/A
Government
Securities Fund
----------------------------------------------------------------------------------------------------------------------
GNMA Fund 140,057 246,526 6,378 114,753 214,746 N/A 108,151 184,550 N/A
----------------------------------------------------------------------------------------------------------------------
Diversified 104,007 297,771 3,410 89,100 507,341 N/A 82,072 735,197 N/A
Income Fund
----------------------------------------------------------------------------------------------------------------------
High Income 230,301 1,041,826 128,854 214,403 1,158,536 $52,809 161,715 1,041,969 719
Fund
----------------------------------------------------------------------------------------------------------------------
Tax Exempt 258,727 187,292 2,458 295,921 223,125 N/A 324,213 239,135 N/A
Insured Fund
----------------------------------------------------------------------------------------------------------------------
</TABLE>
*Previously designated as Class C shares with respect to the High Income
Fund.
Continuance of the Distribution Plans with respect to each Fund is subject
to annual approval by vote of the Trustees, including a majority of the
disinterested Trustees. A Distribution Plan may not be amended to increase
materially the amount authorized to be spent thereunder with respect to a class
of shares of a Fund, without approval of the shareholders of the affected class
of shares of the Fund. In addition, all material amendments to the Distribution
Plans must be approved by the Trustees in the manner described above. A
Distribution Plan may be terminated at any time with respect to a Fund without
payment of any penalty by vote of a majority of the disinterested Trustees or by
vote of a majority of the outstanding voting securities (as defined in the 1940
Act) of the affected class of shares of the Fund. So long as the Distribution
Plans are in effect, the election and nomination of the disinterested Trustees
of the Trust shall be committed to the discretion of the disinterested Trustees.
In the Trustees' quarterly review of the Distribution Plans, they will consider
the continued appropriateness of, and the level of, compensation provided in the
Distribution Plans. In their consideration of the Distribution Plans with
respect to a Fund, the Trustees must consider all factors they deem relevant,
including information as to the benefits of the Fund and the shareholders of the
relevant class of the Fund.
The Administrator. The Trust has entered into a Service Agreement, under the
terms of which SAFS, an indirect wholly-owned subsidiary of AIG, acts as a
servicing agent assisting State Street Bank and Trust Company ("State Street")
in connection with certain services offered to the shareholders of each of the
Funds. Under the terms of the Service Agreement, SAFS may receive reimbursement
of its costs in providing such shareholder services. SAFS is located at The
SunAmerica Center, 733 Third Avenue, New York, NY 10017-3204.
The Service Agreement continues in effect from year to year provided that
such continuance is approved annually by vote of a majority of the Trustees
including a majority of the disinterested Trustees.
Pursuant to the Service Agreement, as compensation for services rendered,
SAFS receives a fee from the Trust, computed and payable monthly based upon an
annual rate of 0.22% of average daily net assets. This fee represents the full
cost of providing shareholder and transfer agency services to the Trust. From
this fee, SAFS pays a fee to State Street, and its affiliate, National Financial
Data Services ("NFDS" and with State Street, the "Transfer Agent") (other than
out-of-pocket charges of the Transfer Agent which are paid by the Trust). For
further information regarding the Transfer Agent, see the section entitled
"Additional Information" below.
B-52
<PAGE>
PORTFOLIO TRANSACTIONS AND BROKERAGE
The Adviser is responsible for decisions to buy and sell securities for
each Fund, selection of broker-dealers and negotiation of commission rates.
Purchases and sales of securities on a securities exchange are effected through
brokers-dealers who charge a negotiated commission for their services. Orders
may be directed to any broker-dealer including, to the extent and in the manner
permitted by applicable law, an affiliated brokerage subsidiary of the Adviser.
In the over-the-counter market, securities are generally traded on a "net"
basis with dealers acting as principal for their own accounts without a stated
commission (although the price of the security usually includes a profit to the
dealer). In underwritten offerings, securities are purchased at a fixed price
which includes an amount of compensation to the underwriter, generally referred
to as the underwriter's concession or discount. On occasion, certain money
market instruments may be purchased directly from an issuer, in which case no
commissions or discounts are paid.
The primary consideration of the Adviser in effecting a security
transaction is to obtain the best net price and the most favorable execution of
the order. However, the Adviser may select broker-dealers that provide it with
research services - analyses and reports concerning issuers, industries,
securities, economic factors and trends - and may cause a Fund to pay such
broker-dealers commissions which exceed those that other broker-dealers may have
charged, if in their view the commissions are reasonable in relation to the
value of the brokerage and/or research services provided by the broker-dealer.
Certain research services furnished by brokers may be useful to the Adviser with
clients other than the Trust and may not be used in connection with the Trust.
No specific value can be determined for research services furnished without cost
to the Adviser by a broker. The Adviser is of the opinion that because the
material must be analyzed and reviewed by its staff, its receipt does not tend
to reduce expenses, but may be beneficial in supplementing the Adviser's
research and analysis. Therefore, it may tend to benefit the Funds by improving
the quality of the Adviser's investment advice. The investment advisory fees
paid by the Funds are not reduced because the Adviser receives such services.
When making purchases of underwritten issues with fixed underwriting fees, the
Adviser may designate the use of broker-dealers who have agreed to provide the
Adviser with certain statistical, research and other information.
Subject to applicable law and regulations, consideration may also be given
to the willingness of particular brokers to sell shares of a Fund as a factor in
the selection of brokers for transactions effected on behalf of a Fund, subject
to the requirement of best price and execution.
Although the objectives of other accounts or investment companies which the
Adviser manages may differ from those of the Funds, it is possible that, at
times, identical securities will be acceptable for purchase by one or both of
the Funds and one or more other accounts or investment companies which the
Adviser manages. However, the position of each account or company in the
securities of the same issue may vary with the length of the time that each
account or company may choose to hold its investment in those securities. The
timing and amount of purchase by each account and company will also be
determined by its cash position. If the purchase or sale of a security is
consistent with the investment policies of one or more of the Funds and one or
more of these other accounts or companies is considered at or about the same
time, transactions in such securities will be allocated in a manner deemed
equitable by the Adviser. The Adviser may combine such transactions, in
accordance with applicable laws and regulations, where the size of the
transaction would enable it to negotiate a better price or reduced commission.
However, simultaneous transactions could adversely affect the ability of a Fund
to obtain or dispose of the full
B-53
<PAGE>
amount of a security, which it seeks to purchase or sell, or the price at which
such security can be purchased or sold.
The following table sets forth the brokerage commissions paid by those
Funds that paid commissions and the amounts of such brokerage commissions which
were paid to affiliated broker-dealers by the Funds for the fiscal year ended
March 31, 2000.
B-54
<PAGE>
2000 Brokerage Commissions
<TABLE>
<CAPTION>
Percentage of Percentage of Amount of
Aggregate Amount paid to Commissions paid Transactions Involving
Brokerage Affiliated to Affiliated Payments of Commissions to
Fund Commissions Broker-Dealers Broker-Dealers Affiliated Broker-Dealers
--------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
U.S. Government $ 0 $0 0% 0%
Securities Fund
--------------------------------------------------------------------------------------------------------------
GNMA Fund $ 0 $0 0% 0%
--------------------------------------------------------------------------------------------------------------
Diversified $160 $0 0% 0%
Income Fund
--------------------------------------------------------------------------------------------------------------
High Income $636 $0 0% 0%
Fund
--------------------------------------------------------------------------------------------------------------
Tax Exempt $ 0 $0 0% 0%
Insured Fund
--------------------------------------------------------------------------------------------------------------
</TABLE>
For the fiscal year ended March 31, 1999, the Diversified Income Fund and
the High Income Fund paid brokerage commissions of $12 of which $0 was paid to
affiliated brokers. For the fiscal year ended March 31, 1998 none of the Funds
paid brokerage commissions.
ADDITIONAL INFORMATION REGARDING PURCHASE OF SHARES
Shares of each of the Funds are sold at the respective net asset value next
determined after receipt of a purchase order, plus a sales charge, which, at the
election of the investor, may be imposed (i) at the time of purchase (Class A
shares), (ii) on a deferred basis (Class B and certain Class A shares), or
(iii) may contain certain elements of a sales charge that is imposed at the time
of purchase and that is deferred (Class II shares). Class C shares, now
designated as Class II shares, had sales charges imposed on a deferred basis
with no front-end sales load prior to their redesignation. Reference is made to
"Shareholder Account Information" in the Prospectus for certain information as
to the purchase of Fund shares.
The following tables set forth the front-end sales charges with respect to
Class A and Class II shares of each Fund, the amount of the front-end sales
charges which was reallowed to affiliated broker-dealers, and the contingent
deferred sales charges with respect to Class B and Class II shares of each Fund,
received by the Distributor for the fiscal years ended March 31, 2000, 1999 and
1998.
B-55
<PAGE>
2000
<TABLE>
<CAPTION>
Amount Class A Contingent Contingent
Front-End Sales Amount Class A Reallowed to Deferred Deferred
Concessions Class Reallowed to Affiliated Non-Affiliated Sales Charge Sales Charge
Fund A Shares Broker-Dealers Broker-Dealers Class B Shares Class II Shares
----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
U.S. Government $ 84,853 $49,148 $ 20,524 $ 95,089 $ 202
Securities Fund
----------------------------------------------------------------------------------------------------------------------------------
GNMA 95,420 57,010 24,241 77,090 325
Fund
----------------------------------------------------------------------------------------------------------------------------------
Diversified 46,104 25,167 10,207 70,290 --
Income Fund
----------------------------------------------------------------------------------------------------------------------------------
High Income Fund 289,495 58,490 185,465 316,518 12,665
----------------------------------------------------------------------------------------------------------------------------------
Tax Exempt 51,425 21,451 19,549 63,686 --
Insured Fund
----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
Front-End Sales Amount Class II Amount Class II Reallowed
Concessions Class Reallowed to Affiliated to Non-Affiliated Broker-
Fund II Shares Broker-Dealers Dealers
-----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
U.S. Government Securities $34,174 $19,005 $15,169
Fund
-----------------------------------------------------------------------------------------------------------------
GNMA Fund 14,174 11,866 2,308
--------------------------------------------------------------------------------------------------------------------
Diversified Income Fund 12,506 11,017 1,489
--------------------------------------------------------------------------------------------------------------------
High Income Fund 96,016 26,726 69,290
--------------------------------------------------------------------------------------------------------------------
Tax Exempt Insured Fund 4,367 940 3,247
--------------------------------------------------------------------------------------------------------------------
</TABLE>
1999
<TABLE>
<CAPTION>
Amount Class A Contingent Contingent
Front-End Sales Amount Class A Reallowed to Deferred Deferred
Charge Class Reallowed to Affiliated Non-Affiliated Sales Charge Sales Charge
Fund A Shares Broker-Dealers Broker-Dealers Class B Shares Class II Shares
----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
U.S. $ 54,336 $ 25,889 $ 18,702 $108,425 --
Government
Securities Fund
----------------------------------------------------------------------------------------------------------------------------------
GNMA Fund 160,952 39,391 95,975 31,924 --
----------------------------------------------------------------------------------------------------------------------------------
Diversified 118,172 28,777 68,304 68,893 --
Income Fund
----------------------------------------------------------------------------------------------------------------------------------
High Income 646,406 164,766 384,575 304,148 5,712
Fund
----------------------------------------------------------------------------------------------------------------------------------
Tax Exempt 67,138 26,691 29,723 55,250 --
Insured Fund
----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
B-56
<PAGE>
<TABLE>
<CAPTION>
Front-End Sales Amount Class II Amount Class II Reallowed
Concessions Class Reallowed to Affiliated to Non-Affiliated Broker-
Fund II Shares Broker-Dealers Dealers
-----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
High Income Fund $57,413 $10,046 $47,367
------------------------------------------------------------------------------------------------------------------
</TABLE>
1998
<TABLE>
<CAPTION> Contingent Contingent
Front-End Sales Amount Reallowed Amount Reallowed to Deferred Deferred
ChargeClass A to Affiliated Non-Affiliated Sales Charge Sales Charge
Fund Shares Broker-Dealers Broker-Dealers Class B Shares Class II Shares
----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
U.S. Government $ 25,103 $ 17,121 $ 4,070 $270,398 --
Securities Fund
----------------------------------------------------------------------------------------------------------------------
GNMA Fund 36,021 11,517 16,849 19,862 --
----------------------------------------------------------------------------------------------------------------------
Diversified Income 72,686 20,452 38,553 124,129 --
Fund
----------------------------------------------------------------------------------------------------------------------
High Income 353,552 115,057 178,181 402,985 --
Fund
----------------------------------------------------------------------------------------------------------------------
Tax Exempt 62,143 33,967 16,329 69,255 --
Insured Fund
----------------------------------------------------------------------------------------------------------------------
</TABLE>
Conversion Feature Applicable to Certain Class B Shares. Shareholders of
Class B shares of the U.S. Government Securities Fund, the GNMA Fund, the
Diversified Income Fund and the High Income Fund issued in exchange for
shares of Old Government Securities, Old Federal Securities, Old Diversified
Income and Old High Income, respectively, in the Reorganization, will receive
credit for the periods both prior to and after the Reorganization during
which the shares were held, for purposes of computing the seven year holding
period applicable to the conversion feature.
Waiver of CDSCs. As discussed under "Shareholder Account Information" in the
Prospectus, CDSCs may be waived on redemptions of Class B and Class II shares
under certain circumstances. The conditions set forth below are applicable
with respect to the following situations with the proper documentation:
Death. CDSCs may be waived on redemptions within one year following
------
the death (i) of the sole shareholder on an individual account, (ii) of a
joint tenant where the surviving joint tenant is the deceased's spouse, or
(iii) of the beneficiary of a Uniform Gifts to Minors Act, Uniform Transfers
to Minors Act or other custodial account. The CDSC waiver is also applicable
in the case where the shareholder account is registered as community
property. If, upon the occurrence of one of the foregoing, the account is
transferred to an account registered in the name of the deceased's estate,
the date of CDSC will be waived on any redemption from the estate account
occurring within one year of the death. If the Class B or Class II shares
are not redeemed within one year of the date of death, they will remain Class
B or Class II shares, as applicable, and be subject to the applicable CDSC,
if any, when redeemed.
Disability. CDSCs may be waived on redemptions occurring within one
-----------
year after the sole shareholder on an individual account or a joint tenant on
a spousal joint tenant account becomes disabled (as defined in Section
72(m)(7) of the Code). To be eligible for such waiver, (i) the disability
must arise after the purchase of shares and (ii) the disabled shareholder
must have been
B-57
<PAGE>
under age 65 at the time of the initial determination of disability. If the
account is transferred to a new registration and then redemption is
requested, the applicable CDSC will be charged.
Purchases through the Distributor. An investor may purchase shares of a Fund
through dealers which have entered into selected dealer agreements with the
Distributor. An investor's dealer who has entered into a distribution
arrangement with the Distributor is expected to forward purchase orders and
payment promptly to the Fund. Orders received by the Distributor before the
close of business will be executed at the offering price determined at the close
of regular trading on the New York Stock Exchange ("NYSE") that day. Orders
received by the Distributor after the close of business will be executed at the
offering price determined after the close of the NYSE on the next trading day.
The Distributor reserves the right to cancel any purchase order for which
payment has not been received by the fifth business day following the
investment. A Fund will not be responsible for delays caused by dealers.
Purchase by Check. Checks should be made payable to the specific Fund or to
"SunAmerica Funds". If the payment is for a retirement plan account for which
the Adviser serves as fiduciary, please indicate on the check that payment is
for such an account. In the case of a new account, purchase orders by check must
be submitted directly by mail to SunAmerica Fund Services, Inc., Mutual Fund
Operations, The SunAmerica Center, 733 Third Avenue, New York, New York 10017-
3204, together with payment for the purchase price of such shares and a
completed New Account Application. Payment for subsequent purchases should be
mailed to SunAmerica Fund Services, Inc., c/o NFDS, P.O. Box 219373, Kansas
City, Missouri 64121-9373and the shareholder's Fund account number should appear
on the check. For fiduciary retirement plan accounts, both initial and
subsequent purchases should be mailed to SunAmerica Fund Services, Inc., Mutual
Fund Operations, The SunAmerica Center, 733 Third Avenue, New York, New York
10017-3204. Certified checks are not necessary but checks are accepted subject
to collection at full face value in United States funds and must be drawn on a
bank located in the United States. Upon receipt of the completed New Account
Application and payment check, the Transfer Agent will purchase full and
fractional shares of the applicable Fund at the net asset value next computed
after the check is received, plus the applicable sales charge. Subsequent
purchases of shares of each Fund may be purchased directly through the Transfer
Agent. SAFS reserves the right to reject any check made payable other than in
the manner indicated above. Under certain circumstances, a Fund will accept a
multi-party check (e.g., a check made payable to the shareholder by another
party and then endorsed by the shareholder to the Fund in payment for the
purchase of shares); however, the processing of such a check may be subject to a
delay. The Funds do not verify the authenticity of the endorsement of such
multi-party check, and acceptance of the check by a Fund should not be
considered verification thereof. Neither the Funds nor their affiliates will be
held liable for any losses incurred as a result of a fraudulent endorsement.
There are restrictions on the redemption of shares purchased by check for which
funds are being collected. (See "Shareholder Account Information" in the
prospectus.)
Purchase through SAFS. SAFS will effect a purchase order on behalf of a
customer who has an investment account upon confirmation of a verified credit
balance at least equal to the amount of the purchase order (subject to the
minimum $500 investment requirement for wire orders). If such order is received
at or prior to the Fund's close of business, the purchase of shares of a Fund
will be
B-58
<PAGE>
effected on that day. If the order is received after the Fund's close
of business, the order will be effected on the next business day.
Purchase by Federal Funds Wire. An investor may make purchases by having his or
her bank wire Federal funds to the Trust's Transfer Agent. Federal funds
purchase orders will be accepted only on a day on which the Trust and the
Transfer Agent are open for business. In order to insure prompt receipt of a
Federal funds wire, it is important that these steps be followed:
1. You must have an existing SunAmerica Fund Account before wiring
funds. To establish an account, complete the New Account
Application and send it via facsimile to SunAmerica Fund
Services, Inc. at: (212) 551-5585.
2. Call SunAmerica Fund Services' Shareholder/Dealer Services, toll
free at (800) 858-8850, extension 5125 to obtain your new account
number.
3. Instruct the bank to wire the specified amount to the Transfer
Agent: State Street Bank and Trust Company, Boston, MA, ABA#
0110-00028; DDA# 99029712, SunAmerica [name of Fund, Class __]
(include shareholder name and account number).
Waiver of Sales Charges with Respect to Certain Purchases of Class A Shares. To
the extent that sales are made for personal investment purposes, the sales
charge is waived as to Class A shares purchased by current or retired officers,
directors, and other full-time employees of the Adviser and its affiliates, as
well as members of the selling group and family members of the foregoing. In
addition, the sales charge is waived with respect to shares purchased by certain
qualified retirement plans or employee benefit plans (other than IRAs), which
are sponsored or administered by the Adviser or an affiliate thereof. Such
plans may include certain employee benefit plans qualified under Sections 401 or
457 of the Code, or employee benefit plans created pursuant to Section 403(b) of
the Code and sponsored by nonprofit organizations defined under Section
501(c)(3) of the Code (collectively, the "Plans"). A Plan will qualify for
purchases at net asset value provided that (a) the initial amount invested in
one or more of the Portfolios (or in combination with the shares of other
SunAmerica Mutual Funds) is at least $750,000, (b) the sponsor signs a $750,000
Letter of Intent, (c) such shares are purchased by an employer-sponsored plan
with at least 75 eligible employees, or (d) the purchases are by trustees or
other fiduciaries for certain employer-sponsored plans, the trustee, fiduciary
or administrator has an agreement with the Distributor with respect to such
purchases, and all such transactions for the plan are executed through a single
omnibus account. Further, the sales charge is waived with respect to shares
purchased by "wrap accounts" for the benefit of clients of broker-dealers,
financial institutions or financial planners or registered investment advisers
adhering to the following standards established by the Distributor: (i) the
broker-dealer, financial institution or financial planner charges its client(s)
an advisory fee based on the assets under management on an annual basis, and
(ii) such broker-dealer, financial institution or financial planner does not
advertise that shares of the Funds may be purchased by clients at net asset
value. Shares purchased under this waiver may not be resold except to the Fund.
Shares are offered at net asset value to the foregoing persons because of
anticipated economies in sales effort and sales
B-59
<PAGE>
related expenses. Reductions in sales charges apply to purchases or shares by a
"single person" including an individual; members of a family unit comprising
husband, wife and minor children; or a trustee or other fiduciary purchasing for
a single fiduciary account. Complete details concerning how an investor may
purchase shares at reduced sales charges may be obtained by contacting the
Distributor.
Reduced Sales Charges (Class A Shares only). As discussed under "Shareholder
Account Information" in the Prospectus, investors in Class A shares of a Fund
may be entitled to reduced sales charges pursuant to the following special
purchase plans made available by the Trust.
Combined Purchase Privilege. The following persons may qualify for the sales
---------------------------
charge reductions or eliminations by combining purchases of Fund shares into a
single transaction:
(i) an individual, or a "company" as defined in Section 2(a)(8) of the
1940 Act (which includes corporations which are corporate affiliates of
each other);
(ii) an individual, his or her spouse and their minor children,
purchasing for his, her or their own account;
(iii) a trustee or other fiduciary purchasing for a single trust
estate or single fiduciary account (including a pension, profit-sharing, or
other employee benefit trust created pursuant to a plan qualified under
Section 401 of the Code);
(iv) tax-exempt organizations qualifying under Section 501(c)(3) of
the Code (not including 403(b) plans);
(v) employee benefit plans of a single employer or of affiliated
employers, other than 403(b) plans; and
(vi) group purchases as described below.
A combined purchase currently may also include shares of other funds in
SunAmerica Mutual Funds (other than money market funds) purchased at the same
time through a single investment dealer, if the dealer places the order for such
shares directly with the Distributor.
Rights of Accumulation. A purchaser of Fund shares may qualify for a reduced
-----------------------
sales charge by combining a current purchase (or combined purchases as described
above) with shares previously purchased and still owned; provided the cumulative
value of such shares (valued at cost or current net asset value, whichever is
higher), amounts to $50,000 or more. In determining the shares previously
purchased, the calculation will include, in addition to other Class A shares of
the particular Fund that were previously purchased, shares of the other classes
of the same Fund, as well as shares of any class of any other Fund or of any of
the other Funds advised by the Adviser, as long as such shares were sold with a
sales charge or acquired in exchange for shares purchased with such a sales
charge.
B-60
<PAGE>
The shareholder's dealer, if any, or the shareholder, must notify the
Distributor at the time an order is placed of the applicability of the reduced
charge under the Right of Accumulation. Such notification must be in writing by
the dealer or shareholder when such an order is placed by mail. The reduced
sales charge will not be granted if: (a) such information is not furnished at
the time of the order; or (b) a review of the Distributor's or the Transfer
Agent's records fails to confirm the investor's represented holdings.
Letter of Intent. A reduction of sales charges is also available to an investor
----------------
who, pursuant to a written Letter of Intent which is set forth in the New
Account Application, establishes a total investment goal in Class A shares of
one or more Funds to be achieved through any number of investments over a
thirteen-month period, of $50,000 or more. Each investment in such Funds made
during the period will be subject to a reduced sales charge applicable to the
goal amount. The initial purchase must be at least 5% of the stated investment
goal and shares totaling 5% of the dollar amount of the Letter of Intent will be
held in escrow by the Transfer Agent, in the name of the investor. Shares of
any class of shares of any Fund, or of other funds advised by the Adviser which
impose a sales charge at the time of purchase, which the investor intends to
purchase or has previously purchased during a 30-day period prior to the date of
execution of the Letter of Intent and still owns, may also be included in
determining the applicable reduction; provided, the dealer or shareholder
notifies the Distributor of such prior purchase(s).
The Letter of Intent does not obligate the investor to purchase, nor the
Trust to sell, the indicated amounts of the investment goal. In the event the
investment goal is not achieved within the thirteen-month period, the investor
is required to pay the difference between the sales charge otherwise applicable
to the purchases made during this period and sales charges actually paid. Such
payment may be made directly to the Distributor or, if not paid, the Distributor
is authorized by the Letter of Intent to liquidate a sufficient number of
escrowed shares to obtain such difference. If the goal is exceeded and
purchases pass the next sales charge break-point, the sales charge on the entire
amount of the purchase that results in passing that break-point, and on
subsequent purchases, will be subject to a further reduced sales charge in the
same manner as set forth above under "Rights of Accumulation," but there will be
no retroactive reduction of sales charges on previous purchases. At any time
while a Letter of Intent is in effect, a shareholder may, by written notice to
the Distributor, increase the amount of the stated goal. In that event, shares
of the applicable Funds purchased during the previous 90-day period and still
owned by the shareholder will be included in determining the applicable sales
charge. The 5% escrow and the minimum purchase requirement will be applicable
to the new stated goal. Investors electing to purchase shares of one or more of
the Funds pursuant to this purchase plan should carefully read such Letter of
Intent. Investors electing to purchase shares of one or more of the Funds
pursuant to this purchase plan should carefully read such Letter of Intent.
Reduced Sales Charge for Group Purchases. Members of qualified groups may
----------------------------------------
purchase Class A shares of the Funds under the combined purchase privilege as
described above.
To receive a rate based on combined purchases, group members must purchase
Class A shares of a Fund through a single investment dealer designated by the
group. The designated dealer
B-61
<PAGE>
must transmit each member's initial purchase to the Distributor, together with
payment and completed New Account Application. After the initial purchase, a
member may send funds for the purchase of Class A shares directly to the
Transfer Agent. Purchases of a Fund's shares are made at the public offering
price based on the net asset value next determined after the Distributor or the
Transfer Agent receives payment for the Class A shares. The minimum investment
requirements described above apply to purchases by any group member. Class B or
Class II shares are not included in calculating the purchased amount of a Fund's
shares.
Qualified groups include the employees of a corporation or a sole
proprietorship, members and employees of a partnership or association, or other
organized groups of persons (the members of which may include other qualified
groups) provided that: (i) the group has at least 25 members of which at least
-------- ----
ten members participate in the initial purchase; (ii) the group has been in
existence for at least six months; (iii) the group has some purpose in addition
to the purchase of investment company shares at a reduced sales charge; (iv) the
group's sole organizational nexus or connection is not that the members are
credit card customers of a bank or broker-dealer, clients of an investment
adviser or security holders of a company; (v) the group agrees to provide its
designated investment dealer access to the group's membership by means of
written communication or direct presentation to the membership at a meeting on
not less frequently than on an annual basis; (vi) the group or its investment
dealer will provide annual certification, in form satisfactory to the Transfer
Agent, that the group then has at least 25 members and that at least ten members
participated in group purchases during the immediately preceding 12 calendar
months; and (vii) the group or its investment dealer will provide periodic
certification, in form satisfactory to the Transfer Agent, as to the eligibility
of the purchasing members of the group.
Members of a qualified group include: (i) any group which meets the
requirements stated above and which is a constituent member of a qualified
group; (ii) any individual purchasing for his or her own account who is carried
on the records of the group or on the records of any constituent member of the
group as being a good standing employee, partner, member or person of like
status of the group or constituent member; or (iii) any fiduciary purchasing
shares for the account of a member of a qualified group or a member's
beneficiary. For example, a qualified group could consist of a trade
association which would have as its members individuals, sole proprietors,
partnerships and corporations. The members of the group would then consist of
the individuals, the sole proprietors and their employees, the members of the
partnership and their employees, and the corporations and their employees, as
well as the trustees of employee benefit trusts acquiring a Fund's shares for
the benefit of any of the foregoing.
Interested groups should contact their investment dealer or the
Distributor. The Trust reserves the right to revise the terms of or to suspend
or discontinue group sales with respect to shares of the Funds at any time.
Net Asset Value Transfer Program. Investors may purchase shares of a Fund
--------------------------------
at net asset value to the extent that the investment represents the proceeds
from a redemption of a non-SunAmerica mutual fund in which the investor either
(a) paid a front-end sales load or (b) was subject to, or paid a CDSC on the
redemption proceeds. With respect to sales of Class A shares
B-62
<PAGE>
through the program, the Distributor will pay a 0.50% commission and 0.25%
service fee to any dealer who initiates or is responsible for such an
investment. With respect to sales of Class B shares through the program, they
will receive 0.50% of the amount invested as commission and 0.25% as a service
fee, payable beginning the 13th month following the purchase of such shares.
(Class B shares will convert to Class A shares as provided in the prospectus.).
These payments are subject, however, to forfeiture in the event of a redemption
during the first year from the date of purchase. No commission shall be paid on
sales of Class II shares, but dealers will receive a 1% service fee, commencing
immediately and paid quarterly. In addition, it is essential that an NAV
Transfer Program Form accompany the New Account Application to indicate that the
investment is intended to participate in the Net Asset Value Transfer Program
(formerly, Exchange Program for Investment Company Shares). This program may be
revised or terminated without notice by the Distributor. For current
information, contact Shareholder/Dealer Services at (800) 858-8850, extension
5125.
ADDITIONAL INFORMATION REGARDING REDEMPTION OF SHARES
Reference is made to "Shareholder Account Information" in the Prospectus
for certain information as to the redemption of Fund shares.
If the Trustees determine that it would be detrimental to the best
interests of the remaining shareholders of a Fund to make payment wholly or
partly in cash, the Trust, having filed with the SEC a notification of election
pursuant to Rule 18f-1 on behalf of each of the Funds, may pay the redemption
price in whole or in part, by a distribution in kind of securities from a Fund
in lieu of cash. In conformity with applicable rules of the SEC, the Funds are
committed to pay in cash all requests for redemption, by any shareholder of
record, limited in amount with respect to each shareholder during any 90-day
period to the lesser of (i) $250,000, or (ii) 1% of the net asset value of the
applicable Fund at the beginning of such period. If shares are redeemed in
kind, the redeeming shareholder would incur brokerage costs in converting the
assets into cash. The method of valuing portfolio securities is described below
in the section entitled "Determination of Net Asset Value," and such valuation
will be made as of the same time the redemption price is determined.
EXCHANGE PRIVILEGE
Shareholders in any of the Funds may exchange their shares for the same
class of shares of any other Fund or other SunAmerica Mutual Funds that offer
such class at the respective net asset value per share. Before making an
exchange, a shareholder should obtain and review the prospectus of the fund
whose shares are being acquired. All exchanges are subject to applicable
minimum initial or subsequent investment requirements. Notwithstanding the
foregoing, shareholders may elect to make periodic exchanges on a monthly,
quarterly, semi-annual and annual basis through the Systematic Exchange Program.
Through this program, the minimum exchange amount is $25 and there is no fee for
exchanges made. All exchanges can be effected only if the shares to be acquired
are qualified for sale in the state in which the shareholder resides. Exchanges
of shares generally will constitute a taxable transaction except for IRAs, Keogh
Plans and other qualified or tax-exempt accounts. The exchange privilege may be
terminated or modified upon 60 days' written notice. Further information about
the exchange privilege may be obtained by calling Shareholder/Dealer Services at
(800) 858-8850, extension 5125.
B-63
<PAGE>
If a shareholder acquires Class A shares through an exchange from another
SunAmerica Mutual Fund where the original purchase of such fund's Class A shares
was not subject to an initial sales charge because the purchase was in excess of
$1 million, such shareholder will remain subject to the CDSC, if any as
described in the Prospectus, applicable to such redemptions. In such event, the
period for which the original shares were held prior to the exchange will be
"tacked" with the holding period of the shares acquired in the exchange for
purposes of determining whether the CDSC is applicable upon a redemption of any
of such shares.
A shareholder who acquires Class B or Class II shares through an exchange
from another SunAmerica Mutual Fund will retain liability for any deferred sales
charge outstanding on the date of the exchange. In such event, the period for
which the original shares were held prior to the exchange will be "tacked" with
the holding period of the shares acquired in the exchange for purposes of
determining what, if any, CDSC is applicable upon a redemption of any of such
shares and the timing of conversion of Class B shares to Class A.
Because excessive trading (including short-term "marketing timing" trading)
can hurt a Fund's performance, each Fund may refuse any exchange sell order (1)
if it appears to be a market timing transaction involving a significant portion
of a Fund's assets of (2) from any shareholder account if previous use of the
exchange privilege is considered excessive. Accounts under common ownership or
control, including, but not limited to, those with the same taxpayer
identification number and those administered so as to redeem or purchase shares
based upon certain predetermined market indications, will be considered one
account for this purpose.
In addition, a Fund reserves the right to refuse any exchange purchase
order if, in the judgment of the Adviser, the Fund would be unable to invest
effectively in accordance with its investment objective and policies, or would
otherwise potentially be adversely affected. A shareholder's purchase exchange
may be restricted or refused if the Fund receives or anticipates simultaneous
orders affecting significant portions of the Fund's assets. In particular, a
pattern of exchanges that coincide with a "market timing" strategy may be
disruptive to the Fund and may therefore be refused.
DETERMINATION OF NET ASSET VALUE
The Trust is open for business on any day the NYSE is open for regular
trading. Shares are valued each day as of the close of regular trading on the
NYSE (generally, 4:00 P.M., Eastern time). There are times and days in which
the NYSE is closed while the bond markets are open, and vice versa. Thus, there
may be times where the Trust's shares are valued while the bond markets are open
for trading. Each Fund calculates the net asset value of its shares separately
by dividing the total value of each class's net assets by the shares outstanding
of such class. Investments for which market quotations are readily available
are valued at their price as of the close of regular trading on the New York
Stock Exchange for the day. All other securities and assets are valued at fair
value following procedures approved by the Trustees.
Stocks are stated at value based upon closing sales prices reported on
recognized securities exchanges or, for listed securities having no sales
reported and for unlisted securities, upon last reported bid prices. Non-
convertible bonds, debentures, other long-term debt securities and short-term
securities with original or remaining maturities in excess of 60 days, are
normally valued at
B-64
<PAGE>
prices obtained for the day of valuation from a bond pricing service of a major
dealer in bonds, when such prices are available; however, in circumstances in
which the Manager deems it appropriate to do so, an over-the-counter or exchange
quotation at the mean of representative bid or asked prices may be used.
Securities traded primarily on securities exchanges outside the United States
are valued at the last sale price on such exchanges on the day of valuation, or
if there is no sale on the day of valuation, at the last-reported bid price. If
a security's price is available from more than one foreign exchange, a Fund uses
the exchange that is the primary market for the security. Short-term securities
with 60 days or less to maturity are amortized to maturity based on their cost
to the Trust if acquired within 60 days of maturity or, if already held by the
Trust on the 60th day, are amortized to maturity based on the value determined
on the 61st day. Options traded on national securities exchanges are valued as
of the close of the exchange on which they are traded. Futures and options
traded on commodities exchanges are valued at their last sale price as of the
close of such exchange. Other securities are valued on the basis of last sale or
bid price (if a last sale price is not available) in what is, in the opinion of
the Adviser, the broadest and most representative market, that may be either a
securities exchange or the over-the-counter market. Where quotations are not
readily available, securities are valued at fair value as determined in good
faith in accordance with procedures adopted by the Board of Trustees. The fair
value of all other assets is added to the value of securities to arrive at the
respective Fund's total assets.
A Fund's liabilities, including proper accruals of expense items, are
deducted from total assets.
PERFORMANCE DATA
Each Fund may advertise performance data that reflects various measures of
total return and yield. An explanation of the data presented and the methods of
computation that will be used are as follows.
A Fund's performance may be compared to the historical returns of various
investments, performance indices of those investments or economic indicators,
including, but not limited to, stocks, bonds, certificates of deposit, money
market funds and U.S. Treasury Bills. Certain of these alternative investments
may offer fixed rates of return and guaranteed principal and may be insured.
Average annual total return is determined separately for Class A, Class B
and Class II shares in accordance with a formula specified by the SEC. Average
annual total return is computed by finding the average annual compounded rates
of return for the 1-, 5- and 10-year periods or for the lesser included periods
of effectiveness. The formula used is as follows:
P(1 + T)/n/ = ERV
P = a hypothetical initial purchase payment of $1,000
T = average annual total return
n = number of years
B-65
<PAGE>
ERV = ending redeemable value of a hypothetical $1,000 payment
made at the beginning of the 1-, 5-, or 10- year periods at
the end of the 1-, 5-, or 10-year periods (or fractional
portion thereof).
The above formula assumes that:
a. The maximum sales load (i.e., either the front-end sales load in
----
the case of the Class A shares or the deferred sales load that
would be applicable to a complete redemption of the investment at
the end of the specified period in the case of the Class B and
Class II shares) is deducted from the initial $1,000 purchase
payment;
b. All dividends and distributions are reinvested at net asset
value; and
c. Complete redemption occurs at the end of the 1-, 5-, or 10- year
periods or fractional portion thereof with all nonrecurring
charges deducted accordingly.
The Funds' average annual total return for the 1-, 5- and 10-year periods (or
from date of inception, if sooner) ended March 31, 2000, are as follows:
<TABLE>
<CAPTION>
Class A Shares Since Inception 1 Year 5 Years 10 Years
-------------- --------------- ------ ------- --------
<S> <C> <C> <C> <C>
----------------------------------------------------------------------------------------------------
U.S. Government Securities Fund /1/ 4.11% - 3.90% 4.72% N/A
----------------------------------------------------------------------------------------------------
GNMA Fund /1/ 5.39% - 2.47% 6.34% N/A
----------------------------------------------------------------------------------------------------
Diversified Income Fund /2/ 4.20% 4.29% 6.92% N/A
----------------------------------------------------------------------------------------------------
High Income Fund /3/ 7.34% - 2.81% 6.18% 9.32%
----------------------------------------------------------------------------------------------------
Tax Exempt Insured Fund /4/ 5.79% - 5.89% 3.96% 4.94%
----------------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
Class B Shares Since Inception 1 Year 5 Years 10 Years
-------------- --------------- ------ ------- --------
<S> <C> <C> <C> <C>
----------------------------------------------------------------------------------------------------
U.S. Government Securities Fund /5/ 5.66% - 3.77% 4.71% 5.39%
----------------------------------------------------------------------------------------------------
GNMA Fund /6/ 7.70% - 2.45% 6.36% 6.71%
----------------------------------------------------------------------------------------------------
Diversified Income Fund /7/ 4.87% 4.79% 7.01% N/A
----------------------------------------------------------------------------------------------------
High Income Fund /1/ 4.82% - 2.75% 6.22% N/A
----------------------------------------------------------------------------------------------------
Tax Exempt Insured Fund /8/ 3.46% - 5.83% 3.94% N/A
----------------------------------------------------------------------------------------------------
</TABLE>
B-66
<PAGE>
<TABLE>
<CAPTION>
Class II Shares Since Inception 1 Year 5 Years 10 Years
--------------- --------------- ------ ------- --------
<S> <C> <C> <C> <C>
----------------------------------------------------------------------------------------------------
U.S. Government Securities Fund N/A N/A N/A N/A
----------------------------------------------------------------------------------------------------
GNMA Fund N/A N/A N/A N/A
----------------------------------------------------------------------------------------------------
Diversified Income Fund N/A N/A N/A N/A
----------------------------------------------------------------------------------------------------
High Income Fund /11/ -1.96% - 0.73% N/A N/A
----------------------------------------------------------------------------------------------------
Tax Exempt Insured Fund N/A N/A N/A N/A
----------------------------------------------------------------------------------------------------
</TABLE>
---------------------
/1/ From date of inception of October 11, 1993.
/2/ From date of inception of October 5, 1993.
/3/ From date of inception of September 19, 1986.
/4/ From date of inception of November 22, 1985.
/5/ From date of inception of March 3, 1986.
/6/ From date of inception of April 25, 1983.
/7/ From date of inception of April 6, 1991.
/8/ From date of inception of October 4, 1993.
/9/ Previously designated as Class C shares.
/10/ From date of inception June 1, 1999.
/11/ From date of inception of February 2, 1998.
Each Fund may advertise cumulative, rather than total average return, for
each class of its shares for periods of time other than the 1-, 5- and 10-year
periods or fractions thereof, as discussed above. Such return data will be
computed in the same manner as that of average annual total return, except that
the actual cumulative return will be computed.
Each Fund may also advertise performance data that reflects yield. Yield
is determined separately for Class A, Class B and Class II shares in accordance
with a standardized formula prescribed by the SEC and is not indicative of the
amounts which were or will be paid to shareholders. The current yield quoted in
a Fund's advertisements is computed by dividing the net investment income per
share earned during the 30-day period by the maximum offering price per share on
the last day of the period. The following formula illustrates the computation:
Yield = 2 [{A - B + 1}/6/ - 1 ]
-----
CD
A = dividends and interest earned during the period
B = expenses accrued for the period (net of reimbursements)
C = the average daily number of shares outstanding during the period that
were entitled to receive dividends
D = the maximum offering price per share on the last day of the period
B-67
<PAGE>
The yields for the one month periods ended March 31, 2000, 1999, and 1998
are as follows:
<TABLE>
<CAPTION>
Fund March 31, 2000 March 31, 1999 March 31, 1998
----------------------------------------------------------------------------------------------------------------------------
Class A Class B Class II Class A Class B Class II Class A Class B Class II*
----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
U.S. 5.13% 4.75% 4.56% 4.67% 4.29% -- 4.94% 4.57% N/A
Government
Securities Fund
----------------------------------------------------------------------------------------------------------------------------
GNMA Fund 4.87% 4.49% 4.33% 4.78% 4.38% -- 4.67% 4.25% N/A
----------------------------------------------------------------------------------------------------------------------------
Diversified 8.95% 8.72% 8.63% 10.11% 9.92% -- 8.48% 8.31% N/A
Income Fund
----------------------------------------------------------------------------------------------------------------------------
High Income 10.34% 10.22% 10.15% 9.39% 9.21% 9.11% 8.83% 8.69% 8.70%
Fund
----------------------------------------------------------------------------------------------------------------------------
Tax Exempt 4.24% 3.84% 3.72% 3.76% 3.31% -- 4.00% 3.53% N/A
Insured Fund
----------------------------------------------------------------------------------------------------------------------------
</TABLE>
*Previously designated as Class C shares for High Income Fund.
Current yield is not indicative of the amount which was or will be paid to
the shareholders. The amount paid to shareholders is reflected in the quoted
current distribution rate. The current distribution rate is computed by
annualizing the total amount of dividends per share paid by each Fund during the
past month and dividing by the current maximum offering price. Under some
circumstances it may be appropriate to use the dividends paid over the past
year. The current distribution rate differs from current yield in that it
includes amounts distributed to shareholders from sources other than dividends
and interest, such as short-term capital gains or option writing premiums and is
calculated over a different period of time. Such rates will be accompanied in
advertisements by standardized yield calculations as promulgated by the SEC.
Comparisons
-----------
Each Fund may compare its total return or yield to similar measures as
calculated by various publications, services, indices, or averages. Such
comparisons are made to assist in evaluating an investment in a Fund. The
following references may be used:
a) Dow Jones Composite Average or its component averages -- an unmanaged index
composed of 30 blue-chip industrial corporation stocks (Dow Jones
Industrial Average), 15 utilities company stocks (Dow Jones Utilities
Average) and 20 transportation company stocks (Dow Jones Transportation
Average). Comparisons of performance assume reinvestment of dividends.
b) Standard & Poor's 500 Composite Stock Price Index or its component indices
-- an unmanaged index composed of 400 industrial stocks, 40 financial
stocks, 40 utilities stocks and 20 transportation stocks. Comparisons of
performance assume reinvestment of dividends.
B-68
<PAGE>
c) Standard & Poor's 100 Stock Index -- an unmanaged index based on the prices
of 100 blue chip stocks, including 92 industrials, one utility, two
transportation companies and five financial institutions. The Standard &
Poor's 100 Stock Index is a smaller, more flexible index for options
trading.
d) The NYSE composite or component indices -- unmanaged indices of all
industrial, utilities, transportation and finance stocks listed on the
NYSE.
e) Wilshire 5000 Equity Index or its component indices -- represents the
return on the market value of all common equity securities for which daily
pricing is available. Comparisons of performance assume reinvestment of
dividends.
f) Russell 3000 and 2000 Indices -- represents the top 3,000 and the top 2,000
stocks, respectively, traded on the New York Stock Exchange, American Stock
Exchange and National Association of Securities Dealers Automated
Quotations, by market capitalizations.
g) Lipper: Mutual Fund Performance Analysis, Fixed Income Analysis and Mutual
Fund Indices -- measures total return and average current yield for the
mutual fund industry. Ranks individual mutual fund performance over
specified time periods assuming reinvestment of all distributions,
exclusive of sales charges.
h) CDA Mutual Fund Report, published by CDA Investment Technologies, Inc.,
analyzes price, current yield, risk, total return and average rate of
return (average annual compounded growth rate) over specified time periods
for the mutual fund industry.
i) Mutual Fund Source Book, published by Morningstar, Inc. -- analyzes price,
risk and total return for the mutual fund industry.
j) Financial publications: The Wall Street Journal, Business Week, Changing
Times, Financial World, Forbes, Fortune, Money, Pension and Investment Age,
United Mutual Fund Selector, and Wiesenberger Investment Companies Service
and other publications containing financial analyses which rate mutual fund
performance over specified time periods.
k) Consumer Price Index (or Cost of Living Index), published by the U.S.
Bureau of Labor Statistics -- a statistical measure of periodic change in
the price of goods and services in major expenditure groups.
l) Stocks, Bonds, Bills, and Inflation, published by Ibbotson Associates --
historical measure of yield, price, and total return for common and small
company stock, long-term government bonds, treasury bills and inflation.
m) Savings and Loan Historical Interest Rates as published in the U.S. Savings
& Loan League Fact Book.
B-69
<PAGE>
n) Shearson-Lehman Municipal Bond Index and Government/Corporate Bond Index --
unmanaged indices that track a basket of intermediate and long-term bonds.
Reflect total return and yield and assume dividend reinvestment.
o) Salomon GNMA Index published by Salomon Brothers Inc. -- Market value of
all outstanding 30-year GNMA Mortgage Pass-Through Securities that includes
single family and graduated payment mortgages.
p) Salomon Mortgage Pass-Through Index published by Salomon Brothers Inc. --
Market value of all outstanding agency mortgage pass-through securities
that includes 15- and 30-year FNMA, FHLMC and GNMA Securities.
q) Value Line Geometric Index -- broad based index made up of approximately
1700 stocks each of which have an equal weighting.
r) Morgan Stanley Capital International EAFE Index -- an arithmetic, market
value-weighted average of the performance of over 900 securities on the
stock exchanges of countries in Europe, Australia and the Far East.
s) Goldman Sachs 100 Convertible Bond Index -- currently includes 67 bonds and
33 preferred stocks. The original list of names was generated by screening
for convertible issues of $100 million or more in market capitalization.
The index is priced monthly.
t) 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.
u) Salomon Brothers Broad Investment Grade Bond Index -- is a market-weighted
index that contains approximately 4700 individually priced investment grade
corporate bonds rated "BBB" or better, U.S. Treasury/agency issues and
mortgage pass-through securities.
v) Salomon Brothers World Bond Index -- measures the total return performance
of high-quality securities in major sectors of the international bond
market. The index covers approximately 600 bonds from 10 currencies:
Australian Dollars Netherlands Guilders
Canadian Dollars Swiss Francs
European Currency Units UK Pound Sterling
French Francs U.S. Dollars
Japanese Yen German Deutsche Marks
w) J.P. Morgan Global Government Bond Index -- a total return, market
capitalization-weighted index, rebalanced monthly, consisting of the
following countries: Australia, Belgium, Canada, Denmark, France, Germany,
Italy, Japan, The Netherlands, Spain, Sweden, the United Kingdom and the
United States.
B-70
<PAGE>
x) Shearson Lehman LONG-TERM Treasury Bond Index -- is comprised of all bonds
covered by the Shearson Lehman Hutton Treasury Bond Index with maturities
of 10 years or greater.
y) NASDAQ Industrial Index -- is comprised of more than 3,000 industrial
issues. It is a value-weighted index calculated on pure change only and
does not include income.
z) The MSCI Combined Far East Free ex Japan Index -- a market capitalization
weighted index comprised of stocks in Hong Kong, Indonesia, Korea,
Malaysia, Philippines, Singapore and Thailand. Korea is included in this
index at 20% of its market capitalization.
aa) First Boston High Yield Index -- generally includes over 180 issues with an
average maturity range of seven to ten years with a minimum capitalization
of $100 million. All issues are individually trader-priced monthly.
bb) Merrill Lynch High Yield Bond Master Index -- generally includes over 500
issues rated "BB+" to "CCC-" with an aggregate par value of approximately
$100 billion.
cc) Morgan Stanley Capital International World Index -- An arithmetic, market
value-weighted average of the performance of over 1,470 securities list on
the stock exchanges of countries in Europe, Australia, the Far East, Canada
and the United States.
In assessing such comparisons of performance, an investor should keep in
mind that the composition of the investments in the reported indices and
averages is not identical to a Fund's portfolio, that the averages are generally
unmanaged and that the items included in the calculations of such averages may
not be identical to the formula used by a Fund to calculate its figures. In
addition, there can be no assurance that a Fund will continue its performance as
compared to such other standards.
DIVIDENDS, DISTRIBUTIONS AND TAXES
Dividends and Distributions. Each Fund intends to distribute to the registered
holders of its shares substantially all of its net investment income, which
includes dividends, interest and net short-term capital gains, if any, in excess
of any net capital losses. Each Fund intends to distribute any net long-term
capital gains in excess of any net short-term capital losses from the sale of
assets held more than twelve months. Dividends from net investment income are
declared daily and paid monthly. Dividends are paid on or about the fifteenth
day of the month. Net capital gains, if any, will be paid annually. In
determining amounts of capital gains to be distributed, any capital loss carry-
forwards from prior years will be offset against capital gains.
Distributions will be paid in additional Fund shares based on the net asset
value at the close of business on the record date, unless the dividends total in
excess of $10 per distribution period and the shareholder notifies the Fund at
least five business days prior to the payment date to receive such distributions
in cash.
B-71
<PAGE>
Taxes. Each Fund is qualified, intends to remain qualified and elects to be
treated as a regulated investment company under Subchapter M of the Code for
each taxable year. In order to remain qualified as a regulated investment
company, each Fund generally must, among other things: (a) derive at least 90%
of its gross income from dividends, interest, proceeds from loans of stock or
securities and certain other related income; (b) diversify its holdings so that,
at the end of each fiscal quarter, (i) 50% of the market value of each Fund's
assets is represented by cash, government securities, securities of other
regulated investment companies and other securities limited, in respect of any
one issuer, to an amount no greater than 5% of each Fund's assets and not
greater than 10% of the outstanding voting securities of such issuer, and (ii)
not more than 25% of the value of its assets is invested in the securities of
any one issuer (other thanU.S. Government Securities or the securities of other
regulated investment companies).
As a regulated investment company, each Fund will not be subject to U.S.
Federal income tax on its income and capital gains which it distributes as
dividends or capital gains distributions to shareholders provided that it
distributes to shareholders at least equal to the sum of 90% of its investment
company taxable income and 90% of its net tax-exempt interest income for the
taxable year. Each Fund intends to distribute sufficient income to meet this
qualification requirement.
Under the Code, amounts not distributed on a timely basis in accordance
with a calendar year distribution requirement are subject to a nondeductible 4%
excise tax. To avoid the tax, each Fund must distribute during each calendar
year (1) at least 98% of its ordinary income (not taking into account any
capital gains or losses) for the calendar year, (2) at least 98% of its net
capital gains, i.e., capital gains in excess of its capital losses for the 12-
month period ending on October 31 of the calendar year, and (3) all ordinary
income and net capital gains for the previous years that were not distributed
during such years. To avoid application of the excise tax, each Fund intends to
make distributions in accordance with the calendar year distribution
requirement. A distribution will be treated as paid during the calendar year if
it actually is paid during calendar year or if declared by each Fund in October,
November or December of such year, payable to shareholders of record on a date
in such month and paid by each Fund during January of the following year. Any
such distributions paid during January of the following year will be taxable to
shareholders as of December 31, rather than the date on which the distributions
are received.
Distributions of net investment income and short-term capital gains
("ordinary income dividends") are taxable to the shareholder as ordinary
dividend income regardless of whether the shareholder receives such
distributions in additional shares or in cash. The portion of such dividends
received from each Fund that will be eligible for the dividends received
deduction for corporations will be determined on the basis of the amount of each
Fund's gross income, exclusive of capital gains from sales of stock or
securities, which is derived as dividends from domestic corporations, other than
certain tax-exempt corporations and certain real estate investment trusts, and
will be designated as such in a written notice to shareholders mailed not later
than 60 days after the end of each fiscal year. Because each of the Funds will
invest principally in debt securities, it is not anticipated that a significant
portion of dividends paid by any Fund will qualify for the dividends received
deduction. Distributions of net capital gains, if any, are taxable as capital
gains regardless of whether the shareholder receives such distributions in
additional shares or in cash or how long the investor has held his or her shares
and are not eligible for the dividends received deduction for corporations. The
B-72
<PAGE>
maximum capital gains rate for individuals is 20%. The maximum capital gains
rate for corporate shareholders currently is the same as the maximum tax rate
for ordinary income. At March 31, 2000, U.S. Government Securities Fund, GNMA
Fund, Diversified Income Fund, High Income Fund, and Tax Exempt Insured Fund had
capital loss carry-forwards of $28,752,971; $766,687; $29,533,536; $34,344,180;
and $2,332,376, respectively, which are available to the extent not utilized to
offset future gains from 2003 through 2008. The utilization of such losses will
be subject to limitations under the Code and the regulations thereunder.
Upon a sale or exchange of its shares, a shareholder may realize a taxable
gain or loss depending upon its basis in the shares. Such gain or loss will be
treated as capital gain or loss if the shares are capital assets in the
shareholder's hands. Any such capital gain or loss will be treated as long-term
capital gain or loss if the shares were held for more than one year. The amount
of any CDSC will reduce the amount realized on the sale or exchange of shares
for purposes of determining gain or loss. Generally, any loss realized on a
sale or exchange will be disallowed to the extent the shares disposed of are
replaced (by dividend reinvestments or otherwise) within a period of 61 days
beginning 30 days before and ending 30 days after the shares are disposed of.
Any loss realized by a shareholder on the sale of shares of a Fund held by the
shareholder for six months or less will be treated for tax purposes as a long-
term capital loss to the extent of any distributions of net capital gains
received by the shareholder with respect to such shares.
Under certain circumstances (such as the exercise of an exchange privilege
in certain cases), the tax effect of sales load charges imposed on the purchase
of shares in a regulated investment company is deferred if the shareholder does
not hold the shares for at least 90 days.
Income received by a Fund from sources within foreign countries may be
subject to withholding and other taxes imposed by such countries. Income tax
treaties between certain countries and the United States may reduce or eliminate
such taxes. It is impossible to determine in advance the effective rate of
foreign tax to which a Fund will be subject, since the amount of that Fund's
assets to be invested in various countries is not known. It is not anticipated
that any Fund will qualify to pass through to its shareholders the ability to
claim as a foreign tax credit their respective shares of foreign taxes paid by
such Fund.
Under the Code, gains or losses attributable to fluctuations in exchange
rates which occur between the time a Fund accrues interest or other receivables
or accrues expenses or other liabilities denominated in a foreign currency and
the time such Fund actually collects such receivables or pays such liabilities
are treated as ordinary income or ordinary loss. Similarly, gains or losses on
forward foreign currency exchange contracts, sales of currencies or dispositions
of debt securities denominated in a foreign currency attributable to
fluctuations in the value of the foreign currency between the date of
acquisition of the security and the date of disposition generally also are
treated as ordinary gain or loss. These gains, referred to under the Code as
"Section 988" gains or losses, increase or decrease the amount of each Fund's
investment company taxable income available to be distributed to its
shareholders as ordinary income.
The Code includes special rules applicable to the listed non-equity
options, regulated futures contracts, and options on futures contracts which a
Fund may write, purchase or sell. Such options
B-73
<PAGE>
and contracts are classified as Section 1256 contracts under the Code. The
character of gain or loss resulting from the sale, disposition, closing out,
expiration or other termination of Section 1256 contracts, except forward
foreign currency exchange contracts, is generally treated as long-term capital
gain or loss to the extent of 60% thereof and short-term capital gain or loss to
the extent of 40% thereof ("60/40 gain or loss"). Such contracts, when held by a
Fund at the end of a fiscal year, generally are required to be treated as sold
at market value on the last day of such fiscal year for Federal income tax
purposes ("marked-to-market"). Over-the-counter options are not classified as
Section 1256 contracts and are not subject to the marked-to-market rule or to
60/40 gain or loss treatment. Any gains or losses recognized by a Fund from
transactions in over-the-counter options generally constitute short-term capital
gains or losses. When call options written, or put options purchased, by a Fund
are exercised, the gain or loss realized on the sale of the underlying
securities may be either short-term or long-term, depending on the holding
period of the securities. In determining the amount of gain or loss, the sales
proceeds are reduced by the premium paid for the over-the-counter puts or
increased by the premium received for over-the-counter calls.
A substantial portion of each Fund's transactions in options, futures
contracts and options on futures contracts, particularly its hedging
transactions, may constitute "straddles" which are defined in the Code as
offsetting positions with respect to personal property. A Straddle consisting
of a listed option, futures contract, or option on a futures contract and of
U.S. Government Securities would constitute a "mixed straddle" under the Code.
The Code generally provides with respect to straddles (i) "loss deferral" rules
which may postpone recognition for tax purposes of losses from certain closing
purchase transactions or other dispositions of a position in the straddle to the
extent of unrealized gains in the offsetting position, (ii) "wash sale" rules
which may postpone recognition for tax purposes of losses where a position is
sold and a new offsetting position is acquired within a prescribed period, (iii)
"short sale" rules which may terminate the holding period of securities owned by
a Fund when offsetting positions are established and which may convert certain
losses from short-term to long-term and (iv) "conversion transaction" rules
which may treat all or a portion of the gain on a transaction as ordinary income
rather than as capital gains. The Code provides that certain elections may be
made for mixed straddles that can alter the character of the capital gain or
loss recognized upon disposition of positions which form part of a straddle.
Certain other elections also are provided in the Code; no determination has been
reached to make any of these elections.
Code Section 1259 will require the recognition of gain (but not loss) if a
Fund makes a "constructive sale" of an appreciated financial position (e.g.,
stock). A Fund generally will be considered to make a constructive sale of an
appreciated financial position if it sells the same or substantially identical
property short, enters into a futures or forward contract to deliver the same or
substantially identical property, or enters into certain other similar
transactions.
Each Fund may purchase debt securities (such as zero-coupon, pay-in-kind or
stripped securities) that contain original issue discount. Original issue
discount that accrues in a taxable year is treated as earned by a Fund and
therefore is subject to the distribution requirements of the Code. Because the
original issue discount earned by the Fund in a taxable year may not be
represented by cash income, the Fund may have to dispose of other securities and
use the proceeds to make distributions to shareholders.
B-74
<PAGE>
With respect to the Tax Exempt Insured Fund, distributions out of net
investment income attributable to interest received on tax-exempt securities
("exempt-interest dividends") will be exempt from federal income tax when paid
to shareholders provided that 50% or more of the value of the Funds assets at
the end of each quarter is invested in obligations, the interest on which is
excluded from gross income pursuant to Section 103 of the Code. It should be
noted, however, that interest on certain "private activity bonds" issued after
August 7, 1986 is an item of tax preference for purposes of the alternative
minimum tax, and in any event all exempt interest dividends whether or not
treated as a tax preference, must be taken into account by corporate
shareholders for purposes of determining the amount of the adjustment to
corporate alternative minimum taxable income based on adjusted current earnings.
The Fund anticipates that a portion of its investment may be made in such
"private activity bonds" with the result that a portion of the exempt-interest
dividends paid by the Fund will be an item of tax preference to shareholders
subject to the alternative minimum tax. Moreover, shareholders should be aware
that, while exempt from federal income tax, exempt-interest dividends may be
taxable for state and local tax purposes. Any loss realized by a shareholder on
the sale of shares of the Tax Exempt Insured Fund held by the shareholder for
six months or less will be disallowed to the extent of any exempt-interest
dividend received thereon. Moreover, a shareholder may not deduct interest on
indebtedness incurred or continued to purchase or carry shares of the Tax Exempt
Insured Fund to the extent that the Fund distributes exempt-interest dividends
to the shareholders during the taxable year.
Legislation has expanded the market discount rules to apply to tax exempt
bonds purchased after April 30, 1993. Therefore, any gain on the disposition of
such a bond (including the receipt of a partial principal payment) that was
acquired for a price less than the principal amount (or in the case of a bond
issued with original issue discount, the adjusted issue price at the time of
purchase) of the bond is treated as ordinary taxable income to the extent of the
required market discount.
A Fund may be required to backup withhold U.S. Federal income tax at the
rate of 31% of all taxable distributions payable to shareholders who fail to
provide their correct taxpayer identification number or fail to make required
certifications, or who have been notified by the Internal Revenue Service that
they are subject to backup withholding. Backup withholding is not an additional
tax. Any amounts withheld may be credited against a shareholder's U.S. Federal
income tax liability.
Foreign shareholders generally will be subject to a withholding tax at the
rate of 30% (or lower treaty rate) on any ordinary income dividends paid by the
Funds.
The foregoing is a general abbreviated summary of the applicable provisions
of the Code and Treasury regulations currently in effect. Shareholders are
urged to consult their tax advisers regarding specific questions as to federal,
state and local taxes. In addition, foreign investors should consult with their
own tax advisers regarding the particular tax consequences to them of an
investment in each Fund. Qualification as a regulated investment company under
the Code for tax purposes does not entail government supervision of management
or investment policies.
B-75
<PAGE>
RETIREMENT PLANS
Shares of each Fund (other than the Tax Exempt Insured Fund) are eligible
to be purchased in conjunction with various types of qualified retirement plans.
The summary below is only a brief description of the Federal income tax laws for
each Plan and does not purport to be complete. Further information or an
application to invest in shares of the Fund by establishing any of the
retirement plans described below may be obtained by calling Retirement Plans at
(800) 858-8850. However, it is recommended that a shareholder considering any
retirement plan consult a tax adviser before participating.
Pension and Profit-Sharing Plans. Sections 401(a) and 401(k) of the Code permit
business employers and certain associations to establish pension and profit
sharing plans for employees. Shares of the Fund may be purchased by those who
would have been covered under the rules governing old H.R. 10 (Keogh) Plans, as
well as by corporate plans. Each business retirement plan provides tax
advantages for owners and participants. Contributions made by the employer are
tax-deductible, and participants do not pay taxes on contributions or earnings
until withdrawn.
Tax-Sheltered Custodial Accounts. Section 403(b)(7) of the Code permits public
school employees and employees of certain types of charitable, educational and
scientific organizations specified in Section 501(c)(3) of the Code, to purchase
shares of the Fund and, subject to certain limitations, exclude the amount of
purchase payments from gross income for tax purposes.
Individual Retirement Accounts (IRA). Section 408 of the Code permits eligible
individuals to contribute to an individual retirement program, including
individual retirement accounts ("IRA") and Simplified Employee Pension Plans,
commonly referred to as SEP-IRA. IRA's are subject to limitations with respect
to the amount that may be contributed, the eligibility of individuals to make
contributions, the amount, if any, entitled to be contributed on a deductible
basis, and the time in which distributions would be allowed to commence. In
addition, certain distributions from some other types of retirement plans may be
placed on a tax-deferred basis in an IRA.
Salary Reduction Simplified Employee Pension (SARSEP). This plan was introduced
by a provision of the Tax Reform Act of 1986 as a unique way for small employers
to provide the benefit of retirement planning for their employees.
Contributions are deducted from the employee's paycheck before tax deductions
and are deposited into an IRA by the employer. These contributions are not
included in the employee's income and therefore are not reported or deducted on
his or her tax return. A SARSEP may be mentioned only if it was in effect on
December 31, 1996.
Savings Incentive Match Plan for Employees ("SIMPLE IRA"). This plan was
introduced by a provision of the Small Business Job Protection Act of 1996 to
provide small employers with a simplified tax-favored retirement plan.
Contributions are deducted from the employee's paycheck before taxes and are
deposited into a SIMPLE IRA by the employer, who must make either matching
contributions or non-elective contributions. Contributions are tax-deductible
for the employer and participants do not pay taxes on contributions on earnings
until they are withdrawn.
B-76
<PAGE>
Roth IRA. This plan, introduced by Section 302 of the Taxpayer Relief Act of
1997, generally permits individuals with adjusted gross income of up to $95,000,
and married couples with joint adjusted gross income of up to $150,000, to
contribute to a "Roth IRA." Contributions are not tax-deductible, but
distribution of assets (contributions and earnings) held in the account for at
least five years may be distributed tax-free under certain qualifying
conditions.
Education IRA. Established by the Taxpayer Relief Act of 1997, under Section
530 of the Code, this plan permits individuals to contribute to an IRA on behalf
of any child under the age of 18. Contributions are not tax-deductible but
distributions are tax-free if used for qualified educational expenses.
DESCRIPTION OF SHARES
Ownership of the Trust is represented by transferable shares of beneficial
interest. The Declaration of Trust of the Trust (the "Declaration of Trust")
permits the Trustees to issue an unlimited number of full and fractional shares,
$.01 par value, and to divide or combine the shares into a greater or lesser
number of shares without thereby changing the proportionate beneficial interests
of the Trust.
Currently, five series of shares of the Trust have been authorized pursuant
to the Declaration of Trust: the U.S. Government Securities Fund, the GNMA
Fund, the Diversified Income Fund, the High Income Fund and the Tax Exempt
Insured Fund. Each series has been divided into three classes of shares,
designated as Class A, Class B and Class II shares. The Trustees may authorize
the creation of additional series of shares so as to be able to offer to
investors additional investment portfolios within the Trust that would operate
independently from the Trust's present portfolios, or to distinguish among
shareholders, as may be necessary, to comply with future regulations or other
unforeseen circumstances. Each series of the Trust's shares represents the
interests of the shareholders of that series in a particular portfolio of Trust
assets. In addition, the Trustees may authorize the creation of additional
classes of shares in the future, which may have fee structures different from
those of existing classes and/or may be offered only to certain qualified
investors.
Shareholders are entitled to a full vote for each full share held. The
Trustees have terms of unlimited duration (subject to certain removal
procedures) and have the power to alter the number of Trustees and appoint their
own successors, provided that at all times at least a majority of the Trustees
have been elected by shareholders. The voting rights of shareholders are not
cumulative, so that holders of more than 50% of the shares voting can, if they
choose, elect all Trustees being elected, while the holders of the remaining
shares would be unable to elect any Trustees. Although the Trust need not hold
annual meetings of shareholders, the Trustees may call special meetings of
shareholders for action by shareholder vote as may be required by the 1940 Act
or the Declaration of Trust. Also, a shareholders meeting must be called, if so
requested in writing by the holders of record of 10% or more of the outstanding
shares of the Trust. In addition, the Trustees may be removed by the action of
the holders of record of two-thirds or more of the outstanding shares. All
series of shares will vote with respect to certain matters, such as election of
Trustees. When all series of shares are not affected by a matter to be voted
upon, such as approval of investment
B-77
<PAGE>
advisory agreements or changes in a Fund's policies, only shareholders of the
series affected by the matter may be entitled to vote.
All classes of shares of a given Fund are identical in all respects, except
that (i) each class may bear differing amounts of certain class-specific
expenses, (ii) Class A shares are subject to an initial sales charge, a
distribution fee and an ongoing account maintenance and service fee, (iii) Class
B shares are subject to a CDSC, a distribution fee and an ongoing account
maintenance and service fee, (iv) Class II shares are subject to an initial
sales charge, a CDSC, a distribution fee and an ongoing account maintenance and
service fee; (v) Class B shares convert automatically to Class A shares after
approximately one year after such time that no CDSC would be payable upon
redemption, (vi) each class has voting rights on matters that pertain to the
Rule 12b-1 plan adopted with respect to such class, except that under certain
circumstances, the holders of Class B shares may be entitled to vote on material
changes to the Class A Rule 12b-1 plan, and (vii) each class of shares will be
exchangeable only into the same class of shares of any of the other Funds or
other SunAmerica Mutual Funds that offers that class. All shares of the Trust
issued and outstanding and all shares offered by the Prospectus when issued, are
and will be fully paid and non-assessable. Shares have no preemptive or other
subscription rights and are freely transferable on the books of the Trust. In
addition, shares have no conversion rights, except as described above.
The Declaration of Trust provides that no Trustee, officer, employee or
agent of the Trust is liable to the Trust or to a shareholder, nor is any
Trustee, officer, employee or agent liable to any third persons in connection
with the affairs of the Trust, except as such liability may arise from his or
its own bad faith, willful misfeasance, gross negligence or reckless disregard
of his duties. It also provides that all third persons shall look solely to the
Trust's property for satisfaction of claims arising in connection with the
affairs of the Trust. With the exceptions stated, the Declaration of Trust
provides that a Trustee, officer, employee or agent is entitled to be
indemnified against all liability in connection with the affairs of the Trust.
The Trust shall continue, without limitation of time, subject to the provisions
in the Declaration of Trust concerning termination by action of the
shareholders.
Under Massachusetts law, shareholders of a trust, such as the Trust, in
certain circumstances may be held personally liable as partners for the
obligations of the trust. However the Declaration of Trust, pursuant to which
the Trust was organized, contains an express disclaimer of shareholder liability
for acts or obligations of the Trust. The Declaration of Trust also provides
for indemnification out of the Trust's property for any shareholder held
personally liable for any Trust obligation. Thus the risk of a shareholder
being personally liable as a partner for obligations of the Trust, is limited to
the unlikely circumstance in which the Trust itself would be unable to meet its
obligations.
B-78
<PAGE>
ADDITIONAL INFORMATION
Computation of Offering Price per Share
---------------------------------------
The offering price for Class A, Class B and Class II shares of the Funds,
based on the value of each Fund's net assets as of March 31, 2000, is calculated
as follows:
<TABLE>
<CAPTION>
U.S. Government Securities Fund GNMA Fund Diversified Income Fund
------------------------------------------------------------------------------------------------------------------
Class A Class B Class II* Class A Class B Class II* Class A Class B Class II*
--------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Net Assets $150,975,307 $42,273,241 $907,118 $44,155,192 $22,375,600 $1,406,007 $30,632,865 $24,476,483 $1,454,435
------------------------------------------------------------------------------------------------------------------------------
Number of
Outstanding
Shares 18,160,572 5,084,611 109,078 4,237,999 2,142,370 134,465 8,017,617 6,393,293 380,078
--------------------------------------------------------------------------------------------------------------------------------
Net Asset
Value (net
assets divided $8.31 $8.31 $8.32 $10.42 $10.44 $10.46 $3.82 $3.83 $3.83
by number of
shares)
--------------------------------------------------------------------------------------------------------------------------------
Sales Charge
(for Class A $0.41 *** . $0.52 *** . $0.19 *** .
shares: 4.75%
of offering
price (6.10%
of net asset
value per
share)**
for Class II . . $0.08 . . $0.11 . . $0.04
Shares: 1.00%
of offering
price (1.01%
of net asset
value per
share)*
--------------------------------------------------------------------------------------------------------------------------------
Offering Price $8.72 $8.31 $8.40 $10.94 $10.44 $10.57 $4.01 $3.83 $3.87
--------------------------------------------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
High Income Fund Tax Exempt Insured Fund
--------------------------------------------------------------------------------------------
Class A Class B Class II* Class A Class B Class II*
---------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Net Assets $63,415,033 $91,357,002 $12,250,676 $68,650,161 $16,269,401 $577,006
--------------------------------------------------------------------------------------------------------------------
Number of Shares 10,387,165 14,948,807 2,001,081 5,549,557 1,314,870 46,650
Outstanding
--------------------------------------------------------------------------------------------------------------------
Net Asset Value $6.11 $6.11 $6.12 $12.37 $12.37 $12.37
(net assets divided
by number of
shares)
--------------------------------------------------------------------------------------------------------------------
Sales Charge: *** -- $0.62 ***
for Class A Shares: $0.30 .
4.75% of offering
price (6.10% of net
asset value per
share)* . $0.06 . .
--------------------------------------------------------------------------------------------------------------------
</TABLE>
B-79
<PAGE>
<TABLE>
<CAPTION>
High Income Fund Tax Exempt Insured Fund
--------------------------------------------------------------------------------------------
Class A Class B Class II* Class A Class B Class II*
---------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
for Class II Shares: . $0.12
1.00% of offering price
(1.01% of net asset
value per share)*
--------------------------------------------------------------------------------------------------------------------
Offer Price $6.41 $6.11 $6.18 $12.99 $12.37 $12.49
--------------------------------------------------------------------------------------------------------------------
</TABLE>
* With respect to the High Income Fund, Class II shares were designated Class
C shares prior to December 1, 1998 and were subject to a different load
structure. Class II shares may be subject to a contingent deferred sales
charge on redemption of shares within eighteen months of purchase.
** Rounded to nearest one-hundredth percent; assumes maximum sales charge
is applicable.
*** Class B shares are not subject to an initial sales charge but may be
subject to a CDSC on redemption of shares within six years of purchase.
Reports to Shareholders. The Trust sends audited annual and unaudited semi-
annual reports to shareholders of each of the Funds. In addition, the Transfer
Agent sends a statement to each shareholder having an account directly with the
Trust to confirm transactions in the account.
Custodian and Transfer Agent. State Street Bank and Trust Company, 1776
Heritage Drive, North Quincy, MA 02171, serves as Custodian and Transfer Agent
for the Funds and in those capacities maintains certain financial and accounting
books and records pursuant to agreements with the Trust. Transfer Agent
functions are performed for State Street, by National Financial Data Services,
P.O. Box 419572, Kansas City, MO 64141-6572, an affiliate of State Street.
SunAmerica Fund Services, Inc., The SunAmerica Center, 733 Third Avenue, New
York, NY 10017-3204, acts as a servicing agent assisting State Street Bank and
Trust Company in connection with certain services offered to the shareholders of
each of the Funds.
Independent Accountants and Legal Counsel. PricewaterhouseCoopers LLP, 1177
Avenue of the Americas, New York, NY 10036, serves as the Trust's independent
accountants and in that capacity examines the annual financial statements of the
Trust. The firm of Swidler Berlin Shereff Friedman, LLP, The Chrysler Building,
405 Lexington Avenue, New York, NY 10174, serves as legal counsel to the Trust.
B-80
<PAGE>
FINANCIAL STATEMENTS
The Trust's audited financial statements are incorporated in this Statement
of Additional Information by reference to its 2000 annual report to
shareholders. You may request a copy of the annual report at no charge by
calling (800) 858-8850 or writing the Trust at SunAmerica Fund Services, Inc.,
Mutual Fund Operations, The SunAmerica Center, 733 Third Avenue, New York, New
York 10017-3204.
B-81
<PAGE>
APPENDIX
BOND, NOTE AND COMMERCIAL PAPER RATINGS
Description of Moody's Corporate and Tax-Exempt Bond Ratings
Aaa Bonds rated Aaa are judged to be of the best quality. They carry the
smallest degree of investment risk and are generally referred to as "gilt
edge." Interest payments are protected by a large or by an exceptionally
stable margin and principal is secure. While the various protective
elements are likely to change, such changes as can be visualized are most
unlikely to impair the fundamentally strong position of such issues.
Aa Bonds rated Aa are judged to be of high quality by all standards. Together
with the Aaa group they comprise what are generally known as high grade
bonds. They are rated lower than the best bonds because margins of
protection may not be as large as in Aaa securities or fluctuation of
protective elements may be of greater amplitude or there may be other
elements present that make the long-term risks appear somewhat larger than
in Aaa securities.
A Bonds rated A possess many favorable investment attributes and are
considered as upper medium grade obligations. Factors giving security to
principal and interest are considered adequate, but elements may be present
that suggest a susceptibility to impairment sometime in the future.
Baa Bonds rated Baa are considered as medium grade obligations; i.e., they are
neither highly protected nor poorly secured. Interest payments and
principal security appear adequate for the present but certain protective
elements may be lacking or may be characteristically unreliable over any
great length of time. Such bonds lack outstanding investment
characteristics and in fact have speculative characteristics as well.
Ba Bonds rated Ba are judged to have speculative elements; their future cannot
be considered as well assured. Often the protection of interest and
principal payments may be very moderate, and therefore not well safeguarded
during both good and bad times over the future. Uncertainty of position
characterizes bonds in this class.
B Bonds rated B generally lack characteristics of desirable investments.
Assurance of interest and principal payments or of maintenance of other
terms of the contract over any long period of time may be small.
Caa Bonds rated Caa are of poor standing. Such issues may be in default or
there may be present elements of danger with respect to principal or
interest.
Ca Bonds rated Ca represent obligations that are speculative in a high degree.
Such issues are often in default or have other marked shortcomings.
C Bonds rated C are the lowest rated class of bonds, and issues so rated can
be regarded as having extremely poor prospects of ever attaining any real
investment standing.
Note: Moody's may apply numerical modifiers 1, 2 and 3 in each generic
----
rating classification from Aa through B in its corporate bond rating system.
The modifier 1 indicates that the security ranks in the higher end of its
generic rating category; the modifier 2 indicates a mid-range ranking; and the
modifier 3 indicates
Appendix-1
<PAGE>
that the issue ranks in the lower end of the generic rating category. The
foregoing ratings for tax-exempt bonds are sometimes presented in parentheses
preceded with a "con" indicating the bonds are rated conditionally. Bonds for
which the security depends upon the completion of some act or the fulfillment of
some condition are rated conditionally. These are bonds secured by (a) earnings
of projects under construction, (b) earnings of projects unseasoned in operation
experience, (c) rentals which begin when facilities are completed, or (d)
payments to which some other limiting condition attaches. Such parenthetical
rating denotes the probable credit stature upon completion of construction or
elimination of the basis of the condition.
Description of Moody's Tax-Exempt Note Ratings
The ratings of Moody's for tax-exempt notes are MIG 1, MIG 2, MIG 3 and MIG
4.
MIG 1 Notes bearing the designation MIG 1 are judged to be of the
best quality, enjoying strong protection from established cash
flows of funds for their servicing or from established and broad-
based access to the market for refinancing, or both.
MIG 2 Notes bearing the designation MIG 2 are judged to be of high
quality, with margins of protection ample although not so large
as in the preceding group.
MIG 3 Notes bearing the designation MIG 3 are judged to be of
favorable quality, with all security elements accounted for but
lacking the undeniable strength of the preceding grades. Market
access for refinancing, in particular, is likely to be less well
established.
MIG 4 Notes bearing the designation MIG 4 are judged to be of
adequate quality, carrying specific risk but having protection
commonly regarded as required of an investment security and not
distinctly or predominantly speculative.
Description of Moody's Corporate and Tax-Exempt Commercial Paper Ratings
The term "commercial paper" as used by Moody's means promissory obligations
not having an original maturity in excess of nine months. Moody's makes no
representations as to whether such commercial paper is by any other definition
"commercial paper" or is exempt from registration under the Securities Act.
Moody's rating grades for commercial paper are applied to municipal
commercial paper as well as taxable commercial paper.
Moody's commercial paper ratings are opinions of the ability of issuers to
repay punctually promissory obligations not having an original maturity in
excess of nine months. Moody's makes no representation that such obligations
are exempt from registration under the Securities Act of 1933, as amended, nor
does it represent that any specific note is a valid obligation of a rated issuer
or issued in conformity with any applicable law. Moody's employs the following
three designations, all judged to be investment grade, to indicate the relative
repayment capacity of rated issuers:
Issuers rated Prime-1 (or related supporting institutions) have a superior
capacity for repayment of short-term promissory obligations. Prime-1 repayment
capacity will normally be evidenced by the following characteristics:
-- Leading market positions in well established industries
Appendix-2
<PAGE>
-- High rates of return on funds employed
-- Conservative capitalization structures with moderate reliance on debt
and ample asset protection
-- Broad margins in earnings coverage of fixed financial charges and high
internal cash generation
-- Well established access to a range of financial markets and assured
sources of alternate liquidity.
Issuers rated Prime-2 (or related supporting institutions) have a strong
capacity for repayment of short-term promissory obligations. This will normally
be evidenced by many of the characteristics cited above but to a lesser degree.
Earnings trends and coverage ratios, while sound, will be more subject to
variation. Capitalization characteristics, while still appropriate, may be more
affected by external conditions. Ample alternate liquidity is maintained.
Issuers rated Prime-3 (or related supporting institutions) have an
acceptable capacity for repayment of short-term promissory obligations. The
effect of industry characteristics and market composition may be more
pronounced. Variability in earnings and profitability may result in changes in
level of debt protection measurements and the requirement for relatively high
financial leverage. Adequate alternate liquidity is maintained.
Issuers rated Not Prime do not fall within any of the Prime rating
categories.
If an issuer represents to Moody's that its commercial paper obligations
are supported by the credit of another entity or entities, then the name or
names of such supporting entity or entities are listed within parentheses
beneath the name of the issuer, or there is a footnote referring the reader to
another page for the name or names of the supporting entity or entities. In
assigning ratings to such issuers, Moody's evaluates the financial strength of
the indicated affiliated corporations, commercial banks, insurance companies,
foreign governments or other entities, but only as one factor in the total
rating assessment. Moody's makes no representation and gives no opinion on the
legal validity or enforceability of any support arrangement. You are cautioned
to review with your counsel any questions regarding particular support
arrangements.
Among the factors considered by Moody's in assigning ratings are the
following: (1) evaluation of the management of the issuer; (2) economic
evaluation of the issuer's industry or industries and an appraisal of
speculative type risks that may be inherent in certain areas; (3) evaluation of
the issuer's products in relation to competition and customer acceptance; (4)
liquidity; (5) amount and quality of long-term debt; (6) trend of earnings over
a period of ten years; (7) financial strength of a parent company and the
relationships that exist with the issuer; and (8) recognition by management of
obligations that may be present or may arise as a result of public interest
questions and preparations to meet such obligations.
Description of Standard & Poor's Corporate and Tax-Exempt Bond Ratings
A Standard & Poor's corporate or municipal rating is a current assessment
of the creditworthiness of an obligor with respect to a specific obligation.
This assessment may take into consideration obligors such as guarantors,
insurers, or lessees.
The debt rating is not a recommendation to purchase, sell or hold a
security, inasmuch as it does not comment as to market price or suitability for
a particular investor.
Appendix-3
<PAGE>
The ratings are based on current information furnished by the issuer or
obtained by Standard & Poor's from other sources it considers reliable.
Standard & Poor's does not perform an audit in connection with any rating and
may, on occasion, rely on unaudited financial information. The ratings may be
changed, suspended or withdrawn as a result of changes in, or unavailability of,
such information, or for other reasons.
The ratings are based, in varying degrees, on the following considerations:
(1) likelihood of default capacity and willingness of the obligor as to the
timely payment of interest and repayment of principal in accordance with the
terms of the obligation: (2) nature of and provisions of the obligation; and (3)
protection afforded by, and relative position of, the obligation in the event of
bankruptcy, reorganization or other arrangement under the laws of bankruptcy and
other laws affecting creditors' rights.
AAA Debt rated AAA has the highest rating assigned by Standard & Poor's.
Capacity to pay interest and repay principal is extremely strong.
AA Debt rated AA has a very strong capacity to pay interest and repay
principal and differs from the highest-rated issues only in small
degree.
A Debt rated A has a strong capacity to pay interest and repay principal
although it is somewhat more susceptible to the adverse effects of
changes in circumstances and economic conditions than debt in higher-
rated categories.
BBB Debt rated BBB is regarded as having an adequate capacity to pay
interest and repay principal. Whereas it normally exhibits adequate
protection parameters, adverse economic conditions or changing
circumstances are more likely to lead to a weakened capacity to pay
interest and repay principal for debt in this category than for debt
in higher-rated categories.
Debt rated BB, B, CCC, CC and C are regarded as having predominantly
speculative characteristics with respect to capacity to pay interest
and repay principal. BB indicates the least degree of speculation and
C the highest degree of speculation. While such debt will likely have
some quality and protective characteristics, these are outweighed by
large uncertainties or major risk exposure to adverse conditions.
BB Debt rated BB has less near-term vulnerability to default than other
speculative grade debt. However, it faces major ongoing uncertainties
or exposure to adverse business, financial or economic conditions that
could lead to inadequate capacity to meet timely interest and
principal payment. The BB rating category is also used for debt
subordinated to senior debt that is assigned an actual or implied BBB
- rating.
B Debt rated B has a greater vulnerability to default but presently has
the capacity to meet interest payments and principal repayments.
Adverse business, financial or economic conditions would likely impair
capacity or willingness to pay interest and repay principal. The B
rating category is also used for debt subordinated to senior debt that
is assigned an actual or implied BB or BB-rating.
CCC Debt rated CCC has a current identifiable vulnerability to default,
and is dependent upon favorable business, financial and economic
conditions to meet timely payments of interest and repayments of
principal. In the event of adverse business, financial or economic
conditions, it is not likely to have the capacity to pay interest and
repay principal. The CCC rating
Appendix-4
<PAGE>
category is also used for debt subordinated to senior debt that is
assigned an actual or implied B or B- rating.
CC The rating CC is typically applied to debt subordinated to senior debt
that is assigned an actual or implied CCC rating.
C The rating C is typically applied to debt subordinated to senior debt
that is assigned an actual or implied CCC- debt rating. The C rating
may be used to cover a situation where a bankruptcy petition has been
filed but debt service payments are continued.
CI The rating CI is reserved for income bonds on which no interest is
being paid.
D Debt rated D is in default. The D rating is assigned on the day an
interest or principal payment is missed. The D rating also will be
used upon the filing of a bankruptcy petition if debt service payments
are jeopardized.
Plus (+) or minus (-): The ratings of "AA" to "CCC" may be modified by the
addition of a plus or minus sign to show relative standing within these
ratings categories.
Provisional ratings: The letter "p" indicates that the rating is
provisional. A provisional rating assumes the successful completion of the
project being financed by the debt being rated and indicates that payment of
debt service requirements is largely or entirely dependent upon the successful
and timely completion of the project. This rating, however, while addressing
credit quality subsequent to completion of the project, makes no comment on the
likelihood or risk of default upon failure of such completion. The investor
should exercise judgment with respect to such likelihood and risk.
L The letter "L" indicates that the rating pertains to the principal
amount of those bonds to the extent that the underlying deposit
collateral is insured by the Federal Savings & Loan Insurance Corp. or
the Federal Deposit Insurance Corp. and interest is adequately
collateralized.
* Continuance of the rating is contingent upon Standard & Poor's receipt
of an executed copy of the escrow agreement or closing documentation
confirming investments and cash flows.
NR Indicates that no rating has been requested, that there is
insufficient information on which to base a rating or that Standard &
Poor's does not rate a particular type of obligation as a matter of
policy.
Debt Obligations of Issuers outside the United States and its territories
are rated on the same basis as domestic corporate and municipal issues. The
ratings measure the credit worthiness of the obligor but do not take into
account currency exchange and related uncertainties.
Bond Investment Quality Standards: Under present commercial bank regulations
issued by the Comptroller of the Currency, bonds rated in the top four
categories ("AAA," "AA," "A," "BBB," commonly known as "investment grade"
ratings) are generally regarded as eligible for bank investment. In addition,
the laws of various states governing legal investments impose certain rating or
other standards for obligations eligible for investment by savings banks, trust
companies, insurance companies and fiduciaries generally.
Appendix-5
<PAGE>
Description of Standard & Poor's Tax-Exempt Note Ratings
The ratings of Standard & Poor's for municipal notes issued on or after
July 29, 1984 are "SP-1", "SP-2" and "SP-3." Prior to July 29, 1984, municipal
notes carried the same symbols as municipal bonds.
SP-1 The designation "SP-1" indicates a very strong capacity to pay
principal and interest. A "+" is added for those issues determined to
possess overwhelming safety characteristics.
SP-2 An "SP-2" designation indicates a satisfactory capacity to pay
principal and interest.
SP-3 "SP-3" designation indicates speculative capacity to pay principal
and interest.
Description of Standard & Poor's Corporate and Tax-Exempt Commercial Paper
Ratings.
Standard & Poor's rating grades for commercial paper are applied to
municipal commercial paper as well as taxable commercial paper.
A Standard & Poor's commercial paper rating is a current assessment of the
likelihood of timely payment of debt having an original maturity of not more
than 365 days. Ratings are graded into four categories, ranging from "A" for
the highest quality obligations to "D" for the lowest.
A Issues assigned this highest rating are regarded as having the
greatest capacity for timely payment. Issues in this category are
delineated with the numbers 1, 2 and 3 to indicate the relative degree
of safety.
A-1 This designation indicates that the degree of safety regarding timely
payment is either overwhelming or very strong. Those issues
designated "A-1" that are determined to possess overwhelming safety
characteristics are denoted with a plus (+) sign designation.
A-2 Capacity for timely payment on issues with this designation is strong.
However, the relative degree of safety is not as high as for issues
designated "A-1."
A-3 Issues carrying this designation have a satisfactory capacity for
timely payment. They are, however, somewhat more vulnerable to the
adverse effect of changes in circumstances than obligations carrying
the higher designations.
B Issues rated "B" are regarded as having only adequate capacity for
timely payment. However, such capacity may be damaged by changing
conditions or short-term adversities.
C This rating is assigned to short-term debt obligations with a doubtful
capacity for payment.
D This rating indicates that the issue is either in default or is
expected to be in default upon maturity.
The commercial paper rating is not a recommendation to purchase or sell a
security. The ratings are based on current information furnished to Standard &
Poor's by the issuer or obtained from other sources it considers reliable. The
ratings may be changed, suspended, or withdrawn as a result of changes in or
unavailability of such information.
Appendix-6
<PAGE>
Appendix-7
PART C
OTHER INFORMATION
Item 23: Exhibits.
(a) Declaration of Trust, as amended. Incorporated herein by reference to Post-
Effective Amendment No. 20 to the Registrant's Registration Statement on
Form N-1A (File No. 33-6502) filed on July 27, 1995.
(b) By-Laws, as amended. Incorporated herein by reference to Post-Effective
Amendment No. 20 to the Registrant's Registration Statement on Form N-1A
(File No. 33-6502) filed on July 27, 1995.
(c) Not applicable.
(d) Investment Advisory and Management Agreement between Registrant and
SunAmerica Asset Management Corp. ("SunAmerica"). Incorporated herein by
reference to Post-Effective Amendment No. 26 to Registration Statement on
Form N-1A (File No. 33-6502) filed on June 1, 1999.
(e) (i) Distribution Agreement between Registrant and SunAmerica Capital
Services, Inc. Incorporated herein by reference to Post-Effective
Amendment No. 26 to Registrant's Registration Statement on Form N-1A
(File No. 33-6502) filed on June 1, 1999.
(ii) Dealer Agreement. Incorporated herein by reference to Post-Effective
Amendment No. 21 to Registrant's Registration Statement on Form N-1A
(File No. 33-6502) filed on July 19, 1996.
(f) Directors'/Trustees' Retirement Plan. Incorporated herein by reference to
Post-Effective Amendment No. 21 to Registrant's Registration Statement on
Form N-1A (File No. 33-6502) filed on July 19, 1996.
(g) Custodian Agreement between Registrant and State Street Bank and Trust
Company. Incorporated herein by reference to Post-Effective Amendment No.
21 to Registrant's Registration Statement on Form N-1A (File No. 33-6502)
filed on July 19, 1996.
(h) (i) Transfer Agency and Service Agreement between Registrant and State
Street Bank and Trust Company. Incorporated herein by reference to
Post-Effective Amendment No. 21 to Registrant's Registration
Statement on Form N-1A (File No. 33-6502) filed on July 19, 1996.
(ii) Service Agreement between Registrant and SunAmerica Fund Services,
Inc. Incorporated herein by reference to Post-Effective Amendment
No. 20 to Registrant's Registration Statement on Form N-1A (File No.
33-6502) filed on July 27, 1995.
(i) Opinion of Counsel to the Registrant. Filed herewith.
(j) Consent of Independent Accountants. Filed herewith.
(k) Not applicable.
(l) Not applicable.
(m) (i) Distribution Plan pursuant to Rule 12b-1 (Class A shares).
Incorporated herein by reference to Post-Effective Amendment No. 26
to Registrant's Registration Statement on Form N-1A (File No. 33-
6502) filed on June 1, 1999.
(ii) Distribution Plan pursuant to Rule 12b-1 (Class B shares).
Incorporated herein by reference to Post-Effective Amendment No. 26
to Registrant's Registration Statement on Form N-1A (File No. 33-
6502) filed on June 1, 1999.
(iii) Distribution Plan pursuant to Rule 12b-1 (Class II Shares).
Incorporated herein by reference to Post-Effective Amendment No. 26
to Registrant's Registration Statement on Form N-1A (File No. 33-
6502) filed on June 1, 1999.
(n) (i) Amended Plan pursuant to Rule 18f-3. Incorporated herein by reference
to Post-Effective Amendment No. 24 to the Registrant's Registration
Statement on Form N-1A (File No. 33-6502) filed on July 27, 1996.
<PAGE>
(ii) Powers of Attorney. Incorporated by reference to Post-Effective
Amendment No. 21 to Registrant's Registration Statement on Form N-1A
(File No. 33-6502) filed on July 19, 1996.
(p) Code of Ethics. Filed herewith.
---------------
Item 24. Persons Controlled by or Under Common Control with Registrant.
There are no persons controlled by or under common control with
Registrant.
Item 25. Indemnification.
5.1 Indemnification of Trustees, Officers, Employees and Agents. (a)
-----------------------------------------------------------
The Trust shall indemnify any person who was or is a party or is threatened to
be made a party to any threatened, pending, or completed action, suit or
proceeding, whether civil, criminal, administrative or investigative (other than
an action by or in the right of the Trust or any of its shareholders) by reason
of the fact that he is or was a Trustee, officer, employee or agent of the
Trust. The indemnification shall be against expenses, including attorneys' fees,
judgments, fines and amounts paid in settlement, actually and reasonably
incurred by him in connection with the action, suit or proceeding, if he acted
in good faith and in a manner he reasonably believed to be in or not opposed to
the best interests of the Trust, and, with respect to any criminal action or
proceedings, had no reasonable cause to believe his conduct was unlawful. The
termination of any action, suit or proceeding by judgment, order, settlement,
conviction or upon a plea of nolo contendere or its equivalent, shall not, of
itself, create a presumption that the person did not act in good faith and in a
manner which he reasonably believed to be in or not opposed to the best
interests of the Trust, and, with respect to any criminal action or proceeding,
had reasonable cause to believe that his conduct was unlawful.
(b) The Trust shall indemnify any person who was or is a party or is
threatened to be made a party to any threatened, pending or completed action or
suit by or on behalf of the Trust or any of its shareholders to obtain a
judgment or decree in its favor by reason of the fact that he is or was a
Trustee, officer, employee or agent of the Trust. The indemnification shall be
against expenses, including attorneys' fees, actually and reasonably incurred by
him in connection with the defense or settlement of the action or suit, if he
acted in good faith and in a manner he reasonably believed to be in or not
opposed to the best interests of the Trust; except that such indemnification
shall preclude payment upon any liability, whether or not there is an
adjudication of liability, arising by reason of willful misfeasance, bad faith,
gross negligence, or reckless disregard of duties as described in section 17(h)
and (i) of the Investment Company Act of 1940.
(c) To the extent that a Trustee, officer, employee or agent of the
Trust has been successful on the merits or otherwise in defense of any action,
suit or proceeding referred to in subsections (a) or (b) or in defense of any
claim, issue or matter therein, he shall be indemnified against expenses,
including attorneys' fees, actually and reasonably incurred by him in connection
therewith.
(d) (1) Unless a court orders otherwise, any indemnification under
subsections (a) or (b) of this section may be made by the Trust only as
authorized in the specific case after a determination that indemnification of
the Trustee, officer, employee or agent is proper in the circumstances because
he has met the applicable standard of conduct set forth in subsections (a) or
(b).
(2) The determination shall be made:
<PAGE>
(i) by the Trustees, by a majority vote of a quorum which
consists of Trustees who were not parties to the action, suit or proceeding; or
(ii) if the required quorum is not obtainable, or if a
quorum of disinterested Trustees so directs, by independent legal counsel in a
written opinion; or
(iii) by the Shareholders.
(3) Notwithstanding the provisions of this Section 5.1, no
person shall be entitled to indemnification for any liability, whether or not
there is an adjudication of liability, arising by reason of willful malfeasance
bad faith, gross negligence or reckless disregard of duties as described in
Sections 17(h) and (i) of the Investment Company Act of 1940 ("Disabling
Conduct"). A person shall be deemed not liable by reason of Disabling Conduct
if, either:
(i) a final decision on the merits is made by a court or
other body before whom the proceeding was brought that the person to be
indemnified ("Indemnitee") was not liable by reason of Disabling Conduct; or
(ii) in the absence of such a decision, a reasonable
determination, based upon a review of the facts, that the Indemnitee was not
liable by reason of Disabling Conduct, is made by either -
(A) a majority of a quorum of Trustees who are neither
"interested persons" of the Trust, as defined in section 2(a)(19) of the
Investment Company Act of 1940, nor parties to the action, suit or proceeding;
or
(B) an independent legal counsel in a written opinion.
(e) Expenses, including attorneys' fees, incurred by a Trustee, officer,
employee or agent of the Trust in defending a civil or criminal action, suit or
proceeding may be paid by the Trust in advance of the final disposition thereof
if:
(1) authorized in the specific case by the Trustees; and
(2) the Trust receives an undertaking by or on behalf of the
Trustee, officer, employee or agent of the Trust to repay the advance if it is
not ultimately determined that such person is entitled to be indemnified by the
Trust; and
(3) either,
(i) such person provides a security for his undertaking;
or
(ii) the Trust is insured against losses by reason of any
lawful advances; or
(iii) a determination, based on a review of readily
available facts, that there is reason to believe that such person ultimately
will be found entitled to indemnification, is made by either -
(A) A majority of a quorum which consists of Trustees who
are neither "interested persons" of the Trust, as defined in section 2(a)(19) of
the Investment Company Act of 1940, nor parties to the action, suit or
proceeding; or
(B) an independent legal counsel in a written opinion.
(f) The indemnification provided by this Section shall not be deemed
<PAGE>
exclusive of any other rights to which a person may be entitled under any by-
law, agreement, vote of Shareholders or disinterested Trustees or otherwise,
both as to action in his official capacity and as to action in another capacity
while holding office, and shall continue as to a person who has ceased to be a
Trustee, officer, employee or agent and inure to the benefit of the heirs,
executors and administrators of such person; provided that no person may satisfy
any right of indemnity or reimbursement granted herein or to which he may be
otherwise entitled except out of the property of the Trust, and no Shareholder,
as such, shall be personally liable with respect to any claim for indemnity or
reimbursement or otherwise.
(g) The Trust may purchase and maintain insurance on behalf of any person
who is or was a Trustee, officer, employee or agent of the Trust, against any
liability asserted against him and incurred by him in any such capacity, or
arising out of his status as such. However, in no event will the Trust pay that
portion of insurance premiums, if any, attributable to coverage which would
indemnify any officer of Trustee against liability for Disabling Conduct.
(h) Nothing contained in this Section shall be construed to protect any
Trustee or officer of the Trust against any liability to the Trust or to its
security holders to which he would otherwise be subject by reason of willful
misfeasance, bad faith, gross negligence or reckless disregard of the duties
involved in the conduct of his office.
Item 26. Business and Other Connections of the Investment Adviser.
Information concerning business and other connections of SunAmerica is
incorporated herein by reference to SunAmerica's Form ADV (File No. 801-19813),
which is currently on file with the Securities and Exchange Commission.
Reference is also made to the caption "Fund Management" in the Prospectus
constituting Part A of the Registration Statement and "Adviser, Personal
Securities Trading, Distributor and Administrator" and "Trustees and Officers"
in the statement of additional information constituting Part B of the
Registration Statement.
Item 27. Principal Underwriters.
(a) The principal underwriter of the Registrant also acts as principal
underwriter for:
Brazos Mutual Funds
SunAmerica Equity Funds
SunAmerica Money Market Funds, Inc.
SunAmerica Style Select Series, Inc.
SunAmerica Strategic Investment Series, Inc.
(b) The following persons are the officers and directors of SunAmerica
Capital Services, Inc., the principal underwriter of Registrant's
Shares:
Name and Principal
Business Address Position With Underwriter Position with the Registrant
-------------------------------------------------------------------------------
Peter A. Harbeck Director Director and President
The SunAmerica Center
733 Third Avenue
New York, NY 10017-3204
-------------------------------------------------------------------------------
J. Steven Neamtz Chief Executive Officer, Vice President
The SunAmerica Center President and Director
733 Third Avenue
New York, NY 10017-3204
<PAGE>
-------------------------------------------------------------------------------
Robert M. Zakem Chief Legal Officer, Secretary and Chief
The SunAmerica Center Chief Compliance Officer Compliance Officer
733 Third Avenue and Director
New York, NY 10017-3204
-------------------------------------------------------------------------------
Debbie Potash-Turner Chief Financial Officer None
The SunAmerica Center and Controller
733 Third Avenue
New York, NY 10017-3204
-------------------------------------------------------------------------------
(c) Not applicable.
Item 28. Location of Accounts and Records.
SunAmerica, The SunAmerica Center, 733 Third Avenue, New York, NY
10017-3204, or an affiliate thereof, will maintain physical possession of each
such accounts, books or other documents of Registrant, except for those
maintained by Registrant's custodian, State Street Bank and Trust Company, 1776
Heritage Drive, North Quincy, MA 02171, and its affiliate, National Financial
Data Services, P.O. Box 419572, Kansas City, MO 64141-6572.
Item 29. Management Services.
Not applicable.
Item 30. Undertakings.
Not applicable.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, as amended,
(the "1933 Act") and the Investment Company Act of 1940, as amended, the
Registrant certifies that it meets all of the requirements for effectiveness of
this registration statement under rule 485(b) under the 1933 Act and has duly
caused this Post-Effective Amendment No. 27 to the Registration Statement to be
signed on its behalf by the undersigned, thereunto duly authorized, in the City
of New York, and State of New York, on the 28th day of July 2000.
SunAmerica Income Funds
By: /s/ Peter A. Harbeck
---------------------------------
Peter A. Harbeck
President
Pursuant to the requirements of the 1933 Act, this Post-Effective Amendment
No. 27 to the Registrant's Registration Statement on Form N-1A has been signed
below by the following persons in the capacities and on the date indicated:
/s/ Peter A. Harbeck President and Trustee July 28, 2000
-------------------------- (Principal Executive Officer)
Peter A. Harbeck
/s/ Peter C. Sutton Treasurer
-------------------------- (Principal Financial and
Peter C. Sutton Accounting Officer)
* Trustee
--------------------------
S. James Coppersmith
* Trustee
--------------------------
Samuel M. Eisenstat
* Trustee
--------------------------
Stephen J. Gutman
* Trustee
--------------------------
Sebastiano Sterpa
*By: /s/ Peter C. Sutton July 28, 2000
--------------------------
Attorney-in-Fact
Peter C. Sutton
<PAGE>
EXHIBIT LIST
(i) Opinion of Counsel to the Registrant.
(j) Consent of Independent Accountants.
(p) Code of Ethics.
