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PART B
STATEMENT OF ADDITIONAL INFORMATION
INSTITUTIONAL SHARES
INCOME STRATEGY PORTFOLIO
GROWTH AND INCOME STRATEGY PORTFOLIO
GROWTH STRATEGY PORTFOLIO
AGGRESSIVE GROWTH STRATEGY PORTFOLIO
(EACH A PORTFOLIO OF GOLDMAN SACHS TRUST))
One New York Plaza
New York, New York 10004
This Statement of Additional Information (the "Additional Statement") is
not a Prospectus. This Additional Statement should be read in conjunction with
the prospectus for the Goldman Sachs Income Strategy Portfolio, Growth and
Income Strategy Portfolio, Growth Strategy Portfolio and Aggressive Growth
Strategy Portfolio dated January 1, 1998 as amended and/or supplemented from
time to time (the "Prospectus"), which may be obtained without charge from
Goldman, Sachs & Co. by calling the telephone number, or writing to one of the
addresses, listed below. Capitalized terms used but not defined in this
Additional Statement have the same meanings as in the Prospectus.
TABLE OF CONTENTS
Page
====
Introduction.......................... B-4
Investment Objectives and Policies.... B-5
Investment Restrictions............... B-72
Management............................ B-75
Portfolio Transactions and Brokerage.. B-89
Net Asset Value....................... B-91
Performance Information............... B-94
Shares of the Trust................... B-99
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Taxation.............................. B-104
Other Information..................... B-110
Appendix A............................ 1-A
Appendix B............................ 1-B
The date of this Additional Statement is January 1, 1998.
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GOLDMAN SACHS
ASSET MANAGEMENT
Investment Adviser
One New York Plaza
New York, New York 10004
GOLDMAN, SACHS & CO.
Distributor
85 Broad Street
New York, New York 10004
GOLDMAN, SACHS & CO.
Transfer Agent
4900 Sears Tower
Chicago, Illinois 60606
Toll free (in U.S.).......800-621-2550
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INTRODUCTION
Goldman Sachs Trust (the "Trust") is an open-end management investment
company. The Trust is a successor to a Massachusetts business trust that was
merged with the Trust on April 30, 1997. The Trust assumed its current name on
March 22, 1991. The Trustees of the Trust have authority under the Declaration
of Trust to create and classify shares into separate series and to classify and
reclassify any series of shares into one or more classes without further action
by shareholders. Pursuant thereto, the Trustees have created the following
series, among others: Income Strategy Portfolio, Growth and Income Strategy
Portfolio, Growth Strategy Portfolio and Aggressive Growth Strategy Portfolio
and 42 other series of shares. Income Strategy Portfolio, Growth and Income
Strategy Portfolio, Growth Strategy Portfolio and Aggressive Growth Strategy
Portfolio are each sometimes referred to herein as a "Portfolio" and
collectively as the "Portfolios." Each Portfolio is each authorized to issue
five classes of shares: Institutional Shares, Service Shares, Class A Shares,
Class B Shares and Class C Shares. Additional series and classes may be added in
the future from time to time.
Each Portfolio is a separately managed, diversified mutual fund with its
own investment objective and policies. Each Portfolio has been constructed as a
"fund of funds," which means that it pursues its investment objective primarily
by allocating its investments among other investment portfolios of the Trust
(the "Underlying Funds").
Goldman Sachs Asset Management ("GSAM"), a separate operating division of
Goldman, Sachs & Co. ("Goldman Sachs"), serves as investment adviser to each
Portfolio. GSAM is sometimes referred to herein as the "Adviser." Goldman
Sachs serves as each Portfolio's distributor and transfer agent. Each
Portfolio's custodian is State Street Bank and Trust Company ("State Street").
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INVESTMENT OBJECTIVES AND POLICIES
Normally, each of the Portfolios will be predominantly invested in shares
of the Underlying Funds. The value of the Underlying Funds' investments, and
the net asset value of the shares of both the Underlying Funds and the
Portfolios will fluctuate with market, economic and, to the extent applicable,
foreign exchange conditions, so that an investment in any of the Portfolios may
be worth more or less when redeemed than when purchased. The following
description provides additional information regarding the Underlying Funds and
the types of investments that the Underlying Funds may make. As stated in the
Portfolios' Prospectus, the Portfolios may invest a portion of their assets in
high quality, short-term debt obligations. These obligations are also described
below in this section. Further information about the Underlying Funds and their
respective investment objectives and policies is included in their Prospectuses
and Additional Statements. There is no assurance that any Portfolio or
Underlying Fund will achieve its objective.
A. DESCRIPTION OF UNDERLYING FUNDS
ADJUSTABLE RATE GOVERNMENT FUND
Objective. This Fund seeks to provide investors with a high level of
---------
current income, consistent with low volatility of principal.
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be in a range approximately equal to that of a six-month to one-year
U.S. Treasury security. In addition, under normal interest rate conditions, the
Fund's maximum duration will not exceed two years. The approximate interest rate
sensitivity of the Fund is expected to be comparable to a nine-month note.
Investment Sector. This Fund invests, under normal circumstances, at least
-----------------
65% of its total assets in U.S. Government Securities that are adjustable rate
mortgage pass-through securities and other U.S. Government Securities. The
remainder of the Fund's assets (up to 35%) may be invested in other U.S.
Government Securities, including mortgage pass-through securities, other
securities representing an interest in or collateralized by mortgage loans
("Mortgage-Backed Securities") and repurchase agreements collateralized by U.S.
Government Securities. Substantially all of the Fund's assets will be invested
in U.S. Government Securities. 100% of the Fund's portfolio will be invested in
U.S. dollar-denominated securities.
Credit Quality. This Fund invests in U.S. Government Securities and
--------------
repurchase agreements collateralized by such securities.
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Other. This Fund may employ certain active management techniques to manage
-----
its duration and term structure and to seek to enhance returns. These techniques
include, but are not limited to, the use of financial futures contracts, option
contracts (including options on futures), mortgage and interest rate swaps and
interest rate floors, caps and collars. The Fund may also employ other
investment techniques to seek to enhance returns, such as lending portfolio
securities and entering into mortgage dollar rolls, repurchase agreements and
other investment practices.
SHORT DURATION GOVERNMENT FUND
Objective. This Fund seeks to provide a high level of current income.
---------
Secondarily, the Fund may, in seeking current income, also consider the
potential for capital appreciation.
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be equal to that of the Fund's benchmark, the two-year U.S. Treasury
security, plus or minus .5 years. In addition, under normal interest rate
conditions, the Fund's maximum duration will not exceed three years. The
approximate interest rate sensitivity of the Fund is expected to be comparable
to a two-year bond.
Investment Sector. This Fund invests, under normal market conditions, at
-----------------
least 65% of its total assets in U.S. Government Securities and in repurchase
agreements collateralized by such securities. Substantially all of the Fund's
assets will be invested in U.S. Government Securities. 100% of the Fund's
portfolio will be invested in U.S. dollar-denominated securities.
Credit Quality. This Fund invests in U.S. Government Securities and
--------------
repurchase agreements collateralized by such securities.
Other. This Fund may employ certain active management techniques to manage
-----
its duration and term structure and to seek to enhance returns. These techniques
include, but are not limited to, the use of financial futures contracts, option
contracts (including options on futures), mortgage and interest rate swaps and
interest rate floors, caps and collars. The Fund may also employ other
investment techniques to seek to enhance returns, such as lending portfolio
securities and entering into mortgage dollar rolls, repurchase agreements and
other investment practices.
GOVERNMENT INCOME FUND
Objective. This Fund seeks to provide investors with a high level of
---------
current income, consistent with safety of principal.
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be equal to that of the Fund's benchmark,
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the Lehman Brothers Mutual Fund Government/Mortgage Index, plus or minus one
year. In addition, under normal interest rate conditions, the Fund's maximum
duration will not exceed six years. The approximate interest rate sensitivity
of the Fund is expected to be comparable to a five-year bond.
Investment Sector. This Fund invests, under normal circumstances, at least
-----------------
65% of its total assets in U.S. Government Securities and in repurchase
agreements collateralized by such securities. The remainder of the Fund's
assets may be invested in non-government securities such as privately issued
Mortgage-Backed Securities, Asset-Backed Securities and corporate securities.
100% of the Fund's portfolio will be invested in U.S. dollar-denominated
securities.
Credit Quality. This Fund's non-U.S. Government Securities will be rated,
--------------
at the time of investment, AAA or Aaa by an NRSRO or, if unrated, will be
determined by the Fund's investment adviser to be of comparable quality.
Other. This Fund may employ certain active management techniques to manage
-----
its duration and term structure and to seek to enhance returns. These techniques
include, but are not limited to, the use of financial futures contracts, option
contracts (including options on futures), mortgage and interest rate swaps and
interest rate floors, caps and collars. The Fund may also employ other
investment techniques to seek to enhance returns, such as lending portfolio
securities and entering into mortgage dollar rolls, repurchase agreements and
other investment practices.
Core FIXED INCOME FUND
Objective. This Fund seeks to provide investors with a total return
---------
consisting of capital appreciation and income that exceeds the total return of
the Lehman Brothers Aggregate Bond Index (the "Index").
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be equal to that of the Fund's benchmark, the Lehman Brothers
Aggregate Bond Index, plus or minus one year. In addition, under normal interest
rate conditions, the Fund's maximum duration will not exceed six years. The
approximate interest rate sensitivity of the Fund is expected to be comparable
to a five-year bond.
Investment Sector. This Fund invests, under normal circumstances, at least
-----------------
65% of its total assets in fixed-income securities, including U.S. Government
Securities, corporate debt securities, Mortgage-Backed Securities, and Asset-
Backed Securities. The Fund may invest up to 25% of its total assets in
obligations of domestic and foreign issuers which are denominated in currencies
other than the U.S. dollar, 10% of which may be invested in issuers in countries
with emerging markets and
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economies. A number of investment strategies will be used to achieve the Fund's
investment objective, including market sector selection, determination of yield
curve exposure, and issuer selection. In addition, the Investment Adviser will
attempt to take advantage of pricing inefficiencies in the fixed-income markets.
The Index currently includes U.S. Government Securities and fixed-rate,
publicly issued, U.S. dollar-denominated fixed-income securities rated at least
BBB or Baa or in their equivalent ratings category by S&P or Moody's. The
securities currently included in the Index have at least one year remaining to
maturity; have an outstanding principal amount of at least $100 million; and are
issued by the following types of issuers, with each category receiving a
different weighting in the Index: U.S. Treasury; agencies, authorities or
instrumentalities of the U.S. government; issuers of Mortgage-Backed Securities;
utilities; industrial issuers; financial institutions; foreign issuers; and
issuers of Asset-Backed Securities. The Index is a trademark of Lehman
Brothers. Inclusion of a security in the Index does not imply an opinion by
Lehman Brothers as to its attractiveness or appropriateness for investment.
Although Lehman Brothers obtains factual information used in connection with the
Index from sources which it considers reliable, Lehman Brothers claims no
responsibility for the accuracy, completeness or timeliness of such information
and has no liability to any person for any loss arising from results obtained
from the use of the Index data.
Credit Quality. All U.S. dollar-denominated fixed-income securities
--------------
purchased by the Fund will be rated, at the time of investment, at least BBB or
Baa by an NRSRO. The non-U.S. dollar-denominated fixed-income securities in
which the Fund may invest will be rated, at the time of investment, at least AA
or Aa by an NRSRO. Unrated securities will be determined to be of comparable
quality by the Fund's investment adviser. Fixed-income securities rated BBB or
Baa are considered medium-grade obligations with speculative characteristics,
and adverse economic conditions or changing circumstances may weaken their
issuers' capability to pay interest and repay principal.
Other. This Fund may employ certain active management techniques to manage
-----
its duration and term structure, to seek to hedge its exposure to foreign
currencies and to seek to enhance returns. These techniques include, but are not
limited to, the use of financial futures contracts, option contracts (including
options on futures), forward foreign currency exchange contracts, currency
options and futures, currency, mortgage and interest rate swaps and interest
rate floors, caps and collars. Currency management techniques involve risks
different from those associated with investing solely in U.S. dollar-denominated
fixed-income securities of U.S. issuers. It is expected that the Fund will use
certain currency techniques to seek to hedge against currency exchange rate
fluctuations or to seek to increase total
B-8
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return. The Fund may invest in custodial receipts, Municipal Securities and
convertible securities. The Fund may also employ other investment techniques to
seek to enhance returns, such as lending portfolio securities and entering into
mortgage dollar rolls, repurchase agreements and other investment practices.
GLOBAL INCOME FUND
Objective. This Fund seeks to provide investors with a high total return,
---------
emphasizing current income, and, to a lesser extent, providing opportunities for
capital appreciation.
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be equal to that of the Fund's benchmark, the J.P. Morgan Global
Government Bond Index (hedged), plus or minus 2.5 years. In addition, under
normal interest rate conditions, the Fund's maximum duration will not exceed 7.5
years. The approximate interest rate sensitivity of the Fund is expected to be
comparable to a six-year bond.
Investment Sector. The Fund invests primarily in a portfolio of investment
-----------------
grade fixed-income securities of U.S. and foreign issuers and enters into
transactions in foreign currencies. Under normal market conditions, the Fund
will (i) have at least 30% of its total assets, after considering the effect of
currency positions, denominated in U.S. dollars and (ii) invest in securities of
issuers in at least three countries. The Fund may also invest up to 10% of its
total assets in issuers in countries with emerging markets and economies. The
Fund seeks to meet its investment objective by pursuing investment opportunities
in foreign and domestic fixed-income securities markets and by engaging in
currency transactions to seek to enhance returns and to seek to hedge its
portfolio against currency exchange rate fluctuations.
The fixed-income securities in which the Fund may invest include: (i) U.S.
Government Securities and custodial receipts therefor; (ii) securities issued or
guaranteed by a foreign government or any of its political subdivisions,
authorities, agencies, instrumentalities or by supranational entities (i.e.,
international organizations designated or supported by governmental entities to
promote economic reconstruction or development, such as the World Bank); (iii)
corporate debt securities; (iv) certificates of deposit and bankers' acceptances
issued or guaranteed by, or time deposits maintained at, U.S. or foreign banks
(and their branches wherever located) having total assets of more than $1
billion; (v) commercial paper; and (vi) Mortgage-Backed and Asset-Backed
Securities.
Credit Quality. All securities purchased by the Fund will be rated, at the
--------------
time of investment, at least BBB or Baa by an NRSRO.
B-9
<PAGE>
The Fund will invest at least 50% of its total assets in securities rated, at
the time of investment, or Aaa by an NRSRO. Unrated securities will be
determined to be of comparable quality by the Fund's investment adviser. Fixed
income securities rated BBB or Baa are considered medium-grade obligations with
speculative characteristics and adverse economic conditions or changing
circumstances may weaken their issuers' capacity to pay interest and repay
principal.
Other. This Fund may employ certain active management techniques to manage
-----
the duration and term structure of the Fund, to seek to hedge its exposure to
foreign currencies and to seek to enhance returns. These techniques include,
but are not limited to, the use of financial futures contracts, option contracts
(including options on futures), forward foreign currency exchange contracts,
currency options and futures, currency, mortgage and interest rate swaps and
interest rate floors, caps and collars. Currency and interest rate management
techniques involve risks different from those associated with investing solely
in U.S. dollar-denominated fixed-income securities of U.S. issuers. It is
expected that the Fund will use certain currency techniques to seek to hedge
against currency exchange rate fluctuations or to seek to increase total return.
While the Fund will have both long and short currency positions, its net long
and short foreign currency exposure will not exceed the value of the Fund's
total assets. To the extent that the Fund is fully invested in foreign
securities while also maintaining currency positions, it may be exposed to
greater combined risk. The Fund's net currency positions may expose it to risks
independent of its securities positions. The Fund may also employ other
investment techniques to seek to enhance returns, such as lending portfolio
securities and entering into mortgage dollar rolls, repurchase agreements and
other investment practices.
The Fund may invest more than 25% of its total assets in the securities of
corporate and governmental issuers located in each of Canada, Germany, Japan,
and the United Kingdom as well as in the securities of U.S. issuers.
Concentration of the Fund's investments in such issuers will subject the Fund,
to a greater extent than if investment was more limited, to the risks of adverse
securities markets, exchange rates and social, political or economic events
which may occur in those countries. Not more than 25% of the Fund's total assets
will be invested in securities of issuers in any other single foreign country.
HIGH YIELD FUND
Objective. This Fund seeks to provide investors with a high level of
---------
current income. Secondarily, the Fund may, in seeking current income, also
consider the potential for capital appreciation.
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be equal to that of the Fund's benchmark, the Lehman Brothers High
Yield Bond Index, plus or minus 2.5 years. In addition, under normal interest
rate conditions, the Fund's maximum duration will not exceed 7.5 years. The
approximate
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<PAGE>
interest rate sensitivity of the Fund is expected to be comparable to a 6-year
bond.
Investment Sector. This Fund invests, under normal circumstances, at least
-----------------
65% of its total assets in high yield, fixed-income securities rated, at the
time of investment, below investment grade. Non-investment grade securities are
securities rated BB, Ba or below by or, if unrated, determined by the investment
adviser to be of comparable quality. The Fund may invest in all types of fixed-
income securities, including senior and subordinated corporate debt obligations
(such as bonds, debentures, notes and commercial paper), convertible and non-
convertible corporate debt obligations, loan participations and preferred stock.
The Fund may invest up to 25% of its total assets in obligations of domestic and
foreign issuers (including securities of issuers located in countries with
emerging markets and economies) which are denominated in currencies other than
the U.S. dollar. Under normal market conditions, the Fund may invest up to 35%
of its total assets in investment grade fixed-income securities, including U.S.
Government Securities, Asset-Backed and Mortgage-Backed Securities and corporate
securities. The Fund may also invest in common stocks, warrants, rights and
other equity securities, but will generally hold such equity investments only
when debt or preferred stock of the issuer of such equity securities is held by
the Fund. A number of investment strategies are used to seek to achieve the
Fund's investment objective, including market sector selection, determination of
yield curve exposure, and issuer selection. In addition, the Fund's investment
adviser will attempt to take advantage of pricing inefficiencies in the fixed-
income markets.
Credit Quality. This Fund invests primarily in high yield, fixed income
--------------
securities rated below investment grade, including securities of issuers in
default. Non-investment grade securities (commonly known as "junk bonds") tend
to offer higher yields than higher rated securities with similar maturities.
Non-investment grade securities are, however, considered speculative and
generally involve greater price volatility and greater risk of loss of principal
and interest than higher rated securities. See "Description of Securities." A
description of the corporate bond and preferred stock ratings is contained in
Appendix A to this Additional Statement.
Other. This Fund may employ certain active management techniques to manage
-----
its duration and term structure, to seek to hedge its exposure to foreign
securities and to seek to enhance returns. These techniques include, but are not
limited to, the use of financial futures contracts, option contracts (including
options on futures), forward foreign currency exchange contracts, currency
options and futures, currency, mortgage and interest rate swaps, and interest
rate floors, caps and collars. Currency and
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<PAGE>
interest rate management techniques involve risks different from those
associated with investing solely in U.S. dollar-denominated fixed-income
securities of U.S. issuers. It is expected that the Fund will use certain
currency techniques to seek to hedge against currency exchange rate fluctuations
or to seek to increase total return. The Fund may also employ other investment
techniques to seek to enhance returns, such as lending portfolio securities and
entering into repurchase agreements and other investment practices.
GROWTH AND INCOME FUND
Objectives. This Fund seeks to provide investors with long-term growth of
----------
capital and growth of income.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 65% of its total assets in equity securities that its investment
adviser considers to have favorable prospects for capital appreciation and/or
dividend-paying ability.
Other. This Fund may invest up to 35% of its total assets in fixed income
-----
securities that, in the opinion of its investment adviser, offer the potential
to further the Fund's investment objectives. In addition, although the Fund
will invest primarily in publicly traded U.S. securities, it may invest up to
25% of its total assets in foreign securities, including securities of issuers
in Emerging Countries and securities quoted in foreign currencies.
CORE U.S. EQUITY FUND (FORMERLY, THE "SELECT EQUITY FUND")
Objective. This Fund seeks to provide investors with long-term growth of
---------
capital and dividend income. The Fund seeks to achieve its objective through a
broadly diversified portfolio of large cap and blue chip equity securities
representing all major sectors of the U.S. economy.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 90% of its total assets in equity securities of U.S. issuers. The Fund
may invest in equity securities of foreign issuers that are traded in the United
States and that comply with U.S. accounting standards. The Fund's investments
are selected using both a variety of quantitative techniques and fundamental
research in seeking to maximize the Fund's expected return, while maintaining
risk, style, capitalization and industry characteristics similar to the S&P 500
Index. The Fund seeks a broad representation in most major sectors of the U.S.
economy and a portfolio comprised of companies with average long-term earnings
growth expectations and dividend yields. The Fund may invest only in fixed
income securities that are considered cash equivalents.
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CORE LARGE CAP GROWTH FUND
Objective. This Fund seeks to provide investors with long-term growth of
---------
capital. The Fund seeks to achieve its objective through a broadly diversified
portfolio of equity securities of large cap U.S. issuers that are expected to
have better prospects for earnings growth than the growth rate of the general
domestic economy. Dividend income is a secondary consideration.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 90% of its total assets in equity securities of U.S. issuers, including
foreign issuers that are traded in the United States and that comply with U.S.
accounting standards. The Fund's investment adviser emphasizes a company's
growth prospects in analyzing equity securities to be purchased by the Fund.
The Fund's investments are selected using both a variety of quantitative
techniques and fundamental research in seeking to maximize the Fund's expected
return, while maintaining risk, style, capitalization and industry
characteristics similar to the Russell 1000 Growth Index. The Fund seeks a
portfolio comprised of companies with above average capitalizations and earnings
growth expectations and below average dividend yields. The Fund may invest only
in fixed income securities that are considered cash equivalents.
CORE SMALL CAP EQUITY FUND
Objective. This Fund seeks to provide investors with long-term growth of
---------
capital. The Fund seeks to achieve its objective through a broadly diversified
portfolio of equity securities of U.S. issuers which are included in the Russell
2000 Index at the time of investment.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 90% of its total assets in equity securities of U.S. issuers, including
foreign issuers that are traded in the United States and that comply with U.S.
accounting standards. The Fund's investments are selected using both a variety
of quantitative techniques and fundamental research in seeking to maximize the
Fund's expected return, while maintaining risk, style, capitalization and
industry characteristics similar to the Russell 2000 Index. The Fund seeks a
portfolio comprised of companies with small market capitalizations, strong
expected earnings growth and momentum, and better valuation and risk
characteristics than the Russell 2000 Index. The Fund may invest only in fixed
income securities that are considered cash equivalents.
The Fund's investment adviser believes that companies in which the Fund may
invest offer greater opportunity for growth of capital than larger, more mature,
better known companies. Investments in small market capitalization issuers
involve special risks. If the
B-13
<PAGE>
issuer of a portfolio security held by the Fund is no longer included in the
Russell 2000 Index, the Fund may, but is not required to, sell the security.
CORE INTERNATIONAL EQUITY FUND
Objective. This Fund seeks to provide investors with long-term growth of
---------
capital. The Fund seeks to achieve its objective through a broadly diversified
portfolio of large cap equity securities of companies that are organized outside
the United States or whose securities are primarily traded outside the United
States.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 90% of its total assets in equity securities of companies that are
organized outside the United States or whose securities are principally traded
outside the United States. The Fund seeks broad representation of large cap
issuers across major countries and sectors of the international economy. The
Fund's investments are selected using both a variety of quantitative techniques
and fundamental research in seeking to maximize the Fund's expected return,
while maintaining a risk profile similar to EAFE Index. The Fund's portfolio is
designed to have risk, style, capitalization and industry characteristics
similar to the EAFE Index. In addition, the Fund seeks a portfolio comprised of
companies with attractive valuations and stronger momentum characteristics than
the EAFE Index.
The Fund may allocate its assets among countries as determined by its
investment adviser from time to time, provided the Fund's assets are invested in
at least three foreign countries. The Fund may invest in securities of issuers
in Emerging Countries which involve certain risks. The Fund may invest only in
fixed income securities that are considered to be cash equivalents.
Other. The Fund may employ certain currency techniques to seek to hedge
-----
against currency exchange rate fluctuations or to seek to increase total return.
When used to seek to enhance return, these management techniques are considered
speculative. Such currency management techniques involve risks different from
those associated with investing solely in securities of U.S. issuers quoted in
U.S. dollars. To the extent that the Fund is fully invested in foreign
securities while also maintaining currency positions, it may be exposed to
greater combined risk. The Fund's net currency positions may expose it to risks
independent of its securities positions. See "Description of Securities,"
"Investment Techniques" and "Risk Factors."
CAPITAL GROWTH FUND
Objective. This Fund seeks to provide investors with long-term growth of
---------
capital.
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Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 90% of its total assets in equity securities. The Fund seeks to
achieve its investment objective by investing in a diversified portfolio of
equity securities that are considered by its investment adviser to have long-
term capital appreciation potential.
Other. Although this Fund will invest primarily in publicly traded U.S.
-----
securities, it may invest up to 10% of its total assets in foreign securities,
including securities of issuers in Emerging Countries and securities quoted in
foreign currencies.
MID CAP EQUITY FUND
Objective. This Fund seeks to provide investors with long-term capital
---------
appreciation.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
substantially all of its assets in equity securities and at least 65% of its
total assets in equity securities of Mid Cap Companies with public stock market
capitalizations (based upon shares available for trading on an unrestricted
basis) of between $500 million and $10 billion at the time of investment. If
the company's capitalization of an issuer increases above $10 billion after
purchase of such issuer's securities, the Fund may, but is not required to, sell
the securities. Dividend income, if any, is an incidental consideration.
Other. This Fund may invest up to 35% of its total assets in fixed income
-----
securities. In addition, although the Fund will invest primarily in publicly
traded U.S. securities, it may invest up to 25% of its total assets in foreign
securities, including securities of issuers in Emerging Countries and securities
quoted in foreign currencies.
INTERNATIONAL EQUITY FUND
Objective. This Fund seeks to provide investors with long-term capital
---------
appreciation.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
substantially all, and at least 65%, of its total assets in equity securities of
companies that are organized outside the United States or whose securities are
principally traded outside the United States. The Fund may allocate its assets
among countries as determined by its investment adviser from time to time
provided that the Fund's assets are invested in at least three foreign
countries. The Fund expects to invest a substantial portion of its assets in the
securities of issuers located in the developed countries of Western Europe and
in Japan. However, the Fund may also invest in the securities of issuers located
in Australia, Canada, New Zealand and the Emerging Countries in which
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<PAGE>
the Emerging Markets Equity Fund may invest. Many of the countries in which the
Fund may invest have emerging markets or economies which involve certain risks
that are not present in investments in more developed countries.
Other. This Fund may employ certain currency techniques to seek to hedge
-----
against currency exchange rate fluctuations or to seek to increase total return.
When used to seek to enhance return, these management techniques are considered
speculative. Such currency management techniques involve risks different from
those associated with investing solely in securities of U.S. issuers quoted in
U.S. dollars. To the extent that the Fund is fully invested in foreign
securities while also maintaining currency positions, it may be exposed to
greater combined risk. The Fund's net currency positions may expose it to risks
independent of its securities positions. Up to 35% of the Fund's total assets
may be invested in fixed income securities.
SMALL CAP VALUE FUND (FORMERLY, THE "SMALL CAP EQUITY FUND")
Objective. This Fund seeks to provide investors with long-term capital
---------
growth.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 65% of its total assets in equity securities of companies with public
stock market capitalizations of $1 billion or less at the time of investment.
However, the Fund currently emphasizes investments in companies with public
stock market capitalizations of $500 million or less at the time of investment.
Under normal circumstances, the Fund's investment horizon for ownership of
stocks will be two to three years. Dividend income, if any, is an incidental
consideration.
Small Capitalization Companies. This Fund invests in companies which its
------------------------------
investment adviser believes are well managed niche businesses that have the
potential to achieve high or improving returns on capital and/or above average
sustainable growth. The Fund may invest in securities of small market
capitalization companies which may have experienced financial difficulties.
Investments may also be made in companies that are in the early stages of their
life and that the Fund's investment adviser believes have significant growth
potential. The investment adviser believes that the companies in which the Fund
may invest offer greater opportunity for growth of capital than larger, more
mature, better known companies. However, investments in such small market
capitalization companies involve special risks.
Other. This Fund may invest in the aggregate up to 35% of its total assets
-----
in the equity securities of companies with public stock market capitalizations
in excess of $1 billion and in fixed income securities. In addition, although
the Fund will invest primarily in publicly traded U.S. securities, it may invest
up to
B-16
<PAGE>
25% of its total assets in foreign securities, including securities of issuers
in Emerging Countries and securities quoted in foreign currencies.
EMERGING MARKETS EQUITY FUND
Objective. This Fund seeks to provide investors with long-term capital
---------
appreciation.
Primary Investment Focus. This Fund invests, under normal market
------------------------
circumstances, substantially all, and at least 65%, of its total assets in
equity securities of Emerging Country issuers. For purposes of the Fund's
investment policies, Emerging Countries are countries with economies or
securities markets that are considered by the Fund's investment adviser not to
be fully developed. The investment adviser may consider classifications by the
World Bank, the International Finance Corporation or the United Nations and its
agencies in determining whether a country is emerging or developed. Currently,
Emerging Countries include among others, most Latin American, African, Asian and
Eastern European nations. The Fund's investment adviser currently intends that
the Fund's investment focus will be in the following Emerging Countries:
Argentina, Botswana, Brazil, Chile, China, Colombia, the Czech Republic, Egypt,
Greece, Hong Kong, Hungary, India, Indonesia, Israel, Jordan, Kenya, Malaysia,
Mexico, Morocco, Pakistan, Peru, the Philippines, Poland, Portugal, Russia,
Singapore, South Africa, South Korea, Sri Lanka, Taiwan, Thailand, Turkey,
Venezuela and Zimbabwe.
An Emerging Country issuer is any entity that satisfies at least one of the
following criteria: (i) it derives 50% or more of its total revenue from goods
produced, sales made or services performed in one or more Emerging Countries,
(ii) it is organized under the laws of, or has a principal office in, an
Emerging Country, (iii) it maintains 50% or more of its assets in one or more of
the Emerging Countries or (iv) the principal securities trading market for a
class of its securities is in an Emerging Country.
Investments in Emerging Countries involve certain risks which are not
present in investments in more developed countries. The Fund may purchase
privately placed equity securities, equity securities of companies that are in
the process of being privatized by foreign governments, securities of issuers
that have not paid dividends on a timely basis, equity securities of issuers
that have experienced difficulties, and securities of companies without
performance records.
Other. This Fund may employ certain currency management techniques to seek
-----
to hedge against currency exchange rate fluctuations or to seek to increase
total return. When used to seek to enhance return, these management techniques
are considered
B-17
<PAGE>
speculative. Such currency management techniques involve risks different from
those associated with investing solely in securities of U.S. issuers quoted in
U.S. dollars. To the extent that the Fund is fully invested in foreign
securities while also maintaining currency positions, it may be exposed to
greater combined risk. The Fund's net currency positions may expose it to risks
independent of its securities positions.
Under normal circumstances, this Fund maintains investments in at least six
Emerging Countries and will not invest more than 35% of its total assets in
securities of issuers in any one Emerging Country. Allocation of the Fund's
investments will depend upon the relative attractiveness of the Emerging Country
markets and particular issuers. In addition, macro-economic factors and the
portfolio manager's and Goldman Sachs economists' views of the relative
attractiveness of Emerging Countries and currencies are considered in allocating
the Fund's assets among Emerging Countries. Concentration of the Fund's assets
in one or a few Emerging Countries and currencies will subject the Fund to
greater risks than if the Fund's assets were not geographically concentrated.
The Fund may invest in the aggregate up to 35% of its total assets in (i) fixed
income securities of private and governmental Emerging Country issuers, (ii)
equity and fixed income securities of issuers in developed countries and (iii)
temporary investments.
ASIA GROWTH FUND
Objective. This Fund seeks to provide investors with long-term capital
---------
appreciation.
Primary Investment Focus. This Fund invests, under normal market
------------------------
circumstances, substantially all, and at least 65%, of its total assets in
equity securities of companies that satisfy at least one of the following
criteria: (i) their securities are traded principally on stock exchanges in one
or more of the Asian countries; (ii) they derive 50% or more of their total
revenue from goods produced, sales made or services performed in one or more of
the Asian countries; (iii) they maintain 50% or more of their assets in one or
more of the Asian countries; or (iv) they are organized under the laws of one of
the Asian countries. The Fund seeks to achieve its objective by investing
primarily in equity securities of Asian companies which are considered by the
Fund's investment adviser to have long-term capital appreciation potential.
Many of the countries in which the Fund may invest have emerging markets or
economies which involve certain risks which are not present in investments in
more developed countries. The Fund may purchase equity securities of issuers
that have not paid dividends on a timely basis, securities of companies that
have experienced difficulties, and securities of companies without performance
records.
B-18
<PAGE>
Other. This Fund may employ certain currency management techniques to seek
-----
to hedge against currency exchange rate fluctuations or to seek to increase
total return. When used to seek to enhance return, these management techniques
are considered speculative. Such currency management techniques involve risks
different from those associated with investing solely in securities of U.S.
issuers quoted in U.S. dollars. To the extent that the Fund is fully invested
in foreign securities while also maintaining currency positions, it may be
exposed to greater combined risk. The Fund's net currency positions may expose
it to risks independent of its securities positions.
This Fund may allocate its assets among the Asian countries as determined
from time to time by its investment adviser. For purposes of the Fund's
investment policies, Asian countries are China, Hong Kong, India, Indonesia,
Malaysia, Pakistan, the Philippines, Singapore, South Korea, Sri Lanka, Taiwan
and Thailand as well as any other country in Asia (other than Japan) to the
extent that foreign investors are permitted by applicable law to make such
investments. Allocation of the Fund's investments will depend upon the relative
attractiveness of the Asian markets and particular issuers. Concentration of
the Fund's assets in one or a few of the Asian countries and Asian currencies
will subject the Fund to greater risks than if the Fund's assets were not
geographically concentrated. The Fund may invest in the aggregate up to 35% of
its total assets in equity securities of issuers in other countries, including
Japan, and in fixed income securities.
REAL ESTATE SECURITIES FUND
Objective. This Fund seeks to provide investors with total return
---------
comprised of long-term growth of capital and dividend income.
Primary Investment Focus. This Fund will invest, under normal
------------------------
circumstances, substantially all, and at least 80% of its total assets in
issuers that are primarily engaged in or related to the real estate industry.
The Fund seeks to achieve its investment objective by investing in a diversified
portfolio of equity securities of REITs and other real estate industry
companies. A "real estate industry company" is a company that derives at least
50% of its gross revenues or net profits from the ownership, development,
construction, financing, management or sale of commercial, industrial or
residential real estate or interests therein.
Other. Under normal circumstances, this Fund may invest up to 20% of its
-----
total assets in fixed income securities that, in the opinion of its investment
adviser, offer the potential to further the Fund's investment objectives. In
addition, although the Fund will invest primarily in publicly traded U.S.
securities, it may invest up to 5% of its net assets in foreign securities.
FINANCIAL SQUARE PRIME OBLIGATIONS FUND.
Objective. This Fund seeks to maximize current income to the extent
---------
consistent with the preservation of capital and the maintenance of liquidity by
investing exclusively in high quality money market instruments.
Primary Investment Focus. This Fund invests in securities of the U.S.
------------------------
Government, its agencies, authorities and instrumentalities, obligations of U.S.
banks, commercial paper, and other short-term obligations of U.S. companies,
states, municipalities and other entities and repurchase agreements. Securities
purchased by the Fund will be determined by its investment adviser to present
minimal credit risks, and will have remaining maturities (as determined in
accordance with regulatory requirements) of 13 months or less at the time of
purchase. The dollar-weighted average maturity of the Fund will not exceed 90
days.
Other. The investments of this Fund are limited by regulations applicable
-----
to money market funds as described in its Prospectus, and do not include many of
the types of investments discussed below that are permitted for the other
Underlying Funds. Although this Fund attempts to maintain a stable net asset
value of $1.00 per
B-19
<PAGE>
share, there is no assurance that it will be able to do so on a continuous
basis. Like investments in the other Underlying Funds, an investment in this
Fund is neither insured nor guaranteed by the U.S. Government or any
governmental authority.
B. DESCRIPTION OF INVESTMENT SECURITIES AND PRACTICES
CORPORATE DEBT OBLIGATIONS
Each Underlying Fund (other than the Adjustable Rate Government and Short
Duration Government Funds) may, under normal market conditions, invest in
corporate debt obligations, including obligations of industrial, utility and
financial issuers. CORE U.S. Equity, CORE Large Cap Growth, CORE Small Cap
Equity and CORE International Equity Funds may only invest in debt securities
that are cash equivalents. Corporate debt obligations are subject to the risk of
an issuer's inability to meet principal and interest payments on the obligations
and may also be subject to price volatility due to such factors as market
interest rates, market perception of the creditworthiness of the issuer and
general market liquidity.
Fixed income securities rated BBB or Baa are considered medium-grade
obligations with speculative characteristics, and adverse economic conditions or
changing circumstances may weaken their issuers' capacity to pay interest and
repay principal. Medium to lower rated and comparable non-rated securities tend
to offer higher yields than higher rated securities with the same maturities
because the historical financial condition of the issuers of such securities may
not have been as strong as that of other issuers. Since medium to lower rated
securities generally involve greater risks of loss of income and principal than
higher rated securities, investors should consider carefully the relative risks
associated with investment in securities which carry medium to lower ratings and
in comparable unrated securities. In addition to the risk of default, there are
the related costs of recovery on defaulted issues. The Funds' investment
advisers will attempt to reduce these risks through portfolio diversification
and by analysis of each issuer and its ability to make timely payments of income
and principal, as well as broad economic trends and corporate developments.
High Yield Securities. Bonds rated BB or below by Standard & Poor's
---------------------
Ratings Group (Standard & Poor's) or Ba or below by Moody's Investors Service,
Inc. ("Moody's") (or comparable rated and unrated securities) are commonly
referred to as "junk bonds" and are considered speculative; the ability of their
issuers to make principal and interest payments may be questionable. In some
cases, such bonds may be highly speculative, have poor prospects for reaching
investment grade standing and be in default. As a result, investment in such
bonds will entail greater risks than those associated with investment grade
bonds (i.e., bonds rated
B-20
<PAGE>
AAA, AA, A or BBB by Standard and Poor's or Aaa, Aa, A or Baa by Moody's).
Analysis of the creditworthiness of issuers of high yield securities may be more
complex than for issuers of higher quality debt securities, and the ability of
an Underlying Fund to achieve its investment objective may, to the extent of its
investments in high yield securities, be more dependent upon such
creditworthiness analysis than would be the case if the Fund were investing in
higher quality securities. See Appendix A to this Additional Statement for a
description of the corporate bond and preferred stock ratings by Standard &
Poor's, Moody's, Fitch Investors Service Corp. and Duff & Phelps.
The amount of high yield, fixed income securities proliferated in the 1980s
and early 1990s as a result of increased merger and acquisition and leveraged
buyout activity. Such securities are also issued by less-established
corporations desiring to expand. Risks associated with acquiring the securities
of such issuers generally are greater than is the case with higher rated
securities because such issuers are often less creditworthy companies or are
highly leveraged and generally less able than more established or less leveraged
entities to make scheduled payments of principal and interest.
The market values of high yield, fixed income securities tends to reflect
those individual corporate developments to a greater extent than do those of
higher rated securities, which react primarily to fluctuations in the general
level of interest rates. Issuers of such high yield securities may not be able
to make use of more traditional methods of financing and their ability to
service debt obligations may be more adversely affected than issuers of higher
rated securities by economic downturns, specific corporate developments or the
issuers' inability to meet specific projected business forecasts. These non-
investment grade securities also tend to be more sensitive to economic
conditions than higher-rated securities. Negative publicity about the junk bond
market and investor perceptions regarding lower-rated securities, whether or not
based on fundamental analysis, may depress the prices for such securities.
Since investors generally perceive that there are greater risks associated
with non-investment grade securities of the type in which the Underlying Funds
may invest, the yields and prices of such securities may tend to fluctuate more
than those for higher-rated securities. In the lower quality segments of the
fixed-income securities market, changes in perceptions of issuers'
creditworthiness tend to occur more frequently and in a more pronounced manner
than do changes in higher quality segments of the
fixed-income securities market, resulting in greater yield and price volatility.
Another factor which causes fluctuations in the prices of fixed-income
securities is the supply and demand for similarly
B-21
<PAGE>
rated securities. In addition, the prices of fixed-income securities fluctuate
in response to the general level of interest rates. Fluctuations in the prices
of portfolio securities subsequent to their acquisition will not affect cash
income from such securities but will be reflected in an Underlying Fund's net
asset value.
The risk of loss from default for the holders of high yield, fixed-income
securities is significantly greater than is the case for holders of other debt
securities because such high yield, fixed-income securities are generally
unsecured and are often subordinated to the rights of other creditors of the
issuers of such securities. Investment by an Underlying Fund in already
defaulted securities poses an additional risk of loss should nonpayment of
principal and interest continue in respect of such securities. Even if such
securities are held to maturity, recovery by a Fund of its initial investment
and any anticipated income or appreciation is uncertain. An Underlying Fund may
be required to liquidate other portfolio securities to satisfy the Fund's annual
distribution obligations in respect of accrued interest income on securities
which are subsequently written off, even though the Fund has not received any
cash payments of such interest.
The secondary market for high yield, fixed-income securities is
concentrated in relatively few markets and is dominated by institutional
investors, including mutual funds, insurance companies and other financial
institutions. Accordingly, the secondary market for such securities is not as
liquid as and is more volatile than the secondary market for higher-rated
securities. In addition, the trading volume for high-yield, fixed-income
securities is generally lower than that of higher rated securities and the
secondary market for high yield, fixed-income securities could contract under
adverse market or economic conditions independent of any specific adverse
changes in the condition of a particular issuer. These factors may have an
adverse effect on an Underlying Fund's ability to dispose of particular
portfolio investments. Prices realized upon the sale of such lower rated or
unrated securities, under these circumstances, may be less than the prices used
in calculating a Fund's net asset value. A less liquid secondary market also
may make it more difficult for a Fund to obtain precise valuations of the high
yield securities in its portfolio.
Certain proposed and recently enacted federal laws could adversely affect
the secondary market for high yield securities and the financial condition of
issuers of these securities. The form of proposed legislation and the
probability of such legislation being enacted is uncertain.
Non-investment grade or high-yield, fixed-income securities also present
risks based on payment expectations. High yield, fixed-income securities
frequently contain "call" or buy-back
B-22
<PAGE>
features which permit the issuer to call or repurchase the security from its
holder. If an issuer exercises such a "call option" and redeems the security, an
Underlying Fund may have to replace such security with a lower-yielding
security, resulting in a decreased return for investors. In addition, if an
Underlying Fund experiences unexpected net redemptions of its shares, it may be
forced to sell its higher-rated securities, resulting in a decline in the
overall credit quality of the Fund's portfolio and increasing the exposure of
the Fund to the risks of high yield securities. An Underlying Fund may also
incur additional expenses to the extent that it is required to seek recovery
upon a default in the payment of principal or interest on a portfolio security.
Credit ratings issued by credit rating agencies are designed to evaluate
the safety of principal and interest payments of rated securities. They do not,
however, evaluate the market value risk of non-investment grade securities and,
therefore, may not fully reflect the true risks of an investment. In addition,
credit rating agencies may or may not make timely changes in a rating to reflect
changes in the economy or in the conditions of the issuer that affect the market
value of the security. Consequently, credit ratings are used only as a
preliminary indicator of investment quality. Investments in non-investment
grade and comparable unrated obligations will be more dependent on the credit
analysis of an Underlying Fund's investment adviser than would be the case with
investments in investment-grade debt obligations. A Fund's investment adviser
employs its own credit research and analysis, which includes a study of existing
debt, capital structure, ability to service debt and to pay dividends, the
issuer's sensitivity to economic conditions, its operating history and the
current trend of earnings. The investment adviser monitors the investments in a
Fund's portfolio and evaluates whether to dispose of or to retain non-investment
grade and comparable unrated securities whose credit ratings or credit quality
may have changed.
Loan Participations. The High Yield Fund may invest in loan
-------------------
participations. Such loans must be to issuers in whose obligations the High
Yield Fund may invest. A loan participation is an interest in a loan to a U.S.
or foreign company or other borrower which is administered and sold by a
financial intermediary. In a typical corporate loan syndication, a number of
lenders, usually banks (co-lenders), lend a corporate borrower a specified sum
pursuant to the terms and conditions of a loan agreement. One of the co-lenders
usually agrees to act as the agent bank with respect to the loan.
Participation interests acquired by the High Yield Fund may take the form
of a direct or co-lending relationship with the corporate borrower, an
assignment of an interest in the loan by a co-lender or another participant, or
a participation in the seller's share of the loan. When the High Yield Fund
acts as co-lender in connection with a participation interest or when the
B-23
<PAGE>
High Yield Fund acquires certain participation interests, the High Yield Fund
will have direct recourse against the borrower if the borrower fails to pay
scheduled principal and interest. In cases where the High Yield Fund lacks
direct recourse, it will look to the agent bank to enforce appropriate credit
remedies against the borrower. In these cases, the High Yield Fund may be
subject to delays, expenses and risks that are greater than those that would
have been involved if the Fund had purchased a direct obligation (such as
commercial paper) of such borrower. For example, in the event of the bankruptcy
or insolvency of the corporate borrower, a loan participation may be subject to
certain defenses by the borrower as a result of improper conduct by the agent
bank. Moreover, under the terms of the loan participation, the High Yield Fund
may be regarded as a creditor of the agent bank (rather than of the underlying
corporate borrower), so that the High Yield Fund may also be subject to the risk
that the agent bank may become insolvent. The secondary market, if any, for
these loan participations is limited and any loan participations purchased by
the High Yield Fund will be regarded as illiquid.
For purposes of certain investment limitations pertaining to
diversification of the High Yield Fund's portfolio investments, the issuer of a
loan participation will be the underlying borrower. However, in cases where the
High Yield Fund does not have recourse directly against the borrower, both the
borrower and each agent bank and co-lender interposed between the High Yield
Fund and the borrower will be deemed issuers of a loan participation.
OBLIGATIONS OF THE UNITED STATES, ITS AGENCIES, INSTRUMENTALITIES AND SPONSORED
ENTERPRISES
Each Underlying Fund may invest in U.S. government securities ("U.S.
Government Securities"), which are obligations issued or guaranteed by the U.S.
government and its agencies, instrumentalities or sponsored enterprises. Some
U.S. Government Securities (such as Treasury bills, notes and bonds, which
differ only in their interest rates, maturities and times of issuance) are
supported by the full faith and credit of the United States of America. Others,
such as obligations issued or guaranteed by U.S. government agencies,
instrumentalities or sponsored enterprises, are supported either by (a) the
right of the issuer to borrow from the Treasury (such as securities of Federal
Home Loan Banks), (b) the discretionary authority of the U.S. government to
purchase the agency's obligations (such as securities of Federal National
Mortgage Association ("Fannie Mae")) or (c) only the credit of the issuer (such
as securities of the Financing Corporation). The U.S. government is under no
legal obligation, in general, to purchase the obligations of its agencies,
instrumentalities or sponsored enterprises. No assurance can be given that the
U.S. government will provide financial support to the U.S. government agencies,
instrumentalities or sponsored enterprises in the future.
B-24
<PAGE>
U.S. Government Securities include (to the extent consistent with the
Investment Company Act of 1940, as amended (the "Act")) securities for which the
payment of principal and interest is backed by an irrevocable letter of credit
issued by the U.S. government, or its agencies, instrumentalities or sponsored
enterprises. U.S. Government Securities also include (to the extent consistent
with the Act) participations in loans made to foreign governments or their
agencies that are guaranteed as to principal and interest by the U.S. government
or its agencies, instrumentalities or sponsored enterprises. The secondary
market for certain of these participations is extremely limited. In the absence
of a substantial secondary market, such participations are regarded as illiquid.
Each Underlying Fund may also purchase U.S. Government Securities in private
placements, subject to the Fund's limitation on investment in illiquid
securities.
The Funds may also invest in separately traded principal and interest
components of securities guaranteed or issued by the U.S. Treasury if such
components are traded independently under the separate trading of registered
interest and principal of securities program ("STRIPS").
BANK OBLIGATIONS
Certain of the Underlying Funds may invest in debt obligations issued or
guaranteed by United States and foreign banks. Bank obligations, including
without limitation time deposits, bankers' acceptances and certificates of
deposit, may be general obligations of the parent bank or may be obligations
only of the issuing branch pursuant to the terms of the specific obligations or
government regulation.
Banks are subject to extensive governmental regulations which may limit
both the amount and types of loans which may be made and interest rates which
may be charged. Foreign banks are subject to different regulations and are
generally permitted to engage in a wider variety of activities than U.S. banks.
In addition, the profitability of the banking industry is largely dependent upon
the availability and cost of funds for the purpose of financing lending
operations under prevailing money market conditions. General economic
conditions as well as exposure to credit losses arising from possible financial
difficulties of borrowers play an important part in the operations of this
industry.
DEFERRED INTEREST, PAY-IN-KIND AND CAPITAL APPRECIATION BONDS
Certain of the Underlying Funds expect to invest in deferred interest and
capital appreciation bonds and pay-in-kind ("PIK") securities. Deferred
interest and capital appreciation bonds are debt securities issued or sold at a
discount from their face value and which do not entitle the holder to any
periodic payment of interest prior to maturity or a specified date. The
original issue
B-25
<PAGE>
discount varies depending on the time remaining until maturity or cash payment
date, prevailing interest rates, the liquidity of the security and the perceived
credit quality of the issuer. These securities also may take the form of debt
securities that have been stripped of their unmatured interest coupons, the
coupons themselves or receipts or certificates representing interests in such
stripped debt obligations or coupons. The market prices of deferred interest,
capital appreciation bonds and PIK securities generally are more volatile than
the market prices of interest bearing securities and are likely to respond to a
greater degree to changes in interest rates than interest bearing securities
having similar maturities and credit quality.
PIK securities may be debt obligations or preferred shares that provide the
issuer with the option of paying interest or dividends on such obligations in
cash or in the form of additional securities rather than cash. Similar to zero
coupon bonds and deferred interest bonds, PIK securities are designed to give an
issuer flexibility in managing cash flow. PIK securities that are debt
securities can either be senior or subordinated debt and generally trade flat
(i.e., without accrued interest). The trading price of PIK debt securities
generally reflects the market value of the underlying debt plus an amount
representing accrued interest since the last interest payment.
Zero coupon, deferred interest, capital appreciation and PIK securities
involve the additional risk that, unlike securities that periodically pay
interest to maturity, an Underlying Fund will realize no cash until a specified
future payment date unless a portion of such securities is sold and, if the
issuer of such securities defaults, a Fund may obtain no return at all on its
investment. In addition, even though such securities do not provide for the
payment of current interest in cash, the Funds are nonetheless required to
accrue income on such investments for each taxable year and generally are
required to distribute such accrued amounts (net of deductible expenses, if any)
to avoid being subject to tax. Because no cash is generally received at the
time of the accrual, an Underlying Fund may be required to liquidate other
portfolio securities to obtain sufficient cash to satisfy federal tax
distribution requirements applicable to the Fund.
ZERO COUPON BONDS
An Underlying Fund's investments in fixed income securities may include
zero coupon bonds, which are debt obligations issued or purchased at a
significant discount from face value. The discount approximates the total
amount of interest the bonds would have accrued and compounded over the period
until maturity. Zero coupon bonds do not require the periodic payment of
interest. Such investments benefit the issuer by mitigating its need for cash
to meet debt service but also require a higher rate of return to attract
investors who are willing to defer receipt of such cash.
B-26
<PAGE>
Such investments may experience greater volatility in market value than debt
obligations which provide for regular payments of interest. In addition, if an
issuer of zero coupon bonds held by a Fund defaults, the Fund may obtain no
return at all on its investment. Each Fund will accrue income on such
investments for each taxable year which (net of deductible expenses, if any) is
distributable to shareholders and which, because no cash is generally received
at the time of accrual, may require the liquidation of other portfolio
securities to obtain sufficient cash to satisfy the Fund's distribution
obligations.
VARIABLE AND FLOATING RATE SECURITIES
The interest rates payable on certain fixed income securities in which an
Underlying Fund may invest are not fixed and may fluctuate based upon changes in
market rates. A variable rate obligation has an interest rate which is adjusted
at predesignated periods in response to changes in the market rate of interest
on which the interest rate is based. Variable and floating rate obligations are
less effective than fixed rate instruments at locking in a particular yield.
Nevertheless, such obligations may fluctuate in value in response to interest
rate changes if there is a delay between changes in market interest rates and
the interest reset date for the obligation.
Permissible investments for the Underlying Funds include "leveraged"
inverse floating rate debt instruments ("inverse floaters"), including
"leveraged inverse floaters." The interest rate on inverse floaters resets in
the opposite direction from the market rate of interest to which the inverse
floater is indexed. An inverse floater may be considered to be leveraged to the
extent that its interest rate varies by a magnitude that exceeds the magnitude
of the change in the index rate of interest. The higher the degree of leverage
of an inverse floater, the greater the volatility of its market value.
Accordingly, the duration of an inverse floater may exceed its stated final
maturity. Certain inverse floaters may be deemed to be illiquid securities for
purposes of each Fund's limitation on illiquid investments.
CUSTODIAL RECEIPTS
Each Fund may invest in custodial receipts in respect of securities issued
or guaranteed as to principal and interest by the U.S. Government, its agencies,
instrumentalities, political subdivisions or authorities. Such custodial
receipts evidence ownership of future interest payments, principal payments or
both on certain notes or bonds issued by the U.S. Government, its agencies,
instrumentalities, political subdivisions or authorities. These custodial
receipts are known by various names, including "Treasury Receipts," "Treasury
Investors Growth Receipts" ("TIGRs"), and "Certificates of Accrual on Treasury
Securities"
B-27
<PAGE>
("CATs"). For certain securities law purposes, custodial receipts are not
considered U.S. Government securities.
MUNICIPAL SECURITIES
Certain of the Underlying Funds may invest in bonds, notes and other
instruments issued by or on behalf of states, territories and possessions of the
United States (including the District of Columbia) and their political
subdivisions, agencies or instrumentalities ("Municipal Securities").
Municipal Securities are often issued to obtain funds for various public
purposes including refunding outstanding obligations, obtaining funds for
general operating expenses, and obtaining funds to lend to other public
institutions and facilities. Municipal Securities also include certain
"private activity bonds" or industrial development bonds, which are issued by or
on behalf of public authorities to provide financing aid to acquire sites or
construct or equip facilities within a municipality for privately or publicly
owned corporations.
The two principal classifications of Municipal Securities are "general
obligations" and "revenue obligations." General obligations are secured by the
issuer's pledge of its full faith and credit for the payment of principal and
interest, although the characteristics and enforcement of general obligations
may vary according to the law applicable to the particular issuer. Revenue
obligations, which include, but are not limited to, private activity bonds,
resource recovery bonds, certificates of participation and certain municipal
notes, are not backed by the credit and taxing authority of the issuer, and are
payable solely from the revenues derived from a particular facility or class of
facilities or, in some cases, from the proceeds of a special excise or other
specific revenue source. Nevertheless, the obligations of the issuer of a
revenue obligation may be backed by a letter of credit, guarantee or insurance.
General obligations and revenue obligations may be issued in a variety of forms,
including commercial paper, fixed, variable and floating rate securities, tender
option bonds, auction rate bonds and zero coupon bonds, deferred interest bonds
and capital appreciation bonds.
In addition to general obligations and revenue obligations, there is a
variety of hybrid and special types of Municipal Securities. There are also
numerous differences in the security of Municipal Securities both within and
between these two principal classifications.
An entire issue of Municipal Securities may be purchased by one or a small
number of institutional investors such as the High Yield and Core Fixed Income
Fund. Thus, the issue may not be said to be publicly offered. Unlike some
securities that are not publicly offered, a secondary market exists for many
Municipal Securities
B-28
<PAGE>
that were not publicly offered initially and such securities may be readily
marketable.
The obligations of the issuer to pay the principal of and interest on a
Municipal Security are subject to the provisions of bankruptcy, insolvency and
other laws affecting the rights and remedies of creditors, such as the Federal
Bankruptcy Act, and laws, if any, that may be enacted by Congress or state
legislatures extending the time for payment of principal or interest or imposing
other constraints upon the enforcement of such obligations. There is also the
possibility that, as a result of litigation or other conditions, the power or
ability of the issuer to pay when due principal of or interest on a Municipal
Security may be materially affected.
Municipal Leases, Certificates of Participation and Other Participation
-----------------------------------------------------------------------
Interests. Municipal Securities include leases, certificates of participation
- ---------
and other participation interests. A municipal lease is an obligation in the
form of a lease or installment purchase which is issued by a state or local
government to acquire equipment and facilities. Municipal leases frequently
involve special risks not normally associated with general obligations or
revenue bonds. Leases and installment purchase or conditional sale contracts
(which normally provide for title to the leased asset to pass eventually to the
governmental issuer) have evolved as a means for governmental issuers to acquire
property and equipment without meeting the constitutional and statutory
requirements for the issuance of debt. The debt issuance limitations are deemed
to be inapplicable because of the inclusion in many leases or contracts of "non-
appropriation" clauses that relieve the governmental issuer of any obligation to
make future payments under the lease or contract unless money is appropriated
for such purpose by the appropriate legislative body on a yearly or other
periodic basis. In addition, such leases or contracts may be subject to the
temporary abatement of payments in the event the issuer is prevented from
maintaining occupancy of the leased premises or utilizing the leased equipment.
Although the obligations may be secured by the leased equipment or facilities,
the disposition of the property in the event of non-appropriation or foreclosure
might prove difficult, time consuming and costly, and result in a delay in
recovering or the failure to fully recover a Fund's original investment.
Certificates of participation represent undivided interests in municipal
leases, installment purchase agreements or other instruments. The certificates
are typically issued by a trust or other entity which has received an assignment
of the payments to be made by the state or political subdivision under such
leases or installment purchase agreements.
Certain municipal lease obligations and certificates of participation may
be deemed to be illiquid for the purpose of an
B-29
<PAGE>
Underlying Fund's limitation on investments in illiquid securities. Other
municipal lease obligations and certificates of participation acquired by a Fund
may be determined by its investment adviser, pursuant to guidelines adopted by
the Trustees of the Trust, to be liquid securities for the purpose of such
limitation. In determining the liquidity of municipal lease obligations and
certificates of participation, the investment adviser will consider a variety of
factors including: (1) the willingness of dealers to bid for the security; (2)
the number of dealers willing to purchase or sell the obligation and the number
of other potential buyers; (3) the frequency of trades or quotes for the
obligation; and (4) the nature of the marketplace trades. In addition, the
investment adviser will consider factors unique to particular lease obligations
and certificates of participation affecting the marketability thereof. These
include the general creditworthiness of the issuer, the importance to the issuer
of the property covered by the lease and the likelihood that the marketability
of the obligation will be maintained throughout the time the obligation is held
by a Fund.
The Underlying Funds may purchase participations in Municipal Securities
held by a commercial bank or other financial institution. Such participations
provide a Fund with the right to a pro rata undivided interest in the underlying
Municipal Securities. In addition, such participations generally provide a Fund
with the right to demand payment, on not more than seven days' notice, of all or
any part of such Fund's participation interest in the underlying Municipal
Security, plus accrued interest.
Auction Rate Securities. Municipal Securities also include auction rate
-----------------------
Municipal Securities and auction rate preferred securities issued by closed-end
investment companies that invest primarily in Municipal Securities
(collectively, "auction rate securities"). Provided that the auction mechanism
is successful, auction rate securities usually permit the holder to sell the
securities in an auction at par value at specified intervals. The dividend is
reset by "Dutch" auction in which bids are made by broker-dealers and other
institutions for a certain amount of securities at a specified minimum yield.
The dividend rate set by the auction is the lowest interest or dividend rate
that covers all securities offered for sale. While this process is designed to
permit auction rate securities to be traded at par value, there is some risk
that an auction will fail due to insufficient demand for the securities.
An Underlying Fund's investments in auction rate securities of closed-end
funds are subject to the limitations prescribed by the Act. A Fund will
indirectly bear its proportionate share of any management and other fees paid by
such closed-end funds in addition to the advisory fees payable directly by the
Funds.
B-30
<PAGE>
Other Types of Municipal Securities. Other types of Municipal Securities
-----------------------------------
in which certain of the Underlying Funds may invest include municipal notes,
tax-exempt commercial paper, pre-refunded municipal bonds, industrial
development bonds and insured municipal obligations.
Call Risk and Reinvestment Risk. Municipal Securities may include "call"
-------------------------------
provisions which permit the issuers of such securities, at any time or after a
specified period, to redeem the securities prior to their stated maturity. In
the event that Municipal Securities held in an Underlying Fund's portfolio are
called prior to the maturity, the Fund will be required to reinvest the proceeds
on such securities at an earlier date and may be able to do so only at lower
yields, thereby reducing the Fund's return on its portfolio securities.
MORTGAGE LOANS AND MORTGAGE-BACKED SECURITIES
General Characteristics. The Underlying Funds may invest in Mortgage-
-----------------------
Backed Securities as described in the Prospectus. Each mortgage pool underlying
Mortgage-Backed Securities consists of mortgage loans evidenced by promissory
notes secured by first mortgages or first deeds of trust or other similar
security instruments creating a first lien on owner occupied and non-owner
occupied one-unit to four-unit residential properties, multifamily (i.e., five
or more) properties, agriculture properties, commercial properties and mixed use
properties (the "Mortgaged Properties"). The Mortgaged Properties may consist
of detached individual dwelling units, multifamily dwelling units, individual
condominiums, townhouses, duplexes, triplexes, fourplexes, row houses,
individual units in planned unit developments and other attached dwelling units.
The Mortgaged Properties may also include residential investment properties and
second homes.
The investment characteristics of adjustable and fixed rate Mortgage-Backed
Securities differ from those of traditional fixed income securities. The major
differences include the payment of interest and principal on Mortgage-Backed
Securities on a more frequent (usually monthly) schedule, and the possibility
that principal may be prepaid at any time due to prepayments on the underlying
mortgage loans or other assets. These differences can result in significantly
greater price and yield volatility than is the case with traditional fixed
income securities. As a result, if an Underlying Fund purchases Mortgage-Backed
Securities at a premium, a faster than expected prepayment rate will reduce both
the market value and the yield to maturity from those which were anticipated. A
prepayment rate that is slower than expected will have the opposite effect of
increasing yield to maturity and market value. Conversely, if a Fund purchases
Mortgage-Backed Securities at a discount, faster than expected prepayments will
increase, while slower than expected prepayments will reduce yield to maturity
and market values. To the extent that a Fund invests in
B-31
<PAGE>
Mortgage-Backed Securities, its investment adviser may seek to manage these
potential risks by investing in a variety of Mortgage-Backed Securities and by
using certain hedging techniques.
Adjustable Rate Mortgage Loans ("ARMs"). ARMs generally provide for a
---------------------------------------
fixed initial mortgage interest rate for a specified period of time.
Thereafter, the interest rates (the "Mortgage Interest Rates") may be subject to
periodic adjustment based on changes in the applicable index rate (the "Index
Rate"). The adjusted rate would be equal to the Index Rate plus a fixed
percentage spread over the Index Rate established for each ARM at the time of
its origination.
Adjustable interest rates can cause payment increases that some mortgagors
may find difficult to make. However, certain ARMs may provide that the Mortgage
Interest Rate may not be adjusted to a rate above an applicable lifetime maximum
rate or below an applicable lifetime minimum rate for such ARM. Certain ARMs
may also be subject to limitations on the maximum amount by which the Mortgage
Interest Rate may adjust for any single adjustment period (the "Maximum
Adjustment"). Other ARMs ("Negatively Amortizing ARMs") may provide instead or
as well for limitations on changes in the monthly payment on such ARMs.
Limitations on monthly payments can result in monthly payments which are greater
or less than the amount necessary to amortize a Negatively Amortizing ARM by its
maturity at the Mortgage Interest Rate in effect in any particular month. In
the event that a monthly payment is not sufficient to pay the interest accruing
on a Negatively Amortizing ARM, any such excess interest is added to the
principal balance of the loan, causing negative amortization, and will be repaid
through future monthly payments. It may take borrowers under Negatively
Amortizing ARMs longer periods of time to build up equity and may increase the
likelihood of default by such borrowers. In the event that a monthly payment
exceeds the sum of the interest accrued at the applicable Mortgage Interest Rate
and the principal payment which would have been necessary to amortize the
outstanding principal balance over the remaining term of the loan, the excess
(or "accelerated amortization") further reduces the principal balance of the
ARM. Negatively Amortizing ARMs do not provide for the extension of their
original maturity to accommodate changes in their Mortgage Interest Rate. As a
result, unless there is a periodic recalculation of the payment amount (which
there generally is), the final payment may be substantially larger than the
other payments. These limitations on periodic increases in interest rates and on
changes in monthly payments protect borrowers from unlimited interest rate and
payment increases.
There are two main categories of indices which provide the basis for rate
adjustments on ARMs: those based on U.S. Treasury securities and those derived
from a calculated measure, such as a cost of funds index or a moving average of
mortgage rates. Commonly utilized indices include the one-year, three-year and
five-year
B-32
<PAGE>
constant maturity Treasury rates, the three-month Treasury bill rate, the 180-
day Treasury bill rate, rates on longer-term Treasury securities, the 11th
District Federal Home Loan Bank Cost of Funds, the National Median Cost of
Funds, the one-month, three-month, six-month or one-year London Interbank
Offered Rate, the prime rate of a specific bank or commercial paper rates. Some
indices, such as the one-year constant maturity Treasury rate, closely mirror
changes in market interest rate levels. Others, such as the 11th District
Federal Home Loan Bank Cost of Funds index, tend to lag behind changes in market
rate levels and tend to be somewhat less volatile. The degree of volatility in
the market value of an Underlying Fund's portfolio and therefore in the net
asset value of a Fund's shares will be a function of the length of the interest
rate reset periods and the degree of volatility in the applicable indices.
Fixed-Rate Mortgage Loans. Generally, fixed-rate mortgage loans included
-------------------------
in a mortgage pool (the "Fixed-Rate Mortgage Loans") will bear simple interest
at fixed annual rates and have original terms to maturity ranging from 5 to 40
years. Fixed-Rate Mortgage Loans generally provide for monthly payments of
principal and interest in substantially equal installments for the term of the
mortgage note in sufficient amounts to fully amortize principal by maturity,
although certain Fixed-Rate Mortgage Loans provide for a large final "balloon"
payment upon maturity.
Legal Considerations of Mortgage Loans. The following is a discussion of
--------------------------------------
certain legal and regulatory aspects of the mortgage loans in which the
Underlying Funds may invest. These regulations may impair the ability of a
mortgage lender to enforce its rights under the mortgage documents. These
regulations may adversely affect the Funds' investments in Mortgage-Backed
Securities (including those issued or guaranteed by the U.S. government, its
agencies or instrumentalities) by delaying the Funds' receipt of payments
derived from principal or interest on mortgage loans affected by such
regulations.
1. Foreclosure. A foreclosure of a defaulted mortgage loan may be delayed due
-----------
to compliance with statutory notice or service of process provisions,
difficulties in locating necessary parties or legal challenges to the
mortgagee's right to foreclose. Depending upon market conditions, the
ultimate proceeds of the sale of foreclosed property may not equal the
amounts owed on the Mortgage-Backed Securities.
Furthermore, courts in some cases have imposed general equitable principles
upon foreclosure generally designed to relieve the borrower from the legal
effect of default and have required lenders to undertake affirmative and
expensive actions to determine the causes for the default and the
likelihood of loan reinstatement.
B-33
<PAGE>
2. Rights of Redemption. In some states, after foreclosure of a mortgage
--------------------
loan, the borrower and foreclosed junior lienors are given a statutory
period in which to redeem the property, which right may diminish the
mortgagee's ability to sell the property.
3. Legislative Limitations. In addition to anti-deficiency and related
-----------------------
legislation, numerous other federal and state statutory provisions,
including the federal bankruptcy laws and state laws affording relief to
debtors, may interfere with or affect the ability of a secured mortgage
lender to enforce its security interest. For example, a bankruptcy court
may grant the debtor a reasonable time to cure a default on a mortgage
loan, including a payment default. The court in certain instances may
also reduce the monthly payments due under such mortgage loan, change the
rate of interest, reduce the principal balance of the loan to the then-
current appraised value of the related mortgaged property, alter the
mortgage loan repayment schedule and grant priority of certain liens over
the lien of the mortgage loan. If a court relieves a borrower's obligation
to repay amounts otherwise due on a mortgage loan, the mortgage loan
servicer will not be required to advance such amounts, and any loss may be
borne by the holders of securities backed by such loans. In addition,
numerous federal and state consumer protection laws impose penalties for
failure to comply with specific requirements in connection with origination
and servicing of mortgage loans.
4. "Due-on-Sale" Provisions. Fixed-rate mortgage loans may contain a so-
------------------------
called "due-on-sale" clause permitting acceleration of the maturity of the
mortgage loan if the borrower transfers the property. The Garn-St. Germain
Depository Institutions Act of 1982 sets forth nine specific instances in
which no mortgage lender covered by that Act may exercise a "due-on-sale"
clause upon a transfer of property. The inability to enforce a "due-on-
sale" clause or the lack of such a clause in mortgage loan documents may
result in a mortgage loan being assumed by a purchaser of the property that
bears an interest rate below the current market rate.
5. Usury Laws. Some states prohibit charging interest on mortgage loans in
----------
excess of statutory limits. If such limits are exceeded, substantial
penalties may be incurred and, in some cases, enforceability of the
obligation to pay principal and interest may be affected.
Government Guaranteed Mortgage-Backed Securities. There are several types
------------------------------------------------
of guaranteed mortgage-backed securities currently available, including
guaranteed mortgage pass-through certificates and multiple class securities,
which include guaranteed Real Estate Mortgage Investment Conduit Certificates
("REMIC Certificates"), collateralized mortgage obligations and stripped
mortgage-backed
B-34
<PAGE>
securities. An Underlying Fund is permitted to invest in other types of
mortgage-backed securities that may be available in the future to the extent
consistent with its investment policies and objective.
An Underlying Fund's investments in mortgage-backed securities may include
securities issued or guaranteed by the U.S. Government or one of its agencies,
authorities, instrumentalities or sponsored enterprises, such as the Government
National Mortgage Association ("Ginnie Mae"), the Federal National Mortgage
Association ("Fannie Mae") and the Federal Home Loan Mortgage Corporation
("Freddie Mac").
Ginnie Mae Certificates. Ginnie Mae is a wholly-owned corporate
-----------------------
instrumentality of the United States. Ginnie Mae is authorized to guarantee the
timely payment of the principal of and interest on certificates that are based
on and backed by a pool of mortgage loans insured by the Federal Housing
Administration ("FHA Loans"), or guaranteed by the Veterans Administration ("VA
Loans"), or by pools of other eligible mortgage loans. In order to meet its
obligations under any guaranty, Ginnie Mae is authorized to borrow from the
United States Treasury in an unlimited amount.
Fannie Mae Certificates. Fannie Mae is a stockholder-owned corporation
-----------------------
chartered under an act of the United States Congress. Each Fannie Mae
Certificate is issued and guaranteed by Fannie Mae and represents an undivided
interest in a pool of mortgage loans (a "Pool") formed by Fannie Mae. Each Pool
consists of residential mortgage loans ("Mortgage Loans") either previously
owned by Fannie Mae or purchased by it in connection with the formation of the
Pool. The Mortgage Loans may be either conventional Mortgage Loans (i.e., not
insured or guaranteed by any U.S. Government agency) or Mortgage Loans that are
either insured by the Federal Housing Administration ("FHA") or guaranteed by
the Veterans Administration ("VA"). However, the Mortgage Loans in Fannie Mae
Pools are primarily conventional Mortgage Loans. The lenders originating and
servicing the Mortgage Loans are subject to certain eligibility requirements
established by Fannie Mae.
Fannie Mae has certain contractual responsibilities. With respect to each
Pool, Fannie Mae is obligated to distribute scheduled monthly installments of
principal and interest after Fannie Mae's servicing and guaranty fee, whether or
not received, to Certificate holders. Fannie Mae also is obligated to
distribute to holders of Certificates an amount equal to the full principal
balance of any foreclosed Mortgage Loan, whether or not such principal balance
is actually recovered. The obligations of Fannie Mae under its guaranty of the
Fannie Mae Certificates are obligations solely of Fannie Mae.
Freddie Mac Certificates. Freddie Mac is a publicly held U.S. Government
------------------------
sponsored enterprise. The principal activity of Freddie
B-35
<PAGE>
Mac currently is the purchase of first lien, conventional, residential mortgage
loans and participation interests in such mortgage loans and their resale in the
form of mortgage securities, primarily Freddie Mac Certificates. A Freddie Mac
Certificate represents a pro rata interest in a group of mortgage loans or
participation in mortgage loans (a "Freddie Mac Certif icate group") purchased
by Freddie Mac.
Freddie Mac guarantees to each registered holder of a Freddie Mac
Certificate the timely payment of interest at the rate provided for by such
Freddie Mac Certificate (whether or not received on the underlying loans).
Freddie Mac also guarantees to each registered Certificate holder ultimate
collection of all principal of the related mortgage loans, without any offset or
deduction, but does not, generally, guarantee the timely payment of scheduled
principal. The obligations of Freddie Mac under its guaranty of Freddie Mac
Certificates are obligations solely of Freddie Mac.
The mortgage loans underlying the Freddie Mac and Fannie Mae Certificates
consist of adjustable rate or fixed rate mortgage loans with original terms to
maturity of between five and thirty years. Substantially all of these mortgage
loans are secured by first liens on one-to-four-family residential properties or
multifamily projects. Each mortgage loan must meet the applicable standards set
forth in the law creating Freddie Mac or Fannie Mae. A Freddie Mac Certificate
group may include whole loans, participation interests in whole loans and
undivided interests in whole loans and participations comprising another Freddie
Mac Certificate group.
Conventional Mortgage Loans. The conventional mortgage loans underlying
---------------------------
the Freddie Mac and Fannie Mae Certificates consist of adjustable rate or fixed-
rate mortgage loans with original terms to maturity of between five and thirty
years. Substantially all of these mortgage loans are secured by first liens on
one- to four-family residential properties or multi-family projects. Each
mortgage loan must meet the applicable standards set forth in the law creating
Freddie Mac or Fannie Mae. A Freddie Mac Certificate group may include whole
loans, participation interests in whole loans, undivided interests in whole
loans and participations comprising another Freddie Mac Certificate group.
Mortgage Pass-Through Securities. As described in the Prospectus, the
--------------------------------
Underlying Funds may invest in both government guaranteed and privately issued
mortgage pass-through securities ("Mortgage Pass-Throughs"); that is, fixed or
adjustable rate mortgage-backed securities which provide for monthly payments
that are a "pass-through" of the monthly interest and principal payments
(including any prepayments) made by the individual borrowers on the pooled
mortgage loans, net of any fees or other amounts paid to any guarantor,
administrator and/or servicer of the underlying mortgage loans.
B-36
<PAGE>
The following discussion describes only a few of the wide variety of
structures of Mortgage Pass-Throughs that are available or may be issued.
Description of Certificates. Mortgage Pass-Throughs may be issued in one
---------------------------
or more classes of senior certificates and one or more classes of subordinate
certificates. Each such class may bear a different pass-through rate.
Generally, each certificate will evidence the specified interest of the holder
thereof in the payments of principal or interest or both in respect of the
mortgage pool comprising part of the trust fund for such certificates.
Any class of certificates may also be divided into subclasses entitled to
varying amounts of principal and interest. If a REMIC election has been made,
certificates of such subclasses may be entitled to payments on the basis of a
stated principal balance and stated interest rate, and payments among different
subclasses may be made on a sequential, concurrent, pro rata or disproportionate
--- ----
basis, or any combination thereof. The stated interest rate on any such
subclass of certificates may be a fixed rate or one which varies in direct or
inverse relationship to an objective interest index.
Generally, each registered holder of a certificate will be entitled to
receive its pro rata share of monthly distributions of all or a portion of
--- ----
principal of the underlying mortgage loans or of interest on the principal
balances thereof, which accrues at the applicable mortgage pass-through rate, or
both. The difference between the mortgage interest rate and the related
mortgage pass-through rate (less the amount, if any, of retained yield) with
respect to each mortgage loan will generally be paid to the servicer as a
servicing fee. Since certain adjustable rate mortgage loans included in a
mortgage pool may provide for deferred interest (i.e., negative amortization),
the amount of interest actually paid by a mortgagor in any month may be less
than the amount of interest accrued on the outstanding principal balance of the
related mortgage loan during the relevant period at the applicable mortgage
interest rate. In such event, the amount of interest that is treated as deferred
interest will be added to the principal balance of the related mortgage loan and
will be distributed pro rata to certificate-holders as principal of such
--- ----
mortgage loan when paid by the mortgagor in subsequent monthly payments or at
maturity.
Ratings. The ratings assigned by a rating organization to Mortgage Pass-
-------
Throughs address the likelihood of the receipt of all distributions on the
underlying mortgage loans by the related certificate-holders under the
agreements pursuant to which such certificates are issued. A rating
organization's ratings take into consideration the credit quality of the related
mortgage pool, including any credit support providers, structural and legal
B-37
<PAGE>
aspects associated with such certificates, and the extent to which the payment
stream on such mortgage pool is adequate to make payments required by such
certificates. A rating organization's ratings on such certificates do not,
however, constitute a statement regarding frequency of prepayments on the
related mortgage loans. In addition, the rating assigned by a rating
organization to a certificate does not address the remote possibility that, in
the event of the insolvency of the issuer of certificates where a subordinated
interest was retained, the issuance and sale of the senior certificates may be
recharacterized as a financing and, as a result of such recharacterization,
payments on such certificates may be affected.
Credit Enhancement. Credit support falls generally into two categories:
------------------
(i) liquidity protection and (ii) protection against losses resulting from
default by an obligor on the underlying assets. Liquidity protection refers to
the provision of advances, generally by the entity administering the pools of
mortgages, the provision of a reserve fund, or a combination thereof, to ensure,
subject to certain limitations, that scheduled payments on the underlying pool
are made in a timely fashion. Protection against losses resulting from default
ensures ultimate payment of the obligations on at least a portion of the assets
in the pool. Such credit support can be provided by among other things, payment
guarantees, letters of credit, pool insurance, subordination, or any combination
thereof.
Subordination; Shifting of Interest; Reserve Fund. In order to achieve
-------------------------------------------------
ratings on one or more classes of Mortgage Pass-Throughs, one or more classes of
certificates may be subordinate certificates which provide that the rights of
the subordinate certificate-holders to receive any or a specified portion of
distributions with respect to the underlying mortgage loans may be subordinated
to the rights of the senior certificate-holders. If so structured, the
subordination feature may be enhanced by distributing to the senior certificate-
holders on certain distri bution dates, as payment of principal, a specified
percentage (which generally declines over time) of all principal payments
received during the preceding prepayment period ("shifting interest credit
enhancement"). This will have the effect of accelerating the amortization of
the senior certificates while increasing the interest in the trust fund
evidenced by the subordinate certificates. Increasing the interest of the
subordinate certificates relative to that of the senior certificates is intended
to preserve the availability of the subordination provided by the subordinate
certificates. In addition, because the senior certificate-holders in a shifting
interest credit enhancement structure are entitled to receive a percentage of
principal prepayments which is greater than their proportionate interest in the
trust fund, the rate of principal prepayments on the mortgage loans will have an
even greater effect on the rate of principal payments and the amount of interest
payments on, and the yield to maturity of, the senior certificates.
B-38
<PAGE>
In addition to providing for a preferential right of the senior
certificate-holders to receive current distributions from the mortgage pool, a
reserve fund may be established relating to such certificates (the "Reserve
Fund"). The Reserve Fund may be created with an initial cash deposit by the
originator or servicer and augmented by the retention of distributions otherwise
available to the subordinate certificate-holders or by excess servicing fees
until the Reserve Fund reaches a specified amount.
The subordination feature, and any Reserve Fund, are intended to enhance
the likelihood of timely receipt by senior certificate-holders of the full
amount of scheduled monthly payments of principal and interest due them and will
protect the senior certificate-holders against certain losses; however, in
certain circumstances the Reserve Fund could be depleted and temporary
shortfalls could result. In the event the Reserve Fund is depleted before the
subordinated amount is reduced to zero, senior certificate-holders will
nevertheless have a preferential right to receive current distributions from the
mortgage pool to the extent of the then outstanding subordinated amount. Unless
otherwise specified, until the subordinated amount is reduced to zero, on any
distribution date any amount otherwise distributable to the subordinate
certificates or, to the extent specified, in the Reserve Fund will generally be
used to offset the amount of any losses realized with respect to the mortgage
loans ("Realized Losses"). Realized Losses remaining after application of such
amounts will generally be applied to reduce the ownership interest of the
subordinate certificates in the mortgage pool. If the subordinated amount has
been reduced to zero, Realized Losses generally will be allocated pro rata among
--- ----
all certificate-holders in proportion to their respective outstanding interests
in the mortgage pool.
Alternative Credit Enhancement. As an alternative, or in addition to the
------------------------------
credit enhancement afforded by subordination, credit enhancement for Mortgage
Pass-Throughs may be provided by mortgage insurance, hazard insurance, by the
deposit of cash, certificates of deposit, letters of credit, a limited guaranty
or by such other methods as are acceptable to a rating agency. In certain
circumstances, such as where credit enhancement is provided by guarantees or a
letter of credit, the security is subject to credit risk because of its exposure
to an external credit enhancement provider.
Voluntary Advances. Generally, in the event of delinquencies in payments
------------------
on the mortgage loans underlying the Mortgage Pass-Throughs, the servicer agrees
to make advances of cash for the benefit of certificate-holders, but only to the
extent that it determines such voluntary advances will be recoverable from
future payments and collections on the mortgage loans or otherwise.
B-39
<PAGE>
Optional Termination. Generally, the servicer may, at its option with
--------------------
respect to any certificates, repurchase all of the underlying mortgage loans
remaining outstanding at such time as the aggregate outstanding principal
balance of such mortgage loans is less than a specified percentage (generally 5-
10%) of the aggregate outstanding principal balance of the mortgage loans as of
the cut-off date specified with respect to such series.
Multiple Class Mortgage-Backed Securities and Collateralized Mortgage
---------------------------------------------------------------------
Obligations. An Underlying Fund may invest in multiple class securities
- -----------
including collateralized mortgage obligations ("CMOs") and REMIC Certificates.
These securities may be issued by U.S. Government agencies and instrumentalities
such as Fannie Mae or Freddie Mac or by trusts formed by private originators of,
or investors in, mortgage loans, including savings and loan associations,
mortgage bankers, commercial banks, insurance companies, investment banks and
special purpose subsidiaries of the foregoing. In general, CMOs are debt
obligations of a legal entity that are collateralized by, and multiple class
mortgage-backed securities represent direct ownership interests in, a pool of
mortgage loans or mortgage-backed securities the payments on which are used to
make payments on the CMOs or multiple class mortgage-backed securities.
Fannie Mae REMIC Certificates are issued and guaranteed as to timely
distribution of principal and interest by Fannie Mae. In addition, Fannie Mae
will be obligated to distribute the principal balance of each class of REMIC
Certificates in full, whether or not sufficient funds are otherwise available.
Freddie Mac guarantees the timely payment of interest on Freddie Mac REMIC
Certificates and also guarantees the payment of principal as payments are
required to be made on the underlying mortgage participation certificates
("PCs"). PCs represent undivided interests in specified level payment,
residential mortgages or participations therein purchased by Freddie Mac and
placed in a PC pool. With respect to principal payments on PCs, Freddie Mac
generally guarantees ultimate collection of all principal of the related
mortgage loans without offset or deduction. Freddie Mac also guarantees timely
payment of principal of certain PCs.
CMOs and guaranteed REMIC Certificates issued by Fannie Mae and Freddie Mac
are types of multiple class mortgage-backed securi ties. Investors may purchase
beneficial interests in REMICs, which are known as "regular" interests or
"residual" interests. The Underlying Funds do not intend to purchase residual
interests in REMICs. The REMIC Certificates represent beneficial ownership
interests in a REMIC trust, generally consisting of mortgage loans or Fannie
Mae, Freddie Mac or Ginnie Mae guaranteed mortgage-backed securities (the
"Mortgage Assets"). The obligations of Fannie Mae or Freddie Mac under their
respective guaranty of the
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REMIC Certificates are obligations solely of Fannie Mae or Freddie Mac,
respectively.
CMOs and REMIC Certificates are issued in multiple classes. Each class of
CMOs or REMIC Certificates, often referred to as a "tranche," is issued at a
specific adjustable or fixed interest rate and must be fully retired no later
than its final distribution date. Principal prepayments on the Mortgage Loans
or the Mortgage Assets underlying the CMOs or REMIC Certificates may cause some
or all of the classes of CMOs or REMIC Certificates to be retired substantially
earlier than their final distribution dates. Generally, interest is paid or
accrues on all classes of CMOs or REMIC Certificates on a monthly basis.
The principal of and interest on the Mortgage Assets may be allocated among
the several classes of CMOs or REMIC Certificates in various ways. In certain
structures (known as "sequential pay" CMOs or REMIC Certificates), payments of
principal, including any principal prepayments, on the Mortgage Assets generally
are applied to the classes of CMOs or REMIC Certificates in the order of their
respective final distribution dates. Thus, no payment of principal will be made
on any class of sequential pay CMOs or REMIC Certificates until all other
classes having an earlier final distribution date have been paid in full.
Additional structures of CMOs and REMIC Certificates include, among others,
"parallel pay" CMOs and REMIC Certificates. Parallel pay CMOs or REMIC
Certificates are those which are structured to apply principal payments and
prepayments of the Mortgage Assets to two or more classes concurrently on a
proportionate or disproportionate basis. These simultaneous payments are taken
into account in calculating the final distribution date of each class.
A wide variety of REMIC Certificates may be issued in parallel pay or
sequential pay structures. These securities include accrual certificates (also
known as "Z-Bonds"), which only accrue interest at a specified rate until all
other certificates having an earlier final distribution date have been retired
and are converted thereafter to an interest-paying security, and planned
amortization class ("PAC") certificates, which are parallel pay REMIC
Certificates that generally require that specified amounts of principal be
applied on each payment date to one or more classes or REMIC Certificates (the
"PAC Certificates"), even though all other principal payments and prepayments of
the Mortgage Assets are then required to be applied to one or more other classes
of the Certificates. The scheduled principal payments for the PAC Certificates
generally have the highest priority on each payment date after interest due has
been paid to all classes entitled to receive interest currently. Shortfalls, if
any, are added to the amount payable on the next payment date. The PAC
Certificate payment schedule is taken into account in calculating the final
distribution date of each class of PAC. In order to create PAC
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tranches, one or more tranches generally must be created that absorb most of the
volatility in the underlying mortgage assets. These tranches tend to have market
prices and yields that are much more volatile than other PAC classes.
Stripped Mortgage-Backed Securities. The Underlying Funds may invest in
-----------------------------------
stripped mortgage-backed securities ("SMBS"), which are derivative multiclass
mortgage securities, issued or guaranteed by the U.S. Government, its agencies
or instrumentalities or by private issuers. Although the market for such
securities is increasingly liquid, privately issued SMBS may not be readily
marketable and will be considered illiquid for purposes of an Underlying Fund's
limitation on investments in illiquid securities. A Fund's investment adviser
may determine that SMBS which are U.S. Government Securities are liquid for
purposes of each Fund's limitation on investments in illiquid securities. The
market value of the class consisting entirely of principal payments generally is
unusually volatile in response to changes in interest rates. The yields on a
class of SMBS that receives all or most of the interest from Mortgage Assets are
generally higher than prevailing market yields on other Mortgage-Backed
Securities because their cash flow patterns are more volatile and there is a
greater risk that the initial investment will not be fully recouped.
ASSET-BACKED SECURITIES
Asset-backed securities represent participation in, or are secured by and
payable from, assets such as motor vehicle installment sales, installment loan
contracts, leases of various types of real and personal property, receivables
from revolving credit (credit card) agreements and other categories of
receivables. Such assets are securitized through the use of trusts and special
purpose corporations. Payments or distributions of principal and interest may
be guaranteed up to certain amounts and for a certain time period by a letter of
credit or a pool insurance policy issued by a financial institution unaffiliated
with the trust or corporation, or other credit enhancements may be present.
Like Mortgage-Backed Securities, asset-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 loans.
During periods of declining interest rates, prepayment of loans underlying
asset-backed securities can be expected to accelerate. Accordingly, an
Underlying Fund's ability to maintain positions in such securities will be
affected by reductions in the principal amount of such securities resulting from
prepayments, and its ability to reinvest the returns of principal at comparable
yields is subject to generally prevailing interest rates at that time. To the
extent that a Fund invests in asset-backed securities, the values of such Fund's
portfolio securities will vary with changes in market
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interest rates generally and the differentials in yields among various kinds of
asset-backed securities.
Asset-backed securities present certain additional risks that are not
presented by Mortgage-Backed Securities because asset-backed securities
generally do not have the benefit of a security interest in collateral that is
comparable to Mortgage Assets. Credit card receivables are generally unsecured
and the debtors on such receivables 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. Automobile receivables generally are secured, but by automobiles
rather than residential real property. Most issuers of automobile receivables
permit the loan servicers to retain possession of the underlying obligations.
If the servicer were to sell these obligations to another party, there is a
risk that the purchaser would acquire an interest superior to that of the
holders of the asset-backed securities. 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 the underlying automobiles. Therefore,
there is the possibility that, in some cases, recoveries on repossessed
collateral may not be available to support payments on these securities.
FUTURES CONTRACTS AND OPTIONS ON FUTURES CONTRACTS
Each Underlying Fund (other than Financial Square Prime Obligations Fund)
may purchase and sell futures contracts and may also purchase and write options
on futures contracts. CORE U.S. Equity, CORE Large Cap Growth and CORE Small
Cap Equity Funds may only enter into such transactions with respect to the S&P
500 Index, for the CORE U.S. Equity Fund and a representative index in the case
of the CORE Large Cap Growth and CORE Small Cap Equity Funds. The other Funds
may purchase and sell futures contracts based on various securities (such as
U.S. Government securities), securities indices, foreign currencies and other
financial instruments and indices. An Underlying Fund will engage in futures
and related options transactions, only for bona fide hedging purposes as defined
below or for purposes of seeking to increase total return to the extent
permitted by regulations of the Commodity Futures Trading Commission ("CFTC").
All futures contracts entered into by a Fund are traded on U.S. exchanges or
boards of trade that are licensed and regulated by the CFTC or on foreign
exchanges.
Futures Contracts. A futures contract may generally be described as an
-----------------
agreement between two parties to buy and sell particular financial instruments
or currencies for an agreed price during a designated month (or to deliver the
final cash settlement price, in the case of a contract relating to an index or
otherwise
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not calling for physical delivery at the end of trading in the contract).
When interest rates are rising or securities prices are falling, an
Underlying Fund can seek through the sale of futures contracts to offset a
decline in the value of its current portfolio securities. When rates are
falling or prices are rising, a Fund, through the purchase of futures contracts,
can attempt to secure better rates or prices than might later be available in
the market when it effects anticipated purchases. Similarly, a Fund may sell
futures contracts on a specified currency to protect against a decline in the
value of such currency and its portfolio securities which are quoted or
denominated in such currency, or purchase futures contracts on foreign currency
to establish the price in U.S. dollars of a security quoted or denominated in
such currency that such Fund has acquired or expects to acquire.
Positions taken in the futures market are not normally held to maturity,
but are instead liquidated through offsetting transactions which may result in a
profit or a loss. While an Underlying Fund will usually liquidate futures
contracts on securities or currency in this manner, a Fund may instead make or
take delivery of the underlying securities or currency whenever it appears
economically advantageous for the Fund to do so. A clearing corporation
associated with the exchange on which futures are traded guarantees that, if
still open, the sale or purchase will be performed on the settlement date.
Hedging Strategies. Hedging, by use of futures contracts, seeks to
------------------
establish with more certainty than would otherwise be possible the effective
price, rate of return or currency exchange rate on portfolio securities or
securities that a Fund owns or proposes to acquire. An Underlying Fund may, for
example, take a "short" position in the futures market by selling futures
contracts to seek to hedge against an anticipated rise in interest rates or a
decline in market prices or foreign currency rates that would adversely affect
the dollar value of such Fund's portfolio securities. Similarly, a Fund may sell
futures contracts on a currency in which its portfolio securities are quoted or
denominated or in one currency to seek to hedge against fluctuations in the
value of securities quoted or denominated in a different currency if there is an
established historical pattern of correlation between the two currencies. If, in
the opinion of a Fund's investment adviser, there is a sufficient degree of
correlation between price trends for a Fund's portfolio securities and futures
contracts based on other financial instruments, securities indices or other
indices, a Fund may also enter into such futures contracts as part of its
hedging strategy. Although under some circumstances prices of securities in a
Fund's portfolio may be more or less volatile than prices of such futures
contracts, its investment adviser will attempt to estimate the extent of this
volatility difference based on historical patterns
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and compensate for any such differential by having a Fund enter into a greater
or lesser number of futures contracts or by attempting to achieve only a partial
hedge against price changes affecting a Fund's securities portfolio. When
hedging of this character is successful, any depreciation in the value of
portfolio securities will be substantially offset by appreciation in the value
of the futures position. On the other hand, any unanticipated appreciation in
the value of a Fund's portfolio securities would be substantially offset by a
decline in the value of the futures position.
On other occasions, an Underlying Fund may take a "long" position by
purchasing such futures contracts. This would be done, for example, when a Fund
anticipates the subsequent purchase of particular securities when it has the
necessary cash, but expects the prices or currency exchange rates then available
in the applicable market to be less favorable than prices or rates that are
currently available.
Options on Futures Contracts. The acquisition of put and call options on
----------------------------
futures contracts will give an Underlying Fund the right (but not the
obligation), for a specified price, to sell or to purchase, respectively, the
underlying futures contract at any time during the option period. As the
purchaser of an option on a futures contract, a Fund obtains the benefit of the
futures position if prices move in a favorable direction but limits its risk of
loss in the event of an unfavorable price movement to the loss of the premium
and transaction costs.
The writing of a call option on a futures contract generates a premium
which may partially offset a decline in the value of an Underlying Fund's
assets. By writing a call option, a Fund becomes obligated, in exchange for the
premium, (upon exercise of the option) to sell a futures contract if the option
is exercised, which may have a value higher than the exercise price.
Conversely, the writing of a put option on a futures contract generates a
premium, which may partially offset an increase in the price of securities that
a Fund intends to purchase. However, a Fund becomes obligated (upon exercise of
the option) to purchase a futures contract if the option is exercised, which may
have a value lower than the exercise price. Thus, the loss incurred by a Fund in
writing options on futures is potentially unlimited and may exceed the amount of
the premium received. A Fund will incur transaction costs in connection with the
writing of options on futures.
The holder or writer of an option on a futures contract may terminate its
position by selling or purchasing an offsetting option on the same financial
instrument. There is no guarantee that such closing transactions can be
effected. An Underlying Fund's ability to establish and close out positions on
such options
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will be subject to the development and maintenance of a liquid market.
Other Considerations. An Underlying Fund will engage in futures
--------------------
transactions and will engage in related options transactions only for bona fide
hedging as defined in the regulations of the CFTC or to seek to increase total
return to the extent permitted by such regulations. A Fund will determine that
the price fluctuations in the futures contracts and options on futures used for
hedging purposes are substantially related to price fluctuations in securities
held by the Fund or which it expects to purchase. Except as stated below, a
Fund's futures transactions will be entered into for traditional hedging
purposes -- i.e., futures contracts will be sold to protect against a decline in
the price of securities (or the currency in which they are quoted or
denominated) that the Fund owns, or futures contracts will be purchased to
protect the Fund against an increase in the price of securities (or the currency
in which they are quoted or denominated) it intends to purchase.
In addition to bona fide hedging, a CFTC regulation permits an Underlying
Fund to engage in other futures transactions if the aggregate initial margin and
premiums required to establish such positions in futures contracts and options
on futures do not exceed 5% of the net asset value of such Fund's portfolio,
after taking into account unrealized profits and losses on any such positions
and excluding the amount by which such options were in-the-money at the time of
purchase. To the extent such transactions are consistent with the requirements
of the Code for maintaining its qualification as a regulated investment company
for federal income tax purposes, a Fund may engage in transactions in currency
forward contracts futures contracts and related options transactions.
Transactions in futures contracts and options on futures involve brokerage
costs, require margin deposits and, in the case of contracts and options
obligating an Underlying Fund to purchase securities or currencies, require the
Fund to segregate with its custodian cash or liquid assets in an amount equal to
the underlying value of such contracts and options.
While transactions in futures contracts and options on futures may reduce
certain risks, such transactions themselves entail
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certain other risks. Thus, unanticipated changes in interest rates, securities
prices or currency exchange rates may result in a poorer overall performance for
an Underlying Fund than if it had not entered into any futures contracts or
options transactions. In the event of an imperfect correlation between a futures
position and a portfolio position which is intended to be protected, the desired
protection may not be obtained and a Fund may be exposed to risk of loss.
Perfect correlation between an Underlying Fund's futures positions and
portfolio positions will be difficult to achieve because no futures contracts
based on individual equity or corporate fixed-income securities are currently
available. The only futures contracts available to hedge a Fund's portfolio are
various futures on U.S. Government securities, securities indices and foreign
currencies. In addition, it is not possible for a Fund to hedge fully or
perfectly against currency fluctuations affecting the value of securities quoted
or denominated in foreign currencies because the value of such securities is
likely to fluctuate as a result of independent factors not related to currency
fluctuations.
OPTIONS ON SECURITIES AND SECURITIES INDICES
Writing Covered Options. Certain of the Underlying Funds may write (sell)
-----------------------
covered call and put options on any securities in which they may invest. A Fund
may purchase and write such options on securities that are listed on national
domestic securities exchanges or foreign securities exchanges or traded in the
over-the-counter market. A call option written by a Fund obligates such Fund to
sell specified securities to the holder of the option at a specified price if
the option is exercised at any time before the expiration date. All call options
written by a Fund are covered, which means that such Fund will own the
securities subject to the option as long as the option is outstanding or such
Fund will use the other methods described below. A Fund's purpose in writing
covered call options is to realize greater income than would be realized on
portfolio securities transactions alone. However, a Fund may forego the
opportunity to profit from an increase in the market price of the underlying
security.
A put option written by an Underlying Fund would obligate such Fund to
purchase specified securities from the option holder at a specified price if the
option is exercised at any time before the expiration date. All put options
written by a Fund would be covered, which means that such Fund would have
deposited with its custodian cash or liquid assets with a value at least equal
to the exercise price of the put option. The purpose of writing such options is
to generate additional income for the Fund. However, in return for the option
premium, each Fund accepts the risk that it
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may be required to purchase the underlying securities at a price in excess of
the securities' market value at the time of purchase.
Call and put options written by an Underlying Fund will also be considered
to be covered to the extent that the Fund's liabilities under such options are
wholly or partially offset by its rights under call and put options purchased by
the Fund or by an offsetting forward commitment.
In addition, a written call option or put option may be covered by
maintaining cash or liquid assets (either of which may be quoted or denominated
in any currency) in a segregated account, by entering into an offsetting forward
contract and/or by purchasing an offsetting option which, by virtue of its
exercise price or otherwise, reduces a Fund's net exposure on its written option
position.
The Underlying Funds may also write (sell) covered call and put options on
any securities index composed of securities in which it may invest. Options on
securities indices are similar to options on securities, except that the
exercise of securities index options requires cash payments and does not involve
the actual purchase or sale of securities. In addition, securities index
options are designed to reflect price fluctuations in a group of securities or
segment of the securities market rather than price fluctuations in a single
security.
An Underlying Fund may cover call options on a securities index by owning
securities whose price changes are expected to be similar to those of the
underlying index, or by having an absolute and immediate right to acquire such
securities without additional cash consideration (or for additional cash
consideration held in a segregated account by its custodian) upon conversion or
exchange of other securities in its portfolio. A Fund may cover call and put
options on a securities index by maintaining cash or liquid assets with a value
equal to the exercise price in a segregated account with its custodian.
An Underlying Fund may terminate its obligations under an exchange-traded
call or put option by purchasing an option identical to the one it has written.
Obligations under over-the-counter options may be terminated only by entering
into an offsetting transaction with the counterparty to such option. Such
purchases are referred to as "closing purchase transactions."
Purchasing Options. Each Underlying Fund (other than CORE U.S. Equity,
------------------
CORE Large Cap Growth and Financial Square Prime Obligations Funds) may purchase
put and call options on any securities in which it may invest or options on any
securities index composed of securities in which it may invest. A Fund would
also be able to enter into closing sale transactions in order to realize gains
or minimize losses on options it had purchased.
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An Underlying Fund would normally purchase call options in anticipation of
an increase in the market value of securities of the type in which it may
invest. The purchase of a call option would entitle a Fund, in return for the
premium paid, to purchase specified securities at a specified price during the
option period. A Fund would ordinarily realize a gain if, during the option
period, the value of such securities exceeded the sum of the exercise price, the
premium paid and transaction costs; otherwise such a Fund would realize either
no gain or a loss on the purchase of the call option.
An Underlying Fund would normally purchase put options in anticipation of a
decline in the market value of securities in its portfolio ("protective puts")
or in securities in which it may invest. The purchase of a put option would
entitle a Fund, in exchange for the premium paid, to sell specified securities
at a specified price during the option period. The purchase of protective puts
is designed to offset or hedge against a decline in the market value of a Fund's
securities. Put options may also be purchased by a Fund for the purpose of
affirmatively benefiting from a decline in the price of securities which it does
not own. A Fund would ordinarily realize a gain if, during the option period,
the value of the underlying securities decreased below the exercise price
sufficiently to more than cover the premium and transaction costs; otherwise
such a Fund would realize either no gain or a loss on the purchase of the put
option. Gains and losses on the purchase of protective put options would tend
to be offset by countervailing changes in the value of the underlying portfolio
securities.
An Underlying Fund would purchase put and call options on securities
indices for the same purposes as it would purchase options on individual
securities. For a description of options on securities indices, see "Writing
Covered Options" above.
Yield Curve Options. Each Fixed Income Fund may enter into options on the
-------------------
yield "spread" or differential between two securities. Such transactions are
referred to as "yield curve" options. In contrast to other types of options, a
yield curve option is based on the difference between the yields of designated
securities, rather than the prices of the individual securities, and is settled
through cash payments. Accordingly, a yield curve option is profitable to the
holder if this differential widens (in the case of a call) or narrows (in the
case of a put), regardless of whether the yields of the underlying securities
increase or decrease.
An Underlying Fund may purchase or write yield curve options for the same
purposes as other options on securities. For example, a Fund may purchase a
call option on the yield spread between two securities if the Fund owns one of
the securities and anticipates purchasing the other security and wants to hedge
against an adverse
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change in the yield spread between the two securities. A Fund may also purchase
or write yield curve options in an effort to increase current income if, in the
judgment of its investment adviser, the Fund will be able to profit from
movements in the spread between the yields of the underlying securities. The
trading of yield curve options is subject to all of the risks associated with
the trading of other types of options. In addition, however, such options
present risk of loss even if the yield of one of the underlying securities
remains constant, or if the spread moves in a direction or to an extent which
was not anticipated.
Yield curve options written by an Underlying Fund will be "covered." A
call (or put) option is covered if a Fund holds another call (or put) option on
the spread between the same two securities and maintains in a segregated account
with its custodian cash or liquid assets sufficient to cover the Fund's net
liability under the two options. Therefore, a Fund's liability for such a
covered option is generally limited to the difference between the amount of the
Fund's liability under the option written by the Fund less the value of the
option held by the Fund. Yield curve options may also be covered in such other
manner as may be in accordance with the requirements of the counterparty with
which the option is traded and applicable laws and regulations. Yield curve
options are traded over-the-counter, and because they have been only recently
introduced, established trading markets for these options have not yet
developed.
Risks Associated with Options Transactions. There is no assurance that a
------------------------------------------
liquid secondary market on a domestic or foreign options exchange will exist for
any particular exchange-traded option or at any particular time. If an
Underlying Fund is unable to effect a closing purchase transaction with respect
to covered options it has written, the Fund will not be able to sell the
underlying securities or dispose of assets held in a segregated account until
the options expire or are exercised. Similarly, if a Fund is unable to effect a
closing sale transaction with respect to options it has purchased, it will have
to exercise the options in order to realize any profit and will incur
transaction costs upon the purchase or sale of underlying securities.
Reasons for the absence of a liquid secondary market on an exchange include
the following: (i) there may be insufficient trading interest in certain
options; (ii) restrictions may be imposed by an exchange on opening or closing
transactions or both; (iii) trading halts, suspensions or other restrictions may
be imposed with respect to particular classes or series of options; (iv) unusual
or unforeseen circumstances may interrupt normal operations on an exchange; (v)
the facilities of an exchange or the Options Clearing Corporation may not at all
times be adequate to handle current trading volume; or (vi) one or more
exchanges could, for economic or other reasons, decide or be compelled at some
future date to discontinue the trading of options (or a particular
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class or series of options), in which event the secondary market on that
exchange (or in that class or series of options) would cease to exist, although
outstanding options on that exchange that had been issued by the Options
Clearing Corporation as a result of trades on that exchange would continue to be
exercisable in accordance with their terms.
An Underlying Fund may purchase and sell both options that are traded on
U.S. and foreign exchanges and options traded over-the-counter with broker-
dealers who make markets in these options. The ability to terminate over-the-
counter options is more limited than with exchange-traded options and may
involve the risk that broker-dealers participating in such transactions will not
fulfill their obligations.
Transactions by an Underlying Fund in options on securities and indices
will be subject to limitations established by each of the exchanges, boards of
trade or other trading facilities on which such options are traded governing the
maximum number of options in each class which may be written or purchased by a
single investor or group of investors acting in concert regardless of whether
the options are written or purchased on the same or different exchanges, boards
of trade or other trading facilities or are held or written in one or more
accounts or through one or more brokers. Thus, the number of options which a
Fund may write or purchase may be affected by options written or purchased by
other investment advisory clients of the Funds' investment advisers. An
exchange, board of trade or other trading facility may order the liquidation of
positions found to be in excess of these limits, and it may impose certain other
sanctions.
The writing and purchase of options is a highly specialized activity which
involves investment techniques and risks different from those associated with
ordinary portfolio securities transactions. The successful use of protective
puts for hedging purposes depends in part on the ability of a Fund's investment
adviser to predict future price fluctuations and the degree of correlation
between the options and securities markets.
WARRANTS AND STOCK PURCHASE RIGHTS
Certain of the Underlying Funds may invest a portion of their assets in
warrants or rights (including those acquired in units or attached to other
securities) which entitle the holder to buy
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equity securities at a specific price for a specific period of time. A Fund will
invest in warrants and rights only if such securities are deemed appropriate by
its investment adviser for investment by the Fund. Warrants and rights have no
voting rights, receive no dividends and have no rights with respect to the
assets of the issuer.
FOREIGN INVESTMENTS
Investments in foreign securities may offer potential benefits not
available from investments solely in U.S. dollar-denominated or quoted
securities of domestic issuers. Such benefits may include the opportunity to
invest in foreign issuers that appear, in the opinion of an Underlying Fund's
investment adviser, to offer better opportunity for long-term growth of capital
and income than investments in U.S. securities, the opportunity to invest in
foreign countries with economic policies or business cycles different from those
of the United States and the opportunity to reduce fluctuations in portfolio
value by taking advantage of foreign securities markets that do not necessarily
move in a manner parallel to U.S. markets.
Investing in foreign securities involves certain special considerations,
including those set forth below, which are not typically associated with
investing in U.S. dollar-denominated or quoted securities of U.S. issuers.
Investments in foreign securities usually involve currencies of foreign
countries. Accordingly, any Underlying Fund that invests in foreign securities
may be affected favorably or unfavorably by changes in currency rates and in
exchange control regulations and may incur costs in connection with conversions
between various currencies. An Underlying Fund may be subject to currency
exposure independent of its securities positions.
Currency exchange rates may fluctuate significantly over short periods of
time. They generally are determined by the forces of supply and demand in the
foreign exchange markets and the relative merits of investments in different
countries, actual or anticipated changes in interest rates and other complex
factors, as seen from an international perspective. Currency exchange rates also
can be affected unpredictably by intervention by U.S. or foreign governments or
central banks or the failure to intervene or by currency controls or political
developments in the United States or abroad. To the extent that a substantial
portion of a Fund's total assets, adjusted to reflect the Fund's net position
after giving effect to currency transactions, is denominated or quoted in the
currencies of foreign countries, the Fund will be more susceptible to the risk
of adverse economic and political developments within those countries. A Fund's
net currency positions may expose it to risks independent of its securities
positions. In addition, if the currency in which a Fund receives dividends,
interest or other payment declines in value against the U.S. dollar before such
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income is distributed as dividends to shareholders or converted to U.S. dollars,
the Fund may have to sell portfolio securities to obtain sufficient cash to pay
such dividends.
Since foreign issuers generally are not subject to uniform accounting,
auditing and financial reporting standards, practices and requirements
comparable to those applicable to U.S. companies, there may be less publicly
available information about a foreign company than about a U.S. company. Volume
and liquidity in most foreign securities markets are less than in the United
States and securities of many foreign companies are less liquid and more
volatile than securities of comparable U.S. companies. Fixed commissions on
foreign securities exchanges are generally higher than negotiated commissions on
U.S. exchanges, although each Underlying Fund endeavors to achieve the most
favorable net results on its portfolio transactions. There is generally less
government supervision and regulation of foreign securities exchanges, brokers,
dealers and listed and unlisted companies than in the United States. Mail
service between the United States and foreign countries may be slower or less
reliable than within the United States, thus increasing the risk of delayed
settlement of portfolio transactions or loss of certificates for portfolio
securities.
Foreign markets also have different clearance and settlement procedures,
and in certain markets there have been times when settlements have been unable
to keep pace with the volume of securities transactions, making it difficult to
conduct such transactions. Such delays in settlement could result in temporary
periods when some of an Underlying Fund's assets are uninvested and no return is
earned on such assets. The inability of a Fund to make intended security
purchases due to settlement problems could cause the Fund to miss attractive
investment opportunities. Inability to dispose of portfolio securities due to
settlement problems could result either in losses to a Fund due to subsequent
declines in value of the portfolio securities or, if the Fund has entered into a
contract to sell the securities, could result in possible liability to the
purchaser. In addition, with respect to certain foreign countries, there is the
possibility of expropriation or confiscatory taxation, political or social
instability, or diplomatic developments which could affect a Fund's investments
in those countries. Moreover, individual foreign economies may differ favorably
or unfavorably from the U.S. economy in such respects as growth of gross
national product, rate of inflation, capital reinvestment, resource self-
sufficiency and balance of payments position.
Investments in foreign securities may take the form of sponsored and
unsponsored American Depository Receipts ("ADRs"), Global Depository Receipts
("GDRs"), European Depository Receipts ("EDRs") or other similar instruments
representing securities of foreign issuers (together, "Depository Receipts").
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ADRs represent the right to receive securities of foreign issuers deposited
in a domestic bank or a correspondent bank. ADRs are traded on domestic
exchanges or in the U.S. over-the-counter market and, generally, are in
registered form. EDRs and GDRs are receipts evidencing an arrangement with a
non-U.S. bank similar to that for ADRs and are designed for use in the non-U.S.
securities markets. EDRs and GDRs are not necessarily quoted in the same
currency as the underlying security.
To the extent an Underlying Fund acquires Depository Receipts through banks
which do not have a contractual relationship with the foreign issuer of the
security underlying the Depository Receipts to issue and service such Depository
Receipts (unsponsored), there may be an increased possibility that the Fund
would not become aware of and be able to respond to corporate actions such as
stock splits or rights offerings involving the foreign issuer in a timely
manner. In addition, the lack of information may result in inefficiencies in
the valuation of such instruments.
Certain of the Underlying Funds may invest in countries with emerging
economies or securities markets. Political and economic structures in many of
such countries may be undergoing significant evolution and rapid development,
and such countries may lack the social, political and economic stability
characteristic of more developed countries. Certain of such countries may have
in the past failed to recognize private property rights and have at times
nationalized or expropriated the assets of private companies. As a result, the
risks described above, including the risks of nationalization or expropriation
of assets, may be heightened. See "Investing in Emerging Markets" below.
Certain of the Underlying Funds may invest in securities of issuers
domiciled in a country other than the country in whose currency the instrument
is denominated or quoted. The Funds may also invest in securities quoted or
denominated in the European Currency Unit ("ECU"), which is a "basket"
consisting of specified amounts of the currencies of certain of the member
states of the European Community. The specific amounts of currencies comprising
the ECU may be adjusted by the Council of Ministers of the European
Community from time to time to reflect changes in relative values of the
underlying currencies. In addition, the Funds may invest in securities quoted
or denominated in other currency "baskets."
Investing in Emerging Markets. CORE International Equity, International
-----------------------------
Equity, Asia Growth and Emerging Markets Equity Funds are intended for long-term
investors who can accept the risks associated with investing primarily in equity
and equity-related securities of foreign issuers, including Emerging Countries
issuers, as well as the risks associated with investments quoted or denominated
in foreign currencies. Growth and Income, CORE International Equity, Small Cap
Equity, Mid Cap Equity and Capital Growth Funds may invest, to a lesser extent,
in equity and equity-
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related securities of foreign issuers, including Emerging Countries issuers. The
Core Fixed Income, Global Income and High Yield Bond Funds may invest in debt
securities of foreign issuers, including Emerging Markets. In addition, certain
of the potential investment and management techniques of these Funds entail
special risks.
The pace of change in many Emerging Countries, and in particular those in
Asia, over the last 10 years has been rapid. Accelerating economic growth in
the region has combined with capital market development, high government
expenditure, increasing consumer wealth and taxation policies favoring company
expansion. As a result, stock market returns in many Emerging Countries have
been relatively attractive.
Each of the securities markets of the Emerging Countries is less liquid and
subject to greater price volatility and has a smaller market capitalization than
the U.S. securities markets. Issuers and securities markets in such countries
are not subject to as extensive and frequent accounting, financial and other
reporting requirements or as comprehensive government regulations as are issuers
and securities markets in the U.S. In particular, the assets and profits
appearing on the financial statements of Emerging Country issuers may not
reflect their financial position or results of operations in the same manner as
financial statements for U.S. issuers. Substantially less information may be
publicly available about Emerging Country issuers than is available about
issuers in the United States.
Certain of the Emerging Country securities markets are marked by a high
concentration of market capitalization and trading volume in a small number of
issuers representing a limited number of industries, as well as a high
concentration of ownership of such securities by a limited number of investors.
The markets for securities in certain Emerging Countries are in the earliest
stages of their development. Even the markets for relatively widely traded
securities in Emerging Countries may not be able to absorb, without price
disruptions, a significant increase in trading volume or trades of a size
customarily undertaken by institutional investors in the securities markets of
developed countries. Additionally, market making and arbitrage activities are
generally less extensive in such markets, which may contribute to increased
volatility and reduced liquidity of such markets. The less liquid the market,
the more difficult it may be for an Underlying Fund to accurately price its
portfolio securities or to dispose of such securities at the times determined to
be appropriate. The risks associated with reduced liquidity may be particularly
acute to the extent that a Fund needs cash to meet redemption requests, to pay
dividends and other distributions or to pay its expenses.
Transaction costs, including brokerage commissions or dealer mark-ups, in
Emerging Countries may be higher than in the United States and other developed
securities markets. In addition,
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existing laws and regulations are often inconsistently applied. As legal systems
in Emerging Countries develop, foreign investors may be adversely affected by
new or amended laws and regulations. In circumstances where adequate laws exist,
it may not be possible to obtain swift and equitable enforcement of the law.
Foreign investment in the securities markets of several of the Asian
countries is restricted or controlled to varying degrees. These restrictions
may limit an Underlying Fund's investment in certain of the Asian countries and
may increase the expenses of the Fund. Certain Emerging Countries require
governmental approval prior to investments by foreign persons or limit
investment by foreign persons to only a specified percentage of an issuer's
outstanding securities or a specific class of securities which may have less
advantageous terms (including price) than securities of the company available
for purchase by nationals. In addition, the repatriation of both investment
income and capital from several of the Emerging Countries is subject to
restrictions such as the need for certain governmental consents. Even where
there is no outright restriction on repatriation of capital, the mechanics of
repatriation may affect certain aspects of the operation of a Fund. A Fund may
be required to establish special custodial or other arrangements before
investing in certain emerging countries.
Emerging Countries may be subject to a greater degree of economic,
political and social instability than is the case in the United States, Japan
and most Western European countries. Such instability may result from, among
other things, the following: (i) authoritarian governments or military
involvement in political and economic decision making, including changes or
attempted changes in governments through extra-constitutional means; (ii)
popular unrest associated with demands for improved political, economic or
social conditions; (iii) internal insurgencies; (iv) hostile relations with
neighboring countries; and (v) ethnic, religious and racial disaffection or
conflict. Such economic, political and social instability could disrupt the
principal financial markets in which the Underlying Funds may invest and
adversely affect the value of the Funds' assets.
The economies of Emerging Countries may differ unfavorably from the U.S.
economy in such respects as growth of gross domestic product, rate of inflation,
capital reinvestment, resources, self-sufficiency and balance of payments. Many
Emerging Countries have experienced in the past, and continue to experience,
high rates of inflation. In certain countries inflation has at times
accelerated rapidly to hyperinflationary levels, creating a negative interest
rate environment and sharply eroding the value of outstanding financial assets
in those countries. The economies of many Emerging Countries are heavily
dependent upon international trade and are accordingly affected by protective
trade barriers and the economic conditions of their trading partners. In
addition, the
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economies of some Emerging Countries are vulnerable to weakness in world prices
for their commodity exports.
An Underlying Fund's income and, in some cases, capital gains from foreign
stocks and securities will be subject to applicable taxation in certain of the
countries in which it invests, and treaties between the U.S. and such countries
may not be available in some cases to reduce the otherwise applicable tax rates.
Securities markets of emerging markets may also have less efficient
clearance and settlement procedures than U.S. markets, making it difficult to
conduct and complete transactions. Delays in settlement could result in
temporary periods when a portion of an Underlying Fund's assets is uninvested
and settlement could result in temporary periods when a portion of the Fund's
assets is uninvested and no return is earned thereon. Inability to make
intended security purchases could cause a Fund to miss attractive investment
opportunities. Inability to dispose of portfolio securities could result either
in losses to the Fund due to subsequent declines in value of the portfolio
security or, if the Fund has entered into a contract to sell the security, could
result in possible liability of the Fund to the purchaser.
SOVEREIGN DEBT OBLIGATIONS. Investments in sovereign debt obligations
involves special risks not present in corporate debt obligations. The issuer of
the sovereign debt or the governmental authorities that control the repayment of
the debt may be unable or unwilling to repay principal or interest when due, and
an Underlying Fund may have limited recourse in the event of a default. During
periods of economic uncertainty, the market prices of sovereign debt, and a
Fund's net asset value, may be more volatile than prices of debt obligations of
U.S. issuers. In the past, the governments of certain emerging markets have
encountered difficulties in servicing their debt obligations, withheld payments
of principal and interest and declared moratoria on the payment of principal and
interest on their sovereign debts.
A sovereign debtor's willingness or ability to repay principal and pay
interest in a timely manner may be affected by, among other factors, its cash
flow situation, the extent of its foreign currency reserves, the availability of
sufficient foreign exchange, the relative size of the debt service burden, the
sovereign debtor's policy toward principal international lenders and local
political constraints. Sovereign debtors may also be dependent on expected
disbursements from foreign governments, multinational agencies and other
entities to reduce principal and interest arrearages on their debt. The failure
of a sovereign debtor to implement economic reforms, achieve specified levels of
economic performance or repay principal or interest when due may result in the
cancellation of the third parties' commitments to lend funds to the sovereign
debtor, which may further impair such debtor's ability or willingness to timely
service its debts.
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FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS. Certain of the Underlying
Funds may enter into forward foreign currency exchange contracts for hedging
purposes. CORE International Equity, International Equity, Global Income and
High Yield Funds may also enter into forward foreign currency exchange contracts
to seek to increase total return. A forward foreign currency exchange contract
involves an obligation to purchase or sell a specific currency at a future date,
which may be any fixed number of days from the date of the contract agreed upon
by the parties, at a price set at the time of the contract. These contracts are
traded in the interbank market conducted directly between currency traders
(usually large commercial banks) and their customers. A forward contract
generally has no deposit requirement, and no commissions are generally charged
at any stage for trades.
At the maturity of a forward contract an Underlying Fund may either accept
or make delivery of the currency specified in the contract or, at or prior to
maturity, enter into a closing transaction involving the purchase or sale of an
offsetting contract. Closing transactions with respect to forward contracts are
usually effected with the currency trader who is a party to the original forward
contract.
An Underlying Fund may enter into forward foreign currency exchange
contracts in several circumstances. First, when a Fund enters into a contract
for the purchase or sale of a security denominated or quoted in a foreign
currency, or when a Fund anticipates the receipt in a foreign currency of
dividend or interest payments on such a security which it holds, the Fund may
desire to "lock in" the U.S. dollar price of the security or the U.S. dollar
equivalent of such dividend or interest payment, as the case may be. By
entering into a forward contract for the purchase or sale, for a fixed amount of
dollars, of the amount of foreign currency involved in the underlying
transactions, the Fund will attempt to protect itself against an adverse change
in the relationship between the U.S. dollar and the subject foreign currency
during the period between the date on which the security is purchased or sold,
or on which the dividend or interest payment is declared, and the date on which
such payments are made or received.
Additionally, when an Underlying Fund's investment adviser believes that
the currency of a particular foreign country may suffer a substantial decline
against the U.S. dollar, it may enter into a forward contract to sell, for a
fixed amount of U.S. dollars, the amount of foreign currency approximating the
value of some or all of a Fund's portfolio securities quoted or denominated in
such foreign currency. 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 those securities between the
date on
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which the contract is entered into and the date it matures. Using forward
contracts to protect the value of a Fund's portfolio securities against a
decline in the value of a currency does not eliminate fluctuations in the
underlying prices of the securities. It simply establishes a rate of exchange
which a Fund can achieve at some future point in time. The precise projection of
short-term currency market movements is not possible, and short-term hedging
provides a means of fixing the U.S. dollar value of only a portion of a Fund's
foreign assets.
The CORE International Equity, International Equity, Emerging Markets
Equity, Asia Growth, Core Fixed Income, Global Income and High Yield Funds may
engage in cross-hedging by using forward contracts in one currency to hedge
against fluctuations in the value of securities quoted or denominated in a
different currency if a Fund's investment adviser determines that there is a
pattern of correlation between the two currencies. These Funds may also
purchase and sell forward contracts to seek to increase total return when a
Fund's investment adviser anticipates that the foreign currency will appreciate
or depreciate in value, but securities quoted or denominated in that currency do
not present attractive investment opportunities and are not held in the Fund's
portfolio.
A Fund's custodian will place cash or liquid assets into a segregated
account of such Fund in an amount equal to the value of the Fund's total assets
committed to the consummation of forward foreign currency exchange contracts
requiring the Fund to purchase foreign currencies and forward contracts entered
into to seek to increase total return. If the value of the securities placed in
the segregated account declines, additional cash or liquid assets will be placed
in the account on a daily basis so that the value of the account will equal the
amount of a Fund's commitments with respect to such contracts. The segregated
account will be marked-to-market on a daily basis. Although the contracts are
not presently regulated by the CFTC, the CFTC may in the future assert authority
to regulate these contracts. In such event, a Fund's ability to utilize forward
foreign currency exchange contracts may be restricted. The Core Fixed Income,
Global Income and High Yield Funds will not enter into a forward contract with a
term of greater than one year.
While an Underlying Fund will enter into forward contracts to reduce
currency exchange rate risks, transactions in such contracts involve certain
other risks. Thus, while a Fund may benefit from such transactions,
unanticipated changes in currency prices may result in a poorer overall
performance for the Fund than if it had not engaged in any such transactions.
Moreover, there may be imperfect correlation between a Fund's portfolio holdings
of securities quoted or denominated in a particular currency and forward
contracts entered into by such Fund. Such imperfect correlation may cause a
Fund to sustain losses which will prevent
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the Fund from achieving a complete hedge or expose the Fund to risk of foreign
exchange loss.
Markets for trading foreign forward currency contracts offer less
protection against defaults than is available when trading in currency
instruments on an exchange. Since a forward foreign currency exchange contract
is not guaranteed by an exchange or clearinghouse, a default on the contract
would deprive an Underlying Fund of unrealized profits or force the Fund to
cover its commitments for purchase or resale, if any, at the current market
price.
Forward contracts are subject to the risk that the counterparty to such
contract will default on its obligations. Since a forward foreign currency
exchange contract is not guaranteed by an exchange or clearinghouse, a default
on the contract would deprive an Underlying Fund of unrealized profits,
transaction costs or the benefits of a currency hedge or force the Fund to cover
its purchase or sale commitments, if any, at the current market price. A Fund
will not enter into such transactions unless the credit quality of the unsecured
senior debt or the claims-paying ability of the counterparty is considered to be
investment grade by its investment adviser. Because of the limited market for
these instruments with respect to the currencies of many Emerging Countries, it
is not currently anticipated that a significant portion of Emerging Markets
Equity and Asia Growth Fund's currency exposure will be covered by such
instruments.
WRITING AND PURCHASING CURRENCY CALL AND PUT OPTIONS. Certain of the
Underlying Funds may write covered put and call options and purchase put and
call options on foreign currencies for the purpose of protecting against
declines in the U.S. dollar value of portfolio securities and against increases
in the U.S. dollar cost of securities to be acquired. As with other kinds of
option transactions, however, the writing of an option on foreign currency will
constitute only a partial hedge, up to the amount of the premium received. If
and when a Fund seeks to close out an option, the Fund could be required to
purchase or sell foreign currencies at disadvantageous exchange rates, thereby
incurring losses. The purchase of an option on foreign 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 transaction costs. Options on foreign
currencies to be written or purchased by a Fund will be traded on U.S. and
foreign exchanges or over-the-counter.
CORE International Equity, International Equity, Emerging Markets Equity,
Asia Growth, Core Fixed Income, Global Income and High Yield Funds may use
options on currency to cross-hedge, which involves writing or purchasing options
on one currency to hedge against changes in exchange rates for a different
currency with a
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pattern of correlation. In addition, certain Underlying Funds may purchase call
options on currency to seek to increase total return when its investment adviser
anticipates that the currency will appreciate in value, but the securities
quoted or denominated in that currency do not present attractive investment
opportunities and are not included in the Fund's portfolio.
A call option written by an Underlying Fund obligates a Fund to sell
specified currency to the holder of the option at a specified price if the
option is exercised before the expiration date. A put option written by a Fund
would obligate a Fund to purchase specified currency from the option holder at a
specified price if the option is exercised at any time before the expiration
date. The writing of currency options involves a risk that a Fund will, upon
exercise of the option, be required to sell currency subject to a call at a
price that is less than the currency's market value or be required to purchase
currency subject to a put at a price that exceeds the currency's market value.
For a description of how to cover written put and call options, see "Writing
Covered Options" above.
An Underlying Fund may terminate its obligations under a call or put option
by purchasing an option identical to the one it has written. Such purchases are
referred to as "closing purchase transactions." A Fund would also be able to
enter into closing sale transactions in order to realize gains or minimize
losses on options purchased by the Fund.
An Underlying Fund would normally purchase call options on foreign currency
in anticipation of an increase in the U.S. dollar value of currency in which
securities to be acquired by a Fund are quoted or denominated. The purchase of
a call option would entitle the Fund, in return for the premium paid, to
purchase specified currency at a specified price during the option period. A
Fund would ordinarily realize a gain if, during the option period, the value of
such currency exceeded the sum of the exercise price, the premium paid and
transaction costs; otherwise the Fund would realize either no gain or a loss on
the purchase of the call option.
An Underlying Fund would normally purchase put options in anticipation of a
decline in the U.S. dollar value of currency in which securities in its
portfolio are quoted or denominated ("protective puts"). The purchase of a put
option would entitle a Fund, in exchange for the premium paid, to sell specified
currency at a specified price during the option period. The purchase of
protective puts is designed merely to offset or hedge against a decline in the
dollar value of a Fund's portfolio securities due to currency exchange rate
fluctuations. A Fund would ordinarily realize a gain if, during the option
period, the value of the underlying currency decreased below the exercise price
sufficiently to more than cover the premium and transaction costs; otherwise the
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Fund would realize either no gain or a loss on the purchase of the put option.
Gains and losses on the purchase of protective put options would tend to be
offset by countervailing changes in the value of underlying currency or
portfolio securities.
In addition to using options for the hedging purposes described above,
certain Underlying Funds may use options on currency to seek to increase total
return. These Funds may write (sell) covered put and call options on any
currency in order to realize greater income than would be realized on portfolio
securities transactions alone. However, in writing covered call options for
additional income, a Fund may forego the opportunity to profit from an increase
in the market value of the underlying currency. Also, when writing put
options, a Fund accepts, in return for the option premium, the risk that it may
be required to purchase the underlying currency at a price in excess of the
currency's market value at the time of purchase.
An Underlying Fund would normally purchase call options to seek to increase
total return in anticipation of an increase in the market value of a currency.
A Fund would ordinarily realize a gain if, during the option period, the value
of such currency exceeded the sum of the exercise price, the premium paid and
transaction costs. Otherwise the Fund would realize either no gain or a loss on
the purchase of the call option. Put options may be purchased by a Fund for the
purpose of benefiting from a decline in the value of currencies which it does
not own. A Fund would ordinarily realize a gain if, during the option period,
the value of the underlying currency decreased below the exercise price
sufficiently to more than cover the premium and transaction costs. Otherwise
the Fund would realize either no gain or a loss on the purchase of the put
option.
SPECIAL RISKS ASSOCIATED WITH OPTIONS ON CURRENCY. An exchange traded
options position may be closed out only on an options exchange which provides a
secondary market for an option of the same series. There is no assurance that a
liquid secondary market on an exchange will exist for any particular option, or
at any particular time. In such event, it might not be possible to effect
closing transactions in particular options, with the result that a Fund would
have to exercise its options in order to realize any profit and would incur
transaction costs upon the sale of underlying securities pursuant to the
exercise of put options. If an Underlying Fund as a covered call option writer
is unable to effect a closing purchase transaction in a secondary market, it
will not be able to sell the underlying currency (or security quoted or
denominated in that currency) until the option expires or it delivers the
underlying currency upon exercise.
There is no assurance that higher than anticipated trading activity or
other unforeseen events might not, at times, render certain of the facilities of
the Options Clearing Corporation
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inadequate, and thereby result in the institution by an exchange of special
procedures which may interfere with the timely execution of customers' orders.
An Underlying Fund may purchase and write over-the-counter options to the
extent consistent with its limitation on investments in illiquid securities.
Trading in over-the-counter options is subject to the risk that the other party
will be unable or unwilling to close out options purchased or written by a Fund.
The amount of the premiums which a Fund may pay or receive may be adversely
affected as new or existing institutions, including other investment companies,
engage in or increase their option purchasing and writing activities.
MORTGAGE DOLLAR ROLLS
The Underlying Fixed Income Funds may enter into mortgage "dollar rolls" in
which a Fund sells securities for delivery in the current month and
simultaneously contracts with the same counterparty to repurchase similar (same
type, coupon and maturity), but not identical securities on a specified future
date. During the roll period, a Fund loses the right to receive principal and
interest paid on the securities sold. However, a Fund would benefit to the
extent of any difference between the price received for the securities sold and
the lower forward price for the future purchase (often referred to as the
"drop") or fee income plus the interest earned on the cash proceeds of the
securities sold until the settlement date of the forward purchase. Unless such
benefits exceed the income, capital appreciation and gain or loss due to
mortgage prepayments that would have been realized on the securities sold as
part of the mortgage dollar roll, the use of this technique will diminish the
investment performance of a Fund compared with what such performance would have
been without the use of mortgage dollar rolls. All cash proceeds will be
invested in instruments that are permissible investments for the applicable
Fund. A Fund will hold and maintain in a segregated account until the settlement
date cash or liquid assets, as permitted by applicable law, in an amount equal
to its forward purchase price.
For financial reporting and tax purposes, the Underlying Funds treat
mortgage dollar rolls as two separate transactions; one involving the purchase
of a security and a separate transaction involving a sale. The Funds do not
currently intend to enter into mortgage dollar rolls that are accounted for as a
financing.
Mortgage dollar rolls involve certain risks including the following: if
the broker-dealer to whom an Underlying Fund sells the security becomes
insolvent, a Fund's right to purchase or repurchase the mortgage-related
securities subject to the mortgage dollar roll may be restricted and the
instrument which
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a Fund is required to repurchase may be worth less than an instrument which a
Fund originally held. Successful use of mortgage dollar rolls will depend upon
the ability of a Fund's investment adviser to manage a Fund's interest rate and
mortgage prepayments exposure. For these reasons, there is no assurance that
mortgage dollar rolls can be successfully employed.
CONVERTIBLE SECURITIES
Convertible securities include corporate notes or preferred stock but are
ordinarily long-term debt obligation of the issuer convertible at a stated
exchange rate into common stock of the issuer. As with all debt securities, the
market value of convertible securities tends to decline as interest rates
increase and, conversely, to increase as interest rates decline. Convertible
securities generally offer lower interest or dividend yields than non-
convertible securities of similar quality. However, when the market price of
the common stock underlying a convertible security exceeds the conversion price,
the price of the convertible security tends to reflect the value of the
underlying common stock. As the market price of the underlying common stock
declines, the convertible security tends to trade increasingly on a yield basis,
and thus may not depreciate to the same extent as the underlying common stock.
Convertible securities rank senior to common stocks in an issuer's capital
structure and consequently entail less risk than the issuer's common stock.
CURRENCY SWAPS, MORTGAGE SWAPS, INDEX SWAPS AND INTEREST RATE SWAPS, CAPS,
FLOORS AND COLLARS
The CORE International Equity, International Equity, Emerging Markets
Equity, Asia Growth, Core Fixed Income, Global Income and High Yield Funds may
enter into currency swaps for both hedging purposes and to seek to increase
total return. In addition, the Underlying Fixed Income Funds may enter into
mortgage, index and interest rate swaps and other interest rate swap
arrangements such as rate caps, floors and collars, for hedging purposes or to
seek to increase total return. Currency swaps involve the exchange by an
Underlying Fund with another party of their respective rights to make or receive
payments in specified currencies. Interest rate swaps involve the exchange by a
Fund with another party of their respective commitments to pay or receive
interest, such as an exchange of fixed rate payments for floating rate payments.
Mortgage swaps are similar to interest rate swaps in that they represent
commitments to pay and receive interest. The notional principal amount, however,
is tied to a reference pool or pools of mortgages. Index swaps involve the
exchange by a Fund with another party of the respective amounts payable with
respect to a notional principal amount at interest rates equal to two specified
indices. The purchase of an interest rate cap entitles the purchaser, to the
extent that a specified index exceeds a predetermined interest rate, to receive
payment of interest on a notional principal amount from the party selling such
interest rate cap. The purchase of an
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interest rate floor entitles the purchaser, to the extent that a specified index
falls below a predetermined interest rate, to receive payments of interest on a
notional principal amount from the party selling the interest rate floor. An
interest rate collar is the combination of a cap and a floor that preserves a
certain return within a predetermined range of interest rates. Since interest
rate, mortgage and currency swaps and interest rate caps, floors and collars are
individually negotiated, each Fund expects to achieve an acceptable degree of
correlation between its portfolio investments and its swap, cap, floor and
collar positions.
An Underlying Fund will enter into interest rate, mortgage and index swaps
only on a net basis, which means that 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. Interest rate, index and mortgage swaps do not involve the
delivery of securities, other underlying assets or principal. Accordingly, the
risk of loss with respect to interest rate, index and mortgage swaps is limited
to the net amount of interest payments that the Fund is contractually obligated
to make. If the other party to an interest rate, index or mortgage swap
defaults, the Fund's risk of loss consists of the net amount of interest
payments that the Fund is contractually entitled to receive, if any. In
contrast, currency swaps usually involve the delivery of a gross payment stream
in one designated currency in exchange for the gross payment stream in another
designated currency. Therefore, the entire payment stream under a currency swap
is subject to the risk that the other party to the swap will default on its
contractual delivery obligations. To the extent that the net amount payable
under an interest rate, index or mortgage swap and the entire amount of the
payment stream payable by a Fund under a currency swap or an interest rate
floor, cap or collar is held in a segregated account consisting of cash or
liquid assets the Funds and their investment advisers believe that transactions
do not constitute senior securities under the Act and, accordingly, will not
treat them as being subject to a Fund's borrowing restrictions.
An Underlying Equity Fund will not enter into swap transactions unless the
unsecured commercial paper, senior debt or claims paying ability of the other
party thereto is considered to be investment grade by its investment adviser.
The Underlying Fixed Income Funds will not enter into any swap transactions
unless the unsecured commercial paper, senior debt or claims-paying ability of
the other party is rated either AA or A-1 or better by Standard & Poor's or Aa
or P-1 or better by Moody's or their equivalent ratings. If there is a default
by the other party to such a transaction, a Fund will have contractual remedies
pursuant to the agreements 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
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become relatively liquid in comparison with the markets for other similar
instruments which are traded in the interbank market.
The use of interest rate, mortgage, index and currency swaps, as well as
interest rate caps, floors and collars, is a highly specialized activity which
involves investment techniques and risks different from those associated with
ordinary portfolio securities transactions. If an Underlying Fund's investment
adviser is incorrect in its forecasts of market values, interest rates and
currency exchange rates, the investment performance of a Fund would be less
favorable than it would have been if this investment technique were not used.
REAL ESTATE INVESTMENT TRUSTS
The Underlying Equity Funds may invest in shares of REITs. REITs are
pooled investment vehicles which invest primarily in income producing real
estate or real estate related loans or interest. REITs are generally classified
as equity REITs, mortgage REITs or a combination of equity and mortgage REITs.
Equity REITs invest the majority of their assets directly in real property and
derive income primarily from the collection of rents. Equity REITs can also
realize capital gains by selling properties that have appreciated in value.
Mortgage REITs invest the majority of their assets in real estate mortgages and
derive income from the collection of interest payments. Like regulated
investment companies such as the Underlying Funds, REITs are not taxed on income
distributed to shareholders provided they comply with certain requirements under
the Code. A Fund will indirectly bear its proportionate share of any expenses
paid by REITs in which it invests in addition to the expenses paid by a Fund.
Investing in REITs involves certain unique risks. Equity REITs may be
affected by changes in the value of the underlying property owned by such REITs,
while mortgage REITs may be affected by the quality of any credit extended.
REITs are dependent upon management skills, are not diversified (except to the
extent the Code requires), and are subject to the risks of financing projects.
REITs are subject to heavy cash flow dependency, default by borrowers, self-
liquidation, and the possibilities of failing to qualify for the exemption from
tax for distributed income under the Code and failing to maintain their
exemptions from the Investment Company Act of 1940, as amended (the "Act").
REITs (especially mortgage REITs) are also subject to interest rate risks.
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<PAGE>
LENDING OF PORTFOLIO SECURITIES
The Underlying Funds may lend portfolio securities. Under present
regulatory policies, such loans may be made to institutions such as brokers or
dealers and would be required to be secured continuously by collateral in cash,
cash equivalents or U.S. Government securities maintained on a current basis at
an amount at least equal to the market value of the securities loaned. A Fund
would be required to have the right to call a loan and obtain the securities
loaned at any time on five days' notice. For the duration of a loan, a Fund
would continue to receive the equivalent of the interest or dividends paid by
the issuer on the securities loaned and would also receive compensation from
investment of the collateral. A Fund would not have the right to vote any
securities having voting rights during the existence of the loan, but a Fund
would call the loan in anticipation of an important vote to be taken among
holders of the securities or the giving or withholding of their consent on a
material matter affecting the investment. As with other extensions of credit
there are risks of delay in recovering, or even loss of rights in, the
collateral should the borrower of the securities fail financially. However, the
loans would be made only to firms deemed by an Underlying Fund's investment
adviser to be of good standing, and when, in the judgment of a Fund's investment
adviser, the consideration which can be earned currently from securities loans
of this type justifies the attendant risk. If an investment adviser determines
to make securities loans, it is intended that the value of the securities loaned
would not exceed one-third of the value of the total assets of a Fund.
WHEN-ISSUED SECURITIES AND FORWARD COMMITMENTS
Each Underlying Fund may purchase securities on a when-issued basis or
purchase or sell securities on a forward commitment basis. These transactions
involve a commitment by a Fund to purchase or sell securities at a future date.
The price of the underlying securities (usually expressed in terms of yield) and
the date when the securities will be delivered and paid for (the settlement
date) are fixed at the time the transaction is negotiated. When-issued purchases
and forward commitment transactions are negotiated directly with the other
party, and such commitments are not traded on exchanges. A Fund will purchase
securities on a when-issued basis or purchase or sell securities on a forward
commitment basis only with the intention of completing the transaction and
actually purchasing or selling the securities. If deemed advisable as a matter
of investment strategy, however, a Fund may dispose of or negotiate a commitment
after entering into it. A Fund may also sell securities it has committed to
purchase before those securities are delivered to the Fund on the settlement
date. The Funds may also realize a capital gain or loss in connection with these
transactions. For purposes of determining a Fund's duration, the maturity of
when-issued or forward commitment securities will
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be calculated from the commitment date. A Fund is required to hold and maintain
in a segregated account with the Fund's custodian until three days prior to the
settlement date, cash and liquid assets in an amount sufficient to meet the
purchase price. Alternatively, a Fund may enter into offsetting contracts for
the forward sale of other securities that it owns. Securities purchased or sold
on a when-issued or forward commitment basis involve a risk of loss if the value
of the security to be purchased declines prior to the settlement date or if the
value of the security to be sold increases prior to the settlement date.
INVESTMENT IN UNSEASONED COMPANIES
The Underlying Funds may invest a portion of their net assets in companies
(including predecessors) which have operated less than three years, except that
this limitation does not apply to debt securities which have been rated
investment grade or better by at least one nationally recognized statistical
rating organization. The securities of such companies may have limited
liquidity, which can result in their being priced higher or lower than might
otherwise be the case. In addition, investments in unseasoned companies are
more speculative and entail greater risk than do investments in companies with
an established operating record.
OTHER INVESTMENT COMPANIES
Each Underlying Equity Fund reserves the right to invest up to 5% and each
Underlying Fixed Income Fund reserves the right to invest up to 10% of its net
assets in the securities of other investment companies but may not invest more
than 5% of its total assets in the security of one investment company or acquire
more than 3% of the voting securities of any other investment company. Pursuant
to an exemptive order obtained from the SEC, the Underlying Funds may invest in
money market funds for which the Adviser or any of its affiliates serves as
investment adviser. An Underlying Fund will indirectly bear its proportionate
share of any management fees and other expenses paid by investment companies in
which it invests in addition to the advisory and administration fees paid by the
Fund. However, to the extent that the Fund invests in a money market fund for
which the Adviser or any of its affiliates acts as adviser, the advisory and
administration fees payable by the Fund to the Adviser or its affiliates will be
reduced by an amount equal to the Fund's proportionate share of the advisory and
administration fees paid by such money market fund to the Adviser or its
affiliates.
Each Underlying Equity Fund may also invest in SPDRs. SPDRs are interests
in a unit investment trust ("UIT") that may be obtained from the UIT or
purchased in the secondary market (SPDRs are listed on the American Stock
Exchange).
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The UIT will issue SPDRs in aggregations known as "Creation Units" in
exchange for a "Portfolio Deposit" consisting of (a) a portfolio of securities
substantially similar to the component securities ("Index Securities") of the
Standard & Poor's 500 Composite Stock Price Index (the "S&P Index"), (b) a cash
payment equal to a pro rata portion of the dividends accrued on the UIT's
portfolio securities since the last dividend payment by the UIT, net of expenses
and liabilities, and (c) a cash payment or credit ("Balancing Amount") designed
to equalize the net asset value of the S&P Index and the net asset value of a
Portfolio Deposit.
SPDRs are not individually redeemable, except upon termination of the UIT.
To redeem, the Portfolio must accumulate enough SPDRs to reconstitute a Creation
Unit. The liquidity of small holdings of SPDRs, therefore, will depend upon the
existence of a secondary market. Upon redemption of a Creation Unit, the
Portfolio will receive Index Securities and cash identical to the Portfolio
Deposit required of an investor wishing to purchase a Creation Unit that day.
The price of SPDRs is derived from and based upon the securities held by
the UIT. Accordingly, the level of risk involved in the purchase or sale of a
SPDR is similar to the risk involved in the purchase or sale of traditional
common stock, with the exception that the pricing mechanism for SPDRs is based
on a basket of stocks. Disruptions in the markets for the securities underlying
SPDRs purchased or sold by the Funds could result in losses on SPDRs. Trading
in SPDRs involves risks similar to those risks, described under "Risk Associated
with Options Transactions," involved in the writing of options on securities.
Certain Underlying Funds may also purchase shares of investment companies
investing primarily in foreign securities, including "country funds." Country
funds have portfolios consisting primarily of securities of issuers located in
one foreign country or region. Certain Underlying Funds may also invest in World
Equity Benchmark Shares ("WEB") and similar securities that invest in securities
included in foreign securities indices.
REPURCHASE AGREEMENTS
Each Underlying Fund may enter into repurchase agreements with selected
broker-dealers, banks or other financial institutions. A repurchase agreement
is an arrangement under which a Fund purchases securities and the seller agrees
to repurchase the securities within a particular time and at a specified price.
Custody of the securities is maintained by a Fund's custodian. The repurchase
price may be higher than the purchase price, the difference being income to a
Fund, or the purchase and repurchase prices may be the
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same, with interest at a stated rate due to a Fund together with the repurchase
price on repurchase. In either case, the income to a Fund is unrelated to the
interest rate on the security subject to the repurchase agreement.
For purposes of the Act and generally for tax purposes, a repurchase
agreement is deemed to be a loan from an Underlying Fund to the seller of the
security. For other purposes, it is not clear whether a court would consider
the security purchased by a Fund subject to a repurchase agreement as being
owned by a Fund or as being collateral for a loan by a Fund to the seller. In
the event of commencement of bankruptcy or insolvency proceedings with respect
to the seller of the security before repurchase of the security under a
repurchase agreement, a Fund may encounter delay and incur costs before being
able to sell the security. Such a delay may involve loss of interest or a
decline in price of the security. If the court characterizes the transaction as
a loan and a Fund has not perfected a security interest in the security, a Fund
may be required to return the security to the seller's estate and be treated as
an unsecured creditor of the seller. As an unsecured creditor, a Fund would be
at risk of losing some or all of the principal and interest involved in the
transaction.
As with any unsecured debt instrument purchased for an Underlying Fund, the
Fund's investment adviser seeks to minimize the risk of loss from repurchase
agreements by analyzing the creditworthiness of the obligor, in this case the
seller of the security. Apart from the risk of bankruptcy or insolvency
proceedings, there is also the risk that the seller may fail to repurchase the
security. However, if the market value of the security subject to the
repurchase agreement becomes less than the repurchase price (including accrued
interest), a Fund will direct the seller of the security to deliver additional
securities so that the market value of all securities subject to the repurchase
agreement equals or exceeds the repurchase price. Certain repurchase agreements
which provide for settlement in more than seven days can be liquidated before
the nominal fixed term on seven days or less notice. Such repurchase agreements
will be regarded as liquid instruments.
In addition, an Underlying Fund, together with other registered investment
companies having advisory agreements with the adviser or its affiliates, may
transfer uninvested cash balances into a single joint account, the daily
aggregate balance of which will be invested in one or more repurchase
agreements.
RESTRICTED AND ILLIQUID SECURITIES
The Underlying Funds may purchase securities that are not registered or are
offered in an exempt non-public offering ("Restricted Securities") under the
Securities Act of 1933, as amended ("1933 Act"), including securities eligible
for resale to
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"qualified institutional buyers" pursuant to Rule 144A under the 1933 Act.
However, a Fund will not invest more than 15% (10% in the case of Financial
Square Prime Obligations Fund) of its net assets in illiquid investments, which
includes repurchase agreements maturing in more than seven days, certain SMBS,
municipal leases, certain over-the-counter options, securities that are not
readily marketable and Restricted Securities, unless the Board of Trustees
determines that such Restricted Securities are liquid. Certain commercial paper
issued in reliance on Section 4(2) of the 1933 Act is treated like Rule 144A
Securities. The Trustees have adopted guidelines and delegated to the Underlying
Funds' investment advisers the daily function of determining and monitoring the
liquidity of the Funds' portfolio securities. This investment practice could
have the effect of increasing the level of illiquidity in a Fund to the extent
that qualified institutional buyers become for a time uninterested in purchasing
these Restricted Securities.
The purchase price and subsequent valuation of Restricted Securities may
reflect a discount from the price at which such securities trade when they are
not restricted, since the restriction may make them less liquid. The amount of
the discount from the prevailing market price is expected to vary depending upon
the type of security, the character of the issuer, the party who will bear the
expenses of registering the Restricted Securities and prevailing supply and
demand conditions.
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<PAGE>
INVESTMENT RESTRICTIONS
The following investment restrictions have been adopted by the Trust as
fundamental policies that cannot be changed without the affirmative vote of the
holders of a majority (as defined in the Act) of the outstanding voting
securities of the affected Portfolio. The investment objective of each
Portfolio and all other investment policies or practices of each Portfolio are
considered by the Trust not to be fundamental and accordingly may be changed
without shareholder approval. See "Investment Objectives and Policies" in the
Prospectus. For purposes of the Act, "majority" means the lesser of (a) 67% or
more of the shares of the Trust or a Portfolio present at a meeting, if the
holders of more than 50% of the outstanding shares of the Trust or a Portfolio
are present or represented by proxy, or (b) more than 50% of the shares of the
Trust or a Portfolio. For purposes of the following limitations, any limitation
which involves a maximum percentage shall not be considered violated unless an
excess over the percentage occurs immediately after, and is caused by, an
acquisition or encumbrance of securities or assets of, or borrowings by, a
Portfolio. With respect to the Portfolios' fundamental investment restriction
no. 3, asset coverage of at least 300% (as defined in the Act), inclusive of any
amounts borrowed, must be maintained at all times.
A Portfolio may not:
(1) make any investment inconsistent with the Portfolio's
classification as a diversified company under the Act;
(2) invest 25% or more of its total assets in the securities of one
or more issuers conducting their principal business activities in
the same industry (excluding investment companies and the U.S.
Government or any of its agencies or instrumentalities). (For
the purposes of this restriction, state and municipal governments
and their agencies, authorities and instrumentalities are not
deemed to be industries; telephone companies are considered to be
a separate industry from water, gas or electric utilities;
personal credit finance companies and business credit finance
companies are deemed to be separate industries; and wholly-owned
finance companies are considered to be in the industry of their
parents if their activities are primarily related to financing
the activities of their parents. This restriction does not apply
to investments in municipal securities which have been pre-
refunded by the use of obligations of the U.S.
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<PAGE>
government or any of its agencies or instrumentalities;
(3) borrow money, except (a) the Portfolio may borrow from banks (as
defined in the Act) or through reverse repurchase agreements in
amounts up to 33-1/3% of its total assets (including the amount
borrowed), (b) the Portfolio may, to the extent permitted by
applicable law, borrow up to an additional 5% of its total assets
for temporary purposes, (c) the Portfolio may obtain such short-
term credits as may be necessary for the clearance of purchases
and sales of portfolio securities, (d) the Portfolio may purchase
securities on margin to the extent permitted by applicable law
and (e) the Portfolio may engage transactions in mortgage dollar
rolls which are accounted for as financings;
(4) make loans, except through (a) the purchase of debt obligations
in accordance with the Portfolio's investment objective and
policies, (b) repurchase agreements with banks, brokers, dealers
and other financial institutions and (c) loans of securities as
permitted by applicable law;
(5) underwrite securities issued by others, except to the extent that
the sale of portfolio securities by the Portfolio may be deemed
to be an underwriting;
(6) purchase, hold or deal in real estate, although a Portfolio may
purchase and sell securities that are secured by real estate or
interests therein, securities of real estate investment trusts
and mortgage-related securities and may hold and sell real estate
acquired by a Portfolio as a result of the ownership of
securities;
(7) invest in commodities or commodity contracts, except that the
Portfolio may invest in currency and financial instruments and
contracts that are commodities or commodity contracts;
(8) issue senior securities to the extent such issuance would violate
applicable law.
Notwithstanding any other fundamental investment restriction or policy,
each Portfolio may invest some or all of its assets in a single open-end
investment company or series thereof with substantially the same investment
objective, restrictions and policies as the Portfolio.
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<PAGE>
In addition to the fundamental policies mentioned above, the Trustees have
adopted the following non-fundamental policies which can be changed or amended
by action of the Trustees without approval of shareholders.
A Portfolio may not:
(a) Invest in companies for the purpose of exercising control or
management (but this does not prevent a Portfolio from purchasing a
controlling interest in one or more of the Underlying Funds consistent
with its investment objective and policies).
(b) Invest more than 15% of the Portfolio's net assets in illiquid
investments, including repurchase agreements maturing in more than
seven days, securities which are not readily marketable and restricted
securities not eligible for resale pursuant to Rule 144A under the
1933 Act.
(c) Purchase additional securities if the Portfolio's borrowings
(excluding covered mortgage dollar rolls) exceed 5% of its net assets.
(d) Make short sales of securities, except short sales against the box.
The Underlying Funds in which the Portfolios may invest have adopted
certain investment restrictions which may be more or less restrictive than those
listed above, thereby allowing a Portfolio to participate in certain investment
strategies indirectly that are prohibited under the fundamental and non-
fundamental investment restrictions and policies listed above. The investment
restrictions of these Underlying Funds are set forth in their respective
Additional Statements.
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<PAGE>
MANAGEMENT
Information pertaining to the Trustees and officers of the Trust is
set forth below. Trustees and officers deemed to be "interested persons" of the
Trust for purposes of the Act are indicated by an asterisk.
NAME, AGE POSITIONS PRINCIPAL OCCUPATION(S)
AND ADDRESS WITH TRUST DURING PAST 5 YEARS
- ----------- ---------- -------------------
Ashok N. Bakhru, 53 Chairman Executive Vice President-Finance and
1325 Ave. of Americas & Trustee Administration and Chief Financial
New York, NY 10019 Officer, Coty Inc. (since April 1996);
President, ABN Associates (June 1994 through
March 1996); Senior Vice President of Scott
Paper Company (until June 1994); Director of
Arkwright Mutual Insurance Compa ny; Trustee
of International House of Philadelphia;
Member of Cornell University Council;
Trustee of the Walnut Street Theater.
*David B. Ford, 51 Trustee Managing Director, Goldman Sachs (since
One New York Plaza 1996); General Partner, Goldman Sachs
New York, NY 10004 (1986-1996); Co-Head of Goldman Sachs Asset
Management (since December 1994).
*Douglas C. Grip, 35 Trustee Vice President, Goldman Sachs (since
One New York Plaza & President May 1996); President, MFS Retirement
New York, NY 10004 Services Inc., of Massachusetts Financial
Services (prior thereto).
*John P. McNulty, 44 Trustee Managing Director, Goldman Sachs (since
One New York Plaza 1996); General Partner of Goldman Sachs
New York, NY 10004 (1990-1994 and 1995-1996); Co-Head of
Goldman Sachs Asset Management (since
November 1995); Limited Partner of Goldman
Sachs (1994 to November 1995).
Mary P. McPherson, 60 Trustee President of Bryn Mawr College (since
Taylor Hall 1978); Director of Josiah Macy, Jr.,
Bryn Mawr, PA 19010 Foundation (since 1977); Director of the
Philadelphia Contributionship (since 1985);
Director of Amherst College (since 1986);
Director of Dayton Hudson Corporation (since
1988); Director of the Spencer Foundation
(since 1993); and member of PNC Advisory
Board (since 1993).
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<PAGE>
NAME, AGE POSITIONS PRINCIPAL OCCUPATION(S)
AND ADDRESS WITH TRUST DURING PAST 5 YEARS
- ----------- ---------- -------------------
*Alan A. Shuch, 48 Trustee Limited Partner, Goldman Sachs (since
One New York Plaza 1994); Director and Vice President of
New York, NY 10004 Goldman Sachs Funds Management Inc. (from
April 1990 to November 1994); President and
Chief Operating Officer, GSAM (from
September 1988 to November 1994).
Jackson W. Smart, 66 Trustee Chairman, Executive Committee, First
One Northfield Plaza Commonwealth, Inc. (a managed dental
#218 care company, since January 1996); Chairman
Northfield, IL 60093 and Chief Executive Officer, MSP
Communications Inc. (a company engaged in
radio broadcasting) (since November 1988),
Director, Federal Ex press Corporation
(since 1976), Evanston Hospital Corporation
(since 1980), First Commonwealth, Inc.
(since 1988) and North American Pri vate
Equity Group (a venture capital fund).
William H. Springer, 67 Trustee Vice Chairman and Chief Financial and
701 Morningside Drive Administrative Officer, (February 1987
Lake Forest, IL 60045 to June 1991) of Ameritech (a tele
communications holding company; Director,
Walgreen Co. (a retail drug store business);
Director of Baker, Fentress & Co. (a closed-
end, non-di versified management investment
company) (April 1992 to present).
Richard P. Strubel, 57 Trustee Managing Director, Tandem Partners,
70 West Madison St. Inc. (since 1990); President and Chief
Ste. 1400 Executive Officer, Microdot, Inc. (a
Chicago, IL 60602 diversified manufacturer of fastening
systems and connectors) (January 1984 to
October 1994).
*Scott M. Gilman, 37 Treasurer Director, Mutual Funds Administration,
One New York Plaza Goldman Sachs Asset Management (since
New York, NY 10004 April 1994); Assistant Treasurer, Goldman
Sachs Funds Management, Inc. (since March
1993); Vice President, Goldman Sachs (since
March 1990).
*John M. Perlowski, 32 Assistant Vice President, Goldman Sachs (since
One New York Plaza Treasurer July 1995); Director, Investors Bank
New York, NY 10004 and Trust (November 1993 to July 1995);
Audit Manager of Arthur Andersen LLP (prior
thereto).
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<PAGE>
NAME, AGE POSITIONS PRINCIPAL OCCUPATION(S)
AND ADDRESS WITH TRUST DURING PAST 5 YEARS
- ----------- ---------- -------------------
*John W. Mosior, 59 Vice Vice President, Goldman Sachs and
4900 Sears Tower President Manager of Shareholder Servicing of
Chicago, IL 60606 GSAM (since November 1989).
*Nancy L. Mucker, 48 Vice Vice President, Goldman Sachs (since
4900 Sears Tower President April 1985); Manager of Shareholder
Chicago, IL 60606 Servicing of GSAM (since November 1989).
*James A. Fitzpatrick, 33 Vice Vice President of Goldman Sachs
4900 Sears Tower President Asset Management (since April 1997);
Chicago, IL 60606 Vice President and General Manager
First Data Corporation - Investor
Services Group (prior thereto.)
*Michael J. Richman, 37 Secretary General Counsel of the Mutual Funds
85 Broad Street Group of Goldman Sachs Asset Management
New York, NY 10004 (since December 1997); Associate
General Counsel of Goldman Asset
Management (February 1994 to December
1997); Vice President and Assistant
General Counsel of Goldman Sachs (since
June 1992); Counsel to the Funds Group,
GSAM (since June 1992); Partner, Hale
and Dorr (September 1991 to June 1992).
*Howard B. Surloff, 32 Assistant Assistant General Counsel, Goldman Sachs
85 Broad Street Secretary Asset Management and Associate General
New York, NY 10004 Counsel to the Funds Group (since
December 1997);Assistant General Counsel
and Vice President, Goldman Sachs (since
November 1993 and May 1994 respectively);
Associate of Shereff Friedman, Hoffman &
Goodman (prior thereto).
*Valerie A. Zondorak, 32 Assistant Assistant General Counsel, Goldman Sachs
85 Broad Street Secretary Asset Management and Associate General
New York, New York 10004 Counsel to the Funds Group (since December
1997); Vice President, Goldman Sachs
(since March 1997); Associate of Shereff
Friedman, Hoffman & Goodman (prior
thereto).
*Steven E. Hartstein, 34 Assistant Legal Products Analyst, Goldman Sachs
85 Broad Street Secretary (June 1993 to present); Funds
New York, NY 10004 Compliance Officer, Citibank Global Asset
Management (August 1991 to June 1993).
*Deborah Farrell, 27 Assistant Administrative Assistant, Goldman Sachs
85 Broad Street Secretary (January 1996 to present); Secretary,
New York, NY 10004 Goldman Sachs (January 1994 to
January 1996); Cleary Gottlieb, Steen and
Hamilton (September 1990 to January 1994).
*Kaysie P. Uniacke, 37 Assistant Managing Director (since November 1997);
One New York Plaza Secretary Vice President and Senior Portfolio
New York, NY 10004 Manager, Goldman Sachs Asset Management
(1988 to present).
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<PAGE>
NAME, AGE POSITIONS PRINCIPAL OCCUPATION(S)
AND ADDRESS WITH TRUST DURING PAST 5 YEARS
- ----------- ---------- -------------------
*Elizabeth D. Anderson, 28 Assistant Portfolio Manager, GSAM
One New York Plaza Secretary (April 1996 to Present); Junior
New York, NY 10004 Portfolio Manager, Goldman Sachs
Asset Management (1995 to April
1996); Funds Trading Assistant,
GSAM (1993 to 1995); Compliance
Analyst, Prudential Insurance
(1991 to 1993).
The Trust pays each Trustee, other than those who are "interested persons"
of Goldman Sachs, a fee for each Trustee meeting attended and an annual fee.
Such Trustees are also reimbursed for travel expenses incurred in connection
with attending such meetings.
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<PAGE>
The following table sets forth certain information with respect to the
compensation of each Trustee of the Trust (or its predecessors) for the one-year
period ended October 31, 1997:
<TABLE>
<CAPTION>
Pension or Total
Retirement Compensation
Benefits from Goldman Sachs
Aggregate Accrued as Mutual Funds
Compensation Part of (including the
Name of Trustee from the Portfolios Portfolios' Expenses Portfolios)**
- --------------------- ------------------- -------------------- ------------------
<S> <C> <C> <C>
Ashok N. Bakhru* $0 $0 $93,750
David B. Ford 0 0 0
Douglas C. Grip 0 0 0
John P. McNulty 0 0 0
Mary P. McPherson* 0 0 70,500
Alan A. Shuch 0 0 0
Jackson W. Smart* 0 0 70,500
William H. Springer* 0 0 70,500
Richard P. Strubel* 0 0 70,500
</TABLE>
______________
* Non-interested persons of the Trust.
** As of the date of this Statement of Additional Information, the Goldman
Sachs Mutual Funds consisted of 94 mutual funds.
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MANAGEMENT SERVICES
As stated in the Portfolios' Prospectus, Goldman Sachs Asset Management
serves as Adviser to the Portfolios and, except as noted, to each Underlying
Fund. Goldman Sachs Funds Management, L.P. serves as investment adviser to the
CORE U.S. Equity, Capital Growth, Adjustable Rate Government and Short Duration
Government Funds. Goldman Sachs Asset Management International serves as
investment adviser to the International Equity, Emerging Markets Equity, Asia
Growth and Global Income Funds. See "Management" in the Portfolios' Prospectus
for a description of the Adviser's duties to the Portfolios.
Founded in 1869, Goldman Sachs is among the oldest and largest investment
banking firms in the United States. Goldman Sachs is a leader in developing
portfolio strategies and in many fields of investing and financing,
participating in financial markets worldwide and serving individuals,
institutions, corporations and governments. Goldman Sachs is also among the
principal market sources for current and thorough information on companies,
industrial sectors, markets, economies and currencies, and trades and makes
markets in a wide range of equity and debt securities 24-hours a day. The firm
is headquartered in New York and has offices throughout the U.S. and in Beijing,
Frankfurt, George Town, Hong Kong, London, Madrid, Mexico City, Milan, Montreal,
Osaka, Paris, Sao Paulo, Seoul, Shanghai, Singapore, Sydney, Taipei, Tokyo,
Toronto, Vancouver and Zurich. It has trading professionals throughout the
United States, as well as in London, Tokyo, Hong Kong and Singapore. The active
participation of Goldman Sachs in the world's financial markets enhances its
ability to identify attractive investments.
The Underlying Funds' investment advisers are able to draw on the
substantial research and market expertise of Goldman Sachs whose investment
research effort is one of the largest in the industry. With an annual equity
research budget approaching $160 million, the Goldman Sachs Global Investment
Research Department covers approximately 1,700 companies, including
approximately 1,000 U.S. corporations in 60 industries. The in-depth
information and analyses generated by Goldman Sachs' research analysts are
available to the investment advisers. These investment advisers manage money
for some of the world's largest institutional investors. For more than a
decade, Goldman Sachs has been among the top-ranked firms in Institutional
Investor's annual "All-America Research Team" survey. In addition, many of
Goldman Sachs' economists, securities analysts, portfolio strategists and credit
analysts have consistently been highly ranked in respected industry surveys
conducted in the U.S. and abroad. Goldman Sachs is also among the leading
investment firms using quantitative analytics (now used by a growing number of
investors) to structure and evaluate portfolios. For example, Goldman Sachs'
option evaluation model analyzes each security's term, coupon and call option,
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providing an overall analysis of the security's value relative to its interest
risk.
In managing the Underlying Funds, the Funds' investment advisers have
access to Goldman Sachs' economics research. The Economics Research Department
conducts economic, financial and currency markets research which analyzes
economic trends and interest and exchange rate movement worldwide. The
Economics Research Department tracks factors such as inflation and money supply
figures, balance of trade figures, economic growth, commodity prices, monetary
and fiscal policies, and political events that can influence interest rates and
currency trends. The success of Goldman Sachs' international research team has
brought wide recognition to its members. The team has earned top rankings in
the Institutional Investor's annual "All British Research Team Survey" in the
following categories: Economics (U.K.) 1986-1993; Economics/International 1989-
1993; and Currency Forecasting 1986-1993. In addition, the team has also earned
top rankings in the annual "Extel Financial Survey" of U.K. investment managers
in the following categories: U.K. Economy 1989-1995; International Government
Bond Market 1993-1995; International Economies 1986, 1988-1995; and Currency
Movements 1986-1993.
In structuring Adjustable Rate Government Fund's and Short Duration
Government Fund's respective securities portfolios, their investment adviser
will review the existing overall economic and mortgage market trends. The
investment adviser will then study yield spreads, the implied volatility and the
shape of the yield curve. The investment adviser will then apply this analysis
to a list of eligible securities that meet the respective Fund's investment
guidelines. With respect to Adjustable Rate Government Fund, this analysis is
used to plan a two-part portfolio, which will consist of a "core" portfolio of
ARMs and a "relative value" portfolio of other mortgage assets that can enhance
portfolio returns and lower risk (such as investments in CMO floating-rate
tranches and interest only SMBS).
With respect to the Adjustable Rate Government Fund, Government Income
Fund, Short Duration Government Fund, High Yield Fund and Core Fixed Income
Fund, the Funds' investment advisers expect to utilize Goldman Sachs'
sophisticated option-adjusted analytics to help make strategic asset allocations
within the markets for U.S. government, Mortgage-Backed and other securities and
to employ this technology periodically to re-evaluate the Funds' investments as
market conditions change. Goldman Sachs has also developed a prepayment model
designed to estimate mortgage prepayments and cash flows under different
interest rate scenarios. Because a Mortgage-Backed Security incorporates the
borrower's right to prepay the mortgage, the investment advisers use a
sophisticated option-adjusted spread (OAS) model to measure expected returns. A
security's OAS is a function of the level and shape of the yield curve,
volatility and the particular investment
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adviser's expectation of how a change in interest rates will affect prepayment
levels. Since the OAS model assumes a relationship between prepayments and
interest rates, the investment advisers consider it a better way to measure a
security's expected return and absolute and relative values than yield to
maturity. In using OAS technology, the investment advisers will first evaluate
the absolute level of a security's OAS considering its liquidity and its
interest rate, volatility and prepayment sensitivity. The investment advisers
will then analyze its value relative to alternative investments and to its own
investments. The investment advisers will also measure a security's interest
rate risk by computing an option adjusted duration (OAD). The investment
advisers believe a security's OAD is a better measurement of its price
sensitivity than cash flow duration, which systematically misstates portfolio
duration. The investment advisers also evaluate returns for different mortgage
market sectors and evaluate the credit risk of individual securities. This
sophisticated technical analysis allows the investment advisers to develop
portfolio and trading strategies using Mortgage-Backed Securities that are
believed to be superior investments on a risk-adjusted basis and which provide
the flexibility to meet the respective Funds' duration targets and cash flow
pattern requirements.
Because the OAS is adjusted for the differing characteristics of the
underlying securities, the OAS of different Mortgage-Backed Securities can be
compared directly as an indication of their relative value in the market. The
investment advisers also expect to use OAS-based pricing methods to calculate
projected security returns under different, discrete interest rate scenarios,
and Goldman Sachs' proprietary prepayment model to generate yield estimates
under these scenarios. The OAS, scenario returns, expected returns, and yields
of securities in the mortgage market can be combined and analyzed in an optimal
risk-return matching framework.
The investment advisers will use OAS analytics to choose what they believe
is an appropriate portfolio of investments for an Underlying Fund from a
universe of eligible investments. In connection with initial portfolio
selections, in addition to using OAS analytics as an aid to meeting each Fund's
particular composition and performance targets, the investment advisers will
also take into account important market criteria like the available supply and
relative liquidity of various mortgage securities in structuring the portfolio.
The Funds' investment advisers also expect to use OAS analytics to evaluate
the mortgage market on an ongoing basis. Changes in the relative value of
various Mortgage-Backed Securities could suggest tactical trading opportunities
for the Underlying Funds. The investment advisers will have access to both
current market analysis as well as historical information on the relative value
relationships among different Mortgage-Backed Securities.
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Current market analysis and historical information is available in the Goldman
Sachs database for most actively traded Mortgage-Backed Securities.
Goldman Sachs has agreed to provide the Underlying Funds' investment
advisers, on a non-exclusive basis, use of its mortgage prepayment model, OAS
model and any other proprietary services which it now has or may develop, to the
extent such services are made available to other similar customers. Use of
these services by the Funds' investment advisers with respect to a Fund does not
preclude Goldman Sachs from providing these services to third parties or using
such services as a basis for trading for its own account or the account of
others.
The fixed-income research capabilities of Goldman Sachs available to the
Underlying Funds' investment advisers include the Goldman Sachs Fixed Income
Research Department and the Credit Department. The Fixed Income Research
Department monitors developments in U.S. and foreign fixed-income markets,
assesses the outlooks for various sectors of the markets and provides relative
value comparisons, as well as analyzes trading opportunities within and across
market sectors. The Fixed Income Research Department is at the forefront in
developing and using computer-based tools for analyzing fixed-income securities
and markets, developing new fixed income products and structuring portfolio
strategies for investment policy and tactical asset allocation decisions. The
Credit Department tracks specific governments, regions and industries and from
time to time may review the credit quality of a Fund's investments.
In allocating assets among foreign countries and currencies for the
Underlying Funds which can invest in foreign securities, the Funds' investment
advisers will have access to the Global Asset Allocation Model. The model is
based on the observation that the prices of all financial assets, including
foreign currencies, will adjust until investors globally are comfortable holding
the pool of outstanding assets. Using the model, the investment advisers will
estimate the total returns from each currency sector which are consistent with
the average investor holding a portfolio equal to the market capitalization of
the financial assets among those currency sectors. These estimated equilibrium
returns are then combined with the expectations of Goldman Sachs' research
professionals to produce an optimal currency and asset allocation for the level
of risk suitable for a Fund given its investment objectives and criteria.
The management agreements for the Portfolios and the Underlying Funds
provide that the Adviser (and its affiliates) may render similar services to
others as long as the services provided by them thereunder are not impaired
thereby.
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The Portfolios' management agreement was approved by the Trustees,
including a majority of the Trustees who are not parties to the management
agreement or "interested persons" (as such term is defined in the Act) of any
party thereto (the "non-interested Trustees"), on October 21, 1997. These
arrangements were approved by the sole shareholder of each Portfolio on
January 9, 1998 by consent action to satisfy conditions imposed by the SEC in
connection with the registration of shares of the Portfolio under the Securities
Act of 1933. The management agreement will remain in effect until June 30, 1999
and from year to year thereafter provided such continuance is specifically
approved at least annually by (a) the vote of a majority of the outstanding
voting securities of such Portfolio or a majority of the Trustees, and (b) the
vote of a majority of the non-interested Trustees, cast in person at a meeting
called for the purpose of voting on such approval. The management agreement
will terminate automatically with respect to a Portfolio if assigned (as defined
in the Act) and is terminable at any time without penalty by the Trustees or by
vote of a majority of the outstanding voting securities of the affected
Portfolio on 60 days' written notice to the Adviser and by the Adviser on 60
days' written notice to the Trust.
Under the management agreement, the Adviser also: (i) supervises all non-
advisory operations of each Portfolio; (ii) provides personnel to perform such
executive, administrative and clerical services as are reasonably necessary to
provide effective administration of each Portfolio; (iii) arranges for at each
Portfolio's expense (a) the preparation of all required tax returns, (b) the
preparation and submission of reports to existing shareholders, (c) the periodic
updating of prospectuses and statements of additional information and (d) the
preparation of reports to be filed with the SEC and other regulatory
authorities; (iv) maintains each Portfolio's records; and (v) provides office
space and all necessary office equipment and services.
Pursuant to the management agreement, the Advisers are entitled to receive
the contractual fees listed below, payable monthly of such Portfolio's average
daily net assets.
Portfolio Asset Allocation Fee
------------------- ---------------------
Income Strategy .35%
Growth and Income Strategy .35%
Growth Strategy .35%
Aggressive Growth Strategy .35%
Activities of Goldman Sachs and Its Affiliates and Other Accounts Managed
-------------------------------------------------------------------------
by Goldman Sachs. The involvement of the Adviser and Goldman Sachs and their
- ----------------
affiliates in the management of, or their interest in, other accounts and other
activities of Goldman Sachs may present conflicts of interest with respect to
the
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Portfolios and the Underlying Funds or impede their investment activities.
Goldman Sachs and its affiliates, including, without limitation, the
Adviser and its advisory affiliates, have proprietary interests in, and may
manage or advise with respect to, accounts or funds (including separate accounts
and other funds and collective investment vehicles) which have investment
objectives similar to those of the Portfolios and the Underlying Funds and/or
which engage in transactions in the same types of securities, currencies and
instruments. Goldman Sachs and its affiliates are major participants in the
global currency, equities, swap and fixed income markets, in each case both on a
proprietary basis and for the accounts of customers. As such, Goldman Sachs and
its affiliates are actively engaged in transactions in the same securities,
currencies and instruments in which the Underlying Funds invest. Such
activities could affect the prices and availability of the securities,
currencies and instruments in which the Underlying Funds will invest, which
could have an adverse impact on each Fund's (and, consequently, each
Portfolio's) performance. Such transactions, particularly in respect of
proprietary accounts or customer accounts other than those included in the
Adviser's and its advisory affiliates' asset management activities, will be
executed independently of the Funds' transactions and thus at prices or rates
that may be more or less favorable. When the Adviser and its advisory
affiliates seek to purchase or sell the same assets for their managed accounts,
including the Underlying Funds, the assets actually purchased or sold may be
allocated among the accounts on a basis determined in its good faith discretion
to be equitable. In some cases, this system may adversely affect the size or
the price of the assets purchased or sold for the Funds.
From time to time, the Underlying Funds' activities may be restricted
because of regulatory restrictions applicable to Goldman Sachs and its
affiliates, and/or their internal policies designed to comply with such
restrictions. As a result, there may be periods, for example, when the Adviser
and/or its affiliates will not initiate or recommend certain types of
transactions in certain securities or instruments with respect to which the
Adviser and/or its affiliates are performing services or when position limits
have been reached.
In connection with their management of the Underlying Funds, the Funds'
investment advisers may have access to certain fundamental analysis and
proprietary technical models developed by Goldman Sachs and other affiliates.
The investment advisers will not be under any obligation, however, to effect
transactions on behalf of the Underlying Funds in accordance with such analysis
and models. In addition, neither Goldman Sachs nor any of its affiliates will
have any obligation to make available any information regarding their
proprietary activities or strategies,
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or the activities or strategies used for other accounts managed by them, for the
benefit of the management of the Underlying Funds and it is not anticipated that
the investment advisers will have access to such information for the purpose of
managing the Funds. The proprietary activities or portfolio strategies of
Goldman Sachs and its affiliates or the activities or strategies used for
accounts managed by them or other customer accounts could conflict with the
transactions and strategies employed by the investment advisers in managing the
Underlying Funds.
The results of each Underlying Fund's investment activities may differ
significantly from the results achieved by their investment advisers and
affiliates for their proprietary accounts or accounts (including investment
companies or collective investment vehicles) managed or advised by them. It is
possible that Goldman Sachs and its affiliates and such other accounts will
achieve investment results which are substantially more or less favorable than
the results achieved by an Underlying Fund. Moreover, it is possible that an
Underlying Fund will sustain losses during periods in which Goldman Sachs and
its affiliates achieve significant profits on their trading for proprietary or
other accounts. The opposite result is also possible.
The investment activities of Goldman Sachs and its affiliates for their
proprietary accounts and accounts under their management may also limit the
investment opportunities for the Underlying Funds in certain emerging markets in
which limitations are imposed upon the aggregate amount of investment, in the
aggregate or individual issuers, by affiliated foreign investors.
An investment policy committee which may include partners of Goldman Sachs
and its affiliates may develop general policies regarding an Underlying Fund's
activities but will not be involved in the day-to-day management of such Fund.
In such instances, those individuals may, as a result, obtain information
regarding the Fund's proposed investment activities which is not generally
available to the public. In addition, by virtue of their affiliation with
Goldman Sachs, any such member of an investment policy committee will have
direct or indirect interests in the activities of Goldman Sachs and its
affiliates in securities and investments similar to those in which the Fund
invests.
In addition, certain principals and certain of the employees of the Funds'
investment advisers are also principals or employees of Goldman Sachs or their
affiliated entities. As a result, the performance by these principals and
employees of their obligations to such other entities may be a consideration of
which investors in the Portfolios should be aware.
The Underlying Funds' investment advisers may enter into transactions and
invest in currencies or instruments on behalf of a Fund in which customers of
Goldman Sachs serve as the
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counterparty, principal or issuer. In such cases, such party's interests in the
transaction will be adverse to the interests of a Fund, and such party may have
no incentive to assure that the Funds obtain the best possible prices or terms
in connection with the transactions. Goldman Sachs and its affiliates may also
create, write or issue derivative instruments for customers of Goldman Sachs or
its affiliates, the underlying securities or instruments of which may be those
in which an Underlying Fund invests or which may be based on the performance of
a Fund. The Funds may, subject to applicable law, purchase investments which
are the subject of an underwriting or other distribution by Goldman Sachs or its
affiliates and may also enter transactions with other clients of Goldman Sachs
or its affiliates where such other clients have interests adverse to those of
the Funds. At times, these activities may cause departments of Goldman Sachs or
its affiliates to give advice to clients that may cause these clients to take
actions adverse to the interests of the client. To the extent affiliated
transactions are permitted, the Funds will deal with Goldman Sachs and its
affiliates on an arms-length basis.
Each Underlying Fund will be required to establish business relationships
with its counterparties based on the Fund's own credit standing. Neither
Goldman Sachs nor its affiliates will have any obligation to allow their credit
to be used in connection with a Fund's establishment of its business
relationships, nor is it expected that a Fund's counterparties will rely on the
credit of Goldman Sachs or any of its affiliates in evaluating the Fund's
creditworthiness.
From time to time, Goldman Sachs or any of its affiliates may, but is not
required to, purchase and hold shares of an Underlying Fund in order to increase
the assets of the Fund. Increasing a Fund's assets may enhance investment
flexibility and diversification and may contribute to economies of scale that
tend to reduce the Fund's expense ratio. Goldman Sachs reserves the right to
redeem at any time some or all of the shares of a Fund acquired for its own
account. A large redemption of shares of a Fund by Goldman Sachs could
significantly reduce the asset size of the Fund, which might have an adverse
effect on the Fund's investment flexibility, portfolio diversification and
expense ratio. Goldman Sachs will consider the effect of redemptions on a Fund
and other shareholders in deciding whether to redeem its shares.
It is possible that an Underlying Fund's holdings will include securities
of entities for which Goldman Sachs performs investment banking services as well
as securities of entities in which Goldman Sachs makes a market. From time to
time, Goldman Sachs' activities may limit the Underlying Funds' flexibility in
purchases and sales of securities. When Goldman Sachs is engaged in an
underwriting or other distribution of securities of an entity, the Funds'
investment advisers may be prohibited from purchasing or
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recommending the purchase of certain securities of that entity for the Funds.
DISTRIBUTOR AND TRANSFER AGENT
Goldman Sachs serves as the exclusive distributor of shares of the
Portfolios pursuant to a "best efforts" arrangement as provided by a
distribution agreement with the Trust dated April 30, 1997, as amended October
21, 1997. Pursuant to the distribution agreement, after the Portfolios'
Prospectus and periodic reports have been prepared, set in type and mailed to
shareholders, Goldman Sachs will pay for the printing and distribution of copies
thereof used in connection with the offering to prospective investors. Goldman
Sachs will also pay for other supplementary sales literature and advertising
costs. Goldman Sachs has entered into sales agreements with certain investment
dealers and financial service firms (the "Authorized Dealers") to solicit
subscriptions for Class A, Class B and Class C Shares of each of the Portfolios
that offer such classes of shares. Goldman Sachs receives a portion of the sales
load imposed on the sale, in the case of Class A Shares, or redemption in the
case of Class B and Class C Shares, of such Portfolio shares .
Goldman Sachs also serves as the Portfolios' transfer and dividend
disbursing agent. Under its transfer agency agreement with the Trust, Goldman
Sachs has undertaken with the Trust with respect to each Portfolio to (i) record
the issuance, transfer and redemption of shares, (ii) provide confirmations of
purchases and redemptions, and quarterly statements, as well as certain other
statements, (iii) provide certain information to the Trust's custodian and the
relevant subcustodian in connection with redemptions, (iv) provide dividend
crediting and certain disbursing agent services, (v) maintain shareholder
accounts, (vi) provide certain state Blue Sky and other information, (vii)
provide shareholders and certain regulatory authorities with tax-related
information, (viii) respond to shareholder inquiries, and (ix) render certain
other miscellaneous services.
As compensation for the services rendered to the Portfolios' by Goldman
Sachs as transfer and dividend disbursing agent and the assumption by Goldman
Sachs of the expenses related thereto, Goldman Sachs is entitled to receive fees
from each Portfolio as stated in the Prospectus.
The foregoing distribution and transfer agency agreements each provide that
Goldman Sachs may render similar services to others so long as the services each
provides thereunder to the Portfolios are not impaired thereby. Each such
agreement also provides that the Trust will indemnify Goldman Sachs against
certain liabilities.
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CUSTODIAN AND SUB-CUSTODIANS
State Street Bank and Trust Company, 1776 Heritage Drive, North Quincy,
Massachusetts 02110, State Street Bank and Trust Company ("State Street"), P.O.
Box 1713, Boston, Massachusetts 02105, is the custodian of the Trust's portfolio
securities and cash. State Street also maintains the Trust's accounting
records. State Street may appoint sub-custodians from time to time to hold
certain securities purchased by the Trust in foreign countries and to hold cash
and currencies for the Trust.
INDEPENDENT PUBLIC ACCOUNTANTS
Arthur Andersen, LLP, independent public accountants, One International
Place, Boston, Massachusetts 02110, have been selected as auditors of the Trust.
In addition to audit services, Arthur Andersen, LLP prepares the Trust's federal
and state tax returns, and provides consultation and assistance on accounting,
internal control and related matters.
PORTFOLIO TRANSACTIONS AND BROKERAGE
The particular investment adviser for an Underlying Fund is responsible for
decisions to buy and sell securities for the Fund, the selection of brokers and
dealers to effect the transactions and the negotiation of brokerage commissions,
if any. Purchases and sales of securities on a securities exchange are effected
through brokers who charge a commission for their services. Orders may be
directed to any broker including, to the extent and in the manner permitted by
applicable law, Goldman Sachs.
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 a 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 portfolio transactions for the Underlying Fixed Income Funds are
generally effected at a net price without a broker's commission (i.e., a dealer
is dealing with a Fund as principal and receives compensation equal to the
spread between the dealer's cost for a given security and the resale price of
such security). In certain foreign countries, debt securities are traded on
exchanges at fixed commission rates.
In placing orders for portfolio securities of an Underlying Fund, the
Fund's investment advisers are generally required to give
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primary consideration to obtaining the most favorable execution and net price
available. This means that an investment adviser will seek to execute each
transaction at a price and commission, if any, which provides the most favorable
total cost or proceeds reasonably attainable in the circumstances. As permitted
by Section 28(e) of the Securities Exchange Act of 1934, the Fund may pay a
broker which provides brokerage and research services an amount of disclosed
commission in excess of the commission which another broker would have charged
for effecting that transaction. Such practice is subject to a good faith
determination by the Trustees that such commission is reasonable in light of the
services provided and to such policies as the Trustees may adopt from time to
time. While the Funds' investment advisers generally seek reasonably
competitive spreads or commissions, a Fund will not necessarily be paying the
lowest spread or commission available. Within the framework of this policy, the
investment advisers will consider research and investment services provided by
brokers or dealers who effect or are parties to portfolio transactions of a
Fund, the investment advisers and their affiliates, or their other clients.
Such research and investment services are those which brokerage houses
customarily provide to institutional investors and include research reports on
particular industries and companies, economic surveys and analyses,
recommendations as to specific securities and other products or services (e.g.,
quotation equipment and computer related costs and expenses), advice concerning
the value of securities, the advisability of investing in, purchasing or selling
securities, the availability of securities or the purchasers or sellers of
securities, furnishing analyses and reports concerning issuers, industries,
securities, economic factors and trends, portfolio strategy and performance of
accounts, effecting securities transactions and performing functions incidental
thereto (such as clearance and settlement) and providing lawful and appropriate
assistance to the investment advisers in the performance of their decision-
making responsibilities. Such services are used by the investment advisers in
connection with all of their investment activities, and some of such services
obtained in connection with the execution of transactions for a Fund may be used
in managing other investment accounts. Conversely, brokers furnishing such
services may be selected for the execution of transactions of such other
accounts, whose aggregate assets are far larger than those of a Fund, and the
services furnished by such brokers may be used by the investment advisers in
providing management services for the Trust.
In circumstances where two or more broker-dealers offer comparable prices
and execution capability, preference may be given to a broker-dealer which has
sold shares of an Underlying Fund as well as shares of other investment
companies or accounts managed by the Funds' investment advisers. This policy
does not imply a commitment to execute all portfolio transactions through all
broker-dealers that sell shares of the Fund.
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On occasions when an Underlying Fund's investment adviser deems the
purchase or sale of a security to be in the best interest of a Fund as well as
its other customers (including any other fund or other investment company or
advisory account for which such investment adviser acts as investment adviser or
subadviser), the investment adviser, to the extent permitted by applicable laws
and regulations, may aggregate the securities to be sold or purchased for the
Fund with those to be sold or purchased for such other customers in order to
obtain the best net price and most favorable execution under the circumstances.
In such event, allocation of the securities so purchased or sold, as well as the
expenses incurred in the transaction, will be made by the particular investment
adviser in the manner it considers to be equitable and consistent with its
fiduciary obligations to such Fund and such other customers. In some instances,
this procedure may adversely affect the price and size of the position
obtainable for a Fund.
Commission rates in the U.S. are established pursuant to negotiations with
the broker based on the quality and quantity of execution services provided by
the broker in the light of generally prevailing rates. The allocation of orders
among brokers and the commission rates paid are reviewed periodically by the
Trustees.
Subject to the above considerations, the Underlying Funds' investment
advisers may use Goldman Sachs as a broker for a Fund. In order for Goldman
Sachs to effect any portfolio transactions for a Fund, the commissions, fees or
other remuneration received by Goldman Sachs must be reasonable and fair
compared to the commissions, fees or other remuneration paid to other brokers in
connection with comparable transactions involving similar instruments being
purchased or sold on an exchange during a comparable period of time. This
standard would allow Goldman Sachs to receive no more than the remuneration
which would be expected to be received by an unaffiliated broker in a
commensurate arm's-length transaction. Furthermore, the Trustees, including a
majority of the Trustees who are not "interested" Trustees, have adopted
procedures which are reasonably designed to provide that any commissions, fees
or other remuneration paid to Goldman Sachs are consistent with the foregoing
standard. Brokerage transactions with Goldman Sachs are also subject to such
fiduciary standards as may be imposed upon Goldman Sachs by applicable law.
NET ASSET VALUE
Under the Act, the Trustees are responsible for determining in good faith
the fair value of securities of each Portfolio. In accordance with procedures
adopted by the Trustees, the net asset value per share of each class of each
Portfolio is calculated by determining the value of the net assets attributed to
each class of that Portfolio and dividing by the number of outstanding shares of
that class. All securities are valued as of the close of regular
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trading on the New York Stock Exchange (normally, but not always, 4:00 p.m. New
York time) on each Business Day (as defined in the Prospectus).
In the event that the New York Stock Exchange or the national securities
exchange on which stock options are traded adopt different trading hours on
either a permanent or temporary basis, the Trustees will reconsider the time at
which net asset value is computed. In addition, each Portfolio may compute its
net asset value as of any time permitted pursuant to any exemption, order or
statement of the SEC or its staff.
In determining the net asset value of a Portfolio, the net asset value of
the Underlying Funds' shares held by the Portfolio will be their net asset value
at the time of computation. Financial Square Prime Obligations Fund values all
of its portfolio securities using the amortized cost valuation method pursuant
to Rule 2a-7 under the Act. Other portfolio securities for which accurate market
quotations are available are valued by a Portfolio or Underlying Fund as
follows: (a) securities listed on any U.S. or foreign stock exchange or on the
National Association of Securities Dealers Automated Quotations System
("NASDAQ") will be valued at the last sale price on the exchange or system in
which they are principally traded, on the valuation date. If there is no sale on
the valuation day, securities traded will be valued at the mean between the
closing and asked prices, or if closing bid and asked prices are not available
at the exchange defined close price on the exchange or system in which such
securities are principally traded. If the relevant exchange or system has not
closed by the above-mentioned time for determining the Fund's NAV, the
securities will be valued at the mean between the bid and the asked price at the
time the NAV is determined, (b) over-the-counter securities not quoted on NASDAQ
will be valued at the last sale price on the valuation day or, if no sale
occurs, at the mean between the last bid and asked price; (c) equity securities
for which no prices are obtained under sections (a) or (b) hereof, including
those for which a pricing service supplies no exchange quotation or a quotation
that is believed by the portfolio manager/trader to be inaccurate, will be
valued as follows: (i) the investment adviser will identify to the custodian
bank, two material makers, where possible, with automated pricing feeds (i.e.,
broker pages from Reuters, Bloomberg, Telerate, Quotron, etc.) and the security
will be valued at the average price by the custodian bank. If only one price is
obtained, that price will be used to value the security; or (ii) the investment
adviser will follow the following daily pricing procedure: the investment
adviser will obtain two-two-way (bid-ask) broker quotas, where possible, as of
the relevant cut off time. Where applicable (as in the case of certain foreign
securities), the selection should include one local broker and one international
broker. The investment adviser will average all obtained quotas (average bid,
average ask, average mean) and value the security at the average mean price. If
only one quota is obtained, that quote will be used to value the security (d)
debt securities (with a remaining maturity of 60 days or more) for which
accurate market quotations are readily available will be valued via electronic
feeds to the custodian bank containing dealer-supplied bid quotations or bid
quotations from a nationally recognized pricing service. Those securities for
which the custodian bank is unable to obtain an external price in accordance
with section (b) above or with respect to which the investment adviser believes
an external price does not reflect accurate market values, will be valued by the
investment adviser in good faith as follows. Such securities are to be valued by
the investment adviser based on valuation models that take into account spread
and daily yield changes on government securities in the appropriate market (i.e.
matrix pricing). As part of this process, the investment adviser will solicit at
least monthly from at least one dealer either: (1) a bid quotation; or (2) an
approximate trading spread against a reference benchmark security (e.g., on-the-
run Treasury) from which a bid quotation can be derived. Based on these monthly
bid quotations and/or spreads, the investment adviser will review the valuation
of each security resulting from matrix pricing and make any adjustments
consistent with: (1) the market prices for similar securities; (2) the price at
which such securities have been offered to or bid from the Fund; and (3) option
adjusted spreads relative values and supply and demand factors; (e) overnight
repurchase agreements will be valued by the particular investment adviser at
cost; (f) term repurchase agreements (i.e., those whose maturity exceeds seven
days) and interest rate swaps, caps, collars and floors will be valued at the
average of the bid quotations obtained daily from at least one dealer (g) debt
securities with a remaining maturity of 60 days or less are valued by the
particular investment adviser at amortized cost, which the Trustees have
determined to approximate fair value; (h) spot and forward foreign currency
exchange contracts will be valued using a pricing service such as Reuters. If no
quotations are available from a pricing service or the prices are believed by
the investment adviser to be inaccurate, the contracts will be valued by then
calculating the mean between the last bid and asked quotations supplied by at
least one dealer in such contracts; (i) exchange-traded options and futures
contracts will be valued by the custodian bank at the last sale price on the
exchange where such contracts and options are principally traded. If accurate
quotations are not readily available, the investment adviser will value such
contracts in good faith utilizing procedures such as those outlined under
section (d) (for debt securities), (c) (for equity securities) and (h) (for
foreign currency exchange contracts) above; (j) over-the-counter
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options will be valued by a broker identified by the portfolio manager/trader;
and (k) all other securities, including those for which a pricing service
supplies no exchange quotation or a quotation that is believed by the portfolio
manager/trader to be inaccurate, will be valued at fair value as stated in the
valuation procedures which were approved by the Board of Trustees.
In addition, portfolio securities of the Global Income Fund for which
accurate market quotations are available are valued as follows: (a) securities
listed on any U.S. or foreign stock exchange or on the National Association of
Securities Dealers Automated Quotations System ("NASDAQ") will be valued at the
last sale price on the exchange or system in which they are principally traded,
on the valuation date. If there is no sale on the valuation day, securities
traded will be valued at the mean between the closing bid and asked prices or if
closing bid and asked prices are not available, at the exchange defined close
price on the exchange or system in which such securities are principally traded.
If the relevant exchange or system has not closed by the time for determining
the Fund's net asset value, the securities will be valued at the mean between
the bid and asked prices at the time the net asset value is determined, and (ii)
on a foreign exchange will be valued at the official bid price. The last sale
price and official bid price for securities traded principally on a foreign
exchange will be determined as of the close of the London Foreign Exchange; (b)
over-the-counter securities not quoted on NASDAQ will be valued at the last sale
price on the valuation day or, if no sale occurs, at the mean between the last
bid and asked prices; (c) options and futures contracts will be valued at the
last sale price in the market where such contract is principally traded; and (d)
forward foreign currency exchange contracts will be valued at the mean between
the last bid and asked quotations supplied by a dealer in such contracts.
The value of all assets and liabilities expressed in foreign currencies
will be converted into U.S. dollar values at current exchange rates of such
currencies against U.S. dollars last quoted by any major bank. If such
quotations are not available, the rate
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of exchange will be determined in good faith by or under procedures established
by the Board of Trustees.
Generally, trading in securities on European and Far Eastern securities
exchanges and on over-the-counter markets is substantially completed at various
times prior to the close of business on each Business Day in New York (i.e., a
day on which the New York Stock Exchange is open for trading). In addition,
European or Far Eastern securities trading generally or in a particular country
or countries may not take place on all Business Days in New York. Furthermore,
trading takes place in various foreign markets on days which are not Business
Days in New York and days on which the Funds' net asset values are not
calculated. Such calculation does not take place contemporaneously with the
determination of the prices of the majority of the portfolio securities used in
such calculation. Events affecting the values of portfolio securities that
occur between the time their prices are determined and the close of regular
trading on the New York Stock Exchange will not be reflected in a Fund's
calculation of net asset values unless the Trustees deem that the particular
event would materially affect net asset value, in which case an adjustment will
be made.
The proceeds received by each Portfolio and each other series of the Trust
from the issue or sale of its shares, and all net investment income, realized
and unrealized gain and proceeds thereof, subject only to the rights of
creditors, will be specifically allocated to such Portfolio and constitute the
underlying assets of that Portfolio or series. The underlying assets of each
Portfolio will be segregated on the books of account, and will be charged with
the liabilities in respect of such Portfolio and with a share of the general
liabilities of the Trust. Expenses of the Trust with respect to the Portfolios
and the other series of the Trust are generally allocated in proportion to the
net asset values of the respective Portfolios or series except where allocations
of direct expenses can otherwise be fairly made.
PERFORMANCE INFORMATION
A Portfolio may from time to time quote or otherwise use total return,
yield and/or distribution rate information in advertisements, shareholder
reports or sales literature. Average annual total return and yield are computed
pursuant to formulas specified by the SEC.
Yield is computed by dividing net investment income earned during a recent
thirty-day period by the product of the average daily number of shares
outstanding and entitled to receive dividends during the period and the maximum
public offering price per share on the last day of the relevant period. The
results are compounded on a bond equivalent (semi-annual) basis and then
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annualized. Net investment income per share is equal to the dividends and
interest earned during the period, reduced by accrued expenses for the period.
The calculation of net investment income for these purposes may differ from the
net investment income determined for accounting purposes.
The distribution rate for a specified period is calculated by annualizing
distributions of net investment income for such period and dividing this amount
by the net asset value per share or maximum public offering price on the last
day of the period.
Average annual total return for a specified period is derived by
calculating the actual dollar amount of the investment return on a $1,000
investment made at the maximum public offering price applicable to the relevant
class (i.e., net asset value in the case of each class other than Class A) at
the beginning of the period, and then calculating the annual compounded rate of
return which would produce that amount, assuming a redemption (and payment of
any contingent deferred sales charge) at the end of the period. This
calculation assumes a complete redemption of the investment. It also assumes
that all dividends and distributions are reinvested at net asset value on the
reinvestment dates during the period.
Year-by-year total return and cumulative total return for a specified
period are each derived by calculating the percentage rate required to make a
$1,000 investment (made at the maximum public offering price with all
distributions reinvested) at the beginning of such period equal to the actual
total value of such investment at the end of such period.
Thirty-day yield, distribution rate and average annual total return are
calculated separately for each class of shares of each Portfolio. Each class of
shares of each Portfolio is subject to different fees and expenses and may have
different returns for the same period. Any performance data for Class A, Class
B or Class C Shares which is based upon a Portfolio's net asset value per share
would be reduced if a sales charge were taken into account.
Occasionally statistics may be used to specify Portfolio volatility or
risk. Measures of volatility or risk are generally used to compare a
Portfolio's net asset value or performance relative to a market index. One
measure of volatility is beta. Beta is the volatility of a fund relative to the
total market. A beta of more than 1.00 indicates volatility greater than the
market, and a beta of less than 1.00 indicates volatility less than the market.
Another measure of volatility or risk is standard deviation. Standard deviation
is used to measure variability of net asset value or total return around an
average, over a specified period of time. The premise is that greater
volatility connotes greater risk undertaken in achieving performance.
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From time to time the Trust may publish an indication of a Portfolio's past
performance as measured by independent sources such as (but not limited to)
Lipper Analytical Services, Inc., Morningstar Mutual Funds, Weisenberger
Investment Companies Service, Donoghue's Money Fund Report, Micropal, Barron's,
Business Week, Consumer's Digest, Consumer's Report, Investors Business Daily,
The New York Times, Kiplinger's Personal Finance Magazine, Changing Times,
Financial World, Forbes, Fortune, Money, Personal Investor, Sylvia Porter's
Personal Finance and The Wall Street Journal. The Trust may also advertise
information which has been provided to the NASD for publication in regional and
local newspapers. In addition, the Trust may from time to time advertise a
Portfolio's performance relative to certain indices and benchmark investments,
including: (a) the Lipper Analytical Services, Inc. Mutual Fund Performance
Analysis, Fixed Income Analysis and Mutual Fund Indices (which measure total
return and average current yield for the mutual fund industry and rank mutual
fund performance); (b) the CDA Mutual Fund Report published by CDA Investment
Technologies, Inc. (which analyzes price, risk and various measures of return
for the mutual fund industry); (c) the Consumer Price Index published by the
U.S. Bureau of Labor Statistics (which measures changes in the price of goods
and services); (d) Stocks, Bonds, Bills and Inflation published by Ibbotson
Associates (which provides historical performance figures for stocks, government
securities and inflation); (e) the Salomon Brothers' World Bond Index (which
measures the total return in U.S. dollar terms of government bonds, Eurobonds
and foreign bonds of ten countries, with all such bonds having a minimum
maturity of five years); (f) the Lehman Brothers Aggregate Bond Index or its
component indices; (g) the Standard & Poor's Bond Indices (which measure yield
and price of corporate, municipal and U.S. Government bonds); (h) the J.P.
Morgan Global Government Bond Index; (i) other taxable investments including
certificates of deposit (CDs), money market deposit accounts (MMDAs), checking
accounts, savings accounts, money market mutual funds, commercial paper and
repurchase agreements; (j) Donoghues' Money Fund Report (which provides industry
averages for 7-day annualized and compounded yields of taxable, tax-free and
U.S. Government money funds); (k) the Hambrecht & Quist Growth Stock Index; (l)
the NASDAQ OTC Composite Prime Return; (m) the Russell Midcap Index; (n) the
Russell 2000 Index - Total Return; (o) Russell 1000 Growth Index-Total Return;
(p) the Value-Line Composite-Price Return; (q) the Wilshire 4500 Index; (r) the
FT-Actuaries Europe and Pacific Index; (s) historical investment data supplied
by the research departments of Goldman Sachs, Lehman Brothers, First Boston
Corporation, Morgan Stanley including (EAFE), and the Morgan Stanley Capital
International Combined Asia ex Japan Free Index, the Morgan Stanley Capital
International Emerging Markets Free Index, Salomon Brothers, Merrill Lynch,
Donaldson Lufkin and Jenrette or other providers of such data; (t) the FT-
Actuaries Europe and Pacific Index; (u) CDA/Wiesenberger Investment Companies
Services or Wiesenberger Investment Companies Service; (v) The Goldman Sachs
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Commodities Index; (w) information produced by Micropal, Inc.; (x) the Shearson
Lehman Government/Corporate (Total) Index; (y) Shearson Lehman Government Index;
(z) Merrill Lynch 1-3 Year Treasury Index; (aa) Merrill Lynch 2-Year Treasury
Curve Index; (bb) the Salomon Brothers Treasury Yield Curve Rate of Return
Index; (cc) the Payden & Rygel 2-Year Treasury Note Index; (dd) 1 through 3 year
U.S. Treasury Notes; (ee) constant maturity U.S. Treasury yield indices; (ff)
the London Interbank Offered Rate; and (gg) historical data concerning the
performance of adjustable and fixed-rate mortgage loans. The composition of the
investments in such indices and the characteristics of such benchmark
investments are not identical to, and in some cases are very different from,
those of the Portfolios and the Underlying Funds. These indices and averages
are generally unmanaged and the items included in the calculations of such
indices and averages may not be identical to the formulas used by a Portfolio to
calculate its performance figures.
Information used in advertisements and materials furnished to present and
prospective investors may include statements or illustrations relating to the
appropriateness of certain types of securities and/or mutual funds to meet
specific financial goals. Such information may address:
. cost associated with aging parents;
. funding a college education (including its actual and estimated cost);
. health care expenses (including actual and projected expenses);
. long-term disabilities (including the availability of, and coverage
provided by, disability insurance);
. retirement (including the availability of social security benefits, the
tax treatment of such benefits and statistics and other information
relating to maintaining a particular standard of living and outliving
existing assets);
. asset allocation strategies and the benefits of diversifying among asset
classes;
. the benefits of international and emerging market investments;
. the effects of inflation on investing and saving;
. the benefits of establishing and maintaining a regular pattern of
investing and the benefits of dollar-cost averaging; and
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. measures of portfolio risk, including but not limited to, alpha, beta
and standard deviation.
The Trust may from time to time use comparisons, graphs or charts in
advertisements to depict the following types of information:
. the performance of various types of securities (for example, common
stocks, small company stocks, taxable money market funds, U.S. Treasury
securities, adjustable rate mortgage securities, government securities
and municipal bonds) over time. However, the characteristics of these
securities are not identical to, and may be very different from, those of
a Portfolio;
. the dollar and non-dollar based returns of various market indices (i.e.,
Morgan Stanley Capital International EAFE Index, FT-Actuaries Europe &
Pacific Index and the Standard & Poor's Index of 500 Common Stocks) over
varying periods of time;
. total stock market capitalizations of specific countries and regions on a
global basis;
. performance of securities markets of specific countries and regions;
. value of a dollar amount invested in a particular market or type of
security over different periods of time;
. volatility of total return of various market indices (i.e. Lehman
Government Bond Index, S&P 500, IBC/Donoghue's Money Fund Average/ All
Taxable Index) over varying periods of time;
. credit ratings of domestic government bonds in various countries;
. price volatility comparisons of types of securities over different
periods of time; and
. price and yield comparisons of a particular security over different
periods of time.
In addition, the Trust may from time to time include rankings of Goldman,
Sachs & Co.'s research department by publications such as the Institutional
Investor and the Wall Street Journal in advertisements.
From time to time, advertisements or information may include a discussion
of certain attributes or benefits to be derived by an investment in a Portfolio.
Such advertisements or information may include symbols, headlines or other
material which highlight or
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summarize the information discussed in more detail in the communication.
The Trust may from time to time summarize the substance of discussions
contained in shareholder reports in advertisements and publish the adviser's
views as to markets, the rationale for a Portfolio's investments and discussions
of a Portfolio's current asset allocation.
In addition, from time to time, advertisements or information may include a
discussion of asset allocation models developed by the Adviser and/or its
affiliates, certain attributes or benefits to be derived from asset allocation
strategies and the Goldman Sachs mutual funds that may be offered as investment
options for the strategic asset allocations. Such advertisements and
information may also include the Adviser's current economic outlook and domestic
and international market views to suggest periodic tactical modifications to
current asset allocation strategies. Such advertisements and information may
include other materials which highlight or summarize the services provided in
support of an asset allocation program.
A Portfolio's performance data will be based on historical results and will
not be intended to indicate future performance. A Portfolio's total return,
yield and distribution rate will vary based on market conditions, portfolio
expenses, portfolio investments and other factors. The value of a Portfolio's
shares will fluctuate and an investor's shares may be worth more or less than
their original cost upon redemption.
The Trust may, at its discretion, from time to time make a list of a
Portfolio's holdings available to investors upon request.
SHARES OF THE TRUST
Each Portfolio is a series of Goldman Sachs Trust, which was formed under
the laws of the state of Delaware on January 28, 1997. The Trustees have
authority to classify and reclassify the shares of the Portfolios into one or
more classes of shares. As of the date of this Additional Statement, the
Trustees have authorized the issuance of five classes of shares in each
Portfolio: Institutional Shares, Service Shares, Class A Shares, Class B Shares
and Class C Shares.
Each Institutional Share, Service Share, Class A Share, Class B Share and
Class C Share of a Portfolio represents a proportionate interest in the assets
belonging to the applicable class of the Portfolio. All expenses of a Portfolio
are borne at the same rate by each class of shares, except that fees under
Service Plan are borne exclusively by Service Shares, fees under Distribution
and Authorized Dealer Service Plans are borne exclusively by Class A
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Shares, Class B Shares or Class C Shares, and transfer agency fees are borne at
different rates by Class A Shares, Class B Shares or Class C Shares than
Institutional and Service Shares. The Trustees may determine in the future that
it is appropriate to allocate other expenses differently among classes of shares
and may do so to the extent consistent with the rules of the SEC and positions
of the Internal Revenue Service. Each class of shares may have different
minimum investment requirements and be entitled to different shareholder
services. Currently, shares of a class may only be exchanged for shares of the
same or an equivalent class of another series. See "Exchange Privilege" in the
Prospectus.
Institutional Shares may be purchased at net asset value without a sales
charge for accounts in the name of an investor or institution that is not
compensated by a Portfolio for services provided to the institution's customers.
Service Shares may be purchased at net asset value without a sales charge
for accounts held in the name of an institution that, directly or indirectly,
provides certain account administration and shareholder liaison services to its
customers, including maintenance of account records and processing orders to
purchase, redeem and exchange Service Shares. Service Shares bear the cost of
account administration fees at the annual rate of up to 0.50% of the average
daily net assets of the Portfolio attributed to Service Shares.
Class A Shares are sold, with an initial sales charge, through brokers and
dealers who are members of the National Association of Securities Dealers, Inc.
and certain other financial service firms that have sales agreements with
Goldman Sachs. Class A Shares of the Portfolios bear the cost of distribution
(Rule 12b-1) fees at the aggregate rate of up to 0.25% of the average daily net
assets of such Class A Shares. Class A Shares also bear the cost of an
Authorized Dealer Service Plan at an annual rate of up to 0.25% of average daily
net assets attributed to Class A Shares.
Class B Shares and Class C Shares of the Portfolios are sold subject to a
contingent deferred sales charge through brokers and dealers who are members of
the National Association of Securities Dealers, Inc. and certain other financial
services firms that have sales arrangements with Goldman Sachs. Class B Shares
and Class C Shares bear the cost of distribution (Rule 12b-1) fees at the
aggregate rate of up to 0.75% of the average daily net assets attributed to
Class B Shares and Class C Shares. Class B Shares and Class C Shares also bear
the cost of an Authorized Dealer Service Plan at an annual rate of up to 0.25%
of the average daily net assets attributed to Class B Shares and Class C Shares.
It is possible that an institution or its affiliate may offer different
classes of shares (i.e., Institutional, Service, Class A, Class B and Class C
Shares) to its customers and thus receive
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different compensation with respect to different classes of shares of each
Portfolio. Dividends paid by each Portfolio, if any, with respect to each class
of shares will be calculated in the same manner, at the same time on the same
day and will be in the same amount, except for differences caused by the fact
that the respective account administration, service, authorized dealer service
plan and distribution fees relating to a particular class will be borne
exclusively by that class. Similarly, the net asset value per share may differ
depending upon the class of shares purchased.
Certain aspects of the shares may be altered after advance notice to
shareholders if it is deemed necessary in order to satisfy certain tax
regulatory requirements.
When issued, shares are fully paid and non-assessable. In the event of
liquidation, shareholders are entitled to share pro rata in the net assets of
the applicable class of the relevant Portfolio available for distribution to
such shareholders. All shares are freely transferable and have no preemptive,
subscription or conversion rights.
Rule 18f-2 under the Act provides that any matter required to be submitted
by the provisions of the Act or applicable state law, or otherwise, to the
holders of the outstanding voting securities of an investment company such as
the Trust shall not be deemed to have been effectively acted upon unless
approved by the holders of a majority of the outstanding shares of each class or
series affected by such matter. Rule 18f-2 further provides that a class or
series shall be deemed to be affected by a matter unless the interests of each
class or series in the matter are substantially identical or the matter does not
affect any interest of such class or series. However, Rule 18f-2 exempts the
selection of independent public accountants, the approval of principal
distribution contracts and the election of trustees from the separate voting
requirements of Rule 18f-2.
The Trust is not required to hold annual meetings of shareholders and does
not intend to hold such meetings. In the event that a meeting of shareholders
is held, each share of the Trust will be entitled, as determined by the
Trustees, either to one vote for each share or to one vote for each dollar of
net asset value represented by such shares on all matters presented to
shareholders including the elections of Trustees (this method of voting being
referred to as "dollar based voting"). However, to the extent required by the
Act or otherwise determined by the Trustees, series and classes of the Trust
will vote separately from each other. Shareholders of the Trust do not have
cumulative voting rights in the election of Trustees. Meetings of shareholders
of the Trust, or any series or class thereof, may be called by the Trustees,
certain officers or upon the written request of holders of 10% or more of the
shares entitled to vote at
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such meetings. The shareholders of the Trust will have voting rights only with
respect to the limited number of matters specified in the Declaration of Trust
and such other matters as the Trustees may determine or may be required by law.
The Declaration of Trust provides for indemnification of Trustees, officers
and agents of the Trust unless the recipient is adjudicated (i) to be liable by
reason of willful misfeasance, bad faith, gross negligence or reckless disregard
of the duties involved in the conduct of such person's office or (ii) not to
have acted in good faith in the reasonable belief that such person's actions
were in the best interest of the Trust. The Declaration of Trust provides that,
if any shareholder or former shareholder of any series is held personally liable
solely by reason of being or having been a shareholder and not because of the
shareholder's acts or omissions or for some other reason, the shareholder or
former shareholder (or heirs, executors, administrators, legal representatives
or general successors) shall be held harmless from and indemnified against all
loss and expense arising from such liability. The Trust, acting on behalf of
any affected series, must, upon request by such shareholder, assume the defense
of any claim made against such shareholder for any act or obligation of the
series and satisfy any judgment thereon from the assets of the series.
The Declaration of Trust permits the termination of the Trust or of any
series or class of the Trust (i) by a majority of the affected shareholders at a
meeting of shareholders of the Trust, series or class; or (ii) by a majority of
the Trustees without shareholder approval if the Trustees determine that such
action is in the best interest of the Trust or its shareholders. The factors and
events that the Trustees may take into account in making such determination
include (i) the inability of the Trust or any successor series or class to
maintain its assets at an appropriate size; (ii) changes in laws or regulations
governing the Trust, series or class or affecting assets of the type in which it
invests; or (iii) economic developments or trends having a significant adverse
impact on their business or operations.
The Declaration of Trust authorizes the Trustees without shareholder
approval to cause the Trust, or any series thereof, to merge or consolidate with
any corporation, association, trust or other organization or sell or exchange
all or substantially all of the property belonging to the Trust or any series
thereof. In addition, the Trustees, without shareholder approval, may adopt a
master-feeder structure by investing all or a portion of the assets of a series
of the Trust in the securities of another open-end investment company with
substantially the same investment objective, restrictions and policies.
The Declaration of Trust permits the Trustees to amend the Declaration of
Trust without a shareholder vote. However,
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shareholders of the Trust have the right to vote on any amendment (i) that would
affect the voting rights of shareholders; (ii) that is required by law to be
approved by shareholders; (iii) that would amend the voting provisions of the
Declaration of Trust; or (iv) that the Trustees determine to submit to
shareholders.
The Trustees may appoint separate Trustees with respect to one or more
series or classes of the Trust's shares (the "Series Trustees"). Series Trustees
may, but are not required to, serve as Trustees of the Trust or any other series
or class of the Trust. The Series Trustees have, to the exclusion of any other
Trustees of the Delaware Trust, all the powers and authorities of Trustees under
the Trust Instrument with respect to any other series or class.
SHAREHOLDER AND TRUSTEE LIABILITY
Under Delaware law, the shareholders of the Portfolios are not generally
subject to liability for the debts or obligations of the Trust. Similarly,
Delaware law provides that a series of the Trust will not be liable for the
debts or obligations of any other series of the Trust. However, no similar
statutory or other authority limiting business trust shareholder liability
exists in other states. As a result, to the extent that a Delaware business
trust or a shareholder is subject to the jurisdiction of courts of such other
states, the courts may not apply Delaware law and may thereby subject the
Delaware business trust shareholders to liability. To guard this risk, the
Declaration of Trust contains an express disclaimer of shareholder liability for
acts or obligations of a Portfolio. Notice of such disclaimer will normally be
given in each agreement, obligation or instrument entered into or executed by a
series or the Trustees. The Declaration of Trust provides for indemnification
by the relevant Portfolio for all loss suffered by a shareholder as a result of
an obligation of the series. The Declaration of Trust also provides that a
series shall, upon request, assume the defense of any claim made against any
shareholder for any act or obligation of the series and satisfy any judgment
thereon. In view of the above, the risk of personal liability of shareholders
of a Delaware business trust is remote.
In addition to the requirements under Delaware law, the Declaration of
Trust provides that shareholders of a series may bring a derivative action on
behalf of the series only if the following conditions are met: (a) shareholders
eligible to bring such derivative action under Delaware law who hold at least
10% of the outstanding shares of the series, or 10% of the outstanding shares of
the class to which such action relates, shall join in the request for the
Trustees to commence such action; and (b) the Trustees must be afforded a
reasonable amount of time to consider such shareholder request and to
investigate the basis and to employ other advisers in considering the merits of
the request and shall require an undertaking by the shareholders making such
request to
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reimburse the Portfolio for the expense of any such advisers in the event that
the Trustees determine not to bring such action.
The Declaration of Trust further provides that the Trustees will not be
liable for errors of judgment or mistakes of fact or law, but nothing in the
Declaration of Trust protects a Trustee against liability to which he or she
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
or her office.
TAXATION
The following is a summary of the principal U.S. federal income, and
certain state and local, tax considerations regarding the purchase, ownership
and disposition of shares in each Portfolio. This summary does not address
special tax rules applicable to certain classes of investors, such as tax-exempt
entities, insurance companies and financial institutions. Each prospective
shareholder is urged to consult his own tax adviser with respect to the specific
federal, state, local and foreign tax consequences of investing in each
Portfolio. The summary is based on the laws in effect on the date of this
Additional Statement, which are subject to change.
GENERAL
Each Portfolio is a separate taxable entity. Each of the Portfolios
intends to qualify for each taxable year as a regulated investment company under
Subchapter M of the Internal Revenue, as amended (the "code") Code.
Qualification as a regulated investment company under the Code requires,
among other things, that (a) a Portfolio derive at least 90% of its gross income
for its taxable year from dividends, interest, payments with respect to
securities loans and gains from the sale or other disposition of stocks or
securities or foreign currencies, or other income (including but not limited to
gains from options, futures, and forward contracts) derived with respect to its
business of investing in such stock, securities or currencies (the "90% gross
income test"); and (b) such Portfolio diversify its holdings so that, at the
close of each quarter of its taxable year, (i) at least 50% of the market value
of such Portfolio's total (gross) assets is comprised of cash, cash items, U.S.
Government securities, securities of other regulated investment companies and
other securities limited in respect of any one issuer to an amount not greater
in value than 5% of the value of such Portfolio's total assets and to not more
than 10% of the outstanding voting securities of such issuer, and (ii) not more
than 25% of the value of its total (gross) assets is invested in the securities
of any one issuer (other than U.S. Government securities and securities of other
regulated investment companies)
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or two or more issuers controlled by the Portfolio and engaged in the same,
similar or related trades or businesses.
If a Portfolio complies with such provisions, then in any taxable year in
which such Portfolio distributes, in compliance with the Code's timing and other
requirements, at least 90% of its "investment company taxable income" (which
includes dividends, taxable interest, taxable accrued original issue discount
and market discount income, income from securities lending, any net short-term
capital gain in excess of net long-term capital loss, certain net realized
foreign exchange gains and any other taxable income other than "net capital
gain," as defined below, and is reduced by deductible expenses), and at least
90% of the excess of its gross tax-exempt interest income (if any) over certain
disallowed deductions, such Portfolio (but not its shareholders) will be
relieved of federal income tax on any income of the Portfolio, including long-
term capital gains, distributed to shareholders. In this connection, dividends
received by a Portfolio from an Underlying Fund other than Capital gain
distributions, are treated as ordinary income to the Portfolio. Distributions
from an Underlying Fund designated as capital gain distributions are treated as
long-term capital gains (20% or 28% depending on the underlying Fund's holding
period for the assets the sale of which generated the capital gains). In
addition, upon the sale or other disposition by a Portfolio of shares of an
Underlying Fund or other investment, the Portfolio will generally realize a
capital gain or loss which will be long-term (20% or 28% rate) or short-term,
generally depending upon the Portfolio's holding period.
If a Portfolio retains any investment company taxable income or "net
capital gain" (the excess of net long-term capital gain over net short-term
capital loss), it will be subject to a tax at regular corporate rates on the
amount retained. If a Portfolio retains any net capital gain, the Portfolio may
designate the retained amount as undistributed capital gains in a notice to its
shareholders who, if subject to U.S. federal income tax on long-term capital
gains, (i) will be required to include in income for federal income tax
purposes, as 20% or 28% rate capital gain, as the case may be, their shares of
such undistributed amount, and (ii) will be entitled to credit their
proportionate shares of the tax paid by the Portfolio against their U.S. federal
income tax liabilities, if any, and to claim refunds to the extent the credit
exceeds such liabilities. For U.S. federal income tax purposes, the tax basis of
shares owned by a shareholder of the Portfolio will be increased by an amount
equal to a percentage of the amount of undistributed net capital gain included
in the shareholder's gross income. Each Portfolio intends to distribute for each
taxable year to its shareholders all or substantially all of its investment
company taxable income, net capital gain and any net tax-exempt interest. If for
any taxable year a Portfolio does not qualify as a regulated investment company,
it will be taxed on all of its investment company taxable income and net capital
gain at corporate rates, and its distributions to shareholders will be taxable
as ordinary dividends to the extent of its current and accumulated earnings and
profits.
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In order to avoid a 4% federal excise tax, each Portfolio must distribute
(or be deemed to have distributed) by December 31 of each calendar year at least
98% of its taxable ordinary income for such year, at least 98% of the excess of
its capital gains over its capital losses (generally computed on the basis of
the one-year period ending on October 31 of such year), and all taxable ordinary
income and the excess of capital gains over capital losses for the previous year
that were not distributed for such year and on which the Portfolio paid no
federal income tax. For federal income tax purposes, dividends declared by a
Portfolio in October, November or December to shareholders of record on a
specified date in such a month and paid during January of the following year are
taxable to such shareholders as if received on December 31 of the year declared.
The Portfolios anticipate that they will generally make timely distributions of
income and capital gains in compliance with these requirements so that they will
generally not be required to pay the excise tax. For federal income tax
purposes, each Portfolio is permitted to carry forward a net capital loss in any
year to offset its own capital gains, if any, during the eight years following
the year of the loss.
Each Underlying Fund also intends to qualify annually and elect to be
treated as a regulated investment company under Subchapter M of the Code. In any
year in which an Underlying Fund so qualifies and timely distributes all of its
taxable income, the Fund generally will not pay any federal income or excise
tax. If, as may occur for certain of the Underlying Funds, more than 50% of a
Fund's total assets at the close of any taxable year consists of stock or
securities of foreign corporations, the Fund may file an election with the
Internal Revenue Service pursuant to which shareholders of the Fund would be
required to (i) include in ordinary gross income (in addition to taxable
dividends actually received) their pro rata shares of foreign income taxes paid
by the Fund that are treated as income taxes under U.S. tax regulations (which
excludes, for example, stamp taxes, securities transaction taxes, and similar
taxes) even though not actually received by such shareholders, and (ii) treat
such respective pro rata portions as foreign income taxes paid by them.
If an Underlying Fund makes this election, its shareholders may then deduct
such pro rata portions of qualified foreign taxes in computing their taxable
incomes, or, alternatively, use them as foreign tax credits, subject to
applicable limitations, against their U.S. federal income taxes. Shareholders
who do not itemize deductions for federal income tax purposes will not, however,
be able to deduct their pro rata portion of foreign taxes paid by a Fund,
although such shareholders will be required to include their shares of such
taxes in gross income if the election is made.
While a Portfolio will be able to deduct the foreign taxes that it will be
treated as receiving from an Underlying Fund if the election is made, the
Portfolio will not itself be able to elect to
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treat its foreign taxes as paid by its shareholders. Accordingly, the
shareholders of the Portfolio will not have an option of claiming a foreign tax
credit for foreign taxes paid by the Underlying Funds, while persons who invest
directly in such Underlying Funds may have that option.
If an Underlying Fund acquires stock (including, under proposed
regulations, an option to acquire stock such as is inherent in a convertible
bond) in certain foreign corporations that receive at least 75% of their annual
gross income from passive sources (such as interest, dividends, rents, royalties
or capital gain) or hold at least 50% of their assets in investments producing
such passive income ("passive foreign investment companies"), the Fund could be
subject to federal income tax and additional interest charges on "excess
distributions" received from such companies or gain from the sale of stock in
such companies, even if all income or gain actually received by the Fund is
timely distributed to its shareholders. The Fund would not be able to pass
through to its shareholders any credit or deduction for such a tax. In some
cases, elections may be available that would ameliorate these adverse tax
consequences, but such elections would require the Fund to include certain
amounts as income or gain (subject to the distribution requirements described
above) without a concurrent receipt of cash. Each Fund may limit and/or manage
its holdings in passive foreign investment companies to minimize its tax
liability or maximize its return from these investments.
TAXABLE U.S. SHAREHOLDERS - DISTRIBUTIONS
For U.S. federal income tax purposes, distributions by a Portfolio
generally will be taxable to shareholders who are subject to tax. Shareholders
receiving a distribution in the form of newly issued shares will be treated for
U.S. federal income tax purposes as receiving a distribution in an amount equal
to the amount of cash they would have received had they elected to receive cash
and will have a cost basis in each share received equal to such amount divided
by the number of shares received.
Distributions from investment company taxable income for the year will be
taxable as ordinary income. Distributions designated as derived from a
Portfolio's dividend income, if any, that would be eligible for the dividends
received deduction if such Portfolio's were not a regulated investment company
may be eligible, for the dividends received-deduction for corporate
shareholders. The dividends received-deduction, if available, is reduced to the
extent the shares with respect to which the dividends are received are treated
as debt-financed under federal income tax law and is eliminated if the shares
are deemed to have been held for less than a minimum period, generally 46 days.
The entire dividend, including the deducted amount, is considered in determining
the excess, if any, of a corporate shareholder's adjusted current earnings over
its alternative minimum taxable income, which may
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increase its liability for the federal alternative minimum tax, and the dividend
may, if it is treated as an "extraordinary dividend" under the Code, reduce such
shareholder's tax basis in its shares of a Portfolio. Capital gain dividends
(i.e., dividends from net capital gain) if designated as such in a written
notice to shareholders mailed not later than 60 days after a Portfolio's taxable
year closes, will be taxed to shareholders as long-term capital gain regardless
of how long shares have been held by shareholders, but are not eligible for the
dividends received deduction for corporations. Distributions, if any, that are
in excess of a Portfolio's current and accumulated earnings and profits will
first reduce a shareholder's tax basis in his shares and, after such basis is
reduced to zero, will generally constitute capital gains to a shareholder who
holds his shares as capital assets.
Different tax treatment, including penalties on certain excess
contributions and deferrals, certain pre-retirement and post-retirement
distributions, and certain prohibited transactions is accorded to accounts
maintained as qualified retirement plans. Shareholders should consult their tax
advisers for more information.
TAXABLE U.S. SHAREHOLDERS - SALE OF SHARES
When a shareholder's shares are sold, redeemed or otherwise disposed of in
a transaction that is treated as a sale for tax purposes, the shareholder will
generally recognize gain or loss equal to the difference between the
shareholder's adjusted tax basis in the shares and the cash, or fair market
value of any property, received. Assuming the shareholder holds the shares as a
capital asset at the time of such sale, such gain or loss should be capital in
character, and will be long-term (20% or 28% rate, as the case may be) or short-
term depending on the shareholder's tax holding period for the shares subject to
the rules described below. Shareholders should consult their own tax advisers
with reference to their particular circumstances to determine whether a
redemption (including an exchange) or other disposition of Portfolio shares is
properly treated as a sale for tax purposes, as is assumed in this discussion.
If a shareholder receives a capital gain dividend with respect to shares and
such shares have a tax holding period of six months or less at the time of a
sale or redemption of such shares, then any loss the shareholder realizes on the
sale or redemption will be treated as a long-term capital loss to the extent of
such capital gain dividend. Additionally, any loss realized on a sale or
redemption of shares of a Portfolio may be disallowed under "wash sale" rules to
the extent the shares disposed of are replaced with other shares of the same
Portfolio within a period of 61 days beginning 30 days before and ending 30 days
after the shares are disposed of, such as pursuant to a dividend reinvestment in
shares of such Portfolio. If disallowed, the loss will be reflected in an
adjustment to the basis of the shares acquired.
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Each Portfolio may be required to withhold, as "backup withholding,"
federal income tax at a rate of 31% from dividends (including capital gain
dividends) and share redemption and exchange proceeds to individuals and other
non-exempt shareholders who fail to furnish such Portfolio with a correct
taxpayer identification number ("TIN") certified under penalties of perjury, or
if the Internal Revenue Service or a broker notifies the Portfolio that the
payee is subject to backup withholding as a result of failing to properly report
interest or dividend income to the Internal Revenue Service or that the TIN
furnished by the payee to the Portfolio is incorrect, or if (when required to do
so) the payee fails to certify under penalties of perjury that it is not subject
to backup withholding. A Portfolio may refuse to accept an application that
does not contain any required TIN or certification that the TIN provided is
correct. If the backup withholding provisions are applicable, any such dividends
and proceeds, whether paid in cash or reinvested in additional shares, will be
reduced by the amounts required to be withheld. Any amounts withheld may be
credited against a shareholder's U.S. federal income tax liability.
NON-U.S. SHAREHOLDERS
The discussion above relates solely to U.S. federal income tax law as it
applies to "U.S. persons" subject to tax under such law. Shareholders who, as to
the United States, are not "U.S. persons," (i.e., are nonresident aliens,
foreign corporations, fiduciaries of foreign trusts or estates, foreign
partnerships or other non-U.S. investors) generally will be subject to U.S.
federal withholding tax at the rate of 30% on distributions treated as ordinary
income unless the tax is reduced or eliminated pursuant to a tax treaty or the
dividends are effectively connected with a U.S. trade or business of the
shareholder. In the latter case the dividends will be subject to tax on a net
income basis at the graduated rates applicable to U.S. individuals or domestic
corporations. Distributions of net capital gain, including amounts retained by
a Portfolio which are designated as undistributed capital gains, to a non-U.S.
shareholder will not be subject to U.S. federal income or withholding tax unless
the distributions are effectively connected with the shareholder's trade or
business in the United States or, in the case of a shareholder who is a
nonresident alien individual, the shareholder is present in the United States
for 183 days or more during the taxable year and certain other conditions are
met.
Any capital gain realized by a non-U.S. shareholder upon a sale or
redemption of shares of a Portfolio will not be subject to U.S. federal income
or withholding tax unless the gain is effectively connected with the
shareholder's trade or business in the U.S., or in the case of a shareholder who
is a nonresident alien individual, the shareholder is present in the U.S. for
183
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days or more during the taxable year and certain other conditions are met.
Non-U.S. persons who fail to furnish a Portfolio with an IRS Form W-8 or an
acceptable substitute may be subject to backup withholding at the rate of 31% on
capital gain dividends and the proceeds of redemptions and exchanges. Each
shareholder who is not a U.S. person should consult his or her tax adviser
regarding the U.S. and non-U.S. tax consequences of ownership of shares of and
receipt of distributions from the Portfolios.
STATE AND LOCAL
Each Portfolio may be subject to state or local taxes in jurisdictions in
which such Portfolio may be deemed to be doing business. In addition, in those
states or localities which have income tax laws, the treatment of such
Portfolio and its shareholders under such laws may differ from their treatment
under federal income tax laws, and investment in such Portfolio may have tax
consequences for shareholders different from those of a direct investment in the
securities held by the Portfolio. Shareholders should consult their own tax
advisers concerning these matters.
OTHER INFORMATION
Shares of the Portfolios are offered and sold on a continuous basis by the
Trust's Distributor, Goldman Sachs, acting as agent. As described in the
Prospectus, shares of the Portfolios are sold and redeemed at their net asset
value as next determined after receipt of the purchase or redemption order.
Each Portfolio will redeem shares solely in cash up to the lesser of
$250,000 or 1% of the net asset value of the Portfolio during any 90-day period
for any one shareholder. Each Portfolio, however, reserves the right to pay
redemptions exceeding $250,000 or 1% of the net asset value of the Portfolio at
the time of redemption by a distribution in kind of securities (instead of cash)
from such Portfolio. The securities distributed in kind would be readily
marketable and would be valued for this purpose using the same method employed
in calculating the Portfolio's net asset value per share. See "Net Asset
Value." If a shareholder receives redemption proceeds in kind, the shareholder
may incur transaction costs upon the disposition of the securities received in
the redemption.
The right of a shareholder to redeem shares and the date of payment by each
Portfolio may be suspended for more than seven days for any period during which
the New York Stock Exchange is closed, other than the customary weekends or
holidays, or when trading on such Exchange is restricted as determined by the
SEC; or during any emergency, as determined by the SEC, as a result of which it
is not
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reasonably practicable for such Portfolio to dispose of securities owned by it
or fairly to determine the value of its net assets; or for such other period as
the SEC may by order permit for the protection of shareholders of such
Portfolio. (The Trust may also suspend or postpone the recordation of the
transfer of shares upon the occurrence of any of the foregoing conditions.)
The Prospectus and this Additional Statement do not contain all the
information included in the Registration Statement filed with the SEC under the
1933 Act with respect to the securities offered by the Prospectus. Certain
portions of the Registration Statement have been omitted from the Prospectus and
this Additional Statement pursuant to the rules and regulations of the SEC. The
Registration Statement including the exhibits filed therewith may be examined
at the office of the SEC in Washington, D.C.
Statements contained in the Prospectus or in this Additional Statement as
to the contents of any contract or other document referred to are not
necessarily complete, and, in each instance, reference is made to the copy of
such contract or other document filed as an exhibit to the Registration
Statement of which the Prospectus and this Additional Statement form a part,
each such statement being qualified in all respects by such reference.
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APPENDIX A
DESCRIPTION OF BOND RATINGS, INCLUDING MUNICIPAL BONDS/1/
MOODY'S INVESTORS SERVICE, INC.
Bond Ratings
- ------------
Aaa: Bonds which are rated Aaa are judged to be of the best quality. They
carry the smallest degree of investment risk and are generally referred to as
"gilt edged." Interest payments are protected by a large or by an exceptionally
stable margin and principal is secure. While the various protective elements
are likely to change, such changes as can be visualized are most unlikely to
impair the fundamentally strong position of such issues.
Aa: Bonds which are rated Aa are judged to be of high quality by all
standards. Together with the Aaa group they comprise what are generally known
as high-grade bonds. They are rated lower than the best bonds because margins
of protection may not be as large as in Aaa securities or fluctuation of
protective elements may be of greater amplitude or there may be other elements
present which make the long-term risks appear somewhat larger than in Aaa
securities.
A: Bonds which are rated A possess many favorable investment attributes
and are to be considered as upper medium-grade obligations. Factors giving
security to principal and interest are considered adequate, but elements may be
present which suggest a susceptibility to impairment sometime in the future.
Baa: Bonds which are rated Baa are considered as medium-grade obligations,
i.e., they are neither highly protected nor poorly secured. Interest payments
and principal security appear adequate for the present but certain protective
elements may be lacking or may be characteristically unreliable over any great
length of time. Such bonds lack outstanding investment characteristics and in
fact have speculative characteristics as well.
Ba: Bonds which are rated Ba are judged to have speculative elements;
their future cannot be considered as well assured. Often the protection of
interest and principal payments may be very moderate and thereby not well
safeguarded during both good and bad
- ---------------------------
/1/ The rating systems described herein are believed to be the most recent
ratings systems available from Moody's Investors Service, Inc. and Standard &
Poor's Ratings Group at the date of this Additional Statement for the securities
listed. Ratings are generally given to securities at the time of issuance.
While the rating agencies may from time to time revise such ratings, they
undertake no obligation to do so.
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times over the future. Uncertainty of position characterizes bonds in this
class.
B: Bonds which are rated B generally lack characteristics of the desirable
investment. Assurance of interest and principal payments or of maintenance of
other terms of the contract over any long period of time may be small.
Caa: Bonds which are rated Caa are of poor standing. Such issues may be
in default or there may be present elements of danger with respect to principal
or interest.
Ca: Bonds which are rated Ca represent obligations which are speculative
in a high degree. Such issues are often in default or have other marked
shortcomings.
C: Bonds which are rated C are the lowest rated class of bonds, and issues
so rated can be regarded as having extremely poor prospects of ever attaining
any real investment standing.
UNRATED: Where no rating has been assigned or where a rating has been
suspended or withdrawn, it may be for reasons unrelated to the quality of the
issue.
Should no rating be assigned, the reason may be one of the following:
1. An application for rating was not received or accepted.
2. The issue or issuer belongs to a group of securities or companies
that are not rated as a matter of policy.
3. There is a lack of essential data pertaining to the issue or
issuer.
4. The issuer was privately placed, in which case the rating is not
published in Moody's publications.
Suspension or withdrawal may occur if new and material circumstances arise,
the effects of which preclude satisfactory analysis; if there is no longer
available reasonable up-to-date data to permit a judgment to be formed; if a
bond is called for redemption; or for other reasons.
Con. (---): 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
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attaches. Parenthetical rating denotes probable credit stature upon completion
of construction or elimination of basis of condition.
(P)...: When applied to forward delivery bonds, indicates that the
rating is provisional pending delivery of the bonds. The rating may be revised
prior to delivery if changes occur in the legal documents or the underlying
credit quality of the bonds.
NOTE: Those bonds in the Aa, A, Baa, Ba and B groups which Moody's
believes possess the strongest investment attributes are designed by the symbols
Aa1, A1, Baa1 and B1.
Description of Ratings of Commercial Paper
- ------------------------------------------
Moody's commercial paper ratings are opinions of the ability of issuers to
repay punctually senior debt obligations which have an original maturity in
excess of one year, unless explicitly noted. Moody's three highest commercial
paper rating categories are as follows:
Prime-1: Issuers rated Prime-1 (or supporting institutions) have a superior
ability for repayment of senior short-term debt obligations. Prime-1 repayment
ability will often be evidenced by many of the following characteristics:
- Leading market positions in well-established industries.
- High rates of return on funds employed.
- Conservative capitalization structure 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.
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Prime-2: Issuers rated Prime-2 (or supporting institutions) have a strong
ability for repayment of short-term debt 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 may be more
subject to variation. Capitalization characteristics, while still
appropriate, may be more affected by external conditions. Ample alternate
liquidity is maintained.
Prime-3: Issuers rated Prime-3 (or supporting institutions) have an
acceptable ability for repayment of senior short-term obligations. The
effect of industry characteristics and market compositions may be more
pronounced. Variability in earnings and profitability may result in
changes in the level of debt protection measurements and may require
relatively high financial leverage. Adequate alternate liquidity is
maintained.
NOT PRIME: Issuers do not fall within any of the Prime rating categories.
STANDARD & POOR'S RATINGS GROUP
Description of Ratings of State and Municipal Notes
---------------------------------------------------
Moody's ratings for state and municipal short-term obligations will be
designated Moody's Investment Grade ("MIG") and variable rate demand obligations
are designated Variable Moody's Investment Grade ("VMIG"). Such ratings
recognize the differences between short-term credit risk and long-term risk.
Factors affecting the liquidity of the borrower and short-term cyclical elements
are critical in short-term ratings, while other factors of major importance in
bond risk, long-term secular trends for example, may be less important over the
short run. Symbols used will be as follows:
MIG-1/VMIG-1: This designation denotes best quality. There is present
strong protection by established cash flows, superior liquidity support or
demonstrated broad based access to the market for refinancing.
MIG-2/VMIG-2: This designation denotes high quality. Margins of protection
are ample although not so large as in the preceding group.
MIG-3/VMIG-3: This designation denotes favorable quality. All security
elements are accounted for but there is lacking the undeniable strength of the
preceding grades. Liquidity and cash flow protection may be narrow and market
access for refinancing is likely to be less well established.
MIG-4/VMIG-4: This designation denotes adequate quality. Protection
commonly regarded as required of an investment security is present and although
not distinctly or predominantly speculative, there is specific risk.
SG: This designation denotes speculative quality. Debt instruments in
this category lack margins of protection.
Bond Ratings
- ------------
AAA: Bonds and debt rated AAA have the highest rating assigned by Standard
& Poor's. The obligor's capacity to meet its financial commitment on the
obligation is extremely strong.
AA: The obligor's capacity to meet its financial commitment on the
obligation ais very strong and differ from the higher rated issues only in small
degree.
A: Bonds and debt rated A have a very strong capacity to pay interest and
repay principal although they are somewhat more susceptible to the adverse
effects of changes in circumstances and economic conditions than bonds in higher
rated categories.
BBB: Bonds and debt rated BBB are regarded as having an adequate capacity
to pay interest and repay principal. Whereas they normally exhibit adequate
protection parameters, adverse economic conditions or changing circumstances are
more likely to lead to a weakened capacity to pay interest and repay principal
for bonds in this category than in higher rated categories.
BB, B, CCC, CC, C: Bonds and debt rated BB, B, CCC, CC and C are regarded,
on balance, as predominately speculative with respect to capacity to pay
interest and repay principal. BB indicates the least degree of speculation and
C the highest. While such bonds will likely have some quality and protective
characteristics, these
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are outweighed by large uncertainties of major risk exposures to adverse
conditions.
BB: Bonds and debt rated BB have less near-term vulnerability to default
than other speculative issues. However, such securities face major ongoing
uncertainties or exposure to adverse business, financial, or economic conditions
which could lead to inadequate capacity to meet timely interest and principal
payments. The BB rating category is also used for bonds that are subordinated
to senior debt assigned an actual or implied BBB- rating.
B: Bonds and debt rated B have a greater vulnerability to default but
currently have the capacity to meet interest payments and principal repayments.
Adverse business, financial, or economic conditions will likely impair capacity
or willingness to pay interest and repay principal.
The B rating category is also used for bonds that are subordinated to
senior debt assigned an actual or implied BB or BB-rating.
CCC: Bonds and debt rated CCC have currently identifiable vulnerability to
default, and are dependent upon favorable business, financial, and economic
conditions to meet timely payment of interest and repayment of principal. In
the event of adverse business, financial, or economic conditions, such
securities are not likely to have the capacity to pay interest and repay
principal.
The CCC rating category is also used for bonds that are subordinated to
senior debt assigned an actual or implied B or B-rating.
CC: The rating CC is typically applied to bonds and debt that are
subordinated to senior debt assigned an actual or implied CCC rating.
C: The rating C is typically applied to bonds and debt that are
subordinated to senior debt assigned an actual or implied CCC-debt rating. The
C rating may be used to cover a situation where a bankruptcy petition has been
filed, but debt service payments are continued.
C1: The rating C1 is reserved for income bonds on which no interest is
being paid.
D: Bonds and debt rated D are in default and payment of interest and/or
repayment of principal is in arrears. The D rating category is used when
interest payments or principal payments are not made on the date due even if the
applicable grace period has not expired, unless Standard & Poor's believes that
such payments will be made during such grace period. The D rating also will be
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used upon the filing of a bankruptcy petition if debt service payments are
jeopardized.
Plus (+) or minus (-): The ratings from "AA" to "CCC" may be modified by
the addition of a plus or minus sign to show relative standing within the major
rating categories.
R: This rating is attached to highlight derivative, hybrid, and certain
other obligations that S & P believes may experience high volatility or high
variability in expected returns due to non-credit risks. Examples of such
obligations are: securities whose principal or interest return is indexed to
equities, commodities, or currencies; certain swaps and options; and interest-
only and principal-only mortgage securities. The absence of an "r" symbol
should not be taken as an indication that an obligation will exhibit no
volatility or variability in total return.
N.R.: Not rated.
Notes: Bonds which are unrated expose the investor to risks with respect
to capacity to pay interest or repay principal which are similar to the risks of
lower-rated speculative obligations. The Fund is dependent on the Investment
Adviser's judgment, analysis and experience in the evaluation of such bonds.
Investors should note that credit factors affecting high yield, fixed
income securities change quickly and the assignment of a rating to a particular
bond by a rating service may not reflect the effect of recent developments on
the issuer's ability to make interest and principal payments.
S&P's top ratings for notes issued after July 29, 1984 are SP-1 and SP-2.
The designation SP-1 indicates a very strong capacity to pay principal and
interest. A plus sign (+) is added for those issues determined to possess
overwhelming safety characteristics. An SP-2 designation indicates a
satisfactory capacity to pay principal and interest.
Commercial paper rated A by S&P is regarded as having the greatest capacity
for timely payment. Commercial paper rated A-1 is described as having an
overwhelming or very strong degree of safety regarding timely payment.
Commercial Paper rated A-2 by Standard & Poor's is described as having a strong
degree of safety regarding timely payment.
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STANDARD & POOR'S RATINGS GROUP
Description of Ratings of State and Municipal
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 no more than
365 days. Standard & Poor's two highest commercial paper rating categories are
as follows:
A-1: This highest category indicates that the degree of safety regarding
timely payment is strong. Those issues determined to possess extremely strong
safety characteristics are denoted with a plus sign (+) designation.
A-2: Capacity for timely payment on issues with this designation is
satisfactory. However, the relative degree of safety is not as high as for
issues designated A-1.
A-3: Issued carrying this designation have adequate capacity for timely
payment. They are, however, more vulnerable t the adverse effects of changes in
circumstances than obligations carrying the higher designations.
B: Issues rated B are regarded as having only speculative capacity for
timely payment.
C: This rating is assigned to short-term debt obligations with a doubtful
capacity for payment.
D: Debt rated D is in payment default. The D rating category is used when
interest payments or principal payments are not made on the date due, even if
the applicable grace period has not expired, unless S&P believes such payments
will be made during such grace period.
A Standard & Poor's note rating reflects the liquidity concerns and market
access risks unique to notes. Notes due in three years or less will likely
receive a note rating. Notes maturing beyond three years will most likely
receive a long-term debt rating. The following criteria will be used in making
that assessment.
- - Amortization schedule (the larger the final maturity relative to other
maturities the more likely it will be treated as a note).
- - Source of payment (the more dependent the issue is on the market for its
refinancing, the more likely it will be treated as a note).
Note rating symbols are as follows:
SP-1: Very strong or strong capacity to pay principal and interest. Those
issues determined to possess overwhelming safety characteristics will be
given a plus (+) designation.
SP-2: Satisfactory capacity to pay principal and interest with some
vulnerability to adverse financial and economic changes over the term of
the notes.
SP-3: Speculative capacity to pay principal and interest.
FITCH INVESTORS SERVICE, L.P.
Bond Ratings
- ------------
The ratings represent Fitch's assessment of the issuer's ability to meet
the obligations of a specific debt issue or class of debt. The ratings take
into consideration special features of the issue, its relationship to other
obligations of the issuer, the current financial condition and operative
performance of the issuer and of any guarantor, as well as the political and
economic environment that might affect the issuer's future financial strength
and credit quality.
AAA: Bonds rated AAA are considered to be investment grade and of the
highest credit quality. The obligor has an
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exceptionally strong ability to pay interest and repay principal, which is
unlikely to be affected by reasonably foreseeable events.
AA: Bonds rated AA are considered to be investment grade and of very high
credit quality. The obligor's ability to pay interest and repay principal is
very strong, although not quite as strong as bonds rated AAA. Because bonds
rated in the AAA and AA categories are not significantly vulnerable to
foreseeable future developments, short-term debt of these issuers is generally
rated F-1+.
A: Bonds rated A are considered to be investment grade and of high credit
quality. The obligor's ability to pay interest and repay principal is
considered to be strong, but may be more vulnerable to adverse changes in
economic conditions and circumstances than bonds with higher ratings.
BBB: Bonds rated BBB are considered to be investment grade and of
satisfactory credit quality. The obligor's ability to pay interest and repay
principal is considered to be adequate. Adverse changes in economic conditions
and circumstances, however, are more likely to have an adverse impact on these
bonds and, therefore, impair timely payment. The likelihood that the ratings of
these bonds will fall below investment grade is higher than for bonds with
higher ratings.
BB: Bonds are considered speculative. The obligor's ability to pay
interest and repay principal may be affected over time by adverse economic
changes. However, business and financial alternatives can be identified, which
could assist the obligor in satisfying its debt service requirements.
B: Bonds are considered highly speculative. While bonds in this class are
currently meeting debt service requirements, the probability of continued timely
payment of principal and interest reflects the obligor's limited margin of
safety and the need for reasonable business and economic activity throughout the
life of the issue.
CCC: Bonds have certain identifiable characteristics that, if not
remedied, may lead to default. The ability to meet obligations requires an
advantageous business and economic environment.
CC: Bonds are minimally protected. Default in payment of interest and/or
principal seems probable over time.
C: Bonds are in imminent default in payment of interest or principal.
DDD, DD, and D: Bonds are in default on interest and/or principal
payments. Such bonds are extremely speculative and should be valued on the
basis of their ultimate recovery value in
A-8
<PAGE>
liquidation or reorganization of the obligor. DDD represents the highest
potential for recovery on these bonds, and D represents the lowest potential for
recovery.
Plus (+) and minus (-) signs are used with a rating symbol to indicate the
relative position of a credit within the rating category. Plus and minus signs,
however, are not used in the AAA, DDD, DD, or D Categories.
Short-Term Ratings
- ------------------
Fitch's short-term ratings apply to debt obligations that are payable on
demand or have original maturities of up to three years, including commercial
paper, certificates of deposit, medium-term notes, and municipal and investment
notes.
F-1+: Exceptionally Strong Credit Quality. Issues assigned this rating are
regarded as having the strongest degree of assurance for timely payment.
F-1: Very Strong Credit Quality. Issues assigned this rating reflect an
assurance of timely payment only slightly less in degree than issues
rated F-1+.
F-2: Good Credit Quality. Issues assigned this rating have a satisfactory
degree of assurance for timely payment, but the margin of safety is not
as great as for issues assigned F-1+ and F-1 ratings.
F-3: Fair Credit Quality. Issues assigned this rating have characteristics
suggesting that the degree of assurance for timely payment is adequate;
however, near-term adverse changes could cause these securities to be
rated below investment grade.
F-S: Weak Credit Quality. Issues assigned this rating have characteristics
suggesting a minimal degree of assurance for timely payment and are
vulnerable to near-term adverse changes in financial and economic
conditions.
D: Default. Issues assigned this rating are in actual or imminent payment
default.
LOC: The symbol LOC indicates that the rating is based on a letter of credit
issued by a commercial bank.
A-9
<PAGE>
DUFF & PHELPS
-------------
Long-Term Debt and Preferred Stock
- ----------------------------------
AAA: Highest credit quality. The risk factors are negligible, being only
slightly more than for risk-free U.S. Treasury debt.
AA+, AA, AA-: High credit quality. Protection factors are strong. Risk is
modest but may vary slightly from time to time because of economic conditions.
A+, A, A-: Protection factors are average but adequate. However, risk
factors are more variable and greater in periods of economic stress.
BBB+, BBB, BBB-: Below average protection factors but still considered
sufficient for prudent investment. Considerable variability in risk during
economic cycles.
BB+, BB, BB-: Below investment grade but deemed likely to meet obligations
when due. Present or prospective financial protection factors fluctuate
according to industry conditions or company fortunes. Overall quality may move
up or down frequently within this category.
B+, B, B-: Below investment grade and possessing risk that obligations
will not be met when due. Financial protection factors will fluctuate widely
according to economic cycles, industry conditions and/or company fortunes.
Potential exists for frequent changes in the rating within this category or into
a higher or lower rating grade.
CCC: Well below investment grade securities. Considerable uncertainty
exists as to timely payment of principal, interest or preferred dividends.
Protection factors are narrow and risk can be substantial with unfavorable
economic/industry conditions, and/or with unfavorable company developments.
DD: Defaulted debt obligations. Issuer failed to meet scheduled principal
and/or interest payment.
DP: Represents preferred stock with dividend arrearages.
Commercial Paper/Certificates of Deposits
- -----------------------------------------
Duff 1 plus: Highest certainty of timely payment. Short-term liquidity
including internal operating factors and/or ready access to
alternative sources of funds, is clearly outstanding, and
safety is just below
A-10
<PAGE>
risk-free U.S. Treasury short-term obligations.
Duff 1: Very high certainty of timely payment. Liquidity factors are
excellent and supported by strong fundamental protection
factors. Risk factors are minor.
Duff 1 minus: High certainty of timely payment. Liquidity factors are
strong and supported by good fundamental protection factors.
Risk factors are very small.
Duff 2: Good certainty of timely payment. Liquidity factors and
company fundamentals are sound. Although ongoing funding
needs may enlarge total financing requirements, access to
capital markets is good. Risk factors are small.
Duff 3: Satisfactory liquidity and other protection factors qualify
issues as to investment grade. Risk factors are larger and
subject to more variation. Nevertheless, timely payment is
expected.
Duff 4: Speculative investment characteristics. Liquidity is not
sufficient to insure against disruption in debt service.
Operating factors and market access may be subject to a high
degree of variation.
Duff 5: Issuer failed to meet scheduled principal and/or interest
payments.
Notes: Bonds which are unrated may expose the investor to risks with respect to
capacity to pay interest or repay principal which are similar to the
risks of lower-rated bonds. The Fund is dependent on the Investment
Adviser's judgment, analysis and experience in the evaluation of such
bonds.
Investors should note that the assignment of a rating to a bond by a
rating service may not reflect the effect of recent developments on the
issuer's ability to make interest and principal payments.
A-11
<PAGE>
A-12
<PAGE>
A-13
<PAGE>
APPENDIX B
BUSINESS PRINCIPLES OF GOLDMAN, SACHS & CO.
Goldman Sachs is noted for its Business Principles, which guide all of the
firm's activities and serve as the basis for its distinguished reputation among
investors worldwide.
OUR CLIENT'S INTERESTS ALWAYS COME FIRST. Our experience shows that if we
serve our clients well, our own success will follow.
OUR ASSETS ARE OUR PEOPLE, CAPITAL AND REPUTATION. If any of these assets
diminish, reputation is the most difficult to restore. We are dedicated to
complying fully with the letter and spirit of the laws, rules and ethical
principles that govern us. Our continued success depends upon unswerving
adherence to this standard.
WE TAKE GREAT PRIDE IN THE PROFESSIONAL QUALITY OF OUR WORK. We have an
uncompromising determination to achieve excellence in everything we undertake.
Though we may be involved in a wide variety and heavy volume of activity, we
would, if it came to a choice, rather be best than biggest.
WE STRESS CREATIVITY AND IMAGINATION IN EVERYTHING WE DO. While recognizing
that the old way may still be the best way, we constantly strive to find a
better solution to a client's problems. We pride ourselves on having pioneered
many of the practices and techniques that have become standard in the industry.
WE STRESS TEAMWORK IN EVERYTHING WE DO. While individual creativity is
always encouraged, we have found that team effort often produces the best
results. We have no room for those who put their personal interests ahead of
the interests of the firm and its clients.
INTEGRITY AND HONESTY ARE THE HEART OF OUR BUSINESS. We expect our people
to maintain high ethical standards in everything they do, both in their work for
the firm and in their personal lives.
B-1
<PAGE>
GOLDMAN, SACHS & CO.'S
INVESTMENT BANKING AND SECURITIES ACTIVITIES
Goldman, Sachs & Co. is a leading global investment banking and securities
firm with a number of distinguishing characteristics.
. Privately owned and ranked among Wall Street's best capitalized firms,
with partners' capital of approximately $5.3 billion as of November 29,
1996.
. With thirty-four offices around the world, Goldman Sachs employs over
9,000 professionals focused on opportunities in major markets.
. The number one underwriter of all international equity issuers from
(1993-1996).
. A research budget of $200 million for 1997.
. Premier lead manager of negotiated municipal bond offerings over the past
six years (1990-1996).
. The number one lead manager of U.S. common stock offerings for the past
eight years (1989-1996).*
. The number one lead manager for initial public offerings (IPO's)
worldwide (1989-1996).
* Source: Securities Data Corporation. Common stock ranking excludes REITs,
====================================
Investment Trusts and Rights.
B-2
<PAGE>
GOLDMAN, SACHS & CO.'S HISTORY OF EXCELLENCE
1865 End of Civil War
1869 Marcus Goldman opens Goldman Sachs
1890 Dow Jones Industrial Average first published
1896 Goldman Sachs joins New York Stock Exchange
1906 Goldman Sachs takes Sears Roebuck & Co. public (longest-standing client
relationship) Dow Jones Industrial Average tops 100
1925 Goldman Sachs finances Warner Brothers, producer of the first talking
film
1956 Goldman Sachs co-manages Ford's public offering, the largest to date
1970 London office opens
1972 Dow Jones Industrial Average breaks 1000
1986 Goldman Sachs takes Microsoft public
1990 Provides advisory services for the largest privatization in the region of
the sale of Telefonos de Mexico
1995 Dow Jones Industrial Average breaks 4000
1996 Goldman Sachs takes Deutsche Telecom public Dow Jones Industrial Average
breaks 6000.
1997 Dow Jones Industrial Average breaks 7000. Goldman Sachs increases assets
under management by 100% over 1996.
B-3
<PAGE>
PART B
STATEMENT OF ADDITIONAL INFORMATION
SERVICE SHARES
INCOME STRATEGY PORTFOLIO
GROWTH AND INCOME PORTFOLIO
GROWTH STRATEGY PORTFOLIO
AGGRESSIVE GROWTH STRATEGY PORTFOLIO
(EACH A PORTFOLIO OF GOLDMAN SACHS TRUST)
One New York Plaza
New York, New York 10004
This Statement of Additional Information (the "Additional Statement") is
not a prospectus. This Additional Statement should be read in conjunction with
the prospectus for the Service Shares of each of Goldman Sachs Income Strategy
Portfolio, Growth and Income Strategy Portfolio, Growth Strategy Portfolio and
Aggressive Growth Strategy Portfolio dated January 1, 1998, as amended
and/or supplemented from time to time (the "Prospectus"), which may be obtained
without charge from institutions ("Service Organizations") that hold Service
Shares for the benefit of their customers, or by calling Goldman, Sachs & Co. at
the telephone number, or writing to one of the addresses, listed below.
TABLE OF CONTENTS
Introduction B-4
Investment Objectives and Policies B-5
Investment Restrictions B-72
Management B-75
Portfolio Transactions and Brokerage B-89
Net Asset Value B-91
Performance Information B-94
Shares of the Trust B-99
<PAGE>
Taxation B-104
Other Information B-110
Service Plan B-112
Appendix A 1-A
Appendix B 1-B
The date of this Additional Statement is January, 1998.
<PAGE>
GOLDMAN SACHS
ASSET MANAGEMENT
Investment Adviser
One New York Plaza
New York, New York 10004
GOLDMAN, SACHS & CO.
Distributor
85 Broad Street
New York, New York 10004
GOLDMAN, SACHS & CO.
Transfer Agent
4900 Sears Tower
Chicago, Illinois 60606
Toll free (in U.S.).......800-621-2550
B-3
<PAGE>
INTRODUCTION
Goldman Sachs Trust (the "Trust") is an open-end management investment
company. The Trust is a successor to a Massachusetts business trust that was
merged with the Trust on April 30, 1997. The Trust assumed its current name on
March 22, 1991. The Trustees of the Trust have authority under the Declaration
of Trust to create and classify shares into separate series and to classify and
reclassify any series of shares into one or more classes without further action
by shareholders. Pursuant thereto, the Trustees have created the following
series, among others: Income Strategy Portfolio, Growth and Income Strategy
Portfolio, Growth Strategy Portfolio and Aggressive Growth Strategy Portfolio
and 42 other series of shares. Income Strategy Portfolio, Growth and Income
Strategy Portfolio, Growth Strategy Portfolio and Aggressive Growth Strategy
Portfolio are each sometimes referred to herein as a "Portfolio" and
collectively as the "Portfolios." Each Portfolio is each authorized to issue
five classes of shares: Institutional Shares, Service Shares, Class A Shares,
Class B Shares and Class C Shares. Additional series and classes may be added in
the future from time to time.
Each Portfolio is a separately managed, diversified mutual fund with its
own investment objective and policies. Each Portfolio has been constructed as a
"fund of funds," which means that it pursues its investment objective primarily
by allocating its investments among other investment portfolios of the Trust
(the "Underlying Funds").
Goldman Sachs Asset Management ("GSAM"), a separate operating division of
Goldman, Sachs & Co. ("Goldman Sachs"), serves as investment adviser to each
Portfolio. GSAM is sometimes referred to herein as the "Adviser." Goldman
Sachs serves as each Portfolio's distributor and transfer agent. Each
Portfolio's custodian is State Street Bank and Trust Company ("State Street").
B-4
<PAGE>
INVESTMENT OBJECTIVES AND POLICIES
Normally, each of the Portfolios will be predominantly invested in shares
of the Underlying Funds. The value of the Underlying Funds' investments, and
the net asset value of the shares of both the Underlying Funds and the
Portfolios will fluctuate with market, economic and, to the extent applicable,
foreign exchange conditions, so that an investment in any of the Portfolios may
be worth more or less when redeemed than when purchased. The following
description provides additional information regarding the Underlying Funds and
the types of investments that the Underlying Funds may make. As stated in the
Portfolios' Prospectus, the Portfolios may invest a portion of their assets in
high quality, short-term debt obligations. These obligations are also described
below in this section. Further information about the Underlying Funds and their
respective investment objectives and policies is included in their Prospectuses
and Additional Statements. There is no assurance that any Portfolio or
Underlying Fund will achieve its objective.
A. DESCRIPTION OF UNDERLYING FUNDS
ADJUSTABLE RATE GOVERNMENT FUND
Objective. This Fund seeks to provide investors with a high level of
---------
current income, consistent with low volatility of principal.
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be in a range approximately equal to that of a six-month to one-year
U.S. Treasury security. In addition, under normal interest rate conditions, the
Fund's maximum duration will not exceed two years. The approximate interest rate
sensitivity of the Fund is expected to be comparable to a nine-month note.
Investment Sector. This Fund invests, under normal circumstances, at least
-----------------
65% of its total assets in U.S. Government Securities that are adjustable rate
mortgage pass-through securities and other U.S. Government Securities. The
remainder of the Fund's assets (up to 35%) may be invested in other U.S.
Government Securities, including mortgage pass-through securities, other
securities representing an interest in or collateralized by mortgage loans
("Mortgage-Backed Securities") and repurchase agreements collateralized by U.S.
Government Securities. Substantially all of the Fund's assets will be invested
in U.S. Government Securities. 100% of the Fund's portfolio will be invested in
U.S. dollar-denominated securities.
Credit Quality. This Fund invests in U.S. Government Securities and
--------------
repurchase agreements collateralized by such securities.
B-5
<PAGE>
Other. This Fund may employ certain active management techniques to manage
-----
its duration and term structure and to seek to enhance returns. These techniques
include, but are not limited to, the use of financial futures contracts, option
contracts (including options on futures), mortgage and interest rate swaps and
interest rate floors, caps and collars. The Fund may also employ other
investment techniques to seek to enhance returns, such as lending portfolio
securities and entering into mortgage dollar rolls, repurchase agreements and
other investment practices.
SHORT DURATION GOVERNMENT FUND
Objective. This Fund seeks to provide a high level of current income.
---------
Secondarily, the Fund may, in seeking current income, also consider the
potential for capital appreciation.
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be equal to that of the Fund's benchmark, the two-year U.S. Treasury
security, plus or minus .5 years. In addition, under normal interest rate
conditions, the Fund's maximum duration will not exceed three years. The
approximate interest rate sensitivity of the Fund is expected to be comparable
to a two-year bond.
Investment Sector. This Fund invests, under normal market conditions, at
-----------------
least 65% of its total assets in U.S. Government Securities and in repurchase
agreements collateralized by such securities. Substantially all of the Fund's
assets will be invested in U.S. Government Securities. 100% of the Fund's
portfolio will be invested in U.S. dollar-denominated securities.
Credit Quality. This Fund invests in U.S. Government Securities and
--------------
repurchase agreements collateralized by such securities.
Other. This Fund may employ certain active management techniques to manage
-----
its duration and term structure and to seek to enhance returns. These techniques
include, but are not limited to, the use of financial futures contracts, option
contracts (including options on futures), mortgage and interest rate swaps and
interest rate floors, caps and collars. The Fund may also employ other
investment techniques to seek to enhance returns, such as lending portfolio
securities and entering into mortgage dollar rolls, repurchase agreements and
other investment practices.
GOVERNMENT INCOME FUND
Objective. This Fund seeks to provide investors with a high level of
---------
current income, consistent with safety of principal.
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be equal to that of the Fund's benchmark,
B-6
<PAGE>
the Lehman Brothers Mutual Fund Government/Mortgage Index, plus or minus one
year. In addition, under normal interest rate conditions, the Fund's maximum
duration will not exceed six years. The approximate interest rate sensitivity
of the Fund is expected to be comparable to a five-year bond.
Investment Sector. This Fund invests, under normal circumstances, at least
-----------------
65% of its total assets in U.S. Government Securities and in repurchase
agreements collateralized by such securities. The remainder of the Fund's
assets may be invested in non-government securities such as privately issued
Mortgage-Backed Securities, Asset-Backed Securities and corporate securities.
100% of the Fund's portfolio will be invested in U.S. dollar-denominated
securities.
Credit Quality. This Fund's non-U.S. Government Securities will be rated,
--------------
at the time of investment, AAA or Aaa by an NRSRO or, if unrated, will be
determined by the Fund's investment adviser to be of comparable quality.
Other. This Fund may employ certain active management techniques to manage
-----
its duration and term structure and to seek to enhance returns. These techniques
include, but are not limited to, the use of financial futures contracts, option
contracts (including options on futures), mortgage and interest rate swaps and
interest rate floors, caps and collars. The Fund may also employ other
investment techniques to seek to enhance returns, such as lending portfolio
securities and entering into mortgage dollar rolls, repurchase agreements and
other investment practices.
Core FIXED INCOME FUND
Objective. This Fund seeks to provide investors with a total return
---------
consisting of capital appreciation and income that exceeds the total return of
the Lehman Brothers Aggregate Bond Index (the "Index").
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be equal to that of the Fund's benchmark, the Lehman Brothers
Aggregate Bond Index, plus or minus one year. In addition, under normal interest
rate conditions, the Fund's maximum duration will not exceed six years. The
approximate interest rate sensitivity of the Fund is expected to be comparable
to a five-year bond.
Investment Sector. This Fund invests, under normal circumstances, at least
-----------------
65% of its total assets in fixed-income securities, including U.S. Government
Securities, corporate debt securities, Mortgage-Backed Securities, and Asset-
Backed Securities. The Fund may invest up to 25% of its total assets in
obligations of domestic and foreign issuers which are denominated in currencies
other than the U.S. dollar, 10% of which may be invested in issuers in countries
with emerging markets and
B-7
<PAGE>
economies. A number of investment strategies will be used to achieve the Fund's
investment objective, including market sector selection, determination of yield
curve exposure, and issuer selection. In addition, the Investment Adviser will
attempt to take advantage of pricing inefficiencies in the fixed-income markets.
The Index currently includes U.S. Government Securities and fixed-rate,
publicly issued, U.S. dollar-denominated fixed-income securities rated at least
BBB or Baa or in their equivalent ratings category by S&P or Moody's. The
securities currently included in the Index have at least one year remaining to
maturity; have an outstanding principal amount of at least $100 million; and are
issued by the following types of issuers, with each category receiving a
different weighting in the Index: U.S. Treasury; agencies, authorities or
instrumentalities of the U.S. government; issuers of Mortgage-Backed Securities;
utilities; industrial issuers; financial institutions; foreign issuers; and
issuers of Asset-Backed Securities. The Index is a trademark of Lehman
Brothers. Inclusion of a security in the Index does not imply an opinion by
Lehman Brothers as to its attractiveness or appropriateness for investment.
Although Lehman Brothers obtains factual information used in connection with the
Index from sources which it considers reliable, Lehman Brothers claims no
responsibility for the accuracy, completeness or timeliness of such information
and has no liability to any person for any loss arising from results obtained
from the use of the Index data.
Credit Quality. All U.S. dollar-denominated fixed-income securities
--------------
purchased by the Fund will be rated, at the time of investment, at least BBB or
Baa by an NRSRO. The non-U.S. dollar-denominated fixed-income securities in
which the Fund may invest will be rated, at the time of investment, at least AA
or Aa by an NRSRO. Unrated securities will be determined to be of comparable
quality by the Fund's investment adviser. Fixed-income securities rated BBB or
Baa are considered medium-grade obligations with speculative characteristics,
and adverse economic conditions or changing circumstances may weaken their
issuers' capability to pay interest and repay principal.
Other. This Fund may employ certain active management techniques to manage
-----
its duration and term structure, to seek to hedge its exposure to foreign
currencies and to seek to enhance returns. These techniques include, but are not
limited to, the use of financial futures contracts, option contracts (including
options on futures), forward foreign currency exchange contracts, currency
options and futures, currency, mortgage and interest rate swaps and interest
rate floors, caps and collars. Currency management techniques involve risks
different from those associated with investing solely in U.S. dollar-denominated
fixed-income securities of U.S. issuers. It is expected that the Fund will use
certain currency techniques to seek to hedge against currency exchange rate
fluctuations or to seek to increase total
B-8
<PAGE>
return. The Fund may invest in custodial receipts, Municipal Securities and
convertible securities. The Fund may also employ other investment techniques to
seek to enhance returns, such as lending portfolio securities and entering into
mortgage dollar rolls, repurchase agreements and other investment practices.
GLOBAL INCOME FUND
Objective. This Fund seeks to provide investors with a high total return,
---------
emphasizing current income, and, to a lesser extent, providing opportunities for
capital appreciation.
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be equal to that of the Fund's benchmark, the J.P. Morgan Global
Government Bond Index (hedged), plus or minus 2.5 years. In addition, under
normal interest rate conditions, the Fund's maximum duration will not exceed 7.5
years. The approximate interest rate sensitivity of the Fund is expected to be
comparable to a six-year bond.
Investment Sector. The Fund invests primarily in a portfolio of investment
-----------------
grade fixed-income securities of U.S. and foreign issuers and enters into
transactions in foreign currencies. Under normal market conditions, the Fund
will (i) have at least 30% of its total assets, after considering the effect of
currency positions, denominated in U.S. dollars and (ii) invest in securities of
issuers in at least three countries. The Fund may also invest up to 10% of its
total assets in issuers in countries with emerging markets and economies. The
Fund seeks to meet its investment objective by pursuing investment opportunities
in foreign and domestic fixed-income securities markets and by engaging in
currency transactions to seek to enhance returns and to seek to hedge its
portfolio against currency exchange rate fluctuations.
The fixed-income securities in which the Fund may invest include: (i) U.S.
Government Securities and custodial receipts therefor; (ii) securities issued or
guaranteed by a foreign government or any of its political subdivisions,
authorities, agencies, instrumentalities or by supranational entities (i.e.,
international organizations designated or supported by governmental entities to
promote economic reconstruction or development, such as the World Bank); (iii)
corporate debt securities; (iv) certificates of deposit and bankers' acceptances
issued or guaranteed by, or time deposits maintained at, U.S. or foreign banks
(and their branches wherever located) having total assets of more than $1
billion; (v) commercial paper; and (vi) Mortgage-Backed and Asset-Backed
Securities.
Credit Quality. All securities purchased by the Fund will be rated, at the
--------------
time of investment, at least BBB or Baa by an NRSRO.
B-9
<PAGE>
The Fund will invest at least 50% of its total assets in securities rated, at
the time of investment, or Aaa by an NRSRO. Unrated securities will be
determined to be of comparable quality by the Fund's investment adviser. Fixed
income securities rated BBB or Baa are considered medium-grade obligations with
speculative characteristics and adverse economic conditions or changing
circumstances may weaken their issuers' capacity to pay interest and repay
principal.
Other. This Fund may employ certain active management techniques to manage
-----
the duration and term structure of the Fund, to seek to hedge its exposure to
foreign currencies and to seek to enhance returns. These techniques include,
but are not limited to, the use of financial futures contracts, option contracts
(including options on futures), forward foreign currency exchange contracts,
currency options and futures, currency, mortgage and interest rate swaps and
interest rate floors, caps and collars. Currency and interest rate management
techniques involve risks different from those associated with investing solely
in U.S. dollar-denominated fixed-income securities of U.S. issuers. It is
expected that the Fund will use certain currency techniques to seek to hedge
against currency exchange rate fluctuations or to seek to increase total return.
While the Fund will have both long and short currency positions, its net long
and short foreign currency exposure will not exceed the value of the Fund's
total assets. To the extent that the Fund is fully invested in foreign
securities while also maintaining currency positions, it may be exposed to
greater combined risk. The Fund's net currency positions may expose it to risks
independent of its securities positions. The Fund may also employ other
investment techniques to seek to enhance returns, such as lending portfolio
securities and entering into mortgage dollar rolls, repurchase agreements and
other investment practices.
The Fund may invest more than 25% of its total assets in the securities of
corporate and governmental issuers located in each of Canada, Germany, Japan,
and the United Kingdom as well as in the securities of U.S. issuers.
Concentration of the Fund's investments in such issuers will subject the Fund,
to a greater extent than if investment was more limited, to the risks of adverse
securities markets, exchange rates and social, political or economic events
which may occur in those countries. Not more than 25% of the Fund's total assets
will be invested in securities of issuers in any other single foreign country.
HIGH YIELD FUND
Objective. This Fund seeks to provide investors with a high level of
---------
current income. Secondarily, the Fund may, in seeking current income, also
consider the potential for capital appreciation.
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be equal to that of the Fund's benchmark, the Lehman Brothers High
Yield Bond Index, plus or minus 2.5 years. In addition, under normal interest
rate conditions, the Fund's maximum duration will not exceed 7.5 years. The
approximate
B-10
<PAGE>
interest rate sensitivity of the Fund is expected to be comparable to a 6-year
bond.
Investment Sector. This Fund invests, under normal circumstances, at least
-----------------
65% of its total assets in high yield, fixed-income securities rated, at the
time of investment, below investment grade. Non-investment grade securities are
securities rated BB, Ba or below by or, if unrated, determined by the investment
adviser to be of comparable quality. The Fund may invest in all types of fixed-
income securities, including senior and subordinated corporate debt obligations
(such as bonds, debentures, notes and commercial paper), convertible and non-
convertible corporate debt obligations, loan participations and preferred stock.
The Fund may invest up to 25% of its total assets in obligations of domestic and
foreign issuers (including securities of issuers located in countries with
emerging markets and economies) which are denominated in currencies other than
the U.S. dollar. Under normal market conditions, the Fund may invest up to 35%
of its total assets in investment grade fixed-income securities, including U.S.
Government Securities, Asset-Backed and Mortgage-Backed Securities and corporate
securities. The Fund may also invest in common stocks, warrants, rights and
other equity securities, but will generally hold such equity investments only
when debt or preferred stock of the issuer of such equity securities is held by
the Fund. A number of investment strategies are used to seek to achieve the
Fund's investment objective, including market sector selection, determination of
yield curve exposure, and issuer selection. In addition, the Fund's investment
adviser will attempt to take advantage of pricing inefficiencies in the fixed-
income markets.
Credit Quality. This Fund invests primarily in high yield, fixed income
--------------
securities rated below investment grade, including securities of issuers in
default. Non-investment grade securities (commonly known as "junk bonds") tend
to offer higher yields than higher rated securities with similar maturities.
Non-investment grade securities are, however, considered speculative and
generally involve greater price volatility and greater risk of loss of principal
and interest than higher rated securities. See "Description of Securities." A
description of the corporate bond and preferred stock ratings is contained in
Appendix A to this Additional Statement.
Other. This Fund may employ certain active management techniques to manage
-----
its duration and term structure, to seek to hedge its exposure to foreign
securities and to seek to enhance returns. These techniques include, but are not
limited to, the use of financial futures contracts, option contracts (including
options on futures), forward foreign currency exchange contracts, currency
options and futures, currency, mortgage and interest rate swaps, and interest
rate floors, caps and collars. Currency and
B-11
<PAGE>
interest rate management techniques involve risks different from those
associated with investing solely in U.S. dollar-denominated fixed-income
securities of U.S. issuers. It is expected that the Fund will use certain
currency techniques to seek to hedge against currency exchange rate fluctuations
or to seek to increase total return. The Fund may also employ other investment
techniques to seek to enhance returns, such as lending portfolio securities and
entering into repurchase agreements and other investment practices.
GROWTH AND INCOME FUND
Objectives. This Fund seeks to provide investors with long-term growth of
----------
capital and growth of income.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 65% of its total assets in equity securities that its investment
adviser considers to have favorable prospects for capital appreciation and/or
dividend-paying ability.
Other. This Fund may invest up to 35% of its total assets in fixed income
-----
securities that, in the opinion of its investment adviser, offer the potential
to further the Fund's investment objectives. In addition, although the Fund
will invest primarily in publicly traded U.S. securities, it may invest up to
25% of its total assets in foreign securities, including securities of issuers
in Emerging Countries and securities quoted in foreign currencies.
CORE U.S. EQUITY FUND (FORMERLY, THE "SELECT EQUITY FUND")
Objective. This Fund seeks to provide investors with long-term growth of
---------
capital and dividend income. The Fund seeks to achieve its objective through a
broadly diversified portfolio of large cap and blue chip equity securities
representing all major sectors of the U.S. economy.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 90% of its total assets in equity securities of U.S. issuers. The Fund
may invest in equity securities of foreign issuers that are traded in the United
States and that comply with U.S. accounting standards. The Fund's investments
are selected using both a variety of quantitative techniques and fundamental
research in seeking to maximize the Fund's expected return, while maintaining
risk, style, capitalization and industry characteristics similar to the S&P 500
Index. The Fund seeks a broad representation in most major sectors of the U.S.
economy and a portfolio comprised of companies with average long-term earnings
growth expectations and dividend yields. The Fund may invest only in fixed
income securities that are considered cash equivalents.
B-12
<PAGE>
CORE LARGE CAP GROWTH FUND
Objective. This Fund seeks to provide investors with long-term growth of
---------
capital. The Fund seeks to achieve its objective through a broadly diversified
portfolio of equity securities of large cap U.S. issuers that are expected to
have better prospects for earnings growth than the growth rate of the general
domestic economy. Dividend income is a secondary consideration.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 90% of its total assets in equity securities of U.S. issuers, including
foreign issuers that are traded in the United States and that comply with U.S.
accounting standards. The Fund's investment adviser emphasizes a company's
growth prospects in analyzing equity securities to be purchased by the Fund.
The Fund's investments are selected using both a variety of quantitative
techniques and fundamental research in seeking to maximize the Fund's expected
return, while maintaining risk, style, capitalization and industry
characteristics similar to the Russell 1000 Growth Index. The Fund seeks a
portfolio comprised of companies with above average capitalizations and earnings
growth expectations and below average dividend yields. The Fund may invest only
in fixed income securities that are considered cash equivalents.
CORE SMALL CAP EQUITY FUND
Objective. This Fund seeks to provide investors with long-term growth of
---------
capital. The Fund seeks to achieve its objective through a broadly diversified
portfolio of equity securities of U.S. issuers which are included in the Russell
2000 Index at the time of investment.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 90% of its total assets in equity securities of U.S. issuers, including
foreign issuers that are traded in the United States and that comply with U.S.
accounting standards. The Fund's investments are selected using both a variety
of quantitative techniques and fundamental research in seeking to maximize the
Fund's expected return, while maintaining risk, style, capitalization and
industry characteristics similar to the Russell 2000 Index. The Fund seeks a
portfolio comprised of companies with small market capitalizations, strong
expected earnings growth and momentum, and better valuation and risk
characteristics than the Russell 2000 Index. The Fund may invest only in fixed
income securities that are considered cash equivalents.
The Fund's investment adviser believes that companies in which the Fund may
invest offer greater opportunity for growth of capital than larger, more mature,
better known companies. Investments in small market capitalization issuers
involve special risks. If the
B-13
<PAGE>
issuer of a portfolio security held by the Fund is no longer included in the
Russell 2000 Index, the Fund may, but is not required to, sell the security.
CORE INTERNATIONAL EQUITY FUND
Objective. This Fund seeks to provide investors with long-term growth of
---------
capital. The Fund seeks to achieve its objective through a broadly diversified
portfolio of large cap equity securities of companies that are organized outside
the United States or whose securities are primarily traded outside the United
States.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 90% of its total assets in equity securities of companies that are
organized outside the United States or whose securities are principally traded
outside the United States. The Fund seeks broad representation of large cap
issuers across major countries and sectors of the international economy. The
Fund's investments are selected using both a variety of quantitative techniques
and fundamental research in seeking to maximize the Fund's expected return,
while maintaining a risk profile similar to EAFE Index. The Fund's portfolio is
designed to have risk, style, capitalization and industry characteristics
similar to the EAFE Index. In addition, the Fund seeks a portfolio comprised of
companies with attractive valuations and stronger momentum characteristics than
the EAFE Index.
The Fund may allocate its assets among countries as determined by its
investment adviser from time to time, provided the Fund's assets are invested in
at least three foreign countries. The Fund may invest in securities of issuers
in Emerging Countries which involve certain risks. The Fund may invest only in
fixed income securities that are considered to be cash equivalents.
Other. The Fund may employ certain currency techniques to seek to hedge
-----
against currency exchange rate fluctuations or to seek to increase total return.
When used to seek to enhance return, these management techniques are considered
speculative. Such currency management techniques involve risks different from
those associated with investing solely in securities of U.S. issuers quoted in
U.S. dollars. To the extent that the Fund is fully invested in foreign
securities while also maintaining currency positions, it may be exposed to
greater combined risk. The Fund's net currency positions may expose it to risks
independent of its securities positions. See "Description of Securities,"
"Investment Techniques" and "Risk Factors."
CAPITAL GROWTH FUND
Objective. This Fund seeks to provide investors with long-term growth of
---------
capital.
B-14
<PAGE>
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 90% of its total assets in equity securities. The Fund seeks to
achieve its investment objective by investing in a diversified portfolio of
equity securities that are considered by its investment adviser to have long-
term capital appreciation potential.
Other. Although this Fund will invest primarily in publicly traded U.S.
-----
securities, it may invest up to 10% of its total assets in foreign securities,
including securities of issuers in Emerging Countries and securities quoted in
foreign currencies.
MID CAP EQUITY FUND
Objective. This Fund seeks to provide investors with long-term capital
---------
appreciation.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
substantially all of its assets in equity securities and at least 65% of its
total assets in equity securities of Mid Cap Companies with public stock market
capitalizations (based upon shares available for trading on an unrestricted
basis) of between $500 million and $10 billion at the time of investment. If
the company's capitalization of an issuer increases above $10 billion after
purchase of such issuer's securities, the Fund may, but is not required to, sell
the securities. Dividend income, if any, is an incidental consideration.
Other. This Fund may invest up to 35% of its total assets in fixed income
-----
securities. In addition, although the Fund will invest primarily in publicly
traded U.S. securities, it may invest up to 25% of its total assets in foreign
securities, including securities of issuers in Emerging Countries and securities
quoted in foreign currencies.
INTERNATIONAL EQUITY FUND
Objective. This Fund seeks to provide investors with long-term capital
---------
appreciation.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
substantially all, and at least 65%, of its total assets in equity securities of
companies that are organized outside the United States or whose securities are
principally traded outside the United States. The Fund may allocate its assets
among countries as determined by its investment adviser from time to time
provided that the Fund's assets are invested in at least three foreign
countries. The Fund expects to invest a substantial portion of its assets in the
securities of issuers located in the developed countries of Western Europe and
in Japan. However, the Fund may also invest in the securities of issuers located
in Australia, Canada, New Zealand and the Emerging Countries in which
B-15
<PAGE>
the Emerging Markets Equity Fund may invest. Many of the countries in which the
Fund may invest have emerging markets or economies which involve certain risks
that are not present in investments in more developed countries.
Other. This Fund may employ certain currency techniques to seek to hedge
-----
against currency exchange rate fluctuations or to seek to increase total return.
When used to seek to enhance return, these management techniques are considered
speculative. Such currency management techniques involve risks different from
those associated with investing solely in securities of U.S. issuers quoted in
U.S. dollars. To the extent that the Fund is fully invested in foreign
securities while also maintaining currency positions, it may be exposed to
greater combined risk. The Fund's net currency positions may expose it to risks
independent of its securities positions. Up to 35% of the Fund's total assets
may be invested in fixed income securities.
SMALL CAP VALUE FUND (FORMERLY, THE "SMALL CAP EQUITY FUND")
Objective. This Fund seeks to provide investors with long-term capital
---------
growth.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 65% of its total assets in equity securities of companies with public
stock market capitalizations of $1 billion or less at the time of investment.
However, the Fund currently emphasizes investments in companies with public
stock market capitalizations of $500 million or less at the time of investment.
Under normal circumstances, the Fund's investment horizon for ownership of
stocks will be two to three years. Dividend income, if any, is an incidental
consideration.
Small Capitalization Companies. This Fund invests in companies which its
------------------------------
investment adviser believes are well managed niche businesses that have the
potential to achieve high or improving returns on capital and/or above average
sustainable growth. The Fund may invest in securities of small market
capitalization companies which may have experienced financial difficulties.
Investments may also be made in companies that are in the early stages of their
life and that the Fund's investment adviser believes have significant growth
potential. The investment adviser believes that the companies in which the Fund
may invest offer greater opportunity for growth of capital than larger, more
mature, better known companies. However, investments in such small market
capitalization companies involve special risks.
Other. This Fund may invest in the aggregate up to 35% of its total assets
-----
in the equity securities of companies with public stock market capitalizations
in excess of $1 billion and in fixed income securities. In addition, although
the Fund will invest primarily in publicly traded U.S. securities, it may invest
up to
B-16
<PAGE>
25% of its total assets in foreign securities, including securities of issuers
in Emerging Countries and securities quoted in foreign currencies.
EMERGING MARKETS EQUITY FUND
Objective. This Fund seeks to provide investors with long-term capital
---------
appreciation.
Primary Investment Focus. This Fund invests, under normal market
------------------------
circumstances, substantially all, and at least 65%, of its total assets in
equity securities of Emerging Country issuers. For purposes of the Fund's
investment policies, Emerging Countries are countries with economies or
securities markets that are considered by the Fund's investment adviser not to
be fully developed. The investment adviser may consider classifications by the
World Bank, the International Finance Corporation or the United Nations and its
agencies in determining whether a country is emerging or developed. Currently,
Emerging Countries include among others, most Latin American, African, Asian and
Eastern European nations. The Fund's investment adviser currently intends that
the Fund's investment focus will be in the following Emerging Countries:
Argentina, Botswana, Brazil, Chile, China, Colombia, the Czech Republic, Egypt,
Greece, Hong Kong, Hungary, India, Indonesia, Israel, Jordan, Kenya, Malaysia,
Mexico, Morocco, Pakistan, Peru, the Philippines, Poland, Portugal, Russia,
Singapore, South Africa, South Korea, Sri Lanka, Taiwan, Thailand, Turkey,
Venezuela and Zimbabwe.
An Emerging Country issuer is any entity that satisfies at least one of the
following criteria: (i) it derives 50% or more of its total revenue from goods
produced, sales made or services performed in one or more Emerging Countries,
(ii) it is organized under the laws of, or has a principal office in, an
Emerging Country, (iii) it maintains 50% or more of its assets in one or more of
the Emerging Countries or (iv) the principal securities trading market for a
class of its securities is in an Emerging Country.
Investments in Emerging Countries involve certain risks which are not
present in investments in more developed countries. The Fund may purchase
privately placed equity securities, equity securities of companies that are in
the process of being privatized by foreign governments, securities of issuers
that have not paid dividends on a timely basis, equity securities of issuers
that have experienced difficulties, and securities of companies without
performance records.
Other. This Fund may employ certain currency management techniques to seek
-----
to hedge against currency exchange rate fluctuations or to seek to increase
total return. When used to seek to enhance return, these management techniques
are considered
B-17
<PAGE>
speculative. Such currency management techniques involve risks different from
those associated with investing solely in securities of U.S. issuers quoted in
U.S. dollars. To the extent that the Fund is fully invested in foreign
securities while also maintaining currency positions, it may be exposed to
greater combined risk. The Fund's net currency positions may expose it to risks
independent of its securities positions.
Under normal circumstances, this Fund maintains investments in at least six
Emerging Countries and will not invest more than 35% of its total assets in
securities of issuers in any one Emerging Country. Allocation of the Fund's
investments will depend upon the relative attractiveness of the Emerging Country
markets and particular issuers. In addition, macro-economic factors and the
portfolio manager's and Goldman Sachs economists' views of the relative
attractiveness of Emerging Countries and currencies are considered in allocating
the Fund's assets among Emerging Countries. Concentration of the Fund's assets
in one or a few Emerging Countries and currencies will subject the Fund to
greater risks than if the Fund's assets were not geographically concentrated.
The Fund may invest in the aggregate up to 35% of its total assets in (i) fixed
income securities of private and governmental Emerging Country issuers, (ii)
equity and fixed income securities of issuers in developed countries and (iii)
temporary investments.
ASIA GROWTH FUND
Objective. This Fund seeks to provide investors with long-term capital
---------
appreciation.
Primary Investment Focus. This Fund invests, under normal market
------------------------
circumstances, substantially all, and at least 65%, of its total assets in
equity securities of companies that satisfy at least one of the following
criteria: (i) their securities are traded principally on stock exchanges in one
or more of the Asian countries; (ii) they derive 50% or more of their total
revenue from goods produced, sales made or services performed in one or more of
the Asian countries; (iii) they maintain 50% or more of their assets in one or
more of the Asian countries; or (iv) they are organized under the laws of one of
the Asian countries. The Fund seeks to achieve its objective by investing
primarily in equity securities of Asian companies which are considered by the
Fund's investment adviser to have long-term capital appreciation potential.
Many of the countries in which the Fund may invest have emerging markets or
economies which involve certain risks which are not present in investments in
more developed countries. The Fund may purchase equity securities of issuers
that have not paid dividends on a timely basis, securities of companies that
have experienced difficulties, and securities of companies without performance
records.
B-18
<PAGE>
Other. This Fund may employ certain currency management techniques to seek
-----
to hedge against currency exchange rate fluctuations or to seek to increase
total return. When used to seek to enhance return, these management techniques
are considered speculative. Such currency management techniques involve risks
different from those associated with investing solely in securities of U.S.
issuers quoted in U.S. dollars. To the extent that the Fund is fully invested
in foreign securities while also maintaining currency positions, it may be
exposed to greater combined risk. The Fund's net currency positions may expose
it to risks independent of its securities positions.
This Fund may allocate its assets among the Asian countries as determined
from time to time by its investment adviser. For purposes of the Fund's
investment policies, Asian countries are China, Hong Kong, India, Indonesia,
Malaysia, Pakistan, the Philippines, Singapore, South Korea, Sri Lanka, Taiwan
and Thailand as well as any other country in Asia (other than Japan) to the
extent that foreign investors are permitted by applicable law to make such
investments. Allocation of the Fund's investments will depend upon the relative
attractiveness of the Asian markets and particular issuers. Concentration of
the Fund's assets in one or a few of the Asian countries and Asian currencies
will subject the Fund to greater risks than if the Fund's assets were not
geographically concentrated. The Fund may invest in the aggregate up to 35% of
its total assets in equity securities of issuers in other countries, including
Japan, and in fixed income securities.
REAL ESTATE SECURITIES FUND
Objective. This Fund seeks to provide investors with total return
---------
comprised of long-term growth of capital and dividend income.
Primary Investment Focus. This Fund will invest, under normal
------------------------
circumstances, substantially all, and at least 80% of its total assets in
issuers that are primarily engaged in or related to the real estate industry.
The Fund seeks to achieve its investment objective by investing in a diversified
portfolio of equity securities of REITs and other real estate industry
companies. A "real estate industry company" is a company that derives at least
50% of its gross revenues or net profits from the ownership, development,
construction, financing, management or sale of commercial, industrial or
residential real estate or interests therein.
Other. Under normal circumstances, this Fund may invest up to 20% of its
-----
total assets in fixed income securities that, in the opinion of its investment
adviser, offer the potential to further the Fund's investment objectives. In
addition, although the Fund will invest primarily in publicly traded U.S.
securities, it may invest up to 5% of its net assets in foreign securities.
FINANCIAL SQUARE PRIME OBLIGATIONS FUND.
Objective. This Fund seeks to maximize current income to the extent
---------
consistent with the preservation of capital and the maintenance of liquidity by
investing exclusively in high quality money market instruments.
Primary Investment Focus. This Fund invests in securities of the U.S.
------------------------
Government, its agencies, authorities and instrumentalities, obligations of U.S.
banks, commercial paper, and other short-term obligations of U.S. companies,
states, municipalities and other entities and repurchase agreements. Securities
purchased by the Fund will be determined by its investment adviser to present
minimal credit risks, and will have remaining maturities (as determined in
accordance with regulatory requirements) of 13 months or less at the time of
purchase. The dollar-weighted average maturity of the Fund will not exceed 90
days.
Other. The investments of this Fund are limited by regulations applicable
-----
to money market funds as described in its Prospectus, and do not include many of
the types of investments discussed below that are permitted for the other
Underlying Funds. Although this Fund attempts to maintain a stable net asset
value of $1.00 per
B-19
<PAGE>
share, there is no assurance that it will be able to do so on a continuous
basis. Like investments in the other Underlying Funds, an investment in this
Fund is neither insured nor guaranteed by the U.S. Government or any
governmental authority.
B. DESCRIPTION OF INVESTMENT SECURITIES AND PRACTICES
CORPORATE DEBT OBLIGATIONS
Each Underlying Fund (other than the Adjustable Rate Government and Short
Duration Government Funds) may, under normal market conditions, invest in
corporate debt obligations, including obligations of industrial, utility and
financial issuers. CORE U.S. Equity, CORE Large Cap Growth, CORE Small Cap
Equity and CORE International Equity Funds may only invest in debt securities
that are cash equivalents. Corporate debt obligations are subject to the risk of
an issuer's inability to meet principal and interest payments on the obligations
and may also be subject to price volatility due to such factors as market
interest rates, market perception of the creditworthiness of the issuer and
general market liquidity.
Fixed income securities rated BBB or Baa are considered medium-grade
obligations with speculative characteristics, and adverse economic conditions or
changing circumstances may weaken their issuers' capacity to pay interest and
repay principal. Medium to lower rated and comparable non-rated securities tend
to offer higher yields than higher rated securities with the same maturities
because the historical financial condition of the issuers of such securities may
not have been as strong as that of other issuers. Since medium to lower rated
securities generally involve greater risks of loss of income and principal than
higher rated securities, investors should consider carefully the relative risks
associated with investment in securities which carry medium to lower ratings and
in comparable unrated securities. In addition to the risk of default, there are
the related costs of recovery on defaulted issues. The Funds' investment
advisers will attempt to reduce these risks through portfolio diversification
and by analysis of each issuer and its ability to make timely payments of income
and principal, as well as broad economic trends and corporate developments.
High Yield Securities. Bonds rated BB or below by Standard & Poor's
---------------------
Ratings Group (Standard & Poor's) or Ba or below by Moody's Investors Service,
Inc. ("Moody's") (or comparable rated and unrated securities) are commonly
referred to as "junk bonds" and are considered speculative; the ability of their
issuers to make principal and interest payments may be questionable. In some
cases, such bonds may be highly speculative, have poor prospects for reaching
investment grade standing and be in default. As a result, investment in such
bonds will entail greater risks than those associated with investment grade
bonds (i.e., bonds rated
B-20
<PAGE>
AAA, AA, A or BBB by Standard and Poor's or Aaa, Aa, A or Baa by Moody's).
Analysis of the creditworthiness of issuers of high yield securities may be more
complex than for issuers of higher quality debt securities, and the ability of
an Underlying Fund to achieve its investment objective may, to the extent of its
investments in high yield securities, be more dependent upon such
creditworthiness analysis than would be the case if the Fund were investing in
higher quality securities. See Appendix A to this Additional Statement for a
description of the corporate bond and preferred stock ratings by Standard &
Poor's, Moody's, Fitch Investors Service Corp. and Duff & Phelps.
The amount of high yield, fixed income securities proliferated in the 1980s
and early 1990s as a result of increased merger and acquisition and leveraged
buyout activity. Such securities are also issued by less-established
corporations desiring to expand. Risks associated with acquiring the securities
of such issuers generally are greater than is the case with higher rated
securities because such issuers are often less creditworthy companies or are
highly leveraged and generally less able than more established or less leveraged
entities to make scheduled payments of principal and interest.
The market values of high yield, fixed income securities tends to reflect
those individual corporate developments to a greater extent than do those of
higher rated securities, which react primarily to fluctuations in the general
level of interest rates. Issuers of such high yield securities may not be able
to make use of more traditional methods of financing and their ability to
service debt obligations may be more adversely affected than issuers of higher
rated securities by economic downturns, specific corporate developments or the
issuers' inability to meet specific projected business forecasts. These non-
investment grade securities also tend to be more sensitive to economic
conditions than higher-rated securities. Negative publicity about the junk bond
market and investor perceptions regarding lower-rated securities, whether or not
based on fundamental analysis, may depress the prices for such securities.
Since investors generally perceive that there are greater risks associated
with non-investment grade securities of the type in which the Underlying Funds
may invest, the yields and prices of such securities may tend to fluctuate more
than those for higher-rated securities. In the lower quality segments of the
fixed-income securities market, changes in perceptions of issuers'
creditworthiness tend to occur more frequently and in a more pronounced manner
than do changes in higher quality segments of the
fixed-income securities market, resulting in greater yield and price volatility.
Another factor which causes fluctuations in the prices of fixed-income
securities is the supply and demand for similarly
B-21
<PAGE>
rated securities. In addition, the prices of fixed-income securities fluctuate
in response to the general level of interest rates. Fluctuations in the prices
of portfolio securities subsequent to their acquisition will not affect cash
income from such securities but will be reflected in an Underlying Fund's net
asset value.
The risk of loss from default for the holders of high yield, fixed-income
securities is significantly greater than is the case for holders of other debt
securities because such high yield, fixed-income securities are generally
unsecured and are often subordinated to the rights of other creditors of the
issuers of such securities. Investment by an Underlying Fund in already
defaulted securities poses an additional risk of loss should nonpayment of
principal and interest continue in respect of such securities. Even if such
securities are held to maturity, recovery by a Fund of its initial investment
and any anticipated income or appreciation is uncertain. An Underlying Fund may
be required to liquidate other portfolio securities to satisfy the Fund's annual
distribution obligations in respect of accrued interest income on securities
which are subsequently written off, even though the Fund has not received any
cash payments of such interest.
The secondary market for high yield, fixed-income securities is
concentrated in relatively few markets and is dominated by institutional
investors, including mutual funds, insurance companies and other financial
institutions. Accordingly, the secondary market for such securities is not as
liquid as and is more volatile than the secondary market for higher-rated
securities. In addition, the trading volume for high-yield, fixed-income
securities is generally lower than that of higher rated securities and the
secondary market for high yield, fixed-income securities could contract under
adverse market or economic conditions independent of any specific adverse
changes in the condition of a particular issuer. These factors may have an
adverse effect on an Underlying Fund's ability to dispose of particular
portfolio investments. Prices realized upon the sale of such lower rated or
unrated securities, under these circumstances, may be less than the prices used
in calculating a Fund's net asset value. A less liquid secondary market also
may make it more difficult for a Fund to obtain precise valuations of the high
yield securities in its portfolio.
Certain proposed and recently enacted federal laws could adversely affect
the secondary market for high yield securities and the financial condition of
issuers of these securities. The form of proposed legislation and the
probability of such legislation being enacted is uncertain.
Non-investment grade or high-yield, fixed-income securities also present
risks based on payment expectations. High yield, fixed-income securities
frequently contain "call" or buy-back
B-22
<PAGE>
features which permit the issuer to call or repurchase the security from its
holder. If an issuer exercises such a "call option" and redeems the security, an
Underlying Fund may have to replace such security with a lower-yielding
security, resulting in a decreased return for investors. In addition, if an
Underlying Fund experiences unexpected net redemptions of its shares, it may be
forced to sell its higher-rated securities, resulting in a decline in the
overall credit quality of the Fund's portfolio and increasing the exposure of
the Fund to the risks of high yield securities. An Underlying Fund may also
incur additional expenses to the extent that it is required to seek recovery
upon a default in the payment of principal or interest on a portfolio security.
Credit ratings issued by credit rating agencies are designed to evaluate
the safety of principal and interest payments of rated securities. They do not,
however, evaluate the market value risk of non-investment grade securities and,
therefore, may not fully reflect the true risks of an investment. In addition,
credit rating agencies may or may not make timely changes in a rating to reflect
changes in the economy or in the conditions of the issuer that affect the market
value of the security. Consequently, credit ratings are used only as a
preliminary indicator of investment quality. Investments in non-investment
grade and comparable unrated obligations will be more dependent on the credit
analysis of an Underlying Fund's investment adviser than would be the case with
investments in investment-grade debt obligations. A Fund's investment adviser
employs its own credit research and analysis, which includes a study of existing
debt, capital structure, ability to service debt and to pay dividends, the
issuer's sensitivity to economic conditions, its operating history and the
current trend of earnings. The investment adviser monitors the investments in a
Fund's portfolio and evaluates whether to dispose of or to retain non-investment
grade and comparable unrated securities whose credit ratings or credit quality
may have changed.
Loan Participations. The High Yield Fund may invest in loan
-------------------
participations. Such loans must be to issuers in whose obligations the High
Yield Fund may invest. A loan participation is an interest in a loan to a U.S.
or foreign company or other borrower which is administered and sold by a
financial intermediary. In a typical corporate loan syndication, a number of
lenders, usually banks (co-lenders), lend a corporate borrower a specified sum
pursuant to the terms and conditions of a loan agreement. One of the co-lenders
usually agrees to act as the agent bank with respect to the loan.
Participation interests acquired by the High Yield Fund may take the form
of a direct or co-lending relationship with the corporate borrower, an
assignment of an interest in the loan by a co-lender or another participant, or
a participation in the seller's share of the loan. When the High Yield Fund
acts as co-lender in connection with a participation interest or when the
B-23
<PAGE>
High Yield Fund acquires certain participation interests, the High Yield Fund
will have direct recourse against the borrower if the borrower fails to pay
scheduled principal and interest. In cases where the High Yield Fund lacks
direct recourse, it will look to the agent bank to enforce appropriate credit
remedies against the borrower. In these cases, the High Yield Fund may be
subject to delays, expenses and risks that are greater than those that would
have been involved if the Fund had purchased a direct obligation (such as
commercial paper) of such borrower. For example, in the event of the bankruptcy
or insolvency of the corporate borrower, a loan participation may be subject to
certain defenses by the borrower as a result of improper conduct by the agent
bank. Moreover, under the terms of the loan participation, the High Yield Fund
may be regarded as a creditor of the agent bank (rather than of the underlying
corporate borrower), so that the High Yield Fund may also be subject to the risk
that the agent bank may become insolvent. The secondary market, if any, for
these loan participations is limited and any loan participations purchased by
the High Yield Fund will be regarded as illiquid.
For purposes of certain investment limitations pertaining to
diversification of the High Yield Fund's portfolio investments, the issuer of a
loan participation will be the underlying borrower. However, in cases where the
High Yield Fund does not have recourse directly against the borrower, both the
borrower and each agent bank and co-lender interposed between the High Yield
Fund and the borrower will be deemed issuers of a loan participation.
OBLIGATIONS OF THE UNITED STATES, ITS AGENCIES, INSTRUMENTALITIES AND SPONSORED
ENTERPRISES
Each Underlying Fund may invest in U.S. government securities ("U.S.
Government Securities"), which are obligations issued or guaranteed by the U.S.
government and its agencies, instrumentalities or sponsored enterprises. Some
U.S. Government Securities (such as Treasury bills, notes and bonds, which
differ only in their interest rates, maturities and times of issuance) are
supported by the full faith and credit of the United States of America. Others,
such as obligations issued or guaranteed by U.S. government agencies,
instrumentalities or sponsored enterprises, are supported either by (a) the
right of the issuer to borrow from the Treasury (such as securities of Federal
Home Loan Banks), (b) the discretionary authority of the U.S. government to
purchase the agency's obligations (such as securities of Federal National
Mortgage Association ("Fannie Mae")) or (c) only the credit of the issuer (such
as securities of the Financing Corporation). The U.S. government is under no
legal obligation, in general, to purchase the obligations of its agencies,
instrumentalities or sponsored enterprises. No assurance can be given that the
U.S. government will provide financial support to the U.S. government agencies,
instrumentalities or sponsored enterprises in the future.
B-24
<PAGE>
U.S. Government Securities include (to the extent consistent with the
Investment Company Act of 1940, as amended (the "Act")) securities for which the
payment of principal and interest is backed by an irrevocable letter of credit
issued by the U.S. government, or its agencies, instrumentalities or sponsored
enterprises. U.S. Government Securities also include (to the extent consistent
with the Act) participations in loans made to foreign governments or their
agencies that are guaranteed as to principal and interest by the U.S. government
or its agencies, instrumentalities or sponsored enterprises. The secondary
market for certain of these participations is extremely limited. In the absence
of a substantial secondary market, such participations are regarded as illiquid.
Each Underlying Fund may also purchase U.S. Government Securities in private
placements, subject to the Fund's limitation on investment in illiquid
securities.
The Funds may also invest in separately traded principal and interest
components of securities guaranteed or issued by the U.S. Treasury if such
components are traded independently under the separate trading of registered
interest and principal of securities program ("STRIPS").
BANK OBLIGATIONS
Certain of the Underlying Funds may invest in debt obligations issued or
guaranteed by United States and foreign banks. Bank obligations, including
without limitation time deposits, bankers' acceptances and certificates of
deposit, may be general obligations of the parent bank or may be obligations
only of the issuing branch pursuant to the terms of the specific obligations or
government regulation.
Banks are subject to extensive governmental regulations which may limit
both the amount and types of loans which may be made and interest rates which
may be charged. Foreign banks are subject to different regulations and are
generally permitted to engage in a wider variety of activities than U.S. banks.
In addition, the profitability of the banking industry is largely dependent upon
the availability and cost of funds for the purpose of financing lending
operations under prevailing money market conditions. General economic
conditions as well as exposure to credit losses arising from possible financial
difficulties of borrowers play an important part in the operations of this
industry.
DEFERRED INTEREST, PAY-IN-KIND AND CAPITAL APPRECIATION BONDS
Certain of the Underlying Funds expect to invest in deferred interest and
capital appreciation bonds and pay-in-kind ("PIK") securities. Deferred
interest and capital appreciation bonds are debt securities issued or sold at a
discount from their face value and which do not entitle the holder to any
periodic payment of interest prior to maturity or a specified date. The
original issue
B-25
<PAGE>
discount varies depending on the time remaining until maturity or cash payment
date, prevailing interest rates, the liquidity of the security and the perceived
credit quality of the issuer. These securities also may take the form of debt
securities that have been stripped of their unmatured interest coupons, the
coupons themselves or receipts or certificates representing interests in such
stripped debt obligations or coupons. The market prices of deferred interest,
capital appreciation bonds and PIK securities generally are more volatile than
the market prices of interest bearing securities and are likely to respond to a
greater degree to changes in interest rates than interest bearing securities
having similar maturities and credit quality.
PIK securities may be debt obligations or preferred shares that provide the
issuer with the option of paying interest or dividends on such obligations in
cash or in the form of additional securities rather than cash. Similar to zero
coupon bonds and deferred interest bonds, PIK securities are designed to give an
issuer flexibility in managing cash flow. PIK securities that are debt
securities can either be senior or subordinated debt and generally trade flat
(i.e., without accrued interest). The trading price of PIK debt securities
generally reflects the market value of the underlying debt plus an amount
representing accrued interest since the last interest payment.
Zero coupon, deferred interest, capital appreciation and PIK securities
involve the additional risk that, unlike securities that periodically pay
interest to maturity, an Underlying Fund will realize no cash until a specified
future payment date unless a portion of such securities is sold and, if the
issuer of such securities defaults, a Fund may obtain no return at all on its
investment. In addition, even though such securities do not provide for the
payment of current interest in cash, the Funds are nonetheless required to
accrue income on such investments for each taxable year and generally are
required to distribute such accrued amounts (net of deductible expenses, if any)
to avoid being subject to tax. Because no cash is generally received at the
time of the accrual, an Underlying Fund may be required to liquidate other
portfolio securities to obtain sufficient cash to satisfy federal tax
distribution requirements applicable to the Fund.
ZERO COUPON BONDS
An Underlying Fund's investments in fixed income securities may include
zero coupon bonds, which are debt obligations issued or purchased at a
significant discount from face value. The discount approximates the total
amount of interest the bonds would have accrued and compounded over the period
until maturity. Zero coupon bonds do not require the periodic payment of
interest. Such investments benefit the issuer by mitigating its need for cash
to meet debt service but also require a higher rate of return to attract
investors who are willing to defer receipt of such cash.
B-26
<PAGE>
Such investments may experience greater volatility in market value than debt
obligations which provide for regular payments of interest. In addition, if an
issuer of zero coupon bonds held by a Fund defaults, the Fund may obtain no
return at all on its investment. Each Fund will accrue income on such
investments for each taxable year which (net of deductible expenses, if any) is
distributable to shareholders and which, because no cash is generally received
at the time of accrual, may require the liquidation of other portfolio
securities to obtain sufficient cash to satisfy the Fund's distribution
obligations.
VARIABLE AND FLOATING RATE SECURITIES
The interest rates payable on certain fixed income securities in which an
Underlying Fund may invest are not fixed and may fluctuate based upon changes in
market rates. A variable rate obligation has an interest rate which is adjusted
at predesignated periods in response to changes in the market rate of interest
on which the interest rate is based. Variable and floating rate obligations are
less effective than fixed rate instruments at locking in a particular yield.
Nevertheless, such obligations may fluctuate in value in response to interest
rate changes if there is a delay between changes in market interest rates and
the interest reset date for the obligation.
Permissible investments for the Underlying Funds include "leveraged"
inverse floating rate debt instruments ("inverse floaters"), including
"leveraged inverse floaters." The interest rate on inverse floaters resets in
the opposite direction from the market rate of interest to which the inverse
floater is indexed. An inverse floater may be considered to be leveraged to the
extent that its interest rate varies by a magnitude that exceeds the magnitude
of the change in the index rate of interest. The higher the degree of leverage
of an inverse floater, the greater the volatility of its market value.
Accordingly, the duration of an inverse floater may exceed its stated final
maturity. Certain inverse floaters may be deemed to be illiquid securities for
purposes of each Fund's limitation on illiquid investments.
CUSTODIAL RECEIPTS
Each Fund may invest in custodial receipts in respect of securities issued
or guaranteed as to principal and interest by the U.S. Government, its agencies,
instrumentalities, political subdivisions or authorities. Such custodial
receipts evidence ownership of future interest payments, principal payments or
both on certain notes or bonds issued by the U.S. Government, its agencies,
instrumentalities, political subdivisions or authorities. These custodial
receipts are known by various names, including "Treasury Receipts," "Treasury
Investors Growth Receipts" ("TIGRs"), and "Certificates of Accrual on Treasury
Securities"
B-27
<PAGE>
("CATs"). For certain securities law purposes, custodial receipts are not
considered U.S. Government securities.
MUNICIPAL SECURITIES
Certain of the Underlying Funds may invest in bonds, notes and other
instruments issued by or on behalf of states, territories and possessions of the
United States (including the District of Columbia) and their political
subdivisions, agencies or instrumentalities ("Municipal Securities").
Municipal Securities are often issued to obtain funds for various public
purposes including refunding outstanding obligations, obtaining funds for
general operating expenses, and obtaining funds to lend to other public
institutions and facilities. Municipal Securities also include certain
"private activity bonds" or industrial development bonds, which are issued by or
on behalf of public authorities to provide financing aid to acquire sites or
construct or equip facilities within a municipality for privately or publicly
owned corporations.
The two principal classifications of Municipal Securities are "general
obligations" and "revenue obligations." General obligations are secured by the
issuer's pledge of its full faith and credit for the payment of principal and
interest, although the characteristics and enforcement of general obligations
may vary according to the law applicable to the particular issuer. Revenue
obligations, which include, but are not limited to, private activity bonds,
resource recovery bonds, certificates of participation and certain municipal
notes, are not backed by the credit and taxing authority of the issuer, and are
payable solely from the revenues derived from a particular facility or class of
facilities or, in some cases, from the proceeds of a special excise or other
specific revenue source. Nevertheless, the obligations of the issuer of a
revenue obligation may be backed by a letter of credit, guarantee or insurance.
General obligations and revenue obligations may be issued in a variety of forms,
including commercial paper, fixed, variable and floating rate securities, tender
option bonds, auction rate bonds and zero coupon bonds, deferred interest bonds
and capital appreciation bonds.
In addition to general obligations and revenue obligations, there is a
variety of hybrid and special types of Municipal Securities. There are also
numerous differences in the security of Municipal Securities both within and
between these two principal classifications.
An entire issue of Municipal Securities may be purchased by one or a small
number of institutional investors such as the High Yield and Core Fixed Income
Fund. Thus, the issue may not be said to be publicly offered. Unlike some
securities that are not publicly offered, a secondary market exists for many
Municipal Securities
B-28
<PAGE>
that were not publicly offered initially and such securities may be readily
marketable.
The obligations of the issuer to pay the principal of and interest on a
Municipal Security are subject to the provisions of bankruptcy, insolvency and
other laws affecting the rights and remedies of creditors, such as the Federal
Bankruptcy Act, and laws, if any, that may be enacted by Congress or state
legislatures extending the time for payment of principal or interest or imposing
other constraints upon the enforcement of such obligations. There is also the
possibility that, as a result of litigation or other conditions, the power or
ability of the issuer to pay when due principal of or interest on a Municipal
Security may be materially affected.
Municipal Leases, Certificates of Participation and Other Participation
-----------------------------------------------------------------------
Interests. Municipal Securities include leases, certificates of participation
- ---------
and other participation interests. A municipal lease is an obligation in the
form of a lease or installment purchase which is issued by a state or local
government to acquire equipment and facilities. Municipal leases frequently
involve special risks not normally associated with general obligations or
revenue bonds. Leases and installment purchase or conditional sale contracts
(which normally provide for title to the leased asset to pass eventually to the
governmental issuer) have evolved as a means for governmental issuers to acquire
property and equipment without meeting the constitutional and statutory
requirements for the issuance of debt. The debt issuance limitations are deemed
to be inapplicable because of the inclusion in many leases or contracts of "non-
appropriation" clauses that relieve the governmental issuer of any obligation to
make future payments under the lease or contract unless money is appropriated
for such purpose by the appropriate legislative body on a yearly or other
periodic basis. In addition, such leases or contracts may be subject to the
temporary abatement of payments in the event the issuer is prevented from
maintaining occupancy of the leased premises or utilizing the leased equipment.
Although the obligations may be secured by the leased equipment or facilities,
the disposition of the property in the event of non-appropriation or foreclosure
might prove difficult, time consuming and costly, and result in a delay in
recovering or the failure to fully recover a Fund's original investment.
Certificates of participation represent undivided interests in municipal
leases, installment purchase agreements or other instruments. The certificates
are typically issued by a trust or other entity which has received an assignment
of the payments to be made by the state or political subdivision under such
leases or installment purchase agreements.
Certain municipal lease obligations and certificates of participation may
be deemed to be illiquid for the purpose of an
B-29
<PAGE>
Underlying Fund's limitation on investments in illiquid securities. Other
municipal lease obligations and certificates of participation acquired by a Fund
may be determined by its investment adviser, pursuant to guidelines adopted by
the Trustees of the Trust, to be liquid securities for the purpose of such
limitation. In determining the liquidity of municipal lease obligations and
certificates of participation, the investment adviser will consider a variety of
factors including: (1) the willingness of dealers to bid for the security; (2)
the number of dealers willing to purchase or sell the obligation and the number
of other potential buyers; (3) the frequency of trades or quotes for the
obligation; and (4) the nature of the marketplace trades. In addition, the
investment adviser will consider factors unique to particular lease obligations
and certificates of participation affecting the marketability thereof. These
include the general creditworthiness of the issuer, the importance to the issuer
of the property covered by the lease and the likelihood that the marketability
of the obligation will be maintained throughout the time the obligation is held
by a Fund.
The Underlying Funds may purchase participations in Municipal Securities
held by a commercial bank or other financial institution. Such participations
provide a Fund with the right to a pro rata undivided interest in the underlying
Municipal Securities. In addition, such participations generally provide a Fund
with the right to demand payment, on not more than seven days' notice, of all or
any part of such Fund's participation interest in the underlying Municipal
Security, plus accrued interest.
Auction Rate Securities. Municipal Securities also include auction rate
-----------------------
Municipal Securities and auction rate preferred securities issued by closed-end
investment companies that invest primarily in Municipal Securities
(collectively, "auction rate securities"). Provided that the auction mechanism
is successful, auction rate securities usually permit the holder to sell the
securities in an auction at par value at specified intervals. The dividend is
reset by "Dutch" auction in which bids are made by broker-dealers and other
institutions for a certain amount of securities at a specified minimum yield.
The dividend rate set by the auction is the lowest interest or dividend rate
that covers all securities offered for sale. While this process is designed to
permit auction rate securities to be traded at par value, there is some risk
that an auction will fail due to insufficient demand for the securities.
An Underlying Fund's investments in auction rate securities of closed-end
funds are subject to the limitations prescribed by the Act. A Fund will
indirectly bear its proportionate share of any management and other fees paid by
such closed-end funds in addition to the advisory fees payable directly by the
Funds.
B-30
<PAGE>
Other Types of Municipal Securities. Other types of Municipal Securities
-----------------------------------
in which certain of the Underlying Funds may invest include municipal notes,
tax-exempt commercial paper, pre-refunded municipal bonds, industrial
development bonds and insured municipal obligations.
Call Risk and Reinvestment Risk. Municipal Securities may include "call"
-------------------------------
provisions which permit the issuers of such securities, at any time or after a
specified period, to redeem the securities prior to their stated maturity. In
the event that Municipal Securities held in an Underlying Fund's portfolio are
called prior to the maturity, the Fund will be required to reinvest the proceeds
on such securities at an earlier date and may be able to do so only at lower
yields, thereby reducing the Fund's return on its portfolio securities.
MORTGAGE LOANS AND MORTGAGE-BACKED SECURITIES
General Characteristics. The Underlying Funds may invest in Mortgage-
-----------------------
Backed Securities as described in the Prospectus. Each mortgage pool underlying
Mortgage-Backed Securities consists of mortgage loans evidenced by promissory
notes secured by first mortgages or first deeds of trust or other similar
security instruments creating a first lien on owner occupied and non-owner
occupied one-unit to four-unit residential properties, multifamily (i.e., five
or more) properties, agriculture properties, commercial properties and mixed use
properties (the "Mortgaged Properties"). The Mortgaged Properties may consist
of detached individual dwelling units, multifamily dwelling units, individual
condominiums, townhouses, duplexes, triplexes, fourplexes, row houses,
individual units in planned unit developments and other attached dwelling units.
The Mortgaged Properties may also include residential investment properties and
second homes.
The investment characteristics of adjustable and fixed rate Mortgage-Backed
Securities differ from those of traditional fixed income securities. The major
differences include the payment of interest and principal on Mortgage-Backed
Securities on a more frequent (usually monthly) schedule, and the possibility
that principal may be prepaid at any time due to prepayments on the underlying
mortgage loans or other assets. These differences can result in significantly
greater price and yield volatility than is the case with traditional fixed
income securities. As a result, if an Underlying Fund purchases Mortgage-Backed
Securities at a premium, a faster than expected prepayment rate will reduce both
the market value and the yield to maturity from those which were anticipated. A
prepayment rate that is slower than expected will have the opposite effect of
increasing yield to maturity and market value. Conversely, if a Fund purchases
Mortgage-Backed Securities at a discount, faster than expected prepayments will
increase, while slower than expected prepayments will reduce yield to maturity
and market values. To the extent that a Fund invests in
B-31
<PAGE>
Mortgage-Backed Securities, its investment adviser may seek to manage these
potential risks by investing in a variety of Mortgage-Backed Securities and by
using certain hedging techniques.
Adjustable Rate Mortgage Loans ("ARMs"). ARMs generally provide for a
---------------------------------------
fixed initial mortgage interest rate for a specified period of time.
Thereafter, the interest rates (the "Mortgage Interest Rates") may be subject to
periodic adjustment based on changes in the applicable index rate (the "Index
Rate"). The adjusted rate would be equal to the Index Rate plus a fixed
percentage spread over the Index Rate established for each ARM at the time of
its origination.
Adjustable interest rates can cause payment increases that some mortgagors
may find difficult to make. However, certain ARMs may provide that the Mortgage
Interest Rate may not be adjusted to a rate above an applicable lifetime maximum
rate or below an applicable lifetime minimum rate for such ARM. Certain ARMs
may also be subject to limitations on the maximum amount by which the Mortgage
Interest Rate may adjust for any single adjustment period (the "Maximum
Adjustment"). Other ARMs ("Negatively Amortizing ARMs") may provide instead or
as well for limitations on changes in the monthly payment on such ARMs.
Limitations on monthly payments can result in monthly payments which are greater
or less than the amount necessary to amortize a Negatively Amortizing ARM by its
maturity at the Mortgage Interest Rate in effect in any particular month. In
the event that a monthly payment is not sufficient to pay the interest accruing
on a Negatively Amortizing ARM, any such excess interest is added to the
principal balance of the loan, causing negative amortization, and will be repaid
through future monthly payments. It may take borrowers under Negatively
Amortizing ARMs longer periods of time to build up equity and may increase the
likelihood of default by such borrowers. In the event that a monthly payment
exceeds the sum of the interest accrued at the applicable Mortgage Interest Rate
and the principal payment which would have been necessary to amortize the
outstanding principal balance over the remaining term of the loan, the excess
(or "accelerated amortization") further reduces the principal balance of the
ARM. Negatively Amortizing ARMs do not provide for the extension of their
original maturity to accommodate changes in their Mortgage Interest Rate. As a
result, unless there is a periodic recalculation of the payment amount (which
there generally is), the final payment may be substantially larger than the
other payments. These limitations on periodic increases in interest rates and on
changes in monthly payments protect borrowers from unlimited interest rate and
payment increases.
There are two main categories of indices which provide the basis for rate
adjustments on ARMs: those based on U.S. Treasury securities and those derived
from a calculated measure, such as a cost of funds index or a moving average of
mortgage rates. Commonly utilized indices include the one-year, three-year and
five-year
B-32
<PAGE>
constant maturity Treasury rates, the three-month Treasury bill rate, the 180-
day Treasury bill rate, rates on longer-term Treasury securities, the 11th
District Federal Home Loan Bank Cost of Funds, the National Median Cost of
Funds, the one-month, three-month, six-month or one-year London Interbank
Offered Rate, the prime rate of a specific bank or commercial paper rates. Some
indices, such as the one-year constant maturity Treasury rate, closely mirror
changes in market interest rate levels. Others, such as the 11th District
Federal Home Loan Bank Cost of Funds index, tend to lag behind changes in market
rate levels and tend to be somewhat less volatile. The degree of volatility in
the market value of an Underlying Fund's portfolio and therefore in the net
asset value of a Fund's shares will be a function of the length of the interest
rate reset periods and the degree of volatility in the applicable indices.
Fixed-Rate Mortgage Loans. Generally, fixed-rate mortgage loans included
-------------------------
in a mortgage pool (the "Fixed-Rate Mortgage Loans") will bear simple interest
at fixed annual rates and have original terms to maturity ranging from 5 to 40
years. Fixed-Rate Mortgage Loans generally provide for monthly payments of
principal and interest in substantially equal installments for the term of the
mortgage note in sufficient amounts to fully amortize principal by maturity,
although certain Fixed-Rate Mortgage Loans provide for a large final "balloon"
payment upon maturity.
Legal Considerations of Mortgage Loans. The following is a discussion of
--------------------------------------
certain legal and regulatory aspects of the mortgage loans in which the
Underlying Funds may invest. These regulations may impair the ability of a
mortgage lender to enforce its rights under the mortgage documents. These
regulations may adversely affect the Funds' investments in Mortgage-Backed
Securities (including those issued or guaranteed by the U.S. government, its
agencies or instrumentalities) by delaying the Funds' receipt of payments
derived from principal or interest on mortgage loans affected by such
regulations.
1. Foreclosure. A foreclosure of a defaulted mortgage loan may be delayed due
-----------
to compliance with statutory notice or service of process provisions,
difficulties in locating necessary parties or legal challenges to the
mortgagee's right to foreclose. Depending upon market conditions, the
ultimate proceeds of the sale of foreclosed property may not equal the
amounts owed on the Mortgage-Backed Securities.
Furthermore, courts in some cases have imposed general equitable principles
upon foreclosure generally designed to relieve the borrower from the legal
effect of default and have required lenders to undertake affirmative and
expensive actions to determine the causes for the default and the
likelihood of loan reinstatement.
B-33
<PAGE>
2. Rights of Redemption. In some states, after foreclosure of a mortgage
--------------------
loan, the borrower and foreclosed junior lienors are given a statutory
period in which to redeem the property, which right may diminish the
mortgagee's ability to sell the property.
3. Legislative Limitations. In addition to anti-deficiency and related
-----------------------
legislation, numerous other federal and state statutory provisions,
including the federal bankruptcy laws and state laws affording relief to
debtors, may interfere with or affect the ability of a secured mortgage
lender to enforce its security interest. For example, a bankruptcy court
may grant the debtor a reasonable time to cure a default on a mortgage
loan, including a payment default. The court in certain instances may
also reduce the monthly payments due under such mortgage loan, change the
rate of interest, reduce the principal balance of the loan to the then-
current appraised value of the related mortgaged property, alter the
mortgage loan repayment schedule and grant priority of certain liens over
the lien of the mortgage loan. If a court relieves a borrower's obligation
to repay amounts otherwise due on a mortgage loan, the mortgage loan
servicer will not be required to advance such amounts, and any loss may be
borne by the holders of securities backed by such loans. In addition,
numerous federal and state consumer protection laws impose penalties for
failure to comply with specific requirements in connection with origination
and servicing of mortgage loans.
4. "Due-on-Sale" Provisions. Fixed-rate mortgage loans may contain a so-
------------------------
called "due-on-sale" clause permitting acceleration of the maturity of the
mortgage loan if the borrower transfers the property. The Garn-St. Germain
Depository Institutions Act of 1982 sets forth nine specific instances in
which no mortgage lender covered by that Act may exercise a "due-on-sale"
clause upon a transfer of property. The inability to enforce a "due-on-
sale" clause or the lack of such a clause in mortgage loan documents may
result in a mortgage loan being assumed by a purchaser of the property that
bears an interest rate below the current market rate.
5. Usury Laws. Some states prohibit charging interest on mortgage loans in
----------
excess of statutory limits. If such limits are exceeded, substantial
penalties may be incurred and, in some cases, enforceability of the
obligation to pay principal and interest may be affected.
Government Guaranteed Mortgage-Backed Securities. There are several types
------------------------------------------------
of guaranteed mortgage-backed securities currently available, including
guaranteed mortgage pass-through certificates and multiple class securities,
which include guaranteed Real Estate Mortgage Investment Conduit Certificates
("REMIC Certificates"), collateralized mortgage obligations and stripped
mortgage-backed
B-34
<PAGE>
securities. An Underlying Fund is permitted to invest in other types of
mortgage-backed securities that may be available in the future to the extent
consistent with its investment policies and objective.
An Underlying Fund's investments in mortgage-backed securities may include
securities issued or guaranteed by the U.S. Government or one of its agencies,
authorities, instrumentalities or sponsored enterprises, such as the Government
National Mortgage Association ("Ginnie Mae"), the Federal National Mortgage
Association ("Fannie Mae") and the Federal Home Loan Mortgage Corporation
("Freddie Mac").
Ginnie Mae Certificates. Ginnie Mae is a wholly-owned corporate
-----------------------
instrumentality of the United States. Ginnie Mae is authorized to guarantee the
timely payment of the principal of and interest on certificates that are based
on and backed by a pool of mortgage loans insured by the Federal Housing
Administration ("FHA Loans"), or guaranteed by the Veterans Administration ("VA
Loans"), or by pools of other eligible mortgage loans. In order to meet its
obligations under any guaranty, Ginnie Mae is authorized to borrow from the
United States Treasury in an unlimited amount.
Fannie Mae Certificates. Fannie Mae is a stockholder-owned corporation
-----------------------
chartered under an act of the United States Congress. Each Fannie Mae
Certificate is issued and guaranteed by Fannie Mae and represents an undivided
interest in a pool of mortgage loans (a "Pool") formed by Fannie Mae. Each Pool
consists of residential mortgage loans ("Mortgage Loans") either previously
owned by Fannie Mae or purchased by it in connection with the formation of the
Pool. The Mortgage Loans may be either conventional Mortgage Loans (i.e., not
insured or guaranteed by any U.S. Government agency) or Mortgage Loans that are
either insured by the Federal Housing Administration ("FHA") or guaranteed by
the Veterans Administration ("VA"). However, the Mortgage Loans in Fannie Mae
Pools are primarily conventional Mortgage Loans. The lenders originating and
servicing the Mortgage Loans are subject to certain eligibility requirements
established by Fannie Mae.
Fannie Mae has certain contractual responsibilities. With respect to each
Pool, Fannie Mae is obligated to distribute scheduled monthly installments of
principal and interest after Fannie Mae's servicing and guaranty fee, whether or
not received, to Certificate holders. Fannie Mae also is obligated to
distribute to holders of Certificates an amount equal to the full principal
balance of any foreclosed Mortgage Loan, whether or not such principal balance
is actually recovered. The obligations of Fannie Mae under its guaranty of the
Fannie Mae Certificates are obligations solely of Fannie Mae.
Freddie Mac Certificates. Freddie Mac is a publicly held U.S. Government
------------------------
sponsored enterprise. The principal activity of Freddie
B-35
<PAGE>
Mac currently is the purchase of first lien, conventional, residential mortgage
loans and participation interests in such mortgage loans and their resale in the
form of mortgage securities, primarily Freddie Mac Certificates. A Freddie Mac
Certificate represents a pro rata interest in a group of mortgage loans or
participation in mortgage loans (a "Freddie Mac Certif icate group") purchased
by Freddie Mac.
Freddie Mac guarantees to each registered holder of a Freddie Mac
Certificate the timely payment of interest at the rate provided for by such
Freddie Mac Certificate (whether or not received on the underlying loans).
Freddie Mac also guarantees to each registered Certificate holder ultimate
collection of all principal of the related mortgage loans, without any offset or
deduction, but does not, generally, guarantee the timely payment of scheduled
principal. The obligations of Freddie Mac under its guaranty of Freddie Mac
Certificates are obligations solely of Freddie Mac.
The mortgage loans underlying the Freddie Mac and Fannie Mae Certificates
consist of adjustable rate or fixed rate mortgage loans with original terms to
maturity of between five and thirty years. Substantially all of these mortgage
loans are secured by first liens on one-to-four-family residential properties or
multifamily projects. Each mortgage loan must meet the applicable standards set
forth in the law creating Freddie Mac or Fannie Mae. A Freddie Mac Certificate
group may include whole loans, participation interests in whole loans and
undivided interests in whole loans and participations comprising another Freddie
Mac Certificate group.
Conventional Mortgage Loans. The conventional mortgage loans underlying
---------------------------
the Freddie Mac and Fannie Mae Certificates consist of adjustable rate or fixed-
rate mortgage loans with original terms to maturity of between five and thirty
years. Substantially all of these mortgage loans are secured by first liens on
one- to four-family residential properties or multi-family projects. Each
mortgage loan must meet the applicable standards set forth in the law creating
Freddie Mac or Fannie Mae. A Freddie Mac Certificate group may include whole
loans, participation interests in whole loans, undivided interests in whole
loans and participations comprising another Freddie Mac Certificate group.
Mortgage Pass-Through Securities. As described in the Prospectus, the
--------------------------------
Underlying Funds may invest in both government guaranteed and privately issued
mortgage pass-through securities ("Mortgage Pass-Throughs"); that is, fixed or
adjustable rate mortgage-backed securities which provide for monthly payments
that are a "pass-through" of the monthly interest and principal payments
(including any prepayments) made by the individual borrowers on the pooled
mortgage loans, net of any fees or other amounts paid to any guarantor,
administrator and/or servicer of the underlying mortgage loans.
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The following discussion describes only a few of the wide variety of
structures of Mortgage Pass-Throughs that are available or may be issued.
Description of Certificates. Mortgage Pass-Throughs may be issued in one
---------------------------
or more classes of senior certificates and one or more classes of subordinate
certificates. Each such class may bear a different pass-through rate.
Generally, each certificate will evidence the specified interest of the holder
thereof in the payments of principal or interest or both in respect of the
mortgage pool comprising part of the trust fund for such certificates.
Any class of certificates may also be divided into subclasses entitled to
varying amounts of principal and interest. If a REMIC election has been made,
certificates of such subclasses may be entitled to payments on the basis of a
stated principal balance and stated interest rate, and payments among different
subclasses may be made on a sequential, concurrent, pro rata or disproportionate
--- ----
basis, or any combination thereof. The stated interest rate on any such
subclass of certificates may be a fixed rate or one which varies in direct or
inverse relationship to an objective interest index.
Generally, each registered holder of a certificate will be entitled to
receive its pro rata share of monthly distributions of all or a portion of
--- ----
principal of the underlying mortgage loans or of interest on the principal
balances thereof, which accrues at the applicable mortgage pass-through rate, or
both. The difference between the mortgage interest rate and the related
mortgage pass-through rate (less the amount, if any, of retained yield) with
respect to each mortgage loan will generally be paid to the servicer as a
servicing fee. Since certain adjustable rate mortgage loans included in a
mortgage pool may provide for deferred interest (i.e., negative amortization),
the amount of interest actually paid by a mortgagor in any month may be less
than the amount of interest accrued on the outstanding principal balance of the
related mortgage loan during the relevant period at the applicable mortgage
interest rate. In such event, the amount of interest that is treated as deferred
interest will be added to the principal balance of the related mortgage loan and
will be distributed pro rata to certificate-holders as principal of such
--- ----
mortgage loan when paid by the mortgagor in subsequent monthly payments or at
maturity.
Ratings. The ratings assigned by a rating organization to Mortgage Pass-
-------
Throughs address the likelihood of the receipt of all distributions on the
underlying mortgage loans by the related certificate-holders under the
agreements pursuant to which such certificates are issued. A rating
organization's ratings take into consideration the credit quality of the related
mortgage pool, including any credit support providers, structural and legal
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<PAGE>
aspects associated with such certificates, and the extent to which the payment
stream on such mortgage pool is adequate to make payments required by such
certificates. A rating organization's ratings on such certificates do not,
however, constitute a statement regarding frequency of prepayments on the
related mortgage loans. In addition, the rating assigned by a rating
organization to a certificate does not address the remote possibility that, in
the event of the insolvency of the issuer of certificates where a subordinated
interest was retained, the issuance and sale of the senior certificates may be
recharacterized as a financing and, as a result of such recharacterization,
payments on such certificates may be affected.
Credit Enhancement. Credit support falls generally into two categories:
------------------
(i) liquidity protection and (ii) protection against losses resulting from
default by an obligor on the underlying assets. Liquidity protection refers to
the provision of advances, generally by the entity administering the pools of
mortgages, the provision of a reserve fund, or a combination thereof, to ensure,
subject to certain limitations, that scheduled payments on the underlying pool
are made in a timely fashion. Protection against losses resulting from default
ensures ultimate payment of the obligations on at least a portion of the assets
in the pool. Such credit support can be provided by among other things, payment
guarantees, letters of credit, pool insurance, subordination, or any combination
thereof.
Subordination; Shifting of Interest; Reserve Fund. In order to achieve
-------------------------------------------------
ratings on one or more classes of Mortgage Pass-Throughs, one or more classes of
certificates may be subordinate certificates which provide that the rights of
the subordinate certificate-holders to receive any or a specified portion of
distributions with respect to the underlying mortgage loans may be subordinated
to the rights of the senior certificate-holders. If so structured, the
subordination feature may be enhanced by distributing to the senior certificate-
holders on certain distri bution dates, as payment of principal, a specified
percentage (which generally declines over time) of all principal payments
received during the preceding prepayment period ("shifting interest credit
enhancement"). This will have the effect of accelerating the amortization of
the senior certificates while increasing the interest in the trust fund
evidenced by the subordinate certificates. Increasing the interest of the
subordinate certificates relative to that of the senior certificates is intended
to preserve the availability of the subordination provided by the subordinate
certificates. In addition, because the senior certificate-holders in a shifting
interest credit enhancement structure are entitled to receive a percentage of
principal prepayments which is greater than their proportionate interest in the
trust fund, the rate of principal prepayments on the mortgage loans will have an
even greater effect on the rate of principal payments and the amount of interest
payments on, and the yield to maturity of, the senior certificates.
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<PAGE>
In addition to providing for a preferential right of the senior
certificate-holders to receive current distributions from the mortgage pool, a
reserve fund may be established relating to such certificates (the "Reserve
Fund"). The Reserve Fund may be created with an initial cash deposit by the
originator or servicer and augmented by the retention of distributions otherwise
available to the subordinate certificate-holders or by excess servicing fees
until the Reserve Fund reaches a specified amount.
The subordination feature, and any Reserve Fund, are intended to enhance
the likelihood of timely receipt by senior certificate-holders of the full
amount of scheduled monthly payments of principal and interest due them and will
protect the senior certificate-holders against certain losses; however, in
certain circumstances the Reserve Fund could be depleted and temporary
shortfalls could result. In the event the Reserve Fund is depleted before the
subordinated amount is reduced to zero, senior certificate-holders will
nevertheless have a preferential right to receive current distributions from the
mortgage pool to the extent of the then outstanding subordinated amount. Unless
otherwise specified, until the subordinated amount is reduced to zero, on any
distribution date any amount otherwise distributable to the subordinate
certificates or, to the extent specified, in the Reserve Fund will generally be
used to offset the amount of any losses realized with respect to the mortgage
loans ("Realized Losses"). Realized Losses remaining after application of such
amounts will generally be applied to reduce the ownership interest of the
subordinate certificates in the mortgage pool. If the subordinated amount has
been reduced to zero, Realized Losses generally will be allocated pro rata among
--- ----
all certificate-holders in proportion to their respective outstanding interests
in the mortgage pool.
Alternative Credit Enhancement. As an alternative, or in addition to the
------------------------------
credit enhancement afforded by subordination, credit enhancement for Mortgage
Pass-Throughs may be provided by mortgage insurance, hazard insurance, by the
deposit of cash, certificates of deposit, letters of credit, a limited guaranty
or by such other methods as are acceptable to a rating agency. In certain
circumstances, such as where credit enhancement is provided by guarantees or a
letter of credit, the security is subject to credit risk because of its exposure
to an external credit enhancement provider.
Voluntary Advances. Generally, in the event of delinquencies in payments
------------------
on the mortgage loans underlying the Mortgage Pass-Throughs, the servicer agrees
to make advances of cash for the benefit of certificate-holders, but only to the
extent that it determines such voluntary advances will be recoverable from
future payments and collections on the mortgage loans or otherwise.
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<PAGE>
Optional Termination. Generally, the servicer may, at its option with
--------------------
respect to any certificates, repurchase all of the underlying mortgage loans
remaining outstanding at such time as the aggregate outstanding principal
balance of such mortgage loans is less than a specified percentage (generally 5-
10%) of the aggregate outstanding principal balance of the mortgage loans as of
the cut-off date specified with respect to such series.
Multiple Class Mortgage-Backed Securities and Collateralized Mortgage
---------------------------------------------------------------------
Obligations. An Underlying Fund may invest in multiple class securities
- -----------
including collateralized mortgage obligations ("CMOs") and REMIC Certificates.
These securities may be issued by U.S. Government agencies and instrumentalities
such as Fannie Mae or Freddie Mac or by trusts formed by private originators of,
or investors in, mortgage loans, including savings and loan associations,
mortgage bankers, commercial banks, insurance companies, investment banks and
special purpose subsidiaries of the foregoing. In general, CMOs are debt
obligations of a legal entity that are collateralized by, and multiple class
mortgage-backed securities represent direct ownership interests in, a pool of
mortgage loans or mortgage-backed securities the payments on which are used to
make payments on the CMOs or multiple class mortgage-backed securities.
Fannie Mae REMIC Certificates are issued and guaranteed as to timely
distribution of principal and interest by Fannie Mae. In addition, Fannie Mae
will be obligated to distribute the principal balance of each class of REMIC
Certificates in full, whether or not sufficient funds are otherwise available.
Freddie Mac guarantees the timely payment of interest on Freddie Mac REMIC
Certificates and also guarantees the payment of principal as payments are
required to be made on the underlying mortgage participation certificates
("PCs"). PCs represent undivided interests in specified level payment,
residential mortgages or participations therein purchased by Freddie Mac and
placed in a PC pool. With respect to principal payments on PCs, Freddie Mac
generally guarantees ultimate collection of all principal of the related
mortgage loans without offset or deduction. Freddie Mac also guarantees timely
payment of principal of certain PCs.
CMOs and guaranteed REMIC Certificates issued by Fannie Mae and Freddie Mac
are types of multiple class mortgage-backed securi ties. Investors may purchase
beneficial interests in REMICs, which are known as "regular" interests or
"residual" interests. The Underlying Funds do not intend to purchase residual
interests in REMICs. The REMIC Certificates represent beneficial ownership
interests in a REMIC trust, generally consisting of mortgage loans or Fannie
Mae, Freddie Mac or Ginnie Mae guaranteed mortgage-backed securities (the
"Mortgage Assets"). The obligations of Fannie Mae or Freddie Mac under their
respective guaranty of the
B-40
<PAGE>
REMIC Certificates are obligations solely of Fannie Mae or Freddie Mac,
respectively.
CMOs and REMIC Certificates are issued in multiple classes. Each class of
CMOs or REMIC Certificates, often referred to as a "tranche," is issued at a
specific adjustable or fixed interest rate and must be fully retired no later
than its final distribution date. Principal prepayments on the Mortgage Loans
or the Mortgage Assets underlying the CMOs or REMIC Certificates may cause some
or all of the classes of CMOs or REMIC Certificates to be retired substantially
earlier than their final distribution dates. Generally, interest is paid or
accrues on all classes of CMOs or REMIC Certificates on a monthly basis.
The principal of and interest on the Mortgage Assets may be allocated among
the several classes of CMOs or REMIC Certificates in various ways. In certain
structures (known as "sequential pay" CMOs or REMIC Certificates), payments of
principal, including any principal prepayments, on the Mortgage Assets generally
are applied to the classes of CMOs or REMIC Certificates in the order of their
respective final distribution dates. Thus, no payment of principal will be made
on any class of sequential pay CMOs or REMIC Certificates until all other
classes having an earlier final distribution date have been paid in full.
Additional structures of CMOs and REMIC Certificates include, among others,
"parallel pay" CMOs and REMIC Certificates. Parallel pay CMOs or REMIC
Certificates are those which are structured to apply principal payments and
prepayments of the Mortgage Assets to two or more classes concurrently on a
proportionate or disproportionate basis. These simultaneous payments are taken
into account in calculating the final distribution date of each class.
A wide variety of REMIC Certificates may be issued in parallel pay or
sequential pay structures. These securities include accrual certificates (also
known as "Z-Bonds"), which only accrue interest at a specified rate until all
other certificates having an earlier final distribution date have been retired
and are converted thereafter to an interest-paying security, and planned
amortization class ("PAC") certificates, which are parallel pay REMIC
Certificates that generally require that specified amounts of principal be
applied on each payment date to one or more classes or REMIC Certificates (the
"PAC Certificates"), even though all other principal payments and prepayments of
the Mortgage Assets are then required to be applied to one or more other classes
of the Certificates. The scheduled principal payments for the PAC Certificates
generally have the highest priority on each payment date after interest due has
been paid to all classes entitled to receive interest currently. Shortfalls, if
any, are added to the amount payable on the next payment date. The PAC
Certificate payment schedule is taken into account in calculating the final
distribution date of each class of PAC. In order to create PAC
B-41
<PAGE>
tranches, one or more tranches generally must be created that absorb most of the
volatility in the underlying mortgage assets. These tranches tend to have market
prices and yields that are much more volatile than other PAC classes.
Stripped Mortgage-Backed Securities. The Underlying Funds may invest in
-----------------------------------
stripped mortgage-backed securities ("SMBS"), which are derivative multiclass
mortgage securities, issued or guaranteed by the U.S. Government, its agencies
or instrumentalities or by private issuers. Although the market for such
securities is increasingly liquid, privately issued SMBS may not be readily
marketable and will be considered illiquid for purposes of an Underlying Fund's
limitation on investments in illiquid securities. A Fund's investment adviser
may determine that SMBS which are U.S. Government Securities are liquid for
purposes of each Fund's limitation on investments in illiquid securities. The
market value of the class consisting entirely of principal payments generally is
unusually volatile in response to changes in interest rates. The yields on a
class of SMBS that receives all or most of the interest from Mortgage Assets are
generally higher than prevailing market yields on other Mortgage-Backed
Securities because their cash flow patterns are more volatile and there is a
greater risk that the initial investment will not be fully recouped.
ASSET-BACKED SECURITIES
Asset-backed securities represent participation in, or are secured by and
payable from, assets such as motor vehicle installment sales, installment loan
contracts, leases of various types of real and personal property, receivables
from revolving credit (credit card) agreements and other categories of
receivables. Such assets are securitized through the use of trusts and special
purpose corporations. Payments or distributions of principal and interest may
be guaranteed up to certain amounts and for a certain time period by a letter of
credit or a pool insurance policy issued by a financial institution unaffiliated
with the trust or corporation, or other credit enhancements may be present.
Like Mortgage-Backed Securities, asset-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 loans.
During periods of declining interest rates, prepayment of loans underlying
asset-backed securities can be expected to accelerate. Accordingly, an
Underlying Fund's ability to maintain positions in such securities will be
affected by reductions in the principal amount of such securities resulting from
prepayments, and its ability to reinvest the returns of principal at comparable
yields is subject to generally prevailing interest rates at that time. To the
extent that a Fund invests in asset-backed securities, the values of such Fund's
portfolio securities will vary with changes in market
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<PAGE>
interest rates generally and the differentials in yields among various kinds of
asset-backed securities.
Asset-backed securities present certain additional risks that are not
presented by Mortgage-Backed Securities because asset-backed securities
generally do not have the benefit of a security interest in collateral that is
comparable to Mortgage Assets. Credit card receivables are generally unsecured
and the debtors on such receivables 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. Automobile receivables generally are secured, but by automobiles
rather than residential real property. Most issuers of automobile receivables
permit the loan servicers to retain possession of the underlying obligations.
If the servicer were to sell these obligations to another party, there is a
risk that the purchaser would acquire an interest superior to that of the
holders of the asset-backed securities. 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 the underlying automobiles. Therefore,
there is the possibility that, in some cases, recoveries on repossessed
collateral may not be available to support payments on these securities.
FUTURES CONTRACTS AND OPTIONS ON FUTURES CONTRACTS
Each Underlying Fund (other than Financial Square Prime Obligations Fund)
may purchase and sell futures contracts and may also purchase and write options
on futures contracts. CORE U.S. Equity, CORE Large Cap Growth and CORE Small
Cap Equity Funds may only enter into such transactions with respect to the S&P
500 Index, for the CORE U.S. Equity Fund and a representative index in the case
of the CORE Large Cap Growth and CORE Small Cap Equity Funds. The other Funds
may purchase and sell futures contracts based on various securities (such as
U.S. Government securities), securities indices, foreign currencies and other
financial instruments and indices. An Underlying Fund will engage in futures
and related options transactions, only for bona fide hedging purposes as defined
below or for purposes of seeking to increase total return to the extent
permitted by regulations of the Commodity Futures Trading Commission ("CFTC").
All futures contracts entered into by a Fund are traded on U.S. exchanges or
boards of trade that are licensed and regulated by the CFTC or on foreign
exchanges.
Futures Contracts. A futures contract may generally be described as an
-----------------
agreement between two parties to buy and sell particular financial instruments
or currencies for an agreed price during a designated month (or to deliver the
final cash settlement price, in the case of a contract relating to an index or
otherwise
B-43
<PAGE>
not calling for physical delivery at the end of trading in the contract).
When interest rates are rising or securities prices are falling, an
Underlying Fund can seek through the sale of futures contracts to offset a
decline in the value of its current portfolio securities. When rates are
falling or prices are rising, a Fund, through the purchase of futures contracts,
can attempt to secure better rates or prices than might later be available in
the market when it effects anticipated purchases. Similarly, a Fund may sell
futures contracts on a specified currency to protect against a decline in the
value of such currency and its portfolio securities which are quoted or
denominated in such currency, or purchase futures contracts on foreign currency
to establish the price in U.S. dollars of a security quoted or denominated in
such currency that such Fund has acquired or expects to acquire.
Positions taken in the futures market are not normally held to maturity,
but are instead liquidated through offsetting transactions which may result in a
profit or a loss. While an Underlying Fund will usually liquidate futures
contracts on securities or currency in this manner, a Fund may instead make or
take delivery of the underlying securities or currency whenever it appears
economically advantageous for the Fund to do so. A clearing corporation
associated with the exchange on which futures are traded guarantees that, if
still open, the sale or purchase will be performed on the settlement date.
Hedging Strategies. Hedging, by use of futures contracts, seeks to
------------------
establish with more certainty than would otherwise be possible the effective
price, rate of return or currency exchange rate on portfolio securities or
securities that a Fund owns or proposes to acquire. An Underlying Fund may, for
example, take a "short" position in the futures market by selling futures
contracts to seek to hedge against an anticipated rise in interest rates or a
decline in market prices or foreign currency rates that would adversely affect
the dollar value of such Fund's portfolio securities. Similarly, a Fund may sell
futures contracts on a currency in which its portfolio securities are quoted or
denominated or in one currency to seek to hedge against fluctuations in the
value of securities quoted or denominated in a different currency if there is an
established historical pattern of correlation between the two currencies. If, in
the opinion of a Fund's investment adviser, there is a sufficient degree of
correlation between price trends for a Fund's portfolio securities and futures
contracts based on other financial instruments, securities indices or other
indices, a Fund may also enter into such futures contracts as part of its
hedging strategy. Although under some circumstances prices of securities in a
Fund's portfolio may be more or less volatile than prices of such futures
contracts, its investment adviser will attempt to estimate the extent of this
volatility difference based on historical patterns
B-44
<PAGE>
and compensate for any such differential by having a Fund enter into a greater
or lesser number of futures contracts or by attempting to achieve only a partial
hedge against price changes affecting a Fund's securities portfolio. When
hedging of this character is successful, any depreciation in the value of
portfolio securities will be substantially offset by appreciation in the value
of the futures position. On the other hand, any unanticipated appreciation in
the value of a Fund's portfolio securities would be substantially offset by a
decline in the value of the futures position.
On other occasions, an Underlying Fund may take a "long" position by
purchasing such futures contracts. This would be done, for example, when a Fund
anticipates the subsequent purchase of particular securities when it has the
necessary cash, but expects the prices or currency exchange rates then available
in the applicable market to be less favorable than prices or rates that are
currently available.
Options on Futures Contracts. The acquisition of put and call options on
----------------------------
futures contracts will give an Underlying Fund the right (but not the
obligation), for a specified price, to sell or to purchase, respectively, the
underlying futures contract at any time during the option period. As the
purchaser of an option on a futures contract, a Fund obtains the benefit of the
futures position if prices move in a favorable direction but limits its risk of
loss in the event of an unfavorable price movement to the loss of the premium
and transaction costs.
The writing of a call option on a futures contract generates a premium
which may partially offset a decline in the value of an Underlying Fund's
assets. By writing a call option, a Fund becomes obligated, in exchange for the
premium, (upon exercise of the option) to sell a futures contract if the option
is exercised, which may have a value higher than the exercise price.
Conversely, the writing of a put option on a futures contract generates a
premium, which may partially offset an increase in the price of securities that
a Fund intends to purchase. However, a Fund becomes obligated (upon exercise of
the option) to purchase a futures contract if the option is exercised, which may
have a value lower than the exercise price. Thus, the loss incurred by a Fund in
writing options on futures is potentially unlimited and may exceed the amount of
the premium received. A Fund will incur transaction costs in connection with the
writing of options on futures.
The holder or writer of an option on a futures contract may terminate its
position by selling or purchasing an offsetting option on the same financial
instrument. There is no guarantee that such closing transactions can be
effected. An Underlying Fund's ability to establish and close out positions on
such options
B-45
<PAGE>
will be subject to the development and maintenance of a liquid market.
Other Considerations. An Underlying Fund will engage in futures
--------------------
transactions and will engage in related options transactions only for bona fide
hedging as defined in the regulations of the CFTC or to seek to increase total
return to the extent permitted by such regulations. A Fund will determine that
the price fluctuations in the futures contracts and options on futures used for
hedging purposes are substantially related to price fluctuations in securities
held by the Fund or which it expects to purchase. Except as stated below, a
Fund's futures transactions will be entered into for traditional hedging
purposes -- i.e., futures contracts will be sold to protect against a decline in
the price of securities (or the currency in which they are quoted or
denominated) that the Fund owns, or futures contracts will be purchased to
protect the Fund against an increase in the price of securities (or the currency
in which they are quoted or denominated) it intends to purchase.
In addition to bona fide hedging, a CFTC regulation permits an Underlying
Fund to engage in other futures transactions if the aggregate initial margin and
premiums required to establish such positions in futures contracts and options
on futures do not exceed 5% of the net asset value of such Fund's portfolio,
after taking into account unrealized profits and losses on any such positions
and excluding the amount by which such options were in-the-money at the time of
purchase. To the extent such transactions are consistent with the requirements
of the Code for maintaining its qualification as a regulated investment company
for federal income tax purposes, a Fund may engage in transactions in currency
forward contracts futures contracts and related options transactions.
Transactions in futures contracts and options on futures involve brokerage
costs, require margin deposits and, in the case of contracts and options
obligating an Underlying Fund to purchase securities or currencies, require the
Fund to segregate with its custodian cash or liquid assets in an amount equal to
the underlying value of such contracts and options.
While transactions in futures contracts and options on futures may reduce
certain risks, such transactions themselves entail
B-46
<PAGE>
certain other risks. Thus, unanticipated changes in interest rates, securities
prices or currency exchange rates may result in a poorer overall performance for
an Underlying Fund than if it had not entered into any futures contracts or
options transactions. In the event of an imperfect correlation between a futures
position and a portfolio position which is intended to be protected, the desired
protection may not be obtained and a Fund may be exposed to risk of loss.
Perfect correlation between an Underlying Fund's futures positions and
portfolio positions will be difficult to achieve because no futures contracts
based on individual equity or corporate fixed-income securities are currently
available. The only futures contracts available to hedge a Fund's portfolio are
various futures on U.S. Government securities, securities indices and foreign
currencies. In addition, it is not possible for a Fund to hedge fully or
perfectly against currency fluctuations affecting the value of securities quoted
or denominated in foreign currencies because the value of such securities is
likely to fluctuate as a result of independent factors not related to currency
fluctuations.
OPTIONS ON SECURITIES AND SECURITIES INDICES
Writing Covered Options. Certain of the Underlying Funds may write (sell)
-----------------------
covered call and put options on any securities in which they may invest. A Fund
may purchase and write such options on securities that are listed on national
domestic securities exchanges or foreign securities exchanges or traded in the
over-the-counter market. A call option written by a Fund obligates such Fund to
sell specified securities to the holder of the option at a specified price if
the option is exercised at any time before the expiration date. All call options
written by a Fund are covered, which means that such Fund will own the
securities subject to the option as long as the option is outstanding or such
Fund will use the other methods described below. A Fund's purpose in writing
covered call options is to realize greater income than would be realized on
portfolio securities transactions alone. However, a Fund may forego the
opportunity to profit from an increase in the market price of the underlying
security.
A put option written by an Underlying Fund would obligate such Fund to
purchase specified securities from the option holder at a specified price if the
option is exercised at any time before the expiration date. All put options
written by a Fund would be covered, which means that such Fund would have
deposited with its custodian cash or liquid assets with a value at least equal
to the exercise price of the put option. The purpose of writing such options is
to generate additional income for the Fund. However, in return for the option
premium, each Fund accepts the risk that it
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<PAGE>
may be required to purchase the underlying securities at a price in excess of
the securities' market value at the time of purchase.
Call and put options written by an Underlying Fund will also be considered
to be covered to the extent that the Fund's liabilities under such options are
wholly or partially offset by its rights under call and put options purchased by
the Fund or by an offsetting forward commitment.
In addition, a written call option or put option may be covered by
maintaining cash or liquid assets (either of which may be quoted or denominated
in any currency) in a segregated account, by entering into an offsetting forward
contract and/or by purchasing an offsetting option which, by virtue of its
exercise price or otherwise, reduces a Fund's net exposure on its written option
position.
The Underlying Funds may also write (sell) covered call and put options on
any securities index composed of securities in which it may invest. Options on
securities indices are similar to options on securities, except that the
exercise of securities index options requires cash payments and does not involve
the actual purchase or sale of securities. In addition, securities index
options are designed to reflect price fluctuations in a group of securities or
segment of the securities market rather than price fluctuations in a single
security.
An Underlying Fund may cover call options on a securities index by owning
securities whose price changes are expected to be similar to those of the
underlying index, or by having an absolute and immediate right to acquire such
securities without additional cash consideration (or for additional cash
consideration held in a segregated account by its custodian) upon conversion or
exchange of other securities in its portfolio. A Fund may cover call and put
options on a securities index by maintaining cash or liquid assets with a value
equal to the exercise price in a segregated account with its custodian.
An Underlying Fund may terminate its obligations under an exchange-traded
call or put option by purchasing an option identical to the one it has written.
Obligations under over-the-counter options may be terminated only by entering
into an offsetting transaction with the counterparty to such option. Such
purchases are referred to as "closing purchase transactions."
Purchasing Options. Each Underlying Fund (other than CORE U.S. Equity,
------------------
CORE Large Cap Growth and Financial Square Prime Obligations Funds) may purchase
put and call options on any securities in which it may invest or options on any
securities index composed of securities in which it may invest. A Fund would
also be able to enter into closing sale transactions in order to realize gains
or minimize losses on options it had purchased.
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<PAGE>
An Underlying Fund would normally purchase call options in anticipation of
an increase in the market value of securities of the type in which it may
invest. The purchase of a call option would entitle a Fund, in return for the
premium paid, to purchase specified securities at a specified price during the
option period. A Fund would ordinarily realize a gain if, during the option
period, the value of such securities exceeded the sum of the exercise price, the
premium paid and transaction costs; otherwise such a Fund would realize either
no gain or a loss on the purchase of the call option.
An Underlying Fund would normally purchase put options in anticipation of a
decline in the market value of securities in its portfolio ("protective puts")
or in securities in which it may invest. The purchase of a put option would
entitle a Fund, in exchange for the premium paid, to sell specified securities
at a specified price during the option period. The purchase of protective puts
is designed to offset or hedge against a decline in the market value of a Fund's
securities. Put options may also be purchased by a Fund for the purpose of
affirmatively benefiting from a decline in the price of securities which it does
not own. A Fund would ordinarily realize a gain if, during the option period,
the value of the underlying securities decreased below the exercise price
sufficiently to more than cover the premium and transaction costs; otherwise
such a Fund would realize either no gain or a loss on the purchase of the put
option. Gains and losses on the purchase of protective put options would tend
to be offset by countervailing changes in the value of the underlying portfolio
securities.
An Underlying Fund would purchase put and call options on securities
indices for the same purposes as it would purchase options on individual
securities. For a description of options on securities indices, see "Writing
Covered Options" above.
Yield Curve Options. Each Fixed Income Fund may enter into options on the
-------------------
yield "spread" or differential between two securities. Such transactions are
referred to as "yield curve" options. In contrast to other types of options, a
yield curve option is based on the difference between the yields of designated
securities, rather than the prices of the individual securities, and is settled
through cash payments. Accordingly, a yield curve option is profitable to the
holder if this differential widens (in the case of a call) or narrows (in the
case of a put), regardless of whether the yields of the underlying securities
increase or decrease.
An Underlying Fund may purchase or write yield curve options for the same
purposes as other options on securities. For example, a Fund may purchase a
call option on the yield spread between two securities if the Fund owns one of
the securities and anticipates purchasing the other security and wants to hedge
against an adverse
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change in the yield spread between the two securities. A Fund may also purchase
or write yield curve options in an effort to increase current income if, in the
judgment of its investment adviser, the Fund will be able to profit from
movements in the spread between the yields of the underlying securities. The
trading of yield curve options is subject to all of the risks associated with
the trading of other types of options. In addition, however, such options
present risk of loss even if the yield of one of the underlying securities
remains constant, or if the spread moves in a direction or to an extent which
was not anticipated.
Yield curve options written by an Underlying Fund will be "covered." A
call (or put) option is covered if a Fund holds another call (or put) option on
the spread between the same two securities and maintains in a segregated account
with its custodian cash or liquid assets sufficient to cover the Fund's net
liability under the two options. Therefore, a Fund's liability for such a
covered option is generally limited to the difference between the amount of the
Fund's liability under the option written by the Fund less the value of the
option held by the Fund. Yield curve options may also be covered in such other
manner as may be in accordance with the requirements of the counterparty with
which the option is traded and applicable laws and regulations. Yield curve
options are traded over-the-counter, and because they have been only recently
introduced, established trading markets for these options have not yet
developed.
Risks Associated with Options Transactions. There is no assurance that a
------------------------------------------
liquid secondary market on a domestic or foreign options exchange will exist for
any particular exchange-traded option or at any particular time. If an
Underlying Fund is unable to effect a closing purchase transaction with respect
to covered options it has written, the Fund will not be able to sell the
underlying securities or dispose of assets held in a segregated account until
the options expire or are exercised. Similarly, if a Fund is unable to effect a
closing sale transaction with respect to options it has purchased, it will have
to exercise the options in order to realize any profit and will incur
transaction costs upon the purchase or sale of underlying securities.
Reasons for the absence of a liquid secondary market on an exchange include
the following: (i) there may be insufficient trading interest in certain
options; (ii) restrictions may be imposed by an exchange on opening or closing
transactions or both; (iii) trading halts, suspensions or other restrictions may
be imposed with respect to particular classes or series of options; (iv) unusual
or unforeseen circumstances may interrupt normal operations on an exchange; (v)
the facilities of an exchange or the Options Clearing Corporation may not at all
times be adequate to handle current trading volume; or (vi) one or more
exchanges could, for economic or other reasons, decide or be compelled at some
future date to discontinue the trading of options (or a particular
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class or series of options), in which event the secondary market on that
exchange (or in that class or series of options) would cease to exist, although
outstanding options on that exchange that had been issued by the Options
Clearing Corporation as a result of trades on that exchange would continue to be
exercisable in accordance with their terms.
An Underlying Fund may purchase and sell both options that are traded on
U.S. and foreign exchanges and options traded over-the-counter with broker-
dealers who make markets in these options. The ability to terminate over-the-
counter options is more limited than with exchange-traded options and may
involve the risk that broker-dealers participating in such transactions will not
fulfill their obligations.
Transactions by an Underlying Fund in options on securities and indices
will be subject to limitations established by each of the exchanges, boards of
trade or other trading facilities on which such options are traded governing the
maximum number of options in each class which may be written or purchased by a
single investor or group of investors acting in concert regardless of whether
the options are written or purchased on the same or different exchanges, boards
of trade or other trading facilities or are held or written in one or more
accounts or through one or more brokers. Thus, the number of options which a
Fund may write or purchase may be affected by options written or purchased by
other investment advisory clients of the Funds' investment advisers. An
exchange, board of trade or other trading facility may order the liquidation of
positions found to be in excess of these limits, and it may impose certain other
sanctions.
The writing and purchase of options is a highly specialized activity which
involves investment techniques and risks different from those associated with
ordinary portfolio securities transactions. The successful use of protective
puts for hedging purposes depends in part on the ability of a Fund's investment
adviser to predict future price fluctuations and the degree of correlation
between the options and securities markets.
WARRANTS AND STOCK PURCHASE RIGHTS
Certain of the Underlying Funds may invest a portion of their assets in
warrants or rights (including those acquired in units or attached to other
securities) which entitle the holder to buy
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equity securities at a specific price for a specific period of time. A Fund will
invest in warrants and rights only if such securities are deemed appropriate by
its investment adviser for investment by the Fund. Warrants and rights have no
voting rights, receive no dividends and have no rights with respect to the
assets of the issuer.
FOREIGN INVESTMENTS
Investments in foreign securities may offer potential benefits not
available from investments solely in U.S. dollar-denominated or quoted
securities of domestic issuers. Such benefits may include the opportunity to
invest in foreign issuers that appear, in the opinion of an Underlying Fund's
investment adviser, to offer better opportunity for long-term growth of capital
and income than investments in U.S. securities, the opportunity to invest in
foreign countries with economic policies or business cycles different from those
of the United States and the opportunity to reduce fluctuations in portfolio
value by taking advantage of foreign securities markets that do not necessarily
move in a manner parallel to U.S. markets.
Investing in foreign securities involves certain special considerations,
including those set forth below, which are not typically associated with
investing in U.S. dollar-denominated or quoted securities of U.S. issuers.
Investments in foreign securities usually involve currencies of foreign
countries. Accordingly, any Underlying Fund that invests in foreign securities
may be affected favorably or unfavorably by changes in currency rates and in
exchange control regulations and may incur costs in connection with conversions
between various currencies. An Underlying Fund may be subject to currency
exposure independent of its securities positions.
Currency exchange rates may fluctuate significantly over short periods of
time. They generally are determined by the forces of supply and demand in the
foreign exchange markets and the relative merits of investments in different
countries, actual or anticipated changes in interest rates and other complex
factors, as seen from an international perspective. Currency exchange rates also
can be affected unpredictably by intervention by U.S. or foreign governments or
central banks or the failure to intervene or by currency controls or political
developments in the United States or abroad. To the extent that a substantial
portion of a Fund's total assets, adjusted to reflect the Fund's net position
after giving effect to currency transactions, is denominated or quoted in the
currencies of foreign countries, the Fund will be more susceptible to the risk
of adverse economic and political developments within those countries. A Fund's
net currency positions may expose it to risks independent of its securities
positions. In addition, if the currency in which a Fund receives dividends,
interest or other payment declines in value against the U.S. dollar before such
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income is distributed as dividends to shareholders or converted to U.S. dollars,
the Fund may have to sell portfolio securities to obtain sufficient cash to pay
such dividends.
Since foreign issuers generally are not subject to uniform accounting,
auditing and financial reporting standards, practices and requirements
comparable to those applicable to U.S. companies, there may be less publicly
available information about a foreign company than about a U.S. company. Volume
and liquidity in most foreign securities markets are less than in the United
States and securities of many foreign companies are less liquid and more
volatile than securities of comparable U.S. companies. Fixed commissions on
foreign securities exchanges are generally higher than negotiated commissions on
U.S. exchanges, although each Underlying Fund endeavors to achieve the most
favorable net results on its portfolio transactions. There is generally less
government supervision and regulation of foreign securities exchanges, brokers,
dealers and listed and unlisted companies than in the United States. Mail
service between the United States and foreign countries may be slower or less
reliable than within the United States, thus increasing the risk of delayed
settlement of portfolio transactions or loss of certificates for portfolio
securities.
Foreign markets also have different clearance and settlement procedures,
and in certain markets there have been times when settlements have been unable
to keep pace with the volume of securities transactions, making it difficult to
conduct such transactions. Such delays in settlement could result in temporary
periods when some of an Underlying Fund's assets are uninvested and no return is
earned on such assets. The inability of a Fund to make intended security
purchases due to settlement problems could cause the Fund to miss attractive
investment opportunities. Inability to dispose of portfolio securities due to
settlement problems could result either in losses to a Fund due to subsequent
declines in value of the portfolio securities or, if the Fund has entered into a
contract to sell the securities, could result in possible liability to the
purchaser. In addition, with respect to certain foreign countries, there is the
possibility of expropriation or confiscatory taxation, political or social
instability, or diplomatic developments which could affect a Fund's investments
in those countries. Moreover, individual foreign economies may differ favorably
or unfavorably from the U.S. economy in such respects as growth of gross
national product, rate of inflation, capital reinvestment, resource self-
sufficiency and balance of payments position.
Investments in foreign securities may take the form of sponsored and
unsponsored American Depository Receipts ("ADRs"), Global Depository Receipts
("GDRs"), European Depository Receipts ("EDRs") or other similar instruments
representing securities of foreign issuers (together, "Depository Receipts").
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ADRs represent the right to receive securities of foreign issuers deposited
in a domestic bank or a correspondent bank. ADRs are traded on domestic
exchanges or in the U.S. over-the-counter market and, generally, are in
registered form. EDRs and GDRs are receipts evidencing an arrangement with a
non-U.S. bank similar to that for ADRs and are designed for use in the non-U.S.
securities markets. EDRs and GDRs are not necessarily quoted in the same
currency as the underlying security.
To the extent an Underlying Fund acquires Depository Receipts through banks
which do not have a contractual relationship with the foreign issuer of the
security underlying the Depository Receipts to issue and service such Depository
Receipts (unsponsored), there may be an increased possibility that the Fund
would not become aware of and be able to respond to corporate actions such as
stock splits or rights offerings involving the foreign issuer in a timely
manner. In addition, the lack of information may result in inefficiencies in
the valuation of such instruments.
Certain of the Underlying Funds may invest in countries with emerging
economies or securities markets. Political and economic structures in many of
such countries may be undergoing significant evolution and rapid development,
and such countries may lack the social, political and economic stability
characteristic of more developed countries. Certain of such countries may have
in the past failed to recognize private property rights and have at times
nationalized or expropriated the assets of private companies. As a result, the
risks described above, including the risks of nationalization or expropriation
of assets, may be heightened. See "Investing in Emerging Markets" below.
Certain of the Underlying Funds may invest in securities of issuers
domiciled in a country other than the country in whose currency the instrument
is denominated or quoted. The Funds may also invest in securities quoted or
denominated in the European Currency Unit ("ECU"), which is a "basket"
consisting of specified amounts of the currencies of certain of the member
states of the European Community. The specific amounts of currencies comprising
the ECU may be adjusted by the Council of Ministers of the European
Community from time to time to reflect changes in relative values of the
underlying currencies. In addition, the Funds may invest in securities quoted
or denominated in other currency "baskets."
Investing in Emerging Markets. CORE International Equity, International
-----------------------------
Equity, Asia Growth and Emerging Markets Equity Funds are intended for long-term
investors who can accept the risks associated with investing primarily in equity
and equity-related securities of foreign issuers, including Emerging Countries
issuers, as well as the risks associated with investments quoted or denominated
in foreign currencies. Growth and Income, CORE International Equity, Small Cap
Equity, Mid Cap Equity and Capital Growth Funds may invest, to a lesser extent,
in equity and equity-
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related securities of foreign issuers, including Emerging Countries issuers. The
Core Fixed Income, Global Income and High Yield Bond Funds may invest in debt
securities of foreign issuers, including Emerging Markets. In addition, certain
of the potential investment and management techniques of these Funds entail
special risks.
The pace of change in many Emerging Countries, and in particular those in
Asia, over the last 10 years has been rapid. Accelerating economic growth in
the region has combined with capital market development, high government
expenditure, increasing consumer wealth and taxation policies favoring company
expansion. As a result, stock market returns in many Emerging Countries have
been relatively attractive.
Each of the securities markets of the Emerging Countries is less liquid and
subject to greater price volatility and has a smaller market capitalization than
the U.S. securities markets. Issuers and securities markets in such countries
are not subject to as extensive and frequent accounting, financial and other
reporting requirements or as comprehensive government regulations as are issuers
and securities markets in the U.S. In particular, the assets and profits
appearing on the financial statements of Emerging Country issuers may not
reflect their financial position or results of operations in the same manner as
financial statements for U.S. issuers. Substantially less information may be
publicly available about Emerging Country issuers than is available about
issuers in the United States.
Certain of the Emerging Country securities markets are marked by a high
concentration of market capitalization and trading volume in a small number of
issuers representing a limited number of industries, as well as a high
concentration of ownership of such securities by a limited number of investors.
The markets for securities in certain Emerging Countries are in the earliest
stages of their development. Even the markets for relatively widely traded
securities in Emerging Countries may not be able to absorb, without price
disruptions, a significant increase in trading volume or trades of a size
customarily undertaken by institutional investors in the securities markets of
developed countries. Additionally, market making and arbitrage activities are
generally less extensive in such markets, which may contribute to increased
volatility and reduced liquidity of such markets. The less liquid the market,
the more difficult it may be for an Underlying Fund to accurately price its
portfolio securities or to dispose of such securities at the times determined to
be appropriate. The risks associated with reduced liquidity may be particularly
acute to the extent that a Fund needs cash to meet redemption requests, to pay
dividends and other distributions or to pay its expenses.
Transaction costs, including brokerage commissions or dealer mark-ups, in
Emerging Countries may be higher than in the United States and other developed
securities markets. In addition,
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existing laws and regulations are often inconsistently applied. As legal systems
in Emerging Countries develop, foreign investors may be adversely affected by
new or amended laws and regulations. In circumstances where adequate laws exist,
it may not be possible to obtain swift and equitable enforcement of the law.
Foreign investment in the securities markets of several of the Asian
countries is restricted or controlled to varying degrees. These restrictions
may limit an Underlying Fund's investment in certain of the Asian countries and
may increase the expenses of the Fund. Certain Emerging Countries require
governmental approval prior to investments by foreign persons or limit
investment by foreign persons to only a specified percentage of an issuer's
outstanding securities or a specific class of securities which may have less
advantageous terms (including price) than securities of the company available
for purchase by nationals. In addition, the repatriation of both investment
income and capital from several of the Emerging Countries is subject to
restrictions such as the need for certain governmental consents. Even where
there is no outright restriction on repatriation of capital, the mechanics of
repatriation may affect certain aspects of the operation of a Fund. A Fund may
be required to establish special custodial or other arrangements before
investing in certain emerging countries.
Emerging Countries may be subject to a greater degree of economic,
political and social instability than is the case in the United States, Japan
and most Western European countries. Such instability may result from, among
other things, the following: (i) authoritarian governments or military
involvement in political and economic decision making, including changes or
attempted changes in governments through extra-constitutional means; (ii)
popular unrest associated with demands for improved political, economic or
social conditions; (iii) internal insurgencies; (iv) hostile relations with
neighboring countries; and (v) ethnic, religious and racial disaffection or
conflict. Such economic, political and social instability could disrupt the
principal financial markets in which the Underlying Funds may invest and
adversely affect the value of the Funds' assets.
The economies of Emerging Countries may differ unfavorably from the U.S.
economy in such respects as growth of gross domestic product, rate of inflation,
capital reinvestment, resources, self-sufficiency and balance of payments. Many
Emerging Countries have experienced in the past, and continue to experience,
high rates of inflation. In certain countries inflation has at times
accelerated rapidly to hyperinflationary levels, creating a negative interest
rate environment and sharply eroding the value of outstanding financial assets
in those countries. The economies of many Emerging Countries are heavily
dependent upon international trade and are accordingly affected by protective
trade barriers and the economic conditions of their trading partners. In
addition, the
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economies of some Emerging Countries are vulnerable to weakness in world prices
for their commodity exports.
An Underlying Fund's income and, in some cases, capital gains from foreign
stocks and securities will be subject to applicable taxation in certain of the
countries in which it invests, and treaties between the U.S. and such countries
may not be available in some cases to reduce the otherwise applicable tax rates.
Securities markets of emerging markets may also have less efficient
clearance and settlement procedures than U.S. markets, making it difficult to
conduct and complete transactions. Delays in settlement could result in
temporary periods when a portion of an Underlying Fund's assets is uninvested
and settlement could result in temporary periods when a portion of the Fund's
assets is uninvested and no return is earned thereon. Inability to make
intended security purchases could cause a Fund to miss attractive investment
opportunities. Inability to dispose of portfolio securities could result either
in losses to the Fund due to subsequent declines in value of the portfolio
security or, if the Fund has entered into a contract to sell the security, could
result in possible liability of the Fund to the purchaser.
SOVEREIGN DEBT OBLIGATIONS. Investments in sovereign debt obligations
involves special risks not present in corporate debt obligations. The issuer of
the sovereign debt or the governmental authorities that control the repayment of
the debt may be unable or unwilling to repay principal or interest when due, and
an Underlying Fund may have limited recourse in the event of a default. During
periods of economic uncertainty, the market prices of sovereign debt, and a
Fund's net asset value, may be more volatile than prices of debt obligations of
U.S. issuers. In the past, the governments of certain emerging markets have
encountered difficulties in servicing their debt obligations, withheld payments
of principal and interest and declared moratoria on the payment of principal and
interest on their sovereign debts.
A sovereign debtor's willingness or ability to repay principal and pay
interest in a timely manner may be affected by, among other factors, its cash
flow situation, the extent of its foreign currency reserves, the availability of
sufficient foreign exchange, the relative size of the debt service burden, the
sovereign debtor's policy toward principal international lenders and local
political constraints. Sovereign debtors may also be dependent on expected
disbursements from foreign governments, multinational agencies and other
entities to reduce principal and interest arrearages on their debt. The failure
of a sovereign debtor to implement economic reforms, achieve specified levels of
economic performance or repay principal or interest when due may result in the
cancellation of the third parties' commitments to lend funds to the sovereign
debtor, which may further impair such debtor's ability or willingness to timely
service its debts.
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FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS. Certain of the Underlying
Funds may enter into forward foreign currency exchange contracts for hedging
purposes. CORE International Equity, International Equity, Global Income and
High Yield Funds may also enter into forward foreign currency exchange contracts
to seek to increase total return. A forward foreign currency exchange contract
involves an obligation to purchase or sell a specific currency at a future date,
which may be any fixed number of days from the date of the contract agreed upon
by the parties, at a price set at the time of the contract. These contracts are
traded in the interbank market conducted directly between currency traders
(usually large commercial banks) and their customers. A forward contract
generally has no deposit requirement, and no commissions are generally charged
at any stage for trades.
At the maturity of a forward contract an Underlying Fund may either accept
or make delivery of the currency specified in the contract or, at or prior to
maturity, enter into a closing transaction involving the purchase or sale of an
offsetting contract. Closing transactions with respect to forward contracts are
usually effected with the currency trader who is a party to the original forward
contract.
An Underlying Fund may enter into forward foreign currency exchange
contracts in several circumstances. First, when a Fund enters into a contract
for the purchase or sale of a security denominated or quoted in a foreign
currency, or when a Fund anticipates the receipt in a foreign currency of
dividend or interest payments on such a security which it holds, the Fund may
desire to "lock in" the U.S. dollar price of the security or the U.S. dollar
equivalent of such dividend or interest payment, as the case may be. By
entering into a forward contract for the purchase or sale, for a fixed amount of
dollars, of the amount of foreign currency involved in the underlying
transactions, the Fund will attempt to protect itself against an adverse change
in the relationship between the U.S. dollar and the subject foreign currency
during the period between the date on which the security is purchased or sold,
or on which the dividend or interest payment is declared, and the date on which
such payments are made or received.
Additionally, when an Underlying Fund's investment adviser believes that
the currency of a particular foreign country may suffer a substantial decline
against the U.S. dollar, it may enter into a forward contract to sell, for a
fixed amount of U.S. dollars, the amount of foreign currency approximating the
value of some or all of a Fund's portfolio securities quoted or denominated in
such foreign currency. 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 those securities between the
date on
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which the contract is entered into and the date it matures. Using forward
contracts to protect the value of a Fund's portfolio securities against a
decline in the value of a currency does not eliminate fluctuations in the
underlying prices of the securities. It simply establishes a rate of exchange
which a Fund can achieve at some future point in time. The precise projection of
short-term currency market movements is not possible, and short-term hedging
provides a means of fixing the U.S. dollar value of only a portion of a Fund's
foreign assets.
The CORE International Equity, International Equity, Emerging Markets
Equity, Asia Growth, Core Fixed Income, Global Income and High Yield Funds may
engage in cross-hedging by using forward contracts in one currency to hedge
against fluctuations in the value of securities quoted or denominated in a
different currency if a Fund's investment adviser determines that there is a
pattern of correlation between the two currencies. These Funds may also
purchase and sell forward contracts to seek to increase total return when a
Fund's investment adviser anticipates that the foreign currency will appreciate
or depreciate in value, but securities quoted or denominated in that currency do
not present attractive investment opportunities and are not held in the Fund's
portfolio.
A Fund's custodian will place cash or liquid assets into a segregated
account of such Fund in an amount equal to the value of the Fund's total assets
committed to the consummation of forward foreign currency exchange contracts
requiring the Fund to purchase foreign currencies and forward contracts entered
into to seek to increase total return. If the value of the securities placed in
the segregated account declines, additional cash or liquid assets will be placed
in the account on a daily basis so that the value of the account will equal the
amount of a Fund's commitments with respect to such contracts. The segregated
account will be marked-to-market on a daily basis. Although the contracts are
not presently regulated by the CFTC, the CFTC may in the future assert authority
to regulate these contracts. In such event, a Fund's ability to utilize forward
foreign currency exchange contracts may be restricted. The Core Fixed Income,
Global Income and High Yield Funds will not enter into a forward contract with a
term of greater than one year.
While an Underlying Fund will enter into forward contracts to reduce
currency exchange rate risks, transactions in such contracts involve certain
other risks. Thus, while a Fund may benefit from such transactions,
unanticipated changes in currency prices may result in a poorer overall
performance for the Fund than if it had not engaged in any such transactions.
Moreover, there may be imperfect correlation between a Fund's portfolio holdings
of securities quoted or denominated in a particular currency and forward
contracts entered into by such Fund. Such imperfect correlation may cause a
Fund to sustain losses which will prevent
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the Fund from achieving a complete hedge or expose the Fund to risk of foreign
exchange loss.
Markets for trading foreign forward currency contracts offer less
protection against defaults than is available when trading in currency
instruments on an exchange. Since a forward foreign currency exchange contract
is not guaranteed by an exchange or clearinghouse, a default on the contract
would deprive an Underlying Fund of unrealized profits or force the Fund to
cover its commitments for purchase or resale, if any, at the current market
price.
Forward contracts are subject to the risk that the counterparty to such
contract will default on its obligations. Since a forward foreign currency
exchange contract is not guaranteed by an exchange or clearinghouse, a default
on the contract would deprive an Underlying Fund of unrealized profits,
transaction costs or the benefits of a currency hedge or force the Fund to cover
its purchase or sale commitments, if any, at the current market price. A Fund
will not enter into such transactions unless the credit quality of the unsecured
senior debt or the claims-paying ability of the counterparty is considered to be
investment grade by its investment adviser. Because of the limited market for
these instruments with respect to the currencies of many Emerging Countries, it
is not currently anticipated that a significant portion of Emerging Markets
Equity and Asia Growth Fund's currency exposure will be covered by such
instruments.
WRITING AND PURCHASING CURRENCY CALL AND PUT OPTIONS. Certain of the
Underlying Funds may write covered put and call options and purchase put and
call options on foreign currencies for the purpose of protecting against
declines in the U.S. dollar value of portfolio securities and against increases
in the U.S. dollar cost of securities to be acquired. As with other kinds of
option transactions, however, the writing of an option on foreign currency will
constitute only a partial hedge, up to the amount of the premium received. If
and when a Fund seeks to close out an option, the Fund could be required to
purchase or sell foreign currencies at disadvantageous exchange rates, thereby
incurring losses. The purchase of an option on foreign 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 transaction costs. Options on foreign
currencies to be written or purchased by a Fund will be traded on U.S. and
foreign exchanges or over-the-counter.
CORE International Equity, International Equity, Emerging Markets Equity,
Asia Growth, Core Fixed Income, Global Income and High Yield Funds may use
options on currency to cross-hedge, which involves writing or purchasing options
on one currency to hedge against changes in exchange rates for a different
currency with a
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pattern of correlation. In addition, certain Underlying Funds may purchase call
options on currency to seek to increase total return when its investment adviser
anticipates that the currency will appreciate in value, but the securities
quoted or denominated in that currency do not present attractive investment
opportunities and are not included in the Fund's portfolio.
A call option written by an Underlying Fund obligates a Fund to sell
specified currency to the holder of the option at a specified price if the
option is exercised before the expiration date. A put option written by a Fund
would obligate a Fund to purchase specified currency from the option holder at a
specified price if the option is exercised at any time before the expiration
date. The writing of currency options involves a risk that a Fund will, upon
exercise of the option, be required to sell currency subject to a call at a
price that is less than the currency's market value or be required to purchase
currency subject to a put at a price that exceeds the currency's market value.
For a description of how to cover written put and call options, see "Writing
Covered Options" above.
An Underlying Fund may terminate its obligations under a call or put option
by purchasing an option identical to the one it has written. Such purchases are
referred to as "closing purchase transactions." A Fund would also be able to
enter into closing sale transactions in order to realize gains or minimize
losses on options purchased by the Fund.
An Underlying Fund would normally purchase call options on foreign currency
in anticipation of an increase in the U.S. dollar value of currency in which
securities to be acquired by a Fund are quoted or denominated. The purchase of
a call option would entitle the Fund, in return for the premium paid, to
purchase specified currency at a specified price during the option period. A
Fund would ordinarily realize a gain if, during the option period, the value of
such currency exceeded the sum of the exercise price, the premium paid and
transaction costs; otherwise the Fund would realize either no gain or a loss on
the purchase of the call option.
An Underlying Fund would normally purchase put options in anticipation of a
decline in the U.S. dollar value of currency in which securities in its
portfolio are quoted or denominated ("protective puts"). The purchase of a put
option would entitle a Fund, in exchange for the premium paid, to sell specified
currency at a specified price during the option period. The purchase of
protective puts is designed merely to offset or hedge against a decline in the
dollar value of a Fund's portfolio securities due to currency exchange rate
fluctuations. A Fund would ordinarily realize a gain if, during the option
period, the value of the underlying currency decreased below the exercise price
sufficiently to more than cover the premium and transaction costs; otherwise the
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Fund would realize either no gain or a loss on the purchase of the put option.
Gains and losses on the purchase of protective put options would tend to be
offset by countervailing changes in the value of underlying currency or
portfolio securities.
In addition to using options for the hedging purposes described above,
certain Underlying Funds may use options on currency to seek to increase total
return. These Funds may write (sell) covered put and call options on any
currency in order to realize greater income than would be realized on portfolio
securities transactions alone. However, in writing covered call options for
additional income, a Fund may forego the opportunity to profit from an increase
in the market value of the underlying currency. Also, when writing put
options, a Fund accepts, in return for the option premium, the risk that it may
be required to purchase the underlying currency at a price in excess of the
currency's market value at the time of purchase.
An Underlying Fund would normally purchase call options to seek to increase
total return in anticipation of an increase in the market value of a currency.
A Fund would ordinarily realize a gain if, during the option period, the value
of such currency exceeded the sum of the exercise price, the premium paid and
transaction costs. Otherwise the Fund would realize either no gain or a loss on
the purchase of the call option. Put options may be purchased by a Fund for the
purpose of benefiting from a decline in the value of currencies which it does
not own. A Fund would ordinarily realize a gain if, during the option period,
the value of the underlying currency decreased below the exercise price
sufficiently to more than cover the premium and transaction costs. Otherwise
the Fund would realize either no gain or a loss on the purchase of the put
option.
SPECIAL RISKS ASSOCIATED WITH OPTIONS ON CURRENCY. An exchange traded
options position may be closed out only on an options exchange which provides a
secondary market for an option of the same series. There is no assurance that a
liquid secondary market on an exchange will exist for any particular option, or
at any particular time. In such event, it might not be possible to effect
closing transactions in particular options, with the result that a Fund would
have to exercise its options in order to realize any profit and would incur
transaction costs upon the sale of underlying securities pursuant to the
exercise of put options. If an Underlying Fund as a covered call option writer
is unable to effect a closing purchase transaction in a secondary market, it
will not be able to sell the underlying currency (or security quoted or
denominated in that currency) until the option expires or it delivers the
underlying currency upon exercise.
There is no assurance that higher than anticipated trading activity or
other unforeseen events might not, at times, render certain of the facilities of
the Options Clearing Corporation
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inadequate, and thereby result in the institution by an exchange of special
procedures which may interfere with the timely execution of customers' orders.
An Underlying Fund may purchase and write over-the-counter options to the
extent consistent with its limitation on investments in illiquid securities.
Trading in over-the-counter options is subject to the risk that the other party
will be unable or unwilling to close out options purchased or written by a Fund.
The amount of the premiums which a Fund may pay or receive may be adversely
affected as new or existing institutions, including other investment companies,
engage in or increase their option purchasing and writing activities.
MORTGAGE DOLLAR ROLLS
The Underlying Fixed Income Funds may enter into mortgage "dollar rolls" in
which a Fund sells securities for delivery in the current month and
simultaneously contracts with the same counterparty to repurchase similar (same
type, coupon and maturity), but not identical securities on a specified future
date. During the roll period, a Fund loses the right to receive principal and
interest paid on the securities sold. However, a Fund would benefit to the
extent of any difference between the price received for the securities sold and
the lower forward price for the future purchase (often referred to as the
"drop") or fee income plus the interest earned on the cash proceeds of the
securities sold until the settlement date of the forward purchase. Unless such
benefits exceed the income, capital appreciation and gain or loss due to
mortgage prepayments that would have been realized on the securities sold as
part of the mortgage dollar roll, the use of this technique will diminish the
investment performance of a Fund compared with what such performance would have
been without the use of mortgage dollar rolls. All cash proceeds will be
invested in instruments that are permissible investments for the applicable
Fund. A Fund will hold and maintain in a segregated account until the settlement
date cash or liquid assets, as permitted by applicable law, in an amount equal
to its forward purchase price.
For financial reporting and tax purposes, the Underlying Funds treat
mortgage dollar rolls as two separate transactions; one involving the purchase
of a security and a separate transaction involving a sale. The Funds do not
currently intend to enter into mortgage dollar rolls that are accounted for as a
financing.
Mortgage dollar rolls involve certain risks including the following: if
the broker-dealer to whom an Underlying Fund sells the security becomes
insolvent, a Fund's right to purchase or repurchase the mortgage-related
securities subject to the mortgage dollar roll may be restricted and the
instrument which
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a Fund is required to repurchase may be worth less than an instrument which a
Fund originally held. Successful use of mortgage dollar rolls will depend upon
the ability of a Fund's investment adviser to manage a Fund's interest rate and
mortgage prepayments exposure. For these reasons, there is no assurance that
mortgage dollar rolls can be successfully employed.
CONVERTIBLE SECURITIES
Convertible securities include corporate notes or preferred stock but are
ordinarily long-term debt obligation of the issuer convertible at a stated
exchange rate into common stock of the issuer. As with all debt securities, the
market value of convertible securities tends to decline as interest rates
increase and, conversely, to increase as interest rates decline. Convertible
securities generally offer lower interest or dividend yields than non-
convertible securities of similar quality. However, when the market price of
the common stock underlying a convertible security exceeds the conversion price,
the price of the convertible security tends to reflect the value of the
underlying common stock. As the market price of the underlying common stock
declines, the convertible security tends to trade increasingly on a yield basis,
and thus may not depreciate to the same extent as the underlying common stock.
Convertible securities rank senior to common stocks in an issuer's capital
structure and consequently entail less risk than the issuer's common stock.
CURRENCY SWAPS, MORTGAGE SWAPS, INDEX SWAPS AND INTEREST RATE SWAPS, CAPS,
FLOORS AND COLLARS
The CORE International Equity, International Equity, Emerging Markets
Equity, Asia Growth, Core Fixed Income, Global Income and High Yield Funds may
enter into currency swaps for both hedging purposes and to seek to increase
total return. In addition, the Underlying Fixed Income Funds may enter into
mortgage, index and interest rate swaps and other interest rate swap
arrangements such as rate caps, floors and collars, for hedging purposes or to
seek to increase total return. Currency swaps involve the exchange by an
Underlying Fund with another party of their respective rights to make or receive
payments in specified currencies. Interest rate swaps involve the exchange by a
Fund with another party of their respective commitments to pay or receive
interest, such as an exchange of fixed rate payments for floating rate payments.
Mortgage swaps are similar to interest rate swaps in that they represent
commitments to pay and receive interest. The notional principal amount, however,
is tied to a reference pool or pools of mortgages. Index swaps involve the
exchange by a Fund with another party of the respective amounts payable with
respect to a notional principal amount at interest rates equal to two specified
indices. The purchase of an interest rate cap entitles the purchaser, to the
extent that a specified index exceeds a predetermined interest rate, to receive
payment of interest on a notional principal amount from the party selling such
interest rate cap. The purchase of an
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interest rate floor entitles the purchaser, to the extent that a specified index
falls below a predetermined interest rate, to receive payments of interest on a
notional principal amount from the party selling the interest rate floor. An
interest rate collar is the combination of a cap and a floor that preserves a
certain return within a predetermined range of interest rates. Since interest
rate, mortgage and currency swaps and interest rate caps, floors and collars are
individually negotiated, each Fund expects to achieve an acceptable degree of
correlation between its portfolio investments and its swap, cap, floor and
collar positions.
An Underlying Fund will enter into interest rate, mortgage and index swaps
only on a net basis, which means that 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. Interest rate, index and mortgage swaps do not involve the
delivery of securities, other underlying assets or principal. Accordingly, the
risk of loss with respect to interest rate, index and mortgage swaps is limited
to the net amount of interest payments that the Fund is contractually obligated
to make. If the other party to an interest rate, index or mortgage swap
defaults, the Fund's risk of loss consists of the net amount of interest
payments that the Fund is contractually entitled to receive, if any. In
contrast, currency swaps usually involve the delivery of a gross payment stream
in one designated currency in exchange for the gross payment stream in another
designated currency. Therefore, the entire payment stream under a currency swap
is subject to the risk that the other party to the swap will default on its
contractual delivery obligations. To the extent that the net amount payable
under an interest rate, index or mortgage swap and the entire amount of the
payment stream payable by a Fund under a currency swap or an interest rate
floor, cap or collar is held in a segregated account consisting of cash or
liquid assets the Funds and their investment advisers believe that transactions
do not constitute senior securities under the Act and, accordingly, will not
treat them as being subject to a Fund's borrowing restrictions.
An Underlying Equity Fund will not enter into swap transactions unless the
unsecured commercial paper, senior debt or claims paying ability of the other
party thereto is considered to be investment grade by its investment adviser.
The Underlying Fixed Income Funds will not enter into any swap transactions
unless the unsecured commercial paper, senior debt or claims-paying ability of
the other party is rated either AA or A-1 or better by Standard & Poor's or Aa
or P-1 or better by Moody's or their equivalent ratings. If there is a default
by the other party to such a transaction, a Fund will have contractual remedies
pursuant to the agreements 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
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become relatively liquid in comparison with the markets for other similar
instruments which are traded in the interbank market.
The use of interest rate, mortgage, index and currency swaps, as well as
interest rate caps, floors and collars, is a highly specialized activity which
involves investment techniques and risks different from those associated with
ordinary portfolio securities transactions. If an Underlying Fund's investment
adviser is incorrect in its forecasts of market values, interest rates and
currency exchange rates, the investment performance of a Fund would be less
favorable than it would have been if this investment technique were not used.
REAL ESTATE INVESTMENT TRUSTS
The Underlying Equity Funds may invest in shares of REITs. REITs are
pooled investment vehicles which invest primarily in income producing real
estate or real estate related loans or interest. REITs are generally classified
as equity REITs, mortgage REITs or a combination of equity and mortgage REITs.
Equity REITs invest the majority of their assets directly in real property and
derive income primarily from the collection of rents. Equity REITs can also
realize capital gains by selling properties that have appreciated in value.
Mortgage REITs invest the majority of their assets in real estate mortgages and
derive income from the collection of interest payments. Like regulated
investment companies such as the Underlying Funds, REITs are not taxed on income
distributed to shareholders provided they comply with certain requirements under
the Code. A Fund will indirectly bear its proportionate share of any expenses
paid by REITs in which it invests in addition to the expenses paid by a Fund.
Investing in REITs involves certain unique risks. Equity REITs may be
affected by changes in the value of the underlying property owned by such REITs,
while mortgage REITs may be affected by the quality of any credit extended.
REITs are dependent upon management skills, are not diversified (except to the
extent the Code requires), and are subject to the risks of financing projects.
REITs are subject to heavy cash flow dependency, default by borrowers, self-
liquidation, and the possibilities of failing to qualify for the exemption from
tax for distributed income under the Code and failing to maintain their
exemptions from the Investment Company Act of 1940, as amended (the "Act").
REITs (especially mortgage REITs) are also subject to interest rate risks.
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LENDING OF PORTFOLIO SECURITIES
The Underlying Funds may lend portfolio securities. Under present
regulatory policies, such loans may be made to institutions such as brokers or
dealers and would be required to be secured continuously by collateral in cash,
cash equivalents or U.S. Government securities maintained on a current basis at
an amount at least equal to the market value of the securities loaned. A Fund
would be required to have the right to call a loan and obtain the securities
loaned at any time on five days' notice. For the duration of a loan, a Fund
would continue to receive the equivalent of the interest or dividends paid by
the issuer on the securities loaned and would also receive compensation from
investment of the collateral. A Fund would not have the right to vote any
securities having voting rights during the existence of the loan, but a Fund
would call the loan in anticipation of an important vote to be taken among
holders of the securities or the giving or withholding of their consent on a
material matter affecting the investment. As with other extensions of credit
there are risks of delay in recovering, or even loss of rights in, the
collateral should the borrower of the securities fail financially. However, the
loans would be made only to firms deemed by an Underlying Fund's investment
adviser to be of good standing, and when, in the judgment of a Fund's investment
adviser, the consideration which can be earned currently from securities loans
of this type justifies the attendant risk. If an investment adviser determines
to make securities loans, it is intended that the value of the securities loaned
would not exceed one-third of the value of the total assets of a Fund.
WHEN-ISSUED SECURITIES AND FORWARD COMMITMENTS
Each Underlying Fund may purchase securities on a when-issued basis or
purchase or sell securities on a forward commitment basis. These transactions
involve a commitment by a Fund to purchase or sell securities at a future date.
The price of the underlying securities (usually expressed in terms of yield) and
the date when the securities will be delivered and paid for (the settlement
date) are fixed at the time the transaction is negotiated. When-issued purchases
and forward commitment transactions are negotiated directly with the other
party, and such commitments are not traded on exchanges. A Fund will purchase
securities on a when-issued basis or purchase or sell securities on a forward
commitment basis only with the intention of completing the transaction and
actually purchasing or selling the securities. If deemed advisable as a matter
of investment strategy, however, a Fund may dispose of or negotiate a commitment
after entering into it. A Fund may also sell securities it has committed to
purchase before those securities are delivered to the Fund on the settlement
date. The Funds may also realize a capital gain or loss in connection with these
transactions. For purposes of determining a Fund's duration, the maturity of
when-issued or forward commitment securities will
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be calculated from the commitment date. A Fund is required to hold and maintain
in a segregated account with the Fund's custodian until three days prior to the
settlement date, cash and liquid assets in an amount sufficient to meet the
purchase price. Alternatively, a Fund may enter into offsetting contracts for
the forward sale of other securities that it owns. Securities purchased or sold
on a when-issued or forward commitment basis involve a risk of loss if the value
of the security to be purchased declines prior to the settlement date or if the
value of the security to be sold increases prior to the settlement date.
INVESTMENT IN UNSEASONED COMPANIES
The Underlying Funds may invest a portion of their net assets in companies
(including predecessors) which have operated less than three years, except that
this limitation does not apply to debt securities which have been rated
investment grade or better by at least one nationally recognized statistical
rating organization. The securities of such companies may have limited
liquidity, which can result in their being priced higher or lower than might
otherwise be the case. In addition, investments in unseasoned companies are
more speculative and entail greater risk than do investments in companies with
an established operating record.
OTHER INVESTMENT COMPANIES
Each Underlying Equity Fund reserves the right to invest up to 5% and each
Underlying Fixed Income Fund reserves the right to invest up to 10% of its net
assets in the securities of other investment companies but may not invest more
than 5% of its total assets in the security of one investment company or acquire
more than 3% of the voting securities of any other investment company. Pursuant
to an exemptive order obtained from the SEC, the Underlying Funds may invest in
money market funds for which the Adviser or any of its affiliates serves as
investment adviser. An Underlying Fund will indirectly bear its proportionate
share of any management fees and other expenses paid by investment companies in
which it invests in addition to the advisory and administration fees paid by the
Fund. However, to the extent that the Fund invests in a money market fund for
which the Adviser or any of its affiliates acts as adviser, the advisory and
administration fees payable by the Fund to the Adviser or its affiliates will be
reduced by an amount equal to the Fund's proportionate share of the advisory and
administration fees paid by such money market fund to the Adviser or its
affiliates.
Each Underlying Equity Fund may also invest in SPDRs. SPDRs are interests
in a unit investment trust ("UIT") that may be obtained from the UIT or
purchased in the secondary market (SPDRs are listed on the American Stock
Exchange).
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The UIT will issue SPDRs in aggregations known as "Creation Units" in
exchange for a "Portfolio Deposit" consisting of (a) a portfolio of securities
substantially similar to the component securities ("Index Securities") of the
Standard & Poor's 500 Composite Stock Price Index (the "S&P Index"), (b) a cash
payment equal to a pro rata portion of the dividends accrued on the UIT's
portfolio securities since the last dividend payment by the UIT, net of expenses
and liabilities, and (c) a cash payment or credit ("Balancing Amount") designed
to equalize the net asset value of the S&P Index and the net asset value of a
Portfolio Deposit.
SPDRs are not individually redeemable, except upon termination of the UIT.
To redeem, the Portfolio must accumulate enough SPDRs to reconstitute a Creation
Unit. The liquidity of small holdings of SPDRs, therefore, will depend upon the
existence of a secondary market. Upon redemption of a Creation Unit, the
Portfolio will receive Index Securities and cash identical to the Portfolio
Deposit required of an investor wishing to purchase a Creation Unit that day.
The price of SPDRs is derived from and based upon the securities held by
the UIT. Accordingly, the level of risk involved in the purchase or sale of a
SPDR is similar to the risk involved in the purchase or sale of traditional
common stock, with the exception that the pricing mechanism for SPDRs is based
on a basket of stocks. Disruptions in the markets for the securities underlying
SPDRs purchased or sold by the Funds could result in losses on SPDRs. Trading
in SPDRs involves risks similar to those risks, described under "Risk Associated
with Options Transactions," involved in the writing of options on securities.
Certain Underlying Funds may also purchase shares of investment companies
investing primarily in foreign securities, including "country funds." Country
funds have portfolios consisting primarily of securities of issuers located in
one foreign country or region. Certain Underlying Funds may also invest in World
Equity Benchmark Shares ("WEB") and similar securities that invest in securities
included in foreign securities indices.
REPURCHASE AGREEMENTS
Each Underlying Fund may enter into repurchase agreements with selected
broker-dealers, banks or other financial institutions. A repurchase agreement
is an arrangement under which a Fund purchases securities and the seller agrees
to repurchase the securities within a particular time and at a specified price.
Custody of the securities is maintained by a Fund's custodian. The repurchase
price may be higher than the purchase price, the difference being income to a
Fund, or the purchase and repurchase prices may be the
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same, with interest at a stated rate due to a Fund together with the repurchase
price on repurchase. In either case, the income to a Fund is unrelated to the
interest rate on the security subject to the repurchase agreement.
For purposes of the Act and generally for tax purposes, a repurchase
agreement is deemed to be a loan from an Underlying Fund to the seller of the
security. For other purposes, it is not clear whether a court would consider
the security purchased by a Fund subject to a repurchase agreement as being
owned by a Fund or as being collateral for a loan by a Fund to the seller. In
the event of commencement of bankruptcy or insolvency proceedings with respect
to the seller of the security before repurchase of the security under a
repurchase agreement, a Fund may encounter delay and incur costs before being
able to sell the security. Such a delay may involve loss of interest or a
decline in price of the security. If the court characterizes the transaction as
a loan and a Fund has not perfected a security interest in the security, a Fund
may be required to return the security to the seller's estate and be treated as
an unsecured creditor of the seller. As an unsecured creditor, a Fund would be
at risk of losing some or all of the principal and interest involved in the
transaction.
As with any unsecured debt instrument purchased for an Underlying Fund, the
Fund's investment adviser seeks to minimize the risk of loss from repurchase
agreements by analyzing the creditworthiness of the obligor, in this case the
seller of the security. Apart from the risk of bankruptcy or insolvency
proceedings, there is also the risk that the seller may fail to repurchase the
security. However, if the market value of the security subject to the
repurchase agreement becomes less than the repurchase price (including accrued
interest), a Fund will direct the seller of the security to deliver additional
securities so that the market value of all securities subject to the repurchase
agreement equals or exceeds the repurchase price. Certain repurchase agreements
which provide for settlement in more than seven days can be liquidated before
the nominal fixed term on seven days or less notice. Such repurchase agreements
will be regarded as liquid instruments.
In addition, an Underlying Fund, together with other registered investment
companies having advisory agreements with the adviser or its affiliates, may
transfer uninvested cash balances into a single joint account, the daily
aggregate balance of which will be invested in one or more repurchase
agreements.
RESTRICTED AND ILLIQUID SECURITIES
The Underlying Funds may purchase securities that are not registered or are
offered in an exempt non-public offering ("Restricted Securities") under the
Securities Act of 1933, as amended ("1933 Act"), including securities eligible
for resale to
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"qualified institutional buyers" pursuant to Rule 144A under the 1933 Act.
However, a Fund will not invest more than 15% (10% in the case of Financial
Square Prime Obligations Fund) of its net assets in illiquid investments, which
includes repurchase agreements maturing in more than seven days, certain SMBS,
municipal leases, certain over-the-counter options, securities that are not
readily marketable and Restricted Securities, unless the Board of Trustees
determines that such Restricted Securities are liquid. Certain commercial paper
issued in reliance on Section 4(2) of the 1933 Act is treated like Rule 144A
Securities. The Trustees have adopted guidelines and delegated to the Underlying
Funds' investment advisers the daily function of determining and monitoring the
liquidity of the Funds' portfolio securities. This investment practice could
have the effect of increasing the level of illiquidity in a Fund to the extent
that qualified institutional buyers become for a time uninterested in purchasing
these Restricted Securities.
The purchase price and subsequent valuation of Restricted Securities may
reflect a discount from the price at which such securities trade when they are
not restricted, since the restriction may make them less liquid. The amount of
the discount from the prevailing market price is expected to vary depending upon
the type of security, the character of the issuer, the party who will bear the
expenses of registering the Restricted Securities and prevailing supply and
demand conditions.
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INVESTMENT RESTRICTIONS
The following investment restrictions have been adopted by the Trust as
fundamental policies that cannot be changed without the affirmative vote of the
holders of a majority (as defined in the Act) of the outstanding voting
securities of the affected Portfolio. The investment objective of each
Portfolio and all other investment policies or practices of each Portfolio are
considered by the Trust not to be fundamental and accordingly may be changed
without shareholder approval. See "Investment Objectives and Policies" in the
Prospectus. For purposes of the Act, "majority" means the lesser of (a) 67% or
more of the shares of the Trust or a Portfolio present at a meeting, if the
holders of more than 50% of the outstanding shares of the Trust or a Portfolio
are present or represented by proxy, or (b) more than 50% of the shares of the
Trust or a Portfolio. For purposes of the following limitations, any limitation
which involves a maximum percentage shall not be considered violated unless an
excess over the percentage occurs immediately after, and is caused by, an
acquisition or encumbrance of securities or assets of, or borrowings by, a
Portfolio. With respect to the Portfolios' fundamental investment restriction
no. 3, asset coverage of at least 300% (as defined in the Act), inclusive of any
amounts borrowed, must be maintained at all times.
A Portfolio may not:
(1) make any investment inconsistent with the Portfolio's
classification as a diversified company under the Act;
(2) invest 25% or more of its total assets in the securities of one
or more issuers conducting their principal business activities in
the same industry (excluding investment companies and the U.S.
Government or any of its agencies or instrumentalities). (For
the purposes of this restriction, state and municipal governments
and their agencies, authorities and instrumentalities are not
deemed to be industries; telephone companies are considered to be
a separate industry from water, gas or electric utilities;
personal credit finance companies and business credit finance
companies are deemed to be separate industries; and wholly-owned
finance companies are considered to be in the industry of their
parents if their activities are primarily related to financing
the activities of their parents. This restriction does not apply
to investments in municipal securities which have been pre-
refunded by the use of obligations of the U.S.
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government or any of its agencies or instrumentalities;
(3) borrow money, except (a) the Portfolio may borrow from banks (as
defined in the Act) or through reverse repurchase agreements in
amounts up to 33-1/3% of its total assets (including the amount
borrowed), (b) the Portfolio may, to the extent permitted by
applicable law, borrow up to an additional 5% of its total assets
for temporary purposes, (c) the Portfolio may obtain such short-
term credits as may be necessary for the clearance of purchases
and sales of portfolio securities, (d) the Portfolio may purchase
securities on margin to the extent permitted by applicable law
and (e) the Portfolio may engage transactions in mortgage dollar
rolls which are accounted for as financings;
(4) make loans, except through (a) the purchase of debt obligations
in accordance with the Portfolio's investment objective and
policies, (b) repurchase agreements with banks, brokers, dealers
and other financial institutions and (c) loans of securities as
permitted by applicable law;
(5) underwrite securities issued by others, except to the extent that
the sale of portfolio securities by the Portfolio may be deemed
to be an underwriting;
(6) purchase, hold or deal in real estate, although a Portfolio may
purchase and sell securities that are secured by real estate or
interests therein, securities of real estate investment trusts
and mortgage-related securities and may hold and sell real estate
acquired by a Portfolio as a result of the ownership of
securities;
(7) invest in commodities or commodity contracts, except that the
Portfolio may invest in currency and financial instruments and
contracts that are commodities or commodity contracts;
(8) issue senior securities to the extent such issuance would violate
applicable law.
Notwithstanding any other fundamental investment restriction or policy,
each Portfolio may invest some or all of its assets in a single open-end
investment company or series thereof with substantially the same investment
objective, restrictions and policies as the Portfolio.
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In addition to the fundamental policies mentioned above, the Trustees have
adopted the following non-fundamental policies which can be changed or amended
by action of the Trustees without approval of shareholders.
A Portfolio may not:
(a) Invest in companies for the purpose of exercising control or
management (but this does not prevent a Portfolio from purchasing a
controlling interest in one or more of the Underlying Funds consistent
with its investment objective and policies).
(b) Invest more than 15% of the Portfolio's net assets in illiquid
investments, including repurchase agreements maturing in more than
seven days, securities which are not readily marketable and restricted
securities not eligible for resale pursuant to Rule 144A under the
1933 Act.
(c) Purchase additional securities if the Portfolio's borrowings
(excluding covered mortgage dollar rolls) exceed 5% of its net assets.
(d) Make short sales of securities, except short sales against the box.
The Underlying Funds in which the Portfolios may invest have adopted
certain investment restrictions which may be more or less restrictive than those
listed above, thereby allowing a Portfolio to participate in certain investment
strategies indirectly that are prohibited under the fundamental and non-
fundamental investment restrictions and policies listed above. The investment
restrictions of these Underlying Funds are set forth in their respective
Additional Statements.
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MANAGEMENT
Information pertaining to the Trustees and officers of the Trust is
set forth below. Trustees and officers deemed to be "interested persons" of the
Trust for purposes of the Act are indicated by an asterisk.
NAME, AGE POSITIONS PRINCIPAL OCCUPATION(S)
AND ADDRESS WITH TRUST DURING PAST 5 YEARS
- ----------- ---------- -------------------
Ashok N. Bakhru, 53 Chairman Executive Vice President-Finance and
1325 Ave. of Americas & Trustee Administration and Chief Financial
New York, NY 10019 Officer, Coty Inc. (since April 1996);
President, ABN Associates (June 1994 through
March 1996); Senior Vice President of Scott
Paper Company (until June 1994); Director of
Arkwright Mutual Insurance Compa ny; Trustee
of International House of Philadelphia;
Member of Cornell University Council;
Trustee of the Walnut Street Theater.
*David B. Ford, 51 Trustee Managing Director, Goldman Sachs (since
One New York Plaza 1996); General Partner, Goldman Sachs
New York, NY 10004 (1986-1996); Co-Head of Goldman Sachs Asset
Management (since December 1994).
*Douglas C. Grip, 35 Trustee Vice President, Goldman Sachs (since
One New York Plaza & President May 1996); President, MFS Retirement
New York, NY 10004 Services Inc., of Massachusetts Financial
Services (prior thereto).
*John P. McNulty, 44 Trustee Managing Director, Goldman Sachs (since
One New York Plaza 1996); General Partner of Goldman Sachs
New York, NY 10004 (1990-1994 and 1995-1996); Co-Head of
Goldman Sachs Asset Management (since
November 1995); Limited Partner of Goldman
Sachs (1994 to November 1995).
Mary P. McPherson, 60 Trustee President of Bryn Mawr College (since
Taylor Hall 1978); Director of Josiah Macy, Jr.,
Bryn Mawr, PA 19010 Foundation (since 1977); Director of the
Philadelphia Contributionship (since 1985);
Director of Amherst College (since 1986);
Director of Dayton Hudson Corporation (since
1988); Director of the Spencer Foundation
(since 1993); and member of PNC Advisory
Board (since 1993).
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<PAGE>
NAME, AGE POSITIONS PRINCIPAL OCCUPATION(S)
AND ADDRESS WITH TRUST DURING PAST 5 YEARS
- ----------- ---------- -------------------
*Alan A. Shuch, 48 Trustee Limited Partner, Goldman Sachs (since
One New York Plaza 1994); Director and Vice President of
New York, NY 10004 Goldman Sachs Funds Management Inc. (from
April 1990 to November 1994); President and
Chief Operating Officer, GSAM (from
September 1988 to November 1994).
Jackson W. Smart, 66 Trustee Chairman, Executive Committee, First
One Northfield Plaza Commonwealth, Inc. (a managed dental
#218 care company, since January 1996); Chairman
Northfield, IL 60093 and Chief Executive Officer, MSP
Communications Inc. (a company engaged in
radio broadcasting) (since November 1988),
Director, Federal Ex press Corporation
(since 1976), Evanston Hospital Corporation
(since 1980), First Commonwealth, Inc.
(since 1988) and North American Pri vate
Equity Group (a venture capital fund).
William H. Springer, 67 Trustee Vice Chairman and Chief Financial and
701 Morningside Drive Administrative Officer, (February 1987
Lake Forest, IL 60045 to June 1991) of Ameritech (a tele
communications holding company; Director,
Walgreen Co. (a retail drug store business);
Director of Baker, Fentress & Co. (a closed-
end, non-di versified management investment
company) (April 1992 to present).
Richard P. Strubel, 57 Trustee Managing Director, Tandem Partners,
70 West Madison St. Inc. (since 1990); President and Chief
Ste. 1400 Executive Officer, Microdot, Inc. (a
Chicago, IL 60602 diversified manufacturer of fastening
systems and connectors) (January 1984 to
October 1994).
*Scott M. Gilman, 37 Treasurer Director, Mutual Funds Administration,
One New York Plaza Goldman Sachs Asset Management (since
New York, NY 10004 April 1994); Assistant Treasurer, Goldman
Sachs Funds Management, Inc. (since March
1993); Vice President, Goldman Sachs (since
March 1990).
*John M. Perlowski, 32 Assistant Vice President, Goldman Sachs (since
One New York Plaza Treasurer July 1995); Director, Investors Bank
New York, NY 10004 and Trust (November 1993 to July 1995);
Audit Manager of Arthur Andersen LLP (prior
thereto).
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<PAGE>
NAME, AGE POSITIONS PRINCIPAL OCCUPATION(S)
AND ADDRESS WITH TRUST DURING PAST 5 YEARS
- ----------- ---------- -------------------
*John W. Mosior, 59 Vice Vice President, Goldman Sachs and
4900 Sears Tower President Manager of Shareholder Servicing of
Chicago, IL 60606 GSAM (since November 1989).
*Nancy L. Mucker, 48 Vice Vice President, Goldman Sachs (since
4900 Sears Tower President April 1985); Manager of Shareholder
Chicago, IL 60606 Servicing of GSAM (since November 1989).
*James A. Fitzpatrick, 33 Vice Vice President of Goldman Sachs
4900 Sears Tower President Asset Management (since April 1997);
Chicago, IL 60606 Vice President and General Manager
First Data Corporation - Investor
Services Group (prior thereto.)
*Michael J. Richman, 37 Secretary General Counsel of the Mutual Funds
85 Broad Street Group of Goldman Sachs Asset Management
New York, NY 10004 (since December 1997); Associate
General Counsel of Goldman Asset
Management (February 1994 to December
1997); Vice President and Assistant
General Counsel of Goldman Sachs (since
June 1992); Counsel to the Funds Group,
GSAM (since June 1992); Partner, Hale
and Dorr (September 1991 to June 1992).
*Howard B. Surloff, 32 Assistant Assistant General Counsel, Goldman Sachs
85 Broad Street Secretary Asset Management and Associate General
New York, NY 10004 Counsel to the Funds Group (since
December 1997);Assistant General Counsel
and Vice President, Goldman Sachs (since
November 1993 and May 1994 respectively);
Associate of Shereff Friedman, Hoffman &
Goodman (prior thereto).
*Valerie A. Zondorak, 32 Assistant Assistant General Counsel, Goldman Sachs
85 Broad Street Secretary Asset Management and Associate General
New York, New York 10004 Counsel to the Funds Group (since December
1997); Vice President, Goldman Sachs
(since March 1997); Associate of Shereff
Friedman, Hoffman & Goodman (prior
thereto).
*Steven E. Hartstein, 34 Assistant Legal Products Analyst, Goldman Sachs
85 Broad Street Secretary (June 1993 to present); Funds
New York, NY 10004 Compliance Officer, Citibank Global Asset
Management (August 1991 to June 1993).
*Deborah Farrell, 27 Assistant Administrative Assistant, Goldman Sachs
85 Broad Street Secretary (January 1996 to present); Secretary,
New York, NY 10004 Goldman Sachs (January 1994 to
January 1996); Cleary Gottlieb, Steen and
Hamilton (September 1990 to January 1994).
*Kaysie P. Uniacke, 37 Assistant Managing Director (since November 1997);
One New York Plaza Secretary Vice President and Senior Portfolio
New York, NY 10004 Manager, Goldman Sachs Asset Management
(1988 to present).
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<PAGE>
NAME, AGE POSITIONS PRINCIPAL OCCUPATION(S)
AND ADDRESS WITH TRUST DURING PAST 5 YEARS
- ----------- ---------- -------------------
*Elizabeth D. Anderson, 28 Assistant Portfolio Manager, GSAM
One New York Plaza Secretary (April 1996 to Present); Junior
New York, NY 10004 Portfolio Manager, Goldman Sachs
Asset Management (1995 to April
1996); Funds Trading Assistant,
GSAM (1993 to 1995); Compliance
Analyst, Prudential Insurance
(1991 to 1993).
The Trust pays each Trustee, other than those who are "interested persons"
of Goldman Sachs, a fee for each Trustee meeting attended and an annual fee.
Such Trustees are also reimbursed for travel expenses incurred in connection
with attending such meetings.
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<PAGE>
The following table sets forth certain information with respect to the
compensation of each Trustee of the Trust (or its predecessors) for the one-year
period ended October 31, 1997:
<TABLE>
<CAPTION>
Pension or Total
Retirement Compensation
Benefits from Goldman Sachs
Aggregate Accrued as Mutual Funds
Compensation Part of (including the
Name of Trustee from the Portfolios Portfolios' Expenses Portfolios)**
- --------------------- ------------------- -------------------- ------------------
<S> <C> <C> <C>
Ashok N. Bakhru* $0 $0 $93,750
David B. Ford 0 0 0
Douglas C. Grip 0 0 0
John P. McNulty 0 0 0
Mary P. McPherson* 0 0 70,500
Alan A. Shuch 0 0 0
Jackson W. Smart* 0 0 70,500
William H. Springer* 0 0 70,500
Richard P. Strubel* 0 0 70,500
</TABLE>
______________
* Non-interested persons of the Trust.
** As of the date of this Statement of Additional Information, the Goldman
Sachs Mutual Funds consisted of 94 mutual funds.
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<PAGE>
MANAGEMENT SERVICES
As stated in the Portfolios' Prospectus, Goldman Sachs Asset Management
serves as Adviser to the Portfolios and, except as noted, to each Underlying
Fund. Goldman Sachs Funds Management, L.P. serves as investment adviser to the
CORE U.S. Equity, Capital Growth, Adjustable Rate Government and Short Duration
Government Funds. Goldman Sachs Asset Management International serves as
investment adviser to the International Equity, Emerging Markets Equity, Asia
Growth and Global Income Funds. See "Management" in the Portfolios' Prospectus
for a description of the Adviser's duties to the Portfolios.
Founded in 1869, Goldman Sachs is among the oldest and largest investment
banking firms in the United States. Goldman Sachs is a leader in developing
portfolio strategies and in many fields of investing and financing,
participating in financial markets worldwide and serving individuals,
institutions, corporations and governments. Goldman Sachs is also among the
principal market sources for current and thorough information on companies,
industrial sectors, markets, economies and currencies, and trades and makes
markets in a wide range of equity and debt securities 24-hours a day. The firm
is headquartered in New York and has offices throughout the U.S. and in Beijing,
Frankfurt, George Town, Hong Kong, London, Madrid, Mexico City, Milan, Montreal,
Osaka, Paris, Sao Paulo, Seoul, Shanghai, Singapore, Sydney, Taipei, Tokyo,
Toronto, Vancouver and Zurich. It has trading professionals throughout the
United States, as well as in London, Tokyo, Hong Kong and Singapore. The active
participation of Goldman Sachs in the world's financial markets enhances its
ability to identify attractive investments.
The Underlying Funds' investment advisers are able to draw on the
substantial research and market expertise of Goldman Sachs whose investment
research effort is one of the largest in the industry. With an annual equity
research budget approaching $160 million, the Goldman Sachs Global Investment
Research Department covers approximately 1,700 companies, including
approximately 1,000 U.S. corporations in 60 industries. The in-depth
information and analyses generated by Goldman Sachs' research analysts are
available to the investment advisers. These investment advisers manage money
for some of the world's largest institutional investors. For more than a
decade, Goldman Sachs has been among the top-ranked firms in Institutional
Investor's annual "All-America Research Team" survey. In addition, many of
Goldman Sachs' economists, securities analysts, portfolio strategists and credit
analysts have consistently been highly ranked in respected industry surveys
conducted in the U.S. and abroad. Goldman Sachs is also among the leading
investment firms using quantitative analytics (now used by a growing number of
investors) to structure and evaluate portfolios. For example, Goldman Sachs'
option evaluation model analyzes each security's term, coupon and call option,
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<PAGE>
providing an overall analysis of the security's value relative to its interest
risk.
In managing the Underlying Funds, the Funds' investment advisers have
access to Goldman Sachs' economics research. The Economics Research Department
conducts economic, financial and currency markets research which analyzes
economic trends and interest and exchange rate movement worldwide. The
Economics Research Department tracks factors such as inflation and money supply
figures, balance of trade figures, economic growth, commodity prices, monetary
and fiscal policies, and political events that can influence interest rates and
currency trends. The success of Goldman Sachs' international research team has
brought wide recognition to its members. The team has earned top rankings in
the Institutional Investor's annual "All British Research Team Survey" in the
following categories: Economics (U.K.) 1986-1993; Economics/International 1989-
1993; and Currency Forecasting 1986-1993. In addition, the team has also earned
top rankings in the annual "Extel Financial Survey" of U.K. investment managers
in the following categories: U.K. Economy 1989-1995; International Government
Bond Market 1993-1995; International Economies 1986, 1988-1995; and Currency
Movements 1986-1993.
In structuring Adjustable Rate Government Fund's and Short Duration
Government Fund's respective securities portfolios, their investment adviser
will review the existing overall economic and mortgage market trends. The
investment adviser will then study yield spreads, the implied volatility and the
shape of the yield curve. The investment adviser will then apply this analysis
to a list of eligible securities that meet the respective Fund's investment
guidelines. With respect to Adjustable Rate Government Fund, this analysis is
used to plan a two-part portfolio, which will consist of a "core" portfolio of
ARMs and a "relative value" portfolio of other mortgage assets that can enhance
portfolio returns and lower risk (such as investments in CMO floating-rate
tranches and interest only SMBS).
With respect to the Adjustable Rate Government Fund, Government Income
Fund, Short Duration Government Fund, High Yield Fund and Core Fixed Income
Fund, the Funds' investment advisers expect to utilize Goldman Sachs'
sophisticated option-adjusted analytics to help make strategic asset allocations
within the markets for U.S. government, Mortgage-Backed and other securities and
to employ this technology periodically to re-evaluate the Funds' investments as
market conditions change. Goldman Sachs has also developed a prepayment model
designed to estimate mortgage prepayments and cash flows under different
interest rate scenarios. Because a Mortgage-Backed Security incorporates the
borrower's right to prepay the mortgage, the investment advisers use a
sophisticated option-adjusted spread (OAS) model to measure expected returns. A
security's OAS is a function of the level and shape of the yield curve,
volatility and the particular investment
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<PAGE>
adviser's expectation of how a change in interest rates will affect prepayment
levels. Since the OAS model assumes a relationship between prepayments and
interest rates, the investment advisers consider it a better way to measure a
security's expected return and absolute and relative values than yield to
maturity. In using OAS technology, the investment advisers will first evaluate
the absolute level of a security's OAS considering its liquidity and its
interest rate, volatility and prepayment sensitivity. The investment advisers
will then analyze its value relative to alternative investments and to its own
investments. The investment advisers will also measure a security's interest
rate risk by computing an option adjusted duration (OAD). The investment
advisers believe a security's OAD is a better measurement of its price
sensitivity than cash flow duration, which systematically misstates portfolio
duration. The investment advisers also evaluate returns for different mortgage
market sectors and evaluate the credit risk of individual securities. This
sophisticated technical analysis allows the investment advisers to develop
portfolio and trading strategies using Mortgage-Backed Securities that are
believed to be superior investments on a risk-adjusted basis and which provide
the flexibility to meet the respective Funds' duration targets and cash flow
pattern requirements.
Because the OAS is adjusted for the differing characteristics of the
underlying securities, the OAS of different Mortgage-Backed Securities can be
compared directly as an indication of their relative value in the market. The
investment advisers also expect to use OAS-based pricing methods to calculate
projected security returns under different, discrete interest rate scenarios,
and Goldman Sachs' proprietary prepayment model to generate yield estimates
under these scenarios. The OAS, scenario returns, expected returns, and yields
of securities in the mortgage market can be combined and analyzed in an optimal
risk-return matching framework.
The investment advisers will use OAS analytics to choose what they believe
is an appropriate portfolio of investments for an Underlying Fund from a
universe of eligible investments. In connection with initial portfolio
selections, in addition to using OAS analytics as an aid to meeting each Fund's
particular composition and performance targets, the investment advisers will
also take into account important market criteria like the available supply and
relative liquidity of various mortgage securities in structuring the portfolio.
The Funds' investment advisers also expect to use OAS analytics to evaluate
the mortgage market on an ongoing basis. Changes in the relative value of
various Mortgage-Backed Securities could suggest tactical trading opportunities
for the Underlying Funds. The investment advisers will have access to both
current market analysis as well as historical information on the relative value
relationships among different Mortgage-Backed Securities.
B-82
<PAGE>
Current market analysis and historical information is available in the Goldman
Sachs database for most actively traded Mortgage-Backed Securities.
Goldman Sachs has agreed to provide the Underlying Funds' investment
advisers, on a non-exclusive basis, use of its mortgage prepayment model, OAS
model and any other proprietary services which it now has or may develop, to the
extent such services are made available to other similar customers. Use of
these services by the Funds' investment advisers with respect to a Fund does not
preclude Goldman Sachs from providing these services to third parties or using
such services as a basis for trading for its own account or the account of
others.
The fixed-income research capabilities of Goldman Sachs available to the
Underlying Funds' investment advisers include the Goldman Sachs Fixed Income
Research Department and the Credit Department. The Fixed Income Research
Department monitors developments in U.S. and foreign fixed-income markets,
assesses the outlooks for various sectors of the markets and provides relative
value comparisons, as well as analyzes trading opportunities within and across
market sectors. The Fixed Income Research Department is at the forefront in
developing and using computer-based tools for analyzing fixed-income securities
and markets, developing new fixed income products and structuring portfolio
strategies for investment policy and tactical asset allocation decisions. The
Credit Department tracks specific governments, regions and industries and from
time to time may review the credit quality of a Fund's investments.
In allocating assets among foreign countries and currencies for the
Underlying Funds which can invest in foreign securities, the Funds' investment
advisers will have access to the Global Asset Allocation Model. The model is
based on the observation that the prices of all financial assets, including
foreign currencies, will adjust until investors globally are comfortable holding
the pool of outstanding assets. Using the model, the investment advisers will
estimate the total returns from each currency sector which are consistent with
the average investor holding a portfolio equal to the market capitalization of
the financial assets among those currency sectors. These estimated equilibrium
returns are then combined with the expectations of Goldman Sachs' research
professionals to produce an optimal currency and asset allocation for the level
of risk suitable for a Fund given its investment objectives and criteria.
The management agreements for the Portfolios and the Underlying Funds
provide that the Adviser (and its affiliates) may render similar services to
others as long as the services provided by them thereunder are not impaired
thereby.
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<PAGE>
The Portfolios' management agreement was approved by the Trustees,
including a majority of the Trustees who are not parties to the management
agreement or "interested persons" (as such term is defined in the Act) of any
party thereto (the "non-interested Trustees"), on October 21, 1997. These
arrangements were approved by the sole shareholder of each Portfolio on
January 9, 1998 by consent action to satisfy conditions imposed by the SEC in
connection with the registration of shares of the Portfolio under the Securities
Act of 1933. The management agreement will remain in effect until June 30, 1999
and from year to year thereafter provided such continuance is specifically
approved at least annually by (a) the vote of a majority of the outstanding
voting securities of such Portfolio or a majority of the Trustees, and (b) the
vote of a majority of the non-interested Trustees, cast in person at a meeting
called for the purpose of voting on such approval. The management agreement
will terminate automatically with respect to a Portfolio if assigned (as defined
in the Act) and is terminable at any time without penalty by the Trustees or by
vote of a majority of the outstanding voting securities of the affected
Portfolio on 60 days' written notice to the Adviser and by the Adviser on 60
days' written notice to the Trust.
Under the management agreement, the Adviser also: (i) supervises all non-
advisory operations of each Portfolio; (ii) provides personnel to perform such
executive, administrative and clerical services as are reasonably necessary to
provide effective administration of each Portfolio; (iii) arranges for at each
Portfolio's expense (a) the preparation of all required tax returns, (b) the
preparation and submission of reports to existing shareholders, (c) the periodic
updating of prospectuses and statements of additional information and (d) the
preparation of reports to be filed with the SEC and other regulatory
authorities; (iv) maintains each Portfolio's records; and (v) provides office
space and all necessary office equipment and services.
Pursuant to the management agreement, the Advisers are entitled to receive
the contractual fees listed below, payable monthly of such Portfolio's average
daily net assets.
Portfolio Asset Allocation Fee
------------------- ---------------------
Income Strategy .35%
Growth and Income Strategy .35%
Growth Strategy .35%
Aggressive Growth Strategy .35%
Activities of Goldman Sachs and Its Affiliates and Other Accounts Managed
-------------------------------------------------------------------------
by Goldman Sachs. The involvement of the Adviser and Goldman Sachs and their
- ----------------
affiliates in the management of, or their interest in, other accounts and other
activities of Goldman Sachs may present conflicts of interest with respect to
the
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<PAGE>
Portfolios and the Underlying Funds or impede their investment activities.
Goldman Sachs and its affiliates, including, without limitation, the
Adviser and its advisory affiliates, have proprietary interests in, and may
manage or advise with respect to, accounts or funds (including separate accounts
and other funds and collective investment vehicles) which have investment
objectives similar to those of the Portfolios and the Underlying Funds and/or
which engage in transactions in the same types of securities, currencies and
instruments. Goldman Sachs and its affiliates are major participants in the
global currency, equities, swap and fixed income markets, in each case both on a
proprietary basis and for the accounts of customers. As such, Goldman Sachs and
its affiliates are actively engaged in transactions in the same securities,
currencies and instruments in which the Underlying Funds invest. Such
activities could affect the prices and availability of the securities,
currencies and instruments in which the Underlying Funds will invest, which
could have an adverse impact on each Fund's (and, consequently, each
Portfolio's) performance. Such transactions, particularly in respect of
proprietary accounts or customer accounts other than those included in the
Adviser's and its advisory affiliates' asset management activities, will be
executed independently of the Funds' transactions and thus at prices or rates
that may be more or less favorable. When the Adviser and its advisory
affiliates seek to purchase or sell the same assets for their managed accounts,
including the Underlying Funds, the assets actually purchased or sold may be
allocated among the accounts on a basis determined in its good faith discretion
to be equitable. In some cases, this system may adversely affect the size or
the price of the assets purchased or sold for the Funds.
From time to time, the Underlying Funds' activities may be restricted
because of regulatory restrictions applicable to Goldman Sachs and its
affiliates, and/or their internal policies designed to comply with such
restrictions. As a result, there may be periods, for example, when the Adviser
and/or its affiliates will not initiate or recommend certain types of
transactions in certain securities or instruments with respect to which the
Adviser and/or its affiliates are performing services or when position limits
have been reached.
In connection with their management of the Underlying Funds, the Funds'
investment advisers may have access to certain fundamental analysis and
proprietary technical models developed by Goldman Sachs and other affiliates.
The investment advisers will not be under any obligation, however, to effect
transactions on behalf of the Underlying Funds in accordance with such analysis
and models. In addition, neither Goldman Sachs nor any of its affiliates will
have any obligation to make available any information regarding their
proprietary activities or strategies,
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<PAGE>
or the activities or strategies used for other accounts managed by them, for the
benefit of the management of the Underlying Funds and it is not anticipated that
the investment advisers will have access to such information for the purpose of
managing the Funds. The proprietary activities or portfolio strategies of
Goldman Sachs and its affiliates or the activities or strategies used for
accounts managed by them or other customer accounts could conflict with the
transactions and strategies employed by the investment advisers in managing the
Underlying Funds.
The results of each Underlying Fund's investment activities may differ
significantly from the results achieved by their investment advisers and
affiliates for their proprietary accounts or accounts (including investment
companies or collective investment vehicles) managed or advised by them. It is
possible that Goldman Sachs and its affiliates and such other accounts will
achieve investment results which are substantially more or less favorable than
the results achieved by an Underlying Fund. Moreover, it is possible that an
Underlying Fund will sustain losses during periods in which Goldman Sachs and
its affiliates achieve significant profits on their trading for proprietary or
other accounts. The opposite result is also possible.
The investment activities of Goldman Sachs and its affiliates for their
proprietary accounts and accounts under their management may also limit the
investment opportunities for the Underlying Funds in certain emerging markets in
which limitations are imposed upon the aggregate amount of investment, in the
aggregate or individual issuers, by affiliated foreign investors.
An investment policy committee which may include partners of Goldman Sachs
and its affiliates may develop general policies regarding an Underlying Fund's
activities but will not be involved in the day-to-day management of such Fund.
In such instances, those individuals may, as a result, obtain information
regarding the Fund's proposed investment activities which is not generally
available to the public. In addition, by virtue of their affiliation with
Goldman Sachs, any such member of an investment policy committee will have
direct or indirect interests in the activities of Goldman Sachs and its
affiliates in securities and investments similar to those in which the Fund
invests.
In addition, certain principals and certain of the employees of the Funds'
investment advisers are also principals or employees of Goldman Sachs or their
affiliated entities. As a result, the performance by these principals and
employees of their obligations to such other entities may be a consideration of
which investors in the Portfolios should be aware.
The Underlying Funds' investment advisers may enter into transactions and
invest in currencies or instruments on behalf of a Fund in which customers of
Goldman Sachs serve as the
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<PAGE>
counterparty, principal or issuer. In such cases, such party's interests in the
transaction will be adverse to the interests of a Fund, and such party may have
no incentive to assure that the Funds obtain the best possible prices or terms
in connection with the transactions. Goldman Sachs and its affiliates may also
create, write or issue derivative instruments for customers of Goldman Sachs or
its affiliates, the underlying securities or instruments of which may be those
in which an Underlying Fund invests or which may be based on the performance of
a Fund. The Funds may, subject to applicable law, purchase investments which
are the subject of an underwriting or other distribution by Goldman Sachs or its
affiliates and may also enter transactions with other clients of Goldman Sachs
or its affiliates where such other clients have interests adverse to those of
the Funds. At times, these activities may cause departments of Goldman Sachs or
its affiliates to give advice to clients that may cause these clients to take
actions adverse to the interests of the client. To the extent affiliated
transactions are permitted, the Funds will deal with Goldman Sachs and its
affiliates on an arms-length basis.
Each Underlying Fund will be required to establish business relationships
with its counterparties based on the Fund's own credit standing. Neither
Goldman Sachs nor its affiliates will have any obligation to allow their credit
to be used in connection with a Fund's establishment of its business
relationships, nor is it expected that a Fund's counterparties will rely on the
credit of Goldman Sachs or any of its affiliates in evaluating the Fund's
creditworthiness.
From time to time, Goldman Sachs or any of its affiliates may, but is not
required to, purchase and hold shares of an Underlying Fund in order to increase
the assets of the Fund. Increasing a Fund's assets may enhance investment
flexibility and diversification and may contribute to economies of scale that
tend to reduce the Fund's expense ratio. Goldman Sachs reserves the right to
redeem at any time some or all of the shares of a Fund acquired for its own
account. A large redemption of shares of a Fund by Goldman Sachs could
significantly reduce the asset size of the Fund, which might have an adverse
effect on the Fund's investment flexibility, portfolio diversification and
expense ratio. Goldman Sachs will consider the effect of redemptions on a Fund
and other shareholders in deciding whether to redeem its shares.
It is possible that an Underlying Fund's holdings will include securities
of entities for which Goldman Sachs performs investment banking services as well
as securities of entities in which Goldman Sachs makes a market. From time to
time, Goldman Sachs' activities may limit the Underlying Funds' flexibility in
purchases and sales of securities. When Goldman Sachs is engaged in an
underwriting or other distribution of securities of an entity, the Funds'
investment advisers may be prohibited from purchasing or
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<PAGE>
recommending the purchase of certain securities of that entity for the Funds.
DISTRIBUTOR AND TRANSFER AGENT
Goldman Sachs serves as the exclusive distributor of shares of the
Portfolios pursuant to a "best efforts" arrangement as provided by a
distribution agreement with the Trust dated April 30, 1997, as amended October
21, 1997. Pursuant to the distribution agreement, after the Portfolios'
Prospectus and periodic reports have been prepared, set in type and mailed to
shareholders, Goldman Sachs will pay for the printing and distribution of copies
thereof used in connection with the offering to prospective investors. Goldman
Sachs will also pay for other supplementary sales literature and advertising
costs. Goldman Sachs has entered into sales agreements with certain investment
dealers and financial service firms (the "Authorized Dealers") to solicit
subscriptions for Class A, Class B and Class C Shares of each of the Portfolios
that offer such classes of shares. Goldman Sachs receives a portion of the sales
load imposed on the sale, in the case of Class A Shares, or redemption in the
case of Class B and Class C Shares, of such Portfolio shares .
Goldman Sachs also serves as the Portfolios' transfer and dividend
disbursing agent. Under its transfer agency agreement with the Trust, Goldman
Sachs has undertaken with the Trust with respect to each Portfolio to (i) record
the issuance, transfer and redemption of shares, (ii) provide confirmations of
purchases and redemptions, and quarterly statements, as well as certain other
statements, (iii) provide certain information to the Trust's custodian and the
relevant subcustodian in connection with redemptions, (iv) provide dividend
crediting and certain disbursing agent services, (v) maintain shareholder
accounts, (vi) provide certain state Blue Sky and other information, (vii)
provide shareholders and certain regulatory authorities with tax-related
information, (viii) respond to shareholder inquiries, and (ix) render certain
other miscellaneous services.
As compensation for the services rendered to the Portfolios' by Goldman
Sachs as transfer and dividend disbursing agent and the assumption by Goldman
Sachs of the expenses related thereto, Goldman Sachs is entitled to receive fees
from each Portfolio as stated in the Prospectus.
The foregoing distribution and transfer agency agreements each provide that
Goldman Sachs may render similar services to others so long as the services each
provides thereunder to the Portfolios are not impaired thereby. Each such
agreement also provides that the Trust will indemnify Goldman Sachs against
certain liabilities.
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<PAGE>
CUSTODIAN AND SUB-CUSTODIANS
State Street Bank and Trust Company, 1776 Heritage Drive, North Quincy,
Massachusetts 02110, State Street Bank and Trust Company ("State Street"), P.O.
Box 1713, Boston, Massachusetts 02105, is the custodian of the Trust's portfolio
securities and cash. State Street also maintains the Trust's accounting
records. State Street may appoint sub-custodians from time to time to hold
certain securities purchased by the Trust in foreign countries and to hold cash
and currencies for the Trust.
INDEPENDENT PUBLIC ACCOUNTANTS
Arthur Andersen, LLP, independent public accountants, One International
Place, Boston, Massachusetts 02110, have been selected as auditors of the Trust.
In addition to audit services, Arthur Andersen, LLP prepares the Trust's federal
and state tax returns, and provides consultation and assistance on accounting,
internal control and related matters.
PORTFOLIO TRANSACTIONS AND BROKERAGE
The particular investment adviser for an Underlying Fund is responsible for
decisions to buy and sell securities for the Fund, the selection of brokers and
dealers to effect the transactions and the negotiation of brokerage commissions,
if any. Purchases and sales of securities on a securities exchange are effected
through brokers who charge a commission for their services. Orders may be
directed to any broker including, to the extent and in the manner permitted by
applicable law, Goldman Sachs.
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 a 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 portfolio transactions for the Underlying Fixed Income Funds are
generally effected at a net price without a broker's commission (i.e., a dealer
is dealing with a Fund as principal and receives compensation equal to the
spread between the dealer's cost for a given security and the resale price of
such security). In certain foreign countries, debt securities are traded on
exchanges at fixed commission rates.
In placing orders for portfolio securities of an Underlying Fund, the
Fund's investment advisers are generally required to give
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primary consideration to obtaining the most favorable execution and net price
available. This means that an investment adviser will seek to execute each
transaction at a price and commission, if any, which provides the most favorable
total cost or proceeds reasonably attainable in the circumstances. As permitted
by Section 28(e) of the Securities Exchange Act of 1934, the Fund may pay a
broker which provides brokerage and research services an amount of disclosed
commission in excess of the commission which another broker would have charged
for effecting that transaction. Such practice is subject to a good faith
determination by the Trustees that such commission is reasonable in light of the
services provided and to such policies as the Trustees may adopt from time to
time. While the Funds' investment advisers generally seek reasonably
competitive spreads or commissions, a Fund will not necessarily be paying the
lowest spread or commission available. Within the framework of this policy, the
investment advisers will consider research and investment services provided by
brokers or dealers who effect or are parties to portfolio transactions of a
Fund, the investment advisers and their affiliates, or their other clients.
Such research and investment services are those which brokerage houses
customarily provide to institutional investors and include research reports on
particular industries and companies, economic surveys and analyses,
recommendations as to specific securities and other products or services (e.g.,
quotation equipment and computer related costs and expenses), advice concerning
the value of securities, the advisability of investing in, purchasing or selling
securities, the availability of securities or the purchasers or sellers of
securities, furnishing analyses and reports concerning issuers, industries,
securities, economic factors and trends, portfolio strategy and performance of
accounts, effecting securities transactions and performing functions incidental
thereto (such as clearance and settlement) and providing lawful and appropriate
assistance to the investment advisers in the performance of their decision-
making responsibilities. Such services are used by the investment advisers in
connection with all of their investment activities, and some of such services
obtained in connection with the execution of transactions for a Fund may be used
in managing other investment accounts. Conversely, brokers furnishing such
services may be selected for the execution of transactions of such other
accounts, whose aggregate assets are far larger than those of a Fund, and the
services furnished by such brokers may be used by the investment advisers in
providing management services for the Trust.
In circumstances where two or more broker-dealers offer comparable prices
and execution capability, preference may be given to a broker-dealer which has
sold shares of an Underlying Fund as well as shares of other investment
companies or accounts managed by the Funds' investment advisers. This policy
does not imply a commitment to execute all portfolio transactions through all
broker-dealers that sell shares of the Fund.
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On occasions when an Underlying Fund's investment adviser deems the
purchase or sale of a security to be in the best interest of a Fund as well as
its other customers (including any other fund or other investment company or
advisory account for which such investment adviser acts as investment adviser or
subadviser), the investment adviser, to the extent permitted by applicable laws
and regulations, may aggregate the securities to be sold or purchased for the
Fund with those to be sold or purchased for such other customers in order to
obtain the best net price and most favorable execution under the circumstances.
In such event, allocation of the securities so purchased or sold, as well as the
expenses incurred in the transaction, will be made by the particular investment
adviser in the manner it considers to be equitable and consistent with its
fiduciary obligations to such Fund and such other customers. In some instances,
this procedure may adversely affect the price and size of the position
obtainable for a Fund.
Commission rates in the U.S. are established pursuant to negotiations with
the broker based on the quality and quantity of execution services provided by
the broker in the light of generally prevailing rates. The allocation of orders
among brokers and the commission rates paid are reviewed periodically by the
Trustees.
Subject to the above considerations, the Underlying Funds' investment
advisers may use Goldman Sachs as a broker for a Fund. In order for Goldman
Sachs to effect any portfolio transactions for a Fund, the commissions, fees or
other remuneration received by Goldman Sachs must be reasonable and fair
compared to the commissions, fees or other remuneration paid to other brokers in
connection with comparable transactions involving similar instruments being
purchased or sold on an exchange during a comparable period of time. This
standard would allow Goldman Sachs to receive no more than the remuneration
which would be expected to be received by an unaffiliated broker in a
commensurate arm's-length transaction. Furthermore, the Trustees, including a
majority of the Trustees who are not "interested" Trustees, have adopted
procedures which are reasonably designed to provide that any commissions, fees
or other remuneration paid to Goldman Sachs are consistent with the foregoing
standard. Brokerage transactions with Goldman Sachs are also subject to such
fiduciary standards as may be imposed upon Goldman Sachs by applicable law.
NET ASSET VALUE
Under the Act, the Trustees are responsible for determining in good faith
the fair value of securities of each Portfolio. In accordance with procedures
adopted by the Trustees, the net asset value per share of each class of each
Portfolio is calculated by determining the value of the net assets attributed to
each class of that Portfolio and dividing by the number of outstanding shares of
that class. All securities are valued as of the close of regular
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trading on the New York Stock Exchange (normally, but not always, 4:00 p.m. New
York time) on each Business Day (as defined in the Prospectus).
In the event that the New York Stock Exchange or the national securities
exchange on which stock options are traded adopt different trading hours on
either a permanent or temporary basis, the Trustees will reconsider the time at
which net asset value is computed. In addition, each Portfolio may compute its
net asset value as of any time permitted pursuant to any exemption, order or
statement of the SEC or its staff.
In determining the net asset value of a Portfolio, the net asset value of
the Underlying Funds' shares held by the Portfolio will be their net asset value
at the time of computation. Financial Square Prime Obligations Fund values all
of its portfolio securities using the amortized cost valuation method pursuant
to Rule 2a-7 under the Act. Other portfolio securities for which accurate market
quotations are available are valued by a Portfolio or Underlying Fund as
follows: (a) securities listed on any U.S. or foreign stock exchange or on the
National Association of Securities Dealers Automated Quotations System
("NASDAQ") will be valued at the last sale price on the exchange or system in
which they are principally traded, on the valuation date. If there is no sale on
the valuation day, securities traded will be valued at the mean between the
closing and asked prices, or if closing bid and asked prices are not available
at the exchange defined close price on the exchange or system in which such
securities are principally traded. If the relevant exchange or system has not
closed by the above-mentioned time for determining the Fund's NAV, the
securities will be valued at the mean between the bid and the asked price at the
time the NAV is determined, (b) over-the-counter securities not quoted on NASDAQ
will be valued at the last sale price on the valuation day or, if no sale
occurs, at the mean between the last bid and asked price; (c) equity securities
for which no prices are obtained under sections (a) or (b) hereof, including
those for which a pricing service supplies no exchange quotation or a quotation
that is believed by the portfolio manager/trader to be inaccurate, will be
valued as follows: (i) the investment adviser will identify to the custodian
bank, two material makers, where possible, with automated pricing feeds (i.e.,
broker pages from Reuters, Bloomberg, Telerate, Quotron, etc.) and the security
will be valued at the average price by the custodian bank. If only one price is
obtained, that price will be used to value the security; or (ii) the investment
adviser will follow the following daily pricing procedure: the investment
adviser will obtain two-two-way (bid-ask) broker quotas, where possible, as of
the relevant cut off time. Where applicable (as in the case of certain foreign
securities), the selection should include one local broker and one international
broker. The investment adviser will average all obtained quotas (average bid,
average ask, average mean) and value the security at the average mean price. If
only one quota is obtained, that quote will be used to value the security (d)
debt securities (with a remaining maturity of 60 days or more) for which
accurate market quotations are readily available will be valued via electronic
feeds to the custodian bank containing dealer-supplied bid quotations or bid
quotations from a nationally recognized pricing service. Those securities for
which the custodian bank is unable to obtain an external price in accordance
with section (b) above or with respect to which the investment adviser believes
an external price does not reflect accurate market values, will be valued by the
investment adviser in good faith as follows. Such securities are to be valued by
the investment adviser based on valuation models that take into account spread
and daily yield changes on government securities in the appropriate market (i.e.
matrix pricing). As part of this process, the investment adviser will solicit at
least monthly from at least one dealer either: (1) a bid quotation; or (2) an
approximate trading spread against a reference benchmark security (e.g., on-the-
run Treasury) from which a bid quotation can be derived. Based on these monthly
bid quotations and/or spreads, the investment adviser will review the valuation
of each security resulting from matrix pricing and make any adjustments
consistent with: (1) the market prices for similar securities; (2) the price at
which such securities have been offered to or bid from the Fund; and (3) option
adjusted spreads relative values and supply and demand factors; (e) overnight
repurchase agreements will be valued by the particular investment adviser at
cost; (f) term repurchase agreements (i.e., those whose maturity exceeds seven
days) and interest rate swaps, caps, collars and floors will be valued at the
average of the bid quotations obtained daily from at least one dealer (g) debt
securities with a remaining maturity of 60 days or less are valued by the
particular investment adviser at amortized cost, which the Trustees have
determined to approximate fair value; (h) spot and forward foreign currency
exchange contracts will be valued using a pricing service such as Reuters. If no
quotations are available from a pricing service or the prices are believed by
the investment adviser to be inaccurate, the contracts will be valued by then
calculating the mean between the last bid and asked quotations supplied by at
least one dealer in such contracts; (i) exchange-traded options and futures
contracts will be valued by the custodian bank at the last sale price on the
exchange where such contracts and options are principally traded. If accurate
quotations are not readily available, the investment adviser will value such
contracts in good faith utilizing procedures such as those outlined under
section (d) (for debt securities), (c) (for equity securities) and (h) (for
foreign currency exchange contracts) above; (j) over-the-counter
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options will be valued by a broker identified by the portfolio manager/trader;
and (k) all other securities, including those for which a pricing service
supplies no exchange quotation or a quotation that is believed by the portfolio
manager/trader to be inaccurate, will be valued at fair value as stated in the
valuation procedures which were approved by the Board of Trustees.
In addition, portfolio securities of the Global Income Fund for which
accurate market quotations are available are valued as follows: (a) securities
listed on any U.S. or foreign stock exchange or on the National Association of
Securities Dealers Automated Quotations System ("NASDAQ") will be valued at the
last sale price on the exchange or system in which they are principally traded,
on the valuation date. If there is no sale on the valuation day, securities
traded will be valued at the mean between the closing bid and asked prices or if
closing bid and asked prices are not available, at the exchange defined close
price on the exchange or system in which such securities are principally traded.
If the relevant exchange or system has not closed by the time for determining
the Fund's net asset value, the securities will be valued at the mean between
the bid and asked prices at the time the net asset value is determined, and (ii)
on a foreign exchange will be valued at the official bid price. The last sale
price and official bid price for securities traded principally on a foreign
exchange will be determined as of the close of the London Foreign Exchange; (b)
over-the-counter securities not quoted on NASDAQ will be valued at the last sale
price on the valuation day or, if no sale occurs, at the mean between the last
bid and asked prices; (c) options and futures contracts will be valued at the
last sale price in the market where such contract is principally traded; and (d)
forward foreign currency exchange contracts will be valued at the mean between
the last bid and asked quotations supplied by a dealer in such contracts.
The value of all assets and liabilities expressed in foreign currencies
will be converted into U.S. dollar values at current exchange rates of such
currencies against U.S. dollars last quoted by any major bank. If such
quotations are not available, the rate
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of exchange will be determined in good faith by or under procedures established
by the Board of Trustees.
Generally, trading in securities on European and Far Eastern securities
exchanges and on over-the-counter markets is substantially completed at various
times prior to the close of business on each Business Day in New York (i.e., a
day on which the New York Stock Exchange is open for trading). In addition,
European or Far Eastern securities trading generally or in a particular country
or countries may not take place on all Business Days in New York. Furthermore,
trading takes place in various foreign markets on days which are not Business
Days in New York and days on which the Funds' net asset values are not
calculated. Such calculation does not take place contemporaneously with the
determination of the prices of the majority of the portfolio securities used in
such calculation. Events affecting the values of portfolio securities that
occur between the time their prices are determined and the close of regular
trading on the New York Stock Exchange will not be reflected in a Fund's
calculation of net asset values unless the Trustees deem that the particular
event would materially affect net asset value, in which case an adjustment will
be made.
The proceeds received by each Portfolio and each other series of the Trust
from the issue or sale of its shares, and all net investment income, realized
and unrealized gain and proceeds thereof, subject only to the rights of
creditors, will be specifically allocated to such Portfolio and constitute the
underlying assets of that Portfolio or series. The underlying assets of each
Portfolio will be segregated on the books of account, and will be charged with
the liabilities in respect of such Portfolio and with a share of the general
liabilities of the Trust. Expenses of the Trust with respect to the Portfolios
and the other series of the Trust are generally allocated in proportion to the
net asset values of the respective Portfolios or series except where allocations
of direct expenses can otherwise be fairly made.
PERFORMANCE INFORMATION
A Portfolio may from time to time quote or otherwise use total return,
yield and/or distribution rate information in advertisements, shareholder
reports or sales literature. Average annual total return and yield are computed
pursuant to formulas specified by the SEC.
Yield is computed by dividing net investment income earned during a recent
thirty-day period by the product of the average daily number of shares
outstanding and entitled to receive dividends during the period and the maximum
public offering price per share on the last day of the relevant period. The
results are compounded on a bond equivalent (semi-annual) basis and then
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annualized. Net investment income per share is equal to the dividends and
interest earned during the period, reduced by accrued expenses for the period.
The calculation of net investment income for these purposes may differ from the
net investment income determined for accounting purposes.
The distribution rate for a specified period is calculated by annualizing
distributions of net investment income for such period and dividing this amount
by the net asset value per share or maximum public offering price on the last
day of the period.
Average annual total return for a specified period is derived by
calculating the actual dollar amount of the investment return on a $1,000
investment made at the maximum public offering price applicable to the relevant
class (i.e., net asset value in the case of each class other than Class A) at
the beginning of the period, and then calculating the annual compounded rate of
return which would produce that amount, assuming a redemption (and payment of
any contingent deferred sales charge) at the end of the period. This
calculation assumes a complete redemption of the investment. It also assumes
that all dividends and distributions are reinvested at net asset value on the
reinvestment dates during the period.
Year-by-year total return and cumulative total return for a specified
period are each derived by calculating the percentage rate required to make a
$1,000 investment (made at the maximum public offering price with all
distributions reinvested) at the beginning of such period equal to the actual
total value of such investment at the end of such period.
Thirty-day yield, distribution rate and average annual total return are
calculated separately for each class of shares of each Portfolio. Each class of
shares of each Portfolio is subject to different fees and expenses and may have
different returns for the same period. Any performance data for Class A, Class
B or Class C Shares which is based upon a Portfolio's net asset value per share
would be reduced if a sales charge were taken into account.
Occasionally statistics may be used to specify Portfolio volatility or
risk. Measures of volatility or risk are generally used to compare a
Portfolio's net asset value or performance relative to a market index. One
measure of volatility is beta. Beta is the volatility of a fund relative to the
total market. A beta of more than 1.00 indicates volatility greater than the
market, and a beta of less than 1.00 indicates volatility less than the market.
Another measure of volatility or risk is standard deviation. Standard deviation
is used to measure variability of net asset value or total return around an
average, over a specified period of time. The premise is that greater
volatility connotes greater risk undertaken in achieving performance.
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From time to time the Trust may publish an indication of a Portfolio's past
performance as measured by independent sources such as (but not limited to)
Lipper Analytical Services, Inc., Morningstar Mutual Funds, Weisenberger
Investment Companies Service, Donoghue's Money Fund Report, Micropal, Barron's,
Business Week, Consumer's Digest, Consumer's Report, Investors Business Daily,
The New York Times, Kiplinger's Personal Finance Magazine, Changing Times,
Financial World, Forbes, Fortune, Money, Personal Investor, Sylvia Porter's
Personal Finance and The Wall Street Journal. The Trust may also advertise
information which has been provided to the NASD for publication in regional and
local newspapers. In addition, the Trust may from time to time advertise a
Portfolio's performance relative to certain indices and benchmark investments,
including: (a) the Lipper Analytical Services, Inc. Mutual Fund Performance
Analysis, Fixed Income Analysis and Mutual Fund Indices (which measure total
return and average current yield for the mutual fund industry and rank mutual
fund performance); (b) the CDA Mutual Fund Report published by CDA Investment
Technologies, Inc. (which analyzes price, risk and various measures of return
for the mutual fund industry); (c) the Consumer Price Index published by the
U.S. Bureau of Labor Statistics (which measures changes in the price of goods
and services); (d) Stocks, Bonds, Bills and Inflation published by Ibbotson
Associates (which provides historical performance figures for stocks, government
securities and inflation); (e) the Salomon Brothers' World Bond Index (which
measures the total return in U.S. dollar terms of government bonds, Eurobonds
and foreign bonds of ten countries, with all such bonds having a minimum
maturity of five years); (f) the Lehman Brothers Aggregate Bond Index or its
component indices; (g) the Standard & Poor's Bond Indices (which measure yield
and price of corporate, municipal and U.S. Government bonds); (h) the J.P.
Morgan Global Government Bond Index; (i) other taxable investments including
certificates of deposit (CDs), money market deposit accounts (MMDAs), checking
accounts, savings accounts, money market mutual funds, commercial paper and
repurchase agreements; (j) Donoghues' Money Fund Report (which provides industry
averages for 7-day annualized and compounded yields of taxable, tax-free and
U.S. Government money funds); (k) the Hambrecht & Quist Growth Stock Index; (l)
the NASDAQ OTC Composite Prime Return; (m) the Russell Midcap Index; (n) the
Russell 2000 Index - Total Return; (o) Russell 1000 Growth Index-Total Return;
(p) the Value-Line Composite-Price Return; (q) the Wilshire 4500 Index; (r) the
FT-Actuaries Europe and Pacific Index; (s) historical investment data supplied
by the research departments of Goldman Sachs, Lehman Brothers, First Boston
Corporation, Morgan Stanley including (EAFE), and the Morgan Stanley Capital
International Combined Asia ex Japan Free Index, the Morgan Stanley Capital
International Emerging Markets Free Index, Salomon Brothers, Merrill Lynch,
Donaldson Lufkin and Jenrette or other providers of such data; (t) the FT-
Actuaries Europe and Pacific Index; (u) CDA/Wiesenberger Investment Companies
Services or Wiesenberger Investment Companies Service; (v) The Goldman Sachs
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Commodities Index; (w) information produced by Micropal, Inc.; (x) the Shearson
Lehman Government/Corporate (Total) Index; (y) Shearson Lehman Government Index;
(z) Merrill Lynch 1-3 Year Treasury Index; (aa) Merrill Lynch 2-Year Treasury
Curve Index; (bb) the Salomon Brothers Treasury Yield Curve Rate of Return
Index; (cc) the Payden & Rygel 2-Year Treasury Note Index; (dd) 1 through 3 year
U.S. Treasury Notes; (ee) constant maturity U.S. Treasury yield indices; (ff)
the London Interbank Offered Rate; and (gg) historical data concerning the
performance of adjustable and fixed-rate mortgage loans. The composition of the
investments in such indices and the characteristics of such benchmark
investments are not identical to, and in some cases are very different from,
those of the Portfolios and the Underlying Funds. These indices and averages
are generally unmanaged and the items included in the calculations of such
indices and averages may not be identical to the formulas used by a Portfolio to
calculate its performance figures.
Information used in advertisements and materials furnished to present and
prospective investors may include statements or illustrations relating to the
appropriateness of certain types of securities and/or mutual funds to meet
specific financial goals. Such information may address:
. cost associated with aging parents;
. funding a college education (including its actual and estimated cost);
. health care expenses (including actual and projected expenses);
. long-term disabilities (including the availability of, and coverage
provided by, disability insurance);
. retirement (including the availability of social security benefits, the
tax treatment of such benefits and statistics and other information
relating to maintaining a particular standard of living and outliving
existing assets);
. asset allocation strategies and the benefits of diversifying among asset
classes;
. the benefits of international and emerging market investments;
. the effects of inflation on investing and saving;
. the benefits of establishing and maintaining a regular pattern of
investing and the benefits of dollar-cost averaging; and
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. measures of portfolio risk, including but not limited to, alpha, beta
and standard deviation.
The Trust may from time to time use comparisons, graphs or charts in
advertisements to depict the following types of information:
. the performance of various types of securities (for example, common
stocks, small company stocks, taxable money market funds, U.S. Treasury
securities, adjustable rate mortgage securities, government securities
and municipal bonds) over time. However, the characteristics of these
securities are not identical to, and may be very different from, those of
a Portfolio;
. the dollar and non-dollar based returns of various market indices (i.e.,
Morgan Stanley Capital International EAFE Index, FT-Actuaries Europe &
Pacific Index and the Standard & Poor's Index of 500 Common Stocks) over
varying periods of time;
. total stock market capitalizations of specific countries and regions on a
global basis;
. performance of securities markets of specific countries and regions;
. value of a dollar amount invested in a particular market or type of
security over different periods of time;
. volatility of total return of various market indices (i.e. Lehman
Government Bond Index, S&P 500, IBC/Donoghue's Money Fund Average/ All
Taxable Index) over varying periods of time;
. credit ratings of domestic government bonds in various countries;
. price volatility comparisons of types of securities over different
periods of time; and
. price and yield comparisons of a particular security over different
periods of time.
In addition, the Trust may from time to time include rankings of Goldman,
Sachs & Co.'s research department by publications such as the Institutional
Investor and the Wall Street Journal in advertisements.
From time to time, advertisements or information may include a discussion
of certain attributes or benefits to be derived by an investment in a Portfolio.
Such advertisements or information may include symbols, headlines or other
material which highlight or
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summarize the information discussed in more detail in the communication.
The Trust may from time to time summarize the substance of discussions
contained in shareholder reports in advertisements and publish the adviser's
views as to markets, the rationale for a Portfolio's investments and discussions
of a Portfolio's current asset allocation.
In addition, from time to time, advertisements or information may include a
discussion of asset allocation models developed by the Adviser and/or its
affiliates, certain attributes or benefits to be derived from asset allocation
strategies and the Goldman Sachs mutual funds that may be offered as investment
options for the strategic asset allocations. Such advertisements and
information may also include the Adviser's current economic outlook and domestic
and international market views to suggest periodic tactical modifications to
current asset allocation strategies. Such advertisements and information may
include other materials which highlight or summarize the services provided in
support of an asset allocation program.
A Portfolio's performance data will be based on historical results and will
not be intended to indicate future performance. A Portfolio's total return,
yield and distribution rate will vary based on market conditions, portfolio
expenses, portfolio investments and other factors. The value of a Portfolio's
shares will fluctuate and an investor's shares may be worth more or less than
their original cost upon redemption.
The Trust may, at its discretion, from time to time make a list of a
Portfolio's holdings available to investors upon request.
SHARES OF THE TRUST
Each Portfolio is a series of Goldman Sachs Trust, which was formed under
the laws of the state of Delaware on January 28, 1997. The Trustees have
authority to classify and reclassify the shares of the Portfolios into one or
more classes of shares. As of the date of this Additional Statement, the
Trustees have authorized the issuance of five classes of shares in each
Portfolio: Institutional Shares, Service Shares, Class A Shares, Class B Shares
and Class C Shares.
Each Institutional Share, Service Share, Class A Share, Class B Share and
Class C Share of a Portfolio represents a proportionate interest in the assets
belonging to the applicable class of the Portfolio. All expenses of a Portfolio
are borne at the same rate by each class of shares, except that fees under
Service Plan are borne exclusively by Service Shares, fees under Distribution
and Authorized Dealer Service Plans are borne exclusively by Class A
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Shares, Class B Shares or Class C Shares, and transfer agency fees are borne at
different rates by Class A Shares, Class B Shares or Class C Shares than
Institutional and Service Shares. The Trustees may determine in the future that
it is appropriate to allocate other expenses differently among classes of shares
and may do so to the extent consistent with the rules of the SEC and positions
of the Internal Revenue Service. Each class of shares may have different
minimum investment requirements and be entitled to different shareholder
services. Currently, shares of a class may only be exchanged for shares of the
same or an equivalent class of another series. See "Exchange Privilege" in the
Prospectus.
Institutional Shares may be purchased at net asset value without a sales
charge for accounts in the name of an investor or institution that is not
compensated by a Portfolio for services provided to the institution's customers.
Service Shares may be purchased at net asset value without a sales charge
for accounts held in the name of an institution that, directly or indirectly,
provides certain account administration and shareholder liaison services to its
customers, including maintenance of account records and processing orders to
purchase, redeem and exchange Service Shares. Service Shares bear the cost of
account administration fees at the annual rate of up to 0.50% of the average
daily net assets of the Portfolio attributed to Service Shares.
Class A Shares are sold, with an initial sales charge, through brokers and
dealers who are members of the National Association of Securities Dealers, Inc.
and certain other financial service firms that have sales agreements with
Goldman Sachs. Class A Shares of the Portfolios bear the cost of distribution
(Rule 12b-1) fees at the aggregate rate of up to 0.25% of the average daily net
assets of such Class A Shares. Class A Shares also bear the cost of an
Authorized Dealer Service Plan at an annual rate of up to 0.25% of average daily
net assets attributed to Class A Shares.
Class B Shares and Class C Shares of the Portfolios are sold subject to a
contingent deferred sales charge through brokers and dealers who are members of
the National Association of Securities Dealers, Inc. and certain other financial
services firms that have sales arrangements with Goldman Sachs. Class B Shares
and Class C Shares bear the cost of distribution (Rule 12b-1) fees at the
aggregate rate of up to 0.75% of the average daily net assets attributed to
Class B Shares and Class C Shares. Class B Shares and Class C Shares also bear
the cost of an Authorized Dealer Service Plan at an annual rate of up to 0.25%
of the average daily net assets attributed to Class B Shares and Class C Shares.
It is possible that an institution or its affiliate may offer different
classes of shares (i.e., Institutional, Service, Class A, Class B and Class C
Shares) to its customers and thus receive
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different compensation with respect to different classes of shares of each
Portfolio. Dividends paid by each Portfolio, if any, with respect to each class
of shares will be calculated in the same manner, at the same time on the same
day and will be in the same amount, except for differences caused by the fact
that the respective account administration, service, authorized dealer service
plan and distribution fees relating to a particular class will be borne
exclusively by that class. Similarly, the net asset value per share may differ
depending upon the class of shares purchased.
Certain aspects of the shares may be altered after advance notice to
shareholders if it is deemed necessary in order to satisfy certain tax
regulatory requirements.
When issued, shares are fully paid and non-assessable. In the event of
liquidation, shareholders are entitled to share pro rata in the net assets of
the applicable class of the relevant Portfolio available for distribution to
such shareholders. All shares are freely transferable and have no preemptive,
subscription or conversion rights.
Rule 18f-2 under the Act provides that any matter required to be submitted
by the provisions of the Act or applicable state law, or otherwise, to the
holders of the outstanding voting securities of an investment company such as
the Trust shall not be deemed to have been effectively acted upon unless
approved by the holders of a majority of the outstanding shares of each class or
series affected by such matter. Rule 18f-2 further provides that a class or
series shall be deemed to be affected by a matter unless the interests of each
class or series in the matter are substantially identical or the matter does not
affect any interest of such class or series. However, Rule 18f-2 exempts the
selection of independent public accountants, the approval of principal
distribution contracts and the election of trustees from the separate voting
requirements of Rule 18f-2.
The Trust is not required to hold annual meetings of shareholders and does
not intend to hold such meetings. In the event that a meeting of shareholders
is held, each share of the Trust will be entitled, as determined by the
Trustees, either to one vote for each share or to one vote for each dollar of
net asset value represented by such shares on all matters presented to
shareholders including the elections of Trustees (this method of voting being
referred to as "dollar based voting"). However, to the extent required by the
Act or otherwise determined by the Trustees, series and classes of the Trust
will vote separately from each other. Shareholders of the Trust do not have
cumulative voting rights in the election of Trustees. Meetings of shareholders
of the Trust, or any series or class thereof, may be called by the Trustees,
certain officers or upon the written request of holders of 10% or more of the
shares entitled to vote at
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such meetings. The shareholders of the Trust will have voting rights only with
respect to the limited number of matters specified in the Declaration of Trust
and such other matters as the Trustees may determine or may be required by law.
The Declaration of Trust provides for indemnification of Trustees, officers
and agents of the Trust unless the recipient is adjudicated (i) to be liable by
reason of willful misfeasance, bad faith, gross negligence or reckless disregard
of the duties involved in the conduct of such person's office or (ii) not to
have acted in good faith in the reasonable belief that such person's actions
were in the best interest of the Trust. The Declaration of Trust provides that,
if any shareholder or former shareholder of any series is held personally liable
solely by reason of being or having been a shareholder and not because of the
shareholder's acts or omissions or for some other reason, the shareholder or
former shareholder (or heirs, executors, administrators, legal representatives
or general successors) shall be held harmless from and indemnified against all
loss and expense arising from such liability. The Trust, acting on behalf of
any affected series, must, upon request by such shareholder, assume the defense
of any claim made against such shareholder for any act or obligation of the
series and satisfy any judgment thereon from the assets of the series.
The Declaration of Trust permits the termination of the Trust or of any
series or class of the Trust (i) by a majority of the affected shareholders at a
meeting of shareholders of the Trust, series or class; or (ii) by a majority of
the Trustees without shareholder approval if the Trustees determine that such
action is in the best interest of the Trust or its shareholders. The factors and
events that the Trustees may take into account in making such determination
include (i) the inability of the Trust or any successor series or class to
maintain its assets at an appropriate size; (ii) changes in laws or regulations
governing the Trust, series or class or affecting assets of the type in which it
invests; or (iii) economic developments or trends having a significant adverse
impact on their business or operations.
The Declaration of Trust authorizes the Trustees without shareholder
approval to cause the Trust, or any series thereof, to merge or consolidate with
any corporation, association, trust or other organization or sell or exchange
all or substantially all of the property belonging to the Trust or any series
thereof. In addition, the Trustees, without shareholder approval, may adopt a
master-feeder structure by investing all or a portion of the assets of a series
of the Trust in the securities of another open-end investment company with
substantially the same investment objective, restrictions and policies.
The Declaration of Trust permits the Trustees to amend the Declaration of
Trust without a shareholder vote. However,
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shareholders of the Trust have the right to vote on any amendment (i) that would
affect the voting rights of shareholders; (ii) that is required by law to be
approved by shareholders; (iii) that would amend the voting provisions of the
Declaration of Trust; or (iv) that the Trustees determine to submit to
shareholders.
The Trustees may appoint separate Trustees with respect to one or more
series or classes of the Trust's shares (the "Series Trustees"). Series Trustees
may, but are not required to, serve as Trustees of the Trust or any other series
or class of the Trust. The Series Trustees have, to the exclusion of any other
Trustees of the Delaware Trust, all the powers and authorities of Trustees under
the Trust Instrument with respect to any other series or class.
SHAREHOLDER AND TRUSTEE LIABILITY
Under Delaware law, the shareholders of the Portfolios are not generally
subject to liability for the debts or obligations of the Trust. Similarly,
Delaware law provides that a series of the Trust will not be liable for the
debts or obligations of any other series of the Trust. However, no similar
statutory or other authority limiting business trust shareholder liability
exists in other states. As a result, to the extent that a Delaware business
trust or a shareholder is subject to the jurisdiction of courts of such other
states, the courts may not apply Delaware law and may thereby subject the
Delaware business trust shareholders to liability. To guard this risk, the
Declaration of Trust contains an express disclaimer of shareholder liability for
acts or obligations of a Portfolio. Notice of such disclaimer will normally be
given in each agreement, obligation or instrument entered into or executed by a
series or the Trustees. The Declaration of Trust provides for indemnification
by the relevant Portfolio for all loss suffered by a shareholder as a result of
an obligation of the series. The Declaration of Trust also provides that a
series shall, upon request, assume the defense of any claim made against any
shareholder for any act or obligation of the series and satisfy any judgment
thereon. In view of the above, the risk of personal liability of shareholders
of a Delaware business trust is remote.
In addition to the requirements under Delaware law, the Declaration of
Trust provides that shareholders of a series may bring a derivative action on
behalf of the series only if the following conditions are met: (a) shareholders
eligible to bring such derivative action under Delaware law who hold at least
10% of the outstanding shares of the series, or 10% of the outstanding shares of
the class to which such action relates, shall join in the request for the
Trustees to commence such action; and (b) the Trustees must be afforded a
reasonable amount of time to consider such shareholder request and to
investigate the basis and to employ other advisers in considering the merits of
the request and shall require an undertaking by the shareholders making such
request to
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reimburse the Portfolio for the expense of any such advisers in the event that
the Trustees determine not to bring such action.
The Declaration of Trust further provides that the Trustees will not be
liable for errors of judgment or mistakes of fact or law, but nothing in the
Declaration of Trust protects a Trustee against liability to which he or she
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
or her office.
TAXATION
The following is a summary of the principal U.S. federal income, and
certain state and local, tax considerations regarding the purchase, ownership
and disposition of shares in each Portfolio. This summary does not address
special tax rules applicable to certain classes of investors, such as tax-exempt
entities, insurance companies and financial institutions. Each prospective
shareholder is urged to consult his own tax adviser with respect to the specific
federal, state, local and foreign tax consequences of investing in each
Portfolio. The summary is based on the laws in effect on the date of this
Additional Statement, which are subject to change.
GENERAL
Each Portfolio is a separate taxable entity. Each of the Portfolios
intends to qualify for each taxable year as a regulated investment company under
Subchapter M of the Internal Revenue, as amended (the "code") Code.
Qualification as a regulated investment company under the Code requires,
among other things, that (a) a Portfolio derive at least 90% of its gross income
for its taxable year from dividends, interest, payments with respect to
securities loans and gains from the sale or other disposition of stocks or
securities or foreign currencies, or other income (including but not limited to
gains from options, futures, and forward contracts) derived with respect to its
business of investing in such stock, securities or currencies (the "90% gross
income test"); and (b) such Portfolio diversify its holdings so that, at the
close of each quarter of its taxable year, (i) at least 50% of the market value
of such Portfolio's total (gross) assets is comprised of cash, cash items, U.S.
Government securities, securities of other regulated investment companies and
other securities limited in respect of any one issuer to an amount not greater
in value than 5% of the value of such Portfolio's total assets and to not more
than 10% of the outstanding voting securities of such issuer, and (ii) not more
than 25% of the value of its total (gross) assets is invested in the securities
of any one issuer (other than U.S. Government securities and securities of other
regulated investment companies)
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or two or more issuers controlled by the Portfolio and engaged in the same,
similar or related trades or businesses.
If a Portfolio complies with such provisions, then in any taxable year in
which such Portfolio distributes, in compliance with the Code's timing and other
requirements, at least 90% of its "investment company taxable income" (which
includes dividends, taxable interest, taxable accrued original issue discount
and market discount income, income from securities lending, any net short-term
capital gain in excess of net long-term capital loss, certain net realized
foreign exchange gains and any other taxable income other than "net capital
gain," as defined below, and is reduced by deductible expenses), and at least
90% of the excess of its gross tax-exempt interest income (if any) over certain
disallowed deductions, such Portfolio (but not its shareholders) will be
relieved of federal income tax on any income of the Portfolio, including long-
term capital gains, distributed to shareholders. In this connection, dividends
received by a Portfolio from an Underlying Fund other than Capital gain
distributions, are treated as ordinary income to the Portfolio. Distributions
from an Underlying Fund designated as capital gain distributions are treated as
long-term capital gains (20% or 28% depending on the underlying Fund's holding
period for the assets the sale of which generated the capital gains). In
addition, upon the sale or other disposition by a Portfolio of shares of an
Underlying Fund or other investment, the Portfolio will generally realize a
capital gain or loss which will be long-term (20% or 28% rate) or short-term,
generally depending upon the Portfolio's holding period.
If a Portfolio retains any investment company taxable income or "net
capital gain" (the excess of net long-term capital gain over net short-term
capital loss), it will be subject to a tax at regular corporate rates on the
amount retained. If a Portfolio retains any net capital gain, the Portfolio may
designate the retained amount as undistributed capital gains in a notice to its
shareholders who, if subject to U.S. federal income tax on long-term capital
gains, (i) will be required to include in income for federal income tax
purposes, as 20% or 28% rate capital gain, as the case may be, their shares of
such undistributed amount, and (ii) will be entitled to credit their
proportionate shares of the tax paid by the Portfolio against their U.S. federal
income tax liabilities, if any, and to claim refunds to the extent the credit
exceeds such liabilities. For U.S. federal income tax purposes, the tax basis of
shares owned by a shareholder of the Portfolio will be increased by an amount
equal to a percentage of the amount of undistributed net capital gain included
in the shareholder's gross income. Each Portfolio intends to distribute for each
taxable year to its shareholders all or substantially all of its investment
company taxable income, net capital gain and any net tax-exempt interest. If for
any taxable year a Portfolio does not qualify as a regulated investment company,
it will be taxed on all of its investment company taxable income and net capital
gain at corporate rates, and its distributions to shareholders will be taxable
as ordinary dividends to the extent of its current and accumulated earnings and
profits.
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In order to avoid a 4% federal excise tax, each Portfolio must distribute
(or be deemed to have distributed) by December 31 of each calendar year at least
98% of its taxable ordinary income for such year, at least 98% of the excess of
its capital gains over its capital losses (generally computed on the basis of
the one-year period ending on October 31 of such year), and all taxable ordinary
income and the excess of capital gains over capital losses for the previous year
that were not distributed for such year and on which the Portfolio paid no
federal income tax. For federal income tax purposes, dividends declared by a
Portfolio in October, November or December to shareholders of record on a
specified date in such a month and paid during January of the following year are
taxable to such shareholders as if received on December 31 of the year declared.
The Portfolios anticipate that they will generally make timely distributions of
income and capital gains in compliance with these requirements so that they will
generally not be required to pay the excise tax. For federal income tax
purposes, each Portfolio is permitted to carry forward a net capital loss in any
year to offset its own capital gains, if any, during the eight years following
the year of the loss.
Each Underlying Fund also intends to qualify annually and elect to be
treated as a regulated investment company under Subchapter M of the Code. In any
year in which an Underlying Fund so qualifies and timely distributes all of its
taxable income, the Fund generally will not pay any federal income or excise
tax. If, as may occur for certain of the Underlying Funds, more than 50% of a
Fund's total assets at the close of any taxable year consists of stock or
securities of foreign corporations, the Fund may file an election with the
Internal Revenue Service pursuant to which shareholders of the Fund would be
required to (i) include in ordinary gross income (in addition to taxable
dividends actually received) their pro rata shares of foreign income taxes paid
by the Fund that are treated as income taxes under U.S. tax regulations (which
excludes, for example, stamp taxes, securities transaction taxes, and similar
taxes) even though not actually received by such shareholders, and (ii) treat
such respective pro rata portions as foreign income taxes paid by them.
If an Underlying Fund makes this election, its shareholders may then deduct
such pro rata portions of qualified foreign taxes in computing their taxable
incomes, or, alternatively, use them as foreign tax credits, subject to
applicable limitations, against their U.S. federal income taxes. Shareholders
who do not itemize deductions for federal income tax purposes will not, however,
be able to deduct their pro rata portion of foreign taxes paid by a Fund,
although such shareholders will be required to include their shares of such
taxes in gross income if the election is made.
While a Portfolio will be able to deduct the foreign taxes that it will be
treated as receiving from an Underlying Fund if the election is made, the
Portfolio will not itself be able to elect to
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treat its foreign taxes as paid by its shareholders. Accordingly, the
shareholders of the Portfolio will not have an option of claiming a foreign tax
credit for foreign taxes paid by the Underlying Funds, while persons who invest
directly in such Underlying Funds may have that option.
If an Underlying Fund acquires stock (including, under proposed
regulations, an option to acquire stock such as is inherent in a convertible
bond) in certain foreign corporations that receive at least 75% of their annual
gross income from passive sources (such as interest, dividends, rents, royalties
or capital gain) or hold at least 50% of their assets in investments producing
such passive income ("passive foreign investment companies"), the Fund could be
subject to federal income tax and additional interest charges on "excess
distributions" received from such companies or gain from the sale of stock in
such companies, even if all income or gain actually received by the Fund is
timely distributed to its shareholders. The Fund would not be able to pass
through to its shareholders any credit or deduction for such a tax. In some
cases, elections may be available that would ameliorate these adverse tax
consequences, but such elections would require the Fund to include certain
amounts as income or gain (subject to the distribution requirements described
above) without a concurrent receipt of cash. Each Fund may limit and/or manage
its holdings in passive foreign investment companies to minimize its tax
liability or maximize its return from these investments.
TAXABLE U.S. SHAREHOLDERS - DISTRIBUTIONS
For U.S. federal income tax purposes, distributions by a Portfolio
generally will be taxable to shareholders who are subject to tax. Shareholders
receiving a distribution in the form of newly issued shares will be treated for
U.S. federal income tax purposes as receiving a distribution in an amount equal
to the amount of cash they would have received had they elected to receive cash
and will have a cost basis in each share received equal to such amount divided
by the number of shares received.
Distributions from investment company taxable income for the year will be
taxable as ordinary income. Distributions designated as derived from a
Portfolio's dividend income, if any, that would be eligible for the dividends
received deduction if such Portfolio's were not a regulated investment company
may be eligible, for the dividends received-deduction for corporate
shareholders. The dividends received-deduction, if available, is reduced to the
extent the shares with respect to which the dividends are received are treated
as debt-financed under federal income tax law and is eliminated if the shares
are deemed to have been held for less than a minimum period, generally 46 days.
The entire dividend, including the deducted amount, is considered in determining
the excess, if any, of a corporate shareholder's adjusted current earnings over
its alternative minimum taxable income, which may
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increase its liability for the federal alternative minimum tax, and the dividend
may, if it is treated as an "extraordinary dividend" under the Code, reduce such
shareholder's tax basis in its shares of a Portfolio. Capital gain dividends
(i.e., dividends from net capital gain) if designated as such in a written
notice to shareholders mailed not later than 60 days after a Portfolio's taxable
year closes, will be taxed to shareholders as long-term capital gain regardless
of how long shares have been held by shareholders, but are not eligible for the
dividends received deduction for corporations. Distributions, if any, that are
in excess of a Portfolio's current and accumulated earnings and profits will
first reduce a shareholder's tax basis in his shares and, after such basis is
reduced to zero, will generally constitute capital gains to a shareholder who
holds his shares as capital assets.
Different tax treatment, including penalties on certain excess
contributions and deferrals, certain pre-retirement and post-retirement
distributions, and certain prohibited transactions is accorded to accounts
maintained as qualified retirement plans. Shareholders should consult their tax
advisers for more information.
TAXABLE U.S. SHAREHOLDERS - SALE OF SHARES
When a shareholder's shares are sold, redeemed or otherwise disposed of in
a transaction that is treated as a sale for tax purposes, the shareholder will
generally recognize gain or loss equal to the difference between the
shareholder's adjusted tax basis in the shares and the cash, or fair market
value of any property, received. Assuming the shareholder holds the shares as a
capital asset at the time of such sale, such gain or loss should be capital in
character, and will be long-term (20% or 28% rate, as the case may be) or short-
term depending on the shareholder's tax holding period for the shares subject to
the rules described below. Shareholders should consult their own tax advisers
with reference to their particular circumstances to determine whether a
redemption (including an exchange) or other disposition of Portfolio shares is
properly treated as a sale for tax purposes, as is assumed in this discussion.
If a shareholder receives a capital gain dividend with respect to shares and
such shares have a tax holding period of six months or less at the time of a
sale or redemption of such shares, then any loss the shareholder realizes on the
sale or redemption will be treated as a long-term capital loss to the extent of
such capital gain dividend. Additionally, any loss realized on a sale or
redemption of shares of a Portfolio may be disallowed under "wash sale" rules to
the extent the shares disposed of are replaced with other shares of the same
Portfolio within a period of 61 days beginning 30 days before and ending 30 days
after the shares are disposed of, such as pursuant to a dividend reinvestment in
shares of such Portfolio. If disallowed, the loss will be reflected in an
adjustment to the basis of the shares acquired.
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Each Portfolio may be required to withhold, as "backup withholding,"
federal income tax at a rate of 31% from dividends (including capital gain
dividends) and share redemption and exchange proceeds to individuals and other
non-exempt shareholders who fail to furnish such Portfolio with a correct
taxpayer identification number ("TIN") certified under penalties of perjury, or
if the Internal Revenue Service or a broker notifies the Portfolio that the
payee is subject to backup withholding as a result of failing to properly report
interest or dividend income to the Internal Revenue Service or that the TIN
furnished by the payee to the Portfolio is incorrect, or if (when required to do
so) the payee fails to certify under penalties of perjury that it is not subject
to backup withholding. A Portfolio may refuse to accept an application that
does not contain any required TIN or certification that the TIN provided is
correct. If the backup withholding provisions are applicable, any such dividends
and proceeds, whether paid in cash or reinvested in additional shares, will be
reduced by the amounts required to be withheld. Any amounts withheld may be
credited against a shareholder's U.S. federal income tax liability.
NON-U.S. SHAREHOLDERS
The discussion above relates solely to U.S. federal income tax law as it
applies to "U.S. persons" subject to tax under such law. Shareholders who, as to
the United States, are not "U.S. persons," (i.e., are nonresident aliens,
foreign corporations, fiduciaries of foreign trusts or estates, foreign
partnerships or other non-U.S. investors) generally will be subject to U.S.
federal withholding tax at the rate of 30% on distributions treated as ordinary
income unless the tax is reduced or eliminated pursuant to a tax treaty or the
dividends are effectively connected with a U.S. trade or business of the
shareholder. In the latter case the dividends will be subject to tax on a net
income basis at the graduated rates applicable to U.S. individuals or domestic
corporations. Distributions of net capital gain, including amounts retained by
a Portfolio which are designated as undistributed capital gains, to a non-U.S.
shareholder will not be subject to U.S. federal income or withholding tax unless
the distributions are effectively connected with the shareholder's trade or
business in the United States or, in the case of a shareholder who is a
nonresident alien individual, the shareholder is present in the United States
for 183 days or more during the taxable year and certain other conditions are
met.
Any capital gain realized by a non-U.S. shareholder upon a sale or
redemption of shares of a Portfolio will not be subject to U.S. federal income
or withholding tax unless the gain is effectively connected with the
shareholder's trade or business in the U.S., or in the case of a shareholder who
is a nonresident alien individual, the shareholder is present in the U.S. for
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days or more during the taxable year and certain other conditions are met.
Non-U.S. persons who fail to furnish a Portfolio with an IRS Form W-8 or an
acceptable substitute may be subject to backup withholding at the rate of 31% on
capital gain dividends and the proceeds of redemptions and exchanges. Each
shareholder who is not a U.S. person should consult his or her tax adviser
regarding the U.S. and non-U.S. tax consequences of ownership of shares of and
receipt of distributions from the Portfolios.
STATE AND LOCAL
Each Portfolio may be subject to state or local taxes in jurisdictions in
which such Portfolio may be deemed to be doing business. In addition, in those
states or localities which have income tax laws, the treatment of such
Portfolio and its shareholders under such laws may differ from their treatment
under federal income tax laws, and investment in such Portfolio may have tax
consequences for shareholders different from those of a direct investment in the
securities held by the Portfolio. Shareholders should consult their own tax
advisers concerning these matters.
OTHER INFORMATION
Shares of the Portfolios are offered and sold on a continuous basis by the
Trust's Distributor, Goldman Sachs, acting as agent. As described in the
Prospectus, shares of the Portfolios are sold and redeemed at their net asset
value as next determined after receipt of the purchase or redemption order.
Each Portfolio will redeem shares solely in cash up to the lesser of
$250,000 or 1% of the net asset value of the Portfolio during any 90-day period
for any one shareholder. Each Portfolio, however, reserves the right to pay
redemptions exceeding $250,000 or 1% of the net asset value of the Portfolio at
the time of redemption by a distribution in kind of securities (instead of cash)
from such Portfolio. The securities distributed in kind would be readily
marketable and would be valued for this purpose using the same method employed
in calculating the Portfolio's net asset value per share. See "Net Asset
Value." If a shareholder receives redemption proceeds in kind, the shareholder
may incur transaction costs upon the disposition of the securities received in
the redemption.
The right of a shareholder to redeem shares and the date of payment by each
Portfolio may be suspended for more than seven days for any period during which
the New York Stock Exchange is closed, other than the customary weekends or
holidays, or when trading on such Exchange is restricted as determined by the
SEC; or during any emergency, as determined by the SEC, as a result of which it
is not
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reasonably practicable for such Portfolio to dispose of securities owned by it
or fairly to determine the value of its net assets; or for such other period as
the SEC may by order permit for the protection of shareholders of such
Portfolio. (The Trust may also suspend or postpone the recordation of the
transfer of shares upon the occurrence of any of the foregoing conditions.)
The Prospectus and this Additional Statement do not contain all the
information included in the Registration Statement filed with the SEC under the
1933 Act with respect to the securities offered by the Prospectus. Certain
portions of the Registration Statement have been omitted from the Prospectus and
this Additional Statement pursuant to the rules and regulations of the SEC. The
Registration Statement including the exhibits filed therewith may be examined
at the office of the SEC in Washington, D.C.
Statements contained in the Prospectus or in this Additional Statement as
to the contents of any contract or other document referred to are not
necessarily complete, and, in each instance, reference is made to the copy of
such contract or other document filed as an exhibit to the Registration
Statement of which the Prospectus and this Additional Statement form a part,
each such statement being qualified in all respects by such reference.
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SERVICE PLAN
Each Portfolio has adopted a service plan (the "Plan") with respect to
its Service Shares which authorizes it to compensate Service Organizations for
providing certain administration services and personal and account maintenance
services to their customers who are or may become beneficial owners of such
Shares. Pursuant to the Plan, a Portfolio will enter into agreements with
Service Organizations which purchase Service Shares of the Portfolio on behalf
of their customers ("Service Agreements"). Under such Service Agreements the
Service Organizations may perform some or all of the following services: (a)
act, directly or through an agent, as the sole shareholder of record and nominee
for all customers, (b) maintain account records for each customer who
beneficially owns Service Shares of a Portfolio, (c) answer questions and handle
correspondence from customers regarding their accounts, (d) process customer
orders to purchase, redeem and exchange Service Shares of a Portfolio, and
handle the transmission of funds representing the customers' purchase price or
redemption proceeds, (e) issue confirmations for transactions in shares by
customers, (f) provide facilities to answer questions from prospective and
existing investors about Service Shares of a Portfolio, (g) receive and answer
investor correspondence, including requests for prospectuses and statements of
additional information, (h) display and make prospectuses available on the
Service Organization's premises, (i) assist customers in completing application
forms, selecting dividend and other account options and opening custody accounts
with the Service Organization and (j) act as liaison between customers and a
Portfolio, including obtaining information from a Portfolio, working with a
Portfolio to correct errors and resolve problems and providing statistical and
other information to a Portfolio. As compensation for such services, a
Portfolio will pay each Service Organization a service fee in an amount up to
0.50% (on an annualized basis) of the average daily net assets of the Service
Shares of such Portfolio attributable to or held in the name of such Service
Organization; provided, however, that the fee paid for personal and account
maintenance services shall not exceed 0.25% such average daily net assets.
Each Portfolio has adopted its Plan pursuant to Rule 12b-1 under the
1940 Act in order to avoid any possibility that payments to the Service
Organizations pursuant to the Service Agreements might violate the 1940 Act.
Rule 12b-1, which was adopted by the SEC under the Act, regulates the
circumstances under which an investment company or series thereof may bear
expenses associated with the distribution of its shares. In particular, such an
investment company or series thereof cannot engage directly or indirectly in
financing any activity which is primarily intended to result in the sale of
shares issued by the company unless it has adopted a plan pursuant to, and
complies with the other requirements of, such Rule. The Trust believes that
fees paid for the services provided in the Plan and described above are not
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expenses incurred primarily for effecting the distribution of Service Shares.
However, should such payments be deemed by a court or the SEC to be distribution
expenses, such payments would be duly authorized by the Plan.
The Glass-Steagall Act prohibits all entities which receive deposits
from engaging to any extent in the business of issuing, underwriting, selling or
distributing securities, although institutions such as national banks are
permitted to purchase and sell securities upon the order and for the account of
their customers. In addition, under some state securities laws, banks and other
financial institutions purchasing Service Shares on behalf of their customers
may be required to register as dealers. Should future legislative or
administrative action or judicial or administrative decisions or interpretations
prohibit or restrict the activities of one or more of the Service Organizations
in connection with the Portfolios, such Service Organizations might be required
to alter materially or discontinue the services performed under their Service
Agreements. If one or more of the Service Organizations were restricted from
effecting purchases or sales of Service Shares automatically pursuant to pre-
authorized instructions, for example, effecting such transactions on a manual
basis might affect the size and/or growth of a Portfolio. Any such alteration
or discontinuance of services could require the Board of Trustees to consider
changing a Portfolio's method of operations or providing alternative means of
offering Service Shares of a Portfolio to customers of such Service
Organizations, in which case the operation of such Portfolio, its size and/or
its growth might be significantly altered. It is not anticipated, however, that
any alternation of a Portfolio's operations would have any effect on the net
asset value per share or result in financial losses to any shareholder.
Conflict of interest restrictions (including the Employee Retirement
Income Security Act of 1974) may apply to a Service Organization's receipt of
compensation paid by a Portfolio in connection with the investment of fiduciary
assets in Service Shares of such Portfolio. Service Organizations, including
banks regulated by the Comptroller of the Currency, the Federal Reserve Board or
the Federal Deposit Insurance Corporation, and investment advisers and other
money managers subject to the jurisdiction of the SEC, the Department of Labor
or state securities regulators, are urged to consult legal advisers before
investing fiduciary assets in Service Shares of the Portfolios. In addition,
under some state securities laws, banks and other financial institutions
purchasing Service Shares on behalf of their customers may be required to
register as dealers.
The Trustees, including a majority of the Trustees who are not
interested persons
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of the Trust and who have no direct or indirect financial interest in the
operation of the Plans or the related Service Agreements, most recently voted to
approve each Portfolio's Plan and related Service Agreements at a meeting called
for the purpose of voting on such Plans and Service Agreements on October 21,
1997. Each Plan and Service Agreement will remain in effect until April 30, 1998
and will continue in effect thereafter only if such continuance is specifically
approved annually by a vote of the Board of Trustees in the manner described
above. No Plan may be amended to increase materially the amount to be spent for
the services described therein without approval of the Service Shareholders of
the applicable Portfolio, and all material amendments of each Plan must also be
approved by the Board of Trustees in the manner described above. Each Plan may
be terminated at any time by a majority of the Board of Trustees as described
above or by vote of a majority of the outstanding Service Shares of the
applicable Portfolio. The Service Agreements may be terminated at any time,
without payment of any penalty, by vote of a majority of the Board of Trustees
as described above or by a vote of a majority of the outstanding Service Shares
of the applicable Portfolio on not more than sixty (60) days' written notice to
any other party to the Service Agreements. The Service Agreements will terminate
automatically if assigned. So long as the Plans are in effect, the selection and
nomination of those Trustees who are not interested persons will be committed to
the discretion of the Trust's Nominating Committee, which consists of all of the
non-interested members of the Board of Trustees. The Board of Trustees has
determined that, in its judgment, there is a reasonable likelihood that a
Portfolio's Plan will benefit such Portfolio and its holders of Service Shares.
In the Board of Trustees' quarterly review of the Plans and Service Agreements,
the Board will consider their continued appropriateness and the level of
compensation provided therein.
B-114
<PAGE>
APPENDIX A
DESCRIPTION OF BOND RATINGS, INCLUDING MUNICIPAL BONDS/1/
MOODY'S INVESTORS SERVICE, INC.
Bond Ratings
- ------------
Aaa: Bonds which are rated Aaa are judged to be of the best quality. They
carry the smallest degree of investment risk and are generally referred to as
"gilt edged." Interest payments are protected by a large or by an exceptionally
stable margin and principal is secure. While the various protective elements
are likely to change, such changes as can be visualized are most unlikely to
impair the fundamentally strong position of such issues.
Aa: Bonds which are rated Aa are judged to be of high quality by all
standards. Together with the Aaa group they comprise what are generally known
as high-grade bonds. They are rated lower than the best bonds because margins
of protection may not be as large as in Aaa securities or fluctuation of
protective elements may be of greater amplitude or there may be other elements
present which make the long-term risks appear somewhat larger than in Aaa
securities.
A: Bonds which are rated A possess many favorable investment attributes
and are to be considered as upper medium-grade obligations. Factors giving
security to principal and interest are considered adequate, but elements may be
present which suggest a susceptibility to impairment sometime in the future.
Baa: Bonds which are rated Baa are considered as medium-grade obligations,
i.e., they are neither highly protected nor poorly secured. Interest payments
and principal security appear adequate for the present but certain protective
elements may be lacking or may be characteristically unreliable over any great
length of time. Such bonds lack outstanding investment characteristics and in
fact have speculative characteristics as well.
Ba: Bonds which are rated Ba are judged to have speculative elements;
their future cannot be considered as well assured. Often the protection of
interest and principal payments may be very moderate and thereby not well
safeguarded during both good and bad
- ---------------------------
/1/ The rating systems described herein are believed to be the most recent
ratings systems available from Moody's Investors Service, Inc. and Standard &
Poor's Ratings Group at the date of this Additional Statement for the securities
listed. Ratings are generally given to securities at the time of issuance.
While the rating agencies may from time to time revise such ratings, they
undertake no obligation to do so.
A-1
<PAGE>
times over the future. Uncertainty of position characterizes bonds in this
class.
B: Bonds which are rated B generally lack characteristics of the desirable
investment. Assurance of interest and principal payments or of maintenance of
other terms of the contract over any long period of time may be small.
Caa: Bonds which are rated Caa are of poor standing. Such issues may be
in default or there may be present elements of danger with respect to principal
or interest.
Ca: Bonds which are rated Ca represent obligations which are speculative
in a high degree. Such issues are often in default or have other marked
shortcomings.
C: Bonds which are rated C are the lowest rated class of bonds, and issues
so rated can be regarded as having extremely poor prospects of ever attaining
any real investment standing.
UNRATED: Where no rating has been assigned or where a rating has been
suspended or withdrawn, it may be for reasons unrelated to the quality of the
issue.
Should no rating be assigned, the reason may be one of the following:
1. An application for rating was not received or accepted.
2. The issue or issuer belongs to a group of securities or companies
that are not rated as a matter of policy.
3. There is a lack of essential data pertaining to the issue or
issuer.
4. The issuer was privately placed, in which case the rating is not
published in Moody's publications.
Suspension or withdrawal may occur if new and material circumstances arise,
the effects of which preclude satisfactory analysis; if there is no longer
available reasonable up-to-date data to permit a judgment to be formed; if a
bond is called for redemption; or for other reasons.
Con. (---): 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
A-2
<PAGE>
attaches. Parenthetical rating denotes probable credit stature upon completion
of construction or elimination of basis of condition.
(P)...: When applied to forward delivery bonds, indicates that the
rating is provisional pending delivery of the bonds. The rating may be revised
prior to delivery if changes occur in the legal documents or the underlying
credit quality of the bonds.
NOTE: Those bonds in the Aa, A, Baa, Ba and B groups which Moody's
believes possess the strongest investment attributes are designed by the symbols
Aa1, A1, Baa1 and B1.
Description of Ratings of Commercial Paper
- ------------------------------------------
Moody's commercial paper ratings are opinions of the ability of issuers to
repay punctually senior debt obligations which have an original maturity in
excess of one year, unless explicitly noted. Moody's three highest commercial
paper rating categories are as follows:
Prime-1: Issuers rated Prime-1 (or supporting institutions) have a superior
ability for repayment of senior short-term debt obligations. Prime-1 repayment
ability will often be evidenced by many of the following characteristics:
- Leading market positions in well-established industries.
- High rates of return on funds employed.
- Conservative capitalization structure 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.
A-3
<PAGE>
Prime-2: Issuers rated Prime-2 (or supporting institutions) have a strong
ability for repayment of short-term debt 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 may be more
subject to variation. Capitalization characteristics, while still
appropriate, may be more affected by external conditions. Ample alternate
liquidity is maintained.
Prime-3: Issuers rated Prime-3 (or supporting institutions) have an
acceptable ability for repayment of senior short-term obligations. The
effect of industry characteristics and market compositions may be more
pronounced. Variability in earnings and profitability may result in
changes in the level of debt protection measurements and may require
relatively high financial leverage. Adequate alternate liquidity is
maintained.
NOT PRIME: Issuers do not fall within any of the Prime rating categories.
STANDARD & POOR'S RATINGS GROUP
Description of Ratings of State and Municipal Notes
---------------------------------------------------
Moody's ratings for state and municipal short-term obligations will be
designated Moody's Investment Grade ("MIG") and variable rate demand obligations
are designated Variable Moody's Investment Grade ("VMIG"). Such ratings
recognize the differences between short-term credit risk and long-term risk.
Factors affecting the liquidity of the borrower and short-term cyclical elements
are critical in short-term ratings, while other factors of major importance in
bond risk, long-term secular trends for example, may be less important over the
short run. Symbols used will be as follows:
MIG-1/VMIG-1: This designation denotes best quality. There is present
strong protection by established cash flows, superior liquidity support or
demonstrated broad based access to the market for refinancing.
MIG-2/VMIG-2: This designation denotes high quality. Margins of protection
are ample although not so large as in the preceding group.
MIG-3/VMIG-3: This designation denotes favorable quality. All security
elements are accounted for but there is lacking the undeniable strength of the
preceding grades. Liquidity and cash flow protection may be narrow and market
access for refinancing is likely to be less well established.
MIG-4/VMIG-4: This designation denotes adequate quality. Protection
commonly regarded as required of an investment security is present and although
not distinctly or predominantly speculative, there is specific risk.
SG: This designation denotes speculative quality. Debt instruments in
this category lack margins of protection.
Bond Ratings
- ------------
AAA: Bonds and debt rated AAA have the highest rating assigned by Standard
& Poor's. The obligor's capacity to meet its financial commitment on the
obligation is extremely strong.
AA: The obligor's capacity to meet its financial commitment on the
obligation ais very strong and differ from the higher rated issues only in small
degree.
A: Bonds and debt rated A have a very strong capacity to pay interest and
repay principal although they are somewhat more susceptible to the adverse
effects of changes in circumstances and economic conditions than bonds in higher
rated categories.
BBB: Bonds and debt rated BBB are regarded as having an adequate capacity
to pay interest and repay principal. Whereas they normally exhibit adequate
protection parameters, adverse economic conditions or changing circumstances are
more likely to lead to a weakened capacity to pay interest and repay principal
for bonds in this category than in higher rated categories.
BB, B, CCC, CC, C: Bonds and debt rated BB, B, CCC, CC and C are regarded,
on balance, as predominately speculative with respect to capacity to pay
interest and repay principal. BB indicates the least degree of speculation and
C the highest. While such bonds will likely have some quality and protective
characteristics, these
A-4
<PAGE>
are outweighed by large uncertainties of major risk exposures to adverse
conditions.
BB: Bonds and debt rated BB have less near-term vulnerability to default
than other speculative issues. However, such securities face major ongoing
uncertainties or exposure to adverse business, financial, or economic conditions
which could lead to inadequate capacity to meet timely interest and principal
payments. The BB rating category is also used for bonds that are subordinated
to senior debt assigned an actual or implied BBB- rating.
B: Bonds and debt rated B have a greater vulnerability to default but
currently have the capacity to meet interest payments and principal repayments.
Adverse business, financial, or economic conditions will likely impair capacity
or willingness to pay interest and repay principal.
The B rating category is also used for bonds that are subordinated to
senior debt assigned an actual or implied BB or BB-rating.
CCC: Bonds and debt rated CCC have currently identifiable vulnerability to
default, and are dependent upon favorable business, financial, and economic
conditions to meet timely payment of interest and repayment of principal. In
the event of adverse business, financial, or economic conditions, such
securities are not likely to have the capacity to pay interest and repay
principal.
The CCC rating category is also used for bonds that are subordinated to
senior debt assigned an actual or implied B or B-rating.
CC: The rating CC is typically applied to bonds and debt that are
subordinated to senior debt assigned an actual or implied CCC rating.
C: The rating C is typically applied to bonds and debt that are
subordinated to senior debt assigned an actual or implied CCC-debt rating. The
C rating may be used to cover a situation where a bankruptcy petition has been
filed, but debt service payments are continued.
C1: The rating C1 is reserved for income bonds on which no interest is
being paid.
D: Bonds and debt rated D are in default and payment of interest and/or
repayment of principal is in arrears. The D rating category is used when
interest payments or principal payments are not made on the date due even if the
applicable grace period has not expired, unless Standard & Poor's believes that
such payments will be made during such grace period. The D rating also will be
A-5
<PAGE>
used upon the filing of a bankruptcy petition if debt service payments are
jeopardized.
Plus (+) or minus (-): The ratings from "AA" to "CCC" may be modified by
the addition of a plus or minus sign to show relative standing within the major
rating categories.
R: This rating is attached to highlight derivative, hybrid, and certain
other obligations that S & P believes may experience high volatility or high
variability in expected returns due to non-credit risks. Examples of such
obligations are: securities whose principal or interest return is indexed to
equities, commodities, or currencies; certain swaps and options; and interest-
only and principal-only mortgage securities. The absence of an "r" symbol
should not be taken as an indication that an obligation will exhibit no
volatility or variability in total return.
N.R.: Not rated.
Notes: Bonds which are unrated expose the investor to risks with respect
to capacity to pay interest or repay principal which are similar to the risks of
lower-rated speculative obligations. The Fund is dependent on the Investment
Adviser's judgment, analysis and experience in the evaluation of such bonds.
Investors should note that credit factors affecting high yield, fixed
income securities change quickly and the assignment of a rating to a particular
bond by a rating service may not reflect the effect of recent developments on
the issuer's ability to make interest and principal payments.
S&P's top ratings for notes issued after July 29, 1984 are SP-1 and SP-2.
The designation SP-1 indicates a very strong capacity to pay principal and
interest. A plus sign (+) is added for those issues determined to possess
overwhelming safety characteristics. An SP-2 designation indicates a
satisfactory capacity to pay principal and interest.
Commercial paper rated A by S&P is regarded as having the greatest capacity
for timely payment. Commercial paper rated A-1 is described as having an
overwhelming or very strong degree of safety regarding timely payment.
Commercial Paper rated A-2 by Standard & Poor's is described as having a strong
degree of safety regarding timely payment.
A-6
<PAGE>
STANDARD & POOR'S RATINGS GROUP
Description of Ratings of State and Municipal
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 no more than
365 days. Standard & Poor's two highest commercial paper rating categories are
as follows:
A-1: This highest category indicates that the degree of safety regarding
timely payment is strong. Those issues determined to possess extremely strong
safety characteristics are denoted with a plus sign (+) designation.
A-2: Capacity for timely payment on issues with this designation is
satisfactory. However, the relative degree of safety is not as high as for
issues designated A-1.
A-3: Issued carrying this designation have adequate capacity for timely
payment. They are, however, more vulnerable t the adverse effects of changes in
circumstances than obligations carrying the higher designations.
B: Issues rated B are regarded as having only speculative capacity for
timely payment.
C: This rating is assigned to short-term debt obligations with a doubtful
capacity for payment.
D: Debt rated D is in payment default. The D rating category is used when
interest payments or principal payments are not made on the date due, even if
the applicable grace period has not expired, unless S&P believes such payments
will be made during such grace period.
A Standard & Poor's note rating reflects the liquidity concerns and market
access risks unique to notes. Notes due in three years or less will likely
receive a note rating. Notes maturing beyond three years will most likely
receive a long-term debt rating. The following criteria will be used in making
that assessment.
- - Amortization schedule (the larger the final maturity relative to other
maturities the more likely it will be treated as a note).
- - Source of payment (the more dependent the issue is on the market for its
refinancing, the more likely it will be treated as a note).
Note rating symbols are as follows:
SP-1: Very strong or strong capacity to pay principal and interest. Those
issues determined to possess overwhelming safety characteristics will be
given a plus (+) designation.
SP-2: Satisfactory capacity to pay principal and interest with some
vulnerability to adverse financial and economic changes over the term of
the notes.
SP-3: Speculative capacity to pay principal and interest.
FITCH INVESTORS SERVICE, L.P.
Bond Ratings
- ------------
The ratings represent Fitch's assessment of the issuer's ability to meet
the obligations of a specific debt issue or class of debt. The ratings take
into consideration special features of the issue, its relationship to other
obligations of the issuer, the current financial condition and operative
performance of the issuer and of any guarantor, as well as the political and
economic environment that might affect the issuer's future financial strength
and credit quality.
AAA: Bonds rated AAA are considered to be investment grade and of the
highest credit quality. The obligor has an
A-7
<PAGE>
exceptionally strong ability to pay interest and repay principal, which is
unlikely to be affected by reasonably foreseeable events.
AA: Bonds rated AA are considered to be investment grade and of very high
credit quality. The obligor's ability to pay interest and repay principal is
very strong, although not quite as strong as bonds rated AAA. Because bonds
rated in the AAA and AA categories are not significantly vulnerable to
foreseeable future developments, short-term debt of these issuers is generally
rated F-1+.
A: Bonds rated A are considered to be investment grade and of high credit
quality. The obligor's ability to pay interest and repay principal is
considered to be strong, but may be more vulnerable to adverse changes in
economic conditions and circumstances than bonds with higher ratings.
BBB: Bonds rated BBB are considered to be investment grade and of
satisfactory credit quality. The obligor's ability to pay interest and repay
principal is considered to be adequate. Adverse changes in economic conditions
and circumstances, however, are more likely to have an adverse impact on these
bonds and, therefore, impair timely payment. The likelihood that the ratings of
these bonds will fall below investment grade is higher than for bonds with
higher ratings.
BB: Bonds are considered speculative. The obligor's ability to pay
interest and repay principal may be affected over time by adverse economic
changes. However, business and financial alternatives can be identified, which
could assist the obligor in satisfying its debt service requirements.
B: Bonds are considered highly speculative. While bonds in this class are
currently meeting debt service requirements, the probability of continued timely
payment of principal and interest reflects the obligor's limited margin of
safety and the need for reasonable business and economic activity throughout the
life of the issue.
CCC: Bonds have certain identifiable characteristics that, if not
remedied, may lead to default. The ability to meet obligations requires an
advantageous business and economic environment.
CC: Bonds are minimally protected. Default in payment of interest and/or
principal seems probable over time.
C: Bonds are in imminent default in payment of interest or principal.
DDD, DD, and D: Bonds are in default on interest and/or principal
payments. Such bonds are extremely speculative and should be valued on the
basis of their ultimate recovery value in
A-8
<PAGE>
liquidation or reorganization of the obligor. DDD represents the highest
potential for recovery on these bonds, and D represents the lowest potential for
recovery.
Plus (+) and minus (-) signs are used with a rating symbol to indicate the
relative position of a credit within the rating category. Plus and minus signs,
however, are not used in the AAA, DDD, DD, or D Categories.
Short-Term Ratings
- ------------------
Fitch's short-term ratings apply to debt obligations that are payable on
demand or have original maturities of up to three years, including commercial
paper, certificates of deposit, medium-term notes, and municipal and investment
notes.
F-1+: Exceptionally Strong Credit Quality. Issues assigned this rating are
regarded as having the strongest degree of assurance for timely payment.
F-1: Very Strong Credit Quality. Issues assigned this rating reflect an
assurance of timely payment only slightly less in degree than issues
rated F-1+.
F-2: Good Credit Quality. Issues assigned this rating have a satisfactory
degree of assurance for timely payment, but the margin of safety is not
as great as for issues assigned F-1+ and F-1 ratings.
F-3: Fair Credit Quality. Issues assigned this rating have characteristics
suggesting that the degree of assurance for timely payment is adequate;
however, near-term adverse changes could cause these securities to be
rated below investment grade.
F-S: Weak Credit Quality. Issues assigned this rating have characteristics
suggesting a minimal degree of assurance for timely payment and are
vulnerable to near-term adverse changes in financial and economic
conditions.
D: Default. Issues assigned this rating are in actual or imminent payment
default.
LOC: The symbol LOC indicates that the rating is based on a letter of credit
issued by a commercial bank.
A-9
<PAGE>
DUFF & PHELPS
-------------
Long-Term Debt and Preferred Stock
- ----------------------------------
AAA: Highest credit quality. The risk factors are negligible, being only
slightly more than for risk-free U.S. Treasury debt.
AA+, AA, AA-: High credit quality. Protection factors are strong. Risk is
modest but may vary slightly from time to time because of economic conditions.
A+, A, A-: Protection factors are average but adequate. However, risk
factors are more variable and greater in periods of economic stress.
BBB+, BBB, BBB-: Below average protection factors but still considered
sufficient for prudent investment. Considerable variability in risk during
economic cycles.
BB+, BB, BB-: Below investment grade but deemed likely to meet obligations
when due. Present or prospective financial protection factors fluctuate
according to industry conditions or company fortunes. Overall quality may move
up or down frequently within this category.
B+, B, B-: Below investment grade and possessing risk that obligations
will not be met when due. Financial protection factors will fluctuate widely
according to economic cycles, industry conditions and/or company fortunes.
Potential exists for frequent changes in the rating within this category or into
a higher or lower rating grade.
CCC: Well below investment grade securities. Considerable uncertainty
exists as to timely payment of principal, interest or preferred dividends.
Protection factors are narrow and risk can be substantial with unfavorable
economic/industry conditions, and/or with unfavorable company developments.
DD: Defaulted debt obligations. Issuer failed to meet scheduled principal
and/or interest payment.
DP: Represents preferred stock with dividend arrearages.
Commercial Paper/Certificates of Deposits
- -----------------------------------------
Duff 1 plus: Highest certainty of timely payment. Short-term liquidity
including internal operating factors and/or ready access to
alternative sources of funds, is clearly outstanding, and
safety is just below
A-10
<PAGE>
risk-free U.S. Treasury short-term obligations.
Duff 1: Very high certainty of timely payment. Liquidity factors are
excellent and supported by strong fundamental protection
factors. Risk factors are minor.
Duff 1 minus: High certainty of timely payment. Liquidity factors are
strong and supported by good fundamental protection factors.
Risk factors are very small.
Duff 2: Good certainty of timely payment. Liquidity factors and
company fundamentals are sound. Although ongoing funding
needs may enlarge total financing requirements, access to
capital markets is good. Risk factors are small.
Duff 3: Satisfactory liquidity and other protection factors qualify
issues as to investment grade. Risk factors are larger and
subject to more variation. Nevertheless, timely payment is
expected.
Duff 4: Speculative investment characteristics. Liquidity is not
sufficient to insure against disruption in debt service.
Operating factors and market access may be subject to a high
degree of variation.
Duff 5: Issuer failed to meet scheduled principal and/or interest
payments.
Notes: Bonds which are unrated may expose the investor to risks with respect to
capacity to pay interest or repay principal which are similar to the
risks of lower-rated bonds. The Fund is dependent on the Investment
Adviser's judgment, analysis and experience in the evaluation of such
bonds.
Investors should note that the assignment of a rating to a bond by a
rating service may not reflect the effect of recent developments on the
issuer's ability to make interest and principal payments.
A-11
<PAGE>
APPENDIX B
BUSINESS PRINCIPLES OF GOLDMAN, SACHS & CO.
Goldman Sachs is noted for its Business Principles, which guide all of the
firm's activities and serve as the basis for its distinguished reputation among
investors worldwide.
OUR CLIENT'S INTERESTS ALWAYS COME FIRST. Our experience shows that if we
serve our clients well, our own success will follow.
OUR ASSETS ARE OUR PEOPLE, CAPITAL AND REPUTATION. If any of these assets
diminish, reputation is the most difficult to restore. We are dedicated to
complying fully with the letter and spirit of the laws, rules and ethical
principles that govern us. Our continued success depends upon unswerving
adherence to this standard.
WE TAKE GREAT PRIDE IN THE PROFESSIONAL QUALITY OF OUR WORK. We have an
uncompromising determination to achieve excellence in everything we undertake.
Though we may be involved in a wide variety and heavy volume of activity, we
would, if it came to a choice, rather be best than biggest.
WE STRESS CREATIVITY AND IMAGINATION IN EVERYTHING WE DO. While recognizing
that the old way may still be the best way, we constantly strive to find a
better solution to a client's problems. We pride ourselves on having pioneered
many of the practices and techniques that have become standard in the industry.
WE STRESS TEAMWORK IN EVERYTHING WE DO. While individual creativity is
always encouraged, we have found that team effort often produces the best
results. We have no room for those who put their personal interests ahead of
the interests of the firm and its clients.
INTEGRITY AND HONESTY ARE THE HEART OF OUR BUSINESS. We expect our people
to maintain high ethical standards in everything they do, both in their work for
the firm and in their personal lives.
B-1
<PAGE>
GOLDMAN, SACHS & CO.'S
INVESTMENT BANKING AND SECURITIES ACTIVITIES
Goldman, Sachs & Co. is a leading global investment banking and securities
firm with a number of distinguishing characteristics.
. Privately owned and ranked among Wall Street's best capitalized firms,
with partners' capital of approximately $5.3 billion as of November 29,
1996.
. With thirty-four offices around the world, Goldman Sachs employs over
9,000 professionals focused on opportunities in major markets.
. The number one underwriter of all international equity issuers from
(1993-1996).
. A research budget of $200 million for 1997.
. Premier lead manager of negotiated municipal bond offerings over the past
six years (1990-1996).
. The number one lead manager of U.S. common stock offerings for the past
eight years (1989-1996).*
. The number one lead manager for initial public offerings (IPO's)
worldwide (1989-1996).
* Source: Securities Data Corporation. Common stock ranking excludes REITs,
====================================
Investment Trusts and Rights.
B-2
<PAGE>
GOLDMAN, SACHS & CO.'S HISTORY OF EXCELLENCE
1865 End of Civil War
1869 Marcus Goldman opens Goldman Sachs
1890 Dow Jones Industrial Average first published
1896 Goldman Sachs joins New York Stock Exchange
1906 Goldman Sachs takes Sears Roebuck & Co. public (longest-standing client
relationship) Dow Jones Industrial Average tops 100
1925 Goldman Sachs finances Warner Brothers, producer of the first talking
film
1956 Goldman Sachs co-manages Ford's public offering, the largest to date
1970 London office opens
1972 Dow Jones Industrial Average breaks 1000
1986 Goldman Sachs takes Microsoft public
1990 Provides advisory services for the largest privatization in the region of
the sale of Telefonos de Mexico
1995 Dow Jones Industrial Average breaks 4000
1996 Goldman Sachs takes Deutsche Telecom public Dow Jones Industrial Average
breaks 6000.
1997 Dow Jones Industrial Average breaks 7000. Goldman Sachs increases assets
under management by 100% over 1996.
B-3
<PAGE>
PART B
STATEMENT OF ADDITIONAL INFORMATION
CLASS A SHARES
CLASS B SHARES
CLASS C SHARES
INCOME STRATEGY PORTFOLIO
GROWTH AND INCOME STRATEGY PORTFOLIO
GROWTH STRATEGY PORTFOLIO
AGGRESSIVE GROWTH STRATEGY PORTFOLIO
(EACH A PORTFOLIO OF GOLDMAN SACHS TRUST)
One New York Plaza
New York, New York 10004
This Statement of Additional Information (the "Additional Statement") is
not a prospectus. This Additional Statement should be read in conjunction with
the prospectus for the Class A, Class B and Class C Shares of Goldman Sachs
Income Strategy Portfolio, Growth and Income Strategy Portfolio, Growth Strategy
Portfolio and Aggressive Growth Strategy Portfolio dated January 1, 1998,
as amended and/or supplemented from time to time (the "Prospectus"), which may
be obtained without charge from Goldman, Sachs & Co. by calling the telephone
number, or writing to one of the addresses, listed below.
TABLE OF CONTENTS
Introduction B-4
Investment Objectives and Policies B-5
Investment Restrictions B-72
Management B-75
Portfolio Transactions B-89
Net Asset Value B-91
Performance Information B-94
Shares of the Trust B-99
Taxation B-104
Other Information B-110
<PAGE>
Other Information Regarding Purchases, Redemptions,
Exchanges and Dividends B-112
Distribution and Authorized Dealer Service Plans B-116
Appendix A 1-A
Appendix B 1-B
The date of this Additional Statement is January 1, 1998.
<PAGE>
GOLDMAN SACHS ASSET MANAGEMENT
INVESTMENT ADVISER
ONE NEW YORK PLAZA
NEW YORK, NEW YORK 10004
GOLDMAN, SACHS & CO.
DISTRIBUTOR
85 BROAD STREET
NEW YORK, NY 10004
GOLDMAN,SACHS & CO.
TRANSFER AGENT
4900 SEARS TOWER
CHICAGO, ILLINOIS 60606
TOLL FREE .......800-526-7384
<PAGE>
INTRODUCTION
Goldman Sachs Trust (the "Trust") is an open-end management investment
company. The Trust is a successor to a Massachusetts business trust that was
merged with the Trust on April 30, 1997. The Trust assumed its current name on
March 22, 1991. The Trustees of the Trust have authority under the Declaration
of Trust to create and classify shares into separate series and to classify and
reclassify any series of shares into one or more classes without further action
by shareholders. Pursuant thereto, the Trustees have created the following
series, among others: Income Strategy Portfolio, Growth and Income Strategy
Portfolio, Growth Strategy Portfolio and Aggressive Growth Strategy Portfolio
and 42 other series of shares. Income Strategy Portfolio, Growth and Income
Strategy Portfolio, Growth Strategy Portfolio and Aggressive Growth Strategy
Portfolio are each sometimes referred to herein as a "Portfolio" and
collectively as the "Portfolios." Each Portfolio is each authorized to issue
five classes of shares: Institutional Shares, Service Shares, Class A Shares,
Class B Shares and Class C Shares. Additional series and classes may be added in
the future from time to time.
Each Portfolio is a separately managed, diversified mutual fund with its
own investment objective and policies. Each Portfolio has been constructed as a
"fund of funds," which means that it pursues its investment objective primarily
by allocating its investments among other investment portfolios of the Trust
(the "Underlying Funds").
Goldman Sachs Asset Management ("GSAM"), a separate operating division of
Goldman, Sachs & Co. ("Goldman Sachs"), serves as investment adviser to each
Portfolio. GSAM is sometimes referred to herein as the "Adviser." Goldman
Sachs serves as each Portfolio's distributor and transfer agent. Each
Portfolio's custodian is State Street Bank and Trust Company ("State Street").
B-4
<PAGE>
INVESTMENT OBJECTIVES AND POLICIES
Normally, each of the Portfolios will be predominantly invested in shares
of the Underlying Funds. The value of the Underlying Funds' investments, and
the net asset value of the shares of both the Underlying Funds and the
Portfolios will fluctuate with market, economic and, to the extent applicable,
foreign exchange conditions, so that an investment in any of the Portfolios may
be worth more or less when redeemed than when purchased. The following
description provides additional information regarding the Underlying Funds and
the types of investments that the Underlying Funds may make. As stated in the
Portfolios' Prospectus, the Portfolios may invest a portion of their assets in
high quality, short-term debt obligations. These obligations are also described
below in this section. Further information about the Underlying Funds and their
respective investment objectives and policies is included in their Prospectuses
and Additional Statements. There is no assurance that any Portfolio or
Underlying Fund will achieve its objective.
A. DESCRIPTION OF UNDERLYING FUNDS
ADJUSTABLE RATE GOVERNMENT FUND
Objective. This Fund seeks to provide investors with a high level of
---------
current income, consistent with low volatility of principal.
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be in a range approximately equal to that of a six-month to one-year
U.S. Treasury security. In addition, under normal interest rate conditions, the
Fund's maximum duration will not exceed two years. The approximate interest rate
sensitivity of the Fund is expected to be comparable to a nine-month note.
Investment Sector. This Fund invests, under normal circumstances, at least
-----------------
65% of its total assets in U.S. Government Securities that are adjustable rate
mortgage pass-through securities and other U.S. Government Securities. The
remainder of the Fund's assets (up to 35%) may be invested in other U.S.
Government Securities, including mortgage pass-through securities, other
securities representing an interest in or collateralized by mortgage loans
("Mortgage-Backed Securities") and repurchase agreements collateralized by U.S.
Government Securities. Substantially all of the Fund's assets will be invested
in U.S. Government Securities. 100% of the Fund's portfolio will be invested in
U.S. dollar-denominated securities.
Credit Quality. This Fund invests in U.S. Government Securities and
--------------
repurchase agreements collateralized by such securities.
B-5
<PAGE>
Other. This Fund may employ certain active management techniques to manage
-----
its duration and term structure and to seek to enhance returns. These techniques
include, but are not limited to, the use of financial futures contracts, option
contracts (including options on futures), mortgage and interest rate swaps and
interest rate floors, caps and collars. The Fund may also employ other
investment techniques to seek to enhance returns, such as lending portfolio
securities and entering into mortgage dollar rolls, repurchase agreements and
other investment practices.
SHORT DURATION GOVERNMENT FUND
Objective. This Fund seeks to provide a high level of current income.
---------
Secondarily, the Fund may, in seeking current income, also consider the
potential for capital appreciation.
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be equal to that of the Fund's benchmark, the two-year U.S. Treasury
security, plus or minus .5 years. In addition, under normal interest rate
conditions, the Fund's maximum duration will not exceed three years. The
approximate interest rate sensitivity of the Fund is expected to be comparable
to a two-year bond.
Investment Sector. This Fund invests, under normal market conditions, at
-----------------
least 65% of its total assets in U.S. Government Securities and in repurchase
agreements collateralized by such securities. Substantially all of the Fund's
assets will be invested in U.S. Government Securities. 100% of the Fund's
portfolio will be invested in U.S. dollar-denominated securities.
Credit Quality. This Fund invests in U.S. Government Securities and
--------------
repurchase agreements collateralized by such securities.
Other. This Fund may employ certain active management techniques to manage
-----
its duration and term structure and to seek to enhance returns. These techniques
include, but are not limited to, the use of financial futures contracts, option
contracts (including options on futures), mortgage and interest rate swaps and
interest rate floors, caps and collars. The Fund may also employ other
investment techniques to seek to enhance returns, such as lending portfolio
securities and entering into mortgage dollar rolls, repurchase agreements and
other investment practices.
GOVERNMENT INCOME FUND
Objective. This Fund seeks to provide investors with a high level of
---------
current income, consistent with safety of principal.
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be equal to that of the Fund's benchmark,
B-6
<PAGE>
the Lehman Brothers Mutual Fund Government/Mortgage Index, plus or minus one
year. In addition, under normal interest rate conditions, the Fund's maximum
duration will not exceed six years. The approximate interest rate sensitivity
of the Fund is expected to be comparable to a five-year bond.
Investment Sector. This Fund invests, under normal circumstances, at least
-----------------
65% of its total assets in U.S. Government Securities and in repurchase
agreements collateralized by such securities. The remainder of the Fund's
assets may be invested in non-government securities such as privately issued
Mortgage-Backed Securities, Asset-Backed Securities and corporate securities.
100% of the Fund's portfolio will be invested in U.S. dollar-denominated
securities.
Credit Quality. This Fund's non-U.S. Government Securities will be rated,
--------------
at the time of investment, AAA or Aaa by an NRSRO or, if unrated, will be
determined by the Fund's investment adviser to be of comparable quality.
Other. This Fund may employ certain active management techniques to manage
-----
its duration and term structure and to seek to enhance returns. These techniques
include, but are not limited to, the use of financial futures contracts, option
contracts (including options on futures), mortgage and interest rate swaps and
interest rate floors, caps and collars. The Fund may also employ other
investment techniques to seek to enhance returns, such as lending portfolio
securities and entering into mortgage dollar rolls, repurchase agreements and
other investment practices.
Core FIXED INCOME FUND
Objective. This Fund seeks to provide investors with a total return
---------
consisting of capital appreciation and income that exceeds the total return of
the Lehman Brothers Aggregate Bond Index (the "Index").
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be equal to that of the Fund's benchmark, the Lehman Brothers
Aggregate Bond Index, plus or minus one year. In addition, under normal interest
rate conditions, the Fund's maximum duration will not exceed six years. The
approximate interest rate sensitivity of the Fund is expected to be comparable
to a five-year bond.
Investment Sector. This Fund invests, under normal circumstances, at least
-----------------
65% of its total assets in fixed-income securities, including U.S. Government
Securities, corporate debt securities, Mortgage-Backed Securities, and Asset-
Backed Securities. The Fund may invest up to 25% of its total assets in
obligations of domestic and foreign issuers which are denominated in currencies
other than the U.S. dollar, 10% of which may be invested in issuers in countries
with emerging markets and
B-7
<PAGE>
economies. A number of investment strategies will be used to achieve the Fund's
investment objective, including market sector selection, determination of yield
curve exposure, and issuer selection. In addition, the Investment Adviser will
attempt to take advantage of pricing inefficiencies in the fixed-income markets.
The Index currently includes U.S. Government Securities and fixed-rate,
publicly issued, U.S. dollar-denominated fixed-income securities rated at least
BBB or Baa or in their equivalent ratings category by S&P or Moody's. The
securities currently included in the Index have at least one year remaining to
maturity; have an outstanding principal amount of at least $100 million; and are
issued by the following types of issuers, with each category receiving a
different weighting in the Index: U.S. Treasury; agencies, authorities or
instrumentalities of the U.S. government; issuers of Mortgage-Backed Securities;
utilities; industrial issuers; financial institutions; foreign issuers; and
issuers of Asset-Backed Securities. The Index is a trademark of Lehman
Brothers. Inclusion of a security in the Index does not imply an opinion by
Lehman Brothers as to its attractiveness or appropriateness for investment.
Although Lehman Brothers obtains factual information used in connection with the
Index from sources which it considers reliable, Lehman Brothers claims no
responsibility for the accuracy, completeness or timeliness of such information
and has no liability to any person for any loss arising from results obtained
from the use of the Index data.
Credit Quality. All U.S. dollar-denominated fixed-income securities
--------------
purchased by the Fund will be rated, at the time of investment, at least BBB or
Baa by an NRSRO. The non-U.S. dollar-denominated fixed-income securities in
which the Fund may invest will be rated, at the time of investment, at least AA
or Aa by an NRSRO. Unrated securities will be determined to be of comparable
quality by the Fund's investment adviser. Fixed-income securities rated BBB or
Baa are considered medium-grade obligations with speculative characteristics,
and adverse economic conditions or changing circumstances may weaken their
issuers' capability to pay interest and repay principal.
Other. This Fund may employ certain active management techniques to manage
-----
its duration and term structure, to seek to hedge its exposure to foreign
currencies and to seek to enhance returns. These techniques include, but are not
limited to, the use of financial futures contracts, option contracts (including
options on futures), forward foreign currency exchange contracts, currency
options and futures, currency, mortgage and interest rate swaps and interest
rate floors, caps and collars. Currency management techniques involve risks
different from those associated with investing solely in U.S. dollar-denominated
fixed-income securities of U.S. issuers. It is expected that the Fund will use
certain currency techniques to seek to hedge against currency exchange rate
fluctuations or to seek to increase total
B-8
<PAGE>
return. The Fund may invest in custodial receipts, Municipal Securities and
convertible securities. The Fund may also employ other investment techniques to
seek to enhance returns, such as lending portfolio securities and entering into
mortgage dollar rolls, repurchase agreements and other investment practices.
GLOBAL INCOME FUND
Objective. This Fund seeks to provide investors with a high total return,
---------
emphasizing current income, and, to a lesser extent, providing opportunities for
capital appreciation.
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be equal to that of the Fund's benchmark, the J.P. Morgan Global
Government Bond Index (hedged), plus or minus 2.5 years. In addition, under
normal interest rate conditions, the Fund's maximum duration will not exceed 7.5
years. The approximate interest rate sensitivity of the Fund is expected to be
comparable to a six-year bond.
Investment Sector. The Fund invests primarily in a portfolio of investment
-----------------
grade fixed-income securities of U.S. and foreign issuers and enters into
transactions in foreign currencies. Under normal market conditions, the Fund
will (i) have at least 30% of its total assets, after considering the effect of
currency positions, denominated in U.S. dollars and (ii) invest in securities of
issuers in at least three countries. The Fund may also invest up to 10% of its
total assets in issuers in countries with emerging markets and economies. The
Fund seeks to meet its investment objective by pursuing investment opportunities
in foreign and domestic fixed-income securities markets and by engaging in
currency transactions to seek to enhance returns and to seek to hedge its
portfolio against currency exchange rate fluctuations.
The fixed-income securities in which the Fund may invest include: (i) U.S.
Government Securities and custodial receipts therefor; (ii) securities issued or
guaranteed by a foreign government or any of its political subdivisions,
authorities, agencies, instrumentalities or by supranational entities (i.e.,
international organizations designated or supported by governmental entities to
promote economic reconstruction or development, such as the World Bank); (iii)
corporate debt securities; (iv) certificates of deposit and bankers' acceptances
issued or guaranteed by, or time deposits maintained at, U.S. or foreign banks
(and their branches wherever located) having total assets of more than $1
billion; (v) commercial paper; and (vi) Mortgage-Backed and Asset-Backed
Securities.
Credit Quality. All securities purchased by the Fund will be rated, at the
--------------
time of investment, at least BBB or Baa by an NRSRO.
B-9
<PAGE>
The Fund will invest at least 50% of its total assets in securities rated, at
the time of investment, or Aaa by an NRSRO. Unrated securities will be
determined to be of comparable quality by the Fund's investment adviser. Fixed
income securities rated BBB or Baa are considered medium-grade obligations with
speculative characteristics and adverse economic conditions or changing
circumstances may weaken their issuers' capacity to pay interest and repay
principal.
Other. This Fund may employ certain active management techniques to manage
-----
the duration and term structure of the Fund, to seek to hedge its exposure to
foreign currencies and to seek to enhance returns. These techniques include,
but are not limited to, the use of financial futures contracts, option contracts
(including options on futures), forward foreign currency exchange contracts,
currency options and futures, currency, mortgage and interest rate swaps and
interest rate floors, caps and collars. Currency and interest rate management
techniques involve risks different from those associated with investing solely
in U.S. dollar-denominated fixed-income securities of U.S. issuers. It is
expected that the Fund will use certain currency techniques to seek to hedge
against currency exchange rate fluctuations or to seek to increase total return.
While the Fund will have both long and short currency positions, its net long
and short foreign currency exposure will not exceed the value of the Fund's
total assets. To the extent that the Fund is fully invested in foreign
securities while also maintaining currency positions, it may be exposed to
greater combined risk. The Fund's net currency positions may expose it to risks
independent of its securities positions. The Fund may also employ other
investment techniques to seek to enhance returns, such as lending portfolio
securities and entering into mortgage dollar rolls, repurchase agreements and
other investment practices.
The Fund may invest more than 25% of its total assets in the securities of
corporate and governmental issuers located in each of Canada, Germany, Japan,
and the United Kingdom as well as in the securities of U.S. issuers.
Concentration of the Fund's investments in such issuers will subject the Fund,
to a greater extent than if investment was more limited, to the risks of adverse
securities markets, exchange rates and social, political or economic events
which may occur in those countries. Not more than 25% of the Fund's total assets
will be invested in securities of issuers in any other single foreign country.
HIGH YIELD FUND
Objective. This Fund seeks to provide investors with a high level of
---------
current income. Secondarily, the Fund may, in seeking current income, also
consider the potential for capital appreciation.
Duration. Under normal interest rate conditions, the Fund's duration is
--------
expected to be equal to that of the Fund's benchmark, the Lehman Brothers High
Yield Bond Index, plus or minus 2.5 years. In addition, under normal interest
rate conditions, the Fund's maximum duration will not exceed 7.5 years. The
approximate
B-10
<PAGE>
interest rate sensitivity of the Fund is expected to be comparable to a 6-year
bond.
Investment Sector. This Fund invests, under normal circumstances, at least
-----------------
65% of its total assets in high yield, fixed-income securities rated, at the
time of investment, below investment grade. Non-investment grade securities are
securities rated BB, Ba or below by or, if unrated, determined by the investment
adviser to be of comparable quality. The Fund may invest in all types of fixed-
income securities, including senior and subordinated corporate debt obligations
(such as bonds, debentures, notes and commercial paper), convertible and non-
convertible corporate debt obligations, loan participations and preferred stock.
The Fund may invest up to 25% of its total assets in obligations of domestic and
foreign issuers (including securities of issuers located in countries with
emerging markets and economies) which are denominated in currencies other than
the U.S. dollar. Under normal market conditions, the Fund may invest up to 35%
of its total assets in investment grade fixed-income securities, including U.S.
Government Securities, Asset-Backed and Mortgage-Backed Securities and corporate
securities. The Fund may also invest in common stocks, warrants, rights and
other equity securities, but will generally hold such equity investments only
when debt or preferred stock of the issuer of such equity securities is held by
the Fund. A number of investment strategies are used to seek to achieve the
Fund's investment objective, including market sector selection, determination of
yield curve exposure, and issuer selection. In addition, the Fund's investment
adviser will attempt to take advantage of pricing inefficiencies in the fixed-
income markets.
Credit Quality. This Fund invests primarily in high yield, fixed income
--------------
securities rated below investment grade, including securities of issuers in
default. Non-investment grade securities (commonly known as "junk bonds") tend
to offer higher yields than higher rated securities with similar maturities.
Non-investment grade securities are, however, considered speculative and
generally involve greater price volatility and greater risk of loss of principal
and interest than higher rated securities. See "Description of Securities." A
description of the corporate bond and preferred stock ratings is contained in
Appendix A to this Additional Statement.
Other. This Fund may employ certain active management techniques to manage
-----
its duration and term structure, to seek to hedge its exposure to foreign
securities and to seek to enhance returns. These techniques include, but are not
limited to, the use of financial futures contracts, option contracts (including
options on futures), forward foreign currency exchange contracts, currency
options and futures, currency, mortgage and interest rate swaps, and interest
rate floors, caps and collars. Currency and
B-11
<PAGE>
interest rate management techniques involve risks different from those
associated with investing solely in U.S. dollar-denominated fixed-income
securities of U.S. issuers. It is expected that the Fund will use certain
currency techniques to seek to hedge against currency exchange rate fluctuations
or to seek to increase total return. The Fund may also employ other investment
techniques to seek to enhance returns, such as lending portfolio securities and
entering into repurchase agreements and other investment practices.
GROWTH AND INCOME FUND
Objectives. This Fund seeks to provide investors with long-term growth of
----------
capital and growth of income.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 65% of its total assets in equity securities that its investment
adviser considers to have favorable prospects for capital appreciation and/or
dividend-paying ability.
Other. This Fund may invest up to 35% of its total assets in fixed income
-----
securities that, in the opinion of its investment adviser, offer the potential
to further the Fund's investment objectives. In addition, although the Fund
will invest primarily in publicly traded U.S. securities, it may invest up to
25% of its total assets in foreign securities, including securities of issuers
in Emerging Countries and securities quoted in foreign currencies.
CORE U.S. EQUITY FUND (FORMERLY, THE "SELECT EQUITY FUND")
Objective. This Fund seeks to provide investors with long-term growth of
---------
capital and dividend income. The Fund seeks to achieve its objective through a
broadly diversified portfolio of large cap and blue chip equity securities
representing all major sectors of the U.S. economy.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 90% of its total assets in equity securities of U.S. issuers. The Fund
may invest in equity securities of foreign issuers that are traded in the United
States and that comply with U.S. accounting standards. The Fund's investments
are selected using both a variety of quantitative techniques and fundamental
research in seeking to maximize the Fund's expected return, while maintaining
risk, style, capitalization and industry characteristics similar to the S&P 500
Index. The Fund seeks a broad representation in most major sectors of the U.S.
economy and a portfolio comprised of companies with average long-term earnings
growth expectations and dividend yields. The Fund may invest only in fixed
income securities that are considered cash equivalents.
B-12
<PAGE>
CORE LARGE CAP GROWTH FUND
Objective. This Fund seeks to provide investors with long-term growth of
---------
capital. The Fund seeks to achieve its objective through a broadly diversified
portfolio of equity securities of large cap U.S. issuers that are expected to
have better prospects for earnings growth than the growth rate of the general
domestic economy. Dividend income is a secondary consideration.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 90% of its total assets in equity securities of U.S. issuers, including
foreign issuers that are traded in the United States and that comply with U.S.
accounting standards. The Fund's investment adviser emphasizes a company's
growth prospects in analyzing equity securities to be purchased by the Fund.
The Fund's investments are selected using both a variety of quantitative
techniques and fundamental research in seeking to maximize the Fund's expected
return, while maintaining risk, style, capitalization and industry
characteristics similar to the Russell 1000 Growth Index. The Fund seeks a
portfolio comprised of companies with above average capitalizations and earnings
growth expectations and below average dividend yields. The Fund may invest only
in fixed income securities that are considered cash equivalents.
CORE SMALL CAP EQUITY FUND
Objective. This Fund seeks to provide investors with long-term growth of
---------
capital. The Fund seeks to achieve its objective through a broadly diversified
portfolio of equity securities of U.S. issuers which are included in the Russell
2000 Index at the time of investment.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 90% of its total assets in equity securities of U.S. issuers, including
foreign issuers that are traded in the United States and that comply with U.S.
accounting standards. The Fund's investments are selected using both a variety
of quantitative techniques and fundamental research in seeking to maximize the
Fund's expected return, while maintaining risk, style, capitalization and
industry characteristics similar to the Russell 2000 Index. The Fund seeks a
portfolio comprised of companies with small market capitalizations, strong
expected earnings growth and momentum, and better valuation and risk
characteristics than the Russell 2000 Index. The Fund may invest only in fixed
income securities that are considered cash equivalents.
The Fund's investment adviser believes that companies in which the Fund may
invest offer greater opportunity for growth of capital than larger, more mature,
better known companies. Investments in small market capitalization issuers
involve special risks. If the
B-13
<PAGE>
issuer of a portfolio security held by the Fund is no longer included in the
Russell 2000 Index, the Fund may, but is not required to, sell the security.
CORE INTERNATIONAL EQUITY FUND
Objective. This Fund seeks to provide investors with long-term growth of
---------
capital. The Fund seeks to achieve its objective through a broadly diversified
portfolio of large cap equity securities of companies that are organized outside
the United States or whose securities are primarily traded outside the United
States.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 90% of its total assets in equity securities of companies that are
organized outside the United States or whose securities are principally traded
outside the United States. The Fund seeks broad representation of large cap
issuers across major countries and sectors of the international economy. The
Fund's investments are selected using both a variety of quantitative techniques
and fundamental research in seeking to maximize the Fund's expected return,
while maintaining a risk profile similar to EAFE Index. The Fund's portfolio is
designed to have risk, style, capitalization and industry characteristics
similar to the EAFE Index. In addition, the Fund seeks a portfolio comprised of
companies with attractive valuations and stronger momentum characteristics than
the EAFE Index.
The Fund may allocate its assets among countries as determined by its
investment adviser from time to time, provided the Fund's assets are invested in
at least three foreign countries. The Fund may invest in securities of issuers
in Emerging Countries which involve certain risks. The Fund may invest only in
fixed income securities that are considered to be cash equivalents.
Other. The Fund may employ certain currency techniques to seek to hedge
-----
against currency exchange rate fluctuations or to seek to increase total return.
When used to seek to enhance return, these management techniques are considered
speculative. Such currency management techniques involve risks different from
those associated with investing solely in securities of U.S. issuers quoted in
U.S. dollars. To the extent that the Fund is fully invested in foreign
securities while also maintaining currency positions, it may be exposed to
greater combined risk. The Fund's net currency positions may expose it to risks
independent of its securities positions. See "Description of Securities,"
"Investment Techniques" and "Risk Factors."
CAPITAL GROWTH FUND
Objective. This Fund seeks to provide investors with long-term growth of
---------
capital.
B-14
<PAGE>
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 90% of its total assets in equity securities. The Fund seeks to
achieve its investment objective by investing in a diversified portfolio of
equity securities that are considered by its investment adviser to have long-
term capital appreciation potential.
Other. Although this Fund will invest primarily in publicly traded U.S.
-----
securities, it may invest up to 10% of its total assets in foreign securities,
including securities of issuers in Emerging Countries and securities quoted in
foreign currencies.
MID CAP EQUITY FUND
Objective. This Fund seeks to provide investors with long-term capital
---------
appreciation.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
substantially all of its assets in equity securities and at least 65% of its
total assets in equity securities of Mid Cap Companies with public stock market
capitalizations (based upon shares available for trading on an unrestricted
basis) of between $500 million and $10 billion at the time of investment. If
the company's capitalization of an issuer increases above $10 billion after
purchase of such issuer's securities, the Fund may, but is not required to, sell
the securities. Dividend income, if any, is an incidental consideration.
Other. This Fund may invest up to 35% of its total assets in fixed income
-----
securities. In addition, although the Fund will invest primarily in publicly
traded U.S. securities, it may invest up to 25% of its total assets in foreign
securities, including securities of issuers in Emerging Countries and securities
quoted in foreign currencies.
INTERNATIONAL EQUITY FUND
Objective. This Fund seeks to provide investors with long-term capital
---------
appreciation.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
substantially all, and at least 65%, of its total assets in equity securities of
companies that are organized outside the United States or whose securities are
principally traded outside the United States. The Fund may allocate its assets
among countries as determined by its investment adviser from time to time
provided that the Fund's assets are invested in at least three foreign
countries. The Fund expects to invest a substantial portion of its assets in the
securities of issuers located in the developed countries of Western Europe and
in Japan. However, the Fund may also invest in the securities of issuers located
in Australia, Canada, New Zealand and the Emerging Countries in which
B-15
<PAGE>
the Emerging Markets Equity Fund may invest. Many of the countries in which the
Fund may invest have emerging markets or economies which involve certain risks
that are not present in investments in more developed countries.
Other. This Fund may employ certain currency techniques to seek to hedge
-----
against currency exchange rate fluctuations or to seek to increase total return.
When used to seek to enhance return, these management techniques are considered
speculative. Such currency management techniques involve risks different from
those associated with investing solely in securities of U.S. issuers quoted in
U.S. dollars. To the extent that the Fund is fully invested in foreign
securities while also maintaining currency positions, it may be exposed to
greater combined risk. The Fund's net currency positions may expose it to risks
independent of its securities positions. Up to 35% of the Fund's total assets
may be invested in fixed income securities.
SMALL CAP VALUE FUND (FORMERLY, THE "SMALL CAP EQUITY FUND")
Objective. This Fund seeks to provide investors with long-term capital
---------
growth.
Primary Investment Focus. This Fund invests, under normal circumstances,
------------------------
at least 65% of its total assets in equity securities of companies with public
stock market capitalizations of $1 billion or less at the time of investment.
However, the Fund currently emphasizes investments in companies with public
stock market capitalizations of $500 million or less at the time of investment.
Under normal circumstances, the Fund's investment horizon for ownership of
stocks will be two to three years. Dividend income, if any, is an incidental
consideration.
Small Capitalization Companies. This Fund invests in companies which its
------------------------------
investment adviser believes are well managed niche businesses that have the
potential to achieve high or improving returns on capital and/or above average
sustainable growth. The Fund may invest in securities of small market
capitalization companies which may have experienced financial difficulties.
Investments may also be made in companies that are in the early stages of their
life and that the Fund's investment adviser believes have significant growth
potential. The investment adviser believes that the companies in which the Fund
may invest offer greater opportunity for growth of capital than larger, more
mature, better known companies. However, investments in such small market
capitalization companies involve special risks.
Other. This Fund may invest in the aggregate up to 35% of its total assets
-----
in the equity securities of companies with public stock market capitalizations
in excess of $1 billion and in fixed income securities. In addition, although
the Fund will invest primarily in publicly traded U.S. securities, it may invest
up to
B-16
<PAGE>
25% of its total assets in foreign securities, including securities of issuers
in Emerging Countries and securities quoted in foreign currencies.
EMERGING MARKETS EQUITY FUND
Objective. This Fund seeks to provide investors with long-term capital
---------
appreciation.
Primary Investment Focus. This Fund invests, under normal market
------------------------
circumstances, substantially all, and at least 65%, of its total assets in
equity securities of Emerging Country issuers. For purposes of the Fund's
investment policies, Emerging Countries are countries with economies or
securities markets that are considered by the Fund's investment adviser not to
be fully developed. The investment adviser may consider classifications by the
World Bank, the International Finance Corporation or the United Nations and its
agencies in determining whether a country is emerging or developed. Currently,
Emerging Countries include among others, most Latin American, African, Asian and
Eastern European nations. The Fund's investment adviser currently intends that
the Fund's investment focus will be in the following Emerging Countries:
Argentina, Botswana, Brazil, Chile, China, Colombia, the Czech Republic, Egypt,
Greece, Hong Kong, Hungary, India, Indonesia, Israel, Jordan, Kenya, Malaysia,
Mexico, Morocco, Pakistan, Peru, the Philippines, Poland, Portugal, Russia,
Singapore, South Africa, South Korea, Sri Lanka, Taiwan, Thailand, Turkey,
Venezuela and Zimbabwe.
An Emerging Country issuer is any entity that satisfies at least one of the
following criteria: (i) it derives 50% or more of its total revenue from goods
produced, sales made or services performed in one or more Emerging Countries,
(ii) it is organized under the laws of, or has a principal office in, an
Emerging Country, (iii) it maintains 50% or more of its assets in one or more of
the Emerging Countries or (iv) the principal securities trading market for a
class of its securities is in an Emerging Country.
Investments in Emerging Countries involve certain risks which are not
present in investments in more developed countries. The Fund may purchase
privately placed equity securities, equity securities of companies that are in
the process of being privatized by foreign governments, securities of issuers
that have not paid dividends on a timely basis, equity securities of issuers
that have experienced difficulties, and securities of companies without
performance records.
Other. This Fund may employ certain currency management techniques to seek
-----
to hedge against currency exchange rate fluctuations or to seek to increase
total return. When used to seek to enhance return, these management techniques
are considered
B-17
<PAGE>
speculative. Such currency management techniques involve risks different from
those associated with investing solely in securities of U.S. issuers quoted in
U.S. dollars. To the extent that the Fund is fully invested in foreign
securities while also maintaining currency positions, it may be exposed to
greater combined risk. The Fund's net currency positions may expose it to risks
independent of its securities positions.
Under normal circumstances, this Fund maintains investments in at least six
Emerging Countries and will not invest more than 35% of its total assets in
securities of issuers in any one Emerging Country. Allocation of the Fund's
investments will depend upon the relative attractiveness of the Emerging Country
markets and particular issuers. In addition, macro-economic factors and the
portfolio manager's and Goldman Sachs economists' views of the relative
attractiveness of Emerging Countries and currencies are considered in allocating
the Fund's assets among Emerging Countries. Concentration of the Fund's assets
in one or a few Emerging Countries and currencies will subject the Fund to
greater risks than if the Fund's assets were not geographically concentrated.
The Fund may invest in the aggregate up to 35% of its total assets in (i) fixed
income securities of private and governmental Emerging Country issuers, (ii)
equity and fixed income securities of issuers in developed countries and (iii)
temporary investments.
ASIA GROWTH FUND
Objective. This Fund seeks to provide investors with long-term capital
---------
appreciation.
Primary Investment Focus. This Fund invests, under normal market
------------------------
circumstances, substantially all, and at least 65%, of its total assets in
equity securities of companies that satisfy at least one of the following
criteria: (i) their securities are traded principally on stock exchanges in one
or more of the Asian countries; (ii) they derive 50% or more of their total
revenue from goods produced, sales made or services performed in one or more of
the Asian countries; (iii) they maintain 50% or more of their assets in one or
more of the Asian countries; or (iv) they are organized under the laws of one of
the Asian countries. The Fund seeks to achieve its objective by investing
primarily in equity securities of Asian companies which are considered by the
Fund's investment adviser to have long-term capital appreciation potential.
Many of the countries in which the Fund may invest have emerging markets or
economies which involve certain risks which are not present in investments in
more developed countries. The Fund may purchase equity securities of issuers
that have not paid dividends on a timely basis, securities of companies that
have experienced difficulties, and securities of companies without performance
records.
B-18
<PAGE>
Other. This Fund may employ certain currency management techniques to seek
-----
to hedge against currency exchange rate fluctuations or to seek to increase
total return. When used to seek to enhance return, these management techniques
are considered speculative. Such currency management techniques involve risks
different from those associated with investing solely in securities of U.S.
issuers quoted in U.S. dollars. To the extent that the Fund is fully invested
in foreign securities while also maintaining currency positions, it may be
exposed to greater combined risk. The Fund's net currency positions may expose
it to risks independent of its securities positions.
This Fund may allocate its assets among the Asian countries as determined
from time to time by its investment adviser. For purposes of the Fund's
investment policies, Asian countries are China, Hong Kong, India, Indonesia,
Malaysia, Pakistan, the Philippines, Singapore, South Korea, Sri Lanka, Taiwan
and Thailand as well as any other country in Asia (other than Japan) to the
extent that foreign investors are permitted by applicable law to make such
investments. Allocation of the Fund's investments will depend upon the relative
attractiveness of the Asian markets and particular issuers. Concentration of
the Fund's assets in one or a few of the Asian countries and Asian currencies
will subject the Fund to greater risks than if the Fund's assets were not
geographically concentrated. The Fund may invest in the aggregate up to 35% of
its total assets in equity securities of issuers in other countries, including
Japan, and in fixed income securities.
REAL ESTATE SECURITIES FUND
Objective. This Fund seeks to provide investors with total return
---------
comprised of long-term growth of capital and dividend income.
Primary Investment Focus. This Fund will invest, under normal
------------------------
circumstances, substantially all, and at least 80% of its total assets in
issuers that are primarily engaged in or related to the real estate industry.
The Fund seeks to achieve its investment objective by investing in a diversified
portfolio of equity securities of REITs and other real estate industry
companies. A "real estate industry company" is a company that derives at least
50% of its gross revenues or net profits from the ownership, development,
construction, financing, management or sale of commercial, industrial or
residential real estate or interests therein.
Other. Under normal circumstances, this Fund may invest up to 20% of its
-----
total assets in fixed income securities that, in the opinion of its investment
adviser, offer the potential to further the Fund's investment objectives. In
addition, although the Fund will invest primarily in publicly traded U.S.
securities, it may invest up to 5% of its net assets in foreign securities.
FINANCIAL SQUARE PRIME OBLIGATIONS FUND.
Objective. This Fund seeks to maximize current income to the extent
---------
consistent with the preservation of capital and the maintenance of liquidity by
investing exclusively in high quality money market instruments.
Primary Investment Focus. This Fund invests in securities of the U.S.
------------------------
Government, its agencies, authorities and instrumentalities, obligations of U.S.
banks, commercial paper, and other short-term obligations of U.S. companies,
states, municipalities and other entities and repurchase agreements. Securities
purchased by the Fund will be determined by its investment adviser to present
minimal credit risks, and will have remaining maturities (as determined in
accordance with regulatory requirements) of 13 months or less at the time of
purchase. The dollar-weighted average maturity of the Fund will not exceed 90
days.
Other. The investments of this Fund are limited by regulations applicable
-----
to money market funds as described in its Prospectus, and do not include many of
the types of investments discussed below that are permitted for the other
Underlying Funds. Although this Fund attempts to maintain a stable net asset
value of $1.00 per
B-19
<PAGE>
share, there is no assurance that it will be able to do so on a continuous
basis. Like investments in the other Underlying Funds, an investment in this
Fund is neither insured nor guaranteed by the U.S. Government or any
governmental authority.
B. DESCRIPTION OF INVESTMENT SECURITIES AND PRACTICES
CORPORATE DEBT OBLIGATIONS
Each Underlying Fund (other than the Adjustable Rate Government and Short
Duration Government Funds) may, under normal market conditions, invest in
corporate debt obligations, including obligations of industrial, utility and
financial issuers. CORE U.S. Equity, CORE Large Cap Growth, CORE Small Cap
Equity and CORE International Equity Funds may only invest in debt securities
that are cash equivalents. Corporate debt obligations are subject to the risk of
an issuer's inability to meet principal and interest payments on the obligations
and may also be subject to price volatility due to such factors as market
interest rates, market perception of the creditworthiness of the issuer and
general market liquidity.
Fixed income securities rated BBB or Baa are considered medium-grade
obligations with speculative characteristics, and adverse economic conditions or
changing circumstances may weaken their issuers' capacity to pay interest and
repay principal. Medium to lower rated and comparable non-rated securities tend
to offer higher yields than higher rated securities with the same maturities
because the historical financial condition of the issuers of such securities may
not have been as strong as that of other issuers. Since medium to lower rated
securities generally involve greater risks of loss of income and principal than
higher rated securities, investors should consider carefully the relative risks
associated with investment in securities which carry medium to lower ratings and
in comparable unrated securities. In addition to the risk of default, there are
the related costs of recovery on defaulted issues. The Funds' investment
advisers will attempt to reduce these risks through portfolio diversification
and by analysis of each issuer and its ability to make timely payments of income
and principal, as well as broad economic trends and corporate developments.
High Yield Securities. Bonds rated BB or below by Standard & Poor's
---------------------
Ratings Group (Standard & Poor's) or Ba or below by Moody's Investors Service,
Inc. ("Moody's") (or comparable rated and unrated securities) are commonly
referred to as "junk bonds" and are considered speculative; the ability of their
issuers to make principal and interest payments may be questionable. In some
cases, such bonds may be highly speculative, have poor prospects for reaching
investment grade standing and be in default. As a result, investment in such
bonds will entail greater risks than those associated with investment grade
bonds (i.e., bonds rated
B-20
<PAGE>
AAA, AA, A or BBB by Standard and Poor's or Aaa, Aa, A or Baa by Moody's).
Analysis of the creditworthiness of issuers of high yield securities may be more
complex than for issuers of higher quality debt securities, and the ability of
an Underlying Fund to achieve its investment objective may, to the extent of its
investments in high yield securities, be more dependent upon such
creditworthiness analysis than would be the case if the Fund were investing in
higher quality securities. See Appendix A to this Additional Statement for a
description of the corporate bond and preferred stock ratings by Standard &
Poor's, Moody's, Fitch Investors Service Corp. and Duff & Phelps.
The amount of high yield, fixed income securities proliferated in the 1980s
and early 1990s as a result of increased merger and acquisition and leveraged
buyout activity. Such securities are also issued by less-established
corporations desiring to expand. Risks associated with acquiring the securities
of such issuers generally are greater than is the case with higher rated
securities because such issuers are often less creditworthy companies or are
highly leveraged and generally less able than more established or less leveraged
entities to make scheduled payments of principal and interest.
The market values of high yield, fixed income securities tends to reflect
those individual corporate developments to a greater extent than do those of
higher rated securities, which react primarily to fluctuations in the general
level of interest rates. Issuers of such high yield securities may not be able
to make use of more traditional methods of financing and their ability to
service debt obligations may be more adversely affected than issuers of higher
rated securities by economic downturns, specific corporate developments or the
issuers' inability to meet specific projected business forecasts. These non-
investment grade securities also tend to be more sensitive to economic
conditions than higher-rated securities. Negative publicity about the junk bond
market and investor perceptions regarding lower-rated securities, whether or not
based on fundamental analysis, may depress the prices for such securities.
Since investors generally perceive that there are greater risks associated
with non-investment grade securities of the type in which the Underlying Funds
may invest, the yields and prices of such securities may tend to fluctuate more
than those for higher-rated securities. In the lower quality segments of the
fixed-income securities market, changes in perceptions of issuers'
creditworthiness tend to occur more frequently and in a more pronounced manner
than do changes in higher quality segments of the
fixed-income securities market, resulting in greater yield and price volatility.
Another factor which causes fluctuations in the prices of fixed-income
securities is the supply and demand for similarly
B-21
<PAGE>
rated securities. In addition, the prices of fixed-income securities fluctuate
in response to the general level of interest rates. Fluctuations in the prices
of portfolio securities subsequent to their acquisition will not affect cash
income from such securities but will be reflected in an Underlying Fund's net
asset value.
The risk of loss from default for the holders of high yield, fixed-income
securities is significantly greater than is the case for holders of other debt
securities because such high yield, fixed-income securities are generally
unsecured and are often subordinated to the rights of other creditors of the
issuers of such securities. Investment by an Underlying Fund in already
defaulted securities poses an additional risk of loss should nonpayment of
principal and interest continue in respect of such securities. Even if such
securities are held to maturity, recovery by a Fund of its initial investment
and any anticipated income or appreciation is uncertain. An Underlying Fund may
be required to liquidate other portfolio securities to satisfy the Fund's annual
distribution obligations in respect of accrued interest income on securities
which are subsequently written off, even though the Fund has not received any
cash payments of such interest.
The secondary market for high yield, fixed-income securities is
concentrated in relatively few markets and is dominated by institutional
investors, including mutual funds, insurance companies and other financial
institutions. Accordingly, the secondary market for such securities is not as
liquid as and is more volatile than the secondary market for higher-rated
securities. In addition, the trading volume for high-yield, fixed-income
securities is generally lower than that of higher rated securities and the
secondary market for high yield, fixed-income securities could contract under
adverse market or economic conditions independent of any specific adverse
changes in the condition of a particular issuer. These factors may have an
adverse effect on an Underlying Fund's ability to dispose of particular
portfolio investments. Prices realized upon the sale of such lower rated or
unrated securities, under these circumstances, may be less than the prices used
in calculating a Fund's net asset value. A less liquid secondary market also
may make it more difficult for a Fund to obtain precise valuations of the high
yield securities in its portfolio.
Certain proposed and recently enacted federal laws could adversely affect
the secondary market for high yield securities and the financial condition of
issuers of these securities. The form of proposed legislation and the
probability of such legislation being enacted is uncertain.
Non-investment grade or high-yield, fixed-income securities also present
risks based on payment expectations. High yield, fixed-income securities
frequently contain "call" or buy-back
B-22
<PAGE>
features which permit the issuer to call or repurchase the security from its
holder. If an issuer exercises such a "call option" and redeems the security, an
Underlying Fund may have to replace such security with a lower-yielding
security, resulting in a decreased return for investors. In addition, if an
Underlying Fund experiences unexpected net redemptions of its shares, it may be
forced to sell its higher-rated securities, resulting in a decline in the
overall credit quality of the Fund's portfolio and increasing the exposure of
the Fund to the risks of high yield securities. An Underlying Fund may also
incur additional expenses to the extent that it is required to seek recovery
upon a default in the payment of principal or interest on a portfolio security.
Credit ratings issued by credit rating agencies are designed to evaluate
the safety of principal and interest payments of rated securities. They do not,
however, evaluate the market value risk of non-investment grade securities and,
therefore, may not fully reflect the true risks of an investment. In addition,
credit rating agencies may or may not make timely changes in a rating to reflect
changes in the economy or in the conditions of the issuer that affect the market
value of the security. Consequently, credit ratings are used only as a
preliminary indicator of investment quality. Investments in non-investment
grade and comparable unrated obligations will be more dependent on the credit
analysis of an Underlying Fund's investment adviser than would be the case with
investments in investment-grade debt obligations. A Fund's investment adviser
employs its own credit research and analysis, which includes a study of existing
debt, capital structure, ability to service debt and to pay dividends, the
issuer's sensitivity to economic conditions, its operating history and the
current trend of earnings. The investment adviser monitors the investments in a
Fund's portfolio and evaluates whether to dispose of or to retain non-investment
grade and comparable unrated securities whose credit ratings or credit quality
may have changed.
Loan Participations. The High Yield Fund may invest in loan
-------------------
participations. Such loans must be to issuers in whose obligations the High
Yield Fund may invest. A loan participation is an interest in a loan to a U.S.
or foreign company or other borrower which is administered and sold by a
financial intermediary. In a typical corporate loan syndication, a number of
lenders, usually banks (co-lenders), lend a corporate borrower a specified sum
pursuant to the terms and conditions of a loan agreement. One of the co-lenders
usually agrees to act as the agent bank with respect to the loan.
Participation interests acquired by the High Yield Fund may take the form
of a direct or co-lending relationship with the corporate borrower, an
assignment of an interest in the loan by a co-lender or another participant, or
a participation in the seller's share of the loan. When the High Yield Fund
acts as co-lender in connection with a participation interest or when the
B-23
<PAGE>
High Yield Fund acquires certain participation interests, the High Yield Fund
will have direct recourse against the borrower if the borrower fails to pay
scheduled principal and interest. In cases where the High Yield Fund lacks
direct recourse, it will look to the agent bank to enforce appropriate credit
remedies against the borrower. In these cases, the High Yield Fund may be
subject to delays, expenses and risks that are greater than those that would
have been involved if the Fund had purchased a direct obligation (such as
commercial paper) of such borrower. For example, in the event of the bankruptcy
or insolvency of the corporate borrower, a loan participation may be subject to
certain defenses by the borrower as a result of improper conduct by the agent
bank. Moreover, under the terms of the loan participation, the High Yield Fund
may be regarded as a creditor of the agent bank (rather than of the underlying
corporate borrower), so that the High Yield Fund may also be subject to the risk
that the agent bank may become insolvent. The secondary market, if any, for
these loan participations is limited and any loan participations purchased by
the High Yield Fund will be regarded as illiquid.
For purposes of certain investment limitations pertaining to
diversification of the High Yield Fund's portfolio investments, the issuer of a
loan participation will be the underlying borrower. However, in cases where the
High Yield Fund does not have recourse directly against the borrower, both the
borrower and each agent bank and co-lender interposed between the High Yield
Fund and the borrower will be deemed issuers of a loan participation.
OBLIGATIONS OF THE UNITED STATES, ITS AGENCIES, INSTRUMENTALITIES AND SPONSORED
ENTERPRISES
Each Underlying Fund may invest in U.S. government securities ("U.S.
Government Securities"), which are obligations issued or guaranteed by the U.S.
government and its agencies, instrumentalities or sponsored enterprises. Some
U.S. Government Securities (such as Treasury bills, notes and bonds, which
differ only in their interest rates, maturities and times of issuance) are
supported by the full faith and credit of the United States of America. Others,
such as obligations issued or guaranteed by U.S. government agencies,
instrumentalities or sponsored enterprises, are supported either by (a) the
right of the issuer to borrow from the Treasury (such as securities of Federal
Home Loan Banks), (b) the discretionary authority of the U.S. government to
purchase the agency's obligations (such as securities of Federal National
Mortgage Association ("Fannie Mae")) or (c) only the credit of the issuer (such
as securities of the Financing Corporation). The U.S. government is under no
legal obligation, in general, to purchase the obligations of its agencies,
instrumentalities or sponsored enterprises. No assurance can be given that the
U.S. government will provide financial support to the U.S. government agencies,
instrumentalities or sponsored enterprises in the future.
B-24
<PAGE>
U.S. Government Securities include (to the extent consistent with the
Investment Company Act of 1940, as amended (the "Act")) securities for which the
payment of principal and interest is backed by an irrevocable letter of credit
issued by the U.S. government, or its agencies, instrumentalities or sponsored
enterprises. U.S. Government Securities also include (to the extent consistent
with the Act) participations in loans made to foreign governments or their
agencies that are guaranteed as to principal and interest by the U.S. government
or its agencies, instrumentalities or sponsored enterprises. The secondary
market for certain of these participations is extremely limited. In the absence
of a substantial secondary market, such participations are regarded as illiquid.
Each Underlying Fund may also purchase U.S. Government Securities in private
placements, subject to the Fund's limitation on investment in illiquid
securities.
The Funds may also invest in separately traded principal and interest
components of securities guaranteed or issued by the U.S. Treasury if such
components are traded independently under the separate trading of registered
interest and principal of securities program ("STRIPS").
BANK OBLIGATIONS
Certain of the Underlying Funds may invest in debt obligations issued or
guaranteed by United States and foreign banks. Bank obligations, including
without limitation time deposits, bankers' acceptances and certificates of
deposit, may be general obligations of the parent bank or may be obligations
only of the issuing branch pursuant to the terms of the specific obligations or
government regulation.
Banks are subject to extensive governmental regulations which may limit
both the amount and types of loans which may be made and interest rates which
may be charged. Foreign banks are subject to different regulations and are
generally permitted to engage in a wider variety of activities than U.S. banks.
In addition, the profitability of the banking industry is largely dependent upon
the availability and cost of funds for the purpose of financing lending
operations under prevailing money market conditions. General economic
conditions as well as exposure to credit losses arising from possible financial
difficulties of borrowers play an important part in the operations of this
industry.
DEFERRED INTEREST, PAY-IN-KIND AND CAPITAL APPRECIATION BONDS
Certain of the Underlying Funds expect to invest in deferred interest and
capital appreciation bonds and pay-in-kind ("PIK") securities. Deferred
interest and capital appreciation bonds are debt securities issued or sold at a
discount from their face value and which do not entitle the holder to any
periodic payment of interest prior to maturity or a specified date. The
original issue
B-25
<PAGE>
discount varies depending on the time remaining until maturity or cash payment
date, prevailing interest rates, the liquidity of the security and the perceived
credit quality of the issuer. These securities also may take the form of debt
securities that have been stripped of their unmatured interest coupons, the
coupons themselves or receipts or certificates representing interests in such
stripped debt obligations or coupons. The market prices of deferred interest,
capital appreciation bonds and PIK securities generally are more volatile than
the market prices of interest bearing securities and are likely to respond to a
greater degree to changes in interest rates than interest bearing securities
having similar maturities and credit quality.
PIK securities may be debt obligations or preferred shares that provide the
issuer with the option of paying interest or dividends on such obligations in
cash or in the form of additional securities rather than cash. Similar to zero
coupon bonds and deferred interest bonds, PIK securities are designed to give an
issuer flexibility in managing cash flow. PIK securities that are debt
securities can either be senior or subordinated debt and generally trade flat
(i.e., without accrued interest). The trading price of PIK debt securities
generally reflects the market value of the underlying debt plus an amount
representing accrued interest since the last interest payment.
Zero coupon, deferred interest, capital appreciation and PIK securities
involve the additional risk that, unlike securities that periodically pay
interest to maturity, an Underlying Fund will realize no cash until a specified
future payment date unless a portion of such securities is sold and, if the
issuer of such securities defaults, a Fund may obtain no return at all on its
investment. In addition, even though such securities do not provide for the
payment of current interest in cash, the Funds are nonetheless required to
accrue income on such investments for each taxable year and generally are
required to distribute such accrued amounts (net of deductible expenses, if any)
to avoid being subject to tax. Because no cash is generally received at the
time of the accrual, an Underlying Fund may be required to liquidate other
portfolio securities to obtain sufficient cash to satisfy federal tax
distribution requirements applicable to the Fund.
ZERO COUPON BONDS
An Underlying Fund's investments in fixed income securities may include
zero coupon bonds, which are debt obligations issued or purchased at a
significant discount from face value. The discount approximates the total
amount of interest the bonds would have accrued and compounded over the period
until maturity. Zero coupon bonds do not require the periodic payment of
interest. Such investments benefit the issuer by mitigating its need for cash
to meet debt service but also require a higher rate of return to attract
investors who are willing to defer receipt of such cash.
B-26
<PAGE>
Such investments may experience greater volatility in market value than debt
obligations which provide for regular payments of interest. In addition, if an
issuer of zero coupon bonds held by a Fund defaults, the Fund may obtain no
return at all on its investment. Each Fund will accrue income on such
investments for each taxable year which (net of deductible expenses, if any) is
distributable to shareholders and which, because no cash is generally received
at the time of accrual, may require the liquidation of other portfolio
securities to obtain sufficient cash to satisfy the Fund's distribution
obligations.
VARIABLE AND FLOATING RATE SECURITIES
The interest rates payable on certain fixed income securities in which an
Underlying Fund may invest are not fixed and may fluctuate based upon changes in
market rates. A variable rate obligation has an interest rate which is adjusted
at predesignated periods in response to changes in the market rate of interest
on which the interest rate is based. Variable and floating rate obligations are
less effective than fixed rate instruments at locking in a particular yield.
Nevertheless, such obligations may fluctuate in value in response to interest
rate changes if there is a delay between changes in market interest rates and
the interest reset date for the obligation.
Permissible investments for the Underlying Funds include "leveraged"
inverse floating rate debt instruments ("inverse floaters"), including
"leveraged inverse floaters." The interest rate on inverse floaters resets in
the opposite direction from the market rate of interest to which the inverse
floater is indexed. An inverse floater may be considered to be leveraged to the
extent that its interest rate varies by a magnitude that exceeds the magnitude
of the change in the index rate of interest. The higher the degree of leverage
of an inverse floater, the greater the volatility of its market value.
Accordingly, the duration of an inverse floater may exceed its stated final
maturity. Certain inverse floaters may be deemed to be illiquid securities for
purposes of each Fund's limitation on illiquid investments.
CUSTODIAL RECEIPTS
Each Fund may invest in custodial receipts in respect of securities issued
or guaranteed as to principal and interest by the U.S. Government, its agencies,
instrumentalities, political subdivisions or authorities. Such custodial
receipts evidence ownership of future interest payments, principal payments or
both on certain notes or bonds issued by the U.S. Government, its agencies,
instrumentalities, political subdivisions or authorities. These custodial
receipts are known by various names, including "Treasury Receipts," "Treasury
Investors Growth Receipts" ("TIGRs"), and "Certificates of Accrual on Treasury
Securities"
B-27
<PAGE>
("CATs"). For certain securities law purposes, custodial receipts are not
considered U.S. Government securities.
MUNICIPAL SECURITIES
Certain of the Underlying Funds may invest in bonds, notes and other
instruments issued by or on behalf of states, territories and possessions of the
United States (including the District of Columbia) and their political
subdivisions, agencies or instrumentalities ("Municipal Securities").
Municipal Securities are often issued to obtain funds for various public
purposes including refunding outstanding obligations, obtaining funds for
general operating expenses, and obtaining funds to lend to other public
institutions and facilities. Municipal Securities also include certain
"private activity bonds" or industrial development bonds, which are issued by or
on behalf of public authorities to provide financing aid to acquire sites or
construct or equip facilities within a municipality for privately or publicly
owned corporations.
The two principal classifications of Municipal Securities are "general
obligations" and "revenue obligations." General obligations are secured by the
issuer's pledge of its full faith and credit for the payment of principal and
interest, although the characteristics and enforcement of general obligations
may vary according to the law applicable to the particular issuer. Revenue
obligations, which include, but are not limited to, private activity bonds,
resource recovery bonds, certificates of participation and certain municipal
notes, are not backed by the credit and taxing authority of the issuer, and are
payable solely from the revenues derived from a particular facility or class of
facilities or, in some cases, from the proceeds of a special excise or other
specific revenue source. Nevertheless, the obligations of the issuer of a
revenue obligation may be backed by a letter of credit, guarantee or insurance.
General obligations and revenue obligations may be issued in a variety of forms,
including commercial paper, fixed, variable and floating rate securities, tender
option bonds, auction rate bonds and zero coupon bonds, deferred interest bonds
and capital appreciation bonds.
In addition to general obligations and revenue obligations, there is a
variety of hybrid and special types of Municipal Securities. There are also
numerous differences in the security of Municipal Securities both within and
between these two principal classifications.
An entire issue of Municipal Securities may be purchased by one or a small
number of institutional investors such as the High Yield and Core Fixed Income
Fund. Thus, the issue may not be said to be publicly offered. Unlike some
securities that are not publicly offered, a secondary market exists for many
Municipal Securities
B-28
<PAGE>
that were not publicly offered initially and such securities may be readily
marketable.
The obligations of the issuer to pay the principal of and interest on a
Municipal Security are subject to the provisions of bankruptcy, insolvency and
other laws affecting the rights and remedies of creditors, such as the Federal
Bankruptcy Act, and laws, if any, that may be enacted by Congress or state
legislatures extending the time for payment of principal or interest or imposing
other constraints upon the enforcement of such obligations. There is also the
possibility that, as a result of litigation or other conditions, the power or
ability of the issuer to pay when due principal of or interest on a Municipal
Security may be materially affected.
Municipal Leases, Certificates of Participation and Other Participation
-----------------------------------------------------------------------
Interests. Municipal Securities include leases, certificates of participation
- ---------
and other participation interests. A municipal lease is an obligation in the
form of a lease or installment purchase which is issued by a state or local
government to acquire equipment and facilities. Municipal leases frequently
involve special risks not normally associated with general obligations or
revenue bonds. Leases and installment purchase or conditional sale contracts
(which normally provide for title to the leased asset to pass eventually to the
governmental issuer) have evolved as a means for governmental issuers to acquire
property and equipment without meeting the constitutional and statutory
requirements for the issuance of debt. The debt issuance limitations are deemed
to be inapplicable because of the inclusion in many leases or contracts of "non-
appropriation" clauses that relieve the governmental issuer of any obligation to
make future payments under the lease or contract unless money is appropriated
for such purpose by the appropriate legislative body on a yearly or other
periodic basis. In addition, such leases or contracts may be subject to the
temporary abatement of payments in the event the issuer is prevented from
maintaining occupancy of the leased premises or utilizing the leased equipment.
Although the obligations may be secured by the leased equipment or facilities,
the disposition of the property in the event of non-appropriation or foreclosure
might prove difficult, time consuming and costly, and result in a delay in
recovering or the failure to fully recover a Fund's original investment.
Certificates of participation represent undivided interests in municipal
leases, installment purchase agreements or other instruments. The certificates
are typically issued by a trust or other entity which has received an assignment
of the payments to be made by the state or political subdivision under such
leases or installment purchase agreements.
Certain municipal lease obligations and certificates of participation may
be deemed to be illiquid for the purpose of an
B-29
<PAGE>
Underlying Fund's limitation on investments in illiquid securities. Other
municipal lease obligations and certificates of participation acquired by a Fund
may be determined by its investment adviser, pursuant to guidelines adopted by
the Trustees of the Trust, to be liquid securities for the purpose of such
limitation. In determining the liquidity of municipal lease obligations and
certificates of participation, the investment adviser will consider a variety of
factors including: (1) the willingness of dealers to bid for the security; (2)
the number of dealers willing to purchase or sell the obligation and the number
of other potential buyers; (3) the frequency of trades or quotes for the
obligation; and (4) the nature of the marketplace trades. In addition, the
investment adviser will consider factors unique to particular lease obligations
and certificates of participation affecting the marketability thereof. These
include the general creditworthiness of the issuer, the importance to the issuer
of the property covered by the lease and the likelihood that the marketability
of the obligation will be maintained throughout the time the obligation is held
by a Fund.
The Underlying Funds may purchase participations in Municipal Securities
held by a commercial bank or other financial institution. Such participations
provide a Fund with the right to a pro rata undivided interest in the underlying
Municipal Securities. In addition, such participations generally provide a Fund
with the right to demand payment, on not more than seven days' notice, of all or
any part of such Fund's participation interest in the underlying Municipal
Security, plus accrued interest.
Auction Rate Securities. Municipal Securities also include auction rate
-----------------------
Municipal Securities and auction rate preferred securities issued by closed-end
investment companies that invest primarily in Municipal Securities
(collectively, "auction rate securities"). Provided that the auction mechanism
is successful, auction rate securities usually permit the holder to sell the
securities in an auction at par value at specified intervals. The dividend is
reset by "Dutch" auction in which bids are made by broker-dealers and other
institutions for a certain amount of securities at a specified minimum yield.
The dividend rate set by the auction is the lowest interest or dividend rate
that covers all securities offered for sale. While this process is designed to
permit auction rate securities to be traded at par value, there is some risk
that an auction will fail due to insufficient demand for the securities.
An Underlying Fund's investments in auction rate securities of closed-end
funds are subject to the limitations prescribed by the Act. A Fund will
indirectly bear its proportionate share of any management and other fees paid by
such closed-end funds in addition to the advisory fees payable directly by the
Funds.
B-30
<PAGE>
Other Types of Municipal Securities. Other types of Municipal Securities
-----------------------------------
in which certain of the Underlying Funds may invest include municipal notes,
tax-exempt commercial paper, pre-refunded municipal bonds, industrial
development bonds and insured municipal obligations.
Call Risk and Reinvestment Risk. Municipal Securities may include "call"
-------------------------------
provisions which permit the issuers of such securities, at any time or after a
specified period, to redeem the securities prior to their stated maturity. In
the event that Municipal Securities held in an Underlying Fund's portfolio are
called prior to the maturity, the Fund will be required to reinvest the proceeds
on such securities at an earlier date and may be able to do so only at lower
yields, thereby reducing the Fund's return on its portfolio securities.
MORTGAGE LOANS AND MORTGAGE-BACKED SECURITIES
General Characteristics. The Underlying Funds may invest in Mortgage-
-----------------------
Backed Securities as described in the Prospectus. Each mortgage pool underlying
Mortgage-Backed Securities consists of mortgage loans evidenced by promissory
notes secured by first mortgages or first deeds of trust or other similar
security instruments creating a first lien on owner occupied and non-owner
occupied one-unit to four-unit residential properties, multifamily (i.e., five
or more) properties, agriculture properties, commercial properties and mixed use
properties (the "Mortgaged Properties"). The Mortgaged Properties may consist
of detached individual dwelling units, multifamily dwelling units, individual
condominiums, townhouses, duplexes, triplexes, fourplexes, row houses,
individual units in planned unit developments and other attached dwelling units.
The Mortgaged Properties may also include residential investment properties and
second homes.
The investment characteristics of adjustable and fixed rate Mortgage-Backed
Securities differ from those of traditional fixed income securities. The major
differences include the payment of interest and principal on Mortgage-Backed
Securities on a more frequent (usually monthly) schedule, and the possibility
that principal may be prepaid at any time due to prepayments on the underlying
mortgage loans or other assets. These differences can result in significantly
greater price and yield volatility than is the case with traditional fixed
income securities. As a result, if an Underlying Fund purchases Mortgage-Backed
Securities at a premium, a faster than expected prepayment rate will reduce both
the market value and the yield to maturity from those which were anticipated. A
prepayment rate that is slower than expected will have the opposite effect of
increasing yield to maturity and market value. Conversely, if a Fund purchases
Mortgage-Backed Securities at a discount, faster than expected prepayments will
increase, while slower than expected prepayments will reduce yield to maturity
and market values. To the extent that a Fund invests in
B-31
<PAGE>
Mortgage-Backed Securities, its investment adviser may seek to manage these
potential risks by investing in a variety of Mortgage-Backed Securities and by
using certain hedging techniques.
Adjustable Rate Mortgage Loans ("ARMs"). ARMs generally provide for a
---------------------------------------
fixed initial mortgage interest rate for a specified period of time.
Thereafter, the interest rates (the "Mortgage Interest Rates") may be subject to
periodic adjustment based on changes in the applicable index rate (the "Index
Rate"). The adjusted rate would be equal to the Index Rate plus a fixed
percentage spread over the Index Rate established for each ARM at the time of
its origination.
Adjustable interest rates can cause payment increases that some mortgagors
may find difficult to make. However, certain ARMs may provide that the Mortgage
Interest Rate may not be adjusted to a rate above an applicable lifetime maximum
rate or below an applicable lifetime minimum rate for such ARM. Certain ARMs
may also be subject to limitations on the maximum amount by which the Mortgage
Interest Rate may adjust for any single adjustment period (the "Maximum
Adjustment"). Other ARMs ("Negatively Amortizing ARMs") may provide instead or
as well for limitations on changes in the monthly payment on such ARMs.
Limitations on monthly payments can result in monthly payments which are greater
or less than the amount necessary to amortize a Negatively Amortizing ARM by its
maturity at the Mortgage Interest Rate in effect in any particular month. In
the event that a monthly payment is not sufficient to pay the interest accruing
on a Negatively Amortizing ARM, any such excess interest is added to the
principal balance of the loan, causing negative amortization, and will be repaid
through future monthly payments. It may take borrowers under Negatively
Amortizing ARMs longer periods of time to build up equity and may increase the
likelihood of default by such borrowers. In the event that a monthly payment
exceeds the sum of the interest accrued at the applicable Mortgage Interest Rate
and the principal payment which would have been necessary to amortize the
outstanding principal balance over the remaining term of the loan, the excess
(or "accelerated amortization") further reduces the principal balance of the
ARM. Negatively Amortizing ARMs do not provide for the extension of their
original maturity to accommodate changes in their Mortgage Interest Rate. As a
result, unless there is a periodic recalculation of the payment amount (which
there generally is), the final payment may be substantially larger than the
other payments. These limitations on periodic increases in interest rates and on
changes in monthly payments protect borrowers from unlimited interest rate and
payment increases.
There are two main categories of indices which provide the basis for rate
adjustments on ARMs: those based on U.S. Treasury securities and those derived
from a calculated measure, such as a cost of funds index or a moving average of
mortgage rates. Commonly utilized indices include the one-year, three-year and
five-year
B-32
<PAGE>
constant maturity Treasury rates, the three-month Treasury bill rate, the 180-
day Treasury bill rate, rates on longer-term Treasury securities, the 11th
District Federal Home Loan Bank Cost of Funds, the National Median Cost of
Funds, the one-month, three-month, six-month or one-year London Interbank
Offered Rate, the prime rate of a specific bank or commercial paper rates. Some
indices, such as the one-year constant maturity Treasury rate, closely mirror
changes in market interest rate levels. Others, such as the 11th District
Federal Home Loan Bank Cost of Funds index, tend to lag behind changes in market
rate levels and tend to be somewhat less volatile. The degree of volatility in
the market value of an Underlying Fund's portfolio and therefore in the net
asset value of a Fund's shares will be a function of the length of the interest
rate reset periods and the degree of volatility in the applicable indices.
Fixed-Rate Mortgage Loans. Generally, fixed-rate mortgage loans included
-------------------------
in a mortgage pool (the "Fixed-Rate Mortgage Loans") will bear simple interest
at fixed annual rates and have original terms to maturity ranging from 5 to 40
years. Fixed-Rate Mortgage Loans generally provide for monthly payments of
principal and interest in substantially equal installments for the term of the
mortgage note in sufficient amounts to fully amortize principal by maturity,
although certain Fixed-Rate Mortgage Loans provide for a large final "balloon"
payment upon maturity.
Legal Considerations of Mortgage Loans. The following is a discussion of
--------------------------------------
certain legal and regulatory aspects of the mortgage loans in which the
Underlying Funds may invest. These regulations may impair the ability of a
mortgage lender to enforce its rights under the mortgage documents. These
regulations may adversely affect the Funds' investments in Mortgage-Backed
Securities (including those issued or guaranteed by the U.S. government, its
agencies or instrumentalities) by delaying the Funds' receipt of payments
derived from principal or interest on mortgage loans affected by such
regulations.
1. Foreclosure. A foreclosure of a defaulted mortgage loan may be delayed due
-----------
to compliance with statutory notice or service of process provisions,
difficulties in locating necessary parties or legal challenges to the
mortgagee's right to foreclose. Depending upon market conditions, the
ultimate proceeds of the sale of foreclosed property may not equal the
amounts owed on the Mortgage-Backed Securities.
Furthermore, courts in some cases have imposed general equitable principles
upon foreclosure generally designed to relieve the borrower from the legal
effect of default and have required lenders to undertake affirmative and
expensive actions to determine the causes for the default and the
likelihood of loan reinstatement.
B-33
<PAGE>
2. Rights of Redemption. In some states, after foreclosure of a mortgage
--------------------
loan, the borrower and foreclosed junior lienors are given a statutory
period in which to redeem the property, which right may diminish the
mortgagee's ability to sell the property.
3. Legislative Limitations. In addition to anti-deficiency and related
-----------------------
legislation, numerous other federal and state statutory provisions,
including the federal bankruptcy laws and state laws affording relief to
debtors, may interfere with or affect the ability of a secured mortgage
lender to enforce its security interest. For example, a bankruptcy court
may grant the debtor a reasonable time to cure a default on a mortgage
loan, including a payment default. The court in certain instances may
also reduce the monthly payments due under such mortgage loan, change the
rate of interest, reduce the principal balance of the loan to the then-
current appraised value of the related mortgaged property, alter the
mortgage loan repayment schedule and grant priority of certain liens over
the lien of the mortgage loan. If a court relieves a borrower's obligation
to repay amounts otherwise due on a mortgage loan, the mortgage loan
servicer will not be required to advance such amounts, and any loss may be
borne by the holders of securities backed by such loans. In addition,
numerous federal and state consumer protection laws impose penalties for
failure to comply with specific requirements in connection with origination
and servicing of mortgage loans.
4. "Due-on-Sale" Provisions. Fixed-rate mortgage loans may contain a so-
------------------------
called "due-on-sale" clause permitting acceleration of the maturity of the
mortgage loan if the borrower transfers the property. The Garn-St. Germain
Depository Institutions Act of 1982 sets forth nine specific instances in
which no mortgage lender covered by that Act may exercise a "due-on-sale"
clause upon a transfer of property. The inability to enforce a "due-on-
sale" clause or the lack of such a clause in mortgage loan documents may
result in a mortgage loan being assumed by a purchaser of the property that
bears an interest rate below the current market rate.
5. Usury Laws. Some states prohibit charging interest on mortgage loans in
----------
excess of statutory limits. If such limits are exceeded, substantial
penalties may be incurred and, in some cases, enforceability of the
obligation to pay principal and interest may be affected.
Government Guaranteed Mortgage-Backed Securities. There are several types
------------------------------------------------
of guaranteed mortgage-backed securities currently available, including
guaranteed mortgage pass-through certificates and multiple class securities,
which include guaranteed Real Estate Mortgage Investment Conduit Certificates
("REMIC Certificates"), collateralized mortgage obligations and stripped
mortgage-backed
B-34
<PAGE>
securities. An Underlying Fund is permitted to invest in other types of
mortgage-backed securities that may be available in the future to the extent
consistent with its investment policies and objective.
An Underlying Fund's investments in mortgage-backed securities may include
securities issued or guaranteed by the U.S. Government or one of its agencies,
authorities, instrumentalities or sponsored enterprises, such as the Government
National Mortgage Association ("Ginnie Mae"), the Federal National Mortgage
Association ("Fannie Mae") and the Federal Home Loan Mortgage Corporation
("Freddie Mac").
Ginnie Mae Certificates. Ginnie Mae is a wholly-owned corporate
-----------------------
instrumentality of the United States. Ginnie Mae is authorized to guarantee the
timely payment of the principal of and interest on certificates that are based
on and backed by a pool of mortgage loans insured by the Federal Housing
Administration ("FHA Loans"), or guaranteed by the Veterans Administration ("VA
Loans"), or by pools of other eligible mortgage loans. In order to meet its
obligations under any guaranty, Ginnie Mae is authorized to borrow from the
United States Treasury in an unlimited amount.
Fannie Mae Certificates. Fannie Mae is a stockholder-owned corporation
-----------------------
chartered under an act of the United States Congress. Each Fannie Mae
Certificate is issued and guaranteed by Fannie Mae and represents an undivided
interest in a pool of mortgage loans (a "Pool") formed by Fannie Mae. Each Pool
consists of residential mortgage loans ("Mortgage Loans") either previously
owned by Fannie Mae or purchased by it in connection with the formation of the
Pool. The Mortgage Loans may be either conventional Mortgage Loans (i.e., not
insured or guaranteed by any U.S. Government agency) or Mortgage Loans that are
either insured by the Federal Housing Administration ("FHA") or guaranteed by
the Veterans Administration ("VA"). However, the Mortgage Loans in Fannie Mae
Pools are primarily conventional Mortgage Loans. The lenders originating and
servicing the Mortgage Loans are subject to certain eligibility requirements
established by Fannie Mae.
Fannie Mae has certain contractual responsibilities. With respect to each
Pool, Fannie Mae is obligated to distribute scheduled monthly installments of
principal and interest after Fannie Mae's servicing and guaranty fee, whether or
not received, to Certificate holders. Fannie Mae also is obligated to
distribute to holders of Certificates an amount equal to the full principal
balance of any foreclosed Mortgage Loan, whether or not such principal balance
is actually recovered. The obligations of Fannie Mae under its guaranty of the
Fannie Mae Certificates are obligations solely of Fannie Mae.
Freddie Mac Certificates. Freddie Mac is a publicly held U.S. Government
------------------------
sponsored enterprise. The principal activity of Freddie
B-35
<PAGE>
Mac currently is the purchase of first lien, conventional, residential mortgage
loans and participation interests in such mortgage loans and their resale in the
form of mortgage securities, primarily Freddie Mac Certificates. A Freddie Mac
Certificate represents a pro rata interest in a group of mortgage loans or
participation in mortgage loans (a "Freddie Mac Certif icate group") purchased
by Freddie Mac.
Freddie Mac guarantees to each registered holder of a Freddie Mac
Certificate the timely payment of interest at the rate provided for by such
Freddie Mac Certificate (whether or not received on the underlying loans).
Freddie Mac also guarantees to each registered Certificate holder ultimate
collection of all principal of the related mortgage loans, without any offset or
deduction, but does not, generally, guarantee the timely payment of scheduled
principal. The obligations of Freddie Mac under its guaranty of Freddie Mac
Certificates are obligations solely of Freddie Mac.
The mortgage loans underlying the Freddie Mac and Fannie Mae Certificates
consist of adjustable rate or fixed rate mortgage loans with original terms to
maturity of between five and thirty years. Substantially all of these mortgage
loans are secured by first liens on one-to-four-family residential properties or
multifamily projects. Each mortgage loan must meet the applicable standards set
forth in the law creating Freddie Mac or Fannie Mae. A Freddie Mac Certificate
group may include whole loans, participation interests in whole loans and
undivided interests in whole loans and participations comprising another Freddie
Mac Certificate group.
Conventional Mortgage Loans. The conventional mortgage loans underlying
---------------------------
the Freddie Mac and Fannie Mae Certificates consist of adjustable rate or fixed-
rate mortgage loans with original terms to maturity of between five and thirty
years. Substantially all of these mortgage loans are secured by first liens on
one- to four-family residential properties or multi-family projects. Each
mortgage loan must meet the applicable standards set forth in the law creating
Freddie Mac or Fannie Mae. A Freddie Mac Certificate group may include whole
loans, participation interests in whole loans, undivided interests in whole
loans and participations comprising another Freddie Mac Certificate group.
Mortgage Pass-Through Securities. As described in the Prospectus, the
--------------------------------
Underlying Funds may invest in both government guaranteed and privately issued
mortgage pass-through securities ("Mortgage Pass-Throughs"); that is, fixed or
adjustable rate mortgage-backed securities which provide for monthly payments
that are a "pass-through" of the monthly interest and principal payments
(including any prepayments) made by the individual borrowers on the pooled
mortgage loans, net of any fees or other amounts paid to any guarantor,
administrator and/or servicer of the underlying mortgage loans.
B-36
<PAGE>
The following discussion describes only a few of the wide variety of
structures of Mortgage Pass-Throughs that are available or may be issued.
Description of Certificates. Mortgage Pass-Throughs may be issued in one
---------------------------
or more classes of senior certificates and one or more classes of subordinate
certificates. Each such class may bear a different pass-through rate.
Generally, each certificate will evidence the specified interest of the holder
thereof in the payments of principal or interest or both in respect of the
mortgage pool comprising part of the trust fund for such certificates.
Any class of certificates may also be divided into subclasses entitled to
varying amounts of principal and interest. If a REMIC election has been made,
certificates of such subclasses may be entitled to payments on the basis of a
stated principal balance and stated interest rate, and payments among different
subclasses may be made on a sequential, concurrent, pro rata or disproportionate
--- ----
basis, or any combination thereof. The stated interest rate on any such
subclass of certificates may be a fixed rate or one which varies in direct or
inverse relationship to an objective interest index.
Generally, each registered holder of a certificate will be entitled to
receive its pro rata share of monthly distributions of all or a portion of
--- ----
principal of the underlying mortgage loans or of interest on the principal
balances thereof, which accrues at the applicable mortgage pass-through rate, or
both. The difference between the mortgage interest rate and the related
mortgage pass-through rate (less the amount, if any, of retained yield) with
respect to each mortgage loan will generally be paid to the servicer as a
servicing fee. Since certain adjustable rate mortgage loans included in a
mortgage pool may provide for deferred interest (i.e., negative amortization),
the amount of interest actually paid by a mortgagor in any month may be less
than the amount of interest accrued on the outstanding principal balance of the
related mortgage loan during the relevant period at the applicable mortgage
interest rate. In such event, the amount of interest that is treated as deferred
interest will be added to the principal balance of the related mortgage loan and
will be distributed pro rata to certificate-holders as principal of such
--- ----
mortgage loan when paid by the mortgagor in subsequent monthly payments or at
maturity.
Ratings. The ratings assigned by a rating organization to Mortgage Pass-
-------
Throughs address the likelihood of the receipt of all distributions on the
underlying mortgage loans by the related certificate-holders under the
agreements pursuant to which such certificates are issued. A rating
organization's ratings take into consideration the credit quality of the related
mortgage pool, including any credit support providers, structural and legal
B-37
<PAGE>
aspects associated with such certificates, and the extent to which the payment
stream on such mortgage pool is adequate to make payments required by such
certificates. A rating organization's ratings on such certificates do not,
however, constitute a statement regarding frequency of prepayments on the
related mortgage loans. In addition, the rating assigned by a rating
organization to a certificate does not address the remote possibility that, in
the event of the insolvency of the issuer of certificates where a subordinated
interest was retained, the issuance and sale of the senior certificates may be
recharacterized as a financing and, as a result of such recharacterization,
payments on such certificates may be affected.
Credit Enhancement. Credit support falls generally into two categories:
------------------
(i) liquidity protection and (ii) protection against losses resulting from
default by an obligor on the underlying assets. Liquidity protection refers to
the provision of advances, generally by the entity administering the pools of
mortgages, the provision of a reserve fund, or a combination thereof, to ensure,
subject to certain limitations, that scheduled payments on the underlying pool
are made in a timely fashion. Protection against losses resulting from default
ensures ultimate payment of the obligations on at least a portion of the assets
in the pool. Such credit support can be provided by among other things, payment
guarantees, letters of credit, pool insurance, subordination, or any combination
thereof.
Subordination; Shifting of Interest; Reserve Fund. In order to achieve
-------------------------------------------------
ratings on one or more classes of Mortgage Pass-Throughs, one or more classes of
certificates may be subordinate certificates which provide that the rights of
the subordinate certificate-holders to receive any or a specified portion of
distributions with respect to the underlying mortgage loans may be subordinated
to the rights of the senior certificate-holders. If so structured, the
subordination feature may be enhanced by distributing to the senior certificate-
holders on certain distri bution dates, as payment of principal, a specified
percentage (which generally declines over time) of all principal payments
received during the preceding prepayment period ("shifting interest credit
enhancement"). This will have the effect of accelerating the amortization of
the senior certificates while increasing the interest in the trust fund
evidenced by the subordinate certificates. Increasing the interest of the
subordinate certificates relative to that of the senior certificates is intended
to preserve the availability of the subordination provided by the subordinate
certificates. In addition, because the senior certificate-holders in a shifting
interest credit enhancement structure are entitled to receive a percentage of
principal prepayments which is greater than their proportionate interest in the
trust fund, the rate of principal prepayments on the mortgage loans will have an
even greater effect on the rate of principal payments and the amount of interest
payments on, and the yield to maturity of, the senior certificates.
B-38
<PAGE>
In addition to providing for a preferential right of the senior
certificate-holders to receive current distributions from the mortgage pool, a
reserve fund may be established relating to such certificates (the "Reserve
Fund"). The Reserve Fund may be created with an initial cash deposit by the
originator or servicer and augmented by the retention of distributions otherwise
available to the subordinate certificate-holders or by excess servicing fees
until the Reserve Fund reaches a specified amount.
The subordination feature, and any Reserve Fund, are intended to enhance
the likelihood of timely receipt by senior certificate-holders of the full
amount of scheduled monthly payments of principal and interest due them and will
protect the senior certificate-holders against certain losses; however, in
certain circumstances the Reserve Fund could be depleted and temporary
shortfalls could result. In the event the Reserve Fund is depleted before the
subordinated amount is reduced to zero, senior certificate-holders will
nevertheless have a preferential right to receive current distributions from the
mortgage pool to the extent of the then outstanding subordinated amount. Unless
otherwise specified, until the subordinated amount is reduced to zero, on any
distribution date any amount otherwise distributable to the subordinate
certificates or, to the extent specified, in the Reserve Fund will generally be
used to offset the amount of any losses realized with respect to the mortgage
loans ("Realized Losses"). Realized Losses remaining after application of such
amounts will generally be applied to reduce the ownership interest of the
subordinate certificates in the mortgage pool. If the subordinated amount has
been reduced to zero, Realized Losses generally will be allocated pro rata among
--- ----
all certificate-holders in proportion to their respective outstanding interests
in the mortgage pool.
Alternative Credit Enhancement. As an alternative, or in addition to the
------------------------------
credit enhancement afforded by subordination, credit enhancement for Mortgage
Pass-Throughs may be provided by mortgage insurance, hazard insurance, by the
deposit of cash, certificates of deposit, letters of credit, a limited guaranty
or by such other methods as are acceptable to a rating agency. In certain
circumstances, such as where credit enhancement is provided by guarantees or a
letter of credit, the security is subject to credit risk because of its exposure
to an external credit enhancement provider.
Voluntary Advances. Generally, in the event of delinquencies in payments
------------------
on the mortgage loans underlying the Mortgage Pass-Throughs, the servicer agrees
to make advances of cash for the benefit of certificate-holders, but only to the
extent that it determines such voluntary advances will be recoverable from
future payments and collections on the mortgage loans or otherwise.
B-39
<PAGE>
Optional Termination. Generally, the servicer may, at its option with
--------------------
respect to any certificates, repurchase all of the underlying mortgage loans
remaining outstanding at such time as the aggregate outstanding principal
balance of such mortgage loans is less than a specified percentage (generally 5-
10%) of the aggregate outstanding principal balance of the mortgage loans as of
the cut-off date specified with respect to such series.
Multiple Class Mortgage-Backed Securities and Collateralized Mortgage
---------------------------------------------------------------------
Obligations. An Underlying Fund may invest in multiple class securities
- -----------
including collateralized mortgage obligations ("CMOs") and REMIC Certificates.
These securities may be issued by U.S. Government agencies and instrumentalities
such as Fannie Mae or Freddie Mac or by trusts formed by private originators of,
or investors in, mortgage loans, including savings and loan associations,
mortgage bankers, commercial banks, insurance companies, investment banks and
special purpose subsidiaries of the foregoing. In general, CMOs are debt
obligations of a legal entity that are collateralized by, and multiple class
mortgage-backed securities represent direct ownership interests in, a pool of
mortgage loans or mortgage-backed securities the payments on which are used to
make payments on the CMOs or multiple class mortgage-backed securities.
Fannie Mae REMIC Certificates are issued and guaranteed as to timely
distribution of principal and interest by Fannie Mae. In addition, Fannie Mae
will be obligated to distribute the principal balance of each class of REMIC
Certificates in full, whether or not sufficient funds are otherwise available.
Freddie Mac guarantees the timely payment of interest on Freddie Mac REMIC
Certificates and also guarantees the payment of principal as payments are
required to be made on the underlying mortgage participation certificates
("PCs"). PCs represent undivided interests in specified level payment,
residential mortgages or participations therein purchased by Freddie Mac and
placed in a PC pool. With respect to principal payments on PCs, Freddie Mac
generally guarantees ultimate collection of all principal of the related
mortgage loans without offset or deduction. Freddie Mac also guarantees timely
payment of principal of certain PCs.
CMOs and guaranteed REMIC Certificates issued by Fannie Mae and Freddie Mac
are types of multiple class mortgage-backed securi ties. Investors may purchase
beneficial interests in REMICs, which are known as "regular" interests or
"residual" interests. The Underlying Funds do not intend to purchase residual
interests in REMICs. The REMIC Certificates represent beneficial ownership
interests in a REMIC trust, generally consisting of mortgage loans or Fannie
Mae, Freddie Mac or Ginnie Mae guaranteed mortgage-backed securities (the
"Mortgage Assets"). The obligations of Fannie Mae or Freddie Mac under their
respective guaranty of the
B-40
<PAGE>
REMIC Certificates are obligations solely of Fannie Mae or Freddie Mac,
respectively.
CMOs and REMIC Certificates are issued in multiple classes. Each class of
CMOs or REMIC Certificates, often referred to as a "tranche," is issued at a
specific adjustable or fixed interest rate and must be fully retired no later
than its final distribution date. Principal prepayments on the Mortgage Loans
or the Mortgage Assets underlying the CMOs or REMIC Certificates may cause some
or all of the classes of CMOs or REMIC Certificates to be retired substantially
earlier than their final distribution dates. Generally, interest is paid or
accrues on all classes of CMOs or REMIC Certificates on a monthly basis.
The principal of and interest on the Mortgage Assets may be allocated among
the several classes of CMOs or REMIC Certificates in various ways. In certain
structures (known as "sequential pay" CMOs or REMIC Certificates), payments of
principal, including any principal prepayments, on the Mortgage Assets generally
are applied to the classes of CMOs or REMIC Certificates in the order of their
respective final distribution dates. Thus, no payment of principal will be made
on any class of sequential pay CMOs or REMIC Certificates until all other
classes having an earlier final distribution date have been paid in full.
Additional structures of CMOs and REMIC Certificates include, among others,
"parallel pay" CMOs and REMIC Certificates. Parallel pay CMOs or REMIC
Certificates are those which are structured to apply principal payments and
prepayments of the Mortgage Assets to two or more classes concurrently on a
proportionate or disproportionate basis. These simultaneous payments are taken
into account in calculating the final distribution date of each class.
A wide variety of REMIC Certificates may be issued in parallel pay or
sequential pay structures. These securities include accrual certificates (also
known as "Z-Bonds"), which only accrue interest at a specified rate until all
other certificates having an earlier final distribution date have been retired
and are converted thereafter to an interest-paying security, and planned
amortization class ("PAC") certificates, which are parallel pay REMIC
Certificates that generally require that specified amounts of principal be
applied on each payment date to one or more classes or REMIC Certificates (the
"PAC Certificates"), even though all other principal payments and prepayments of
the Mortgage Assets are then required to be applied to one or more other classes
of the Certificates. The scheduled principal payments for the PAC Certificates
generally have the highest priority on each payment date after interest due has
been paid to all classes entitled to receive interest currently. Shortfalls, if
any, are added to the amount payable on the next payment date. The PAC
Certificate payment schedule is taken into account in calculating the final
distribution date of each class of PAC. In order to create PAC
B-41
<PAGE>
tranches, one or more tranches generally must be created that absorb most of the
volatility in the underlying mortgage assets. These tranches tend to have market
prices and yields that are much more volatile than other PAC classes.
Stripped Mortgage-Backed Securities. The Underlying Funds may invest in
-----------------------------------
stripped mortgage-backed securities ("SMBS"), which are derivative multiclass
mortgage securities, issued or guaranteed by the U.S. Government, its agencies
or instrumentalities or by private issuers. Although the market for such
securities is increasingly liquid, privately issued SMBS may not be readily
marketable and will be considered illiquid for purposes of an Underlying Fund's
limitation on investments in illiquid securities. A Fund's investment adviser
may determine that SMBS which are U.S. Government Securities are liquid for
purposes of each Fund's limitation on investments in illiquid securities. The
market value of the class consisting entirely of principal payments generally is
unusually volatile in response to changes in interest rates. The yields on a
class of SMBS that receives all or most of the interest from Mortgage Assets are
generally higher than prevailing market yields on other Mortgage-Backed
Securities because their cash flow patterns are more volatile and there is a
greater risk that the initial investment will not be fully recouped.
ASSET-BACKED SECURITIES
Asset-backed securities represent participation in, or are secured by and
payable from, assets such as motor vehicle installment sales, installment loan
contracts, leases of various types of real and personal property, receivables
from revolving credit (credit card) agreements and other categories of
receivables. Such assets are securitized through the use of trusts and special
purpose corporations. Payments or distributions of principal and interest may
be guaranteed up to certain amounts and for a certain time period by a letter of
credit or a pool insurance policy issued by a financial institution unaffiliated
with the trust or corporation, or other credit enhancements may be present.
Like Mortgage-Backed Securities, asset-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 loans.
During periods of declining interest rates, prepayment of loans underlying
asset-backed securities can be expected to accelerate. Accordingly, an
Underlying Fund's ability to maintain positions in such securities will be
affected by reductions in the principal amount of such securities resulting from
prepayments, and its ability to reinvest the returns of principal at comparable
yields is subject to generally prevailing interest rates at that time. To the
extent that a Fund invests in asset-backed securities, the values of such Fund's
portfolio securities will vary with changes in market
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interest rates generally and the differentials in yields among various kinds of
asset-backed securities.
Asset-backed securities present certain additional risks that are not
presented by Mortgage-Backed Securities because asset-backed securities
generally do not have the benefit of a security interest in collateral that is
comparable to Mortgage Assets. Credit card receivables are generally unsecured
and the debtors on such receivables 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. Automobile receivables generally are secured, but by automobiles
rather than residential real property. Most issuers of automobile receivables
permit the loan servicers to retain possession of the underlying obligations.
If the servicer were to sell these obligations to another party, there is a
risk that the purchaser would acquire an interest superior to that of the
holders of the asset-backed securities. 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 the underlying automobiles. Therefore,
there is the possibility that, in some cases, recoveries on repossessed
collateral may not be available to support payments on these securities.
FUTURES CONTRACTS AND OPTIONS ON FUTURES CONTRACTS
Each Underlying Fund (other than Financial Square Prime Obligations Fund)
may purchase and sell futures contracts and may also purchase and write options
on futures contracts. CORE U.S. Equity, CORE Large Cap Growth and CORE Small
Cap Equity Funds may only enter into such transactions with respect to the S&P
500 Index, for the CORE U.S. Equity Fund and a representative index in the case
of the CORE Large Cap Growth and CORE Small Cap Equity Funds. The other Funds
may purchase and sell futures contracts based on various securities (such as
U.S. Government securities), securities indices, foreign currencies and other
financial instruments and indices. An Underlying Fund will engage in futures
and related options transactions, only for bona fide hedging purposes as defined
below or for purposes of seeking to increase total return to the extent
permitted by regulations of the Commodity Futures Trading Commission ("CFTC").
All futures contracts entered into by a Fund are traded on U.S. exchanges or
boards of trade that are licensed and regulated by the CFTC or on foreign
exchanges.
Futures Contracts. A futures contract may generally be described as an
-----------------
agreement between two parties to buy and sell particular financial instruments
or currencies for an agreed price during a designated month (or to deliver the
final cash settlement price, in the case of a contract relating to an index or
otherwise
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not calling for physical delivery at the end of trading in the contract).
When interest rates are rising or securities prices are falling, an
Underlying Fund can seek through the sale of futures contracts to offset a
decline in the value of its current portfolio securities. When rates are
falling or prices are rising, a Fund, through the purchase of futures contracts,
can attempt to secure better rates or prices than might later be available in
the market when it effects anticipated purchases. Similarly, a Fund may sell
futures contracts on a specified currency to protect against a decline in the
value of such currency and its portfolio securities which are quoted or
denominated in such currency, or purchase futures contracts on foreign currency
to establish the price in U.S. dollars of a security quoted or denominated in
such currency that such Fund has acquired or expects to acquire.
Positions taken in the futures market are not normally held to maturity,
but are instead liquidated through offsetting transactions which may result in a
profit or a loss. While an Underlying Fund will usually liquidate futures
contracts on securities or currency in this manner, a Fund may instead make or
take delivery of the underlying securities or currency whenever it appears
economically advantageous for the Fund to do so. A clearing corporation
associated with the exchange on which futures are traded guarantees that, if
still open, the sale or purchase will be performed on the settlement date.
Hedging Strategies. Hedging, by use of futures contracts, seeks to
------------------
establish with more certainty than would otherwise be possible the effective
price, rate of return or currency exchange rate on portfolio securities or
securities that a Fund owns or proposes to acquire. An Underlying Fund may, for
example, take a "short" position in the futures market by selling futures
contracts to seek to hedge against an anticipated rise in interest rates or a
decline in market prices or foreign currency rates that would adversely affect
the dollar value of such Fund's portfolio securities. Similarly, a Fund may sell
futures contracts on a currency in which its portfolio securities are quoted or
denominated or in one currency to seek to hedge against fluctuations in the
value of securities quoted or denominated in a different currency if there is an
established historical pattern of correlation between the two currencies. If, in
the opinion of a Fund's investment adviser, there is a sufficient degree of
correlation between price trends for a Fund's portfolio securities and futures
contracts based on other financial instruments, securities indices or other
indices, a Fund may also enter into such futures contracts as part of its
hedging strategy. Although under some circumstances prices of securities in a
Fund's portfolio may be more or less volatile than prices of such futures
contracts, its investment adviser will attempt to estimate the extent of this
volatility difference based on historical patterns
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and compensate for any such differential by having a Fund enter into a greater
or lesser number of futures contracts or by attempting to achieve only a partial
hedge against price changes affecting a Fund's securities portfolio. When
hedging of this character is successful, any depreciation in the value of
portfolio securities will be substantially offset by appreciation in the value
of the futures position. On the other hand, any unanticipated appreciation in
the value of a Fund's portfolio securities would be substantially offset by a
decline in the value of the futures position.
On other occasions, an Underlying Fund may take a "long" position by
purchasing such futures contracts. This would be done, for example, when a Fund
anticipates the subsequent purchase of particular securities when it has the
necessary cash, but expects the prices or currency exchange rates then available
in the applicable market to be less favorable than prices or rates that are
currently available.
Options on Futures Contracts. The acquisition of put and call options on
----------------------------
futures contracts will give an Underlying Fund the right (but not the
obligation), for a specified price, to sell or to purchase, respectively, the
underlying futures contract at any time during the option period. As the
purchaser of an option on a futures contract, a Fund obtains the benefit of the
futures position if prices move in a favorable direction but limits its risk of
loss in the event of an unfavorable price movement to the loss of the premium
and transaction costs.
The writing of a call option on a futures contract generates a premium
which may partially offset a decline in the value of an Underlying Fund's
assets. By writing a call option, a Fund becomes obligated, in exchange for the
premium, (upon exercise of the option) to sell a futures contract if the option
is exercised, which may have a value higher than the exercise price.
Conversely, the writing of a put option on a futures contract generates a
premium, which may partially offset an increase in the price of securities that
a Fund intends to purchase. However, a Fund becomes obligated (upon exercise of
the option) to purchase a futures contract if the option is exercised, which may
have a value lower than the exercise price. Thus, the loss incurred by a Fund in
writing options on futures is potentially unlimited and may exceed the amount of
the premium received. A Fund will incur transaction costs in connection with the
writing of options on futures.
The holder or writer of an option on a futures contract may terminate its
position by selling or purchasing an offsetting option on the same financial
instrument. There is no guarantee that such closing transactions can be
effected. An Underlying Fund's ability to establish and close out positions on
such options
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will be subject to the development and maintenance of a liquid market.
Other Considerations. An Underlying Fund will engage in futures
--------------------
transactions and will engage in related options transactions only for bona fide
hedging as defined in the regulations of the CFTC or to seek to increase total
return to the extent permitted by such regulations. A Fund will determine that
the price fluctuations in the futures contracts and options on futures used for
hedging purposes are substantially related to price fluctuations in securities
held by the Fund or which it expects to purchase. Except as stated below, a
Fund's futures transactions will be entered into for traditional hedging
purposes -- i.e., futures contracts will be sold to protect against a decline in
the price of securities (or the currency in which they are quoted or
denominated) that the Fund owns, or futures contracts will be purchased to
protect the Fund against an increase in the price of securities (or the currency
in which they are quoted or denominated) it intends to purchase.
In addition to bona fide hedging, a CFTC regulation permits an Underlying
Fund to engage in other futures transactions if the aggregate initial margin and
premiums required to establish such positions in futures contracts and options
on futures do not exceed 5% of the net asset value of such Fund's portfolio,
after taking into account unrealized profits and losses on any such positions
and excluding the amount by which such options were in-the-money at the time of
purchase. To the extent such transactions are consistent with the requirements
of the Code for maintaining its qualification as a regulated investment company
for federal income tax purposes, a Fund may engage in transactions in currency
forward contracts futures contracts and related options transactions.
Transactions in futures contracts and options on futures involve brokerage
costs, require margin deposits and, in the case of contracts and options
obligating an Underlying Fund to purchase securities or currencies, require the
Fund to segregate with its custodian cash or liquid assets in an amount equal to
the underlying value of such contracts and options.
While transactions in futures contracts and options on futures may reduce
certain risks, such transactions themselves entail
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certain other risks. Thus, unanticipated changes in interest rates, securities
prices or currency exchange rates may result in a poorer overall performance for
an Underlying Fund than if it had not entered into any futures contracts or
options transactions. In the event of an imperfect correlation between a futures
position and a portfolio position which is intended to be protected, the desired
protection may not be obtained and a Fund may be exposed to risk of loss.
Perfect correlation between an Underlying Fund's futures positions and
portfolio positions will be difficult to achieve because no futures contracts
based on individual equity or corporate fixed-income securities are currently
available. The only futures contracts available to hedge a Fund's portfolio are
various futures on U.S. Government securities, securities indices and foreign
currencies. In addition, it is not possible for a Fund to hedge fully or
perfectly against currency fluctuations affecting the value of securities quoted
or denominated in foreign currencies because the value of such securities is
likely to fluctuate as a result of independent factors not related to currency
fluctuations.
OPTIONS ON SECURITIES AND SECURITIES INDICES
Writing Covered Options. Certain of the Underlying Funds may write (sell)
-----------------------
covered call and put options on any securities in which they may invest. A Fund
may purchase and write such options on securities that are listed on national
domestic securities exchanges or foreign securities exchanges or traded in the
over-the-counter market. A call option written by a Fund obligates such Fund to
sell specified securities to the holder of the option at a specified price if
the option is exercised at any time before the expiration date. All call options
written by a Fund are covered, which means that such Fund will own the
securities subject to the option as long as the option is outstanding or such
Fund will use the other methods described below. A Fund's purpose in writing
covered call options is to realize greater income than would be realized on
portfolio securities transactions alone. However, a Fund may forego the
opportunity to profit from an increase in the market price of the underlying
security.
A put option written by an Underlying Fund would obligate such Fund to
purchase specified securities from the option holder at a specified price if the
option is exercised at any time before the expiration date. All put options
written by a Fund would be covered, which means that such Fund would have
deposited with its custodian cash or liquid assets with a value at least equal
to the exercise price of the put option. The purpose of writing such options is
to generate additional income for the Fund. However, in return for the option
premium, each Fund accepts the risk that it
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may be required to purchase the underlying securities at a price in excess of
the securities' market value at the time of purchase.
Call and put options written by an Underlying Fund will also be considered
to be covered to the extent that the Fund's liabilities under such options are
wholly or partially offset by its rights under call and put options purchased by
the Fund or by an offsetting forward commitment.
In addition, a written call option or put option may be covered by
maintaining cash or liquid assets (either of which may be quoted or denominated
in any currency) in a segregated account, by entering into an offsetting forward
contract and/or by purchasing an offsetting option which, by virtue of its
exercise price or otherwise, reduces a Fund's net exposure on its written option
position.
The Underlying Funds may also write (sell) covered call and put options on
any securities index composed of securities in which it may invest. Options on
securities indices are similar to options on securities, except that the
exercise of securities index options requires cash payments and does not involve
the actual purchase or sale of securities. In addition, securities index
options are designed to reflect price fluctuations in a group of securities or
segment of the securities market rather than price fluctuations in a single
security.
An Underlying Fund may cover call options on a securities index by owning
securities whose price changes are expected to be similar to those of the
underlying index, or by having an absolute and immediate right to acquire such
securities without additional cash consideration (or for additional cash
consideration held in a segregated account by its custodian) upon conversion or
exchange of other securities in its portfolio. A Fund may cover call and put
options on a securities index by maintaining cash or liquid assets with a value
equal to the exercise price in a segregated account with its custodian.
An Underlying Fund may terminate its obligations under an exchange-traded
call or put option by purchasing an option identical to the one it has written.
Obligations under over-the-counter options may be terminated only by entering
into an offsetting transaction with the counterparty to such option. Such
purchases are referred to as "closing purchase transactions."
Purchasing Options. Each Underlying Fund (other than CORE U.S. Equity,
------------------
CORE Large Cap Growth and Financial Square Prime Obligations Funds) may purchase
put and call options on any securities in which it may invest or options on any
securities index composed of securities in which it may invest. A Fund would
also be able to enter into closing sale transactions in order to realize gains
or minimize losses on options it had purchased.
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An Underlying Fund would normally purchase call options in anticipation of
an increase in the market value of securities of the type in which it may
invest. The purchase of a call option would entitle a Fund, in return for the
premium paid, to purchase specified securities at a specified price during the
option period. A Fund would ordinarily realize a gain if, during the option
period, the value of such securities exceeded the sum of the exercise price, the
premium paid and transaction costs; otherwise such a Fund would realize either
no gain or a loss on the purchase of the call option.
An Underlying Fund would normally purchase put options in anticipation of a
decline in the market value of securities in its portfolio ("protective puts")
or in securities in which it may invest. The purchase of a put option would
entitle a Fund, in exchange for the premium paid, to sell specified securities
at a specified price during the option period. The purchase of protective puts
is designed to offset or hedge against a decline in the market value of a Fund's
securities. Put options may also be purchased by a Fund for the purpose of
affirmatively benefiting from a decline in the price of securities which it does
not own. A Fund would ordinarily realize a gain if, during the option period,
the value of the underlying securities decreased below the exercise price
sufficiently to more than cover the premium and transaction costs; otherwise
such a Fund would realize either no gain or a loss on the purchase of the put
option. Gains and losses on the purchase of protective put options would tend
to be offset by countervailing changes in the value of the underlying portfolio
securities.
An Underlying Fund would purchase put and call options on securities
indices for the same purposes as it would purchase options on individual
securities. For a description of options on securities indices, see "Writing
Covered Options" above.
Yield Curve Options. Each Fixed Income Fund may enter into options on the
-------------------
yield "spread" or differential between two securities. Such transactions are
referred to as "yield curve" options. In contrast to other types of options, a
yield curve option is based on the difference between the yields of designated
securities, rather than the prices of the individual securities, and is settled
through cash payments. Accordingly, a yield curve option is profitable to the
holder if this differential widens (in the case of a call) or narrows (in the
case of a put), regardless of whether the yields of the underlying securities
increase or decrease.
An Underlying Fund may purchase or write yield curve options for the same
purposes as other options on securities. For example, a Fund may purchase a
call option on the yield spread between two securities if the Fund owns one of
the securities and anticipates purchasing the other security and wants to hedge
against an adverse
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change in the yield spread between the two securities. A Fund may also purchase
or write yield curve options in an effort to increase current income if, in the
judgment of its investment adviser, the Fund will be able to profit from
movements in the spread between the yields of the underlying securities. The
trading of yield curve options is subject to all of the risks associated with
the trading of other types of options. In addition, however, such options
present risk of loss even if the yield of one of the underlying securities
remains constant, or if the spread moves in a direction or to an extent which
was not anticipated.
Yield curve options written by an Underlying Fund will be "covered." A
call (or put) option is covered if a Fund holds another call (or put) option on
the spread between the same two securities and maintains in a segregated account
with its custodian cash or liquid assets sufficient to cover the Fund's net
liability under the two options. Therefore, a Fund's liability for such a
covered option is generally limited to the difference between the amount of the
Fund's liability under the option written by the Fund less the value of the
option held by the Fund. Yield curve options may also be covered in such other
manner as may be in accordance with the requirements of the counterparty with
which the option is traded and applicable laws and regulations. Yield curve
options are traded over-the-counter, and because they have been only recently
introduced, established trading markets for these options have not yet
developed.
Risks Associated with Options Transactions. There is no assurance that a
------------------------------------------
liquid secondary market on a domestic or foreign options exchange will exist for
any particular exchange-traded option or at any particular time. If an
Underlying Fund is unable to effect a closing purchase transaction with respect
to covered options it has written, the Fund will not be able to sell the
underlying securities or dispose of assets held in a segregated account until
the options expire or are exercised. Similarly, if a Fund is unable to effect a
closing sale transaction with respect to options it has purchased, it will have
to exercise the options in order to realize any profit and will incur
transaction costs upon the purchase or sale of underlying securities.
Reasons for the absence of a liquid secondary market on an exchange include
the following: (i) there may be insufficient trading interest in certain
options; (ii) restrictions may be imposed by an exchange on opening or closing
transactions or both; (iii) trading halts, suspensions or other restrictions may
be imposed with respect to particular classes or series of options; (iv) unusual
or unforeseen circumstances may interrupt normal operations on an exchange; (v)
the facilities of an exchange or the Options Clearing Corporation may not at all
times be adequate to handle current trading volume; or (vi) one or more
exchanges could, for economic or other reasons, decide or be compelled at some
future date to discontinue the trading of options (or a particular
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class or series of options), in which event the secondary market on that
exchange (or in that class or series of options) would cease to exist, although
outstanding options on that exchange that had been issued by the Options
Clearing Corporation as a result of trades on that exchange would continue to be
exercisable in accordance with their terms.
An Underlying Fund may purchase and sell both options that are traded on
U.S. and foreign exchanges and options traded over-the-counter with broker-
dealers who make markets in these options. The ability to terminate over-the-
counter options is more limited than with exchange-traded options and may
involve the risk that broker-dealers participating in such transactions will not
fulfill their obligations.
Transactions by an Underlying Fund in options on securities and indices
will be subject to limitations established by each of the exchanges, boards of
trade or other trading facilities on which such options are traded governing the
maximum number of options in each class which may be written or purchased by a
single investor or group of investors acting in concert regardless of whether
the options are written or purchased on the same or different exchanges, boards
of trade or other trading facilities or are held or written in one or more
accounts or through one or more brokers. Thus, the number of options which a
Fund may write or purchase may be affected by options written or purchased by
other investment advisory clients of the Funds' investment advisers. An
exchange, board of trade or other trading facility may order the liquidation of
positions found to be in excess of these limits, and it may impose certain other
sanctions.
The writing and purchase of options is a highly specialized activity which
involves investment techniques and risks different from those associated with
ordinary portfolio securities transactions. The successful use of protective
puts for hedging purposes depends in part on the ability of a Fund's investment
adviser to predict future price fluctuations and the degree of correlation
between the options and securities markets.
WARRANTS AND STOCK PURCHASE RIGHTS
Certain of the Underlying Funds may invest a portion of their assets in
warrants or rights (including those acquired in units or attached to other
securities) which entitle the holder to buy
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equity securities at a specific price for a specific period of time. A Fund will
invest in warrants and rights only if such securities are deemed appropriate by
its investment adviser for investment by the Fund. Warrants and rights have no
voting rights, receive no dividends and have no rights with respect to the
assets of the issuer.
FOREIGN INVESTMENTS
Investments in foreign securities may offer potential benefits not
available from investments solely in U.S. dollar-denominated or quoted
securities of domestic issuers. Such benefits may include the opportunity to
invest in foreign issuers that appear, in the opinion of an Underlying Fund's
investment adviser, to offer better opportunity for long-term growth of capital
and income than investments in U.S. securities, the opportunity to invest in
foreign countries with economic policies or business cycles different from those
of the United States and the opportunity to reduce fluctuations in portfolio
value by taking advantage of foreign securities markets that do not necessarily
move in a manner parallel to U.S. markets.
Investing in foreign securities involves certain special considerations,
including those set forth below, which are not typically associated with
investing in U.S. dollar-denominated or quoted securities of U.S. issuers.
Investments in foreign securities usually involve currencies of foreign
countries. Accordingly, any Underlying Fund that invests in foreign securities
may be affected favorably or unfavorably by changes in currency rates and in
exchange control regulations and may incur costs in connection with conversions
between various currencies. An Underlying Fund may be subject to currency
exposure independent of its securities positions.
Currency exchange rates may fluctuate significantly over short periods of
time. They generally are determined by the forces of supply and demand in the
foreign exchange markets and the relative merits of investments in different
countries, actual or anticipated changes in interest rates and other complex
factors, as seen from an international perspective. Currency exchange rates also
can be affected unpredictably by intervention by U.S. or foreign governments or
central banks or the failure to intervene or by currency controls or political
developments in the United States or abroad. To the extent that a substantial
portion of a Fund's total assets, adjusted to reflect the Fund's net position
after giving effect to currency transactions, is denominated or quoted in the
currencies of foreign countries, the Fund will be more susceptible to the risk
of adverse economic and political developments within those countries. A Fund's
net currency positions may expose it to risks independent of its securities
positions. In addition, if the currency in which a Fund receives dividends,
interest or other payment declines in value against the U.S. dollar before such
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income is distributed as dividends to shareholders or converted to U.S. dollars,
the Fund may have to sell portfolio securities to obtain sufficient cash to pay
such dividends.
Since foreign issuers generally are not subject to uniform accounting,
auditing and financial reporting standards, practices and requirements
comparable to those applicable to U.S. companies, there may be less publicly
available information about a foreign company than about a U.S. company. Volume
and liquidity in most foreign securities markets are less than in the United
States and securities of many foreign companies are less liquid and more
volatile than securities of comparable U.S. companies. Fixed commissions on
foreign securities exchanges are generally higher than negotiated commissions on
U.S. exchanges, although each Underlying Fund endeavors to achieve the most
favorable net results on its portfolio transactions. There is generally less
government supervision and regulation of foreign securities exchanges, brokers,
dealers and listed and unlisted companies than in the United States. Mail
service between the United States and foreign countries may be slower or less
reliable than within the United States, thus increasing the risk of delayed
settlement of portfolio transactions or loss of certificates for portfolio
securities.
Foreign markets also have different clearance and settlement procedures,
and in certain markets there have been times when settlements have been unable
to keep pace with the volume of securities transactions, making it difficult to
conduct such transactions. Such delays in settlement could result in temporary
periods when some of an Underlying Fund's assets are uninvested and no return is
earned on such assets. The inability of a Fund to make intended security
purchases due to settlement problems could cause the Fund to miss attractive
investment opportunities. Inability to dispose of portfolio securities due to
settlement problems could result either in losses to a Fund due to subsequent
declines in value of the portfolio securities or, if the Fund has entered into a
contract to sell the securities, could result in possible liability to the
purchaser. In addition, with respect to certain foreign countries, there is the
possibility of expropriation or confiscatory taxation, political or social
instability, or diplomatic developments which could affect a Fund's investments
in those countries. Moreover, individual foreign economies may differ favorably
or unfavorably from the U.S. economy in such respects as growth of gross
national product, rate of inflation, capital reinvestment, resource self-
sufficiency and balance of payments position.
Investments in foreign securities may take the form of sponsored and
unsponsored American Depository Receipts ("ADRs"), Global Depository Receipts
("GDRs"), European Depository Receipts ("EDRs") or other similar instruments
representing securities of foreign issuers (together, "Depository Receipts").
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ADRs represent the right to receive securities of foreign issuers deposited
in a domestic bank or a correspondent bank. ADRs are traded on domestic
exchanges or in the U.S. over-the-counter market and, generally, are in
registered form. EDRs and GDRs are receipts evidencing an arrangement with a
non-U.S. bank similar to that for ADRs and are designed for use in the non-U.S.
securities markets. EDRs and GDRs are not necessarily quoted in the same
currency as the underlying security.
To the extent an Underlying Fund acquires Depository Receipts through banks
which do not have a contractual relationship with the foreign issuer of the
security underlying the Depository Receipts to issue and service such Depository
Receipts (unsponsored), there may be an increased possibility that the Fund
would not become aware of and be able to respond to corporate actions such as
stock splits or rights offerings involving the foreign issuer in a timely
manner. In addition, the lack of information may result in inefficiencies in
the valuation of such instruments.
Certain of the Underlying Funds may invest in countries with emerging
economies or securities markets. Political and economic structures in many of
such countries may be undergoing significant evolution and rapid development,
and such countries may lack the social, political and economic stability
characteristic of more developed countries. Certain of such countries may have
in the past failed to recognize private property rights and have at times
nationalized or expropriated the assets of private companies. As a result, the
risks described above, including the risks of nationalization or expropriation
of assets, may be heightened. See "Investing in Emerging Markets" below.
Certain of the Underlying Funds may invest in securities of issuers
domiciled in a country other than the country in whose currency the instrument
is denominated or quoted. The Funds may also invest in securities quoted or
denominated in the European Currency Unit ("ECU"), which is a "basket"
consisting of specified amounts of the currencies of certain of the member
states of the European Community. The specific amounts of currencies comprising
the ECU may be adjusted by the Council of Ministers of the European
Community from time to time to reflect changes in relative values of the
underlying currencies. In addition, the Funds may invest in securities quoted
or denominated in other currency "baskets."
Investing in Emerging Markets. CORE International Equity, International
-----------------------------
Equity, Asia Growth and Emerging Markets Equity Funds are intended for long-term
investors who can accept the risks associated with investing primarily in equity
and equity-related securities of foreign issuers, including Emerging Countries
issuers, as well as the risks associated with investments quoted or denominated
in foreign currencies. Growth and Income, CORE International Equity, Small Cap
Equity, Mid Cap Equity and Capital Growth Funds may invest, to a lesser extent,
in equity and equity-
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related securities of foreign issuers, including Emerging Countries issuers. The
Core Fixed Income, Global Income and High Yield Bond Funds may invest in debt
securities of foreign issuers, including Emerging Markets. In addition, certain
of the potential investment and management techniques of these Funds entail
special risks.
The pace of change in many Emerging Countries, and in particular those in
Asia, over the last 10 years has been rapid. Accelerating economic growth in
the region has combined with capital market development, high government
expenditure, increasing consumer wealth and taxation policies favoring company
expansion. As a result, stock market returns in many Emerging Countries have
been relatively attractive.
Each of the securities markets of the Emerging Countries is less liquid and
subject to greater price volatility and has a smaller market capitalization than
the U.S. securities markets. Issuers and securities markets in such countries
are not subject to as extensive and frequent accounting, financial and other
reporting requirements or as comprehensive government regulations as are issuers
and securities markets in the U.S. In particular, the assets and profits
appearing on the financial statements of Emerging Country issuers may not
reflect their financial position or results of operations in the same manner as
financial statements for U.S. issuers. Substantially less information may be
publicly available about Emerging Country issuers than is available about
issuers in the United States.
Certain of the Emerging Country securities markets are marked by a high
concentration of market capitalization and trading volume in a small number of
issuers representing a limited number of industries, as well as a high
concentration of ownership of such securities by a limited number of investors.
The markets for securities in certain Emerging Countries are in the earliest
stages of their development. Even the markets for relatively widely traded
securities in Emerging Countries may not be able to absorb, without price
disruptions, a significant increase in trading volume or trades of a size
customarily undertaken by institutional investors in the securities markets of
developed countries. Additionally, market making and arbitrage activities are
generally less extensive in such markets, which may contribute to increased
volatility and reduced liquidity of such markets. The less liquid the market,
the more difficult it may be for an Underlying Fund to accurately price its
portfolio securities or to dispose of such securities at the times determined to
be appropriate. The risks associated with reduced liquidity may be particularly
acute to the extent that a Fund needs cash to meet redemption requests, to pay
dividends and other distributions or to pay its expenses.
Transaction costs, including brokerage commissions or dealer mark-ups, in
Emerging Countries may be higher than in the United States and other developed
securities markets. In addition,
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existing laws and regulations are often inconsistently applied. As legal systems
in Emerging Countries develop, foreign investors may be adversely affected by
new or amended laws and regulations. In circumstances where adequate laws exist,
it may not be possible to obtain swift and equitable enforcement of the law.
Foreign investment in the securities markets of several of the Asian
countries is restricted or controlled to varying degrees. These restrictions
may limit an Underlying Fund's investment in certain of the Asian countries and
may increase the expenses of the Fund. Certain Emerging Countries require
governmental approval prior to investments by foreign persons or limit
investment by foreign persons to only a specified percentage of an issuer's
outstanding securities or a specific class of securities which may have less
advantageous terms (including price) than securities of the company available
for purchase by nationals. In addition, the repatriation of both investment
income and capital from several of the Emerging Countries is subject to
restrictions such as the need for certain governmental consents. Even where
there is no outright restriction on repatriation of capital, the mechanics of
repatriation may affect certain aspects of the operation of a Fund. A Fund may
be required to establish special custodial or other arrangements before
investing in certain emerging countries.
Emerging Countries may be subject to a greater degree of economic,
political and social instability than is the case in the United States, Japan
and most Western European countries. Such instability may result from, among
other things, the following: (i) authoritarian governments or military
involvement in political and economic decision making, including changes or
attempted changes in governments through extra-constitutional means; (ii)
popular unrest associated with demands for improved political, economic or
social conditions; (iii) internal insurgencies; (iv) hostile relations with
neighboring countries; and (v) ethnic, religious and racial disaffection or
conflict. Such economic, political and social instability could disrupt the
principal financial markets in which the Underlying Funds may invest and
adversely affect the value of the Funds' assets.
The economies of Emerging Countries may differ unfavorably from the U.S.
economy in such respects as growth of gross domestic product, rate of inflation,
capital reinvestment, resources, self-sufficiency and balance of payments. Many
Emerging Countries have experienced in the past, and continue to experience,
high rates of inflation. In certain countries inflation has at times
accelerated rapidly to hyperinflationary levels, creating a negative interest
rate environment and sharply eroding the value of outstanding financial assets
in those countries. The economies of many Emerging Countries are heavily
dependent upon international trade and are accordingly affected by protective
trade barriers and the economic conditions of their trading partners. In
addition, the
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economies of some Emerging Countries are vulnerable to weakness in world prices
for their commodity exports.
An Underlying Fund's income and, in some cases, capital gains from foreign
stocks and securities will be subject to applicable taxation in certain of the
countries in which it invests, and treaties between the U.S. and such countries
may not be available in some cases to reduce the otherwise applicable tax rates.
Securities markets of emerging markets may also have less efficient
clearance and settlement procedures than U.S. markets, making it difficult to
conduct and complete transactions. Delays in settlement could result in
temporary periods when a portion of an Underlying Fund's assets is uninvested
and settlement could result in temporary periods when a portion of the Fund's
assets is uninvested and no return is earned thereon. Inability to make
intended security purchases could cause a Fund to miss attractive investment
opportunities. Inability to dispose of portfolio securities could result either
in losses to the Fund due to subsequent declines in value of the portfolio
security or, if the Fund has entered into a contract to sell the security, could
result in possible liability of the Fund to the purchaser.
SOVEREIGN DEBT OBLIGATIONS. Investments in sovereign debt obligations
involves special risks not present in corporate debt obligations. The issuer of
the sovereign debt or the governmental authorities that control the repayment of
the debt may be unable or unwilling to repay principal or interest when due, and
an Underlying Fund may have limited recourse in the event of a default. During
periods of economic uncertainty, the market prices of sovereign debt, and a
Fund's net asset value, may be more volatile than prices of debt obligations of
U.S. issuers. In the past, the governments of certain emerging markets have
encountered difficulties in servicing their debt obligations, withheld payments
of principal and interest and declared moratoria on the payment of principal and
interest on their sovereign debts.
A sovereign debtor's willingness or ability to repay principal and pay
interest in a timely manner may be affected by, among other factors, its cash
flow situation, the extent of its foreign currency reserves, the availability of
sufficient foreign exchange, the relative size of the debt service burden, the
sovereign debtor's policy toward principal international lenders and local
political constraints. Sovereign debtors may also be dependent on expected
disbursements from foreign governments, multinational agencies and other
entities to reduce principal and interest arrearages on their debt. The failure
of a sovereign debtor to implement economic reforms, achieve specified levels of
economic performance or repay principal or interest when due may result in the
cancellation of the third parties' commitments to lend funds to the sovereign
debtor, which may further impair such debtor's ability or willingness to timely
service its debts.
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FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS. Certain of the Underlying
Funds may enter into forward foreign currency exchange contracts for hedging
purposes. CORE International Equity, International Equity, Global Income and
High Yield Funds may also enter into forward foreign currency exchange contracts
to seek to increase total return. A forward foreign currency exchange contract
involves an obligation to purchase or sell a specific currency at a future date,
which may be any fixed number of days from the date of the contract agreed upon
by the parties, at a price set at the time of the contract. These contracts are
traded in the interbank market conducted directly between currency traders
(usually large commercial banks) and their customers. A forward contract
generally has no deposit requirement, and no commissions are generally charged
at any stage for trades.
At the maturity of a forward contract an Underlying Fund may either accept
or make delivery of the currency specified in the contract or, at or prior to
maturity, enter into a closing transaction involving the purchase or sale of an
offsetting contract. Closing transactions with respect to forward contracts are
usually effected with the currency trader who is a party to the original forward
contract.
An Underlying Fund may enter into forward foreign currency exchange
contracts in several circumstances. First, when a Fund enters into a contract
for the purchase or sale of a security denominated or quoted in a foreign
currency, or when a Fund anticipates the receipt in a foreign currency of
dividend or interest payments on such a security which it holds, the Fund may
desire to "lock in" the U.S. dollar price of the security or the U.S. dollar
equivalent of such dividend or interest payment, as the case may be. By
entering into a forward contract for the purchase or sale, for a fixed amount of
dollars, of the amount of foreign currency involved in the underlying
transactions, the Fund will attempt to protect itself against an adverse change
in the relationship between the U.S. dollar and the subject foreign currency
during the period between the date on which the security is purchased or sold,
or on which the dividend or interest payment is declared, and the date on which
such payments are made or received.
Additionally, when an Underlying Fund's investment adviser believes that
the currency of a particular foreign country may suffer a substantial decline
against the U.S. dollar, it may enter into a forward contract to sell, for a
fixed amount of U.S. dollars, the amount of foreign currency approximating the
value of some or all of a Fund's portfolio securities quoted or denominated in
such foreign currency. 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 those securities between the
date on
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which the contract is entered into and the date it matures. Using forward
contracts to protect the value of a Fund's portfolio securities against a
decline in the value of a currency does not eliminate fluctuations in the
underlying prices of the securities. It simply establishes a rate of exchange
which a Fund can achieve at some future point in time. The precise projection of
short-term currency market movements is not possible, and short-term hedging
provides a means of fixing the U.S. dollar value of only a portion of a Fund's
foreign assets.
The CORE International Equity, International Equity, Emerging Markets
Equity, Asia Growth, Core Fixed Income, Global Income and High Yield Funds may
engage in cross-hedging by using forward contracts in one currency to hedge
against fluctuations in the value of securities quoted or denominated in a
different currency if a Fund's investment adviser determines that there is a
pattern of correlation between the two currencies. These Funds may also
purchase and sell forward contracts to seek to increase total return when a
Fund's investment adviser anticipates that the foreign currency will appreciate
or depreciate in value, but securities quoted or denominated in that currency do
not present attractive investment opportunities and are not held in the Fund's
portfolio.
A Fund's custodian will place cash or liquid assets into a segregated
account of such Fund in an amount equal to the value of the Fund's total assets
committed to the consummation of forward foreign currency exchange contracts
requiring the Fund to purchase foreign currencies and forward contracts entered
into to seek to increase total return. If the value of the securities placed in
the segregated account declines, additional cash or liquid assets will be placed
in the account on a daily basis so that the value of the account will equal the
amount of a Fund's commitments with respect to such contracts. The segregated
account will be marked-to-market on a daily basis. Although the contracts are
not presently regulated by the CFTC, the CFTC may in the future assert authority
to regulate these contracts. In such event, a Fund's ability to utilize forward
foreign currency exchange contracts may be restricted. The Core Fixed Income,
Global Income and High Yield Funds will not enter into a forward contract with a
term of greater than one year.
While an Underlying Fund will enter into forward contracts to reduce
currency exchange rate risks, transactions in such contracts involve certain
other risks. Thus, while a Fund may benefit from such transactions,
unanticipated changes in currency prices may result in a poorer overall
performance for the Fund than if it had not engaged in any such transactions.
Moreover, there may be imperfect correlation between a Fund's portfolio holdings
of securities quoted or denominated in a particular currency and forward
contracts entered into by such Fund. Such imperfect correlation may cause a
Fund to sustain losses which will prevent
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the Fund from achieving a complete hedge or expose the Fund to risk of foreign
exchange loss.
Markets for trading foreign forward currency contracts offer less
protection against defaults than is available when trading in currency
instruments on an exchange. Since a forward foreign currency exchange contract
is not guaranteed by an exchange or clearinghouse, a default on the contract
would deprive an Underlying Fund of unrealized profits or force the Fund to
cover its commitments for purchase or resale, if any, at the current market
price.
Forward contracts are subject to the risk that the counterparty to such
contract will default on its obligations. Since a forward foreign currency
exchange contract is not guaranteed by an exchange or clearinghouse, a default
on the contract would deprive an Underlying Fund of unrealized profits,
transaction costs or the benefits of a currency hedge or force the Fund to cover
its purchase or sale commitments, if any, at the current market price. A Fund
will not enter into such transactions unless the credit quality of the unsecured
senior debt or the claims-paying ability of the counterparty is considered to be
investment grade by its investment adviser. Because of the limited market for
these instruments with respect to the currencies of many Emerging Countries, it
is not currently anticipated that a significant portion of Emerging Markets
Equity and Asia Growth Fund's currency exposure will be covered by such
instruments.
WRITING AND PURCHASING CURRENCY CALL AND PUT OPTIONS. Certain of the
Underlying Funds may write covered put and call options and purchase put and
call options on foreign currencies for the purpose of protecting against
declines in the U.S. dollar value of portfolio securities and against increases
in the U.S. dollar cost of securities to be acquired. As with other kinds of
option transactions, however, the writing of an option on foreign currency will
constitute only a partial hedge, up to the amount of the premium received. If
and when a Fund seeks to close out an option, the Fund could be required to
purchase or sell foreign currencies at disadvantageous exchange rates, thereby
incurring losses. The purchase of an option on foreign 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 transaction costs. Options on foreign
currencies to be written or purchased by a Fund will be traded on U.S. and
foreign exchanges or over-the-counter.
CORE International Equity, International Equity, Emerging Markets Equity,
Asia Growth, Core Fixed Income, Global Income and High Yield Funds may use
options on currency to cross-hedge, which involves writing or purchasing options
on one currency to hedge against changes in exchange rates for a different
currency with a
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pattern of correlation. In addition, certain Underlying Funds may purchase call
options on currency to seek to increase total return when its investment adviser
anticipates that the currency will appreciate in value, but the securities
quoted or denominated in that currency do not present attractive investment
opportunities and are not included in the Fund's portfolio.
A call option written by an Underlying Fund obligates a Fund to sell
specified currency to the holder of the option at a specified price if the
option is exercised before the expiration date. A put option written by a Fund
would obligate a Fund to purchase specified currency from the option holder at a
specified price if the option is exercised at any time before the expiration
date. The writing of currency options involves a risk that a Fund will, upon
exercise of the option, be required to sell currency subject to a call at a
price that is less than the currency's market value or be required to purchase
currency subject to a put at a price that exceeds the currency's market value.
For a description of how to cover written put and call options, see "Writing
Covered Options" above.
An Underlying Fund may terminate its obligations under a call or put option
by purchasing an option identical to the one it has written. Such purchases are
referred to as "closing purchase transactions." A Fund would also be able to
enter into closing sale transactions in order to realize gains or minimize
losses on options purchased by the Fund.
An Underlying Fund would normally purchase call options on foreign currency
in anticipation of an increase in the U.S. dollar value of currency in which
securities to be acquired by a Fund are quoted or denominated. The purchase of
a call option would entitle the Fund, in return for the premium paid, to
purchase specified currency at a specified price during the option period. A
Fund would ordinarily realize a gain if, during the option period, the value of
such currency exceeded the sum of the exercise price, the premium paid and
transaction costs; otherwise the Fund would realize either no gain or a loss on
the purchase of the call option.
An Underlying Fund would normally purchase put options in anticipation of a
decline in the U.S. dollar value of currency in which securities in its
portfolio are quoted or denominated ("protective puts"). The purchase of a put
option would entitle a Fund, in exchange for the premium paid, to sell specified
currency at a specified price during the option period. The purchase of
protective puts is designed merely to offset or hedge against a decline in the
dollar value of a Fund's portfolio securities due to currency exchange rate
fluctuations. A Fund would ordinarily realize a gain if, during the option
period, the value of the underlying currency decreased below the exercise price
sufficiently to more than cover the premium and transaction costs; otherwise the
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Fund would realize either no gain or a loss on the purchase of the put option.
Gains and losses on the purchase of protective put options would tend to be
offset by countervailing changes in the value of underlying currency or
portfolio securities.
In addition to using options for the hedging purposes described above,
certain Underlying Funds may use options on currency to seek to increase total
return. These Funds may write (sell) covered put and call options on any
currency in order to realize greater income than would be realized on portfolio
securities transactions alone. However, in writing covered call options for
additional income, a Fund may forego the opportunity to profit from an increase
in the market value of the underlying currency. Also, when writing put
options, a Fund accepts, in return for the option premium, the risk that it may
be required to purchase the underlying currency at a price in excess of the
currency's market value at the time of purchase.
An Underlying Fund would normally purchase call options to seek to increase
total return in anticipation of an increase in the market value of a currency.
A Fund would ordinarily realize a gain if, during the option period, the value
of such currency exceeded the sum of the exercise price, the premium paid and
transaction costs. Otherwise the Fund would realize either no gain or a loss on
the purchase of the call option. Put options may be purchased by a Fund for the
purpose of benefiting from a decline in the value of currencies which it does
not own. A Fund would ordinarily realize a gain if, during the option period,
the value of the underlying currency decreased below the exercise price
sufficiently to more than cover the premium and transaction costs. Otherwise
the Fund would realize either no gain or a loss on the purchase of the put
option.
SPECIAL RISKS ASSOCIATED WITH OPTIONS ON CURRENCY. An exchange traded
options position may be closed out only on an options exchange which provides a
secondary market for an option of the same series. There is no assurance that a
liquid secondary market on an exchange will exist for any particular option, or
at any particular time. In such event, it might not be possible to effect
closing transactions in particular options, with the result that a Fund would
have to exercise its options in order to realize any profit and would incur
transaction costs upon the sale of underlying securities pursuant to the
exercise of put options. If an Underlying Fund as a covered call option writer
is unable to effect a closing purchase transaction in a secondary market, it
will not be able to sell the underlying currency (or security quoted or
denominated in that currency) until the option expires or it delivers the
underlying currency upon exercise.
There is no assurance that higher than anticipated trading activity or
other unforeseen events might not, at times, render certain of the facilities of
the Options Clearing Corporation
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inadequate, and thereby result in the institution by an exchange of special
procedures which may interfere with the timely execution of customers' orders.
An Underlying Fund may purchase and write over-the-counter options to the
extent consistent with its limitation on investments in illiquid securities.
Trading in over-the-counter options is subject to the risk that the other party
will be unable or unwilling to close out options purchased or written by a Fund.
The amount of the premiums which a Fund may pay or receive may be adversely
affected as new or existing institutions, including other investment companies,
engage in or increase their option purchasing and writing activities.
MORTGAGE DOLLAR ROLLS
The Underlying Fixed Income Funds may enter into mortgage "dollar rolls" in
which a Fund sells securities for delivery in the current month and
simultaneously contracts with the same counterparty to repurchase similar (same
type, coupon and maturity), but not identical securities on a specified future
date. During the roll period, a Fund loses the right to receive principal and
interest paid on the securities sold. However, a Fund would benefit to the
extent of any difference between the price received for the securities sold and
the lower forward price for the future purchase (often referred to as the
"drop") or fee income plus the interest earned on the cash proceeds of the
securities sold until the settlement date of the forward purchase. Unless such
benefits exceed the income, capital appreciation and gain or loss due to
mortgage prepayments that would have been realized on the securities sold as
part of the mortgage dollar roll, the use of this technique will diminish the
investment performance of a Fund compared with what such performance would have
been without the use of mortgage dollar rolls. All cash proceeds will be
invested in instruments that are permissible investments for the applicable
Fund. A Fund will hold and maintain in a segregated account until the settlement
date cash or liquid assets, as permitted by applicable law, in an amount equal
to its forward purchase price.
For financial reporting and tax purposes, the Underlying Funds treat
mortgage dollar rolls as two separate transactions; one involving the purchase
of a security and a separate transaction involving a sale. The Funds do not
currently intend to enter into mortgage dollar rolls that are accounted for as a
financing.
Mortgage dollar rolls involve certain risks including the following: if
the broker-dealer to whom an Underlying Fund sells the security becomes
insolvent, a Fund's right to purchase or repurchase the mortgage-related
securities subject to the mortgage dollar roll may be restricted and the
instrument which
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a Fund is required to repurchase may be worth less than an instrument which a
Fund originally held. Successful use of mortgage dollar rolls will depend upon
the ability of a Fund's investment adviser to manage a Fund's interest rate and
mortgage prepayments exposure. For these reasons, there is no assurance that
mortgage dollar rolls can be successfully employed.
CONVERTIBLE SECURITIES
Convertible securities include corporate notes or preferred stock but are
ordinarily long-term debt obligation of the issuer convertible at a stated
exchange rate into common stock of the issuer. As with all debt securities, the
market value of convertible securities tends to decline as interest rates
increase and, conversely, to increase as interest rates decline. Convertible
securities generally offer lower interest or dividend yields than non-
convertible securities of similar quality. However, when the market price of
the common stock underlying a convertible security exceeds the conversion price,
the price of the convertible security tends to reflect the value of the
underlying common stock. As the market price of the underlying common stock
declines, the convertible security tends to trade increasingly on a yield basis,
and thus may not depreciate to the same extent as the underlying common stock.
Convertible securities rank senior to common stocks in an issuer's capital
structure and consequently entail less risk than the issuer's common stock.
CURRENCY SWAPS, MORTGAGE SWAPS, INDEX SWAPS AND INTEREST RATE SWAPS, CAPS,
FLOORS AND COLLARS
The CORE International Equity, International Equity, Emerging Markets
Equity, Asia Growth, Core Fixed Income, Global Income and High Yield Funds may
enter into currency swaps for both hedging purposes and to seek to increase
total return. In addition, the Underlying Fixed Income Funds may enter into
mortgage, index and interest rate swaps and other interest rate swap
arrangements such as rate caps, floors and collars, for hedging purposes or to
seek to increase total return. Currency swaps involve the exchange by an
Underlying Fund with another party of their respective rights to make or receive
payments in specified currencies. Interest rate swaps involve the exchange by a
Fund with another party of their respective commitments to pay or receive
interest, such as an exchange of fixed rate payments for floating rate payments.
Mortgage swaps are similar to interest rate swaps in that they represent
commitments to pay and receive interest. The notional principal amount, however,
is tied to a reference pool or pools of mortgages. Index swaps involve the
exchange by a Fund with another party of the respective amounts payable with
respect to a notional principal amount at interest rates equal to two specified
indices. The purchase of an interest rate cap entitles the purchaser, to the
extent that a specified index exceeds a predetermined interest rate, to receive
payment of interest on a notional principal amount from the party selling such
interest rate cap. The purchase of an
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interest rate floor entitles the purchaser, to the extent that a specified index
falls below a predetermined interest rate, to receive payments of interest on a
notional principal amount from the party selling the interest rate floor. An
interest rate collar is the combination of a cap and a floor that preserves a
certain return within a predetermined range of interest rates. Since interest
rate, mortgage and currency swaps and interest rate caps, floors and collars are
individually negotiated, each Fund expects to achieve an acceptable degree of
correlation between its portfolio investments and its swap, cap, floor and
collar positions.
An Underlying Fund will enter into interest rate, mortgage and index swaps
only on a net basis, which means that 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. Interest rate, index and mortgage swaps do not involve the
delivery of securities, other underlying assets or principal. Accordingly, the
risk of loss with respect to interest rate, index and mortgage swaps is limited
to the net amount of interest payments that the Fund is contractually obligated
to make. If the other party to an interest rate, index or mortgage swap
defaults, the Fund's risk of loss consists of the net amount of interest
payments that the Fund is contractually entitled to receive, if any. In
contrast, currency swaps usually involve the delivery of a gross payment stream
in one designated currency in exchange for the gross payment stream in another
designated currency. Therefore, the entire payment stream under a currency swap
is subject to the risk that the other party to the swap will default on its
contractual delivery obligations. To the extent that the net amount payable
under an interest rate, index or mortgage swap and the entire amount of the
payment stream payable by a Fund under a currency swap or an interest rate
floor, cap or collar is held in a segregated account consisting of cash or
liquid assets the Funds and their investment advisers believe that transactions
do not constitute senior securities under the Act and, accordingly, will not
treat them as being subject to a Fund's borrowing restrictions.
An Underlying Equity Fund will not enter into swap transactions unless the
unsecured commercial paper, senior debt or claims paying ability of the other
party thereto is considered to be investment grade by its investment adviser.
The Underlying Fixed Income Funds will not enter into any swap transactions
unless the unsecured commercial paper, senior debt or claims-paying ability of
the other party is rated either AA or A-1 or better by Standard & Poor's or Aa
or P-1 or better by Moody's or their equivalent ratings. If there is a default
by the other party to such a transaction, a Fund will have contractual remedies
pursuant to the agreements 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
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become relatively liquid in comparison with the markets for other similar
instruments which are traded in the interbank market.
The use of interest rate, mortgage, index and currency swaps, as well as
interest rate caps, floors and collars, is a highly specialized activity which
involves investment techniques and risks different from those associated with
ordinary portfolio securities transactions. If an Underlying Fund's investment
adviser is incorrect in its forecasts of market values, interest rates and
currency exchange rates, the investment performance of a Fund would be less
favorable than it would have been if this investment technique were not used.
REAL ESTATE INVESTMENT TRUSTS
The Underlying Equity Funds may invest in shares of REITs. REITs are
pooled investment vehicles which invest primarily in income producing real
estate or real estate related loans or interest. REITs are generally classified
as equity REITs, mortgage REITs or a combination of equity and mortgage REITs.
Equity REITs invest the majority of their assets directly in real property and
derive income primarily from the collection of rents. Equity REITs can also
realize capital gains by selling properties that have appreciated in value.
Mortgage REITs invest the majority of their assets in real estate mortgages and
derive income from the collection of interest payments. Like regulated
investment companies such as the Underlying Funds, REITs are not taxed on income
distributed to shareholders provided they comply with certain requirements under
the Code. A Fund will indirectly bear its proportionate share of any expenses
paid by REITs in which it invests in addition to the expenses paid by a Fund.
Investing in REITs involves certain unique risks. Equity REITs may be
affected by changes in the value of the underlying property owned by such REITs,
while mortgage REITs may be affected by the quality of any credit extended.
REITs are dependent upon management skills, are not diversified (except to the
extent the Code requires), and are subject to the risks of financing projects.
REITs are subject to heavy cash flow dependency, default by borrowers, self-
liquidation, and the possibilities of failing to qualify for the exemption from
tax for distributed income under the Code and failing to maintain their
exemptions from the Investment Company Act of 1940, as amended (the "Act").
REITs (especially mortgage REITs) are also subject to interest rate risks.
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LENDING OF PORTFOLIO SECURITIES
The Underlying Funds may lend portfolio securities. Under present
regulatory policies, such loans may be made to institutions such as brokers or
dealers and would be required to be secured continuously by collateral in cash,
cash equivalents or U.S. Government securities maintained on a current basis at
an amount at least equal to the market value of the securities loaned. A Fund
would be required to have the right to call a loan and obtain the securities
loaned at any time on five days' notice. For the duration of a loan, a Fund
would continue to receive the equivalent of the interest or dividends paid by
the issuer on the securities loaned and would also receive compensation from
investment of the collateral. A Fund would not have the right to vote any
securities having voting rights during the existence of the loan, but a Fund
would call the loan in anticipation of an important vote to be taken among
holders of the securities or the giving or withholding of their consent on a
material matter affecting the investment. As with other extensions of credit
there are risks of delay in recovering, or even loss of rights in, the
collateral should the borrower of the securities fail financially. However, the
loans would be made only to firms deemed by an Underlying Fund's investment
adviser to be of good standing, and when, in the judgment of a Fund's investment
adviser, the consideration which can be earned currently from securities loans
of this type justifies the attendant risk. If an investment adviser determines
to make securities loans, it is intended that the value of the securities loaned
would not exceed one-third of the value of the total assets of a Fund.
WHEN-ISSUED SECURITIES AND FORWARD COMMITMENTS
Each Underlying Fund may purchase securities on a when-issued basis or
purchase or sell securities on a forward commitment basis. These transactions
involve a commitment by a Fund to purchase or sell securities at a future date.
The price of the underlying securities (usually expressed in terms of yield) and
the date when the securities will be delivered and paid for (the settlement
date) are fixed at the time the transaction is negotiated. When-issued purchases
and forward commitment transactions are negotiated directly with the other
party, and such commitments are not traded on exchanges. A Fund will purchase
securities on a when-issued basis or purchase or sell securities on a forward
commitment basis only with the intention of completing the transaction and
actually purchasing or selling the securities. If deemed advisable as a matter
of investment strategy, however, a Fund may dispose of or negotiate a commitment
after entering into it. A Fund may also sell securities it has committed to
purchase before those securities are delivered to the Fund on the settlement
date. The Funds may also realize a capital gain or loss in connection with these
transactions. For purposes of determining a Fund's duration, the maturity of
when-issued or forward commitment securities will
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be calculated from the commitment date. A Fund is required to hold and maintain
in a segregated account with the Fund's custodian until three days prior to the
settlement date, cash and liquid assets in an amount sufficient to meet the
purchase price. Alternatively, a Fund may enter into offsetting contracts for
the forward sale of other securities that it owns. Securities purchased or sold
on a when-issued or forward commitment basis involve a risk of loss if the value
of the security to be purchased declines prior to the settlement date or if the
value of the security to be sold increases prior to the settlement date.
INVESTMENT IN UNSEASONED COMPANIES
The Underlying Funds may invest a portion of their net assets in companies
(including predecessors) which have operated less than three years, except that
this limitation does not apply to debt securities which have been rated
investment grade or better by at least one nationally recognized statistical
rating organization. The securities of such companies may have limited
liquidity, which can result in their being priced higher or lower than might
otherwise be the case. In addition, investments in unseasoned companies are
more speculative and entail greater risk than do investments in companies with
an established operating record.
OTHER INVESTMENT COMPANIES
Each Underlying Equity Fund reserves the right to invest up to 5% and each
Underlying Fixed Income Fund reserves the right to invest up to 10% of its net
assets in the securities of other investment companies but may not invest more
than 5% of its total assets in the security of one investment company or acquire
more than 3% of the voting securities of any other investment company. Pursuant
to an exemptive order obtained from the SEC, the Underlying Funds may invest in
money market funds for which the Adviser or any of its affiliates serves as
investment adviser. An Underlying Fund will indirectly bear its proportionate
share of any management fees and other expenses paid by investment companies in
which it invests in addition to the advisory and administration fees paid by the
Fund. However, to the extent that the Fund invests in a money market fund for
which the Adviser or any of its affiliates acts as adviser, the advisory and
administration fees payable by the Fund to the Adviser or its affiliates will be
reduced by an amount equal to the Fund's proportionate share of the advisory and
administration fees paid by such money market fund to the Adviser or its
affiliates.
Each Underlying Equity Fund may also invest in SPDRs. SPDRs are interests
in a unit investment trust ("UIT") that may be obtained from the UIT or
purchased in the secondary market (SPDRs are listed on the American Stock
Exchange).
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The UIT will issue SPDRs in aggregations known as "Creation Units" in
exchange for a "Portfolio Deposit" consisting of (a) a portfolio of securities
substantially similar to the component securities ("Index Securities") of the
Standard & Poor's 500 Composite Stock Price Index (the "S&P Index"), (b) a cash
payment equal to a pro rata portion of the dividends accrued on the UIT's
portfolio securities since the last dividend payment by the UIT, net of expenses
and liabilities, and (c) a cash payment or credit ("Balancing Amount") designed
to equalize the net asset value of the S&P Index and the net asset value of a
Portfolio Deposit.
SPDRs are not individually redeemable, except upon termination of the UIT.
To redeem, the Portfolio must accumulate enough SPDRs to reconstitute a Creation
Unit. The liquidity of small holdings of SPDRs, therefore, will depend upon the
existence of a secondary market. Upon redemption of a Creation Unit, the
Portfolio will receive Index Securities and cash identical to the Portfolio
Deposit required of an investor wishing to purchase a Creation Unit that day.
The price of SPDRs is derived from and based upon the securities held by
the UIT. Accordingly, the level of risk involved in the purchase or sale of a
SPDR is similar to the risk involved in the purchase or sale of traditional
common stock, with the exception that the pricing mechanism for SPDRs is based
on a basket of stocks. Disruptions in the markets for the securities underlying
SPDRs purchased or sold by the Funds could result in losses on SPDRs. Trading
in SPDRs involves risks similar to those risks, described under "Risk Associated
with Options Transactions," involved in the writing of options on securities.
Certain Underlying Funds may also purchase shares of investment companies
investing primarily in foreign securities, including "country funds." Country
funds have portfolios consisting primarily of securities of issuers located in
one foreign country or region. Certain Underlying Funds may also invest in World
Equity Benchmark Shares ("WEB") and similar securities that invest in securities
included in foreign securities indices.
REPURCHASE AGREEMENTS
Each Underlying Fund may enter into repurchase agreements with selected
broker-dealers, banks or other financial institutions. A repurchase agreement
is an arrangement under which a Fund purchases securities and the seller agrees
to repurchase the securities within a particular time and at a specified price.
Custody of the securities is maintained by a Fund's custodian. The repurchase
price may be higher than the purchase price, the difference being income to a
Fund, or the purchase and repurchase prices may be the
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same, with interest at a stated rate due to a Fund together with the repurchase
price on repurchase. In either case, the income to a Fund is unrelated to the
interest rate on the security subject to the repurchase agreement.
For purposes of the Act and generally for tax purposes, a repurchase
agreement is deemed to be a loan from an Underlying Fund to the seller of the
security. For other purposes, it is not clear whether a court would consider
the security purchased by a Fund subject to a repurchase agreement as being
owned by a Fund or as being collateral for a loan by a Fund to the seller. In
the event of commencement of bankruptcy or insolvency proceedings with respect
to the seller of the security before repurchase of the security under a
repurchase agreement, a Fund may encounter delay and incur costs before being
able to sell the security. Such a delay may involve loss of interest or a
decline in price of the security. If the court characterizes the transaction as
a loan and a Fund has not perfected a security interest in the security, a Fund
may be required to return the security to the seller's estate and be treated as
an unsecured creditor of the seller. As an unsecured creditor, a Fund would be
at risk of losing some or all of the principal and interest involved in the
transaction.
As with any unsecured debt instrument purchased for an Underlying Fund, the
Fund's investment adviser seeks to minimize the risk of loss from repurchase
agreements by analyzing the creditworthiness of the obligor, in this case the
seller of the security. Apart from the risk of bankruptcy or insolvency
proceedings, there is also the risk that the seller may fail to repurchase the
security. However, if the market value of the security subject to the
repurchase agreement becomes less than the repurchase price (including accrued
interest), a Fund will direct the seller of the security to deliver additional
securities so that the market value of all securities subject to the repurchase
agreement equals or exceeds the repurchase price. Certain repurchase agreements
which provide for settlement in more than seven days can be liquidated before
the nominal fixed term on seven days or less notice. Such repurchase agreements
will be regarded as liquid instruments.
In addition, an Underlying Fund, together with other registered investment
companies having advisory agreements with the adviser or its affiliates, may
transfer uninvested cash balances into a single joint account, the daily
aggregate balance of which will be invested in one or more repurchase
agreements.
RESTRICTED AND ILLIQUID SECURITIES
The Underlying Funds may purchase securities that are not registered or are
offered in an exempt non-public offering ("Restricted Securities") under the
Securities Act of 1933, as amended ("1933 Act"), including securities eligible
for resale to
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"qualified institutional buyers" pursuant to Rule 144A under the 1933 Act.
However, a Fund will not invest more than 15% (10% in the case of Financial
Square Prime Obligations Fund) of its net assets in illiquid investments, which
includes repurchase agreements maturing in more than seven days, certain SMBS,
municipal leases, certain over-the-counter options, securities that are not
readily marketable and Restricted Securities, unless the Board of Trustees
determines that such Restricted Securities are liquid. Certain commercial paper
issued in reliance on Section 4(2) of the 1933 Act is treated like Rule 144A
Securities. The Trustees have adopted guidelines and delegated to the Underlying
Funds' investment advisers the daily function of determining and monitoring the
liquidity of the Funds' portfolio securities. This investment practice could
have the effect of increasing the level of illiquidity in a Fund to the extent
that qualified institutional buyers become for a time uninterested in purchasing
these Restricted Securities.
The purchase price and subsequent valuation of Restricted Securities may
reflect a discount from the price at which such securities trade when they are
not restricted, since the restriction may make them less liquid. The amount of
the discount from the prevailing market price is expected to vary depending upon
the type of security, the character of the issuer, the party who will bear the
expenses of registering the Restricted Securities and prevailing supply and
demand conditions.
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<PAGE>
INVESTMENT RESTRICTIONS
The following investment restrictions have been adopted by the Trust as
fundamental policies that cannot be changed without the affirmative vote of the
holders of a majority (as defined in the Act) of the outstanding voting
securities of the affected Portfolio. The investment objective of each
Portfolio and all other investment policies or practices of each Portfolio are
considered by the Trust not to be fundamental and accordingly may be changed
without shareholder approval. See "Investment Objectives and Policies" in the
Prospectus. For purposes of the Act, "majority" means the lesser of (a) 67% or
more of the shares of the Trust or a Portfolio present at a meeting, if the
holders of more than 50% of the outstanding shares of the Trust or a Portfolio
are present or represented by proxy, or (b) more than 50% of the shares of the
Trust or a Portfolio. For purposes of the following limitations, any limitation
which involves a maximum percentage shall not be considered violated unless an
excess over the percentage occurs immediately after, and is caused by, an
acquisition or encumbrance of securities or assets of, or borrowings by, a
Portfolio. With respect to the Portfolios' fundamental investment restriction
no. 3, asset coverage of at least 300% (as defined in the Act), inclusive of any
amounts borrowed, must be maintained at all times.
A Portfolio may not:
(1) make any investment inconsistent with the Portfolio's
classification as a diversified company under the Act;
(2) invest 25% or more of its total assets in the securities of one
or more issuers conducting their principal business activities in
the same industry (excluding investment companies and the U.S.
Government or any of its agencies or instrumentalities). (For
the purposes of this restriction, state and municipal governments
and their agencies, authorities and instrumentalities are not
deemed to be industries; telephone companies are considered to be
a separate industry from water, gas or electric utilities;
personal credit finance companies and business credit finance
companies are deemed to be separate industries; and wholly-owned
finance companies are considered to be in the industry of their
parents if their activities are primarily related to financing
the activities of their parents. This restriction does not apply
to investments in municipal securities which have been pre-
refunded by the use of obligations of the U.S.
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government or any of its agencies or instrumentalities;
(3) borrow money, except (a) the Portfolio may borrow from banks (as
defined in the Act) or through reverse repurchase agreements in
amounts up to 33-1/3% of its total assets (including the amount
borrowed), (b) the Portfolio may, to the extent permitted by
applicable law, borrow up to an additional 5% of its total assets
for temporary purposes, (c) the Portfolio may obtain such short-
term credits as may be necessary for the clearance of purchases
and sales of portfolio securities, (d) the Portfolio may purchase
securities on margin to the extent permitted by applicable law
and (e) the Portfolio may engage transactions in mortgage dollar
rolls which are accounted for as financings;
(4) make loans, except through (a) the purchase of debt obligations
in accordance with the Portfolio's investment objective and
policies, (b) repurchase agreements with banks, brokers, dealers
and other financial institutions and (c) loans of securities as
permitted by applicable law;
(5) underwrite securities issued by others, except to the extent that
the sale of portfolio securities by the Portfolio may be deemed
to be an underwriting;
(6) purchase, hold or deal in real estate, although a Portfolio may
purchase and sell securities that are secured by real estate or
interests therein, securities of real estate investment trusts
and mortgage-related securities and may hold and sell real estate
acquired by a Portfolio as a result of the ownership of
securities;
(7) invest in commodities or commodity contracts, except that the
Portfolio may invest in currency and financial instruments and
contracts that are commodities or commodity contracts;
(8) issue senior securities to the extent such issuance would violate
applicable law.
Notwithstanding any other fundamental investment restriction or policy,
each Portfolio may invest some or all of its assets in a single open-end
investment company or series thereof with substantially the same investment
objective, restrictions and policies as the Portfolio.
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<PAGE>
In addition to the fundamental policies mentioned above, the Trustees have
adopted the following non-fundamental policies which can be changed or amended
by action of the Trustees without approval of shareholders.
A Portfolio may not:
(a) Invest in companies for the purpose of exercising control or
management (but this does not prevent a Portfolio from purchasing a
controlling interest in one or more of the Underlying Funds consistent
with its investment objective and policies).
(b) Invest more than 15% of the Portfolio's net assets in illiquid
investments, including repurchase agreements maturing in more than
seven days, securities which are not readily marketable and restricted
securities not eligible for resale pursuant to Rule 144A under the
1933 Act.
(c) Purchase additional securities if the Portfolio's borrowings
(excluding covered mortgage dollar rolls) exceed 5% of its net assets.
(d) Make short sales of securities, except short sales against the box.
The Underlying Funds in which the Portfolios may invest have adopted
certain investment restrictions which may be more or less restrictive than those
listed above, thereby allowing a Portfolio to participate in certain investment
strategies indirectly that are prohibited under the fundamental and non-
fundamental investment restrictions and policies listed above. The investment
restrictions of these Underlying Funds are set forth in their respective
Additional Statements.
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<PAGE>
MANAGEMENT
Information pertaining to the Trustees and officers of the Trust is
set forth below. Trustees and officers deemed to be "interested persons" of the
Trust for purposes of the Act are indicated by an asterisk.
NAME, AGE POSITIONS PRINCIPAL OCCUPATION(S)
AND ADDRESS WITH TRUST DURING PAST 5 YEARS
- ----------- ---------- -------------------
Ashok N. Bakhru, 53 Chairman Executive Vice President-Finance and
1325 Ave. of Americas & Trustee Administration and Chief Financial
New York, NY 10019 Officer, Coty Inc. (since April 1996);
President, ABN Associates (June 1994 through
March 1996); Senior Vice President of Scott
Paper Company (until June 1994); Director of
Arkwright Mutual Insurance Compa ny; Trustee
of International House of Philadelphia;
Member of Cornell University Council;
Trustee of the Walnut Street Theater.
*David B. Ford, 51 Trustee Managing Director, Goldman Sachs (since
One New York Plaza 1996); General Partner, Goldman Sachs
New York, NY 10004 (1986-1996); Co-Head of Goldman Sachs Asset
Management (since December 1994).
*Douglas C. Grip, 35 Trustee Vice President, Goldman Sachs (since
One New York Plaza & President May 1996); President, MFS Retirement
New York, NY 10004 Services Inc., of Massachusetts Financial
Services (prior thereto).
*John P. McNulty, 44 Trustee Managing Director, Goldman Sachs (since
One New York Plaza 1996); General Partner of Goldman Sachs
New York, NY 10004 (1990-1994 and 1995-1996); Co-Head of
Goldman Sachs Asset Management (since
November 1995); Limited Partner of Goldman
Sachs (1994 to November 1995).
Mary P. McPherson, 60 Trustee President of Bryn Mawr College (since
Taylor Hall 1978); Director of Josiah Macy, Jr.,
Bryn Mawr, PA 19010 Foundation (since 1977); Director of the
Philadelphia Contributionship (since 1985);
Director of Amherst College (since 1986);
Director of Dayton Hudson Corporation (since
1988); Director of the Spencer Foundation
(since 1993); and member of PNC Advisory
Board (since 1993).
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<PAGE>
NAME, AGE POSITIONS PRINCIPAL OCCUPATION(S)
AND ADDRESS WITH TRUST DURING PAST 5 YEARS
- ----------- ---------- -------------------
*Alan A. Shuch, 48 Trustee Limited Partner, Goldman Sachs (since
One New York Plaza 1994); Director and Vice President of
New York, NY 10004 Goldman Sachs Funds Management Inc. (from
April 1990 to November 1994); President and
Chief Operating Officer, GSAM (from
September 1988 to November 1994).
Jackson W. Smart, 66 Trustee Chairman, Executive Committee, First
One Northfield Plaza Commonwealth, Inc. (a managed dental
#218 care company, since January 1996); Chairman
Northfield, IL 60093 and Chief Executive Officer, MSP
Communications Inc. (a company engaged in
radio broadcasting) (since November 1988),
Director, Federal Ex press Corporation
(since 1976), Evanston Hospital Corporation
(since 1980), First Commonwealth, Inc.
(since 1988) and North American Pri vate
Equity Group (a venture capital fund).
William H. Springer, 67 Trustee Vice Chairman and Chief Financial and
701 Morningside Drive Administrative Officer, (February 1987
Lake Forest, IL 60045 to June 1991) of Ameritech (a tele
communications holding company; Director,
Walgreen Co. (a retail drug store business);
Director of Baker, Fentress & Co. (a closed-
end, non-di versified management investment
company) (April 1992 to present).
Richard P. Strubel, 57 Trustee Managing Director, Tandem Partners,
70 West Madison St. Inc. (since 1990); President and Chief
Ste. 1400 Executive Officer, Microdot, Inc. (a
Chicago, IL 60602 diversified manufacturer of fastening
systems and connectors) (January 1984 to
October 1994).
*Scott M. Gilman, 37 Treasurer Director, Mutual Funds Administration,
One New York Plaza Goldman Sachs Asset Management (since
New York, NY 10004 April 1994); Assistant Treasurer, Goldman
Sachs Funds Management, Inc. (since March
1993); Vice President, Goldman Sachs (since
March 1990).
*John M. Perlowski, 32 Assistant Vice President, Goldman Sachs (since
One New York Plaza Treasurer July 1995); Director, Investors Bank
New York, NY 10004 and Trust (November 1993 to July 1995);
Audit Manager of Arthur Andersen LLP (prior
thereto).
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<PAGE>
NAME, AGE POSITIONS PRINCIPAL OCCUPATION(S)
AND ADDRESS WITH TRUST DURING PAST 5 YEARS
- ----------- ---------- -------------------
*John W. Mosior, 59 Vice Vice President, Goldman Sachs and
4900 Sears Tower President Manager of Shareholder Servicing of
Chicago, IL 60606 GSAM (since November 1989).
*Nancy L. Mucker, 48 Vice Vice President, Goldman Sachs (since
4900 Sears Tower President April 1985); Manager of Shareholder
Chicago, IL 60606 Servicing of GSAM (since November 1989).
*James A. Fitzpatrick, 33 Vice Vice President of Goldman Sachs
4900 Sears Tower President Asset Management (since April 1997);
Chicago, IL 60606 Vice President and General Manager
First Data Corporation - Investor
Services Group (prior thereto.)
*Michael J. Richman, 37 Secretary General Counsel of the Mutual Funds
85 Broad Street Group of Goldman Sachs Asset Management
New York, NY 10004 (since December 1997); Associate
General Counsel of Goldman Asset
Management (February 1994 to December
1997); Vice President and Assistant
General Counsel of Goldman Sachs (since
June 1992); Counsel to the Funds Group,
GSAM (since June 1992); Partner, Hale
and Dorr (September 1991 to June 1992).
*Howard B. Surloff, 32 Assistant Assistant General Counsel, Goldman Sachs
85 Broad Street Secretary Asset Management and Associate General
New York, NY 10004 Counsel to the Funds Group (since
December 1997);Assistant General Counsel
and Vice President, Goldman Sachs (since
November 1993 and May 1994 respectively);
Associate of Shereff Friedman, Hoffman &
Goodman (prior thereto).
*Valerie A. Zondorak, 32 Assistant Assistant General Counsel, Goldman Sachs
85 Broad Street Secretary Asset Management and Associate General
New York, New York 10004 Counsel to the Funds Group (since December
1997); Vice President, Goldman Sachs
(since March 1997); Associate of Shereff
Friedman, Hoffman & Goodman (prior
thereto).
*Steven E. Hartstein, 34 Assistant Legal Products Analyst, Goldman Sachs
85 Broad Street Secretary (June 1993 to present); Funds
New York, NY 10004 Compliance Officer, Citibank Global Asset
Management (August 1991 to June 1993).
*Deborah Farrell, 27 Assistant Administrative Assistant, Goldman Sachs
85 Broad Street Secretary (January 1996 to present); Secretary,
New York, NY 10004 Goldman Sachs (January 1994 to
January 1996); Cleary Gottlieb, Steen and
Hamilton (September 1990 to January 1994).
*Kaysie P. Uniacke, 37 Assistant Managing Director (since November 1997);
One New York Plaza Secretary Vice President and Senior Portfolio
New York, NY 10004 Manager, Goldman Sachs Asset Management
(1988 to present).
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<PAGE>
NAME, AGE POSITIONS PRINCIPAL OCCUPATION(S)
AND ADDRESS WITH TRUST DURING PAST 5 YEARS
- ----------- ---------- -------------------
*Elizabeth D. Anderson, 28 Assistant Portfolio Manager, GSAM
One New York Plaza Secretary (April 1996 to Present); Junior
New York, NY 10004 Portfolio Manager, Goldman Sachs
Asset Management (1995 to April
1996); Funds Trading Assistant,
GSAM (1993 to 1995); Compliance
Analyst, Prudential Insurance
(1991 to 1993).
The Trust pays each Trustee, other than those who are "interested persons"
of Goldman Sachs, a fee for each Trustee meeting attended and an annual fee.
Such Trustees are also reimbursed for travel expenses incurred in connection
with attending such meetings.
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<PAGE>
The following table sets forth certain information with respect to the
compensation of each Trustee of the Trust (or its predecessors) for the one-year
period ended October 31, 1997:
<TABLE>
<CAPTION>
Pension or Total
Retirement Compensation
Benefits from Goldman Sachs
Aggregate Accrued as Mutual Funds
Compensation Part of (including the
Name of Trustee from the Portfolios Portfolios' Expenses Portfolios)**
- --------------------- ------------------- -------------------- ------------------
<S> <C> <C> <C>
Ashok N. Bakhru* $0 $0 $93,750
David B. Ford 0 0 0
Douglas C. Grip 0 0 0
John P. McNulty 0 0 0
Mary P. McPherson* 0 0 70,500
Alan A. Shuch 0 0 0
Jackson W. Smart* 0 0 70,500
William H. Springer* 0 0 70,500
Richard P. Strubel* 0 0 70,500
</TABLE>
______________
* Non-interested persons of the Trust.
** As of the date of this Statement of Additional Information, the Goldman
Sachs Mutual Funds consisted of 94 mutual funds.
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MANAGEMENT SERVICES
As stated in the Portfolios' Prospectus, Goldman Sachs Asset Management
serves as Adviser to the Portfolios and, except as noted, to each Underlying
Fund. Goldman Sachs Funds Management, L.P. serves as investment adviser to the
CORE U.S. Equity, Capital Growth, Adjustable Rate Government and Short Duration
Government Funds. Goldman Sachs Asset Management International serves as
investment adviser to the International Equity, Emerging Markets Equity, Asia
Growth and Global Income Funds. See "Management" in the Portfolios' Prospectus
for a description of the Adviser's duties to the Portfolios.
Founded in 1869, Goldman Sachs is among the oldest and largest investment
banking firms in the United States. Goldman Sachs is a leader in developing
portfolio strategies and in many fields of investing and financing,
participating in financial markets worldwide and serving individuals,
institutions, corporations and governments. Goldman Sachs is also among the
principal market sources for current and thorough information on companies,
industrial sectors, markets, economies and currencies, and trades and makes
markets in a wide range of equity and debt securities 24-hours a day. The firm
is headquartered in New York and has offices throughout the U.S. and in Beijing,
Frankfurt, George Town, Hong Kong, London, Madrid, Mexico City, Milan, Montreal,
Osaka, Paris, Sao Paulo, Seoul, Shanghai, Singapore, Sydney, Taipei, Tokyo,
Toronto, Vancouver and Zurich. It has trading professionals throughout the
United States, as well as in London, Tokyo, Hong Kong and Singapore. The active
participation of Goldman Sachs in the world's financial markets enhances its
ability to identify attractive investments.
The Underlying Funds' investment advisers are able to draw on the
substantial research and market expertise of Goldman Sachs whose investment
research effort is one of the largest in the industry. With an annual equity
research budget approaching $160 million, the Goldman Sachs Global Investment
Research Department covers approximately 1,700 companies, including
approximately 1,000 U.S. corporations in 60 industries. The in-depth
information and analyses generated by Goldman Sachs' research analysts are
available to the investment advisers. These investment advisers manage money
for some of the world's largest institutional investors. For more than a
decade, Goldman Sachs has been among the top-ranked firms in Institutional
Investor's annual "All-America Research Team" survey. In addition, many of
Goldman Sachs' economists, securities analysts, portfolio strategists and credit
analysts have consistently been highly ranked in respected industry surveys
conducted in the U.S. and abroad. Goldman Sachs is also among the leading
investment firms using quantitative analytics (now used by a growing number of
investors) to structure and evaluate portfolios. For example, Goldman Sachs'
option evaluation model analyzes each security's term, coupon and call option,
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providing an overall analysis of the security's value relative to its interest
risk.
In managing the Underlying Funds, the Funds' investment advisers have
access to Goldman Sachs' economics research. The Economics Research Department
conducts economic, financial and currency markets research which analyzes
economic trends and interest and exchange rate movement worldwide. The
Economics Research Department tracks factors such as inflation and money supply
figures, balance of trade figures, economic growth, commodity prices, monetary
and fiscal policies, and political events that can influence interest rates and
currency trends. The success of Goldman Sachs' international research team has
brought wide recognition to its members. The team has earned top rankings in
the Institutional Investor's annual "All British Research Team Survey" in the
following categories: Economics (U.K.) 1986-1993; Economics/International 1989-
1993; and Currency Forecasting 1986-1993. In addition, the team has also earned
top rankings in the annual "Extel Financial Survey" of U.K. investment managers
in the following categories: U.K. Economy 1989-1995; International Government
Bond Market 1993-1995; International Economies 1986, 1988-1995; and Currency
Movements 1986-1993.
In structuring Adjustable Rate Government Fund's and Short Duration
Government Fund's respective securities portfolios, their investment adviser
will review the existing overall economic and mortgage market trends. The
investment adviser will then study yield spreads, the implied volatility and the
shape of the yield curve. The investment adviser will then apply this analysis
to a list of eligible securities that meet the respective Fund's investment
guidelines. With respect to Adjustable Rate Government Fund, this analysis is
used to plan a two-part portfolio, which will consist of a "core" portfolio of
ARMs and a "relative value" portfolio of other mortgage assets that can enhance
portfolio returns and lower risk (such as investments in CMO floating-rate
tranches and interest only SMBS).
With respect to the Adjustable Rate Government Fund, Government Income
Fund, Short Duration Government Fund, High Yield Fund and Core Fixed Income
Fund, the Funds' investment advisers expect to utilize Goldman Sachs'
sophisticated option-adjusted analytics to help make strategic asset allocations
within the markets for U.S. government, Mortgage-Backed and other securities and
to employ this technology periodically to re-evaluate the Funds' investments as
market conditions change. Goldman Sachs has also developed a prepayment model
designed to estimate mortgage prepayments and cash flows under different
interest rate scenarios. Because a Mortgage-Backed Security incorporates the
borrower's right to prepay the mortgage, the investment advisers use a
sophisticated option-adjusted spread (OAS) model to measure expected returns. A
security's OAS is a function of the level and shape of the yield curve,
volatility and the particular investment
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adviser's expectation of how a change in interest rates will affect prepayment
levels. Since the OAS model assumes a relationship between prepayments and
interest rates, the investment advisers consider it a better way to measure a
security's expected return and absolute and relative values than yield to
maturity. In using OAS technology, the investment advisers will first evaluate
the absolute level of a security's OAS considering its liquidity and its
interest rate, volatility and prepayment sensitivity. The investment advisers
will then analyze its value relative to alternative investments and to its own
investments. The investment advisers will also measure a security's interest
rate risk by computing an option adjusted duration (OAD). The investment
advisers believe a security's OAD is a better measurement of its price
sensitivity than cash flow duration, which systematically misstates portfolio
duration. The investment advisers also evaluate returns for different mortgage
market sectors and evaluate the credit risk of individual securities. This
sophisticated technical analysis allows the investment advisers to develop
portfolio and trading strategies using Mortgage-Backed Securities that are
believed to be superior investments on a risk-adjusted basis and which provide
the flexibility to meet the respective Funds' duration targets and cash flow
pattern requirements.
Because the OAS is adjusted for the differing characteristics of the
underlying securities, the OAS of different Mortgage-Backed Securities can be
compared directly as an indication of their relative value in the market. The
investment advisers also expect to use OAS-based pricing methods to calculate
projected security returns under different, discrete interest rate scenarios,
and Goldman Sachs' proprietary prepayment model to generate yield estimates
under these scenarios. The OAS, scenario returns, expected returns, and yields
of securities in the mortgage market can be combined and analyzed in an optimal
risk-return matching framework.
The investment advisers will use OAS analytics to choose what they believe
is an appropriate portfolio of investments for an Underlying Fund from a
universe of eligible investments. In connection with initial portfolio
selections, in addition to using OAS analytics as an aid to meeting each Fund's
particular composition and performance targets, the investment advisers will
also take into account important market criteria like the available supply and
relative liquidity of various mortgage securities in structuring the portfolio.
The Funds' investment advisers also expect to use OAS analytics to evaluate
the mortgage market on an ongoing basis. Changes in the relative value of
various Mortgage-Backed Securities could suggest tactical trading opportunities
for the Underlying Funds. The investment advisers will have access to both
current market analysis as well as historical information on the relative value
relationships among different Mortgage-Backed Securities.
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Current market analysis and historical information is available in the Goldman
Sachs database for most actively traded Mortgage-Backed Securities.
Goldman Sachs has agreed to provide the Underlying Funds' investment
advisers, on a non-exclusive basis, use of its mortgage prepayment model, OAS
model and any other proprietary services which it now has or may develop, to the
extent such services are made available to other similar customers. Use of
these services by the Funds' investment advisers with respect to a Fund does not
preclude Goldman Sachs from providing these services to third parties or using
such services as a basis for trading for its own account or the account of
others.
The fixed-income research capabilities of Goldman Sachs available to the
Underlying Funds' investment advisers include the Goldman Sachs Fixed Income
Research Department and the Credit Department. The Fixed Income Research
Department monitors developments in U.S. and foreign fixed-income markets,
assesses the outlooks for various sectors of the markets and provides relative
value comparisons, as well as analyzes trading opportunities within and across
market sectors. The Fixed Income Research Department is at the forefront in
developing and using computer-based tools for analyzing fixed-income securities
and markets, developing new fixed income products and structuring portfolio
strategies for investment policy and tactical asset allocation decisions. The
Credit Department tracks specific governments, regions and industries and from
time to time may review the credit quality of a Fund's investments.
In allocating assets among foreign countries and currencies for the
Underlying Funds which can invest in foreign securities, the Funds' investment
advisers will have access to the Global Asset Allocation Model. The model is
based on the observation that the prices of all financial assets, including
foreign currencies, will adjust until investors globally are comfortable holding
the pool of outstanding assets. Using the model, the investment advisers will
estimate the total returns from each currency sector which are consistent with
the average investor holding a portfolio equal to the market capitalization of
the financial assets among those currency sectors. These estimated equilibrium
returns are then combined with the expectations of Goldman Sachs' research
professionals to produce an optimal currency and asset allocation for the level
of risk suitable for a Fund given its investment objectives and criteria.
The management agreements for the Portfolios and the Underlying Funds
provide that the Adviser (and its affiliates) may render similar services to
others as long as the services provided by them thereunder are not impaired
thereby.
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The Portfolios' management agreement was approved by the Trustees,
including a majority of the Trustees who are not parties to the management
agreement or "interested persons" (as such term is defined in the Act) of any
party thereto (the "non-interested Trustees"), on October 21, 1997. These
arrangements were approved by the sole shareholder of each Portfolio on
January 9, 1998 by consent action to satisfy conditions imposed by the SEC in
connection with the registration of shares of the Portfolio under the Securities
Act of 1933. The management agreement will remain in effect until June 30, 1999
and from year to year thereafter provided such continuance is specifically
approved at least annually by (a) the vote of a majority of the outstanding
voting securities of such Portfolio or a majority of the Trustees, and (b) the
vote of a majority of the non-interested Trustees, cast in person at a meeting
called for the purpose of voting on such approval. The management agreement
will terminate automatically with respect to a Portfolio if assigned (as defined
in the Act) and is terminable at any time without penalty by the Trustees or by
vote of a majority of the outstanding voting securities of the affected
Portfolio on 60 days' written notice to the Adviser and by the Adviser on 60
days' written notice to the Trust.
Under the management agreement, the Adviser also: (i) supervises all non-
advisory operations of each Portfolio; (ii) provides personnel to perform such
executive, administrative and clerical services as are reasonably necessary to
provide effective administration of each Portfolio; (iii) arranges for at each
Portfolio's expense (a) the preparation of all required tax returns, (b) the
preparation and submission of reports to existing shareholders, (c) the periodic
updating of prospectuses and statements of additional information and (d) the
preparation of reports to be filed with the SEC and other regulatory
authorities; (iv) maintains each Portfolio's records; and (v) provides office
space and all necessary office equipment and services.
Pursuant to the management agreement, the Advisers are entitled to receive
the contractual fees listed below, payable monthly of such Portfolio's average
daily net assets.
Portfolio Asset Allocation Fee
------------------- ---------------------
Income Strategy .35%
Growth and Income Strategy .35%
Growth Strategy .35%
Aggressive Growth Strategy .35%
Activities of Goldman Sachs and Its Affiliates and Other Accounts Managed
-------------------------------------------------------------------------
by Goldman Sachs. The involvement of the Adviser and Goldman Sachs and their
- ----------------
affiliates in the management of, or their interest in, other accounts and other
activities of Goldman Sachs may present conflicts of interest with respect to
the
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Portfolios and the Underlying Funds or impede their investment activities.
Goldman Sachs and its affiliates, including, without limitation, the
Adviser and its advisory affiliates, have proprietary interests in, and may
manage or advise with respect to, accounts or funds (including separate accounts
and other funds and collective investment vehicles) which have investment
objectives similar to those of the Portfolios and the Underlying Funds and/or
which engage in transactions in the same types of securities, currencies and
instruments. Goldman Sachs and its affiliates are major participants in the
global currency, equities, swap and fixed income markets, in each case both on a
proprietary basis and for the accounts of customers. As such, Goldman Sachs and
its affiliates are actively engaged in transactions in the same securities,
currencies and instruments in which the Underlying Funds invest. Such
activities could affect the prices and availability of the securities,
currencies and instruments in which the Underlying Funds will invest, which
could have an adverse impact on each Fund's (and, consequently, each
Portfolio's) performance. Such transactions, particularly in respect of
proprietary accounts or customer accounts other than those included in the
Adviser's and its advisory affiliates' asset management activities, will be
executed independently of the Funds' transactions and thus at prices or rates
that may be more or less favorable. When the Adviser and its advisory
affiliates seek to purchase or sell the same assets for their managed accounts,
including the Underlying Funds, the assets actually purchased or sold may be
allocated among the accounts on a basis determined in its good faith discretion
to be equitable. In some cases, this system may adversely affect the size or
the price of the assets purchased or sold for the Funds.
From time to time, the Underlying Funds' activities may be restricted
because of regulatory restrictions applicable to Goldman Sachs and its
affiliates, and/or their internal policies designed to comply with such
restrictions. As a result, there may be periods, for example, when the Adviser
and/or its affiliates will not initiate or recommend certain types of
transactions in certain securities or instruments with respect to which the
Adviser and/or its affiliates are performing services or when position limits
have been reached.
In connection with their management of the Underlying Funds, the Funds'
investment advisers may have access to certain fundamental analysis and
proprietary technical models developed by Goldman Sachs and other affiliates.
The investment advisers will not be under any obligation, however, to effect
transactions on behalf of the Underlying Funds in accordance with such analysis
and models. In addition, neither Goldman Sachs nor any of its affiliates will
have any obligation to make available any information regarding their
proprietary activities or strategies,
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or the activities or strategies used for other accounts managed by them, for the
benefit of the management of the Underlying Funds and it is not anticipated that
the investment advisers will have access to such information for the purpose of
managing the Funds. The proprietary activities or portfolio strategies of
Goldman Sachs and its affiliates or the activities or strategies used for
accounts managed by them or other customer accounts could conflict with the
transactions and strategies employed by the investment advisers in managing the
Underlying Funds.
The results of each Underlying Fund's investment activities may differ
significantly from the results achieved by their investment advisers and
affiliates for their proprietary accounts or accounts (including investment
companies or collective investment vehicles) managed or advised by them. It is
possible that Goldman Sachs and its affiliates and such other accounts will
achieve investment results which are substantially more or less favorable than
the results achieved by an Underlying Fund. Moreover, it is possible that an
Underlying Fund will sustain losses during periods in which Goldman Sachs and
its affiliates achieve significant profits on their trading for proprietary or
other accounts. The opposite result is also possible.
The investment activities of Goldman Sachs and its affiliates for their
proprietary accounts and accounts under their management may also limit the
investment opportunities for the Underlying Funds in certain emerging markets in
which limitations are imposed upon the aggregate amount of investment, in the
aggregate or individual issuers, by affiliated foreign investors.
An investment policy committee which may include partners of Goldman Sachs
and its affiliates may develop general policies regarding an Underlying Fund's
activities but will not be involved in the day-to-day management of such Fund.
In such instances, those individuals may, as a result, obtain information
regarding the Fund's proposed investment activities which is not generally
available to the public. In addition, by virtue of their affiliation with
Goldman Sachs, any such member of an investment policy committee will have
direct or indirect interests in the activities of Goldman Sachs and its
affiliates in securities and investments similar to those in which the Fund
invests.
In addition, certain principals and certain of the employees of the Funds'
investment advisers are also principals or employees of Goldman Sachs or their
affiliated entities. As a result, the performance by these principals and
employees of their obligations to such other entities may be a consideration of
which investors in the Portfolios should be aware.
The Underlying Funds' investment advisers may enter into transactions and
invest in currencies or instruments on behalf of a Fund in which customers of
Goldman Sachs serve as the
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counterparty, principal or issuer. In such cases, such party's interests in the
transaction will be adverse to the interests of a Fund, and such party may have
no incentive to assure that the Funds obtain the best possible prices or terms
in connection with the transactions. Goldman Sachs and its affiliates may also
create, write or issue derivative instruments for customers of Goldman Sachs or
its affiliates, the underlying securities or instruments of which may be those
in which an Underlying Fund invests or which may be based on the performance of
a Fund. The Funds may, subject to applicable law, purchase investments which
are the subject of an underwriting or other distribution by Goldman Sachs or its
affiliates and may also enter transactions with other clients of Goldman Sachs
or its affiliates where such other clients have interests adverse to those of
the Funds. At times, these activities may cause departments of Goldman Sachs or
its affiliates to give advice to clients that may cause these clients to take
actions adverse to the interests of the client. To the extent affiliated
transactions are permitted, the Funds will deal with Goldman Sachs and its
affiliates on an arms-length basis.
Each Underlying Fund will be required to establish business relationships
with its counterparties based on the Fund's own credit standing. Neither
Goldman Sachs nor its affiliates will have any obligation to allow their credit
to be used in connection with a Fund's establishment of its business
relationships, nor is it expected that a Fund's counterparties will rely on the
credit of Goldman Sachs or any of its affiliates in evaluating the Fund's
creditworthiness.
From time to time, Goldman Sachs or any of its affiliates may, but is not
required to, purchase and hold shares of an Underlying Fund in order to increase
the assets of the Fund. Increasing a Fund's assets may enhance investment
flexibility and diversification and may contribute to economies of scale that
tend to reduce the Fund's expense ratio. Goldman Sachs reserves the right to
redeem at any time some or all of the shares of a Fund acquired for its own
account. A large redemption of shares of a Fund by Goldman Sachs could
significantly reduce the asset size of the Fund, which might have an adverse
effect on the Fund's investment flexibility, portfolio diversification and
expense ratio. Goldman Sachs will consider the effect of redemptions on a Fund
and other shareholders in deciding whether to redeem its shares.
It is possible that an Underlying Fund's holdings will include securities
of entities for which Goldman Sachs performs investment banking services as well
as securities of entities in which Goldman Sachs makes a market. From time to
time, Goldman Sachs' activities may limit the Underlying Funds' flexibility in
purchases and sales of securities. When Goldman Sachs is engaged in an
underwriting or other distribution of securities of an entity, the Funds'
investment advisers may be prohibited from purchasing or
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recommending the purchase of certain securities of that entity for the Funds.
DISTRIBUTOR AND TRANSFER AGENT
Goldman Sachs serves as the exclusive distributor of shares of the
Portfolios pursuant to a "best efforts" arrangement as provided by a
distribution agreement with the Trust dated April 30, 1997, as amended October
21, 1997. Pursuant to the distribution agreement, after the Portfolios'
Prospectus and periodic reports have been prepared, set in type and mailed to
shareholders, Goldman Sachs will pay for the printing and distribution of copies
thereof used in connection with the offering to prospective investors. Goldman
Sachs will also pay for other supplementary sales literature and advertising
costs. Goldman Sachs has entered into sales agreements with certain investment
dealers and financial service firms (the "Authorized Dealers") to solicit
subscriptions for Class A, Class B and Class C Shares of each of the Portfolios
that offer such classes of shares. Goldman Sachs receives a portion of the sales
load imposed on the sale, in the case of Class A Shares, or redemption in the
case of Class B and Class C Shares, of such Portfolio shares .
Goldman Sachs also serves as the Portfolios' transfer and dividend
disbursing agent. Under its transfer agency agreement with the Trust, Goldman
Sachs has undertaken with the Trust with respect to each Portfolio to (i) record
the issuance, transfer and redemption of shares, (ii) provide confirmations of
purchases and redemptions, and quarterly statements, as well as certain other
statements, (iii) provide certain information to the Trust's custodian and the
relevant subcustodian in connection with redemptions, (iv) provide dividend
crediting and certain disbursing agent services, (v) maintain shareholder
accounts, (vi) provide certain state Blue Sky and other information, (vii)
provide shareholders and certain regulatory authorities with tax-related
information, (viii) respond to shareholder inquiries, and (ix) render certain
other miscellaneous services.
As compensation for the services rendered to the Portfolios' by Goldman
Sachs as transfer and dividend disbursing agent and the assumption by Goldman
Sachs of the expenses related thereto, Goldman Sachs is entitled to receive fees
from each Portfolio as stated in the Prospectus.
The foregoing distribution and transfer agency agreements each provide that
Goldman Sachs may render similar services to others so long as the services each
provides thereunder to the Portfolios are not impaired thereby. Each such
agreement also provides that the Trust will indemnify Goldman Sachs against
certain liabilities.
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CUSTODIAN AND SUB-CUSTODIANS
State Street Bank and Trust Company, 1776 Heritage Drive, North Quincy,
Massachusetts 02110, State Street Bank and Trust Company ("State Street"), P.O.
Box 1713, Boston, Massachusetts 02105, is the custodian of the Trust's portfolio
securities and cash. State Street also maintains the Trust's accounting
records. State Street may appoint sub-custodians from time to time to hold
certain securities purchased by the Trust in foreign countries and to hold cash
and currencies for the Trust.
INDEPENDENT PUBLIC ACCOUNTANTS
Arthur Andersen, LLP, independent public accountants, One International
Place, Boston, Massachusetts 02110, have been selected as auditors of the Trust.
In addition to audit services, Arthur Andersen, LLP prepares the Trust's federal
and state tax returns, and provides consultation and assistance on accounting,
internal control and related matters.
PORTFOLIO TRANSACTIONS AND BROKERAGE
The particular investment adviser for an Underlying Fund is responsible for
decisions to buy and sell securities for the Fund, the selection of brokers and
dealers to effect the transactions and the negotiation of brokerage commissions,
if any. Purchases and sales of securities on a securities exchange are effected
through brokers who charge a commission for their services. Orders may be
directed to any broker including, to the extent and in the manner permitted by
applicable law, Goldman Sachs.
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 a 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 portfolio transactions for the Underlying Fixed Income Funds are
generally effected at a net price without a broker's commission (i.e., a dealer
is dealing with a Fund as principal and receives compensation equal to the
spread between the dealer's cost for a given security and the resale price of
such security). In certain foreign countries, debt securities are traded on
exchanges at fixed commission rates.
In placing orders for portfolio securities of an Underlying Fund, the
Fund's investment advisers are generally required to give
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primary consideration to obtaining the most favorable execution and net price
available. This means that an investment adviser will seek to execute each
transaction at a price and commission, if any, which provides the most favorable
total cost or proceeds reasonably attainable in the circumstances. As permitted
by Section 28(e) of the Securities Exchange Act of 1934, the Fund may pay a
broker which provides brokerage and research services an amount of disclosed
commission in excess of the commission which another broker would have charged
for effecting that transaction. Such practice is subject to a good faith
determination by the Trustees that such commission is reasonable in light of the
services provided and to such policies as the Trustees may adopt from time to
time. While the Funds' investment advisers generally seek reasonably
competitive spreads or commissions, a Fund will not necessarily be paying the
lowest spread or commission available. Within the framework of this policy, the
investment advisers will consider research and investment services provided by
brokers or dealers who effect or are parties to portfolio transactions of a
Fund, the investment advisers and their affiliates, or their other clients.
Such research and investment services are those which brokerage houses
customarily provide to institutional investors and include research reports on
particular industries and companies, economic surveys and analyses,
recommendations as to specific securities and other products or services (e.g.,
quotation equipment and computer related costs and expenses), advice concerning
the value of securities, the advisability of investing in, purchasing or selling
securities, the availability of securities or the purchasers or sellers of
securities, furnishing analyses and reports concerning issuers, industries,
securities, economic factors and trends, portfolio strategy and performance of
accounts, effecting securities transactions and performing functions incidental
thereto (such as clearance and settlement) and providing lawful and appropriate
assistance to the investment advisers in the performance of their decision-
making responsibilities. Such services are used by the investment advisers in
connection with all of their investment activities, and some of such services
obtained in connection with the execution of transactions for a Fund may be used
in managing other investment accounts. Conversely, brokers furnishing such
services may be selected for the execution of transactions of such other
accounts, whose aggregate assets are far larger than those of a Fund, and the
services furnished by such brokers may be used by the investment advisers in
providing management services for the Trust.
In circumstances where two or more broker-dealers offer comparable prices
and execution capability, preference may be given to a broker-dealer which has
sold shares of an Underlying Fund as well as shares of other investment
companies or accounts managed by the Funds' investment advisers. This policy
does not imply a commitment to execute all portfolio transactions through all
broker-dealers that sell shares of the Fund.
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On occasions when an Underlying Fund's investment adviser deems the
purchase or sale of a security to be in the best interest of a Fund as well as
its other customers (including any other fund or other investment company or
advisory account for which such investment adviser acts as investment adviser or
subadviser), the investment adviser, to the extent permitted by applicable laws
and regulations, may aggregate the securities to be sold or purchased for the
Fund with those to be sold or purchased for such other customers in order to
obtain the best net price and most favorable execution under the circumstances.
In such event, allocation of the securities so purchased or sold, as well as the
expenses incurred in the transaction, will be made by the particular investment
adviser in the manner it considers to be equitable and consistent with its
fiduciary obligations to such Fund and such other customers. In some instances,
this procedure may adversely affect the price and size of the position
obtainable for a Fund.
Commission rates in the U.S. are established pursuant to negotiations with
the broker based on the quality and quantity of execution services provided by
the broker in the light of generally prevailing rates. The allocation of orders
among brokers and the commission rates paid are reviewed periodically by the
Trustees.
Subject to the above considerations, the Underlying Funds' investment
advisers may use Goldman Sachs as a broker for a Fund. In order for Goldman
Sachs to effect any portfolio transactions for a Fund, the commissions, fees or
other remuneration received by Goldman Sachs must be reasonable and fair
compared to the commissions, fees or other remuneration paid to other brokers in
connection with comparable transactions involving similar instruments being
purchased or sold on an exchange during a comparable period of time. This
standard would allow Goldman Sachs to receive no more than the remuneration
which would be expected to be received by an unaffiliated broker in a
commensurate arm's-length transaction. Furthermore, the Trustees, including a
majority of the Trustees who are not "interested" Trustees, have adopted
procedures which are reasonably designed to provide that any commissions, fees
or other remuneration paid to Goldman Sachs are consistent with the foregoing
standard. Brokerage transactions with Goldman Sachs are also subject to such
fiduciary standards as may be imposed upon Goldman Sachs by applicable law.
NET ASSET VALUE
Under the Act, the Trustees are responsible for determining in good faith
the fair value of securities of each Portfolio. In accordance with procedures
adopted by the Trustees, the net asset value per share of each class of each
Portfolio is calculated by determining the value of the net assets attributed to
each class of that Portfolio and dividing by the number of outstanding shares of
that class. All securities are valued as of the close of regular
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trading on the New York Stock Exchange (normally, but not always, 4:00 p.m. New
York time) on each Business Day (as defined in the Prospectus).
In the event that the New York Stock Exchange or the national securities
exchange on which stock options are traded adopt different trading hours on
either a permanent or temporary basis, the Trustees will reconsider the time at
which net asset value is computed. In addition, each Portfolio may compute its
net asset value as of any time permitted pursuant to any exemption, order or
statement of the SEC or its staff.
In determining the net asset value of a Portfolio, the net asset value of
the Underlying Funds' shares held by the Portfolio will be their net asset value
at the time of computation. Financial Square Prime Obligations Fund values all
of its portfolio securities using the amortized cost valuation method pursuant
to Rule 2a-7 under the Act. Other portfolio securities for which accurate market
quotations are available are valued by a Portfolio or Underlying Fund as
follows: (a) securities listed on any U.S. or foreign stock exchange or on the
National Association of Securities Dealers Automated Quotations System
("NASDAQ") will be valued at the last sale price on the exchange or system in
which they are principally traded, on the valuation date. If there is no sale on
the valuation day, securities traded will be valued at the mean between the
closing and asked prices, or if closing bid and asked prices are not available
at the exchange defined close price on the exchange or system in which such
securities are principally traded. If the relevant exchange or system has not
closed by the above-mentioned time for determining the Fund's NAV, the
securities will be valued at the mean between the bid and the asked price at the
time the NAV is determined, (b) over-the-counter securities not quoted on NASDAQ
will be valued at the last sale price on the valuation day or, if no sale
occurs, at the mean between the last bid and asked price; (c) equity securities
for which no prices are obtained under sections (a) or (b) hereof, including
those for which a pricing service supplies no exchange quotation or a quotation
that is believed by the portfolio manager/trader to be inaccurate, will be
valued as follows: (i) the investment adviser will identify to the custodian
bank, two material makers, where possible, with automated pricing feeds (i.e.,
broker pages from Reuters, Bloomberg, Telerate, Quotron, etc.) and the security
will be valued at the average price by the custodian bank. If only one price is
obtained, that price will be used to value the security; or (ii) the investment
adviser will follow the following daily pricing procedure: the investment
adviser will obtain two-two-way (bid-ask) broker quotas, where possible, as of
the relevant cut off time. Where applicable (as in the case of certain foreign
securities), the selection should include one local broker and one international
broker. The investment adviser will average all obtained quotas (average bid,
average ask, average mean) and value the security at the average mean price. If
only one quota is obtained, that quote will be used to value the security (d)
debt securities (with a remaining maturity of 60 days or more) for which
accurate market quotations are readily available will be valued via electronic
feeds to the custodian bank containing dealer-supplied bid quotations or bid
quotations from a nationally recognized pricing service. Those securities for
which the custodian bank is unable to obtain an external price in accordance
with section (b) above or with respect to which the investment adviser believes
an external price does not reflect accurate market values, will be valued by the
investment adviser in good faith as follows. Such securities are to be valued by
the investment adviser based on valuation models that take into account spread
and daily yield changes on government securities in the appropriate market (i.e.
matrix pricing). As part of this process, the investment adviser will solicit at
least monthly from at least one dealer either: (1) a bid quotation; or (2) an
approximate trading spread against a reference benchmark security (e.g., on-the-
run Treasury) from which a bid quotation can be derived. Based on these monthly
bid quotations and/or spreads, the investment adviser will review the valuation
of each security resulting from matrix pricing and make any adjustments
consistent with: (1) the market prices for similar securities; (2) the price at
which such securities have been offered to or bid from the Fund; and (3) option
adjusted spreads relative values and supply and demand factors; (e) overnight
repurchase agreements will be valued by the particular investment adviser at
cost; (f) term repurchase agreements (i.e., those whose maturity exceeds seven
days) and interest rate swaps, caps, collars and floors will be valued at the
average of the bid quotations obtained daily from at least one dealer (g) debt
securities with a remaining maturity of 60 days or less are valued by the
particular investment adviser at amortized cost, which the Trustees have
determined to approximate fair value; (h) spot and forward foreign currency
exchange contracts will be valued using a pricing service such as Reuters. If no
quotations are available from a pricing service or the prices are believed by
the investment adviser to be inaccurate, the contracts will be valued by then
calculating the mean between the last bid and asked quotations supplied by at
least one dealer in such contracts; (i) exchange-traded options and futures
contracts will be valued by the custodian bank at the last sale price on the
exchange where such contracts and options are principally traded. If accurate
quotations are not readily available, the investment adviser will value such
contracts in good faith utilizing procedures such as those outlined under
section (d) (for debt securities), (c) (for equity securities) and (h) (for
foreign currency exchange contracts) above; (j) over-the-counter
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options will be valued by a broker identified by the portfolio manager/trader;
and (k) all other securities, including those for which a pricing service
supplies no exchange quotation or a quotation that is believed by the portfolio
manager/trader to be inaccurate, will be valued at fair value as stated in the
valuation procedures which were approved by the Board of Trustees.
In addition, portfolio securities of the Global Income Fund for which
accurate market quotations are available are valued as follows: (a) securities
listed on any U.S. or foreign stock exchange or on the National Association of
Securities Dealers Automated Quotations System ("NASDAQ") will be valued at the
last sale price on the exchange or system in which they are principally traded,
on the valuation date. If there is no sale on the valuation day, securities
traded will be valued at the mean between the closing bid and asked prices or if
closing bid and asked prices are not available, at the exchange defined close
price on the exchange or system in which such securities are principally traded.
If the relevant exchange or system has not closed by the time for determining
the Fund's net asset value, the securities will be valued at the mean between
the bid and asked prices at the time the net asset value is determined, and (ii)
on a foreign exchange will be valued at the official bid price. The last sale
price and official bid price for securities traded principally on a foreign
exchange will be determined as of the close of the London Foreign Exchange; (b)
over-the-counter securities not quoted on NASDAQ will be valued at the last sale
price on the valuation day or, if no sale occurs, at the mean between the last
bid and asked prices; (c) options and futures contracts will be valued at the
last sale price in the market where such contract is principally traded; and (d)
forward foreign currency exchange contracts will be valued at the mean between
the last bid and asked quotations supplied by a dealer in such contracts.
The value of all assets and liabilities expressed in foreign currencies
will be converted into U.S. dollar values at current exchange rates of such
currencies against U.S. dollars last quoted by any major bank. If such
quotations are not available, the rate
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of exchange will be determined in good faith by or under procedures established
by the Board of Trustees.
Generally, trading in securities on European and Far Eastern securities
exchanges and on over-the-counter markets is substantially completed at various
times prior to the close of business on each Business Day in New York (i.e., a
day on which the New York Stock Exchange is open for trading). In addition,
European or Far Eastern securities trading generally or in a particular country
or countries may not take place on all Business Days in New York. Furthermore,
trading takes place in various foreign markets on days which are not Business
Days in New York and days on which the Funds' net asset values are not
calculated. Such calculation does not take place contemporaneously with the
determination of the prices of the majority of the portfolio securities used in
such calculation. Events affecting the values of portfolio securities that
occur between the time their prices are determined and the close of regular
trading on the New York Stock Exchange will not be reflected in a Fund's
calculation of net asset values unless the Trustees deem that the particular
event would materially affect net asset value, in which case an adjustment will
be made.
The proceeds received by each Portfolio and each other series of the Trust
from the issue or sale of its shares, and all net investment income, realized
and unrealized gain and proceeds thereof, subject only to the rights of
creditors, will be specifically allocated to such Portfolio and constitute the
underlying assets of that Portfolio or series. The underlying assets of each
Portfolio will be segregated on the books of account, and will be charged with
the liabilities in respect of such Portfolio and with a share of the general
liabilities of the Trust. Expenses of the Trust with respect to the Portfolios
and the other series of the Trust are generally allocated in proportion to the
net asset values of the respective Portfolios or series except where allocations
of direct expenses can otherwise be fairly made.
PERFORMANCE INFORMATION
A Portfolio may from time to time quote or otherwise use total return,
yield and/or distribution rate information in advertisements, shareholder
reports or sales literature. Average annual total return and yield are computed
pursuant to formulas specified by the SEC.
Yield is computed by dividing net investment income earned during a recent
thirty-day period by the product of the average daily number of shares
outstanding and entitled to receive dividends during the period and the maximum
public offering price per share on the last day of the relevant period. The
results are compounded on a bond equivalent (semi-annual) basis and then
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annualized. Net investment income per share is equal to the dividends and
interest earned during the period, reduced by accrued expenses for the period.
The calculation of net investment income for these purposes may differ from the
net investment income determined for accounting purposes.
The distribution rate for a specified period is calculated by annualizing
distributions of net investment income for such period and dividing this amount
by the net asset value per share or maximum public offering price on the last
day of the period.
Average annual total return for a specified period is derived by
calculating the actual dollar amount of the investment return on a $1,000
investment made at the maximum public offering price applicable to the relevant
class (i.e., net asset value in the case of each class other than Class A) at
the beginning of the period, and then calculating the annual compounded rate of
return which would produce that amount, assuming a redemption (and payment of
any contingent deferred sales charge) at the end of the period. This
calculation assumes a complete redemption of the investment. It also assumes
that all dividends and distributions are reinvested at net asset value on the
reinvestment dates during the period.
Year-by-year total return and cumulative total return for a specified
period are each derived by calculating the percentage rate required to make a
$1,000 investment (made at the maximum public offering price with all
distributions reinvested) at the beginning of such period equal to the actual
total value of such investment at the end of such period.
Thirty-day yield, distribution rate and average annual total return are
calculated separately for each class of shares of each Portfolio. Each class of
shares of each Portfolio is subject to different fees and expenses and may have
different returns for the same period. Any performance data for Class A, Class
B or Class C Shares which is based upon a Portfolio's net asset value per share
would be reduced if a sales charge were taken into account.
Occasionally statistics may be used to specify Portfolio volatility or
risk. Measures of volatility or risk are generally used to compare a
Portfolio's net asset value or performance relative to a market index. One
measure of volatility is beta. Beta is the volatility of a fund relative to the
total market. A beta of more than 1.00 indicates volatility greater than the
market, and a beta of less than 1.00 indicates volatility less than the market.
Another measure of volatility or risk is standard deviation. Standard deviation
is used to measure variability of net asset value or total return around an
average, over a specified period of time. The premise is that greater
volatility connotes greater risk undertaken in achieving performance.
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From time to time the Trust may publish an indication of a Portfolio's past
performance as measured by independent sources such as (but not limited to)
Lipper Analytical Services, Inc., Morningstar Mutual Funds, Weisenberger
Investment Companies Service, Donoghue's Money Fund Report, Micropal, Barron's,
Business Week, Consumer's Digest, Consumer's Report, Investors Business Daily,
The New York Times, Kiplinger's Personal Finance Magazine, Changing Times,
Financial World, Forbes, Fortune, Money, Personal Investor, Sylvia Porter's
Personal Finance and The Wall Street Journal. The Trust may also advertise
information which has been provided to the NASD for publication in regional and
local newspapers. In addition, the Trust may from time to time advertise a
Portfolio's performance relative to certain indices and benchmark investments,
including: (a) the Lipper Analytical Services, Inc. Mutual Fund Performance
Analysis, Fixed Income Analysis and Mutual Fund Indices (which measure total
return and average current yield for the mutual fund industry and rank mutual
fund performance); (b) the CDA Mutual Fund Report published by CDA Investment
Technologies, Inc. (which analyzes price, risk and various measures of return
for the mutual fund industry); (c) the Consumer Price Index published by the
U.S. Bureau of Labor Statistics (which measures changes in the price of goods
and services); (d) Stocks, Bonds, Bills and Inflation published by Ibbotson
Associates (which provides historical performance figures for stocks, government
securities and inflation); (e) the Salomon Brothers' World Bond Index (which
measures the total return in U.S. dollar terms of government bonds, Eurobonds
and foreign bonds of ten countries, with all such bonds having a minimum
maturity of five years); (f) the Lehman Brothers Aggregate Bond Index or its
component indices; (g) the Standard & Poor's Bond Indices (which measure yield
and price of corporate, municipal and U.S. Government bonds); (h) the J.P.
Morgan Global Government Bond Index; (i) other taxable investments including
certificates of deposit (CDs), money market deposit accounts (MMDAs), checking
accounts, savings accounts, money market mutual funds, commercial paper and
repurchase agreements; (j) Donoghues' Money Fund Report (which provides industry
averages for 7-day annualized and compounded yields of taxable, tax-free and
U.S. Government money funds); (k) the Hambrecht & Quist Growth Stock Index; (l)
the NASDAQ OTC Composite Prime Return; (m) the Russell Midcap Index; (n) the
Russell 2000 Index - Total Return; (o) Russell 1000 Growth Index-Total Return;
(p) the Value-Line Composite-Price Return; (q) the Wilshire 4500 Index; (r) the
FT-Actuaries Europe and Pacific Index; (s) historical investment data supplied
by the research departments of Goldman Sachs, Lehman Brothers, First Boston
Corporation, Morgan Stanley including (EAFE), and the Morgan Stanley Capital
International Combined Asia ex Japan Free Index, the Morgan Stanley Capital
International Emerging Markets Free Index, Salomon Brothers, Merrill Lynch,
Donaldson Lufkin and Jenrette or other providers of such data; (t) the FT-
Actuaries Europe and Pacific Index; (u) CDA/Wiesenberger Investment Companies
Services or Wiesenberger Investment Companies Service; (v) The Goldman Sachs
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Commodities Index; (w) information produced by Micropal, Inc.; (x) the Shearson
Lehman Government/Corporate (Total) Index; (y) Shearson Lehman Government Index;
(z) Merrill Lynch 1-3 Year Treasury Index; (aa) Merrill Lynch 2-Year Treasury
Curve Index; (bb) the Salomon Brothers Treasury Yield Curve Rate of Return
Index; (cc) the Payden & Rygel 2-Year Treasury Note Index; (dd) 1 through 3 year
U.S. Treasury Notes; (ee) constant maturity U.S. Treasury yield indices; (ff)
the London Interbank Offered Rate; and (gg) historical data concerning the
performance of adjustable and fixed-rate mortgage loans. The composition of the
investments in such indices and the characteristics of such benchmark
investments are not identical to, and in some cases are very different from,
those of the Portfolios and the Underlying Funds. These indices and averages
are generally unmanaged and the items included in the calculations of such
indices and averages may not be identical to the formulas used by a Portfolio to
calculate its performance figures.
Information used in advertisements and materials furnished to present and
prospective investors may include statements or illustrations relating to the
appropriateness of certain types of securities and/or mutual funds to meet
specific financial goals. Such information may address:
. cost associated with aging parents;
. funding a college education (including its actual and estimated cost);
. health care expenses (including actual and projected expenses);
. long-term disabilities (including the availability of, and coverage
provided by, disability insurance);
. retirement (including the availability of social security benefits, the
tax treatment of such benefits and statistics and other information
relating to maintaining a particular standard of living and outliving
existing assets);
. asset allocation strategies and the benefits of diversifying among asset
classes;
. the benefits of international and emerging market investments;
. the effects of inflation on investing and saving;
. the benefits of establishing and maintaining a regular pattern of
investing and the benefits of dollar-cost averaging; and
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. measures of portfolio risk, including but not limited to, alpha, beta
and standard deviation.
The Trust may from time to time use comparisons, graphs or charts in
advertisements to depict the following types of information:
. the performance of various types of securities (for example, common
stocks, small company stocks, taxable money market funds, U.S. Treasury
securities, adjustable rate mortgage securities, government securities
and municipal bonds) over time. However, the characteristics of these
securities are not identical to, and may be very different from, those of
a Portfolio;
. the dollar and non-dollar based returns of various market indices (i.e.,
Morgan Stanley Capital International EAFE Index, FT-Actuaries Europe &
Pacific Index and the Standard & Poor's Index of 500 Common Stocks) over
varying periods of time;
. total stock market capitalizations of specific countries and regions on a
global basis;
. performance of securities markets of specific countries and regions;
. value of a dollar amount invested in a particular market or type of
security over different periods of time;
. volatility of total return of various market indices (i.e. Lehman
Government Bond Index, S&P 500, IBC/Donoghue's Money Fund Average/ All
Taxable Index) over varying periods of time;
. credit ratings of domestic government bonds in various countries;
. price volatility comparisons of types of securities over different
periods of time; and
. price and yield comparisons of a particular security over different
periods of time.
In addition, the Trust may from time to time include rankings of Goldman,
Sachs & Co.'s research department by publications such as the Institutional
Investor and the Wall Street Journal in advertisements.
From time to time, advertisements or information may include a discussion
of certain attributes or benefits to be derived by an investment in a Portfolio.
Such advertisements or information may include symbols, headlines or other
material which highlight or
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summarize the information discussed in more detail in the communication.
The Trust may from time to time summarize the substance of discussions
contained in shareholder reports in advertisements and publish the adviser's
views as to markets, the rationale for a Portfolio's investments and discussions
of a Portfolio's current asset allocation.
In addition, from time to time, advertisements or information may include a
discussion of asset allocation models developed by the Adviser and/or its
affiliates, certain attributes or benefits to be derived from asset allocation
strategies and the Goldman Sachs mutual funds that may be offered as investment
options for the strategic asset allocations. Such advertisements and
information may also include the Adviser's current economic outlook and domestic
and international market views to suggest periodic tactical modifications to
current asset allocation strategies. Such advertisements and information may
include other materials which highlight or summarize the services provided in
support of an asset allocation program.
A Portfolio's performance data will be based on historical results and will
not be intended to indicate future performance. A Portfolio's total return,
yield and distribution rate will vary based on market conditions, portfolio
expenses, portfolio investments and other factors. The value of a Portfolio's
shares will fluctuate and an investor's shares may be worth more or less than
their original cost upon redemption.
The Trust may, at its discretion, from time to time make a list of a
Portfolio's holdings available to investors upon request.
SHARES OF THE TRUST
Each Portfolio is a series of Goldman Sachs Trust, which was formed under
the laws of the state of Delaware on January 28, 1997. The Trustees have
authority to classify and reclassify the shares of the Portfolios into one or
more classes of shares. As of the date of this Additional Statement, the
Trustees have authorized the issuance of five classes of shares in each
Portfolio: Institutional Shares, Service Shares, Class A Shares, Class B Shares
and Class C Shares.
Each Institutional Share, Service Share, Class A Share, Class B Share and
Class C Share of a Portfolio represents a proportionate interest in the assets
belonging to the applicable class of the Portfolio. All expenses of a Portfolio
are borne at the same rate by each class of shares, except that fees under
Service Plan are borne exclusively by Service Shares, fees under Distribution
and Authorized Dealer Service Plans are borne exclusively by Class A
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Shares, Class B Shares or Class C Shares, and transfer agency fees are borne at
different rates by Class A Shares, Class B Shares or Class C Shares than
Institutional and Service Shares. The Trustees may determine in the future that
it is appropriate to allocate other expenses differently among classes of shares
and may do so to the extent consistent with the rules of the SEC and positions
of the Internal Revenue Service. Each class of shares may have different
minimum investment requirements and be entitled to different shareholder
services. Currently, shares of a class may only be exchanged for shares of the
same or an equivalent class of another series. See "Exchange Privilege" in the
Prospectus.
Institutional Shares may be purchased at net asset value without a sales
charge for accounts in the name of an investor or institution that is not
compensated by a Portfolio for services provided to the institution's customers.
Service Shares may be purchased at net asset value without a sales charge
for accounts held in the name of an institution that, directly or indirectly,
provides certain account administration and shareholder liaison services to its
customers, including maintenance of account records and processing orders to
purchase, redeem and exchange Service Shares. Service Shares bear the cost of
account administration fees at the annual rate of up to 0.50% of the average
daily net assets of the Portfolio attributed to Service Shares.
Class A Shares are sold, with an initial sales charge, through brokers and
dealers who are members of the National Association of Securities Dealers, Inc.
and certain other financial service firms that have sales agreements with
Goldman Sachs. Class A Shares of the Portfolios bear the cost of distribution
(Rule 12b-1) fees at the aggregate rate of up to 0.25% of the average daily net
assets of such Class A Shares. Class A Shares also bear the cost of an
Authorized Dealer Service Plan at an annual rate of up to 0.25% of average daily
net assets attributed to Class A Shares.
Class B Shares and Class C Shares of the Portfolios are sold subject to a
contingent deferred sales charge through brokers and dealers who are members of
the National Association of Securities Dealers, Inc. and certain other financial
services firms that have sales arrangements with Goldman Sachs. Class B Shares
and Class C Shares bear the cost of distribution (Rule 12b-1) fees at the
aggregate rate of up to 0.75% of the average daily net assets attributed to
Class B Shares and Class C Shares. Class B Shares and Class C Shares also bear
the cost of an Authorized Dealer Service Plan at an annual rate of up to 0.25%
of the average daily net assets attributed to Class B Shares and Class C Shares.
It is possible that an institution or its affiliate may offer different
classes of shares (i.e., Institutional, Service, Class A, Class B and Class C
Shares) to its customers and thus receive
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different compensation with respect to different classes of shares of each
Portfolio. Dividends paid by each Portfolio, if any, with respect to each class
of shares will be calculated in the same manner, at the same time on the same
day and will be in the same amount, except for differences caused by the fact
that the respective account administration, service, authorized dealer service
plan and distribution fees relating to a particular class will be borne
exclusively by that class. Similarly, the net asset value per share may differ
depending upon the class of shares purchased.
Certain aspects of the shares may be altered after advance notice to
shareholders if it is deemed necessary in order to satisfy certain tax
regulatory requirements.
When issued, shares are fully paid and non-assessable. In the event of
liquidation, shareholders are entitled to share pro rata in the net assets of
the applicable class of the relevant Portfolio available for distribution to
such shareholders. All shares are freely transferable and have no preemptive,
subscription or conversion rights.
Rule 18f-2 under the Act provides that any matter required to be submitted
by the provisions of the Act or applicable state law, or otherwise, to the
holders of the outstanding voting securities of an investment company such as
the Trust shall not be deemed to have been effectively acted upon unless
approved by the holders of a majority of the outstanding shares of each class or
series affected by such matter. Rule 18f-2 further provides that a class or
series shall be deemed to be affected by a matter unless the interests of each
class or series in the matter are substantially identical or the matter does not
affect any interest of such class or series. However, Rule 18f-2 exempts the
selection of independent public accountants, the approval of principal
distribution contracts and the election of trustees from the separate voting
requirements of Rule 18f-2.
The Trust is not required to hold annual meetings of shareholders and does
not intend to hold such meetings. In the event that a meeting of shareholders
is held, each share of the Trust will be entitled, as determined by the
Trustees, either to one vote for each share or to one vote for each dollar of
net asset value represented by such shares on all matters presented to
shareholders including the elections of Trustees (this method of voting being
referred to as "dollar based voting"). However, to the extent required by the
Act or otherwise determined by the Trustees, series and classes of the Trust
will vote separately from each other. Shareholders of the Trust do not have
cumulative voting rights in the election of Trustees. Meetings of shareholders
of the Trust, or any series or class thereof, may be called by the Trustees,
certain officers or upon the written request of holders of 10% or more of the
shares entitled to vote at
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such meetings. The shareholders of the Trust will have voting rights only with
respect to the limited number of matters specified in the Declaration of Trust
and such other matters as the Trustees may determine or may be required by law.
The Declaration of Trust provides for indemnification of Trustees, officers
and agents of the Trust unless the recipient is adjudicated (i) to be liable by
reason of willful misfeasance, bad faith, gross negligence or reckless disregard
of the duties involved in the conduct of such person's office or (ii) not to
have acted in good faith in the reasonable belief that such person's actions
were in the best interest of the Trust. The Declaration of Trust provides that,
if any shareholder or former shareholder of any series is held personally liable
solely by reason of being or having been a shareholder and not because of the
shareholder's acts or omissions or for some other reason, the shareholder or
former shareholder (or heirs, executors, administrators, legal representatives
or general successors) shall be held harmless from and indemnified against all
loss and expense arising from such liability. The Trust, acting on behalf of
any affected series, must, upon request by such shareholder, assume the defense
of any claim made against such shareholder for any act or obligation of the
series and satisfy any judgment thereon from the assets of the series.
The Declaration of Trust permits the termination of the Trust or of any
series or class of the Trust (i) by a majority of the affected shareholders at a
meeting of shareholders of the Trust, series or class; or (ii) by a majority of
the Trustees without shareholder approval if the Trustees determine that such
action is in the best interest of the Trust or its shareholders. The factors and
events that the Trustees may take into account in making such determination
include (i) the inability of the Trust or any successor series or class to
maintain its assets at an appropriate size; (ii) changes in laws or regulations
governing the Trust, series or class or affecting assets of the type in which it
invests; or (iii) economic developments or trends having a significant adverse
impact on their business or operations.
The Declaration of Trust authorizes the Trustees without shareholder
approval to cause the Trust, or any series thereof, to merge or consolidate with
any corporation, association, trust or other organization or sell or exchange
all or substantially all of the property belonging to the Trust or any series
thereof. In addition, the Trustees, without shareholder approval, may adopt a
master-feeder structure by investing all or a portion of the assets of a series
of the Trust in the securities of another open-end investment company with
substantially the same investment objective, restrictions and policies.
The Declaration of Trust permits the Trustees to amend the Declaration of
Trust without a shareholder vote. However,
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shareholders of the Trust have the right to vote on any amendment (i) that would
affect the voting rights of shareholders; (ii) that is required by law to be
approved by shareholders; (iii) that would amend the voting provisions of the
Declaration of Trust; or (iv) that the Trustees determine to submit to
shareholders.
The Trustees may appoint separate Trustees with respect to one or more
series or classes of the Trust's shares (the "Series Trustees"). Series Trustees
may, but are not required to, serve as Trustees of the Trust or any other series
or class of the Trust. The Series Trustees have, to the exclusion of any other
Trustees of the Delaware Trust, all the powers and authorities of Trustees under
the Trust Instrument with respect to any other series or class.
SHAREHOLDER AND TRUSTEE LIABILITY
Under Delaware law, the shareholders of the Portfolios are not generally
subject to liability for the debts or obligations of the Trust. Similarly,
Delaware law provides that a series of the Trust will not be liable for the
debts or obligations of any other series of the Trust. However, no similar
statutory or other authority limiting business trust shareholder liability
exists in other states. As a result, to the extent that a Delaware business
trust or a shareholder is subject to the jurisdiction of courts of such other
states, the courts may not apply Delaware law and may thereby subject the
Delaware business trust shareholders to liability. To guard this risk, the
Declaration of Trust contains an express disclaimer of shareholder liability for
acts or obligations of a Portfolio. Notice of such disclaimer will normally be
given in each agreement, obligation or instrument entered into or executed by a
series or the Trustees. The Declaration of Trust provides for indemnification
by the relevant Portfolio for all loss suffered by a shareholder as a result of
an obligation of the series. The Declaration of Trust also provides that a
series shall, upon request, assume the defense of any claim made against any
shareholder for any act or obligation of the series and satisfy any judgment
thereon. In view of the above, the risk of personal liability of shareholders
of a Delaware business trust is remote.
In addition to the requirements under Delaware law, the Declaration of
Trust provides that shareholders of a series may bring a derivative action on
behalf of the series only if the following conditions are met: (a) shareholders
eligible to bring such derivative action under Delaware law who hold at least
10% of the outstanding shares of the series, or 10% of the outstanding shares of
the class to which such action relates, shall join in the request for the
Trustees to commence such action; and (b) the Trustees must be afforded a
reasonable amount of time to consider such shareholder request and to
investigate the basis and to employ other advisers in considering the merits of
the request and shall require an undertaking by the shareholders making such
request to
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reimburse the Portfolio for the expense of any such advisers in the event that
the Trustees determine not to bring such action.
The Declaration of Trust further provides that the Trustees will not be
liable for errors of judgment or mistakes of fact or law, but nothing in the
Declaration of Trust protects a Trustee against liability to which he or she
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
or her office.
TAXATION
The following is a summary of the principal U.S. federal income, and
certain state and local, tax considerations regarding the purchase, ownership
and disposition of shares in each Portfolio. This summary does not address
special tax rules applicable to certain classes of investors, such as tax-exempt
entities, insurance companies and financial institutions. Each prospective
shareholder is urged to consult his own tax adviser with respect to the specific
federal, state, local and foreign tax consequences of investing in each
Portfolio. The summary is based on the laws in effect on the date of this
Additional Statement, which are subject to change.
GENERAL
Each Portfolio is a separate taxable entity. Each of the Portfolios
intends to qualify for each taxable year as a regulated investment company under
Subchapter M of the Internal Revenue, as amended (the "code") Code.
Qualification as a regulated investment company under the Code requires,
among other things, that (a) a Portfolio derive at least 90% of its gross income
for its taxable year from dividends, interest, payments with respect to
securities loans and gains from the sale or other disposition of stocks or
securities or foreign currencies, or other income (including but not limited to
gains from options, futures, and forward contracts) derived with respect to its
business of investing in such stock, securities or currencies (the "90% gross
income test"); and (b) such Portfolio diversify its holdings so that, at the
close of each quarter of its taxable year, (i) at least 50% of the market value
of such Portfolio's total (gross) assets is comprised of cash, cash items, U.S.
Government securities, securities of other regulated investment companies and
other securities limited in respect of any one issuer to an amount not greater
in value than 5% of the value of such Portfolio's total assets and to not more
than 10% of the outstanding voting securities of such issuer, and (ii) not more
than 25% of the value of its total (gross) assets is invested in the securities
of any one issuer (other than U.S. Government securities and securities of other
regulated investment companies)
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or two or more issuers controlled by the Portfolio and engaged in the same,
similar or related trades or businesses.
If a Portfolio complies with such provisions, then in any taxable year in
which such Portfolio distributes, in compliance with the Code's timing and other
requirements, at least 90% of its "investment company taxable income" (which
includes dividends, taxable interest, taxable accrued original issue discount
and market discount income, income from securities lending, any net short-term
capital gain in excess of net long-term capital loss, certain net realized
foreign exchange gains and any other taxable income other than "net capital
gain," as defined below, and is reduced by deductible expenses), and at least
90% of the excess of its gross tax-exempt interest income (if any) over certain
disallowed deductions, such Portfolio (but not its shareholders) will be
relieved of federal income tax on any income of the Portfolio, including long-
term capital gains, distributed to shareholders. In this connection, dividends
received by a Portfolio from an Underlying Fund other than Capital gain
distributions, are treated as ordinary income to the Portfolio. Distributions
from an Underlying Fund designated as capital gain distributions are treated as
long-term capital gains (20% or 28% depending on the underlying Fund's holding
period for the assets the sale of which generated the capital gains). In
addition, upon the sale or other disposition by a Portfolio of shares of an
Underlying Fund or other investment, the Portfolio will generally realize a
capital gain or loss which will be long-term (20% or 28% rate) or short-term,
generally depending upon the Portfolio's holding period.
If a Portfolio retains any investment company taxable income or "net
capital gain" (the excess of net long-term capital gain over net short-term
capital loss), it will be subject to a tax at regular corporate rates on the
amount retained. If a Portfolio retains any net capital gain, the Portfolio may
designate the retained amount as undistributed capital gains in a notice to its
shareholders who, if subject to U.S. federal income tax on long-term capital
gains, (i) will be required to include in income for federal income tax
purposes, as 20% or 28% rate capital gain, as the case may be, their shares of
such undistributed amount, and (ii) will be entitled to credit their
proportionate shares of the tax paid by the Portfolio against their U.S. federal
income tax liabilities, if any, and to claim refunds to the extent the credit
exceeds such liabilities. For U.S. federal income tax purposes, the tax basis of
shares owned by a shareholder of the Portfolio will be increased by an amount
equal to a percentage of the amount of undistributed net capital gain included
in the shareholder's gross income. Each Portfolio intends to distribute for each
taxable year to its shareholders all or substantially all of its investment
company taxable income, net capital gain and any net tax-exempt interest. If for
any taxable year a Portfolio does not qualify as a regulated investment company,
it will be taxed on all of its investment company taxable income and net capital
gain at corporate rates, and its distributions to shareholders will be taxable
as ordinary dividends to the extent of its current and accumulated earnings and
profits.
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In order to avoid a 4% federal excise tax, each Portfolio must distribute
(or be deemed to have distributed) by December 31 of each calendar year at least
98% of its taxable ordinary income for such year, at least 98% of the excess of
its capital gains over its capital losses (generally computed on the basis of
the one-year period ending on October 31 of such year), and all taxable ordinary
income and the excess of capital gains over capital losses for the previous year
that were not distributed for such year and on which the Portfolio paid no
federal income tax. For federal income tax purposes, dividends declared by a
Portfolio in October, November or December to shareholders of record on a
specified date in such a month and paid during January of the following year are
taxable to such shareholders as if received on December 31 of the year declared.
The Portfolios anticipate that they will generally make timely distributions of
income and capital gains in compliance with these requirements so that they will
generally not be required to pay the excise tax. For federal income tax
purposes, each Portfolio is permitted to carry forward a net capital loss in any
year to offset its own capital gains, if any, during the eight years following
the year of the loss.
Each Underlying Fund also intends to qualify annually and elect to be
treated as a regulated investment company under Subchapter M of the Code. In any
year in which an Underlying Fund so qualifies and timely distributes all of its
taxable income, the Fund generally will not pay any federal income or excise
tax. If, as may occur for certain of the Underlying Funds, more than 50% of a
Fund's total assets at the close of any taxable year consists of stock or
securities of foreign corporations, the Fund may file an election with the
Internal Revenue Service pursuant to which shareholders of the Fund would be
required to (i) include in ordinary gross income (in addition to taxable
dividends actually received) their pro rata shares of foreign income taxes paid
by the Fund that are treated as income taxes under U.S. tax regulations (which
excludes, for example, stamp taxes, securities transaction taxes, and similar
taxes) even though not actually received by such shareholders, and (ii) treat
such respective pro rata portions as foreign income taxes paid by them.
If an Underlying Fund makes this election, its shareholders may then deduct
such pro rata portions of qualified foreign taxes in computing their taxable
incomes, or, alternatively, use them as foreign tax credits, subject to
applicable limitations, against their U.S. federal income taxes. Shareholders
who do not itemize deductions for federal income tax purposes will not, however,
be able to deduct their pro rata portion of foreign taxes paid by a Fund,
although such shareholders will be required to include their shares of such
taxes in gross income if the election is made.
While a Portfolio will be able to deduct the foreign taxes that it will be
treated as receiving from an Underlying Fund if the election is made, the
Portfolio will not itself be able to elect to
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treat its foreign taxes as paid by its shareholders. Accordingly, the
shareholders of the Portfolio will not have an option of claiming a foreign tax
credit for foreign taxes paid by the Underlying Funds, while persons who invest
directly in such Underlying Funds may have that option.
If an Underlying Fund acquires stock (including, under proposed
regulations, an option to acquire stock such as is inherent in a convertible
bond) in certain foreign corporations that receive at least 75% of their annual
gross income from passive sources (such as interest, dividends, rents, royalties
or capital gain) or hold at least 50% of their assets in investments producing
such passive income ("passive foreign investment companies"), the Fund could be
subject to federal income tax and additional interest charges on "excess
distributions" received from such companies or gain from the sale of stock in
such companies, even if all income or gain actually received by the Fund is
timely distributed to its shareholders. The Fund would not be able to pass
through to its shareholders any credit or deduction for such a tax. In some
cases, elections may be available that would ameliorate these adverse tax
consequences, but such elections would require the Fund to include certain
amounts as income or gain (subject to the distribution requirements described
above) without a concurrent receipt of cash. Each Fund may limit and/or manage
its holdings in passive foreign investment companies to minimize its tax
liability or maximize its return from these investments.
TAXABLE U.S. SHAREHOLDERS - DISTRIBUTIONS
For U.S. federal income tax purposes, distributions by a Portfolio
generally will be taxable to shareholders who are subject to tax. Shareholders
receiving a distribution in the form of newly issued shares will be treated for
U.S. federal income tax purposes as receiving a distribution in an amount equal
to the amount of cash they would have received had they elected to receive cash
and will have a cost basis in each share received equal to such amount divided
by the number of shares received.
Distributions from investment company taxable income for the year will be
taxable as ordinary income. Distributions designated as derived from a
Portfolio's dividend income, if any, that would be eligible for the dividends
received deduction if such Portfolio's were not a regulated investment company
may be eligible, for the dividends received-deduction for corporate
shareholders. The dividends received-deduction, if available, is reduced to the
extent the shares with respect to which the dividends are received are treated
as debt-financed under federal income tax law and is eliminated if the shares
are deemed to have been held for less than a minimum period, generally 46 days.
The entire dividend, including the deducted amount, is considered in determining
the excess, if any, of a corporate shareholder's adjusted current earnings over
its alternative minimum taxable income, which may
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increase its liability for the federal alternative minimum tax, and the dividend
may, if it is treated as an "extraordinary dividend" under the Code, reduce such
shareholder's tax basis in its shares of a Portfolio. Capital gain dividends
(i.e., dividends from net capital gain) if designated as such in a written
notice to shareholders mailed not later than 60 days after a Portfolio's taxable
year closes, will be taxed to shareholders as long-term capital gain regardless
of how long shares have been held by shareholders, but are not eligible for the
dividends received deduction for corporations. Distributions, if any, that are
in excess of a Portfolio's current and accumulated earnings and profits will
first reduce a shareholder's tax basis in his shares and, after such basis is
reduced to zero, will generally constitute capital gains to a shareholder who
holds his shares as capital assets.
Different tax treatment, including penalties on certain excess
contributions and deferrals, certain pre-retirement and post-retirement
distributions, and certain prohibited transactions is accorded to accounts
maintained as qualified retirement plans. Shareholders should consult their tax
advisers for more information.
TAXABLE U.S. SHAREHOLDERS - SALE OF SHARES
When a shareholder's shares are sold, redeemed or otherwise disposed of in
a transaction that is treated as a sale for tax purposes, the shareholder will
generally recognize gain or loss equal to the difference between the
shareholder's adjusted tax basis in the shares and the cash, or fair market
value of any property, received. Assuming the shareholder holds the shares as a
capital asset at the time of such sale, such gain or loss should be capital in
character, and will be long-term (20% or 28% rate, as the case may be) or short-
term depending on the shareholder's tax holding period for the shares subject to
the rules described below. Shareholders should consult their own tax advisers
with reference to their particular circumstances to determine whether a
redemption (including an exchange) or other disposition of Portfolio shares is
properly treated as a sale for tax purposes, as is assumed in this discussion.
If a shareholder receives a capital gain dividend with respect to shares and
such shares have a tax holding period of six months or less at the time of a
sale or redemption of such shares, then any loss the shareholder realizes on the
sale or redemption will be treated as a long-term capital loss to the extent of
such capital gain dividend. Additionally, any loss realized on a sale or
redemption of shares of a Portfolio may be disallowed under "wash sale" rules to
the extent the shares disposed of are replaced with other shares of the same
Portfolio within a period of 61 days beginning 30 days before and ending 30 days
after the shares are disposed of, such as pursuant to a dividend reinvestment in
shares of such Portfolio. If disallowed, the loss will be reflected in an
adjustment to the basis of the shares acquired.
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Each Portfolio may be required to withhold, as "backup withholding,"
federal income tax at a rate of 31% from dividends (including capital gain
dividends) and share redemption and exchange proceeds to individuals and other
non-exempt shareholders who fail to furnish such Portfolio with a correct
taxpayer identification number ("TIN") certified under penalties of perjury, or
if the Internal Revenue Service or a broker notifies the Portfolio that the
payee is subject to backup withholding as a result of failing to properly report
interest or dividend income to the Internal Revenue Service or that the TIN
furnished by the payee to the Portfolio is incorrect, or if (when required to do
so) the payee fails to certify under penalties of perjury that it is not subject
to backup withholding. A Portfolio may refuse to accept an application that
does not contain any required TIN or certification that the TIN provided is
correct. If the backup withholding provisions are applicable, any such dividends
and proceeds, whether paid in cash or reinvested in additional shares, will be
reduced by the amounts required to be withheld. Any amounts withheld may be
credited against a shareholder's U.S. federal income tax liability.
NON-U.S. SHAREHOLDERS
The discussion above relates solely to U.S. federal income tax law as it
applies to "U.S. persons" subject to tax under such law. Shareholders who, as to
the United States, are not "U.S. persons," (i.e., are nonresident aliens,
foreign corporations, fiduciaries of foreign trusts or estates, foreign
partnerships or other non-U.S. investors) generally will be subject to U.S.
federal withholding tax at the rate of 30% on distributions treated as ordinary
income unless the tax is reduced or eliminated pursuant to a tax treaty or the
dividends are effectively connected with a U.S. trade or business of the
shareholder. In the latter case the dividends will be subject to tax on a net
income basis at the graduated rates applicable to U.S. individuals or domestic
corporations. Distributions of net capital gain, including amounts retained by
a Portfolio which are designated as undistributed capital gains, to a non-U.S.
shareholder will not be subject to U.S. federal income or withholding tax unless
the distributions are effectively connected with the shareholder's trade or
business in the United States or, in the case of a shareholder who is a
nonresident alien individual, the shareholder is present in the United States
for 183 days or more during the taxable year and certain other conditions are
met.
Any capital gain realized by a non-U.S. shareholder upon a sale or
redemption of shares of a Portfolio will not be subject to U.S. federal income
or withholding tax unless the gain is effectively connected with the
shareholder's trade or business in the U.S., or in the case of a shareholder who
is a nonresident alien individual, the shareholder is present in the U.S. for
183
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days or more during the taxable year and certain other conditions are met.
Non-U.S. persons who fail to furnish a Portfolio with an IRS Form W-8 or an
acceptable substitute may be subject to backup withholding at the rate of 31% on
capital gain dividends and the proceeds of redemptions and exchanges. Each
shareholder who is not a U.S. person should consult his or her tax adviser
regarding the U.S. and non-U.S. tax consequences of ownership of shares of and
receipt of distributions from the Portfolios.
STATE AND LOCAL
Each Portfolio may be subject to state or local taxes in jurisdictions in
which such Portfolio may be deemed to be doing business. In addition, in those
states or localities which have income tax laws, the treatment of such
Portfolio and its shareholders under such laws may differ from their treatment
under federal income tax laws, and investment in such Portfolio may have tax
consequences for shareholders different from those of a direct investment in the
securities held by the Portfolio. Shareholders should consult their own tax
advisers concerning these matters.
OTHER INFORMATION
Shares of the Portfolios are offered and sold on a continuous basis by the
Trust's Distributor, Goldman Sachs, acting as agent. As described in the
Prospectus, shares of the Portfolios are sold and redeemed at their net asset
value as next determined after receipt of the purchase or redemption order.
Each Portfolio will redeem shares solely in cash up to the lesser of
$250,000 or 1% of the net asset value of the Portfolio during any 90-day period
for any one shareholder. Each Portfolio, however, reserves the right to pay
redemptions exceeding $250,000 or 1% of the net asset value of the Portfolio at
the time of redemption by a distribution in kind of securities (instead of cash)
from such Portfolio. The securities distributed in kind would be readily
marketable and would be valued for this purpose using the same method employed
in calculating the Portfolio's net asset value per share. See "Net Asset
Value." If a shareholder receives redemption proceeds in kind, the shareholder
may incur transaction costs upon the disposition of the securities received in
the redemption.
The right of a shareholder to redeem shares and the date of payment by each
Portfolio may be suspended for more than seven days for any period during which
the New York Stock Exchange is closed, other than the customary weekends or
holidays, or when trading on such Exchange is restricted as determined by the
SEC; or during any emergency, as determined by the SEC, as a result of which it
is not
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reasonably practicable for such Portfolio to dispose of securities owned by it
or fairly to determine the value of its net assets; or for such other period as
the SEC may by order permit for the protection of shareholders of such
Portfolio. (The Trust may also suspend or postpone the recordation of the
transfer of shares upon the occurrence of any of the foregoing conditions.)
The Prospectus and this Additional Statement do not contain all the
information included in the Registration Statement filed with the SEC under the
1933 Act with respect to the securities offered by the Prospectus. Certain
portions of the Registration Statement have been omitted from the Prospectus and
this Additional Statement pursuant to the rules and regulations of the SEC. The
Registration Statement including the exhibits filed therewith may be examined
at the office of the SEC in Washington, D.C.
Statements contained in the Prospectus or in this Additional Statement as
to the contents of any contract or other document referred to are not
necessarily complete, and, in each instance, reference is made to the copy of
such contract or other document filed as an exhibit to the Registration
Statement of which the Prospectus and this Additional Statement form a part,
each such statement being qualified in all respects by such reference.
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OTHER INFORMATION REGARDING PURCHASES,
REDEMPTIONS,EXCHANGES AND DIVIDENDS
The following information supplements the information in the Prospectus
under the captions "How to Invest," "How to Sell Shares of the Portfolios" and
"Dividends." Please see the Prospectus for more complete information.
OTHER PURCHASE INFORMATION
==========================
If shares of a Portfolio are held in a "street name" account with an
Authorized Dealer, all recordkeeping, transaction processing and payments of
distributions relating to the beneficial owner's account will be performed by
the Authorized Dealer, and not by a Portfolio and its Transfer Agent. Since the
Portfolios will have no record of the beneficial owner's transactions, a
beneficial owner should contact the Authorized Dealer to purchase, redeem or
exchange shares, to make changes in or give instructions concerning the account
or to obtain information about the account. The transfer of shares in a "street
name" account to an account with another dealer or to an account directly with a
Portfolio involves special procedures and will require the beneficial owner to
obtain historical purchase information about the shares in the account from the
Authorized Dealer.
Authorized Dealers and other financial intermediaries provide varying
arrangements for their clients to purchase and redeem Portfolio shares. Some
may establish higher minimum investment requirements and others may limit the
availability of certain privileges with respect to the purchase and redemption
of shares or the reinvestment of dividends. Firms may arrange with their
clients for other investment or administrative services and may independently
establish and charge additional amounts to their clients for such services,
which charges would reduce a client's return. If shares of a Portfolio are held
in a "street name" account or were purchased through an Authorized Dealer,
shareholders should contact the Authorized Dealer to purchase, redeem or
exchange shares, to make changes in or give information about the account.
The Adviser, Distributor and/or their affiliates may pay, out of their own
assets, compensation to Authorized Dealers and other persons in connection with
the sale and/or servicing of those shares. These payments ("Additional
Payments") would be in addition to the payments by the Portfolios described in t
he Portfolios' Prospectus and this Statement of Additional Information for
distribution and shareholder servicing and processing, and would also be in
addition to the sales commissions payable to dealers as set forth in the
Prospectus. These Additional Payments may take the form of "due diligence"
payments for an Authorized
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Dealer's examination of the Portfolios and payments for providing extra employee
training and information relating to a Portfolio; "listing" fees for the
placement of the Portfolios on a dealer's list of mutual funds available for
purchase by its customers; "finders" or "referral" fees for directing investors
to the Portfolios; "marketing support" fees for providing assistance in
promoting the sale of a Portfolios' shares; and payments for the sale of shares
and/or the maintenance of shares balances. In addition, the Adviser, Distributor
and/or their affiliates may make Additional Payments for subaccounting,
administrative and/or shareholder processing services that are in addition to
the shareholder servicing and processing fees paid by the Portfolios. The
Additional Payments made by the Adviser, Distributor and their affiliates may be
a fixed dollar amount, may be based on the number of customer accounts
maintained by an Authorized Dealer, or may be based on a percentage of the value
of shares sold to, or held by, customers of the Authorized Dealers involved, and
may be different for different Authorized Dealers. Furthermore, the Adviser,
Distributor and/or their affiliates may contribute to various non-cash and cash
incentive arrangements to promote the sale of shares, as well as sponsor various
educational programs, sales contests and/or promotions in which participants may
receive prizes such as travel awards, merchandise and cash and/or investment
research pertaining to particular securities and other financial instruments or
to the securities and financial markets generally, educational information and
related support materials and hardware and/or software. The Adviser, Distributor
and their affiliates may also pay for the travel expenses, meals, lodging and
entertainment of Authorized Dealers and their salespersons and guests in
connection with educational, sales and promotional programs, subject to
applicable NASD regulations. The Distributor currently expects that such
additional bonuses or incentives will not exceed 0.50% of the amount of any
sales.
RIGHT OF ACCUMULATION - (CLASS A)
=================================
A Class A shareholder qualifies for cumulative quantity discounts if the
current purchase price of the new investment plus the shareholder's current
holdings of existing Class A Shares (acquired by purchase or exchange) of the
Portfolios and Class A Shares of any other Goldman Sachs Fund (as defined in the
Prospectus) total the requisite amount for receiving a discount. For example,
if a shareholder owns shares with a current market value of $65,000 and
purchases additional Class A Shares of the Income Strategy Portfolio with a
purchase price of $45,000, the sales charge for the $45,000 purchase would be
3.0% (the rate applicable to a single purchase of more than $100,000). Class A
Shares purchased without the imposition of a sales charge and shares of another
class of the Portfolios may not be aggregated with Class A Shares purchased
subject to a sales charge. Class A Shares of the Portfolios and any other
Goldman Sachs Fund purchased
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(i) by an individual, his spouse and his children, and (ii) by a trustee,
guardian or other fiduciary of a single trust estate or a single fiduciary
account, will be combined for the purpose of determining whether a purchase will
qualify for such right of accumulation and, if qualifying, the applicable sales
charge level. For purposes of applying the right of accumulation, shares of the
Portfolios and any other Goldman Sachs Fund purchased by an existing client of
the Private Client Services Division of Goldman Sachs will be combined with
Class A Shares held by any other Private Client Services account. In addition,
Class A Shares of the Portfolios and Class A Shares of any other Goldman Sachs
Fund purchased by partners, directors, officers or employees of the same
business organization or by groups of individuals represented by and investing
on the recommendation of the same accounting firm, certain affinity groups or
other similar organizations (collectively, "eligible persons") may be combined
for the purpose of determining whether a purchase will qualify for the right of
accumulation and, if qualifying, the applicable sales charge level. This right
of accumulation is subject to the following conditions: (i) the business
organization's, group's or firm's agreement to cooperate in the offering of the
Portfolios' shares to eligible persons; and (ii) notification to the Portfolios
at the time of purchase that the investor is eligible for this right of
accumulation.
STATEMENT OF INTENTION - (CLASS A)
==================================
If a shareholder anticipates purchasing at least $100,000 of Class A Shares
of a Portfolio alone or in combination with Class A Shares of any other Goldman
Sachs Fund within a 13-month period, the shareholder may purchase shares of the
Portfolio at a reduced sales charge by submitting a Statement of Intention (the
"Statement"). Shares purchased pursuant to a Statement will be eligible for the
same sales charge discount that would have been available if all of the
purchases had been made at the same time. The shareholder or his Authorized
Dealer must inform Goldman Sachs that the Statement is in effect each time
shares are purchased. There is no obligation to purchase the full amount of
shares indicated in the Statement. A shareholder may include the value of all
Class A Shares on which a sales charge has previously been paid as an
"accumulation credit" toward the completion of the Statement, but a price
readjustment will be made only on Class A Shares purchased within ninety (90)
days before submitting the Statement. The Statement authorizes the Transfer
Agent to hold in escrow a sufficient number of shares which can be redeemed to
make up any difference in the sales charge on the amount actually invested. For
purposes of satisfying the amount specified on the Statement, the gross amount
of each investment, exclusive of any appreciation on shares previously
purchased, will be taken into account.
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CROSS-REINVESTMENT OF DIVIDENDS AND DISTRIBUTIONS
=================================================
A Portfolio shareholder should obtain and read the prospectus relating to
any other Goldman Sachs Fund or ILA Portfolio (as defined in the Prospectus) and
its shares or units and consider its investment objective, policies and
applicable fees before electing cross-reinvestment into that Fund or Portfolio.
The election to cross-reinvest dividends and capital gain distributions will not
affect the tax treatment of such dividends and distributions, which will be
treated as received by the shareholder and then used to purchase shares of the
acquired fund. Such reinvestment of dividends and distributions in shares of
other Goldman Sachs Funds or in units of ILA Portfolios is available only in
states where such reinvestment may legally be made.
AUTOMATIC EXCHANGE PROGRAM
==========================
A Portfolio shareholder may elect cross-reinvestment into an identical
account or an account registered in a different name or with a different
address, social security or other taxpayer identification number, provided that
the account in the acquired fund has been established, appropriate signatures
have been obtained and the minimum initial investment requirement has been
satisfied. A Portfolio shareholder should obtain and read the prospectus
relating to any other Goldman Sachs Fund and its shares and consider its
investment objective, policies and applicable fees and expenses before electing
an automatic exchange into that Goldman Sachs Fund.
SYSTEMATIC WITHDRAWAL PLAN
==========================
A systematic withdrawal plan (the "Systematic Withdrawal Plan") is
available to shareholders of a Portfolio whose shares are worth at least $5,000.
The Systematic Withdrawal Plan provides for monthly payments to the
participating shareholder of any amount not less than $50.
Dividends and capital gain distributions on shares held under the
Systematic Withdrawal Plan are reinvested in additional full and fractional
shares of the applicable Portfolio at net asset value. The Transfer Agent acts
as agent for the shareholder in redeeming sufficient full and fractional shares
to provide the amount of the systematic withdrawal payment. The Systematic
Withdrawal Plan may be terminated at any time. Goldman Sachs reserves the right
to initiate a fee of up to $5 per withdrawal, upon thirty (30) days written
notice to the shareholder. Withdrawal payments should not be considered to be
dividends, yield or income. If periodic withdrawals continuously exceed new
purchases and reinvested dividends and capital gains distributions, the
shareholder's original investment will be correspondingly reduced and ultimately
exhausted. The maintenance of a withdrawal plan concurrently with purchases of
additional Class A, Class B or
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Class C Shares would be disadvantageous because of the sales charge imposed on
purchases of Class A Shares or the imposition of a CDSC on redemptions of Class
A, Class B and Class C Shares. The CDSC applicable to Class B and Class C
Shares redeemed under a systematic withdrawal plan may be waived. See "How to
Invest--Waiver or Reduction of Contingent Deferred Sales Charge" in the
Prospectus. In addition, each withdrawal constitutes a redemption of shares,
and any gain or loss realized must be reported for federal and state income tax
purposes. A shareholder should consult his or her own tax adviser with regard
to the tax consequences of participating in the Systematic Withdrawal Plan. For
further information or to request a Systematic Withdrawal Plan, please write or
call the Transfer Agent.
OFFERING PRICE OF CLASS A SHARES
================================
Class A Shares of each Portfolio are sold at a maximum sales charge of
5.5%. An illustration of the computation of the maximum offering price (5.5% of
offering price, 5.8% of net asset value per share) of the class A shares of each
Portfolio's shares would be as follows:
Offering
Net Asset Maximum Price
Value Sales Charge to Public
--------- ------------ ---------
Income Strategy Portfolio $9.45 $0.55 $10.00
Growth and Income
Strategy Portfolio $9.45 $0.55 $10.00
Growth Strategy Portfolio $9.45 $0.55 $10.00
Aggressive Growth Strategy
Portfolio $9.45 $0.55 $10.00
DISTRIBUTION AND AUTHORIZED DEALER SERVICE PLANS
CLASS A DISTRIBUTION PLANS. As described in the Prospectus, the Trust
has adopted on behalf of each Portfolio, distribution plans (the "Class A
Plans") pursuant to Rule 12b-1 under the Act. See "Distribution and Authorized
Dealer Service Plans" in the Prospectus.
The Class A Plans were most recently approved on October 21, 1997 by
a majority vote of the Trustees of the Trust, including a majority of the non-
interested Trustees of the Trust who have no direct or indirect financial
interest in the Class A Plans, cast in person at a meeting called for the
purpose of approving the Plans.
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The compensation payable under the Class A Plans may not exceed 0.25%
per annum of each Portfolio's average daily net assets attributable to its Class
A Shares. Currently, Goldman Sachs is waiving a portion of its fee under the
Class A Plans applicable to each Portfolio. Goldman Sachs has no current
intention of modifying or discontinuing such waivers, but may do so in the
future at its discretion.
Goldman Sachs may pay up to the entire amount of such fee under the
Plans to Authorized Dealers for providing services in connection with the sale
of each Portfolio's shares. To the extent such fee is not paid to such dealers,
Goldman Sachs may retain such fee as compensation for its services and expenses
incurred in accordance with the Plans of distributing a Portfolio's shares. If
such fee exceeds its expenses, Goldman Sachs may realize a profit from these
arrangements.
The Plans are compensation plans which provide for the payment of a
specified fee without regard to the expenses actually incurred by Goldman Sachs.
If a Plan were terminated by the Trustees of the Trust and no successor plan
were adopted, the Portfolio would cease to make payments under the Plan to
Goldman Sachs and Goldman Sachs would be unable to recover the amount of any of
its unreimbursed expenditures. However, Goldman Sachs does not intend to make
expenditures for which it may be compensated under a Plan at a rate that
materially exceeds the rate of compensation received under the Plan.
Under the Class A Plans, Goldman Sachs, as distributor of each
Portfolio's Class A Shares, will provide to the Trustees of the Trust for their
review, and the Trustees of the Trust will review at least quarterly a written
report of the services provided and amounts expended by Goldman Sachs under the
Plans and the purposes for which such services were performed and expenditures
were made.
The Class A Plans will remain in effect until May 1, 1998 and
from year to year thereafter, provided such continuance is approved annually by
a majority vote of the Trustees of the Trust, including a majority of the non-
interested Trustees of the Trust who have no direct or indirect financial
interest in the Class A Plans. A Class A Plan may not be amended to increase
materially the amount to be spent for the services described therein without
approval of a majority of the outstanding Class A Shares of the applicable
Portfolio. All material amendments of the Class A Plan must also be approved by
the Trustees of the Trust in the manner described above. A Class A Plan may be
terminated at any time without payment of any penalty by a vote of a majority of
the non-interested Trustees of the Trust or by vote of a majority of the Class A
Shares of the applicable Portfolio. So long as a Class A
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Plan is in effect, the selection and nomination of non-interested Trustees of
the Trust shall be committed to the discretion of the non-interested Trustees of
the Trust. The Trustees of the Trust have determined that in their judgment
there is a reasonable likelihood that the Plans will benefit the Portfolios and
their Class A Shareholders.
CLASS B DISTRIBUTION PLANS. As described in the Prospectus, the Trust
has adopted on behalf of each Portfolio, distribution plans (the "Class B
Plans") pursuant to Rule 12b-1 under the Act with respect to Class B Shares.
See "Distribution and Authorized Dealer Service Plans" in the Prospectus.
The Class B Plans were most recently approved on October 21, 1997 on
behalf of each Portfolio, in each case by a majority vote of the Trust's Board
of Trustees, including a majority of the Trustees who are not interested persons
of the Trust and have no direct or indirect financial interest in the Class B
Plans (the "non-interested Trustees"), cast in person at a meeting called for
the purpose of approving the Class B Plans.
With respect to each Portfolio, the compensation payable under the
Class B Plans is equal to 0.75% per annum of the average daily net assets
attributable to Class B Shares of that Portfolio. The fees received by Goldman
Sachs under the Class B Plans and contingent deferred sales charge on Class B
Shares may be sold by Goldman Sachs as distributor to entities which provide
financing for payments to Authorized Dealers in respect of sales of Class B
Shares. To the extent such fee is not paid to such dealers, Goldman Sachs may
retain such fee as compensation for its services and expenses of distributing
the Portfolios' Class B Shares. If such fee exceeds its expenses, Goldman Sachs
may realize a profit from these arrangements.
Goldman Sachs may pay up to the entire amount of such fee under the
Plans to Authorized Dealers for providing services in connection with the sale
of each Portfolio's shares. To the extent such fee is not paid to such dealers,
Goldman Sachs may retain such fee as compensation for its services and expenses
incurred in accordance with the Plans of distributing a Portfolio's shares. If
such fee exceeds its expenses, Goldman Sachs may realize a profit from these
arrangements.
The Class B Plans are compensation plans which provide for the payment
of a specified distribution fee without regard to the distribution expenses
actually incurred by Goldman Sachs. If the Class B Plans were terminated by the
Trust's Board of Trustees and no successor plan were adopted, the Portfolios
would cease to make distribution payments to Goldman Sachs and Goldman Sachs
would be
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unable to recover the amount of any of its unreimbursed distribution
expenditures.
Under the Class B Plans, Goldman Sachs, as distributor of the
Portfolios' shares, will provide to the Board of Trustees for its review, and
the Board will review at least quarterly, a written report of the services
provided and amounts expended by Goldman Sachs under the Class B Plans and the
purposes for which such services were performed and expenditures were made.
The Class B Plans will remain in effect with respect to the Portfolios
from year to year, provided such continuance is approved annually by a majority
vote of the Board of Trustees, including a majority of the non-interested
Trustees. A Class B Plan may not be amended to increase materially the amount
to be spent for the services described therein as to any Portfolio without
approval of a majority of the outstanding Class B Shares of that Portfolio. All
material amendments of the Class B Plan must also be approved by the Board of
Trustees of the Trust in the manner described above. With respect to any
Portfolio, a Class B Plan may be terminated at any time without payment of any
penalty by a vote of the majority of the non-interested Trustees or by vote of
a majority of the outstanding voting securities of the Class B Shares of that
Portfolio. So long as a Class B Plan is in effect, the selection and nomination
of non-interested Trustees shall be committed to the discretion of the non-
interested Trustees. The Trustees have determined that in their judgment there
is a reasonable likelihood that the Class B Plans will benefit each Portfolio
and their respective Class B shareholders.
CLASS C DISTRIBUTION PLANS. As described in the Prospectus, the Trust
has adopted, on behalf of each Portfolio, distribution plans (the "Class C
Plans") pursuant to Rule 12b-1 under the Act with respect to the Class C Shares.
See "Distribution and Authorized Dealer Service Plans" in the Prospectus.
The Class C Plans of each Portfolio were approved for the Portfolios
on October 21, 1997, on behalf of the Trust by a majority vote of the
Trustees, including a majority of the non-interested Trustees who have no direct
or indirect financial interest in the Class C Plans, cast in person at a meeting
called for the purpose of approving the Class C Plans.
With respect to each Portfolio, the compensation payable under the
Class C Plans is equal to 0.75% per annum of the average daily net assets
attributable to Class C Shares of that Portfolio. To the extent such fee is not
paid to such dealers, Goldman Sachs may retain such fee as compensation for its
services and expenses of distributing the Portfolios' Class C Shares.
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The Class C Plans are compensation plans which provide for the payment
of a specified distribution fee without regard to the distribution expenses
actually incurred by Goldman Sachs. If the Class C Plans were terminated by the
Trustees and no successor plan were adopted, the Portfolios would cease to make
distribution payments to Goldman Sachs and Goldman Sachs would be unable to
recover the amount of any of its unreimbursed distribution expenditures.
Under the Class C Plans, Goldman Sachs, as distributor of the
Portfolios' shares, will provide to the Board of Trustees for its review, and
the Board will review at least quarterly, a written report of the services
provided and amounts expended by Goldman Sachs under the Class C Plans and the
purposes for which such services were performed and expenditures were made.
The Class C Plans will remain in effect until May 1, 1998 and
from year to year, provided such continuance is approved annually by a majority
vote of the Trustees, including a majority of the non-interested Trustees. A
Class C Plan may not be amended to increase materially the amount to be spent
for the services described therein as to any Portfolio without approval of a
majority of the outstanding Class C Shares of that Portfolio. All material
amendments of the Class C Plans must also be approved by the Trustees in the
manner described above. With respect to any Portfolio, a Class C Plan may be
terminated at any time without payment of any penalty by a vote of the majority
of the non-interested Trustees or by vote of a majority of the outstanding
voting securities of the Class C Shares of that Portfolio. So long as Class C
Plans are in effect, the selection and nomination of non-interested Trustees
shall be committed to the discretion of the non-interested Trustees. The
Trustees have determined that in their judgment there is a reasonable likelihood
that the Class C Plans will benefit each Portfolio and their respective Class C
shareholders.
AUTHORIZED DEALER SERVICE PLAN. As described in the Prospectus, the
Trust with respect to each Portfolio has adopted non-Rule 12b-1 Authorized
Dealer Service Plans (the "Service Plans") with respect to Class A, Class B and
Class C Shares. See "Distribution and Authorized Dealer Service Plans" in the
Prospectus.
The compensation under the Service Plans may not exceed 0.25% per
annum of the average daily net assets attributable to the class of shares to
which the plan relates. Up to the entire amount of the fee under the Service
Plans may be paid to Authorized Dealers for providing personal and account
maintenance services in connection with each Portfolio's Shares. Under the
Service Plans, Goldman Sachs will provide to the Trustees for their review at
least quarterly a written report of the services provided and amount expended
under the Service Plans.
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<PAGE>
The Service Plans applicable to Class A, Class B and Class C Shares
were most recently approved on October 2, 1997 by a majority of the Board of
Trustees of the Trust. The Service Plans will remain in effect until
May 1, 1998 and from year to year thereafter, provided that such
continuance is approved annually by a majority vote of the Trustees, including a
majority of the non-interested Trustees who have no direct or indirect financial
interest in the Service Plans.
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<PAGE>
APPENDIX A
DESCRIPTION OF BOND RATINGS, INCLUDING MUNICIPAL BONDS/1/
MOODY'S INVESTORS SERVICE, INC.
Bond Ratings
- ------------
Aaa: Bonds which are rated Aaa are judged to be of the best quality. They
carry the smallest degree of investment risk and are generally referred to as
"gilt edged." Interest payments are protected by a large or by an exceptionally
stable margin and principal is secure. While the various protective elements
are likely to change, such changes as can be visualized are most unlikely to
impair the fundamentally strong position of such issues.
Aa: Bonds which are rated Aa are judged to be of high quality by all
standards. Together with the Aaa group they comprise what are generally known
as high-grade bonds. They are rated lower than the best bonds because margins
of protection may not be as large as in Aaa securities or fluctuation of
protective elements may be of greater amplitude or there may be other elements
present which make the long-term risks appear somewhat larger than in Aaa
securities.
A: Bonds which are rated A possess many favorable investment attributes
and are to be considered as upper medium-grade obligations. Factors giving
security to principal and interest are considered adequate, but elements may be
present which suggest a susceptibility to impairment sometime in the future.
Baa: Bonds which are rated Baa are considered as medium-grade obligations,
i.e., they are neither highly protected nor poorly secured. Interest payments
and principal security appear adequate for the present but certain protective
elements may be lacking or may be characteristically unreliable over any great
length of time. Such bonds lack outstanding investment characteristics and in
fact have speculative characteristics as well.
Ba: Bonds which are rated Ba are judged to have speculative elements;
their future cannot be considered as well assured. Often the protection of
interest and principal payments may be very moderate and thereby not well
safeguarded during both good and bad
- ---------------------------
/1/ The rating systems described herein are believed to be the most recent
ratings systems available from Moody's Investors Service, Inc. and Standard &
Poor's Ratings Group at the date of this Additional Statement for the securities
listed. Ratings are generally given to securities at the time of issuance.
While the rating agencies may from time to time revise such ratings, they
undertake no obligation to do so.
A-1
<PAGE>
times over the future. Uncertainty of position characterizes bonds in this
class.
B: Bonds which are rated B generally lack characteristics of the desirable
investment. Assurance of interest and principal payments or of maintenance of
other terms of the contract over any long period of time may be small.
Caa: Bonds which are rated Caa are of poor standing. Such issues may be
in default or there may be present elements of danger with respect to principal
or interest.
Ca: Bonds which are rated Ca represent obligations which are speculative
in a high degree. Such issues are often in default or have other marked
shortcomings.
C: Bonds which are rated C are the lowest rated class of bonds, and issues
so rated can be regarded as having extremely poor prospects of ever attaining
any real investment standing.
UNRATED: Where no rating has been assigned or where a rating has been
suspended or withdrawn, it may be for reasons unrelated to the quality of the
issue.
Should no rating be assigned, the reason may be one of the following:
1. An application for rating was not received or accepted.
2. The issue or issuer belongs to a group of securities or companies
that are not rated as a matter of policy.
3. There is a lack of essential data pertaining to the issue or
issuer.
4. The issuer was privately placed, in which case the rating is not
published in Moody's publications.
Suspension or withdrawal may occur if new and material circumstances arise,
the effects of which preclude satisfactory analysis; if there is no longer
available reasonable up-to-date data to permit a judgment to be formed; if a
bond is called for redemption; or for other reasons.
Con. (---): 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
A-2
<PAGE>
attaches. Parenthetical rating denotes probable credit stature upon completion
of construction or elimination of basis of condition.
(P)...: When applied to forward delivery bonds, indicates that the
rating is provisional pending delivery of the bonds. The rating may be revised
prior to delivery if changes occur in the legal documents or the underlying
credit quality of the bonds.
NOTE: Those bonds in the Aa, A, Baa, Ba and B groups which Moody's
believes possess the strongest investment attributes are designed by the symbols
Aa1, A1, Baa1 and B1.
Description of Ratings of Commercial Paper
- ------------------------------------------
Moody's commercial paper ratings are opinions of the ability of issuers to
repay punctually senior debt obligations which have an original maturity in
excess of one year, unless explicitly noted. Moody's three highest commercial
paper rating categories are as follows:
Prime-1: Issuers rated Prime-1 (or supporting institutions) have a superior
ability for repayment of senior short-term debt obligations. Prime-1 repayment
ability will often be evidenced by many of the following characteristics:
- Leading market positions in well-established industries.
- High rates of return on funds employed.
- Conservative capitalization structure 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.
A-3
<PAGE>
Prime-2: Issuers rated Prime-2 (or supporting institutions) have a strong
ability for repayment of short-term debt 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 may be more
subject to variation. Capitalization characteristics, while still
appropriate, may be more affected by external conditions. Ample alternate
liquidity is maintained.
Prime-3: Issuers rated Prime-3 (or supporting institutions) have an
acceptable ability for repayment of senior short-term obligations. The
effect of industry characteristics and market compositions may be more
pronounced. Variability in earnings and profitability may result in
changes in the level of debt protection measurements and may require
relatively high financial leverage. Adequate alternate liquidity is
maintained.
NOT PRIME: Issuers do not fall within any of the Prime rating categories.
STANDARD & POOR'S RATINGS GROUP
Description of Ratings of State and Municipal Notes
---------------------------------------------------
Moody's ratings for state and municipal short-term obligations will be
designated Moody's Investment Grade ("MIG") and variable rate demand obligations
are designated Variable Moody's Investment Grade ("VMIG"). Such ratings
recognize the differences between short-term credit risk and long-term risk.
Factors affecting the liquidity of the borrower and short-term cyclical elements
are critical in short-term ratings, while other factors of major importance in
bond risk, long-term secular trends for example, may be less important over the
short run. Symbols used will be as follows:
MIG-1/VMIG-1: This designation denotes best quality. There is present
strong protection by established cash flows, superior liquidity support or
demonstrated broad based access to the market for refinancing.
MIG-2/VMIG-2: This designation denotes high quality. Margins of protection
are ample although not so large as in the preceding group.
MIG-3/VMIG-3: This designation denotes favorable quality. All security
elements are accounted for but there is lacking the undeniable strength of the
preceding grades. Liquidity and cash flow protection may be narrow and market
access for refinancing is likely to be less well established.
MIG-4/VMIG-4: This designation denotes adequate quality. Protection
commonly regarded as required of an investment security is present and although
not distinctly or predominantly speculative, there is specific risk.
SG: This designation denotes speculative quality. Debt instruments in
this category lack margins of protection.
Bond Ratings
- ------------
AAA: Bonds and debt rated AAA have the highest rating assigned by Standard
& Poor's. The obligor's capacity to meet its financial commitment on the
obligation is extremely strong.
AA: The obligor's capacity to meet its financial commitment on the
obligation ais very strong and differ from the higher rated issues only in small
degree.
A: Bonds and debt rated A have a very strong capacity to pay interest and
repay principal although they are somewhat more susceptible to the adverse
effects of changes in circumstances and economic conditions than bonds in higher
rated categories.
BBB: Bonds and debt rated BBB are regarded as having an adequate capacity
to pay interest and repay principal. Whereas they normally exhibit adequate
protection parameters, adverse economic conditions or changing circumstances are
more likely to lead to a weakened capacity to pay interest and repay principal
for bonds in this category than in higher rated categories.
BB, B, CCC, CC, C: Bonds and debt rated BB, B, CCC, CC and C are regarded,
on balance, as predominately speculative with respect to capacity to pay
interest and repay principal. BB indicates the least degree of speculation and
C the highest. While such bonds will likely have some quality and protective
characteristics, these
A-4
<PAGE>
are outweighed by large uncertainties of major risk exposures to adverse
conditions.
BB: Bonds and debt rated BB have less near-term vulnerability to default
than other speculative issues. However, such securities face major ongoing
uncertainties or exposure to adverse business, financial, or economic conditions
which could lead to inadequate capacity to meet timely interest and principal
payments. The BB rating category is also used for bonds that are subordinated
to senior debt assigned an actual or implied BBB- rating.
B: Bonds and debt rated B have a greater vulnerability to default but
currently have the capacity to meet interest payments and principal repayments.
Adverse business, financial, or economic conditions will likely impair capacity
or willingness to pay interest and repay principal.
The B rating category is also used for bonds that are subordinated to
senior debt assigned an actual or implied BB or BB-rating.
CCC: Bonds and debt rated CCC have currently identifiable vulnerability to
default, and are dependent upon favorable business, financial, and economic
conditions to meet timely payment of interest and repayment of principal. In
the event of adverse business, financial, or economic conditions, such
securities are not likely to have the capacity to pay interest and repay
principal.
The CCC rating category is also used for bonds that are subordinated to
senior debt assigned an actual or implied B or B-rating.
CC: The rating CC is typically applied to bonds and debt that are
subordinated to senior debt assigned an actual or implied CCC rating.
C: The rating C is typically applied to bonds and debt that are
subordinated to senior debt assigned an actual or implied CCC-debt rating. The
C rating may be used to cover a situation where a bankruptcy petition has been
filed, but debt service payments are continued.
C1: The rating C1 is reserved for income bonds on which no interest is
being paid.
D: Bonds and debt rated D are in default and payment of interest and/or
repayment of principal is in arrears. The D rating category is used when
interest payments or principal payments are not made on the date due even if the
applicable grace period has not expired, unless Standard & Poor's believes that
such payments will be made during such grace period. The D rating also will be
A-5
<PAGE>
used upon the filing of a bankruptcy petition if debt service payments are
jeopardized.
Plus (+) or minus (-): The ratings from "AA" to "CCC" may be modified by
the addition of a plus or minus sign to show relative standing within the major
rating categories.
R: This rating is attached to highlight derivative, hybrid, and certain
other obligations that S & P believes may experience high volatility or high
variability in expected returns due to non-credit risks. Examples of such
obligations are: securities whose principal or interest return is indexed to
equities, commodities, or currencies; certain swaps and options; and interest-
only and principal-only mortgage securities. The absence of an "r" symbol
should not be taken as an indication that an obligation will exhibit no
volatility or variability in total return.
N.R.: Not rated.
Notes: Bonds which are unrated expose the investor to risks with respect
to capacity to pay interest or repay principal which are similar to the risks of
lower-rated speculative obligations. The Fund is dependent on the Investment
Adviser's judgment, analysis and experience in the evaluation of such bonds.
Investors should note that credit factors affecting high yield, fixed
income securities change quickly and the assignment of a rating to a particular
bond by a rating service may not reflect the effect of recent developments on
the issuer's ability to make interest and principal payments.
S&P's top ratings for notes issued after July 29, 1984 are SP-1 and SP-2.
The designation SP-1 indicates a very strong capacity to pay principal and
interest. A plus sign (+) is added for those issues determined to possess
overwhelming safety characteristics. An SP-2 designation indicates a
satisfactory capacity to pay principal and interest.
Commercial paper rated A by S&P is regarded as having the greatest capacity
for timely payment. Commercial paper rated A-1 is described as having an
overwhelming or very strong degree of safety regarding timely payment.
Commercial Paper rated A-2 by Standard & Poor's is described as having a strong
degree of safety regarding timely payment.
A-6
<PAGE>
STANDARD & POOR'S RATINGS GROUP
Description of Ratings of State and Municipal
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 no more than
365 days. Standard & Poor's two highest commercial paper rating categories are
as follows:
A-1: This highest category indicates that the degree of safety regarding
timely payment is strong. Those issues determined to possess extremely strong
safety characteristics are denoted with a plus sign (+) designation.
A-2: Capacity for timely payment on issues with this designation is
satisfactory. However, the relative degree of safety is not as high as for
issues designated A-1.
A-3: Issued carrying this designation have adequate capacity for timely
payment. They are, however, more vulnerable t the adverse effects of changes in
circumstances than obligations carrying the higher designations.
B: Issues rated B are regarded as having only speculative capacity for
timely payment.
C: This rating is assigned to short-term debt obligations with a doubtful
capacity for payment.
D: Debt rated D is in payment default. The D rating category is used when
interest payments or principal payments are not made on the date due, even if
the applicable grace period has not expired, unless S&P believes such payments
will be made during such grace period.
A Standard & Poor's note rating reflects the liquidity concerns and market
access risks unique to notes. Notes due in three years or less will likely
receive a note rating. Notes maturing beyond three years will most likely
receive a long-term debt rating. The following criteria will be used in making
that assessment.
- - Amortization schedule (the larger the final maturity relative to other
maturities the more likely it will be treated as a note).
- - Source of payment (the more dependent the issue is on the market for its
refinancing, the more likely it will be treated as a note).
Note rating symbols are as follows:
SP-1: Very strong or strong capacity to pay principal and interest. Those
issues determined to possess overwhelming safety characteristics will be
given a plus (+) designation.
SP-2: Satisfactory capacity to pay principal and interest with some
vulnerability to adverse financial and economic changes over the term of
the notes.
SP-3: Speculative capacity to pay principal and interest.
FITCH INVESTORS SERVICE, L.P.
Bond Ratings
- ------------
The ratings represent Fitch's assessment of the issuer's ability to meet
the obligations of a specific debt issue or class of debt. The ratings take
into consideration special features of the issue, its relationship to other
obligations of the issuer, the current financial condition and operative
performance of the issuer and of any guarantor, as well as the political and
economic environment that might affect the issuer's future financial strength
and credit quality.
AAA: Bonds rated AAA are considered to be investment grade and of the
highest credit quality. The obligor has an
A-7
<PAGE>
exceptionally strong ability to pay interest and repay principal, which is
unlikely to be affected by reasonably foreseeable events.
AA: Bonds rated AA are considered to be investment grade and of very high
credit quality. The obligor's ability to pay interest and repay principal is
very strong, although not quite as strong as bonds rated AAA. Because bonds
rated in the AAA and AA categories are not significantly vulnerable to
foreseeable future developments, short-term debt of these issuers is generally
rated F-1+.
A: Bonds rated A are considered to be investment grade and of high credit
quality. The obligor's ability to pay interest and repay principal is
considered to be strong, but may be more vulnerable to adverse changes in
economic conditions and circumstances than bonds with higher ratings.
BBB: Bonds rated BBB are considered to be investment grade and of
satisfactory credit quality. The obligor's ability to pay interest and repay
principal is considered to be adequate. Adverse changes in economic conditions
and circumstances, however, are more likely to have an adverse impact on these
bonds and, therefore, impair timely payment. The likelihood that the ratings of
these bonds will fall below investment grade is higher than for bonds with
higher ratings.
BB: Bonds are considered speculative. The obligor's ability to pay
interest and repay principal may be affected over time by adverse economic
changes. However, business and financial alternatives can be identified, which
could assist the obligor in satisfying its debt service requirements.
B: Bonds are considered highly speculative. While bonds in this class are
currently meeting debt service requirements, the probability of continued timely
payment of principal and interest reflects the obligor's limited margin of
safety and the need for reasonable business and economic activity throughout the
life of the issue.
CCC: Bonds have certain identifiable characteristics that, if not
remedied, may lead to default. The ability to meet obligations requires an
advantageous business and economic environment.
CC: Bonds are minimally protected. Default in payment of interest and/or
principal seems probable over time.
C: Bonds are in imminent default in payment of interest or principal.
DDD, DD, and D: Bonds are in default on interest and/or principal
payments. Such bonds are extremely speculative and should be valued on the
basis of their ultimate recovery value in
A-8
<PAGE>
liquidation or reorganization of the obligor. DDD represents the highest
potential for recovery on these bonds, and D represents the lowest potential for
recovery.
Plus (+) and minus (-) signs are used with a rating symbol to indicate the
relative position of a credit within the rating category. Plus and minus signs,
however, are not used in the AAA, DDD, DD, or D Categories.
Short-Term Ratings
- ------------------
Fitch's short-term ratings apply to debt obligations that are payable on
demand or have original maturities of up to three years, including commercial
paper, certificates of deposit, medium-term notes, and municipal and investment
notes.
F-1+: Exceptionally Strong Credit Quality. Issues assigned this rating are
regarded as having the strongest degree of assurance for timely payment.
F-1: Very Strong Credit Quality. Issues assigned this rating reflect an
assurance of timely payment only slightly less in degree than issues
rated F-1+.
F-2: Good Credit Quality. Issues assigned this rating have a satisfactory
degree of assurance for timely payment, but the margin of safety is not
as great as for issues assigned F-1+ and F-1 ratings.
F-3: Fair Credit Quality. Issues assigned this rating have characteristics
suggesting that the degree of assurance for timely payment is adequate;
however, near-term adverse changes could cause these securities to be
rated below investment grade.
F-S: Weak Credit Quality. Issues assigned this rating have characteristics
suggesting a minimal degree of assurance for timely payment and are
vulnerable to near-term adverse changes in financial and economic
conditions.
D: Default. Issues assigned this rating are in actual or imminent payment
default.
LOC: The symbol LOC indicates that the rating is based on a letter of credit
issued by a commercial bank.
A-9
<PAGE>
DUFF & PHELPS
-------------
Long-Term Debt and Preferred Stock
- ----------------------------------
AAA: Highest credit quality. The risk factors are negligible, being only
slightly more than for risk-free U.S. Treasury debt.
AA+, AA, AA-: High credit quality. Protection factors are strong. Risk is
modest but may vary slightly from time to time because of economic conditions.
A+, A, A-: Protection factors are average but adequate. However, risk
factors are more variable and greater in periods of economic stress.
BBB+, BBB, BBB-: Below average protection factors but still considered
sufficient for prudent investment. Considerable variability in risk during
economic cycles.
BB+, BB, BB-: Below investment grade but deemed likely to meet obligations
when due. Present or prospective financial protection factors fluctuate
according to industry conditions or company fortunes. Overall quality may move
up or down frequently within this category.
B+, B, B-: Below investment grade and possessing risk that obligations
will not be met when due. Financial protection factors will fluctuate widely
according to economic cycles, industry conditions and/or company fortunes.
Potential exists for frequent changes in the rating within this category or into
a higher or lower rating grade.
CCC: Well below investment grade securities. Considerable uncertainty
exists as to timely payment of principal, interest or preferred dividends.
Protection factors are narrow and risk can be substantial with unfavorable
economic/industry conditions, and/or with unfavorable company developments.
DD: Defaulted debt obligations. Issuer failed to meet scheduled principal
and/or interest payment.
DP: Represents preferred stock with dividend arrearages.
Commercial Paper/Certificates of Deposits
- -----------------------------------------
Duff 1 plus: Highest certainty of timely payment. Short-term liquidity
including internal operating factors and/or ready access to
alternative sources of funds, is clearly outstanding, and
safety is just below
A-10
<PAGE>
risk-free U.S. Treasury short-term obligations.
Duff 1: Very high certainty of timely payment. Liquidity factors are
excellent and supported by strong fundamental protection
factors. Risk factors are minor.
Duff 1 minus: High certainty of timely payment. Liquidity factors are
strong and supported by good fundamental protection factors.
Risk factors are very small.
Duff 2: Good certainty of timely payment. Liquidity factors and
company fundamentals are sound. Although ongoing funding
needs may enlarge total financing requirements, access to
capital markets is good. Risk factors are small.
Duff 3: Satisfactory liquidity and other protection factors qualify
issues as to investment grade. Risk factors are larger and
subject to more variation. Nevertheless, timely payment is
expected.
Duff 4: Speculative investment characteristics. Liquidity is not
sufficient to insure against disruption in debt service.
Operating factors and market access may be subject to a high
degree of variation.
Duff 5: Issuer failed to meet scheduled principal and/or interest
payments.
Notes: Bonds which are unrated may expose the investor to risks with respect to
capacity to pay interest or repay principal which are similar to the
risks of lower-rated bonds. The Fund is dependent on the Investment
Adviser's judgment, analysis and experience in the evaluation of such
bonds.
Investors should note that the assignment of a rating to a bond by a
rating service may not reflect the effect of recent developments on the
issuer's ability to make interest and principal payments.
A-11
<PAGE>
APPENDIX B
BUSINESS PRINCIPLES OF GOLDMAN, SACHS & CO.
Goldman Sachs is noted for its Business Principles, which guide all of the
firm's activities and serve as the basis for its distinguished reputation among
investors worldwide.
OUR CLIENT'S INTERESTS ALWAYS COME FIRST. Our experience shows that if we
serve our clients well, our own success will follow.
OUR ASSETS ARE OUR PEOPLE, CAPITAL AND REPUTATION. If any of these assets
diminish, reputation is the most difficult to restore. We are dedicated to
complying fully with the letter and spirit of the laws, rules and ethical
principles that govern us. Our continued success depends upon unswerving
adherence to this standard.
WE TAKE GREAT PRIDE IN THE PROFESSIONAL QUALITY OF OUR WORK. We have an
uncompromising determination to achieve excellence in everything we undertake.
Though we may be involved in a wide variety and heavy volume of activity, we
would, if it came to a choice, rather be best than biggest.
WE STRESS CREATIVITY AND IMAGINATION IN EVERYTHING WE DO. While recognizing
that the old way may still be the best way, we constantly strive to find a
better solution to a client's problems. We pride ourselves on having pioneered
many of the practices and techniques that have become standard in the industry.
WE STRESS TEAMWORK IN EVERYTHING WE DO. While individual creativity is
always encouraged, we have found that team effort often produces the best
results. We have no room for those who put their personal interests ahead of
the interests of the firm and its clients.
INTEGRITY AND HONESTY ARE THE HEART OF OUR BUSINESS. We expect our people
to maintain high ethical standards in everything they do, both in their work for
the firm and in their personal lives.
B-1
<PAGE>
GOLDMAN, SACHS & CO.'S
INVESTMENT BANKING AND SECURITIES ACTIVITIES
Goldman, Sachs & Co. is a leading global investment banking and securities
firm with a number of distinguishing characteristics.
. Privately owned and ranked among Wall Street's best capitalized firms,
with partners' capital of approximately $5.3 billion as of November 29,
1996.
. With thirty-four offices around the world, Goldman Sachs employs over
9,000 professionals focused on opportunities in major markets.
. The number one underwriter of all international equity issuers from
(1993-1996).
. A research budget of $200 million for 1997.
. Premier lead manager of negotiated municipal bond offerings over the past
six years (1990-1996).
. The number one lead manager of U.S. common stock offerings for the past
eight years (1989-1996).*
. The number one lead manager for initial public offerings (IPO's)
worldwide (1989-1996).
* Source: Securities Data Corporation. Common stock ranking excludes REITs,
====================================
Investment Trusts and Rights.
B-2
<PAGE>
GOLDMAN, SACHS & CO.'S HISTORY OF EXCELLENCE
1865 End of Civil War
1869 Marcus Goldman opens Goldman Sachs
1890 Dow Jones Industrial Average first published
1896 Goldman Sachs joins New York Stock Exchange
1906 Goldman Sachs takes Sears Roebuck & Co. public (longest-standing client
relationship) Dow Jones Industrial Average tops 100
1925 Goldman Sachs finances Warner Brothers, producer of the first talking
film
1956 Goldman Sachs co-manages Ford's public offering, the largest to date
1970 London office opens
1972 Dow Jones Industrial Average breaks 1000
1986 Goldman Sachs takes Microsoft public
1990 Provides advisory services for the largest privatization in the region of
the sale of Telefonos de Mexico
1995 Dow Jones Industrial Average breaks 4000
1996 Goldman Sachs takes Deutsche Telecom public Dow Jones Industrial Average
breaks 6000.
1997 Dow Jones Industrial Average breaks 7000. Goldman Sachs increases assets
under management by 100% over 1996.
B-3
