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BARR ROSENBERG SERIES TRUST
BARR ROSENBERG MARKET NEUTRAL FUND
BARR ROSENBERG DOUBLE ALPHA MARKET FUND
STATEMENT OF ADDITIONAL INFORMATION
JULY 29, 1998
REVISED AUGUST 6, 1998
This Statement of Additional Information is not a prospectus. This
Statement of Additional Information relates to the prospectus of the Barr
Rosenberg Market Neutral Fund and Barr Rosenberg Double Alpha Market Fund of
Barr Rosenberg Series Trust dated July 29, 1998 (the "Prospectus") and should be
read in conjunction therewith. A copy of the Prospectus may be obtained from
Barr Rosenberg Series Trust, 3435 Stelzer Road, Columbus, Ohio 43219.
This Statement of Additional Information is used solely in connection with
the offer and sale of Institutional Shares of the Barr Rosenberg Market Neutral
Fund and Barr Rosenberg Double Alpha Market Fund. This Statement of Additional
Information should not be relied upon by offerees or purchasers of Investor
Shares of the Barr Rosenberg Market Neutral Fund or Barr Rosenberg Double Alpha
Market Fund. Please telephone 1-800-447-3332 or write to Barr Rosenberg Funds
Distributor, Inc. at 3435 Stelzer Road, Columbus, Ohio 43219 to obtain a copy
of the Statement of Additional Information used in connection with the offer
and sale of Investor Shares.
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TABLE OF CONTENTS
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INVESTMENT OBJECTIVES AND POLICIES . . . . . . . . . . . . . . . . . . . . . 3
MISCELLANEOUS INVESTMENT PRACTICES . . . . . . . . . . . . . . . . . . . . . 4
INVESTMENT RESTRICTIONS. . . . . . . . . . . . . . . . . . . . . . . . . . . 5
INCOME DIVIDENDS, DISTRIBUTIONS AND TAX STATUS . . . . . . . . . . . . . . . 6
MANAGEMENT OF THE TRUST. . . . . . . . . . . . . . . . . . . . . . . . . . . 8
INVESTMENT ADVISORY AND OTHER SERVICES . . . . . . . . . . . . . . . . . . . 9
PORTFOLIO TRANSACTIONS . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
TOTAL RETURN CALCULATIONS. . . . . . . . . . . . . . . . . . . . . . . . . . 13
DESCRIPTION OF THE TRUST AND OWNERSHIP OF SHARES . . . . . . . . . . . . . . 14
DETERMINATION OF NET ASSET VALUE . . . . . . . . . . . . . . . . . . . . . . 18
PURCHASE AND REDEMPTION OF SHARES. . . . . . . . . . . . . . . . . . . . . . 18
FINANCIAL STATEMENTS . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18
APPENDIX . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . A-1
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INVESTMENT OBJECTIVES AND POLICIES
The investment objective and policies of each of the Barr Rosenberg Market
Neutral Fund and Barr Rosenberg Double Alpha Market Fund (each, a "Fund" and
collectively, the "Funds") of Barr Rosenberg Series Trust (the "Trust") are
summarized on the front page of the Prospectus and in the text of the Prospectus
under the headings "Investment Objectives and Policies" and "General Description
of Risks and Fund Investments."
In addition, the following is an additional description of certain
investments of the Fund(s).
SHORT SALES (BOTH FUNDS). The Barr Rosenberg Market Neutral Fund will
seek, and the Barr Rosenberg Double Alpha Market Fund may seek, to realize
additional gains through short sales. Short sales are transactions in which a
Fund sells a security it does not own, in anticipation of a decline in the value
of that security relative to the long positions held by the Fund. To complete
such a transaction, a Fund must borrow the security to make delivery to the
buyer. A Fund then is obligated to replace the security borrowed by purchasing
it at the market price at or prior to the time of replacement. The price at
such time may be more or less than the price at which the security was sold by a
Fund. Until the security is replaced, a Fund is required to repay the lender
any dividends or interest that accrue during the period of the loan. To borrow
the security, a Fund also may be required to pay a premium, which would increase
the cost of the security sold. The net proceeds of the short sale will be
retained by the broker (or by the Fund's custodian in a special custody
account), to the extent necessary to meet margin requirements, until the short
position is closed out. A Fund also will incur transaction costs in effecting
short sales.
A Fund will incur a loss as a result of the short sale if the price of the
security increases between the date of the short sale and the date on which the
Fund replaces the borrowed security. A Fund may realize a gain if the security
declines in price between those dates. The amount of any gain will be
decreased, and the amount of any loss increased, by the amount of the premium,
dividends, interest or expenses a Fund may be required to pay in connection with
a short sale. There can be no assurance that a Fund will be able to close out a
short position at any particular time or at an acceptable price.
S&P 500 INDEX FUTURES AND RELATED OPTIONS (BARR ROSENBERG DOUBLE ALPHA
MARKET FUND ONLY). An S&P 500 Index Future contract (an "Index Future") is a
contract to buy or sell an integral number of units of the Standard & Poor's 500
Composite Stock Price Index (the "S&P 500 Index") at a specified future date at
a price agreed upon when the contract is made. A unit is the value of the S&P
500 Index from time to time. Entering into a contract to buy units of the S&P
500 Index is commonly referred to as buying or purchasing a contract or holding
a long position in the S&P 500 Index.
Index Futures can be traded through all major commodity brokers.
Currently, contracts are expected to expire on the tenth day of March, June,
September and December. The Barr Rosenberg Double Alpha Market Fund will
ordinarily be able to close open positions on the United States futures exchange
on which Index Futures are then traded at any time up to and including the
expiration day.
In contrast to purchases of a common stock, no price is paid or received by
the Barr Rosenberg Double Alpha Market Fund upon the purchase of a futures
contract. Upon entering into a futures contract, the Fund will be required to
deposit with its custodian in a segregated account in the name of the futures
broker a specified amount of cash or securities. This is known by participants
in the market as "initial margin." The types of instruments that may be
deposited as initial margin, and the required amount of initial margin, are
determined by the futures exchange(s) on which the Index Futures are traded.
The nature of initial margin in futures transactions is different from that of
margin in securities transactions in that futures contract margin does not
involve the borrowing of funds by the customer to finance the transactions.
Rather, the initial margin is in the nature of a performance bond or good faith
deposit on the contract which is returned to the Fund upon termination of the
futures contract, assuming all contractual obligations have been satisfied.
Subsequent payments, called "variation margin," to and from the broker, will be
made on a daily basis as the price of the S&P 500 Index fluctuates, making the
position in the futures contract more or less valuable, a process known as
"marking to the market." For example, when the Fund has
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purchased an Index Future and the price of the S&P 500 Index has risen, that
position will have increased in value and the Fund will receive from the broker
a variation margin payment equal to that increase in value. Conversely, when
the Fund has purchased an Index Future and the price of the S&P 500 Index has
declined, the position would be less valuable and the Fund would be required to
make a variation margin payment to the broker. When the Fund terminates a
position in a futures contract, a final determination of variation margin is
made, additional cash is paid by or to the Fund, and the Fund realizes a gain or
a loss.
The price of Index Futures may not correlate perfectly with movement in the
underlying index due to certain market distortions. First, all participants in
the futures market are subject to margin deposit and maintenance requirements.
Rather than meeting additional margin deposit requirements, investors may close
futures contracts through offsetting transactions which could distort the normal
relationship between the S&P 500 Index and futures markets. Secondly, the
deposit requirements in the futures market are less onerous than margin
requirements in the securities market, and as a result the futures market may
attract more speculators than does the securities market. Increased
participation by speculators in the futures market may also cause temporary
price distortions.
Position in Index Futures may be closed out only if there is a secondary
market for such futures. There can be no assurance that a liquid secondary
market will exist for any particular contract or at any particular time. In
such event, it may not be possible to close a futures position and, in the event
of adverse price movements, the Barr Rosenberg Double Alpha Market Fund would
continue to be required to make daily cash payments of variation margin.
Generally, a futures contract is terminated by entering into an offsetting
transaction. An offsetting transaction for a futures contract purchase is
effected by entering into a futures contract sale for the same aggregate amount
of the specified financial instrument with the same delivery date. If the
offsetting sale price exceeds the purchase price, the Barr Rosenberg Double
Alpha Market Fund realizes a gain, and if the purchase price exceeds the
offsetting price, the Fund realizes a loss.
Options on index futures contracts give the purchaser the right, in return
for the premium paid, to assume a position in an index futures contract (a long
position if the option is a call and a short position if the option is a put) at
a specified exercise price at any time during the period of the option. Upon
exercise of the option, the holder would assume the underlying futures position
and would receive a variation margin payment of cash or securities approximating
the increase in the value of the holder's option position. If an option is
exercised on the last trading day prior to the expiration date of the option,
the settlement will be made entirely in cash based on the difference between the
exercise price of the option and the closing level of the index on which the
futures contract is based on the expiration date. Purchasers of options who
fail to exercise their options prior to the exercise date suffer a loss of the
premium paid.
The ability to establish and close out positions in options on futures
contracts will be subject to the development and maintenance of a liquid
secondary market. It is not certain that such a market will develop. Although
the Barr Rosenberg Double Alpha Market Fund generally will purchase only those
options for which there appears to be an active secondary market, there is no
assurance that a liquid secondary market on an exchange will exist for any
particular option or at any particular time. In the event no such market exists
for particular options, it might not be possible to effect closing transactions
in such options, with the result that the Fund would have to exercise the
options in order to realize any profit.
MISCELLANEOUS INVESTMENT PRACTICES
PORTFOLIO TURNOVER. A change in securities held by a Fund is known as
"portfolio turnover" and almost always involves the payment by a Fund of
brokerage commissions or dealer markup and other transaction costs on the sale
of securities as well as on the reinvestment of the proceeds in other
securities. Portfolio turnover is not a limiting factor with respect to
investment decisions. The portfolio turnover rate for the Barr Rosenberg Market
Neutral Fund for the period ended March 31, 1998 was 232.93%. As disclosed in
the Prospectus, high portfolio turnover involves correspondingly greater
brokerage commissions and other transaction costs, which will be borne directly
by the Funds, and could involve realization of capital gains that would be
taxable when distributed to shareholders of a Fund. To the extent that
portfolio turnover results in the realization of net short-term capital gains,
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such gains are ordinarily taxed to shareholders at ordinary income tax rates.
See "Income Dividends, Distributions and Tax Status" and "Portfolio
Transactions."
NOTICE ON SHAREHOLDER APPROVAL. Unless otherwise indicated in the
Prospectus or this Statement of Additional Information, the investment objective
and policies of each of the Funds may be changed without shareholder approval.
INVESTMENT RESTRICTIONS
Without a vote of the majority of the outstanding voting securities of a
Fund, the Trust will not take any of the following actions with respect to such
Fund:
(1) Borrow money in excess of 10% of the value (taken at the lower of cost
or current value) of the Fund's total assets (not including the amount borrowed)
at the time the borrowing is made, and then only from banks as a temporary
measure to facilitate the meeting of redemption requests (not for leverage)
which might otherwise require the untimely disposition of portfolio investments
or for extraordinary or emergency purposes or for payments of variation margin
(in the case of the Barr Rosenberg Double Alpha Market Fund only). Such
borrowings will be repaid before any additional investments are purchased.
Short sales and related borrowings of securities are not subject to this
restriction.
(2) Pledge, hypothecate, mortgage or otherwise encumber its assets in
excess of 10% of the Fund's total assets (taken at cost) and then only to secure
borrowings permitted by Restriction 1 above. (For the purposes of this
restriction, collateral arrangements with respect to options, short sales, stock
index, interest rate, currency or other futures, options on futures contracts
and collateral arrangements with respect to initial and variation margin are not
deemed to be a pledge or other encumbrance of assets. Collateral arrangements
with respect to swaps and other derivatives are also not deemed to be a pledge
or other encumbrance of assets.)
(3) Purchase securities on margin, except such short-term credits as may
be necessary for the clearance of purchases and sales of securities. (For this
purpose, the deposit or payment of initial or variation margin in connection
with futures contracts or related options transactions is not considered the
purchase of a security on margin.)
(4) Make short sales of securities or maintain a short position if, when
added together, more than 100% of the value of a Fund's net assets would be (i)
deposited as collateral for the obligation to replace securities borrowed to
effect short sales, and (ii) allocated to segregated accounts in connection with
short sales. Short sales "against the box" are not subject to this limitation.
(5) Underwrite securities issued by other persons except to the extent
that, in connection with the disposition of its portfolio investments, it may be
deemed to be an underwriter under federal securities laws.
(6) Purchase or sell real estate, although it may purchase securities of
issuers which deal in real estate, including securities of real estate
investment trusts, and may purchase securities which are secured by interests in
real estate.
(7) Concentrate more than 25% of the value of its total assets in any one
industry.
(8) Invest in securities of other investment companies, except to the
extent permitted by the Investment Company Act of 1940, as amended (the "1940
Act"), or by an exemptive order issued by the Securities and Exchange
Commission.
(9) Purchase or sell commodities or commodity contracts except that each
of the Funds may purchase and sell stock index and other financial futures
contracts and options thereon.
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(10) Make loans, except by purchase of debt obligations or by entering into
repurchase agreements or through the lending of the Fund's portfolio securities.
(11) Issue senior securities. (For the purpose of this restriction
none of the following is deemed to be a senior security: any pledge or other
encumbrance of assets permitted by restriction (2) above; any borrowing
permitted by restriction (1) above; short sales permitted by restriction (4)
above; any collateral arrangements with respect to short sales, swaps, options,
future contracts and options on future contracts and with respect to initial and
variation margin; and the purchase or sale of options, future contracts or
options on future contracts.)
Notwithstanding the latitude permitted by Restriction 9 above, the Funds
have no current intention of purchasing interest rate futures.
It is contrary to the present policy of each of the Funds, which may be
changed by the Trustees of the Trust without shareholder approval, to:
(a) Invest in warrants or rights (other than warrants or rights acquired
by a Fund as a part of a unit or attached to securities at the time of
purchase).
(b) Write, purchase or sell options on particular securities (as opposed
to market indices).
(c) Buy or sell oil, gas or other mineral leases, rights or royalty
contracts.
(d) Make investments for the purpose of exercising control of a company's
management.
(e) Invest in (a) securities which at the time of investment are not
readily marketable and (b) repurchase agreements maturing in more than seven
days if, as a result, more than 15% of the Fund's net assets (taken at current
value) would then be invested in such securities.
Unless otherwise indicated, all percentage limitations on investments set
forth herein and in the Prospectus will apply at the time of the making of an
investment and shall not be considered violated unless an excess or deficiency
occurs or exists immediately after and as a result of such investment.
The phrase "shareholder approval," as used in the Prospectus and herein,
and the phrase "vote of a majority of the outstanding voting securities," as
used herein, means the affirmative vote of the lesser of (1) more than 50% of
the outstanding shares of a Fund or the Trust, as the case may be, or (2) 67% or
more of the shares of a Fund or the Trust, as the case may be, present at a
meeting if more than 50% of the outstanding shares are represented at the
meeting in person or by proxy.
INCOME DIVIDENDS, DISTRIBUTIONS AND TAX STATUS
The tax status of the Funds and the distributions which they may make are
summarized in the Prospectus under the headings "Distributions" and "Taxes."
The Funds intend to qualify each year as a regulated investment company under
the Internal Revenue Code of 1986, as amended. In order to qualify as a
"regulated investment company" and to qualify for the special tax treatment
accorded regulated investment companies and their shareholders, each Fund must,
among other things, (a) derive at least 90% of its gross income from dividends,
interest, payments with respect to certain securities loans, gains from the sale
or other disposition of securities or foreign currencies or other income
(including but not limited to gains from options, futures or forward contracts)
derived with respect to its business of investing in such securities or
currencies; (b) diversify its holdings so that, at the close of each quarter of
its taxable year, (i) at least 50% of the value of its total assets consists of
cash, cash items, U.S. Government securities, securities of other regulated
investment companies, and other securities limited generally with respect to any
one issuer to not more than 5% of the total assets of such Fund and not more
than 10% of the outstanding voting securities of such issuer, and (ii) not more
than 25% of the value of its total assets is invested in the securities of any
issuer (other than U.S. Government securities or securities of other regulated
investment companies); and (c) distribute
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annually at least 90% of the sum of its taxable net investment income, its net
tax-exempt income (if any), and, the excess, if any, of net short-term capital
gains over net long-term capital losses for such year. To the extent a Fund
qualifies for treatment as a regulated investment company, the Fund will not be
subject to federal income tax on income paid to its shareholders in the form of
dividends or capital gain distributions.
As described in the Prospectus under the heading "Distributions," each Fund
intends to pay out substantially all of its ordinary income and net short-term
capital gains, and to distribute substantially all of its net capital gains, if
any, after giving effect to any available capital loss carryover. Net capital
gain is the excess of net gains from assets held for more than one year over net
losses from capital assets held for not more than one year. In order to avoid
an excise tax imposed on certain undistributed income, a Fund must distribute
prior to each calendar year end without regard to the Fund's fiscal year end (i)
98% of the Fund's ordinary income, and (ii) 98% of the Fund's capital gain net
income, if any, realized in the one-year period ending on October 31.
In general, all dividend distributions derived from ordinary income and
short-term capital gain are taxable to investors as ordinary income.
Distributions of long-term gains (generally taxed at a 20% rate) will be taxable
to shareholders as such, regardless of how long a shareholder has held the
shares in the Fund. Some 1998 distributions of long-term capital gains
recognized in 1997 may be subject to tax at 28%. Distributions will be taxable
as described above whether received in cash or in shares through the
reinvestment of distributions. The dividends-received deduction for
corporations will generally apply to a Fund's dividends from investment income
to the extent derived from dividends received by the Fund from domestic
corporations, provided the Fund and the shareholder each meet the relevant
holding period requirements.
Dividends and distributions on a Fund's shares are generally subject
to federal income tax as described herein to the extent they do not exceed
the Fund's realized income and gains, even though such dividends and
distributions may economically represent a return of a particular
shareholder's investment. Such distributions are likely to occur in respect
of shares purchased at a time when a Fund's net asset value reflects gains
that are either unrealized, or realized but not distributed.
Certain tax-exempt organizations or entities may not be subject to federal
income tax on dividends or distributions from a Fund. Each organization or
entity should review its own circumstances and the federal tax treatment of its
income.
Each Fund is generally required to withhold and remit to the U.S. Treasury
31% of the taxable dividends and other distributions, whether distributed in
cash or reinvested in shares of the Fund, paid or credited to any shareholder
account for which an incorrect or no taxpayer identification number has been
provided or where the Fund is notified that the shareholder has underreported
income in the past (or the shareholder fails to certify that he is not subject
to such withholding). However, the general back-up withholding rules set forth
above will not apply to tax-exempt entities so long as each such entity
furnishes a Fund with an appropriate certificate.
The Internal Revenue Service recently revised its regulations affecting the
application to foreign investors of the back-up withholding and withholding tax
rules described above. The new regulations will generally be effective for
payments made after December 31, 1999 (although transition rules will apply).
In some circumstances, the new rules will increase the certification and filing
requirements imposed on foreign investors in order to qualify for exemption from
the 31% back-up withholding tax and for reduced withholding tax rates under
income tax treaties. Foreign investors in the Fund should consult their tax
advisors with respect to the potential application of these new regulations.
To the extent such investments are permissible for a particular Fund, the
Fund's transactions in options, futures contracts, hedging transactions, forward
contracts and straddles will be subject to special tax rules (including
mark-to-market, constructive sale, straddle, wash sale and short sale rules),
the effect of which may be to accelerate income to the Fund, defer losses to the
Fund, cause adjustments in the holding periods of the Fund's securities, convert
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long-term capital gains into short-term capital gains and convert short-term
capital losses into long-term capital losses. These rules could therefore
affect the amount, timing and character of distributions to shareholders.
THE TAX DISCUSSION SET FORTH ABOVE IS A SUMMARY INCLUDED FOR GENERAL
INFORMATION PURPOSES ONLY. EACH SHAREHOLDER IS ADVISED TO CONSULT ITS OWN TAX
ADVISER WITH RESPECT TO THE SPECIFIC TAX CONSEQUENCES TO IT OF AN INVESTMENT IN
THE FUNDS, INCLUDING THE EFFECT AND APPLICABILITY OF STATE, LOCAL, FOREIGN, AND
OTHER TAX LAWS AND THE POSSIBLE EFFECTS OF CHANGES IN FEDERAL OR OTHER TAX LAWS.
THIS DISCUSSION IS NOT INTENDED AS A SUBSTITUTE FOR CAREFUL TAX PLANNING.
MANAGEMENT OF THE TRUST
The Trustees and officers of the Trust and their principal occupations
during the past five years are as follows:
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Kenneth Reid* (48) General Partner and Director of
President, Trustee Research, Rosenberg Institutional
Equity Management, June 1986 to
present.
Marlis S. Fritz* (48) General Partner and Director of
Vice President, Trustee Marketing, Rosenberg Institutional
Equity Management, April 1985 to
present.
Nils H. Hakansson (61) Sylvan C. Coleman Professor of Finance
Trustee and Accounting, Haas School of
Business, University of California,
Berkeley, June 1969 to present.
Director, Supershare Services
Corporation (investment management),
Los Angeles, California, November 1989
to 1995.
Barr M. Rosenberg* (55) Managing General Partner and Chief
Trustee Investment Officer, Rosenberg
Institutional Equity Management,
January 1985 to present.
William F. Sharpe (64) STANCO 25 Professor of Finance,
Trustee Stanford University. Chairman,
Financial Engines Incorporated, Los
Altos, California (electronic
investment advice), March 1996 to
present.
Po-Len Hew (32) Accounting Manager, Rosenberg
Treasurer Institutional Equity Management,
October 1989 to present.
Carolyn Demler (54) Administrative Coordinator, Rosenberg
Clerk Institutional Equity Management,
December 1988 to present.
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Edward H. Lyman (54) Executive Vice President, Barr
Vice President Rosenberg Investment Management, Inc.,
and General Counsel to the Rosenberg
Group of companies, 1990 to present.
Richard L. Saalfeld (55) President and Chief Executive Officer
Vice President of mutual fund unit of Rosenberg
Institutional Equity Management from
June 1996 to present; Consultant to
Rosenberg Institutional Equity
Management, September 1995 to May
1996; Chairman and Chief Executive
Officer of CoreLink Resources, Inc.
(mutual fund marketing organization),
Concord, California, April 1993 to
August 1995; Consultant, December 1992
to March 1993.
Harold L. Arbit (51) Vice President and Partner, Rosenberg
Vice President Alpha L.P., 1984 to present.
F. William Jump, Jr. (42) Portfolio engineer, Rosenberg
Vice President Institutional Equity Management,
August 1990 to present.
* Trustees who are "interested persons" (as defined in the 1940 Act) of the
Trust or the Manager.
</TABLE>
The mailing address of each of the officers and Trustees is c/o Barr
Rosenberg Series Trust, 3435 Stelzer Road, Columbus, OH 43219. The principal
occupations of the officers and Trustees for the last five years have been with
the employers as shown above, although in some cases they have held different
positions with such employers.
The Trust pays the Trustees other than those who are interested persons of
the Trust or Manager an annual fee of $37,950 plus $4,125 for each meeting
attended. The Trust does not pay any pension or retirement benefits for its
Trustees. The Trust does not pay any compensation to officers or Trustees of
the Trust other than those Trustees who are not interested persons of the Trust
or Manager. The following table sets forth information concerning the total
compensation paid to each of the Trustees who are not interested persons of the
Trust or Manager in the fiscal year ended March 31, 1998:
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<CAPTION>
Total
Pension or Compensation
Retirement from
Aggregate Benefits Estimated Registrant
Compensation Accrued as Annual and Fund
Name of Person from Part of Fund Benefits Upon Complex Paid
Position Registrant Expenses Retirement to Directors
-------- ---------- -------- ---------- ------------
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Nils H. $42,487.50 $ 0 $ 0 $42,487.50
Hakansson
Trustee
William F. $42,487.50 $ 0 $ 0 $42,487.50
Sharpe
Trustee
</TABLE>
Messrs. Rosenberg, Reid, Arbit, Lyman, Saalfeld and Jump and Ms. Fritz,
Demler and Hew, each being a general partner, limited partner, officer or
employee of the Manager, will each benefit from the management fees paid by the
Trust to the Manager, but receive no direct compensation from the Trust.
INVESTMENT ADVISORY AND OTHER SERVICES
MANAGEMENT CONTRACTS. Under management contracts (each, a "Management
Contract") between the Trust, on behalf of each Fund, and Rosenberg
Institutional Equity Management (the "Manager"), subject to the control of the
Trustees of the Trust and such policies as the Trustees may determine, the
Manager will furnish continuously an investment program for each Fund and will
make investment decisions on behalf of each Fund and place all orders for the
purchase and sale of portfolio securities. Subject to the control of the
Trustees, the Manager furnishes office
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space and equipment, provides certain bookkeeping and clerical services and pays
all salaries, fees and expenses of officers and Trustees of the Trust who are
affiliated with the Manager. As indicated under "Portfolio Transactions --
Brokerage and Research Services," the Trust's portfolio transactions may be
placed with broker-dealers which furnish the Manager, at no cost, certain
research, statistical and quotation services of value to the Manager in advising
the Trust or its other clients.
Each of the Funds has agreed to pay the Manager a quarterly management fee
at the annual percentage rate of the relevant Fund's average daily net assets
set forth in the Prospectus. The Manager has informed the Trust that it will
voluntarily waive some or all of its management fees under the Management
Contracts and, if necessary, will bear certain expenses of each Fund until
further notice so that each Fund's total annual operating expenses (exclusive
of nonrecurring account fees, extraordinary expenses and dividends and interest
paid on securities sold short) applicable to each class will not exceed the
percentage of each Fund's average daily net assets attributable to that class as
set forth in the Prospectus. In addition, the Manager's compensation under each
Management Contract is subject to reduction to the extent that in any year the
expenses of a Fund (including investment advisory fees but excluding taxes,
portfolio brokerage commissions and any distribution expenses paid by a class of
shares of a Fund pursuant to a distribution plan or otherwise) exceed the limits
on investment company expenses imposed by any statute or regulatory authority of
any jurisdiction in which shares of the Fund are qualified for offer and sale.
Each Management Contract provides that the Manager shall not be subject to
any liability to the Trust or to any shareholder of the Trust in connection with
the performance of its services thereunder in the absence of willful
misfeasance, bad faith, gross negligence or reckless disregard of its
obligations and duties thereunder.
Each Management Contract will continue in effect for a period of no more
than two years from the date of its execution only so long as its continuance is
approved at least annually by (i) vote, cast in person at a meeting called for
that purpose, of a majority of those Trustees who are not "interested persons"
of the Manager or the Trust, and by (ii) the majority vote of either the full
Board of Trustees or the vote of a majority of the outstanding shares of the
relevant Fund. Each Management Contract automatically terminates on assignment,
and is terminable on not more than 60 days' notice by the Trust to the Manager.
In addition, each Management Contract may be terminated on not more than 60
days' written notice by the Manager to the Trust.
As disclosed in the Prospectus, the general partners of the Manager are
Barr M. Rosenberg, Marlis S. Fritz and Kenneth Reid. Each of these persons may
be deemed a controlling person of the Manager.
As discussed in this Statement of Additional Information under the heading
"Management of the Trust," Barr M. Rosenberg is a Trustee of the Trust as well
as Managing General Partner and Chief Investment Officer of the Manager; Marlis
S. Fritz is a Trustee and Vice President of the Trust as well as a general
partner of the Manager; and Kenneth Reid is a Trustee and President of the Trust
as well as a general partner and Director of Research of the Manager.
During the period from December 16, 1997 (inception date) to March 31,
1998, the Barr Rosenberg Market Neutral Fund paid the following amounts as
management fees to the Manager pursuant to its Management Contract:
<TABLE>
<CAPTION>
Period Gross Reduction Net
- ------ ----- --------- ---
<S> <C> <C> <C>
12/16/97 - 3/31/98 $700,708 $193,487 $507,221
</TABLE>
ADMINISTRATIVE SERVICES. The Trust has entered into a Fund Administration
Agreement with BISYS Fund Services (the "Administrator") pursuant to which the
Administrator provides certain management and administrative services necessary
for the Funds' operations including: (i) general supervision of the operation of
the Funds including coordination of the services performed by the Funds'
investment adviser, transfer agent, custodian, independent accountants and legal
counsel, regulatory compliance, including the compilation of information for
documents such as reports to, and filings with, the SEC and state securities
commissions, and preparation of proxy statements and
-10-
<PAGE>
shareholder reports for the Funds; (ii) general supervision relative to the
compilation of data required for the preparation of periodic reports distributed
to the Funds' officers and Board of Trustees; and (iii) furnishing office space
and certain facilities required for conducting the business of the Funds. The
Trust's principal underwriter is an affiliate of the Administrator. For these
services, the Administrator is entitled to receive a fee, payable monthly, at
the annual rate of 0.15% of the average daily net assets of the Trust. For the
period from December 16, 1997 (inception date) to March 31, 1998, the
Administrator was entitled to receive from the Barr Rosenberg Market Neutral
Fund $55,610 in administration fees. Of this amount the Administrator waived
$19,476.
The Trust has also entered into a Fund Accounting Agreement with BISYS Fund
Services, Inc. (the "Fund Accountant") pursuant to which the Fund Accountant
provides certain accounting services necessary for the Funds' operations. For
these services, the Fund Accountant is entitled to receive an annual fee of
$50,000 for each Fund. For the period from December 16, 1997 (inception date)
to March 31, 1998 the Barr Rosenberg Market Neutral Fund paid $16,401 in fund
accounting fees. The Trust's principal underwriter is an affiliate of the Fund
Accountant.
DISTRIBUTOR AND DISTRIBUTION PLAN. As stated in the Prospectus under the
heading "Management of the Trust -- Distributor," Investor Shares of each Fund
are sold on a continuous basis by the Trust's distributor, Barr Rosenberg Funds
Distributor, Inc. (the "Distributor"). Under the Distributor's Contract between
the Trust and the Distributor (the "Distributor's Contract"), the Distributor is
not obligated to sell any specific amount of shares of the Trust and will
purchase shares for resale only against orders for shares.
Pursuant to the Distribution Plan (the "Plan") described in the Prospectus,
in connection with the distribution of Investor Shares of the Trust, the
Distributor receives certain distribution fees from the Trust. Subject to the
percentage limitation on the distribution fee set forth in the Prospectus, the
distribution fee may be paid in respect of services rendered and expenses borne
in the past with respect to Investor Shares as to which no distribution fee was
paid on account of such limitation. The Distributor may pay all or a portion of
the distribution fees it receives from the Trust to participating and
introducing brokers.
For the period December 16, 1997 (inception date) to March 31, 1998,
the Barr Rosenberg Market Neutral Fund incurred distribution expenses of
$12,626. Of this amount, the Distributor retained $4,440. The Distributor
paid $8,186 to broker-dealers and other selling and/or servicing institutions.
The Plan may be terminated with respect to Investor Shares by vote of a
majority of the Trustees of the Trust who are not interested persons of the
Trust and who have no direct or indirect financial interest in the operation
of the Plan or the Distributor's Contract (the "Independent Trustees"), or by
vote of a majority of the outstanding voting securities of that class. Any
change in the Plan that would materially increase the cost to Investor Shares
requires approval by holders of Investor Shares. The Trustees of the Trust
review quarterly a written report of such costs and the purposes for which
such costs have been incurred. Except as described above, the Plan may be
amended by vote of the Trustees of the Trust, including a majority of the
Independent Trustees, cast in person at a meeting called for the purpose.
For so long as the Plan is in effect, selection and nomination of those
Trustees of the Trust who are not interested persons of the Trust shall be
committed to the discretion of such disinterested persons.
The Distributor's Contract may be terminated with respect to any Fund or
Investor Shares thereof at any time by not more than 60 days' nor less than
30 days' written notice without payment of any penalty either by the
Distributor or by such Fund or class and will terminate automatically,
without the payment of any penalty, in the event of its assignment.
The Plan and the Distributor's Contract will continue in effect with
respect to each class of shares to which they relate for successive one-year
periods, provided that each such continuance is specifically approved (i) by the
vote of a majority of the Independent Trustees and (ii) by the vote of a
majority of the entire Board of Trustees (or by vote of a majority of the
outstanding shares of a class, in the case of the Distributor's Contract) cast
in person at a meeting called for that purpose.
-11-
<PAGE>
If the Plan or the Distributor's Contract are terminated (or not renewed)
with respect to one or more classes, they may continue in effect with respect to
any class of any Fund as to which they have not been terminated (or have been
renewed).
The Trustees of the Trust believe that the Plan will provide benefits to
the Trust. The Trustees believe that the Plan will result in greater sales
and/or fewer redemptions of Investor Shares, although it is impossible to know
for certain the level of sales and redemptions of Investor Shares that would
occur in the absence of the Plan or under alternative distribution schemes. The
Trustees believe that the effect on sales and/or redemptions benefit the Trust
by reducing Fund expense ratios and/or by affording greater flexibility to the
Trust.
CUSTODIAL ARRANGEMENTS. Custodial Trust Company ("CTC"), Princeton, NJ
08540, is the Trust's custodian. As such, CTC holds in safekeeping certificated
securities and cash belonging to the Trust and, in such capacity, is the
registered owner of securities in book-entry form belonging to a Fund. Upon
instruction, CTC receives and delivers cash and securities of a Fund in
connection with Fund transactions and collects all dividends and other
distributions made with respect to Fund portfolio securities.
INDEPENDENT ACCOUNTANTS. The Trust's independent accountants are
PricewaterhouseCoopers LLP, 555 California Street, San Francisco, California
94104. Pricewaterhouse Coopers LLP conducts an annual audit of the Trust's
financial statements, assists in the preparation of the Trust's federal and
state income tax returns and the Trust's filings with the Securities and
Exchange Commission, and consults with the Trust as to matters of accounting and
federal and state income taxation.
PORTFOLIO TRANSACTIONS
INVESTMENT DECISIONS. The purchase and sale of portfolio securities for
the Funds and for the other investment advisory clients of the Manager are made
by the Manager with a view to achieving each client's investment objective. For
example, a particular security may be purchased or sold on behalf of certain
clients of the Manager even though it could also have been purchased or sold for
other clients at the same time.
Likewise, a particular security may be purchased on behalf of one or more
clients when the Manager is selling the same security on behalf of one or more
other clients. In some instances, therefore, the Manager, acting for one client
may sell indirectly a particular security to another client. It also happens
that two or more clients may simultaneously buy or sell the same security, in
which event purchases or sales are effected PRO RATA on the basis of cash
available or other equitable basis so as to avoid any one account's being
preferred over any other account.
BROKERAGE AND RESEARCH SERVICES. Transactions on stock exchanges and other
agency transactions involve the payment of negotiated brokerage commissions.
Such commissions vary among different brokers. There is generally no stated
commission in the case of securities traded in the over-the-counter markets, but
the price paid for such securities usually includes an undisclosed dealer
commission or mark up. In placing orders for the portfolio transactions of a
Fund, the Manager will seek the best price and execution available, except to
the extent it may be permitted to pay higher brokerage commissions for brokerage
and research services as described below. The determination of what may
constitute best price and execution by a broker-dealer in effecting a securities
transaction involves a number of considerations, including, without limitation,
the overall net economic result to the Fund (involving price paid or received
and any commissions and other costs paid), the efficiency with which the
transaction is effected, the ability to effect the transaction at all where a
large block is involved, availability of the broker to stand ready to execute
possibly difficult transactions in the future and the financial strength and
stability of the broker. Because of such factors, a broker-dealer effecting a
transaction may be paid a commission higher than that charged by another
broker-dealer. Most of the foregoing are judgmental considerations.
-12-
<PAGE>
Over-the-counter transactions often involve dealers acting for their own
account. It is the Manager's policy to place over-the-counter market orders for
a Fund with primary market makers unless better prices or executions are
available elsewhere.
Although the Manager does not consider the receipt of research services as
a factor in selecting brokers to effect portfolio transactions for a Fund, the
Manager will receive such services from brokers who are expected to handle a
substantial amount of a Fund's portfolio transactions. Research services may
include a wide variety of analyses, reviews and reports on such matters as
economic and political developments, industries, companies, securities and
portfolio strategy. The Manager uses such research in servicing other clients
as well as the Trust.
As permitted by Section 28(e) of the Securities Exchange Act of 1934, as
amended, and subject to such policies as the Trustees of the Trust may
determine, the Manager may pay an unaffiliated broker or dealer that provides
"brokerage and research services" (as defined in the Act) to the Manager an
amount of commission for effecting a portfolio investment transaction in excess
of the amount of commission another broker or dealer would have charged for
effecting that transaction.
The Barr Rosenberg Market Neutral Fund paid brokerage commissions of
$633,794.69 for the period from December 16, 1997 (inception date) to March 31,
1998.
TOTAL RETURN CALCULATIONS
Each Fund computes its average annual total return separately for its share
classes by determining the average annual compounded rates of return during
specified periods that would equate the initial amount invested in a particular
share class to the ending redeemable value of such investment in such class,
according to the following formula:
n
P(1 + T) = ERV
Where:
T = Average annual total return
ERV = Ending redeemable value of a hypothetical $1,000 investment
made at the beginning of a period at the end of such period
P = A hypothetical initial investment of $1,000
n = Number of years
Each Fund computes its cumulative total return separately for its share
classes by determining the cumulative rates of return during specified periods
that would equate the initial amount invested in a particular share class to the
ending redeemable value of such investment in such class, according to the
following formula:
T = ERV-1,000
---------
1,000
Where:
T = Cumulative rate of return
ERV = Ending redeemable value of a hypothetical $1,000 investment
made at the beginning of a period at the end of such period.
The calculations of average annual total return and cumulative total return
assume that any dividends and distributions are reinvested immediately, rather
than paid to the investor in cash. The ending redeemable value
-13-
<PAGE>
(variable "ERV" in each formula) is determined by assuming complete redemption
of the hypothetical investment and the deduction of all nonrecurring charges at
the end of the period covered by the computations.
Unlike bank deposits or other investments that pay a fixed yield or return
for a stated period of time, the return for each Fund will fluctuate from time
to time and does not provide a basis for determining future returns. Average
annual total return and cumulative return are based on many factors, including
market conditions, the composition of a Fund's portfolio and a Fund's operating
expenses.
Average annual total return and cumulative return are calculated separately
for Investor Shares and Institutional Shares. Investor Shares and Institutional
Shares are subject to different fees and expenses and may have different
performance for the same period.
The cumulative return of the Barr Rosenberg Market Neutral Fund for the
period from December 16, 1997 (inception date) to March 31, 1998 is as follows:
<TABLE>
<CAPTION>
Inception Date
Inception Date to 3/31/98
-------------- ----------
<S> <C> <C>
Investor Shares 12/18/97 -0.40%
Institutional Shares 12/16/97 -0.30%
</TABLE>
PERFORMANCE COMPARISONS. Investors may judge the performance of the Funds
by comparing them to the performance of other mutual fund portfolios with
comparable investment objectives and policies through various mutual fund or
market indices such as those prepared by Dow Jones & Co., Inc. and Standard &
Poor's and to data prepared by Lipper Analytical Services, Inc., a widely
recognized independent service which monitors the performance of mutual funds.
Comparisons may also be made to indices or data published in MONEY MAGAZINE,
FORBES, BARRON'S, THE WALL STREET JOURNAL, MORNINGSTAR, INC., IBBOTSON
ASSOCIATES, CDA/WIESENBERGER, THE NEW YORK TIMES, BUSINESS WEEK, U.S.A. TODAY,
INSTITUTIONAL INVESTOR and other periodicals. In addition to performance
information, general information about the Funds that appears in a publication
such as those mentioned above may be included in advertisements, sales
literature and reports to shareholders. The Funds may also include in
advertisements and reports to shareholders information discussing the
performance of the Manager in comparison to other investment advisers and to
other institutions.
From time to time, the Trust may include the following types of information
in advertisements, supplemental sales literature and reports to shareholders:
(1) discussions of general economic or financial principles (such as the effects
of inflation, the power of compounding and the benefits of dollar cost
averaging); (2) discussions of general economic trends; (3) presentations of
statistical data to supplement such discussions; (4) descriptions of past or
anticipated portfolio holdings for the Funds; (5) descriptions of investment
strategies for the Funds; (6) descriptions or comparisons of various investment
products, which may or may not include the Funds; (7) comparisons of investment
products (including the Funds) with relevant market or industry indices or other
appropriate benchmarks; (8) discussions of fund rankings or ratings by
recognized rating organizations; and (9) testimonials describing the experience
of persons that have invested in a Fund. The Trust may also include
calculations, such as hypothetical compounding examples, which describe
hypothetical investment results in such communications. Such performance
examples will be based on an express set of assumptions and are not indicative
of the performance of a Fund.
DESCRIPTION OF THE TRUST AND OWNERSHIP OF SHARES
As more fully described in the Prospectus, the Trust is a diversified
open-end series investment company organized as a Massachusetts business trust.
A copy of the Agreement and Declaration of Trust of the Trust, as amended (the
"Declaration of Trust"), is on file with the Secretary of The Commonwealth of
Massachusetts. The
-14-
<PAGE>
fiscal year of the Trust ends on March 31. The Trust changed its name to "Barr
Rosenberg Series Trust" from "Rosenberg Series Trust" on August 5, 1996.
Interests in the Trust's portfolios are currently represented by shares
of five series, the Barr Rosenberg Market Neutral Fund, Barr Rosenberg Double
Alpha Market Fund, U.S. Small Capitalization Series, International Small
Capitalization Series and Japan Series, issued pursuant to the Declaration of
Trust. The rights of shareholders and powers of the Trustees of the Trust
with respect to such shares are described in the Prospectus.
As described in the Prospectus, each Fund is further divided into two
classes of shares designated as Institutional Shares and Investor Shares. Each
class of shares of each Fund represents interests in the assets of the Fund and
has identical dividend, liquidation and other rights and the same terms and
conditions except that expenses, if any, related to the distribution and
shareholder servicing of a particular class are borne solely by such class and
each class may, at the discretion of the Trustees of the Trust, also pay a
different share of other expenses, not including advisory or custodial fees or
other expenses related to the management of the Trust's assets, if these
expenses are actually incurred in a different amount by that class, or if the
class receives services of a different kind or to a different degree than the
other classes. All other expenses are allocated to each class on the basis of
the net asset value of that class in relation to the net asset value of the
particular Fund.
The Declaration of Trust provides for the perpetual existence of the Trust.
The Trust may, however, be terminated at any time by vote of at least two-thirds
of the outstanding shares of each series of the Trust.
VOTING RIGHTS. Shareholders are entitled to one vote for each full share
held (with fractional votes for fractional shares held) and will vote (to the
extent provided herein) in the election of Trustees and the termination of the
Trust and on other matters submitted to the vote of shareholders. Shareholders
will vote by individual series on all matters except (i) when required by the
1940 Act, shares shall be voted in the aggregate and not by individual series,
and (ii) when the Trustees have determined that the matter affects only the
interests of one or more series, then only shareholders of such series shall be
entitled to vote thereon. Shareholders of one series shall not be entitled to
vote on matters exclusively affecting another series, such matters including,
without limitation, the adoption of or change in any fundamental policies or
restrictions of the other series and the approval of the investment advisory
contracts of the other series.
Each class of shares of each Fund has identical voting rights except that
each class has exclusive voting rights on any matter submitted to shareholders
that relates solely to that class, and has separate voting rights on any matter
submitted to shareholders in which the interests of one class differ from the
interests of any other class. Each class of shares has exclusive voting rights
with respect to matters pertaining to any distribution or servicing plan
applicable to that class. All classes of shares of a Fund will vote together,
except with respect to any distribution or servicing plan applicable to a class
or when a class vote is required as specified above or otherwise by the 1940
Act.
There will normally be no meetings of shareholders for the purpose of
electing Trustees, except that in accordance with the 1940 Act (i) the Trust
will hold a shareholders' meeting for the election of Trustees at such time as
less than a majority of the Trustees holding office have been elected by
shareholders, and (ii) if, as a result of a vacancy in the Board of Trustees,
less than two-thirds of the Trustees holding office have been elected by the
shareholders, that vacancy may only be filled by a vote of the shareholders. In
addition, Trustees may be removed from office by a written consent signed by the
holders of two-thirds of the outstanding shares and filed with the Trust's
custodian or by a vote of the holders of two-thirds of the outstanding shares at
a meeting duly called for the purpose, which meeting shall be held upon the
written request of the holders of not less than 10% of the outstanding shares.
Upon written request by the holders of at least 1% of the outstanding shares
stating that such shareholders wish to communicate with the other shareholders
for the purpose of obtaining the signatures necessary to demand a meeting to
consider removal of a Trustee, the Trust has undertaken to provide a list of
shareholders or to disseminate appropriate materials (at the expense of the
requesting shareholders). Except as set forth above, the Trustees shall
continue to hold office and may appoint successor Trustees. Voting rights are
not cumulative.
-15-
<PAGE>
No amendment may be made to the Declaration of Trust without the
affirmative vote of a majority of the outstanding shares of the Trust except (i)
to change the Trust's name or to cure technical problems in the Declaration of
Trust and (ii) to establish, designate or modify new and existing series,
sub-series or classes of shares of any series of Trust shares or other
provisions relating to Trust shares in response to applicable laws or
regulations.
SHAREHOLDER AND TRUSTEE LIABILITY. Under Massachusetts law, shareholders
could, under certain circumstances, be held personally liable for the
obligations of the Trust. However, the Declaration of Trust disclaims
shareholder liability for acts or obligations of the Trust and requires that
notice of such disclaimer be given in each agreement, obligation, or instrument
entered into or executed by the Trust or the Trustees. The Declaration of Trust
provides for indemnification out of all the property of the relevant series for
all loss and expense of any shareholder of that series held personally liable
for the obligations of the Trust. Thus, the risk of a shareholder incurring
financial loss on account of shareholder liability is considered remote since it
is limited to circumstances in which the disclaimer is inoperative and the
series of which he is or was a shareholder would be unable to meet its
obligations.
The Declaration of Trust further provides that the Trustees will not be
liable for errors of judgment or mistakes of fact or law. However, nothing in
the Declaration of Trust protects a Trustee against any liability to which the
Trustee would otherwise be subject by reason of willful misfeasance, bad faith,
gross negligence, or reckless disregard of the duties involved in the conduct of
his office. The Declaration of Trust also provides for indemnification by the
Trust of the Trustees and the officers of the Trust against liabilities and
expenses reasonably incurred in connection with litigation in which they may be
involved because of their offices with the Trust, except if it is determined in
the manner specified in the Declaration of Trust that such Trustees are liable
to the Trust or its shareholders by reason of willful misfeasance, bad faith,
gross negligence or reckless disregard of his or her duties. In addition, the
Manager has agreed to indemnify each Trustee who is not "an interested person"
of the Trust to the maximum extent permitted by the 1940 Act against any
liabilities arising by reason of such Trustee's status as a Trustee of the
Trust.
OWNERS OF 5% OR MORE OF A FUND'S SHARES. The following chart sets forth
the names, addresses and percentage ownership of those shareholders owning
beneficially and of record (except as otherwise indicated) 5% or more of the
outstanding shares of the Barr Rosenberg Market Neutral Fund as of June 30,
1998:
<TABLE>
<CAPTION>
NAME AND ADDRESS PERCENTAGE OWNERSHIP
OF OWNER OF THE FUND
-------- -----------
<S> <C>
INSTITUTIONAL SHARES:
Charles Schwab & Co Inc. 78.74%*
For the Exclusive Use of Our Customers
Reinvest Account
Attn Mutual Funds
101 Montgomery Street
San Francisco, CA 94104
INVESTOR SHARES:
Charles Schwab & Co Inc. 48.17%*
For the Exclusive Use of Our Customers
Reinvest Account
Attn Mutual Funds
101 Montgomery Street
San Francisco, CA 94104
-16-
<PAGE>
Resources Trust Company 9.08%
P.O. Box 3485
Englewood, CO 80155
</TABLE>
* Record ownership only
The following chart sets forth the names, addresses and percentage
ownership of those shareholders owning beneficially and of record (except as
otherwise indicated) 5% or more of the outstanding shares of the Barr
Rosenberg Double Alpha Market Fund as of June 30, 1998:
<TABLE>
<CAPTION>
NAME AND ADDRESS PERCENTAGE OWNERSHIP
OF OWNER OF THE FUND
-------- -----------
<S> <C>
INSTITUTIONAL SHARES:
Charles Schwab & Co Inc. 82.07%*
For the Exclusive Use of Our Customers
Reinvest Account
Attn Mutual Funds
101 Montgomery Street
San Francisco, CA 94104
INVESTOR SHARES:
Gary E. Whipple 36.41%
5303 East 115th Place
Tulsa, OK 74137
Arthur Wiener 16.53%
102 Coleridge Street
Brooklyn, NY 11235
Daniel C. Lovett 6.71%
4241 South 35th Street B-1
Arlington, VA 22206
Donaldson Lufkin Jenrette Securities Corporation Inc. 12.71%*
P.O. Box 2052
Jersey City, NJ 07303-9998
Fifth Third Bank, Custodian 5.32%
Jimmy T. Hua, Conversion Roth IRA
810 Polhemus Road, Apt. 61
San Mateo, CA 94402
</TABLE>
* Record ownership only
The officers and Trustees of the Trust, as a group, own less than 1% of any
class of outstanding shares of the Trust.
-17-
<PAGE>
DETERMINATION OF NET ASSET VALUE
As indicated in the Prospectus, the net asset value of each Fund share is
determined on each day on which the New York Stock Exchange is open for trading.
The Trust expects that the days, other than weekend days, that the New York
Stock Exchange will not be open are Christmas Day, New Year's Day, Martin Luther
King's Day, President's Day, Good Friday, Memorial Day, Independence Day
(observed), Labor Day and Thanksgiving Day.
Portfolio securities listed on a securities exchange for which market
quotations are available are valued at the last quoted sale price on each
business day, or, if there is no such reported sale, at the most recent quoted
bid price for long securities and at the most recent quoted ask price for
securities sold short. Price information on listed securities is generally
taken from the closing price on the exchange where the security is primarily
traded. Unlisted securities for which market quotations are readily available
are valued at the most recent quoted bid price for long securities and at the
most recent quoted ask price for securities sold short, except that debt
obligations with sixty days or less remaining until maturity may be valued at
their amortized cost. Exchange-traded options on futures are valued at the
settlement price as determined by the appropriate clearing corporation. Futures
contracts are valued by comparing the gain or loss by reference to the current
settlement price as determined by the appropriate clearing corporation. Other
assets and securities for which no quotations are readily available are valued
at fair value as determined in good faith by the Trustees of the Trust or by
persons acting at their direction.
PURCHASE AND REDEMPTION OF SHARES
The procedures for purchasing shares of each of the Funds and for
determining the offering price of such shares are described in the Prospectus.
The Trust has elected to be governed by Rule 18f-1 under the 1940 Act pursuant
to which the Trust is obligated to redeem shares solely in cash for any
shareholder during any 90-day period up to the lesser of (i) $250,000 or (ii) 1%
of the total net asset value of the Trust at the beginning of such period. The
procedures for redeeming shares of each of the Funds are described in the
Prospectus.
FINANCIAL STATEMENTS
The Report of Independent Accountants, financial highlights and financial
statements of the Barr Rosenberg Market Neutral Fund included in its Annual
Report for the period ended March 31, 1998 (the "Annual Report") are
incorporated herein by reference to such Annual Report. Copies of such Annual
Report are available without charge upon request by writing to Barr Rosenberg
Series Trust, 3435 Stelzer Road, Columbus, Ohio 43219 or telephoning
1-800-447-3332.
The financial statements incorporated by reference into this Statement of
Additional Information have been audited by Pricewaterhouse Coopers LLP,
independent accountants, and have been so included and incorporated by reference
in reliance upon the report of said firm, which report is given upon their
authority as experts in auditing and accounting.
-18-
<PAGE>
Appendix
THE FOLLOWING INFORMATION ON PAGES A-1 THROUGH A-96 PERTAINS PRIMARILY TO THE
PERFORMANCE OF PRIVATE ACCOUNTS MANAGED BY ROSENBERG INSTITUTIONAL EQUITY
MANAGEMENT, THE FUNDS' INVESTMENT ADVISER, WITH SUBSTANTIALLY SIMILAR
INVESTMENT OBJECTIVES, POLICIES AND STRATEGIES AS THE BARR ROSENBERG MARKET
NEUTRAL FUND. THIS INFORMATION DOES NOT REPRESENT ACTUAL PERFORMANCE OF THE
BARR ROSENBERG MARKET NEUTRAL FUND NOR IS IT INDICATIVE OF FUTURE
PERFORMANCE. PLEASE REFER TO THE PROSPECTUS FOR INFORMATION ABOUT THE
DIFFERENCES BETWEEN SUCH PRIVATE ACCOUNTS AND THE BARR ROSENBERG MARKET
NEUTRAL FUND.
CERTAIN TERMS THAT ARE INITIALLY CAPITALIZED IN THIS APPENDIX ARE DEFINED
IN THE GLOSSARY. PLEASE READ THE GLOSSARY CAREFULLY.
A-1
<PAGE>
SELECTED HIGHLIGHTS
A-2
<PAGE>
Background on RIEM (1)
- - Barr M. Rosenberg (2) - over 25 years' experience in developing valuation
and risk models
- - Quantitative (3) investment approach
- - Over $7 billion in assets under management
- - Founded in 1985
- - Offices in Orinda (CA), London, Tokyo and Singapore
- ------------------------------------
(1)Rosenberg Institutional Equity Management, the investment adviser to the Barr
Rosenberg Market Neutral Fund and Barr Rosenberg Double Alpha Market Fund, is
referred to herein as "RIEM," "Rosenberg" or the "Manager."
(2)Barr M. Rosenberg is Managing General Partner and Chief Investment Officer of
RIEM.
(3)Certain terms that are initially capitalized are defined in the Glossary.
Please read the Glossary carefully.
A-3
<PAGE>
Potential Benefits of a Market Neutral Strategy
- - Market Neutral(4)
- Potential for:
- higher return as a substitute for fixed income
- positive return even in down equity markets
- superior Risk/return trade-off
- Portable Alpha (use of futures provides exposure to any asset class)
- - Equitized Market Neutral
- Alternative to core (large stock) manager:
- Benefits from valuation inefficiencies by stock selection
throughout all capitalization sectors
- ------------------------------------
(4) Certain terms that are initially capitalized in this Appendix are defined
in the Glossary. Please read the Glossary carefully.
A-4
<PAGE>
What is Market Neutral?
- - An investment strategy that seeks superior(5) performance by simultaneously
combining and balancing a Long and a Short component while attempting to
neutralize the impact of the stock market.
- Stocks that are purchased comprise the Long component.
- Stocks that are borrowed and then sold comprise the Short component.
- ------------------------------------
(5) Superior performance relative to an appropriate Benchmark. T-bills are a
common Benchmark for Market Neutral strategies.
A-5
<PAGE>
Key Features of Market Neutral
- - Simultaneously combines Long and Short components of equivalent dollar
value
- - Returns come from the differential performance between the Long and Short
components
- - Returns should not be tied to overall stock market performance
- - Returns driven by stock selection
A-6
<PAGE>
Example
Assumptions: $100 million invested in portfolio
Long component outperforms Short component by 10%(6)
- - Market up 15%
- Fund's Long component up by 20%
- Fund's Short component up only 10%
<TABLE>
<S> <C>
Long component plus gains = $ 120 million
Short component's increased liability = $ - 110 million
-----------------
$ 10 million
increase in net
portfolio value
(plus net interest
on cash)
</TABLE>
- - Market down 15%
- Fund's Long component down only 10%
- Fund's Short component down 20%
<TABLE>
<S> <C>
Long component minus losses = $ 90 million
Short component's decreased liability = $ - 80 million
-----------------
$ 10 million
increase in net
portfolio value
(plus net interest
on cash)
</TABLE>
- ------------------------------------
(6) This example shows the results if the Long component outperforms the Short
component by 10%. However, if the Short component outperformed the Long
component by 10%, the portfolio in this example would lose $10 million in value
(less the interest on cash).
A-7
<PAGE>
Rosenberg Market Neutral Strategy Portfolio Characteristics as of
3/31/98 (7)
- - 435 Long Positions
- - 560 Short positions
- - Largest 10 Long Positions represent 13.9% of the portfolio
- - Largest 10 Short positions represent 11.5% of the portfolio
- - Average annual portfolio turnover for last 3 years for Longs: 139%
- - Average annual portfolio turnover for last 3 years for Shorts: 89%
- ------------------------------------
(7) The Rosenberg Market Neutral Strategy Portfolio is a composite of all
U.S. accounts managed by RIEM employing a strategy using offsetting
long/short equity holdings and is weighted by the value of each account. As
of March 31, 1998, there were thirteen accounts in such composite. The
composite includes the Barr Rosenberg Market Neutral Fund (inception date
December 16, 1997).
A-8
<PAGE>
Return vs. Risk for Selected Investment Alternatives
Five Years Ended March 31, 1998
<TABLE>
<CAPTION>
Annualized Standard Deviation of
Annualized Monthly
Return (%) Return (%)
<S> <C> <C>
U.S. Large Company Stocks 22.4 11.1
U.S. Small Company Stocks 20.3 13.4
Long-Term Corporate Bonds 8.3 7.0
Long-Term Government Bonds 9.4 8.9
Intermediate-Term Government Bonds 5.6 7.6
U.S. Treasury Bills 4.7 1.1
Rosenberg Market Neutral Strategy 12.2 5.6
</TABLE>
Return vs. Risk for Selected Investment Alternatives Notes
Returns: Annualized total return of the data series described in a subsequent
exhibit (page A-11) for the five years ended March 31, 1998. The performance
of the Rosenberg Market Neutral Strategy presented is the performance (net of
2% annual fees) of a composite of all U.S. accounts managed by RIEM employing
a strategy using offsetting long/short equity holdings and is weighted by the
value of each account. Performance is presented net of 2% annual fees
because such fees represent the expenses of Institutional Shares of the Barr
Rosenberg Market Neutral Fund. As of March 31, 1998, there were thirteen
accounts in such composite. The composite includes the Barr Rosenberg Market
Neutral Fund from its inception in December 16, 1997.
Risk: The annualized Standard Deviation of the monthly total returns of the data
series described in a subsequent exhibit (page A-11) for the five years ended
March 31, 1998.
Performance calculations meet AIMR standards.
Past performance is no guarantee of future performance.
A-9
<PAGE>
Return vs. Risk for Selected Investment Alternatives
January 1926 - March 1998
<TABLE>
<CAPTION>
Annualized Standard
Annualized Return (%) Deviation of Monthly Return (%)
--------------------- -------------------------------
<S> <C> <C>
U.S. Large Company Stocks (8) 11.2 20.3
U.S. Small Company Stocks 12.8 33.9
Long-Term Corporate Bonds 5.7 8.7
Long-Term Government Bonds 5.2 9.2
Intermediate-Term Government Bonds 5.3 5.7
U.S. Treasury Bills 3.8 3.2
</TABLE>
- ------------------------------------
(8) The performance of these asset classes over the last 5 years has, in some
cases, been significantly different from the long-term performance quoted in
this exhibit. See page A-9.
A-10
<PAGE>
Return vs. Risk for Selected Investment Alternatives Notes
Return: Annualized total return of standard asset classes. Stock, bond and
T-Bill information is based on historical data from January 1926 - March 1998:
U.S. LARGE COMPANY STOCKS: total return of the S&P 500 Index.
U.S. SMALL COMPANY STOCKS: 1926 - 1981 based on historical series developed
by Professor Rolf W. Banz composed of the fifth quintile by capitalization of
the New York Stock Exchange (NYSE), rebalanced every five years. 1982 - 1998
based on the total return of the Dimensional Fund Advisors (DFA) Small
Company 9/10 Fund, a market-value-weighted index fund tracking the ninth and
tenth deciles (fifth quintile) by capitalization of the NYSE, the American
Stock Exchange, and the over-the-counter (OTC) market.
LONG-TERM CORPORATE BONDS: 1926 - 1945 based on Standard & Poor's High-Grade
Corporate Composite Yield, assuming a 4 percent coupon and 20-year maturity.
1946 - 1968 based on backdating of Salomon Brother's Long-Term High-Grade
Corporate Bond Index using similar methodology to the 1969 - 1996 period. 1969
- - 1998 based on Salomon Brothers Long-Term High-Grade Corporate Bond Index.
LONG-TERM GOVERNMENT BONDS: 1926 - 1976 based on total returns for long-term
government bonds obtained from the Center for Research in Security Prices (CRSP)
at the University of Chicago Graduate School of Business. 1977 - 1998 based on
total returns on long-term government bonds constructed with data from the WALL
STREET JOURNAL.
INTERMEDIATE-TERM GOVERNMENT BONDS: 1926 - 1933 based on estimates of five-year
bond Yields from Thomas S. Coleman, Lawrence Fisher, and Roger G. Ibbotson,
HISTORICAL U.S. TREASURY YIELD CURVES: 1926 - 1992. 1934 - 1986 based on total
returns for intermediate-term government bonds obtained from CRSP at the
University of Chicago. 1987 - 1998 based on total returns on intermediate-term
government bonds calculated from data from the WALL STREET JOURNAL.
U.S. TREASURY BILLS: 1926 - 1976 based on data from CRSP at the University of
Chicago. 1977 - 1998 based on data from the WALL STREET JOURNAL.
Risk: The Standard Deviation of the annualized total returns of the data series
described above measured over the time periods described above. Standard
Deviation is a measure of the dispersion of returns around an average or
expected value and is a common measure of Risk. See page A-42.
Past performance is no guarantee of future performance.
A-11
<PAGE>
Components of Risk
Units of Variance (% to the power of 2) and as Percentage of Total Risk
<TABLE>
<CAPTION>
Rosenberg
Stocks in the Selected Market Neutral
S&P 500 Index (9) Stock Portfolios (10) Strategy Portfolio (11)
------------- ---------------- ------------------
Variance Total Risk Variance Total Risk Variance Total Risk
<S> <C> <C> <C> <C> <C> <C>
Residual Specific Risk 174.8 40% 20 12% 9.8 20%
Residual Common Factor Risk 131.1 30% 20 12% 39.2 80%
Systematic Risk 131.1 30% 131.1 76% 0.0 0%
</TABLE>
- -------------------
(9) Source: The reported total Variance for a Typical Individual Stock is the
average annual Variance of the stocks in the S&P 500 Index for the period
January 1993 through December 1997 as calculated by Rosenberg Institutional
Equity Management. The percentage of total Variance for each component of Risk
is from BARRA, THE UNITED STATES EQUITY MODEL HANDBOOK, 1995.
(10) The reported total Variance is derived from information obtained by
Rosenberg from a random sampling of Form 13F reports filed with the
Securities and Exchange Commission.
(11) For illustrative purposes the expected Standard Deviation (total Risk) for
the Rosenberg Market Neutral Strategy Portfolio is assumed to be 7%. (See page
A-22 for historical results.) Actual results may differ. Other Market Neutral
strategies may have different levels of expected Standard Deviation.
A-12
<PAGE>
Components of Risk Notes
Risk, as measured by the Variance of returns, can be broken up into several
components. The components of Risk displayed in this chart are:
RESIDUAL SPECIFIC RISK: Risk arising from attributes that are unique to a
specific company (e.g., company management.)
RESIDUAL COMMON FACTOR RISK: Risk common to a group of stocks, but not to the
overall market (e.g., industry Risk.)
SYSTEMATIC RISK: Risk common to all stocks (e.g., changes in the general
economy.)
The Risk for an individual stock is comprised of Residual Specific Risk,
Residual Common Factor Risk and Systematic Risk. By combining individual stocks
into a diversified portfolio, total Risk can be greatly reduced by largely
eliminating Residual Specific Risk and Residual Common Factor Risks. Thus, the
Risk in a diversified portfolio comes primarily from Systematic Risk. In a
Market Neutral portfolio like Rosenberg's, total Risk can be reduced even
further by forming Long and Short portfolios with offsetting levels of
Systematic Risk. With offsetting levels of Systematic Risk, the combined
Long-Short portfolio should contain almost no Systematic Risk. The Risk left in
a Market Neutral portfolio like Rosenberg's should be comprised of Residual
Common Factor Risk (the net exposure to these common factors will not always be
exactly zero) and a small amount of Residual Specific Risk.
A-13
<PAGE>
Selected Risks
- - Mis-matching Long/Short components
- - Short selling
- - Mis-measurement of Beta
- - Poor stock selection
A-14
<PAGE>
Risk of Mis-matching Long/Short Components
- - It is unlikely that there will ever be a perfect Hedge.
Unlike matter and anti-matter, there is not Stock A and anti-Stock A.
- - There is a technique known as pair-wise Hedging, generally implemented
along industry lines: e.g., General Motors is bought and Chrysler is sold
Short. However, it is rare for two paired stocks to effectively Hedge all
factors of Risk. Most stocks have exposures to a number of different Risk
characteristics.
- - A manager will intentionally accept a certain amount of Risk in order to
exploit the opportunities that arise from the identification of overvalued
and undervalued stocks.
- - The key is, at the portfolio level, to be aware of the active Risk and
balance it against the opportunities for superior performance.
A-15
<PAGE>
Industry Diversification: Shorts vs. Longs
Rosenberg Market Neutral Strategy Portfolio
<TABLE>
<CAPTION>
Short Position Long Position Net Exposure*
% of portfolio value % of portfolio value
<S> <C> <C> <C>
Aluminum 0.22 1.04 0.82
Iron and Steel 1.18 2.23 1.05
Precious Metals 3.20 0.01 -3.19
Misc. Mining, Metals 2.22 1.69 -0.53
Coal & Uranium 0.31 0.18 -0.12
International Oil 0.84 0.00 -0.84
Dom Petroleum Reserves 3.73 0.84 -2.89
For Petroleum Reserves 0.06 0.45 0.38
Oil Refining, Distribution 1.18 0.83 -0.35
Oil Service 0.61 2.54 1.93
Forest Products 0.68 0.66 -0.02
Paper 1.06 2.75 1.69
Agriculture, Food 2.46 1.79 -0.67
Beverages 0.05 0.15 0.11
Liquor 0.64 0.17 -0.47
Tobacco 0.00 0.00 0.00
Construction 1.75 3.09 1.34
Chemicals 4.84 2.27 -2.57
Tire & Rubber 0.54 0.35 -0.19
Containers 0.40 0.53 0.13
Producers Goods 6.61 5.55 -1.06
Pollution Control 0.03 1.16 1.13
Electronics 3.35 4.21 0.86
Aerospace 0.10 0.93 0.83
Business Machines 3.49 4.00 0.52
Soaps, Houseware 0.72 1.06 0.34
Cosmetics 0.02 0.14 0.12
Apparel, Textiles 2.81 3.58 0.77
Photographic, Optical 0.08 0.30 0.23
Consumer Durables 1.92 2.42 0.50
Motor Vehicles 0.70 3.41 2.71
Leisure, Luxury 3.18 1.21 -1.97
Health Care (Non-Drug) 3.18 5.42 2.24
Drugs, Medicine 4.90 1.47 -3.44
Publishing 1.21 1.09 -0.12
Media 4.61 1.76 -2.85
Hotels, Restaurants 1.14 3.04 1.90
Trucking, Freight 0.45 0.61 0.16
Railroads, Transit 0.87 0.66 -0.21
Air Transport 0.42 0.79 0.37
Transport by Water 0.55 0.40 -0.15
Retail (Food) 0.87 0.19 -0.69
Retail (All Other) 4.83 6.63 1.79
A-16
<PAGE>
Telephone, Telegraph 2.94 1.58 -1.36
Electric Utilities 4.48 1.92 -2.56
Gas Utilities 0.93 0.76 -0.17
Banks 1.23 1.66 0.44
Thrift Institutions 1.25 2.22 0.97
Misc. Finance 2.83 1.38 -1.45
Life Insurance 0.12 0.19 0.07
Other Insurance 1.55 0.90 -0.65
Real Property 1.67 4.48 2.81
Mortgage Financing 0.19 0.23 0.04
Services(12) 10.52 12.88 2.36
Miscellaneous 0.33 0.23 -0.10
</TABLE>
Data in boxes*:
Iron and Steel Weight in Short Portfolio: 1.2%
Iron and Steel Weight in Long Portfolio: 2.2%
Total Portfolio Net Exposure to Iron and Steel: 1.0%
* Numbers have been rounded
A-17
<PAGE>
Industry Diversification: Shorts vs. Longs
Rosenberg Market Neutral Strategy Portfolio Notes
One of the targets for Rosenberg's Market Neutral portfolios is to have
offsetting industry exposures in the Long and Short portfolio components.
The chart shows the industry positions of the Long and Short components of
the Barr Rosenberg Market Neutral Strategy Portfolio as of March 31, 1998.
The composite portfolio's Long Position in each industry is shown in the bars
extending to the right and the Short position in the bars extending to the
left. The net industry exposure of the portfolio (the Long Position less the
Short position) is shown by the yellow dot. For example, in Iron and Steel
stocks, the portfolio has a 1.2% Short and a 2.2% Long Position, for a net
exposure to the Iron and Steel industry of +1.0%. The net exposure to an
industry is expected to be on average, over time, close to zero, but at any
given point the net exposure typically can range from (plus or minus) 5%.
This non-zero net industry exposure is the result of the Manager making
decisions about the trade-off between the potential return from an individual
stock and the Risk of creating a portfolio net exposure to an industry.
Example of offsetting industry exposures: part of the Long Position in
trucking, freight is offset by the Short position in railroads, transit.
(12) The Services category includes such miscellaneous industries as:
Business and Information, Software and Data Processing, Consulting,
Engineering, Research and Development, Personal Services and Automated
Services.
A-18
<PAGE>
Active Exposure to Risk Indexes
<TABLE>
<CAPTION>
Active Exposure
<S> <C>
Variability in Markets -0.24
Success 0.41
Size 0.19
Trading Activity -0.06
Growth -0.50
Earnings/Price 0.92
Book/Price 0.51
Earnings Variation -0.38
Financial Leverage -0.48
Foreign Income 0.06
Labor Intensity 0.22
Yield 0.01
</TABLE>
Active Exposure = Portfolio Exposure minus Benchmark Exposure
A-19
<PAGE>
Active Exposure to Risk Indexes Notes
Risk Indexes, also called common factors of Risk, are Risks that are common to a
group of stocks, but not the overall market. This chart uses 12 of the widely
used BARRA Risk factors (see below for definitions). Since the components of
the Risk factors are measured in different units, one must use a standardized
measure to allow the components to be aggregated into a single Risk factor
measure. This standardized measure is the Standard Deviation of the individual
components measured relative to a universe of large capitalization stocks. The
active exposures shown in this chart represent the number of Standard Deviation
units by which the Rosenberg Market Neutral Strategy's exposures to Risk factors
differs from zero. For a given Risk factor, if the bar is to the right (left),
Rosenberg has an exposure greater (less) than zero. The chart displays the
active exposure to Risk factors as of March 31, 1998 for the Rosenberg Market
Neutral Strategy.
Definitions of Risk Indexes (13): (See page A-95 for descriptors used in Risk
Indexes)
VARIABILITY IN MARKETS: The Risk of a company as perceived by the market. If
the market was completely efficient, then all information on the state of the
company would be reflected in the stock price. In this measure historical
prices and other market variables are used in an attempt to reconstruct the
state of the company. The descriptors include historical measures of Beta and
residual Risk and various liquidity measures.
SUCCESS: How successful has the company been, and how does the market value the
company? If investors are optimistic about future prospects and the company has
been successful in the past, then the implication is that the firm is sound and
that future Risk is likely to be lower. The descriptors of success include:
relative strength, historical Alpha, recent earnings change, IBES earnings
increase, dividend cuts (five years), growth in earnings per share.
SIZE: A size index based on assets and capitalization. The descriptors of size
include: capitalization, total assets and indicators of earnings history.
TRADING ACTIVITY: Indicators of share turnover. The descriptors include: share
turnover for several time periods, common stock price, number of IBES analysts
covering the company and trading volume/Variance.
GROWTH: To the extent that a company attempts to provide returns to
stockholders by an aggressive growth strategy requiring the initiation of new
projects with uncertain cash flows (rather than the more stable cash flows from
existing operations) the company is likely to be more Risky. The descriptors of
growth include: growth in assets, payout and dividend policy, earnings-to-price
ratio and earnings and capital structure change.
EARNINGS/PRICE: The current, trailing five-year, and IBES analysts forecasted
earnings-to-price ratio.
BOOK/PRICE: The current book-to-price ratio.
- -------------------
(13) Rudd, Andrew and Clasing Jr., Henry K., MODERN PORTFOLIO THEORY: THE
PRINCIPLES OF INVESTMENT MANAGEMENT, pp. 112-113, 1988.
Rosenberg, Barr, Kenneth Reid and Ronald Lanstein, "Persuasive Evidence of
Market Inefficiency," The Journal of Portfolio Management, Spring 1985,
pp. 9-16.
BARRA literature
A-20
<PAGE>
EARNINGS VARIATION: A measure of the unpredictable variation in earnings over
time. The descriptors include: Variance of earnings and cash flows, Standard
Deviation of IBES earnings forecasts divided by price and extraordinary items.
FINANCIAL LEVERAGE: The more highly leveraged the financial structure, the
greater the Risk to common shareholders. The descriptors include: debt-to-asset
ratio, book value of leverage, interest rate sensitivity.
FOREIGN INCOME: A measure of the dependency of a company to exports as
indicated by the level of foreign operating income.
LABOR INTENSITY: A measure of the mix of capital and labor used by a company.
The descriptors include: net plant and equipment, inflation adjusted plant and
equipment and labor share.
YIELD: A prediction of a company's common stock dividend Yield.
A-21
<PAGE>
Rosenberg Market Neutral Strategy Risk (14)
ANNUAL STANDARD DEVIATION
<TABLE>
<S> <C>
From Inception (March 1, 1989 - March 31, 1998) = 5.27%
Five Years Ended March 31, 1998 = 5.63%
Three Years Ended March 31, 1998 = 6.53%
</TABLE>
RANGE OF TOTAL RETURN OVER MOVING 12-MONTH PERIODS
<TABLE>
<CAPTION>
Rosenberg Date Range
--------- ----------
<S> <C> <C>
LOWEST -2.87% Sept 89 - Aug 90
HIGHEST 28.10% Jan 96 - Dec 96
</TABLE>
- ---------------
(14) The two measures of the Risk of Rosenberg's Market Neutral Strategy used in
this exhibit are the Standard Deviation of the monthly total returns of the
Rosenberg Market Neutral Strategy and the range of total return measured over
moving 12-month periods. First, the annual Standard Deviation of the monthly
total return of Rosenberg's Market Neutral Strategy is shown for the period from
the inception of the Strategy in March 1, 1989 through March 31, 1998 and for
the three- and five-year periods ending March 31, 1998. In addition, the
lowest and highest total returns of the Rosenberg Market Neutral Strategy in
any moving 12-month period from the inception of the Strategy is shown.
The T-bill return during the lowest period (September 1989 - August 1990) was
8.03% and during the highest period (January 1996 - December 1996) 5.14%.
Performance calculations meet AIMR standards.
Past performance is no guarantee of future performance.
A-22
<PAGE>
Risks of Short Selling
PROBLEMS
- - No supply for a particular stock
- - Short Execution hindered by chaotic market
- - Short Squeeze
SOLUTIONS
- - Have many stock positions and no large single positions. Restrict Shorts
to those stocks where the Prime Broker is confident that they are
available.
- - Have a well-diversified Short portfolio already in place. Use an
Optimization process which permits flexibility in substituting stocks for
the Short portfolio, depending on what is available. Be able to respond
real time.
- - Monitor supply of stock available and outstanding Short sales.
A-23
<PAGE>
Rosenberg Experience (15)
Stocks with ample supply: average list of Short candidates from Rosenberg's
Prime Broker is over 3,800 stocks (16)
Rosenberg's largest Short position: about 1.1% of Short portfolio (16)
Rosenberg's typical Short position: 1/4 of 1% of Short portfolio (16)
In 9 years of Rosenberg managing Market Neutral portfolios, the largest
percentage appreciation of any Short position was 406% relative to the
market. This position represented less than 0.18% of the portfolio's net
asset value. The negative impact to total return was less than 0.75%.
- ---------------
(15) Based on Rosenberg Market Neutral Strategy
(16) As of March 31, 1998
A-24
<PAGE>
Risk of Mis-measurement of Beta
- - Beta is an estimate or measure of Systematic Risk or market-related Risk.
- - Systematic Risk for an individual stock is usually about 30% of the stock's
total Risk. Beta only measures this 30% of the Risk.
- - 70% of the Risk of an individual stock is Residual Specific Risk and
Residual Common Factor Risk, which can be diversified away. To the extent
that Risk is diversified away, Beta will typically measure over 90% of the
Risk of a portfolio.
- - Because the measurement of Beta is only an estimate, there will be
differences in the quality - and hence the accuracy - of estimates of Beta.
A-25
<PAGE>
Measuring a Stock's Ex Ante Beta
- - TYPICAL METHOD:
- Regression based on most recent 60 months of returns.
- - ROSENBERG METHOD:
- Based on the company's current composition across various industries.
- Use 13 Risk measures (e.g. book/price, financial leverage, foreign
income) and 38 industries to calculate each factor's contribution to
the stock's expected Beta.
A-26
<PAGE>
Rosenberg Results
- - Rosenberg's Market Neutral Strategy has had an (ex post) Beta relative to
the S&P 500 from inception on March 1, 1989 through March 31, 1998 of -0.06.
- - Average Beta relative to the S&P 500 measured over rolling 24-month periods
is -0.09 with a Standard Deviation of 0.14.
Rosenberg Results Notes
Beta is a measure of the changes in an asset's return in relation to changes in
the return of a broad portfolio of assets or the "market." In this exhibit, the
Beta of Rosenberg's Market Neutral Strategy is measured relative to the S&P 500
Index. The historical Beta of the Rosenberg Market Neutral Strategy from its
inception on March 1, 1989 through March 31, 1998 was measured. In addition,
the Beta of the Rosenberg Market Neutral Strategy over rolling 24-month
periods was measured. In both cases, the measured Beta was not statistically
different from zero, indicating that the Rosenberg Market Neutral Strategy
has historically had almost no exposure to the equity market (as measured by
the S&P 500.) For a strategy to have a Beta of zero indicates that the return
of the market, either positive or negative, has no impact on the returns of
that strategy.
A-27
<PAGE>
Risk of Poor Stock Selection
PROBLEMS
- - Failure to distinguish between overvalued and undervalued stocks.
- - Worse still, what if the Longs don't appreciate as much as the Shorts? Or
the longs decrease in value more than the shorts?
- - Does the size of Short portfolios under management indicate that the manager
is likely to devote an effort to identify stocks to be sold short comparable
to the effort devoted to identifying stocks to be purchased? Are Shorts
a natural by-product of manager's analysis? (See footnote 45, page A-90)
SOLUTION
- - Analysis of manager's investment process and logic as well as empirical
evidence to validate it.
A-28
<PAGE>
Batting Average by Alpha Bucket
<TABLE>
<CAPTION>
Short and Long Positions Grouped by Alpha Percent Correct
<S> <C>
Most Negative 69.7%
63.1%
57.5%
53.7%
52.1%
50.8%
53.4%
55.6%
57.6%
60.9%
Most Positive 66.6%
</TABLE>
Overall Batting Average: 57.3%
A-29
<PAGE>
Batting Average by Alpha Bucket Notes
The batting average methodology is designed to evaluate the predictive power of
the Rosenberg models. The idea is to determine whether securities that
Rosenberg predicted would outperform actually outperformed over the subsequent
12 months and whether securities that Rosenberg predicted would underperform
actually underperformed over the subsequent 12 months. A correct classification
in each of these cases is considered a hit. For each month since April 1, 1993,
Rosenberg computed the percent of predictions that were hits. The average of
this percentage for the period April 1, 1993 through December 31, 1997 is then
computed and presented in the batting average exhibit.
In order to do this analysis, Rosenberg divided securities into 5 capitalization
groups. The following analysis was performed for each capitalization group.
Rosenberg ranked securities according to the output of the models from those
Rosenberg expected to perform the best to those Rosenberg expected to perform
the worst. Then, the securities in the top half of this ranked list were
compared to the ranked list of subsequent returns for each security. If a
security fell in the top half of both the predicted list and subsequent return
list, then it was a hit. If a security fell in the bottom half of each list,
then it was also a hit. Rosenberg included in the analysis all securities for
which there was data as of the beginning of the month to produce results that
were free of Survivorship Bias.
A-30
<PAGE>
Sources of Return of Market Neutral
Gains when market Interest return
goes up
Stock Selection Return Money Market
Long Component Short Component + T-Bills = TOTAL RETURN
(Undervalued) (Overvalued)
Stock Selection Return
Gains when market Interest return
Goes down
A-31
<PAGE>
Rosenberg Market Neutral Strategy Performance Summary
Average Annual Returns for Years Ended March 31, 1998
<TABLE>
<CAPTION>
One Three Five 5-Year
Year Years Years Tracking Error (17)
---- ----- ----- -------------------
<S> <C> <C> <C> <C>
Rosenberg (18) 9.09% 16.76% 12.19% --
90 Day T-bill 5.23% 5.28% 4.75% --
Alpha or Value Added (19) 3.86% 11.48% 7.44% 5.6%
</TABLE>
- --------------------------------
(17) 5-Year Tracking Error is a measure of the volatility of the Alpha or
value added. Specifically, it is the annual standard deviation of the Alpha
or value added for the 5-years ended March 31, 1998.
(18) The Rosenberg Market Neutral Strategy
(19) Alpha, or value added is the difference between the Rosenberg Market
Neutral Strategy's performance and the return on a 90-day T-bill for the
specified time period.
Performance calculations meet AIMR standards.
Past performance is no guarantee of future performance.
A-32
<PAGE>
Market Performance - Up and Down Months
<TABLE>
<CAPTION>
Rosenberg Market Market
Neutral Strategy Return(20) Return
----------------------- ------
<S> <C> <C>
Average Monthly Return in Up Markets .78% 3.28%
(3/89 - 3/98)
Average Monthly Return in Down Markets .94% -2.67%
(3/89 - 3/98)
</TABLE>
- --------------------------------
(20) The exhibit reports the average monthly performance of Rosenberg's Market
Neutral Strategy. Months where the return on the S&P 500 Index was greater than
zero are up markets and months where the return on the S&P 500 Index was less
than zero are down markets. The period covers March 1, 1989 to March 31,
1998. Out of the 109 months in this time period there were 77 "up" months and
32 "down" months.
Performance calculations meet AIMR standards.
Past performance is no guarantee of future performance.
A-33
<PAGE>
What Happened to the Rosenberg Market Neutral Strategy in October 1997?
- - On October 27, 1997
- S&P 500 was down: -6.9%
- Russell 2000 (21) was down: -6.1%
- Rosenberg Market Neutral Strategy was up: +0.29%
- - Between October 22, 1997 - October 27, 1997
- S&P 500 was down: -9.8%
- Russell 2000 was down: -8.4%
- Rosenberg Market Neutral Strategy was up: +0.91%
- - Between October 1, 1997 - October 31, 1997
- S&P 500 was down: -3.3%
- Russell 2000 was down: -4.4%
- Rosenberg Market Neutral Strategy was up: +2.0%
- ----------------------------------
(21) The Russell 2000 is an index that measures the performance of the 2,000
smallest companies in the Russell 3000 Index, and which represents approximately
10% of the total market capitalization of the Russell 3000 Index.
Performance calculations meet AIMR standards.
Past performance is no guarantee of future performance.
A-34
<PAGE>
Why is Rosenberg Qualified to Manage Market Neutral?
- - Risk control capability
- - Stock selection skill
- Both overvalued and undervalued stocks
- - Ability to Short
- - Experience
- - Capacity
A-35
<PAGE>
Rosenberg Market Neutral Strategy Profile
March 31, 1998
<TABLE>
<CAPTION>
ASSET CLASS BENCHMARK COMPARISONS: Standard Sharpe
Performance(23) Deviation Ratio(24)
1 yr. 3 yr. 5 yr.
----- ----- -----
<S> <C> <C> <C> <C> <C>
ROSENBERG MARKET NEUTRAL STRATEGY 9.09 16.76 12.19 5.6(25) 1.33
INTERMEDIATE-TERM GOVERNMENT BONDS 11.16 7.81 5.59 7.5(26) 0.11
90-DAY T-BILL 5.23 5.28 4.75 1.1(26) NA
BETA -0.06(27)
</TABLE>
Barr Rosenberg Market Neutral Fund
MORNINGSTAR ASSET CLASSIFICATION(22): Domestic Hybrid
DESIGNATED BENCHMARK: 90 Day T-bills
EXPENSE RATIO (SEE PROSPECTUS FOR MORE DETAIL): 2.00% (Institutional Shares)
- --------------------------------
(22) Morningstar Asset Classification: A Mutual fund rating and information
service. The classification of "domestic Hybrid" is defined by Morningstar as a
portfolio which has stock holdings comprising more than 20% of the portfolio's
value but less than 70%.
(23) See page A-32.
(24) The Sharpe Ratio is the difference between an investment portfolio's return
and the risk free return divided by the standard deviation of the investment
portfolio's returns. This is for the five years ended March 31, 1998.
(25) For the five years ended March 31, 1998. See page A-22.
(26) For the five years ended March 31, 1998.
(27) Beta of Rosenberg Market Neutral Strategy from inception on March 1, 1989
through March 31, 1998. See page A-27.
Past performance is no guarantee of future performance.
A-36
<PAGE>
Potential Benefits of Rosenberg Market Neutral
- - Returns should not depend on the systematic returns of the underlying asset
class
- Potential to provide positive excess return even during down markets
- - More flexibility for plan sponsor/client
- Pay only for active decisions not diversification or general market
appreciation
- Insights of overvaluation can be exploited as well as insights of
undervaluation
- Can Equitize to create custom systematic exposure (Portable Alpha)
- - Large selection universe allows for more effective Risk control
- Ability to identify Long and Short stocks is natural result of
Rosenberg valuation process
- - Potential for superior risk/return trade-off
- Substantial Sharpe Ratio as compared to, and negligible Correlation
with, other asset classes
- May improve portfolio risk/return profile (all Risk is diversifiable
Risk)
- - Significant capacity
- Large number of issues held
- Capitalization-graduated investment weightings
- Accommodative Trading
A-37
<PAGE>
INTRODUCTION TO MARKET NEUTRAL INVESTING
A-38
<PAGE>
Four Concepts
1. SHORT SALE: Borrow a stock with the agreement to return it in the future,
thereby creating a liability. Sell the borrowed stock now, expecting to
buy it back to return to the lender at a lower price in the future. The
liability is the cost of buying the stock to return it to the lender. Thus
the amount of the liability fluctuates with the price of the stock.
2. BETA: A measure of the volatility of a stock or portfolio relative to the
movements in the overall market as measured by some index (e.g., S&P 500
Index).
3. ALPHA: The excess return earned on a stock or portfolio above the return
one would have expected given the level of Risk of the stock or portfolio.
It is a measure of how much value, if any, a portfolio manager has added
due to his skill.
4. RISK: A common measure of Risk is Variance. The larger the range of
possible outcomes, the larger will be the value of the Variance. An
investment with a zero Variance will have no Risk - there is only one
possible outcome. The Standard Deviation is the square root of the
Variance. It is a useful measure because 2/3 of the outcomes should fall
within plus/minus one Standard Deviation. 95% of the outcomes should fall
within plus/minus two Standard Deviations.
A-39
<PAGE>
Example
Assumptions: $100 million invested in portfolio
Long component outperforms Short component by 10%(28)
- - Market up 15%
<TABLE>
<CAPTION>
<S> <C>
Because of skill, manager's Long component outperforms market and is up by 20%
Because of skill, manager's Short component underperforms market and is up only 10%
Value of Long portfolio = $100 million + 20% x $100 million = $ 120 million
Value of Short portfolio (liability) = $100 million + 10% x $100 million = $ - 110 million
---------------
$ 10 million increase
in net portfolio value
(plus net interest on
cash)
- - Market down 15%
Because of skill, manager's Long component outperforms market and is down only 10%
Because of skill, manager's Short component underperforms market and is down 20%
Value of Long component = $100 million - 10% x $100 million = $ 90 million
Value of Short component (liability) = $100 million - 20% x $100 million = $ - 80 million
---------------
$ 10 million increase in
net portfolio value (plus
net interest on cash)
</TABLE>
- ---------------------------------
(28) This example shows the results if the manager has stock selection skill so
that the Long component outperforms the Short component by 10%. However, if the
manager did not have such skill so that his Short component outperformed his
Long component by 10%, the portfolio in this example would lose $10 million in
value (less the interest on cash).
A-40
<PAGE>
Market Neutral Example (29)
Three Components of Return for a $1 Million Portfolio
-----------------------------------------------------
<TABLE>
<CAPTION>
<S> <C> <C>
Basic Investment Strategy In an Up Market In a Down Market
Invest $1 million in a "Longs" Make Money "Longs" Lose Money
diversified portfolio of
UNDERvalued stocks
+ + +
Sell Short a $1 million "Shorts" Lose Money "Shorts" Make Money
diversified portfolio of
OVERvalued stocks
+ + +
Invest the $1 million Money market return Money market return
from the Short sales from Short sale from Short sale
in money market proceeds proceeds
instruments
BASIC INVESTMENT UP MARKET SUMMARY DOWN MARKET SUMMARY
+/- 1) Gain/Loss on Longs - "Stock- + 1) Gain from Longs - 1) Loss on "Longs"
|- picking"
+/- 2) Gain/Loss on Shorts - Return - 2) Loss on Shorts + 2) Gain on Shorts
-
+ 3) Money Market Return |- "Base + 3) Money Market Return + 3) Money Market Return
------------------- - Interest" ------------------- -------------------
Return
= Total Return = Total Return in Up Market = Total Return in a Down Market
</TABLE>
- ---------------
(29) Gregory, Ken, Editor, NO LOAD FUND ANALYST, December 1997
A-41
<PAGE>
STANDARD DEVIATION
A common measure of Risk is the Standard Deviation of return around an
average annual return. This measure is calculated so that two-thirds of the
outcomes are likely to fall within one Standard Deviation; 95% of the outcomes
are likely to fall within 2 Standard Deviations; and 99% of the outcomes are
likely to fall within 3 Standard Deviations.
<TABLE>
<CAPTION>
Annual Standard
Deviation From
Asset Inception of Strategy
(3/1/89 - 3/31/98)
<S> <C>
S&P 500 12.2%
90-day T-bills 1.8%
Intermediate-Term Government Bonds 6.7%
Rosenberg Market Neutral Strategy 5.3%(30)
</TABLE>
- ---------------
(30) For the five years ended March 31, 1998, the Standard Deviation of the
Rosenberg Market Neutral Strategy was 5.6%. For the three years ended March
31, 1998, the Standard Deviation of the Rosenberg Market Neutral Strategy was
6.5%.
A-42
<PAGE>
SUBSTITUTING ROSENBERG MARKET NEUTRAL STRATEGY
IN A U.S. CORE PORTFOLIO CAN REDUCE RISK
<TABLE>
<CAPTION>
Percent of Combined Combined Portfolio
Portfolio invested Annual Standard Annual Standard
in Rosenberg's Deviation (S&P 500 Deviation (S&P
Market Neutral Strategy and Rosenberg's 500 and Standard
or Intermediate-Term Market Neutral Intermediate-Term Deviation of
Government Bonds Strategy) Government Bonds) S&P 500
<S> <C> <C> <C>
0 12.22 12.22 12.22
1 12.09 12.12 12.22
2 11.96 12.02 12.22
3 11.84 11.91 12.22
4 11.71 11.81 12.22
5 11.58 11.71 12.22
6 11.45 11.61 12.22
7 11.32 11.50 12.22
8 11.19 11.40 12.22
9 11.06 11.30 12.22
10 10.94 11.20 12.22
11 10.81 11.09 12.22
12 10.68 10.99 12.22
13 10.56 10.89 12.22
14 10.43 10.79 12.22
15 10.30 10.69 12.22
16 10.18 10.59 12.22
17 10.05 10.49 12.22
18 9.93 10.39 12.22
19 9.80 10.29 12.22
20 9.68 10.18 12.22
21 9.55 10.09 12.22
22 9.43 9.99 12.22
23 9.31 9.89 12.22
24 9.19 9.79 12.22
25 9.06 9.69 12.22
26 8.94 9.59 12.22
27 8.82 9.49 12.22
28 8.70 9.39 12.22
29 8.58 9.30 12.22
30 8.46 9.20 12.22
31 8.35 9.10 12.22
32 8.23 9.00 12.22
33 8.11 8.91 12.22
A-43
<PAGE>
34 8.00 8.81 12.22
35 7.88 8.72 12.22
36 7.77 8.62 12.22
37 7.65 8.53 12.22
38 7.54 8.43 12.22
39 7.43 8.34 12.22
40 7.32 8.24 12.22
41 7.21 8.15 12.22
42 7.10 8.06 12.22
43 6.99 7.97 12.22
44 6.88 7.87 12.22
45 6.78 7.78 12.22
46 6.67 7.69 12.22
47 6.57 7.60 12.22
48 6.47 7.51 12.22
49 6.37 7.42 12.22
50 6.27 7.33 12.22
51 6.17 7.25 12.22
52 6.08 7.16 12.22
53 5.98 7.07 12.22
54 5.89 6.99 12.22
55 5.80 6.90 12.22
56 5.72 6.82 12.22
57 5.63 6.73 12.22
58 5.55 6.65 12.22
59 5.47 6.57 12.22
60 5.39 6.49 12.22
61 5.31 6.41 12.22
62 5.24 6.33 12.22
63 5.17 6.25 12.22
64 5.10 6.17 12.22
65 5.03 6.10 12.22
66 4.97 6.02 12.22
67 4.91 5.95 12.22
68 4.86 5.88 12.22
69 4.81 5.81 12.22
70 4.76 5.74 12.22
71 4.71 5.67 12.22
72 4.67 5.60 12.22
73 4.63 5.53 12.22
74 4.60 5.47 12.22
75 4.57 5.41 12.22
76 4.55 5.35 12.22
77 4.53 5.29 12.22
A-44
<PAGE>
78 4.51 5.23 12.22
79 4.50 5.17 12.22
80 4.49 5.12 12.22
81 4.48 5.06 12.22
82 4.48 5.01 12.22
83 4.49 4.97 12.22
84 4.50 4.92 12.22
85 4.51 4.87 12.22
86 4.53 4.83 12.22
87 4.55 4.79 12.22
88 4.58 4.75 12.22
89 4.61 4.72 12.22
90 4.64 4.69 12.22
91 4.68 4.65 12.22
92 4.72 4.63 12.22
93 4.77 4.60 12.22
94 4.82 4.58 12.22
95 4.87 4.56 12.22
96 4.93 4.54 12.22
97 4.99 4.52 12.22
98 5.05 4.51 12.22
99 5.12 4.50 12.22
100 5.19 4.49 12.22
</TABLE>
Substituting Rosenberg Market Neutral Strategy in a U.S. Core Portfolio Can
Reduce Risk Notes
Standard Deviation of combined portfolio: The annualized Standard Deviations
of the portfolio combining U.S. Large Stocks (as represented by the S&P 500
Index) with various percentages of assets invested in Rosenberg's Market
Neutral Strategy or Intermediate-Term Government Bonds (see data series
descriptions on page A-11.) Information for the Rosenberg Market Neutral
Strategy is for the period from inception on March 1, 1989 to March 31, 1998.
The Variance of the portfolio is given by the formula:
2
(WEIGHT large stocks * VARIANCElarge stocks) +
2
(WEIGHT Rosenberg or intermediate bonds * VARIANCERosenberg or intermediate
bonds) +
(2* WEIGHTlarge stocks * WEIGHTRosenberg or intermediate bonds
*COVARIANCElarge stocks and Rosenberg or intermediate bonds)
The Standard Deviation of the portfolio is the square root of this Variance.
The Standard Deviation of a portfolio can decrease as assets that have negative
Correlation with the initial asset class are added to the portfolio. This chart
demonstrates that portfolio Risk has been reduced faster by adding Rosenberg's
Market Neutral Strategy to a U.S. Large Stock portfolio than by adding
Intermediate-Term Government Bonds. However past performance is no guarantee of
future performance.
Legend for chart:
U.S. Large Stocks represented by the S&P 500 Index.
A-45
<PAGE>
U.S. Intermediate-Term Government Bond data
Period under study: March 1989 through March 1998.
Notes on chart:
For example, the annual Standard Deviation of a portfolio invested 50% in large
stocks and 50% in intermediate-term government bonds is about 7.3%.
For example, the annual Standard Deviation of a portfolio invested 50% in large
stocks and 50% in Rosenberg's Market Neutral Strategy is about 6.3%.
A-46
<PAGE>
CORRELATIONS (31) OF ROSENBERG MARKET NEUTRAL STRATEGY
<TABLE>
<CAPTION>
ROSENBERG INTERMEDIATE-TERM
MARKET NEUTRAL GOVERNMENT BOND
ASSET CLASS STRATEGY CORRELATIONS CORRELATIONS
<S> <C> <C>
U.S. Treasury Bills -0.12 0.20
Intermediate-Term Government Bonds -0.02 NA
Long-Term Government Bonds 0.01 0.92
Long-Term Corporate Bonds -0.02 0.92
U.S. Large Company Stocks -0.15 0.41
U.S. Small Company Stocks -0.19 0.05
</TABLE>
Correlations of Rosenberg Market Neutral Strategy Notes
The exhibit reports the Correlation of the total returns of the Rosenberg
Market Neutral Strategy and Intermediate-Term Government Bonds with the total
returns of other asset classes for the period 3/1/89 - 3/31/98. The
descriptions of these asset classes are reported in the notes on page A-11.
- ---------------
(31) See Glossary.
A-47
<PAGE>
ROSENBERG MARKET NEUTRAL STRATEGY RETURNS
VS.
INTERMEDIATE-TERM GOVERNMENT BOND RETURNS
March 1989 through March 1998
<TABLE>
<CAPTION>
PERIOD LOWEST RETURN HIGHEST RETURN
------ ------------- --------------
Intermediate- Rosenberg Intermediate- Rosenberg
Term Market Neutral Term Market Neutral
Govt. Bonds Strategy Govt. Bonds Strategy
<S> <C> <C> <C> <C>
Any 3 months -6.08% -2.88% 7.90% 10.46%
Any 6 months -5.37 -2.64 11.72 16.75
Any 12 months -5.51 -2.87 16.80 28.10
</TABLE>
See notes to page A-11 for a description of the data series representing
Intermediate-Term Government Bonds.
Period covers inception of Rosenberg's Market Neutral Strategy on March 1, 1989
through March 31, 1998. The lowest (highest) returns are the lowest (highest)
total returns achieved for Intermediate-Term Government Bonds and Rosenberg
Market Neutral Strategy for rolling 3-month, 6-month, and 12-month periods
beginning March 1, 1989 and ending March 31, 1998.
Performance calculations meet AIMR standards.
Past performance is no guarantee of future performance.
A-48
<PAGE>
ON A RISK/RETURN BASIS, MARKET NEUTRAL CAN BE AN ATTRACTIVE INVESTMENT
ALTERNATIVE
- - Increased opportunity from Shorting
- - Risk
- - Return
A-49
<PAGE>
INCREASED OPPORTUNITY FROM SHORTING
A-50
<PAGE>
Increased Opportunity from Shorting:
Opportunities to Exploit Overvaluation
- - For companies in the top decile of forecasted earnings growth, 85/90% will
have their growth forecasts revised downward by those same analysts (32)
- - Within the group of companies that professional analysts forecast to have
the best increase in earnings, it turns out that on average the analysts'
forecasts are more than four times more optimistic than actual results (33)
- - Five-year investment returns are lowest for portfolios of high ROE (return
on equity) companies (34)
- ---------------
(32) From a study done by Rosenberg Institutional Equity Management based on
IBES data for the period 1985-1995 assuming investments on both a
capitalization-weighted and Equal-weighted basis. Deciles are based on a
ranking of 12 month earnings change.
(33) From a study done by Rosenberg Institutional Equity Management based on
IBES data for the period 1976-1995. Such group of companies consist of those
companies in the top quintile of forecasted twelve-month earnings change over
initial price. This ranking is a moving quarterly average for each quintile.
(34) From a study done by Rosenberg Institutional Equity Management based on
data derived from companies in Rosenberg's database for the period 1973-1995.
A-51
<PAGE>
Actual vs. Forecast Earnings Changes
(IBES) Earnings Forecast
<TABLE>
<CAPTION>
Earnings Change Divided by Initial Price
----------------------------------------
IBES Forecast Actual
<S> <C> <C>
Bottom Quintile -0.020 -0.025
Fourth Quintile 0.003 0.001
Third Quintile 0.007 0.003
Second Quintile 0.016 0.003
Top Quintile 0.109 0.026
</TABLE>
Actual vs. Forecast Earnings Changes Notes
IBES (Institutional Broker Estimate Service) is an organization that collects
and publishes corporate earnings forecasts from institutional analysts.
Earnings Change/Initial Price, also called earnings Yield, measures the one year
change in earnings for a company divided by the price of the company's stock at
the start of the period. It is a measure which compares the growth in earnings
across companies. This chart divides all U.S. companies into five groups
(quintiles) based on earnings change divided by initial price as forecast by
IBES analysts. The bottom quintile contains the companies with the lowest IBES
forecast earnings change/initial price, the fourth quintile contains the
companies with the next lowest IBES forecast earnings change/initial price, and
so on. The chart compares the IBES forecast earnings change/initial price with
actual reported earnings/initial price. The chart covers the period from 1976
to September 1996.
A-52
<PAGE>
IBES Surprise By Capitalization
Example of a Quarterly Surprise
<TABLE>
<CAPTION>
Average Absolute
Percentage
Group Earnings Surprise
<S> <C> <C>
Largest Companies 1 10%
2 16%
3 19%
4 25%
5 33%
6 37%
7 35%
8 39%
9 51%
10 62%
11 83%
Smallest Companies 12 85%
</TABLE>
IBES Surprise By Capitalization. Example of a Quarterly Surprise Notes
IBES (Institutional Broker Estimate Service) is an organization that collects
and publishes corporate earnings forecasts from institutional analysts.
The vertical axis measures the average absolute percentage earnings surprise
as given by the formula in the footnote to the chart. Earnings surprises are
differences between estimated earnings and actual reported earnings. The
absolute value of earnings surprises are used so as to treat positive and
negative differences between estimated and actual earnings similarly. The
average of these absolute earnings surprises is used to limit the effects of
unusually large earnings surprises. The earnings surprises are measured
based on quarterly earnings forecasts immediately prior to the reported third
quarter 1996 earnings. The capitalization buckets are groups of companies
sorted by the capitalization of the company (a measure of the size of the
company.) The horizontal axis groups companies into groups of 500 companies,
from the largest U.S. companies on the left to the smallest U.S. companies on
the right.
Footnote to chart:
To limit the effect of outliers, percentage surprise is defined as: 100 *
(Actual Earnings - Estimated Earnings)/.5*(absolute value of (Actual Earnings -
Estimated Earnings))
A-53
<PAGE>
IBES Coverage Of Quarterly Estimates
Percent of Companies Covered by IBES
<TABLE>
<CAPTION>
Group 1 Analyst 2 Analysts 3 or More Analysts
<S> <C> <C> <C> <C>
Largest Companies 1 1% 1% 97%
2 4% 6% 84%
3 8% 12% 68%
4 14% 15% 54%
5 18% 17% 41%
6 21% 17% 34%
7 22% 18% 24%
8 21% 17% 15%
9 24% 13% 7%
10 19% 6% 3%
11 10% 4% 1%
Smallest Companies 12 4% 1% 0%
</TABLE>
IBES Coverage Of Quarterly Estimates Notes
IBES (Institutional Broker Estimate Service) is an organization that collects
and publishes corporate earnings forecasts from institutional analysts. This
chart reports on IBES analyst coverage as of August 1996.
The vertical axis on the chart measures the percentage of companies for which
quarterly earnings forecasts were made by 1, 2, or 3 or more IBES analysts.
The percentage coverage by IBES analysts is broken down by the capitalization of
the company (a measure of the size of the company.) The horizontal axis groups
companies into groups of 500 companies, from the largest U.S. companies on the
left to the smallest U.S. companies on the right. IBES analyst coverage
declines steadily as company size, measured by capitalization, decreases. Since
smaller companies have fewer analysts covering them, there may be more
opportunities to identify possible overpriced stocks which would be candidates
for Short selling.
A-54
<PAGE>
PERFORMANCE
PAST PERFORMANCE IS NO GUARANTEE OF FUTURE PERFORMANCE.
A-55
<PAGE>
Rosenberg Market Neutral Strategy Performance Summary
For Periods Ended March 31, 1998
<TABLE>
<CAPTION>
ROSENBERG (35) 90-DAY T-BILLS ALPHA
-------------- -------------- -----
<S> <C> <C> <C>
Since Inception
---------------
3/1/89 - 3/31/98 8.09% 5.35% 2.74%
Year ended March 31
--------------------
1998 9.09 5.23 3.86
1997 27.20 5.17 22.03
1996 14.71 5.46 9.25
1995 5.83 4.83 1.00
1994 5.50 3.07 2.43
1993 9.08 3.32 5.76
1992 2.07 4.73 -2.66
1991 1.20 7.39 -6.19
1990 1.35 8.40 -7.05
</TABLE>
- ---------------
(35) Rosenberg is the Rosenberg Market Neutral Strategy as previously
defined. (See Glossary.) Partial year 1989 begins at inception of
Rosenberg's Market Neutral Strategy on March 1, 1989. Past performance is no
guarantee of future performance. Alpha, or value added, is the difference
between the Rosenberg Market Neutral Strategy's performance and the return on
a 90-day Treasury Bill for the specified time period. All returns are
expressed as annual rates.
Performance calculations meet AIMR standards.
Past performance is no guarantee of future performance.
A-56
<PAGE>
Rosenberg Market Neutral Strategy Performance Summary
For Periods Ended December 31, 1997
<TABLE>
<CAPTION>
ROSENBERG 90-DAY T-BILLS ALPHA
--------- -------------- -----
<S> <C> <C> <C>
Since Inception
---------------
3/1/89 - 12/31/97 8.34% 5.35% 2.99%
Year Ended December 31
----------------------
1997 13.82 5.20 8.62
1996 28.10 5.13 22.97
1995 10.04 5.65 4.39
1994 6.48 4.17 2.31
1993 11.53 3.04 8.49
1992 2.80 3.55 -0.75
1991 0.61 5.66 -5.05
1990 -0.31 7.77 -8.08
Partial Year 1989
-----------------
3/1/89 - 12/31/89 3.26 7.16 -3.90
</TABLE>
- ---------------
Rosenberg is the performance (net of 2% annual fees) of all of RIEM's
U.S. accounts at December 31, 1997 employing a strategy using offsetting
long/short equity holdings and is weighted by the value of each account. As
of December 31, 1997, there were nine accounts in such composite. This
composite does not include the Barr Rosenberg Market Neutral Fund prior to
December 31, 1997, since the Barr Rosenberg Market Neutral Fund began
operations in December 1997 and was not fully invested as of December 31,
1997. Partial year 1989 begins at inception of Rosenberg's Market Neutral
Strategy on March 1, 1989. Alpha, or value added, is the difference between
the Rosenberg Market Neutral Strategy's performance and the return on a
90-day Treasury Bill for the specified time period. All returns are expressed
as annual rates except that the return for the partial year 1989 is a
cumulative return.
Performance calculations meet AIMR standards.
Past performance is no guarantee of future performance.
A-57
<PAGE>
Monthly Performance
Rosenberg Market Neutral Strategy
<TABLE>
<S> <C> <C> <C> <C> <C> <C> <C> <C>
1989 Mar 2.15 Mar 1.06 Mar 0.88
Apr 0.38 Apr -0.20 Apr 2.06
May -0.67 May 0.08 May -0.47
Jun 1.16 Jun -0.67 Jun 0.17
Jul 0.07 Jul 1.19 Jul 1.99
Aug 1.94 Aug -1.18 Aug -1.04
Sep 0.20 Sep 2.01 Sep 0.64
Oct -1.37 Oct -2.15 Oct 4.29
Nov -0.57 Nov 0.58 Nov 0.28
Dec 0.00 Dec 2.25 Dec 1.10
1990 Jan 0.22 1993 Jan 2.56 1996 Jan 1.33
Feb -0.23 Feb 3.30 Feb 1.49
Mar 0.27 Mar 1.10 Mar 2.08
Apr -0.52 Apr 1.65 Apr 0.77
May -1.35 May -0.84 May 0.03
Jun -1.03 Jun 1.93 Jun 4.70
Jul 1.39 Jul 0.81 Jul 3.76
Aug 0.13 Aug 0.17 Aug 1.68
Sep 0.48 Sep 0.59 Sep 0.50
Oct -1.20 Oct -0.59 Oct 4.78
Nov 1.20 Nov -0.40 Nov 0.37
Dec 0.40 Dec 0.77 Dec 3.70
1991 Jan 1.59 1994 Jan -0.04 1997 Jan -1.23
Feb -0.56 Feb 1.28 Feb 1.35
Mar 0.72 Mar 0.08 Mar 4.14
Apr -0.05 Apr -0.63 Apr 0.95
May -2.29 May 0.09 May -3.94
Jun 0.26 Jun 1.58 Jun 4.63
Jul 1.36 Jul 0.46 Jul 1.81
Aug -1.32 Aug -0.25 Aug 1.85
Sep 1.06 Sep 0.71 Sep -0.16
Oct 1.60 Oct -0.11 Oct 1.96
Nov -1.54 Nov 0.42 Nov 1.75
Dec -0.14 Dec 2.75 Dec 0.21
1992 Jan -0.17 1995 Jan -1.33 1998 Jan -0.14
Feb 0.05 Feb 1.17 Feb -0.38
Mar 0.42
</TABLE>
Performance calculations meet AIMR standards.
Past performance is no guarantee of future performance. (Negative return months
are in red.)
A-58
<PAGE>
ROSENBERG MARKET NEUTRAL STRATEGY PERFORMANCE RECORD (36)
1. Annualized Returns (Net of 2% annual fees)
<TABLE>
<CAPTION>
Rosenberg 90 Day T-bills Value Added
--------- -------------- -----------
<S> <C> <C> <C>
Quarter ended 3/31/98 -0.09 1.29% 1.38%
One year ended 3/31/98 9.09 5.23 3.86
3 years ended 3/31/98 16.76 5.28 11.48
5 years ended 3/31/98 12.19 4.75 7.44
From inception 3/1/89 - 3/31/98 8.09 5.35 2.74
</TABLE>
2. Range of Rosenberg Total Return Over Moving 12-Month Periods
(3/1/89 - 3/31/98)
<TABLE>
<CAPTION>
Rosenberg Date Range
<S> <C> <C>
Lowest Rosenberg Return -2.87% Sep 89 - Aug 90
Highest Rosenberg Return 28.10% Jan 96 - Dec 96
</TABLE>
3. Average monthly return in up vs. down markets (S&P 500) (3/1/89 - 3/31/98)
<TABLE>
<CAPTION>
Rosenberg Market Return
(S&P 500 Index)
<S> <C> <C>
Average monthly return in up markets 0.78% 3.28%
Average monthly return in down markets 0.94% -2.67%
</TABLE>
4. Comparison with Intermediate-Term Government Bond Returns
(3/1/89 - 3/31/98)
<TABLE>
<CAPTION>
LOWEST RETURN HIGHEST RETURN
Rosenberg Rosenberg
Intermediate-Term Market Neutral Intermediate-Term Market Neutral
Period Govt. Bonds (37) Strategy Govt. Bonds Strategy
<S> <C> <C> <C> <C>
Any 3 months -6.08% -2.88% 7.90% 10.46%
Any 6 months -5.37% -2.64% 11.72% 16.75%
Any 12 months -5.51% -2.87% 16.80% 28.10%
</TABLE>
- -------------------
(36) Rosenberg performance covers the period from the inception of the
Rosenberg Market Neutral Strategy in March 1, 1989 through March 31, 1998.
Performance calculations meet AIMR standards. This exhibit is a compilation
of data and documentation from previous exhibits. Past performance is no
guarantee of future performance.
(37) Returns for intermediate-term government bonds from Ibbotson Associates.
This exhibit is a compilation of data and documentation from previous
exhibits. Past performance is no guarantee of future performance.
Performance calculations meet AIMR standards.
Past performance is no guarantee of future performance.
A-59
<PAGE>
5. Risk: Annual Standard Deviation of Total Return
<TABLE>
<S> <C> <C>
3 years 4/1/95 - 3/31/98) 6.53%
5 years 4/1/93 - 3/31/98) 5.63%
From inception 3/1/89 - 3/31/98) 5.27%
</TABLE>
6. Risk: Beta (relative to S&P 500)
<TABLE>
<S> <C>
From inception 3/1/89 - 3/31/98) -0.06
Average Beta measured over rolling 24-month periods from inception -0.09
Standard Deviation of 24-month Betas 0.14
</TABLE>
A-60
<PAGE>
Rosenberg Market Neutral Strategy Performance
Chart:
<TABLE>
<CAPTION>
Rosenberg Market
Neutral Strategy 90-Day T-Bill
Total Return Total Return
<S> <C> <C>
Year ended March 31
1990 1.35 8.40
1991 1.20 7.39
1992 2.07 4.73
1993 9.08 3.32
1994 5.50 3.07
1995 5.83 4.83
1996 14.71 5.46
1997 27.20 5.17
1998 9.09 5.23
</TABLE>
Data in Box:
<TABLE>
<CAPTION>
Annualized Total Returns
Periods Ended March 31, 1998
<S> <C>
1-Year 9.09
3-Year 16.76
5-Year 12.19
Tracking Error (38)
5-Year 5.6
</TABLE>
- ---------------
(38) Tracking Error is a measure of the volatility of the Alpha, or value added
of the strategy. Specifically, it is the annual standard deviation of the Alpha,
or value added, of the strategy for the 5-years ended March 31, 1998.
Performance calculations meet AIMR standards.
Past performance is no guarantee of future performance.
A-61
<PAGE>
Performance Decomposition
Representative Rosenberg Market Neutral Portfolio
(After Deduction of 2% Annual Fees)
<TABLE>
<CAPTION>
% Return % Return % Return
on on on % Total
Longs Shorts Short Stock Rebate Return
----- ------ ------------------ -------
<S> <C> <C> <C> <C>
Year Ended March 31
1989 2.99 2.66 0.60 0.92
1990 12.76 19.28 8.33 1.82
1991 6.89 9.91 7.17 4.14
1992 10.01 16.11 4.78 -1.32
1993 20.07 15.05 2.88 7.90
1994 3.90 1.50 2.63 5.03
1995 12.92 12.29 4.48 5.12
1996 29.94 19.99 5.62 15.57
1997 15.79 -5.86 5.46 27.11
1998 47.77 42.77 5.22 10.22
</TABLE>
Performance Decomposition Notes
In this chart, the total return of a representative Market Neutral portfolio
(one of the thirteen accounts that comprise the Rosenberg Market Neutral
Strategy Portfolio) managed by Rosenberg is "decomposed" into the return
achieved by the portfolio of Long Positions, the return from the portfolio of
Short positions and the return from the "Short Stock Rebate." The Short Stock
Rebate is the return generated by investing the cash generated by the Short
positions and is generally equal to the federal funds rate less a small fee,
charged by the Prime Broker. A positive return on Short positions means that
the Short portfolio increased in value, i.e., the aggregate liability of such
portfolio increased. The total return of this representative portfolio equals
the return of the Long portfolio component plus the Short Stock Rebate less the
return on the Short portfolio component.
A-62
<PAGE>
Performance Decomposition
Alpha Decompositions as Compared to a Benchmark Factor Model
Representative Rosenberg Market Neutral Portfolio
(After Deduction of 2% Annual Fees)
<TABLE>
<CAPTION>
Alpha from Longs Alpha from Shorts
<S> <C> <C>
Year ended March 31
1989 1.34% -1.01%
1990 -1.79 -4.72
1991 -0.01 -3.02
1992 -5.60 -0.50
1993 4.71 0.31
1994 0.29 2.11
1995 0.63 0.00
1996 2.70 7.24
1997 12.30 9.35
1998 7.04 -2.04
</TABLE>
Performance Decomposition Notes
In order to analyze the source of Alpha or added value of a Market Neutral
strategy, there has to be a Benchmark against which to compare the Long holdings
and the Short holdings. For Rosenberg's Market Neutral Strategy, there is no
external Benchmark against which to compare the Longs and Shorts. Rosenberg's
Long holdings are not constructed to match an external Benchmark but to match
the characteristics of the Shorts. Similarly, Rosenberg's Short holdings are
not constructed to match an external Benchmark, but to match the characteristics
of the Longs. In essence, the Longs and Shorts are each other's Benchmark.
In order to have as accurate a Benchmark as possible, a factor model
that included 11 Risk Index factors and 38 industry factors was used as the
Benchmark. At the beginning of each month, the average exposure of the Longs
and Shorts to each of these factors was computed. For example, if the
portfolio was 8% Long in an industry and 4% Short, the average Benchmark
exposure to that industry was 6%. The factor returns (an estimate of the
return that could be specifically attributed to a given exposure to that
factor) were then computed for that month using standard Regression
techniques. Finally, the Benchmark exposure to a factor was multiplied by
the factor return and summed to produce the overall Benchmark return for the
month. The return from the Longs and Shorts are then compared to this factor
Benchmark return to determine the value added from the Longs and Shorts.
A-63
<PAGE>
ROSENBERG INVESTMENT PROCESS
A-64
<PAGE>
Investment Philosophy
- - Stock prices imperfectly reflect "fundamental value."
- - Rigorous analysis of financial data on individual companies can
successfully identify mispriced stocks.
- - Models that duplicate the decision factors of an expert can produce better
forecasts.
- - The lack of some details is more than offset by the consistency the models
bring.
Rosenberg is a fundamental investor. Rosenberg believes that stock
prices imperfectly reflect the present value of the expected future earnings
of companies, their "fundamental value." Rosenberg believes that market
prices will converge towards fundamental value over time and that any
investor who can accurately determine fundamental value, and who applies a
disciplined investment process to select those stocks that are currently
misvalued, will outperform the market over time.
The premise of Rosenberg's investment philosophy is that there is a link
between the price of a stock and the underlying financial characteristics of the
company. In other words, the price reflects the market's assessment of how well
the company is positioned to generate future earnings and/or future cash flow.
Rosenberg tries to identify and purchase those stocks which are undervalued -
they are cheaper than similar stocks with the same financial characteristics.
Also Rosenberg engages in Short sales with respect to those stocks which it
believes are overvalued - they are more expensive than similar stocks with the
same financial characteristics. Rosenberg believes that the market will
recognize the "better value" and move to correct the mispricing by purchasing or
selling the stock, as the case may be.
Rosenberg's determination of the "average" valuation for a stock is based
upon a comparison of similar companies. Rosenberg believes that in any group
of similar companies, there are usually some that are overvalued, some that
are undervalued, and some that are fairly-valued relative to the average
valuation for the group. Rosenberg believes these valuation errors are
usually present in every sector of the market and can be identified through
rigorous Quantitative analysis of fundamental data.
Rosenberg seeks to add value as an active equity manager through stock
selection, and usually not by predicting the performance of Risk factors,
industries, or the overall market.
Even if investors looked at all the relevant data and processed that data
correctly, there is still the possibility that they might not apply the
conclusions consistently across all stocks. In order to ensure consistency
one must simultaneously look at all the same factors (hopefully with detailed
and accurate measures) across all similar stocks, and apply consistent
valuation rules. Rosenberg believes that models may be better at the
foregoing than humans. Several studies have indicated that simple models
which duplicate the decision factors that an expert/judge/forecaster uses
produce better forecasts than the original experts being modeled.(39)
- --------------------
(39) Camerer, Colin F. and Johnson, Eric J. , "The Process-Performance Paradox
in Expert Judgment: How Can Experts Know So Much and Predict So Badly." In
TOWARD A GENERAL THEORY OF EXPERTISE: PROSPECT AND LIMITS, K. Anders Ericsson
and Jacqui Smith (Eds.) Cambridge University Press, 1991, pp. 195-217.
A-65
<PAGE>
Rosenberg believes that it is possible for models to be superior because
the lack of some details is more than offset by the consistency the models
bring. Rosenberg believes that human experts may apply their judgments
inconsistently over time. Rosenberg believes that the more cases an expert has
to consider, the more likely it is that inconsistencies in thinking will arise.
- --------------------------------------------------------------------------------
CONTINUATION OF FOOTNOTE 39: Dawes, Robyn M. "The robust beauty of improper
linear models in decision making," in JUDGMENT UNDER UNCERTAINTY: HEURISTICS AND
BIASES, edited by Kahneman, D., Slovic, P. and Tversky, A. pp. 391-399.
Cambridge University Press, 1990.
Faust, David, THE LIMITS OF SCIENTIFIC REASONING, University of Minnesota Press,
1984.
Hogarth, Robin, JUDGMENT AND CHOICE, pp. 194-95. John Wiley & Sons, 1987.
Kleinmuntz, Don "Decomposition and the Control of Error in Decision-Analytic
Models." In INSIGHTS IN DECISION MAKING, Hogarth, Robin (Ed.) The University of
Chicago Press, 1990, pp. 114-115.
Russo, J. Edward and Schoemaker, Paul H.J., DECISION TRAPS, pp. 136-137.
Doubleday, 1989.
A-66
<PAGE>
Key Investment Models
- - Appraisal Model
- Estimates company fair value based on the company's potential to
produce future earnings
- - Earnings Change Model
- Identifies companies that are expected to realize (or fail to realize
in case of Shorts) their earnings potential
- Forecasts company earnings 4 quarters ahead
- - Investor Sentiment Model
- Screens out bargain stocks that will remain bargains because investors
are likely to shun them
- Measures short-term market enthusiasm for individual stocks
- - Risk Model
- Identifies common sources of Risk used in portfolio Optimization
process
Key Investment Models Notes
Rosenberg utilizes three stock models: An Appraisal Model, an Earnings
Change Model and an Investor Sentiment Model. The insights gained from these
three models are combined to produce a predicted return for each stock in
Rosenberg's selection universe. Rosenberg then uses the Risk Models to form
portfolios that it believes represent the optimal tradeoff between the
returns predicted by the stock selection models and the common sources of
Risks for the selected stocks.
A-67
<PAGE>
The Appraisal Model
- - Purpose: estimate of each company's fair value based on its potential to
produce future earnings
- - Process:
- collect detailed financial data on each company (over 6,000 in US)
- value operating businesses according to average market appraisal of
similar businesses
Example:
<TABLE>
<CAPTION>
MAXCO INC. ZURN INDUSTRIES NACCO INDUSTRIES
<S> <C> <C>
METAL PRODUCTS METAL PRODUCTS Coal
Plastic, Rubber Products Machinery, General Machinery, General
Auto Parts HOUSEHOLD ITEMS HOUSEHOLD ITEMS
Wholesale Trade - Other Electric Utilities Retail - Specialty Stores
Development, Subdivision
</TABLE>
- adjust valuation for objective differences between companies (cash,
debt, etc.)
- integrate valuations and adjustments to produce total company
valuation (total company appraisal)
- - Proprietary information: market and total company appraisals
The Appraisal Model Notes
APPRAISAL MODEL
Fundamental valuation of stocks is key to Rosenberg's investment process, and
the heart of its valuation process lies in the Appraisal Model. An important
feature of the Appraisal Model is the classification of U.S. - based
companies into any of 166 groups of "similar" businesses. Rosenberg
decomposes each company into its individual business segments, and compares
each segment with similar business operations of other companies. Rosenberg
appraises the company's assets, operating earnings and sales within each
business segment by applying the market's own average appraisal of assets,
operating earnings and sales for those same business segments. Rosenberg
then combines the segment appraisals to arrive at total balance sheet, income
statement and sales appraisals for the entire company. Rosenberg
simultaneously adjusts the segment appraisals to include the appraisals for
factors which are declared only for the total company, such as taxes, capital
structure and pension funding. In total, Rosenberg uses over 190 valuation
factors to characterize the income statement, balance sheet and sales
elements. The result is a single valuation for each of over 6,000 companies
that Rosenberg follows in the U.S.
The difference between ROSENBERG'S valuation and the market price reflects an
opportunity for profit. Rosenberg develops "appraisal Alphas" - the expected
rate of extraordinary return - by adjusting for the rate at which the market has
corrected for such misvaluations in the past.
A-68
<PAGE>
How Appraisals are Used:
Company XYZ
<TABLE>
<CAPTION>
LATEST CURRENT CONTRIBUTION TO
VALUATION REPORTED MARKET TOTAL COMPANY
ELEMENT $/SHARE APPRAISAL FAIR VALUE
<S> <C> <C> <C>
Machinery assets $ 10.00 1.75 $ 17.50
Metal products assets 5.50 1.95 10.73
Receivables 1.30 -0.20 -0.26
Long-term debt 8.00 -1.10 -8.80
Pension surplus 2.00 0.45 0.90
TOTAL $ 20.07
CURRENT PRICE $ 18.50
</TABLE>
- - Shown are only a few of the valuation factors Rosenberg analyzes
- - Sample company is currently a bargain
- - Market appraisals, total company appraisal and price are changing
continuously
How Appraisals are Used: Company XYZ Notes
As an illustration of how the Appraisal Model is used, consider a simplified
example of a mythical machinery and metal products company, Company XYZ. For
most companies Rosenberg would have over 190 fundamental valuation elements, but
for the sake of simplicity this example shows just five items. On its
financial statements, Company XYZ reports $10 per share of machinery assets;
$5.50 per share of metal products assets; $1.30 per share of receivables; $8.00
per share of long-term debt; and, from the footnotes to the financial
statements, $2.00 per share in pension surplus. Using the Appraisal Model,
Rosenberg determines how much the market currently values each of these
valuation elements. For example, the Appraisal Model finds that, on average,
the market currently values a dollar of machinery assets at $1.75. By
multiplying the reported dollars per share of each valuation element by the
current market appraisal for that element, Rosenberg determines the contribution
to total company fair value for each fundamental valuation element. Summing up
all of these contributions to fair value gives Rosenberg the total fair value
for Company XYZ. According to Rosenberg's Appraisal Model, Company XYZ is
currently a bargain, and a candidate for purchase, since Rosenberg's estimated
fair value is $20.07 and the market price is $18.50. Rosenberg re-estimates the
market and total company appraisals continuously throughout the trading day.
A-69
<PAGE>
Market Appraisals of Selected Valuation Element:
Cash & Short-Term Investments
<TABLE>
<S> <C> <C> <C> <C> <C>
Dec-89 0.2319 Sep-92 0.3508 Jun-95 0.3632
Jan-90 0.3951 Oct-92 0.3295 Jul-95 0.4434
Feb-90 0.3675 Nov-92 0.4270 Aug-95 0.4768
Mar-90 0.4227 Dec-92 0.3255 Sep-95 0.4362
Apr-90 0.3526 Jan-93 0.4551 Oct-95 0.4538
May-90 0.3873 Feb-93 0.5721 Nov-95 0.4357
Jun-90 0.3835 Mar-93 0.6521 Dec-95 0.5353
Jul-90 0.3242 Apr-93 0.5104 Jan-96 0.5612
Aug-90 0.3667 May-93 0.6257 Feb-96 0.6840
Sep-90 0.3604 Jun-93 0.6164 Mar-96 0.6217
Oct-90 0.3498 Jul-93 0.5047 Apr-96 0.7051
Nov-90 0.3644 Aug-93 0.5166 May-96 0.7274
Dec-90 0.3774 Sep-93 0.5436 Jun-96 0.7257
Jan-91 0.5568 Oct-93 0.4295 Jul-96 0.6824
Feb-91 0.7106 Nov-93 0.3880 Aug-96 0.6676
Mar-91 0.6998 Dec-93 0.3908 Sep-96 0.6761
Apr-91 0.4809 Jan-94 0.4759 Oct-96 0.6415
May-91 0.4448 Feb-94 0.5011 Nov-96 0.7841
Jun-91 0.4543 Mar-94 0.5039 Dec-96 0.6883
Jul-91 0.5930 Apr-94 0.4818 Jan-97 0.6464
Aug-91 0.5676 May-94 0.4560 Feb-97 0.4768
Sep-91 0.5308 Jun-94 0.4114 Mar-97 0.5054
Oct-91 0.6290 Jul-94 0.3469 Apr-97 0.4887
Nov-91 0.5280 Aug-94 0.3422 May-97 0.7426
Dec-91 0.5865 Sep-94 0.3620 Jun-97 0.6385
Jan-92 0.5718 Oct-94 0.3401 Jul-97 0.5945
Feb-92 0.7143 Nov-94 0.3323 Aug-97 0.5746
Mar-92 0.7878 Dec-94 0.3194 Sep-97 0.7613
Apr-92 0.6148 Jan-95 0.3576 Oct-97 0.7560
May-92 0.5107 Feb-95 0.3499 Nov-97 0.6467
Jun-92 0.5312 Mar-95 0.4007 Dec-97 0.5886
Jul-92 0.4753 Apr-95 0.3294
Aug-92 0.4154 May-95 0.3557
</TABLE>
A-70
<PAGE>
Market Appraisals of Selected Valuation Element Notes
Rosenberg's market appraisals of the fundamental valuation elements they
consider are updated continuously. The chart shows the changing market
appraisal for Cash and Short-Term Investments as determined by Rosenberg's
Appraisal Model. The appraisal of Cash and Short-Term Investments is multiplied
by the company's reported Cash and Short-Term Investments to determine the
adjustment to the overall valuation of the company. The appraisal for Cash and
Short-Term Investments is measured relative to zero, and thus its continuous
valuation above zero indicates that Cash and Short-Term Investments is a premium
item on the balance sheet and always contributes positively to the overall value
of a company.
A-71
<PAGE>
Earnings Change Model: Identifies companies that will realize (or fail to
realize, in the case of Shorts) their potential to produce future earnings
- - Predicts earnings change over 4-quarter horizon based on
- Measures of company profitability
- Operating ratios
- Sell-side analyst forecasts
- - Takes into account ROE Reversion
EARNINGS CHANGE MODEL
Rosenberg's proprietary Earnings Change Model analyzes more than 20 explanatory
variables to predict individual company earnings over a one-year horizon. The
variables are fundamental and fall into three categories: measures of past
profitability, measures of company operations and consensus analyst earnings
forecasts. The Earnings Change Model is independent of the Appraisal Model and
projects the change in a company's earnings in cents/current price. The value
of the projected earnings change is converted to an "earnings change Alpha" by
multiplying the projected change by the market's historical response to changes
of that magnitude.
A-72
<PAGE>
Buying Future Earnings at a Discount:
Portfolio Earnings Yield 2 Years After Purchase
Earnings per Dollar of Initial Cost:
<TABLE>
<CAPTION>
Market Rosenberg
------ ---------
<S> <C> <C>
Reported Earnings 0.068 0.075
Earnings from Continuing Operations 0.079 0.092
</TABLE>
Buying Future Earnings at a Discount:
Portfolio Earnings Yield 2 Years After Purchase Notes
Under general assumptions, Rosenberg believes that the price of an individual
stock is equal to the present value of the future earnings or cash flow of the
company. Thus, one measure of the success of a strategy in identifying
undervalued stocks is the degree to which it can, over time, buy more future
earnings per dollar of initial investment than the Benchmark universe. This
measure of future earnings per dollar of initial investment is also called the
earnings Yield. This chart shows the level of reported earnings and earnings
from continuing operations (reported earnings before special and extraordinary
items) relative to initial cost after a two year holding period (the earnings
Yield 2 years after purchase) for the stocks invested in by Rosenberg(40) and
the market universe of stocks. After a two year holding period, the Rosenberg
portfolio provides a higher level of future earnings per dollar invested (a
higher earnings Yield) than the market universe. The analysis covers the period
from the inception of Rosenberg Institutional Equity Management in June 1985
through December 1995 (the last date for which 2 years of future earnings could
be determined as of December 31, 1997.)
- -------------------
(40) The stocks invested in by Rosenberg represent the value weighted composite
of all stocks held in all of the accounts managed by Rosenberg Institutional
Equity Management which had a broad equity market Benchmark (e.g., S&P 500
Index, Russell 3000 Index.)
A-73
<PAGE>
Investor Sentiment Model: Avoid Bargains That Investors Will Shun
Measures investors' current enthusiasm toward individual companies over a
three-month horizon
- - Perceptions of quality
- Earnings quality
- Market quality
- - Bandwagon effects
- Estimate revisions
- Broker recommendations
- Earnings surprise
Investor Sentiment Model: Avoid Bargains That Investors Will Shun Notes
INVESTOR SENTIMENT MODEL
ROSENBERG'S Investor Sentiment Model quantifies investor sentiment about
features of stocks which influence price but which are not captured by the
Appraisal Model or the Earnings Change Model. Rosenberg incorporates
investors' perception of the "quality" of individual companies by looking at
past price patterns (Market Quality) and by calculating the probability that
future earnings will disappoint investors (Earnings Quality.) Rosenberg's
models also capture market enthusiasm towards individual stocks by looking at
the "bandwagon" effects that generally occur following broker
recommendations, revisions in analyst estimates, earnings surprises and
disappointments, and other measures of market sentiment. In addition to
improving its overall prediction of individual stock returns, Rosenberg uses
its Investor Sentiment Model to help it time its trades.
A-74
<PAGE>
Predicting Returns
Rosenberg Information Elements of Stock Selection
--------------------- ---------------------------
Market Appraisals Company Valuation
Forces Affecting Company Earnings
Profitability Change
Quality and Opinion Investor Sentiment
Measures Towards Company
|
|
Predicted Company
Returns
Predicting Returns Notes
The output of Rosenberg's three stock selection models is predicted returns
for each company in Rosenberg's universe of stocks. The areas covered by the
three models fall into three general categories of stock selection that most
managers rely on to some degree: valuing companies; forecasting earnings
changes; and gauging investor enthusiasm. Rosenberg's models contribute
proprietary information in each of these areas. The market and company
appraisals determined by Rosenberg's Appraisal Model provide company
valuations. Rosenberg's Earnings Change Model considers the competitive
forces affecting company profitability to help improve its company earnings
forecasts. In addition, Rosenberg's quantification of quality and opinion
measures in its Investor Sentiment Model gives it a view of investor
enthusiasm towards individual companies.
Each of Rosenberg's three models produces an overall predicted relative return,
or Alpha, for each company in Rosenberg's stock selection universe. A company's
earnings change Alpha and investor sentiment Alpha is added to its appraisal
Alpha to arrive at a total company Alpha. It is these predicted returns that
are used by Rosenberg's Risk Model and Optimization process to build a
portfolio.
A-75
<PAGE>
Portfolio Optimization: Avoid Unintended Bets
Predicted Returns Sources of Risk
----------------- ---------------
All Companies Market
in Industries
Selection Universe Risk Factors
|
|
|
Optimizer
---------
Calculates Best Risk/Return Tradeoff
|
|
Recommended Portfolio Holdings
Portfolio Optimization: Avoid Unintended Bets
In building portfolios, Rosenberg wants to ensure that it places its "bets"
where it feels most confident in its information. As stock pickers, its
information is about individual stocks. Thus, Rosenberg wants its portfolios
to "bet" on the individual companies identified by its models and typically
not on Risk factors, industries, or the direction of the market which are
things for which Rosenberg does not have unique insights.
All data is fed into a computer program that uses complex piece-wise linear
functions to approximate a quadratic function and optimize the portfolio's
trade-off between Risk and return. The Optimizer sets "targets" for portfolio
exposure to systematic factors of Risk after analyzing the Risk characteristics
of the Benchmark. For Market Neutral portfolios, the Benchmark of the Long
portfolio will be the Short portfolio (or, equivalently, the Benchmark of the
Short portfolio is the Long portfolio.) The Optimizer then exploits the
information developed by the stock selection system to maximize return while
eliminating unnecessary Risk. It recommends positions in companies that in the
aggregate, constitute the most efficient portfolio. Data on each executed trade
are "looped back" into the Optimizer, which reassesses the relative portfolio
Risk before recommending additional trades. Trades are recommended only when
the net benefit exceeds the expected transaction cost. Since the Optimizer
operates in real time, Rosenberg is prepared to respond immediately to
investment opportunities.
A-76
<PAGE>
Optimizer Functions
- - Efficient risk/reward trade-off
- - Control of trading cost
- - Implementation of all restrictions on holdings
- Exposure bands, maximum holding size, restricted stocks
- - Realtime Optimization
- Incorporates all changes (Alphas, prices, executed trades, cash
targets)
- More current knowledge of opportunities
- Less pressure on traders, no manual adjustments due to changing prices
- DOES NOT mean increased turnover, prevents unwanted turnover
A-77
<PAGE>
Investment Process
<TABLE>
<CAPTION>
<S><C>
RESEARCH PORTFOLIO MANAGEMENT
DATA ANALYSIS OPTIMIZATION TRADING
Market --- > Investor Sentiment --- > Trading---- ---------- Trading Cost Monitoring ----------
Data --- > Analysis Alphas | | |
| | |
--- > Market Response | | |
| | |
| | |
Opinion Data --- > Projection of | V |
--- > Unanticipated | Portfolio Optimization |
--- > Changes | ---------------------- |
| |
--- > Market Response | |
--- > When to Trade |
--- > Recommended --- > Traditional Brokerage
Trades
--- > Valuation
Fundamental Data --- > Similars --- > Company --- > Networks
-------- Alphas What to Buy/Sell
Within/Across Markets
And Time Accommodation
Market Response
--- > How Much to Hold < --- Confirmed < ------- Package Trades
| Trades
| V
| Settlement/Reconciliation
| |
Client Benchmarks --- > Risk Analysis --- > Target---- V
Exposures Performance Attribution
</TABLE>
A-78
<PAGE>
Why Rosenberg Expects Its Investment Approach To Work
- - Consistent comprehensive processing of relevant data
- all the same factors
- processed at the same time
- across all similar stocks
- - Consideration of the broader forces at work in competitive economies
- - Attempts to avoid the errors that naturally arise from qualitative
investment decision processes
- decision short cuts
- overly optimistic forecasts of companies' future earnings
- - Attempts to buy future earnings at a discount
- - Track record in identifying both overvalued and undervalued stocks using a
disciplined investment approach. (Past performance is no guarantee of
future performance.)
- - Barr Rosenberg has over 25 years' experience in analyzing and measuring the
Risk of equity portfolios. This is critical in controlling Common Factor
Risk as well as Systematic Risk in constructing Long/Short portfolios.
- - A systematic, Quantitative approach which seeks to identify hundreds of
overvalued and undervalued stocks. This gives Rosenberg the flexibility to
control Risk and minimize trading costs in constructing a Long/Short
portfolio.
A-79
<PAGE>
HISTORICAL HIGHLIGHTS
- - Broad definition of Market Neutral investing is any zero Beta investment
strategy, i.e., any strategy which is not exposed to the Systematic Risk in
the particular asset class.
- - 1949 - Concept was first used by A. W. Jones in an investment partnership.
- - 1967 - The book BEAT THE MARKET by Edward O. Thorpe outlined a Hedged
approach to stock/warrant trading.
- - 1973 - The Black/Scholes options-pricing model was published. This model
used the idea of a riskless Hedge between a call option and the underlying
stock.
- - 1977 - Long Treasuries futures contracts were created which helped make
Market Neutral investing possible in the fixed income markets.
- - 1987 - Morgan Stanley's Quantitative group engaged in equity pairs trading.
Under the net-capital rules for broker dealers, leverage was increased
beyond the standard 2:1 ratio that typically applies to customers and
pension plans.
- - 1988 - Internal Revenue Service issued a private letter ruling which held
that Short sales did not result in unrelated business taxable income.
- - 1989 - Rosenberg forms a partnership to implement a Market Neutral
strategy.
- - 1995 - IRS issued revenue ruling (IRB 1995-4, #29) which states that
Long/Short investing does not create UBTI.
- - 1997 - "Short-Short" rule - Taxpayer Relief Act of 1997 eliminates this
rule making it feasible for mutual funds to engage in significant Short
sales and thus to offer Market Neutral products.
- - 1997 - Today, there are many different types of Market Neutral strategies
with widely differing risk/return characteristics and uses of leverage.
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<PAGE>
Historical Highlights:
Rosenberg's History of Market Neutral
- - In 1978, at BARRA Seminars, Barr Rosenberg suggested that some managers
could increase rewards for clients by selling stocks held in clients' index
funds. This would be a practical way of benefiting from the identification
of overvalued stocks without Short selling them.
- - In 1988, as soon as the IRS private letter ruling was released, Rosenberg
began to actively pursue Market Neutral opportunities, and in 1989
Rosenberg became the first Market Neutral client of Bear Stearns.
- - 1997 - Rosenberg launches a Market Neutral equity mutual fund.
- - 1998 - Rosenberg launches an Equitized Market Neutral mutual fund.
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<PAGE>
EQUITIZED MARKET NEUTRAL
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<PAGE>
Equitized Market Neutral Strategy (41)
- - Invest in Market Neutral
- - 'Purchase' S&P 500 futures contracts, options on S&P 500 futures, and S&P
500 swaps
- - Sources of Return
- S&P 500 futures contracts, options on S&P 500 futures, and S&P 500
swaps provides S&P 500 Index returns less T-bill returns
- Market Neutral delivers double Alpha (from identifying both overvalued
and undervalued stocks) plus T-bill returns
- Combined, the return consists of double Alpha from the Market Neutral
Strategy plus S&P 500 Index returns
- - Risk profile
- Systematic, or general market Risk as evidenced by the Risk of the S&P
500 Index plus manager's stock selection Risk from the Market Neutral
component
- --------------------
(41) The Barr Rosenberg Double Alpha Market Fund is an Equitized Market Neutral
fund.
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<PAGE>
Equitized Market Neutral
Sources of Alpha and Return
- - Initial capital of $100
- - Buy $100 Long stocks
- - Sell Short $100 stocks
- - Invest $100 raised by the Short sales in interest-bearing securities
- - 'Purchase' $100 worth of S&P 500 futures
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<PAGE>
Equitized Market Neutral
Sources of Alpha and Return
<TABLE>
<CAPTION>
INVESTMENT VALUE BETA SOURCE OF ALPHA SOURCE OF RETURN
<S> <C> <C> <C> <C>
LONG +$100 1.0 +Long Alpha Long Return
plus
Short Return
SHORT -$100 -1.0 +Short Alpha
CASH +$100 0.0 Zero Alpha T-bill Return
FUTURES $0 1.0 Zero Alpha S&P 500 Index
minus
T-bill Return
TOTAL +$100 1.0 Long Alpha S&P 500 Index
+ Short Alpha = + Double Alpha
Double Alpha
</TABLE>
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<PAGE>
What is Equitized Market Neutral?
An example
- - Assumptions: $100 million to invest. Manager has stock selection
skill(42) where the Long Positions outperform Short positions by 10%, with
the Longs outperforming the market by 5%, and the Shorts underperforming
the market by 5%. T-bills return 5% over the next 12 months.
- - SCENARIO: Market up 15% over the next 12 months
- Because of skill, manager's Long Positions outperform market and are
up by 20%
- Because of skill, manager's Short positions underperform market and
are up only 10%
<TABLE>
<CAPTION>
<S><C>
Value of Long portfolio = $100 million + 20% x $100 million = $ 120 million
Value of Short portfolio (liability) = $100 million + 10% x $100 million = - 110 million
Increased value of futures position due to market appreciation = 10 million
Interest Income = 5 million
-------------
$ 25 million increase
in net portfolio value
</TABLE>
- - SCENARIO: Market down 15% over the next 12 months
- Because of skill, manager's Long Positions outperform market and are
down by 10%
- Because of skill, manager's Short positions underperform market and
are down 20%
<TABLE>
<CAPTION>
<S><C>
Value of Long portfolio = $100 million - 10% x $100 million = $ 90 million
Value of Short portfolio (liability) = $100 million - 20% x $100 million = - 80 million
Decreased value of futures position due to market decline = - 20 million
Interest Income = 5 million
-------------
$ -5 million decrease
in net portfolio value
</TABLE>
- --------------------
(42) This example shows the results if the Long component outperforms the Short
component by 10%. However if the Short component outperformed the Long
component by 10%, the portfolio in this example would increase by only $5
million in the scenario where the market is up 15% and would lose $25 million in
the scenario where the market is down 15%.
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<PAGE>
ROSENBERG EQUITIZED MARKET NEUTRAL STRATEGY PERFORMANCE SUMMARY
<TABLE>
<CAPTION>
MONTHLY RETURNS
<S> <C>
1997 Jan 4.47
Feb 1.84
Mar -0.49
Apr 7.15
May 1.38
Jun 8.96
Jul 10.15
Aug -3.78
Sep 4.08
Oct -0.45
Nov 5.28
Dec 1.23
1998 Jan 0.54
Feb 6.04
Mar 4.92
</TABLE>
<TABLE>
<CAPTION>
SINCE INCEPTION ROSENBERG S&P 500 ALPHA
- --------------- --------- ------- -------
<S> <C> <C> <C>
1/1/97 - 3/31/98 45.15% 39.78% 5.37%
YEAR ENDED MARCH 31
- -------------------
1998 51.37 48.02 3.35
</TABLE>
Rosenberg is the performance net of 2.35% annual fees of all U.S. accounts
managed by RIEM employing the Equitized Market Neutral strategy (see
glossary). Performance is presented net of 2.35% annual fees because such
fees represent the expenses of Institutional Shares of the Barr Rosenberg
Double Alpha Market Fund. As of March 31, 1998, there was one such account.
The Barr Rosenberg Double Alpha Market Fund is not included as it did not
begin operations until April 22, 1998.
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<PAGE>
DIFFERENT MARKET NEUTRAL STRATEGIES
- - Distinguishing characteristics
- Instruments
- Equities, Bonds, Currencies, Futures, Derivatives
- Styles
- Arbitrage, one-sided, two-sided
- Always neutral; on average neutral(43)
- Use of leverage
- Return versus Risk profiles
- --------------------
(43) If always neutral the Beta is always zero. "On average neutral" means that
sometimes the Beta can be positive and sometimes negative, but over time it will
average out to zero.
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<PAGE>
Different Market Neutral Strategies:
Three Types of Investment Ideas Generate Hedged Market Risk
- - ARBITRAGE BETWEEN LINKED SECURITIES: A IS UNDERVALUED RELATIVE TO B
- Buy A and sell Short B; profit from correction of the misvaluation
- Example: A, the index bundle of stocks is cheaper than B, the index
future
- Hedge may be nearly perfect, because the securities are linked
- Typically low-reward and low-Risk
- - ONE-SIDED IDEAS, WHOSE MARKET RISK IS OFFSET BY DERIVATIVE HEDGES
- Reward may be high or low (single Alpha)
- The Hedge incurs a cost (a drain on Alpha)
- The result: Single Alpha minus Hedging cost
- Drawback: there may be no suitable derivative security for the Hedge
- - TWO-SIDED RISK-CANCELING IDEAS: A IS UNDERVALUED; B WHICH IS LIKE A IS
OVERVALUED
- Buy A and sell Short B; Profit as the market bids up the price of A
and bids down the price of B.
- Reward on each side may be high or low (double Alpha)
- The result: Double Alpha, potentially the most profitable
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<PAGE>
SUGGESTED SELECTION CRITERIA FOR MARKET NEUTRAL MANAGERS
- - Risk control capability
- - Stock selection skill (44)
- understand biases and market environment impact
- adequate stock selection menu
- - Ability to Short (45)
- Prime Broker
- fee income justification
- natural result of process
- - Experience
- - Capacity
- --------------------
(44) When evaluating a Market Neutral manager one should determine if the
manager has stock selection skill. Two aspects of this skill are especially
important for implementing a Market Neutral strategy. First is an understanding
as to whether the manager's stock selection skill is limited to certain types of
stocks, e.g. small growth or large value. One should also examine the
possibility that the manager's stock selection skill is more or less effective
in different market environments, e.g. a strong economic environment. Having
done that analysis, one should then consider how broadly the manager can apply
his stock selection skill, e.g. does the skill apply across all industries and
capitalization sectors. The reason this is important is that, generally
speaking, the more narrow the manager's stock selection skill, the more
difficult it is to create an effective Hedge between the Long and Short
portfolio components.
(45) In evaluating a Market Neutral manager's ability to effectively manage a
Short portfolio one should consider three factors. First, is the manager
dealing with an experienced Prime Broker who can produce an adequate supply of
stocks to Short. Second, does the manager have enough assets (and hence fee
income) Shorted so that he can economically devote enough resources to analyzing
Short stocks as well as Long stocks. And third, is the analysis of overvalued
stocks a natural result of the manager's investment process or does it require
different people, process, and resources?
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<PAGE>
GLOSSARY
ACCOMMODATIVE TRADING: A system which allows institutional buyers and sellers
of stock to electronically present Rosenberg with their "interest" lists each
morning. Any matches between the inventory which the brokers have presented and
Rosenberg's own recommended trades are signaled to Rosenberg's traders. Since
the broker is doing agency business and has a client on the other side of the
trade, Rosenberg expects that the broker will be accommodative in the price.
Rosenberg's objective in using this match system is to execute most trades so as
to minimize market impact.
AIMR STANDARDS: Standards of performance reporting set by the Association for
Investment Management and Research.
ALPHA: The "risk-adjusted expected return" or the return in excess of what
would be expected from a diversified portfolio with the same systematic risk.
When applied to stocks, alpha is essentially synonymous with misvaluation: a
stock with a positive alpha is viewed as undervalued relative to other stocks
with the same systematic risk, and a stock with a negative alpha is viewed as
overvalued relative to other stocks with the same systematic risk. When applied
to portfolios, alpha is a description of expected extraordinary reward due to
the skill of the manager. If used in the context of the past then alpha is
interpreted as the difference between the historical performance for a period
and what would have been earned with a diversified market portfolio at the same
level of systematic risk over that period.
BARRA: A consulting firm that provides statistical and risk analyses.
BENCHMARK: An index or measure of performance with which a particular portfolio
is compared in order to measure relative performance and/or risk exposures.
BETA: Measures changes in an asset's return in relation to changes in the
return of a broad portfolio of assets or the "market."
CORE PORTFOLIO: A portfolio invested primarily in large U.S. stocks.
CORRELATION: A statistical term giving the strength of the linear relationship
between two random variables. It is a pure number, ranging from -1 to +1: +1 is
a perfect positive linear relationship; -1 is a perfect negative linear
relationship.
EQUAL-WEIGHTED: Making equal dollar investments in each of the stocks in a
portfolio.
EQUITIZED: Adding back to a market neutral strategy the risk and return of an
asset class through the use of index futures, options on index futures, and
swaps.
EQUITIZED MARKET NEUTRAL: An investment strategy which uses equity index
futures, options, swaps, etc. to add back the risk and return from an equity
index to a market neutral portfolio. For example, the Barr Rosenberg Double
Alpha Market Fund holds S&P 500 Index futures options, swaps, etc. along with
shares of the Barr Rosenberg Market Neutral Fund to provide investors with
the additional risk and return of being invested in the stocks in the S&P 500
Index in addition to any risk and return provided by the Barr Rosenberg
Market Neutral Fund.
IBES - INSTITUTIONAL BROKER ESTIMATE SERVICE: A service which collects and
publishes earnings forecasts from institutional analysts.
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<PAGE>
HEDGE: Taking two positions simultaneously in two different assets in order to
reduce risk. Also loosely used to describe any strategy using leverage or short
selling.
LONG (PORTFOLIO; POSITIONS): Stocks which are purchased for the portfolio
(often with the expectation that they are currently undervalued).
MARKET NEUTRAL (EQUITY): An investment strategy which simultaneously buys a
long portfolio and sells a short portfolio in order to neutralize the impact of
the overall (equity) market on the combined (long and short) portfolio's return.
NORMALIZED STANDARD DEVIATION: This term is used to refer to the scaling of
risk indices. It involves setting the zero point and scale of measurement for
the variable. An example might be taken from temperature, where the centigrade
scale is standardized by setting zero at the freezing point of water and
establishing the scale (the centigrade degree), so that there are 100 units
between the freezing point of water and the boiling point of water.
Standardization for risk indices sets the zero value at the
capitalization-weighted mean of the companies in the universe, and sets the
scale so that one unit equals one cross-sectional standard deviation of that
variable among our entire universe of stocks.
OPTIMIZER/OPTIMIZED/OPTIMIZATION: A computer program that uses complex
piece-wise linear functions to approximate a quadratic function and optimize the
total portfolio trade-off between risk and return subject to any specific
constraints or targets.
PORTABLE ALPHA: An investment technique that applies the excess return or alpha
earned from stock selection to another asset class by using index futures.
PRIME BROKER: The broker who facilitates a short sale by arranging for the
borrowing of shares of a stock and being responsible for the regulatory,
accounting and fiduciary requirements involving the short sale.
QUANTITATIVE: A term which describes an investment approach which tends to rely
on hard financial data using a disciplined systematic analysis for stock
selection compared to an approach that tends to rely on subjective judgements
and soft information.
REGRESSION: A statistical technique that measures the correlation between two
variables.
RESIDUAL COMMON FACTOR RISK: That portion of a stock's risk that is related to
a subgroup of the broad asset class. An example would be industry-related risk.
RESIDUAL SPECIFIC RISK: That portion of a stock's risk that is unique to that
stock or company. An example would be the risk associated with the quality of
the company's management team.
RISK: The uncertainty of investment outcomes. Technically, the term RISK is
used to define all uncertainty about the mean outcome, including both upside and
downside possibilities. Thus, in contrast to the layperson, who would think of
the downside outcomes as risk and of the upside outcome as potential, a measure
of total variability in both directions is typically used to summarize risk.
The more intuitive concept for risk measurement is the standard deviation of the
distribution, a natural measure of spread. Variance, the square of the standard
deviation, must be used in comparing independent elements of risk.
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<PAGE>
RISK INDEX: A variable computed for each asset, such that the variable
determines the asset's exposure to a common factor. Risk indices include market
variability, earnings variability, low valuation and unsuccess, immaturity and
smallness, growth orientation, and financial risk. In each case, a higher value
of the index implies a company that is more strongly exposed to the common
factor.
ROE REVERSION: Return on Equity (ROE) is a common measure of company
profitability. Reversion relates to the notion that in competitive economies
there is tremendous pressure on unusually high or low company earnings to move
back in line with the economy-wide average.
ROSENBERG: Also referred to as RIEM, Rosenberg Institutional Equity Management,
or the Manager.
ROSENBERG MARKET NEUTRAL STRATEGY PORTFOLIO: The composite of all U.S.
accounts managed by Rosenberg employing a strategy using offsetting
long/short equity holdings and which is weighted by the value of each
account. As of March 31, 1998, there were thirteen accounts in such
composite. This composite includes the Barr Rosenberg Market Neutral Fund
from its inception on December 16, 1997.
ROSENBERG (ROSENBERG'S) MARKET NEUTRAL STRATEGY (COMPOSITE): The performance
net of 2% annual fees of all U.S. accounts managed by Rosenberg employing a
strategy using offsetting long/short equity holdings. The performance of the
composite is weighted by the value of each account. Performance is presented
net of 2% annual fees because such fees represent the expenses of
Institutional Shares of the Barr Rosenberg Market Neutral Fund. As of
March 31, 1998, there were thirteen accounts in such composite. This
composite includes the Barr Rosenberg Market Neutral Fund from its inception
on December 16, 1997. Performance calculations meet AIMR standards.
SHARPE RATIO: A ratio equal to the squared mean excess return divided by the
variance of return. When an investment portfolio is constructed over a wide
range of independent opportunities, the Sharpe ratio for the optimum total
portfolio is the sum of the Sharpe ratios for the separate opportunities. Thus
the Sharpe ratio is a measure of reward per unit of risk.
S&P 500 (INDEX): An index of 500 (generally larger) companies with the holdings
proportional to the market value of each of the companies in the Index
(capitalization weighted).
SHORT EXECUTIONS: The process of implementing a desired short sale. Short
sales can only be executed after there has been a positive change in the price
of the stock to be shorted.
SHORT (PORTFOLIO; POSITIONS): Stocks which are borrowed and sold with the
expectation that the borrowed shares can be replaced in the future with shares
purchased at a lower price.
SHORTING: The act of borrowing (creating a liability) and then selling a stock
with the obligation of returning that stock to the lender some time in the
future.
SHORT SQUEEZE: Used to describe the potential risk when a short seller has
borrowed stock and must replace it in the future. However, when the short
seller attempts to buy the stock, there are few sellers relative to the demand
and the price (and potential liability) of the stock shorted increases
significantly.
SHORT STOCK REBATE: Return earned by investing the cash generated by the short
positions and is generally equal to the federal funds rate, less a small fee
charged by the prime broker.
STANDARD DEVIATION: A statistical term which measures the spread or variability
of a probability distribution. The standard deviation is the square root of
variance. Its intuitive meaning is best seen in a
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<PAGE>
simple, symmetrical distribution, such as the normal distribution, where
approximately two thirds of all outcomes fall within (plus or minus) 1
standard deviation of the mean and approximately 95 percent of all outcomes
fall within (plus or minus) 2 standard deviations.
SURVIVORSHIP BIAS: A distortion in the results of a statistical analysis that
results from the failure to adequately account for the fact that the sample at
the end of the period does not include those companies that failed or went
bankrupt and are no longer in the sample.
SYSTEMATIC RISK: That portion of an asset's risk that is related to the risk of
the overall asset class.
T-BILLS: 90 day U.S. government treasury bills.
TRACKING ERROR: The annual standard deviation of the alpha or value added. It
is a measure of how closely the portfolio tracks the benchmark.
VARIANCE: A statistical term for the variability of a random variable about its
mean. The variance is defined as the expected squared deviation of the random
variable from its mean - that is, the average squared distance between the mean
value and the actually observed value of the random variable. When a portfolio
includes several independent elements of risk, the variance of the total arises
as a summation of the variances of the separate components.
YIELD: The return on a security or portfolio in the form of cash payments.
Most yield comes from dividends on equities, coupons on bonds, or interest on
mortgages.
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<PAGE>
ANNEX I: DESCRIPTORS USED IN RISK INDEXES
1. Variability in Markets
A. Option sample
- Cumulative range, one year
- H-Beta x H-sigma
- Option-implied Standard Deviation
- Short-term Standard Deviation
B. Listed company sample
- H-Beta x H-sigma
- Cumulative range, one year
- Short-term Standard Deviation
- Trading volume/Variance
- Common stock price (LN)
- Serial dependence
- Share turnover, last twelve months
C. OTC Stock sample
- H-Beta x H-sigma
- Cumulative range, one year
- Share turnover, last twelve months
- Common stock price (LN)
- Serial dependence
2. Success
- Relative strength
- Historical Alpha
- Recent earnings change
- IBES earnings increase
- Dividend cuts: five year
- Growth in EPS
3. Size
- Capitalization (LN)
- Total assets (LN)
- Indicator of earnings history
4. Trading Activity
- Share turnover, last twelve months
- Share turnover, last five calendar years
- Share turnover, quarterly
- Common stock price (LN)
- IBES number of analysts
- Trading volume/Variance
5. Growth
- Payout, last five years
- Growth in earning per share
- Capital structure change
- Earnings/price, normalized
- Recent earnings change
- Dividend Yield, last five years
- IBES earnings increase
- Dividend Yield prediction
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<PAGE>
- Indicator of zero Yield
- Earnings/price
- IBES earnings/price prediction
- Growth in total assets
6. Earnings/price
- Earnings/price
- Typical E/P, five years
- IBES E/P projection
7. Book/Price
- Book/price
8. Earnings Variation
- Variance of earnings
- IBES Standard Deviation/price
- Earnings covariability
- Concentration
- Variance of cash flow
- Extraordinary items
9. Financial leverage
- Interest rate sensitivity
- Debts/assets
- Leverage at book
- Uncovered fixed charges
10. Foreign Income
- Foreign operating income
11. Labor Intensity
- Net plant/gross plant
- Inflation-adjusted plant/equity
- Labor share
12. Yield
- Dividend Yield prediction
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