VANGUARD ASSET ALLOCATION FUND INC, 497, 1996-05-23

VANGUARD ASSET ALLOCATION FUND INC
497, 1996-05-23

Previous: PATRIOT SCIENTIFIC CORP, SB-2/A, 1996-05-23

Next: PAC RIM HOLDING CORP, 8-K, 1996-05-23

<PAGE> 1

- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------

SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM N-1A
REGISTRATION STATEMENT (NO. 33-23444) UNDER
THE SECURITIES ACT OF 1933
PRE-EFFECTIVE AMENDMENT NO. /X/
POST-EFFECTIVE AMENDMENT NO. 10 /X/
AND

REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY
ACT OF 1940
AMENDMENT NO. 13 /X/

VANGUARD ASSET ALLOCATION FUND, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN CHARTER)

P.O. BOX 2600, VALLEY FORGE, PA 19482
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICE)

REGISTRANT'S TELEPHONE NUMBER (215) 669-1000

RAYMOND J. KLAPINSKY, ESQUIRE
P.O. BOX 876
VALLEY FORGE, PA 19482

IT IS PROPOSED THAT THIS FILING BECOME EFFECTIVE
pursuant to paragraph (b) of Rule 485
(acceleration of the effective date to January 15, 1996 has been requested).

APPROXIMATE DATE OF PROPOSED PUBLIC OFFERING:
As soon as practicable after this Registration Statement becomes effective.

REGISTRANT ELECTS TO REGISTER AN INDEFINITE NUMBER OF SHARES PURSUANT TO
REGULATION 24f-2 UNDER THE INVESTMENT COMPANY ACT OF 1940. REGISTRANT FILED ITS
RULE 24(f)(2) FOR THE YEAR ENDED SEPTEMBER 30, 1995, ON NOVEMBER 17, 1995.

- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE> 2

VANGUARD ASSET ALLOCATION FUND, INC.

CROSS REFERENCE SHEET

<TABLE>
<CAPTION>
FORM N-1A
ITEM NUMBER LOCATION IN PROSPECTUS
<S> <C> <C>
Item 1. Cover Page.................................... Cover Page
Item 2. Synopsis...................................... Not Applicable
Item 3. Condensed Financial Information............... Financial Highlights; Performance
Record
Item 4. General Description of Registrant............. Investment Objective; Investment
Policies, Investment Risks;
Investment Limitations; General
Information
Item 5. Management of the Fund........................ Management of the Fund; Investment
Adviser
Item 6. Capital Stock and Other Securities............ Opening an Account and Purchasing
Shares; Selling Your Shares; The
Fund's Share Price; Dividends,
Capital Gains and Taxes; General
Information
Item 7. Purchase of Securities Being Offered.......... Cover Page; Opening an Account and
Purchasing Shares
Item 8. Redemption or Repurchase...................... Selling Your Shares
Item 9. Pending Legal Proceedings..................... Not Applicable

<CAPTION>
FORM N-1A LOCATION IN STATEMENT
ITEM NUMBER OF ADDITIONAL INFORMATION
<S> <C> <C>
Item 10. Cover Page.................................... Cover Page
Item 11. Table of Contents............................. Cover Page
Item 12. General Information and History............... Management of the Fund
Item 13. Investment Objective and Policies............. Investment Limitations; Description
of U.S. Government Securities;
Description of Repurchase Agreements;
Futures Contracts
Item 14. Management of the Fund........................ Management of the Fund
Item 15. Control Persons and Principal Holders of
Securities.................................... Management of the Fund
Item 16. Investment Advisory and Other Services........ Management of the Fund; Investment
Advisory Services
Item 17. Brokerage Allocation.......................... Not Applicable
Item 18. Capital Stock and Other Securities............ General Information
Item 19. Purchase, Redemption and Pricing of Securities
Being Offered................................. Purchase of Shares; Redemption of
Shares
Item 20. Tax Status.................................... Not Applicable
Item 21. Underwriters.................................. Not Applicable
Item 22. Calculations of Yield Quotations of Money
Market Fund................................... Not Applicable
Item 23. Financial Statements.......................... Financial Statements
</TABLE>
<PAGE> 3

- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
[VANGUARD LOGO]
A Member of The Vanguard Group

- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------

PROSPECTUS -- JANUARY 15, 1996; REVISED MAY 29, 1996

- --------------------------------------------------------------------------------

NEW ACCOUNT INFORMATION: INVESTOR INFORMATION DEPARTMENT--1-800-662-7447 (SHIP)
- --------------------------------------------------------------------------------

SHAREHOLDER ACCOUNT SERVICES: CLIENT SERVICES DEPARTMENT--1-800-662-2739 (CREW)
- --------------------------------------------------------------------------------

INVESTMENT
OBJECTIVE AND
POLICIES Vanguard Asset Allocation Fund, Inc. (the "Fund") is an
open-end diversified investment company that seeks to
maximize total return (i.e., capital change plus income).
The Fund invests in common stocks, bonds and money market
instruments in proportions consistent with their expected
returns and risks as evaluated by the Fund's adviser. The
Fund should not be considered a complete investment
program. There is no assurance that the Fund will achieve
its stated objective. Shares of the Fund are neither
insured nor guaranteed by any agency of the U.S.
Government, including the FDIC.
- --------------------------------------------------------------------------------

OPENING AN
ACCOUNT To open a regular (non-retirement) account, please
complete and return the Account Registration Form. If you
need assistance in completing this Form, please call our
Investor Information Department. To open an Individual
Retirement Account (IRA), please use a Vanguard IRA
Adoption Agreement. To obtain a copy of this form, call
1-800-662-7447, Monday through Friday from 8:00 a.m. to
9:00 p.m. and Saturday, from 9:00 a.m. to 4:00 p.m.
(Eastern time). The minimum initial investment is $3,000
or $1,000 for Uniform Gifts/Transfers to Minors Act
accounts. The Fund is offered on a no-load basis (i.e.,
there are no sales commissions or 12b-1 fees). However,
the Fund incurs expenses for investment advisory,
management, administrative and distribution services.
- --------------------------------------------------------------------------------

ABOUT THIS
PROSPECTUS This Prospectus is designed to set forth concisely the
information you should know about the Fund before you
invest. It should be retained for future reference. A
"Statement of Additional Information" containing
additional information about the Fund has been filed with
the Securities and Exchange Commission. Such Statement is
dated January 15, 1996; revised May 29, 1996 and has been
incorporated by reference into this Prospectus. A copy may
be obtained without charge by writing to the Fund or by
calling the Investor Information Department.

- --------------------------------------------------------------------------------

TABLE OF CONTENTS

<TABLE>
<CAPTION>
Page Page Page
<S> <C> <C>
Fund Expenses ...................... 2 implementation of Policies ......... 7 SHAREHOLDER GUIDE
Financial Highlights ............... 2 Investment Limitations ............. 9 Opening an Account and
Yield and Total Return ............. 3 Management of the Fund ............. 9 Purchasing Shares ................ 15
Investment Adviser ................. 10 When Your Account Will Be
FUND INFORMATION Performance Record ................. 11 Credited ......................... 18
Investment Objective ............... 4 Dividends, Capital Gains and Selling Your Shares ................ 18
Investment Policies ................ 4 Taxes ............................ 12 Exchanging Your Shares ............. 20
Investment Risks ................... 5 The Share Price of the Important Information About
Who Should Invest .................. 6 Fund ............................. 13 Telephone Transactions ............. 22
General Information ................ 14 Transferring Registration .......... 22
Other Vanguard Services ............ 23
</TABLE>

- --------------------------------------------------------------------------------

THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION, NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE COMMISSION PASSED UPON THE ACCURACY OR
ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL
OFFENSE.
- --------------------------------------------------------------------------------

- --------------------------------------------------------------------------------
<PAGE> 4

FUND EXPENSES The following table illustrates ALL expenses and fees that
you would incur as a shareholder of the Fund. The expenses
and fees set forth in the table are for the 1995 fiscal
year.

<TABLE>
<S> <C> <C>
SHAREHOLDER TRANSACTION EXPENSES
-----------------------------------------------------------------------------------
Sales Load Imposed on Purchases........................................ None
Sales Load Imposed on Reinvested Dividends............................. None
Redemption Fees........................................................ None
Exchange Fees.......................................................... None
ANNUAL FUND OPERATING EXPENSES
-----------------------------------------------------------------------------------
Management & Administrative Expenses................................... 0.31%
Investment Advisory Fees............................................... 0.14
12b-1 Fees............................................................. None
Other Expenses
Distribution Costs......................................... 0.02%
Miscellaneous Expenses..................................... 0.02
-----
Total Other Expenses................................................... 0.04
------
TOTAL OPERATING EXPENSES...................................... 0.49%
======
</TABLE>

The purpose of this table is to assist you in
understanding the various costs and expenses that you
would bear directly or indirectly as an investor in the
Fund.

The following example illustrates the expenses that you
would incur on a $1,000 investment over various periods,
assuming (1) a 5% annual rate of return and (2) redemption
at the end of each period. As noted in the table above,
the Fund charges no redemption fees of any kind.

1 YEAR 3 YEARS 5 YEARS 10 YEARS
------ ------- ------- --------
<S> <C> <C> <C>
$5 $ 16 $ 27 $ 62
</TABLE>

THIS EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTATION OF
PAST OR FUTURE EXPENSES OR PERFORMANCE. ACTUAL EXPENSES
MAY BE HIGHER OR LOWER THAN THOSE SHOWN.
- --------------------------------------------------------------------------------

FINANCIAL
HIGHLIGHTS The following financial highlights information, for a
share outstanding throughout each period, insofar as it
relates to each of the five years in the period ended
September 30, 1995, has been audited by Price Waterhouse
LLP, independent accountants, whose report thereon was
unqualified. This information should be read in
conjunction with the financial statements and notes
thereto, which, together with the remaining portions of
the Fund's 1995 Annual Report to Shareholders, are
incorporated by reference in the Statement of Additional
Information and this Prospectus, and which appear, along
with the report of Price Waterhouse LLP, in the Fund's
1995 Annual Report to Shareholders. For a more complete
discussion of the Fund's performance, please see the
Fund's 1995 Annual Report to Shareholders, which may be
obtained without charge by writing to the Fund or by
calling our Investor Information Department at
1-800-662-7447.

2
<PAGE> 5

<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30,
------------------------------------------------------------- NOV. 3, 1988+ TO
1995 1994 1993 1992 1991 1990 SEPT. 30, 1989
<S> <C> <C> <C> <C> <C> <C> <C>
- --------------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, BEGINNING OF PERIOD...... $13.78 $15.08 $13.79 $13.06 $10.93 $12.11 $10.00
------ ------ ------ ------ ------ ------ ------------
INVESTMENT OPERATIONS
Net Investment Income................... .64 .52 .54 .61 .60 .60 .46
Net Realized and Unrealized Gain (Loss)
on Investments........................ 3.18 (.81) 1.51 .90 2.28 (1.12) 1.90
------ ------ ------ ------ ------ ------ ------------
TOTAL FROM INVESTMENT OPERATIONS...... 3.82 (.29) 2.05 1.51 2.88 (.52) 2.36
- --------------------------------------------------------------------------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment Income.... (.57) (.48) (.59) (.59) (.62) (.51) (.25)
Distributions from Realized Capital
Gains................................. -- (.53) (.17) (.19) (.13) (.15) --
------ ------ ------ ------ ------ ------ ------------
TOTAL DISTRIBUTIONS................... (.57) (1.01) (.76) (.78) (.75) (.66) (.25)
- --------------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD............ $17.03 $13.78 $15.08 $13.79 $13.06 $10.93 $12.11
================================================================================================================================
TOTAL RETURN.............................. 28.57% (2.05)% 15.41% 12.16% 27.32% (4.57)% 23.93%
================================================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Period (Millions)...... $1,593 $1,120 $1,003 $502 $265 $160 $107
Ratio of Expenses to Average Net Assets... .49% .50% .49% .52% .44% .50% .49%*
Ratio of Net Investment Income to Average
Net Assets.............................. 4.41% 3.68% 4.07% 4.95% 5.28% 5.53% 5.53%*
Portfolio Turnover Rate................... 34% 51% 31% 18% 44% 12% 52%
</TABLE>

* Annualized.
+ Commencement of operations.
- --------------------------------------------------------------------------------

YIELD AND TOTAL
RETURN From time to time the Fund may advertise its yield and
total return. Both yield and total return figures are
based on historical earnings and are not intended to
indicate future performance. The "total return" of the
Fund refers to the average annual compounded rates of
return over one-, five- and ten-year periods or for the
life of the Fund (which periods will be stated in the
advertisement) that would equate an initial amount
invested at the beginning of a stated period to the ending
redeemable value of the investment, assuming the
reinvestment of all dividend and capital gains
distributions.

In accordance with industry guidelines set forth by the
U.S. Securities and Exchange Commission, the "30-day
yield" of the Fund is calculated by dividing the net
investment income per share earned during a 30-day period
by the net asset value per share on the last day of the
period. Net investment income includes interest and
dividend income earned on the Fund's securities; it is net
of all expenses and all recurring and nonrecurring charges
that have been applied to all shareholder accounts. The
yield calculation assumes that the net investment income
earned over thirty days is compounded monthly for six
months and then annualized. Methods used to calculate
advertised yields are standardized for all stock and bond
mutual funds. However, these methods differ from the
accounting methods used by the Fund to maintain its books
and records, and so the advertised thirty-day yield may
not fully reflect the income paid to your own account.
Additionally, the Fund may compare its performance to that
of the Standard & Poor's 500 Composite Stock Price Index.
- --------------------------------------------------------------------------------

3
<PAGE> 6

INVESTMENT
OBJECTIVE
THE FUND SEEKS TO
MAXIMIZE TOTAL RETURN The objective of the Fund is to maximize total return
(i.e., capital change plus income) while exhibiting less
investment risk than a portfolio consisting entirely of
common
stocks. There is no assurance that the Fund will achieve
its stated objective.

- --------------------------------------------------------------------------------

INVESTMENT
POLICIES
THE FUND INVESTS IN
STOCKS, BONDS AND
MONEY MARKET
INSTRUMENTS IN
VARYING PROPORTIONS The Fund will allocate its assets among a common stock
portfolio, a bond portfolio, and money market instruments.
The Fund's adviser, Mellon Capital Management, allocates
the Fund's assets among stocks, bonds and money market
instruments in proportions which reflect the anticipated
returns and risks of each asset class. The estimates of
return and risk are developed based upon the adviser's
disciplined valuation methodology. There are no
limitations on the amount of the Fund's assets which may
be allocated to each of the three asset classes (stocks,
bonds and money market instruments). The Fund is managed
without regard to tax ramifications.

In estimating the relative attractiveness of each asset
class, the adviser takes into account various factors.
Common stocks are evaluated using a "dividend-discount"
model. This model provides an estimate of the expected
return of the Standard & Poor's 500 Composite Stock Price
Index (the "S&P 500 Index") based upon earnings forecasts
for companies whose stocks are included in the S&P 500
Index. The expected bond return is the current
yield-to-maturity of long-term U.S. Treasury bonds, while
the return on money market instruments reflects the
current yield on three-month U.S. Treasury bills and
long-term inflation forecasts.

Once expected return and volatility (risk) estimates are
developed for each asset class, the adviser attempts to
identify apparent imbalances in the relative pricing of
common stocks, bonds and money market instruments, using a
computer model. Implicit in the adviser's approach is the
belief that such short-term imbalances occur periodically
but tend to be corrected fairly quickly. The Fund's
allocation among the three asset classes is then
structured to take advantage of these perceived
imbalances.

To implement a particular allocation strategy, the Fund
may invest in the following securities: a diversified
portfolio of common stocks selected by the adviser to
parallel the performance of the S&P 500 Index; long-term
U.S. Treasury bonds with maturities generally in excess of
20 years; and selected money market instruments, including
repurchase agreements. The Fund may also invest in futures
contracts on stock indexes and bonds. See "Implementation
of Policies" for a description of the securities in which
the Fund invests and other investment practices of the
Fund.

The Fund is responsible for voting the shares of all
securities it holds.

The investment objective and policies of the Fund are not
fundamental and so may be changed by the Board of
Directors without shareholder approval. However,
shareholders would be notified prior to a material change
in either.
- --------------------------------------------------------------------------------

4
<PAGE> 7

INVESTMENT RISKS
THE FUND IS SUBJECT
TO STOCK AND BOND
MARKET RISK Depending on the adviser's allocation of the Fund's assets
among stocks, bonds and cash reserves, investors in the
Fund may be exposed to the market risk of common stocks
and bonds.

Stock market risk is the possibility that stock prices in
general will decline over short or even extended periods.
The stock market tends to be cyclical, with periods when
stock prices generally rise and periods when stock prices
generally decline. To illustrate the volatility of
domestic stock prices, the following table sets forth the
extremes for U.S. stock market returns as well as the
average return for the period from 1926 to 1995, as
measured by the Standard & Poor's 500 Composite Stock
Price Index:

<TABLE>
<CAPTION>
AVERAGE ANNUAL U.S. STOCK MARKET RETURNS (1926-1995)
OVER VARIOUS TIME HORIZONS
1 YEAR 5 YEARS 10 YEARS 20 YEARS
------ ------- -------- --------
<S> <C> <C> <C> <C>
Best +53.9% +23.9% +20.1% +16.9%
Worst -43.3 -12.5 - 0.9 + 3.1
Average +12.5 +10.3 +10.7 +10.7
</TABLE>

As shown, from 1926 to 1995, U.S. common stocks as
measured by the Index provided an average annual total
return (capital appreciation plus dividend income) for 10
years, of +10.7%. Average return may not be useful for
forecasting future returns in any particular period, as
stock returns are quite volatile from year to year.

Bond market risk is the potential for fluctuations in the
market value of bonds. Bond prices vary inversely with
changes in the level of interest rates. When interest
rates rise, the prices of bonds fall; conversely, when
interest rates fall, bond prices rise. While bonds
normally fluctuate less in price than stocks, there have
been extended periods of cyclical increases in interest
rates that have caused significant declines in bond
prices. For example, long-term bond prices fell 48% from
December 1976 to September 1981. The risk of bonds
declining in value, however, may be offset in whole or in
part by the higher level of income that bonds provide.

While the Fund invests in stocks, bonds and money market
instruments in varying proportions, investors should not
construe the Fund as a balanced investment program
offering relatively stable allocations among these asset
classes. Because the allocation strategy of the adviser
may, at certain times, result in a portfolio with a
primary emphasis on common stocks, the Fund may from time
to time exhibit a level of volatility which is more
consistent with a common stock portfolio than a balanced
portfolio. However, under normal circumstances, the
volatility of the Fund's total return is expected to be
less than that of a common stock portfolio, as
represented, for example, by the S&P 500 Index.

THE ADVISER MAY FAIL
TO ANTICIPATE MARKET
ADVANCES OR DECLINES Investors should also be aware that the investment results
of the Fund depend upon the adviser's ability to
anticipate correctly the relative performance and risk of
stocks, bonds and money market instruments. Historical
evidence indicates that correctly timing portfolio
allocations among these asset classes has been an
extremely difficult strategy to implement successfully.
While the adviser has

5
<PAGE> 8

substantial experience in asset allocation, there can be
no assurance that the adviser will correctly anticipate
relative asset class performance in the future on a
consistent basis. The Fund's short-term investment results
would suffer, for example, if only a small portion of the
Fund's assets were allocated to stocks during a
significant stock market advance, or if a major portion of
its assets were allocated to stocks during a market
decline. Similarly, the Fund's short-term investment
results would also suffer if the Fund were substantially
invested in bonds at a time when interest rates increased.
- --------------------------------------------------------------------------------

WHO SHOULD INVEST
LONG-TERM INVESTORS
SEEKING MAXIMUM
TOTAL RETURN The Fund is designed for investors seeking maximum total
return through an investment vehicle which provides an
actively managed mix of stocks, bonds and money market
instruments. Because the Fund can and may have a large
percentage of its portfolio invested in common stocks,
investors in the Fund should be willing to accept the risk
of an all-stock portfolio, including the potential for
sudden, sometimes substantial declines in market value.

Due to the risks associated with common stock and bond
investments, the Fund is intended to be a long-term
investment vehicle and is not designed to provide
investors with a means of speculating on short-term stock
and bond market movements. Investors who engage in
excessive account activity generate additional costs which
are borne by all of the Fund's shareholders. In order to
minimize such costs the Fund has adopted the following
policies. The Fund reserves the right to reject any
purchase request (including exchange purchases from other
Vanguard portfolios) that is reasonably deemed to be
disruptive to efficient portfolio management, either
because of the timing of the investment or previous
excessive trading by the investor. Additionally, the Fund
has adopted exchange privilege limitations as described in
the section "Exchange Privilege Limitations." Finally, the
Fund reserves the right to suspend the offering of its
shares.

No assurance can be given that the Fund will achieve its
objective or that shareholders will be protected from the
risk of loss that is inherent in equity investing. Also,
there can be no guarantee that the adviser will correctly
anticipate fluctuations in the stock and bond markets in
its effort to maximize total return while minimizing risk.

The Fund should be considered part of a well-rounded
investment program and not its sole component. Investors
may wish to reduce the potential risk of investing in the
Fund by purchasing shares on a regular, periodic basis
(dollar-cost averaging) rather than making an investment
in one lump sum.
- --------------------------------------------------------------------------------

6
<PAGE> 9

IMPLEMENTATION OF
POLICIES In an effort to maximize its total investment return, the
Fund utilizes a number of investment practices.

THE FUND MAY INVEST
IN STOCKS, BONDS
AND MONEY MARKET
INSTRUMENTS The Fund invests in stocks, bonds and money market
instruments in varying proportions. For common stocks, the
Fund will invest in a diversified portfolio of common
stocks selected to parallel the investment performance of
the S&P 500 Index. The Fund may also invest in stock index
futures and options to a limited extent, as described
below.

Bond investments for the Fund will consist of long-term
U.S. Treasury bonds (those with maturities generally in
excess of 20 years) and, as described below, futures
contracts and options on such bonds. As part of its bond
portfolio, the Fund may also invest in other long-term
"full faith and credit" obligations of the U.S.
Government.

The money market instruments held by the Fund will have an
average weighted maturity of less than 90 days. Money
market instruments may include obligations of the United
States Government and its agencies and instrumentalities;
commercial paper, bank certificates of deposit, and
bankers' acceptances; and repurchase agreements
collateralized by these securities.

A repurchase agreement is a means of investing monies for
a short period. In a repurchase agreement, a seller -- a
U.S. commercial bank or recognized U.S. securities
dealer -- sells securities to the Fund and agrees to
repurchase the securities at the Fund's cost plus interest
within a specified period (normally one day). In these
transactions, the securities purchased by the Fund will
have a total value equal to, or in excess of, the value of
the repurchase agreement, and will be held by the Fund's
Custodian Bank until repurchased.

THE FUND MAY LEND
ITS SECURITIES The Fund may lend its investment securities to qualified
institutional investors for either short-term or long-term
purposes of realizing additional income. Loans of
securities by the Fund will be collateralized by cash,
letters of credit, or securities issued or guaranteed by
the U.S. Government or its agencies. The collateral will
equal at least 100% of the current market value of the
loaned securities.

THE FUND MAY BORROW
MONEY UNDER UNUSUAL
CIRCUMSTANCES The Fund may borrow money, subject to the limitations set
forth below, for temporary or emergency purposes,
including the meeting of redemption requests which might
otherwise require selling securities at a loss.

PORTFOLIO TURNOVER
MAY BE HIGH Due to the active asset allocation approach employed by
the Fund, the Fund's portfolio turnover rate may be high,
approximately 100% per year. A 100% portfolio turnover
rate would occur, for example, if all of the Fund's
securities were replaced within one year. Further, in
order to comply with the "short-short" test of the
Internal Revenue Service, it may be necessary for the Fund
to modify its investment strategy and refrain from
securities sales that it would otherwise make. Under the
IRS's "short-short" test, a mutual fund must not receive
more than 30% of its gross income from gains realized on
securities held for less than 90 days.

7
<PAGE> 10

DERIVATIVE
INVESTING Derivatives are instruments whose values are linked to or
derived from an underlying security or index. The most
common and conventional types of derivative securities are
futures and options.

THE FUND MAY
USE FUTURES CONTRACTS
AND OPTIONS The Fund may utilize stock and bond futures contracts and
options to a limited extent. Specifically, the Fund may
enter into futures contracts provided that not more than
5% of its assets are required as a futures contract
deposit; in addition, the Fund may enter into futures
contracts and options only to the extent that obligations
under such contracts or transactions represent not more
than 50% of the Fund's assets. However, under unusual
circumstances, the Fund may maintain futures positions
that are equivalent in value to up to 100% of the Fund's
assets, so that the Fund may remain effectively fully
invested in proportions consistent with the adviser's
current asset allocation strategy.

Futures contracts and options may be used for several
reasons: to reallocate the Fund's assets among stocks,
bonds and money market instruments while minimizing
transaction costs; to maintain cash reserves while
simulating full investment; to facilitate trading; or to
seek higher investment returns when a futures contract is
priced more attractively than the underlying security or
index.

For example, in order to reallocate 10% of the Fund's
assets from stocks to bonds while minimizing transaction
costs, the adviser may sell stock index futures and
purchase bond futures. Because the transaction costs of
futures contracts and options may be lower than the costs
of investing in stocks or bonds directly, it is expected
that the use of futures contracts and options may reduce
the Fund's total transaction costs. Also, because futures
contracts only require a small initial margin deposit, the
Fund would then be able to simultaneously maintain a cash
reserve for potential redemptions and simulate full
investment. In the event of net redemptions from the Fund,
sufficient futures contracts would be sold to avoid any
leveraging of the Fund's assets.

FUTURES CONTRACTS AND
OPTIONS POSE CERTAIN
RISKS The primary risks associated with the use of futures
contracts and options are: (i) imperfect correlation
between the change in market value of the securities held
by the Fund and the prices of futures contracts and
options; and (ii) possible lack of a liquid secondary
market for a futures contract and the resulting inability
to close a futures position prior to its maturity date.
The risk of imperfect correlation will be minimized by
investing only in those contracts whose behavior is
expected to resemble that of the Fund's underlying
securities. The risk that the Fund will be unable to close
out a futures position will be minimized by entering into
such transactions on a national exchange with an active
and liquid secondary market. While futures contracts and
options can be used as leveraged instruments, the Fund may
not use futures contracts or options to leverage its net
assets.

The risk of loss in trading futures contracts in some
strategies can be substantial, due both to the low margin
deposits required and the extremely high degree of
leverage involved in futures pricing. As a result, a
relatively small price movement in a futures contract may
result in immediate and substantial loss (or gain) to the

8
<PAGE> 11

investor. When investing in futures contracts, the Fund
will segregate cash or cash equivalents in the amount of
the underlying obligation.

- --------------------------------------------------------------------------------

INVESTMENT
LIMITATIONS
THE FUND HAS ADOPTED
CERTAIN FUNDAMENTAL
LIMITATIONS The Fund has adopted certain limitations in an attempt to
reduce its exposure to specific situations. Some of these
limitations are that the Fund will not:

(a) with respect to 75% of the value of its total assets,
purchase the securities of any issuer (except
obligations of the United States government and its
instrumentalities) if as a result the Fund would hold
more than 10% of the outstanding voting securities of
the issuer, or more than 5% of the value of the
Fund's total assets would be invested in the
securities of such issuer;

(b) invest more than 25% of its assets in any one
industry;

(c) borrow money except from banks (or through reverse
repurchase agreements) for temporary or emergency
purposes (not leveraging), and then only in an amount
not in excess of 15% of the value of the Fund's net
assets at the time the borrowing is made. Whenever
borrowing exceeds 5% of the value of the Fund's
assets, the Fund will not make any additional
investments; and

(d) pledge, mortgage or hypothecate any of its assets to
an extent greater than 5% of its total assets.

These investment limitations are considered at the time
investment securities are purchased. The investment
limitations described here and in the Statement of
Additional Information may be changed only with the
approval of a majority of the Fund's shareholders.
- --------------------------------------------------------------------------------

MANAGEMENT OF
THE FUND
VANGUARD
ADMINISTERS AND
DISTRIBUTES THE FUND The Fund is a member of The Vanguard Group of Investment
Companies, a family of more than 30 investment companies
with more than 90 distinct investment portfolios and total
assets in excess of $190 billion. Through their
jointly-owned subsidiary, The Vanguard Group, Inc.
("Vanguard"), the Fund and the other funds in the Group
obtain at cost virtually all of their corporate
management, administrative and distribution services.
Vanguard also provides investment advisory services on an
at-cost basis to certain Vanguard funds. As a result of
Vanguard's unique corporate structure, the Vanguard funds
have costs substantially lower than those of most
competing mutual funds. In 1995, the average expense ratio
(annual costs including advisory fees divided by average
net assets) for the Vanguard funds amounted to
approximately .31% compared to an average of 1.11% for the
mutual fund industry (data provided by Lipper Analytical
Services).

Vanguard employs a supporting staff of management and
administrative personnel needed to provide the requisite
services to the funds and also furnishes the funds with
necessary office space, furnishings and equipment. Each
fund pays a share of Vanguard's total expenses, which are
allocated among the funds under methods approved by the
Board of Directors (Trustees) of each fund. In addition,
each fund bears its own direct expenses, such as legal,
auditing and custodian fees.

The Officers of the Fund manage its day-to-day operations
and are responsible to the Fund's Board of Directors. The
Directors set broad policies for the Fund and

9
<PAGE> 12

choose its Officers. A list of Directors and Officers of
the Fund and a statement of their present positions and
principal occupations during the past five years can be
found in the Statement of Additional Information.

Vanguard provides distribution and marketing services to
the funds. However, each fund bears its share of the
Group's distribution costs.
- --------------------------------------------------------------------------------

INVESTMENT
ADVISER
MELLON CAPITAL
MANAGEMENT
MANAGES THE FUND'S
INVESTMENTS The Fund employs Mellon Capital Management Corporation,
595 Market St., Suite 3000, San Francisco, CA 94105, as
its investment adviser. Under an investment advisory
agreement dated January 15, 1996, the adviser manages the
investment and reinvestment of the assets of the Fund and
continuously reviews, supervises and administers the
Fund's investment program. The adviser discharges its
responsibilities subject to the control of the Officers
and Directors of the Fund.

The adviser is a professional counseling firm which
manages well-diversified stock and bond portfolios for
institutional clients. As of September 30, 1995 the
adviser provided investment advisory services to 181
clients and managed assets with an approximate value of
$40.3 billion. The adviser's asset allocation strategy was
developed by the adviser's Chairman, William Fouse, in
1972, and is used by 76 of its clients and accounts for
approximately $10.4 billion of the assets that it manages.
For its asset allocation clients, including the Fund, the
adviser employs a proprietary asset allocation model in
managing client investment portfolios and an indexing
approach in selecting individual equity securities. The
Fund is one of the adviser's two investment company
clients.

The adviser was founded in October 1983 by a group of
investment professionals from Wells Fargo Bank, including
Mr. Fouse. Mr. Fouse has been responsible for overseeing
the implementation of the firm's strategy for the Fund
since the Fund's inception. The adviser is a wholly-owned
subsidiary of MBC Investment Corporation, which itself is
a subsidiary of Mellon Bank Corporation.

The Fund pays the adviser a basic fee at the end of each
fiscal quarter, calculated by applying a quarterly rate,
based on the following annual percentage rates, to the
Fund's average month-end net assets for the quarter:

<TABLE>
<CAPTION>
NET ASSETS RATE
-------------------- ----
<S> <C>
First $100 million .200%
Next $900 million .150%
Next $500 million .125%
Over $1.5 billion .100%
</TABLE>

This fee may be increased or decreased by applying an
adjustment formula based on the performance of the Fund
relative to the investment record of the S&P 500 Index.
The fee payment will be increased (decreased) by an
incentive (penalty) of 0.05% of average net assets if the
Fund's cumulative investment performance for the thirty-
six months preceding the end of the quarter is at least
six percentage points above (below) the cumulative
investment record of the S&P 500 Index for the same
period. For the year ended September 30, 1995, the
investment advisory fee paid by the Fund represented an
effective annual rate of .15 of 1% of average net assets,
before a decrease of .01 of 1% based on performance.

10
<PAGE> 13

The investment advisory agreement authorizes the adviser
to select brokers or dealers to execute purchases and
sales of the Fund's portfolio securities, and directs the
adviser to use its best efforts to obtain the best
available price and most favorable execution with respect
to all transactions. The full range and quality of
brokerage services available are considered in making
these determinations.

The Fund has authorized the adviser to pay higher
commissions in recognition of brokerage services felt
necessary for the achievement of better execution,
provided the adviser believes this to be in the best
interest of the Fund. Although the Fund does not market
its shares through intermediary brokers or dealers, the
Fund may place orders with qualified broker-dealers who
recommend the Fund to clients if the Officers of the Fund
believe that the quality of the transaction and the
commission are comparable to what they would be with other
qualified brokerage firms.

The Fund's Board of Directors may, without the approval of
shareholders, provide for: (a) the employment of a new
investment adviser pursuant to the terms of a new advisory
agreement either as a replacement for an existing adviser
or as an additional adviser; (b) a change in the terms of
an advisory agreement; and (c) the continued employment of
an existing adviser on the same advisory contract terms
where a contract has been assigned because of a change in
control of the adviser. Any such change will only be made
upon not less than 30 days prior written notice to
shareholders of the Fund which shall include substantially
the information concerning the adviser that would have
normally been included in a proxy statement.
- --------------------------------------------------------------------------------

PERFORMANCE
RECORD The table below provides investment results for the Fund
for several periods throughout the Fund's lifetime. The
results shown represent "total return" investment
performance, which assumes the reinvestment of all capital
gains and income dividends for the indicated periods. Also
included is comparative information with respect to the
unmanaged Standard & Poor's 500 Composite Stock Price
Index, a widely-used barometer of stock market activity,
and the Consumer Price Index, a statistical measure of
changes in the prices of goods and services. The tables do
not make any allowance for federal, state or local income
taxes, which shareholders must pay on a current basis.

The results should not be considered a representation of
the total return from an investment made in the Fund
today. This information is provided to help investors
better understand the Fund and may not provide a basis for
comparison with other investments or mutual funds which
use a different method to calculate performance.

<TABLE>
<CAPTION>
AVERAGE ANNUAL RETURN FOR VANGUARD ASSET ALLOCATION FUND
FISCAL PERIODS VANGUARD ASSET S&P 500 CONSUMER
ENDED 9/30/95 ALLOCATION FUND INDEX PRICE INDEX
-------------- --------------- ------- -----------
<S> <C> <C> <C>
1 Year +28.6% +29.7% +2.6%
5 Years +15.7 +17.2 +2.9
Lifetime* +13.9 +14.8 --
</TABLE>
* November 3, 1988, to September 30, 1995.

- --------------------------------------------------------------------------------

11
<PAGE> 14

DIVIDENDS,
CAPITAL GAINS
AND TAXES
THE FUND PAYS SEMI-
ANNUAL DIVIDENDS
AND ANY CAPITAL
GAINS ANNUALLY The Fund expects to pay dividends semi-annually from
ordinary income. Net capital gains distributions, if any,
will be distributed annually.

In addition, in order to satisfy certain distribution
requirements of the Tax Reform Act of 1986, the Fund may
declare special year-end dividend and capital gains
distributions during December. Such distributions, if
received by shareholders by January 31, are deemed to have
been paid by the Fund and received by shareholders on
December 31 of the prior year.

Dividend and capital gains distributions may be
automatically reinvested or received in cash. See
"Choosing a Distribution Option" for a description of
these distribution methods.

The Fund intends to continue to qualify for taxation as a
"regulated investment company" under the Internal Revenue
Code so that it will not be subject to federal income tax
to the extent its income is distributed to shareholders.
Dividends paid by the Fund from net investment income and
net short-term capital gains, whether received in cash or
reinvested in additional shares, will be taxable to
shareholders as ordinary income. For corporate investors,
dividends from net investment income and net short-term
capital gains will generally qualify in part for the
intercorporate dividends-received deduction. However, the
portion of the dividends so qualified depends on the
aggregate taxable qualifying dividend income received by
the Fund from domestic (U.S.) sources.

Distributions paid by the Fund from long-term capital
gains, whether received in cash or reinvested in
additional shares, are taxable as long-term capital gains,
regardless of the length of time you have owned shares in
the Fund. Capital gains distributions are made when the
Fund realizes net capital gains on sales of portfolio
securities during the year. The Fund does not seek to
realize any particular amount of capital gains during a
year; rather, realized gains are a by-product of portfolio
management activities. Consequently, capital gains
distributions may be expected to vary considerably from
year to year; there will be no capital gains distributions
in years when the Fund realizes net capital losses.

Note that if you accept capital gains distributions in
cash, instead of reinvesting them in additional shares,
you are in effect reducing the capital at work for you in
the Fund. Also, keep in mind that if you purchase shares
in the Fund shortly before the record date for a dividend
or capital gains distribution, a portion of your
investment will be returned to you as a taxable
distribution, regardless of whether you are reinvesting
your distributions or receiving them in cash.

The Fund will notify you annually as to the tax status of
dividend and capital gains distributions paid by the Fund.

A CAPITAL GAIN OR LOSS
MAY BE REALIZED UPON
EXCHANGE OR
REDEMPTION A sale of shares of the Fund is a taxable event and may
result in a capital gain or loss. A capital gain or loss
may be realized from an ordinary redemption of shares or
an exchange of shares between two mutual funds (or two
portfolios of a mutual fund).

12
<PAGE> 15

Dividend distributions, capital gains distributions, and
capital gains or losses from redemptions and exchanges may
be subject to state and local taxes.

The Fund is required to withhold 31% of taxable
dividends, capital gains distributions, and redemptions
paid to shareholders who have not complied with IRS
taxpayer identification regulations. You may avoid this
withholding requirement by certifying on your Account
Registration Form your proper Social Security or Taxpayer
Identification Number and by certifying that you are not
subject to backup withholding.

The Fund has obtained a Certificate of Authority to do
business as a foreign corporation in Pennsylvania and does
business and maintains an office in that state. In the
opinion of counsel, the shares of the Fund are exempt from
Pennsylvania personal property taxes.

The tax discussion set forth above is included for general
information only. Prospective investors should consult
their own tax advisers concerning the tax consequences of
an investment in the Fund. The Fund is managed without
regard to tax ramifications.
- --------------------------------------------------------------------------------

THE SHARE PRICE
OF THE FUND The Fund's share price or "net asset value" per share is
determined by dividing the total market value of the
Fund's investments and other assets, less any liabilities,
by the number of outstanding shares of the Fund. The
Fund's net asset value is determined at the close of
regular trading (generally, 4:00 p.m. Eastern time) each
day the New York Stock Exchange is open for trading.

Common stocks that are listed on a securities exchange are
valued at the last quoted sales price on the day the
valuation is made. Price information on listed stocks is
taken from the exchange where the security is primarily
traded. Securities which are listed on an exchange but
which are not traded on the valuation date are valued at
the mean of the bid and asked prices. Unlisted securities
for which market quotations are readily available are
valued at the latest quoted bid price. Bonds are valued at
the latest bid prices and on the basis of a matrix system
(which considers such factors as security prices, yields,
maturities and ratings), both as furnished by independent
pricing services. Other assets and securities for which no
quotations are readily available are valued at fair value
as determined in good faith by the Directors. Securities
may be valued on the basis of prices provided by a pricing
service when such prices are believed to reflect the fair
market value of such securities. Pricing services do not
always consider each security's bid or last sale price
when providing prices. However, prices reflect significant
(that is, institutional-sized) transactions of similar
securities as well as any developments involving specific
securities. Instruments with remaining maturities of 60
days or less are valued at cost (that is, after adding or
subtracting any amortized discount or premium), which
approximates market value.

The Fund's share price can be found daily in the mutual
fund listings of most major newspapers under the heading
of Vanguard.
- --------------------------------------------------------------------------------

13
<PAGE> 16

GENERAL
INFORMATION The Fund is a Maryland corporation. The Articles of
Incorporation permit the Directors to issue 1,000,000,000
shares of common stock, with a $.001 par value. The Board
of Directors has the power to designate one or more
classes ("series") of shares of common stock and to
classify or reclassify any unissued shares with respect to
such series. Currently the Fund is offering one class of
shares.

The shares of the Fund are fully paid and non-assessable;
have no preference as to conversion, exchange, dividends,
retirement or other features; and have no pre-emptive
rights. Such shares have non-cumulative voting rights,
meaning that the holders of more than 50% of the shares
voting for the election of Directors can elect 100% of the
Directors if they so choose.

Annual meetings of shareholders will not be held except as
required by the Investment Company Act of 1940 and other
applicable law. An annual meeting will be held to vote on
the removal of a Director or Directors of the Fund if
requested in writing by the holders of not less than 10%
of the outstanding shares of the Fund.

All securities and cash are held by State Street Bank and
Trust Company, Boston, MA. The Vanguard Group, Inc.,
Valley Forge, PA, serves as the Fund's Transfer and
Dividend Disbursing Agent. Price Waterhouse LLP, serves as
independent accountants for the Fund and audits its
financial statements annually. The Fund is not involved in
any litigation.
- --------------------------------------------------------------------------------

14
<PAGE> 17

SHAREHOLDER GUIDE

OPENING AN
ACCOUNT AND
PURCHASING
SHARES You may open a regular (non-retirement) account, either by
mail or wire. Simply complete and return an Account
Registration Form and any required legal documentation,
indicating the amount you wish to invest. Your purchase
must be equal to or greater than the $3,000 minimum
initial investment requirement or $1,000 for Uniform
Gifts/Transfers to Minors Act accounts. You must open a
new Individual Retirement Account by mail (IRAs may not be
opened by wire) using a Vanguard IRA Adoption Agreement.
Your purchase must be equal to or greater than the $1,000
minimum initial investment requirement, but no more than
$2,000 if you are making a regular IRA contribution.
Rollover contributions are generally limited to the amount
withdrawn within the past 60 days from an IRA or other
qualified Retirement Plan. If you need assistance with the
forms or have any questions about the Fund, please call
our Investor Information Department at 1-800-662-7447.
Note: For other types of account registrations (e.g.
corporations, associations, other organizations, trusts or
powers of attorney), please call us to determine which
additional forms you may need.

The Fund's shares are purchased at the next-determined net
asset value after your investment has been received. The
Fund is offered on a no-load basis (i.e., there are no
sales commissions or 12b-1 fees).

PURCHASE
RESTRICTIONS 1) Because of the risks associated with common stock and
bond investments, the Fund is intended to be a
long-term investment vehicle and is not designed to
provide investors with a means of speculating on
short-term market movements. Consequently, the Fund
reserves the right to reject any specific purchase (and
exchange purchase) request. The Fund also reserves the
right to suspend the offering of shares for a period of
time.

2) Vanguard will not accept third-party checks to purchase
shares of the Fund. Please be sure your purchase check
is made payable to the Vanguard Group.

ADDITIONAL
INVESTMENTS Subsequent investments to regular accounts may be made by
mail ($100 minimum), wire ($1,000 minimum), exchange from
another Vanguard Fund account, or Vanguard Fund Express.
Subsequent investments to Individual Retirement Accounts
may be made by mail ($100 minimum) or exchange from
another Vanguard Fund account. In some instances,
contributions may be made by wire or Vanguard Fund
Express. Please call us for more information on these
options.
- --------------------------------------------------------------------------------

15
<PAGE> 18

<TABLE>
<S> <C> <C>
ADDITIONAL INVESTMENTS
NEW ACCOUNT TO EXISTING ACCOUNTS
PURCHASING BY MAIL Please include the amount of Additional investments should
your initial investment on the include the Invest-by-Mail
Complete and sign the registration form, make your remittance form attached to your
enclosed Account check payable to The Vanguard Fund confirmation statements.
Registration Form Group-78 and Please make your check payable
mail to: to The Vanguard Group-78, write
your account number on your
VANGUARD FINANCIAL CENTER check and, using the return
P.O. BOX 2600 envelope provided, mail to the
VALLEY FORGE, PA 19482 address indicated on the Invest-
by-Mail Form.
For express or VANGUARD FINANCIAL CENTER All written requests should be
registered mail, 455 DEVON PARK DRIVE mailed to one of the addresses
send to: WAYNE, PA 19087 indicated for new accounts. Do
not send registered or express
mail to the post office box
address.
</TABLE>

- --------------------------------------------------------------------------------
PURCHASING BY WIRE
Money should be
wired to:
BEFORE WIRING
Please contact
Client Services
(1-800-662-2739) CORESTATES BANK, N.A.
ABA 031000011
CORESTATES NO. 0101 9897
ATTN VANGUARD
VANGUARD ASSET ALLOCATION FUND
ACCOUNT NUMBER
ACCOUNT REGISTRATION

To assure proper receipt, please be sure your bank
includes the name of the Fund, the account number Vanguard
has assigned to you and the eight-digit CoreStates number.
If you are opening a new account, please complete the
Account Registration Form and mail it to the "New Account"
address after completing your wire arrangement. Note:
Federal Funds wire purchase orders will be accepted only
when the Fund and Custodian Bank are open for business.
- --------------------------------------------------------------------------------

PURCHASING BY
EXCHANGE (from a
Vanguard account) You may open an account or purchase additional shares by
making an exchange from another Vanguard Fund account.
However, the Fund reserves the right to refuse any
exchange purchase request. Call our Client Services
Department toll-free at 1-800-662-2739. The new account
will have the same registration as the existing account.
- --------------------------------------------------------------------------------

PURCHASING BY
FUND EXPRESS
Special Purchase and
Automatic Investment The Fund Express Special Purchase option lets you move
money from your bank account to your Vanguard account at
your request. Or if you choose the Automatic Investment
option, money will be moved from your bank account to your
Vanguard account on the schedule (monthly, bimonthly
[every other month], quarterly or yearly) you select. To
establish these Fund Express options, please provide the
appropriate information on the Account Registration Form.
We will send you a

16
<PAGE> 19

confirmation of your Fund Express service; please wait
three weeks before using the service.
- --------------------------------------------------------------------------------

CHOOSING A
DISTRIBUTION
OPTION You must select one of three distribution options:

1. AUTOMATIC REINVESTMENT OPTION -- Both dividends and
capital gains distributions will be reinvested in
additional Fund shares. This option will be selected
for you unless you specify one of the other options.

2. CASH DIVIDEND OPTION -- Your dividends will be paid in
cash and your capital gains will be reinvested in
additional Fund shares.

3. ALL CASH OPTION -- Both dividend and capital gains
distributions will be paid in cash.

You may change your option by calling our Client Services
Department (1-800-662-2739).

In addition, an option to invest your cash dividends
and/or capital gains distributions in another Vanguard
Fund account is available. Please call our Client Services
Department (1-800-662-2739) for information. You may also
elect Vanguard Dividend Express which allows you to
transfer your cash dividends and/or capital gains
distributions automatically to your bank account. Please
see "Other Vanguard Services" for more information.
- --------------------------------------------------------------------------------

TAX CAUTION
INVESTORS SHOULD ASK
ABOUT THE TIMING OF
CAPITAL GAINS AND
DIVIDEND DISTRIBUTIONS
BEFORE INVESTING Under Federal tax laws, the Fund is required to distribute
net capital gains and dividend income to Fund
shareholders. These distributions are made to all
shareholders who own Fund shares as of the distribution's
record date, regardless of how long the shares have been
owned. Purchasing shares just prior to the record date
could have a significant impact on your tax liability for
the year. For example, if you purchase shares immediately
prior to the record date of a sizable capital gain or
income dividend distribution, you will be assessed taxes
on the amount of the capital gain and/or dividend
distribution later paid even though you owned the Fund
shares for just a short period of time. (Taxes are due on
the distributions even if the dividend or gain is
reinvested in additional Fund shares.) While the total
value of your investment will be the same after the
distribution -- the amount of the distribution will offset
the drop in the net asset value of the shares -- you
should be aware of the tax implications the timing of your
purchase may have.

Prospective investors should, therefore, inquire about
potential distributions before investing. The Fund's
annual capital gains distributions normally occur in
December, while income dividends are generally paid
semi-annually in June and December. For additional
information on distributions and taxes, see the section
titled "Dividends, Capital Gains, and Taxes."
- --------------------------------------------------------------------------------

17
<PAGE> 20

IMPORTANT
INFORMATION
OPTIONAL SERVICES The easiest way to establish optional Vanguard services on
your account is to select the options you desire when you
complete your Account Registration Form. If you wish to
add shareholder options later, you may need to provide
Vanguard with additional information and a signature
guarantee. Please call our Client Services Department
(1-800-662-2739) for further assistance.

SIGNATURE
GUARANTEES For our mutual protection, we may require a signature
guarantee on certain written transaction requests. A
signature guarantee verifies the authenticity of your
signature and may be obtained from banks, brokers and any
other guarantor that Vanguard deems acceptable. A
SIGNATURE GUARANTEE CANNOT BE PROVIDED BY A NOTARY PUBLIC.

CERTIFICATES Share certificates will be issued upon request. If a
certificate is lost, you may incur an expense to replace
it.

BROKER-DEALER
PURCHASES If you purchase shares in Vanguard Funds through a
registered broker-dealer or investment adviser, the
broker-dealer or adviser may charge a service fee.

CANCELLING TRADES The Fund will not cancel any trade (e.g., a purchase,
exchange, or redemption) believed to be authentic,
received in writing or by telephone, once the trade has
been received.

ELECTRONIC
PROSPECTUS
DELIVERY If you would prefer to receive a prospectus for the Fund
or any of the Vanguard Funds in an electronic format,
please call 1-800-231-7870 for additional information. If
you elect to do so, you may also receive a paper copy of
the prospectus, by calling 1-800-662-7447.
- --------------------------------------------------------------------------------

WHEN YOUR
ACCOUNT WILL BE
CREDITED Your trade date is the date on which your account is
credited. If your purchase is made by check, Federal Funds
wire, or exchange, and is received by the close of regular
trading on the New York Stock Exchange, (generally 4:00
p.m. Eastern time), your trade date is the day of receipt.
If your purchase is received after the close of the
Exchange, your trade date is the next business day. Your
shares are purchased at the net asset value determined on
your trade date.

In order to prevent lengthy processing delays caused by
the clearing of foreign checks, Vanguard will only accept
a foreign check which has been drawn in U.S. dollars and
has been issued by a foreign bank with a U.S.
correspondent bank. The name of the U.S. correspondent
bank must be printed on the face of the foreign check.
- --------------------------------------------------------------------------------

SELLING YOUR
SHARES You may withdraw any portion of the funds in your account
by redeeming shares at any time (please see "Important
Redemption Information"). You generally may initiate a
request by writing or by telephoning. Your redemption
proceeds are normally mailed within two business days
after the receipt of the request in Good Order.
- --------------------------------------------------------------------------------

SELLING BY MAIL Requests should be mailed to VANGUARD FINANCIAL CENTER,
VANGUARD ASSET ALLOCATION FUND, P.O. BOX 1120, VALLEY
FORGE, PA 19482. (For express or registered mail, send
your request to Vanguard Financial Center, Vanguard Asset
Allocation Fund, 455 Devon Park Drive, Wayne, PA 19087.)

18
<PAGE> 21

The redemption price of shares will be the Fund's net
asset value next determined after Vanguard has received
all required documents in Good Order.
- --------------------------------------------------------------------------------

DEFINITION OF
GOOD ORDER GOOD ORDER means that the request includes the following:

1. The account number and Fund name.
2. The amount of the transaction (specified in dollars or
shares).
3. Signatures of all owners EXACTLY as they are registered
on the account.
4. Any required signature guarantees.
5. Other supporting legal documentation that might be
required in the case of estates, corporations, trusts
and certain other accounts.
6. Any certificates you hold for the account.

IF YOU HAVE QUESTIONS ABOUT THIS DEFINITION AS IT PERTAINS
TO YOUR REQUEST, PLEASE CALL OUR CLIENT SERVICES
DEPARTMENT AT 1-800-662-2739.
- --------------------------------------------------------------------------------

SELLING BY TELEPHONE To sell shares by telephone, you or your pre-authorized
representative may call our Client Services Department at
1-800-662-2739. The proceeds will be sent to you by mail.
PLEASE NOTE: As a protection against fraud, your telephone
mail redemption privilege will be suspended for 10
calendar days following any expedited address change to
your account. An expedited address change is one that is
made by telephone, by Vanguard Online or, in writing,
without the signatures of all account owners. Please see
"Important Information About Telephone Transactions."
- --------------------------------------------------------------------------------

SELLING BY FUND
EXPRESS
Automatic
Withdrawal
& Special Redemption If you select the Fund Express Automatic Withdrawal
option, money will be automatically moved from your
Vanguard Fund account to your bank account according to
the schedule you have selected. The Special Redemption
option lets you move money from your Vanguard account to
your bank account on your request. You may elect Fund
Express on the Account Registration Form or call our
Investor Information Department at 1-800-662-7447 for a
Fund Express application.
- --------------------------------------------------------------------------------

SELLING BY EXCHANGE You may sell shares by making an exchange to another
Vanguard Fund account. Please see "Exchanging Your Shares"
for details.
- --------------------------------------------------------------------------------

IMPORTANT
REDEMPTION
INFORMATION Shares purchased by check or Fund Express may be redeemed
at any time. However, your redemption proceeds will not be
paid until payment for the purchase is collected, which
may take up to ten calendar days.
- --------------------------------------------------------------------------------

DELIVERY OF
REDEMPTION PROCEEDS Redemption requests received by telephone prior to the
close of regular trading on the New York Stock Exchange
(generally, 4:00 p.m. Eastern time) are processed on the
day of receipt and the redemption proceeds are normally
sent on the following business day.

Redemption requests received by telephone after the close
of the Exchange are processed on the business day
following receipt and the proceeds are normally sent on
the second business day following receipt. The Fund
reserves the right to revise or terminate the telephone
redemption privilege at any time.

19
<PAGE> 22

Redemption proceeds must be sent to you within seven days
of receipt of your request in Good Order.

If you experience difficulty in making a telephone
redemption during periods of drastic economic or market
changes, your redemption request may be made by regular or
express mail. It will be implemented at the net asset
value next determined after your request has been received
by Vanguard in Good Order.

The Fund may suspend the redemption right or postpone
payment at times when the New York Stock Exchange is
closed or under any emergency circumstances as determined
by the United States Securities and Exchange Commission.

If the Board of Directors determines that it would be
detrimental to the best interests of the Fund's remaining
shareholders to make payment in cash, the Fund may pay
redemption proceeds in whole or in part by a distribution
in kind of readily marketable securities.
- --------------------------------------------------------------------------------

VANGUARD'S AVERAGE
COST STATEMENT If you make a redemption from a qualifying account,
Vanguard will send you an Average Cost Statement which
provides you with the tax basis of the shares you
redeemed. Please see "Statements and Reports" for
additional information.
- --------------------------------------------------------------------------------

LOW BALANCE FEE
AND MINIMUM
ACCOUNT BALANCE
REQUIREMENT Due to the relatively high cost of maintaining smaller
accounts, the Fund will automatically deduct a $10 annual
fee from non-retirement accounts with balances falling
below $2,500 ($500 for Uniform Gifts/Transfers to Minors
Act accounts). This fee deduction will occur mid-year,
beginning in 1996. The fee generally will be waived for
investors whose aggregate Vanguard assets exceed $50,000.
In addition, the Fund reserves the right to liquidate any
non-retirement account that is below the minimum initial
investment amount of $3,000. If at any time your total
investment does not have a value of at least $3,000, you
may be notified that the value of your account is below
the Fund's minimum account balance requirement. You would
then be allowed 60 days to make an additional investment
before the account is liquidated. Proceeds would be
promptly paid to the registered shareholder.

Vanguard will not liquidate your account if it has fallen
below $3,000 solely as a result of declining markets
(i.e., a decline in a Portfolio's net asset value).
- --------------------------------------------------------------------------------

EXCHANGING YOUR
SHARES
EXCHANGING BY
TELEPHONE
Call Client Services
(1-800-662-2739) Should your investment goals change, you may exchange your
shares of Vanguard Asset Allocation Fund for those of
other available Vanguard Funds.

In addition to the details below, please see "Important
Information About Telephone Transactions."

When exchanging shares by telephone, please have ready the
Fund name, account number, Social Security number or
Employer Identification number listed on the account, and
the exact name and address in which the account is
registered. Only the registered shareowner may complete
such an exchange. Requests for telephone exchanges
received prior to the close of the New York Stock Exchange
(generally, 4:00 p.m. Eastern time) are processed at the
close of business that same day.

20
<PAGE> 23

Requests received after the close of the Exchange are
processed the next business day. TELEPHONE EXCHANGES ARE
NOT ACCEPTED INTO OR FROM VANGUARD BALANCED INDEX FUND,
VANGUARD INDEX TRUST, VANGUARD INTERNATIONAL EQUITY INDEX
FUND AND VANGUARD QUANTITATIVE PORTFOLIOS. If you
experience difficulty in making a telephone exchange, your
exchange request may be made by regular or express mail,
and it will be implemented at the closing net asset value
on the date received by Vanguard provided the request is
received in Good Order.

Neither the Fund nor Vanguard is responsible for the
authenticity of exchange instructions received by
telephone. Investors bear the full risk of any loss
arising from unauthorized telephone exchanges. To prohibit
telephone exchanges on your account, please notify the
Fund in writing. Otherwise, the telephone exchange
privilege will be automatically established for your
account.
- --------------------------------------------------------------------------------

EXCHANGING BY MAIL Please be sure to include on your exchange request the
name and account number of your current Fund, the name of
the Fund you wish to exchange into, the amount you wish to
exchange, and the signatures of all registered account
holders. Send your request to VANGUARD FINANCIAL CENTER,
VANGUARD ASSET ALLOCATION FUND, P.O. BOX 1120, VALLEY
FORGE, PA 19482. (For express or registered mail, send
your request to Vanguard Financial Center, Vanguard Asset
Allocation Fund, 455 Devon Park Drive, Wayne, PA 19087.)
- --------------------------------------------------------------------------------

IMPORTANT EXCHANGE
INFORMATION Before you make an exchange, you should consider the
following:

- Please read the Fund's prospectus before making an
exchange. For a copy and for answers to any questions
you may have, call our Investor Information Department
(1-800-662-7447).

- An exchange is treated as a redemption and a purchase.
Therefore, you could realize a taxable gain or loss on
the transaction.

- Exchanges are accepted only if the registrations and the
Taxpayer Identification numbers of the two accounts are
identical.

- The shares to be exchanged must be on deposit and not
held in certificate form.

- New accounts are not currently accepted in
Vanguard/Windsor Fund or Vanguard/PRIMECAP Fund.

- The redemption price of shares redeemed by exchange is
the net asset value next determined after Vanguard has
received the required documentation in Good Order.

- When opening a new account by exchange, you must meet
the minimum investment requirement of the new Fund.

Every effort will be made to maintain the exchange
privilege. However, the Fund reserves the right to revise
or terminate its provisions, limit the amount of or reject
any exchange, as deemed necessary, at any time.

21
<PAGE> 24

The exchange privilege is only available in states in
which the shares of the Fund are registered for sale. The
Fund's shares are currently registered for sale in all 50
states and the Fund intends to maintain such registration.
- --------------------------------------------------------------------------------

EXCHANGE
PRIVILEGE
LIMITATIONS The Fund's exchange privilege is not intended to afford
shareholders a way to speculate on short-term movements in
the market. Accordingly, in order to prevent excessive use
of the exchange privilege that may potentially disrupt the
management of the Fund and increase transaction costs, the
Fund has established a policy of limiting excessive
exchange activity.

Exchange activity generally will not be deemed excessive
if limited to TWO SUBSTANTIVE EXCHANGE REDEMPTIONS (AT
LEAST 30 DAYS APART) from the Fund during any twelve month
period. Notwithstanding these limitations, the Fund
reserves the right to reject any purchase request
(including exchange purchases from other Vanguard
portfolios) that is reasonably deemed to be disruptive to
efficient portfolio management.
- --------------------------------------------------------------------------------

IMPORTANT
INFORMATION
ABOUT TELEPHONE
TRANSACTIONS The ability to initiate redemptions (except wire
redemptions) and exchanges by telephone is automatically
established on your account unless you request in writing
that telephone transactions on your account not be
permitted.

To protect your account from losses resulting from
unauthorized or fraudulent telephone instructions,
Vanguard adheres to the following security procedures:

1. SECURITY CHECK. To request a transaction by telephone,
the caller must know (i) the name of the Portfolio;
(ii) the 10-digit account number; (iii) the exact name
and address used in the registration; and (iv) the
Social Security or Employer Identification number
listed on the account.

2. PAYMENT POLICY. The proceeds of any telephone
redemption by mail will be made payable to the
registered shareowner and mailed to the address of
record, only.

Neither the Fund nor Vanguard will be responsible for the
authenticity of transaction instructions received by
telephone, provided that reasonable security procedures
have been followed. Vanguard believes that the security
procedures described above are reasonable and that if such
procedures are followed, you will bear the risk of any
losses resulting from unauthorized or fraudulent telephone
transactions on your account. If Vanguard fails to follow
reasonable security procedures, it may be liable for any
losses resulting from unauthorized or fraudulent telephone
transactions on your account.
- --------------------------------------------------------------------------------

TRANSFERRING
REGISTRATION You may transfer the registration of any of your Fund
shares to another person by completing a transfer form and
sending it to: VANGUARD FINANCIAL CENTER, P.O. BOX 1110,
VALLEY FORGE, PA 19482, ATTENTION: TRANSFERS DEPARTMENT.
The request must be in Good Order. To receive a transfer
form and full instructions, please call our Client
Services Department (1-800-662-2739).
- --------------------------------------------------------------------------------

STATEMENTS AND
REPORTS Vanguard will send you a confirmation statement each time
you initiate a transaction in your account except for
checkwriting redemptions from Vanguard money market
accounts. You will also receive a comprehensive account
statement

22
<PAGE> 25

at the end of each calendar quarter. The fourth-quarter
statement will be a year-end statement, listing all
transaction activity for the entire calendar year.

Vanguard's Average Cost Statement provides you with the
average cost of shares redeemed from your account, using
the average cost single category method. This service is
available for most taxable accounts opened since January
1, 1986. In general, investors who redeemed shares from a
qualifying Vanguard account may expect to receive their
Average Cost Statement along with their Fund Summary
Statement. Please call our Client Services Department
(1-800-662-2739) for information.

Financial reports on the Fund will be mailed to you
semi-annually, according to the Fund's fiscal year-end.
- --------------------------------------------------------------------------------

OTHER VANGUARD
SERVICES For more information about any of these services, please
call our Investor Information Department at
1-800-662-7447.

VANGUARD DIRECT
DEPOSIT SERVICE With Vanguard's Direct Deposit Service, most U.S.
Government checks (including Social Security and military
pension checks) and private payroll checks may be
automatically deposited into your Vanguard Fund account.
Separate brochures and forms are available for direct
deposit of U.S. Government and private payroll checks.

VANGUARD AUTOMATIC
EXCHANGE SERVICE Vanguard's Automatic Exchange Service allows you to move
money automatically among your Vanguard Fund accounts. For
instance, the service can be used to "dollar cost average"
from a money market portfolio into a stock or bond fund or
to contribute to an IRA or other retirement plan. Please
contact our Client Services Department at 1-800-662-2739
for additional information.

VANGUARD FUND
EXPRESS Vanguard's Fund Express allows you to transfer money
between your Fund account and your account at a bank,
savings and loan association, or a credit union that is a
member of the Automated Clearing House (ACH) system. You
may elect this service on the Account Registration Form or
call our Investor Information Department (1-800-662-7447)
for a Fund Express application.

Special rules govern how your Fund Express purchases or
redemptions are credited to your account. In addition,
some services of Fund Express cannot be used with specific
Vanguard Funds. For more information, please refer to the
Vanguard Fund Express brochure.

VANGUARD DIVIDEND
EXPRESS Vanguard's Dividend Express allows you to transfer your
dividends and/or capital gains distributions automatically
from your Fund account, one business day after the Fund's
payable date, to your account at a bank, savings and loan
association, or credit union that is a member of the
Automated Clearing House (ACH) network. You may elect this
service on the Account Registration Form or call our
Investor Information Department (1-800-662-7447) for a
Vanguard Dividend Express application.

23
<PAGE> 26

VANGUARD
TELE-ACCOUNT Vanguard's Tele-Account is a convenient, automated service
that provides share price, price change and yield
quotations on Vanguard Funds through any TouchTone(TM)
telephone. This service also lets you obtain information
about your account balance, your last transaction, and
your most recent dividend or capital gains payment. To
contact Vanguard's Tele-Account service, dial
1-800-ON-BOARD (1-800-662-6273). A brochure offering
detailed operating instructions is available from our
Investor Information Department (1-800-662-7447).
- --------------------------------------------------------------------------------

24
<PAGE> 27

(THIS PAGE INTENTIONALLY LEFT BLANK.)
<PAGE> 28

[VANGUARD ASSET ALLOCATION FUND LOGO]

-----------------------------------------------

THE VANGUARD GROUP
OF INVESTMENT
COMPANIES

Vanguard Financial Center
P.O. Box 2600
Valley Forge, PA 19482

INVESTOR INFORMATION
DEPARTMENT:
1-800-662-7447 (SHIP)

CLIENT SERVICES
DEPARTMENT:
1-800-662-2739 (CREW)

TELE-ACCOUNT FOR
24-HOUR ACCESS:
1-800-662-6273 (ON-BOARD)

TELECOMMUNICATION SERVICE
FOR THE HEARING-IMPAIRED:
1-800-662-2738

TRANSFER AGENT:
The Vanguard Group, Inc.
Vanguard Financial Center
Valley Forge, PA 19482

[VANGUARD ASSET ALLOCATION FUND LOGO]

P R O S P E C T U S

JANUARY 15, 1996; REVISED MAY 29, 1996

[A MEMBER OF VANGUARD GROUP LOGO]

P078

- --------------------------------------------------------------------------------
<PAGE> 29

PART B

VANGUARD ASSET ALLOCATION FUND, INC.

STATEMENT OF ADDITIONAL INFORMATION

JANUARY 15, 1996; REVISED MAY 29, 1996

This Statement is not a prospectus but should be read in conjunction with the
Fund's current Prospectus (dated January 15, 1996; revised May 29, 1996). To
obtain the Prospectus please call:

Investor Information Department
1-800-662-7447 (SHIP)

<TABLE>
<S> <C>
TABLE OF CONTENTS PAGE
Investment Limitations............................................................ 1
Purchase of Shares................................................................ 2
Redemption of Shares.............................................................. 2
Management of the Fund............................................................ 3
Performance Measures.............................................................. 5
Total Return...................................................................... 6
Investment Advisory Services...................................................... 7
Portfolio Transactions............................................................ 8
Description of U.S. Government Securities......................................... 8
Description of Repurchase Agreements.............................................. 9
Futures Contracts................................................................. 9
Glossary.......................................................................... 11
Financial Statements.............................................................. 12
</TABLE>

INVESTMENT LIMITATIONS

The following restrictions are fundamental policies and cannot be changed
without approval of the holders of a majority of the outstanding shares of the
Fund, as defined in the Investment Company Act of 1940 (the "1940 Act"). The
Fund may not under any circumstances:
1) Borrow money, except from banks (or through reverse repurchase agreements)
for temporary or emergency purposes (not leveraging), and then only in an
amount not in excess of 15% of the value of the Fund's net assets at the
time the borrowing is made. Whenever borrowing exceeds 5% of the value of
the Fund's assets, the Fund will not make any additional investments;
2) With respect to 75% of the value of its total assets, purchase the
securities of any issuer (except obligations of the United States
government and its instrumentalities) if as a result the Fund would hold
more than 10% of the outstanding voting securities of the issuer, or more
than 5% of the value of the Fund's total assets would be invested in the
securities of such issuer;
3) Invest for the purpose of exercising control of management of any company;
4) Purchase the securities of any other investment company, except as they
may be acquired as part of a merger, consolidation or acquisition of
assets or otherwise to the extent permitted by Section 12 of the 1940 Act.
The Fund will invest only in investment companies which have investment
objectives consistent with those of the Fund;
5) The Fund will not engage in the business of underwriting securities issued
by other persons except to the extent that the Fund may technically be
deemed to be an underwriter under the Securities Act of 1933 in disposing
of portfolio securities. Additionally, the Fund will not purchase or
otherwise acquire any security if, as a result, more than 15% of its net
assets would be invested in securities that are illiquid (included in this
limitation is the Fund's investment in The Vanguard Group, Inc.);
6) Invest in commodities, except that the Fund may invest in futures
contracts, options and options on futures contracts to the extent that not
more than 5% of the Fund's assets are required as margin deposit for
futures contracts;

1
<PAGE> 30

7) Invest in real estate or real estate limited partnership interests
although the Fund may purchase and sell securities of companies which
invest in real estate, or interests therein;
8) Purchase securities on margin or sell any securities short except as
specified in investment limitation No. 6 above;
9) Make loans except (i) by purchasing bonds, debentures or similar
obligations (including repurchase agreements, subject to the limitation
described in (5) above) which are either publicly distributed or
customarily purchased by institutional investors, and (ii) by lending its
securities to banks, brokers, dealers and other financial institutions so
long as such loans are not inconsistent with the Investment Company Act or
the Rules and Regulations or interpretations of the Securities and
Exchange Commission thereunder. No loan of securities will be made if, as
a result the aggregate of such loans in the Fund would exceed 33 1/3% of
the value of the Fund's total assets;
10) Pledge, mortgage, or hypothecate any of its assets to an extent greater
than 5% of its total assets; and
11) Invest more than 25% of the value of its total assets in any one industry.

These investment limitations are considered at the time Fund securities are
purchased. Although not fundamental policies subject to shareholder vote, as
long as the Fund's shares are registered for sale in certain states, it will not
(i) invest in put, call, straddle or spread options except as permitted in
investment limitation No. 6, above, (ii) invest in interests in oil, gas or
other mineral exploration or development programs, (iii) invest more than 5% of
the assets of the Fund, at the time of investment, in the securities of any
issuers which have (with predecessors) a record of less than three years'
continuous operation, and (iv) purchase or retain any security if (i) one or
more officers, trustees or partners of the Fund or its investment adviser
individually own or would own, directly or beneficially, more than
1/2 of 1 per cent of the securities of such issuer, and (ii) in the aggregate
such persons own or would own more than 5% of such securities.
Notwithstanding these limitations, the Fund may own all or any portion of the
securities of, or make loans to, or contribute to the costs or other financial
requirements of any company which will be wholly-owned by the Fund and one or
more other investment companies and is primarily engaged in the business of
providing, at-cost, management, administrative, distribution or related services
to the Fund and other investment companies. See "Management of the Fund."

PURCHASE OF SHARES

The Fund reserves the right in its sole discretion (i) to suspend the
offerings of its shares, (ii) to reject purchase orders when in the judgment of
management such rejection is in the best interest of the Fund, and (iii) to
reduce or waive the minimum investment for or any other restrictions on initial
and subsequent investments for certain fiduciary accounts or under circumstances
where certain economies can be achieved in sales of the Fund's shares.

REDEMPTION OF SHARES

The Fund may suspend redemption privileges or postpone the date of payment (i)
during any period that the New York Stock Exchange is closed, or trading on the
Exchange is restricted as determined by the Securities and Exchange Commission
(the "Commission"), (ii) during any period when an emergency exists as defined
by the rules of the Commission as a result of which it is not reasonably
practicable for the Fund to dispose of securities owned by it, or fairly to
determine the value of its assets, and (iii) for such other periods as the
Commission may permit.
The Fund has made an election with the Commission to pay in cash all
redemptions requested by any shareholder of record limited in amount during any
90-day period to the lesser of $250,000 or 1% of the net assets of the Fund at
the beginning of such period. Such commitment is irrevocable without the prior
approval of the Commission. Redemptions in excess of the above limits may be
paid in whole or in part, in investment securities or in cash, as the Directors
may deem advisable; however, payment will be made wholly in cash unless the
Directors believe that economic or market conditions exist which would make such
a practice detrimental to the best interests of the Fund. If redemptions are
paid in investment securities, such securities will be valued as set forth in
the Prospectus under "The Fund's Share Price" and a redeeming shareholder would
normally incur brokerage expenses if he converted these securities to cash.
No charge is made by the Fund for redemptions. Any redemption may be more or
less than the shareholder's cost depending on the market value of the securities
held by the Fund.

2
<PAGE> 31

MANAGEMENT OF THE FUND

DIRECTORS AND OFFICERS

The officers of the Fund manage its day-to-day operations and are responsible to
the Fund's Board of Directors. The Directors set broad policies for the Fund and
choose its officers. The following is a list of Directors and officers of the
Fund and a statement of their present positions and principal occupations during
the past five years. The mailing address of the Directors and officers of the
Fund is Post Office Box 876, Valley Forge, PA 19482.

JOHN C. BOGLE, Chairman and Chief Executive Officer*(1)
Chairman and Director of The Vanguard Group, Inc., and of each of the
investment companies in The Vanguard Group, Director of the Mead Corporation
and General Accident Insurance.

JOHN J. BRENNAN, President & Director*(1)
President and Director of The Vanguard Group, Inc., and of each of the
investment companies in The Vanguard Group.

ROBERT E. CAWTHORN, Director
Chairman and Chief Executive Officer, Rhone-Poulenc Rorer, Inc; Director of
Sun Company, Inc.

BARBARA BARNES HAUPTFUHRER, Director
Director of The Great Atlantic and Pacific Tea Company, Alco Standard Corp.,
Raytheon Company, Knight-Ridder, Inc., and Massachusetts Mutual Life Insurance
Co. and Trustee Emerita of Wellesley College.

BRUCE K. MACLAURY, Director
President, The Brookings Institution; Director of American Express Bank Ltd.,
The St. Paul Companies, Inc., and Scott Paper Co.

BURTON G. MALKIEL, Director
Chemical Bank Chairman's Professor of Economics, Princeton University;
Director of Prudential Insurance Co. of America, Amdahl Corporation, Baker
Fentress & Co., The Jeffrey Co., and Southern New England Communications
Company.
ALFRED M. RANKIN, JR., Director
Chairman, President, and Chief Executive Officer of NACCO Industries, Inc.;
Director of The BFGoodrich Company and The Standard Products Company.

JOHN C. SAWHILL, Director
President and Chief Executive Officer, The Nature Conservancy; formerly,
Director and Senior Partner, McKinsey & Co.; and President, New York
University; Director of Pacific Gas and Electric Company and NACCO Industries.

JAMES O. WELCH, JR., Director
Retired Chairman of Nabisco Brands, Inc., retired Vice Chairman and Director
of RJR Nabisco; Director of TECO Energy, Inc.; and Director of Kmart
Corporation.

J. LAWRENCE WILSON, Director
Chairman and Chief Executive Officer of Rohn & Haas Company; Director of
Cummins Engine Company; and Trustee of Vanderbilt University.

RAYMOND J. KLAPINSKY, Secretary*
Senior Vice President and Secretary of The Vanguard Group, Inc.; Secretary of
each of the investment companies in The Vanguard Group.

RICHARD F. HYLAND, Treasurer*
Treasurer of The Vanguard Group, Inc., and of each of the invest-
ment companies in The Vanguard Group.

KAREN E. WEST, Controller*
Vice President of The Vanguard Group, Inc.; Controller of each of the
investment companies in The Vanguard Group.
- ---------------
* Officers of the Fund are "interested persons" as defined in the Investment
Company Act of 1940.
(1) Effective February 1, 1996, Mr. Brennan will succeed Mr. Bogle as Chief
Executive Officer of the Fund, The Vanguard Group, Inc. and each of the
investment companies in The Vanguard Group. Mr. Bogle will remain Chairman
and Director of the Fund, The Vanguard Group, Inc. and each of the
investment companies and The Vanguard Group.

The Fund, is a member of The Vanguard Group of Investment Companies. Through
their jointly-owned subsidiary, The Vanguard Group, Inc. ("Vanguard"), the Fund
and the other Funds in the Group obtain at cost virtually all of their corporate
management, administrative and distribution services. Vanguard also provides
investment advisory services on an at-cost basis to certain of the Vanguard
Funds.
Vanguard employs a supporting staff of management and administrative personnel
needed to provide the requisite services to the Funds and also furnishes the
Funds with necessary office space, furnishings and equipment. Each Fund pays its
share of Vanguard's total expenses which are allocated among the Funds under
methods approved by the Board of Directors (Trustees) of each Fund. In addition,
each Fund bears its own direct expenses such as legal, auditing and custodian
fees.
The Fund's officers are also officers and employees of Vanguard. No officer or
employee owns, or is permitted to own, any securities of any external adviser
for the Funds.
The Vanguard Group adheres to a Code of Ethics established pursuant to Rule
17j-1 under the Investment Company Act of 1940. The Code is designed to prevent
unlawful practices in connection with the purchase or sale of securities by
persons associated with Vanguard. Under Vanguard's Code of Ethics certain
officers and employees of Vanguard who are considered access persons are
permitted to engage in personal securities transactions. However, such
transactions are

3
<PAGE> 32

subject to procedures and guidelines substantially similar to those recommended
by the mutual fund industry and approved by the U.S. Securities and Exchange
Commission.
The Vanguard Group was established and operates under a Funds' Service
Agreement which was approved by the shareholders of each of the Funds. The
amounts which each of the Funds have invested are adjusted from time to time in
order to maintain the proportionate relationship between each Fund's relative
net assets and its contribution to Vanguard's capital. The Fund's Service
Agreement provides that: (a) each Vanguard Fund may invest up to .40% of its
current assets in Vanguard, and (b) there is no limit on the amount that each
Vanguard Fund may contribute to Vanguard's capitalization. At September 30,
1995, the Fund had contributed capital of $192,000, representing 1.0% of
Vanguard's capitalization.

MANAGEMENT
Corporate management and administrative services include: (1) executive staff;
(2) accounting and financial; (3) legal and regulatory; (4) shareholder account
maintenance; (5) monitoring and control of custodian relationships; (6)
shareholder reporting; and (7) review and evaluation of advisory and other
services provided to the Funds by third parties. During the fiscal year ended
September 30, 1995, the Fund's allocated share of Vanguard's actual net costs of
operations relating to management and administrative services (including
transfer agency) totaled approximately $3,966,000.

DISTRIBUTION
Vanguard provides all distribution and marketing activities for the Funds in
the Group. Vanguard Marketing Corporation, a wholly-owned subsidiary of
Vanguard, acts as Sales Agent for the shares of the Funds in connection with any
sales made directly to investors in the states of Florida, Missouri, New York,
Ohio, Texas and such other states as it may be required.
The principal distribution expenses are for advertising, promotional materials
and marketing personnel. Distribution services may also include organizing and
offering to the public, from time to time, one or more new investment companies
which will become members of the Group. The Directors and officers of Vanguard
determine the amount to be spent annually on distribution activities, the manner
and amount to be spent on each Fund, and whether to organize new investment
companies.
One half of the distribution expenses of a marketing and promotional nature is
allocated among the Funds based upon relative net assets. The remaining one half
of those expenses is allocated among the Funds based upon each Fund's sales for
the preceding 24 months relative to the total sales of the Funds as a Group,
provided, however, that no Fund's aggregate quarterly rate of contribution for
distribution expenses of a marketing and promotional nature shall exceed 125% of
average distribution expense rate for the Group, and that no Fund shall incur
annual distribution expenses in excess of 20/100 of 1% of its average month-end
net assets. During the fiscal year ended September 30, 1995, the Fund paid
approximately $277,000 of the Group's distribution and marketing expenses, which
represented an effective annual rate of .02 of 1% of the Fund's average net
assets.

INVESTMENT ADVISORY SERVICES
Vanguard provides investment advisory services to Vanguard Money Market
Reserves, Vanguard Municipal Bond Fund, several Portfolios of Vanguard Fixed
Income Securities Fund, Vanguard California Tax-Free Fund, Vanguard Florida
Insured Tax-Free Fund, Vanguard New Jersey Tax-Free Fund, Vanguard New York
Insured Tax-Free Fund, Vanguard Pennsylvania Tax-Free Fund, Vanguard Ohio
Tax-Free Fund, Vanguard Admiral Funds, Vanguard Tax-Managed Fund, Vanguard
Balanced Index Fund, Vanguard Bond Index Fund, Vanguard Index Trust, Vanguard
International Equity Index Fund, Aggressive Growth Portfolio of Vanguard Horizon
Fund, several Portfolios of Vanguard Variable Insurance Fund, a portion of
Vanguard/Windsor II, Vanguard Institutional Index Fund, a portion of
Vanguard/Morgan Growth Fund as well as several indexed separate accounts. These
services are provided on an at-cost basis from a money management staff employed
directly by Vanguard. The compensation and other expenses of this staff are paid
by the Funds utilizing these services.

REMUNERATION OF DIRECTORS AND OFFICERS
The Fund pays each Director who is not also an officer, an annual fee plus
travel and other expenses incurred in attending Board meetings. The Fund's
officers and employees are paid by Vanguard which, in turn, is reimbursed by the
Fund, and each other Fund in the Group, for its proportionate share of officers'
and employees' salaries and retirement

4
<PAGE> 33

benefits. During the year ended September 30, 1995 the Fund's proportionate
share of remuneration paid to all officers of the Fund, as a group, was
approximately $45,000 including Directors.
Retired Directors who are not officers are paid an annual fee based on the
number of years of service. The fee is equal to $1,000 for each year of service
and each investment company member of The Vanguard Group contributes a
proportionate amount to this fee based on its relative net assets. Under its
retirement plan, Vanguard contributes annually an amount equal to 10% of each
eligible officer's annual compensation plus 5.7% of that part of an eligible
officer's compensation during the year, if any, that exceeds the Social Security
Taxable Wage Base then in effect. Under its thrift plan, all eligible officers
are permitted to make pre-tax contributions in an amount up to 4% of total
compensation, subject to federal tax limitations, which are matched by Vanguard
on a 100% basis. The Fund's proportionate share of retirement contributions made
by Vanguard under its retirement and thrift plans on behalf of all Officers of
the Fund, as a group, during the 1995 fiscal year was approximately $1,000.
The following table provides detailed information with respect to the amounts
paid or accrued for the Directors for the fiscal year ended September 30, 1995.

VANGUARD ASSET ALLOCATION FUND
COMPENSATION TABLE

<TABLE>
<CAPTION>
AGGREGATE PENSION OR RETIREMENT ESTIMATED TOTAL COMPENSATION
COMPENSATION BENEFITS ACCRUED AS ANNUAL BENEFITS FROM ALL VANGUARD FUNDS
NAMES OF DIRECTORS FROM FUND PART OF FUND EXPENSES UPON RETIREMENT PAID TO DIRECTORS(2)
- --------------------------- ------------ --------------------- --------------- -----------------------
<S> <C> <C> <C> <C>
John C. Bogle(1) -- -- -- --
John J. Brennan(1) -- -- -- --
Barbara Barnes Hauptfuhrer $529 $89 $15,000 $60,000
Robert E. Cawthorn $529 $74 $13,000 $60,000
Bruce K. MacLaury $574 $88 $12,000 $55,000
Burton G. Malkiel $529 $59 $15,000 $60,000
Alfred M. Rankin, Jr. $529 $47 $15,000 $60,000
John C. Sawhill $529 $56 $15,000 $60,000
James O. Welch, Jr. $529 $68 $15,000 $60,000
J. Lawrence Wilson $529 $49 $15,000 $60,000
</TABLE>

- ---------------
(1) As "Interested Directors," Messrs. Bogle and Brennan receive no compensation
for their service as Directors.
(2) The amounts reported in this column reflect the total compensation paid to
each Director for their service as Director or Trustee of 34 Vanguard Funds
(27 in the case of Mr. MacLaury).

PERFORMANCE MEASURES

Vanguard may use reprinted material discussing The Vanguard Group, Inc. or any
of the member funds of The Vanguard Group of Investment Companies.

Each of the investment company members of The Vanguard Group, including
Vanguard Asset Allocation Fund, may, from time to time, use one or more of the
following unmanaged indices for comparative performance purposes.

STANDARD AND POOR'S 500 COMPOSITE STOCK PRICE INDEX -- is a well diversified
list of 500 companies representing the U.S. Stock Market.

WILSHIRE 5000 EQUITY INDEXES -- consists of nearly 5,000 common equity
securities, covering all stocks in the U.S. for which daily pricing is
available.

WILSHIRE 4500 EQUITY INDEX -- consists of all stocks in the Wilshire 5000 except
for the 500 stocks in the Standard and Poor's 500 Index.

MORGAN STANLEY CAPITAL INTERNATIONAL EAFE INDEX -- is an arithmetic, market
value-weighted average of the performance of over 900 securities listed on the
stock exchanges of countries in Europe, Australia and the Far East.

5
<PAGE> 34

GOLDMAN SACHS 100 CONVERTIBLE BOND INDEX -- currently includes 67 bonds and 33
preferreds. The original list of names was generated by screening for
convertible issues of 100 million or greater in market capitalization. The index
is priced monthly.

SALOMON BROTHERS GNMA INDEX -- includes pools of mortgages originated by private
lenders and guaranteed by the mortgage pools of the Government National Mortgage
Association.

SALOMON BROTHERS HIGH-GRADE CORPORATE BOND INDEX -- consists of publicly issued,
non-convertible corporate bonds rated AA or AAA. It is a value-weighted, total
return index, including approximately 800 issues with maturities of 12 years or
greater.

LEHMAN BROTHERS AGGREGATE BOND INDEX -- is a market weighted index that contains
over 4,000 individually priced U.S. Treasury, agency, corporate, and mortgage
pass-through securities corporate rated BBB - or better. The Index has a market
value of over $4 trillion.

LEHMAN BROTHERS MUTUAL FUND SHORT (1-5) GOVERNMENT/CORPORATE INDEX -- is a
market weighted index that contains over 1,500 individually priced U.S.
Treasury, agency, and corporate investment grade bonds rated BBB - or better
with maturities between 1 and 5 years. The index has a market value of over $1.3
trillion.

LEHMAN BROTHERS MUTUAL FUND INTERMEDIATE (5-10) GOVERNMENT/CORPORATE INDEX -- is
a market weighted index that contains over 1,500 individually priced U.S.
Treasury, agency, and corporate securities rated BBB - or better with maturities
between 5 and 10 years. The index has a market value of over $600 billion.

LEHMAN BROTHERS MUTUAL FUND LONG (10+) GOVERNMENT/CORPORATE INDEX -- is a market
weighted index that contains over 1,900 individually priced U.S. Treasury,
agency, and corporate securities rated BBB - or better with maturities greater
than 10 years. The index has a market value of over $900 billion.

LEHMAN LONG-TERM TREASURY BOND -- is composed of all bonds covered by the
Shearson Lehman Hutton Treasury Bond Index with maturities of 10 years or
greater.

MERRILL LYNCH CORPORATE & GOVERNMENT BOND -- consists of over 4,500 U.S.
Treasury, Agency and investment grade corporate bonds.

LEHMAN CORPORATE (BAA) BOND INDEX -- all publicly offered fixed rate,
nonconvertible domestic corporate bonds rated Baa by Moody's, with a maturity
longer than 1 year and with more than $25 million outstanding. This index
includes over 1,000 issues.

LEHMAN BROTHERS LONG-TERM CORPORATE BOND INDEX -- is a subset of the Lehman
Corporate Bond Index covering all corporate, publicly issued, fixed-rate,
nonconvertible U.S. debt issues rated at least Baa, with at least $50 million
principal outstanding and maturity greater than 10 years.

BOND BUYER MUNICIPAL INDEX (20 YEAR) BOND -- is a yield index on current coupon
high grade general obligation municipal bonds.

STANDARD & POOR'S PREFERRED INDEX -- is a yield index based upon the average
yield of four high grade, noncallable preferred stock issues.

NASDAQ INDUSTRIAL INDEX -- is composed of more than 3,000 industrial issues. It
is a value-weighted index calculated on price change only and does not include
income.

COMPOSITE INDEX -- 70% Standard & Poor's 500 Index and 30% NASDAQ Industrial
Index.

COMPOSITE INDEX -- 35% Standard & Poor's 500 Index and 65% Lehman Long-Term
Corporate Bond Index.

COMPOSITE INDEX -- 65% Standard & Poor's 500 Index and 35% Salomon Brothers High
Grade Bond Index.

TOTAL RETURN

The average annual total return for the Fund for one and five years ended
September 30, 1995 and for the period from inception (November 3, 1988) to
September 30, 1995 was +28.57%, +15.72% and +13.89%, respectively.

6
<PAGE> 35

Total return is computed by determining the average compounded rates of return
over the periods set forth above that would equate an initial amount invested at
the beginning of the periods to the ending redeemable value of the investment.

INVESTMENT ADVISORY SERVICES

The Fund employs Mellon Capital Management Corporation ("MCM"), 595 Market
St., Suite 3000, San Francisco, California (the "Adviser") under an investment
advisory agreement dated as of January 15, 1996 to manage the investment and
reinvestment of the assets of the Fund and to continuously review, supervise and
administer the Fund's investment program. The Adviser discharges its
responsibilities subject to the control of the officers and Directors
of the Fund.
The Fund pays the Adviser a Basic fee at the end of each fiscal quarter,
calculated by applying a quarterly rate, based on the following annual
percentage rates, to the Fund's average month-end net assets for the quarter:

<TABLE>
<CAPTION>
NET ASSETS RATE
<S> <C>
First $100 million........... .200%
Next $900 million............ .150%
Next $500 million............ .125%
Over $1.5 billion............ .100%
</TABLE>

This fee may be increased or decreased by applying an adjustment formula based
on the performance of the Fund's portfolio relative to the investment record of
the S&P 500 Index. The fee payment will be increased (decreased) by an incentive
(penalty) of 0.05% of average net assets, if the Fund's cumulative investment
performance for the thirty-six months preceding the end of the quarter is at
least six percentage points above (below) the cumulative investment record of
the S&P 500 Index for the same period.
The agreement will continue until January 14, 1998 and will be renewable
thereafter for successive one-year periods, only if each renewal is specifically
approved by a vote of the Fund's Board of Directors, including the affirmative
votes of a majority of the Trustees who are not parties to the contract or
"interested persons" (as defined in the Investment Company Act of 1940) of any
such party, cast in person at a meeting called for the purpose of considering
such approval. In addition, the question of continuance shall be effected only
if approved by the affirmative vote of a majority of the outstanding voting
securities of the Fund. The agreement is automatically terminated if assigned,
and may be terminated without penalty at any time (1) either by vote of the
Board of Directors of the Fund or by vote of its outstanding voting securities
on 60 days' written notice to the Adviser, or (2) by the Adviser upon 90 days'
written notice to the Fund.
The Fund's Board of Directors may, without the approval of shareholders,
provide for:
A. The employment of a new investment adviser pursuant to the terms of a
new advisory agreement, either as a replacement for an existing adviser or as an
additional adviser.
B. A change in the terms of an advisory agreement.
C. The continued employment of an existing adviser on the same advisory
contract terms where a contract has been assigned because of a change in control
of the adviser.
Any such change will only be made upon not less than 30 days' prior written
notice to shareholders, which shall include the information concerning the
adviser that would have normally been included in a proxy statement.
Because the Adviser provides only investment advisory services to the Fund and
has no control over the Fund's expenses, the Adviser has not undertaken to
guarantee expenses of the Fund. The officers of the Fund have worked out
alternative arrangements with state authorities which do require an expense
guarantee.
DESCRIPTION OF THE ADVISER. The Adviser is a professional counseling firm
which manages well diversified stock and bond portfolios for institutional
clients. As of June 30, 1995 the Adviser provided investment advisory services
to 181 clients and managed assets with an approximate value of $40.3 billion.
The Adviser's asset allocation strategy was developed by the Adviser's Chairman,
William Fouse, in 1972, and is used by 76 of its clients and accounts for
approximately $10.4 billion of the assets that it manages. The Adviser is a
wholly-owned subsidiary of MBC Investment Corporation, which itself is a
wholly-owned subsidiary of Mellon Bank Corporation. For the fiscal years ended
September 30, 1993, September 30, 1994 and September 30, 1995, the Fund paid
approximately $1,224,000 ($1,176,000 basic fee increased by $48,000 for
performance adjustment), $1,785,000 and $1,954,000 (before a decrease of
$131,000 based on performance), respectively, to the Adviser for investment
advisory services.

7
<PAGE> 36

PORTFOLIO TRANSACTIONS

The investment advisory agreement authorizes the Adviser (with the approval of
the Fund's Board of Directors) to select the brokers or dealers that will
execute the purchases and sales of portfolio securities for the Fund and directs
the Adviser to use its best efforts to obtain the best available price and most
favorable execution as to all transactions for the Fund. The Adviser undertakes
to execute each investment transaction at a price and commission which provides
the most favorable total cost or proceeds reasonably obtainable under the
circumstances.
In placing portfolio transactions, the Adviser will use its best judgment to
choose the broker most capable of providing the brokerage services necessary to
obtain best available price and most favorable execution. The full range and
quality of brokerage services available will be considered in making these
determinations. In those instances where it is reasonably determined that more
than one broker can offer the brokerage services needed to obtain the best
available price and most favorable execution, consideration may be given to
those brokers which supply investment research and statistical information and
provide other services in addition to execution services to the Fund and/or the
Adviser. The Adviser considers such information useful in the performance of its
obligations under the agreement, but is unable to determine the amount by which
such services may reduce its expenses.
The investment advisory agreement also incorporates the concepts of Section
28(e) of the Securities Exchange Act of 1934 by providing that, subject to the
approval of the Fund's Board of Directors, the Adviser may cause the Fund to pay
a broker-dealer which furnishes brokerage and research services a higher
commission than that which might be charged by another broker-dealer for
effecting the same transaction; provided that such commission is deemed
reasonable in terms of either that particular transaction or the overall
responsibilities of the Adviser to the Fund.
Currently, it is the Fund's policy that the Adviser may at times pay higher
commissions in recognition of brokerage services felt necessary for the
achievement of better execution of certain securities transactions that
otherwise might not be available. The Adviser will only pay such higher
commissions if it believes this to be in the best interest of the Fund. Some
brokers or dealers who may receive such higher commissions in recognition of
brokerage services related to execution of securities transactions are also
providers of research information to the Adviser and/or the Fund. However, the
Adviser has informed the Fund that it will not pay higher commission rates
specifically for the purpose of obtaining research services.
Since the Fund does not market its shares through intermediary brokers or
dealers, it is not the Fund's practice to allocate brokerage or principal
business on the basis of sales of its shares which may be through such firms.
However, the Fund may place portfolio orders with qualified broker-dealers who
recommend the Fund to other clients, or who act as agent in the purchase of the
Fund's shares for their clients, and may, when a number of brokers and dealers
can provide comparable best price and execution on a particular transaction,
consider the sale of Fund shares by a broker or dealer in selecting among
qualified broker-dealers.
The total brokerage commissions paid by the Fund for the fiscal years ended
September 30, 1993, September 30, 1994 and September 30, 1995, totaled $288,270,
$482,595, and $92,177 respectively.
Some securities considered for investment by the Fund may also be appropriate
for other clients served by the Adviser. If purchases or sales of securities
consistent with the investment policies of the Fund and one or more of these
other clients serviced by the Adviser are considered at or about the same time,
transactions in such securities will be allocated among the Fund and such other
clients in a manner deemed equitable by the Adviser.

DESCRIPTION OF U.S. GOVERNMENT SECURITIES
As used in this prospectus, the term "U.S. Government Securities" refers to a
variety of securities which are issued or guaranteed by the United States
Treasury, by various agencies of the United States Government, and by various
instrumentalities which have been established or sponsored by the United States
Government. The term also refers to "repurchase agreements" collateralized by
such securities.
U.S. Treasury Securities are backed by the "full faith and credit" of the
United States. Securities issued or guaranteed by Federal agencies and the U.S.
Government sponsored instrumentalities may or may not be backed by the full
faith and credit of the United States. In the case of securities not backed by
the full faith and credit of the United States, the investor must look
principally to the agency or instrumentality issuing or guaranteeing the
obligation for ultimate repayment, and may not be able to assert a claim against
the United States itself in the event the agency or instrumentality does not
meet its commitment.

8
<PAGE> 37

Some of the U.S. Government agencies that issue or guarantee securities
include the Export-Import Bank of the United States, Farmers Home
Administration, Federal Housing Administration, Maritime Administration, Small
Business Administration, and The Tennessee Valley Authority.
An instrumentality of the U.S. Government is a government agency organized
under Federal charter with government supervision. Instrumentalities issuing or
guaranteeing securities include, among others, Federal Home Loan Banks, the
Federal Land Banks, Central Bank for Cooperatives, Federal Intermediate Credit
Banks, and the Federal National Mortgage Association.

DESCRIPTION OF REPURCHASE AGREEMENTS
Repurchase agreements are transactions by which a person purchases a security
and simultaneously commits to resell that security to the seller (a member bank
of the Federal Reserve System or recognized securities dealer) at an agreed upon
price on an agreed upon date within a number of days (usually not more than
seven) from the date of purchase. The resale price reflects the purchase price
plus an agreed upon market rate of interest which is unrelated to the coupon
rate or maturity of the purchased security. A repurchase agreement involves the
obligation of the seller to pay the agreed upon price, which obligation is in
effect secured by the value of the underlying security.
The use of repurchase agreements involves certain risks. For example, if the
seller of the agreement defaults on its obligation to repurchase the underlying
securities at a time when the value of these securities has declined, the
Portfolio may incur a loss upon disposition of them. If the seller of the
agreement becomes insolvent and subject to liquidation or reorganization under
the Bankruptcy Code or other laws, a bankruptcy court may determine that the
underlying securities are collateral not within the control of the Portfolio and
therefore subject to sale by the trustee in bankruptcy. Finally, it is possible
that the Portfolio may not be able to substantiate its interest in the
underlying securities. While the Fund's management acknowledges these risks, it
is expected that they can be controlled through stringent security selection
criteria and careful monitoring procedures.

FUTURES CONTRACTS

The Fund may enter into stock index and fixed-income futures contracts, stock
index and fixed income options, and options on such futures contracts to remain
fully invested, to reduce transactions costs. Futures contracts provide for the
future sale by one party and purchase by another party of a specified amount of
a specific security or index at a specified future time and at a specified
price. Futures contracts which are standardized as to maturity date and
underlying financial instrument are traded on national futures exchanges.
Futures exchanges and trading are regulated under the Commodity Exchange Act by
the Commodity Futures Trading Commission ("CFTC"), a U.S. Government Agency.
Although many fixed-income futures contracts call for actual delivery or
acceptance of the underlying securities at a specified date (stock index futures
contracts do not permit delivery of securities), the contracts are normally
closed out before the settlement date without the making or taking of delivery.
Closing out an open futures position is done by taking an opposite position
("buying" a contract which has previously been "sold," "selling" a contract
previously "purchased") in an identical contract to terminate the position.
Brokerage commissions are incurred when a futures contract is bought or sold.
Futures traders are required to make a good faith margin deposit in cash or
government securities with a broker or custodian to initiate and maintain open
positions in futures contracts. A margin deposit is intended to assure
completion of the contract (delivery or acceptance of the underlying security)
if it is not terminated prior to the specified delivery date. Minimal initial
margin requirements are established by the futures exchange and may be changed.
Brokers may establish deposit requirements which are higher than the exchange
minimums.
After a futures contract position is opened, the value of the contract is
marked to market daily. If the futures contract price changes to the extent that
the margin on deposit does not satisfy margin requirements, payment of
additional "variation" margin will be required. Conversely, change in the
contract value may reduce the required margin, resulting in a repayment of
excess margin to the contract holder. Variation margin payments are made to and
from the futures broker for as long as the contract remains open. The Fund
expects to earn interest income on its margin deposits.
Traders in futures contracts may be broadly classified as either "hedgers" or
"speculators." Hedgers use the futures markets primarily to offset unfavorable
changes (anticipated or potential) in the value of securities currently owned or
expected to be acquired by them. Speculators are less inclined to own the
securities underlying the futures contracts which they trade, and use futures
contracts with the expectation of realizing profits from fluctuations in the
value of the underlying securities. The Fund intends to use futures contracts
only for bona fide hedging purposes.

9
<PAGE> 38

Regulations of the CFTC applicable to the Portfolio require that all of its
futures transactions constitute bona fide hedging transactions. The Portfolio
will only sell futures contracts to protect securities it owns against price
declines or purchase contracts to protect against an increase in the price of
securities it intends to purchase. As evidence of this hedging interest, the
Portfolio expects that approximately 75% of its futures contract purchases will
be "completed," that is, equivalent amounts of related securities will have been
purchased or are being purchased by the Fund upon sale of open futures
contracts.

RESTRICTIONS ON THE USE OF FUTURES CONTRACTS
The Fund will not enter into futures contract transactions to the extent that,
immediately thereafter, the sum of its initial margin deposits on open contracts
exceeds 5% of the market value of the Portfolio's total assets.

RISK FACTORS IN FUTURES TRANSACTIONS
Positions in futures may be closed out only on an Exchange which provides a
secondary market for such futures. However, there can be no assurance that a
liquid secondary market will exist for any particular futures contract at any
specific time. Thus, it may not be possible to close a futures position. In the
event of adverse price movements, the Fund would continue to be required to make
daily cash payments to maintain its required margin. In such situations, if the
Fund has insufficient cash, it may have to sell portfolio securities to meet
daily margin requirements at a time when it may be disadvantageous to do so. The
inability to close options and futures positions also could have an adverse
impact on the ability to effectively hedge.
A Fund will minimize the risk that it will be unable to close out a futures
contract by only entering into futures which are traded on national futures
exchanges and for which there appears to be a liquid secondary market.
The risk of loss in trading futures contracts in some strategies can be
substantial, due both to the low margin deposits required, and the extremely
high degree of leverage involved in futures contracts. As a result, a relatively
small price movement in a futures contract may result in immediate and
substantial loss (or gain) to the investor. For example, if at the time of
purchase, 10% of the value of the Futures Contract is deposited as margin, a
subsequent 10% decrease in the value of the futures contract would result in a
total loss of the margin deposit, before any deduction for the transaction
costs, if the account were then closed out. A 15% decrease would result in a
loss equal to 150% of the original margin deposit if the contract were closed
out. Thus, a purchase or sale of a futures contract may result in losses in
excess of the amount invested in the contract. The Fund also bears the risk that
the Adviser will incorrectly predict future market trends. However, because the
futures strategies of the Portfolio are engaged in only for hedging purposes,
the adviser does not believe that the Fund is subject to the risks of loss
frequently associated with futures transactions. The Fund would presumably have
sustained comparable losses if, instead of the futures contract, it had invested
in the underlying financial instrument and sold it after the decline.
Utilization of futures transactions by the Fund does involve the risk of
imperfect or no correlation where the securities underlying futures contracts
have different maturities than the portfolio securities being hedged. It is also
possible that the Fund could both lose money on futures contracts and also
experience a decline in value of its portfolio securities. There is also the
risk of loss by the Fund of margin deposits in the event of bankruptcy of a
broker with whom the Fund has an open position in a futures contract or related
option.
Most futures exchanges limit the amount of fluctuation permitted in some
futures contract prices during a single trading day. The daily limit establishes
the maximum amount that the price of a futures contract may vary either up or
down from the previous day's settlement price at the end of a trading session.
Once the daily limit has been reached in a particular type of contract, no
trades may be made on that day at a price beyond that limit. The daily limit
governs only price movement during a particular trading day and therefore does
not limit potential losses, because the limit may prevent the liquidation of
unfavorable positions. Futures contract prices have occasionally moved to the
daily limit for several consecutive trading days with little or no trading,
thereby preventing prompt liquidation of future positions and subjecting some
futures traders to substantial losses.

FEDERAL TAX TREATMENT OF FUTURES CONTRACTS
The Fund is required for Federal income tax purposes to recognize as income
for each taxable year its net unrealized gains and losses on futures contracts
as of the end of the year as well as those actually realized during the year. In
most cases, any gain or loss recognized with respect to a futures contract is
considered to be 60% long-term capital gain or loss and 40% short-term capital
gain or loss, without regard to the holding period of the contract. Furthermore,
sales of futures contracts which are intended to hedge against a change in the
value of securities held by the Fund may affect the holding

10
<PAGE> 39

period of such securities and, consequently, the nature of the gain or loss on
such securities upon disposition. The Fund may be required to defer the
recognition of losses on futures contracts to the extent of any unrecognized
gains on related positions held by the Fund.
In order for the Fund to continue to qualify for Federal income tax treatment
as a regulated investment company, at least 90% of its gross income for a
taxable year must be derived from qualifying income; i.e., dividends, interest
income derived from loans of securities, and gains from the sale of securities
or foreign currencies, or other income derived with respect to its business of
investing in such securities or currencies. In addition, gains realized on the
sale or other disposition of securities held for less than three months must be
limited to less than 30% of the Fund's annual gross income. It is anticipated
that any net gain realized from the closing out of futures contracts will be
considered gain from the sale of securities and therefore be qualifying income
for purposes of the 90% requirement. In order to avoid realizing excessive gains
on securities held less than three months, the Fund may be required to defer the
closing out of futures contracts beyond the time when it would otherwise be
advantageous to do so. It is anticipated that unrealized gains on futures
contracts, which have been open for less than three months as of the end of the
Fund's fiscal year and which are recognized for tax purposes, will not be
considered gains on securities held less than three months for the purpose of
the 30% test.
The Fund will distribute to shareholders annually any net capital gains which
have been recognized for Federal income tax purposes including unrealized gains
at the end of the Fund's fiscal year on futures transactions. Such distributions
will be combined with distributions of capital gains realized on the Fund's
other investments and shareholders will be advised on the nature of the
payments.

GLOSSARY

a. HISTORICAL MARKET RETURNS -- Total returns of broad asset class benchmarks.
As examples, the returns of well-known benchmarks for domestic stocks, bonds,
and money market instruments are given below.

<TABLE>
<CAPTION>
MONEY MARKET
ASSET CLASS COMMON STOCKS BONDS INSTRUMENTS
STANDARD & POOR'S
500 COMPOSITE STOCK LEHMAN BROTHERS 90 DAY
BENCHMARK PRICE INDEX LONG TREASURY INDEX U.S. TREASURY BILLS
<S> <C> <C> <C>
1978 6.5% -1.4% 7.1%
1979 18.4 -0.5 10.0
1980 32.4 -2.9 11.4
1981 -4.9 0.4 14.7
1982 21.5 41.8 10.9
1983 22.5 2.0 9.0
1984 6.2 14.8 10.0
1985 31.6 31.6 7.8
1986 18.6 24.1 6.2
1987 5.2 -2.7 5.9
1988 16.5 9.2 6.8
1989 31.6 18.9 8.6
1990 -3.1 6.3 7.9
1991 30.4 18.5 5.8
1992 7.6 8.0 3.6
1993 10.1 17.3 3.1
1994 1.3 -7.6 4.2
1995(9/30) 29.7 20.8 4.3
</TABLE>

b. ASSET ALLOCATION -- Asset allocation -- in its most generic sense -- is the
allotment of an investor's monies to broad asset classes such as stocks or
bonds. Investors establish percentage allocation guidelines for stocks,
bonds, and money market instruments which are consistent with their
particular long-term investment needs. These needs will include current
income, potential growth in capital, and willingness to accept risk.
In implementing their asset allocation targets, some investors attempt to
maintain a stable mix -- such as 50% stocks and 50% bonds -- while others will
actively manage the stock/bond mix in pursuit of higher returns, lower risk, or
other investment objectives. The key difference between investors who maintain a
stable mix and those who actively change allocations is their willingness to
forecast the risks and returns of individual asset classes, their forecasting
abilities, and their comfort in making investment decisions based upon such
forecasts. Historically, investors who actively managed

11
<PAGE> 40

the mix based upon conjecture have often underperformed both investors with
relatively stable allocations and investors with logical, disciplined methods
for assessing relative value and risk. Institutional investors commonly refer to
active asset allocation approaches which are based upon disciplined
methodologies as tactical asset allocation.

FINANCIAL STATEMENTS

The Fund's financial statements, including the financial highlights for each
of the five fiscal years in the period ended September 30, 1995,
appearing in the Fund's 1995 Annual Report to Shareholders and the report
thereon of Price Waterhouse LLP, independent accountants, also appearing
therein, are incorporated by reference into this Statement of Additional
Information. The Fund's 1995 Annual Report to Shareholders is enclosed with
this Statement of Additional Information.