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STATEMENT OF ADDITIONAL INFORMATION
NORTH AMERICAN FUNDS
North American Funds (the "Trust") is an open-end investment company that
currently has twenty-four investment portfolios, or series: the Small Cap
Growth Fund, the International Small Cap Fund, the Mid Cap Growth Fund, the
Global Equity Fund, the Large Cap Growth Fund, the International Equity Fund,
the Growth & Income Fund, the Balanced Fund, the Strategic Income Fund, the Core
Bond Fund, the Municipal Bond Fund, the U.S. Government Securities Fund, the
Money Market Fund, the Mid Cap Value Fund, the Stock Index Fund, the Small Cap
Index Fund, the Socially Responsible Fund, the High Yield Bond Fund, the
Aggressive Growth Lifestyle Fund, the Moderate Growth Lifestyle Fund, the
Conservative Growth Lifestyle Fund, the Municipal Money Market Fund, the Science
& Technology Fund, and the Josephthal Strategic Growth Fund (collectively, the
"Funds," and each a "Fund"). The investment objective of each Fund is described
in the Trust's Class A, Class B and Class C Prospectus dated July 7, 2000 (as
supplemented October 5, 2000), and the Institutional Class I Prospectus dated
October 6, 2000. The Prospectus for the Josephthal Strategic Growth Fund is
dated September 1, 2000.
This Statement of Additional Information is not a prospectus and should be read
in conjunction with the Prospectuses noted above as revised from time to time.
Certain disclosure has been incorporated by reference from the Trust's Annual
Report. A free copy of both the Prospectus and the Annual Report may be
obtained by writing to North American Funds, 286 Congress Street, Boston,
Massachusetts, 02210, or by telephone request at 800-872-8037.
The date of this Statement of Additional Information is November 17, 2000.
TABLE OF CONTENTS
HISTORY AND CLASSIFICATION 2
INVESTMENT POLICIES AND RISKS 2
INVESTMENTS AND RISK FACTORS APPLICABLE TO MULTIPLE FUNDS 3
HEDGING AND OTHER STRATEGIC TRANSACTIONS 21
INVESTMENT RESTRICTIONS 27
TEMPORARY DEFENSIVE POSITIONS 39
MANAGEMENT OF THE TRUST 41
INVESTMENT MANAGEMENT ARRANGEMENTS 48
DISTRIBUTIONS PLANS 53
PORTFOLIO BROKERAGE 57
MULTIPLE PRICING SYSTEM 60
CAPITAL STOCK 63
PURCHASE, REDEMPTION AND PRICING 63
PERFORMANCE INFORMATION 65
APPENDIX A
RATINGS A-1
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HISTORY AND CLASSIFICATION
The Trust is an open-end, management investment company organized as a business
trust under the laws of the Commonwealth of Massachusetts on September 28, 1988.
Each Fund is an open-end, management investment company under the Investment
Company Act of 1940, as amended (the "1940 Act"). Each Fund's diversification
policy limits the amount that the Fund may invest in certain securities. Each
Fund's diversification policy is also designated to comply with the
diversification requirements of the Internal Revenue Code (the "Code"), as well
as the 1940 Act.
The Small Cap Fund and the Lifestyle Funds are "non-diversified" under the 1940
Act, which means that such Funds are not limited in the proportion of their
assets that may be invested in the securities of a single issuer.
None of the Funds is a "commodity pool" (i.e., a pooled investment vehicle which
trades in commodity futures contracts and options thereon and the operator of
which is registered with the Commodity Futures Trading Commission (the "CFTC").
Futures contracts and options on futures contracts will be purchased, sold or
entered into only for bona fide hedging to the extent permitted by CFTC
regulations. The use of certain Hedging and Other Strategic Transactions may
require that a Fund segregate cash or other liquid assets to the extent a Fund's
obligations are not otherwise "covered" through ownership of the underlying
security, financial instrument or currency.
In connection with a reorganization of several of the Funds on approximately May
31, 2000, the Small Cap Growth Fund (formerly named the "Emerging Growth Fund"),
the Mid Cap Growth Fund (formerly named the "Small/Mid Cap Fund"), the Large Cap
Growth Fund (formerly named the "Growth Equity Fund"), the Core Bond Fund
(formerly named the "Investment Quality Bond Fund"), and the Municipal Bond Fund
(formerly named the "National Municipal Bond Fund") changed their names.
INVESTMENT POLICIES AND RISKS
The following discussion supplements the descriptions of certain of the Funds
and their possible investments and associated risks, as set forth in the
Prospectus. Although the Funds may have the flexibility to use some or all of
the investments and strategies described in the Prospectus and in this SAI, the
Subadvisors may choose not to use such investments or strategies for a variety
of reasons. These choices may cause a Fund to miss opportunities, lose money or
not achieve its objective.
INTERNATIONAL EQUITY FUND
The Fund does not expect to trade in securities for short-term profits; however,
when circumstances warrant, securities may be sold without regard to the length
of time held.
The Fund may invest in securities on a when-issued or delayed delivery basis,
enter into repurchase and reverse repurchase agreements, loan its Fund
securities and purchase certain privately placed securities.
INTERNATIONAL SMALL CAP FUND
The Fund may invest in securities issued by companies located in countries not
considered to be major industrialized nations. Such countries are subject to
more economic, political and business risk than major industrialized nations,
and the securities issued by those companies may be more volatile, less liquid
and more uncertain as to payment of dividends, interest and principal.
Additionally, investments of the Fund may include securities created through the
Brady Plan, a program under which heavily indebted countries have restructured
their bank debt into bonds.
MONEY MARKET FUND
Commercial paper may include variable amount master demand notes, which are
unsecured obligations that permit investment of fluctuating amounts at varying
rates of interest. Such notes are direct lending arrangements between the Fund
and the note issuer, and the Subadvisor, American General Investment
Management, L.P. ("AGIM"), will monitor the creditworthiness of the issuer and
its earning power and cash flow, and will also consider situations in which all
holders of such notes would redeem at the same time. Variable amount master
demand notes are redeemable on demand. These instruments are issued pursuant to
written agreements between their issuers and holders. The agreements permit the
holders to increase (subject to an agreed maximum) and the holders and issuers
to decrease the principal amount of the notes, and specify that the rate of
interest payable on the principal fluctuates according to an agreed formula.
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The Fund will invest only in U.S. dollar-denominated instruments. All of the
Fund's investments will mature in 397 days or less and the Fund will maintain a
dollar-weighted average fund maturity of 90 days or less. By limiting the
maturity of its investments, the Fund seeks to lessen the changes in the value
of its assets caused by fluctuations in short-term interest rates. Due to the
short maturities of its investments, the Fund will tend to have a lower yield
than, and the value of its underlying investments will be less volatile than the
investments of, funds that invest in longer-term securities. In addition, the
Fund will invest only in securities the Trustees determine to present minimal
credit risks and which at the time of purchase are "eligible securities" as
defined by Rule 2a-7 under the 1940 Act. Generally, eligible securities must be
rated by a Nationally Recognized Statistical Rating Organization ("NRSRO") in
one of the two highest rating categories for short-term debt obligations or be
of comparable quality.
U.S. GOVERNMENT SECURITIES FUND
The mortgage-backed securities in which the Fund invests represent participating
interests in pools of residential mortgage loans which are guaranteed by the
U.S. Government, its agencies or instrumentalities of the U.S. Government.
However, the guarantee of these types of securities runs only to the principal
and interest payments and not to the market value of such securities. In
addition, the guarantee only runs to the securities held by the U.S. Government
Securities Fund and not to the purchase of shares of the Fund.
Mortgage-backed securities are issued by lenders such as mortgage bankers,
commercial banks, and savings and loan associations. Such securities differ from
conventional debt securities which provide for periodic payment of interest in
fixed amounts (usually semiannually) with principal payments at maturity or
specified call dates. Mortgage-backed securities provide monthly payments which
are, in effect, a "pass-through" of the monthly interest and principal payments
(including any prepayments) made by the individual borrowers on the pooled
mortgage loans. Principal prepayments result from the sale of the underlying
property or the refinancing or foreclosure of underlying mortgages.
The yield of mortgage-backed securities is based on the average life of the
underlying pool of mortgage loans, which is computed on the basis of the
maturities of the underlying instruments. The actual life of any particular pool
may be shortened by unscheduled or early payments of principal and interest. The
occurrence of prepayments is affected by a wide range of economic, demographic
and social factors and, accordingly, it is not possible to accurately predict
the average life of a particular pool. For pools of fixed rate 30-year
mortgages, it has been common practice to assume that prepayments will result in
a 12-year average life. The actual prepayment experience of a pool of mortgage
loans may cause the yield realized by the Fund to differ from the yield
calculated on the basis of the average life of the pool. In addition, if any of
these mortgage-backed securities are purchased at a premium, the premium may be
lost in the event of early prepayment which may result in a loss to the Fund.
Prepayments tend to increase during periods of falling interest rates, while
during periods of rising interest rates prepayments will most likely decline.
Reinvestment by the Fund of scheduled principal payments and unscheduled
prepayments may occur at higher or lower rates than the original investment,
thus affecting the yield of the Fund. Monthly interest payments received by the
Fund have a compounding effect which will increase the yield to shareholders as
compared to debt obligations that pay interest semiannually. Because of the
reinvestment of prepayments of principal at current rates, mortgage-backed
securities may be less effective than Treasury bonds of similar maturity at
maintaining yields during periods of declining interest rates. Also, although
the value of debt securities may increase as interest rates decline, the value
of these pass-through type of securities may not increase as much due to the
prepayment feature.
While the Fund seeks a high level of current income, it cannot invest in
instruments such as lower grade corporate obligations which offer higher yields
but are subject to greater risks. The Fund will not knowingly invest in a high
risk mortgage security. The term "high risk mortgage security" is defined
generally as any mortgage security that exhibits greater price volatility than a
benchmark security, the Federal National Mortgage Association ("FNMA") current
coupon 30-year mortgage-backed pass through security. Shares of the Fund are
neither insured nor guaranteed by the U.S. Government, its agencies or
instrumentalities.
In order to make the Fund an eligible investment for federal credit unions
("FCUs"), federal savings and loan institutions and national banks, the Fund
will invest in U.S. Government securities that are eligible for investment by
such institutions without limitation, and will also generally be managed so as
to qualify as an eligible investment for such institutions. The Fund will comply
with all investment limitations applicable to FCUs including (i) the requirement
that a FCU may only purchase collateralized mortgage obligations which would
meet the high risk securities test of Part 703 of the National Credit Union
Administration Rules and Regulations or would be held solely to reduce interest
rate risk and (ii) the requirement that a FCU may not purchase zero coupon
securities having maturities greater than ten years.
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INVESTMENTS AND RISK FACTORS APPLICABLE TO MULTIPLE FUNDS
ADJUSTABLE RATE SECURITIES
Adjustable rate securities (i.e., variable rate and floating rate instruments)
are securities that have interest rates that are adjusted periodically,
according to a set formula. The maturity of some adjustable rate securities may
be shortened under certain special conditions described more fully below.
Variable rate instruments are obligations (usually certificates of deposit) that
provide for the adjustment of their interest rates on predetermined dates or
whenever a specific interest rate changes. A variable rate instrument whose
principal amount is scheduled to be paid in 13 months or less is considered to
have a maturity equal to the period remaining until the next readjustment of the
interest rate. Many variable rate instruments are subject to demand features
which entitle the purchaser to resell such securities to the issuer or another
designated party, either (i) at any time upon notice of usually 30 days or less,
or (ii) at specified intervals, not exceeding 13 months, and upon 30 days
notice. A variable rate instrument subject to a demand feature is considered to
have a maturity equal to the longer of the period remaining until the next
readjustment of the interest rate or the period remaining until the principal
amount can be recovered through demand.
Floating rate instruments (generally corporate notes, bank notes, or Eurodollar
certificates of deposit) have interest rate reset provisions similar to those
for variable rate instruments and may be subject to demand features like those
for variable rate instruments. The maturity of a floating rate instrument is
considered to be the period remaining until the principal amount can be
recovered through demand.
ASSET-BACKED SECURITIES
The securitization techniques used to develop mortgage securities are also being
applied to a broad range of other assets. Through the use of trusts and special
purpose corporations, automobile and credit card receivables are being
securitized in pass-through structures similar to mortgage pass-through
structures or in a pay-through structure similar to the Collateralized Mortgage
Obligations ("CMOs") structure. Generally the issuers of asset-backed bonds,
notes or pass-through certificates are special purpose entities and do not have
any significant assets other than the receivables securing such obligations. In
general, the collateral supporting asset-backed securities is of a shorter
maturity than mortgage loans. As a result, investment in these securities
should result in greater price stability for a Fund's shares. Instruments
backed by pools of receivables are similar to mortgage-backed securities in that
they are subject to unscheduled prepayments of principal prior to maturity.
When the obligations are prepaid, a Fund must reinvest the prepaid amounts in
securities the yields of which reflect interest rates prevailing at the time.
Therefore, a Fund's ability to maintain a portfolio which includes high-yielding
asset-backed securities will be adversely affected to the extent that
prepayments of principal must be reinvested in securities which have lower
yields than the prepaid obligations. Moreover, prepayments of securities
purchased at a premium could result in a realized loss. A Fund will only invest
in fixed-income asset-backed securities rated, at the time of purchase, "AA" or
better by Standard & Poor's Corporation ("S&P") or "Aa" or better by Moody's
Investors Service ("Moody's") or which, in the opinion of the applicable
Subadvisor, are of comparable quality.
As with mortgage securities, asset-backed securities are often backed by a pool
of assets representing the obligations of a number of different parties and use
similar credit enhancement techniques. For a description of the types of credit
enhancement that may accompany privately-issued mortgage securities, see "Types
of Credit Support" below. A Fund will not limit its investments to asset-backed
securities with credit enhancements. Although asset-backed securities are not
generally traded on a national securities exchange, such securities are widely
traded by brokers and dealers, and to such extent will not be considered
illiquid securities.
TYPES OF CREDIT SUPPORT. Mortgage securities and asset-backed securities are
often backed by a pool of assets representing the obligations of a number of
different parties. To lessen the effect of failure by obligors on underlying
assets to make payments, such securities may contain elements of credit support.
Such credit support falls into two categories: (i) liquidity protection and (ii)
protection against losses resulting from ultimate default by an obligor on the
underlying assets. Liquidity protection refers to the provision of advances,
generally by the entity administering the pool of assets, to ensure that the
pass-through of payments due on the underlying pool occurs in a timely fashion.
Protection against losses resulting from ultimate default enhances the
likelihood of ultimate payment of the obligations on at least a portion of the
assets in the pool. Such protection may be provided through guarantees,
insurance policies or letters of credit obtained by the issuer or sponsor from
third parties, through various means of structuring the transaction or through a
combination of such approaches. The Funds will not pay any additional fees for
such credit support, although the existence of credit support may increase the
price of a security.
The ratings of mortgage securities and asset-backed securities for which third-
party credit enhancement provides liquidity protection or protection against
losses from default are generally dependent upon the continued creditworthiness
of the provider of the credit enhancement. The ratings of such securities could
be subject to reduction in the event of deterioration in the creditworthiness of
the credit enhancement provider even in cases where the delinquency and loss
experience on the underlying pool of assets is better than expected.
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Examples of credit support arising out of the structure of the transaction
include "senior-subordinated securities" (multiple class securities with one or
more classes subordinate to other classes as to the payment of principal thereof
and interest thereon, with the result that defaults on the underlying assets are
borne first by the holders of the subordinated class), creation of "reserve
funds" (where cash or investments sometimes funded from a portion of the
payments on the underlying assets are held in reserve against future losses) and
"over-collateralization" (where the scheduled payments on, or the principal
amount of, the underlying assets exceed those required to make payment of the
securities and pay any servicing or other fees). The degree of credit support
provided for each issue is generally based on historical information with
respect to the level of credit risk associated with the underlying assets.
Delinquency or loss in excess of that which is anticipated could adversely
affect the return on an investment in such security.
BORROWING
Each Fund may borrow money, subject to the Fund's investment restrictions. This
borrowing may be unsecured. Provisions of the 1940 Act require a Fund to
maintain continuous asset coverage (that is, total assets including borrowings,
less liabilities exclusive of borrowings) of 300% of the amount borrowed. In
other words, total borrowings are limited to 33 1/3% of a Fund's total assets.
Any borrowings for temporary administrative purposes in excess of 5% of the
Fund's total assets must maintain continuous asset coverage. If the 300% asset
coverage should decline as a result of market fluctuations or other reasons, a
Fund may be required to sell some of its portfolio holdings within three days to
reduce the debt and restore the 300% asset coverage, even though it may be
disadvantageous from an investment standpoint to sell securities at that time.
As noted below, a Fund also may enter into certain transactions, including
reverse repurchase agreements, mortgage dollar rolls, and sale-buybacks, that
can be viewed as constituting a form of borrowing or financing transaction by
the Fund. To the extent a Fund covers its commitment under a mortgage dollar
roll or reverse repurchase agreement (or economically similar transaction) by
the segregation of assets, such an agreement or mortgage dollar roll will not be
considered a "senior security" by the Fund and therefore will not be subject to
the Fund's borrowing restrictions. Borrowing will tend to exaggerate the affect
on net asset value of any increase or decrease in the market value of a Fund's
portfolio. Money borrowed will be subject to interest costs which may or may
not be recovered by appreciation of the securities purchased. A Fund also may
be required to maintain minimum average balances in connection with such
borrowing or to pay a commitment or other fee to maintain a a line of credit;
either of these requirements would increase the cost of borrowing over the
stated interest rate.
CATASTROPHE BONDS
The U.S. Government Securities Fund, the Strategic Income Fund, the Municipal
Bond Fund and the Core Bond Fund may invest in "catastrophe bonds." Catastrophe
bonds are fixed income securities, for which the return of principal and payment
of interest is contingent on the non-occurrence of a specific "trigger"
catastrophic event, such as a hurricane or and earthquake. They may be issued
by government agencies, insurance companies, reinsurers, special purpose
corporations or other on-shore or off-shore entities. If a trigger event causes
losses exceeding a specific amount in the geographic region and time period
specified in a bond, a Fund investing in the bond may lose a portion or all of
its principal invested in the bond. If no trigger event occurs, the Fund will
recover its principal plus interest. For some catastrophe bonds, the trigger
event or losses may be based on companywide losses, index-portfolio losses,
industry indices, or readings of scientific instruments rather than specified
actual losses. Often the catastrophe bonds provide for extensions of maturity
that are mandatory, or optional at the discretion of the issuer, in order to
process and audit loss claims in those cases where a trigger event has, or
possibly has, occurred. In addition to the specified trigger events,
catastrophe bonds may also expose the Fund to certain unanticipated risks
including but not limited to issuer (credit) default, adverse regulatory or
jurisdictional interpretations, and adverse tax consequences.
Catastrophe bonds are a relatively new type of financial instrument. As such,
there is no significant trading history of these securities, and there can be no
assurance that a liquid market in these instruments will develop. See "Illiquid
Securities" below. Lack of a liquid market may impose the risk of higher
transaction costs and the possibility that a Fund may be forced to liquidate
positions when it would not be advantageous to do so. Catastrophe bonds are
typically rated, and a Fund will only invest in catastrophe bonds that meet the
credit quality requirements for the Fund.
EURODOLLAR OBLIGATIONS
All of the Funds except for the Lifestyle Funds may invest in Eurodollar
obligations, including Eurodollar bonds and Eurodollar certificates of deposit.
A Eurodollar obligation is a security denominated in U.S. dollars and originated
principally in Europe, giving rise to the term Eurodollar.
Such securities are not registered with the Securities and Exchange Commission
("SEC") and generally may only be sold to U.S. investors after the initial
offering and cooling-off periods. The market for Eurodollar securities is
dominated by foreign-based investors, and the primary trading market for these
securities is London.
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Eurodollar obligations, including Eurodollar bonds and Eurodollar certificates
of deposit, are principally obligations of foreign branches of U.S. banks.
These instruments represent the loan of funds actually on deposit in the U.S.
The Trust believes that the U.S. bank would be liable in the event that its
foreign branch failed to pay on its U.S. dollar-denominated obligations.
Nevertheless, the assets supporting the liability could be expropriated or
otherwise restricted if located outside the U.S. Exchange controls, taxes, or
political and economic developments also could affect liquidity or repayment.
Due to possibly conflicting laws or regulations, the foreign branch of the U.S.
bank could maintain that the liability is solely its own, thus exposing a Fund
to a possible loss. Such U.S. dollar-denominated obligations of foreign
branches of Federal Deposit Insurance Corporation ("FDIC") member U.S. banks are
not covered by the usual $100,000 of FDIC insurance if they are payable only at
an office of such a bank located outside the U.S., Puerto Rico, Guam, American
Samoa, and the Virgin Islands.
Moreover, there may be less publicly available information about foreign issuers
whose securities are not registered with the SEC and such foreign issuers may
not be subject to the accounting, auditing and financial reporting standards
applicable to issuers registered domestically. In addition, foreign issuers,
stock exchanges and brokers generally are subject to less government regulation.
There are, however, no risks of currency fluctuation since the obligations are
U.S. dollar-denominated.
The Core Bond Fund, High Yield Bond Fund, Small Cap Growth Fund, Small Cap Index
Fund, Small Cap Value Fund, Socially Responsible Fund, Stock Index Fund and the
Strategic Income Fund may purchase and sell Eurodollar futures contracts, which
enable purchasers to obtain a fixed rate for the lending of funds and sellers to
obtain a fixed rate for borrowings. A Fund might use Eurodollar futures
contracts and options thereon to hedge against changes in a foreign prime
lending interest rate to which many interest swaps and fixed income securities
are linked.
FOREIGN SECURITIES
Securities of foreign issuers include obligations of foreign branches of U.S.
banks and of foreign banks, common and preferred stocks, debt securities issued
by foreign governments, corporations and supranational organizations, and
American Depository Receipts, European Depository Receipts and Global Depository
Receipts ("ADRs", "EDRs" and "GDRs", respectively). ADRs are U.S. dollar-
denominated securities backed by foreign securities deposited in a U.S.
securities depository. ADRs are created for trading in the U.S. markets. The
value of an ADR will fluctuate with the value of the underlying security,
reflect any changes in exchange rates and otherwise involve risks associated
with investing in foreign securities. ADRs in which the Funds may invest may be
sponsored or unsponsored. There may be less information available about foreign
issuers of unsponsored ADRs. EDRs and GDRs are receipts evidencing an
arrangement with a non-U.S. bank similar to that for ADRs and are designed for
use in non-U.S. securities markets. EDRs and GDRs are not necessarily quoted in
the same currency as the underlying security.
Investments in emerging market countries may be subject to additional risks.
Specifically, volatile social, political and economic conditions may expose
investments in emerging or developing markets to economic structures that are
generally less diverse and mature. Emerging market countries may have less
stable political systems than those of more developed countries. As a result,
it is possible that favorable economic developments in certain emerging market
countries may be suddenly slowed or reversed by unanticipated political or
social events in such countries. Moreover, the economics of individual emerging
market countries may differ favorably or unfavorably from the U.S. economy in
such respects as the rate of growth in gross domestic product, the rate of
inflation, capital reinvestment, resource self-sufficiency and balance of
payments position. Additionally, investments in emerging countries may also be
adversely impacted due to the implementation of certain capital control measures
which could limit a Fund's ability to access U.S. dollars, repatriate earned
interest and/or principal, and sell selected securities.
Foreign markets, especially emerging markets, may have different clearance and
settlement procedures, and in certain markets there have been times when
settlements have been unable to keep pace with the volume of securities
transactions, making it difficult to conduct such transactions. Delays in
settlement could result in temporary periods when a portion of the assets of a
Fund is uninvested and no return is earned thereon. The inability of a Fund to
make intended security purchases due to settlement could cause the Fund to miss
attractive investment opportunities. Inability to dispose of Fund securities due
to settlement problems could result in losses to a Fund due to subsequent
declines in values of the Fund securities or, if the Fund has entered into a
contract to sell the security, possible liability to the purchaser. Certain
foreign markets, especially emerging markets, may require governmental approval
for the repatriation of investment income, capital or the proceeds of sales of
securities by foreign investors. A Fund could be adversely affected by delays
in, or a refusal to grant, any required governmental approval for repatriation
of capital, as well as by the application to the Fund of any restrictions on
investments.
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FOREIGN SOVEREIGN DEBT SECURITIES
Investing in foreign sovereign debt securities may expose a Fund to the direct
or indirect consequences of political, social or economic changes in the
developing and emerging countries that issue the securities. The ability and
willingness of sovereign obligors in developing and emerging countries or the
governmental authorities that control repayment of their external debt to pay
principal and interest on such debt when due may depend on general economic and
political conditions within the relevant country. Countries such as those in
which the Funds may invest have historically experienced, and may continue to
experience, high rates of inflation, high interest rates, exchange rate trade
difficulties and extreme poverty and unemployment. Many of these countries are
also characterized by political uncertainty or instability. Additional factors
which may influence the ability or willingness to service debt include, but are
not limited to, a country's cash flow situation, the availability of sufficient
foreign exchange on the date a payment is due, the relative size of its debt
service burden to the economy as a whole, and its government's policy towards
the International Monetary Fund ("IMF"), the World Bank and other international
agencies.
The ability of a foreign sovereign obligor to make timely payments on its
external debt obligations will also be strongly influenced by the obligor's
balance of payments, including export performance, its access to international
credits and investments, fluctuations in interest rates and the extent of its
foreign reserves. A country whose exports are concentrated in a few commodities
or whose economy depends on certain strategic imports could be vulnerable to
fluctuations in international prices of these commodities or imports. To the
extent that a country receives payment for its exports in currencies other than
dollars, its ability to make debt payments denominated in dollars could be
adversely affected. If a foreign sovereign obligor cannot generate sufficient
earnings from foreign trade to service its external debt, it may need to depend
on continuing loans and aid from foreign governments, commercial banks and
multilateral organizations, and inflows of foreign investment. The commitment on
the part of these foreign governments, multilateral organizations and others to
make such disbursements may be conditioned on the government's implementation of
economic reforms and/or economic performance and the timely service of its
obligations. Failure to implement such reforms, achieve such levels of economic
performance or repay principal or interest when due may result in the
cancellation of such third parties' commitments to lend funds, which may further
impair the obligor's ability or willingness to timely service its debts. The
cost of servicing external debt will also generally be adversely affected by
rising international interest rates, because many external debt obligations bear
interest at rates which are adjusted based upon international interest rates.
The ability to service external debt will also depend on the level of the
relevant government's international currency reserves and its access to foreign
exchange. Currency devaluations may affect the ability of a sovereign obligor to
obtain sufficient foreign exchange to service its external debt.
As a result of the foregoing, a governmental obligor may default on its
obligations. If such an event occurs, a Fund may have limited legal recourse
against the issuer and/or guarantor. Remedies must, in some cases, be pursued in
the courts of the defaulting party itself, and the ability of the holder of
foreign sovereign debt securities to obtain recourse may be subject to the
political climate in the relevant country. In addition, no assurance can be
given that the holders of commercial bank debt will not contest payments to the
holders of other foreign sovereign debt obligations in the event of default
under their commercial bank loan agreements.
Sovereign obligors in developing and emerging countries are among the world's
largest debtors to commercial banks, other governments, international financial
organizations and other financial institutions. These obligors have in the past
experienced substantial difficulties in servicing their external debt
obligations, which led to defaults on certain obligations and the restructuring
of certain indebtedness. Restructuring arrangements have included, among other
things, reducing and rescheduling interest and principal payments by negotiating
new or amended credit agreements or converting outstanding principal and unpaid
interest to Brady Bonds, and obtaining new credit to finance interest payments.
Holders of certain foreign sovereign debt securities may be requested to
participate in the restructuring of such obligations and to extend further loans
to their issuers. There can be no assurance that the Brady Bonds and other
foreign sovereign debt securities in which the Funds may invest will not be
subject to similar restructuring arrangements or to requests for new credit
which may adversely affect a Fund's holdings. Furthermore, certain participants
in the secondary market for such debt may be directly involved in negotiating
the terms of these arrangements and may therefore have access to information not
available to other market participants.
In addition to high yield foreign sovereign debt securities, many of the Funds
may also invest in investment grade foreign securities.
HIGH YIELD/HIGH RISK DOMESTIC CORPORATE DEBT SECURITIES
High yield U.S. corporate debt securities include bonds, debentures and notes
and will generally be unsecured. Most of these debt securities will bear
interest at fixed rates. However, a Fund may also invest in debt securities
with variable rates of interest or which involve equity features, such as
contingent interest or participations based on revenues, sales or profits (i.e.,
interest or other payments, often in addition to a fixed rate of return, that
are based on the borrower's attainment of specified levels of revenues, sales or
profits and thus enable the holder of the security to share in the potential
success of the venture).
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Because the High Yield Bond, Strategic Income and Core Bond Funds will invest
primarily in fixed-income securities, the net asset value of each Fund's shares
can be expected to change as general levels of interest rates fluctuate,
although the market values of securities rated below investment grade and
comparable unrated securities tend to react less to fluctuations in interest
rate levels than do those of higher-rated securities. Except to the extent that
values are affected independently by other factors such as developments relating
to a specific issuer, when interest rates decline, the value of a fixed-income
Fund can generally be expected to rise. Conversely, when interest rates rise,
the value of a fixed-income Fund can generally be expected to decline.
The secondary markets for high yield corporate and sovereign debt securities are
not as liquid as the secondary markets for higher rated securities. The
secondary markets for high yield debt securities are concentrated in relatively
few market makers and participants in the market are mostly institutional
investors, including insurance companies, banks, other financial institutions
and mutual funds. In addition, the trading volume for high yield debt securities
is generally lower than that for higher-rated securities and the secondary
markets could contract under adverse market or economic conditions independent
of any specific adverse changes in the condition of a particular issuer. These
factors may have an adverse effect on a Fund's ability to dispose of particular
Fund investments and may limit the ability of those Funds to obtain accurate
market quotations for purposes of valuing securities and calculating net asset
value. If a Fund is not able to obtain precise or accurate market quotations for
a particular security, it will become more difficult for the Trustees to value
such Fund's investment Fund and the Fund's Trustees may have to use a greater
degree of judgment in making such valuations. Less liquid secondary markets may
also affect a Fund's ability to sell securities at their fair value. In
addition, each Fund may invest a limited percentage of its assets, measured at
the time of investment, in illiquid securities, which may be more difficult to
value and to sell at fair value. If the secondary markets for high yield debt
securities are affected by adverse economic conditions, the proportion of a
Fund's assets invested in illiquid securities may increase.
While the market values of securities rated below investment grade and
comparable unrated securities tend to react less to fluctuations in interest
rate levels than do those of higher-rated securities, the market values of
certain of these securities also tend to be more sensitive to individual
corporate developments and changes in economic conditions than higher-rated
securities. In addition, such securities generally present a higher degree of
credit risk. Issuers of these securities are often highly leveraged and may not
have more traditional methods of financing available to them, so that their
ability to service their debt obligations during an economic downturn or during
sustained periods of rising interest rates may be impaired. The risk of loss due
to default by such issuers is significantly greater than with investment grade
securities because such securities generally are unsecured and frequently are
subordinated to the prior payment of senior indebtedness.
HIGH YIELD/HIGH RISK FOREIGN SOVEREIGN DEBT SECURITIES
The Strategic Income, High Yield Bond, Core Bond and International Small Cap
Funds expect that a significant portion of their emerging market governmental
debt obligations will consist of "Brady Bonds." In addition, the International
Small Cap, and Balanced Funds may also invest in Brady Bonds. Brady Bonds are
debt securities, generally denominated in U.S. dollars, issued under the
framework of the "Brady Plan," an initiative announced by former U.S. Treasury
Secretary Nicholas F. Brady in 1989 as a mechanism for debtor nations to
restructure their outstanding external commercial bank indebtedness. The Brady
Plan framework, as it has developed, contemplates the exchange of external
commercial bank debt for newly issued bonds (Brady Bonds). Brady Bonds may also
be issued in respect of new money being advanced by existing lenders in
connection with the debt restructuring. Investors should recognize that Brady
Bonds have been issued only recently, and accordingly do not have a long payment
history. Brady Bonds issued to date generally have maturities of between 15 and
30 years from the date of issuance and have traded at a deep discount from their
face value. The Funds may invest in Brady Bonds of emerging market countries
that have been issued to date, as well as those which may be issued in the
future. In addition to Brady Bonds, the Funds may invest in emerging market
governmental obligations issued as a result of debt restructuring agreements
outside of the scope of the Brady Plan.
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Agreements implemented under the Brady Plan to date are designed to achieve debt
and debt-service reduction through specific options negotiated by a debtor
nation with its creditors. As a result, the financial packages offered by each
country differ. The types of options have included the exchange of outstanding
commercial bank debt for bonds issued at 100% of face value of such debt which
carry a below-market stated rate of interest (generally known as par bonds),
bonds issued at a discount from the face value of such debt (generally known as
discount bonds), bonds bearing an interest rate which increases over time and
bonds issued in exchange for the advancement of new money by existing lenders.
Discount bonds issued to date under the framework of the Brady Plan have
generally borne interest computed semiannually at a rate equal to 13/16 of one
percent above the then current six month LIBOR rate. Regardless of the stated
face amount and stated interest rate of the various types of Brady Bonds, the
Funds will purchase Brady Bonds in secondary markets, as described below, in
which the price and yield to the investor reflect market conditions at the time
of purchase. Brady Bonds issued to date have traded at a deep discount from
their face value. Certain sovereign bonds are entitled to "value recovery
payments" in certain circumstances, which in effect constitute supplemental
interest payments but generally are not collateralized. Certain Brady Bonds
have been collateralized as to principal due at maturity (typically 15 to 30
years from the date of issuance) by U.S. Treasury zero coupon bonds with a
maturity equal to the final maturity of such Brady Bonds, although the
collateral is not available to investors until the final maturity of the Brady
Bonds. Collateral purchases are financed by the IMF, the World Bank and the
debtor nations' reserves. In addition, interest payments on certain types of
Brady Bonds may be collateralized by cash or high-grade securities in amounts
that typically represent between 12 and 18 months of interest accruals on these
instruments with the balance of the interest accruals being uncollateralized.
The Funds may purchase Brady Bonds with no or limited collateralization, and
will be relying for payment of interest and (except in the case of principal
collateralized Brady Bonds) principal primarily on the willingness and ability
of the foreign government to make payment in accordance with the terms of the
Brady Bonds. Brady Bonds issued to date are purchased and sold in secondary
markets through U.S. securities dealers and other financial institutions and are
generally maintained through European transnational securities depositories.
HYBRID INSTRUMENTS
Hybrid instruments (a type of potentially high-risk derivative) have been
developed and combine the elements of futures contracts or options with those of
debt, preferred equity or a depository instrument (hereinafter "Hybrid
Instruments"). Generally, a Hybrid Instrument will be a debt security,
preferred stock, depository share, trust certificate, certificate of deposit or
other evidence of indebtedness on which a portion of or all interest payments,
and/or the principal or stated amount payable at maturity, redemption or
retirement, is determined by reference to prices, changes in prices, or
differences between prices, of securities, currencies, intangibles, goods,
articles or commodities (collectively "Underlying Assets") or by another
objective index, economic factor or other measure, such as interest rates,
currency exchange rates, commodity indices, and securities indices (collectively
"Benchmarks"). Thus, Hybrid Instruments may take a variety of forms, including,
but not limited to, debt instruments with interest or principal payments or
redemption terms determined by reference to the value of a currency or commodity
or securities index at a future point in time, preferred stock with dividend
rates determined by reference to the value of a currency, or convertible
securities with the conversion terms related to a particular commodity.
Hybrid Instruments can be an efficient means of creating exposure to a
particular market, or segment of a market, with the objective of enhancing total
return. For example, a Fund may wish to take advantage of expected declines in
interest rates in several European countries, but avoid the transactions costs
associated with buying and currency-hedging the foreign bond positions. One
solution would be to purchase a U.S. dollar- denominated Hybrid Instrument whose
redemption price is linked to the average three year interest rate in a
designated group of countries. The redemption price formula would provide for
payoffs of greater than par if the average interest rate was lower than a
specified level, and payoffs of less than par if rates were above the specified
level. Furthermore, the Fund could limit the downside risk of the security by
establishing a minimum redemption price so that the principal paid at maturity
could not be below a predetermined minimum level if interest rates were to rise
significantly. The purpose of this arrangement, known as a structured security
with an embedded put option, would be to give the Fund the desired European bond
exposure while avoiding currency risk, limiting downside market risk, and
lowering transactions costs. Of course, there is no guarantee that the strategy
will be successful and the Fund could lose money if, for example, interest rates
do not move as anticipated or credit problems develop with the issuer of the
Hybrid.
The risks of investing in Hybrid Instruments reflect a combination of the risks
of investing in securities, options, futures and currencies. Thus, an
investment in a Hybrid Instrument may entail significant risks that are not
associated with a similar investment in a traditional debt instrument that has a
fixed principal amount, is denominated in U.S. dollars or bears interest either
at a fixed rate or a floating rate determined by reference to a common,
nationally published Benchmark. The risks of a particular Hybrid Instrument
will, of course, depend upon the terms of the instrument, but may include,
without limitation, the possibility of significant changes in the Benchmarks or
the prices of Underlying Assets to which the instrument is linked. Such risks
generally depend upon factors which are unrelated to the operations or credit
quality of the issuer of the Hybrid Instrument and which may not be readily
foreseen by the purchaser, such as economic and political events, the supply and
demand for the Underlying Assets and interest rate movements. In recent years,
various Benchmarks and prices for Underlying Assets have been highly volatile,
and such volatility may be expected in the future. Reference is also made to
the discussion below of futures, options, and forward contracts for a
description of certain risks associated with such investments.
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Hybrid Instruments are potentially more volatile and carry greater market risks
than traditional debt instruments. Depending on the structure of the particular
Hybrid Instrument, changes in a Benchmark may be magnified by the terms of the
Hybrid Instrument and have an even more dramatic and substantial effect upon the
value of the Hybrid Instrument. Also, the prices of the Hybrid Instrument and
the Benchmark or Underlying Asset may not move in the same direction or at the
same time.
Hybrid Instruments may bear interest or pay preferred dividends at below market
(or even relatively nominal) rates. Alternatively, Hybrid Instruments may bear
interest at above market rates but bear an increased risk of principal loss (or
gain). The latter scenario may result if "leverage" is used to structure the
Hybrid Instrument. Leverage risk occurs when the Hybrid Instrument is
structured so that a given change in a Benchmark or Underlying Asset is
multiplied to produce a greater value change in the Hybrid Instrument, thereby
magnifying the risk of loss as well as the potential for gain.
Hybrid Instruments may also carry liquidity risk since the instruments are often
"customized" to meet the portfolio needs of a particular investor, and
therefore, the number of investors that are willing and able to buy such
instruments in the secondary market may be smaller than that for more
traditional debt securities. In addition, because the purchase and sale of
Hybrid Instruments could take place in an over-the-counter market without the
guarantee of a central clearing organization or in a transaction between the
Fund and the issuer of the Hybrid Instrument, the creditworthiness of the
counter party or issuer of the Hybrid Instrument would be an additional risk
factor which the Fund would have to consider and monitor. Hybrid Instruments
also may not be subject to regulation of the CFTC, which generally regulates the
trading of commodity futures by U.S. persons, the SEC, which regulates the offer
and sale of securities by and to U.S. persons, or any other governmental
regulatory authority. The various risks discussed above, particularly the
market risk of such instruments, may in turn cause significant fluctuations in
the net asset value of the Fund. Accordingly, no Fund will invest more than 5%
of its assets in Hybrid Investments.
Certain issuers of Hybrid Investments may be deemed to be investment companies
as defined in the 1940 Act. As a result, the Funds' investments in these
products will be subject to limits applicable to investments in investment
companies and may be subject to restrictions contained in the 1940 Act.
ILLIQUID SECURITIES
Each of the Funds may invest a percentage of their net assets in securities or
other investments that are illiquid or not readily marketable (including
repurchase agreements with maturities exceeding seven days, stripped mortgage
securities, catastrophe bonds and inverse floaters). Investment in illiquid
securities involves the risk that, because of the lack of consistent market
demand for such securities, a Fund may be forced to sell them at a discount from
the last offer price. Excluded from the limitation on investment in illiquid
securities are securities that are restricted as to resale but for which a ready
market is available pursuant to exemption provided by Rule 144A adopted under
the Securities Act of 1933, as amended (the "1933 Act") or other exemptions from
the registration requirements of the 1933 Act. Whether securities sold pursuant
to Rule 144A are readily marketable for purposes of the Fund's investment
restriction is a determination to be made by the Subadvisors, subject to the
Trustees' oversight and for which the Trustees are ultimately responsible. The
Subadvisors will also monitor the liquidity of Rule 144A securities held by the
Funds for which they are responsible. To the extent Rule 144A securities held by
a Fund should become illiquid because of a lack of interest on the part of
qualified institutional investors, the overall liquidity of the Fund could be
adversely affected. In addition, the Money Market Fund and the Municipal Money
Market Fund may invest in commercial paper issued in reliance on the exemption
from registration afforded by Section 4(2) of the 1933 Act. Section 4(2)
commercial paper is restricted as to the disposition under federal securities
law, and is generally sold to institutional investors, such as the Fund, who
agree that they are purchasing the paper for investment purposes and not with a
view to public distribution. Any resale by the purchaser must be made in an
exempt transaction. Section 4(2) commercial paper is normally resold to other
institutional investors like the Money Market Fund and the Municipal Money
Market Fund through or with the assistance of the issuer or investment dealers
who make a market in Section 4(2) commercial paper, thus providing liquidity.
The Money Market Fund's and the Municipal Money Market Fund's Subadvisor
believes that Section 4(2) commercial paper meets its criteria for liquidity and
is quite liquid. The Money Market Fund and the Municipal Money Market Fund
intend, therefore, to treat Section 4(2) commercial paper as liquid and not
subject to the investment limitation applicable to illiquid securities. The
Money Market Fund's and the Municipal Money Market Fund's Subadvisor will
monitor the liquidity of Section 4(2) commercial paper held by the Money Market
Fund and the Municipal Money Market Fund, subject to the Trustees' oversight and
for which the Trustees are ultimately responsible.
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INDEX FUNDS AND TRACKING AN INDEX
The factors that cause a Fund to perform differently from the index it tries to
track are called tracking differences. There is no assurance that an Index Fund
can track its index.
The coefficient of correlation is an index number which shows how closely two
variables are related. If r = 0 there is no tendency for one variable to change
with the other. A value of + 1 means that one variable will vary exactly with
the other. Index funds try to keep their coefficient of correlation as close to
1 as possible.
Tracking accuracy is reviewed periodically by the Subadvisor for each of the
Index Funds. If an Index Fund does not accurately track an index, the
Subadvisor may rebalance the Fund's portfolio by selecting securities which will
provide a more representative sampling of the securities in the index as a whole
or the sector diversification within the index, as appropriate.
The index may remove one stock and substitute another, requiring the Fund to do
the same. When a stock is sold and the new stock purchased, the Fund incurs
transaction costs. The index incurs no transaction costs. Therefore, any index
fund portfolio manager cannot match exactly the performance of an index.
An index fund may not buy every single stock in its index or in the same
proportions as the index. The Subadvisor may rely on a statistical selection
technique to figure out, of the stocks tracked by their index, how many and
which ones to buy. Stocks are bought and sold in response to cash flows into
and out of the Fund and when they are added to or dropped from the index. This
generally helps to keep brokerage fees and other transaction costs lower than
other funds.
INFLATION-INDEXED BONDS
The Core Bond Fund, the Strategic Income Fund, the U.S. Government Securities
Fund and the Municipal Bond Fund may invest in inflation-indexed bonds.
Inflation-indexed bonds are fixed income securities whose principal value is
periodically adjusted according to the rate of inflation. Interest payments are
made to bondholders semi-annually and are made up of two components: a fixed
"real coupon" or spread, and a variable coupon linked to an inflation index.
Accordingly, payments will increase or decrease each period as a result of
changes in the inflation index. In the period of deflation payments may
decrease to zero, but in any event will not be less than zero. Inflation-
indexed bonds generally are issued at an interest rate lower than typical bonds,
but are expected to retain their principal value over time. The interest rate
on these bonds is fixed at issuance, but over the life of the bond this interest
may be paid on an increasing principal value, which has been adjusted for
inflation.
Inflation-indexed securities issued by the U.S. Treasury will initially have
maturities of five, ten or thirty years, although it is anticipated that
securities with other maturities will be issued in the future. The securities
will pay interest on a semi-annual basis, equal to a fixed percentage of the
inflation-adjusted principal amount. For example, if a Fund purchased an
inflation-indexed bond with a par value of $1,000 and a 3% real rate of return
coupon (payable 1.5% semi-annually), and inflation over the first six months
were 1%, the mid-year par value of the bond would be $1,010 and the first semi-
annual interest payment would be $15.15 ($1,010 times 1.5%). If inflation
during the second half of the year reached 3%, the end-of-year par value of the
bond would be $1.030 and the second semi-annual interest payment would be $15.45
($1,030 times 1.5%).
If the periodic adjustment rate measuring inflation falls, the principal value
of inflation-indexed bonds will be adjusted downward, and consequently the
interest payable on these securities (calculated with respect to a smaller
principal amount) will be reduced. Repayment of the original bond principal
upon maturity (as adjusted for inflation) is guaranteed in the case of U.S.
Treasury inflation-indexed bonds, even during a period of deflation. However,
the current market value of the bonds is not guaranteed, and will fluctuate.
The Funds may also invest in other inflation related bonds which may or may not
provide a similar guarantee. If a guarantee of principal is not provided, the
adjusted principal value of the bond repaid at maturity may be less than the
original principal.
The value of inflation-indexed bonds is expected to change in response to
changes in real interest rates. Real interest rates in turn are tied to the
relationship between nominal interest rates and the rate of inflation.
Therefore, if inflation were to rise at a faster rate than nominal interest
rates, real interest rates might decline, leading to an increase in value of
inflation-indexed bonds. In contrast, if nominal interest rates increased at a
faster rate than inflation, real interest rates might rise, leading to a
decrease in value of inflation-indexed bonds.
While these securities are expected to be protected from long-term inflationary
trends, short-term increases in inflation may lead to a decline in value. If
interest rates rise die to reasons other than inflation (for example, due to
changes in currency exchange rates), investors in these securities may not be
protected to the extent that the increase is not reflected in the bond's
inflation measure.
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The U.S. Treasury has only recently begun issuing inflation-indexed bonds. As
such, there is no trading history of these securities, and there can be no
assurance that a liquid market in these instruments will develop, although one
is expected. Lack of a liquid market may impose the risk of higher transaction
costs and the possibility that a Fund may be forced to liquidate positions when
it would not be advantageous to do so. There also can be no assurance that the
U.S. Treasury will issue any particular amount of inflation-indexed bonds.
Certain foreign governments, such as the United Kingdom, Canada and Australia,
have a longer history of issuing inflation-indexed bonds, and there may be a
more liquid market in certain of these countries for these securities.
The periodic adjustment of U.S. inflation-indexed bonds is tied to the Consumer
Price Index for Urban Consumers ("CPI-U"), which is calculated monthly by the
U.S. Bureau of Labor Statistics. The CPI-U is a measurement of changes in the
cost of living, made up of components such as housing, food, transportation and
energy. Inflation-indexed bonds issued by a foreign government are generally
adjusted to reflect a comparable inflation index, calculated by that government.
There can be no assurance that the CPI-U or any foreign inflation index will
accurately measure the real rate of inflation in the prices of goods and
services. Moreover, there can be no assurance that the rate of inflation in a
foreign country will be correlated to the rate of inflation in the United
States.
Any increase in the principal amount of an inflation-indexed bond will be
considered taxable ordinary income, even though investors do not receive their
principal until maturity.
INTERNATIONAL BONDS
The U.S. Government Securities Fund, the Municipal Bond Fund, the Core Bond
Fund, the High Yield Bond Fund, the Small Cap Index Fund, the Socially
Responsible Fund, the Stock Index Fund, and the Strategic Income Fund may invest
in international bonds, which include U.S. dollar-denominated bonds issued by
foreign corporations for which the primary trading market is abroad ("Euro
Bonds"). International bonds may involve special risks and considerations not
typically associated with investing in U.S. companies, including differences in
accounting, auditing and financial reporting standards; generally higher
commission rates on foreign portfolio transactions; the possibility of
nationalization, expropriation or confiscatory taxation; adverse changes in
investment or exchange control regulations (which may include suspension of the
ability to transfer currency from a country); and political instability which
could affect U.S. investments in foreign countries. Additionally, dispositions
of foreign securities and dividends and interest payable on those securities may
be subject to foreign taxes, including withholding taxes. Foreign securities
often trade with less frequency and volume than domestic securities and,
therefore, may exhibit greater price volatility. A Fund's investment in
international bonds also may be affected either unfavorably or favorably by
fluctuations in the relative rates of exchange between currencies of different
nations, by exchange control regulations and by indigenous economic and
political developments.
LENDING PORTFOLIO SECURITIES
For purposes of realizing additional income, each Fund, except the Lifestyle
Funds, may make secured loans of its portfolio securities. Securities loans are
made to broker-dealers and other financial institutions approved by State Street
Bank and Trust Company (the "Custodian"), custodian to the Funds and pursuant to
agreements requiring that the loans be continuously secured by collateral at
least equal at all times to the loaned securities marked to market on a daily
basis. The collateral received will consist of cash, U.S. government
securities, letters of credit or such other collateral as permitted by
interpretations or rules of the SEC. While the securities are on loan, the
Funds will continue to receive the equivalent of the interest or dividends paid
by the issuer on the securities, as well as interest on the investment of the
collateral or a fee from the borrower.
Any loan of portfolio securities by any Fund will be callable at any time by the
lending Fund upon notice of five business days. When voting or consent rights
which accompany loaned securities pass to the borrower, the lending Fund will
call the loan, in whole or in part as appropriate, to permit the exercise of
such rights if the matters involved would have a material effect on that Fund's
investment in the securities being loaned. If the borrower fails to maintain
the requisite amount of collateral, the loan will automatically terminate, and
the lending Fund will be permitted to use the collateral to replace the
securities while holding the borrower liable for any excess of replacement cost
over collateral. As with any extensions of credit, there are risks of delay in
receiving additional collateral or in the recovery of the securities or, in some
cases, even loss of rights in the collateral should the borrower of the
securities fail financially. However, these loans of portfolio securities will
be made only when the Custodian considers the borrowing broker-dealers or
financial institutions to be creditworthy and of good standing and the interest
earned from such loans to justify the attendant risks. On termination of the
loan, the borrower will be required to return the securities to the lending
Fund. Any gain or loss in the market price during the loan would inure to the
lending Fund. The lending Fund may pay reasonable finders', administrative, and
custodial fees in connection with a loan of its securities.
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INVESTMENT COMPANIES
All of the Funds may invest in the securities of other open-end or closed-end
investment companies subject to the limitations imposed by the 1940 Act. A Fund
will indirectly bear its proportionate share of any management fees and other
expenses paid by an investment company in which it invests.
MONEY MARKET INSTRUMENTS
All Funds may invest in Money Market Instruments. The Money Market Fund will be
invested in the types of money market instruments described below. All other
Funds may invest in certain of the instruments listed below unless a Fund's
investment policy strictly prohibits such investment. Certain Funds may
purchase such instruments to invest otherwise idle cash or for defensive
purposes.
1. U.S. Government and Government Agency Obligations. U.S. Government
obligations are debt securities issued or guaranteed as to principal or interest
by the U.S. Treasury. These securities include treasury bills, notes and bonds.
U.S. Government agency obligations are debt securities issued or guaranteed as
to principal or interest by an agency or instrumentality of the U.S. Government
pursuant to authority granted by Congress. U.S. Government agency obligations
include, but are not limited to, the Student Loan Marketing Association, Federal
Home Loan Banks ("FHLMC"), Government National Mortgage Association ("GNMA"),
Federal Intermediate Credit Banks and the Federal National Mortgage Association
("FNMA"). U.S. instrumentality obligations include, but are not limited to, the
Export-Import Bank and Farmers Home Administration. Some obligations issued or
guaranteed by U.S. Government agencies or instrumentalities are supported by the
right of the issuer to borrow from the U.S. Treasury or the Federal Reserve
Banks, such as those issued by Federal Intermediate Credit Banks; others, such
as those issued by the FNMA, are supported by discretionary authority of the
U.S. Government to purchase certain obligations of the agency or
instrumentality; and others, such as those issued by the Student Loan Marketing
Association, are supported only by the credit of the agency or instrumentality.
There are also separately traded interest components of securities issued or
guaranteed by the U.S. Treasury. No assurance can be given that the U.S.
Government will provide financial support to such U.S. Government sponsored
agencies or instrumentalities in the future, since it is not obligated to do so
by law. The foregoing types of instruments are hereafter collectively referred
to as "U.S. Government securities."
2. Certificates of Deposit, Bankers' Acceptances and Other Obligations.
Certificates of deposit are certificates issued against funds deposited in a
bank or a savings and loan association. They are for a definite period of time
and earn a specified rate of return. Bankers' acceptances are short-term credit
instruments evidencing the obligation of a bank to pay a draft which has been
drawn on it by a customer. These instruments reflect the obligation both of the
bank and of the drawer to pay the face amount of the instrument upon maturity.
They are primarily used to finance the import, export, transfer or storage of
goods. They are termed "accepted" when a bank guarantees their payment at
maturity.
Certain Funds may acquire obligations of foreign banks and foreign branches of
U.S. banks. These obligations are not insured by the Federal Deposit Insurance
Corporation.
The Funds limit investments in United States certificates of deposit and bankers
acceptances to obligations of United States banks (including foreign branches)
which have more than $1 billion in total assets at the time of investment and
are members of the Federal Reserve System or are examined by the Comptroller of
the Currency or where deposits are insured by the Federal Deposit Insurance
Corporation. A Fund may also invest in certificates of deposit of savings and
loan associations (federally or state chartered and federally insured) having
total assets in excess of $1 billion.
3. Commercial Paper. Commercial paper consists of unsecured promissory notes
issued by corporations to finance short-term credit needs. Commercial paper is
issued in registered form with maturities generally not exceeding nine months.
Commercial paper obligations may include variable amount master demand notes.
Variable amount master demand notes are obligations that permit the investment
of fluctuating amounts at varying rates of interest pursuant to direct
arrangements between a Fund, as lender, and the borrower. These notes permit
daily changes in the amounts borrowed. A Fund has the right to increase the
amount under the note at any time up to the full amount provided by the note
agreement, or to decrease the amount, and the borrower may prepay up to the full
amount of the note without penalty. Because variable amount master demand notes
are direct lending arrangements between the lender and borrower, it is not
generally contemplated that such instruments will be traded, and there is no
secondary market for these notes, although they are redeemable (and thus
immediately repayable by the borrower) at face value, plus accrued interest, at
any time. A Fund will only invest in variable amount master demand notes issued
by companies which at the date of investment have an outstanding debt issue
rated "Aaa" or "Aa" by Moody's or "AAA" or "AA" by S&P and which the applicable
Subadvisor has determined present minimal risk of loss to the Fund. A Subadvisor
will look generally at the financial strength of the issuing company as
"backing" for the note and not to any security interest or supplemental source
such as a bank letter of credit. A variable amount master demand note will be
valued each day as a Fund's net asset value is determined, which value will
generally be equal to the face value of the note plus accrued interest unless
the financial position of the issuer is such that its ability to repay the note
when due is in question.
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4. Corporate Obligations. Corporate obligations include bonds and notes issued
by corporations to finance longer-term credit needs than those supported by
commercial paper. While such obligations generally have maturities of ten years
or more, the Money Market Fund and the Municipal Money Market Fund will only
purchase obligations which have remaining maturities of thirteen months or less
from the date of purchase.
5. Repurchase Agreements. Repurchase agreements are arrangements involving the
purchase of obligations by a Fund and the simultaneous agreement to resell the
same obligations on demand or at a specified future date and at an agreed upon
price. The majority of repurchase transactions run from day to day and delivery
pursuant to the resale provision typically will occur within one to five
business days of the purchase. A repurchase agreement can be viewed as a loan
made by a Fund to the seller of the obligation with such obligation serving as
collateral for the seller's agreement to repay the amount borrowed with
interest. Such transactions afford an opportunity for a Fund to earn a return
on cash which is only temporarily available. Repurchase agreements entered into
by the Fund will be with banks, brokers or dealers. However, a Fund will enter
into a repurchase agreement with a broker or dealer only if the broker or dealer
agrees to deposit additional collateral should the value of the obligation
purchased by the Fund decrease below the resale price.
The Trustees have adopted procedures that establish certain creditworthiness,
asset and collateralization requirements for the counterparties to a Fund's
repurchase agreements. These procedures limit the counterparties to repurchase
transactions to those financial institutions which are members of the Federal
Reserve System and/or a primary government securities dealer reporting to the
Federal Reserve Bank of New York's Market Reports Division or a broker/dealer
which meet certain creditworthiness criteria or which report U.S. Government
securities positions to the Federal Reserve Board. However, the Trustees
reserve the right to change the criteria used to select such financial
institutions and broker/dealers. The Trustees will regularly monitor the use of
repurchase agreements and the Subadvisors will, pursuant to procedures adopted
by the Trustees, continuously monitor the amount of collateral held with respect
to a repurchase transaction so that it equals or exceeds the amount of the
obligations.
Should an issuer of a repurchase agreement fail to repurchase the underlying
obligation, the losses to the Fund, if any, would be the difference between the
repurchase price and the underlying obligation's market value. A Fund might
also incur certain costs in liquidating the underlying obligation. Moreover, if
bankruptcy or other insolvency proceedings should be commenced with respect to
the seller, realization upon the underlying obligation by the Fund might be
delayed or limited. Generally, repurchase agreements are of a short duration,
often less than one week but on occasion for longer periods.
6. Canadian and Provincial Government and Crown Agency Obligations. Canadian
Government obligations are debt securities issued or guaranteed as to principal
or interest by the Government of Canada pursuant to authority granted by the
Parliament of Canada and approved by the Governor in Council, where necessary.
These securities include treasury bills, notes, bonds, debentures and marketable
Government of Canada loans. Canadian Crown agency obligations are debt
securities issued or guaranteed by a Crown corporation, company or agency
("Crown agencies") pursuant to authority granted by the Parliament of Canada and
approved by the Governor in Council, where necessary. Certain Crown agencies
are by statute agents of Her Majesty in right of Canada, and their obligations,
when properly authorized, constitute direct obligations of the Government of
Canada. Such obligations include, but are not limited to, those issued or
guaranteed by the Export Development Corporation, Farm Credit Corporation,
Federal Business Development Bank and Canada Post Corporation. In addition,
certain Crown agencies which are not by law agents of Her Majesty may issue
obligations which by statute the Governor in Council may authorize the Minister
of Finance to guarantee on behalf of the Government of Canada. Other Crown
agencies which are not by law agents of Her Majesty may issue or guarantee
obligations not entitled to be guaranteed by the Government of Canada. No
assurance can be given that the Government of Canada will support the
obligations of Crown agencies which are not agents of Her Majesty, which it has
not guaranteed, since it is not obligated to do so by law.
Provincial Government obligations are debt securities issued or guaranteed as to
principal or interest by the government of any province of Canada pursuant to
authority granted by the Legislature of any such province and approved by the
Lieutenant Governor in Council of any such province, where necessary. These
securities include treasury bills, notes, bonds and debentures. Provincial
Crown agency obligations are debt securities issued or guaranteed by a
provincial Crown corporation, company or agency ("provincial Crown agencies")
pursuant to authority granted by a provincial Legislature and approved by the
Lieutenant Governor in Council of such province, where necessary. Certain
provincial Crown agencies are by statute agents of Her Majesty in right of a
particular province of Canada, and their obligations, when properly authorized,
constitute direct obligations of such province. Other provincial Crown agencies
which are not by law agents of Her Majesty in right of a particular province of
Canada may issue obligations which by statute the Lieutenant Governor in Council
of such province may guarantee, or may authorize the Treasurer thereof to
guarantee, on behalf of the government of such province. Finally, other
provincial Crown agencies which are not by law agencies of Her Majesty may issue
or guarantee obligations not entitled to be guaranteed by a provincial
government. No assurance can be given that the government of any province of
Canada will support the obligations of provincial Crown agencies which are not
agents of Her Majesty, which it has not guaranteed, as it is not obligated to do
so by law. Provincial Crown agency obligations described above include, but are
not limited to, those issued or guaranteed by a provincial railway corporation,
a provincial hydroelectric or power commission or authority, a provincial
municipal financing corporation or agency and a provincial telephone commission
or authority.
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Any Canadian obligation acquired by the Money Market Fund will be denominated in
U.S. dollars.
MONEY MARKET SECURITIES OF FOREIGN ISSUERS
Foreign money market instruments utilized by certain of the Funds will be
limited to: (i) obligations of, or guaranteed by, a foreign government, its
agencies or instrumentalities; (ii) certificates of deposit, bankers'
acceptances, short-term notes, negotiable time deposits and other obligations of
the ten largest banks in each foreign country, measured in terms of net assets;
and (iii) other short-term unsecured corporate obligations (usually 1 to 270 day
commercial paper) of foreign companies. For temporary purposes or in light of
adverse foreign political or economic conditions, the Funds may invest in short-
term high quality foreign money market securities as described in the
Prospectus.
MORTGAGE DOLLAR ROLLS
Each of the Funds (except the High Yield Bond Fund, the Money Market Fund, the
Municipal Money Market Fund and the Lifestyle Funds) may enter into mortgage
dollar rolls. Under a mortgage dollar roll, a Fund sells mortgage-backed
securities for delivery in the future (generally within 30 days) and
simultaneously contracts to repurchase substantially similar (same type, coupon
and maturity) securities on a specified future date. During the roll period, the
Fund forgoes principal and interest paid on the mortgage-backed securities. A
Fund is compensated by the difference between the current sale price and the
lower forward price for the future purchase (often referred to as the "drop") as
well as by the interest earned on the cash proceeds of the initial sale. A Fund
may also be compensated by receipt of a commitment fee. A Fund may only enter
into covered rolls. A "covered roll" is a specific type of dollar roll for which
there is an offsetting liquid asset. Dollar roll transactions involve the risk
that the market value of the securities sold by the Fund may decline below the
repurchase price of those securities. While a mortgage dollar roll may be
considered a form of leveraging and may, therefore, increase fluctuations in a
Fund's net asset value per share, each Fund may cover the transaction as
described above. Dollar roll transactions for terms exceeding three months may
be deemed "illiquid" and subject to a Fund's overall limitations on investments
in illiquid securities.
Mortgage Securities
Mortgage securities differ from conventional bonds in that principal is paid
over the life of the securities rather than at maturity. As a result, a Fund
receives monthly scheduled payments of principal and interest, and may receive
unscheduled principal payments representing prepayments on the underlying
mortgages. When a Fund reinvests the payments and any unscheduled prepayments
of principal it receives, it may receive a rate of interest which is higher or
lower than the rate on the existing mortgage securities. For this reason,
mortgage securities may be less effective than other types of debt securities as
a means of locking in long-term interest rates.
In addition, because the underlying mortgage loans and assets may be prepaid at
any time, if a Fund purchases mortgage securities at a premium, a prepayment
rate that is faster than expected will reduce yield to maturity, while a
prepayment rate that is slower than expected will have the opposite effect of
increasing yield to maturity. Conversely, if a Fund purchases these securities
at a discount, faster than expected prepayments will increase, while slower than
expected payments will reduce, yield to maturity.
Adjustable rate mortgage securities are similar to the mortgage securities
discussed above, except that unlike fixed rate mortgage securities, adjustable
rate mortgage securities are collateralized by or represent interests in
mortgage loans with variable rates of interest. These variable rates of
interest reset periodically to align themselves with market rates. Most
adjustable rate mortgage securities provide for an initial mortgage rate that is
in effect for a fixed period, typically ranging from three to twelve months.
Thereafter, the mortgage interest rate will reset periodically in accordance
with movements in a specified published interest rate index. The amount of
interest due to an adjustable rate mortgage holder is determined in accordance
with movements in a specified published interest rate index by adding a pre-
determined increment or "margin" to the specified interest rate index. Many
adjustable rate mortgage securities reset their interest rates based on changes
in the one-year, three-year and five-year constant maturity Treasury rates, the
three-month or six-month Treasury Bill rate, the 11th District Federal Home Loan
Bank Cost of Funds, the National Median Cost of Funds, the one-month, three-
month, six-month or one-year London Interbank Offered Rate ("LIBOR") and other
market rates.
A Fund will not benefit from increases in interest rates to the extent that
interest rates rise to the point where they cause the current coupon of
adjustable rate mortgages held as investments to exceed any maximum allowable
annual or lifetime reset limits (or "cap rates") for a particular mortgage. In
this event, the value of the mortgage securities in a Fund would likely
decrease. Also, the Fund's net asset value could vary to the extent that
current yields on adjustable rate mortgage securities are different than market
yields during interim periods between coupon reset dates. During periods of
declining interest rates, income to a Fund derived from adjustable rate
mortgages which remain in a mortgage pool will decrease in contrast to the
income on fixed rate mortgages, which will remain constant. Adjustable rate
mortgages also have less potential for appreciation in value as interest rates
decline than do fixed rate investments.
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Mortgage-backed securities that are issued or guaranteed by the U.S. Government,
its agencies or instrumentalities, are not subject to the Funds' industry
concentration restrictions, set forth below under "Investment Restrictions," by
virtue of the exclusion from the test available to all U.S. Government
securities. In the case of privately issued mortgage-related securities, the
Funds take the position that mortgage-related securities do not represent
interests in any particular "industry" or group of industries.
PRIVATELY-ISSUED MORTGAGE SECURITIES. Privately-issued pass through securities
provide for the monthly principal and interest payments made by individual
borrowers to pass through to investors on a corporate basis, and in privately-
issued collateralized mortgage obligations, as further described below.
Privately-issued mortgage securities are issued by private originators of, or
investors in, mortgage loans, including mortgage bankers, commercial banks,
investment banks, savings and loan associations and special purpose subsidiaries
of the foregoing. Since privately-issued mortgage certificates are not
guaranteed by an entity having the credit status of GNMA or FHLMC, such
securities generally are structured with one or more types of credit
enhancement. For a description of the types of credit enhancements that may
accompany privately-issued mortgage securities, see "Asset-Backed Securities--
Types of Credit Support" below. A Fund will not limit its investments to asset-
backed securities with credit enhancements.
COLLATERALIZED MORTGAGE OBLIGATIONS ("CMOS"). CMOs generally are bonds or
certificates issued in multiple classes that are collateralized by or represent
an interest in mortgages. CMOs may be issued by single-purpose, stand-alone
finance subsidiaries or trusts of financial institutions, government agencies,
investment banks or other similar institutions. Each class of CMOs, often
referred to as a "tranche", may be issued with a specific fixed coupon rate
(which may be zero) or a floating coupon rate, and has a stated maturity or
final distribution date. Principal prepayments on the underlying mortgages may
cause the CMOs to be retired substantially earlier than their stated maturities
or final distribution dates. Interest is paid or accrued on CMOs on a monthly,
quarterly or semiannual basis. The principal of and interest on the underlying
mortgages may be allocated among the several classes of a series of a CMO in
many ways. The general goal sought to be achieved in allocating cash flows on
the underlying mortgages to the various classes of a series of CMOs is to create
tranches on which the expected cash flows have a higher degree of predictability
than the underlying mortgages. As a general matter, the more predictable the
cash flow is on a CMO tranche, the lower the anticipated yield will be on that
tranche at the time of issuance. As part of the process of creating more
predictable cash flows on most of the tranches in a series of CMOs, one or more
tranches generally must be created that absorb most of the volatility in the
cash flows on the underlying mortgages. The yields on these tranches are
relatively higher than on tranches with more predictable cash flows. Because of
the uncertainty of the cash flows on these tranches, and the sensitivity thereof
to changes in prepayment rates on the underlying mortgages, the market prices of
and yield on these tranches tend to be highly volatile.
CMOs purchased may be:
(1) collateralized by pools of mortgages in which each mortgage is guaranteed
as to payment of principal and interest by an agency or instrumentality of the
U.S. Government;
(2) collateralized by pools of mortgages in which payment of principal and
interest is guaranteed by the issuer and the guarantee is collateralized by U.S.
Government securities; or
(3) securities for which the proceeds of the issuance are invested in mortgage
securities and payment of the principal and interest is supported by the credit
of an agency or instrumentality of the U.S. Government.
STRIPS. In addition to the U.S. Government securities discussed above, certain
Funds may invest in separately traded interest components of securities issued
or guaranteed by the U.S. Treasury. The interest components of selected
securities are traded independently under the Separate Trading of Registered
Interest and Principal of Securities program ("STRIPS"). Under the STRIPS
program, the interest components are individually numbered and separately issued
by the U.S. Treasury at the request of depository financial institutions, which
then trade the component parts independently.
STRIPPED MORTGAGE SECURITIES. Stripped mortgage securities are derivative
multiclass mortgage securities. Stripped mortgage securities may be issued by
agencies or instrumentalities of the U.S. Government, or by private issuers,
including savings and loan associations, mortgage banks, commercial banks,
investment banks and special purpose subsidiaries of the foregoing. Stripped
mortgage securities have greater volatility than other types of mortgage
securities in which a Fund invests. Although stripped mortgage securities are
purchased and sold by institutional investors through several investment banking
firms acting as brokers or dealers, the market for such securities has not yet
been fully developed. Accordingly, stripped mortgage securities are generally
illiquid and to such extent, together with any other illiquid investments, will
not exceed the illiquidity restriction on a Fund's assets.
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Stripped mortgage securities are usually structured with two classes that
receive different proportions of the interest and principal distributions on a
pool of mortgage assets. A common type of stripped mortgage security will have
one class receiving some of the interest and most of the principal from the
mortgage assets, while the other class will receive most of the interest and the
remainder of the principal. In the most extreme case, one class will receive
all of the interest (the interest-only or "IO" class), while the other class
will receive all of the principal (the principal-only or "PO" class). The yield
to maturity on an IO class is extremely sensitive not only to changes in
prevailing interest rates but also the rate of principal payments (including
prepayments) on the related underlying mortgage assets, and a rapid rate of
principal payments may have a material adverse effect on a Fund's yield to
maturity. If the underlying mortgage assets experience greater than anticipated
prepayments of principal, a Fund may fail to fully recoup its initial investment
in these securities even if the securities have received the highest rating by a
nationally recognized statistical rating organization.
As interest rates rise and fall, the value of IOs tends to move in the same
direction as interest rates. The value of the other mortgage securities
described in this Statement of Additional Information, like other debt
instruments, will tend to move in the opposite direction of interest rates.
Accordingly, the Fund believes that investing in IOs, in conjunction with the
other mortgage securities described herein, will contribute to a Fund's
relatively stable net asset value.
In addition to the stripped mortgage securities described above, the Strategic
Income Fund may invest in similar securities such as Super POs and Leveraged IOs
which are more volatile than POs or IOs. Risks associated with instruments such
as Super POs are similar in nature to those risks related to investments in POs.
Risks connected with Leveraged IOs and IOettes are similar in nature to those
associated with IOs. The Strategic Income Fund may also invest in other similar
instruments developed in the future that are deemed consistent with the
investment objective, policies and restrictions of the Fund.
Under the Code, POs may generate taxable income from the current accrual of
original issue discount, without a corresponding distribution of cash to a Fund.
INVERSE FLOATERS. The Strategic Income and Municipal Bond Funds may invest in
inverse floaters, which are also derivative mortgage securities. Inverse
floaters may be issued by agencies or instrumentalities of the U.S. Government,
or by private issuers, including savings and loan associations, mortgage banks,
commercial banks, investment banks and special purpose subsidiaries of the
foregoing. Inverse floaters have greater volatility than other types of
mortgage securities in which a Fund invests (with the exception of stripped
mortgage securities). Although inverse floaters are purchased and sold by
institutional investors through several investment banking firms acting as
brokers or dealers, the market for such securities has not yet been fully
developed. Accordingly, inverse floaters are generally illiquid and to such
extent, together with any other illiquid investments, will not exceed the
illiquidity restriction on the Fund's assets.
Inverse floaters are structured as a class of security that receives
distributions on a pool of mortgage assets and whose yields move in the opposite
direction of short-term interest rates and at an accelerated rate. Such
securities have the effect of providing a degree of investment leverage since
they will generally increase or decrease in value in response to changes in
market interest rates at a rate which is a multiple (typically two) of the rate
at which fixed-rate long-term debt obligations increase or decrease in response
to such changes. As a result, the market values of such securities will
generally be more volatile than the market value of fixed-rate obligations.
MUNICIPAL BONDS
Municipal Bonds are debt obligations that are typically issued by a municipality
to obtain funding for public purposes, such as the construction of public
facilities (e.g., airports, highways, bridges and schools). Private activity
bonds issued by or on behalf of public authorities to finance various privately
operated facilities also are considered municipal bonds. Municipal bonds at the
time of issuance may have varying maturities. The Municipal Money Market Fund
will not purchase a security which, after giving effect to any demand features,
has a remaining maturity of greater than 13 months, or maintains a dollar-
weighed average portfolio maturity in excess of 90 days.
The Municipal Bond Fund and the Municipal Money Market Fund may invest in
investment grade municipal bonds. Investment grade municipal bonds are
instruments that are rated at the time of purchase within the four highest
ratings assigned by Moody's, S&P, Fitch, or determined by a Subadvisor to be of
comparable quality. The four highest ratings currently assigned by Moody's to
municipal bonds are "Aaa", "Aa", "A" and "Baa"; the four highest ratings
assigned by S&P and Fitch to municipal bonds are "AAA", "AA", "A" and "BBB".
Although municipal obligations rated in the fourth highest rating category by
Moody's (i.e., "Baa3") or S&P or Fitch (i.e., "BBB-") are considered investment
grade, they may be subject to greater risks than other higher rated investment
grade securities. A more complete description of the ratings assigned by
Moody's, S&P and Fitch is included in the Appendix herein.
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MUNICIPAL COMMERCIAL PAPER
The Municipal Bond Fund and the Municipal Money Market Fund may purchase
municipal commercial paper. Municipal commercial paper that may be purchased by
the Funds consists of short term obligations of a municipality. Such paper is
likely to be issued to meet seasonal working capital needs of a municipality or
as interim construction financing. Municipal commercial paper, in many cases,
is backed by a letter of credit lending agreement, repurchase agreement or other
credit facility agreement offered by banks or other institutions.
The Funds may invest in commercial paper that is rated at the time of purchase
"P-2" or better by Moody's, "A-2" or better by S&P, or "F-2" or better by Fitch,
or, if not rated, determined by a Subadvisor to be of comparable quality.
MUNICIPAL NOTES
Municipal notes are notes issued by local, regional and state governments to
meet their short-term funding requirements. Municipal notes generally have
maturities at the time of issuance of three years or less.
Funds may invest in municipal notes rated at the time of purchase "MIG1",
"MIG2" (or "VMIG-1" or "VMIG-2", in the case of variable rate demand notes), "P-
2" or better by Moody's, "SP-2", "A-2" or better by S&P or "F-2" or better by
Fitch, or if not rated, determined by a Subadvisor to be of comparable quality.
Municipal notes that may be purchased by the Funds include, but are not limited
to the following:
TAX ANTICIPATION NOTES. Tax anticipation notes ("TANs") are sold as interim
financing in anticipation of collection of taxes. An uncertainty in a municipal
issuer's capacity to raise taxes as a result of such factors as a decline in its
tax base or a rise in delinquencies could adversely affect the issuer's ability
to meet its obligations on outstanding TANs.
BOND ANTICIPATION NOTES. Bond anticipation notes ("BANs") are sold as interim
financing in anticipation of a bond sale. The ability of a municipal issuer to
meet its obligations on its BANs is primarily dependent on the issuer's adequate
access to the longer term municipal bond market and the likelihood that the
proceeds of such bond sales will be used to pay the principal of, and interest
on, BANs.
REVENUE ANTICIPATION NOTES. Revenue anticipation notes ("RANs") are sold as
interim financing in anticipation of receipt of other revenues. A decline in
the receipt of certain revenues, such as anticipated revenues from another level
of government, could adversely affect an issuer's ability to meet its
obligations on outstanding RANs.
TANs, BANs and RANs are usually general obligations of the issuer.
MUNICIPAL OBLIGATIONS
Municipal obligations are debt obligations issued by or on behalf of states,
cities, municipalities and other public authorities. The two principal
classifications of municipal obligations that may be held by the Municipal Bond
Fund and the Municipal Money Market Fund are "general obligation" securities and
"revenue" securities. General obligation securities are secured by the issuer's
pledge of its full faith, credit and taxing power for the payment of principal
and interest. Revenue securities are payable only from the revenues derived
from a particular facility or class of facilities or, in some cases, from the
proceeds of a special excise tax or other specific revenue source such as the
user of a facility being financed. Revenue securities may include private
activity bonds. Such bonds may be issued by or on behalf of public authorities
to finance various privately operated facilities and are not payable from the
unrestricted revenues of the issuer. As a result, the credit quality of private
activity bonds is frequently related directly to the credit standing of private
corporations or other entities. In addition, the interest on private activity
bonds issued after August 7, 1986, is subject to the federal alternative minimum
tax. The Funds will not be restricted with respect to the proportion of its
assets that may be invested in such obligations. Accordingly, the Funds may not
be a suitable investment vehicle for individuals or corporations that are
subject to the federal alternative minimum tax.
The Funds' portfolio may also include "moral obligation" securities, which are
normally issued by special purpose public authorities. If the issuer of moral
obligation securities is unable to meet its debt service obligations from
current revenues, it may draw on a reserve fund, the restoration of which is a
moral commitment but not a legal obligation of the state or municipality that
created the issuer.
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In addition, the Funds may invest in municipal lease obligations ("MLOs"). MLOs
are not fully backed by the municipality's credit and their interest may become
taxable if the lease is assigned. If the governmental user does not appropriate
sufficient funds for the following year's lease payments, the lease will
terminate, with the possibility of default on the MLO and loss to the Fund. The
Subadvisor may invest each Fund's net assets in MLOs and will monitor certain
factors in evaluating the liquidity of such obligations. These factors include
(i) the frequency of trades and quotes for the MLO; (ii) the number of dealers
willing to purchase or sell such MLO and the number of other potential
purchasers; (iii) the willingness of dealers to undertake to make a market in
the MLO; (iv) the nature of the MLO and the nature of the marketplace trades
(e.g., the time needed to dispose of the security and the method of soliciting
offers); (v) the nature of the offering of such MLO (e.g., the size of the issue
and the number of anticipated holders); (vi) the ability of the MLO to maintain
its marketability throughout the time the instrument is held in the Fund; and
(vii) other factors, if any, which the Subadvisor deems relevant to determining
the existence of a trading market for such MLO. The Funds also may invest in
resource recovery bonds, which may be general obligations of the issuing
municipality or supported by corporate or bank guarantees. The viability of the
resource recovery project, environmental protection regulations and project
operator tax incentives may affect the value and credit quality of resource
recovery bonds.
The Funds currently intend to invest substantially all of their assets in
obligations the interest on which is exempt from regular federal income taxes.
However, in order to maintain liquidity, the Municipal Bond Fund may invest up
to 20% of its assets in taxable obligations, including taxable high-quality
short-term money market instruments; obligations of the U.S. Government or its
agencies or instrumentalities; commercial paper of issuers rated, at the time of
purchase, "A-2" or better by S&P, "P-2" or better by Moody's, or "F-2" or better
by Fitch or which if unrated, in the opinion of the Subadvisor, are of
comparable quality; certificates of deposit, bankers' acceptances or time
deposits of U.S. banks with total assets of at least $1 billion (including
obligations of foreign branches of such banks) and of the 75 largest foreign
commercial banks in terms of total assets (including domestic branches of such
banks), and repurchase agreements with respect to such obligations.
If at some future date, in the opinion of the Subadvisor, adverse conditions
prevail in the market for obligations the interest on which is exempt from
regular federal income taxes, the Funds may invest its assets without limit in
taxable high-quality short-term money market instruments. Dividends paid by the
Funds that are attributable to interest derived from taxable money market
instruments will be taxable to investors.
From time to time, the Municipal Bond Fund may invest more than 25% of its
assets in obligations whose interest payments are from revenues of similar
projects (such as utilities or hospitals) or whose issuers share the same
geographic location. As a result, the Fund may be more susceptible to a single
economic, political or regulatory development than would a portfolio of
securities with a greater variety of issuers. These developments include
proposed legislation or pending court decisions affecting the financing of such
projects and market factors affecting the demand for their services or products.
Opinions relating to the validity of municipal obligations and to the exempting
of interest thereon from regular federal income tax are rendered by bond counsel
to the respective issuers at the time of issuance. Neither the Trust nor the
Subadvisor will review the proceedings relating to the issuance of municipal
obligations or the basis for such opinions.
PERFORMANCE INDEXED PAPER
The Core Bond Fund, Strategic Income Fund, U.S. Government Securities Fund and
Municipal Bond Fund may invest in performance indexed paper ("PIPs"). PIPs is
U.S. dollar-denominated commercial paper the yield of which is linked to certain
foreign exchange rate movements. The yield to the investor on performance
indexed paper is established at maturity as a function of spot exchange rates
between the U.S. dollar and a designated currency as of or about that time
(generally, the index maturity two days prior to maturity). The yield to the
investor will be within a range stipulated at the time of purchase of the
obligation, generally with a guaranteed minimum rate of return that is below,
and a potential maximum rate of return that is above, market yields on U.S.
dollar-denominated commercial paper with both the minimum and maximum rates of
return on the investment corresponding to the minimum and maximum values of the
spot exchange rate two business days prior to maturity.
PREFERRED STOCK AND CONVERTIBLE SECURITIES
Preferred stock is a class of capital stock that pays dividends at a specified
rate and that has preference over common stock in the payment of dividends and
the liquidation of assets. Preferred stock does not ordinarily carry voting
rights. Convertible securities are securities (usually preferred shares or
bonds) that are exchangeable for a set number of another form of securities
(usually common stock) at a prestated price. The convertible feature is usually
designed as a sweetener to enhance the marketability of the security.
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PRE-REFUNDED BONDS
From time to time, a municipality may refund a bond that it has already issued
prior to the original bond's call date by issuing a second bond, the proceeds of
which are used to purchase securities. The securities are placed in an escrow
account pursuant to an agreement between the municipality and an independent
escrow agent. The principal and interest payments on the securities are then
used to pay off the original bondholders. For the purposes of diversification,
pre-refunded bonds will be treated as governmental issues.
REAL ESTATE SECURITIES AND REAL ESTATE INVESTMENT TRUSTS ("REITS")
The Core Bond Fund, the Strategic Income Fund, the U.S. Government Securities
Fund, the High Yield Bond Fund and the Municipal Bond Fund may invest in real
estate securities and REITs. Real estate securities are equity securities
consisting of (i) common stocks, (ii) rights or warrants to purchase common
stocks, (iii) securities convertible into common stocks and (iv) preferred
stocks issued by real estate companies. A real estate company is one that
derives at least 50% of its revenues from the ownership, construction,
financing, management or sale of commercial, industrial, or residential real
estate or that has at least 50% of its assets invested in real estate.
REITs are pooled investment vehicles which invest primarily in income producing
real estate or real estate related loans or interests. REITs are generally
classified as equity REITs, mortgage REITs or a combination of equity and
mortgage REITs. Equity REITs invest the majority of their assets directly in
real property and derive income primarily from the collection of rents. Equity
REITs can also realize capital gains by selling properties that have appreciated
in value. Mortgage REITs invest the majority of their assets in real estate
mortgages and derive income from the collection of interest payments. Like
regulated investment companies such as the Funds, REITs are not taxed on income
distributed to shareholders provided they comply with certain requirements under
the Code. A Fund will indirectly bear its proportionate share of any expenses
paid by REITs in which it invests in addition to the expenses paid by a Fund.
Investing in REITs involves certain unique risks. Equity REITs may be affected
by changes in the value of the underlying property owned by such REITs, while
mortgage REITs may be affected by the quality of any credit extended. REITs are
dependent upon management skills, are not diversified (except to the extent the
Code requires), and are subject to the risks of financing projects. REITs are
subject to heavy cash flow dependency, default by borrowers, self-liquidation,
and the possibilities of failing to qualify for the exemption from tax for
distributed income under the Code and failing to maintain their exemptions from
the 1940 Act. REITs (especially mortgage REITs) are also subject to interest
rate risks.
REPURCHASE AGREEMENTS AND REVERSE REPURCHASE AGREEMENTS
Each of the Funds may enter into repurchase agreements and reverse repurchase
agreements. Repurchase agreements involve the acquisition by a Fund of debt
securities subject to an agreement to resell them at an agreed-upon price. Under
a repurchase agreement, at the time the Fund acquires a security, it agrees to
resell it to the original seller (a financial institution or broker/dealer which
meets the guidelines established by the Trustees) and must deliver the security
(and/or securities that may be added to or substituted for it under the
repurchase agreement) to the original seller on an agreed-upon date in the
future. The repurchase price is in excess of the purchase price. The arrangement
is in economic effect a loan collateralized by securities.
A Fund's risk in a repurchase transaction is limited to the ability of the
seller to pay the agreed-upon sum on the delivery date. In the event of
bankruptcy or other default by the seller, there may be possible delays and
expenses in liquidating the instrument purchased, decline in its value and loss
of interest. Securities subject to repurchase agreements will be monitored by
the Subadvisor and additional collateral will be requested if necessary so that
the value of the collateral is at least equal to the value of the repurchase
obligation, including the interest accrued thereon.
Under a reverse repurchase agreement, a Fund may sell a debt security and agree
to repurchase it at an agreed upon time and at an agreed upon price. The Fund
retains record ownership of the security and the right to receive interest and
principal payments thereon. At an agreed upon future date, the Fund repurchases
the security by remitting the proceeds previously received, plus interest. The
difference between the amount the Fund receives for the security and the amount
it pays on repurchase is deemed to be payment of interest. The Fund may maintain
in a segregated custodial account cash, Treasury bills or other U.S. Government
securities having an aggregate value equal to the amount of such commitment to
repurchase including accrued interest, until payment is made. In certain types
of agreements, there is no agreed-upon repurchase date and interest payments are
calculated daily, often based on the prevailing overnight repurchase rate. While
a reverse repurchase agreement may be considered a form of leveraging and may,
therefore, increase fluctuations in a Fund's net asset value per share, each
Fund will cover the transaction as described above.
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STRUCTURED NOTES
The Core Bond Fund, the Strategic Income Fund, the U.S. Government Securities
Fund, the High Yield Bond Fund and the Municipal Bond Fund may invest in
structured notes. Structured notes are derivative fixed income securities, the
interest rate or principal of which is determined by an unrelated indicator.
Indexed securities include structured notes as well as securities other than
debt securities, the interest rate or principal of which is determined by an
unrelated indicator. Indexed securities may include a multiplier that
multiplies the indexed element by a specified factor and, therefore, the value
of such securities may be very volatile. To the extent a Fund invests in these
securities, however, a Subadvisor will analyze these securities in its overall
assessment of the effective duration of the Fund's portfolio in an effort to
monitor the Fund's interest rate risk.
VARIABLE RATE DEMAND NOTES
Each Fund may invest in variable rate demand notes ("VRDNs"). VRDNs are either
taxable or tax-exempt obligations which contain a floating or variable interest
rate adjustment formula and which are subject to an unconditional right of
demand to receive payment of the principal balance plus accrued interest either
at any time or at specified intervals not exceeding one year and in either case
upon no more than seven days notice. The interest rates are adjustable at
intervals ranging from daily ("floating rate") to up to one year to some
prevailing market rate for similar investments, such adjustment formula being
calculated to maintain the market value of the VRDN at approximately the par
value of the VRDN upon the adjustment date. The adjustments are typically based
upon the prime rate of a bank or some other appropriate interest rate adjustment
index.
The Municipal Bond Fund, the Municipal Money Market Fund and the Money Market
Fund may also invest in VRDNs in the form of participation interests
("Participating VRDNs") in variable rate tax-exempt obligations held by a
financial institution, typically a commercial bank ("institution").
Participating VRDNs provide the Fund with a specified undivided interest (up to
100%) in the underlying obligation and the right to institution upon a specified
number of days' notice, not to exceed seven days. A Fund has an undivided
interest in the underlying obligation and thus participates on the same basis as
the institution in such obligation except that the institution typically retains
fees out of the interest paid on the obligation for servicing the obligation and
issuing the repurchase commitment.
WARRANT TRANSACTIONS AND RISKS
Each of the Funds (other than the Money Market Fund and the Municipal Money
Market Fund) may purchase warrants, including warrants traded independently of
the underlying securities. Such transactions entail certain risks. A warrant is
a security, usually issued together with a bond or preferred stock, that
entitles the holder to buy a proportionate amount of common stock at a specified
price, usually higher than the market price at the time of issuance, for a
period of years or to perpetuity. In contrast, rights, which also represent
the right to buy common shares, normally have a subscription price lower than
the current market value of the common stock and a life of two to four weeks. A
warrant is usually issued as a sweetener, to enhance the marketability of the
accompanying fixed income securities. Warrants may be considered more
speculative than certain other types of investments in that prior to their
exercise they do not entitle a holder to dividends and voting rights with
respect to the securities which may be purchased by the exercise thereof, nor do
they represent any rights in the assets of the issuing company. Also, the value
of the warrant does not necessarily change with the value of the underlying
security. If a warrant expires unexercised, the Fund will lose the amount paid
for the warrant and any transaction costs.
WHEN-ISSUED SECURITIES ("FORWARD COMMITMENTS")
In order to help ensure the availability of suitable securities, each of the
Funds may purchase debt securities on a "when-issued" or on a "forward delivery"
basis, which means that the obligations will be delivered to the Fund at a
future date, which may be a month or more after the date of commitment (referred
to as "forward commitments"). It is expected that, under normal circumstances, a
Fund purchasing securities on a when-issued or forward delivery basis will take
delivery of the securities, but the Fund may sell the securities before the
settlement date, if such action is deemed advisable. In general, a Fund does not
pay for the securities or start earning interest on them until the purchase of
the obligation is scheduled to be settled, but it does, in the meantime, record
the transaction and reflect the value each day of the securities in determining
its net asset value. At the time delivery is made, the value of when-issued or
forward delivery securities may be more or less than the transaction price, and
the yields then available in the market may be higher than those obtained in the
transaction. While awaiting delivery of the obligations purchased on such bases,
a Fund may establish a segregated account consisting of cash or liquid high
quality debt securities equal to the amount of the commitments to purchase when-
issued or forward delivery securities. The availability of liquid assets for
this purpose and the effect of asset segregation on a Fund's ability to meet its
current obligations, to honor requests for redemption and to have its investment
Fund managed properly may limit the extent to which the Fund may purchase when-
issued or forward delivery securities. Except as may be imposed by these
factors, there is no limit on the percentage of a Fund's total assets that may
be committed to such transactions.
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ZERO COUPON SECURITIES AND PAY-IN-KIND BONDS
Each Fund may invest in zero coupon securities and pay-in-kind bonds which
involve special risk considerations. Zero coupon securities are debt securities
that do not provide for the payment of cash income but are sold at substantial
discounts from their value at maturity. When a zero coupon security is held to
maturity, its entire return, which consists of the amortization of discount,
comes from the difference between its purchase price and its maturity value.
This difference is known at the time of purchase, so that investors holding zero
coupon securities until maturity know at the time of their investment what the
return on their investment will be. Certain zero coupon securities also are
sold at substantial discounts from their maturity value and provide for the
commencement of regular interest payments at a deferred date. The Funds also
may purchase pay-in-kind bonds. Pay-in-kind bonds are bonds that pay all or a
portion of their interest in the form of additional debt or equity securities.
Zero coupon securities and pay-in-kind bonds tend to be subject to greater price
fluctuations in response to changes in interest rates than are ordinary
interest-paying debt securities with similar maturities. The value of zero
coupon securities appreciates more during periods of declining interest rates
and depreciates more during periods of rising interest rates.
Zero coupon securities and pay-in-kind bonds may be issued by a wide variety of
corporate and governmental issuers. Although zero coupon securities and pay-in-
kind bonds are generally not traded on a national securities exchange, such
securities are widely traded by brokers and dealers and, to such extent, will
not be considered illiquid for the purposes of the investment restriction under
"Investment Restrictions" below.
Current federal income tax law requires the holder of a zero coupon security or
certain pay-in-kind bonds to accrue income with respect to these securities
prior to the receipt of cash payments. To maintain its qualification as a
regulated investment company and avoid liability for federal income and excise
taxes, a Fund may be required to distribute income accrued with respect to these
securities and may have to dispose of portfolio securities under disadvantageous
circumstances in order to generate cash to satisfy these distribution
requirements.
HEDGING AND OTHER STRATEGIC TRANSACTIONS
A discussion of Hedging and Other Strategic Transactions follows. With the
exception of the International Equity Fund,which may use certain Strategic
Transactions for both hedging and non-hedging purposes, these strategies will be
used for hedging purposes only, including hedging various market risks (such as
interest rates, currency exchange rates and broad or specific market movements),
and managing the effective maturity or duration of debt instruments held by the
Fund. No Fund which is authorized to use any of these investment strategies
will be obligated, however, to pursue any of such strategies and no Fund makes
any representation as to the availability of these techniques at this time or at
any time in the future. In addition, a Fund's ability to pursue certain of
these strategies may be limited by the Commodity Exchange Act, as amended,
applicable rules and regulations of the CFTC thereunder and the federal income
tax requirements applicable to regulated investment companies which are not
operated as commodity pools.
GENERAL CHARACTERISTICS OF OPTIONS
Put options and call options typically have similar structural characteristics
and operational mechanics regardless of the underlying instrument on which they
are purchased or sold. Thus, the following general discussion relates to each
of the particular types of options discussed in greater detail below. In
addition, many Hedging and Other Strategic Transactions involving options may
require segregation of Fund assets in special accounts.
A put option gives the purchaser of the option, upon payment of a premium, the
right to sell, and the writer the obligation to buy, the underlying security,
commodity, index, currency or other instrument at the exercise price. A Fund's
purchase of a put option on a security, for example, might be designed to
protect its holdings in the underlying instrument (or, in some cases, a similar
instrument) against a substantial decline in the market value of such instrument
by giving the Fund the right to sell the instrument at the option exercise
price. A call option, upon payment of a premium, gives the purchaser of the
option the right to buy, and the seller the obligation to sell, the underlying
instrument at the exercise price. A Fund's purchase of a call option on a
security, financial futures contract, index, currency or other instrument might
be intended to protect the Fund against an increase in the price of the
underlying instrument that it intends to purchase in the future by fixing the
price at which it may purchase the instrument. An "American" style put or call
option may be exercised at any time during the option period, whereas a
"European" style put or call option may be exercised only upon expiration or
during a fixed period prior to expiration. Exchange-listed options are issued
by a regulated intermediary such as the Options Clearing Corporation ("OCC"),
which guarantees the performance of the obligations of the parties to the
options. The discussion below uses the OCC as an example, but is also
applicable to other similar financial intermediaries.
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OCC-issued and exchange-listed options, with certain exceptions, generally
settle by physical delivery of the underlying security or currency, although in
the future, cash settlement may become available. Index options and Eurodollar
instruments (which are described below under "Eurodollar Instruments") are cash
settled for the net amount, if any, by which the option is "in-the-money" (that
is, the amount by which the value of the underlying instrument exceeds, in the
case of a call option, or is less than, in the case of a put option, the
exercise price of the option) at the time the option is exercised. Frequently,
rather than taking or making delivery of the underlying instrument through the
process of exercising the option, listed options are closed by entering into
offsetting purchase or sale transactions that do not result in ownership of the
new option.
A Fund's ability to close out its position as a purchaser or seller of an OCC-
issued or exchange-listed put or call option is dependent, in part, upon the
liquidity of the particular option market. Among the possible reasons for the
absence of a liquid option market on an exchange are: (1) insufficient trading
interest in certain options, (2) restrictions on transactions imposed by an
exchange, (3) trading halts, suspensions or other restrictions imposed with
respect to particular classes or series of options or underlying securities,
including reaching daily price limits, (4) interruption of the normal operations
of the OCC or an exchange, (5) inadequacy of the facilities of an exchange or
the OCC to handle current trading volume or (6) a decision by one or more
exchanges to discontinue the trading of options (or a particular class or series
of options), in which event the relevant market for that option on that exchange
would cease to exist, although any such outstanding options on that exchange
would continue to be exercisable in accordance with their terms.
The hours of trading for listed options may not coincide with the hours during
which the underlying financial instruments are traded. To the extent that the
option markets close before the markets for the underlying financial
instruments, significant price and rate movements can take place in the
underlying markets that would not be reflected in the corresponding option
markets.
Over-the-counter ("OTC") options are purchased from or sold to securities
dealers, financial institutions or other parties (collectively referred to as
"Counterparties" and individually referred to as a "Counterparty") through a
direct bilateral agreement with the Counterparty. In contrast to exchange-
listed options, which generally have standardized terms and performance
mechanics, all of the terms of an OTC option, including such terms as method of
settlement, term, exercise price, premium, guaranties and security, are
determined by negotiation of the parties. It is anticipated that any Fund
authorized to use OTC options will generally only enter into OTC options that
have cash settlement provisions, although it will not be required to do so.
Unless the parties provide for it, no central clearing or guaranty function is
involved in an OTC option. As a result, if a Counterparty fails to make or take
delivery of the security, currency or other instrument underlying an OTC option
it has entered into with a Fund or fails to make a cash settlement payment due
in accordance with the terms of that option, the Fund will lose any premium it
paid for the option as well as any anticipated benefit of the transaction.
Thus, the Subadvisor must assess the creditworthiness of each such Counterparty
or any guarantor or credit enhancement of the Counterparty's credit to determine
the likelihood that the terms of the OTC option will be met. A Fund will enter
into OTC option transactions only with U.S. Government securities dealers
recognized by the Federal Reserve Bank of New York as "primary dealers," or
broker-dealers, domestic or foreign banks, or other financial institutions that
are deemed creditworthy by the Subadvisor. In the absence of a change in the
current position of the staff of the SEC, OTC options purchased by a Fund and
the amount of the Fund's obligation pursuant to an OTC option sold by the Fund
(the cost of the sell-back plus the in-the-money amount, if any) or the value of
the assets held to cover such options will be deemed illiquid.
If a Fund sells a call option, the premium that it receives may serve as a
partial hedge, to the extent of the option premium, against a decrease in the
value of the underlying securities or instruments held by the Fund or will
increase the Fund's income. Similarly, the sale of put options can also provide
Fund gains.
If and to the extent authorized to do so, a Fund may purchase and sell call
options on securities and on Eurodollar instruments that are traded on U.S. and
foreign securities exchanges and in the OTC markets, and on securities indices,
currencies and futures contracts. All calls sold by a Fund must be "covered,"
that is, the Fund must own the securities subject to the call, must own an
offsetting option on a futures position, or must otherwise meet the asset
segregation requirements described below for so long as the call is outstanding.
Even though a Fund will receive the option premium to help protect it against
loss, a call sold by the Fund will expose the Fund during the term of the option
to possible loss of opportunity to realize appreciation in the market price of
the underlying security or instrument and may require the Fund to hold a
security or instrument that it might otherwise have sold.
Each Fund reserves the right to purchase or sell options on instruments and
indices which may be developed in the future to the extent consistent with
applicable law, the Fund's investment objective and the restrictions set forth
herein.
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If and to the extent authorized to do so, a Fund may purchase and sell put
options on securities (whether or not it holds the securities in its portfolio)
and on securities indices, currencies and futures contracts. A Fund will not
sell put options if, as a result, the Fund would be required to segregate more
than 50% of its assets to cover its potential obligations under put options
other than those with respect to futures contracts. In selling put options, a
Fund faces the risk that it may be required to buy the underlying security at a
disadvantageous price above the market price.
GENERAL CHARACTERISTICS OF FUTURES CONTRACTS AND OPTIONS ON FUTURES CONTRACTS
If and to the extent authorized to do so, a Fund may trade financial futures
contracts or purchase or sell put and call options on those contracts as a hedge
against anticipated interest rate, currency or market changes, for duration
management and for permissible non-hedging purposes. Futures contracts are
generally bought and sold on the commodities exchanges on which they are listed
with payment of initial and variation margin as described below. The sale of a
futures contract creates a firm obligation by a Fund, as seller, to deliver to
the buyer the specific type of financial instrument called for in the contract
at a specific future time for a specified price (or, with respect to certain
instruments, the net cash amount). Options on futures contracts are similar to
options on securities except that an option on a futures contract gives the
purchaser the right, in return for the premium paid, to assume a position in a
futures contract and obligates the seller to deliver that position.
A Fund's use of financial futures contracts and options thereon will in all
cases be consistent with applicable regulatory requirements and in particular
the rules and regulations of the CFTC and generally will be entered into only
for bona fide hedging, risk management (including duration management).
Maintaining a futures contract or selling an option on a futures contract will
typically require a Fund to deposit with a financial intermediary, as security
for its obligations, an amount of cash or other specified assets ("initial
margin") that initially is from 1% to 10% of the face amount of the contract
(but may be higher in some circumstances). Additional cash or assets
("variation margin") may be required to be deposited thereafter daily as the
mark-to-market value of the futures contract fluctuates. The purchase of an
option on a financial futures contract involves payment of a premium for the
option without any further obligation on the part of a Fund. If a Fund
exercises an option on a futures contract it will be obligated to post initial
margin (and potentially variation margin) for the resulting futures position
just as it would for any futures position. Futures contracts and options
thereon are generally settled by entering into an offsetting transaction, but no
assurance can be given that a position can be offset prior to settlement or that
delivery will occur.
All of the Funds intend to comply with guidelines of eligibility for exclusion
from the definition of the term "commodity pool operator" adopted by the CFTC
and the National Futures Association, which regulate trading in the futures
markets. A Fund will use futures contracts and related options, to the extent
otherwise permitted, primarily for bona fide hedging purposes within the meaning
of CFTC regulations. To the extent that a Fund holds positions in futures
contracts and related options that do not fall within the definition of bona
fide hedging transactions, the aggregate initial margins and premiums required
to establish such positions will not exceed 5% of the fair market value of the
Fund's net assets, after taking into account unrealized profits and unrealized
losses on any such contracts it has entered into.
The value of all futures contracts sold by a Fund (adjusted for the historical
volatility relationship between such Fund and the contracts) will not exceed the
total market value of the Fund's securities.
OPTIONS ON SECURITIES INDICES AND OTHER FINANCIAL INDICES
If and to the extent authorized to do so, a Fund may purchase and sell call and
put options on securities indices and other financial indices. In so doing, the
Fund can achieve many of the same objectives it would achieve through the sale
or purchase of options on individual securities or other instruments. Options
on securities indices and other financial indices are similar to options on a
security or other instrument except that, rather than settling by physical
delivery of the underlying instrument, options on indices settle by cash
settlement; that is, an option on an index gives the holder the right to
receive, upon exercise of the option, an amount of cash if the closing level of
the index upon which the option is based exceeds, in the case of a call, or is
less than, in the case of a put, the exercise price of the option (except if, in
the case of an OTC option, physical delivery is specified). This amount of cash
is equal to the excess of the closing price of the index over the exercise price
of the option, which also may be multiplied by a formula value. The seller of
the option is obligated, in return for the premium received, to make delivery of
this amount. The gain or loss on an option on an index depends on price
movements in the instruments comprising the market, market segment, industry or
other composite on which the underlying index is based, rather than price
movements in individual securities, as is the case with respect to options on
securities.
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CURRENCY TRANSACTIONS
If and to the extent authorized to do so, a Fund may engage in currency
transactions with Counterparties to hedge the value of portfolio securities
denominated in particular currencies against fluctuations in relative value.
Currency transactions include currency forward contracts, exchange-listed
currency futures contracts and options thereon, exchange-listed and OTC options
on currencies, and currency swaps. A forward currency contract involves a
privately negotiated obligation to purchase or sell (with delivery generally
required) a specific currency at a future date, which may be any fixed number of
days from the date of the contract agreed upon by the parties, at a price set at
the time of the contract. A currency swap is an agreement to exchange cash
flows based on the notional difference among two or more currencies and operates
similarly to an interest rate swap, which is described below under "Swaps, Caps,
Floors and Collars". A Fund may enter into currency transactions only with
Counterparties that are deemed creditworthy by the Subadvisor.
A Fund's dealings in forward currency contracts and other currency transactions
such as futures contracts, options, options on futures contracts and swaps will
be limited to hedging and other non-speculative purposes, including transaction
hedging and position hedging. Transaction hedging is entering into a currency
transaction with respect to specific assets or liabilities of a Fund, which will
generally arise in connection with the purchase or sale of the Fund's portfolio
securities or the receipt of income from them. Position hedging is entering
into a currency transaction with respect to portfolio securities positions
denominated or generally quoted in that currency. A Fund will not enter into a
transaction to hedge currency exposure to an extent greater, after netting all
transactions intended wholly or partially to offset other transactions, than the
aggregate market value (at the time of entering into the transaction) of the
securities held by the Fund that are denominated or generally quoted in or
currently convertible into the currency, other than with respect to proxy
hedging as described below.
A Fund may cross-hedge currencies by entering into transactions to purchase or
sell one or more currencies that are expected to increase or decline in value
relative to other currencies to which the Fund has or in which the Fund expects
to have exposure. To reduce the effect of currency fluctuations on the value of
existing or anticipated holdings of its securities, a Fund may also engage in
proxy hedging. Proxy hedging is often used when the currency to which a Fund's
holdings is exposed is difficult to hedge generally or difficult to hedge
against the dollar. Proxy hedging entails entering into a forward contract to
sell a currency, the changes in the value of which are generally considered to
be linked to a currency or currencies in which some or all of a Fund's
securities are or are expected to be denominated, and to buy dollars. The
amount of the contract would not exceed the market value of the Fund's
securities denominated in linked currencies.
Currency transactions are subject to risks different from other portfolio
transactions, as discussed below under "Risk Factors."
COMBINED TRANSACTIONS
If and to the extent authorized to do so, a Fund may enter into multiple
transactions, including multiple options transactions, multiple futures
transactions, multiple currency transactions (including forward currency
contracts), multiple interest rate transactions and any combination of futures,
options, currency and interest rate transactions, instead of a single Hedging
and Other Strategic Transaction, as part of a single or combined strategy when,
in the judgment of the Subadvisor, it is in the best interests of the Fund to do
so. A combined transaction will usually contain elements of risk that are
present in each of its component transactions. Although combined transactions
will normally be entered into by a Fund based on the Subadvisor's judgment that
the combined strategies will reduce risk or otherwise more effectively achieve
the desired portfolio management goal, it is possible that the combination will
instead increase the risks or hinder achievement of the portfolio management
objective.
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SWAPS, CAPS, FLOORS AND COLLARS
A Fund may be authorized to enter into interest rate, currency and index swaps,
the purchase or sale of related caps, floors and collars and other derivatives.
A Fund will enter into these transactions primarily to seek to preserve a return
or spread on a particular investment or portion of its portfolio, to protect
against currency fluctuations, as a duration management technique or to protect
against any increase in the price of securities a Fund anticipates purchasing at
a later date. A Fund will use these transactions for non-speculative purposes
and will not sell interest rate caps or floors if it does not own securities or
other instruments providing the income the Fund may be obligated to pay.
Interest rate swaps involve the exchange by a Fund with another party of their
respective commitments to pay or receive interest (for example, an exchange of
floating rate payments for fixed rate payments with respect to a notional amount
of principal). A currency swap is an agreement to exchange cash flows on a
notional amount based on changes in the values of the reference indices. The
purchase of a cap entitles the purchaser to receive payments on a notional
principal amount from the party selling the cap to the extent that a specified
index exceeds a predetermined interest rate. The purchase of an interest rate
floor entitles the purchaser to receive payments of interest on a notional
principal amount from the party selling the interest rate floor to the extent
that a specified index falls below a predetermined interest rate or amount. The
purchase of a floor entitles the purchaser to receive payments on a notional
principal amount from the party selling the floor to the extent that a specific
index falls below a predetermined interest rate or amount. A collar is a
combination of a cap and a floor that preserves a certain return with a
predetermined range of interest rates or values.
A Fund will usually enter into interest rate swaps on a net basis, that is, the
two payment streams are netted out in a cash settlement on the payment date or
dates specified in the instrument, with the Fund receiving or paying, as the
case may be, only the net amount of the two payments. Inasmuch as these swaps,
caps, floors, collars and other similar derivatives are entered into for good
faith hedging or other non-speculative purposes, they do not constitute senior
securities under the 1940 Act, and, thus, will not be treated as being subject
to the Fund's borrowing restrictions. A Fund will not enter into any swap, cap,
floor, collar or other derivative transaction unless the Counterparty is deemed
creditworthy by the Subadvisor. If a Counterparty defaults, a Fund may have
contractual remedies pursuant to the agreements related to the transaction. The
swap market has grown substantially in recent years with a large number of banks
and investment banking firms acting both as principals and as agents utilizing
standardized swap documentation. As a result, the swap market has become
relatively liquid. Caps, floors and collars are more recent innovations for
which standardized documentation has not yet been fully developed and, for that
reason, they are less liquid than swaps.
The liquidity of swap agreements will be determined by a Subadvisor based on
various factors, including (1) the frequency of trades and quotations, (2) the
number of dealers and prospective purchasers in the marketplace, (3) dealer
undertakings to make a market, (4) the nature of the security (including any
demand or tender features), and (5) the nature of the marketplace for trades
(including the ability to assign or offset a Fund's rights and obligations
relating to the investment). Such determination will govern whether a swap will
be deemed to be within each Fund's restriction on investments in securities that
are not readily marketable.
Each Fund may maintain cash and appropriate liquid assets in a segregated
custodial account to cover its current obligations under swap agreements. If a
Fund enters into a swap agreement on a net basis, it may segregate assets with a
daily value at least equal to the excess, if any, of the Fund's accrued
obligations under the swap agreement over the accrued amount the Fund is
entitled to receive under the agreement. If a Fund enters into a swap agreement
on other than a net basis, it may segregate assets with a value equal to the
full amount of the Fund's accrued obligations under the agreement. See "Use of
Segregated and Other Special Accounts."
EURODOLLAR INSTRUMENTS
If and to the extent authorized to do so, a Fund may make investments in
Eurodollar instruments, which are typically dollar-denominated futures contracts
or options on those contracts that are linked to the LIBOR, although foreign
currency denominated instruments are available from time to time. Eurodollar
futures contracts enable purchasers to obtain a fixed rate for the lending of
funds and sellers to obtain a fixed rate for borrowings. A Fund might use
Eurodollar futures contracts and options thereon to hedge against changes in
LIBOR, to which many interest rate swaps and fixed income instruments are
linked.
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RISK FACTORS
Hedging and Other Strategic Transactions have special risks associated with
them, including possible default by the Counterparty to the transaction,
illiquidity and, to the extent the Subadvisor's view as to certain market
movements is incorrect, the risk that the use of the Hedging and Other Strategic
Transactions could result in losses greater than if they had not been used. Use
of put and call options could result in losses to a Fund, force the sale or
purchase of portfolio securities at inopportune times or for prices higher than
(in the case of put options) or lower than (in the case of call options) current
market values, or cause a Fund to hold a security it might otherwise sell.
The use of futures and options transactions entails certain special risks. In
particular, the variable degree of correlation between price movements of
futures contracts and price movements in the related securities position of a
Fund could create the possibility that losses on the derivative instrument are
greater than gains in the value of the Fund's position. In addition, futures
and options markets could be illiquid in some circumstances and certain over-
the-counter options could have no markets. As a result, in certain markets, a
Fund might not be able to close out a transaction without incurring substantial
losses. Although a Fund's use of futures and options transactions for hedging
should tend to minimize the risk of loss due to a decline in the value of the
hedged position, at the same time it will tend to limit any potential gain to a
Fund that might result from an increase in value of the position. Finally, the
daily variation margin requirements for futures contracts create a greater
ongoing potential financial risk than would purchases of options, in which case
the exposure is limited to the cost of the initial premium.
Currency transactions involve some of the same risks and considerations as other
transactions with similar instruments. Currency transactions can result in
losses to a Fund if the underlying currency fluctuates in value to a degree or
in a direction that is not anticipated. Further, the risk exists that the
perceived linkage between various currencies may not be present or may not be
present during the particular time that a Fund is engaging in proxy hedging.
Currency transactions are also subject to risks different from those of other
portfolio transactions. Because currency control is of great importance to the
issuing governments and influences economic planning and policy, purchases and
sales of currency and related instruments can be adversely affected by
government exchange controls, limitations or restrictions on repatriation of
currency, and manipulations or exchange restrictions imposed by governments.
These forms of governmental actions can result in losses to a Fund if it is
unable to deliver or receive currency or monies in settlement of obligations and
could also cause hedges it has entered into to be rendered useless, resulting in
full currency exposure as well as incurring transaction costs. Buyers and
sellers of currency futures contracts are subject to the same risks that apply
to the use of futures contracts generally. Further, settlement of a currency
futures contract for the purchase of most currencies must occur at a bank based
in the issuing nation. Trading options on currency futures contracts is
relatively new, and the ability to establish and close out positions on these
options is subject to the maintenance of a liquid market that may not always be
available. Currency exchange rates may fluctuate based on factors extrinsic to
that country's economy.
Losses resulting from the use of Hedging and Other Strategic Transactions will
reduce a Fund's net asset value, and possibly income, and the losses can be
greater than if Hedging and Other Strategic Transactions had not been used.
RISKS OF HEDGING AND OTHER STRATEGIC TRANSACTIONS OUTSIDE THE UNITED STATES
When conducted outside the United States, Hedging and Other Strategic
Transactions may not be regulated as rigorously as in the United States, may not
involve a clearing mechanism and related guarantees, and will be subject to the
risk of governmental actions affecting trading in, or the prices of, foreign
securities, currencies and other instruments. The value of positions taken as
part of non-U.S. Hedging and Other Strategic Transactions also could be
adversely affected by: (1) other complex foreign political, legal and economic
factors, (2) lesser availability of data on which to make trading decisions than
in the United States, (3) delays in a Fund's ability to act upon economic events
occurring in foreign markets during non-business hours in the United States, (4)
the imposition of different exercise and settlement terms and procedures and
margin requirements than in the United States and (5) lower trading volume and
liquidity.
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Use of Segregated and Other Special Accounts
Use of many Hedging and Other Strategic Transactions by a Fund may require,
among other things, that the Fund segregate cash or other liquid assets with its
custodian, or a designated sub-custodian, to the extent the Fund's obligations
are not otherwise "covered" through ownership of the underlying security,
financial instrument or currency. In general, either the full amount of any
obligation by a Fund to pay or deliver securities or assets will be covered at
all times by the securities, instruments or currency required to be delivered,
or, subject to any regulatory restrictions and fund internal policy, an amount
of cash or other liquid assets equal to the current amount of the obligation may
be segregated with the custodian or sub-custodian. Segregated assets cannot be
sold or transferred unless equivalent assets are substituted in their place or
it is no longer necessary to segregate them. A call option on securities
written by a Fund, for example, may require the Fund to hold the securities
subject to the call (or securities convertible into the needed securities
without additional consideration) or to segregate liquid assets sufficient to
purchase and deliver the securities if the call is exercised. A call option
sold by a Fund on an index may require the Fund to own portfolio securities that
correlate with the index or to segregate liquid assets equal to the excess of
the index value over the exercise price on a current basis. A put option on
securities written by a Fund may require the Fund to segregate liquid assets
equal to the exercise price. Except when a Fund enters into a forward contract
in connection with the purchase or sale of a security denominated in a foreign
currency or for other non-speculative purposes, which requires no segregation, a
currency contract that obligates the Fund to buy or sell a foreign currency may
generally require the Fund to hold an amount of that currency, liquid securities
denominated in that currency equal to a Fund's obligations or to segregate
liquid assets equal to the amount of the Fund's obligations.
OTC options entered into by a Fund, including those on securities, currency,
financial instruments or indices, and OCC-issued and exchange-listed index
options will generally provide for cash settlement, although a Fund will not be
required to do so. As a result, when a Fund sells these instruments it may
segregate an amount of assets equal to its obligations under the options. OCC-
issued and exchange-listed options sold by a Fund other than those described
above generally settle with physical delivery, and the Fund may segregate an
amount of assets equal to the full value of the option. OTC options settling
with physical delivery or with an election of either physical delivery or cash
settlement will be treated the same as other options settling with physical
delivery.
In the case of a futures contract or an option on a futures contract, a Fund
must deposit initial margin and, in some instances, daily variation margin, and
may segregate assets sufficient to meet its obligations to purchase or provide
securities or currencies, or to pay the amount owed at the expiration of an
index-based futures contract. These assets may consist of cash, cash
equivalents, liquid high grade debt or equity securities or other assets
acceptable to the Subadvisor. A Fund will accrue the net amount of the excess,
if any, of its obligations relating to swaps over its entitlements with respect
to each swap on a daily basis and may segregate with its custodian, or
designated sub-custodian, an amount of cash or liquid assets having an aggregate
value equal to at least the accrued excess. Caps, floors and collars may
require segregation of assets with a value equal to a Fund's net obligation, if
any.
Hedging and Other Strategic Transactions may be covered by means other than
those described above when consistent with applicable regulatory policies. A
Fund may also enter into offsetting transactions so that its combined position,
coupled with any segregated assets, equals its net outstanding obligation in
related options and Hedging and Other Strategic Transactions. A Fund could
purchase a put option, for example, if the strike price of that option is the
same or higher than the strike price of a put option sold by the Fund.
Moreover, instead of segregating assets if it holds a futures contracts or
forward contract, a Fund could purchase a put option on the same futures
contract or forward contract with a strike price as high or higher than the
price of the contract held. Other Hedging and Other Strategic Transactions may
also be offset in combinations. If the offsetting transaction terminates at the
time of or after the primary transaction, no segregation is required, but if it
terminates prior to that time, assets equal to any remaining obligation would
need to be segregated.
OTHER LIMITATIONS
No Fund will maintain open short positions in futures contracts, call options
written on futures contracts, and call options written on securities indices if,
in the aggregate, the current market value of the open positions exceeds the
current market value of that portion of its securities portfolio being hedged by
those futures and options plus or minus the unrealized gain or loss on those
open positions, adjusted for the historical volatility relationship between that
portion of the Fund and the contracts (e.g., the Beta volatility factor). For
purposes of the limitation stated in the immediately preceding sentence, to the
extent the Fund has written call options on specific securities in that portion
of its portfolio, the value of those securities will be deducted from the
current market value of that portion of the securities portfolio. If this
limitation should be exceeded at any time, the Fund will take prompt action to
close out the appropriate number of open short positions to bring its open
futures and options positions within this limitation.
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INTERNATIONAL EQUITY FUND
The International Equity Fund may use certain Strategic Transactions and
instruments for both hedging and non-hedging purposes. Circumstances under which
such techniques might be used to further the Fund's investment objective
include, but are not limited to, the purchase or sale of stock and stock index
futures contracts; to gain exposure to a market in response to changes in the
Fund's investment strategy; upon the inflow of investable cash; when the
instrument provides greater liquidity than the underlying market; when the Fund
is restricted from directly owning a security or currency; or when these
strategies and instruments provide a pricing advantage or lower transaction
costs. The Fund also may purchase combinations of instruments in order to gain
exposure to an investment instead of actually purchasing such investment. For
example, the Fund may purchase and sell forward foreign currency exchange
contracts in combination with other transactions (such as the purchase and sale
of stock and stock index futures contracts). The Fund will not use derivatives
in a manner that creates leverage.
INVESTMENT RESTRICTIONS
There are two classes of investment restrictions to which the Trust is subject
in implementing the investment policies of the Funds: fundamental and
nonfundamental. Nonfundamental restrictions are subject to change by the
Trustees of a Fund without shareholder approval. Fundamental restrictions may
only be changed by the affirmative vote of a majority of the outstanding voting
securities of a Fund, which means the affirmative vote of the lesser of (1) more
than 50% of the outstanding shares of a Fund, or (2) 67% or more of the shares
of a Fund present at a meeting if more than 50% of the outstanding shares of the
Fund are represented at the meeting in person or by proxy.
The Trust may not issue senior securities, except to the extent that the
borrowing of money in accordance with the restrictions noted below may
constitute the issuance of a senior security. (For purposes of this
restriction, purchasing securities on a when-issued or delayed delivery basis
and engaging in Hedging and Other Strategic Transactions will not be deemed to
constitute the issuance of a senior security). The percentage limitations
referenced in some of the restrictions are to be determined at the time of
purchase; however, percentage limitations for illiquid securities and borrowings
apply at all times. Calculation of each Fund's total assets for compliance with
any of the investment restrictions will not include cash collateral held in
connection with securities lending activities.
Unless a Fund is specifically excepted by the terms of a restriction, each of
the Small Cap Growth Fund, the International Small Cap Fund, the Mid Cap Growth
Fund, the Global Equity Fund, the Large Cap Growth Fund, the International
Equity Fund, the Growth & Income Fund, the Balanced Fund, the Strategic Income
Fund, the Core Bond Fund, the Municipal Bond Fund, the U.S. Government
Securities Fund, and the Money Market Fund will not:
Fundamental
(1) Invest more than 25% of the value of its total assets in securities of
issuers having their principal activities in any particular industry, excluding
U.S. Government securities and, with respect to the Money Market Fund,
obligations of domestic branches of U.S. banks and with respect to the Municipal
Bond Fund, obligations issued or guaranteed by the U.S. Government, its agencies
or instrumentalities or by any state, territory or any possession of the United
States, the District of Columbia, or any of their authorities, agencies,
instrumentalities or political subdivisions, or with respect to repurchase
agreements collateralized by any of such obligations. For purposes of this
restriction (except with regard to the Small Cap Growth Fund), supranational
issuers will be considered to comprise an industry as will each foreign
government that issues securities purchased by a Fund.
(2) With respect to 75% of the Fund's total assets, purchase the securities of
any issuer if the purchase would cause more than 5% of the value of the Fund's
total assets to be invested in the securities of any one issuer (excluding U.S.
Government securities) or cause more than 10% of the voting securities of the
issuer to be held by the Fund. This restriction does not apply to the Small Cap
Growth Fund as a non-diversified portfolio.
(3) Borrow money except that each Fund may borrow (i) for temporary or
emergency purposes (not for leveraging) up to 33 1/3% of the value of the Fund's
total assets (including amounts borrowed) less liabilities (other than
borrowings) and (ii) in connection with reverse repurchase agreements, mortgage
dollar rolls and other similar transactions.
(4) Underwrite securities of other issuers except insofar as the Fund may be
considered an underwriter under the Securities Act of 1933 in selling portfolio
securities.
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(5) Purchase or sell real estate, except that each Fund may invest in
securities issued by companies which invest in real estate or interests therein
and each of the Funds other than the Money Market Fund may invest in mortgages
and mortgage-backed securities.
(6) Purchase or sell commodities or commodity contracts except that each Fund
other than the Core Bond and Money Market Funds may purchase and sell futures
contracts on financial instruments and indices and options on such futures
contracts. The Small Cap Growth, Mid Cap Growth, International Small Cap, Large
Cap Growth, Global Equity, Strategic Income and International Equity Funds may
purchase and sell futures contracts on foreign currencies and options on such
futures contracts. The U.S. Government Securities Fund has elected for the
present to not engage in the purchase or sale of commodities or commodity
contracts to the extent permitted by this restriction, but it reserves the right
to engage in such transactions at a future time.
(7) Lend money to other persons except by the purchase of obligations in which
the Fund is authorized to invest and by entering into repurchase agreements.
For purposes of this restriction, collateral arrangements with respect to
options, forward currency and futures transactions will not be deemed to involve
the lending of money.
(8) Lend securities in excess of 33% of the value of its total non-cash assets.
For purposes of this restriction, collateral arrangements with respect to
options, forward currency and futures transactions will not be deemed to involve
loans of securities.
Nonfundamental
(9) Knowingly invest more than 10% of the value of its net assets in securities
or other investments not readily marketable, including repurchase agreements
maturing in more than seven days but excluding variable amount master demand
notes, except that the Small Cap Growth Fund, the Strategic Income Fund, the
Core Bond Fund, the Municipal Bond Fund, and the U.S. Government Securities Fund
may so invest up to 15% of its net assets.
(10) Purchase securities for the purpose of exercising control or management.
(11) Purchase securities of foreign issuers, except that (A) the International
Small Cap, Global Equity, International Equity and Strategic Income Funds may
each, without limitation, invest up to 100% of its assets in securities issued
by foreign entities and/or denominated in foreign currencies, (B) the Balanced
Fund and Large Cap Growth Fund may each invest up to 30% of its assets in such
securities, (C) the Small Cap Growth Fund may invest up to 25% of its assets in
such securities, and (D) each of the other portfolios (other than the U.S.
Government Securities and Municipal Bond Funds) may invest up to 20% of its
assets in securities issued by foreign entities and/or denominated in foreign
currencies. (In the case of the Mid Cap Growth,Large Cap Growth and Balanced
Funds, ADRs and U.S. dollar denominated securities are not included in the
percentage limitation.)
In addition to the above policies, the Money Market Fund is subject to certain
restrictions required by Rule 2a-7 under the 1940 Act.
For the purposes of the investment limitations applicable to the Municipal Bond
Fund, the identification of the issuer of a municipal obligation depends on the
terms and conditions of the obligation. If the assets and revenues of an
agency, authority, instrumentality, or other political subdivision are separate
from those of the government creating the subdivision and the obligation is
backed only by the assets and revenues of the subdivision, such subdivision
would be regarded as the sole issuer. Similarly, in the case of a private
activity bond, if the bond is backed only by the assets and revenues of the non-
governmental user, such non-governmental user would be regarded as the sole
issuer. If in either case the creating government or another entity guarantees
an obligation, the guarantee would be considered a separate security and treated
as an issue of such government or entity. Investment restrictions for the Mid
Cap Value Fund, Stock Index Fund, Small Cap Index Fund, Socially Responsible
Fund, High Yield Bond Fund, Aggressive Growth Lifestyle Fund, Moderate Growth
Lifestyle Fund, Conservative Growth Lifestyle Fund, Municipal Money Market Fund,
Science & Technology Fund and the Josephthal Strategic Growth Fund are listed
below.
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As a matter of fundamental policy, the Mid Cap Value Fund may not:
(1) Borrow money, except that the Fund may (i) borrow money from banks for
temporary or emergency purposes and not for leveraging or investment and (ii)
enter into reverse repurchase agreements and employ similar investment
techniques, and pledge its assets in connection therewith, for any purpose;
provided that (i) and (ii) in combination do not exceed 33 1/3% of the value of
its total assets (including the amount borrowed) less liabilities (other than
borrowings). If borrowings exceed 33 1/3% of the value of the Fund's total
assets, the Fund will reduce its borrowings within three days (excluding Sundays
and holidays) to the extent necessary to comply with the 33 1/3% limitation.
(2) Purchase physical commodities or contracts thereon, unless acquired as a
result of the ownership of securities or instruments, but this restriction shall
not prohibit the Fund from purchasing futures contracts or options (including
options on futures contracts, but excluding options or futures contracts on
physical commodities) or from investing in securities of any kind. For purposes
of the limitations on commodities, the Fund does not consider foreign currencies
or forward contracts to be physical commodities.
(3) With respect to 75% of the value of its total assets, purchase the
securities of any issuer (other than securities issued or guaranteed by the U.S.
Government or any of its agencies or instrumentalities) if, as a result, (i)
more than 5% of the value of the Fund's total assets would be invested in the
securities of that issuer or (ii) the Fund would hold more than 10% of the
outstanding voting securities of that issuer; except that the Fund may purchase
securities of other investment companies without regard to such limitation to
the extent permitted by (i) the 1940 Act, as amended from time to time, (ii) the
rules and regulations promulgated by the SEC under the 1940 Act, as amended from
time to time, or (iii) an exemption or other relief from the provisions of the
1940 Act.
(4) Purchase any security if, as a result, 25% or more of its total assets
(taken at current value) would be invested in the securities of issuers having
their principal business activities in the same industry, provided, however,
that this limitation excludes shares of other open-end investment companies
owned by the Fund but includes the Fund's pro rata portion of the securities and
other assets owned by any such company. This limitation does not apply to
securities issued or guaranteed by the U.S. Government or its agencies or
instrumentalities.
(5) Lend any security or make any other loan if, as a result, more than 33 1/3%
of its total assets (taken at current value) would be lent to other parties,
except, in accordance with its investment objective, policies, and limitations,
(i) through the purchase of a portion of an issue of debt securities or (ii) by
engaging in repurchase agreements.
(6) Purchase real estate unless acquired as a result of the ownership of
securities or instruments, but this restriction shall not prohibit the Fund from
purchasing securities issued by entities or investment vehicles that own or deal
in real estate or interests therein or instruments secured by real estate or
interests therein.
(7) Issue senior securities, except as permitted under the 1940 Act.
(8) Underwrite securities of other issuers, except to the extent that the Fund,
in disposing of portfolio securities, may be deemed to be an underwriter within
the meaning of the 1933 Act.
As a matter of non-fundamental policy, the Mid Cap Value Fund may not:
(1) Purchase securities if outstanding borrowings, including any reverse
repurchase agreements, exceed 5% of its total assets.
(2) Purchase securities on margin from brokers or other lenders, except that the
Fund may obtain such short-term credits as are necessary for the clearance of
securities transactions. Margin payments in connection with transactions in
futures contracts and options on futures contracts shall not constitute the
purchase of securities on margin and shall not be deemed to violate the
foregoing limitation.
(3) Invest more than 10% of the value of its total assets in securities of
foreign issuers, provided that the limitation shall not apply to foreign
securities denominated in U.S. dollars, including American Depositary Receipts
("ADRs").
(4) Invest more than 15% of the Fund's net assets in illiquid and restricted
securities.
(5) Invest in securities issued by other investment companies except as part of
a merger, reorganization or other acquisition and except to the extent permitted
by (i) the 1940 Act, as amended from time to time, (ii) the rules and
regulations promulgated by the SEC under the 1940 Act, as amended from time to
time, or (iii) an exemption or other relief from the provisions of the 1940 Act.
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As a matter of fundamental policy, the Stock Index Fund may not:
(1) Borrow money or mortgage or hypothecate assets of the Fund, except that in
an amount not to exceed 33 1/3% of the value of the Fund's total assets, it may
borrow money as a temporary measure for extraordinary or emergency purposes and
enter into reverse repurchase agreements or dollar roll transactions, and except
that it may pledge, mortgage or hypothecate not more than 1/3 of such assets to
secure such borrowings (it is intended that money would be borrowed only from
banks and only either to accommodate requests for the withdrawal of beneficial
interests (redemption of shares) while effecting an orderly liquidation of
portfolio securities or to maintain liquidity in the event of an unanticipated
failure to complete a portfolio security transaction or other similar
situations) or reverse repurchase agreements, provided that collateral
arrangements with respect to options and futures, including deposits of initial
deposit and variation margin, are not considered a pledge of assets for purposes
of this restriction and except that assets may be pledged to secure letters of
credit solely for the purpose of participating in a captive insurance company
sponsored by the Investment Company Institute. If borrowings exceed 5% of the
Fund's total assets the Fund will not purchase additional securities.
(2) Underwrite securities issued by other persons except insofar as the Trust
(or the Fund) may technically be deemed an underwriter under the Securities Act
of 1933 ("1933 Act") in selling a portfolio security.
(3) Make loans to other persons except: (a) through the lending of the Fund's
portfolio securities and provided that any such loans not exceed 30% of the
Fund's total assets (taken at market value); (b) through the use of repurchase
agreements or the purchase of short-term obligations; or (c) by purchasing a
portion of an issue of debt securities of types distributed publicly or
privately.
(4) Purchase or sell in the ordinary course of business (a) real estate
(including limited partnership interests but excluding securities secured by
real estate or interests therein); (b) interests in oil, gas or mineral leases;
or (c) commodities or commodity contracts except futures and option contracts
except that the Fund may hold and sell, for the Fund's portfolio, real estate
acquired as a result of the Fund's ownership of securities.
(5) Concentrate its investments in any particular industry (excluding U.S.
Government securities), but if it is deemed appropriate for the achievement of
the Fund's investment objective, up to 25% of its total assets may be invested
in any one industry. This limitation excludes shares of other open-end
investment companies owned by the Fund but includes the Fund's pro rata portion
of the securities and other assets owned by any such company.
(6) Issue any senior security (as that term is defined in the 1940 Act) if such
issuance is specifically prohibited by the 1940 Act or the rules and regulations
promulgated thereunder, provided that collateral arrangements with respect to
options and futures, including deposits of initial deposit and variation margin,
are not considered to be the issuance of a senior security for purposes of this
restriction.
As a matter of non-fundamental policy, the Stock Index Fund may not:
(1) Pledge, mortgage or hypothecate for any purpose in excess of 10% of the Fund
total assets (taken at market value), provided that collateral arrangements with
respect to options and futures, including deposits of initial deposit and
variation margin, are not considered a pledge of assets for purposes of this
restriction.
(2) Purchase any security or evidence of interest therein on margin, except that
such short-term credit as may be necessary for the clearance of purchases and
sales of securities may be obtained and except that deposits of initial deposit
and variation margin may be made in connection with the purchase, ownership,
holding or sale of futures.
(3) Sell any security which it does not own unless by virtue of its ownership of
other securities it has at the time of sale a right to obtain securities,
without payment of further consideration, equivalent in kind and amount to the
securities sold and provided that if such right is conditional the sale is made
upon the same conditions. See non-fundamental policy No. 12.
(4) Invest for the purpose of exercising control or management.
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(5) Invest more than 15% of the Fund's net assets (taken at the greater of cost
or market value) in securities that are illiquid or not readily marketable not
including (a) Rule 144A securities that have been determined to be liquid by the
Board of Trustees, and (b) commercial paper that is sold under section 4(2) of
the 1933 Act which: (i) is not traded flat or in default as to interest or
principal: and (ii) is rated in one of the two highest categories by at least
two nationally recognized statistical rating organizations and the Trust's Board
of Trustees have determined the commercial paper to be liquid: or (iii) is rated
in one of the two highest categories by one nationally recognized statistical
rating agency and the Board of Trustees has determined that the commercial paper
is equivalent quality and is liquid.
(6) Invest more than 10% of the Fund's total assets (taken at the greater of
cost or market value) in securities that are restricted as to resale under the
1933 Act (other than Rule 144A securities deemed liquid by the Board of
Trustees.)
(7) Invest more than 5% of the Fund's total assets in securities issued by
issuers which (including predecessors) have been in operation less than three
years.
(8) With respect to 75% of the Fund's total assets, purchase securities of any
issuer if such purchase at the time thereof would cause the Fund to hold more
than 10% of any class of securities of such issuer, for which purposes all
indebtedness of an issuer shall be deemed a single class and all preferred stock
of an issuer shall be deemed a single class, except that futures or option
contracts shall not be subject to this restriction. The Fund may purchase
securities of other investment companies without regard to such limitation to
the extent permitted by (i) the 1940 Act, as amended from time to time, (ii) the
rules and regulations promulgated by the SEC under the 1940 Act, as amended from
time to time, or (iii) an exemption or other relief from the provisions of the
1940 Act.
(9) With respect to 75% of its assets, invest more than 5% of its total assets
in the securities (excluding U.S. government securities) of any one issuer;
except that the Fund may purchase securities of other investment companies
without regard to such limitation to the extent permitted by (i) the 1940 Act,
as amended from time to time, (ii) the rules and regulations promulgated by the
SEC under the 1940 Act, as amended from time to time, or (iii) an exemption or
other relief from the provisions of the 1940 Act.
(10) Purchase or retain in the Fund's portfolio any securities issued by an
issuer any of whose officers, directors, trustees or security holders is an
officer or Trustee of the Trust, or is an officer or partner of AGAM or the
Subadvisor, if after the purchase of the securities of such issuer for the Fund
one or more of such persons owns beneficially more than 1/2 of 1% of the shares
or securities, or both, all taken at market value, of such issuer, and such
persons owning more than 1/2 of 1% of such shares or securities together own
beneficially more than 5% of such shares or securities, or both, all taken at
market value.
(11) Invest more than 5% of the Fund's net assets in warrants (valued at the
lower of cost or market) (other than warrants acquired by the Fund as part of a
unit or attached to securities at the time of purchase), but not more than 2% of
the Fund's net assets may be invested in warrants not listed on the New York
Stock Exchange Inc. (the "NYSE") or the American Stock Exchange.
(12) Make short sales of securities or maintain a short position, unless at all
times when a short position is open, it owns an equal amount of such securities
or securities convertible into or exchangeable without payment of any further
consideration, for securities of the same issue and equal in amount to, the
securities sold short and unless not more than 10% of the Fund's net assets
(taken at market value) is represented by such securities, or securities
convertible into or exchangeable for such securities, at any one time. The Fund
has no current intention to engage in short selling. See non-fundamental policy
No. 3.
(13) Write puts and calls on securities unless each of the following conditions
are met: (a) the security underlying the put or call is within the investment
policies of the Fund and the option is issued by the Options Clearing
Corporation, except for put and call options issued by non-U.S. entities or
listed on non-U.S. securities or commodities exchanges: (b) the aggregate value
of the obligations underlying the puts determined as of the date the options are
sold shall not exceed 50% of the Fund's net assets; (c) the securities subject
to the exercise of the call written by the Fund must be owned by the Fund at the
time the call is sold and must continue to be owned by the Fund until the call
has been exercised, has lapsed, or the Fund has purchased a closing call, and
such purchase has been confirmed, thereby extinguishing the Fund's obligation to
deliver securities pursuant to the call it has sold: and (d) at the time a put
is written, the Fund establishes a segregated account with its custodian
consisting of cash or short-term U.S. government securities equal in value to
the amount the Fund will be obligated to pay upon exercise of the put (this
account must be maintained until the put is exercised, has expired, or the Fund
has purchased a closing put, which is a put of the same series as the one
previously written).
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(14) Buy and sell puts and calls on securities, stock index futures or options
on stock index futures, or financial futures or options on financial futures
unless such options are written by other persons and: (a) the options or futures
are offered through the facilities of a national securities association or are
listed on a national securities or commodities exchange, except for put and call
options issued by non-U.S. entities or listed on non-U.S. securities or
commodities exchanges; (b) the aggregate premiums paid on all such options which
are held at any time do not exceed 20% of the Fund's total net assets; and (c)
the aggregate margin deposits required on all such futures or options thereon
held at any time do not exceed 5% of the Fund's total assets.
(15) Invest in securities issued by other investment companies except as part of
a merger, reorganization or other acquisition and except to the extent permitted
(i) by the 1940 Act, as amended from time to time, (ii) the rules and
regulations promulgated by the SEC under the 1940 Act, as amended from time to
time, or (iii) an exemption or other relief from the provisions of the 1940 Act.
As a matter of fundamental policy, the Small Cap Index Fund may not:
(1) Borrow money or mortgage or hypothecate assets of the Fund, except that in
an amount not to exceed 33 1/3% of the value of the Fund's total assets, it may
borrow money as a temporary measure for extraordinary or emergency purposes and
enter into reverse repurchase agreements or dollar roll transactions, and except
that it may pledge, mortgage or hypothecate not more than 33 1/3% of total
assets to secure such borrowings (it is intended that money would be borrowed
only from banks and only either to accommodate requests for the withdrawal of
beneficial interests (redemption of shares) while effecting an orderly
liquidation of portfolio securities or to maintain liquidity in the event of an
unanticipated failure to complete a portfolio security transaction or other
similar situations) or reverse repurchase agreements, provided that collateral
arrangements with respect to options and futures, including deposits of initial
deposit and variation margin, are not considered a pledge of assets for purposes
of this restriction and except that assets may be pledged to secure letters of
credit solely for the purpose of participating in a captive insurance company
sponsored by the Investment Company Institute. If borrowings exceed 5% of the
Fund's total assets, the Fund will not purchase additional securities.
(2) Underwrite securities issued by other persons except insofar as the Trust
(or the Fund) may technically be deemed an underwriter under the 1933 Act in
selling a portfolio security.
(3) Make loans to other persons except: (a) through the lending of the Fund's
portfolio securities and provided that any such loans not exceed 30% of the
Fund's total assets (taken at market value); (b) through the use of repurchase
agreements or the purchase of short-term obligations; or (c) by purchasing a
portion of an issue of debt securities of types distributed publicly or
privately.
(4) Purchase or sell in the ordinary course of business (a) real estate
(including limited partnership interests but excluding securities secured by
real estate or interests therein); (b) interests in oil, gas or mineral leases;
or (c) commodities or commodity contracts except futures and option contracts
except that the Trust may hold and sell, for the Fund's portfolio, real estate
acquired as a result of the Fund's ownership of securities. This limitation
excludes shares of other open-end investment companies owned by the Fund but
includes the Fund's pro rata portion of the securities and other assets owned by
any such company.
(5) Concentrate its investments in any particular industry (excluding U.S.
Government securities), but if it is deemed appropriate for the achievement of a
Fund's investment objective(s), up to 25% of its total assets may be invested in
any one industry, provided, however, that this limitation excludes shares of
other open-end investment companies owned by the Fund but includes the Fund's
pro rata portion of the securities and other assets owned by any such company.
(6) Issue any senior security (as that term is defined in the 1940 Act) if such
issuance is specifically prohibited by the 1940 Act or the rules and regulations
promulgated thereunder, provided that collateral arrangements with respect to
options and futures, including deposits of initial deposit and variation margin,
are not considered to be the issuance of a senior security for purposes of this
restriction.
As a matter of non-fundamental policy, the Small Cap Index Fund may not:
(1) Pledge, mortgage or hypothecate for any purpose in excess of 10% of the
Fund's total assets (taken at market value), provided that collateral
arrangements with respect to options and futures, including deposits of initial
deposit and variation margin, and reverse repurchase agreements are not
considered a pledge of assets for purposes of this restriction.
(2) Purchase any security or evidence of interest therein on margin, except that
such short-term credit as may be necessary for the clearance of purchases and
sales of securities may be obtained and except that deposits of initial deposit
and variation margin may be made in connection with the purchase, ownership,
holding or sale of futures.
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(3) Sell securities it does not own such that the dollar amount of such short
sales at any one time exceeds 25% of the net equity of the Fund, and the value
of securities of any one issuer in which the Fund is short exceeds the lesser of
2.0% of the value of the Fund's net assets or 2.0% of the securities of any
class of any U.S. issuer and, provided that short sales may be made only in
those securities which are fully listed on a national securities exchange or a
foreign exchange (This provision does not include the sale of securities of the
Fund contemporaneously owns or has the right to obtain securities equivalent in
kind and amount to those sold, i.e., short sales against the box.) (The Fund has
no current intention to engage in short selling).
(4) Invest for the purpose of exercising control or management; except that the
Fund may purchase securities of other investment companies without regard to
such limitation to the extent permitted by (i) the 1940 Act, as amended from
time to time, (iii) the rules and regulations promulgated by the SEC under the
1940 Act, as amended from time to time, or (iii) an exemption or other relief
from the provisions of the 1940 Act.
(5) Invest more than 10% of the Fund's total assets (taken at the greater of
cost or market value) in securities that are restricted as to resale under the
1933 Act (other than Rule 144A securities deemed liquid by the Fund's Board of
Trustees).
(6) Invest more than 15% of the Fund's net assets (taken at the greater of cost
or market value) in securities that are illiquid or not readily marketable not
including (a) Rule 144A securities that have been determined to be liquid by the
Board of Trustees; and (b) commercial paper that is sold under section 4(2) of
the 1933 Act which: (i) is not traded flat or in default as to interest or
principal; and (ii) is rated in one of the two highest categories by at least
two nationally recognized statistical rating organizations and the Board of
Trustees have determined the commercial paper to be liquid; or (iii) is rated in
one of the two highest categories by one nationally recognized statistical
rating agency and the Board of Trustees have determined that the commercial
paper is equivalent quality and is liquid.
(7) Invest more than 5% of the Fund's total assets in securities issued by
issuers which (including predecessors) have been in operation less than three
years.
(8) With respect to 75% of the Fund's total assets, purchase securities of any
issuer if such purchase at the time thereof would cause the Fund to hold more
than 10% of any class of securities of such issuer, for which purposes all
indebtedness of an issuer shall be deemed a single class and all preferred stock
of an issuer shall be deemed a single class, except that futures or option
contracts shall not be subject to this restriction. The Fund may purchase
securities of other investment companies without regard to such limitation to
the extent permitted by (i) the 1940 Act, as amended from time to time, (ii) the
rules and regulations promulgated by the SEC under the 1940 Act, as amended from
time to time, or (iii) an exemption or other relief from the provisions of the
1940 Act.
(9) Invest more than 5% of its total assets in the securities (excluding U.S.
government securities) of any one issuer; except that the Fund may purchase
securities of other investment companies without regard to such limitation to
the extent permitted by (i) the 1940 Act, as amended from time to time, (ii) the
rules and regulations promulgated by the SEC under the 1940 Act, as amended from
time to time, or (iii) an exemption or other relief from the provisions of the
1940 Act.
(10) Invest in securities issued by an issuer any of whose officers, directors,
trustees or security holders is an officer or Trustee of the Trust, or is an
officer or partner of AGAM or of the Subadvisor, if after the purchase of the
securities of such issuer for the Fund one or more of such persons owns
beneficially more than 1/2 of 1% of the shares or securities, or both, all taken
at market value, of such issuer, and such persons owning more than 1/2 of 1% of
such shares or securities together own beneficially more than 5% of such shares
or securities, or both, all taken at market value.
(11) Invest in warrants (other than warrants acquired by the Fund as part of a
unit or attached to securities at the time of purchase) if, as a result, the
investments (valued at the lower of cost or market) would exceed 5% of the value
of the Fund's net assets or if, as a result, more than 2% of the Fund's net
assets would be invested in warrants not listed on a recognized United States or
foreign stock exchange, to the extent permitted by applicable state securities
laws.
(12) Write puts and calls on securities unless each of the following conditions
are met: (a) the security underlying the put or call is within the Investment
Practices of the Fund and the option is issued by the Options Clearing
Corporation, except for put and call options issued by non-U.S. entities or
listed on non-U.S. securities or commodities exchanges; (b) the aggregate value
of the obligations underlying the puts determined as of the date the options are
sold shall not exceed 5% of the Fund's net assets; (c) the securities subject to
the exercise of the call written by the Fund must be owned by the Fund at the
time the call is sold and must continue to be owned by the Fund until the call
has been exercised, has lapsed, or the Fund has purchased a closing call, and
such purchase has been confirmed, thereby extinguishing the Fund's obligation to
deliver securities pursuant to the call it has sold; and (d) at the time a put
is written, the Fund establishes a segregated account with its custodian
consisting of cash or short-term U.S.
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government securities equal in value to the amount the Fund will be obligated to
pay upon exercise of the put (this account must be maintained until the put is
exercised, has expired, or the Fund has purchased a closing put, which is a put
of the same series as the one previously written).
(13) Buy and sell puts and calls on securities, stock index futures or options
on stock index futures, or financial futures or options on financial futures
unless such options are written by other persons and: (a) the options or futures
are offered through the facilities of a national securities association or are
listed on a national securities or commodities exchange, except for put and call
options issued by non-U.S. entities or listed on non-U.S. securities or
commodities exchanges; (b) the aggregate premiums paid on all, such options
which are held at any time do not exceed 20% of the Fund's total net assets; and
(c) the aggregate margin deposits required on all such or options thereon held
at any time do not exceed 5% of the Fund's total assets.
(14) Invest in securities issued by other investment companies except as part of
a merger, reorganization or other acquisition and except to the extent permitted
(i) by the 1940 Act, as amended from time to time, (ii) the rules and
regulations promulgated by the SEC under the 1940 Act, as amended from time to
time, or (iii) an exemption or other relief from the provisions of the 1940 Act.
As a matter of fundamental policy, the Socially Responsible Fund may not:
(1) Invest more than 5% of the value of its total assets in the securities of
any one issuer or purchase more than 10% of the outstanding voting securities,
or any other class of securities, of any one issuer; except that the Fund may
purchase securities of other investment companies without regard to such
limitation to the extent permitted by (i) the 1940 Act, as amended from time to
time, (ii) the rules and regulations promulgated by the SEC under the 1940 Act,
as amended from time to time, or (iii) an exemption or other relief from the
provisions of the 1940 Act. For purposes of this restriction, all outstanding
debt securities of an issuer are considered as one class, and all preferred
stock of an issuer is considered as one class. This restriction does not apply
to obligations issued or guaranteed by the U.S. Government, its agencies, or
instrumentalities. As a matter of operating policy, the Trust will not consider
repurchase agreements subject to the 5% limitation if the collateral underlying
the repurchase agreements are U.S. Government securities.
(2) (a) Issue senior securities except in connection with investments in options
and futures contracts; or (b) borrow money, enter into reverse repurchase
agreements, or employ similar investment techniques, and pledge its assets in
connection therewith, except to the extent permitted by applicable law, and
provided that the Fund will not purchase additional securities if borrowings
exceed 5% of total assets.
(3) Acquire real estate or real estate contracts, although the Fund may acquire
obligations that are secured by real estate or securities issued by companies
investing in real estate, such as real estate investment trusts.
(4) Underwrite securities of other issuers except where the sale of restricted
portfolio securities constitutes an underwriting under the federal securities
laws.
(5) Lend money, except by purchasing debt obligations in which a Fund may invest
consistent with its investment objective(s) and policies or by purchasing
securities subject to repurchase agreements.
(6) Purchase or sell commodities or commodities contracts. This restriction
shall not prohibit the Fund, subject to restrictions described in the Prospectus
and elsewhere in this Statement of Additional Information, from purchasing,
selling or entering into futures contracts, options on futures contracts,
foreign currency forward contracts, foreign currency options, or any interest
rate, securities-related or foreign currency-related hedging instruments,
including swap agreements and other derivative instruments, subject to
compliance with any applicable provisions of the federal securities or
commodities laws.
(7) Lend its portfolio securities to broker-dealers and other financial
institutions in an amount in excess of 33 1/3% of the value of the Fund's total
assets.
(8) Enter into financial futures contracts (by exercise of any option or
otherwise) or acquire any options thereon, if, immediately thereafter, the total
of the initial margin deposits required with respect to all open futures
positions at the time such positions were established plus the sum of the
premiums paid for all unexpired options on futures contracts would exceed 5% of
the value of its total assets.
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<PAGE>
(9) Invest more than 25% of the value of its total assets in the securities of
issuers primarily engaged in any one industry (excluding the U.S. Government or
any of its agencies or instrumentalities), provided, however, that this
limitation excludes shares of other open-end investment companies owned by the
Fund but includes the Fund's pro rata portion of the securities and other assets
owned by any such company.
As a matter of non-fundamental policy, the Socially Responsible Fund may not:
(1) Invest more than 10% of the Fund's net assets in illiquid and restricted
securities.
(2) Invest in securities issued by other investment companies except as part of
a merger, reorganization or other acquisition and except to the extent permitted
by (i) the 1940 Act, as amended from time to time, (ii) the rules and
regulations promulgated by the SEC under the 1940 Act, as amended from time to
time, or (iii) an exemption or other relief from the provisions of the 1940 Act.
(3) Acquire securities for the purpose of influencing the management of, or
exercising control over, the issuer; except that the Fund may purchase
securities of other investment companies without regard to such limitation to
the extent permitted by (i) the 1940 Act, as amended from time to time, (ii) the
rules and regulations promulgated by the SEC under the 1940 Act, as amended from
time to time, or (iii) an exemption or other relief from the provisions of the
1940 Act.
(4) Effect short sales of securities or purchase securities on margin, except in
connection with investment in options and futures contracts. The Fund may use
short-term credits when necessary to clear transactions.
As a matter of fundamental policy, the High Yield Bond Fund may not:
(1) Invest more than 5% of the value of its total assets in the securities of
any one issuer or purchase more than 10% of the outstanding voting securities,
or any other class of securities, of any one issuer; except that a Fund may
purchase securities of other investment companies without regard to such
limitation to the extent permitted by (i) the 1940 Act, as amended from time to
time, (ii) the rules and regulations promulgated by the SEC under the 1940 Act,
as amended from time to time, or (iii) an exemption or other relief from the
provisions of the 1940 Act. For purposes of this restriction, all outstanding
debt securities of an issuer are considered as one class, and all preferred
stock of an issuer is considered as one class. This restriction does not apply
to obligations issued or guaranteed by the U.S. Government, its agencies, or
instrumentalities or securities issued by state or municipal governments and
their political subdivisions. As a matter of operating policy, the Trust will
not consider repurchase agreements subject to the 5% limitation if the
collateral underlying the repurchase agreements are U.S. Government securities.
(2) (a) Issue senior securities except in connection with investments in options
and futures contracts; or (b) borrow from banks or enter into reverse repurchase
agreements, or employ similar investment techniques, and pledge its assets in
connection therewith, unless immediately after each borrowing there is asset
coverage of 300%.
(3) Acquire real estate or real estate contracts, although a Fund may acquire
obligations that are secured by real estate or securities issued by companies
investing in real estate, such as real estate investment trusts.
(4) Underwrite securities of other issuers except where the sale of restricted
portfolio securities constitutes an underwriting under the federal securities
laws.
(5) Lend money, except by purchasing debt obligations in which a Fund may invest
consistent with its investment objective(s) and policies or by purchasing
securities subject to repurchase agreements.
(6) Purchase or sell commodities or commodities contracts. This restriction
shall not prohibit the Fund, subject to restrictions described in the Prospectus
and elsewhere in this Statement of Additional Information, from purchasing,
selling or entering into futures contracts, options on futures contracts,
foreign currency forward contracts, foreign currency options, or any interest
rate, securities-related or foreign currency-related hedging instruments,
including swap agreements and other derivative instruments, subject to
compliance with any applicable provisions of the federal securities or
commodities laws.
(7) Lend its portfolio securities to broker-dealers and other financial
institutions in an amount in excess of 33 1/3% of the value of a Fund's total
assets.
(8) Invest more than 25% of its total assets in issuers primarily engaged in a
single industry (excluding the U.S. Government or any of its agencies or
instrumentalities), provided, however, that this limitation excludes shares of
other open-end investment companies owned by a Fund but includes a Fund's pro
rata portion of the securities and other assets owned by any such company.
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<PAGE>
As a matter of non-fundamental policy, the High Yield Bond Fund may not:
(1) Invest more than 15% of its net assets in illiquid and restricted
securities.
(2) Invest in securities issued by other investment companies except as part of
a merger, reorganization or other acquisition and except to the extent permitted
by (i) the 1940 Act, as amended from time to time, (ii) the rules and
regulations promulgated by the SEC under the 1940 Act, as amended from time to
time, or (iii) an exemption or other relief from the provisions of the 1940 Act.
(3) Acquire securities for the purpose of influencing the management of, or
exercising control over, the issuer; except that a Fund may purchase securities
of other investment companies without regard to such limitation to the extent
permitted by (i) the 1940 Act, as amended from time to time, (ii) the rules and
regulations promulgated by the SEC under the 1940 Act, as amended from time to
time, or (iii) an exemption or other relief from the provisions of the 1940 Act.
(4) Effect short sales of securities or purchase securities on margin, except in
connection with investment in options and futures contracts. A Fund may use
short-term credits when necessary to clear transactions.
As a matter of fundamental policy, the Aggressive Growth Lifestyle Fund, the
Conservative Growth Lifestyle Fund and the Moderate Growth Lifestyle Fund may
not:
(1) Issue senior securities.
(2) Borrow money, except to the extent permitted by applicable law, and provided
that the Fund may not purchase additional securities if borrowings exceed 5% of
total assets.
(3) Underwrite the securities of other issuers.
(4) Purchase real estate or real estate mortgage loans, although the underlying
mutual funds in which a Fund will invest may purchase marketable securities of
companies which deal in real estate, real estate mortgage loans or interests
therein.
(5) Purchase or sell commodities or commodity contracts.
(6) Make loans except by purchasing bonds, debentures or similar obligations
which are either publicly distributed or customarily purchased by institutional
investors.
(7) Invest more than 25% of its assets in any one industry, other than Funds
that are part of the Trust.
As a matter of non-fundamental policy, the Aggressive Growth Lifestyle Fund, the
Moderate Growth Lifestyle Fund and the Conservative Growth Lifestyle Fund may
not:
(1) Purchase any securities on margin, make short sales of securities or
purchase or sell puts and calls, or combinations thereof.
(2) Invest directly in oil, gas, or other mineral exploration or development
programs; provided, however, that the underlying mutual funds in which the Fund
will invest may purchase the securities of companies engaged in such activities.
(3) Purchase or retain any security other than shares of the underlying Trust
Funds if (i) one or more officers or trustees of the Trust individually own or
would own, directly or beneficially, more than 1/2 of 1 percent of the
securities of such issuer and (ii) in the aggregate such persons own or would
own more than 5% of such securities.
(4) Invest in companies for the purpose of exercising control of management.
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<PAGE>
As a matter of fundamental policy, the Municipal Money Market Fund may not:
(1) Purchase the securities of any issuer (except the U.S. Government, its
agencies or instrumentalities, or securities which are backed by the full faith
and credit of the U.S. or securities issued by state or municipal governments
and their political subdivisions) if, as a result, more than 5% of its total
assets would be invested in the securities of such issuer or more than 10% of
the outstanding voting securities of any class of any issuer would be held by
the Fund. The Fund may purchase securities of other investment companies without
regard to such limitation to the extent permitted by (i) the 1940 Act, as
amended from time to time, (ii) the rules and regulations promulgated by the SEC
under the 1940 Act, as amended from time to time, or (iii) an exemption or other
relief from the provisions of the 1940 Act.
(2) Borrow money, except from a bank for temporary or emergency purposes and not
for investment purposes, and then in an amount not exceeding 10% of the value of
the Fund's total assets at the time of borrowing. (No new investments will be
made by the Fund while any outstanding borrowings exceed 5% of its total
assets.) Secured temporary borrowings may take the form of reverse repurchase
agreements, pursuant to which the Fund would sell portfolio securities for cash
and simultaneously agree to repurchase them at a specified date for the same
amount of cash plus an interest component.
(3) Underwrite any issue of securities, except to the extent that the purchase
of municipal obligations in accordance with the Fund's investment objectives,
policies, and restrictions, either directly from the issuer, or from an
underwriter for an issuer, may be deemed to be underwriting.
(4) Purchase or sell real estate, but this shall not prevent the Fund from
investing in municipal fixed income securities secured by real estate or
interests therein.
(5) Purchase or sell commodities or commodity contracts or invest in oil, gas or
other mineral exploration or development programs.
(6) Make loans, except (i) by the purchase of a portion of an issue of debt
securities in accordance with its investment objectives, policies, and
restrictions, (ii) by engaging in repurchase transactions, and (iii) by making
loans of portfolio securities not in excess of 10% of the value of the Fund's
total assets.
(7) Write, purchase or sell puts, calls, or combinations thereof, except that it
may obtain rights to resell municipal bonds and notes.
(8) Purchase securities (other than municipal bonds, notes and other fixed
income securities issued or guaranteed by the U.S. Government, its agencies or
instrumentalities) if, as a result, more than 25% of total Fund assets would be
invested in any one industry.
As a matter of non-fundamental policy, the Municipal Money Market Fund may not:
(1) Pledge, mortgage, or hypothecate its assets, except that, to secure
borrowings permitted by subparagraph (2) above, it may pledge securities having
a market value at the time of pledge not exceeding 10% of the value of the
Fund's total assets.
(2) Invest more than 10% of the Fund's net assets in illiquid or restricted
securities.
(3) Make short sales of securities or purchase any securities on margin, except
for such short-term credits as are necessary for the clearance of transactions.
(4) Purchase or retain the securities of any issuer other than the securities of
the Fund, if, to the Fund's knowledge, those Trustees and officers of the Trust,
or of the investment manager, who individually own beneficially more than 1/2 of
1% of the outstanding securities of such issuer together own beneficially more
than 5% of such outstanding securities.
(5) Invest for the purpose of exercising control or management of another
company.
(6) Invest in securities issued by other investment companies except as part of
a merger, reorganization or other acquisition and except to the extent permitted
(i) by the 1940 Act, as amended from time to time, (ii) the rules and
regulations promulgated by the SEC under the 1940 Act, as amended from time to
time, or (iii) an exemption or other relief from the provisions of the 1940 Act.
(7) Purchase an industrial revenue bond if, as a result of such purchase, more
than 5% of total Fund assets would be invested in industrial revenue bonds where
the payment of principal and interest are the responsibility of companies with
less than three years of operating history.
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<PAGE>
For the purposes of the investment limitations applicable to the Municipal Money
Market Fund, the identification of the issuer of a municipal obligation depends
on the terms and conditions of the obligation. If the assets and revenues of an
agency, authority, instrumentality, or other political subdivision are separate
from those of the government creating the subdivision and the obligation is
backed only by the assets and revenues of the subdivision, such subdivision
would be regarded as the sole issuer. Similarly, in the case of a private
activity bond, if the bond is backed only by the assets and revenues of the non-
governmental user, such non-governmental user would be regarded as the sole
issuer. If in either case the creating government or another entity guarantees
an obligation, the guarantee would be considered a separate security and treated
as an issue of such government or entity.
As a matter of fundamental policy, the Science & Technology Fund may not:
(1) Make any investment inconsistent with its classification as a diversified
investment company under the 1940 Act.
(2) Invest 25% or more of its total assets in the securities of one or more
issuers conducting their principal business activities in the same industry
(excluding the U.S. Government or any of its agencies or instrumentalities),
provided, however, that this limitation excludes shares of other open-end
investment companies owned by the Fund but includes the Fund's pro rata portion
of the securities and other assets owned by any such company.
(3) Issue senior securities or borrow money, except from banks or other persons
for non-leveraging, temporary or emergency purposes, and then only in an amount
up to 33 1/3% of the value of its total assets or as permitted by law and except
by engaging in reverse repurchase agreements, where allowed. In order to secure
any permitted borrowings and reverse repurchase agreements under this section,
the Fund may pledge, mortgage or hypothecate its assets.
(4) Make loans, although the Fund may lend portfolio securities, purchase of
money market instruments and repurchase agreements or bonds, debentures or other
debt securities, or as permitted by law. The purchase of all or a portion of an
issue of publicly distributed or privately placed debt obligations and purchase
debt in accordance with the Fund's investment objective, policies and
restrictions, shall not constitute the making of a loan.
(5) Underwrite the securities of other issuers, except as allowed by law or to
the extent that the purchase of obligations in accordance with its investment
objective and policies, either directly from the issuer, or from an underwriter
for an issuer, may be deemed an underwriting.
(6) Invest directly in commodities or real estate, unless acquired as a result
of ownership of securities or other instruments, or as permitted by law.
However, the Fund may invest in securities which are secured by real estate or
real estate mortgages and securities of issuers which invest or deal in
commodities, commodity futures, real estate or real estate mortgages.
As a matter of non-fundamental policy, the Science & Technology Fund may not:
(1) Effect short sales of securities or purchase securities on margin, except in
connection with investments in options and futures contracts. Each Fund may use
short-term credits when necessary to clear transactions.
(2) Purchase illiquid securities if more than 15% of the value of its net assets
would be invested in such securities, or as permitted by the 1940 Act.
(3) Enter into reverse repurchase agreements if the aggregate proceeds from
outstanding reverse repurchase agreements, when added to other outstanding
borrowings permitted by the 1940 Act, would exceed 33 1/3% of its total assets.
The Fund does not intend to make any purchases of securities if borrowing
exceeds 5% of its total assets.
(4) Invest in securities issued by other investment companies except as part of
a merger, reorganization or other acquisition or except to the extent permitted
by (i) the 1940 Act, as amended from time to time, (ii) the rules and
regulations promulgated by the SEC under the 1940 Act, as amended from time to
time, or (iii) an exemption or other relief from the provisions of the 1940 Act.
(5) Acquire securities for the purpose of influencing the management of, or
exercising control over, the issuer; except that the Fund may purchase
securities of other investment companies without regard to such limitation to
the extent permitted by (i) the 1940 Act, as amended from time to time, (ii) the
rules and regulations promulgated by the SEC under the 1940 Act, as amended from
time to time, or (iii) an exemption or other relief from the provisions of the
1940 Act.
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<PAGE>
With respect to the Science & Technology Fund, as noted in the Prospectus, T.
Rowe Price Associates, Inc. ("T. Rowe") manages the assets of the Science &
Technology Fund. T. Rowe offers a diversified and cost-effective investment
vehicle for the cash reserves of client accounts. Therefore, T. Rowe may choose
to invest any available cash reserves in a money market fund established for the
exclusive use of the T. Rowe family of mutual funds and other T. Rowe clients.
Currently, two such money market funds are in operation - Reserve Investment
Fund ("RIF") and Government Reserve Investment Fund ("GRF"), each a series of
the Reserve Investment Funds, Inc. Additional series may be created in the
future. These funds were created and operate under an Exemptive Order issued by
the SEC (Investment Company Act Release No. IC-22770, July 29, 1997).
As a non-fundamental operating policy, the Science & Technology Fund may invest
up to 25% of its total assets in either the RIF or GRF. RIF and GRF must comply
with the requirements of Rule 2a-7 under the 1940 Act governing money market
funds and invests at least 95% of its total assets in prime money market
instruments receiving the highest credit rating. The RIF and GRF do not pay an
advisory fee to the Investment Manager at T. Rowe, but may incur other expenses.
However, RIF and GRF are expected by T. Rowe to operate at very low expense
ratios. The Fund will only invest in RIF or GRF to the extent it is consistent
with its objective and program. RIF and GRF are neither insured nor guaranteed
by the U.S. government, and there is no assurance they will maintain a stable
net asset value of $1.00 per share.
As a matter of fundamental policy, the Josephthal Strategic Growth Fund may not:
(1) With respect to 75% of its total assets, invest more than 5% of its total
assets at the time of purchase in the securities of any single issuer (other
than obligations issued or guaranteed as to principal and interest by the U.S.
Government or any of its agencies or instrumentalities); except that the Fund
may purchase securities of other investment companies without regard to such
limitation to the extent permitted by (i) the 1940 Act, as amended from time to
time, (ii) the rules and regulations promulgated by the SEC under the 1940 Act,
as amended from time to time, or (iii) an exemption or other relief from the
provisions of the 1940 Act.
(2) With respect to 75% of its total assets, purchase more than 10% of any class
of the outstanding voting securities of any issuer; except that the Fund may
purchase securities of other investment companies without regard to such
limitation to the extent permitted by (i) the 1940 Act, as amended from time to
time, (ii) the rules and regulations promulgated by the SEC under the 1940 Act,
as amended from time to time, or (iii) an exemption or other relief from the
provisions of the 1940 Act.
(3) Invest more than 25% of its total assets in companies within a single
industry, provided, however, that this limitation excludes shares of other open-
end investment companies owned by the Fund but includes the Fund's pro rata
portion of the securities and other assets owned by any such company. There are
no limitations on investments made in instruments issued or guaranteed by the
U.S. Government and its agencies.
(4) Make loans except by purchasing debt securities in accordance with its
investment objective and policies or entering into repurchase agreements, or by
lending its portfolio securities to banks, brokers, dealers and other financial
institutions so long as the loans are made in compliance with the 1940 Act, as
amended, or the rules and regulations or interpretations of the SEC.
(5) Borrow, except (i) from banks; (ii) to enter into reverse repurchase
agreements or to employ similar investment techniques, and pledge its assets in
connection therewith; and (iii) as a temporary measure for extraordinary or
emergency purposes and then, in no event, in excess of 33 1/3% of the Fund's
total assets valued at the lower of market or cost. If borrowings exceed 5% of
the Fund's total assets, the Fund will not purchase additional securities.
(6) Invest in physical commodities or contracts on physical commodities.
(7) Purchase or sell real estate, although it may purchase and sell securities
of companies which deal in real estate and may purchase and sell securities
which are secured by interests in real estate.
(8) Underwrite the securities of other issuers.
(9) Issue senior securities, as defined in the 1940 Act, except that this
restriction shall not be deemed to prohibit the Fund from (i) making any
permitted borrowings, mortgages or pledges, or (ii) entering into repurchase
transactions.
41
<PAGE>
As a matter of non-fundamental policy, the Fund may not:
(1) Invest more than an aggregate of 15% of the Fund's net assets in illiquid or
restricted securities.
(2) Invest for the purpose of exercising control over management of any company;
except that the Fund may purchase securities of other investment companies
without regard to such limitation to the extent permitted by (i) the 1940 Act,
as amended from time to time, (ii) the rules and regulations promulgated by the
SEC under the 1940 Act, as amended from time to time, or (iii) an exemption or
other relief from the provisions of the 1940 Act.
(3) Invest in securities issued by other investment companies except as part of
a merger, reorganization or other acquisition and except to the extent permitted
by (i) the 1940 Act, as amended from time to time, (ii) the rules and
regulations promulgated by the SEC under the 1940 Act, as amended from time to
time, or (iii) an exemption or other relief from the provisions of the 1940 Act.
TEMPORARY DEFENSIVE POSITIONS
The Funds may invest in the types of investments indicated below during periods
when the Funds are assuming a temporary defensive position.
<TABLE>
<CAPTION>
Fund Investments
---- -----------
<S> <C>
Small Cap Growth Fund Investment grade debt obligations, domestic and foreign money market
obligations, including repurchase agreements, and short-term money market
obligations.
International Small Cap Fund Cash, cash equivalents, U.S. government obligations, commercial paper, bank
obligations, repurchase agreements, and negotiable U.S. dollar-denominated
obligations of domestic and foreign branches of U.S. depository institutions,
U.S. branches of foreign depository institutions, and foreign depository
institutions.
Mid Cap Growth Fund Equity securities of companies that, at the time of purchase, have total
market capitalization of $5 billion or greater and in excess of that amount,
money market instruments, bank and thrift obligations, obligations issued or
guaranteed by the U.S. Government or by its agencies or instrumentalities,
foreign bank obligations and obligations of foreign branches of domestic
banks, variable rate master demand notes and repurchase agreements.
Global Equity Fund Cash or short-term and medium-term debt obligations consisting of (i)
obligations of U.S. or foreign governments, their respective agencies or
instrumentalities, (ii) money market instruments, and (iii) instruments
denominated in any currency issued by international development agencies.
Large Cap Growth Fund Cash, cash equivalents, U.S. government obligations, commercial paper, bank
obligations, repurchase agreements, and negotiable U.S. dollar-denominated
obligations of domestic and foreign branches of U.S. depository institutions,
U.S. branches of foreign depository institutions, and foreign depository
institutions.
International Equity Fund Money market instruments, obligations of the U.S. Government and its agencies
and instrumentalities, other debt securities, commercial paper, bank
obligations and repurchase agreements.
Growth and Income Fund All securities authorized for purchase by the Core Bond Fund and Money Market
Fund.
Balanced Fund U.S. Government obligations, commercial paper, bank obligations, repurchase
agreements, and negotiable U.S. dollar-denominated obligations of domestic
and foreign branches of U.S. depository institutions, U.S. branches of
foreign depository institutions, and foreign depository institutions, in
cash, or in other cash equivalents.
Strategic Income Fund High Quality Bonds.
Core Bond Fund Securities authorized for purchase by the Money Market Fund.
Municipal Bond Fund Taxable high-quality short-term money market instruments.
U.S. Government Securities Money Market Securities.
Fund
</TABLE>
42
<PAGE>
<TABLE>
<S> <C>
Money Market Fund N/A
Mid Cap Value Fund Cash, cash equivalents, U.S. government obligations, commercial paper, bank
obligations, repurchase agreements, and negotiable U.S. dollar-denominated
obligations of domestic and foreign branches of U.S. depository institutions,
U.S. branches of foreign depository institutions, and foreign depository
institutions.
Stock Index Fund Cash, cash equivalents, U.S. government obligations, commercial paper, bank
obligations, repurchase agreements, and negotiable U.S. dollar-denominated
obligations of domestic and foreign branches of U.S. depository institutions,
U.S. branches of foreign depository institutions, and foreign depository
institutions.
Small Cap Index Fund Cash, cash equivalents, U.S. government obligations, commercial paper, bank
obligations, repurchase agreements, and negotiable U.S. dollar-denominated
obligations of domestic and foreign branches of U.S. depository institutions,
U.S. branches of foreign depository institutions, and foreign depository
institutions.
Socially Responsible Fund Cash, cash equivalents, U.S. government obligations, commercial paper, bank
obligations, repurchase agreements, and negotiable U.S. dollar-denominated
obligations of domestic and foreign branches of U.S. depository institutions,
U.S. branches of foreign depository institutions, and foreign depository
institutions.
High Yield Bond Fund Cash, cash equivalents, U.S. government obligations, commercial paper, bank
obligations, repurchase agreements, and negotiable U.S. dollar-denominated
obligations of domestic and foreign branches of U.S. depository institutions,
U.S. branches of foreign depository institutions, and foreign depository
institutions.
Aggressive Growth Lifestyle Cash, cash equivalents, U.S. government obligations, commercial paper, bank
Fund obligations, repurchase agreements, and negotiable U.S. dollar-denominated
obligations of domestic and foreign branches of U.S. depository institutions,
U.S. branches of foreign depository institutions, and foreign depository
institutions.
Moderate Growth Lifestyle Fund Cash, cash equivalents, U.S. government obligations, commercial paper, bank
obligations, repurchase agreements, and negotiable U.S. dollar-denominated
obligations of domestic and foreign branches of U.S. depository institutions,
U.S. branches of foreign depository institutions, and foreign depository
institutions.
Conservative Growth Lifestyle Cash, cash equivalents, U.S. government obligations, commercial paper, bank
Fund obligations, repurchase agreements, and negotiable U.S. dollar-denominated
obligations of domestic and foreign branches of U.S. depository institutions,
U.S. branches of foreign depository institutions, and foreign depository
institutions.
Municipal Money Market Fund Cash, cash equivalents, U.S. government obligations, commercial paper, bank
obligations, repurchase agreements, and negotiable U.S. dollar-denominated
obligations of domestic and foreign branches of U.S. depository institutions,
U.S. branches of foreign depository institutions, and foreign depository
institutions.
Science & Technology Fund Cash, cash equivalents, U.S. government obligations, commercial paper, bank
obligations, repurchase agreements, and negotiable U.S. dollar-denominated
obligations of domestic and foreign branches of U.S. depository institutions,
U.S. branches of foreign depository institutions, and foreign depository
institutions.
Josephthal Strategic Cash, cash equivalents, investment grade debt securities and repurchase
Growth Fund agreements.
</TABLE>
Consistent with each Fund's investment objective and policies, the Subadvisor of
the Fund may make changes in the portfolio consistent with the Fund's policies
whenever it believes doing so is in the best interest of the Fund.
43
<PAGE>
MANAGEMENT OF THE TRUST
The Trustees are responsible for generally overseeing the conduct of the Trust's
business.
The Trustees and officers of the Fund, together with information as to their
principal occupations during the past five years, are listed below:
<TABLE>
<CAPTION>
Name,
----- Principal Occupation
Address and Age Position with the Fund During Past Five Years
--------------- ---------------------- ----------------------
<S> <C> <C>
Alice T. Kane* Chairman of the Board, Trustee President of the American General Fund
286 Congress Street & President Group (1999-Present). Formerly,
Boston, MA 02210 Executive Vice President, American
Age: 52 General Investment Management, L.P.
(1998-1999); Formerly, Executive Vice
President (1994-1998) and General
Counsel (1986-1995) New York Life
Insurance Company; Chair, MainStay
Mutual Funds (1994-1998). President
and Director or Trustee of other
investment companies advised by The
Variable Annuity Life Insurance Company
("VALIC"). (1)(2)
Dr. Judith L. Craven Trustee Retired Administrator; Formerly
286 Congress Street President, United Way of the Texas Gulf
Boston, MA 02210 Coast (1992-1998); Director, Houston
Age: 54 Branch, Federal Reserve Bank of Dallas
(1992-Present), Compaq Computer
Corporation (1998-Present), Luby's Inc.
(1998-Present), A.H. Belo Corporation
(journalism, TV and radio)
(1993-Present) and SYSCO Corporation
(marketing and distribution of food)
(1996-Present). Formerly, Board
Member, Sisters of Charity of the
Incarnate Word (1996-1999). (1)(2)
William F. Devin Trustee Member of the Board of Governors of the
286 Congress Street Boston Stock Exchange. Retired
Boston, MA 02210 Executive Vice President of Fidelity
Age: 61 Capital Markets, a division of National
Financial Services Corporation in
Boston. (2)
Dr. Timothy J. Ebner Trustee Professor and Head, Department of
286 Congress Street Neuroscience and Visscher Chair of
Boston, MA 02210 Physiology (1998-Present), Director,
Age: 50 Graduate Program in Neuroscience,
University of Minnesota (1991-1999).
Formerly, Consultant to EMPI, Inc.
(1994-1995) and Medtronic Inc.
(manufacturers of medical products)
(1997-1998). (1)(2)
</TABLE>
44
<PAGE>
<TABLE>
<CAPTION>
<S> <C> <C>
Judge Gustavo E. Gonzales, Jr. Trustee Municipal Court Judge, Dallas, Texas
286 Congress Street (1995-Present); Director, Downtown
Boston, MA 02210 Dallas YMCA Board (1996-Present);
Age: 59 Director, Dallas Easter Seals Society
(1997-Present). Formerly, private
attorney (litigation) (1980-1995).
(1)(2)
Kenneth J. Lavery Trustee Vice President of Massachusetts Capital
286 Congress Street Resource Company. (2)
Boston, MA 02210
Age: 50
Ben H. Love Trustee Retired. Formerly, Director,
286 Congress Street Mid-American (waste products)
Boston, MA 02210 (1993-1997). Formerly, Chief
Age: 69 Executive, Boy Scouts of America
(1985-1993). (1)(2)
Dr. John E. Maupin, Jr. Trustee President, Meharry Medical College,
286 Congress Street Nashville, Tennessee (1994-Present);
Boston, MA 02210 Nashville Advisory Board Member, First
Age: 53 American National Bank (1996-Present);
Director, Monarch Dental Corporation
(1997-Present), LifePoint Hospitals,
Inc. (1998-Present). (1)(2)
Joseph T. Grause, Jr.* Trustee and President, American General Asset
286 Congress Street Vice President Management Corporation ("AGAM") (March,
Boston, MA 02210 2000-Present); Executive Vice President
Age: 47 of Cypress Holding Company, Inc.
(November, 1995 to March, 2000); Senior
Vice President of Sales and Marketing,
The Shareholder Services Group, a
subsidiary of First Data Corporation
(May, 1993 to November, 1995). (2)
John I. Fitzgerald Secretary and Counsel, AGAM (April, 1997-Present);
286 Congress Street Vice President Counsel, AGFD (April, 1997-Present);
Boston, MA 02210 Prior to April, 1997, Executive Vice
Age: 51 President--Legal Affairs and Government
Relations at the Boston Stock Exchange.
Thomas J. Brown Treasurer and Chief Financial Officer and Chief
286 Congress Street Vice President Administrative Officer, AGAM (March,
Boston, MA 02210 2000-Present); Principal of Cypress
Age: 53 Holding Company, Inc. (July, 1997 to
March, 2000); consultant to financial
services industry (October, 1995 to
June 1997); Executive Vice President,
Boston Company Advisors (August, 1994
to October, 1995).
</TABLE>
45
<PAGE>
<TABLE>
<S> <C> <C>
John N. Packs Vice President Director of Research, AGAM (March
286 Congress Street 2000-Present); Vice President, Cypress
Boston, MA 02210 Holding Company (November 1995-March
Age: 44 2000); Prior to November 1995,
Investment Professional, Allmerica
Financial Services.
</TABLE>
*Trustee who is an "interested person", as defined in the 1940 Act.
(1) A Director or Trustee of North American Funds Variable Product Series I,
North American Funds Variable Product Series II and USLIFE Income Fund, Inc.,
each a registered investment company for which an American General Corporation
affiliate serves as investment adviser.
(2) A Director or Trustee of North American Senior Floating Rate Fund, Inc. and
CypressTree Senior Floating Rate Fund, Inc., each a registered closed-end
investment company for which AGAM serves as investment adviser.
COMPENSATION OF TRUSTEES
The Trust does not pay any remuneration to its Trustees who are officers or
employees of AGAM, the investment adviser (the "Adviser") or its affiliates.
Trustees not so affiliated receive a quarterly retainer of $900, a fee of $900
for each meeting of the Trustees that they attend in person and a fee of $500.00
for each such meeting conducted by telephone. No pension or retirement benefits
are paid to Trustees. Trustees are reimbursed for travel and other out-of-
pocket expenses. The officers listed above are furnished to the Trust pursuant
to the Advisory Agreement described below and receive no compensation from the
Fund.
TRUSTEE COMPENSATION TABLE
The following table sets forth information regarding compensation received by
those Trustees who are not "interested persons" (as defined by the 1940 Act) of
the Trust for the fiscal year ended October 31, 1999:
46
<PAGE>
COMPENSATION TABLE
<TABLE>
<CAPTION>
(1) (2) (3)
Name of Person, Position Aggregate Compensation From the Trust Total Compensation From the Trust
and Fund Complex Paid to the
Trustees(1)
<S> <C> <C>
William F. Devin $6,200 $19,800
Trustee
Kenneth J. Lavery $6,200 $19,800
Trustee
Alice T. Kane(2) N/A N/A
Trustee
Dr. Judith L. Craven(2) N/A N/A
Trustee
Dr. Timothy J. Ebner(2) N/A N/A
Trustee
Judge Gustavo E. Gonzalez(2) N/A N/A
Trustee
Ben H. Love(2) N/A N/A
Trustee
Dr. John E. Maupin(2) N/A N/A
Trustee
Joseph T. Grause, Jr.(2) N/A N/A
Trustee
</TABLE>
47
<PAGE>
(1) The amounts listed in column (3) include total compensation paid to the
Trustees for their services as Trustees of the Trust and as Directors of the
CypressTree Senior Floating Rate Fund and the North American Senior Floating
Rate Fund. By virtue of having AGAM as investment adviser, the Trust and the
CypressTree Senior Floating Rate Fund and the North American Senior Floating
Rate Fund were considered to be part of the same "Fund Complex" for these
purposes.
(2) Elected Trustee on June 1, 2000.
No front end sales charge or CDSC is applicable to any sale of Class A shares to
a Trustee or officer of the Trust, or to the immediate families (i.e., the
spouse, children, mother or father) of such persons.
The Agreement and Declaration of Trust of the Trust provides that the Trust will
indemnify its Trustees and officers against liabilities and expenses incurred in
connection with litigation in which they may be involved because of their
offices with the Trust, except if it is determined in the manner specified in
the Agreement and Declaration of Trust that they have not acted in good faith in
the reasonable belief that their actions were in the best interests of the Trust
or that such indemnification would relieve any officer or Trustee of any
liability to the Trust or its shareholders by reason of willful misfeasance, bad
faith, gross negligence, or reckless disregard of his or her duties. The Trust,
at its expense, provides liability insurance for the benefit of its Trustees and
officers.
CODES OF ETHICS
The Trust, AGAM and American General Funds Distributors, Inc. ("AGFD"), the
Funds' distributor and principal underwriter, have adopted Codes of Ethics
pursuant to Rule 17j-1 under the 1940 Act. These Codes of Ethics permit
personnel subject to the Codes to invest in securities, including securities
that may be purchased or held by the Funds, subject to some restrictions.
PRINCIPAL HOLDERS OF SECURITIES
As of February 1, 2000, the following persons owned, of record or beneficially,
five percent or more of the outstanding securities of the indicated Fund
classes:
<TABLE>
<CAPTION>
FUND SHAREHOLDER % OF FUND HELD
---- ----------- --------------
<S> <C> <C>
Municipal Bond Fund Mary W. Hamby 5%
Class A Shares 1686 Partridge Hill Road
Lancaster, SC 29720-8886
Doris McPherson & Alice McPherson 5%
JTWROS TOD University of WI Med School
Alice R. McPherson Retina Ins.
Dr. Dan Albert, Chairman of Ophthalm.
2909 Poplar Creek Lane
Pearland, TX 77584-2014
Dain Rauscher Incorporated FBO 8%
Elbert J. Scribner
20403 S. Hillcrest
Porter, TX 77365-3858
</TABLE>
48
<PAGE>
<TABLE>
<CAPTION>
FUND SHAREHOLDER % OF FUND HELD
---- ----------- --------------
<S> <C> <C>
Municipal Bond Fund Janet E. Brown 6%
Class A Shares Emmaus Court
3109 Fellowship Road
Basking Ridge, NJ 07920-3904
Municipal Bond Fund Class B Shares Southwest Securities Inc. FBO 7%
Hellen Bebb Trust
P.O. Box 509002
Dallas, TX 75250-9002
William H. Elliot IV TTEE 5%
William H. Elliot IV
Family Ltd Partnership
1105 Crumbley Road
McDonough, GA 30252-4426
Municipal Bond Fund Class C Shares Herbert Hartman & Janet Hartman CO/TTEES 5%
UA DTD 1-8-92
Janet Hartman Trust
12850 Oak Knoll Drive
Palm Beach Gardens, FL 33418-6989
Mark A. Kielar & Tammy Kielar JT/WROS 6%
1655 SW 2nd Ave.
Boca Raton, FL 33432-7228
Claire Koh 20%
963C Heritage Hills Drive
Somers, NY 10589-1913
U.S. Government Securities Fund Paine Webber For the Benefit of 5%
Class A Shares First Federal Savings Bank
Attn: Walter Manijak
633 LaSalle Street
Ottawa, IL 61350-2931
U.S. Government Securities Fund Arlen J. DeYoung 6%
Class C Shares Eileen G. DeYoung JT TEN
8656 Vinup Road
Lynden, WA 98264-9332
Core Bond Fund State Street Bank & Trust Co. 9%
Class C Shares FBO Shirley Einhorn R/O IRA
10662 SW 79 Terr
Miami, FL 33173-2912
Core Bond Fund Analytical Pathology Services LTD 5%
Class C Shares PSP UA DTD 12-24-86
FBO Juan Kang
PMB 104
11220 W. Florissant Ave.
Florissant, MO 63033-6741
Global Equity Fund North American Life Assurance Co. 20%
Class A Shares c/o Elliott & Page, Brett HYRB
393 University Ave., Suite 2100
Toronto, Ontario
Canada MSG 1E6
</TABLE>
49
<PAGE>
<TABLE>
<CAPTION>
FUND SHAREHOLDER % OF FUND HELD
---- ----------- --------------
<S> <C> <C>
International Small Cap Fund First Union Securities, Inc. 5%
Class A Shares A/C 7285-9625
Sitnasuak Native Corporation
111 East Kilbourn Avenue
Milwaukee, WI 53202-6611
National Investor Services FBO 6%
514-90284-16
55 Water Street, 32nd Floor
New York, NY 10041-3299
International Small Cap Fund Wexford Clearing Services Corp. FBO 7%
Class B Shares Robert M. Freeman
14 Kanawha Road
Richmond, VA 23226-3308
Large Cap Growth Fund Farmers State Bank Employees Pension 8%
Class A Shares C/O Farmers State Bank Trustee U/A
Carolyn Dickerson Tr. Officer
Carolyn Bollman Asst. Tr. Officer
P.O. Box 538
108 E. Adams Street
Pittsfield, IL 62363-0538
Balanced Fund Farmers State Bank Employees Pension 8%
Class A Shares C/O Farmers State Bank Trustee U/A
Carolyn Dickerson Tt. Officer
Carolyn Bollman Asst. Tr. Officer
P.O. Box 538
108 E. Adams Street
Pittsfield, IL 62363-0538
Balanced Fund Lewco Securities Corp. 8%
Class A Shares FBO A/C #W36-900262-1-04
34 Exchange Place, 4th Floor
Jersey City, NJ 07302-3885
Small Cap Growth Fund Phyllis Hilfiker 7%
Class A Shares 8 Hasler Lane
Little Silver, NJ 07739-1650
North Pinnellas Anesthesia Association PA 11%
William N. Hartenbach MD & Marvin Sponaugle MD, TTEES
1810 Alt 19 South, Suite N
Tarpon Springs, FL 34689-1954
State Street Bank & Trust Co. 5%
Custodian for the Rollover IRA of
Cathy Z. Angellis
109 Simonds Road
Lexington, MA 02420-1620
Wexford Clearing Services Corp. FBO 6%
Constance S. Brown
2800 Kellipe Road
Glen Allen, VA 23059-4712
</TABLE>
50
<PAGE>
<TABLE>
<CAPTION>
FUND SHAREHOLDER % OF FUND HELD
---- ----------- --------------
<S> <C> <C>
Small Cap Growth Fund Zorba Productions, Inc. 5%
Class C Shares Employees Pension Plan
John Faratzis Trustee
84 Southport CV
Bonita Springs, FL 34134-8542
First Union National Bank TTEE 13%
FBO Christian Barton PSP
FBO JE Betts P/S/P U/A/D 2/1/79
A/C #5041140787 Trust Operations
1525 West WT Harris Blvd. NC 1151
Charlotte, NC 28262-8522
</TABLE>
As of February 1, 2000, the officers and Trustees of the Trust as a group owned
less than 1% of the outstanding shares of each class of each Fund.
INVESTMENT MANAGEMENT ARRANGEMENTS
The following information supplements the material appearing in the Prospectus.
ADVISORY ARRANGEMENTS
"AGAM" and "AGFD" are both wholly-owned subsidiaries of American General
Corporation, which is a part of American General Financial Group, a financial
services company with approximately $115 billion in assets and over $6 billion
in total stockholders' equity. AGAM acts as the Trust's investment adviser (the
"Adviser"), while AGFD acts as the Trust's distributor (the "Distributor") and
principal underwriter. The American General Corporation group of companies
operate in each of the 50 states, and collectively engage in substantially all
forms of financial services.
Prior to March 10, 2000, CypressTree Asset Management Corporation, Inc., was the
investment adviser to the Trust, and CypressTree Funds Distributors, Inc. was
the distributor to the Trust. Prior to October 1, 1997, NASL Financial
Services, Inc. was both the investment adviser and the distributor for the Trust
(in such capacity, the "Former Distributor").
Subject to the supervision of the Trustees, the Adviser oversees all aspects of
the Trust's business and affairs. In that connection, the Adviser permits its
directors, officers and employees to serve as Trustees or President, Vice
President, Treasurer or Secretary of the Trust, without cost to the Trust. The
Adviser also provides certain services, and the personnel to perform such
services, to the Trust for which the Trust reimburses the Adviser's costs of
providing such services and personnel. Such services include maintaining certain
records of the Trust and performing all administrative, financial, accounting,
bookkeeping and recordkeeping functions of the Trust, except for any of those
functions performed by the Trust's custodian or transfer and shareholder
servicing agents. The reimbursement paid by the Trust to the Adviser for
personnel costs include employee compensation and allocated portions of the
Adviser's related personnel expenses of office space, utilities, office
equipment and miscellaneous office expenses.
As compensation for its services, the Adviser receives a fee from the Trust
computed separately for each Fund. The fee for each Fund is stated as an annual
percentage of the current value of the net assets of the Fund. The fee, which is
accrued daily and payable monthly, is calculated for each day by multiplying the
fraction of one over the number of calendar days in the year by the annual
percentage prescribed for a Fund, and multiplying this product by the value of
the net assets of the Fund at the close of business on the previous business day
of the Fund.
51
<PAGE>
The following is a schedule of the management fees each Fund currently is
obligated to pay AGAM under the Advisory Agreement:
<TABLE>
BETWEEN BETWEEN
------------ ------------
$ 50,000,000 $200,000,000
------------ ------------
FIRST AND AND EXCESS OVER
------------ ------------ ------------ ------------
FUNDS $50,000,000 $200,000,000 $500,000,000 $500,000,000
------- ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Small Cap Growth Fund .950% .950% .950% .950%
International Small Cap Fund 1.050% 1.000% .900% .800%
Mid Cap Growth Fund .925% .900% .875% .850%
Global Equity Fund .900% .900% .700% .700%
Large Cap Growth Fund .900% .850% .825% .800%
International Equity Fund .900% .850% .800% .750%
Growth & Income Fund .725% .675% .625% .550%
Balanced Fund .775% .725% .675% .625%
Strategic Income Fund .750% .700% .650% .600%
Core Bond Fund .600% .600% .525% .475%
Municipal Bond Fund .600% .600% .600% .600%
U.S. Government Securities Fund .600% .600% .525% .475%
Money Market Fund .200% .200% .200% .145%
Mid Cap Value Fund See Below.
Stock Index Fund .270% .270% .270% .260%
Small Cap Index Fund .280% .280% .280% .270%
Socially Responsible Fund .650% .650% .650% .650%
High Yield Bond Fund .825% .825% .725% .675%
Aggressive Growth Lifestyle Fund .100% .100% .100% .100%
Moderate Growth Lifestyle Fund .100% .100% .100% .100%
Conservative Growth Lifestyle Fund .100% .100% .100% .100%
Municipal Money Market Fund .350% .350% .350% .350%
Science & Technology Fund .900% .900% .900% .900%
Josephthal Strategic Growth Fund .900% .900% .900% .900%
</TABLE>
The management fee schedule for the Mid Cap Value Fund follows: .900% on the
first $100,000,000; .875% between $100,000,000 and $250,000,000; .850% between
$250,000,000 and $500,000,000; .825% between $500,000,000 and $750,000,000, and
.800% on the excess over $750,000,000 of the average net assets of the Fund.
SUBADVISORY ARRANGEMENTS
Under the terms of each of the Subadvisory agreements between the Adviser and a
Subadvisor (the "Subadvisory Agreements"), the Subadvisor assigned to a Fund
manages the investment and reinvestment of the assets of such Fund, subject to
the supervision of the Trustees. The Subadvisor formulates a continuous
investment program for such Fund consistent with its investment objectives and
policies outlined in this Prospectus. The Subadvisor implements such programs by
purchases and sales of securities and regularly reports to the Adviser and the
Trustees with respect to their implementation.
52
<PAGE>
As compensation for their services, the Subadvisors receive fees from the
Adviser computed separately for each Fund. The fee for each Fund is stated as an
annual percentage of the current value of the net assets of the Fund. The fee,
which is accrued daily and payable monthly, is calculated for each day by
multiplying the fraction of one over the number of calendar days in the year by
the annual percentage prescribed for a Fund, and multiplying this product by the
value of the net assets of the Fund at the close of business on the previous
business day of the Fund. Once the average net assets of a Fund exceed specified
amounts, the fee is reduced with respect to the excess. Absent any applicable
fee waivers, the following is a schedule of the management fees the Adviser is
obligated to pay the Subadvisors for each Fund under the Subadvisory Agreements.
THESE FEES ARE PAID BY THE ADVISER AND ARE NOT ADDITIONAL CHARGES TO THE FUNDS
OR THEIR SHAREHOLDERS.
The following is a schedule of fees paid by the Adviser to the Subadvisors.
<TABLE>
BETWEEN BETWEEN
------------ ------------
$ 50,000,000 $200,000,000
------------ ------------
FIRST AND AND EXCESS OVER
------------ ------------ ------------ ------------
FUNDS $50,000,000 $200,000,000 $500,000,000 $500,000,000
------ ----------- ------------ ------------ ------------
<S> <C> <C> <C> <C>
Small Cap Growth Fund .550% .550% .550% .550%
International Small Cap Fund .650% .600% .500% .400%
Mid Cap Growth Fund .525% .500% .475% .450%
Global Equity Fund .500% .450% .375% .325%
Large Cap Growth Fund .500% .450% .425% .400%
International Equity Fund .500% .450% .400% .350%
Growth and Income Fund .325% .275% .225% .150%
Balanced Fund .375% .325% .275% .225%
Strategic Income Fund .350% .300% .250% .200%
Core Bond Fund .225% .225% .150% .100%
Municipal Bond Fund .250% .250% .250% .250%
U.S. Government Securities Fund .225% .225% .150% .100%
Money Market Fund .075% .075% .075% .020%
Mid Cap Value Fund See below.
Stock Index Fund See below.
Small Cap Index Fund See below.
Socially Responsible Fund .250% .250% .250% .250%
High Yield Bond Fund .450% .450% .350% .300%
Aggressive Growth Lifestyle Fund .100% .100% .100% .100%
Moderate Growth Lifestyle Fund. .100% .100% .100% .100%
Conservative Growth Lifestyle Fund .100% .100% .100% .100%
Municipal Money Market Fund .250% .250% .200% .150%
Science & Technology Fund .600% .600% .600% .550%
Josephthal Strategic Growth Fund .500% .500% .500% .500%
</TABLE>
The subadvisory fee schedules for the Mid Cap Value Fund, the Stock Index Fund,
and the Small Cap Index Fund follow: For the Mid Cap Value Fund, AGAM pays the
Subadvisor a fee at the rate of .500% on the first $100,000,000, .475% between
$100,000,000 and $250,000,000, .450% between $250,000,000 and $500,000,000,
.425% between $500,000,000 and $750,000,000, and .400% on the excess over
$750,000,000. For the Stock Index Fund, AGAM pays the Subadvisor a fee at the
rate of .020% of the first $2,000,000,000 and .010% on the excess over
$2,000,000,000. For the Small Cap Index Fund, AGAM pays the Subadvisor a fee at
the rate of .030% on the first $150,000,000 and .020% on the excess over
$150,000,000.
The subadvisory fee paid to T. Rowe Price Associates, Inc. may be discounted
based on the aggregate domestic equity assets subadvised by T. Rowe Price. Such
discount ranges from 5% for assets between $750 million and $1.5 billion, up to
10% for assets above $3 billion.
53
<PAGE>
For the fiscal years ended October 31, 1997, 1998 and 1999, the Trust paid total
advisory fees to the Adviser of $6,327,793; 7,129,573, and $6,960,548
respectively. The dollar amounts represented by each of the Funds are as
follows:
<TABLE>
11/1/96 to 11/1/97 to 11/1/98 to
Fund 10/31/97 10/31/98 10/31/99
<S> <C> <C> <C>
----------------------------------------------------------------------------------------------------------
Mid Cap Growth Fund $ 217,083 $ 313,427 $ 390,888
International Small Cap Fund 175,637 181,592 159,614
Large Cap Growth Fund 178,839 255,953 335,777
Global Equity Fund 1,106,316 1,164,468 951,657
Growth & Income Fund 1,112,269 1,527,239 1,912,464
International Equity Fund 280,663 257,885 230,737
Strategic Income Fund 561,512 619,206 498,515
Core Bond Fund 113,993 102,778 94,898
U.S. Government Fund 567,391 479,512 411,390
Municipal Bond Fund 109,842 102,477 89,986
Money Market Fund 40,088 38,630 44,172
Balanced Fund 735,884 747,288 681,955
Small Cap Growth Fund N/A *3,034 9,513
Mid Cap Value Fund N/A N/A N/A
Stock Index Fund N/A N/A N/A
Small Cap Index Fund N/A N/A N/A
Socially Responsible Fund N/A N/A N/A
High Yield Bond Fund N/A N/A N/A
Aggressive Growth Lifestyle Fund N/A N/A N/A
Moderate Growth Lifestyle Fund N/A N/A N/A
Conservative Growth Lifestyle Fund N/A N/A N/A
Municipal Money Market Fund N/A N/A N/A
Science & Technology Fund N/A N/A N/A
</TABLE>
*For the period January 6, 1998 (commencement of operations) to October 31,
1998.
54
<PAGE>
For the same periods, the Adviser paid total subadvisory fees of $2,949,885;
$3,386,336 and $3,299,474 respectively. The dollar amounts represented by each
of the Funds are as follows:
<TABLE>
Fund 11/1/96 to 11/1/97 to 11/1/98 to
10/31/97 10/31/98 10/31/99
--------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Mid Cap Growth Fund $ 123,209 $ 177,891 $ 221,855
International Small Cap Fund 108,728 112,414 98,810
Large Cap Growth Fund 99,355 142,195 186,543
Global Equity Fund 578,158 607,233 500,828
Growth & Income Fund 467,961 629,517 768,487
International Equity Fund 155,924 143,270 128,186
Strategic Income Fund 254,934 279,664 227,935
Core Bond Fund 42,747 38,542 35,587
U.S. Government Fund 212,772 179,817 154,269
Municipal Bond Fund 45,768 42,359 37,494
Money Market Fund 15,033 14,486 16,565
Balanced Fund 339,031 348,785 319,497
Small Cap Growth Fund N/A *1,756 5,910
Mid Cap Value Fund N/A N/A N/A
Stock Index Fund N/A N/A N/A
Small Cap Index Fund N/A N/A N/A
Socially Responsible Fund N/A N/A N/A
High Yield Bond Fund N/A N/A N/A
Aggressive Growth Lifestyle Fund N/A N/A N/A
Moderate Growth Lifestyle Fund N/A N/A N/A
Conservative Growth Lifestyle Fund N/A N/A N/A
Municipal Money Market Fund N/A N/A N/A
Science & Technology Fund N/A N/A N/A
---------------------------------- --- --- ---
</TABLE>
*For the period January 6, 1998 (commencement of operations) to October 31,
1998.
55
<PAGE>
For the year ended October 31, 1999 the net investment advisory fees retained by
the Adviser after payment of Subadvisory fees was $3,661,074, allocated among
the portfolios as follows:
<TABLE>
<CAPTION>
ANNUAL PERCENTAGE
FUND DOLLAR AMOUNT OF FUND NET ASSETS
---------------------------------------------------------------------------------------------
<S> <C> <C>
Mid Cap Growth Fund $ 169,033 0.40%
International Small Cap Fund 60,804 0.40%
Large Cap Growth Fund 149.234 0.40%
Global Equity Fund 450,829 0.43%
Growth & Income Fund 1,143,977 0.40%
International Equity Fund 102,551 0.40%
Strategic Income Fund 270,580 0.40%
Core Bond Fund 59,311 0.38%
U.S. Government Securities Fund 257,121 0.38%
Municipal Bond Fund 52,493 0.35%
Money Market Fund 27,607 0.13%
Balanced Fund 362,458 0.40%
Small Cap Growth Fund 3,603 0.36%
Mid Cap Value Fund N/A N/A
Stock Index Fund N/A N/A
Small Cap Index Fund N/A N/A
Socially Responsible Fund N/A N/A
High Yield Bond Fund N/A N/A
Aggressive Growth Lifestyle Fund N/A N/A
Moderate Growth Lifestyle Fund N/A N/A
Conservative Growth Lifestyle Fund N/A N/A
Municipal Money Market Fund N/A N/A
Science & Technology Fund N/A N/A
----------------------------------- --- ---
</TABLE>
The Advisory Agreement and each Subadvisory Agreement (collectively, the
"Agreements") will continue in effect as to a Fund for a period no more than two
years from the date of its execution or the execution of an amendment making the
agreement applicable to that Fund only so long as such continuance is
specifically approved at least annually either by the Trustees or by the vote of
a majority of the outstanding voting securities of each of the Funds of the
Fund, provided that in either event such continuance shall also be approved by
the vote of the majority of the Trustees who are not interested persons of any
party to the Agreements, cast in person at a meeting called for the purpose of
voting on such approval. The required shareholder approval of any continuance
of any of the Agreements shall be effective with respect to any Fund if a
majority of the outstanding voting securities of the class of capital stock of
that Fund vote to approve such continuance, notwithstanding that such
continuance may not have been approved by a majority of the outstanding voting
securities of the Fund.
The Agreements may be terminated at any time, without the payment of penalty, by
the Trustees or by the vote of a majority of the outstanding voting securities
of the applicable Fund of the Trust, with respect to any Fund by the vote of a
majority of the outstanding shares of such Fund, or by the Adviser or applicable
Subadvisor on 60 days' written notice to the other party or parties to the
Agreement and, in the case of the Subadvisory Agreements, to the Fund. Each of
the Agreements will automatically terminate in the event of its assignment.
The Agreements may be amended by the parties provided that such amendment is
specifically approved by the vote of a majority of the outstanding voting
securities of the Trust or applicable Fund(s), as the case may be, and by the
vote of a majority of the Trustees who are not interested persons of the Trust,
of the Adviser or of the applicable Subadvisor, cast in person at a meeting
called for the purpose of voting upon such approval. The required shareholder
approval of any amendment shall be effective with respect to any Fund if a
majority of the outstanding voting securities of that Fund vote to approve the
amendment, notwithstanding that the amendment may not be approved by a majority
of the outstanding voting securities of (i) any other Fund affected by the
amendment or (ii) all the Funds of the Trust.
56
<PAGE>
Each Subadvisory Agreement provides that the Subadvisor will not be liable to
the Trust or the Adviser for any losses resulting from any matters to which the
agreement relates other than losses resulting from the Subadvisor's willful
misfeasance, bad faith or gross negligence in the performance of, or from
reckless disregard of, its duties.
FUND EXPENSES
Subject to the expense waiver discussed above, the Trust is responsible for the
payment of all expenses of its organization, operations and business, except
for: (1) those expenses the Adviser has agreed to bear pursuant to the Advisory
Agreement, (2) those expenses the Distributor has agreed to bear pursuant to its
Distribution Agreement with the Trust, or (3) those expenses the Subadvisors
have agreed to pay pursuant to the Subadvisory Agreements. Among the expenses to
be borne by the Fund, in addition to certain expenses incurred by the Adviser or
Distributor, as described above, are the expense of the advisory and
distribution fees; all charges and expenses relating to the transfer,
safekeeping, servicing and accounting for the Trust's property, including
charges of depositories, custodians and other agents; all expenses of
maintaining and servicing shareholder accounts, including charges of the Trust's
transfer, dividend disbursing, shareholder recordkeeping, redemption and other
agents; costs of shareholder reports and other communications to current
shareholders; the expenses of meetings of the Trust's shareholders and the
solicitation of management proxies in connection therewith; all expenses of
preparing Trust Prospectuses and Statements of Additional Information; the
expenses of determining the Trusts' net asset value per share; the compensation
of Trustees who are not directors, officers or employees of the Adviser and all
expenses of meetings of the Trustees; all charges for services and expenses of
the Trust's legal counsel and independent auditors; all fees and expenses of
registering and qualifying, and maintaining the registration and qualification
of, the Trust and its shares under all federal and state laws applicable to the
Trust and its business activities; all expenses associated with the issue,
transfer and redemption of Trust shares; brokers' and other charges incident to
the purchase, sale or lending of the Trust's securities; taxes and other
governmental fees payable by the Fund; and any nonrecurring expenses including
litigation expenses and any expenses the Trust may incur as a result of its
obligation to indemnify its Trustees, officers and agents. All expenses are
accrued daily and deducted from total income before dividends are paid.
DISTRIBUTION PLANS
The Trust currently offers four classes of shares in each Fund: "Class A"
shares, "Class B" shares, "Class C" shares, and "Institutional Class I" shares.
In addition, the Core Bond Fund and the High Yield Bond Fund also offer
"Institutional Class II" shares. Class A, Class B and Class C shares of the
Trust are continuously offered through participating brokers which are members
of the NASD and which have dealer agreements with the Distributor.
In addition to the front end sales charge which may be deducted at the time of
purchase of Class A shares and the CDSC which may apply on redemption of Class B
shares, each class of shares of each Fund is authorized under the Distribution
Plan applicable to that class of shares (the "Class A Plan," the "Class B Plan"
and the "Class C Plan," collectively, the "Plans") adopted pursuant to Rule
12b-1 under the 1940 Act to use the assets attributable to such class of shares
of the Fund to finance certain activities relating to the distribution of shares
to investors. The Plans are "compensation" plans providing for the payment of a
fixed percentage of average net assets to finance distribution expenses. The
Plans provide for the payment by each class of shares of each Fund of the Trust,
other than the Money Market Fund and the Municipal Money Market Fund, of a
monthly distribution and service fee to the Distributor, as principal
underwriter for the Fund. Portions of the fees prescribed below are used to
provide payments to the Distributor, to promotional agents, to brokers, dealers
or financial institutions (collectively, "Selling Agents") and to Service
Organizations for ongoing account services to shareholders and are deemed to be
"service fees" as defined in paragraph (b)(9) of Section 2830 of the Conduct
Rules of the National Association of Securities Dealers, Inc.
Under the Class A Plan, Class A shares of each Fund (except as described in the
next sentence) are subject to a fee of up to .35% of their respective average
annual net assets, five-sevenths of which (.25%) constitutes a "service fee."
Class A shares of the Municipal Bond Fund are subject to a fee of up to .15% of
Class A average annual net assets, the entire amount of which constitutes a
"service fee," and Class A shares of the Money Market Fund and Municipal Money
Market Fund bear no such fees. Under the Class B Plan, Class B shares of
each Fund (with the exception of the Money Market Fund and Municipal Money
Market Fund) are subject to a fee of up to 1.00% of their respective average
annual net assets, one-fourth (.25%) of which constitutes a "service fee."
Under the Class C Plan, Class C shares of each Fund (with the exception of the
Money Market Fund and Municipal Money Market Fund) are subject to a fee of up to
1.00% of their respective average annual net assets, one-fourth (.25%) of which
constitutes a "service fee."
57
<PAGE>
Payments under the Plans are used primarily to compensate the Distributor for
distribution services provided by it in connection with the offering and sale of
the applicable class of shares, and related expenses incurred, including
payments by the Distributor to compensate or reimburse Selling Agents for sales
support services provided and related expenses incurred by such Selling Agents.
Such services and expenses may include the development, formulation and
implementation of marketing and promotional activities, the preparation,
printing and distribution of prospectuses and reports to recipients other than
existing shareholders, the preparation, printing and distribution of sales
literature, expenditures for support services such as telephone facilities and
expenses and shareholder services as the Trust may reasonably request, provision
to the Trust of such information, analyses and opinions with respect to
marketing and promotional activities as the Trust may, from time to time,
reasonably request, commissions, incentive compensation or other compensation
to, and expenses of, account executives or other employees of the Distributor or
Selling Agents, attributable to distribution or sales support activities,
respectively, overhead and other office expenses of the Distributor or Selling
Agents, attributable to distribution or sales support activities, respectively,
and any other costs and expenses relating to distribution or sales support
activities.
The distribution and service fees attributable to the Class B shares and Class C
shares are designed to permit an investor to purchase shares without the
assessment of a front end sales charge, and, with respect to the Class C shares,
without the assessment of a front end sales charge or a CDSC, and at the same
time permit the Distributor to compensate securities dealers with respect to
sales of such shares.
The amounts payable by the Aggressive Growth LifeStyle Fund, the Moderate Growth
LifeStyle Fund and the Conservative Growth LifeStyle Fund (the "LifeStyle
Funds") under the Plans to the Distributor or any other party will be reduced by
any amounts paid with respect to the Institutional Class I Shares of each
Portfolio in which a LifeStyle Fund invests (each an "Underlying Portfolio")
pursuant to the Administrative and Shareholder Services Agreement (the "Services
Agreement") between the Fund and AGAM. To the extent that any payments made by
an Underlying Portfolio pursuant to the Services Agreement should be deemed to
be indirect financing of any activity primarily intended to result in the sale
of shares of the Fund within the meaning of the Rule, then such payments shall
be deemed authorized by the Plans.
The Distributor is authorized by each Plan to retain any excess of the fees it
receives thereunder over its payments to selected dealers and its expenses
incurred in connection with providing distribution services. Thus, payments
under a Plan may result in a profit to the Distributor.
The Distributor may from time to time assist dealers by, among other things,
providing sales literature to, and holding educational programs for the benefit
of, dealers' registered representatives. Participation of registered
representatives in such informational programs will be in accordance with NASD
Conduct Rules 2820 and 2830. The Distributor may also provide additional
promotional incentives to dealers in connection with sales of shares of all
classes of the Funds of the Trust. Payments for educational programs and
promotional incentives will be provided for out of the front end sales charges
and CDSCs retained by the Distributor, any applicable Distribution Plan payments
or the Distributor's other resources. Other than Distribution Plan payments, the
Fund does not bear distribution expenses. Each of the Distributor and, with
respect to shares purchased before October 1, 1997, the Former Distributor
currently pays a trail commission to securities dealers, with respect to
accounts that such dealers continue to service for shares sold after April 1,
1994 as follows: Class A shares--0.25% annually, commencing from the date the
purchase order is accepted, for all Funds (except the Municipal Bond Fund, for
which the trail commission is 0.15%, and the Money Market Fund, for which no
trail commission is paid); Class B shares--0.25% annually, for all Funds (except
the Municipal Bond Fund, for which the trail commission is 0.15%, and the Money
Market Fund, for which no trail commission is paid); and Class C shares--1.00%
annually, for all Funds other than the Core Bond, U.S. Government Securities,
Municipal Bond and Money Market Funds and 0.90% annually, for the Core Bond,
U.S. Government Securities and Municipal Bond Fund (no trail commission is paid
on the Money Market Fund). The trail commission payable following conversion of
Class B and Class C shares to Class A shares will be in accordance with the
amounts paid for Class A shares. For Class B and Class C shares sold on or after
May 1, 1995, trail commissions commence 13 months after purchase. For Class B
and Class C shares sold prior to May 1, 1995, trail commissions commence the
date the purchase order is accepted. Trail commissions for shares sold prior to
April 1, 1994 will be paid as noted below.
58
<PAGE>
In the case of Class B shares and Class C shares sold on or after May 1, 1995,
the Distributor and, with respect to shares purchased before October 1, 1997,
the Former Distributor, will advance to securities dealers the first year
service fee at a rate equal to 0.25% of the purchase price of such shares and,
as compensation therefor, the Distributor may retain the service fee paid by the
Fund with respect to such shares for the first year after purchase. In the case
of sales of Class B shares, the Distributor will pay each dealer a fee of 4% of
the amount of Class B shares purchased (0.25% is the advancement of the first
year service fee and the remainder is a commission or transaction fee). No
commission or transaction fee is paid for sales of shares of Class B of the
Money Market Fund. In the case of sales of Class C shares, the Distributor will
pay each securities dealer a fee of 1.00% (0.90% in the case of the Core Bond,
U.S. Government Securities and Municipal Bond Fund) of the purchase price of
Class C shares purchased through such securities dealer (0.25% is the
advancement of the first year service fee and the remainder is a commission or
transaction fee). No commission or transaction fee is paid for sales of shares
of Class C of the Money Market Fund or the Municipal Money Market Fund.
In adopting the Plans, the Trustees determined that the adoption of the Plans is
in the best interests of the Trust and its shareholders, that there is a
reasonable likelihood that the Plans will benefit the Trust and its
shareholders, and that the Plans are essential to, and an integral part of, the
Trust's program for financing the sale of shares of the various Funds of the
Trust to the public.
The Distributor is a broker/dealer registered under the Securities Exchange Act
of 1934, as amended ("1934 Act") and a member of the NASD. The Distributor's
address is the same as that of the Trust.
Neither a Plan nor any related agreements can take effect until approved by a
majority vote of both all the Trustees and those Trustees who are not interested
persons of the Trust and who have no direct or indirect financial interest in
the operation of a Plan or in any agreements related to it (the "Independent
Trustees"), cast in person at a meeting called for the purpose of voting on such
Plan and the related agreements.
The Plans will continue in effect only so long as their continuance is
specifically approved at least annually by the Trustees in the manner described
above. The Trustees will receive quarterly and annual statements concerning
distribution and shareholder servicing expenditures. In such statements, only
expenditures properly attributable to the sale or servicing of a particular
class of shares will be used to justify any distribution or servicing fee
charged to that class. Expenditures not related to the sale or servicing of a
particular class will not be presented to the Trustees to justify any fee
attributable to that class. The statements, including the allocations upon
which they are based, will be subject to the review and approval of the
Independent Trustees in the exercise of their fiduciary duty. Each Plan may be
terminated at any time with respect to any one or more Funds by a majority vote
of the Independent Trustees or by vote of a majority of the outstanding voting
securities attributable to Class A, Class B and Class C shares, as applicable,
of such Fund or Funds. If a Plan is terminated by the Trustees or is otherwise
discontinued with respect to one or more Funds, no further payments would be
made by the Trust in respect of the Class A, Class B and Class C shares, as
applicable, of such Fund or Funds under that Plan. A Plan may remain in effect
with respect to Class A, Class B, or Class C shares, as applicable, of a Fund
even if it has been terminated with respect to the Class A, Class B and Class C
shares, as applicable, of one or more other Funds.
A Plan may not be amended with respect to any class of any Fund so as to
materially increase the amount of the fees payable thereunder unless the
amendment is approved by a vote of at least a majority of the outstanding voting
securities of such class of such Fund. In addition, no material amendment to a
Plan may be made unless approved by the Trustees in the manner described above
for Trustee approval of the Plans.
59
<PAGE>
For the period November 1, 1998 to October 31, 1999, the Fund paid distribution
and service fees pursuant to the Class A Plan to the Distributor of $668,952
comprised of:
$20,192 from the Mid Cap Growth Fund,
$7,675 from the International Small Cap Fund,
$17,231 from the Large Cap Growth Fund,
$81,774 from the Global Equity Fund,
$158,039 from the Growth & Income Fund,
$42,157 from the Strategic Income Fund,
$41,514 from the Balanced Fund,
$19,724 from the Core Bond Fund,
$151,280 from the U.S. Government Securities Fund,
$13,640 from the International Equity Fund,
$8,045 from the Municipal Bond Fund, and
$687 from the Small Cap Growth Fund.
For the period November 1, 1998 to October 31, 1999, the Fund paid distribution
and service fees pursuant to the Class B Plan to the Distributor of $2,842,892
comprised of:
$171,666 from the Mid Cap Growth Fund,
$71,002 from the International Small Cap Fund,
$149,211 from the Large Cap Growth Fund,
$288,848 from the Global Equity Fund,
$943,742 from the Growth & Income Fund,
$268,194 from the Strategic Income Fund,
$170,727 from the Balanced Fund,
$46,976 from the Core Bond Fund,
$131,921 from the U.S. Government Securities Fund,
$145,027 from the International Equity Fund,
$49,930 from the Municipal Bond Fund, and
$5,043 from the Small Cap Growth Fund.
For the period November 1, 1998 to October 31, 1999, the Fund paid distribution
and service fees pursuant to the Class C Plan to the Distributor of $4,514,731,
comprised of:
$193,223 from the Mid Cap Growth Fund,
$59,084 from the International Small Cap Fund,
$174,643 from the Large Cap Growth Fund,
$534,908 from the Global Equity Fund,
$1,464,659 from the Growth & Income Fund,
$287,809 from the Strategic Income Fund,
$616,807 from the Balanced Fund,
$54,899 from the Core Bond Fund,
$121,489 from the U.S. Government Securities Fund,
$72,373 from the International Equity Fund,
$46,413 from the Municipal Bond Fund, and
$3,007 from the Small Cap Growth Fund.
60
<PAGE>
For the periods November 1, 1996 to October 31, 1997, November 1, 1997 to
October 31, 1998 and November 1, 1998 to October 31, 1999, the Distributor
received underwriting commissions of $880,600; $720,619 and $369,102,
respectively. The dollar amounts were comprised as reflected below, with
respect to shares of the following Funds:
<TABLE>
11/1/96 to 11/1/97 to 11/1/98 to
FUND 10/31/97 10/31/98 10/31/99
--------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Mid Cap Growth Fund 49,974 37,678 29,267
International Small Cap Fund 33,696 7,460 2,890
Large Cap Growth Fund 36,270 35,566 26,686
Global Equity Fund 36,504 50,852 39,745
Growth & Income Fund 256,762 232,745 179,324
International Equity Fund 33,761 10,257 13,846
Strategic Income Fund 104,745 52,633 9,887
Core Bond Fund 16,552 18,138 5,727
U.S. Government Securities Fund 120,538 58,690 19,362
Municipal Bond Fund 7,803 15,834 1,493
Balanced Fund 46,676 37,883 12,245
Small Cap Growth Fund N/A *2,821 1,949
Mid Cap Value Fund N/A N/A N/A
Stock Index Fund N/A N/A N/A
Small Cap Index Fund N/A N/A N/A
Socially Responsible Fund N/A N/A N/A
High Yield Bond Fund N/A N/A N/A
Aggressive Growth Lifestyle Fund N/A N/A N/A
Moderate Growth Lifestyle Fund N/A N/A N/A
Conservative Growth Lifestyle Fund N/A N/A N/A
Municipal Money Market Fund N/A N/A N/A
Money Market Fund N/A N/A N/A
Science & Technology Fund N/A N/A N/A
--------------------------------------- -------- ------- -------
</TABLE>
* For the period January 6, 1998 (commencement of operations) to October 31,
1998.
Of the total underwriting commissions received during the three fiscal year
periods, $0, $95,918 and $58,916, respectively, were retained by the
Distributor. The balance of such commissions was paid to securities dealers and
the promotional agent. During such periods the Distributor did not receive
directly or indirectly from the Trust any compensation on the redemption or
repurchase of Trust shares, brokerage commissions or other underwriting
compensation.
ADMINISTRATIVE AND SHAREHOLDER SERVICES
The Trust has adopted an Administrative and Shareholder Services Agreement with
AGAM pursuant to which Institutional Class I shares pay an administrative fee of
25 basis points for administrative and shareholder services.
61
<PAGE>
PORTFOLIO BROKERAGE
Pursuant to the Subadvisory Agreements, the Subadvisors are responsible for
placing all orders for the purchase and sale of portfolio securities of the
Funds, the portfolio transactions for which are the responsibility of the
Adviser. The Subadvisors have no formula for the distribution of the Funds'
brokerage business, their intention being to place orders for the purchase and
sale of securities with the primary objective of obtaining the most favorable
overall results for the Funds. The cost of securities transactions for each
Fund will consist primarily of brokerage commissions or dealer or underwriter
spreads. Bonds and money market instruments are generally traded on a net basis
and do not normally involve either brokerage commissions or transfer taxes.
Occasionally, securities may be purchased directly from the issuer. For
securities traded primarily in the over-the-counter market, the Subadvisors
will, where possible, deal directly with dealers who make a market in the
securities unless better prices and execution are available elsewhere. Such
dealers usually act as principals for their own account.
The Subadvisors consider various factors in selecting brokers through which
orders for client accounts are executed. The Subadvisors' primary consideration
is the broker's ability to provide the best execution of the trade (including
both trade price and commission). Assuming equal execution capabilities, the
Subadvisors also take other factors into account.
In determining which brokers provide best execution, the Subadvisors look
primarily to the stock price quoted by the broker, and normally place orders
with the broker through which they can obtain the most favorable price. If the
same price is available from more than one broker, a Subadvisor's judgment as to
the following factors may influence the selection of a broker for a particular
trade: the execution, clearance and settlement capabilities of the brokers under
consideration; the nature of the security being traded; the difficulty of
execution; the size of the transaction; the desired timing of the trade; the
activity existing and expected in the market for the particular security;
confidentiality; the financial stability of the brokers under consideration;
actual or apparent operational problems of any broker under consideration; and
the negotiated commission rates available at the time of the trade. The
Subadvisors may also consider the willingness of particular brokers to sell
shares of the Fund, subject to best execution and difficulty of execution.
The Subadvisors may also consider the nature and extent of research services
provided when they select brokers. Assuming equal execution capabilities as
described above, the Subadvisors may direct commission business to brokers who
provide research services. Such services include, but are not limited to:
analyses and reports concerning economic factors and trends, industries,
specific securities, portfolio strategy, and valuation and performance of
accounts; advice regarding critical factors supporting research recommendations
and special reports or information based on the specific requests of a
Subadvisor's portfolio manager/analysts. The Subadvisors may also from time to
time obtain research services prepared by third parties and provided by brokers
in exchange for a predetermined amount of commission business. These services
include portfolio monitoring, analysis and performance measurement systems,
various economic forecasting and research services covering stocks and bonds,
research and trading conferences, and a source of information as to block
trading opportunities. Some third party arrangements are cancelable at any time
while others require notice. Such third party arrangements do not involve a
substantial amount of the Subadvisors' commission business on behalf of clients.
The Subadvisors may employ affiliated brokers for portfolio transactions.
In accordance with industry practice, commission rates are normally determined
through negotiations with brokers conducted by the Subadvisors' traders. These
negotiations take into account industry norms for particular transactions, the
size and type of trades, the size and expertise of the brokerage firm involved
and the nature of brokerage and research services provided, including special
services in connection with a particular trade. (Such special services could
include, among other things, the assumption of market risk in connection with a
trade or series of trades or the facilitation of trades in a thin or volatile
market.) Commission rates paid by the Subadvisors in those cases may be higher
than those charged by brokers for execution of similar trades without the
provision of research and/or special services.
No precise monetary value can be assigned to research and special execution
services furnished to the Subadvisors by brokers. The Subadvisors will review
all research services and will determine if the amounts of commissions directed
to brokers are reasonable in relation to the value of the brokerage and research
services provided, viewed in terms of both particular transactions and the
Subadvisors' overall responsibilities with respect to the accounts over which
they exercise investment discretion. Each Subadvisor will maintain an internal
allocation procedure to identify those brokers who provide them with research
services and the amount of research services they provide, and will endeavor to
direct sufficient commissions to them to ensure the continued receipt of such
services as the Subadvisor believes to be valuable.
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<PAGE>
Research services furnished by brokers may be used in servicing all of the Funds
of the Trust advised by a Subadvisor and any other accounts over which that
Subadvisor exercises investment discretion, although not all of such services
may be used in connection with any particular Fund that paid commissions to the
brokers providing such services.
The Subadvisors' practices in selecting brokers will be reviewed periodically by
the Trustees.
The Subadvisors and/or their affiliates currently manage portfolios and accounts
other than those of the Trust. Although investment recommendations or
determinations for the Trust's Funds will be made by the Subadvisors
independently from the investment recommendations and determinations made by
them for any other portfolio or account or by the Subadvisors' affiliates for
the portfolios or accounts they manage, investments deemed appropriate for the
Trust's Funds by the Subadvisors may also be deemed appropriate by them or
affiliated advisers for other portfolios or accounts, so that the same security
may be purchased or sold at or about the same time for both the Trust's Funds
and such other portfolios or accounts. In such circumstances, the Subadvisors
may determine that orders for the purchase or sale of the same security for the
Trust's Funds and one or more other portfolios or accounts should be combined,
in which event the transactions will be priced and allocated in a manner deemed
by the Subadvisors to be equitable and in the best interests of the Trust's
Funds and such other portfolios or accounts. While in some instances combined
orders could adversely affect the price or volume of a security, the Subadvisors
and the Trust believe that its participation in such transactions on balance
will produce better overall results for the Trust.
For the fiscal years ended October 31, 1997, 1998 and 1999, the Funds paid
brokerage commissions in connection with portfolio transactions of $1,102,121;
$1,033,506 and $1,476,984, respectively. The dollar amounts represented by each
of the Funds are as follows:
63
<PAGE>
<TABLE>
<CAPTION>
FUND 11/1/96 TO 10/31/97 11/1/97 TO 10/31/98 11/1/98 TO 10/31/99
----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Mid Cap Growth Fund $ 70,946 $123,987 $142,896
International Small Cap Fund 64,279 37,107 164,253
Large Cap Growth Fund 62,974 59,360 74,175
Global Equity Fund 185,238 156,058 254,432
Growth & Income Fund 135,545 96,897 161,296
International Equity Fund 108,863 151,566 81,511
Balanced Fund 375,418 321,229 293,100
Small Cap Growth Fund N/A 1,195 1,405
</TABLE>
From November 1, 1998 to October 31, 1999, brokerage commissions were paid to
Salomon Smith Barney as follows:
<TABLE>
<CAPTION>
% OF TRUST'S BROKERAGE % OF AGGREGATE $ AMOUNT
COMMISSIONS REPRESENTED OF TRANSACTIONS FOR THE
FUND 11/0/98 TO 10/31/99 FOR THE PERIOD PERIOD
----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
International Small Cap Fund $ 12 0.00% 0.00%
International Equity Fund 3,794 4.65% 3.52%
Global Equity Fund 13,375 5.25% 4.46%
Small Cap Growth Fund 13 0.93% 1.07%
Large Cap Growth Fund 2,773 3.74% 5.45%
Growth & Income Fund 5,316 3.30% 2.38%
Balanced Fund 3,232 1.10% 1.94%
</TABLE>
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<PAGE>
From November 1, 1998 to October 31, 1999, brokerage commissions were paid to
J.P. Morgan Securities as follows:
<TABLE>
% OF TRUST'S BROKERAGE % OF AGGREGATE $ AMOUNT
11/0/98 TO COMMISSIONS REPRESENTED FOR THE OF TRANSACTIONS FOR THE
FUND 10/31/99 PERIOD PERIOD
----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
International Small Cap Fund $ 169 1.00% 0.11%
International Equity Fund 485 0.59% 0.34%
Global Equity Fund 10,986 4.32% 3.38%
Large Cap Growth Fund 2,341 3.16% 3.31%
Growth & Income Fund 3,306 2.05% 2.38%
Balanced Fund 9,958 3.40% 3.63%
</TABLE>
MULTIPLE PRICING SYSTEM
The Trust's Multiple Pricing System permits an investor to choose the method of
purchasing shares that is most beneficial given the amount of the purchase and
the length of time the investor expects to hold the shares.
CLASS A SHARES. Purchases of Class A shares of less than $1 million are
offered for sale at net asset value per share plus a front end sales charge of
up to 5.75% for the Equity Funds (4.75% for the Income Funds) payable at the
time of purchase (with the exception of Class A shares of the Money Market Fund
and Municipal Money Market Fund, which are offered without such a charge).
Equity Funds are defined to include Growth & Income, Large Cap Growth, Mid Cap
Growth, Mid Cap Value, Science & Technology, Small Cap Growth, Small Cap Index,
Socially Responsible, Stock Index, Global Equity, International Equity,
International Small Cap, Balanced, Aggressive Growth Lifestyle, Conservative
Growth Lifestyle and Moderate Growth Lifestyle Funds. Income Funds are defined
to include Core Bond, High Yield Bond, Municipal Bond Strategic Income and U.S.
Government Securities Funds.
Purchases of Class A shares of $1 million or more are offered for sale at net
asset value without a front end sales charge but are subject to a contingent
deferred sales charge ("CDSC") of 1% of the dollar amount subject thereto during
the first year after purchase. In addition, Class A shares are subject to a
distribution fee of up to .10% of their respective average annual net assets and
a service fee of up to .25% of their respective average annual net assets (with
the exception of Class A shares of the Money Market Fund and Municipal Money
Market Fund, which bear no such fees, and Class A shares of the Municipal Bond
Fund, which are subject to a service fee of up to .15% of Class A average annual
net assets and are not subject to any distribution fee). Certain purchases of
Class A shares qualify for reduced front end sales charges.
CLASS B SHARES. Class B shares are offered for sale for purchases of $250,000
or less. Class B shares are offered for sale at net asset value without a front
end sales charge, but are subject to a CDSC of 5% of the dollar amount subject
thereto during the first and second year after purchase, and declining by 1%
each year thereafter to 0% after the sixth year. In addition, Class B shares
are subject to a distribution fee of up to .75% of their respective average
annual net assets and a service fee of up to .25% of their respective average
annual net assets (with the exception of Class B shares of the Money Market Fund
and Municipal Money Market Fund, which bear no such fees). The Class B shares
enjoy the benefit of permitting all of the investor's dollars to work from the
time the investment is made. The higher ongoing distribution and service fees
paid by Class B shares will cause such shares to have a higher expense ratio and
to pay lower dividends than Class A shares. Class B shares purchased on or
after October 1, 1997 will automatically convert to Class A shares eight years
after the end of the calendar month in which the shareholder's order to purchase
was accepted.
65
<PAGE>
CLASS C SHARES. Class C shares are offered for purchases of less than $1
million, at net asset value without a front end sales charge. Class C shares are
subject to a CDSC of 1% of the dollar amount subject thereto during the first
year after purchase. Class C shares are subject to a distribution fee of up to
.75% of their respective average annual net assets and a service fee of up to
.25% of their respective average annual net assets (with the exception of Class
C shares of the Money Market Fund and Municipal Money Market Fund, which bear no
such fees). Class C shares, like Class B shares, enjoy the benefit of permitting
all of the investor's dollars to work from the time the investment is made. The
higher ongoing distribution and service fees paid by Class C shares will cause
such shares to have a higher expense ratio and to pay lower dividends than Class
A shares. Class C shares purchased on or after July 1, 1999 will not be
converted to Class A shares after ten years. Class C shares purchased before
July 1, 1999 will automatically convert to Class A shares ten years after the
end of the calendar month in which the shareholder's order to purchase was
accepted.
INSTITUTIONAL CLASS I SHARES. Institutional Class I shares are offered for sale
through employer plans. Institutional Class I shares are available to any
qualifying employer plan once the plan establishes a minimum account balance of
$1 million with the Trust. Institutional Class I shares of each Fund are
subject to an administrative services fee of .25% of each Fund's respective
average annual net assets.
Institutional Class I shares are also available for purchase by or through the
following:(1) Certain broker-dealers and other financial institutions that have
entered into an agreement with the Distributor which includes a requirement that
such shares be sold for the benefit of clients participating in a "wrap account"
or a similar managed account program under which clients (a) pay an asset-based
fee and (b) will have at least $1 million invested in Institutional Class I
shares.
(2) Registered investment advisers offering a "wrap account" or a similar
managed account program under which clients (a) pay an asset-based fee and (b)
will have at least $1 million invested in Institutional Class I shares.
(3) Trust institutions and bank trust departments that (a) charge an asset-
based fee and (b) will have at least $1 million invested in Institutional Class
I shares.
(4) A charitable organization (as defined for purposes of Section 501(c)(3) of
the Code) investing $1 million or more.
Institutional Class I shares are also available for purchase by the Aggressive,
Moderate and Conservative Growth Lifestyle Funds.
INSTITUTIONAL CLASS II SHARES. Institutional Class II shares are offered for
sale only through employer plans, and are available for the Core Bond Fund and
High Yield Bond Fund only. Institutional Class II shares are available to any
qualifying employer plan once the plan establishes a minimum account balance of
$500 million with the Trust.
CONTINGENT DEFERRED SALES CHARGE. Purchases of $1 million or more of Class A
shares are subject to a CDSC of 1% if redeemed within one year of purchase;
purchases of Class B shares are subject to a CDSC of 5% during the first and
second year after purchase declining by 1% each year thereafter to 0% after the
sixth year; and Class C shares are subject to a CDSC of 1% if redeemed within
one year of purchase. The applicable percentage is assessed on an amount equal
to the lesser of the original purchase price or the redemption price of the
shares redeemed. The CDSC is not applicable with respect to redemption of shares
of the Money Market Fund and Municipal Money Market Fund which were initially
purchased as such and which were never exchanged for shares of the same class of
another Fund. However, in the case of shares of the Money Market Fund and
Municipal Money Market Fund which were obtained through an exchange, such shares
are subject to any applicable CDSC due at redemption. Similarly, shares
initially purchased as shares of the Money Market Fund and Municipal Money
Market Fund which are subsequently exchanged for shares of the same class of
other Funds will be subject to any applicable CDSC due at redemption.
66
<PAGE>
CONVERSION FEATURE. Class B shares (purchased on or after October 1, 1997) and
Class C shares (purchased before July 1, 1999) of all Funds except the Money
Market Fund and Municipal Money Market Fund will automatically convert to Class
A shares eight years and ten years, respectively, after the end of the calendar
month in which the shareholder's order to purchase was accepted and will
thereafter no longer be subject to the higher distribution and service fees.
Such conversion will be on the basis of the relative net asset values per share,
without the imposition of any sales charge, fee or other charge. (For Class B
shares purchased prior to October 1, 1997 such conversion will take place six
years after purchase.) Class B and Class C shares of the Money Market Fund and
Municipal Money Market Fund do not convert to Class A shares of the Money Market
Fund and Municipal Money Market Fund at any time, as shares of all classes of
the Money Market Fund and Municipal Money Market Fund do not bear any
distribution or service fees. In addition, because Class B and Class C shares of
the Money Market Fund and Municipal Money Market Fund are not subject to any
distribution or service fees, the applicable conversion period is tolled for any
period of time in which Class B or Class C shares are held in that Fund. For
example, if Class B shares of a Fund other than the Money Market Fund and
Municipal Money Market Fund are exchanged for Class B shares of the Money Market
Fund two years after purchase and are subsequently exchanged one year later for
Class B shares of a Fund other than the Money Market Fund and Municipal Money
Market Fund, the one year of ownership in the Money Market Fund and Municipal
Money Market Fund does not count in the determination of the time of conversion
to Class A shares.
For purposes of the conversion of Class B and Class C shares to Class A shares,
shares purchased through the reinvestment of dividends and distributions paid on
Class B shares, or purchased prior to July 1, 1999 through the reinvestment of
dividends or distributions paid on Class C shares, as the case may be, will be
considered to be held in a separate sub-account. Each time any Class B shares or
Class C shares in the shareholder's Fund account (other than those in the sub-
account) convert to Class A shares, a pro rata portion of the Class B shares or
Class C shares, as the case may be, in the sub-account will also convert to
Class A shares.
The Trust believes that the conversion of either Class B or Class C shares to
Class A shares does not constitute a taxable event under Federal income tax law.
If the Trust's view on this matter changes, it may suspend conversion of Class B
or Class C shares. In that event, which the Trust considers unlikely, no
further conversions of Class B or Class C shares would occur, and those shares
might continue to be subject to higher distribution and service fees for an
indefinite period that may extend beyond the period ending eight years or ten
years, respectively, after the end of the calendar month in which the
shareholder's order to purchase was accepted.
FACTORS FOR CONSIDERATION. The Trust's Multiple Pricing System is designed to
provide investors with the option of choosing the class of shares which is best
suited to their individual circumstances and objectives. The different sales
charges, distribution and service fees and conversion features applicable to
each class, as outlined above, should all be taken into consideration by
investors in making the determination of which alternative is best suited for
them. There are several key distinctions among the classes of shares that
investors should understand and evaluate in comparing the options presented by
the Multiple Pricing System. Class A shares are subject to lower distribution
and service fees than are Class B and Class C shares, and, accordingly, pay
correspondingly higher dividends per share. However, because a front end sales
charge is deducted at the time of purchase for purchases of less than $1 million
of Class A shares, investors purchasing Class A shares do not have all of their
funds invested initially and, therefore, initially own fewer shares than they
would own if they had invested the identical sum in Class B shares or Class C
shares instead. In addition, Class C shares are subject to the same ongoing
distribution and service fees as Class B shares but are subject to a CDSC for a
shorter period of time (one year as opposed to six years) than Class B shares.
However, Class B shares convert to Class A shares, and lower ongoing
distribution and service fees, in a shorter time frame than do Class C shares.
67
<PAGE>
In light of these distinctions among the classes of shares, investors should
weigh such factors as (i) whether they qualify for a reduced front end sales
load for a purchase of Class A shares; (ii) whether, at the time of purchase,
they anticipate being subject to a CDSC upon redemption if they purchase Class A
shares (purchases of $1 million or more), Class B shares or Class C shares;
(iii) the differential in the relative amounts that would be paid during the
anticipated life of investments (which are made at the same time and in the same
amount) in each class which are attributable to (a) the front end sales charge
(for purchases of less than $1 million) and any applicable CDSC (for purchases
of $1 million or more) and accumulated distribution and service fees payable
with respect to Class A shares and (b) the accumulated distribution and service
fees (and any applicable CDSC) payable with respect to Class B shares or Class C
shares prior to their conversion to Class A shares; and (iv) to what extent the
differential referred to above might be offset by the higher yield of Class A
shares. Investors should also weigh these considerations against the fact that
the higher continued distribution and service fees associated with Class B
shares and Class C shares will be offset to the extent any return is realized on
the additional funds initially invested and that there can be no assurance as to
the return, if any, which will be realized on such additional funds. Class A
shares are, in general, the most beneficial for the investor who qualifies for
reduced front end sales charges. For this reason, Class B shares are not
offered for purchases in excess of $250,000 and Class C shares are not offered
for purchases of $1 million or more. Investors should consult their investment
representative for assistance in evaluating the relative benefits of the
different classes of shares.
Dividends paid by a Fund with respect to each class of shares will be calculated
in substantially the same manner at the same time on the same day, except that
distribution and service fees and any other costs specifically attributable to a
particular class of shares will be borne solely by the applicable class. Shares
of a Fund may be exchanged for shares of the same class of any other Fund, but
not for shares of other classes of any Fund.
Taxable dividends from any source, other than long-term capital gains,
distributed to individuals by mutual funds are currently taxed at federal income
tax rates of up to 39.6%, and the effective tax rate may be higher due to
limitations at higher income levels on allowable deductions and exemptions.
Long-term capital gains distributed to individuals by mutual funds are currently
taxed at a federal income tax rate of 20%. Taxable dividends from any source,
including long-term capital gains, distributed to corporations by mutual funds
are currently taxed at federal income tax rates of up to 35%. Additionally,
state taxes on mutual fund distributions reduce after-tax returns.
CAPITAL STOCK
All shares of beneficial interest, $.001 par value per share, of each Fund have
equal voting rights (except as described below with respect to matters
specifically affecting a class of shares) and have no preemptive or conversion
rights. The Trust's Agreement and Declaration of Trust permits the issuance of
multiple classes of shares pursuant to the Multiple Pricing System. Shares of
each class of a Fund represent interests in that Fund in proportion to each
share's net asset value. The per share net asset value of each class of shares
in a Fund is calculated separately and may differ as between classes as a result
of the differences in distribution and service fees payable by the classes and
the allocation of certain incremental class-specific expenses to the appropriate
class to which such expenses apply.
All shares of the Trust have equal voting rights and will be voted in the
aggregate, and not by series (Fund) or class, except where voting by series or
class is required by law or where the matter involved affects only one series or
class (for example, matters pertaining to the plan of distribution relating to
Class A shares will only be voted on by Class A shares). Matters required by the
1940 Act to be voted upon by each affected series include changes to (i) the
Advisory Agreement, (ii) a Subadvisory Agreement and (iii) fundamental
investment objectives and policies.
The Trust is not generally required to hold annual meetings of shareholders.
However, the Trustees may call special meetings of shareholders for action by
shareholder vote as may be requested in writing by the holders of 25% or more of
the outstanding shares of the Trust (10% in the case of a meeting requested for
the purpose of removing a Trustee) or as may be required by applicable laws.
Shareholders seeking to call a meeting for the purpose of removing a Trustee
will be assisted by the Trust in communicating with other shareholders, provided
the shareholders seeking to call a meeting are at least ten in number, have been
shareholders for at least six months and hold in the aggregate at least one
percent of the outstanding shares or shares having a value of at least $25,000,
whichever is less. Also, Trustees may be removed by action of the holders of
two-thirds or more of the outstanding shares of the Fund. The Trustees are
authorized to create additional series and classes of shares at any time without
approval by shareholders.
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<PAGE>
Under Massachusetts law, shareholders of a business trust may, in certain
circumstances, be held personally liable as partners for the obligations of the
Trust. However, the Trust's Agreement and Declaration of Trust contains an
express disclaimer of shareholder liability for acts or obligations of each Fund
of the Trust and requires that notice of such disclaimer be given in each
instrument entered into or executed by the Trust. The Agreement and Declaration
of Trust also provides for indemnification out of a Fund's property for any
shareholder of such Fund held personally liable for any of the Fund's
obligations. Thus, the risk of a shareholder being personally liable as a
partner for obligations of a Fund is limited to the unlikely circumstance in
which the Fund itself would be unable to meet its obligations.
PURCHASE, REDEMPTION AND PRICING
Certain Qualified Purchasers. No front end sales charge or CDSC is applicable
to any sale of Class A shares to any current or retired Trustee or officer of
the Trust or of a Fund, or to the immediate families (i.e., the spouse,
children, mother or father) of such persons, or any director, officer, or full-
time employee or registered representative (and when permitted, the employees
thereof) of broker/dealers having Dealer Agreements with the Distributor
("Selling Broker") and their immediate families (or any trust, pension, profit
sharing or other benefit plan for the benefit of such persons), or any full-time
employee of a bank, savings and loan, credit union or other financial
institution that utilizes a Selling Broker to clear purchases of Fund shares,
and their immediate families. In addition, no front end sales charge or CDSC is
applicable on any sale to American General Corporation or any of its affiliates,
the Subadvisors, or to a director, officer, full-time employee or sales
representative of American General Corporation or any of its affiliates, the
Subadvisors or any of their affiliates, or to the immediate families of such
persons, or any trust, pension, profit-sharing or other benefit plan for the
benefit of such persons. Furthermore, no front end sales charge or CDSC is
applicable to any sale of Class A shares to: (1) financial institution trust
departments investing an aggregate of $1 million or more in the Funds; (2)
accounts for which broker/dealers, financial institutions, or financial planners
charge and account management fee (also called a "wrap" fee); (3) tax-qualified
plans with more than $1 million in plan assets; (4) tax-qualified plans
purchasing shares with loan repayments from participants; and (5) by a Fund in
connection with the acquisition of another investment company.
No front end sales charge or CDSC on Class A shares is applicable to continuing
purchase payments made in connection with Code Section 401 qualified plans that
were invested in the Fund prior to April 1, 1994.
A qualified retirement plan that is currently a shareholder of the Fund may make
additional purchases of Class A shares at net asset value (i.e., without the
imposition of a front end sales load or CDSC). A commission or transaction fee
of 1.00% will be paid by the Distributor to broker-dealers, banks and other
financial service firms subject to a chargeback to the firm for redemptions made
within one year from the date of purchase.
Shares may be sold at net asset value to certain categories of investors,
including to shareholders of other investment companies, who invest in North
American Funds in response to certain promotional activities.
Class A shares may be purchased at net asset value by certain broker-dealers and
other financial institutions which have entered into an agreement with the
Distributor, which includes a requirement that such shares be sold for the
benefit of clients participating in a "wrap account" or a similar account
program under which such clients pay a fee to such broker-dealer or other
financial institution. Class A shares may also be purchased at net asset value
by registered investment advisers for the benefit of client accounts if the
adviser charges a fee (other than brokerage commissions) for his services.
DETERMINATION OF NET ASSET VALUE
The following supplements the discussion set forth in the Prospectus. The
assets belonging to each class of shares of a Fund will, in each case, be
invested together in a single portfolio. The net asset value of each class will
be determined separately by subtracting the expenses and liabilities allocated
to that class from the assets belonging to that class.
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<PAGE>
The Trustees have authorized the Funds to value certain debt securities by
reference to valuations obtained from pricing services which take into account
appropriate factors such as institution-size trading in similar groups of
securities, yield, quality, coupon rate, maturity, type of issue, trading
characteristics and other market data in determining valuations of such
securities, without extensive reliance upon quoted prices, since such valuations
are believed by the Trustees to more accurately reflect the fair value of such
securities.
Securities held by each of the Funds other than the Money Market Fund and the
Municipal Money Market Fund, except for money market instruments with remaining
maturities of 60 days or less, are valued as follows: securities which are
traded on stock exchanges are valued at the last sales price as of the close of
the Exchange, or lacking any sales, at the closing bid prices. Securities traded
only in the "over-the-counter" market are valued at the last bid prices quoted
by brokers that make markets in the securities at the close of trading on the
Exchange. Securities and assets for which market quotations are not readily
available or not obtained from a pricing service are valued at fair value as
determined in good faith by the Trustees, although the actual calculations may
be made by persons acting pursuant to the direction of the Trustees. If approved
by the Trustees, the Fund may make use of a pricing service or services in
determining the net asset value of the classes of the Funds.
All instruments held by the Money Market Fund and the Municipal Money Market
Fund and money market instruments with a remaining maturity of 60 days or less
held by the other Funds will be valued on an amortized cost basis. Under this
method of valuation, the instrument is initially valued at cost (or in the case
of instruments initially valued at market value, at the market value on the day
before its remaining maturity is such that it qualifies for amortized cost
valuation); thereafter, the Fund assumes a constant proportionate amortization
in value until maturity of any discount or premium, regardless of the impact of
fluctuating interest rates on the market value of the instrument. While this
method provides certainty in valuation, it may result in periods during which
value, as determined by amortized cost, is higher or lower than the price that
would be received upon sale of the instrument.
The Money Market Fund and the Municipal Money Market Fund uses the amortized
cost valuation method in reliance upon Rule 2a-7 under the 1940 Act. As
required by Rule 2a-7, the Money Market Fund and the Municipal Money Market Fund
will maintain a dollar weighted average maturity of 90 days or less. The
Trustees have established procedures designed to stabilize, to the extent
reasonably possible, the Money Market Fund's and the Municipal Money Market
Fund's price per share (for each class) as computed for the purposes of sales
and redemptions at $1.00.
REDEMPTION IN KIND
Although it is each of the Funds' present policy to make payment of redemption
proceeds in cash, if the Trustees determine it appropriate, redemption proceeds
may be paid in whole or in part by a distribution in kind of marketable
securities held by that Fund subject to the limitation that each Fund is
obligated to redeem shares solely in cash up to the lesser of $250,000 or 1% of
the net asset value of the Fund during any 90-day period for any one account.
If a redemption in kind is made, a shareholder might be required to bear
transaction costs, including brokerage commissions, to dispose of such
securities. A Fund will endeavor to only distribute securities for which there
is an active trading market.
REPURCHASE OF SHARES
The Distributor is authorized to repurchase Fund shares through certain
securities dealers who have entered into dealer agreements with the Distributor.
The offer to repurchase may be suspended by the Distributor at any time.
Dealers may charge for their services in connection with a repurchase, but
neither the Fund nor the Distributor makes any such charge. Repurchase
arrangements differ from redemptions in that the dealer buys the shares as
principal from his customer in lieu of tendering shares to the Fund for
redemption as agent for the customer. The proceeds to the shareholder will be
the net asset value of the shares repurchased as next determined after receipt
of the repurchase order by the dealer. By a repurchase, the customer should be
able to receive the sale proceeds from the dealer more quickly. Shareholders
should contact their dealers for further information as to how to effect a
repurchase and the dealer's charges applicable thereto.
70
<PAGE>
PAYMENT FOR THE SHARES PRESENTED
Payment for shares presented for redemption will be based on the net asset value
of the applicable class of the applicable Fund next computed after a request is
received in proper form at the offices of the transfer agent' as described
below. Certain redemptions of Class A, B and C shares may be subject to a CDSC,
which will be deducted from the redemption proceeds. Payment proceeds will be
mailed within seven days following receipt of all required documents. However,
payment may be postponed or the right of redemption suspended (i) for any period
during which the New York Stock Exchange is closed for other than customary
weekend and holiday closing or during which trading on the New York Stock
Exchange is restricted; (ii) for any period during which an emergency exists as
a result of which disposal by the Fund of securities owned by it is not
reasonably practicable or it is not reasonably practicable for the Fund fairly
to determine the value of its net assets; or (iii) for such other periods as the
Commission may by order permit for the protection of shareholders, provided that
applicable rules and regulations of the Commission shall govern as to whether
the conditions described in (i) and (ii) exist. Payment of proceeds may also be
delayed if the shares to be redeemed or repurchased were purchased by check and
that check has not cleared (which may be up to 15 days or more).
CUSTODIAN AND TRANSFER AND DIVIDEND DISBURSING AGENTS
State Street Bank and Trust Company ("State Street"), 225 Franklin Street,
Boston, Massachusetts 02110, currently acts as Custodian of all the Fund's
assets, as well as the bookkeeping, transfer and dividend disbursing agent for
all of the Funds of the Trust. State Street may make arrangements to perform
certain of its functions through Boston Financial Data Services. State Street
has selected various banks and trust companies in foreign countries to maintain
custody of certain foreign securities. State Street is authorized to use the
facilities of the Depository Trust Company, the Participants Trust Company and
the book-entry system of the Federal Reserve Banks.
PERFORMANCE INFORMATION
From time to time the Trust may advertise certain information about the
performance of all classes of one or more of the Funds. Such performance
information may include time periods prior to the establishment of the multi-
class distribution system. Information about performance of a class of shares
of a Fund is not intended to indicate future performance. The Trust's annual
report to shareholders, which is available without charge upon request, contains
further discussions of Fund performance.
The Funds may advertise the yield and/or total return performance for all
classes of one or more of the Funds in accordance with the rules of the SEC. The
Municipal Bond Fund and the Municipal Money Market Fund may also present from
time to time yield, tax-equivalent yield and standardized and nonstandardized
total return in advertisements. When yield is used in sales literature, the
total return figures will also be included. The Commission has issued rules
setting forth the uniform calculation of both yield and total return, but
shareholders' actual experience may be more or less than the figures produced by
these formulas.
Each Fund may include the total return for all classes of shares in
advertisements or other written material. Each such piece will include at least
the average annual total return quotations for one year, five years, ten years
(if available) and/or from the commencement of operations. Total return is
measured by comparing the value of an investment at the beginning of the
relevant period to the redemption value of the investment at the end of the
period; the calculation assumes the initial investment is made at the current
maximum net offering price, assumes immediate reinvestment of any dividends or
capital gains distributions and adjusts for the current maximum sales charge of
5.75% for Class A shares of the Equity Funds or 4.75% for Class A shares of the
Fixed Income Funds and the applicable CDSC imposed on a redemption of Class B
shares or Class C shares held for the period indicated. Yield and total return
are calculated separately for each class of a Fund.
Each of the Funds may advertise yield for all classes, accompanied by total
return. The yield will be computed by dividing the net investment income per
share earned during a recent one month period (after deducting expenses net of
reimbursements applicable to each class) by the maximum offering price
(including the maximum front end sales charge or applicable CDSC) on the last
day of the period, and annualizing the result (assuming compounding of interest)
in order to arrive at annual percentage rate. The Municipal Bond Fund and the
Municipal Money Market Fund may also present from time to time the tax-
equivalent yield of all classes. The tax-equivalent yield is calculated by
determining the portion of yield which is tax-exempt and calculating the
equivalent taxable yield and adding to such amount any fully taxable yield.
71
<PAGE>
The Money Market Fund may advertise yield and effective yield for all classes.
The yield is based upon the income earned by the Fund over a seven-day period
and is then annualized, i.e., the income earned in the period is assumed to be
earned every seven days over a 365 day period and is stated as a percentage of
the investment. Effective yield is calculated similarly, but when annualized the
income earned by the investment is assumed to be reinvested weekly in shares of
the same class and thus compounded in the course of a 365 day period. The
effective yield will be higher than the yield because of the compounding effect
of this assumed reinvestment.
All performance information may be compared with data published by Lipper
Analytical Services, Inc. or to unmanaged indices of performance, including, but
not limited to, the Dow Jones Industrial Average, S&P 500, S&P MidCap 400 Index,
Value Line Composite, Lehman Brothers Bond, Government Corporate, Municipal,
Corporate and Aggregate Indices, Merrill Lynch Government & Agency and
Intermediate Agency Indices, the Salomon Brothers Non-Dollar WGBI 10 Index,
Russell 2000 Growth Index, the EAFE Index or the Morgan Stanley Capital
International World Index. In addition, during certain time periods the yield
and total return of a class and/or a Fund may be affected by expense waivers
and/or expense reimbursements. When so affected, the yield and total return
figures will be accompanied by a statement regarding such waiver and/or
reimbursement. While performance information may be helpful in evaluating
whether a Fund may be fulfilling its objective, past performance should not be
regarded as representative of future results. Yields and net asset values will
fluctuate with market conditions and the value of shares redeemed may be more or
less than their cost. The Money Market Fund and the Municipal Money Market Fund
operate under procedures designed to stabilize the net asset value of all
classes at $1.00 per share. A Fund will include performance data for each class
of a Fund in any advertisement or information including performance data of such
Fund. The Fund may also utilize performance information in hypothetical
illustrations provided in narrative form.
A Fund may advertise its yield and/or total return performance for all classes
of shares of one or more of the Funds, calculated in accordance with the rules
of the SEC. Such performance information may include time periods prior to the
implementation of the Multiple Pricing System on April 1, 1994, and will be
calculated as described below. For purposes of quoting and comparing the
performance of the classes of the Funds to that of other mutual funds and to
stock or other relevant indices in advertisements or in reports to shareholders,
performance will be stated in terms of total return and yield. Both "total
return" and "yield" figures are based on historical performance, show the
performance of a hypothetical investment and are not intended to indicate future
performance.
Under the rules of the SEC, funds advertising performance must include total
return quotes, "T" below, calculated according to the following formula:
P(1 + T)n = ERV
Where:
P = a hypothetical initial payment of $1,000
T = average annual total return
n = number of years (1, 5 or 10)
ERV = ending redeemable value of a hypothetical $1,000 payment made at the
beginning of the "n" year period (or fractional portion thereof) at the end of
such period.
The average annual total return will be calculated under the foregoing formula
and the time periods used in advertising will be based on rolling calendar
quarters, updated to the last day of the most recent quarter prior to submission
of the advertising for publication, and will cover one, five, and ten year
periods (if available) plus the time period since the effective date of the
Fund's registration statement. When the period since inception for a Fund is
less than one year, the total return quoted will be the aggregate return for the
period. In calculating the ending redeemable value, for Class A shares, the
current maximum front end sales charge of 5.75% for the Equity Funds and 4.75%
for the Fixed Income Funds (as a percentage of the offering price) is deducted
from the initial $1,000 payment, and for Class B shares, the applicable CDSC
imposed on a redemption of shares held for the period is deducted. The formula
also assumes that all dividends and distributions have been reinvested at net
asset value as described in the Prospectus on the reinvestment dates during the
period. Total return, or "T" in the formula above, is computed by finding the
average annual compounded rates of return over the 1, 5 and 10 year periods (or
fractional portions thereof) that would equate the initial amount invested to
the ending redeemable value. Any sales charges that might in the future be made
applicable to reinvestments would be included as would any recurring account
charges that might be imposed by the Trust.
72
<PAGE>
The figures shown in the table below are, for all classes, restated to reflect
front end sales charges and CDSCs currently payable by each class of shares
under the Multiple Pricing System (as described above), and (for all of the
tables presented below) are based on the distribution and service fees and other
expenses actually paid by each Fund for the periods presented, rather than the
distribution and service fees and other expenses currently payable by each class
of shares under the Multiple Pricing System, which in certain cases are
different. Until April 1, 1994, each Fund paid distribution and service fees
under the Prior Plan.
The following tables set forth the average annual total returns for each class
of shares of each Fund for certain periods of time ending October 31, 1999,
restated to reflect the effects of the maximum front end sales charges and any
applicable CDSCs payable be an investor under the Multiple Pricing System:
<TABLE>
<CAPTION>
CLASS A SHARES THROUGH 10/31/99 ONE YEAR % FIVE YEARS % SINCE INCEPTION INCEPTION DATE
------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Mid Cap Growth Fund 19.53% N/A 13.02% 03/04/96
International Small Cap Fund 28.94% N/A 10.37% 02/20/96
Large Cap Growth Fund 22.47% N/A 19.56% 03/04/96
Global Equity Fund 0.58% 7.22% 8.94% 04/01/94
Growth & Income Fund 17.26% 21.72% 16.59% 04/01/94
International Equity Fund 15.56% N/A 7.17% 01/09/95
Strategic Income Fund -2.75% 7.10% 5.20% 11/01/93
Core Bond Fund -5.77% 5.93% 6.15% 05/01/91
U.S. Government Securities Fund -4.29% 5.54% 6.30% 08/28/89
Municipal Bond Fund -7.61% 5.50% 3.40% 07/06/93
Balanced Fund -3.61% 10.90% 8.25% 08/28/89
Small Cap Growth Fund 37.40% N/A 11.58% 01/06/98
Mid Cap Value Fund N/A N/A N/A
Stock Index Fund N/A N/A N/A
Small Cap Index Fund N/A N/A N/A
Socially Responsible Fund N/A N/A N/A
High Yield Bond Fund N/A N/A N/A
Aggressive Growth Lifestyle Fund N/A N/A N/A
Moderate Growth Lifestyle Fund N/A N/A N/A
Conservative Growth Lifestyle Fund N/A N/A N/A
Science & Technology Fund N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
CLASS B SHARES THROUGH 10/31/99 ONE YEAR % FIVE YEARS % SINCE INCEPTION INCEPTION DATE
------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Mid Cap Growth Fund 19.62% N/A 13.10% 03/04/96
International Small Cap Fund 29.63% N/A 10.43% 02/20/96
Large Cap Growth Fund 22.77% N/A 19.90% 03/04/96
Global Equity Fund 0.01% 7.35% 9.16% 04/01/94
Growth & Income Fund 17.28% 22.03% 16.86% 04/01/94
International Equity Fund 15.53% N/A 7.35% 01/09/95
Strategic Income Fund -3.44% 7.18% 5.31% 04/01/94
Core Bond Fund -6.48% 6.04% 6.37% 05/01/91
U.S. Government Securities Fund -4.99% 5.58% 6.44% 04/01/94
Municipal Bond Fund -8.58% 5.34% 3.45% 04/01/94
Balanced Fund -4.43% 11.03% 8.43% 08/28/89
Small Cap Growth Fund 37.36% N/A 10.91% 01/06/98
Mid Cap Value Fund N/A N/A N/A
Stock Index Fund N/A N/A N/A
</TABLE>
73
<PAGE>
<TABLE>
<S> <C> <C> <C>
Small Cap Index Fund N/A N/A N/A
Socially Responsible Fund N/A N/A N/A
High Yield Bond Fund N/A N/A N/A
Aggressive Growth Lifestyle Fund N/A N/A N/A
Moderate Growth Lifestyle Fund N/A N/A N/A
Conservative Growth Lifestyle Fund N/A N/A N/A
Science & Technology Fund N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
CLASS C SHARES THROUGH 10/31/99 ONE YEAR % FIVE YEARS % SINCE INCEPTION INCEPTION DATE
------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Mid Cap Growth Fund 23.65% N/A 13.74% 03/04/96
International Small Cap Fund 33.48% N/A 11.09% 02/20/96
Large Cap Growth Fund 26.75% N/A 20.38% 03/04/96
Global Equity Fund 3.99% 7.65% 9.16% 11/01/90
Growth & Income Fund 21.28% 22.17% 16.82% 05/01/91
International Equity Fund 19.53% N/A 7.65% 01/09/95
Strategic Income Fund 0.56% 7.48% 5.44% 04/01/94
Core Bond Fund -2.54% 6.35% 6.37% 05/01/91
U.S. Government Securities Fund -0.99% 5.90% 6.44% 04/01/94
Municipal Bond Fund -4.73% 5.67% 3.45% 04/01/94
Balanced Fund -0.42% 11.27% 8.42% 08/28/89
Small Cap Growth Fund 41.19% N/A 13.42% 01/06/98
Mid Cap Value Fund N/A N/A N/A
Stock Index Fund N/A N/A N/A
Small Cap Index Fund N/A N/A N/A
Socially Responsible Fund N/A N/A N/A
High Yield Bond Fund N/A N/A N/A
Aggressive Growth Lifestyle Fund N/A N/A N/A
Moderate Growth Lifestyle Fund N/A N/A N/A
Conservative Growth Lifestyle Fund N/A N/A N/A
Science & Technology Fund N/A N/A N/A
</TABLE>
For periods ending 10/31/99, the Adviser waived certain fees in respect of the
Funds. Absent such waivers, the returns shown above would be lower.
The performance data quoted represents past performance; investment returns and
principal value of an investment will fluctuate so that an investor's shares,
when redeemed, may be worth more or less than their original cost. On July 10,
1992, the former Aggressive, Moderate and Conservative Asset Allocation Trusts
were reorganized into the Balanced Fund. The Balanced Fund's investment
objectives, policies and restrictions are identical to the old Moderate Asset
Allocation Trust. The performance figures shown above for the Balanced Fund
therefore are based on the past performance of the former Moderate Asset
Allocation Trust for the period prior to July 10, 1992.
74
<PAGE>
A Fund's yield is a way of showing the rate of income the Fund earns on its
investments as a percentage of the Fund's share price. Under the rules of the
SEC, yield must be calculated according to the following formula:
a-b 6
YIELD = 2[(--- + 1) - 1]
cd
Where:
a = dividends and interest earned during the period.
b = expenses accrued for the period (net of reimbursement).
c = the average daily number of shares outstanding during the period that were
entitled to receive dividends.
d = the maximum offering price per share on the last day of the period.
Yields for the classes of the Funds used in advertising are computed by dividing
the class of the Fund's interest and dividend income for a given 30 day period,
net of expenses, by the average number of shares entitled to receive
distributions during the period, dividing this figure by the offering price
(including the applicable front end sales charge or CDSC) at the end of the
period and annualizing the result (assuming compounding of income) in order to
arrive at an annual percentage rate. Income is calculated for purposes of yield
quotations in accordance with standardized methods applicable to all stock and
bond mutual funds. Dividends from equity investments are treated as if they
were accrued on a daily basis, solely for the purposes of yield calculations.
In general, interest income is reduced with respect to bonds trading at a
premium over their par value by subtracting a portion of the premium from income
on a daily basis, and is increased with respect to bonds trading at a discount
by adding a portion of the discount to daily income. Capital gains and losses
generally are excluded from the calculation. Income calculated for the purposes
of calculating the Fund's yield differs from income as determined for other
accounting purposes. Because of the different accounting methods used, and
because of the compounding assumed in yield calculations, the yield quoted for a
class of a Fund may differ from the rate of distributions paid over the same
period or the rate of income reported in the Fund's financial statements. The
yields for Classes A, B and C of the Core Bond Fund for the thirty day period
ended October 31, 1999 were 6.18% and 5.97%, 6.00%, respectively. The yields
for Classes A, B and C of the U.S. Government Securities Fund for the thirty day
period ended October 31, 1999 were 5.28%, 4.95% and 4.95%, respectively. The
yields for Classes A, B and C of the Strategic Income Fund for the thirty day
period ended October 31, 1999 were 9.88%, 9.82% and 9.82%, respectively.
Yield quotations for the Core Bond and U.S. Government Securities and Strategic
Income Funds will reflect the fact that such Funds will have paid no advisory
fees during certain periods of their operations. Therefore, the yield for those
Funds encompassing the periods during which no advisory fees were paid will be
higher than the yields the Funds would have realized had the suspension of
advisory fees not been in effect.
The yields for Classes A, B and C of the Municipal Bond Fund for the thirty day
period ended October 31, 1999 were 4.39%, 3.82% and 3.82%, respectively. With
respect to the Municipal Bond Fund, tax-equivalent yields are computed by
dividing that portion of yield that is tax-exempt by one, minus a stated income
tax rate and adding the quotient to that portion, if any, of the yield that is
not tax-exempt.
---
75
<PAGE>
Yields for the Money Market Fund and Municipal Money Market Fund will be
computed on the basis of seven-day periods, and such quotations will be in lieu
of total return quotations for the one, five and ten year periods described
above. Yields will be computed by dividing the net change, exclusive of capital
changes, in the value of a hypothetical account having a balance of one share at
the beginning of the seven-day period by the value of the account at the
beginning of the period and multiplying the return so determined ("base period
return") by 365/7. Effective yields will be computed by compounding the base
period return in accordance with the following formula:
Effective yield = [(Base period return +1)365/7] - 1
For the seven-day period ended October 31, 1999, yields for Classes A, B and C
of the Money Market Fund were 4.72%, 4.72% and 4.72%, respectively. For the
seven-day period ended October 31, 1999, the effective yields for Classes A, B
and C of the Money Market Fund were 4.55%, 4.55% and 4.55%, respectively.
Yield and total return are calculated separately for each class of shares of a
Fund. As discussed above, these calculations adjust for the different front end
sales charges and CDSCs currently payable with respect to each class, and are
based on distribution and service fees and other expenses actually paid by each
Fund for the periods presented.
The Trust may also from time to time include in advertising a total aggregate
return figure or an average annual total return figure that is not calculated
according to the formula set forth above in order to compare performance more
accurately with other measures of investment return. Each class of a Fund may
quote an aggregate total return figure in comparing total return with data
published by Lipper Analytical Services, Inc. or with the performance of various
indices including, but not limited to, the Dow Jones Industrial Average, the
Standard & Poor's 500 Stock Index, the Value Line Composite Index, the Lehman
Brothers Bond, Government Corporate, Corporate and Aggregate Indices, Merrill
Lynch Government & Agency Index, Merrill Lynch Intermediate Agency Index, Morgan
Stanley Capital International Europe, Australia, Far East Index or the Morgan
Stanley Capital International World Index. For such purposes, aggregate total
return is calculated for the specified periods of time by assuming the
investment of $1,000 in shares of a class of a Fund and assuming the
reinvestment of each dividend or other distribution at net asset value on the
reinvestment date. Percentage increases are determined by subtracting the
initial value of the investment from the ending value and by dividing the
remainder by the beginning value. The Trust does not, for these purposes,
deduct from the initial value invested any amount representing front end sales
charges or CDSCs applicable to a class. To calculate its average annual total
return, the aggregate return is then annualized according to the Commission's
formula for total return quotes, outlined above. When the period since
inception is less than one year, the total return quoted will be the aggregate
return for the period. The Trust will, however, disclose the maximum front end
sales charge or CDSC applicable to each class and will also disclose that the
performance data does not reflect sales charges and that the inclusion of sales
charges would reduce the performance quoted. Such alternative total return
information will be given no greater prominence in such advertising than the
information prescribed under Commission rules and all advertisements containing
performance data will include a legend disclosing that such performance data
represent past performance and that the investment return and principal value of
an investment will fluctuate so that an investor's shares, when redeemed, may be
worth more or less than their original cost. The Trust may also advertise the
performance rankings assigned certain Funds (or classes thereof) or their
investment Subadvisors by various publications and statistical services,
including but not limited to SEI, Lipper Analytical Services, Inc.'s Mutual Fund
Performance Analysis, Intersec Research Survey of Non-U.S. Equity Fund Returns,
Frank Russell International Universe, and any other data which may be presented
from time to time by such analysis as Dow Jones, Morningstar, Chase Investment
Performance, Wilson Associates, Stanger, CDA Investment Technology, the Consumer
Price Index ("CPI"), The Bank Rate Monitor National Index, IBC/Donaghue's
Average/U.S. Government and Agency, or as they appear in various publications
including but not limited to The Wall Street Journal, Forbes, Barrons, Fortune,
Money Magazine, The New York Times, Financial World and Financial Services Week.
76
<PAGE>
Calculated in the manner set forth above, the average annual total returns for
each class of shares of each Fund for the one and five year periods ended
October 31, 1999 and since inception to October 31, 1999 are as follows:
<TABLE>
<CAPTION>
CLASS A SHARES THROUGH 10/31/99 ONE YEAR % FIVE YEARS % SINCE INCEPTION INCEPTION DATE
------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Mid Cap Growth Fund 25.50% N/A 14.53% 03/04/96
International Small Cap Fund 35.37% N/A 11.84% 02/20/96
Large Cap Growth Fund 28.57% N/A 21.17% 03/04/96
Global Equity Fund 5.60% 8.27% 9.53% 11/01/90
Growth & Income Fund 23.11% 22.91% 17.26% 05/01/91
International Equity Fund 21.33% N/A 8.26% 01/09/95
Strategic Income Fund 2.10% 8.15% 6.06% 04/01/94
Core Bond Fund -1.08% 6.97% 6.76% 05/01/91
U.S. Government Securities Fund 0.48% 6.57% 6.81% 04/01/94
Municipal Bond Fund -2.95% 6.53% 4.20% 04/01/94
Balanced Fund 1.20% 11.98% 8.77% 08/28/89
Small Cap Growth Fund 44.26% N/A 14.61% 01/06/98
Mid Cap Value Fund N/A N/A N/A
Stock Index Fund N/A N/A N/A
Small Cap Index Fund N/A N/A N/A
Socially Responsible Fund N/A N/A N/A
High Yield Bond Fund N/A N/A N/A
Aggressive Growth Lifestyle Fund N/A N/A N/A
Moderate Growth Lifestyle Fund N/A N/A N/A
Conservative Growth Lifestyle Fund N/A N/A N/A
Science & Technology Fund N/A N/A N/A
</TABLE>
77
<PAGE>
<TABLE>
<CAPTION>
CLASS B SHARES THROUGH 10/31/99 ONE YEAR % FIVE YEARS % SINCE INCEPTION INCEPTION DATE
------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Mid Cap Growth Fund 24.62% N/A 13.69% 03/04/96
International Small Cap Fund 34.33% N/A 11.06% 02/20/96
Large Cap Growth Fund 27.77% N/A 20.41% 03/04/96
Global Equity Fund 5.01% 7.65% 9.16% 11/01/90
Growth & Income Fund 22.28% 22.21% 16.86% 05/01/91
International Equity Fund 20.53% N/A 7.66% 01/09/95
Strategic Income Fund 1.56% 7.48% 5.44% 04/01/94
Core Bond Fund -1.56% 6.35% 6.37% 05/01/91
U.S. Government Securities Fund 0.01% 5.90% 6.44% 04/01/94
Municipal Bond Fund -3.77% 5.67% 3.45% 04/01/94
Balanced Fund 0.57% 11.29% 8.43% 08/28/89
Small Cap Growth Fund 42.36% N/A 13.42% 01/06/98
Mid Cap Value Fund N/A N/A N/A
Stock Index Fund N/A N/A N/A
Small Cap Index Fund N/A N/A N/A
Socially Responsible Fund N/A N/A N/A
High Yield Bond Fund N/A N/A N/A
Aggressive Growth Lifestyle Fund N/A N/A N/A
Moderate Growth Lifestyle Fund N/A N/A N/A
Conservative Growth Lifestyle Fund N/A N/A N/A
Science & Technology Fund N/A N/A N/A
</TABLE>
78
<PAGE>
<TABLE>
<CAPTION>
CLASS C SHARES THROUGH 10/31/99 ONE YEAR % FIVE YEARS % SINCE INCEPTION INCEPTION DATE
------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Mid Cap Growth Fund 24.65% N/A 13.74% 03/04/96
International Small Cap Fund 34.48% N/A 11.09% 02/20/96
Large Cap Growth Fund 27.75% N/A 20.38% 03/04/96
Global Equity Fund 4.99% 7.65% 9.16% 11/01/90
Growth & Income Fund 22.28% 22.17% 16.82% 05/01/91
International Equity Fund 20.53% N/A 7.65% 01/09/95
Strategic Income Fund 1.56% 7.48% 5.44% 04/01/94
Core Bond Fund -1.56% 6.35% 6.37% 05/01/91
U.S. Government Securities Fund 0.01% 5.90% 6.44% 04/01/94
Municipal Bond Fund -3.77% 5.67% 3.45% 04/01/94
Balanced Fund 0.58% 11.27% 8.42% 08/28/89
Small Cap Growth Fund 42.19% N/A 13.42% 01/06/98
Mid Cap Value Fund N/A N/A N/A
Stock Index Fund N/A N/A N/A
Small Cap Index Fund N/A N/A N/A
Socially Responsible Fund N/A N/A N/A
High Yield Bond Fund N/A N/A N/A
Aggressive Growth Lifestyle Fund N/A N/A N/A
Moderate Growth Lifestyle Fund N/A N/A N/A
Conservative Growth Lifestyle Fund N/A N/A N/A
Science & Technology Fund N/A N/A N/A
</TABLE>
The Funds have been and still are subject to certain fee reimbursements. Absent
such reimbursement, the returns shown above would be lower.
The Trust may also from time to time include in advertising and sales literature
the following: 1) information regarding its Fund Subadvisors, such as
information regarding a Subadvisor's specific investment expertise, client base,
assets under management or other relevant information; 2) quotations about the
Trust, its portfolios or its investment Subadvisors that appear in various
publications and media; and 3) general discussions of economic theories,
including but not limited to discussions of how demographics and political
trends may effect future financial markets, as well as market or other relevant
information. The Trust will include performance data for each class of shares
of a Fund in any advertisement or information including performance data of such
Fund.
79
<PAGE>
TAXABLE EQUIVALENT YIELDS
<TABLE>
SINGLE JOINT MARGINAL FEDERAL INCOME A TAX-EXEMPT YIELD OF:
TAXABLE INCOME** TAX RATE 3% 4% 5% 6% 7% 8%
IS EQUIVALENT TO A TAXABLE YIELD OF:
<S> <C> <C> <C>
under $25,350 under $42,350 15% 3.53, 4.71, 5.88, 7.06, 8.24, 9.41
$25,350-$61,400 $ 42,350-$102,300 28% 4.17, 5.56, 6.94, 8.33, 9.72, 11.11
$61,400-$128,100 $102,300-$155,950 31% 4.35, 5.80, 7.25, 8.70, 10.14, 11.59
$128,100-$278,450 $155,950-$278,450 36% 4.69, 6.25, 7.81, 9.38, 10.94, 12.50
over $278,450 over $278,450 39.6% 4.97, 6.62, 8.28, 9.93, 11.59, 13.25
</TABLE>
* Certain taxpayers may, to the extent such taxpayers itemize deductions or
claim personal exemptions, be subject to a higher marginal rate. In addition,
the tax rate on net capital gains of individuals may not exceed 28%.
**Taxable Income amounts apply for taxable years beginning in 1996. The amounts
are indexed annually for inflation.
TAXES
The following information supplements the disclosure contained in the Prospectus
under the heading "Taxes." No attempt is made to present a detailed explanation
of all federal, state, local and foreign tax concerns, and the discussion set
forth here and in the Prospectus do not constitute tax advice. Investors are
urged to consult their own tax advisers with specific questions relating to
federal, state, local and foreign taxes.
Each Fund intends to qualify as a regulated investment company (a "RIC") under
Subchapter M of the "Code" and to continue to so qualify. Qualification as a
RIC requires, among other things, that each Fund: (a) derive at least 90% of
its gross income in each taxable year from dividends, interest, payments with
respect to securities loans and gains from the sale or other disposition of
stock, securities or foreign currencies, or other income (including but not
limited to gains from options, futures or forward contracts) derived with
respect to its business of investing in such stocks, securities or currencies;
and (b) diversify its holdings so that, at the end of each quarter of each
taxable year, (i) at least 50% of the total value of a Fund's assets is
represented by cash, cash items, U.S. government securities, securities of other
regulated investment companies and other securities with such other securities
limited, in respect of any one issuer, to an amount not greater than 5% of the
total value of a Fund's assets and 10% of the outstanding voting securities of
such issuer, and (ii) not more than 25% of the value of its assets is invested
in the securities (other than U.S. government securities or the securities of
other regulated investment companies) of any one issuer or of two or more
issuers which such Fund controls and which are engaged in the same, similar or
related trades or businesses.
As a RIC, a Fund will not be subject to federal income tax on its investment
company taxable income (as that term is defined in the Code, determined without
regard to the deduction for dividends paid) and "net capital gains" (the excess
of a Fund's net long-term capital gains over net short-term capital losses), if
any, that it distributes in each taxable year to its shareholders, provided that
it distributes with respect to each taxable year at least 90% of the sum of its
taxable net investment income, its net tax-exempt income and the excess, if any,
of net short term capital gains over net long-term capital losses for such year.
Each Fund expects to designate amounts retained as undistributed net capital
gains in a notice to its shareholders each of whom (i) will be required to
include in income for United States federal income tax purposes, as long-term
capital gains, its proportionate share of the undistributed amount, (ii) will be
entitled to credit its proportionate share of the 35% tax paid by a Fund on the
undistributed amount against its federal income tax liability and to claim
refunds to the extent such credits exceed such tax liability and (iii) will be
entitled to increase its tax basis, for federal income tax purposes, in its
shares by an amount equal to 65% of the amount of undistributed net capital
gains included in the shareholder's income.
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A Fund will be subject to a nondeductible 4% excise tax on the amount by which
the aggregate income it distributes in any calendar year is less than the sum
of: (a) 98% of a Fund's ordinary income for such calendar year; (b) 98% of its
capital gain net income (the excess of capital gains over capital losses, in
each case both long- and short-term) for the one-year period ending on October
31 of such calendar year; and (c) 100% of the ordinary income and capital gain
net income from any prior calendar year to the extent that such amounts were not
previously distributed or subject to tax under Subchapter M of the Code. If a
Fund does not qualify for taxation as a RIC for any taxable year, such Fund's
taxable income will be subject to corporate income taxes, and all distributions
from earnings and profits, including distributions of net capital gain (if any),
will be taxable to shareholders as ordinary income. In addition, in order to
requalify for taxation as a RIC, such Fund may be required to recognize
unrealized gains, pay substantial taxes and interest, and make certain
distributions. Each Fund expects to make sufficient distributions such that it
will not be subject to the corporate income and excise taxes.
Certain investments, including investments in assets "marked to market" for
federal income tax purposes, debt obligations issued at a discount (including,
for example, zero coupon securities), as well as certain other investments
generally will, and debt obligations purchased at a discount may, cause a Fund
to realize income prior to the receipt of cash payments with respect to these
investments. In such cases a Fund may be required to borrow money or sell
assets (including when it is not advantageous to do so) to generate the cash
necessary to make sufficient distributions to its shareholders necessary to
avoid any Fund level tax liability.
In addition, investments in options, futures contracts, hedging transactions,
forward contracts and certain other transactions will be subject to special tax
rules (including mark-to-market, constructive sale, straddle, wash sale, short
sale and other rules), the effect of which may be to accelerate income to a
Fund, defer a Fund's losses, cause adjustments in the holding periods of a
Fund's securities, convert long term capital-gains into short term capital-gains
and convert short-term capital losses into long-term capital losses. These
transactions could therefore affect the amount, timing and character of
distributions to shareholders.
A Fund's transactions in foreign currencies, foreign currency-denominated debt
securities and certain foreign currency options, futures contracts (and similar
instruments) may give rise to ordinary income or loss to the extent such income
or loss results from fluctuations in the value of the foreign currency
concerned.
Investment by a Fund in a "passive foreign investment company" ("PFIC") could
subject a Fund to a U.S. federal income tax (including interest charges) on
distributions received from such PFIC or on proceeds received from the
disposition of shares in the PFIC, which tax cannot be eliminated by making
distributions to Fund shareholders. However, such tax and interest charges may
be avoided in certain circumstances. First, a Fund may elect to treat a PFIC as
a "qualified electing fund," in which case such Fund will be required to include
its share of the PFIC's ordinary income and net capital gain annually,
regardless of whether it receives any distribution from the PFIC. Second, a
Fund also may make an election to mark the gains (and, to a limited extent,
losses) in the PFIC stock "to market" as though it had sold and repurchased its
holdings in the PFIC on the last day of the Fund's taxable year. Such gains and
losses are treated as ordinary income and loss. The qualified electing fund and
mark-to-market elections may have the effect of accelerating the recognition of
income (without the receipt of cash) and increase the amount required to be
distributed for the Fund to avoid Fund level taxation. Making either of these
elections therefore may require a Fund to liquidate other investments (including
when it is not advantageous to do so) to meet its distribution requirement,
which also may accelerate the recognition of gain and affect a Fund's total
return.
Certain dividends and interest received by a Fund may be subject to foreign
withholding taxes. If more than 50% of a Fund's assets at year end consists of
stock or securities in foreign corporations, such Fund may elect to permit
shareholders to claim a credit or deduction on their income tax returns for
their pro rata portion of qualified taxes paid by such Fund to foreign
countries. If eligible the Fund(s) intend to make this election. If the
election is made, shareholders will include in gross income from foreign sources
their pro rata share of such taxes. A shareholder's ability to claim a foreign
tax credit or deduction in respect of foreign taxes paid by a Fund may be
subject to certain limitations imposed by the Code (including a holding period
requirement applied at both the Fund and shareholder level), as a result of
which a shareholder may not get a full credit or deduction for the amount of
such taxes. Shareholders who do not itemize deductions on their federal income
tax returns may claim a credit (but no deduction) for such taxes. Each year
that a Fund makes this election, it will report to its shareholders the amount
per share of foreign income taxes it has elected to have treated as paid by its
shareholders and the portion of the dividend which represents income derived
from sources within each such foreign jurisdiction (including U.S. possessions).
81
<PAGE>
If a shareholder sells or otherwise disposes of a share of a Fund before holding
it for more than six months, any loss on the sale of such share shall be (i)
treated (to the extent not disallowed as described in (ii) below) as a long-term
capital loss to the extent of any capital gain dividend received or
undistributed capital gain deemed received by the shareholder with respect to
such share or (ii) in the case of the Municipal Bond Fund and the Municipal
Money Market Fund, disallowed to the extent of any exempt-interest dividends
received with respect to such share. In addition, all or a portion of a loss
realized on a redemption or other disposition of Fund shares may be disallowed
to the extent the shareholder acquired other shares of the same Fund within a
61-day period beginning 30 days before and ending 30 days after the date on
which such shares are redeemed or otherwise disposed of. Any disallowed loss
will result in an adjustment to the shareholder's tax basis in some or all of
the other shares acquired.
A sales load incurred in connection with the purchase of Fund shares will not be
taken into account in determining the gain or loss on the sale or exchange of
shares within 91 days of such purchase, where the proceeds are reinvested in
another Fund of the Trust, at a reduced (or eliminated) load. The disregarded
load will be added to the tax basis of the newly acquired shares.
Distributions of taxable income and proceeds from the sale of investments held
by a Fund for one year or less are taxable to Fund shareholders as ordinary
income. Distributions of the excess of net long-term capital gain over net
short-term capital loss (including any capital losses carried forward from prior
years) earned by the Fund are taxable to shareholders of the Fund as long-term
capital gains (generally at a 20% rate for noncorporate shareholders), whether
received in cash or in additional shares and regardless of the length of time
their shares have been held. Certain distributions declared in October,
November or December and paid the following January will be taxed to
shareholders as if received on December 31 of the year in which they are
declared.
Dividends and distributions on a Fund's shares are generally subject to federal
income tax as described herein to the extent they do not exceed such Fund's
realized income and gains, even though such dividends and distributions may
economically represent a return of a particular shareholder's investment. Such
distributions are likely to occur in respect of shares purchased at a time when
the Fund's net asset value reflects gains that are either unrealized, or
realized but not distributed. Such realized gains may be required to be
distributed even when a Fund's net asset value also reflects unrealized losses.
Redemptions and exchanges of a Fund's shares are taxable events and,
accordingly, shareholders may realize gain or loss on these transactions. In
general, any gain realized upon a taxable disposition of shares will be treated
as long-term capital gain if the shares have been held for more than one year.
Otherwise, the gain on the sale, exchange or redemption of Fund shares will be
treated as short-term capital gain.
Generally, unless a shareholder of a Fund includes his or her taxpayer
identification number (social security number for individuals) in the
Shareholder Application and certifies that he or she is not subject to backup
withholding, the Fund is required to withhold and remit to the U.S. Treasury 31%
from taxable dividends and other reportable payments (including proceeds of
redemption transactions) to the shareholder. Backup withholding may also be
required in certain other cases.
Depending on the residence of the shareholder for tax purposes, distributions
may also be subject to state and local taxes or withholding taxes. Some states
do not permit RICs to pass through to their shareholders the state and local
income tax exemptions available to direct owners of certain types of securities
unless the RIC owns a required amount of those securities. The exemption from
state and local income taxes does not preclude states from asserting other taxes
on the ownership of Fund shares or securities held by a Fund. To the extent
that a Fund invests to a substantial degree in U.S. government securities that
are subject to favorable state and local tax treatment, shareholders of such a
Fund will be notified as to the extent to which distributions from the Fund are
attributable to interest on such securities.
MUNICIPAL BOND FUND AND MUNICIPAL MONEY MARKET FUND
Each of the Municipal Bond Fund and the Municipal Money Market Fund (each a
"Municipal Fund") intends to qualify to pay "exempt-interest dividends," as that
term is defined in the Code, by holding at the end of each quarter of its
taxable year at least 50% of the value of its total assets in the form of
municipal obligations described in section 103(a) of the Code. Because each
Municipal Fund will primarily invest in municipal obligations, dividends from
the Fund will generally be exempt from regular federal income tax in the hands
of shareholders (subject to the possible application of the alternative minimum
tax). Further, gain from a sale of redemption of shares of each Municipal Fund
will be taxable to shareholders as capital gain even though the increase in
value of such shares is attributable to tax-exempt income. Thus, it will
normally be advantageous for each Municipal Fund to declare exempt-interest
dividends frequently. Taxpayers must disclose to the Internal Revenue Service
on their tax returns the entire amount of tax-exempt interest (including exempt-
interest dividends on shares of a Municipal Fund) received or accrued during the
year.
82
<PAGE>
Federal tax law imposes an alternative minimum tax ("AMT") with respect to both
corporations and individuals based on certain items of tax preference. Interest
on certain municipal obligations is treated as a tax preference item for
purposes of the AMT. In addition, corporate shareholders must include the full
amount of exempt-interest dividends in computing the preference items for
purposes of the AMT on corporations. The Fund will annually supply shareholders
with a report indicating the percentage of portfolio income attributable to
municipal obligations subject to the alternative minimum tax.
Taxpayers that may be subject to the alternative minimum tax should consult
their tax advisers before investing in the Fund. Tax-exempt distributions
received from each Municipal Fund are taken into account in determining, and may
increase, the portion of social security and certain railroad retirement
benefits that may be subject to federal income tax.
Interest on indebtedness incurred or continued by a shareholder to purchase or
carry shares of a Municipal Fund is not deductible if such Fund distributes
exempt-interest dividends to the shareholder during the taxable year.
Any recognized gain or income attributable to market discount on long-term
(i.e., obligations with a term of more than one year) tax-exempt obligations
purchased after April 30, 1993 is taxable as ordinary income (except to the
extent of a portion of the discount attributable to original issue discount).
This rule may increase the amount of ordinary income dividends received by
shareholders.
Shares of each Municipal Fund are not a suitable investment for tax-exempt
institutions and may not be a suitable investment for retirement plans qualified
under Section 401 of the Code, H.R. 10 plans and individual retirement accounts,
because such plans and accounts are generally tax-exempt and, therefore, would
not gain any additional benefit from the receipt of exempt-interest dividends
from a Municipal Fund. Moreover, subsequent distributions of such dividends to
the beneficiaries will be taxable.
In addition, exempt-interest dividends, if any, attributable to interest
received on certain private activity obligations and certain industrial
development bonds will not be tax-exempt to any shareholders who are
"substantial users" of the facilities financed by such obligations or bonds or
who are "related persons" of such substantial users. "Substantial user"
includes a "non-exempt person" who regularly uses in his trade or business a
part of a facility financed from the proceeds of industrial development bonds,
and the same definition should apply in the case of private activity bonds.
"Related persons" include, among others, certain related natural persons,
affiliated corporations, partnerships and their partners and S Corporations and
their shareholders. The foregoing is not a complete statement of all of the
provisions of the Code covering the definitions of "substantial user" and
"related person". For additional information, investors (especially those who
are "substantial users" or "related persons") should consult their tax advisers
before investing in a Municipal Fund.
In the course of managing its investments, each Municipal Fund may realize some
capital gains (and/or losses) and other taxable income. Any distributions by
such Fund of its share of such gains or other taxable income would be taxable to
the shareholders. However, it is expected that such amounts would normally be
insubstantial in relation to the tax-exempt interest earned by each Municipal
Fund.
In addition, the receipt of exempt-interest dividends from each of the Funds
affect the federal tax liability of certain foreign corporations, S corporations
and insurance companies.
A notice detailing the tax status of dividends and distributions paid by each
Municipal Fund will be mailed annually to its shareholders. As part of this
notice, the Fund will report to its shareholders the percentage of interest
income earned by the Fund during the preceding year on tax-exempt obligations
indicating, on a state-by-state basis, the source of such income.
DESCRIPTION OF TAX CONSEQUENCES
Descriptions of tax consequences set forth in this Statement of Additional
Information and in the Prospectus are intended to be a general guide. Investors
should consult their tax advisers with respect to the specific tax consequences
of an investment in a Fund, including the effect and applicability of state,
local, foreign, and other tax laws and the possible effects of changes in
federal or other tax laws. This discussion is not intended as a substitute for
careful tax planning.
83
<PAGE>
INDEPENDENT ACCOUNTANTS
PricewaterhouseCoopers LLP serve as the Trust's independent accountants. Their
address is 160 Federal Street, Boston, Massachusetts 02110.
FINANCIAL STATEMENTS
The Independent Auditor's Report, financial highlights and financial statements
in respect of the Trust included in the Annual Report of the Trust for the
fiscal year ended October 31, 1999 of the Trust to shareholders filed on Form N-
30D under the 1940 Act filed electronically on January 5, 2000 (File No. 811-
05797 Accession No. 0000950109-00-000037), are incorporated by reference into
this Statement of Additional Information.
INDEX FUNDS
The Small Cap Index Fund is not promoted, sponsored or endorsed by, nor in any
way affiliated with Frank Russell Company. Frank Russell Company is not
responsible for and has not reviewed the Fund's registration statement nor any
associated literature or publications and Frank Russell Company makes no
representation or warranty, express or implied, as to their accuracy, or
completeness, or otherwise.
Frank Russell Company reserves the right, at any time and without notice, to
alter, amend, terminate or in any way change its Index(es). Frank Russell
Company has no obligation to take the needs of any particular fund or its
participants or any product or person into consideration in determining,
comprising or calculating the Index(es).
Frank Russell Company's publication of the Index(es) in no way suggests or
implies an opinion by Frank Russell Company as to the attractiveness or
appropriateness of investment in any or all securities upon which the Index(es)
is (are) based. FRANK RUSSELL COMPANY MAKES NO REPRESENTATION, WARRANTY, OR
GUARANTEE AS TO THE ACCURACY, COMPLETENESS, RELIABILITY, OR OTHERWISE OF THE
INDEX(ES) OR ANY DATA INCLUDED IN THE INDEX(ES). FRANK RUSSELL COMPANY MAKES NO
REPRESENTATION OR WARRANTY REGARDING THE USE, OR THE RESULTS OF USE, OF THE
INDEX(ES) OR ANY DATA INCLUDED THEREIN, OR ANY SECURITY (OR COMBINATION THEREOF)
COMPRISING THE INDEX(ES). FRANK RUSSELL COMPANY MAKES NO OTHER EXPRESS OR
IMPLIED WARRANTY, AND EXPRESSLY DISCLAIMS ANY WARRANTY, OF ANY KIND, INCLUDING
WITHOUT MEANS OR LIMITATION, ANY WARRANTY OF MERCHANTABILITY OR FITNESS FOR A
PARTICULAR PURPOSE WITH RESPECT TO THE INDEX(ES) OR ANY DATA OR ANY SECURITY (OR
COMBINATION THEREOF) INCLUDED THEREIN.
The Stock Index Fund is not sponsored, endorsed, sold or promoted by Standard &
Poor's Corporation ("S&P"). S&P makes no representation or warranty, express or
implied, to the Trust or its participants regarding the advisability of
investing in securities generally or in the Stock Index Fund particularly or the
ability of the S&P 500 Index to track general stock market performance. S&P has
no obligation to take the need of the Trust or its investors into consideration
in determining, composing or calculating the S&P 500 Index. S&P is not
responsible for and has not participated in the determination of the prices and
amount of the Stock Index Fund or the timing of the issuance or sale of such
Fund or in the determination or calculation of the equation by which such Fund
is to be converted into cash. S&P has no obligation or liability in connection
with the administration, marketing or trading of the Fund.
S&P DOES NOT GUARANTEE THE ACCURACY AND/OR THE COMPLETENESS OF THE S&P 500 INDEX
OR ANY DATA INCLUDED THEREIN AND S&P SHALL HAVE NO LIABILITY FOR ANY ERRORS,
OMISSIONS, OR INTERRUPTIONS THEREIN. S&P MAKES NO WARRANTY, EXPRESS OR IMPLIED,
AS TO RESULTS TO BE OBTAINED BY THE TRUST FROM THE USE OF THE S&P 500 INDEX OR
ANY DATA INCLUDED THEREIN. S&P MAKES NO EXPRESS OR IMPLIED WARRANTIES, AND
EXPRESSLY DISCLAIMS ALL WARRANTIES OF MERCHANTABILITY OR FITNESS FOR A
PARTICULAR PURPOSE OR USE WITH RESPECT TO THE S&P 500 INDEX OR ANY DATA INCLUDED
THEREIN. WITHOUT LIMITING ANY OF THE FOREGOING, IN NO EVENT SHALL S&P HAVE ANY
LIABILITY FOR ANY SPECIAL, PUNITIVE, INDIRECT, OR CONSEQUENTIAL DAMAGES
(INCLUDING LOST PROFITS), EVEN IF NOTIFIED OF THE POSSIBILITY OF SUCH DAMAGES.
84
<PAGE>
APPENDIX A
RATINGS OF CORPORATE DEBT INSTRUMENTS
MOODY'S INVESTORS SERVICE, INC. ("MOODY'S")
FIXED-INCOME SECURITY RATINGS
"Aaa" Fixed-income securities which are rated "Aaa" are judged to be of the
best quality. They carry the smallest degree of investment risk and are
generally referred to as "gilt edge". Interest payments are protected by a
large or by an exceptionally stable margin and principal is secure. While the
various protective elements are likely to change, such changes as can be
visualized are most unlikely to impair the fundamentally strong position of such
issues.
"Aa" Fixed-income securities which are rated "Aa" are judged to be of high
quality by all standards. Together with the "Aaa" group they comprise what are
generally known as high grade fixed-income securities. They are rated lower
than the best fixed-income securities because margins of protection may not be
as large as in "Aaa" securities or fluctuation of protective elements may be of
greater amplitude or there may be other elements present which make the long-
term risks appear somewhat larger than in "Aaa" securities.
"A" Fixed-income securities which are rated "A" possess many favorable
investment attributes and are to be considered as upper medium grade
obligations. Factors giving security to principal and interest are considered
adequate, but elements may be present which suggest a susceptibility to
impairment sometime in the future.
"Baa" Fixed-income securities which are rated "Baa" are considered as medium
grade obligations; i.e., they are neither highly protected nor poorly secured.
Interest payments and principal security appear adequate for the present but
certain protective elements may be lacking or may be characteristically
unreliable over any great length of time. Such fixed-income securities lack
outstanding investment characteristics and in fact have speculative
characteristics as well.
Fixed-income securities rated "Aaa", "Aa", "A" and "Baa" are considered
investment grade.
"Ba" Fixed-income securities which are rated "Ba" are judged to have
speculative elements; their future cannot be considered as well assured. Often
the protection of interest and principal payments may be very moderate, and
therefore not well safeguarded during both good and bad times in the future.
Uncertainty of position characterizes bonds in this class.
"B" Fixed-income securities which are rated "B" generally lack characteristics
of the desirable investment. Assurance of interest and principal payments or
of maintenance of other terms of the contract over any long period of time may
be small.
"Caa" Fixed-income securities which are rated "Caa" are of poor standing.
Such issues may be in default or there may be present elements of danger with
respect to principal or interest.
"Ca" Fixed-income securities which are rated "Ca" present obligations which are
speculative in a high degree. Such issues are often in default or have other
marked shortcomings.
"C" Fixed-income securities which are rated "C" are the lowest rated class of
fixed-income securities, and issues so rated can be regarded as having extremely
poor prospects of ever attaining any real investment standing.
Rating Refinements: Moody's may apply numerical modifiers, "1", "2", and "3" in
each generic rating classification from "Aa" through "B" in its municipal fixed-
income security rating system. The modifier "1" indicates that the security
ranks in the higher end of its generic rating category; the modifier "2"
indicates a mid-range ranking; and a modifier "3" indicates that the issue ranks
in the lower end of its generic rating category.
A-1
<PAGE>
COMMERCIAL PAPER RATINGS
Moody's Commercial Paper ratings are opinions of the ability to repay punctually
promissory obligations not having an original maturity in excess of nine months.
The ratings apply to Municipal Commercial Paper as well as taxable Commercial
Paper. Moody's employs the following three designations, all judged to be
investment grade, to indicate the relative repayment capacity of rated issuers:
"Prime-1", "Prime-2", "Prime-3".
Issuers rated "Prime-1" have a superior capacity for repayment of short-term
promissory obligations. Issuers rated "Prime-2" have a strong capacity for
repayment of short-term promissory obligations; and Issuers rated "Prime-3" have
an acceptable capacity for repayment of short-term promissory obligations.
Issuers rated "Not Prime" do not fall within any of the Prime rating categories.
MUNICIPAL BOND RATINGS
"AAA" Municipal bonds rated Aaa are judged to be of the best quality. They
carry the smallest degree of investment risk and are generally referred to as
"gilt-edged." Interest payments are protected by a large or exceptionally
stable margin, and principal is secure. While the various protective elements
are likely to change, such changes as can be visualized are most unlikely to
impair the fundamentally strong position of such issues.
"AA" Municipal bonds rated Aa are judged to be high quality by all standards.
Together with the Aaa group, they comprise what are generally known as high-
grade bonds. They are rated lower than the best bonds because margins of
protection may not be as large, fluctuation of protective elements may be of
greater amplitude, or there may be other elements present which make the long-
term risks somewhat larger.
"A" Municipal bonds rated A possess many favorable investment attributes and
are considered upper medium-grade obligations. Factors giving security to
principal and interest are considered adequate, but elements may be present
which suggest a susceptibility to impairment sometime in the future.
"BAA" Municipal bonds rated Baa are considered medium-grade obligations. They
are neither highly protected nor poorly secured. Interest payments and
principal security appear adequate for the present but certain protective
elements may be lacking or may be characteristically unreliable over any great
length of time. These bonds lack outstanding investment characteristics and, in
fact, have speculative characteristics as well.
"BA" Municipal bonds rated Ba are judged to have predominantly speculative
elements and their future cannot be considered well assured. Often the
protection of interest and principal payments may be very moderate and, thereby,
not well safeguarded during both good and bad times over the future.
Uncertainty of position characterizes bonds in this class.
"CON(-)" Municipal bonds for which the security depends upon the completion of
some act or the fulfillment of some condition are rated conditionally. These
are bonds secured by (a) earnings of projects under construction, (b) earnings
of projects unseasoned in operation experience, (c) rentals which begin when
facilities are completed, or (d) payments to which some other limiting condition
attaches. Parenthetical rating denotes probable credit stature upon the
completion of construction or the elimination of the basis of the condition.
MUNICIPAL NOTE RATINGS
Moody's ratings for state, municipal and other short-term obligations will be
designated Moody's Investment Grade ("MIG"). This distinction is in recognition
of the differences between short-term credit risk and long-term risk. Factors
affecting the liquidity of the borrower are uppermost in importance in short-
term borrowing; factors of the first importance in long-term borrowing risk are
of lesser importance in the short run. Symbols used will be as follows:
"MIG 1" Notes are of the best quality enjoying strong protection from
established cash flows of funds for their servicing or from established and
broad-based access to the market for refinancing or both.
"MIG 2" Notes are of high quality, with margins of protection ample, although
not so large as in the preceding group.
"MIG 3" Notes are of favorable quality, with all security elements accounted
for, but lacking the undeniable strength of the preceding grades. Market access
for refinancing, in particular, is likely to be less well established.
A-2
<PAGE>
"MIG 4" Notes are of adequate quality, carrying specific risk but having
protection and not distinctly or predominantly speculative.
STANDARD & POOR'S RATINGS SERVICES ("STANDARD & POOR'S")
FIXED-INCOME SECURITY RATINGS
A Standard & Poor's fixed-income security rating is a current assessment of the
creditworthiness of an obligor with respect to a specific obligation. This
assessment may take into consideration obligors such as guarantors, insurers, or
lessees.
The ratings are based on current information furnished by the issuer or obtained
by Standard & Poor's from other sources it considers reliable. The ratings are
based, in varying degrees, on the following considerations: (1) likelihood of
default-capacity and willingness of the obligor as to the timely payment of
interest and repayment of principal in accordance with the terms of the
obligation; (2) nature of and provisions of the obligation; and (3) protection
afforded by, and relative position of, the obligation in the event of
bankruptcy, reorganization or other arrangement under the laws of bankruptcy and
other laws affecting creditors' rights.
Standard & Poor's does not perform an audit in connection with any rating and
may, on occasion, rely on unaudited financial information. The ratings may be
changed, suspended or withdrawn as a result of changes in, or unavailability of,
such information, or for other reasons.
"AAA" Fixed-income securities rated "AAA" have the highest rating assigned by
Standard & Poor's. Capacity to pay interest and repay principal is extremely
strong.
"AA" Fixed-income securities rated "AA" have a very strong capacity to pay
interest and repay principal and differs from the highest-rated issues only in
small degree.
"A" Fixed-income securities rated "A" have a strong capacity to pay interest
and repay principal although they are somewhat more susceptible to the adverse
effects of changes in circumstances and economic conditions than fixed-income
securities in higher-rated categories.
"BBB" Fixed-income securities rated "BBB" are regarded as having an adequate
capacity to pay interest and repay principal. Whereas it normally exhibits
adequate protection parameters, adverse economic conditions or changing
circumstances are more likely to lead to a weakened capacity to pay interest and
repay principal for fixed-income securities in this category than for fixed-
income securities in higher-rated categories.
Fixed-income securities rated "AAA", "AA", "A" and "BBB" are considered
investment grade.
"BB" Fixed-income securities rated "BB" have less near-term vulnerability to
default than other speculative grade fixed-income securities. However, it faces
major ongoing uncertainties or exposure to adverse business, financial or
economic conditions which could lead to inadequate capacity or willingness to
pay interest and repay principal.
"B" Fixed-income securities rated "B" have a greater vulnerability to default
but presently have the capacity to meet interest payments and principal
repayments. Adverse business, financial or economic conditions would likely
impair capacity or willingness to pay interest and repay principal.
"CCC" Fixed-income securities rated "CCC" have a current identifiable
vulnerability to default, and the obligor is dependent upon favorable business,
financial and economic conditions to meet timely payments of interest and
repayments of principal. In the event of adverse business, financial or
economic conditions, it is not likely to have the capacity to pay interest and
repay principal.
"CC" The rating "CC" is typically applied to fixed-income securities
subordinated to senior debt which is assigned an actual or implied "CCC" rating.
"C" The rating "C" is typically applied to fixed-income securities subordinated
to senior debt which is assigned an actual or implied "CCC-" rating.
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"CI" The rating "CI" is reserved for fixed-income securities on which no
interest is being paid.
"NR" Indicates that no rating has been requested, that there is insufficient
information on which to base a rating or that Standard & Poor's does not rate a
particular type of obligation as a matter of policy.
Fixed-income securities rated "BB", "B", "CCC", "CC" and "C" are regarded as
having predominantly speculative characteristics with respect to capacity to pay
interest and repay principal. "BB" indicates the least degree of speculation
and "C" the highest degree of speculation. While such fixed-income securities
will likely have some quality and protective characteristics, these are out-
weighed by large uncertainties or major risk exposures to adverse conditions.
Plus (+) or minus (-): The rating from "AA" TO "CCC" may be modified by the
addition of a plus or minus sign to show relative standing with the major
ratings categories.
COMMERCIAL PAPER RATINGS
Standard & Poor's commercial paper rating is a current assessment of the
likelihood of timely payment of debt having an original maturity of no more than
365 days. The commercial paper rating is not a recommendation to purchase or
sell a security. The ratings are based upon current information furnished by
the issuer or obtained by Standard & Poor's from other sources it considers
reliable. The ratings may be changed, suspended, or withdrawn as a result of
changes in or unavailability of such information. Ratings are graded into group
categories, ranging from "A" for the highest quality obligations to "D" for the
lowest. Ratings are applicable to both taxable and tax-exempt commercial paper.
Issues assigned "A" ratings are regarded as having the greatest capacity for
timely payment. Issues in this category are further refined with the
designation "1", "2", and "3" to indicate the relative degree of safety.
"A-1" Indicates that the degree of safety regarding timely payment is very
strong.
"A-2" Indicates capacity for timely payment on issues with this designation is
strong. However, the relative degree of safety is not as overwhelming as for
issues designated "A-1".
"A-3" Indicates a satisfactory capacity for timely payment. Obligations
carrying this designation are, however, somewhat more vulnerable to the adverse
effects of changes in circumstances than obligations carrying the higher
designations.
"B" Issues rated B are regarded as having only speculative capacity for timely
payment.
"C" This rating is assigned to short-term debt obligations with a doubtful
capacity for payment.
"D" Debt rated D is in payment default. The D rating category is used when
interest payments or principal payments are not made on the date due, even if
the applicable grace period has not expired, unless Standard & Poor's believes
that such payments will be made during such grace period.
MUNICIPAL BOND RATINGS
"AAA" Municipal bonds rated AAA are the highest-grade obligations. They
possess the ultimate degree of protection as to principal and interest. In the
market, they move with interest rates and, hence, provide the maximum safety on
all counts.
"AA" Municipal bonds rated AA also qualify as high-grade obligations, and in
the majority of instances deffer from AAA issues only in a small degree. Here,
too, prices move with the long-term money market.
"A" Municipal bonds rated A are regarded as upper medium-grade. They have
considerable investment strength but are not entirely free from adverse effects
of changes in economic and trade conditions. Interest and principal are
regarded as safe. They predominantly reflect money rates in their market
behavior but also, to some extent, economic conditions.
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"BBB" Municipal bonds rated BBB are regarded as having an adequate capacity to
pay principal and interest. Whereas they normally exhibit adequate protection
parameters, adverse economic conditions or changing circumstances are more
likely to lead to a weakened capacity to pay principal and interest for bonds in
this category than for bonds in the A category.
Note: The S&P ratings may be modified by the addition of a plus (+) or minus
(-) sign to show relative standing within the major rating categories.
MUNICIPAL NOTE RATINGS
Until June 29, 1984, S&P used the same rating symbols for notes and bonds.
After June 29, 1984, for new municipal note issues due in three years or less,
the ratings below will usually be assigned. Notes maturing beyond three years
will most likely receive a bond rating of the type recited above.
"SP-1" Issues carrying this designation have a very strong or strong capacity
to pay principal and interest. Issues determined to possess overwhelming safety
characteristics will be given a "plus" (+) designation.
"SP-2" Issues carrying this designation have a satisfactory capacity to pay
principal and interest.
FITCH
COMMERCIAL PAPER RATINGS
Fitch's short-term ratings apply to debt obligations that are payable on demand
or have original maturities of generally up to three years, including commercial
paper, CDs, medium-term notes, and municipal and investment notes. The short-
term rating places greater emphasis that a long-term rating on the existence of
liquidity necessary to meet the issuer's obligations in a timely manner.
"F-1+" Exceptionally strong credit quality. Regarded as having the strongest
degree of assurance for timely payment.
"F-1" Very strong credit quality. Reflect an assurance of timely payment only
slightly less in degree than issues rated F-1+.
"F-2" Good credit quality. A satisfactory degree of assurance for timely
payment, but the margin of safety is not as great as for issues assigned F-1+
and F-1 ratings.
"F-3" Fair credit quality. Have characteristics suggesting that the degree of
assurance for timely payment is adequate; however, near-term adverse changes
could cause these securities to be rated below investment grade.
"F-5" Weak credit quality. Have characteristics suggesting a minimal degree of
assurance for timely payment and are vulnerable to near-term adverse changes in
financial and economic conditions.
"LOC" The symbol LOC indicates that the rating is based on a letter of credit
issued by a commercial bank.
MUNICIPAL BOND RATINGS
"AAA" Municipal bonds rated AAA are considered to be investment grade and of
the highest credit quality. The obligor has an exceptionally strong ability to
pay interest and repay principal which is unlikely to be affected by reasonable
foreseeable events.
"AA" Municipal bonds rated AA are considered to be investment grade and of very
high credit quality. The obligor's ability to pay interest and repay principal
is very strong although not quite as strong bonds rated AAA and not
significantly vulnerable to foreseeable future developments.
"A" Municipal bonds rated A are considered to be investment grade and of high
credit quality. The obligor's ability to pay interest and repay principal is
considered to be strong, but may be more vulnerable to adverse changes in
economic conditions and circumstances than bonds with higher ratings.
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"BBB" Municipal bonds rated BBB are considered to be investment grade and of
satisfactory credit quality. The obligor's ability to pay interest and repay
principal is considered to be adequate. Adverse changes in economic conditions
and circumstances, however, are more likely to have an adverse impact on these
bonds, and therefore impair timely payment. The likelihood that the ratings of
these bonds will fall below investment grade is higher than for bonds with
higher ratings.
"BB" Municipal bonds rated BB are considered speculative. The obligor's
ability to pay interest and repay principal may be affected over time by adverse
economic changes. However, business and financial alternatives can be
identified which could assist the obligor in satisfying its debt service
requirements.
Plus (+) or minus (-) signs are used with a rating symbol to indicate the
relative position of a credit within the rating category. Plus or minus signs
are not used with the AAA category.
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