VANGUARD VARIABLE INSURANCE FUND, 497, 1999-01-04

VANGUARD VARIABLE INSURANCE FUND
497, 1999-01-04

Previous: NUVEEN MUNICIPAL ADVANTAGE FUND INC, N-30D, 1999-01-04

Next: SCUDDER NEW EUROPE FUND INC, NSAR-B, 1999-01-04

<PAGE>

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

SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM N-1A

REGISTRATION STATEMENT (NO. 33-32216) UNDER THE
SECURITIES ACT OF 1933
Pre-Effective Amendment No.
Post-Effective Amendment No. 15
and
REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940
Amendment No. 18

VANGUARD VARIABLE INSURANCE FUND
(Exact Name of Registrant as Specified in Declaration of Trust)

P.O. Box 2600
Valley Forge, PA 19482
(Address of Principal Executive Office)

Registrant's Telephone Number (610) 669-1000

R. Gregory Barton, Esquire
P.O. Box 876
Valley Forge, PA 19482

It is proposed that this filing become effective December 29, 1998, pursuant
to paragraph (b) of Rule 485.

Approximate Date of Proposed Public Offering: As soon as practicable after
this Registration Statement becomes effective.

We have elected to register an indefinite number of shares pursuant to Regula-
tion 24f-2 under the Investment Company Act of 1940. We filed our Rule 24f-2
notice for the period ended September 30, 1998, on December 23, 1998.

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

VANGUARD VARIABLE INSURANCE FUND

CROSS REFERENCE SHEET

<TABLE>
<CAPTION>
FORM N-1A
ITEM NUMBER LOCATION IN PROSPECTUS
<C> <S> <C>
Item 1. Front and Back Cover Pages..... Front and Back Cover Pages
Item 2. Risk/Return Summary:
Investments, Risks, and
Performance.................... Fund Profile
Item 3. Risk/Return Summary: Fee Table. Fee Table
Item 4. Investment Objectives,
Principal Investment
Strategies, and Related Risks.. A Word About Risk; Who Should
Invest; Primary Investment
Strategies
Item 5. Management's Discussion of Fund
Performance.................... Herein incorporated by reference
to Registrant's Annual Report to
Shareholders dated September 30,
1998 filed with the Securities &
Exchange Commission's EDGAR
system on December 2, 1998.
Item 6. Management, Organization, and
Capital Structure.............. The Fund and Vanguard; Investment
Adviser
Item 7. Shareholder Information ....... Share Price; Dividends, Capital
Gains, and Taxes; Investing with
Vanguard
Item 8. Distribution Arrangements...... Not Applicable
Item 9. Financial Highlights
Information.................... Financial Highlights
<CAPTION>
FORM N-1A LOCATION IN STATEMENT
ITEM NUMBER OF ADDITIONAL INFORMATION
<C> <S> <C>
Item 10. Cover Page and Table of
Contents....................... Cover Page; Table of Contents
Item 11. Fund History................... Description of the Fund
Item 12. Description of the Fund and its
Investments and Risks.......... Investment Policies; Fundamental
Investment Limitations;
Description of the Fund
Item 13. Management of the Fund......... Management of the Fund
Item 14. Control Persons and Principal
Holders of Securities.......... Management of the Fund
Item 15. Investment Advisory and Other
Services....................... Investment Advisory Services
Item 16. Brokerage Allocation and Other
Practices...................... Portfolio Transactions
Item 17. Capital Stock and Other
Securities..................... Description of the Fund
Item 18. Purchase, Redemption, and
Pricing of Shares.............. Purchase of Shares; Redemption of
Shares; Share Price
Item 19. Taxation of the Fund........... Description of the Fund
Item 20. Underwriters................... Not Applicable
Item 21. Calculation of Performance
Data........................... Calculation of Yield; Yield and
Total Return
Item 22. Financial Statements........... Financial Statements
</TABLE>

i
<PAGE>

Vanguard Variable Insurance Fund

Prospectus
December 29, 1998

Contents

1 An Introduction to Vanguard Variable Insurance Fund
2 Portfolio Profiles
2 Money Market Portfolio
3 Short-Term Corporate Portfolio
4 High-Grade Bond Portfolio
5 High Yield Bond Portfolio
6 Balanced Portfolio
8 Equity Income Portfolio
9 Diversified Value Portfolio
10 Equity Index Portfolio
11 Mid-Cap Index Portfolio
12 Growth Portfolio
13 Small Company Growth Portfolio
14 International Portfolio
16 REIT Index Portfolio
17 A Word About Risk
17 Investment Policies, Strategies, and Risks
17 Market Risk
17 Manager Risk
17 Futures and Options Contracts
18 Overview of the Money Market Portfolio
19 Overview of the Bond Portfolios
23 Overview of the Balanced Portfolio
23 Overview of the Stock Portfolios
31 Turnover Rate
31 The Portfolios and Vanguard
32 Investment Advisers
35 Year 2000 Challenge
35 Taxes
35 Share Price
36 Financial Highlights
41 General Information
42 Glossary

- --------------------------------------------------------------------------------
Why Reading This Prospectus Is Important

This prospectus explains the objective, risks, and strategies of each Portfolio
of Vanguard Variable Insurance Fund. To highlight terms and concepts important
to mutual fund investors, we have provided "Plain Talk((R))" explanations along
the way. Reading the prospectus will help you to decide which Portfolio, if any
is the right investment for you. We suggest that you keep it for future
reference.
- --------------------------------------------------------------------------------

Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved of these securities or passed upon the
accuracy or adequacy of this prospectus. Any representation to the contrary is a
criminal offense.
<PAGE>

An Introduction to Vanguard Variable Insurance Fund

This prospectus explains the objectives, risks, and strategies of the 13
Portfolios that make up Vanguard Variable Insurance Fund (the "Fund"). The
Portfolios are mutual funds used solely as investment options for variable
annuity or variable life insurance contracts offered by insurance companies.
This means that you cannot purchase shares of the Portfolios directly, but only
through such a contract as offered by an insurance company.

After this introductory page you'll find Portfolio Profiles. Each Profile
summarizes important facts about a Portfolio, including information about its
investment objective, strategies, risks, and past performance.

The Portfolios of Vanguard Variable Insurance Fund are entirely separate from
other Vanguard mutual funds, even when they have the same investment objectives
and advisers.The Portfolios' investment performance will differ from the
performance of other Vanguard funds because of differences in the securities
held and because of administrative and insurance costs associated with separate
accounts in variable annuity and variable insurance plans.

More detailed information about the Portfolios' investment policies and
strategies is provided after the Profiles, along with information about share
pricing and Financial Highlights for each Portfolio.

A NOTE ON FEES
As an investor in any of the Portfolios, you would incur various operating
costs, including management, advisory, and distribution expenses. You also would
incur fees associated with the variable annuity or variable insurance plan in
which you invest. Detailed information about the cost of investing in a
Portfolio is presented in the "Fee Table" section of the accompanying prospectus
for the variable annuity or variable insurance plan through which Portfolio
shares are offered.

PLAIN TALK ABOUT
The Costs of Investing

Costs are an important consideration in choosing a fund. That's because you, as
a contractholder, pay the costs of operating a fund, plus any transaction costs
associated with the fund's buying and selling of securities. These costs can
erode a substantial portion of the gross income or capital appreciation a fund
achieves. Even seemingly small differences in expenses can, over time, have a
dramatic effect on a fund's performance.
<PAGE>

- --------------------------------------------------------------------------------
PORTFOLIO PROFILE--MONEY MARKET PORTFOLIO
- --------------------------------------------------------------------------------

The following profile summarizes key features of Vanguard Variable Insurance
Fund-Money Market Portfolio.

INVESTMENT OBJECTIVE
The Money Market Portfolio seeks to provide income while maintaining liquidity
and a stable share price of $1.

INVESTMENT STRATEGIES
The Portfolio invests in high-quality, short-term money market instruments, such
as securities backed by the full faith and credit of the U.S. government,
securities issued by U.S. government agencies, or obligations issued by
corporations and financial institutions.

PRIMARY RISKS
The Portfolio's total return and yield will fluctuate, as short-term interest
rates fluctuate. Such fluctuations can be wide. Falling interest rates could
cause the Portfolio's income--and thus its total return--to decline. Rising
rates could cause the Portfolio's income and total return to rise. The Portfolio
is also subject to:

. Credit risk, which is the chance that the issuer of a security will fail to
pay interest and principal in a timely manner, reducing the Portfolio's
return. Credit risk should be very low for the Portfolio.
. Manager risk, which is the chance that poor security selection will cause the
Portfolio to underperform other funds with similar investment objectives.

It is important to note that the Portfolio seeks to maintain, but does not
guarantee, a stable net asset value of $1 per share. In addition, an investment
in the Portfolio is not insured or guaranteed by the Federal Deposit Insurance
Corporation or any other government agency. It is possible to lose money by
investing in the Portfolio.

BAR CHART AND PERFORMANCE TABLE
The bar chart and table below provide an indication of the risk of investing in
the Money Market Portfolio. The bar chart shows the Portfolio's performance in
each calendar year since inception. The table shows how the Portfolio's average
annual returns for one and five calendar years and since inception compare with
those of a broad-based securities market index. The Portfolio's returns are net
of its expenses, but do not reflect additional fees and expenses that are
deducted by the variable annuity or variable insurance plan through which you
invest. Keep in mind that the Portfolio's past performance does not indicate how
it will perform in the future.

- --------------------------------------------------------------------------------
Annual Total Returns
- --------------------------------------------------------------------------------

1992 1993 1994 1995 1996 1997
3.66% 3.03% 4.19% 5.88% 5.42% 5.55%

- --------------------------------------------------------------------------------
The Portfolio's return for the most recent calendar quarter ended September 30,
1998, was 1.37%.
- --------------------------------------------------------------------------------

During the period shown in the bar chart, the highest return for a calendar
quarter was 1.47% (quarter ending June 1995) and the lowest return for a quarter
was 0.74% (quarter ending June 1993).
<PAGE>

- --------------------------------------------------------------------------------
Average Annual Total Returns for Years Ended December 31, 1997
- --------------------------------------------------------------------------------
1 Year 5 Years Since Inception*
- --------------------------------------------------------------------------------
Money Market Portfolio 5.55% 4.81% 4.70%
Salomon Smith Barney 3 Month
Treasury Index 5.25 4.71 4.62
- --------------------------------------------------------------------------------
* May 2, 1991.
- --------------------------------------------------------------------------------

WHO SHOULD INVEST
The Portfolio may be a suitable investment for you if:
. You wish to add a money market fund to your existing holdings, which might
also include stock and bond investments.
. You are seeking income and stability of principal.

- --------------------------------------------------------------------------------
PORTFOLIO PROFILE--SHORT-TERM CORPORATE PORTFOLIO
- --------------------------------------------------------------------------------

The following profile summarizes key features of Vanguard Variable Insurance
Fund--Short-Term Corporate Portfolio.

INVESTMENT OBJECTIVE
The Short-Term Corporate Portfolio seeks to provide a high level of income.

INVESTMENT STRATEGIES
The Portfolio invests primarily in high-quality, short-term and
intermediate-term bonds issued by corporations. The average weighted maturity of
the Portfolio's bonds is expected to range between 1 and 3 years. The adviser
seeks to add value by adjusting the Portfolio's average maturity within the 1-
to 3-year range and by emphasizing sectors and individual securities that appear
to offer good value.

PRIMARY RISKS
The Portfolio's share price and yield, like the overall short-term bond market,
may fluctuate within a wide range, so an investor could lose money over short or
even long periods. The Portfolio is also subject to:

. Income risk, which is the chance that falling interest rates will cause the
Portfolio's income to decline. Income risk is generally high for short-term
bonds.
. Manager risk, which is the chance that poor security selection will cause the
Portfolio to underperform other funds with similar investment objectives.
. Credit risk, which is the chance that a bond issuer will fail to repay
interest and principal in a timely manner, reducing the Portfolio's return.
Credit risk should be low for this Portfolio.

PERFORMANCE
The commencement date for investment operations for this Portfolio is February
9, 1999, so calendar-year information (including annual total returns and
average annual total returns) is not yet available.

WHO SHOULD INVEST
The Portfolio may be a suitable investment for you if:

. You wish to add a bond fund to diversify your existing holdings, which might
also include other bond, stock, and money market investments.
. You are seeking a higher level of income than that generally provided by money
market instruments.
. You are willing to accept modest fluctuations in share price.
<PAGE>

- --------------------------------------------------------------------------------
PORTFOLIO PROFILE--HIGH-GRADE BOND PORTFOLIO
- --------------------------------------------------------------------------------

The following profile summarizes key features of Vanguard Variable Insurance
Fund-High-Grade Bond Portfolio.

INVESTMENT OBJECTIVE
The High-Grade Bond Portfolio seeks to provide a higher level of income by
attempting to match the performance of a broad market index of publicly traded,
investment-grade bonds.

INVESTMENT STRATEGIES
The Portfolio invests in a sample of fixed-income and mortgage-backed securities
included in the Lehman Brothers Aggregate Bond Index. As a group, the
Portfolio's holdings will have characteristics very similar to key
characteristics of the Index, such as market-sector weightings, average coupon
interest rates, maturity, effective duration, and credit-quality. To boost its
income, the Portfolio substitutes short-term (1- to 4-year maturities) corporate
bonds equal to about 15% of its assets for U.S. Treasury securities with similar
maturities. The Portfolio attempts to remain fully invested at all times.

PRIMARY RISKS
The Portfolio's share price and total return will fluctuate, along with returns
for the overall bond market, within a wide range, so an investor could lose
money over short or even long periods. The Portfolio is also subject to:

. Interest rate risk, which is the chance that bond prices overall will decline
over short or even long periods due to rising interest rates.
. Prepayment risk, which is the chance that during periods of falling interest
rates, a bond issuer will repay its high-yielding bond earlier than scheduled.
Forced to invest the unanticipated proceeds at lower rates, the Portfolio
would experience a decline in income.
. Credit risk, which is the chance that a bond issuer will fail to repay
interest and principal in a timely manner, reducing the Portfolio's return.
Credit risk should be low for the Portfolio.
. Income risk, which is the chance that falling interest rates will cause the
Portfolio's income to decline. Income risk is generally low for longer-term
bonds.

BAR CHART AND PERFORMANCE TABLE
The bar chart and table below provide an indication of the risk of investing in
the High-Grade Bond Portfolio. The bar chart shows the Portfolio's performance
in each calendar year since inception. The table shows how the Portfolio's
average annual returns for one and five calendar years and since inception
compare with those of a broad-based bond market index. The Portfolio's returns
are net of its expenses, but do not reflect additional fees and expenses that
are deducted by the variable annuity or variable insurance plan through which
you invest. Keep in mind that the Portfolio's past performance does not indicate
how it will perform in the future.

- --------------------------------------------------------------------------------
Annual Total Returns
- --------------------------------------------------------------------------------

1992 1993 1994 1995 1996 1997
6.38% 9.40% -2.68% 18.04% 3.53% 9.40%

- --------------------------------------------------------------------------------
The Portfolio's return for the most recent calendar quarter ended September 30,
1998, was 4.16%.
- --------------------------------------------------------------------------------

During the period shown in the bar chart, the highest return for a calendar
quarter was 6.00% (quarter ending June 1995) and the lowest return for a quarter
was -2.78% (quarter ending March 1994).
<PAGE>

- --------------------------------------------------------------------------------
Average Annual Total Returns for Years Ended December 31, 1997
- --------------------------------------------------------------------------------
1 Year 5 Years Since Inception*
- --------------------------------------------------------------------------------
High-Grade Bond Portfolio 9.40% 7.32% 8.05%
Lehman Aggregate Bond Index 9.65 7.48 8.47
- --------------------------------------------------------------------------------
* April 29, 1991.
- --------------------------------------------------------------------------------

WHO SHOULD INVEST
The Portfolio may be a suitable investment for you if:
. You wish to add a low-cost, widely diversified bond fund to your existing
holdings, which might also include other bond investments as well as stock and
money market investments.
. You are seeking a higher level of income than that generally provided by money
market instruments or short-term bonds.
. You are willing to accept moderate fluctuations in share price.

- --------------------------------------------------------------------------------
PORTFOLIO PROFILE--HIGH YIELD BOND PORTFOLIO
- --------------------------------------------------------------------------------

The following profile summarizes key features of Vanguard Variable Insurance
Fund-High Yield Bond Portfolio.

INVESTMENT OBJECTIVE
The High Yield Bond Portfolio seeks to provide a high level of income.

INVESTMENT STRATEGIES
The Portfolio invests primarily in a diversified group of high-yielding, higher-
risk corporate bonds with medium- and lower-range credit-quality ratings,
commonly known as "junk bonds." The Portfolio emphasizes higher grades of credit
quality within the high-yield bond universe, and under normal circumstances will
invest at least 80% of its assets in issues that have received B or higher
credit ratings from independent rating agencies or in unrated securities of
comparable quality. The Portfolio may not invest more than 20% of its assets in
securities with credit ratings lower than B or that are unrated. The adviser may
consider a security's potential for capital appreciation only when it is
consistent with the objective of high and sustainable current income.

PRIMARY RISKS
The Portfolio's share price and total return will fluctuate, along with returns
for the overall high-yield bond market, within a wide range, so an investor
could lose money over short or even long periods.
The Portfolio is also subject to:
. Credit risk, which is the chance that a bond issuer will fail to repay
interest and principal in a timely manner, reducing the Portfolio's return.
Credit risk is high for this Portfolio.
. Interest rate risk, which is the chance that bond prices overall will decline
over short or even long periods due to rising interest rates.
. Manager risk, which is the chance that poor security selection will cause the
Portfolio to underperform other funds with similar investment objectives.
. Income risk, which is the chance that falling interest rates will cause the
Fund's income to decline. Income risk is generally low for longer-term bonds.

BAR CHART AND PERFORMANCE TABLE
The bar chart and table below provide an indication of the risk of investing in
the High Yield Bond Portfolio. The bar chart shows the Portfolio's performance
in the calendar year since inception. The table shows how the Portfolio's
average annual returns for one calendar year and since inception compare with
those of a broad-based bond market
<PAGE>

Portfolio Profile--High Yield Bond Portfolio (continued)

index. The Portfolio's returns are net of its expenses, but do not reflect
additional fees and expenses that are deducted by the variable annuity or
variable insurance plan through which you invest. Keep in mind that the
Portfolio's past performance does not indicate how it will perform in the
future.

- --------------------------------------------------------------------------------
Annual Total Returns
- --------------------------------------------------------------------------------

1997

12.07%

- --------------------------------------------------------------------------------
The Portfolio's return for the most recent calendar quarter ended September 30,
1998, was -2.66%.
- --------------------------------------------------------------------------------

During the period shown in the bar chart, the highest return for a calendar
quarter was 5.08% (quarter ending June 1997) and the lowest return for a quarter
was 0.43% (quarter ending March 1997).

- --------------------------------------------------------------------------------
Average Annual Total Returns for Years Ended December 31, 1997
- --------------------------------------------------------------------------------
1 Year Since Inception*
- --------------------------------------------------------------------------------
High Yield Bond Portfolio 12.07% 13.50%
Lehman High Yield Bond Index 12.76 12.83
- --------------------------------------------------------------------------------
* June 3, 1996.
- --------------------------------------------------------------------------------

WHO SHOULD INVEST
The Portfolio may be a suitable investment for you if:

. You are seeking a high level of income and are willing to take substantial
risks in pursuit of higher returns.
. You have a long-term investment horizon--more than five years.
. You consider yourself an aggressive investor.

- --------------------------------------------------------------------------------
PORTFOLIO PROFILE--BALANCED PORTFOLIO
- --------------------------------------------------------------------------------

The following profile summarizes key features of Vanguard Variable Insurance
Fund-Balanced Portfolio.

INVESTMENT OBJECTIVE
The Balanced Portfolio seeks to conserve capital, while providing moderate
income and moderate long-term growth of capital and income.

INVESTMENT STRATEGIES
The Balanced Portfolio invests 60% to 70% of its assets in dividend-paying
stocks of established large and medium-sized companies that, in the adviser's
opinion, are undervalued but have improving prospects. The remaining 30% to 40%
of assets are invested primarily in high-quality, long-term corporate bonds,
with some exposure to U.S. Treasury, government agency, and mortgage-backed
bonds.
<PAGE>

PRIMARY RISKS
The Portfolio's total return, like the prices of stocks and bonds generally,
will fluctuate within a wide range, so an investor could lose money over short
or even long periods. The Portfolio is also subject to:

. Manager risk, which is the chance that poor security selection will cause the
Portfolio to underperform other funds with similar investment objectives.
. Investment style risk, which is the chance that returns from
large-capitalization value stocks will trail returns from other asset classes
or the overall stock market. Large-capitalization value stocks tend to go
through cycles of doing better--or worse--than the stock market in general.
These periods have, in the past, lasted for as long as several years.
. Interest rate risk, which is the chance that bond prices overall will decline
over short or even long periods due to rising interest rates.
. Credit risk, which is the chance that a bond issuer will fail to repay
interest and principal in a timely manner, reducing the Portfolio's return.
Credit risk is low for the Portfolio.

BAR CHART AND PERFORMANCE TABLE
The bar chart and table below provide an indication of the risk of investing in
the Balanced Portfolio. The bar chart shows the Portfolio's performance in each
calendar year since inception. The table shows how the Portfolio's average
annual returns for one and five calendar years and since inception compare with
those of both the Standard & Poor's 500 Index and a composite index weighted 65%
in the S&P 500 Index and 35% in a broad bond market index. The Portfolio's
returns are net of its expenses, but do not reflect additional fees and expenses
that are deducted by the variable annuity or variable insurance plan through
which you may invest in the Portfolio. Keep in mind that the Portfolio's past
performance does not indicate how it will perform in the future.

- --------------------------------------------------------------------------------
Annual Total Returns
- --------------------------------------------------------------------------------

1992 1993 1994 1995 1996 1997

7.18% 13.18% -0.61% 32.43% 16.23% 23.13%

- --------------------------------------------------------------------------------
The Portfolio's return for the most recent calendar quarter ended September 30,
1998, was -4.21%.
- --------------------------------------------------------------------------------

During the period shown in the bar chart, the highest return for a calendar
quarter was 12.06% (quarter ending June 1997) and the lowest return for a
quarter was -4.00% (quarter ending March 1994).

- --------------------------------------------------------------------------------
Average Annual Total Returns for Years Ended December 31, 1997
- --------------------------------------------------------------------------------
1 Year 5 Years Since Inception*
- --------------------------------------------------------------------------------
Balanced Portfolio 23.13% 16.35% 14.71%
S&P 500 Index 33.36 20.27 18.50
Composite Stock/Bond Index** 26.27 16.37 15.23
- --------------------------------------------------------------------------------
* May 23, 1991.
**Weighted 65% in the S&P 500 Index and 35% in the Lehman Long Corporate AA or
Better Bond Index.
- --------------------------------------------------------------------------------

WHO SHOULD INVEST
The Portfolio may be a suitable investment for you if:
. You wish to add a balanced fund to your existing holdings, which might also
include other stock and bond or money market investments.
<PAGE>

Portfolio Profile--Balanced Portfolio (continued)

. You want a simple way to invest in a relatively fixed percentage of stocks and
bonds.
. You are seeking moderate growth of your capital over the long term--at least
five years--while at the same time conserving your capital.
. You are seeking a moderate level of income.

- --------------------------------------------------------------------------------
PORTFOLIO PROFILE--EQUITY INCOME PORTFOLIO
- --------------------------------------------------------------------------------

The following profile summarizes key features of Vanguard Variable Insurance
Fund-Equity Income Portfolio.

INVESTMENT OBJECTIVE
The Equity Income Portfolio seeks to provide a relatively high level of current
income and the potential for long-term growth of capital and income.

INVESTMENT STRATEGIES
The Portfolio invests primarily in common stocks of well-established companies
that pay relatively high levels of dividend income and have the potential for
capital appreciation. The adviser selects stocks whose dividend yields relative
to the stock market are high in comparison with historical ranges. Such stocks
are often considered to be "value" stocks. In addition, the adviser looks for
companies committed to paying dividends consistently.

BAR CHART AND PERFORMANCE TABLE
The bar chart and table below provide an indication of the risk of investing in
the Equity Income Portfolio. The bar chart shows the Portfolio's performance in
each calendar year since inception. The table shows how the Portfolio's average
annual returns for one and five calendar years and since inception compare with
those of a broad-based stock market index. The Portfolio's returns are net of
its expenses, but do not reflect additional fees and expenses that are deducted
by the variable annuity or variable insurance plan through which you invest.
Keep in mind that the Portfolio's past performance does not indicate how it will
perform in the future.

- --------------------------------------------------------------------------------
Annual Total Returns
- --------------------------------------------------------------------------------

1994 1995 1996 1997

-1.24% 38.90% 18.69% 34.39%

- --------------------------------------------------------------------------------
The Portfolio's return for the most recent calendar quarter ended September 30,
1998, was -3.72%.
- --------------------------------------------------------------------------------

<PAGE>

During the period shown in the bar chart, the highest return for a calendar
quarter was 13.21% (quarter ending June 1997) and the lowest return for a
quarter was -6.26% (quarter ending March 1994).

- --------------------------------------------------------------------------------
Average Annual Total Returns for Years Ended December 31, 1997
- --------------------------------------------------------------------------------
1 Year Since Inception*
- --------------------------------------------------------------------------------
Equity Income Portfolio 34.39% 20.03%
S&P 500 Index 33.36 21.33
- --------------------------------------------------------------------------------
* June 7, 1993.
- --------------------------------------------------------------------------------

WHO SHOULD INVEST
The Portfolio may be a suitable investment for you if:
. You wish to add a value stock fund to your existing holdings, which could
include other stock investments as well as bond and money market investments.
. You want a relatively high level of dividend income and the potential for
long-term capital appreciation.
. You are seeking to invest in a category of stocks that historically has had
below-average price volatility.

- --------------------------------------------------------------------------------
PORTFOLIO PROFILE--DIVERSIFIED VALUE PORTFOLIO
- --------------------------------------------------------------------------------

The following profile summarizes key features of Vanguard Variable Insurance
Fund-Diversified Value Portfolio.

INVESTMENT OBJECTIVE
The Diversified Value Portfolio seeks to provide long-term growth of capital and
a moderate level of dividend income.

INVESTMENT STRATEGIES
The Portfolio invests primarily in common stocks of large and medium-size
companies whose stocks are considered by the adviser to be undervalued and out
of favor with investors. Such "value" stocks typically have above-average
dividend yields and/or below-average prices in relation to such financial
measures as earnings, book value, and cash flow.

WHO SHOULD INVEST
The Portfolio may be a suitable investment for you if:
. You wish to add a stock fund to your existing holdings, which could include
other stock investments as well as bond and money market investments.
. You want a stock fund employing a value approach in seeking long-term growth
in capital as well as a moderate level of dividend income.
<PAGE>

- --------------------------------------------------------------------------------
PORTFOLIO PROFILE--EQUITY INDEX PORTFOLIO
- --------------------------------------------------------------------------------

The following profile summarizes key features of Vanguard Variable Insurance
Fund-Equity Index Portfolio.

INVESTMENT OBJECTIVE
The Equity Index Portfolio seeks to provide long-term growth of capital and
income by attempting to match the performance of a broad market index of stocks
of large U.S. companies.

INVESTMENT STRATEGIES
The Portfolio employs a "passively" managed--or index--approach, by holding all
of the stocks in the Standard & Poor's 500 Composite Stock Price Index in
roughly the same proportion to their weighting in the Index. Stocks represented
in the Index, and thus the Portfolio's holdings, are weighted according to each
stock's market capitalization (shares outstanding x share price). For example,
if a specific stock represented 2% of the S&P 500 Index, the Portfolio would
invest 2% of its assets in that company.

. Investment style risk, which is the chance that returns from large-
capitalization stocks will trail returns from other asset classes or the
overall stock market. Although the S&P 500 Index represents about 75% of the
market value of the entire U.S. stock market, large-capitalization stocks tend
to go through cycles of doing better--or worse--than the stock market in
general. These periods have, in the past, lasted for as long as several years.

Keep in mind that an index fund has operating expenses; a market index does
not. Therefore, an index fund--while expected to track its target index as
closely as possible--will not be able to match the performance of the index
exactly.

BAR CHART AND PERFORMANCE TABLE
The bar chart and table below provide an indication of the risk of investing in
the Equity Index Portfolio. The bar chart shows the Portfolio's performance in
each calendar year since inception. The table shows how the Portfolio's average
annual returns for one and five calendar years and since inception compare with
those of a broad-based stock market index. The Portfolio's returns are net of
its expenses, but do not reflect additional fees and expenses that are deducted
by the variable annuity or variable insurance plan through which you invest.
Keep in mind that the Portfolio's past performance does not indicate how it will
perform in the future.

- --------------------------------------------------------------------------------
Annual Total Returns
- --------------------------------------------------------------------------------

1992 1993 1994 1995 1996 1997

7.36% 9.77% 1.14% 37.37% 22.86% 33.17%

- --------------------------------------------------------------------------------
The Portfolio's return for the most recent calendar quarter ended
September 30, 1998, was -9.93%.
- --------------------------------------------------------------------------------

During the period shown in the bar chart, the highest return for a calendar
quarter was 17.45% (quarter ending June 1997) and the lowest return for a
quarter was -3.88% (quarter ending March 1994).

<PAGE>

- --------------------------------------------------------------------------------
Average Annual Total Returns for Years Ended December 31, 1997
- --------------------------------------------------------------------------------
1 Year 5 Years Since Inception*
- --------------------------------------------------------------------------------
Equity Index Portfolio 33.17% 20.07% 18.08%
S&P 500 Index 33.36 20.27 18.43
- --------------------------------------------------------------------------------
* April 29, 1991.
- --------------------------------------------------------------------------------

WHO SHOULD INVEST
The Portfolio may be a suitable investment for you if:
. You wish to add a low-cost, large-capitalization stock index fund to your
existing holdings, which could include other stock investments as well as bond
and money market investments.
. You want the potential for long-term capital appreciation, with a moderate
level of dividend income.

- --------------------------------------------------------------------------------
PORTFOLIO PROFILE--MID-CAP INDEX PORTFOLIO
- --------------------------------------------------------------------------------

The following profile summarizes key features of Vanguard Variable Insurance
Fund-Mid-Cap Index Portfolio.

INVESTMENT OBJECTIVE
The Mid-Cap Index Portfolio seeks to provide long-term growth of capital by
attempting to match the performance of a broad market index stocks of medium-
size U.S. companies.

INVESTMENT STRATEGIES
The Portfolio employs a "passively" managed--or index--approach, by holding the
stocks in the Standard & Poor's MidCap 400 Index in roughly the same proportion
to their weighting in the Index. Stocks represented in the Index, and thus the
Portfolio's holdings, are weighted according to each stock's market
capitalization. For example, if a specific stock represented 5% of the S&P
MidCap 400 Index, the Portfolio would invest 5% of its assets in thatcompany.

. Investment style risk, which is the chance that returns from
mid-capitalization stocks will trail returns from other asset classes or the
overall stock market. Mid-capitalization stocks tend to go through cycles of
doing better-- or worse--than the stock market in general. These periods have,
in the past, lasted for as long as several years.

WHO SHOULD INVEST
The Portfolio may be a suitable investment for you if:
. You wish to add a low-cost, mid-capitalization stock index fund to your
existing holdings, which could include other stock investments as well as bond
and money market investments.
. You want the potential for long-term capital appreciation.
<PAGE>

- --------------------------------------------------------------------------------
PORTFOLIO PROFILE--GROWTH PORTFOLIO
- --------------------------------------------------------------------------------

The following profile summarizes key features of Vanguard Variable Insurance
Fund-Growth Portfolio.

INVESTMENT OBJECTIVE
The Growth Portfolio seeks to provide long-term growth of capital.

INVESTMENT STRATEGIES
The Portfolio invests in large-capitalization stocks of high-quality, seasoned
U.S. companies with records of superior growth. The Portfolio chooses companies
with strong positions in their markets, reasonable financial strength, and low
sensitivity to changing economic conditions.

PRIMARY RISKS
The Portfolio's total return, like stock prices generally, will fluctuate within
a wide range, so an investor could lose money over short or even long periods.
Stock markets tend to move in cycles, with periods of rising prices and periods
of falling prices. Because the Portfolio invests a higher percentage of assets
in its ten largest holdings than the average stock fund, the Portfolio is
subject to the risk that its performance may be hurt disproportionately by the
poor performance of relatively few stocks. The Portfolio is also subject to:

. Investment style risk, which is the chance that returns from
large-capitalization growth stocks will trail returns from other asset classes
or the overall stock market. Large-cap growth stocks tend to go through cycles
of doing better--or worse--than the stock market in general. These periods
have, in the past, lasted for as long as several years.
. Manager risk, which is the chance that poor security selection will cause the
Portfolio to underperform other funds with similar investment objectives.

BAR CHART AND PERFORMANCE TABLE
The bar chart and table below provide an indication of the risk of investing in
the Growth Portfolio. The bar chart shows the Portfolio's performance in each
calendar year since inception. The table shows how the Portfolio's average
annual returns for one calendar year and since inception compare with those of a
broad-based stock market index. The Portfolio's returns are net of its expenses,
but do not reflect additional fees and expenses that are deducted by the
variable annuity or variable insurance plan through which you invest. Keep in
mind that the Portfolio's past performance does not indicate how it will perform
in the future.

[BAR CHART APPEARS HERE]

- --------------------------------------------------------------------------------
Annual Total Returns
- --------------------------------------------------------------------------------

1994 1995 1996 1997

4.29% 38.33% 26.90% 26.64%

- --------------------------------------------------------------------------------
The Portfolio's return for the most recent calendar quarter ended September 30,
1998, was -9.15%.
- --------------------------------------------------------------------------------

During the period shown in the bar chart, the highest return for a calendar
quarter was 16.95% (quarter ending June 1997) and the lowest return for a
quarter was -3.04% (quarter ending March 1994).
<PAGE>

- --------------------------------------------------------------------------------
Average Annual Total Returns for Years Ended December 31, 1997
- --------------------------------------------------------------------------------
1 Year Since Inception*
- --------------------------------------------------------------------------------
Growth Portfolio 26.64% 21.76%
S&P 500 Index 33.36 21.33
- --------------------------------------------------------------------------------
* June 7, 1993.
- --------------------------------------------------------------------------------

WHO SHOULD INVEST
The Portfolio may be a suitable investment for you if:
. You wish to add a fund emphasizing large-capitalization growth stocks to your
existing holdings, which could include other stock investments as well as bond
and money market investments.
. You are seeking growth of capital over the long term--at least five years.
. You are not looking for dividend income.
. You are willing to assume the above-average risk associated with investing in
a concentrated portfolio of growth stocks.

- --------------------------------------------------------------------------------
PORTFOLIO PROFILE--SMALL COMPANY GROWTH PORTFOLIO
- --------------------------------------------------------------------------------

The following profile summarizes key features of Vanguard Variable Insurance
Fund-Small Company Growth Portfolio.

INVESTMENT OBJECTIVE
The Small Company Growth Portfolio seeks to provide long-term growth of capital.

INVESTMENT STRATEGIES
The Portfolio invests primarily in stocks of smaller companies that appear to
offer favorable prospects for growth and price appreciation. These stocks are
expected to provide only minimal dividend income. The Portfolio's investment
adviser places stocks in three categories: (1) "Core" growth stocks, generally
representing 50%-80% of assets, are companies with demonstrated records of
growth and strong market positions based on a proprietary product or service;
(2) "Pioneers," 10%-25% of assets, generally have unique technology or other
innovations that may lead to new products or new markets; and (3) "Special
values," 10%-25% of assets, are companies whose stock prices are undervalued
given the adviser's view of their prospects over the next several years.

. Investment style risk, which is the chance that returns from
small-capitalization growth stocks will trail returns from other asset classes
or the overall stock market. Small-cap growth stocks tend to go through cycles
of doing better--or worse--than the stock market in general. These periods
have, in the past, lasted for as long as several years.
. Manager risk, which is the chance that poor security selection will cause the
Portfolio to underperform other funds with similar investment objectives.

BAR CHART AND PERFORMANCE TABLE
The bar chart and table below provide an indication of the risk of investing in
the Small Company Growth Portfolio. The bar chart shows the Portfolio's
performance in the calendar year since inception. The table shows how the
Portfolio's average annual returns for one calendar year and since inception
compare with those of a broad-based
<PAGE>

Portfolio Profile--Small Company Growth Portfolio (continued)

stock market index. The Portfolio's returns are net of its expenses, but do not
reflect additional fees and expenses that are deducted by the variable annuity
or variable insurance plan through which you invest. Keep in mind that the
Portfolio's past performance does not indicate how it will perform in the
future.

- --------------------------------------------------------------------------------
Annual Total Returns
- --------------------------------------------------------------------------------
1997

13.27%

- --------------------------------------------------------------------------------
The Portfolio's return for the most recent calendar quarter ended September 30,
1998, was -16.11%.
- --------------------------------------------------------------------------------

During the period shown in the bar chart, the highest return for a calendar
quarter was 19.46% (quarter ending September 1997) and the lowest return for a
quarter was -8.86% (quarter ending March 1997).

- --------------------------------------------------------------------------------
Average Annual Total Returns for Years Ended December 31, 1997
- --------------------------------------------------------------------------------
1 Year Since Inception*
- --------------------------------------------------------------------------------
Small Company Growth Portfolio 13.27% 6.51%
Small Company Index** 20.56 13.01
- --------------------------------------------------------------------------------
* June 3, 1996.
**Russell 2000 Index through July 1997; Small Company Growth Fund Stock Index
thereafter.
- --------------------------------------------------------------------------------

WHO SHOULD INVEST
The Portfolio may be a suitable investment for you if:
. You wish to add a small-capitalization growth stock fund to your existing
holdings, which could include other stock investments as well as bond and
money market investments.
. You are seeking growth of capital over the long term--at least five years.
. You are not looking for dividend income.
. You are willing to assume the above-average risk associated with investing in
small-cap growth stocks.

- --------------------------------------------------------------------------------
PORTFOLIO PROFILE--INTERNATIONAL PORTFOLIO
- --------------------------------------------------------------------------------

The following profile summarizes key features of Vanguard Variable Insurance
Fund-International Portfolio.

INVESTMENT OBJECTIVE
The International Portfolio seeks to provide long-term growth of capital.

INVESTMENT STRATEGIES
The Portfolio invests in the stocks of seasoned companies located outside of the
United States. In selecting stocks, the investment adviser evaluates foreign
markets around the world. Within markets regarded as having favorable investment
climates, the adviser selects companies with above-average growth potential
whose stocks sell at reasonable prices.
<PAGE>

PRIMARY RISKS
The Portfolio's total return, like international stock prices generally, will
fluctuate within a wide range, so an investor could lose money over short or
even long periods. In addition to facing stock market risk, the Portfolio is
subject to the risks associated with foreign investing. Among these are:

. Currency risk, which is the chance that returns will be hurt by a rise in the
value of the U.S. dollar versus foreign currencies.
. Country risk, which is the chance that a country's economy will be hurt by
political troubles, financial problems, or natural disasters.
. Manager risk, which is the chance that poor security selection will cause the
Portfolio to underperform other funds with similar investment objectives.

BAR CHART AND PERFORMANCE TABLE
The bar chart and table below provide an indication of the risk of investing in
the International Portfolio. The bar chart shows the Portfolio's performance in
each calendar year since inception. The table shows how the Portfolio's average
annual returns for one calendar year and since inception compare with those of a
broad-based international stock market index. The Portfolio's returns are net of
its expenses, but do not reflect additional fees and expenses that are deducted
by the variable annuity or variable insurance plan through which you invest.
Keep in mind that the Portfolio's past performance does not indicate how it will
perform in the future.

- --------------------------------------------------------------------------------
Annual Total Returns
- --------------------------------------------------------------------------------

1995 1996 1997

15.90% 14.60% 3.34%

- --------------------------------------------------------------------------------
The Portfolio's return for the most recent calendar quarter ended September 30,
1998, was -11.96%.
- --------------------------------------------------------------------------------

During the period shown in the bar chart, the highest return for a calendar
quarter was 14.08% (quarter ending June 1997) and the lowest return for a
quarter was -9.51% (quarter ending December 1997).

- --------------------------------------------------------------------------------
Average Annual Total Returns for Years Ended December 31, 1997
- --------------------------------------------------------------------------------
1 Year Since Inception*
- --------------------------------------------------------------------------------
International Portfolio 3.34% 9.74%
MSCI EAFE Index 2.06 5.23
- --------------------------------------------------------------------------------
* June 3, 1994.
- --------------------------------------------------------------------------------

WHO SHOULD INVEST
The Portfolio may be a suitable investment for you if:
. You wish to add an international stock fund to your existing holdings, which
could include other stock investments as well as bond and money market
investments.
. You are seeking growth of capital over the long term--at least five years.
. You are not looking for income.
. You are willing to assume the additional risks (including currency and country
risk) associated with international stocks.

<PAGE>

- --------------------------------------------------------------------------------
PORTFOLIO PROFILE--REIT INDEX PORTFOLIO
- --------------------------------------------------------------------------------

The following profile summarizes key features of Vanguard Variable Insurance
Fund-REIT Index Portfolio.

INVESTMENT OBJECTIVE

The REIT Index Portfolio seeks to provide a high level of income and moderate
long-term growth of capital.

INVESTMENT STRATEGIES

The Portfolio invests in the stocks of real estate investment trusts (REITs),
which own office buildings, hotels, shopping centers, and other properties. The
Portfolio employs a "passively" managed--or index--approach, by holding a mix of
securities that seeks to match the performance of the Morgan Stanley REIT Index,
a benchmark of U.S. property trusts. Holdings of the Index, and thus of the
Portfolio, are weighted according to each stock's market capitalization. The
Portfolio holds each stock found in the Index in approximately the same
proportion as represented in the Index itself. For example, if a specific stock
represented 2% of the Morgan Stanley REIT Index, the Portfolio would invest 2%
of its assets in that stock.

PRIMARY RISKS

The Portfolio's total return, like returns on REITs generally, will fluctuate
within a wide range, so an investor could lose money over short or even long
periods. Stock markets tend to move in cycles, with periods of rising prices and
periods of falling prices. The Portfolio is also subject to:

. Real estate industry risk, which is the chance that REIT share prices or the
market value of underlying properties could fall.
. Interest rate risk, which is the chance that increases in interest rates could
hurt REIT performance.
. Income risk, which is the chance that dividends paid by REITs will decline.

PERFORMANCE

The commencement date for investment operations for the Portfolio is February 9,
1999, so calendar-year information (including annual total returns and average
annual total returns) is not yet available.

WHO SHOULD INVEST

The Portfolio may be a suitable investment for you if:
. You are looking for a simple way to gain indirect exposure to the real estate
market to further diversify your existing holdings, which could include other
stock, bond, and money market investments.
. You want a stock fund that offers the potential for above-average dividend
income. (Historically, the securities that make up the Index have provided
higher dividend income than those in the S&P 500 Index.)
. You are seeking modest growth of capital over the long term--at least five
years.
<PAGE>

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

A Word About Risk
This prospectus describes the risks you would face as an investor in any of the
Portfolios of Vanguard Variable Insurance Fund. It is important to keep in mind
one of the main axioms of investing: The higher the risk of losing money, the
higher the potential reward. The reverse, also, is generally true: The lower the
risk, the lower the potential reward. As you consider an investment in one or
more of the Portfolios, you should also take into account your personal
tolerance for the daily fluctuations of the financial markets.

Look for this symbol [GRAPHIC OF FLAG] throughout the prospectus. It is used
to mark detailed information about each type of risk that you would confront as
a shareholder of a Portfolio.
- --------------------------------------------------------------------------------

Investment Policies, Strategies, and Risks

Each of the Portfolios follows a distinct set of investment policies and
strategies. This section explains the policies and strategies used by the
investment advisers in pursuit of each Portfolio's objective, and how the
advisers implement these policies and strategies. In addition, this section
discusses important risks faced by investors in the Portfolios.

The section begins with policy information that applies to all the Portfolios.
Next is information specific to the Money Market Portfolio, the three bond
Portfolios, the Balanced Portfolio, and the eight Portfolios that invest in
stocks.

The Fund's Board of Trustees oversees the management of the Portfolios, and
may change the investment strategies in the interest of shareholders.

Market Risk

[GRAPHIC OF FLAG] Each of the Portfolios is subject to market risk--that is,
fluctuations in returns caused by the rise and fall of yields and prices within
the overall markets in which each Portfolio invests.

You'll find more detail about the risks that you would face as an investor as
you read about each Portfolio on the following pages.

Manager Risk
Nine of the Portfolios are actively managed by investment advisers who use their
research and judgment in deciding which securities to buy and which to sell.
These nine are the Money Market, Short-Term Corporate, High Yield Bond,
Balanced, Equity Income, Diversified Value, Growth, Small Company Growth, and
International Portfolios.

[GRAPHIC OF FLAG] Because they are actively managed, these Portfolios are
subject to manager risk, which is the possibility that their advisers will do a
poor job of selecting securities.

Four Portfolios--High-Grade Bond, Equity Index, Mid-Cap Index, and REIT
Index--are passively managed funds. In other words, each seeks to track a
securities market index by holding all--or a representative sample--of the
securities in the index. These Portfolios are subject to market
risk--share-price fluctuations caused by the rise and fall of prices of the
overall markets in which they invest--but are not subject to manager risk.

Futures and Options Contracts
Except for the Money Market Portfolio, all of the Portfolios may invest to a
limited extent in futures and options contracts, which are traditional forms of
derivatives. Losses (or gains) involving futures can sometimes be
substantial--in part because a relatively small price movement in a futures
contract may result in an immediate and substantial loss (or gain) for a
portfolio. The Portfolios will not use futures for speculative purposes or as
leveraged
<PAGE>

PLAIN TALK ABOUT
Derivatives

A derivative is a financial contract whose value is based on (or "derived" from)
a traditional security (such as a stock or a bond), an asset (such as a
commodity like gold), or a market index (such as the S&P 500 Index). Futures and
options are derivatives that have been trading on regulated exchanges for more
than two decades. These "traditional" derivatives are standardized contracts
that can easily be bought and sold, and whose market values are determined and
published daily. It is these characteristics that differentiate futures and
options from the relatively new types of derivatives. If used for speculation or
as leveraged investments, derivatives can carry considerable risks.

investments that magnify the gains or losses of an investment. The value of all
futures and options contracts in which any Portfolio acquires an interest cannot
exceed 20% of its total assets.
The reasons for which a Portfolio will invest in futures and options are:
. To keep cash on hand to meet shareholder redemptions or other needs while
simulating full investment in bonds or stocks.
. To reduce transaction costs or add value when these investments are favorably
priced.
PLAIN TALK ABOUT
Money Market Instruments

The term "money market instruments" refers to a variety of short-term
investments, usually with a maturity of 13 months or less. Some common types are
Treasury bills and notes, which are securities issued by the U.S. government;
commercial paper, which is a promissory note issued by a large company or
financial firm; banker's acceptances, which are credit instruments guaranteed by
a bank; and negotiable certificates of deposit, which are issued by banks in
large denominations.

OVERVIEW OF THE MONEY MARKET PORTFOLIO
The Portfolio's primary policy is to invest in very high-quality money market
instruments--also known as cash reserves or cash equivalents. These instruments
are considered short-term (that is, they mature in 13 months or less). The
Portfolio will maintain an average maturity of 90 days or less.

[GRAPHIC OF FLAG] The Portfolio is subject to income risk, which is the
possibility that income will decline because of falling interest rates. Because
the Portfolio's income is based on short-term interest rates--which can
fluctuate significantly over short periods--income risk is expected to be high.

To illustrate how the yields of short-term securities can fluctuate as
interest rates rise and fall, the following chart shows month-end yields for
short-term securities (as represented by 3-month Treasury bills) and long-term
securities (as represented by 30-year U.S. Treasury bonds) over the past five
years.

- --------------------------------------------------------------------------------
Short-Term and Long-Term Month-End Yields (1994-1998)
- --------------------------------------------------------------------------------

Date 90-Day 30-Year
---- ------ -------
Jan-94 3.02 6.23
Feb-94 3.43 6.67
Mar-94 3.57 7.1
Apr-94 3.95 7.31
May-94 4.25 7.44
Jun-94 4.24 7.62
Jul-94 4.37 7.38
Aug-94 4.67 7.45
Sep-94 4.78 7.82
Oct-94 5.15 7.97
Nov-94 5.7 7.98
Dec-94 5.69 7.88
Jan-95 6.01 7.72
Feb-95 5.94 7.47
Mar-95 5.87 7.43
Apr-95 5.86 7.33
May-95 5.8 6.66
Jun-95 5.59 6.62
Jul-95 5.58 6.86
Aug-95 5.45 6.65
Sep-95 5.39 6.49
Oct-95 5.48 6.33
Nov-95 5.48 6.14
Dec-95 5.08 5.95
Jan-96 5.05 6.03
Feb-96 5.03 6.48
Mar-96 5.15 6.67
Apr-96 5.15 6.88
May-96 5.18 6.99
Jun-96 5.17 6.9
Jul-96 5.31 6.97
Aug-96 5.28 7.12
Sep-96 5.03 6.93
Oct-96 5.15 6.65
Nov-96 5.13 6.35
Dec-96 5.17 6.64
Jan-97 5.15 6.8
Feb-97 5.22 6.8
Mar-97 5.33 7.11
Apr-97 5.23 6.96
May-97 4.94 6.92
Jun-97 5.19 6.8
Jul-97 5.23 6.3
Aug-97 5.22 6.61
Sep-97 5.11 6.41
Oct-97 5.2 6.15
Nov-97 5.2 6.05
Dec-97 5.35 5.92
Jan-98 5.18 5.81
Feb-98 5.31 5.92
Mar-98 5.12 5.94
Apr-98 4.97 5.95
May-98 5.01 5.81
Jun-98 4.99 5.62
Jul-98 5.07 5.72
Aug-98 4.83 5.3
Sep-98 4.36 4.98
Oct-98 4.32 5.15

Vanguard Fixed Income Group, adviser to the Money Market Portfolio, selects
high-quality money market instruments. The Portfolio invests in certificates of
deposit, banker's acceptances, commercial paper, and other money
<PAGE>

market securities rated Prime-1 by Moody's Investors Service, Inc., or A-1 by
Standard & Poor's Corporation. Securities that are unrated must be issued by a
corporation with a debt rating of A3 or better by Moody's or A- or better by
Standard & Poor's. The Portfolio also invests in short-term corporate, state,
and municipal obligations rated A3 or better by Moody's or A- or better by
Standard & Poor's, and in securities issued by the U.S. Treasury and federal
government agencies, such as the Federal Home Loan Bank.

The Money Market Portfolio may also invest in Eurodollar and Yankee
obligations, which are certificates of deposit issued in U.S. dollars by foreign
banks and foreign branches of U.S. banks. Eurodollar and Yankee obligations have
the same risks, such as income risk and credit risk, as U.S. money market
instruments. Other risks of Eurodollar and Yankee obligations include the
possibility that a foreign government will not let U.S. dollar-denominated
assets leave the country; the possibility that the banks that issue Eurodollar
obligations may not be subject to the same regulations as U.S. banks; and the
possibility that adverse political or economic developments will affect
investments in a foreign country. Before the Portfolio's adviser selects a
Eurodollar or Yankee obligation, however, any foreign issuer undergoes the same
credit-quality analysis and tests of financial strength as the issuers of
domestic securities.

[GRAPHIC OF FLAG] The Portfolio is subject, to a limited extent, to credit risk,
which is the possibility that the issuer of a security will fail to repay
interest and principal in a timely manner.

In addition, the Portfolio may invest up to 10% of its net assets in illiquid
securities. Illiquid securities are not freely marketable or are subject to
legal restrictions on their sale.

The Portfolio also may invest, to a limited extent, in adjustable-rate
securities, which are traditional types of derivatives. As the name implies, a
floating-rate security's interest rate fluctuates periodically. Generally, the
security's yield is based on a U.S. dollar-based interest rate benchmark such as
the Federal Funds Rate, the 90-day Treasury bill rate, or the London Interbank
Offered Rate (LIBOR). These securities reset their yields on a periodic basis
and are closely correlated to changes in money market interest rates.

OVERVIEW OF THE BOND PORTFOLIOS
The Short-Term Corporate, High-Grade Bond, and High Yield Bond Portfolios each
seek to provide a high level of income consistent with their respective
credit-quality and maturity guidelines. The Portfolios invest in various types
of fixed-income securities (or bonds).

[GRAPHIC OF FLAG] Each of the three Portfolios is subject to varying levels of
interest rate risk--the chance that bond prices will fall when interest rates
rise.

In general, interest rate fluctuations widen as a bond portfolio's average
maturity lengthens. The Short-Term Corporate Portfolio is expected to have a
comparatively low level of interest rate risk. The High-Grade Bond and High
Yield Bond Portfolios are expected to have a moderate level of interest rate
risk because their holdings have an intermediate-term average maturity.
Each of the Portfolios is also subject to credit risk--the chance that its
share price could decline if issuers of the bonds it holds experience finan-

PLAIN TALK ABOUT
Types of Bonds

Bonds are issued (sold) by many sources: Corporations issue corporate bonds; the
federal government issues U.S. Treasury bonds; agencies of the federal
government issue agency bonds; and mortgage holders issue "mortgage-backed"
bonds such as those of the Government National Mortgage Association (GNMA). Each
issuer is responsible for paying back the bond's initial value as well as
periodic interest payments.

PLAIN TALK ABOUT
Bonds and Interest Rates

When interest rates rise, bond prices fall. The opposite is also true: Bond
prices go up when interest rates fall. Why do bond prices and interest rates
move in opposite directions? Let's assume that you hold a bond offering a 5%
yield. A year later, interest rates are on the rise and bonds are offered with a
6% yield. With higher-yielding bonds available, you would have trouble selling
your 5% bond for the price you paid--causing you to lower your asking price. On
the other hand, if interest rates were falling and 4% bonds were being offered,
you would be able to sell your 5% bond for more than you paid.
<PAGE>

PLAIN TALK ABOUT
Credit Quality

A bond's credit quality depends on the issuer's ability to pay interest on the
bond and, ultimately, to repay the debt. The lower the rating by one of the
independent bond-rating agencies (for example, Moody's or Standard & Poor's),
the greater the chance (in the rating agency's opinion) that the bond issuer
will default, or fail to meet its payment obligations. Bonds rated in one of the
four highest rating categories are considered "investment-grade." All things
being equal, the lower a bond's credit rating, the higher its yield should be to
compensate investors for assuming additional risk.

cial difficulties. Credit risk is expected to be low for the Short-Term
Corporate and High-Grade Bond Portfolios because they invest primarily in bonds
with high credit-quality ratings. Credit risk is expected to be high for the
High Yield Bond Portfolio because it invests primarily in bonds issued by
corporations with relatively low credit-quality ratings.

In addition, each of the bond Portfolios is subject to income risk--the chance
that dividends paid from net interest income will decline because of a decline
in overall interest rates. In general, income risk is highest for short-term
bond funds and lowest for long-term bond funds. Accordingly, the Short-Term
Corporate Portfolio is expected to have a relatively high level of income risk.

Foreign Bonds
Each of the bond Portfolios may invest in bonds of foreign issuers, so long as
the securities are denominated in U.S. dollars. To the extent that it owns
foreign bonds, a Portfolio is subject to (1) country risk, which is the
possibility that political events (such as a war), financial problems (such as a
government default), or natural disasters (such as an earthquake) will weaken a
country's economy and cause investments in that country to lose money; and (2)
currency risk, which is the possibility that a rise in the value of the U.S.
dollar versus foreign currencies could make it difficult for a foreign bond
issuer to make payments on its dollar-denominated bonds.

Short-Term Corporate Portfolio
The Portfolio invests primarily in a variety of high-quality--and, to a lesser
extent, medium-quality--fixed-income securities. The Portfolio maintains an
average maturity of between 1 and 3 years. Depending on the outlook for interest
rates, the adviser may adjust the average maturity of the Portfolio's holdings
within the target range. The adviser also may attempt to improve the Portfolio's
total return by emphasizing sectors and individual securities that appear to
offer good value.

At least 70% of the Portfolio's assets will be invested in high-grade bonds,
which are listed in one of the top three rating categories by an independent
bond-rating agency. The remaining assets may be invested in fixed-income
securities listed in the fourth-highest rating category by an independent
agency. If the credit rating of a security owned by the Portfolio is lowered,
the Portfolio may continue to hold the security if the adviser considers it
advantageous to do so.

Although the Portfolio invests primarily in short- and intermediate-term bonds
issued by corporations, it also may invest in the following types of
investment-grade securities:
. Bonds issued by the U.S. Treasury and U.S. government agencies.
. Bonds issued by state and local governments and their agencies.
. Bank obligations, including certificates of deposit and banker's acceptances.
. Asset-backed securities--that is, bonds that represent partial ownership in
pools of consumer or commercial loans, such as mortgage loans, automobile
loans, or credit-card balances. The value of asset-backed securities
ultimately depends on repayments by the underlying borrowers. A primary risk
of asset-backed securities is that it is difficult to predict how prepayments
by borrowers will affect the maturity of such investments.
. Commercial paper, a type of IOU issued by corporations.
<PAGE>

High-Grade Bond Portfolio
The High-Grade Bond Portfolio invests in a statistically selected sample of
fixed-income and mortgage-backed securities in an attempt to parallel the
performance of the Lehman Brothers Aggregate Bond Index. This Index is a widely
recognized benchmark for the U.S. bond market, and consists of more than 6,900
government, corporate, and mortgage-backed securities. The statistical sampling
technique is used because it would be impractical and too costly to actually own
all of the securities that make up the Index.

The Lehman Aggregate Bond Index comprises four major types of taxable bonds in
the United States: U.S. Treasury and agency securities; corporate bonds; foreign
bonds denominated in U.S. dollars; and mortgage-backed securities. As of
September 30, 1998, these four types of bonds represented the following
proportions of the Portfolio's market value:

---------------------------------------------------------------------
Proportion of Portfolio's
Type of Bond Market Value
---------------------------------------------------------------------
U.S. Treasury and agency securities 30.5%
Corporate bonds 33.2
Foreign U.S.-dollar obligations 3.8
Mortgage-backed securities 32.5
---------------------------------------------------------------------

Since 1991, the effective average-weighted maturity of the Portfolio has
ranged from a high of 13.0 years to a low of 7.4 years; it was 8.4 years on
September 30, 1998. The Portfolio attempts to remain fully invested in bonds at
all times.

In attempting to parallel the Index's performance, the adviser selects
securities that, as a group, have characteristics similar to those of the Index.
These characteristics include market-sector weightings, average coupon interest
rates, maturity, effective duration, and credit quality.

To enhance the Portfolio's return, the adviser uses a "corporate substitution"
strategy. This means that the Portfolio invests about 15% more of its assets in
short-term, high-quality corporate bonds (1- to 4-year maturities) than does the
Index, while holding about 15% less of its assets in short-term Treasury
securities.

The corporate substitution policy increases the Portfolio's overall credit
risk, but the adviser attempts to mitigate the additional risk by widely
diversifying the corporate bond holdings. Overall, the Portfolio's credit risk
is expected to be low.

Mortgage-Backed Securities and Prepayment Risk
The Portfolio invests a substantial portion of its assets in mortgage-backed
securities, which represent partial ownership in pools of mortgage loans. Unlike
ordinary bonds, which usually repay principal upon maturity, mortgage-backed
securities pay some principal along with interest as part of their periodic
payments. Because it holds mortgage-backed securities, the Portfolio is subject
to prepayment risk--the chance that, when interest rates are falling, homeowners
and other mortgage borrowers will repay their loans earlier than scheduled by
refinancing at lower rates. Because of prepayment risk, mortgage-backed
securities generally do not enjoy as large a gain in market value as do other
bonds during periods of falling interest rates. Also, when prepayments occur the
Portfolio will have to reinvest the proceeds at generally lower rates, thereby
reducing its income. Conversely, when interest rates rise, borrowers are less
likely to prepay mortgage loans, so the market value of mortgage-backed
securities may decline more than the market values of ordinary bonds. To
compensate investors for these risks, mortgage-backed securities generally offer
higher yields than bonds of comparable credit quality and maturity. The credit
quality of mortgage-backed securities is high. The Portfolio may purchase
mortgage-backed securities issued by the Government National Mortgage
Association (GNMA), the Federal Home Loan Mortgage Corporation (FHLMC), the
Federal National Mortgage Association (FNMA), and the Federal Housing Authority
(FHA). The U.S. government guarantees the timely payment of interest and
principal on GNMA securities. Securities from other government-sponsored
entities are generally not secured by an explicit pledge of the U.S. government.
Guarantees by the U.S. government or its agencies are limited to the timely
payment of interest and principal; the market values of such securities are not
guaranteed and can fluctuate widely. The Portfolio also may invest in
conventional mortgage securities to the extent that these securities are
represented in the Index. Conventional mortgage securities are packaged by
private corporations and not guaranteed by the U.S. government.
<PAGE>

PLAIN TALK ABOUT

High-Yield Bonds

High-yield bonds, or "junk bonds," are bonds issued by companies or other
entities whose ability to pay interest and principal on their debts in a timely
manner is considered questionable. Such bonds are rated "below investment grade"
by independent rating agencies. Because they are considered riskier than
investment-grade bonds, high-yield bonds must pay higher interest yields to
attract investors. Some high-yield bonds are issued by smaller, less-seasoned
companies, while others are issued as part of a corporate restructuring, such as
an acquisition, merger, or leveraged buyout. Some high-yield bonds were once
rated as investment-grade securities but have been downgraded to junk-bond
status because of financial difficulties experienced by their issuers.
Conversely, an issuer's improving financial condition may result in an upgrading
of its junk bonds to investment-grade status.

High Yield Bond Portfolio
The High Yield Bond Portfolio invests in a diversified group of high-yielding
corporate bonds, commonly known as "junk bonds." The Portfolio normally will
invest at least 80% of its assets in corporate bonds with credit-quality ratings
of at least B by Moody's or Standard & Poor's, or, if unrated, of comparable
quality as determined by the Portfolio's adviser. These bonds are considered to
be "below investment grade," meaning that they carry a high degree of risk and
are considered speculative. No more than 20% of the Portfolio's assets may be
invested in debt securities rated less than B or unrated, convertible
securities, or preferred stocks. The Portfolio will not invest in securities
that are rated less than Caa ("substantial risk, in poor standing") by Moody's
or CCC by Standard & Poor's or, if unrated, of comparable quality as determined
by the Portfolio's adviser. If the credit rating of a security held by the
Portfolio is later downgraded below Caa or CCC, the Portfolio may continue to
hold it, and it will be sold only if the adviser believes it would be
advantageous to do so.

[GRAPHIC OF FLAG] Because it invests in high-yield bonds--whose prices and
credit quality can change suddenly and unexpectedly-the Portfolio is subject to
a high degree of credit risk, which is the chance that a bond issuer will fail
to repay interest and principal in a timely manner. Prices of high-yield
securities are likely to fluctuate more severely than prices of investment-grade
bonds, and may fluctuate independently from the broader bond market.

The Portfolio's adviser selects securities on an individual basis after
researching--among other things--the nature of a company's business, its
strategy, and the quality of its management. The adviser looks for bonds with
attractive yields issued by companies whose financial prospects are stable or
improving.

The share price of the High Yield Bond Portfolio is influenced not only by
changing interest rates and by market perceptions of credit quality, but also by
the outlook for economic growth. When the economy appears to be weakening or
shrinking, investors may fear that defaults on high-yield bonds will increase,
and that the market value of high-yield bonds may decline even if other bond
prices are rising due to a decline in prevailing interest rates. During such
periods, trading activity in the market for high-yield bonds may slow and it may
become more difficult to find buyers for the bonds. In such conditions, prices
of high-yield bonds could decline suddenly and substantially, and the Portfolio
could be forced to sell securities at a significant loss to meet shareholder
redemptions. Also, there may be significant disparities in the prices quoted for
high-yield securities by bond dealers, making it difficult for the Portfolio to
accurately put a value on its securities.

The Portfolio's adviser seeks to mitigate credit risk by diversifying holdings
across many issuers and a wide variety of industries. It also seeks to mitigate
risk by making its own independent and ongoing assessment of the credit quality
of the Portfolio's holdings rather than relying solely on the credit-quality
analyses of rating agencies.

The Portfolio may invest in asset-backed securities--that is, bonds that
represent partial ownership in pools of consumer or commercial loans, such as
mortgage loans, automobile loans, or credit-card balances. The value of
asset-backed securities ultimately depends on repayments by the underlying
borrowers. A primary risk of asset-backed securities is that it is difficult to
predict how prepayments by borrowers will affect the maturity of such
investments.

The Portfolio may invest in restricted, privately placed securities that,
under SEC rules, may only be sold to qualified institutional buyers. Because
these securities can only be resold to qualified institutional buyers, they may
be consid-
<PAGE>

ered illiquid securities--meaning that they could be difficult for the Portfolio
to convert to cash if needed.

The Portfolio will not invest more than 15% of its net assets in illiquid
securities. If a substantial market develops for a restricted security held by
the Portfolio, it will be treated as a liquid security, in accordance with
procedures and guidelines approved by the Fund's Board of Trustees. While the
Portfolio's investment adviser determines the liquidity of restricted securities
on a daily basis, the Board oversees and retains ultimate responsibility for the
adviser's decisions. The factors the Board considers in monitoring these
decisions include the valuation of a security, the availability of qualified
institutional buyers, and the availability of information on the security's
issuer.
PLAIN TALK ABOUT

Balanced Funds

Balanced funds are generally "middle-of-the-road" investments that seek to
provide some combination of growth, income, and conservation of capital by
investing in a mix of stocks, bonds, and/or money market instruments. Because
the prices of stocks and bonds tend not to move in lockstep, balanced funds are
able to use rewards from one type of investment to help offset the risks from
another.

OVERVIEW OF THE BALANCED PORTFOLIO
The Balanced Portfolio invests in both stocks and bonds. It invests 60% to 70%
of its assets in common stocks, with an emphasis on dividend-paying stocks of
well-established large or medium-size companies. The Portfolio invests 30% to
40% of its assets in high-quality, long-term bonds. The combination of stocks
and bonds is intended to conserve capital, provide a reasonable level of current
income, and offer the potential for long-term growth of capital and income.

In building the Portfolio's stock holdings, the adviser seeks to purchase
companies whose prospects are improving but whose share prices do not reflect
their value. By purchasing a diversified group of such "value" stocks, the
adviser hopes to assemble a portfolio that will produce increased income and
capital appreciation over time, with moderate risk in comparison with the stock
market as a whole.

In selecting the Portfolio's bond holdings, the adviser emphasizes corporate
bonds issued by high-quality companies. The Portfolio also invests in bonds
issued by the U.S. government and government agencies and mortgage-backed
securities. The average maturity of the bond holdings exceeds 15 years. To
generate a relatively stable stream of interest income, the adviser does not
generally make large adjustments in the average maturity of the Portfolio's bond
holdings in anticipation of changes in interest rates.

Although the Portfolio may hold any mix of stocks, bonds, and cash investments
it deems desirable, the adviser generally adjusts the allocation only gradually
and only within the target ranges of 60% to 70% for stocks and 30% to 40% for
bonds. Such allocation changes can occur for any of three reasons:

. To improve the Portfolio's income stream.
. Because one type of asset has significantly outperformed the other.
. Because the adviser sees greater value in one type of asset than another.

The Portfolio may invest up to 20% of its total assets in foreign securities.
To the extent that it holds foreign securities, the Portfolio is subject to (1)
country risk, which is the possibility that political events (such as a war),
financial problems (such as government default), or natural disasters (such as
an earthquake) will weaken a country's economy and cause investments in that
country to lose money; and (2) currency risk, which is the possibility that
Americans investing abroad could lose money because of a rise in the value of
the U.S. dollar versus foreign currencies.

OVERVIEW OF THE STOCK PORTFOLIOS
The Equity Income, Diversified Value, Equity Index, Mid-Cap Index, Growth, Small
Company Growth, International, and REIT Index Portfolios invest primarily in
common stocks, although each has its own strategies and types of holdings.
Common stocks represent partial ownership in companies, and entitle
stockholders to share proportionately in the companies' profits (or losses) and
in any dividends they distribute.

[GRAPHIC OF FLAG] Each Portfolio is subject to market risk, which is the
possibility that stock prices overall will decline over short or even long
periods. Stock markets tend to move in cycles, with periods of rising prices and
periods of falling prices.
<PAGE>

PLAIN TALK ABOUT

Value Funds and Growth Funds

Value investing and growth investing are two styles employed by stock fund
managers. Value funds generally emphasize stocks of companies from which the
market does not expect strong growth. The prices of value stocks typically are
below-average in comparison to such factors as earnings and book value, and
these stocks typically pay above-average dividend yields. Growth funds generally
focus on companies believed to have above-average potential for growth in
revenue and earnings. Reflecting the market's high expectations for superior
growth, the prices of such stocks are typically above-average in relation to
such measures as revenue, earnings, book value, and dividends. Value and growth
stocks have, in the past, produced similar long-term returns, though each
category has periods when it outperforms the other. In general, value funds are
appropriate for investors who want some dividend income and the potential for
capital gains, but are less tolerant of share-price fluctuations. Growth funds,
by contrast, appeal to investors who will accept more volatility in hopes of a
greater increase in share price. Growth funds also may appeal to investors with
taxable accounts who want a higher proportion of returns to come as capital
gains (which may be taxed at lower rates than dividend income).

Except for the International Portfolio, which invests primarily in stocks of
companies outside of the United States, the Portfolios invest primarily in
stocks of U.S. companies. To illustrate the volatility of stock prices, the
following table shows the best, worst, and average total returns for the U.S.
stock market over various periods as measured by the S&P 500 Index, a widely
used barometer of market activity. (Total returns consist of dividend income
plus change in market price.) Although this example is based on the U.S. stock
market, international stock prices and total returns fluctuate very widely, too.
Note that the returns shown in the table do not include the costs of buying and
selling stocks or other expenses that a real-world investment portfolio would
incur. Note, also, that the gap between best and worst tends to narrow over the
long term. (You will find a chart illustrating the volatility of the
international stock market on page 29.)

- --------------------------------------------------------------------------------
U.S. Stock Market Returns (1926-1997)
- --------------------------------------------------------------------------------
1 Year 5 Years 10 Years 20 Years
- --------------------------------------------------------------------------------
Best 53.9% 23.9% 20.1% 16.9%
Worst -43.3 -12.5 -0.9 3.1
Average 13.0 10.5 10.9 10.9
- --------------------------------------------------------------------------------

Passive versus Active Management
Three of the Portfolios--Equity Index, Mid-Cap Index, and REIT Index--are index
funds. Index funds are "passively" managed, meaning that their investment
advisers try to match, as closely as possible, the performance of an established
target index. Index funds do this by holding either all--or a representative
sample--of the securities in the target index. So, instead of trying to
outperform the market as a whole, index funds simply mirror what their target
indexes do, for better or worse.

Five of the Portfolios--Equity Income, Diversified Value, Growth, Small
Company Growth, and International--are actively managed, meaning that their
investment advisers buy and sell securities based on research and analysis in an
attempt to outperform the market as a whole.

[GRAPHIC OF FLAG] These five Portfolios are subject to manager risk, which is
the possibility that their advisers may do a poor job of selecting stocks.

Investment Styles
Mutual funds that invest in U.S. stocks can be classified according to the
average market capitalization (shares outstanding x market price) of their
holdings. The usual categories are small-cap, mid-cap, and large-cap. Stock
funds can also be categorized according to whether the stocks they hold are
value or growth stocks or a blend of those.
<PAGE>

The following illustration shows how each of the seven Portfolios that invest
in U.S. stocks generally fits into these categories. (The International
Portfolio invests primarily in large-capitalization growth stocks of companies
outside the United States.)

. . . . . . . . . . . . . . . . . . . Style . . . . . . . . . . . . . . . . . .

Value Blend Growth
- --------------------------------------------------------------------------------

Equity Income Equity Index Growth
Diversified Value

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

Mid-Cap Index

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

REIT Index Small Company Growth

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

. . . . . . . . . . . . . . . . . Market Cap . . . . . . . . . . . . . . . . .

Large Medium Small

[GRAPHIC OF FLAG] Each of the Portfolios is subject to investment style risk,
which is the possibility that returns from its segment of the stock market will
trail returns from other asset classes or the overall market. Various segments
of the stock market (for example, large-cap value stocks, or small-cap growth
stocks) tend to go through cycles of doing better--or worse--than common stocks
in general. These periods have, in the past, lasted for as long as several
years. Likewise, internationalMarket Cap stocks go through cycles of doing
better--or worse--than U.S. stocks.

Foreign Securities
The International Portfolio invests primarily in foreign securities. None of the
other stock Portfolios typically makes significant investments in securities of
companies based outside the United States. For the Equity Index, Mid-Cap Index,
and REIT Index Portfolios, foreign securities will be held only to the extent
that they are represented in the target benchmark indexes. The Equity Income,
Diversified Value, Growth, and Small Company Growth Portfolios may each invest
up to 20% of their total assets in foreign securities.

To the extent that a Portfolio holds foreign securities, it is subject to (1)
country risk, which is the possibility that political events (such as a war),
financial problems (such as a government default), or natural disasters (such as
an earthquake) will weaken a country's economy and cause investments in that
country to lose money; and (2) currency risk, which is the possibility that
returns on a foreign security will be reduced for American investors because of
a rise in the value of the U.S. dollar versus foreign currencies.

Equity Income Portfolio
The Equity Income Portfolio invests primarily in dividend-paying stocks of
large, well-established U.S. companies. The Portfolio's adviser selects a
diversified group of stocks after evaluating companies that have dividend yields
(annualized dividends divided by stock price) at least 25% higher than the
average dividend yield of the Standard & Poor's Industrial Index; a corporate
commitment and the financial ability to pay dividends consistently; a market
capitalization of at least $2 billion; and the potential for long-term capital
appreciation.

The Portfolio's investment philosophy reflects a belief that dividend income
is an important component of long-term total returns and that dividend income is
a more stable source of returns than capital change, which can be positive or
negative. Because dividend income historically has tended to be relatively
stable in the short-term, while stock prices fluctuate widely, the total returns
of stocks that pay relatively high dividend yields have usually been less
volatile than the returns of stocks with low dividend yields.
<PAGE>

Although the Portfolio generally invests primarily in common stocks or
securities that are convertible into common stocks, it may invest up to 20% of
its total assets in cash investments and investment-grade bonds (those that have
received one of the top four credit-quality ratings by Standard & Poor's
Corporation or Moody's Investor Service).

Diversified Value Portfolio

The Diversified Value Portfolio seeks to provide long-term growth of capital and
a moderate level of dividend income by investing primarily in common stocks of
mid- and large-capitalization companies. The adviser's method is to research
stocks on a company-by-company basis and to develop earnings forecasts for them.
From those companies that appear to have strong finances and good prospects for
growth in earnings and dividends, the adviser will select those whose stock
prices appear to be undervalued by the overall market. Such stocks (often called
value stocks) will typically have above-average current dividend yields and sell
at below-average prices in comparison to such fundamentals as their book value
and earnings.

To keep the Portfolio well-diversified, the adviser generally will invest no
more than 15% of the Portfolio's assets in a single industry group. The
Portfolio's overall makeup is expected to differ from the broad stock market in
terms of industry weightings and market capitalization. Therefore, the
Portfolio's performance is likely to differ from the performance of the overall
market or broad indexes such as the S&P 500 Index.

Equity Index Portfolio

The Portfolio is a stock index fund that seeks long-term growth of capital and
income by attempting to match the performance of the S&P 500 Index, which is
made up primarily of stocks of large U.S. companies. These stocks represent
approximately 75% of the market value of all U.S. common stocks. In seeking to
fully replicate the Index performance, the Portfolio intends to hold all of the
approximately 500 stocks in the Index in roughly the same proportions as they
are represented in the Index. For example, if 3% of the S&P 500 Index were made
up of the stock of a specific company, the Portfolio will invest about 3% of its
assets in that company.

The actual stocks that constitute the Index are chosen by Standard & Poor's
Corporation. The Index is weighted according to the market capitalization of the
stocks it holds, so that the stocks with the highest market values represent the
largest portion of the Index and have the heaviest influence on its performance.
The 50 largest stocks in the Index account for approximately half of its value.
As of September 30, 1998, the five largest companies in the Index were:

--------------------------------------------------------------------
Percentage
Company of Index Value
--------------------------------------------------------------------
Microsoft Corp. 3.32%
General Electric Co. 3.17
Exxon Corp. 2.11
Merck & Co., Inc. 1.89
Intel Corp. 1.77
--------------------------------------------------------------------

Mid-Cap Index Portfolio

The Mid-Cap Index Portfolio is a stock index fund that seeks long-term growth of
capital by attempting to match the performance of the S&P MidCap 400 Index,
which is made up of stocks of medium-size U.S. companies. In seeking to
replicate the Index performance, the Portfolio intends to hold all of the
approximately 400 stocks in the Index in roughly the same proportions as they
are represented in the Index. For example, if 3% of the S&P MidCap 400 Index
were made up of the stock of a specific company, the Portfolio will invest about
3% of its assets in that company.

The actual stocks that constitute the Index are chosen by Standard & Poor's
Corporation. The Index is weighted according to the market capitalization of the
stocks it holds, so that the stocks with the highest market values represent the
largest portion of the Index and have the heaviest influence on its performance.
The 50 largest stocks in the Index account for approximately 35% of its value.
As of September 30, 1998, the five largest companies in the Index were:
<PAGE>

--------------------------------------------------------------------
Percentage
Company of Index Value
--------------------------------------------------------------------
America Online Inc. 3.10%
Compuware Corp. 1.30
Coca Cola Enterprises, Inc. 1.30
McKesson Corp. 1.10
Staples, Inc. 1.10
--------------------------------------------------------------------

Fluctuations in the total returns of mid-capitalization stocks historically
have been somewhat greater than those for large-cap stocks and somewhat lower
than those for small-cap stocks. There is no certainty, however, that this
pattern will continue in the future.

Growth Portfolio
The Portfolio seeks long-term growth of capital by investing in
large-capitalization stocks of high-quality, seasoned U.S. companies with
records of superior growth. The Portfolio's adviser researches more than 200
large companies with superior records and good prospects for growth. Stocks
purchased for the Portfolio typically have strong positions in their markets,
reasonable financial strength, and relatively low sensitivity to changing
economic conditions, and they usually sell at attractive prices in relation to
their growth potential. The Portfolio will take relatively large positions in
the stocks whose prospects seem most favorable, and its ten largest holdings may
account for 35% to 40% of total assets. In addition, the Portfolio's overall
makeup may differ substantially from that of the broad stock market in terms of
industry weightings and market capitalization.

[GRAPHIC OF FLAG] Because the Portfolio invests a higher percentage of assets in
its ten largest holdings than the average stock fund does, the Portfolio is
subject to the risk that its performance may be hurt disproportionately by the
poor performance of relatively few stocks.

Small Company Growth Portfolio
The Portfolio seeks long-term growth of capital by investing primarily in
small-capitalization stocks of companies that appear to offer favorable
prospects for growth and price appreciation. The Portfolio's stocks are expected
to provide only minimal dividend income.

The median market capitalization of the stocks held in the Portfolio is
expected to be below $1 billion. By way of comparison, the median market cap of
stocks in the S&P 500 Index, which is dominated by large stocks, exceeds $40
billion.

The Portfolio's investment adviser categorizes stocks into three categories:
(1) "Core" growth stocks, representing 50%-80% of assets, are companies with
demonstrated records of growth and a strong market position based on a
proprietary product or service; (2) "Pioneers," 10%-25% of assets, generally
have unique technology or other innovations that may lead to new products or
expansion into new markets; and (3) "Special values," 10%-25% of assets, are
companies whose stock prices are undervalued given the adviser's view of their
prospects over the next several years.

Besides common stocks, the Portfolio may invest in securities that are
convertible into common stocks.

The Portfolio's holdings may include securities issued by small or
unseasoned companies with speculative risk characteristics. Small

PLAIN TALK ABOUT
Fund Diversification

In general, the more diversified a fund's stock or bond holdings, the less
likely it is that a specific security's poor performance will hurt the fund. One
measure of a fund's diversification is the percentage of its assets represented
by its ten largest holdings. The average U.S. equity mutual fund has about 30%
of its assets invested in its ten largest holdings, while some less-diversified
mutual funds have more than 50% of their assets invested in the stocks of just
ten companies.
<PAGE>

company stocks have historically been subject to wider fluctuations in share
prices and total returns than mid- or large-cap stocks. Among the reasons for
this high degree of price volatility: Markets for small-capitalization stocks
are less liquid than markets for larger stocks, meaning that during periods of
market turbulence it may be difficult to sell small company stocks; small
companies generally may be less able than larger ones to ride out economic
downturns; and small company stocks often pay no dividends.

International Portfolio
The Portfolio seeks long-term growth of capital by investing in a broadly
diversified group of stocks of seasoned companies located outside of the United
States. In selecting stocks, the Portfolio's adviser evaluates foreign markets
around the world. Depending on its assessment of the business and investment
climates in the various markets, the adviser determines the proportion of the
Portfolio's assets to allocate to individual countries. Within the chosen
markets, the adviser selects companies believed to have above-average growth
potential and whose stocks sell at reasonable prices. The adviser's assessments
are based on extensive research by a team of analysts at 12 regional offices
around the world.

The core of the Portfolio--normally constituting 60% to 70% of its total
assets--consists of stocks of companies that possess what the adviser believes
are sustainable competitive advantages and strong prospects for growth. These
core holdings may include small- and mid-cap stocks along with large-cap stocks.
The remainder of the Portfolio's assets consist of "noncore" stocks selected to
increase the Portfolio's presence in markets where the near-term outlook is
particularly favorable. These noncore holdings typically are large-cap stocks
that have historically moved in accordance with their local markets.

The adviser's investment approach results in a Portfolio whose overall
characteristics will often differ substantially from those of broad
international stock indexes, such as the Morgan Stanley Capital International
Europe, Australasia, Far East (EAFE) Index. As a result of its different makeup,
the Portfolio's performance is apt to differ substantially from time to time
from the performance of broad international stock indexes.

Because it invests mainly in international stocks, the Portfolio is subject
to:

[GRAPHIC OF FLAG] Currency risk, which is the chance that returns will be hurt
by a rise in the value of the U.S. dollar versus foreign currencies.

Conversely, when the U.S. dollar falls in value versus other currencies,
returns from international stocks are enhanced because a given sum in foreign
currency translates into more U.S. dollars.

[GRAPHIC OF FLAG] Country risk, which is the possibility that political events
(such as a war), financial problems (such as government default), or natural
disasters (such as an earthquake) will weaken a country's economy and cause
investments in that country to lose money.

The transition to a common European currency--the "euro"--beginning on January
1, 1999 is one form of country risk that the Portfolio faces. Although the euro
conversion should have no immediate impact on the Portfolio's share price, it
may cause uncertainty in European financial markets. If there are difficulties
with the euro conversion, the Portfolio's European holdings could be adversely
affected.

International investing involves other risks and considerations, including:
differences in accounting, auditing, and financial reporting standards;
generally higher costs for trading securities; foreign withholding taxes payable
on the Portfolio's securities, which can reduce dividend income available to
distribute to shareholders; and adverse changes in regulatory or legal climates.

Returns on international stocks can be as volatile--or more volatile--than
returns on U.S. stocks. To illustrate the volatility of international stock
market returns for the U.S. dollar-based investor, the following table shows the
best, worst, and average total returns for international stocks over various
periods as measured by the EAFE Index, a widely used barometer of international
stock market activity. (Total returns consist of dividend income plus change in
market price.) Note that the returns shown in the table do not include the costs
of buying and selling stocks or other expenses that a real-world investment
portfolio would incur. Note, also, that the gap between best and worst
<PAGE>

tends to narrow over the long term. Also, keep in mind that past returns are not
indicative of future returns and that volatility in the future could be greater
or less than past volatility.

- --------------------------------------------------------------------------------
International Stock Market Returns (1969-1997)
- --------------------------------------------------------------------------------
1 Year 5 Years 10 Years 20 Years
- --------------------------------------------------------------------------------
Best 69.9% 36.5% 22.8% 16.3%
Worst -23.2 1.5 6.6 12.0
Average 14.5 13.8 15.3 14.9
- --------------------------------------------------------------------------------

The table covers all of the 1-, 5-, 10-, and 20-year periods from 1969 through
1997. Keep in mind that this was a particularly favorable period for foreign
markets. For instance, over 10-year periods, foreign stocks provided an average
return of 15.3%, compared to 10.9% for U.S. stocks (as measured by the S&P 500
Index) during the same time frame. These average returns reflect past
performance on international stocks; you should not regard them as an indication
of future returns from either foreign markets as a whole or this Portfolio in
particular.

The Portfolio may enter into forward foreign currency contracts, which can
help protect its holdings against unfavorable short-term changes in exchange
rates. A forward foreign currency contract is an agreement to buy or sell a
country's currency at a specific price on a specific date, usually 30, 60, or 90
days in the future. In other words, the contract guarantees an exchange rate on
a given date. Managers of international stock funds use these contracts to guard
against sudden, unfavorable changes in U.S. dollar/foreign currency exchange
rates. The contracts will not prevent the fund's securities from falling in
value during foreign market downswings. The adviser will use these contracts to
eliminate some of the uncertainty of foreign exchange rates.

REIT Index Portfolio
The Portfolio uses an index approach in seeking to provide a high level of
income and moderate long-term growth of capital, by attempting to match the
performance of the Morgan Stanley REIT Index, a benchmark of U.S. real estate
investment trusts (REITs).

The Portfolio invests in stocks of REITs, which own office buildings, hotels,
shopping centers, and other properties. The Portfolio uses a "passively"
managed--or index--approach to create a mix of securities that will track as
closely as possible the performance of the REIT Index. Holdings of the Index,
and thus of the Portfolio, are weighted according to each stock's
market-capitalization. The Portfolio will hold each stock found in the Index in
approximately the same proportion as represented in the Index itself. For
example, if a specific stock represented 2% of the Morgan Stanley REIT Index,
the Portfolio would invest 2% of its assets in that stock.

PLAIN TALK ABOUT
REITs

Rather than directly owning properties--which can be costly and difficult to
convert into cash when needed--some investors buy shares in a company that owns
and manages real estate. Such a company is known as a real estate investment
trust, or REIT. Unlike corporations, REITs do not have to pay income taxes if
they meet certain Internal Revenue Code requirements. To qualify, a REIT must
distribute at least 95% of its taxable income to its shareholders and receive at
least 75% of that income from rents, mortgages, and sales of property. REITs
offer investors greater liquidity and diversification than direct ownership of a
handful of properties, as well as greater income potential than an investment in
common stocks. As with any investment in real estate, however, a REIT's
performance depends on several factors, such as its ability to find tenants for
its properties, to renew leases, and to finance property purchases and
renovations.
<PAGE>

PLAIN TALK ABOUT

Types of REITs

An equity REIT, owns properties, generates income (from rental and lease
payments) and offers the potential for growth (from property appreciation) as
well as occasional capital gains from the sale of property. A mortgage REIT
makes loans to commercial real estate developers. Mortgage REITs earn interest
income and are subject to credit risk (that is, the chance that a developer will
fail to repay a loan). A hybrid REIT holds properties and mortgages.

[GRAPHIC OF FLAG] Because it invests in stocks of REITs, the Portfolio is
subject to several risks in addition to the risk of a general decline in the
stock market. These risks include:

Real estate industry risk, which is the possibility that a general decline in
property values could cause the prices of REIT stocks to fall.

Interest rate risk, which is the possibility that higher interest rates could
hurt REIT performance. Higher interest rates could make yields on competing
investments, including bonds, more attractive than owning REIT shares. Also,
higher rates make it more difficult and costly for REITs to borrow to finance
property purchases and improvements.

The Portfolio's returns will be strongly linked to the ups and downs of the
commercial real estate market. Real estate goes through up and down market
cycles that can be extreme and long-lasting. In general, many factors affect
real estate values, including: the supply of, and demand for, properties; the
economic health of the nation or of specific geographic regions; and the
strength of specific industries renting properties. Ultimately, an individual
REIT's performance depends on the types and locations of the properties it owns
and on how well the REIT manages its properties. For instance, rental income
could decline because of extensive vacancies, increased competition from nearby
properties, tenants' failure to pay rent, or incompetent management. Property
values could decrease because of over-building, environmental liabilities,
uninsured damages caused by natural disasters, loss of IRS status as a qualified
REIT, increases in property taxes, or changes in zoning laws.

The Morgan Stanley REIT Index* comprises the stocks of all publicly traded
equity REITs (except health-care REITs) that meet certain criteria. For example,
to be included in the Index, a REIT must have a total market capitalization of
at least $100 million and have enough shares and trading volume to be considered
liquid. The REIT Index Portfolio invests in equity REITs only.

As of September 30, 1998, the Index included 130 REITs. The Index is
rebalanced every calendar quarter and whenever a REIT is removed from the Index.
A REIT can be removed from the Index because its market capitalization falls
below $75 million, or because of corporate activity such as a merger,
acquisition, bankruptcy, IRS removal of REIT status, a fundamental change in the
REIT's business, or a change in shares outstanding. REITs in the Morgan Stanley
REIT Index tend to be mid- and small-capitalization stocks, with market
capitalizations generally below $4 billion. Like small-capitalization stocks in
general, REIT stocks can be more volatile than the overall stock market.

Stocks in the Morgan Stanley REIT Index represent a broadly diversified range
of property types and geographical regions. The Index's makeup, as of September
30, 1998, follows.

------------------------------------------------------------
Percentage
Type of REIT of Index Value
------------------------------------------------------------
Retail 24%
Residential Apartments 20
Office 19
Industrial 16
Hotels 11
Diversified 10
------------------------------------------------------------
<PAGE>

The Index's ten largest stocks make up about 30% of its market value. The
Index's largest stocks, as of September 30, 1998, are listed below.

1. Equity Office Properties Trust REIT 6. Crescent Real Estate, Inc. REIT
2. Starwood Hotels & Resorts REIT 7. Archstone Communities Trust REIT
3. Simon Property Group, Inc. REIT 8. ProLogis Trust REIT
4. Equity Residential Properties Trust REIT 9. Vornado Realty Trust REIT
5. Public Storage, Inc. REIT 10. Spieker Properties, Inc. REIT

The Portfolio intends to remain at least 98% invested in the stocks of REITs;
the remaining assets will be invested in cash reserves to maintain liquidity.

* The REIT Index Portfolio is not sponsored, sold, promoted, or endorsed by
Morgan Stanley. The Morgan Stanley REIT Index is the exclusive property of
Morgan Stanley and is a service mark of Morgan Stanley Group Inc.

Investing in Repurchase Agreements
The Portfolios may invest in repurchase agreements, which carry several risks.
For instance, if the seller is unable to repurchase the securities as promised,
a Portfolio may experience a loss when trying to sell the securities to another
party. Or, if the seller becomes insolvent, a bankruptcy court may determine
that the securities do not belong to the Portfolio and order that they be sold
to pay off the seller's debts. The Portfolios' advisers attempt to control these
risks through careful counterparty selection and monitoring.

Temporary Defensive Measures
The Portfolios (except the Money Market Portfolio) may, from time to time, take
temporary defensive measures--such as holding cash reserves without limit--that
are inconsistent with the Portfolios' investment strategies in response to
adverse market, economic, political, or other conditions. In taking such
measures, the Portfolios may not achieve their investment objectives.

PLAIN TALK ABOUT
Repurchase Agreements

A means of investing money for a short period, repurchase agreements are
contracts in which a U.S. commercial bank or securities dealer sells government
securities and agrees to repurchase them on a specific date (normally the next
business day) and at a specific price.

Turnover Rate

A mutual fund's turnover rate is a measure of its trading activity. (A turnover
rate of 100% would occur, for example, if a Portfolio sold and replaced
securities valued at 100% of its net assets within a one-year period.) The
Portfolios retain the right to sell securities regardless of how long they have
been held. The turnover rates for the Portfolios can be found in the Financial
Highlights section of this prospectus, except for the Money Market Portfolio,
whose turnover rate is not meaningful because of the very short-term nature of
its holdings.

The Portfolios and Vanguard

Vanguard Variable Insurance Fund is a member of The Vanguard Group, a family of
more than 35 investment companies with more than 100 distinct investment
portfolios and total net assets of more than $410 billion. All of the Vanguard
funds share in the expenses associated with business operations, such as
personnel, office space, equipment, and advertising.

Vanguard also provides marketing services to the funds. Although shareholders
do not pay sales commissions or 12b-1 distribution fees, each fund pays its
allocated share of The Vanguard Group's marketing costs.
<PAGE>

PLAIN TALK ABOUT

Vanguard's Unique Corporate Structure

The Vanguard Group is truly a mutual mutual fund company. It is owned jointly by
the funds it oversees and thus indirectly by the shareholders in those funds.
Most other mutual funds are operated by for-profit management companies that may
be owned by one person, by a group of individuals, or by investors who own the
management company's stock. By contrast, Vanguard provides its services on an
"at-cost" basis, and the funds' expense ratios reflect only these costs. No
separate management company reaps profits or absorbs losses from operating the
funds.

Investment Advisers

The Vanguard Group
The Vanguard Group, P.O. Box 2600, Valley Forge, Pennsylvania 19482, provides
investment advisory services on an at-cost basis to six of the Portfolios of
Vanguard Variable Insurance Fund.

Vanguard Fixed Income Group provides advisory services for the Money Market,
Short-Term Corporate, and High-Grade Bond Portfolios. Vanguard Fixed Income
Group provides investment advisory services to many Vanguard funds; as of
September 30, 1998, the Fixed Income Group managed more than $119 billion in
total assets. The individuals responsible for overseeing the Portfolios'
investments are:

. Ian A. MacKinnon, Managing Director of Vanguard; has worked in investment
management since 1974; primary responsibility for Vanguard's internal
fixed-income policy and strategy since 1981; B.A., Lafayette College; M.B.A.,
Pennsylvania State University.
. David R. Glocke, Principal and (since 1997) Portfolio Manager of the Money
Market Portfolio; has worked in investment management since 1991; B.S.,
University of Wisconsin.
. Robert F. Auwaerter, Principal and (since its inception) Portfolio Manager of
the Short-Term Corporate Portfolio; has worked in investment management since
1978; B.S., University of Pennsylvania; M.B.A., Northwestern University.
. Kenneth E. Volpert, Principal and (since 1992) Portfolio Manager of the
High-Grade Bond Portfolio; has worked in investment management since 1981;
B.S., University of Illinois; M.B.A., University of Chicago.

For the fiscal year ended September 30, 1998, the Money Market Portfolio's
advisory costs represented an effective annual rate of 0.01% of the Portfolio's
average net assets.

The commencement date for investment operations for the Short-Term Corporate
Portfolio is February 9, 1999.

This Portfolio's advisory costs for its first fiscal year are projected at an
effective annual rate of 0.015% of the Portfolio's average net assets.

For the fiscal year ended September 30, 1998, the High-Grade Bond Portfolio's
advisory costs represented an effective annual rate of 0.01% of the Portfolio's
average net assets.

Vanguard Core Management Group provides advisory services for the Equity
Index, Mid-Cap Index, and REIT Index Portfolios. Vanguard Core Management Group
provides investment advisory services to many Vanguard funds; as of September
30, 1998, the Core Management Group managed more than $115 billion in total
assets. The individual responsible for overseeing each Portfolio's investments
is:

. George U. Sauter, Managing Director of Vanguard; has worked in investment
management since 1985; with Vanguard since 1987; A.B., Dartmouth College;
M.B.A., University of Chicago.

For the fiscal year ended September 30, 1998, the Equity Index Portfolio's
advisory costs represented an effective annual rate of 0.0025% of the
Portfolio's average net assets.

The commencement date for investment operations for the Mid-Cap Index and REIT
Index Portfolios is February 9, 1999. The first fiscal year's advisory costs for
these Portfolios are projected at an effective annual rate of 0.003% of the Mid-
Cap Index Portfolio's average net assets, and 0.005% of the REIT Index
Portfolio's average net assets.
<PAGE>

Vanguard employs six independent investment advisers to manage the remaining
seven Portfolios.

Wellington Management Company, LLP
Wellington Management Company, LLP ("WMC"), 75 State Street, Boston,
Massachusetts 02109, provides advisory services for the High Yield Bond and
Balanced Portfolios. WMC, an investment advisory firm founded in 1928, currently
manages more than $196 billion in stock and bond portfolios, including 14
Vanguard funds.

The individual responsible for overseeing the High Yield Bond Portfolio's
investments is:

. Earl E. McEvoy, Senior Vice President and Partner of WMC; has worked in
investment management since 1972; with WMC since 1978; has managed the
Portfolio since its inception; B.A., Dartmouth College; M.B.A., Columbia
University School of Business. The individuals responsible for overseeing the
Balanced Portfolio's investments are:
. Ernst H. von Metzsch, CFA, Senior Vice President and Partner of WMC; has
worked in investment management since 1970; with WMC since 1973; has managed
the Portfolio since 1995; M.Sc., University of Leiden, the Netherlands; Ph.D.,
Harvard University.
. Paul D. Kaplan, Senior Vice President and Partner of WMC; has worked in
investment management since 1974; with WMC since 1978; has assisted in the
management of the Portfolio since 1994; B.A., Dickinson College; M.S.,
The Sloan School of Management, Massachusetts Institute of Technology.

Wellington's advisory fee with respect to the Balanced Portfolio is paid
quarterly based on a percentage of net assets. The basic advisory fee may be
increased or decreased by applying an adjustment formula based on the investment
performance of the Balanced Portfolio relative to that of a "Composite Index,"
65% of which is comprised of the Standard & Poor's Composite Stock Price Index
and 35% of which is comprised of the Lehman Long-Term Corporate AA or Better
Bond Index.

For the fiscal year ended September 30, 1998, the advisory fee paid to WMC
with respect to the Balanced Portfolio represented an effective annual rate of
0.10% of the Portfolio's average net assets, before a decrease of $68,000
(0.01%) based on performance.

For the fiscal year ended September 30, 1998, the advisory fee paid to WMC
with respect to the High Yield Bond Portfolio represented an effective annual
rate of 0.06% of the Portfolio's average net assets.

Newell Associates
Newell Associates, 525 University Avenue, Palo Alto, California 94301, provides
advisory services for the Equity Income Portfolio. Newell Associates, an
investment advisory firm founded in 1986, currently manages more than $2.4
billion.

The individual responsible for overseeing the Equity Income Portfolio's
investments is:

. Roger D. Newell, Chairman of Newell Associates; has worked in investment
management since 1958; with Newell Associates since 1986; has managed the
Portfolio since its inception; B.A., University of Minnesota; J.D., Harvard
Law School; M.A., University of Minnesota.

For the fiscal year ended September 30, 1998, the advisory fee paid to Newell
Associates represented an effective annual rate of 0.10% of the Portfolio's
average net assets.

Barrow, Hanley, Mewhinney & Strauss, Inc.
Barrow, Hanley, Mewhinney & Strauss, Inc. ("BHM&S"), One McKinney Plaza, 3232
McKinney Avenue, 15th Floor, Dallas, Texas 75204, provides advisory services for
the Diversified Value Portfolio. BHM&S is owned by United Asset Management, 1
International Place, Boston, Massachusetts 02110. BHM&S currently manages
approximately $35 billion in stock and bond portfolios.

The individual responsible for overseeing the Diversified Value Portfolio's
investments is:

. James P. Barrow, Partner and Vice President of BHM&S; has worked in investment
management since 1965; with BHM&S since 1980; has managed the Portfolio since
its inception; B.S., University of South Carolina.

BHM&S's advisory fee is paid quarterly based on an annual percentage rate of
0.125% applied to the average month-end net assets of the Diversified Value
Portfolio for the quarter.
<PAGE>

The basic advisory fee may be increased or decreased by applying an adjustment
formula based on the investment performance of the Diversified Value Portfolio
relative to that of the Standard & Poor's/BARRA Value Index.

The incentive/penalty fee will not be fully operable until the quarter ending
December 31, 2001. Until that date, the incentive/penalty will be calculated
using certain transition rules that are explained in the Statement of Additional
Information.

The commencement date for investment operations for the Diversified Value
Portfolio is February 9, 1999. The first fiscal year's advisory costs for
this Portfolio is projected at an effective annual rate of 0.125% of the
Portfolio's average net assets.

Lincoln Capital Management Company
Lincoln Capital Management Company ("Lincoln"), 200 South Wacker Drive, Chicago,
Illinois 60606, provides advisory services for the Growth Portfolio. Lincoln is
an investment advisory firm founded in 1967. As of September 30, 1998, Lincoln
managed more than $56 billion in assets. It provides investment counseling
services to a limited number of clients, most of which are institutional clients
such as pension funds.

The individuals responsible for overseeing the Growth Portfolio's investments
are:

. J. Parker Hall, III, Chief Executive Officer and Managing Director of Lincoln;
has worked in investment management since 1957; with Lincoln since 1971; has
managed the Portfolio since its inception; B.A., Swarthmore College; M.B.A.,
Harvard Business School.
. David M. Fowler, Executive Vice President and Managing Director of Lincoln;
has worked in investment management since 1972; with Lincoln since 1984; has
managed the Portfolio since its inception. B.S., Loyola University; M.B.A.,
Northwestern University.

For the fiscal year ended September 30, 1998, the advisory fee paid to Lincoln
represented an effective annual rate of 0.15% of the Portfolio's average net
assets.

Granahan Investment Management, Inc.
Granahan Investment Management, Inc. ("Granahan"), 275 Wyman Street, Waltham,
Massachusetts 02154, provides investment advisory services for the Small Company
Growth Portfolio. Granahan is an investment advisory firm specializing in
small-company stock investments. Founded in 1985, Granahan currently manages
approximately $1.2 billion in assets.

The individual responsible for overseeing the Small Company Growth Portfolio's
investments is:

. John J. Granahan, CFA, Founder and President of Granahan Investment
Management; has worked in investment management since 1963; founded Granahan
Investment Management in 1985; has managed the Portfolio since its inception;
B.S., St. Joseph's University; Graduate Fellow, Catholic University of
America.

For the fiscal year ended September 30, 1998, the advisory fee paid to
Granahan represented an effective annual rate of 0.15% of the Portfolio's
average net assets, before a decrease of $55,000 (0.04%) based on performance.

Schroder Capital Management International, Inc.
Schroder Capital Management International, Inc. ("Schroder Capital"), 787
Seventh Avenue, New York, New York 10019, provides investment advisory services
for the International Portfolio. Schroder Capital is part of a world-wide group
of banks and financial services companies known as The Schroder Group. As of
September 30, 1998, The Schroder Group managed more than $170 billion in assets.

The individual responsible for overseeing the International Portfolio's
investments is:

. Richard Foulkes, Executive Vice President and Deputy Chairman of Schroder
Capital; has worked in investment management since 1968; with Schroder Capital
since 1968; has managed the Portfolio since its inception; educated at the
Sorbonne, France; M.A., Cambridge University, England.

Schroder Capital's advisory fee is paid quarterly based on a percentage of net
assets. The basic advisory fee may be increased or decreased by applying an
adjustment formula based on the investment performance of the International
Portfolio relative to that of the Morgan Stanley Capital International Europe,
Australasia, Far East Index.

For the fiscal year ended September 30, 1998, the advisory fee paid to
Schroder Capital represented an effective annual rate of 0.12% of the
Portfolio's average net assets, before an increase of $62,000 (0.03%) based on
performance.
<PAGE>

The advisers are authorized to choose brokers or dealers to handle the
purchase and sale of the Portfolios' securities, and to get the best available
price and most favorable execution from these brokers with respect to all
transactions. The Fund may direct an adviser to use a particular broker for
certain transactions in exchange for commission rebates or research services
provided to the Fund or its Portfolios.

Year 2000 Challenge

The common practice in computer programming of using just two digits to identify
a year has resulted in the Year 2000 challenge throughout the information
technology industry. If unchanged, many computer applications and systems could
misinterpret dates occurring after December 31, 1999, leading to errors or
failure. Such failure could adversely affect a fund's operations, including
pricing, securities trading, and the servicing of shareholder accounts.

The Vanguard Group is dedicated to providing uninterrupted, high-quality
performance from our computer systems before, during, and after 2000. In July
1998, we completed the renovation and initial testing of our internal systems.
Vanguard is diligently working with external partners, suppliers, and vendors,
including fund managers and other service providers, to assure that the systems
with which we interact remain operational at all times.

In addition to taking every reasonable step to secure our internal systems and
external relationships, Vanguard is further developing contingency plans
intended to assure that unexpected systems failures will not adversely affect
the Portfolios' operations. Vanguard intends to monitor these processes through
the rollover of 1999 into 2000 and to quickly implement alternate solutions if
necessary.

However, despite Vanguard's efforts and contingency plans, noncompliant
computer systems could have a material adverse effect on a Portfolio's business,
operations, or financial condition. Additionally, a Portfolio's performance
could be hurt if a computer system failure at a company or governmental unit
affects the price of securities the Portfolio owns.

Taxes

The tax consequences of your investment in a Portfolio depend on the provisions
of the variable annuity or variable life insurance plan through which you
invest. For more information on taxes, please refer to the accompanying
prospectus of the insurance company separate account that offers your annuity or
life insurance contract.

Share Price

Each Portfolio's share price, called its net asset value, or NAV, is calculated
each business day after the close of trading on the New York Stock Exchange (the
NAV is not calculated on holidays or other days the Exchange is closed).
Purchase and redemption orders for each Portfolio are based on the Portfolio's
net asset value next computed after Vanguard receives a request in good order.
Net asset value per share is computed by adding up the total value of each
Portfolio's investments and other assets, subtracting any of its liabilities
(debts), and then dividing by the number of Portfolio shares outstanding:

Total Assets - Liabilities
Net Asset Value = ---------------------------------------
Number of Shares Outstanding

A Note on Pricing: Each Portfolio's investments (with the exception of the
Money Market Portfolio, which uses the amortized cost method of valuation) will
be priced at their market value when market quotations are readily available.
When these quotations are not readily available, investments will be priced at
their fair value, calculated according to procedures adopted by the Fund's Board
of Trustees.

Each Portfolio's NAV is used to determine the unit value for the separate
account that invests in that Portfolio. For more information on unit values,
please refer to the accompanying prospectus of the insurance company separate
account that offers your annuity or life insurance contract.

<PAGE>

PLAIN TALK ABOUT

How to Read the Financial Highlights Table

This explanation uses the Money Market Portfolio as an example. The Portfolio
began fiscal 1998 with a net asset value (price) of $1 per share. During the
year, the Portfolio earned $.055 per share from investment income (interest and
dividends).

Shareholders received $.055 per share in the form of dividend distributions. A
portion of each year's distributions may come from the prior year's income.

The earnings ($.055 per share) minus the distributions ($.055 per share)
resulted in a share price of $1 at the end of the year. For a shareholder who
reinvested the distributions in the purchase of more shares, the total return
from the Portfolio was 5.60% for the year.

As of September 30, 1998, the Portfolio had $590 million in net assets. For
the year, its expense ratio was 0.20% ($2.00 per $1,000 of net assets); and net
investment income amounted to 0.20% of its average net assets.

Financial Highlights

The following financial highlights tables are intended to help you understand
each Portfolio's financial performance for the past five years*, and reflect
financial results for a single Portfolio share in each case. The total returns
in each table represent the rate that an investor would have earned each year on
an investment in the Portfolio (assuming reinvestment of all dividends and
distributions). This information has been derived from the financial statements
audited by PricewaterhouseCoopers LLP, independent accountants, whose
report--along with each Portfolio's financial statements--is included in the
Fund's most recent annual report to shareholders. You may have the annual report
sent to you without charge by contacting Vanguard.

<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
Money Market Portfolio
Year Ended September 30,
-------------------------------------------
1998 1997 1996 1995 1994
- -------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $1.00 $1.00 $1.00 $1.00 $1.00
- -------------------------------------------------------------------------------------
Investment Operations
Net Investment Income .055 .054 .054 .056 .035
Net Realized and Unrealized Gain (Loss)
on Investments -- -- -- -- --
-------------------------------------------
Total from Investment Operations .055 .054 .054 .056 .035
-------------------------------------------
Distributions
Dividends from Net Investment Income (.055) (.054) (.054) (.056) (.035)
Distributions from Realized Capital
Gains -- -- -- -- --
-------------------------------------------
Total Distributions (.055) (.054) (.054) (.056) (.035)
- -------------------------------------------------------------------------------------
Net Asset Value, End of Year $1.00 $1.00 $1.00 $1.00 $1.00
=====================================================================================

Total Return 5.60% 5.48% 5.49% 5.77% 3.63%
=====================================================================================

Ratios/Supplemental Data
Net Assets, End of Year (Millions) $590 $393 $285 $218 $171
Ratio of Total Expenses to
Average Net Assets 0.20% 0.21% 0.19% 0.23% 0.23%
Ratio of Net Investment Income to
Average Net Assets 5.46% 5.36% 5.36% 5.66% 3.66%
=====================================================================================
</TABLE>

From time to time, the Vanguard funds advertise yield and total return
figures. Yield is a measure of past dividend income. Total return includes both
past dividend income (assuming that it has been reinvested) plus realized and
unrealized capital appreciation (or depreciation). Neither yield nor total
return should be used to predict the future performance of a fund.

Yields and total returns presented for the Portfolios are net of the
Portfolios' operating expenses, but do not take into account charges and
expenses attributable to the variable annuity or variable insurance plan through
which you invest. The expenses of the annuity or insurance plan reduce the
returns and yields you ultimately receive, so you should bear those expenses in
mind when evaluating the performance of the Portfolios and when comparing the
yields and returns of the Portfolios with those of other mutual funds.

* Because the commencement date for investment operations for the Short-Term
Corporate, Diversified Value, Mid-Cap Index, and REIT Index Portfolios is
February 9, 1999, tables are not included for these Portfolios.

<PAGE>

37
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------
High-Grade Bond Portfolio
Year Ended September 30,
---------------------------------------------------
1998 1997 1996 1995 1994
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $10.57 $10.29 $10.47 $ 9.82 $10.94
- ----------------------------------------------------------------------------------------------------------------
Investment Operations
Net Investment Income .663 .678 .670 .663 .619
Net Realized and Unrealized Gain (Loss) on Investments .500 .280 (.180) .650 (.966)
---------------------------------------------------
Total from Investment Operations 1.163 .958 .490 1.313 (.347)
---------------------------------------------------
Distributions
Dividends from Net Investment Income (.663) (.678) (.670) (.663) (.619)
Distributions from Realized Capital Gains -- -- -- -- (.154)
---------------------------------------------------
Total Distributions (.663) (.678) (.670) (.663) (.773)
- ----------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $11.07 $10.57 $10.29 $10.47 $ 9.82
================================================================================================================

Total Return 11.36% 9.60% 4.80% 13.83% -3.31%
================================================================================================================

Ratios/Supplemental Data
Net Assets, End of Year (Millions) $322 $188 $139 $120 $80
Ratio of Total Expenses to Average Net Assets 0.28% 0.29% 0.25% 0.29% 0.24%
Ratio of Net Investment Income to Average Net Assets 6.16% 6.51% 6.43% 6.58% 5.98%
Turnover Rate 65% 40% 56% 29% 46%
================================================================================================================
<CAPTION>

- ----------------------------------------------------------------------------------------------------------------
High Yield Bond Portfolio
Year Ended September 30,
------------------------ Jun. 3* to
1998 1997 Sep. 30, 1996
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Net Asset Value, Beginning of Period $10.59 $10.15 $10.00
- ----------------------------------------------------------------------------------------------------------------
Investment Operations
Net Investment Income .895 .922 .299
Net Realized and Unrealized Gain (Loss) on Investments (.485) .450 .150
-----------------------------
Total from Investment Operations .410 1.372 .449
-----------------------------
Distributions
Dividends from Net Investment Income (.895) (.922) (.299)
Distributions from Realized Capital Gains (.015) (.010) --
-----------------------------
Total Distributions (.910) (.932) (.299)
- ----------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Period $10.09 $10.59 $10.15
================================================================================================================

Total Return 3.85% 14.12% 4.56%
================================================================================================================

Ratios/Supplemental Data
Net Assets, End of Period (Millions) $131 $85 $22
Ratio of Total Expenses to Average Net Assets 0.31% 0.31% 0.32%**
Ratio of Net Investment Income to Average Net Assets 8.45% 8.88% 9.29%**
Turnover Rate 38% 30% 8%
================================================================================================================
</TABLE>

* Inception.
** Annualized.
<PAGE>

38
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------
Balanced Portfolio
Year Ended September 30,
-------------------------------------------------
1998 1997 1996 1995 1994
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $17.97 $14.81 $13.33 $11.33 $11.58
- ------------------------------------------------------------------------------------------------------------
Investment Operations
Net Investment Income .63 .60 .565 .51 .46
Net Realized and Unrealized Gain (Loss) on Investments .56 3.31 1.420 2.07 (.16)
-------------------------------------------------
Total from Investment Operations 1.19 3.91 1.985 2.58 .30
-------------------------------------------------
Distributions
Dividends from Net Investment Income (.60) (.19) (.505) (.50) (.39)
Distributions from Realized Capital Gains (.83) (.56) -- (.08) (.16)
-------------------------------------------------
Total Distributions (1.43) (.75) (.505) (.58) (.55)
- ------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $17.73 $17.97 $14.81 $13.33 $11.33
============================================================================================================

Total Return 7.26% 27.60% 15.26% 23.65% 2.67%
============================================================================================================

Ratios/Supplemental Data
Net Assets, End of Year (Millions) $ 553 $ 468 $ 330 $ 280 $ 230
Ratio of Total Expenses to Average Net Assets 0.31% 0.32% 0.31% 0.36% 0.34%
Ratio of Net Investment Income to Average Net Assets 3.72% 3.96% 4.04% 4.25% 4.11%
Turnover Rate 31% 25% 36% 26% 42%
============================================================================================================
<CAPTION>

- ------------------------------------------------------------------------------------------------------------
Equity Income Portfolio
Year Ended September 30,
-------------------------------------------------
1998 1997 1996 1995 1994
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $18.50 $13.71 $12.00 $10.05 $10.57
- ------------------------------------------------------------------------------------------------------------
Investment Operations
Net Investment Income .490 .42 .48 .46 .45
Net Realized and Unrealized Gain (Loss) on Investments 1.475 4.69 1.75 2.02 (.63)
-------------------------------------------------
Total from Investment Operations 1.965 5.11 2.23 2.48 (.18)
-------------------------------------------------
Distributions
Dividends from Net Investment Income (.400) (.15) (.46) (.48) (.33)
Distributions from Realized Capital Gains (.375) (.17) (.06) (.05) (.01)
-------------------------------------------------
Total Distributions (.775) (.32) (.52) (.53) (.34)
- ------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $19.69 $18.50 $13.71 $12.00 $10.05
============================================================================================================

Total Return 11.19% 38.05% 19.07% 25.69% -1.64%
============================================================================================================

Ratios/Supplemental Data
Net Assets, End of Year (Millions) $375 $271 $142 $91 $68
Ratio of Total Expenses to Average Net Assets 0.36% 0.37% 0.35% 0.39% 0.34%
Ratio of Net Investment Income to Average Net Assets 2.69% 3.11% 3.69% 4.28% 4.57%
Turnover Rate 6% 8% 8% 10% 18%
============================================================================================================
</TABLE>
<PAGE>

39
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------------------
Equity Index Portfolio
Year Ended September 30,
------------------------------------------------
1998 1997 1996 1995 1994
- -----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $25.32 $18.32 $15.69 $12.47 $12.37
- -----------------------------------------------------------------------------------------------------------
Investment Operations
Net Investment Income .37 .34 .34 .33 .31
Net Realized and Unrealized Gain (Loss) on Investments 1.83 6.94 2.75 3.26 .12
------------------------------------------------
Total from Investment Operations 2.20 7.28 3.09 3.59 .43
------------------------------------------------
Distributions
Dividends from Net Investment Income (.34) (.19) (.33) (.29) (.23)
Distributions from Realized Capital Gains (.24) (.09) (.13) (.08) (.10)
------------------------------------------------
Total Distributions (.58) (.28) (.46) (.37) (.33)
- -----------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $26.94 $25.32 $18.32 $15.69 $12.47
===========================================================================================================

Total Return 8.97% 40.31% 20.19% 29.51% 3.53%
===========================================================================================================

Ratios/Supplemental Data
Net Assets, End of Year (Millions) $920 $718 $406 $276 $186
Ratio of Total Expenses to Average Net Assets 0.20% 0.23% 0.22% 0.28% 0.24%
Ratio of Net Investment Income to Average Net Assets 1.48% 1.78% 2.13% 2.53% 2.60%
Turnover Rate 1% 1% 2% 2% 7%
===========================================================================================================
<CAPTION>

- -----------------------------------------------------------------------------------------------------------
Growth Portfolio
Year Ended September 30,
------------------------------------------------
1998 1997 1996 1995 1994
- -----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $21.51 $17.58 $14.10 $10.79 $10.26
- -----------------------------------------------------------------------------------------------------------
Investment Operations
Net Investment Income .16 .190 .18 .16 .14
Net Realized and Unrealized Gain (Loss) on Investments 3.43 4.615 3.65 3.26 .46
------------------------------------------------
Total from Investment Operations 3.59 4.805 3.83 3.42 .60
------------------------------------------------
Distributions
Dividends from Net Investment Income (.20) (.180) (.16) (.11) (.07)
Distributions from Realized Capital Gains (.57) (.695) (.19) -- --
------------------------------------------------
Total Distributions (.77) (.875) (.35) (.11) (.07)
- -----------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $24.33 $21.51 $17.58 $14.10 $10.79
===========================================================================================================

Total Return 17.37% 28.76% 27.79% 32.02% 5.87%
===========================================================================================================

Ratios/Supplemental Data
Net Assets, End of Year (Millions) $631 $460 $276 $162 $82
Ratio of Total Expenses to Average Net Assets 0.39% 0.38% 0.39% 0.47% 0.38%
Ratio of Net Investment Income to Average Net Assets 0.74% 1.12% 1.29% 1.64% 1.55%
Turnover Rate 48% 38% 42% 32% 34%
===========================================================================================================
</TABLE>
<PAGE>

40
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
Small Company Growth Portfolio
Year Ended September 30,
------------------------- Jun. 3* to
1998 1997 Sep. 30, 1996
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Net Asset Value, Beginning of Period $11.97 $ 9.84 $10.00
- -------------------------------------------------------------------------------------------------------------------
Investment Operations
Net Investment Income .06 .04 .04
Net Realized and Unrealized Gain (Loss) on Investments (2.46) 2.13 (.20)
----------------------------------
Total from Investment Operations (2.40) 2.17 (.16)
----------------------------------
Distributions
Dividends from Net Investment Income (.04) (.04) --
Distributions from Realized Capital Gains -- -- --
----------------------------------
Total Distributions (.04) (.04) --
- -------------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Period $ 9.53 $11.97 $ 9.84
===================================================================================================================

Total Return -20.10% 22.16% -1.60%
===================================================================================================================

Ratios/Supplemental Data
Net Assets, End of Period (Millions) $111 $133 $44
Ratio of Total Expenses to Average Net Assets 0.42% 0.39% 0.45%**
Ratio of Net Investment Income to Average Net Assets 0.54% 0.67% 1.42%**
Turnover Rate 106% 72% 18%
===================================================================================================================
</TABLE>

* Inception.
** Annualized.

<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------
International Portfolio
Year Ended September 30,
--------------------------------------- Jun. 3* to
1998 1997 1996 1995 Sep. 30, 1994
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Period $14.55 $12.74 $11.40 $10.31 $10.00
- -------------------------------------------------------------------------------------------------------------------
Investment Operations
Net Investment Income .21 .17 .14 .16 .05
Net Realized and Unrealized Gain (Loss) on Investments (1.48) 2.10 1.36 .99 .26
--------------------------------------------------------
Total from Investment Operations (1.27) 2.27 1.50 1.15 .31
--------------------------------------------------------
Distributions
Dividends from Net Investment Income (.18) (.14) (.16) (.06) --
Distributions from Realized Capital Gains (.14) (.32) -- -- --
--------------------------------------------------------
Total Distributions (.32) (.46) (.16) (.06) --
- -------------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Period $12.96 $14.55 $12.74 $11.40 $10.31
===================================================================================================================

Total Return -8.74% 18.55% 13.36% 11.21% 3.10%
===================================================================================================================

Ratios/Supplemental Data
Net Assets, End of Period (Millions) $217 $246 $162 $90 $63
Ratio of Total Expenses to Average Net Assets 0.48% 0.46% 0.49% 0.54% 0.30%**
Ratio of Net Investment Income to Average Net Assets 1.48% 1.43% 1.42% 1.67% 1.91%**
Turnover Rate 38% 22% 19% 27% 0%
===================================================================================================================
</TABLE>
* Inception.
** Annualized.

"Standard & Poor's(R)," "S&P(R)," "S&P 500(R)," "Standard & Poor's 500," "500,"
and "S&P MidCap 400," are trademarks of The McGraw-Hill Companies, Inc., and
have been licensed for use by Vanguard Variable Insurance Fund and The Vanguard
Group. These mutual funds are not sponsored, endorsed, sold, or promoted by
Standard & Poor's, and Standard & Poor's makes no representation regarding the
advisability of investing in the funds.
<PAGE>

General Information

If the Board of Trustees determines that continued offering of shares would be
detrimental to the best interests of a Portfolio's shareholders, the Portfolio
may suspend the offering of shares for a period of time. If the Board of
Trustees determines that a specific purchase acceptance would be detrimental to
the best interest of the Portfolio's shareholders, the Fund may reject such a
purchase request.

If you wish to redeem monies from a Portfolio, please refer to the
instructions provided in the prospectus for the insurance company's separate
account. Shares of the Portfolio may be redeemed on any business day. The
redemption price of shares will be at the next-determined net asset value per
share. Redemption proceeds will be wired to the administrator for distribution
to the contract owner generally on the day following receipt of the redemption
request, but no later than seven business days. Contract owners will receive a
check from the administrator for the redemption amount.

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

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

Glossary of Investment Terms

Bond
A debt security (IOU) issued by a corporation, government, or government agency
in exchange for the money you lend it. In most instances, the issuer agrees to
pay back the loan by a specific date and to make regular interest payments until
that date.

Capital Gains Distribution
Payment to mutual fund shareholders of gains realized on securities that the
fund has sold at a profit, minus any realized losses.

Cash Reserves
Cash deposits, short-term bank deposits, and money market instruments which
include U.S. Treasury bills, bank certificates of deposit (CDs), repurchase
agreements, commercial paper, and banker's acceptances.

Common Stock
A security representing ownership rights in a corporation. A stockholder is
entitled to share in the company's profits, some of which may be paid out as
dividends.

Country Risk
The possibility that events such as political or financial troubles or natural
disasters will weaken a country's economy.

Credit Quality
A measure of a bond issuer's ability to repay interest and principal in a timely
manner.

Currency Risk
The possibility that returns on a foreign investment will be reduced because of
unfavorable changes in currency exchange rates.

Dividend Income
Payment to shareholders of income from interest or dividends generated by a
fund's investments.

Expense Ratio
The percentage of a fund's average net assets used to pay its expenses. The
expense ratio includes management fees, administrative fees, and any 12b-1
distribution fees.

Fixed-Income Securities
Investments, such as bonds, that have a fixed payment schedule. While the level
of income offered by these securities is predetermined, their prices may
fluctuate.

Fund Diversification
Holding a variety of securities so that a fund's return is not hurt badly by the
poor performance of a single security, industry, or country.

Investment Grade
A bond whose credit quality is considered by independent bond-rating agencies to
be sufficient to ensure timely payment of principal and interest under current
economic circumstances.

Maturity
The date when a bond issuer agrees to repay the bond's principal, or face value,
to the bond's buyer.

Mutual Fund
An investment company that pools the money of many people and invests it in a
variety of securities in an effort to achieve a specific objective over time.

Net Asset Value (NAV)
The market value of a mutual fund's total assets, minus liabilities, divided by
the number of shares outstanding. The value of a single share is called its
share value or share price.

Price/Earnings (P/E) Ratio
The current share price of a stock, divided by its per-share earnings (profits)
from the past year. A stock selling for $20, with earnings of $2 per share, has
a price/earnings ratio of 10.

Principal
The amount of your own money you put into an investment.

Total Return
A percentage change, over a specified time period, in a mutual fund's net asset
value, with the ending net asset value adjusted to account for the reinvestment
of all distributions of dividends and capital gains.

Volatility
The fluctuations in value of a mutual fund or other security. The greater a
fund's volatility, the wider the fluctuations between its high and low prices.

Yield
Income (interest or dividends) earned by an investment, expressed as a
percentage of the investment's price.
<PAGE>

(This page intentionally left blank.)
<PAGE>

[LOGO OF THE VANGUARD GROUP APPEARS HERE]

Post Office Box 2600
Valley Forge, PA 19482-2600

For More Information
If you'd like more information about Vanguard Variable Insurance Fund, the
following documents are available free upon request:

Annual/Semiannual Report to Shareholders
Additional information about the Fund's investments is available in the Fund's
annual and semiannual reports to shareholders. In these reports, you will find a
discussion of the market conditions and investment strategies that significantly
affected the Fund's performance during the most recent fiscal year.

Statement of Additional Information (SAI)
The SAI provides more detailed information about the Fund.

The current annual and semiannual reports and the SAI are incorporated by
reference into (and are thus legally a part of) this prospectus.

To receive a free copy of the latest annual or semiannual report or the SAI, or
to request additional information about the Fund or other Vanguard funds, please
contact us as follows:

Vanguard Variable
Insurance Fund
P.O. Box 2600
Valley Forge, PA 19482-2600

Telephone:
1-800-522-5555

World Wide Web:
www.vanguard.com

E-mail:
[email protected]

Information provided by the Securities and Exchange Commission (SEC)
You can review and copy information about the Fund (including the SAI) at the
SEC's Public Reference Room in Washington, D.C. To find out more about this
public service, call the SEC at 1-800-SEC-0330. Reports and other information
about the Fund are also available on the SEC's website (www.sec.gov), or you can
receive copies of this information, for a fee, by writing the Public Reference
Section, Securities and Exchange Commission, Washington, DC 20549-6009.

Fund's Investment Company Act
file number: 811-5962

PART B

VANGUARD VARIABLE INSURANCE FUND (THE "FUND")

STATEMENT OF ADDITIONAL INFORMATION

DECEMBER 29, 1998

This Statement is not a prospectus, but should be read in conjunction with
the Fund's current Prospectus (dated December 29, 1998). To obtain the Pro-
spectus and the Annual Reports to Shareholders, containing the Fund's finan-
cial statements,which are hereby incorporated by reference, please write to
the Fund or contact the insurance company sponsoring the accompanying variable
life insurance or variable annuity contract.

<TABLE>
<CAPTION>
TABLE OF CONTENTS PAGE
----------------- ----
<S> <C>
Description of the Fund.................................................. B-1
Investment Policies...................................................... B-3
Fundamental Investment Limitations....................................... B-9
Share Price.............................................................. B-10
Purchase of Shares....................................................... B-11
Redemption of Shares..................................................... B-11
Calculation of Yield..................................................... B-11
Calculation of Total Return.............................................. B-12
Yield and Total Return................................................... B-13
Management of the Fund................................................... B-14
Investment Advisory Services............................................. B-17
Portfolio Transactions................................................... B-27
Performance Measures..................................................... B-27
Financial Statements..................................................... B-30
Appendix--Description of Securities and Ratings.......................... B-31
</TABLE>

DESCRIPTION OF THE FUND

ORGANIZATION

The Fund was organized as a Maryland corporation in 1989 before becoming a
Pennsylvania business trust later in 1989, and was reorganized as a Delaware
business trust on June 30, 1998. Prior to its reorganization as a Delaware
business trust, the Fund was known by the same name as is currently used. The
Fund is registered with the United States Securities and Exchange Commission
under the Investment Company Act of 1940 (the "1940 Act") as an open-end
diversified management investment company. It currently offers the following
portfolios (all Investor Share Class):

Money Market Portfolio High-Grade Bond Portfolio
High Yield Bond Portfolio Balanced Portfolio
Equity Income Portfolio Equity Index Portfolio
Growth Portfolio Small Company Growth Portfolio
International Portfolio Mid-Cap Index Portfolio
Diversified Portfolio REIT Index Portfolio
Short-Term Corporate Portfolio
(individually, the "Portfolio"; collectively, the "Portfolios")

The Fund has the ability to offer additional portfolios or classes of shares.
There is no limit on the number of full and fractional shares that the Fund
may issue for a single portfolio or class of shares.

B-1
<PAGE>

SERVICE PROVIDERS

CUSTODIAN. State Street Bank and Trust Company, 225 Franklin Street, Boston,
Massachusetts 02110 (for Equity Income and Growth Portfolios); Morgan Stanley
Trust Company, One Pierrepont Plaza, Brooklyn, New York 11201 (for Interna-
tional Portfolio); First Union National Bank, PA4943, 530 Walnut Street, Phil-
adelphia, Pennsylvania 19106, (for Money Market, High-Grade Bond, Equity In-
dex, Balanced, High Yield Bond, Small Company Growth, Diversified Value, Mid-
Cap Index, REIT Index, and Short-Term Corporate Portfolios) serve as the
Fund's custodians. The custodians are responsible for maintaining the Fund's
assets and keeping all necessary accounts and records.

INDEPENDENT ACCOUNTANT. PricewaterhouseCoopers LLP, 30 South 17th Street,
Philadelphia, Pennsylvania 19103, serves as the Fund's independent public ac-
countant. The accountant audits the Fund's financial statements and provides
other related services.

TRANSFER AND DIVIDEND-PAYING AGENT. The Fund's transfer agent and dividend-
paying agent is The Vanguard Group, Inc., 100 Vanguard Boulevard, Malvern,
Pennsylvania 19355.

CHARACTERISTICS OF THE FUND'S SHARES

RESTRICTIONS ON HOLDING OR DISPOSING OF SHARES. There are no restrictions on
the right of shareholders to retain or dispose of the Fund's shares, other
than the possible future termination of the Fund or any of its Portfolios. The
Fund or any of its Portfolios may be terminated by reorganization into another
mutual fund or by liquidation and distribution of the assets of the affected
Portfolio. Unless terminated by reorganization or liquidation, the Fund and
its Portfolios will continue indefinitely.

SHAREHOLDER LIABILITY. The Fund is organized under Delaware law, which pro-
vides that shareholders of a business trust are entitled to the same limita-
tions of personal liability as shareholders of a corporation organized under
Delaware law. Effectively, this means that a shareholder of the Fund will not
be personally liable for payment of the Fund's debts except by reason of his
or her own conduct or acts. In addition, a shareholder could incur a financial
loss on account of a Fund obligation only if the Fund itself had no remaining
assets with which to meet such obligation. We believe that the possibility of
such a situation arising is extremely remote.

DIVIDEND RIGHTS. The shareholders of a Portfolio are entitled to receive any
dividends or other distributions declared for such Portfolios. No shares have
priority or preference over any other shares of the same Portfolio with re-
spect to distributions. Distributions will be made from the assets of a Port-
folio, and will be paid ratably to all shareholders of the Portfolio (or
class) according to the number of shares of such Portfolio (or class) held by
shareholders on the record date. The amount of income dividends per share may
vary between separate share classes of the same Portfolio based upon differ-
ences in the way that expenses are allocated between share classes pursuant to
a multiple class plan.

VOTING RIGHTS. Shareholders are entitled to vote on a matter if: (i) a share-
holder vote is required under the 1940 Act; (ii) the matter concerns an amend-
ment to the Declaration of Trust that would adversely affect to a material de-
gree the rights and preferences of the shares of any class or Portfolio; or
(iii) the Trustees determine that it is necessary or desirable to obtain a
shareholder vote. The 1940 Act requires a shareholder vote under various cir-
cumstances, including to elect or remove Trustees upon the written request of
shareholders representing 10% or more of the Fund's net assets, and to change
any fundamental policy of the Fund. Shareholders of the Fund receive one vote
for each dollar of net asset value owned on the record date, and a fractional
vote for each fractional dollar of net asset value owned on the record date.
However, only the shares of the Portfolio affected by a particular matter are
entitled to vote on that matter. Voting rights are non-cumulative and cannot
be modified without a majority vote of shareholders.

LIQUIDATION RIGHTS. In the event of liquidation, shareholders will be enti-
tled to receive a pro rata share of the net assets of the applicable Portfolio
of the Fund.

PREEMPTIVE RIGHTS. There are no preemptive rights associated with the Fund.

B-2
<PAGE>

CONVERSION RIGHTS. There are no conversion rights associated with the Fund.

REDEMPTION PROVISIONS. The Fund's redemption provisions are described in the
current Plan prospectus and elsewhere in this Statement of Additional Informa-
tion.

SINKING FUND PROVISIONS. The Fund has no sinking fund provisions.

CALLS OR ASSESSMENT. The Fund's shares are fully paid and non-assessable.

TAX STATUS OF THE FUND

Each Portfolio of the Fund qualifies as a "regulated investment company" un-
der Subchapter M of the Internal Revenue Code. This special tax status means
that a Portfolio will not be liable for federal tax on income and capital
gains distributed to shareholders. In order to preserve its tax status, each
Portfolio of the Fund must comply with certain requirements. If a Portfolio
fails to meet these requirements in any taxable year, it will be subject to
tax on its taxable income at corporate rates, and all distributions from earn-
ings and profits, including any distributions of net tax-exempt income and net
long-term capital gains, will be taxable to shareholders as ordinary income.
In addition, the Portfolio could be required to recognize unrealized gains,
pay substantial taxes and interest, and make substantial distributions before
regaining its tax status as a regulated investment company.

INVESTMENT POLICIES

REPURCHASE AGREEMENTS

Each Portfolio of the Fund, along with other members of the Vanguard Group,
may invest in repurchase agreements with commercial banks, brokers or dealers
either for defensive purposes due to market conditions or to generate income
from its excess cash balances. The 13 Portfolios of the Fund, along with other
Vanguard Funds, may deposit their daily cash reserves into a joint account
which invests such reserves in repurchase agreements and other short-term in-
struments. First Union National Bank is the custodian for the joint account. A
repurchase agreement is an agreement under which a Portfolio acquires a money
market instrument (generally a security issued by the U.S. Government or an
agency thereof, a banker's acceptance or a certificate of deposit) from a Fed-
eral Reserve member bank or a registered securities dealer, subject to resale
to the seller at an agreed upon price and date (normally, the next business
day). A repurchase agreement may be considered a loan collateralized by secu-
rities. The resale price reflects an agreed upon interest rate effective for
the period the instrument is held by a Portfolio and is unrelated to the in-
terest rate on the underlying instrument. In these transactions, the securi-
ties acquired by a Portfolio (including accrued interest earned thereon) must
have a total value in excess of the value of the repurchase agreement and are
held by the custodian bank for the joint account until repurchased. In addi-
tion, the Fund's Board of Trustees will monitor each Portfolio's repurchase
agreement transactions generally and will establish guidelines and standards
for review of the creditworthiness of any bank, broker or dealer party to a
repurchase agreement with a Portfolio of the Fund.

The use of repurchase agreements involves certain risks. For example, if the
other party to the agreement defaults on its obligation to repurchase the un-
derlying security at a time when the value of the security has declined, a
Portfolio may incur a loss upon disposition of the security. If the other
party to the agreement becomes insolvent and subject to liquidation or reorga-
nization under the Bankruptcy Code or other laws, a court may determine that
the underlying security is collateral for a loan by the Portfolio not within
the control of the Portfolio and therefore the Portfolio may not be able to
substantiate its interest in the underlying security and may be deemed an
unsecured creditor of the other party to the agreement. While the Fund's man-
agement acknowledges these risks, it is expected that they can be controlled
through careful monitoring procedures.

LENDING OF SECURITIES

Each Portfolio of the Fund (except for the Money Market Portfolio) may lend
its securities to qualified institutional investors (typically brokers, deal-
ers, banks or other financial institutions) who need to borrow

B-3
<PAGE>

securities in order to complete certain transactions, such as covering short
sales, avoiding failures to deliver securities or completing arbitrage opera-
tions. By lending its portfolio securities, a Portfolio attempts to increase
its net investment income through the receipt of interest on the loan. Any
gain or loss in the market price of the securities loaned that might occur
during the term of the loan would be for the account of the Portfolio. The
terms and the structure and the aggregate amount of such loans must be consis-
tent with the 1940 Act, and the Rules and Regulations or interpretations of
the Securities and Exchange Commission (the "Commission") thereunder. These
provisions limit the amount of securities a Portfolio may lend to 33 1/3% of
the Portfolio's total assets, and require that: (a) the borrower pledge and
maintain with the Portfolio collateral consisting of cash, a letter of credit
issued by a domestic U.S. bank, or securities issued or guaranteed by the
United States Government having at all times not less than 100% of the value
of the securities loaned, (b) the borrower add to such collateral whenever the
price of the securities loaned rises (i.e., the borrower "marks to the market"
on a daily basis), (c) the loan be made subject to termination by the Portfo-
lio at any time, and (d) the Portfolio receive reasonable interest on the
loan, which may include the Portfolio's investing any cash collateral in in-
terest bearing short-term investments, any distribution on the loaned securi-
ties and any increase in their market value. Loan arrangements made by a Port-
folio will comply with all other applicable regulatory requirements, including
the rules of the New York Stock Exchange, which presently require the borrow-
er, after notice, to redeliver the securities within the normal settlement
time of three business days. All relevant facts and circumstances, including
the creditworthiness of the broker, dealer or institution, will be considered
in making decisions with respect to the lending of securities, subject to re-
view by the Fund's Board of Trustees.

At the present time, the Staff of the Commission does not object if an in-
vestment company pays reasonable negotiated fees in connection with loaned se-
curities, so long as such fees are set forth in a written contract and ap-
proved by the investment company's trustees. In addition, voting rights pass
with loaned securities; but if a material event will occur affecting an in-
vestment on loan, the loan must be called and the securities voted.

VANGUARD INTERFUND LENDING PROGRAM

The SEC has issued an exemptive order permitting the Funds to participate in
Vanguard's interfund lending program. This program allows the Vanguard funds
to borrow money from and loan money to each other for temporary or emergency
purposes. The program is subject to a number of conditions, including the re-
quirement that no fund may borrow or lend money through the program unless it
receives a more favorable interest rate than is available from a typical bank
for a comparable transaction. In addition, a fund may participate in the pro-
gram only if and to the extent that such participation is consistent with the
fund's investment objective and other investment policies. The Boards of
Trustees of the Vanguard funds are responsible for ensuring that the interfund
lending program operates in compliance with all conditions of the SEC's
exemptive order.

ILLIQUID SECURITIES

Each Portfolio of the Fund may invest up to 15% of its net assets (10% with
respect to the Money Market Portfolio) in illiquid securities. Illiquid secu-
rities are securities that may not be sold or disposed of in the ordinary
course of business within seven business days at approximately the value at
which they are being carried on a Portfolio's books.

The Fund may invest in restricted, privately placed securities that, under
SEC rules, may be sold only to qualified institutional buyers. Because these
securities can only be resold to qualified institutional buyers, they may be
considered illiquid securities--meaning that they could be difficult for these
Portfolios to convert to cash if needed.

If a substantial market develops for a restricted security held by the Fund,
it will be treated as a liquid security, in accordance with procedures and
guidelines approved by the Fund's Board of Trustees. This generally includes
securities that are unregistered that can be sold to qualified institutional
buyers in accordance with Rule 144A under the 1933 Act. While the Portfolios'
investment advisers determine the liquidity of restricted securities on a
daily basis, the Board oversees and retains ultimate responsibility for the
advisers' decisions. The factors the Board considers in monitoring these deci-
sions include the valuation of a security, the availability of qualified in-
stitutional buyers, and the availability of information on the security's is-
suer.

B-4
<PAGE>

FOREIGN INVESTMENTS

As indicated in the Prospectus, the International, Equity Index, Growth, Eq-
uity Income, Small Company Growth, Balanced, Short-Term Corporate, High Grade
Bond, and Money Market Portfolios may include foreign securities to a certain
extent. Investors should recognize that investing in foreign companies in-
volves certain special considerations which are not typically associated with
investing in U.S. companies.

Country Risk. As foreign companies are not generally subject to uniform ac-
counting, auditing and financial reporting standards and practices comparable
to those applicable to domestic companies, there may be less publicly avail-
able information about certain foreign companies than about domestic compa-
nies. Securities of some foreign companies are generally less liquid and more
volatile than securities of comparable domestic companies. There is generally
less government supervision and regulation of stock exchanges, brokers and
listed companies than in the U.S. In addition, with respect to certain foreign
countries, there is the possibility of expropriation or confiscatory taxation,
political or social instability, or diplomatic developments which could affect
U.S. investments in those countries.

Although each Portfolio will endeavor to achieve most favorable execution
costs in its portfolio transactions, fixed commissions on many foreign stock
exchanges are generally higher than negotiated commissions on U.S. exchanges.
In addition, it is expected that the expenses for custodial arrangements of
the Portfolios' foreign securities will be somewhat greater than the expenses
for the custodial arrangements for handling U.S. securities of equal value.

Certain foreign governments levy withholding taxes against dividend and in-
terest income. Although in some countries a portion of these taxes is recover-
able, the non-recovered portion of foreign withholding taxes will reduce the
income a Portfolio receives from its foreign investments.

Currency Risk. Since the stocks of foreign companies are frequently denomi-
nated in foreign currencies, and since the Portfolios may temporarily hold
uninvested reserves in bank deposits in foreign currencies, the Portfolios
will be affected favorably or unfavorably by changes in currency rates and in
exchange control regulations, and may incur costs in connection with conver-
sions between various currencies. The investment policies of the Portfolios
permit them to enter into forward foreign currency exchange contracts in order
to hedge holdings and commitments against changes in the level of future cur-
rency rates. Such contracts involve an obligation to purchase or sell a spe-
cific currency at a future date at a price set at the time of the contract.

FEDERAL TAX TREATMENT OF NON-U.S. TRANSACTIONS. Special rules govern the Fed-
eral income tax treatment of certain transactions denominated in terms of a
currency other than the U.S. dollar or determined by reference to the value of
one or more currencies other than the U.S. dollar. The types of transactions
covered by the special rules include the following: (i) the acquisition of, or
becoming the obligor under, a bond or other debt instrument (including, to the
extent provided in Treasury regulations, preferred stock); (ii) the accruing
of certain trade receivables and payables; and (iii) the entering into or ac-
quisition of any forward contract, futures contract, option or similar finan-
cial instrument if such instrument is not marked to market. The disposition of
a currency other than the U.S. dollar by a U.S. taxpayer is also treated as a
transaction subject to the special currency rules. However, foreign currency-
related regulated futures contracts and nonequity options are generally not
subject to the special currency rules if they are or would be treated as sold
for their fair market value at year-end under the marking-to-market rules ap-
plicable to other futures contracts unless an election is made to have such
currency rules apply. With respect to transactions covered by the special
rules, foreign currency gain or loss is calculated separately from any gain or
loss on the underlying transaction and is normally taxable as ordinary gain or
loss. A taxpayer may elect to treat as capital gain or loss foreign currency
gain or loss arising from certain identified forward contracts, futures con-
tracts and options that are capital assets in the hands of the taxpayer and
which are not part of a straddle. The Treasury Department issued regulations
under which certain transactions subject to the special currency rules that
are part of a "section 988 hedging transaction" (as defined in the Internal
Revenue Code of 1986, as amended, and the Treasury regulations) will be inte-
grated and treated as a single transaction or otherwise treated consistently
for purposes of the Code. Any gain or loss attributable to the foreign cur-
rency

B-5
<PAGE>

component of a transaction engaged in by a Fund which is not subject to the
special currency rules (such as foreign equity investments other than certain
preferred stocks) will be treated as capital gain or loss and will not be seg-
regated from the gain or loss on the underlying transaction. It is anticipated
that some of the non-U.S. dollar-denominated investments and foreign currency
contracts the Portfolios may make or enter into will be subject to the special
currency rules described above.

COLLATERALIZED MORTGAGE OBLIGATIONS

The High-Grade Bond Portfolio may invest in a relatively conservative class
of collateralized mortgage obligations ("CMOs") which feature a high degree of
cash flow predictability and less vulnerability to mortgage prepayment risk.
To reduce credit risk, Vanguard purchases these less risky classes of collat-
eralized mortgage obligations issued only by agencies of the U.S. Government
or privately-issued collateralized mortgage obligations that carry high-qual-
ity investment-grade ratings.

The Short-Term Corporate Portfolio may invest in CMOs that are collateralized
by whole loan mortgages or mortgage pass-through securities. The Short-Term
Corporate Portfolio may also purchase privately-issued CMOs carrying invest-
ment grade ratings. The bonds issued under a CMO structure are divided into
groups with varying maturities, and the cash flows generated by the mortgages
or mortgage pass-through securities in the collateral pool are used to first
pay interest and then pay principal to the CMO bondholders. Under the CMO
structure, the repayment of principal among the different groups is
prioritized in accordance with the terms of the particular CMO issuance. The
"fastest-pay" group of bonds, as specified in the prospectus for the issuance,
would initially receive all principal payments. When that group of bonds is
retired, the next group or groups, in the sequence, as specified in the pro-
spectus, receive all of the principal payments until all of the groups are re-
tired. Aside from market risk, the primary risk involved in any mortgage secu-
rity, such as a CMO issuance, is its exposure to prepayment risk. To the ex-
tent a particular group of bonds is exposed to this risk, the bondholder is
generally compensated in the form of higher yield. In order to provide securi-
ty, in addition to the underlying collateral, many CMO issues also include
minimum reinvestment rate and minimum sinking-fund guarantees. Typically, the
Portfolio will invest in those CMOs that most appropriately reflect its aver-
age maturity and market risks profile. Consequently, the Short-Term Corporate
Portfolio invests only in CMOs with highly predictable short-term average ma-
turities.

The maturity of some classes of CMOs may be very difficult to predict because
any such predictions are highly dependent upon assumptions regarding the pre-
payments which CMOs may experience. Deviations in the actual prepayments expe-
rienced may significantly affect the ultimate maturity of CMOs, and in such an
event, the maturity and risk characteristics of CMOs purchased by the Portfo-
lios may be significantly greater or less than intended. The possibility that
rising interest rates may cause prepayments to occur at a slower than expected
rate is known as extension risk. This particular risk may effectively change a
CMO which was considered short- or intermediate-term at the time of purchase
into a long-term security. Alternatively, there are certain classes of CMOs
that are by design constructed to have highly predictable average maturities.
Such CMOs will retain their relative predictability over a broad range of pre-
payment experience. The Portfolios expect to control extension risk by pur-
chasing these specific classes of CMOs which, in the advisers' opinions, are
reasonably predictable.

FUTURES CONTRACTS AND OPTIONS

Each Portfolio of the Fund (except the Money Market Portfolio) may enter into
futures contracts, options, and options on futures contracts to maintain cash
reserves while remaining fully invested, to facilitate trading or to reduce
transaction costs. Futures contracts provide for the future sale by one party
and purchase by another party of a specified amount of a specific security at
a specified future time and at a specified price. Futures contracts which are
standardized as to maturity date and underlying financial instrument are
traded on national futures exchanges. Futures exchanges and trading are regu-
lated under the Commodity Exchange Act by the Commodity Futures Trading Com-
mission ("CFTC"), a U.S. Government agency. Assets committed to futures con-
tracts will be segregated to the extent required by law.

B-6
<PAGE>

Although futures contracts by their terms call for actual delivery or accept-
ance of the underlying securities, in most cases the contracts are closed out
before the settlement date without the making or taking of delivery. Closing
out an open futures position is done by taking an opposite position ("buying"
a contract which has previously been "sold," or "selling" a contract previ-
ously purchased) in an identical contract to terminate the position. Brokerage
commissions are incurred when a futures contract is bought or sold.

Futures traders are required to make a good faith margin deposit in cash or
government securities with a broker or custodian to initiate and maintain open
positions in futures contracts. A margin deposit is intended to assure comple-
tion of the contract (delivery or acceptance of the underlying security) if it
is not terminated prior to the specified delivery date. Minimal initial margin
requirements are established by the futures exchange and may be changed. Bro-
kers may establish deposit requirements which are higher than the exchange
minimums. Futures contracts are customarily purchased and sold on margin which
may range upward from less than 5% of the value of the contract being traded.

After a futures contract position is opened, the value of the contract is
marked to market daily. If the futures contract price changes to the extent
that the margin on deposit does not satisfy margin requirements, payment of
additional "variation" margin will be required. Conversely, change in the con-
tract value may reduce the required margin, resulting in a repayment of excess
margin to the contract holder. Variation margin payments are made to and from
the futures broker for as long as the contract remains open. The Portfolios of
the Fund may earn interest income on their margin deposits.

Traders in futures contracts may be broadly classified as either "hedgers" or
"speculators." Hedgers use the futures markets primarily to offset unfavorable
changes in the value of securities otherwise held for investment purposes or
expected to be acquired by them. Speculators are less inclined to own the se-
curities underlying the futures contracts which they trade, and use futures
contracts with the expectation of realizing profits from fluctuations in the
prices of underlying securities. The Portfolios of the Fund intend to use
futures contracts only for bona fide hedging purposes.

Regulations of the CFTC applicable to the Portfolios of the Fund require that
all of its futures transactions constitute bona fide hedging transactions ex-
cept to the extent that the aggregate initial margins and premiums required to
establish any non-hedging positions do not exceed five percent of the value of
the Fund's portfolio. The Portfolios of the Fund will only sell futures con-
tracts to protect securities they own against price declines or purchase con-
tracts to protect against an increase in the price of securities they intend
to purchase. As evidence of this hedging interest, the Portfolios of the Fund
expect that approximately 75% of their futures contract purchases will be
"completed," that is, equivalent amounts of related securities will have been
purchased or are being purchased by the Portfolios upon sale of open futures
contracts.

Although techniques other than the sale and purchase of futures contracts
could be used to control a Portfolio's exposure to market fluctuations, the
use of futures contracts may be a more effective means of hedging this expo-
sure. While a Portfolio will incur commission expenses in both opening and
closing out futures positions, these costs are lower than transaction costs
incurred in the purchase and sale of the underlying securities.

RESTRICTIONS ON THE USE OF FUTURES CONTRACTS AND OPTIONS

A Portfolio of the Fund will not enter into futures contracts transactions to
the extent that, immediately thereafter, the sum of its initial margin depos-
its on open contracts exceeds 5% of the Portfolio's total assets. In addition,
each Portfolio will not enter into futures contracts to the extent that its
outstanding obligations to purchase securities under these contracts would ex-
ceed 20% of the Portfolio's total assets.

RISK FACTORS IN FUTURES TRANSACTIONS

Positions in futures contracts may be closed out only on an exchange which
provides a secondary market for such futures. However, there can be no assur-
ance that a liquid secondary market will exist for any particular futures con-
tract at any specific time. Thus, it may not be possible to close a futures
position. In the event of

B-7
<PAGE>

adverse price movements, a Portfolio would continue to be required to make
daily cash payments to maintain its required margin. In such situations, if a
Portfolio has insufficient cash it may have to sell portfolio securities to
meet daily margin requirements at a time when it may be disadvantageous to do
so. In addition, a Portfolio may be required to make delivery of the instru-
ments underlying future contracts it holds. The inability to close options and
futures positions also could have an adverse impact on the ability to effec-
tively hedge.

The Portfolios will minimize the risk that they will be unable to close out a
futures contract by only entering into futures contracts which are traded on
national futures exchanges and for which there appears to be a liquid second-
ary market.

The risk of loss in trading futures contracts in some strategies can be sub-
stantial, due both to the low margin deposits required, and the extremely high
degree of leverage involved in futures pricing. As a result, a relatively
small price movement in a futures contract may result in immediate and sub-
stantial loss (as well as gain) to the investor. For example, if at the time
of purchase, 10% of the value of the futures contract is deposited as margin,
a subsequent 10% decrease in the value of the futures contract would result in
a total loss of the margin deposit, before any deduction for the transaction
costs, if the account were then closed out. A 15% decrease would result in a
loss equal to 150% of the original margin deposit if the contract were closed
out. Thus, a purchase or sale of a futures contract may result in losses in
excess of the amount invested in the contract. However, because the futures
strategies of the Portfolios are engaged in only for hedging purposes, the ad-
visers do not believe that the Portfolios are subject to the risks of loss
frequently associated with futures transactions. A Portfolio would presumably
have sustained comparable losses if, instead of the futures contract, it had
invested in the underlying financial instrument and sold it after the decline.

Utilization of futures transactions by a Portfolio does involve the risk of
imperfect or no correlation where the securities underlying futures contracts
have different maturities than the portfolio securities being hedged. It is
also possible that a series could both lose money on futures contracts and
also experience a decline in value of its portfolio securities. There is also
the risk of loss by a series of margin deposits in the event of bankruptcy of
a broker with whom the series has an open position in a futures contract or
related option.

Most futures exchanges limit the amount of fluctuation permitted in futures
contract prices during a single trading day. The daily limit establishes the
maximum amount that the price of a futures contract may vary either up or down
from the previous day's settlement price at the end of a trading session. Once
the daily limit has been reached in a particular type of contract, no trades
may be made on that day at a price beyond that limit. The daily limit governs
only price movement during a particular trading day and therefore does not
limit potential losses, because the limit may prevent the liquidation of unfa-
vorable positions. Futures contract prices have occasionally moved to the
daily limit for several consecutive trading days with little or no trading,
thereby preventing prompt liquidation of futures positions and subjecting some
futures traders to substantial losses.

FEDERAL TAX TREATMENT OF FUTURES CONTRACTS

A Portfolio is required for Federal income tax purposes to recognize as in-
come for each taxable year its net unrealized gains and losses on certain
futures contracts as of the end of the year as well as those actually realized
during the year. In most cases, any gain or loss recognized with respect to a
futures contract is considered to be 60% long-term capital gain or loss and
40% short-term capital gain or loss, without regard to the holding period of
the contract. Furthermore, sales of futures contracts which are intended to
hedge against a change in the value of securities held by a Portfolio may af-
fect the holding period of such securities and, consequently, the nature of
the gain or loss on such securities upon disposition. A Portfolio may be re-
quired to defer the recognition of losses on futures contracts to the extent
of any unrecognized gains on related positions held by the Portfolio.

In order for a Portfolio to continue to qualify for Federal income tax treat-
ment as a regulated investment company, at least 90% of its gross income for a
taxable year must be derived from qualifying income; i.e., dividends, inter-
est, income derived from loans of securities, gains from the sale of securi-
ties or foreign currencies, or other income derived with respect to its busi-
ness of investing in such securities or currencies. It is anticipated that any
net gain realized from the closing out of futures contracts will be considered
qualifying income for purposes of the 90% requirement.

B-8
<PAGE>

Each Portfolio of the Fund will distribute to shareholders annually any net
capital gains which have been recognized for Federal income tax purposes in-
cluding unrealized gains at the end of a Portfolio's fiscal year on futures
transactions. Such distributions will be combined with distributions of capi-
tal gains realized on a Portfolio's other investments and shareholders will be
advised on the nature of the payments.

FUNDAMENTAL INVESTMENT LIMITATIONS

Each Portfolio of the Fund is subject to the following fundamental investment
limitations, which cannot be changed in any material way without the approval
of the holders of a majority of the affected Portfolios' shares. For these
purposes, a "majority" of shares means shares representing the lesser of: (i)
67% or more of the Portfolios' net asset value, so long as shares representing
more than 50% of the Portfolios' net assets value are present or represented
by proxy; or (ii) more than 50% of the Portfolios' net asset value.

BORROWING. Each Portfolio may not borrow money, except for temporary or emer-
gency purposes in an amount not exceeding 15% of the Portfolio's net assets.
Each Portfolio may borrow money through banks, or Vanguard's interfund lending
program only, and must comply with all applicable regulatory conditions. Each
Portfolio may not make any additional investments whenever its outstanding
borrowings exceed 5% of total assets.

COMMODITIES. Each Portfolio may not invest in commodities, except that the
Portfolios (except for the Money Market Portfolio) may invest in futures con-
tracts and options transactions. No more than 5% of a Portfolio's total assets
may be used as initial margin deposit for futures contracts, and no more than
20% of the Portfolio's total assets may be invested in futures contracts or
options at any time.

DIVERSIFICATION. With respect to 75% of its total assets, each Portfolio may
not: (i) purchase more than 10% of the outstanding voting securities of any
one issuer, or (ii) purchase securities of any issuer if, as a result, more
than 5% of the Portfolio's total assets would be invested in that issuer's se-
curities. This limitation does not apply to obligations of the United States
Government, its agencies, or instrumentalities.

ILLIQUID SECURITIES.* Each Portfolio may not acquire any security if, as a
result, more than 15% (10% with respect to the Money Market Portfolio) of its
net assets would be invested in securities that are illiquid.

INDUSTRY CONCENTRATION. Each Portfolio may not invest more than 25% of its
total assets in any one industry. (Except that for the Money Market Portfolio,
this limitation does not apply to certificates of deposit and bankers accept-
ances, and for all Portfolios, this limitation does not apply to securities
issued by the U.S. Government, its agencies and instrumentalities.)

INVESTING FOR CONTROL.* Each Portfolio may not invest in a company for the
purpose of controlling its management.

INVESTMENT COMPANIES.* Each Portfolio may not invest in any other investment
company, except through a merger, consolidation or acquisition of assets, or
to the extent permitted by Section 12 of the 1940 Act. Investment companies
whose shares the Portfolio acquires pursuant to Section 12 must have invest-
ment objectives and investment policies consistent with those of the Portfo-
lio.

LOANS. Each Portfolio may not lend money to any person except by purchasing
fixed income securities that are publicly distributed, lending its portfolio
securities, or through Vanguard's interfund lending program.

MARGIN.* Each Portfolio may not purchase securities on margin or sell securi-
ties short, except as permitted by the Portfolio's investment policies relat-
ing to commodities.

OIL, GAS, MINERALS.* Each Portfolio may not invest in interests in oil, gas
or other mineral exploration or development programs.

PLEDGING ASSETS.* Each Portfolio may not pledge, mortgage or hypothecate more
than 5% of its net assets.

B-9
<PAGE>

PUT OPTIONS, CALL OPTIONS, STRADDLES AND SPREADS.* Each Portfolio may not in-
vest in put or call options, or employ straddles or spreads, except as permit-
ted by the Portfolio's investment policies relating to commodities.

REAL ESTATE. Each Portfolio may not invest directly in real estate, although
it may invest in securities of companies that deal in real estate and bonds
secured by real estate.

SENIOR SECURITIES. Each Portfolio may not issue senior securities, except in
compliance with the 1940 Act.

UNDERWRITING. Each Portfolio may not engage in the business of underwriting
securities issued by other persons. The Portfolio will not be considered an
underwriter when disposing of its investment securities.

The investment limitations set forth above are considered at the time invest-
ment securities are purchased. If a percentage restriction is adhered to at
the time the investment is made, a later increase in percentage resulting from
a change in the market value of assets will not constitute a violation of such
restriction.

None of these limitations prevents the Portfolios from participating in The
Vanguard Group ("Vanguard"). As a member of the Group, each Portfolio may own
securities issued by Vanguard, make loans to Vanguard, and contribute to Van-
guard's costs or other financial requirements. See "Management of the Fund"
for more information.
- --------
* The above asterisked items are operational, rather than fundamental, poli-
cies for the Mid-Cap Index, Diversified Value, REIT Index, and Short-Term Cor-
porate Portfolios of Vanguard Variable Insurance Fund. Accordingly, share-
holder approval is not required in order to change these stated policies for
the Mid-Cap Index, Diversified Value, REIT Index, and Short-Term Corporate
Portfolios.

SHARE PRICE

Each Portfolio's share price, or "net asset value" per share, is calculated
by dividing the total assets of the Portfolio, less all liabilities, by the
total number of shares outstanding. The net asset value is determined as of
the close of the New York Stock Exchange (the "Exchange"), generally 4:00 p.m.
Eastern time, on each day that the Exchange is open for trading.

It is the policy of the Money Market Portfolio to attempt to maintain a net
asset value of $1.00 per share for sales and redemptions. The instruments held
by the Portfolio are valued on the basis of amortized cost, which does not
take into account unrealized capital gains or losses. This involves valuing an
instrument at its cost and thereafter assuming a constant amortization to ma-
turity of any discount or premium, regardless of the impact of fluctuating in-
terest rates on the market value of the instrument. While this method provides
certainty in valuation, it may result in periods during which value, as deter-
mined by amortized cost, is higher or lower than the price which the Portfolio
would receive if it sold the instrument.

The use of amortized cost and the maintenance of the Money Market Portfolio's
net asset value at $1.00 is based on its election to operate under Rule 2a-7
under the 1940 Act. As a condition of operating under the rule, the Portfolio
must maintain a dollar-weighted average portfolio maturity of 90 days or less,
purchase only instruments having remaining maturities of 397 days or less, and
invest only in securities that are determined by methods approved by the
Trustees to present minimal credit risks and that are of high quality as de-
termined by the requisite rating services, or in the case of an instrument not
so rated, determined by methods approved by the Trustees to be of comparable
quality.

For the other Portfolios of the Fund, portfolio securities for which market
quotations are readily available (includes those securities listed on national
securities exchanges, as well as those quoted on the NASDAQ Stock Market) will
be valued at the last quoted sales price on the day the valuation is made.
Such securities which are not traded on the valuation date are valued at the
mean of the bid and ask prices. Price information on exchange-listed securi-
ties is taken from the exchange where the security is primarily traded. Secu-
rities may be valued on the basis of prices provided by a pricing service when
such prices are believed to reflect the fair market value of such securities.

B-10
<PAGE>

Short term instruments (those acquired with remaining maturities of 60 days
or less) may be valued at cost, plus or minus any amortized discount or premi-
um, which approximates market value.

Bonds and other fixed income securities may be valued on the basis of prices
provided by a pricing service when such prices are believed to reflect the
fair market value of such securities. The prices provided by a pricing service
may be determined without regard to bid or last sale prices of each security,
but take into account institutional-size transactions in similar groups of se-
curities as well as any developments related to specific securities.

Foreign securities are valued at the last quoted sales price, according to
the broadest and most representative market, available at the time the Portfo-
lio is valued. If events which materially affect the value of a Portfolio's
investments occur after the close of the securities markets on which such se-
curities are primarily traded, those investments may be valued by such methods
as the Board of Trustees deems in good faith to reflect fair value.

In determining a Portfolio's net asset value per share, all assets and lia-
bilities initially expressed in foreign currencies will be converted into U.S.
dollars using the officially quoted daily exchange rates used by Morgan Stan-
ley Capital International in calculating various benchmarking indices. This
officially quoted exchange rate may be determined prior to or after the close
of a particular securities market. If such quotations are not available, the
rate of exchange will be determined in accordance with policies established in
good faith by the Board of Trustees.

Other assets and securities for which no quotations are readily available or
which are restricted as to sale (or resale) are valued by such methods as the
Board of Trustees deems in good faith to reflect fair value.

PURCHASE OF SHARES

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

REDEMPTION OF SHARES

The Fund may suspend redemption privileges or postpone the date of payment
(i) during any period that the New York Stock Exchange is closed, or trading
on the Exchange is restricted as determined by the Commission, (ii) during any
period when an emergency exists as defined by the rules of the Commission as a
result of which it is not reasonably practicable for the Fund to dispose of
securities owned by it, or fairly to determine the value of its assets, and
(iii) for such other periods as the Commission may permit.

CALCULATION OF YIELD (MONEY MARKET PORTFOLIO)

The current yield of the Fund's Money Market Portfolio is calculated daily on
a base period return of a hypothetical account having a beginning balance of
one share for a particular period of time (generally 7 days). The return is
determined by dividing the net change (exclusive of any capital changes) in
such account by its average net asset value for the period, and then multiply-
ing it by 365/7 to get the annualized current yield. The calculation of net
change reflects the value of additional shares purchased with the dividends by
the Portfolio, including dividends on both the original share and on such ad-
ditional shares. An effective yield, which reflects the effects of compounding
and represents an annualization of the current yield with all dividends rein-
vested, may also be calculated for the Portfolio by adding 1 to the net
change, raising the sum to the 365/7 power, and subtracting 1 from the result.

B-11
<PAGE>

Set forth below is an example, for purposes of illustration only, of the cur-
rent and effective yield calculations for the Money Market Portfolio for the
7-day base period ending September 30, 1998.

<TABLE>
<CAPTION>
MONEY MARKET
PORTFOLIO
------------
9/30/1998
------------
<S> <C>
Value of account at beginning of period......................... $1.00000
Value of same account at end of period*......................... 1.00103
--------
Net Change in account value..................................... $ .00103
========
</TABLE>
- --------
* Exclusive of any capital changes.

<TABLE>
<CAPTION>
MONEY MARKET
PORTFOLIO
------------
9/30/1998
------------
<S> <C>
Annualized Current Net Yield
(Net Change X /365/7/) / average net asset value................ 5.37%
=======
Effective Yield
[(Net Change) + 1]/365/7/ -1.................................... 5.50%
=======
Average Weighted Maturity of investments........................ 75 days
=======
</TABLE>

The net asset value of a share of the Money Market Portfolio is $1.00 and it
is not expected to fluctuate. However, the yield of the Portfolio will fluctu-
ate. The Fund has obtained private insurance that partially protects the Money
Market Portfolio against default of principal or interest payments on the in-
struments it holds and against bankruptcy by issuers and credit enhancers of
these instruments. Treasury and other U.S. Government securities held by the
Portfolio are excluded from this coverage. The annualization of a week's divi-
dend is not a representation by the Portfolio as to what an investment in the
Portfolio will actually yield in the future. Actual yields will depend on such
variables as investment quality, average maturity, the type of instruments the
Portfolio invests in, changes in interest rates on instruments, changes in the
expenses of the Portfolio and other factors. Yields are one basis investors
may use to analyze the Portfolio and other investment vehicles; however,
yields of other investment vehicles may not be comparable because of the fac-
tors set forth in the preceding sentence, differences in the time periods com-
pared, and differences in the methods used in valuing portfolio instruments,
computing net asset value and calculating yield.

CALCULATION OF TOTAL RETURN

The Mid-Cap Index, Diversified Value, REIT Index, and Short-Term Corporate
Portfolios had not yet commenced operations as of the date of this Statement
of Additional Information.

However, from time to time, quotations of the Portfolios' performance may be
included in advertisements, sales literature or reports to shareholders or
prospective investors. These performance figures may be calculated in the fol-
lowing manner:

AVERAGE ANNUAL TOTAL RETURN

Average annual total return is the average annual compounded rate of return
for the periods of one year, five years, ten years or the life of each Portfo-
lio, all ended on the last day of a recent month. Average annual total return
quotations will reflect changes in the price of the Portfolios' shares and as-
sume that all dividends and capital gains distributions during the respective
periods were reinvested in Portfolio shares. Average annual total

B-12
<PAGE>

return is calculated by finding the average annual compounded rates of return
of a hypothetical investment over such periods according to the following for-
mula (average annual total return is then expressed as a percentage):

T = (ERV/P)/1//N-1

Where:

T =average annual total return
P =a hypothetical initial investment of $1,000
n =number of years
ERV =ending redeemable value: ERV is the value, at the end of the
applicable period, of a hypothetical $1,000 investment made at
the beginning of the applicable period.

CUMULATIVE TOTAL RETURN

Cumulative total return is the cumulative rate of return on a hypothetical
initial investment of $1,000 for a specified period. Cumulative total return
quotations reflect changes in the price of each Portfolios' shares and assume
that all dividends and capital gains distributions during the period were re-
invested in Portfolio shares. Cumulative total return is calculated by finding
the cumulative rates of a return of a hypothetical investment over such peri-
ods, according to the following formula (cumulative total return is then ex-
pressed as a percentage):

C = (ERV/P)-1

Where:

C =cumulative total return
P =a hypothetical initial investment of $1,000
ERV =ending redeemable value: ERV is the value, at the end of the
applicable period, of a hypothetical $1,000 investment made at
the beginning of the applicable period.

YIELD AND TOTAL RETURN

The yield of each Portfolio of the Fund (except the Money Market Portfolio)
for the 30-day period ended September 30, 1998, is set forth below*. Yields
are calculated daily for each Portfolio. Premiums and discounts on asset-
backed securities are not amortized.

<TABLE>
<S> <C>
High-Grade Bond Portfolio.............................................. 5.58%
Balanced Portfolio..................................................... 3.67%
Equity Index Portfolio................................................. 1.41%
Equity Income Portfolio................................................ 2.69%
Growth Portfolio....................................................... 0.70%
International Portfolio................................................ N/A
High Yield Bond Portfolio.............................................. 9.44%
Small Company Growth Portfolio......................................... 0.99%
</TABLE>
- --------

* Please note: The commencement date for investment operations for the Mid-Cap
Index, Diversified Value, REIT Index, and Short-Term Corporate Portfolios is
February 9, 1999.

The average annual total return of each Portfolio of the Fund (except the
Money Market Portfolio) for the one- and five year periods, and the period
since inception, is set forth on page 14+:

B-13
<PAGE>

<TABLE>
<CAPTION>
ONE YEAR ENDED FIVE YEARS ENDED SINCE
9/30/1998 9/30/1998 INCEPTION*
-------------- ---------------- ----------
<S> <C> <C> <C>
High-Grade Bond Portfolio......... 11.36 % 7.08% 8.36 %
Balanced Portfolio................ 7.26 % 14.90% 13.77 %
Equity Index Portfolio............ 8.97 % 19.76% 17.03 %
Equity Income Portfolio........... 11.19 % 17.71% 18.03 %
Growth Portfolio.................. 17.37 % 21.97% 21.13 %
International Portfolio........... (8.74)% N/A 8.20 %
High Yield Bond Portfolio......... 3.85 % N/A 9.66 %
Small Company Growth Portfolio.... (20.10)% N/A (1.72)%
</TABLE>
- --------
* Since Inception:
Equity Index Portfolio and High-Grade Bond Portfolio--April 29, 1991
Balanced Portfolio--May 23, 1991
Equity Income Portfolio and Growth Portfolio--June 7, 1993
International Portfolio--June 3, 1994
High Yield Bond Portfolio and Small Company Growth Portfolio--April 29,
1996

+ Please note: The commencement date for investment operations for the Mid-Cap
Index, Diversified Value, REIT Index and Short-Term Corporate Portfolios is
February 9, 1999.

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

MANAGEMENT OF THE FUND

TRUSTEES AND OFFICERS

The Officers of the Fund manage its day-to-day operations and are responsible
to the Fund's Board of Trustees. The Trustees set broad policies for the Fund
and choose its Officers. The following is a list of Trustees and Officers of
the Fund and a statement of their present positions and principal occupations
during the past five years. As a group, the Fund's Trustees and Officers own
less than 1% of the outstanding shares of each Portfolio of the Fund. Each
Trustee also serves as a Director of The Vanguard Group, Inc., and as a
Trustee of each of the 36 investment companies administered by Vanguard (35 in
the case of Mr. Malkiel and 28 in the case of Mr. MacLaury. The mailing ad-
dress of the Trustees and Officers of the Fund is Post Office Box 876, Valley
Forge, Pennsylvania 19482.

JOHN C. BOGLE, (DOB: 5/8/1929) Senior Chairman and Trustee*
Senior Chairman and Director of The Vanguard Group, Inc., and Trustee of each
of the investment companies in The Vanguard Group; Director of The Mead Corp.
(Paper Products), General Accident Insurance, and Chris-Craft Industries, Inc.
(Broadcasting & Plastics Manufacturer).

JOHN J. BRENNAN, (DOB: 7/29/1954) Chairman, Chief Executive Officer & Trustee*
Chairman, Chief Executive Officer and Director of The Vanguard Group, Inc.,
and Trustee of each of the investment companies in The Vanguard Group.

BARBARA BARNES HAUPTFUHRER, (DOB: 10/11/1928) Trustee
Director of The Great Atlantic and Pacific Tea Co. (Retail Stores), IKON Of-
fice Solutions, Inc. (Office Products), Raytheon Co. (Defense/Electronics),
Knight-Ridder, Inc. (Publishing), Massachusetts Mutual Life Insurance Co., and
Ladies Professional Golf Association; and Trustee Emerita of Wellesley Col-
lege.

JOANN HEFFERNAN HEISEN, (DOB: 1/25/1950) Trustee
Vice President, Chief Information Officer, and member of the Executive Commit-
tee of Johnson and Johnson (Pharmaceuticals/Consumer Products), Director of
Johnson & Johnson*MERCK Consumer Pharmaceuticals Co.,

B-14
<PAGE>

Women First HealthCare, Inc. (Research and Education Institution), Recording
for the Blind and Dyslexic, The Medical Center at Princeton, and Women's Re-
search and Education Institute.

BRUCE K. MACLAURY, (DOB: 5/7/1931) Trustee
President Emeritus of The Brookings Institution (Independent Non-Partisan Re-
search Organization); Director of American Express Bank, Ltd., The St. Paul
Companies, Inc. (Insurance and Financial Services), and National Steel Corp.

BURTON G. MALKIEL, (DOB: 8/28/1932) Trustee
Chemical Bank Chairman's Professor of Economics, Princeton University; Direc-
tor of Prudential Insurance Co. of America, Banco Bilbao Gestinova, Baker
Fentress & Co. (Investment Management), The Jeffrey Co. (Holding Company), and
Southern New England Telecommunications Co.

ALFRED M. RANKIN, JR., (DOB: 10/8/1941) Trustee
Chairman, President, Chief Executive Officer, and Director of NACCO Industries
(Machinery/Coal/Appliances); Director of The BFGoodrich Co. (Aircraft
Systems/Manufacturing/Chemicals), and The Standard Products Co. (Rubber Prod-
ucts Company).

JOHN C. SAWHILL, (DOB: 6/12/1936) Trustee
President and Chief Executive Officer of The Nature Conservancy (Non-Profit
Conservation Group); Director of Pacific Gas and Electric Co., Procter & Gam-
ble Co., NACCO Industries (Machinery/Coal/Appliances), and Newfield Explora-
tion Co. (Energy); formerly Director and Senior Partner of McKinsey & Co., and
President of New York University.

JAMES O. WELCH, JR., (DOB: 5/13/1931) Trustee
Retired Chairman of Nabisco Brands, Inc. (Food Products); retired Vice Chair-
man and Director of RJR Nabisco (Food and Tobacco Products); Director of TECO
Energy, Inc., and Kmart Corp.

J. LAWRENCE WILSON, (DOB: 3/2/1936) Trustee
Chairman and Chief Executive Officer of Rohm & Haas Co. (Chemicals); Director
of Cummins Engine Co. (Diesel Engine Company), and The Mead Corp. (Paper Prod-
ucts); and Trustee of Vanderbilt University.

RAYMOND J. KLAPINSKY, (DOB: 12/7/1938) Secretary*
Managing Director of The Vanguard Group, Inc.; Secretary of The Vanguard
Group, Inc. and of each of the investment companies in The Vanguard Group.

THOMAS J. HIGGINS, (DOB: 5/21/1957) Treasurer*
Principal of The Vanguard Group, Inc.; Treasurer of each of the investment
companies in The Vanguard Group.

KAREN E. WEST, (DOB: 9/13/1946) Controller*
Principal of The Vanguard Group, Inc.; Controller of each of the investment
companies in The Vanguard Group.
- --------
*Officers of the Trust are "interested persons" as defined in the Investment
Company Act of 1940.

THE VANGUARD GROUP

Vanguard Variable Insurance Fund is a member of The Vanguard Group of Invest-
ment Companies, which consists of more than 30 investment companies (the
"Funds"). Through their jointly-owned subsidiary, The Vanguard Group, Inc.
("Vanguard"), the Fund and the other Funds in The Vanguard Group obtain at
cost virtually all of their corporate management, administrative and distribu-
tion services. Vanguard also provides investment advisory services on an at-
cost basis to certain Vanguard Funds.

Vanguard employs a supporting staff of management and administrative person-
nel needed to provide the requisite services to the Funds and also furnishes
the Funds with necessary office space, furnishings and equip-

B-15
<PAGE>

ment. Each Fund pays its share of Vanguard's total expenses which are allo-
cated among the Funds under methods approved by the Board of Trustees of each
Fund. In addition, each Fund bears its own direct expenses such as legal, au-
diting and custodian fees.

The Fund's Officers are also Officers and employees of Vanguard. No Officer
or employee owns, or is permitted to own, any securities of any external ad-
viser for the Funds.

Vanguard adheres to a Code of Ethics established pursuant to Rule 17j-1 under
the 1940 Act. The Code is designed to prevent unlawful practices in connection
with the purchase or sale of securities by persons associated with Vanguard.
Under Vanguard's Code of Ethics certain Officers and employees of Vanguard who
are considered access persons are permitted to engage in personal securities
transactions. However, such transactions are subject to procedures and guide-
lines similar to, and in many cases more restrictive than, those recommended
by a blue ribbon panel of mutual fund industry executives.

Vanguard was established and operates under an Amended and Restated Funds'
Service Agreement which was approved by the shareholders of each of the Funds.
The amounts which each of the Funds has invested are adjusted from time to
time in order to maintain the proportionate relationship between each Fund's
relative net assets and its contribution to Vanguard's capital. At September
30, 1998, the Fund had contributed capital of $763,000 to Vanguard (included
in other assets) representing 1.09% of Vanguard's capitalization. The Amended
and Restated Funds' Service Agreement provides as follows: (a) each Vanguard
Fund may invest up to .40% of its current net assets in Vanguard, and
(b) there is no other limitation on the dollar amount that each Vanguard Fund
may contribute to Vanguard's capitalization.

MANAGEMENT. Corporate management and administrative services include: (1) ex-
ecutive staff; (2) accounting and financial; (3) legal and regulatory; (4)
shareholder account maintenance; (5) monitoring and control of custodian rela-
tionships; (6) shareholder reporting; and (7) review and evaluation of advi-
sory and other services provided to the Funds by third parties. During the
fiscal year ended September 30, 1998, the Fund's allocated share of Vanguard's
actual net costs of operation relating to management and administrative serv-
ices (including transfer agency) totaled approximately $6,861,000.

DISTRIBUTION. Vanguard Marketing Corporation, a wholly-owned subsidiary of
The Vanguard Group, Inc., provides all distribution and marketing activities
for the Funds in the Group. The principal distribution expenses are for adver-
tising, promotional materials and marketing personnel. Distribution services
may also include organizing and offering to the public, from time to time, one
or more new investment companies which will become members of Vanguard. The
Trustees and Officers of Vanguard determine the amount to be spent annually on
distribution activities, the manner and amount to be spent on each Fund, and
whether to organize new investment companies.

One half of the distribution expenses of a marketing and promotional nature
is allocated among the Funds based upon relative net assets. The remaining one
half of those expenses is allocated among the Funds based upon each Fund's
sales for the preceding 24 months relative to the total sales of the Funds as
a Group; provided, however, that no Fund's aggregate quarterly rate of contri-
bution for distribution expenses of a marketing and promotional nature shall
exceed 125% of average distribution expense rate for The Vanguard Group, and
that no Fund shall incur annual distribution expenses in excess of 20/100 of
1% of its average month-end net assets. During the fiscal year ended September
30, 1998, the Fund incurred approximately $668,000 of The Vanguard Group's
distribution and marketing expenses, which represented an effective annual
rate of .02 of 1% of the Fund's average month-end net assets.

INVESTMENT ADVISORY SERVICES. Vanguard also provides investment advisory
services to several Vanguard Funds. These services are provided on an at-cost
basis from a money management staff employed directly by Vanguard. The compen-
sation and other expenses of this staff are paid by the Funds utilizing these
services. During the fiscal years ended September 30, 1996, September 30,
1997, and September 30, 1998, the Fund paid approximately $60,000, $89,000 and
$110,000 of Vanguard's expenses relating to investment advisory services.

B-16
<PAGE>

TRUSTEE COMPENSATION

The individuals in the following table serve as Trustees of all Vanguard
Funds, and each Fund pays a proportionate share of the Trustees' compensation.
The Funds employ their officers on a shared basis, as well. However, officers
are compensated by The Vanguard Group, Inc., not the Funds.

INDEPENDENT TRUSTEES. The Funds compensate their independent Trustees -- that
is, the ones who are not also officers of the Funds -- in three ways:

. The independent Trustees receive an annual fee for their service to the
Funds, which is subject to reduction based on absences from scheduled Board
meetings.

. The independent Trustees are reimbursed for the travel and other expenses
that they incur in attending Board meetings.

. Upon retirement, the independent Trustees receive an aggregate annual fee
of $1,000 for each year served on the Board, up to fifteen years of serv-
ice. This annual fee is paid for ten years following retirement, or until
each Trustee's death.

"INTERESTED" TRUSTEES. The Funds' interested Trustees -- Messrs. Bogle and
Brennan -- receive no compensation for their service in that capacity. Howev-
er, they are paid in their role as officers of The Vanguard Group, Inc.

COMPENSATION TABLE. The following table provides compensation details for
each of the Trustees. For the Fund, we list the amounts paid as compensation
and accrued as retirement benefits by the Fund for each Trustee. In addition,
the table shows the total amount of benefits that we expect each Trustee to
receive from all Vanguard Funds upon retirement, and the total amount of com-
pensation paid to each Trustee by all Vanguard Funds. All information shown is
for the fiscal year ended September 30, 1998:

VANGUARD VARIABLE INSURANCE FUND
COMPENSATION TABLE

<TABLE>
<CAPTION>
AGGREGATE PENSION OR RETIREMENT ESTIMATED TOTAL COMPENSATION
COMPENSATION BENEFITS ACCRUED AS ANNUAL BENEFITS FROM ALL VANGUARD FUNDS
NAMES OF TRUSTEES FROM FUND PART OF FUND EXPENSES UPON RETIREMENT PAID TO TRUSTEES(/1/)
- ----------------- ------------ --------------------- --------------- -----------------------
<S> <C> <C> <C> <C>
John C. Bogle -- -- -- --
John J. Brennan -- -- -- --
Barbara Barnes
Hauptfuhrer $768 $104 $15,000 $75,000
JoAnn Heffernan Heisen $192 $ 45 $15,000 $18,750
Robert E. Cawthorn(/2/) $512 $ 69 $ 6,000 $50,000
Bruce K. MacLaury $804 $ 77 $12,000 $70,000
Burton G. Malkiel $773 $ 75 $15,000 $75,000
Alfred M. Rankin, Jr. $768 $ 55 $15,000 $75,000
John C. Sawhill $768 $ 69 $15,000 $75,000
James O. Welch, Jr. $768 $ 80 $15,000 $75,000
J. Lawrence Wilson $768 $ 58 $15,000 $75,000
</TABLE>
(/1/)The amounts reported in this column reflect the total compensation paid to
each Trustee for their service as Trustee of 36 Vanguard Funds (35 in the
case of Mr. Malkiel; 28 in the case of Mr. MacLaury).
(/2/)Mr. Cawthorn has retired from the Fund's Board, effective May 31, 1998.

INVESTMENT ADVISORY SERVICES

The Money Market, High-Grade Bond, Equity Index, REIT Index, Mid-Cap Index,
and Short-Term Corporate Portfolios of the Fund receive investment advisory
services on an "internalized," at-cost basis from an experi-

B-17
<PAGE>

enced investment management staff employed directly by Vanguard. The invest-
ment management staff is supervised by the senior Officers of the Fund. Van-
guard's Fixed Income Group provides advisory services for the Money Market,
High-Grade Bond and Short-Term Corporate Portfolios, and Vanguard's Core Man-
agement Group provides advisory services to the Equity Index, REIT Index, and
Mid-Cap Index Portfolios.

Vanguard's investment management staff is also responsible for the allocation
of principal business and portfolio brokerage and the negotiation of commis-
sions. For the Money Market Portfolio, the purchase and sale of investment se-
curities will ordinarily be principal transactions. Portfolio securities will
normally be purchased directly from the issuer or from an underwriter or mar-
ket maker for the securities. There will usually be no brokerage commissions
paid by the Money Market Portfolio for such purchases. Purchases from under-
writers of securities will include a commission or concession paid by the is-
suer to the underwriter, and purchases from dealers serving as market makers
will include a dealer's mark-up.

In placing portfolio transactions, Vanguard's advisory staff uses its best
judgment to choose the broker most capable of providing the brokerage services
necessary to obtain the best available price and most favorable execution at
the lowest commission rate. The full range and quality of brokerage services
available are considered in making these determinations. In selecting broker-
dealers to execute securities transactions for the Portfolios, consideration
will be given to such factors as: the price of the security; the rate of the
commission; the size and difficulty of the order; the reliability, integrity,
financial condition, general execution, and operational capabilities of com-
peting broker-dealers; and the brokerage and research services provided to the
Fund.

The investment policies of each of the Portfolios may lead to frequent
changes in investments, particularly in periods of rapidly fluctuating inter-
est rates. A change in securities held by a Portfolio is known as "portfolio
turnover" and may involve the payment by the Portfolio of dealer mark-ups, un-
derwriting commissions, and other transaction costs on the sales of securities
as well as on the reinvestment of the proceeds in other securities. The annual
portfolio turnover rate for the Portfolios is set forth under the heading "Fi-
nancial Highlights" in the Vanguard Variable Insurance Fund Prospectus. The
portfolio turnover rate is not a limiting factor when management deems it de-
sirable to sell or purchase securities. It is impossible to predict whether or
not the portfolio turnover rates in future years will vary significantly from
the rates in recent years.

THE BALANCED AND HIGH YIELD BOND PORTFOLIOS' INVESTMENT ADVISORY AGREEMENTS

The Fund employs Wellington Management Company, LLP ("WMC") to manage the in-
vestment and reinvestment of the assets included in the Fund's Balanced Port-
folio and to continuously review, supervise and administer the Balanced Port-
folio's investment program. WMC discharges its responsibilities subject to the
control of the Officers and Trustees of the Fund.

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

<TABLE>
<CAPTION>
NET ASSETS RATE
---------- -----
<S> <C>
First $500 million.................................................... .100%
Next $500 million..................................................... .050%
Over $1 billion....................................................... .040%
</TABLE>

Effective with the quarter ending June 30, 1997, the quarterly payment to the
Adviser has been increased or decreased by applying an incentive/penalty ad-
justment reflecting the investment performance of the Balanced Portfolio rela-
tive to the investment performance of a "Composite Index", 65% of which is
comprised of the Standard & Poor's 500 Composite Stock Price Index (the "Stock
Index") and 35% of which is comprised of the Lehman Long-Term Corporate AA or
Better Bond Index (the "Bond Index").

B-18
<PAGE>

The following table sets forth the adjustment factors to the base advisory
fee payable by the Fund to WMC with respect to the Balanced Portfolio under
this investment advisory agreement.

<TABLE>
<CAPTION>
CUMULATIVE 36-MONTH
PERFORMANCE VS. THE PERFORMANCE FEE
COMPOSITE INDEX ADJUSTMENT*
------------------- -----------------
<S> <C>
Less than -6%........................ -0.20 X Basic Fee
Between -6% and -3%.................. -0.10 X Basic Fee
Between -3% and +3%.................. 0 X Basic Fee
Between +3% and +6%.................. +0.10 X Basic Fee
More than +6%........................ +0.20 X Basic Fee
</TABLE>
--------
*For purposes of this calculation, the Basic Fee
is calculated by applying the quarterly rate
against average assets over the same time period
which the performance is measured.

Under the rules of the Securities and Exchange Commission, the new
incentive/penalty fee will not be fully operable until the quarter ending June
30, 1999. Until that date, a "blended" fee rate consisting of varying percent-
ages of (i) the performance adjustment based on the schedule set forth above
(the "new rate"/1/), and (ii) the performance adjustment based on the schedule
set forth in the Fund's previous investment advisory agreement with the advis-
er/2/ (the "previous rate") shall be used as follows:

1. QUARTER ENDING SEPTEMBER 30, 1996. The incentive/penalty fee was cal-
culated as the sum of 8.3% (e.g., one of 12 quarters) of the fee payable
under the new rate plus 91.7% (e.g., 11 of 12 quarters) of the fee payable
under the previous rate.

2. QUARTER ENDING DECEMBER 31, 1996. The incentive/penalty fee was calcu-
lated as the sum of 16.6% of the fee payable under the new rate plus 83.4%
of the fee payable under the previous rate.

3. QUARTER ENDING MARCH 31, 1997. The incentive/penalty was calculated as
the sum of 25% of the fee payable under the new rate plus 75% of the fee
payable under the previous rate.

4. QUARTER ENDING JUNE 30, 1997. The incentive/penalty fee was calculated
as the sum of 33% of the fee payable under the new rate plus 67% of the fee
payable under the previous rate.

5. QUARTER ENDING SEPTEMBER 30, 1997. The incentive/penalty fee was cal-
culated as the sum of 41.6% of the fee payable under the new rate plus
58.4% of the fee payable under the previous rate.

6. QUARTER ENDING DECEMBER 31, 1997. The incentive/penalty fee was calcu-
lated as the sum of 50% of the fee payable under the new rate plus 50% of
the fee payable under the previous rate.

7. QUARTER ENDING MARCH 31, 1998. The incentive/penalty fee was calcu-
lated as the sum of 58.4% of the fee payable under the new rate plus 41.6%
of the fee payable under the previous rate.

8. QUARTER ENDING JUNE 30, 1998. The incentive/penalty fee was calculated
as the sum of 67% of the fee payable under the new rate plus 33% of the fee
payable under the previous rate.

9. QUARTER ENDING SEPTEMBER 30, 1998. The incentive/penalty fee was cal-
culated as the sum of 75% of the fee payable under the new rate plus 25% of
the fee payable under the previous rate.
- --------
/1/The benchmark used for the new rate calculation will consist of linking the
return of the "new" benchmark (Lehman Long-Term Corporate AA or Better Bond
Index) to the return of the "previous" benchmark (Salomon Brothers High-
Grade Corporate Bond Index) in the same varying percentages that are listed
below.
/2/The previous incentive/penalty fee structure provided that the Basic Fee be
increased or decreased by an amount equal to .015% per annum (.00375% per
quarter) of the first $500 million of the average month-end assets of the
Fund and .010% per annum (.0025% per quarter) of the average month-end as-
sets of the Fund over $500 million if the Fund's investment performance for
the thirty-six months preceding the end of the quarter was six percentage
points or more above or below, respectively, the investment record of a
"Combined Index" which included the Salomon Brothers High-Grade Corporate
Bond Index for the debt portion of the Combined Index.

B-19
<PAGE>

10. QUARTER ENDING DECEMBER 31, 1998. The incentive/penalty fee was cal-
culated as the sum of 83.4% of the fee payable under the new rate plus
16.6% of the fee payable under the previous rate.

11. QUARTER ENDING MARCH 31, 1999. The incentive/penalty fee shall be
calculated as the sum of 91.7% of the fee payable under the new rate plus
8.3% of the fee payable under the previous rate.

12. QUARTER ENDING JUNE 30, 1999. New rate fully operable.

For the purpose of determining the fee adjustment for investment performance,
as described above, the net assets of the Portfolio shall be averaged over the
same period as the investment performance of the Portfolio and the investment
record of the Composite Index are computed. The "investment performance" of
the Portfolio for the period, expressed as a percentage of the Portfolio's net
asset value per share at the beginning of the period shall be the sum of: (i)
the change in the Portfolio's net asset value per share during such period;
(ii) the value of the Portfolio's cash distributions per share having an ex-
dividend date occurring within the period; and (iii) the per share amount of
capital gains taxes paid or accrued during such period by the Portfolio for
undistributed realized long-term capital gains.

The "investment record" of the Stock Index for the period, expressed as a
percentage of the Stock Index level at the beginning of the period, shall be
the sum of (i) the change in the level of the Stock Index during the period
and (ii) the value, computed consistently with the Stock Index, of cash dis-
tributions having an ex-dividend date occurring within the period made by com-
panies whose securities comprise the Stock Index. The "investment record" of
the Bond Index for the period, expressed as a percentage of the Bond Index
level at the beginning of such period shall be the sum of (i) the change in
the level of the Bond Index during the period, and (ii) the value of the in-
terest accrued or paid on the bonds included in the Bond Index, assuming the
reinvestment of such interest on a monthly basis. Computation of these two
components as the Composite Index shall be made on the basis of 65% in the
Stock Index and 35% in the Bond Index at the beginning of each quarter.

In April, 1972, the Commission issued Release No. 7113 under the 1940 Act to
call the attention of trustees and investment advisers to certain factors which
must be considered in connection with investment company incentive fee
arrangements. One of these factors is to "avoid basing significant fee adjust-
ments upon random or insignificant differences" between the investment perfor-
mance of a fund and that of the particular index with which it is being com-
pared. The Release provides that "preliminary studies (of the Commission) in-
dicate that as a "rule of thumb' the performance difference should be at least
more or less than 10 percentage points" annually before the maximum performance
adjustment may be made. However, the Release also states that "because of the
preliminary nature of these studies, the Commission is not recommending, at
this time, that any particular performance difference exist before the maximum
fee adjustment may be made." The Release concludes that the directors of a fund
"should satisfy themselves that the maximum performance adjustment will be
made only for performance differences that can reasonably be considered
"significant'." The Board of Trustees of Vanguard Variable Insurance Fund has
fully considered the Commission's Release and believes that the performance
adjustments as included in the above mentioned agreement are appropriate,
although not within the more or less than 10 percentage point per year range
suggested in the Release. Under the investment advisory agreement between
Vanguard Variable Insurance Fund and WMC, the maximum performance adjustment
is made at a difference of more or less than 6 percentage points from the
performance of the index over a thirty-six month period, which would
effectively be the equivalent of approximately more or less than 2 percentage
points difference per year.

The present agreement with respect to the Balanced Portfolio is renewable for
successive one-year periods, only if each renewal is specifically approved by
a vote of the Fund's Board of Trustees, including the affirmative votes of a
majority of the Trustees who are not parties to the contract or "interested
persons" (as defined in the 1940 Act) of any such party, cast in person at a
meeting called for the purpose of considering such approval. The agreement is
automatically terminated if assigned, and may be terminated without penalty at
any time (1) either by vote of the Board of Trustees of the Fund on 60 days'
written notice to WMC, or (2) by WMC upon 90 days' written notice to the Fund.

B-20
<PAGE>

During the fiscal years ended September 30, 1996, September 30, 1997, and
September 30, 1998, the Fund incurred investment advisory fees with respect to
the Balanced Portfolio of approximately $310,000 (before an increase of $1,000
based on performance), $397,000 (before a decrease of $6,000 based on perfor-
mance), and $514,000 (before a decrease of $68,000 based on performance), re-
spectively, to WMC.

The Fund also employs WMC to manage the investment and reinvestment of the
assets of the Fund's High Yield Bond Portfolio and to continuously review, su-
pervise and administer the investment program for such Portfolio. WMC dis-
charges its responsibilities subject to the control of the Officers and Trust-
ees of the Fund.

The Fund pays WMC a basic advisory fee at the end of each fiscal quarter cal-
culated by applying a quarterly rate, based on an annual percentage rate of
.06% to the average month-end net assets of the High Yield Bond Portfolio for
the quarter.

The present agreement with respect to the High Yield Bond Portfolio continues
for successive one-year periods, only if each renewal is specifically approved
at least annually by a vote of the Fund's Board of Trustees, including the af-
firmative votes of a majority of those Trustees who are not parties to the
agreement or "interested persons" (as defined in the 1940 Act) of any such
party, cast in person at a meeting called for the purpose of voting such ap-
proval. The agreement may be terminated by the Fund at any time, without pen-
alty, by vote of the Board of Trustees of the Fund on 60 days' written notice
to WMC, or by WMC on 90 days' written notice to the Fund. The agreement will
automatically terminate in the event of its assignment.

During the fiscal period ended September 30, 1996 and the fiscal years ended
September 30, 1997 and September 30, 1998, the Fund incurred investment advi-
sory fees with respect to the High Yield Bond Portfolio of approximately
$3,000, $34,000 and $74,000, respectively, to WMC.

DESCRIPTION OF WMC. WMC is a Massachusetts limited liability partnership of
which the following persons are managing partners: Robert W. Doran, Duncan M.
McFarland and John R. Ryan.

THE GROWTH PORTFOLIO INVESTMENT ADVISORY AGREEMENT

The Fund entered into an investment advisory agreement with Lincoln Capital
Management Company ("Lincoln") under which Lincoln manages the investment and
reinvestment of the assets included in the Fund's Growth Portfolio and contin-
uously reviews, supervises and administers the Fund's Growth Portfolio. Lin-
coln will invest or reinvest such assets predominantly in U.S. securities.
Lincoln discharges its responsibilities subject to the control of the Officers
and Trustees of the Fund. Under this agreement the Fund pays Lincoln an advi-
sory fee at the end of each fiscal quarter, calculated by applying a quarterly
rate, based on an annual rate of .15% to the Portfolio's average month-end net
assets for the quarter.

The agreement with Lincoln is renewable for successive one-year periods, only
if each renewal is specifically approved by a vote of the Fund's Board of
Trustees, including the affirmative votes of a majority of the trustees who
are not parties to the agreement or "interested persons" (as defined in the
1940 Act) of any such party, cast in person at a meeting called for the pur-
pose of considering such approval. The agreement is automatically terminated
if assigned, and may be terminated without penalty at any time (1) either by
vote of the Board of Trustees on sixty (60) days' written notice to Lincoln,
or (2) by Lincoln upon ninety (90) days' written notice to the Fund. During
the fiscal years ended September 30, 1996, September 30, 1997, and September
30, 1998, the Fund paid investment advisory fees of approximately $333,000,
$575,000, and $859,000, respectively, to Lincoln.

DESCRIPTION OF LINCOLN

Lincoln is an Illinois corporation in which a controlling interest is held by
the following persons: Timothy H. Ubben, Chairman; J. Parker Hall III, Chief
Executive Officer; Kenneth R. Meyer, President; Ray B. Zemon, Executive Vice
President; David M. Fowler, Executive Vice President; Richard W. Knee, Execu-
tive Vice President; and Jay H. Freedman, Executive Vice President.

B-21
<PAGE>

THE EQUITY INCOME PORTFOLIO INVESTMENT ADVISORY AGREEMENT

The Fund employs Newell Associates, 525 University Avenue, Palo Alto, Cali-
fornia 94301 ("Newell"), to manage the investment and reinvestment of the as-
sets of the Equity Income Portfolio and to continuously review, supervise and
administer the Portfolio's investment program. Newell discharges its responsi-
bilities subject to the control of the Officers and Trustees of the Fund.

The Fund pays Newell an advisory fee at the end of each fiscal quarter, cal-
culated by applying a quarterly rate, based on an annual percentage rate of
.10%, to the average month-end net assets of the Portfolio for the quarter.

The agreement is renewable for successive one-year periods, only if each re-
newal is specifically approved by a vote of the Fund's Board of Trustees, in-
cluding the affirmative votes of a majority of the Trustees who are not par-
ties to the contract or "interested persons" (as defined in the 1940 Act) of
any such party, cast in person at a meeting called for the purpose of consid-
ering such approval. The agreement is automatically terminated if assigned,
and may be terminated without penalty at any time (1) either by vote of the
Board of Trustees of the Fund on 60 days' written notice to the Adviser, or
(2) by the Adviser upon 90 days' written notice to the Fund. During the fiscal
years ended September 30, 1996, September 30, 1997, and September 30, 1998,
the Fund paid investment advisory fees of approximately $123,000, $203,000,
and $357,000, respectively, to Newell.

DESCRIPTION OF THE ADVISER

Newell is a California corporation of which 90% of its outstanding shares are
owned by its directors and officers. The directors of the corporation and the
offices they currently hold are: Roger D. Newell, Chairman, Jennifer C.
Newell, President, Robert A. Huret, Vice Chairman and Alan E. Rothenberg, Di-
rector.

THE INTERNATIONAL PORTFOLIO INVESTMENT ADVISORY AGREEMENT

The Fund has entered into an investment advisory agreement with Schroder Cap-
ital Management International, Inc. ("Schroder Capital") under which Schroder
Capital, through its Schroder Capital Management International, London, En-
gland, branch, supervises and administers the International Portfolio's in-
vestment program. In this regard, it is the responsibility of Schroder Capital
to make decisions relating to the International Portfolio's investment in for-
eign securities and to place the International Portfolio's purchase and sale
orders for such securities. Schroder Capital will invest or reinvest the as-
sets of the International Portfolio predominantly in foreign (non-U.S.) secu-
rities. Schroder Capital discharges its responsibilities subject to the con-
trol of the Officers and Trustees of the Fund.

As compensation for the services rendered by Schroder Capital under the
agreement, the Fund pays Schroder Capital at the end of each of the Fund's
fiscal quarters, a Basic Fee calculated by applying an annual percentage rate
of 0.125% to the average value of the month-end net assets of the Interna-
tional Portfolio for the quarter.

The Basic Fee, as provided above, shall be increased or decreased by applying
an adjustment formula based on the investment performance of the International
Portfolio relative to that of the Morgan Stanley Capital International Europe,
Australasia, Far East Index ("EAFE") as follows:

<TABLE>
<CAPTION>
THREE YEAR PERFORMANCE ANNUAL INCENTIVE (+)/
DIFFERENTIAL VS. EAFE PENALTY (-) FEE RATE
---------------------- ---------------------
<S> <C>
+12% or above.................... +0.0500%
Between +6% and +12%............. +0.0250%
Between +6% and -6%.............. -0-
Between -6% and -12%............. -0.0250%
-12% or below.................... -0.0500%
</TABLE>

B-22
<PAGE>

The incentive/penalty fee adjustment was not fully operable until the quarter
ending June 30, 1997, and, until that date, was calculated according to cer-
tain transition rules. For quarters ending after March 31, 1995 and prior to
June 30, 1997, the incentive/penalty fee adjustment was computed based on a
comparison of the investment performance of the Portfolio and that of the EAFE
Index over the number of months that have elapsed between July 1, 1994 and the
end of the quarter for which the fee is computed. Since June 30, 1997, the
number of months used to calculate the incentive/penalty fee adjustments has
been 36.

For the purpose of determining the fee adjustment for investment performance,
as described above, the net assets of the International Portfolio are averaged
over the same period as the investment performance of the International Port-
folio and the investment record of the EAFE Index are computed.

The investment performance of the International Portfolio for such period,
expressed as a percentage of the net asset value per share of the Interna-
tional Portfolio at the beginning of such period, shall be the sum of: (i) the
change in the net asset value per share of the International Portfolio during
such period; (ii) the value of the cash distributions per share of the Inter-
national Portfolio accumulated to the end of such period; and (iii) the value
of capital gains taxes per share paid or payable by the International Portfo-
lio on undistributed realized long-term capital gains accumulated to the end
of such period. For this purpose, the value of distributions per share of re-
alized capital gains, of dividends per share paid from investment income and
of capital gains taxes per share paid or payable on undistributed realized
long-term capital gains shall be treated as reinvested in shares of the Inter-
national Portfolio at the net asset value per share in effect at the close of
business on the record date for the payment of such distributions and divi-
dends and the date on which provision is made for such taxes, after giving ef-
fect to such distributions, dividends and taxes. The investment record of the
EAFE Index for any period, expressed as a percentage of the EAFE Index level
at the beginning of such period, shall be the sum of (i) the change in the
level of the EAFE Index during such period and (ii) the value, computed con-
sistently with the EAFE Index, of cash distributions made by companies whose
securities comprise the EAFE Index accumulated to the end of such period. For
this purpose cash distributions on the securities which comprise the EAFE In-
dex shall be treated as reinvested in the EAFE Index at least as frequently as
the end of each calendar quarter following the payment of the dividend. The
foregoing notwithstanding, any computation of the investment performance of
the International Portfolio and the investment record of the EAFE index shall
be in accordance with any then applicable rules of the Securities and Exchange
Commission.

The Trustees believe that the EAFE Index is an appropriate standard against
which the investment performance of the Fund's International Portfolio can be
measured. The EAFE Index is the only index available which covers the major
international markets outside North America. The weighting of securities in
the EAFE Index is based on each stock's relative total market value, that is,
its market price per share times the number of shares outstanding.

The agreement with Schroder Capital may be continued in accordance with the
same provisions applicable to the Fund's agreement with Lincoln. During the
fiscal years ended September 30, 1996, September 30, 1997, and September 30,
1998, the Fund paid investment advisory fees of approximately $204,000 (in-
cluding an increase of $42,000 based on performance), $315,000 (including an
increase of $60,000 based on performance), and $351,000 (including an increase
of $62,000 based on performance), respectively, to Schroder Capital.

DESCRIPTION OF SCHRODER CAPITAL

Schroder Capital is the London branch office of Schroder Capital Management
International, Inc. Schroder Capital is a wholly-owned subsidiary of Schroders
Incorporated, 787 7th Avenue, New York, New York.

Schroders PLC is the holding company parent of a large world-wide group of
banks and financial service companies (referred to as "The Schroder Group")
with associated companies and branch and representative offices located in
eighteen countries.

B-23
<PAGE>

The Schroder Group specializes in providing investment management services,
with Group funds under management currently in excess of $170 billion. Schro-
der Capital Management International was established in London in 1979 to man-
age international portfolios for U.S. institutions.

THE SMALL COMPANY GROWTH PORTFOLIO INVESTMENT ADVISORY AGREEMENT

The Fund entered into an investment advisory agreement with Granahan Invest-
ment Management, Inc. ("Granahan") under which Granahan manages the investment
and reinvestment of the Small Company Growth Portfolio and continuously re-
views, supervises and administers the Portfolio's investment program with re-
spect to those assets. Granahan discharges its responsibilities subject to the
control of the Officers and Trustees of the Fund.

The Fund pays Granahan a Basic fee at the end of each fiscal quarter, calcu-
lated by applying a quarterly rate based on an annual percentage rate of 0.15%
to the average month-end net assets of the Portfolio for the quarter.

The basic advisory fee may be increased or decreased by applying an
incentive/penalty adjustment to the basic fee reflecting the investment per-
formance of the Portfolio relative to the investment record of the Small Com-
pany Growth Fund Stock Index (the "Index") over the same period as follows:

<TABLE>
<CAPTION>
CUMULATIVE 36-MONTH PERFORMANCE FEE
PERFORMANCE VS. THE INDEX ADJUSTMENT*
------------------------- -----------------
<S> <C>
Trails by -12% or more -0.50 x Basic Fee
Trails by more than -6% up to -12% -0.25 x Basic Fee
Trails/exceeds from -6% through 6% 0.00 x Basic Fee
Exceeds by more than 6% but less than 12% +0.25 x Basic Fee
Exceeds by 12% or more +0.50 x Basic Fee
</TABLE>
- --------
*For purposes of this calculation, the basic fee is calculated by applying the
quarterly rate against average assets over the same time period for which the
performance is measured.

Until the quarter ending December 31, 2000, the performance adjustment for
Granahan will be calculated according to the following transition rules:

1. Quarter Ending March 31, 1998. Granahan's performance fee adjustment was
determined by linking the investment performance of the Russell 2000 for the
eleven quarters ending December 31, 1997 with that of the Index for the quar-
ter ending March 31, 1998.

2. Quarter Ending June 30, 1998. Granahan's performance fee adjustment was
determined by linking the investment performance of the Russell 2000 for the
ten quarters ending December 31, 1997 with that of the Index for the two
quarters ending June 30, 1998.

3. Quarter Ending September 30, 1998. Granahan's performance fee adjustment
was determined by linking the investment performance of the Russell 2000 for
the nine quarters ending December 31, 1997 with that of the Index for the
three quarters ending September 30, 1998.

4. Quarter Ending December 31, 1998. Granahan's performance fee adjustment
was determined by linking the investment performance of the Russell 2000 for
the eight quarters ending December 31, 1997 with that of the Index for the
four quarters ending December 31, 1998.

5. Quarter Ending March 31, 1999. Granahan's performance fee adjustment
shall be determined by linking the investment performance of the Russell 2000
for the seven quarters ending December 31, 1997 with that of the Index for
the five quarters ending March 31, 1999.

B-24
<PAGE>

6. Quarter Ending June 30, 1999. Granahan's performance fee adjustment shall
be determined by linking the investment performance of the Russell 2000 for
the six quarters ending December 31, 1997 with that of the Index for the six
quarters ending June 30, 1999.

7. Quarter Ending September 30, 1999. Granahan's performance fee adjustment
shall be determined by linking the investment performance of the Russell 2000
for the five quarters ending December 31, 1997 with that of the Index for the
seven quarters ending September 30, 1999.

8. Quarter Ending December 31, 1999. Granahan's performance fee adjustment
shall be determined by linking the investment performance of the Russell 2000
for the four quarters ending December 31, 1997 with that of the Index for the
eight quarters ending December 31, 1999.

9. Quarter Ending March 31, 2000. Granahan's performance fee adjustment
shall be determined by linking the investment performance of the Russell 2000
for the three quarters ending December 31, 1997 with that of the Index for
the nine quarters ending March 31, 2000.

10. Quarter Ending June 30, 2000. Granahan's performance fee adjustment
shall be determined by linking the investment performance of the Russell 2000
for the two quarters ending December 31, 1997 with that of the Index for the
ten quarters ending June 30, 2000.

11. Quarter Ending September 30, 2000. Granahan's performance fee adjustment
shall be determined by linking the investment performance of the Russell 2000
for the quarter ending December 31, 1997 with that of the Index for the
eleven quarters ending September 30, 2000.

12. Quarter Ending December 31, 2000. The Index shall be fully operable.

The agreement is renewable thereafter for successive one-year periods, only
if each renewal is specifically approved by a vote of the Fund's Board of
Trustees, including the affirmative votes of a majority of the Trustees who
are not parties to the contract or "interested persons" (as defined in the In-
vestment Company Act of 1940) of any such party, cast in person at a meeting
called for the purpose of considering such approval. The agreement is automat-
ically terminated if assigned, and may be terminated without penalty at any
time (1) either by vote of the Board of Trustees of the Fund on 60 days' writ-
ten notice to Granahan, or (2) by Granahan upon 90 days' written notice to the
Fund. During the fiscal period ended September 30, 1996, and the fiscal years
ended September 30, 1997 and September 30, 1998, the Fund paid investment ad-
visory fees of approximately $19,000, $107,000 (before a decrease of $22,000
based on performance), and $196,000 (before a decrease of $55,000 based on
performance), respectively, to Granahan.

DESCRIPTION OF GRANAHAN INVESTMENT MANAGEMENT, INC.

Granahan is a professional investment advisory firm founded in 1985. As of
September 30, 1998, Granahan held discretionary management authority with re-
spect to approximately $1.1 billion in assets. John J. Granahan is portfolio
manager of the assets of the Small Company Growth Portfolio.

THE DIVERSIFIED VALUE PORTFOLIO INVESTMENT ADVISORY AGREEMENT

The Fund has entered into an investment advisory agreement with Barrow, Han-
ley, Mewhinney & Strauss, Inc. ("BHM&S") to manage the Diversified Value Port-
folio. Under this agreement, BHM&S manages the investment and reinvestment of
the Portfolio and continuously reviews, supervises and administers the invest-
ment program of the Portfolio with respect to those assets. BHM&S discharges
its responsibilities subject to the control of the Officers and Trustees of
the Company.

The Fund pays BHM&S an advisory fee at the end of each fiscal quarter, calcu-
lated by applying a quarterly rate based on an annual percentage rate of
0.125% to the average month-end net assets of the Portfolio for the quarter.

B-25
<PAGE>

The basic advisory fee may be increased or decreased by applying an
incentive/penalty adjustment to the basic fee reflecting the investment per-
formance of the Portfolio relative to the investment record of the Standard &
Poor's/BARRA Value Index (the "Index") over the same period as follows:

<TABLE>
<CAPTION>
CUMULATIVE 36-MONTH PERFORMANCE FEE
PERFORMANCE VS. THE INDEX ADJUSTMENT*
------------------------- -----------------
<S> <C>
Trails by -9% or more...................................... -0.25 X Basic Fee
Trails by more than -6% up to -9%.......................... -0.15 X Basic Fee
Trails/exceeds from -6% through 6%......................... 0.00 X Basic Fee
Exceeds by more than 6% but less than 9%................... +0.15 X Basic Fee
Exceeds by 9% or more...................................... +0.25 X Basic Fee
</TABLE>
- --------
* For purposes of this calculation, the basic fee is calculated by applying
the quarterly rate against average assets over the same time period for
which the performance is measured.

Until the quarter ending December 31, 2001, the performance adjustment for
BHM&S will be calculated according to the following transition rules:

1. December 29, 1998 through September 30, 1999. The incentive/penalty fee
adjustment shall not be operable, and BHM&S will be paid the Basic Fee
set forth above.

2. Quarter Ending December 31, 1999, Through Quarter Ending December 31,
2001. The incentive penalty fee adjustment shall be calculated based on
a comparison of the Portfolio's investment performance and that of the
Index over the number of months that have elapsed between December 31,
1998 and the end of the quarter for which the fee is computed. The num-
ber of percentage points by which the Portfolio's investment performance
must exceed or fall below that of the Index shall increase proportion-
ately from 3 percentage points and 2 percentage points, respectively,
for the twelve months ended December 31, 1999 to 9 percentage points and
6 percentage points, respectively, for the thirty-six months ended De-
cember 31, 2001.

The BARRA Value Index includes stocks in the Standard and Poor's 500 Compos-
ite Stock Price Index with lower than average rates of market price to book
value. These types of stocks are often referred to as "value" stocks.

The commencement date for investment operations for the Diversified Value
Portfolio is February 9, 1999.

DESCRIPTION OF BARROW, HANLEY, MEWHINNEY & STRAUSS

BHM&S is a Texas corporation controlled by the following officers of BHM&S:
James Purdy Barrow, Principal; Bryant Miller Hanley, Jr., President, Secretary
and Treasurer; Michael Christopher Mewhinney, Principal; and John Luke
Strauss, Principal.

Pursuant to an order of the Securities and Exchange Commission granting
exemptive relief from the 1940 Act, the Fund's Board of Trustees may, without
the approval of shareholders, provide for:

A. The employment of a new investment adviser pursuant to the terms of a new
advisory agreement, either as a replacement for an existing adviser or as an
additional adviser.

B. A change in the terms of an advisory agreement.

C. The continued employment of an existing adviser on the same advisory con-
tract terms where a contract has been assigned because of a change in control
of the adviser.

Any such change will be communicated to shareholders in writing.

B-26
<PAGE>

PORTFOLIO TRANSACTIONS

The investment advisory agreements authorize WMC, Lincoln, Newell, Granahan,
Schroder Capital BHM&S, Vanguard Core Management, and Vanguard Fixed Income
Group, (the "Advisers") (with the approval of the Fund's Board of Trustees) to
select the brokers or dealers that will execute the purchases and sales of
portfolio securities for the Portfolios of the Fund and directs the Advisers
to use their best efforts to obtain the best available price and most favora-
ble execution as to all transactions for the Portfolios. The Advisers have un-
dertaken to execute each investment transaction at a price and commission
which provides the most favorable total cost or proceeds reasonably obtainable
under the circumstances.

In placing portfolio transactions for their respective Portfolios, the Advis-
ers will use their best judgment to choose the broker most capable of provid-
ing the brokerage services necessary to obtain best available price and most
favorable execution. The full range and quality of brokerage services avail-
able will be considered in making these determinations. In those instances
where it is reasonably determined that more than one broker can offer the bro-
kerage services needed to obtain the best available price and most favorable
execution, consideration may be given to those brokers which supply investment
research and statistical information and provide other services in addition to
execution services to the Portfolios of the Fund and/or the Advisers. Research
services may include, but are not limited to, individual company and industry
analysis, and investment publications. The Advisers consider such information
useful in the performance of their obligations under the agreement but are un-
able to determine the amount by which such services may reduce their expenses.

The investment advisory agreements also incorporate the concepts of Section
28(e) of the Securities Exchange Act of 1934 by providing that, subject to the
approval of the Fund's Board of Trustees, the Advisers may cause the Portfo-
lios of the Fund to pay a broker-dealer which furnishes brokerage services a
higher commission than that which might be charged by another broker-dealer
for effecting the same transaction; provided that such commission is deemed
reasonable in terms of either that particular transaction or the overall re-
sponsibilities of the Advisers to their respective Portfolios and the other
Funds in the Group.

Currently, it is the Fund's policy that the Advisers may at times pay higher
commissions in recognition of brokerage services felt necessary for the
achievement of better execution of certain securities transactions that other-
wise might not be available. The Advisers will only pay such higher commis-
sions if they believe this to be in the best interest of the Portfolios of the
Fund. Some brokers or dealers who may receive such higher commissions in rec-
ognition of brokerage services related to execution of securities transactions
are also providers of research information to the Advisers and/or the Bal-
anced, Growth, Equity Income, International, Diversified Value, and REIT Index
Portfolios of the Fund. However, the Advisers have informed the Fund that they
generally will not pay higher commission rates specifically for the purpose of
obtaining research services.

Some securities considered for investment by the Portfolios of the Fund may
also be appropriate for other Funds and/or clients served by the Advisers. If
purchase or sale of securities consistent with the investment policies of the
Portfolios of the Fund and one or more of these other Funds or clients served
by the Advisers are considered at or about the same time, transactions in such
securities will be allocated among the several Funds and clients in a manner
deemed equitable by the Advisers.

During the fiscal years ended September 30, 1996, September 30, 1997, and
September 30, 1998, the Fund paid approximately $727,657, $988,459 , and
$1,328,713 in brokerage commissions.

PERFORMANCE MEASURES

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

Each of the investment company members of The Vanguard Group, including Van-
guard Variable Insurance Fund, may from time to time, use one or more of the
following unmanaged indexes for comparative performance purposes.

B-27
<PAGE>

STANDARD & POOR'S 500 COMPOSITE STOCK PRICE INDEX--contains the stocks of 500
of the largest domestic companies.

STANDARD & POOR'S MIDCAP 400 INDEX--is composed of 400 medium sized domestic
stocks.

STANDARD & POOR'S SMALLCAP 600/BARRA VALUE INDEX--contains stocks of the S&P
SmallCap 600 Index which have a lower than average price-to-book ratio.

STANDARD & POOR'S SMALLCAP 600/BARRA GROWTH INDEX--contains stocks of the S&P
SmallCap 600 Index which have a higher than average price-to-book ratio.

RUSSELL 1000 VALUE INDEX--consists of the stocks in the Russell 1000 Index
(comprising the 1,000 largest U.S.-based companies measured by total market
capitalization) with the lowest price-to-book ratios, comprising 50% of the
market capitalization of the Russell 1000 Index.

WILSHIRE 5000 EQUITY INDEX--consists of nearly 7,000 common equity securities,
covering all stocks in the U.S. for which daily pricing is available.

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

RUSSELL 3000 STOCK INDEX--a diversified portfolio of over 3,000 common stocks
accounting for over 90% of the market value of publicly traded stocks in the
U.S.

RUSSELL 2000 STOCK INDEX--composed of the 2,000 smallest stocks contained in
the Russell 3000, representing approximately 7% of the Russell 3000 total mar-
ket capitalization.

RUSSELL 2000 VALUE INDEX--contains stocks from the Russell 2000 Index with a
less-than-average growth orientation.

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

GOLDMAN SACHS 100 CONVERTIBLE BOND INDEX--currently includes 71 bonds and 29
preferreds. The original list of names was generated by screening for convert-
ible issues of 100 million or greater in market capitalization. The index is
priced monthly.

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

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

LEHMAN BROTHERS AGGREGATE BOND INDEX--is a market-weighted index that contains
over 5,500 individually priced investment-grade corporate bonds and foreign
dollar-denominated bonds rated BBB or better, U.S. Treasury/agency issues and
mortgage passthrough securities with market value of over $4.5 trillion.

LEHMAN LONG-TERM TREASURY BOND INDEX--is composed of all U.S. Treasury bonds
with maturities of 10 years or greater.

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

B-28
<PAGE>

LEHMAN BROTHERS CORPORATE BOND INDEX--all publicly offered fixed-rate, noncon-
vertible domestic corporate bonds rated Baa by Moody's, with a maturity longer
than 1 year and with more than $100 million outstanding. This index includes
over 3,000 issues.

LEHMAN BROTHERS LONG-TERM CORPORATE BOND INDEX--is a subset of the Lehman Cor-
porate Bond Index covering all corporate, publicly issued, fixed-rate, noncon-
vertible U.S. debt issues rated at least Baa, with at least $100 million prin-
cipal outstanding and maturity greater than 10 years.

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

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

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

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

COMPOSITE INDEX--65% Standard & Poor's 500 Index and 35% Lehman Long-Term Cor-
porate AA or Better Bond Index.

COMPOSITE INDEX--65% Lehman Long-Term Corporate AA or Better Bond Index and a
35% weighting in a blended equity composite (75% Standard & Poor's/BARRA Value
Index, 12.5% Standard & Poor's Utilities Index and 12.5% Standard & Poor's
Telephone Index).

LEHMAN LONG-TERM CORPORATE AA OR BETTER BOND INDEX--consists of all publicly
issued, fixed rate, nonconvertible investment grade, dollar-denominated, SEC-
registered corporate debt rated AA or AAA.

LIPPER SMALL COMPANY GROWTH FUND AVERAGE--the average performance of small
company growth funds as defined by Lipper Analytical Services, Inc. Lipper de-
fines a small company growth fund as a fund that by prospectus or portfolio
practice, limits its investments to companies on the basis of the size of the
company. From time to time, Vanguard may advertise using the average perfor-
mance and/or the average expense ratio of the small company growth funds.
(This fund category was first established in 1982. For years prior to 1982,
the results of the Lipper Small Company Growth category were estimated using
the returns of the Funds that constituted the Group at its inception.)

LIPPER BALANCED FUND AVERAGE--an industry benchmark of average balanced funds
with similar investment objectives and policies, as measured by Lipper Analyt-
ical Services, Inc.

LIPPER NON-GOVERNMENT MONEY MARKET FUND AVERAGE--an industry benchmark of av-
erage non-government money market funds with similar investment objectives and
policies, as measured by Lipper Analytical Services, Inc.

LIPPER GOVERNMENT MONEY MARKET FUND AVERAGE--an industry benchmark of average
government money market funds with similar investment objectives and policies,
as measured by Lipper Analytical Services, Inc.

LIPPER VARIABLE INVESTMENT PRODUCT PERFORMANCE ANALYSIS--a monthly publication
that lists variable annuity and variable life separate accounts, and provides
information on assets, asset rankings, unit values (month-end), performance
and performance rankings.

LIPPER GENERAL EQUITY FUND AVERAGE--an industry benchmark of average general
equity funds with similar investment objectives and policies, as measured by
Lipper Analytical Services, Inc.

B-29
<PAGE>

LIPPER FIXED INCOME FUND AVERAGE--an industry benchmark of average fixed in-
come funds with similar investment objectives and policies, as measured by
Lipper Analytical Services, Inc.

VARDS AVERAGE CONTRACT EXPENSE--tables that list the average total expenses of
variable annuity contracts sold in the United States. The average is based
upon a hypothetical $25,000 investment in each variable annuity contract cov-
ered by the study.

MORNINGSTAR'S BENCHMARK-VARIABLE ANNUITY--average total expenses of variable
annuity contracts sold in the United States. With respect to the contract
charges, Morningstar lists a dollar amount which Vanguard converts to basis
points for comparison. This conversion is based on a $25,000 investment in a
variable annuity.

FINANCIAL STATEMENTS

The Fund's Financial Statements and financial highlights, for the fiscal year
ended September 30, 1998, appearing in the Vanguard Variable Insurance Fund
Annual Report to Shareholders, and the report thereon of
PricewaterhouseCoopers LLP, independent accountants, also appearing therein,
are incorporated by reference in this Statement of Additional Information. For
a more complete discussion of the performance, please see the Fund's Annual
Report to Shareholders, which may be obtained without charge. Please note, the
commencement date for investment operations for the REIT Index, Mid-Cap Index,
Short-Term Corporate, and Diversified Value Portfolios is February 9, 1999.

B-30
<PAGE>

APPENDIX -- DESCRIPTION OF SECURITIES AND RATINGS

A-1 AND PRIME-1 COMMERCIAL PAPER RATINGS

Commercial paper rated A-1 by Standard & Poor's has the following character-
istics: (1) liquidity ratios are adequate to meet cash requirements; (2) long-
term senior debt is rated "A" or better; (3) the issuer has access to at least
two additional channels of borrowing; (4) basic earnings and cash flow have an
upward trend with allowance made for unusual circumstances; (5) typically, the
issuer's industry is well established and the issuer has a strong position
within the industry; and (6) the reliability and quality of management are un-
questioned. Relative strength or weakness of the above factors determine
whether the issuer's commercial paper is A-1, A-2, or A-3. The rating Prime-1
is the highest commercial paper rating assigned by Moody's. Among the factors
considered by Moody's in assigning ratings are the following: (1) evaluation
of the management of the issuer; (2) economic evaluation of the issuer's in-
dustry or industries and the appraisal of speculative-type risks which may be
inherent in certain areas; (3) evaluation of the issuer's products in relation
to competition and customer acceptance; (4) liquidity; (5) amount and quality
of long-term debt; (6) trend of earnings over a period of ten years; (7) fi-
nancial strength of a parent company and the relationships which exist with
the issuer; and (8) recognition by the management of obligations which may be
present or may arise as a result of public interest questions and preparations
to meet such obligations.

VARIABLE AMOUNT MASTER DEMAND NOTES

Variable amount master demand notes are demand obligations that permit the
investment of fluctuating amounts at varying market rates of interest pursuant
to an arrangement between the issuer and a commercial bank acting as agent for
the payees of such notes, whereby both parties have the right to vary the
amount of the outstanding indebtedness on the notes. Because variable amount
master demand notes are direct lending arrangements between a lender and a
borrower, it is not generally contemplated that such instruments will be trad-
ed, and there is no secondary market for these notes, although they are re-
deemable (and thus immediately repayable by the borrower) at face value, plus
accrued interest, at any time. In connection with a Portfolio's investment in
variable amount master demand notes, Vanguard's investment management staff
will monitor, on an ongoing basis, the earning power, cash flow and other li-
quidity ratios of the issuer, and the borrower's ability to pay principal and
interest on demand.

BOND RATINGS

Excerpts from Moody's Investors Service, Inc. description of its four highest
preferred bond ratings:

Aaa--judged to be of the best quality. Aa--judged to be of high quality by
all standards. Together with the Aaa group they comprise what are generally
known as high-grade bonds. A--possess many favorable investment attributes and
are to be considered as "upper-medium-grade obligations". Baa--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 characteris-
tically unreliable over any great length of time. Such bonds lack outstanding
investment characteristics and in fact have speculative characteristics as
well.

Moody's applies numerical modifiers 1, 2 and 3 in each generic rating classi-
fication from Aa through B. The modifier 1 indicates that the obligation ranks
in the higher end of its generic rating category; the modifier 2 indicates a
mid-range ranking; and 3 indicates a ranking in the lower end of that generic
rating category.

Excerpts from Standard & Poor's Corporation description of its four highest
bond ratings:

Aaa--highest rating assigned. Capacity to pay interest and repay principal is
extremely strong. Aa--a very strong capacity to pay interest and repay princi-
pal and differs from the highest rated issues only in small degree. A--has a
strong capacity to pay interest and repay principal although it is somewhat
more susceptible to the

B-31
<PAGE>

adverse effects of changes in circumstances and economic conditions than debt
in higher rated categories. BBB--regarded as having an adequate capacity to
pay interest and repay principal. Whereas it normally exhibits adequate pro-
tection parameters, adverse economic conditions or changing circumstances are
more likely to lead to a weakened capacity to pay interest and repay principal
for debt in this category than in higher rated categories.

Standard & Poor's may apply indicators "+", no character and "-" to its rat-
ing categories from AA to CCC. The indicators show relative standing within
the major rating categories.

B-32