<PAGE>
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
LOGO A Member of The Vanguard Group
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
PROSPECTUS--APRIL 23, 1996
- --------------------------------------------------------------------------------
NEW ACCOUNT INFORMATION: 1-800-523-8066
- --------------------------------------------------------------------------------
INVESTMENT Vanguard Institutional Index Fund (the "Fund") is an open-end
OBJECTIVE AND diversified investment company designed as an "index" fund.
POLICIES Designed primarily for institutional investors, the Fund's
objective is to match the investment performance of the Stan-
dard & Poor's 500 Composite Stock Price Index (the "S&P 500
Index"), an index emphasizing large-capitalization common
stocks. There is no assurance that the Fund will achieve its
stated objective. Shares of the Fund are neither insured nor
guaranteed by any agency of the U.S. Government, including
the FDIC.
The Fund is a series fund organized as a business trust under
the laws of the Commonwealth of Pennsylvania. The Fund is
currently offering shares of one series.
- --------------------------------------------------------------------------------
Shares of the Fund may be purchased by Federal Funds wire.
OPENING AN The minimum initial investment is $10 million.
ACCOUNT
- --------------------------------------------------------------------------------
This Prospectus is designed to set forth concisely the infor-
ABOUT THIS mation that a prospective investor should know about the Fund
PROSPECTUS before investing. It should be retained for future reference.
A "Statement of Additional Information" containing additional
information about the Fund has been filed with the Securities
and Exchange Commission. This Statement is dated April 23,
1996, and has been incorporated by reference into this Pro-
spectus. A copy may be obtained without charge by writing to
the Fund or by calling 1-800-523-8066.
- --------------------------------------------------------------------------------
TABLE OF
CONTENTS
<TABLE>
<CAPTION>
Page
<S> <C>
Fund Expenses.......... 2
Financial Highlights... 2
Yield and Total Return. 3
FUND INFORMATION
Investment Objective... 4
Investment Policies.... 4
Investment Risks....... 5
Investor Suitability... 5
</TABLE>
<TABLE>
<CAPTION>
Page
<S> <C>
Implementation of
Policies............. 6
Investment
Limitations.......... 8
Management and
Investment Advisory
Services............. 9
Dividends, Capital
Gains and Taxes...... 10
The Share Price of The
Fund................. 11
General Information... 12
</TABLE>
<TABLE>
<CAPTION>
Page
<S> <C>
SHAREHOLDER GUIDE
Opening an Account and Purchasing Shares.............................. 13
Trade Date Policy..................................................... 14
Selling Shares........................................................ 15
Exchanging Shares..................................................... 15
Exchange Privilege Limitation......................................... 16
Important Information About Telephone Transactions.................... 16
Other Account Information............................................. 16
</TABLE>
- --------------------------------------------------------------------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION, NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE COMMISSION PASSED UPON THE ACCURACY OR AD-
EQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OF-
FENSE.
- --------------------------------------------------------------------------------
<PAGE>
The following table illustrates ALL expenses and fees that a
FUND EXPENSES shareholder of the Fund will incur. The expenses and fees set
forth in the table are for the 1995 fiscal year.
SHAREHOLDER TRANSACTION EXPENSES
<TABLE>
---------------------------------------------------------------
<S> <C>
Sales Load Imposed on Purchases............................... None
Sales Load Imposed on Reinvested Dividends.................... None
Redemption Fees............................................... None
Exchange Fees................................................. None
</TABLE>
ANNUAL FUND OPERATING EXPENSES
<TABLE>
---------------------------------------------------------------
<S> <C>
Management & Administrative Expenses........................ 0.06%
Investment Advisory Fees.................................... None
12b-1 Fees.................................................. None
Distribution Costs.......................................... None
Other Expenses.............................................. None
----
TOTAL OPERATING EXPENSES.................................. 0.06%
====
</TABLE>
The purpose of this table is to assist you in understanding
the various costs and expenses that you would bear directly
or indirectly as an investor in the Fund.
The Fund reserves the right to deduct a portfolio transaction
fee, ranging from 0.08% to 0.20%, from purchases of shares of
the Fund, if such purchase or cumulative purchases are of a
size that is reasonably deemed to be disruptive to efficient
portfolio management. The fee will be paid to the Fund to
offset transaction costs of buying securities. The fee is not
paid to Vanguard and is not a sales charge.
The following example illustrates the expenses that an in-
vestor would incur on a $1,000 investment over various peri-
ods, assuming (1) a 5% annual rate of return and (2) redemp-
tion at the end of each period. As noted in the table above,
the Fund charges no redemption fees of any kind.
<TABLE>
<CAPTION>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
------ ------- ------- --------
<S> <C> <C> <C>
$1 $2 $3 $8
</TABLE>
THIS EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTATION OF
PAST OR FUTURE EXPENSES OR PERFORMANCE. ACTUAL EXPENSES MAY
BE HIGHER OR LOWER THAN THOSE SHOWN.
- --------------------------------------------------------------------------------
The following financial highlights for a share outstanding
FINANCIAL throughout each period, have been audited by Price Waterhouse
HIGHLIGHTS LLP, independent accountants, whose report thereon was un-
qualified. This information should be read in conjunction
with the Fund's financial statements and notes thereto,
which, together with the remaining portions of the Fund's
1995 Annual Report to Shareholders, are incorporated by ref-
erence in the Statement of Additional Information and in this
Prospectus, and which appear, along with the report of Price
Waterhouse LLP, in the Fund's 1995 Annual Report to the
Shareholders. For a more complete
2
<PAGE>
discussion of the Fund's performance, please see the Fund's
1995 Annual Report to Shareholders which may be obtained
without charge by writing to the Fund or by calling Partici-
pant Services at 1-800-523-8066.
<TABLE>
<CAPTION>
JULY 31,
YEAR ENDED DECEMBER 31, 1990* TO
------------------------------------------ DEC. 31,
1995 1994 1993 1992 1991 1990
- --------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGIN-
NING OF PERIOD......... $43.22 $44.20 $41.45 $39.91 $31.62 $34.10
------ ------ ------ ------ ------ ------
INVESTMENT OPERATIONS
Net Investment Income.. 1.28 1.23 1.20 1.17 1.16 .52
Net Realized and
Unrealized Gain (Loss)
on Investments........ 14.86 (.66) 2.92 1.79 8.35 (2.48)
------ ------ ------ ------ ------ ------
TOTAL FROM INVESTMENT
OPERATIONS........... 16.14 .57 4.12 2.96 9.51 (1.96)
- --------------------------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net In-
vestment Income....... (1.27) (1.21) (1.19) (1.17) (1.16) (.52)
Distributions from Re-
alized Capital Gains.. (.16) (.34) (.18) (.25) (.06) --
------ ------ ------ ------ ------ ------
TOTAL DISTRIBUTIONS... (1.43) (1.55) (1.37) (1.42) (1.22) (.52)
- --------------------------------------------------------------------------------
NET ASSET VALUE, END OF
PERIOD................. $57.93 $43.22 $44.20 $41.45 $39.91 $31.62
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
TOTAL RETURN............ 37.60% 1.31% 10.02% 7.54% 30.34% (5.74)%
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Pe-
riod (Millions)........ $6,674 $3,265 $3,103 $1,525 $1,069 $ 512
Ratio of Expenses to Av-
erage Net Assets....... .06% .07% .07% .07% .08% .09%**
Ratio of Net Investment
Income to Average Net
Assets................. 2.49% 2.80% 2.72% 2.94% 3.15% 3.98%**
Portfolio Turnover Rate. 4%+ 23%+ 4%+ 9%+ 4% 2%
</TABLE>
*Commencement of operations.
**Annualized.
+The portfolio turnover rates excluding in-kind redemptions were 4%, 19%, 3%,
and 6%, respectively.
- --------------------------------------------------------------------------------
From time to time the Fund may advertise its yield and total
YIELD AND return. Both yield and total return figures are based on his-
TOTAL RETURN torical earnings and are not intended to indicate future per-
formance. The "total return" of a fund refers to the average
annual compounded rates of return over one-, five- and ten-
year periods or for the life of the fund (as stated in the
advertisement) that would equate an initial amount invested
at the beginning of a stated period to the ending redeemable
value of the investment, assuming the reinvestment of all
dividend and capital gains distributions.
In accordance with industry guidelines set forth by the U.S.
Securities and Exchange Commission, the "30-day yield" of the
Fund is calculated by dividing the net investment income per
share earned during a 30-day period by the net asset value
per share on the last day of the period. Net investment in-
come includes interest and dividend income earned on the
Fund's securities; it is net of all expenses and all recur-
ring and nonrecurring charges that have been applied to all
shareholder accounts. The yield calculation assumes that net
investment income earned over 30 days is compounded monthly
for six months and then annualized. Methods used to calculate
advertised yields are standardized for all stock and bond mu-
tual funds. However, these methods differ from the account-
3
<PAGE>
ing methods used by the Fund to maintain its books and rec-
ords, and so the advertised 30-day yield may not fully re-
flect the income paid to an investor's account or the yield
reported in the Fund's reports to shareholders.
- --------------------------------------------------------------------------------
INVESTMENT The Fund is an open-end diversified investment company de-
OBJECTIVE signed as an "index" fund. The Fund seeks to replicate the
aggregate price and yield performance, before Fund expenses,
of the Standard & Poor's 500 Composite Stock Price Index (the
"S&P 500 Index"), an unmanaged index that emphasizes large-
capitalization companies. The correlation between the perfor-
mance of the Fund and the Index is expected to be 0.95 or
higher. A correlation of 1.00 would indicate perfect correla-
tion. There is no assurance that the Fund will achieve its
stated objective.
THE FUND SEEKS
TO MATCH THE
INVESTMENT
PERFORMANCE OF
THE S&P 500
INDEX
The Fund is neither sponsored by or affiliated with Standard
& Poor's Corporation.
The investment objective is fundamental and so cannot be
changed without the approval of a majority of the Fund's
shareholders.
- --------------------------------------------------------------------------------
The Fund is not managed according to traditional methods of
INVESTMENT "active" investment management, which involve the buying and
POLICIES selling of securities based upon economic, financial and mar-
ket analysis, and investment judgment. Instead, the Fund,
utilizing a "passive" or "indexing" investment approach,
attempts to duplicate the investment performance of the S&P
500 Index by investing in all 500 stocks in the S&P 500 Index
in approximately the same proportions as they are represented
in the Index. The Fund is managed without regard to tax rami-
fications.
THE FUND USES
A "PASSIVE"
APPROACH TO
INVEST IN
COMMON STOCKS
The Fund attempts to remain fully invested in common stocks.
Under normal circumstances the Fund will invest at least 95%
of its assets in the common stocks of its respective index
and futures contracts and options. The Fund may invest in
certain short-term fixed-income securities as cash reserves,
although cash or cash equivalents are normally expected to
represent less than 1% of its assets. The Fund may also in-
vest up to 20% of its assets in stock futures contracts and
options in order to invest uncommitted cash balances, to
maintain liquidity to meet shareholder redemptions, or to
minimize trading costs. The Fund will not invest in cash re-
serves, futures contracts or options as part of a temporary
defensive strategy, such as lowering its investment in common
stocks to protect against potential stock market declines.
Nor may the Fund use futures contracts or options to leverage
its net assets in an attempt to speculate on potential stock
market gains. See "Implementation of Policies" for a descrip-
tion of these and other investment practices of the Fund.
The Fund is responsible for voting the shares of all securi-
ties it holds.
These investment policies are not fundamental and so may be
changed by the Board of Trustees without shareholder approv-
al.
- --------------------------------------------------------------------------------
4
<PAGE>
As a mutual fund investing in common stocks, the Fund is sub-
INVESTMENT ject to MARKET RISK--i.e., the possibility that common stock
RISKS prices will decline over short, or even extended, periods.
The U.S. stock market tends to be cyclical, with periods when
stock prices generally rise and periods when prices generally
decline.
THE FUND IS
SUBJECT TO
MARKET RISK
To illustrate the volatility of stock prices, the following
table sets forth the extremes for stock market returns as
well as the average return for the period from 1926 to 1995,
as measured by the Standard & Poor's 500 Composite Stock
Price Index:
U.S. STOCK MARKET RETURNS (1926-1995) OVER VARIOUS TIME
HORIZONS
<TABLE>
<CAPTION>
1 YEAR 5 YEARS 10 YEARS 20 YEARS
------ ------- -------- --------
<S> <C> <C> <C> <C>
Best +53.9% +23.9% +20.1% +16.9%
Worst -43.3 -12.5 - 0.9 - 3.1
Average +12.5 +10.3 +10.7 +10.7
</TABLE>
As shown, common stocks have provided annual total returns
(capital appreciation plus dividend income) averaging +10.7%
for all 10-year periods from 1926 to 1995. Average return may
not be useful for forecasting future returns in any particu-
lar period, as stock returns are quite volatile from year to
year.
- --------------------------------------------------------------------------------
The Fund is designed for investors who seek a low-cost, "pas-
INVESTOR sive" or indexing approach for investing in a broadly diver-
SUITABILITY sified portfolio of common stocks by seeking to replicate the
approximate total return of the S&P 500 Index, an index em-
phasizing large-capitalization stocks. Unlike other equity
mutual funds, which generally seek to "beat" such market av-
erages, with often unpredictable results, the Fund seeks to
"match" the index and thus is expected to provide a highly
predictable return relative to its benchmark index. The Fund
is a broadly diversified equity investment.
THE FUND IS
INTENDED FOR
LONG-TERM
"INDEX"
INVESTORS
The share price of the Fund is expected to be as volatile as
the index it replicates, and investors should be able to tol-
erate sudden, sometimes substantial, fluctuations in the
value of their investment. No assurance can be given that the
Fund will achieve its stated objective or that shareholders
will be protected from the risks inherent in equity invest-
ing.
The Fund is intended to be a long-term investment vehicle and
is not designed to provide investors with a means of specu-
lating on short-term stock market movements. Investors who
engage in excessive account activity generate additional
costs which are borne by all of the Fund's shareholders. In
order to minimize such costs, the Fund has adopted the fol-
lowing policies. The Fund reserves the right to reject any
purchase request (including exchange purchases from other
Vanguard portfolios) that is reasonably deemed to be disrup-
tive to efficient portfolio management, either because of the
timing of the investment or previous excessive trading by the
investor. Additionally, the Fund has adopted exchange privi-
lege limitations as described in the section "Exchange
5
<PAGE>
Privilege Limitations." Finally, the Fund reserves the right
to suspend the offering of its shares.
Investors should not consider the Fund a complete investment
program, but should maintain holdings of securities with dif-
ferent risk characteristics--including common stocks, bonds
and money market instruments.
- --------------------------------------------------------------------------------
Vanguard Institutional Index Fund attempts to duplicate the
IMPLEMENTATION investment results of the S&P 500 Index by holding all 500
OF POLICIES stocks in approximately the same proportions as they are rep-
resented in the S&P 500 Index. This indexing technique is
known as "complete replication."
THE FUND
INVESTS IN ALL
500 S&P STOCKS
The S&P 500 Index is composed of 500 common stocks that are
chosen by Standard & Poor's Corporation on a statistical ba-
sis. The inclusion of a stock in the S&P 500 Index in no way
implies that Standard & Poor's Corporation believes the stock
to be an attractive investment. The 500 securities, most of
which trade on the New York Stock Exchange, represented, as
of December 31, 1995, approximately 70% of the market value
of all regularly traded U.S. common stocks. Each stock in the
S&P 500 Index is weighted by its market value.
Because of the market-value weighting, the 50 largest compa-
nies in the S&P 500 Index currently account for approximately
44% of the Index. Typically, companies included in the S&P
500 Index are the largest and most dominant firms in their
respective industries. As of December 31, 1995, the five
largest companies in the Index were: General Electric (2.6%),
American Telephone and Telegraph (2.2%), Exxon Corporation
(2.2%), Coca Cola (2.0%), and Merck & Co. (1.8%). The largest
industry categories were: telephone companies (8.5%), banks
(6.5%), pharmaceutical companies (6.4%), international oil
companies (6.0%), and medical supplies (4.2%).
The Fund is not sponsored, endorsed, sold or promoted by
Standard & Poor's Corporation ("S&P"). S&P makes no represen-
tation or warranty, implied or express, to the purchasers of
the Fund or any member of the public regarding the advisabil-
ity of investing in index funds or the ability of the S&P 500
Index to track general stock market performance. S&P does not
guarantee the accuracy and/or the completeness of the S&P 500
Index or any data included therein.
S&P makes no warranty, express or implied, as to the results
to be obtained by the Fund, owners of the Fund, any person or
any entity from the use of the S&P 500 or any data included
therein. S&P makes no express or implied warranties and
hereby expressly disclaims all such warranties of merchanta-
bility or fitness for a particular purpose for use with re-
spect to the S&P 500 or any data included therein.
S&P's only relationship to the Fund is the licensing of the
S&P marks and the S&P 500 Index, which is determined, com-
posed and calculated by S&P without regard to the Fund.
6
<PAGE>
THE FUND MAY Although it normally seeks to remain fully invested in common
INVEST IN stocks, the Fund may invest temporarily in certain short-term
SHORT-TERM fixed-income securities. Such securities may be used to in-
FIXED-INCOME vest uncommitted cash balances or to maintain liquidity to
SECURITIES meet shareholder redemptions. These securities include: obli-
gations of the United States Government and its agencies or
instrumentalities; commercial paper, bank certificates of de-
posit, and bankers' acceptances; and repurchase agreements
collateralized by these securities.
DERIVATIVE Derivatives are instruments whose values are linked to or de-
INVESTING rived from an underlying security or index. The most common
and conventional types of derivative securities are futures
and options.
THE FUND MAY
USE FUTURES The Fund may utilize stock futures contracts, options, and
CONTRACTS, warrants to a limited extent. Specifically, the Fund may en-
OPTIONS AND ter into futures contracts and options provided that not more
WARRANTS, than 5% of its assets are required as a margin deposit for
CONVERTIBLE futures contracts or options. Additionally, the Fund's in-
SECURITIES AND vestment in warrants will not exceed more than 5% of its as-
SWAP sets (2% with respect to warrants not listed on the New York
AGREEMENTS or American Stock Exchanges). Futures contracts, options,
warrants, convertible securities and swap agreements may be
used for several reasons: to simulate full investment in the
underlying index while retaining a cash balance for fund man-
agement purposes; to facilitate trading; to reduce transac-
tion costs; or to seek higher investment returns when a
futures contract, option, warrant, convertible security or
swap agreement is priced more attractively than the under-
lying equity security or index. While each of these securi-
ties can be used as leveraged investments, the Fund may not
use them to leverage its net assets.
FUTURES The risk of loss associated with futures contracts in some
CONTRACTS, strategies can be substantial due both to the low margin de-
OPTIONS, posits required and the extremely high degree of leverage in-
WARRANTS, volved in futures pricing. As a result, a relatively small
CONVERTIBLE price movement in a futures contract may result in an immedi-
SECURITIES AND ate and substantial loss or gain. However, the Fund will not
SWAP use futures contracts, options, warrants, convertible securi-
AGREEMENTS ties or swap agreements for speculative purposes or to lever-
POSE CERTAIN age its net assets. Accordingly, the primary risks associated
RISKS with the use of futures contracts, options, warrants, con-
vertible securities or swap agreements by the Fund are: (i)
imperfect correlation between the change in market value of
the stocks held by a fund and the prices of futures contracts
and options; and (ii) possible lack of a liquid secondary
market for a futures contract and the resulting inability to
close a futures position prior to its maturity date. The risk
of imperfect correlation will be minimized by investing only
in those contracts whose behavior is expected to resemble
that of the Fund's underlying securities. The risk that the
Fund will be unable to close out a futures position will be
minimized by entering into such transactions on a national
exchange with an active and liquid secondary market. However,
options, warrants, convertible securities and swap agreements
purchased or sold over-the-counter may be less liquid than
exchange traded securities. Illiquid securities, in general,
may not represent more than 15% of the net assets of the
Fund.
7
<PAGE>
Swap agreements are contracts between parties in which one
party agrees to make payments to the other party based on the
change in market value of a specified index or asset. In re-
turn, the other party agrees to make payments to the first
party based on the return of a different specified index or
asset. Although swap agreements entail the risk that a party
will default on its payment obligations thereunder, the Fund
will minimize this risk by entering into agreements that mark
to market no less frequently than quarterly. Swap agreements
also bear the risk that the Fund will not be able to meet its
obligation to the counterparty. This risk will be mitigated
by investing the Fund in the specific asset for which it is
obligated to pay a return.
THE FUND MAY The Fund may lend its investment securities on a short-term
LEND or long-term basis to qualified institutional investors for
ITS SECURITIES the purpose of realizing additional income. Loans of securi-
ties by the Fund will be collateralized by cash, letters of
credit, or securities issued or guaranteed by the U.S. Gov-
ernment or its agencies. The collateral will equal at least
100% of the current market value of the loaned securities.
PORTFOLIO
TURNOVER RATE Although the Fund generally seeks to invest for the long
IS EXPECTED TO term, it retains the right to sell securities irrespective of
BE LOW how long they have been held. However, because of the "pas-
sive" investment management approach of the Fund, the portfo-
lio turnover rate for the Fund is expected to be under 50%, a
generally lower turnover rate than for most other investment
companies. A portfolio turnover rate of 50% would occur if
one half of the Fund's securities were sold within one year.
Ordinarily, securities will be sold only to reflect certain
administrative changes in the S&P 500 Index (including merg-
ers or changes in the composition of the index) or to accom-
modate cash flows into and out of the Fund while maintaining
its similarity to the S&P 500 Index.
THE FUND MAY The Fund may borrow money, subject to the limits set forth
BORROW MONEY below, for temporary or emergency purposes including the
meeting of redemption requests which might otherwise require
the untimely disposition of securities.
- --------------------------------------------------------------------------------
The Fund has adopted certain limitations on its investment
INVESTMENT practices. Specifically, the Fund will not:
LIMITATIONS
(a) with respect to 75% of its assets, purchase securities of
THE FUND HAS any issuer (except obligations of the U.S. Government and
ADOPTED its instrumentalities) if, as a result, more than 5% of
CERTAIN the value of the Fund's assets would be invested in the
FUNDAMENTAL securities of such issuer;
LIMITATIONS
(b) with respect to 75% of its assets, purchase more than 10%
of the voting securities of any issuer;
(c) invest more than 25% of its assets in any one industry;
and
(d) borrow money, except that the Fund may borrow from banks
(or through reverse repurchase agreements), for temporary
or emergency (not leveraging) purposes, in an amount not
exceeding 15% of the value of the
8
<PAGE>
Fund's net assets (including the amount borrowed and the
value of any outstanding reverse repurchase agreements) at
the time the borrowing is made. Whenever borrowings exceed
5% of the value of the Fund's net assets, the Fund will not
make any additional investments.
These investment limitations are considered at the time in-
vestment securities are purchased. The limitations described
here and in the Statement of Additional Information may be
changed only with the approval of a majority of the
Fund's shareholders.
- --------------------------------------------------------------------------------
The Fund currently employs The Vanguard Group, Inc. ("Van-
MANAGEMENT AND guard") to provide management, administrative and investment
INVESTMENT advisory services. Vanguard provides virtually all of the
ADVISORY corporate management, administrative, and distribution serv-
SERVICES ices to The Vanguard Group of Investment Companies, a family
of more than 30 investment companies with more than 90 dis-
tinct investment portfolios and total assets in excess of
$190 billion. Vanguard also provides investment advisory
services to certain Vanguard Funds.
VANGUARD
ADMINISTERS,
DISTRIBUTES,
AND PROVIDES
ADVISORY
SERVICES TO
THE FUND
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. A
list of Trustees and Officers of the Fund and a statement of
their present positions and principal occupations during the
past five years can be found in the Statement of Additional
Information.
Vanguard employs a supporting staff of management and admin-
istrative personnel to provide the requisite services to the
Fund and also furnishes the Fund with the necessary office
space, furnishings and equipment.
Vanguard also provides distribution and marketing services to
the Fund. The Fund is available on a no-load basis (i.e.,
there are no sales commissions or 12b-1 fees).
The Fund receives all investment advisory services on an at-
cost basis from Vanguard's Core Management Group. The Core
Management Group manages the investment and reinvestment of
the Fund's assets and continuously reviews, supervises, and
administers the Fund's investment program with respect to
those assets. The Core Management Group discharges its re-
sponsibilities subject to the control of the Officers and Di-
rectors of the Fund.
The Core Management Group also provides investment advisory
services to several Vanguard Funds, including Vanguard Index
Trust, Vanguard Balanced Index Fund, Vanguard International
Equity Index Fund, the Equity Index Portfolio of the Vanguard
Variable Insurance Fund, the Growth and Income and Capital
Appreciation Portfolios and the equity portion of the Bal-
anced Portfolio of Vanguard Tax-Managed Fund, the Aggressive
Growth Portfolio of Vanguard Horizon Fund, a portion of
Vanguard/Morgan Growth Fund and a portion of the assets of
Vanguard/Windsor II, as well as to several indexed separate
accounts. Total assets under management by the Core Manage-
ment Group were approximately
9
<PAGE>
$33 billion as of December 31, 1995. The Fund is not actively
managed, but is instead administered by the Core Management
Group, using computerized, quantitative techniques.
In placing portfolio transactions, the Core Management Group
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 when making these determi-
nations. In those instances where more than one brokerage
firm can offer the services needed to obtain the best avail-
able price and the most favorable execution, consideration
may be given to those brokers that supply statistical infor-
mation and provide other services in addition to execution
services to the Fund.
Under the terms of the Service and Advisory agreement with
Vanguard, Vanguard pays all of the Fund's expenses, except
for taxes and brokerage commissions. In turn, the Fund will
pay Vanguard a fee at the end of each fiscal quarter, calcu-
lated by applying a quarterly rate, based on the following
annual percentage rates, to the average daily net assets for
the quarter:
<TABLE>
<CAPTION>
NET ASSETS RATE
-------------- ----
<S> <C>
First $500 million .09%
Next $500 million .07%
Over $1 billion .06%
</TABLE>
During the 1995 fiscal year the Fund paid Vanguard a manage-
ment, investment advisory, distribution and marketing fee
which represented an effective annual rate of .06 of 1% of
average (daily) net assets.
- --------------------------------------------------------------------------------
The Fund distributes substantially all of its ordinary income
DIVIDENDS, in the form of quarterly dividends. Capital gains distribu-
CAPITAL GAINS tions, if any, are made annually. The Fund's dividend and
AND TAXES capital gains distributions may be reinvested in additional
shares or received in cash. See "Distribution Options."
THE FUND PAYS
DIVIDENDS EACH
QUARTER
In order to satisfy certain requirements of the Tax Reform
Act of 1986, the Fund may declare year-end dividend and capi-
tal gains distributions during December. Such distributions,
if received by shareholders by January 31, are deemed to have
been paid by the Fund and received by shareholders on Decem-
ber 31 of the prior year.
The Fund intends to continue to qualify for taxation as a
"regulated investment company" under the Internal Revenue
Code so that it will not be subject to federal income tax to
the extent its income is distributed to shareholders. Divi-
dends paid by the Fund from net investment income and net
short-term capital gains, whether received in cash or rein-
vested in additional shares, will be taxable to shareholders
as ordinary income. For corporate investors, dividends from
net investment income will generally qualify in part for the
intercorporate dividends-received deduction. However, the
portion of the dividends so qualified
10
<PAGE>
depends on the aggregate taxable qualifying dividend income
received by a Fund from domestic (U.S.) sources.
Distributions paid by the Fund from long-term capital gains,
whether received in cash or reinvested in additional shares,
are taxable as long-term capital gains, regardless of the
length of time the shares have been owned. Capital gains dis-
tributions are made when the Fund realizes net capital gains
on sales of portfolio securities during the year. The Fund
does not seek to realize any particular amount of capital
gains during a year; rather, realized gains are a by-product
of Fund management activities. Consequently, capital gains
distributions may be expected to vary considerably from year
to year; there will be no capital gains distributions in
years when the Fund realizes net capital losses.
Note that if capital gains distributions are received in cash
instead of reinvested in additional shares, a shareholder's
capital in the Fund will, in effect, be reduced. Also, keep
in mind that if shares of the Fund are purchased shortly be-
fore the record date for a dividend or capital gains distri-
bution, a portion of the investment will be returned as a
taxable distribution, regardless of whether distributions are
being reinvested or received in cash.
The Fund will notify shareholders annually as to the tax sta-
tus of dividend and capital gains distributions paid by the
Fund.
A CAPITAL GAIN A sale of shares of the Fund is a taxable event and may re-
OR LOSS MAY BE sult in a capital gain or loss. A capital gain or loss may be
REALIZED UPON realized from an ordinary redemption of shares or an exchange
EXCHANGE OR of shares between two mutual funds.
REDEMPTION
Dividend distributions, capital gains distributions, and cap-
ital gains or losses from redemptions or exchanges may be
subject to state and local taxes.
The Fund is required to withhold 31% of taxable dividends,
capital gains distributions, and redemptions paid to share-
holders who have not complied with IRS taxpayer identifica-
tion regulations. This withholding requirement may be avoided
by certifying on the Account Registration Form a proper So-
cial Security or Employer Identification number and by certi-
fying that backup withholding does not apply.
The tax discussion set forth above is included for general
information only. Prospective investors should consult their
own tax advisers concerning the tax consequences of an in-
vestment in the Fund.
- --------------------------------------------------------------------------------
THE SHARE The share price or "net asset value" per share of the Fund is
PRICE OF THE determined by dividing the total market value of the Fund's
FUND investments and other assets, less any liabilities, by the
number of outstanding shares of the Fund. Net asset value per
share is determined as of the regular close of the New York
Stock Exchange (generally 4:00 p.m. Eastern time), each day
the Exchange is open for trading.
Fund securities that are listed on a securities exchange are
valued at the last quoted sales price on the day the valua-
tion is made. Price information on listed
11
<PAGE>
securities is taken from the exchange where the security is
primarily traded. Securities that are listed on an exchange
and that are not traded on the valuation date are valued at
the mean of the bid and asked prices. Unlisted securities for
which market quotations are readily available are valued at
the latest quoted bid price. Securities may be valued on the
basis of prices provided by a pricing service when such
prices are believed to reflect fair market value of such
securities. Other assets and securities for which no current
quotations are readily available are valued at fair value as
determined in good faith by the Trustees.
- --------------------------------------------------------------------------------
The Fund is a Pennsylvania business trust. The Declaration of
GENERAL Trust permits the Trustees to issue an unlimited number of
INFORMATION shares of beneficial interest with no par value. The Board of
Trustees has the power to designate one or more classes ("se-
ries") of shares of beneficial interest and to classify or
reclassify any unissued shares with respect to such series.
Currently the Fund is offering shares of one series.
The shares are fully paid and non-assessable; have no prefer-
ence as to conversion, exchange, dividends, retirement or
other features; and have no pre-emptive rights. Such shares
have non-cumulative voting rights, meaning that the holders
of more than 50% of the shares voting for the election of
Trustees can elect 100% of the Trustees if they so choose.
Annual meetings of shareholders will not be held except as
required by the Investment Company Act of 1940 and other ap-
plicable law. An annual meeting will be held to vote on the
removal of a Trustee or Trustees of the Fund if requested in
writing by the holders of not less than 10% of the outstand-
ing shares of the Fund.
All securities and cash are held by CoreStates Bank, Phila-
delphia, PA. The Vanguard Group, Inc., Valley Forge, PA,
serves as the Fund's Transfer and Dividend Disbursing Agent.
Price Waterhouse LLP, serves as independent accountants for
the Fund and will audit its financial statements annually.
The Fund is not involved in any litigation.
- --------------------------------------------------------------------------------
12
<PAGE>
SHAREHOLDER GUIDE
OPENING AN To open a new account, complete an Account Registration Form
ACCOUNT AND and mail it to:
PURCHASING
SHARES
Vanguard Financial Center
Vanguard Institutional Index Fund
Attn: Institutional Investor Services
P.O. Box 1472
Valley Forge, PA 19482
For express or registered mail, send your registration form
to: Vanguard Financial Center, Vanguard Institutional Index
Fund, Attn: Institutional Investor Services, 100 Vanguard
Boulevard, Malvern, PA 19355.
Once the account has been opened, Vanguard will assign a
Service Representative for future account transactions.
Because of the risks associated with common stock invest-
ments, the Fund is intended to be a long-term investment ve-
hicle and is not designed to provide investors with a means
of speculating on short-term stock market movements. Conse-
quently, the Fund reserves the right to reject any specific
purchase (or exchange purchase) request. The Fund also re-
serves the right to suspend the offering of shares for a pe-
riod of time.
Shares of the Fund generally may be purchased by Federal
Funds wire. The minimum initial investment for the Fund is
$10 million. Please contact your Institutional Investor Serv-
ices Representative or call Participant Services (1-800-523-
8066) to notify the Fund of the intended investment and to
receive an account number. Wiring instructions are provided
below.
Subsequent investments of $5 million or more will be credited
to an account on the date of purchase if Vanguard is notified
one business day in advance of the intended purchase and a
Federal Funds wire is received by 4:00 p.m. (Eastern time) on
the date of purchase. See "Trade Date Policy."
IMPORTANT NOTE
ON EXPENSES The Fund reserves the right to deduct a portfolio transaction
fee, ranging from 0.08% to 0.20%, from purchases of shares of
the Fund, if such purchase or cumulative purchases are of a
size that is reasonably deemed to be disruptive to efficient
portfolio management. The fee will be paid to the Fund to
offset transaction costs of buying securities. The fee is not
paid to Vanguard and is not a sales charge.
ADDITIONAL Additional investments may be made at any time by wiring mon-
INVESTMENTS ies to Vanguard. As noted above, investments of $5 million or
Please contact more require prior-day notification to qualify for credit on
your Service the date of purchase. To ensure prompt investment, please no-
Representative tify your Institutional Investor Services Representative in
advance of the wire.
--------------------------------------------------------------
13
<PAGE>
Monies should be wired to:
PURCHASING BY CORESTATES BANK, N.A.
WIRE ABA 031000011
CORESTATES NO 0101-9897
BEFORE WIRING ATTN VANGUARD
Please contact VANGUARD INSTITUTIONAL INDEX FUND
your Service ACCOUNT NUMBER
Representative ACCOUNT REGISTRATION
To ensure proper receipt, please be sure to include in the
wiring instructions the complete Fund name, the account num-
ber Vanguard has assigned you and the eight-digit CoreStates
number. Note: Federal Funds wire purchase orders will be ac-
cepted only when the Portfolio and Custodian Bank are open
for business.
--------------------------------------------------------------
Purchases may also be made by exchange from an existing Van-
PURCHASING BY guard Fund account. However, the Fund reserves the right to
EXCHANGE (from refuse any exchange purchase request. Please call your Serv-
a Vanguard ice Representative or call Participant Services (1-800-523-
account) 8066.)
--------------------------------------------------------------
Dividend and capital gains distributions paid by the Fund
DISTRIBUTION will be automatically reinvested in additional Fund shares. A
OPTIONS cash dividend option is also available from the Fund. Please
contact your Service Representative for further information.
CERTIFICATES
Share certificates will not be issued for the Fund.
ELECTRONIC If you would prefer to receive a prospectus for the Fund or
PROSPECTUS any of the Vanguard Funds in an electronic format, please
DELIVERY call 1-800-231-7870 for additional information. If you elect
to do so, you may also receive a paper copy of the prospec-
tus, by calling 1-800-523-8066.
- --------------------------------------------------------------------------------
Investments will be credited on the date of purchase under
TRADE DATE the following conditions:
POLICY
. FOR INVESTMENTS OF $5 MILLION OR MORE: The Fund must be no-
tified of the intended purchase by the close of the New
York Stock Exchange, (generally 4:00 p.m. Eastern time) on
the prior business day and the Federal Funds wire must be
received by Vanguard by the close of the Exchange on the
date of purchase.
. FOR INVESTMENTS OF LESS THAN $5 MILLION: The Fund must be
notified of the intended purchase by 10:45 a.m. (Eastern
time) on the day of purchase and the Federal Funds wire
must be received by the close of the Exchange.
Generally, if these requirements are not met, an investment
will be credited to the account on the business day following
receipt of a Federal Funds wire.
The trade date, the day on which an account is credited, is
generally the day on which the Fund receives an investment in
the form of Federal Funds. For purchases by Federal Funds
wire or by exchange, the Fund is credited immediately with
Federal Funds. If a purchase by Federal Funds wire or ex-
change is received
14
<PAGE>
by the close of the New York Stock Exchange, (generally 4:00
p.m. Eastern time), the trade date is the day of receipt as-
suming proper notification has been given, as described
above. If a purchase is received after the close of the Ex-
change, the trade date is the business day following the re-
ceipt of the wire or exchange.
- --------------------------------------------------------------------------------
SELLING SHARES Any portion of an account may be withdrawn by contacting your
Service Representative. The redemption proceeds will be wired
to the bank account indicated on the Account Registration
Form five business days following receipt of a request.
WIRE PROCEEDS
Wire redemptions of less than $5,000 are subject to a $5
charge deducted from the principal in your account. There is
no charge for wire redemptions of $5,000 or more, or for sub-
sequent dividend wires.
For our mutual protection, wiring instructions must be on
file at Vanguard prior to executing any redemption request. A
request to change the bank account associated with the wire
redemption feature or a request to wire funds to a bank other
than that on file must be received in writing. A signature
guarantee of an authorized officer is required if the bank
registration is not identical to the Fund account registra-
tion.
--------------------------------------------------------------
The Fund may suspend the redemption rights or postpone pay-
OTHER ment at times when the New York Stock Exchange is closed or
REDEMPTION under any emergency circumstances as determined by the United
INFORMATION States Securities and Exchange Commission.
If the Board of Trustees determines that it would be detri-
mental to the best interests of the Fund's remaining share-
holders to make payment in cash, the Fund may pay redemption
proceeds in whole or in part by a distribution in kind of
readily marketable securities.
The Fund reserves the right to redeem shares of any account
with a balance of less than $10 million or to transfer the
account balance to Vanguard Index Trust-500 Portfolio, which
has the same investment objective as the Fund. This action
will be taken when the balance of the account falls below $10
million due to account redemptions. Reductions in account
balances due to market depreciation will not be considered
until the account balance declines to less than $5 million.
Investors will be provided with 60 days' notice before any
such action is taken.
- --------------------------------------------------------------------------------
EXCHANGING Shares of the Fund may be exchanged for those of other avail-
SHARES able Vanguard Funds, but only upon prior approval by Van-
guard. Exchanges without prior Vanguard authorization are not
permitted for the Fund. Contact your Service Representative
for further information.
Exchange requests may be made in writing or by telephone. The
Fund reserves the right to revise or terminate the exchange
privilege and its provisions, limit the amount of or reject
any exchange, as deemed necessary, at any time, without prior
notice.
- --------------------------------------------------------------------------------
15
<PAGE>
The Fund's Exchange Privilege is not intended to afford in-
EXCHANGE vestors a way to speculate on short-term movements in the
PRIVILEGE market. Accordingly, in order to prevent excessive use of the
LIMITATION exchange privilege that may potentially disrupt the manage-
ment of the Fund and increase transaction costs, the Fund has
established a policy of limiting excessive exchange activity.
Exchange activity will not be deemed excessive if limited to
one substantive exchange redemption per calendar year, taken
from assets that have been invested in the Fund for periods
of one year or longer. The Fund is designed for long-term in-
vestors.
- --------------------------------------------------------------------------------
The ability to initiate exchanges by telephone is automati-
IMPORTANT cally established on your account unless you request in writ-
INFORMATION ing that telephone transactions on your account not be per-
ABOUT mitted. The ability to initiate wire redemptions by telephone
TELEPHONE will be established on your account only if you specifically
TRANSACTIONS elect this option in writing.
To protect your account from losses resulting from unautho-
rized or fraudulent telephone instructions, Vanguard gener-
ally adheres to the following security procedures:
1. SECURITY CHECK. To request a transaction by telephone, the
caller must identify (i) the fund name; and (ii) the 10-
digit account number.
2. PAYMENT POLICY. The proceeds of any telephone redemption
by wire will be made only in accordance with the
shareowner's prior written instructions.
Neither the Fund nor Vanguard will be responsible for the au-
thenticity of transaction instructions received by telephone,
provided that reasonable security procedures have been fol-
lowed. Vanguard believes that the security procedures de-
scribed above are reasonable, and that if such procedures are
followed, you will bear the risk of any losses resulting from
unauthorized or fraudulent telephone transactions on your ac-
count. If Vanguard fails to follow reasonable security proce-
dures, it may be liable for any losses resulting from unau-
thorized or fraudulent telephone transactions on your ac-
count.
- --------------------------------------------------------------------------------
A current corporate resolution must be maintained on file at
OTHER ACCOUNT Vanguard at all times. Any revisions to a corporate resolu-
INFORMATION tion must be submitted to your Service Representative at Van-
guard.
To change the registration of an account, a request must be
submitted in writing to Vanguard and include the following
information: the account number and Fund name, authorized
signatures, any applicable signature guarantees, and other
supporting legal documents as necessary.
All requests should be mailed to the following address:
Vanguard Financial Center
Attn: Institutional Investor Services
P.O. Box 1472
Valley Forge, PA 19482-1472
16
<PAGE>
LOGO
- ---------------
THE VANGUARD GROUP
OF INVESTMENT
COMPANIES
Institutional Investor Services
Vanguard Financial Center
P.O. Box 2900
Valley Forge, PA 19482
PARTICIPANT SERVICES
1-800-523-8066
TRANSFER AGENT:
The Vanguard Group, Inc.
Vanguard Financial Center
Valley Forge, PA 19482
LOGO
la18
PROSPECTUS
APRIL 23, 1996
LOGO
I094
<PAGE>
PART B
VANGUARD INSTITUTIONAL INDEX FUND
STATEMENT OF ADDITIONAL INFORMATION
APRIL 23, 1996
This Statement is not a prospectus but should be read in conjunction with
the Fund's Prospectus dated April 23, 1996. To obtain the Prospectus, please
call:
Institutional Investor Services Department
1-800-523-8066
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Investment Objective and Policies.......................................... B-1
Investment Limitations..................................................... B-5
Purchase of Shares......................................................... B-6
Redemption of Shares....................................................... B-7
Management and Advisory Services........................................... B-8
Portfolio Transactions..................................................... B-10
Description of Shares and Voting Rights.................................... B-10
Financial Statements....................................................... B-11
Yield and Total Return..................................................... B-12
Performance Measures....................................................... B-12
</TABLE>
INVESTMENT OBJECTIVE AND POLICIES
REPURCHASE AGREEMENTS. The Fund may invest in repurchase agreements with
commercial banks, brokers or dealers to generate income from its excess cash
balances. A repurchase agreement is an agreement under which the Fund 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 commercial bank, broker or 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 securities. The resale
price reflects an agreed upon interest rate effective for the period the
instrument is held by the Fund and is unrelated to the interest rate on the
underlying instrument. In these transactions, the securities acquired by the
Fund (including accrued interest earned thereon) must have a total value in
excess of the value of the repurchase agreement and are held by the Fund's
custodial bank until repurchased. In addition, the Board of Trustees will
monitor the Fund'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 the Fund. No more
than an aggregate of 15% of the Fund's assets, at the time of investment, will
be invested in repurchase agreements having maturities longer than seven days
and securities subject to legal or contractual restrictions on resale for
which there are no readily available market quotations. From time to time, the
Fund's Board of Directors may determine that certain restricted securities
known as Rule 144A securities are liquid and not subject to the 15% limitation
described above.
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, the
Fund may incur a loss upon disposition of the security. If the other party to
the agreement becomes insolvent and subject to liquidation or reorganization
under the Bankruptcy Code or other laws, a court may determine that the under-
lying security is collateral for a
B-1
<PAGE>
loan by the Fund not within the control of the Fund and therefore the Fund 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 management acknowledges these risks, it is expected that they can be
controlled through careful monitoring procedures.
LENDING OF SECURITIES. The Fund may lend its securities on a short-term or
long-term basis to qualified institutional investors who need to borrow
securities in order to complete certain transactions, such as covering short
sales, avoiding failures to deliver securities, or completing arbitrage
operations. By lending its portfolio securities, the Fund 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 Fund. The Fund may
lend its portfolio securities to qualified brokers, dealers, banks or other
financial institutions, so long as the terms, the structure and the aggregate
amount of such loans are not inconsistent with the Investment Company Act of
1940, or the Rules and Regulations or interpretations of the Securities and
Exchange Commission (the "Commission") thereunder, which currently require
that (a) the borrower pledge and maintain with the Fund 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 Fund at any time and (d) the Fund receive reasonable
interest on the loan (which may include the Fund's investing any cash
collateral in interest-bearing short-term investments), any distribution on
the loaned securities and any increase in their market value. Loan
arrangements made by the Fund will comply with all other applicable regulatory
requirements, including the rules of the New York Stock Exchange, which rules
presently require the borrower, 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 review by the 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 the loaned securities, but if a material event will occur affecting an
investment on loan, the loan must be called and the securities voted.
FUTURES CONTRACTS. The Fund may enter into futures contracts, options, and
options on futures contracts for the purpose of remaining fully invested and
reducing transactions costs. Futures contracts provide for the future sale by
one party and purchase by another party of a specified amount of a specific
security at a specified future time and at a specified price. Futures
contracts that are standardized as to maturity date and underlying financial
instrument are traded on national futures exchanges. Futures exchanges and
trading are regulated under the Commodity Exchange Act by the Commodity
Futures Trading Commission ("CFTC"), a U.S. Government Agency. Assets
committed to futures contracts will be segregated at the Fund's custodian bank
to the extent required by law.
Although futures contracts by their terms call for actual delivery or ac-
ceptance of the underlying securities, in most cases the contracts are closed
out before the settlement date without the making or taking of delivery. Clos-
ing out an open futures position is done by taking an opposite position ("buy-
ing" a contract that has previously been "sold," or "selling" a contract pre-
viously purchased) in an identical contract to terminate the position. Broker-
age 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
B-2
<PAGE>
security) if it is not terminated prior to the specified delivery date. Mini-
mal initial margin requirements are established by the futures exchange and
may be changed. Brokers may establish deposit requirements that are higher
than the exchange minimums. Futures contracts are customarily purchased and
sold on deposits 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 Fund expects
to earn interest income on its margin deposits.
The Fund will only use futures contracts and options to simulate full in-
vestment in the underlying index while retaining a cash balance for Fund man-
agement purposes.
Regulations of the CFTC applicable to the Fund require that all of its
futures transactions constitute bona fide hedging transactions. The Fund will
only sell futures contracts to protect securities it owns against price de-
clines or purchase contracts to protect against an increase in the price of
securities it intends to purchase. As evidence of this hedging interest, the
Fund expects that approximately 75% of its futures contract purchases will be
"completed"; that is, equivalent amounts of related securities will have been
purchased or are being purchased by the Fund upon sale of open futures con-
tracts.
Although techniques other than the sale and purchase of futures contracts
could be used to control the Fund's exposure to market fluctuations, the use
of futures contracts may be a more effective means of hedging this exposure.
While the Fund 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. The Fund will not enter into
futures contract transactions to the extent that, immediately thereafter, the
sum of its initial margin deposits on open contracts exceeds 5% of the market
value of its total assets.
RISK FACTORS IN FUTURES TRANSACTIONS. Positions in futures contracts may be
closed out only on an Exchange that provides a secondary market for such
futures. However, there can be no assurance that a liquid secondary market
will exist for any particular futures contract at any specific time. Thus, it
may not be possible to close a futures position. In the event of adverse price
movements, the Fund would continue to be required to make daily cash payments
to maintain its required margin. In such situations, if the Fund has
insufficient cash, it may have to sell portfolio securities to meet daily
margin requirements at a time when it may be disadvantageous to do so. In
addition, the Fund may be required to make delivery of the instruments
underlying futures contracts it holds. The inability to close options and
futures positions could also have an adverse impact on the ability to
effectively hedge it.
The Fund will minimize the risk that it will be unable to close out a
futures contract by only entering into futures that are traded on national
futures exchanges and for which there appears to be a liquid secondary market.
The risk of loss in trading futures contracts in some strategies can be 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
B-3
<PAGE>
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 strategy of the
Fund is engaged in only for hedging purposes, the Fund's officers do not be-
lieve that the Fund is subject to the risks of loss frequently associated with
futures transactions. The Fund would presumably have sustained comparable
losses if, instead of the futures contract, it had invested in the underlying
financial instrument and sold it after the decline.
Utilization of futures transactions by the Fund does involve the risk of im-
perfect or no correlation where the securities underlying futures contracts
have different maturities than the portfolio securities being hedged. It is
also possible that the Fund could both lose money on futures contracts and
also experience a decline in value of its portfolio securities. There is also
the risk of loss by the Fund of margin deposits in the event of bankruptcy of
a broker with whom the Fund has an open position in a futures contract or re-
lated 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 future positions and subjecting some
futures traders to substantial losses.
FEDERAL TAX TREATMENT OF FUTURES CONTRACTS. Each Fund is required for
federal income tax purposes to recognize as income 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 the Fund may affect the holding period of such
securities and, consequently, the nature of the gain or loss on such
securities upon disposition. A Fund may be required to defer the recognition
of losses on futures contracts to the extent of any unrecognized gains on
related positions held by the Fund.
In order for the Fund to continue to qualify for Federal income tax 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 of foreign currencies or other income derived with respect to the
Fund's business of investing in securities. In addition, gains realized on the
sale or other disposition of securities held for less than three months must
be limited to less than 30% of the Fund's annual gross income. It is antici-
pated that any net gain realized from the closing out of futures contracts
will be considered gain from the sale of securities and therefore be qualify-
ing income for purposes of the 90% requirement. In order to avoid realizing
excessive gains on securities held less than three months, the Fund may be re-
quired to defer the closing out of futures contracts beyond the time when it
would otherwise be advantageous to do so. It is anticipated that unrealized
gains on futures contracts, which have been open for less than three months as
of the end of the Fund's fiscal year and which are recognized for tax purpos-
es, will not be considered gains on sales of securities held less than three
months for the purpose of the 30% test.
The Fund will distribute to shareholders annually any net capital gains
which have been recognized for federal income tax purposes (including
unrealized gains at the end of the Fund's fiscal year) on futures transac-
tions. Such distributions will be combined with distributions of capital gains
realized on the Fund's other investments and shareholders will be advised on
the nature of the distributions.
B-4
<PAGE>
INVESTMENT LIMITATIONS
Except as indicated otherwise below, the following restrictions and funda-
mental policies cannot be changed without approval of the holders of a major-
ity of the outstanding shares of the Fund (as defined in the Investment Com-
pany Act of 1940 (the "1940 Act")). The Fund may not under any circumstances:
1) change its investment objective, which is to provide investment re-
sults that correspond to the price and yield performance of publicly-traded
common stocks;
2) change its investment policy, which is to attempt to duplicate the
performance of Standard & Poor's 500 Composite Stock Price Index by owning
as many of the 500 stocks contained in the index as is feasible;
3) invest in commodities or purchase real estate, although it may pur-
chase securities of companies which deal in real estate or interests
therein except that the Fund may invest in stock index futures contracts,
stock options and options on stock index futures contracts to that extent
that not more than 5% of the Fund's assets are required as margin deposit
for such futures contracts;
4) lend money to any person except (i) by purchasing a portion of an is-
sue of short-term debt securities or similar obligations (including repur-
chase agreements) which are publicly distributed or customarily purchased
by institutional investors, and (ii) as provided under "Lending of
Securities";
5) purchase securities on margin or sell securities short except as de-
scribed in limitation number "3";
6) with respect to 75% of the Fund's assets, purchase more than 10% of
the outstanding voting securities of any company;
7) with respect to 75% of the Fund's assets, purchase securities of any
issuer (except obligations of the United States Government and its instru-
mentalities), if as a result, more than 5% of the value of the Portfolio's
total assets would be invested in the securities of such issuer;
8) purchase or retain securities of an issuer if those Officers and
Trustees of the Fund owning more than 1/2 of 1% of such securities together
own more than 5% of such securities*;
9) borrow money, except that the Fund may borrow from banks (or through
reverse repurchase agreements), for temporary or emergency (not leveraging)
purposes, including the meeting of redemption requests which might other-
wise require the untimely disposition of securities, in an amount not ex-
ceeding 15% of the value of the Fund's net assets (including the amount
borrowed and the value of any outstanding reverse repurchase agreements) at
the time the borrowing is made. Whenever borrowings exceed 5% of the value
of the Fund's net assets, the Fund will not make any additional invest-
ments;
10) pledge, mortgage or hypothecate the Fund's assets to an extent
greater than 5% of its total assets;
11) invest in securities of other investment companies, except as they
may be acquired as a part of a merger, consolidation or acquisition of as-
sets approved by the Fund's shareholders or otherwise to the extent permit-
ted by Section 12 of the 1940 Act. The Fund will invest only in investment
companies which have investment objectives and policies consistent with
those of the Fund;
12) invest for the purpose of controlling management of any company;
13) engage in the business of underwriting securities issued by other
persons, except to the extent that the Fund may technically be deemed to be
an underwriter under the Securities Act of 1933, as amended, in disposing
of portfolio securities;
B-5
<PAGE>
14) invest more than 5% of total assets in securities of companies which
have (with predecessors) a record of less than three years' continuous op-
eration*;
15) invest more than 25% of the value of its total assets in any one in-
dustry;
16) invest in put, call, straddle or spread options or in interests in
oil, gas or other mineral exploration or development programs, except as
set forth in limitation number "3" above; and
17) purchase or otherwise acquire any security if, as a result, more than
15% of its net assets would be invested in securities that are illiquid.
*These limitations are not fundamental and therefore may be changed by the
Fund's Trustees without a shareholder vote.
These investment limitations are considered at the time investment securi-
ties are purchased. Notwithstanding these limitations, the Fund may own all or
any portion of the securities of, or make loans to, or contribute to the costs
or other financial requirements of any company which will be wholly owned by
the Fund and one or more other investment companies and is primarily engaged
in the business of providing, at-cost, management, administrative, distribu-
tion or related services to the Fund and other investment companies.
PURCHASE OF SHARES
The Fund reserves the right in its sole discretion (i) to suspend the offer-
ings of its shares, (ii) to reject purchase orders when in the judgment of
management such rejection is in the best interest of the Fund, and (iii) to
reduce or waive the minimum investment for or any other restrictions on ini-
tial and subsequent investments for certain fiduciary accounts or under cir-
cumstances where certain economies can be achieved in sales of the Fund's
shares.
EXCHANGE OF SECURITIES FOR SHARES OF THE FUND. In certain circumstances,
shares of the Fund may be purchased in exchange for common stocks. Such common
stocks must be included in the appropriate Index and have a market value in
excess of $10,000. Securities accepted by the Fund will be valued as set forth
under "The Fund's Share Price" in the Fund's prospectus as of the time of the
next determination of net asset value after such acceptance. Shares of the
Fund are issued at net asset value determined as of the same time. All
dividends, subscription, or other rights which are reflected in the market
price of accepted securities at the time of valuation become the property of
the Fund and must be delivered to the Fund by the investor upon receipt from
the issuer. A gain or loss for Federal income tax purposes would be realized
by the investor upon the exchange depending upon the cost of the securities
tendered.
The Fund will not accept securities in exchange for its shares unless: (1)
such securities are, at the time of the exchange, included in the Fund; (2)
such an exchange will not cause the Fund's weightings to become imbalanced
with respect to the weightings of the stocks included in the Index; (3) the
investor represents and agrees that all securities offered to the Fund are not
subject to any restrictions upon their sale by the Fund under the Securities
Act of 1933, or otherwise; (4) such securities are traded in an unrelated
transaction with a quoted sales price on the same day the exchange valuation
is made; (5) the quoted sales price used as a basis of valuation is represen-
tative (i.e., one that does not involve a trade of substantial size which ar-
tificially influences the price of the security); and (6) the value of any
such security being exchanged will not exceed 5% of the Fund's net assets im-
mediately prior to the transaction.
Investors interested in such purchases should contact the Fund.
B-6
<PAGE>
REDEMPTION OF SHARES
The Fund may suspend redemption privileges or postpone the date of payment
(i) during any period that the New York Stock Exchange is closed, or trading
on the Exchange is restricted as determined by the Securities and Exchange
Commission (the "Commission"), (ii) during any period when an emergency exists
as defined by the rules of the Commission as a result of which it is not rea-
sonably 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.
No charge is made by the Fund for redemptions. Any redemption may be more or
less than the shareholder's cost depending on the market value of the securi-
ties held.
The Fund has made an election with the Commission to pay in cash all redemp-
tions requested by any shareholder of record limited in amount during any 90-
day period to the lesser of $250,000 or 1% of the net assets of the Fund at
the beginning of such period. Such commitment is irrevocable without the prior
approval of the Commission. Redemptions in excess of the above limits may be
paid in whole or in part investment securities or in cash as the Fund may deem
appropriate, however, payment will be made wholly in cash unless the Trustees
believe that economic or market conditions exist which would make such a prac-
tice detrimental to the best interests of the Fund. If redemptions are paid in
investment securities, such securities will be valued as set forth in the Pro-
spectus under "The Fund's Share Price" and a redeeming shareholder would nor-
mally incur brokerage expenses if he converted these securities to cash.
B-7
<PAGE>
MANAGEMENT AND ADVISORY SERVICES
TRUSTEES AND OFFICERS
The Officers of the Fund manage its day-to-day operations and are responsi-
ble to the Fund's 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 dur-
ing the past five years. The mailing address of the Fund's Trustees and Offi-
cers is Post Office Box 876, Valley Forge, PA 19482.
<TABLE>
<CAPTION>
<S> <C>
JOHN C. BOGLE, Chairman and Trustee JOHN C. SAWHILL, Trustee
Chairman and Director of The President and Chief Executive
Vanguard Group, Inc., and of each of Officer, the Nature Conservancy;
the investment companies in The formerly, Director and Senior
Vanguard Group; Director of The Mead Partner, McKinsey & Co.; President,
Corporation and General Accident New York University; Director of
Insurance. Pacific Gas and Electric Company
and NACCO Industries.
JOHN J. BRENNAN, President, Chief
Executive Officer & Trustee*
President, Chief Executive Officer JAMES O. WELCH, JR., Trustee
and Director of The Vanguard Group, Retired Chairman of Nabisco Brands,
Inc., and of each of the other Inc., retired Vice Chairman and
investment companies in The Vanguard Director of RJR Nabisco; Director
Group. of TECO Energy, Inc.; and Director
of Kmart Corporation.
ROBERT E. CAWTHORN, Trustee
Chairman of Rhone-Poulenc Rorer, J. LAWRENCE WILSON, Trustee
Inc.; Director of Sun Company, Chairman and Chief Executive Officer
Inc. of Rohm & Haas Company; Director of
Cummins Engine Company; and Trustee
BARBARA BARNES HAUPTFUHRER, Trustee of Vanderbilt University.
Director of The Great Atlantic and
Pacific Tea Company, Alco Standard RAYMOND J. KLAPINSKY, Secretary*
Corp., Raytheon Company, Knight- Senior Vice President and Secretary
Ridder, Inc., and Massachusetts of The Vanguard Group, Inc.; Secretary
Mutual Life Insurance Co. and of each of the investment companies
Trustee Emerita of Wellesley in The Vanguard Group.
College.
RICHARD F. HYLAND, Treasurer*
BRUCE K. MACLAURY, Trustee Treasurer of The Vanguard Group, Inc.,
President, The Brookings Institu- and of each of the investment compa-
tion; Director of American Express nies in The Vanguard Group.
Bank, Ltd., The St. Paul Compa-
nies, Inc. and Scott Paper Co. KAREN E. WEST, Controller*
Vice President of The Vanguard Group,
BURTON G. MALKIEL, Trustee Inc.; Controller of each of the invest-
Chemical Bank Chairman's Professor ment companies in The Vanguard Group.
of Economics, Princeton Universi- --------
ty; Director of Prudential Insur- * Officers of the Fund are "interested
ance Co. of America, Amdahl Corpo- persons" as defined in the Investment
ration, Baker Fentress & Co., The Company Act of 1940.
Jeffrey Co. and Southern New En-
gland Communications Company.
ALFRED M. RANKIN, JR., Trustee
Chairman, President and Chief Ex-
ecutive Officer of NACCO Indus-
tries, Inc.; Director of The
BFGoodrich Company, and The Stan-
dard Products Company.
</TABLE>
B-8
<PAGE>
REMUNERATION OF TRUSTEES AND OFFICERS
The Fund's Trustees and Officers receive no direct remuneration from the
Fund. However, the Trustees do receive remuneration for their service as Di-
rectors or Trustees of the Funds comprising the Vanguard Group of Investment
Companies. The following table provides detailed information with respect to
the aggregate amounts paid or accrued for the Trustees by the Vanguard Funds
for the fiscal year ended December 31, 1995.
COMPENSATION TABLE
<TABLE>
<CAPTION>
ESTIMATED TOTAL COMPENSATION
ANNUAL BENEFITS FROM ALL VANGUARD FUNDS
NAMES OF TRUSTEES UPON RETIREMENT PAID TO TRUSTEES(3)
- ----------------- --------------- -----------------------
<S> <C> <C>
John C. Bogle(1), (2)................... -- --
John J. Brennan(2)...................... -- --
Barbara Barnes Hauptfuhrer.............. $15,000 $59,000
Robert E. Cawthorn...................... $13,000 $59,000
Bruce K. MacLaury....................... $12,000 $55,000
Burton G. Malkiel....................... $15,000 $60,000
Alfred M. Rankin, Jr.................... $15,000 $60,000
John C. Sawhill......................... $15,000 $60,000
James O. Welch, Jr...................... $15,000 $59,000
J. Lawrence Wilson...................... $15,000 $60,000
</TABLE>
- --------
(1) For the period reported in this table, Mr. Bogle was the Fund's Chief Ex-
ecutive Officer, and therefore an "Interested Trustee."
(2) As "Interested Trustees," Messrs. Bogle and Brennan receive no compensa-
tion for their service as Trustees. Compensation amounts reported for
Messrs. Bogle and Brennan relate to their respective positions as Chief
Executive Officer and President of the Company.
(3) The amounts reported in this column reflect the total compensation paid to
each Trustee for their service as Director or Trustee of 34 Vanguard funds
(27 in the case of Mr. MacLaury).
THE VANGUARD GROUP
The Fund currently employs The Vanguard Group, Inc. ("Vanguard") to provide
management, administrative and investment advisory services. Vanguard also
provides virtually all of the corporate management, administrative, and dis-
tribution services for The Vanguard Group of Investment Companies, a family of
more than 30 investment companies with more than 90 distinct investment port-
folios and total assets in excess of $190 billion. Vanguard also provides in-
vestment advisory services to certain Vanguard Funds.
Vanguard employs a supporting staff of management and administrative person-
nel needed to provide the requisite services to the Fund and also furnishes
the Fund with the necessary office space, furnishings and equipment.
The Vanguard Group adheres to a Code of Ethics established pursuant to Rule
17j-1 under the Investment Company Act of 1940. The Code is designed to pre-
vent 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 per-
mitted to engage in personal securities transactions. However, such transac-
tions are subject to procedures and guidelines substantially similar to those
recommended by the mutual fund industry and approved by the U.S. Securities
and Exchange Commission.
The Fund receives all investment advisory services from Vanguard's Core Man-
agement Group. The Core Management Group manages the investment and reinvest-
ment of the Fund's assets and
B-9
<PAGE>
continuously reviews, supervises, and administers the Fund's investment pro-
gram with respect to those assets. The Core Management Group discharges its
responsibilities subject to the control of the Officers and Trustees of the
Fund.
The Core Management Group also provides investment advisory services to sev-
eral Vanguard Funds, including Vanguard Index Trust, Vanguard Balanced Index
Fund, Vanguard International Equity Index Fund, the Growth and Income and Cap-
ital Appreciation Portfolios and the equity portion of the Balanced Portfolio
of Vanguard Tax-Managed Fund, the Aggressive Growth Portfolio of Vanguard Ho-
rizon Fund, Vanguard Variable Insurance Fund--Equity Index Portfolio, and a
portion of Vanguard/Windsor II, a portion of Vanguard/Morgan Growth Fund as
well as to several indexed separate accounts. Total assets under management by
the Core Management Group were approximately $33 billion as of December 31,
1995. The Fund is not actively managed, but is instead administered by the
Core Management Group, using computerized, quantitative techniques.
Under the terms of the service and advisory agreement, Vanguard pays all of
the Fund's expenses, except for taxes and brokerage commissions. In turn, the
Fund pays Vanguard a fee at the end of each fiscal quarter, calculated by ap-
plying a quarterly rate, based on the following annual percentage rates, to
the average daily net assets for the quarter:
<TABLE>
<CAPTION>
NET ASSETS RATE
-------------- ----
<S> <C>
First $500 million .09%
Next $500 million .07%
Over $1 billion .06%
</TABLE>
For the years ended December 31, 1993, 1994, and 1995, the Fund paid approx-
imately $1,467,000, $2,044,000, and $3,057,000 respectively, to Vanguard for
services rendered under the Agreement.
PORTFOLIO TRANSACTIONS
In placing portfolio transactions, the Fund uses its best judgment to choose
the broker most capable of providing the brokerage services necessary to ob-
tain best available price and most favorable execution. The full range and
quality of brokerage services available are considered in making these deter-
minations. In those instances where it is reasonably determined that more than
one broker can offer the brokerage services needed to obtain the best avail-
able price and most favorable execution, consideration will be given to those
brokers which supply statistical information and provide other services in ad-
dition to execution services to the Fund.
Since the Fund does not market its shares through intermediary brokers or
dealers, it is not the Fund's practice to allocate brokerage or principal
business on the basis of sales of its shares which may be made through such
firms. However, the Fund may place portfolio orders with qualified broker-
dealers who recommend the Fund to clients, and may, when a number of brokers
and dealers can provide best price and execution on a particular transaction,
consider the sale of Fund shares by a broker or dealer in selecting among bro-
ker dealers. For the years ended December 31, 1993, 1994, and 1995, the Fund
paid $294,534, $314,246, and $496,995 respectively, in brokerage commissions.
DESCRIPTION OF SHARES AND VOTING RIGHTS
The Declaration of Trust permits the Trustees to issue an unlimited number
of shares of beneficial interest, without par value. The Board of Trustees has
the power to designate one or more classes ("Series") of shares and to clas-
sify or reclassify any unissued shares with respect to such series. Currently
the Fund is offering shares of one series.
The shares of the Fund are fully paid and nonassessable, except as set forth
under "Shareholder and Trustee Liability," and have no preference as to con-
version, exchange, dividends, retirement or
B-10
<PAGE>
other features. The shares of the Fund have no pre-emptive rights. The shares
of the Fund have non-cumulative voting rights, which means that the holders of
more than 50% of the shares voting for the election of Trustees can elect 100%
of the Trustees if they choose to do so. A shareholder is entitled to one vote
for each full share held (and a fractional vote for each fractional share
held), then standing in his name on the books of the Fund. On any matter sub-
mitted to a vote of shareholders, all shares of the Fund then issued and out-
standing and entitled to vote, irrespective of the class, shall be voted in
the aggregate and not by class; except (i) when required by the 1940 Act,
shares shall be voted by individual class; and (ii) when the matter does not
affect any interest of a particular class, then only shareholders of the af-
fected class or classes shall be entitled to vote thereon.
The Fund will continue without limitation of time, provided however that:
(1) Subject to the majority vote of the holders of shares of the Fund
outstanding, the Trustees may sell or convert the assets of the Fund to an-
other investment company in exchange for shares of such investment company
and distribute such shares ratably among the shareholders of the Fund;
(2) Subject to the majority vote of shares of the Fund outstanding, the
Trustees may sell and convert into money the assets of the Fund and dis-
tribute such assets ratably among the shareholders of the Fund; and
(3) Without the approval of the shareholders of the Fund, unless other-
wise required by law, the Trustees may combine the assets of any two or
more Portfolios into a single Portfolio so long as such combination will
not have a material adverse effect upon the shareholders of such Portfolio.
Upon completion of the distribution of the remaining proceeds or the remain-
ing assets of any Portfolio as provided in paragraphs 1), 2), 3) above the
Trust shall terminate as to that Portfolio and the Trustees shall be dis-
charged of any and all further liabilities and duties hereunder and the right,
title and interest of all parties shall be cancelled and discharged.
SHAREHOLDER AND TRUSTEE LIABILITY. Under Pennsylvania law, shareholders of
such a Trust may, under certain circumstances, be held personally liable as
partners for the obligations of the Trust. Therefore, the Declaration of Trust
contains an express disclaimer of shareholder liability for acts or
obligations of the Trust and requires that notice of such disclaimer be given
in each agreement, obligation, or instrument entered into or executed by the
Trust or the Trustees. The Declaration of Trust provides for indemnification
out of the Trust property of any shareholder held personally liable for the
obligations of the Trust. The Declaration of Trust also provides that the
Trust shall, upon request, assume the defense of any claim against any
shareholder for any act or obligation of the Trust and satisfy any judgment
thereon. Thus, the risk of a shareholder incurring financial loss on account
of shareholder liability is limited to circumstances in which the Trust itself
would be unable to meet its obligations.
The Declaration of Trust further provides that the Trustees will not be lia-
ble for errors of judgment or mistakes of fact or law, but nothing in the Dec-
laration of Trust protects a Trustee against any liability to which he would
otherwise be subject by reason of willful misfeasance, bad faith, gross negli-
gence, or reckless disregard of the duties involved in the conduct of his of-
fice.
FINANCIAL STATEMENTS
The Fund's financial statements for the year ended December 31, 1995, in-
cluding the financial highlights for each of the periods, appearing in the
Vanguard Institutional Index Fund 1995 Annual Report to Shareholders, and the
report thereon of Price Waterhouse LLP, independent accountants, also appear-
ing therein, are incorporated by reference in this Statement of Additional In-
formation. The Fund's 1995 Annual Report to Shareholders is enclosed with this
Statement of Additional Information.
B-11
<PAGE>
YIELD AND TOTAL RETURN
The average annual total return of the Fund for one year, three years and
since inception on July 31, 1990 was +37.60%, +16.54% and +13.92%, respective-
ly. The annualized yield for the thirty days ended December 31, 1995 was
+2.28%.
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.
The Fund may from time to time use one or more of the following unmanaged
indices for comparative performance purposes.
STANDARD & POOR'S 500 COMPOSITE STOCK PRICE INDEX--is a well diversified list
of 500 companies representing the U.S. Stock Market.
WILSHIRE 5000 EQUITY INDEX--consists of more than 6,000 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.
MORGAN STANLEY CAPITAL INTERNATIONAL EAFE INDEX--is an arithmetic, market
value-weighted average of the performance of over 900 securities listed on the
stock exchanges of countries in Europe, Australia and the Far East.
GOLDMAN SACHS 100 CONVERTIBLE BOND INDEX--currently includes 71 bonds and 29
preferreds. The original list of names was generated by screening for
convertible issues of $100 million or greater in market capitalization. The
index is priced monthly.
SALOMON BROTHERS GNMA INDEX--includes pools of mortgages originated by private
lenders and guaranteed by the mortgage pools of the Government National
Mortgage Association.
SALOMON BROTHERS HIGH-GRADE CORPORATE BOND INDEX--consists of publicly issued,
non-convertible corporate bonds rated Aa or Aaa. It is a value-weighted, total
return index, including approximately 800 issues with maturities of 12 years
or greater.
LEHMAN LONG-TERM TREASURY BOND--is composed of all bonds covered by the
Shearson Lehman Hutton Treasury Bond Index with maturities of 10 years or
greater.
MERRILL LYNCH CORPORATE & GOVERNMENT BOND--consists of over 4,500 U.S.
Treasury, Agency and investment grade corporate bonds.
LEHMAN CORPORATE (BAA) BOND INDEX--all publicly offered fixed-rate,
nonconvertible domestic corporate bonds rated Baa by Moody's, with a maturity
longer than 1 year and with more than $25 million outstanding. This index
includes over 1,000 issues.
BOND BUYER MUNICIPAL INDEX (20 YEAR) BOND--is a yield index on current coupon
high-grade general obligation municipal bonds.
STANDARD & POOR'S PREFERRED INDEX--is a yield index based upon the average
yield of four high-grade, 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, 30% NASDAQ Industrial Index.
B-12
<PAGE>
COMPOSITE INDEX--65% Standard & Poor's 500 Index and 35% Lehman Long-Term
Corporate 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 and 25% Standard & Poor's Utilities 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.
LEHMAN BROTHERS AGGREGATE BOND INDEX--is a market weighted index that contains
individually priced U.S. Treasury, agency, corporate, and mortgage pass-
through securities corporate rated BBB- or better. The Index has a market
value of over $4 trillion.
LEHMAN BROTHERS MUTUAL FUND SHORT (1-5) GOVERNMENT/CORPORATE INDEX--is a
market weighted index that contains individually priced U.S. Treasury, agency,
and corporate investment grade bonds rated BBB- or better with maturities
between 1 and 5 years. The index has a market value of over $1.3 trillion.
LEHMAN BROTHERS MUTUAL FUND INTERMEDIATE (5-10) GOVERNMENT/CORPORATE INDEX--is
a market weighted index that contains individually priced U.S. Treasury,
agency, and corporate securities rated BBB- or better with maturities between
5 and 10 years. The index has a market value of over $600 billion.
LEHMAN BROTHERS MUTUAL FUND LONG (10+) GOVERNMENT/CORPORATE INDEX--is a market
weighted index that contains individually priced U.S. Treasury, agency, and
corporate securities rated BBB- or better with maturities greater than 10
years. The index has a market value of over $900 billion.
B-13
