Rule 497(e)
33-34841 and 811-6011
[LOGO]
Prospectus
July 31, 1997
The Montgomery Funds
101 California Street
San Francisco, California 94111
(800) 572-FUND
TABLE OF CONTENTS
- ---------------------------------------------
The Montgomery Funds .........................................................1
Fees and Expenses of the Funds................................................2
Financial Highlights..........................................................4
The Funds' Investment Objectives and Policies.................................7
Portfolio Securities..........................................................9
Other Investment Practices...................................................11
Risk Considerations..........................................................13
Management of the Funds......................................................14
How To Contact the Funds.....................................................17
How To Invest in the Funds...................................................17
How To Redeem an Investment in the Funds.....................................21
Exchange Privileges and Restrictions.........................................22
Brokers and Other Intermediaries.............................................23
How Net Asset Value is Determined............................................23
Dividends and Distributions..................................................24
Taxation.....................................................................25
General Information..........................................................25
Backup Withholding ..........................................................26
Glossary ....................................................................26
Each Fund's shares offered in this Prospectus (the Class P shares) are sold only
through financial intermediaries and financial professionals at net asset value
with no sales load, no commissions, and no redemption or exchange fees. The
Class P shares are subject to a Rule 12b-1 distribution fee as described in this
prospectus. The minimum initial investment in each Fund is $1,000, and
subsequent investments must be at least $100. The Manager or the Distributor may
waive these minimums. See "How to Invest in the Funds."
Each Fund is a separate series of The Montgomery Funds, an open-end management
investment company, and managed by Montgomery Asset Management, LLC (the
"Manager"), a subsidiary of Commerzbank AG. Fund Distributors, Inc., which is
not affiliated with the Manager, is the distributor of the Funds (the
"Distributor"). Each Fund has its own investment objective and policies designed
to meet different investment goals. As with all mutual funds, attainment of each
Fund's investment objective cannot be assured.
Please read this Prospectus before investing and retain it for future reference.
A Statement of Additional Information dated July 31, 1997, as may be revised,
has been filed with the Securities and Exchange Commission, is incorporated by
this reference and is available without charge by calling (800) 572-FUND (3863).
If you are viewing the electronic version of this prospectus through an on-line
computer service, you may request a printed version free of charge by calling
(800) 572-FUND (3863).
The Internet address for The Montgomery Funds is www.xperts.montgomery.com/1.
The Securities and Exchange Commission maintains a web site (www.sec.gov) that
contains the Statement of Additional Information, material incorporated by
reference, and other information regarding The Montgomery Funds.
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 Securities Commission Passed upon the
Accuracy or Adequacy of this Prospectus. Any Representation to the Contrary Is a
Criminal Offense.
<PAGE>
The following three mutual funds (the "Funds") are offered in this Prospectus:
Montgomery Emerging Markets Fund
Invests primarily in equity securities of companies in countries having
economies and markets generally considered by the World Bank or the United
Nations to be emerging or developing.
Montgomery Equity Income Fund
Invests primarily in income-producing equity securities of domestic companies.
Montgomery Small Cap Fund
Invests primarily in equity securities, usually common stocks, of
small-capitalization domestic companies (less than $1 billion).
Fees And Expenses Of The Funds
Shareholder Transaction Expenses
<TABLE>
An investor would pay the following charges when buying or redeeming shares of a
Fund:
<CAPTION>
Maximum Sales Load Maximum Sales Load Imposed
Imposed on Purchases on Reinvested Dividends Deferred Sales Load Redemption Fees+ Exchange Fees
<S> <C> <C> <C> <C>
None None None None None
<FN>
+ Shareholders effecting redemptions via wire transfer may be required to
pay fees, including the wire fee and other fees, that will be directly
deducted from redemption proceeds. Shareholders who request redemption
checks to be sent by Federal Express may be required to pay a $10 fee
that will be directly deducted from redemption proceeds. The Montgomery
Funds reserve the right upon 60 days' advance notice to shareholders to
impose a redemption fee of up to 1% on shares redeemed within 90 days of
purchase.
</FN>
</TABLE>
<TABLE>
Annual Fund Operating Expenses (as a percentage of average net assets):
<CAPTION>
Other
Expenses
(after Total Fund Operating Expenses
reimbursement (after reimbursement
Management Fee* 12b-1 Fee unless noted)* unless noted)*
<S> <C> <C> <C> <C>
Emerging Markets Fund 1.06% 0.25% 0.66%+ 1.97%+
Equity Income Fund 0.60% 0.25% 0.25% 1.10%
Small Cap Fund 1.00% 0.25% 0.24%+ 1.49%+
This table is intended to assist the investor in understanding the various
expenses of each Fund. Operating expenses are paid out of a Fund's assets and
are factored into the Fund's share price. Each Fund estimates that it will have
the expenses listed (expressed as a percentage of average net assets) for the
current fiscal year. Because Rule 12b-1 distribution charges are accounted for
on a class-level basis (and not on an individual shareholders-level basis),
individual long-term investors in the Class P shares of the Fund may over time
pay more than the economic equivalent of the maximum front-end sales charge
permitted by the National Association of Securities Dealers, Inc. ("NASD"), even
though all shareholders of that Class in the aggregate will not. This is
recognized and permitted by the NASD.
<FN>
+ These figures show actual expenses; no reimbursements or waivers applied.
* Expenses for the Funds are based on actual expenses and expense limitations
for the fiscal year ended June 30, 1996 for the Class P shares (or, if no
Class P shares were outstanding, for another class of shares (but adjusted
to include the Rule 12b-1 fee). The Manager will reduce its fees and may
absorb or reimburse a Fund for certain expenses to the extent necessary to
limit total annual fund operating expenses to the amount indicated in the
table for a Fund. A Fund is required to reimburse the Manager for any
reductions in the Manager's fee only during the three years following that
reduction and only if such reimbursement can be achieved within the
foregoing expense limits. The Manager generally seeks reimbursement for the
oldest reductions and waivers before payment for fees and expenses for the
current year. Absent reduction and including the Rule 12b-1 fee for the
Class P Shares, actual total Fund operating expenses for the period ended
June 30, 1996 (annualized) would have been as follows: Montgomery Equity
Income Fund, 1.70% (0.85% other expenses). The Manager may terminate these
voluntary reductions at any time. See "Management of the Funds."
</FN>
</TABLE>
2
<PAGE>
Example of Expenses for the Funds
Assuming, hypothetically, that each Fund's annual return is 5% and that its
operating expenses are as set forth above, an investor buying $1,000 of a Fund's
shares would have paid the following total expenses upon redeeming such shares:
1 Year 3 Years 5 Years 10 Years
Emerging Markets Fund $20 $62 $106 $230
Equity Income Fund $11 $35 $61 $134
Small Cap Fund $15 $47 $81 $178
This example is to show the effect of expenses. This example does not represent
past or future expenses or returns. Actual expenses and returns may vary.
3
<PAGE>
Financial Highlights
Selected Per Share Data and Ratios
<TABLE>
The following financial information for the periods ended June 30, 1992
through June 30, 1996 was audited by Deloitte & Touche LLP, whose report, dated
August 16, 1996, appears in the 1996 Annual Report of the Funds. The information
for the period ended June 30, 1991 was audited by other independent accountants
whose report is not included herein. The financial information for periods
indicated with the note "R" relate to another class of shares of the Funds not
subject to the Class P Rule 12b-1 fee because the Class P shares were not
offered during those periods.
<CAPTION>
EMERGING MARKET FUND
Period Ending FISCAL YEAR ENDED JUNE 30
December 31, ----------------------------------------------------------------
SELECTED PER SHARE DATA FOR THE 1996
YEAR OR PERIOD ENDED: (UNAUDITED) 1996(a) 1995++R 1994R 1993R 1992(a)R
<S> <C> <C> <C> <C> <C> <C>
Net asset value-beginning of year $14.19 $12.62 $13.68 $11.07 $ 9.96 $10.00
Net investment income/(loss) 0.01 0.01 0.03 (0.03) 0.07 0.03
Net realized and unrealized gain/(loss) on investments (0.31) 1.56 0.25## 2.92 1.05 (0.07)
Net increase/(decrease) in net assets resulting
from investment operations (0.30) 1.57 0.28 2.89 1.12 (0.04)
Distributions:
Dividends from net investment income (0.06) -- -- -- (0.01) --
Distributions from net realized capital gains -- -- (0.42) (0.28) (0.00)# --
Distributions in excess of net realized capital gains -- -- (0.37) -- -- --
Total distributions (0.06) -- (0.79) (0.28) (0.01) --
Net asset value-end of year $13.83 $14.19 $13.17 $13.68 $11.07 $ 9.96
Total Return** (2.12)% 12.44% 1.40% 26.10% 11.27% (0.40)%
Ratios to Average Net Assets/Supplemental Data
Net assets, end of year (in 000's) $7 $ 2 $998,083 $654,960 $206,617 $54,625
Ratio of net investment income/(loss) (0.22)%+ 0.33%+ 0.23% (0.14)% 0.66% 1.70%+
to average net assets
Ratio of expenses to average net assets, excluding 1.92 %+ 1.97%+ 1.80% 1.85% 1.90% 1.90%+
interest expense
Portfolio turnover rate 36.30% 109.92% 92.09% 63.79% 21.40% 0.19%
Average commission rate paid+++ $0.0007 $ 0.0007 N/A N/A N/A N/A
Net investment income/(loss) before deferral of fees and
absorption of expenses by Manager -- -- -- -- $ 0.06 $ 0.01
Expense ratio before deferral of fees by Manager
including interest expense -- -- -- -- 1.93% 2.80%+
<FN>
(a) The Emerging Market Fund's Class R and Class P Shares commenced operations
on March 1, 1992 and March 12, 1996, respectively.
** Total return represents aggregate total return for the periods indicated.
+ Annualized.
++ Per share numbers have been calculated using the average shares method,
which more appropriately represents the per share data for the period since
the use of the undistributed income method did not accord with the results
of operations.
+++ Average commission rate paid per share of securities purchased and sold by
the Fund.
# Amount represents less than $0.01 per share.
## The amount shown in this caption for each share outstanding throughout the
period may not be in accord with the net realized and unrealized
gain/(loss) for the period because of the timing of purchases and
withdrawal of shares in relation to the fluctuating market values of the
portfolio.
</FN>
</TABLE>
4
<PAGE>
EQUITY INCOME FUND
SELECTED PER SHARE DATE PERIOD ENDING FISCAL YEAR ENDED
FOR THE YEAR OR PERIOD DECEMBER 31, 1996 JUNE 30
ENDED: (UNAUDITED) --------------------------
1996(b) 1995(b)R
Net asset value--beginning of year $ 16.09 $15.66 $12.00
Net investment income 0.21 0.08 0.31
Net realized and unrealized gain on
investments 1.51 0.35 1.38
Net increase in net assets resulting
from investment operations 1.72 0.43 1.69
Distributions:
Dividends from net investment income (0.21) -- (0.31)
Distributions from net realized capital
gains (1.56) -- --
Total distributions (1.77) -- (0.31)
Net asset value--end of year $ 16.04 $16.09 $13.38
Total return** 11.22% 2.75% 14.26%
Ratios to Average Net Assets/Supplemental
Data:
Net assets, end of year (in 000's) $136 $ 2 $6,383
Ratio of net investment income 2.85% 2.78%+ 4.06%+
to average net assets
Ratio of expenses to average net assets 1.10% 1.10%+ 0.84%+
Portfolio turnover rate 26.46% 89.77% 29.46%
Average commission rate paid+++ $ 0.059 $ 0.0423 N/A
Net investment income before deferral of
fees by Manager $ 0.07 $ 0.06 $ 0.13
Expense ratio before deferral of fees by
Manager 1.70% 1.70%+ 3.16%+
(b) The Equity Income Fund's Class R and Class P Shares commenced operations on
September 30, 1994 and March 12, 1996, respectively.
** Total return
represents aggregate total return for the periods indicated.
+ Annualized.
+++ Average commission rate paid per share of securities purchased and sold by
the Fund.
5
<PAGE>
<TABLE>
SMALL CAP FUND
Selected Per Share Data for the Year or
Period Ended:
<CAPTION>
Period Ending FISCAL YEAR ENDED JUNE 30
December 31, ------------------------------------------------------------------
1996(c)
(UNAUDITED) 1996R 1995R 1994R 1993R 1992R 1991R 1991(c)R
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net asset value -- beginning of year $21.73 $17.11 $15.15 $16.83 $12.90 $13.24 $10.05 $10.62
Net investment income/(loss) (0.06) (0.09) (0.10) (0.12) (0.11) (0.06) (0.06) (0.07)
Net realized and unrealized gain/(loss)
on investments (0.03) 6.31 3.04 (0.47) 4.04 3.25 3.27 2.71
Net increase/(decrease) in net assets resulting
from investment operations (0.09) 6.22 2.94 (0.59) 3.93 3.19 3.21 2.64
Distributions:
Dividends from net investment income -- -- -- -- -- -- -- --
Distributions from net realized capital gains (3.28) (1.78) (0.98) (1.09) -- (2.75) (0.02) (0.02)
Distributions from capital -- -- -- -- -- (0.78) -- --
Total distributions (3.28) (1.78) (0.98) (1.09) -- (3.53) (0.02) (0.02)
Net asset value -- end of year $18.36 $21.55 $17.11 $15.15 $16.83 $12.90 $13.24 $13.24
Total return** (0.34)% 39.28% 20.12% (1.59)% 30.47% 27.69% 31.97% 24.89%
Ratios to Average Net Assets/Supplemental Data:
Net assets, end of year (in 000's) $2,944 $275,062 $202,399 $209,063 $219,968 $176,588 $27,181 $27,181
Ratio of net investment income/(loss) (0.98)%+ (0.47)% (0.57)% (0.68)% (0.69)% (0.44)% (0.47)% (0.45)%+
to average net assets
Ratio of expenses to average net assets 1.48%+ 1.24% 1.37% 1.35% 1.40% 1.50% 1.50% 1.45%+
Portfolio turnover rate 28.63% 80.00% 85.07% 95.22% 130.37% 80.67% 194.63% 188.16%
Average commission rate paid+++ $ 0.0524 $ 0.0529 N/A N/A N/A N/A N/A N/A
Net investment income/(loss) before deferral of fees
by Manager -- -- -- -- -- -- -- --
Expense ratio before deferral of fees by Manager -- -- -- -- -- -- -- --
<FN>
(c) The Small Cap Fund's Class R Shares became available for investment by the
public on July 13, 1990. The Fund's Class P Shares commenced operations on
July 1, 1996.
** Total return represents aggregate total return for the periods indicated.
+ Annualized.
++ The amount shown in this caption for each share outstanding throughout the
period may not be in accord wit the net realized and unrealized gain/(loss)
for the period because of the timing of purchases and withdrawal of shares
in relation to the fluctuating market values of the portfolio. +++ Average
commission rate paid per share of securities purchased and sold by the
Fund.
</FN>
</TABLE>
6
<PAGE>
The Funds' Investment Objectives And Policies
<TABLE>
The investment objective and general investment policies of each Fund are
described below. Specific portfolio securities that may be purchased by the
Funds are described in "Portfolio Securities" beginning on page 10. Specific
investment practices that may be employed by the Funds are described in "Other
Investment Practices" beginning on page 13. Certain risks associated with
investments in the Funds are described in those sections as well as in "Risk
Considerations" beginning on page 15. Certain Terms Used in the Prospectus Are
Defined in the Glossary Found at the End of this Prospectus.
<CAPTION>
SUMMARY COMPARISON OF FUNDS
Anticipated Maximum Typical Market
Equity Debt Capitalization of
Fund Name Exposure Exposure Focus Portfolio Companies
<S> <C> <C> <C> <C>
Emerging Markets Fund 65-100% 35% Foreign Emerging Growth Any size
Equity Income Fund 65-100% 35% Large-Cap Dividend Over $1 Billion
Small Cap Fund 65-100% 35% Small-Cap Less than $1 Billion
</TABLE>
Montgomery Emerging Markets Fund (the "Emerging Markets Fund")
The investment objective of the Emerging Markets Fund is capital appreciation
which, under normal conditions it seeks by investing at least 65% of its total
assets in equity securities of emerging market companies. Under normal
conditions, the Emerging Markets Fund maintains investments in at least six
emerging market countries at all times and invests no more than 35% of its total
assets in any one emerging market country. The Manager currently regards the
following to be emerging market countries: Latin America (Argentina, Brazil,
Chile, Colombia, Costa Rica, Jamaica, Mexico, Peru, Trinidad and Tobago,
Uruguay, Venezuela); Asia (Bangladesh, China, India, Indonesia, Korea, Malaysia,
Pakistan, the Philippines, Singapore, Sri Lanka, Taiwan, Thailand, Vietnam);
southern and eastern Europe (Czech Republic, Greece, Hungary, Poland, Portugal,
Russia, Turkey); the Middle East (Israel, Jordan); and Africa (Egypt, Ghana,
Ivory Coast, Kenya, Morocco, Nigeria, South Africa, Tunisia, Zimbabwe). In the
future, the Fund may invest in other emerging market countries.
This Fund uses a proprietary, quantitative asset allocation model created by the
Manager. This model employs mean-variance optimization, a process used in
developed markets based on modern portfolio theory and statistics. Mean-variance
optimization helps determine the percent of assets to invest in each country to
maximize expected returns for a given risk level. The Fund's aims are to invest
in those countries that are expected to have the highest risk/reward trade-off
when incorporated into a total portfolio context. This "top-down" country
selection is combined with "bottom-up" fundamental industry analysis and stock
selection based on original research and publicly available information and
company visits.
This Fund invests primarily in common stock but also may invest in other types
of equity and equity derivative securities. It may invest up to 35% of its total
assets in debt securities, including up to 5% in debt securities rated below
investment grade. See "Portfolio Securities," "Risk Considerations" and the
Appendix in the Statement of Additional Information.
This Fund may invest in certain debt securities issued by the governments of
emerging market countries that are, or may be eligible for, conversion into
investments in emerging market companies under debt conversion programs
sponsored by such governments. The Fund deems securities that are convertible to
equity investments to be equity derivative securities.
7
<PAGE>
Montgomery Equity Income Fund (the "Equity Income Fund")
The investment objective of the Equity Income Fund is to provide current income
and capital appreciation primarily through investments in equity securities of
domestic companies, with the goal that the Fund provide a significantly greater
yield than the average yield offered by the stocks of the S&P 500 and a low
level of price volatility. Under normal market conditions, the Equity Income
Fund will invest at least 65% of the value of its total assets in
income-producing equity securities of domestic companies, which include common
stocks, preferred stocks and other securities, and debt securities convertible
into common stocks.
The Fund's equity investments emphasize common stock of U.S. corporations that
regularly pay dividends. The Fund normally invests in companies having a total
market capitalization of more than $1 billion, targeting companies with
favorable long-term fundamental characteristics with current relative yields at
the upper end of their historical ranges. The Fund initially identifies a
universe of investment candidates by screening companies based on relative yield
and targeting companies with a minimum yield of 140% of the average yield of the
S&P 500. The Fund uses this relative yield strategy to assist in identifying
undervalued securities. The companies are usually in the maturing stages of
development or operating in slower growth areas of the economy, and have
conservative accounting, strong cash flows to maintain dividends, low financial
leverage and market leadership. The Fund usually holds companies for a period of
two to four years, resulting in relatively low turnover. The Fund will usually
begin to reduce its position in a company as the price moves up and yield drops
to the lower end of its historical range. In addition, the Fund will usually
reduce or sell its holdings in a company that reduces or eliminates its
dividend, or upon a significant fundamental change impairing a company's ability
to pay dividends. See "Portfolio Securities."
Although the Fund normally invests more than 65% of its assets in
income-producing equity securities as described above, under normal market
conditions it may invest up to 35% of its total assets in debt instruments,
emphasizing cash equivalents in an effort to provide income at money market
rates while minimizing the risk of decline in value. The Fund attempts to
achieve low price volatility through its investment in mature companies and by
investing in cash and cash equivalents. In addition, the Fund may invest up to
20% of its total assets in the equity or debt securities of foreign issuers. See
"Portfolio Securities."
Montgomery Small Cap Fund (the "Small Cap Fund")
The investment objective of the Small Cap Fund is capital appreciation which,
under normal conditions it seeks by investing at least 65% of its total assets
in equity securities of small-capitalization domestic companies, which the Fund
currently considers to be companies having total market capitalizations of less
than $1 billion. The Small Cap Fund generally invests the remaining 35% of its
total assets in a similar manner but may invest those assets in companies having
total market capitalizations of $1 billion or more.
Generally, the Small Cap Fund invests at least 80% of its total assets in common
stock. It also may invest in other types of equity securities and equity
derivative securities but limits to 5% of its total assets any single other type
of security. Any debt securities purchased by this Fund must be investment-grade
debt securities. See "Portfolio Securities." Current income from dividends,
interest and other sources is only incidental.
The Small Cap Fund seeks to identify potential growth companies at an early
stage or a transitional point of the companies' developments, such as the
introduction of new products, favorable management changes, new marketing
opportunities or increased market share for existing product lines. Using
fundamental research, the Fund targets businesses having positive internal
dynamics that can outweigh unpredictable macro-economic factors, such as
interest rates, commodity prices, foreign currency rates and overall stock
market volatility. The Fund searches for companies with potential to gain market
share within their respective industries; achieve and maintain high and
consistent profitability; produce increases in quarterly earnings; and provide
solutions to current or impending problems in their respective industries or
society at large. Early identification of potential investments is a key to the
Fund's investment style. Heavy emphasis is placed on in-house research, which
includes discussions with company management. The Fund also draws on the
expertise of brokerage firms, including regional firms that closely follow
smaller capitalization companies within their geographic regions.
The Small Cap Fund was closed to new investors in its Class R Shares on March 6,
1992 but is open for investment through certain plans and financial
intermediaries in the Class P shares.
8
<PAGE>
Portfolio Securities
The following describes portfolio securities the Funds may invest.
Equity Securities
The Funds emphasize investments in common stock. The Funds may also invest in
other types of equity securities (such as preferred stocks or convertible
securities) and equity derivative securities.
Depositary Receipts, Convertible Securities and Securities Warrants
The Funds may invest in ADRs, EDRs and GDRs and convertible securities which the
Manager regards as a form of equity security. Each such Fund may also invest up
to 5% of its net assets in warrants, including up to 2% of net assets for those
not listed on a securities exchange.
Privatizations
The Emerging Markets Fund believes that foreign governmental programs of selling
interests in government-owned or controlled enterprises ("privatizations") may
represent opportunities for significant capital appreciation, and the Fund may
invest in privatizations. The ability of U.S. entities, such as the Fund, to
participate in privatizations may be limited by local law, or the terms for
participation may be less advantageous than for local investors. There can be no
assurance that privatization programs will be successful.
Special Situations
The Funds believe that carefully selected investments in joint ventures,
cooperatives, partnerships, private placements, unlisted securities and similar
vehicles (collectively, "special situations") could enhance their capital
appreciation potential. The Emerging Markets Fund also may invest in certain
types of vehicles or derivative securities that represent indirect investments
in foreign markets or securities in which it is impracticable for the Fund to
invest directly. Investments in special situations may be illiquid, as
determined by the Manager based on criteria reviewed by the Board. The Emerging
Markets Fund does not invest more than 15% of its net assets in illiquid
investments, including special situations.
Investment Companies
Each Fund may invest up to 10% of its total assets in shares of other investment
companies investing exclusively in securities in which it may otherwise invest.
Because of restrictions on direct investment by U.S. entities in certain
countries, other investment companies may provide the most practical or only way
for the Emerging Markets Fund to invest in certain markets. Such investments may
involve the payment of substantial premiums above the net asset value of those
investment companies' portfolio securities and are subject to limitations under
the Investment Company Act. The Emerging Markets Fund also may incur tax
liability to the extent it invests in the stock of a foreign issuer that is a
"passive foreign investment company" regardless of whether such "passive foreign
investment company" makes distributions to the Fund. See the Statement of
Additional Information.
The Funds do not intend to invest in other investment companies unless, in the
Manager's judgment, the potential benefits exceed associated costs. As a
shareholder in an investment company, these Funds bear their ratable share of
that investment company's expenses, including advisory and administration fees.
The Manager has agreed to waive its own management fee with respect to the
portion of these Funds' assets invested in other open-end (but not closed-end)
investment companies.
Debt Securities
The Funds may purchase debt securities that complement their objective of
capital appreciation through anticipated favorable changes in relative foreign
exchange rates, in relative interest rate levels, or in the creditworthiness of
issuers. Debt securities may constitute up to 35% of the Equity Income Fund's
total assets. In selecting debt securities, the Manager seeks out good credits
and analyzes interest rate trends and specific developments that may affect
individual issuers. As an operating policy which may be changed by the Board,
each Fund will not invest more than 5% of its total assets in debt securities
rated lower than investment grade. Subject to this limitation, each of these
Funds may invest in any debt security, including securities in default. After
its purchase by a Fund a debt security may cease to be rated or its rating may
be reduced below that required for purchase by the Fund. A security downgraded
below the minimum level may be retained if determined by the Manager and the
Board to be in the best interests of the Fund. See "Risk Considerations."
9
<PAGE>
Debt securities may also consist of participation certificates in large loans
made by financial institutions to various borrowers, typically in the form of
large unsecured corporate loans. These certificates must otherwise comply with
the maturity and credit quality standards of each Fund and will be limited to 5%
of a Fund's total assets.
In addition to traditional corporate, government and supranational debt
securities, each of the Emerging Markets Fund and the Equity Income Fund may
invest in external (i.e., to foreign lenders) debt obligations issued by the
governments, governmental entities and companies of emerging market countries.
The percentage distribution between equity and debt will vary from country to
country based on anticipated trends in inflation and interest rates; expected
rates of economic and corporate profits growth; changes in government policy;
stability, solvency and expected trends of government finances; and conditions
of the balance of payments and terms of trade.
U.S. Government securities
All Funds may invest in fixed rate and floating or variable rate U.S. government
securities. Certain of the obligations, including U.S. Treasury bills, notes and
bonds, and mortgage-related securities of the GNMA, are issued or guaranteed by
the U.S. Government. Other securities issued by U.S. Government agencies or
instrumentalities are supported only by the credit of the agency or
instrumentality, for example those issued by the Federal Home Loan Bank, while
others, such as those issued by the FNMA, Farm Credit System and Student Loan
Marketing Association, have an additional line of credit with the U.S. Treasury.
Short-term U.S. government securities generally are considered to be among the
safest short-term investments. However, the U.S. Government does not guarantee
the net asset value of the Funds' shares. With respect to U.S. government
securities supported only by the credit of the issuing agency or instrumentality
or by an additional line of credit with the U.S. Treasury, there is no guarantee
that the U.S. Government will provide support to such agencies or
instrumentalities. Accordingly, such U.S. government securities may involve risk
of loss of principal and interest.
Structured Notes and Indexed Securities. The Funds may invest in structured
notes and indexed securities. Structured notes are debt securities, the interest
rate or principal of which is determined by an unrelated indicator. Indexed
securities include structured notes as well as securities other than debt
securities, the interest rate or principal of which is determined by an
unrelated indicator. Index securities may include a multiplier that multiplies
the indexed element by a specified factor and, therefore, the value of such
securities may be very volatile. To the extent a Fund invests in these
securities, however, the Manager analyzes these securities in its overall
assessment of the effective duration of the Fund's portfolio in an effort to
monitor the Fund's interest rate risk.
Asset-Backed Securities
Each Fund may invest up to 5% of its total assets in asset-backed securities.
Like mortgage-related securities, these securities are subject to the risk of
prepayment. See "Risk Considerations."
10
<PAGE>
Other Investment Practices
<TABLE>
The table below and the following sections summarize certain investment
practices of the Funds, each of which may involve certain special risks. The
Glossary section at the end of this Prospectus briefly describes each of the
investment techniques summarized below. The Statement of Additional Information,
under the heading "Investment Objectives and Policies of the Funds," contains
more detailed information about certain of these practices, including
limitations designed to reduce risks.
<CAPTION>
=================================================================================================
Emerging Markets Equity Income Small Cap
- -------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Repurchase agreements(1) X X X
- -------------------------------------------------------------------------------------------------
Reverse dollar roll transactions
- -------------------------------------------------------------------------------------------------
Borrowing not to exceed one-third of X X X
total fund assets
- -------------------------------------------------------------------------------------------------
Reverse repurchase agreement X
- -------------------------------------------------------------------------------------------------
Dollar roll transactions
- -------------------------------------------------------------------------------------------------
Leverage X
- -------------------------------------------------------------------------------------------------
Securities lending not to exceed 30% X X X
of total fund assets
- -------------------------------------------------------------------------------------------------
When-issued and forward commitment X X X
securities
- -------------------------------------------------------------------------------------------------
Forward currency contracts(4) X X
- -------------------------------------------------------------------------------------------------
Purchase options on securities and X X X
currencies(2)
- -------------------------------------------------------------------------------------------------
Purchase options on securities indices(2) X X X
- -------------------------------------------------------------------------------------------------
Write covered call options(2) X X X
- -------------------------------------------------------------------------------------------------
Write covered put options(2) X X X
- -------------------------------------------------------------------------------------------------
Interest rate futures contracts(3) X X X
- -------------------------------------------------------------------------------------------------
Futures and swaps and options on X X X
futures
- -------------------------------------------------------------------------------------------------
Equity swaps X X X
- -------------------------------------------------------------------------------------------------
Illiquid securities (limited to 15% of X X X
Fund's net assets)
=================================================================================================
<FN>
1 Under the Investment Company Act, repurchase agreements are considered to
be loans by a Fund and must be fully collateralized by collateral assets.
If the seller defaults on its obligations to repurchase the underlying
security, a Fund
11
<PAGE>
may experience delay or difficulty in exercising its rights to realize upon
the security, may incur a loss if the value of the security declines and
may incur disposition costs in liquidating the security.
2 A Fund will not enter into any options on securities, securities indices or
currencies or related options (including options on futures) if the sum of
the initial margin deposits and premiums paid for any such option or
options would exceed 5% of its total assets, and it will not enter into
options with respect to more than 25% of its total assets.
3 A Fund does not enter into any futures contracts or related options if the
sum of initial margin deposits on futures contracts, related options
(including options on securities, securities indices and currencies) and
premiums paid for any such related options would exceed 5% of its total
assets. A Fund does not purchase futures contracts or related options if,
as a result, more than one-third of its total assets would be so invested.
4 A Fund that may invest in forward currency contracts may not invest more
than one-third of its assets in such contracts.
</FN>
</TABLE>
Borrowing
Subject to the limits set forth in the Prospectus, the Funds may pledge their
assets in connection with borrowings. A Fund will not purchase any securities
while any borrowings exceed 10% of its total assets.
Defensive Investments and Portfolio Turnover
Notwithstanding its investment objective, each Fund may adopt up to a 100% cash
or cash equivalent position for temporary defensive purposes to protect against
erosion of its capital base. Depending upon the Manager's analysis of the
various markets and other considerations, all or part of the assets of a Fund
may be held in cash and cash equivalents (denominated in U.S. dollars or foreign
currencies), such as U.S. government securities or obligations issued or
guaranteed by the government of a foreign country or by an international
organization designed or supported by multiple foreign governmental entities to
promote economic reconstruction or development, high-quality commercial paper,
time deposits, savings accounts, certificates of deposit, bankers' acceptances
and repurchase agreements with respect to all of the foregoing. Such investments
also may be made for temporary purposes pending investment in other securities
and following substantial new investment in a Fund.
Portfolio securities are sold whenever the Manager believes it appropriate to
further the Fund's investment objective or when it appears that a position of
the desired size cannot be accumulated. Portfolio turnover generally involves
some expense to a Fund, including brokerage commissions, dealer markups and
other transaction costs, and may result in the recognition of capital gains that
may be distributed to shareholders. See "Financial Highlights" for portfolio
turnover information. Even when portfolio turnover exceeds 100% for a Fund, that
Fund does not regard portfolio turnover as a limiting factor. Portfolio turnover
in excess of 100% is considered high, increases brokerage costs incurred by a
Fund and may cause recognition of gain by shareholders.
Hedging and Risk Management Practices
In seeking to protect against the effect of adverse changes in financial markets
or against currency exchange rate or interest rate changes that are adverse to
the present or prospective positions of the Funds, each of the Funds may employ
certain risk management practices using certain derivative securities and
techniques (known as "derivatives"). Markets in some countries currently do not
have instruments available for hedging transactions. To the extent that such
instruments do not exist, the Manager may not be able to hedge its investment
effectively in such countries. Furthermore, a Fund engages in hedging activities
only when the Manager deems it to be appropriate, and does not necessarily
engage in hedging transactions with respect to each investment.
Hedging transactions involve certain risks. Although a Fund may benefit from the
use of hedging positions, unanticipated changes in interest rates or securities
prices may result in poorer overall performance for a Fund than if it had not
entered into a hedging position. If the correlation between a hedging position
and a portfolio position is not properly protected, the desired protection may
not be obtained and the Fund may be exposed to risk of financial loss. In
addition, a Fund pays commissions and other costs in connection with such
investments.
Investment Restrictions
The investment objective of each Fund is fundamental and may not be changed
without shareholder approval but, unless otherwise stated, each Fund's other
investment policies may be changed by its Trust's Board. If there is a change in
the investment objective or policies of any Fund, shareholders should consider
whether that Fund remains an appropriate
12
<PAGE>
investment in light of their then-current financial positions and needs. The
Funds are subject to additional investment policies and restrictions described
in the Statement of Additional Information, some of which are fundamental.
Each Fund has reserved the right, if approved by the Board, to convert in the
future to a "feeder" Fund that would invest all of its assets in a "master" Fund
having substantially the same investment objective, policies and restrictions.
At least 30- days prior written notice of any such action would be given to all
shareholders if and when such a proposal is approved, although no such action
has been proposed as of the date of this Prospectus.
Risk Considerations
The following describes certain risks involved with investing in the Funds.
Small Companies
The Small Cap Fund emphasizes, and the Emerging Markets Fund may make
investments in, smaller companies that may benefit from the development of new
products and services. Such smaller companies may present greater opportunities
for capital appreciation but may involve greater risk than larger, more mature
issuers. Such smaller companies may have limited product lines, markets or
financial resources, and their securities may trade less frequently and in more
limited volume than those of larger, more mature companies. As a result, the
prices of their securities may fluctuate more than those of larger issuers.
Foreign Securities
The Funds have the right to purchase securities in foreign countries.
Accordingly, shareholders should consider carefully the substantial risks
involved in investing in securities issued by companies and governments of
foreign nations, which are in addition to the usual risks of loss inherent in
domestic investments. The Emerging Markets Fund may invest in securities of
companies domiciled in, and in markets of, so-called "emerging markets
countries." These investments may be subject to higher risks than investments in
more-developed countries.
Foreign investments involve the possibility of expropriation, nationalization or
confiscatory taxation, taxation of income earned in foreign nations (including,
for example, withholding taxes on interest and dividends) or other taxes imposed
with respect to investments in foreign nations; foreign exchange controls (which
may include suspension of the ability to transfer currency from a given country
and repatriation of investments); default in foreign government securities, and
political or social instability or diplomatic developments that could adversely
affect investments. In addition, there is often less publicly available
information about foreign issuers than those in the U.S. Foreign companies are
often not subject to uniform accounting, auditing and financial reporting
standards. Further, these Funds may encounter difficulties in pursuing legal
remedies or in obtaining judgments in foreign courts. Additional risk factors,
including use of domestic and foreign custodian banks and depositories, are
described elsewhere in the Prospectus and in the Statement of Additional
Information.
Brokerage commissions, fees for custodial services and other costs relating to
investments in other countries are generally greater than in the U.S. Foreign
markets have different clearance and settlement procedures from those in the
U.S., and certain markets have experienced times when settlements did not keep
pace with the volume of securities transactions. The inability of a Fund to make
intended security purchases due to settlement difficulties could cause it to
miss attractive investment opportunities. Inability to sell a portfolio security
due to settlement problems could result in loss to the Fund if the value of the
portfolio security declined, or result in claims against the Fund. In certain
countries, there is less government supervision and regulation of business and
industry practices, stock exchanges, brokers and listed companies than in the
U.S. The securities markets of many of the countries in which these Funds may
invest may also be smaller, less liquid and subject to greater price volatility
than those in the U.S.
Because certain foreign securities may be denominated in foreign currencies, the
value of such securities will be affected by changes in currency exchange rates
and in exchange control regulations, and costs will be incurred in connection
with conversions between currencies. A change in the value of a foreign currency
against the U.S. dollar results in a corresponding change in the U.S. dollar
value of a Fund's securities denominated in the currency. Such changes also
affect the Fund's income and distributions to shareholders. A Fund may be
affected either favorably or unfavorably by changes in the relative rates of
exchange between the currencies of different nations, and a Fund may therefore
engage in foreign currency hedging strategies. Such strategies, however, involve
certain transaction costs and investment risks, including dependence upon the
Manager's ability to predict movements in exchange rates.
Some countries in which the Emerging Markets Fund may invest also may have fixed
or managed currencies that are not freely convertible at market rates into the
U.S. dollar. Certain currencies may not be internationally traded. A number of
these currencies have experienced steady devaluation relative to the U.S.
dollar, and such devaluations in the currencies may have
13
<PAGE>
a detrimental impact on the Fund. Many countries in which a Fund may invest have
experienced substantial, and in some periods extremely high, rates of inflation
for many years. Inflation and rapid fluctuation in inflation rates may have
negative effects on certain economies and securities markets. Moreover, the
economies of some countries may differ favorably or unfavorably from the U.S.
economy in such respects as the rate of growth of gross domestic product, rate
of inflation, capital reinvestment, resource self-sufficiency and balance of
payments. Certain countries also limit the amount of foreign capital that can be
invested in their markets and local companies, creating a "foreign premium" on
capital investments available to foreign investors such as the Fund. The Fund
may pay a "foreign premium" to establish an investment position which it cannot
later recoup because of changes in that country's foreign investment laws.
Lower-Quality Debt
The Emerging Markets Fund is authorized to invest in medium-quality (rated or
equivalent to BBB by S&P or Fitch's, or Baa by Moody's) and in limited amounts
of high-risk debt securities below investment-grade quality. Medium-quality debt
securities have speculative characteristics, and changes in economic conditions
or other circumstances are more likely to lead to a weakened capacity to make
principal and interest payments than with higher-grade debt securities.
As an operating policy, which may be changed by the Board without shareholder
approval, the Emerging Markets Fund does not invest more than 5% of its total
assets in debt securities below investment grade, also known as "junk bonds."
The Board may consider a change in this operating policy if, in its judgment,
economic conditions change such that a higher level of investment in high-risk,
lower-quality debt securities would be consistent with the interests of the Fund
and its shareholders. Unrated debt securities are not necessarily of lower
quality than rated securities but may not be attractive to as many buyers.
Regardless of rating levels, all debt securities considered for purchase
(whether rated or unrated) are analyzed by the Manager to determine, to the
extent reasonably possible, that the planned investment is sound. From time to
time, these Funds may purchase defaulted debt securities if, in the opinion of
the Manager, the issuer may resume interest payments in the near future.
Interest Rates
The market value of debt securities that are interest rate sensitive is
inversely related to changes in interest rates. That is, an interest rate
decline produces an increase in a security's market value and an interest rate
increase produces a decrease in value. The longer the remaining maturity of a
security, the greater the effect of interest rate change. Changes in the ability
of an issuer to make payments of interest and principal and in the market's
perception of its creditworthiness also affect the market value of that issuer's
debt securities.
Management of the Funds
The Montgomery Funds (the "Trust") has a Board of Trustees that establishes its
Funds' policies and supervises and reviews their management. Day-to-day
operations of the Funds are administered by the officers of the Trust and by the
Manager pursuant to the terms of an investment management agreement with each
Fund.
Montgomery Asset Management, LLC is the Funds' Manager. The Manager, a Delaware
limited liability company, is a subsidiary of Commerzbank AG. The Manager was
formed in February 1997 as an investment adviser registered as such with the
SEC under the Investment Advisers Act of 1940, as amended. It advises private
accounts as well as the Funds. Commerzbank, the third largest publicly held
commercial bank in Germany, has total assets of approximately $268 billion.
Commerzbank and its affiliates had over $79 billion in assets under management
as of June 30, 1997. Commerzbank's asset management operations involve more than
1,000 employees in 13 countries worldwide.
On July 31, 1997, Montgomery Asset Management, L.P., the former manager to the
Funds, completed the sale of substantially all of its assets to the Manager. At
a special meeting of shareholders on June 23, 1997, the shareholders of each
Fund approved a new Investment Management Agreement with the Manager, effective
July 31, 1997 for an initial two-year period.
Portfolio Managers
Montgomery Emerging Markets Fund
Josephine S. Jimenez, CFA, is a managing director and senior portfolio manager.
From 1988 through 1991, Ms. Jimenez worked at Emerging Markets Investors
Corporation/Emerging Markets Management in Washington, D.C., as senior analyst
and portfolio manager.
14
<PAGE>
Bryan L. Sudweeks, Ph.D., CFA, is a managing director and senior portfolio
manager. Before joining the Manager, he was a senior analyst and portfolio
manager at Emerging Markets Investors Corporation/Emerging Markets Management in
Washington, D.C. Previously, he was a Professor of International Finance and
Investments at George Washington University and served as Adjunct Professor of
International Investments from 1988 until May 1991.
Angeline Ee is a portfolio manager. From 1990 until joining the Manager in July
1994, Ms. Ee was an Investment Manager with AIG Investment Corp. in Hong Kong.
From June 1989 until September 1990, Ms. Ee was a co-manager of a portfolio of
Asian equities and bonds at Chase Manhattan Bank in Singapore.
Frank Chiang is a portfolio manager. From 1993 until joining the Manager in
1996, Mr. Chiang was managing director and portfolio manager at TCW Asia Ltd. in
Hong Kong.
Jesus Isidoro Duarte is a regional portfolio manager for the Manager responsible
for the Latin American markets. Mr. Duarte began his investment career in 1980.
He joined the Manager from Latinvest Management Co. in Brazil, where he was
Director and Vice President responsible for research and portfolio management
for the firm's Latin American Funds. Prior to Latinvest, Mr. Duarte worked at
W.I. Carr in Tokyo as a securities analyst of Japanese equities. He is fluent in
Spanish and Japanese, and conversant in French and Portuguese. Mr. Duarte has a
Bachelor of Arts Degree in International Relations and a minor in Business
Administration from the University of Redlands in California and has
successfully completed the Japanese Language Institute's two-year program at the
Sophia University in Tokyo.
Montgomery Equity Income Fund
John H. Brown, CFA, is a managing director and senior portfolio manager.
Preceding his arrival at the Manager in May 1994, Mr. Brown was an analyst and
portfolio manager at Merus Capital Management in San Francisco from June 1986.
Montgomery Small Cap Fund
Stuart O. Roberts is a managing director and senior portfolio manager. For the
five years preceding this Fund's inception in 1990, Mr. Roberts was a portfolio
manager and analyst at Founders Asset Management in Denver, where he managed
three public mutual Funds.
Jerome C. (Cam) Philpott, CFA, is a portfolio manager. Before joining the
Manager, Mr. Philpott was a securities analyst with Boettcher & Company in
Denver from 1988 to 1991.
Bradford D. Kidwell is a portfolio manager. He joined the Manager in 1991 from
the position he held since 1989 as the sole general partner and portfolio
manager of Oasis Financial Partners, an affiliate of the Distributor that
invested in savings and loans. Before then, he covered the savings and loan
industry for Dean Witter Reynolds from 1987 to 1989.
Management Fees and Other Expenses
The Manager provides the Funds with advice on buying and selling securities,
manages the Funds' investments, including the placement of orders for portfolio
transactions, furnishes the Funds with office space and certain administrative
services and provides personnel needed by the Funds with respect to the
Manager's responsibilities under the Manager's Investment Management Agreement
with each Fund. The Manager also compensates the members of the Trust's Board of
Trustees who are interested persons of the Manager, and assumes the cost of
printing prospectuses and shareholder reports for dissemination to prospective
investors. As compensation, each Fund pays the Manager a management fee (accrued
daily but paid when requested by the Manager) based upon the value of the
average daily net assets of that Fund, according to the following table.
The management fees for the Funds are higher than for most mutual Funds.
Average Daily Net Assets Management Fee
(Annual Rate)
Emerging Markets Fund First $250 million 1.25%
Over $250 million 1.00%
Equity Income Fund First $500 million 0.60%
Over $500 million 0.50%
Small Cap Fund First $250 million 1.00%
Over $250 million 0.80%
15
<PAGE>
The Manager also serves as the Funds' Administrator (the "Administrator"). The
Administrator performs services with regard to various aspects of each Fund's
administrative operations. As compensation, the Funds pay the Administrator a
monthly fee at the following annual rates: Equity Income Fund pays seven
one-hundredths of one percent (0.07%) of average daily net assets (0.06% of
average daily net assets over $500 million); each of the Small Cap and Emerging
Markets Fund pays seven one-hundredths of one percent (0.07%) of average daily
net assets (0.06% of daily net assets over $250 million).
Each Fund is responsible for its own operating expenses including, but not
limited to: the Manager's fees; taxes, if any; brokerage and commission
expenses, if any; interest charges on any borrowings; transfer agent,
administrator, custodian, legal and auditing fees; shareholder servicing fees
including fees to third-party servicing agents; fees and expenses of Trustees
who are not interested persons of the Manager; salaries of certain personnel;
costs and expenses of calculating its daily net asset value; costs and expenses
of accounting, bookkeeping and record keeping required under the Investment
Company Act; insurance premiums; trade association dues; fees and expenses of
registering and maintaining registration of its shares for sale under federal
and applicable state securities laws; all costs associated with shareholders
meetings and the preparation and dissemination of proxy materials, except for
meetings called solely for the benefit of the Manager or its affiliates;
printing and mailing prospectuses, statements of additional information and
reports to shareholders; and other expenses relating to that Fund's operations,
plus any extraordinary and nonrecurring expenses that are not expressly assumed
by the Manager.
Rule 12b-1 adopted by the Securities and Exchange Commission (the "SEC") under
the Investment Company Act permits an investment company directly or indirectly
to pay expenses associated with the distribution of its shares ("distribution
expenses") in accordance with a plan adopted by the investment company's Board
of Trustees and approved by its shareholders. Pursuant to that Rule, the Trust's
Board of Trustees and the initial shareholder of the Class P shares of each Fund
have approved, and each Fund has entered into, a Share Marketing Plan (the
"Plan") with the Distributor, as the distribution coordinator, for the Class P
shares. Under the Plan, each Fund will pay distribution fees to the Distributor
at an annual rate of up to 0.25% of the Fund's aggregate average daily net
assets attributable to its Class P shares, to reimburse the Distributor for its
distribution costs with respect to that Class.
The Plan provides that the Distributor may use the distribution fees received
from the Class to pay for the distribution expenses of that Class, including,
but not limited to (i) incentive compensation paid to the directors, officers
and employees of, agents for and consultants to, the Distributor or any other
broker-dealer or financial institution that engages in the distribution of that
Class; and (ii) compensation to broker-dealers, financial institutions or other
persons for providing distribution assistance with respect to that Class.
Distribution fees may also be used for (i) marketing and promotional activities,
including, but not limited to, direct mail promotions and television, radio,
newspaper, magazine and other mass media advertising for that Class; (ii) costs
of printing and distributing prospectuses, statements of additional information
and reports of the Funds to prospective investors in that Class; (iii) costs
involved in preparing, printing and distributing sales literature pertaining to
the Funds and that Class; and (iv) costs involved in obtaining whatever
information, analysis and reports with respect to marketing and promotional
activities that the Funds may, from time to time, deem advisable with respect to
the distribution of that Class. Distribution fees are accrued daily and paid
monthly, and are charged as expenses of the Class P shares as accrued.
In adopting the Plan, the Board of Trustees determined that there was a
reasonable likelihood that the Plan would benefit the Funds and the shareholders
of Class P shares. Information with respect to distribution revenues and
expenses is presented to the Board of Trustees quarterly for their consideration
in connection with their deliberations as to the continuance of the Plan. In
their review of the Plan, the Board of Trustees are asked to take into
consideration expenses incurred in connection with the separate distribution of
the Class P shares. The Class P shares are not obligated under the Plan to pay
any distribution expenses in excess of the distribution fee. Thus, if the Plan
was terminated or otherwise not continued, no amounts (other than current
amounts accrued but not yet paid) would be owed by the Class to the Distributor.
The distribution fee attributable to the Class P shares is designed to permit an
investor to purchase Class P shares through financial planners, retirement and
pension plan administrators, broker-dealers and other financial intermediaries
without the assessment of a front-end sales charge and at the same time to
permit the Distributor to compensate those persons on an ongoing basis in
connection with the sale of the Class P shares.
The Plan provides that it shall continue in effect from year to year provided
that a majority of the Board of Trustees of the Trust, including a majority of
the Trustees who are not "interested persons" of the Trust (as defined in the
Investment Company Act) and who have no direct or indirect financial interest in
the operation of the Plan or any agreement related to the Plan (the "Independent
Trustees"), vote annually to continue the Plan. The Plan may be terminated at
any time by vote of a majority of the independent Trustees or of a majority of
the outstanding shares (as defined in the Investment Company Act) of the Class P
shares.
All distribution fees paid by the Funds under the Plan will be paid in
accordance with Rule 2830 of the NASD Rules of Conduct.
For certain Funds, the Manager has agreed to reduce its management fee if
necessary to keep total annual operating expenses (excluding the Rule 12b-1 fee)
at or below the following percentages of each Fund's average net assets: the
Equity Income Fund, eighty-five one-hundredths of one percent (0.85%); the Small
Cap Fund, one and four-tenths of one percent (1.40%); the Emerging Markets Fund,
one and nine-tenths of one percent (1.90%). The Manager also may voluntarily
reduce additional amounts to increase the return to a Fund's investors. The
Manager may terminate these voluntary reductions at any time. Any reductions
made by the Manager in its fees are subject to reimbursement by that Fund within
the following three years, provided that the Fund is able to effect such
reimbursement and remain in compliance with
16
<PAGE>
applicable expense limitations. The Manager generally seeks reimbursement for
the oldest reductions and waivers before payment by the Funds for fees and
expenses for the current year.
In addition, the Manager may elect to absorb operating expenses that a Fund is
obligated to pay to increase the return to that Fund's investors. If the Manager
performs a service or assumes an operating expense for which a Fund is obligated
to pay and the performance of such service or payment of such expense is not an
obligation of the Manager under the Investment Management Agreement, the Manager
is entitled to seek reimbursement from that Fund for the Manager's costs
incurred in rendering such service or assuming such expense. The Manager also
may compensate broker-dealers and other intermediaries that distribute a Fund's
shares as well as other service providers of shareholder and administrative
services. The Manager may also sponsor seminars and educational programs on the
Funds for financial intermediaries and shareholders.
The Manager considers a number of factors in determining which brokers or
dealers to use for each Fund's portfolio transactions. While these factors are
more fully discussed in the Statement of Additional Information, they include,
but are not limited to: reasonableness of commissions, quality of services and
execution and availability of research that the Manager may lawfully and
appropriately use in its investment management and advisory capacities. Provided
the Funds receive prompt execution at competitive prices, the Manager also may
consider sale of a Fund's shares as a factor in selecting broker-dealers for
that Fund's portfolio transactions. See "Execution of Portfolio Transactions" in
the Statement of Additional Information for further information regarding Fund
policies concerning execution of portfolio transactions.
Investors Fiduciary Trust Company, 127 West 10th Street, Kansas City, Missouri
64105, serves as the master transfer agent for the Funds (the "Master Transfer
Agent") and performs certain record keeping and accounting functions. The Master
Transfer Agent delegates certain transfer agent functions to DST Systems, Inc.,
P.O. Box 419073, Kansas City, Missouri 64141-6073, the Funds' transfer agent
(the "Transfer Agent"). Morgan Stanley Trust Company, located at One Pierrepont
Plaza, Brooklyn, New York 11201, serves as the Funds' principal custodian (the
"Custodian").
How To Contact The Funds
For information on the Funds or your account, call a Montgomery Shareholder
Service Representative at:
(800) 572-FUND (3863)
Mail your completed application, any checks, investment or redemption
instructions and correspondence to:
Regular Mail Express Mail or Overnight Service
The Montgomery Funds The Montgomery Funds
P.O. Box 419073 210 West 10th Street, 8th Floor
Kansas City, MO 64141-6073 Kansas City, MO 64105
Visit the Montgomery World Wide Web Site at:
www.xperts.montgomery.com/1
How To Invest In The Funds
The Funds' shares are offered only through financial intermediaries and
financial professionals, with no sales load, at their next-determined net asset
value after receipt of an order with payment. The Funds' shares are offered for
sale by Fund Distributor, Inc., the Funds' Distributor, 101 California Street,
San Francisco, California 94111, (800) 572-3863, and through selected securities
brokers and dealers.
If an order, together with payment in proper form, is received by the Transfer
Agent, the Distributor, or certain administrators of 401(k) and other retirement
plans by 4:00 p.m., New York time, on any day that the New York Stock Exchange
("NYSE") is open for trading, Fund shares will be purchased at the Fund's
next-determined net asset value. Orders for Fund shares received after the
Funds' cutoff times will be purchased at the next-determined net asset value
after receipt of the order.
The minimum initial investment in each Fund is $1,000 (including IRAs) and $100
for subsequent investments. The Manager or the Distributor, in its discretion,
may waive these minimums. If you buy shares through a broker or investment
adviser instead of directly from the Distributor, different minimum investment
requirements may apply. The Funds do not accept third party checks or cash
investments. Checks must be in U.S. dollars and, to avoid fees and delays, drawn
only on banks located in the U.S. Purchases may also be made in certain
circumstances by payment of securities. See the Statement of Additional
Information for further details.
Initial Investments
Minimum Initial Investment (including IRAs):..............................$1,000
Initial Investments by Check
o Complete the Account Application. Tell us in which Fund(s) you want to
invest and make your check payable to The Montgomery Funds.
17
<PAGE>
o A charge may be imposed on checks that do not clear.
Initial Investments by Wire
o Call the Transfer Agent to tell them you intend to make your initial
investment by wire. Provide the Transfer Agent with your name, dollar
amount to be invested and Fund(s) in which you want to invest. They will
provide you with further instructions to complete your purchase. Complete
information regarding your account must be included in all wire
instructions to ensure accurate handling of your investment.
o A completed Account Application must be sent to the Transfer Agent by
facsimile. The Transfer Agent will provide you with its FAX number over the
phone.
o Request your bank to transmit immediately available funds by wire for
purchase of shares in your name to the following:
Investors Fiduciary Trust Company
ABA #101003621
For: DST Systems, Inc.
Account #7526601
Attention: The Montgomery Funds
For Credit to: (shareholder(s) name)
Shareholder Account Number: (shareholder(s) account number)
Name of Fund: (Montgomery Fund name)
o Your bank may charge a fee for any wire transfers.
o The Funds and the Distributor each reserve the right to reject any purchase
order in whole or in part.
Initial Investments by Telephone
You are eligible to make an initial investment into a new Fund by telephone
under the following conditions:
o You must be a shareholder in another Montgomery Fund.
o You must have been a shareholder for at least 30 days.
o Your existing account registration will be duplicated in the new Fund.
o Your initial telephone purchase into the new Fund must meet initial
investment minimums and is limited to the combined aggregate net asset
value of your existing accounts or $10,000, whichever is less.
o The Fund must receive your check or wire transfer within three business
days of the telephone purchase.
o The Fund reserves the right to collect any losses to the Fund from the
shareholder's existing account(s) that result from a telephone purchase not
funded within three business days.
Subsequent Investments
Minimum Subsequent Investment (including IRAs):.............................$100
Subsequent Investments by Check
o Make your check payable to The Montgomery Funds. Enclose an investment stub
with your check. If you do not have an investment stub, mail your check
with written instructions indicating the Fund name and account number to
which your investment should be credited.
o A charge may be imposed on checks that do not clear.
Subsequent Investments by Wire
o You do not need to contact the Transfer Agent prior to making subsequent
investments by wire. Instruct your bank to wire funds to the Transfer
Agent's affiliated bank by using the bank wire information under "Initial
Investments by Wire."
Subsequent Investments by Telephone
o Shareholders are automatically eligible to make telephone purchases. To
make a purchase, call the Transfer Agent at (800) 572-FUND (3863) before
the Fund cutoff time.
o Shares for IRAs may not be purchased by phone.
o The maximum telephone purchase is an amount up to five times your account
value on the previous day.
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<PAGE>
o Payments for shares purchased must be received by the Transfer Agent within
three business days after the purchase request. Write your confirmed
purchase number on your check or include it in your wire instructions.
o You should do one of the following to ensure payment is received in time:
o Transfer funds directly from your bank account by sending a
letter and a voided check or deposit slip (for a savings
account) to the Transfer Agent.
o Send a check by overnight or second day courier service.
o Instruct your bank to wire funds to the Transfer Agent's
affiliated bank by using the bank wire information under the
section titled "Initial Investments by Wire."
Automatic Account Builder ("AAB")
o AAB will be established on existing accounts only. You may not use an AAB
investment to open a new account. The minimum automatic investment amount
is each Fund's subsequent investment minimum.
o Your bank must be a member of the Automated Clearing House.
o To establish AAB, attach a voided check (checking account) or preprinted
deposit slip (savings account) from your bank account to your Montgomery
account application or your letter of instruction. Investments will
automatically be transferred into your Montgomery account from your
checking or savings account.
o Investments may be transferred either monthly or quarterly on or up to two
business days before the 5th or 20th day of the month. If no day is
specified on your account application or your letter of instruction, the
20th of each month will be selected.
o You should allow 20 business days for this service to become effective.
o You may cancel your AAB at any time by sending a letter to the Transfer
Agent. Your request will be processed upon receipt.
Payroll Deduction
o Investments through payroll deduction will be established on existing
accounts only. You may not use payroll deduction to open a new account. The
minimum payroll deduction amount for each Fund is $100 per payroll
deduction period.
o You may automatically deposit a designated amount of your paycheck directly
into a Montgomery Fund account.
o Please call the Transfer Agent to receive instructions to establish this
service.
Telephone Transactions
You agree to reimburse the Funds for any expenses or losses incurred in
connection with transfers from your accounts, including any caused by your
bank's failure to act in accordance with your request or its failure to honor
your debit. If your bank makes erroneous payments or fails to make payment after
shares are purchased on your behalf, any such purchase may be canceled and this
privilege terminated immediately. This privilege may be discontinued by the
Funds at any time upon 30-days' written notice, or by you at any time by written
notice to the Funds. Your request will be processed upon receipt.
Although Fund shares are priced at the net asset value next determined after
receipt of a purchase request, shares are not purchased until payment is
received. Should payment not be received when required, the Transfer Agent will
cancel the telephone purchase request and you may be responsible for any losses
incurred by a Fund. The Funds and the Transfer Agent will not be liable for
following instructions communicated by telephone reasonably believed to be
genuine. The Funds employ reasonable procedures to confirm that instructions
communicated by telephone are genuine. These procedures include recording
certain telephone calls, sending a confirmation and requiring the caller to give
a special authorization number or other personal information not likely to be
known by others. The Fund and Transfer Agent may be liable for any losses due to
unauthorized or fraudulent telephone transactions only if such reasonable
procedures are not followed.
Retirement Plans
Shares of the Funds are available for purchase by any retirement plan, including
Keogh plans, 401(k) plans, 403(b) plans and IRAs. Certain of the Funds are
available for purchase through administrators for retirement plans. Investors
who purchase shares as part of a retirement plan should address inquiries and
seek investment servicing from their plan administrators. Plan administrators
may receive compensation from the Funds for performing shareholder services.
19
<PAGE>
Share Certificates
Share certificates will not be issued by the Funds. All shares are held in
non-certificated form registered on the books of the Funds and the Transfer
Agent for the account of the shareholder.
How to Redeem an Investment in the Funds
The Funds will redeem all or any portion of an investor's outstanding shares
upon request. Redemptions can be made on any day that the NYSE is open for
trading. The redemption price is the net asset value per share next determined
after the shares are validly tendered for redemption and such request is
received by the Transfer Agent or, in the case of repurchase orders, securities
dealers. Payment of redemption proceeds is made promptly regardless of when
redemption occurs and normally within three days after receipt of all documents
in proper form, including a written redemption order with appropriate signature
guarantee. Redemption proceeds will be mailed or wired in accordance with the
shareholder's instructions. The Funds may suspend the right of redemption under
certain extraordinary circumstances in accordance with the rules of the
Securities and Exchange Commission (SEC). In the case of shares purchased by
check and redeemed shortly after the purchase, the Transfer Agent will not mail
redemption proceeds until 15 days from the purchase date. Shares tendered for
redemptions through brokers or dealers (other than the Distributor) may be
subject to a service charge by such brokers or dealers. Procedures for
requesting a redemption are set forth below.
Redeeming by Written Instruction
o Write a letter giving your name, account number, the name of the Fund from
which you wish to redeem and the dollar amount or number of shares you wish
to redeem.
o The letter must be signed the same way your account is registered. If you
have a joint account, all holders of the account must sign.
o Signature guarantee your letter if you want the redemption proceeds to go
to a party other than the account owner(s), your predesignated bank account
or if the dollar amount of the redemption exceeds $50,000. Signature
guarantees may be provided by an eligible guarantor institution such as a
commercial bank, an NASD member firm such as a stock broker, a savings
association or national securities exchange. Contact the Transfer Agent for
more information.
o If you do not have a predesignated bank account and want to wire your
redemption proceeds, include a voided check or deposit slip with your
letter. The minimum amount that may be wired is $500 (wire charges, if any,
will be deducted from redemption proceeds). The Fund reserves the right to
permit lesser wire amounts or fees in the Manager's discretion.
Redeeming by Telephone
o Unless you have declined telephone redemption privileges on your New
Account application, you may redeem shares up to $50,000 by calling the
Transfer Agent before the Fund cutoff time. This service is not available
for IRA accounts.
o If you included bank wire information on your application or made
subsequent arrangements to accommodate bank wire redemptions, you may
request that the Transfer Agent wire your redemption proceeds to your bank
account. Allow at least two business days for redemption proceeds to be
credited to your bank account. If you want to wire your redemption proceeds
to arrive at your bank on the same business day (subject to bank cutoff
times), there is a $10 fee.
o Telephone redemption privileges will be suspended 30 days after an address
change. All redemption requests during this period must be in writing with
a guaranteed signature.
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<PAGE>
o Telephone redemption privileges may be canceled after an account is opened
by instructing the Transfer Agent in writing. Your request will be
processed upon receipt.
By establishing telephone redemption privileges, a shareholder authorizes the
Funds and the Transfer Agent to act upon the instruction of the shareholder or
his or her designee by telephone to redeem from the account for which such
service has been authorized and transfer the proceeds to a bank or other account
designated in the authorization. When a shareholder appoints a designee on the
New Account application or by other written authorization, the shareholder
agrees to be bound by the telephone redemption instructions given by the
shareholder's designee. The Funds may change, modify or terminate these
privileges at any time upon 60-days' notice to shareholders. The Funds will not
be responsible for any loss, damage, cost or expense arising out of any
transaction that appears on the shareholder's confirmation after 30 days
following mailing of such confirmation. See the discussion of Fund telephone
procedures and liability under "Telephone Transactions."
Shareholders may experience delays in exercising telephone redemption privileges
during periods of abnormal marketactivity. During periods of volatile economic
or market conditions, shareholders may wish to consider transmitting redemption
orders by telegram (not available for IRAs) or overnight courier.
Systematic Withdrawal Plan
Under a Systematic Withdrawal Plan, a shareholder with an account value of
$1,000 or more in a Fund may receive (or have sent to a third party) periodic
payments (by check or wire). The minimum payment amount is $100 from each Fund
account. Payments may be made either monthly or quarterly on the 1st of each
month. Depending on the form of payment requested, shares will be redeemed up to
five business days before the redemption proceeds are scheduled to be received
by the shareholder. The redemption may result in the recognition of gain or loss
for income tax purposes.
Small Accounts
Due to the relatively high cost of maintaining smaller accounts, each Fund will
redeem shares from any account if at any time, because of redemptions by the
shareholder, the total value of a shareholder's account is less than $1,000. If
a Fund decides to make an involuntary redemption, the shareholder will first be
notified that the value of the shareholder's account is less than the minimum
level and will be allowed 30 days to make an additional investment to bring the
value of that account at least to the minimum investment required to open an
account before the Fund takes any action.
Exchange Privileges And Restrictions
You may exchange shares from another Fund with the same registration, Taxpayer
Identification number and address. An exchange may result in a recognized gain
or loss for income tax purposes. See the discussion of telephone procedures and
limitations of liability under "Telephone Transactions."
Purchasing and Redeeming Shares by Exchange
o You are automatically eligible to make telephone exchanges with your
Montgomery account.
o Exchange purchases and redemptions will be processed using the
next-determined net asset value (with no sales charge or exchange fee)
after your request is received. Your request is subject to the Funds'
cutoff times.
o Exchange purchases must meet the minimum investment requirements of the
Fund you intend to purchase.
o You may exchange for shares of a Fund only in states where that Fund's
shares are qualified for sale and only for Funds offered by this
Prospectus.
o You may not exchange for shares of a Fund that is not open to new
shareholders unless you have an existing account with that Fund.
o Because excessive exchanges can harm a Fund's performance, the Trust
reserves the right to terminate your exchange privileges if you make more
than four exchanges out of any one Fund during a 12-month period. The Fund
may also refuse an exchange into a Fund from which you have redeemed shares
within the previous 90 days (accounts under common control and accounts
with the same Taxpayer Identification number will be counted together). A
shareholder's exchanges may be restricted or refused if a Fund receives, or
the Manager anticipates, simultaneous orders affecting significant portions
of that Fund's assets and, in particular, a pattern of exchanges coinciding
with a "market timing" strategy. The Trust reserves the right to refuse
exchanges by any person or group if, in the Manager's judgment, a Fund
would be unable to effectively invest the money in accordance with its
investment objective and policies, or would otherwise be potentially
adversely affected. Although the Trust attempts to provide prior notice to
affected shareholders when it is reasonable to do so, they may impose these
restrictions at any time. The exchange limit may be modified for accounts
in certain institutional retirement plans to conform to plan exchange
limits and U.S. Department of Labor regulations (for those limits, see plan
materials). The Trust reserves the right to terminate or modify the
exchange privileges of Fund shareholders in the future.
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<PAGE>
Brokers and Other Intermediaries
Investing Through Securities Brokers, Dealers and Financial Intermediaries
Investors may purchase shares of a Fund from selected securities brokers,
dealers or through financial intermediaries such as benefit plan administrators.
Investors should contact these agents directly for appropriate instructions, as
well as information pertaining to accounts and any service or transaction fees
that may be charged by these agents. Purchase orders through securities brokers,
dealers and other financial intermediaries are effected at the next-determined
net asset value after receipt of the order by such agent, provided the agent
transmits such order on a timely basis to the Transfer Agent so that it is
received by 4 p.m. New York time, on days that the Fund issues shares. Orders
received after that time will be purchased at the next-determined net asset
value. To the extent that these agents perform shareholder servicing activities
for the Fund, they may receive fees from the Fund for such services.
Redemption Orders Through Brokerage Accounts
Shareholders also may sell shares back to the Funds by wire or telephone through
the Distributor or selected securities brokers or dealers. Shareholders should
contact their securities broker or dealer for appropriate instructions and for
information concerning any transaction or service fee that may be imposed by the
broker or dealer. Shareholders are entitled to the net asset value next
determined after receipt of a redemption order by such broker-dealer, provided
the broker-dealer transmits such order on a timely basis to the Transfer Agent
so that it is received by 4 p.m., New York time on a day that the Fund redeems
shares. Orders received after that time are entitled to the net asset value next
determined after receipt.
How Net Asset Value Is Determined
The net asset value of each Fund is determined once daily as of 4 p.m. New York
time, on each day that the NYSE is open for trading. Per-share net asset value
is calculated by dividing the value of each Fund's total net assets by the total
number of that Fund's shares then outstanding.
As more fully described in the Statement of Additional Information, portfolio
securities are valued using current market valuations: either the last reported
sales price or, in the case of securities for which there is no reported last
sale and fixed-income securities, the mean between the closing bid and asked
price. Securities for which market quotations are not readily available or that
are illiquid are valued at their fair values as determined in good faith under
the supervision of the Trust's officers, and by the Manager and the Pricing
Committee of the Board, respectively, in accordance with methods that are
specifically authorized by the Board. Short-term obligations with maturities of
60 days or less are valued at amortized cost as reflecting fair value.
The value of securities denominated in foreign currencies and traded on foreign
exchanges or in foreign markets will be translated into U.S. dollars at the last
price of their respective currency denomination against U.S. dollars quoted by a
major bank or, if no such quotation is available, at the rate of exchange
determined in accordance with policies established in good faith by the Board.
Because the value of securities denominated in foreign currencies must be
translated into U.S. dollars, fluctuations in the value of such currencies in
relation to the U.S. dollar may affect the net asset value of Fund shares even
without any change in the foreign-currency denominated values of such
securities.
Because foreign securities markets may close before the Funds determine their
net asset values, events affecting the value of portfolio securities occurring
between the time prices are determined and the time the Funds calculate their
net asset values may not be reflected unless the Manager, under supervision of
the Board, determines that a particular event would materially affect a Fund's
net asset value.
Dividends And Distributions
<TABLE>
Each Fund distributes substantially all of its net investment income and net
capital gains to shareholders each year. The amount and frequency of Fund
distributions are not guaranteed and are at the discretion of the Board.
Currently, the Funds intend to distribute according to the following schedule:
<CAPTION>
Income Dividends Capital Gains
<S> <C> <C>
Emerging Markets Fund and Declared and paid in the last quarter of Declared and paid in the last
Small Cap Fund each year* quarter of each year*
Equity Income Fund Declared and paid on or about the last Declared and paid in the last
business day of each quarter. quarter of each year*
<FN>
* Additional distributions, if necessary, may be made following each Fund's
fiscal year end (June 30) in order to avoid the imposition of tax on a
Fund.
</FN>
</TABLE>
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<PAGE>
Unless investors request cash distributions in writing at least seven business
days before a distribution, or on the Account Application, all dividends and
other distributions will be reinvested automatically in additional Class P
shares of the applicable Fund and credited to the shareholder's account at the
closing net asset value on the reinvestment date.
Distributions Affect a Fund's Net Asset Value
Distributions are paid to you as of the record date of a distribution of a Fund,
regardless of how long you have held the shares. Dividends and capital gains
awaiting distribution are included in each Fund's daily net asset value. The
share price of a Fund drops by the amount of the distribution, net of any
subsequent market fluctuations. For example, assume that on December 31, the
Equity Income Fund paid a dividend in the amount of $0.50 per share. If the
Equity Income Fund's share price was $10.00 on December 30, the Fund's share
price on December 31 would be $9.50, barring market fluctuations.
"Buying a Dividend"
If you buy shares of a Fund just before a distribution, you will pay the full
price for the shares and receive a portion of the purchase price back as a
taxable distribution. This is called "buying a dividend." In the example above,
if you bought shares on December 30, you would have paid $10.00 per share. On
December 31, the Fund would pay you $0.50 per share as a dividend, and your
shares would now be worth $9.50 per share. Unless your account is a tax-deferred
account, dividends paid to you would be included in your gross income for tax
purposes even though you may not have participated in the increase of net asset
value of the Fund, regardless whether you reinvested the dividends.
Taxation
Each Fund has elected and intends to continue to qualify to be treated as a
regulated investment company under Subchapter M of the Internal Revenue Code of
1986, as amended (the "Code"), by distributing substantially all of its net
investment income and net capital gains to its shareholders and meeting other
requirements of the Code relating to the sources of its income and
diversification of assets. Accordingly, the Funds generally will not be liable
for federal income tax or excise tax based on net income except to the extent
their earnings are not distributed or are distributed in a manner that does not
satisfy the requirements of the Code. If a Fund is unable to meet certain Code
requirements, it may be subject to taxation as a corporation. Funds investing in
foreign securities also may incur tax liability to the extent they invest in
"passive foreign investment companies." See "Portfolio Securities" and the
Statement of Additional Information.
For federal income tax purposes, any dividends derived from net investment
income and any excess of net short-term capital gain over net long-term capital
loss that investors (other than certain tax-exempt organizations that have not
borrowed to purchase Fund shares) receive from the Funds are considered ordinary
income. Part of the distributions paid by the Funds may be eligible for the
dividends-received deduction allowed to corporate shareholders under the Code.
Distributions of the excess of net long-term capital gain over net short-term
capital loss from transactions of a Fund are treated by shareholders as
long-term capital gains regardless of the length of time the Fund's shares have
been owned. Distributions of income and capital gains are taxed in the manner
described above, whether they are taken in cash or are reinvested in additional
shares of the Funds.
Each Fund will inform its investors of the source of their dividends and
distributions at the time they are paid, and will promptly after the close of
each calendar year advise investors of the tax status of those distributions and
dividends. Investors (including tax-exempt and foreign investors) are advised to
consult their own tax advisors regarding the particular tax consequences to them
of an investment in shares of the Funds. Additional information on tax matters
relating to the Funds and their shareholders is included in the Statement of
Additional Information.
General Information
The Trust
All of the Funds are series of The Montgomery Funds, a Massachusetts business
trust organized on May 10, 1990. The Agreement and Declarations of Trust permits
its Board to issue an unlimited number of full and fractional shares of
beneficial interest, $.01 par value, in any number of series. The assets and
liabilities of each series within the Trust are separate and distinct from each
other series.
This Prospectus relates only to the Class P shares of the Funds. The Funds offer
other classes of shares to eligible investors and may in the future designate
other classes of shares for specific purposes.
Shareholder Rights
Shares issued by the Funds have no preemptive, conversion or subscription
rights. Each whole share is entitled to one vote as to any matter on which it is
entitled to vote and each fractional share is entitled to a proportionate
fractional vote. Shareholders have equal and exclusive rights as to dividends
and distributions as declared by each Fund and to the net assets of each Fund
upon liquidation or dissolution. Each Fund, as a separate series of its Trust,
votes separately on matters affecting only that Fund (e.g., approval of the
Investment Management Agreement); all series of the Trust vote as a single class
on matters affecting all series of the Trust jointly or that Trust as a whole
(e.g., election or removal of trustees). Voting rights are not cumulative, so
that the holders of more than 50% of the shares voting in any election of
Trustees can,
23
<PAGE>
if they so choose, elect all of the trustees of the Trust. Although the Trust is
not required and does not intend to hold annual meetings of shareholders, such
meetings may be called by the Trust's Board at its discretion, or upon demand by
the holders of 10% or more of the outstanding shares of the Trust for the
purpose of electing or removing trustees. Shareholders may receive assistance in
communicating with other shareholders in connection with the election or removal
of trustees pursuant to the provisions of Section 16(c) of the Investment
Company Act.
Performance Information
From time to time, the Funds may publish their total return, and, in the case of
certain Funds, current yield and tax equivalent yield in advertisements and
communications to investors. Performance data may be quoted separately for the
Class P shares as for the other classes. Total return information generally will
include a Fund's average annual compounded rate of return over the most recent
four calendar quarters and over the period from the Fund's inception of
operations. A Fund may also advertise aggregate and average total return
information over different periods of time. Each Fund's average annual
compounded rate of return is determined by reference to a hypothetical $1,000
investment that includes capital appreciation and depreciation for the stated
period according to a specific formula. Aggregate total return is calculated in
a similar manner, except that the results are not annualized. Total return
figures will reflect all recurring charges against each Fund's income.
Current yield as prescribed by the SEC is an annualized percentage rate that
reflects the change in value of a hypothetical account based on the income
received from the Fund during a 30-day period. It is computed by determining the
net change, excluding capital changes, in the value of a hypothetical
preexisting account having a balance of one share at the beginning of the
period. A hypothetical charge reflecting deductions from shareholder accounts
for management fees or shareholder services fees, for example, is subtracted
from the value of the account at the end of the period, and the difference is
divided by the value of the account at the beginning of the base period to
obtain the base period return. The result is then annualized. See "Performance
Information" in the Statement of Additional Information.
Investment results of the Funds will fluctuate over time, and any presentation
of the Funds' total return or current yield for any prior period should not be
considered as a representation of what an investor's total return or current
yield may be in any future period. The Funds' Annual Report contains additional
performance information and is available upon request and without charge by
calling (800) 572-FUND (3863).
Legal Opinion
The validity of shares offered by this Prospectus will be passed on by Paul,
Hastings, Janofsky & Walker LLP, 345 California Street, San Francisco,
California 94104.
Shareholder Reports and Inquiries
During the year, the Funds will send you the following information:
o Confirmation statements are mailed after every transaction that affects
your account balance, except for most money market transactions (monthly)
and preauthorized automatic investment, exchange and redemption services
(quarterly).
o Account statements are mailed after the close of each calendar quarter.
(Retain your fourth-quarter statement for your tax records.)
o Annual and semiannual reports are mailed approximately 60 days after June
30 and December 31.
o 1099 tax form(s) are mailed by January 31.
o Annual updated Prospectus is mailed to existing shareholders in October or
November.
Unless otherwise requested, only one copy of each shareholder report or other
material sent to shareholders will be mailed to each household with accounts
under common ownership and the same address regardless of the number of
shareholders or accounts at that household or address. Any questions should be
directed to The Montgomery Funds at (800) 572-FUND (3863).
Backup Withholding
Taxpayer Identification Number
Be sure to complete the Taxpayer Identification number (TIN) section of the New
Account application when you open an account. Federal tax law requires the Fund
to withhold 31% of taxable dividends, capital gains distributions and redemption
and exchange proceeds from accounts (other than those of certain exempt payees)
without a certified Social Security or Taxpayer Identification number and
certain other certified information or upon notification from the IRS or a
broker that withholding is required.
24
<PAGE>
A shareholder who does not have a TIN should apply for one immediately by
contacting the local office of the Social Security Administration or the IRS.
Backup withholding could apply to payments made to a shareholder's account while
awaiting receipt of a TIN. Special rules apply for certain entities. For
example, for an account established under the Uniform Gifts to Minors Act, the
TIN of the minor should be furnished. If a shareholder has been notified by the
IRS that he or she is subject to backup withholding because he or she failed to
report all interest and dividend income on his or her tax return and the
shareholder has not been notified by the IRS that such withholding will cease,
the shareholder should cross out the appropriate item on the New Account
application. Dividends paid to a foreign shareholder's account by a Fund may be
subject to up to 30% withholding instead of backup withholding.
A shareholder that is an exempt recipient should furnish a TIN and check the
appropriate box. Exempt recipients include certain corporations, certain
tax-exempt entities, tax-exempt pension plans and IRAs, governmental agencies,
financial institutions, registered securities and commodities dealers and
others. For further information, see Section 3406 of the Code and consult a tax
advisor.
This Prospectus is not an offering of the securities herein described in any
state in which the offering is unauthorized. No salesperson, dealer or other
person is authorized to give any information or make any representation other
than those contained in this Prospectus, the Statement of Additional Information
or in the Funds' official sales literature.
25
<PAGE>
GLOSSARY
Asset-backed securities. Asset backed securities are secured by and payable from
pools of assets, such as motor vehicle installment loan contracts, leases of
various types of real and personal property and receivables from revolving
credit (e.g., credit card) agreements.
Cash equivalents. Cash equivalents are short-term, interest-bearing instruments
or deposits and may include, for example, commercial paper, certificates of
deposit, repurchase agreements, bankers' acceptances, U.S. Treasury bills, bank
money market deposit accounts, master demand notes and money market mutual
Funds. These consist of high-quality debt obligations, certificates of deposit
and bankers' acceptances rated at least A-1 by S&P or Prime-1 by Moody's, or the
issuer has an outstanding issue of debt securities rated at least A by S&P or
Moody's, or are of comparable quality in the opinion of the Manager.
Collateral assets. These include cash, letters of credit, U.S. government
securities or other high-grade liquid debt or equity securities. Collateral
assets are separately identified and rendered unavailable for investment or
sale.
Collateralized Mortgage Obligations (CMOs). These are derivative
mortgage-related securities that separate the cash flows of mortgage pools into
different classes or tranches. Stripped mortgage securities are CMOs that
allocate different proportions of interest and principal payments on a pool of
mortgages. One class may receive all of the interest (the interest only, or IO
class) whereas another may receive all of the principal (principal only, or PO
class). The yield to maturity on any IO or PO class is extremely sensitive not
only to changes in interest rates but also to the rate of principal payments and
prepayments on underlying mortgages. In the most extreme cases, an IO class may
become worthless.
Convertible security. This is a fixed-income security (a bond or preferred
stock) that may be converted at a stated price within a specified period of time
into a certain quantity of the common stock of the same or a different issuer.
Convertible securities are senior to common stock in a corporation's capital
structure but are usually subordinated to similar non-convertible securities.
The price of a convertible security is influenced by the market value of the
underlying common stock.
Covered call option. A call option is "covered" if the Fund owns the underlying
securities, has the right to acquire such securities without additional
consideration, has collateral assets sufficient to meet its obligations under
the option or owns an offsetting call option.
Covered put option. A put option is "covered" if the Fund has collateral assets
with a value not less than the exercise price of the option or holds a put
option on the underlying security.
Depositary receipts include American Depositary Receipts (ADRs), European
Depositary Receipts (EDRs), Global Depositary Receipts (GDRs) and other similar
instruments. Depositary receipts are receipts typically issued in connection
with a U.S. or foreign bank or trust company and evidence ownership of
underlying securities issued by a foreign corporation.
Derivatives include forward currency exchange contracts, stock options, currency
options, stock and stock index options, futures contracts, swaps and options on
futures contracts on U.S. government and foreign government securities and
currencies.
Dollar roll transaction. A dollar roll transaction is similar to a reverse
repurchase agreement except that it requires a Fund to repurchase a similar
rather than the same security.
Duration. Traditionally, a debt security's "term to maturity" characterizes a
security's sensitivity to changes in interest rates. However, "term to maturity"
measures only the time until a debt security provides its final payment, taking
no account of prematurity payments. Most debt securities provide interest
("coupon") payments in addition to a final ("par") payment at maturity, and some
securities have call provisions allowing the issuer to repay the instrument in
full before maturity date, each of which affect the security's response to
interest rate changes. "Duration" is considered a more precise measure of
interest rate risk than "term to maturity." Determining duration may involve the
Manager's estimates of future economic parameters, which may vary from actual
future values. Fixed-income securities with effective durations of three years
are more responsive to interest rate fluctuations than those with effective
durations of one year. For example, if interest rates rise by 1%, the value of
securities having an effective duration of three years will generally decrease
by approximately 3%.
Emerging markets companies. A company is considered to be an emerging markets
company if its securities are principally traded in the capital market of an
emerging markets country; it derives at least 50% of its total revenue from
either goods produced or services rendered in emerging markets countries or from
sales made in such emerging markets countries, regardless of where the
securities of such companies are principally traded; or it is organized under
the laws of, and with a principal office in, an emerging markets country. An
emerging markets country is one having an economy and market that are or would
be considered by the World Bank or the United Nations to be emerging or
developing.
Equity derivative securities include, among other things, options on equity
securities, warrants and futures contracts on equity securities.
26
<PAGE>
Equity swaps. Equity swaps allow the parties to exchange the dividend income or
other components of return on an equity investment (e.g., a group of equity
securities or an index) for a component of return on another non-equity or
equity investment. Equity swaps transitions may be volatile and may present the
Fund with counterparty risks.
FHLMC. The Federal Home Loan Mortgage Corporation.
FNMA. The Federal National Mortgage Association.
Forward currency contracts. A forward currency contract is a contract
individually negotiated and privately traded by currency traders and their
customers and creates an obligation to purchase or sell a specific currency for
an agreed-upon price at a future date. The Funds generally do not enter into
forward contracts with terms greater than one year. A Fund generally enters into
forward contracts only under two circumstances. First, if a Fund enters into a
contract for the purchase or sale of a security denominated in a foreign
currency, it may desire to "lock in" the U.S. dollar price of the security by
entering into a forward contract to buy the amount of a foreign currency needed
to settle the transaction. Second, if the Manager believes that the currency of
a particular foreign country will substantially rise or fall against the U.S.
dollar, it may enter into a forward contract to buy or sell the currency
approximating the value of some or all of a Fund's portfolio securities
denominated in such currency. A Fund will not enter into a forward contract if,
as a result, it would have more than one-third of total assets committed to such
contracts (unless it owns the currency that it is obligated to deliver or has
caused its custodian to segregate Segregable Assets having a value sufficient to
cover its obligations). Although forward contracts are used primarily to protect
a Fund from adverse currency movements, they involve the risk that currency
movements will not be accurately predicted.
Futures and options on futures. An interest rate futures contract is an
agreement to purchase or sell debt securities, usually U.S. government
securities, at a specified date and price. For example, a Fund may sell interest
rate futures contracts (i.e., enter into a futures contract to sell the
underlying debt security) in an attempt to hedge against an anticipated increase
in interest rates and a corresponding decline in debt securities it owns. Each
Fund will have collateral assets equal to the purchase price of the portfolio
securities represented by the underlying interest rate futures contracts it has
an obligation to purchase.
GNMA. The Government National Mortgage Association.
Illiquid securities. The Funds treat any securities subject to restrictions on
repatriation for more than seven days and securities issued in connection with
foreign debt conversion programs that are restricted as to remittance of
invested capital or profit as illiquid. The Funds also treat repurchase
agreements with maturities in excess of seven days as illiquid. Illiquid
securities do not include securities that are restricted from trading on formal
markets for some period of time but for which an active informal market exists,
or securities that meet the requirements of Rule 144A under the Securities Act
of 1933 and that, subject to the review by the Board and guidelines adopted by
the Board, the Manager has determined to be liquid.
Investment grade. Investment-grade debt securities are those rated within the
four highest grades by S&P (at least BBB), Moody's (at least Baa) or Fitch (at
least Baa) or in unrated debt securities deemed to be of comparable quality by
the Manager using guidelines approved by the Board of Trustees.
Leverage. Some Funds may use leverage in an effort to increase return. Although
leverage creates an opportunity for increased income and gain, it also creates
special risk considerations. Leveraging also creates interest expenses that can
exceed the income from the assets retained.
Options on securities, securities indices and currencies. A Fund may purchase
call options on securities that it intends to purchase (or on currencies in
which those securities are denominated) in order to limit the risk of a
substantial increase in the market price of such security (or an adverse
movement in the applicable currency). A Fund may purchase put options on
particular securities (or on currencies in which those securities are
denominated) in order to protect against a decline in the market value of the
underlying security below the exercise price less the premium paid for the
option (or an adverse movement in the applicable currency relative to the U.S.
dollar). Prior to expiration, most options are expected to be sold in a closing
sale transaction. Profit or loss from the sale depends upon whether the amount
received is more or less than the premium paid plus transaction costs. A Fund
may purchase put and call options on stock indices in order to hedge against
risks of stock market or industry wide stock price fluctuations.
Repurchase agreement. With a repurchase agreement, a Fund acquires a U.S.
government security or other high-grade liquid debt instrument from a financial
institution that simultaneously agrees to repurchase the same security at a
specified time and price.
Reverse dollar roll transactions. When a Fund engages in a reverse dollar roll,
it purchases a security from a financial institution and concurrently agrees to
resell a similar security to that institution at a later date at an agreed-upon
price.
Reverse repurchase agreement. In a reverse repurchase agreement, a Fund sells to
a financial institution a security that it holds and agrees to repurchase at an
agreed-upon price and date.
S&P 500. Standard & Poor's 500 Composite Price Index.
Securities lending. A Fund may lend securities to brokers, dealers and other
financial organizations. Each securities loan is collateralized with collateral
assets in an amount at least equal to the current market value of the loaned
securities, plus accrued interest. There is a risk of delay in receiving
collateral or in recovering the securities loaned or even a loss of rights in
collateral should the borrower fail financially.
27
<PAGE>
U.S. government securities. These include U.S. Treasury bills, notes, bonds and
other obligations issued or guaranteed by the U.S. Government, its agencies or
instrumentalities.
A warrant. Typically, a warrant is a long-term option that permits the holder to
buy a specified number of shares of the issuer's underlying common stock at a
specified exercise price by a particular expiration date. A warrant not
exercised or disposed of by its expiration date expires worthless.
When-issued and forward commitment securities. The Funds may purchase U.S.
government or other securities on a "when-issued" basis and may purchase or sell
securities on a "forward commitment" or "delayed delivery" basis. The price is
fixed at the time the commitment is made, but delivery and payment for the
securities take place at a later date. When-issued securities and forward
commitments may be sold prior to the settlement date, but a Fund will enter into
when-issued and forward commitments only with the intention of actually
receiving or delivering the securities. No income accrues on securities that
have been purchased pursuant to a forward commitment or on a when-issued basis
prior to delivery to a Fund. At the time a Fund enters into a transaction on a
when-issued or forward commitment basis, it supports its obligation with
collateral assets equal to the value of the when-issued or forward commitment
securities and causes the collateral assets to be marked to market daily. There
is a risk that the securities may not be delivered and that the Fund may incur a
loss.
Zero coupon bonds. Zero coupon bonds are debt obligations that do not pay
current interest and are consequently issued at a significant discount from face
value. The discount approximates the total interest the bonds will accrue and
compound over the period to maturity or the first interest-payment date at a
rate of interest reflecting the market rate of interest at the time of issuance.
28
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Investment Manager
Montgomery Asset Management, LLC
101 California Street
San Francisco, California 94111
1-800-572-FUND
Distributor
Funds Distributor, Inc.
101 California Street
San Francisco, California 94111
1-800-572-FUND
Custodian
Morgan Stanley Trust Company
One Pierrepont Plaza
Brooklyn, New York 11201
Transfer Agent
DST Systems, Inc.
P.O. Box 419073
Kansas City, Missouri 64141-6073
1-800-572-FUND
Independent Auditors
Deloitte & Touche LLP
50 Fremont Street
San Francisco, California 94105
Legal Counsel
Paul, Hastings, Janofsky & Walker, LLP
345 California Street
San Francisco, California 94104
<PAGE>
Rule 497(e)
33-34841 and 811-6011
THE MONTGOMERY FUNDS
--------------------
MONTGOMERY GROWTH FUND
MONTGOMERY EQUITY INCOME FUND
MONTGOMERY SMALL CAP FUND
MONTGOMERY SMALL CAP OPPORTUNITIES FUND
MONTGOMERY MICRO CAP FUND
MONTGOMERY GLOBAL OPPORTUNITIES FUND
MONTGOMERY GLOBAL COMMUNICATIONS FUND
MONTGOMERY INTERNATIONAL GROWTH FUND
MONTGOMERY INTERNATIONAL SMALL CAP FUND
MONTGOMERY EMERGING ASIA FUND
MONTGOMERY EMERGING MARKETS FUND
MONTGOMERY LATIN AMERICA FUND
MONTGOMERY SELECT 50 FUND
MONTGOMERY ASSET ALLOCATION FUND
MONTGOMERY GLOBAL ASSET ALLOCATION FUND
MONTGOMERY SHORT DURATION GOVERNMENT BOND FUND
MONTGOMERY TOTAL RETURN BOND FUND
MONTGOMERY GOVERNMENT RESERVE FUND
MONTGOMERY FEDERAL TAX-FREE MONEY FUND
MONTGOMERY CALIFORNIA TAX-FREE INTERMEDIATE BOND FUND
MONTGOMERY CALIFORNIA TAX-FREE MONEY FUND
101 California Street
San Francisco, California 94111
1-800-572-FUND
--------------------
STATEMENT OF ADDITIONAL INFORMATION
June 30, 1997,
AS SUPPLEMENTED JULY 31, 1997
The Montgomery Funds and The Montgomery Funds II are open-end management
investment companies organized, respectively, as a Massachusetts and a Delaware
business trust (together, the "Trusts"), each having different series of shares
of beneficial interest. Each of the above-named funds is a series of The
Montgomery Funds, with the exception of the Montgomery Asset Allocation Fund,
which is a series of The Montgomery Funds II (each a "Fund" and, collectively,
the "Funds"). Prior to July 31, 1997, the Funds were managed by Montgomery Asset
Management, L.P. (the "Former Manager") and their share were distributed by
Montgomery Securities (the "Former Distributor"). On July 31, 1997, Montgomery
Asset Management, L.P. completed the sale of substantially all of its assets to
Montgomery Asset Management, LLC, a subsidiary of Commerzbank AG (the
"Manager"). At a special meeting of shareholders on June 23, 1997, the
shareholders of each Fund approved a new Investment Management Agreement with
the Manager, effective July 31, 1997 for an initial two-year period. Funds
Distributor, Inc. ("FDI"), which is not affiliated with Montgomery Asset
Management, LLC, has replaced Montgomery Securities as the distributor for the
Funds. Montgomery Asset Management, LLC, has also become the administrator for
the Funds.
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This Statement of Additional Information contains information in addition to
that set forth in the combined prospectuses for all Funds dated June 30, 1997
(with respect to the Class R shares), dated July 31, 1997 (with respect to the
Class P shares for various series) and dated November 12, 1996 (with respect to
the Class L shares for various series), and as each prospectus may be revised
from time to time (in reference to the appropriate Fund or Funds, the
"Prospectuses"). The Prospectuses provide the basic information a prospective
investor should know before purchasing shares of any Fund and may be obtained
without charge at the address or telephone number provided above. This Statement
of Additional Information is not a prospectus and should be read in conjunction
with the appropriate Prospectuses.
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TABLE OF CONTENTS
Page
----
THE TRUSTS...................................................................B-3
INVESTMENT OBJECTIVES AND POLICIES OF THE FUNDS..............................B-4
RISK FACTORS................................................................B-26
INVESTMENT RESTRICTIONS.....................................................B-33
DISTRIBUTIONS AND TAX INFORMATION...........................................B-36
TRUSTEES AND OFFICERS.......................................................B-43
INVESTMENT MANAGEMENT AND OTHER SERVICES....................................B-48
EXECUTION OF PORTFOLIO TRANSACTIONS.........................................B-55
ADDITIONAL PURCHASE AND REDEMPTION INFORMATION..............................B-58
DETERMINATION OF NET ASSET VALUE............................................B-60
PRINCIPAL UNDERWRITER.......................................................B-63
PERFORMANCE INFORMATION.....................................................B-64
GENERAL INFORMATION.........................................................B-72
FINANCIAL STATEMENTS........................................................B-81
Appendix A..................................................................B-90
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THE TRUSTS
The Montgomery Funds is an open-end management investment company organized
as a Massachusetts business trust on May 10, 1990, and The Montgomery Funds II
is an open-end management investment company organized as a Delaware business
trust on September 10, 1993. Both are registered under the Investment Company
Act of 1940, as amended (the "Investment Company Act"). The Trusts currently
offer shares of beneficial interest, $.01 par value per share, in various
series. Each series offers three classes of shares (Class R, Class P and Class
L).
This Statement of Additional Information pertains to twenty series of The
Montgomery Funds: Montgomery Growth Fund (the "Growth Fund"), Montgomery Equity
Income Fund (the "Equity Income Fund"), Montgomery Small Cap Fund (the "Small
Cap Fund"), Montgomery Small Cap Opportunities Fund (the "Small Cap
Opportunities Fund"), Montgomery Micro Cap Fund (the "Micro Cap Fund"),
Montgomery Global Opportunities Fund (the "Opportunities Fund"), Montgomery
Global Communications Fund (the "Communications Fund"), Montgomery International
Growth Fund (the "International Growth Fund"), Montgomery International Small
Cap Fund (the "International Small Cap Fund"), Montgomery Emerging Asia Fund
(the "Emerging Asia Fund"), Montgomery Emerging Markets Fund (the "Emerging
Markets Fund"), Montgomery Latin America Fund (the "Latin America Fund"),
Montgomery Select 50 Fund (the "Select 50 Fund"), Montgomery Global Asset
Allocation Fund (the "Global Asset Allocation Fund"), Montgomery Short Duration
Government Bond Fund (formerly called the "Montgomery Short Government Bond
Fund") (the "Short Fund"), Montgomery Government Reserve Fund (the "Reserve
Fund"), Montgomery Total Return Bond Fund (the "Total Return Bond Fund")
Montgomery Federal Tax-Free Money Fund (the "Federal Money Fund"), Montgomery
California Tax-Free Intermediate Bond Fund (the "California Intermediate Bond
Fund") and Montgomery California Tax-Free Money Fund (the "California Money
Fund"); as well as one series of The Montgomery Funds II, Montgomery Asset
Allocation Fund (the "Allocation Fund").
Throughout this Statement of Additional Information, certain Funds may be
referred to together using the following terms: the Small Cap, Small Cap
Opportunities, Micro Cap, Equity Income and Growth Funds as the "Domestic Equity
Funds"; the Emerging Asia, Emerging Markets, Latin America International Small
Cap and International Growth Funds as the "International Funds"; the
Opportunities and Communications Funds as the "Global Funds"; the Select 50,
Allocation and Global Asset Allocation Funds as the "Multi-Strategy Funds";the
Short, Reserve Total Return Bond, Federal Money, California Intermediate Bond
and California Money Funds as the "Fixed Income Funds"; the Federal Money,
California Intermediate Bond and California Money Funds as the "Tax-Free Funds";
the Reserve, Federal Money and California Money Funds as the "Money Market
Funds"; and all of the Funds other than the Tax- Free Funds as the "Taxable
Funds."
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Note that the two Trusts share responsibility for the accuracy of the
Prospectuses and this Statement of Additional Information, and that each Trust
may be liable for misstatements in the Prospectuses and the Statement of
Additional Information that relate solely to the other Trust.
INVESTMENT OBJECTIVES AND POLICIES OF THE FUNDS
The investment objectives and policies of the Funds are described in detail
in the Prospectus. The following discussion supplements the discussion in the
Prospectus.
Each Fund is a diversified series, except for the Tax-Free Funds, which are
nondiversified series, of either the Montgomery Funds or The Montgomery Funds
II. The achievement of each Fund's investment objective will depend upon market
conditions generally and on the Manager's analytical and portfolio management
skills.
The Asset Allocation Fund and the Global Asset Allocation Fund are
fund-of-funds. Other than U.S. government securities, neither the Asset
Allocation Fund nor the Global Asset Allocation Fund owns securities of their
own. Instead, each of Asset Allocation Fund and the Global Asset Allocation Fund
invests its assets in a number of funds of The Montgomery Funds family (each, an
"Underlying Fund"). Investors of the Asset Allocation Fund and the Global Asset
Allocation Fund should therefore review the discussion in this Statement of
Additional Information that relates to each Underlying Fund of the Asset
Allocation Fund and the Global Asset Allocation Fund.
Portfolio Securities
Depositary Receipts. The Domestic Equity, Select 50, International and
Global Funds may hold securities of foreign issuers in the form of American
Depositary Receipts ("ADRs"), European Depositary Receipts ("EDRs") and other
similar global instruments available in emerging markets, or other securities
convertible into securities of eligible issuers. These securities may not
necessarily be denominated in the same currency as the securities for which they
may be exchanged. Generally, ADRs in registered form are designed for use in
U.S. securities markets, and EDRs and other similar global instruments in bearer
form are designed for use in European securities markets. For purposes of these
Funds' investment policies, these Funds' investments in ADRs, EDRs and similar
instruments will be deemed to be investments in the equity securities
representing the securities of foreign issuers into which they may be converted.
Other Investment Companies. Each of the Equity Income, Select 50,
International, Global, and Fixed Income Funds may invest up to 10% of its total
assets in securities issued by other investment companies investing in
securities in which the Fund can
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<PAGE>
invest provided that such investment companies invest in portfolio securities in
a manner consistent with the Fund's investment objective and policies, except
for the Money Market Funds, which may so invest up to 35% of their total assets
(and, except for the Money Market Funds, not in money market funds). Applicable
provisions of the Investment Company Act require that a Fund limit its
investments so that, as determined immediately after a securities purchase is
made: (a) not more than 10% (or 35% for the Money Market Funds) of the value of
a Fund's total assets will be invested in the aggregate in securities of
investment companies as a group; and (b) either (i) a Fund and affiliated
persons of that Fund not own together more than 3% of the total outstanding
shares of any one investment company at the time of purchase (and that all
shares of the investment company held by that Fund in excess of 1% of the
company's total outstanding shares be deemed illiquid), or (ii) a Fund not
invest more than 5% of its total assets in any one investment company and the
investment not represent more than 3% of the total outstanding voting stock of
the investment company at the time of purchase. As a shareholder of another
investment company, a Fund would bear, along with other shareholders, its pro
rata portion of the other investment company's expenses, including advisory
fees. These expenses would be in addition to the advisory and other expenses
that Fund bears directly in connection with its own operations.
In accordance with applicable regulatory provisions of the State of
California, the Manager has agreed to waive its management fee with respect to
assets of the Funds that are invested in other open-end investment companies.
U.S. Government Securities. Because the Short and Reserve Funds invest a
substantial portion, if not all, of their net assets, and the Equity Income Fund
may invest a substantial portion of its net assets, in obligations issued or
guaranteed by the U.S. Government, its agencies or instrumentalities ("U.S.
Government securities"), these Funds generally will have a lower yield than if
they purchased higher yielding commercial paper or other securities with
correspondingly greater risk instead of U.S. Government securities.
Generally, the value of U.S. Government securities held by the Funds will
fluctuate inversely with interest rates. U.S. Government securities in which the
Funds may invest include debt obligations of varying maturities issued by the
U.S. Treasury or issued or guaranteed by an agency or instrumentality of the
U.S. Government, including the Federal Housing Administration ("FHA"), Farmers
Home Administration, Export-Import Bank of the United States, Small Business
Administration, Government National Mortgage Association ("GNMA"), General
Services Administration, Central Bank for Cooperatives, Federal Farm Credit
Bank, Farm Credit System Financial Assistance Corporation, Federal Home Loan
Banks, Federal Home Loan Mortgage Corporation ("FHLMC"), Federal Intermediate
Credit Banks, Federal Land Banks, Financing Corporation, Federal
B-6
<PAGE>
Financing Bank, Federal National Mortgage Association ("FNMA"), Maritime
Administration, Tennessee Valley Authority, Resolution Funding Corporation,
Student Loan Marketing Association and Washington Metropolitan Area Transit
Authority. Direct obligations of the U.S. Treasury include a variety of
securities that differ primarily in their interest rates, maturities and dates
of issuance. Because the U.S. Government is not obligated by law to provide
support to an instrumentality that it sponsors, a Fund will not invest in
obligations issued by an instrumentality of the U.S. Government unless the
Manager determines that the instrumentality's credit risk makes its securities
suitable for investment by the Fund.
Mortgage-Related Securities: Government National Mortgage Association. GNMA
is a wholly owned corporate instrumentality of the U.S. Government within the
Department of Housing and Urban Development. The National Housing Act of 1934,
as amended (the "Housing Act"), authorizes GNMA to guarantee the timely payment
of the principal of, and interest on, securities that are based on and backed by
a pool of specified mortgage loans. For these types of securities to qualify for
a GNMA guarantee, the underlying collateral must be mortgages insured by the FHA
under the Housing Act, or Title V of the Housing Act of 1949, as amended ("VA
Loans"), or be pools of other eligible mortgage loans. The Housing Act provides
that the full faith and credit of the U.S. Government is pledged to the payment
of all amounts that may be required to be paid under any guarantee. In order to
meet its obligations under a guarantee, GNMA is authorized to borrow from the
U.S. Treasury with no limitations as to amount.
GNMA pass-through securities may represent a proportionate interest in one
or more pools of the following types of mortgage loans: (1) fixed-rate level
payment mortgage loans; (2) fixed-rate graduated payment mortgage loans; (3)
fixed-rate growing equity mortgage loans; (4) fixed-rate mortgage loans secured
by manufactured (mobile) homes; (5) mortgage loans on multifamily residential
properties under construction; (6) mortgage loans on completed multifamily
projects; (7) fixed-rate mortgage loans as to which escrowed funds are used to
reduce the borrower's monthly payments during the early years of the mortgage
loans ("buydown" mortgage loans); (8) mortgage loans that provide for
adjustments on payments based on periodic changes in interest rates or in other
payment terms of the mortgage loans; and (9) mortgage-backed serial notes.
Mortgage-Related Securities: Federal National Mortgage Association. FNMA is
a federally chartered and privately owned corporation established under the
Federal National Mortgage Association Charter Act. FNMA was originally organized
in 1938 as a U.S. Government agency to add greater liquidity to the mortgage
market. FNMA was transformed into a private sector corporation by legislation
enacted in 1968. FNMA provides funds to the mortgage market primarily by
purchasing home mortgage loans from local
B-7
<PAGE>
lenders, thereby providing them with funds for additional lending. FNMA acquires
funds to purchase loans from investors that may not ordinarily invest in
mortgage loans directly, thereby expanding the total amount of funds available
for housing.
Each FNMA pass-through security represents a proportionate interest in one
or more pools of FHA Loans, VA Loans or conventional mortgage loans (that is,
mortgage loans that are not insured or guaranteed by any U.S. Government
agency). The loans contained in those pools consist of one or more of the
following: (1) fixed-rate level payment mortgage loans; (2) fixed-rate growing
equity mortgage loans; (3) fixed-rate graduated payment mortgage loans; (4)
variable-rate mortgage loans; (5) other adjustable-rate mortgage loans; and (6)
fixed-rate mortgage loans secured by multifamily projects.
Mortgage-Related Securities: Federal Home Loan Mortgage Corporation. FHLMC
is a corporate instrumentality of the United States established by the Emergency
Home Finance Act of 1970, as amended. FHLMC was organized primarily for the
purpose of increasing the availability of mortgage credit to finance needed
housing. The operations of FHLMC currently consist primarily of the purchase of
first lien, conventional, residential mortgage loans and participation interests
in mortgage loans and the resale of the mortgage loans in the form of
mortgage-backed securities.
The mortgage loans underlying FHLMC securities typically consist of
fixed-rate or adjustable-rate mortgage loans with original terms to maturity of
between ten and 30 years, substantially all of which are secured by first liens
on one-to-four-family residential properties or multifamily projects. Each
mortgage loan must include whole loans, participation interests in whole loans
and undivided interests in whole loans and participation in another FHLMC
security.
Privately Issued Mortgage-Related Securities. As set forth in the
Prospectus, the Short Fund may invest in mortgage-related securities offered by
private issuers, including pass-through securities comprised of pools of
conventional residential mortgage loans; mortgage-backed bonds which are
considered to be obligations of the institution issuing the bonds and are
collateralized by mortgage loans; and bonds and collateralized mortgage
obligations ("CMOs").
Each class of a CMO is issued at a specific fixed or floating coupon rate
and has a stated maturity or final distribution date. Principal prepayments on
the collateral pool may cause the various classes of a CMO to be retired
substantially earlier than their stated maturities or final distribution dates.
The principal of and interest on the collateral pool may be allocated among the
several classes of a CMO in a number of different ways. Generally, the purpose
of the allocation of the cash flow of a CMO to the various classes is to obtain
a more
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<PAGE>
predictable cash flow to some of the individual tranches than exists with the
underlying collateral of the CMO. As a general rule, the more predictable the
cash flow is on a CMO tranche, the lower the anticipated yield will be on that
tranche at the time of issuance relative to prevailing market yields on
mortgage-related securities. Certain classes of CMOs may have priority over
others with respect to the receipt of prepayments on the mortgages.
These Funds may invest in, among other things, "parallel pay" CMOs and
Planned Amortization Class CMOs ("PAC Bonds"). Parallel pay CMOs are structured
to provide payments of principal on each payment date to more than one class.
These simultaneous payments are taken into account in calculating the stated
maturity date or final distribution date of each class which, like the other CMO
structures, must be retired by its stated maturity date or final distribution
date, but may be retired earlier. PAC Bonds are parallel pay CMOs that generally
require payments of a specified amount of principal on each payment date; the
required principal payment on PAC Bonds have the highest priority after interest
has been paid to all classes.
Adjustable-Rate Mortgage-Related Securities. Because the interest rates on
the mortgages underlying adjustable-rate mortgage-related securities ("ARMS")
reset periodically, yields of such portfolio securities will gradually align
themselves to reflect changes in market rates. Unlike fixed-rate mortgages,
which generally decline in value during periods of rising interest rates, ARMS
allow the Allocation and Short Funds to participate in increases in interest
rates through periodic adjustments in the coupons of the underlying mortgages,
resulting in both higher current yields and low price fluctuations. Furthermore,
if prepayments of principal are made on the underlying mortgages during periods
of rising interest rates, these Funds may be able to reinvest such amounts in
securities with a higher current rate of return. During periods of declining
interest rates, of course, the coupon rates may readjust downward, resulting in
lower yields to these Funds. Further, because of this feature, the value of ARMS
is unlikely to rise during periods of declining interest rates to the same
extent as fixed rate instruments. For further discussion of the risks associated
with mortgage-related securities generally, see "Risk Considerations" in the
Prospectus.
Variable Rate Demand Notes. Variable rate demand notes ("VRDNs") are
tax-exempt obligations that contain a floating or variable interest rate
adjustment formula and an unconditional right of demand to receive payment of
the unpaid principal balance plus accrued interest upon a short notice period
prior to specified dates, generally at 30-, 60-, 90-, 180-, or 365-day
intervals. The interest rates are adjustable at intervals ranging from daily to
six months. Adjustment formulas are designed to maintain the market value of the
VRDN at approximately the par value of the VRDN upon the adjustment date. The
adjustments typically are based upon
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the prime rate of a bank or some other appropriate interest rate adjustment
index.
The Tax-Free Funds also may invest in VRDNs in the form of participation
interests ("Participating VRDNs") in variable rate tax-exempt obligations held
by a financial institution, typically a commercial bank ("institution").
Participating VRDNs provide a Fund with a specified undivided interest (up to
100%) of the underlying obligation and the right to demand payment of the unpaid
principal balance plus accrued interest on the Participating VRDNs from the
institution upon a specified number of days' notice, not to exceed seven. In
addition, the Participating VRDN is backed by an irrevocable letter of credit or
guaranty of the institution. A Fund has an undivided interest in the underlying
obligation and thus participates on the same basis as the institution in such
obligation except that the institution typically retains fees out of the
interest paid on the obligation for servicing the obligation, providing the
letter of credit and issuing the repurchase commitment.
Participating VRDNs may be unrated or rated, and their creditworthiness may
be a function of the creditworthiness of the issuer, the institution furnishing
the irrevocable letter of credit, or both. Accordingly, the Tax-Free Funds may
invest in such VRDNs, the issuers or underlying institutions of which the
Manager believes are creditworthy and satisfy the quality requirements of the
Funds. The Manager periodically monitors the creditworthiness of the issuer of
such securities and the underlying institution.
During periods of high inflation and periods of economic slowdown, together
with the fiscal measures adopted by governmental authorities to attempt to deal
with them, interest rates have varied widely. While the value of the underlying
VRDN may change with changes in interest rates generally, the variable rate
nature of the underlying VRDN should minimize changes in the value of the
instruments. Accordingly, as interest rates decrease or increase, the potential
for capital appreciation and the risk of potential capital depreciation is less
than would be the case with a portfolio of fixed-income securities. The Tax-Free
Funds may invest in VRDNs on which stated minimum or maximum rates, or maximum
rates set by state law, limit the degree to which interest on such VRDNs may
fluctuate; to the extent they do increases or decreases in value may be somewhat
greater than would be the case without such limits. Because the adjustment of
interest rates on the VRDNs is made in relation to movements of various interest
rate adjustment indices, the VRDNs are not comparable to long-term fixed-rate
securities. Accordingly, interest rates on the VRDNs may be higher or lower than
current market rates for fixed-rate obligations of comparable quality with
similar maturities.
Municipal Securities. Because the Tax-Free Funds invest at least 80% of
their total assets in obligations either issued by
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or on behalf of states, territories and possessions of the United States and the
District of Columbia and their political subdivisions, agencies, authorities and
instrumentalities, including industrial development bonds, as well as
obligations of certain agencies and instrumentalities of the U.S. Government,
the interest from which is, in the opinion of bond counsel to the issuer, exempt
from federal income tax ("Municipal Securities"), or exempt from federal and
California personal income tax ("California Municipal Securities"), and the
California Money Fund invests at least 65% of its total assets in California
Municipal Securities, and may invest in Municipal Securities, these Funds
generally will have a lower yield than if they primarily purchased higher
yielding taxable securities, commercial paper or other securities with
correspondingly greater risk. Generally, the value of the Municipal Securities
and California Municipal Securities held by these Funds will fluctuate inversely
with interest rates.
General Obligation Bonds. Issuers of general obligation bonds include
states, counties, cities, towns and regional districts. The proceeds of these
obligations are used to fund a wide range of public projects, including
construction or improvement of schools, highways and roads, and water and sewer
systems. The basic security behind general obligation bonds is the issuer's
pledge of its full faith, credit and taxing power for the payment of principal
and interest. The taxes that can be levied for the payment of debt service may
be limited or unlimited as to the rate or amount of special assessments.
Revenue Bonds. A revenue bond is not secured by the full faith, credit and
taxing power of an issuer. Rather, the principal security for a revenue bond is
generally the net revenue derived from a particular facility, group of
facilities or, in some cases, the proceeds of a special excise or other specific
revenue source. Revenue bonds are issued to finance a wide variety of capital
projects, including electric, gas, water, and sewer systems; highways, bridges,
and tunnels; port and airport facilities; colleges and universities; and
hospitals. Although the principal security behind these bonds may vary, many
provide additional security in the form of a debt service reserve fund that may
be used to make principal and interest payments on the issuer's obligations.
Housing finance authorities have a wide range of security, including partially
or fully insured mortgages, rent subsidized and/or collateralized mortgages,
and/or the net revenues from housing or other public projects. Some authorities
provide further security in the form of a governmental assurance (although
without obligation) to make up deficiencies in the debt service reserve fund.
Industrial Development Bonds. Industrial development bonds, which may pay
tax-exempt interest, are, in most cases, revenue bonds and are issued by or on
behalf of public authorities to raise money to finance various privately
operated facilities for business manufacturing, housing, sports, and pollution
control.
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These bonds also are used to finance public facilities, such as airports, mass
transit systems, ports and parking. The payment of the principal and interest on
such bonds is dependent solely on the ability of the facility's user to meet its
financial obligations and the pledge, if any, of the real and personal property
so financed as security for such payment. As a result of 1986 federal tax
legislation, industrial revenue bonds may no longer be issued on a tax-exempt
basis for certain previously permissible purposes, including sports and
pollution control facilities.
Participation Interests. The Tax-Free Funds may purchase from financial
institutions participation interests in Municipal Securities, such as industrial
development bonds and municipal lease/purchase agreements. A participation
interest gives a Fund an undivided interest in a Municipal Security in the
proportion that the Fund's participation interest bears to the total principal
amount of the Municipal Security. These instruments may have fixed, floating or
variable rates of interest. If the participation interest is unrated, it will be
backed by an irrevocable letter of credit or guarantee of a bank that the Board
of Trustees has approved as meeting the Board's standards, or, alternatively,
the payment obligation will be collateralized by U.S. Government securities.
For certain participation interests, these Funds will have the right to
demand payment, on not more than seven days' notice, for all or any part of
their participation interest in a Municipal Security, plus accrued interest. As
to these instruments, these Funds intend to exercise their right to demand
payment only upon a default under the terms of the Municipal Securities, as
needed to provide liquidity to meet redemptions, or to maintain or improve the
quality of their investment portfolios. The California Intermediate Bond Fund
will not invest more than 15% of its total assets and the California Money Fund
will not invest more than 10% of its total assets in participation interests
that do not have this demand feature, and in other illiquid securities.
Some participation interests are subject to a "nonappropriation" or
"abatement" feature by which, under certain conditions, the issuer of the
underlying Municipal Security may, without penalty, terminate its obligation to
make payment. In such event, the holder of such security must look to the
underlying collateral, which is often a municipal facility used by the issuer.
Custodial Receipts. The Tax-Free Funds may purchase custodial receipts
representing the right to receive certain future principal and interest payments
on Municipal Securities that underlie the custodial receipts. A number of
different arrangements are possible. In the most common custodial receipt
arrangement, an issuer or a third party owning the Municipal Securities deposits
such obligations with a custodian in exchange for two classes of custodial
receipts with different character istics. In each case, however, payments on the
two classes are
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based on payments received on the underlying Municipal Securities. One class has
the characteristics of a typical auction-rate security, having its interest rate
adjusted at specified intervals, and its ownership changes based on an auction
mechanism. The interest rate of this class generally is expected to be below the
coupon rate of the underlying Municipal Securities and generally is at a level
comparable to that of a Municipal Security of similar quality and having a
maturity equal to the period between interest rate adjustments. The second class
bears interest at a rate that exceeds the interest rate typically borne by a
security of comparable quality and maturity; this rate also is adjusted,
although inversely to changes in the rate of interest of the first class. If the
interest rate on the first class exceeds the coupon rate of the underlying
Municipal Securities, its interest rate will exceed the rate paid on the second
class. In no event will the aggregate interest paid with respect to the two
classes exceed the interest paid by the underlying Municipal Securities. The
value of the second class and similar securities should be expected to fluctuate
more than the value of a Municipal Security of comparable quality and maturity
and their purchase by one of these Funds should increase the volatility of its
net asset value and, thus, its price per share. These custodial receipts are
sold in private placements and are subject to these Funds' limitation with
respect to illiquid investments. The Tax-Free Funds also may purchase directly
from issuers, and not in a private placement, Municipal Securities having the
same characteristics as the custodial receipts.
Tender Option Bonds. The Tax-Free Funds may purchase tender option bonds
and similar securities. A tender option bond is a Municipal Security, generally
held pursuant to a custodial arrangement, having a relatively long maturity and
bearing interest at a fixed rate substantially higher than prevailing short-term
tax-exempt rates, coupled with an agreement of a third party, such as a bank,
broker-dealer or other financial institution, granting the security holders the
option, at periodic intervals, to tender their securities to the institution and
receive their face value. As consideration for providing the option, the
financial institution receives periodic fees equal to the difference between the
Municipal Security's fixed coupon rate and the rate, as determined by a
remarketing or similar agent at or near the commencement of such period, that
would cause the securities, coupled with the tender option, to trade at par on
the date of such determination. Thus, after payment of this fee, the security
holder effectively holds a demand obligation that bears interest at the
prevailing short-term tax-exempt rate. The Manager, on behalf of a Tax-Free
Fund, considers on a periodic basis the creditworthiness of the issuer of the
underlying Municipal Security, of any custodian and of the third party provider
of the tender option. In certain instances and for certain tender option bonds,
the option may be terminable in the event of a default in payment of principal
or interest on the underlying Municipal Obligations and for other reasons. The
California Intermediate
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Bond Fund will not invest more than 15% of its total assets and the California
Money Market Fund more than 10% of its total assets in securities that are
illiquid (including tender option bonds with a tender feature that cannot be
exercised on not more than seven days' notice if there is no secondary market
available for these obligations).
Obligations with Puts Attached. The Tax-Free Funds may purchase Municipal
Securities together with the right to resell the securities to the seller at an
agreed-upon price or yield within a specified period prior to the securities'
maturity date. Although an obligation with a put attached is not a put option in
the usual sense, it is commonly known as a "put" and is also referred to as a
"stand-by commitment." These Funds will use such puts in accordance with
regulations issued by the Securities and Exchange Commission ("SEC"). In 1982,
the Internal Revenue Service (the "IRS") issued a revenue ruling to the effect
that, under specified circumstances, a regulated investment company would be the
owner of tax-exempt municipal obligations acquired with a put option. The IRS
also has issued private letter rulings to certain taxpayers (which do not serve
as precedent for other taxpayers) to the effect that tax-exempt interest
received by a regulated investment company with respect to such obligations will
be tax-exempt in the hands of the company and may be distributed to its
shareholders as exempt-interest dividends. The last such ruling was issued in
1983. The IRS subsequently announced that it will not ordinarily issue advance
ruling letters as to the identity of the true owner of property in cases
involving the sale of securities or participation interests therein if the
purchaser has the right to cause the securities, or the participation interest
therein, to be purchased by either the seller or a third party. The Tax-Free
Funds intend to take the position that they are the owners of any municipal
obligations acquired subject to a stand-by commitment or a similar put right and
that tax-exempt interest earned with respect to such municipal obligations will
be tax exempt in its hands. There is no assurance that stand-by commitments will
be available to these Funds nor have they assumed that such commitments would
continue to be available under all market conditions. There may be other types
of municipal securities that become available and are similar to the foregoing
described Municipal Securities in which these Funds may invest.
Zero Coupon Bonds. The Fixed Income Funds may invest in zero coupon
securities, which are debt securities issued or sold at a discount from their
face value and do not entitle the holder to any periodic payment of interest
prior to maturity, a specified redemption date or a cash payment date. The
amount of the discount varies depending on the time remaining until maturity or
cash payment date, prevailing interest rates, liquidity of the security and
perceived credit quality of the issuer. Zero coupon securities also may take the
form of debt securities that have been stripped of their unmatured interest
coupons, the coupons themselves and receipts or certificates representing
interests in such stripped
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debt obligations and coupons. The market prices of zero coupon securities are
generally more volatile than the market prices of interest-bearing securities
and respond more to changes in interest rates than interest-bearing securities
with similar maturities and credit qualities.
Risk Factors/Special Considerations Relating to Debt Securities
The Select 50, International and the Global Funds may invest in debt
securities that are rated below BBB by Standard & Poor's Corporation ("S&P"),
Baa by Moody's Investors Service, Inc. ("Moody's") or BBB by Fitch Investor
Services ("Fitch"), or, if unrated, are deemed to be of equivalent investment
quality by the Manager. As an operating policy, which may be changed by the
Board of Trustees without shareholder approval, these Funds will invest no more
than 5% of their assets in debt securities rated below Baa by Moody's or BBB by
S&P, or, if unrated, of equivalent investment quality as determined by the
Manager. The market value of debt securities generally varies in response to
changes in interest rates and the financial condition of each issuer. During
periods of declining interest rates, the value of debt securities generally
increases. Conversely, during periods of rising interest rates, the value of
such securities generally declines. The net asset value of these Funds will
reflect these changes in market value.
Bonds rated C by Moody's are the lowest rated class of bonds, and issues so
rated can be regarded as having extremely poor prospects of ever attaining any
real investment standing. Bonds rated C by S&P are obligations on which no
interest is being paid. Bonds rated below BBB or Baa are often referred to as
"junk bonds."
Although such bonds may offer higher yields than higher-rated securities,
low-rated debt securities generally involve greater price volatility and risk of
principal and income loss, including the possibility of default by, or
bankruptcy of, the issuers of the securities. In addition, the markets in which
low-rated debt securities are traded are more limited than those for
higher-rated securities. The existence of limited markets for particular
securities may diminish the ability of these Funds to sell the securities at
fair value either to meet redemption requests or to respond to changes in the
economy or financial markets and could adversely affect, and cause fluctuations
in, the per-share net asset value of these Funds.
Adverse publicity and investor perceptions, whether or not based on
fundamental analysis, may decrease the values and liquidity of low-rated debt
securities, especially in a thinly traded market. Analysis of the
creditworthiness of issuers of low-rated debt securities may be more complex
than for issuers of higher-rated securities, and the ability of these Funds to
achieve their investment objectives may, to the extent they invest in low-rated
debt securities, be more dependent upon such credit analysis
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than would be the case if these Funds invested in higher-rated debt securities.
Low-rated debt securities may be more susceptible to real or perceived
adverse economic and competitive industry conditions than investment-grade
securities. The prices of low-rated debt securities have been found to be less
sensitive to interest rate changes than higher-rated debt securities but more
sensitive to adverse economic downturns or individual corporate developments. A
projection of an economic downturn or of a period of rising interest rates, for
example, could cause a sharper decline in the prices of low-rated debt
securities because the advent of a recession could lessen the ability of a
highly leveraged company to make principal and interest payments on its debt
securities. If the issuer of low-rated debt securities defaults, these Funds may
incur additional expenses to seek financial recovery. The low-rated bond market
is relatively new, and many of the outstanding low-rated bonds have not endured
a major business downturn.
Hedging and Risk Management Practices
In order to hedge against foreign currency exchange rate risks, the Select
50, International, Global and Equity Income Funds may enter into forward foreign
currency exchange contracts ("forward contracts") and foreign currency futures
contracts, as well as purchase put or call options on foreign currencies, as
described below. These Funds also may conduct their foreign currency exchange
transactions on a spot (i.e., cash) basis at the spot rate prevailing in the
foreign currency exchange market.
The Funds (except the Money Market Funds) also may purchase other types of
options and futures and may, in the future, write covered options, as described
below and in the Prospectus.
Forward Contracts. The Select 50, International and Global Funds may enter
into forward contracts to attempt to minimize the risk from adverse changes in
the relationship between the U.S. dollar and foreign currencies. A forward
contract, which is individually negotiated and privately traded by currency
traders and their customers, involves an obligation to purchase or sell a
specific currency for an agreed-upon price at a future date.
A Fund may enter into a forward contract, for example, when it enters into
a contract for the purchase or sale of a security denominated in a foreign
currency or is expecting a dividend or interest payment in order to "lock in"
the U.S. dollar price of a security, dividend or interest payment. When a Fund
believes that a foreign currency may suffer a substantial decline against the
U.S. dollar, it may enter into a forward contract to sell an amount of that
foreign currency approximating the value of some or all of the Fund's portfolio
securities denominated in such currency, or when a Fund believes that the U.S.
dollar may suffer
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a substantial decline against a foreign currency, it may enter into a forward
contract to buy that currency for a fixed dollar amount.
In connection with a Fund's forward contract transactions, an amount of the
Fund's assets equal to the amount of its commitments will be held aside or
segregated to be used to pay for the commitments. Accordingly, a Fund always
will have cash, cash equivalents or liquid equity or debt securities denominated
in the appropriate currency available in an amount sufficient to cover any
commitments under these contracts. Segregated assets used to cover forward
contracts will be marked to market on a daily basis. While these contracts are
not presently regulated by the Commodity Futures Trading Commission ("CFTC"),
the CFTC may in the future regulate them, and the ability of these Funds to
utilize forward contracts may be restricted. Forward contracts may limit
potential gain from a positive change in the relationship between the U.S.
dollar and foreign currencies. Unanticipated changes in currency prices may
result in poorer overall performance by a Fund than if it had not entered into
such contracts. The Funds generally will not enter into a forward foreign
currency exchange contract with a term greater than one year.
Futures Contracts and Options on Futures Contracts. To hedge against
movements in interest rates, securities prices or currency exchange rates, the
Funds (except the Money Market Funds) may purchase and sell various kinds of
futures contracts and options on futures contracts. These Funds also may enter
into closing purchase and sale transactions with respect to any such contracts
and options. Futures contracts may be based on various securities (such as U.S.
Government securities), securities indices, foreign currencies and other
financial instruments and indices.
These Funds have filed a notice of eligibility for exclusion from the
definition of the term "commodity pool operator" with the CFTC and the National
Futures Association, which regulate trading in the futures markets, before
engaging in any purchases or sales of futures contracts or options on futures
contracts. Pursuant to Section 4.5 of the regulations under the Commodity
Exchange Act, the notice of eligibility included the representation that these
Funds will use futures contracts and related options for bona fide hedging
purposes within the meaning of CFTC regulations, provided that a Fund may hold
positions in futures contracts and related options that do not fall within the
definition of bona fide hedging transactions if the aggregate initial margin and
premiums required to establish such positions will not exceed 5% of that Fund's
net assets (after taking into account unrealized profits and unrealized losses
on any such positions) and that in the case of an option that is in-the-money at
the time of purchase, the in-the-money amount may be excluded from such 5%.
These Funds will attempt to determine whether the price fluctuations in the
futures contracts and options on futures used
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for hedging purposes are substantially related to price fluctuations in
securities held by these Funds or which they expect to purchase. These Funds'
futures transactions generally will be entered into only for traditional hedging
purposes -- i.e., futures contracts will be sold to protect against a decline in
the price of securities or currencies and will be purchased to protect a Fund
against an increase in the price of securities it intends to purchase (or the
currencies in which they are denominated). All futures contracts entered into by
these Funds are traded on U.S. exchanges or boards of trade licensed and
regulated by the CFTC or on foreign exchanges.
Positions taken in the futures markets are not normally held to maturity
but are instead liquidated through offsetting or "closing" purchase or sale
transactions, which may result in a profit or a loss. While these Funds' futures
contracts on securities or currencies will usually be liquidated in this manner,
a Fund may make or take delivery of the underlying securities or currencies
whenever it appears economically advantageous. A clearing corporation associated
with the exchange on which futures on securities or currencies are traded
guarantees that, if still open, the sale or purchase will be performed on the
settlement date.
By using futures contracts to hedge their positions, these Funds seek to
establish more certainty than would otherwise be possible with respect to the
effective price, rate of return or currency exchange rate on portfolio
securities or securities that these Funds propose to acquire. For example, when
interest rates are rising or securities prices are falling, a Fund can seek,
through the sale of futures contracts, to offset a decline in the value of its
current portfolio securities. When rates are falling or prices are rising, a
Fund, through the purchase of futures contracts, can attempt to secure better
rates or prices than might later be available in the market with respect to
anticipated purchases. Similarly, a Fund can sell futures contracts on a
specified currency to protect against a decline in the value of such currency
and its portfolio securities which are denominated in such currency. A Fund can
purchase futures contracts on a foreign currency to fix the price in U.S.
dollars of a security denominated in such currency that such Fund has acquired
or expects to acquire.
As part of its hedging strategy, a Fund also may enter into other types of
financial futures contracts if, in the opinion of the Manager, there is a
sufficient degree of correlation between price trends for the Fund's portfolio
securities and such futures contracts. Although under some circumstances prices
of securities in a Fund's portfolio may be more or less volatile than prices of
such futures contracts, the Manager will attempt to estimate the extent of this
difference in volatility based on historical patterns and to compensate for it
by having that Fund enter into a greater or lesser number of futures contracts
or by attempting to achieve only a partial hedge against price changes affecting
that
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Fund's securities portfolio. When hedging of this character is successful, any
depreciation in the value of portfolio securities can be substantially offset by
appreciation in the value of the futures position. However, any unanticipated
appreciation in the value of a Fund's portfolio securities could be offset
substantially by a decline in the value of the futures position.
The acquisition of put and call options on futures contracts gives a Fund
the right (but not the obligation), for a specified price, to sell or purchase
the underlying futures contract at any time during the option period. Purchasing
an option on a futures contract gives a Fund the benefit of the futures position
if prices move in a favorable direction, and limits its risk of loss, in the
event of an unfavorable price movement, to the loss of the premium and
transaction costs.
A Fund may terminate its position in an option contract by selling an
offsetting option on the same series. There is no guarantee that such a closing
transaction can be effected. A Fund's ability to establish and close out
positions on such options is dependent upon a liquid market.
Loss from investing in futures transactions by these Funds is potentially
unlimited.
These Funds will engage in transactions in futures contracts and related
options only to the extent such transactions are consistent with the
requirements of the Internal Revenue Code of 1986, as amended, for maintaining
their qualification as a regulated investment company for federal income tax
purposes.
Options on Securities, Securities Indices and Currencies. These Funds may
purchase put and call options on securities in which they have invested, on
foreign currencies represented in their portfolios and on any securities index
based in whole or in part on securities in which these Funds may invest. These
Funds also may enter into closing sales transactions in order to realize gains
or minimize losses on options they have purchased.
A Fund normally will purchase call options in anticipation of an increase
in the market value of securities of the type in which it may invest or a
positive change in the currency in which such securities are denominated. The
purchase of a call option would entitle a Fund, in return for the premium paid,
to purchase specified securities or a specified amount of a foreign currency at
a specified price during the option period.
A Fund may purchase and sell options traded on U.S. and foreign exchanges.
Although these Funds will generally purchase only those options for which there
appears to be an active secondary market, there can be no assurance that a
liquid secondary market on an exchange will exist for any particular option or
at any particular time. For some options, no secondary market on an
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exchange may exist. In such event, it might not be possible to effect closing
transactions in particular options, with the result that a Fund would have to
exercise its options in order to realize any profit and would incur transaction
costs upon the purchase or sale of the underlying securities.
Secondary markets on an exchange may not exist or may not be liquid for a
variety of reasons including: (i) insufficient trading interest in certain
options; (ii) restrictions on opening transactions or closing transactions
imposed by an exchange; (iii) trading halts, suspensions or other restrictions
may be imposed with respect to particular classes or series of options; (iv)
unusual or unforeseen circumstances which interrupt normal operations on an
exchange; (v) inadequate facilities of an exchange or the Options Clearing
Corporation to handle current trading volume at all times; or (vi)
discontinuance in the future by one or more exchanges for economic or other
reasons, of trading of options (or of a particular class or series of options),
in which event the secondary market on that exchange (or in that class or series
of options) would cease to exist, although outstanding options on that exchange
that had been issued by the Options Clearing Corporation as a result of trades
on that exchange would continue to be exercisable in accordance with their
terms.
Although these Funds do not currently intend to do so, they may, in the
future, write (i.e., sell) covered put and call options on securities,
securities indices and currencies in which they may invest. A covered call
option involves a Fund's giving another party, in return for a premium, the
right to buy specified securities owned by the Fund at a specified future date
and price set at the time of the contract. A covered call option serves as a
partial hedge against the price decline of the underlying security. However, by
writing a covered call option, a Fund gives up the opportunity, while the option
is in effect, to realize gain from any price increase (above the option exercise
price) in the underlying security. In addition, a Fund's ability to sell the
underlying security is limited while the option is in effect unless the Fund
effects a closing purchase transaction.
These Funds also may write covered put options that give the holder of the
option the right to sell the underlying security to the Fund at the stated
exercise price. A Fund will receive a premium for writing a put option but will
be obligated for as long as the option is outstanding to purchase the underlying
security at a price that may be higher than the market value of that security at
the time of exercise. In order to "cover" put options it has written, a Fund
will cause its custodian to segregate cash, cash equivalents, U.S. Government
securities or other liquid equity or debt securities with at least the value of
the exercise price of the put options. A Fund will not write put options if the
aggregate value of the obligations underlying the put options exceeds 25% of the
Fund's total assets.
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There is no assurance that higher than anticipated trading activity or
other unforeseen events might not, at times, render certain of the facilities of
the Options Clearing Corporation inadequate, and result in the institution by an
exchange of special procedures that may interfere with the timely execution of
the Funds' orders.
Other Investment Practices
Repurchase Agreements. As noted in the Prospectus, the Funds may enter into
repurchase agreements. A Fund's repurchase agreements will generally involve a
short-term investment in a U.S. Government security or other high-grade liquid
debt security, with the seller of the underlying security agreeing to repurchase
it at a mutually agreed-upon time and price. The repurchase price is generally
higher than the purchase price, the difference being interest income to the
Fund. Alternatively, the purchase and repurchase prices may be the same, with
interest at a stated rate due to a Fund together with the repurchase price on
the date of repurchase. In either case, the income to a Fund is unrelated to the
interest rate on the underlying security.
Under each repurchase agreement, the seller is required to maintain the
value of the securities subject to the repurchase agreement at not less than
their repurchase price. The Manager, acting under the supervision of the Boards,
reviews on a periodic basis the suitability and creditworthiness, and the value
of the collateral, of those sellers with whom the Funds enter into repurchase
agreements to evaluate potential risk. All repurchase agreements will be made
pursuant to procedures adopted and regularly reviewed by the Boards.
The Funds generally will enter into repurchase agreements of short
maturities, from overnight to one week, although the underlying securities will
generally have longer maturities. The Funds regard repurchase agreements with
maturities in excess of seven days as illiquid. A Fund may not invest more than
15% (10% in the case of the Money Market Funds) of the value of its net assets
in illiquid securities, including repurchase agreements with maturities greater
than seven days.
For purposes of the Investment Company Act, a repurchase agreement is
deemed to be a collateralized loan from a Fund to the seller of the security
subject to the repurchase agreement. It is not clear whether a court would
consider the security acquired by a Fund subject to a repurchase agreement as
being owned by that Fund or as being collateral for a loan by the Fund to the
seller. If bankruptcy or insolvency proceedings are commenced with respect to
the seller of the security before its repurchase, a Fund may encounter delays
and incur costs before being able to sell the security. Delays may involve loss
of interest or a decline in price of the security. If a court characterizes such
a transaction as a loan and a Fund has not perfected a security interest in the
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security, the Fund may be required to return the security to the seller's estate
and be treated as an unsecured creditor. As such, a Fund would be at risk of
losing some or all of the principal and income involved in the transaction. As
with any unsecured debt instrument purchased for a Fund, the Manager seeks to
minimize the risk of loss through repurchase agreements by analyzing the
creditworthiness of the seller of the security.
Apart from the risk of bankruptcy or insolvency proceedings, a Fund also
runs the risk that the seller may fail to repurchase the security. However, the
Funds always require collateral for any repurchase agreement to which they are a
party in the form of securities acceptable to them, the market value of which is
equal to at least 100% of the amount invested by the Funds plus accrued
interest, and the Funds make payment against such securities only upon physical
delivery or evidence of book entry transfer to the account of its custodian
bank. If the market value of the security subject to the repurchase agreement
becomes less than the repurchase price (including interest), a Fund, pursuant to
its repurchase agreement, may require the seller of the security to deliver
additional securities so that the market value of all securities subject to the
repurchase agreement equals or exceeds the repurchase price (including interest)
at all times.
The Funds may participate in one or more joint accounts with each other and
other series of the Trusts that invest in repurchase agreements collateralized,
subject to their investment policies, either by (i) obligations issued or
guaranteed as to principal and interest by the U.S. Government or by one of its
agencies or instrumentalities, or (ii) privately issued mortgage-related
securities that are in turn collateralized by securities issued by GNMA, FNMA or
FHLMC, and are rated in the highest rating category by a nationally recognized
statistical rating organization, or, if unrated, are deemed by the Manager to be
of comparable quality using objective criteria. Any such repurchase agreement
will have, with rare exceptions, an overnight, over-the-weekend or
over-the-holiday duration, and in no event have a duration of more than seven
days.
Reverse Repurchase Agreements. The Domestic Equity, Select 50,
International, Opportunities, Short, Reserve and Tax-Free Funds may enter into
reverse repurchase agreements, as set forth in the Prospectus. These Funds
typically will invest the proceeds of a reverse repurchase agreement in money
market instruments or repurchase agreements maturing not later than the
expiration of the reverse repurchase agreement. This use of proceeds involves
leverage, and a Fund will enter into a reverse repurchase agreement for leverage
purposes only when the Manager believes that the interest income to be earned
from the investment of the proceeds would be greater than the interest expense
of the transaction. These Funds also may use the proceeds of reverse repurchase
agreements to provide liquidity to meet redemption requests when sale of the
Fund's securities is disadvantageous.
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These Funds cause their custodian to segregate liquid assets, such as cash,
U.S. Government securities or other liquid equity or debt securities equal in
value to their obligations (including accrued interest) with respect to reverse
repurchase agreements. Such assets are marked to market daily to ensure that
full collateralization is maintained.
Dollar Roll Transactions. The Short and California Intermediate Bond Funds
may enter into dollar roll transactions, as discussed in the Prospectus. A
dollar roll transaction involves a sale by a Fund of a security to a financial
institution concurrently with an agreement by that Fund to purchase a similar
security from the institution at a later date at an agreed-upon price. The
securities that are repurchased will bear the same interest rate as those sold,
but generally will be collateralized by different pools of mortgages with
different prepayment histories than those sold. During the period between the
sale and repurchase, a Fund will not be entitled to receive interest and
principal payments on the securities sold. Proceeds of the sale will be invested
in additional portfolio securities of that Fund, and the income from these
investments, together with any additional fee income received on the sale, may
or may not generate income for that Fund exceeding the yield on the securities
sold.
At the time a Fund enters into a dollar roll transaction, it causes its
custodian to segregate liquid assets such as cash, U.S. Government securities or
other liquid equity or debt securities having a value equal to the purchase
price for the similar security (including accrued interest) and subsequently
marks the assets to market daily to ensure that full collateralization is
maintained.
Lending of Portfolio Securities. Although the Funds currently do not intend
to do so, a Fund may lend its portfolio securities having a value of up to 30%
of its total assets in order to generate additional income. Such loans may be
made to broker-dealers or other financial institutions whose creditworthiness is
acceptable to the Manager. These loans would be required to be secured
continuously by collateral, including cash, cash equivalents, irrevocable
letters of credit, U.S. Government securities, or other high-grade liquid debt
securities, maintained on a current basis (i.e., marked to market daily) at an
amount at least equal to 100% of the market value of the securities loaned plus
accrued interest. A Fund may pay reasonable administrative and custodial fees in
connection with a loan and may pay a negotiated portion of the income earned on
the cash to the borrower or placing broker. Loans are subject to termination at
the option of a Fund or the borrower at any time. Upon such termination, a Fund
is entitled to obtain the return of the securities loaned within five business
days.
For the duration of the loan, a Fund will continue to receive the
equivalent of the interest or dividends paid by the
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issuer on the securities loaned, will receive proceeds from the investment of
the collateral and will continue to retain any voting rights with respect to
those securities. As with other extensions of credit, there are risks of delay
in recovery or even losses of rights in the securities loaned should the
borrower of the securities fail financially. However, the loans will be made
only to borrowers deemed by the Manager to be creditworthy, and when, in the
judgment of the Manager, the income which can be earned currently from such
loans justifies the attendant risk.
When-Issued and Forward Commitment Securities. The Funds may purchase
securities on a "when-issued" basis and may purchase or sell securities on a
"forward commitment" or "delayed delivery" basis. The price of such securities
is fixed at the time the commitment to purchase or sell is made, but delivery
and payment for the securities take place at a later date. Normally, the
settlement date occurs within one month of the purchase; during the period
between purchase and settlement, no payment is made by a Fund to the issuer.
While the Funds reserve the right to sell when-issued or delayed delivery
securities prior to the settlement date, the Funds intend to purchase such
securities with the purpose of actually acquiring them unless a sale appears
desirable for investment reasons. At the time a Fund makes a commitment to
purchase a security on a when-issued or delayed delivery basis, it will record
the transaction and reflect the value of the security in determining its net
asset value. The market value of the when-issued securities may be more or less
than the settlement price. The Funds do not believe that their net asset values
will be adversely affected by their purchase of securities on a when-issued or
delayed delivery basis. The Funds cause their custodian to segregate cash, U.S.
Government securities or other liquid equity or debt securities with a value
equal in value to commitments for when-issued or delayed delivery securities.
The segregated securities either will mature or, if necessary, be sold on or
before the settlement date. To the extent that assets of a Fund are held in cash
pending the settlement of a purchase of securities, that Fund will earn no
income on these assets.
The Short Fund may seek to hedge investments or to realize additional gains
through forward commitments to sell high-grade liquid debt securities it does
not own at the time it enters into the commitments. Such forward commitments
effectively constitute a form of short sale. To complete such a transaction,
this Fund must obtain the security which it has made a commitment to deliver. If
this Fund does not have cash available to purchase the security it is obligated
to deliver, it may be required to liquidate securities in its portfolio at
either a gain or a loss, or borrow cash under a reverse repurchase or other
short-term arrangement, thus incurring an additional expense. In addition, this
Fund may incur a loss as a result of this type of forward commitment if the
price of the security increases between the date this Fund enters into the
forward commitment and the date on which it must purchase the security it is
committed to deliver. This
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Fund will realize a gain from this type of forward commitment if the security
declines in price between those dates. The amount of any gain will be reduced,
and the amount of any loss increased, by the amount of the interest or other
transaction expenses this Fund may be required to pay in connection with this
type of forward commitment. Whenever this Fund engages in this type of
transaction, it will segregate assets as discussed above.
Illiquid Securities. A Fund may invest up to 15% (10% for the Money Market
Funds) of its net assets in illiquid securities. The term "illiquid securities"
for this purpose means securities that cannot be disposed of within seven days
in the ordinary course of business at approximately the amount at which a Fund
has valued the securities and includes, among others, repurchase agreements
maturing in more than seven days, certain restricted securities and securities
that are otherwise not freely transferable. Illiquid securities also include
shares of an investment company held by a Fund in excess of 1% of the total
outstanding shares of that investment company. Restricted securities may be sold
only in privately negotiated transactions or in public offerings with respect to
which a registration statement is in effect under the Securities Act of 1933, as
amended ("1933 Act"). Illiquid securities acquired by the Funds may include
those that are subject to restrictions on transferability contained in the
securities laws of other countries. Securities that are freely marketable in the
country where they are principally traded, but that would not be freely
marketable in the United States, will not be considered illiquid. Where
registration is required, a Fund may be obligated to pay all or part of the
registration expenses and a considerable period may elapse between the time of
the decision to sell and the time the Fund may be permitted to sell a security
under an effective registration statement. If, during such a period, adverse
market conditions were to develop, a Fund might obtain a less favorable price
than prevailed when it decided to sell.
In recent years a large institutional market has developed for certain
securities that are not registered under the 1933 Act, including securities sold
in private placements, repurchase agreements, commercial paper, foreign
securities and corporate bonds and notes. These instruments often are restricted
securities because the securities are sold in transactions not requiring
registration. Institutional investors generally will not seek to sell these
instruments to the general public, but instead will often depend either on an
efficient institutional market in which such unregistered securities can be
resold readily or on an issuer's ability to honor a demand for repayment.
Therefore, the fact that there are contractual or legal restrictions on resale
to the general public or certain institutions is not determinative of the
liquidity of such investments.
Rule 144A under the 1933 Act establishes a safe harbor from the
registration requirements of the 1933 Act for resales of
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certain securities to qualified institutional buyers. Institutional markets for
restricted securities sold pursuant to Rule 144A in many cases provide both
readily ascertainable values for restricted securities and the ability to
liquidate an investment to satisfy share redemption orders. Such markets might
include automated systems for the trading, clearance and settlement of
unregistered securities of domestic and foreign issuers, such as the PORTAL
System sponsored by the National Association of Securities Dealers, Inc. An
insufficient number of qualified buyers interested in purchasing Rule
144A-eligible restricted securities, however, could adversely affect the
marketability of such portfolio securities and result in a Fund's inability to
dispose of such securities promptly or at favorable prices.
The Boards of Trustees have delegated the function of making day-to-day
determinations of liquidity to the Manager pursuant to guidelines approved by
the Boards. The Manager takes into account a number of factors in reaching
liquidity decisions, including, but not limited to: (i) the frequency of trades
for the security, (ii) the number of dealers that quote prices for the security,
(iii) the number of dealers that have undertaken to make a market in the
security, (iv) the number of other potential purchasers, and (v) the nature of
the security and how trading is effected (e.g., the time needed to sell the
security, how bids are solicited and the mechanics of transfer). The Manager
monitors the liquidity of restricted securities in the Funds' portfolios and
reports periodically on such decisions to the Boards.
RISK FACTORS
Foreign Securities
Investors in the Select 50, International and Global and Funds should
consider carefully the substantial risks involved in securities of companies
located or doing business in, and governments of, foreign nations, which are in
addition to the usual risks inherent in domestic investments. There may be less
publicly available information about foreign companies comparable to the reports
and ratings published regarding companies in the U.S. Foreign companies are
often not subject to uniform accounting, auditing and financial reporting
standards, and auditing practices and requirements often may not be comparable
to those applicable to U.S. companies. Many foreign markets have substantially
less volume than either the established domestic securities exchanges or the OTC
markets. Securities of some foreign companies are less liquid and more volatile
than securities of comparable U.S. companies. Commission rates in foreign
countries, which may be fixed rather than subject to negotiation as in the U.S.,
are likely to be higher. In many foreign countries there is less government
supervision and regulation of securities exchanges, brokers and listed companies
than in the U.S., and capital requirements for brokerage firms are generally
lower. Settlement of transactions in
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foreign securities may, in some instances, be subject to delays and related
administrative uncertainties.
Emerging Market Countries
The Select 50, International and Global Funds, particularly the Latin
America, Emerging Asia and Emerging Markets Funds, may invest in securities of
companies domiciled in, and in markets of, so-called "emerging market
countries." These investments may be subject to potentially higher risks than
investments in developed countries. These risks include (i) volatile social,
political and economic conditions; (ii) the small current size of the markets
for such securities and the currently low or nonexistent volume of trading,
which result in a lack of liquidity and in greater price volatility; (iii) the
existence of national policies which may restrict these Funds' investment
opportunities, including restrictions on investment in issuers or industries
deemed sensitive to national interests; (iv) foreign taxation; (v) the absence
of developed structures governing private or foreign investment or allowing for
judicial redress for injury to private property; (vi) the absence, until
recently in certain emerging market countries, of a capital market structure or
market-oriented economy; and (vii) the possibility that recent favorable
economic developments in certain emerging market countries may be slowed or
reversed by unanticipated political or social events in such countries.
Exchange Rates and Polices
The Select 50, International and Global Funds endeavor to buy and sell
foreign currencies on favorable terms. Some price spreads on currency exchange
(to cover service charges) may be incurred, particularly when these Funds change
investments from one country to another or when proceeds from the sale of shares
in U.S. dollars are used for the purchase of securities in foreign countries.
Also, some countries may adopt policies which would prevent these Funds from
repatriating invested capital and dividends, withhold portions of interest and
dividends at the source, or impose other taxes, with respect to these Funds'
investments in securities of issuers of that country. There also is the
possibility of expropriation, nationalization, confiscatory or other taxation,
foreign exchange controls (which may include suspension of the ability to
transfer currency from a given country), default in foreign government
securities, political or social instability, or diplomatic developments that
could adversely affect investments in securities of issuers in those nations.
These Funds may be affected either favorably or unfavorably by fluctuations
in the relative rates of exchange between the currencies of different nations,
exchange control regulations and indigenous economic and political developments.
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The Boards of both Trusts consider at least annually the likelihood of the
imposition by any foreign government of exchange control restrictions that would
affect the liquidity of the Funds' assets maintained with custodians in foreign
countries, as well as the degree of risk from political acts of foreign
governments to which such assets may be exposed. The Boards also consider the
degree of risk attendant to holding portfolio securities in domestic and foreign
securities depositories (see "Investment Management and Other Services").
Hedging Transactions
While transactions in forward contracts, options, futures contracts and
options on futures (i.e., "hedging positions") may reduce certain risks, such
transactions themselves entail certain other risks. Thus, while a Fund may
benefit from the use of hedging positions, unanticipated changes in interest
rates, securities prices or currency exchange rates may result in a poorer
overall performance for that Fund than if it had not entered into any hedging
positions. If the correlation between a hedging position and portfolio position
which is intended to be protected is imperfect, the desired protection may not
be obtained, and a Fund may be exposed to risk of financial loss.
Perfect correlation between a Fund's hedging positions and portfolio
positions may be difficult to achieve because hedging instruments in many
foreign countries are not yet available. In addition, it is not possible to
hedge fully against currency fluctuations affecting the value of securities
denominated in foreign currencies because the value of such securities is likely
to fluctuate as a result of independent factors not related to currency
fluctuations.
California Municipal Securities
The information set forth below is a general summary intended to give a
recent historical description. It is not a discussion of any specific factors
that may affect any particular issuer of California Municipal Securities. The
information is not intended to indicate continuing or future trends in the
condition, financial or otherwise, of California. Such information is derived
from official statements utilized in connection with securities offerings of the
State of California that have come to the attention of the Trusts and were
available prior to the date of this Statement of Additional Information. Such
information has not been independently verified by the California Intermediate
Bond and California Money Funds.
Because the California Intermediate Bond and California Money Funds expect
to invest substantially all of their assets in California Municipal Securities,
they will be susceptible to a number of complex factors affecting the issuers of
California Municipal Securities, including national and local political,
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economic, social, environmental and regulatory policies and conditions. These
Funds cannot predict whether or to what extent such factors or other factors may
affect the issuers of California Municipal Securities, the market value or
marketability of such securities or the ability of the respective issuers of
such securities acquired by these Funds to pay interest on, or principal of,
such securities. The creditworthiness of obligations issued by local California
issuers may be unrelated to the creditworthiness of obligations issued by the
State of California, and there is no responsibility on the part of the State of
California to make payments on such local obligations. There may be specific
factors that are applicable in connection with investment in the obligations of
particular issuers located within California, and it is possible these Funds
will invest in obligations of particular issuers as to which such specific
factors are applicable.
From mid-1990 to late 1993, California suffered the most severe recession
in the State since the 1930s. Construction, manufacturing (especially
aerospace), exports and financial services, among other industries, have been
severely affected. Since the start of 1994, however, California's economy has
been on a steady recovery. Employment grew significantly during 1994 and 1995,
especially in export-related industries, business services, electronics,
entertainment and tourism.
The recession severely affected State revenues while the State's health and
welfare costs were increasing. Consequently, the State had a lengthy period of
budget imbalance; the State's accumulated budget deficit approached $2.8 billion
at its peak at June 30, 1993. The 1993-94 Budget Act proposed to repay the $2.8
billion deficit over two fiscal years, but as a result of the recession the
projected excess of revenues over expenditures did not materialize. The
accumulated budget deficit at June 30, 1994 was about $1.8 billion, and a second
two-year plan was implemented in 1994-95 to eliminate the budget deficit. An
additional consequence of the large budget deficits has been that the State
depleted its available cash resources and has had to use a series of external
borrowings to meet its cash needs, including borrowings extending into the next
fiscal year. The State anticipates that it will not have to resort to such
"cross-year" borrowing during the 1995-96 fiscal year.
The 1994-95 Budget Act recognized that the accumulated $2 billion budget
deficit could not be repaid in one year, and proposed a two-year solution to
eliminate the deficit with operating surpluses for 1994-95 and 1995-96. The
1994-95 Budget Act projected revenues and transfers of $41.9 billion (up $2.1
billion from 1993-94, and reflecting the Governor's forecast of an improving
economy), and expenditures of $40.9 billion (up $1.6 billion from 1993-94).
Principal features of the 1994-95 Budget Act included:
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1. Receipt of about $760 million of federal aid for certain costs
related to refugees and undocumented immigrants. Only about $33 million of
this amount was received, with another approximately $98 million scheduled
to be received during 1995-96.
2. Reductions of about $1.1 billion in health and welfare costs. A 2.3
percent reduction in Aid to Families with Dependent Children has been
enjoined pending further litigation, however.
3. An increase in Proposition 98 funding for K-14 schools of $526
million.
4. Additional miscellaneous cuts and fund transfers of $755 million.
5. A further one-year suspension (for 1995) of the renter's personal
income tax credit.
The 1994-95 Budget Act contained no tax increases other than the suspension
of the renter's credit. As a result of the improving economy, the California
Department of Finance's final estimates for 1994-95 showed revenues and
transfers of $42.7 billion and expenditures of $42 billion.
The 1995-96 Budget Act was enacted on August 3, 1995, 34 days after the
start of the fiscal year.
The 1995-96 Budget Act projects General Fund revenues and transfers of
$44.1 billion, a 3.5 percent increase from 1994-95, and General Fund
expenditures of $43.4 billion, a 4 percent increase from 1994-95. Special Fund
revenues are estimated at $12.7 billion, and Special Fund expenditures of $13
billion have been appropriated. The 1995-96 Budget Act projects that the General
Fund will end the 1995-96 fiscal year with a slight surplus at June 30, 1996,
and that all of the accumulated budget deficits will have been repaid. Principal
features of the 1995-96 Budget Act include:
1. An increase in Proposition 98 funding for K-14 schools of about $1.2
billion.
2. Reductions in health and welfare costs of about $900 million (about
$500 million of which depends upon federal legislative approval).
3. A 3.5 percent increase for the University of California and the
California State University system.
4. Receipt of an additional $278 million in federal aid for costs of
illegal immigrants, above commitments already made by the federal
government.
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5. An increase of about 8 percent in General Fund support for the
Department of Corrections, reflecting estimates of an increased prison
population.
The Governor's proposed budget for 1996-97, released on January 10, 1996,
updated the projections for 1995-96; revenues and transfers are estimated to be
$45 billion and expenditures to be $44.2 billion. As a result, the budget
reserve was projected to have a positive balance of about $50 million on June
30, 1996, with available cash (after payment of all obligations due) of about
$2.2 billion.
The Governor's proposed budget for 1996-97 projected General Fund revenues
and transfers of about $45.6 billion and requested total General Fund
appropriations of about $45.2 billion, which would leave a budget reserve of
about $400 million on June 30, 1997. The Governor's proposed budget renewed a
proposal, which had been rejected by the Legislature in 1995, for a 15 percent
cut in personal and corporate tax rates, phased in over a three-year period. On
the assumption that the proposed tax rate cut would be enacted, the Governor's
proposed budget shows a reduction in revenues of about $600 million for 1996-97.
The Governor's proposed budget also projects external cash flow borrowing of up
to $3.2 billion, to mature by June 30, 1997.
The foregoing discussion of the 1994-95, 1995-96 and 1996-97 fiscal year
budgets is based on the Budget Acts for those years, which include estimates and
projections of revenues and expenditures, and should not be construed as a
statement of fact. The assumptions used to construct a budget may be affected by
numerous factors, including future economic conditions in California and the
nation. There can be no assurance that the estimates will be achieved.
Certain issuers of California Municipal Securities receive subventions from
the State which are eligible to be used to make payments on such Securities. No
prediction can be made as to what effect any decrease in subventions may have on
the ability of some issuers to make such payments.
Because of the deterioration in the State's budget and cash situation, the
State's credit ratings have been reduced. Since late 1991, all three major
nationally recognized statistical rating organizations have lowered their
ratings for general obligation bonds of the State from the highest ranking of
"AAA" to "A" by S&P, "A1" by Moody's and "A+" by Fitch Investors Service, Inc.
It is not presently possible to determine whether, or the extent to which,
Moody's, S&P or Fitch will change such ratings in the future. It should be noted
that the creditworthiness of obligations issued by local California issuers may
be unrelated to the creditworthiness of obligations issued by the State, and
there is no obligation on the part of the State to make payment on such local
obligations in the event of default.
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Constitutional and Statutory Limitations. Article XIII A of the California
Constitution (which resulted from the voter approved Proposition 13 in 1978)
limits the taxing powers of California public agencies. With certain exceptions,
the maximum ad valorem tax on real property cannot exceed one percent of the
"full cash value" of the property; Article XIII A also effectively prohibits the
levying of any other ad valorem property tax for general purposes. One exception
to Article XIII A permits an increase in ad valorem taxes on real property in
excess of one percent for certain bonded indebtedness approved by two-thirds of
the voters voting on the proposed indebtedness. The "full cash value" of
property may be adjusted annually to reflect increases (not to exceed two
percent) or decreases, in the consumer price index or comparable local data, or
to reflect reductions in property value caused by substantial damage,
destruction or other factors, or when there is a "change in ownership" or "new
construction".
Constitutional challenges to Article XIII A to date have been unsuccessful.
In 1992, the United States Supreme Court ruled that notwithstanding the
disparate property tax burdens that Proposition 13 might place on otherwise
comparable properties, those provisions of Proposition 13 do not violate the
Equal Protection Clause of the United States Constitution.
In response to the significant reduction in local property tax revenue
caused by the passage of Proposition 13, the State enacted legislation to
provide local governments with increased expenditures from the General Fund.
This fiscal relief has ended, however.
Article XIII B of the California Constitution generally limits the amount
of appropriations of the State and of local governments to the amount of
appropriations of the entity for such prior year, adjusted for changes in the
cost of living, population and the services that the government entity has
financial responsibility for providing. To the extent the "proceeds of taxes" of
the State and/or local government exceed its appropriations limit, the excess
revenues must be rebated. Certain expenditures, including debt service on
certain bonds and appropriations for qualified capital outlay projects, are not
included in the appropriations limit.
In 1986, California voters approved an initiative statute known as
Proposition 62. This initiative further restricts the ability of local
governments to raise taxes and allocate approved tax receipts. While some
decisions of the California Courts of Appeal have held that portions of
Proposition 62 are unconstitutional. The California Supreme Court recently
upheld Proposition 62's requirement that special taxes be approved by a
two-thirds vote of the voters voting in an election on the issue. This recent
decision may invalidate other taxes that have been
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imposed by local governments in California and make it more difficult for local
governments to raise taxes.
In 1988 and 1990, California voters approved initiatives known as
Proposition 98 and Proposition 111, respectively. These initiatives changed the
State's appropriations limit under Article XIII B to (i) require that the State
set aside a prudent reserve fund for public education, and (ii) guarantee a
minimum level of State funding for public elementary and secondary schools and
community colleges.
The effect of constitutional and statutory changes and of budget
developments on the ability of California issuers to pay interest and principal
on their obligations remains unclear, and may depend on whether a particular
bond is a general obligation or limited obligation bond (limited obligation
bonds being generally less affected). There is no assurance that any California
issuer will make full or timely payments of principal or interest or remain
solvent. For example, in December 1994, Orange County filed for bankruptcy.
In addition, it is impossible to predict the time, magnitude, or location
of a major earthquake or its effect on the California economy. In January 1994,
a major earthquake struck the Los Angeles area, causing significant damage in a
four-county area. The possibility exists that another such earthquake could
create a major dislocation of the California economy.
The Tax-Free Funds' (other than the Federal Money Fund) concentration in
California Municipal Securities provides a greater level of risk than a fund
that is diversified across numerous states and municipal entities.
INVESTMENT RESTRICTIONS
The following policies and investment restrictions have been adopted by
each Fund and (unless otherwise noted) are fundamental and cannot be changed
without the affirmative vote of a majority of a Fund's outstanding voting
securities as defined in the Investment Company Act. A Fund may not:
1. In the case of each Fixed Income Fund, purchase any common stocks or
other equity securities, except that a Fund may invest in securities of other
investment companies as described above and consistent with restriction number 9
below.
2. With respect to 75% (100% for the Federal Money Fund) of its total
assets, invest in the securities of any one issuer (other than the U.S.
Government and its agencies and instrumentalities) if immediately after and as a
result of such investment more than 5% of the total assets of a Fund would be
invested in such issuer. There are no limitations with respect to
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the remaining 25% of its total assets, except to the extent other investment
restrictions may be applicable (not applicable to the Federal Money Fund). This
investment restriction does not apply to the Asset Allocation, the Global Asset
Allocation Fund nor the California Intermediate Bond Fund.
3. Make loans to others, except (a) through the purchase of debt securities
in accordance with its investment objective and policies, (b) through the
lending of up to 30% of its portfolio securities as described above and in its
Prospectus, or (c) to the extent the entry into a repurchase agreement or a
reverse dollar roll transaction is deemed to be a loan.
4. (a) Borrow money, except for temporary or emergency purposes from a
bank, or pursuant to reverse repurchase agreements or dollar roll transactions
for a Fund that uses such investment techniques and then not in excess of
one-third of the value of its total assets (at the lower of cost or fair market
value). Any such borrowing will be made only if immediately thereafter there is
an asset coverage of at least 300% of all borrowings (excluding any fully
collateralized reverse repurchase agreements and dollar roll transactions the
Fund may enter into), and no additional investments may be made while any such
borrowings are in excess of 10% of total assets.
(b) Mortgage, pledge or hypothecate any of its assets except in
connection with permissible borrowings and permissible forward contracts,
futures contracts, option contracts or other hedging transactions.
5. Except as required in connection with permissible hedging activities,
purchase securities on margin or underwrite securities. (This does not preclude
a Fund from obtaining such short-term credit as may be necessary for the
clearance of purchases and sales of its portfolio securities.)
6. Buy or sell real estate or commodities or commodity contracts; however,
a Fund, to the extent not otherwise prohibited in the Prospectus or this
Statement of Additional Information, may invest in securities secured by real
estate or interests therein or issued by companies which invest in real estate
or interests therein, including real estate investment trusts, and may purchase
or sell currencies (including forward currency exchange contracts), futures
contracts and related options generally as described in the Prospectus and this
Statement of Additional Information.
7. Invest in securities of other investment companies, except to the extent
permitted by the Investment Company Act and discussed in the Prospectus or this
Statement of Additional Information, or as such securities may be acquired as
part of a merger, consolidation or acquisition of assets.
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8. Invest, in the aggregate, more than 15% (10% for the Money Market Funds)
of its net assets in illiquid securities, including (under current SEC
interpretations) restricted securities (excluding liquid Rule 144A-eligible
restricted securities), securities which are not otherwise readily marketable,
repurchase agreements that mature in more than seven days and over-the-counter
options (and securities underlying such options) purchased by a Fund. (This is
an operating policy which may be changed without shareholder approval,
consistent with the Investment Company Act, changes in relevant SEC
interpretations).
9. Invest in any issuer for purposes of exercising control or management of
the issuer. (This is an operating policy which may be changed without
shareholder approval, consistent with the Investment Company Act.)
10. Except with respect to communications companies for the Communications
Fund, as described in the Prospectus, invest more than 25% of the market value
of its total assets in the securities of companies engaged in any one industry.
(This does not apply to investment in the securities of the U.S. Government, its
agencies or instrumentalities or California Municipal Obligations or Municipal
Obligations for the Tax-Free Funds.) For purposes of this restriction, the Funds
generally rely on the U.S. Office of Management and Budget's Standard Industrial
Classifications.
11. Issue senior securities, as defined in the Investment Company Act,
except that this restriction shall not be deemed to prohibit a Fund from (a)
making any permitted borrowings, mortgages or pledges, or (b) entering into
permissible repurchase and dollar roll transactions.
12. Except as described in the Prospectus and this Statement of Additional
Information, acquire or dispose of put, call, straddle or spread options subject
to the following conditions (for other than the Short Fund and California
Intermediate Bond Fund):
(a) such options are written by other persons, and
(b) the aggregate premiums paid on all such options which are held at
any time do not exceed 5% of the Fund's total assets.
(This is an operating policy which may be changed without shareholder approval.)
13. Except as described in the Prospectus and this Statement of Additional
Information, engage in short sales of securities. (This is an operating policy
which may be changed without shareholder approval, consistent with applicable
regulations.)
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14. Purchase more than 10% of the outstanding voting securities of any one
issuer. This investment restriction does not relate to the Fixed Income Funds.
(This is an operating policy which may be changed without shareholder approval.)
15. Invest in commodities, except for futures contracts or options on
futures contracts if, as a result thereof, more than 5% of a Fund's total assets
(taken at market value at the time of entering into the contract) would be
committed to initial deposits and premiums on open futures contracts and options
on such contracts. The Money Market Funds may not enter into a futures contract
or option on a futures contract regardless of the amount of the initial deposit
or premium.
To the extent these restrictions reflect matters of operating policy which
may be changed without shareholder vote, these restrictions may be amended upon
approval by the appropriate Board and notice to shareholders.
If a percentage restriction is adhered to at the time of investment, a
subsequent increase or decrease in a percentage resulting from a change in the
values of assets will not constitute a violation of that restriction, except as
otherwise noted.
The Board of Trustees of The Montgomery Funds has elected to value the
assets of the Money Market Funds in accordance with Rule 2a-7 under the
Investment Company Act. This Rule also imposes various restrictions on these
Funds' portfolios which are, in some cases, more restrictive than these Funds'
stated fundamental policies and investment restrictions. Due to amendments to
Rule 2a-7 adopted by the SEC in 1991, any fund which holds itself out as a money
market fund must also follow certain portfolio provisions of Rule 2a-7 regarding
the maturity and quality of each portfolio investment, and the diversity of such
investments. Thus, although the restrictions imposed by Rule 2a-7 are not
fundamental policies of these Funds, these Funds must comply with these
provisions unless their shareholders vote to change their policies of being
money market funds.
DISTRIBUTIONS AND TAX INFORMATION
Distributions. The Funds receive income in the form of dividends and
interest earned on their investments in securities. This income, less the
expenses incurred in their operations, is the Funds' net investment income,
substantially all of which will be declared as dividends to the Funds'
shareholders.
The amount of income dividend payments by the Funds is dependent upon the
amount of net investment income received by the Funds from their portfolio
holdings, is not guaranteed and is subject to the discretion of the Funds'
Board. These Funds do not
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<PAGE>
pay "interest" or guarantee any fixed rate of return on an investment in their
shares.
The Funds also may derive capital gains or losses in connection with sales
or other dispositions of their portfolio securities. Any net gain a Fund may
realize from transactions involving investments held less than the period
required for long-term capital gain or loss recognition or otherwise producing
short-term capital gains and losses (taking into account any carryover of
capital losses from previous years), while a distribution from capital gains,
will be distributed to shareholders with and as a part of income dividends. If
during any year a Fund realizes a net gain on transactions involving investments
held for the period required for long-term capital gain or loss recognition or
otherwise producing long-term capital gains and losses, the Fund will have a net
long-term capital gain. After deduction of the amount of any net short-term
capital loss, the balance (to the extent not offset by any capital losses
carried over from previous years) will be distributed and treated as long-term
capital gains in the hands of the shareholders regardless of the length of time
that Fund's shares may have been held.
Any dividend or distribution per share paid by a Fund reduces that Fund's
net asset value per share on the date paid by the amount of the dividend or
distribution per share. Accordingly, a dividend or distribution paid shortly
after a purchase of shares by a shareholder would represent, in substance, a
partial return of capital (to the extent it is paid on the shares so purchased),
even though it would be subject to income taxes (except for distributions from
the Tax-Free Funds to the extent not subject to income taxes).
Dividends and other distributions will be reinvested in additional shares
of the applicable Fund unless the shareholder has otherwise indicated. Investors
have the right to change their election with respect to the reinvestment of
dividends and distributions by notifying the Transfer Agent in writing, but any
such change will be effective only as to dividends and other distributions for
which the record date is seven or more business days after the Transfer Agent
has received the written request.
Tax Information. Each Fund intends to qualify and elect to be treated as a
regulated investment company under Subchapter M of the Internal Revenue Code of
1986, as amended (the "Code"), for each taxable year by complying with all
applicable requirements regarding the source of its income, the diversification
of its assets, and the timing of its distributions. Each Fund that has filed a
tax return has so qualified and elected in prior tax years. Each Fund's policy
is to distribute to its shareholders all of its investment company taxable
income and any net realized capital gains for each fiscal year in a manner that
complies with the distribution requirements of the Code, so that Fund will not
be subject to any federal income tax or excise taxes based on net
B-37
<PAGE>
income. However, the Board of Trustees may elect to pay such excise taxes if it
determines that payment is, under the circumstances, in the best interests of a
Fund.
In order to qualify as a regulated investment company, each Fund must,
among other things, (a) derive at least 90% of its gross income each year from
dividends, interest, payments with respect to loans of stock and securities,
gains from the sale or other disposition of stock or securities or foreign
currency gains related to investments in stocks or other securities, or other
income (generally including gains from options, futures or forward contracts)
derived with respect to the business of investing in stock, securities or
currency, (b) derive less than 30% of its gross income each year from the sale
or other disposition of stock or securities (or options thereon) held less than
three months (excluding some amounts otherwise included in income as a result of
certain hedging transactions), and (c) diversify its holdings so that, at the
end of each fiscal quarter, (i) at least 50% of the market value of its assets
is represented by cash, cash items, U.S. Government securities, securities of
other regulated investment companies and other securities limited, for purposes
of this calculation, in the case of other securities of any one issuer to an
amount not greater than 5% of that Fund's assets or 10% of the voting securities
of the issuer, and (ii) not more than 25% of the value of its assets is invested
in the securities of any one issuer (other than U.S. Government securities or
securities of other regulated investment companies). As such, and by complying
with the applicable provisions of the Code, a Fund will not be subject to
federal income tax on taxable income (including realized capital gains) that is
distributed to shareholders in accordance with the timing requirements of the
Code. If a Fund is unable to meet certain requirements of the Code, it may be
subject to taxation as a corporation.
Distributions of net investment income and net realized capital gains by a
Fund will be taxable to shareholders whether made in cash or reinvested in
shares. In determining amounts of net realized capital gains to be distributed,
any capital loss carryovers from prior years will be applied against capital
gains. Shareholders receiving distributions in the form of additional shares
will have a cost basis for federal income tax purposes in each share so received
equal to the net asset value of a share of a Fund on the reinvestment date. Fund
distributions also will be included in individual and corporate shareholders'
income on which the alternative minimum tax may be imposed.
The Funds or any securities dealer effecting a redemption of the Funds'
shares by a shareholder will be required to file information reports with the
IRS with respect to distributions and payments made to the shareholder. In
addition, the Funds will be required to withhold federal income tax at the rate
of 31% on taxable dividends, redemptions and other payments made to accounts of
individual or other non-exempt shareholders who have not
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<PAGE>
furnished their correct taxpayer identification numbers and made certain
required certifications on the Account Application Form or with respect to which
a Fund or the securities dealer has been notified by the IRS that the number
furnished is incorrect or that the account is otherwise subject to withholding.
The Funds intend to declare and pay dividends and other distributions, as
stated in the Prospectus. In order to avoid the payment of any federal excise
tax based on net income, each Fund must declare on or before December 31 of each
year, and pay on or before January 31 of the following year, distributions at
least equal to 98% of its ordinary income for that calendar year and at least
98% of the excess of any capital gains over any capital losses realized in the
one-year period ending October 31 of that year, together with any undistributed
amounts of ordinary income and capital gains (in excess of capital losses) from
the previous calendar year.
A Fund may receive dividend distributions from U.S. corporations. To the
extent that a Fund receives such dividends and distributes them to its
shareholders, and meets certain other requirements of the Code, corporate
shareholders of the Fund may be entitled to the "dividends received" deduction.
Availability of the deduction is subject to certain holding period and debt-
financing limitations.
In the case of the Select 50, International and Global Funds, if more than
50% in value of the total assets of a Fund at the end of its fiscal year is
invested in stock or other securities of foreign corporations, that Fund may
elect to pass through to its shareholders the pro rata share of all foreign
income taxes paid by that Fund. If this election is made, shareholders will be
(i) required to include in their gross income their pro rata share of any
foreign income taxes paid by that Fund, and (ii) entitled either to deduct their
share of such foreign taxes in computing their taxable income or to claim a
credit for such taxes against their U.S. income tax, subject to certain
limitations under the Code. In this case, shareholders will be informed by that
Fund at the end of each calendar year regarding the availability of any credits
on and the amount of foreign source income (including or excluding foreign
income taxes paid by that Fund) to be included in their income tax returns. If
50% or less in value of that Fund's total assets at the end of its fiscal year
are invested in stock or other securities, securities of foreign corporations,
that Fund will not be entitled under the Code to pass through to its
shareholders their pro rata share of the foreign income taxes paid by that Fund.
In this case, these taxes will be taken as a deduction by that Fund.
The Select 50, International and Global Funds may be subject to foreign
withholding taxes on dividends and interest earned with respect to securities of
foreign corporations. These Funds may invest up to 10% of their total assets in
the stock of
B-39
<PAGE>
foreign investment companies. Such companies are likely to be treated as
"passive foreign investment companies" ("PFICs") under the Code. Certain other
foreign corporations, not operated as investment companies, may nevertheless
satisfy the PFIC definition. A portion of the income and gains that these Funds
derive from PFIC stock may be subject to a non-deductible federal income tax at
the Fund level. In some cases, these Funds may be able to avoid this tax by
electing to be taxed currently on their share of the PFIC's income, whether or
not such income is actually distributed by the PFIC. These Funds will endeavor
to limit their exposure to the PFIC tax by investing in PFICs only where the
election to be taxed currently will be made. Because it is not always possible
to identify a foreign issuer as a PFIC in advance of making the investment,
these Funds may incur the PFIC tax in some instances.
The Tax-Free Funds. Provided that, as anticipated, each Tax-Free Fund
qualifies as a regulated investment company under the Code, and, at the close of
each quarter of its taxable years, at least 50% of the value of the total assets
of each of the California Intermediate Bond and California Money Funds consist
of obligations (including California Municipal Securities) the interest on which
is exempt from California personal income taxation under the Constitution or
laws of California or of the United States, such Fund will be qualified to pay
exempt-interest dividends to its shareholders that, to the extent attributable
to interest received by the Fund on such obligations, are exempt from California
personal income tax. If at the close of each quarter of its taxable years, at
least 50% of the value of the total assets of the Federal Money Fund consists of
obligations (including Municipal Securities) the interest on which is exempt
from federal personal income taxation under the Constitution or laws of the
United States, the Federal Money Fund will be qualified to pay exempt-interest
dividends to its shareholders that, to the extent attributable to interest
received by the Fund on such obligations, are exempt from federal personal
income tax. The total amount of exempt-interest dividends paid by these Funds to
their shareholders with respect to any taxable year cannot exceed the amount of
interest received by these Funds during such year on tax-exempt obligations less
any expenses attributable to such interest. Income from other transactions
engaged in by these Funds, such as income from options, repurchase agreements
and market discount on tax-exempt securities purchased by these Funds, will be
taxable distributions to its shareholders.
The Code may also subject interest received on certain otherwise tax-exempt
securities to an alternative minimum tax. In addition, certain corporations
which are subject to the alternative minimum tax may have to include a portion
of exempt-interest dividends in calculating their alternative minimum taxable
income.
Exempt-interest dividends paid to shareholders that are corporations
subject to California franchise tax will be taxed as ordinary income to such
shareholders. Moreover, no dividends paid
B-40
<PAGE>
by these Funds will qualify for the corporate dividends-received deduction for
federal income tax purposes.
Interest on indebtedness incurred or continued by a shareholder to purchase
or carry shares of these Funds is not deductible for federal income tax
purposes. Under regulations used by the IRS for determining when borrowed funds
are considered used for the purposes of purchasing or carrying particular
assets, the purchase of shares may be considered to have been made with borrowed
funds even though the borrowed funds are not directly traceable to the purchase
of shares of these Funds. California personal income tax law restricts the
deductibility of interest on indebtedness incurred by a shareholder to purchase
or carry shares of a fund paying dividends exempt from California personal
income tax, as well as the allowance of losses realized upon a sale or
redemption of shares, in substantially the same manner as federal tax law.
Further, these Funds may not be appropriate investments for persons who are
"substantial users" of facilities financed by industrial revenue bonds or are
"related persons" to such users. Such persons should consult their tax advisers
before investing in these Funds.
Up to 85% of social security or railroad retirement benefits may be
included in federal (but not California) taxable income for benefit recipients
whose adjusted gross income (including income from tax-exempt sources such as
tax-exempt bonds and these Funds) plus 50% of their benefits exceeding certain
base amounts. Income from these Funds, and other funds like them, is included in
the calculation of whether a recipient's income exceeds these base amounts, but
is not taxable directly.
From time to time, proposals have been introduced before Congress for the
purpose of restricting or eliminating the federal income tax exemption for
interest on Municipal Securities. It can be expected that similar proposals may
be introduced in the future. Proposals by members of state legislatures may also
be introduced which could affect the state tax treatment of these Funds'
distributions. If such proposals were enacted, the availability of Municipal
Securities for investment by these Funds and the value of these Funds'
portfolios would be affected. In such event, these Funds would reevaluate their
investment objectives and policies.
Hedging. The use of hedging strategies, such as entering into futures
contracts and forward contracts and purchasing options, involves complex rules
that will determine the character and timing of recognition of the income
received in connection therewith by a Fund. Income from foreign currencies
(except certain gains therefrom that may be excluded by future regulations) and
income from transactions in options, futures contracts and forward contracts
derived by a Fund with respect to its business of investing in securities or
foreign currencies will qualify as permissible income under Subchapter M of the
Code.
B-41
<PAGE>
For accounting purposes, when a Fund purchases an option, the premium paid
by the Fund is recorded as an asset and is subsequently adjusted to the current
market value of the option. Any gain or loss realized by a Fund upon the
expiration or sale of such options held by a Fund generally will be capital gain
or loss.
Any security, option, or other position entered into or held by a Fund that
substantially diminishes a Fund's risk of loss from any other position held by
that Fund may constitute a "straddle" for federal income tax purposes. In
general, straddles are subject to certain rules that may affect the amount,
character and timing of a Fund's gains and losses with respect to straddle
positions by requiring, among other things, that the loss realized on
disposition of one position of a straddle be deferred until gain is realized on
disposition of the offsetting position; that a Fund's holding period in certain
straddle positions not begin until the straddle is terminated (possibly
resulting in the gain being treated as short-term capital gain rather than
long-term capital gain); and that losses recognized with respect to certain
straddle positions, which would otherwise constitute short-term capital losses,
be treated as long-term capital losses. Different elections are available to a
Fund that may mitigate the effects of the straddle rules.
Certain options, futures contracts and forward contracts that are subject
to Section 1256 of the Code ("Section 1256 Contracts") and that are held by a
Fund at the end of its taxable year generally will be required to be "marked to
market" for federal income tax purposes, that is, deemed to have been sold at
market value. Sixty percent of any net gain or loss recognized on these deemed
sales and 60% of any net gain or loss realized from any actual sales of Section
1256 Contracts will be treated as long-term capital gain or loss, and the
balance will be treated as short-term capital gain or loss.
Section 988 of the Code contains special tax rules applicable to certain
foreign currency transactions that may affect the amount, timing and character
of income, gain or loss recognized by a Fund. Under these rules, foreign
exchange gain or loss realized with respect to foreign currency-denominated debt
instruments, foreign currency forward contracts, foreign currency- denominated
payables and receivables and foreign currency options and futures contracts
(other than options and futures contracts that are governed by the
mark-to-market and 60/40 rules of Section 1256 of the Code and for which no
election is made) is treated as ordinary income or loss. Some part of a Fund's
gain or loss on the sale or other disposition of shares of a foreign corporation
may, because of changes in foreign currency exchange rates, be treated as
ordinary income or loss under Section 988 of the Code, rather than as capital
gain or loss.
Redemptions and exchanges of shares of a Fund will result in gains or
losses for tax purposes to the extent of the difference
B-42
<PAGE>
between the proceeds and the shareholder's adjusted tax basis for the shares.
Any loss realized upon the redemption or exchange of shares within six months
from their date of purchase will be treated as a long-term capital loss to the
extent of distributions of long-term capital gain dividends with respect to such
shares during such six-month period. Any loss realized upon the redemption or
exchange of shares of a Tax-Free Fund within six months from their date of
purchase will be disallowed to the extent of distributions of exempt-interest
dividends with respect to such shares during such six-month period. All or a
portion of a loss realized upon the redemption of shares of a Fund may be
disallowed to the extent shares of the same Fund are purchased (including shares
acquired by means of reinvested dividends) within 30 days before or after such
redemption.
Distributions and redemptions may be subject to state and local income
taxes, and the treatment thereof may differ from the federal income tax
treatment. Foreign taxes may apply to non-U.S. investors.
The above discussion and the related discussion in the Prospectus are not
intended to be complete discussions of all applicable federal tax consequences
of an investment in the Funds. The law firm of Paul, Hastings, Janofsky & Walker
has expressed no opinion in respect thereof. Nonresident aliens and foreign
persons are subject to different tax rules, and may be subject to withholding of
up to 30% on certain payments received from the Funds. Shareholders are advised
to consult with their own tax advisers concerning the application of foreign,
federal, state and local taxes to an investment in the Funds.
TRUSTEES AND OFFICERS
The Trustees of the Trusts (the two Trusts, as well as an affiliated Trust,
The Montgomery Funds III, have the same members on their Boards) are responsible
for the overall management of the Funds, including general supervision and
review of their investment activities. The officers (the two Trusts, as well as
an affiliated Trust, The Montgomery Funds III, have the same officers), who
administer the Funds' daily operations, are appointed by the Boards of Trustees.
The current Trustees and officers of the Trusts performing a policy-making
function and their affiliations and principal occupations for the past five
years are set forth below:
Trustees
Jerome S. Markowitz, a Senior Managing Director of Montgomery Securities,
has resigned as a Trustee of The Montgomery Funds II and an affiliated Trust,
The Montgomery Trust III. Mr. Markowitz has also resigned as a Trustee-designate
of The Montgomery Funds, all effective July 31, 1997. The current Trustees of
the Trusts are as follows:
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<PAGE>
R. Stephen Doyle, Chairman of the Board of Trustees(Age 56).*
101 California Street, San Francisco, California 94111. Mr. Doyle has
been the Chairman and a Director of Montgomery Asset Management, Inc.,
the general partner of the Manager, and Chairman of the Manager since
April 1990. Mr. Doyle is a managing director of the investment banking
firm of Montgomery Securities, the Fund's Distributor, and has been
employed by Montgomery Securities since October 1983.
John A. Farnsworth, Trustee (Age 55)
One California Street, Suite 1950, San Francisco, California 94111. Mr.
Farnsworth is a partner of Pearson, Caldwell & Farnsworth, Inc., an
executive search consulting firm. From May 1988 to September 1991, Mr.
Farnsworth was the Managing Partner of the San Francisco office of Ward
Howell International, Inc., an executive recruiting firm. From May 1987
until May 1988, Mr. Farnsworth was Managing Director of Jeffrey Casdin
& Company, an investment management firm specializing in biotechnology
companies. From May 1984 until May 1987, Mr. Farnsworth served as a
Senior Vice President of Bank of America and head of the U.S. Private
Banking Division.
Andrew Cox, Trustee (Age 53)
750 Vine Street, Denver, Colorado 80206. Since June 1988, Mr. Cox has
been engaged as an independent investment consultant. From September
1976 until June 1988, Mr. Cox was a Vice President of the Founders
Group of Mutual Funds, Denver, Colorado, and Portfolio Manager or
Co-Portfolio Manager of several of the mutual funds in the Founders
Group.
Cecilia H. Herbert, Trustee (Age 48)
2636 Vallejo Street, San Francisco, California 94123. Ms. Herbert was
Managing Director of Morgan Guaranty Trust Company. From 1983 to 1991
she was General Manager of the bank's San Francisco office, with
responsibility for lending, corporate finance and investment banking.
Ms. Herbert is a member of the Board of Schools of the Sacred Heart,
and is a member of the Archdiocese of San Francisco Finance Council,
where she chairs the Investment Committee.
- -------------------
* Trustee deemed an "interested person" of the Funds as defined in the
Investment Company Act.
B-44
<PAGE>
Officers
Federal banking laws require that, because of the Manager's affiliation
with Commerzbank, no officer or employee of the Manager may serve as a senior
officer of the Funds or the Trusts and only a limited number of employees of the
Manager may serve as junior officers. Effective July 31, 1997, the following
persons have been elected as officers by the Boards of Trustees to replace the
former officers in order to comply with that requirement:
Richard W. Ingram, President and Treasurer (Age 41)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Mr. Ingram is
the Executive Vice President and Director of Client Services and
Treasury Administration of FDI; Senior Vice President of Premier Mutual
Fund Services, Inc., an affiliate of FDI ("Premier Mutual") and an
officer of certain investment companies advised or administered by JP
Morgan ("Morgan"), Dreyfus Corporation ("Dreyfus"), Waterhouse Asset
Management, Inc. ("Waterhouse"), RCM Capital Management L.L.C. ("RCM")
and Harris Trust and Savings Bank ("Harris") or their respective
affiliates. Prior to April 1997, Mr. Ingram was Senior Vice President
and Director of Client Services and Treasury Administration of FDI.
From March 1994 to November 1995, Mr. Ingram was Vice President and
Division Manager of First Data Investor Services Group, Inc. From 1989
to 1994, Mr. Ingram was Vice President, Assistant Treasurer and Tax
Director - Mutual Funds of The Boston Company, Inc.
Karen Jacoppo-Wood, Vice President and Assistant Secretary (Age 30)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Ms.
Jacoppo-Wood is the Assistant Vice President of FDI and an officer of
certain investment companies advised or administered by Morgan,
Waterhouse, RCM and Harris or their respective affiliates. From June
1994 to January 1996, Ms. Jacoppo-Wood was a Manager, SEC Registration,
Scudder, Stevens & Clark, Inc. From 1988 to May 1994, Ms. Jacoppo-Wood
was a Senior Paralegal at The Boston Company Advisers, Inc. ("TBCA").
Elizabeth A. Keeley, Vice President and Assistant Secretary (Age 27)
200 Park Avenue, New York, New York 10166. Ms. Keeley is the Vice
President and Senior Counsel of FDI and Premier Mutual, and an officer
of certain investment companies advised or administered by Morgan,
Dreyfus, RCM, Waterhouse and Harris or their respective affiliates.
Prior to August 1996, Ms. Keeley was Assistant Vice
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<PAGE>
President and Counsel of FDI and Premier Mutual. Prior to September
1995, Ms. Keeley was enrolled at Fordham University School of Law and
received her J.D. in May 1995. Prior to September 1992, Ms. Keeley was
an Assistant at the National Association for Public Interest Law.
Christopher J. Kelley, Vice President and Assistant Secretary (Age 32)
60 State Street, Suite 1300, Boston, Massachusetts 002109. Mr. Kelley
is the Vice President and Associate General Counsel of FDI and Premier
Mutual, and an officer of certain investment companies advised or
administered by Morgan, Waterhouse and Harris or their respective
affiliates. From April 1994 to July 1996, Mr. Kelley was Assistant
Counsel at Forum Financial Group. From 1992 to 1994, Mr. Kelley was
employed by Putnam Investments in Legal and Compliance capacities.
Prior to 1992, Mr. Kelley attended Boston College Law School, from
which he graduated in May 1992.
Mary A. Nelson, Vice President and Assistant Treasurer (Age 33)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Ms. Nelson is
the Vice President and Manager of Treasury Services and Administration
of FDI and Premier Mutual, and an officer of certain investment
companies advised or administered by Morgan, Dreyfus, Waterhouse, RCM
and Harris or their respective affiliates. From 1989 to 1994 Ms. Nelson
was Assistant Vice President and Client Manager for The Boston Company,
Inc.
John E. Pelletier, Vice President and Secretary (Age 33)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Mr. Pelletier
is the Senior Vice President, General Counsel, Secretary and Clerk of
FDI and Premier Mutual, and an officer of certain investment companies
advised or administered by Morgan, Dreyfus, Waterhouse, RCM and Harris
or their respective affiliates. From February 1992 to April 1994, Mr.
Pelletier served as Counsel for TBCA. From August 1990 to February
1992, Mr. Pelletier was employed as an Associate at Ropes & Gray (a
Boston law firm).
Gary S. MacDonald, Vice President and Assistant Treasurer (Age 32)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Mr. MacDonald
is the Vice President of FDI with which he has been associated since
November 1996. He also is an
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<PAGE>
officer of certain investment companies advised or administered by RCM.
From September 1992 to November 1996 he was Vice President of BayBanks
Investment Management/Bay Bank Financial Services; and from April 1989
to September 1992 he was an Analyst at Wellington Management Company.
Marie E. Connolly, Vice President and Assistant Treasurer (Age 40)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Ms. Connolly
is the President, Chief Executive Officer, Chief Compliance Officer and
Director of FDI and Premier Mutual, and an officer of certain
investment companies advised or administered by Morgan and Dreyfus or
their respective affiliates. From December 1991 to July 1994, Ms.
Connolly was President and Chief Compliance Officer of FDI. Prior to
December 1991, Ms. Connolly served as Vice President and Controller,
and later Senior Vice President of TBCA.
Douglas C. Conroy, Vice President and Assistant Treasurer (Age 28)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Mr. Conroy is
the Assistant Vice President and Manager of Treasury Services and
Administration of FDI and an officer of certain investment companies
advised or administered by Morgan and Dreyfus or their respective
affiliates. Prior to April 1997, Mr. Conroy was Supervisor of Treasury
Services and Administration of FDI. From April 1993 to January 1995,
Mr. Conroy was a Senior Fund Accountant for Investors Bank & Trust
Company. From December 1991 to March 1993, Mr. Conroy was employed as a
Fund Accountant at The Boston Company, Inc.
Joseph F. Tower, III, Vice President and Assistant Treasurer (Age 35)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Mr. Tower is
the Executive Vice President, Treasurer and Chief Financial Officer,
Chief Administrative Officer and Director of FDI; Senior Vice
President, Treasurer and Chief Financial Officer, Chief Administrative
Officer and Director of Premier Mutual, and an officer of certain
investment companies advised or administered by Morgan, Dreyfus and
Waterhouse or their respective affiliates. Prior to April 1997, Mr.
Tower was Senior Vice President, Treasurer and Chief Financial Officer,
Chief Administrative Officer and Director of FDI. From July 1988 to
November 1993, Mr. Tower was Financial Manager of The Boston Company,
Inc.
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<PAGE>
<TABLE>
The officers of the Trusts, and the Trustees who are considered "interested
persons" of the Trusts, receive no compensation directly from the Trusts for
performing the duties of their offices. However, those officers and Trustees who
are officers of the Manager or the Distributor may receive remuneration
indirectly because the Manager will receive a management fee from the Funds. The
Trustees who are not affiliated with the Manager or the Distributor receive an
annual retainer and fees and expenses for each regular Board meeting attended.
The aggregate compensation paid by each Trust to each of the Trustees during the
fiscal year ended June 30, 1996, and the aggregate compensation paid to each of
the Trustees during the fiscal year ended June 30, 1996 by all of the registered
investment companies to which the Manager provides investment advisory services,
are set forth below.
<CAPTION>
Total
Pension or Compensation
Aggregate Retirement From the
Aggregate Compensation Benefits Trusts and
Compensation from The Accrued as Fund Complex
from The Montgomery Part of Fund (1 additional
Name of Trustee Montgomery Funds Funds II Expenses* Trust)
- --------------- ---------------- ------------ ------------ ------
<S> <C> <C> <C> <C>
R. Stephen Doyle None None -- None
Jerome S. Markowitz None None -- None
John A. Farnsworth $25,000 $5,000 -- $32,500
Andrew Cox $25,000 $5,000 -- $32,500
Cecilia H. Herbert $25,000 $5,000 -- $32,500
<FN>
* The Trusts do not maintain pension or retirement plans.
</FN>
</TABLE>
INVESTMENT MANAGEMENT AND OTHER SERVICES
Investment Management Services. As stated in the Prospectus, investment
management services are provided to the Funds by Montgomery Asset Management,
LLC, the Manager, pursuant to an Investment Management Agreement with each Fund
effective as of July 31, 1997 (each, an "Agreement" and collectively, the
"Agreements"). For the existing Funds, the Agreements are in effect for an
initial two-year period and for Funds that commenced operation after July 31,
1997, the Agreements are in effect with respect to each such Fund for two years
after the Fund's inclusion in its Trust's Agreement (on or around its beginning
of public operations) and then continue for each Fund for periods not exceeding
one year so long as such continuation is approved at least annually by (1) the
Board of the appropriate Trust or the vote of a majority of the outstanding
shares of that Fund, and (2) a majority of the Trustees who are not interested
persons of any party to the relevant Agreement, in each case by a vote cast in
person at a meeting called for the purpose of voting on such
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<PAGE>
approval. The Agreements may be terminated at any time, without penalty, by a
Fund or the Manager upon 60 days' written notice, and are automatically
terminated in the event of its assignment as defined in the Investment Company
Act.
For services performed under the Agreements, each Fund pays the Manager a
management fee (accrued daily but paid when requested by the Manager) based upon
the average daily net assets of the Fund at the following annual rates:
Fund Average Daily Net Annual
- ---- Assets Rate
------ ----
Montgomery Growth Fund First $500 million 1.00%
Next $500 million 0.90%
Over $1 billion 0.80%
Montgomery Equity Income Fund First $500 million 0.60%
Over $500 million 0.50%
Montgomery Small Cap Fund First $250 million 1.00%
Over $250 million 0.80%
Montgomery Small Cap First $200 million 1.20%
Opportunities Fund Next $300 million 1.10%
Over $500 million 1.00%
Montgomery Micro Cap Fund First $200 million 1.40%
Over $200 million 1.25%
Montgomery Global First $500 million 1.25%
Opportunities Fund Next $500 million 1.10%
Over $1 billion 1.00%
Montgomery Global First $250 million 1.25%
Communications Fund Over $250 million 1.00%
Montgomery International First $250 million 1.25%
Small Cap Fund Over $250 million 1.00%
Montgomery International First $500 million 1.10%
Growth Fund Next $500 million 1.00%
Over $1 billion 0.90%
Montgomery Emerging Asia Fund First $500 million 1.25%
Next $500 million 1.10%
Over $1 billion 1.00%
Montgomery Latin America Fund First $500 million 1.25%
Next $500 million 1.10%
Over $1 billion 1.00%
Montgomery Emerging Markets First $250 million 1.25%
Fund Over $250 million 1.00%
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Montgomery Select 50 Fund First $250 million 1.25%
Next $250 million 1.00%
Over $500 million 0.90%
Montgomery Asset Allocation All Amounts None
Fund
Montgomery Global Asset All Amounts 0.20%*
Allocation Fund
Montgomery Short Duration First $500 million 0.50%
Government Bond Fund Over $500 million 0.40%
Montgomery Government Reserve First $250 million 0.40%
Fund Next $250 million 0.30%
Over $500 million 0.20%
Montgomery Federal Tax-Free First $500 million 0.40%
Money Fund Over $500 million 0.30%
Montgomery California Tax- First $500 million 0.50%
Free Intermediate Bond Fund Over $500 million 0.40%
Montgomery California Tax- First $500 million 0.40%
Free Money Fund Over $500 million 0.30%
* This amount represents only the management fee of the Asset Allocation Fund
and does not include management fees attributable to the Underlying Funds
which ultimately are to be borne by shareholders of the Global Asset
Allocation Fund.
** This amount represents only the management fee of the Global Asset
Allocation Fund and does not include management fees attributable to the
Underlying Funds which ultimately are to be borne by shareholders of the
Global Asset Allocation Fund.
As noted in the Prospectus, the Manager has agreed to reduce some or all of
its management fee if necessary to keep total operating expenses, expressed on
an annualized basis, at or below the following percentages of each Fund's
average net assets (excluding Rule 12b-1 fees): Emerging Asia, Emerging Markets,
Latin America, International Small Cap, Opportunities and Communications Funds,
one and nine-tenths of one percent (1.90%) each; Select 50 Fund, one and
eight-tenths of one percent (1.80%); Micro Cap Fund, one and three-fourths
percent (1.75%); International Growth Fund, one and sixty-five one-hundredths of
one percent (1.65%); Growth and Small Cap Opportunities Fund, one and
five-tenths of one percent (1.50%); Small Cap Fund, one and four-tenths of one
percent (1.40%); Allocation Fund, one and three-tenths percent (1.30%); Global
Asset Allocation Fund, five-tenths of one percent (0.50%) of the Global Asset
Allocation Fund's average net assets (excluding expenses related to the
Underlying Funds) or one and seventy-five one-hundredths of one percent (1.75%)
(including total expenses of the Underlying Funds), the Short and California
Intermediate Bond Funds, seven-tenths of one percent (0.70%) each; the Equity
Income Fund, eighty-five-one-
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<PAGE>
hundredths of one percent (0.85%); and the Money Market Funds, six-tenths of one
percent (0.60%), each. The Manager also may voluntarily reduce additional
amounts to increase the return to a Fund's investors. Any reductions made by the
Manager in its fees are subject to reimbursement by that Fund within the
following three years provided the Fund is able to effect such reimbursement and
remain in compliance with the foregoing expense limitations. The Manager
generally seeks reimbursement for the oldest reductions and waivers before
payment by the Funds for fees and expenses for the current year.
Operating expenses for purposes of the Agreements include the Manager's
management fee but do not include any taxes, interest, brokerage commissions,
expenses incurred in connection with any merger or reorganization or
extraordinary expenses such as litigation.
The Agreements were approved with respect to each Fund by the Board of the
Trust at duly called meetings. In considering the Agreements, the Trustees
specifically considered and approved the provision which permits the Manager to
seek reimbursement of any reduction made to its management fee within the
three-year period. The Manager's ability to request reimbursement is subject to
various conditions. First, any reimbursement is subject to a Fund's ability to
effect such reimbursement and remain in compliance with applicable expense
limitations in place at that time. Second, the Manager must specifically request
the reimbursement from the Board of Trustees. Third, the Board of Trustees must
approve such reimbursement as appropriate and not inconsistent with the best
interests of the Fund and the shareholders at the time such reimbursement is
requested. Because of these substantial contingencies, the potential
reimbursements will be accounted for as contingent liabilities that are not
recordable on the balance sheet of a Fund until collection is probable; but the
full amount of the potential liability will appear footnote to each Fund's
financial statements. At such time as it appears probable that a Fund is able to
effect such reimbursement, that the Manager intends to seek such reimbursement
and that the Board of Trustees has or is likely to approve the payment of such
reimbursement, the amount of the reimbursement will be accrued as an expense of
that Fund for that current period.
As compensation for its investment management services, each of the
following Funds paid the Manager investment advisory fees in the amounts
specified below. Additional investment advisory fees payable under the
Agreements may have instead been waived by the Manager, but may be subject to
reimbursement by the respective Funds as discussed previously.
Fund Year or Period Ended June 30,
- ----
1996 1995 1994
---- ---- ----
Montgomery Growth Fund $8,336,529 $5,566,892 $290,908
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Montgomery Equity Income $101,709 $12,589 NA
Fund
Montgomery Small Cap Fund $2,364,834 $2,095,945 $2,368,563
Montgomery Small Cap $217,603 NA NA
Opportunities Fund
Montgomery Micro Cap Fund $3,732,720 $703,124 NA
Montgomery Global $381,316 $226,283 $99,102
Opportunities Fund
Montgomery Global $3,186,649 $2,952,058 $2,261,713
Communications Fund
Montgomery International $611,587 $473,200 $300,614
Small Cap Fund
Montgomery International $97,137 NA NA
Growth Fund
Montgomery Latin America NA NA NA
Fund
Montgomery Emerging Asia NA NA NA
Fund
Montgomery Emerging $10,262,601 $9,290,178 $5,678,053
Markets Fund
Montgomery Select 50 Fund $359,453 NA NA
Montgomery Asset $998,198 $150,882 $2,232
Allocation Fund
Montgomery Short Duration $93,531 $99,249 $117,470
Government Bond Fund
Montgomery Government $1,703,723 $1,440,964 $633,266
Reserve Fund
Montgomery Federal Tax- NA NA NA
Free Money Fund
Montgomery California Tax- $48,596 $43,889 $49,676
Free Intermediate Bond
Fund
Montgomery California Tax- $538,030 $149,574 NA
Free Money Fund
The Manager also may act as an investment adviser or administrator to other
persons, entities, and corporations, including other investment companies.
Please refer to the table above, which indicates officers and trustees who are
affiliated persons of the Trusts and who are also affiliated persons of the
Manager.
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The use of the name "Montgomery" by the Trusts and by the Funds is pursuant
to the consent of the Manager, which may be withdrawn if the Manager ceases to
be the Manager of the Funds.
Share Marketing Plan. The Trusts have adopted a Share Marketing Plan (or
Rule 12b-1 Plan) (the "12b-1 Plan") with respect to the Funds pursuant to Rule
12b-1 under the Investment Company Act. The Distributor serves as the
distribution coordinator under the 12b-1 Plan and, as such, receives any fees
paid by the Funds pursuant to the 12b-1 Plan.
Prior to August 24, 1995, the Funds offered only one class of shares. On
that date, the Board of Trustees of the Trusts, including a majority of the
Trustees who are not interested persons of the Trust and who have no direct or
indirect financial interest in the operation of the 12b-1 Plan or in any
agreement related to the 12b-1 Plan (the "Independent Trustees"), at their
regular quarterly meeting, adopted the 12b-1 Plan for the newly designated Class
P and Class L shares of each Fund. The initial shareholder of the Class P and
Class L shares, if any, of each Fund approved the 12b-1 Plan covering each
Class. The single class of shares existing before that date was redesignated the
Class R shares. Class R shares are not covered by the 12b-1 Plan. On May 29,
1997, the Board of Trustees, including all the Independent Trustees, approved
the appointment of the Distributor as the distribution coordinator to replace
the former Manager in that role.
Under the 12b-1 Plan, each Fund pays distribution fees to the Distributor
at an annual rate of up to 0.25% of the Fund's aggregate average daily net
assets attributable to its Class P shares and at an annual rate of up to 0.75%
of the Fund's aggregate average daily net assets attributable to its Class L
shares, respectively, to reimburse the Distributor for its expenses in
connection with the promotion and distribution of those Classes.
The 12b-1 Plan provides that the Distributor may use the distribution fees
received from the Class of the Fund covered by the 12b-1 Plan only to pay for
the distribution expenses of that Class. Distribution fees are accrued daily and
paid monthly, and are charged as expenses of the Class P and Class L shares as
accrued.
Class P and Class L shares are not obligated under the 12b-1 Plan to pay
any distribution expense in excess of the distribution fee. Thus, if the 12b-1
Plan were terminated or otherwise not continued, no amounts (other than current
amounts accrued but not yet paid) would be owed by the Class to the Manager.
The 12b-1 Plan provides that it shall continue in effect from year to year
provided that a majority of the Board of Trustees of the Trust, including a
majority of the Independent Trustees, vote annually to continue the 12b-1 Plan.
The 12b-1 Plan (and any distribution agreement between the Fund, the Distributor
or the Manager and a selling agent with respect to the Class P or Class L
shares) may be terminated without penalty upon at least 60-days'
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<PAGE>
notice by the Distributor or the Manager, or by the Fund by vote of a majority
of the Independent Trustees, or by vote of a majority of the outstanding shares
(as defined in the Investment Company Act) of the Class to which the 12b-1 Plan
applies.
All distribution fees paid by the Funds under the 12b-1 Plan will be paid
in accordance with rule 2830 of the NASD Rules of Conduct, as such rule may
change from time to time. Pursuant to the 12b-1 Plan, the Boards of Trustees
will review at least quarterly a written report of the distribution expenses
incurred by the Manager on behalf of the Class P and Class L shares of each
Fund. In addition, as long as the 12b-1 Plan remains in effect, the selection
and nomination of Trustees who are not interested persons (as defined in the
Investment Company Act) of the Trust shall be made by the Trustees then in
office who are not interested persons of the Trust.
Shareholder Services Plan. The Trusts have adopted a Shareholder Services
Plan (the "Services Plan") with respect to the Funds. The Manager (or its
affiliate) serves as the service provider under the Services Plan and, as such,
receives any fees paid by the Funds pursuant to the Services Plan. The Trusts
have not yet implemented the Services Plan for any Fund and have not set a date
for implementation. Affected shareholders will be notified at least 60 days
before implementation of the Services Plan.
On August 24, 1995, the Board of Trustees of the Trusts, including a
majority of the Trustees who are not interested persons of the Trust and who
have no direct or indirect financial interest in the operation of the Services
Plan or in any agreement related to the Services Plan (the "Independent
Trustees"), at their regular quarterly meeting, adopted the Services Plan for
the newly designated Class P and Class L shares of each Fund. The initial
shareholder of the Class P and Class L shares, if any, of each Fund approved the
Services Plan covering each Class. Class R shares are not covered by the
Services Plan.
Under the Services Plan, when implemented, Class P and Class L of each Fund
will pay a continuing service fee to the Manager, the Distributor or other
service providers, in an amount, computed and prorated on a daily basis, equal
to 0.25% per annum of the average daily net assets of Class P and Class L shares
of each Fund. Such amounts are compensation for providing certain services to
clients owning shares of Class P or Class L of the Funds, including personal
services such as processing purchase and redemption transactions, assisting in
change of address requests and similar administrative details, and providing
other information and assistance with respect to a Fund, including responding to
shareholder inquiries.
The Distributor. The Distributor may provide certain administrative
services to the Funds on behalf of the Manager. The Distributor will also
perform distribution services for persons other than the Funds.
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<PAGE>
The Custodian. Morgan Stanley Trust Company serves as principal Custodian
of the Funds' assets, which are maintained at the Custodian's principal office
and at the offices of its branches and agencies throughout the world. The
Custodian has entered into agreements with foreign sub-custodians approved by
the Trustees pursuant to Rule 17f-5 under the Investment Company Act. The
Custodian, its branches and sub-custodians generally hold certificates for the
securities in their custody, but may, in certain cases, have book records with
domestic and foreign securities depositories, which in turn have book records
with the transfer agents of the issuers of the securities. Compensation for the
services of the Custodian is based on a schedule of charges agreed on from time
to time.
EXECUTION OF PORTFOLIO TRANSACTIONS
In all purchases and sales of securities for the Funds, the primary
consideration is to obtain the most favorable price and execution available.
Pursuant to the Agreements, the Manager determines which securities are to be
purchased and sold by the Funds and which broker-dealers are eligible to execute
the Funds' portfolio transactions, subject to the instructions of, and review
by, the Funds and the Boards. Purchases and sales of securities within the U.S.
other than on a securities exchange will generally be executed directly with a
"market-maker" unless, in the opinion of the Manager or a Fund, a better price
and execution can otherwise be obtained by using a broker for the transaction.
The International and Global Funds contemplate purchasing most equity
securities directly in the securities markets located in emerging or developing
countries or in the over-the-counter markets. A Fund purchasing ADRs and EDRs
may purchase those listed on stock exchanges, or traded in the over-the-counter
markets in the U.S. or Europe, as the case may be. ADRs, like other securities
traded in the U.S., will be subject to negotiated commission rates. The foreign
and domestic debt securities and money market instruments in which a Fund may
invest may be traded in the over-the-counter markets.
Purchases of portfolio securities for the Funds also may be made directly
from issuers or from underwriters. Where possible, purchase and sale
transactions will be effected through dealers (including banks) which specialize
in the types of securities which the Funds will be holding, unless better
executions are available elsewhere. Dealers and underwriters usually act as
principals for their own account. Purchases from underwriters will include a
concession paid by the issuer to the underwriter and purchases from dealers will
include the spread between the bid and the asked price. If the execution and
price offered by more than one dealer or underwriter are comparable, the
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<PAGE>
order may be allocated to a dealer or underwriter that has provided research or
other services as discussed below.
In placing portfolio transactions, the Manager will use its best efforts to
choose a broker-dealer capable of providing the services necessary generally to
obtain the most favorable price and execution available. The full range and
quality of services available will be considered in making these determinations,
such as the firm's ability to execute trades in a specific market required by a
Fund, such as in an emerging market, the size of the order, the difficulty of
execution, the operational facilities of the firm involved, the firm's risk in
positioning a block of securities, and other factors.
Provided the Trusts' officers are satisfied that the Funds are receiving
the most favorable price and execution available, the Manager may also consider
the sale of the Funds' shares as a factor in the selection of broker-dealers to
execute their portfolio transactions. The placement of portfolio transactions
with broker-dealers who sell shares of the Funds is subject to rules adopted by
the National Association of Securities Dealers, Inc.
While the Funds' general policy is to seek first to obtain the most
favorable price and execution available, in selecting a broker-dealer to execute
portfolio transactions, weight may also be given to the ability of a
broker-dealer to furnish brokerage, research and statistical services to the
Funds or to the Manager, even if the specific services were not imputed just to
the Funds and may be lawfully and appropriately used by the Manager in advising
other clients. The Manager considers such information, which is in addition to,
and not in lieu of, the services required to be performed by it under the
Agreement, to be useful in varying degrees, but of indeterminable value. In
negotiating any commissions with a broker or evaluating the spread to be paid to
a dealer, a Fund may therefore pay a higher commission or spread than would be
the case if no weight were given to the furnishing of these supplemental
services, provided that the amount of such commission or spread has been
determined in good faith by that Fund and the Manager to be reasonable in
relation to the value of the brokerage and/or research services provided by such
broker-dealer, which services either produce a direct benefit to that Fund or
assist the Manager in carrying out its responsibilities to that Fund. The
standard of reasonableness is to be measured in light of the Manager's overall
responsibilities to the Funds. The Boards review all brokerage allocations where
services other than best price and execution capabilities are a factor to ensure
that the other services provided meet the criteria outlined above and produce a
benefit to the Funds.
Investment decisions for the Funds are made independently from those of
other client accounts of the Manager or its affiliates, and suitability is
always a paramount consideration. Nevertheless, it is possible that at times the
same securities will be acceptable for one or more Funds and for one or more of
such client accounts. The Manager and its personnel may have interests
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<PAGE>
in one or more of those client accounts, either through direct investment or
because of management fees based on gains in the account. The Manager has
adopted allocation procedures to ensure the fair allocation of securities and
prices between the Funds and the Manager's various other accounts. These
procedures emphasize the desirability of bunching trades and price averaging
(see below) to achieve objective fairness among clients advised by the same
portfolio manager or portfolio team. Where trades cannot be bunched, the
procedures specify alternatives designed to ensure that buy and sell
opportunities are allocated fairly and that, over time, all clients are treated
equitably. The Manager's trade allocation procedures also seek to ensure
reasonable efficiency in client transactions, and they provide portfolio
managers with reasonable flexibility to use allocation methodologies that are
appropriate to their investment discipline on client accounts.
To the extent any of the Manager's client accounts and a Fund seek to
acquire the same security at the same general time (especially if the security
is thinly traded or is a small cap stock), that Fund may not be able to acquire
as large a portion of such security as it desires, or it may have to pay a
higher price or obtain a lower yield for such security. Similarly, a Fund may
not be able to obtain as high a price for, or as large an execution of, an order
to sell any particular security at the same time. If one or more of such client
accounts simultaneously purchases or sells the same security that a Fund is
purchasing or selling, each day's transactions in such security generally will
be allocated between that Fund and all such client accounts in a manner deemed
equitable by the Manager, taking into account the respective sizes of the
accounts, the amount being purchased or sold and other factors deemed relevant
by the Manager. In many cases, the Funds' transactions are bunched with the
transactions for other client accounts. It is recognized that in some cases this
system could have a detrimental effect on the price or value of the security
insofar as that Fund is concerned. In other cases, however, it is believed that
the ability of the Fund to participate in volume transactions may produce better
executions for the Fund.
The Manager's sell discipline for the Domestic Equity, Select 50,
International and Global Funds' investment in issuers is based on the premise of
a long-term investment horizon; however, sudden changes in valuation levels
arising from, for example, new macroeconomic policies, political developments,
and industry conditions could change the assumed time horizon. Liquidity,
volatility, and overall risk of a position are other factors considered by the
Manager in determining the appropriate investment horizon. These Funds will
limit investments in illiquid securities to 15% of net assets.
For the Select 50, International and Global Funds, sell decisions at the
country level are dependent on the results of the Manager's asset allocation
model. Some countries impose restrictions on repatriation of capital and/or
dividends which would lengthen the Manager's assumed time horizon in those
countries. In addition, the rapid pace of privatization and
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<PAGE>
initial public offerings creates a flood of new opportunities which must
continually be assessed against current holdings.
At the company level, sell decisions are influenced by a number of factors
including current stock valuation relative to the estimated fair value range, or
a high P/E relative to expected growth. Negative changes in the relevant
industry sector, or a reduction in international competitiveness and a declining
financial flexibility may also signal a sell.
For the year ended June 30, 1996, the Funds' total securities transactions
generated commissions of $14,874,777, of which $164,056 was paid to Montgomery
Securities, the Former Distributor of the Funds. For the year ended June 30,
1995, the Funds' total securities transactions generated commissions of
$11,840,329, of which $74,850 was paid to Montgomery Securities. For the year
ended June 30, 1994, the Funds' total securities transactions generated
commissions of $586,092, of which $168 was paid to Montgomery Securities. During
those years, Montgomery Securities was an affiliate of the Former Manager.
The Funds do not effect securities transactions through brokers in
accordance with any formula, nor do they effect securities transactions through
such brokers solely for selling shares of the Funds. However, as stated above,
Montgomery Securities may act as one of the Funds' brokers in the purchase and
sale of portfolio securities, and other brokers who execute brokerage
transactions as described above may from time to time effect purchases of shares
of the Funds for their customers.
Depending on the Manager's view of market conditions, the Funds may or may
not purchase securities with the expectation of holding them to maturity,
although their general policy is to hold securities to maturity. The Funds may,
however, sell securities prior to maturity to meet redemptions or as a result of
a revised management evaluation of the issuer.
ADDITIONAL PURCHASE AND REDEMPTION INFORMATION
Each Trust reserves the right in its sole discretion to (i) suspend the
continued offering of its Funds' shares, and (ii) reject purchase orders in
whole or in part when in the judgment of the Manager or the Distributor such
suspension or rejection is in the best interest of a Fund.
When in the judgment of the Manager it is in the best interests of a Fund,
an investor may purchase shares of that Fund by tendering payment in kind in the
form of securities, provided that any such tendered securities are readily
marketable (e.g., the Funds will not acquire restricted securities), their
acquisition is consistent with that Fund's investment objective and policies,
and the tendered securities are otherwise acceptable to that Fund's Manager.
Such securities are acquired by that Fund only for the purpose of investment and
not for resale. For the purposes of sales of shares of that Fund for such
securities, the tendered
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<PAGE>
securities shall be valued at the identical time and in the identical manner
that the portfolio securities of that Fund are valued for the purpose of
calculating the net asset value of that Fund's shares. A shareholder who
purchases shares of a Fund by tendering payment for the shares in the form of
other securities may be required to recognize gain or loss for income tax
purposes on the difference, if any, between the adjusted basis of the securities
tendered to the Fund and the purchase price of the Fund's shares acquired by the
shareholder.
Payments to shareholders for shares of a Fund redeemed directly from that
Fund will be made as promptly as possible but no later than three days after
receipt by the Transfer Agent of the written request in proper form, with the
appropriate documentation as stated in the Prospectus, except that a Fund may
suspend the right of redemption or postpone the date of payment during any
period when (i) trading on the New York Stock Exchange ("NYSE") is restricted as
determined by the SEC or the NYSE is closed for other than weekends and
holidays; (ii) an emergency exists as determined by the SEC (upon application by
a Fund pursuant to Section 22(e) of the Investment Company Act) making disposal
of portfolio securities or valuation of net assets of a Fund not reasonably
practicable; or (iii) for such other period as the SEC may permit for the
protection of the Fund's shareholders.
The Funds intend to pay cash (U.S. dollars) for all shares redeemed, but,
under abnormal conditions that make payment in cash unwise, the Funds may make
payment partly in their portfolio securities with a current amortized cost or
market value, as appropriate, equal to the redemption price. Although the Funds
do not anticipate that they will make any part of a redemption payment in
securities, if such payment were made, an investor may incur brokerage costs in
converting such securities to cash. The Trusts have elected to be governed by
the provisions of Rule 18f-1 under the Investment Company Act, which require
that the Funds pay in cash all requests for redemption by any shareholder of
record limited in amount, however, during any 90-day period to the lesser of
$250,000 or 1% of the value of the Trust's net assets at the beginning of such
period.
The value of shares on redemption or repurchase may be more or less than
the investor's cost, depending upon the market value of a Fund's portfolio
securities at the time of redemption or repurchase.
Retirement Plans. Shares of the Taxable Funds are available for purchase by
any retirement plan, including Keogh plans, 401(k) plans, 403(b) plans and
individual retirement accounts ("IRAs").
For individuals who wish to purchase shares of the Taxable Funds through an
IRA, there is available through these Funds a prototype individual retirement
account and custody agreement. The custody agreement provides that DST Systems,
Inc. will act as custodian under the plan, and will furnish custodial services
for an annual maintenance fee per participating account of
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<PAGE>
$10. (These fees are in addition to the normal custodian charges paid by these
Funds and will be deducted automatically from each Participant's account.) For
further details, including the right to appoint a successor custodian, see the
plan and custody agreements and the IRA Disclosure Statement as provided by
these Funds. An IRA that invests in shares of these Funds may also be used by
employers who have adopted a Simplified Employee Pension Plan. Individuals or
employers who wish to invest in shares of a Fund under a custodianship with
another bank or trust company must make individual arrangements with such
institution.
The IRA Disclosure Statement available from the Taxable Funds contains more
information on the amount investors may contribute and the deductibility of IRA
contributions. In summary, an individual may make deductible contributions to
the IRA of up to 100% of earned compensation, not to exceed $2,000 annually (or
$4,000 to two IRAs if there is a non-working spouse). An IRA may be established
whether or not the amount of the contribution is deductible. Generally, a full
deduction for federal income tax purposes will only be allowed to taxpayers who
meet one of the following two additional tests:
(A) the individual and the individual's spouse are each not an active
participant in an employer's qualified retirement plan, or
(B) the individual's adjusted gross income (with some modifications) before
the IRA deduction is (i) $40,000 or less for married couples filing jointly, or
(ii) $25,000 or less for single individuals. The maximum deduction is reduced
for a married couple filing jointly with a combined adjusted gross income
(before the IRA deduction) between $40,000 and $50,000, and for a single
individual with an adjusted gross income (before the IRA deduction) between
$25,000 and $35,000.
It is advisable for an investor considering the funding of any retirement
plan to consult with an attorney or to obtain advice from a competent retirement
plan consultant with respect to the requirements of such plans and the tax
aspects thereof.
DETERMINATION OF NET ASSET VALUE
The net asset value per share of each Fund is calculated as follows: all
liabilities incurred or accrued are deducted from the valuation of total assets,
which includes accrued but undistributed income; the resulting net assets are
divided by the number of shares of that Fund outstanding at the time of the
valuation and the result (adjusted to the nearest cent) is the net asset value
per share.
As noted in the Prospectus, the net asset value of shares of the Funds
generally will be determined at least once daily as of 4:00 p.m. (12:00 noon for
the Money Market Funds), New York City time, on each day the NYSE is open for
trading (except national
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bank holidays for the Fixed Income Funds). It is expected that the NYSE will be
closed on Saturdays and Sundays and on New Year's Day, Presidents' Day, Good
Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day and
Christmas. The national bank holidays, in addition to New Year's Day,
Presidents' Day, Good Friday, Memorial Day, Independence Day, Labor Day,
Thanksgiving Day and Christmas, include January 2, Martin Luther King Day, Good
Friday, Columbus Day, Veteran's Day and December 26. The Funds may, but do not
expect to, determine the net asset values of their shares on any day when the
NYSE is not open for trading if there is sufficient trading in their portfolio
securities on such days to affect materially per-share net asset value.
Generally, trading in and valuation of foreign securities is substantially
completed each day at various times prior to the close of the NYSE. In addition,
trading in and valuation of foreign securities may not take place on every day
in which the NYSE is open for trading. Furthermore, trading takes place in
various foreign markets on days in which the NYSE is not open for trading and on
which the Funds' net asset values are not calculated. Occasionally, events
affecting the values of such securities in U.S. dollars on a day on which a Fund
calculates its net asset value may occur between the times when such securities
are valued and the close of the NYSE that will not be reflected in the
computation of that Fund's net asset value unless the Board or its delegates
deem that such events would materially affect the net asset value, in which case
an adjustment would be made.
Generally, the Funds' investments are valued at market value or, in the
absence of a market value, at fair value as determined in good faith by the
Manager and the Trust's Pricing Committee pursuant to procedures approved by or
under the direction of the Board.
The Funds' securities, including ADRs, EDRs and GDRs, which are traded on
securities exchanges are valued at the last sale price on the exchange on which
such securities are traded, as of the close of business on the day the
securities are being valued or, lacking any reported sales, at the mean between
the last available bid and asked price. Securities that are traded on more than
one exchange are valued on the exchange determined by the Manager to be the
primary market. Securities traded in the over-the-counter market are valued at
the mean between the last available bid and asked price prior to the time of
valuation. Securities and assets for which market quotations are not readily
available (including restricted securities which are subject to limitations as
to their sale) are valued at fair value as determined in good faith by or under
the direction of the Boards.
Short-term debt obligations with remaining maturities in excess of 60 days
are valued at current market prices, as discussed above. Short-term securities
with 60 days or less remaining to maturity are, unless conditions indicate
otherwise, amortized to maturity based on their cost to a Fund if acquired
within 60 days of maturity or, if already held by a Fund on the 60th day, based
on the value determined on the 61st day.
B-61
<PAGE>
Corporate debt securities, mortgage-related securities and asset-backed
securities held by the Funds are valued on the basis of valuations provided by
dealers in those instruments, by an independent pricing service, approved by the
appropriate Board, or at fair value as determined in good faith by procedures
approved by the Boards. Any such pricing service, in determining value, will use
information with respect to transactions in the securities being valued,
quotations from dealers, market transactions in comparable securities, analyses
and evaluations of various relationships between securities and yield to
maturity information.
An option that is written by a Fund is generally valued at the last sale
price or, in the absence of the last sale price, the last offer price. An option
that is purchased by a Fund is generally valued at the last sale price or, in
the absence of the last sale price, the last bid price. The value of a futures
contract equals the unrealized gain or loss on the contract that is determined
by marking the contract to the current settlement price for a like contract on
the valuation date of the futures contract if the securities underlying the
futures contract experience significant price fluctuations after the
determination of the settlement price. When a settlement price cannot be used,
futures contracts will be valued at their fair market value as determined by or
under the direction of the Boards.
If any securities held by a Fund are restricted as to resale or do not have
readily available market quotations, the Manager and the Trusts' Pricing
Committees determine their fair value, following procedures approved by the
Boards. The Trustees periodically review such valuations and valuation
procedures. The fair value of such securities is generally determined as the
amount which a Fund could reasonably expect to realize from an orderly
disposition of such securities over a reasonable period of time. The valuation
procedures applied in any specific instance are likely to vary from case to
case. However, consideration is generally given to the financial position of the
issuer and other fundamental analytical data relating to the investment and to
the nature of the restrictions on disposition of the securities (including any
registration expenses that might be borne by a Fund in connection with such
disposition). In addition, specific factors are also generally considered, such
as the cost of the investment, the market value of any unrestricted securities
of the same class (both at the time of purchase and at the time of valuation),
the size of the holding, the prices of any recent transactions or offers with
respect to such securities and any available analysts' reports regarding the
issuer.
Any assets or liabilities initially expressed in terms of foreign
currencies are translated into U.S. dollars at the official exchange rate or,
alternatively, at the mean of the current bid and asked prices of such
currencies against the U.S. dollar last quoted by a major bank that is a regular
participant in the foreign exchange market or on the basis of a pricing service
that takes into account the quotes provided by a number of such major banks. If
neither of these alternatives is available or both are deemed not to provide a
suitable methodology for converting a foreign
B-62
<PAGE>
currency into U.S. dollars, the Boards in good faith will establish a conversion
rate for such currency.
All other assets of the Funds are valued in such manner as the Boards in
good faith deem appropriate to reflect their fair value.
The Money Market Funds value their portfolio instruments at amortized cost,
which means that securities are valued at their acquisition cost, as adjusted
for amortization of premium or discount, rather than at current market value.
Calculations are made at least weekly to compare the value of these Funds'
investments valued at amortized cost with market values. Market valuations are
obtained by using actual quotations provided by market makers, estimates of
market value, or values obtained from yield data relating to classes of money
market instruments published by reputable sources at the mean between the bid
and asked prices for the instruments. The amortized cost method of valuation
seeks to maintain a stable $1.00 per-share net asset value even where there are
fluctuations in interest rates that affect the value of portfolio instruments.
Accordingly, this method of valuation can in certain circumstances lead to a
dilution of shareholders' interest. If a deviation of 0.50% or more were to
occur between the net asset value per share calculated by reference to market
values and these Fund's $1.00 per-share net asset value, or if there were any
other deviation which the Board of Trustees believed would result in a material
dilution to shareholders or purchasers, the Board would promptly consider what
action, if any, should be initiated. If these Funds' per-share net asset values
(computed using market values) declined, or were expected to decline, below
$1.00 (computed using amortized cost), the Board might temporarily reduce or
suspend dividend payments or take other action in an effort to maintain the net
asset value at $1.00 per share. As a result of such reduction or suspension of
dividends or other action by the Board, an investor would receive less income
during a given period than if such a reduction or suspension had not taken
place. Such action could result in investors receiving no dividend for the
period during which they hold their shares and receiving, upon redemption, a
price per share lower than that which they paid. On the other hand, if these
Funds' per-share net asset values (computed using market values) were to
increase, or were anticipated to increase, above $1.00 (computed using amortized
cost), the Board might supplement dividends in an effort to maintain the net
asset value at $1.00 per share.
PRINCIPAL UNDERWRITER
The Distributor acts as the Funds' principal underwriter in a continuous
public offering of the Funds' shares. The Distributor is currently registered as
a broker-dealer with the SEC and in all 50 states, is a member of most of the
principal securities exchanges in the U.S., and is a member of the National
Association of Securities Dealers, Inc. The Underwriting Agreement between each
Fund and the Distributor is in effect for each Fund for the same periods as the
Agreements, and shall continue in
B-63
<PAGE>
effect thereafter for periods not exceeding one year if approved at least
annually by (i) the appropriate Board of Trustees or the vote of a majority of
the outstanding securities of that Fund (as defined in the Investment Company
Act), and (ii) a majority of the Trustees who are not interested persons of any
such party, in each case by a vote cast in person at a meeting called for the
purpose of voting on such approval. The Underwriting Agreement with respect to
each Fund may be terminated without penalty by the parties thereto upon 60 days'
written notice and is automatically terminated in the event of its assignment as
defined in the Investment Company Act. There are no underwriting commissions
paid with respect to sales of the Funds' shares.
PERFORMANCE INFORMATION
As noted in the Prospectus, the Funds may, from time to time, quote various
performance figures in advertisements and investor communications to illustrate
their past performance. Performance figures will be calculated separately for
the Class R, Class P and Class L shares.
The Money Market Funds. Current yield reflects the interest income per
share earned by these Funds' investments. Current yield is computed by
determining the net change, excluding capital changes, in the value of a
hypothetical pre-existing account having a balance of one share at the beginning
of a seven-day period, subtracting a hypothetical charge reflecting deductions
from shareholder accounts, and dividing the difference by the value of the
account at the beginning of the base period to obtain the base period return,
and then annualizing the result by multiplying the base period return by
(365/7).
Effective yield is computed in the same manner except that the
annualization of the return for the seven-day period reflects the results of
compounding by adding 1 to the base period return, raising the sum to a power
equal to 365 divided by 7, and subtracting 1 from the result. This figure is
obtained using the Securities and Exchange Commission formula:
Effective Yield = [(Base Period Return + 1)365/7] -1
The Short Fund and California Intermediate Bond Fund. These Funds' 30-day
yield figure described in the Prospectus is calculated according to a formula
prescribed by the SEC, expressed as follows:
YIELD=2[(a-b +1)6-1]
cd
Where: a = dividends and interest earned during the
period.
b = expenses accrued for the period (net of
reimbursement).
B-64
<PAGE>
c = the average daily number of shares
outstanding during the period that were
entitled to receive dividends.
d = the maximum offering price per share on
the last day of the period.
For the purpose of determining the interest earned (variable "a" in the
formula) on debt obligations that were purchased by these Funds at a discount or
premium, the formula generally calls for amortization of the discount or
premium; the amortization schedule will be adjusted monthly to reflect changes
in the market values of the debt obligations.
Investors should recognize that, in periods of declining interest rates,
these Funds' yields will tend to be somewhat higher than prevailing market rates
and, in periods of rising interest rates, will tend to be somewhat lower. In
addition, when interest rates are falling, monies received by these Funds from
the continuous sale of their shares will likely be invested in instruments
producing lower yields than the balance of their portfolio of securities,
thereby reducing the current yield of these Funds. In periods of rising interest
rates, the opposite result can be expected to occur.
The Tax-Free Funds. A tax equivalent yield demonstrates the taxable yield
necessary to produce an after-tax yield equivalent to that of a fund that
invests in tax-exempt obligations. The tax equivalent yield for one of the
Tax-Free Funds is computed by dividing that portion of the current yield (or
effective yield) of the Tax-Free Fund (computed for the Fund as indicated above)
that is tax exempt by one minus a stated income tax rate and adding the quotient
to that portion (if any) of the yield of the Fund that is not tax exempt. In
calculating tax equivalent yields for the California Intermediate Bond and
California Money Funds, these Funds assume an effective tax rate (combining
federal and California tax rates) of 46.24% (45.22% beginning 1996). The Federal
Money Fund assumes a federal tax rate of 39.6% The effective rate used in
determining such yield does not reflect the tax costs resulting from the loss of
the benefit of personal exemptions and itemized deductions that may result from
the receipt of additional taxable income by taxpayers with adjusted gross
incomes exceeding certain levels. The tax equivalent yield may be higher than
the rate stated for taxpayers subject to the loss of these benefits.
<TABLE>
Yields. The yields for the indicated periods ended June 30, 1996, were as
follows:
B-65
<PAGE>
<CAPTION>
Tax-
Equiv. Tax-
Yield Effective Effective Current Equiv.
(7- Yield Yield* Yield Yield*
Fund day) (7-day) (7-Day) (30-day) (30-day)
- ---- ---- ------- ------- -------- --------
<S> <C> <C> <C> <C> <C>
Montgomery Short NA NA NA 6.03% NA
Duration
Government Bond
Fund
Montgomery 4.97% 5.11% NA NA NA
Government
Reserve Fund
Montgomery NA NA NA NA NA
Federal Tax-Free
Money Fund
Montgomery NA NA NA 4.40% 8.18%
California Tax-
Free
Intermediate
Bond Fund
Montgomery 2.89% 2.94% 5.47% NA NA
California Tax-
Free Money Fund
<FN>
* Calculated using a combined federal and California income tax rate of
46.24% for the California Funds and a federal rate of 39.6% for the Federal
Money Fund.
</FN>
</TABLE>
Average Annual Total Return. Total return may be stated for any relevant
period as specified in the advertisement or communication. Any statements of
total return for a Fund will be accompanied by information on that Fund's
average annual compounded rate of return over the most recent four calendar
quarters and the period from that Fund's inception of operations. The Funds may
also advertise aggregate and average total return information over different
periods of time. A Fund's "average annual total return" figures are computed
according to a formula prescribed by the SEC expressed as follows:
P(1 + T)n=ERV
Where: P = a hypothetical initial payment of $1,000.
T = average annual total return.
n = number of years.
ERV = Ending Redeemable Value of a hypothetical
$1,000 investment made at the beginning of a
1-, 5- or 10-year period at the end of each
respective period (or fractional
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<PAGE>
portion thereof), assuming reinvestment of
all dividends and distributions and complete
redemption of the hypothetical investment at
the end of the measuring period.
Aggregate Total Return. A Fund's "aggregate total return" figures represent
the cumulative change in the value of an investment in that Fund for the
specified period and are computed by the following formula:
ERV - P
-------
P
Where: P = a hypothetical initial payment of
$10,000.
ERV = Ending Redeemable Value of a hypothetical
$10,000 investment made at the beginning of a
l-, 5- or 10-year period at the end of a l-,
5- or 10-year period (or fractional portion
thereof), assuming reinvestment of all
dividends and distributions and complete
redemption of the hypothetical investment at
the end of the measuring period.
Each Fund's performance will vary from time to time depending upon market
conditions, the composition of its portfolio and its operating expenses.
Consequently, any given performance quotation should not be considered
representative of that Fund's performance for any specified period in the
future. In addition, because performance will fluctuate, it may not provide a
basis for comparing an investment in that Fund with certain bank deposits or
other investments that pay a fixed yield for a stated period of time. Investors
comparing that Fund's performance with that of other investment companies should
give consideration to the quality and maturity of the respective investment
companies' portfolio securities.
The average annual total return for each Fund for the periods indicated was
as follows:
Year Inception*
Ended Through
Fund June 30, 1996 June 30, 1996
---- ------------- -------------
Montgomery Growth Fund 24.85% 29.17%
Montgomery Equity Income 24.56% 22.34%
Fund
Montgomery Small Cap Fund 39.28% 22.92%
B-67
<PAGE>
Montgomery Small Cap NA 31.67%
Opportunities Fund
Montgomery Micro Cap Fund 30.95% 31.00%
Montgomery Select 50 Fund NA 37.75%
Montgomery Global
Opportunities Fund 28.64% 15.15%
Montgomery Global
Communications Fund 17.06% 14.25%
Montgomery International
Small Cap Fund 26.68% 8.16%
Montgomery Latin America NA NA
Fund
Montgomery International 27.58% 27.58%
Growth Fund
Montgomery Emerging Asia NA NA
Fund
Montgomery Emerging
Markets Fund 7.74% 10.26%
Montgomery Asset
Allocation Fund 23.92% 27.22%
Montgomery Short Duration
Government Bond Fund 5.74% 6.27%
Montgomery Government
Reserve Fund 5.28% 4.12%
Montgomery Federal Tax-
Free Money Fund NA NA
Montgomery California Tax-
Free Intermediate Bond
Fund 6.11% 4.60%
Montgomery California Tax-
Free Money Fund 3.03% 3.27%
- ----------------
* Total return for periods of less than one year are aggregate, not
annualized, return figures. The dates of inception for the Funds were: Growth
Fund, September 30, 1993; Small Cap Fund, July 13, 1990; Opportunities Fund,
September 30, 1993; Global Communications Fund, June 1, 1993; International
Small Cap Fund, September 30, 1993; Latin America Fund, June 30, 1997; Emerging
Asia Fund, September 30, 1996; Emerging Markets Fund, March 1, 1992; Allocation
Fund, March 31, 1994; Short Duration Government Bond Fund, December 18, 1992;
Government Reserve Fund, September 14, 1992; California Intermediate Bond Fund,
July 1, 1993; Equity
B-68
<PAGE>
Income and California Money Funds, September 30, 1994; Micro Cap Fund, December
30, 1994; International Growth Fund, June 30, 1995; Select 50 Fund, October 27,
1995; Small Cap Opportunities Fund, December 29, 1995 and Federal Tax-Free Money
Fund, June 30, 1996.
Presentation of Other Performance Information Regarding the
Opportunities Fund
John Boich and Oscar Castro jointly managed a limited partnership called
the Common Goal World Fund Limited Partnership (the "Partnership") before
joining the Manager. John Boich has served as the Partnership's General Partner
since its inception on January 7, 1990 until April 1993, when Mr. Castro and Mr.
Boich joined the Manager as Managing Directors and Portfolio Managers. On
September 30, 1993, the Montgomery Global Opportunities Fund, which has a
similar investment strategy as the partnership, was launched. On October 1,
1993, the Partnership was dissolved and the assets were transferred in-kind into
the Opportunities Fund. Consistent with applicable law, the Managers may
advertise the performance of the Partnership as part of materials concerning the
Opportunity Fund.
The annual total return for the Partnership for the periods indicated was
as follows:
Period Partnership Annual Total Return
(Net of fees)
Year ended Dec. 31, 1990* 2.04%
Year ended Dec. 31, 1991 25.32%
Year ended Dec. 31, 1992 4.53%
9-month Period ended Sept. 30, 1993 17.29%
* The Partnership commenced operations on January 7, 1990.
Presentation of Other Performance Information Regarding the
Emerging Asia Fund
From time to time, the Manager may advertise the performance of a related
mutual fund sold only in Canada and advised by the Manager that has a
substantially similar investment objective as the Emerging Asia Fund. The
related mutual fund, called the "Navigator Asia Pacific Fund" commenced
operations on May 19, 1995. The performance information of the Navigator Asia
Pacific Fund (net of fees) was as follows:
Period Aggregate Total Return
(Net of fees)
3-months ended Sept. 30, 1996 -4.55%
Year to date ended Sept. 30, 1996 10.85%
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<PAGE>
One year ended Sept. 30, 1996 7.76%
Since inception 2.70%
Comparisons. To help investors better evaluate how an investment in the
Funds might satisfy their investment objectives, advertisements and other
materials regarding the Funds may discuss various financial publications.
Materials may also compare performance (as calculated above) to performance as
reported by other investments, indices, and averages. Publications, indices and
averages, including but not limited to, the following may be used in discussion
of a Fund's performance or the investment opportunities it may offer:
a) Standard & Poor's 500 Composite Stock Index, one or more of the Morgan
Stanley Capital International Indices, and one or more of the International
Finance Corporation Indices.
b) Bank Rate Monitor -- A weekly publication which reports various bank
investments, such as certificate of deposit rates, average savings account rates
and average loan rates.
c) Lipper - Mutual Fund Performance Analysis and Lipper Fixed Income Fund
Performance Analysis -- A ranking service that measures total return and average
current yield for the mutual fund industry and ranks individual mutual fund
performance over specified time periods assuming reinvestment of all
distributions, exclusive of any applicable sales charges.
d) Donoghue's Money Fund Report -- Industry averages for 7-day annualized and
compounded yields of taxable, tax-free, and government money funds.
e) Salomon Brothers Bond Market Roundup -- A weekly publication which reviews
yield spread changes in the major sectors of the money, government agency,
futures, options, mortgage, corporate, Yankee, Eurodollar, municipal, and
preferred stock markets. This publication also summarizes changes in banking
statistics and reserve aggregates.
f) Lehman Brothers indices -- Lehman Brothers fixed-income indices may be used
for appropriate comparisons.
g) other indices - including Consumer Price Index, Ibbotson, Micropal,
CNBC/Financial News Composite Index, MSCI EAFE Index (Morgan Stanley Capital
International, Europe, Australasia, Far East Index - a capitalization-weighted
index that includes all developed world markets except for those in North
America), Datastream, Worldscope, NASDAQ, Russell 2000 and IFC Emerging Markets
Database.
B-70
<PAGE>
In addition, one or more portfolio managers or other employees of the
Manager may be interviewed by print media, such as by the Wall Street Journal or
Business Week, or electronic news media, and such interviews may be reprinted or
excerpted for the purpose of advertising regarding the Funds.
In assessing such comparisons of performance, an investor should keep in
mind that the composition of the investments in the reported indices and
averages is not identical to the Funds' portfolios, that the averages are
generally unmanaged, and that the items included in the calculations of such
averages may not be identical to the formulae used by the Funds to calculate
their figures.
The Funds may also publish their relative rankings as determined by
independent mutual fund ranking services like Lipper Analytical Services, Inc.
and Morningstar, Inc.
Investors should note that the investment results of the Funds will
fluctuate over time, and any presentation of a Fund's total return for any
period should not be considered as a representation of what an investment may
earn or what an investor's total return may be in any future period.
Reasons to Invest in the Funds. From time to time, the Funds may publish or
distribute information and reasons supporting the Manager's belief that a
particular Fund may be appropriate for investors at a particular time. The
information will generally be based on internally generated estimates resulting
from the Manager's research activities and projections from independent sources.
These sources may include, but are not limited to, Bloomberg, Morningstar,
Barings, WEFA, Consensus Estimates, Datastream, Micropal, I/B/E/S Consensus
Forecast, Worldscope and Reuters as well as both local and international
brokerage firms. For example, the Funds may suggest that certain countries or
areas may be particularly appealing to investors because of interest rate
movements, increasing exports and/or economic growth. The Funds may, by way of
further example, present a region as possessing the fastest growing economies
and may also present projected gross domestic product (GDP) for selected
economies. In using this information, the Montgomery Emerging Asia Fund also may
claim that certain Asian countries are regarded as having high rates of growth
for their economies (GDP), international trade and corporate earnings; thus
producing what the Manager believes to be a favorable investment climate.
Research. Largely inspired by its former affiliate, Montgomery Securities
- -- which has established a tradition for specialized research in emerging growth
companies -- the Manager has developed its own tradition of intensive research.
The Manager has made intensive research one of the important characteristics of
the Montgomery Funds style.
B-71
<PAGE>
The portfolio managers for Montgomery's global and international Funds work
extensively on developing an in-depth understanding of particular foreign
markets and particular companies. And they very often discover that they are the
first analysts from the United States to meet with representatives of foreign
companies, especially those in emerging markets nations.
Extensive research into companies that are not well known -- discovering
new opportunities for investment -- is a theme that crosses a number of the
Funds and is reflected in the number of Funds oriented towards lower
capitalization businesses.
In-depth research, however, goes beyond gaining an understanding of unknown
opportunities. The portfolio analysts have also developed new ways of gaining
information about well-known parts of the domestic market. The growth equity
team, for example, has developed its own strategy and proprietary database for
analyzing the growth potential of U.S. companies, often large, well-known
companies.
From time to time, advertising and sales materials for the Montgomery Funds
may include biographical information about portfolio managers as well as
commentary by portfolio managers regarding investment strategy, asset growth,
current or past economic, political or financial conditions that may be of
interest to investors.
Also, from time to time, the Manager may refer to its quality and size,
including references to its total assets under management (currently $7 billion
for retail and institutional investors) and total shareholders invested in the
Funds (currently around 225,000).
GENERAL INFORMATION
Investors in the Funds will be informed of the Funds' progress through
periodic reports. Financial statements will be submitted to shareholders
semi-annually, at least one of which will be certified by independent public
accountants. All expenses incurred in connection with the organization of The
Montgomery Funds and the registration of shares of the Small Cap Fund as the
initial series of the Trust have been assumed by the Small Cap Fund; all
expenses incurred in connection with the organization of The Montgomery Funds II
have been assumed by Montgomery Institutional Series: Emerging Markets Portfolio
and the Manager. Expenses incurred in connection with the establishment and
registration of shares of each of the other funds constituting Trusts as
separate series of the Trusts have been assumed by each respective Fund. The
expenses incurred in connection with the establishment and registration of
shares of the Funds as separate series of the Trusts have been assumed by the
respective Funds and are being amortized over a period of five years commencing
with
B-72
<PAGE>
their respective dates of inception. The Manager has agreed, to the extent
necessary, to advance the organizational expenses incurred by certain Funds and
will be reimbursed for such expenses after commencement of those Funds'
operations. Investors purchasing shares of a Fund bear such expenses only as
they are amortized daily against that Fund's investment income.
As noted above, Morgan Stanley Trust Company (the "Custodian") acts as
custodian of the securities and other assets of the Funds. The Custodian does
not participate in decisions relating to the purchase and sale of securities by
the Funds.
Investors Fiduciary Trust Company, 127 West 10th Street, Kansas City,
Missouri 64105, is the Funds' Master Transfer Agent. The Master Transfer Agent
has delegated certain transfer agent functions to DST Systems, Inc., P.O. Box
419958, Kansas City, Missouri 64141, the Funds' Transfer and Dividend Disbursing
Agent.
Deloitte & Touche LLP, 50 Fremont Street, San Francisco, California 94105,
are the independent auditors for the Funds.
The validity of shares offered hereby will be passed on by Paul, Hastings,
Janofsky & Walker, 345 California Street, San Francisco, California 94104.
The shareholders of The Montgomery Funds (but not The Montgomery Funds II)
as shareholders of a Massachusetts business trust could, under certain
circumstances, be held personally liable as partners for its obligations.
However, the Trust's Agreement and Declaration of Trust ("Declaration of Trust")
contains an express disclaimer of shareholder liability for acts or obligations
of the Trust. The Declaration of Trust also provides for indemnification and
reimbursement of expenses out of the Funds' assets for any shareholder held
personally liable for obligations of the Funds or Trust. The Declaration of
Trust provides that the Trust shall, upon request, assume the defense of any
claim made against any shareholder for any act or obligation of the Funds or
Trust and satisfy any judgment thereon. All such rights are limited to the
assets of the Funds. The Declaration of Trust further provides that the Trust
may maintain appropriate insurance (for example, fidelity bonding and errors and
omissions insurance) for the protection of the Trust, its shareholders,
Trustees, officers, employees and agents to cover possible tort and other
liabilities. Furthermore, the activities of the Trust as an investment company
as distinguished from an operating company would not likely give rise to
liabilities in excess of the Funds' total assets. Thus, the risk of a
shareholder incurring financial loss on account of shareholder liability is
extremely remote because it is limited to the unlikely circumstances in which
both inadequate insurance exists and a Fund itself is unable to meet its
obligations.
B-73
<PAGE>
Among the Boards' powers enumerated in the Agreements and Declaration of
Trust is the authority to terminate the Trusts or any of their series, or to
merge or consolidate the Trusts or one or more of their series with another
trust or company without the need to seek shareholder approval of any such
action.
As of June 30, 1997 to the knowledge of the Funds, the following
shareholders owned of record 5 percent or more of the outstanding Class R Shares
of the respective Funds indicated:
Name of Fund/Name and Number of Percent
Address of Record Owner Shares Owned of Shares
- ----------------------- ------------ ---------
Growth Fund
Charles Schwab & Co., Inc. 17,893,564 36.29
101 Montgomery Street
San Francisco, CA 94104-4122
National Financial Services Corp. 3,829,962 7.77
For The Exclusive Benefit of Our
Customers
Attn: Mutual Funds
P.O. Box 3730
Church Street Station
New York, NY 10008-3730
Small Cap Fund
The Trust Company of Knoxville 776,240 7.64
620 Market Street, #300
Knoxville, TN 37902-2232
Charles Schwab & Co., Inc. 1,589,099 15.64
101 Montgomery Street
San Francisco, CA 94104-4122
Global Opportunities Fund
Charles Schwab & Co., Inc. 594,219 35.19
101 Montgomery Street
San Francisco, CA 94104-4122
National Financial Services Corp. 114,262 6.77
For The Exclusive Benefit of Our
Customers
Attn: Mutual Funds
P.O. Box 3730
Church Street Station
New York, NY 10008-3730
Wayne Boich 133,435 7.90
155 East Broad, No. 23
Columbus, OH 43215-3609
B-74
<PAGE>
Name of Fund/Name and Number of Percent
Address of Record Owner Shares Owned of Shares
- ----------------------- ------------ ---------
Global Communications Fund
Charles Schwab & Co., Inc. 3,262,931 41.58
101 Montgomery Street
San Francisco, CA 94104-4122
International Small Cap Fund
Charles Schwab & Co., Inc. 1,258,990 40.31
101 Montgomery Street
San Francisco, CA 94104-4122
National Financial Services Corp. 233,710 7.49
For the Exclusive Use of Our
Customers
Attn: Mutual Funds
P.O. Box 3730
Church Street Station
New York, NY 10008-3730
International Growth Fund
Charles Schwab & Co., Inc. 347,233 16.64
101 Montgomery Street
San Francisco, CA 94104-4122
Stanley S. Schwartz TR 191,630 9.18
U/A December 20, 1988 Stanley S.
Schwartz Rev Living Trust/Arista
Foundation
Montgomery Asset Management
Attn: S. Wang
101 California Street
San Francisco, CA 94111-2702
Emerging Markets Fund
Charles Schwab & Co., Inc. 33,102,319 44.35
101 Montgomery Street
San Francisco, CA 94014-4122
National Financial Services Corp. 6,404,863 8.58
For the Exclusive Benefit of Our
Customers
Attn: Mutual Funds
P.O. Box 3730
Church Street Station
New York, NY 10008-3730
Asset Allocation Fund
Charles Schwab & Co., Inc. 2,108,525 32.97
101 Montgomery St.
San Francisco, CA 94104-4122
B-75
<PAGE>
Name of Fund/Name and Number of Percent
Address of Record Owner Shares Owned of Shares
- ----------------------- ------------ ---------
National Financial Services Corp. 854,890 13.37
For the Exclusive Benefit of Our
Customers
Attn: Mutual Funds
P.O. Box 3730
Church Street Station
New York, NY 10008-3730
Short Duration Government Bond Fund
Charles Schwab & Co., Inc. 1,249,074 26.47
101 Montgomery Street
San Francisco, CA 94104-4122
Donaldson, Lufkin & Jenrette 376,408 7.98
Securities Corp.
Mutual Funds Department, 5th Floor
P. O. Box 2052
Jersey City, NJ 07383-2052
KONIAG Inc. 433,729 9.19
c/o Montgomery Asset Management
Attn: Carl Obeck
600 Montgomery Street
San Francisco, CA 94111-2702
Prudential Securities Inc. 454,285 9.63
Special Custody Account for the
Exclusive Benefit of Customers-PC
1 New York Plaza
Attn: Mutual Funds
New York, NY 10004-1902
California Tax-Free Intermediate Bond
Fund
Charles Schwab & Co., Inc. 557,179 32.19
101 Montgomery Street
San Francisco, CA 94104-4122
Collier Kimball 115,005 6.65
Montgomery Asset Management
Attn: S. Wang
101 California Street
San Francisco, CA 94111-2702
Montgomery Securities 141,880 8.20
110-02832-15
Attn: Mutual Funds - 4th Floor
600 Montgomery Street
San Francisco, CA 94111-2777
B-76
<PAGE>
Name of Fund/Name and Number of Percent
Address of Record Owner Shares Owned of Shares
- ----------------------- ------------ ---------
California Tax-Free Money Market Fund
First Broadcasting Co. 6,815,227 5.74
Attn: Ron Unkefer
300 Broadway
San Francisco, CA 94133
Government Reserve Fund
Mary Miner, Trustee for Robert 36,732,686 7.76
Miner and Mary Miner Trust
U/A dated 3/14/94
1832 Baker Street
San Francisco, CA 94115-2011
Equity Income Fund
Charles Schwab & Co., Inc. 1,038,614 48.20
101 Montgomery Street
San Francisco, CA 94104-4122
Micro Cap Fund
Charles Schwab & Co., Inc. 6,038,961 36.09
101 Montgomery Street
San Francisco, CA 94104-4122
National Financial Services Corp. 961,677 5.75
For the Exclusive Benefit of Our
Customers
Attn: Mutual Funds
P.O. Box 3730
Church Street Station
New York, NY 10008-3730
Select 50 Fund
Charles Schwab & Co., Inc. 2,421,033 28.12
101 Montgomery Street
San Francisco, CA 94104-4122
National Financial Services Corp. 932,296 10.83
For the Exclusive Benefit of Our
Customers
Attn: Mutual Funds
P.O. Box 3730
Church Street Station
New York, NY 10008-3730
Small Cap Opportunities Fund
Charles Schwab & Co., Inc. 4,719,614 36.56
101 Montgomery Street
San Francisco, CA 94104-4122
B-77
<PAGE>
Name of Fund/Name and Number of Percent
Address of Record Owner Shares Owned of Shares
- ----------------------- ------------ ---------
National Financial Services Corp. 985,515 7.63
For the Exclusive Benefit of Our
Customers
Attn: Mutual Funds
P.O. Box 3730
Church Street Station
New York, NY 10008-3730
Federal Tax-Free Money Fund
Jeff Adler & Rita Adler JTWROS 10,513,817 9.21
3125 Hassi Point
Longwood, FL 32779-3125
Emerging Asia Fund
Charles Schwab & Co., Inc. 1,126,496 31.60
101 Montgomery Street
San Francisco, CA 94104-4122
National Financial Services Corp. 618,090 17.34
For the Exclusive Benefit of Our
Customers
Attn: Mutual Funds
P.O. Box 3730
Church Street Station
New York, NY 10008-3730
Donaldson, Lufkin & Jenrette 222,299 6.24
Securities Corp.
Mutual Funds Department, 5th Floor
P. O. Box 2052
Jersey City, NJ 07383-2052
Global Asset Allocation
Charles Schwab & Co. Inc. 6,403 5.18
101 Montgomery Street
San Francisco, CA 94104-4122
National Financial Servieces Corp. 11,144 9.01
For The Exclusive benefit Of Our
Customers
200 Luberty St., 1 World Financial
Ctr.
Attn Mutual Funds, 5th floor
New York, NY 10281
B-78
<PAGE>
Name of Fund/Name and Number of Percent
Address of Record Owner Shares Owned of Shares
- ----------------------- ------------ ---------
Montgomery Securities 18,027 14.58
401K Deferred Compensation Pln
for The Exclusive benefit Of
Clients
Attn Jeanette Harrison
600 Montgomery Street
San Francisco, CA 94111-2777
As of June 30, 1997, to the knowledge of the Funds, the following
shareholders owned of record 5 percent or more of the outstanding Class P Shares
of the respective Funds indicated:
Name of Fund/Name and Number of Percent
Address of Record Owner Shares Owned of Shares
- ----------------------- ------------ ---------
Growth Fund
Dreyfus Investment Services Corp. 1,014 15.92
FBO 649772181
2 Mellon Bank Center, Room 177
Pittsburg, PA 15259-0001
Dreyfus Investment Services Corp. 2,774 43.52
FBO 659049551
2 Mellon Bank Center, Room 177
Pittsburg, PA 15259-0001
Gruntal & Co. 356,905 5.60
FBO 210-08164-18
14 Wall Street
New York, NY 10005-2101
Equity-Income Fund
State Street Bank & Trust Co. Tr. 47,671 99.97
U/A Dec. 01, 1993
Ameridata Tech Employee Svgs. Plan
Attn: Steven Shipman Master Tr. W6C
One Enterprise Drive
North Quincy, MA 02171-2126
Asset Allocation Fund
Gruntal & Co., LLC 316 26.59
FBO 886-09482-18
14 Wall Street
New York, NY 10005-2101
Gruntal & Co., LLC 316 26.59
FBO 886-09481-19
14 Wall Street
New York, NY 10005-2101
B-79
<PAGE>
Name of Fund/Name and Number of Percent
Address of Record Owner Shares Owned of Shares
- ----------------------- ------------ ---------
Gruntal & Co., LLC 290 24.36
FBO 880-12981-11
14 Wall Street
New York, NY 10005-2101
Gruntal & Co., LLC 267 22.46
FBO 886-09483-17
14 Wall Street
New York, NY 10005-2101
Small Cap Fund
State Street Bank & Trust Co. 159,389 46.64
U/A July 01, 1996
McClaren/Hart Employee Ret. Plan
P.O. Box 1992
Boston, MA 02105-1992
State Street Bank & Trust Co. 76,252 22.31
U/A Jan. 02, 1996
Waretek US Inc. Employee Savings &
Investment Plan
P.O. Box 1992
Boston, MA 02105-1992
State Street Bank Trust 38,199 11.18
GE 401k Trac Plans
C/O Defined Contributions Bfds
P.O. Box 8705
Boston, MA 02266-8705
State Street Bank & Trust Co. 67,939 19.88
U/A Dec. 01, 1993
Ameridata Tech Employee Svgs. Plan
Attn: Steven Shipman Master Tr. W6C
One Enterprise Drive
North Quincy, MA 02171-2126
Select 50 Fund
Gruntal & Co., LLC 59 82.51
FBO 884-04563-16
14 Wall Street
New York, NY 10005-2101
State Street Bank & Trust Co. Tr. 63,846 18.78
U/A Dec. 01, 1993
Ameridata Tech Employee Svgs. Plan
Attn: Steven Shipman Master Tr. W6C
One Enterprise Drive
North Quincy, MA 02171-2126
B-80
<PAGE>
Name of Fund/Name and Number of Percent
Address of Record Owner Shares Owned of Shares
- ----------------------- ------------ ---------
State Street Bank & Trust Co. 75,936 22.34
U/A Jan. 2, 1996
Wavetek US Inc. Employee Savings &
Investment Plan
P.O. Box 1992
Boston, MA 02171
State Street Bank TR 38,875 11.44
GE 401K Trac Plans
c/o Defined Contributions Bfds
P.O. Box 8705
Boston, MA 02266-8705
International Growth Fund
Gruntal & Co., LLC 272 81.35
FBO 875-94764-12
14 Wall Street
New York, NY 10005-2101
US Clearing Corp. 62 18.65
FBO 780-16541-17
26 Broadway
New York, NY 10004-1798
Small Cap Opportunities Fund
E*Trade Securities, Inc. 348,025 71.58
A/C 7880-1618
Thomas S. Smogolski C/F
Four Embarcadero Place
2400 Geng Road
Palo Alto, CA 94303-3317
US Clearing Corp. 138 28.42
FB0 720-90531-10
26 Broadway
New York, NY 10004-1798
Emerging Markets Fund
State Street Bank & Trust Co. 28,625 79.33
U/A Jan. 2, 1996
Waretek US Inc. Employee Savings &
Investment Plan
P.O. Box 1992
Boston, MA 02105-1992
B-81
<PAGE>
US Clearing Corp. 2,199 6.10
FB0 720-90531-10
26 Broadway
New York, NY 10004-1798
As of June 25, 1997, the Trustees and officers of the Trusts, as a group,
owned less than 1% of the outstanding shares of each Fund except the Short
Duration Government Bond Fund, California Tax-Free Intermediate Bond, the Global
Opportunities Funds, International Growth Fund, Emerging Asia Fund, Global Asset
Allocation Fund, Latin America Fund and the Japan Small Cap Fund. As of June 25,
1997, the Trustees and officers of the Trusts, as a group, owned approximately
1.8% of the Short Duration Government Bond Fund, 6.0% of the CA Tax-Free
Intermediate Bond Fund, 1.4% of the Global Opportunities Fund, 1.3% of the
International Growth Fund, 1.1% of the Emerging Asia Fund, 5.0% of the Global
Asset Allocation Fund, 4.6% of the Latin America Fund and 57.7% of the Japan
Small Cap Fund.
The Trusts are registered with the Securities and Exchange Commission as
non-diversified management investment companies, although each Fund, except for
the Tax-Free Funds, is a diversified series of the Trust. Such a registration
does not involve supervision of the management or policies of the Funds. The
Prospectus and this Statement of Additional Information omit certain of the
information contained in the Registration Statements filed with the SEC. Copies
of the Registration Statements may be obtained from the SEC upon payment of the
prescribed fee.
FINANCIAL STATEMENTS
Audited financial statements for the relevant periods ending June 30, 1996,
for the Growth, Micro Cap, Small Cap, Small Cap Opportunities, Equity Income,
Opportunities, Communications, International Growth, International Small Cap,
Emerging Markets, Select 50, Asset Allocation, Short, Reserve, California
Intermediate Bond and California Money Funds, as contained in the Annual Report
to Shareholders of such Funds for the fiscal year ended June 30, 1996 (the
"Report"), are incorporated herein by reference to the Report.
Unaudited financial statements for the period ending December 31, 1996, for
the Growth, Micro Cap, Small Cap, Small Cap Opportunities, Equity Income,
Opportunities, Communications, International Growth, International Small Cap,
Emerging Asia, Emerging Markets, Select 50, Asset Allocation, Short, Reserve,
California Intermediate Bond, California Money and Federal Money Funds, as
contained in the Semi-Annual Report to Shareholders of such Funds for the
six-month period ended December 31, 1996 (the "Semi-Annual Report"), are
incorporated herein by reference to the Semi-Annual Report.
Unaudited financial statements for the period ended April 30, 1998 for the
Global Asset Allocation Fund are set forth below.
B-82
<PAGE>
<TABLE>
MONTGOMERY GLOBAL ASSET ALLOCATION FUND
Portfolio Investments
April 30, 1997 (unaudited)
<CAPTION>
Value
Shares (Note 1)
- --------------- --------------
MUTUAL FUNDS - 98.1%
<S> <C> <C> <C> <C>
International - 33.3%
33,457 Montgomery International Growth Fund ..................... $ 491,148
--------------
Fixed-Income - 25.6%
37,907 Montgomery Short Duration Government Bond Fund ........... 376,796
--------------
Large-Cap Growth - 14.9%
10,583 Montgomery Growth Fund ................................... 219,801
--------------
Money Market - 12.7%
187,646 Montgomery Government Reserve Fund ....................... 187,645
--------------
Emerging Markets - 11.6%
11,381 Montgomery Emerging Markets Fund ......................... 171,622
--------------
TOTAL MUTUAL FUNDS
(Cost $1,437,323) ..................................... 1,447,012
--------------
TOTAL INVESTMENTS (Cost $1,437,323*) ..................... 98.1% 1,447,012
OTHER ASSETS AND LIABILITIES (Net) ....................... 1.9 28,365
--------- --------------
NET ASSETS ............................................... 100.0% $ 1,475,377
========= ==============
<FN>
- --------------
* Aggregate cost for Federal tax purposes.
The accompanying notes are an integral part of these financial statements.
</FN>
</TABLE>
B-83
<PAGE>
Montgomery Global Asset Allocation Fund
Financial Highlights
For a share of beneficial interest outstanding throughout the period.
Period
Ended
April 30, 1997*
(Unaudited)
-----------
Net asset value - beginning of period ............................ $12.00
-----------
Net investment income ............................................ 0.04
Net realized and unrealized gain on investments .................. 0.35
-----------
Net increase in net assets resulting from
investment operations ......................................... 0.39
-----------
Net asset value - end of period .................................. $12.39
-----------
Total return + ................................................... 3.25%
-----------
Ratios to Average Net Assets/Supplemental Data:
Net assets, end of period (in 000s) .............................. $1,475
-----------
Ratio of net investment income to average net assets ............. 1.35%**
-----------
Ratio of expenses to average net assets .......................... 0.46%**
-----------
Portfolio turnover rate .......................................... 62%
-----------
Net investment loss before deferral of fees by Manager ........... ($0.10)
-----------
Expense ratio before deferral of fees by Manager ................. 5.04%**
-----------
- --------------
* The Montgomery Global Asset Allocation Fund commenced operations on January
2, 1997.
** Annualized.
+ Total return represents aggregate total return for the period indicated.
The accompanying notes are an integral part of these financial statements.
B-84
<PAGE>
<TABLE>
<CAPTION>
- -----------------------------------------
Montgomery Global Asset Allocation Fund
Statement of Assets and Liabilities
April 30, 1997 (Unaudited)
- -----------------------------------------
<S> <C> <C>
Assets:
Investments in securities, at value (Cost $1,437,323)(Note 1) .. $ 1,447,012
Cash ........................................................... 9
Receivables:
Shares of beneficial interest sold ........................ 2,378
Dividends ...................................................... 2,334
Other Assets:
Organization costs (Note 1) ............................... 24,078
Expenses absorbed by Manager .............................. 7,701
--------------
Total Assets ................................................... 1,483,512
--------------
Liabilities:
Payables:
Investment securities purchased ........................... $ 2,378
Trustees' fees and expenses ............................... 1,569
Accrued liabilities and expenses ......................... 4,188
---------------
Total Liabilities .............................................. 8,135
---------------
Net Assets ..................................................... $ 1,475,377
===============
Net Assets Consist of:
Undistributed net investment income ............................ $ 4,767
Accumulated net realized gain on securities sold ............... 5,099
Net unrealized appreciation of investments ..................... 9,689
Shares of beneficial interest .................................. 1,191
Additional paid-in capital ..................................... 1,454,631
---------------
Net Assets $ 1,475,377
===============
NET ASSET VALUE, offering and redemption price per share
($1,475,377 - 119,087 shares of beneficial interest outstanding) $ 12.39
===============
<FN>
The accompanying notes are an integral part of these financial statements.
- -------------------------
</FN>
</TABLE>
B-85
<PAGE>
<TABLE>
<CAPTION>
- ----------------------------------------------------------
Montgomery Global Asset Allocation Fund
Statement of Operations
Period Ended April 30, 1997 (Unaudited)*
- ----------------------------------------------------------
<S> <C> <C>
Net Investment Income:
Investment Income:
Dividends ..................................................... $ 6,372
--------------
Expenses:
Legal and audit fees .......................................... $ 6,466
Amortization of organization expenses (Note 1) ................ 5,923
Trustees' fees ................................................ 1,616
Mangement fee (Note 2) ........................................ 705
Other ......................................................... 3,068
---------------
Total Expenses ................................................ 17,778
Fees deferred and expenses absorbed by Manager (Note 2) ....... (16,173)
---------------
Net Expenses .................................................. 1,605
--------------
Net Investment Income ......................................... 4,767
--------------
Net Realized and Unrealized Gain on Investments:
Net realized gain from investments during the period .......... 5,099
Net change in unrealized appreciation of investments during
the period .................................................. 9,689
---------------
Net Realized and Unrealized Gain on Investments ............... 14,788
--------------
Net Increase in Net Assets Resulting from Operations .......... $ 19,555
==============
<FN>
- --------------
* The Montgomery Global Asset Allocation Fund commenced operations on January 2,
1997.
The accompanying notes are an integral part of these financial statements.
July 23, 1997
</FN>
</TABLE>
B-86
<PAGE>
<TABLE>
- -------------------------------------------
Montgomery Global Asset Allocation Fund
Statement of Changes in Net Assets
- -------------------------------------------
<CAPTION>
Period Ended
April 30, 1997*
(Unaudited)
---------------
<S> <C>
Increase in Net Assets from Operations:
Net investment income ......................................................... $ 4,767
Net realized gain on securities during the period ............................. 5,099
Net unrealized appreciation of securities during the period ................... 9,689
---------------
Net Increase in Net Assets Resulting from Operations .......................... 19,555
Beneficial Interest Transactions:
Net increase from beneficial interest transactions (Note 3) ................... 1,455,822
---------------
Net Increase in Net Assets .................................................... 1,475,377
Net Assets:
Beginning of Period ........................................................... --
---------------
End of Period (including undistributed net investment income of $4,767)........ $ 1,475,377
===============
<FN>
- --------------
* The Montgomery Global Asset Allocation Fund commenced operations on January 2,
1997.
The accompanying notes are an integral part of these financial statements.
</FN>
</TABLE>
THE MONTGOMERY GLOBAL ASSET ALLOCATION FUND
Notes to Financial Statements(Unaudited)
1. SIGNIFICANT ACCOUNTING POLICIES:
The Montgomery Global Asset Allocation Fund (the "Fund", a series of The
Montgomery Funds, the "Trust") is registered under the Investment Company Act of
1940, as amended (the "1940 Act"), as a diversified, open-end management
investment company. The Trust was organized as a Massachusetts business trust on
May 10, 1990. The Fund will allocate its assets among a diversified group of
five funds from The Montgomery Funds family: Montgomery Growth Fund, Montgomery
International Growth Fund, Montgomery Short Duration Government Bond Fund,
Montgomery Government Reserve Fund and Montgomery Emerging Markets Fund,
(collectively, the "Underlying Funds").
The preparation of financial statements in accordance with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts and disclosure in the financial statements. Actual
results could differ from those estimates.
The following is a summary of significant accounting policies.
a. PORTFOLIO VALUATION - The Underlying Funds are valued according to their
stated net asset value. Portfolio securities are valued using current market
valuations: either the last reported sales price, or, in the case of securities
for which there is no reported last sale and in the case of fixed income
securities, the mean of the closing bid and asked prices.
B-87
<PAGE>
THE MONTGOMERY GLOBAL ASSET ALLOCATION FUND
Notes to Financial Statements (Continued)(Unaudited)
Portfolio securities which are traded primarily on foreign securities exchanges
or for which market quotations are readily available are generally valued at the
last reported sales price on the respective exchanges or markets; except that
when an occurrence subsequent to the time that a value was so established is
likely to have changed said value, the fair value of those securities will be
determined by consideration of other factors by or under the direction of the
Board of Trustees or its delegates. Securities traded on the over-the-counter
market are valued at the mean between the last available bid and ask price prior
to the time of valuation.
Securities for which market quotations are not readily available are valued at
fair market value as determined in good faith by or under the supervision of the
Trusts' officers in accordance with methods which are authorized by the Trusts'
Board of Trustees. Short-term securities with maturities of 60 days or less are
carried at amortized cost, which approximates market value.
b. DIVIDENDS AND DISTRIBUTIONS - Dividends, if any, from net investment income
of the Fund will be declared and paid at least annually.
Distributions of any short-term capital gains earned by the Fund are distributed
no less frequently than annually. Additional distributions of net investment
income and capital gains for the Fund may be made in order to avoid the
application of a 4% non-deductible excise tax on certain undistributed amounts
of ordinary income and capital gains. Income distributions and capital gain
distributions are determined in accordance with income tax regulations, which
may differ from generally accepted accounting principles. These differences are
primarily due to differing treatments of income and gains on various investment
securities held by the Fund, timing differences and differing characterization
of distributions made by the Fund.
c. SECURITIES TRANSACTIONS AND INVESTMENT INCOME - Securities transactions are
recorded on a trade-date basis. Realized gain and loss from securities
transactions are recorded on the specific identified cost basis. Dividend income
is recognized on the ex-dividend date.
d. FEDERAL INCOME TAXES - The Fund has qualified and it is the intention of the
Fund to continue to qualify and elect treatment as a regulated investment
company under Subchapter M of the Internal Revenue Code of 1986, as amended (the
"Code"), by complying with the provisions available to certain investment
companies, as defined in applicable sections of the Code, and to make
distributions of taxable income to shareholders sufficient to relieve the Fund
from all or substantially all federal income taxes.
e. EXPENSES - General expenses of the Trust are allocated to the Fund based upon
net assets. Operating expenses directly attributable to the Fund are charged to
the Fund's operations.
2. MANAGEMENT FEES AND OTHER TRANSACTIONS WITH
AFFILIATES AND OTHER CONTRACTUAL COMMITMENTS:
a. Montgomery Asset Management, L.P. is the Fund's Manager (the "Manager"). The
Manager, a California limited partnership, is an investment adviser registered
with the Securities and Exchange Commission under the Investment Advisers Act of
1940, as amended (the "Advisers Act"). The general partner of the Manager is
Montgomery Asset Management, Inc. Montgomery Securities, the Funds' principal
underwriter and distributor, and certain of its
B-88
<PAGE>
THE MONTGOMERY GLOBAL ASSET ALLOCATION FUND
Notes to Financial Statements (Continued)(Unaudited)
principals are affiliates of the Manager. Under the Advisers Act, both
Montgomery Asset Management, Inc. and Montgomery Securities may be deemed
controlling persons of the Manager. Although the operations and management of
the Manager are independent from those of Montgomery Securities, it is expected
that the Manager may draw upon the research and administrative resources of
Montgomery Securities at its discretion in a manner consistent with applicable
regulations.
Pursuant to an investment management agreement ("Investment Management
Agreement"), the Manager provides the Fund with advice on buying and selling
securities, manages the investments of the Fund including the placement of
orders for portfolio transactions, furnishes the Fund with office space and
certain administrative services, and provides the personnel needed by the Trust
with respect to the Manager's responsibilities under such agreement. As
compensation, the Fund pays the Manager a monthly management fee (accrued daily)
based upon the average daily net assets of the Fund, at an annual rate of 0.20%
of the average daily net assets of the Fund. The Manager has agreed to reduce
some or all of its management fee or absorb fund expenses if necessary to keep
the Fund's annual operating expenses, exclusive of interest and taxes, at or
below 0.50% of the Fund's average net assets. Any reductions or absorptions made
to the Fund by the Manager are subject to recovery within the following two
years, provided the Fund is able to affect such reimbursement and remain in
compliance with applicable expense limitations. The Manager may terminate these
reductions or absorptions at any time. For the period ended April 30, 1997, the
Manager has deferred fees of $705 and reimbursed expenses of $15,468.
Montgomery Asset Management, L.P. serves as the Funds' administrator (the
"Administrator"). The Administrator performs services with regard to various
aspects of the Fund's administrative operations. The Administrator does not
charge a fee for performing administrative services to the Fund.
b. Certain officers and Trustees of the Trust are, with respect to the Trusts'
Manager and/or principal underwriter, "affiliated persons" as defined in the
1940 Act. Each Trustee who is not an "affiliated person" will receive an annual
retainer and quarterly meeting fee totaling $35,000 per annum, as well as
reimbursement for expenses, for service as a Trustee of all three Trusts advised
by the Manager ($25,000 of which will be allocated to the Montgomery Funds).
c. For the period ended April 30, 1997, the Fund's securities transactions
generated no commissions.
d. The Shares of the Fund have no sales load.
3. TRANSACTIONS IN SHARES OF A BENEFICIAL INTEREST:
The Trust has authorized an unlimited number of shares of beneficial interest
which have a par value of $0.01.
Transactions in shares of beneficial interest for the period indicated below:
Period Ended
April 30, 1997*
---------------
B-89
<PAGE>
Shares Amount
------ ------
Shares sold.............................. 159,863 $1,957,094
Shares redeemed.......................... (40,776) (501,272)
------- ----------
Net Increase............................. 119,087 $1,455,822
------- -----------
- -----------------
* The Montgomery Global Asset Allocation Fund commenced operations on January 2,
1997.
4. SECURITIES TRANSACTIONS:
a. The aggregate amount of purchases and sales of long-term securities,
excluding long-term U.S. Government securities, during the period ended April
30, 1997 was $2,031,104 and $598,880, respectively.
b. At April 30, 1997, aggregate gross unrealized appreciation and aggregate
gross unrealized depreciation for all Underlying Funds in which there is an
excess of value over tax cost was $11,062 and $1,373, respectively.
5. RISK FACTORS OF THE FUND:
Investing in the Underlying Funds through the Fund involves certain
additional expenses and tax results that would not be present in a direct
investment in the Underlying Funds. Certain of the Underlying Funds may invest
in debt obligations of foreign issuers and stocks of foreign corporations,
securities in foreign investment funds or trusts, derivative securites including
futures contracts. These Underlying Funds may also engage in reverse repurchase
agreements and dollar roll transactions.
B-90
<PAGE>
Appendix A
Description of Moody's corporate bond ratings:
Aaa - Bonds which are rated Aaa are judged to be the best quality. They carry
the smallest degree of investment risk and are generally referred to a
"gilt-edged." Interest payments are protected by a large or by an exceptionally
stable margin and principal is secure. While the various protective elements are
likely to change, such changes as can be visualized are unlikely to impair the
fundamentally strong position of such issues.
Aa - Bonds which are rated Aa are judged to be of high quality by all standards.
Together with the Aaa group, they comprise what are generally known as
high-grade bonds. They are rated lower than the best bonds because margins of
protection may not be as large as in Aaa securities or fluctuation of protective
elements may be of greater amplitude or there may be other elements present
which make the long-term risks appear somewhat larger than Aaa securities.
A - Bonds which are rated A possess many favorable investment attributes and are
to be considered as upper medium grade obligations. Factors giving security to
principal and interest are considered adequate but elements may be present which
suggest a susceptibility to impairment sometime in the future.
Baa - Bonds which are rated Baa are considered as medium grade obligations,
i.e., they are neither highly protected nor poorly secured. Interest payments
and principal security appear adequate for the present but certain protective
elements may be lacking or may be characteristically unreliable over any great
length of time. Such bonds lack outstanding investment characteristics and in
fact have speculative characteristics as well.
Ba - Bonds which are rated Ba are judged to have predominantly speculative
elements; their future cannot be considered as well assured. Often the
protection of interest and principal payments may be very moderate and thereby
not well safeguarded during both good and bad times over the future. Uncertainty
of position characterizes bonds in this class.
B - Bonds which are rated B generally lack characteristics of the desirable
investment. Assurance of interest and principal payments or of maintenance of
other terms of the contract over any long period of time may be small.
Caa - Bonds which are rated Caa are of poor standing. Such issues may be in
default or there may be present elements of danger with respect to principal or
interest.
B-91
<PAGE>
Ca - Bonds which are rated Ca represent obligations which are speculative in a
high degree. Such issues are often in default or have other marked shortcomings.
Nonrated - where no rating has been assigned or where a rating has been
suspended or withdrawn, it may be for reasons unrelated to the quality of the
issue.
Should no rating be assigned, the reason may be one of the following:
1. An application for rating was not received or accepted.
2. The issue or issuer belongs to a group of securities that
are not rated as a matter of policy.
3. There is a lack of essential data pertaining to the issuer.
4. The issue was privately placed, in which case the rating is
not published in Moody's publications.
Suspension or withdrawal may occur if new and material circumstances arise, the
effects of which preclude satisfactory analysis; if there is no longer available
reasonably up-to-date data to permit a judgment to be formed; if a bond is
called for redemption; or for other reasons.
Note: Those bonds in the Aa, A, Baa, Ba and B groups which Moody's believes
possess the strongest investment attributes are designated by the symbols Aa 1,
A 1, Baa 1, Ba 1 and B 1.
Description of Standard & Poor's Corporation's corporate bond ratings:
AAA - This is the highest rating assigned by Standard & Poor's to a debt
obligation and indicates an extremely strong capacity to pay principal and
interest.
AA - Bonds rated AA also qualify as high-quality debt obligations. Capacity to
pay principal and interest is very strong and, in the majority of instances,
they differ from AAA issues only in small degree.
A - Bonds rated A have a strong capacity to pay principal and interest, although
they are somewhat more susceptible to the adverse effects of changes in
circumstances and economic conditions.
BBB - Bonds rated BBB are regarded as having an adequate capacity to pay
principal and interest. Whereas they normally exhibit protection parameters,
adverse economic conditions or changing circumstances are more likely to lead to
a weakened
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capacity to pay principal and interest for bonds in this capacity than for bonds
in the A category.
BB, B, CCC, CC, C - Bonds rated BB, B, CCC, CC, and C are regarded, on balance,
as predominantly speculative with respect to the issuer's capacity to pay
interest and repay principal in accordance with the terms of the obligations. BB
indicates the lowest degree of speculation and C the highest degree of
speculation. While such bonds will likely have some quality and protective
characteristics, these are outweighed by large uncertainties or major risk
exposures to adverse conditions.
C1 - The rating C1 is reserved for income bonds on which no interest is being
paid.
D - Debt rated D is in default, and payment of interest and/or repayment of
principal is in arrears.
Plus (+) or Minus (-) - The ratings from AA to CCC may be modified by the
addition of a plus or minus sign to show relative standing within the major
rating categories.
NR - indicates that no rating has been requested, that there is insufficient
information on which to base a rating, or that Standard & Poor's does not rate a
particular type of obligation as a matter of policy.
Fitch Investor's Service
AAA - Bonds and notes rated AAA are regarded as being of the highest quality,
with the obligor having an extraordinary ability to pay interest and repay
principal which is unlikely to be affected by reasonably foreseeable events.
AA - Bonds and notes rated AA are regarded as high quality obligations. The
obligor's ability to pay interest and repay principal, while very strong, is
somewhat less than for AAA-rated securities, and more subject to possible change
over the term of the issue.
A - Bonds and notes rated A are regarded as being of good quality. The obligor's
ability to pay interest and repay principal is strong but may be more vulnerable
to adverse changes in economic conditions and circumstances than bonds and notes
with higher ratings.
BBB - Bonds and notes rated BBB are regarded as being of satisfactory quality.
The obligor's ability to pay interest and repay principal is considered to be
adequate. Adverse changes in economic conditions and circumstances, however, are
more likely to weaken this ability than bonds with higher ratings.
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Note: Fitch ratings may be modified by the addition of a plus (+) or a minus (-)
sign to show relative standing within the major rating categories. These are
refinements more closely reflecting strengths and weaknesses, and are not to be
used as trend indicators.
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Commercial Paper Ratings
Moody's commercial paper ratings are assessments of the issuer's ability to
repay punctually promissory obligations. Moody's employs the following three
designations, all judged to be investment grade, to indicate the relative
repayment capacity of rated issuers: Prime 1--highest quality; Prime 2--higher
quality; Prime 3--high quality.
A Standard & Poor's commercial paper rating is a current assessment of the
likelihood of timely payment. Ratings are graded into four categories, ranging
from "A" for the highest quality obligations to "D" for the lowest.
Issues assigned the highest rating, A, are regarded as having the greatest
capacity for timely payment. Issues in this category are delineated with the
numbers "1", "2" and "3" to indicate the relative degree of safety. The
designation A-1 indicates that the degree of safety regarding timely payment is
either overwhelming or very strong. A "+" designation is applied to those issues
rated "A-1" which possess extremely strong safety characteristics. Capacity for
timely payment on issues with the designation "A-2" is strong. However, the
relative degree of safety is not as high as for issues designated A-1. Issues
carrying the designation "A-3" have a satisfactory capacity for timely payment.
They are, however, somewhat more vulnerable to the adverse effect of changes in
circumstances than obligations carrying the higher designations.
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