<PAGE>
Preface/Directory
Preface to the Multi Fund(R) Prospectuses
Pages 21 and 22 are part of the Prospectus for each of the following funds:
Lincoln National Aggressive Growth Fund, Inc. (AG)
Lincoln National Bond Fund, Inc. (B)
Lincoln National Capital Appreciation Fund, Inc. (CA)
Lincoln National Equity-Income Fund, Inc. (E-I)
Lincoln National Global Asset Allocation Fund, Inc. (GAA)
Lincoln National Growth and Income Fund, Inc. (GI)
Lincoln National International Fund, Inc. (I)
Lincoln National Managed Fund, Inc. (M)
Lincoln National Money Market Fund, Inc. (MM)
Lincoln National Social Awareness Fund, Inc. (SA)
Lincoln National Special Opportunities Fund, Inc. (SO)
Shares of all the funds are sold to Lincoln National Life Insurance Co. (Lincoln
Life) for allocation to our Variable Annuity Account C (the variable annuity
account [VAA]) to fund variable annuity contracts and for allocation to our
Variable Life Account K to fund Variable Life Insurance Contracts.
To fund its variable life contracts, Variable Life Account D buys shares of the
Bond, Growth and Income, Managed, Money Market and Special Opportunities Funds.
To fund its variable life contracts, Variable Life Account G buys shares of the
Growth and Income and Special Opportunities Funds.
Each of these Variable Life and Annuity Accounts may be referred to as a
variable account. For each fund listed above, see Description of the fund in its
Prospectus, for a statement of that fund's investment objective. We refer to
each of these funds individually as a fund; collectively, the funds.
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION (SEC) NOR HAS THE COMMISSION PASSED UPON THE ACCURACY OR
ADEQUACY OF THESE PROSPECTUSES. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL
OFFENSE.
These Prospectuses set forth concisely the information about each fund that you
ought to know before investing. Please read and keep this Prospectus booklet for
future reference.
A separate Statement of Additional Information (SAI) for each fund has been
filed with the SEC. By this reference, each SAI, dated May 1, 1996, is
incorporated into the Prospectus of the fund with which it is registered. A free
copy will be provided upon request. Either write Kim Oakman, Lincoln National
Life Insurance Co., P.O. Box 2340, Fort Wayne, Indiana 46801 or call 1-800-348-
1212, Ext. 4912.
The Financial Highlights table of each fund contains per-share data calculated
on the basis of a share outstanding throughout the period, together with
financial ratios and other supplemental data. The Financial Highlights table is
incorporated by reference to the fund's 1995 Annual Report (see pages 47-49 of
the Annual Report). A copy of the Annual Report will be provided on request and
without charge. Please write or call Eric Jones, Lincoln National Life Insurance
Co., P.O. Box 2340, Fort Wayne, Indiana 46801; telephone: 1-800-348-1212, Ext.
6536.
NO DEALER, SALESPERSON, OR ANY OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATIONS, OTHER THAN THOSE CONTAINED IN THESE
PROSPECTUSES, IN CONNECTION WITH THE OFFERS CONTAINED IN THEM. IF ANY ARE GIVEN
OR MADE, THE INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING
BEEN AUTHORIZED BY THE FUND(S) IN QUESTION. THESE PROSPECTUSES DO NOT CONSTITUTE
OFFERS BY THE FUNDS TO SELL, OR SOLICITATIONS OF ANY OFFERS TO BUY, ANY OF THE
SECURITIES OFFERED BY THEM IN ANY JURISDICTION TO ANY PERSON TO WHOM IT IS
UNLAWFUL FOR THE FUNDS TO MAKE THOSE OFFERS.
Prospectuses dated May 1, 1996
21
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Directory for the fund prospectuses
Subject Page
- --------------------------------------------------------
Preface 21
Description of the fund
Aggressive Growth Fund 23
Bond Fund 29
Capital Appreciation Fund 33
Equity-Income Fund 37
Global Asset Allocation Fund 41
Growth and Income Fund 47
International Fund 49
Managed Fund 53
Money Market Fund 57
Social Awareness Fund 59
Special Opportunities Fund 61
- --------------------------------------------------------
Investment policies and techniques
Aggressive Growth Fund 23
Bond Fund 29
Capital Appreciation Fund 33
Equity-Income Fund 37
Global Asset Allocation Fund 41
Growth and Income Fund 47
International Fund 49
Managed Fund 53
Money Market Fund 57
Social Awareness Fund 59
Special Opportunities Fund 61
- --------------------------------------------------------
Investment restrictions
Aggressive Growth Fund 26
Bond Fund 30
Capital Appreciation Fund 35
Equity-Income Fund 39
Global Asset Allocation Fund 44
Growth and Income Fund 47
International Fund 51
Managed Fund 54
Money Market Fund 58
Social Awareness Fund 60
Special Opportunities Fund 62
- --------------------------------------------------------
Strategic portfolio transactions
Aggressive Growth Fund 26
Bond Fund 31
Capital Appreciation Fund 36
Equity-Income Fund 39
Global Asset Allocation Fund 45
Growth and Income Fund 48
International Fund 51
Managed Fund 55
Money Market Fund 58
Social Awareness Fund 60
Special Opportunities Fund 63
- --------------------------------------------------------
Appendix - contains important
information for all funds
Net asset value 65
Management of the funds 65
Purchase of securities being offered 67
Sale and redemption of shares 68
Distributions and federal income tax considerations 68
Management discussion of fund performance 68
Description of shares 68
Strategic portfolio transactions-
additional information 69
Foreign investments 71
General information 72
Statement of Additional Information
table of contents - 11 underlying funds 73
22
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Lincoln National International Fund, Inc.
Description of the fund
The International Fund (fund) is an open-end diversified management investment
company whose investment objective is long-term capital appreciation. The
objective is pursued through a strategic policy of investing primarily in a
portfolio of equity and equity-linked securities issued outside the United
States. The fund is primarily designed to provide an investment program for
investors seeking to take advantage of significant opportunities in foreign
capital markets. This objective and strategic policy are fundamental and cannot
be changed without the affirmative vote of a majority of the outstanding voting
securities of the fund. See General information in the Appendix. There is no
assurance that the objective of the fund will be achieved.
The fund was originally incorporated in Maryland in 1986, and was intended for
use with a different objective. It remained inactive (engaged in no trading
activity) until 1990, at which time it changed to the current objective and its
name was changed accordingly. See General information and history in the SAI.
Portfolio manager
The investment program for the fund is managed on a team basis. The program is
defined by the Investment Policy Committee consisting of the eight senior
portfolio managers, who are Principals of Clay Finlay Inc. (sub-advisor) and is
implemented by the New York based team. Decisions regarding individual
securities are made by consensus.
Investment policies and techniques
In recent years activity in securities markets outside the United States has
increased dramatically, providing a whole new panorama of investment
opportunities. This phenomenon, identified as the internationalization of the
securities markets, has been the catalyst to the establishment of the fund.
The fund will pursue the following general investment policies. These general
policies are not fundamental, and thus may be changed by the fund's Board of
Directors without your approval. However, you will be notified of any material
changes, additions or deletions.
Asset mix and allocation
The fund may invest anywhere outside the United States. There is no requirement
that the fund allocate any specific percentage of its assets to issuers located
in any one country. Under normal circumstances the fund anticipates that at
least 65% of its overall assets will be invested in equity and equity-linked
securities, and those securities will be allocated in at least five different
countries.
The fund at times may invest in equity securities of issuers domiciled in
developing countries. Although there is no universally accepted definition of a
developing country, it is generally considered to be one which is in the initial
stages of its industrialization cycle and which has a low per capita gross
national product. Investment in these countries may take the form of direct
purchase of securities of the issuers themselves (including governmental
entities), or of participation in so-called country funds. Country funds are
investment vehicles established by the country for the purpose of receiving
investment funds from abroad, while at the same time maintaining some level of
government control over the use of those funds. The fund does not anticipate
having more than 10% of its total assets invested in developing countries at any
one time.
When warranted by prevailing political, economic, market or currency conditions,
up to 35% of the fund's overall assets may be invested either in non-U.S. debt
securities or in non-U.S. money market instruments, or in a combination of both
(including securities of a national, regional or local character issued by
governments other than the United States). If in debt securities, no more than
5% of the fund's overall assets may be rated as other than high-grade. The term
other than high-grade, for purposes of this Prospectus, means those bonds
receiving a Standard and Poor's Corp. rating of BBB or lower, or a Moody's
Investors Service rating of Baa or lower, or their equivalents from other rating
services in the United States or abroad. Generally speaking, these instruments
bear a greater element of risk than those rated in the top three categories.
That risk can involve increased market price volatility stemming from the
sensitivity of interest rates, concerns over creditworthiness, and availability
of quotations on the secondary market, in addition to the special risk factors
associated with foreign securities. See Foreign investments in the Appendix and
Risk factors and special considerations in the SAI.
49
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Allocation of the fund's assets among issuers located in foreign countries is a
dynamic process based upon a continuing analysis of such factors as the economic
and political conditions in different areas of the world. Other factors include
the growth potential of the different non-U.S. securities markets; currency and
exchange considerations; and the availability of attractively priced securities
within the respective foreign markets. The fund's directors, as advised by the
advisor and sub-advisor, will bear the responsibility for the fund's investment
program. See Management of the fund in the Appendix.
The fund may, for temporary defensive purposes, invest without limit in high
quality debt securities issued by entities organized in the United States or any
foreign country, denominated in U.S. dollars or in the currency of any foreign
country. These investments may include short-term (less than 12 months to
maturity) and medium-term (not greater than five years to maturity) obligations
issued or guaranteed by the U.S. Government or the government of a foreign
country, or by their respective agencies or instrumentalities. Other investments
may include certificates of deposit and bankers acceptances of U.S. and foreign
banks; commercial paper rated at least Prime-1 by Moody's Investors Service or A
or better by Standard & Poor's Corp. or, if unrated, of comparable quality as
determined by Lincoln Investment; and repurchase agreements with banks and
broker-dealers with respect to such securities. In all markets, selection of
securities is designed to achieve steady growth in the portfolio, through a
value-oriented approach in which emphasis is placed on identifying well-managed
companies representing exceptional values in terms of such factors as assets,
earnings and growth potential. No assurance is given that the fund will achieve
its objective, and upon redemption, shares may be worth more or less than their
value at the time of investment.
To facilitate overseas securities transactions, the fund may hold a portion of
its assets in foreign-currency-denominated cash or cash equivalents and foreign
government securities. The amount held in cash may range between 2% and 15%,
although the fund anticipates that under normal circumstances approximately 3%
to 4% would be held in cash. The amount held in cash equivalents, combined with
all other non-U.S. debt securities and money market instruments, would not
exceed the 35% limitation previously discussed. For purposes of your redemptions
and other required transactions of the variable account, a portion of the fund's
assets will be held in U.S. dollar-denominated cash or cash equivalents. See the
Prospectus for the variable account, at the front of this booklet, for an
explanation of transactions required at the variable account level.
Definitions of equity and equity-linked securities
In making purchases for its portfolio, the fund may consider equity and equity-
linked securities to include common stock, convertible and non-convertible
preferred stock, whether voting or non-voting, convertible bonds, bonds with
warrants, unattached warrants, rights to equity and equity-linked securities and
Depositary Receipts given for those securities. The term equity-linked
securities refers both to debt securities convertible into equity and to
securities such as warrants, options and futures, the prices of which reflect
the value of the equity securities receivable upon exercise or settlement.
Depositary Receipts consist of American Depositary Receipts (ADRs) and European
Depositary Receipts (EDRs), and involve investing indirectly in the underlying
security. Generally ADRs, which are in registered form, are U.S. dollar-
denominated securities designed for use in the U.S. securities markets and which
may be converted into underlying security. EDRs, which are in bearer form, are
designed for use in the European securities markets.
Foreign investments
Foreign investments can involve risks not present in domestic investments. They
can be affected favorably or unfavorably by changes in currency rates and in
exchange control regulations, and costs may be incurred in connection with
conversions between currencies. There may be less publicly available information
about a foreign company than about a U.S. company, and foreign companies may not
be subject to accounting, auditing, and financial reporting standards and
requirements comparable to those applicable to U.S. companies. There is
generally less government regulation of securities exchanges, brokers and listed
companies abroad than in the United States. Securities of some foreign companies
are less liquid or subject to more price volatility than securities of U.S.
companies, and foreign brokerage commissions and custodian fees are generally
higher than in the United States. Investments in foreign securities can involve
other risks different from those affecting investments in securities of U.S.
companies, including local political or economic developments, expropriation or
nationalization of assets and imposition of withholding taxes on dividend or
interest payments.
With respect to foreign debt obligations, it may be more difficult for the fund
to obtain or to enforce a judgment against the issuers of such securities in the
event of a default. To hedge against possible variations in foreign exchange
rates pending the settlement of transactions in foreign securities, the fund may
deal in forward foreign currencies. Foreign securities, like other assets of the
fund, will be held by the fund's custodian or by a sub-custodian.
50
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See Foreign investments in the Appendix and Risk factors and special
considerations in the SAI, for an expanded discussion of these and other risk
factors.
Warrants
The fund may invest in warrants of issues consistent with its objective.
Warrants are a type of security, usually issued together with another security
of an issuer, that entitles the holder to buy a fixed amount of common or
preferred stock of such issuer at a specified price for a fixed period of time
(which may be in perpetuity). Warrants are commonly issued attached to other
securities of the issuer as a method of making such securities more attractive
and are usually detachable and thus may be bought or sold separately from the
issued security. Warrants can be a speculative instrument. The value of a
warrant may decline because of a decrease in the value of the underlying stock,
the passage of time or a change in perception as to the potential of the
underlying stock or any other combination. If the market price of the underlying
stock is below the exercise price set forth in the warrant on the expiration
date, the warrant will expire worthless. Warrants generally are freely
transferable and are traded on the major stock exchanges.
Portfolio turnover
The fund's portfolio turnover rate, which is not a matter of fundamental policy,
is expected to average approximately 50%. (For example, a rate of portfolio
turnover of 100% would occur if all of the fund's portfolio were replaced in a
period of one year.) Turnover will not be a limiting factor when prudent
strategy dictates more frequent trading. The actual turnover rate will vary,
depending upon the volatility of worldwide equity markets, changing economic
conditions and the resultant changes in geographic allocation and individual
security selection. High portfolio turnover may involve correspondingly greater
brokerage commissions and other transaction costs, which are borne directly by
the fund. See Portfolio transactions and brokerage in the SAI. During 1995 the
fund's portfolio turnover was 63.15% and in 1994 it was 52.78%.
Investment restrictions
The following investment restrictions have been adopted by the fund as
fundamental policies. See General information in the Appendix.
These restrictions help the fund limit investment risks for the shareholder. For
example, the fund may not:
1. Borrow money, except for temporary or emergency purposes and not exceeding 5%
(taken at the lower of cost or current value) of its total assets (not
including the amounts borrowed);
2. Acquire more than 10% of the voting securities of any one issuer;
3. Invest in the securities of a single issuer, unless the following conditions
are met: At least 75% of the value of the fund's total assets must be
represented by: (a) U.S. Government obligations, cash and cash items, (b)
securities of other investment companies, and (c) securities of issuers as to
each of which, at the time the investment was made, the fund's investment in
the issuer did not exceed 5% of the fund's total assets. The fund does not
anticipate that any more than 15% of the fund's total assets would be
invested in the securities of a single issuer at any time, other than those
of the U.S. Government, its agencies and instrumentalities;
4. Invest more than 10% of its total assets in securities (including repurchase
agreements maturing in more than 7 days) which are subject to legal or
contractual conditions upon resale, are not listed on a securities exchange,
or are otherwise not readily marketable; and/or
5. Invest more than 25% of its assets in any one industry. For purposes of this
restriction, gas, electric, water and telephone utilities are treated as
separate industries; also, the term industry does not include the U.S.
Government, or its agencies or instrumentalities. However, a foreign
government (including its agencies, instrumentalities, or a country fund) is
deemed to be one industry.
A complete listing of the fund's investment restrictions can be found in the
SAI.
Strategic portfolio transactions
The portfolio manager for the fund has considerable discretion in the selection
of appropriate fund investments. In the exercise of that discretion, the
portfolio manager may, at any given time, invest a portion of the fund's assets
in one or more strategic portfolio transactions which we define as derivative
transactions and cash enhancement transactions.
For your convenience, in the Appendix, we have included a basic discussion of
these special financial arrangement transactions and some of the risks
associated with them. Note also that the SAI booklet for the 11 funds contains
definitions of the more commonly used derivative transactions, technical
explanations of how these transactions will be used and the limits on their use.
You should consult your financial counselor if you have specific questions.
THE INTERNATIONAL FUND IS AUTHORIZED:
a) for derivative transactions, to: engage in forward commitments and currency
forwards.
b) for cash enhancement transactions, to: lend portfolio securities (up to 25%
of assets); engage in repurchase transactions (up to 5% of assets). Collateral
will be continually maintained at no less than 102% of the value of the loaned
securities or of the repurchase price, as applicable.
51
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52
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APPENDIX
- --------------------------------------------------------------------------------
APPENDIX - CONTAINS IMPORTANT INFORMATION FOR ALL FUNDS
This Appendix constitutes part of the Prospectuses of Lincoln National
Aggressive Growth Fund, Inc. (Aggressive Growth Fund), Lincoln National Bond
Fund, Inc. (Bond Fund), Lincoln National Capital Appreciation Fund, Inc.
(Capital Appreciation Fund), Lincoln National Equity-Income Fund, Inc. (Equity-
Income Fund), Lincoln National Global Asset Allocation Fund, Inc. (Global Asset
Allocation Fund), Lincoln National Growth and Income Fund, Inc. (Growth and
Income Fund), Lincoln National International Fund, Inc. (International Fund),
Lincoln National Managed Fund, Inc. (Managed Fund), Lincoln National Money
Market Fund, Inc. (Money Market Fund), Lincoln National Social Awareness Fund,
Inc. (Social Awareness Fund), and Lincoln National Special Opportunities Fund,
Inc. (Special Opportunities Fund). Unless otherwise indicated, the following
information applies to each fund.
NET ASSET VALUE
Each fund's net asset value per share is determined as of close of business
(currently 4:00 p.m., New York Time) on the New York Stock Exchange (NYSE) on
each day it is open for trading. The net asset value per share for all funds
except the Money Market Fund is determined by adding the values of all
securities and other assets, subtracting liabilities (including dividends
payable) and dividing by the number of shares outstanding. Debt securities and
other assets of the fund, other than equity securities, for which market
quotations are readily available, are valued at their bid quotations.
When market quotations are not readily available, debt securities and other
assets are valued at their fair value as determined in good faith. This
valuation is made by or under the authority of the fund's Board of Directors and
it may include the use of valuations furnished by outside sources, including
pricing services which utilize electronic data processing techniques for valuing
normal institutional-size trading units of debt securities. The value of equity
securities is based on the last sale prices of those securities on national
securities exchanges or, in the absence of recorded sales, at the average of
readily available closing bid and asked prices on exchanges or over-the-counter.
In the absence of readily available closing bid and asked prices, equity
securities will be valued at fair value.
SHORT-TERM INVESTMENTS. For funds (other than the Money Market Fund) that trade
in short-term investments which mature in less than 60 days, these instruments
are valued at amortized cost; if these securities are acquired with a remaining
maturity of 61 days or more, the cost for purposes of valuation is deemed to be
the value on the sixty-first day prior to maturity.
OPTIONS TRADING. For those funds engaging in options trading, fund investments
underlying call options will be valued as described previously. Options are
valued at the last sale price or, if there has been no sale that day, at the
mean of the last bid and asked price on the principal exchange where the option
is traded, as of the close of trading on the NYSE. The fund's net asset value
will be increased or decreased by the difference between the premiums received
on writing options and the cost of liquidating those positions measured by the
closing price of those options on the exchange where traded.
FOREIGN SECURITIES. For funds investing in foreign securities, the value of a
foreign portfolio security held by a fund is determined based upon its closing
price or upon the mean of the closing bid and asked prices on the foreign
exchange or market on which it is traded and in the currency of that market, as
of the close of the appropriate exchange. As of the close of business on the
NYSE, that fund's portfolio securities which are quoted in foreign currencies
are converted into their U.S. dollar equivalents at the prevailing market rates,
as computed by the custodian of the fund's assets.
However, trading on foreign exchanges may take place on dates or at times of day
when the NYSE is not open; conversely, overseas trading may not take place on
dates or at times of day when the NYSE is open. Any of these circumstances could
affect the net asset value of fund shares on days when the investor has no
access to the fund. There are more detailed explanations of these circumstances
in the SAI for the various funds. See the Preface to this Prospectus booklet for
information about how to obtain a copy of the SAI booklet.
MONEY MARKET FUND. The net asset value per share of the Money Market Fund is
determined by the amortized cost method of valuation, under Rule 2a-7, as
amended (the Rule) of the Investment Company Act of 1940 (1940 Act). Under the
Rule, the fund's net asset value using the amortized cost method must fairly
reflect market value. The Board of Directors of the fund has established
procedures to assist fund management and the investment advisor in complying
with the requirements of the Rule, which imposes specific standards for the
maturity, quality and diversification of portfolio securities. The Rule also
assigns certain specific duties to fund management and the Board.
MANAGEMENT OF THE FUNDS
The business and affairs of each fund are managed under the direction of its
Board of Directors. The Board has the power to amend the bylaws of each fund, to
declare and pay dividends and to exercise all the powers of the fund except
those granted to the shareholder. Lincoln Life is the sole shareholder of each
fund.
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APPENDIX
- --------------------------------------------------------------------------------
INVESTMENT ADVISOR. Lincoln Investment is the investment advisor to the funds
and is headquartered at 200 East Berry Street, Fort Wayne, Indiana 46802.
Lincoln Investment (the advisor) is registered with the Securities and Exchange
Commission (the Commission) [SEC] as an investment advisor and has acted as an
investment advisor to mutual funds for over 40 years. The advisor also acts as
investment advisor to Lincoln National Convertible Securities Fund, Inc., and
Lincoln National Income Fund, Inc., closed-end investment companies as well as
Lincoln Advisor Funds, Inc., an open-end series.
The advisor is a wholly-owned subsidiary of Lincoln National Corp. (LNC), a
publicly-held insurance holding company organized under Indiana law. Through its
subsidiaries, LNC provides life insurance and annuities, property-casualty
insurance, reinsurance and financial services.
Under advisory agreements described in the Prospectus for the variable account,
the advisor provides portfolio management and investment advice to the funds and
administers their other affairs, subject to the supervision of each fund's Board
of Directors.
As compensation for its services to each fund, the advisor is paid an investment
advisory fee at an annual rate based on the average daily net asset value of
each fund, as shown in the following chart:
<TABLE>
<CAPTION>
First Next In excess of
Fund $200 million $200 million $400 million
...Of average daily net asset value
- --------------------------------------------------------------------------------
<S> <C> <C> <C>
Aggressive Growth .75 of 1% .70 of 1% .65 of 1%
Capital Appreciation .80 of 1 .80 of 1 .80 of 1
Equity-Income .95 of 1 .95 of 1 .95 of 1
Global Asset Allocation .75 of 1 .70 of 1 .68 of 1
International .90 of 1 .75 of 1 .60 of 1
All other funds .48 of 1 .40 of 1 .30 of 1
</TABLE>
The advisory fees for the Capital Appreciation, Equity-Income, and International
funds reflect the more extensive services and increased expense associated with
portfolios of securities issued outside the United States.
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------
FUND EXPENSES (see accompanying text below)
1995 ratio of the advisor's 1995 ratio of total expenses
compensation to average to average net assets
Fund net assets operational fund
- ---------------------------------------------------------------------------------------------
<S> <C> <C>
Aggressive Growth .75% .94%
Bond .47 .49
Capital Appreciation .80 1.07
Equity-Income .95 1.15
Global Asset Allocation .70 .92
Growth and Income .34 .35
International .84 1.27
Managed .41 .43
Money Market .48 .52
Social Awareness .47 .50
Special Opportunities .43 .45
</TABLE>
Expenses specifically assumed by each fund include: compensation and expenses of
Directors of the fund who are not interested persons of the fund as defined in
the 1940 Act; registration, filing, and other fees in connection with filings
with regulatory authorities, including the costs of printing and mailing
registration statements and updated Prospectuses provided to current contract
owners; fees and expenses of independent auditors; the expenses of printing and
mailing proxy statements and shareholder reports; custodian and transfer agent
charges; brokerage commissions and securities and options transaction costs
incurred by the fund; taxes and corporate fees; legal fees incurred in
connection with the affairs of the fund (other than legal services provided by
personnel of the advisor or its affiliated companies); the fees of any trade
association of which the fund is a member; and expenses of shareholder and
Director meetings.
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APPENDIX
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SUB-ADVISORS. As advisor, Lincoln Investment is primarily responsible for
investment decisions affecting each of the funds. However, Lincoln Investment
has entered into sub-advisory agreements with several professional investment
management firms. These firms provide some or substantially all of the
investment advisory services required by a number of the funds, including day-
to-day investment management of those funds' portfolios. Each sub-advisor makes
investment decisions for its respective fund in accordance with that fund's
investment objectives and places orders on behalf of that fund to effect those
decisions. See the following tables for more information about the sub-advisors
and their fees:
<TABLE>
<CAPTION>
Date of
Fund Sub-advisor agreement Annual fee rate based on average daily net asset value
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Aggressive .50 of 1% of the first $150 million
Growth Lynch & Mayer 12/20/93 .35 of 1% of the excess over $150 million
Capital
Appreciation Janus 1/1/94 .60 of 1% of the first $100 million
.55 of 1% of the excess over $100 million
Equity-Income Fidelity 12/20/93 .75 of 1%
Global Asset the greater of (a) $40,000; or (b) .47 of 1% of the
Allocation Putnam 6/8/87 first $200 million; .42 of 1% of the next $200 million;
and .40 of 1% of any excess over $400 million
International Clay Finlay 11/19/90 .665 of 1% of the first $50 million; .475 of 1% of the
next $50 million; and .250 of 1% of any excess over $100
million
- -------------------------------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
Annual fee rate based on market value of securities held
in the portfolio of each respective client fund at the
Date of close of business on the last trading day of each
Fund Sub-advisor agreement calendar quarter
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Growth and
Income Vantage 8/21/85 .20 of 1%
Managed Vantage 8/21/85 .20 of 1%
(stock portfolio only)
Social
Awareness Vantage 4/30/88 .20 of 1%
Special
Opportunities Vantage 8/21/85 .20 of 1%
</TABLE>
No additional compensation from the assets of the funds will be assessed as a
result of the sub-advisory agreements; the sub-advisors are paid by Lincoln
Investment. (There is no sub-advisor for the Bond and Money Market Funds.)
SERVICE MARKS. The service mark for the funds and the name Lincoln National have
been adopted by the funds with the permission of LNC, and their continued use is
subject to the right of LNC to withdraw this permission in the event the advisor
should not be the investment advisor of the funds.
In the Prospectus and sales literature, the name Fidelity Investments will be
used with the Equity-Income Fund, Janus with the Capital Appreciation Fund and
Putnam with the Global Asset Allocation Fund. The continued use of these names
is subject to the right of the respective sub-advisor to withdraw its permission
in the event it ceases to be the sub-advisor to the particular fund it advises.
PURCHASE OF SECURITIES BEING OFFERED
Shares of the funds' common stock ($0.01 par value) will be sold to Lincoln Life
for allocation to the variable annuity account (VAA), which has been established
for the purpose of funding variable annuity contracts; shares in the funds will
also be sold to Lincoln Life for allocation to one or more of the variable life
accounts, which have been established for the purpose of funding variable life
insurance contracts. Shares of each fund are sold and redeemed at their net
asset value determined daily. See Sale and redemption of shares. Also see Net
asset value. The funds' shares are sold to Lincoln Life for the variable
accounts on a no-load basis-that is; without the imposition of a sales charge.
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APPENDIX
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SALE AND REDEMPTION OF SHARES
The shares of each fund are sold and redeemed by the fund at their net asset
value next determined after receipt of a purchase or redemption order in
acceptable form. The value of shares redeemed may be more or less than original
cost, depending upon the market value of the portfolio securities at the time of
redemption. Payment for shares redeemed will be made within seven days after the
redemption request is received in proper form by the funds. However, the right
to redeem fund shares may be suspended or payment postponed for any period
during which (1) trading on the NYSE is restricted as determined by the
Commission, or the NYSE is closed for other than weekends and holidays; (2) an
emergency exists, as determined by the Commission, as a result of which (a)
disposal by each fund of securities owned by it is not reasonably practicable,
or (b) it is not reasonably practicable for each fund to determine fairly the
value of its net assets; or (3) the Commission by order so permits for the
protection of shareholders of the funds.
DISTRIBUTION AND FEDERAL INCOME TAX CONSIDERATIONS
Each fund's policy is to distribute, at least once a year, substantially all of
its net investment income. Net realized capital gains may only be distributed
annually. These distributions, when paid to Lincoln Life for the variable
accounts, will be reinvested automatically in additional shares of that fund, at
its net asset value.
Each fund intends to qualify and has elected to be taxed as a regulated
investment company under the provisions of Subchapter M of the Internal Revenue
Code of 1986, as amended (the code). If a fund qualifies as a regulated
investment company and complies with the provisions of the code relieving
regulated investment companies which distribute substantially all of their net
income (both ordinary income and capital gain) from Federal income tax and the
4% nondeductible Federal excise tax, the funds will be relieved of those taxes
on the amounts distributed. See the SAI for a more complete discussion.
Since the sole shareholder of the funds is Lincoln Life, there is no discussion
here about the Federal income tax consequences at the shareholder level. For
information concerning the Federal income tax consequences to holders of annuity
or life insurance contracts, see the Prospectus for the variable account at the
front of this booklet.
MANAGEMENT DISCUSSION OF FUND PERFORMANCE
In the Annual Report for the funds, the portfolio manager for each fund
discusses that fund's performance for the previous fiscal year and the factors
which affected that performance. We will send you a copy of the Annual Report
free upon request.
DESCRIPTION OF SHARES
The authorized capital stock of each fund consists of 50 million shares of
common stock (100 million for the Growth and Income Fund), $0.01 par value. As
of April 1, 1996, each fund had the following number of shares issued and
outstanding:
Aggressive Growth 12,933,481
Bond 22,622,136
Capital Appreciation 12,115,745
Equity-Income 21,459,285
Global Asset Allocation 20,930,014
Growth and Income 69,131,710
International 28,134,844
Managed 41,694,836
Money Market 8,326,457
Social Awareness 15,887,303
Special Opportunities 20,963,247
Fund shares will be owned by Lincoln Life and will be held by it in the variable
accounts. As stated in the Prospectuses for the variable accounts, Lincoln Life
provides to contract owners of the variable accounts the right to direct the
voting of fund shares at shareholder meetings, to the extent provided by law.
However, if the 1940 Act or any regulation under it should change, and as a
result Lincoln Life determines it is permitted to vote fund shares in its own
right, it may elect to do so.
All the shares of each fund are of the same class with equal rights and
privileges. Each full share is entitled to one vote and each fractional share is
entitled to a proportionate fractional vote, on all matters subjected to a vote
of the shareholder. All shares, full and fractional, participate proportionately
in any dividends and capital gains distributions and, in the event of
liquidation, in that fund's net assets remaining after satisfaction of
outstanding liabilities.
When issued, each share is fully-paid and non-assessable and the shareholder has
no preemptive or conversion rights. Fund shares have non-cumulative voting
rights, which means that holders of more than 50% of the shares voting for the
election of directors can elect 100% of the directors if they choose to do so.
In that event the
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APPENDIX
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holders of the remaining shares so voting will not be able to elect any
directors. Shares may be redeemed as set forth under Sale and redemption of
shares.
The Bylaws of the funds allow them, in proper cases, to dispense with their
annual meetings of the shareholder. Generally, this may be done as long as: (1)
a majority of the Directors then in office have at some point been elected by
the shareholder and, if any vacancy is filled by vote of the Board of Directors,
then immediately after filling the vacancy at least two thirds of the Directors
shall have been elected by the shareholder; (2) there is no change in the
independent auditor of the funds; (3) there is no material change to the
investment advisory and/or sub-advisory agreements; and (4) a shareholder vote
is not required with respect to a distribution agreement. In adopting this
procedure for dispensing with annual meetings that are a formality, the
Directors of the funds have undertaken to comply with the requirements of
Section 16(c) of the 1940 Act. That Section protects contract owners by
providing a procedure by which they may require management to convene a meeting
of the shareholder to vote on removal of one or more Directors. The Directors
also have agreed to facilitate communication among contract owners for the
purpose of calling those meetings. Further information about these procedures is
available from fund management.
STRATEGIC PORTFOLIO TRANSACTIONS-ADDITIONAL INFORMATION
Because of their different investment objectives and portfolio management
philosophies many of the funds engage to varying degrees in strategic portfolio
transactions, in order to preserve or enhance the value of their assets. These
can be generally identified as either derivative transactions or cash
enhancement transactions. Derivative transactions are recognized by the
investment community as an acceptable way to increase the fund's overall value
(or, depending on the condition of the securities markets, at least to slow its
decrease). Cash enhancement transactions are designed to make some extra money
for the fund when it has excess cash, or to help the fund obtain some cash for
temporary purposes when needed. SEE THE PROSPECTUS FOR EACH FUND FOR A LISTING
OF THE KINDS OF TRANSACTIONS IN WHICH EACH FUND MAY ENGAGE.
1. DERIVATIVE TRANSACTIONS
A. Introduction
A derivative transaction is a financial agreement the value of which is
dependent upon the values of one or more underlying assets or upon the
values of one or more indices of asset values. The following types are
currently in fairly common use in the investment community, although not
every fund will use all of them:
1. Equity contracts: stock options and indexed options; equity swaps;
stock index futures and options on futures; swaptions;
2. Interest rate contracts: interest rate futures and options on them;
forward rate agreements (FRAs); interest rate swaps and their related
transactions (e.g., caps, floors, collars and corridors); and/or
3. Currency derivative contracts: currency forward contracts; currency
options; currency futures; currency swaps; cross-currency interest rate
swaps.
SIMPLIFIED DEFINITIONS FOR THESE TRANSACTIONS ARE PROVIDED IN THE SAI APPENDIX.
Although they may be structured in complex combinations, derivative transactions
in which the funds engage generally fall into two broad categories: options
contracts or forward contracts. The combined forms are constantly evolving. In
fact, variations on the types listed previously may come into use after the date
of these Prospectuses. Therefore, where the Prospectus for a particular fund
discloses the intent of that fund to engage in any of the types listed, that
fund hereby reserves the right to engage in related variations on those
transactions.
The funds intend to engage in derivative transactions only defensively. Examples
of this defensive use might be: to hedge against a perceived decrease in a
fund's asset value; to control transaction costs associated with market timing
(e.g., by using futures on an unleveraged basis); and to lock in returns,
spreads, or currency exchange rates in anticipation of future cash market
transactions.
There is no discussion here of asset-backed or mortgage-backed securities (such
as collateralized mortgage obligations, structured notes, inverse floaters,
principal-only or interest-only securities, etc.). See the Prospectus and SAI
for the Capital Appreciation and Equity-Income funds, which are authorized to
engage in this kind of trading.
B. Risk factors commonly associated with derivative transactions.
There are certain risks associated with derivatives, and some derivatives
involve more of these risks than others. We briefly describe the most
common ones here; however, this is not an exhaustive list. Consult your
financial counselor if you have additional questions.
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CREDIT RISK is the possibility that a counterparty to a transaction will
fail to perform according to the terms and conditions of the transaction,
causing the holder of the claim to suffer a loss.
CROSS-CURRENCY SETTLEMENT RISK (or Herstatt risk) is related to the
settlement of foreign exchange contracts. It arises when one of the
counterparties to a contract pays out one currency prior to receiving
payment of the other. Herstatt risk arises because the hours of operation
of domestic interbank fund transfer systems often do not overlap due to
time zone differences. In the interval between the time one counterparty
has received payment in one indicated currency and the time the other
counterparty(ies) receive payment in the others, those awaiting payment
are exposed to credit risk and market risk.
LEGAL RISK is the chance that a derivative transaction, which involves
highly complex financial arrangements, will be unenforceable in particular
jurisdictions or against a financially troubled entity; or will be subject
to regulation from unanticipated sources.
MARKET LIQUIDITY RISK is the risk that a fund will be unable to control
its losses if a liquid secondary market for a financial instrument does
not exist. It is often considered as the risk that a (negotiable or
assignable) financial instrument cannot be sold quickly and at a price
close to its fundamental value.
MARKET RISK is the risk of a change in the price of a financial
instrument, which may depend on the price of an underlying asset.
OPERATING RISK is the potential of unexpected loss from inadequate
internal controls or procedures; human error; system (including data
processing system) failure; or employee dishonesty.
SETTLEMENT RISK between two counterparties is the possibility that a
counterparty to whom a firm has made a delivery of assets or money
defaults before the amounts due or assets have been received; or the risk
that technical difficulties interrupt delivery or settlement even if the
counterparties are able to perform. In the latter case, payment is likely
to be delayed but recoverable.
SYSTEMIC RISK is the uncertainty that a disruption (at a firm, in a market
segment, to a settlement system, etc.) might cause widespread difficulties
at other firms, in other market segments, or in the financial system as a
whole.
SPECIAL NOTE FOR OPTIONS AND FUTURES TRANSACTIONS: Gains and losses on
options and futures transactions depend on the portfolio manager's ability
to correctly predict the direction of stock prices and interest rates, and
other economic factors. Options and futures trading may fail as hedging
techniques in cases where the price movements of the securities underlying
the options and futures do not follow the price movements of the portfolio
securities subject to the hedge. The loss from investing in futures
transactions is potentially unlimited.
SOME OF THESE RISKS MAY BE PRESENT IN EACH TYPE OF TRANSACTION, WHILE
OTHERS MAY PERTAIN ONLY TO CERTAIN ONES. These risks are discussed here
only briefly. Before you invest in a particular fund, please consult your
financial counselor if you have questions about the risks associated with
that fund's use of derivatives.
C. Varying usage of derivative transactions
Subject to the terms of the Prospectus and SAI for each fund, that fund's
portfolio manager decides which types of derivative transactions to
employ, at which times and under what circumstances. For a description of
the limits, risk factors and circumstances under which derivative
transactions will be used by each fund, refer to the SAI booklet.
D. Increased government scrutiny
Derivative transactions are coming under increased scrutiny by Congress
and industry regulators (such as the SEC and the Office of the Comptroller
of the Currency), and by self-regulatory agencies (such as the NASD).
Should legislation or regulatory initiatives be enacted resulting in
additional restrictive requirements for derivative transactions, we
reserve the right to make all necessary changes in the contracts and/or
the Registration Statements for the funds to comply with those
requirements.
2. CASH ENHANCEMENT TRANSACTIONS
Cash enhancement transactions also involve certain risks to the fund. They
are discussed more fully inthe SAI.
A. Lending of portfolio securities
Any fund authorized to do so may make secured loans of its portfolio
securities, in order to realize additional income. The loans are limited
to a maximum of a stipulated amount of the fund's total assets. As a
matter of policy, securities loans are made to broker/dealers under
agreements requiring that the loans be continuously secured by collateral
in cash or short-term debt obligations at least equal at all times to 102%
of the value of the securities lent.
The borrower pays the fund an amount equal to any dividends or interest
received on securities lent. The fund retains all or a portion of the
interest received on securities lent. The fund also retains all or a
portion of the interest received on investment of the cash collateral, or
receives a fee from the borrower.
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With respect to the loaned securities, voting rights or rights to consent
pass to the borrower. However, the fund retains the right to call in the
loans and have the loaned securities returned at any time with reasonable
notice. This is important when issuers of the securities ask holders of
those securities-including the fund-to vote or consent on matters which
could materially affect the holders' investment. The fund may also call in
the loaned securities in order to sell them. None of the funds' portfolio
securities will be loaned to Lincoln Investment, to any sub-advisor, or to
any of their respective affiliates. The fund may pay reasonable finder's
fees to persons unaffiliated with it in connection with the arrangement of
the loans.
B. Repurchase (Repo) and reverse repurchase (Reverse Repo) transactions
1. Repos. From time to time, the funds may enter into Repo transactions.
In a typical Repo transaction, the fund involved buys U.S. Government
or other money market securities from a financial institution (such as
a bank, broker, or savings and loan association). At the same time, as
part of the arrangement, the fund obtains an agreement from the seller
to repurchase those same securities from the fund at a specified price
on a fixed future date.
The repurchase date is normally not more than seven days from the date
of purchase. Keeping the term under seven days is significant, because
the SEC considers Repo Agreements with maturities of more than seven
days to be illiquid assets of the fund, and the funds have strict
limitations on the percentage of their respective assets which may be
illiquid.
2. Reverse repos. A fund may also be authorized to enter into Reverse Repo
transactions. This simply means the fund is on the reverse side of a
Repo transaction. That is, the fund is the Seller of some of its
portfolio securities, subject to buying them back at a set price and
date.
Authorized funds will engage in Reverse Repos for temporary purposes,
such as for obtaining cash to fund redemptions; or for the purpose of
increasing the income of the fund by investing the cash proceeds at a
higher rate than the cost of the agreement. Entering into a reverse
repo transaction is considered to be the borrowing of money by the
fund. Funds authorized to engage in Repos as buyers are not necessarily
authorized to do Reverse Repos.
FOREIGN INVESTMENTS
There are certain risks involved in investing in foreign securities, including
those resulting from fluctuations in currency exchange rates; devaluation of
currencies; political or economic developments including the possible imposition
of currency exchange blockages or other foreign governmental laws or
restrictions; reduced availability of public information concerning issuers; and
the fact that foreign companies are not generally subject to uniform accounting,
auditing, and financial reporting standards or to other regulatory practices and
requirements comparable to those applicable to domestic companies. With respect
to certain foreign countries, there is also the possibility of expropriation,
nationalization, confiscatory taxation, and limitations on the use or removal of
cash or other assets of a fund, including the withholding of interest payments
or dividends. These risks may be particularly great in so-called developing or
undeveloped countries, sometimes referred to as Emerging Markets.
In addition, while the volume of transactions effected on foreign stock
exchanges has increased in recent years, in most cases it remains appreciably
below that of the NYSE. Accordingly, a fund's foreign investments may be less
liquid and their prices may be more volatile than comparable investments in
securities of U.S. companies. Moreover, the settlement periods for foreign
securities, which are often longer than those for securities of U.S. issuers,
may affect portfolio liquidity. The funds will incur costs in converting foreign
currencies into U.S. dollars. Custody charges are generally higher for foreign
securities. In buying and selling securities on foreign exchanges, a fund
normally pays fixed commissions that are generally higher than the negotiated
commissions charged in the United States. In addition, there is generally less
governmental supervision and regulation of securities exchanges, brokers and
issuers in foreign countries that in the United States. There may be difficulty
in enforcing legal rights outside the United States. For example, in the event
of default on any foreign debt obligations, it may be more difficult or
impossible for the fund to obtain or to enforce a judgment against the issuers
of these securities. The advisor or sub-advisor will take all these factors into
consideration in managing a fund's foreign investments.
Certain state insurance regulations impose additional restrictions on the extent
to which a fund may invest in foreign securities. See the SAI.
The share price of a fund that invests in foreign securities will reflect the
movements of both the prices of the portfolio securities and the currencies in
which those securities are denominated. Depending on the extent of a fund's
investments abroad, changes in a fund's share price may have a low correlation
with movements in the U.S. markets. Because most of the foreign securities in
which the fund invests will be denominated in foreign currencies, or otherwise
will have values that depend on the performance of foreign currencies relative
to the U.S. dollar, the relative strength of the U.S. dollar may be an important
factor in the performance of the fund.
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FOREIGN CURRENCIES
When an advisor or sub-advisor believes that a currency in which a portfolio
security or securities is denominated may suffer a decline against the U. S.
dollar, it may hedge that risk by entering into a forward contract to sell an
amount of foreign currency approximating the value of some or all of the
portfolio securities denominated in that foreign currency.
Because foreign securities generally are denominated and pay dividends or
interest in foreign currencies, and a fund may hold various foreign currencies,
the value of the net assets of that fund as measured in U. S. dollars will be
affected favorably or unfavorably by changes in exchange rates. Generally,
currency exchange transactions will be conducted on a spot (i.e., cash) basis at
the spot rate prevailing in the currency exchange market. The cost of currency
exchange transactions will generally be the difference between the bid and offer
spot rate of the currency being purchased or sold. Some foreign currency values
may be volatile, and there is the possibility of government controls on currency
exchange or governmental intervention in currency markets which could adversely
affect the fund.
Investors should be aware that exchange rate movements can be significant and
can endure for long periods of time. In order to protect against uncertainty in
the level of future foreign currency exchange rates, a fund's advisor or sub-
advisor may attempt to manage exchange rate risk through active currency
management, including the use of certain foreign currency hedging transactions.
For example, it may hedge some or all of its investments denominated in a
foreign currency against a decline in the value of that currency relative to the
U.S. dollar by entering into contracts to exchange that currency for U.S.
dollars (not exceeding the value of the fund's assets denominated in that
currency), or by participating in options or futures contracts with respect to
that currency. If the advisor or sub-advisor believes that a particular currency
may decline relative to the U.S. dollar, the fund may also enter into contracts
to sell that currency (up to the value of the fund's assets denominated in that
currency) in exchange for another currency that the advisor or sub-advisor
expects to remain stable or to appreciate relative to the U.S. dollar. This
technique is known as currency cross-hedging. Refer to the Prospectus for each
fund to determine which funds may engage in these transactions.
These strategies minimize the effect of currency appreciation as well as
depreciation, but do not protect against a decline in the underlying value of
the hedged security. In addition, these strategies may reduce or eliminate the
opportunity to profit from increases in the value of the original currency and
may adversely impact the fund's performance if the advisor or sub-advisor's
projection of future exchange rates is inaccurate. See Strategic portfolio
transactions.
GENERAL INFORMATION
Your inquiries should be directed to Lincoln National Life Insurance Co., at
P.O. Box 2340, Fort Wayne, Indiana 46801; or, you may call 1-800-348-1212.
The funds will issue unaudited semiannual reports showing current investments in
each fund and other information; and annual financial statements audited by
their independent auditors.
Under the 1940 Act a fundamental policy of a fund may not be changed without the
affirmative vote of a majority of the fund's outstanding shares.
As used in this Prospectus, the term majority of the fund's outstanding shares
means the vote of: (1) 67% or more of each fund's shares present at a meeting,
if the holders of more than 50% of the outstanding shares of each fund are
present or represented by proxy, or (2) more than 50% of each fund's outstanding
shares, whichever is less.
These Prospectuses do not contain all the information included in their
Registration Statements filed with the Commission. The Registration Statements,
including the exhibits filed with them, may be examined at the office of the
Commission in Washington, D.C. Statements contained in the Prospectuses about
the contents of any contract or other document referred to in them are not
necessarily complete. In each instance, reference is made to the copy of that
contract or other document filed as an exhibit to the Registration Statement of
which the particular Prospectus forms a part, and each statement is qualified in
all respects by that reference.
The use of funds by both variable annuity and variable life insurance separate
accounts is known as mixed funding. Due to differences in redemption rates, tax
treatment, or other considerations, the interests of contract owners under the
variable life accounts may conflict with those of contract owners under the
variable annuity account, in those cases where mixed funding occurs. The Board
of Directors of each fund will monitor for any material conflicts and determine
what action, if any, should be taken.
Should any conflict arise which requires that a substantial amount of assets be
withdrawn from any of the funds, orderly portfolio management could be
disrupted, to the detriment of those contract owners still investing in that
fund. Also, if that fund believes that any portfolio has become so large as to
materially impair investment performance, then the fund will examine other
investment options.
Lincoln Life performs the dividend and transfer functions for the funds.
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LINCOLN NATIONAL
INTERNATIONAL FUND, INC.
Statement of Additional Information (SAI)
This SAI should be read in conjunction with the Prospectus of Lincoln National
International Fund, Inc. (fund) dated May 1, 1996. You may obtain a copy of the
fund's Prospectus on request and without charge. Please write Kim Oakman,
Lincoln National Life Insurance Co., P.O. Box 2340, Fort Wayne, Indiana 46801 or
call 1-800-348-1212, Ext. 4912.
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
- ---------------------------------------------------------
<S> <C>
Investment objective, policies and practices IF- 2
- ---------------------------------------------------------
Risk factors and special considerations IF- 6
- ---------------------------------------------------------
Determination of net asset value IF- 7
- ---------------------------------------------------------
Investment restrictions IF- 8
- ---------------------------------------------------------
Portfolio transactions and brokerage IF- 9
- ---------------------------------------------------------
General information and history IF-10
- ---------------------------------------------------------
The EAFE and other unmanaged indices IF-10
- ---------------------------------------------------------
Appendix
Investment advisor and sub-advisor A- 1
- ---------------------------------------------------------
Directors and officers A- 3
- ---------------------------------------------------------
Investment policies and techniques (continued):
options, futures, securities lending, repurchase
and reverse repurchase agreements A- 4
- ---------------------------------------------------------
Custodian A- 9
- ---------------------------------------------------------
Independent auditors A-10
- ---------------------------------------------------------
Financial statements A-10
- ---------------------------------------------------------
Bond ratings A-10
- ---------------------------------------------------------
Commercial paper ratings A-11
- ---------------------------------------------------------
U.S. Government obligations A-11
- ---------------------------------------------------------
Taxes A-11
- ---------------------------------------------------------
State requirements A-12
- ---------------------------------------------------------
Derivative transactions--definitions A-13
- ---------------------------------------------------------
</TABLE>
THIS SAI IS NOT A PROSPECTUS.
The date of this SAI is May 1, 1996
IF-1
<PAGE>
INVESTMENT OBJECTIVE, POLICIES AND PRACTICES
The investment objective of the fund is long-term capital appreciation,
implemented through a strategic policy of investing primarily in a portfolio of
equity and equity-linked securities issued outside the United States. The fund's
investment objective and strategic policy are fundamental and cannot be changed
without the affirmative vote of a majority of the outstanding voting securities
of the fund. See General information in the Prospectus. There can be no
assurance that the objective of the fund will be achieved.
This fund invests principally in high-grade common stocks of established
companies domiciled outside the U.S., with the objective of maximizing longer-
term total return. The primary risk is that associated with common stock
investing, and the shares will fluctuate in value with the common stock market
in the country where issued. Secondary risks are those generally associated with
investments outside the U.S. (See Foreign investments in the Prospectus.)
Because the policy of this fund is to emphasize investment in established
companies, it is expected that the volatility will be in line with the broad
stock market indices such as the Dow Jones Industrial Average and the Standard &
Poor's 500 Index (S&P 500), or their overseas equivalents.
The fund pursues its investment objective by investing primarily in a portfolio
of common stock and securities convertible into common stock. (See Description
of the fund and Investment policies and techniques in the Prospectus.)
TYPE OF EQUITY AND EQUITY-LINKED SECURITIES IN WHICH THE FUND MAY INVEST. As
discussed in the Prospectus, the fund seeks to achieve its investment objective
through investment primarily in equity and equity-linked securities. In addition
to investing directly in equity securities, the fund may invest in American
Depositary Receipts (ADRs) and European Depositary Receipts (EDRs). Generally,
ADRs in registered form are U.S. dollar denominated securities designed for use
in the U.S. securities markets, which represent and may be converted into the
underlying foreign security. EDRs are typically issued in bearer form and are
designed for use in the European securities markets. No more than 5% of the
fund's assets will be invested in unsponsored ADRs or EDRs. Issuers of the stock
of such unsponsored ADRs and EDRs are not obligated to disclose material
information in the United States and, therefore, there may not be a correlation
between such information and the market value of such ADRs.
INVESTMENT COMPANY SHARES. The fund also may purchase shares of investment
companies or trusts which invest principally in securities in which the fund is
authorized to invest. The purchase of the stock of these investment companies
(called country funds) currently is the only mechanism through which the fund
may invest in securities of companies in certain countries (India, Taiwan,
Brazil, Chile, Argentina and Korea, as of the date of this Prospectus) and the
only means, in some cases, by which the fund may invest in securities of South
Korean and Argentina companies, other than through the purchase of South Korean
convertible securities or through the purchase of securities with the prior
approval of the Ministry of Finance. The return on the fund's investments in
investment companies will be reduced by the operating expenses, including
investment advisory and administrative fees, of such companies. The fund's
investment in an investment company may require the payment of a premium above
the net asset value of the investment company's shares, and the market price of
the investment company thereafter may decline without any change in the value of
the investment company's assets. The fund, however, will not invest in any
investment company or trust unless it is believed that the potential benefits of
such investment are sufficient to warrant the payment of any such premium. Under
the Investment Company Act of 1940 (1940 Act), the fund may not invest more than
10% of its assets in investment companies or more than 5% of its total assets in
the securities of any one investment company, nor may it own more than 3% of the
outstanding voting securities of any such company. (See Investment
restrictions.) To the extent the fund invests in securities in bearer form it
may be more difficult to recover securities in the event such securities are
lost or stolen.
If the fund invests in an entity which is classified as a Passive Foreign
Investment Co. (PFIC) for U.S. tax purposes, the application of certain
technical tax provisions applying to such companies could result in the
imposition of federal income tax with respect to such investments at the fund
level which could not be eliminated by distributions to shareholders. The U.S.
Treasury is currently considering various solutions to this problem and, in any
event, it is not anticipated that any taxes on the fund with respect to
investments in PFIC's would be significant.
IF-2
<PAGE>
TYPE OF FOREIGN DEBT SECURITIES IN WHICH THE FUND MAY INVEST. As discussed in
the Prospectus, the fund may invest up to 35% of its total assets in non-U.S.
debt securities and non-U.S. money-market instruments, without equity features.
These investments may include bonds denominated in any currency, issued by
foreign governments (including their agencies and instrumentalities); and debt
instruments denominated in any currency, issued by private and public entities
(including multinational lending institutions and supranational institutions)
which have been determined by the fund's investment advisor or sub-advisor to be
of comparable credit quality to securities rated in the three highest categories
by Moody's Investors Service, Inc. or Standard & Poor's Corp.
PRIVATE PLACEMENTS. The fund may invest up to 10% of its total assets in
securities which are subject to restriction on resale because they have not been
registered under the Securities Act of 1933, or which are otherwise not readily
marketable. These securities are generally referred to as private placements or
restricted securities. Limitations on the resale of such securities may have an
adverse effect on their marketability, and may prevent the fund from disposing
of them promptly at reasonable prices. The fund may have to bear the expense of
registering such securities for resale and risk the substantive delays in
effecting such registration. However, as described in the Prospectus, the fund
may avail itself of recently adopted regulatory changes to the Securities Act of
1933 (Rule 144A) which permits the fund to purchase securities which have been
privately placed and resell such securities to certain qualified institutional
buyers without restriction. Since it is not possible to predict with assurance
exactly how this market for restricted securities sold and offered under Rule
144A will develop, the Board of Directors will carefully monitor the fund's
investments in these securities, focusing on such factors, among others, as
valuation, liquidity and availability of information.
Securities of foreign issuers often have not been registered in the United
States. Accordingly, if the fund wishes to sell unregistered foreign securities
in the United States, it will avail itself of Rule 144A.
CONVERTIBLE SECURITIES. The fund may invest in fixed-income securities which are
convertible into common stock. Convertible securities rank senior to common
stocks in a corporation's capital structure and, therefore, entail less risk
than the corporation's common stock. The value of a convertible security is a
function of its investment value (its value as if it did not have a conversion
privilege), and its conversion value (the security's worth if it were to be
exchanged for the underlying security, at market value, pursuant to its
conversion privilege).
To the extent that a convertible security's investment value is greater than its
conversion value, its price will be primarily a reflection of such investment
value and its price will be likely to increase when interest rates fall and
decrease when interest rates rise, as with a fixed-income security (the credit
standing of the issuer and other factors may also have an effect on the
convertible security's value). If the conversion value exceeds the investment
value, the price of the convertible security will rise above its investment
value and, in addition, will sell at some premium over its conversion value.
(This premium represents the price investors are willing to pay for the
privilege of purchasing a fixed-income security with a possibility of capital
appreciation due to the conversion privilege.) At such times the price of the
convertible security will tend to fluctuate directly with the price of the
underlying equity security. Convertible securities may be purchased by the fund
at varying price levels above their investment values and/or their conversion
values in keeping with the fund's objectives.
FOREIGN CURRENCY TRANSACTIONS. When the fund agrees to purchase or sell a
security in a foreign market it will generally be obligated to pay or be
entitled to receive, a specified amount of foreign currency. The fund's
custodian will conduct its foreign currency exchange transactions either on a
spot basis (i.e., cash) at the spot rate prevailing in the foreign currency
exchange market, or through entering into forward foreign currency contracts
(forward contracts) to purchase or sell foreign currencies. The fund may enter
into forward contracts in order to lock in the U.S. dollar amount it must pay or
expects to receive for a security it has agreed to buy or sell. A forward
contract involves an obligation to purchase or sell a specific currency at a
future date, which may be any fixed number of days from the date of the contract
agreed upon by the parties, at a price set at the time of the contract. These
contracts are traded in the interbank market conducted directly between currency
traders (usually large, commercial banks) and their customers. Such forward
contracts will only be entered into with United States banks and their foreign
branches. A forward contract generally has no deposit requirement, and no
commissions are charged at any stage for trades.
When management of the fund believes that the currency of a particular foreign
country may suffer an increase against the U.S. dollar from the time
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the fund agrees to purchase a security until it is required to make payment, or
a decline against the U.S. dollar from the time the fund agrees to sell a
security until the buyer is required to make payment, the fund may enter into a
forward contract to buy or sell, for a fixed amount of dollars, the amount of
foreign currency approximating the amount of foreign currency the fund will be
required to pay or expects to receive. The fund's custodian bank will place
cash, U.S. Government securities, debt securities or equity securities in a
separate account of the fund in an amount equal to the value of the fund's total
assets committed to the consummation of any such contract in such account and if
the value of the securities placed in the separate account declines, additional
cash or securities will be placed in the account on a daily basis so that the
value of the account will equal the amount of the fund's commitments with
respect to such contracts. If, rather than cash, portfolio securities are used
to secure such a forward contract, at the maturity of the forward contract for
delivery by the fund of a foreign currency, the fund may either sell the
portfolio security and make delivery of the foreign currency, or it may retain
the security and terminate its contractual obligation to deliver the foreign
currency by purchasing an offsetting contract with the same currency trader
obligating it to purchase, on the same maturity date, the same amount of foreign
currency.
The fund's use of forward contracts will not eliminate fluctuations in the
underlying prices of the securities which the fund owns or intends to purchase
or sell. They simply establish a rate of exchange for a future point in time.
Additionally, while this technique tends to minimize the risk of loss due to a
decline in the value of the hedged currency, their use tends to limit any
potential gain which might result from the increase in value of such currency.
In addition such transactions involve costs and may result in losses.
Although the fund values its assets daily in terms of U.S. dollars, it does not
intend to convert its holdings of foreign currencies into U.S. dollars on a
daily basis. Indeed it may hold a number of foreign currencies on a regular
basis. It will, however, convert some foreign currency to U.S. dollars from time
to time, and vice versa. For example, in the event of a purchase the fund may
convert U.S. dollars or other currencies to the currency of the country in which
the securities are issued. In the event of a sale, the fund may hold the
proceeds in the currency of the country in which the security was issued, or
convert it to U.S. dollars, or to currencies of other countries. Investors
should take note of the costs of currency conversion. Although foreign exchange
dealers do not charge a fee for conversion, they do realize a profit based on
the spread between the prices at which they are buying and selling various
currencies. Thus, a dealer may offer to sell a foreign currency to the fund at
one rate, while offering a lesser rate of exchange should the fund desire to
resell that currency to the dealer.
Under Internal Revenue Code Section 988, special rules are provided for certain
transactions in a foreign currency other than the taxpayer's functional currency
(i.e., unless certain special rules apply, currencies other than the U.S.
dollar). In general, foreign currency gains or losses from forward contracts,
from futures contracts that are not regulated futures contracts, and from
unlisted options will be treated as ordinary income or loss under Code Section
988. Also, certain foreign exchange gains or losses derived with respect to
foreign fixed-income securities are also subject to Section 988 treatment. In
general, therefore, Code Section 988 gains or losses will increase or decrease
the amount of the fund's investment company taxable income available to be
distributed to shareholders as ordinary income, rather than increasing or
decreasing the amount of the fund's net capital gain. Additionally, if Code
Section 988 losses exceed other investment company taxable income during a
taxable year, the fund would not be able to make any ordinary dividend
distributions.
LENDING OF SECURITIES. Consistent with applicable regulatory requirements and
procedures adopted by the Board of Directors, the fund may lend its portfolio
securities to brokers, dealers and other financial institutions, in order to
realize additional income. Such loans must be callable at any time by the fund
(subject to notice provisions described below), and be at all times secured by
cash or cash equivalents, which are maintained in a segregated account pursuant
to applicable regulations and that are equal to at least 102% of the market
value, determined daily, of the loaned securities. The advantage of such loans
is that the fund continues to receive the income on the loaned securities while
at the same time earning interest on the cash amounts deposited as collateral,
which will be invested in short-term obligations.
A loan may be terminated by the borrower on one business day's notice, or by the
fund on four business days' notice. If the borrower fails to deliver the loaned
securities within four days after receipt of notice, the fund could use the
collateral to replace the securities while holding the borrower liable for
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any excess of replacement cost over collateral. As with any extensions of
credit, there are risks of delay in recovery and in some cases, even loss of
rights in the collateral should the borrower of the securities fail financially.
However, these loans of portfolio securities will only be made to firms deemed
by the fund's management to be creditworthy and when the income which can be
earned from such loans justifies the attendant risks. Upon termination of the
loan, the borrower is required to return the securities to the fund. Any gain or
loss in the market price during the loan period would inure to the fund. The
fund will pay reasonable finder's, administrative and custodial fees in
connection with a loan of its securities. The creditworthiness of firms to which
the fund lends its portfolio securities will be monitored on an ongoing basis by
the Board of Directors. The fund will not loan its portfolio securities to the
advisor, the sub-advisor, or any affiliate thereof.
Although voting or consent rights which accompany loaned securities pass to the
borrower, the fund will follow the policy of calling the loaned securities, to
be delivered within one day after notice, to permit the exercise of such rights
by the fund if the matters involved would have a material effect on the fund's
investment in such loaned securities. The fund will not lend portfolio
securities with a value in excess of 25% of its total assets at the time of the
loan.
REPURCHASE AGREEMENTS. When cash may be available for only a few days, it may be
invested by the fund in repurchase agreements in an amount up to 5% of its total
assets (taken at current value), until such time as it may otherwise be invested
or used for payments of obligations of the fund. These agreements, which may be
viewed as a type of secured lending by the fund, typically involve the
acquisition by the fund of government securities or other securities from a
selling financial institution such as a bank, savings and loan association or
broker-dealer. The agreement provides that the fund will sell back to the
institution, and that the institution will repurchase, the underlying security
(collateral) at a specified price and at a fixed time in the future, usually not
more than seven days from the date of purchase. The fund will accrue interest
from the institution until the time when the repurchase is to occur. Although
such date is deemed by the fund to be the maturity date of a repurchase
agreement, the maturities of securities subject to repurchase agreements are not
subject to any limits and may exceed one year.
While repurchase agreements involve certain risks not associated with direct
investments in debt securities, the fund follows procedures designed to minimize
such risks. These procedures include effecting repurchase transactions only with
large, well capitalized and well established financial institutions under
guidelines established and monitored by the Directors of the fund. In addition,
the collateral will be maintained in a segregated account and will be marked-to-
market daily to determine that the full value of the collateral, as specified in
the agreement, does not decrease below 102% of the purchase price plus accrued
interest. If such decrease occurs, additional collateral will be requested and,
when received, added to maintain full collateralization. In the event of a
default or bankruptcy by a selling financial institution, the fund will seek to
liquidate such collateral. However, the exercise of the fund's right to
liquidate such collateral could involve certain costs or delays and, to the
extent that proceeds from any sale upon a default of the obligation to
repurchase were less than the repurchase price, the fund could suffer a loss. It
is the current policy of the fund not to invest in repurchase agreements that do
not mature within seven days if any such investment, together with any other
illiquid assets held by the fund, amount to more than 10% of its total assets.
WHEN-ISSUED AND DELAYED DELIVERY SECURITIES AND FORWARD COMMITMENTS. From time
to time, in the ordinary course of business, the fund may purchase securities on
a when-issued or delayed delivery basis and may purchase or sell securities on a
forward commitment basis. When such transactions are negotiated, the price is
fixed at the time of the commitment, but delivery and payment can take place a
month or more after the date of the commitment. The securities so purchased are
subject to market fluctuation and no interest accrues to the purchaser during
this period. While the fund will only purchase securities on a when-issued,
delayed delivery or forward commitment basis with the intention of acquiring the
securities, the fund may sell the securities before the settlement date, if it
is deemed advisable. At the time the fund makes the commitment to purchase
securities on a when-issued or delayed delivery basis, the fund will record the
transaction and thereafter reflect the value, each day, of such security in
determining the net asset value of the fund. At the time of delivery of the
securities, the value may be more or less than the purchase price. The fund will
also establish a segregated account with the fund's custodian bank in which it
will continuously maintain cash or U.S.
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Government securities or other high grade debt portfolio securities equal in
value to commitments for such when-issued or delayed delivery securities;
subject to this requirement, the fund may purchase securities on such basis
without limit. An increase in the percentage of the fund's assets committed to
the purchase of securities on a when-issued or delayed delivery basis may
increase the volatility of the fund's net asset value. The fund's management and
the Directors do not believe that the fund's net asset value or income will be
adversely affected by its purchases of securities on such basis.
ADDITIONAL INFORMATION ABOUT FORWARD COMMITMENTS. The fund may make contracts to
purchase securities for a fixed price at a future date beyond customary
settlement time (forward commitments) if the fund holds, and maintains until the
settlement date in a segregated account, cash or high-grade debt obligations in
an amount sufficient to meet the purchase price, or if the fund enters into
offsetting contracts for the forward sale of other securities it owns. Forward
commitments may be considered securities in themselves, and involve a risk of
loss if the value of the security to be purchased declines before the settlement
date, which risk is in addition to the risk of decline in value of the fund's
other assets. Where such purchases are made through dealers, the fund relies on
the dealer to consummate the sale. The dealer's failure to do so may result in
the loss to the fund of an advantageous our yield or price. Although the fund
will generally enter into forward commitments with the intention of acquiring
the securities for its portfolio, the fund may dispose of a commitment before
settlement if the advisor deems it appropriate to do so. The fund may realize
short-term profits or losses upon the sale of forward commitments.
RISK FACTORS AND SPECIAL CONSIDERATIONS
FOREIGN SECURITIES. The fund is authorized to invest in Eastern European
countries; however, it does not presently intend to invest more than 5% of its
assets in those securities. Investments in Eastern Europe are speculative and
involve a high degree of risk of loss. The emergence of Eastern European capital
markets is in part a function of the demise of the Soviet Union. Should a
repressive central government re-emerge in the region, there is no assurance
that the Eastern European markets would continue to constitute a viable
investment opportunity for the fund, and there may be a high degree of risk of
expropriation without compensation.
The governments of a number of Eastern European countries previously
expropriated large quantities of private property, and the claims of many
property owners against those governments were never finally settled. Since the
Communist Party was responsible for such expropriation, if it should re-surface
there is no assurance that expropriation would not occur again. If it were to
reoccur, the fund could lose all or a substantial portion of its investments in
those countries.
Further, no accounting standards comparable to U.S. models exist in Eastern
European countries. Finally, even though certain Eastern European currencies
may be convertible into United States dollars and other hard currencies, the
conversion rates may be artificial when compared to actual market values, and
this may have an adverse impact on the fund.
The governments of certain Eastern European countries may require that a
governmental or quasi-governmental authority act as custodian of the fund's
assets invested in such countries. These authorities may not be qualified to act
as foreign custodians under the 1940 Act and as a result, the fund would not be
able to invest in the countries in the absence of exemptive relief from the
Securities and Exchange Commission (SEC). In addition, the risk of loss through
government confiscation may be increased in such countries.
RISKS OF DEBT SECURITIES. The fund may invest up to 5% of its assets in bonds
rated below Baa by Moody's Investor Service Inc. (Moody's) or BBB by Standard &
Poor's Corp. Securities rated less than Baa by Moody's or BBB by Standard and
Poor's Corp. are classified as non-investment grade securities (high yield
bonds, commonly known as Junk bonds) and are considered speculative by those
rating agencies. It is the fund's policy not to rely exclusively on ratings
issued by credit rating agencies but to supplement those ratings with advisor's
and/or the sub-advisor's own independent and ongoing review of credit quality.
These bonds may be issued as a consequence of corporate restructurings, such as
leveraged buyouts, mergers, acquisitions, debt recapitalizations, or similar
events or by smaller or highly leveraged companies. Since the market for high
yield bonds is relatively new, many of the outstanding bonds have not endured a
major economic downturn, and a long-term track record on defaults does not exist
for this market. When economic conditions appear to be deteriorating, these
bonds may decline in market value regardless of prevailing interest rates, due
to heightened investor concerns over credit quality. In those periods the
ability of highly leveraged issuers to
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service principal and interest payments, to meet their business goals, or obtain
additional financing could be adversely affected. Therefore, the market for
these bonds may be less liquid than for investment grade bonds, and their prices
more volatile. In addition, there may at times be significant disparities in the
prices quoted for these bonds by various dealers, making it difficult for the
fund to rely on those quotes. Prices for high yield bonds may also be affected
by legislative and regulatory developments. For example, new federal rules
require that savings and loans gradually reduce their holding of high yield
securities. Also, from time to time Congress has considered legislation to
restrict or eliminate the corporate tax deduction for interest payments or to
regulate corporate restructurings such as takeovers, mergers or leveraged
buyouts. Such legislation, if enacted, may depress the prices of outstanding
high yield bonds.
Debt securities rated in the lowest categories by Moody's are of poor standing
and there may be present elements of danger with respect to principal or
interest. Debt securities rated in the lowest category by Standard and Poor's
Corp. have a currently identifiable vulnerability to default and are dependent
upon favorable business, financial and economic conditions to meet timely
payment of interest and repayment of principal. In the event of adverse business
conditions they are not likely to have the capacity to pay interest and repay
principal.
RIGHTS AND WARRANTS. As mentioned in the Prospectus, the fund may invest in
rights and warrants which entitle the holder to buy equity securities at a
specified price for a specific period of time. Rights and warrants do not
entitle a holder to dividends or voting rights with respect to the securities
which may be purchased, nor do they represent any rights to the assets of the
issuing company. The value of a right or warrant may be more volatile than the
value of the underlying securities. Also, their value does not necessarily
change with the value of the underlying securities and a right or warrant ceases
to have value if it is not exercised before the expiration date. Rights and
warrants purchased by the fund which expire without being exercised will result
in a loss to the fund.
FOREIGN CUSTODY. Rules adopted under the 1940 Act permit the fund to maintain
its securities and cash in the custody of certain eligible banks and securities
depositories. The fund's portfolio of securities of issuers located outside the
United States will be held by its sub-custodians who will be approved by the
directors in accordance with those Rules. Approval under the Rules will be given
following a consideration of a number of factors, including, but not limited to,
the reliability and financial stability of the institution; the ability of the
institution to perform custodial services for the fund; the reputation of the
institution in its national market; the political and economic stability of the
country in which the institution is located; and the risks of potential
nationalization or expropriation of the fund's assets. However, no assurances
can be given that the directors' appraisal of the risks in connection with
foreign custodial arrangements will always be correct or that expropriation,
nationalization, freezes (including currency blockage), or confiscations of
assets that would affect assets of the fund will not occur, and shareholders
bear the risk of losses arising from those or other similar events.
ADDITIONAL RISKS. Securities in which the fund may invest, whether in the United
States or in another country, are subject to the provisions of bankruptcy,
insolvency or other laws affecting the rights and remedies of creditors in the
country where issued, including the laws, if any, which may be enacted extending
the time for payment of principal or interest, or both, or imposing other
constraints upon enforcement of such obligations.
DETERMINATION OF NET ASSET VALUE
As explained in the Prospectus, the fund's net asset value per share will be
determined on those days on which the New York Stock Exchange (NYSE) is open for
trading. In addition to being closed on weekends, the NYSE, through its most
current announcement--which is subject to change--states that in 1996 it will be
closed on the following U.S. holidays: New Year's Day, January 1; Presidents'
Day, February 19; Good Friday, April 5; Memorial Day, May 27; Independence Day,
July 4; Labor Day, September 2; Thanksgiving Day, November 28; and Christmas
Day, December 25. It may also be closed on other days.
Since the fund intends to invest virtually exclusively in securities issued
outside the United States, investors should be aware that trading in securities
on exchanges and over-the-counter markets in Europe, the Far East and elsewhere
is normally completed at various times other than the current closing time of
the NYSE. Furthermore, trading on foreign exchanges may take place on days on
which the NYSE is closed; and, conversely, there may be no trading in some
markets on days when the NYSE is open. Consequently, the calculation of
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the fund's net asset value per share may not always occur contemporaneously with
the determination of the most current market prices of the individual portfolio
securities included in that calculation. In addition, the value of the net
assets held by the fund may be significantly affected on days when the investor
has no access to the Fund for purposes of purchase or redemption.
INVESTMENT RESTRICTIONS
The following investment restrictions (which include those listed in the
Prospectus) have been adopted by the fund as fundamental policies. Under the
1940 Act, a fundamental policy may not be changed without the affirmative vote
of a majority of the outstanding voting securities of the fund, as defined in
the 1940 Act. See General information in the Prospectus. For purposes of the
following restrictions: (1) all percentage limitations apply immediately after
the making of an investment; and (2) any subsequent change in any applicable
percentage resulting from market fluctuations does not require elimination of
any security from the portfolio.
The fund may not:
1. Invest more than 25% of its total assets in the securities of issuers in any
one industry. For purposes of this restriction, gas, electric, water and
telephone utilities are treated as separate industries.
2. Invest in the securities of a single issuer, unless the following conditions
are met: At least 75% of the value of the fund's total assets must be
represented by: (a) U.S. Government obligations, cash and cash items, (b)
securities of other investment companies, and (c) securities of issuers as
to each of which, at the time the investment was made, the fund's investment
in the issuer did not exceed 5% of the fund's total assets. The fund does
not anticipate that any more than 15% of the fund's total assets would be
invested in the securities of a single issuer at any time, other than those
of the U.S. Government, its agencies and instrumentalities.
3. Purchase or sell real estate or interests therein (including real estate
limited partnership programs), although it may purchase securities of
issuers which engage in real estate operations or securities which are
secured by interests in real estate.
4. Make loans except that it may lend its portfolio securities if such loans
are fully collateralized and such loans of securities do not exceed 25% of
its total assets at any one time. See Investment policies and techniques in
the Prospectus. The purchase of debt securities and the entry into
repurchase agreements are not considered the making of loans.
5. Purchase puts, calls or combinations thereof.
6. Underwrite the securities of other issuers, except insofar as the fund may
be deemed an underwriter under the Securities Act of 1933 in disposing of
portfolio securities.
7. Invest more than 10% of its total assets in securities (including repurchase
agreements maturing in more than seven days) which are subject to legal or
contractual restrictions upon resale, are not listed on a securities
exchange, or are otherwise not readily marketable.
8. Purchase securities on margin, except for such short-term loans as are
necessary for the clearance of purchases of portfolio securities.
9. Make short sales of securities.
10. Purchase or sell commodities or commodity futures contracts.
11. Purchase securities of other investment companies, except to the limited
extent described under Investment objective and strategic policy, and in
connection with an acquisition, merger, consolidation or reorganization.
12. Invest in companies for the purpose of, or with the effect of, acquiring
control.
13. Invest in interests in oil, gas and other mineral exploration or development
programs, except that the fund may invest in the securities of companies
which invest in or sponsor such programs.
14. Invest in securities of any issuer if, to the knowledge of the fund,
officers or directors of the fund or its advisor, who individually own
beneficially 0.5% or more of the securities of such issuer, collectively own
beneficially more than 5% of the securities of such issuer.
15. Pledge its assets or assign or otherwise encumber them except to secure
borrowings effected within the limitations set forth in Restriction 20 in
the Prospectus.
16. Issue senior securities as defined in the 1940 Act except insofar as the
fund may be deemed to have issued a senior security by borrowing money in
accordance with restriction 20. (For purposes of this restriction,
collateral arrangements for entering into repurchase agreements and lending
portfolio securities are not deemed to be the issuance of a senior
security.)
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17. Hold more than 10% of the outstanding voting securities of any one issuer.
18. Invest more than 10% of its total assets in investment companies or more
than 5% of its total assets in the securities of any one investment company,
nor may it own more than 3% of the outstanding voting securities of any such
company.
19. Invest more than 10% of its total assets in issues of companies which have
been in operation for less than three years.
20. Borrow money, except for temporary or emergency purposes and not exceeding
5% (taken at the lower of cost or current value) of its total assets (not
including the amounts borrowed).
PORTFOLIO TRANSACTIONS AND BROKERAGE
The advisor (including, for purposes of this section, the sub-advisor) is
responsible for decisions to buy and sell securities for the fund, the selection
of brokers and dealers to effect the transactions, and the negotiation of
brokerage commissions, if any. Purchases and sales of securities on a stock
exchange are effected through brokers who charge a commission for their
services. In the over-the-counter market, securities are generally traded on a
net basis with dealers acting as principal for their own accounts without a
stated commission, although the price of the security usually includes a profit
to the dealer. In underwritten offerings, securities are purchased at a fixed
price which includes an amount of compensation to the underwriter, generally
referred to as the underwriter's concession or discount. On occasion, certain
money market instruments may be purchased directly from an issuer, in which case
no commissions or discounts are paid.
The advisor currently provides investment advice to a number of other clients.
See Investment advisor and sub-advisor in the Appendix. It will be the practice
of the advisor to allocate purchase and sale transactions among the fund and
others whose assets it manages in such manner as it deems equitable. In making
such allocations, major factors to be considered are investment objectives, the
relative size of portfolio holdings of the same or comparable securities, the
availability of cash for investment, the size of investment commitments
generally held and the opinions of the persons responsible for managing the
portfolios of the fund and other client accounts. Portfolio securities are not
purchased from or sold to the advisor or any affiliated person (as defined in
the 1940 Act) of the advisor.
In connection with effecting portfolio transactions, primary consideration will
be given to securing most favorable price and efficient execution. Within the
framework of this policy, the reasonableness of commission or other transaction
costs is a major factor in the selection of brokers and is considered together
with other relevant factors, including financial responsibility, research and
investment information and other services provided by such brokers. It is
expected that, as a result of such factors, transaction costs charged by some
brokers may be greater than the amounts other brokers might charge. The advisor
may determine in good faith that the amount of such higher transaction costs is
reasonable in relation to the value of the brokerage and research services
provided. The Board of Directors of the fund will review regularly the
reasonableness of commission and other transaction costs incurred by the fund in
the light of facts and circumstances deemed relevant from time to time, and, in
that connection, will receive reports from the advisor and published data
concerning transaction costs incurred by institutional investors generally. The
nature of the research services provided to the advisor by brokerage firms
varies from time to time but generally includes current and historical financial
data concerning particular companies and their securities; information and
analysis concerning securities markets and economic and industry matters; and
technical and statistical studies and data dealing with various investment
opportunities, risks and trends, all of which the advisor regards as a useful
supplement to its own internal research capabilities. The advisor may from time
to time direct trades to brokers which have provided specific brokerage or
research services for the benefit of the advisor's clients; in addition the
advisor may allocate trades among brokers that generally provide superior
brokerage and research services. Research services furnished by brokers are used
for the benefit of all of the advisor's clients and not solely or necessarily
for the benefit of the fund. The advisor believes that the value of research
services received is not determinable and does not significantly reduce its
expenses. The fund does not reduce its fee to the advisor by any amount that
might be attributable to the value of such services.
The aggregate amount of brokerage commissions paid by the fund in 1993, 1994 and
1995 was $478,991, $995,231 and $975,265, respectively.
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GENERAL INFORMATION AND HISTORY
The fund was originally incorporated in Maryland in January, 1986, under the
name of Lincoln National Real Estate Fund, Inc. It remained dormant under that
name until May, 1990, when the name was changed to Lincoln National
International Fund, Inc., in order to provide an investment vehicle for
contractowners of the variable account who desire to take advantage of
investment opportunities outside the United States.
THE EAFE(SM) AND OTHER UNMANAGED INDICES
The fund may from to time compare its investment results to various unmanaged
indices for equity securities issued both inside and outside the United States.
For example, the fund may refer to the S&P 500, described in the SAI for the
variable account at the front of this booklet.
In addition, the fund may compare its results to various unmanaged indices of
foreign equity securities, including, but not by way of limitation, that family
of indices maintained by Morgan Stanley & Co. Incorporated, New York, New York,
under the name Morgan Stanley Capital International (MSCI).
In particular, the fund may compare its results, as appropriate, with one or
more of the 20 MSCI National Indices, and with its EAFE(sm) Index. EAFE(sm) is
an aggregate index produced from the results of those National Indices from
Europe, Australia and the Far East. It excludes the MSCI indices for the United
States and Canada.
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APPENDIX
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STATEMENT OF ADDITIONAL INFORMATION TABLE OFCONTENTS-11 UNDERLYING FUNDS*
Item
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General Information and History
Investment objective
Investment policies and techniques
Investment restrictions
Portfolio transactions and brokerage
Determination of net asset value
Item
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Appendix
Investment advisor and sub-advisor
Directors and officers
Investment policies and techniques (continued): options, futures, securities
lending, repurchase and reverse repurchase agreements
Custodian
Independent auditors
Financial statements
Bond ratings
Commercial paper ratings
U.S. Government obligations
Taxes
State requirements
Derivative transactions - definitions
*Note: This is a generic table. There are variations in the contents of the SAI
from fund to fund.
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Please send me a free copy of the current Statement of Additional Information
for Lincoln National Life Insurance Co. Variable Annuity Account C:
(Please Print)
Name:___________________________________________________________________________
Address:________________________________________________________________________
City ___________________________________State ____________________Zip __________
Mail to Kim Oakman, Lincoln National Life Insurance Co., P.O. Box 2340, Fort
Wayne, Indiana 46801
73
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APPENDIX
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APPENDIX
(Note: This is uniform information for the 11 Funds. See each Fund's SAI for
information specific to that Fund.)
THIS APPENDIX CONSTITUTES PART OF THE SAIS OF LINCOLN NATIONAL AGGRESSIVE GROWTH
FUND, INC. (AGGRESSIVE GROWTH FUND), LINCOLN NATIONAL BOND FUND, INC. (BOND
FUND), LINCOLN NATIONAL CAPITAL APPRECIATION FUND, INC. (CAPITAL APPRECIATION
FUND), LINCOLN NATIONAL EQUITY-INCOME FUND, INC. (EQUITY-INCOME FUND), LINCOLN
NATIONAL GLOBAL ASSET ALLOCATION FUND, INC. (GLOBAL ASSET ALLOCATION FUND),
LINCOLN NATIONAL GROWTH AND INCOME FUND, INC. (GROWTH AND INCOME FUND), LINCOLN
NATIONAL INTERNATIONAL FUND, INC. (INTERNATIONAL FUND), LINCOLN NATIONAL MANAGED
FUND, INC. (MANAGED FUND), LINCOLN NATIONAL MONEY MARKET FUND, INC. (MONEY
MARKET FUND), LINCOLN NATIONAL SOCIAL AWARENESS FUND, INC. (SOCIAL AWARENESS
FUND), AND LINCOLN NATIONAL SPECIAL OPPORTUNITIES FUND, INC. (SPECIAL
OPPORTUNITIES FUND). UNLESS OTHERWISE INDICATED, THE FOLLOWING INFORMATION
APPLIES TO EACH FUND.
INVESTMENT ADVISOR AND SUB-ADVISOR
Lincoln Investment Management, Inc. (Lincoln Investment) is the investment
advisor to the funds and is headquartered at 200 E. Berry Street, Fort Wayne,
Indiana 46802. Lincoln Investment (the advisor) is a subsidiary of Lincoln
National Corp. (LNC), a publicly-held insurance holding company organized under
Indiana law. Through its subsidiaries, LNC provides, on a national basis,
insurance and financial services. Lincoln Investment is registered with the
Securities and Exchange Commission (SEC) as an investment advisor and has acted
as an investment advisor to mutual funds for over 40 years. The advisor also
acts as investment advisor to Lincoln National Income Fund, Inc. (a closed-end
investment company whose investment objective is to provide a high level of
current income from interest on fixed-income securities) and Lincoln National
Convertible Securities Fund, Inc. (a closed-end investment company whose
investment objective is a high level of total return on its assets through a
combination of capital appreciation and current income), Lincoln Advisor Funds,
Inc. (a retail mutual fund complex) and to other clients.
Under Advisory Agreements with the funds, the advisor provides portfolio
management and investment advice to the funds and administers its other affairs,
subject to the supervision of the funds' Board of Directors. The advisor, at its
expense, will provide office space to the funds and all necessary office
facilities, equipment and personnel and will make its officers and employees
available to the funds as appropriate. In addition, the advisor will pay all
expenses incurred by it or by the funds in connection with the management of
each fund's assets or the administration of its affairs, other than those
assumed by the funds, as described later. Lincoln Life has paid the
organizational expenses of all the funds. The rates of compensation to the
advisor and the sub-advisor are set forth in the Appendix to the Prospectus.
During the last three years, the advisor received the following amounts for
investment advisory services:
<TABLE>
<CAPTION>
1995 1994 1993
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<S> <C> <C> <C>
Aggressive Growth Fund $ 725,544 $ 232,000 N/A
Bond Fund 1,061,701 999,397 $ 978,266
Capital Appreciation Fund 726,011 211,773 N/A
Equity-Income Fund 1,457,623 348,255 N/A
Global Asset Allocation Fund 1,570,876 1,381,059 901,004
Growth and Income Fund 5,077,981 3,896,902 3,293,315
International Fund 2,770,197 2,262,664 759,801
Managed Fund 2,120,656 1,919,150 1,756,544
Money Market Fund 385,019 404,441 449,374
Social Awareness Fund 1,048,366 736,602 542,142
Special Opportunities Fund 1,809,514 1,351,374 1,052,967
</TABLE>
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APPENDIX
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Expenses specifically assumed by the funds include: compensation and expenses of
directors of the funds who are not interested persons of the funds as defined in
the Investment Company Act of 1940 (1940 Act); registration, filing and other
fees in connection with filings with regulatory authorities, including the costs
of printing and mailing registration statements and updated prospectuses
provided to current shareholders; fees and expenses of independent auditors; the
expenses of printing and mailing proxy statement and shareholder reports;
custodian charges; brokerage commissions and securities transaction costs
incurred by the funds; taxes and corporate fees; legal fees incurred in
connection with the affairs of the funds (other than legal services provided by
personnel of the advisor or its affiliated companies); the fees of any trade
association of which the funds are members; and expenses of shareholder and
director meetings.
If total expenses of the funds (excluding taxes, interest, portfolio brokerage
commissions and fees, and expenses of an extraordinary and non-recurring nature,
but including the investment advisory fee) exceed 1 1/2% per annum of the
average daily net assets of each fund (2% for the International Fund), the
advisor will pay such excess by offsetting it against the advisory fee. If such
offset is insufficient to cover the excess, any balance remaining will be paid
directly by the advisor to each fund.
The current advisory agreements between the advisor and the funds will remain in
effect from year to year if approved annually by: (1) the Board of Directors of
each fund or by the vote of a majority of the outstanding voting securities of
each fund, and (2) a vote of a majority of the directors who are not interested
persons of the funds or the advisor, cast in person at a meeting called for the
purpose of voting on such approval. The advisory agreement may be terminated
without penalty at any time, on 60 days' written notice by: (1) the Board of
Directors of each fund, (2) vote of a majority of the outstanding voting
securities of each fund or (3) the advisor. The advisory agreement terminates
automatically in the event of assignment.
In like manner, the current sub-advisory agreement will remain in effect from
year to year if approved annually by the Board of Directors of the applicable
funds or by the vote of a majority of the outstanding voting securities of those
funds. The sub-advisory agreements may be terminated without penalty at any
time, on 60 days' written notice, by: (1) the Board of Directors of the
applicable fund, (2) vote of the majority of the outstanding voting securities
of the applicable fund, (3) the sub-advisor, or (4) the advisor. The sub-
advisory agreements terminate automatically in the event of assignment.
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APPENDIX
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DIRECTORS AND OFFICERS
The directors and executive officers of each fund, their business
addresses, positions with fund and their principal occupations during the past
five years areas follows:
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* KELLY D. CLEVENGER Vice President, Lincoln National Life Insurance Co.
Chairman of the Board,
President and Director
1300 S. Clinton Street
Fort Wayne, IN 46802
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JOHN B. BORSCH, JR. Retired, formerly Associate Vice President-
Director Investments,Northwestern University
1776 Sherwood Road Northwestern University
Des Planes, IL 60016
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NANCY L. FRISBY, CPA Regional Vice President/Chief Financial Officer
Director (formerly Vice President -- Finance; Regional
700 Broadway Controller of Finance), St. Joseph Medical Center,
Fort Wayne, IN 46802 Fort Wayne, Indiana
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* BARBARA S. KOWALCZYK Executive Vice President, Lincoln Investment
Director Management, Inc. (formerly Senior Vice President);
1300 S. Clinton St. Vice President, Lincoln National Life Insurance Co.
Fort Wayne, IN 46802
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STANLEY R. NELSON Executive in Residence Program in Health Services
Director Administration, University of Minnesota,
420 Delaware St., S.E. Minneapolis, Minnesota, (formerly President, Henry
Minneapolis, MN 55455 Ford Health Care Corp., Detroit, Michigan)
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* JANET C. WHITNEY Vice President and Treasurer, Lincoln National
200 East Berry Street Corp. (formerly Vice President and General Auditor)
Fort Wayne, IN 46802
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* CYNTHIA A. ROSE Assistant Secretary, Lincoln National Life
200 East Berry Street Insurance Co.
Fort Wayne, IN 46802
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* Interested persons of the funds, as defined in the 1940 Act. Directors' fees
of $250 per meeting are paid by each fund to each director who is not an
interested person of the fund.
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APPENDIX
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INVESTMENT POLICIES AND TECHNIQUES (CONTINUED) OPTIONS AND FINANCIAL FUTURES
TRADING
This discussion relates to the Bond, Growth and Income, Managed, Social
Awareness and Special Opportunities Funds. Neither the International Fund nor
the Money Market Fund has sought the authority to engage either in options or in
futures trading. (NOTE: The Aggressive Growth, Capital Appreciation, Equity-
Income and Global Asset Allocation Funds have their own respective discussions
of the strategic portfolio transactions in which they may engage).
OPTIONS TRADING
The fund may purchase or write (sell) options on financial instruments as a
means of achieving additional return or hedging the value of the fund's
portfolio. The fund may not write put or covered call options in an amount
exceeding 30% of the value of its total assets. The fund would invest in options
in standard contracts which may be quoted on NASDAQ, or on national securities
exchanges. Currently options are traded on numerous securities and indices
including, without limitation, the Standard and Poor's 100 Index (S&P 100), the
Standard and Poor's 500 Index (S&P 500), and the NYSE Beta Index.
A) In General. Put and call options are generally short-term contracts with
durations of nine months or less. The investment advisor will generally write
covered call options when it anticipates declines in the market value of the
portfolio securities and the premiums received may offset to some extent the
decline in the fund's net asset value. On the other hand, writing put options
is a useful portfolio investment strategy when the fund has cash or other
reserves and it intends to purchase securities but expects prices to decline.
Generally, the risk to the fund in writing options is that the investment
advisor's assumption about the price trend of the underlying security may prove
inaccurate. If, as a result, the fund wrote a put, expecting the price of a
security to increase, and it decreases, or if the fund wrote a call, expecting
the price to decrease but it increased, the fund could suffer a loss if the
premium received in each case did not equal the difference between the exercise
price and the market price.
B) Call Options. The fund may write only call options which are covered, meaning
that the fund either owns the underlying security or has an absolute and
immediate right to acquire that security, without additional cash
consideration, upon conversion or exchange of other securities currently held
in its portfolio. In addition, the fund will not, before the expiration of a
call option, permit the call to become uncovered. If the fund writes a call
option, the purchaser of the option has the right to buy (and the fund has
the obligation to sell) the underlying security at the exercise price
throughout the term of the option. The amount paid to the fund by the
purchaser of the option is the premium. The fund's obligation to deliver the
underlying security against payment of the exercise price would terminate
either upon expiration of the option or earlier if the fund were to effect a
closing purchase transaction through the purchase of an equivalent option on
an exchange. The fund would not be able to effect a closing purchase
transaction after it had received notice of exercise.
In order to write a call option, the fund is required to deposit in escrow the
underlying security or other assets in accordance with the rules of The Options
Clearing Corp. (OCC) and the various exchanges. The fund may not purchase call
options except in connection with a closing purchase transaction. It is possible
that the cost of effecting a closing purchase transaction may be greater than
the premium received by the fund for writing the option.
Generally, the investment advisor (the advisor) intends to write listed covered
calls during periods when it anticipates declines in the market values of
portfolio securities and the premiums received (net of transaction costs) may
offset to some extent the decline in the fund's net asset value occasioned by
such declines in market value. The advisor will generally not write listed
covered call options when it anticipates that the market value of the fund's
portfolio securities will increase.
If the advisor decides that at a price higher than the current value a portfolio
security would be overvalued and should be sold, the fund may write an option on
the security at that price. Should the security subsequently reach that price
and the option be exercised, the fund would, in effect, have increased the
selling price of that security, which it would have sold at that price in any
event, by the amount of the premium. In the event the market price of the
security declined and the option were not exercised, the premium would offset
all or some portion of that decline. It is possible, of
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APPENDIX
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course, that the price of the security could increase beyond the exercise price;
in that event, the fund would forego the opportunity to sell the security at
that higher price.
In addition, call options may be used as part of a different strategy in
connection with sales of portfolio securities. If, in the judgment of the
advisor, the market price of a security is overvalued and it should be sold, the
fund may elect to write a call with an exercise price substantially below the
current market price. So long as the value of the underlying security remains
above the exercise price during the term of the option, the option will be
exercised, and the fund will be required to sell the security at the exercise
price. If the sum of the premium and the exercise price exceeds the market price
of the security at the time the call is written, the fund would, in effect, have
increased the selling price of the security. The fund would not write a call
under these circumstances if the sum of the premium and the exercise price were
less than the current market price of the security.
In summary, a principal reason for writing calls on a securities portfolio is to
attempt to realize, through the receipt of premium income, a greater return than
would be earned on the securities alone. A covered call writer, such as the
fund, which owns the underlying security has, in return for the premium, given
up the opportunity for profit from a price increase in the underlying security
above the exercise price, but has retained the risk of loss should the price of
the security decline. Unlike one who owns securities not subject to a call, the
fund as a call writer may be required to hold such securities until the
expiration of the call option or until the fund engages in a closing purchase
transaction at a price that may be below the prevailing market.
C) Put Options. The fund may also write put options. If the fund writes a put
option, it is obligated to purchase a given security at a specified price at
any time during the term of the option. The rules regarding the writing of
put options are generally comparable to those described above with respect to
call options.
Writing put options is a useful portfolio investment strategy when the fund has
cash or other reserves available for investment as a result of sales of fund
shares or because the advisor believes a more defensive and less fully invested
position is desirable in light of market conditions. If the fund wishes to
invest its cash or reserves in a particular security at a price lower than
current market value, it may write a put option on that security at an exercise
price which reflects the lower price it is willing to pay. The buyer of the put
option generally will not exercise the option unless the market price of the
underlying security declines to a price near or below the exercise price. If the
fund writes a put option, the price of the underlying security declines and the
option is exercised, the premium, net of transaction charges, will reduce the
purchase price paid by the fund for the security. Of course, the price of the
security may continue to decline after exercise of the put options, in which
event the fund would have foregone an opportunity to purchase the security at a
lower price, or the option might never be exercised.
If, before the exercise of a put, the advisor determines that it no longer
wishes to invest in the security on which the put has been written, the fund may
be able to effect a closing purchase transaction on an exchange by purchasing a
put of the same series as the one which it has previously written. The cost of
effecting a closing purchase transaction may be greater than the premium
received on writing the put option, and there is no guarantee that a closing
purchase transaction can be effected. The fund may purchase put options only in
connection with a closing transaction.
As with the writer of a call, a put writer generally hopes to realize premium
income. The risk position of the fund as a put writer is similar to that of a
covered call writer which owns the underlying securities. Like the covered call
writer (who must bear the risk of the position in the underlying security), the
fund as a put writer stands to incur a loss if and to the extent the price of
the underlying security falls below the exercise price plus premium.
At the time a put option is written, the fund will be required to establish, and
will maintain until the put is exercised or has expired, a segregated account
with its custodian consisting of cash or short-term U.S. Government securities
equal in value to the amount which the fund will be obligated to pay upon
exercise of the put. Principal factors affecting the market value of a put or
call option include supply and demand, interest rates, the current market price
and price volatility of the underlying security and the time remaining until the
expiration date. In addition, there is no assurance that the fund will be able
to effect a closing transaction at a favorable price. If the fund cannot enter
into such a transaction, it may be required to hold a security that it might
otherwise have sold, in which case it would continue to be at market risk on the
security. If a substantial number of covered options
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APPENDIX
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written by the fund are exercised, the fund's rate of portfolio turnover could
exceed historic levels. This could result in higher transaction costs, including
brokerage commissions. The fund will pay brokerage commissions in connection
with the writing and purchasing of options to close out previously written
options. Such brokerage commissions are normally higher than those applicable to
purchases and sales of portfolio securities.
FUTURES CONTRACTS AND OPTIONS THEREON
A. Generally, the fund may buy and sell financial futures contracts (futures
contracts) and related options thereon solely for hedging purposes. The fund
may sell a futures contract or purchase a put option on that futures contract
to protect the value of the fund's portfolio in the event the investment
advisor anticipates declining security prices. Similarly, if security prices
are expected to rise, the fund may purchase a futures contract or a call
option thereon. (For certain limited purposes, as explained later, the fund
is also authorized to buy futures contracts on an unleveraged basis and not
as an anticipatory hedge.)
The fund will not invest in futures contracts and options thereon if immediately
thereafter the amount committed to margins plus the amount paid or option
premiums exceeds 5% of the fund's total assets. In addition the fund will not
hedge more than 1/3 of its net assets.
B. Futures contracts. The fund may purchase and sell financial futures contracts
(futures contracts) as a hedge against fluctuations in the value of
securities which are held in the fund's portfolio or which the fund intends
to purchase. The fund will engage in such transactions consistent with the
fund's investment objective. Currently, futures contracts are available on
Treasury bills, notes, and bonds.
There are a number of reasons why entering into futures contracts for hedging
purposes can be beneficial to the fund. First, futures markets may be more
liquid than the corresponding cash markets on the underlying securities. Such
enhanced liquidity results from the standardization of the futures contracts and
the large transaction volumes. Greater liquidity permits a portfolio manager to
effect a desired hedge both more quickly and in greater volume than would be
possible in the cash market. Second, a desired sale and subsequent purchase can
generally be accomplished in the futures market for a fraction of the
transaction costs that might be incurred in the cash market.
The purpose of selling a futures contract is to protect the fund's portfolio
from fluctuation in asset value resulting from stock price changes. Selling a
futures contract has an effect similar to selling a portion of the fund's
portfolio securities. If stock prices were to decline, the value of the fund's
futures contracts would increase, thereby keeping the net asset value of the
fund from declining as much as it otherwise might have. In this way, selling
futures contracts acts as a hedge against the effects of declining stock prices.
However, an increase in the value of portfolio securities tends to be offset by
a decrease in the value of corresponding futures contracts.
Similarly, when stock prices are expected to rise, futures contracts may be
purchased to hedge against anticipated subsequent purchases of portfolio
securities at higher prices. By buying futures, the fund could effectively hedge
against an increase in the price of the securities it intends to purchase at a
later date in order to permit the purchase to be effected in an orderly manner.
At that time, the futures contracts could be liquidated at a profit if stock
prices had increased as expected, and the fund's cash position could be used to
purchase securities.
When a purchase or sale of a futures contract occurs, a deposit of high-quality,
liquid securities called initial margin is made by both buyer and seller with a
custodian for the benefit of the broker. Unlike other types of margin, a futures
margin account does not involve any loan or borrowing but is merely a good faith
deposit that must be maintained in a minimum amount of cash or U.S. Treasury
bills. All futures positions, both long and short, are marked-to-market daily,
with cash payments called variation margin being made by buyers and sellers to
the custodian, and passed through to the sellers and buyers, to reflect daily
changes in the contract values.
Most futures contracts are typically canceled or closed out before the scheduled
settlement date. The closing is accomplished by purchasing (or selling) an
identical futures contract to offset a short (or long) position. Such an
offsetting transaction cancels the contractual obligations established by the
original futures transaction. Other financial futures contracts call for cash
settlements rather than delivery of securities.
If the price of an offsetting futures transaction varies from the price of the
original futures transaction, the hedger will realize a gain or loss
corresponding to the difference. That gain or loss will tend to offset the
unrealized loss or gain on the
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APPENDIX
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hedged securities position, but may not always or completely do so.
The fund will not enter into any futures contract if, immediately thereafter,
the aggregate initial margin for all existing futures contracts and options
thereon and for premiums paid for related options would exceed 5% of the fund's
total assets. The fund will not purchase or sell futures contracts or related
options if immediately thereafter more than 1/3 of its net assets would be
hedged.
C. Risks and limitations involved in futures hedging. There are a number of
risks associated with futures hedging. Changes in the price of a futures
contract generally parallel but do not necessarily equal changes in the
prices of the securities being hedged. The risk of imperfect correlation
increases as the composition of the fund's securities portfolio diverges from
the securities that are the subject of the futures contract. Because the
change in the price of the futures contract may be more or less than the
change in the prices of the underlying securities, even a correct forecast of
stock price changes may not result in a successful hedging transaction.
Another risk is that the investment advisor could be incorrect in its
expectation as to the direction or extent of various market trends or the
time period within which the trends are to take place.
The fund intends to purchase and sell futures contracts only on exchanges where
there appears to be a market in such futures sufficiently active to accommodate
the volume of its trading activity. There can be no assurance that a liquid
market will always exist for any particular contract at any particular time.
Accordingly, there can be no assurance that it will always be possible to close
a futures position when such closing is desired and, in the event of adverse
price movements, the fund would continue to be required to make daily cash
payments of variation margin. However, in the event futures contracts have been
sold to hedge portfolio securities, such securities will not be sold until the
offsetting futures contracts can be executed. Similarly, in the event futures
have been bought to hedge anticipated securities purchases, such purchases will
not be executed until the offsetting futures contracts can be sold.
Successful use of futures contracts by the fund is also subject to the ability
of the investment advisor to predict correctly movements in the direction of
interest rates and other factors affecting markets for securities. For example,
if the fund has hedged against the possibility of an increase in interest rates
that would adversely affect the price of securities in its portfolio and prices
of such securities increase instead, the fund will lose part or all of the
benefit of the increased value of its securities because it will have offsetting
losses in its futures positions. In addition, in such situations, if the fund
has insufficient cash to meet daily variation margin requirements, it may have
to sell securities to meet such requirements. Such sale of securities may be,
but will not necessarily be, at increased prices that reflect the rising market.
The fund may have to sell securities at a time when it is disadvantageous to do
so. Where futures are purchased to hedge against a possible increase in the
price of securities before the fund is able to invest its cash in an orderly
fashion, it is possible that the market may decline instead; if the fund then
concludes not to invest in securities at that time because of concern as to
possible further market decline or for other reasons, the fund will realize a
loss on the futures contract that is not offset by a reduction in the price of
the securities purchased.
The selling of futures contracts by the fund and use of related transactions in
options on futures contracts (discussed later) are subject to position limits,
which are affected by the activities of the investment advisor.
The hours of trading of futures contracts may not conform to the hours during
which the fund may trade equity securities. To the extent that the futures
markets close before the equity securities markets, significant price and rate
movements can take place in the equity securities markets that cannot be
reflected in the futures markets.
Pursuant to Rule 4.5 under the Commodity Exchange Act, investment companies
registered under the 1940 Act are exempted from the definition of commodity pool
operator in the Commodity Exchange Act, subject to compliance with certain
conditions. The exemption is conditioned upon a requirement that all of the
investment company's commodity futures transactions constitute bona fide hedging
transactions (except on an unleveraged basis, as described in E.). With respect
to long positions assumed by the fund, the fund will segregate with its
custodian, an amount of cash and other assets permitted by Commodity Futures
Trading Commission (CFTC) regulations equal to the market value of the futures
contracts and thereby insure that the use of futures contracts is unleveraged.
The fund will use futures in a manner consistent with these requirements.
A-7
<PAGE>
D. Options on futures contracts. The fund only intends to engage in options on
futures contracts for bona fide hedging purposes in compliance with CFTC
regulations. An option on a futures contract gives the purchaser the right,
but not the obligation, to assume a position in a futures contract (which
position may be a long or short position) at a specified exercise price at
any time during the option exercise period. The writer of the option is
required upon exercise to assume an offsetting futures position (which
position may be a long or short position). Upon exercise of the option, the
assumption of offsetting futures positions by the writer and holder of the
option will be accompanied by delivery of the accumulated balance in the
writer's futures margin account that represents the amount by which the
market price of the futures contract, at exercise, exceeds, in the case of a
call, or is less than, in the case of a put, the exercise price of the option
on the futures contract.
The holder or writer of an option may terminate its position by selling or
purchasing an option of the same series. There is no guarantee that such closing
transactions can be effected.
The fund will be required to deposit initial and variation margin with respect
to put and call options on futures contracts written by it pursuant to the
fund's futures commissions merchants' requirements similar to those applicable
to the futures contracts themselves, described previously.
E. Risks of futures transactions. The fund's successful use of futures contracts
and options thereon depends upon the ability of its investment advisor to
predict movements in the stock market and other factors affecting markets for
securities and upon the degree of correlation between the prices of the
futures contracts and the prices of the securities being hedged. As a result,
even a correct forecast of stock price changes may not result in a successful
hedging transaction. Although futures contracts and options thereon may limit
the fund's exposure to loss, they may also limit the fund's potential for
capital gains. For example, if the fund has hedged against the possibility of
decrease in stock prices which would adversely affect the price of securities
in its portfolio and prices of such securities increase instead, the fund
will lose part or all of the benefit of the increased value of its securities
because it will have offsetting losses in its futures positions. Although the
fund will enter into futures contracts only where there appears to be a
liquid market, there can be no assurance that such liquidity will always
exist.
F. The fund also is authorized, subject to the limitations set out in the
Prospectus, to purchase futures contracts on an unleveraged basis, when not
intended as an anticipatory hedge. When a contract is purchased on this basis
the investment company establishes a segregated account, composed of cash
and/or cash equivalents, equal to the total value of the contract (less
margin on deposit). As with other futures trading, these purchases must not
be for speculative purposes.
The ability to engage in these purchases on an unleveraged basis can
significantly decrease transaction costs to the funds in certain instances. For
example, if an inordinately large deposit should occur on a single day, the
sheer volume of securities purchases required for that day may place the fund at
a market disadvantage by requiring it to purchase particular securities in such
volume that its own buying activity could cause prices to increase. In addition,
if this deposit had involved `market-timing' and as a result there subsequently
were an oversized withdrawal, the fund could again suffer market disadvantage,
this time because the volume of sales could, for the same reason, force prices
of particular securities to decrease. The fund, by buying a futures contract
(followed by the appropriate closing transaction) instead of purchasing
securities could achieve considerable savings in transaction costs without
departing from fund objectives. Furthermore, as stated in (B.), price changes in
a futures contract generally parallel price changes in the securities that the
fund might otherwise have purchased. Thus, purchase of a futures contract on an
unleveraged basis allows the fund to comply with its objective while at the same
time achieving these lower transaction costs.
LENDING OF PORTFOLIO SECURITIES
As described in the Prospectus, the funds may from time to time lend securities
from their portfolios to brokers, dealers and financial institutions and receive
collateral from the borrower, in the form of cash (which may be invested in
short-term securities), U.S. Government obligations or certificates of deposit.
Such collateral will be maintained at all times in an amount equal to at least
100% of the current market value of the loaned securities, and will be in the
actual or constructive possession of the particular fund during the term of the
loan. The
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APPENDIX
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fund will maintain the incidents of ownership of the loaned securities and will
continue to be entitled to the interest or dividends payable on the loaned
securities. In addition, the fund will receive interest on the amount of the
loan. The loans will be terminable by the fund at any time and will not be made
to any affiliates of the fund or the advisor. The fund may pay reasonable
finder's fees to persons unaffiliated with it in connection with the arrangement
of the loans.
As with any extensions of credit, there are risks of delay in recovery and, in
some cases, even loss of rights in the collateral or the loaned securities
should the borrower of securities fail financially. However, loans of portfolio
securities will be made to firms deemed by the advisor to be creditworthy.
REPURCHASE AND REVERSE REPURCHASE AGREEMENTS
The funds may make short-term investments in repurchase agreements. A repurchase
agreement typically involves the purchase by the fund of securities (U.S.
Government or other money market securities) from a financial institution such
as a bank, broker or savings and loan association, coupled with an agreement by
the seller to repurchase the same securities from the fund at the specified
price and at a fixed time in the future, usually not more than seven days from
the date of purchase. The difference between the purchase price to the fund and
the resale price to the seller represents the interest earned by the fund which
is unrelated to the coupon rate or maturity of the purchased security. If the
seller defaults, the fund may incur a loss if the value of the collateral
securing the repurchase agreement declines, or the fund may incur disposition
costs in connection with liquidating the collateral. If bankruptcy proceedings
are commenced with respect to the seller, realization upon the collateral by the
fund may be delayed or limited and a loss may be incurred if the collateral
securing the repurchase agreement declines in value during the bankruptcy
proceedings. The Board of Directors of the fund will evaluate the
creditworthiness of all entities, including banks and broker-dealers, with which
they propose to enter into repurchase agreements. These transactions will be
fully collateralized; and the collateral for each transaction will be in the
actual or constructive possession of the particular fund during the terms of the
transaction, as provided in the agreement.
In a reverse repurchase agreement, the fund involved sells a portfolio security
to another party, such as a bank or broker-dealer, in return for cash and agrees
to repurchase the instrument at a particular price and time. While a reverse
repurchase agreement is outstanding, the fund will maintain cash and appropriate
liquid assets in a segregated custodial account to cover its obligation under
the agreement. The fund will enter into reverse repurchase agreements only with
parties that the advisor or sub-advisor deems creditworthy. Reverse repurchase
agreements and considered to be borrowing transactions, and thus are subject to
the fund's limitation on borrowing. Not every fund is authorized to enter into
reverse repurchase agreements.
CUSTODIAN
All securities, cash and other similar assets of the Bond, Growth and Income,
Managed, Money Market, Social Awareness and Special Opportunities Funds are
currently held in custody by Bankers Trust Co., 14 Wall Street, 4th Floor, New
York, New York 10005. Bankers Trust agreed to act as custodian for each fund
pursuant to a Custodian Agreement dated June 17, 1985 (March 10, 1986 for the
Social Awareness Fund).
All securities, cash and other similar assets of the Aggressive Growth, Capital
Appreciation, Equity-Income, Global Asset Allocation and International Funds are
held in custody by State Street Bank and Trust Co., 225 Franklin Street, Boston,
Massachusetts 02110. State Street agreed to act as custodian for these funds
pursuant to Custodian Contracts effective July 21, 1987 for the Global Asset
Allocation Fund, April 29, 1991 for the International Fund, and December 6, 1993
for the other three funds.
Under these Agreements, the respective custodians shall (1) receive and disburse
money; (2) receive and hold securities; (3) transfer, exchange, or deliver
securities; (4) present for payment coupons and other income items, collect
interest and cash dividends received, hold stock dividends, etc.; (5) cause
escrow and deposit receipts to be executed; (6) register securities; and (7)
deliver to the funds proxies, proxy statements, etc.
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APPENDIX
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INDEPENDENT AUDITORS
Each fund's Board of Directors has engaged Ernst & Young LLP, 2300 Fort Wayne
National Bank Building, Fort Wayne, Indiana 46802, to be the independent
auditors for the fund. In addition to the audit of the 1995 financial statements
of the funds, other services provided include review and consultation connected
with filings of annual reports and registration statements with the Securities
and Exchange Commission (SEC); consultation on financial accounting and
reporting matters; and meetings with the Audit Committee.
FINANCIAL STATEMENTS
The financial statements for the funds are incorporated by reference to the
funds' 1995 Annual Report (see Pages 36-49 for all funds; and Pages 10-11,
Aggressive Growth; and Pages 11-13, Bond Fund; Pages 13-14, Capital Appreciation
Fund; Page 14-18, Equity-Income Fund; Pages 18-24, Global Asset Allocation Fund;
Pages 24-25, Growth and Income Fund; Pages 26-27, International Fund; Pages 27-
31, Managed Fund; Pages 31-32, Money Market Fund; Pages 32-33, Social Awareness
Fund; and Pages 33-35, Special Opportunities Fund). We will provide a copy of
the Annual Report on request and without charge. Please write or call Eric
Jones, Lincoln National Life Insurance Co., P.O. Box 2340, Fort Wayne, Indiana
46801; telephone: 1-800-348-1212, Ext. 6536.
BOND RATINGS
MOODY'S INVESTORS SERVICE, INC.
Aaa -- Bonds which are rated Aaa are judged to be of the best quality and carry
the smallest degree of investment risk. Interest payments are protected by a
large or by an exceptionally stable margin, and principal is secure. While the
various protective elements are likely to change, such changes as can be
visualized are most unlikely to impair the fundamentally strong position of such
issues.
Aa -- 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 in 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 some time 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 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.
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.
STANDARD & POOR'S CORP.
AAA -- This is the highest rating assigned by Standard & Poor's Corp. 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.
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BBB -- Bonds rated BBB are regarded as having an adequate capacity to pay
principal and interest. Whereas these bonds normally exhibit adequate protection
parameters, adverse economic conditions or changing circumstances are more
likely to lead to a weakened capacity to pay principal and interest than for
bonds in the A category and higher.
BB-B-CCC-CC -- Bonds rated BB, B, CCC and CC 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 obligation. 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.
COMMERCIAL PAPER RATINGS
MOODY'S INVESTORS SERVICE, INC.
Moody's Commercial Paper ratings are opinions of the ability of issuers to repay
punctually promissory obligations not having an original maturity in excess of
nine months. 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.
(The fund will not invest in commercial paper rated Prime 3).
STANDARD & POOR'S CORP.
A Standard & Poor's Corp. commercial paper rating is a current assessment of the
likelihood of timely payment of debt having an original maturity of no more than
365 days. The fund will invest in commercial paper rated in the A Categories, as
follows:
A Issues assigned this highest rating are regarded as having the greatest
capacity for timely payment. Issues in this category are further refined
with the designation 1, 2, and 3 to indicate the relative degree of
safety. (The fund will not invest in commercial paper rated A-3).
A - 1 This designation indicates that the degree of safety regarding timely
payment is very strong.
A - 2 Capacity for timely payment on issues with this designation is strong.
However, the relative degree of safety is not overwhelming as for
issues designated A-1.
U.S. GOVERNMENT OBLIGATIONS
Securities issued or guaranteed as to principal and interest by the U.S.
Government include a variety of Treasury securities, which differ only in their
interest rates, maturities and times of issuance. Treasury bills have a maturity
of one year or less. Treasury notes have maturities of one to seven years and
Treasury bonds generally have a maturity of greater than five years.
Various agencies of the U.S. Government issue obligations. Some of these
securities are supported by the full faith and credit of the U.S. Treasury (for
example those issued by Export-Import Bank of the United States, Farmers Home
Administration, Federal Housing Administration, Government National Mortgage
Association, Maritime Administration, Small Business Administration and The
Tennessee Valley Authority). Obligations of instrumentalities of the U.S.
Government are supported by the right of the issuer to borrow from the Treasury
(for example, those issued by Federal Farm Credit Banks, Federal Home Loan Bank,
Federal Home Loan Mortgage Corp., Federal Intermediate Credit Banks, Federal
Land Bank and the U.S. Postal Service). Obligations supported by the credit of
the instrumentality include securities issued by government sponsored
corporations whose stock is publicly held (for example, the Federal National
Mortgage Association, and the Student Loan Marketing Association).
TAXES
Each fund intends to qualify and has elected to be taxed as a regulated
investment company under certain provisions of the Internal Revenue Code of
1986, as amended (the code). If a fund qualifies as a regulated investment
company and complies with the provisions of the code relieving regulated
investment companies which distribute substantially all of their net income
(both net ordinary income and net capital gain) from Federal income tax, it will
be relieved from such tax on the part of its net ordinary income and net
realized capital gain which it distributes to its shareholders. To qualify for
treatment as a regulated investment company, each fund must, among other things,
derive in each taxable year at least 90% of its gross income from dividends,
interest, payments with respect to securities loans and gains from the sale or
other disposition of stock or securities or foreign currencies (subject to the
authority of the Secretary
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of the Treasury to exclude foreign currency gains which are not directly related
to the fund's principal business of investing in stock or securities or options
and futures with respect to such stock or securities), or other income
(including but not limited to gains from options, futures, or forward contracts)
derived with respect to its investing in such stocks, securities, or currencies.
In addition, to qualify as a regulated investment company each fund must derive
less than 30% of its gross income from the sale or other disposition of
securities held for less than three months. In order to meet these requirements,
a fund may be required to defer disposing of certain futures contracts and
underlying securities beyond the time when it might otherwise be advantageous to
do so. Specifically, these requirements may limit a fund's ability to (a) sell
securities held for less than three months; (b) effect closing transactions on
futures contracts entered into less than three months previously; (c) enter into
futures contracts for a period of less than three months; and (d) enter into
futures contracts on securities held for less than the long-term capital gains
holding period. Further, for purposes of the 30% test, increases (and decreases)
in the value of positions that are part of a designated hedge (as defined in the
code) are netted.
The Federal tax laws impose a 4% nondeductible excise tax on each regulated
investment company with respect to an amount, if any, by which such company does
not meet distribution requirements specified in such tax laws, unless certain
exceptions apply. Each fund intends to comply with such distribution
requirements or qualify under one or more exceptions, and thus does not expect
to incur the 4% nondeductible excise tax.
Since the sole shareholder of each fund will be Lincoln Life, no discussion is
stated herein as to the Federal income tax consequences at the shareholder
level.
The discussion of Federal income tax considerations in the Prospectus, in
conjunction with the foregoing, is a general and abbreviated summary of the
applicable provisions of the code and Treasury Regulations currently in effect
as interpreted by the Courts and the Internal Revenue Service (IRS). These
interpretations can be changed at any time. The above discussion covers only
Federal tax considerations with respect to the fund. State and local taxes vary.
STATE REQUIREMENTS
The California Department of Insurance has established the following guidelines
for an underlying portfolio of a Separate Account. The funds intend to comply
with these guidelines:
BORROWING
The borrowing limits for any variable contract separate account portfolio are
(1) 10% of net asset value when borrowing for any general purpose and (2) 25% of
net asset value when borrowing as a temporary measure to facilitate redemptions.
Net asset value of a portfolio is the market value of all investments or assets
owned less outstanding liabilities of the portfolio at the time that any new or
additional borrowing is undertaken.
FOREIGN INVESTMENTS -- DIVERSIFICATION
The foreign country diversification guidelines to be followed by the funds are
as follows:
1. A portfolio will be invested in a minimum of five different foreign countries
at all times. However, this minimum is reduced to four when foreign country
investments comprise less than 80% of the portfolio's net asset value; to
three when less than 60% of such value; to two when less than 40%; and to one
when less than 20%.
2. Except as set forth in items 3 and 4, a portfolio will have no more than 20%
of its net asset value invested in securities of issuers located in any one
country.
3. A portfolio may have an additional 15% of its value invested in securities of
issuers located in any one of the following countries: Australia, Canada,
France, Japan, the United Kingdom or West Germany.
4. A portfolio's investments in United States issuers are not subject to the
foreign country diversification guidelines.
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DERIVATIVE TRANSACTIONS-DEFINITIONS
The Prospectus for each fund and the uniform Appendix for the Prospectus booklet
discuss the type of derivative transactions in which the funds may engage and
the risks typically associated with many derivative transactions. Here are some
definitions for the derivatives listed in the Appendix:
Option. A contract which gives the fund the right, but not the obligation, to
buy or sell specified securities at a fixed price before or at a designated
future date. If the contract allows the fund to buy securities, it is a call
option; if to sell, it is a put option. It is common practice in options trading
to terminate an outstanding option contract by entering into an offsetting
transaction known as a closing transaction; as a result of which the fund would
either pay out or receive a cash settlement. This is discussed below.
CURRENCY OPTION. Discussed later.
FIXED INCOME OPTION. One based on a fixed-income security, such as a corporate
or government bond.
INDEXED OPTION. One based on the value of an index which measures the
fluctuating value of a basket of pre-selected securities.
STOCK (EQUITY) OPTION. One based on the shares of stock of a particular company.
OPTION ON A FUTURES CONTRACT. Discussed later.
SWAP. A financial transaction in which the fund and another party agree to
exchange streams of payments at periodic intervals under a predetermined set of
occurrences related to the price, level, performance or value of one or more
underlying securities, and pegged to a reference amount known as the notional
amount. A swap is normally used to change the market risk associated with a loan
or bond borrowing from one interest rate base (fixed term or floating rate) or
currency of one denomination to another.
EQUITY SWAP. One which allows the fund to exchange the rate of return (or some
portion of the rate) on its portfolio stocks (an individual share, a basket or
index) for the rate of return on another equity or non-equity investment.
INTEREST RATE SWAP. One in which the fund and another party exchange different
types of interest payment streams, pegged to an underlying notional principal
amount. The three main types of interest rate swaps are coupon swaps (fixed rate
to floating rate in the same currency); basis swaps (one floating rate index to
another floating rate index in the same currency); and cross-currency interest
rate swaps (fixed rate in one currency to floating rate in another).
Related transactions to interest rate swaps:
a. Cap. A contract for which the buyer pays a fee, or premium, to obtain
protection against a rise in a particular interest rate above a certain
level. For example, an interest rate cap may cover a specified principal
amount of a loan over a designated time period, such as a calendar quarter.
If the covered interest rate rises above the rate ceiling, the seller of the
rate cap pays the purchaser an amount of money equal to the average rate
differential times the principal amount times one-quarter.
b. Floor. A contract in which the seller agrees to pay to the purchaser, in
return for the payment of a premium, the difference between current interest
rates and an agreed (strike) rate times the notional amount, should interest
rates fall below the agreed level (the floor). A floor contract has the
effect of a string of interest rate guarantees.
c. Collar. An arrangement to simultaneously purchase a cap and sell a floor, in
order to maintain interest rates within a defined range. The premium income
from the sale of the floor reduces or offsets the cost of buying the cap.
d. Corridor. An agreement to buy a cap at one interest rate and sell a cap at a
higher rate.
SWAPTION. An option to enter into, extend, or cancel a swap.
FUTURES CONTRACT. A contract which commits the fund to buy or sell a specified
amount of a financial instrument at a fixed price on a fixed date in the future.
Futures contracts are normally traded on an exchange and their terms are
standardized, which makes it easier to buy and sell them.
INTEREST RATE FUTURES (AND OPTIONS ON THEM). Futures contracts pegged to U.S.
and foreign fixed-income securities, debt indices and reference rates.
STOCK INDEX FUTURES. Futures contracts based on an index of pre-selected stocks,
with prices based on a composite of the changes to the prices of the individual
securities in the index (e.g., S&P 500).
OPTION ON A FUTURES CONTRACT. An option taken on a futures position.
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FORWARD CONTRACT. An over-the-counter, individually-tailored futures contract.
FORWARD RATE AGREEMENT (FRA). A contract in which the fund and another party
agree on the interest rate to be paid on a notional deposit of specified
maturity at a specific future time. Normally, no exchange of principal is
involved; the difference between the contracted rate and the prevailing rate is
settled in cash.
CURRENCY CONTRACT. A contract entered into for the purpose of reducing or
eliminating an anticipated rise or drop in currency exchange rates over time.
CURRENCY FUTURES. Futures contracts on foreign currencies. Used to hedge the
purchase or sale of foreign securities.
CURRENCY OPTION. An option taken on foreign currency.
CURRENCY SWAP. A swap involving the exchange of cash flows and principal in one
currency for those in another, with an agreement to reverse the principal swap
at a future date.
CROSS-CURRENCY INTEREST RATE SWAP. A swap involving the exchange of streams of
interest rate payments (but not necessarily principal payments) in different
currencies and often on different interest bases (e.g., fixed Deutsche Mark
against floating dollar, but also fixed Deutsche Mark against fixed dollar).
FORWARD CURRENCY CONTRACT. A contract to lock in a currency exchange rate at a
future date, to eliminate risk of currency fluctuation when the time comes to
convert from one currency to another.
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