As filed with the Securities and Exchange Commission on February 26, 1999.
File No.
811-6242
REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940
Amendment No. 12
This Amendment is being filed only under
the Investment Company Act of 1940
ADJUSTABLE RATE SECURITIES PORTFOLIOS
(Exact Name of Registrant as Specified in Charter)
777 MARINERS ISLAND BLVD., SAN MATEO, CA 94404
(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, Including Area Code (650) 312-2000
Deborah R. Gatzek 777 Mariners Island Blvd., San Mateo, CA 94404
(Name and Address of Agent for Service of Process)
Please Send Copy of Communications to:
Mark H. Plafker, Esq.
Stradley, Ronon, Stevens & Young
2600 One Commerce Square
Philadelphia, Pennsylvania 19102
ADJUSTABLE RATE SECURITIES PORTFOLIOS
U.S. GOVERNMENT ADJUSTABLE RATE MORTGAGE PORTFOLIO
ADJUSTABLE RATE SECURITIES PORTFOLIO
FORM N-1A, PART A:
Responses to Items 1 through 3 have been omitted pursuant to section 2(b) of
Instruction B of the General Instructions to Form N-1A.
ITEM 4. INVESTMENT OBJECTIVES, PRINCIPAL INVESTMENT STRATEGIES, AND RELATED
RISKS
U.S. GOVERNMENT ADJUSTABLE RATE MORTGAGE PORTFOLIO
GOAL AND STRATEGIES
GOAL The fund's investment goal is to seek a high level of current income,
consistent with lower volatility of principal than a fund that invests in
fixed-rate securities.
PRINCIPAL INVESTMENTS The fund will normally invest at least 65% of total
assets in adjustable rate mortgage securities (ARMS) and other mortgage
securities with interest rates that adjust periodically to reflect prevailing
market interest rates. The fund will only invest in mortgage securities
issued or guaranteed by the U.S. government, its agencies or
instrumentalities.
The fund will normally invest at least 65% of total assets in ARMS and other
adjustable rate mortgage securities issued or guaranteed by the U.S.
government, its agencies or instrumentalities.
The fund may invest up to 35% of total assets in bonds and notes issued by
the Federal Home Loan Banks, Federal National Mortgage Association (FNMA),
Government National Mortgage Association (GNMA), Federal Home Loan Mortgage
Corporation (FHLMC) and Small Business Administration, as well as in direct
obligations of the U.S. government, such as Treasury bonds, bills and notes,
and securities issued or guaranteed by U.S. government agencies. The fund may
also invest in collateralized mortgage obligations (CMOs) and repurchase
agreements collateralized by U.S. government obligations.
Government agency or instrumentality issues have different levels of credit
support. GNMA securities are supported by the full faith and credit of the
U.S. government; FNMA securities are supported by its right to borrow from
the U.S. Treasury under certain circumstances; and FHLMC securities are
supported only by the credit of that instrumentality. Investors should
remember that guarantees of timely repayment of principal and interest do not
apply to the market prices and yields of the securities or to the net asset
value or performance of the fund, which will vary with changes in interest
rates and other market conditions.
Mortgage securities represent an ownership interest in mortgage loans made by
banks and other financial institutions to finance purchases of homes. The
individual loans are packaged or "pooled" together for sale to investors. As
the underlying mortgage loans are paid off, investors receive principal and
interest payments.
Interest rates on adjustable rate securities generally are reset at intervals
of one year or less so that their rates gradually align themselves with
market interest rates. These periodic adjustments help keep the prices of
these securities relatively stable when compared with the prices of fixed
rate securities, which generally fall when interest rates rise. As a result,
the fund may participate in increases in interest rates resulting in higher
current yields, but with less fluctuation in net asset value than a fund
invested in comparable fixed rate securities. Adjustable rate securities,
however, frequently limit the maximum amount by which the loan rate may
change up or down. The fund, therefore, may not benefit from increases in
interest rates if interest rates exceed a security's maximum allowable
periodic or lifetime limits. During periods of falling interest rates, the
interest rates on these securities may reset downward, resulting in a lower
yield for the fund.
The fund may buy securities on a "when-issued" or "delayed delivery" basis.
This means that the securities will be paid for and delivered to the fund at
a future date, generally in 30 to 45 days.
TEMPORARY INVESTMENTS The manager may take a temporary defensive position
when the securities trading markets or the economy are experiencing excessive
volatility or a prolonged general decline, or other adverse conditions exist.
Under these circumstances, the fund may be unable to pursue its investment
goal, because it will not invest or will invest substantially less in ARMS
and other adjustable rate securities.
MAIN RISKS
INTEREST RATE Because changes in interest rates on ARMS and other adjustable
rate securities lag behind changes in market rates, the net asset value of
the fund may decline during periods of rising interest rates until the
interest rates on these securities reset to market rates. You could lose
money if you sell your shares of the fund before these rates reset.
If market interest rates increase substantially and the fund's adjustable
rate securities are not able to reset to market interest rates during any one
adjustment period, the value of the fund's holdings and its net asset value
may decline until the rates are able to reset to market rates. In the event
of a dramatic increase in interest rates, the lifetime limit on a security's
interest rate may prevent the rate from adjusting to prevailing market rates
and the market value of the security could decline substantially and affect
the fund's net asset value.
To the extent the fund invests in fixed income debt securities, it will be
subject to additional interest rate risks. When interest rates rise, fixed
income debt security prices fall. When interest rates fall, fixed income debt
security prices go up. Generally, interest rates rise during times of
inflation or a growing economy, and will fall during an economic slowdown or
recession. Securities with longer maturities usually are more sensitive to
interest rate changes than securities with shorter maturities.
Because the interest rates on adjustable rate securities generally reset
downward when interest rates fall, their market value is unlikely to rise to
the same extent as the value of comparable fixed rate securities during
periods of declining interest rates.
If interest rates rise, the net asset value of the fund may fall until the
interest rates on the fund's adjustable rate securities reset to market
rates. If rates fall, mortgage holders may refinance their mortgage loans at
lower interest rates. This means you could lose money.
MORTGAGE SECURITIES Mortgage securities differ from conventional debt
securities because principal is paid back over the life of the security
rather than at maturity. The fund may receive unscheduled prepayments of
principal prior to the security's maturity date due to voluntary prepayments,
refinancing or foreclosure on the underlying mortgage loans. To the fund this
means a loss of anticipated interest, and a portion of its principal
investment represented by any premium the fund may have paid. Mortgage
prepayments generally increase with falling interest rates and decrease with
rising interest rates. An unexpected rise in interest rates could reduce the
rate of principal prepayments on mortgage securities and extend the life of
these securities. This could cause the price of these securities and the
fund's share price to fall and would make these securities more sensitive to
interest rate changes. This is called "extension risk."
INCOME Since the fund can only distribute what it earns, the fund's
distributions to its shareholders may decline when interest rates fall.
DERIVATIVE SECURITIES CMOs are considered derivative investments, one whose
value depends on (or is derived from) the value of an underlying asset. These
instruments are subject to credit risk and prepayment risk associated with
the underlying mortgage assets.
YEAR 2000 When evaluating current and potential fund positions, Year 2000 is
one of the factors the fund's manager considers.
The manager will rely upon public filings and other statements made by
issuers about their Year 2000 readiness. The manager, of course, cannot audit
each issuer and its major suppliers to verify their Year 2000 readiness.
If an issuer in which the fund is invested is adversely affected by Year 2000
problems, it is likely that the price of its securities will also be
adversely affected. A decrease in the value of one or more of the fund's
portfolio holdings will have a similar impact on the fund's performance.
More detailed information about the fund, its policies, including temporary
investments, and risks can be found in the fund's Statement of Additional
Information (SAI).
Mutual fund shares are not deposits or obligations of, or guaranteed or
endorsed by, any bank, and are not federally insured by the Federal Deposit
Insurance Corporation, the Federal Reserve Board, or any other agency of the
U.S. government. Mutual fund shares involve investment risks, including the
possible loss of principal.
ADJUSTABLE RATE SECURITIES PORTFOLIO
GOAL AND STRATEGIES
GOAL The fund's investment goal is to seek a high level of current income,
consistent with lower volatility of principal than a fund that invests in
fixed-rate securities.
PRINCIPAL INVESTMENTS The fund will normally invest at least 65% of total
assets in mortgage securities and asset-backed securities with interest rates
that adjust periodically to reflect prevailing market interest rates. These
include adjustable rate mortgage securities (ARMS) issued or guaranteed by
private institutions, such as banks, insurance companies, mortgage bankers or
others, or by the U.S. government, its agencies or instrumentalities. The
fund will only invest in securities rated at least AA by Standard & Poor's
Corporation (S&P) or Aa by Moody's Investors Service, Inc. (Moody's), or
unrated securities the fund's manager determines are comparable.
The fund will normally invest at least 65% of total assets in mortgage
securities and asset-backed securities with adjustable interest rates.
The fund will only invest in securities rated at least AA by S&P or Aa by
Moody's, or unrated securities the fund's manager determines are comparable.
The fund may invest up to 35% of total assets in other adjustable rate or
fixed rate securities. These include bonds and notes issued by the Federal
Home Loan Banks, Federal National Mortgage Association (FNMA), Government
National Mortgage Association (GNMA), Federal Home Loan Mortgage Corporation
(FHLMC) and Small Business Administration, as well as direct obligations of
the U.S. government, such as Treasury bonds, bills and notes, and securities
issued or guaranteed by U.S. government agencies. The fund may also invest in
Collateralized Mortgage Obligations (CMOs), repurchase agreements
collateralized by U.S. government obligations, and asset-backed and mortgage
securities issued by private and government entities.
Mortgage securities represent an ownership interest in mortgage loans made by
banks and other financial institutions to finance purchases of homes. The
individual loans are packaged or "pooled" together for sale to investors. As
the underlying mortgage loans are paid off, investors receive principal and
interest payments. Pools of mortgage loans created by private issuers
generally offer a higher rate of interest than government pools because there
are no direct or indirect government guarantees of payment, although timely
payment of interest and principal is often supported by various forms of
insurance or guarantees. The fund may buy privately issued mortgage
securities without insurance or guarantees.
Asset-backed securities are securities backed by home equity and credit card
loans, automobile, mobile home and recreational vehicle loans and leases, and
other receivables.
Mortgage securities issued or backed by government agencies have different
levels of credit support. GNMA securities are supported by the full faith and
credit of the U.S. government; FNMA securities are supported by its right to
borrow from the U.S. Treasury under certain circumstances; and FHLMC
securities are supported only by the credit of that instrumentality.
Investors should remember that guarantees of timely repayment of principal
and interest do not apply to the market prices and yields of the securities
or to the net asset value or performance of the fund, which will vary with
changes in interest rates and other market conditions.
Interest rates on adjustable rate securities generally are reset at intervals
of one year or less so that their rates gradually align themselves with
market interest rates. These periodic adjustments help keep the prices of
these securities relatively stable when compared with the prices of fixed
rate securities, which generally fall when interest rates rise. As a result,
the fund may participate in increases in interest rates resulting in higher
current yields, but with less fluctuation in net asset value than a fund
invested in comparable fixed rate securities. Adjustable rate securities,
however, frequently limit the maximum amount by which the loan rate may
change up or down. The fund, therefore, may not benefit from increases in
interest rates if interest rates exceed a security's maximum allowable
periodic or lifetime limits. During periods of falling interest rates, the
interest rates on these securities may reset downward, resulting in a lower
yield for the fund.
The fund may buy securities on a "when-issued" or "delayed delivery" basis.
This means that the securities will be paid for and delivered to the fund at
a future date, generally in 30 to 45 days.
TEMPORARY INVESTMENTS The manager may take a temporary defensive position
when the securities trading markets or the economy are experiencing excessive
volatility or a prolonged general decline, or other adverse conditions exist.
Under these circumstances, the fund may be unable to pursue its investment
goal, because it will not invest or will invest substantially less in ARMS
and other adjustable rate securities.
MAIN RISKS
INTEREST RATE Because changes in interest rates on adjustable rate
securities lag behind changes in market interest rates, the net asset value
of the fund may decline during periods of rising interest rates until the
interest rates on these securities reset to market rates. You could lose
money if you sell your shares of the fund before these rates reset.
If market interest rates increase substantially and the fund's adjustable
rate securities are not able to reset to market interest rates during any one
adjustment period, the value of the fund's holdings and its net asset value
may decline until the rates are able to reset to market rates. In the event
of a dramatic increase in interest rates, the lifetime limit on a security's
interest rate may prevent the rate from adjusting to prevailing market rates
and the market value of the security could decline substantially and affect
the fund's net asset value.
To the extent the fund invests in fixed income debt securities, it will be
subject to additional interest rate risks. When interest rates rise, fixed
income debt security prices fall. When interest rates fall, fixed income debt
security prices go up. Generally, interest rates rise during times of
inflation or a growing economy, and will fall during an economic slowdown or
recession. Securities with longer maturities usually are more sensitive to
interest rate changes than securities with shorter maturities.
Because loan rates on adjustable rate securities generally reset downward
when interest rates fall, their market value is unlikely to rise to the same
extent as the value of a comparable fixed rate security during periods of
declining interest rates.
If interest rates rise, the net asset value of the fund may fall until the
interest rates on the fund's adjustable rate securities reset to market
rates. If rates fall, borrowers may refinance their mortgages and other loans
at lower interest rates. This means you could lose money.
MORTGAGE SECURITIES AND ASSET-BACKED SECURITIES Mortgage securities differ
from conventional debt securities because principal is paid back over the
life of the security rather than at maturity. The fund may receive
unscheduled prepayments of principal prior to the security's maturity date
due to voluntary prepayments, refinancing or foreclosure on the underlying
mortgage loans. To the fund this means a loss of anticipated interest, and a
portion of its principal investment represented by any premium the fund may
have paid. Mortgage prepayments generally increase with falling interest
rates and decrease with rising interest rates. An unexpected rise in interest
rates could reduce the rate of principal prepayments on mortgage securities
and extend the life of these securities. This could cause the price of these
securities and the fund's share price to fall and would make these securities
more sensitive to interest rate changes. This is called "extension risk."
Issuers of asset-backed securities may have limited ability to enforce the
security interest in the underlying assets, and the credit enhancements
provided to support these securities, if any, may be inadequate to protect
investors in the event of a default. Like mortgage securities, asset-backed
securities are subject to prepayment risk and extension risk.
CREDIT This is the possibility that an issuer of a debt security or the
borrower on the underlying mortgage or debt obligation may be unable to make
interest payments or repay principal. While securities directly issued by the
U.S. Treasury and certain agencies that are backed by the full faith and
credit of the U.S. government present little credit risk, securities issued
by other agencies or by private issuers may have greater credit risks.
Changes in an issuer's financial strength or in a security's credit rating
may affect its value and, thus, impact the value of fund shares.
INCOME Since the fund can only distribute what it earns, the fund's
distributions to its shareholders may decline when interest rates fall.
DERIVATIVE SECURITIES CMOs are considered derivative investments, one whose
value depends on (or is derived from) the value of an underlying asset. These
instruments are subject to credit risk and prepayment risk associated with
the underlying mortgage assets.
YEAR 2000 When evaluating current and potential fund positions, Year 2000 is
one of the factors the fund's manager considers.
The manager will rely upon public filings and other statements made by
issuers about their Year 2000 readiness. The manager, of course, cannot audit
each issuer and its major suppliers to verify their Year 2000 readiness.
If an issuer in which the fund is invested is adversely affected by Year 2000
problems, it is likely that the price of its securities will also be
adversely affected. A decrease in the value of one or more of the fund's
portfolio holdings will have a similar impact on the fund's performance.
More detailed information about the fund, its policies, including temporary
investments, and risks can be found in the fund's Statement of Additional
Information (SAI).
Mutual fund shares are not deposits or obligations of, or guaranteed or
endorsed by, any bank, and are not federally insured by the Federal Deposit
Insurance Corporation, the Federal Reserve Board, or any other agency of the
U.S. government. Mutual fund shares involve investment risks, including the
possible loss of principal.
The response to Item 5 has been omitted pursuant to section 2(b) of
Instruction B of the General Instructions to Form N-1A.
ITEM 6. MANAGEMENT, ORGANIZATION, AND CAPITAL STRUCTURE
(A) MANAGEMENT
(1) INVESTMENT ADVISER
Franklin Advisers, Inc. (Advisers), 777 Mariners Island Blvd., San Mateo, CA
94404, is each fund's investment manager. Together, Advisers and its
affiliates manage over $220 billion in assets.
Each fund pays the manager a fee for managing the fund's assets and making
its investment decisions. For the fiscal year ended October 31, 1998,
management fees, before any advance waiver, were 0.40% of each fund's average
daily net assets. Under an agreement by the manager to limit its fees, U.S.
Government Adjustable Rate Mortgage Portfolio and Adjustable Rate Securities
Portfolio paid 0.23% and 0.21%, respectively, of their average daily net
assets to the manager. The manager may end this arrangement at any time upon
notice to the funds' board of trustees.
YEAR 2000 PROBLEM Each fund's business operations depend on a worldwide
network of computer systems that contain date fields, including securities
trading systems, securities transfer agent operations and stock market links.
Many of the systems currently use a two digit date field to represent the
date, and unless these systems are changed or modified, they may not be able
to distinguish the Year 1900 from the Year 2000 (commonly referred to as the
Year 2000 problem). In addition, the fact that the Year 2000 is a leap year
may create difficulties for some systems.
When the Year 2000 arrives, a fund's operations could be adversely affected
if the computer systems used by the manager, its service providers and other
third parties it does business with are not Year 2000 ready. For example, a
fund's portfolio and operational areas could be impacted, including
securities trade processing, interest and dividend payments, securities
pricing, shareholder account services, reporting, custody functions and
others.
Each fund's manager and its affiliated service providers are making a
concerted effort to take steps they believe are reasonably designed to
address their Year 2000 problems. Of course, a fund's ability to reduce the
effects of the Year 2000 problem is also very much dependent upon the efforts
of third parties over which the fund and its manager may have no control.
(2) PORTFOLIO MANAGER
The team responsible for each fund's management is:
T. ANTHONY COFFEY CFA, VICE PRESIDENT OF ADVISERS
Mr. Coffey has been a manager on the fund since 1991. He joined the Franklin
Templeton Group in 1989.
ROGER BAYSTON CFA, SENIOR VICE PRESIDENT OF ADVISERS
Mr. Bayston has been a manager on the fund since 1991. He joined the Franklin
Templeton Group in 1991.
JACK LEMEIN, EXECUTIVE VICE PRESIDENT OF ADVISERS
Mr. Lemein has been a manager of the fund since 1991 and has more than 30
years' experience in the securities industry.
ITEM 7. SHAREHOLDER INFORMATION
(A) PRICING OF FUND SHARES
Each fund calculates the net asset value per share (NAV) each business day at
the close of trading on the New York Stock Exchange (normally 1:00 p.m.
pacific time). Each fund's NAV is calculated by dividing its net assets by
the number of its shares outstanding.
Each fund's assets are generally valued at their market value. If market
prices are unavailable, or if an event occurs after the close of the trading
market that materially affects the values, assets may be valued at their fair
value.
Requests to buy and sell shares are processed at the NAV next calculated
after the fund receives a request in proper form.
(B) PURCHASE OF FUND SHARES
The funds' shares have not been registered under the Securities Act of 1933
(1933 Act), which means they may not be sold publicly. The funds' shares may,
however, be sold through private placements pursuant to available exemptions
from the 1933 Act.
Shares of each fund are sold only to other investment companies. Funds should
be wired to the fund's bank account at Bank of America, for credit to the
fund's account. All investments in the fund are credited to the shareholder's
account in the form of full and fractional shares of the fund (rounded to the
nearest 1/1000 of a share). The funds do not issue share certificates.
Shares of each fund generally may be purchased on any day the fund is open
for business. Wire purchase orders in federal funds are not accepted on days
when the Federal Reserve Bank system and the fund's custodian are closed.
(C) REDEMPTION OF FUND SHARES
As stated above, the funds' shares are restricted securities, which may not
be sold unless registered or pursuant to an available exemption from the 1933
Act.
Redemptions are processed on any day the funds are open for business and are
effected at the NAV next calculated after the fund receives a redemption
request in proper form.
Redemption payments will be made within seven days after receipt of the
redemption request in proper form. Proceeds for redemption orders cannot be
wired on those business days when the Federal Reserve Bank System and the
custodian bank are closed. In unusual circumstances, the funds may
temporarily suspend redemptions or postpone the payment of proceeds as
allowed by federal securities law.
Redemptions are taxable events. The amount received upon redemption may be
more or less than the amount paid for the shares, depending on the
fluctuations in the market value of the assets owned by the funds.
ADDITIONAL POLICIES Please note that the funds maintain additional policies
and reserve certain rights, including:
o In unusual circumstances, we may temporarily suspend redemptions, or
postpone the payment of proceeds, as allowed by federal securities laws.
o For redemptions over a certain amount, each fund reserves the right to
make payments in securities or other assets of the fund, in the case of an
emergency or if the payment by check or wire would be harmful to existing
shareholders.
(D) DIVIDENDS AND DISTRIBUTIONS
The funds' shares have not been registered under the 1933 Act. This means
their shares are restricted securities, which may not be sold, redeemed or
reinvested unless registered or pursuant to an available exemption from the
1933 Act. To the extent distributions to shareholders are reinvested in
additional shares, as discussed below, such transactions are subject to the
requirements of the 1933 Act.
Each fund declares dividends daily from its net investment income and
reinvests them monthly generally at the close of business on the last
business day of the month. The daily allocation of net investment income
begins on the day funds are wired to the fund. Capital gains, if any, may be
distributed annually. The amount of these distributions will vary and there
is no guarantee the funds will pay dividends. The funds do not pay "interest"
or guarantee any return on an investment in their shares.
Shareholders may request to have their dividends paid out monthly in cash.
Shareholders redeeming all their shares at any time during the month will
receive all dividends to which they are entitled together with the redemption
check.
(E) TAX CONSEQUENCES
In general, fund distributions are treated as either ordinary income or
capital gains. This is true whether a shareholder reinvests distributions in
additional shares of the fund or receives them in cash. Any capital gains the
fund distributes are treated as long-term capital gains no matter how long a
shareholder has owned fund shares.
Every January, shareholders will receive a statement that shows the tax
status of distributions received for the previous year. Distributions
declared in December but paid in January are treated as if they were paid in
December.
When a shareholder sells or redeems shares of a fund, the shareholder may
have a capital gain or loss.
Fund distributions and gains from the sale of fund shares will generally be
subject to state and local income tax. Investments in Government National
Mortgage Association or Federal National Mortgage Association securities,
bankers' acceptances, commercial paper and repurchase agreements
collateralized by U.S. government securities do not generally qualify for
tax-free treatment. Other investment companies that invest in the funds may
not be able to pass-through to their shareholders the exempt character of
portfolio distributions from interest earned on direct obligations of the
U.S. government.
ITEM 8. DISTRIBUTION ARRANGEMENTS
Not Applicable
The response to Item 9 has been omitted pursuant to section 2(b) of
Instruction B of the General Instructions to Form N-1A.
ADJUSTABLE RATE SECURITIES PORTFOLIOS
U.S. GOVERNMENT ADJUSTABLE RATE MORTGAGE PORTFOLIO
ADJUSTABLE RATE SECURITIES PORTFOLIO
FORM N-1A, PART B:
ITEM 10. COVER PAGE AND TABLE OF CONTENTS
Not Applicable
ITEM 11. FUND HISTORY
The Adjustable Rate Securities Portfolios (trust), formerly named the
Franklin Institutional U.S. Government ARM Fund, an open-end management
investment company, commonly called a mutual fund. The trust was organized as
a Delaware business trust on February 15, 1991, and is registered with the
SEC. On October 18, 1991, the board of trustees approved a change in the
trust's name and the addition of two series of the trust, the U.S. Government
Adjustable Rate Mortgage Portfolio (Mortgage Portfolio) and the Adjustable
Rate Securities Portfolio (Securities Portfolio), the shares of beneficial
interest of which are available only to other investment companies.
ITEM 12. DESCRIPTION OF THE FUND AND ITS INVESTMENTS AND RISKS
GOALS AND STRATEGIES
U.S. GOVERNMENT ADJUSTABLE RATE MORTGAGE PORTFOLIO (MORTGAGE PORTFOLIO)
Mortgage Portfolio's investment goal is to seek a high level of current
income, consistent with lower volatility of principal. The investment
objective of the fund is fundamental, which means that it may not be changed
without shareholder approval.
Mortgage Portfolio seeks to achieve its investment objective by investing at
least 65% of its total assets in adjustable rate mortgage securities (ARMS)
or other securities collateralized by or representing an interest in
mortgages (collectively, mortgage securities) and having interest rates that
reset at periodic intervals. Mortgage Portfolio will only invest in mortgage
securities issued or guaranteed by the U.S. government, its agencies or
instrumentalities.
ADJUSTABLE RATE SECURITIES PORTFOLIO (SECURITIES PORTFOLIO) Securities
Portfolio's investment goal is to seek a high level of current income,
consistent with lower volatility of principal. The investment goal of the
fund is fundamental, which means that it may not be changed without
shareholder approval.
Securities Portfolio seeks to achieve its investment objective by investing
at least 65% of its total assets in adjustable-rate securities collateralized
by or representing an interest in mortgages (collectively, mortgage
securities), including ARMS, issued or guaranteed by private institutions or
by the U.S. government, its agencies or instrumentalities, and other
adjustable-rate asset-backed securities (collectively, ARS), which have
interest rates that reset at periodic intervals. Securities Portfolio may
invest in ARMS issued by private institutions, such as commercial banks,
savings and loan institutions, insurance companies, private mortgage
insurance companies, mortgage bankers, mortgage conduits of investment banks,
finance companies, real estate companies, private corporations, and others,
as long as they are consistent with Securities Portfolio's investment goal.
Privately issued mortgage securities are generally structured with one or
more types of credit enhancement. Securities Portfolio will only invest in
securities rated at least AA by S&P or Aa by Moody's, two nationally
recognized statistical rating agencies. Securities Portfolio may also invest
in unrated securities if the manager determines that they are of comparable
quality to the ratings above.
Each Fund may also invest up to 35% of its total assets in (a) notes, bonds,
and discount notes of the Federal Home Loan Banks, Federal National Mortgage
Association, Government National Mortgage Association, Federal Home Loan
Mortgage Corporation, and Small Business Administration; (b) obligations of
or guaranteed by the full faith and credit of the U.S. government and
repurchase agreements collateralized by such obligations; (c) time and
savings deposits (including CDs) in commercial or savings banks or in
institutions whose accounts are insured by the Federal Deposit Insurance
Corporation; and (d) with respect to the Securities Portfolio, asset-backed
and mortgage-backed securities issued by private and government entities.
Securities Portfolio may invest in fixed-rate or adjustable-rate securities.
The fund's investments in time deposits will not exceed 10% of its total
assets.
Each fund's policies and restrictions discussed in the prospectus and in this
SAI is considered at the time the fund makes an investment. The funds are
generally not required to sell a security because of a change in
circumstances. The following describes the various types of securities
Mortgage Portfolio and Securities Portfolio may buy.
DEBT SECURITIES represent an obligation of the issuer to repay a loan of
money to it, and generally, provide for the payment of interest. These
include bonds, notes and debentures; commercial paper; time deposits;
bankers' acceptances. A debt security typically has a fixed payment schedule
which obligates the issuer to pay interest to the lender and to return the
lender's money over a certain time period. A company typically meets its
payment obligations associated with its outstanding debt securities before it
declares and pays any dividend to holders of its equity securities. Bonds,
notes, debentures and commercial paper differ in the length of the issuer's
payment schedule, with bonds carrying the longest repayment schedule and
commercial paper the shortest.
The market value of debt securities generally varies in response to changes
in interest rates and the financial condition of each issuer. During periods
of declining interest rates, the value of debt securities generally
increases. Conversely, during periods of rising interest rates, the value of
such securities generally declines. These changes in market value will be
reflected in the fund's net asset value.
U.S. GOVERNMENT SECURITIES The funds may invest without limit in obligations
of the U.S. government or of corporations chartered by Congress as federal
government instrumentalities. The funds may buy securities issued or
guaranteed by the U.S. government, its agencies or instrumentalities, such as
those issued by the Government National Mortgage Association (GNMA). GNMA
guarantees are backed by the full faith and credit of the U.S. Treasury. No
assurances, however, can be given that the U.S. government will provide
financial support to the obligations of other U.S. government agencies or
instrumentalities in which the fund may invest. Securities issued by these
agencies and instrumentalities are supported by the issuer's right to borrow
an amount limited to a specific line of credit from the U.S. Treasury, the
discretionary authority of the U.S. government to buy certain obligations of
an agency or instrumentality, or the credit of the agency or instrumentality.
Several of the Franklin Templeton Funds, including the funds, are major
buyers of government securities. The manager will seek to negotiate
attractive prices for government securities and pass on any savings from
these negotiations to shareholders in the form of higher current yields.
MORTGAGE SECURITIES - GENERAL CHARACTERISTICS Mortgage securities represent
an ownership interest in mortgage loans made by banks and other financial
institutions to finance purchases of homes, commercial buildings or other
real estate. These mortgage loans may have either fixed or adjustable
interest rates. The individual mortgage loans are packaged or "pooled"
together for sale to investors. As the underlying mortgage loans are paid
off, investors receive principal and interest payments.
Each fund may invest in mortgage-backed securities issued or guaranteed by
GNMA, the Federal National Mortgage Association (FNMA) and the Federal Home
Loan Mortgage Corporation (FHLMC).
The primary issuers or guarantors of mortgage securities are GNMA, FNMA and
FHLMC. GNMA creates mortgage-backed securities from pools of government
guaranteed or insured (Federal Housing Authority or Veterans Administration)
mortgages originated by mortgage bankers, commercial banks and savings and
loan associations. FNMA and FHLMC issue mortgage securities from pools of
conventional and federally insured and/or guaranteed residential mortgages
obtained from various entities, including savings and loan associations,
savings banks, commercial banks, credit unions and mortgage bankers. The
principal and interest on GNMA securities are guaranteed by GNMA and backed
by the full faith and credit of the U.S. government. Mortgage securities from
FNMA and FHLMC are not backed by the full faith and credit of the U.S.
government. FNMA guarantees full and timely payment of all interest and
principal, and FHLMC guarantees timely payment of interest and the ultimate
collection of principal. Securities issued by FNMA are supported by the
agency's right to borrow money from the U.S. Treasury under certain
circumstances. Securities issued by FHLMC are supported only by the credit of
the agency. There is no guarantee that the government would support
government agency securities and, accordingly, they may involve a risk of
non-payment of principal and interest. Nonetheless, because FNMA and FHLMC
are instrumentalities of the U.S. government, these securities are generally
considered to be high quality investments having minimal credit risks. The
yields on these mortgage securities have historically exceeded the yields on
other types of U.S. government securities with comparable maturities due
largely to their prepayment risk.
Securities Portfolio may invest in private mortgage securities. Private
issuers of mortgage securities may be both the originators of the underlying
mortgage loans as well as the guarantors of the mortgage securities. Pools of
mortgage loans created by private issuers generally offer a higher rate of
interest than government and government-related pools because there are no
direct or indirect government guarantees of payment. Timely payment of
interest and principal is, however, generally supported by various forms of
insurance or guarantees, including individual loan, title, pool and hazard
insurance. The insurance and guarantees are issued by government entities,
private insurance companies or the mortgage poolers. The insurance and
guarantees and the creditworthiness of their issuers will be considered when
determining whether a mortgage security meets the Securities Portfolio's
quality standards. The Securities Portfolio may buy mortgage securities
without insurance or guarantees if, through an examination of the loan
experience and practices of the poolers, the manager determines that the
securities meet the Securities Portfolio's applicable quality standards.
Most mortgage-backed securities are pass-through securities, which means that
they provide investors with monthly payments consisting of a pro rata share
of both regular interest and principal payments, as well as unscheduled early
prepayments, on the underlying mortgage pool (less GNMA's, FHLMC's or FNMA's
fees and any applicable loan servicing fees).
Guarantees as to the timely payment of principal and interest do not extend
to the value or yield of mortgage-backed securities nor do they extend to the
value of the fund's shares. In general, the value of fixed-income securities
varies with changes in market interest rates. Fixed-rate mortgage securities
generally decline in value during periods of rising interest rates, whereas
coupon rates of adjustable rate mortgage securities move with market interest
rates, and thus their value tends to fluctuate to a lesser degree. In view of
these factors, the ability of the fund to obtain a high level of total return
may be limited under varying market conditions.
COLLATERALIZED MORTGAGE OBLIGATIONS (CMOS), REAL ESTATE MORTGAGE INVESTMENT
CONDUITS (REMICS) AND MULTI-CLASS PASS-THROUGHS The fund may invest in CMOs
issued and guaranteed by U.S. government agencies or instrumentalities.
Securities Portfolio may also invest in REMICs issued and guaranteed by U.S.
government agencies and instrumentalities, in CMOs and REMICs issued by
certain financial institutions and other mortgage lenders, and in multi-class
pass-through securities. Mortgage Portfolio will not invest in privately
issued CMOs and REMICs except to the extent that it invests in the securities
of entities that are instrumentalities of the U.S. government.
CMOs and REMICs may be issued by governmental or government-related entities
or by private entities such as banks, savings and loan institutions, private
mortgage insurance companies, mortgage bankers, and other secondary market
issuers and are secured by pools of mortgages backed by residential or
various types of commercial properties. Privately issued CMOs and REMICs
include obligations issued by private entities that are collateralized by (a)
mortgage securities issued by FHLMC, FNMA or GNMA, (b) pools of mortgages
that are guaranteed by an agency or instrumentality of the U.S. government,
or (c) pools of mortgages that are not guaranteed by an agency or
instrumentality of the U.S. government and that may or may not be guaranteed
by the private issuer.
Multi-class pass-through securities are equity interests in a trust composed
of mortgage loans or other mortgage-backed securities. Payments of principal
and interest on the underlying collateral provides the funds to pay the debt
service on CMOs or REMICs or to make scheduled distributions on the
multi-class pass-through securities. Unless the context indicates otherwise,
the discussion of CMOs below may also apply to REMICs and multi-class
pass-through securities.
A CMO is a mortgage-backed security that separates mortgage pools into
short-, medium-, and long-term components. Each component pays a fixed rate
of interest at regular intervals. These components enable an investor, such
as the fund, to predict more accurately the pace at which principal is
returned. Mortgage Portfolio may buy CMOs that are:
(1) collateralized by pools of mortgages in which each mortgage is guaranteed
as to payment of principal and interest by an agency or instrumentality of
the U.S. government;
(2) collateralized by pools of mortgages in which payment of principal and
interest are guaranteed by the issuer and the guarantee is collateralized by
U.S. government securities; or
(3) securities in which the proceeds of the issuance are invested in mortgage
securities, and payment of the principal and interest are supported by the
credit of an agency or instrumentality of the U.S. government.
CMOs are issued in multiple classes. Each class, often referred to as a
"tranche," is issued at a specified coupon rate or adjustable rate and has a
stated maturity or final distribution date. Principal prepayments on
collateral underlying CMOs may cause the CMOs to be retired substantially
earlier than their stated maturities or final distribution dates. Interest is
paid or accrues on all classes of a CMO on a monthly, quarterly or semiannual
basis. The principal and interest on the mortgages underlying CMOs may be
allocated among the several classes in many ways. In a common structure,
payments of principal on the underlying mortgages, including any principal
prepayments, are applied to the classes of a series of a CMO in the order of
their respective stated maturities or final distribution dates, so that no
payment of principal will be made on any class until all other classes having
an earlier stated maturity or final distribution date have been paid in full.
One or more tranches of a CMO may have coupon rates that reset periodically
at a specified increment over an index, such as the London Interbank Offered
Rate (LIBOR). These adjustable rate tranches, known as "floating-rate CMOs,"
will be treated as ARMS by Securities Portfolio. Floating-rate CMOs may be
backed by fixed- or adjustable- rate mortgages. To date, fixed-rate mortgages
have been more commonly used for this purpose. Floating-rate CMOs are
typically issued with lifetime "caps" on the coupon rate. These caps, similar
to the caps on ARMS, represent a ceiling beyond which the coupon rate may not
be increased, regardless of increases in the underlying interest rate index.
Timely payment of interest and principal (but not the market value and yield)
of some of these pools is supported by various forms of insurance or
guarantees issued by private issuers, those who pool the mortgage assets and,
in some cases, by U.S. government agencies. Prepayments of the mortgages
underlying a CMO, which usually increase when interest rates decrease, will
generally reduce the life of the mortgage pool, thus impacting the CMO's
yield. Under these circumstances, the reinvestment of prepayments will
generally be at a rate lower than the rate applicable to the original CMO.
Some of the CMOs in which the fund may invest may be less liquid than other
types of mortgage securities. A lack of liquidity in the market for CMOs
could result in the inability to dispose of such securities at an
advantageous price under certain circumstances.
To the extent any privately issued CMOs in which the fund invests are
considered by the SEC to be an investment company, the fund will limit its
investments in such securities in a manner consistent with the provisions of
the Investment Company Act of 1940 (1940 Act).
Yields on privately issued CMOs have been historically higher than the yields
on CMOs issued and guaranteed by U.S. government agencies or
instrumentalities. The risk of loss due to default on privately issued CMOs,
however, is higher since they are not guaranteed by the U.S. government. The
trustees of the trust believe that the risk of loss from an investment in
privately issued CMOs is justified by the higher yield Securities Portfolio
will earn in light of the historic loss experience on these instruments.
Securities Portfolio will not invest in subordinated, privately issued CMOs.
REMICs, which are authorized under the Tax Reform Act of 1986, are private
entities formed for the purpose of holding a fixed pool of mortgages secured
by an interest in real property. REMICs are similar to CMOs in that they
issue multiple classes of securities. As with CMOs, the mortgages that
collateralize the REMICs in which the fund may invest include mortgages
backed by GNMAs or other mortgage pass-throughs issued or guaranteed by the
U.S. government, its agencies or instrumentalities or issued by private
entities, which are not guaranteed by any government agency or
instrumentality.
The manager currently intends to limit Securities Portfolio's investment in
fixed-rate CMOs and REMICs to planned amortization classes (PACs) and
sequential pay classes. A PAC is retired according to a payment schedule in
order to have a stable average life and yield even if expected prepayment
rates change. Within a specified broad range of prepayment possibilities, the
retirement of all classes is adjusted so that the PAC bond amortization
schedule will be met. Thus, PAC bonds offer more predictable amortization
schedules at the expense of less predictable cash flows for the other bonds
in the structure. Within a given structure, the Securities Portfolio
currently intends to buy the PAC bond with the shortest remaining average
life. A sequential pay CMO is structured so that only one class of bonds will
receive principal until it is paid off completely. Then, the next sequential
pay CMO class will begin receiving principal until it is paid off. Securities
Portfolio currently intends to buy sequential pay CMO securities in the class
with the shortest remaining average life.
ADJUSTABLE RATE MORTGAGE SECURITIES (ARMS) ARMS, like traditional mortgage
securities, are interests in pools of mortgage loans and are issued or
guaranteed by a federal agency or by private issuers. The interest rates on
the mortgages underlying ARMS are reset periodically. The adjustable interest
rate feature of the mortgages underlying these mortgage securities generally
will act as a buffer to reduce sharp changes in the ARMS' value in response
to normal interest rate fluctuations. As the interest rates are reset, the
yields of the securities will gradually align themselves to reflect changes
in market rates so that their market value will remain relatively stable
compared to fixed-rate securities. As a result, the fund's net asset value
should fluctuate less significantly than if the fund invested in more
traditional long-term, fixed-rate securities. During periods of extreme
fluctuation in interest rates, however, the value of the ARMS will fluctuate
affecting the fund's net asset value.
Because the interest rates on the mortgages underlying ARMS are reset
periodically, the fund may participate in increases in interest rates,
resulting in both higher current yields and lower price fluctuations. This
differs from fixed-rate mortgages, which generally decline in value during
periods of rising interest rates. The fund, however, will not benefit from
increases in interest rates to the extent that interest rates exceed the
maximum allowable annual or lifetime reset limits (or cap rates) for a
particular mortgage security. Since most mortgage securities held by the fund
will generally have annual reset limits or caps of 100 to 200 basis points,
short-term fluctuations in interest rates above these levels could cause
these mortgage securities to "cap out" and behave more like long-term,
fixed-rate debt securities. If prepayments of principal are made on the
underlying mortgages during periods of rising interest rates, the fund
generally will be able to reinvest these amounts in securities with a higher
current rate of return.
Please keep in mind that during periods of rising interest rates, changes in
the interest rates on mortgages underlying ARMS lag behind changes in the
market rate. This may result in a lower net asset value until the interest
rate resets to market rates. Thus, you could suffer some principal loss if
you sell your shares before the interest rates on the underlying mortgages
reset to market rates. Also, a fund's net asset value could vary to the
extent that current yields on mortgage-backed securities are different from
market yields during interim periods between coupon reset dates. A portion of
the ARMS in which the funds may invest may not reset for up to five years.
During periods of declining interest rates, the interest rates may reset
downward, resulting in lower yields to the fund. As a result, the value of
ARMS is unlikely to rise during periods of declining interest rates to the
same extent as the value of fixed-rate securities. As with other
mortgage-backed securities, declining interest rates may result in
accelerated prepayments of mortgages, and the fund may have to reinvest the
proceeds from the prepayments at the lower prevailing interest rates.
For certain types of ARMS, the rate of amortization of principal, as well as
interest payments, change in accordance with movements in a pre-specified,
published interest rate index. There are several categories of indices,
including those based on U.S. Treasury securities, those derived from a
calculated measure, such as a cost of funds index, or a moving average of
mortgage rates and actual market rates. The amount of interest due to an ARMS
holder is calculated by adding a specified additional amount, the "margin,"
to the index, subject to limitations or "caps" on the maximum and minimum
interest that is charged to the mortgagor during the life of the mortgage or
to maximum and minimum changes to that interest rate during a given period.
The interest rates paid on the ARMs are generally readjusted at intervals of
one year or less, although instruments with longer resets such as three,
five, seven and ten years are also permissible investments.
The underlying mortgages that collateralize the ARMs will frequently have
caps and floors which limit the maximum amount by which the loan rate to the
residential borrower may change up or down (1) per reset or adjustment
interval and (2) over the life of the loan. Some residential mortgage loans
restrict periodic adjustments by limiting changes in the borrower's monthly
principal and interest payments rather than limiting interest rate changes.
These payment caps may result in negative amortization, which can extend the
average life of the securities. Since most ARMs in the fund's portfolio will
generally have annual reset limits or caps of 100 to 200 basis points,
fluctuations in interest rates above these levels could cause the mortgage
securities to "cap out" and to behave more like long-term, fixed-rate debt
securities.
Mortgage loan pools offering pass-through investments in addition to those
described above may be created in the future. The mortgages underlying these
securities may be alternative mortgage instruments, that is, mortgage
instruments whose principal or interest payments may vary or whose terms to
maturity may differ from customary long-term, fixed-rate mortgages. As new
types of mortgage securities are developed and offered to investors,
Securities Portfolio may invest in them if they are consistent with the
fund's goal, policies and quality standards.
ADJUSTABLE RATE SECURITIES (ARS) Securities Portfolio will invest primarily
in ARS. ARS are debt securities with interest rates that are adjusted
periodically pursuant to a pre-set formula and interval. Movements in the
relevant index, as well as the applicable spread relating to the ARS, will
affect the interest paid on ARS and, therefore, the current income earned by
the Securities Portfolio by investing in ARS. (See "Resets" below.)
The interest rates on ARS are generally readjusted periodically to an
increment over the chosen interest rate index. These readjustments occur at
intervals ranging from one to sixty months. The degree of volatility in the
market value of the securities held by Securities Portfolio and of the net
asset value of Securities Portfolio's shares will be a function primarily of
the length of the adjustment period and the degree of volatility in the
applicable indices. It will also be a function of the maximum increase or
decrease of the interest rate adjustment on any one adjustment date, in any
one year, and over the life of the securities. These maximum increases and
decreases are typically referred to as "caps" and "floors," respectively.
Securities Portfolio does not seek to maintain an overall average cap or
floor, although the manager will consider caps or floors in selecting ARS for
Securities Portfolio.
While Securities Portfolio does not attempt to maintain a stable net asset
value per share, during periods when short-term interest rates move within
the caps and floors of the securities held by Securities Portfolio, the
fluctuation in market value of the ARS held by Securities Portfolio is
expected to be relatively limited, since the interest rates on the ARS
generally adjust to market rates within a short period of time. In periods of
substantial short-term volatility in interest rates, the value of Securities
Portfolio's holdings may fluctuate more substantially because the caps and
floors of its ARS may not permit the interest rates to adjust to the full
extent of the movements in the market rates during any one adjustment period.
In the event of dramatic increases in interest rates, the lifetime caps on
the ARS may prevent the securities from adjusting to prevailing rates over
the term of the loan. In this case, the market value of the ARS may be
substantially reduced, with a corresponding decline in Securities Portfolio's
net asset value.
RESETS The interest rates paid on ARMS, ARS and CMOs generally are readjusted
at intervals of one year or less to an increment over some predetermined
interest rate index, although some securities may have intervals as long as
five years. There are three main categories of indices: those based on LIBOR,
those based on U.S. Treasury securities and those derived from a calculated
measure such as a cost of funds index or a moving average of mortgage rates.
Commonly used indices include the one-, three-, and five-year
constant-maturity Treasury rates; the three-month Treasury bill rate; the
180-day Treasury bill rate; rates on longer-term Treasury securities; the
11th District Federal Home Loan Bank Cost of Funds; the National Median Cost
of Funds; the one-, three-, six-month, or one-year LIBOR; the prime rate of a
specific bank; or commercial paper rates. Some indices, such as the one-year
constant-maturity Treasury rate, closely mirror changes in market interest
rate levels. Others, such as the 11th District Federal Home Loan Bank Cost of
Funds, tend to lag behind changes in market interest rate levels and tend to
be somewhat less volatile.
CAPS AND FLOORS The underlying mortgages that collateralize ARMS and CMOs
will frequently have caps and floors that limit the maximum amount by which
the loan rate to the borrower may change up or down (a) per reset or
adjustment interval and (b) over the life of the loan. Some residential
mortgage loans restrict periodic adjustments by limiting changes in the
borrower's monthly principal and interest payments rather than limiting
interest rate changes. These payment caps may result in negative amortization.
STRIPPED MORTGAGE SECURITIES Securities Portfolio may invest in stripped
mortgage securities, which are derivative multi-class mortgage securities.
The stripped mortgage securities in which Securities Portfolio may invest
will only be issued or guaranteed by the U.S. government, its agencies or
instrumentalities.
Stripped mortgage securities are usually structured with two classes, each
receiving different proportions of the interest and principal distributions
on a pool of mortgage assets. A common type of stripped mortgage security has
one class that receives some of the interest and most of the principal from
the mortgage assets, while the other class receives most of the interest and
the remainder of the principal. In the most extreme case, one class receives
all of the interest (the interest-only or "IO" class), while the other class
receives all of the principal (the principal-only or "PO" class). The yield
to maturity on an IO class is extremely sensitive not only to changes in
prevailing interest rates but also to the rate of principal payments
(including prepayments) on the underlying mortgage assets. A rapid rate of
principal payments may have a material adverse effect on the yield to
maturity of any IO class held by the fund. If the underlying mortgage assets
experience greater than anticipated prepayments of principal, the fund may
fail to recoup its initial investment fully, even if the securities are rated
in the highest rating categories, AAA or Aaa, by S&P or Moody's, respectively.
Stripped mortgage-backed securities have greater market volatility than other
types of mortgage securities in which the fund invests and are purchased and
sold by institutional investors, such as the fund, through several investment
banking firms acting as brokers or dealers. Some of these securities may be
illiquid. The staff of the SEC has indicated that only government-issued IO
or PO securities that are backed by fixed-rate mortgages may be deemed to be
liquid, if procedures with respect to determining liquidity are established
by a fund's board of trustees. The board of trustees may, in the future,
adopt procedures that would permit the fund to acquire, hold and treat as
liquid government-issued IO and PO securities. At the present time, however,
all such securities will be treated as illiquid and will, together with any
other illiquid investments, not exceed 10% of Security Portfolio's net
assets. This position may be changed in the future, without notice to
shareholders, in response to the staff's continued reassessment of this
matter, as well as to changing market conditions.
ASSET-BACKED SECURITIES Securities Portfolio may invest in asset-backed
securities, including adjustable-rate asset-backed securities that have
interest rates that reset at periodic intervals. Asset-backed securities are
similar to mortgage-backed securities. The underlying assets, however, may
include receivables on home equity and credit card loans, and automobile,
mobile home, and recreational vehicle loans and leases and other assets.
Asset-backed securities are issued in either a pass-through structure
(similar to a mortgage pass-through structure) or a pay-through structure
(similar to a CMO structure). There may be other types of asset-backed
securities that are developed in the future in which the fund may invest. In
general, asset-backed securities contain shorter maturities than bonds or
mortgage loans. The rate of principal payment on asset-backed securities
generally depends on the rate of principal payments received on the
underlying assets. The payment rate may be affected by various economic and
other factors. Therefore, the yield may be difficult to predict, and actual
yield to maturity may be more or less than the anticipated yield to maturity.
The credit quality of most asset-backed securities depends primarily on the
credit quality of the underlying assets, how well the issuers of the
securities are insulated from the credit risk of the originator or affiliated
entities, and the amount of credit support provided to the securities.
Asset-backed securities entail certain risks not presented by mortgage-backed
securities as they do not have the benefit of the same type of security
interests in the underlying collateral. Credit card receivables are generally
unsecured and a number of state and federal consumer credit laws give debtors
the right to set off certain amounts owed on the credit cards, thereby
reducing the outstanding balance. In the case of automobile receivables,
there is a risk that the holders may not have either a proper or first
security interest in all of the obligations backing such receivables due to
the large number of vehicles involved in a typical issuance and the technical
requirements imposed under state laws. Therefore, recoveries on repossessed
collateral may not always be available to support payments on securities
backed by these receivables.
Asset-backed securities are often backed by a pool of assets representing the
obligations of a number of different parties. To lessen the effect of
failures by obligors on the underlying assets to make payments, asset-backed
securities may contain elements of credit support. Credit support falls into
two categories: (i) liquidity protection and (ii) protection against losses
from the default by an obligor on the underlying assets. Liquidity protection
refers to advances, generally provided by the entity administering the pool
of assets, to ensure that the receipt of payments due on the underlying pool
is timely. Protection against losses from the default by an obligor enhances
the likelihood of payments of the obligations on at least some of the assets
in the pool. This protection may be provided through guarantees, insurance
policies or letters of credit obtained by the issuer or sponsor from third
parties, through various means of structuring the transaction, or through a
combination of these approaches. The fund will not pay any additional fees
for credit support, although the existence of credit support may increase the
price of a security.
Examples of credit support arising out of the structure of the transaction
include "senior subordinated securities" (multiple class securities with one
or more classes that are subordinate to the other classes with respect to the
payment of principal and interest, with the result that defaults on the
underlying assets are borne first by the holders of the subordinated class),
creation of "reserve funds" (where cash or investments, sometimes funded from
a portion of the payments on the underlying assets, are held in reserve
against future losses), and "over-collateralization" (where the scheduled
payments on, or the principal amount of, the underlying assets exceeds that
required to make payments on the securities and pay any servicing or other
fees). The degree of credit support provided is generally based on historical
information respecting the level of credit risk associated with the
underlying assets. Delinquencies or losses in excess of those anticipated
could adversely affect the return on an investment in the securities.
MORTGAGE DOLLAR ROLLS Securities Portfolio may enter into mortgage dollar
rolls in which the fund sells mortgage-backed securities for delivery in the
current month and simultaneously contracts to repurchase substantially
similar (name, type, coupon and maturity) securities on a specified future
date. During the period between the sale and repurchase, the fund forgoes
principal and interest paid on the mortgage-backed securities. The fund is
compensated by the difference between the current sale price and the lower
price for the future purchase (often referred to as the "drop"), as well as
by the interest earned on the cash proceeds of the initial sale. A "covered
roll" is a specific type of mortgage dollar roll for which there is an
offsetting cash position or a cash equivalent security position. The fund
could suffer a loss if the contracting party fails to perform the future
transaction in that the fund may not be able to buy back the mortgage-backed
securities it initially sold.
FLOATERS Securities Portfolio may invest up to 5% of its total assets in
inverse floaters. Inverse floaters are instruments with floating or variable
interest rates that move in the opposite direction of short-term interest
rates and move at an accelerated speed. Securities Portfolio may also invest
up to 5% of its total assets in super floaters. Super floaters are
instruments that float at a greater than 1 to 1 ratio with the London
Interbank Offered Rate (LIBOR) and are used as a hedge against the risk that
LIBOR floaters become "capped" and can no longer float higher.
DERIVATIVE SECURITIES Some types of investments discussed in the prospectus
and this SAI may be considered "derivative securities." Derivatives are
broadly defined as financial instruments whose performance is derived, at
least in part, from the performance of an underlying asset. To the extent
indicated, the fund may invest in CMOs, REMICs, multi-class pass-throughs,
stripped mortgage securities, other asset-backed securities, and uncovered
mortgage dollar rolls. Some, all or the component parts of these instruments
may be considered derivatives.
Derivative securities may be used to help manage risks relating to interest
rates and other market factors, to increase liquidity, and/or to invest in a
particular instrument in a more efficient or less expensive way. The fund
will not necessarily use these instruments or investment strategies to the
full extent permitted unless the manager believes that doing so will help the
fund achieve its goal, and the fund will not use all instruments or
strategies at all times.
WHEN-ISSUED AND DELAYED-DELIVERY TRANSACTIONS The fund may buy U.S.
government obligations and other securities on a "when-issued" or
"delayed-delivery" basis. These transactions are arrangements under which the
fund buys securities with payment and delivery scheduled for a future time,
generally within 30 to 60 days. Purchases of securities on a when-issued or
delayed-delivery basis are subject to market fluctuation and the risk that
the value or yield at delivery may be more or less than the purchase price or
the yield available when the transaction was entered into. Although the fund
will generally buy securities on a when-issued basis with the intention of
acquiring the securities, it may sell the securities before the settlement
date if the fund deems it to be advisable. When the fund is the buyer, it
will maintain, in a segregated account with its custodian bank, cash or
high-grade marketable securities having an aggregate value equal to the
amount of its purchase commitments until payment is made. To the extent the
fund engages in when-issued and delayed-delivery transactions, it does so
only for the purpose of acquiring portfolio securities consistent with its
investment goal and policies and not for the purpose of investment leverage.
In when-issued and delayed-delivery transactions, the fund relies on the
seller to complete the transaction. The seller's failure to do so may cause
the fund to miss a price or yield considered advantageous. Securities
purchased on a when-issued or delayed-delivery basis generally do not earn
interest until their scheduled delivery date. The fund is not subject to any
percentage limit on the amount of its assets that may be invested in
when-issued purchase obligations. Entering into a when issued or delayed
delivery transaction is a form of leverage that may affect changes in net
asset value to a greater extent.
TEMPORARY INVESTMENTS When the manager believes that the securities trading
markets or the economy are experiencing excessive volatility or a prolonged
general decline, or other adverse conditions exist, it may invest the fund's
portfolio in a temporary defensive manner. Under such circumstances, the fund
may invest up to 100% of its assets in U.S. government securities, CDs of
banks having total assets in excess of $5 billion and repurchase agreements.
CASH AND CASH EQUIVALENTS The fund may retain its underlying assets in cash
and cash equivalents, including Treasury bills, commercial paper, and
short-term bank obligations such as CDs, bankers' acceptances, and repurchase
agreements. The fund intends, however, to retain in cash only as much of its
underlying assets as is considered desirable or expedient under existing
market conditions.
REPURCHASE AGREEMENTS The fund will generally have a portion of its assets in
cash or cash equivalents for a variety of reasons including waiting for a
special investment opportunity or taking a defensive position. To earn income
on this portion of its assets, the fund may enter into repurchase agreements
with certain banks and broker-dealers. Under a repurchase agreement, the fund
agrees to buy a U.S. government security from one of these issuers and then
to sell the security back to the issuer after a short period of time
(generally, less than seven days) at a higher price. The bank or
broker-dealer must transfer to the fund's custodian, securities with an
initial value of at least 102% of the dollar amount invested by the fund in
each repurchase agreement. Repurchase agreements may involve risks in the
event of default or insolvency of the seller, including possible delays or
restrictions upon the fund's ability to dispose of the underlying securities.
The fund will enter into repurchase agreements only with parties who meet
creditworthiness standards approved by the board of trustees, i.e., banks or
broker-dealers which have been determined by the manager to present no
serious risk of becoming involved in bankruptcy proceedings within the time
frame contemplated by the repurchase transaction. Please see "Risks -
Repurchase agreement risk" below for more information.
SECURITIES LENDING Consistent with procedures approved by the board of
trustees and subject to the following conditions, the fund may each lend its
portfolio securities to qualified securities dealers or other institutional
investors, if such loans do not exceed 10% of the value of the fund's total
assets at the time of the most recent loan. Such loans must be secured by
collateral (consisting of any combination of cash, U.S. government securities
or irrevocable letters of credit) in an amount equal (on a daily
marked-to-market basis) to the current market value of the securities loaned.
The fund retains all or a portion of the interest received on the investment
of the cash collateral or receive a fee from the borrower. The fund will
continue to receive any interest or dividends paid on any loaned securities
and will continue to have voting rights with respect to the securities.
However, as with other extensions of credit, there are risks of delay in
recovery or even loss of rights in the collateral should the borrower fail.
ILLIQUID INVESTMENTS The fund's policy is not to invest more than 10% of its
net assets in illiquid securities. Illiquid securities are securities that
cannot be disposed of within seven days in the normal course of business at
approximately the amount at which the fund has valued the securities and
include, among other things, repurchase agreements of more than seven days
duration and other securities which are not readily marketable.
INVESTMENT RESTRICTIONS Each fund has adopted the following restrictions as
fundamental policies. This means they may only be changed if the change is
approved by (i) more than 50% of the fund's outstanding shares or (ii) 67% or
more of the fund's shares present at a shareholder meeting if more than 50%
of the fund's outstanding shares are represented at the meeting in person or
by proxy, whichever is less.
Each fund may not:
1. In the case of the Mortgage Portfolio, borrow money or mortgage or pledge
any of its assets, except that borrowings (and a pledge of assets therefor)
for temporary or emergency purposes may be made from banks in an amount up to
20% of total asset value. The Mortgage Portfolio will not purchase additional
investment securities while borrowings in excess of 5% of total assets are
outstanding. The Securities Portfolio may not borrow money or mortgage or
pledge any of its assets in an amount exceeding 33 1/3% of the value of the
fund's total assets (including the amount borrowed) at the time the borrowing
was made.
2. Buy any securities on "margin" or sell any securities "short," except for
any delayed delivery or when-issued securities as described in the
registration statement as amended.
3. Lend any funds or other assets, except by the purchase of bonds,
debentures, notes or other debt securities as described in the registration
statement as amended, and except that securities of the fund may be loaned to
qualified broker-dealers or other institutional investors if at least 102%
cash collateral is pledged and maintained by the borrower, provided such
loans may not be made if, as a result, the aggregate of such loans exceeds
10% of the value of the fund's total assets at the time of the most recent
loan. Also, the entry into repurchase agreements is not considered a loan for
purposes of this restriction.
4. Act as underwriter of securities issued by other persons except insofar as
the fund may be technically deemed an underwriter under the federal
securities laws in connection with the disposition of portfolio securities.
5. Invest more than 5% of the value of the total assets of the fund in the
securities of any one issuer, but this limitation does not apply to
investments in securities issued or guaranteed by the U.S. government or its
agencies or instrumentalities.
6. Purchase the securities of any issuer which would result in owning more
than 10% of any class of the outstanding voting securities of such issuer.
7. Purchase from or sell to its officers and trustees, or any firm of which
any officer or trustee is a member, as principal, any securities, but may
deal with such persons or firms as brokers and pay a customary brokerage
commission; or retain securities of any issuer, if to the knowledge of the
fund, one or more of its officers, trustees or investment advisor, own
beneficially more than one-half of 1% of the securities of such issuer and
all such officers and trustees together own beneficially more than 5% of such
securities.
8. Purchase any securities issued by a corporation which has not been in
continuous operation for three years, but such period may include the
operation of a predecessor.
9. Acquire, lease or hold real estate. (Does not preclude investments in
securities collateralized by real estate or interests therein.)
10. Invest in commodities and commodity contracts, puts, calls, straddles,
spreads or any combination thereof, or interests in oil, gas or other mineral
exploration or development program.
11. Invest in companies for the purpose of exercising control or management.
12. Purchase securities of other investment companies, except to the extent
permitted by the Investment Company Act of 1940, as amended (1940 Act), or in
the case of the Securities Portfolio, pursuant to an exemption therefrom,
granted by the Securities and Exchange Commission (SEC). To the extent
permitted by exemptions which may be granted under the 1940 Act, each fund
may invest in shares of one or more money market funds managed by Franklin
Advisers, Inc. or its affiliates.
13. Issue senior securities as defined in the 1940 Act except that this
restriction will not prevent the fund from entering into repurchase
agreements or making borrowings, mortgages and pledges as permitted by
restriction #1 above.
If a bankruptcy or other extraordinary event occurs concerning a particular
security the fund owns, the fund may receive stock, real estate, or other
investments that the fund would not, or could not, buy. If this happens, each
fund intends to sell such investments as soon as practicable while maximizing
the return to shareholders.
If a percentage restriction is met at the time of investment, a later
increase or decrease in the percentage due to a change in the value or
liquidity of portfolio securities or the amount of assets will not be
considered a violation of any of the foregoing restrictions.
RISKS
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There is no assurance that the funds will meet their investment goals.
Investments in securities that have potential to increase in value may be
subject to a greater degree of risk and may be more volatile than other types
of investments.
The value of your shares will increase as the value of the securities owned
by the fund increases and will decrease as the value of the fund's
investments decrease. In this way, you participate in any change in the value
of the securities owned by the fund. In addition to the factors that affect
the value of any particular security that the fund owns, the value of fund
shares may also change with movements in the stock market as a whole.
INTEREST RATE RISK Changes in interest rates will affect the value of the
fund's portfolio and its share price. Rising interest rates, which often
occur during times of inflation or a growing economy, are likely to have a
negative effect on the value of the fund's shares. Interest rates have
increased and decreased in the past. These changes are unpredictable. To the
extent the fund invests in fixed-rate securities, the value of the fund's
shares will be more sensitive to interest rate changes than if the fund were
fully invested in adjustable-rate securities.
MORTGAGE SECURITIES RISK The mortgage securities in which the fund invests
differ from conventional bonds in that principal is paid over the life of the
mortgage security rather than at maturity. As a result, the holder of the
mortgage securities (i.e., the fund) receives monthly scheduled payments of
principal and interest and may receive unscheduled principal payments
representing prepayments on the underlying mortgages. When the holder
reinvests the payments and any unscheduled prepayments of principal it
receives, it may receive a rate of interest that is lower than the rate on
the existing mortgage securities. For this reason, mortgage securities may be
less effective than other types of U.S. government securities as a means of
"locking in" long-term interest rates. In general, fixed-rate mortgage
securities have greater exposure to this "prepayment risk" than ARMS.
The market value of mortgage securities, like other U.S. government
securities, will generally vary inversely with changes in market interest
rates, declining when interest rates rise and rising when interest rates
decline. An unexpected rise in interest rates could extend the life of a
mortgage security because of a lower than expected level of prepayments,
potentially reducing the security's value and increasing its volatility.
ARMS, however, have less risk of a decline in value during periods of rapidly
rising rates but, like other mortgage securities, may also have less
potential for capital appreciation than other investments of comparable
maturities due to the likelihood of increased prepayments of mortgages as
interest rates decline. To the extent market interest rates increase beyond
applicable caps or maximum rates on ARMS or beyond the coupon rates of
fixed-rate mortgage securities, the market value of the mortgage security
would likely decline to the same extent as a conventional fixed-rate security.
In addition, to the extent mortgage securities are purchased at a premium,
mortgage foreclosures and unscheduled principal prepayments may result in
some loss of the holder's principal investment to the extent of the premium
paid. On the other hand, if mortgage securities are purchased at a discount,
both a scheduled payment of principal and an unscheduled prepayment of
principal will increase current and total returns and will accelerate the
recognition of income that, when distributed to shareholders, will be taxable
as ordinary income.
Some of the CMOs in which the fund may invest may have less liquidity than
other types of mortgage securities. As a result, it may be difficult or
impossible to sell the securities at an advantageous price or time under
certain circumstances.
With respect to pass-through mortgage pools issued by private issuers, there
is no assurance that private insurers of the securities will be able to meet
their obligations. Although the market for privately issued mortgage
securities is becoming increasingly liquid, securities issued by certain
private organizations may not be readily marketable. These securities are
subject to Securities Portfolio's limit with respect to illiquid investments.
ADJUSTABLE RATE SECURITIES RISK ARS have several characteristics that you
should consider before investing in Securities Portfolio. As indicated above,
the interest rate reset features of ARS held by the Securities Portfolio will
reduce the effect on Securities Portfolio's net asset value per share caused
by changes in market interest rates. The market value of ARS and, therefore,
Securities Portfolio's net asset value may vary, however, to the extent that
the current interest rate on ARS differs from market interest rates during
periods between the interest rate reset dates. These variations in value
occur inversely to changes in the market interest rates. Thus, if market
interest rates rise above the current rates on the securities, the value of
the securities will decrease, and if market interest rates fall below the
current rate on the securities, the value of the securities will rise. The
longer the adjustment intervals on ARS held by Securities Portfolio, the
greater the potential for fluctuations in Securities Portfolio's net asset
value.
As an investor in Securities Portfolio, you will receive increased income as
a result of upward adjustments of the interest rates on ARS held by
Securities Portfolio in response to market interest rates. Securities
Portfolio, however, will not benefit from increases in market interest rates
once the rates rise to the point where they cause the rates on ARS to reach
their maximum adjustment rate annual or lifetime caps. In addition, because
of their interest rate adjustment feature, ARS are not an effective means of
"locking-in" attractive interest rates for periods in excess of the
adjustment period.
In the case of privately issued ARMS where the underlying mortgage assets
carry no agency or instrumentality guarantee, the mortgagors on the loans
underlying ARMS are often qualified for the loans on the basis of the
original payment amounts. The mortgagor's income may not be sufficient to
enable the mortgagor to continue making loan payments as the payments
increase, resulting in a greater likelihood of default. Conversely, any
benefits from an increase in Securities Portfolio's net asset value caused by
falling market interest rates is reduced by the potential for a decline in
the interest rates paid on ARS held by Securities Portfolio. Securities
Portfolio, therefore, is not designed for investors seeking capital
appreciation.
ASSET-BACKED SECURITIES RISK Asset-backed securities entail certain risks not
present with mortgage-backed securities, because they do not have the benefit
of the same type of security interests in the underlying collateral. Credit
card receivables are generally unsecured, and a number of state and federal
consumer credit laws give debtors the right to set off certain amounts owed
on credit cards, thereby reducing the outstanding balance. In the case of
automobile receivables, there is a risk that the holders may not have either
a proper or first security interest in all of the obligations backing the
receivables due to the large number of vehicles involved in a typical
issuance and the technical requirements imposed under state laws. Therefore,
recoveries on repossessed collateral may not always be available to support
payments on securities backed by these receivables.
REPURCHASE AGREEMENT RISK The use of repurchase agreements involves certain
risks. For example, if the other party to the agreement defaults on its
obligation to repurchase the underlying security at a time when the value of
the security has declined, the fund may incur a loss upon disposition of the
security. If the other party to the agreement becomes insolvent and subject
to liquidation or reorganization under the bankruptcy code or other laws, a
court may determine that the underlying security is collateral for a loan by
the fund not within the control of the fund, and therefore the realization by
the fund on the collateral may be automatically stayed. Finally, it is
possible that the fund may not be able to substantiate its interest in the
underlying security and may be deemed an unsecured creditor of the other
party to the agreement. While the manager acknowledges these risks, it is
expected that if repurchase agreements are otherwise deemed useful to the
fund, these risks can be controlled through careful monitoring procedures.
13. MANAGEMENT OF THE REGISTRANT
(A) BOARD OF TRUSTEES
The trust has a board of trustees. The board is responsible for the overall
management of the trust, including general supervision and review of each
fund's investment activities. The board, in turn, elects the officers of the
trust who are responsible for administering the trust's day-to-day
operations.
(B) MANAGEMENT INFORMATION
The affiliations of the officers and board members and their principal
occupations for the past five years are shown below.
PRINCIPAL OCCUPATION(S)
NAME, AGE AND ADDRESS POSITIONS HELD WITH THE DURING THE PAST FIVE
TRUST YEARS
Frank H. Abbott, III (77)
1045 Sansome Street
San Francisco, CA 94111
Trustee
President and Director, Abbott Corporation (an investment company); director
or trustee, as the case may be, of 27 of the investment companies in the
Franklin Templeton Group of Funds; and formerly, Director, MotherLode Gold
Mines Consolidated (gold mining) and Vacu-Dry Co. (food processing).
Harris J. Ashton (66)
191 Clapboard Ridge Road
Greenwich, CT 06830
Trustee
Director, RBC Holdings, Inc. (bank holding company) and Bar-S Foods (meat
packing company); director or trustee, as the case may be, of 49 of the
investment companies in the Franklin Templeton Group of Funds; and formerly,
President, Chief Executive Officer and Chairman of the Board, General Host
Corporation (nursery and craft centers).
S. Joseph Fortunato (66)
Park Avenue at Morris County
P.O. Box 1945
Morristown, NJ 07962-1945
Trustee
Member of the law firm of Pitney, Hardin, Kipp & Szuch; director or trustee,
as the case may be, of 51 of the investment companies in the Franklin
Templeton Group of Funds.
*Charles B. Johnson (66)
777 Mariners Island Blvd.
San Mateo, CA 94404
Chairman of the Board and Trustee
President, Chief Executive Officer and Director, Franklin Resources, Inc.;
Chairman of the Board and Director, Franklin Advisers, Inc., Franklin
Advisory Services, Inc., Franklin Investment Advisory Services, Inc. and
Franklin Templeton Distributors, Inc.; Director, Franklin/Templeton Investor
Services, Inc. and Franklin Templeton Services, Inc.; officer and/or director
or trustee, as the case may be, of most of the other subsidiaries of Franklin
Resources, Inc. and of 50 of the investment companies in the Franklin
Templeton Group of Funds.
*Charles E. Johnson (42)
500 East Broward Blvd.
Fort Lauderdale, FL 33394-3091
President and Trustee
Senior Vice President and Director, Franklin Resources, Inc.; Senior Vice
President, Franklin Templeton Distributors, Inc.; President and Director,
Templeton Worldwide, Inc.; Chairman and Director, Templeton Investment
Counsel, Inc.; Vice President, Franklin Advisers, Inc.; officer and/or
director of some of the other subsidiaries of Franklin Resources, Inc.; and
officer and/or director or trustee, as the case may be, of 34 of the
investment companies in the Franklin Templeton Group of Funds.
*Rupert H. Johnson, Jr. (58)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President and Trustee
Executive Vice President and Director, Franklin Resources, Inc. and Franklin
Templeton Distributors, Inc.; President and Director, Franklin Advisers, Inc.
and Franklin Investment Advisory Services, Inc.; Senior Vice President and
Director, Franklin Advisory Services, Inc.; Director, Franklin/Templeton
Investor Services, Inc.; and officer and/or director or trustee, as the case
may be, of most of the other subsidiaries of Franklin Resources, Inc. and of
53 of the investment companies in the Franklin Templeton Group of Funds.
Frank W.T. LaHaye (69)
20833 Stevens Creek Blvd.
Suite 102
Cupertino, CA 95014
Trustee
General Partner, Miller & LaHaye, which is the General Partner of Peregrine
Ventures II (venture capital firm); Director, Quarterdeck Corporation
(software firm) and Digital Transmission Systems, Inc. (wireless
communications); director or trustee, as the case may be, of 27 of the
investment companies in the Franklin Templeton Group of Funds; and formerly,
Director, Fischer Imaging Corporation (medical imaging systems) and General
Partner, Peregrine Associates, which was the General Partner of Peregrine
Ventures (venture capital firm).
*William J. Lippman (74)
One Parker Plaza, 16th Floor
Fort Lee, NJ 07024
Trustee
Senior Vice President, Franklin Resources, Inc. and Franklin Management,
Inc.; President and Director, Franklin Advisory Services, Inc.; and officer
and/or director or trustee, as the case may be, of six of the investment
companies in the Franklin Templeton Group of Funds.
Gordon S. Macklin (70)
8212 Burning Tree Road
Bethesda, MD 20817
Trustee
Director, Fund American Enterprises Holdings, Inc. (holding company), Martek
Biosciences Corporation, MCI WorldCom (information services), MedImmune, Inc.
(biotechnology), Spacehab, Inc. (aerospace services) and Real 3D (software);
director or trustee, as the case may be, of 49 of the investment companies in
the Franklin Templeton Group of Funds; and formerly, Chairman, White River
Corporation (financial services) and Hambrecht and Quist Group (investment
banking), and President, National Association of Securities Dealers, Inc.
Harmon E. Burns (53)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
Executive Vice President and Director, Franklin Resources, Inc., Franklin
Templeton Distributors, Inc. and Franklin Templeton Services, Inc.; Executive
Vice President, Franklin Advisers, Inc.; Director, Franklin Investment
Advisory Services, Inc. and Franklin/Templeton Investor Services, Inc.; and
officer and/or director or trustee, as the case may be, of most of the other
subsidiaries of Franklin Resources, Inc. and of 53 of the investment
companies in the Franklin Templeton Group of Funds.
Martin L. Flanagan (38)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President and Chief Financial Officer
Senior Vice President and Chief Financial Officer, Franklin Resources, Inc.,
Franklin/Templeton Investor Services, Inc. and Franklin Mutual Advisers,
Inc.; Executive Vice President and Director, Templeton Worldwide, Inc.;
Executive Vice President, Chief Operating Officer and Director, Templeton
Investment Counsel, Inc.; Executive Vice President and Chief Financial
Officer, Franklin Advisers, Inc.; Chief Financial Officer, Franklin Advisory
Services, Inc. and Franklin Investment Advisory Services, Inc.; President and
Director, Franklin Templeton Services, Inc.; officer and/or director of some
of the other subsidiaries of Franklin Resources, Inc.; and officer and/or
director or trustee, as the case may be, of 53 of the investment companies in
the Franklin Templeton Group of Funds.
Deborah R. Gatzek (50)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President and Secretary
Senior Vice President and General Counsel, Franklin Resources, Inc.; Senior
Vice President, Franklin Templeton Services, Inc. and Franklin Templeton
Distributors, Inc.; Executive Vice President, Franklin Advisers, Inc.; Vice
President, Franklin Advisory Services, Inc. and Franklin Mutual Advisers,
Inc.; Vice President, Chief Legal Officer and Chief Operating Officer,
Franklin Investment Advisory Services, Inc.; and officer of 54 of the
investment companies in the Franklin Templeton Group of Funds.
Diomedes Loo-Tam (60)
777 Mariners Island Blvd.
San Mateo, CA 94404
Treasurer and Principal Accounting Officer
Senior Vice President, Franklin Templeton Services, Inc.; and officer of 32
of the investment companies in the Franklin Templeton Group of Funds.
Edward V. McVey (61)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
Senior Vice President and National Sales Manager, Franklin Templeton
Distributors, Inc.; and officer of 28 of the investment companies in the
Franklin Templeton Group of Funds.
*This board member is considered an "interested person" under federal
securities laws.
Note: Charles B. Johnson and Rupert H. Johnson, Jr. are brothers and the
father and uncle, respectively, of Charles E. Johnson.
The trust pays noninterested board members $160 per month plus $155 per
meeting attended. Board members who serve on the audit committee of the trust
and other funds in the Franklin Templeton Group of Funds receive a flat fee
of $2,000 per committee meeting attended, a portion of which is allocated to
the trust. Members of a committee are not compensated for any committee
meeting held on the day of a board meeting. Noninterested board members may
also serve as directors or trustees of other funds in the Franklin Templeton
Group of Funds and may receive fees from these funds for their services. The
fees payable to noninterested board members by the trust are subject to
reductions resulting from fee caps limiting the amount of fees payable to
board members who serve on other boards within the Franklin Templeton Group
of Funds. The following table provides the total fees paid to noninterested
board members by the trust and by the Franklin Templeton Group of Funds.
NUMBER OF BOARDS
TOTAL FEES TOTAL FEES RECEIVED IN THE FRANKLIN
RECEIVED FROM THE FRANKLIN TEMPLETON GROUP OF
FROM THE TEMPLETON GROUP OF FUNDS ON WHICH
NAME TRUST 1 FUNDS 2 EACH SERVES 3
Frank H. Abbott, III $1,659 $159,051 27
Harris J. Ashton 1,808 361,157 49
S. Joseph Fortunato 1,726 367,835 51
Frank W.T. LaHaye 1,814 163,753 27
Gordon S. Macklin 1,808 361,157 49
1. For the fiscal year ended October 31, 1998. During the period from
November 1, 1997, through May 31, 1998, fees at the rate of $50 per month
plus $50 per board meeting attended were in effect.
2. For the calendar year ended December 31, 1998.
3. We base the number of boards on the number of registered investment
companies in the Franklin Templeton Group of Funds. This number does not
include the total number of series or funds within each investment company
for which the board members are responsible. The Franklin Templeton Group of
Funds currently includes 54 registered investment companies, with
approximately 164 U.S. based funds or series.
Noninterested board members are reimbursed for expenses incurred in
connection with attending board meetings, paid pro rata by each fund in the
Franklin Templeton Group of Funds for which they serve as director or
trustee. No officer or board member received any other compensation,
including pension or retirement benefits, directly or indirectly from the
fund or other funds in the Franklin Templeton Group of Funds. Certain
officers or board members who are shareholders of Franklin Resources, Inc.
may be deemed to receive indirect remuneration by virtue of their
participation, if any, in the fees paid to its subsidiaries.
Board members historically have followed a policy of having substantial
investments in one or more of the funds in the Franklin Templeton Group of
Funds, as is consistent with their individual financial goals. In February
1998, this policy was formalized through adoption of a requirement that each
board member invest one-third of fees received for serving as a director or
trustee of a Templeton fund in shares of one or more Templeton funds and
one-third of fees received for serving as a director or trustee of a Franklin
fund in shares of one or more Franklin funds until the value of such
investments equals or exceeds five times the annual fees paid such board
member. Investments in the name of family members or entities controlled by a
board member constitute fund holdings of such board member for purposes of
this policy, and a three year phase-in period applies to such investment
requirements for newly elected board members. In implementing such policy, a
board member's fund holdings existing on February 27, 1998, are valued as of
such date with subsequent investments valued at cost.
ITEM 14. CONTROL PERSONS AND PRINCIPAL HOLDERS OF SECURITIES
(a) As of January 31, 1999, the Franklin Adjustable Rate Securities Fund, a
series of the Franklin Investors Securities Trust (FIST), owned of record and
beneficially 99.94% of the outstanding voting securities of the Securities
Portfolio. The Franklin Adjustable U.S. Government Securities Fund, also a
series of FIST, owned of record and beneficially 99.23% of the outstanding
voting securities of the Mortgage Portfolio. These two series of FIST could
each be deemed to control the respective fund or trust, as that term is
defined under the Investment Company Act of 1940 Act. FIST was organized as a
Massachusetts business trust and is located at the address of the registrant
set forth on the cover of this amendment to the registration statement.
(b) Except for the companies referred to above, no other person was known to
hold beneficially or of record more than 5% of either fund's outstanding
shares.
(c) As of January 31, 1999, the officers and board members did not own of
record or beneficially any shares of either fund. The board members may own
shares in other funds in the Franklin Templeton Group of Funds.
ITEM 15. INVESTMENT ADVISORY AND OTHER SERVICES
MANAGER AND SERVICES PROVIDED Each fund's manager is Franklin Advisers, Inc.
The manager is wholly owned by Franklin Resources, Inc. (Resources), a
publicly owned company engaged in the financial services industry through its
subsidiaries. Charles B. Johnson and Rupert H. Johnson, Jr. are the principal
shareholders of Resources.
The manager provides investment research and portfolio management services,
and selects the securities for each fund to buy, hold or sell. The manager
also selects the brokers who execute the fund's portfolio transactions. The
manager provides periodic reports to the board, which reviews and supervises
the manager's investment activities. To protect the fund, the manager and its
officers, directors and employees are covered by fidelity insurance.
The manager and its affiliates manage numerous other investment companies and
accounts. The manager may give advice and take action with respect to any of
the other funds it manages, or for its own account, that may differ from
action taken by the manager on behalf of the funds. Similarly, with respect
to the funds, the manager is not obligated to recommend, buy or sell, or to
refrain from recommending, buying or selling any security that the manager
and access persons, as defined by applicable federal securities laws, may buy
or sell for its or their own account or for the accounts of any other fund.
The manager is not obligated to refrain from investing in securities held by
the funds or other funds it manages. Of course, any transactions for the
accounts of the manager and other access persons will be made in compliance
with the funds' code of ethics.
Under the funds' code of ethics, employees of the Franklin Templeton Group
who are access persons may engage in personal securities transactions subject
to the following general restrictions and procedures: (i) the trade must
receive advance clearance from a compliance officer and must be completed by
the close of the business day following the day clearance is granted; (ii)
copies of all brokerage confirmations and statements must be sent to a
compliance officer; (iii) all brokerage accounts must be disclosed on an
annual basis; and (iv) access persons involved in preparing and making
investment decisions must, in addition to (i), (ii) and (iii) above, file
annual reports of their securities holdings each January and inform the
compliance officer (or other designated personnel) if they own a security
that is being considered for a fund or other client transaction or if they
are recommending a security in which they have an ownership interest for
purchase or sale by a fund or other client.
The manager also provides certain administrative services and facilities for
each fund. These include preparing and maintaining books, records, and tax
and financial reports, and monitoring compliance with regulatory requirements.
MANAGEMENT FEES Each fund pays the manager a fee equal to an annual rate of:
o 40/100 of 1% of the value of its net assets up to and including $5
billion;
o 35/100 of 1% of the value of its net assets in excess of $5 billion up to
and including $10 billion;
o 33/100 of 1% of the value of its net assets in excess of $10 billion up
to and including $15 billion;
o and 30/100 of 1% of net assets in excess of $15 billion.
The fee is computed at the close of business on the last business day of each
month according to the terms of the management agreement.
For the last three fiscal years ended October 31, the funds paid the
following management fees:
Management Fees Paid ($)
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1998 1997 1996
Mortgage Portfolio 1 758,425 830,598 1,090,876
Securities Portfolio 2 51,389 51,453 41,378
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1. For the fiscal years ended 1998, 1997 and 1996, management fees, before
any advance waiver, totaled $1,272,933, $1,487,256 and $1,891,159,
respectively. Under an agreement by the manager to limit its fees, the
fund paid the management fees shown.
2. For the fiscal years ended 1998, 1997 and 1996, management fees, before
any advance waiver, totaled $96,734, $96,727 and $89,969, respectively.
Under an agreement by the manager to limit its fees, the fund paid the
management fees shown.
SHAREHOLDER SERVICING AND TRANSFER AGENT Franklin/Templeton Investor
Services, Inc. (Investor Services) is the funds' shareholder servicing agent
and acts as the funds' transfer agent and dividend-paying agent. Investor
Services is located at 777 Mariners Island Blvd., P.O. Box 7777, San Mateo,
CA 94403-7777.
For its services, Investor Services receives a fixed fee per account. The
funds may also reimburse Investor Services for certain out-of-pocket
expenses, which may include payments by Investor Services to entities,
including affiliated entities, that provide sub-shareholder services,
recordkeeping and/or transfer agency services to beneficial owners of the
fund. The amount of reimbursements for these services per benefit plan
participant fund account per year may not exceed the per account fee payable
by the fund to Investor Services in connection with maintaining shareholder
accounts.
CUSTODIAN Bank of New York, Mutual Funds Division, 90 Washington Street, New
York, NY 10286, acts as custodian of the fund's securities and other assets.
AUDITOR PricewaterhouseCoopers LLP, 333 Market Street, San Francisco, CA
94105, is the funds' independent auditor. The auditor gives an opinion on the
financial statements included in the trust's Annual Report to Shareholders
and reviews the trust's registration statement filed with the U.S. Securities
and Exchange Commission (SEC).
The Information Services & Technology division of Franklin Resources, Inc.
(Resources) established a Year 2000 Project Team in 1996. This team has
already begun making necessary software changes to help the computer systems
that service the fund and its shareholders to be Year 2000 compliant. After
completing these modifications, comprehensive tests are conducted in one of
Resources' U.S. test labs to verify their effectiveness. Resources continues
to seek reasonable assurances from all major hardware, software or
data-services suppliers that they will be Year 2000 compliant on a timely
basis. Resources is also beginning to develop a contingency plan, including
identification of those mission critical systems for which it is practical to
develop a contingency plan. However, in an operation as complex and
geographically distributed as Resources' business, the alternatives to use of
normal systems, especially mission critical systems, or supplies of
electricity or long distance voice and data lines are limited.
16. BROKERAGE ALLOCATION AND OTHER POLICIES
Since most purchases by the funds are principal transactions at net prices,
the funds incur little or no brokerage costs. The funds deal directly with
the selling or buying principal or market maker without incurring charges for
the services of a broker on their behalf, unless it is determined that a
better price or execution may be obtained by using the services of a broker.
Purchases of portfolio securities from underwriters will include a commission
or concession paid by the issuer to the underwriter, and purchases from
dealers will include a spread between the bid and ask prices. The funds seek
to obtain prompt execution of orders at the most favorable net price.
Transactions may be directed to dealers in return for research and
statistical information, as well as for special services provided by the
dealers in the execution of orders.
It is not possible to place a dollar value on the special executions or on
the research services the manager receives from dealers effecting
transactions in portfolio securities. The allocation of transactions in order
to obtain additional research services allows the manager to supplement its
own research and analysis activities and to receive the views and information
of individuals and research staffs of other securities firms. As long as it
is lawful and appropriate to do so, the manager and its affiliates may use
this research and data in their investment advisory capacities with other
clients. If the trust's officers are satisfied that the best execution is
obtained, the sale of shares of other funds in the Franklin Templeton Group
of Funds may also be considered a factor in the selection of broker-dealers
to execute the fund's portfolio transactions.
Because Franklin Templeton Distributors, Inc. (Distributors) is a member of
the National Association of Securities Dealers, Inc., it may sometimes
receive certain fees when the funds tender portfolio securities pursuant to a
tender-offer solicitation. To recapture brokerage for the benefit of the
funds, any portfolio securities tendered by the funds will be tendered
through Distributors if it is legally permissible to do so. In turn, the next
management fee payable to the manager will be reduced by the amount of any
fees received by Distributors in cash, less any costs and expenses incurred
in connection with the tender.
If purchases or sales of securities of the funds and one or more other
investment companies or clients supervised by the manager are considered at
or about the same time, transactions in these securities will be allocated
among the several investment companies and clients in a manner deemed
equitable to all by the manager, taking into account the respective sizes of
the funds and the amount of securities to be purchased or sold. In some cases
this procedure could have a detrimental effect on the price or volume of the
security so far as the funds are concerned. In other cases it is possible
that the ability to participate in volume transactions may improve execution
and reduce transaction costs to the funds.
During the fiscal years ended October 31, 1998, 1997 and 1996, the funds did
not pay any brokerage commissions.
As of October 31, 1998, Securities Portfolio owned securities issued by
Merrill Lynch Mortgage Investors, Inc. valued at $780,000. Except as noted,
the funds did not own securities of their regular broker-dealers.
17. CAPITAL STOCK AND OTHER SECURITIES
The trust has noncumulative voting rights. For board member elections, this
gives holders of more than 50% of the shares voting the ability to elect all
of the members of the board. If this happens, holders of the remaining shares
voting will not be able to elect anyone to the board.
The trust does not intend to hold annual shareholder meetings. The trust or a
series of the trust may hold special meetings, however, for matters requiring
shareholder approval. A meeting may be called by the board to consider the
removal of a board member if requested in writing by shareholders holding at
least 10% of the outstanding shares. In certain circumstances, we are
required to help you communicate with other shareholders about the removal of
a board member. A special meeting may also be called by the board in its
discretion.
18. PURCHASE, REDEMPTION, AND PRICING OF SHARES
PRICING SHARES The value of a mutual fund is determined by deducting the
fund's liabilities from the total assets of the portfolio. The net asset
value (NAV) per share is determined by dividing the net asset value of the
fund by the number of shares outstanding.
Each fund calculates its NAV per share each business day at the close of
trading on the New York Stock Exchange (normally 1:00 p.m. pacific time). The
funds do not calculate their NAV on days the New York Stock Exchange (NYSE)
is closed for trading, which include New Year's Day, Martin Luther King Jr.
Day, Presidents' Day, Good Friday, Memorial Day, Independence Day, Labor Day,
Thanksgiving Day and Christmas Day.
When determining its NAV, each fund values cash and receivables at their
realizable amounts and records interest as accrued and dividends on the
ex-dividend date. If market quotations are readily available for portfolio
securities listed on a securities exchange or on the NASDAQ National Market
System, the funds value those securities at the last quoted sale price of the
day or, if there is no reported sale, within the range of the most recent
quoted bid and ask prices. The funds value over-the-counter portfolio
securities within the range of the most recent quoted bid and ask prices. If
portfolio securities trade both in the over-the-counter market and on a stock
exchange, the funds value them according to the broadest and most
representative market as determined by the manager.
Generally, trading in corporate bonds, U.S. government securities and money
market instruments is substantially completed each day at various times
before the close of the NYSE. The value of these securities used in computing
the NAV is determined as of such times. Occasionally, events affecting the
values of these securities may occur between the times at which they are
determined and the close of the NYSE that will not be reflected in the
computation of the NAV. If events materially affecting the values of these
securities occur during this period, the securities will be valued at their
fair value as determined in good faith by the board.
Other securities for which market quotations are readily available are valued
at the current market price, which may be obtained from a pricing service,
based on a variety of factors including recent trades, institutional size
trading in similar types of securities (considering yield, risk and maturity)
and/or developments related to specific issues. Securities and other assets
for which market prices are not readily available are valued at fair value as
determined following procedures approved by the board. With the approval of
the board, the funds may use a pricing service, bank or securities dealer to
perform any of the above described functions.
REDEMPTIONS IN KIND The trust has committed itself to pay in cash (by check)
all requests for redemption by any shareholder of record, limited in amount,
however, during any 90-day period to the lesser of $250,000 or 1% of the
value of each fund's net assets at the beginning of the 90-day period. This
commitment is irrevocable without the prior approval of the SEC. In the case
of redemption requests in excess of these amounts, the board reserves the
right to make payments in whole or in part in securities or other assets of
the fund, in case of an emergency, or if the payment of such a redemption in
cash would be detrimental to the existing shareholders of the fund. In these
circumstances, the securities distributed would be valued at the price used
to compute the fund's net assets and you may incur brokerage fees in
converting the securities to cash. The funds do not intend to redeem illiquid
securities in kind. If this happens, however, an investor may not be able to
recover an investment in a timely manner.
ITEM 19. TAXATION OF THE FUND
DISTRIBUTIONS OF NET INVESTMENT INCOME The funds receive income generally in
the form of interest and other income on their investments. This income, less
expenses incurred in the operation of a fund, constitutes the fund's net
investment income from which dividends may be paid to shareholders. Any
distributions by a fund from such income will be taxable to shareholders as
ordinary income, whether shareholders take them in cash or in additional
shares.
DISTRIBUTIONS OF CAPITAL GAINS A fund may derive capital gains and losses in
connection with sales or other dispositions of its portfolio securities.
Distributions from net short-term capital gains will be taxable to
shareholders as ordinary income. Distributions from net long-term capital
gains will be taxable to shareholders as long-term capital gain, regardless
of how long a shareholder has held shares in a fund. Any net capital gains
realized by a fund generally will be distributed once each year, and may be
distributed more frequently, if necessary, in order to reduce or eliminate
excise or income taxes on a fund.
INFORMATION ON THE TAX CHARACTER OF DISTRIBUTIONS The funds will inform
shareholders of the amount of their ordinary income dividends and capital
gains distributions at the time they are paid, and will advise shareholders
of their tax status for federal income tax purposes shortly after the close
of each calendar year. If a shareholder has not held fund shares for a full
year, a fund may designate and distribute to the shareholder, as ordinary
income or capital gain, a percentage of income that is not equal to the
actual amount of such income earned during the period of the shareholder's
investment in the fund.
ELECTION TO BE TAXED AS A REGULATED INVESTMENT COMPANY Each fund has elected
to be treated as a regulated investment company under Subchapter M of the
Internal Revenue Code, has qualified as such for its most recent fiscal year,
and intends to so qualify during the current fiscal year. As regulated
investment companies, the funds generally pay no federal income tax on the
income and gains they distribute to shareholders. The board reserves the
right not to maintain the qualification of a fund as a regulated investment
company if it determines such course of action to be beneficial to
shareholders. In such case, the fund will be subject to federal, and possibly
state, corporate taxes on its taxable income and gains, and distributions to
shareholders will be treated as ordinary dividend income to the extent of
such fund's earnings and profits.
EXCISE TAX DISTRIBUTION REQUIREMENTS To avoid federal excise taxes, the
Internal Revenue Code requires a fund to distribute to its shareholders by
December 31 of each year, at a minimum, the following amounts: 98% of its
taxable ordinary income earned during the calendar year; 98% of its capital
gain net income earned during the twelve month period ending October 31; and
100% of any undistributed amounts from the prior year. Each fund intends to
declare and pay these amounts in December (or in January that are treated by
shareholders as received in December) to avoid these excise taxes, but can
give no assurances that its distributions will be sufficient to eliminate all
taxes.
REDEMPTION OF FUND SHARES Redemptions of fund shares are taxable
transactions for federal and state income tax purposes. If a shareholder
redeems fund shares the IRS will require the shareholder to report a gain or
loss on the redemption. If a shareholder holds fund shares as a capital
asset, the gain or loss that the shareholder realizes will be capital gain or
loss and will be long-term or short-term, generally depending on how long the
shareholder holds fund shares. Any loss incurred on the redemption of shares
held for six months or less will be treated as a long-term capital loss to
the extent of any long-term capital gains distributed to a shareholder by a
fund on those shares.
All or a portion of any loss that a shareholder realizes upon the redemption
of fund shares will be disallowed to the extent that the shareholder buys
other shares in such portfolio (through reinvestment of dividends or
otherwise) within 30 days before or after the shareholder's share redemption.
Any loss disallowed under these rules will be added to the shareholder's tax
basis in the new shares the shareholder buys.
U.S. GOVERNMENT OBLIGATIONS Many states grant tax-free status to dividends
paid to shareholders from interest earned on direct obligations of the U.S.
government, subject in some states to minimum investment requirements that
must be met by a fund. Investments in Government National Mortgage
Association or Federal National Mortgage Association securities, bankers'
acceptances, commercial paper and repurchase agreements collateralized by
U.S. government securities do not generally qualify for tax-free treatment.
Investment company shareholders may not be able to pass-through the exempt
character of fund distributions to their shareholders.
DIVIDENDS-RECEIVED DEDUCTION FOR CORPORATIONS Because the funds' income
consists of interest rather than dividends, no portion of their distributions
will generally be eligible for the intercorporate dividends-received
deduction. None of the dividends paid by the funds for the most recent
calendar year qualified for such deduction, and it is anticipated that none
of the current year's dividends will so qualify.
INVESTMENT IN COMPLEX SECURITIES Each fund may invest in complex securities.
These investments may be subject to numerous special and complex tax rules.
These rules could affect whether gains and losses recognized by a fund are
treated as ordinary income or capital gain, accelerate the recognition of
income to a portfolio and/or defer a fund's ability to recognize losses. In
turn, these rules may affect the amount, timing or character of the income
distributed to shareholders by a fund.
ITEM 20. UNDERWRITERS
Not Applicable
ITEM 21. CALCULATION OF PERFORMANCE DATA
Not Applicable
ITEM 22. FINANCIAL STATEMENTS
The audited financial statements and auditor's report in the trust's Annual
Report to Shareholders, for the fiscal year ended October 31, 1998, are
incorporated herein by reference.
ADJUSTABLE RATE SECURITIES PORTFOLIOS
U.S. Government Adjustable Rate Mortgage Portfolio
Adjustable Rate Securities Portfolio
FORM N-1A
PART C - OTHER INFORMATION
ITEM 23. EXHIBITS.
The following exhibits are incorporated by reference to the previous filed
document indicated below, except as noted:
(A) ARTICLES OF INCORPORATION
(i) Agreement and Declaration of Trust of Franklin
Institutional U.S. Government ARM Fund dated
February 12, 1991
Filing: Amendment No. 9 to the Registration
Statement on Form N-1A
File No. 811-6242
Filing Date: February 27, 1996
(ii) Certificate of Trust of Franklin Institutional
U.S. Government ARM Fund dated February 12, 1991
Filing: Amendment No. 9 to the Registration
Statement on Form N-1A
File No. 811-6242
Filing Date: February 27, 1996
(iii) Certificate of Amendment to the Certificate of
Trust of Franklin Institutional U.S. Government
ARM Fund dated October 18, 1991 as filed with the office
of the Secretary of the State of Delaware on February
15, 1991
Filing: Amendment No. 9 to the Registration
Statement on Form N-1A
File No. 811-6242
Filing Date: February 27, 1996
(iv) Certificate of Amendment to the Certificate of
Trust of Franklin Institutional U.S. Government
ARM Fund dated March 7, 1991 as filed with the
Office of the Secretary of State of Delaware on
March 14, 1991
Filing: Amendment No. 9 to the Registration
Statement on Form N-1A
File No. 811-6242
Filing Date: February 27, 1996
(v) Certificate of Amendment to the Certificate of
Trust of Adjustable Rate Securities Portfolio
dated May 14, 1992 as filed with the Office of
the Secretary of State of Delaware on June 12, 1992
Filing: Amendment No. 9 to the Registration
Statement on Form N-1A
File No. 811-6242
Filing Date: February 27, 1996
(B) BY-LAWS
(i) By-Laws of Franklin Institutional U.S. Government ARM Fund
Filing: Amendment No. 9 to the Registration
Statement on Form N-1A
File No. 811-6242
Filing Date: February 27, 1996
(C) INSTRUMENTS DEFINING RIGHTS OF SECURITY HOLDERS
Not Applicable
(D) INVESTMENT ADVISOR CONTRACTS
(i) Management Agreement between Franklin
Institutional U.S. Government ARM Fund and
Franklin Advisers, Inc. dated June 3, 1991
Filing: Amendment No. 9 to the Registration
Statement on Form N-1A
File No. 811-6242
Filing Date: February 27, 1996
(ii) Management Agreement between Adjustable Rate
Securities Portfolios and Franklin Advisers, Inc.
dated November 5, 1991
Filing: Amendment No. 9 to the Registration
Statement on Form N-1A
File No. 811-6242
Filing Date: February 27, 1996
(iii) Amendment to Management Agreement (dated June 3,
1991) between Registrant and Franklin Advisers,
Inc., dated August 1, 1995
Filing: Amendment No. 10 to the Registration
Statement on Form N-1A
File No. 811-6242
Filing Date: February 27, 1997
(iv) Amendment to Management Agreement (dated November
5, 1991) between Registrant and Franklin
Advisers, Inc. ,dated August 1, 1995
Filing: Amendment No. 10 to the Registration
Statement on Form N-1A
File No. 811-6242
Filing Date: February 27, 1997
(E) UNDERWITING CONTRACTS
Not Applicable
(F) BONUS OR PROFIT SHARING CONTRACTS
Not Applicable
(G) CUSTODIAN AGREEMENTS
(i) Master Custody Agreement between Registrant and
Bank of New York dated February 16, 1996
Filing: Amendment No. 9 to the Registration
Statement on Form N-1A
File No. 811-6242
Filing Date: February 27, 1996
(ii) Terminal Link Agreement between Registrant and
bank of New York dated February 16, 1996
Filing: Amendment No. 9 to the Registration
Statement on Form N-1A
File No. 811-6242
Filing Date: February 27, 1996
(iii) Amendment dated February 27, 1998 to Exhibit A in the Master
Custody Agreement between the Registrant and Bank of New
York dated February 16, 1996
(iv) Amendment to Master Custody Agreement between Registrant
and Bank of New York dated May 7, 1997
Filing: Amendment No. 11 to the Registration
Statement on Form N-1A
File No. 811-6242
Filing Date: February 26, 1998
(v) Foreign Custody Manager Agreement between the Registrant
and Bank of New York dated July 30, 1998
(H) OTHER MATERIAL CONTRACTS
Not Applicable.
(I) LEGAL OPINION
(i) Opinion and Consent of Counsel dated February 5, 1999
(J) OTHER OPINIONS
Not Applicable
(K) OMITTED FINANCIAL STATEMENTS
Not Applicable
(L) INITIAL CAPITAL AGREEMENTS
Not Applicable
(M) RULE 12B-1 PLAN
Not Applicable
(P) POWER OF ATTORNEY
(i) Power of Attorney dated February 16, 1995
Filing: Amendment No. 9 to the Registration
Statement on Form N-1A
File No. 811-6242
Filing Date: February 27, 1996
(ii) Certificate of Secretary dated February 16, 1995
Filing: Amendment No. 9 to the Registration
Statement on Form N-1A
File No. 811-6242
Filing Date: February 27, 1996
(27) FINANCIAL DATA SCHEDULE
(i) Financial Data Schedule for Adjustable Rate
Securities Portfolio
(ii) Financial Data Schedule for U.S. Government
Adjustable Rate Mortgage Portfolio
ITEM 24 PERSONS CONTROLLED BY OR UNDER COMMON CONTROL WITH REGISTRANT
None
ITEM 25 INDEMNIFICATION
Reference is made to Article VI of the Registrant's By-Laws (Exhibit
2). Pursuant to Rule 484 under the Securities Act of 1933, as amended, the
Registrant furnishes the following undertaking:
Insofar as indemnification for liabilities arising under the Securities
Act of 1933 may be permitted to trustees, officers and controlling persons of
the Registrant pursuant to the foregoing provisions, or otherwise, the
Registrant has been advised that in the opinion of the Securities and
Exchange Commission such indemnification is against public policy as
expressed in the Act and is, therefore, unenforceable. In the event that a
claim for indemnification against such liabilities (other than the payment by
the Registrant of expenses incurred or paid by a trustee, officer or
controlling person of the Registrant in the successful defense of any action,
suit or proceeding) is asserted by such trustee, officer or controlling
person in connection with the securities being registered, the Registrant
will, unless in the opinion of its counsel the matter has been settled by
controlling precedent, submit to a court of appropriate jurisdiction the
question whether such indemnification by it is against public policy as
expressed in the Act and will be governed by the final adjudication of such
issue.
Notwithstanding the provisions contained in the Registrant's By-Laws,
in the absence of authorization by the appropriate court on the merits
pursuant to Section 5 of Article VI of said By-Laws, any indemnification
under said Article shall be made by Registrant only if authorized in the
manner provided in either subsection (a) or (b) of Section 6 of Article VI.
ITEM 28 BUSINESS AND OTHER CONNECTIONS OF INVESTMENT ADVISER
Franklin Advisers, Inc., a wholly owned subsidiary of Franklin
Resources, Inc., the investment manager for the Registrant, is the investment
manager or administrator for numerous other U.S. registered open-end and
closed-end investment companies. The officers and directors of the
Registrant's investment advisor also serve as officers and/or directors,
and/or portfolio managers for (1) the advisor's corporate parent, Franklin
Resources, Inc., and/or (2) other investment companies in the Franklin
Templeton Group of Funds. For additional information please see Part B and
Schedules A and D of Form ADV of the Funds' investment manager (SEC File
801-26292), incorporated herein by reference, which sets forth the officers
and directors of the investment manager and information as to any business,
profession, vocation or employment of a substantial nature engaged in by
those officers and directors during the past two years.
ITEM 27 PRINCIPAL UNDERWRITERS
Not Applicable
ITEM 28 LOCATIONS OF ACCOUNTS AND RECORDS
The accounts, books or other documents required to be maintained by
Section 31(a) of the Investment Company Act of 1940 and the Rules thereunder
are kept by the Registrant or its shareholder services agent,
Franklin/Templeton Investor Services, Inc., at their respective principal
business offices, both of which are at 777 Mariners Island Blvd., San Mateo,
California 94404.
ITEM 29 MANAGEMENT SERVICES
There are no management-related service contracts not discussed in Part
A or Part B.
ITEM 30 UNDERTAKING
Not Applicable
SIGNATURE
Pursuant to the requirements of the Investment Company Act of 1940, as
amended, the Registrant has duly caused this amendment to its Registration
Statement to be signed on its behalf by the undersigned, thereunto duly
authorized, in the City of San Mateo, the State of California, on the 26th
day of February 1999.
ADJUSTABLE RATE SECURITIES PORTFOLIOS
By CHARLES E. JOHNSON*
Charles E. Johnson,
President
*By /s/ Larry L. Greene
Attorney-in-Fact (pursuant to Power of Attorney previously filed)
ADJUSTABLE RATE SECURITIES PORTFOLIOS
REGISTRATION STATEMENT
EXHIBIT INDEX
EXHIBIT NO. DESCRIPTION LOCATION
EX-99.(a)(i) Agreement and Declaration of Trust of *
Franklin Institutional U.S. Government
ARM Fund dated February 12, 1991
EX-99.(a)(ii) Certificate of Trust of Franklin *
Institutional U.S. Government ARM Fund
dated February 12, 1991
EX-99.(a)(iii) Certificate of Amendment to the *
Certificate of Trust of Franklin
Institutional U.S. Government ARM Fund
dated October 18, 1991
EX-99.(a)(iv) Certificate of Amendment to the *
Certificate of Trust of Franklin
Institutional U.S. Government ARM Fund
dated March 7, 1991
EX-99.(a)(v) Certificate of Amendment to the *
Certificate of Trust of Adjustable
Rate Securities Portfolio dated May
14, 1992
EX-99.(b)(i) By-Laws of Franklin Institutional U.S. *
Government ARM Fund
EX-99.(d)(i) Management Agreement between Franklin *
Institutional U.S. Government ARM Fund
and Franklin Advisers, Inc. dated June
3, 1991
EX-99.(d)(ii) Management Agreement between *
Adjustable Rate Securities Portfolios
and Franklin Advisers, Inc. dated
November 5, 1991
EX-99.(d)(iii) Amendment to Management Agreement *
(dated June 3, 1991) between
Registrant and Franklin Advisers, Inc.
dated August 1, 1995
EX-99.(d)(iv) Amendment to Management Agreement *
(dated November 5, 1991) between
Registrant and Franklin Advisers, Inc.
dated August 1, 1995
EX-99.(g)(i) Mater Custody Agreement between *
Registrant and Bank of New York dated
February 16, 1996
EX-99.(g)(ii) Terminal Link Agreement between *
Registrant and Bank of New York dated
February 16, 1996
EX-99.(g)(iii) Amendment dated February 27, 1998 to Attached
Exhibit A in the Master Custody
Agreement between the Registrant and
Bank of New York dated February 16,
1998
EX-99.(g)(iv) Amendment to Master Custody Agreement *
between Registrant and Bank of New
York dated May 7, 1997
EX-99.(g)(v) Foreign Custody Manager Agreement Attached
between the Registrant and Bank of New
York dated July 30, 1998
EX-99.(i)(i) Opinion and Consent of Counsel dated Attached
February 5, 1999
EX-99.(p)(i) Power of Attorney dated February 16, *
1995
EX-99.(p)(ii) Certificate of Secretary dated *
February 16, 1995
EX-27.(i) Financial Date Schedule for Adjustable Attached
Rate Securities Portfolio
EX-27.(ii) Financial Data Schedule for U.S. Attached
Government Adjustable Rate Mortgage
Portfolio
*Incorporated by Reference
Amendment to Master Custody Agreement
Effective February 27, 1998, The Bank of New York and each of the Investment
Companies listed in the Attachment appended to this Amendment, for themselves
and each series listed in the Attachment, hereby amend the Master Custody
Agreement dated as of February 16, 1996 by:
1. Replacing Exhibit A with the attached; and
2. Only with respect to the Investment Companies and series thereof listed in
the Attachment, deleting paragraphs (a) and (b) of Subsection 3.5 and
replacing them with the following:
(a) Promptly after each purchase of Securities by the Fund, the Fund shall
deliver to the Custodian Proper Instructions specifying with respect to
each such purchase: (a) the Series to which such Securities are to be
specifically allocated; (b) the name of the issuer and the title of the
Securities; (c) the number of shares or the principal amount purchased and
accrued interest, if any; (d) the date of purchase and settlement; (e) the
purchase price per unit; (f) the total amount payable upon such purchase;
(g) the name of the person from whom or the broker through whom the
purchase was made, and the name of the clearing broker, if any; and (h) the
name of the broker to whom payment is to be made. The Custodian shall, upon
receipt of Securities purchased by or for the Fund, pay to the broker
specified in the Proper Instructions out of the money held for the account
of such Series the total amount payable upon such purchase, provided that
the same conforms to the total amount payable as set forth in such Proper
Instructions.
(b) Promptly after each sale of Securities by the Fund, the Fund shall
deliver to the Custodian Proper Instructions specifying with respect to
each such sale: (a) the Series to which such Securities were specifically
allocated; (b) the name of the issuer and the title of the Security; (c)
the number of shares or the principal amount sold, and accrued interest, if
any; (d) the date of sale; (e) the sale price per unit; (f) the total
amount payable to the Fund upon such sale; (g) the name of the broker
through whom or the person to whom the sale was made, and the name of the
clearing broker, if any; and (h) the name of the broker to whom the
Securities are to be delivered. The Custodian shall deliver the Securities
specifically allocated to such Series to the broker specified in the Proper
Instructions against payment of the total amount payable to the Fund upon
such sale, provided that the same conforms to the total amount payable as
set forth in such Proper Instructions.
Investment Companies The Bank of New York
By: /s/ Elizabeth N. Cohernour By: /s/ Stephen E. Grunston
-------------------------- -----------------------
Name: Elizabeth N. Cohernour Name: Stephen E. Grunston
Title: Authorized Officer Title: Vice President
Attachment
INVESTMENT COMPANY SERIES
Franklin Mutual Series Fund Inc. Mutual Shares Fund
Mutual Qualified Fund
Mutual Beacon Fund
Mutual Financial Services Fund
Mutual European Fund
Mutual Discovery Fund
Franklin Valuemark Funds Mutual Discovery Securities Fund
Mutual Shares Securities Fund
Templeton Variable Products Series Fund Mutual Shares Investments Fund
Mutual Discovery Investments Fund
<TABLE>
<CAPTION>
THE BANK OF NEW YORK
MASTER CUSTODY AGREEMENT
EXHIBIT A
The following is a list of the Investment Companies and their respective Series for which the Custodian shall serve under the Master
Custody Agreement dated as of February 16, 1996.
- ------------------------------------------- -------------------------------- -------------------------------------------------------
INVESTMENT COMPANY ORGANIZATION SERIES ---(IF APPLICABLE)
- ------------------------------------------- -------------------------------- -------------------------------------------------------
<S> <C> <C>
Adjustable Rate Securities Portfolios Delaware Business Trust U.S. Government Adjustable Rate Mortgage Portfolio
Adjustable Rate Securities Portfolio
Franklin Asset Allocation Fund Delaware Business Trust
Franklin California Tax-Free Income Maryland Corporation
Fund, Inc.
Franklin California Tax-Free Trust Massachusetts Business Trust Franklin California Insured Tax-Free Income Fund
Franklin California Tax-Exempt Money Fund
Franklin California Intermediate-Term Tax-Free
Income Fund
Franklin Custodian Funds, Inc. Maryland Corporation Growth Series
Utilities Series
Dynatech Series
Income Series
U.S. Government Securities Series
Franklin Equity Fund California Corporation
Franklin Federal Money Fund California Corporation
Franklin Federal Tax- Free Income Fund California Corporation
- ------------------------------------------- -------------------------------- -------------------------------------------------------
- ------------------------------------------- -------------------------------- -------------------------------------------------------
INVESTMENT COMPANY ORGANIZATION SERIES ---(IF APPLICABLE)
- ------------------------------------------- -------------------------------- -------------------------------------------------------
<S> <C> <C>
Franklin Gold Fund California Corporation
Franklin Government Securities Trust Massachusetts Business Trust
Franklin High Income Trust Delaware Business Trust AGE High Income Fund
Franklin Investors Securities Trust Massachusetts Business Trust Franklin Global Government Income Fund
Franklin Short-Intermediate U.S. Govt Securities Fund
Franklin Convertible Securities Fund
Franklin Adjustable U.S. Government Securities Fund
Franklin Equity Income Fund
Franklin Adjustable Rate Securities Fund
Franklin Managed Trust Massachusetts Business Trust Franklin Corporate Qualified Dividend Fund
Franklin Rising Dividends Fund
Franklin Investment Grade Income Fund
Franklin Money Fund California Corporation
Franklin Municipal Securities Trust Delaware Business Trust Franklin Hawaii Municipal Bond Fund
Franklin California High Yield Municipal Fund
Franklin Washington Municipal Bond Fund
Franklin Tennessee Municipal Bond Fund
Franklin Arkansas Municipal Bond Fund
- ------------------------------------------- -------------------------------- -------------------------------------------------------
- ------------------------------------------- -------------------------------- -------------------------------------------------------
INVESTMENT COMPANY ORGANIZATION SERIES ---(IF APPLICABLE)
- ------------------------------------------- -------------------------------- -------------------------------------------------------
<S> <C> <C>
Franklin Mutual Series Fund Inc. Maryland Corporation Mutual Shares Fund
Mutual Qualified Fund
Mutual Beacon Fund
Mutual Financial Services Fund
Mutual European Fund
Mutual Discovery Fund
Franklin New York Tax-Free Income Fund Delaware Business Trust
Franklin New York Tax-Free Trust Massachusetts Business Trust Franklin New York Tax-Exempt Money Fund
Franklin New York Intermediate-Term Tax-Free
Income Fund
Franklin New York Insured Tax-Free Income Fund
Franklin Real Estate Securities Trust Delaware Business Trust Franklin Real Estate Securities Fund
Franklin Strategic Mortgage Portfolio Delaware Business Trust
Franklin Strategic Series Delaware Business Trust Franklin California Growth Fund
Franklin Strategic Income Fund
Franklin MidCap Growth Fund
Franklin Global Utilities Fund
Franklin Small Cap Growth Fund
Franklin Global Health Care Fund
Franklin Natural Resources Fund
Franklin Blue Chip Fund
Franklin Biotechnology Discovery Fund
Franklin Tax-Exempt Money Fund California Corporation
- ------------------------------------------- -------------------------------- -------------------------------------------------------
- ------------------------------------------- -------------------------------- -------------------------------------------------------
INVESTMENT COMPANY ORGANIZATION SERIES---(IF APPLICABLE)
- ------------------------------------------- -------------------------------- -------------------------------------------------------
<S> <C> <C>
Franklin Tax-Free Trust Massachusetts Business Trust Franklin Massachusetts Insured Tax-Free Income Fund
Franklin Michigan Insured Tax-Free Income Fund
Franklin Minnesota Insured Tax-Free Income Fund
Franklin Insured Tax-Free Income Fund
Franklin Ohio Insured Tax-Free Income Fund
Franklin Puerto Rico Tax-Free Income Fund
Franklin Arizona Tax-Free Income Fund
Franklin Colorado Tax-Free Income Fund
Franklin Georgia Tax-Free Income Fund
Franklin Pennsylvania Tax-Free Income Fund
Franklin High Yield Tax-Free Income Fund
Franklin Missouri Tax-Free Income Fund
Franklin Oregon Tax-Free Income Fund
Franklin Texas Tax-Free Income Fund
Franklin Virginia Tax-Free Income Fund
Franklin Alabama Tax-Free Income Fund
Franklin Florida Tax-Free Income Fund
Franklin Connecticut Tax-Free Income Fund
Franklin Indiana Tax-Free Income Fund
Franklin Louisiana Tax-Free Income Fund
Franklin Maryland Tax-Free Income Fund
Franklin North Carolina Tax-Free Income Fund
Franklin New Jersey Tax-Free Income Fund
Franklin Kentucky Tax-Free Income Fund
Franklin Federal Intermediate-Term Tax-Free Income
Fund
Franklin Arizona Insured Tax-Free Income Fund
Franklin Florida Insured Tax-Free Income fund
Franklin Michigan Tax-Free Income Fund
- ------------------------------------------- -------------------------------- -------------------------------------------------------
- ------------------------------------------- -------------------------------- -------------------------------------------------------
INVESTMENT COMPANY ORGANIZATION SERIES ---(IF APPLICABLE)
- ------------------------------------------- -------------------------------- -------------------------------------------------------
<S> <C> <C>
Franklin Templeton Fund Allocator Series Delaware Business Trust Franklin Templeton Conservative Target Fund
Franklin Templeton Moderate Target Fund
Franklin Templeton Growth Target Fund
Franklin Templeton Global Trust Delaware Business Trust Franklin Templeton German Government Bond Fund
Franklin Templeton Global Currency Fund
Franklin Templeton Hard Currency Fund
Franklin Templeton High Income Currency Fund
Franklin Templeton International Trust Delaware Business Trust Templeton Pacific Growth Fund
Templeton Foreign Smaller Companies Fund
Franklin Templeton Money Fund Trust Delaware Business Trust Franklin Templeton Money Fund II
Franklin Value Investors Trust Massachusetts Business Trust Franklin Balance Sheet Investment Fund
Franklin MicroCap Value Fund
Franklin Value Fund
Franklin Valuemark Funds Massachusetts Business Trust Money Market Fund
Growth and Income Fund
Natural Resources Securities Fund
Real Estate Securities Fund
Global Utilities Securities Fund
High Income Fund
Templeton Global Income Securities Fund
Income Securities Fund
U.S. Government Securities Fund
Zero Coupon Fund - 2000
Zero Coupon Fund - 2005
Zero Coupon Fund - 2010
Rising Dividends Fund
- ------------------------------------------- -------------------------------- -------------------------------------------------------
- ------------------------------------------- -------------------------------- -------------------------------------------------------
INVESTMENT COMPANY ORGANIZATION SERIES ---(IF APPLICABLE)
- ------------------------------------------- -------------------------------- -------------------------------------------------------
<S> <C> <C>
Franklin Valuemark Funds (cont.) Massachusetts Business Trust Templeton Pacific Growth Fund
Templeton International Equity Fund
Templeton Developing Markets Equity Fund
Templeton Global Growth Fund
Templeton Global Asset Allocation Fund
Small Cap Fund
Capital Growth Fund
Templeton International Smaller Companies Fund
Mutual Discovery Securities Fund
Mutual Shares Securities Fund
Global Health Care Securities Fund
Value Securities Fund
- ------------------------------------------- -------------------------------- -------------------------------------------------------
Institutional Fiduciary Trust Massachusetts Business Trust Money Market Portfolio
Franklin U.S. Government Securities Money Market
Portfolio
Franklin U.S. Treasury Money Market Portfolio
Franklin Institutional Adjustable U.S. Government
Securities Fund
Franklin Institutional Adjustable Rate Securities Fund
Franklin U.S. Government Agency Money Market Fund
Franklin Cash Reserves Fund
The Money Market Portfolios Delaware Business Trust The Money Market Portfolio
The U.S. Government Securities Money Market Portfolio
Templeton Variable Products Series Fund Mutual Shares Investments Fund
Mutual Discovery Investments Fund
Franklin Growth Investments Fund
- ------------------------------------------- -------------------------------- -------------------------------------------------------
- ------------------------------------------- -------------------------------- -------------------------------------------------------
INVESTMENT COMPANY ORGANIZATION SERIES---(IF APPLICABLE)
- ------------------------------------------- -------------------------------- -------------------------------------------------------
<S> <C> <C>
CLOSED END FUNDS:
Franklin Multi-Income Trust Massachusetts Business Trust
Franklin Principal Maturity Trust Massachusetts Business Trust
Franklin Universal Trust Massachusetts Business Trust
INTERVAL FUND
Franklin Floating Rate Trust Delaware Business Trust
- ------------------------------------------- -------------------------------- -------------------------------------------------------
</TABLE>
FOREIGN CUSTODY MANAGER AGREEMENT
AGREEMENT made as of July 30, 1998, effective as of February 27, 1998
(the "Effective Date"), between Each of the Investment Companies Listed on
Schedule I attached hereto (each a "Fund") and The Bank of New York ("BNY").
WITNESSETH:
WHEREAS, the Fund desires to appoint BNY as a Foreign Custody Manager
on the terms and conditions contained herein;
WHEREAS, BNY desires to serve as a Foreign Custody Manager and perform
the duties set forth herein on the terms and condition contained herein;
NOW THEREFORE, in consideration of the mutual promises hereinafter
contained in this Agreement, the Fund and BNY hereby agree as follows:
ARTICLE I
DEFINITIONS
Whenever used in this Agreement, the following words and phrases,
unless the context otherwise requires, shall have the following meanings:
1. "BOARD" shall mean the board of directors or board of trustees,
as the case may be, of the Fund.
2. "ELIGIBLE FOREIGN CUSTODIAN" shall have the meaning provided in
the Rule.
3. "MONITORING SYSTEM" shall mean a system established by BNY to
fulfill the Responsibilities specified in clauses l(b)(i) and l(b)(ii) and
l(d) of Article III of this Agreement.
4. "QUALIFIED FOREIGN BANK" shall have the meaning provided in the
Rule.
5. "RESPONSIBILITIES" shall mean the responsibilities delegated to
BNY as a Foreign Custody Manager with respect to each Specified Country and
each Eligible Foreign Custodian selected by BNY, as such responsibilities are
more fully described in Article III of this Agreement.
6. "RULE" shall mean Rule 17f-5 under the Investment Company Act of
1940, as amended, as such Rule became effective on June 16, 1997.
7. "SECURITIES DEPOSITORY" shall mean any securities depository or
clearing agency within the meaning of Section (a)(1)(ii) or (a)(1)(iii) of
the Rule.
8. "COMPULSORY DEPOSITORY" shall mean a Securities Depository the
use of which is mandatory by law or regulation or because securities cannot
be withdrawn from such Securities Depository, or because maintaining
securities outside the Securities Depository would not permit purchases and
sales of these securities to occur in accordance with routine settlement
timing and procedures in the relevant market.
9. "SPECIFIED COUNTRY" shall mean each country listed on Schedule 2
attached hereto and each country, other than the United States, constituting
the primary market for a security with respect to which the Fund has given
settlement instructions to The Bank of New York as custodian (the
"Custodian") under its Custody Agreement with the Fund.
ARTICLE II
BNY AS A FOREIGN CUSTODY MANAGER
1. The Fund on behalf of its Board hereby delegates to BNY with
respect to each Specified Country the Responsibilities.
2. BNY accepts the Board's delegation of Responsibilities with
respect to each Specified Country and agrees in performing the
Responsibilities as a Foreign Custody Manager to exercise reasonable care,
prudence and diligence such as a person having responsibility for the
safekeeping of the Fund's assets would exercise.
3. BNY shall provide to the Board at such times as the Board deems
reasonable and appropriate based on the circumstances of the Fund's foreign
custody arrangements written reports notifying the Board of the placement of
assets of the Fund with a particular Eligible Foreign Custodian within a
Specified Country and of any material change in the arrangements (including,
in the case of Qualified Foreign Banks, any material change in any contract
governing such arrangements and in the case of Securities Depositories, any
material change in the established practices or procedures of such Securities
Depositories) with respect to assets of the Fund with any such Eligible
Foreign Custodian.
ARTICLE III
RESPONSIBILITIES
1 . (a) Subject to the provisions of this Agreement, BNY shall with
respect to each Specified Country select an Eligible Foreign Custodian (other
than a Compulsory Depository) which is not functioning as the Fund's Eligible
Foreign Custodian as of the Effective Date. In connection therewith, BNY
shall: (i) determine that assets of the Fund held by such Eligible Foreign
Custodian will be subject to reasonable care, based on the standards
applicable to custodians in the relevant market in which such Eligible
Foreign Custodian operates, after considering all factors relevant to the
safekeeping of such assets, including, without limitation, those contained in
Section (c)(1) of the Rule; (ii) determine that the Fund's foreign custody
arrangements with each Qualified Foreign Bank are governed by a written
contract with the Custodian (or, in the case of a Securities Depository other
than a Compulsory Depository, by such a contract, by the rules or established
practices or procedures of the Securities Depository, or by any combination
of the foregoing) which will provide reasonable care for the Fund's assets
based on the standards specified in paragraph (c)(1) of the Rule; and (ii)
determine that each contract with a Qualified Foreign Bank shall include the
provisions specified in paragraph (c)(2)(i)(A) through (F) of the Rule or,
alternatively, in lieu of any or all of such (c)(2)(i)(A) through (F)
provisions, such other provisions as BNY determines will provide, in their
entirety, the same or a greater level of care and protection for the assets
of the Fund as such specified provisions.
(b) In addition, subject to the provisions of this Agreement, BNY
shall with respect to each Eligible Foreign Custodian (other than a
Compulsory Depository), regardless of when and by whom selected, (i)
monitor pursuant to the Monitoring System the appropriateness of
maintaining the assets of the Fund with a particular Eligible Foreign
Custodian pursuant to paragraph (c)(1) of the Rule and in the case of a
Qualified Foreign Bank, any material change in the contract governing such
arrangement and in the case of a Securities Depository, any material change
in the established practices or procedures of such Securities Depository;
and (ii) advise the Fund whenever an arrangement (including, in the case of
a Qualified Foreign Bank, any material change in the contract governing
such arrangement and in the case of a Securities Depository, any material
change in the established practices or procedures of such Securities
Depository) described in preceding clause (b)(i) no longer meets the
requirements of the Rule, it being understood that BNY shall provide such
advice promptly upon learning of such noncompliance.
(c) Subject to the provisions of this Agreement, after execution of
this Agreement with respect to each Compulsory Depository which has been
established, as of the Effective Date, in countries in which BNY has
appointed a Subcustodian and thereafter in connection with each new or
additional Compulsory Depository established in countries in which BNY
appoints, or has appointed, as the case may be, a Subcustodian, BNY shall
determine, with respect to each such Compulsory Depository, that:
(i) the Eligible Foreign Custodian which is utilizing the services of
the Compulsory Depository has undertaken to adhere to the rules,
practices and procedures of such Compulsory Depository;
(ii)no regulatory authority with oversight responsibility for the
Compulsory Depository has issued a public notice that the Compulsory
Depository is not in compliance with any material capital, solvency,
insurance or other similar financial strength requirements imposed by
such authority or, in the case of such notice having been issued,
that such notice has been withdrawn or the remedy of such
noncompliance has been publicly announced by the Compulsory
Depository;
(iii) no regulatory authority with oversight responsibility over
the Compulsory Depository has issued a public notice that the
Compulsory Depository is not in compliance with any material internal
controls requirement imposed by such authority or, in the case such
notice having been issued, that such notice has been withdrawn or the
remedy of such noncompliance has been publicly announced by the
Compulsory Depository;
(iv)the Compulsory Depository maintains the assets of the Fund's
Eligible Foreign Custodian which is utilizing the services of the
Compulsory Depository under no less favorable safekeeping conditions
than those that apply generally to other participants in the
Compulsory Depository;
(v) the Compulsory Depository maintains records that segregate the
Compulsory Depository's own assets from the assets of participants in
the Compulsory Depository;
(vi)the Compulsory Depository maintains records that identify the
assets of each of its participants;
(vii) the Compulsory Depository provides periodic reports to its
participants with respect to the safekeeping of assets maintained by
the Compulsory Depository, including, by way of example, notification
of any transfer to or from a participant's account; and
(viii) the Compulsory Depository is subject to periodic review,
such as audits by independent accountants or inspections by
regulatory authorities.
BNY shall make the foregoing determinations (i) with respect to each
Compulsory Depository which has been established as of the Effective Date in
countries in which BNY has appointed a Subcustodian by September 30, 1998 and
(ii) with respect to each new or additional Compulsory Depository established
in countries in which BNY appoints, or has appointed, as the case may be, a
Subcustodian, to the extent feasible in light of the circumstances then
prevailing within ninety (90) days of the date such Compulsory Depository
commences operations; and, in each case, shall advise the Fund and its
investment advisor promptly after each such determination is made.
In the event that the US Securities and Exchange Commission ("SEC")
adopts standards or criteria different from those set forth above, the
above provisions shall be deemed to be amended to conform to the standards
or criteria adopted by the SEC.
(d) Subject to the provisions of this Agreement, with respect to each
Compulsory Depository in which Fund's assets are maintained at any time
during the term of this Agreement, BNY shall monitor, pursuant to the
Monitoring System, each such Compulsory Depository's compliance with the
criteria set forth in clause l(c) of this Article III and, upon determining
that any Compulsory Depository is not in compliance with any of such
criteria, shall promptly advise the Fund and its investment advisor of such
non-compliance.
2. (a) For purposes of clauses (a)(i), (a)(ii) and (c) of preceding
Section I of this Article, BNY's determination with respect to each
Securities Depository will be based upon publicly available information,
which may be limited, plus any other information which is made available by
each such Securities Depository to BNY or its Qualified Foreign Bank.
(b) For purposes of clause (b)(i) of preceding Section I of
this Article, BNY's determination of appropriateness shall not include, nor
be deemed to include, any evaluation of Country Risks associated with
investment in a particular country. For purposes hereof, "Country Risks"
shall mean systemic risks of holding assets in a particular country
including, but not limited to, (i) the use of Compulsory Depositories, (ii)
such country's financial infrastructure, (iii) such country's prevailing
custody and settlement practices, (iv) nationalization, expropriation or
other governmental actions, (v) regulation of the banking or securities
industry, (vi) currency controls, restrictions, devaluations or
fluctuations, and (vii) market conditions which affect the orderly
execution of securities transactions or affect the value of securities.
ARTICLE IV
REPRESENTATIONS
1. The Fund hereby represents that: (a) this Agreement has been duly
authorized, executed and delivered by the Fund, constitutes a valid and
legally binding obligation of the Fund enforceable in accordance with its
terms, and no statute, regulation, rule, order, judgment or contract binding
on the Fund prohibits the Fund's execution or performance of this Agreement;
(b) this Agreement has been approved and ratified by the Board at a meeting
duly called and at which a quorum was at all times present; and (c) the Board
or its investment advisor has considered the Country Risks associated with
investment in each Specified Country and will have considered such risks
prior to any settlement instructions being given to the Custodian with
respect to any other Specified Country.
2. BNY hereby represents that: (a) BNY is duly organized and
existing under the laws of the State of New York, with full power to carry on
its businesses as now conducted, and to enter into this Agreement and to
perform its obligations hereunder; (b) this Agreement has been duly
authorized, executed and delivered by BNY, constitutes a valid and legally
binding obligation of BNY enforceable in accordance with its terms, and no
statute, regulation, rule, order, judgment or contract binding on BNY
prohibits BNY's execution or performance of this Agreement; and (c) BNY has
established the Monitoring System.
ARTICLE V
CONCERNING BNY
1 . BNY shall not be liable for any costs, expenses, damages,
liabilities or claims, including attorneys' and accountants' fees, sustained
or incurred by, or asserted against, the Fund except to the extent the same
arises out of the failure of BNY to exercise the care, prudence and diligence
required by Section 2 of Article II hereof. In no event shall BNY be liable
to the Fund, the Board, or any third party for special, indirect or
consequential damages, or for lost profits or loss of business, arising in
connection with this Agreement.
2. The Fund shall indemnify BNY and hold it harmless from and
against any and all costs, expenses, damages, liabilities or claims,
including attorneys' and accountants' fees, sustained or incurred by, or
asserted against, BNY by reason or as a result of any action or inaction, or
arising out of BNY's performance hereunder, provided that the Fund shall not
indemnify BNY to the extent any such costs, expenses, damages, liabilities or
claims arises out of BNY's failure to exercise the reasonable care, prudence
and diligence required by Section 2 of Article II hereof.
3. For its services hereunder, the Fund agrees to pay to BNY such
compensation and out-of-pocket expenses as shall be mutually agreed.
4. BNY shall have only such duties as are expressly set forth
herein. In no event shall BNY be liable for any Country Risks associated
with investments in a particular country.
ARTICLE VI
MISCELLANEOUS
1 This Agreement constitutes the entire agreement between the Fund
and BNY, and no provision in the Custody Agreement between the Fund and the
Custodian shall affect the duties and obligations of BNY hereunder, nor shall
any provision in this Agreement affect the duties or obligations of the
Custodian under the Custody Agreement.
2. Any notice or other instrument in writing, authorized or required
by this Agreement to be given to BNY, shall be sufficiently given if received
by it at its offices at 90 Washington Street, New York, New York 10286, or at
such other place as BNY may from time to time designate in writing.
3. Any notice or other instrument in writing, authorized or required
by this Agreement to be given to the Fund shall be sufficiently given if
received by it at its offices at Franklin Resources, 777 Mariners Island
Boulevard, San Mateo, California, 94404, Attn: Deborah R. Gatzek, General
Counsel and Senior Vice President, or at such other place as the Fund may
from time to time designate in writing.
4. In case any provision in or obligation under this Agreement shall
be invalid, illegal or unenforceable in any jurisdiction, the validity,
legality and enforceability of the remaining provisions shall not in any way
be affected thereby. This Agreement may not be amended or modified in any
manner except by a written agreement executed by both parties. This
Agreement shall extend to and shall be binding upon the parties hereto, and
their respective successors and assigns; provided however, that this
Agreement shall not be assignable by either party without the written consent
of the other.
5. This Agreement shall be construed in accordance with the
substantive laws of the State of New York, without regard to conflicts of
laws principles thereof
6. The parties hereto agree that in performing hereunder, BNY is
acting solely on behalf of the Fund and no contractual or service
relationship shall be deemed to be established hereby between BNY and any
other person.
7. This Agreement may be executed in any number of counterparts,
each of which shall be deemed to be an original, but such counterparts shall,
together, constitute only one instrument.
8. This Agreement shall terminate simultaneously with the
termination of the Custody Agreement between the Fund and the Custodian, and
may otherwise be terminated by either party giving to the other party a
notice in writing specifying the date of such termination, which shall be not
less than thirty (30) days after the date of such notice.
IN WITNESS WHEREOF, the Fund and BNY have caused this Agreement to be
executed by their respective officers, thereunto duly authorized, as of the
date first above written.
EACH INVESTMENT COMPANY
LISTED ON SCHEDULE 1 ATTACHED
HERETO.
By: Deborah R. Gatzek
Title: Vice President
Of Each Such Investment Company
THE BANK OF NEW YORK
By: Stephen E. Grunston
Title: Vice President
Law Offices
STRADLEY, RONON, STEVENS & YOUNG, LLP
2600 One Commerce Square
Philadelphia, Pennsylvania 19103-7098
(215) 564-8000
Direct Dial: (215) 564-8115
February 5, 1999
Adjustable Rate Securities Portfolios
777 Mariners Island Blvd.
San Mateo, CA 94403-7777
Re: LEGAL OPINION-SECURITIES ACT OF 1933
Ladies and Gentlemen:
We have examined the Agreement and Declaration of Trust, as amended, (the
"Declaration of Trust") of the Adjustable Rate Securities Portfolios (the
"Trust"), a business trust organized under the laws of the State of Delaware on
February 15, 1991, the By-Laws of the Trust, and the resolutions adopted by the
Trust's Board of Trustees organizing the business of the Trust, all as amended
to date, and the various pertinent proceedings we deem material. We have also
examined the Notification of Registration and the Registration Statements filed
under the Investment Company Act of 1940 (the "Investment Company Act") and the
Securities Act of 1933 (the "Securities Act"), all as amended to date, as well
as other items we deem material to this opinion.
The Trust is authorized by its Declaration of Trust to issue an unlimited
number of shares of beneficial interest with a par value $0.01 per share. The
Trust issues shares of series designated the U.S. Government Adjustable Rate
Mortgage Portfolio and the Adjustable Rate Securities Portfolio. The Declaration
of Trust designates, or authorizes the Trustees to designate, one or more series
or classes of shares of the Trust, and allocates, or authorizes the Trustees to
allocate, shares of beneficial interest to each such series or class. The
Declaration of Trust also empowers the Trustees to designate any additional
series or classes and allocate shares to such series or classes.
The Trust has filed with the U.S. Securities and Exchange Commission (the
"Commission"), a Registration Statement under the Securities Act, which
Registration Statement is deemed to register an indefinite number of shares of
the Trust pursuant to the provisions of Rule 24f-2 under the Investment Company
Act. You have further advised us that the Trust has filed, and each year
hereafter will timely file, a Notice pursuant to Rule 24f-2 perfecting the
registration of the shares sold by the Trust during each fiscal year during
which such registration of an indefinite number of shares remains in effect.
You have also informed us that the shares of the Trust have been, and will
continue to be, sold in accordance with the Trust's usual method of distributing
its registered shares, under which prospectuses are made available for delivery
to offerees and purchasers of such shares in accordance with Section 5(b) of the
Securities Act.
Based upon the foregoing information and examination, so long as the Trust
remains a valid and subsisting trust under the laws of the State of Delaware,
and the registration of an indefinite number of shares of the Trust remains
effective, the authorized shares of the Trust when issued for the consideration
set by the Board of Trustees pursuant to the Declaration of Trust, and subject
to compliance with Rule 24f-2, will be legally outstanding, fully-paid, and
non-assessable shares, and the holders of such shares will have all the rights
provided for with respect to such holding by the Declaration of Trust and the
laws of the State of Delaware.
We hereby consent to the use of this opinion as an exhibit to the
Registration Statement of the Trust, and any amendments thereto, covering the
registration of the shares of the Trust under the Securities Act and the
applications, registration statements or notice filings, and amendments thereto,
filed in accordance with the securities laws of the several states in which
shares of the Trust are offered, and we further consent to reference in the
registration statement of the Trust to the fact that this opinion concerning the
legality of the issue has been rendered by us.
Very truly yours,
STRADLEY, RONON, STEVENS & YOUNG, LLP
BY: /s/ BRUCE G. LETO
Bruce G. Leto
<TABLE> <S> <C>
<ARTICLE> 6
<LEGEND>
THE SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
ADJUSTABLE RATE SECURITIES PORTFOLIOS OCTOBER 31,1998 ANNUAL REPORT AND
IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<SERIES>
<NUMBER> 02
<NAME> ADJUSTABLE RATE SECURITIES PORTFOLIO
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> OCT-31-1998
<PERIOD-END> OCT-31-1998
<INVESTMENTS-AT-COST> 27,182,951
<INVESTMENTS-AT-VALUE> 27,080,281
<RECEIVABLES> 2,241,714
<ASSETS-OTHER> 0
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 29,321,995
<PAYABLE-FOR-SECURITIES> 0
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 34,688
<TOTAL-LIABILITIES> 34,688
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 32,193,959
<SHARES-COMMON-STOCK> 2,945,779
<SHARES-COMMON-PRIOR> 2,265,903
<ACCUMULATED-NII-CURRENT> 0
<OVERDISTRIBUTION-NII> 0
<ACCUMULATED-NET-GAINS> 0
<OVERDISTRIBUTION-GAINS> (2,803,982)
<ACCUM-APPREC-OR-DEPREC> (102,670)
<NET-ASSETS> 29,287,307
<DIVIDEND-INCOME> 0
<INTEREST-INCOME> 1,503,199
<OTHER-INCOME> 0
<EXPENSES-NET> (63,925)
<NET-INVESTMENT-INCOME> 1,439,274
<REALIZED-GAINS-CURRENT> (75,829)
<APPREC-INCREASE-CURRENT> 40,875
<NET-CHANGE-FROM-OPS> 1,404,320
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> (1,438,180)
<DISTRIBUTIONS-OF-GAINS> 0
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 1,878,813
<NUMBER-OF-SHARES-REDEEMED> (1,343,424)
<SHARES-REINVESTED> 144,487
<NET-CHANGE-IN-ASSETS> 6,747,445
<ACCUMULATED-NII-PRIOR> 0
<ACCUMULATED-GAINS-PRIOR> 0
<OVERDISTRIB-NII-PRIOR> 0
<OVERDIST-NET-GAINS-PRIOR> (2,729,247)
<GROSS-ADVISORY-FEES> (96,734)
<INTEREST-EXPENSE> 0
<GROSS-EXPENSE> (109,270)
<AVERAGE-NET-ASSETS> 24,198,108
<PER-SHARE-NAV-BEGIN> 9.950
<PER-SHARE-NII> .595
<PER-SHARE-GAIN-APPREC> (.011)
<PER-SHARE-DIVIDEND> (.594)
<PER-SHARE-DISTRIBUTIONS> .000
<RETURNS-OF-CAPITAL> .000
<PER-SHARE-NAV-END> 9.940
<EXPENSE-RATIO> .260<F1>
<AVG-DEBT-OUTSTANDING> 0
<AVG-DEBT-PER-SHARE> .000
<FN>
<F1>EXPENSE RATIO EXCLUDING WAIVER .45%
</FN>
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 6
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
ADJUSTABLE RATE SECURITIES PORTFOLIOS OCTOBER 31, 1998 ANNUAL REPORT AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<SERIES>
<NUMBER> 01
<NAME> U.S. GOVERNMENT ADJUSTABLE RATE MORTGAGE PORTFOLIO
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> OCT-31-1998
<PERIOD-END> OCT-31-1998
<INVESTMENTS-AT-COST> 288,023,487
<INVESTMENTS-AT-VALUE> 287,122,568
<RECEIVABLES> 15,704,310
<ASSETS-OTHER> 0
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 302,826,878
<PAYABLE-FOR-SECURITIES> 0
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 393,135
<TOTAL-LIABILITIES> 393,135
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 440,190,429
<SHARES-COMMON-STOCK> 32,277,857
<SHARES-COMMON-PRIOR> 36,140,971
<ACCUMULATED-NII-CURRENT> 0
<OVERDISTRIBUTION-NII> 0
<ACCUMULATED-NET-GAINS> 0
<OVERDISTRIBUTION-GAINS> (136,855,767)
<ACCUM-APPREC-OR-DEPREC> (900,919)
<NET-ASSETS> 302,433,743
<DIVIDEND-INCOME> 0
<INTEREST-INCOME> 19,548,300
<OTHER-INCOME> 0
<EXPENSES-NET> (838,659)
<NET-INVESTMENT-INCOME> 18,709,641
<REALIZED-GAINS-CURRENT> 271,114
<APPREC-INCREASE-CURRENT> (3,967,154)
<NET-CHANGE-FROM-OPS> 15,013,601
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> (18,709,641)
<DISTRIBUTIONS-OF-GAINS> 0
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 11,366,772
<NUMBER-OF-SHARES-REDEEMED> (17,212,608)
<SHARES-REINVESTED> 1,982,722
<NET-CHANGE-IN-ASSETS> (40,107,347)
<ACCUMULATED-NII-PRIOR> 0
<ACCUMULATED-GAINS-PRIOR> 0
<OVERDISTRIB-NII-PRIOR> 0
<OVERDIST-NET-GAINS-PRIOR> (137,126,881)
<GROSS-ADVISORY-FEES> (1,272,933)
<INTEREST-EXPENSE> 0
<GROSS-EXPENSE> (1,353,167)
<AVERAGE-NET-ASSETS> 318,206,613
<PER-SHARE-NAV-BEGIN> 9.480
<PER-SHARE-NII> 0.553
<PER-SHARE-GAIN-APPREC> (0.110)
<PER-SHARE-DIVIDEND> (0.553)
<PER-SHARE-DISTRIBUTIONS> .000
<RETURNS-OF-CAPITAL> .000
<PER-SHARE-NAV-END> 9.370
<EXPENSE-RATIO> 0.260<F1>
<AVG-DEBT-OUTSTANDING> 0
<AVG-DEBT-PER-SHARE> .000
<FN>
<F1>EXPENSE RATIO EXCLUDING WAIVER AND PAYMENTS BY AFFILIATE IS 0.430%. THESE
RATIOS ARE ANNUALIZED.
</FN>
</TABLE>