THE LAZARD FUNDS, INC.
30 Rockefeller Plaza
New York, New York 10112
(800) 823-6300
STATEMENT OF ADDITIONAL INFORMATION
MAY 1, 2000
As Revised, June 1, 2000
The Lazard Funds, Inc. (the "Fund") is a no-load, open-end
management investment company known as a mutual fund. This Statement of
Additional Information, which is not a prospectus, supplements and should be
read in conjunction with the current Prospectus of the Fund, dated May 1, 2000,
as it may be revised from time to time, relating to the following eleven
portfolios (individually, a "Portfolio" and collectively, the "Portfolios"):
<TABLE>
<CAPTION>
<S> <C> <C>
Lazard Equity Portfolio Lazard Emerging Markets Portfolio
Lazard Mid Cap Portfolio Lazard Bond Portfolio
Lazard Small Cap Portfolio Lazard High Yield Portfolio
Lazard Global Equity Portfolio Lazard International Fixed-Income
Lazard International Equity Portfolio Portfolio
Lazard International Small Cap Portfolio Lazard Strategic Yield Portfolio
</TABLE>
Each Portfolio currently offers two classes of
shares--Institutional Shares and Open Shares. Institutional Shares and Open
Shares are identical, except as to minimum investment requirements and the
services offered to and expenses borne by each Class.
To obtain a copy of the Fund's Prospectus, please write or
call the Fund at the address and telephone number given above.
The Fund's most recent Annual Report and Semi-Annual Report to
Shareholders are separate documents supplied with this Statement of Additional
Information, and the financial statements, accompanying notes and report of
independent auditors appearing in the Annual Report are incorporated by
reference into this Statement of Additional Information.
<PAGE>
-------------------------------------------------------------------------------
TABLE OF CONTENTS
Page
-------------------------------------------------------------------------------
Description of the Fund and Portfolios .......................................3
Investment Restrictions .....................................................27
Management ..................................................................31
Determination of Net Asset Value ............................................37
Portfolio Transactions ......................................................39
How to Buy and How to Sell Shares ...........................................41
Distribution and Servicing Plan .............................................43
Dividends and Distributions .................................................44
Taxation ....................................................................46
Performance Information .....................................................49
Information About the Fund and Portfolios ...................................53
Counsel and Independent Auditors ............................................65
Additional Information ......................................................65
Appendix ....................................................................66
2
<PAGE>
DESCRIPTION OF THE FUND AND PORTFOLIOS
The Fund is a Maryland corporation organized on May 17, 1991.
Each Portfolio is a separate portfolio of the Fund, an open-end management
investment company, known as a mutual fund. The Equity Portfolio is a
diversified investment company, which means that, with respect to 75% of its
total assets, the Equity Portfolio will not invest more than 5% of its assets in
the securities of any single issuer nor hold more than 10% of the outstanding
voting securities of any single issuer. Each of the other Portfolios is a
non-diversified investment company, which means that the proportion of the
Portfolio's assets that may be invested in the securities of a single issuer is
not limited by the Investment Company Act of 1940, as amended (the "1940 Act").
Lazard Asset Management, a division of Lazard Freres & Co. LLC
("Lazard"), serves as the investment manager (the "Investment Manager") to each
of the Portfolios.
Lazard is the distributor of each Portfolio's shares.
CERTAIN PORTFOLIO SECURITIES
The following information supplements and should be read in
conjunction with the Fund's Prospectus.
DEPOSITARY RECEIPTS. (All Portfolios, except the Small Cap
Portfolio) Each of these Portfolios may invest in the securities of foreign
issuers in the form of American Depositary Receipts ("ADRs") and Global
Depositary Receipts ("GDRs"). These securities may not necessarily be
denominated in the same currency as the securities into which they may be
converted. ADRs are receipts typically issued by a United States bank or trust
company which evidence ownership of underlying securities issued by a foreign
corporation. GDRs are receipts issued outside the United States, typically by
non-United States banks and trust companies that evidence ownership of either
foreign or domestic securities. Generally, ADRs in registered form are designed
for use in the United States securities markets and GDRs in bearer form are
designed for use outside the United States.
These securities may be purchased through "sponsored" or
"unsponsored" facilities. A sponsored facility is established jointly by the
issuer of the underlying security and a depositary. A depositary may establish
an unsponsored facility without participation by the issuer of the deposited
security. Holders of unsponsored depositary receipts generally bear all the
costs of such facilities and the depositary of an unsponsored facility
frequently is under no obligation to distribute shareholder communications
received from the issuer of the deposited security or to pass through voting
rights to the holders of such receipts in respect of the deposited securities.
FOREIGN GOVERNMENT OBLIGATIONS; SECURITIES OF SUPRANATIONAL
ENTITIES. (All Portfolios, except the Equity Portfolio and Small Cap Portfolio)
Each of these Portfolios may invest in obligations issued or guaranteed by one
or more foreign governments or any of their political subdivisions, agencies or
instrumentalities that are determined by the Investment
3
<PAGE>
Manager to be of comparable quality to the other obligations
in which the Portfolio may invest. Supranational entities include international
organizations designated or supported by governmental entities to promote
economic reconstruction or development and international banking institutions
and related government agencies. Examples include the International Bank for
Reconstruction and Development (the World Bank), the European Coal and Steel
Community, the Asian Development Bank and the InterAmerican Development Bank.
CONVERTIBLE SECURITIES. (All Portfolios) Convertible
securities may be converted at either a stated price or stated rate into
underlying shares of common stock. Convertible securities have characteristics
similar to both fixed-income and equity securities. Convertible securities
generally are subordinated to other similar but non-convertible securities of
the same issuer, although convertible bonds, as corporate debt obligations,
enjoy seniority in right of payment to all equity securities, and convertible
preferred stock is senior to common stock, of the same issuer. Because of the
subordination feature, however, convertible securities typically have lower
ratings than similar non-convertible securities.
Although to a lesser extent than with fixed-income securities,
the market value of convertible securities tends to decline as interest rates
increase and, conversely, tends to increase as interest rates decline. In
addition, because of the conversion feature, the market value of convertible
securities tends to vary with fluctuations in the market value of the underlying
common stock. A unique feature of convertible securities is that as the market
price of the underlying common stock declines, convertible securities tend to
trade increasingly on a yield basis, and so may not experience market value
declines to the same extent as the underlying common stock. When the market
price of the underlying common stock increases, the prices of the convertible
securities tend to rise as a reflection of the value of the underlying common
stock. While no securities investments are without risk, investments in
convertible securities generally entail less risk than investments in common
stock of the same issuer.
Convertible securities provide for a stable stream of income
with generally higher yields than common stocks, but there can be no assurance
of current income because the issuers of the convertible securities may default
on their obligations. A convertible security, in addition to providing fixed
income, offers the potential for capital appreciation through the conversion
feature, which enables the holder to benefit from increases in the market price
of the underlying common stock. There can be no assurance of capital
appreciation, however, because securities prices fluctuate. Convertible
securities, however, generally offer lower interest or dividend yields than
non-convertible securities of similar quality because of the potential for
capital appreciation.
WARRANTS. (All Portfolios) A warrant is an instrument issued
by a corporation which gives the holder the right to subscribe to a specified
amount of the corporation's capital stock at a set price for a specified period
of time. A Portfolio may invest up to 5% of its total assets in warrants, except
that this limitation does not apply to warrants purchased by the Portfolio that
are sold in units with, or attached to, other securities.
4
<PAGE>
PARTICIPATION INTERESTS. (All Portfolios) Each Portfolio may
purchase from financial institutions participation interests in securities in
which the Portfolio may invest. A participation interest gives the Portfolio an
undivided interest in the security in the proportion that the Portfolio's
participation interest bears to the total principal amount of the security.
These instruments may have fixed, floating or variable rates of interest with
remaining maturities of 13 months or less. If the participation interest is
unrated, or has been given a rating below that which is permissible for purchase
by the Portfolio, the participation interest will be collateralized by U.S.
Government securities, or, in the case of unrated participation interests, the
Investment Manager must have determined that the instrument is of comparable
quality to those instruments in which the Portfolio may invest.
Each Portfolio may invest in corporate obligations denominated
in U.S. or (except with respect to the Equity Portfolio and Small Cap Portfolio)
foreign currencies that are originated, negotiated and structured by a syndicate
of lenders ("Co-Lenders") consisting of commercial banks, thrift institutions,
insurance companies, financial companies or other financial institutions one or
more of which administers the security on behalf of the syndicate (the "Agent
Bank"). Co-Lenders may sell such securities to third parties called
"Participants." Each Portfolio may invest in such securities either by
participating as a Co-Lender at origination or by acquiring an interest in the
security from a Co-Lender or a Participant (collectively, "participation
interests"). Co-Lenders and Participants interposed between the Portfolio and
the corporate borrower (the "Borrower"), together with Agent Banks, are referred
to herein as "Intermediate Participants." Each Portfolio also may purchase a
participation interest in a portion of the rights of an Intermediate
Participant, which would not establish any direct relationship between the Fund,
on behalf of the Portfolio, and the Borrower. In such cases, the Portfolio would
be required to rely on the Intermediate Participant that sold the participation
interest not only for the enforcement of the Portfolio's rights against the
Borrower, but also for the receipt and processing of payments due to the
Portfolio under the security. Because it may be necessary to assert through an
Intermediate Participant such rights as may exist against the Borrower, if the
Borrower fails to pay principal and interest when due, the Portfolio may be
subject to delays, expenses and risks that are greater than those that would be
involved if the Portfolio were to enforce its rights directly against the
Borrower. Moreover, under the terms of a participation interest, the Portfolio
may be regarded as a creditor of the Intermediate Participant (rather than of
the Borrower), so that the Portfolio also may be subject to the risk that the
Intermediate Participant may become insolvent. Similar risks may arise with
respect to the Agent Bank if, for example, assets held by the Agent Bank for the
benefit of the Portfolio were determined by the appropriate regulatory authority
or court to be subject to the claims of the Agent Bank's creditors. In such
case, the Portfolio might incur certain costs and delays in realizing payment in
connection with the participation interest or suffer a loss of principal and/or
interest. Further, in the event of the bankruptcy or insolvency of the Borrower,
the obligation of the Borrower to repay the loan may be subject to certain
defenses that can be asserted by such Borrower as a result of improper conduct
by the Agent Bank or Intermediate Participant.
5
<PAGE>
VARIABLE AND FLOATING RATE SECURITIES. (All Portfolios)
Variable and floating rate securities provide for a periodic adjustment in the
interest rate paid on the obligations. The terms of such obligations must
provide that interest rates are adjusted periodically based upon an interest
rate adjustment index as provided in the respective obligations. The adjustment
intervals may be regular, and range from daily up to annually, or may be event
based, such as based on a change in the prime rate.
Each Portfolio may invest in floating rate debt instruments
("floaters"). The interest rate on a floater is a variable rate which is tied to
another interest rate, such as a money-market index or Treasury bill rate. The
interest rate on a floater resets periodically, typically every six months.
Because of the interest rate reset feature, floaters provide the Portfolio with
a certain degree of protection against rises in interest rates, although the
Portfolio will participate in any declines in interest rates as well.
Each Portfolio also may invest in inverse floating rate debt
instruments ("inverse floaters"). The interest rate on an inverse floater resets
in the opposite direction from the market rate of interest to which the inverse
floater is indexed. An inverse floating rate security may exhibit greater price
volatility than a fixed rate obligation of similar credit quality.
MUNICIPAL OBLIGATIONS. (Bond Portfolio, High Yield Portfolio
and Strategic Yield Portfolio) In circumstances where the Investment Manager
determines that investment in municipal obligations would facilitate the
Portfolio's ability to accomplish its investment objective, each of these
Portfolios may invest its assets in such obligations, including municipal
obligations issued at a discount. Dividends on shares attributable to interest
on municipal obligations held by the Portfolio will not be exempt from federal
income taxes. Municipal obligations are susceptible to risks arising from the
financial condition of the states, public bodies or municipalities issuing the
securities. To the extent that state or local governmental entities are unable
to meet their financial obligations, the income derived by the Portfolio from
municipal obligations could be impaired.
Municipal obligations are debt obligations issued by states,
territories and possessions of the United States and the District of Columbia
and their political subdivisions, agencies and instrumentalities, or multistate
agencies or authorities. Municipal obligations bear fixed, floating or variable
rates of interest. Certain municipal obligations are subject to redemption at a
date earlier than their stated maturity pursuant to call options, which may be
separated from the related municipal obligations and purchased and sold
separately. Each of these Portfolios also may acquire call options on specific
municipal obligations. The Portfolio generally would purchase these call options
to protect the Portfolio from the issuer of the related municipal obligation
redeeming, or other holder of the call option from calling away, the municipal
obligation before maturity.
Municipal obligations generally include debt obligations
issued to obtain funds for various public purposes as well as certain industrial
development bonds issued by or on behalf of public authorities. Municipal
obligations are classified as general obligation bonds, revenue bonds and notes.
General obligation bonds are secured by the issuer's pledge of its
6
<PAGE>
faith, credit and taxing power for the payment of principal and interest.
Revenue bonds are payable from the revenue derived from a particular facility or
class of facilities or, in some cases, from the proceeds of a special excise or
other specific revenue source, but not from the general taxing power. Industrial
development bonds, in most cases, are revenue bonds and generally do not carry
the pledge of the credit of the issuing municipality, but generally are
guaranteed by the corporate entity on whose behalf they are issued. Notes are
short-term instruments which are obligations of the issuing municipalities or
agencies and are sold in anticipation of a bond sale, collection of taxes or
receipt of other revenues. Municipal obligations include municipal
lease/purchase agreements which are similar to installment purchase contracts
for property or equipment issued by municipalities.
While, in general, municipal obligations are tax exempt
securities having relatively low yields as compared to taxable, non-municipal
obligations of similar quality, certain municipal obligations are taxable
obligations, offering yields comparable to, and in some cases greater than, the
yields available on other permissible Portfolio investments. Dividends received
by shareholders on Portfolio shares which are attributable to interest income
received by the Portfolio from municipal obligations generally will be subject
to federal income tax. Each of these Portfolios will invest in municipal
obligations, the ratings of which correspond with the ratings of other
permissible Portfolio investments. Each of these Portfolios currently intends to
invest no more than 25% of its assets in municipal obligations. However, this
percentage may be varied from time to time without shareholder approval.
ZERO COUPON AND STRIPPED U.S. TREASURY SECURITIES. (Bond
Portfolio, High Yield Portfolio, International Fixed-Income Portfolio and
Strategic Yield Portfolio) Each of these Portfolios may invest in zero coupon
U.S. Treasury securities, which are Treasury notes and Bonds that have been
stripped of their unmatured interest coupons, the coupons themselves and
receipts or certificates representing interests in such stripped debt
obligations and coupons. Zero coupon securities also are issued by corporations
and financial institutions which constitute a proportionate ownership of the
issuer's pool of underlying U.S. Treasury securities. A zero coupon security
pays no interest to its holder during its life and is sold at a discount to its
face value at maturity. The market prices of zero coupon securities generally
are more volatile than the market prices of securities that pay interest
periodically and are likely to respond to a greater degree to changes in
interest rates than non-zero coupon securities having similar maturities and
credit qualities.
MORTGAGE-RELATED SECURITIES. (Bond Portfolio, High Yield
Portfolio, International Fixed-Income Portfolio and Strategic Yield Portfolio
and, to a limited extent, the Equity Portfolio, Mid Cap Portfolio, Small Cap
Portfolio and Global Equity Portfolio) Mortgage-related securities are secured,
directly or indirectly, by pools of mortgages, and may include complex
instruments such as collateralized mortgage obligations and stripped
mortgage-backed securities. These securities also may include mortgage
pass-through securities, interests in REMICs or other kinds of mortgage-backed
securities. The mortgage-related securities which may be purchased include those
with fixed, floating and variable interest rates, those with interest rates that
change based on multiples of changes in interest rates and those with interest
rates that change inversely to changes in interest rates.
7
<PAGE>
RESIDENTIAL MORTGAGE-RELATED SECURITIES--Each of these Portfolios may invest in
mortgage-related securities representing participation interests in pools of
one- to four-family residential mortgage loans issued by governmental agencies
or instrumentalities, such as the GNMA, FNMA and FHLMC, or by private entities.
Residential mortgage-related securities issued by private entities are
structured to provide protection to the senior class investors against potential
losses on the underlying mortgage loans. This protection is generally provided
by having the holders of the subordinated class of securities ("Subordinated
Securities") take the first loss if there are defaults on the underlying
commercial mortgage loans. Other protection, which may benefit all of the
classes or particular classes, may include issuer guarantees, reserve funds,
additional Subordinated Securities, cross-collateralization and
over-collateralization.
COMMERCIAL MORTGAGE-RELATED SECURITIES--Each of these Portfolios may invest in
commercial mortgage-related securities, which generally are multi-class debt or
pass-through certificates secured by mortgage loans on commercial properties.
Similar to residential mortgage-related securities, commercial mortgage-related
securities have been issued using a variety of structures, including multi-class
structures featuring senior and subordinated classes.
SUBORDINATED SECURITIES--Each of these Portfolios may invest in Subordinated
Securities issued or sponsored by commercial banks, savings and loan
institutions, mortgage bankers, private mortgage insurance companies and other
non-governmental issuers. Subordinated Securities have no governmental
guarantee, and are subordinated in some manner as to the payment of principal
and/or interest to the holders of more senior mortgage-related securities
arising out of the same pool of mortgages. The holders of Subordinated
Securities typically are compensated with a higher stated yield than are the
holders of more senior mortgage-related securities. On the other hand,
Subordinated Securities typically subject the holder to greater risk than senior
mortgage-related securities and tend to be rated in a lower rating category, and
frequently a substantially lower rating category, than the senior
mortgage-related securities issued in respect of the same pool of mortgage.
Subordinated Securities generally are likely to be more sensitive to changes in
prepayment and interest rates and the market for such securities may be less
liquid than is the case for traditional fixed-income securities and senior
mortgage-related securities.
COLLATERALIZED MORTGAGE OBLIGATIONS AND MULTI-CLASS PASS-THROUGH
SECURITIES--Collateralized mortgage obligations or "CMOs" are multiclass bonds
backed by pools of mortgage pass-through certificates or mortgage loans. CMOs
may be collateralized by (a) pass-through certificates issued or guaranteed by
GNMA, FNMA or FHLMC, (b) unsecuritized mortgage loans insured by the Federal
Housing Administration or guaranteed by the Department of Veterans' Affairs, (c)
unsecuritized conventional mortgages, (d) other mortgage-related securities or
(e) any combination thereof. CMOs may be issued by agencies or instrumentalities
of the U.S. Government, or by private originators of, or investors in, mortgage
loans, including depository institutions, mortgage banks, investment banks and
special purpose subsidiaries of the foregoing. The issuer of CMOs or multi-class
pass-through securities may elect to be treated as a REMIC. The Bond Portfolio,
High Yield Portfolio and International Fixed-Income Portfolio may invest, to a
limited extent, in residual interests in REMICs. See "Taxation."
8
<PAGE>
Each class of CMOs, often referred to as a "tranche," is
issued at a specific coupon rate and has a stated maturity or final distribution
date; these characteristics will vary from one tranche to another. Principal
prepayments on collateral underlying a CMO may cause it to be retired
substantially earlier than the stated maturities or final distribution dates.
The principal and interest on the underlying mortgages may be allocated among
the several classes of a series of a CMO in many ways. One or more tranches of a
CMO may have coupon rates which reset periodically at a specified increment over
an index, such as the London Interbank Offered Rate ("LIBOR") (or sometimes more
than one index). These floating rate CMOs typically are issued with lifetime
caps on the coupon rate thereon. Each of these Portfolios also may invest in
inverse floating rate CMOs. Inverse floating rate CMOs constitute a tranche of a
CMO with a coupon rate that moves in the reverse direction to an applicable
index such as the LIBOR. Accordingly, the coupon rate thereon will increase as
interest rates decrease. Inverse floating rate CMOs are typically more volatile
than fixed or floating rate tranches of CMOs.
Many inverse floating rate CMOs have coupons that move
inversely to a multiple of the applicable indexes. The coupon varying inversely
to a multiple of an applicable index creates a leverage factor. The markets for
inverse floating rate CMOs with highly leveraged characteristics may at times be
very thin. The Portfolio's ability to dispose of its positions in such
securities will depend on the degree of liquidity in the markets for such
securities. It is impossible to predict the amount of trading interest that may
exist in such securities, and therefore the future degree of liquidity. It
should be noted that inverse floaters based on multiples of a stated index are
designed to be highly sensitive to changes in interest rates and can subject the
holders thereof to extreme reductions of yield and loss of principal.
STRIPPED MORTGAGE-BACKED SECURITIES--Each of these Portfolios also may invest in
stripped mortgage-backed securities. Stripped mortgage-backed securities are
created by segregating the cash flows from underlying mortgage loans or mortgage
securities to create two or more new securities, each with a specified
percentage of the underlying security's principal or interest payments. Mortgage
securities may be partially stripped so that each investor class received some
interest and some principal. When securities are completely stripped, however,
all of the interest is distributed to holders of one type of security, known as
an interest-only security, or IO, and all of the principal is distributed to
holders of another type of security known as a principal-only security, or PO.
Strips can be created in a pass-through structure or as tranches of a CMO. The
yields to maturity on IOs and POs are very sensitive to the rate of principal
payments (including prepayments) on the related underlying mortgage assets. If
the underlying mortgage assets experience greater than anticipated prepayments
of principal, the Portfolio may not fully recoup its initial investment in IOs.
Conversely, if the underlying mortgage assets experience less than anticipated
prepayments of principal, the yield on POs could be materially and adversely
affected.
REAL ESTATE INVESTMENT TRUSTS--Each of these Portfolios may invest in Real
Estate Investment Trusts ("REITs"), although each of the Equity Portfolio, Mid
Cap Portfolio, Small Cap Portfolio and Global Equity Portfolio currently intends
to limit its investments in REITs to no more than 5% of its assets. A REIT is a
corporation, or a business trust that would otherwise be taxed as a corporation,
which meets the definitional requirements of the Code. The Code permits a
9
<PAGE>
qualifying REIT to deduct dividends paid, thereby effectively eliminating
corporate level Federal income tax and making the REIT a pass-through vehicle
for Federal income tax purposes. To meet the definitional requirements of the
Code, a REIT must, among other things, invest substantially all of its assets in
interests in real estate (including mortgages and other REITs) or cash and
government securities, derive most of its income from rents from real property
or interest on loans secured by mortgages on real property, and distribute to
shareholders annually a substantial portion of its otherwise taxable income.
REITs are characterized as equity REITs, mortgage REITs and
hybrid REITs. Equity REITs, which may include operating or finance companies,
own real estate directly and the value of, and income earned by, the REITs
depends upon the income of the underlying properties and the rental income they
earn. Equity REITs also can realize capital gains (or losses) by selling
properties that have appreciated (or depreciated) in value. Mortgage REITs can
make construction, development or long-term mortgage loans and are sensitive to
the credit quality of the borrower. Mortgage REITs derive their income from
interest payments on such loans. Hybrid REITs combine the characteristics of
both equity and mortgage REITs, generally by holding both ownership interests
and mortgage interests in real estate. The values of securities issued by REITs
are affected by tax and regulatory requirements and by perceptions of management
skill. They also are subject to heavy cash flow dependency, defaults by
borrowers or tenants, self-liquidation and the possibility of failing to qualify
for tax-free status under the Code or to maintain exemption from the 1940 Act.
GOVERNMENT-AGENCY SECURITIES--Mortgage-related securities issued by the
Government National Mortgage Association ("GNMA") include GNMA Mortgage
Pass-Through Certificates (also known as "Ginnie Maes") which are guaranteed as
to the timely payment of principal and interest by GNMA and such guarantee is
backed by the full faith and credit of the United States. GNMA is a wholly-owned
U.S. Government corporation within the Department of Housing and Urban
Development.
GOVERNMENT-RELATED SECURITIES--Mortgage-related securities issued by the Federal
National Mortgage Association ("FNMA") include FNMA Guaranteed Mortgage
Pass-Through Certificates (also known as "Fannie Maes") which are solely the
obligations of FNMA and are not backed by or entitled to the full faith and
credit of the United States Government. FNMA is a government-sponsored
organization owned entirely by private stockholders.
Mortgage-related securities issued by the Federal Home Loan
Mortgage Corporation ("FHLMC") include FHLMC Mortgage Participation Certificates
(also known as "Freddie Macs" or "PCs"). FHLMC is a corporate instrumentality of
the United States Government created pursuant to an Act of Congress, which is
owned entirely by Federal Home Loan Banks.
PRIVATE ENTITY SECURITIES--These mortgage-related securities are issued by
commercial banks, savings and loan institutions, mortgage bankers, private
mortgage insurance companies and other non-governmental issuers. Timely payment
of principal and interest on mortgage-related securities backed by pools created
by non-governmental issuers often is supported partially by
10
<PAGE>
various forms of insurance or guarantees, including individual loan, title, pool
and hazard insurance. The insurance and guarantees are issued by government
entities, private insurers and the mortgage poolers. There can be no assurance
that the private insurers or mortgage poolers can meet their obligations under
the policies, so that if the issuers default on their obligations the holders of
the security could sustain a loss. No insurance or guarantee covers the
Portfolio or the price of the Portfolio's shares. Mortgage-related securities
issued by non-governmental issuers generally offer a higher rate of interest
than government-agency and government-related securities because there are no
direct or indirect government guarantees of payment.
CMO RESIDUALS--CMO Residuals are derivative mortgage securities issued by
agencies or instrumentalities of the U.S. Government or by private originators
of, or investors in, mortgage loans, including savings and loan associations,
mortgage banks, commercial banks, investment banks and special purpose
subsidiaries of the foregoing.
The cash flow generated by the Mortgage Assets underlying
series of CMOs is applied first to make required payments of principal of and
interest on the CMOs and second to pay the related administrative expenses of
the issuer. The residual in a CMO structure generally represents the interest in
any excess cash flow remaining after making the foregoing payments. Each payment
of such excess cash flow to a holder of the related CMO Residual represents
dividend or interest income and/or a return of capital. The amount of residual
cash flow resulting from a CMO will depend on, among other things, the
characteristics of the Mortgage Assets, the coupon rate of each class of CMOs,
prevailing interest rates, the amount of administrative expenses and the
prepayment experience on the Mortgage Assets. In particular, the yield to
maturity on CMO Residuals is extremely sensitive to prepayments on the related
underlying Mortgage Assets in the same manner as an IO class of SMBS. See
"Stripped Mortgage-Backed Securities," above. In addition, if a series of a CMO
includes a class that bears interest at an adjustable rate, the yield to
maturity on the related CMO residual will also be extremely sensitive to the
level of the index upon which interest rate adjustments are based. As described
above with respect to SMBS, in certain circumstances, the Portfolio may fail to
fully recoup its initial investment in a CMO Residual.
CMO Residuals are generally purchased and sold by
institutional investors through several investment banking firms acting as
brokers or dealers. CMO Residuals may not have the liquidity of other more
established securities trading in other markets. Transactions in CMO Residuals
are generally completed only after careful review of the characteristics of the
securities in question. In addition, CMO Residuals may or, pursuant to an
exemption therefrom, may not have been registered under the Securities Act. CMO
Residuals, whether or not registered under the Securities Act, may be subject to
certain restrictions of transferability. Ownership of certain CMO Residuals
imposes liability for certain of the expenses of the related CMO issuer on the
purchaser. The Investment Manager will not purchase any CMO Residual that
imposes such liability on the Portfolio.
OTHER MORTGAGE-RELATED SECURITIES--Other mortgage-related securities include
securities other than those described above that directly or indirectly
represent a participation in, or are secured by and payable from, mortgage loans
on real property. Other mortgage-related securities may
11
<PAGE>
be equity or debt securities issued by agencies or instrumentalities of the U.S.
Government or by private originators of, or investors in, mortgage loans,
including savings and loan associations, homebuilders, mortgage banks,
commercial banks, investment banks, partnerships, trusts and special purpose
entities of the foregoing.
ASSET-BACKED SECURITIES. (Bond Portfolio, High Yield
Portfolio, International Fixed-Income Portfolio and Strategic Yield Portfolio)
Each of these Portfolios may invest in asset-backed securities, including
interests in pools of receivables, such as motor vehicle installment purchase
obligations, credit card receivables, home equity loans, home improvement loans
and manufactured housing loans. These securities may be in the form of
pass-through instruments or asset-backed bonds. The securities, all of which are
issued by non-governmental entities and carry no direct or indirect government
guarantee, are structurally similar to the collateralized mortgage obligations
and mortgage pass-through securities described above. As with mortgage-backed
securities, asset-backed securities are often backed by a pool of assets
representing the obligations of a number of different parties and use similar
credit enhancement techniques.
Asset-backed securities present certain risks that are not
presented by mortgage-related securities. Primarily, these securities may
provide the Portfolio with a less effective security interest in the related
collateral than do mortgage-related securities. Therefore, there is the
possibility that recoveries on the underlying collateral may not, in some cases,
be available to support payments on these securities. Credit card receivables
are generally unsecured and the debtors are entitled to the protection of a
number of state and federal consumer credit laws, many of which give such
debtors the right to set off certain amounts owed on the credit cards, thereby
reducing the balance due. Most organizations that issue asset-backed securities
relating to motor vehicle installment purchase obligations perfect their
interests in their respective obligations only by filing a financing statement
and by having the servicer of the obligations, which is usually the originator,
take custody thereof. In such circumstances, if the servicer were to sell the
same obligations to another party, in violation of its duty not to so do, there
is a risk that such party could acquire an interest in the obligations superior
to that of the holders of the securities. Also, although most such obligations
grant a security interest in the motor vehicle being financed, in most states
the security interest in a motor vehicle must be noted on the certificate of
title to perfect such security interest against competing claims of other
parties. Due to the large number of vehicles involved, however, the certificate
of title to each vehicle financed, pursuant to the obligations underlying the
securities, usually is not amended to reflect the assignment of the seller's
security interest for the benefit of the holders of the securities. Therefore,
there is the possibility that recoveries on repossessed collateral may not, in
some cases, be available to support payments on those securities. In addition,
various state and federal laws give the motor vehicle owner the right to assert
against the holder of the owner's obligation certain defenses such owner would
have against the seller of the motor vehicle. The assertion of such defenses
could reduce payments on the related securities.
INVESTMENT COMPANIES. (All Portfolios) Each Portfolio may
invest, to the extent permitted under the 1940 Act, in securities issued by
investment companies which principally invest in securities of the type in which
the Portfolio invests. Investments in the securities of investment companies may
involve duplication of advisory fees and certain other expenses.
12
<PAGE>
ILLIQUID SECURITIES. (All Portfolios) Each Portfolio may
invest up to 10% (15% in the case of the Mid Cap Portfolio and High Yield
Portfolio) of the value of its net assets in securities as to which a liquid
trading market does not exist, provided such investments are consistent with the
Portfolio's investment objective. Such securities may include securities that
are not readily marketable, such as securities that are subject to legal or
contractual restrictions on resale, repurchase agreements providing for
settlement in more than seven days after notice, certain mortgage-related
securities, and certain privately negotiated, non-exchange traded options and
securities used to cover such options. As to these securities, the Portfolio is
subject to a risk that should the Portfolio desire to sell them when a ready
buyer is not available at a price the Portfolio deems representative of their
value, the value of the Portfolio's net assets could be adversely affected.
MONEY MARKET INSTRUMENTS. (All Portfolios) When the Investment
Manager determines that adverse market conditions exist, a Portfolio may adopt a
temporary defensive position and invest some or all of its assets in money
market instruments, including U.S. Government securities, repurchase agreements,
bank obligations and commercial paper. Each Portfolio also may purchase money
market instruments when it has cash reserves or in anticipation of taking a
market position.
INVESTMENT TECHNIQUES
The following information supplements and should be read in
conjunction with the Fund's Prospectus.
BORROWING MONEY. (All Portfolios) Each Portfolio, except as
noted, is permitted to borrow money from banks for temporary or emergency (not
leveraging) purposes, including to meet redemption requests which might require
the untimely disposition of securities, in an amount up to 15% (5% for purposes
other than meeting redemption requests) of the value of its total assets
(including the amount borrowed) valued at the lesser of cost or market, less
liabilities (including the amount borrowed) at the time the borrowing is made.
The Equity Portfolio, however, may borrow for temporary purposes only to meet
redemption requests in an amount up to 10% of the value of its total assets.
While borrowings exceed 5% of a Portfolio's total assets, the Portfolio will not
make any additional investments. In addition, the Mid Cap Portfolio, Global
Equity Portfolio and, although currently it has no intention of doing so, Equity
Portfolio may borrow for investment purposes to the extent permitted under the
1940 Act, which permits an investment company to borrow in an amount up to
33-1/3% of the value of its total assets. See "Leverage" below.
LEVERAGE. (Equity Portfolio, Mid Cap Portfolio, Global Equity
Portfolio, International Small Cap Portfolio, Emerging Markets Portfolio and
High Yield Portfolio) Leveraging (that is, buying securities using borrowed
money) exaggerates the effect on net asset value of any increase or decrease in
the market value of the Portfolio's investment. Money borrowed for leveraging is
limited to 33-1/3% of the value of the Portfolio's total assets. These
borrowings would be subject to interest costs which may or may not be recovered
by appreciation of the securities purchased; in certain cases, interest costs
may exceed the return
13
<PAGE>
received on the securities purchased. For borrowings for investment purposes,
the 1940 Act requires the Portfolio to maintain continuous asset coverage (that
is, total assets including borrowings, less liabilities exclusive of borrowings)
of 300% of the amount borrowed. If the required coverage should decline as a
result of market fluctuations or other reasons, the Portfolio may be required to
sell some of its portfolio securities within three days to reduce the amount of
its borrowings and restore the 300% asset coverage, even though it may be
disadvantageous from an investment standpoint to sell securities at that time.
The Portfolio also may be required to maintain minimum average balances in
connection with such borrowing or pay a commitment or other fee to maintain a
line of credit; either of these requirements would increase the cost of
borrowing over the stated interest rate.
Each of these Portfolios may enter into reverse repurchase
agreements with banks, brokers or dealers. This form of borrowing involves the
transfer by the Portfolio of an underlying debt instrument in return for cash
proceeds based on a percentage of the value of the security. The Portfolio
retains the right to receive interest and principal payments on the security. At
an agreed upon future date, the Portfolio repurchases the security at principal
plus accrued interest. To the extent a Portfolio enters into a reverse
repurchase agreement, the Portfolio will maintain in a segregated custodial
account permissible liquid assets at least equal to the aggregate amount of its
reverse repurchase obligations, plus accrued interest, in certain cases, in
accordance with releases promulgated by the Securities and Exchange Commission.
Except for these transactions, each of these Portfolio's borrowings generally
will be unsecured.
LENDING PORTFOLIO SECURITIES. (All Portfolios) Each Portfolio
may lend securities from its portfolio to brokers, dealers and other financial
institutions needing to borrow securities to complete certain transactions. The
Portfolio continues to be entitled to payments in amounts equal to the interest,
dividends or other distributions payable on the loaned securities which affords
the Portfolio an opportunity to earn interest on the amount of the loan and on
the loaned securities' collateral. Loans of portfolio securities may not exceed
33-1/3% (10% with respect to the Equity Portfolio, Small Cap Portfolio,
International Equity Portfolio, Bond Portfolio, International Fixed-Income
Portfolio and Strategic Yield Portfolio) of the value of the Portfolio's total
assets, and the Portfolio will receive collateral consisting of cash, U.S.
Government securities or irrevocable letters of credit which will be maintained
at all times in an amount equal to at least 100% of the current market value of
the loaned securities. Such loans are terminable by the Portfolio at any time
upon specified notice. The Portfolio might experience risk of loss if the
institution with which it has engaged in a portfolio loan transaction breaches
its agreement with the Portfolio. In connection with its securities lending
transactions, a Portfolio may return to the borrower or a third party which is
unaffiliated with the Portfolio, and which is acting as a "placing broker," a
part of the interest earned from the investment of collateral received for
securities loaned.
DERIVATIVES. (All Portfolios) Each Portfolio may invest in, or
enter into, derivatives to the extent described in the Prospectus, for a variety
of reasons, including to hedge certain market risks, to provide a substitute for
purchasing or selling particular securities or to increase potential income
gain. Derivatives may provide a cheaper, quicker or more specifically focused
way for the Portfolio to invest than "traditional" securities would.
14
<PAGE>
Derivatives can be volatile and involve various types and
degrees of risk, depending upon the characteristics of the particular derivative
and the portfolio as a whole. Derivatives permit a Portfolio to increase or
decrease the level of risk, or change the character of the risk, to which its
portfolio is exposed in much the same way as the Portfolio can increase or
decrease the level of risk, or change the character of the risk, of its
portfolio by making investments in specific securities.
Derivatives may entail investment exposures that are greater
than their cost would suggest, meaning that a small investment in derivatives
could have a large potential impact on a Portfolio's performance.
If a Portfolio invests in derivatives at inopportune times or
judges market conditions incorrectly, such investments may lower the Portfolio's
return or result in a loss. A Portfolio also could experience losses if its
derivatives were poorly correlated with its other investments, or if the
Portfolio were unable to liquidate its position because of an illiquid secondary
market. The market for many derivatives is, or suddenly can become, illiquid.
Changes in liquidity may result in significant, rapid and unpredictable changes
in the prices for derivatives.
Although neither the Fund nor any Portfolio will be a
commodity pool, certain derivatives subject the Portfolios to the rules of the
Commodity Futures Trading Commission which limit the extent to which a Portfolio
can invest in such derivatives. A Portfolio may invest in futures contracts and
options with respect thereto for hedging purposes without limit. However, no
Portfolio may invest in such contracts and options for other purposes if the sum
of the amount of initial margin deposits and premiums paid for unexpired options
with respect to such contracts, other than for bona fide hedging purposes,
exceeds 5% of the liquidation value of the Portfolio's assets, after taking into
account unrealized profits and unrealized losses on such contracts and options;
provided, however, that in the case of an option that is in-the-money at the
time of purchase, the in-the-money amount may be excluded in calculating the 5%
limitation.
When required by the Commission, a Portfolio will segregate
permissible liquid assets to cover its obligations relating to its transactions
in derivatives. To maintain this required cover, the Portfolio may have to sell
portfolio securities at disadvantageous prices or times since it may not be
possible to liquidate a derivative position at a reasonable price.
Derivatives may be purchased on established exchanges or
through privately negotiated transactions referred to as over-the-counter
derivatives. Exchange-traded derivatives generally are guaranteed by the
clearing agency which is the issuer or counterparty to such derivatives. This
guarantee usually is supported by a daily variation margin system operated by
the clearing agency in order to reduce overall credit risk. As a result, unless
the clearing agency defaults, there is relatively little counterparty credit
risk associated with derivatives purchased on an exchange. By contrast, no
clearing agency guarantees over-the-counter derivatives. Therefore, each party
to an over-the-counter derivative bears the risk that the counterparty will
default. Accordingly, the Investment Manager will consider the creditworthiness
of
15
<PAGE>
counterparties to over-the-counter derivatives in the same manner as it would
review the credit quality of a security to be purchased by the Portfolio.
Over-the-counter derivatives are less liquid than exchange-traded derivatives
since the other party to the transaction may be the only investor with
sufficient understanding of the derivative to be interested in bidding for it.
FUTURES TRANSACTIONS--IN GENERAL. (All Portfolios, except the Equity Portfolio,
Small Cap Portfolio, International Equity Portfolio and Strategic Yield
Portfolio) Each of these Portfolios may enter into futures contracts in U.S.
domestic markets, or on exchanges located outside the United States. Foreign
markets may offer advantages such as trading opportunities or arbitrage
possibilities not available in the United States. Foreign markets, however, may
have greater risk potential than domestic markets. For example, some foreign
exchanges are principal markets so that no common clearing facility exists and
an investor may look only to the broker for performance of the contract. In
addition, any profits a Portfolio might realize in trading could be eliminated
by adverse changes in the currency exchange rate, or the Portfolio could incur
losses as a result of those changes. Transactions on foreign exchanges may
include both commodities which are traded on domestic exchanges and those which
are not. Unlike trading on domestic commodity exchanges, trading on foreign
commodity exchanges is not regulated by the Commodity Futures Trading
Commission.
Engaging in these transactions involves risk of loss to the
Portfolio which could adversely affect the value of the Portfolio's net assets.
Although each of these Portfolios intends to purchase or sell futures contracts
only if there is an active market for such contracts, no assurance can be given
that a liquid market will exist for any particular contract at any particular
time. Many futures exchanges and boards of trade limit the amount of fluctuation
permitted in futures contract prices during a single trading day. Once the daily
limit has been reached in a particular contract, no trades may be made that day
at a price beyond that limit or trading may be suspended for specified periods
during the trading day. Futures contract prices could move to the limit for
several consecutive trading days with little or no trading, thereby preventing
prompt liquidation of futures positions and potentially subjecting the Portfolio
to substantial losses.
Successful use of futures by a Portfolio also is subject to
the Investment Manager's ability to predict correctly movements in the direction
of the relevant market, and, to the extent the transaction is entered into for
hedging purposes, to ascertain the appropriate correlation between the
transaction being hedged and the price movements of the futures contract. For
example, if a Portfolio uses futures to hedge against the possibility of a
decline in the market value of securities held in its portfolio and the prices
of such securities instead increase, the Portfolio will lose part or all of the
benefit of the increased value of securities which it has hedged because it will
have offsetting losses in its futures positions. Furthermore, if in such
circumstances the Portfolio has insufficient cash, it may have to sell
securities to meet daily variation margin requirements. The Portfolio may have
to sell such securities at a time when it may be disadvantageous to do so.
Pursuant to regulations and/or published positions of the
Commission, a Portfolio may be required to segregate permissible liquid assets
in connection with its commodities transactions in an amount generally equal to
the value of the underlying commodity. The
16
<PAGE>
segregation of such assets will have the effect of limiting the Portfolio's
ability otherwise to invest those assets.
The Board of Directors has adopted the requirement that
futures contracts and options on futures contracts be used by the Bond Portfolio
or the International Fixed-Income Portfolio solely as a hedge and not for
speculation. In addition to this requirement, the Board of Directors has also
adopted two percentage restrictions on the use of futures contracts. The first
restriction is that the Bond Portfolio and the International Fixed-Income
Portfolio will not enter into any futures contracts or options on futures
contracts if immediately thereafter the amount of margin deposits on all the
futures contracts of the Portfolio and premiums paid on options on futures
contracts would exceed 5% of the market value of the total assets of the
Portfolio. The second restriction is that the aggregate market value of the
outstanding futures contracts purchased by either the Bond Portfolio or
International Fixed-Income Portfolio not exceed 50% of the market value of the
total assets of such Portfolio. Neither of these restrictions will be changed by
the Fund's Board of Directors without considering the policies and concerns of
the various applicable federal and state regulatory agencies.
SPECIFIC FUTURES TRANSACTIONS. Each of these Portfolios, except the Bond
Portfolio, High Yield Portfolio and International Fixed-Income Portfolio, may
purchase and sell stock index futures contracts. A stock index future obligates
the Portfolio to pay or receive an amount of cash equal to a fixed dollar amount
specified in the futures contract multiplied by the difference between the
settlement price of the contract on the contract's last trading day and the
value of the index based on the stock prices of the securities that comprise it
at the opening of trading in such securities on the next business day.
The Global Equity Portfolio, International Small Cap
Portfolio, Emerging Markets Portfolio, Bond Portfolio, High Yield Portfolio and
International Fixed-Income Portfolio may purchase and sell interest rate futures
contracts. An interest rate future obligates the Portfolio to purchase or sell
an amount of a specific debt security at a future date at a specific price.
Each of these Portfolios, except the Bond Portfolio, may
purchase and sell currency futures. A currency future obligates the Portfolio to
purchase or sell an amount of a specific currency at a future date at a specific
price.
OPTIONS--IN GENERAL. (All Portfolios, except the Small Cap Portfolio and
International Equity Portfolio) Each of these Portfolios may invest up to 5% of
its assets, represented by the premium paid, in the purchase of call and put
options. A Portfolio may write (i.e., sell) covered call and put option
contracts to the extent of 20% of the value of its net assets at the time such
option contracts are written. A call option gives the purchaser of the option
the right to buy, and obligates the writer to sell, the underlying security or
securities at the exercise price at any time during the option period, or at a
specific date. Conversely, a put option gives the purchaser of the option the
right to sell, and obligates the writer to buy, the underlying security or
securities at the exercise price at any time during the option period, or at a
specified date.
A covered call option written by a Portfolio is a call option
with respect to which the Portfolio owns the underlying security or otherwise
covers the transaction by segregating
17
<PAGE>
permissible liquid assets. A put option written by a Portfolio is covered when,
among other things, the Portfolio segregates permissible liquid assets having a
value equal to or greater than the exercise price of the option to fulfill the
obligation undertaken. The principal reason for writing covered call and put
options is to realize, through the receipt of premiums, a greater return than
would be realized on the underlying securities alone. A Portfolio receives a
premium from writing covered call or put options which it retains whether or not
the option is exercised.
There is no assurance that sufficient trading interest to
create a liquid secondary market on a securities exchange will exist for any
particular option or at any particular time, and for some options no such
secondary market may exist. A liquid secondary market in an option may cease to
exist for a variety of reasons. In the past, for example, higher than
anticipated trading activity or order flow, or other unforeseen events, at times
have rendered certain of the clearing facilities inadequate and resulted in the
institution of special procedures, such as trading rotations, restrictions on
certain types of orders or trading halts or suspensions in one or more options.
There can be no assurance that similar events, or events that may otherwise
interfere with the timely execution of customers' orders, will not recur. In
such event, it might not be possible to effect closing transactions in
particular options. If, as a covered call option writer, a Portfolio is unable
to effect a closing purchase transaction in a secondary market, it will not be
able to sell the underlying security until the option expires or it delivers the
underlying security upon exercise or it otherwise covers its position.
SPECIFIC OPTIONS TRANSACTIONS. Each of these Portfolios may purchase and sell
call and put options in respect of specific securities (or groups or "baskets"
of specific securities) or indices listed on national securities exchanges or
traded in the over-the-counter market. An option on an index is similar to an
option in respect of specific securities, except that settlement does not occur
by delivery of the securities comprising the index. Instead, the option holder
receives an amount of cash if the closing level of the index upon which the
option is based is greater than, in the case of a call, or less than, in the
case of a put, the exercise price of the option. Thus, the effectiveness of
purchasing or writing index options will depend upon price movements in the
level of the index rather than the price of a particular security.
Except as described below, each of the Equity Portfolio,
Global Equity Portfolio, International Small Cap Portfolio and Emerging Markets
Portfolio will write call options on indices only if on such date the Portfolio
holds a portfolio of stocks at least equal to the value of the index times the
multiplier times the number of contracts. When one of the Portfolios writes a
call option on a broadly based stock market index, it will segregate or put into
escrow with the Fund's custodian, or pledge to a broker as collateral for the
option, at least ten "qualified securities" with a market value at the time the
option is written of not less than 100% of the current index value times the
multiplier times the number of contracts. If one of the Portfolios has written
an option on an industry or market segment index, it will so segregate, escrow,
or pledge at least five "qualified securities," all of which are stocks of
issuers in such industry or market segment, with a market value at the time the
option is written of not less than 100% of the current index value times the
multiplier times the number of contracts. Such stocks will include stocks which
represent at least 50% of the weighting of the industry or market segment
18
<PAGE>
index and will represent at least 50% of the Portfolio's holdings in that
industry or market segment. No individual security will represent more than 15%
of the amount so segregated, escrowed or pledged, in the case of broadly based
stock market index options, or 25% of such amount, in the case of industry or
market segment index options. If at the close of business on any day the market
value of such qualified securities so segregated, escrowed or pledged falls
below 100% of the current index value times the multiplier times the number of
contracts, the Portfolio will so segregate, escrow or pledge an amount in cash,
Treasury bills or other high grade short-term obligations equal in value to the
difference. In addition, when one of the Portfolios writes a call on an index
which is in-the-money at the time the call is written, the Portfolio will
segregate or pledge to the broker as collateral cash, Treasury bills or other
high grade short-term obligations equal in value to the amount by which the call
is in-the-money times the multiplier times the number of contracts. Any amount
segregated pursuant to the foregoing sentence may be applied to the Portfolio's
obligation to segregate additional amounts in the event that the market value of
the qualified securities falls below 100% of the current index value times the
multiplier times the number of contracts. A "qualified security" is an equity
security which is listed on a national domestic or foreign securities exchange
or quoted on the Nasdaq National Market System against which the Portfolio has
not written a stock call option; however, if the Portfolio owns a call on the
same index as the call written where the exercise price of the call owned is
equal to or less than the exercise price of the call written, or greater than
the call written if the difference is maintained by the Portfolio in segregated
permissible liquid assets, it will not be subject to the requirements described
in this paragraph.
Each of these Portfolios, except the Equity Portfolio, Small
Cap Portfolio and Bond Portfolio, may purchase and sell call and put options on
foreign currency. These options convey the right to buy or sell the underlying
currency at a price which is expected to be lower or higher than the spot price
of the currency at the time the option is exercised or expires.
Each of these Portfolios may purchase cash-settled options on
interest rate swaps, interest rate swaps denominated in foreign currency (except
in the case of the Equity Portfolio), and (except in the case of the Bond
Portfolio and International Fixed-Income Portfolio) equity index swaps in
pursuit of its investment objective. Interest rate swaps involve the exchange by
a Portfolio with another party of their respective commitments to pay or receive
interest (for example, an exchange of floating-rate payments for fixed-rate
payments) denominated in U.S. dollars or foreign currency. Equity index swaps
involve the exchange by the Portfolio with another party of cash flows based
upon the performance of an index or a portion of an index of securities which
usually includes dividends. A cash-settled option on a swap gives the purchaser
the right, but not the obligation, in return for the premium paid, to receive an
amount of cash equal to the value of the underlying swap as of the exercise
date. These options typically are purchased in privately negotiated transactions
from financial institutions, including securities brokerage firms.
Successful use by a Portfolio of options will be subject to
the Investment Manager's ability to predict correctly movements in the prices of
individual stocks, the stock market generally, foreign currencies or interest
rates. To the extent the Investment Manager's predictions are incorrect, the
Portfolio may incur losses.
19
<PAGE>
FUTURE DEVELOPMENTS. The relevant Portfolios may take
advantage of opportunities in the area of options and futures contracts and
options on futures contracts and any other Derivatives which are not presently
contemplated for use by the Portfolio or which are not currently available but
which may be developed, to the extent such opportunities are both consistent
with the Portfolio's investment objective and legally permissible for the
Portfolio. Before entering into such transactions or making any such investment,
the Portfolio will provide appropriate disclosure in the Prospectus or Statement
of Additional Information.
SHORT-SELLING. (Mid Cap Portfolio and High Yield Portfolio)
Each of these Portfolios may engage in short sales of securities. In these
transactions, the Portfolio sells a security it does not own in anticipation of
a decline in the market value of the security. To complete the transaction, the
Portfolio must borrow the security to make delivery to the buyer. The Portfolio
is obligated to replace the security borrowed by purchasing it subsequently at
the market price at the time of replacement. The price at such time may be more
or less than the price at which the security was sold by the Portfolio, which
would result in a loss or gain, respectively. The Portfolio also may make short
sales "against the box," in which the Portfolio enters into a short sale of a
security it owns. Securities will not be sold short if, after effect is given to
any such short sale, the total market value of all securities sold short would
exceed 25% of the value of the Portfolio's net assets.
Until the Portfolio closes its short position or replaces the
borrowed security, it will: (a) segregate permissible liquid assets in an amount
that, together with the amount deposited with the broker as collateral, always
equals the current value of the security sold short; or (b) otherwise cover its
short position.
FORWARD COMMITMENTS. (All Portfolios) A Portfolio may purchase
or sell securities on a forward commitment, when-issued or delayed delivery
basis, which means delivery and payment take place a number of days after the
date of the commitment to purchase or sell the securities at a predetermined
price and/or yield. Typically, no interest accrues to the purchaser until the
security is delivered. When purchasing a security on a forward commitment basis,
the Portfolio assumes the rights and risks of ownership of the security,
including the risk or price and yield fluctuations, and takes such fluctuations
into account when determining its net asset value. Because the Portfolio is not
required to pay for these securities until the delivery date, these risks are in
addition to the risks associated with the Portfolio's other investments. If the
Portfolio is fully or almost fully invested when forward commitment purchases
are outstanding, such purchases may result in a form of leverage. The Portfolio
intends to engage in forward commitments to increase its portfolio's financial
exposure to the types of securities in which it invests. Leveraging the
portfolio in this manner will increase the Portfolio's exposure to changes in
interest rates and will increase the volatility of its returns. The Portfolio
will segregate permissible liquid assets at least equal at all times to the
amount of the Portfolio's purchase commitments. At no time will the Portfolio
have more than 33-1/3% of its assets committed to purchase securities on a
forward commitment basis.
Securities purchased on a forward commitment or when-issued
basis are subject to changes in value (generally changing in the same way, i.e.,
appreciating when interest rates
20
<PAGE>
decline and depreciating when interest rates rise) based upon the public's
perception of the creditworthiness of the issuer and changes, real or
anticipated, in the level of interest rates. Securities purchased on a forward
commitment or when-issued basis may expose a Portfolio to risks because they may
experience such fluctuations prior to their actual delivery. Purchasing
securities on a forward commitment or when-issued basis can involve the
additional risk that the yield available in the market when the delivery takes
place actually may be higher than that obtained in the transaction itself.
Purchasing securities on a forward commitment or when-issued basis when the
Portfolio is fully or almost fully invested may result in greater potential
fluctuation in the value of the Portfolio's net assets and its net asset value
per share.
SWAP AGREEMENTS. (All Portfolios) To the extent consistent
with the Portfolio's investment objective and management policies as set forth
herein, each Portfolio may enter into equity, interest rate, index, total return
and currency rate swap agreements. These transactions are entered into in an
attempt to obtain a particular return when it is considered desirable to do so,
possibly at a lower cost to the Portfolio than if the Portfolio had invested
directly in the asset that yielded the desired return. Swap agreements are
two-party contracts entered into primarily by institutional investors for
periods ranging from a few weeks to more than a year. In a standard swap
transaction, two parties agree to exchange the returns (or differentials in
rates of return) earned or realized on particular predetermined investments or
instruments, which may be adjusted for an interest factor. The gross returns to
be exchanged or "swapped" between the parties are generally calculated with
respect to a "notional amount," i.e., the return on or increase in value of a
particular dollar amount invested at a particular interest rate, in a particular
foreign currency, or in a "basket" of securities representing a particular
index. Forms of swap agreements include interest rate caps, under which, in
return for a premium, one party agrees to make payments to the other to the
extent interest rates exceed a specified rate or "cap"; interest rate floors,
under which, in return for a premium, one party agrees to make payments to the
other to the extent interest rates fall below a specified level or "floor"; and
interest rate collars, under which a party sells a cap and purchases a floor or
vice versa in an attempt to protect itself against interest rate movements
exceeding given minimum or maximum levels.
Most swap agreements entered into by a Portfolio would
calculate the obligations of the parties to the agreement on a "net basis."
Consequently, the Portfolio's current obligations (or rights) under a swap
agreement generally will be equal only to the net amount to be paid or received
under the agreement based on the relative values of the positions held by each
party to the agreement (the "net amount"). The risk of loss with respect to
swaps is limited to the net amount of payments that the Portfolio is
contractually obligated to make. If the other party to a swap defaults, the
Portfolio's risk of loss consists of the net amount of payments that the
Portfolio contractually is entitled to receive.
FOREIGN CURRENCY TRANSACTIONS. (All Portfolios, except the
Equity Portfolio, Small Cap Portfolio and Bond Portfolio) Foreign currency
transactions may be entered into for a variety of purposes, including: to fix in
U.S. dollars, between trade and settlement date, the value of a security the
Portfolio has agreed to buy or sell; to hedge the U.S. dollar value of
securities the Portfolio already owns, particularly if it expects a decrease in
the value of the currency in which the foreign security is denominated; or to
gain exposure to the foreign currency in an attempt to realize gains.
21
<PAGE>
Foreign currency transactions may involve, for example, the
Portfolio's purchase of foreign currencies for U.S. dollars or the maintenance
of short positions in foreign currencies. A short position would involve the
Portfolio agreeing to exchange an amount of a currency it did not currently own
for another currency at a future date in anticipation of a decline in the value
of the currency sold relative to the currency the Portfolio contracted to
receive. The Portfolio's success in these transactions will depend principally
on the Investment Manager's ability to predict accurately the future exchange
rates between foreign currencies and the U.S. dollar.
INVESTMENT CONSIDERATIONS AND RISKS
EQUITY SECURITIES. (All Portfolios, except the Bond Portfolio,
High Yield Portfolio, International Fixed-Income Portfolio and Strategic Yield
Portfolio) Equity securities fluctuate in value, often based on factors
unrelated to the value of the issuer of the securities, and such fluctuations
can be pronounced. Changes in the value of a Portfolio's investments will result
in changes in the value of its shares and thus the Portfolio's total return to
investors.
The securities of the smaller companies in which the Small
Cap, International Small Cap and Emerging Markets Portfolios may invest may be
subject to more abrupt or erratic market movements than larger, more established
companies, because securities of smaller companies typically are traded in lower
volume and the issuers typically are more subject to changes in earnings and
prospects. Smaller capitalization companies often have limited product lines,
markets or financial resources. They may be dependent on management for one or a
few key persons, and can be more susceptible to losses and the risk of
bankruptcy. In addition, securities of the small capitalization sector may be
thinly traded (and therefore have to be sold at a discount from current market
prices or sold in small lots over an extended period of time), may be followed
by fewer investment research analysts and may be subject to wider price swings,
and thus may create a greater chance of loss than by investing in securities of
larger capitalization companies.
FIXED-INCOME SECURITIES. (All Portfolios) Even though
interest-bearing securities are investments which promise a stable stream of
income, the prices of such securities generally are inversely affected by
changes in interest rates and, therefore, are subject to the risk of market
price fluctuations. Certain portfolio securities, such as those with interest
rates that fluctuate directly or indirectly based on multiples of a stated
index, are designed to be highly sensitive to changes in interest rates and can
subject the holders thereof to extreme reductions of yield and possibly loss of
principal.
The values of fixed-income securities also may be affected by
changes in the credit rating or financial condition of the issuer. Certain
portfolio securities, such as those rated below investment grade by Standard &
Poor's Ratings Group ("S&P") and Moody's Investors Service, Inc. ("Moody's" and
together with S&P, the "Rating Agencies"), may be subject to such risk with
respect to the issuing entity and to greater market fluctuations than certain
lower yielding, higher rated fixed-income securities. Once the rating of a
portfolio security has been changed, the Portfolio will consider all
circumstances deemed relevant in determining whether
22
<PAGE>
to continue to hold the security.
Federal income tax law requires the holder of a zero coupon
security or of certain pay-in-kind bonds to accrue income with respect to these
securities prior to the receipt of cash payments. A Portfolio investing in such
securities may be required to distribute such income accrued with respect to
these securities and may have to dispose of portfolio securities under
disadvantageous circumstances in order to generate cash to satisfy these
distribution requirements.
MORTGAGE-RELATED SECURITIES. (Bond Portfolio, High Yield
Portfolio, International Fixed-Income Portfolio and Strategic Yield Portfolio)
As with other interest-bearing securities, the prices of certain
mortgage-related securities are inversely affected by changes in interest rates.
However, although the value of a mortgage-related security may decline when
interest rates rise, the converse is not necessarily true, since during periods
of declining interest rates the mortgages underlying the security are more
likely to be prepaid. For this and other reasons, a mortgage-related security's
stated maturity may be shortened by unscheduled prepayments on the underlying
mortgages, and, therefore, it is possible that the realized return of the
security may differ materially from the return originally expected by the
Investment Manager. Moreover, with respect to certain stripped mortgage-backed
securities, if the underlying mortgage securities experience greater than
anticipated prepayments of principal, the Portfolio may fail to fully recoup its
initial investment even if the securities are rated in the highest rating
category by a nationally recognized statistical rating organization. During
periods of rapidly rising interest rates, prepayments of mortgage-related
securities may occur at slower than expected rates. Slower prepayments
effectively may lengthen a mortgage-related security's expected maturity (but
not past its stated maturity), which generally would cause the value of such
security to fluctuate more widely in response to changes in interest rates. Were
the prepayments on the Portfolio's mortgage-related securities to decrease
broadly, the Portfolio's effective duration, and thus sensitivity to interest
rate fluctuations, would increase. Commercial real property loans, however,
often contain provisions that substantially reduce the likelihood that such
securities will be prepaid. The provisions generally impose significant
prepayment penalties on loans and in some cases there may be prohibitions on
principal prepayments for several years following origination.
Certain mortgage-related securities are subject to credit
risks associated with the performance of the underlying mortgage properties.
Adverse changes in economic conditions and circumstances are more likely to have
an adverse impact on mortgage-related securities secured by loans on commercial
properties than on those secured by loans on residential properties. In
addition, as described above, these securities are subject to prepayment risk,
although commercial mortgages typically have shorter maturities than residential
mortgages and prepayment protection features. Some mortgage-related securities
have structures that make their reactions to interest rate changes and other
factors difficult to predict, making their values highly volatile.
In certain instances, the credit risk associated with
mortgage-related securities can be reduced by third party guarantees or other
forms of credit support. Improved credit risk
23
<PAGE>
does not reduce prepayment risk which is unrelated to the rating assigned to the
mortgage-related security. Prepayment risk can lead to fluctuations in value of
the mortgage-related security which may be pronounced. If a mortgage-related
security is purchased at a premium, all or part of the premium may be lost if
the market value of the security declines whether resulting from changes in
interest rates or prepayments on the underlying mortgage collateral. Certain
mortgage-related securities that may be purchased by these Portfolios, such as
inverse floating rate collateralized mortgage obligations, have coupons that
move inversely to a multiple of a specific index which may result in increased
price volatility.
FOREIGN SECURITIES. (All Portfolios, except the Small Cap
Portfolio) Foreign securities markets generally are not as developed or
efficient as those in the United States. Securities of some foreign issuers are
less liquid and more volatile than securities of comparable U.S. issuers.
Similarly, volume and liquidity in most foreign securities markets are less than
in the United States and, at times, volatility of price can be greater than in
the United States.
Because evidences of ownership of such securities usually are
held outside the United States, the Portfolios will be subject to additional
risks which include possible adverse political and economic developments,
seizure or nationalization of foreign deposits and adoption of governmental
restrictions, which might adversely affect or restrict the payment of principal
and interest on the foreign securities to investors located outside the country
of the issuer, whether from currency blockage or otherwise.
With respect to the Emerging Markets, High Yield,
International Fixed-Income and Strategic Yield Portfolios, emerging market
countries have economic structures that generally are less diverse and mature,
and political systems that are less stable, than those of developed countries.
Emerging markets may be more volatile than the markets of more mature economies;
however, such markets may provide higher rates of return to investors. Many
emerging market countries providing investment opportunities for these
Portfolios have experienced substantial, and in some periods extremely high,
rates of inflation for many years. Inflation and rapid fluctuations in inflation
rates have had and may continue to have adverse effects on the economies and
securities markets of certain of these countries.
Since foreign securities often are purchased with and payable
in currencies of foreign countries, the value of these assets as measured in
U.S. dollars may be affected favorably or unfavorably by changes in currency
rates and exchange control regulations.
FOREIGN CURRENCY TRANSACTION. (All Portfolios, except the
Equity Portfolio, Small Cap Portfolio and Bond Portfolio) Currency exchange
rates may fluctuate significantly over short periods of time. They generally are
determined by the forces of supply and demand in the foreign exchange markets
and the relative merits of investments in different countries, actual or
perceived changes in interest rates and other complex factors, as seen from an
international perspective. Currency exchange rates also can be affected
unpredictably by intervention of U.S. or foreign governments or central banks,
or the failure to intervene, or by currency controls or political developments
in the United States or abroad.
24
<PAGE>
LOWER RATED SECURITIES. (Bond Portfolio, High Yield Portfolio,
International Fixed-Income Portfolio and Strategic Yield Portfolio) Each of
these Portfolios may invest in securities rated below investment grade such as
those rated Ba by Moody's or BB by S&P, and as low as the lowest rating assigned
by the Rating Agencies (commonly known as junk bonds). They may be subject to
certain risks and to greater market fluctuations than lower yielding investment
grade securities. See "Appendix" for a general description of the Rating
Agencies' ratings. Although ratings may be useful in evaluating the safety of
interest and principal payments, they do not evaluate the market value risk of
these securities. The Portfolio will rely on the Investment Manager's judgment,
analysis and experience in evaluating the creditworthiness of an issuer.
You should be aware that the market values of many of these
securities tend to be more sensitive to economic conditions than are higher
rated securities and will fluctuate over time. These securities generally are
considered by the Rating Agencies to be, on balance, predominantly speculative
with respect to capacity to pay interest and repay principal in accordance with
the terms of the obligation and generally will involve more credit risk than
securities in the higher rating categories.
Companies that issue certain of these securities often are
highly leveraged and may not have available to them more traditional methods of
financing. Therefore, the risk associated with acquiring the securities of such
issuers generally is greater than is the case with the higher rated securities.
For example, during an economic downturn or a sustained period of rising
interest rates, highly leveraged issuers of these securities may not have
sufficient revenues to meet their interest payment obligations. The issuer's
ability to service its debt obligations also may be affected adversely by
specific corporate developments, forecasts, or the unavailability of additional
financing. The risk of loss because of default by the issuer is significantly
greater for the holders of these securities because such securities generally
are unsecured and often are subordinated to other creditors of the issuer.
Because there is no established retail secondary market for
many of these securities, the Portfolio anticipates that such securities could
be sold only to a limited number of dealers or institutional investors. To the
extent a secondary trading market for these securities does exist, it generally
is not as liquid as the secondary market for higher rated securities. The lack
of a liquid secondary market may have an adverse impact on market price and
yield and the Portfolio's ability to dispose of particular issues when necessary
to meet the Portfolio's liquidity needs or in response to a specific economic
event such as a deterioration in the creditworthiness of the issuer. The lack of
a liquid secondary market for certain securities also may make it more difficult
for the Portfolio to obtain accurate market quotations for purposes of valuing
its portfolio and calculating its net asset value. Adverse publicity and
investor perceptions, whether or not based on fundamental analysis, may decrease
the values and liquidity of these securities. In such cases, judgment may play a
greater role in valuation because less reliable, objective data may be
available.
These securities may be particularly susceptible to economic
downturns. It is likely that an economic recession could disrupt severely the
market for such securities and may
25
<PAGE>
have an adverse impact on the value of such securities. In addition, it is
likely that any such economic downturn could adversely affect the ability of the
issuers of such securities to repay principal and pay interest thereon and
increase the incidence of default for such securities.
The Portfolio may acquire these securities during an initial
offering. Such securities may involve special risks because they are new issues.
The Portfolio has no arrangement with any persons concerning the acquisition of
such securities, and the Investment Manager will review carefully the credit and
other characteristics pertinent to such new issues.
The credit risk factors pertaining to lower rated securities
also apply to lower rated zero coupon securities and pay-in-kind bonds, in which
each of these Portfolios may invest. Pay-in-kind bonds pay interest through the
issuance of additional securities. Zero coupon securities and pay-in-kind bonds
carry an additional risk in that, unlike bonds which pay interest throughout the
period to maturity, the Portfolio will realize no cash until the cash payment
date unless a portion of such securities are sold and, if the issuer defaults,
the Portfolio may obtain no return at all on its investment.
SIMULTANEOUS INVESTMENTS BY OTHER PORTFOLIOS OR FUNDS. (All
Portfolios) Investment decisions for each Portfolio are made independently from
those of the other portfolios and accounts managed by the Investment Manager.
If, however, such other portfolios or accounts desire to invest in, or dispose
of, the same securities as a Portfolio, available investments or opportunities
for sales will be allocated equitably to each. In some cases, this procedure may
adversely affect the size of the position obtained for or disposed of by a
Portfolio or the price paid or received by a Portfolio.
STRATEGIC YIELD PORTFOLIO--During the year ended December 31, 1999, the
percentages of the Strategic Yield Portfolio's assets invested in securities
rated in particular rating categories by S&P were, on a weighted average basis,
as follows:
26
<PAGE>
Percentage of
S&P Ratings Total Investment
---------- ----------------
TSY 1.71%
AGY 22.49%
AAA 12.58%
AA 1.09%
AA- 1.49%
A+ 1.75%
A 1.22%
BBB+ 0.13%
BBB 1.01%
BBB- 0.29%
BB+ 0.52%
BB 2.61%
BB- 1.91%
B+ 4.70%
B 7.66%
B- 8.54%
CCC+ 1.58%
CCC 1.12%
No Rating* 27.60%
------
100.0%
----------------------
* The Investment Manager estimates these securities to have an average rating of
BBB.
The actual distribution of the Portfolio's investments by
ratings on any given date will vary. In addition, the distribution of the
Portfolio's investments by ratings as set forth above should not be considered
as representative of the Portfolio's future investment portfolio composition.
INVESTMENT RESTRICTIONS
Each Portfolio's investment objective is a fundamental policy,
which cannot be changed without approval by the holders of a majority (as
defined in the 1940 Act) of the Portfolio's outstanding voting shares. In
addition, the following investment restrictions, except as otherwise noted, are
fundamental policies. However, the amendment of these restrictions to add an
additional Portfolio, which amendment does not substantively affect the
restrictions with respect to an existing Portfolio, will not require approval as
described in the preceding sentence. None of the Portfolios may:
(i) issue senior securities, borrow money or pledge or
mortgage its assets, except that (A) each Portfolio may borrow
from banks for temporary purposes, including the meeting of
redemption requests which might require the untimely
disposition of securities, as described in the Prospectus, (B)
each of the Mid Cap
27
<PAGE>
Portfolio, Global Equity Portfolio, International Small Cap
Portfolio, Emerging Markets Portfolio and High Yield Portfolio
also may borrow money to the extent permitted under the 1940
Act and, as a non-fundamental policy, may pledge, hypothecate,
mortgage or otherwise encumber its assets to secure permitted
borrowings; provided, however, that the Portfolio will not
make new investments to the extent borrowings exceed 5% of its
total assets, except for borrowings covered within the
interpretations of Section 18(f) of the 1940 Act, and (C) the
Equity Portfolio may additionally utilize leverage as
described in the Prospectus. For purposes of this investment
restriction, a Portfolio's entry into options, forward
contracts, futures contracts, including those related to
indexes, shall not constitute borrowing;
(ii) make loans, except loans of portfolio securities not
having a value in excess of 33-1/3% (10% in the case of the
Equity Portfolio, Small Cap Portfolio, International Equity
Portfolio, Bond Portfolio, International Fixed-Income
Portfolio and Strategic Yield Portfolio) of a Portfolio's
total assets and except that each Portfolio may purchase debt
obligations in accordance with its investment objectives and
policies;
(iii) invest in illiquid securities as defined in "Investment
Objectives and Management Policies--Illiquid Securities" if
immediately after such investment more than 10% (15% in the
case of the Mid Cap Portfolio and High Yield Portfolio) of the
value of the Portfolio's net assets, or, in the case of the
Equity Portfolio, more than 10% of the value of that
Portfolio's total assets, taken at market value, would be
invested in such securities (this restriction is not a
fundamental policy of the Mid Cap Portfolio, Global Equity
Portfolio and High Yield Portfolio);
(iv) purchase securities of other investment companies, except
in connection with a merger, consolidation, acquisition or
reorganization; provided, however, that this restriction is
not a fundamental policy of the Mid Cap Portfolio, Global
Equity Portfolio, International Small Cap Portfolio, Emerging
Markets Portfolio and High Yield Portfolio, and provided
further, that (A) the Mid Cap Portfolio, Global Equity
Portfolio, International Small Cap Portfolio, Emerging Markets
Portfolio and High Yield Portfolio may purchase securities of
other investment companies to the extent permitted under the
1940 Act (this restriction is not a fundamental policy of
these Portfolios) and (B) the Equity Portfolio, Small Cap
Portfolio and International Equity Portfolio may purchase
securities in an amount up to 5% of the value of the
Portfolio's total assets in any one closed-end fund and may
purchase in the aggregate securities of closed-end funds in an
amount of up to 10% of the value of the Portfolio's total
assets;
(v) purchase the securities of issuers conducting their
principal business activity in the same industry if,
immediately after the purchase and as a result thereof, the
value of the Portfolio's investments in that industry would
exceed 25% of the
28
<PAGE>
current value of such Portfolio's total assets, provided that
there is no limitation with respect to investments in
obligations of the U.S. Government, its agencies or
instrumentalities;
(vi) (A) purchase or sell real estate or real estate limited
partnerships, except that a Portfolio may purchase and sell
securities of companies which deal in real estate or interests
therein and the Mid Cap Portfolio, Global Equity Portfolio,
International Small Cap Portfolio, Emerging Markets Portfolio
and High Yield Portfolio also may purchase and sell securities
that are secured by real estate; (B) purchase or sell
commodities or commodity contracts (except that the Mid Cap
Portfolio, Global Equity Portfolio, International Small Cap
Portfolio, Emerging Markets Portfolio and High Yield Portfolio
may purchase and sell swaps, options, forward contracts,
futures contracts, including those relating to indices, and
options on futures contracts or indices, the Mid Cap
Portfolio, International Equity Portfolio, High Yield
Portfolio, International Fixed-Income Portfolio and Strategic
Yield Portfolio may purchase or sell foreign currency forward
exchange contracts, the Bond Portfolio and International
Fixed-Income Portfolio may enter into futures contracts and
options on futures contracts, the International Fixed-Income
Portfolio may enter into futures contracts on foreign
currencies and the International Fixed-Income Portfolio and
Strategic Yield Portfolio may purchase and write put and call
options on foreign currencies); and (C) invest in interests in
or leases relating to oil, gas, or other mineral exploration
or development programs; provided, however, that this clause
(C) is not a fundamental policy of the Equity Portfolio, Mid
Cap Portfolio, Global Equity Portfolio and High Yield
Portfolio;
(vii) purchase securities on margin (except for short-term
credits necessary for the clearance of transactions) or,
except for the Mid Cap Portfolio and High Yield Portfolio,
make short sales of securities, provided, however, that this
prohibition on short sales is not a fundamental policy of the
Global Equity Portfolio;
(viii) underwrite securities of other issuers, except to the
extent that the purchase of municipal obligations or other
permitted investments directly from the issuer thereof or from
an underwriter for an issuer and the later disposition of such
securities in accordance with the Portfolio's investment
program may be deemed to be an underwriting; or
(ix) make investments for the purpose of exercising control or
management; provided, however, that this restriction is not a
fundamental policy of the Global Equity Portfolio,
International Small Cap Portfolio and Emerging Markets
Portfolio. This restriction has not been adopted by the Mid
Cap Portfolio or High Yield Portfolio.
29
<PAGE>
In addition to the restrictions noted above, the Equity
Portfolio has adopted the following restrictions as fundamental policies. The
Equity Portfolio may not:
(i) purchase restricted securities, which are securities that
must be registered under the Securities Act of 1933, as
amended, before they may be offered or sold to the public,
except that the Equity Portfolio may invest up to 5% of the
value of its total assets, taken at cost, in such securities;
(ii) invest more than 5% of the current value of its total
assets in the securities of any one issuer, other than
obligations of the United States Government, its agencies or
instrumentalities or securities which are backed by the full
faith and credit of the United States; or
(iii) purchase securities of an issuer if, as a result, as to
75% of the Portfolio's total assets, the Portfolio would own
more than 10% of the voting securities of such issuer.
* * *
If a percentage restriction is adhered to at the time of
investment, a later change in percentage resulting from a change in values or
assets will not constitute a violation of such restriction.
30
<PAGE>
MANAGEMENT
The Fund's Board is responsible for the management and
supervision of each Portfolio. The Board approves all significant agreements
with those companies that furnish services to the Portfolios. These companies
are as follows:
Lazard Asset Management ................. Investment Manager
Lazard Freres & Co. LLC ................. Distributor
Boston Financial Data Services, Inc. .... Transfer Agent and
Dividend Disbursing
Agent
State Street Bank and Trust Company ..... Custodian
The Directors and officers of the Fund and their principal
occupations during the past five years are set forth below. Unless otherwise
specified, the address of each of the following persons is 30 Rockefeller Plaza,
New York, New York 10112.
<TABLE>
<CAPTION>
NAME, ADDRESS AND AGE POSITION WITH FUND PRINCIPAL OCCUPATION DURING PAST 5 YEARS
--------------------------- ------------------------------ ------------------------------------------------------
<S> <C> <C>
Norman Eig* (59) Chairman of the Board Vice Chairman and Managing Director (formerly General
Partner), Lazard.
Herbert W. Gullquist* (62) President, Director Vice Chairman and Managing Director (formerly General
Partner), Lazard; Chief Investment Officer of the
Investment Manager.
John J. Burke (71) Director Retired; Former Vice Chairman and Director,
50 Burning Tree Lane Montana Power Company.
Butte, MT 59701
Kenneth S. Davidson (55) Director President, Davidson Capital Management
Davidson Capital Management Corporation; Director, Blackthorn Fund N.V. and
Corporation Ottertail Valley Railroad.
500 Park Avenue
Suite 510
New York, NY 10022
Carl Frischling* (63) Director Senior Partner, Kramer, Levin, Naftalis &
Kramer, Levin, Naftalis & Frankel LLP, attorneys at law.
Frankel LLP
919 Third Avenue
New York, NY 10022
Lester Z. Lieberman (69) Director Private Investor; Director of Dowel Associates;
1500 Mt. Kemble Avenue Chairman of the Board of Trustees of Newark Beth
Morristown, NJ 07960 Israel Medical Center and Irvington General Hospital;
Member of the New Jersey State Investment Council; prior
to 1994, Director of United Jersey Bank, N.A. and Clarkson
University.
Richard Reiss, Jr. (56) Director Managing Partner, Georgica Advisers LLC, an
Georgica Advisers LLC investment manager.
1114 Avenue of the Americas
New York, NY 10036
</TABLE>
31
<PAGE>
<TABLE>
<CAPTION>
NAME, ADDRESS AND AGE POSITION WITH FUND PRINCIPAL OCCUPATION DURING PAST 5 YEARS
--------------------------- ------------------------------ ----------------------------------------------------
<S> <C> <C>
John Rutledge (51) Director President, Rutledge & Company, an economics and
Rutledge & Company investment advisory firm; Chairman, Claremont
One Greenwich Office Park Economics Institute.
51 Weaver Street
Greenwich, CT 06831
William Katz (46) Director President and Chief Operating Officer of BBDO,
BBDO Worldwide Network an advertising agency; from May 1994
1285 Avenue of the Americas to February 1996, General Manager of BBDO; prior
New York, NY 10019 thereto, Executive Vice President and Senior
Account Director of BBDO.
David M. Goldenberg (33) Vice President, Secretary Director, Legal Affairs of the Investment
Manager; from April 1998 to May 2000, Global
Director of Compliance for SSB Citi Asset
Management Group; from June 1996 to April 1998,
Associate General Counsel of Smith Barney Asset
Management; prior thereto, Branch Chief and
Senior Counsel in the Division of Investment
Management at the Securities Exchange
Commission in Washington, D.C.
Gerald B. Mazzari (48) Treasurer Chief Operating Officer and Managing
Director, Lazard; from July 1995 to March 1996,
Head of Non-US Equity Operations, Merrill Lynch,
Pierce, Fenner & Smith, Inc.; prior thereto,
Executive Vice President, Smith New Court Inc.
</TABLE>
-----------
*An "interested person" of the Fund as defined in the 1940 Act.
The Fund has a standing nominating committee comprised of its
Directors who are not "interested persons" of the Fund, as defined in the 1940
Act. The function of the nominating committee is to select and nominate all
candidates who are not "interested persons" of the Fund for election to the
Fund's Board.
The Fund pays each Director who is not an employee or an
affiliated person of the Investment Manager its allocated portion of a fixed fee
of $20,000 per year, plus $1,000 per meeting attended for the Fund and Lazard
Retirement Series, Inc., another multi-portfolio fund advised by the Investment
Manager, and reimburses them for travel and out of pocket expenses. The
aggregate amount of compensation paid to each Director by the Fund for the year
ended December 31, 1999, was as follows:
Total Compensation from
Aggregate Compensation the Fund and
Name of Director from the Fund Lazard Retirement Series, Inc.
-------------- --------------------- -----------------------------
John J. Burke $17,800 $24,000
Kenneth S. Davidson $17,800 $24,000
Norman Eig N/A N/A
Carl Frischling $17,800 $24,000
Herbert W. Gullquist N/A N/A
William Katz $17,800 $24,000
Lester Z. Lieberman $17,800 $24,000
Richard Reiss, Jr. $17,800 $24,000
John Rutledge $17,800 $24,000
32
<PAGE>
Effective January 1, 2000, each Director who is not an
employee or an affiliated person of the Investment Manager will be paid a
quarterly fee of $7,500, plus $2,500 per meeting attended for the Fund and
Lazard Reitrement Series, Inc. and will be reimbursed for travel and other out
of pocket expenses. In addition, the Chairman of the Audit Committee for the
Fund and Lazard Retirement Series, Inc. also will receive an annual fee of
$5,000.
The Fund does not compensate officers or Directors who are
employees or affiliated persons of the Investment Manager. As of April 3, 2000,
the Fund's officers and Directors, as a group, owned less than 1% of the shares
of each Portfolio.
INVESTMENT MANAGER AND INVESTMENT MANAGEMENT AGREEMENTS
Lazard Asset Management, 30 Rockefeller Plaza, New York, New
York 10112, has entered into an investment management agreement (the "Management
Agreement") with the Fund on behalf of each Portfolio. Pursuant to each
Management Agreement, Lazard Asset Management regularly provides each Portfolio
with investment research, advice and supervision and furnishes continuously an
investment program for each Portfolio consistent with its investment objectives
and policies, including the purchase, retention and disposition of securities.
Lazard Asset Management is a division of Lazard, a New York
limited liability company, which is registered as an investment adviser with the
Securities & Exchange Commission and is a member of the New York, American and
Chicago Stock Exchanges. Lazard provides its clients with a wide variety of
investment banking and related services, including investment management. It is
a major underwriter of corporate securities, conducts a broad range of trading
and brokerage activities in corporate and governmental bonds and stocks and acts
as a financial adviser to utilities. Lazard Asset Management provides investment
management services to client discretionary accounts with assets as of March 31,
2000 totaling approximately $74 billion. Its clients are both individuals and
institutions, some of whose accounts have investment policies similar to those
of several of the Portfolios. As of April 3, 2000, Lazard Asset Management held
voting and dispositive power with respect to a sufficient number of shares of
each Portfolio held by client accounts as to be considered a controlling person
of such Portfolio.
The Fund, Lazard Asset Management and Lazard each have adopted
a Code of Ethics that permits its personnel, subject to such Code, to invest in
securities, including securities that may be purchased or held by a Portfolio.
The Lazard Asset Management Code of Ethics restricts the personal securities
transactions of its employees, and requires portfolio managers and other
investment personnel to comply with the Code's preclearance and disclosure
procedures. Its primary purpose is to ensure that personal trading by Lazard
Asset Management employees does not disadvantage any Portfolio.
Under the terms of the Management Agreement, the Investment
Manager will pay the compensation of all personnel of the Fund, except the fees
of Directors of the Fund who are not employees or affiliated persons of the
Investment Manager. The Investment Manager
33
<PAGE>
will make available to the Portfolios such of the Investment Manager's members,
directors, officers and employees as are reasonably necessary for the operations
of each Portfolio, or as may be duly elected officers or directors of the Fund.
Under each Management Agreement, the Investment Manager also pays each
Portfolio's office rent and provides investment advisory research and
statistical facilities and all clerical services relating to research,
statistical and investment work. The Investment Manager, including its employees
who serve the Portfolios, may render investment advice, management and other
services to others.
As compensation for its services, each of the Portfolios has
agreed to pay the Investment Manager an investment management fee, accrued daily
and payable monthly, at the annual rates set forth below as a percentage of the
average daily value of the net assets of the relevant Portfolio:
Investment Management
Name of Portfolio Fee Payable
----------------- ---------------------
Equity Portfolio .75%
Mid Cap Portfolio .75%
Small Cap Portfolio .75%
Global Equity Portfolio .75%
International Equity Portfolio .75%
International Small Cap Portfolio .75%
Emerging Markets Portfolio 1.00%
Bond Portfolio .50%
High Yield Portfolio .75%
International Fixed-Income Portfolio .75%
Strategic Yield Portfolio .75%
For the fiscal year ending December 31, 2000, the Investment
Manager has agreed to waive its management fees or otherwise bear the expenses
of the following Portfolios to the extent the aggregate expenses of the
Portfolios exceed the percentage of the value of the Portfolio's average daily
net assets set forth opposite the Portfolio's name:
NAME OF PORTFOLIO MAXIMUM TOTAL PORTFOLIO OPERATING EXPENSES
INSTITUTIONAL SHARES OPEN SHARES
Mid Cap Portfolio 1.05% 1.35%
Global Equity Portfolio 1.05% 1.35%
International Small Cap Portfolio -- 1.43%
Emerging Markets Portfolio -- 1.60%
Bond Portfolio -- 1.10%
High Yield Portfolio .75% 1.05%
International Fixed-Income Portfolio 1.09% 1.35%
For the fiscal years ended December 31, 1997, 1998 and 1999,
the management fees payable by each Portfolio, the amounts waived by the
Investment Manager and the net fees paid to the Investment Manager were as
follows:
34
<PAGE>
<TABLE>
<CAPTION>
Fee Payable For Fee Payable For Fee Payable For
Fiscal Year Ended Fiscal Year Ended Fiscal Year Ended
Name of Portfolio December 31, 1997 December 31, 1998 December 31, 1999
---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Equity Portfolio $ 2,475,417 $ 3,316,469 $ 3,998,410
Mid Cap Portfolio 56,562 459,760 445,394
Small Cap Portfolio 8,868,261 11,726,934 9,055,989
Global Equity Portfolio 87,691 119,985 432,935
International Equity Portfolio 15,062,772 19,452,067 24,275,244
International Small Cap
Portfolio 1,061,698 1,354,903 1,424,719
Emerging Markets Portfolio 2,418,181 2,794,119 3,643,706
Bond Portfolio 429,720 523,656 570,987
High Yield Portfolio N/A 225,562 583,680
International Fixed-Income
Portfolio 772,515 857,644 752,225
Strategic Yield Portfolio 2,447,618 3,422,135 2,647,590
</TABLE>
<TABLE>
<CAPTION>
Reduction in Reduction in Reduction in
Fee For Fiscal Fee For Fiscal Fee For Fiscal
Year Ended Year Ended Year Ended
Name of Portfolio December 31, 1997 December 31, 1998 December 31, 1999
---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Equity Portfolio $11,054 $ -0- $ -0-
Mid Cap Portfolio 24,010 119,681 82,408
Small Cap Portfolio 11,502 -0- -0-
Global Equity Portfolio 87,691 119,985 111,760
International Equity Portfolio 16,852 -0- -0-
International Small Cap
Portfolio 21,116 16,356 18,247
Emerging Markets Portfolio 19,725 17,870 13,643
Bond Portfolio 21,802 11,309 7,051
High Yield Portfolio N/A 107,939 91,037
International Fixed-Income
Portfolio 58,602 21,538 66,314
Strategic Yield Portfolio 3,456 -0- -0-
</TABLE>
35
<PAGE>
<TABLE>
<CAPTION>
Net Fee Paid For Net Fee Paid For Net Fee Paid For
Fiscal Year Ended Fiscal Year Ended Fiscal Year Ended
Name of Portfolio December 31, 1997 December 31, 1998 December 31, 1999
---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Equity Portfolio $ 2,464,363 $ 3,316,469 $ 3,998,410
Mid Cap Portfolio 32,552 340,079 362,986
Small Cap Portfolio 8,856,759 11,726,934 9,055,989
Global Equity Portfolio -0- -0- 321,175
International Equity Portfolio 15,045,920 19,452,067 24,275,244
International Small Cap
Portfolio 1,040,582 1,338,547 1,406,472
Emerging Markets Portfolio 2,398,456 2,776,249 3,630,063
Bond Portfolio 407,918 512,347 563,936
High Yield Portfolio N/A 117,623 492,643
International Fixed-Income
Portfolio 713,913 836,106 685,911
Strategic Yield Portfolio 2,444,162 3,422,135 2,647,590
</TABLE>
Each Management Agreement provides that the relevant Portfolio
pays all of its expenses that are not specifically assumed by the Investment
Manager. Expenses attributable to each Portfolio will be charged against the
assets of that Portfolio. Other expenses of the Fund will be allocated among the
Portfolios in a manner which may, but need not, be proportionate in relation to
the net assets of each Portfolio. Expenses payable by each of the Portfolios
include, but are not limited to, clerical salaries, brokerage and other expenses
of executing portfolio transactions; legal, auditing or accounting expenses;
trade association dues; taxes or governmental fees; the fees and expenses of any
person providing administrative services to the Fund; the fees and expenses of
the custodian and transfer agent of the Fund; clerical expenses of issue,
redemption or repurchase of shares of the Portfolio; the expenses and fees for
registering and qualifying securities for sale; the fees of Directors of the
Fund who are not employees or affiliated persons of the Investment Manager or
its affiliates; travel expenses of all Directors, officers and employees;
insurance premiums; and the cost of preparing and distributing reports and
notices to shareholders. In addition, the Open Shares of each Portfolio are
subject to an annual distribution and servicing fee. See "Distribution and
Servicing Plan." The organizational expenses of the Fund are being amortized and
allocated among the International Equity Portfolio, International Fixed-Income
Portfolio, Bond Portfolio, Strategic Yield Portfolio and Small Cap Portfolio.
Each Management Agreement is subject to annual approval by (i)
the Fund's Board or (ii) vote of a majority (as defined in the 1940 Act) of the
outstanding voting securities of the relevant Portfolio, provided that in either
event the continuance also is approved by a majority of the Directors who are
not "interested persons" (as defined in the 1940 Act) of the Fund or the
Investment Manager, by vote cast in person at a meeting called for the purpose
of voting on such approval. Each Management Agreement is terminable without
penalty, on 60 days' notice, by the Fund's Board or by vote of the holders of a
majority of the shares of such Portfolio, or, upon not less than 60 days'
notice, by the Investment Manager. Each Management
36
<PAGE>
Agreement provides for automatic termination in the event of its assignment (as
defined in the 1940 Act). Each Management Agreement provides that in the absence
of willful misfeasance, bad faith or gross negligence on the part of the
Investment Manager, or of reckless disregard of its obligations thereunder, the
Investment Manager shall not be liable for any action or failure to act in
accordance with its duties thereunder.
ADMINISTRATOR AND CUSTODIAN
The Fund has engaged State Street Bank and Trust Company
("State Street"), 225 Franklin Street, Boston, Massachusetts 02110, to provide
certain administrative services to the Portfolios. Each Portfolio will bear the
cost of such administrative expenses at the annual rate of $45,000 plus .02% of
the value of the average daily net assets of each Class of the Portfolio up to
$1 billion and .01% of the value of such assets over $1 billion.
State Street also acts as the Fund's custodian. As the Fund's
custodian, State Street, among other things, maintains a custody account or
accounts in the name of each Portfolio; receives and delivers all assets for
each Portfolio upon purchase and upon sale or maturity; collects and receives
all income and other payments and distributions on account of the assets of each
Portfolio and disburses the Portfolio's assets in payment of its expenses. The
custodian does not determine the investment policies of any Portfolio or decide
which securities any Portfolio will buy or sell.
DISTRIBUTOR
Lazard serves as the distributor of each Portfolio's shares
and conducts a continuous offering pursuant to a "best efforts" arrangement. As
the distributor, it accepts purchase and redemption orders for Portfolio shares.
In addition, the distribution agreement obligates Lazard to pay certain expenses
in connection with the offering of Portfolio shares. After the prospectus and
periodic reports have been prepared, set in type and mailed to shareholders,
Lazard also will pay for the printing and distribution of copies thereof used in
connection with the offering to prospective investors.
DETERMINATION OF NET ASSET VALUE
Net asset value per share for each Class of each Portfolio is
determined by State Street for the Fund on each day the New York Stock Exchange
is open for trading. The New York Stock Exchange is ordinarily closed on the
following national holidays: New Year's Day, Martin Luther King Jr. Day,
Presidents' Day, Good Friday, Memorial Day, Independence Day, Labor Day,
Thanksgiving Day and Christmas Day. Net asset value per share is determined by
dividing the value of the total assets of the Portfolio represented by such
Class, less all liabilities, by the total number of Portfolio shares of such
Class outstanding.
The value of securities, other than options listed on national
securities exchanges and debt securities maturing in 60 days or less, is
determined as of the close of regular trading on the New York Stock Exchange.
Options on stock and stock indices traded on national
37
<PAGE>
securities exchanges are valued as of the close of options trading on such
exchanges (which is currently 4:10 p.m., New York time). Debt securities
maturing in 60 days or less are valued at amortized cost, except where to do so
would not reflect accurately their fair value, in which case such securities
would be valued at their fair value as determined under the supervision of the
Board of Directors. Each security for which the primary market is on a national
securities exchange is valued at the last sale price on the principal exchange
on which it is traded, or, if no sales are reported on such exchange on that
day, at the closing bid price.
Any security held by a Portfolio for which the primary market
is the Nasdaq National Market System is valued at the last sale price as quoted
by such system or, in the absence of any sale on the valuation date, at the
closing bid price. Any other unlisted security for which current
over-the-counter market quotations or bids are readily available is valued at
its last quoted bid price or, if available, the mean of two such prices.
All other securities and other assets for which current market
quotations are not readily available are valued at fair value as determined in
good faith by the Fund's Board of Directors and in accordance with procedures
adopted by the Board of Directors. The portfolio securities of any of the
Portfolios also may be valued on the basis of prices provided by a pricing
service when such prices are believed by the Investment Manager to reflect the
fair market value of such securities.
The Small Cap Portfolio and International Small Cap Portfolio
invest primarily in equity securities of companies with relatively small market
capitalizations. Because of the difference between the bid and asked prices of
over-the-counter securities, there may be an immediate reduction in the net
asset value of the shares of the Small Cap Portfolio or International Small Cap
Portfolio after such Portfolio has completed a purchase of securities that will
be valued by the relevant Portfolio at their bid price, since those securities
usually will have been purchased at or near the asked price.
Trading in securities on European and Far Eastern securities
exchanges and over-the-counter markets ordinarily is completed well before the
close of business on each business day in New York (i.e., a day on which the New
York Stock Exchange is open). In addition, European or Far Eastern securities
trading generally or in a particular country or countries may not take place on
all business days in New York. Furthermore, trading takes place in Japanese
markets on certain Saturdays and in various foreign markets on days which are
not business days in New York and on which the net asset value of a Portfolio is
not calculated. Each Portfolio calculates net asset value per share, and
therefore effects sales, redemptions and repurchases of its shares, as of the
close of regular trading on the New York Stock Exchange once on each day on
which the New York Stock Exchange is open. Such calculation may not take place
contemporaneously with the determination of the prices of the majority of the
portfolio securities used in such calculation. If events materially affecting
the value of such securities occur between the time when their price is
determined and the time when the Portfolio's net asset value is calculated, such
securities will be valued at fair value as determined in good faith by the Board
of Directors.
38
<PAGE>
PORTFOLIO TRANSACTIONS
GENERAL
Subject to the supervision of the Board of Directors, the
Investment Manager is primarily responsible for the investment decisions and the
placing of portfolio transactions for each Portfolio. In selecting brokers or
dealers to execute portfolio transactions on behalf of a Portfolio, the
Investment Manager seeks the best overall terms available, taking into account
such factors as price, size of order, difficulty of execution and skill required
of the executing broker. While the Investment Manager will generally seek
reasonably competitive spreads or commissions, the Portfolios will not
necessarily be paying the lowest spread or commission available.
Purchases and sales of portfolio securities on a securities
exchange are effected by the Investment Manager through brokers who charge a
negotiated commission for their services based on the quality and quantity of
execution services provided by the broker in the light of generally prevailing
rates. Orders may be directed to any broker including, to the extent and in the
manner permitted by applicable law, Lazard. In the over-the-counter market,
securities are generally traded on a "net" basis with dealers acting as
principal for their own accounts without a stated commission, although the price
of the security usually includes a profit to the dealer. In underwritten
offerings, securities are purchased at a fixed price that includes an amount of
compensation to the underwriter, generally referred to as the underwriter's
concession or discount.
To the extent consistent with applicable provisions of the
1940 Act and the rules adopted by the Commission thereunder, the Fund's Board
has determined that securities transactions for a Portfolio may be executed
through Lazard if, in the judgment of the Investment Manager, the use of Lazard
is likely to result in price and execution at least as favorable as those of
other qualified brokers or dealers, and if, in the transaction, Lazard charges
the Portfolio a rate consistent with that charged to comparable unaffiliated
customers in similar transactions.
Purchase and sale orders for securities held by a Portfolio
may be combined with those for other Portfolios in the interest of the most
favorable net results for all. When the Investment Manager determines that a
particular security should be bought for or sold by more than one Portfolio, the
Investment Manager undertakes to allocate those transactions between the
participants equitably.
RESEARCH AND STATISTICAL INFORMATION
When it can be done consistently with the policy of obtaining
the best overall terms available, the Investment Manager may select brokers or
dealers who supply market quotations to the Fund's custodian for valuation
purposes, or who supply research, market and statistical information to the
Investment Manager. Although such research, market and statistical information
may be useful to the Investment Manager, it is only supplementary to the
39
<PAGE>
Investment Manager's own research efforts, since the information must still be
analyzed, weighed and reviewed by the Investment Manager's staff. Information so
received will be in addition to, and not in lieu of, the services required to be
performed by the Investment Manager under the Management Agreement with the Fund
on behalf of the Portfolios. Such information may be useful to the Investment
Manager in providing services to both the Portfolios and clients other than the
Portfolios, and, conversely, supplemental information obtained by the placement
of business of other clients may be useful to the Investment Manager in carrying
out its obligations to the Portfolios. The total dollar amount of transactions
pursuant to which brokerage was directed in consideration of research services
provided during the year ended December 31, 1999, was $862,282,895, and the
related commissions were $1,754,309. In addition, when it can be done
consistently with the above stated policy, the Investment Manager may place
orders with brokers and dealers (i) who refer persons to the Investment Manager
for the purpose of purchasing shares of the Portfolios or (ii) who provide
services to the Fund at no fee or for a reduced fee.
BROKERAGE COMMISSIONS
In connection with its portfolio securities transactions for
the fiscal years ended December 31, 1997, 1998 and 1999, each Portfolio
indicated below paid brokerage commissions as follows:
YEAR ENDED DECEMBER 31, 1997
<TABLE>
<CAPTION>
Percentage of
Amount of Percentage of Total Brokerage
Total Brokerage Total Brokerage Transactions
Brokerage Commissions Paid Commissions Paid Effected Through
Name of Portfolio Commissions Paid to Lazard to Lazard Lazard
---------------------- ---------------- ---------------- ---------------- ----------------
<S> <C> <C> <C> <C>
Equity Portfolio $ 592,299 -0- -0- -0-
Mid Cap Portfolio $ 59,461 -0- -0- -0-
Small Cap Portfolio $2,003,525 -0- -0- -0-
Global Equity Portfolio $ 26,640 $45 0.17% 0.19%
International Equity Portfolio $3,041,586 -0- -0- -0-
International Small Cap Portfolio $ 429,111 -0- -0- -0-
Emerging Markets Portfolio $1,098,476 -0- -0- -0-
</TABLE>
YEAR ENDED DECEMBER 31, 1998
<TABLE>
<CAPTION>
Percentage of
Amount of Percentage of Total Brokerage
Total Brokerage Total Brokerage Transactions
Brokerage Commissions Paid Commissions Paid Effected Through
Name of Portfolio Commissions Paid to Lazard to Lazard Lazard
---------------------- ---------------- ---------------- ---------------- ----------------
<S> <C> <C> <C> <C>
Equity Portfolio $ 802,204 $51,625 6.44% 7.24%
Mid Cap Portfolio $ 183,975 $ 5,270 2.86% 2.73%
Small Cap Portfolio $2,544,527 $61,090 2.40% 0.95%
Global Equity Portfolio $ 33,371 $ 2,734 8.87% 14.52%
International Equity Portfolio $4,724,137 -0- -0- -0-
International Small Cap Portfolio $ 439,572 -0- -0- -0-
Emerging Markets Portfolio $1,016,826 $ 812 0.23% 0.39%
</TABLE>
40
<PAGE>
YEAR ENDED DECEMBER 31, 1999
<TABLE>
<CAPTION>
Percentage of
Amount of Percentage of Total Brokerage
Total Brokerage Total Brokerage Transactions
Brokerage Commissions Paid Commissions Paid Effected Through
Name of Portfolio Commissions Paid to Lazard to Lazard Lazard
---------------------- ---------------- ---------------- ---------------- ----------------
<S> <C> <C> <C> <C>
Equity Portfolio $ 750,127 $85,635 11.42% 11.57%
Mid Cap Portfolio $ 269,337 $ 6,660 2.47% 3.52%
Small Cap Portfolio $3,071,242 $ 1,170 0.04% 0.05%
Global Equity Portfolio $ 103,696 $ 3,931 9.41% 14.43%
International Equity Portfolio $4,225,656 -0- -0- -0-
International Small Cap Portfolio $ 391,980 -0- -0- -0-
Emerging Markets Portfolio $ 868,520 -0- -0- -0-
</TABLE>
HOW TO BUY AND HOW TO SELL SHARES
GENERAL. The minimum initial investment for each Portfolio is
$10,000 for Open Shares, unless the investor is a client of a securities dealer
or other institution which has made an aggregate minimum initial purchase for
its clients of at least $10,000, and $1,000,000 for Institutional Shares. The
minimum investment requirements may be waived or lowered for investments
effected through banks and other institutions that have entered into special
arrangements with the Fund or Lazard and for investments effected on a group
basis by certain other entities and their employees, such as pursuant to a
payroll deduction plan. The Fund reserves the right to change the minimum
initial, and subsequent, investment requirements at any time.
Securities dealers and other institutions effecting
transactions in Portfolio shares for the accounts of their clients may charge
their clients direct fees in connection with such transactions. The Fund and
Lazard reserve the right to reject any purchase order. All funds will be
invested in full and fractional shares. Stock certificates will not be issued.
Shares of each Portfolio may be purchased in exchange for
securities which are permissible investments of that Portfolio, subject to the
Investment Manager's determination that the securities are acceptable.
Securities accepted in exchange for Portfolio shares will be valued at the mean
between their bid and asked quotations. In addition, securities accepted in
exchange for Portfolio shares are required to be liquid securities that are not
restricted as to transfer and have a value that is readily ascertainable (and
not established only by valuation procedures), as evidenced by a listing on the
American Stock Exchange, the New York Stock Exchange, The Nasdaq Stock Market, a
recognized non-U.S. exchange or non-Nasdaq listing with at least two market
makers.
PURCHASES THROUGH THE TRANSFER AGENT. Orders for Portfolio
shares will become effective at the net asset value per share next determined
after receipt by the Transfer Agent or
41
<PAGE>
other agent of a check drawn on any member of the Federal Reserve System or
after receipt by the Custodian or other agent of a bank wire or Federal Reserve
Wire. Checks must be payable in United States dollars and will be accepted
subject to collection at full face value.
By investing in a Portfolio, a shareholder appoints the
Transfer Agent, as agent, to establish an open account to which all shares
purchased will be credited, together with any dividends and capital gain
distributions that are paid in additional shares.
PURCHASES THROUGH A LAZARD BROKERAGE ACCOUNT. Shares of all of
the Portfolios are sold by Lazard only to customers of Lazard without a sales
charge, on a continuous basis at the net asset value of the Portfolio next
determined after receipt of a purchase order by Lazard. Payments must be made to
Lazard by the settlement date of the order. Because Lazard does not forward
investors' funds until the business day on which the order is settled, it may
benefit from temporary use of these funds. Please contact your Lazard account
representative for specific instructions on how to purchase Portfolio shares
through your Lazard brokerage account.
AUTHORIZED BROKERS. The Fund has authorized one or more
brokers to accept on its behalf purchase and redemption orders. Such brokers are
authorized to designate other intermediaries to accept purchase and redemption
orders on the Fund's behalf. The Fund will be deemed to have received a purchase
or redemption order when an authorized broker or, if applicable, a broker's
authorized designee, accepts the order. Customer orders will be priced at the
Fund's net asset value next computed after such orders are accepted by an
authorized broker or the broker's authorized designee.
REDEMPTION COMMITMENT. The Fund has committed to pay in cash
all redemption requests by any shareholder of record, limited in amount during
any 90-day period to the lesser of $250,000 or 1% of the value of a Portfolio's
net assets at the beginning of such period. Such commitment is irrevocable
without the prior approval of the Commission. In the case of requests for
redemption in excess of such amount, the Fund's Board reserves the right to make
payments, in whole or in part, in portfolio securities (which may include
non-marketable securities) or other assets of the Portfolio in cases of
emergency or at any time that the Investment Manager believes a cash
distribution would impair the liquidity of the Portfolio to the detriment of the
existing shareholders. In such event, the securities used to meet the redemption
request would be valued in the same manner as the Portfolio's investments are
valued. If the recipient sold such securities, brokerage charges might be
incurred.
SUSPENSION OF REDEMPTIONS. The right of redemption may be
suspended, or the date of payment postponed: (a) during any period when the New
York Stock Exchange is closed (other than customary weekend and holiday
closings); (b) when trading in the markets that the Portfolio ordinarily
utilizes is restricted, or when an emergency exists as determined by the
Commission so that disposal of the Portfolio's investments or determination of
its net asset value is not reasonably practicable; or (c) for such other periods
as the Commission, by order, may permit to protect the Portfolio's shareholders.
42
<PAGE>
DISTRIBUTION AND SERVICING PLAN
(OPEN SHARES ONLY)
Open Shares are subject to a Distribution and Servicing Plan
adopted pursuant to Rule 12b-1 under the 1940 Act. Under the Distribution and
Servicing Plan, the Fund pays Lazard, for advertising, marketing and
distributing each Portfolio's Open Shares, and for the provision of certain
services to the holders of Open Shares, a fee at the annual rate of .25% of the
value of the average daily net assets of the Portfolio's Open Class. The
services provided may include personal services relating to shareholder
accounts, such as answering shareholder inquiries regarding the Fund and
providing reports and other information, and services related to the maintenance
of shareholder accounts. The fee payable for such services is intended to be a
"service fee" as defined in Conduct Rules of the NASD. Under the Distribution
and Servicing Plan, Lazard may make payments to third parties in respect of
these services. From time to time, Lazard may defer or waive receipt of fees
under the Distribution and Servicing Plan while retaining the ability to be paid
by the Fund under the Distribution and Servicing Plan thereafter. The fees
payable to Lazard under the Distribution and Servicing Plan for advertising,
marketing and distributing Open Shares, and for payments to third parties, are
payable without regard to actual expenses incurred.
Rule 12b-1 (the "Rule") adopted by the Commission under the
1940 Act provides, among other things, that an investment company may bear
expenses of distributing its shares only pursuant to a plan adopted in
accordance with the Rule. The Fund's Board has adopted such a plan (the
"Distribution and Servicing Plan") with respect to each Portfolio's Open Shares,
pursuant to which the Fund pays Lazard for advertising, marketing and
distributing Open Shares of the Portfolios and for the provision of certain
services to the holders of Open Shares of the Portfolios. Lazard may make
payments to certain financial institutions, securities dealers and other
industry professionals (collectively, "Service Agents") for providing these
services. The Fund's Board determined, in the exercise of its business judgment,
that the Fund's Distribution and Servicing Plan is reasonably likely to benefit
each Portfolio and holders of Open Shares.
A quarterly report of the amounts expended under the
Distribution and Servicing Plan, and the purposes for which such expenditures
were incurred, must be made to the Board for its review. In addition, the
Distribution and Servicing Plan provides that it may not be amended to increase
materially the costs which holders of Open Shares of a Portfolio may bear for
distribution pursuant to the Distribution and Servicing Plan without such
shareholders' approval. It further provides that other material amendments of
the Distribution and Servicing Plan must be approved by the Board and by the
Board members who are not "interested persons" (as defined in the 1940 Act) of
the Fund and have no direct or indirect financial interest in the operation of
the Distribution and Servicing Plan or in any agreements entered into in
connection with the Distribution and Servicing Plan, by vote cast in person at a
meeting called for the purpose of considering such amendments. The Distribution
and Servicing Plan is subject to annual approval by such vote cast in person at
a meeting called for the purpose of voting on the Distribution and Servicing
Plan. As to each Portfolio, the Distribution and Servicing Plan may be
terminated at any time by vote of a majority of the Board members who are not
43
<PAGE>
"interested persons" and have no direct or indirect financial interest in the
operation of the Distribution and Servicing Plan or in any agreements entered
into in connection with the Distribution and Servicing Plan, or by vote of the
holders of a majority of such Portfolio's Open Shares.
For the fiscal year ended December 31, 1999, the Portfolios
paid the Distributor the amounts set forth below with respect to their Open
Shares under the Distribution and Servicing Plan:
Amount Paid to Distributor
Under Distribution and Servicing
Plan For Fiscal Year
Name of Portfolio Ended December 31, 1999
----------------- -----------------------------
Equity Portfolio $ 359,638
Mid Cap Portfolio $ 35,568
Small Cap Portfolio $ 246,480
Global Equity Portfolio $ 15,652
International Equity Portfolio $ 243,166
International Small Cap Portfolio $ 6,658
Emerging Markets Portfolio $ 23,394
Bond Portfolio $ 34,006
High Yield Portfolio $ 3,386
International Fixed-Income Portfolio $ 11,118
Strategic Yield Portfolio $ 55,068
DIVIDENDS AND DISTRIBUTIONS
The Fund intends to declare as a dividend on the outstanding
shares of each of the Bond Portfolio, High Yield Portfolio, International
Fixed-Income Portfolio and Strategic Yield Portfolio, substantially all of the
Portfolio's net investment income at the close of each business day to
shareholders of record at 4:00 p.m. (Eastern time). Net investment income for a
Saturday, Sunday or holiday will be included in the dividend declared on the
previous business day. Dividends declared on the shares of the Bond Portfolio,
High Yield Portfolio, International Fixed-Income Portfolio and Strategic Yield
Portfolio ordinarily will be paid on the last business day of each month.
Shareholders who redeem all their shares of any of these Portfolios prior to a
dividend payment date will receive, in addition to the redemption proceeds, any
dividends that are declared but unpaid through the date of their redemption.
Shareholders of any of these Portfolios who redeem only a portion of their
shares will receive all dividends declared but unpaid on those shares on the
next dividend payment date.
Dividends from net investment income on the Equity Portfolio,
Mid Cap Portfolio, Small Cap Portfolio, Global Equity Portfolio, International
Equity Portfolio, International Small Cap Portfolio and Emerging Markets
Portfolio generally will be declared and paid at least annually, and may be
declared and paid twice annually.
44
<PAGE>
Dividends for each Class of a Portfolio will be calculated at
the same time and in the same manner and will be of the same amount, except that
certain expenses will be borne exclusively by one Class and not by the other,
such as fees payable under the Distribution and Servicing Plan. Open Shares will
receive lower per share dividends than Institutional Shares because of the
higher expenses borne by Open Shares.
Investment income for a Portfolio includes, among other
things, interest income, accretion of market and original issue discount and
amortization of premium and, in the case of the Equity Portfolio, Mid Cap
Portfolio, Small Cap Portfolio, Global Equity Portfolio, International Equity
Portfolio, International Small Cap Portfolio and Emerging Markets Portfolio,
dividends.
With respect to all of the Portfolios, net realized capital
gains, if any, will be distributed at least annually, and may be declared and
paid twice annually. If a dividend check mailed to a shareholder who elected to
receive dividends and/or capital gain distributions in cash is returned as
undeliverable by the postal or other delivery service, such shareholder's
distribution option automatically will be converted to all dividends and other
distributions reinvested in additional shares. NO INTEREST WILL ACCRUE ON
AMOUNTS REPRESENTED BY UNCASHED DISTRIBUTION OR REDEMPTION CHECKS. On dividend
payable date, each Portfolio forwards to the Fund's custodian the required
amount of cash to pay all shareholders who elected to receive dividends in cash.
45
<PAGE>
TAXATION
Management believes that each Portfolio has qualified for the
fiscal year ended December 31, 1999 as a "regulated investment company" under
Subchapter M of the Code. It is intended that each such Portfolio will continue
to so qualify as a regulated investment company, if such qualification is in the
best interests of its shareholders. Each Portfolio will be treated as a separate
entity for tax purposes and thus the provisions of the Code applicable to
regulated investment companies generally will be applied to each Portfolio
separately, rather than to the Fund as a whole. As a regulated investment
company, a Portfolio will pay no Federal income tax on net investment income and
net realized securities gains to the extent that such income and gains are
distributed to shareholders in accordance with applicable provisions of the
Code. To qualify as a regulated investment company, the Portfolio must
distribute at least 90% of its net income (consisting of net investment income
and net short-term capital gain) to its shareholders and meet certain asset
diversification and other requirements. If the Portfolio did not qualify as a
regulated investment company, it would be treated, for tax purposes, as an
ordinary corporation subject to Federal income tax. The term "regulated
investment company" does not imply the supervision of management of investment
practices or policies by any government agency.
Any dividend or distribution paid shortly after an investor's
purchase may have the effect of reducing the net asset value of the shares below
the investor's cost of those shares. Such a dividend or distribution would be a
return of investment in an economic sense, although taxable as stated in the
Prospectus. In addition, the Code provides that if a shareholder holds shares of
a Portfolio for six months or less and has received a capital gain distribution
with respect to such shares, any loss incurred on the sale of such shares will
be treated as long-term capital loss to the extent of the capital gain
distribution received.
Corporate shareholders of the Equity Portfolio, Mid Cap
Portfolio, Small Cap Portfolio and Global Equity Portfolio will be eligible for
the dividends-received deduction on the dividends (excluding the net capital
gain dividends) paid by the Portfolio, to the extent that the Portfolio's income
is derived from certain dividends received from domestic corporations. A
corporation's dividends-received deduction will be disallowed unless the
corporation holds shares in the Portfolio for 46 days or more during the 90-day
period commencing 45 days before the shares become ex-dividend. Furthermore, a
corporation's dividends-received deduction will be disallowed to the extent a
corporation's investment in shares of the Portfolio is financed with
indebtedness. It is anticipated that distributions from Portfolios, other than
the Equity Portfolio, Mid Cap Portfolio, Small Cap Portfolio and Global Equity
Portfolio, will not qualify for the dividends-received distribution. Each year
the Fund will notify shareholders of the federal income tax status of
distributions.
The Bond Portfolio, High Yield Portfolio and International
Fixed-Income Portfolio may invest in Real Estate Mortgage Investment Conduits
("REMICs"). Interests in REMICs are classified as either "regular" interests or
"residual" interests. Under the Code, special rules apply with respect to the
treatment of a portion of the Portfolio's income from REMIC residual interests.
(Such portion is referred to herein as "Excess Inclusion Income.") Excess
Inclusion Income generally cannot be offset by net operating losses and, in
addition,
46
<PAGE>
constitutes unrelated business taxable income to entities which are subject to
the unrelated business income tax. The Code provides that a portion of Excess
Inclusion Income attributable to REMIC residual interests held by regulated
investment companies such as the Portfolios shall, pursuant to regulations, be
allocated to the shareholders of such regulated investment company in proportion
to the dividends received by such shareholders. Accordingly, shareholders of the
Bond Portfolio, High Yield Portfolio and International Fixed-Income Portfolio
generally will not be able to use net operating losses to offset such Excess
Inclusion Income. In addition, if a shareholder of one of the Portfolios is an
entity subject to the unrelated business income tax (including a qualified
pension plan, an IRA, a 401(k) plan, a Keogh plan, or another tax-exempt entity)
and is allocated any amount of Excess Inclusion Income, such a shareholder may
be required to file a return and pay a tax on such Excess Inclusion Income even
though a shareholder might not have been required to pay such tax or file such
return absent the receipt of such Excess Inclusion Income. The Investment
Manager anticipates that only a small portion, if any, of the assets of the Bond
Portfolio, High Yield Portfolio and International Fixed-Income Portfolio will be
invested in REMIC residual interests. Accordingly, the amount of Excess
Inclusion Income, if any, received by the Portfolios and allocated to their
shareholders should be quite small. Shareholders that are subject to the
unrelated business income tax should consult their own tax adviser regarding the
treatment of their income derived from the Portfolios.
Except as discussed above with respect to Excess Inclusion
Income, a dividend or capital gains distribution with respect to shares held by
a tax-deferred or qualified plan, such as an IRA, 403(b)(7) retirement plan or
corporate pension or profit sharing plan, will not be taxable to the plan.
Distributions from such plans will be taxable to individual participants under
applicable tax rules without regard to the income earned by the qualified plan.
Ordinarily, gains and losses realized from portfolio
transactions will be treated as capital gains and losses. However, all or a
portion of the gain or loss realized from the disposition of foreign currency,
non-U.S. dollar denominated debt instruments, and certain financial futures and
options, may be treated as ordinary income or loss under Section 988 of the
Code. In addition, all or a portion of the gain realized from the disposition of
certain market discount bonds will be treated as ordinary income under Section
1276 of the Code. Finally, all or a portion of the gain realized from engaging
in "conversion transactions" may be treated as ordinary income under Section
1258 of the Code. "Conversion transactions" are defined to include certain
forward, futures, option and straddle transactions, transactions marketed or
sold to produce capital gains, or transactions described in Treasury regulations
to be issued in the future.
Under Section 1256 of the Code, gain or loss realized by a
Portfolio from certain financial futures and options transactions (other than
those taxed under Section 988 of the Code) will be treated as 60% long-term
capital gain or loss and 40% short-term capital gain or loss. Gain or loss will
arise upon the exercise or lapse of such futures and options, as well as from
closing transactions. In addition, any such futures or options remaining
unexercised at the end of the Portfolio's taxable year will be treated as sold
for their then fair market value, resulting in additional gain or loss to the
Portfolio characterized in the manner described above.
47
<PAGE>
Offsetting positions held by a Portfolio involving financial
futures and options may constitute "straddles." Straddles are defined to include
"offsetting positions" in actively traded personal property. The tax treatment
of straddles is governed by Sections 1092 and 1258 of the Code, which, in
certain circumstances, overrides or modifies the provisions of Sections 988 and
1256 of the Code. As such, all or a portion of any short- or long-term capital
gain from certain "straddle" transactions may be recharacterized as ordinary
income.
If a Portfolio were treated as entering into straddles by
reason of its futures or options transactions, such straddles could be
characterized as "mixed straddles" if the futures or options transactions
comprising such straddles were governed by Section 1256 of the Code. The
Portfolio may make one or more elections with respect to "mixed straddles."
Depending upon which election is made, if any, the results to the Portfolio may
differ. If no election is made, to the extent the straddle rules apply to
positions established by the Portfolio, losses realized by the Portfolio will be
deferred to the extent of unrealized gain in any offsetting positions. Moreover,
as a result of the straddle and conversion transaction rules, short-term capital
loss on straddle positions may be recharacterized as long-term capital loss, and
long-term capital gain may be recharacterized as short-term capital gain or
ordinary income.
If a Portfolio either (1) holds an appreciated financial
position with respect to stock, certain debt obligations, or partnership
interests ("appreciated financial position") and then enters into a short sale,
futures or forward contract, or offsetting notional principal contract
(collectively, a "Contract") with respect to the same or substantially identical
property or (2) holds an appreciated financial position that is a Contract and
then acquires property that is the same as, or substantially identical to, the
underlying property, the Portfolio generally will be taxed as if the appreciated
financial position were sold at its fair market value on the date the Portfolio
enters into the financial position or acquires the property, respectively.
Income received by a Portfolio from sources within foreign
countries may be subject to withholding and other taxes imposed by such
countries. Tax conventions between certain countries and the United States may
reduce or eliminate such taxes. It is impossible to determine the effective rate
of foreign tax in advance, since the amount of each Portfolio's assets to be
invested in various countries is not known.
If more than 50% of the value of a Portfolio's total assets at
the close of its taxable year consists of the stock or securities of foreign
corporations, the Portfolio may elect to "pass through" to its shareholders the
amount of foreign income taxes paid by the Portfolio. Pursuant to such election,
shareholders would be required: (i) to include in gross income, even though not
actually received, their respective pro rata shares of the foreign taxes paid by
the Portfolio; (ii) treat their income from the Portfolio as being from foreign
sources to the extent that the Portfolio's income is from foreign sources; and
(iii) either to deduct their pro rata share of foreign taxes in computing their
taxable income, or to use it as a foreign tax credit against federal income (but
not both). No deduction for foreign taxes could be claimed by a shareholder who
does not itemize deductions.
48
<PAGE>
It is anticipated that each of the International Equity
Portfolio, International Fixed-Income Portfolio, International Small Cap
Portfolio, Emerging Markets Portfolio and Global Equity Portfolio will be
operated so as to meet the requirements of the Code to "pass through" to
shareholders of the Portfolio credits for foreign taxes paid, although there can
be no assurance that these requirements will be met. Each shareholder will be
notified within 45 days after the close of each taxable year of the Portfolio
whether the foreign taxes paid by the Portfolio will "pass through" for that
year, and, if so, the amount of each shareholder's pro rata share of (i) the
foreign taxes paid, and (ii) the Portfolio's gross income from foreign sources.
Of course, shareholders who are not liable for federal income taxes, such as
retirement plans qualified under Section 401 of the Code, will not be affected
by any such "pass through" of foreign tax credits.
If a Portfolio invests in an entity that is classified as a
"passive foreign investment company" ("PFIC") for Federal income tax purposes,
the operation of certain provisions of the Code applying to PFICs could result
in the imposition of certain Federal income taxes on the Portfolio. In addition,
gain realized from the sale, other disposition or marking-to-market of PFIC
securities may be treated as ordinary income under Section 1291 or Section 1296
of the Code.
Investment by a Portfolio in securities issued at a discount
or providing for deferred interest or for payment of interest in the form of
additional obligations could, under special tax rules, affect the amount, timing
and character of distributions to shareholders by causing a Portfolio to
recognize income prior to the receipt of cash payments. For example, the
Portfolio could be required to recognize annually a portion of the discount (or
deemed discount) at which such securities were issued and to distribute an
amount equal to such income in order to maintain its qualification as a
regulated investment company. In such case, the Portfolio may have to dispose of
securities which it might otherwise have continued to hold in order to generate
cash to satisfy these distribution requirements.
PERFORMANCE INFORMATION
Current yield is computed pursuant to a formula which operates
as follows: The amount of the relevant Portfolio's expenses accrued for the
30-day period (net of reimbursements) is subtracted from the amount of the
dividends and interest earned (computed in accordance with the regulatory
requirements) by such Portfolio during the period. That result is then divided
by the product of: (a) the average daily number of such Portfolio's shares
outstanding during the period that were entitled to receive dividends, and (b)
the net asset value per share on the last day of the period less any
undistributed earned income per share reasonably expected to be declared as a
dividend shortly thereafter. The quotient is then added to 1, and that sum is
raised to the 6th power, after which 1 is subtracted. The current yield is then
arrived at by multiplying the result by 2. A Portfolio's "actual distribution
rate" is computed in the same manner as yield, except that actual income
dividends declared per share during the period in question is substituted for
net investment income per share.
49
<PAGE>
The yield and the actual distribution rate for the 30-day
period ended December 31, 1999 for Institutional Shares and Open Shares of each
Portfolio indicated below was as follows:
<TABLE>
<CAPTION>
Name of Portfolio 30-Day Yield Distribution Rate
----------------- -------------------------- -----------------------------
Institutional Open Institutional Open
Shares Shares Shares Shares
------ ------ ------ ------
<S> <C> <C> <C> <C>
Bond 5.93% 5.64% 5.72% 5.30%
High Yield 10.80% 10.48% 10.45% 10.14%
International Fixed-Income 3.35% 3.10% 1.14% 1.03%
Strategic Yield 6.43% 6.03% 6.27% 5.79%
</TABLE>
Average annual total return is calculated by determining the
ending redeemable value of an investment purchased with a hypothetical $1,000
payment made at the beginning of the period (assuming the reinvestment of
dividends and distributions), dividing by the amount of the initial investment,
taking the "n" the root of the quotient (where "n" is the number of years in the
period) and subtracting 1 from the result.
The average annual total return of Institutional Shares and
Open Shares for the indicated Portfolio and periods ended December 31, 1999 (the
date listed in the footnote is the beginning of the period for the indicated
Portfolio) was as follows:
Institutional Shares Average Annual Total Returns
For Periods Ended December 31, 1999
------------------------------------
Since
Name of Portfolio 1-Year 5-Years 10-Years Inception
----------------- ------ ------- ------- ---------
Equity 4.23% 20.36% 14.85% 14.09%(1)
Mid Cap 4.38% N/A N/A 5.03%(2)
Small Cap 1.77% 11.39% N/A 14.25%(3)
Global Equity 16.42% N/A N/A 16.17%(4)
International Equity 24.07% 16.07% N/A 12.76%(5)
International Small Cap 26.07% 9.86% N/A 8.70%(6)
Emerging Markets 55.81% 4.57% N/A 3.91%(7)
Bond (0.46%) 6.75% N/A 5.79%(8)
High Yield 2.94% N/A N/A 2.93%(9)
International Fixed-Income (2.92%) 5.50% N/A 6.48%(10)
Strategic Yield 4.91% 7.53% N/A 7.06%(11)
---------------
(1) June 1, 1987.
(2) November 4, 1997.
(3) October 30, 1991.
50
<PAGE>
(4) January 4, 1996.
(5) October 29, 1991.
(6) December 1, 1993.
(7) July 15, 1994.
(8) November 12, 1991.
(9) January 2, 1998.
(10) November 8, 1991.
(11) October 1, 1991.
Open Shares Average Annual Total Returns
For Periods Ended December 31, 1999
-----------------------------------
Since
Name of Portfolio 1-Year 5-Years 10-Years Inception
----------------- ------ ------- -------- ---------
Equity 3.92% N/A N/A 13.54%(1)
Mid Cap 3.96% N/A N/A 4.70%(2)
Small Cap 1.47% N/A N/A 3.66%(3)
Global Equity 16.06% N/A N/A 17.02%(3)
International Equity 23.67% N/A N/A 18.18%(4)
International Small Cap 25.55% N/A N/A 9.61%(5)
Emerging Markets 55.26% N/A N/A 1.59%(6)
Bond (0.76%) N/A N/A 4.15%(7)
High Yield 2.68% N/A N/A 0.21%(8)
International Fixed-Income (3.21%) N/A N/A 1.34%(6)
Strategic Yield 4.40% N/A N/A 2.90%(4)
---------------
(1) February 5, 1997.
(2) November 4, 1997.
(3) January 30, 1997.
(4) January 23, 1997.
(5) February 13, 1997.
(6) January 8, 1997.
(7) March 5, 1997.
(8) February 24, 1998.
Total return is calculated by subtracting the amount of the
relevant Portfolio's net asset value per share at the beginning of a stated
period from the net asset value per share at the end of the period (after giving
effect to the reinvestment of dividends and distributions during the period),
and dividing the result by the net asset value per share at the beginning of the
period.
51
<PAGE>
The total return of Institutional Shares and Open Shares for
the indicated Portfolio from inception through December 31, 1999 (the date
listed in the footnote is the date operations commenced or, with respect to Open
Shares, the initial public offering date for the indicated Portfolio) was as
follows:
TOTAL RETURN THROUGH DECEMBER 31, 1999
NAME OF PORTFOLIO INSTITUTIONAL SHARES OPEN SHARES
----------------- -------------------- -----------
Equity 425.24%(1) 44.53%(12)
Mid Cap 11.17%(2) 10.43%(2)
Small Cap 196.88%(3) 11.05%(13)
Global Equity 81.93%(4) 58.24%(13)
International Equity 166.68%(5) 63.39%(14)
International Small Cap 66.16%(6) 30.24%(15)
Emerging Markets 23.30%(7) 4.81%(16)
Bond 58.32%(8) 12.17%(17)
High Yield 5.93%(9) 0.38%(18)
International Fixed-Income 67.03%(10) 4.04%(16)
Strategic Yield 75.64%(11) 8.76%(14)
-------------------
(1) June 1, 1987.
(2) November 4, 1997.
(3) October 30, 1991.
(4) January 4, 1996.
(5) October 29, 1991.
(6) December 1, 1993.
(7) July 15, 1994.
(8) November 12, 1991.
(9) January 2, 1998.
(10) November 8, 1991.
(11) October 1, 1991.
(12) February 5, 1997.
(13) January 30, 1997.
(14) January 23, 1997.
(15) February 13, 1997.
(16) January 8, 1997.
(17) March 5, 1997.
(18) February 24, 1998.
52
<PAGE>
A Portfolio's yield, actual distribution rate and total return
are not fixed and will fluctuate in response to prevailing market conditions or
as a function of the type and quality of the securities held by such Portfolio,
its average portfolio maturity and its expenses. Yield, actual distribution rate
and total return information is useful in reviewing a Portfolio's performance
and such information may provide a basis for comparison with other investments
but such information may not provide a basis for comparison with certificates of
deposit, which pay a fixed rate of return, or money market funds, which seek a
stable net asset value. Investment return and principal value of an investment
in a Portfolio will fluctuate so that an investor's shares, when redeemed, may
be worth more or less than their original cost.
Performance of each Class will be calculated separately and
will take into account any applicable distribution and service fees. As a
result, at any given time, the performance of Open Shares should be expect to be
lower than that of Institutional Shares.
From time to time, the Fund may compare a Portfolio's
performance against one or more broad-based indices or data from Lipper
Analytical Services, Inc., Money Magazine, Morningstar, Inc. and other industry
publications. In addition, the Fund may compare a Portfolio's performance
against inflation with the performance of other instruments against inflation,
such as short-term Treasury Bills (which are direct obligations of the U.S.
Government) and FDIC-insured bank money market accounts.
INFORMATION ABOUT THE FUND AND PORTFOLIOS
On January 1, 1992, the Fund on behalf of the Equity Portfolio
acquired the assets and liabilities of Lazard Equity Fund, formerly a portfolio
of Scudder Fund, Inc. ("Scudder Fund") an open-end, diversified management
investment company. Lazard Freres has agreed to indemnify Scudder Fund and its
directors from any and all claims arising out of the transfer of assets to the
maximum extent that Scudder Fund would be so permitted by the Maryland General
Corporation Law, subject to the limitations of the 1940 Act. In addition, the
Fund has agreed to indemnify, with respect to the Equity Portfolio, the Scudder
Fund and its directors and officers from claims arising out of acts or omissions
occurring prior to the transfer to the same extent that such individuals could
have been indemnified by the Scudder Fund. If, however, the Fund (or the Equity
Portfolio) ceases to exist, Lazard Freres has agreed, in lieu of the Fund, to so
indemnify the directors and officers of Scudder Fund.
53
<PAGE>
As of April 3, 2000, the following shareholders owned
beneficially or of record 5% or more of the indicated Portfolio's outstanding
shares:
<TABLE>
<CAPTION>
Percentage of Total
Name and Address Institutional Shares Outstanding
---------------- --------------------------------
<S> <C> <C>
EQUITY PORTFOLIO
Smith Barney Inc. 27.70%
00109801250
388 Greenwich Street
New York, NY 10013-2339
Lazard Freres & Co. LLC 6.18%
Employee Savings Plan--Equity Fund
30 Rockefeller Plaza
New York, NY 10112
MID CAP PORTFOLIO
Norwest Bank Colorado N.A. 12.83%
Cust FBO City of Aurora Fire MPAP
740 Broadway #8751
Denver, CO 80203-3410
Merrill Lynch for the Sole 8.96%
Benefit of Its Customers
Attn Fund Admin LZSYX
4800 Deer Lake Dr East, 2nd Fl.
Jacksonville, FL 32246-6486
Lazard Freres & Co. LLC 5.18%
30 Rockefeller Plaza, 60th Floor
New York, NY 10112
SMALL CAP PORTFOLIO
Lazard Freres & Co. LLC 10.63%
Mercantile Safe Deposit & Trust Co.,
Custodian for
Bakery & Confectionery Intl.
Pension Plan--Small Cap--A/C26501-25
Attn: Charles Loritz
PO Box 17002
30 Rockefeller Plaza
New York, NY 10112
</TABLE>
54
<PAGE>
<TABLE>
<CAPTION>
Percentage of Total
Name and Address Institutional Shares Outstanding
---------------- --------------------------------
<S> <C> <C>
Merrill Lynch For The Sole 9.62%
Benefit of Its Customers
Attn: Fund Admin LZSCX
4800 Deer Lake Dr. East, 2nd Floor
Jacksonville, FL 32246-6484
Northern Trust Trustee 7.33%
FBO ITT Industries Master Retirement Trust
#22-51598
PO Box 92956
Chicago, IL 60675-2956
GLOBAL EQUITY PORTFOLIO
Blue Cross Blue Shield of 61.72%
Massachusetts Inc. Managed Care
Attn: Treasury 01/06
100 Summer Street
Boston, MA 02110-2106
Blue Cross Blue Shield of 17.09%
Massachusetts Inc. Indemnity
Attn: Treasury 01/06
100 Summer Street
Boston, MA 02110-2106
Lazard Freres & Co. LLC 6.85%
The Baycrest Centre Foundation
Helaine Maisels
Admin Assistance Finance Dept.
3560 Bathurst Street
North York, Ontario
Lazard Freres & Co. LLC 5.43%
Mount Sinai Hospital
Foundation of Toronto
Attn: Marty Stein
331-600 University Avenue
Toronto, Ontario M5G 1X5
</TABLE>
55
<PAGE>
<TABLE>
<CAPTION>
PERCENTAGE OF TOTAL
NAME AND ADDRESS INSTITUTIONAL SHARES OUTSTANDING
---------------- --------------------------------
<S> <C> <C>
INTERNATIONAL EQUITY PORTFOLIO
Lazard Freres & Co. LLC 8.29%
Mercantile Safe Deposit & Trust Co.
Custodian for Bakery & Confectionery Intl.
A/C26501-33
Attn: Charles Loritz
PO Box 17002
30 Rockefeller Plaza
New York, NY 10112
INTERNATIONAL SMALL CAP PORTFOLIO
Lazard Freres & Co. LLC 8.18%
United Air Lines Inc. Pension & Welfare Plans
Administration Committee
Attn: David V Dykstra
PO Box 66100
30 Rockefeller Plaza
New York, NY 10112
Lazard Freres & Co. LLC 6.11%
The George Washington
University Int'l Small Cap
Attn: Louis Katz & Courtney Lowe
30 Rockefeller Plaza
New York, NY 10112
EMERGING MARKETS PORTFOLIO
Wilmington Trust Company 9.26%
Custodian for FBO Pricewaterhouse Coopers LLP
Employee & Partners Savings A/C 50085-6
c/o Mutual Funds
PO Box 8971
Wilmington, DE 19899-8971
Lazard Freres & Co. LLC 5.64%
University of British Columbia
Faculty Pension Plan
Stanley Hamilton/Dir Ops
235-2075 Wesbrook Mall
Vancouver, BC
</TABLE>
56
<PAGE>
<TABLE>
<CAPTION>
PERCENTAGE OF TOTAL
NAME AND ADDRESS INSTITUTIONAL SHARES OUTSTANDING
---------------- --------------------------------
<S> <C> <C>
BOND PORTFOLIO
Lazard Freres & Co. LLC 8.71%
Elaine Louise David-Weill
30 Rockefeller Plaza
New York, NY 10112-0002
Lazard Freres & Co. LLC 6.16%
Local 1922 Pension Fund
Attn: Laurie Greco Fund Mngr
1065 Old Country Road, Suite 214
Westbury, NY 11590-5628
Lazard Freres & Co. LLC 5.49%
Lazard Freres & Co. LLC Employees Pension Trust
30 Rockefeller Plaza
New York, NY 10112-0002
INTERNATIONAL FIXED-INCOME PORTFOLIO
Lazard Freres & Co. LLC 59.71%
Graphic Communications Intl.
Union Supplemental Retirement
Disability Fund--Fixed-Income A/C
Attn: Mr. G L Griesbauer Jr.
30 Rockefeller Plaza
New York, NY 10112
Smith Barney Inc. 18.65%
00109801250
388 Greenwich Street
New York, NY 10013-2339
Prudential Securities Inc. 6.23%
Special Custody Account for the
Exclusive Benefit of Customers-PC
Attn: Mutual Funds
One New York Plaza
New York, NY 10004-1901
</TABLE>
57
<PAGE>
<TABLE>
<CAPTION>
PERCENTAGE OF TOTAL
NAME AND ADDRESS INSTITUTIONAL SHARES OUTSTANDING
---------------- --------------------------------
<S> <C> <C>
HIGH YIELD PORTFOLIO
MAC & CO A/C IBWF8440002 58.57%
Mutual Funds Operations
P.O. Box 3198
Pittsburgh, PA 15230-3198
Lazard Freres & Co. LLC 14.50%
Employee Security Fund of the
30 Rockefeller Plaza, 60th Floor
New York, NY 10112-0002
Lazard Freres & Co. LLC 10.90%
Mass Bay Transportation
30 Rockefeller Plaza, 60th Floor
New York, NY 10112-0002
National City Bank 7.10%
FBO Philadelphia Steamfitters
Local 420 Supplemental Retirement
Attn Mutual Funds 01-51R061014
PO Box 94984
Cleveland, OH 44101-4984
STRATEGIC YIELD PORTFOLIO
HEP & Co. 26.97%
MF MAC 9139-027
Calabasas, CA
Lazard Freres & Co. LLC 20.33%
Mack Trucking Inc. Retirement Trust - Strategic Yield
Attn: Mark Cherry
2100 Mack Blvd.
Allentown, PA 18103-5622
</TABLE>
58
<PAGE>
<TABLE>
<CAPTION>
Percentage of Total
Name and Address Open Shares Outstanding
---------------- --------------------------------
<S> <C> <C>
EQUITY PORTFOLIO
Connecticut General Life Ins. Co. 74.22%
One Commercial Plaza
280 Trumbull Street
Attn: Liz Pezda H-19-B
P.O. Box 2975
Hartford, CT 06104-2975
Smith Barney 401 K Advisor GR TR 8.49%
Smith Barney Corporate Trust Co.
DTD 01/01/1998 Plan Val Scvcs
2 Tower Center
P.O.Box 1063
East Brunswick, NJ 08816-1063
MID CAP PORTFOLIO
Connecticut General Life Ins. Co. 68.14%
One Commercial Plaza
280 Trumbull Street
Attn: Liz Pezda H-19-B
P.O. Box 2975
Hartford, CT 06104-2975
First Tennesse Bank NA 11.37%
165 Madison Ave
Memphis, TN 38103-2723
SMALL CAP PORTFOLIO
Connecticut General Life Ins Co. 58.58%
One Commercial Plaza
280 Trumbull St.
Attn: Liz Pezda H-19-B
P.O. Box 2975
Hartford, CT 06104-2975
Smith Barney 410 K Advisor GR TR 14.52%
Smith Barney Corporate Trust Co.
DTD 01/01/1998 Plan Val Scvcs
2 Tower Center
P.O.Box 1063
East Brunswick, NJ 08816-1063
</TABLE>
59
<PAGE>
<TABLE>
<CAPTION>
Percentage of Total
Name and Address Open Shares Outstanding
---------------- --------------------------------
<S> <C> <C>
GLOBAL EQUITY PORTFOLIO
Cushion Trust Limited 32.76%
21 Moorfields
London EC2P 2HT United Kingdom
Lazard Freres & Co. LLC 8.26%
Estate of H. Fred Baerwald
Attn: Jessica Bourgeois
229 Berkeley Place
Brooklyn, NY 11217-3801
The Turner Close Trust 7.75%
Marlies K. Danziger TTEE
DTD 12/13/97
c/o Danziger & Danziger
405 Park Ave. Ste. 11004
New York, NY 10022-4405
INTERNATIONAL EQUITY PORTFOLIO
Connecticut General Life Insurance Co. 38.55%
One Commercial Plaza
280 Trumbull St.
Attn: Liz Pezda H-19-B
P.O. Box 2975
Hartford, CT 06104-2975
Merrill Lynch for the Sole 11.67%
Benefit of its Customers
Attn: Fund Admin. LZSYX
4800 Deer Lake Dr. East, 2nd Fl.
Jacksonville, FL 32246-6486
Smith Barney 401K Advisor Gr Tr 7.17%
Smith Barney Corporate Trust Co.
DTD 01/01/1998 Pl Val Scvcs
2 Tower Center
PO Box 1063
East Brunswick, NJ 08816-1063
</TABLE>
60
<PAGE>
<TABLE>
<CAPTION>
Percentage of Total
Name and Address Open Shares Outstanding
---------------- ------------------------------
<S> <C> <C>
Charles Schwab & Co. Inc. 5.78%
Special Custody Account
For Benefit of Customers
Attn: Mutual Fd. 101 Montgomery St.
San Francisco, CA 94014
EMERGING MARKETS PORTFOLIO
Charles Schwab & Co. Inc 22.12%
Special Custody Account
For Benefit of Customers
Attn: Mutual Fund
101 Montgomery St.
San Francisco, CA 94104
PCM Managed Equity Fund I LP 10.38%
4200 Somerset Dr Ste 200
Prairie Village, KS 66208-5244
Wendel & Co. A/C 314491 6.11%
c/o The Bank of New York
Attn: Mutual Fund/Reorg. Dept.
P.O. Box 1066 Wall St. Station
New York, NY 10268-1066
INTERNATIONAL SMALL CAP PORTFOLIO
Thomas J. Kohout Trustee 17.83%
Thomas J. Kohout Trustee Rev Trust
U/A 12/16/77 Restated 10/09/98
1910 East Bay Tree Circle
Lakeside Val Vista Estates
Gilbert, AZ 85234-4938
Lazard Freres & Co. LLC 11.93%
Dr. Sidney Harman 1987
Revocable TR U/A/D 10/17/94
Sidney Harman TTEE
Dressler & Associate Inc.
10390 Santa Monica Blvd. 360
</TABLE>
61
<PAGE>
<TABLE>
<CAPTION>
Percentage of Total
Name and Address Open Shares Outstanding
---------------- --------------------------------
<S> <C> <C>
Lazard Freres & Co. LLC 7.85%
Jeremy N. Rubenstein
Linda Tang Rubenstein
Tenants by the Entirety
5805 Rockmere Drive
Bethesda, MD 20816-2445
The Turner Close Trust 5.70%
Marlies K. Danziger TTEE
DTD 12/13/97
c/o Danziger & Danziger
405 Park Ave. Ste. 11004
New York, NY 10022-4405
Lazard Freres & Co. LLC 5.35%
Bitterroot Enterprises Inc.
Attn: Joseph L. Fey
P.O. Box 7048
Wilmington, DE 19803-0048
BOND PORTFOLIO
Lazard Freres & Co. LLC 14.81%
The Catholic Cemeteries of The
Archdiocese of Washington Inc.
Attn: Jane S. Landon
13801 Georgia Avenue
Silver Spring, MD 20906-5271
Lazard Freres & Co. LLC 7.83%
SUNY Univ. Hospital @ Brooklyn
Brooklyn Anesthesia Research
PC Retirement Trust
Attn: Ed Hahn
30 Rockefeller Plaza
New York, NY 10112
Lazard Freres & Co. LLC 5.23%
Peter W. Quesada
c/o Fore River Company
5 Milk Street
P.O. Box 7525
Portland, ME 04112-7525
</TABLE>
62
<PAGE>
<TABLE>
<CAPTION>
Percentage of Total
Name and Address Open Shares Outstanding
---------------- -----------------------------
<S> <C> <C>
HIGH YIELD PORTFOLIO
Calhoun & Co. 87.86%
c/o Comerica Bank
P.O. Box 75000 M/C# 3446
Detroit, MI 48275-0001
Cushion Trust Ltd. 6.23%
21 Moorfields
London, UK EC2P 2HT
INTERNATIONAL FIXED-INCOME PORTFOLIO
Smith Barney 401KAdvisor GRTR 78.72%
Smith Barney Corporate Trust Co.
DTD 01/01/1998 Plan Val. Scvcs.
2 Tower Center
P.O. Box 1063
East Brunswick, NJ 08816-1063
STRATEGIC YIELD PORTFOLIO
Lazard Freres & Co. LLC 6.66%
North Ottawa Community Hospital
Funded Depreciation Account
Attn: Jim Davidson
1309 Sheldon Road
Grand Haven, MI 49417-2488
Lazard Freres & Co. LLC 5.99%
North Ottawa Community Hospital
Retirement Income Plan
1309 Sheldon Road
Grand Haven, MI 49417-2404
</TABLE>
63
<PAGE>
A shareholder who beneficially owns, directly or indirectly,
more than 25% of the Fund's voting securities may be deemed a "control person"
(as defined in the 1940 Act) of the Fund.
Certain of the shareholders are investment management clients
of the Investment Manager that have entered into agreements with the Investment
Manager pursuant to which the Investment Manager has investment discretion and
voting power over any assets held in the clients' accounts, including shares of
the Portfolios. For purposes of the list above, the Fund considers the
Investment Manager to be a beneficial owner of Portfolio shares held in
management accounts on behalf of its investment management clients.
Generally, all shares have equal voting rights and will be
voted in the aggregate, and not by class, except where voting by Class is
required by law or where the matter involved affects only one Class. As used in
this Statement of Additional Information, the vote of a majority of the
outstanding voting securities means, with respect to the Fund or a Portfolio,
the vote of the lesser of (i) 67% of the shares represented at a meeting if the
holders of more than 50% of the outstanding shares of the Fund or Portfolio, as
the case may be, are present in person or by proxy, or (ii) more than 50% of the
outstanding shares of the Fund or Portfolio, as the case may be. Shareholders
are entitled to one vote for each full share held, and fractional votes for
fractional shares held.
Each share of the applicable Class of a Portfolio is entitled
to such dividends and distributions out of the income earned on the assets
belonging to that Portfolio as are declared in the discretion of the Fund's
Board of Directors. In the event of the liquidation of a Portfolio, shares of
each Class of the Portfolio are entitled to receive the assets attributable to
such Class of that Portfolio that are available for distribution based upon the
relative net assets of the applicable Class.
Shareholders are not entitled to any preemptive rights. All
shares, when issued, will be fully paid and non-assessable by the Fund.
64
<PAGE>
COUNSEL AND INDEPENDENT AUDITORS
Legal matters in connection with the issuance of the shares of
the Fund offered hereby will be passed upon by Stroock & Stroock & Lavan LLP,
180 Maiden Lane, New York, New York 10038-4982.
Anchin, Block & Anchin LLP, 1375 Broadway, New York, New York
10018, has been selected as the independent auditors for the Fund.
ADDITIONAL INFORMATION
The Fund's Registration Statement, including the Prospectus,
the Statement of Additional Information and the exhibits filed therewith, may be
examined at the office of the Commission in Washington, D.C. Statements
contained in the Prospectus or this Statement of Additional Information as to
the content of any contract or other document referred to herein or in the
Prospectus are not necessarily complete, and, in each instance, reference is
made to the copy of such contract or other document filed as an exhibit to the
Registration Statement, each such statement being qualified in all respects by
such reference.
A special service is available to banks, brokers, investment
advisers, trust companies and others who have a number of accounts in the Fund.
In addition to the regular Statement of Account furnished to the registered
holder after each transaction, a monthly summary of accounts can be provided.
The monthly summary will show for each account the account number, the month-end
share balance and the dividends and distributions paid during the month. For
information on the special monthly summary of accounts, contact the Fund.
65
<PAGE>
APPENDIX
Description of certain ratings.
S&P
BOND RATINGS
------------
AAA
Bonds rated AAA have the highest rating assigned to a debt
obligation. Capacity to pay interest and repay principal is extremely strong.
AA
Bonds rated AA have a very strong capacity to pay interest and
repay principal and differ from the highest rated issues only in small degree.
A
Bonds rated A have a strong capacity to pay interest and repay
principal although they are somewhat more susceptible to the adverse effects of
changes in circumstances and economic conditions than bonds in higher rated
categories.
BBB
Bonds rated BBB are regarded as having an adequate capacity to
pay interest and repay principal. Whereas they normally exhibit adequate
protection parameters, adverse economic conditions or changing circumstances are
more likely to lead to a weakened capacity to pay interest and repay principal
for bonds in this category than for bonds in higher rated categories.
BB
Bonds rated BB have less near-term vulnerability to default
than other speculative grade bonds. However, they face major ongoing
uncertainties or exposure to adverse business, financial or economic conditions
which could lead to inadequate capacity to meet timely interest and principal
payment.
B
Bonds rated B have a greater vulnerability to default but
presently have the capacity to meet interest payments and principal repayments.
Adverse business, financial or economic conditions would likely impair capacity
or willingness to pay interest and repay principal.
66
<PAGE>
CCC
Bonds rated CCC have a current identifiable vulnerability to
default, and are dependent upon favorable business, financial and economic
conditions to meet timely payments of interest and repayment of principal. In
the event of adverse business, financial or economic conditions, they are not
likely to have the capacity to pay interest and repay principal.
CC
The rating CC is typically applied to bonds subordinated to
senior debt which is assigned an actual or implied CCC rating.
C
The rating C is typically applied to bonds subordinated to
senior debt which is assigned an actual or implied CCC- rating.
D
Bonds rated D are in default, and payment of interest and/or
repayment of principal is in arrears.
S&P's letter ratings may be modified by the additional of a
plus or a minus sign, which is used to show relative standing within the major
ratings categories, except in the AAA (Prime Grade) category.
COMMERCIAL PAPER RATINGS
------------------------
An S&P commercial paper rating is a current assessment of the
likelihood of timely payment of debt having an original maturity of no more than
365 days. Issues assigned an A rating are regarded as having the greatest
capacity for timely payment. Issues in this category are delineated with the
numbers 1, 2 and 3 to indicate the relative degree of safety.
A-1
This designation indicates the degree of safety regarding
timely payment is either overwhelming or very strong. Those issues determined to
possess overwhelming safety characteristics are denoted within a plus sign (+)
designation.
67
<PAGE>
A-2
Capacity for timely payment on issues with this designation is
strong. However, the relative degree of safety is not as high as for issues
designated A-1.
Moody's
BOND RATINGS
------------
Aaa
Bonds which are rated Aaa are judged to be of the best
quality. They carry the smallest degree of investment risk and are generally
referred to as "gilt edge." Interest payments are protected by a large or by an
exceptionally stable margin and principal is secure. While the various
protective elements are likely to change, such changes as can be visualized are
most unlikely to impair the fundamentally strong position of such issues.
Aa
Bonds which are rated Aa are judged to be of high quality by
all standards. Together with the Aaa group they comprise what are generally
known as high grade bonds. They are rated lower than the best bonds because
margins of protection may not be as large as in Aaa securities of fluctuation of
protective elements may be of greater amplitude or there may be other elements
present which make the long-term risks appear somewhat larger than in Aaa
securities.
A
Bonds which are rated A possess many favorable investment
attributes and are to be considered as upper medium grade obligations. Factors
giving security to principal and interest are considered adequate, but elements
may be present which suggest a susceptibility to impairment sometime in the
future.
Baa
Bond which are rated Baa are considered as medium grade
obligations, i.e., they are neither highly protected nor poorly secured.
Interest payments and principal security appear adequate for the present but
certain protective elements may be lacking or may be characteristically
unreliable over any great length of time. Such bonds lack outstanding investment
characteristics and in fact have speculative characteristics as well.
Ba
Bonds which are rated Ba are judged to have speculative
elements; their future cannot be considered as well assured. Often the
protection of interest and principal payments may be very moderate and thereby
not well safeguarded during both good and bad times over the future. Uncertainty
of position characterizes bonds in this class.
68
<PAGE>
B
Bonds which are rated B generally lack characteristics of the
desirable investment. Assurance of interest and principal payments or of
maintenance of other terms of the contract over any long period of time may be
small.
Caa
Bonds which are rated Caa are of poor standing. Such issues
may be in default or there may be present elements of danger with respect to
principal or interest.
Ca
Bonds which are rated Ca present obligations which are
speculative in a high degree. Such issues are often in default or have other
marked shortcomings.
C
Bonds which are rated C are the lowest rated class of bonds,
and issues so rated can be regarded as having extremely poor prospects of ever
attaining any real investment standing.
Moody's applies the numerical modifiers 1, 2 and 3 to show
relative standing within the major rating categories, except in the Aaa category
and in the categories below B. The modifier 1 indicates a rating for the
security in the higher end of a rating category; the modifier 2 indicates a
mid-range ranking; and the modifier 3 indicates a ranking in the lower end of a
rating category.
COMMERCIAL PAPER RATINGS
------------------------
The rating Prime-1 (P-1) is the highest commercial paper
rating assigned by Moody's. Issuers of P-1 paper must have a superior capacity
for repayment of short-term promissory obligations, and ordinarily will be
evidenced by leading market positions in well established industries, high rates
of return on funds employed, conservative capitalization structures with
moderate reliance on debt and ample asset protection, broad margins in earnings
coverage of fixed financial charges and high internal cash generation, and well
established access to a range of financial markets and assured sources of
alternate liquidity.
Issuers (or related supporting institutions) rated Prime-2
(P-2) have a strong capacity for repayment of short-term promissory obligations.
This ordinarily will be evidenced by many of the characteristics cited above but
to a lesser degree. Earnings trends and coverage ratios, while sound, will be
more subject to variation. Capitalization characteristics, while still
appropriate, may be more affected by external conditions. Ample alternative
liquidity is maintained.
69
