SMITH BREEDEN SERIES FUND, 497, 1998-10-19

SMITH BREEDEN SERIES FUND
497, 1998-10-19

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PROSPECTUS/OCTOBER 15, 1998

(LOGO)
SMITH BREEDEN
-------------
MUTUAL FUNDS

- Short Duration U.S. Government Fund
- Intermediate Duration U.S. Government Fund
- High Yield Bond Fund
- U.S. Equity Market Plus Fund
- Asian/Pacific Equity Market Fund
- European Equity Market Fund
- Financial Services Fund

"We are pleased to announce the introduction of our three newest funds --
the Smith Breeden High Yield Bond Fund, the Smith Breeden Asian/Pacific
Equity Market Fund, and the Smith Breeden European Equity Market Fund. These
funds offer the opportunity to further diversify the investment risk of your
portfolio within the family

of Smith Breeden Mutual Funds."

/s/ Douglas T. Breeden /s/ Michael J. Giarla
- ----------------------- ----------------------
Douglas T. Breeden Michael J. Giarla
Chairman President

<PAGE>

(LOGO)

NOT PART OF THE PROSPECTUS

Fund Spotlight:

Short Duration US Government Fund
Intermediate Duration US Government Fund

Fund Managers: (photo) (photo)
Daniel C. Dektar Timothy D. Rowe

Smith Breeden's goal is to design funds that target the risk profile of
specific asset classes and not deviate from those risk targets. Our focus is on
risk target stability, as well as delivering returns that exceed relevant
benchmarks.

The Short Duration Fund is positioned to be a step up from money market funds.
Our goal is to maintain a very low risk profile -- about the same as a 6-month
Treasury Bill.

Our Intermediate Duration Fund also has a specific risk target: the Salomon
Brothers Mortgage Index, whose risk should be similar to a 3-5 year maturity
Treasury Note. Of course while Treasury Bills and Notes are U.S. Government
insured and offer a fixed rate of return, the U.S. Government does not
guarantee mutual fund performance. All bond funds experience some fluctuation
in principal and yield.

Smith Breeden's expertise is in finding undervalued securities in the
mortgage-backed securities market. We've been successful in creating total
returns in the mortgage market that are above what you'd expect for the risks
we have taken. We call these "excess returns."

Mortgage-backed securities can be prepaid by homeowners. That possibility
generally results in higher yields but a different risk profile than, say,
non-callable corporate bonds. Our expertise in protecting against mortgage
prepayment risk is a key feature in each of these bond funds.

We are willing to spend part of the higher yield that mortgage securities
provide to pay for the cost of hedging (protecting) our investments from
homeowner prepayment risk. With both of the Short and Intermediate Duration
Funds, our goal is to mimic the risk profile of our benchmarks but deliver
higher total returns.

Fund Spotlight:

High Yield Bond Fund

Fund Managers: (photo) (photo)
David A. Tiberii Douglas T. Breeden

With the launch of the High Yield Bond Fund, Smith Breeden is applying the
expertise that it has developed in the last two decades in analyzing
mortgage-backed securities to the high yield bond market. Like mortgage-backed
securities, high yield bonds include embedded options that affect their value.
Some of the more valuable options that high yield issuers possess are: the
option to pay interest in kind with bonds, the option to refinance at lower
rates, the option to stop making principal or interest payments, and the option
to place the company in the hands of creditors.

Smith Breeden's option valuation models provide indications of whether the
prices of specific high yield bonds are appropriate given the interest rate and
credit risks of these bonds. In addition to analyzing the bonds' embedded
options, we also employ traditional credit analysis and fundamental research in
making our investment decisions. Our goal is to select securities that give us
an attractive level of compensation in the form of current income and potential
capital appreciation given the level of risk.

DFU 10/98
- --------------------------------------------------------------------------------
Past performance is not indicative of future results. Share prices and returns
will fluctuate and when redeemed, shares may be worth more or less than their
original investment. There are special risks associated with investing in
futures and option contracts which may or may not be suitable for all
investors. Investing in foreign securities may involve certain additional
risks, including exchange rate fluctuations, less liquidity, greater
volatility, and less regulation. The High Yield Bond Fund may invest up to 100%
of its total assets in debt securities rated below investment grade, commonly
referred to as "junk bonds". These lower rated securities are speculative and
involve greater risks of loss of principal and non-payment of interest than
higher rated bonds, and are generally not appropriate for short-term investment
purposes.
<PAGE>

(LOGO)

NOT PART OF THE PROSPECTUS

Fund Spotlight:

U.S. Equity Market Plus Fund

Fund Manager: (photo)
John B. Sprow

I am often asked about the unique strategy used by the U.S. Equity Market Plus
Fund. So I would like to discuss how the Fund works.

The U.S. Equity Market Plus Fund, like our bond funds, is designed to match the
risk profile of a specific benchmark. In this case it's the S&P 500 stock
index. But unlike a purely passive index fund, we use a strategy designed to
outperform the S&P 500 Index without adding additional equity market risk.

The U.S. Equity Market Plus Fund can be viewed as comprising income and equity
segments. The income segment invests in a combination of U.S. Government Agency
mortgage securities, hedged to a low level of interest rate risk, a strategy
similar to that of our Short Duration bond fund. The Equity segment invests in
S&P 500 index futures contracts. (S&P 500 index futures contracts only require
the posting of about 5% margin, so 95% of the cash in the Fund is available to
invest in the income segment.) When the "excess" returns we generate in the
income segment (using our expertise in the mortgage markets) exceed the funding
cost of the S&P 500 futures contracts plus the operating expenses incurred by
the Fund, the Fund is able to outperform the S&P 500 Index.

While S&P 500 futures contracts are designed to track the S&P 500 index, they
are not stocks and their performance can differ from the actual index.

Smith Breeden was one of the first firms to implement this institutional
strategy in a no-load mutual fund and we've been very pleased with the results.

Fund Spotlight:

Asian/Pacific Equity Market Fund
European Equity Market Fund

Fund Manager: (photo)
William F. Quinn

Looking beyond short-term volatility, the case for investing in foreign equity
markets has never been better for long-term investors. Growth in foreign equity
markets is largely driven by the same factors driving markets in the United
States -- consumer demand, increasingly open capital markets and technological
change. These factors are especially robust in many overseas markets.

I am pleased to be the portfolio manager of Smith Breeden's two newest fund
offerings that make available to the investor the opportunity to capture the
growth of the foreign equity markets of Europe and of the Asia/Pacific region.
With lower correlations to domestic equities, international stocks can provide
diversification benefits that reduce the total risk of a portfolio. For this
reason, some allocation to international stocks through investment in
diversified international mutual funds is prudent.

Smith Breeden's International Funds are similar in structure to the U.S. Equity
Market Plus Fund. Each has a fixed income component invested primarily in
mortgage related securities. The equity component utilizes equity futures
contracts traded on international exchanges.

NOT PART OF THE PROSPECTUS

Fund Spotlight:
Financial Services Fund

Fund Managers: (photo) (photo) (photo)
Douglas T. Breeden Michael J. Giarla Robert B. Perry

Smith Breeden Associates began life in 1982 as a business consultant to
financial services firms. These past 16 years, the firm has had extensive
consulting relationships with over 50 financial firms. Additionally, Smith
Breeden's principals have made substantial investments in financial services
firms. With such depth of specialized experience, managing a financial services
mutual fund is a natural extension of our expertise.

Successful analysis of investments in the financial services sector depends on
understanding the internal workings of the companies, the industry in which
they operate, how that industry is regulated, and how it is impacted by
economic events. Here we are uniquely qualified.

My work teaching graduate level courses in banking as well as serving as Editor
for the Journal of Fixed Income helps enormously in keeping our investment
research techniques at the leading edge of this rapidly changing industry.
Assisting me in managing this portfolio will be Michael J. Giarla, President of
Smith Breeden and Robert B. Perry, a Principal of Smith Breeden, both of whom
have extensive experience in consulting for financial institutions. Our goal is
to invest in firms where the values seem reasonable in relation to the growth
prospects and risks of the firms. Banks, thrifts, financial and leasing
companies, brokerage, investment banking and advisory firms, these are the
primary types of firms we analyze.

Knowing that the fortunes of these firms can be related to changes in the
market and in interest rates, we may also seek to protect investments in this
area through the use of interest rate and equity futures and options,
securities in which we have extensive experience. Although all investments
involve a degree of risk, and we can't guarantee future results, we are
confident that our skills and unique qualifications will provide investors with
the potential to reap the rewards from the dynamic financial services sector.

DFU 12/97

- --------------------------------------------------------------------------------
Past performance is not indicative of future results. Share prices and returns
will fluctuate and when redeemed, shares may be worth more or less than their
original investment. There are special risks associated with investing in
futures and option contracts which may or may not be suitable for all
investors. Investing in foreign securities may involve certain additional
risks, including exchange rate fluctuations, less liquidity, greater
volatility, and less regulation. The High Yield Bond Fund may invest up to 100%
of its total assets in debt securities rated below investment grade, commonly
referred to as "junk bonds". These lower rated securities are speculative and
involve greater risks of loss of principal and non-payment of interest than
higher rated bonds, and are generally not appropriate for short-term investment
purposes.
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(LOGO)

NOT PART OF THE PROSPECTUS

Tips for Successful Investing

1. Invest Regularly. Most mutual fund share prices fluctuate, and we
do not believe that anyone can predict future share prices. By
investing at regular intervals you don't have to worry about buying
at the "right" time. With regular periodic investing you are more
likely to buy shares at a variety of prices and achieve an average
purchase price that is satisfactory. Smith Breeden has an automatic
investment plan that makes regular investing easy.(1)

2. Invest For The Long Term. You should expect daily fluctuations in
the performance of most mutual funds. Short-term fluctuations may
result in gains or losses. But mutual fund performance over longer
(monthly, annual or multi-year) periods tend to be less volatile. By
focusing on the long-term, you are less likely to sell your shares
prematurely due to daily news events.

3. Defer Taxes When Possible. If you can invest through an IRA
(Individual Retirement Account) or other tax-deferred account, you
will benefit from compounded returns on a portion of investment
gains you might otherwise pay in federal or state income taxes. Such
compounded returns can increase your overall investment success.

Please call us at 800-221-3138 if you wish to set up a Smith Breeden
IRA account or have other questions.

(1) Dollar cost averaging does not guarantee a profit or loss against
a declining market and an investor should consider his or her ability
to continue investing through periods of low price levels.

DFU 7/97
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(LOGO)
OCTOBER 15, 1998
SMITH BREEDEN MUTUAL FUNDS
PROSPECTUS

This prospectus describes seven no-load mutual funds (the "Funds") offering you
a broad choice of investments to help fulfill your asset allocation needs. Each
Fund is a diversified series of a management investment company -- either the
Smith Breeden Series Fund or the Smith Breeden Trust. The investment adviser
for the Funds is Smith Breeden Associates, Inc. (the "Adviser").

Smith Breeden Short Duration U.S. Government Fund
Smith Breeden Intermediate Duration U.S. Government Fund
Smith Breeden High Yield Bond Fund
Smith Breeden U.S. Equity Market Plus Fund
Smith Breeden Asian/Pacific Equity Market Fund
Smith Breeden European Equity Market Fund
Smith Breeden Financial Services Fund

An investment in any of the Funds is neither insured nor guaranteed by the U.S.
Government. There can be no assurance that any of the Funds will meet its
investment objective. This Prospectus sets forth concisely the information
about the Funds that you should know before investing. Please read this
Prospectus carefully and keep it for future reference. Statements of Additional
Information dated October 15, 1998 have been filed with the Securities and
Exchange Commission with respect to each of the Smith Breeden Series Fund and
Smith Breeden Trust and are legally part of this Prospectus. The Statements of
Additional Information can be obtained without charge by writing to the Funds
at 100 Europa Drive, Chapel Hill, North Carolina 27514 or by calling
1-800-221-3138 or by visiting either the Funds' website (www.smithbreeden.com)
or the Securities and Exchange Commission's (the "SEC") website (www.sec.gov).

The High Yield Bond Fund may invest up to 100% of its total assets in debt
securities rated below investment grade, commonly referred to as "junk bonds."
These lower rated securities are speculative and involve greater risks of loss
of principal and non-payment of interest than higher rated bonds, and are
generally not appropriate for short-term investment purposes. Please read the
risk information contained in this prospectus carefully.

THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS
PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.

1
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(LOGO)

SMITH BREEDEN BOND FUNDS

Smith Breeden Short Duration U.S. Government Fund (the "Short Fund", a series
of the Smith Breeden Series Fund) seeks a high level of current income
consistent with low volatility of net asset value. The Short Fund seeks to
match the duration, or interest-rate risk, of a portfolio that invests
exclusively in six month U.S. Treasury securities on a constant maturity basis.
The dollar weighted average maturity of the Fund's securities may at times
significantly exceed six months.

Smith Breeden Intermediate Duration U.S. Government Fund (the "Intermediate
Fund", a series of the Smith Breeden Series Fund) seeks a total return in
excess of the total return of the major market indices for mortgage-backed
securities. The major market indices for mortgage-backed securities currently
include, but are not limited to, the Salomon Brothers Mortgage Index and the
Lehman Brothers Mortgage Index. These indices include all outstanding
government sponsored fixed-rate mortgage-backed securities, weighted in
proportion to their current market capitalization. The duration, or
interest-rate risk, of these indices is similar to that of intermediate-term
U.S. Treasury Notes, and typically will range between three and five years. The
dollar weighted average maturity of the Fund's securities may at times
significantly exceed three to five years.

Smith Breeden High Yield Bond Fund (the "High Yield Bond Fund", a series of the
Smith Breeden Trust) seeks high current income and capital appreciation. Under
normal conditions, the Fund invests at least 65% of its total assets in lower
rated debt securities and convertible securities rated below investment grade
by major rating agencies, commonly referred to as "junk bonds". There is no
limit on either portfolio maturity or the acceptable rating of securities. The
Fund may invest up to 35% of its net assets in U.S. and foreign equity
securities. The Fund may also use options, futures and forward contracts and
interest rate and currency swaps as investment or hedging instruments.

2
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(LOGO)

SMITH BREEDEN EQUITY FUNDS

Smith Breeden U.S. Equity Market Plus Fund (the "U.S. Equity Market Plus Fund",
a series of the Smith Breeden Trust) seeks to provide a total return exceeding
the Standard & Poor's 500 Composite Stock Index (the "S&P 500 Index") without
additional equity market risk. The S&P 500 Index is an unmanaged index composed
of 500 common stocks, most of which are listed on the New York Stock Exchange.
Standard & Poor's, which is not a sponsor of or in any other way affiliated
with the Fund, chooses the 500 stocks included in the S&P 500 Index on the
basis of market value and industry diversification. The Fund does not invest
principally in the common stocks that make up the S&P 500 Index (the "Index")
or any other index. Instead, the Fund uses S&P 500 futures and swaps in an
effort to maintain an equity market exposure similar to that which would be
achieved if all of the Fund's assets were invested in the stocks comprising the
Index. Since the use of futures and swaps can be implemented with the
commitment of only a small percentage of the Fund's cash, it can use the
remainder to purchase fixed-income securities and related hedging instruments.
Whether the Fund's total return equals or exceeds the performance of the S&P
500 Index depends largely on whether the total return on the Fund's
fixed-income investments equals or exceeds the Fund's total operating expenses,
as well as other factors.

Smith Breeden Asian/Pacific Equity Market Fund (the "Asian/Pacific Equity
Market Fund", a series of the Smith Breeden Trust) seeks capital appreciation
through investments in financial instruments related to the major equity
markets of Asia and the Pacific region. The fund does not invest principally in
the common stocks of the Asian and Pacific markets. Instead the Fund uses
futures, options, swaps, and forwards on the equity and currency markets of
Asia and the Pacific region to maintain its equity exposure. Since the use of
futures and swaps can be implemented with the commitment of only a small
percentage of the Fund's cash, it can use the remainder to purchase
fixed-income securities and related hedging instruments. Whether the Fund's
total return equals or exceeds the performance of the equity markets of Asia
and the Pacific region depends largely on whether the total return on the
Fund's fixed-income investments equals or exceeds the Fund's total operating
expenses, as well as other factors.

Smith Breeden European Equity Market Fund (the "European Equity Market Fund", a
series of the Smith Breeden Trust) seeks capital appreciation through
investments in financial instruments related to the major equity markets of
Europe. The fund does not invest principally in the common stocks of the
European markets. Instead the Fund uses futures, options, swaps, and forwards
on the equity and currency markets of Europe to maintain its equity exposure.
Since the use of futures and swaps can be implemented with the commitment of
only a small percentage of the Fund's cash, it can use the remainder to
purchase fixed-income securities and related hedging instruments. Whether the
Fund's total return equals or exceeds the performance of the equity markets of
Europe depends largely on whether the total return on the Fund's fixed-income
investments equals or exceeds the Fund's total operating expenses, as well as
other factors.

Smith Breeden Financial Services Fund (the "Financial Services Fund", a series
of the Smith Breeden Trust) seeks capital appreciation. To pursue this goal,
the Fund invests in U.S. and foreign financial services companies. These
include banks, thrift, finance and leasing companies, brokerage, investment
banking and advisory firms, real estate related firms and insurance companies.

3
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(LOGO)

TABLE OF CONTENTS

Expense Table...............................................................5
Financial Highlights -- Short Fund..........................................7
Financial Highlights -- Intermediate Fund...................................8
Financial Highlights -- U.S. Equity Market Plus Fund........................9
Financial Highlights -- Financial Services Fund............................10
Smith Breeden Mutual Funds.................................................11
Investment Objectives, Policies and Risk Considerations....................11
Other Investment Practices and Risk Considerations.........................18
Management of the Funds....................................................22
Pricing of Fund Shares.....................................................26
How to Purchase Shares.....................................................27
How to Exchange Shares.....................................................29
How to Redeem Shares.......................................................30
Dividends and Distributions................................................32
Shareholder Reports and Information........................................33
Retirement Plans...........................................................33
Service and Distribution Plans.............................................34
Taxes......................................................................34
Capital Structure..........................................................35
Transfer and Dividend Disbursing Agent, Custodian and
Independent Accountants...................................................35
Fund Performance...........................................................35
Appendix...................................................................37

No person has been authorized to give any information or to make any
representations not contained in this Prospectus and, if given or made, such
information or representations must not be relied upon as having been
authorized by the Funds. The Prospectus does not constitute an offering by the
Funds in any jurisdiction in which such offering may not be lawfully made.

4
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(LOGO)

EXPENSE TABLE

The following table is designed to assist you in understanding the expenses you
will bear as a shareholder of a Fund. Shareholder Transaction Expenses are
charges paid when shares of a Fund are bought or sold. Annual Fund Operating
Expenses are paid out of a Fund's assets and include fees for portfolio
management, maintenance of shareholder accounts, shareholder servicing,
accounting and other services. The annual fund operating expenses shown below
reflect expense limitations agreed to by the Adviser, and are based on each
Fund's expenses for the past fiscal year, if applicable, or, in the case of new
Funds, on good faith estimates provided by the Adviser.

<TABLE>
<CAPTION>
High U.S. Equity Asian/Pacific European
Inter- Yield Market Equity Equity Financial
Short mediate Bond Plus Market Market Services
Fund Fund Fund Fund Fund Fund Fund
<S> <C> <C> <C> <C> <C> <C> <C>
Shareholder Transaction
Expenses(1)
Maximum Sales Load Imposed on
Purchases None None None None None None None
Maximum Sales Load Imposed on
Reinvested Dividends None None None None None None None
Deferred Sales Load Imposed on
Redemptions None None None None None None None
Redemption Fees(2) None None None None None None None
Exchange Fees None None None None None None None
Annual Fund Operating Expenses
(as a percentage of average net
assets)
Management Fees(3) 0.70% 0.70% 0.70% 0.70% 0.70% 0.70% 1.50%
Other Expenses
(net of reimbursement)(4) 0.08% 0.18% 0.28% 0.18% 0.28% 0.28% (0.02%)
Total Fund Operating Expenses
(net of reimbursement(4) 0.78% 0.88% 0.98% 0.88% 0.98% 0.98% 1.48%
</TABLE>

- -------------------------
(1) For accounts of less than $2,000, each Fund assesses an annual account
maintenance fee of $16. This fee is in addition to the expenses set forth
above.

(2) A transaction charge of $9 may be imposed on redemptions by wire transfer,
and an account closing fee of $8 may be imposed. Neither of these fees are
included in the above expenses.

(3) Pursuant to a distribution and services plan in respect of each Fund, the
Adviser may pay annual distribution and servicing fees of up to 0.25% of
each of the Fund's net assets out of its management fee. See "Service and
Distribution Plans."

(4) The Other Expenses and Total Fund Operating Expenses in the table reflect
voluntary undertakings by the Adviser to bear expenses of each of the Funds
and/or waive its fees to the extent necessary to limit Total Fund Operating
Expenses to 0.78% for the Short Fund, to 0.88% for each of the Intermediate
Fund and U.S. Equity Market Plus Fund, to 1.48% for the Financial Services
Fund, and to 0.98% for each of the High Yield Bond Fund, Asian/Pacific
Equity Market Fund, and European Equity Market Fund through August 1, 1999.
Absent the expense limitations, Other Expenses and Total Fund Operating
Expenses for the past fiscal year would have been 0.30% and 1.00% for the
Short Fund, 0.43% and 1.13% for the Intermediate Fund, 0.53% and 1.23% for
the U.S. Equity Market Plus Fund, and are estimated to be about 1.70% and
3.20% for the Financial Services Fund, and about 2.28% and 2.98% for each
of the High Yield Bond Fund, Asian/Pacific Equity Market Fund, and European
Equity Market Fund.

5
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(LOGO)

The following examples illustrate the expenses that apply to a $1,000
investment in each Fund over various time periods assuming: (1) a 5% annual
rate of return, and (2) no redemption at the end of each time period. Except as
noted in the table above, the Funds charge no redemption fees. The $16 annual
maintenance fee payable on accounts with current balances of less than $2,000
is not included in these examples.

Short Duration Fund

<TABLE>
<CAPTION>
1 Year 3 Years 5 Years 10 Years
- -------- --------- --------- ---------
<S> <C> <C> <C>
$ 8 $26 $45 $99
</TABLE>

Intermediate Duration Fund and U.S. Equity Market Plus Fund

<TABLE>
<CAPTION>
1 Year 3 Years 5 Years 10 Years
- -------- --------- --------- ---------
<S> <C> <C> <C>
$ 9 $29 $50 $111
</TABLE>

High Yield Bond Fund, Asian/Pacific Equity Market Fund, and European Equity
Market Fund

<TABLE>
<CAPTION>
1 Year 3 Years 5 Years 10 Years
- -------- --------- --------- ---------
<S> <C> <C> <C>
$ 10 $32 $56 $123
</TABLE>

Financial Services Fund

<TABLE>
<CAPTION>
1 Year 3 Years 5 Years 10 Years
- -------- --------- --------- ---------
<S> <C> <C> <C>
$ 16 $48 $83 $182
</TABLE>

These examples are based on the annual operating expenses shown above and
should not be considered a representation of past or future expenses or
performance. Actual expenses may be greater or less than those shown. The
annual rate of return may be more or less than 5%.

The Funds may be recommended to investors by registered investment advisers.
Such advisers customarily impose fees that would be in addition to any fees and
expenses presented in the above table. Certain broker-dealers may also charge a
fee for purchase or redemption of shares through their network. Neither the
Funds nor the Adviser exercise any control over such advisory or broker-dealer
fees and may not be informed of the level of such fees.

6
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(LOGO)

SHORT DURATION FUND
FINANCIAL HIGHLIGHTS
FOR A SHARE OUTSTANDING THROUGHOUT THE PERIOD

The following selected per share data and ratios cover the fiscal periods from
March 31, 1992, the date the Fund commenced operations, through March 31, 1998,
and are part of the Short Fund's financial statements which have been audited
by Deloitte & Touche LLP, independent auditors. This data should be read in
conjunction with the Short Fund's most recent annual audited financial
statements and the report of Deloitte & Touche LLP thereon, which appear in the
Statement of Additional Information for the Smith Breeden Series Fund.

<TABLE>
<CAPTION>
Year Ended Year Ended
March 31, March 31,
1998 1997
--------------- ----------------
<S> <C> <C>
Net Asset Value, Beginning of Period ......... $ 9.83 $ 9.74
----------- ------------
Income From Investment Operations
- ---------------------------------
Net investment income ........................ 0.484 0.476
Net realized and unrealized gain (loss) on
investments ................................. 0.114 0.146
----------- ------------
Total from investment operations ............. 0.598 0.622
----------- ------------
Less Distributions
- ------------------
Dividends from net investment income ......... (0.508) (0.476)
Dividends in excess of net investment
income ...................................... -- (0.056)
----------- ------------
Total Distributions .......................... (0.508) (0.532)
----------- ------------
Net Asset Value, End of Period ............... $ 9.92 $ 9.83
=========== ============
Total Return ................................. 6.24% 6.57%
Ratios/Supplemental Data
- ------------------------
Net assets, end of period .................... $78,427,855 $118,988,609
Ratio of expenses to average net assets
Before expense limitation ................... 1.00% 0.93%
After expense limitation..................... 0.78% 0.78%
Ratio of net income to average net assets
Before expense limitation ................... 5.06% 4.90%
After expense limitation..................... 5.28% 5.04%
Portfolio turnover rate ...................... 626% 556%

<CAPTION>
Year Ended Year Ended Year Ended Period Ended
March 31, March 31, March 31, March 31,
1996 1995 1994 1993
---------------- ---------------- ---------------- ---------------
<S> <C> <C> <C> <C>
Net Asset Value, Beginning of Period ......... $ 9.90 $ 9.90 $ 10.00 $ 10.00
------------ ------------ ------------ -----------
Income From Investment Operations
- ---------------------------------
Net investment income ........................ 0.621 0.628 0.432 0.552
Net realized and unrealized gain (loss) on
investments ................................. (0.148) -- ( 0.070) 0.002
------------ ------------ ------------ -----------
Total from investment operations ............. 0.473 0.628 0.362 0.554
------------ ------------ ------------ -----------
Less Distributions
- ------------------
Dividends from net investment income ......... (0.621) (0.628) ( 0.462) ( 0.554)
Dividends in excess of net investment
income ...................................... (0.012) -- -- --
------------ ------------ ------------ -----------
Total Distributions .......................... (0.633) (0.628) ( 0.462) ( 0.554)
------------ ------------ ------------ -----------
Net Asset Value, End of Period ............... $ 9.74 $ 9.90 $ 9.90 $ 10.00
============ ============ ============ ===========
Total Return ................................. 4.95% 6.58% 3.67% 5.67%
Ratios/Supplemental Data
- ------------------------
Net assets, end of period .................... $221,825,136 $218,431,665 $218,167,491 $48,531,206
Ratio of expenses to average net assets
Before expense limitation ................... 0.93% 0.92% 1.00% 2.58%
After expense limitation..................... 0.78% 0.78% 0.78% 0.78%
Ratio of net income to average net assets
Before expense limitation ................... 6.13% 6.18% 3.95% 2.73%
After expense limitation..................... 6.29% 6.33% 4.17% 4.53%
Portfolio turnover rate ...................... 225% 47% 112% 3%
</TABLE>

Additional performance information is presented in the Short Fund's Annual
Report, which is available without charge upon request.

7
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(LOGO)

INTERMEDIATE DURATION FUND
FINANCIAL HIGHLIGHTS
FOR A SHARE OUTSTANDING THROUGHOUT THE PERIOD

The following selected per share data and ratios cover the fiscal periods from
March 31, 1992, the date the Fund commenced operations, through March 31, 1998,
and are part of the Intermediate Fund's financial statements which have been
audited by Deloitte & Touche LLP, independent auditors. This data should be
read in conjunction with the Intermediate Fund's most recent annual audited
financial statements and the report of Deloitte & Touche LLP thereon, which
appear in the Statement of Additional Information for the Smith Breeden Series
Fund.

<TABLE>
<CAPTION>
Year Ended Year Ended
March 31, March 31,
1998 1997
--------------- ---------------
<S> <C> <C>
Net Asset Value, Beginning of Period ............ $ 9.73 $ 10.01
----------- -----------
Income From Investment Operations
- ---------------------------------
Net investment income ........................... 0.590 0.599
Net realized and unrealized gain (loss) on
investments .................................... 0.419 ( 0.024)
----------- -----------
Total from investment operations ................ 1.009 0.575
----------- -----------
Less Distributions
- ------------------
Dividends from net investment income ............ ( 0.561) ( 0.604)
Dividends in excess of net investment
income ......................................... -- --
Distributions from net realized gains on
investments .................................... ( 0.178) ( 0.251)
Distributions in excess of net realized gains
on investments ................................. -- --
----------- -----------
Total Distributions ............................. ( 0.739) ( 0.855)
----------- -----------
Net Asset Value, End of Period .................. $ 10.00 $ 9.73
=========== ===========
Total Return .................................... 10.65% 5.92%
Ratios/Supplemental Data
- ------------------------
Net assets, end of period ....................... $38,641,879 $37,735,525
Ratio of expenses to average net assets
Before expense limitation ...................... 1.13% 1.16%
After expense limitation........................ 0.88% 0.88%
Ratio of net income to average net assets
Before expense limitation ...................... 5.36% 5.92%
After expense limitation........................ 5.61% 6.19%
Portfolio turnover rate ......................... 583% 409%

<CAPTION>
Year Ended Year Ended Year Ended Period Ended
March 31, March 31, March 31, March 31,
1996 1995 1994 1993
--------------- --------------- -------------- ---------------
<S> <C> <C> <C> <C>
Net Asset Value, Beginning of Period ............ $ 9.83 $ 10.01 $ 10.62 $ 10.00
----------- ----------- ---------- ----------
Income From Investment Operations
- ---------------------------------
Net investment income ........................... 0.660 0.664 1.050 0.826
Net realized and unrealized gain (loss) on
investments .................................... 0.277 ( 0.049) ( 0.601) 0.621
----------- ----------- ---------- ----------
Total from investment operations ................ 0.937 0.615 0.449 1.447
----------- ----------- ---------- ----------
Less Distributions
- ------------------
Dividends from net investment income ............ ( 0.656) ( 0.664) ( 1.044) ( 0.826)
Dividends in excess of net investment
income ......................................... -- ( 0.108) -- --
Distributions from net realized gains on
investments .................................... ( 0.101) -- ( 0.015) --
Distributions in excess of net realized gains
on investments ................................. -- ( 0.022) -- --
----------- ----------- ---------- ----------
Total Distributions ............................. ( 0.757) ( 0.794) ( 1.059) ( 0.826)
----------- ----------- ---------- ----------
Net Asset Value, End of Period .................. $ 10.01 $ 9.83 $ 10.01 $ 10.62
=========== =========== ========== ==========
Total Return .................................... 9.69% 6.10% 4.11% 14.93%
Ratios/Supplemental Data
- ------------------------
Net assets, end of period ....................... $36,446,940 $34,797,496 $6,779,666 $2,923,913
Ratio of expenses to average net assets
Before expense limitation ...................... 1.14% 2.33% 2.34% 17.52%
After expense limitation........................ 0.90% 0.90% 0.90% 0.82%
Ratio of net income to average net assets
Before expense limitation ...................... 6.26% 4.77% 6.30% ( 8.52%)
After expense limitation........................ 6.49% 6.20% 7.74% 8.18%
Portfolio turnover rate ......................... 193% 557% 84% 42%
</TABLE>

Additional performance information is presented in the Intermediate Fund's
Annual Report, which is available without charge upon request.

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U.S. EQUITY MARKET PLUS FUND
FINANCIAL HIGHLIGHTS
FOR A SHARE OUTSTANDING THROUGHOUT THE PERIOD

The following selected per share data and ratios cover the fiscal periods from
June 30, 1992, the date the Fund commenced operations, through March 31, 1998,
and are part of the Fund's financial statements, which have been audited by
Deloitte & Touche LLP, independent auditors. This data should be read in
conjunction with the Fund's most recent annual audited financial statements and
the report of Deloitte & Touche LLP thereon, which appear in the Statement of
Additional Information for the Smith Breeden Trust.

<TABLE>
<CAPTION>
Year Ended Year Ended
March 31, March 31,
1998 1997
---------------- ---------------
<S> <C> <C>
Net Asset Value, Beginning of Period ............ $ 12.56 $ 12.27
------------ -----------
Income From Investment Operations
- ---------------------------------
Net investment income ........................... 0.591 0.592
Net realized and unrealized gain (loss) on
investments .................................... 4.940 1.813
------------ -----------
Total from investment operations ................ 5.531 2.405
------------ -----------
Less Distributions
- ------------------
Dividends from net investment income ............ ( 0.586) ( 0.590)
Dividends in excess of net investment
income ......................................... -- --
Distributions from net realized gains on
investments .................................... ( 0.645) ( 1.525)
Distributions in excess of net realized gains
on investments ................................. -- --
------------ -----------
Total Distributions ............................. ( 1.231) ( 2.115)
------------ -----------
Net Asset Value, End of Period .................. $ 16.86 $ 12.56
============ ===========
Total Return .................................... 45.71% 21.41%
Ratios/Supplemental Data
- ------------------------
Net assets, end of period ....................... $136,667,439 $13,507,377
Ratio of expenses to average net assets
Before expense limitation ...................... 1.23% 2.60%
After expense limitation ....................... 0.88% 0.88%
Ratio of net income to average net assets
Before expense limitation ...................... 4.44% 3.58%
After expense limitation ....................... 4.79% 5.30%
Portfolio turnover rate ......................... 424% 182%

<CAPTION>
Year Ended Year Ended Year Ended Period Ended
March 31, March 31, March 31, March 31,
1996 1995 1994 1993
-------------- -------------- -------------- ---------------
<S> <C> <C> <C> <C>
Net Asset Value, Beginning of Period ............ $ 10.84 $ 9.88 $ 10.85 $ 10.00
---------- ---------- ---------- ---------
Income From Investment Operations
- ---------------------------------
Net investment income ........................... 0.615 0.568 0.476 0.355
Net realized and unrealized gain (loss) on
investments .................................... 2.768 1.081 ( 0.216) 1.281
---------- ---------- ---------- ---------
Total from investment operations ................ 3.383 1.649 0.260 1.636
---------- ---------- ---------- ---------
Less Distributions
- ------------------
Dividends from net investment income ............ ( 0.583) ( 0.568) ( 0.472) ( 0.311)
Dividends in excess of net investment
income ......................................... -- ( 0.001) -- --
Distributions from net realized gains on
investments .................................... ( 1.370) ( 0.047) ( 0.701) ( 0.420)
Distributions in excess of net realized gains
on investments ................................. -- ( 0.073) ( 0.057) ( 0.055)
---------- ---------- ---------- ---------
Total Distributions ............................. ( 1.953) ( 0.689) ( 1.230) ( 0.786)
---------- ---------- ---------- ---------
Net Asset Value, End of Period .................. $ 12.27 $ 10.84 $ 9.88 $ 10.85
========== ========== ========== =========
Total Return .................................... 32.30% 17.18% 2.19% 16.52 %
Ratios/Supplemental Data
- ------------------------
Net assets, end of period ....................... $4,766,534 $2,107,346 $1,760,519 $903,846
Ratio of expenses to average net assets
Before expense limitation ...................... 4.58% 7.75% 7.08% 28.48%*
After expense limitation ....................... 0.90% 0.90% 0.90% 0.57%*
Ratio of net income to average net assets
Before expense limitation ...................... 1.85% 0.59% 1.84% (22.63 %)*
After expense limitation ....................... 5.53% 7.44% 8.02% 5.28%*
Portfolio turnover rate ......................... 107% 120% 119% 271%
</TABLE>

* Annualized

Additional performance information is presented in the Fund's Annual Report,
which is available without charge upon request.

9
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FINANCIAL SERVICES FUND

FINANCIAL HIGHLIGHTS

FOR A SHARE OUTSTANDING THROUGHOUT THE PERIOD

The following selected per share data and ratios cover the period from December
22, 1997, the date the Fund commenced operations, through March 31, 1998, and
are part of the Fund's financial statements, which have been audited by
Deloitte & Touche LLP, independent auditors. This data should be read in
conjunction with the Fund's most recent audited financial statements and the
report of Deloitte & Touche LLP thereon, which appear in the Statement of
Additional Information for the Smith Breeden Trust.

<TABLE>
<CAPTION>
Period Ended
March 31, 1998
---------------
<S> <C>
Net Asset Value, Beginning of Period ................................. $ 9.00
Income From Investment Operations
- ---------------------------------
Net investment income ................................................ 0.017
Net realized and unrealized gain (loss) on investments ............... 1.043
---------
Total from investment operations ..................................... 1.060
---------
Less Distributions
- ------------------
Dividends from net investment income ................................. --
Dividends in excess of net investment income ......................... --
Distributions from net realized gains on investments ................. --
Distributions in excess of net realized gains on investments ......... --
---------
Total Distributions .................................................. --
---------
Net Asset Value, End of Period ....................................... $ 10.06
=========
Total Return ......................................................... 11.78%
Ratios/Supplemental Data
- ------------------------
Net assets, end of period ............................................ $7,316,716
Ratio of expenses to average net assets
Before expense limitation ........................................... 3.20%*
After expense limitation ............................................ 1.48%*
Ratio of net income to average net assets
Before expense limitation ........................................... -0.92%*
After expense limitation ............................................ 0.79%*
Portfolio turnover rate .............................................. 85%
Average commission paid per share .................................... $ 0.09
</TABLE>

* Annualized

Additional performance information is presented in the Fund's Annual Report,
which is available without charge upon request.

10
<PAGE>

(LOGO)

SMITH BREEDEN MUTUAL FUNDS

The Short and Intermediate Funds are series of the Smith Breeden Series Fund
(the "Series Fund"), an open-end diversified management investment company. The
High Yield Bond, U.S. Equity Market Plus, Asian/ Pacific Equity Market, European
Equity Market, and Financial Services Funds are series of the Smith Breeden
Trust (the "Trust"), an open-end diversified management investment company.

Smith Breeden Associates, Inc. ("Smith Breeden" or the "Adviser") acts as
investment adviser to the Funds. Smith Breeden is a money management and
consulting firm founded in 1982 whose clients include pension funds, financial
institutions, corporations, government entities and charitable foundations.

INVESTMENT OBJECTIVES, POLICIES, AND RISK CONSIDERATIONS

Each of the Funds has a different investment objective and different investment
policies, and is designed to meet different investment needs.

The investment objectives and certain investment policies of the Short and
Intermediate Funds are fundamental and may not be changed without a vote of
shareholders of the relevant Fund. The investment objectives of the High Yield
Bond, U.S. Equity Market Plus, Asian/Pacific Equity Market, European Equity
Market, and Financial Services Funds are not fundamental.

Since shares of each Fund represent an investment in securities with
fluctuating market prices, the net asset value per share of each Fund will vary
as the aggregate value of a Fund's investments increases or decreases. Due to
the risks inherent in all investments, there can be no assurance that the
objectives of the Funds will be met. The descriptions that follow are designed
to help you choose the Fund or combination of Funds that best fits your
investment objectives.

Short and Intermediate Funds

The Short Fund's investment objective is to provide investors with a high level
of current income, consistent with a low volatility of net asset value. Under
normal circumstances the Short Fund will seek to achieve an interest-rate risk
or option-adjusted duration (See "Other Investment Practices and Risk
Considerations -- Adjusting Investment and Interest Rate Risk Exposure")
similar to that of a six-month U.S. Treasury security on a constant maturity
basis. However, the Short Fund expects that, under normal circumstances, the
dollar-weighted average life (or period until the next reset date) of its
portfolio securities will be longer than six months, sometimes significantly
longer. There is no assurance that the Short Fund will be able to maintain a
low volatility of net asset value.

The Adviser believes that by investing in mortgage securities from a variety of
market sectors on a selective basis and adjusting the overall option-adjusted
duration of the portfolio to approximate that of a six-month U.S. Treasury
security, the Short Fund will achieve a more consistent and less volatile net
asset value than is characteristic of mutual funds that invest primarily in
mortgage securities paying a fixed rate of interest or those that invest
exclusively in adjustable-rate mortgage securities. The securities in which the
Short Fund may invest may not yield as high a level of income as other
securities in which other funds may invest. However, such higher yielding
securities may be more volatile and may be issued by less creditworthy
entities.

The Intermediate Fund's investment objective is to provide investors with a
total return in excess of the total return of the major market indices for
mortgage-backed securities. The major market indices for mortgage-backed
securities currently include, but are not limited to, the Salomon Brothers
Mortgage Index and the Lehman Brothers Mortgage Index. These indices include
all outstanding government sponsored fixed-rate mortgage-backed securities,
weighted in proportion to their current market capitalization. Total return is
the change in value of the investment, assuming reinvestment of all
distributions. Under normal circumstances, the Intermediate Fund will seek to
achieve an interest-rate risk or option-adjusted duration (see "Other
Investment, Practices and Risk Considerations") similar to that of a portfolio
that invests exclusively in mortgage-backed securities, as weighted in the
major market indices. The duration, or interest-rate risk, of these indices is
believed by the Adviser to be similar to that of intermediate-term U.S.
Treasury Notes, and

11
<PAGE>

(LOGO)

typically will range between three and five years. (However, the Intermediate
Fund expects that, under normal circumstances, the dollar-weighted average life
(or period until the next reset date) of its portfolio securities will be more
than five years, sometimes significantly longer.) When market interest rates
decline, the value of a portfolio invested in intermediate-term fixed-rate
obligations can be expected to rise. Conversely, when market interest rates
rise, the value of a portfolio invested in intermediate-term fixed-rate
obligations can be expected to fall. There is no assurance that the
Intermediate Fund will be able to maintain a total return in excess of the
total return of major market indices for mortgage-backed securities, or that it
will match the interest rate risk of a portfolio investing exclusively in these
securities.

The Short and Intermediate Funds will seek their investment objective by
investing, under normal circumstances, at least 70% of their total assets in
U.S. Government Securities. It is anticipated that the Funds will invest
primarily in mortgage-backed securities issued by the U.S. Government, its
agencies and instrumentalities. The Funds will also invest in fixed-rate and
adjustable-rate mortgage-backed securities issued by non-governmental issuers.
Each Fund may hold a portion of its assets in money market instruments and in
time and savings deposits (including fixed-rate or adjustable certificates of
deposit) in commercial banks or institutions whose accounts are insured by the
Federal Deposit Insurance Corporation.

As a matter of fundamental policy, the Short and Intermediate Funds will limit
purchases to securities from the following classes of assets:

1. Securities issued directly or guaranteed by the U.S. Government or its
agencies or instrumentalities;

2. Mortgage-Backed Securities rated AAA by Standard & Poor's Corporation (S&P)
or Aaa by Moody's Investors Service, Inc. (Moody's) or unrated but deemed
of equivalent quality by the Adviser;

3. Securities fully collateralized by assets in either of the above classes;

4. Assets which would qualify as liquidity items under federal regulations if
held by a commercial bank or savings institution; and

5. Hedge instruments, which may only be used for risk management purposes. Any
securities described in the "Hedging" section and any stripped
Mortgage-Backed Securities may only be used for risk management purposes.

The Federal regulations referred to in Item 4 may change from time to time.

High Yield Bond Fund

The High Yield Bond Fund seeks high current income and capital appreciation.
The Fund invests primarily in lower rated debt securities commonly referred to
as "junk bonds." The Fund may also invest in unrated securities. There is no
limit on the acceptable rating of securities bought by the Fund. See the
Appendix for an explanation of credit ratings.

At least 65% of the Fund's total assets will be invested in these high yield
debt securities rated below investment grade by national rating agencies such
as S&P and Moody's (or unrated securities of comparable credit quality and
similarly rated (or unrated) convertible securities). Investment in such
securities is considered speculative. Investors should expect greater
fluctuations in share price, yield and total return than compared with less
aggressive bond funds and the Smith Breeden Short and Intermediate Funds.

The value of the High Yield Bond Fund's fixed-income investments will fluctuate
with changes in interest rates. When interest rates go up, the prices of debt
securities generally fall, and conversely when interest rates fall, the value
of debt securities increases. This interest rate risk will generally not be
hedged in the High Yield Bond Fund, and the Fund's duration will not be managed
to any specific target. In addition to interest rate risk, the Fund's
investments are subject to other risks. Lower rated securities, while usually
offering higher yields, generally have more risk and volatility because of
reduced creditworthiness and greater chance of default. Issuers of high yield
bonds are typically in weak financial health and their ability to pay interest
and principal is uncertain. High yield bond markets may react strongly to
adverse news about

12
<PAGE>

(LOGO)

an issuer or the economy, or the perception or expectation of adverse news.
High yield bonds also present certain risks based on payment expectations. For
example high yield bonds may contain redemption and call provisions. If an
issuer exercises these provisions in a declining interest rate market, the Fund
would have to replace the security with a lower yielding security, resulting in
a decreased return for investors. The manager may use options to mitigate the
prepayment risk but such a strategy may not be successful. See "Other
Investment Practices and Risk Considerations" for a more detailed discussion of
the risks associated with the use of options.

The market for high yield bonds may be thinner and less active than that for
higher-quality debt securities, which can adversely affect the prices at which
the former are sold. If market quotations are not available, lower-quality debt
securities will be valued in accordance with procedures established by the
Board of Trustees, including the use of outside pricing services. Judgment
plays a greater role in valuing high-yield corporate debt securities than is
the case for securities for which more external sources for quotations and
last-sale information is available. Adverse publicity and changing investor
perceptions may affect the ability of outside pricing services to value
lower-quality debt securities and the High Yield Bond Fund's ability to dispose
of these securities.

To the extent the Fund invests in foreign securities, performance will also
depend on changes in foreign currency values, differing political and
regulatory environments and overall economic factors in the foreign country
where the Fund invests. The Fund may also invest 35% of its total assets in
equity securities, namely common or preferred stock and warrants, of U.S. and
foreign companies. To the extent the Fund invests in stocks, the value of these
equity investments will fluctuate day to day with movements in the stock
market, as well as in response to the activities of individual companies.

The Fund may also use options, future contracts, options on futures contracts
and swaps to increase or decrease its exposure to changing security prices,
interest or currency exchange rates, or other factors that affect security
values. The risks associated with such financial instruments are explained more
fully in the section of this prospectus entitled "Other Investment Practices
and Risk Considerations."

The success of a strategy of investment in high-yielding bonds depends on the
Adviser's skills, including credit analysis. In selecting securities, Smith
Breeden will consider industries or individual companies that have stable or
improving fundamental characteristics. In selecting securities, the manager
will evaluate the issuer's credit and market risk in relationship to the
securities' expected rate of return.

U.S. Equity Market Plus Fund, Asian/Pacific Equity Market Fund, European Equity
Market Fund

The U.S. Equity Market Plus Fund seeks to provide a total return exceeding the
S&P 500 Index without additional equity market risk. The Asian/Pacific Equity
Market Fund seeks capital appreciation through investments in financial
instruments related to the major equity markets of Asia and the Pacific region.
The European Equity Market Fund seeks capital appreciation through investments
in securities related to the major equity markets of Europe. None of the funds
invest principally in the common stocks of the regions or indices whose returns
they are targeting. Instead each Fund uses futures, options, and swaps to
maintain their equity exposure in their respective markets. The Asian/Pacific
Equity Market and European Equity Market Funds may also employ futures and
forwards on the currency markets of their respective regions to maintain the
relevant market exposure.

When futures contracts are purchased, only a small percentage of the notional
value of the contract must be posted as margin. (This percentage is as low as
5% for contracts traded in U.S. markets (which may include certain contracts on
Asian and European indices which are traded in the U.S.), is about 15% in Asia,
and between 6% to 8% on European exchanges.) No margin is generally required
when entering into a swap or option contract. Each of the U.S. Equity Market
Plus, Asian/Pacific Equity Market, and European Equity Market Funds therefore
commits only a small percentage of its net assets to purchasing the instruments
which it uses to capture its equity market risk. With its remaining cash, each
Fund will invest in a low duration fixed income strategy substantially similar
to that of the Short Fund. Each Fund invests in fixed-income securities and
uses related hedging techniques such as interest rate futures, options, floors,
caps and swaps to reduce the interest-rate risk of its fixed-income securities
to less than two years. The Funds' fixed income securities
13
<PAGE>
(LOGO)

will consist primarily of U.S. Government Securities, including U.S. Agency
mortgage-backed securities, but may also include corporate debt securities, and
mortgage-backed and other asset-backed securities of non-governmental issuers.
The Funds may also engage in loans of portfolio securities, dollar rolls, and
reverse repurchase agreements to enhance income and total return. With these
fixed-income related investments, each Fund seeks to generate income and gains
exceeding the total operating costs of the Fund. The operating costs of the
Funds include the transaction and financing costs of entering into the futures,
options and swap contracts used to replicate the respective stock market
returns. Thus, whether a Fund's total return equals or exceeds the performance
of the index or market it targets (the S&P 500 index in the case of the U.S.
Equity Market Plus Fund, the Asia/Pacific region in the case of the
Asian/Pacific Equity Market Fund, the European region in the case of the
European Equity Market Fund) depends largely on whether the total return on the
Fund's fixed-income portfolio equals or exceeds the Fund's total operating
expenses. Other factors which will impact the success of the Funds' strategies
relate to how well the returns of the futures, swaps and options chosen by the
Adviser as the Fund's investments correlate to the markets tracked, as
described below and in "Other Investment Practices and Risk Considerations."
Each Fund has also applied for an exemptive order with the SEC which would
permit the Fund to invest in the Short Fund for purposes of pursuing its short
duration fixed income strategy. There is no assurance that such an order will
be granted.

When futures contracts and/or swap contracts are, in the judgment of the
Adviser, overpriced relative to the common stocks of the index or market being
tracked, a Fund may invest directly in the common stocks represented by the
index or in the region being tracked. The Fund will not own all issues, but
will attempt to purchase a basket of common stocks which the Adviser expects
will, on average, match movements in the index or market being tracked. Subject
to limits on the Fund's investments in other investment companies, a Fund may
also invest in other mutual funds. To the extent that the Fund purchases
interests in other investment companies, shareholders of the Fund may be
subject to a layering of expenses because they may indirectly bear a
proportionate share of the expenses of such investment companies (including
advisory fees) in addition to bearing the direct expenses of the Fund in which
they have invested.

Each Fund's opportunity for gain or loss may be greater than if the Fund
invested directly in the stocks represented by the relevant market or index
because the notional value of the financial instruments utilized may not match
exactly a Fund's net assets. For example, in the U.S. Equity Market Plus Fund,
the total net notional amount of the Fund's equity swap contracts, S&P 500
Index futures contracts, plus the market value of any common stocks owned may
be more or less than the Fund's total net assets. (Under normal market
conditions, each Fund expects that such variations in its exposure to the
relevant index or regions will be up to 5% more or less than the Fund's net
assets.) For the Asian/Pacific Equity Market and European Equity Market Funds,
there are no futures traded which match exactly the stock market capitalization
of the Asian/Pacific or European regions. As a result, the Asian/Pacific
Equity Market and European Equity Market Funds will utilize a composite of the
futures traded in these regions. Futures contracts may not be available to
trade in all countries making up a region, or a Fund may not be able to match
exactly the weighting of a country's market capitalization in a region due to
size limitations on the notional amount of the futures being purchased. Due to
the lower correlation of the selected country or region futures with the return
of the region in total, this circumstance may magnify the "tracking error" of a
Fund's performance.

In addition to the risks described above, the U.S Equity Market Plus,
Asian/Pacific Equity Market Fund, and European Equity Market Funds are all
subject to market risk, the possibility that the stocks underlying the equity
markets whose returns the Funds are tracking will decline in price over short
or long periods. Both U.S. and foreign stock markets tend to be cyclical, with
periods when stock prices generally rise and periods when stock prices
generally decline.

The manner in which the U.S. Equity Market Plus, Asian/Pacific Equity Market,
and European Equity Market Funds achieve their exposure to the equity markets
will have the effect of accelerating each Fund's recognition of gain.

The Asian/Pacific Equity Market and European Equity Market Funds invest in
foreign markets which can be as, if not more volatile, than U.S. markets.
Investment abroad is also influenced by currency risk. Currency risk is the
risk that changes in foreign exchange rates will affect, favorably or
unfavorably, the value of a
14
<PAGE>
(LOGO)
Fund's foreign securities. Although the Funds will enter into currency futures
and forwards to maintain the same currency exposure as the markets in which
they invest, there is no guarantee that the use of such techniques will be
successful. (The risks associated with the use of futures and forwards is
explained generally in "Other Investment Practices and Risk Considerations" and
in the Statement of Additional Information of the Smith Breeden Trust.) Other
risks and considerations relate to the higher transaction costs of trading in
foreign securities; lower liquidity which may result in greater price
volatility; the possibility of expropriation or confiscatory taxation; adverse
change in investment or exchange control regulation; difficulty in obtaining a
judgement from a foreign court; political instability; and potential
restrictions on the flow of international capital.

Financial Services Fund

The Financial Services Fund seeks capital appreciation. To pursue this goal,
the fund will invest at least 65% of its total assets in U.S. and foreign
financial services companies. These include banks, thrifts, finance and leasing
companies, brokerage, investment banking and advisory firms, real estate
related firms and insurance companies. The Fund will generally invest in common
stock and in other equity securities such as preferred stock and warrants. The
Fund may also engage in other investment practices. See "Other Investment
Practices and Risk Considerations."

Because the Financial Services Fund invests in a single sector, its performance
is largely dependent on the sector's performance, which may differ from that of
the overall stock market. Changing interest rates or deteriorating economic
conditions can adversely affect the performance of financial services
companies' stocks. The Fund may buy or sell interest rate futures and options
to attempt to mitigate the effect of changing interest rates upon the
portfolio. However, the use of interest rate futures in such a strategy
involves the risk that the price movements of the hedging instrument will not
accurately reflect price movements in the securities, so that the hedge will
not be fully effective or may result in losses.

The Fund may also buy or sell stock index futures or options on such indices to
adjust the risk and return characteristics of the Fund's stock portfolio. If
the Adviser judges market conditions incorrectly or employs a strategy that
does not correlate well with the Fund's investments, the use of stock index
futures could result in a loss, regardless of whether the intent was to reduce
risk or increase return. These techniques may also increase the volatility of
the Fund relative to the financial services sector of the stock market. See
also "Other Investment Practices and Risk Considerations" and the Statement of
Additional Information of the Smith Breeden Trust for a discussion of the use
of financial futures and options and their risks.

Financial services companies are subject to extensive government regulation
which may limit both the amounts and types of loans and other financial
commitments they can make, and the interest rates and fees they charge.
Profitability is largely dependent upon the availability and cost of capital
funds, and can fluctuate significantly when interest rates change. Credit
losses resulting from the financial difficulties of borrowers can negatively
affect the industry. Insurance companies may be subject to severe price
competition. Legislation is currently being considered which would reduce the
separation between commercial and investment banking businesses. If enacted
this could significantly harm the financial services sector and the Fund.

The Fund may purchase securities of foreign financial services companies, which
are subject to additional risks. Currency fluctuations can adversely affect the
returns on investments held in foreign corporations. Other risks relate to the
fact that differences exist in accounting, auditing and financial reporting
standards. Political developments may also have an adverse impact. There is
also the possibility of changes in investment or exchange control regulations,
restrictions on the flow of international capital, and difficulties in pursuing
legal remedies against issuers. The Fund will primarily invest in foreign
financial securities through American Depository Receipts ("ADRs") which
represent shares of a foreign corporation held by a U.S. bank that entitles the
holder to all dividends and capital gains. ADRs are denominated in U.S. dollars
and trade in the U.S. securities markets. ADRs are still subject to the risks
associated with foreign investment generally described above. The Financial
Services Fund may hedge against fluctuations in foreign exchange rates by
entering into foreign currency forward and futures contracts. For more
discussion of these contracts and
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their risks, see "Other Investment Practices and Risk Considerations" and the
Statement of Additional Information of the Smith Breeden Trust.

Under regulations imposed by the Investment Company Act of 1940 and its rules
(the "1940 Act"), the Fund may not purchase more than 10% of the securities of
any domestic or foreign insurance company. The Fund may also not invest more
than 5% of its total assets in the equity securities of any company that
derives more than 15% of its revenues from brokerage or investment management
activities, unless such investment is limited to not more than 5% of the equity
securities or 10% of the debt securities of such company, and such investment
represents not more than 5% of the net assets of the Fund.

The Financial Services Fund intends to be a diversified fund, as defined under
the 1940 Act, and as such, with respect to 75% of its assets, will not invest
more than 5% of its assets in any single issuer, and such 5% holding cannot
represent more than a 10% voting interest in the acquired company.

Characteristics and Risks of the Securities in which the Funds May Invest

Subject to the percentage limitations on investment to which each Fund is
subject based on their investment objective, and unless stated otherwise, each
of the Funds may invest in the following types of securities.

U.S. Government Securities. The U.S. Government Securities in which the Funds
may invest include U.S. Treasury Bills, Notes, Bonds, discount notes and other
debt securities issued by the U.S. Treasury, and obligations issued or
guaranteed by the U.S. Government, its agencies and instrumentalities
including, but not limited to, the Government National Mortgage Association
("GNMA"), Federal National Mortgage Association ("FNMA") and Federal Home Loan
Mortgage Corporation ("FHLMC"). (Other U.S. Government agencies or
instrumentalities include Federal Home Loan Banks, Bank for Cooperatives, Farm
Credit Banks, Tennessee Valley Authority, Federal Financing Bank, Small
Business Administration, and Federal Agricultural Mortgage Corporation.)
Mortgage-backed securities are explained more fully below.

Corporate Debt Securities. All of the Funds, with the exception of the Short
and Intermediate Funds, may invest in corporate debt securities. Corporate Debt
Securities are subject to the risk of an issuer's inability to meet principal
and interest payments on the obligation (credit risk) and may also be subject
to price volatility due to such factors as interest rate sensitivity, market
perception of the credit-worthiness of the issuer and general market liquidity.
Debt securities issued by smaller and medium sized issuers may be less actively
traded than those of larger issuers and may experience greater fluctuations in
price. Smaller and medium sized issuers may be less seasoned, have more limited
product lines, markets, financial resources and management depth, and therefore
be more susceptible to adverse market conditions than larger issuers.

Convertible Securities. All of the Funds, with the exception of the Short and
Intermediate Funds, may invest in convertible securities. A convertible
security is a fixed income equity security that may be converted into a
prescribed amount of common stock at a specified formula. A convertible
security entitles the owner to receive interest until the security matures or
is converted. Convertibles have several unique investment characteristics such
as: (a) higher yields than common stocks but lower yields than straight debt
securities; (b) lesser degree of fluctuation in value than the underlying stock
since they have fixed income characteristics; and (c) potential for capital
appreciation if the market price of the underlying securities increases.

Mortgage-Backed and Other Asset-Backed Securities. Mortgage-backed securities
are securities that directly or indirectly represent a participation in, or are
collateralized by and payable from, mortgage loans secured by real property.
The term "mortgage-backed securities," as used herein, includes adjustable-rate
mortgage securities, fixed-rate mortgage securities, and derivative mortgage
products such as collateralized mortgage obligations, including residuals,
stripped mortgage-backed securities and other instruments. Asset-backed
securities are structured like mortgage-backed securities, but instead of
mortgage loans or interests in mortgage loans, the underlying assets may
include, but are not limited to, pools of automobile loans, educational loans
and credit card receivables. These securities are described in detail below and
in the Statement of Additional Information.
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There are currently three basic types of mortgage-backed securities: (i) those
issued or guaranteed by the U.S. Government or one of its agencies or
instrumentalities, such as GNMA, FNMA and FHLMC; (ii) those issued by private
issuers that represent an interest in or are collateralized by mortgage-backed
securities issued or guaranteed by the U.S. Government or one of its agencies
or instrumentalities; and (iii) those issued by private issuers that represent
an interest in or are collateralized by whole mortgage loans or mortgage-backed
securities without a government guarantee but usually having some form of
private credit enhancement. Not all securities issued by the U.S. Government or
its agencies are backed by the full faith and credit of the United States; some
may be backed only by the assets of the particular instrumentality or the
ability of the agency to borrow.

The Short and Intermediate Funds may only invest in mortgage-backed securities
issued by private originators of, or investors in, mortgage loans issued by
private entities that are rated AAA by S&P or Aaa by Moody's Investors Service
("Moody's"), or, if unrated, determined by the Adviser to be of comparable
quality. The Short and Intermediate Funds will not pay any additional fees for
credit support and will not invest in private mortgage pass-through securities
unless they are rated AAA by S&P or Aaa by Moody's, or are unrated but deemed
to be of comparable credit quality by the Adviser. In addition, the Short and
Intermediate Funds will only purchase mortgage-backed securities which
constitute "Mortgage Related Securities" for purposes of the Secondary Mortgage
Market Enhancement Act of 1984.

The Funds will not purchase privately-issued mortgage-backed securities or
Collateralized Mortgage Backed Obligations ("CMOs") collateralized by interests
in whole mortgage loans (not guaranteed by GNMA, FNMA or FHLMC) if the
securities of any one issuer would exceed 10% of any Fund's assets at the time
of purchase. The Funds will not purchase privately-issued mortgage-backed
securities or CMOs collateralized by U.S. Government agency mortgage-backed
securities if the securities of any one issuer would exceed 20% of any Fund's
assets at the time or purchase.

The U.S. Equity Market Plus, European Equity Market and Asian/Pacific Equity
Market Funds' investments in mortgage-backed and other asset-backed securities
will be rated at least A by Moody's or S&P.

Mortgage-backed and asset-backed securities have yield and maturity
characteristics corresponding to their underlying assets. Unlike traditional
debt securities, which may pay a fixed rate of interest until maturity when the
entire principal amount comes due, payments on certain mortgage-backed and
asset-backed securities include both interest and a partial payment of
principal. This partial payment of principal may be comprised of a scheduled
principal payment as well as an unscheduled payment from the voluntary
prepayment, refinancing, or foreclosure of the underlying loans. As a result of
these unscheduled payments of principal, or prepayments on the underlying
securities, the price and yield of mortgage-backed securities can be adversely
affected. For example, during periods of declining interest rates, prepayments
can be expected to accelerate, and the Funds would be required to reinvest the
proceeds at the lower interest rates then available. Prepayments of mortgages
which underlie securities purchased at a premium could result in capital losses
because the premium may not have been fully amortized at the time the
obligation is prepaid. In addition, like other interest-bearing securities, the
values of mortgage-backed securities generally fall when interest rates rise,
but when interest rates fall, their potential for capital appreciation is
limited due to the existence of the prepayment feature. In order to hedge
against possible prepayment, the Funds may purchase certain options and options
on futures contracts as described more fully in "Other Investment Practices and
Risk Considerations" and the Statements of Additional Information.

Adjustable-Rate Securities. Adjustable-rate securities have interest rates that
are reset at periodic intervals, usually by reference to some interest rate
index or market interest rate. Some adjustable-rate securities are backed by
pools of mortgage loans. The Short and Intermediate Funds will only invest in
adjustable-rate securities backed by pools of mortgage loans ("ARMs"). The
Fixed Income Segments of the U.S. Equity Market Plus, Asian/Pacific Equity
Market, and European Equity Market Funds may also invest in adjustable-rate
securities backed by assets other than mortgage pools.

Although the rate adjustment feature may act as a buffer to reduce large
changes in the value of adjustable-rate securities, these securities are still
subject to changes in value based on changes in market interest rates or
changes in the issuer's creditworthiness. Because the interest rate is reset
only periodically, changes in

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the interest rate on adjustable-rate securities may lag changes in prevailing
market interest rates. Also, some adjustable-rate securities (or the underlying
mortgages or other underlying loans or receivables) are subject to caps or
floors that limit the maximum change in interest rate during a specified period
or over the life of the security. Because of the resetting of interest rates,
adjustable-rate securities are less likely than non-adjustable-rate securities
of comparable quality and maturity to increase significantly in value when
market interest rates fall. Adjustable-rate securities are also subject to the
prepayment risks associated generally with mortgage-backed securities.

Credit Risk. While certain U.S. Government securities such as U.S. Treasury
obligations and GNMAs are backed by the full faith and credit of the U.S.
Government, other fixed-income securities in which the Funds may invest are
subject to varying degrees of risk of default. These risk factors include the
creditworthiness of the issuer and, in the case of mortgage-backed and
asset-backed securities, the ability of the mortgagor or other borrower to meet
its obligations. The Short and Intermediate Funds will seek to minimize this
credit risk by investing in securities of the highest credit quality, while the
U.S. Equity Market Plus, European Equity Market and Asian/Pacific Equity Market
Funds will seek to minimize this risk of default by investing in securities of
at least investment grade, except that its investment in mortgage-backed
securities will be rated at least A. The High Yield Bond Fund will invest in
securities of below investment grade.

Debt obligations that are deemed investment grade carry a rating of at least
Baa from Moody's or BBB from Standard and Poor's, or a comparable rating agency
from another rating agency or, if not rated by an agency, are determined by the
Adviser to be of comparable quality. Bonds rated BBB or Baa or below (and
unrated bonds of comparable quality) have speculative characteristics and
changes in economic circumstances are more likely to lead to a weakened
capacity of the issuer to make interest and principal payments.

Other Mortgage Backed Securities and Fixed Income Investments. The Funds may
also invest in other types of mortgage-backed and fixed income securities
including Collateralized Mortgage Obligations, Stripped Securities, and zero
coupon bonds. These types of securities, including their risks, are described
in detail in the Statements of Additional Information. New financial
instruments and securities continue to be developed. The Funds may invest in
any such instruments or variations to the extent consistent with their
investment objectives and policies and applicable regulatory requirements.

OTHER INVESTMENT PRACTICES AND RISK CONSIDERATIONS

The Statement of Additional Information for each Fund contains more detailed
information about the following practices, including limitations designed to
reduce the related risks.

Adjusting Investment and Interest Rate Risk Exposure. A Fund can use various
techniques to increase or decrease its exposure to changing security prices and
indices, currency exchange rates, interest rates or other factors that affect
security value, or to employ temporary substitutes for anticipated future
transactions. These techniques include buying or selling financial futures
contracts, purchasing call or put options, or selling covered call options on
such futures or entering into currency exchange contracts or swap agreements.
Any or all of these techniques may be used at one time, except that only the
Asian/Pacific Equity Market, European Equity Market, and Financial Services
Funds may enter into currency exchange futures, forward or swap contracts. Use
of any particular transaction is a function of market conditions. There is no
overall limitation on the percentage of a Fund's assets which may be subject to
a hedge position.

Swap agreements are two-party contracts entered into primarily by institutional
investors for periods ranging from a few weeks to more than one 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 two 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. Whether a Fund's use of swap agreements will
be successful in furthering its investment objective will depend on the
Adviser's ability to predict correctly whether certain types of investments are
likely to produce greater returns than other investments. Because they are
two-party contracts and because they may have terms of greater than seven days,
swap

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agreements are currently considered illiquid investments. Moreover, a Fund
bears the risk of loss of the amount expected to be received under a swap
agreement in the event of the default or bankruptcy of a swap agreement
counterparty. The Funds will enter into swap agreements only with
counterparties that meet certain standards for creditworthiness (generally such
counterparties would have to be eligible counterparties under the terms of the
Funds' repurchase agreement guidelines). Certain restrictions imposed on the
Funds by the Internal Revenue Code may limit the Funds' ability to use swap
agreements. The swaps market is a relatively new market and is largely
unregulated. It is possible that developments in the swaps market, including
potential government regulation, could adversely affect a Fund's ability to
terminate existing swap agreements or to realize amounts to be received under
such agreements.

Options and futures transactions involve costs and may result in losses. The
losses from investing in futures transactions are potentially unlimited. In
addition, the effective use of options and futures strategies depends on a
Fund's ability to terminate options and futures positions at times when the
Adviser deems it desirable to do so. This ability to terminate positions when
the Adviser deems it desirable to do so may be hindered by the lack of a liquid
secondary market. Although a Fund will take an options or futures contract
position only if the Adviser believes there is a liquid secondary market for
the option or futures contract, there is no assurance that a Fund will be able
to effect closing transactions at any particular time or at an acceptable
price.

The use of options and futures strategies also involves the risk of imperfect
correlation between movements in the values of the securities underlying the
futures and options purchased and sold by a Fund, of the option and futures
contract itself, and of the securities which are the subject of a hedge. For
example, a Fund bears the risk that prices of hedged securities will not move
to the same degree as the hedging instrument, or that price movements in the
hedging instrument will not accurately reflect price movements in the security
underlying the hedging instrument. It is also possible for a Fund to incur a
loss on both the hedged securities and the hedging instrument. In the case of
the Funds other than the Financial Services and High Yield Bond Funds, this
means that a Fund may not achieve, and may at times exceed, its targeted
option-adjusted duration or the return of the market it tracks.

Option-adjusted duration is a measure of the price sensitivity of a portfolio
to changes in interest rates. The maturity of a security, another commonly used
measure of price sensitivity, measures only the time until final payment is
due, whereas option-adjusted duration takes into account the pattern of all
payments of interest and principal on a security over time, including how these
payments are affected by prepayments and by changes in interest rates. Each
year of duration represents an approximate 1% change in price for a 1% change
in interest rates. For example, if a bond fund has an average option-adjusted
duration of three years, its price will fall approximately 3% when interest
rates rise by one percentage point. Conversely, the bond fund's price will rise
approximately 3% when interest rates fall by one percentage point. In computing
the duration of a Fund's portfolio, the Adviser will estimate the duration of
obligations that are subject to prepayment or redemption by the issuer, taking
into account the influence of changes in interest rates on prepayments and
coupon flows.

At times, a Fund may sell interest rate futures in a different dollar amount
than the dollar amount of securities being hedged, depending on the expected
relationship between the volatility of the prices of such securities and the
volatility of the futures contracts, based on duration calculations by the
Adviser. If the actual price movements of the securities and futures are
inconsistent with the Adviser's estimates of their durations, the hedge may not
be effective.

A Fund will not maintain open short positions in interest rate futures
contracts if, in the aggregate, the value of the open positions (marked to
market) exceeds the current market value of its fixed income securities
portfolio plus or minus the unrealized gain or loss on these open positions,
adjusted for the expected volatility relationship between the portfolio and the
futures contracts based on duration calculations. If this limitation should be
exceeded at any time, a Fund will take prompt action to close out the
appropriate number of open contracts to bring its open futures position into
compliance with this limitation.

The Short and Intermediate Funds will not purchase a put or call option on U.S.
Government Securities or mortgage-backed securities if, as a result of such
purchase, more than 10% of its total assets would be

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invested in such options. The Short and Intermediate Funds will engage in OTC
option transactions only with primary U.S. Government Securities dealers
recognized by the Federal Reserve Bank of New York. The Short and Intermediate
Funds will also not sell options which are not covered.

In accordance with regulations established by the Commodity Futures Trading
Commission, each Funds' aggregate initial margin and premiums on all futures
and options contract positions not held for bona fide hedging purposes, will
not exceed 5% of a Fund's net assets, after taking into account unrealized
profits and losses on such contracts. In addition to margin deposits, when a
Fund purchases a futures contract, it is required to maintain at all times
liquid securities in a segregated account with its Custodian, in an amount
which, together with the initial margin deposit on the futures contract, is
equal to the current delivery or cash settlement value of the futures contract.
The Funds' ability to engage in options and futures transactions and to sell
related securities might also be limited by tax considerations and by certain
regulatory requirements. See "Taxes" in the relevant Statement of Additional
Information.

Securities Lending, Repurchase Agreements and Forward Commitments. The Funds
may lend portfolio securities to broker-dealers and may enter into repurchase
agreements. These transactions must be fully collateralized at all times but
involve some risk to the Funds if the other party should default on its
obligations and a Fund is delayed in or prevented from recovering the
collateral. None of the Funds will lend portfolio securities if, as a result,
the aggregate of such loans exceeds 33 1/3% of the total asset value (including
such loans). The Funds will only enter into repurchase agreements with or lend
securities to (i) member banks of the Federal Reserve System having total
assets in excess of $500 million and (ii) securities dealers, provided such
banks or dealers meet the creditworthiness standards established by the Board
of Trustees ("Qualified Institutions"). The Adviser will monitor the continued
creditworthiness of Qualified Institutions, subject to the oversight of the
Board of Trustees.

The Funds may also purchase securities for future delivery, which may increase
overall investment exposure and involves a risk of loss if the value of the
securities declines prior to the settlement date. At the time a Fund enters
into a transaction on a when-issued or forward commitment basis, a segregated
account consisting of liquid securities equal to at least 100% of the value of
the when-issued or forward commitment securities will be established and
maintained with the Funds' custodian. Subject to this requirement, the Funds
may purchase securities on such basis without limit. Settlements in the
ordinary course, which may be substantially more than three business days for
mortgage-backed securities, are not treated as when-issued or forward
commitment transactions, and are not subject to the foregoing limitations,
although some of the risks described above may exist.

Reverse Repurchase Agreements, Dollar Roll Agreements and Borrowing. The Funds
may enter into reverse repurchase agreements or dollar roll agreements with
commercial banks and registered broker-dealers in amounts up to 33 1/3% of
their assets. The Short and Intermediate Funds may only enter into these
transactions with commercial banks and registered broker-dealers which are also
Qualified Institutions. The Statement of Additional Information for each Trust
contains a more detailed explanation of these practices. Reverse repurchase
agreements and dollar rolls are considered borrowings by a Fund and require
segregation of assets with a Fund's custodian in an amount equal to the Fund's
obligations pending completion of such transactions. Each Fund may also borrow
money from banks in an amount up to 33 1/3% of a Fund's total assets to realize
investment opportunities, for extraordinary or emergency purposes, or for the
clearance of transactions. Borrowing from banks usually involves certain
transaction and ongoing costs and may require a Fund to maintain minimum bank
account balances. Use of these borrowing techniques to purchase securities is a
speculative practice known as "leverage." Depending on whether the performance
of the investments purchased with borrowed funds is sufficient to meet the
costs of borrowing, a Fund's net asset value per share will increase or
decrease, as the case may be, more rapidly than if the Fund did not employ
leverage.

Short Sales. The Funds may make short sales of securities. A short sale is a
transaction in which the Fund sells a security it does not own in anticipation
that the market price of that security will decline. All of the Funds, except
the Financial Services and High Yield Bond Funds, expect to engage in short
sales as a form of hedging in order to shorten the overall duration of the
portfolio and maintain portfolio flexibility. The Financial Services and High
Yield Bond Funds may make short sales of securities to reduce the risk of the

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portfolio to the market or to increase return. While a short sale may act as
effective hedge to reduce the market or interest rate risk of a portfolio, it
may also result in losses which can reduce the portfolio's total return.

When a Fund makes a short sale, it must borrow the security sold short and
deliver it to the broker-dealer through which it made the short sale as
collateral for its obligation to deliver the security upon completion of the
transaction. A Fund may have to pay a fee to borrow particular securities, and
is often obligated to relinquish any payments received on such borrowed
securities.

Until a Fund replaces a borrowed security, it will maintain daily a segregated
account with its custodian into which it will deposit liquid securities such
that the amount deposited in the account plus any amount deposited with the
broker as collateral will equal the current value of the security sold short.
Depending on arrangements made with the broker, a Fund may not receive any
payments (including interest) on collateral deposited with the broker. If the
price of the security sold short increases between the time of the short sale
and the time a Fund replaces the borrowed security, the Fund will incur a loss;
conversely, if the price declines, the Fund will realize a gain. Although a
Fund's gain is limited to the amount at which it sold the security short, its
potential loss is limited only by the maximum attainable price of the security
less the price at which the security was sold.

A Fund will not make a short sale if, after giving effect to such sale, the
market value of all securities sold exceeds 25% of the value of the Fund's
total net assets. A Fund may also effect short sales where the Fund owns, or
has the right to acquire at no additional cost, the identical security (a
technique known as a short sale "against the box"). Such transactions might
accelerate the recognition of gain. See "Taxes" in the relevant Statement of
Additional Information.

Illiquid Securities. A Fund may invest up to 15% of its net assets in illiquid
securities. The term illiquid securities for this purpose means securities that
cannot be disposed of within seven days in the ordinary course of business. The
SEC staff takes the position that this includes non-terminable repurchase
agreements having maturities of more than seven days.

The High Yield Bond, U.S. Equity Market Plus, Asian/Pacific Equity Market,
European Equity Market, and Financial Services Funds may invest in restricted
securities, which represent securities that can be sold in privately negotiated
transactions, pursuant to an exemption from registration under the Securities
Act of 1933, or in registered public offering. Restricted securities deemed to
be liquid under procedures established by the Board are not subject to the
limitations on illiquid securities.

The determination of whether certain IO/PO Strips issued by the U.S. Government
and backed by fixed-rate mortgages or any other securities in which a Fund
desires to invest are liquid shall be made by the Adviser under guidelines
established by the Trustees in accordance with applicable pronouncements of the
SEC. At present, all other IO/PO Strips, other residual interests of CMOs and
OTC options are treated as illiquid securities. The SEC staff also currently
takes the position that the interest rate swaps, caps and floors discussed in
the Statements of Additional Information, as well as equity swap contracts and
reverse equity swap contracts, are illiquid.

Portfolio Turnover. The Adviser buys and sells securities for a Fund whenever
it believes it is appropriate to do so. The portfolio turnover rate for each
Fund's previous fiscal periods is shown in the table under the heading
"Financial Highlights". The Adviser expects that for the High Yield Bond,
Asian/Pacific Equity Market and European Equity Market Funds, the portfolio
turnover rate will not exceed 500% for the fiscal year.

The portfolio turnover rates reported in the "Financial Highlights" for the
Short, Intermediate, and U.S. Equity Market Plus Funds for the fiscal year
ended March 31, 1998 were relatively high. In addition, the Adviser anticipates
that the portfolio turnover rate for the High Yield Bond, Asian/Pacific Equity
Market, and European Equity Market Funds will also be relatively high. Because
of their relatively frequent trading, the Funds will realize taxable capital
gains frequently which must be distributed yearly to shareholders. To the
extent these gains are short-term capital gains, such gains are generally taxed
at ordinary income tax rates.

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If a shareholder holds an investment in a fund in something other than a
tax-deferred account (e.g. a retirement account), the payment of any taxes will
impact a shareholder's net return from holding an investment in a Fund.
Portfolio turnover also generally involves some expense to a Fund, including
brokerage commissions or dealer mark-ups and other transaction costs on the
sale of securities and reinvestment in other securities. However, the mortgage
securities in which some of the Funds may invest are generally traded on a
"net" basis with dealers acting as principals for their own account without a
stated commission. The Funds will pay commissions in connection with options
and future transactions and, for the High Yield Bond, U.S. Equity Market Plus,
Asian/Pacific Equity Market, European Equity Market and Financial Services
Funds, in relation to any purchase of common stocks or other equity securities.

MANAGEMENT OF THE FUNDS

Its Board of Trustees manages the business affairs of the Funds. Each of the
Funds has entered into an investment advisory agreement with Smith Breeden
Associates, Inc., 100 Europa Drive, Chapel Hill, North Carolina, 27514 (the
"Investment Advisory Agreements"). Pursuant to such investment advisory
agreements, the Adviser furnishes continuous investment advisory services to
each of the Funds.

Trustees and Officers

The following is a listing of the Trustees and officers of the Series Fund and
Trust, the legal entities that have issued shares in the Funds. Unless
otherwise indicated, all of the named individuals serve in their capacities for
both the Series Fund and Trust.

Douglas T. Breeden* Trustee and Chairman
Portfolio Manager, Financial Services Fund
Portfolio Manager, High Yield Bond Fund

Dr. Breeden, the Chairman of the Board of Smith Breeden Associates, co-founded
the firm in 1982. In conjunction with Michael J. Giarla and Robert B. Perry, he
is responsible for the day-to-day operations of the Financial Services Fund,
and in conjunction with David A. Tiberii, he is responsible for the day-to-day
operations of the High Yield Bond Fund. Dr. Breeden has served on business
school faculties at Duke University, Stanford University and the University of
Chicago, and as a visiting professor at Yale University and at the
Massachusetts Institute of Technology. He is the Editor of The Journal of Fixed
Income. Dr. Breeden served as Associate Editor for five journals in financial
economics, and was elected to the Board of Directors of the American Finance
Association. He has published several well-cited articles in finance and
economics journals. He holds a Ph.D. in Finance from the Stanford University
Graduate School of Business, and a B.S. in Management Science from the
Massachusetts Institute of Technology. He serves as Chairman of Harrington
Financial Group, the holding company for Harrington Bank, F.S.B., of Richmond,
Indiana.

Michael J. Giarla* Trustee and President
Portfolio Manager, Financial Services Fund

Mr. Giarla is Chief Operating Officer, President and Director of Smith Breeden
Associates. In conjunction with Douglas T. Breeden and Robert B. Perry, he is
responsible for the day-to-day operations of the Financial Services Fund. He
also serves as a Director of Harrington Financial Group, the holding company
for Harrington Bank, F.S.B., of Richmond, Indiana. Formerly Smith Breeden's
Director of Research, he was involved in research and programming, particularly
in the development and implementation of models to evaluate and hedge mortgage
securities. He also consults with institutional clients and conducts special
projects. Before joining Smith Breeden Associates, Mr. Giarla was a Summer
Associate in Goldman Sachs & Company's Equity Strategy Group in New York. Mr.
Giarla has published a number of articles and book chapters regarding MBS
investment, risk management and hedging. He served as an Associate Editor of
The Journal of Fixed Income from 1991-1993. Mr. Giarla holds a Master of
Business Administration with Concentration in Finance from the Stanford
University Graduate School of Business, where he was an Arjay Miller Scholar.
He earned a Bachelor of Arts in Statistics, summa cum laude, from Harvard
University, where

- -------------------------
* Interested Person

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he was elected to Phi Beta Kappa and was a Harvard Club of Boston Scholar. Mr.
Giarla is a Trustee of the Roxbury Latin School, West Roxbury, Massachusetts.

Stephen M. Schaefer Trustee

Stephen M. Schaefer is the Tokai Bank Professor of Finance at the London
Business School. Previously on the Faculty of the Graduate School of Business
of Stanford University, he has also taught at the Universities of California
(Berkeley), Chicago, British Columbia and Venice. His research interests focus
on capital markets and financial regulation. He served on the editorial board
of a number of professional journals including, currently, The Journal of Fixed
Income, The Review of Derivative Research, and Ricerche Economiche. He consults
for a number of leading financial institutions, including the Adviser, and is a
former Independent Board Member of the Securities and Futures Authority of
Great Britain.

Myron S. Scholes Trustee

Myron S. Scholes is a Principal in the money management firm Long-Term Capital
Management Co. (since 1993). He is the Frank E. Buck Professor of Finance
Emeritus at the Graduate School of Business at Stanford University (since
1983). He is a member of the Econometric Society. Professor Scholes was also a
Managing Director and co-head of the fixed income derivatives group at Salomon
Brothers between 1991-1993. Prior to coming to Stanford University in 1983,
Professor Scholes was the Edward Eagle Brown Professor of Finance at the
Graduate School of Business, University of Chicago (1974-1983). He served as
the Director of the University of Chicago's Center for Research in Security
Prices from 1974-1980. Prior to coming to the University of Chicago, Professor
Scholes was first an Assistant Professor then an Associate Professor at the
Sloan School of Management at M.I.T. from 1968 to 1973. He received his Ph.D.
in 1969 from the Graduate School of Business, University of Chicago. He has
honorary Doctor of Law degrees from the University of Paris and McMaster
University. He is a past president of the American Finance Association (1990).

Dr. Scholes has published numerous articles in academic journals and in
professional volumes. He is most noted as the co-originator of the
Black-Scholes Options Pricing Model as described in the paper, "The Pricing of
Options and Corporate Liabilities," published in the Journal of Political
Economy (with Fischer Black, May 1973), for which he was awarded the Nobel
Prize in Economic Sciences in 1997. His other papers include such topics as
risk-return relationships, the effects of dividend policy on stock prices, and
the effects of taxes and tax policy on corporate decision making. His book with
Mark Wolfson (Stanford University) "Taxes and Business Strategy: A Planning
Approach" was published by Prentice Hall in 1991.

William F. Sharpe Trustee

William F. Sharpe is the STANCO 25 Professor of Finance at Stanford University's
Graduate School of Business. He is best known as one of the developers of the
Capital Asset Pricing Model, including the beta and alpha concepts used in risk
analysis and performance measurement. He developed the widely used binomial
method for the valuation of options and other contingent claims. He also
developed the computer algorithm used in many asset allocation procedures, a
procedure for estimating the style of an investment manager from its historic
returns, and the Sharpe ratio for measuring investment performance. Dr. Sharpe
has published articles in a number of professional journals. He has also written
six books, including "Portfolio Theory and Capital Markets," (McGraw-Hill,
1970), "Asset Allocation Tools," (Scientific Press, 1987), "Fundamentals of
Investments" (with Gordon J. Alexander and Jeffery Bailey, Prentice-Hall, 1993)
and "Investments" (with Gordon J. Alexander and Jeffrey Bailey, Prentice-Hall,
1990). Dr. Sharpe is a past President of the American Finance Association. He
also served as consultant to a number of corporations and investment
organizations. He is Trustee of the Barr Rosenberg mutual funds, a director of
Stanford Management Company and the Chairman of the Board of Financial Engines,
a company providing electronic portfolio advice. He received the Nobel Prize in
Economic Sciences in 1990. 23
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Daniel C. Dektar Vice President, Smith Breeden Series Fund
Portfolio Manager, Short and Intermediate Funds

Daniel C. Dektar is a Principal, Executive Vice President, Director of
Portfolio Management, and Director of Smith Breeden Associates. Mr. Dektar has
been primarily responsible for the day-to-day management of the Short and
Intermediate Funds since their commencement of operations in 1992. In December
1997, Timothy D. Rowe joined Mr. Dektar as Co-portfolio Manager of the
Intermediate Fund, and shares responsibility for the day-to-day management of
that Fund. As head of Smith Breeden Associates' portfolio management group, Mr.
Dektar is constantly in touch with developments on Wall Street. He serves as a
liaison among the portfolio management, client service, and research groups to
ensure accurate analysis and timely execution of portfolio management
opportunities. Mr. Dektar consults with institutional clients in the areas of
investments and risk management. He made several presentations on mortgage
investments and risk management at seminars for institutional investors. Mr.
Dektar was an Associate in the Mergers and Acquisitions Group of Montgomery
Securities in San Francisco, California and a Financial Analyst in the
Investment Banking Division of Morgan Stanley & Co., Incorporated, New York
before joining Smith Breeden Associates. He holds a Master of Business
Administration with Concentration in Finance from Stanford University Graduate
School of Business, where he was an Arjay Miller Scholar. Mr. Dektar received a
Bachelor of Science in Business Administration, summa cum laude, from the
University of California at Berkeley, where he was University of California
Regent's Scholar, was elected to Phi Beta Kappa and Phi Eta Sigma, and won the
White Award as the top student in finance.

Timothy D. Rowe Vice President, Smith Breeden Series Fund
Portfolio Manager, Intermediate Fund

Timothy D. Rowe is a Principal, Director, and Vice President of Smith Breeden
Associates. Mr. Rowe, in conjunction with Daniel C. Dektar, is responsible for
the day-to-day management of the Intermediate Fund. Mr. Rowe is a senior
portfolio manager working primarily with discretionary separate account
clients. He implements investment strategies designed to generate portfolio
returns superior to the broad investment grade and mortgage market indices. Mr.
Rowe joined Smith Breeden in 1988. His prior experience includes three years as
Assistant Economist at the Federal Reserve Bank of Richmond, Virginia. While at
the Bank, he co-edited the sixth edition of Instruments of the Money Market,
and produced research papers for publication in the Bank's Economic Review
magazine. He holds a Master of Business Administration with specialization in
Finance from the University of Chicago Graduate School of Business, and a
Bachelor of Arts in Economics and History from Duke University. He graduated
from Duke magna cum laude, earned Class Honors and was a National Merit
Scholar.

John B. Sprow Vice President, Smith Breeden Trust
Portfolio Manager, U.S. Equity Market Plus
Fund

John B. Sprow is a Principal, Director and Executive Vice President of Smith
Breeden Associates. Mr. Sprow has been primarily responsible for the day-to-day
management of the U.S. Equity Market Plus Fund from the commencement of its
operations in 1992. Mr. Sprow is a senior portfolio manager who works primarily
with discretionary pension accounts. In addition to traditional mortgage
accounts, he also manages S&P 500 indexed accounts. Prior to directly managing
discretionary accounts, Mr. Sprow assisted in the development of the Adviser's
models for pricing and hedging mortgage-related securities, risky commercial
debt, and forecasting mortgage prepayment behavior. Mr. Sprow came to Smith
Breeden Associates from the Fuqua School of Business, Duke University, where he
was Research Assistant. Previously, Mr. Sprow was a Research Assistant to the
Department Head of the Materials Science Department, Cornell University. He
received a Master of Business Administration with Emphasis in Finance from the
Fuqua School of Business, Duke University. Mr. Sprow holds a Bachelor of
Science in Materials Science and Engineering from Cornell University, where he
was awarded the Carpenter Technology Scholarship three successive years.

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Robert B. Perry Vice President, Smith Breeden Trust
Portfolio Manager, Financial Services Fund

Robert B. Perry is a Principal at Smith Breeden Associates, providing hedging
and investment advice to Smith Breeden's financial services clients. He is also
responsible for calculating marked-to-market values and projected income of
institutions, and assesses the effects of interest rate and economic changes.
In conjunction with Douglas T. Breeden and Michael J. Giarla, Mr. Perry is
responsible for the day-to-day operations of the Financial Services Fund. Prior
to joining Smith Breeden, Mr. Perry served as an interest rate risk analyst for
Centura Bank, and secretary to the Asset/Liability Management Committee. He has
also served as a Director for Community First Financial Group, a multi-bank
holding company located in Indianapolis, Indiana. Mr. Perry earned his Bachelor
of Arts in Business Administration from North Carolina State University.

David A. Tiberii Vice President, Smith Breeden Trust
Portfolio Manager, High Yield Bond Fund

David A. Tiberii is an Associate at Smith Breeden Associates. In conjunction
with Douglas T. Breeden, Mr. Tiberii is responsible for the day-to-day
operations of the High Yield Bond Fund. Before joining Smith Breeden
Associates, he was an engineering consultant specializing in operational and
maintenance issues at nuclear power plants and a submarine officer in the US
Navy. He received his Masters of Business Administration with a concentration
in Finance from the Fuqua School of Business, Duke University, where he was a
Fuqua Scholar. Mr. Tiberii holds a Bachelor of Arts degree in Physics from Holy
Cross College and a Chief Nuclear Engineer certification from the US Navy.

William F. Quinn Vice President, Smith Breeden Trust
Portfolio Manager, Asian/Pacific Equity Market and
European Equity Market Funds

William F. Quinn is an Executive Vice President and a Director of Smith Breeden
Associates. He is a Senior Portfolio Manager, a member of Smith Breeden's
Portfolio Management Group (PMG), and the portfolio manager for several
discretionary accounts. Mr. Quinn is also involved in the formulation and
implementation of investment and risk management policies and procedures as
well as clients' strategic plans and business plans. He has completed a number
of special projects for both institutional clients and government regulators
regarding complex mortgage securities. Mr. Quinn is primarily responsible for
the day-to-day operations of the Asian/Pacific Equity Market and European
Equity Market Funds. Mr. Quinn joined Smith Breeden after completing his
Masters of Science in Management with Concentrations in Finance, MIS and System
Dynamics from the Sloan School of Management, Massachusetts Institute of
Technology. He earned a Bachelor of Science in Management Science from the
Massachusetts Institute of Technology.

Marianthe S. Mewkill Vice President, Secretary, Treasurer, and
Chief Accounting Officer

Marianthe S. Mewkill is a Principal, Vice President and Chief Financial Officer
of Smith Breeden Associates. Ms. Mewkill handles financial reporting,
budgeting, tax research and planning for the Smith Breeden Mutual Funds and for
Smith Breeden Associates, Inc. She ensures compliance with agency regulations
and administers the Adviser's internal trading and other policies. She was
previously employed as a Controller for the Hunt Alternatives Fund, as an
Associate at Goldman Sachs & Co., and as a Senior Auditor at Arthur Andersen &
Co. She earned a Master of Business Administration with Concentrations in
Finance and Accounting from New York University and graduated from Wellesley
College, magna cum laude with a Bachelor of Arts degree in History and French
and a Minor in Economics.

St. John M. Kelliher Assistant Treasurer

St. John M. Kelliher assists in financial administration and portfolio analysis
for Smith Breeden Associates and Smith Breeden Mutual Funds. He holds a
Bachelor of Arts degree from Trinity College, Dublin, Ireland, and a Master of
Arts degree in Philosophy from the University of Illinois at Chicago. He passed
the Uniform C.P.A. examination in 1993, and is a candidate for the Chartered
Financial Analyst (C.F.A.) designation.

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Investment Adviser

Smith Breeden Associates, Inc., a registered investment adviser, acts as
investment adviser to the Funds. Approximately 62% of the Adviser's voting
stock on a fully diluted basis is owned by Douglas T. Breeden, its Chairman.
Under its Investment Advisory Agreement with each Fund, the Adviser, subject to
the general supervision of the Board of Trustees, manages the Funds' portfolios
and provides for the administration of all of the Funds' other affairs. For
these services, the Adviser receives a fee, computed daily and payable monthly,
at the annual rate of 0.70% of each of the Short, Intermediate, High Yield
Bond, U.S. Equity Market Plus, Asian/Pacific Equity Market, and European Equity
Market Funds' average daily net assets. The Adviser receives a fee at the rate
of 1.50% for its management of the Financial Services Fund. Until August 1,
1999, the Adviser has voluntarily agreed to reduce its compensation, and to the
extent necessary absorb other expenses of the Funds, such that the total
expenses (exclusive of ordinary brokerage commissions and other investment
related expenses, investment transaction taxes and extraordinary expenses) do
not exceed 0.78% of the average net assets of the Short Fund, 0.88% of the
average net assets for each of the Intermediate Fund and U.S. Equity Market
Plus Fund, 0.98% of the net assets for each of the High Yield Bond Fund,
Asian/Pacific Equity Market Fund, and European Equity Market Fund, and 1.48% of
the average net assets for the Financial Services Fund.

The Adviser places all orders for purchases and sales of the Funds' securities.
Subject to seeking the most favorable price and execution available, the
Adviser may consider sales of shares of the Funds as a factor in the selection
of broker-dealers.

Distribution

FPS Broker Services, Inc. (the "Principal Underwriter") acts as distributor for
the Funds. Effective on or about January 1, 1999, First Data Broker Services,
Inc. (also, the "Principal Underwriter") is expected to become the distributor
for the Funds. Shares may also be sold by authorized dealers who have entered
into dealer agreements with the Principal Underwriter or the Adviser.

Expenses

Subject to any expense waivers or reimbursements, the Funds pay all of their
own expenses, including, without limitation, the cost of preparing and printing
their registration statements required under the Securities Act of 1933 and the
1940 Act and any amendments thereto, the expense of registering their shares
with the Securities and Exchange Commission and the various states, the
printing and distribution costs of prospectuses mailed to existing investors,
reports to investors, reports to government authorities and proxy statements,
fees paid to directors who are not interested persons of the Adviser, interest
charges, taxes, legal expenses, association membership dues, auditing services,
insurance premiums, brokerage commissions and expenses in connection with
portfolio transactions, fees and expenses of the custodian of their assets,
printing and mailing expenses and charges and expenses of dividend disbursing
agents, accounting services agents, registrars and stock transfer agents.

PRICING OF FUND SHARES

The price you pay when buying a Fund's shares, and the price you receive when
selling (redeeming) a Fund's shares, is the net asset value of the shares next
determined after receipt of a purchase or redemption request in proper form. No
front-end sales charge or commission of any kind is added by the Fund upon a
purchase, and no charge is deducted upon redemption. These charges may apply if
you purchase or sell shares through certain broker-dealers. The Funds currently
charge a $9 fee for each redemption made by wire, and a fee of $8 may be
charged when an account is closed. See "How to Redeem Shares."

The per share net asset value of a Fund is determined by dividing the total
value of its assets, less its liabilities, by the total number of its shares
outstanding at that time. The net asset value is determined as of the close of
regular trading (usually at 4:00 p.m. Eastern time) each day that the Adviser
and Transfer Agent are open for business and on which there is a sufficient
degree of trading in a Fund's securities such that the net asset value of a
Fund's shares might be affected. Accordingly, Purchase Applications accepted or
redemption requests received in proper form by the Transfer Agent, or other
agent designated by the Funds, prior

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to the close of regular trading each day that the Adviser and Transfer Agent
are open for business, will be confirmed at that day's net asset value.
Purchase Applications accepted or redemption requests received in proper form
after the close of regular trading by the Transfer Agent, or other agent
designated by the Funds, will be confirmed at the net asset value of the
following business day.

Foreign securities, futures and options are valued at the last quoted sales
price, according to the broadest and most representative market, available at
the time a Fund is valued. If events which materially affect the value of an
investment occur after the close of the securities and futures markets on which
such securities are primarily traded, those investments may be valued by such
methods as the Board of Trustees deems in good faith to reflect fair value.

Current holiday schedules indicate that the Funds' net asset values will not be
calculated on New Year's Day, Martin Luther King Day, President's Day, Good
Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day, the day
following Thanksgiving, Christmas Eve and Christmas Day. The Short,
Intermediate and High Yield Bond Funds will also not be priced on Columbus Day
and Veterans' Day.

Under procedures approved by the Board of Trustees, a Fund's securities for
which market quotations are readily available are valued at current market
value provided by a pricing service, bank or broker-dealer experienced in such
matters. Short-term investments that will mature in 60 days or less are
generally valued at amortized cost, which approximates market value. All other
securities and assets are valued at fair market value as determined by
following procedures approved by the Board of Trustees.

HOW TO PURCHASE SHARES

All of the Funds are no-load, so you may purchase, redeem or exchange shares
directly at net asset value without paying a sales charge. Because the Funds'
net asset value changes daily, your purchase price will be the next net asset
value determined after the Funds' Transfer Agent, or other agent designated by
the Funds, receives and accepts your purchase order. See "Pricing of Fund
Shares."

<TABLE>
<CAPTION>
Initial Minimum Additional Minimum
Type of Account Investment Investment
<S> <C> <C>
Regular $1,000 $50
Automatic Investment Plan None $50
Individual Retirement Account $ 250 $50
Gift to Minors $ 250 $50
</TABLE>

The Funds reserve the right to deduct an annual maintenance fee of $16 from
accounts with a value of less than $2,000. It is expected that accounts will be
valued on the second Friday in September of each year. The fee, which is
payable to the transfer agent, is designed to offset in part the relatively
higher costs of servicing smaller accounts.

Each Fund reserves the right to reject any orders for the purchase of its
shares or to limit or suspend, without prior notice, the offering of its
shares. The required minimum investments may be waived in the case of qualified
retirement plans.

How to Open Your Account by Mail. Please complete the Purchase Application. You
can obtain additional copies of the Purchase Application and a copy of the IRA
Purchase Application from the Funds by calling 1-800-221-3138.

Your completed Purchase Application should be mailed directly to:

Smith Breeden Mutual Funds
3200 Horizon Drive
P.O. Box 61503
King of Prussia, PA 19406-0903

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All applications must be accompanied by payment in the form of a check or money
order made payable to "Smith Breeden Mutual Funds." All purchases must be made
in U.S. dollars, and checks must be drawn on U.S. banks. No cash, credit cards
or third party checks will be accepted. When a purchase is made by check and a
redemption is made shortly thereafter, the Funds will delay the mailing of a
redemption check until the purchase check has cleared your bank, which may take
up to 15 calendar days from the purchase date. If you contemplate needing
access to your investment shortly after purchase, you should purchase the
shares by wire as discussed below.

How to Open Your Account by Wire. You may make purchases by direct wire
transfers. To ensure proper credit to your account, please call the Funds at
1-800-221-3137 for instructions prior to wiring funds. Funds should be wired
through the Federal Reserve System as follows:

United Missouri Bank
A.B.A. Number 10-10-00695
For the account of First Data Investor Services Group, Inc.
Account Number 98-7037-071-9
For credit to (identify which Fund to purchase)
For further credit to: (investor account number)
(name or account registration)
(Social Security or Tax Identification Number)

Following such wire transfer, you must promptly complete a Purchase Application
and mail it to the Funds at the following address: Smith Breeden Mutual Funds,
3200 Horizon Drive, P.O. Box 61503, King of Prussia, PA 19406-0903. Shares will
be redeemed with Federal tax withheld if the Funds do not receive a properly
completed and executed Purchase Application.

Telephone Transactions. The privilege to initiate redemption or exchange
transactions by telephone is made automatically available to shareholders when
opening an account, unless they indicate otherwise by checking the appropriate
boxes on the Purchase Application. Each Fund will employ reasonable procedures
to ensure that instructions communicated by telephone are genuine. If
reasonable procedures are not implemented, the Funds may be liable for any loss
due to unauthorized or fraudulent transactions. In all other cases, you are
liable for any loss due to unauthorized transactions. The Funds reserve the
right to refuse a telephone transaction if they believe it is advisable to do
so.

If you have any questions, please call the Funds at 1-800-221-3138.

How to Add to Your Account. You may make additional investments by mail or by
wire in an amount equal to or greater than $50. When adding to an account by
mail, you should send the Funds your check, together with the additional
investment form from a recent statement. If this form is unavailable, you
should send a signed note giving the full name of the account and the account
number. For additional investments made by wire transfer, you should use the
wiring instructions listed above. Be sure to include your account number.

Automatic Investment Plan. You may make purchases of shares of each Fund
automatically on a regular basis ($50 minimum per transaction). You have two
options under the Plan to make investments. One is by automatic payroll
deduction. Under this method, you authorize your employer to direct a portion
of each paycheck to be invested in the Fund of your choice. Your employer must
be using direct deposit to process its payroll in order for you to elect this
method. Under the other method, your bank debits a pre-authorized amount from
your checking or savings account each month and applies the amount to your
investment in Fund shares. In order to have your bank account debited
automatically for investment into the Funds, your financial institution must be
a member of the Automated Clearing House. No service fee is currently charged
by the Funds for participation in either method under the Plan. A $20 fee will
be imposed by the Funds if sufficient funds are not available in your bank
account, or if your bank account has been closed at the time of the automatic
transaction. You may adopt either method under the Plan at the time an account
is opened by completing the appropriate section of the Purchase Application.
Enclosed with the application are the necessary forms to deliver to your
employer to set up the payroll deduction. You may obtain an application

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to establish the Automatic Investment Plan after an account is opened by
calling the Funds at 1-800-221-3138. In the event you discontinue participation
in the Plan, the Funds reserve the right to redeem your Fund account
involuntarily, upon sixty days' written notice, if the account's net asset
value is $1,000 or less.

Purchasing Shares Through Other Institutions. The Funds have authorized dealers
besides the Principal Underwriter to accept on its behalf purchase and
redemption orders. If you purchase shares through a program of services offered
or administered by one of these broker-dealers, financial institutions, or
other service provider, you should read the program materials, including
information relating to fees, in addition to this Prospectus. Certain services
of a Fund may not be available or may be modified in connection with the
program of services provided, and service providers may establish higher
minimum investment amounts. The Funds may only accept requests to purchase
additional shares into a broker-dealer street name account from the broker-
dealer.

Certain broker-dealers, financial institutions, or other service providers that
have entered into an agreement with the Adviser or Principal Underwriter may
enter purchase and redemption orders on behalf of their customers by phone,
with payment to follow within several days as specified in the agreement. These
broker-dealers and service providers may designate other intermediaries to
accept purchase and redemption orders on the Funds' behalf. The Funds will be
deemed to have effected such purchase or redemption orders at the net asset
value next determined after acceptance of the telephone purchase order by the
authorized broker or the authorized broker's designee. It is the responsibility
of the broker-dealer, financial institution, or other service provider to place
the order with the Funds on a timely basis. If payment is not received within
the time specified in the agreement, the broker-dealer, financial institution,
or other service provider could be held liable for any resulting fees or
losses.

Miscellaneous. The Funds will charge a $20 service fee against your account for
any check or electronic funds transfer that is returned unpaid. You will also
be responsible for any losses suffered by the Funds as a result. In order to
relieve you of responsibility for the safekeeping and delivery of stock
certificates, the Funds do not currently issue certificates.

HOW TO EXCHANGE SHARES

Shares of any Fund may be exchanged for shares of another Fund at any time.
This exchange offer is available only in states where shares of such other Fund
may be legally sold. You may open a new account, or purchase additional shares
in an existing account, by making an exchange from an identically registered
Smith Breeden Fund account. A new account will have the same registration as
the existing account from which the exchange was made, and is subject to the
same initial investment minimums.

Exchanges may be made either in writing or by telephone. Written instructions
should be mailed to 3200 Horizon Drive, P.O. Box 61503, King of Prussia, PA
19406 and must be signed by all account owners, and accompanied by any properly
endorsed outstanding share certificates, if applicable. The telephone exchange
is automatically accepted unless checked otherwise. The telephone exchange
privilege is available only for uncertificated shares. During periods of
drastic economic or market changes, it is possible that exchanges by telephone
may be difficult to implement. In this event, shareholders should follow the
written exchange procedures. The telephone exchange privilege may be modified
or discontinued by the Funds at any time upon a 60-day notice to the
shareholders. To exchange by telephone, you must follow the instructions below
under "How to Redeem by Telephone."

The Funds will accept exchange orders by telephone or other means of electronic
transmission from broker- dealers, financial institutions or other service
providers who execute an agreement with the Adviser or Principal Underwriter.
It is the responsibility of the broker-dealer, financial institution or other
service provider to place the exchange order on a timely basis.

Exchanges are made on the basis of the Funds' relative net asset values.
Because the exchange is considered a redemption and purchase of shares, the
shareholder may recognize a gain or loss for federal income tax purposes.
Backup withholding and information reporting may also apply. Additional
information regarding

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the possible tax consequences of such an exchange is included under the caption
"Taxes" in the Funds' Statements of Additional Information.

There are differences among the Funds. When exchanging shares, shareholders
should be aware that the Funds might have different dividend payment dates. The
dividend payment schedules should be checked before exchanging shares. The
amount of any accumulated, but unpaid, dividend is included in the net asset
value per share.

If you buy shares by check, you may not exchange those shares for up to 15
calendar days to ensure your check has cleared. If you intend to exchange
shares soon after their purchase, you should purchase the shares by wire or
contact the Funds at 1-800-221-3137 for further information.

The Funds reserve the right to temporarily or permanently terminate, with or
without advance notice, the exchange privilege of any investor who makes
excessive use of the exchange privilege (e.g., more than four exchanges per
calendar year).

Additional documentation may be required for exchange requests if shares are
registered in the name of a corporation, partnership or fiduciary. Please
contact the Funds for additional information concerning the exchange privilege.

HOW TO REDEEM SHARES

You may redeem shares of the Funds at any time. The price at which the shares
will be redeemed is the net asset value per share next determined after proper
redemption instructions are received by the Transfer Agent or other agent
designated by the Funds. See "Pricing of Fund Shares." There are no charges for
the redemption of shares, except that a fee of $9 is charged for each wire
redemption, and a fee of $8 may be charged when an account is closed. Depending
upon the redemption price you receive, you may realize a capital gain or loss
for federal income tax purposes.

How to Redeem by Mail to Receive Proceeds by Check. To redeem shares by mail,
simply send an unconditional written request to the Funds specifying the number
of shares or dollar amount to be redeemed, the name of the Fund, the name(s) on
the account registration and the account number. A request for redemption must
be signed exactly as the shares are registered. If the amount requested is
greater than $25,000, or the proceeds are to be sent to a person other than the
recordholder or to a location other than the address of record, each signature
must be guaranteed by a commercial bank or trust company in the United States,
a member firm of the National Association of Securities Dealers, Inc. or other
eligible guarantor institution. A notary public is not an acceptable guarantor.
Guarantees must be signed by an authorized signatory of the bank, trust
company, or member firm, and "Signature Guaranteed" must appear with the
signature. Additional documentation may be required for the redemption of
shares held in corporate, partnership or fiduciary accounts. In case of any
questions, please contact the Funds in advance.

A Fund will mail payment for redemption within seven days after receiving
proper instructions for redemption. However, the Funds will delay payment for
15 calendar days on redemptions of recent purchases made by check. This allows
the Funds to verify that the check used to purchase Fund shares will not be
returned due to insufficient funds and is intended to protect the remaining
investors from loss.

How to Redeem by Telephone. The redemption of shares by telephone is available
automatically unless you elected to refuse this redemption privilege on your
Purchase Application. Shares may be redeemed by calling the Funds at
1-800-221-3137. Proceeds redeemed by telephone will be mailed to your address,
or wired or credited to your pre-authorized bank account. To establish wire
redemption privileges, you must select the appropriate box on the Purchase
Application and enclose a voided check.

In order to arrange for telephone redemptions after your account has been
opened, or to change the bank account or address designated to receive
redemption proceeds, you must send a written request to your Fund. The request
must be signed by each registered holder of the account with the signatures
guaranteed by a commercial bank or trust company in the United States, a member
firm of the National Association of

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Securities Dealers, Inc. or other eligible guarantor institution. A notary
public is not an acceptable guarantor. Further documentation as provided above
may be requested from corporations, executors, administrators, trustees and
guardians.

Payment of the redemption proceeds for Fund shares redeemed by telephone where
you request wire payment will normally be made in federal funds on the next
business day. The Funds reserve the right to delay payment for a period of up
to seven days after receipt of the redemption request. There is currently a $9
fee for each wire redemption, which will be deducted from your account.

The Funds reserve the right to charge an $8 fee when an account is closed.

The Funds reserve the right to refuse a telephone redemption or exchange
transaction if they believe it is advisable to do so. Procedures for redeeming
or exchanging shares of the Funds by telephone may be modified or terminated by
the Funds at any time. In an effort to prevent unauthorized or fraudulent
redemption or exchange requests by telephone, the Funds have implemented
procedures designed to reasonably assure that telephone instructions are
genuine. These procedures include: requesting verification of certain personal
information; recording telephone transactions; confirming transactions in
writing; and restricting transmittal of redemption proceeds only to
pre-authorized designations. Other procedures may be implemented from time to
time. If reasonable procedures are not implemented, the Funds may be liable for
any loss due to unauthorized or fraudulent transactions. In all other cases,
you are liable for any loss for unauthorized transactions.

You should be aware that during periods of substantial economic or market
change, telephone or wire redemptions may be difficult to implement. If you are
unable to contact the Funds by telephone, you may also redeem shares by
delivering or mailing the redemption request to: Smith Breeden Mutual Funds,
3200 Horizon Drive, P.O. Box 61503, King of Prussia, PA 19406-0903.

The Funds reserve the right to suspend or postpone redemptions during any
period when trading on the New York Stock Exchange ("Exchange") is restricted
as determined by the Securities and Exchange Commission ("SEC"), or the
Exchange is closed for other than customary weekend and holiday closing; the
SEC has by order permitted such suspension; or an emergency, as determined by
the SEC, exists, making disposal of portfolio securities or valuation of net
assets of a Fund not reasonably practicable.

Due to the relatively high cost of maintaining small accounts, if your account
balance falls below $1000 as a result of a redemption or exchange, or if you
discontinue the Automatic Investment Plan before your account balance reaches
$1000, you may be given a 60-day notice to bring your balance to $1000 or
reactivate an Automatic Investment Plan. If this requirement is not met, your
account may be closed and the proceeds sent to you.

Check Writing. In addition to telephone and written redemption requests, the
Short Fund offers redemption through check writing. Shareholders electing this
option will receive checks that may be used like personal or business checks.
Checks are not ordered to be mailed to the shareholder until 15 days after the
account is opened, if the account is opened by check by the shareholder. This
allows the Fund to verify that the check used to open the account will not be
returned due to insufficient funds. There is no limit on the number of checks
you may write. Checks must be written for at least $100. There is a $30 fee for
returned checks. Because dividends declared on shares held in a shareholder's
account, prior redemptions, and possible changes in net asset value may cause
the value of the account to change, shareholders should not write a check for
the entire value of the account or close the account by writing a check.

In using the check writing privilege, shareholders bear the responsibility of
ensuring that the check amount does not exceed the value of their account on
the day the check is presented to the Transfer Agent for payment. The day the
check is presented for payment is the day the redemption of Fund shares takes
place. If insufficient shares are in the account, the check will be returned
and no shares will be redeemed. The clearing agent for the check writing
facility is United Missouri Bank. Shareholders utilizing check writing are
subject to United Missouri Bank's rules governing checking accounts. However,
this check writing facility is

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purely a means to redeem Fund shares. No facilities characteristic of bank
accounts, such as deposit insurance, are provided along with the check writing
option. Cancelled checks will not be returned to the shareholder. If you need
to request a copy of a cancelled check, please contact Shareholder Services for
procedures and applicable fees.

If you would like to initiate check writing, please call Shareholder Services
at 1-800-221-3137 or check the appropriate box on the Purchase Application.

Systematic Withdrawal Plan. A shareholder may establish a Systematic Withdrawal
Plan to receive regular periodic payments from the account. An initial balance
of $10,000 is required to establish a Systematic Withdrawal Plan. There are no
service charges for establishing or maintaining a Systematic Withdrawal Plan.
The minimum amount which the shareholder may withdraw periodically is $100.
Capital gain distributions and income dividends to the shareholder's account
are received in additional shares at net asset value. Payments are then made
from the liquidation of shares at net asset value to meet the specified
withdrawals. Liquidation of shares may reduce or possibly exhaust the shares in
the shareholder's account, to the extent withdrawals exceed shares earned
through dividends and distributions, particularly in the event of a market
decline. No payment pursuant to a Systematic Withdrawal Plan will be made if
there are insufficient shares on deposit on the date of the scheduled
distribution. A subsequent deposit of shares will not result in a payment under
the plan retroactive to the distribution date. As with other redemptions, a
liquidation to make a withdrawal payment is a sale for federal income tax
purposes. The entire Systematic Withdrawal Plan payment cannot be considered as
actual yield or income since part of the Plan's payment may be a return of
capital.

A Systematic Withdrawal Plan may be terminated upon written notice by the
shareholder, or by a Fund on a 30 day written notice, and it will terminate
automatically if all shares are liquidated or withdrawn from the account or
upon the Fund's receipt of notification of the death or incapacity of the
shareholder. Shareholders may change the amount (but not below the specified
minimums) and schedule of withdrawal payments, or suspend such payments, by
giving written notice to the Transfer Agent at least five business days prior
to the next scheduled payment.

DIVIDENDS AND DISTRIBUTIONS

The Short, Intermediate and High Yield Bond Funds intend to pay monthly
distributions to their shareholders of net investment income. The U.S. Equity
Market Plus, Asian/Pacific Equity Market, and European Equity Market Funds each
intend to make quarterly distributions of net investment income. All Funds will
distribute net realized gains at least annually. The Financial Services Fund
will most likely make only this annual distribution of net realized gains, and
at this time, will also distribute any net investment income. Each Fund may
make additional distributions if necessary to avoid imposition of a 4% excise
tax or other tax on undistributed income and gains.

The monthly distributions for the Short Fund's shares are quoted ex-dividend on
the business day after record date (the "ex-date"). Record date is usually the
first or second business day of the month. If a shareholder elects to reinvest
dividends, the date the dividends are reinvested is also the ex-date. Dividends
are paid in cash by the Short Fund generally one week after the ex-date.

The Intermediate and High Yield Bond Funds will declare daily dividends for
shareholders of record. The Intermediate and High Yield Bond Funds' dividend
payable date, and the day that dividends are reinvested for shareholders who
have made this election, is the last business day of the month. Shares begin
accruing dividends on the business day after federal funds (funds credited to a
member bank's account at the Federal Reserve Bank) are available from the
purchase payment for such shares, and continue to accrue dividends through and
including the day the redemption order for the shares is executed. If an
investor closes his account, any accrued dividends through and including the
day of redemption will be paid as part of the redemption proceeds.

Dividends and capital gains distributions may be declared more or less
frequently at the direction of the Trustees. In order to be entitled to a
dividend or a distribution, an investor must acquire a Fund's shares on

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or before the record date. Caution should be exercised, however, before
purchasing shares immediately prior to a distribution record date. Since the
value of a Fund's shares is based directly on the amount of its net assets,
rather than on the principle of supply and demand, any distribution of income
or capital gain will result in a decrease in the value of its shares equal to
the amount of the distribution. While a dividend or capital gain distribution
received shortly after purchasing shares represents, in effect, a return of the
shareholder's investment, it may be taxable as dividend income or capital gain.
You may separately elect to reinvest income dividends and capital gains
distributions in shares of a Fund or receive cash as designated on the Purchase
Application. You may change your election at any time by sending written
notification to your Fund. The election is effective for distributions with a
dividend record date on or after the date that the Funds receive notice of the
election. If you do not specify an election, all income dividends and capital
gains distributions will automatically be reinvested in full and fractional
shares of the Fund from which they were paid. Shareholders may also elect to
have dividends automatically reinvested in a fund different than the one from
which the dividends were paid. A shareholder may write the transfer agent, or
complete the appropriate section of the Purchase Application, to designate such
an election, but must have already established an account in the other fund.
The transfer agent's address is on the back of the Prospectus. Reinvested
dividends and distributions receive the same tax treatment as those paid in
cash.

SHAREHOLDER REPORTS AND INFORMATION

The Funds will provide the following statements and reports:

Confirmation and Account Statements. Quarterly statements will be sent to each
shareholder. Additional statements will only be sent if there is a direct
purchase or sale or if there is a cash dividend payment. Direct purchases and
sales do not include automatic investment plan purchases or systematic
withdrawal plan redemptions.

Form 1099. By January 31 of each year, all shareholders will receive Form 1099,
which will report the amount and tax status of distributions paid to you by the
Funds for the preceding calendar year.

Financial Reports. Financial reports are provided to shareholders semiannually.
Annual reports will include audited financial statements. To reduce the Funds'
expenses, one copy of each report will be mailed to each Taxpayer
Identification Number even though the investor may have more than one account
in a Fund.

Reports to Depository Institutions. Shareholders of the Short or Intermediate
Funds who are financial institutions may request receipt of monthly or
quarterly reports which provide information about the Short or Intermediate
Fund's investments considering regulatory risk-based asset categories.

If you need additional copies of previous statements, you may order statements
for the current and preceding year at no charge. Call 1-800-221-3137 to order
past statements. If you need information on your account with the Funds or if
you wish to submit any applications, redemption requests, inquiries or
notifications, please contact: Smith Breeden Mutual Funds, 3200 Horizon Drive,
P.O. Box 61503, King of Prussia, PA 19406-0903 or call 1-800-221-3137.

RETIREMENT PLANS

The Funds have a program under which you may establish an Individual Retirement
Account ("IRA") with the Funds and purchase shares through such account.
Shareholders wishing to establish an IRA should consult their tax adviser
regarding (1) their individual qualifying status and (2) the tax regulations
governing these accounts. The minimum initial investment in each Fund for an
IRA is $250. There is a $12 annual maintenance fee charged to process an
account. This fee is waived for accounts greater than $10,000. You may obtain
additional information regarding establishing such an account by calling the
Funds at 1-800-221-3138.

The Funds may be used as investment vehicles for established defined
contribution plans, including simplified employee, 401(k), 403(b),
profit-sharing, money purchase, and simple pension plans ("Retirement Plans").
For details concerning Retirement Plans, please call 1-800-221-3138.

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SERVICE AND DISTRIBUTION PLANS

Each Fund has adopted a Distribution and Services Plan (the "Plans"). The
purpose of the Plans is to permit the Adviser to compensate investment dealers
and other persons involved in servicing shareholder accounts for services
provided and expenses incurred in promoting the sale of shares of the Funds,
reducing redemptions, or otherwise maintaining or improving services provided
to shareholders by such dealers or other persons. The Plans provide for
payments by the Adviser out of its advisory fee to dealers and other persons at
an annual rate of up to 0.25% of a Fund's average net assets, subject to the
authority of the Trustees to reduce the amount of payments permitted under the
Plan or to suspend the Plan for such periods as they may determine. Subject to
these limitations, the Adviser shall determine the amount of such payments and
the purposes for which they are made.

Any distribution and service related payments made by the Adviser to investment
dealers or other persons are subject to the continuation of the Plans, the
terms of any related service agreements, and any applicable limits imposed by
the National Association of Securities Dealers, Inc.

TAXES

Each Fund intends to qualify as a regulated investment company under the
Internal Revenue Code. In each taxable year that a Fund so qualifies, such Fund
(but not its shareholders) will be relieved of federal income tax on the part
of its net investment income and net capital gain that is distributed to
shareholders. Each Fund will distribute at least annually substantially all of
the sum of its taxable net investment income, its net tax-exempt income and the
excess, if any, of net short-term capital gains over the net long-term capital
losses for such year.

All Fund distributions from net investment income (whether paid in cash or
reinvested in additional shares) will be taxable to its shareholders as
ordinary income, except that any distributions of a Fund's net long-term
capital gain will be taxable to its shareholders as long-term capital gain
(generally taxed at a 20% rate in the hands of non-corporate shareholders),
regardless of how long they have held their Fund shares. Some 1998
distributions of gains realized in 1997 may be subject to tax in the hands of
non-corporate shareholders at a 28% tax rate. Each fund provides federal tax
information to its shareholders annually about distributions paid during the
preceding year.

The use of certain synthetic instruments (including certain futures contracts,
foreign currency contracts and options) by the U.S. Equity Market Plus,
Asian/Pacific Equity Market, and European Equity Market Funds as a means of
achieving equity exposure in each Fund's respective market will require such
Funds to mark such instruments to the market annually, a practice which will
accelerate the Funds' recognition of gain or loss. With respect to such
instruments, 60% of any gain or loss recognized will be treated as long-term
capital gain or loss and 40% will be treated as short-term capital gain or
loss.

It is not anticipated that any of the Funds' distributions will qualify for
either the corporate dividends-received deduction or tax-exempt interest
income. Distributions will also probably be subject to state and local taxes,
depending on each shareholder's tax situation. While many states grant tax-free
status to mutual fund distributions paid from interest income earned from
direct obligations of the U.S. Government, none of the Short or Intermediate
Fund's distributions are expected to qualify for such tax-free treatment, and
only an insignificant amount of the U.S. Equity Market Plus Fund's
distributions are expected to so qualify.

The Funds will be required to withhold federal income tax at a rate of 31%
("backup withholding") from distribution payments and redemption and exchange
proceeds if you fail to properly complete the Purchase Application, or in
certain other situations.

The foregoing is only a summary of some of the important federal tax
considerations generally affecting each Fund and its shareholders. See "Taxes"
in the relevant Statement of Additional Information for further discussion.
There may be other foreign, federal, state or local tax considerations
applicable to you as an investor. You therefore are urged to consult your tax
adviser regarding any tax-related issues.

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CAPITAL STRUCTURE

The Smith Breeden Trust and the Smith Breeden Series Fund are both
Massachusetts business trusts. The Trust was organized under an Agreement and
Declaration of Trust, dated December 18, 1991. The Series Fund was organized
under an Agreement and Declaration of Trust dated October 3, 1991. Copies of
both Agreements, which are governed by Massachusetts law, are on file with the
Secretary of State of The Commonwealth of Massachusetts. The Trust and the
Series Fund have the same Trustees.

The Trustees have the authority to issue shares in an unlimited number of funds
of either the Series Fund or Trust. Each such fund's shares may be further
divided into classes. The assets and liabilities of each such fund will be
separate and distinct. All shares when issued are fully paid, non-assessable
and redeemable, and have equal voting, dividend and liquidation rights.

Shareholders of the separate funds of each of the Series Fund or Trust, as the
case may be, will vote together in electing the relevant trustees and in
certain other matters. Shareholders should be aware that the outcome of the
election of trustees and of certain other matters for their trust could be
controlled by the shareholders of another fund. The shares have non-cumulative
voting rights, which means that holders of more than 50% of the shares voting
for the election of the trustees can elect 100% of the trustees if they choose
to do so.

Neither the Series Fund nor the Trust is required to hold annual meetings of
its shareholders. However, shareholders of the Series Fund have the right to
call a meeting to take certain actions as provided in the Declaration of Trust.
Upon written request by the holders of at least 1% of the outstanding shares
stating that such shareholders wish to communicate with the other shareholders
for the purpose of obtaining the signatures necessary to demand a meeting to
consider such actions, the Series Fund has undertaken to provide a list of
shareholders or to disseminate appropriate materials (at the expense of the
requesting shareholders).

Under Massachusetts law, shareholders of a business trust may, under certain
circumstances, be held personally liable as partners for its obligations.
However, the risk of a shareholder incurring financial loss on account of
shareholder liability is limited to circumstances in which both (i) any
liability was greater than a Fund's insurance coverage and (ii) a Fund itself
was unable to meet its obligations.

TRANSFER AND DIVIDEND DISBURSING AGENT, CUSTODIAN AND INDEPENDENT ACCOUNTANTS

First Data Investor Services Group, Inc. (the "Transfer Agent"), 3200 Horizon
Drive, P.O. Box 61503, King of Prussia, PA 19406, a wholly owned subsidiary of
First Data Corporation, which has its principal place of business at 4400
Computer Drive, Westboro, MA, 01581, acts as each Fund's Transfer and Dividend
Disbursing Agent. See "Management of the Funds." The Bank of New York acts as
the custodian of each Fund's assets. The Bank of New York's address is 48 Wall
Street, New York, New York 10286. Neither the Transfer and Dividend Disbursing
Agent nor the Custodian has any part in deciding the Funds' investment policies
or which securities are to be purchased or sold for the Funds' portfolios.
Deloitte & Touche LLP has been selected to serve as independent auditors of the
Company.

FUND PERFORMANCE

Each Fund may quote the Fund's average annual total and/or aggregate total
return for various time periods in advertisements or communications to
shareholders. An average annual total return refers to the rate of return
which, if applied to an initial investment at the beginning of a stated period
and compounded over that period, would result in the redeemable value of the
investment at the end of the period assuming reinvestment of all dividends and
distributions and reflecting the effect of all recurring fees. An investor's
principal in each Fund and the Fund's return are not guaranteed and will
fluctuate according to market conditions. When considering "average" total
return figures for periods longer than one year, you should note that a Fund's
annual total return for any one year in the period might have been greater or
less than the average for the entire period. Each Fund also may use "aggregate"
total return figures for various periods, representing the cumulative change in
value of an investment in the Fund for a specific period (again reflecting
changes in the Fund's share price and assuming reinvestment of dividends and
distributions).

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The Short, Intermediate, and High Yield Bond Funds may also advertise current
yield and distribution rate information. Current yield reflects the income per
share earned by a Fund's portfolio investments, and is calculated by dividing a
Fund's net investment income per share during a recent 30-day period by a
Fund's net asset value on the last day of that period and annualizing the
result. The current yield (or "SEC Yield"), which is calculated according to a
formula prescribed by the SEC (see the relevant Statement of Additional
Information), is not indicative of the dividends or distributions which were or
will be paid to a Fund's shareholders. SEC regulations require that net
investment income be calculated on a "yield-to-maturity" basis, which has the
effect of amortizing any premiums or discounts in the current market value of
fixed income securities. Dividends or distributions paid to shareholders are
reflected in the current distribution rate which may be quoted to shareholders,
and may not reflect amortization in the same manner.

A Fund may also compare its performance to that of other mutual funds and to
stock and other relevant indices, or to rankings prepared by independent
services or industry publications. For example, a Fund's total return may be
compared to data prepared by Lipper Analytical Services, Inc., Morningstar,
Inc., Value Line Mutual Fund Survey and CDA Investment Technologies, Inc. Total
return data as reported in such national financial publications as The Wall
Street Journal, The New York Times, Investor's Business Daily, USA Today,
Barron's, Money and Forbes, as well as in publications of a local or regional
nature, may be used in comparing Fund performance.

The Short Fund's total return may also be compared to that of taxable money
funds as quoted in Donaghue's Money Fund Report and other suppliers, and to
total returns for the six month U.S. Treasury as published by Merrill Lynch or
others. The Intermediate Fund's return may be compared to the total return of
the Salomon Brothers Mortgage Index, or the total return of intermediate U.S.
Treasury Notes as published by various brokerage firms and others. The High
Yield Bond Fund's return may be compared to the Merrill Lynch High Yield Master
Index or some other high yield bond index as published by a brokerage firm or
others. The High Yield Bond Fund's performance may also be compared to the
competitive funds average as published by Lipper Analytical Services, Inc.

The U.S. Equity Market Plus Fund's total return may also be compared to the
return of the Standard & Poor's 500 Composite Stock Price Index. For purposes
of showing the returns of large company stocks versus small company stocks, or
to compare returns versus inflation, the U.S. Equity Market Plus Fund's total
return may also be compared to the total return of the Nasdaq Composite OTC
Index, Nasdaq Industrials Index, Russell 2000 Index, or the Consumer Price
Index. The Asian/Pacific Equity Market Fund's total return may be compared to
the return of the Morgan Stanley Capital International (MSCI) - Pacific (Free)
Index, which consists of common stocks of companies located in Australia, Hong
Kong, Japan, Malaysia, New Zealand, and Singapore. The European Equity Market
Fund's total return may be compared to the return of the Morgan Stanley Capital
International (MSCI) - Europe Index, which is comprised of common stocks of
companies located in 15 European countries (Austria, Belgium, Denmark, Finland,
France, Germany, Ireland, Italy, the Netherlands, Norway, Portugal, Spain,
Sweden, Switzerland, and the United Kingdom). The Financial Services Fund's
return may be compared to the S&P 500 Index return, an investment of 80% in the
S&P Financial Composite Index and 20% in money market funds, the Keefe,
Bruyette & Woods Index, or the average of the mutual funds in the Morningstar
Specialty Financial Category. Further information on performance measurement
may be found in the relevant Statement of Additional Information.

Performance quotations of a Fund represent the Fund's past performance and
should not be considered representative of future results. The investment
return and principal value of an investment in a Fund will fluctuate so that an
investor's shares, when redeemed, may be worth more or less than their original
cost. The methods used to compute a Fund's total return and yield are described
in more detail in the relevant Statement of Additional Information.

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APPENDIX

Corporate Bond Ratings

Moody's Investors Service, Inc.'s Corporate Bond Ratings. Moody's rating for
obligations with an original remaining maturity in excess of one year fall into
nine categories. They range from Aaa (highest quality) to C (lowest quality).
Moody applies numerical modifiers of 1, 2, or 3 to each generic rating
classification from Aa through B. The modifier 1 indicates that the security
ranks in the higher end of its generic rating category; the modifier 2
indicates a mid-range ranking; and the modifier 3 indicates that the issue
ranks in the lower end of its generic rating category.

<TABLE>
<S> <C>
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 edged." Interest payments
are protected by a large or by an exceptionally stable margin and principal is secure.
While the various protective elements are likely to change, such changes as can be
visualized are most unlikely to impair the fundamentally strong position of such issues.

Aa Bonds which are rated Aa are judged to be of high quality by all standards. Together with
the Aaa group they comprise what are generally known as high grade bonds. They are
rated lower than the best bonds because margins of protection may not be as large as in
Aaa securities, or fluctuation of protective elements may be of greater amplitude,or
there may be other elements present which make the long-term risks appear somewhat
larger than in Aaa securities.

A Bonds which are rated A possess many favorable investment attributes and are to be
considered as upper medium grade obligations. Factors giving security to principal and
interest are considered adequate but elements may be present which suggest a
susceptibility to impairment sometime in the future.

Baa Bonds which are rated Baa are considered as medium grade obligations, i.e., they are
neither highly protected nor poorly secured. Interest payments and principal security
appear adequate for the present, but certain protective elements may be lacking or may
be characteristically unreliable over any great length of time. Such bonds lack
outstanding investment characteristics and in fact, have speculative characteristics as
well.

Ba Bonds which are rated Ba are judged to have speculative elements; their future cannot be
considered as well assured. Often the protection of interest and principal payments may
be very moderate and thereby not well safeguarded during both good and bad times over
the future. Uncertainty of position characterizes bonds in this class.

B Bonds which are rated B generally lack characteristics of the desirable investment.
Assurance of interest and principal payments or of maintenance of other terms of the
contract over any long period of time may be small.

Caa Bonds which are rated Caa are of poor standing. Such issues may be in default, or there
may be present elements of danger with respect to principal or interest.

Ca Bonds which are rated Ca represent obligations which are speculative in a high degree.
Such issues are often in default or have other marked shortcomings.

C Bonds that 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.

</TABLE>

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Standard & Poor's Corporation's Corporate Bond Ratings. Debt issues may be
designated by Standard & Poor's as either investment grade ("AAA" through
"BBB") or speculative grade ("BB" through "D"). While speculative grade will
likely have some quality and protective characteristics, these are outweighed
by large uncertainties or major exposures to adverse conditions. Ratings from
AA to CCC may be modified by the addition of a plus sign (+) or a minus sign
(-) to show relative standing within the major rating categories.

<TABLE>
<S> <C>
AAA Debt rated AAA has the highest rating assigned by Standard & Poor's to a debt obligation.
Capacity to pay interest and repay principal is extremely strong.

AA Debt rated AA has a very strong capacity to pay interest and repay principal, and differs
from AAA issues only in small degree.

A Debt rated A has a strong capacity to pay interest and repay principal, although it is
somewhat more susceptible to the adverse effects of changes in circumstances and
economic conditions than debt in higher-rated categories.

BBB Debt rated BBB is regarded as having an adequate capacity to pay interest and repay
principal. Whereas it normally exhibits adequate protection parameters, adverse
economic conditions or changing circumstances are more likely to lead to a weakened
capacity to pay principal interest and repay principal for debt in this capacity than in
higher-rated categories.

BB Debt rated BB has less near-term vulnerability to default than other speculative issues.
However, it faces major ongoing uncertainties or exposure to adverse business, financial,
or economic conditions which could lead to inadequate capacity to meet timely interest
and principal payments. The BB rating category is also used for debt subordinated to
senior debt that is assigned and actual or implied BBB- rating.

B Debt rated B has a greater vulnerability to default but currently has the capacity to meet
interest payments and principal repayments. Adverse business, financial, or economic
conditions will likely impair capacity or willingness to pay interest and repay principal.
The B rating category is also used for debt subordinated to senior debt that is assigned an
actual or implied BB or BB- rating.

CCC Debt rated CCC has a currently identifiable vulnerability to default, and is dependent
upon favorable business, financial, and economic conditions to meet timely payment of
interest and repayment of principal. In the even of adverse business, financial, or
economic conditions, it is not likely to have the capacity to pay interest and repay
principal. The CCC rating is also used for debt subordinated to senior debt that is
assigned an actual or implied B or B- rating.

CC Debt rated CC is typically applied to debt subordinated to senior debt that is assigned an
actual or implied CCC debt rating.

C The rating C is typically applied to debt subordinated to senior debt that is assigned an
actual or implied CCC- rating. The C rating may be used to cover a situation where a
bankruptcy petition has been filed but debt service payments are continued.

CI The rating CI is reserved for income bonds on which no interest is being paid.

D Debt rated D is in payment default. The D rating category is used when interest
payments or principal payments are not made on the date due even if the applicable
grace period has not expired, unless Standard & Poor's believes that such payments will
be made during such grace period. The D rating will also be used upon the filing of a
bankruptcy petition if debt service payments are jeopardized.
</TABLE>

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Shareholder Services

Account Inquiries, Balance
and Transaction Information
1-800-221-3137

Dealer Services
Current Prospectuses, Sales Literature
Yields, Prices, Fund Information
1-800-221-3138

Distributed by:
FPS Broker Services, Inc.
3200 Horizon Drive
P.0. Box 61503
King of Prussia, PA 19406-0903

(LOGO)
SMITH BREEDEN
-------------
MUTUAL FUNDS

100 Europa Drive, Suite 200
Chapel Hill, NC 27514-2310
(919) 967-7221