As filed with the Securities and Exchange Commission
on July 30, 1999
File No. 33-43089
File No. 811-6431
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
F O R M N-1A
Registration Statement Under the Securities Act of 1933
Post-Effective Amendment No. 19
and
Registration Statement Under the Investment Company
Act of 1940
Amendment No. 21
____________________
SMITH BREEDEN SERIES FUND
(Exact Name of Registrant as Specified in Charter)
100 Europa Drive, Suite 200
Chapel Hill, North Carolina 27514
(Address of Principal Executive Office)
(919) 967-7221
(Registrant's Telephone Number, Including Area Code)
MICHAEL J. GIARLA
100 Europa Drive, Suite 200
Chapel Hill, North Carolina 27514
(Name and Address of Agent for Service)
_______________
Please Send Copy of Communications to:
MARIANTHE S. MEWKILL
Smith Breeden Associates, Inc.
100 Europa Drive, Suite 200
Chapel Hill, NC 27514
(919)-967-7221
This filing shall become effective on July 31, 1999
pursuant to paragraph (b) of Rule 485 under the
Securities Act of 1933.
The Registrant has previously registered an indefinite
number of shares of beneficial interest pursuant to Rule
24f-2 under the Investment Company Act of 1940, as amended.
The Rule 24f-2 notice for the Registrant's most recent
fiscal year was filed on June 22, 1999.
SMITH BREEDEN SERIES FUND
SMITH BREEDEN SHORT DURATION U.S. GOVERNMENT FUND
(THE "SHORT FUND")
SMITH BREEDEN INTERMEDIATE DURATION U.S.
GOVERNMENT FUND
(THE "INTERMEDIATE FUND")
CROSS REFERENCE SHEET
FORM N-1A
Part A: Information Required in Prospectus
N-1A
Item No. Item Location in the
Registration Statement
by Prospectus Heading
1. Front and Back Front and Back Cover
Cover Pages Pages
2. Risk/Return Summary: Smith Breeden Bond Funds:
Investments, Risk Investment Objectives,
and Performance Principal Investments
Strategies, Principal
Investment Risks, Annual
Performance
3. Risk/Return Summary: Smith Breeden Bond Funds:
Fee Table Your Expenses
4. Investment Objectives, Summary of Principal Risks
Principal Investment and Investment Strategies
Strategies, and
Related Risks
5. Management's Discussion Contained in the Funds'
of Fund's Performance Annual Report to
Shareholders
6. Management, Organization, Management of the Funds
and Capital Structure
7. Shareholder Information Pricing of Fund Shares,
How to Purchase Shares,
How to Exchange Shares,
How to Redeem Shares,
Dividends and
Distributions,
Shareholder Reports and
Information, Taxes
8. Distribution Arrangements How to Purchase Shares,
Service and Distribution
Plans
9. Financial Highlights Financial Highlights
Information
SMITH BREEDEN MUTUAL FUNDS
Smith Breeden Short Duration U.S. Government Fund
Smith Breeden Intermediate Duration U.S. Government Fund
Smith Breeden U.S. Equity Market Plus Fund
Smith Breeden Asian/Pacific Equity Market Fund
Smith Breeden European Equity Market Fund
PROSPECTUS
JULY 31, 1999
Advised by Smith Breeden Associates, Inc.
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE 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
SUMMARY INFORMATION
This Prospectus describes five no load mutual funds offering you a choice
of investments to help
fulfill your asset allocation needs:
Smith Breeden Short Duration U.S. Government Fund
Smith Breeden Intermediate Duration U.S. Government Fund
Smith Breeden U.S. Equity Market Plus Fund
Smith Breeden Asian/Pacific Equity Market Fund
Smith Breeden European Equity Market Fund
Each Fund is a series of the Smith Breeden Series Fund or the Smith Breeden
Trust, each an open-end
management investment company. The investment adviser for the Funds is
Smith Breeden Associates,
Inc. (the "Adviser").
TABLE OF CONTENTS
SMITH BREEDEN BOND FUNDS
SMITH BREEDEN EQUITY FUNDS
SUMMARY OF PRINCIPAL RISKS AND INVESTMENT STRATEGIES
CHARACTERISTICS AND RISKS OF THE SECURITIES IN WHICH THE FUNDS MAY INVEST
MANAGEMENT OF FUNDS
PRICING OF FUND SHARES
HOW TO PURCHASE SHARES
HOW TO EXCHANGE SHARES
HOW TO REDEEM SHARES
DIVIDENDS AND DISTRIBUTIONS
SHAREHOLDER REPORTS AND INFORMATION
RETIREMENT PLANS
SERVICE AND DISTRIBUTION PLANS
TAXES
CAPITAL STRUCTURE
TRANSFER AND DIVIDEND DISBURSING AGENT, CUSTODIAN AND INDEPENDENT AUDITORS
FINANCIAL HIGHLIGHTS
SMITH BREEDEN BOND FUNDS
Smith Breeden Short Duration U.S. Government Fund
Smith Breeden Intermediate Duration U.S. Government Fund
Investment Objectives
The Short Duration U.S. Government Fund (the "Short Fund") seeks to provide
investors with a high
level of current income, consistent with a low volatility of net asset value.
The Intermediate Duration U.S. Government Fund (the "Intermediate Fund")
seeks to provide investors with a total return in excess of the total
return of the major market indices for mortgage-backed securities.
Principal Investment Strategies
2
The Short Fund seeks to achieve its objective by matching 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 Intermediate Fund seeks to achieve its objective by matching the
duration, or interest-rate
risk, of a portfolio that invests exclusively in mortgage-backed securities,
as weighted in the major
market indices for mortgage-backed securities. These indices currently
include the Salomon
Brothers Mortgage Index and the Lehman Brothers Mortgage Index, each of
which includes all
outstanding government sponsored fixed-rate mortgage-backed securities,
weighted in proportion to
their current market capitalization. The duration of these indices is
generally similar to that of
intermediate-term U.S. Treasury Notes, and typically will range between
three and five years.
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 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 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.
Under normal circumstances, each Fund will invest at least 70% of
its total assets in U.S.
Government Securities, primarily in mortgage-backed securities issued
by the U.S. Government, its
agencies and instrumentalities.
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 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.
3
The investment objectives of the Short and Intermediate Funds are
fundamental, meaning they may not
be changed without a vote of the shareholders of the relevant Fund.
In addition, as a matter of
fundamental policy the Funds will limit purchases to securities from
the following classes of assets:
Securities issued directly or guaranteed by the U.S. Government or
its agencies or instrumentalities.
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.
Securities fully collateralized by assets in either of the above classes.
Assets which would qualify as liquidity items under federal regulations
(which may change from
time to time) if held by a commercial bank or savings institution.
Hedge instruments and stripped Mortgage-Backed Securities, which may
only be used for risk
management purposes.
Principal Investment Risks
An investor could lose money by investing in these Funds. Other primary
risks of investing in the
Funds are:
Basis Risk
Credit Risk
Derivatives Risk
Interest Rate and Maturity Risk
Leveraging Risk
Liquidity Risk
Management Risk
Market Risk
Prepayment Risk
Year 2000 Risk
Please see "Summary of Principal Risks and Investment Strategies" for a
discussion of these and other
risks of investing in the Funds.
Annual Performance
The bar charts below show how the Funds' performance has varied from
year to year by illustrating
the Fund's total calendar-year returns. The table following the bar
charts compares each Fund's average
annual returns for the periods indicated to those of a broad-based
securities market index. The charts and
table are intended to illustrate some of the risks of investing in
the Funds by showing how the Funds'
performance can vary from year to year. Past performance does not
guarantee future results.
4
CALENDAR-YEAR TOTAL RETURNS
SHORT FUND
Best quarter: First quarter 1995, + 2.40%
Worst quarter: First quarter 1994, + 0.06%
More recent information:
(January 1, 1999 - June 30, 1999)1.68%
Short Fund
4.30% 4.14% 6.13% 6.28% 6.32% 4.77%
1993 1994 1995 1996 1997 199
INTERMEDIATE FUND
Best quarter: First Quarter 1995, +5.45%
Worst quarter: First Quarter 1994, -2.25%
More recent information:
January 1,1999-June 30, 1999 .01%
11.09% (1.67)% 16.40% 5.05% 9.00% 6.56%
1993 1994 1995 1996 1997 1998
AVERAGE ANNUAL TOTAL RETURNS
(for periods ended December 31, 1998)
Short Fund
1 Year 5 Years Fund Inception
31, 1998)
Short Fund
1 Year 5 Years Fund Inception
AVERAGE ANNUAL TOTAL RETURNS
(for periods ended December 31, 1998)
Short Fund
AVERAGE ANNUAL TOTAL RETURNS
(for periods ended December 31, 1998)
Short Fund
1 Year 5 Years Fund Inception
AVERAGE ANNUAL TOTAL RETURNS
(for periods ended December 31, 1998)
Short Fund
1 Year 5 Years Fund Inception
(March 31, 1992)
Short Fund 4.77% 5.52% 5.46%
Merrill Lynch 6 Month US T-Bill 5.58% 5.37% 4.97%
<TABLE>
Intermediate Fund
<CAPTION>
1 Year 5 Years Fund Inception
(March 31, 1992)
<S> <C> <C> <C>
Intermediate Fund 6.56% 6.91% 8.26%
Salomon Smith Barney Mortgage Index ("SBMI") <F1> 6.99% 7.23% 7.58%
<FN>
<F1>
The fund changed its investment objective 1/1/94. Prior to 1/1/1994, the Fund's objective was to provide a return
in excess of the five year U.S. Treasury Note.
</FN>
</TABLE>
Your Expenses
The information below describes the fees and expenses you may pay if you
buy and hold shares of the Funds and
do not reflect any expense reimbursements by the Adviser.
5
<TABLE>
Short Fund Intermediate Fund
<S> <C> <C>
Shareholder Fees <F1> (fees paid directly from your investment)
Annual Maintenance Fee for accounts less than $2,000 $16 $16
Account Closing Fee $ 8 $ 8
<S>
Annual Fund Operating Expenses
(expenses that are deducted from Fund assets) <C> <C>
Management Fees <F2> <F3> 0.70% 0.70%
Other Expenses <F3> 0.30% 0.36%
12b-1 Fee <F2> None None
Total Fund Operating Expenses <F3> 1.00% 1.06%
<FN>
<F1>
For accounts of less than $2,000, each Fund assesses an annual account maintenance fee of $16. In addition,
a transaction charge of $9 may be imposed on redemptions by wire transfer and an account closing fee of $8 may be imposed.
<F2>
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 Fund's net assets out of its management fee.
<F3>
Expenses shown are before giving effect to expense limitations. The Adviser voluntarily reimburses the Funds' expenses
so that during the fiscal year ended March 31, 1999 total fund operating expenses were 0.78% for the Short Fund and 0.88%
for the Intermediate Fund.
</FN>
</TABLE>
Examples
The examples below are intended to help you compare the cost
of investing in the Funds with the cost of investing in
other mutual funds. The examples assume that you invest $10,000 in
each Fund for the time periods indicated, that your
investment earns a 5% return each year and that the Fund's
operating expenses remain the same and that the Adviser does
not reimburse the Fund any expenses. Although your actual costs
may be higher or lower, based on these assumptions
your costs would be:
1 Year 3 Years 5 Years 10 Years
Short Fund $105 $328 $568 $1,258
Intermediate Fund $111 $347 $601 $1,329
SMITH BREEDEN EQUITY FUNDS
Smith Breeden U.S. Equity Market Plus Fund
Smith Breeden Asian/Pacific Equity Market Fund
Smith Breeden European Equity Market Fund
Investment Objectives
6
The U.S. Equity Market Plus Fund 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 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.
Principal Investment Strategies
The U.S. Equity Market Plus Fund does not invest principally in
the common stocks that make up the S&P 500 Index
or any other index. Instead, the Fund invests primarily in an
actively managed short duration fixed income portfolio and
maintains positions in S&P 500 futures, options and similar
instruments. The equity index futures and options positions
are designed to produce an exposure to the S&P 500 Index similar to
that which would be achieved if all the Fund's
assets were invested directly in the stocks comprising the S&P 500
Index. The Fund's investment strategy is designed to
produce a total return with a low tracking error relative to the S&P
500 Index.
Similarly, neither the Asian/Pacific Equity Market nor the European
Equity Market Fund invest principally in the
common stocks of the regions or indices whose returns they are
targeting. Instead, each Fund invests primarily in an
actively managed short duration fixed income portfolio and uses
futures, options and swaps to maintain its equity
exposure in its respective market. 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. For
the Asian/Pacific Equity Market Fund, the futures, options and swap
positions are designed to produce an exposure
similar to that which would be achieved if all of the Fund's assets were
invested directly in the equity markets of the
Asia/Pacific region. For the European Equity Market Fund, the futures,
options and swap positions are designed to
produce an exposure similar to that which would be achieved if all
of the Fund's assets were invested directly in the
equity markets of Europe. Each Fund's investment strategy is designed
to produce a total return similar to that of the
relevant regional market it targets (i.e., the Asia/Pacific region
in the case of the Asian/Pacific Equity Market Fund and
Europe in the case of the European Equity Market Fund).
When futures contracts and/or swaps are, in the judgment of the
Adviser, relatively overpriced, a Fund may invest
directly in the common stocks represented by the index or in the
region being tracked. In these circumstances, 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 the movements in the index or market being tracked.
7
Each Fund's fixed income securities 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 Fund will employ hedging
techniques, with instruments such as interest rate
futures, options, floors, caps and swaps, designed to reduce the
interest-rate risk of its fixed-income portfolio. The Fund
will manage its fixed income portfolio effective duration to a target
of one year or less. The Fund may also engage in
loans of portfolio securities and dollar rolls to enhance income and
total return.
Each Fund has also applied for an exemptive order with the Securities
and Exchange Commission 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.
The U.S. Equity Market Plus Fund's equity market positions are
designed to produce a return similar to that which
would be achieved if all the Fund's assets were invested directly in
the stocks comprising the S&P 500 Index in
proportion to their respective weightings in the S&P 500 Index. The
Asian/Pacific Equity Market Fund's equity market
positions are designed to produce a return similar to that which
would be achieved if all the Fund's assets were invested
directly in the stocks comprising an index or indexes representative
of the equity markets of the Asia/Pacific region, as
determined by the Adviser, in proportion to their respective weightings
in such index or indexes. The European Equity
Market Fund's equity market positions are designed to produce a return
similar to that which would be achieved if all the
Fund's assets were invested directly in the stocks comprising an index
or indexes representative of the equity markets of
Europe, as determined by the Adviser, in proportion to their respective
weightings in such index or indexes.
In each case, this exposure will be maintained primarily with futures,
options, and swaps. When futures contracts are
purchased, only a small percentage of the notional value of the
contract must be posted as margin. No margin is
generally required when entering into a swap or option contract.
Each Fund therefore commits only a small percentage of
its net assets to purchasing the instruments that it uses to obtain
its equity market exposure. With the remainder of its
assets, the Funds invest in an actively managed short duration fixed
income portfolio.
Each Fund's success in achieving its performance objective depends
largely on whether the total return on the Fund's
fixed-income portfolio equals or exceeds a short term interest rate
plus the Fund's total operating expenses. The
operating expenses of each Fund include the transaction and financing
8
costs of entering into the futures, options and swap
contracts used for interest rate risk management and for S&P 500 or
other index replication. Other factors which will
impact the success of the Fund's strategies relate to how well the
returns of the equity index futures, swaps and options
track the underlying market or index.
Principal Investment Risks
An investor could lose money by investing in these Funds. These
Funds should be invested in by individuals seeking
the return of a stock market, specifically that of the S&P 500 Index,
Asia/Pacific region or Europe, as the case may be.
Although the Funds invest in bonds, they are not "bond" funds and
should not be invested in by someone seeking a fixed
income return. The movements in the S&P 500 Index and the Asian/Pacific
and European equity markets can be very
volatile from day-to-day and a person who invests in these Funds should
be aware that significant losses can be sustained
in one day, as well as over time.
Each Fund's use of derivative instruments such as futures, swaps and
options to track the market index raises
additional risks. A Fund's opportunity for gain or loss may be greater
than if the Fund invested directly in the stocks
represented by the market index because the notional value of the financial
instruments utilized may not match exactly
the Fund's net assets. For example, the total net notional amount of the
Fund's equity swap contracts, S&P 500 or other
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, the Fund expects that such
variations in its exposure to the index will be up to
5% more or less than the Fund's net assets.)
Because the Asian/Pacific Equity Market and European Equity
Market Funds will be investing in foreign markets
and securities, these Funds may experience more rapid and extreme
changes in value than a Fund investing solely in U.S.
companies and markets. This is because the securities markets of
many foreign countries are relatively small, with a
limited number of companies representing a small number of industries.
In addition, foreign companies are usually not
subject to the same degree of regulation as U.S. companies. These
investments are also influenced by currency risk, the
risk that changes in foreign exchange rates will affect, favorably
or unfavorably, the value of a Fund's foreign securities.
Although the Asian/Pacific Equity Market and European Equity Market
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. 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
9
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.
Other primary risks of investing in the Funds are:
Basis Risk
Credit Risk
Derivatives Risk
Interest Rate and Maturity Risk
Leveraging Risk
Liquidity Risk
Management Risk
Market Risk
Prepayment Risk
Year 2000 Risk
Please see "Summary of Principal Risks and Investment Strategies" for
a discussion of these and other risks of investing
in the Funds.
Annual Performance
The bar chart below shows how the U.S. Equity Market Plus Fund's
performance has varied from year to year by
illustrating the Fund's total calendar-year returns. The table
following the bar chart compares the Fund's average annual
returns for the periods indicated to those of a broad-based securities
market index. The chart and table are intended to
illustrate some of the risks of investing in the Fund by showing how
the Fund's performance can vary from year to year.
There are no charts and tables for the Asian/Pacific Equity Market
and European Equity Market Fund because the Funds
have no performance history. However, since these Funds' performance
can be expected to vary from year to year there
are risks of investing in these Fund as well. Past performance does
not guarantee future results.
<TABLE>
CALENDAR-YEAR TOTAL RETURNS
U.S. EQUITY MARKET PLUS FUND
<CAPTION>
[Plot points for bar chart]
<S> <C> <C> <C> <C> <C> <C>
U.S. Equity Market Plus Fund 13.22% 1.84% 36.76% 24.36% 32.29% 26.43%
1993 1994 1995 1996 1997 1998
</TABLE>
Best quarter: Fourth quarter 1998, 21.07%
Worst quarter: Third quarter 1998, (10.82)%
More recent return information: (January 1, 1999-June 30, 1999) 12.09%
AVERAGE ANNUAL TOTAL RETURNS
(for periods ended December 31, 1998)
10
1 Year 5 Years Fund Inception
(June 30, 1992)
U.S. Equity Market Plus Fund 26.43% 23.71% 21.89%
S&P 500 Index * 28.58% 24.03% 21.24%
* The S&P 500 Index is a widely recognized, unmanaged index of common
stocks of the 500 largest capitalized U.S. companies. The index
does not incur expenses and cannot be purchased directly by investors.
Your Expenses
The information below describes the fees and expenses you may pay if
you buy and hold shares of the Funds.
<TABLE>
U.S. Equity Asian/Pacific European
Market Plus Equity Market Equity Market
<S> <C> <C> <C>
Shareholder Fees <F1>(fees paid directly from your investment)
Annual Maintenance Fee for accounts less than $2,000 $16 $16 $16
Account Closing Fee $ 8 $ 8 $ 8
Annual Fund Operating Expenses
(expenses that are deducted from Fund assets) 0.70% 0.70% 0.70%
Management Fees <F2><F3>
Other Expenses <F3><F4> 0.34% 5.30% 5.30%
12b-1 Fee <F2> None None None
Total Fund Operating Expenses <F3><F4> 1.04% 6.00% 6.00%
<FN>
<F1>
For accounts of less than $2,000, each Fund assesses an annual account maintenance fee of $16. In addition,
a transaction charge of $9 may be imposed on redemptions by wire transfer and an account closing fee of $8 may be imposed.
<F2>
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 Fund's net assets out of its management fee.
<F3>
Expenses shown are before giving effect to expense limitations. The Adviser voluntarily reimburses the
Funds' expenses so that during the fiscal year ended March 31, 1999 total fund operating expenses were 0.88% for
the U.S. Equity Market Plus Fund and would be expected to be 0.98% for each of the European Equity Index and
Asian/Pacific Equity Index Funds had they been operational.
<F4>
Other expenses and Total Fund Operating expenses for the Asian/Pacific Equity Market and European Equity Market Funds
are based on estimated amounts for the first fiscal year of the Funds.
</FN>
</TABLE>
Examples
11
The example below is intended to help you compare the cost of investing in
the Funds with the cost of investing in other
mutual funds. The example assumes that you invest $10,000 in each Fund
for the time periods indicated, that your
investment earns a 5% return each year and that the Fund's operating
expenses remain the same and that the Adviser does
not reimburse any expenses. Although your actual costs may be
higher or lower, based on these assumptions your costs
would be:
1 Year 3 Years 5 Years 10 Years
U.S. Equity Market Plus $109 $ 341 $ 590 $1,305
Asian/Pacific Equity Market $630 $1,866 $3,069 $5,944
European Equity Market $630 $1,866 $3,069 $5,944
SUMMARY OF PRINCIPAL RISKS AND INVESTMENT STRATEGIES
PRINCIPAL RISKS
The value of your investment in a Fund changes with the values of that
Fund's holdings. Many factors can affect those
values. The "principal risks" identified in the fund descriptions
part of this Prospectus represent the factors that are most
likely to have a material effect on each Fund's portfolio as a
whole. Each Fund may be subject to additional principal
risks and other risks in addition to the risks described here.
The risks of a Fund may change over time because the types
of investments made by a Fund can change over time. The following
subsection on "Characteristics and Risks of the
Securities in Which the Funds May Invest" and the Statements of
Additional Information include more important
information about the Funds, their investment strategies and the
related risks.
Basis Risk. Basis risk is the risk that changes in the
value of a hedge transaction will not completely offset changes
in the value of the assets and liabilities being hedged.
Basis risk may occur in many ways. For example, a hedge
transaction may rise in value by $100 in response to higher
interest rates. At the same time, the security being hedged
could decline in value by $102 in response to the same market
factor--higher interest rates-- and other factors unique to
those assets including credit risks that might be reflected in
the assets' value. The hedge would therefore not fully cover
the loss in value of the security caused by higher rates since
a $2 differential would exist between the gain in value on
the hedge and the assets' loss in value. The $2 differential
reflects basis risk. Basis risk can manifest itself in other ways;
for example when a small change in interest rates occurs.
In that context, both the hedge transaction and the hedged
assets could decline in value, although by different amounts,
following an interest rate change. This means that a Fund
may not achieve, and may at times exceed, its targeted duration
or the return of the market it tracks.
12
Credit Risk. An issuer of securities may be unable to pay principal
and interest when due, or the value of the security
may suffer because investors believe the issuer is less able to
pay. Lower rated securities, while usually offering higher
yields, generally have more risk and volatility because of
reduced creditworthiness and greater chance of default.
While certain U.S. Government securities such as U.S. Treasury
obligations and GNMAs (discussed in the next
section) 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 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 credit risk by investing in securities of at
least investment grade, except that its investment in
mortgage-backed securities will be rated at least A. 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.
Derivatives Risk. The Funds may use derivatives, which
are financial contracts whose value depends on, or is
derived from, the value of an underlying asset, interest rate or
index. Using derivatives, a Fund can 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. Techniques involving derivatives
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 and
European Equity Market 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. The use of derivatives
involves costs and may result in losses. For example, the
losses from investing in futures transactions are potentially
unlimited.
The use of options and futures strategies 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.
In addition to other risks such as the credit risk of the
counterparty, market risk, liquidity risk, and basis risk,
derivatives involve the risk of mispricing or improper valuation.
In addition, the Funds' use of derivatives may also have the
effect of accelerating a Fund's recognition of gain.
13
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.
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 the 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.
Interest Rate and Maturity Risk. The market prices of a Fund's
fixed-income investments may decline due to an
increase in market interest rates. Generally, the longer the
maturity or duration of a fixed-income security, the more
sensitive it is to changes in interest rates. The Short Fund
seeks to match the duration of a portfolio that invests
exclusively in six month U.S. Treasury securities on a constant
maturity basis, and the Intermediate Fund seeks to match
the duration of a portfolio that invests in mortgage-backed
securities as weighted in the major market indices (typically
ranging from three to five years). The Equity Market Plus,
Asian/Pacific Equity Market and European Equity Market
Funds seek a duration of one year or less. However, each Fund
expects that, under normal circumstances, the dollar-
weighted average life (or period until the next reset date) of
its portfolio securities will be significantly longer than its
duration objective.
14
Leveraging Risk. When a Fund is borrowing money or otherwise
leveraging its portfolio, the value of an investment in
that Fund will be more volatile and all other risks will tend
to be compounded. This is because leverage tends to
exaggerate the effect of any increase or decrease in the
value of a Fund's portfolio holdings. Each Fund may take on
leveraging risk by using reverse repurchase agreements,
dollar rolls and other borrowings, by investing collateral from
loans of portfolio securities, through the use of when-issued,
delayed-delivery or forward commitment transactions or by
using other derivatives. The use of leverage may also cause a
Fund to liquidate portfolio positions when it may not be
advantageous to do so to satisfy its obligations or meet
segregation requirements.
Liquidity Risk. Liquidity risk exists when particular
investments are difficult to sell. A Fund may not be able to sell
these illiquid investments at the best prices. Investments in
derivatives, and securities having small market capitalization,
substantial market and/or credit risk tend to involve greater
liquidity risk.
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 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.
Management Risk. Each Fund is subject to management risk because it
is an actively managed investment portfolio.
Management risk is the chance that poor security selection will cause
the Fund to underperform other funds with similar
objectives. The Adviser will apply its investment techniques and risk
analyses in making investment decisions for the
Funds, but there can be no guarantee that these will produce the
desired result.
Market Risk. The market price of securities held by a Fund may fall,
sometimes rapidly or unpredictably, due to
changing economic, political or market conditions, or due to the
financial condition of the issuer. The value of a security
may decline due to general market conditions which are not
specifically related to a company or industry, such as real or
perceived adverse economic conditions, changes in the general
outlook for corporate earnings, changes in interest or
currency rates or adverse investor sentiment generally.
15
Prepayment risk. Prepayment risk is the risk that principal
will be repaid at a different rate than anticipated, causing
the return on a security purchased to be less than expected.
Mortgage-backed securities, which represent an interest in a
pool of mortgages, present this risk, as do many asset-backed
securities. In general, when market interest rates decline,
many mortgages are refinanced, and mortgage-backed securities
are paid off earlier than expected, forcing a Fund to
reinvest the proceeds at current yields, which are lower than
those paid by the security that was paid off. When market
interest rates increase, the market values of mortgage-backed
securities declines. At the same time, however, mortgage
refinancing slows, which lengthens the effective maturities on
these securities. As a result, the negative effect of the rate
increase on the market value of mortgage securities is usually
more pronounced than it is for other types of fixed-income
securities. Asset-backed securities can present similar risks.
Year 2000 Risk. Like other mutual funds (and most organizations
around the world), the Funds could be adversely
affected by computer problems related to the year 2000. These
could interfere with operations of the Funds, the Adviser
and the Distributor or could impact the issuers of the securities
in which the Funds invest.
While no one knows if these problems will have any impact on the
Funds or on financial markets in general, the Adviser
is taking steps to protect fund investors. These include efforts
to determine that the problem will not directly affect the
systems used by major service providers.
Whether these steps will be effective can only be known for certain
in the year 2000.
CHARACTERISTICS OF CERTAIN 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. The
Statements of Additional Information also include
information on these and other securities and financial
instruments in which the Funds may invest.
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
16
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.
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.
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,
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. 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.
17
The Short and Intermediate 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
"Summary of Principal Risks and Investment Strategies"
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
18
adjustable-rate securities backed by pools of mortgage
loans ("ARMs"). The fixed income portfolio 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 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.
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
19
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 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. 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.
20
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.
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 portfolio turnover rates reported in the
"Financial Highlights" for the each of the Funds for the
fiscal year ended March 31, 1999 were 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. 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. High
portfolio turnover could adversely impact a Fund's
performance. However, the mortgage securities in which
the Funds may invest are generally traded on a "net"
21
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 U.S. Equity Market Plus,
Asian/Pacific Equity Market and European Equity
Market 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
Dr. Breeden, aged 49, the Chairman of the Board of
Smith Breeden Associates, co-founded the firm in 1982.
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. The address for Dr. Breeden is the same as that
of the Funds at 100 Europa Drive, Chapel Hill, North
Carolina, 27514.
Michael J. Giarla*
Trustee and President
22
Mr. Giarla, aged 41, is Chief Operating Officer,
President and Director of Smith Breeden Associates. 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 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. The address for Mr. Giarla is the same as
that of the Funds at 100 Europa Drive, Chapel Hill,
North Carolina, 27514
Stephen M. Schaefer Trustee
Stephen M. Schaefer, aged 52, 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. The address for
Dr. Schaefer is the same as that of the Funds at 100
Europa Drive, Chapel Hill, North Carolina, 27514.
Myron S. Scholes Trustee
Myron S. Scholes, aged 58, is the Frank E. Buck
Professor of Finance Emeritus at the Graduate School of
Business at Stanford University (since 1983). He is a
consultant to the Robert M. Bass organization. He is a
member of the Econometric Society. Professor Scholes
was formerly a limited partner and pricipal of Long
23
Term Capital Management (1993-1998). He 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). The address for Dr. Scholes is the same as that
of the Funds at 100 Europa Drive, Chapel Hill, North
Carolina, 27514.
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, aged 65, 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-
24
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. The address for Dr. Sharpe is the same
as that of the Funds at 100 Europa Drive, Chapel Hill,
North Carolina, 27514.
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 and has been
employed by Smith Breeden since 1986. 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
25
Timothy D. Rowe is a Principal, Director, and Vice
President of Smith Breeden Associates and has been
employed by Smith Breeden since 1988. Mr. Rowe, in
conjunction with Daniel C. Dektar, is responsible for the
day-to-day management of the Intermediate Fund, and
has been involved in managing the Fund since
December of 1997. 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
and has been employed by Smith Breeden since 1987.
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.
William F. Quinn
Vice President, Smith Breeden Trust
Portfolio Manager, Asian/Pacific Equity Market and
European Equity Market Funds
26
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.
*Interested Person
Investment Adviser
Smith Breeden Associates, Inc., a registered
investment adviser, acts as investment adviser to the
Funds. Approximately 54% 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 the fiscal year ended
March 31, 1999, the Adviser was paid an advisory fee,
computed daily and payable monthly, based on a
percentage of average net assets as follows: 0.70% of
each of the Short, Intermediate, and, U.S. Equity Market
Plus Funds.
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
First Data Distributors, Inc. (the "Principal
Underwriter") acts as 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
27
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 or
redemption requests received in proper form by the
Transfer Agent, or other agent designated by the Funds,
prior 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 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.
28
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 and Christmas Day. The Short and
Intermediate 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."
Initial Minimum Additional Minimum
Type of Account Investment Investment
Regular $ 1,000 $ 50
Automatic Investment None $ 50
Individual Retirement Account $ 250 $ 50
Gift to Minors $ 250 $ 50
The Funds reserve the right to deduct an annual
maintenance fee of $16 from accounts with a value of
less than $2,000. The fee applies to each account in each
fund that is of a value of less than $2,000 and is funded
by redeeming shares. 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.
29
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
211 South Gulph Road
P.O. Box 61767
King of Prussia, PA 19406
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:
Boston Safe Deposit & Trust
A.B.A. Number 011001234
For credit to (identify which Fund to purchase)
Account Number 011363
FBO (name or registration and account 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, 211 South Gulph Road, P.O. Box 61767, King of
Prussia, PA 19406. Shares will be redeemed with
Federal tax withheld if the Funds do not receive a
properly completed and executed Purchase Application.
30
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 to establish the Automatic
31
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
32
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 211
South Gulph Road, P.O. Box 61767, 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 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.
33
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.
34
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 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.
35
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,
211 South Gulph Road, P.O. Box 61767, King of
Prussia, PA 19406.
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 may not be
accepted for payment until 15 days after the account is
opened, if the shareholder opened the account by check.
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
36
agent for the check writing facility is Boston Safe
Deposit and Trust Company. Shareholders utilizing
check writing are subject to Boston Safe Deposit
Company's rules governing checking accounts.
However, this check writing facility is 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
37
The Short and Intermediate Bond Funds intend to
pay monthly distributions to their shareholders of net
investment income. The U.S. Equity Market Plus,
Asia/Pacific Equity Market and European Equity Market
Funds intend to make quarterly distributions of net
investment income. All Funds will distribute net realized
gains at least annually. 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 Bond Fund will declare a daily
dividend for shareholders of record. The Intermediate
Fund's 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
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
38
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.
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, 211 South Gulph Road, P.O. Box 61767, King of
Prussia, PA 19406 or call 1-800-221-3137.
39
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. If your IRA account value is less than $10,000,
the $12 fee will automatically be deducted from your
account. To avoid having this fee taken from your
account, you may send a check for $12, postmarked no
later than August 31st. 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.
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.
40
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. 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 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 the Fund's market will require the
Fund to mark such instruments to market, a practice
which will accelerate the Fund's 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,
only an insignificant amount of Funds' 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
41
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.
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
42
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"), 211 South Gulph Road, P.O. Box
61767, King of Prussia, PA 19406, a wholly owned
subsidiary of First Data Corporation, which has its
principal place of business at 4400 Computer Drive,
Westborough, 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).
43
The Short and Intermediate 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 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.
Further information on performance measurement may
be found in the relevant Statement of Additional
44
Information. 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).
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.
FINANCIAL HIGHLIGHTS
The financial highlights tables are intended to help you understand each
Fund's financial performance for the past 5 years or, if shorter, since
the period of the Fund's operations.Certain information reflects financial
results for a single Fund share. The total returns in the table represent
the rate that an investor would have earned or lost on an investment in the
Fund (assuming reinvestment of all dividends and distributions). This
information has been audited by Deloitte & Touche LLP, whose report,
along with each Fund's financial statements, are included in the annual
report to shareholders, which is available upon request.
45
<TABLE>
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 April 1, 1994 through March 31, 1999, 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.
<CAPTION>
Year Ended Year Ended Year Ended Year Ended Year Ended
March 31, March 31, March 31, March 31, March 31,
1999 1998 1997 1996 1995
<S> <C> <C> <C> <C> <C>
Net Asset Value, $9.92 $9.83 $9.74 $9.90 $9.90
Beginning of Period....
Income From Investment
Operations
Net investment income.. 0.442 0.484 0.476 0.621 0.628
Net realized and
unrealized gain (loss) 0.020 0.114 0.146 (0.148) --
on investments.........
Total from investment 0.462 0.598 0.622 0.473 0.628
operations.............
Less Distributions
Dividends from net (0.447) (0.508) (0.476) (0.621) (0.628)
investment income......
Dividends in excess of
net investment income.. -- -- (0.056) (0.012) --
Total Distributions.... (0.447) (0.508) (0.532) (0.633) (0.628)
Net Asset Value, End of $9.94 $9.92 $9.83 $9.74 $9.90
Period.................
Total Return........... 4.83% 6.24% 6.57% 4.95% 6.58%
Ratios/Supplemental Data
Net assets, end of $60,807,449 $78,427,855 $118,988,609 $221,825,136 $218,431,665
period.................
Ratio of expenses to
average net assets
Before expense 1.00% 1.00% 0.93% 0.93% 0.92%
limitation.............
After expense 0.78% 0.78% 0.78% 0.78% 0.78%
limitation.............
Ratio of net income to
average net assets
Before expense 4.56% 5.06% 4.90% 6.13% 6.18%
limitation.............
After expense 4.78% 5.28% 5.04% 6.29% 6.33%
limitation.............
Portfolio turnover 298% 626% 556% 225% 47%
rate...................
</TABLE>
Additional performance information is presented in the Short Fund's Annual
Report, which is available without charge upon request.
46
<TABLE>
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 April 1, 1994 through March 31, 1999, 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.
<CAPTION>
Year Ended Year Ended Year Ended Year Ended Year Ended
March 31, March 31, March 31, March 31, March 31,
1999 1998 1997 1996 1995
<S> <C> <C> <C> <C> <C>
Net Asset Value, $10.00 $9.73 $10.01 $9.83 $10.01
Beginning of Period
Income From Investment
Operations
Net investment income.. 0.525 0.590 0.599 0.660 0.664
Net realized and
unrealized gain (loss) 0.030 0.419 (0.024) 0.277 (0.049)
on investments.........
Total from investment 0.555 1.009 0.575 0.937 0.615
operations..........
Less Distributions
Dividends from net (0.515) (0.561) (0.604) (0.656) (0.664)
investment income.....
Dividends in excess of
net investment income.. ---- ---- ---- ---- (0.108)
Distributions from net
realized gains on (0.130) (0.178) (0.251) (0.101) --
investments............
Distributions in excess
of net realized gains -- -- -- -- (0.022)
on investments.........
Total Distributions.... (0.645) (0.739) (0.855) (0.757) (0.794)
Net Asset Value, End of $9.91 $10.00 $9.73 $10.01 $9.83
Period...............
Total 5.73% 10.65% 5.92% 9.69% 6.10%
Return.................
Ratios/Supplemental
Data
Net assets, end of $55,125,797 $38,641,879 $37,735,525 $36,446,940 $34,797,496
period.................
Ratio of expenses to
average net assets
Before expense 1.06% 1.13% 1.16% 1.14% 2.33%
limitation.............
After expense 0.88% 0.88% 0.88% 0.90% 0.90%
limitation.............
Ratio of net income to
average net assets
Before expense 5.08% 5.36% 5.92% 6.26% 4.77%
limitation.............
After expense 5.25% 5.61% 6.19% 6.49% 6.20%
limitation.............
47
Portfolio turnover rate 423% 583% 409% 193% 557%
rate...................
</TABLE>
Additional performance information is presented in the Intermediate Fund's
Annual Report, which is available without charge upon request.
<TABLE>
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 April 1, 1994 through March 31, 1999, 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.
<CAPTION>
<S>
Year Ended Year Ended Year Ended Year Ended Year Ended
March 31, March 31, March 31, March 31, March 31,
1999 1998 1997 1996 1995
<C> <C> <C> <C> <C>
Net Asset Value, $16.86 $12.56 $12.27 $10.84 $9.88
Beginning of Period....
Income From Investment
Operations
Net investment 0.686 0.591 0.592 0.615 0.568
income.................
Net realized and
unrealized gain (loss) (1.765) 4.940 1.813 2.768 1.081
on
investments............
Total from investment 2.451 5.531 2.405 3.383 1.649
operations..........
Less Distributions
Dividends from net (0.624) (0.586) (0.590) (0.583) (0.568)
investment income.....
Dividends in excess of
net investment -- -- -- -- (0.001)
income.................
Distributions from net
realized gains on (1.905) (0.645) (1.525) (1.370) (0.047)
investments............
Distributions in excess
of net realized gains -- -- -- -- (0.073)
on
investments............
Total (2.529) (1.231) (2.115) (1.953) (0.689)
Distributions..........
Net Asset Value, End of $16.78 $16.86 $12.56 $12.27 $10.84
Period...............
Total 17.17% 45.71% 21.41% 32.30% 17.18%
Return.................
Ratios/Supplemental
Data
Net assets, end of $185,584,121 $136,667,439 $13,507,377 $4,766,534 $2,107,346
period..................
48
Ratio of expenses to
average net assets
Before expense 1.04% 1.23% 2.60% 4.58% 7.75%
limitation............
After expense 0.88% 0.88% 0.88% 0.90% 0.90%
limitation.............
Ratio of net income to
average net assets
Before expense 4.45% 4.44% 3.58% 1.85% 0.59%
limitation.............
After expense 4.62% 4.79% 5.30% 5.53% 7.44%
limitation.............
Portfolio turnover 527% 424% 182% 107% 120%
rate...................
</TABLE>
Additional performance information is presented in the Fund's Annual Report,
which is available without charge upon request.
[Back Cover]
SMITH BREEDEN MUTUAL FUNDS
The Statement of Additional Information ("SAI") and annual and
semi-annual reports to shareholders for each of the Smith Breeden
Series Fund and the Smith Breeden Trust include additional
information about the Funds. The SAIs and the financial
statements included in the Funds' most recent annual report to
shareholders are incorporated by reference into (legally a part
of) this Prospectus. You may get free copies of any of these
materials, request other information about the Funds and make
shareholder inquires by calling 1-800-221-3138 of by visiting the
Funds' website (www.smithbreeden.com).
You can review, for a fee, the reports of the Funds and the SAIs
by writing to the Public Reference Section of the Securities and
Exchange Commission, Washington, D.C. 20459-60091, or by calling
the SEC at 1-800-SEC-0330. You can get copies of thus
information for free on the SEC's Internet site (www.sec.gov).
49
Part B: Information Required in
Statement of Additional Information
N-1A
Item No. Item Location in the
Registration
Statement
10. Cover Page and Cover Page and
Table of Contents Table of Contents
11. Fund History See Part A, Item 6
12. Description of the Fund Miscellaneous
and Its Investments Investment Practices
and Risks and Risk Considerations
13. Management of the Fund Trustees and Officers
14. Control Persons and Principal Holders of
Principal Holders of Securities and
Securities Controlling Persons
15. Investment Advisory Investment Advisory
and Other Services and Other Services
16. Brokerage Allocation Investment Advisory
and Other Practices and Other Services
17. Capital Stock and Additional Information
Other Securities Regarding Purchases and
Redemptions of Fund
Shares
18. Purchase, Redemption Additional Information
and Pricing of Regarding Purchases and
Securities Being Redemptions of Fund
Offered Shares
19. Taxation of the Fund Taxes
20. Underwriters Additional Information
Regarding Purchases and
Redemptions of Fund
Shares
21. Calculation of Standard Performance
Performance Data Measures
22. Financial Statements Experts; Financial
Statements
SMITH BREEDEN SERIES FUND
SMITH BREEDEN SHORT DURATION U.S. GOVERNMENT FUND
SMITH BREEDEN INTERMEDIATE DURATION U.S. GOVERNMENT FUND
STATEMENT OF ADDITIONAL INFORMATION
JULY 31, 1999
100 Europa Drive, Suite 200
Chapel Hill, North Carolina 27514-2310
(919) 967-7221
This Statement of Additional Information contains information
Pertaining to the Smith Breeden Series Fund (the "Series Fund"),
a no load open-end management investment company offering redeemable
shares of beneficial interest in two separate series, the Smith
Breeden Short Duration U.S. Government Fund (the "Short Fund")
and the Smith Breeden Intermediate Duration U.S. Government
Fund (the "Intermediate Fund"). This Statement
of Additional Information contains information which may be useful to
investors and which is not included in the Prospectus of the Smith
Breeden Mutual Funds. This Statement of Additional Information is not a
prospectus and is only authorized for distribution when accompanied or
preceded by the Prospectus of the Smith Breeden Mutual Funds dated
July 31, 1999 as may be amended from time to time. This Statement
should be read with the Prospectus.
Contents Page
DEFINITIONS............................................................. 2
MISCELLANEOUS INVESTMENT PRACTICES AND RISK CONSIDERATIONS............... 2
INVESTMENT RESTRICTIONS.................................................. 8
TRUSTEES AND OFFICERS.................................................... 10
INVESTMENT ADVISORY AND OTHER SERVICES................................... 10
PRINCIPAL HOLDERS OF SECURITIES AND CONTROLLING PERSONS.................. 12
POLICIES REGARDING BROKERS USED IN PORTFOLIO TRANSACTIONS................ 13
ADDITIONAL INFORMATION REGARDING PURCHASES
AND REDEMPTIONS OF FUND SHARES........................................... 13
TAXES.................................................................... 15
STANDARD PERFORMANCE MEASURES............................................ 17
ADDITIONAL INFORMATION FOR INSTITUTIONAL INVESTORS....................... 20
EXPERTS.................................................................. 21
FINANCIAL STATEMENTS..................................................... 21
APPENDIX................................................................. 22
1
SMITH BREEDEN SERIES FUND
SMITH BREEDEN SHORT DURATION U.S. GOVERNMENT FUND
SMITH BREEDEN INTERMEDIATE DURATION U.S. GOVERNMENT FUND
(the "Funds")
Statement of Additional Information
DEFINITIONS
The "Series Fund" or the "Funds": Smith Breeden Series Fund
The "Adviser": Smith Breeden Associates, Inc.,
the Funds' investment adviser.
The "Custodian": The Bank of New York,
the Funds' custodian.
"First Data Investor Services": First Data Investor Services,
Inc., the Funds' investor servicing
agent
The "Principal Underwriter": First Data Distributors, Inc.
MISCELLANEOUS INVESTMENT PRACTICES AND RISK CONSIDERATIONS
Investment Policies
The following supplements the information contained in the Prospectus
about the investment policies of the Short and Intermediate Funds (the
"Funds"). Terms used herein have the same meanings as in the Prospectus.
The Funds' Prospectus states that the Funds may engage in each of the
following investment practices. However, the fact that the Funds may
engage in a particular practice does not necessarily mean that they will
actually do so.
Repurchase Agreements. A Fund may invest in repurchase agreements. A
repurchase agreement is a contract
under which a Fund acquires a security for a relatively short period
(usually not more than one week) subject to the obligation of the seller
to repurchase and the Fund to resell such security at a fixed time and
price (representing the Fund's cost plus interest). It is the Funds'
present intention to enter into repurchase agreements only with
commercial banks and registered broker-dealers, and only with respect to
obligations of the U.S. Government or its agencies or instrumentalities.
Repurchase agreements may also be viewed as loans made by the Funds
which are collateralized by the securities subject to repurchase.
The Adviser will monitor such transactions to determine that the value
of the underlying securities is at least equal at all times to the
total amount of the repurchase obligation, including the interest
factor. If the seller defaults, a Fund could realize a loss on the
sale of the underlying security to the extent that the proceeds of the
sale including accrued interest are less than the resale price provided
in the agreement including interest. In addition, if the seller
should be involved in bankruptcy or insolvency proceedings, a Fund may
incur delay and costs in selling the underlying security or may suffer
a loss of principal and interest if the Fund is treated as an unsecured
creditor and required to return the underlying collateral to the seller's
estate.
2
Forward Commitments. A Fund may enter into contracts to purchase
securities for a fixed price at a future date beyond customary
settlement time ("forward commitments," "when issued" and "delayed
delivery" securities) if a Fund holds until the settlement date, in
a segregated account, cash or high-grade debt obligations in an amount
sufficient to meet the purchase price, or if a Fund enters into offsetting
contracts for the forward sale of other securities it owns. Forward
commitments may be considered securities in themselves, and involve
a risk of loss if the value of the security to be purchased declines
prior to the settlement date. Where such purchases are made through
dealers, a Fund relies on the dealer to consummate the sale. The
dealer's failure to do so may result in the loss to the Fund of an
advantageous return or price. Although a Fund will generally enter
into a forward
commitment with the intention of acquiring securities for its portfolio
or for delivery pursuant to options contracts it has entered into, the
Fund may dispose of a commitment prior to settlement if the Adviser
deems it appropriate to do so. A Fund may realize short-term profits
or losses upon the sale of forward commitments.
Securities Loans. A Fund may make secured loans of its securities
amounting to not more than 33 1/3% of its total assets, thereby realizing
additional income. The risks in lending portfolio securities, as
with other extensions of credit, consist of possible delay in recovery
of the securities or possible loss of rights in the collateral should
the borrower fail financially. As a matter of policy, securities loans
are made to broker-dealers pursuant to agreement requiring that loans
be continuously secured by collateral in cash or short-term debt
obligations at least equal at all times to the value of the securities
on loan. The borrower pays to the Fund an amount equal to any dividends
or interest received on securities lent.
The Fund retains all or a portion of the interest received on investment
of the cash collateral, or receives a fee from the borrower. Although
voting rights, or rights to consent, with respect to the loaned
securities pass to the borrower, the Fund retains the right to call
the loans at any time on reasonable notice, and it will do so in order
that the securities may be voted by the Fund if the holders of such
securities are asked to vote upon or consent to matters materially
affecting the investment. The Fund may also call such loans in order
to sell the securities involved.
Borrowing. A Fund may borrow from banks and enter into reverse repurchase
agreements or dollar rolls up to 33 1/3% of the value of a Fund's total
assets (computed at the time the loan is made) in order to take advantage
of investment opportunities, for extraordinary or emergency purposes,
or for the clearance of transactions. A Fund may pledge up to 33
1/3% of its total assets to secure these borrowings. If a Fund's
asset coverage for borrowings falls below 300%, the Fund will take
prompt action to reduce its borrowings even though it may be
disadvantageous at that time from an investment point of view. A
Fund will incur borrowing costs when it leverages, including payment
of interest and any fee necessary to maintain a line of credit, and may be
required to maintain a minimum average balance. If the income and
appreciation on assets acquired with borrowed funds exceed their
borrowing cost, the Fund's investment performance will increase,
whereas if the income and appreciation on assets acquired with
3
borrowed funds are less than their borrowing costs, investment
performance will decrease. In addition, if a Fund borrows to invest in
securities, any investment gains made on the securities in excess of
the costs of the borrowing, and any gain or loss on hedging, will
cause the net asset value of the shares to rise faster than would
otherwise be the case. On the other hand, if the investment
performance of the additional securities purchased fails to cover their
cost (including any interest paid on the money borrowed) to the Fund,
the net asset value of the Fund's shares will decrease faster than would
otherwise be the case. This speculative characteristic is known as
"leverage."
Reverse Repurchase Agreements and Dollar Roll Agreements. A Fund may
enter into reverse repurchase agreements and dollar roll agreements with
commercial banks and registered broker-dealers to seek to enhance
returns. Reverse repurchase agreements involve sales by a Fund of
portfolio assets concurrently with an agreement by the Fund to
repurchase the same assets at a later date at a fixed price.
During the reverse repurchase agreement period, a Fund continues
to receive principal and interest payments on these securities and
also has the opportunity to earn a return on the collateral
furnished by the counterparty to secure its obligation to redeliver the
securities. Dollar rolls are transactions in which a Fund sells
securities for delivery in the current month and simultaneously contracts
to repurchase substantially similar (same type and coupon) securities on
a specified future date. During the roll period, the Fund forgoes
principal and interest paid on the securities. The Fund is compensated by
the difference between the current sales price and the forward price for
the future purchase (often referred to as the "drop") as well as
by the interest earned on the cash proceeds of the initial sale. The
Fund will establish a segregated account with its custodian in which
it will maintain cash, U.S. Government securities or other liquid
high grade debt obligations equal in value to its obligations in
respect of reverse repurchase agreements and dollar rolls. Reverse
repurchase agreements and dollar rolls involve the risk that the
market value of the securities retained by the Fund may decline below
the price of the securities the Fund has sold but is obligated to
repurchase under the agreement. In the event the buyer of securities
under a reverse repurchase agreement or dollar roll files for
bankruptcy or becomes insolvent, the Fund's use of the proceeds of
the agreement may be restricted pending a determination by the other
party, or its trustee or receiver, whether or not to enforce the Fund's
obligation to repurchase the securities. Reverse repurchase
agreements and dollar rolls are considered borrowings by a Fund.
Collateralized Mortgage Obligations ("CMOs"). A CMO is a security backed
by a portfolio of mortgages or mortgage-backed securities held under an
indenture. The issuer's obligation to make interest and principal
payments is secured by the underlying portfolio of mortgages or
mortgage-backed securities. CMOs are issued with a number of classes
or series, which have different maturities representing interests in
some or all of the interest or principal on the underlying collateral
or a combination thereof. Payments of interest or principal on some
classes or series of CMOs may be subject to contingencies, or some
classes or series may bear some or all of the risk of default on the
underlying mortgages. CMOs of different classes are generally retired in
sequence as the underlying mortgage loans
4
in the mortgage pools are repaid. In the event of sufficient early
prepayments on such mortgages, the class or series of CMO first to mature
generally will be retired prior to its stated maturity. Thus, the early
retirement of a particular class or series of a CMO held by the Funds
would have the same effect as the prepayment of mortgages underlying a
mortgage-backed pass-through security. Another type of CMO is a real
estate mortgage investment conduit
("REMIC") which qualifies for special tax treatment under the Internal
Revenue Code and invests in certain mortgages principally secured by
interests in real property and other permitted investments.
CMOs also include securities representing the interest in any excess
cash flow and/or the value of any collateral remaining after the issuer
has applied cash flow from the underlying mortgages or mortgage-backed
securities to the payment of principal of and interest on all other
CMOs and the administrative expenses of the issuer ("Residuals").
Residuals have value only to the extent that income from such underlying
mortgages or mortgage-backed securities exceeds the amounts necessary
to satisfy the issuer's debt obligations represented by all other
outstanding classes or series of the CMOs. In addition, if a CMO bears
interest at an adjustable-rate, the cash flows on the related
Residual will also be extremely sensitive to the level of the index
upon which the rate adjustments are based. As a
non-fundamental policy (meaning it can be changed without the vote of the
shareholders), the Short and Intermediate
Fund will not invest in Residuals.
In reliance on an interpretation by the Securities and Exchange Commission
("SEC"), the Fund's investments in
certain qualifying CMOs and REMICs are not subject to the 1940 Act's
limitations on acquiring interests in other
investment companies. CMOs and REMICs issued by an agency or
instrumentality of the U.S. Government are
considered U.S. Government securities for the purposes of this Prospectus.
Stripped Securities ("STRIPS"). STRIPS are usually structured with
two classes that receive different proportions of the interest and
principal distributions from a pool of underlying assets. A common
type of STRIP will have one
class receiving all of the interest from the underlying assets
("interest-only" or "IO" class), while the other class will
receive all of the principal ("principal-only" or "PO" class).
However, in some instances, one class will receive some
of the interest and most of the principal while the other class
will receive most of the interest and the remainder of
the principal. STRIPS are unusually volatile in response to changes
in interest rates. The yield to maturity on an IO
class of STRIPS is extremely sensitive not only to changes in prevailing
interest rates but also to the rate of principal
payments (including prepayments) on the underlying assets. A rapid
rate of principal prepayments may have a
measurably adverse effect on the Fund's yield to maturity to the
extent it invests in IOs. Conversely, POs tend to
increase in value if prepayments are greater than anticipated
and decline if prepayments are slower than anticipated.
Thus, if the underlying assets experience greater than anticipated
prepayments of principal, the Fund may fail to fully
recover its initial investment in these securities, even if the
5
STRIPS were rated of the highest credit quality by S&P
or Moody's, respectively. The Adviser will seek to manage these risks
(and potential benefits) by investing in a
variety of such securities and by using certain hedging techniques,
as described in "Other Investment Practices and
Risk Considerations" in the Prospectus. In addition, the secondary
market for STRIPS may be less liquid than that
for other mortgage-backed or asset-backed securities, potentially
limiting the Fund's ability to buy or sell those
securities at any particular time.
The Adviser expects that interest-only STRIPS will be purchased for
their hedging characteristics. Because of their
structure, interest-only STRIPS will most likely move differently
than typical fixed income securities in relation to
changes in interest rates. For example, with increases in interest
rates, these securities will typically increase rather
than decrease in value. As a result, since they move differently to
changes in interest rates than the typical
investments held by a Fund, interest-only STRIPS can be used as hedging
instruments to reduce the variance of a
Fund's net asset value from its targeted option-adjusted duration.
There can be no assurance that the use of interest-
only STRIPS will be effective as a hedging technique, in which event,
a Fund's overall performance may be less than
if the Fund had not purchased the STRIPS. STRIPS will not constitute
more than 5% of a Fund's net assets.
The determination of whether certain IO and PO STRIPS issued by the U.S.
Government and backed by fixed-rate
mortgages are liquid shall be made by the Trustees in accordance with
applicable pronouncements of the SEC. At
present all other IO and PO STRIPS are treated as illiquid securities
for the purposes of the 15% limitation on
illiquid securities as a percentage of a Fund's net assets.
In addition to STRIPS issued by the U.S. Government, its agencies or
instrumentalities, the Short and Intermediate
Funds may purchase STRIPS issued by private originators of, or
investors in, mortgage loans, including depository
institutions, mortgage banks, investment banks and special purpose
subsidiaries of these entities. However, the Short
and Intermediate Funds will purchase only STRIPS that are collateralized
by mortgage-backed securities that are
issued or guaranteed by the U.S. Government or its agencies or
instrumentalities.
The Short and Intermediate Funds may invest only in stripped
mortgage-backed securities ("SMBS") which are
STRIPS represented by derivative multi-class mortgage securities.
Under no circumstances will the Short or
Intermediate Funds purchase SMBS if such purchase would cause SMBS
to exceed 5% of the assets of a Fund.
6
Zero Coupon Securities. The Funds may invest in "zero coupon"
securities, which are issued at a significant
discount from face value and pay interest only at maturity rather than at
intervals during the life of the security. Zero
coupon securities tend to be more volatile than other securities
with similar stated maturities, but which make regular
payments of either principal or interest.
A Fund is required to accrue and distribute income from zero
coupon securities on a current basis, even though it
does not receive the income currently. Thus, a Fund may have to
sell other investments to obtain cash needed to
make income distributions, which may reduce a Fund's assets and
may thereby increase its expense ratio and
decrease its rate of return.
General Characteristics and Risks of Options, Futures, Swaps, and Caps
and Floors
Options. A put option gives the purchaser of the option the right to
sell and the writer the obligation, if the
purchaser exercises his right, to buy the underlying security at the
exercise price during the option period. A call
option gives the purchaser of the option the right to buy and the
writer the obligation, if the purchaser exercises his
right, to sell the underlying security at the exercise price during
the option period. Listed options are issued by the
Options Clearing Corporation ("OCC") which guarantees the performance
of the obligations of the parties to such
options.
The purchaser of an option risks losing his entire investment in a
short period of time. If an option is not sold while
it has remaining value, or if during the life of an option the
underlying interest does not appreciate, in the case of a
call option, or depreciate, in the case of a put option, the
purchaser of such option may lose his entire investment.
On the other hand, given the same market conditions, if the potential
purchaser of a call option purchases the
underlying interest directly without purchasing a call option or if the
potential purchaser of a put option decides not
to purchase the put option, such a potential purchaser might have less
of a loss. An option purchaser does not have
the choice of "waiting out" an unexpected decrease or increase in
the underlying instrument's price beyond the
expiration date of the option. The more that an option is
out-of-the-money and the shorter its remaining term to
expiration, the greater the risk that a purchaser of the option
will lose all or part of his investment. Further, except
where the value of the remaining life of an option may be realized in the
secondary market, for an option purchase to
be profitable the market price of the underlying interest must exceed or,
as applicable, be below the exercise price by
more than the premium and transaction costs paid in connection with
the purchase of the option and its sale or
exercise.
7
A Fund's ability to close out its position as a purchaser of an
exchange-listed option is dependent upon the existence
of a liquid secondary market on option exchanges. Among the
possible reasons for the absence of a liquid secondary
market on an exchange are (i) insufficient trading interest in
certain options; (ii) restrictions on transactions imposed
by an exchange; (iii) trading halts, suspensions or other restrictions
imposed with respect to particular classes or
series of options or underlying securities; (iv) interruption of
the normal operations on an exchange; (v) inadequacy
of the facilities of an exchange or the OCC to handle current trading
volume; or (vi) a decision by one or more
exchanges to discontinue the trading of options (or a particular
class or series of options), in which event the
secondary market on that exchange (or in that class or series of
options) would cease to exist, although outstanding
options on that exchange that had been listed by the OCC as a
result of trades on that exchange would generally
continue to be exercisable in accordance with their terms.
OTC Options are purchased from or sold to dealers or
financial institutions which have entered into direct agreement
with a Fund. With OTC Options, such variables as
expiration date, exercise price and premium will be agreed upon
between the Fund and the transacting dealer,
without the intermediation of a third party such as the OCC. If the
transacting dealer fails to make or take delivery of
the securities underlying an option it has written, in accordance
with the terms of that option as written, the Fund
would lose the premium paid for the option as well as any
anticipated benefit of the transaction. OTC Options and
their underlying securities are considered illiquid. The Funds
will engage in OTC Option transactions only with
primary United States Government securities dealers recognized
by the Federal Reserve Bank of New York. The
Adviser monitors the creditworthiness of dealers with whom a Fund
enters into OTC options transactions under the
general supervision of the Fund's Board of Trustees.
The hours of trading for options on debt securities may not conform to
the hours during which the underlying
securities are traded. To the extent that the option markets close
before the markets for the underlying securities,
significant price and rate movements can take place in the
underlying markets that cannot be reflected in the option
markets.
Futures Contracts and Related Options. As a purchaser of an interest
rate futures contract, a Fund incurs an
obligation to take delivery of a specified amount of the obligation
underlying the futures contract at a specified time
in the future for a specified price or, in "cash settlement" futures
contracts, to pay to (or receive from) the seller in
cash the difference between the original price in the futures contract
and the market price of the instrument on the
specified date, if the market price is lower (or higher, as the case
may be). A futures contract sale creates an
8
obligation by a Fund, as seller, to deliver the specified type of
financial instrument called for in the contract at a
specified future time for a specified price or, in "cash settlement"
futures contracts, to pay to (or receive from) the
buyer in cash the difference between the original price in the futures
contract and the market price of the instrument
on the specified date, if the market price is higher (or lower, as
the case may be). The potential losses from
investment in futures contracts is unlimited. Options on futures
contracts are similar to options on securities except
that an option on a futures contract gives the purchaser the right
in return for the premium paid to assume a position
in a futures contract (a long position if the option is a call and short
position if the option is a put).
Although most futures contracts call for actual delivery or acceptance
of securities, the contracts usually are closed
out before the settlement date without the making or taking of
delivery. A futures contract sale is closed out by
effecting a futures contract purchase for the same aggregate amount
of the specific type of security and the same
delivery date. If the sale price exceeds the offsetting purchase price,
the seller would be paid the difference and
would realize a gain. If the offsetting purchase price exceeds the
sale price, the seller would pay the difference and
would realize a loss. Similarly, a futures contract purchase is
closed out by effecting a futures contract sale for the
same aggregate amount of the specific type of security and the same
delivery date. If the offsetting sale price exceeds
the purchase price, the purchaser would realize a gain, whereas if the
purchase price exceeds the offsetting sale price,
the purchaser would realize a loss. There is no assurance that the Short
or Intermediate Fund will be able to enter
into a closing transaction.
Initial margin in futures transactions is different from margin in
securities transactions in that initial margin does not
involve the borrowing of funds by a broker's client, but rather, a
good faith deposit on the futures contract which will
be returned to the Short or Intermediate Fund upon the proper termination
of the futures contract. The margin
deposits made are marked to market daily and the Funds may be required
to make subsequent deposits into the
segregated account, maintained at its Custodian for that purpose, or
cash, U.S. Government securities or other liquid
highgrade debt securities, called "variation margin", in the name of
the broker, which are reflective of price
fluctuations in the futures contract. Currently, interest rate futures
contracts can be purchased on debt securities such
as U.S. Treasury Bills and Bonds, Eurodollar instruments, U.S. Treasury
Notes and GNMA Certificates.
Exchanges limit the amount by which the price of a futures contract
may move on any day. If the price moves equal
the daily limit on successive days, then it may prove impossible to
liquidate a futures position until the daily limit
moves have ceased. In the event of adverse price movements, the Funds
would continue to be required to make daily
9
cash payments of variation margin on open futures positions. In such
situations, if the Funds have insufficient cash,
it may be disadvantageous to do so. In addition, the Funds may be
required to take or make delivery of the
instruments underlying interest rate futures contracts it holds at a time
when it is disadvantageous to do so. An
inability to close out options and futures positions could also have
an adverse impact on a Fund's ability to
effectively hedge its portfolio.
In the event of the bankruptcy of a broker through which the Short or
Intermediate Fund engages in transactions in
futures or options, either Fund could experience delays and/or losses
in liquidating open positions purchased or sold
through the broker and/or incur a loss of all or part of its margin
deposits with the broker. Transactions are entered
into by the Funds only with broker or financial institutions deemed
creditworthy by the Adviser.
The variable degree of correlation between price movements of futures
contracts and price movements in the
position being hedged creates the possibility that losses on the hedge
may be greater than gains in the value of a
Fund's position. In addition, futures and futures option markets may
not be liquid in all circumstances. As a result, in
volatile markets, a Fund may not be able to close out a transaction
without incurring losses substantially greater than
the initial deposit. Although the contemplated use of these contracts
should tend to minimize the risk of loss due to a
decline in the value of the hedged position, at the same time they
tend to limit any potential gain which might result
from an increase in the value of such position. The ability of the
Short or Intermediate Fund to hedge successfully
will depend on the Adviser's ability to forecast pertinent market
movements, which cannot be assured.
In order to achieve its investment objective, 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 their durations as so calculated, the hedge
may not be fully 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 securities portfolio plus or minus the
unrealized gain or loss on those open positions, adjusted for the expected
volatility relationship between the Fund
and the futures contracts based on duration calculations. If this
limitation should be exceeded at any time, the Short
or Intermediate 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.
10
Finally, the daily deposit requirements in futures contracts create a
greater ongoing potential financial risk than do
option
s transactions, where the exposure is limited to the cost of the
initial premium. Losses due to hedging
transactions may reduce net asset value. Income earned by the Short or
Intermediate Fund from its hedging activities
generally will be treated as capital gains.
In accordance with regulations established by the Commodity Futures
Trading Commission, each Fund's 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.
Interest Rate and Mortgage Swaps, Caps, Floors and Collars. Interest rate
swaps involve the exchange by a
Fund with another party of their respective commitments to pay or receive
interest, for example, an exchange of
floating-rate payments for fixed-rate payments. Mortgage swaps are
similar to interest rate swaps in that they
represent commitments to pay and receive interest. The notional
principal amount, however, is tied to a reference
pool or pools of mortgages.
The Short or Intermediate Funds will enter into interest rate swaps
only on a net basis, i.e., where the two payment
streams are netted out, with a Fund receiving or paying, as the case
may be, only the net amount of the two payments.
The purchase of an interest rate cap entitles the purchaser, to the
extent that a specified index exceeds a
predetermined interest rate, to receive payments of interest on a notional
principal amount from the party selling such
interest rate cap. The purchase of an interest rate floor entitles the
purchaser, to the extent that a specified index falls
below a predetermined interest rate, to receive payments of interest on
a notional principal amount from the party
selling such interest rate floor. An interest rate collar combines
the elements of purchasing a cap and selling a floor.
The collar protects against an interest rate rise above the maximum
amount, but gives up the benefits of an interest
rate decline below the minimum amount. There can be no assurance that
the Funds will be able to enter into interest
rate swaps, caps, floors or collars on favorable terms. Furthermore,
there can be no assurance that any of the Funds
will be able to terminate an interest rate swap or sell or offset
interest rate caps, floors or collars notwithstanding any
terms in the agreements providing for such termination.
11
Inasmuch as these hedging transactions are entered into for hedging
purposes, the Adviser and the Funds believe
swaps, caps, floors and collars do not constitute senior securities and,
accordingly, will not treat them as being
subject to its borrowing restrictions. The net amount of the excess,
if any, of a Fund's obligations over its entitlement
with respect to each interest rate swap will be accrued on a daily
basis, and an amount of cash or liquid securities
having an aggregate net asset value at least equal to the accrued
excess will be maintained in a segregated account by
a custodian that satisfies the requirements of the 1940 Act.
The Short and Intermediate Funds will not write interest rate caps,
floors and collars, and will not enter into any
interest rate swap, cap, floor or collar transaction unless the unsecured
commercial paper, unsecured senior debt or
the claims-paying ability of the other party is rated either AA or A-1
or better by Standard & Poor's or Aa or P-1 or
better by Moody's Investors Service, Inc. at the time of entering into
such transaction.
If there is default by the other party to such a transaction, the Funds
will have contractual remedies pursuant to the
agreements related to the transaction. There is no assurance that
interest-rate swap, cap, floor or collar counterparties
will be able to meet their obligations pursuant to their contracts, or
that, in the event of default, a Fund will succeed
in pursuing contractual remedies. The Funds thus assume the risk that
one of them may be delayed in or prevented
from obtaining payments owed to it pursuant to interest rate swaps,
caps, floors or collars.
The swap, cap, floor and collar market has grown substantially in recent
years with a large number of banks and
investment banking firms acting both as principals and as agents
utilizing standardized documentation. As a result,
this market has become relatively liquid, although the Funds will still
treat these instruments as illiquid investments
subject to the limitation on such investments described under "Illiquid
Securities" in the Prospectus.
INVESTMENT RESTRICTIONS
The following restrictions (except as noted) have been adopted as
fundamental policies for the Funds, which means
that they may not be changed without the approval of a majority of the
outstanding shares of each of the Funds, as
the case may be (as defined in the Investment Company Act). A Fund may
not (except that none of the following
investment restrictions shall prevent a Fund from investing all of its
assets (other than assets which are not
"investment securities" as defined in the Investment Company Act) in an
open-end investment company with
substantially the same investment objectives):
12
1. Issue senior securities, borrow money or pledge its assets, except that
the Short or Intermediate Fund may
borrow from banks or through reverse repurchase agreements or dollar rolls
up to 33 1/3% of the value of
its respective total assets (calculated when the loan is made) for
temporary, extraordinary or emergency
purposes and to take advantage of investment opportunities, and may pledge
up to 33 1/3% of the value of
its total assets to secure such borrowings. For purposes of this
restriction, the purchase or sale of securities
on a "when issued" or "delayed delivery" basis, the purchase and sale
of futures contracts, the entry into
reverse repurchase agreements and dollar roll transactions, short
sales, interest rate swaps, mortgage swaps,
over-the-counter options, and collateral arrangements with respect
thereto are not deemed to be a pledge of
assets and none of such transactions or arrangements nor obligations of
the Funds to Trustees pursuant to
deferred compensation arrangements are deemed to be the issuance of a
senior security.
2. Act as underwriter except to the extent that, in connection with the
disposition of portfolio securities, it may
be deemed to be an underwriter under certain federal securities laws.
3. Purchase any security (other than obligations of the U.S. Government,
its agencies and instrumentalities) if
as a result: (i) with respect to 75% of its total assets more than 5% of
the Short or Intermediate Fund's total
assets (determined at the time of investment) would then be invested in
securities of a single issuer, or (ii)
25% or more of a Fund's total assets (determined at the time of investment)
would be invested in one or
more issuers having their principal business activities in the same
industry.
4. Purchase the securities of any issuer which would result in owning
more than 10% of any class of the
outstanding voting securities of such issuer.
5. Purchase any security, other than Mortgage-Backed Securities,
or obligations of the U.S. Government, its
agencies or instrumentalities, if as a result the Short or Intermediate
Fund would have invested more than
5% of its respective total assets in securities of issuers (including
predecessors) having a record of less than
three years of continuous operation; except for investments in
regulated investment companies with the
same objective.
6. Acquire, lease or hold real estate. (Does not preclude investments
in securities collateralized by real estate
or interests therein.)
7. Purchase or sell commodities or commodity contracts except for
hedging purposes.
8. Invest in interests in oil, gas or other mineral exploration or
development program.
13
9. Invest in companies for the purpose of exercising control or management.
10. Purchase securities of other investment companies, except to the
extent permitted by the Investment
Company Act.
11. Make loans of money or property to any person, except through loans
of portfolio securities to Qualified
Institutions, the purchase of debt obligations in which the Short or
Intermediate Fund may invest
consistently with its investment objectives and policies and investment
limitations or the investment in
repurchase agreements with Qualified Institutions. The Short or
Intermediate Fund will not lend portfolio
securities if, as a result, the aggregate of such loans exceeds 33 1/3%
of the value of a Fund's respective
total assets (including such loans).
12. Purchase securities on margin (though the Short or Intermediate
Fund may obtain such short-term credits as
may be necessary for the clearance of transactions); provided that the
deposit or payment by a Fund of
initial or variation margin in connection with options or futures
contracts is not considered the purchase of a
security on margin.
13. Make short sales of securities or maintain a short position if, when
added together, more than 25% of the
value of the Short or Intermediate Fund's net assets would be (i)
deposited as collateral for the obligation to
replace securities borrowed to effect short sales, and (ii) allocated to
segregated accounts in connection with
short sales. Short sales "against-the box" are not subject to this
limitation.
Whenever any fundamental investment policy or investment restriction
states a maximum percentage of assets, it is
intended that if the percentage limitation is met at the time the investment
is made, a later change in percentage
resulting from changing total or net asset values will not be considered
a violation of such policy. However, in the
event that the asset coverage for borrowings falls below 300%, the Funds
will take prompt action to reduce its
borrowings as required by applicable laws.
In order to change any of the foregoing restrictions, which are fundamental
policies, approval must be obtained by
shareholders of the Short or Intermediate Fund, as the case may be.
Such approval requires the affirmative vote of
the lesser of (i) 67% or more of the voting securities present at a meeting
if the holders of more than 50% of voting
securities are represented at that meeting or (ii) more than 50% of the
outstanding voting securities of either the
Short or Intermediate Fund.
In addition, as non-fundamental policies, a Fund may not:
(a) sell over-the-counter options which it does not own;
14
(b) sell options on futures contracts which options it does not own; or
(c) invest in residual interests in a REMIC or a CMO.
Other Policies
There are no restrictions or limitations on investments in obligations of
the United States, or of corporations
chartered by Congress as federal government instrumentalities. The
underlying assets of the Short or Intermediate
Fund may be retained in cash, including cash equivalents which are
Treasury bills, short-term bank obligations such
as certificates of deposit, bankers' acceptances and repurchase agreements.
However, it is intended that only so much
of the underlying assets of the Short or Intermediate Fund be retained
in cash as is deemed desirable or expedient
under then-existing market conditions. As noted in the Prospectus, a
Fund may invest up to 15% of its respective
total net assets in illiquid securities.
TRUSTEES AND OFFICERS
The Board of Trustees has the responsibility for the overall management
of the Series Fund and each of the Funds,
including general supervision and review of the Funds' investment
activities. The Trustees, in turn, elect the officers
who are responsible for administering the day-to-day operations of the
Funds. Trustees and officers of the Series
Fund are identified in the Prospectus.
All of the Trustees are Trustees of all the other Funds managed by the
Adviser and each independent Trustee
receives fees for his or her services. The Trustees do not receive pension
or retirement benefits from the Funds. The
table below shows the fees paid by each of the Funds of the Smith Breeden
Series Fund separately to each
independent Director for the fiscal year ended March 31, 1999, and the
total fees paid by the entire Fund complex
for the fiscal year ended March 31, 1999. There is one other Fund in
the complex besides the Short Duration U.S.
Government Fund and the Intermediate Duration U.S. Government Fund.
Total Compenstion Total Compensation Total Compensation
Paid by Paid by Paid by Smith
Director Short Fund Intermediate Fund Breeden Fund Complex
Stephen M. Schafer $ 0.00 $ 35,000.00 $ 70,000.00
Myron S. Scholes $ 70,000.00 $ 0.00 $ 70,000.00
William F. Sharpe $ 0.00 $ 0.00 $ 70,000.00
15
The Series Fund's Declaration of Trust provides that it will indemnify
its Trustees and officers against liabilities and
expenses incurred in connection with litigation in which they may be
involved because of their offices with the Series
Fund, unless it is determined that they had acted with willful misfeasance,
bad faith, gross negligence or reckless
disregard of the duties involved in their offices, or had not acted in
good faith in the reasonable belief that their
actions were in the best interests of the Series Fund or the Funds.
INVESTMENT ADVISORY AND OTHER SERVICES
The investment manager of each of the Funds is Smith Breeden Associates,
Inc. (the "Adviser"). The table in the
Prospectus indicates which officers and Trustees are affiliated persons of
the Adviser.
Pursuant to an Investment Advisory Agreement with each of the Funds (the
"Advisory Agreement"), the Adviser
provides investment research and portfolio management services, including
the selection of securities to purchase,
hold or sell, and the selection of brokers and dealers through whom
portfolio transactions are executed. The
Adviser's activities are subject to the review and supervision of the
Board of Trustees to whom the Adviser renders
periodic reports of both Funds' investment activities. The Adviser, at
its own expense, furnishes the Funds with office
space and office furnishings, facilities and equipment required for
managing the business affairs of the Funds;
maintains all internal bookkeeping, clerical, secretarial and administrative
personnel and services; carries fidelity
insurance on its own officers and directors for the protection of the Funds;
and provides certain telephone and other
mechanical services. Each of the Funds bears all expenses related to its
operation not borne by the Adviser, as
discussed in the Prospectus.
Each Advisory Agreement is in effect until August 1, 2000. Thereafter,
it may continue in effect for successive
periods not exceeding one year, providing such continuance is
specifically approved at least annually by a vote of the
Funds' Board of Trustees or by a vote of the holders of a majority of
each of the Funds' outstanding voting securities,
and in either event by a majority of the Fund's Trustees who are not
parties to the Agreement or interested persons of
any such party (other than as Trustees of the Fund), cast in person at
a meeting called for that purpose. Each
Advisory Agreement may be terminated without penalty at any time by each
Fund, or by the Adviser on sixty days'
written notice and will automatically terminate in the event of its
assignment as defined in the Investment Company
Act. The Advisory Agreement provides that the Adviser will not be
liable for any error of judgment or for any loss
suffered by either Fund in connection with matters to which the
Advisory Agreement relates, except a loss resulting
from willful misfeasance, bad faith gross negligence or reckless
disregard of duty.
16
As compensation for the services rendered to each of the Funds by the
Adviser under the terms of the Advisory
Agreement, and the assumption by the Adviser of the related expenses,
each Fund pays the Adviser a fee, computed
daily and payable monthly, at an annual rate equal to 0.70% of the
respective Fund's average daily net asset value.
Advisory fees paid by the Funds for the past three fiscal years are
as follows:
Advisory Fee Paid by Advisory Fee Paid by
Fiscal Year Ended Short Fund Intermediate Fund
March 31, 1999 $ 508,343 $ 355,620
March 31, 1998 $ 727,735 $ 271,230
March 31, 1997 $ 1,417,921 $ 259,767
The following chart details the reimbursements the Adviser made to the
Funds for each of the last three fiscal years,
under expense limitation provisions:
Amount Reimbursed Amount Reimbursed
Fiscal Year Ended by Adviser to by Adviser to
Short Fund Intermediate Fund
March 31, 1999 $ 155,616 $ 83,434
March 31, 1998 $ 231,365 $ 97,835
March 31, 1997 $ 301,998 $ 101,379
Under the terms of its Advisory agreement with each of the Funds, the
Adviser also provides certain administrative
services. First Data Investor Services, Inc. is the shareholder servicing,
accounting, transfer and dividend paying
agent. Each of the Funds pays its own expenses, including, but not
limited to auditing, legal, tax preparation and
consulting, insurance, custodial, accounting, shareholder servicing
and shareholder report expenses. Fees paid to
First Data Investor Services are determined by contract as approved
by the Trustees.
Bank of New York, 48 Wall Street, New York, NY, 10286 acts as custodian
of the securities and other assets of each
of the Funds. A custodian's responsibilities include generally
safeguarding and controlling a Fund's cash and
securities, handling the receipt and delivery of securities, and collecting
interest and dividends on a Fund's
investments. The custodian does not participate in decisions relating to
the purchase and sale of portfolio securities.
Deloitte & Touche, 117 Campus Drive, Princeton, New Jersey 08540, are
the Funds' independent auditors, providing
audit services, tax return preparation and other tax consulting services,
and assistance and consultation in connection
with the review of various Securities and Exchange Commission filings.
Ropes & Gray, One International Place,
Boston, Massachusetts, 02110-2624, are legal counsel to the Series Fund
and each of the Funds.
17
PRINCIPAL HOLDERS OF SECURITIES AND CONTROLLING PERSONS
Listed below are the names and addresses of those shareholders who,
to the Short Fund's best knowledge, as of
June 30, 1999, owned 5% or more of the shares of the Fund.
Charles Schwab & Co.
For the Beneficial Ownership of Its Accountholders
101 Montgomery Street
San Francisco, CA 94104 37.64%
Pacific Mutual Door Company
1525 West 31st Street
Kansas City, MO 64108 6.24%
Webster Financial
PO BOX 191
Waterbury, CT 06720 6.23%
Redland Insurance Company
535 West Broadway
Council Bluffs, IA 51503 5.68%
Harris Regional Hospital
59 Hospital Road
Sylva, NC 28779 5.28%
The Officers and Trustees of the Short Fund together as a group owned less
than 1.00% of the shares of the Short
Duration Fund as of June 30, 1999.
Listed below are the names and addresses of those shareholders, who as
of June 30, 1999, to the best knowledge of
the Intermediate Fund, owned 5% or more of shares of the Fund.
Charles Schwab & Co.
For the Beneficial Ownership of Its Accountholders
101 Montgomery Street
San Francisco, CA 94104 53.02%
Webster Bank
145 Bank Street
Webster Plaza
Waterbury, CT 06720 29.56%
The Officers and Trustees of the Intermediate Fund together as a group
owned less than 1.00% of the shares of the
Fund as of June 30, 1999.
18
Potential Conflicts of Interest
Principals of the Adviser as individuals own approximately 70% of the
common stock of Harrington Financial
Group, the holding company for Harrington Bank, FSB (the "Bank"). The
Bank invests in assets of the same types as
those to be held by the Funds.
Douglas T. Breeden, in combination with immediate family members, controls
over 75% of the common stock of
Community First Financial Group, Inc. ("CFFG"), the holding company for
certain banks and thrifts to which the
Adviser renders certain Investment Advisory Services. CFFG and its
subsidiaries invest in assets of the same types
as those to be held by the Funds.
19
The Adviser may also manage advisory accounts with investment objectives
similar to or the same as those of the
Short or Intermediate Fund, or different from both Funds, but trading
in the same type of securities and instruments.
Portfolio decisions and results of both Funds' investments may differ
from those of such accounts managed by the
Adviser. When two or more accounts managed by the Adviser seek to purchase
or sell the same assets, the assets
actually purchased or sold may be allocated among the accounts on a
basis determined by the Adviser in its good
faith discretion to be equitable. In some cases, this system may
adversely affect the size or the price of the position
obtainable for the Short or Intermediate Fund.
POLICIES REGARDING BROKERS USED IN PORTFOLIO TRANSACTIONS
Under the Advisory Agreement, the selection of brokers and dealers
to execute transactions on behalf of a Fund is
made by the Adviser in accordance with criteria set forth in the Advisory
Agreement and any directions which the
Board of Trustees may give. However, each of the Funds does not
anticipate that it will incur a significant amount of
brokerage expense because brokerage commissions are not normally
incurred on investments in Mortgage Securities,
which are generally traded on a "net" basis; that is, in principal
amounts without the addition or deduction of
brokerage commissions. The following table details the brokerage
commissions paid by the Funds for the last three
fiscal years:
Brokerage Commissions Brokerage Commissions
Fiscal Year Ended Paid By Short Fund Paid By Intermediate Fund
March 31, 1999 $ 16,929 $ 5,999
March 31, 1998 $ 25,408 $ 2,038
March 31, 1997 $ 51,367 $ 4,203
19
When placing a portfolio transaction, the Adviser attempts to obtain the
best net price and execution of the
transaction. On portfolio transactions that are done on a securities
exchange, the amount of commission paid by the
Short or Intermediate Fund is negotiated between the Adviser and the
broker executing the transaction. The Adviser
seeks to obtain the lowest commission rate available from brokers that
are felt to be capable of efficient execution of
the transactions. The determination and evaluation of the reasonableness
of the brokerage commissions paid in
connection with portfolio transactions are based to a large degree on
the professional opinions of the persons
responsible for the placement and review of such transactions. These
opinions are formed on the basis of, among
other things, the experience of these individuals in the securities
industry and information available to them
concerning the level of commissions being paid by other institutional
investors of comparable size.
Securities may be purchased directly from issuers or from underwriters.
Where possible, purchase and sale
transactions will be effected through dealers (including banks) which
specialize in the types of securities which the
Funds will be holding, unless better executions are available elsewhere.
Dealers and underwriters usually act as
principals for their own account. Purchases from underwriters will
include a concession paid by the issuer to the
underwriter, and purchases from dealers will include the spread between
the bid and the asked price. No broker or
dealer affiliated with the Funds or with the Adviser may purchase
securities from, or sell securities to, the Funds.
When it is felt that several brokers or dealers are equally able to
provide the best net price and execution, the Adviser
may decide to execute transactions through brokers or dealers who
provide quotations and other services to the Short
or Intermediate Fund, specifically including the quotations necessary
to determine each of the Fund's net assets, in
such amount of total brokerage as may reasonably be required in light
of such services, and through brokers and
dealers who supply statistical and other data to both Funds in such
amount of total brokerage as may reasonably be
required.
The Adviser conducts extensive proprietary fixed income research
with emphasis on mortgage-backed securities.
The Adviser is not dependent on any broker for such research and
analysis and, thus is able to transact business with
brokers regardless of the brokers' research capabilities or provision
of such research to brokerage customers. The
Adviser uses multiple electronic quotation services for trading
and pricing purposes. The Adviser pays for these
services directly out of its advisory fees. The Adviser is not involved
in any soft dollar arrangements. The Adviser
does utilize broker pricing guidance for certain assets not
consistently available through electronic quotation
services.
20
ADDITIONAL INFORMATION REGARDING PURCHASES AND REDEMPTIONS OF FUND SHARES
All checks, drafts, wires and other payment mediums used for purchasing
or redeeming shares of either of the Funds
must be denominated in U.S. Dollars. Each Fund reserves the right, in
its sole discretion, to either (a) reject any
order for the purchase or sale of shares denominated in any other
currency, or (b) to honor the transaction or make
adjustments to shareholder's account for the transaction as of a date
and with a foreign currency exchange factor
determined by the drawee bank. Dividend checks which are returned
to a Fund marked "unable to forward" by the
postal service will be deemed to be a request to change the dividend
option and the proceeds will be reinvested in
additional shares at the current net asset value until new instructions
are received.
Redemptions in Kind
The Funds have committed themselves to pay in cash all requests for
redemption by any shareholder of record,
limited in amount, however, during any 90-day period to the lesser of
$250,000 or 1% of the value of either Fund's
net assets at the beginning of such period. Such commitment is
irrevocable without the prior approval of the
Securities and Exchange Commission. In the case of requests for
redemption in excess of such amounts, the Trustees
reserve the right to make payments in whole or in part in securities
or other assets of either of the Funds in case of an
emergency, or if the payment of such redemption in cash would be
detrimental to the existing shareholders of either
of the Funds. In such circumstances, the securities distributed would
be valued at the price used to compute the
Short or Intermediate Fund's net assets. Should the Short or
Intermediate Fund do so, a shareholder may incur
brokerage fees or other transaction costs in converting the securities
to cash.
Principal Underwriter
First Data Distributors, Inc. (the "Principal Underwriter"), 4400 Computer
Drive, Westborough, MA, 01581, is the
principal underwriter for the Funds and will act on a best efforts basis.
First Data Distributors, Inc. is registered as a
broker-dealer under the Securities Exchange Act of 1934 and is a
member of the National Association of Securities
Dealers, Inc. The offering of the Funds' shares is continuous.
The underwriting agreement with the Principal Underwriter provides that
each Fund will pay all fees and expenses in
connection with: registering and qualifying its shares under the various
state "blue sky" laws; preparing, setting in
type, printing, and mailing its prospectuses and reports to shareholders;
and issuing its shares, including expenses of
confirming purchase orders. (See the description of the Distribution
Plan in the Prospectus). The Principal
Underwriter acts as the agent of both the Funds in connection with the
sale of their shares in all states in which the
21
shares are qualified and in which the Principal Underwriter is qualified
as a broker-dealer. Under the underwriting
agreement, the Principal Underwriter may accept orders for either Fund's
shares at the offering price. The Principal
Underwriter may enter into agreements with other broker-dealers for the
sale of Short or Intermediate Fund shares by
them.
The Principal Underwriter is paid approximately $15,000 in total by the
Adviser for its services to the two Funds. In
addition, for the year March 31, 1999, the Principal Underwriter received
no sales charges or commissions.
Calculation of Net Asset Value
As noted in the Prospectus, the Funds will generally calculate their
net asset value as of the close of trading each
Monday through Friday that the Adviser and Transfer Agent are open for
business and sufficient trading takes place
to impact the value of the Short or Intermediate Fund assets. As of the
date of this Statement, current holiday
schedules indicate that the net asset value will not be calculated on:
New Year's Day, Presidents' Day, Dr. Martin
Luther King Jr. Day, Good Friday, Memorial Day, Independence Day, Labor
Day, Columbus Day, Veteran's Day,
Thanksgiving Day, and Christmas Day.
Reinvestment Date
The dividend reinvestment date is the date on which the additional shares
are purchased for the investor who has his
dividends reinvested. This date will vary from month to month and is
not necessarily the same date as the record
date or the payable date for cash dividends.
Ownership and Authority Disputes
In the event of disputes involving multiple claims of ownership or
authority to control a shareholder's account, each
Fund has the right (but no obligation) to (a) require the written
agreement of all persons deemed by the Fund to have
a potential property interest in the account, prior to executing
instructions regarding the account; (b) interplead
disputed funds or account with a court of competent jurisdiction,
or (c) surrender ownership of all or a portion of the
account to the Internal Revenue Service in response to a Notice of
Levy.
TAXES
Taxation of the Funds
For federal income tax purposes, each of the Funds will be treated as a
separate corporation. Each of the Funds
intends to qualify each year and elects to be treated as regulated
22
investment companies ("RICs") for federal income
tax purposes. To so qualify, the Funds must, among other things: (i)
derive at least 90% of their gross income for
each taxable year from dividends, interest, payments with respect to
loans of securities and gains from the sale or
other disposition of securities or certain other related income; and (ii)
diversify their holdings so that at the end of
each quarter of the taxable year (A) at least 50% of the value of each of
the Fund's assets would be represented by
cash, U.S. Government securities, securities of other RICs, and other
securities which, with respect to any one issuer,
do not represent more than 5% of the value of each of the Fund's assets
nor more than 10% of the voting securities of
such issuer and (B) not more than 25% of the value of each of the Fund's
assets are invested in the securities of any
one issuer (other than U.S. Government securities or the securities of
other RICs).
If the Funds qualify as RICs and distribute to their shareholders at least
90% of their net investment income
(including tax-exempt interest and net short-term capital gain but not
net capital gain, which is the excess of net long-
term capital gains over net short term capital losses), then the Funds
will not be subject to federal income tax on the
income so distributed. However, the Funds will be subject to corporate
income tax on any undistributed income. In
addition, either of the Funds would be subject to a nondeductible 4%
excise tax on the amount by which the income
it distributed in any calendar year would be less than a minimum
distribution amount. The minimum distribution
amount required to avoid the excise tax for a calendar year equals the sum
of (i) 98% of a Fund's ordinary income
(excluding tax-exempt interest income) for such calendar year; (ii) 98% of
the excess of capital gains over capital
losses for the one year period ending on October 31 of each year; and (iii)
100% of the undistributed ordinary
income and gains from prior years. For purposes of the excise tax, any
income or capital gains retained by, and
taxed in the hands of, either of the Funds will be treated as having
been distributed.
Both Funds intend to distribute sufficient income so as to avoid corporate
income tax and excise tax. The Short Fund
may be subject to a 4% excise tax to the extent that the amount of
ordinary income distributed during the calendar
year is less than 98% of the ordinary income (excluding tax-exempt
interest income) for the year. The Short Fund
will endeavor to pay dividends in such a manner that an excise tax will
not be incurred. The Short Fund also may
elect to retain all or a portion of its net capital gain, as described
under "Taxation of Shareholders Distributions"
below.
Any capital losses resulting from the disposition of securities can be used
only to offset capital gains and cannot be
used to reduce a Fund's ordinary income. Such capital losses may be carried
forward for eight years. If any capital
losses have not been utilized at the time a Fund terminates, such capital
losses will become unusable.
23
Taxation of Shareholders
Distributions. In general, all distributions to shareholders attributable
to the Short or Intermediate Fund's net
investment income (including any tax-exempt interest income distributed)
will be taxable as ordinary dividend
income whether paid in cash or in additional shares.
To the extent either of the Funds does realize net capital gains, it
intends to distribute such gains at least annually and
designate them as capital gain dividends. Capital gain dividends are
taxable as capital gains, whether paid in cash or
in additional shares, regardless of how long the shares have been held.
The Short or Intermediate Fund may elect to
retain net capital gains and pay corporate income tax thereon. In such
event, the Short or Intermediate Fund would
most likely make an election that would require each shareholder of
record on the last day of the Fund's taxable year
to include in income for tax purposes his proportionate share of the
Fund's undistributed net capital gain. If such an
election is made, each shareholder would be entitled to credit his
proportionate share of the tax paid by the Fund
against his federal income tax liabilities and to claim refunds to
the extent that the credit exceeds such liabilities. In
addition, the shareholder would be entitled to increase the basis of
his shares for federal tax purposes by an amount
equal to 66% of his proportionate share of the undistributed net capital
gain.
Shareholders receiving distributions in the form of additional shares
will be treated for federal income tax purposes
as receiving an equivalent amount of cash. In general, the basis of such
shares will equal the amount of cash that the
shareholder would have received if he had elected to receive distributions
in cash.
Liquidating distributions which, in the aggregate, exceed a shareholder's
basis in shares will be treated as gain from
the sale of shares. If a shareholder receives, in the aggregate, liquidating
distributions which are less than such basis,
such shareholder will recognize a loss to that extent. Dividends and
other distributions by either the Short or
Intermediate Fund are generally taxable to the shareholders at the time
the dividend or distribution is made.
If a shareholder purchases shares at a cost that reflects an anticipated
dividend, such dividend will be taxable even
though it represents economically a return of part of the purchase
price. Investors should consider the tax
implications of buying shares shortly prior to a distribution.
24
Sale or Redemption of Shares. The sale, exchange, or redemption of Fund
shares may give rise to a gain or loss.
In general, any gain or loss realized upon a taxable disposition of
shares will be treated as long-term capital gain or
loss if the shares have been held for more than one year. Otherwise
the gain or loss on the sale, exchange or
redemption of Fund shares generally will be treated as short-term capital
gain or loss. In addition, any loss (not
already disallowed as provided in the next sentence) realized upon a
taxable disposition of shares held for six months
or less will be treated as long-term, rather than short-term, to the
extent of any long-term capital gain distributions
received by the shareholder with respect to the shares. All or a
portion of any loss realized upon a taxable
disposition of Fund shares will be disallowed if other Fund shares
are purchased within 30 days before or after the
disposition. In such a case, the basis of the newly purchased shares
will be adjusted to reflect the disallowed loss.
Tax-Exempt Investors. If a shareholder that is a benefit plan
investor (e.g., an individual retirement account,
pension plan 401(k) plan, or Keogh plan) or charitable organization
(a "Tax Exempt Investor") incurs debt to finance
the acquisition of its shares, a portion of the income received by
the Tax-Exempt Investor with respect to its shares
would constitute unrelated business taxable income ("UBTI"). In
that case, the UBTI portion of the Tax Exempt
Investor's income from its investment in the Short or Intermediate
Fund for the year would equal the total income
recognized by the Tax-Exempt Investor in that year multiplied by
the ratio of the Tax-Exempt Investor's average
acquisition debt balance to the average tax basis of its shares for
the year. A Tax Exempt Investor is generally
subject to federal income tax to the extent that its UBTI for a
taxable year exceeds its annual $1,000 exclusion.
Tax Consequences of Certain Fund Investments
Hedging Transactions. Each of the Funds intends to engage in various
hedging transactions. Under various
provisions of the Code, the result of such investments and transactions
may be to change the character of recognized
gains and losses, accelerate the recognition of certain gains and
losses, and defer the recognition of certain losses.
For example, the tax treatment of futures contracts entered into by
a Fund as well as listed nonequity options written
or purchased by a Fund on U.S. exchanges (including options on debt
securities and options on futures contracts)
will be governed by section 1256 of the Code. Absent a tax election
for "mixed straddles" (described below), each
such position held by a Fund on the last business day of each taxable
year will be marked to market (i.e., treated as if
it were closed out), and all resulting gain or loss will be treated
as 60% long term capital gain or loss and 40% short-
25
term capital gain or loss, with subsequent adjustments made to any gain
or loss realized upon an actual disposition of
such positions (currently, the 60% long-term portion will be treated as
if held for more than 12 months). When a
Fund holds an option or contract governed by section 1256 which
substantially diminishes the Fund's risk of loss
with respect to another position of its Portfolio not governed by
section 1256 (as might occur in some hedging
transactions), that combination of positions generally will be a
"mixed straddle" that is subject to the straddles rules
of section 1092 of the Code. The application of Section 1092 might
result in deferral of losses, adjustments in the
holding periods of a Fund's securities and conversion of short term
capital losses into long-term capital losses. Either
Fund may make certain tax elections for its "mixed straddles" that
could alter certain effects of section 1256 or
section 1092.
Tax Implications of Certain Investments. Certain of a Fund's
investments, including investments in stripped
securities, will create taxable income in excess of the cash they
generate. In such cases, a Fund may be required to
sell assets (including when it is not advantageous to do so) to generate
the cash necessary to distribute to its
shareholders all of its income and gains and therefore to eliminate any
tax liability at the Fund level.
The character of the Short or Intermediate Fund's taxable income will,
in most cases, be determined on the basis of
reports made to the Funds by the issuers of the securities in which
they invest. The tax treatment of certain securities
in which a Fund may invest is not free from doubt and it is possible
that an IRS examination of the issuers of such
securities could result in adjustments to the income of a Fund. The
foregoing discussion is a general summary of
certain of the current federal income tax laws regarding both Funds
and investors in the shares.
THE TAX DISCUSSION SET FORTH ABOVE IS A SUMMARY INCLUDED FOR GENERAL
INFORMATION
PURPOSES ONLY. EACH SHAREHOLDER IS ADVISED TO CONSULT ITS OWN TAX
ADVISER WITH
RESPECT TO THE SPECIFIC TAX CONSEQUENCES TO IT OF AN INVESTMENT IN
A FUND,
INCLUDING THE EFFECT AND APPLICABILITY OF STATE, LOCAL, FOREIGN, AND
OTHER TAX LAWS
AND THE POSSIBLE EFFECTS OF CHANGES IN FEDERAL OR OTHER TAX LAWS.
THIS DISCUSSION IS
NOT INTENDED AS A SUBSTITUTE FOR CAREFUL TAX PLANNING.
STANDARD PERFORMANCE MEASURES
Performance
As noted in the Prospectus, a Fund may from time to time quote various
performance figures to illustrate its past
performance. It may occasionally cite statistics to reflect its
volatility or risk.
26
Performance quotations by investment companies are subject to rules
adopted by the Securities and Exchange
Commission ("SEC"). These rules require the use of standardized
performance quotations, or alternatively, that
every non-standardized performance quotation furnished by a Fund be
accompanied by certain standardized
performance information computed as required by the SEC. Current yield
and average annual compounded total
return quotations used by a Fund are based on the standardized methods
of computing performance mandated by the
SEC. An explanation of those and other methods used by a Fund to
compute or express performance follows.
Total Return
The average annual total return is determined by finding the average
annual compounded rates of return over one,
five, and ten year periods (or for the life of a Fund, if shorter)
that would equate an initial hypothetical $1000
investment to its ending redeemable value. The calculation assumes no
sales charge is deducted from the initial
$1000 purchase order, capital gains and all income dividends are
reinvested at net asset value on the reinvestment
dates during the period. The quotation assumes the account was
completely redeemed at the end of each one, five
and ten year period and the deduction of all applicable charges
and fees.
A Fund's average annual compounded rate of return is determined by reference
to a hypothetical $1000 investment,
according to the following formula:
P(1+T)n = ERV
where:
P = a hypothetical initial payment of $1000
T = average annual total return
n = number of years
ERV = ending redeemable value of a hypothetical $1000
payment made at the beginning of the 1, 5, or 10
year periods at the end of said 1, 5, or 10
year periods (or fractional portion thereof).
As discussed in the Prospectus, a Fund may quote total rates of return in
addition to its average annual total return.
Such quotations are computed in the same manner as a Fund's average
annual compounded rate, except that such
quotations will be based on a Fund's actual aggregate return for a
specified period as opposed to its average return
over certain periods.
27
Yield
Current yield reflects the income per share earned by a Fund's portfolio
investments. Current yield is determined by
dividing the net investment income per share earned during a 30 day
base period by the offering price or net asset
value per share, as the case may be, on the last day of the period
and analyzing the result, according to the following
formula:
Yield = 2 [(a-b + 1)6 -1]
cd
where:
a = dividends and interest earned during the period.
b = expenses accrued for the period (net of
reimbursements).
c = the average daily number of shares outstanding
during the period that were entitled to receive
dividends.
d = the maximum offering price or net asset value per
share, as the case may be, on the last day of the
period.
The following table shows the average annual total return for the periods
stated, and yield for the Funds for the 30-
day period ended March 31, 1999.
Average Annual Total Return
One Year Five Years Inception 30-Day Yield
Short Fund 4.83% 5.83% 5.50% 5.50%
Intermediate Fund 5.73% 7.59% 8.10% 5.34%
The investment results of the Funds, like all others, fluctuate over time.
Thus, performance figures should not be
considered to represent what an investment may earn in the future or what
the Short or Intermediate Fund's yield or
total return may be for any future period.
Current Distribution Rate
Yield, which is calculated according to a formula prescribed by the SEC,
is not indicative of the amounts which will
be paid to a Fund's shareholders. Amounts paid to shareholders are
reflected in the quoted "current distribution
rate." The current distribution rate is computed by dividing the total
amount of dividends, excluding long-term
capital gains, per share paid by a Fund during the past twelve months by
its current net asset value. Under certain
circumstances, such as when there has been a change in the amount of
dividend payout, or a fundamental change in
investment policies, it might be appropriate to annualize the dividends
paid over the period such policies were in
effect, rather than using the dividends during the past twelve months.
28
The current distribution rate differs from the
current yield computation because it may include distributions to
shareholders from sources other than dividends and
interest, such as short-term capital gains and net equalization credits
and is calculated over a different period of time.
Volatility
Occasionally statistics may be used to specify a Fund's volatility or risk.
Measures of volatility or risk are generally
used to compare fund net asset value or performance relative to a market
index. One measure of volatility is beta.
The ratio of the expected excess return on a Fund to the expected
excess return on the market index is called beta.
Equity funds commonly use the S&P 500 as their market index. A beta
of more than 1.00 indicates volatility greater
than the market, and a beta of less that 1.00 indicates volatility less
than the market. Another measure of volatility or
risk is standard deviation. Standard deviation is used to measure
variability of net asset value or total return around
an average, over a specified period of time. The premise is that greater
volatility connotes greater risk undertaken in
achieving performance.
A statistic often used by sophisticated institutional investors when
comparing the relative performance of portfolios
is the Sharpe Ratio. This statistic is a Fund's excess return (relative
to T-Bills) divided by the standard deviation of
its returns.
Comparisons and Advertisements
To help investors better evaluate how an investment in a Fund might satisfy
their objective, advertisements regarding
either of the Funds may discuss various measures of a Fund's performance
as reported by various financial
publications. Advertisements may also compare performance (as calculated
above) to performance as reported by
other investments, indices, and averages. The following publications,
indices, and averages may be used:
a) Lipper-Mutual Fund Performance Analysis, Lipper-Fixed Income Analysis,
and Lipper-Mutual Fund
Indices - measures total return and average current yield for the mutual
fund industry and rank individual
mutual fund performance over specified time periods assuming reinvestment
of all distributions, exclusive
of sales charges.
b) CDA Mutual Fund Report, published by CDA Investment Technologies, Inc.
- - analyzes price, current yield,
risk, total return, and average rate of return (average annual compounded
growth rate) over specified time
periods for the mutual fund industry.
c) Mutual Fund Source book, published by Morningstar, Inc. - analyzes
price, yield, risk, and total return for
equity and fixed income funds.
29
d) Financial publications: Barron's, Business Week, Changing Times,
Financial World, Forbes, Fortune, and
Money magazines - rate fund performance over specified time periods.
e) Consumer Price Index (or Cost Of Living Index), published by the
U.S. Bureau of Labor Statistics - a
statistical measure of change, over time, in the price of goods and
services, in major expenditure groups.
f) Stocks, Bonds, Bills, and Inflation, published by Ibbotson Associates -
a historical measure of yield, price,
and total return for common and small company stock, long-term government
bonds, treasury bills, and
inflation.
g) Savings and Loan Historical Interest Rates - as published in the
U.S. Savings & Loan League Fact Book.
h) Salomon Brothers Broad Bond Index - measures yield, price, and
total return for Treasury, Agency,
Corporate, and Mortgage bonds. All issues mature in one year or more and
have at least $50 million
outstanding, with the exception of mortgages. The entry criteria for
mortgage issues is $200 million for
each coupon.
i) Salomon Brothers Mortgage Index - measures only the mortgage component
of the Salomon Brothers
Broad Bond Index.
j) Salomon Brothers Composite High Yield Index or its component
indices - measures yield, price and total
return for Long-Term High Yield Index, Intermediate Term High Yield Index,
and Long-Term Utility High
Yield Index.
k) Lehman Brothers Aggregate Bond Index or its component indices - measures
yield, price and total return
for Treasury, Agency, Corporate, Mortgage, and Yankee bonds.
l) Lehman Brothers Government/Corporate Bond Index.
m) Standard & Poor's Bond Indices - measure yield and price of
Corporate, Municipal, and Government bonds.
n) Other taxable investments including certificates of deposit (CD's),
money market deposit accounts
(MMDA's), checking accounts, savings accounts, money market mutual funds,
repurchase agreements, and
government securities.
o) Historical data supplied by the research departments of Lehman
Brothers, First Boston Corporation,
Morgan Stanley, Salomon Brothers, Merrill Lynch, Goldman Sachs, Prudential
Securities and Donaldson
Lufkin and Jenrette.
30
p) Donoghues's Money Fund Report - industry averages for 7-day annualized
and compounded yields of
taxable, taxfree and government money funds.
q) Total returns and yields for Treasury Securities and fixed income
indices as published by Ryan Laboratories
or other suppliers.
In assessing such comparisons of performance, an investor should keep in
mind that the composition of the
investments in the reported indices and averages is not identical, and in
some cases is very different, to a Fund's
portfolio, that the averages are generally unmanaged and that the items
included in the calculations of such averages
may not be identical to the formula used by a Fund to calculate its figures.
In addition, there can be no assurance that
a Fund will continue its performance as compared to such other averages.
Shareholders should note that the investment results of the Short or
Intermediate Fund will fluctuate over time, and
any presentation of a Fund's current yield or total return for any period
should not be considered as a representation
of what an investment may earn or what a shareholder's yield or total
return may be in any future period.
Shareholders should also note that although the Funds believe that there
are substantial benefits to be realized by
investing in its shares, such investments also involve certain risks.
(See "Investment Objectives and Policies of the
Fund Risks of Mortgage Securities" in the Funds' Prospectus).
ADDITIONAL INFORMATION FOR INSTITUTIONAL INVESTORS
As the investments permitted to the Funds are primarily in mortgage
securities issued or guaranteed by the U.S.
Government or its agencies and instrumentalities, the shares of either
the Short or Intermediate Fund may be eligible
for investment by federally chartered credit unions, federally chartered
thrifts, and national banks. Either of the
Funds may be a permissible investment for certain state chartered
institutions as well, including state and local
government authorities and agencies. Any financial institution or agency
considering an investment in either of the
Funds should refer to the applicable laws and regulations governing its
operations in order to determine if a Fund is a
permissible investment.
EXPERTS
The annual financial statements of both the Short and Intermediate Funds
and related notes thereto attached to this
Statement of Additional Information have been so attached in reliance
upon the report of Deloitte & Touche LLP,
independent auditors, given in authority of said firm as experts in
auditing and accounting.
31
FINANCIAL STATEMENTS
The audited annual financial statements of the Funds are attached and
follow the Appendix.
APPENDIX
Description of Moody's Investors Service, Inc.'s corporate bond ratings:
Aaa - Bonds which are rated Aaa are judged to be of the best quality.
They carry the smallest degree of
investment risk and are generally referred to as "gilt edged." Interest
payments are protected by a
large or 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.
32
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 have
speculative characteristics as well.
Ba - Bonds which are rated Ba are judged to have predominantly
speculative elements; their future
cannot be considered as well assured. Often the protection of interest
and principal payments may
be very moderate and thereby not well safeguarded during both good and
bad times over the
future. Uncertainty of position characterizes bonds in this class.
B - Bonds which are rated B generally lack characteristics of
the desirable investment. Assurance of
interest and principal payments or of maintenance of other terms of
the contract over any long period
of time may be small.
Caa - Bonds which are rated Caa are of poor standing. Such issues
may be in default, or there may be
present elements of danger with respect to principal or interest.
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.
Description of Standard & Poor's Corporation's corporate bond ratings:
AAA - Bonds rated AAA are given the highest rating assigned by Standard
& Poor's to a debt obligation,
which indicates an extremely strong capacity to pay principal and interest.
AA - Bonds rated AA also qualify as high-quality debt obligations.
Capacity to pay principal and
interest is very strong, and in the majority of instances they differ
from AAA issues only in small
degree.
A - Bonds rated A have a strong capacity to pay principal and interest,
although they are somewhat
more susceptible to the adverse effects of changes in circumstances and
economic conditions.
33
BBB - Bonds rated BBB are regarded as having an adequate capacity to
pay principal and interest.
Whereas they normally exhibit protection parameters, adverse economic
conditions or changing
circumstances are more likely to lead to a weakened capacity to pay
principal and interest for
bonds in this capacity than for bonds in the A category.
BB, B,
CCC, CC - Bonds rated BB, B, CCC and CC are regarded, on balance,
predominantly speculative with respect
to the issuer's capacity to pay interest and repay principal in
accordance with the terms of the
obligations. BB indicates the lowest degree of speculation and CC
the highest degree of speculation.
While such bonds will likely have some quality and protective
characteristics, these are outweighed
by large uncertainties or major risk exposures to adverse conditions.
SMITH BREEDEN SERIES FUND
Smith Breeden Short Duration U.S. Government Fund
Smith Breeden Intermediate Duration U.S. Government Fund
FINANCIAL STATEMENTS
Fiscal Year Ended March 31, 1999
34
SMITH BREEDEN SHORT DURATION U.S. GOVERNMENT FUND
- --------------------------------------------------------------------------------
PERFORMANCE REVIEW
The Smith Breeden Short Duration U.S. Government Fund returned 4.83% in
the year ending March 31, 1999. The Fund's benchmark, six-month U.S. Treasury
Bill, returned 5.29% over the same period as measured by Merrill Lynch. The
Fund's return exceeded the average twelve month yield on money-market funds of
4.73%1. The Graph below shows the Fund's return versus both its benchmark and
the average return of the mutual funds in Morningstar's Ultrashort Bond Fund
category.
[GRAPHIC APPEARS HERE WITH THE FOLLOWING PLOT POINTS:]
CHANGE IN VALUE OF A $10,000 INVESTMENT
<TABLE>
<CAPTION>
3/92 9/92 3/93 9/93 3/94 9/94 3/95 9/95 3/96 9/96 3/97 9/97 3/98 9/98 3/99
---- ----- ---- ----- ---- ----- ---- ----- ---- ----- ---- ----- ---- ----- ----
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Smith Breeden Short
Duration U.S. Gov't
Fund(1) 10,000 10,363 10,567 10,831 10,956 11,222 11,676 11,967 12,254 12,652 13,059 13,490 13,874 14,202 14,544
Morningstar Avg.
Ultrashort Bond 10,000 10,342 10,554 10,798 10,930 11,088 11,404 11,778 12,120 12,467 12,823 13,426 13,604 13,985 14,312
6 Month U.S. T-Bill 10,000 10,258 10,427 10,595 10,753 10,966 11,291 11,643 11,964 12,282 12,611 12,978 13,326 13,721 14,029
- ------------
(1) Fund Returns are net fees and sales charges. Index returns are market returns without deduction of fees or rebalancing
transaction costs.
Past performance is no guarantee of future results.
</TABLE>
<TABLE>
<CAPTION>
AVERAGE ANNUAL TOTAL RETURNS FOR
PERIODS
ENDING MARCH 31, 1999
--------------------------------------
SINCE INCEPTION FINAL VALUE OF
1 YEAR 5 YEARS (3/31/92) $10,000 INVESTMENT
---------- --------- ----------------- -------------------
<S> <C> <C> <C> <C>
Smith Breeden Short Duration U.S. Govt Fund 4.83% 5.83% 5.50% $14,544
Six Month T-Bill ........................... 5.29% 5.46% 4.95% 14,029
Morningstar Avg. Ultrashort Bond Fund ...... 5.20% 5.54% 5.25% 14,312
</TABLE>
For the year ending March 31, 1999, the best performing fixed income
investments were those with the best credit and liquidity characteristics.
Although the Short Duration Fund has low credit risk and excellent liquidity,
the Fund's return did not exceed the return of the six-month T-Bill for the
year. In general, U.S. Treasury securities were the best performing fixed
income securities in 1998. The main factor that constrained the returns of the
Short Duration Fund was the cost of the prepayment option in the mortgage
securities that comprise most of the Fund's assets. This prepayment option is
more costly to the investor in volatile markets such as those of the last year.
Over longer periods of time, the yield advantage of mortgage securities over
Treasury securities has historically compensated for this prepayment risk.
The second half of 1998 was a difficult period for mortgage securities.
During that period the Fund returned 1.99%, while the six-month T-Bill return
was 2.73%. The markets have been much more favorable so far in 1999. In the
first quarter, the Fund returned 1.52%, 0.41% more than the six-month T-Bill.
- ---------
1 SOURCE: THE WALL STREET JOURNAL
<PAGE>
SMITH BREEDEN SHORT DURATION U.S. GOVERNMENT FUND
- --------------------------------------------------------------------------------
SCHEDULE OF INVESTMENTS MARCH 31, 1999
<TABLE>
<CAPTION>
MARKET
FACE AMOUNT SECURITY VALUE
- --------------- --------------------------------------------------------------------------- ---------------
<S> <C> <C>
U.S. GOVERNMENT & AGENCY OBLIGATIONS -- 151.7%
FREDDIE MAC -- 11.2%
Fixed-rate (1)
$ 2,600,000 6.00% 15 Year, due date to be announced ................................... $ 2,582,633
3,997,053 8.50%, due 5/1/25 to 12/1/25 .............................................. 4,198,517
Discount Notes ............................................................
25,000 4.87%, due 9/3/99 (2), (3) ................................................ 24,504
------------
6,805,654
------------
FANNIE MAE -- 100.7%
Interest-only strip (1)
893,940 9.00%, due 7/25/21 ........................................................ 206,679
Fixed-rate (1)
10,000,000 6.00% 15 Year, due date to be announced ................................... 9,909,766
25,839,904 6.00%, due 11/1/13 to 3/1/29 .............................................. 25,317,569
4,100,000 6.50%, due 4/1/29 ......................................................... 4,079,500
4,000,000 7.00%, due 5/1/11 to 10/1/11 .............................................. 4,086,832
9,000,000 7.00% 30 Year, due date to be announced ................................... 9,125,157
1,333,755 7.043%, 30 Year, due 12/1/06 .............................................. 1,397,540
Delegated Underwriting Servicing (DUS) (1)
4,855,146 6.01%, due 12/1/08 ........................................................ 4,841,559
1,363,351 6.04%, due 10/1/08 ........................................................ 1,355,040
857,988 7.033%, due 6/1/07 ........................................................ 899,955
Discount Notes
40,000 4.96%, due 3/22/00 (2), (3) ............................................... 38,159
------------
61,257,756
------------
GOVERNMENT NATIONAL MORTGAGE ASSOCIATION -- 39.3%
Adjustable-rate (1)
3,008,525 6.625%, due 7/20/17 to 9/20/22 ............................................ 3,068,702
1,340,122 6.875%, due 3/20/21 to 4/20/24 ............................................ 1,366,283
Fixed-rate (1)
18,426,871 7.00%, due 9/15/27 to 10/15/28 ............................................ 18,720,924
684,020 9.50%, due 7/15/09 to 4/15/25 ............................................. 737,635
------------
23,893,544
------------
U.S. TREASURY NOTES -- 0.5%
120,000 5.875% due 7/31/99 (3) .................................................... 120,488
170,000 6.375% due 5/15/99 (3) .................................................... 170,345
------------
290,833
------------
TOTAL U.S. GOVERNMENT & AGENCY OBLIGATIONS
(COST $92,187,983)......................................................... 92,247,787
------------
NOTIONAL
AMOUNT
-----------
THREE MONTH LIBOR INTEREST RATE SWAP CONTRACTS -- (2.0%)
$20,000,000 Contract dated 8/31/93 with Salomon Swapco, Expires 8/30/00,
pay rate 5.34% ............................................................ (8,094)
20,000,000 Contract dated 5/15/95 with Salomon Swapco, Expires 5/15/05,
pay rate 6.951% ........................................................... (1,218,116)
------------
TOTAL THREE MONTH LIBOR INTEREST RATE SWAP CONTRACTS ...................... (1,226,210)
------------
THREE MONTH LIBOR INTEREST RATE CAP CONTRACTS -- 0.3%
50,000,000 Contract with Salomon Swapco, expires 4/23/03, Strike rate 7.50% .......... 213,500
------------
TOTAL THREE MONTH LIBOR INTEREST RATE CAP CONTRACTS
(COST $1,336,030).......................................................... 213,500
------------
TOTAL INVESTMENTS -- 150.0% (COST $93,524,013)............................. 91,235,077
------------
</TABLE>
<PAGE>
SMITH BREEDEN SHORT DURATION U.S. GOVERNMENT FUND
- --------------------------------------------------------------------------------
SCHEDULE OF INVESTMENTS (CONTINUED) MARCH 31, 1999
<TABLE>
<CAPTION>
MARKET
FACE AMOUNT SECURITY VALUE
- --------------- ------------------------------------------------------------ ----------------
<S> <C> <C>
REVERSE REPURCHASE AGREEMENTS -- (8.2%)
$ (5,000,000) Freddie Mac 5.55% due 4/5/99 dated 3/29/99 (4) ............. $ (5,000,000)
-------------
(5,000,000)
-------------
FORWARD SALES -- (25.6%)
(16,000,000) Fannie Mae 6.00%, due date to be announced (5) ............. (15,546,250)
-------------
(15,546,250)
-------------
LIABILITIES LESS CASH AND OTHER ASSETS -- (16.2%) .......... (9,881,378)
-------------
NET ASSETS -- 100.0% ....................................... $ 60,807,449
=============
</TABLE>
- ---------
(1) Mortgage-backed obligations are subject to principal paydowns as a result
of prepayments or refinancings of the underlying mortgage instruments. As a
result, the average life may be substantially less than the original
maturity. Adjustable-rate mortgages have coupon rates that adjust
periodically. The interest rate shown is the rate in effect at March 31,
1999. The adjusted rate is determined by adding a spread to a specified
index.
(2) The interest rate shown for discount notes is the discount rate paid at the
time of purchase by the fund.
(3) Security is held as collateral by Carr Futures, Inc.
(4) Reverse repurchase agreement is collateralized by $4,344,000 face of GNMA
7.0% due 10/15/27 and $1,750,000 face of GNMA 7.0% due 6/15/28.
(5) The forward sale position represents the unsettled sale of securities held
by the Fund.
- --------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
<PAGE>
SMITH BREEDEN SHORT DURATION U.S. GOVERNMENT FUND
- --------------------------------------------------------------------------------
STATEMENT OF ASSETS AND LIABILITIES MARCH 31, 1999
<TABLE>
<S> <C>
ASSETS
Investments at market value (identified cost $93,524,013) (Note 1)....................... $ 91,235,077
Cash .................................................................................... 513,419
Restricted cash held to cover checkwriting privilege .................................... 6,489
Receivables:
Variation margin on futures contracts (Note 2) ........................................ 50,019
Subscriptions ......................................................................... 22,917
Interest .............................................................................. 446,698
Securities sold ....................................................................... 30,165,367
Other assets ............................................................................ 24,207
-------------
TOTAL ASSETS .......................................................................... 122,464,193
-------------
LIABILITIES
Reverse repurchase agreement (proceeds $5,000,000) (Note 1).............................. 5,000,000
Forward sales at market value (proceeds $15,520,000)..................................... 15,546,250
Payables:
Redemptions ........................................................................... 641,861
Securities purchased .................................................................. 40,317,051
Swap and other interest (Note 2) ...................................................... 57,776
Due to Advisor (Note 3) ................................................................. 45,881
Accrued expenses ........................................................................ 47,925
-------------
TOTAL LIABILITIES ..................................................................... 61,656,744
-------------
NET ASSETS
(Applicable to outstanding shares of 6,120,026 unlimited number of shares of beneficial
interest authorized; no stated par) ................................................... $ 60,807,449
=============
Net asset value, offering price and redemption price per share ($60,807,449 / 6,120,026). $ 9.94
=============
SOURCE OF NET ASSETS
Paid in capital ......................................................................... $ 65,331,014
Overdistributed net investment income ................................................... (463,285)
Accumulated net realized loss on investments and futures contracts ...................... (1,628,551)
Net unrealized depreciation of investments, interest rate swaps, interest rate caps and
forward sales ......................................................................... (2,315,186)
Net unrealized depreciation of futures contracts... ..................................... (116,543)
-------------
NET ASSETS ............................................................................ $ 60,807,449
=============
</TABLE>
- --------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
<PAGE>
SMITH BREEDEN SHORT DURATION U.S. GOVERNMENT FUND
- --------------------------------------------------------------------------------
STATEMENT OF OPERATIONS
FOR THE YEAR ENDED MARCH 31, 1999
<TABLE>
<S> <C>
INVESTMENT INCOME
Interest and discount earned, net of premium amortization and interest expense ($202,305)
(Note 1) .............................................................................. $ 4,036,991
EXPENSES
Advisory fees (Note 3) .................................................................. 508,343
Accounting and pricing services fees .................................................... 46,826
Custodian fees .......................................................................... 23,868
Audit and tax preparation fees .......................................................... 21,757
Legal fees .............................................................................. 17,825
Transfer agent fees ..................................................................... 27,529
Registration fees ....................................................................... 12,417
Trustees fees and expenses .............................................................. 45,794
Insurance ............................................................................... 9,647
Other ................................................................................... 8,048
------------
TOTAL EXPENSES BEFORE REIMBURSEMENT ................................................... 722,054
Expenses reimbursed by Advisor (Note 3) ............................................... (155,616)
------------
NET EXPENSES .......................................................................... 566,438
------------
NET INVESTMENT INCOME ................................................................. 3,470,553
------------
REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS
Net realized gain on investments and futures contracts .................................. 1,074,357
Change in unrealized depreciation of investments, interest rate swaps, interest rate
caps, and futures contracts ............................................................. (1,229,582)
------------
Net realized and unrealized loss on investments and futures contracts ................... (155,225)
------------
Net increase in net assets resulting from operations .................................... $ 3,315,328
============
</TABLE>
- --------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
<PAGE>
SMITH BREEDEN SHORT DURATION U.S. GOVERNMENT FUND
- --------------------------------------------------------------------------------
STATEMENTS OF CHANGES IN NET ASSETS
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED
MARCH 31, 1999 MARCH 31, 1998
---------------- ---------------
<S> <C> <C>
OPERATIONS
Net investment income ............................................................ $ 3,470,553 $ 5,485,507
Net realized gain on investments ................................................. 1,074,357 2,886,352
Change in unrealized appreciation (depreciation) of investments, interest rate
swaps, interest rate caps and futures contracts ................................ (1,229,582) (2,022,049)
------------- -------------
Net increase in net assets resulting from operations ............................. 3,315,328 6,349,810
------------- -------------
DISTRIBUTIONS TO SHAREHOLDERS
Dividends from net investment income ............................................. (3,302,565) (5,439,867)
------------- -------------
Total distributions .............................................................. (3,302,565) (5,439,867)
------------- -------------
CAPITAL SHARE TRANSACTIONS
Shares sold ...................................................................... 45,691,681 46,118,603
Shares issued on reinvestment of distributions ................................... 1,845,880 2,600,980
Shares redeemed .................................................................. (65,170,730) (90,190,280)
------------- -------------
Decrease in net assets resulting from capital share transactions (a) ............. (17,633,169) (41,470,697)
------------- -------------
TOTAL INCREASE (DECREASE) IN NET ASSETS ........................................ (17,620,406) (40,560,754)
NET ASSETS
Beginning of period .............................................................. 78,427,855 118,988,609
------------- -------------
End of period .................................................................... $ 60,807,449 $ 78,427,855
============= =============
(a) Transactions in capital shares were as follows:
Shares sold ...................................................................... 4,622,012 4,669,660
Shares issued on reinvestment of distributions ................................... 186,844 264,390
Shares redeemed .................................................................. (6,593,289) (9,136,010)
------------- -------------
Net decrease ..................................................................... (1,784,433) (4,201,960)
Beginning balance ................................................................ 7,904,459 12,106,419
------------- -------------
Ending balance ................................................................... 6,120,026 7,904,459
============= =============
</TABLE>
- --------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
<PAGE>
SMITH BREEDEN SHORT DURATION U.S. GOVERNMENT FUND
- --------------------------------------------------------------------------------
FINANCIAL HIGHLIGHTS
The following average per share data, ratios and supplemental information
have been derived from information provided in the financial statements.
<TABLE>
<CAPTION>
YEAR YEAR YEAR YEAR YEAR
ENDED ENDED ENDED ENDED ENDED
MARCH 31, 1999 MARCH 31, 1998 MARCH 31, 1997 MARCH 31, 1996 MARCH 31, 1995
---------------- ---------------- ---------------- ---------------- ---------------
<S> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF
PERIOD ........................... $ 9.92 $ 9.83 $ 9.74 $ 9.90 $ 9.90
---------- ---------- ----------- ----------- ------------
INCOME FROM INVESTMENT
OPERATIONS
Net investment income ............ 0.442 0.484 0.476 0.621 0.628
Net realized and unrealized
gain (loss) on investments ..... 0.020 0.114 0.146 (0.148) --
----------- ----------- ------------ ------------ ------------
Total from investment
operations ..................... 0.462 0.598 0.622 0.473 0.628
----------- ----------- ------------ ------------ ------------
LESS DISTRIBUTIONS
Dividends from net
investment income .............. (0.447) (0.508) (0.476) (0.621) (0.628)
Dividends in excess of
investment income .............. -- -- (0.056) (0.012) --
----------- ----------- ------------ ------------ ------------
Total distributions ............ (0.447) (0.508) (0.532) (0.633) (0.628)
----------- ----------- ------------ ------------ ------------
NET ASSET VALUE, END OF
PERIOD ........................... $ 9.94 $ 9.92 $ 9.83 $ 9.74 $ 9.90
----------- ----------- ------------ ------------ ------------
TOTAL RETURN ...................... 4.83% 6.24% 6.57% 4.95% 6.58%
RATIOS/SUPPLEMENTAL DATA
Net assets, end of period ........ $60,807,449 $78,427,855 $118,988,609 $221,825,136 $218,431,665
Ratio of net expenses to
average net assets (1) ......... 0.78% 0.78% 0.78% 0.78% 0.78%
Ratio of net investment
income to average net
assets ......................... 4.78% 5.28% 5.04% 6.29% 6.33%
Portfolio turnover rate .......... 298% 626% 556% 225% 47%
Ratio of expenses to average
net assets before
reimbursement of
expenses by the
Advisor (1) .................... 1.00% 1.00% 0.93% 0.93% 0.92%
Ratio of net investment
income to average net
assets before
reimbursement of
expenses by the Advisor ........ 4.56% 5.06% 4.90% 6.13% 6.18%
</TABLE>
- ---------
(1) Through March 31, 1995, expense ratios include both the direct expenses of
the Smith Breeden Short Duration U.S. Government Fund, and the indirect
expenses incurred through the Fund's investment in the Smith Breeden
Institutional Short Duration U.S. Government Fund.
- --------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
<PAGE>
INDEPENDENT AUDITORS' REPORT
- --------------------------------------------------------------------------------
The Board of Trustees and Shareholders,
Smith Breeden Short Duration U.S. Government Fund of the Smith Breeden Series
Fund:
We have audited the accompanying statement of assets and liabilities,
including the schedule of investments, of the Smith Breeden Short Duration U.S.
Government Fund of the Smith Breeden Series Fund (the "Fund") as of March 31,
1999, and the related statement of operations for the year then ended, the
statements of changes in net assets for each of the years in the two-year
period then ended and the financial highlights for each of the years in the
five-year period presented. These financial statements and the financial
highlights are the responsibility of the Fund's management. Our responsibility
is to express an opinion on these financial statements and the financial
highlights based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and the financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned at March
31, 1999 by correspondence with the custodian and brokers, and where replies
were not received, we performed other auditing procedures. An audit also
includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, such financial statements and financial highlights
referred to above present fairly, in all material respects, the financial
positions of the Smith Breeden Short Duration U.S. Government Fund of the Smith
Breeden Series Fund as of March 31, 1999, the results of its operations, the
changes in its net assets, and the financial highlights for the respective
stated periods in conformity with generally accepted accounting principles.
Deloitte & Touche LLP
Princeton, New Jersey
May 14, 1999
<PAGE>
SMITH BREEDEN INTERMEDIATE DURATION U.S. GOVERNMENT FUND
- --------------------------------------------------------------------------------
PERFORMANCE REVIEW
The Smith Breeden Intermediate Duration U.S. Government Fund returned
5.73% in the year ending March 31, 1999. The Salomon-Smith Barney Mortgage
Index, the Fund's benchmark, returned 6.33%, marginally under the 6.53% return
of the five-year Treasury Note. The average Government Mortgage Fund, as
tracked by Morningstar, returned 5.22% over the same period.
[GRAPHIC APPEARS HERE WITH THE FOLLOWING PLOT POINTS:]
CHANGE IN VALUE OF A $10,000 INVESTMENT
<TABLE>
<CAPTION>
3/92 9/92 3/93 9/93 3/94 9/94 3/95 9/95 3/96 9/96 3/97 9/97 3/98 9/98 3/99
---- ----- ---- ----- ---- ----- ---- ----- ---- ----- ---- ----- ---- ----- ----
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Smith Breeden
Intermediate
Duration U.S. Gov't
Fund(1) 10,000 10,954 11,493 12,255 11,967 11,982 12,695 13,610 13,925 14,330 14,748 15,682 16,318 16,864 17,252
Morningstar Avg.
Gov't Bond
Mortgage 10,000 10,748 11,141 11,533 11,270 11,161 11,692 12,512 12,812 13,089 13,429 14,277 14,807 15,486 15,579
5yr/SBMI (2) 10,000 11,037 11,428 11,988 11,678 11,708 12,380 13,284 13,681 14,065 14,486 15,446 16,066 16,768 17,082
- ------------
(1) Fund Returns are net fees and sales charges. Index returns are market returns without deduction of fees or rebalancing
transaction costs.
(2) 5-Year Treasury Note to 12/31/93 and the Salomon-Smith Barney Mortgage Index ("SBMI") to 3/31/99. The fund changed its
investment objective 1/1/94.
Past performance is no guarantee of future results.
</TABLE>
<TABLE>
<CAPTION>
AVERAGE ANNUAL TOTAL RETURNS FOR
PERIODS ENDING MARCH 31, 1999
--------------------------------------
SINCE INCEPTION FINAL VALUE OF
1 YEAR 5 YEARS (3/31/92) $10,000 INVESTMENT
---------- --------- ----------------- -------------------
<S> <C> <C> <C> <C>
Smith Breeden Intermediate Dur. U.S. Govt. Fund ... 5.73% 7.59% 8.10% $17,252
SBMI/5-Year U.S. Treasury (2) ..................... 6.33% 7.90% 7.95% 17,082
Morningstar Avg. Government Mortgage Fund ......... 5.22% 6.69% 6.54% 15,579
</TABLE>
The Intermediate Fund aims to match closely the interest-rate and
prepayment risk of the Salomon-Smith Barney Mortgage Index. This index is
representative of the universe of fixed-rate Government agency mortgages, and
has a duration ranging from about two to four years, depending on the overall
level of interest rates.
The Intermediate Fund was invested 60% in fixed-rate mortgages and 40% in
adjustable-rate mortgages (ARMs) at the end of June 1998. In the third quarter,
the Fund added AAA-rated commercial mortgage-backed securities to its holdings.
Commercial mortgage-backed securities (MBS) suffered in the flight-to quality
in the August to October period, and consequently the Fund underperformed its
benchmark by about 0.9% in the third quarter. Commercial MBS performed
exceedingly well in the fourth quarter, and the fund outperformed it's
benchmark by 0.5% in this period. Mortgage securities in general performed very
well compared to other bond classes in the first quarter of 1999, and the Fund
returned 0.9% in this period, in line with the benchmark Salomon Index return
of 1.0%. By contrast, the five-year Note lost 1.3% in this period due to rising
interest rates. The Fund reduced its ARM holdings in the third and fourth
quarters to about 13% of net assets, as ARMs became richly priced relative to
other mortgage securities.
<PAGE>
SMITH BREEDEN INTERMEDIATE DURATION U.S. GOVERNMENT FUND
- --------------------------------------------------------------------------------
SCHEDULE OF INVESTMENTS MARCH 31, 1999
<TABLE>
<CAPTION>
MARKET
FACE AMOUNT SECURITY VALUE
- --------------- ------------------------------------------------------------------------ ---------------
<S> <C> <C>
U.S. GOVERNMENT & AGENCY OBLIGATIONS -- 103.6%
FREDDIE MAC -- 30.7% (1)
Fixed-rate
$ 4,982,385 6.00%, due 1/1/29 ...................................................... $ 4,846,209
10,000,000 6.50% 30 Year, due date to be announced ................................ 9,942,578
2,095,828 7.50%, due date 11/1/27 to 1/1/28 ...................................... 2,151,975
------------
16,940,762
------------
FANNIE MAE -- 41.3% (1)
Fixed-rate
9,874,418 6.00%, due 1/1/14 to 3/1/29 ............................................ 9,635,778
7,217,482 6.50%, due 6/1/13 to 11/1/28 ........................................... 7,243,554
730,663 6.98%, due 6/1/07 ...................................................... 763,645
5,000,001 7.00%, due 12/1/07 to 3/1/08 ........................................... 5,108,541
------------
22,751,518
------------
GOVERNMENT NATIONAL MORTGAGE ASSOCIATION -- 31.2% (1)
Fixed-rate
7,121,230 7.00%, due 3/15/26 to 1/15/28 .......................................... 7,234,877
4,299,359 7.50%, due 9/15/28 ..................................................... 4,428,551
Adjustable-rate
2,433,341 5.50%, due 6/20/28 ..................................................... 2,466,308
411,811 6.125%, due 11/20/17 to 12/20/17 ....................................... 419,430
1,005,599 6.625%, due 8/20/17 to 8/20/18 ......................................... 1,025,628
1,598,569 6.875%, due 3/20/16 to 4/20/22 ......................................... 1,629,276
------------
17,204,070
------------
U.S. TREASURY NOTES -- 0.4%
175,000 5.875%, due 7/31/99 (2) ................................................ 175,711
40,000 6.375%, due 5/15/99 (2) ................................................ 40,081
------------
215,792
------------
TOTAL U.S. GOVERNMENT & AGENCY OBLIGATIONS (COST $57,223,788)........... 57,112,142
------------
COMMERCIAL MORTGAGE-BACKED SECURITIES -- 16.4% (1)
2,000,000 First Union-Lehman Brothers-Bank of America Commercial Mortage Trust
6.56%, due 11/18/08 .................................................... 2,025,333
2,000,000 GMAC Commercial Mortgage Securities 6.42%, due 8/15/08 ................. 2,006,854
5,000,000 Nomura Asset Securities Corporation Commercial Mortgage Trust 6.59%, due
3/17/28 ................................................................ 5,017,872
------------
TOTAL COMMERCIAL MORTGAGE-BACKED SECURITIES
(COST $9,149,637)....................................................... 9,050,059
------------
TOTAL INVESTMENTS (COST $66,373,425)--120.0%............................ 66,162,201
------------
FORWARD SALES -- (14.1%)
(8,000,000) Fannie Mae 6.00%, due date to be announced (3) ......................... (7,773,125)
------------
(7,773,125)
------------
LIABILITIES LESS CASH AND OTHER ASSETS -- (5.9%) ....................... (3,263,279)
------------
NET ASSETS -- 100.0% ................................................... $ 55,125,797
============
</TABLE>
- ---------
(1) Mortgage-backed obligations are subject to principal paydowns as a result
of prepayments or refinancings of the underlying mortgage instruments. As a
result, the average life may be substantially less than the original
maturity. Adjustable-rate mortgages have coupon rates that adjust
periodically. The interest rate shown is the rate in effect at March 31,
1999. The adjusted rate is determined by adding a spread to a specified
index.
(2) Security is held as collateral by Carr Futures, Inc.
(3) The forward sale position represents the unsettled sale of securities held
by the Fund.
<PAGE>
SMITH BREEDEN INTERMEDIATE DURATION U.S. GOVERNMENT FUND
- --------------------------------------------------------------------------------
STATEMENT OF ASSETS AND LIABILITIES MARCH 31, 1999
<TABLE>
<S> <C>
ASSETS
Investments at market value (identified cost $66,373,425) (Note 1)....................... $ 66,162,201
Receivables:
Variation margin on futures contracts (Note 2) ........................................ 17,063
Subscriptions ......................................................................... 63,068
Interest .............................................................................. 328,063
Securities sold ....................................................................... 17,778,394
Prepaid expenses ...................................................................... 5,547
------------
TOTAL ASSETS ......................................................................... 84,354,336
------------
LIABILITIES
Bank overdraft .......................................................................... 1,402,577
Forward sales at market value (proceeds $7,760,000)...................................... 7,773,125
Payables:
Securities purchased .................................................................. 19,911,736
Redemptions ........................................................................... 65,098
Distributions ......................................................................... 8,417
Due to Advisor (Note 3) ................................................................. 33,945
Accrued expenses ........................................................................ 33,641
------------
TOTAL LIABILITIES .................................................................... 29,228,539
------------
NET ASSETS
(Applicable to outstanding shares of 5,559,865; unlimited number of shares of beneficial
interest authorized; no stated par) ................................................... $ 55,125,797
============
Net asset value, offering price and redemption price per share ($55,125,797 / 5,559,865). $ 9.91
============
SOURCE OF NET ASSETS
Paid in capital ......................................................................... $ 55,613,189
Overdistribution of net investment income ............................................... (134,448)
Accumulated net realized loss on investments and futures contracts ...................... (205,949)
Net unrealized depreciation of investments and forward sales ............................ (224,349)
Net unrealized appreciation of futures contracts ........................................ 77,354
------------
NET ASSETS ........................................................................... $ 55,125,797
============
</TABLE>
- --------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
<PAGE>
SMITH BREEDEN INTERMEDIATE DURATION U.S. GOVERNMENT FUND
- --------------------------------------------------------------------------------
STATEMENT OF OPERATIONS
FOR THE YEAR ENDED MARCH 31, 1999
<TABLE>
<S> <C>
INVESTMENT INCOME
Interest and discount earned, net of premium amortization and interest expense ($20,002)
(Note 1) .............................................................................. $3,077,235
EXPENSES
Advisory fees (Note 3) ................................................................. 355,620
Accounting and pricing services fees ................................................... 40,922
Custodian fees ......................................................................... 20,350
Audit & tax preparation fees ........................................................... 14,402
Legal fees ............................................................................. 10,381
Transfer agent fees .................................................................... 28,175
Registration fees ...................................................................... 21,002
Trustees fees and expenses ............................................................. 29,452
Insurance .............................................................................. 4,722
Other .................................................................................. 5,474
----------
TOTAL EXPENSES BEFORE REIMBURSEMENT ................................................... 530,500
Expenses reimbursed by Advisor (Note 3) ............................................... (83,434)
----------
NET EXPENSES .......................................................................... 447,066
----------
NET INVESTMENT INCOME ................................................................. 2,630,169
----------
REALIZED AND UNREALIZED GAIN ON INVESTMENTS
Net realized gain on investments and futures contracts ................................. 247,095
Change in unrealized depreciation of investments and futures contracts ................. (209,534)
----------
Net realized and unrealized gain on investments and futures contracts .................. 37,561
----------
Net increase in net assets resulting from operations ................................... $2,667,730
==========
</TABLE>
- --------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
<PAGE>
SMITH BREEDEN INTERMEDIATE DURATION U.S. GOVERNMENT FUND
- --------------------------------------------------------------------------------
STATEMENTS OF CHANGES IN NET ASSETS
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED
MARCH 31, 1999 MARCH 31, 1998
---------------- ---------------
<S> <C> <C>
OPERATIONS
Net investment income .................................................... $ 2,630,169 $ 2,175,424
Net realized gain on investments ......................................... 247,095 1,835,038
Change in unrealized depreciation of investments ......................... (209,534) (73,907)
------------- -------------
Net increase in net assets resulting from operations ..................... 2,667,730 3,936,555
------------- -------------
DISTRIBUTIONS TO SHAREHOLDERS
Dividends from net investment income ..................................... (2,630,169) (2,175,424)
Dividends in excess of net investment income ............................. -- (10,140)
Distributions from net realized gains on investments ..................... (576,411) (880,968)
------------- -------------
Total distributions ...................................................... (3,206,580) (3,066,532)
------------- -------------
CAPITAL SHARE TRANSACTIONS
Shares sold .............................................................. 45,066,774 34,884,833
Shares issued on reinvestment of distributions ........................... 3,096,717 1,570,705
Shares redeemed .......................................................... (31,140,723) (36,419,207)
------------- -------------
Increase in net assets resulting from capital share transactions (a) ..... 17,022,768 36,331
------------- -------------
TOTAL INCREASE IN NET ASSETS ........................................... 16,483,918 906,354
NET ASSETS
Beginning of period ...................................................... 38,641,879 37,735,525
------------- -------------
End of period ............................................................ $ 55,125,797 $ 38,641,879
============= =============
(a) Transactions in capital shares were as follows:
Shares sold .............................................................. 4,529,253 3,494,156
Shares issued on reinvestment of distributions ........................... 311,881 157,456
Shares redeemed .......................................................... (3,146,761) (3,664,130)
------------- -------------
Net increase (decrease) .................................................. 1,694,373 (12,518)
Beginning balance ........................................................ 3,865,492 3,878,010
------------- -------------
Ending balance ........................................................... 5,559,865 3,865,492
============= =============
</TABLE>
- --------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
<PAGE>
SMITH BREEDEN INTERMEDIATE DURATION U.S. GOVERNMENT FUND
- --------------------------------------------------------------------------------
FINANCIAL HIGHLIGHTS
The following average per share data, ratios and supplemental information
have been derived from information provided in the financial statements.
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED YEAR ENDED YEAR ENDED YEAR ENDED
MARCH 31, 1999 MARCH 31, 1998 MARCH 31, 1997 MARCH 31, 1996 MARCH 31, 1995
---------------- ---------------- ---------------- ---------------- ---------------
<S> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF
PERIOD ............................ $ 10.00 $ 9.73 $ 10.01 $ 9.83 $ 10.01
---------- ---------- ---------- ---------- ----------
INCOME FROM INVESTMENT
OPERATIONS
Net investment income ............. 0.525 0.590 0.599 0.660 0.664
Net realized and unrealized
(loss) gain on investments ...... 0.030 0.419 ( 0.024) 0.277 ( 0.049)
----------- ----------- ----------- ----------- -----------
Total from investment
operations ...................... 0.555 1.009 0.575 0.937 0.615
----------- ----------- ----------- ----------- -----------
LESS DISTRIBUTIONS
Dividends from net investment
income .......................... ( 0.515) ( 0.561) ( 0.604) ( 0.656) ( 0.664)
Dividends in excess of net
investment income ............... -- -- -- -- ( 0.108)
Distributions from net realized
gains on investments ............ ( 0.130) ( 0.178) ( 0.251) ( 0.101) --
Distributions in excess of net
realized gains on
investments ..................... -- -- -- -- ( 0.022)
----------- ----------- ----------- ----------- -----------
Total distributions ............. ( 0.645) ( 0.739) ( 0.855) ( 0.757) ( 0.794)
----------- ----------- ----------- ----------- -----------
NET ASSET VALUE, END OF PERIOD ..... $ 9.91 $ 10.00 $ 9.73 $ 10.01 $ 9.83
----------- ----------- ----------- ----------- -----------
TOTAL RETURN ....................... 5.73% 10.65% 5.92% 9.69% 6.10%
RATIOS/SUPPLEMENTAL DATA
Net assets, end of period ......... $55,125,797 $38,641,879 $37,735,525 $36,446,940 $34,797,496
Ratio of net expenses to
average net assets (1) .......... 0.88% 0.88% 0.89% 0.90% 0.90%
Ratio of net investment income
to average net assets ........... 5.25% 5.61% 6.19% 6.49% 6.20%
Portfolio turnover rate ........... 423% 583% 409% 193% 557%
Ratio of expenses to average
net assets before
reimbursement of expenses
by the Advisor (1) .............. 1.06% 1.13% 1.16% 1.14% 2.33%
Ratio of net investment income
to average net assets before
reimbursement of expenses
by the Advisor .................. 5.08% 5.36% 5.92% 6.26% 4.77%
</TABLE>
- ---------
(1) Through August 1, 1994, expense ratios include both the direct expenses of
the Intermediate Duration U.S. Government Fund, and the indirect expenses
incurred through the Fund's investment in the Smith Breeden Institutional
Intermediate Duration U.S. Government Fund.
- --------------------------------------------------------------------------------
The accompanying notes are an integral part of these financial statements.
<PAGE>
INDEPENDENT AUDITORS' REPORT
- --------------------------------------------------------------------------------
The Board of Trustees and Shareholders,
Smith Breeden Intermediate Duration U.S. Government Fund of the Smith Breeden
Series Fund:
We have audited the accompanying statement of assets and liabilities,
including the schedule of investments, of the Smith Breeden Intermediate
Duration U.S. Government Fund of the Smith Breeden Series Fund (the "Fund") as
of March 31, 1999, and the related statement of operations for the year then
ended, the statements of changes in net assets for each of the years in the
two-year period then ended and the financial highlights for each of the years
in the five-year period presented. These financial statements and the financial
highlights are the responsibility of the Fund's management. Our responsibility
is to express an opinion on these financial statements and the financial
highlights based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and the financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned at March
31, 1999 by correspondence with the custodian and brokers, and where replies
were not received, we performed other auditing procedures. An audit also
includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, such financial statements and financial highlights
referred to above present fairly, in all material respects, the financial
positions of the Smith Breeden Intermediate Duration U.S. Government Fund of
the Smith Breeden Series Fund as of March 31, 1999, the results of its
operations, the changes in its net assets, and the financial highlights for the
respective stated periods in conformity with generally accepted accounting
principles.
Deloitte & Touche LLP
Princeton, New Jersey
May 14, 1999
<PAGE>
SMITH BREEDEN MUTUAL FUNDS
- --------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS
1. SIGNIFICANT ACCOUNTING POLICIES
The Smith Breeden Series Fund and the Smith Breeden Trust (the "Trusts") are
open-end, diversified management investment companies registered under the
Investment Company Act of 1940, as amended. The Smith Breeden Series Fund
offers shares in two series: the Smith Breeden Short Duration U.S. Government
Fund (the "Short Fund") and the Smith Breeden Intermediate Duration U.S.
Government Fund (the "Intermediate Fund"). The Smith Breeden Trust offers
shares in three series: the Smith Breeden U.S. Equity Market Plus Fund (the
"U.S. Equity Fund", formerly the Smith Breeden Equity Market Plus Fund), the
Smith Breeden High Yield Bond Fund (the "High Yield Fund"), and the Smith
Breeden Financial Services Fund (the "Financial Services Fund"). The following
is a summary of accounting policies consistently followed by the Short Fund,
the Intermediate Fund, the High Yield Fund, the U.S. Equity Fund and the
Financial Services Fund (collectively, the "Funds").
A. SECURITY VALUATION: Portfolio securities are valued at the current market
value provided by a pricing service, or by a bank or broker/dealer experienced
in such matters when over-the-counter market quotations are readily available.
Securities and other assets for which market prices are not readily available
are valued at fair market value as determined in accordance with procedures
approved by the Board of Trustees.
B. REPURCHASE AGREEMENTS: Each Fund may enter into repurchase agreements with
member banks of the Federal Reserve System with total assets in excess of $500
million, and securities dealers, provided that such banks or dealers meet the
credit guidelines of the Funds' Board of Trustees. In a repurchase agreement, a
Fund acquires securities from a third party, with the commitment that they will
be repurchased by the seller at a fixed price on an agreed upon date. The
Funds' custodian maintains control or custody of the securities collateralizing
the repurchase agreement until maturity. The value of the collateral is
monitored daily, and, if necessary, additional collateral is received to ensure
that the market value of the collateral remains sufficient to protect the Fund
in the event of the seller's default. However, in the event of default or
bankruptcy of the seller, the Fund's right to the collateral may be subject to
legal proceedings.
C. REVERSE REPURCHASE AGREEMENTS: A reverse repurchase agreement involves the
sale of portfolio assets together with an agreement to repurchase the same
assets later at a fixed price. Additional assets are maintained in a segregated
account with the custodian, and are marked to market daily. The segregated
assets may consist of cash, U.S. Government securities, or other liquid
high-grade debt obligations at least equal in value to the obligations under
the reverse repurchase agreements. In the event the buyer of securities under a
reverse repurchase agreement files for bankruptcy or becomes insolvent, a
Fund's use of the proceeds under the agreement may be restricted pending a
determination by the other party, or its trustee or receiver, whether to
enforce the obligation to repurchase the securities.
D. DOLLAR ROLL AND REVERSE DOLLAR ROLL AGREEMENTS: A dollar roll is an
agreement to sell securities for delivery in the current month and to
repurchase substantially similar (same type and coupon) securities on a
specified future date. During the roll period, principal and interest paid on
these securities are not received. When a Fund invests in a dollar roll, it is
compensated by the difference between the current sales price and the forward
price for the future purchase (often referred to as the "drop") as well as by
earnings on the cash proceeds of the initial sale.
A reverse dollar roll is agreement to buy securities for delivery in the
current month and to sell substantially similar (same type and coupon)
securities on a specified future date, typically at a lower price. During the
roll period, the fund receives the principal and interest on the securities
purchased in compensation for the cash invested in the transaction.
E. DISTRIBUTIONS AND TAXES: Dividends to shareholders are recorded on the
ex-dividend date. Each Fund intends to continue to qualify for and elect the
special tax treatment afforded to regulated investment companies under
Subchapter M of the Internal Revenue Code, thereby relieving the Funds of
Federal income taxes. To so qualify, the Funds intend to distribute
substantially all net investment income and net realized capital gains, if any,
less any available capital loss carryforward. The following table summarized
the available capital loss carryforwards for each Fund.
<PAGE>
SMITH BREEDEN MUTUAL FUNDS
- --------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
1. SIGNIFICANT ACCOUNTING POLICIES -- CONTINUED
<TABLE>
<CAPTION>
CAPITAL LOSS CAPITAL LOSS CAPITAL LOSS
CARRYFORWARD CARRYFORWARD CARRYFORWARD
FUND EXPIRES 3/31/2004 EXPIRES 3/31/2005 EXPIRES 3/31/2007
- ---------------------------------- ------------------- ------------------- ------------------
<S> <C> <C> <C>
Short Duration Fund ........ $658,505 $829,556 $ 0
Intermediate Duration Fund . 0 0 126,641
U.S. Equity Fund ........... 0 0 0
Financial Services Fund .... 0 0 196,832
High Yield Bond Fund ....... 0 0 0
</TABLE>
F. SECURITIES TRANSACTIONS, INVESTMENT INCOME AND OPERATING EXPENSES:
Securities transactions are recorded on the trade date. Interest income is
accrued daily, and includes net amortization from the purchase of fixed-income
securities. Discounts and premiums on fixed-income securities purchased are
amortized over the life of the respective securities. Dividend income is
recorded on the ex-dividend date. Gains or losses on the sale of securities are
calculated for accounting and tax purposes on the identified cost basis.
Expenses are accrued daily. Common expenses incurred by the Trusts are
generally allocated among the funds comprising the Trusts based on the ratio of
net assets of each Fund to the combined net assets of each Trust. Other
expenses are charged to each Fund on a specific identification basis.
G. ACCOUNTING ESTIMATES: The preparation of financial statements in accordance
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities at the date of the financial statements and the amounts of income
and expense during the reporting period. Actual results could differ from those
estimates.
2. FINANCIAL INSTRUMENTS
A. FUTURES CONTRACTS HELD OR ISSUED FOR PURPOSES OTHER THAN TRADING: The Short
Fund, Intermediate Fund, and U.S. Equity Fund use interest-rate futures
contracts for risk management purposes in order to reduce fluctuations in the
Funds' net asset values relative to the Funds' targeted option-adjusted
durations. The Financial Services Fund uses S&P 500 futures contracts for risk
management purposes in order to manage the Fund's equity market risk relative
to its benchmark. On entering into a futures contract, either cash or
securities in an amount equal to a certain percentage of the contract value
(initial margin) must be deposited with the futures broker. Subsequent payments
(variation margin) are made or received each day. The variation margin payments
equal the daily changes in the contract value and are recorded as unrealized
gains or losses. The Funds recognize a realized gain or loss when the contract
is closed or expires equal to the difference between the value of the contract
at the time it was opened and the value at the time it was closed.
<PAGE>
SMITH BREEDEN MUTUAL FUNDS
- --------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
2. FINANCIAL INSTRUMENTS -- CONTINUED
The Short Fund had the following open futures contracts as of March 31, 1999:
<TABLE>
<CAPTION>
NUMBER OF EXPIRATION UNREALIZED
TYPE CONTRACTS POSITION MONTH GAIN/(LOSS)
- ---------------------------- ----------- ---------- ----------------- --------------
<S> <C> <C> <C> <C>
5 Year Treasury ............ 43 Short June, 1999 $ 7,791
10 Year Treasury ........... 113 Short June, 1999 53,226
3 Month Eurodollar ......... 31 Short June, 1999 (1,140)
3 Month Eurodollar ......... 55 Short September, 1999 (9,898)
3 Month Eurodollar ......... 12 Long December, 1999 (6,054)
3 Month Eurodollar ......... 12 Long March, 2000 (10,004)
3 Month Eurodollar ......... 12 Long June, 2000 (10,891)
3 Month Eurodollar ......... 12 Long September, 2000 (11,429)
3 Month Eurodollar ......... 12 Long December, 2000 (10,541)
3 Month Eurodollar ......... 12 Long March, 2001 (11,429)
3 Month Eurodollar ......... 12 Long June, 2001 (11,729)
3 Month Eurodollar ......... 62 Long September, 2001 94,284
3 Month Eurodollar ......... 12 Long December, 2001 (10,529)
3 Month Eurodollar ......... 12 Long March, 2002 (11,980)
3 Month Eurodollar ......... 12 Long June, 2002 (12,305)
3 Month Eurodollar ......... 12 Long September, 2002 (12,342)
3 Month Eurodollar ......... 12 Long December, 2002 (10,804)
3 Month Eurodollar ......... 12 Long March, 2003 (12,241)
3 Month Eurodollar ......... 12 Long June, 2003 (12,316)
3 Month Eurodollar ......... 12 Long September, 2003 (12,316)
3 Month Eurodollar ......... 12 Long December, 2003 (10,841)
3 Month Eurodollar ......... 12 Long March, 2004 (11,804)
3 Month Eurodollar ......... 12 Long June, 2004 (11,879)
3 Month Eurodollar ......... 12 Long September, 2004 (12,079)
3 Month Eurodollar ......... 12 Long December, 2004 (10,854)
3 Month Eurodollar ......... 12 Long March, 2005 (11,579)
3 Month Eurodollar ......... 12 Long June, 2005 (11,654)
3 Month Eurodollar ......... 12 Long September, 2005 (11,479)
3 Month Eurodollar ......... 4 Long December, 2005 (1,168)
3 Month Eurodollar ......... 2 Long March, 2006 (559)
---------
Total ($ 116,543)
=========
</TABLE>
The Intermediate Fund had the following open futures contracts as of March 31,
1999:
<TABLE>
<CAPTION>
NUMBER OF EXPIRATION UNREALIZED
TYPE CONTRACTS POSITION MONTH GAIN/(LOSS)
- -------------------------- ----------- ---------- --------------- ------------
<S> <C> <C> <C> <C>
5 Year Treasury .......... 32 Long June, 1999 ($ 10,246)
10 Year Treasury ......... 82 Short June, 1999 87,600
--------
Total $ 77,354
========
</TABLE>
<PAGE>
SMITH BREEDEN MUTUAL FUNDS
- --------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
2. FINANCIAL INSTRUMENTS -- CONTINUED
The U.S. Equity Fund had the following open interest-rate futures contracts as
of March 31, 1999:
<TABLE>
<CAPTION>
NUMBER OF EXPIRATION UNREALIZED
TYPE CONTRACTS POSITION MONTH GAIN/(LOSS)
- ---------------------------- ----------- ---------- ----------------- --------------
<S> <C> <C> <C> <C>
5 Year Treasury ............ 126 Short June, 1999 $ 18,527
10 Year Treasury ........... 81 Short June, 1999 60,409
3 Month Eurodollar ......... 185 Long June, 1999 31,543
3 Month Eurodollar ......... 166 Short September, 1999 (214,510)
3 Month Eurodollar ......... 18 Short December, 1999 7,819
3 Month Eurodollar ......... 55 Short March, 2000 (31,048)
3 Month Eurodollar ......... 18 Short June, 2000 15,032
3 Month Eurodollar ......... 127 Short September, 2000 (164,284)
3 Month Eurodollar ......... 18 Short December, 2000 14,007
3 Month Eurodollar ......... 49 Short March, 2001 (3,208)
3 Month Eurodollar ......... 18 Short June, 2001 15,132
3 Month Eurodollar ......... 123 Short September, 2001 (148,704)
3 Month Eurodollar ......... 18 Short December, 2001 12,769
3 Month Eurodollar ......... 48 Short March, 2002 3,059
3 Month Eurodollar ......... 18 Short June, 2002 15,494
3 Month Eurodollar ......... 117 Short September, 2002 (35,589)
3 Month Eurodollar ......... 18 Short December, 2002 13,369
3 Month Eurodollar ......... 62 Short March, 2003 (3,129)
3 Month Eurodollar ......... 18 Short June, 2003 15,544
3 Month Eurodollar ......... 102 Short September, 2003 35,204
3 Month Eurodollar ......... 16 Short December, 2003 10,803
3 Month Eurodollar ......... 65 Short March, 2004 9,645
3 Month Eurodollar ......... 16 Short June, 2004 12,803
3 Month Eurodollar ......... 16 Short September, 2004 13,103
3 Month Eurodollar ......... 16 Short December, 2004 11,678
3 Month Eurodollar ......... 135 Short March, 2005 26,768
3 Month Eurodollar ......... 16 Short June, 2005 13,003
3 Month Eurodollar ......... 13 Short September, 2005 11,167
3 Month Eurodollar ......... 4 Short December, 2005 2,007
3 Month Eurodollar ......... 78 Short March, 2006 18,424
3 Month Eurodollar ......... 24 Short March, 2007 8,292
---------
Total ($ 204,874)
=========
</TABLE>
The Financial Services Fund had the following open futures contracts on the S&P
500 Index as of March 31, 1999:
<TABLE>
<CAPTION>
NUMBER OF UNREALIZED
TYPE CONTRACTS POSITION EXPIRATION MONTH GAIN/(LOSS)
- ----------------- ----------- ---------- ------------------ ------------
<S> <C> <C> <C> <C>
S&P 500 ......... 7 Short June, 1999 ($ 57,627)
--------
Total ($ 57,627)
========
</TABLE>
Futures transactions involve costs and may result in losses. The effective use
of futures depends on the Funds' ability to close futures positions at times
when the Funds' Advisor deems it desirable to do so. The use of futures also
involves the risk of imperfect correlation among movements in the values of the
securities underlying the futures purchased and sold by the Funds, of the
futures contract themselves, and of the securities that are the subject of a
hedge.
<PAGE>
SMITH BREEDEN MUTUAL FUNDS
- --------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
2. FINANCIAL INSTRUMENTS -- CONTINUED
B. DERIVATIVE FINANCIAL INSTRUMENTS HELD OR ISSUED FOR TRADING PURPOSES: The
U.S. Equity Fund invests in futures contracts on the S&P 500 Index whose
returns are expected to track movements in the S&P 500 Index.
The U.S. Equity Fund had the following open futures contracts on the S&P 500
Index as of March 31, 1999:
<TABLE>
<CAPTION>
NUMBER OF EXPIRATION UNREALIZED
TYPE CONTRACTS POSITION MONTH GAIN/(LOSS)
- ------------------- ----------- ---------- ------------ ------------
<S> <C> <C> <C> <C>
S&P 500 ......... 580 Long June, 1999 $1,787,863
----------
Total $1,787,863
==========
</TABLE>
C. ASSETS PLEDGED TO COVER MARGIN REQUIREMENTS FOR OPEN FUTURES POSITIONS: The
aggregate market value of assets pledged to cover margin requirements for the
open futures positions at March 31, 1999 was:
<TABLE>
<CAPTION>
FUND ASSETS PLEDGED
- ------------------------------- ---------------
<S> <C>
Short Fund .................. $ 353,496
Intermediate Fund ........... 215,792
U.S. Equity Fund ............ 11,246,155
Financial Services Fund ..... 115,500
</TABLE>
E. INTEREST-RATE SWAP CONTRACTS: The Funds may use interest-rate swap contracts
to help manage interest-rate risk. Interest-rate swaps represent an agreement
between counterparties to exchange cash flows based on the difference between
two interest rates, applied to a notional principal amount for a specified
period. The most common type of interest-rate swap involves the exchange of
fixed-rate cash flows for variable-rate cash flows. Interest-rate swaps do not
involve the exchange of principal between the parties. The Funds will not enter
into interest-rate swap contracts unless the unsecured commercial paper,
unsecured senior debt or the claims-paying ability of the counterparty is rated
either AA or A or better by Standard & Poor's Corporation, or Aa or P-1 or
better by Moody's Investors Service, Inc. (or is otherwise acceptable to either
agency) at the time of entering into such a transaction. If the counterparty to
the swap transaction defaults, the Funds will be limited to contractual
remedies pursuant to the agreements governing the transaction. There is no
assurance that interest-rate swap contract counterparties will be able to meet
their obligations under the swap contracts or that, in the event of default,
the Funds will succeed in pursuing contractual remedies. The Funds may thus
assume the risk that payments owed the Funds under a swap contract will be
delayed, or not received at all. Should interest rates move unexpectedly, the
Funds may not achieve the anticipated benefits of the interest-rate swaps, and
may realize a loss. The Funds recognize gains and losses under interest-rate
swap contracts as realized gains or losses on investments upon sale of the swap
contracts.
As of March 31, 1999, the Short Fund had two open interest-rate swap contracts.
In each of the contracts, the Short Fund has agreed to pay a fixed rate and
receive a floating rate. The Short Fund's interest-rate swap contracts have
been entered into on a net basis, i.e., the two payment streams are netted out,
with the Short Fund receiving or paying, as the case may be, only the net
amount of the two payments. The floating rate on the contracts resets quarterly
and is the three-month London Inter-Bank Offered Rate ("LIBOR"). The Short
Fund's interest payable on the interest-rate swap contracts as of March 31,
1999 was $57,776. No collateral is required under these contracts.
F. INTEREST-RATE CAP CONTRACTS: The purchase of an interest-rate cap entitles
the purchaser, to the extent that a specified index exceeds a predetermined
interest rate, to receive payments of interest on a notional principal amount
from the party selling such interest rate caps. The Short Fund had one
interest-rate cap contract open at March 31, 1999.
<PAGE>
SMITH BREEDEN MUTUAL FUNDS
- --------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
2. FINANCIAL INSTRUMENTS -- CONTINUED
G. OPTIONS ON INTEREST-RATE SWAP CONTRACTS: The Funds may enter into
over-the-counter transactions swapping interest rates, or purchase options to
enter into such contracts. Purchased options on interest-rate swap contracts
("swaptions") give the right, but not the obligation, to enter into a swap
contract with the counterparty which has written the option on a date, at an
interest rate, and with a notional amount as specified in the swaption
agreement.
As of March 31, 1999, the U.S. Equity Fund had two open swaptions. In each of
the contracts, the Fund has paid a sum of money, called a premium, to the
counterparty, in return for the swaptions. These swaptions may be exercised by
entering into a swap contract with the counterparty only on the date specified
in each contract. If the swaptions are exercised, the Fund will enter into a
swap either to pay a specified fixed interest rate in return for receiving a
floating rate, or receive a fixed rate in return for paying a floating rate,
based on the respective contracts, or both. The floating rate on the swap
contracts as specified in the swaption agreements resets quarterly and is the
three-month London Inter-Bank Offered Rate ("LIBOR"). If the counterparty to
the swaption transaction defaults, the Fund will be limited to contractual
remedies pursuant to the agreements governing the transaction. There is no
assurance that the interest rate swap or swaption contract counterparty will be
able to meet its obligation under the contracts, or that, in the event of
default, the Fund will succeed in pursuing contractual remedies. The Fund thus
assumes the risk that it may be delayed in, or prevented from, receiving
payments owed to it under the swaption, or swap contracts should the swaptions
be exercised. Should interest rates move unexpectedly, the Fund may not achieve
the anticipated benefits of the swaptions, and may realize a loss. The Fund
recognizes gains and losses under swaptions as realized gains or losses on
investments upon sale or expiration of the contracts.
3. INVESTMENT ADVISORY FEES AND OTHER TRANSACTIONS WITH AFFILIATES
Smith Breeden Associates, Inc. (the "Advisor"), a registered Investment
Advisor, provides the Funds with investment management services. As
compensation for these services, the Funds pay the Advisor a fee computed daily
and payable monthly at a fixed annual rate based on the Funds' average daily
net assets.
The Advisor has voluntarily agreed to reimburse normal business expenses of the
Funds through August 1, 1999 so that total direct and indirect operating
expenses do not exceed the percentages listed below of each fund's average net
assets. This voluntary agreement may be terminated or modified at any time by
the Advisor in its sole discretion except that the Advisor has agreed to limit
expenses to these levels until August 1, 1999. The table below lists the fees
received by the Advisor and the expenses reimbursed by the Advisor to each Fund
during the year ending March 31, 1999.
<TABLE>
<CAPTION>
NET EXPENSE FEES RECEIVED EXPENSES REIMBURSED
FUND RATIO BY ADVISOR BY ADVISOR
- ------------------------------- ------------- --------------- --------------------
<S> <C> <C> <C>
Short Fund .............. 0.78% $ 508,343 $ 155,616
Intermediate Fund ....... 0.88% 355,620 83,434
U.S. Equity Fund ........ 0.88% 1,090,372 251,051
Financial Services Fund . 1.48% 107,863 117,431
High Yield Bond Fund .... 0.98% 6,058 50,547
</TABLE>
The Funds have adopted a Distribution and Services Plan (the "Plan") under Rule
12b-1 under the Investment Company Act of 1940. The purpose of the Plan is to
permit the Advisor 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 Plan provides for payments by the Advisor, which
may come out of the advisory fee, to dealers and other persons at the annual
rate of up to 0.25% of each Fund's average net assets, subject to the authority
of the Trustees of the Fund, 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 Advisor shall determine the amount of such payments
and the purposes for which they are made.
<PAGE>
SMITH BREEDEN MUTUAL FUNDS
- --------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
3. INVESTMENT ADVISORY FEES AND OTHER TRANSACTIONS WITH AFFILIATES -- CONTINUED
Certain officers and trustees of the Fund are also officers and directors of
the Advisor.
4. INVESTMENT TRANSACTIONS
During the year ended March 31, 1999 purchases and proceeds from sales of
securities, other than short-term investments, aggregated:
<TABLE>
<CAPTION>
PURCHASES OF PROCEEDS FROM
FUND SECURITIES SALES OF SECURITIES
- ------------------------------- ---------------- --------------------
<S> <C> <C>
Short Fund .................. $ 257,690,659 $ 254,290,486
Intermediate Fund ........... 259,809,711 229,277,078
U.S. Equity Fund ............ 875,819,709 790,168,109
Financial Services Fund ..... 11,055,264 8,877,443
High Yield Bond Fund ........ 2,398,197 213,563
</TABLE>
The cost of securities held for Federal tax purposes, and the net unrealized
appreciation (depreciation) of investments, short sales and futures contracts
is as follows:
<TABLE>
<CAPTION>
COST OF SECURITIES NET UNREALIZED
FOR FEDERAL TAX GROSS UNREALIZED GROSS UNREALIZED APPRECIATION
FUND PURPOSES APPRECIATION DEPRECIATION (DEPRECIATION)
- ------------------------------ -------------------- ------------------ ------------------ -----------------
<S> <C> <C> <C> <C>
Short Fund .................. $ 93,524,013 $ 1,102,601 ($ 3,534,330) ($ 2,431,729)
Intermediate Fund ........... 66,373,425 213,025 (360,020) (146,995)
U.S. Equity Fund ............ 246,631,334 2,443,797 (1,376,620) 1,067,177
Financial Services Fund ..... 8,654,885 503,012 (462,793) 40,219
High Yield Bond Fund ........ 2,195,739 46,929 (121,573) (74,644)
</TABLE>
5. CREDIT FACILITY
The High Yield Bond Fund and the Financial Services Funds have available
unsecured lines of credit from Bank of New York, the Funds' custodian. Total
borrowing allowed under the lines of credit is limited to the lesser of:
a) The amount of the line of credit;
b) 33 1/3% of the amount by which each Fund's total assets exceed each Fund's
total liabilities at the time a borrowing request is made;
c) The maximum amount the Funds are permitted to borrow under the Investment
Company Act of 1940, as amended; or
d) The maximum amount the Bank of New York is permitted to loan to the Funds
under regulations promulgated by the Board of Governors of the Federal Reserve
System.
The Financial Services Fund pays a fee of 0.15% per annum, and the High Yield
Fund pays a fee of 0.25% per annum on the total line of credit, whether used or
unused. In addition, the Financial Services Fund pays interest at a rate per
annum equal to the overnight Federal Funds Rate plus 1%, and the High Yield
Fund pays interest at a rate per annum equal to the overnight Federal Funds
Rate plus 1 1/4%, on amounts borrowed under the lines of credit. The total
amount of the line of credit is $2,500,000 for the Financial Services Fund and
$1,000,000 for the High Yield Bond Fund. As of March 31, 1999, the Financial
Services Fund had borrowed $2,125,000 and the High Yield Bond Fund had borrowed
$60,000 under the Funds' respective lines of credit.
SMITH BREEDEN SERIES FUND
FORM N-1A
PART C. OTHER INFORMATION
Item 23. Exhibits.
(a) Declaration of Trust: Incorporated by Reference
(b) By-Laws: Incorporated by Reference
(c) Instruments Defining Rights of Security Holders:
Incorporated by Reference
(d) Form of Investment Advisory Agreement
for Smith Breeden Series Fund: Incorporated by
Reference
(e) Form of Underwriting or Distribution
Agreement: Incorporated by Reference
(f) Bonus, Profit Sharing, Pension and Other
Similar Arrangements: Not Applicable
(g) Custodian Agreement: Incorporated by Reference
(h) Other Material Contracts:
Shareholder Services Agreement: Incorporated by
Reference
Accounting Services Agreement: Incorporated by
Reference
(i) Legal Opinion: Incorporated by Reference to
Pre-Effective Amendment No. 1 filed on
November 26, 1991.
(j) Other Opinions:
Independent Auditors' Consent
(k) Financial Statements Omitted from Item 22:
Not Applicable
(l) Initial Capital Agreements: Incorporated by
Reference
(m) Form of Rule 12b-1 Plan for Smith Breeden
Series Fund: Incorporated by Reference
(n) Financial Data Schedule: Not Applicable
(o) Rule 18f-3 Multi-Class Plan: Not Applicable
Item 24. Persons Controlled by or under Common Control
with Registrant.
As of 6/30/99, there were no persons controlled by
or under common control with the Smith Breeden Short
Duration U.S. Government Fund. Webster Financial of
Waterbury, Connecticut may be deemed to control the
Smith Breeden Intermediate Duration U.S. Government Fund
by virtue of owning 29.56% of the outstanding shares of
the Fund as of 6/30/99.
Item 25. Indemnification.
Reference is made to Article IV, Sections 4.2 and 4.3 of
Registrant's Declaration of Trust (Exhibit 1(a)) with
respect to indemnification of the Trustees and officers of
Registrant against liabilities which may be incurred by
them in such capacities.
Insofar as indemnification for liability arising under the
Securities Act of 1933, as amended (the "Act"), may be
permitted to directors, officers and controlling persons
of the Registrant pursuant to the foregoing provisions, or
otherwise, the Registrant has been advised that, in the
opinion of the Securities and Exchange Commission ("SEC"),
such indemnification is against public policy as expressed
in the Act, and is, therefore, unenforceable. In the
event that a claim for indemnification against such
liabilities (other than the payment by the Registrant of
expenses incurred or paid by a trustee, an officer or a
controlling person of the Registrant in the successful
defense of any action, suit or proceeding) is asserted by
such trustee, officer or controlling person in connection
with the securities being registered, the Registrant will,
unless in the opinion of its counsel the matter has been
settled by controlling precedent, submit to a court of
appropriate jurisdiction the question whether such
indemnification by it is against public policy as
expressed in the Act and will be governed by the final
adjudication of such issue.
Each disinterested Trustee has entered into an indemnity
agreement with the Adviser whereby the Adviser indemnifies
each disinterested Trustee against defense costs in
connection with a civil claim which involves the Trustee
by virtue of his position with the Fund.
Item 26. Business and Other Connections of Adviser.
Smith Breeden Associates, Inc. (the "Adviser") acts as
investment adviser to financial institutions, insurance,
pension, charitable foundation clients and other registered
investment companies. For a description of the officers
and directors of the Adviser and their business
affiliations, see "Management of the Fund" in the
Prospectus contained within this Registration Statement.
Item 27. Principal Underwriters
(a) First Data Distributors, Inc. ("FDDI"), the
principal underwriter for the Registrant's
securities, currently acts as principal underwriter
for the following entities:
BT Insurance Funds Trust
CT&T Funds
First Choice Funds Trust
Forward Funds, Inc.
The Galaxy Fund
Galaxy Fund II
The Galaxy VIP Fund
The Govett Funds, Inc.
IAA Trust Asset Allocation Fund, Inc.
IAA Trust Growth Fund, Inc.
IAA Trust Taxable Fixed Income Series Fund, Inc.
IAA Trust Tax Exempt Bond Fund, Inc.
IBJ Funds Trust
ICM Series Trust
Light Index Funds, Inc.
LKCM Funds
Matthews International Funds
McM Funds
Metropolitan West Funds
Panorama Trust
The Potomac Funds
Rembrandt Funds
RWB/WPG U.S. Large Stock Fund
Smith Breeden Series Fund
Smith Breeden Trust
The Stratton Funds, Inc.
Stratton Growth Fund, Inc.
Stratton Monthly Dividend REIT Shares, Inc.
Tomorrow Funds Retirement Trust
Trainer, Wortham First Mutual Funds
Undiscovered Managers Funds
Weiss, Peck & Greer Funds Trust
Weiss, Peck & Greer International Fund
Wilshire Target Funds, Inc.
WorldWide Index Funds
WPG Growth Fund
WPG Growth and Income Fund
WPG Tudor Fund
(b) The table below sets forth certain information as
to the Underwriter's Directors, Officers and
Control Persons:
NAME AND PRINCIPAL POSITION AND OFFICES POSITION AND
BUSINESS ADDRESS WITH UNDERWRITER OFFICES WITH
REGISTRANT
Robert Guillocheau Director None
4400 Computer Drive
Westborough, MA 01581
Francis Koudelka President & Chief None
4400 Computer Drive Executive Officer
Westborough, MA 01581
Jack Kutner Director None
4400 Computer Drive
Westborough, MA 01581
Scott Hacker Vice President, None
4400 Computer Drive Treasurer & Chief
Westborough, MA 01581 Compliance Officer
Bruno DiStefano Vice President None
3200 Horizon Drive
P.O. Box 61503
King of Prussia, PA
19406-0903
Sue Moscaritolo Vice President None
4400 Computer Drive
Westborough, MA 01581
Bernard Rothman Vice President None
4400 Computer Drive
Westborough, MA 01581
Christine Ritch Chief Legal Officer None
4400 Computer Drive and Clerk
Westborough, MA 01581
Bradley Stearns Assistant Clerk None
4400 Computer Drive
Westborough, MA 01581
(c) Not Applicable.
Item 28. Locations of Accounts and Records.
The accounts, books or other documents required to be
maintained by Section 31(a) of the Investment Company Act
of 1940 and the Rules thereunder will be kept by the
Registrant at the following offices.
(1) First Data Investor Services, Inc., 3200 Horizon
Drive, P. O. Box 61503, King of Prussia, PA
19406-0903
(2) Smith Breeden Associates, Inc., 100 Europa Drive,
Suite 200, Chapel Hill, NC 27514
Item 29. Management Services.
There are no management-related service contracts not
discussed in Part A or Part B.
Item 30. Undertakings.
(a) The Registrant previously has undertaken to
promptly call a meeting of shareholders for the purpose
of voting upon the question of removal of any trustee or
trustees when requested in writing to do so by the record
holders of not less than 10 percent of the Registrant's
outstanding shares and to assist its shareholders in
accordance with the requirements of Section 16(c) of the
Investment Company Act of 1940 relating to shareholder
communications.
(b) The registrant hereby undertakes to furnish to
each person to whom a prospectus is delivered a copy of
the Registrant's latest annual report to shareholders
upon request and without charge.
SIGNATURES
Pursuant to the requirements of the Securities Act of
1933, as amended, and the Investment Company Act of 1940,
as amended, the Registrant certifies that it meets all of
the requirements for effectiveness of this Registration
Statement pursuant to Rule 485 (b) under the Securities Act
of 1933 and has duly caused this Amendment to the
Registration Statement to be signed on its behalf by the
undersigned, thereunto duly authorized, in the City of
Chapel Hill, and the State of North Carolina, on the 30th
day of July, 1999.
SMITH BREEDEN SERIES FUND
By
Michael J. Giarla
President
Pursuant to the requirements of the Securities Act of 1933,
this Amendment to the Registration Statement has been
signed below by the following persons in the capacities
and on the dates indicated.
SIGNATURE TITLE DATE
Michael J. Giarla President, Principal July 30, 1999
Executive Officer,
and Trustee
Douglas T. Breeden* Trustee July 30, 1999
Stephen M. Schaefer* Trustee July 30, 1999
Myron S. Scholes* Trustee July 30, 1999
William F. Sharpe* Trustee July 30, 1999
Marianthe S. Mewkill Principal Financial July 30, 1999
and Accounting Officer
* By Marianthe S. Mewkill, Attorney-in-Fact pursuant to
power-of-attorney filed previously.
CONSENT OF INDEPENDENT AUDITORS
Smith Breeden Series Fund:
We consent to the use in Post-Effective Amendment No. 19 to
Registration Statement
No. 33-43089 of our reports dated May 14, 1999 relating to the
Smith Breeden Short Duration
U.S. Government Fund and Smith Breeden Intermediate Duration U.S.
Government Fund of the
Smith Breeden Series Fund appearing in the Statement of
Additional Information, which is a part
of such Registration Statement, and to the references to
us under the captions "Experts"
appearing in the Statement of Additional Information and
"Financial Highlights" appearing in the
Prospectus, which also is a part of such Registration Statement.
DELOITTE & TOUCHE LLP
Princeton, New Jersey
July 28, 1999
