THE BILTMORE FUNDS
THE BILTMORE MUNICIPAL FUNDS
SUPPLEMENT TO THE COMBINED PROSPECTUSES DATED JANUARY 31, 1997
Effective immediately, Michael Peters no longer serves as portfolio manager
of The Biltmore Municipal Funds. Therefore, please delete Mr. Peters'
biographical information from the prospectuses. R. Emery Pike will serve as
portfolio manager to The Biltmore Municipal Funds, as well as continuing to
serve as portfolio manager for The Biltmore Fixed Income Fund.
In addition, in the Combined Prospectus for Class A Shares and Class B
Shares, please add the following as the second sentence of the section
entitled `Purchases At Net Asset Value'' on page 30:
`Class A Shares may also be purchased at net asset value by
participants in qualified retirement plans for which the Wachovia
Banks had previously, but no longer, serve as administrator.''
March 10, 1997
THE BILTMORE FUNDS
THE BILTMORE MUNICIPAL FUNDS
CLASS A SHARES
ALL PORTFOLIOS
CLASS Y SHARES
ALL PORTFOLIOS
CLASS B SHARES
BILTMORE EQUITY FUND
BILTMORE QUANTITATIVE EQUITY FUND
BILTMORE BALANCED FUND
BILTMORE FIXED INCOME FUND
STATEMENT OF ADDITIONAL INFORMATION
THIS STATEMENT OF ADDITIONAL INFORMATION SHOULD BE READ WITH THE
PROSPECTUSES OF THE BILTMORE FUNDS AND THE BILTMORE MUNICIPAL FUNDS
(INDIVIDUALLY REFERRED TO AS THE "TRUST" OR COLLECTIVELY AS THE
``TRUSTS'), DATED JANUARY 31, 1997. THIS STATEMENT IS NOT A PROSPECTUS
ITSELF. TO RECEIVE A COPY OF THE PROSPECTUSES, CALL THE BILTMORE
SERVICE CENTER TOLL-FREE AT 1-800-994-4414.
Federated Investors Tower
Pittsburgh, Pennsylvania 15222-3779
Statement dated January 31, 1997
(Revised March 10, 1997)
FEDERATED INVESTORS
Federated Investors Tower
Pittsburgh, PA 15222-3779
Federated Securities Corp. is the distributor of the Funds
and is a subsidiary of Federated Investors.
3012917B (3/97)
GENERAL INFORMATION ABOUT THE FUND 1
INVESTMENT OBJECTIVES, POLICIES AND LIMITATIONS1
Portfolio Turnover 15
Investment Limitations 16
THE BILTMORE FUNDS AND THE BILTMORE MUNICIPAL
FUNDS MANAGEMENT 21
Officers and Trustees 21
Fund Ownership 22
Trustees Compensation 23
Trustee Liability 23
INVESTMENT ADVISORY SERVICES 23
Advisers to the Funds 23
Advisory and Sub-Advisory Fees 24
BROKERAGE TRANSACTIONS 24
OTHER SERVICES 26
Administration 26
Custodian 26
Transfer Agent 26
Legal Services 27
Independent Auditors 27
DISTRIBUTION PLAN (CLASS B SHARES ONLY) AND
SHAREHOLDER SERVICES PLAN (CLASS A AND CLASS B
SHARES ONLY) 27
PURCHASING FUND SHARES 28
Conversion to Federal Funds 28
Exchanging Securities for Fund Shares 28
DETERMINING NET ASSET VALUE 28
DETERMINING MARKET VALUE OF SECURITIES 28
REDEEMING FUND SHARES 29
Redemption in Kind 29
MASSACHUSETTS BUSINESS TRUSTS 29
TAX STATUS 29
The Funds' Tax Status 29
Shareholders' Tax Status 30
Capital Gains 30
TOTAL RETURN 31
YIELD 32
TAX-EQUIVALENT YIELD 33
PERFORMANCE COMPARISONS 36
FINANCIAL STATEMENTS 39
STANDARD & POOR'S CORPORATION 39
APPENDIX 40
GENERAL INFORMATION
The Biltmore Funds was established as a Massachusetts business trust
under a Declaration of Trust dated November 19, 1991. The Biltmore
Municipal Funds was established as a Massachusetts business trust under a
Declaration of Trust dated August 15, 1990. Prior to June 3, 1993, The
Biltmore Municipal Funds was known as `The Passageway Funds.''Unless
otherwise indicated, the investment policies described below may be changed
by the Board of Trustees ("Trustees" or the `Board'') without shareholder
approval. Shareholders will be notified before any material change in these
policies becomes effective. Capitalized terms not otherwise defined in
this Statement shall have the same meaning assigned in the prospectus. The
following Funds (individually referred to as the `Fund'' or collectively
as the `Funds'') are portfolios of the Trusts:
Shares of Biltmore Equity Fund (``Equity Fund'') are currently offered in
three classes: Class A Shares, Class B Shares, and Class Y Shares.
Shares of Biltmore Quantitative Equity Fund (``Quantitative Equity
Fund') are currently offered in three classes: Class A Shares, Class B
Shares, and Class Y Shares.
Shares of Biltmore Equity Index Fund (``Equity Index Fund'') are
currently offered in two classes: Class A Shares and Class Y Shares.
Shares of Biltmore Special Values Fund (``Special Values Fund'') are
currently offered in two classes: Class A Shares and Class Y Shares.
Shares of Biltmore Emerging Markets Fund (``Emerging Markets Fund'') are
currently offered in two classes: Class A Shares and Class Y Shares.
Shares of Biltmore Balanced Fund (``Balanced Fund'') are currently
offered in three classes: Class A Shares, Class B Shares, and Class Y
Shares.
Shares of Biltmore Fixed Income Fund (``Fixed Income Fund'') are
currently offered in three classes: Class A Shares, Class B Shares, and
Class Y Shares.
Shares of Biltmore Short-Term Fixed Income Fund (``Short-Term Fixed
Income Fund') are currently offered in two classes: Class A Shares and
Class Y Shares.
Shares of Biltmore Georgia Municipal Bond Fund (``Georgia Municipal Bond
Fund') are currently offered in two classes: Class A Shares and Class Y
Shares
Shares of Biltmore North Carolina Municipal Bond Fund (``North Carolina
Municipal Bond Fund') are currently offered in two classes: Class A Shares
and Class Y Shares
Shares of Biltmore South Carolina Municipal Bond Fund (``South Carolina
Municipal Bond Fund') are currently offered in two classes: Class A Shares
and Class Y Shares.
Prior to July 22, 1996, each Fund offered a single class of shares,
which is currently designated as Class A Shares.
INVESTMENT OBJECTIVES, POLICIES, AND LIMITATIONS OF THE FUNDS
The prospectuses discuss the objective of each Fund and the policies
that each Fund employs to achieve its objective. The following discussion
supplements the description of each Fund's investment policies.
Each Fund's respective investment objective cannot be changed without
the approval of shareholders.
WHEN-ISSUED AND DELAYED DELIVERY TRANSACTIONS
These transactions are made to secure what is considered to be an
advantageous price or yield for the Funds. No fees or other expenses,
other than normal transaction costs, are incurred. However, liquid assets
of the Funds sufficient to make payment for the securities to be purchased
are segregated on the Funds' records at the trade date. These assets are
marked to market daily and are maintained until the transaction has been
settled. The Funds do not intend to engage in when-issued and delayed
delivery transactions to an extent that would cause the segregation of more
than 20% of the total value of a Fund's assets.
LENDING OF PORTFOLIO SECURITIES
The collateral received when a Fund lends portfolio securities must be
valued daily and, should the market value of the loaned securities
increase, the borrower must furnish additional collateral to the Fund.
During the time portfolio securities are on loan, the borrower pays the
Fund any dividends or interest paid on such securities. Loans are subject
to termination at the option of the Fund or the borrower. A Fund may pay
reasonable administrative and custodial fees in connection with a loan and
may pay a negotiated portion of the interest earned on the cash or
equivalent collateral to the borrower or placing broker. The Funds do not
have the right to vote securities on loan. In circumstances where the Fund
does not, the Fund would terminate the loan and regain the right to vote if
that were considered important with respect to the investment.
REPURCHASE AGREEMENTS
The Funds require the custodian to take possession of the securities
subject to repurchase agreements and these securities are marked to market
daily. To the extent that the original seller does not repurchase the
securities from a Fund, the Fund could receive less than the repurchase
price on any sale of such securities. In the event that such a defaulting
seller filed for bankruptcy or became insolvent, disposition of such
securities by the Fund might be delayed pending court action. The Funds
believe that, under the regular procedures normally in effect for custody
of a Fund's portfolio securities subject to repurchase agreements, a court
of competent jurisdiction would rule in favor of the Fund and allow
retention or disposition of such securities. A Fund will only enter into
repurchase agreements with banks and other recognized financial
institutions, such as broker/dealers, which are deemed by the Funds'
advisers to be creditworthy pursuant to guidelines established by the
Trustees.
REVERSE REPURCHASE AGREEMENTS
The Funds may enter into reverse repurchase agreements under certain
circumstances. This transaction is similar to borrowing cash. In a reverse
repurchase agreement, a Fund transfers possession of a portfolio instrument
to another person, such as a financial institution, broker, or dealer, in
return for a percentage of the instrument's market value in cash, and
agrees that on a stipulated date in the future the Fund will repurchase the
portfolio instrument by remitting the original consideration plus interest
at an agreed upon rate. The use of reverse repurchase agreements may enable
a Fund to avoid selling portfolio instruments at a time when a sale may be
deemed to be disadvantageous, but the ability to enter into reverse
repurchase agreements does not ensure that a Fund will be able to avoid
selling portfolio instruments at a disadvantageous time.
When effecting reverse repurchase agreements, liquid assets of a Fund,
in a dollar amount sufficient to make payment for the obligations to be
purchased, are segregated at the trade date. These securities are marked to
market daily and maintained until the transaction is settled.
MONEY MARKET INSTRUMENTS
The Funds may invest in money market instruments such as:
instruments of domestic and foreign banks and savings and loans if they
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have capital, surplus, and undivided profits of over $100,000,000, or if
the principal amount of the instrument is federally insured;
commercial paper rated, at the time of purchase, A-1 or better by
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Standard & Poor's Ratings Group ("S&P") or Prime-1 or better by Moody's
Investors Service ("Moody's") or, if unrated, are of comparable quality
as determined by the Fund's investment adviser.
time and savings deposits whose accounts are insured by the Bank
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Insurance Fund ("BIF"), which is administered by the Federal Deposit
Insurance Corporation ("FDIC"), or in institutions whose accounts are
insured by the Savings Association Insurance Fund ("SAIF"), which is
also administered by the FDIC, including certificates of deposit issued
by and other time deposits in foreign branches of BIF-insured banks; or
bankers' acceptances.
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The Equity Fund, Quantitative Equity Fund, Special Values Fund and the
Biltmore Municipal Funds may invest in money market instruments as
temporary investments, from time to time, for defensive purposes.
FUTURES AND OPTIONS TRANSACTIONS
The Funds (except the Biltmore Municipal Funds) may engage in futures
and options transactions. As a means of reducing fluctuations in the net
asset value of shares of a Fund, a Fund may attempt to hedge its portfolio
by buying and selling financial futures contracts, buying put options on
portfolio securities and put options on financial futures contracts for
portfolio securities, or writing call options on futures contracts. A Fund
also may write covered call options on portfolio securities to attempt to
increase its current income.
A Fund will maintain its position in securities, options and segregated
cash subject to puts and calls until the options are exercised, closed, or
have expired. An option position may be closed out over-the-counter or on a
nationally-recognized exchange which provides a secondary market for
options of the same series.
FUTURES CONTRACTS
The Funds (except the Biltmore Municipal Funds) may purchase and sell
financial futures contracts to hedge against the effects of changes in
the value of portfolio securities due to anticipated changes in
interest rates and market conditions without necessarily buying or
selling the securities. The Funds will not engage in futures
transactions for speculative purposes.
A futures contract is a firm commitment by two parties: the seller,
who agrees to make delivery of the specific type of security called
for in the contract ("going short"), and the buyer, who agrees to take
delivery of the security ("going long") at a certain time in the
future.
For example, in the fixed income securities market, prices generally
move inversely to interest rates. A rise in rates means a drop in
price. Conversely, a drop in rates typically means a rise in price. In
order to hedge its holdings of fixed income securities against a rise
in market interest rates, the Fund could enter into contracts to
deliver securities at a predetermined price (i.e., "go short") to
protect itself against the possibility that the prices of its fixed
income securities may decline during a Fund's anticipated holding
period. A Fund would "go long" (agree to purchase securities in the
future at a predetermined price) to hedge against a decline in market
interest rates.
"MARGIN" IN FUTURES TRANSACTIONS
The Funds (except the Biltmore Municipal Funds)may engage in
`margin'' in futures transactions. Unlike the purchase or sale of a
security, a Fund does not pay or receive money upon the purchase or
sale of a futures contract. Rather, the Fund is required to deposit an
amount of "initial margin" in cash or U.S. Treasury bills with its
custodian or the broker.. The nature of initial margin in futures
transactions is different from that of margin in securities
transactions in that initial margin in futures transactions does not
involve the borrowing of funds by a Fund to finance the transactions.
Initial margin is in the nature of a performance bond or good faith
deposit on the contract which is returned to the Fund upon termination
of the futures contract, assuming all contractual obligations have
been satisfied.
A futures contract held by a Fund is valued daily at the official
settlement price of the exchange on which it is traded. Each day the
Fund pays or receives cash, called "variation margin," equal to the
daily change in value of the futures contract. This process is known
as "marking to market." Variation margin does not represent a
borrowing or loan by a Fund, but is instead settlement between the
Fund and the broker of the amount one would owe the other if the
futures contract expired. In computing its daily net asset value, the
Fund will mark to market its open futures positions.
A Fund is also required to deposit and maintain margin when it writes
call options on futures contracts.
The Funds will comply with the following restrictions when purchasing
and selling futures contracts. First, a Fund will not participate in
futures transactions if the sum of its initial margin deposits on open
contracts will exceed 5% of the market value of each Fund's total
assets, after taking into account the unrealized profits and losses on
those contracts it has entered into. Second, a Fund will not enter
into these contracts for speculative purposes. Third, since a Fund
does not constitute a commodity pool, it will not market itself as
such, nor serve as a vehicle for trading in the commodities futures or
commodity options markets. Connected with this, each Fund will
disclose to all prospective investors the limitations on its futures
and options transactions, and make clear that these transactions are
entered into only for bona fide hedging purposes, or other permissible
purposes pursuant to regulations promulgated by the Commodity Futures
Trading Commission ("CFTC"). Finally, because the Funds will submit to
the CFTC special calls for information, the Funds will not register as
a commodities pool operators.
PURCHASING PUT OPTIONS ON PORTFOLIO SECURITIES
The Funds (except the Biltmore Municipal Funds) may purchase put
options on portfolio securities to protect against price movements in
particular securities in its portfolio. A put option gives a Fund, in
return for a premium, the right to sell the underlying security to the
writer (seller) at a specified price during the term of the option. A
fund may purchase these put options as long as they are listed on a
recognized options exchange and the underlying stocks are held in its
portfolio.
WRITING COVERED CALL OPTIONS ON PORTFOLIO SECURITIES
The Funds (except the Biltmore Municipal Funds) may also write call
options on securities either held in its portfolio or which it has the
right to obtain without payment of further consideration or for with
it has segregated cash in the amount of any additional consideration.
As the writer of a call option, a Fund has the obligation, upon
exercise of the option during the option period, to deliver the
underlying security upon payment of the exercise price. The call
options which a Fund writes and sells must be listed on a recognized
options exchange. Writing of call options by a Fund is intended to
generate income for the Fund and thereby protect against price
movements in particular securities in the Fund's portfolio.
PUT OPTIONS ON FINANCIAL FUTURES CONTRACTS
The Equity Fund, Quantitative Equity Fund, Special Values Fund,
Emerging Markets Fund, Balanced Fund, Fixed Income Fund, and Short-
Term Fixed Income Fund may engage in put options on financial futures
contracts. A Fund may purchase listed put options on financial
futures contracts. The Fund would use these options solely to protect
portfolio securities against decreases in value resulting from market
factors such as an anticipated increase in rates.
Unlike entering directly into a futures contract, which requires the
purchaser to buy a financial instrument on a set date at a specified
price, the purchase of a put option on a futures contract entitles
(but does not obligate) its purchaser to decide on or before a future
date whether to assume a short position at the specified price.
Generally, if the hedged portfolio securities decrease in value during
the term of an option, the related futures contracts will also
decrease in value and the option will increase in value. In such an
event, a Fund will normally close out its option by selling an
identical option. If the hedge is successful, the proceeds received by
a Fund upon the sale of the second option will be large enough to
offset both the premium paid by the Fund for the original option plus
the decrease in value of the hedged securities.
Alternatively, a Fund may exercise its put option to close out the
position. To do so, it would simultaneously enter into a futures
contract of the type underlying the option (for a price less than the
strike price of the option) and exercise the option. The Fund would
then deliver the futures contract in return for payment of the strike
price. If a Fund neither closes out nor exercises an option, the
option will expire on the date provided in the option contract, and
only the premium paid for the contract will be lost.
CALL OPTIONS ON FINANCIAL FUTURES CONTRACTS
The Equity Fund, Quantitative Equity Fund, Special Values Fund,
Emerging Markets Fund, Balanced Fund, Fixed Income Fund, and Short-
Term Fixed Income Fund may engage in call options on financial futures
contracts. In addition to purchasing put options on futures, a Fund
may write listed call options on financial futures contracts or over-
the-counter call options on future contracts to hedge its portfolio
against an increase in market interest rates. When a Fund writes a
call option on a futures contract, it is undertaking the obligation of
assuming a short futures position (selling a futures contract) at the
fixed strike price at any time during the life of the option if the
option is exercised. As market interest rates rise, causing the prices
of futures to decrease, the Fund's obligation under a call option on a
future (to sell a futures contract) costs less to fulfill, causing the
value of the Fund's call option position to increase.
In other words, as the underlying futures price goes down below the
strike price, the buyer of the option has no reason to exercise the
call, so that the Fund keeps the premium received for the option. This
premium can substantially offset the drop in value of the Fund's
portfolio securities.
Prior to the expiration of a call written by a Fund, or exercise of it
by the buyer, the Fund may close out the option by buying an identical
option. If the hedge is successful, the cost of the second option will
be less than the premium received by the Fund for the initial option.
The net premium income of the Fund will then substantially offset the
realized decrease in value of the hedged securities.
A Fund will not maintain open positions in futures contracts it has
sold or call options it has written on futures contracts if, in the
aggregate, the value of the open positions (marked to market) exceeds
the current market value of its portfolio, plus or minus the
unrealized gain or loss on those open positions, adjusted for the
correlation of volatility between the hedged securities and the
futures contracts. If this limitation is exceeded at any time, the
Fund will take prompt action to close out a sufficient number of open
contracts to bring its open futures and options positions within this
limitation.
OVER-THE-COUNTER OPTIONS
The Equity Fund, Quantitative Equity Fund, Special Values Fund,
Emerging Markets Fund, Balanced Fund, Fixed Income Fund, and Short-
Term Fixed Income Fund may purchase and write over-the-counter options
on portfolio securities in negotiated transactions with the buyers or
writers of the options for those options on portfolio securities held
by a Fund and not traded on an exchange. The Fund purchases and writes
options only with investment dealers and other financial institutions
(such as commercial banks or savings and loan associations) deemed
creditworthy by the Funds' investment advisers.
Over-the-counter options are two party contracts with price and terms
negotiated between buyer and seller. In contrast, exchange-traded
options are third party contracts with standardized strike prices and
expiration dates and are purchased from a clearing corporation.
Exchange-traded options have a continuous liquid market while over-
the-counter options may not.
STOCK INDEX FUTURES AND OPTIONS
The Equity Fund, Quantitative Equity Fund, Equity Index Fund, Special
Values Fund, Emerging Markets Fund, and Balanced Fund may utilize
stock index futures contracts, options, and options on futures
contracts as discussed in the prospectuses.
A stock index futures contract is a bilateral agreement which
obligates the seller to deliver (and the purchaser to take delivery
of) an amount of cash equal to a specific dollar amount times the
difference between the value of a specific stock index at the close of
trading of the contract and the price at which the agreement is
originally made. There is no physical delivery of the stocks
constituting the index, and no price is paid upon entering into a
futures contract. In general, contracts are closed out prior to their
expiration.
A Fund may only: (1) buy listed put options on stock indices; (2) buy
listed put options on securities held in its portfolio; and (3) sell
listed call options either on securities held in its portfolio or on
securities which it has the right to obtain without payment of further
consideration (or has segregated cash in the amount of any such
additional consideration). The Fund will maintain its positions in
securities, option rights, and segregated cash subject to puts and
calls until the options are exercised, closed, or expired.
There are several risks accompanying the utilization of futures
contracts to effectively anticipate market movements. Because, by
definition, futures contracts look to projected price levels in the
future, and not to current levels of valuation, market circumstances
may result in there being a discrepancy between the price of the stock
index future and the movement in the corresponding stock index. The
absence of a perfect price correlation between the futures contract
and its underlying stock index could stem from investors choosing to
close futures contracts by offsetting transactions rather than
satisfying additional margin requirements. This could result in a
distortion of the relationship between the index and the futures
market. In addition, because the futures market imposes less
burdensome margin requirements than the securities market, an
increased amount of participation by speculators in the futures market
could result in price fluctuations.
The effectiveness of purchasing stock index options will depend upon
the extent to which price movements in a Fund's portfolio correlate
with price movements of the stock index selected. Because the value of
an index option depends upon movements in the level of the index
rather than the price of a particular stock, whether a Fund will
realize a gain or loss from the purchase of options on an index
depends upon movements in the level of stock prices in the stock
market generally or, in the case of certain indices, in an industry or
market segment, rather than movements in the price of a particular
stock. Accordingly, successful use by a Fund of options on stock
indices will be subject to the ability of a Fund's investment adviser
to predict correctly movements in the direction of the stock market
generally or of a particular industry. This requires different skills
and techniques than predicting changes in the price of individual
stocks.
RISKS
When a Fund uses futures and options on futures as hedging devices,
there is a risk that the prices of the securities subject to the
futures contracts may not correlate perfectly with the prices of the
securities in the Fund's portfolio. This may cause the futures
contract and any related options to react differently than the
portfolio securities to market changes. In addition, the Funds'
adviser could be incorrect in its expectations about the direction or
extent of market factors such as stock price movements. In these
events, a Fund may lose money on the futures contract or option.
It is not certain that a secondary market for positions in futures
contracts or for options will exist at all times. Although the Funds'
adviser will consider liquidity before entering into these
transactions, there is no assurance that a liquid secondary market on
an exchange or otherwise will exist for any particular futures
contract or option at any particular time. A Fund's ability to
establish and close out futures and options positions depends on this
secondary market. The inability to close out these positions could
have an adverse effect on a Fund's ability to effectively hedge its
portfolio.
RESTRICTED AND ILLIQUID SECURITIES
The Funds may invest in restricted and illiquid securities. The ability
of the Trustees to determine the liquidity of certain restricted securities
is permitted under a Securities and Exchange Commission staff position set
forth in the adopting release for Rule 144A (the "Rule") under the
Securities Act of 1933. The Rule is a non-exclusive safe-harbor for certain
secondary market transactions involving securities subject to restrictions
on resale under federal securities laws. The Rule provides an exemption
from registration for resales of otherwise restricted securities to
qualified institutional buyers. The Rule was expected to further enhance
the liquidity of the secondary market for securities eligible for resale
under the Rule. The Fund believes that the staff of the Securities and
Exchange Commission has left the question of determining the liquidity of
all restricted securities (eligible for resale under the Rule) to the
Trusts' Board. The Board considers the following criteria in determining
the liquidity of certain restricted securities:
the frequency of trades and quotes for the security;
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the number of dealers willing to purchase or sell the security and the
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number of other potential buyers;
dealer undertakings to make a market in the security; and
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the nature of the security and the nature of the marketplace trades.
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CONVERTIBLE SECURITIES
The Funds (except the Biltmore Municipal Funds) may invest in
convertible securities. Convertible bonds and convertible preferred stocks
are fixed income securities that generally retain the investment
characteristics of fixed income securities until they have been converted
but also react to movements in the underlying equity securities. The holder
is entitled to receive the fixed income of a bond or the dividend
preference of a preferred stock until the holder elects to exercise the
conversion privilege. Usable bonds are corporate bonds that can be used in
whole or in part, customarily at full face value, in lieu of cash to
purchase the issuer's common stock. When owned as part of a unit along with
warrants, which are options to buy the common stock, they function as
convertible bonds, except that the warrants generally will expire before
the bond's maturity. Convertible securities are senior to equity securities
and, therefore, have a claim to assets of the corporation prior to the
holders of common stock in the case of liquidation. However, convertible
securities are generally subordinated to similar nonconvertible securities
of the same company. The interest income and dividends from convertible
bonds and preferred stocks provide a stable stream of income with generally
higher yields than common stocks, but lower than nonconvertible securities
of similar quality.
A Fund will exchange or convert the convertible securities held in its
portfolio into shares of the underlying common stock in instances in which,
in the Fund's investment adviser's opinion, the investment characteristics
of the underlying common shares will assist the Fund in achieving its
investment objective. Otherwise, the Fund will hold or trade the
convertible securities. In selecting convertible securities for a Fund, the
Fund's investment adviser evaluates the investment characteristics of the
convertible security as a fixed income instrument, and the investment
potential of the underlying equity security for capital appreciation. In
evaluating these matters with respect to a particular convertible security,
a Fund's investment adviser considers numerous factors, including the
economic and political outlook, the value of the security relative to other
investment alternatives, trends in the determination of the issuer's
profits, and the issuer's management capability and practices.
ZERO COUPON CONVERTIBLE SECURITIES
The Funds (except the Biltmore Municipal Funds) may invest in zero
coupon convertible securities. Zero coupon convertible securities are debt
securities which are issued at a discount to their face amount and do not
entitle the holder to any periodic payments of interest prior to maturity.
Rather, interest earned on zero coupon convertible securities accretes at a
stated yield until the security reaches its face amount at maturity. Zero
coupon convertible securities are convertible into a specific number of
shares of the issuer's common stock. In addition, zero coupon convertible
securities usually have features that provide the holder with the
opportunity to put the bonds back to the issuer at a stated price before
maturity. Generally, the prices of zero coupon convertible securities may
be more sensitive to market interest rate fluctuations than conventional
convertible securities.
OBLIGATIONS OF FOREIGN ISSUERS
The Equity Fund, Quantitative Equity Fund, Special Values Fund, Emerging
Markets Fund, and Balanced Fund may invest in obligations of foreign
issuers. Obligations of foreign issuers may include debt obligations of
supranational entities, which include international organizations designed
or supported by governmental entities to promote economic reconstruction or
development, and international banking institutions and related government
agencies. Examples of these include, but are not limited to, the
International Bank for Reconstruction and Development (World Bank),
European Investment Bank and InterAmerican Development Bank.
Obligations of a foreign issuer may present greater risks than
investments in U.S. securities, including higher transaction costs. In
addition, investments in foreign issuers may include additional risks
associated with less market liquidity and political instability. The
possible imposition of withholding taxes on interest income might adversely
affect the payment of principal and interest on obligations of foreign
issuers. Foreign securities may be denominated in foreign currencies.
Therefore, the value in U.S. dollars of a Fund's assets and income may be
affected by changes in exchange rates and regulations.
WARRANTS
The Funds (except the Biltmore Municipal Funds) may invest in warrants.
Warrants are basically options to purchase common stock at a specific price
(usually at a premium above the market value of the optioned common stock
at issuance) valid for a specific period of time. Warrants may have a life
ranging from less than a year to twenty years or may be perpetual. However,
most warrants have expiration dates after which they are worthless. In
addition, if the market price of the common stock does not exceed the
warrant's exercise price during the life of the warrant, the warrant will
expire as worthless. Warrants have no voting rights, pay no dividends, and
have no rights with respect to the assets of the corporation issuing them.
The percentage increase or decrease in the market price of the warrant may
tend to be greater than the percentage increase or decrease in the market
price of the optioned common stock.
CORPORATE DEBT SECURITIES
The Equity Fund, Quantitative Equity Fund, Special Values Fund, Emerging
Markets Fund, Balanced Fund, Fixed Income Fund, and Short-Term Fixed Income
Fund may invest in corporate debt securities. Corporate debt securities may
bear fixed, fixed and contingent, or variable rates of interest. They may
involve equity features such as conversion or exchange rights, warrants for
the acquisition of common stock of the same or a different issuer,
participations based on revenues, sales, or profits, or the purchase of
common stock in a unit transaction (where corporate debt securities and
common stock are offered as a unit).
Increasing rate securities, which currently do not make up a significant
share of the market in corporate debt securities, are generally offered at
an initial interest rate which is at or above prevailing market rates.
Interest rates are reset periodically (most commonly every 90 days) at
different levels on a predetermined scale. These levels of interest are
ordinarily set at progressively higher increments over time. Some
increasing rate securities may, by agreement, revert to fixed rate status.
These securities may also contain features which allow the issuer the
option to convert the increasing rate of interest to a fixed rate under
such terms, conditions, limitations as are described in each issuer's
prospectus.
MORTGAGE-BACKED SECURITIES
The Emerging Markets Fund, Balanced Fund, Fixed Income Fund, and Short-
Term Fixed Income Fund may invest in mortgage-backed securities. The
mortgages underlying mortgage-backed securities often may be prepaid
without penalty or premium. Therefore, mortgage-backed securities are
generally subject to higher prepayment risks than most other types of debt
instruments. Prepayment risks on mortgage-backed securities tend to
increase during periods of declining mortgage interest rates, because many
borrowers refinance their mortgages to take advantage of the more favorable
rates. Depending upon market conditions, the yield that the Fund receives
from the reinvestment of such prepayments, or any scheduled principal
payments, may be lower than the yield on the original mortgage security. As
a consequence, mortgage-backed securities may be a less effective means of
"locking in" interest rates than other types of debt securities having the
same stated maturity and may also have less potential for capital
appreciation. For certain types of asset pools, such as collateralized
mortgage obligations, prepayments may be allocated to one tranche of
securities ahead of other tranches in order to reduce the risk of
prepayments for the other tranches.
Prepayments may result in a capital loss to the Fund to the extent that
the prepaid mortgage securities were purchased at a market premium over
their stated principal amount. Conversely, the prepayment of mortgage-
backed securities purchased at a market discount from their stated
principal amount will accelerate the recognition of interest income by the
Fund, which would be taxed as ordinary income when distributed to the
shareholders.
PRIVATELY ISSUED MORTGAGE-RELATED SECURITIES
The Emerging Markets Fund, Balanced Fund, Fixed Income Fund, and Short-
Term Fixed Income Fund may invest in privately issued mortgage-related
securities. Privately issued mortgage-related securities generally
represent an ownership interest in federal agency mortgage pass-through
securities such as those issued by Government National Mortgage
Association. The terms and characteristics of the mortgage instruments may
vary among pass-through mortgage loan pools. The market for such mortgage-
related securities has expanded considerably since its inception. The size
of the primary issuance market and the active participation in the
secondary market by securities dealers and other investors makes
government-related pools highly liquid.
RESETS OF INTEREST RATES
The interest rates paid on adjustable rate mortgages (``ARMs''),
collateralized mortgage obligations (`CMOs''), and real estate mortgage
investment conduits (`REMICs'') in which the Emerging Markets Fund,
Balanced Fund, Fixed Income Fund, and Short-Term Fixed Income Fund invest
generally are readjusted at intervals of one year or less to an increment
over some predetermined interest rate index. There are two main categories
of indices: those based on U.S. Treasury securities and those derived from
a calculated measure, such as a cost of funds index or a moving average of
mortgage rates. Commonly utilized indices include the one-year and five-
year constant maturity Treasury note rates, the three-month Treasury bill
rate, the 180-day Treasury bill rate, rates on longer-term Treasury
securities, the National Median Cost of Funds, the one-month or three-month
LIBOR, the prime rate of a specific bank, or commercial paper rates. Some
indices, such as the one-year constant maturity Treasury note rate, closely
mirror changes in market interest rate levels. Others tend to lag changes
in market rate levels and tend to be somewhat less volatile.
To the extent that the adjusted interest rate on the mortgage security
reflects current market rates, the market value of an adjustable rate
mortgage security will tend to be less sensitive to interest rate changes
than a fixed rate debt security of the same stated maturity. Hence,
adjustable rate mortgage securities which use indices that lag changes in
market rates should experience greater price volatility than adjustable
rate mortgage securities that closely mirror the market. Certain residual
interest tranches of CMOs may have adjustable interest rates that deviate
significantly from prevailing market rates, even after the interest rate is
reset, and are subject to correspondingly increased price volatility. In
the event a Fund purchases such residual interest mortgage securities, it
will factor in the increased interest and price volatility of such
securities when determining its dollar-weighted average duration.
CAPS AND FLOORS
The underlying mortgages which collateralize the ARMS, CMOs, and REMICs
in which the Emerging Markets Fund, Balanced Fund, Fixed Income Fund, and
Short-Term Fixed Income Fund invest will frequently have caps and floors
which limit the maximum amount by which the loan rate to the residential
borrower may change up or down: (1) per reset or adjustment interval, and
(2) over the life of the loan. Some residential mortgage loans restrict
periodic adjustments by limiting changes in the borrower's monthly
principal and interest payments rather than limiting interest rate changes.
These payment caps may result in negative amortization.
The value of mortgage securities in which a Fund invests may be affected
if market interest rates rise or fall faster and farther than the allowable
caps or floors on the underlying residential mortgage loans. Additionally,
even though the interest rates on the underlying residential mortgages are
adjustable, amortization and prepayments may occur, thereby causing the
effective maturities of the mortgage securities in which a Fund invests to
be shorter than the maturities stated in the underlying mortgages.
DEMAND MASTER NOTES
The Funds (except the Biltmore Municipal Funds) may invest in variable
amount demand master notes. Demand notes are short-term borrowing
arrangements between a corporation or government agency and an
institutional lender (such as a Fund) payable upon demand by either party.
The notice period for demand typically ranges from one to seven days, and
the party may demand full or partial payment. Many master notes give a Fund
the option of increasing or decreasing the principal amount of the master
note on a daily or weekly basis within certain limits. Demand master notes
usually provide for floating or variable rates of interest.
VARIABLE RATE DEMAND NOTES
The Funds (except the Biltmore Municipal Funds) may invest in variable
rate demand notes. Variable rate demand notes are long-term corporate debt
instruments that have variable or floating interest rates and provide a
Fund with the right to tender the security for repurchase at its stated
principal amount plus accrued interest. Such securities typically bear
interest at a rate that is intended to cause the securities to trade at
par. The interest rate may float or be adjusted at regular intervals
(ranging from daily to annually), and is normally based on an interest rate
index or a published interest rate. Many variable rate demand notes allow a
Fund to demand the repurchase of the security on not more than seven days
prior notice. Other notes only permit a Fund to tender the security at the
time of each interest rate adjustment or at other fixed intervals.
DEMAND FEATURES
The Funds (except the Biltmore Municipal Funds) may acquire securities that
are subject to puts and standby commitments ("demand features") which
require the issuer of the demand feature to purchase the securities at
their principal amount (usually with accrued interest) within a fixed
period (usually seven days) following a demand by the Fund. The demand
feature may be issued by the issuer of the underlying securities, a dealer
in the securities or by another third party, and may not be transferred
separately from the underlying security. The Fund uses these arrangements
to provide the Fund with liquidity and not to protect against changes in
the market value of the underlying securities. The bankruptcy, receivership
or default by the issuer of the demand feature, or a default on the
underlying security or other event that terminates the demand feature
before its exercise, will adversely affect the liquidity of the underlying
security. Demand features that are exercisable even after a payment default
on the underlying security may be treated as a form of credit enhancement.
U.S. GOVERNMENT OBLIGATIONS
The Funds may invest in U.S. government obligations. The types of U.S.
government obligations in which the Funds may invest generally include
direct obligations of the U.S. Treasury (such as U.S. Treasury bills,
notes, and bonds) and obligations issued or guaranteed by U.S. government
agencies or instrumentalities. These securities are backed by:
the full faith and credit of the U.S. Treasury;
- -
the issuer's right to borrow from the U.S. Treasury;
- -
the discretionary authority of the U.S. government to purchase certain
- -
obligations of agencies or instrumentalities; or
the credit of the agency or instrumentality issuing the obligations.
- -
Examples of agencies and instrumentalities which may not always receive
financial support from the U.S. government are:
Farm Credit System, including the National Bank for Cooperatives and
- -
Banks for Cooperatives;
Federal Home Loan Banks;
- -
Federal Home Loan Mortgage Corporation;
- -
Federal National Mortgage Association;
- -
Government National Mortgage Association; and
- -
Student Loan Marketing Association.
- -
The Equity Fund, Quantitative Equity Fund, and Special Values Fund and
The Biltmore Municipal Funds may invest in U.S. government obligations as
temporary investments, from time to time, for defensive purposes.
VARIABLE RATE U.S. GOVERNMENT SECURITIES
The Funds may invest in variable rate U.S. government securities. In the
case of certain U.S. government securities purchased by the Fund that
carry variable interest rates, these rates will reduce the changes in the
market value of such securities from their original purchase prices.
Accordingly, the potential for capital appreciation or capital
depreciation should not be greater than the potential for capital
appreciation or capital depreciation of fixed interest rate U.S.
government securities having maturities equal to the interest rate
adjustment dates of the variable rate U.S. government securities.
The Fund may purchase variable rate U.S. government securities upon the
determination by the Trustees that the interest rate as adjusted will
cause the instrument to have a current market value that approximates its
par value on the adjustment date.
HIGH YIELD SECURITIES
The Special Values Fund and Emerging Markets Fund may invest in high
yield securities. Generally, the lowest-rated securities in which the Fund
may investare rated B by S&P or Moody's or are not rated but are determined
by the Fund's investment adviser to be of comparable quality. Securities
rated B are judged to have speculative elements and are high yield, high
risk bonds (i.e., junk bonds), typically subject to greater market
fluctuations and greater risk of loss of income and principal due to an
issuer's default. To a greater extent than investment-grade bonds, lower-
rated bonds and speculative grade securities tend to reflect short-term
corporate, economic and market developments, as well as investor
perceptions of the issuer's credit quality. In addition, lower-rated bonds
and speculative grade securities may be more difficult to dispose of or to
value than high-rated, lower-yielding bonds. In circumstances where, in the
judgment of the Fund's investment adviser, the investment opportunities may
benefit the Fund, the Fund may invest in securities which are rated D by
S&P. Debt that is rated D is in default, and payment of interest and/or
repayment of principal on such debt is in arrears. The Fund's investment
adviser attempts to reduce the risks described above through
diversification of the portfolio and by credit analysis of each issuer, as
well as by monitoring broad economic trends and corporate and legislative
developments.
DURATION
Duration is a commonly used measure of the potential volatility in the
price of a bond, or other fixed income security, or in a portfolio of fixed
income securities, prior to maturity. Volatility is the magnitude of the
change in the price of a bond relative to a given change in the market
date; and the level of market yield of similar fixed income securities.
Generally, bonds with lower coupons or longer maturities will be more
volatile than bonds with higher coupon or shorter maturities. Duration
combines these variables into a single measure.
Duration is calculated by dividing the sum of the time-weighted values
of the cash flows of a bond or bonds, including interest and principal
payments, by the sum of the present values of the cash flows. When the
Fund invests in mortgage pass-through securities, its duration will be
calculated in a manner which requires assumptions to be made regarding
future principal prepayments. A more complete description of this
calculation is available upon request from the Funds.
INVESTMENT PHILOSOPHY OF THE EMERGING MARKETS FUND
As described in the Fund's prospectus under "Investment Policies" and
"Investment Process," the Fund's investment adviser manages the Fund's
portfolio to attempt to capture the return opportunities presented by
securities of issuers and companies located in emerging markets. In light
of recent political events (for example, the fall of Communism in Europe,
the opening of China to Western investment, the move toward free-market
capitalism in many developing countries, etc.), conditions for investing in
many emerging market economies have become attractive. A number of emerging
market capitalist economies present striking market growth opportunities
(stemming from the increasing number of working-class and middle-class
citizens in those nations who are now demanding improved housing,
infrastructure such as roads and utilities and a greater array of consumer
goods). In view of the fact that approximately 75% of the world's
population resides in emerging market countries, and many of these
countries are still in the early or initial stages of growth and
development, it is conceivable that many of these emerging market countries
will exhibit economic and earnings growth that exceeds similar measurements
in what have been traditionally characterized as the developed nations of
Europe, Japan, and the United States. While past performance is not a
guarantee of future results, this trend has been seen in recent years, as
the stock markets of a number of emerging market economies have
outperformed the stock markets of more developed countries. Investors
should recognize that investments in emerging market countries present a
number of risks, which are discussed in the Fund's prospectus. Currently,
the Fund may invest in the securities of issuers located in the following
countries: Argentina, Brazil, Chile, China, the Czech Republic, Egypt,
Greece, Hong Kong, Hungary, India, Indonesia, Luxenbourg, Malaysia, Mexico,
Morocco, Peru, the Philippines, Poland, Portugal, Slovak Republic, South
Korea, Taiwan, Thailand, Turkey, and Venezuela. The Fund may also purchase
depositary receipts of issuers located in other emerging market countries.
SOVEREIGN DEBT OBLIGATIONS
Sovereign debt instruments are issued or guaranteed by foreign
governments or their agencies, including debt of Latin American nations or
other developing countries. Sovereign debt may be in the form of
conventional securities or other types of debt instruments, such as loans
or loan participations. Sovereign debt of developing countries may involve
a high degree of risk. Governmental entities responsible for repayment of
the debt may be unable or unwilling to repay principal and interest when
due, and may require renegotiation or rescheduling of debt payments. In
addition, prospects for repayment of principal and interest may depend on
political as well as economic factors. Debt obligations of supranational
entities include international organizations designed or supported by
governmental entities to promote economic reconstruction or development,
and international banking institutions and related government agencies.
Examples of these include, but are not limited to, the International Bank
for Reconstruction and Development (World Bank), European Investment Bank
and Inter-American Development Bank.
FOREIGN CURRENCY TRANSACTIONS
CURRENCY RISKS
The exchange rates between the U.S. dollar and foreign currencies are a
function of such factors as supply and demand in the currency exchange
markets, international balances of payments, governmental intervention,
speculation and other economic and political conditions. Although the Funds
value their assets daily in U.S. dollars, a Fund may not convert its
holdings to U.S. dollars daily. A Fund may incur conversion costs when it
converts its holdings to another currency. Foreign exchange dealers may
realize a profit on the difference between the price at which a Fund buys
and sells currencies.
Foreign currency exchange transactions are conducted either on a spot
(i.e., cash) basis at the spot rate prevailing in the foreign currency
exchange market or through forward contracts to purchase or sell foreign
currencies.
FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS
The Emerging Markets Fund may enter into forward foreign currency
exchange contracts in order to protect against possible loss resulting from
an adverse change in the relationship between the U.S. dollar and a foreign
currency involved in an underlying transaction. However, forward foreign
currency exchange contracts may limit potential gains which could result
from a positive change in such currency relationships. The Fund's
investment adviser believes that it is important to have the flexibility to
enter into forward currency exchange contracts whenever it determines that
it is in the Fund's best interest to do so. The Fund will not speculate in
foreign currency exchange.
The Fund will not enter into forward foreign currency exchange contracts
or maintain a net exposure in such contracts when it would be obligated to
deliver an amount of foreign currency in excess of the value of its
portfolio securities or other assets denominated in that currency or, in
the case of a "cross-hedge" denominated in a currency or currencies that
the investment adviser believes will tend to be closely correlated with
that currency with regard to price movements. Generally, the Fund will not
enter into a forward foreign currency exchange contract with a term longer
that one year.
FOREIGN CURRENCY OPTIONS
A foreign currency option provides the option buyer with the right to
buy or sell a stated amount of foreign currency at the exercise price on a
specified date or during the option period. The owner of a call option has
the right, but not the obligation, to buy the currency. Conversely, the
owner of a put option has the right, but not the obligation, to sell the
currency.
When the option is exercised, the seller (i.e., writer) of the option is
obligated to fulfill the terms of the sold option. However, either the
seller or the buyer may, in the secondary market, close its position during
the option period at any time prior to expiration.
A call option on a foreign security generally rises in value if the
underlying currency appreciates in value, and a put option on a foreign
currency generally falls in value if the underlying currency depreciates in
value. Although purchasing a foreign currency option can protect the Fund
against an adverse movement in the value of a foreign currency, the option
will not limit the movement in the value of such currency. For example, if
the Fund was holding securities denominated in a foreign currency that was
appreciating and had purchased a foreign currency to put a hedge against a
decline in the value of the currency, the Emerging Markets Fund would not
have to exercise its put option. Likewise, if the Fund were to enter into a
contract to purchase a security denominated in foreign currency and, in
conjunction with that purchase, were to purchase a foreign currency call
option to hedge against a rise in value of the currency, and if the value
of the currency instead depreciated between the date of purchase and the
settlement date, the Fund would not have to exercise its call. Instead, the
Fund could acquire in the spot market the amount of foreign currency needed
for settlement.
SPECIAL RISKS ASSOCIATED WITH FOREIGN CURRENCY OPTIONS
Buyers and sellers of foreign currency options are subject to the same
risks that apply to options generally. In addition, there are certain
additional risks associated with foreign currency options. The markets in
foreign currency options are relatively new, and the Emerging Markets
Fund's ability to establish and close out positions on such options is
subject to the maintenance of a liquid secondary market. Although the Fund
will not purchase or write such options unless and until, in the opinion of
the investment adviser, the market for them has developed sufficiently to
ensure that the risks in connection with such options are not greater than
the risks in connection with the underlying currency, there can be no
assurance that a liquid secondary market will exist for a particular option
at any specific time.
In addition, options on foreign currencies are affected by all of those
factors that influence foreign exchange rates and investments generally.
The value of a foreign currency option depends upon the value of the
underlying currency relative to the U.S. dollar. As a result, the price of
the option position may vary with changes in the value of either or both
currencies and may have no relationship to the investment merits of a
foreign security. Because foreign currency transactions occurring in the
interbank market involve substantially larger amounts than those that may
be involved in the use of foreign currency options, investors may be
disadvantaged by having to deal in an odd market lot (generally consisting
of transactions of less than $1 million) for the underlying foreign
currencies at prices that are less favorable than for round lots.
There is no systematic reporting of last sale information for foreign
currencies or any regulatory requirement that quotations available through
dealers or other market sources be firm or revised on a timely basis.
Available quotation information is generally representative of very large
transactions in the interbank market and thus may not reflect relatively
smaller transactions (i.e., less than $1 million) where rates may be less
favorable. The interbank market in foreign currencies is a global, around-
the-clock market. To the extent that the U.S. option markets are closed
while the markets for the underlying currencies remain open, significant
price and rate movements may take place in the underlying markets that
cannot be reflected in the options markets until they reopen.
FOREIGN CURRENCY FUTURES TRANSACTIONS
By using foreign currency futures contracts and options on such
contracts, the Emerging Markets Fund may be able to achieve many of the
same objectives as it would through the use of forward foreign currency
exchange contracts. The Fund may be able to achieve these objectives
possibly more effectively and at a lower cost by using futures transactions
instead of forward foreign currency exchange contracts.
SPECIAL RISKS ASSOCIATED WITH FOREIGN CURRENCY FUTURES CONTRACTS AND
RELATED OPTIONS
Buyers and sellers of foreign currency futures contracts are subject to
the same risks that apply to the use of futures generally. In addition,
there are risks associated with foreign currency futures contracts and
their use as a hedging device similar to those associated with options on
futures currencies, as described above.
Options on foreign currency futures contracts may involve certain
additional risks. Trading options on foreign currency futures contracts is
relatively new. The ability to establish and close out positions on such
options is subject to the maintenance of a liquid secondary market. To
reduce this risk, the Emerging Markets Fund will not purchase or write
options on foreign currency futures contracts unless and until, in the
opinion of the investment adviser, the market for such options has
developed sufficiently that the risks in connection with such options are
not greater than the risks in connection with transactions in the
underlying foreign currency futures contracts. Compared to the purchase or
sale of foreign currency futures contracts, the purchase of call or put
options on futures contracts involves less potential risk to the Fund
because the maximum amount at risk is the premium paid for the option (plus
transaction costs). However, there may be circumstances when the purchase
of a call or put option on a futures contract would result in a loss, such
as when there is no movement in the price of the underlying currency or
futures contract.
MUNICIPAL SECURITIES
The Georgia Municipal Bond Fund, North Carolina Municipal Bond Fund, and
South Carolina Municipal Bond Fund invest in municipal securities. If a
security loses its rating or has its rating reduced after a Fund has
purchased it, the Fund is not required to drop the security from its
portfolio, but may consider doing so. If ratings made by Moody's or S&P
change because of changes in those organizations or in their rating
systems, the Funds will try to use comparable ratings as standards in
accordance with the investment policies described in the prospectus.
PARTICIPATION INTERESTS
The financial institutions from which the Funds purchase participation
interests frequently provide or secure from another financial
institution irrevocable letters of credit or guarantees and give the
Funds the right to demand payment of the principal amounts of the
participation interests plus accrued interest on short notice (usually
within seven days).
VARIABLE RATE MUNICIPAL SECURITIES
Variable interest rates generally reduce changes in the market value
of municipal securities from their original purchase prices.
Accordingly, as interest rates decrease or increase, the potential for
capital appreciation or depreciation is less for variable rate
municipal securities than for fixed income obligations.
Many municipal securities with variable interest rates purchased by
the Funds are subject to repayment of principal (usually within seven
days) on a Fund's demand. The terms of these variable rate demand
instruments require payment of principal and accrued interest from the
issuer of the municipal obligations, the issuer of the participation
interests, or a guarantor of either issuer.
MUNICIPAL LEASES
The Funds may purchase municipal securities in the form of
participation interests which represent undivided proportional
interests in lease payments by a governmental or non-profit entity.
The lease payments and other rights under the lease provide for and
secure the payments on the certificates. Lease obligations may be
limited by municipal charter or the nature of the appropriation for
the lease. In particular, lease obligations may be subject to periodic
appropriation. If the entity does not appropriate funds for future
lease payments, the entity cannot be compelled to make such payments.
Furthermore, a lease may provide that the certificate trustee cannot
accelerate lease obligations upon default. The trustee would only be
able to enforce lease payments as they become due. In the event of a
default or failure of appropriation, it is unlikely that the trustee
would be able to obtain an acceptable substitute source of payment or
that the substitute source of payment will generate tax-exempt income.
In determining the liquidity of municipal lease securities, a Fund's
adviser, under the authority delegated by the Trustees, will base its
determination on the following factors:
owhether the lease can be terminated by the lessee;
othe potential recovery, if any, from a sale of the leased property
upon termination of the lease;
othe lessee's general credit strength (e.g., its debt,
administrative, economic and financial characteristics and
prospects);
othe likelihood that the lessee will discontinue appropriating
funding for the leased property because the property is no longer
deemed essential to its operations (e.g., the potential for an
"event of non- appropriation"); and
oany credit enhancement or legal recourse provided upon an event of
non- appropriation or other termination of the lease.
MUNICIPAL BOND INSURANCE
The Funds may purchase two types of Policies issued by municipal bond
insurers. One type of Policy covers certain municipal securities only
during the period in which they are in a Fund's portfolio. In the event
that a municipal security covered by such a Policy is sold from a Fund, the
insurer of the relevant Policy will be liable only for those payments of
interest and principal which are due and owing at the time of sale.
The other type of Policy covers municipal securities not only while they
remain in the Fund's portfolio but also until their final maturity even if
they are sold out of the Fund's portfolio, so that the coverage may benefit
all subsequent holders of those municipal securities. The Fund will obtain
insurance which covers municipal securities until final maturity even after
they are sold out of the Fund's portfolio only if, in the judgment of the
investment adviser, the Fund would receive net proceeds from the sale of
those securities, after deducting the cost of such permanent insurance and
related fees, significantly in excess of the proceeds it would receive if
such municipal securities were sold without insurance. Payments received
from municipal bond issuers may not be tax-exempt income to shareholders of
the Fund.
The premiums for the Policies are paid by the Fund and the yield on the
Fund's portfolio is reduced thereby. Premiums for the Policies are paid by
the Fund monthly, and are adjusted for purchases and sales of municipal
securities during the month. A Fund may purchase Policies from MBIA Corp.
("MBIA"), AMBAC Indemnity Corporation ("AMBAC"), Financial Guaranty
Insurance Company ("FGIC"), or any other municipal bond insurer which is
rated AAA by S&P or Aaa by Moody's. Each Policy guarantees the payment of
principal and interest on those municipal securities it insures. The
Policies will have the same general characteristics and features. A
municipal security will be eligible for coverage if it meets certain
requirements set forth in the Policy. In the event interest or principal on
an insured municipal security is not paid when due, the insurer covering
the security will be obligated under its Policy to make such payment not
later than 30 days after it has been notified by the Fund that such non-
payment has occurred. MBIA, AMBAC, and FGIC will not have the right to
withdraw coverage on securities insured by their Policies so long as such
securities remain in the Fund's portfolio, nor may MBIA, AMBAC, or FGIC
cancel their Policies for any reason except failure to pay premiums when
due.
MBIA, AMBAC, and FGIC will reserve the right at any time upon 90 days'
written notice to a Fund to refuse to insure any additional municipal
securities purchased by the Fund after the effective date of such notice.
The Funds reserve the right to terminate any of the Policies if they
determine that the benefits to a Fund of having its portfolio insured under
such Policy are not justified by the expense involved.
Additionally, the Funds reserve the right to enter into contracts with
insurance carriers other than MBIA, AMBAC, or FGIC if such carriers are
rated AAA by S&P or Aaa by Moody's.
Under the Policies, municipal bond insurers unconditionally guarantee to
the Georgia Municipal Bond Fund, North Carolina Municipal Bond Fund, and
South Carolina Municipal Bond Fund the timely payment of principal and
interest on the insured municipal securities when and as such payments
shall become due but shall not be paid by the issuer, except that in the
event of any acceleration of the due date of the principal by reason of
mandatory or optional redemption (other than acceleration by reason of
mandatory sinking fund payments), default or otherwise, the payments
guaranteed will be made in such amounts and at such times as payments of
principal would have been due had there not been such acceleration. The
municipal bond insurers will be responsible for such payments less any
amounts received by a Fund from any trustee for the municipal bond issuers
or from any other source. The Policies do not guarantee payment on an
accelerated basis, the payment of any redemption premium, the value for the
shares of a Fund, or payments of any tender purchase price upon the tender
of the municipal securities. The Policies also do not insure against
nonpayment of principal of or interest on the securities resulting from the
insolvency, negligence or any other act or omission of the trustee or other
paying agent for the securities. However, with respect to small issue
industrial development municipal bonds and pollution control revenue
municipal bonds covered by the Policies, the municipal bond insurers
guarantee the full and complete payments required to be made by or on
behalf of an issuer of such municipal securities if there occurs any change
in the tax- exempt status of interest on such municipal securities,
including principal, interest or premium payments, if any, as and when
required to be made by or on behalf of the issuer pursuant to the terms of
such municipal securities. A when-issued municipal security will be covered
under the Policies upon the settlement date of the issuer of such when-
issued municipal securities. In determining to insure municipal securities
held by a Fund, each municipal bond insurer has applied its own standard,
which corresponds generally to the standards it has established for
determining the insurability of new issues of municipal securities. This
insurance is intended to reduce financial risk, but the cost thereof and
compliance with investment restrictions imposed under the Policies will
reduce the yield to shareholders of each Fund.
If a Policy terminates as to municipal securities sold by a Fund on the
date of sale, in which event municipal bond insurers will be liable only
for those payments of principal and interest that are then due and owing,
the provision for insurance will not enhance the marketability of
securities held by the Fund, whether or not the securities are in default
or subject to significant risk of default, unless the option to obtain
permanent insurance is exercised. On the other hand, since issuer-obtained
insurance will remain in effect as long as the insured municipal securities
are outstanding, such insurance may enhance the marketability of municipal
securities covered thereby, but the exact effect, if any, on marketability
cannot be estimated. The Funds generally intend to retain any securities
that are in default or subject to significant risk of default and to place
a value on the insurance, which ordinarily will be the difference between
the market value of the defaulted security and the market value of similar
securities of minimum investment grade (i.e., rated "BBB" by S&P or "Baa"
by Moody's) that are not in default. To the extent that a Fund holds
defaulted securities, it may be limited in its ability to manage its
investment and to purchase other municipal securities. Except as described
above with respect to securities that are in default or subject to
significant risk of default, the Funds will not place any value on the
insurance in valuing the municipal securities that it holds.
Municipal bond insurance may be provided by one or more of the following
insurers or any other municipal bond insurer which is rated "Aaa" by
Moody's or "AAA" by S&P:
MUNICIPAL BOND INVESTORS ASSURANCE CORP.
Municipal Bond Investors Assurance Corp. ("MBIA") is a wholly-owned
subsidiary of MBIA, Inc. MBIA, domiciled in New York, is regulated by
the New York State Insurance Department and licensed to do business in
various states. The address of MBIA is 113 King Street, Armonk, New
York, 10504, and its telephone number is (914) 273-4545. As of January
3, 1997, S&P has rated the claims-paying ability of MBIA "AAA."
AMBAC INDEMNITY CORPORATION
AMBAC Indemnity Corporation ("AMBAC") is a Wisconsin-domiciled stock
insurance company, regulated by the Insurance Department of Wisconsin,
and licensed to do business in various states. AMBAC is a wholly-owned
subsidiary of AMBAC, Inc., a financial holding company which is owned
by the public. Copies of certain statutorily required filings of AMBAC
can be obtained from AMBAC. The address of AMBAC's administrative
offices is One State Street Plaza, 17th Floor, New York, New York
10004, and its telephone number is (212) 668-0340. As of January 3,
1997, S&P has rated the claims-paying ability of AMBAC "AAA."
FINANCIAL GUARANTY INSURANCE COMPANY
Financial Guaranty Insurance Company ("Financial Guaranty") is a
wholly- owned subsidiary of FGIC Corporation, a Delaware holding
company. FGIC Corporation is wholly-owned by General Electric Capital
Corporation. Financial Guaranty is subject to regulation by the New
York State Insurance Department and is licensed to do business in
various states. The address of Financial Guaranty is 175 Water Street,
New York, New York 10038, and its telephone number is 1-800-352-0001.
As of January 3, 1997, S&P has rated the claims-paying ability of
Financial Guaranty "AAA."
CONCENTRATION OF INVESTMENTS
The Georgia Municipal Bond Fund, North Carolina Municipal Bond Fund, and
South Carolina Municipal Bond Fund generally will not invest more than 25%
of its total assets in any one industry. Governmental issuers of municipal
securities are not considered part of any "industry." However, municipal
securities backed only by the assets and revenues of nongovernmental users
may, for this purpose, be deemed to be related to the industry in which
such nongovernmental users engage, and the 25% limitation would apply to
such obligations. It is nonetheless possible that the Funds may invest more
than 25% of their assets in a broader segment of the municipal securities
market, such as revenue obligations of hospitals and other health care
facilities, housing agency revenue obligations, or airport revenue
obligations. This would be the case only if a Fund's investment adviser
determines that the yields available from obligations in a particular
segment of the market justified the additional risks associated with a
large investment in such segment. Although such obligations could be
supported by the credit of governmental users or by the credit of
nongovernmental users engaged in a number of industries, economic,
business, political and other developments generally affecting the revenues
of such users (for example, proposed legislation or pending court decisions
affecting the financing of such projects and market factors affecting the
demand for their services or products) may have a general adverse effect on
all municipal securities in such a market segment.
PORTFOLIO TURNOVER
The Funds will not attempt to set or meet a portfolio turnover rate
since any turnover would be incidental to transactions undertaken in an
attempt to achieve a Fund's investment objective. Securities in each
portfolio will be sold whenever A Fund's investment adviser believes it is
appropriate to do so in light of a Fund's investment objective, without
regard to the length of time a particular security may have been held. A
higher rate of portfolio turnover involves correspondingly greater
transaction expenses which must be borne directly by a Fund and, thus,
indirectly by its shareholders. In addition, a high rate of portfolio
turnover may result in the realization of larger amounts of capital gains
which, when distributed to a Fund's shareholders, are taxable to them.
Nevertheless, transactions for a Fund's portfolio will be based only upon
investment considerations and will not be limited by any other
considerations when an investment adviser deems it appropriate to make
changes in a Fund's portfolio.
During the fiscal years ended November 30, 1996 and 1995, the Equity
Fund's portfolio turnover rates were 64% and 65%, respectively.
During the fiscal years ended November 30, 1996 and 1995, the
Quantitative Equity Fund's portfolio turnover rates were 44% and 63%,
respectively.
During the fiscal years ended November 30, 1996 and 1995, the Equity
Index Fund's portfolio turnover rates were 14% and 60%, respectively.
During the fiscal years ended November 30, 1996 and 1995, the Special
Values Fund's portfolio turnover rates were 38% and 57%, respectively.
During the fiscal years ended November 30, 1996 and for the period from
December 26, 1994 (date of initial public investment) to November 30, 1995,
the Emerging Markets Fund's portfolio turnover rates were 30% and 17%,
respectively.
During the fiscal years ended November 30, 1996 and 1995, the Balanced
Fund's portfolio turnover rates were 99% and 102%, respectively.
During the fiscal years ended November 30, 1996 and 1995, the Fixed
Income Fund's portfolio turnover rates were 181% and155%, respectively.
During the fiscal years ended November 30, 1996 and 1995, the Short-Term
Fixed Income Fund's portfolio turnover rates were 145% and 147%,
respectively.
During the fiscal years ended November 30, 1996 and for the period from
December 26, 1994 (date of initial public investment) to November 30, 1995,
the Georgia Municipal Bond Fund's portfolio turnover rates were 14% and
14%, respectively.
During the fiscal years ended November 30, 1996 and for the period from
December 26, 1994 (date of initial public investment) to November 30, 1995,
the North Carolina Municipal Bond's portfolio turnover rates were 7% and
19%, respectively.
During the fiscal years ended November 30, 1996 and 1995, the South
Carolina Municipal Bond Fund's portfolio turnover rates were 20% and 15%,
respectively.
INVESTMENT LIMITATIONS
SELLING SHORT AND BUYING ON MARGIN
The Equity Fund, Quanitative Equity Fund, Equity Index Fund, Special
Values Fund, Emerging Markets Fund, and Balanced Fund will not sell
any securities short or purchase any securities on margin, other than
in connection with buying stock index futures contracts, put options
on stock index futures, put options on financial futures and portfolio
securities, and writing covered call options, but may obtain such
short-term credits as are necessary for the clearance of purchases and
sales of portfolio securities.
The Short-Term Fixed Income Fund will not sell any securities short or
purchase any securities on margin, other than in connection with put
options on financial futures, put options on portfolio securities, and
writing covered call options, but may obtain such short-term credits
as may be necessary for clearance of purchases and sales of
securities.
The Fixed Income Fund, Georgia Municipal Bond Fund, North Carolina
Municipal Bond Fund, and South Carolina Municipal Bond Fund will not
sell any securities short or purchase any securities on margin but may
obtain such short-term credits as may be necessary for clearance of
purchases and sales of securities.
The deposit or payment by a Fund of initial or variation margin in
connection with financial futures contracts or related options
transactions is not considered the purchase of a security on margin.
ISSUING SENIOR SECURITIES AND BORROWING MONEY
The Equity Fund and Special Values Fund will not issue senior
securities, except that it may borrow money directly or through
reverse repurchase agreements in amounts up to one-third of the value
of its net assets, including the amounts borrowed.
The Quantitative Equity Fund and Emerging Markets Fund will not issue
senior securities, except that a Fund may borrow money directly or
through reverse repurchase agreements in amounts up to one-third of
the value of its total assets, including the amounts borrowed.
The Equity Index Fund, Balanced Fund, Fixed Income Fund and Short-Term
Fixed Income Fund will not issue senior securities, except as
permitted by its investment objective and policies, and except that a
Fund may borrow money and engage in reverse repurchase agreements in
amounts up to one-third of the value of its total assets, including
the amounts borrowed.
The Georgia Municipal Bond Fund, North Carolina Municipal Bond Fund,
and South Carolina Municipal Bond Fund will not issue senior
securities, except that a Fund may borrow money in amounts up to one-
third of the value of its total assets, including the amounts
borrowed.
The Funds will not borrow money or engage in reverse repurchase
agreements for investment leverage, but rather as a temporary,
extraordinary, or emergency measure to facilitate management of the
portfolio by enabling a Fund to meet redemption requests when the
liquidation of portfolio securities is deemed to be inconvenient or
disadvantageous. A Fund will not purchase any securities while
borrowings in excess of 5% of the value of its total assets are
outstanding.
PLEDGING ASSETS
The Equity Fund, Quanitative Equity Fund, and Special Values Fund will
not mortgage, pledge, or hypothecate any assets except to secure
permitted borrowings. In those cases, the Fund may mortgage, pledge,
or hypothicatemassets to secure such borrowings having a market value
not exceeding the lesser of the dollar amounts borrowed or 15% of the
value of total assets at the time of the borrowing. For purposes of
this limitation, the following are not deemed to be pledges: margin
deposits for the purchase and sale of futures contracts and related
options, and segregation or collateral arrangements made in connection
with options activities or the purchase of securities on a when-issued
basis.
The Equity Index Fund, Balanced Fund, Fixed Income Fund, and Short-
Term Fixed Income Fund will not mortgage, pledge, or hypothecate any
assets except to secure permitted borrowings. In those cases, the Fund
may mortgage, pledge or hypothecate assets to secure such borrowings
having a market value not exceeding the lesser of the dollar amounts
borrowed or 15% of the value of total assets at the time of the
borrowing. For purposes of this limitation, the following are not
deemed to be pledges: margin deposits for the purchase and sale of
futures contracts and related options, and segregation or collateral
arrangements made in connection with options activities or the
purchase of securities on a when-issued basis.
The Emerging Markets Fund will not mortgage, pledge, or hypothecate
any assets except to secure permitted borrowings. For purposes of this
limitation, the following will not be deemed to be pledges of the
Fund's assets: (a) the deposit of assets in escrow in connection with
the writing of covered put or call options and the purchase of
securities on a when-issued basis; and (b) collateral arrangements
with respect to (i) the purchase and sale of stock options (and
options on stock indices) and (ii) initial or variation margin for
futures contracts.
The Georgia Municipal Bond Fund, North Carolina Municipal Bond Fund,
and South Carolina Municipal Bond Fund will not mortgage, pledge, or
hypothecate any assets except to secure permitted borrowings. In
those cases, South Carolina Municipal Bond Fund may mortgage, pledge,
or hypothecate assets having a market value not exceeding 10% of the
value of its total assets at the time of the pledge.
INVESTING IN REAL ESTATE
The Funds (except Georgia Municipal Bond Fund, North Carolina
Municipal Bond Fund, and South Carolina Municipal Bond Fund) will not
buy or sell real estate, including limited partnership interests,
although a Fund may invest in the securities of companies whose
business involves the purchase or sale of real estate or in securities
which are secured by real estate or interests in real estate.
The Georgia Municipal Bond Fund, North Carolina Municipal Bond Fund,
and South Carolina Municipal Bond Fund will not buy or sell real
estate, although a Fund may invest in municipal bonds secured by real
estate or interests in real estate.
INVESTING IN COMMODITIES
The Equity Fund, Quantitative Equity Fund, Equity Index Fund, Special
Values Fund, and Emerging Markets Fund will not purchase or sell
commodities, commodity contracts, or commodity futures contracts.
However, a Fund may purchase put options on stock index futures, put
options on financial futures, stock index futures contracts, and put
options on portfolio securities, and may write covered call options.
TheFixed Income Fund will not purchase or sell commodities, commodity
contracts, or commodity futures contracts except to the extent that a
Fund may engage in transactions involving futures contracts and
related options.
The Balanced Fund and Short-Term Fixed Income Fund will not purchase
or sell commodities, commodity contracts, or commodity futures
contracts except that a Fund may purchase and sell futures contracts
and related options.
The Georgia Municipal Bond Fund, North Carolina Municipal Bond Fund,
and South Carolina Municipal Bond Fund will not buy or sell
commodities, commodity contracts, or commodities futures contracts.
UNDERWRITING
The Equity Fund, Special Values Fund, Balanced Fund, Fixed Income
Fund, and Short-Term Fixed Income Fund will not underwrite any issue
of securities, except as it may be deemed to be an underwriter under
the Securities Act of 1933 in connection with the sale of restricted
securities which the Fund may purchase pursuant to its investment
objective, policies, and limitations.
The Quanitative Equity Fund, Equity Index Fund, Emerging Markets Fund,
Georgia Municipal Bond Fund, North Carolina Municipal Bond Fund, and
South Carolina Municipal Bond Fund will not underwrite any issue of
securities, except as it may be deemed to be an underwriter under the
Securities Act of 1933 in connection with the sale of securities
which the Fund may purchase pursuant to its investment objective,
policies, and limitations.
DIVERSIFICATION OF INVESTMENTS
With respect to securities comprising 75% of the value of its total
assets, the Funds (except Georgia Municipal Bond Fund, North Carolina
Municipal Bond Fund, and South Carolina Municipal Bond Fund) will not
purchase securities issued by any one issuer (other than cash, cash
items or securities issued or guaranteed by the government of the
United States or its agencies or instrumentalities and repurchase
agreements collateralized by such securities) if, as a result, more
than 5% of the value of its total assets would be invested in the
securities of that issuer. Also, a Fund will not acquire more than 10%
of the outstanding voting securities of any one issuer.
CONCENTRATION OF INVESTMENTS
The Funds (except Emerging Markets Fund, Georgia Municipal Bond Fund,
North Carolina Municipal Bond Fund, and South Carolina Municipal Bond
Fund) will not invest 25% or more of the value of their total assets
in any one industry, except that a Fund may invest 25% or more of the
value of its total assets in securities issued or guaranteed by the
U.S. government, its agencies or instrumentalities, and repurchase
agreements collateralized by such securities.
The Emerging Markets Fund will not invest 25% or more of the value of
its total assets in any one industry. However, the Fund may invest
25% or more of the value of its assets in cash or cash items,
securities issued or guaranteed by the U.S. government, its agencies
or instrumentalities, or instruments secured by these money market
instruments, such as repurchase agreements.
The Georgia Municipal Bond Fund,and North Carolina Municipal Bond Fund
will not purchase securities if, as a result of such purchase, 25% or
more of the value of its total assets would be invested in industrial
development bonds or other securities, the interest upon which is paid
from revenues of similar type projects. A Fund may invest 25% or more
of the value of its total assets in cash, cash items, or securities
issued or guaranteed by the government of the United States or its
agencies, or instrumentalities and repurchase agreement collateralized
by such U.S. government securities. Concentrating investments in one
industry may subject a Fund to more risk than if it did not
concentrate.
South Carolina Municipal Bond Fund will not purchase securities if, as
a result of such purchase, 25% or more of the value of its total
assets would be invested in any one industry, or in industrial
development bonds or other securities, the interest upon which is paid
from revenues of similar types of projects . The Fund may invest as
temporary investments more than 25% of the value of its assets in cash
or cash items, securities issued or guaranteed by the U.S. government,
its agencies, or instrumentalities, or instruments secured by these
money market instruments, such as repurchase agreements.
LENDING CASH OR SECURITIES
The Equity Fund and Special Values Fund will not lend any of their
assets except portfolio securities, the market value of which do not
exceed one-third of the value of a Fund's total assets.
The Quantitative Equity Fund and Emerging Markets Fund will not lend
any of their assets except portfolio securities.
This shall not prevent the above Funds from purchasing or holding U.S.
government obligations, money market instruments, demand master notes,
bonds, debentures, notes, certificates of indebtedness, or other debt
securities, entering into repurchase agreements, or engaging in other
transactions where permitted by the Fund's investment objective,
policies, and limitations.
The Equity Index Fund will not lend any of its assets except portfolio
securities, the market value of which does not exceed one-third of the
value of the Fund's total assets. This shall not prevent the purchase
or holding of corporate or government bonds, debentures, notes,
certificates of indebtedness or other debt securities of an issuer,
repurchase agreements, or engaging in other transactions where
permitted by a Fund's investment objective, policies and limitations.
The Balanced Fund, Fixed Income Fund, and Short-Term Fixed Income Fund
will not lend any of its assets, except portfolio securities up to
one-third of the value of its total assets. This shall not prevent a
Fund from purchasing or holding U.S. government obligations, money
market instruments, variable rate demand notes, bonds, debentures,
notes, certificates of indebtedness, or other debt securities,
entering into repurchase agreements, or engaging in other transactions
where permitted by the Fund's investment objective, policies, and
limitations.
The Georgia Municipal Bond Fund and North Carolina Municipal Bond Fund
will not lend any assets except portfolio securities. The Funds may,
however, accquire publically or non-publically issued municipal bonds
or temporary investments or enter into repurchase agreements in
accordance with a Fund's investment objective, policies, limitations
and Declaration of Trust.
South Carolina Municipal Bond Fund will not lend any of its assets
except portfolio securities up to one-third of the value of its total
assets. The Fund may, however, acquire publicly or non-publicly
issued municipal bonds or temporary investments or enter into
repurchase agreements in accordance with its investment objective,
policies, and limitations or the Trust's Declaration of Trust.
INVESTING IN RESTRICTED SECURITIES
South Carolina Municipal Bond Fund will not invest more than 10% of
the value of its net assets in securities subject to restrictions on
resale, under the Securities Act of 1933.
DEALING IN PUTS AND CALLS
South Carolina Municipal Bond Fund will not buy or sell puts, calls,
straddles, spreads, or any combination of these.
The above investment limitations cannot be changed without shareholder
approval. The following limitations, however, may be changed by the
Trustees without shareholder approval. Shareholders will be notified
before any material change in these limitations becomes effective.
INVESTING IN SECURITIES OF OTHER INVESTMENT COMPANIES
The Funds will limit their investment in other investment companies to
not more than 3% of the total outstanding voting stock of any
investment company, will invest no more than 5% of their total assets
in any one investment company, and will invest no more than 10% of
their total assets in investment companies in general, unless, they
are permitted to exceed these limitations by action of the SEC. The
Funds will purchase securities of closed-end investment companies only
in open market transactions involving only customary brokers'
commissions. However, these limitations are not applicable if the
securities are acquired in a merger, consolidation, reorganization, or
acquisition of assets. It should be noted that investment companies
incur certain expenses such as custodian and transfer agency fees, and
therefore, any investment by a Fund in shares of another investment
company would be subject to such duplicate expenses. The Funds will
invest in other investment companies primarily for the purpose of
investing its short-term cash on a temporary basis.
However, the Equity Index Fund may invest in Standard & Poor's
Depository Receipts (SPDRs), which represent interests in the
portfolio of securities held by a unit investment trust, a type of
investment company. SPDRs trade like shares of common stock on the
American Stock Exchange and are intended to provide investment results
that generally correspond to the price and yield performance of the
S&P 500 Index. The Fund's purchase of SPDRs are subject to the 3%, 5%
and 10% limitations described above and secondary market purchases and
sales are subject to ordinary brokerage commissions. The Funds have a
present intention of investing no more than 5% of their total assets
in investment companies during the current fiscal year.
INVESTING IN RESTRICTED SECURITIES.
The Funds will not invest more than 10% of their total assets in
securities subject to restrictions on resale under the Securities Act
of 1933, except for certain restricted securities which meet the
criteria for liquidity as established by the Trustees.
INVESTING IN ILLIQUID SECURITIES
The Funds will not invest more than 15% of their net assets in
securities which are illiquid, including repurchase agreements
providing for settlement in more than seven days after notice, over-
the-counter options, non-negotiable time deposits with maturities over
seven days, and certain securities not determined under guidelines
established by the Trustees to be liquid.
INVESTING IN PUT OPTIONS
The Funds (except Georgia Minicipal Bond Fund, North Carolina
Municipal Bond Fund, and South Carolina Municipal Bond Fund ) will not
purchase put options on securities, other than put options on stock
indices, unless the securities are held in a Fund's portfolio and not
more than 5% of the value of a Fund's total assets would be invested
in premiums on open put option positions.
The Georgia Municipal Bond Fund, North Carolina Municipal Bond Fund,
and South Carolina Municipal Bond Fund will not buy or sell puts,
calls, straddles, spreads, or any combination of these.
WRITING COVERED CALL OPTIONS
The Funds will not write call options on securities unless the
securities are held in a Fund's portfolio or unless a Fund is entitled
to them in deliverable form without further payment or after
segregating cash in the amount of any further payment.
INVESTING IN WARRANTS
The Funds will not invest more than 5% of net assets in warrants. No
more than 2% of a Fund's net assets, to be included within the overall
5% limit on investments in warrants, may be warrants which are not
listed on the New York Stock Exchange or the American Stock Exchange.
PURCHASING SECURITIES TO EXERCISE CONTROL
The Funds will not purchase securities of a company for purposes of
exercising control or management.
ARBITRAGE TRANSACTIONS
The Funds will not enter into transactions for the purpose of engaging
in arbitrage.
Except with respect to borrowing money, if a percentage limitation is
adhered to at the time of investment, a later increase or decrease in
percentage resulting from any change in value or net assets will not result
in a violation of such restriction.
For purposes of its policies and limitations, the Funds consider
certificates of deposit and demand and time deposits issued by a U.S.
branch of a domestic bank or savings association, having capital, surplus,
and undivided profits in excess of $100,000,000 at the time of deposit, to
be `cash items.''
The Funds do not intend to borrow money in excess of 5% of the value of
their total assets during the current fiscal year.
THE BILTMORE FUNDS AND THE BILTMORE MUNICIPAL FUNDS MANAGEMENT
OFFICERS AND TRUSTEES
Officers and Trustees of the Trusts are listed with their principal
occupations, birthdates, and present positions.. Except as listed below,
none of the Trustees or Officers are affiliated with Wachovia Bank of
Georgia, N.A., Wachovia Bank of North Carolina, N.A., Wachovia Bank of
South Carolina, N.A., Federated Investors, Federated Securities Corp.,
Federated Services Company, or Federated Administrative Services.
James A. Hanley*
4272 Sanctuary Way
Bonita Springs, FL
August 13, 1931
Trustee
Retired; Vice President and Treasurer, Abbott Laboratories (health care
products) (until 1992).
Samuel E. Hudgins*
3100 Cumberland Circle
Suite 1525
Atlanta, GA
March 4, 1929
Trustee
President, Percival Hudgins & Company, LLC (investment bankers/financial
consultants); Director, Atlantic American Corporation (insurance holding
company); Director, Bankers Fidelity Life Insurance Company; Director and
Vice Chairman, Leath Furniture, Inc. (retail furniture); President,
Atlantic American Corporation (until 1988); Director, Vice Chairman and
Chief Executive Officer, Rhodes, Inc. (retail furniture) (until 1988);
Chairman and Director, Atlantic American Life Insurance Co., Georgia
Casualty & Surety Company, and Bankers Fidelity Life Insurance (until
1988).
J. Berkley Ingram, Jr.*
114-L Reynolda Village
Winston-Salem, NC
April 17, 1924
Trustee
Real estate investor and partner; formerly, Vice Chairman, Massachusetts
Mutual Life Insurance Company.
D. Dean Kaylor*
2835 Greenbriar
Harbor Springs, MI
June 29, 1930
Trustee
Retired; Executive Vice President and Chief Financial Officer, NBD Bank,
N.A. and NBD Bancorp, Inc. (bank and bank holding company) (until 1990).
Charles S. Way, Jr.*
200 Meeting Street
Suite 401
Charleston, S.C.
December 18, 1937
Trustee
President and CEO, The Beach Company and its various affiliated companies
and partnerships; Chairman of the Executive Committee, Kiawah Resort
Associates, L.P.
John W. McGonigle
Federated Investors Tower
Pittsburgh, PA
October 26, 1938
President and Treasurer
President and Chief Executive Officer, Federated Investors Management
Company; Executive Vice President, Secretary, General Counsel, and Trustee,
Federated Investors; Trustee, Federated Advisers, Federated Management,
Federated Research, and Federated Services Company; and Director, Federated
Securities Corp.
Charles L. Davis, Jr.
Federated Investors Tower
Pittsburgh, PA
March 23, 1960
Vice President and Assistant Treasurer
Vice President, Federated Services Company.
Peter J. Germain
Federated Investors Tower
Pittsburgh, PA
September 3, 1959
Secretary
Senior Corporate Counsel, Federated Investors.
* All Trustees are independent of the Trusts.
FUND OWNERSHIP
Officers and Trustees own less than 1% of the Fund's outstanding shares.
The following list indicates the beneficial ownership of shareholders
who are the beneficial owners of more than 5% of the outstanding shares of
the following Funds as of January 3, 1997:
Acting in various capacities for numerous accounts, Wachovia Securities
Inc., Winston-Salem, North Carolina, was owner of record of 234,665 Class
A Shares (14.11%) of Equity Fund; Wachovia Bank of North Carolina, N.A.,
Winston-Salem, North Carolina,was owner of record of 1,635,425 Class Y
Shares (16.50%) of Equity Fund; Wachovia Bank of Georgia, N.A., Atlanta,
Georgia, was owner of record of 602,665 Class Y Shares (6.08%) of Equity
Fund; Wachovia Bank of North Carolina, N.A., Winston-Salem, North
Carolina,was owner of record of 5,477,345 Class Y Shares (55.41%) of
Quantitative Equity Fund; Wachovia Bank of South Carolina, N.A., Columbia,
South Carolina was owner of record of 642,512 Class Y Shares (6.50%) of
Quantitative Equity Fund; Wachovia Bank of North Carolina, N.A., Winston-
Salem, North Carolina,was owner of record of 8,113,547 Class Y Shares
(57.88%) of Equity Index Fund; Wachovia Bank of North Carolina, N.A.,
Winston-Salem, North Carolina,was owner of record of 2,675,168 Class Y
Shares (64.24%) of Special Values Fund; Wachovia Securities Inc., Winston-
Salem, North Carolina,was owner of record of 27,834 Class A Shares (5.89%)
of Emerging Markets Fund; Wachovia Bank of North Carolina, N.A., Winston-
Salem, North Carolina, was owner of record of 1,054,612 Class Y Shares
(9.41%) of Emerging Markets Fund; Wachovia Securities Inc., Winston-Salem,
North Carolina,was owner of record of 17,197 Class B Shares (8.87%) of
Balanced Fund; Wachovia Bank of North Carolina, N.A., Winston-Salem, North
Carolina, was owner of record of 5,021,097 Class Y Shares (24.61%) of
Balanced Fund; Wachovia Securities inc., Winston-Salem, North Carolina,was
owner of record of 74,613 Class A Shares (17.92%) and 9,700 Class B Shares
(84.18%) of Fixed Income Fund; Wachovia Bank of North Carolina, N.A.,
Winston-Salem, North Carolina, was owner of record of 4,053,024 Class Y
Shares (22.44%) of Fixed Income Fund; Wachovia Securities Inc., Winston-
Salem, North Carolina,was owner of record of 120,160 Class A Shares
(64.03%) of Short-Term Fixed Income Fund; Wachovia Bank of North Carolina,
N.A., Winston-Salem, North Carolina, was owner of record of 7,834,447 Class
Y Shares (64.96%) of Short-Term Fixed Income Fund; Wachovia Bank of North
Carolina, N.A., Winston-Salem, North Carolina,was owner of record of 79,566
Class Y Shares (12.97%) of Georgia Municipal Bond Fund; Wachovia Bank of
Georgia, N.A., Atlanta, Georgia, was owner of record of 454,712 Class Y
Shares (39.63%) of Georgia Municipal Bond Fund; Wachovia Securities Inc.,
Winston-Salem, North Carolina,was owner of record of 105,763 Class A Shares
(8.57%) of North Carolina Municipal Bond Fund; Wachovia Bank of North
Carolina, N.A., Winston-Salem, North Carolina, was owner of record of
234,962 Class Y Shares (8.87%) of North Carolina Municipal Bond Fund;
Wachovia Bank of South Carolina, N.A., Columbia, South Carolina,was owner
of record of 361,327 Class Y Shares (10.62%) of South Carolina Municipal
Bond Fund.
TRUSTEES COMPENSATION
NAME AND TOTAL COMPENSATION PAID
POSITION WITH THE TO THE TRUSTEES FROM THE TRUSTS
TRUST AND FUND COMPLEX*+ #
James A. Hanley, $24,600
Trustee
Samuel E. Hudgins, $24,600
Trustee
J. Berkley Ingram, Jr., $22,500
Trustee
D. Dean Kaylor, $22,500
Trustee
Charles S. Way, Jr., $22,500
Trustee
*Information is furnished for the fiscal year ended November 30, 1996.
+The total compensation is paid by The Biltmore Funds, which is
comprised of twelve portfolios and The Biltmore Municipal Funds, which is
comprised of three portfolios.
# The Fund Complex is comprised of 15 portfolios.
TRUSTEE LIABILITY
The Trust's Declaration of Trust provides that the Trustees are not
liable for errors of judgment or mistakes of fact or law. However, they are
not protected against any liability to which they would otherwise be
subject by reason of willful misfeasance, bad faith, gross negligence, or
reckless disregard of the duties involved in the conduct of their office.
INVESTMENT ADVISORY SERVICES
ADVISERS TO THE FUNDS
Investment decisions for The Biltmore Funds are made by Wachovia Asset
Management, a business unit of Wachovia Bank of North Carolina, N.A., and
investment decisions for Georgia Municipal Bond Fund, North Carolina
Municipal Bond Fund, and South Carolina Municipal Bond Fund are made by
Wachovia Bank of Georgia, N.A., Wachovia Bank of North Carolina, N.A., and
Wachovia Bank of South Carolina, N.A., respectively, (each the "Adviser"
and, together, the "Advisers").
Twin Capital Management, Inc. (``Twin Capital'') serves as the sub-
adviser to the Quantitative Equity Fund under the terms of an investment
sub-advisory agreement between Wachovia Asset Management and Twin Capital.
Twin Capital, incorporated as a Pennsylvania corporation in 1989, is a
registered investment adviser under the Investment Advisers Act of 1940.
The Advisers shall not be liable to the Trust, a Fund or any shareholder
of the Funds for any losses that may be sustained in the purchase, holding,
or sale of any security, or for anything done or omitted by it, except acts
or omissions involving willful misfeasance, bad faith, gross negligence, or
reckless disregard of the duties imposed upon them by their contracts with
the Trusts.
Because of the internal controls maintained by the Wachovia Banks to
restrict the flow of non-public information, Fund investments are typically
made without any knowledge of the Wachovia Banks' or their affiliates'
lending relationships with an issuer.
ADVISORY AND SUB-ADVISORY FEES
For its advisory services, the investment advisers receive an annual
investment advisory fee as described in the prospectus. The following
shows all investment advisory fees incurred by the Funds and the amounts of
those fees that were voluntarily waived. Twin Capital receives an annual
sub-advisory fee, payable solely by Wachovia Asset Management, as described
in the prospectuses.
Year Ended Amount Year Ended Amount
Year Ended Amount
Fund Name Nov. 30, 1996 Waived-1996 Nov. 30, 1995
Waived-1995 Nov. 30, 1994 Waived-1994
Equity Fund $1,003,098 $107,888 $754,597 $76,995
$511,439 $73,062
Quantitative Equity
Fund $984,868 $100,131 $728,298 $89,503 $439,878* $62,841
Equity Index Fund $616,302 $88,233 $545,415 $97,171 $503,953
$83,992
Special Values Fund $324,764 $76,655 $160,840 $59,075 $117,003
$58,501
Emerging Markets Fund $1,006,829 $1,057 $371,458**
$60,903
Balanced Fund $1,588,214 $352,189 $1,394,516
$316,346 $1,291,534 $274,994
Fixed Income Fund $1,047,666 $177,507 $957,389 $159,425
$862,327 $143,721
Short-Term Fixed
Income Fund $649,181 $211,508 $768,294 $220,989 $816,857
$222,781
Georgia Municipal
Bond Fund $84,212 $78,762 $49,436**$40,609
North Carolina Municipal
Bond Fund $210,288 $176,041 $77,710**$63,053
South Carolina Municipal
Bond Fund $743,153 $500,413 $639,686 $469,407 $624,986 $488,215
* Represents the period from March 28, 1994 (date of initial public
investment) to November 30, 1994.
**Represents the period from December 26, 1994 (date of initial public
investment) to November 30, 1995.
BROKERAGE TRANSACTIONS
When selecting brokers and dealers to handle the purchase and sale of
portfolio instruments, the investment advisers look for prompt
execution of the order at a favorable price. In working with dealers,
the investment advisers will generally use those who are recognized
dealers in specific portfolio instruments, except when a better price
and execution of the order can be obtained elsewhere. The investment
advisers make decisions on portfolio transactions and select brokers
and dealers subject to guidelines established by the Trustees. The
investment advisers may select brokers and dealers who offer brokerage
and research services. These services may be furnished directly to a
Fund or to the investment advisers and may include: advice as to the
advisability of investing in securities; security analysis and
economic reports; economic studies; industry studies; receipt of
quotations for portfolio evaluations; and similar services. Research
services provided by brokers and dealers may be used by the investment
advisers or their affiliates in advising a Fund and other accounts. To
the extent that receipt of these services may supplant services for
which the investment advisers or their affiliates might otherwise have
paid, it would tend to reduce their expenses. The investment advisers
and their affiliates exercise reasonable business judgment in
selecting brokers who offfer brokerage and research transactions. They
determine in good faith that commissions charged by such persons are
reasonable in relationship to the value of the brokerage and research
services provided. For the fiscal years ended November 30, 1996, 1995,
and1994, the Equity Fund paid $252,493, $176,610, and $142,056,
respectively, in commissions on brokerage transactions. For the fiscal
years ended November 30, 1996, 1995, and for the period from March28,
1994 (date of initial public investment) to November 30, 1994, the
Quantitative Equity Fund paid $165,434, $98,771, and $163,527,
respectively, in commissions on brokerage transactions. For the fiscal
years ended November 30, 1996, 1995, and 1994, the Equity Index Fund
paid $15,333, $28,337, and $32,790, respectively, in commissions on
brokerage transactions. For the fiscal years ended November 30, 1996,
1995, and 1994, the Special Values Fund paid $155,248, $57,052, and
$56,762, respectively, in commissions on brokerage transactions. For
the fiscal year ended November 30, 1996 and for the period from
December 26, 1994 (date of initial public investment) to November 30,
1995, the Emerging Markets Fund paid $538,172, and $437,055,
respectively, in commissions on brokerage transactions. For the
fiscal years ended November 30, 1996, 1995, and 1994, the Balanced
Fund paid $269,729, $140,316, and $262,992, respectively, in
commissions on brokerage transactions. For the fiscal years ended
November 30, 1996, 1995, and1994, the Fixed Income Fund, Short-Term
Fixed Income Fund, Georgia Municipal Bond Fund, North Carolina
Municipal Bond Fund, and South Carolina Municipal Bond Fund paid no
commissions on brokerage transactions.
As of November 30, 1996, the Equity Index Fund owned $6,082,960,
$891,855, $403,002, $485,914, and $169,588 of securities issued by
General Electric Co., American Express, Dean Witter Discover & Co.,
Merrill Lynch & Co.,Inc., and Salomon, Inc., respectively, several of
its regular broker/dealers, which derive more than 15% of its gross
revenues from securities-related activities.
As of November 30, 1996, the Balanced Fund owned $2,910,544 of
securities issued by General Electric Co., one of its regular
broker/dealers, which derives more than 15% , of its gross revenues
from securities-related activities.
As of November 30, 1996, the Fixed Income Fund owned $5,084,348 of
securities issued by Merrill Lynch, Pierce, Fenner & Smith, one of its
regular broker/dealers, which derive more than 15% of its gross
revenues from securities-related activities.
As of November 30, 1996, the Short-Term Fixed Income Fund owned
$2,480,050 of securities issued by Merrill Lynch & Co., one of its
regular broker/dealers, which derives more than 15% of its gross
revenues from securities-related activities.
Although investment decisions for the Funds are made independently from
those of the other accounts managed by the investment advisers, investments
of the type the Funds may make may also be made by those other accounts.
When a Fund and one or more other accounts managed by the investment
advisers are prepared to invest in, or desire to dispose of, the same
security, available to investments or opportunities for sales will be
allocated in a manner believed by an investment adviser to be equitable to
each. In some cases, this procedure may adversely affect the price paid or
received by a Fund or the size of the position obtained or disposed of by a
Fund. In other cases, however, it is believed that coordination and the
ability to participate in volume transactions will be to the benefit of a
Fund.
OTHER SERVICES
ADMINISTRATION
Federated Administrative Services ("FAS"), a subsidiary of Federated
Investors, provides administrative personnel and services to the Funds for
a fee as described in the prospectuses. The following shows all fees earned
by FAS and the amounts of those fees that were voluntarily waived:
Year Ended Amount Year Ended Amount
Year Ended Amount
Fund Name Nov. 30, 1996 Waived-1996 Nov. 30, 1995
Waived-1995 Nov. 30, 1994 Waived-1994
Equity Fund $124,288 $0 $96,714 $0 $75,000
$2,936
Quantitative Equity
Fund $121,949 $0 $93,391 $0 $59,254 * $0
Equity Index Fund $178,161 $0 $163,299 $0 $166,703
$0
Special Values Fund $35,122 $0 $75,000 $56,955 $75,000
$60,820
Emerging Markets Fund $87,231 $0 $ 75,000** $41,860
Balanced Fund $196,750 $0 $178,968 $46,191 $183,610
$44,122
Fixed Income Fund $151,450 $0 $143,274 $0 $142,981
$0
Short-Term Fixed
Income Fund $102,429 $0 $125,580 $0 $148,458
$0
Georgia Municipal
Bond Fund $9,732 $0 $50,000 ** $44,142
North Carolina Municipal
Bond Fund $24,266 $0 $50,000 ** $40,270
South Carolina Municipal
Bond Fund $86,019 $0 $76,587 $0 $101,152 $3,488
* Represents the period from March 28, 1994 (date of initial public
investment) to November 30, 1994.
**Represents the period from December 26, 1994 (date of initial public
investment) to November 30, 1995.
In addition, for the fiscal years ended November 30, 1996, 1995, and
1994, FAS reimbursed the Equity Fund $0, $0, and $40,467, respectively, in
other Fund operating expenses; for the fiscal years ended November 30,
1996, 1995, and 1994, FAS reimbursed the Equity Index Fund $0, $0, and
$50,455, respectively, in other Fund operating expenses; for the fiscal
years ended November 30, 1996, 1995, and 1994, FAS reimbursed the Balanced
Fund $0, $0, and $46,191, respectively, in other Fund operating expenses;
for the fiscal years ended November 30, 1996, 1995, and 1994, FAS
reimbursed the Fixed Income Fund $0, $0, and $48,849, respectively, in
other Fund operating expenses; for the fiscal years ended November 30,
1996, 1995, and 1994, FAS reimbursed the Short-Term Fixed Income Fund $0,
$0, and $39,787, respectively, in other Fund operating expenses.
CUSTODIAN
Wachovia Bank of North Carolina, N.A., Winston-Salem, North Carolina, is
custodian (the "Custodian") for the securities and cash of the Funds. Under
the Custodian Agreement, the Custodian holds the Funds' portfolio
securities in safekeeping and keeps all necessary records and documents
relating to its duties. For the services to be provided to the Trusts
pursuant to the Custodian Agreement, the Trusts pay the Custodian an annual
fee based upon the average daily net assets of the Funds and which is
payable monthly. The Custodian will also charge transaction fees and out-
of-pocket expenses.
TRANSFER AGENT
Federated Services Company, Pittsburgh, Pennsylvania a subsidiary of
Federated Investors, is transfer agent (the "Transfer Agent") for the
shares of the Funds, and dividend disbursing agent for the Funds. Federated
Services Company also provides certain accounting and recordkeeping
services with respect to the Funds' portfolio investments.
LEGAL SERVICES
Legal services for the Funds are provided by Kirkpatrick & Lockhart LLP,
Washington, D.C. Piper & Marbury L.L.P., Washington, D.C., serves as
counsel to the independent Trustees.
INDEPENDENT AUDITORS
The independent auditors are Ernst & Young LLP, Pittsburgh,
Pennsylvania.
DISTRIBUTION PLAN (CLASS B SHARES ONLY) AND SHAREHOLDER SERVICES PLAN
(CLASS A SHARES AND CLASS B SHARES ONLY)
These arrangements permit the payment of fees to financial institutions,
the distributor, and Federated Shareholder Services Company, to stimulate
distribution activities and to cause services to be provided to
shareholders by a representative who has knowledge of the shareholder's
particular circumstances and goals. These activities and services may
include, but are not limited to: marketing efforts; providing office space,
equipment, telephone facilities, and various clerical, supervisory,
computer, and other personnel as necessary or beneficial to establish and
maintain shareholder accounts and records; processing purchase and
redemption transactions and automatic investments of client account cash
balances; answering routine client inquiries; and assisting clients in
changing dividend options, account designations, and addresses.
By adopting Distribution Plans, the Trustees expect that the Funds will
be able to achieve a more predictable flow of cash for investment purposes
and to meet redemptions. This will facilitate more efficient portfolio
management and assist a Fund in pursuing its investment objective. By
identifying potential investors whose needs are served by a Fund's
objectives, and properly servicing these accounts, it may be possible to
curb sharp fluctuations in rates of redemptions and sales.
Other benefits, which may be realized under either arrangement, may
include: (1) providing personal services to shareholders; (2) investing
shareholder assets with a minimum of delay and administrative detail; (3)
enhancing shareholder recordkeeping systems; and (4) responding promptly to
shareholders' requests and inquiries concerning their accounts.
For the fiscal year ended November 30, 1996, payments in the amount of
$979 were made pursuant to the Plan on behalf of Equity Fund. In addition,
for the fiscal year the Equity Fund Class A Shares paid shareholder service
fees in the amount of $112,041, all of which was waived, and Class B Shares
paid $326.
For the fiscal year ended November 30, 1996, payments in the amount of
$1,652 were made pursuant to the Plan on behalf of Quantitative Equity
Fund. In addition, for the fiscal year the Quanitative Equity Fund Class A
Shares paid shareholder service fees in the amount of $101,106, all of
which was waived, and Class B Shares paid $551.
For the fiscal year ended November 30, 1996, the Equity Index Fund Class
A Shares paid shareholder service fees in the amount of $146,700, all of
which was waived.
For the fiscal year ended November 30, 1996, the Special Values Fund
Class A Shares paid shareholder service fees in the amount of $36,749, all
of which was waived.
For the fiscal year ended November 30, 1996, the Emerging Markets Fund
Class A Shares paid shareholder service fees in the amount of $82,304, all
of which was waived.
For the fiscal year ended November 30, 1996, payments in the amount of
$1,822 were made pursuant to the Plan on behalf of Balanced Fund. In
addition, for the fiscal year the Balanced Fund Class A Shares paid
shareholder service fees in the amount of $163,749, all of which was
waived, and Class B Shares paid $607.
For the fiscal year ended November 30, 1996, payments in the amount of
$195 were made pursuant to the Plan on behalf of Fixed Income Fund. In
addition, for the fiscal year the Fixed Income Fund Class A Shares paid
shareholder service fees in the amount of $132,440, all of which was
waived, and Class B Shares paid $65.
For the fiscal year ended November 30, 1996, the Short-Term Fixed Income
Fund Class A Shares paid shareholder service fees in the amount of $85,662,
all of which was waived.
For the fiscal year ended November 30, 1996, Georgia Municipal Bond Fund
Class A Shares paid shareholder service fees in the amount of $9,722 all of
which was waived.
For the fiscal year ended November 30, 1996, North Carolina Municipal
Bond Fund Class A Shares paid shareholder service fees in the amount of
$24,077, all of which was waived.
For the fiscal year ended November 30, 1996, South Carolina Municipal
Bond Fund Class A Shares paid shareholder service fees in the amount of
$86,827, all of which was waived.
PURCHASING FUND SHARES
Shares of a Fund are sold at net asset value plus an applicable sales
charge on days on which the Wachovia Banks, the New York Stock Exchange and
the Federal Reserve Wire System are open for business.
CONVERSION TO FEDERAL FUNDS
It is each Fund's policy to be as fully invested as possible so that
maximum interest may be earned. To this end, all payments from shareholders
must be in federal funds or be converted into federal funds. The Wachovia
Banks act as the shareholders' agent in depositing checks and converting
them to federal funds.
EXCHANGING SECURITIES FOR FUND SHARES
A Fund may accept securities in exchange for Fund shares. A Fund will
allow such exchanges only upon the prior approval of the Fund and a
determination by the Fund and the investment adviser that the securities to
be exchanged are acceptable.
Any securities exchanged must meet the investment objective and policies
of a Fund, must have a readily ascertainable market value, must be liquid,
and must not be subject to restrictions on resale. The market value of any
securities exchanged in any initial investment, plus any cash, must be at
least equal to the minimum investment in the Fund.
Securities accepted by a Fund will be valued in the same manner as the
Fund values its assets. The basis of the exchange will depend on the net
asset value of Fund shares on the day the securities are valued. One share
of the Fund will be issued for each equivalent amount of securities
accepted.
Any interest earned on the securities prior to the exchange will be
considered in valuing the securities. All interest, dividends,
subscription or other rights attached to the securities become the property
of the Fund, along with the securities.
If an exchange is permitted, it will be treated as a sale for federal
income tax purposes. Depending upon the cost basis of the securities
exchanged for Fund shares, a gain or loss may be realized by the investor.
DETERMINING NET ASSET VALUE
Net asset value generally changes each day. The days on which net asset
value is calculated by a Fund are described in the prospectuses.
Dividend income is recorded on the ex-dividend date, except certain
dividends from foreign securities where the ex-dividend date may have
passed, are recorded as soon as a Fund is informed of the ex-dividend date.
DETERMINING MARKET VALUE OF SECURITIES
The market values of a Fund's portfolio securities are determined as
follows:
ofor equity securities, according to the last sale price on a
national securities exchange, if available;
oin the absence of recorded sales for listed equity securities,
according to the mean between the last closing bid and asked prices;
ofor unlisted equity securities, the latest bid prices;
ofor bonds and other fixed income securities, as determined by an
independent pricing service;
ofor short-term obligations, according to the mean between bid and
asked prices as furnished by an independent pricing service; or
ofor all other securities, at fair value as determined in good faith
by the Trustees.
Prices provided by independent pricing services may be determined
without relying exclusively on quoted prices and may reflect: institutional
trading in similar groups of securities, yield, quality, coupon rate,
maturity, type of issue, trading characteristics, and other market data.
The Fund will value futures contracts, options and put options on
financial futures at their market values established by the exchanges at
the close of option trading on such exchanges, unless the Trustees
determine in good faith that another method of valuing option positions is
necessary.
REDEEMING FUND SHARES
A Fund redeems shares at the next computed net asset value after the
Fund receives the redemption request. Redemption procedures are explained
in the prospectuses under "Redeeming Shares."
REDEMPTION IN KIND
Although eah Fund intends to redeem shares in cash, it reserves the
right under certain circumstances to pay the redemption price in whole or
in part by a distribution of securities from the Fund's portfolio. To the
extent available, such securities will be readily marketable.
Redemption in kind will be made in conformity with applicable Securities
and Exchange Commission rules, taking such securities at the same value
employed in determining net asset value and selecting the securities in a
manner the Trustees determine to be fair and equitable.
Redemption in kind is not as liquid as a cash redemption. If redemption
is made in kind, shareholders receiving their securities and selling them
before their maturity could receive less than the redemption value of their
securities and could incur transaction costs.
The Trusts have elected to be governed by Rule 18f-1 under the
Investment Company Act of 1940, which obligates a Fund to redeem shares for
any one shareholder in cash only up to the lesser of $250,000 or 1% of the
Fund's net asset value during any 90-day period.
MASSACHUSETTS BUSINESS TRUSTS
Under certain circumstances, shareholders may be held personally liable
under Massachusetts law for acts or obligations of the Trusts. To protect
shareholders, the Trusts have filed legal documents with Massachusetts that
expressly disclaim the liability of shareholders for such acts or
obligations of the Trusts. These documents require notice of this
disclaimer to be given in each agreement, obligation, or instrument the
Trusts or the Trustees enter into or sign on behalf of a Fund.
In the unlikely event a shareholder is held personally liable for a
Trust's obligations on behalf of a Fund, the Trust is required by its
Declaration of Trust to use the property of the Fund to protect or
compensate the shareholder. On request, a Trust will defend any claim made
and pay any judgment against a shareholder of a Fund for any act or
obligation of the Trust on behalf of the Fund. Therefore, financial loss
resulting from liability as a shareholder of a Fund will occur only if the
Trust cannot meet its obligations to indemnify shareholders and pay
judgments against them from the assets of the Fund.
TAX STATUS
THE FUNDS' TAX STATUS
Each Fund expects to pay no federal income tax because it intends to
meet the requirements of Subchapter M of the Internal Revenue Code
applicable to regulated investment companies and to receive the special tax
treatment afforded to such companies. To qualify for this treatment, each
Fund must, among other requirements:
oderive at least 90% of its gross income from dividends, interest,
and gains from the sale of securities;
oderive less than 30% of its gross income from the sale of securities
held less than three months;
oinvest in securities within certain statutory limits; and
odistribute to its shareholders at least 90% of its net income earned
during the year.
Federal income tax law requires the holder of a zero coupon convertible
security to recognize income with respect to the security prior to the
receipt of cash payments. To maintain its qualification as a regulated
investment company and to avoid liability of federal income taxes, a Fund
will be required to distribute income accrued with respect to zero coupon
convertible securities which it owns, and may have to sell portfolio
securities (perhaps at disadvantageous times) in order to generate cash to
satisfy these distribution requirements.
SHAREHOLDERS' TAX STATUS
Shareholders of the Equity Fund, Quantitative Equity Fund, Equity Index
Fund, Special Values Fund, Emerging Markets Fund, Balanced Fund, Fixed
Income Fund, and Short-Term Fixed Income Fund are subject to federal income
tax on dividends received as cash or additional shares. The dividends
received deduction for corporations will apply to ordinary income
distributions to the extent the distribution represents amounts that would
qualify for the dividends received deduction to a Fund if the Fund were a
regular corporation, and to the extent designated by the Fund as so
qualifying. These dividends, and any short-term capital gains, are taxable
as ordinary income.
No portion of any income dividend income paid by the Georgia Municipal
Bond Fund, North Carolina Municipal Bond Fund, and South Carolina Municipal
Bond Fund is eligible for the dividends received deductions available to
corporations.
CAPITAL GAINS
Long-term capital gains distributed to shareholders will be treated as
long-term capital gains regardless of how long shareholders have held
shares.
Capital gains or losses may be realized by the Georgia Municipal Bond
Fund, North Carolina Municipal Bond Fund, and South Carolina Municipal Bond
Fund on the sale of portfolio securities and as a result of discounts from
par value on securities held to maturity. Sales would generally be made
because of:
othe availability of higher relative yields;
odifferentials in market values;
onew investment opportunities;
ochanges in creditworthiness of an issuer; or
oan attempt to preserve gains or limit losses.
Distribution of long-term capital gains are taxed as such, whether they
are taken in cash or reinvested, and regardless of the length of time the
shareholder has owned the shares.
TOTAL RETURN
The average annual total return is the average compounded rate of return
for a given period that would equate a $1,000 initial investment to the
ending redeemable value of that investment. The ending redeemable value is
computed by multiplying the number of shares owned at the end of the period
by the net asset value per share at the end of the period. The number of
shares owned at the end of the period is based on the number of shares
purchased at the beginning of the period with $1,000, less any applicable
sales load, adjusted over the period by any additional shares, assuming the
reinvestment of all dividends and distributions.
Cumulative total return reflects a Fund's total performance over a specific
period of time. This total return assumes and is reduced by the payment of
the maximum sales charge. The Funds' cumulative total returns are
representative of investment activity since a Fund's effective date.
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C> <C>
FUND NAME CLASS A CLASS A CLASS A CLASS B CLASS Y SHARES
SHARES SHARES SHARES SHARES CUMULATIVE
AVERAGE AVERAGE AVERAGE CUMULATIVE TOTAL RETURN
ANNUAL ANNUAL ANNUAL TOTAL SINCE INCEPTION
TOTAL TOTAL RETURN TOTAL RETURN RETURN
RETURN 5-YEAR SINCE SINCE
1-YEAR PERIOD* INCEPTION** INCEPTION
PERIOD*
Equity Fund 19.90% 15.08%+ 14.25%++ 19.57%++
Quantitative 18.15% 19.04%# 14.92%++ 20.19%++
Equity Fund
Equity Index 21.48% 17.17%+ 20.14++
Fund
Special 33.53% 15.90%+ 15.05%++
Values Fund
Emerging 7.39% 5.92## (2.10%)++
Markets Fund
Balanced Fund 13.23% 11.93%+ 9.47%++ 14.69%++
Fixed Income 0.72% 4.36%+ 0.77%++ 6.12%++
Fund
Short-Term 2.70% 4.00%+ 3.00%++
Fixed Income
Fund
Georgia 0.21% 7.09%## 4.31%++
Municipal
Bond Fund
North 0.42% 7.43%## 4.55%++
Carolina
Municipal
Bond Fund
South 0.80% 6.63% 6.85%### 4.86%++
Carolina
Municipal
Bond Fund
</TABLE>
* For the fiscal year ended November 30, 1996.
** Start of performance
+ May 7, 1993 through November 30, 1996
++ July 23, 1996 through November 30, 1996
# March 25, 1994 through November 30, 1996
## December 23, 1994 through November 30, 1996
### January 11, 1991 through November 30, 1996
YIELD
The yield for a Fund is determined each day by dividing the net
investment income per share (as defined by the Securities and Exchange
Commission) earned by the Fund over a thirty-day period by the maximum
offering price per share of the Fund on the last day of the period. This
value is then annualized using semi-annual compounding. This means that the
amount of income generated during the thirty-day period is assumed to be
generated each month over a 12-month period and is reinvested every six
months. The yield does not necessarily reflect income actually earned by a
Fund because of certain adjustments required by the Securities and Exchange
Commission and, therefore, may not correlate to the dividends or other
distributions paid to shareholders.
To the extent that financial institutions and broker/dealers charge fees
in connection with services provided in conjunction with an investment in a
Fund, the performance will be reduced for those shareholders paying those
fees.
The Funds' yield for the thirty-day period ended November 30, 1996, is
as follows:
FUND NAME CLASS A SHARES CLASS B SHARES CLASS Y SHARES
Equity Fund 0.77% (0.15%) 0.81%
Quantitative 1.11% 0.21% 1.17%
Equity Fund
Equity Index Fund 1.50% 1.57% 1.57%
Special Values 0.40% 0.40%
Fund
Emerging Markets 0.00% 0.00%
Fund
Balanced Fund 2.52% 1.68% 2.65%
Fixed Income Fund 5.21% 4.46% 5.47%
Short-Term Fixed 5.11% 5.24%
Income Fund
Georgia Municipal 3.96% 4.16%
Bind Fund
North Carolina 3.88% 4.09%
Municipal Bond
Fund
South Carolina 4.40% 4.63%
Municipal Bond
Fund
TAX-EQUIVALENT YIELD
The tax-equivalent yield of a Fund is calculated similarly to the yield,
but is adjusted to reflect the taxable yield that a Fund would have had to
earn to equal its actual yield, assuming that income is 100% tax-exempt.
The Funds may also use a tax-equivalency table in advertising and sales
literature. The interest earned by the municipal bonds in a Fund's
portfolio generally remain free from federal regular income tax*, and is
often free from state and local taxes as well. As the tables below
indicate, a "tax-free" investment is an attractive choice for investors,
particularly in times of narrow spreads between tax-free and taxable
yields.
Georgia Municipal Bond Fund Class A Shares' tax-equivalent yield for the
thirty-day period ended November 30, 1996 was 5.74%, assuming a 31% tax
bracket.
Georgia Municipal Bond Fund Class Y Shares' tax-equivalent yield for the
thirty-day period ended November 30, 1996 was 6.03%, assuming a 31% tax
bracket.
TAXABLE YIELD EQUIVALENT FOR 1996
STATE OF GEORGIA
TAX BRACKET:
FEDERAL 15.00% 28.00% 31.00% 36.00% 39.60%
COMBINED
FEDERAL
AND STATE:21.00% 34.00% 37.00% 42.00% 45.60%
JOINT $1- $40,101- $96,901- $147,701- OVER
RETURN 40,100 96,900 147,700 263,750 $263,750
SINGLE $1- $24,001- $58,151- $121,301- OVER
RETURN 24,000 58,150 121,300 263,750 $263,750
Tax-Exempt
Yield Taxable Yield Equivalent
1.50% 1.90% 2.27% 2.38% 2.59% 2.76%
2.00% 2.53% 3.03% 3.17% 3.45% 3.68%
2.50% 3.16% 3.79% 3.97% 4.31% 4.60%
3.00% 3.80% 4.55% 4.76% 5.17% 5.51%
3.50% 4.43% 5.30% 5.56% 6.03% 6.43%
4.00% 5.06% 6.06% 6.35% 6.90% 7.35%
4.50% 5.70% 6.82% 7.14% 7.76% 8.27%
5.00% 6.33% 7.58% 7.94% 8.62% 9.19%
5.50% 6.96% 8.33% 8.73% 9.48% 10.11%
6.00% 7.59% 9.09% 9.52% 10.34% 11.03%
6.50% 8.23% 9.85% 10.32% 11.21% 11.95%
7.00% 8.86% 10.61% 11.11% 12.07% 12.87%
North Carolina Municipal Bond Fund Class A Shares' tax-equivalent yield
for the thirty-day period ended November 30, 1996 was 5.62%, assuming a 31%
tax bracket.
North Carolina Municipal Bond Fund Class Y Shares' tax-equivalent yield
for the thirty-day period ended November 30, 1996 was 5.93%, assuming a 31%
tax bracket.
TAXABLE YIELD EQUIVALENT FOR 1996
STATE OF NORTH CAROLINA
TAX BRACKET:
FEDERAL 15.00% 28.00% 31.00% 36.00% 39.60%
COMBINED
FEDERAL
AND STATE 22.00% 35.00% 38.75% 43.75% 47.35%
JOINT $1- $40,101- $96,901- $147,701- OVER
RETURN 40,100 96,900 147,700 263,750 $263,750
SINGLE $1- $24,001- $58,151- $121,301- OVER
RETURN 24,000 58,150 121,300 263,750 $263,750
Tax-Exempt
Yield Taxable Yield Equivalent
3.50% 4.49% 5.38% 5.71% 6.22% 6.65%
4.00% 5.13% 6.15% 6.53% 7.11% 7.60%
4.50% 5.77% 6.92% 7.35% 8.00% 8.55%
5.00% 6.41% 7.69% 8.16% 8.89% 9.50%
5.50% 7.05% 8.46% 9.98% 9.78% 10.45%
6.00% 7.69% 9.23% 9.80% 10.67% 11.40%
6.50% 8.33% 10.00% 10.61% 11.56% 12.35%
7.00% 8.97% 10.77% 11.43% 12.44% 13.30%
7.50% 9.62% 11.54% 12.24% 13.33% 14.25%
8.00% 10.26% 12.31% 13.06% 14.22% 15.19%
South Carolina Municipal Bond Fund Class A Shares' tax-equivalent yield
for the thirty-day period ended November 30, 1996 was 6.38%, assuming a 31%
tax bracket.
South Carolina Municipal Bond Fund Class Y Shares' tax-equivalent yield
for the thirty-day period ended November 30, 1996 was 6.71%, assuming a 31%
tax bracket.
TAXABLE YIELD EQUIVALENT FOR 1996
STATE OF SOUTH CAROLINA
TAX BRACKET:
FEDERAL 15.00% 28.00% 31.00% 36.00% 39.60%
COMBINED
FEDERAL
AND STATE 22.00% 35.00% 38.00% 43.00% 46.60%
JOINT $1- $40,401- $96,901- $147,701- OVER
RETURN 40,100 96,900 147,700 263,750 $263,750
SINGLE $1- $24,001- $58,151- $121,301- OVER
RETURN 24,000 58,150 121,300 263,750 $263,750
Tax-Exempt
Yield Taxable Yield Equivalent
2.50% 3.21% 3.85% 4.03% 4.39% 4.68%
3.00% 3.85% 4.62% 4.84% 5.26% 5.62%
3.50% 4.49% 5.38% 5.65% 6.14% 6.55%
4.00% 5.13% 6.15% 6.45% 7.02% 7.49%
4.50% 5.77% 6.92% 7.26% 7.89% 8.43%
5.00% 6.41% 7.69% 8.06% 8.77% 9.36%
5.50% 7.05% 8.46% 8.87% 9.65% 10.30%
6.00% 7.69% 9.23% 9.68% 10.53% 11.24%
6.50% 8.33% 10.00% 10.48% 11.40% 12.17%
7.00% 8.97% 10.77% 11.29% 12.28% 13.11%
Note: The maximum marginal tax rate for each bracket was used in
calculating the taxable yield equivalent. Furthermore, additional state and
local taxes paid on comparable taxable investments were not used to
increase federal deductions.
The charts above are for illustrative purposes only. They are not
indicators of past or future performance of the Funds.
* Some portion of a Fund's income may be subject to the federal
alternative minimum tax and state and local taxes.
PERFORMANCE COMPARISONS
A Fund's performance depends upon such variables as:
oportfolio quality;
oaverage portfolio maturity;
otype of instruments in which the portfolio is invested;
ochanges in interest rates and market value of portfolio securities;
ochanges in the Fund's expenses;
othe relative amount of Fund cash flow; and
ovarious other factors.
A Fund's performance fluctuates on a daily basis largely because net
earnings and the maximum offering price (i.e., net asset value plus any
sales charge) per share fluctuate daily. Both net earnings and offering
price per share are factors in the computation of yield and total return.
Investors may use financial publications and/or indices to obtain a more
complete view of the Fund's performance. When comparing performance,
investors should consider all relevant factors, such as the composition of
any index used, prevailing market conditions, portfolio compositions of
other funds, and methods used to value portfolio securities and compute
offering price. The financial publications and/or indices which the Fund
uses in advertising may include:
oLIPPER ANALYTICAL SERVICES, INC. ranks funds in various fund
categories by making comparative calculations using total return.
Total return assumes the reinvestment of all capital gains
distributions and income dividends and takes into account any change
in maximum offering price over a specific period of time. From time
to time, a Fund will quote its Lipper ranking in advertising and
sales literature.
oDOW JONES INDUSTRIAL AVERAGE ("DJIA") represents share prices of
selected blue-chip industrial corporations. The DJIA indicates daily
changes in the average price of stock of these corporations. Because
it represents the top corporations of America, the DJIA index is a
leading economic indicator for the stock market as a whole.
oSTANDARD & POOR'S DAILY STOCK PRICE INDEX OF 500 COMMON STOCKS (THE
"S&P INDEX"), is a composite index of common stocks in industry,
transportation, and financial and public utility companies. In
addition, the S&P Index assumes reinvestment of all dividends paid
by stocks listed on the S&P Index. Taxes due on any of these
distributions are not included, nor are brokerage or other fees
calculated in the S&P Index figures.
oRUSSELL 2000 INDEX is a broadly diversfied index consisting of
approximately 2,000 small capitalization common stocks that can be
ised to compare the total returns of funds whose portfolios are
invested primarily in small capitalization common stocks.
oEUROPE, AUSTRALIA, AND FAR EAST ("EAFE") is a market capitalization
weighted foreign securities index, which is widely used to measure
the performance of European, Australian, New Zealand and Far
Eastern stock markets. The index covers approximately 1,020
companies drawn from 18 countries in the above regions. The index
values its securities daily in both U.S. dollars and local currency
and calculates total returns monthly. EAFE U.S. dollar total return
is a net dividend figure less Luxembourg withholding tax. The EAFE
is monitored by Capital International, S.A., Geneva, Switzerland.
oINTERNATIONAL FINANCE CORPORATION ("IFC") EMERGING MARKET INDICES
are market capitalization-weighted foreign securities indices,
which are used to measure the performance of emerging markets (as
defined by the World Bank) in Europe, Asia, Latin America, and the
Middle East/Africa. The IFC calculates both a "Global" and an
"Investable" version of its index. The "Global" version includes
companies and countries with regard to their access to foreign
investors. The "Investable" Index adjusts company and market weights
to reflect their accessibility to foreign investors. The IFC Global
Index currently covers approximately 1,200 securities in 25
markets; the IFC Investable Index currently covers approximately
900 securities in 24 markets. Both indices are presently calculated
in local currency and in US dollars, without dividends and with
gross dividends reinvested (e.g., before withholding taxes). The IFC
is a subsidiary of the World Bank, and has been collecting data on
emerging markets since 1975.
oMORGAN STANLEY CAPITAL INTERNATIONAL ("MSCI") EMERGING MARKETS
INDICES are market capitalization-weighted foreign securities
indices, which are used to measure the performance of emerging
markets (as defined by the World Bank) in Europe, Asia, Latin
America, and the Middle East/Africa. MSCI calculates a "Global" and
a "Free" version of its index. The "Global" version includes
companies and countries without regards to their access to foreign
investors. The "Free" Index adjusts company and market weights to
reflect their assessibility to foreign investors. The MSCI Global
Index currently covers approximately 630 securities in 20 markets;
the MSCI Free Index currently covers approximately 560 securities in
19 markets. Both indices are presently calculated in local currency
and in US dollars, without dividends and with gross dividends
reinvested (e.g., before withholding taxes).
oMERRILL LYNCH COMPOSITE 1-3 YEAR TREASURY INDEX is an unmanaged
index tracking short-term U.S. government securities with maturities
between 1 and 2.99 years. The index is produced by Merrill Lynch,
Pierce, Fenner & Smith.
oMERRILL LYNCH COMPOSITE 1-5 YEAR TREASURY INDEX is comprised of
approximately 66 issues of U.S. Treasury securities maturing between
1 and 4.99 years, with coupon rates of 4.25% or more. These total
return figures are calculated for one, three, six, and twelve month
periods and year-to-date and include the value of the bond plus
income and any price appreciation or depreciation.
oSALOMON BROTHERS 3-5 YEAR GOVERNMENT INDEX quotes total returns for
U.S. Treasury issues (excluding flower bonds) which have maturities
of three to five years. These total returns are year-to-date figures
which are calculated each month following January 1.
oMERRILL LYNCH 3-5 YEAR TREASURY INDEX is comprised of approximately
24 issues of intermediate-term U.S. government and U.S. Treasury
securities with maturities between 3 and 4.99 years and coupon rates
above 4.25%. Index returns are calculated as total returns for
periods of one, three, six and twelve months as well as year-to-
date.
oMERRILL LYNCH 3-YEAR TREASURY YIELD CURVE INDEX is an unmanaged
index comprised of the most recently issued 3-year U.S. Treasury
notes. Index returns are calculated as total returns for periods of
one, three, six, and twelve months as well as year-to-date.
oLEHMAN BROTHERS GOVERNMENT INDEX is an unmanaged index comprised of
all publicly issued, non-convertible domestic debt of the U.S.
government, or any agency thereof, or any quasi-federal corporation
and of corporate debt guaranteed by the U.S. government. Only notes
and bonds with a minimum outstanding principal of $1 million and a
minimum maturity of one year are included.
oLEHMAN BROTHERS AGGREGATE BOND INDEX is a total return index
measuring both the capital price changes and income provided by the
underlying universe of securities, weighted by market value
outstanding. The Aggregate Bond Index is comprised of the Lehman
Brothers Government Bond Index, Corporate Bond Index, Mortgage-
Backed Securities Index and the Yankee Bond Index. These indices
include: U.S. Treasury obligations, including bonds and notes; U.S.
agency obligations, including those of the Farm Credit System,
including the National Bank for Cooperatives, Farm Credit Banks,
and Banks for Cooperatives; Farmers Home Administration; Federal
Home Loan Banks; Federal Home Loan Mortgage Corporation; Fannie
Mae; Government National Mortgage Association; and Student Loan
Marketing Association; foreign obligations; and U.S. investment-
grade corporate debt and mortgage-backed obligations. All corporate
debt included in the Aggregate Bond Index has a minimum S&P rating
of BBB or a minimum Moody's rating of Baa.
oMERRILL LYNCH CORPORATE AND GOVERNMENT INDEX includes issues which
must be in the form of publicly placed, nonconvertible, coupon-
bearing domestic debt and must carry a term of maturity of at least
one year. Par amounts outstanding must be no less than $10 million
at the start and at the close of the performance measurement period.
Corporate instruments must be rated by S&P or by Moody's as
investment grade issues (i.e., BBB/Baa or better).
oMERRILL LYNCH DOMESTIC MASTER INDEX includes issues which must be in
the form of publicly placed, nonconvertible, coupon-bearing domestic
debt and must carry a term to maturity of at least one year. Par
amounts outstanding must be no less than $10 million at the start
and at the close of the performance measurement period. The Domestic
Master Index is a broader index than the Merrill Lynch Corporate and
Government Index and includes, for example, mortgage-related
securities. The mortgage market is divided by agency, type of
mortgage and coupon and the amount outstanding in each
agency/type/coupon subdivision must be no less than $200 million at
the start and at the close of the performance measurement period.
Corporate instruments must be rated by S&P or by Moody's as
investment-grade issues (i.e. BBB/Baa or better).
oS&P 500/LEHMAN BROTHERS GOVERNMENT/CORPORATE (WEIGHTED INDEX) and
the S&P 500/Lehman Brothers Government (Weighted Index) combine the
components of a stock-oriented index and a bond-oriented index to
obtain results which can be compared to the performance of a managed
fund. The indices' total returns will be assigned various weights
depending upon the Fund's current asset allocation.
oSALOMON BROTHERS AAA-AA CORPORATE index calculates total returns of
approximately 775 issues which include long-term, high grade
domestic corporate taxable bonds, rated AAA-AA with maturities of
twelve years or more and companies in industry, public utilities,
and finance.
oLEHMAN BROTHERS INTERMEDIATE GOVERNMENT/CORPORATE BOND INDEX is an
unmanaged index comprised of all the bonds issued by the Lehman
Brothers Government/Corporate Bond Index with maturities between 1
and 9.99 years. Total return is based on price
appreciation/depreciation and income as a percentage of the original
investment. Indices are rebalanced monthly by market capitalization.
oSEI BALANCED UNIVERSE is composed of 916 portfolios managed by 390
managers representing $86 billion in assets. To be included in the
universe, a portfolio must contain a 5% minimum commitment in both
equity and fixed-income securities. Consulting universes may be
composed of pension, profit-sharing, commingled,
endowment/foundation and mutual funds.
oLEHMAN BROTHERS GOVERNMENT/CORPORATE (TOTAL) index is comprised of
approximately 5,000 issues which include: non-convertible bonds
publicly issued by the U.S. government or its agencies; corporate
bonds guaranteed by the U.S. government and quasi-federal
corporations; and publicly issued, fixed rate, non-convertible
domestic bonds of companies in industry, public utilities, and
finance. The average maturity of these bonds approximates nine
years. Tracked by Lehman Brothers, the index calculates total
returns for one-month, three-month, twelve-month, and ten-year
periods and year-to-date.
oMERRILL LYNCH CORPORATE MASTER is an unmanaged index comprised of
approximately 4,356 corporate debt obligations rated BBB or better.
These quality parameters are based in composites pf ratings assigned
by S&P and Moody's. Only bonds with a minimum maturity of ine year
are included.
OLEHMAN BROTHERS STATE GENERAL OBLIGATIONS INDEX is an index
comprised of all state general obligation debt issues and is
compiled without regard to maturities. These bonds are rated A or
better and represent a variety of coupon ranges. Index figures are
total returns calculated for one, three, and twelve month periods as
well as year-to-date. Total returns are also calculated as of the
index inception, December 31, 1979.
oLEHMAN BROTHERS FIVE-YEAR STATE GENERAL OBLIGATIONS BONDS is an
index comprised of all state general obligation debt issues with
maturities between four and six years. These bonds are rated A or
better and represent a variety of coupon ranges. Index figures are
total returns calculated for one, three, and twelve month periods as
well as year-to-date. Total returns are also calculated as of the
index inception, December 31, 1979.
oLEHMAN BROTHERS THREE-YEAR STATE GENERAL OBLIGATIONS BONDS is an
index comprised of the same issues noted above except that the
maturities range between two and four years. Index figures are total
returns calculated for the same periods as listed above.
oMORNINGSTAR, INC., an independent rating service, is the publisher
of the bi-weekly Mutual Fund Values. Mutual Fund Values rates more
than 1,000 NASDAQ-listed mutual funds of all types, according to
their risk-adjusted returns. The maximum rating is five stars, and
ratings are effective for two weeks.
Advertisements and other sales literature for the Fund may quote total
returns which are calculated on non-standardized base periods. These total
returns also represent the historic change in the value of an investment in
the Fund based on monthly reinvestment of dividends over a specified period
of time.
Advertisements may quote performance information which does not reflect
the effect of the sales load.
FINANCIAL STATEMENTS
The financial statements for the fiscal period ended November 30, 1996,
are incorporated herein by reference from the Funds' Annual Reports dated
November 30, 1996 (File Nos. 33-44590 and 811-6504). A copy of an Annual
Report may be obtained without charge by contacting The Biltmore Service
Center at the address located on the back cover of the prospectus or by
calling The Biltmore Service Center at 1-800-994-4414.
STANDARD & POOR'S CORPORATION
Standard & Poor's Corporation ("S&P") makes no representation or
warranty, express or implied, to the owners of a Fund or any member of the
public regarding the advisability of investing in securities generally or
in a Fund particularly or the ability of the S&P 500 Index (as defined in
the prospectuses) to track general stock market performance. S&P's only
relationship to Federated Securities Corp., the Funds' distributor (the
"Licensee") is the licensing of certain trademarks and trade names of S&P
and of the S&P 500 Index which is determined, composed and calculated by
S&P without regard to the Licensee or a Fund. S&P has no obligation to take
the needs of the Licensee or the owners of a Fund into consideration in
determining, composing or calculating the S&P 500 Index. S&P is not
responsible for and has not participated in the determination of, the
timing of, prices at, or quantities of a Fund to be issued or in the
determination or calculation of the equation by which a Fund is to be
converted into cash. S&P has no obligation or liability in connection with
the administration, marketing or trading of a Fund.
S&P does not guarantee the accuracy and/or the completeness of the S&P
500 Index or any data included therein. S&P makes no warranty, express or
implied, as to results to be obtained by the Licensee, owners of a Fund, or
any other person or entity from the use of the S&P 500 Index or any data
included therein in connection with the rights licensed hereunder or for
any other use. S&P makes no express or implied warranties, and expressly
disclaims all warranties or merchantability or fitness for a particular
purpose or use with respect to the S&P 500 Index or any data included
therein. Without limiting any of the foregoing, in no event shall S&P have
any liability for any special, punitive, indirect or consequential damages
(including lost profits), even if notified of the possibility of such
damages.
APPENDIX
STANDARD & POOR'S RATINGS GROUP CORPORATE BOND RATINGS
AAA--Debt rated ``AAA'' has the highest rating assigned by S&P. Capacity
to pay interest and repay principal is extremely strong.
AA--Debt rated ``AA'' has a very strong capacity to pay interest and
repay principal and differs from the higher rated issues only in small
degree.
A--Debt rated ``A'' has a strong capacity to pay interest and repay
principal although it is somewhat more susceptible to the adverse effects
of changes in circumstances and economic conditions than debt in higher
rated categories.
BBB--Debt rated "BBB" is regarded as having an adequate capacity to pay
interest and repay principal. Whereas it normally exhibits adequate
protection parameters, adverse economic conditions or changing
circumstances are more likely to lead to a weakened capacity to pay
interest and repay principal for debt in this category than in higher rated
categories.
BB, B, CCC, CC -- Debt rated ``BB'', `B'', ``CCC'', and `CC'' is
regarded, on balance, as predominantly speculative with respect to capacity
to pay interest and repay principal in accordance with the terms of the
obligation. `BB'' indicates the lowest degree of speculation and ``CC''
the highest degree of speculation. While such debt will likely have some
quality and protective characteristics, these are outweighed by large
uncertainties of major risk exposure to adverse conditions.
C -- The rating ``C'' is reserved for income bonds on which no interest
is being paid.
D -- Debt rated ``D'' is in default, and payment of interest and/or
repayment of principal is in arrears.
NR--NR indicates that no public rating has been requested, that there is
insufficient information on which to base a rating, or that S&P does not
rate a particular type of obligation as a matter of policy.
S&P may apply a plus (+) sign or minus (-) sign to the above rating
classifications to show relative standing within the classifications.
MOODY'S INVESTORS SERVICE, INC. CORPORATE BOND RATING
AAA--Bonds which are rated ``AAA'' are judged to be of the best quality.
They carry the smallest degree of investment risk and are generally
referred to as "gilt edged." Interest payments are protected by a large or
by an exceptionally stable margin and principal is secure. While the
various protective elements are likely to change, such changes as can be
visualized are most unlikely to impair the fundamentally strong position of
such issues.
AA--Bonds which are rated ``AA'' are judged to be of high quality by all
standards. Together with the `AAA'' group they comprise what are
generally known as high grade bonds. They are rated lower than the best
bonds because margins of protection may not be as large as in `AAA
`securities or fluctuation of protective elements may be of greater
amplitude or there may be other elements present which make the long-term
risks appear somewhat larger than in `AAA' securities.
A--Bonds which are rated ``A'' possess many favorable investment
attributes and are to be considered as upper medium grade obligations.
Factors giving security to principal and interest are considered adequate
but elements may be present which suggest a susceptibility to impairment
some time in the future.
BAA--Bonds which are rated ``BAA'' are considered as medium-grade
obligations, (i.e., they are neither highly protected nor poorly secured).
Interest payments and principal security appear adequate for the present
but certain protective elements may be lacking or may be characteristically
unreliable over any great length of time. Such bonds lack outstanding
investment characteristics and in fact have speculative characteristics as
well.
BA--Bonds which are ``BA'' are judged to have speculative elements; their
future cannot be considered as well assured. Often the protection of
interest and principal payments may be very moderate and thereby not well
safeguarded during both good and bad times over the future. Uncertainty of
position characterizes bonds in this class.
B--Bonds which are rated ``B'' generally lack characteristics of a
desirable investment. Assurance of interest and principal payments or of
maintenance of other terms of the contract over any long period of time may
be small.
CAA -- Bonds which are rated ``CAA'' are of poor standing. Such issues
may be in default or there may be present elements of danger with respect
to principal or interest.
CA--Bonds which are rated ``CA'' represent obligations which are
speculative in a high degree. Such issues are often in default or have
other marked shortcomings.
C--Bonds which are rated ``C'' are the lowest rated class of bonds and
issues so rated can be regarded as having extremely poor prospects or ever
attaining any real investment standing.
NR--Not rated by Moody's. Moody's applies numerical modifiers, 1, 2 and
3 in each generic rating classification from `AA'' through ``B'' in its
corporate bond rating system. The modifier 1 indicates that the security
ranks in the higher end of its generic rating category; the modifier 2
indicates a mid-range ranking; and the modifier 3 indicates that the issue
ranks in the lower end of its generic rating category.
STANDARD & POOR'S RATINGS GROUP COMMERCIAL PAPER RATINGS
A-1--This highest category indicates that the degree of safety regarding
timely payment is strong. Those issues determined to possess extremely
strong safety characteristics are denoted with a plus sign (+) designation.
A-2--Capacity for timely payment on issues with this designation is
satisfactory. However, the relative degree of safety is not as high as for
issues designated "A-1."
A-3--Issues carrying this designation have adequate capacity for timely
payment. They are, however, more vulnerable to the adverse effects of
changes in circumstances than obligations carrying the higher designations.
B--Issues rated "B" are regarded as having only speculative capacity for
timely payment.
C--This rating is assigned to short-term debt obligations with a
doubtful capacity for payment.
D--Debt rated "D" is in payment default. The "D" rating category is used
when interest payments or principal payments are not made on the date due,
even if the applicable grace period has not expired, unless S&P believes
that such payments will be made during such grace period.
MOODY'S INVESTORS SERVICE, INC. COMMERCIAL PAPER RATING DEFINITIONS
PRIME-1--Issuers rated ``PRIME-1'' (or related supporting institutions)
have a superior capacity for repayment of short-term promissory
obligations. `PRIME-1'' repayment capacity will normally be evidenced by
many of the following characteristics:
oLeading market positions in well-established industries;
oHigh rates of return on funds employed;
oConservative capitalization structure with moderate reliance on debt
and ample asset protection;
oBroad margins in earnings coverage of fixed financial charges and
high internal cash generation; or
oWell-established access to a range of financial markets and assured
sources of alternate liquidity.
PRIME-2- Issuers rated ``PRIME-2'' (or related supporting institutions)
have a strong capacity for repayment of short-term promissory obligations.
This will normally be evidenced by many of the characteristics cited above,
but to a lesser degree. Earnings trends and coverage ratios, while sound,
will be more subject to variation. Capitalization characteristics, while
still appropriate, may be more affected by external conditions. Ample
alternate liquidity is maintained.
STANDARD & POOR'S RATINGS GROUP MUNICIPAL BOND RATINGS
AAA--Debt rated "AAA" has the highest rating assigned by S&P. Capacity
to pay interest and repay principal is extremely strong.
AA--Debt rated "AA" has a very strong capacity to pay interest and repay
principal and differs from the higher rated issues only in small degree.
A--Debt rated "A" has a strong capacity to pay interest and repay
principal although it is somewhat more susceptible to the adverse effect of
changes in circumstances and economic conditions than debt in higher rated
categories.
BBB--Debt rated "BBB" is regarded as having an adequate capacity to pay
interest and repay principal. Whereas it normally exhibits adequate
protection parameters, adverse economic conditions or changing
circumstances are more likely to lead to a weakened capacity to pay
interest and repay principal for debt in this category than in higher rated
categories.
BB, B, CCC, CC--Debt rated "BB," "B," "CCC" and "CC" is regarded, on
balance, as predominantly speculative with respect to capacity to pay
interest and repay principal in accordance with the terms of the
obligation. "BB" indicates the lowest degree of speculation and "CC" the
highest degree of speculation. While such debt will likely have some
quality and protective characteristics, these outweighed by large
uncertainties of major risk exposure to adverse conditions.
C--The rating "C" is reversed for income bonds on which no interest is
being paid.
D--Debt rated "D" is in default, and payment of interest and/or
repayment of principal is in arrears.
STANDARD & POOR'S RATINGS GROUP MUNICIPAL NOTE RATINGS
SP-1--Very strong or strong capacity to pay principal and interest.
Those issues determined to possess overwhelming safety characteristics will
be given a plus sign (+) designation.
SP-2--Satisfactory capacity to pay principal and interest.
SP-3--Speculative capacity to pay principal and interest.
MOODY'S INVESTORS SERVICE, INC. MUNICIPAL 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
by an exceptionally stable margin and principal is secure. While the
various protective elements are likely to change, such changes as can be
visualized are most unlikely to impair the fundamentally strong position of
such issues.
AA--Bonds which are rated "Aa" are judged to be of high quality by all
standards. Together with the "Aaa" group they comprise what are generally
known as high grade bonds. They are rated lower than the best bonds because
margins of protection may not be as large as in "Aaa" securities or
fluctuation of protective elements may be of greater amplitude or there may
be other elements present which make the long term risks appear somewhat
larger than in "Aaa" securities.
A--Bonds which are rated "A" possess many favorable investment
attributes and are to be considered as upper medium grade obligations.
Factors giving security to principal and interest are considered adequate
but elements may be present which suggest a susceptibility to impairment
some time in the future.
BAA--Bonds which are rated "Baa" are considered as medium grade
obligations, i.e., they are neither highly protected nor poorly secured.
Interest payments and principal security appear adequate for the present
but certain protective elements may be lacking or may be characteristically
unreliable over any great length of time. Such bonds lack outstanding
investment characteristics and in fact have speculative characteristics as
well.
BA--Bonds which are ``Ba'' are judged to have speculative elements; their
future cannot be considered as well assured. Often the protection of
interest and principal payments may be very moderate and thereby not well
safeguarded during both good and bad times over the future. Uncertainty of
position characterizes bonds in this class.
B--Bonds which are rated ``B'' generally lack characteristics of the
desirable investment. Assurance of interest and principal payments or of
maintenance of other terms of the contract over any long period of time may
be small.
CAA--Bonds which are rated ``Caa'' are of poor standing. Such issues may
be in default or there may be present elements of danger with respect to
principal or interest.
CA--Bonds which are rated ``Ca'' represent obligations which are
speculative in a high degree. Such issues are often in default or have
other marked shortcomings.
C--Bonds which are rated ``C'' are the lowest rated class of bonds and
issues so rated can be regarded as having extremely poor prospects of ever
attaining any real investment standing.
MOODY'S INVESTORS SERVICE, INC. SHORT-TERM DEBT RATINGS
PRIME-1--Issuers rated PRIME-1 (or related supporting institutions) have
a superior capacity for repayment of short-term promissory obligations.
PRIME-1 repayment capacity will normally be evidenced by the following
characteristics:
oLeading market positions in well established industries;
oHigh rates of return on funds employed;
oConservative capitalization structure with moderate reliance on debt
and ample asset protection;
oBroad margins in earning coverage of fixed financial charges and
high internal cash generation; and
oWell-established access to a range of financial markets and assured
sources of alternate liquidity.
PRIME-2--Issuers rated PRIME-2 (or related supporting institutions) have
a strong capacity for repayment of short-term promissory obligations. This
will normally be evidenced by many of the characteristics cited above, but
to a lesser degree. Earnings trends and coverage ratios, while sound, will
be more subject to variation. Capitalization characteristics, while still
appropriate, may be more affected by external conditions. Ample alternate
liquidity is maintained.
PRIME-3--Issuers rated PRIME-3 (or related supporting institutions) have
an acceptable ability for repayment of senior short-term obligations. The
effect of industry characteristics and market compositions may be more
pronounced. Variability in earnings and profitability may result in changes
in the level of debt protection measurements and may require relatively
high financial leverage. Adequate alternate liquidity is maintained.
NOT PRIME--Issuers rated NOT PRIME do not fall within any of the Prime
rating categories.
MOODY'S INVESTORS SERVICE, INC. SHORT TERM LOAN RATINGS
MIG 1/VMIG 1--This designation denotes best quality. There is present
strong protection by established cash flows, superior liquidity support or
demonstrated broad based access to the market for refinancing.
MIG 2/VMIG 2--This designation denotes high quality. Margins of
protection are ample although not so large as in the preceding group.
MIG 3/VMIG 3--This designation denotes favorable quality. All security
elements are accounted for but there is lacking the undeniable strength of
the preceding grades. Liquidity and cash flow protection may be narrow and
market access for refinancing is likely to be less well established.
FEDERATED INVESTORS
Federated Investors Tower
Pittsburgh, PA 15222-3779
Federated Securities Corp. is the distributor of the Funds
and is a subsidiary of Federated Investors.
3012917B (3/97)
