As filed with the Securities and
Exchange Commission on October 6, 1997
File No. 33-44909
File No. 811-6520
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
F O R M N-1A
Registration Statement Under the
Securities Act of 1933
Post-Effective Amendment No. 12
and
Registration Statement Under the
Investment Company Act of 1940
Amendment No. 14
_____________________
SMITH BREEDEN TRUST
(Exact Name of Registrant as Specified in Charter)
100 Europa Drive, Suite 200
Chapel Hill, North Carolina 27514
(Address of Principal Executive Office)
(919) 967-7221
(Registrant's Telephone Number, Including Area Code)
MICHAEL J. GIARLA
100 Europa Drive, Suite 200
Chapel Hill, North Carolina 27514
(Name and Address of Agent for Service)
_______________
Please Send Copy of Communications to:
MARIANTHE S. MEWKILL
Smith Breeden Associates, Inc.
100 Europa Drive, Suite 200
Chapel Hill, NC 27514
(919)-967-7221
This filing shall become effective on
December 22, 1997 pursuant paragraph (a)(2) of Rule 485
under the Securities Act of 1933.
The Registrant has previously registered an indefinite
number of shares of beneficial interest pursuant to
Rule 24f-2 under the Investment Company Act of 1940,
as amended. The Rule 24f-2 notice for the Registrant's
most recent fiscal year was filed on May 29, 1997.
<PAGE>
SMITH BREEDEN TRUST
SMITH BREEDEN EQUITY MARKET PLUS FUND
(THE "EQUITY MARKET PLUS FUND")
AND
SMITH BREEDEN FINANCIAL SERVICES FUND
(THE "FINANCIAL SERVICES FUND")
CROSS REFERENCE SHEET
FORM N-1A
Part A: Information Required in Prospectus
N-1A
Item No. Item Location in the
Registration
Statement by
Prospectus Heading
1. Cover Page Cover Page
2. Synopsis "Expense Table"
3. Condensed "Financial
Financial Highlights"
Information
4. General "Smith Breeden Mutual
Description of Funds"; "Equity Market
Registrant Plus Fund"; "Smith
Breeden Financial
Services Fund"
5. Management "Management of the Funds"
of the Fund
5a. Management's Contained in the Funds'
Discussion Annual Report to
of Fund's Shareholders
Performance
6. Capital Stock "Dividends and
and Other Distributions"; "Taxes";
Securities "Capital Structure"
7. Purchase of "How to Purchase
Securities Shares"; "Pricing of
Being Offered Fund Shares"
8. Redemption or "How to Redeem Shares":
Repurchase "How to Exchange Shares"
9. Pending Legal Not Applicable
Proceedings
<PAGE>
DECEMBER 22, 1997
SMITH BREEDEN MUTUAL FUNDS PROSPECTUS
The Smith Breeden Mutual Funds consist of four no-load, diversified
Series (the "Funds") of two registered investment companies-Smith Breeden
Trust and Smith Breeden Series Fund. The investment advisor for the Funds
is Smith Breeden Associates, Inc. (the "Adviser").
Smith Breeden Equity Market Plus Fund (the "Equity Market Plus Fund", a
series of the Smith Breeden Trust) seeks to provide a total return
exceeding the Standard & Poor's 500 Composite Stock Price Index without
additional equity market risk. The Equity Market Plus Fund does not
generally invest in the common stocks that make up the S&P 500 Index or any
other index. The Equity Market Plus Fund utilizes index futures contracts
and equity swap contracts to track the return of the S&P 500 Index, and
invests substantially all of its assets in fixed-income securities and
related hedging instruments. Whether the Fund's total return equals or
exceeds the performance of the S&P 500 Index depends on whether the total
return on the Equity Market Plus Fund's fixed-income investments equals or
exceeds the Fund's total operating expenses, as well as other factors.
Smith Breeden Financial Services Fund (the "Financial Services Fund", a
series of the Smith Breeden Trust) seeks capital appreciation. To pursue
this goal, the fund invests in U.S. and foreign financial services
companies. These include banks, thrift, finance and leasing companies,
brokerage, investment banking and advisory firms, real estate related firms
and insurance companies.
Smith Breeden Short Duration U.S. Government Fund (the "Short Fund", a
series of the Smith Breeden Series Fund) seeks a high level of current
income consistent with low volatility of net asset value. The Short Fund
seeks to match the duration, or interest-rate risk, of a portfolio that
invests exclusively in six month U.S. Treasury securities on a constant
maturity basis. The dollar weighted average maturity of the Fund's
securities may at times significantly exceed six months.
Smith Breeden Intermediate Duration U.S. Government Fund (the
"Intermediate Fund", a series of the Smith Breeden Series Fund) seeks a
total return in excess of the total return of the major market indices for
mortgage-backed securities. The major market indices for mortgage-backed
securities currently include, but are not limited to, the Salomon Brothers
Mortgage Index and the Lehman Brothers Mortgage Index. These indices
include all outstanding government sponsored fixed-rate mortgage-backed
securities, weighted in proportion to their current market capitalization.
The duration, or interest-rate risk, of these indices is similar to that of
intermediate-term U.S. Treasury Notes, and typically will range between
three and five years. The Intermediate Fund consistently seeks to achieve
a volatility of net asset value similar to that of a portfolio that invests
exclusively in mortgage-backed securities, as weighted in the major
mortgage market indices.
An investment in any of the Funds is neither insured nor guaranteed by
the U.S. Government. There can be no assurance that any of the Funds will
meet their investment objectives. This Prospectus sets forth concisely the
information about the Funds that you should know before investing. Please
read this Prospectus carefully and keep it for future reference.
Statements of Additional Information dated December 22, 1997, have been
filed with the Securities and Exchange Commission with respect to each
Trust and are legally part of this prospectus. The Statements of
Additional Information can be obtained without charge by writing to the
Funds at 100 Europa Drive, Chapel Hill, North Carolina 27514 or by calling
1-800-221-3138. THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY
THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION
NOR HAS THE SECURITIES AND EXCHANGE COMMISSION PASSED UPON THE ACCURACY OR
ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
1<PAGE>
TABLE OF CONTENTS
Expense Table 3
Financial Highlights--Equity Market Plus Fund 4
Financial Highlights--Short Fund 5
Financial Highlights--Intermediate Fund 6
Smith Breeden Mutual Funds 7
Investment Objectives, Policies and Risk Considerations 7
Other Investment Practices and Risk Considerations 16
Management of the Funds 22
Pricing of Fund Shares 28
How to Purchase Shares 28
How to Exchange Shares 31
How to Redeem Shares 32
Dividends and Distributions 35
Shareholder Reports and Information 36
Retirement Plans 37
Service and Distribution Plans 37
Taxes 38
Capital Structure 38
Transfer, Dividend Disbursing Agent, Custodian and
Independent Accountants 39
Fund Performance 39
No person has been authorized to give any information or to make any
representations not contained in this Prospectus and, if given or
made, such information or representations must not be relied upon as
having been authorized by the Funds. The Prospectus does not
constitute an offering by the Funds in any jurisdiction in which such
offering may not be lawfully made.
2<PAGE>
EXPENSE TABLE
The following table is designed to assist you in understanding the
expenses you will bear as a shareholder of the Funds. Shareholder
Transaction Expenses are charges that you pay when buying or selling
shares of a Fund. Annual Fund Operating Expenses are paid out of a
Fund's assets and include fees for portfolio management, maintenance of
shareholder accounts, shareholder servicing, accounting and other
services. The annual fund operating expenses shown below reflect
expense limitations agreed to by the Adviser, and are based on each
Fund's expenses for the past fiscal year, if applicable, or on good
faith estimates provided by the Advisor.
Equity
Market Financial
Plus Services Short Intermediate
Fund Fund Fund Fund
Shareholder Transaction Expenses
Maximum Sales Load Imposed
on Purchases None None None None
Maximum Sales Load Imposed on
Reinvested Dividends None None None None
Deferred Sales Load Imposed on
Redemptions None None None None
Redemption Fees1 None None None None
Exchange Fees None None None None
Annual Fund Operating Expenses
(as a percentage of average net assets)
Management Fees2 0.70% 1.50% 0.70% 0.70%
Other Expenses
(net of reimbursement)3 0.18% 0.00% 0.08% 0.18%
Total Fund Operating Expenses
(net of reimbursement)3 0.88% 1.50% 0.78% 0.88%
_____________________________
1 A transaction charge of $9 may be imposed on redemptions by wire
transfer.
2 Pursuant to a distribution and services plan in respect of each
Fund, the Adviser may pay annual distribution and servicing fees
of up to 0.25% of each of the Fund's net assets out of its
management fee. See "Service and Distribution Plans."
3 The Other Expenses and Total Fund Operating Expenses in the table
reflect undertakings by the Adviser to bear expenses of each of
the Funds and/or waive its fees to the extent necessary to limit
Total Fund Operating Expenses to 0.78% for the Short Fund and
0.88% for each of the Equity Market Plus Fund and Intermediate
Fund and to 1.50% for the Financial Services Fund through August
1, 1998. Absent the expense limitation, Other expenses and Total
Fund Operating Expenses for the past fiscal year would have been
0.23% and 0.93% for the Short Fund, 0.46% and 1.16% for the
Intermediate Fund, and 1.90% and 2.60% for the Equity Market Plus
Fund, and are estimated to be about 4.30% and 5.00% for the
Financial Services Fund.
The following examples illustrate the expenses that apply to a $1000
investment in each Fund over various time periods assuming: (1) a 5%
annual rate of return, and (2) redemption or no redemption at the end
of each time period. Except as noted in the table above, the Funds
charge no redemption fees.
Short Duration Fund
1 Year 3 Years 5 Years 10 Years
$ 8 $ 26 $ 45 $ 99
Intermediate Duration Fund and Equity Market Plus Fund
1 Year 3 Years 5 Years 10 Years
$ 9 $ 29 $ 50 $ 111
Financial Services Fund
1 Year 3 Years 5 Years 10 Years
$ 16 $ 49 $ 84 $ 184
These examples are based on the annual operating expenses shown above
and should not be considered a representation of past or future
expenses or performance. Actual expenses may be greater or less than
those shown. The annual rate of return may be more or less than 5%.
The Funds may be recommended to investors by registered investment
advisors. Such advisors customarily impose fees that would be in
addition to any fees and expenses presented in the above table.
Certain broker-dealers may also charge a fee for purchase or redemption
of shares through their network. Neither the Funds, nor the Adviser,
exercise any control over such advisory or broker-dealer fees and may
not be informed of the level of such fees.
3<PAGE>
EQUITY MARKET PLUS FUND
FINANCIAL HIGHLIGHTS
FOR A SHARE OUTSTANDING THROUGHOUT THE PERIOD
The following selected per share data and ratios cover the fiscal periods from
June 30, 1992, the date the Fund commenced operations, through March 31, 1997,
and are a part of the Fund's financial statements, which have been audited by
Deloitte & Touche LLP, independent auditors. This data should be read in
conjunction with the Fund's most recent annual audited financial statements and
the report of Deloitte & Touche LLP thereon which appear in the Statement of
Additional Information for the Smith Breeden Trust.
<TABLE>
<CAPTION>
Six Months Year Ended Year Ended Year Ended Year Ended Period Ended
Ended March 31, March 31, March 31, March 31, March 31,
September 1997 1996 1995 1994 1993
30, 1997
<S> <C> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of $12.27 $10.84 $9.88 $10.85 $10.00
Period
Income From Investment
Operations
Net investment 0.592 0.615 0.568 0.476 0.355
income..................
Net realized and unrealized
gain (loss) on 1.813 2.768 1.081 (0.216) 1.281
Investments.................
Total from investment 2.405 3.383 1.649 0.260 1.636
operations.................
Less Distributions
Dividends from net investment (0.590) (0.583) (0.568) (0.472) (0.311)
income..............
Dividends in excess of net -- -- (0.001) -- --
investment income.......
Distributions from net
realized gains on (1.525) (1.370) (0.047) (0.701) (0.420)
investments.................
Distributions in excess of
net realized gains on -- -- (0.073) (0.057) (0.055)
investments.................
Total (2.115) (1.953) (0.689) (1.230) (0.786)
distributions................
.
Net Asset Value, End of $12.56 $12.27 $10.84 $9.88 $10.85
Period.................
Total 21.41% 32.30% 17.18% 2.19% 22.59%*
Return.......................
.........
Ratios/Supplemental Data
Net assets, end of $13,507,377 $4,766,534 $2,107,346 $1,760,519 $903,846
period.................
Ratio of expenses to average
net assets
Before expense 2.60% 4.58% 7.75% 7.08% 28.48%*
limitation.................
After expense 0.88% 0.90% 0.90% 0.90% 0.57%*
limitation.................
Ratio of net income to
average net assets
Before expense 3.58% 1.85% 0.59% 1.84% (22.63%)*
limitation.................
After expense 5.30% 5.53% 7.44% 8.02% 5.28%*
limitation.................
Portfolio turnover 182% 107% 120% 119% 271%
rate.................
<FN>
<F1>
* Annualized
</FN>
</TABLE>
Additional performance information is presented in the Fund's Annual Report,
which is available without charge upon request.
4<PAGE>
SHORT DURATION FUND
FINANCIAL HIGHLIGHTS
FOR A SHARE OUTSTANDING THROUGHOUT THE PERIOD
The following selected per share data and ratios cover the fiscal periods from
March 31, 1992, the date the Fund commenced operations, through March 31, 1997
and are a part of the Short Fund's financial statements which have been audited
by Deloitte & Touche LLP, independent auditors. This data should be read in
conjunction with the Short Fund's most recent annual audited financial
statements and the report of Deloitte & Touche LLP thereon which appear in the
Statement of Additional Information for the Smith Breeden Series Fund.
<TABLE>
<CAPTION>
Six Months Year Ended Year Ended Year Ended Year Ended Period Ended
Ended March 31, March 31, March 31, March 31, March 31,
September 1997 1996 1995 1994 1993
30, 1997
<S> <C> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of $9.74 $9.90 $9.90 $10.00 $10.00
Period
Income From Investment
Operations
Net investment 0.476 0.621 0.628 0.432 0.552
income..................
Net gain (loss) on securities
(both realized and 0.146 (0.148) -- (0.070) 0.002
unrealized).................
Total from investment 0.622 0.473 0.628 0.362 0.554
operations.................
Less Distributions
Dividends from net investment (0.476) (0.621) (0.628) (0.462) (0.554)
income..............
Dividends in excess of net (0.056) (0.012) -- -- --
investment income.......
Total (0.532) (0.633) (0.628) (0.462) (0.554)
distributions................
.
Net Asset Value, End of $9.83 $9.74 $9.90 $9.90 $10.00
Period.................
Total 6.57% 4.95% 6.58% 3.67% 5.67%
Return.......................
.........
Ratios/Supplemental Data
Net assets, end of $118,988,609 $221,825,136 $218,431,665 $218,167,491 $48,531,206
period.................
Ratio of expenses to average
net assets
Before expense 0.93% 0.93% 0.92% 1.00% 2.58%
limitation.................
After expense 0.78% 0.78% 0.78% 0.78% 0.78%
limitation.................
Ratio of net income to
average net assets
Before expense 4.90% 6.13% 6.18% 3.95% 2.73%
limitation.................
After expense 5.04% 6.29% 6.33% 4.17% 4.53%
limitation.................
Portfolio turnover 556% 225% 47% 112% 3%
rate.................
</TABLE>
Additional performance information is presented in the Short Fund's Annual
Report, which is available without charge upon request.
5<PAGE>
INTERMEDIATE DURATION FUND
FINANCIAL HIGHLIGHTS
FOR A SHARE OUTSTANDING THROUGHOUT THE PERIOD
The following selected per share data and ratios cover the fiscal periods from
March 31, 1992, the date the Fund commenced operations, through March 31, 1997
and are a part of the Intermediate Fund's financial statements which have been
audited by Deloitte & Touche LLP, independent auditors. This data should be
read in conjunction with the Intermediate Fund's most recent annual audited
financial statements and the report of Deloitte & Touche LLP thereon which
appear in the Statement of Additional Information for the Smith Breeden Series
Trust.
<TABLE>
<CAPTION>
Six Months Year Ended Year Ended Year Ended Year Ended Period Ended
Ended March 31, March 31, March 31, March 31, March 31,
September 1997 1996 1995 1994 1993
30, 1997
<S> <C> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of $10.01 $9.83 $10.01 $10.62 $10.00
Period
Income From Investment
Operations
Net investment 0.599 0.660 0.664 1.05 0.826
income..................
Net gain (loss) on securities
(both realized and (0.024) 2.77 (0.049) (0.601) 0.621
unrealized).................
Total from investment 0.575 0.937 0.615 0.449 1.447
operations.................
Less Distributions
Dividends from net investment (0.604) (0.656) (0.664) (1.044) (0.826)
income..............
Dividends in excess of net -- -- (0.108) -- --
investment income.......
Distributions from net
realized gains on (0.251) (0.101) -- (0.015) --
Investments.................
Distributions in excess of
net realized gains on -- -- (0.022) -- --
Investments.................
Total (0.855) (0.757) (0.794) (1.059) (0.826)
distributions................
.
Net Asset Value, End of $9.73 $10.01 $9.83 $10.01 $10.62
Period.................
Total 5.92% 9.69% 6.10% 4.11% 14.93%
Return.......................
.........
Ratios/Supplemental Data
Net assets, end of $37,735,525 $36,446,940 $34,797,496 $6,779,666 $2,923,913
period.................
Ratio of expenses to average
net assets
Before expense 1.16% 1.14% 2.33% 2.34% 17.52%
limitation.................
After expense 0.88% 0.90% 0.90% 0.90% 0.82%
limitation.................
Ratio of net income to
average net assets
Before expense 5.92% 6.26% 4.77% 6.30% (8.52%)
limitation.................
After expense 6.19% 6.49% 6.20% 7.74% 8.18%
limitation.................
Portfolio turnover 409% 193% 557% 84% 42%
rate.................
</TABLE>
Additional performance information is presented in the Intermediate Fund's
Annual Report, which is available without charge upon request.
6<PAGE>
SMITH BREEDEN MUTUAL FUNDS
The Short and Intermediate Funds are funds of the Smith
Breeden Series Fund (the "Series Fund"), an open-end diversified
management investment company. The Equity Market Plus and
Financial Services Funds are series of the Smith Breeden Trust
(the "Trust"), an open-end diversified management investment
company.
Smith Breeden Associates, Inc. ("Smith Breeden" or the
"Adviser") acts as investment adviser to the Funds. Smith Breeden
is a money management and consulting firm founded in 1982 whose
clients include pension funds, financial institutions,
corporations, government entities, and charitable
foundations.
INVESTMENT OBJECTIVES, POLICIES, AND RISK CONSIDERATIONS
Each of the Funds has a different investment objective and
different investment policies, and is designed to meet different
investment needs.
The investment objectives and certain investment policies of
the Short and Intermediate Funds are fundamental and may not be
changed without a vote of shareholders of the relevant Fund. The
investment objectives of the Equity Market Plus Fund and
Financial Services Funds are not fundamental. Shareholders of
the Equity Market Plus Fund and Financial Services Funds will
receive a written notification at least thirty days prior to any
change in their investment objectives. If such a change in the
investment objective of these Funds occurs, such changes may
result in the Funds having an investment objective different from
the objective which the shareholders considered appropriate at
the time of their investment.
Since shares of each Fund represent an investment in securities
with fluctuating market prices, the net asset value per share of
each Fund will vary as the aggregate value of a Fund's portfolio
securities increases or decreases. Due to the risks inherent in
all investments, there can be no assurance that the objectives of
the Funds will be met. The descriptions that follow are designed
to help you choose the Fund or combination of Funds that best
fits your investment objectives.
Short Fund
The Short Fund's investment objective is to provide investors
with a high level of current income, consistent with a volatility
of net asset value similar to that of a portfolio which invests
exclusively in six-month U.S. Treasury securities on a constant
maturity basis. There is no assurance that the Short Fund will
be able to maintain a low volatility of net asset value.
7<PAGE>
The Short Fund will seek its investment objective by
investing, under normal circumstances, at least 70% of its total
assets in U.S. Government Securities ( See "Investment
Objectives, Policies and Risk Considerations-Characteristics and
Risks of the Securities in which the Short and Intermediate Funds
and Fixed Income Segment of the Equity Market Plus Fund Invest").
It is anticipated that the Short Fund will invest primarily in
mortgage-backed securities issued by the U.S. Government, its
agencies and instrumentalities. The Fund will also invest in
fixed-rate and adjustable-rate mortgage-backed securities issued
by non-governmental issuers. The Fund may hold a portion of its
assets in money market instruments and in time and savings
deposits (including fixed-rate or adjustable certificates of
deposit) in commercial banks or institutions whose accounts are
insured by the FDIC, BIF or SAIF.
Under normal circumstances the Short Fund will seek to achieve
an interest-rate risk or option-adjusted duration (See "Other
Investment Practices and Risk Considerations-Adjusting Investment
and Interest Rate Risk Exposure") similar to that of a six-month
U.S. Treasury security on a constant maturity basis. However, the
Short Fund expects that, under normal circumstances, the
dollar-weighted average life (or period until the next reset
date) of its portfolio securities will be longer than six months,
sometimes significantly longer.
The Adviser believes that by investing in mortgage securities
from a variety of market sectors on a selective basis and
adjusting the overall option-adjusted duration of the portfolio
to approximate that of a six-month U.S. Treasury security, the
Short Fund will achieve a more consistent and less volatile net
asset value than is characteristic of mutual funds that invest
primarily in mortgage securities paying a fixed rate of interest
or those that invest exclusively in adjustable-rate mortgage
securities. The securities in which the Short Fund may invest
may not yield as high a level of income as other securities in
which other funds may invest. However, such higher yielding
securities may be more volatile and may be issued by less
creditworthy entities.
Intermediate Fund
The Intermediate Fund's investment objective is to provide
investors with a total return in excess of the total return of
the major market indices for mortgage-backed securities. The
Intermediate Fund will seek its investment objective by
investing, under normal circumstances, at least 70% of its total
assets in U.S. Government Securities. It is anticipated that the
Intermediate Fund will invest primarily in mortgage-backed
securities issued by the U.S. Government, its agencies or
instrumentalities. The Fund will also invest in fixed-rate and
adjustable rate mortgage-backed securities issued by non-
governmental issuers. The Fund may hold a portion of its assets
in money market instruments and in time and savings deposits
(including fixed-rate or adjustable-rate certificates of deposit)
in commercial banks or institutions whose accounts are insured by
the FDIC, BIF, or SAIF.
8<PAGE>
The major market indices for mortgage-backed securities
currently include, but are not limited to, the Salomon Brothers
Mortgage Index and the Lehman Brothers Mortgage Index. These
indices include all outstanding government sponsored fixed-rate
mortgage-backed securities, weighted in proportion to their
current market capitalization. Total return is the change in
value of the investment, assuming reinvestment of all
distributions. Under normal circumstances, the Intermediate Fund
will seek to achieve an interest-rate risk or option-adjusted
duration (see "Other Investments and Risk Considerations")
similar to that of a portfolio that invests exclusively in
mortgage-backed securities, as weighted in the major market
indices. The duration, or interest-rate risk, of these indices is
believed by the Adviser similar to the that of intermediate-term
U.S. Treasury Notes, and typically will range between three and
five years. When market interest rates decline, the value of a
portfolio invested in intermediate-term fixed-rate obligations
can be expected to rise. Conversely, when market interest rates
rise, the value of a portfolio invested in intermediate-term
fixed-rate obligations can be expected to fall.
There is no assurance that the Intermediate Fund will be able to
maintain a total return in excess of the total return of major
market indices for mortgage-backed securities, or that it will
match the interest rate risk of a portfolio investing exclusively
in these securities.
Fundamental Policies. As a matter of fundamental policy, the
Short and Intermediate Funds will limit purchases to securities
from the following classes of assets:
1.Securities issued directly or guaranteed by the U.S.
Government or its agencies or instrumentalities;
2.Mortgage-Backed Securities rated AAA by S&P or Aaa by
Moody's or unrated but deemed of equivalent quality by the
Adviser;
3.Assets fully collateralized by assets in either of the above
classes;
4.Assets which would qualify as liquidity items under federal
regulations if held by a commercial bank or savings
institution; and
5.Hedge instruments, which may only be used for risk
management purposes. Any securities described in the
"Hedging" section and any stripped Mortgage-Backed
Securities may only be used for risk management purposes.
Equity Market Plus Fund
The Equity Market Plus Fund seeks to provide a total return
exceeding the Standard & Poor's Composite Stock Price Index (the
"S&P 500 Index") without additional equity market risk. The Fund
does not invest principally in the common stocks that make up the
S&P 500 Index or any other index. The Fund utilizes index
futures contracts and equity swap contracts to track the return
of the S&P 500 Index, and invests substantially all of its assets
in fixed-income securities and related hedging and other
instruments. Whether the Fund's total return equals or exceeds
the performance of the S&P 500 Index depends on whether the total
return on the Fund's fixed-income investments equals or exceeds
the Fund's total operating expenses, as well as other factors.
9<PAGE>
The S&P 500 Index is an unmanaged index composed of 500 common
stocks, most of which are listed on the New York Stock Exchange.
Standard & Poor's, which is not a sponsor of or in any other way
affiliated with the Fund, chooses the 500 stocks included in the
S&P 500 Index on the basis of market value and industry
diversification. The S&P 500 Index assigns relative values to
the stocks included in the index, weighted according to each
stock's total market value relative to the total market value of
the other stocks included in the index.
The Equity Market Plus Fund seeks its objective by dividing
its portfolio into two segments: an "S&P 500 Index Segment" and
a "Fixed Income Segment." Through the S&P 500 Index Segment, the
Fund invests in a combination of equity swap contracts, futures
contracts on the S&P 500 Index and on other stock indices,
including, but not limited to, the New York Stock Exchange
Composite Index, and common stocks whose return (before deducting
allocated costs) is expected to track movements in the S&P 500
Index. By employing this strategy, the Equity Market Plus Fund
seeks to achieve the same investment opportunity and risk profile
for the S&P 500 Index Segment as that of a hypothetical
portfolio, equal in size to the Fund, invested in the common
stocks comprising the S&P 500 Index in proportion to their
respective weightings in the S&P 500 Index.
When index futures contracts and/or equity swap contracts are, in
the judgment of the Adviser, overpriced relative to the common
stocks underlying the S&P 500 Index, the Fund may invest directly
in the common stocks represented by the S&P 500 Index. The Fund
will not own all 500 issues, but will attempt to purchase a
basket of common stocks which the Adviser expects will, on
average, match movements in the S&P 500 Index. Subject to limits
on the Fund's investments in other investment companies, the Fund
may also invest in these stocks indirectly by purchasing
interests in asset pools investing in such stocks. To the extent
that the Fund purchases interests in other investment companies,
shareholders of the Fund may be subject to a layering of expenses
because they may indirectly bear a proportionate share of the
expenses of such investment companies (including advisory fees)
in addition to bearing the direct expenses of the Fund.
Through the Fixed Income Segment, the Fund invests in
fixed-income securities and uses related hedging techniques such
as futures, options, floors, caps and swaps. The Fixed-Income
Segment will invest substantially all of its assets in U.S.
Government Securities, and may also invest in bank certificates
of deposit, corporate debt obligations, and mortgage-backed and
other asset-backed securities of non-governmental issuers. The
Fund may also engage in loans of portfolio securities, dollar
rolls, and reverse repurchase agreements to enhance income and
total return. With these investments, the Fund seeks to generate
income (consisting primarily of interest income) and gains which
exceed the total costs of operating the Fund (including the costs
associated with the S&P 500 Index Segment). Thus, whether the
Fund's total return equals or exceeds the performance of the S&P
500 Index depends on whether the total return on the Fund's Fixed-
Income Segment equals or exceeds the Fund's total operating
expenses, as well as other factors described below.
10<PAGE>
The S&P 500 Index Segment's actual opportunities for gain or
loss may be greater than a hypothetical portfolio invested in the
stocks comprising the S&P 500 Index depending upon the Fund's
exposure to the S&P 500 Index, which could at times be higher or
lower than the Fund's total assets. For example, the total net
notional amount of the Fund's equity swap contracts, S&P 500 or
other stock index futures plus the market value of common stocks
owned by the Fund may exceed the Fund's total net assets as a
result of purchases and redemptions of Fund shares. In addition,
since S&P 500 Index futures can only be purchased for specific
amounts, the Fund might not be able to match accurately a
notional amount of futures contracts to the Fund's total net
assets. Under normal market conditions, the Fund expects that
such variations in S&P 500 Index exposure will generally be up to
5% greater or less than the Fund's total net assets. Also, the
ability of the S&P 500 Index Segment of the Fund's portfolio to
replicate the investment opportunity and risk profile of a
hypothetical stock portfolio may be diminished by imperfect
correlations between price movements of the S&P 500 Index with
price movements of S&P 500 and other stock index futures and/or
the common stocks purchased by the Fund. In addition, the
purchase and sale of common stocks and S&P 500 and other stock
index futures involve transaction costs. Equity swap contracts
require the Fund to pay interest on the notional amount of the
contract. Therefore, assuming the Fund has successfully tracked
the movement of the S&P 500 Index, the Fund will outperform the
S&P 500 Index only if the total net return on the Fixed Income
Segment of the Fund's portfolio exceeds the sum of (to the extent
applicable) (1) the Fund's transaction costs on S&P 500 and other
stock index futures and common stock transactions, (2) the
interest payments under the Fund's equity swap contracts and (3)
the Fund's operating expenses as described more fully under
"Management of the Fund."
Example. Set forth below is an example of how the Equity Market
Plus Fund might invest a $100 million portfolio:
1. Enter into an equity swap contract with a notional amount of
$50 million;
2. Purchase S&P 500 index futures contracts with a total
contract value of $45 million; and
3. Purchase $5 million worth of common stocks comprising
the S&P 500 Index in proportion to their respective
weightings in the S&P 500 Index.
Because equity swap contracts and futures contracts may
generally be initially entered into without making cash payments,
the Fixed Income Segment would have $95 million to invest in
various fixed income securities with appropriate hedging
strategies. If, during the course of the year, the stocks
comprising the S&P 500 Index appreciate 10% on average and pay a
4% dividend, and if the interest on the equity swap contract's
notional amount is 6%, at the end of the year the following would
occur:
11<PAGE>
1. The counterparty to the equity swap contract would be
required to pay the Fund $4 million ($7 million
appreciation and dividends minus $3 million interest);
2. The S&P 500 index futures contract would be closed out at a
gain of $3.6 million ($6.3 million S&P 500 Index
appreciation less $2.7 million for the S&P 500 Futures
implicit cost of carry);
3. Dividend income and gain on the common stocks would total
$0.7 million and in sum;
4. The S&P 500 Index Segment's return, before related operating
expenses, would total $8.3 million dollars or 8.3%.
The Fund's total operating expenses (other than brokerage
expenses and the interest on the notional amount of the equity
swap contract as described above) are 0.88% of total net assets,
or $0.88 million dollars. After consideration of these expenses,
the S&P 500 Index Segment's return would total 7.42%. Therefore,
the Fund would achieve a total return equal to the S&P 500 Index
only if the Fixed Income Segment has a total return equal to
6.93% per annum. If the Fixed Income Segment achieves this
result, then the Fund's total net assets would be $114 million -
an increase of 14% and a total return equal to the S&P 500 Index.
If the Fixed Income Segment's total return were greater or less
than 6.93% per annum, the Fund's total return would, in turn, be
greater or less than the S&P 500 Index.
Smith Breeden Financial Services Fund
The Financial Services Fund seeks capital appreciation. To
pursue this goal, the fund will invest at least 65% of its assets
in U.S. and foreign financial services companies. These include
banks, thrift, finance and leasing companies, brokerage,
investment banking and advisory firms, real estate related firms
and insurance companies. The Fund will generally invest in
common stock and in other equity securities such as preferred
stock and warrants. The Fund may also engage in other investment
practices. See "Other Investment Practices and Risk
Considerations."
Because the Financial Services Fund invests in single sector,
its performance is largely dependent on the sector's performance,
which may differ from that of the overall stock market. Changing
interest rates or deteriorating economic conditions can adversely
affect the performance of financial services companies' stocks.
The Fund may buy or sell interest rate futures and options to
attempt to mitigate the affect of changing interest rates upon
the portfolio. However, the use of interest rate futures in such
a strategy involves the risk that the price movements of the
hedging instrument will not accurately reflect price movements in
the security due to changing interest rates, so that the hedge
will not be fully effective or may result in losses.
The Fund may also buy or sell stock index futures or options
on such indices to adjust the risk and return characteristics of
the Fund's stock portfolio. If the Adviser judges market
conditions incorrectly or employs a strategy that does not
correlate well with the Fund's investments, the use of stock
index futures could result in a loss, regardless of whether the
intent was to reduce risk or increase return. These techniques
12<PAGE>
may also increase the volatility of the Fund relative to the
Financial Services sector of the stock market See also "Other
Investment Practices and Risk Considerations" and the Statement
of Additional Information for a discussion of the use of
financial futures and options and their risks.
Financial services companies are subject to extensive
government regulation which may limit both the amounts and types
of loans and other financial commitments they can make, and the
interest rates and fees they charge. Profitability is largely
dependent upon on the availability and cost of capital funds, and
can fluctuate significantly when interest rates change. Credit
losses resulting from the financial difficulties of borrowers can
negatively impact the industry. Insurance companies may be
subject to severe price competition. Legislation is currently
being considered which would reduce the separation between
commercial and investment banking businesses. If enacted this
could significantly impact the financial services' sector and the
Fund.
The Fund may purchase securities of foreign financial services
companies, which are subject to additional risks. Currency
fluctuations can adversely affect the returns on investments held
in foreign corporations. Other risks relate to the fact that
differences exist in accounting, auditing and financial reporting
standards. Political developments may also have an adverse
impact. There is also the possibility of changes in investment or
exchange control regulations, restrictions on the flow of
international capital, and difficulties in pursuing legal
remedies against issuers. The Fund will primarily invest in
foreign financial securities through ADRs, which represent shares
of a foreign corporation held by an U.S. bank that entitles the
holder to all dividends and capital gains. ADRS are denominated
in U.S. dollars and trade in the U.S. securities markets. ADRs
are still subject to the risks associated with foreign investment
generally described above. The Financial Services Fund may hedge
against fluctuations in foreign exchange rates by entering into
foreign currency forward and futures contracts. For more
discussion of these contracts and their risks, see "Other
Investment Practices and Risk Considerations" and the Statement
of Additional Information.
Under regulations imposed by the Investment Company Act of
1940 and its rules (the "1940 Act"), the Fund may not purchase
more than 10% of the securities of any domestic or foreign
insurance company. The Fund may also not invest more than 5% of
its total assets in the equity securities of any company that
derives more than 15% of its revenues from brokerage or
investment management activities, unless such investment is
limited to not more than 5% of the equity securities or 10% of
the debt securities of such company, and such investment
represents not more than 5% of the net assets of the Fund.
The Financial Services Fund intends to be a diversified fund,
as defined under the 1940 Act, and as such, with respect to 75%
of its assets, will not invest more than 5% of its assets in any
single issuer, and such 5% holding cannot represent more than a
10% voting interest in the acquired company.
13<PAGE>
Characteristics and Risks of the Securities in which the Short
and Intermediate Funds and Fixed Income Segment of the Equity
Market Plus Fund Invest
U.S. Government Securities. The U.S. Government Securities in
which the Funds may invest include U.S. Treasury Bills, Notes,
Bonds, discount notes and other debt securities issued by the
U.S. Treasury, and obligations issued or guaranteed by the U.S.
Government, its agencies and instrumentalities including, but not
limited to, the Government National Mortgage Association
("GNMA"), Federal National Mortgage Association ("FNMA") and
Federal Home Loan Mortgage Corporation ("FHLMC"). (Other U.S.
Government agencies or instrumentalities include Federal Home
Loan Banks, Bank for Cooperatives, Farm Credit Banks, Tennessee
Valley Authority, Federal Financing Bank, Small Business
Administration, and Federal Agricultural Mortgage Corporation.)
Mortgage-backed securities are explained more fully below.
Credit Risks. While certain U.S. Government securities such
as U.S. Treasury obligations and GNMAs are backed by the full
faith and credit of the U.S. Government, other securities in
which the Funds may invest are subject to varying degrees of risk
of default. These risk factors include the creditworthiness of
the issuer and, in the case of mortgage-backed and asset-backed
securities, the ability of the mortgagor or other borrower to
meet its obligations. The Short and Intermediate Funds will seek
to minimize this credit risk by investing in securities of the
highest credit quality instruments, while the Equity Market Plus
Fund will seek to minimize this risk of default by investing in
securities of at least investment grade, (except that the Equity
Market Plus Fund's investment in mortgage backed securities will
be rated at least A by S&P). The individual securities continue
to be subject to the risk that their prices can fluctuate, in
some cases significantly, due to changes in prevailing interest
rates.
Mortgage-Backed and Other Asset-Backed Securities.
Mortgage-backed securities are securities that directly or
indirectly represent a participation in, or are collateralized by
and payable from, mortgage loans secured by real property. The
term "mortgage-backed securities," as used herein, includes
adjustable-rate mortgage securities, fixed-rate mortgage
securities, and derivative mortgage products such as
collateralized mortgage obligations, stripped mortgage-backed
securities and other instruments described below.
There are currently three basic types of mortgage-backed
securities: (i) those issued or guaranteed by the U.S.
Government or one of its agencies or instrumentalities, such as
GNMA, FNMA and FHLMC; (ii) those issued by private issuers that
represent an interest in or are collateralized by mortgage-backed
securities issued or guaranteed by the U.S. Government or one of
its agencies or instrumentalities; and (iii) those issued by
private issuers that represent an interest in or are
collateralized by whole mortgage loans or mortgage-backed
securities without a government guarantee but usually having some
form of private credit enhancement.
14<PAGE>
The Short and Intermediate Funds may only invest in
mortgage-backed securities issued by private originators of, or
investors in, mortgage loans issued by private entities that are
rated AAA by Standard & Poor's ("S&P") or Aaa by Moody's
Investors Service ("Moody's"), or, if unrated, determined by the
Adviser to be of comparable quality. The Short and Intermediate
Funds will not pay any additional fees for credit support and
will not invest in private mortgage pass-through securities
unless they are rated AAA by S&P or Aaa by Moody's, or are
unrated but deemed to be of comparable credit quality by the
Adviser. In addition, the Short and Intermediate Funds will only
purchase mortgage-backed securities which constitute "Mortgage
Related Securities" for purposes of the Secondary Mortgage Market
Enhancement Act of 1984.
The Equity Market Plus Fund may invest in other mortgage-backed
and asset-backed securities.. Its investment in mortgage-backed
and other asset-backed securities will be rated at least A by
Moody's or S&P.. Asset-backed securities are structured like
mortgage-backed securities, but instead of mortgage loans or
interests in mortgage loans, the underlying assets may include,
but are not limited to, pools of automobile loans, educational
loans and credit card receivables.
Mortgage-backed and asset-backed securities have yield and
maturity characteristics corresponding to their underlying
assets. Unlike traditional debt securities, which may pay a
fixed rate of interest until maturity when the entire principal
amount comes due, payments on certain mortgage-backed and asset-
backed securities include both interest and a partial payment of
principal. This partial payment of principal may be comprised of
a scheduled principal payment as well as an unscheduled payment
from the voluntary prepayment, refinancing, or foreclosure of the
underlying loans. As a result of these unscheduled payments of
principal, or prepayments on the underlying securities, the price
and yield of mortgage-backed securities can be adversely
affected. For example, during periods of declining interest
rates, prepayments can be expected to accelerate, and the Funds
would be required to reinvest the proceeds at the lower interest
rates then available. Prepayments of mortgages which underlie
securities purchased at a premium could result in capital losses
because the premium may not have been fully amortized at the time
the obligation is prepaid. In addition, like other interest-
bearing securities, the values of mortgage-backed securities
generally fall when interest rates rise, but when interest rates
fall, their potential for capital appreciation is limited due to
the existence of the prepayment feature. In order to hedge
against possible prepayment, the Funds may purchase certain
options and options on futures contracts as described more fully
in "Other Investment Practices and Risk Considerations" and the
Statement of Additional Information
15<PAGE>
Adjustable-Rate Securities. Adjustable-rate securities have
interest rates that are reset at periodic intervals, usually by
reference to some interest rate index or market interest rate.
Some adjustable-rate securities are backed by pools of mortgage
loans. The Short and Intermediate Funds will only invest in
adjustable-rate securities backed by pools of mortgage loans
("ARMs"). The Fixed Income Segment of the Equity Market Plus
Fund may also invest in adjustable-rate securities backed by
assets other than mortgage pools.
Although the rate adjustment feature may act as a buffer to
reduce large changes in the value of adjustable-rate securities,
these securities are still subject to changes in value based on
changes in market interest rates or changes in the issuer's
creditworthiness. Because the interest rate is reset only
periodically, changes in the interest rate on adjustable-rate
securities may lag changes in prevailing market interest rates.
Also, some adjustable-rate securities (or the underlying
mortgages or other underlying loans or receivables) are subject
to caps or floors that limit the maximum change in interest rate
during a specified period or over the life of the security.
Because of the resetting of interest rates, adjustable-rate
securities are less likely than non-adjustable-rate securities of
comparable quality and maturity to increase significantly in
value when market interest rates fall. Adjustable-rate
securities are also subject to the prepayment risks associated
generally with mortgage-backed securities.
Other Mortgage Backed Securities and Fixed Income Investments.
The Short and Intermediate Funds and Fixed Income Segment of the
Equity Market Plus Fund may also invest in other types of
mortgage-backed and fixed income securities including
Collateralized Mortgage Obligations, Stripped Securities, and
zero coupon bonds. These types of securities, including their
risks, are described in detail in the Statement of Additional
Information. New instruments and variations of existing
mortgage-backed securities continue to be developed. The Fund
may invest in any such instruments or variations to the extent
consistent with their investment objectives and policies and
applicable regulatory requirements.
OTHER INVESTMENT PRACTICES AND RISK CONSIDERATIONS
The Statement of Additional Information for each Fund contains
more detailed information about the following practices,
including limitations designed to reduce their risks.
Adjusting Investment and Interest Rate Risk Exposure. A Fund
can use various techniques to increase or decrease its exposure
to changing security prices and indices, currency exchange rates,
interest rates or other factors that affect security value, or to
employ temporary substitutes for anticipated future transactions.
These techniques include buying or selling financial futures
contracts, purchasing call or put options, or selling covered
call options on such futures or entering into currency exchange
contracts or swap agreements. Any or all of these techniques may
be used at one time, except that only the Financial Services Fund
may enter into currency exchange futures, forward or swap
16<PAGE>
contracts. Use of any particular transaction is a function of
market conditions. There is no overall limitation on the
percentage of a Fund's assets which may be subject to a hedge
position.
Swap agreements are two-party contracts entered into primarily
by institutional investors for periods ranging from a few weeks
to more than one year. In a standard swap transaction, two
parties agree to exchange the returns (or differentials in rates
of return) earned or realized on particular predetermined
investments or instruments, which may be adjusted for an interest
factor. The gross returns to be exchanged or "swapped" between
the two parties are generally calculated with respect to a
"notional amount", i.e., the return on or increase in value of a
particular dollar amount invested at a particular interest rate,
in a particular foreign currency, or in a "basket" of securities
representing a particular index. Whether a Fund's use of swap
agreements will be successful in furthering its investment
objective will depend on the Advisor's ability to predict
correctly whether certain types of investments are likely to
produce greater returns than other investments. Because they are
two-party contracts and because they may have terms of greater
than seven days, swap agreements are currently considered
illiquid investments. Moreover, a Fund bears the risk of loss of
the amount expected to be received under a swap agreement in the
event of the default or bankruptcy of a swap agreement
counterparty. The Funds will enter into swap agreements only
with counterparties that meet certain standards for
creditworthiness (generally such counterparties would have to be
eligible counterparties under the terms of the Funds' repurchase
agreement guidelines). Certain restrictions imposed on the Funds
by the Internal Revenue Code may limit the Funds' ability to use
swap agreements. The swaps market is a relatively new market and
is largely unregulated. It is possible that developments in the
swaps market, including potential government regulation, could
adversely affect a Fund's ability to terminate existing swap
agreements or to realized amounts to be received under such
agreements.
Options and futures transactions involve costs and may result
in losses. The effective use of options and futures strategies
depends on a Fund's ability to terminate options and futures
positions at times when the Adviser deems it desirable to do so.
This ability to terminate positions when the Adviser deems it
desirable to do so may be hindered by the lack of a liquid
secondary market. Although a Fund will take an options or
futures contract position only if the Adviser believes there is a
liquid secondary market for the option or futures contract, there
is no assurance that a Fund will be able to effect closing
transactions at any particular time or at an acceptable
price.
17<PAGE>
The use of options and futures strategies also involves the
risk of imperfect correlation between movements in the values of
the securities underlying the futures and options purchased and
sold by a Fund, of the option and futures contract itself, and of
the securities which are the subject of a hedge. For example, a
fund bears the risk that prices of hedged securities will not
move to the same degree as the hedging instrument, or that price
movements in the hedging instrument will not accurately reflect
price movements in the security underlying the hedging
instrument. It is also possible for a Fund to incur a loss on
both the hedged securities and the hedging instrument. In the
case of the Short and Intermediate Funds, and the Fixed Income
segment of the Equity Market Plus Fund, this means that they may
not achieve, and may at times exceed, their targeted
option-adjusted durations.
Option-adjusted duration is a measure of the price sensitivity
of a portfolio to changes in interest rates. The maturity of a
security, another commonly used measure of price sensitivity,
measures only the time until final payment is due, whereas option-
adjusted duration takes into account the pattern of all payments
of interest and principal on a security over time, including how
these payments are affected by prepayments and by changes in
interest rates. In computing the duration of a Fund's portfolio,
the Adviser will estimate the duration of obligations that are
subject to prepayment or redemption by the issuer, taking into
account the influence of changes in interest rates on prepayments
and coupon flows.
At times, a Fund may sell interest rate futures in a different
dollar amount than the dollar amount of securities being hedged,
depending on the expected relationship between the volatility of
the prices of such securities and the volatility of the futures
contracts, based on duration calculations by the Adviser. If the
actual price movements of the securities and futures are
inconsistent with the Adviser's estimates of their durations, the
hedge may not be effective.
The Short, Intermediate and Equity Market Plus Fund will not
maintain open short positions in interest rate futures contracts
if, in the aggregate, the value of the open positions (marked to
market) exceeds the current market value of its fixed income
securities portfolio plus or minus the unrealized gain or loss on
these open positions, adjusted for the expected volatility
relationship between the portfolio and the futures contracts
based on duration calculations. If this limitation should be
exceeded at any time, a Fund will take prompt action to close out
the appropriate number of open contracts to bring its open
futures position into compliance with this limitation.
The Short and Intermediate Funds will not purchase a put or
call option on U.S. Government securities or mortgage-backed
securities if, as a result of such purchase, more than 10% of its
total assets would be invested in such options. The Short and
Intermediate Funds will engage in OTC option transactions only
with primary United States government securities dealers
recognized by the Federal Reserve Bank of New York. The Short
and Intermediate Funds will also not sell options which are not
covered.
18<PAGE>
The Equity Market Plus Fund will not purchase or sell S&P 500
or other stock index futures, except for bona fide hedging
purposes, if as a result the Fund's aggregate initial margin
deposits and premiums would be greater than 5% of the Fund's
total assets. In addition to margin deposits, when the Fund
purchases an S&P 500 or other stock index futures contract, it is
required to maintain at all times liquid securities in a
segregated account with its Custodian, in an amount which,
together with the initial margin deposit on the futures contract,
is equal to the current delivery or cash settlement value of the
futures contract. The Statement of Additional Information
provides additional information regarding equity swap contracts,
S&P 500 and other stock index futures contracts and their related
risks.
In accordance with regulations established by the Commodity
Futures Trading Commission, each Funds' aggregate initial margin
and premiums on all futures and options contract positions not
held for bona fide hedging purposes, will not exceed 5% of a
Fund's net assets, after taking into account unrealized profits
and losses on such contracts.
The Funds' ability to engage in options and futures
transactions and to sell related securities might also be limited
by tax considerations and by certain regulatory requirements. See
"Additional Information Regarding Taxation" in the relevant
Statement of Additional Information.
Securities Lending, Repurchase Agreements and Forward
Commitments. The Funds may lend portfolio securities to
broker-dealers and may enter into repurchase agreements. These
transactions must be fully collateralized at all times but
involve some risk to the Funds if the other party should default
on its obligations and a Fund is delayed in or prevented from
recovering the collateral. None of the Funds will lend portfolio
securities if, as a result, the aggregate of such loans exceeds
33 1/3% of the total asset value (including such loans). The
Funds will only enter into repurchase agreements with or lend
securities to (i) member banks of the Federal Reserve System
having total assets in excess of $500 million and (ii) securities
dealers, provided such banks or dealers meet the creditworthiness
standards established by the Board of Trustees ("Qualified
Institutions"). The Adviser will monitor the continued
creditworthiness of Qualified Institutions, subject to the
oversight of the Board of Trustees.
The Funds may also purchase securities for future delivery,
which may increase overall investment exposure and involves a
risk of loss if the value of the securities declines prior to the
settlement date. At the time a Fund enters into a transaction on
a when-issued or forward commitment basis, a segregated account
consisting of liquid securities equal to at least 100% of the
value of the when-issued or forward commitment securities will be
established and maintained with the Funds' custodian. Subject to
this requirement, the Funds may purchase securities on such basis
without limit. Settlements in the ordinary course, which may be
substantially more than three business days for mortgage-backed
securities, are not treated as when-issued or forward commitment
transactions, and are not subject to the foregoing limitations,
19<PAGE>
although some of the risks described above may exist.
Reverse Repurchase Agreements, Dollar Roll Agreements and
Borrowing. The Funds may enter into reverse repurchase
agreements or dollar roll agreements with commercial banks and
registered broker-dealers in amounts up to 33 1/3% of their
assets. The Short and Intermediate Funds may only enter into
these transactions with commercial banks and registered broker-
dealers which are also Qualified Institutions. The Statement of
Additional Information for each Trust contains a more detailed
explanation of these practices. Reverse repurchase agreements
and dollar rolls are considered borrowings by a Fund and require
segregation of assets with a Fund's custodian in an amount equal
to the Fund's obligations pending completion of such
transactions. Each Fund may also borrow money from banks in an
amount up to 33 1/3% of a Fund's total assets to realize
investment opportunities, for extraordinary or emergency
purposes, or for the clearance of transactions. Borrowing from
banks usually involves certain transaction and ongoing costs and
may require a Fund to maintain minimum bank account balances.
Use of these borrowing techniques to purchase securities is a
speculative practice known as "leverage." Depending on whether
the performance of the investments purchased with borrowed funds
is sufficient to meet the costs of borrowing, a Fund's net asset
value per share will increase or decrease, as the case may be,
more rapidly than if the Fund did not employ leverage.
Short Sales. The Funds may make short sales of securities. A
short sale is a transaction in which the Fund sells a security it
does not own in anticipation that the market price of that
security will decline. The Short, Intermediate, and Equity
Market Plus Funds expect to engage in short sales as a form of
hedging in order to shorten the overall duration of the portfolio
and maintain portfolio flexibility. The Financial Services Fund
may make short sales of securities to reduce the risk of the
portfolio to the market or to increase return. While a short sale
may act as effective hedge to reduce the market or interest rate
risk of a portfolio, it may also result in losses which can
reduce the portfolio's total return.
When a Fund makes a short sale, it must borrow the security sold
short and deliver it to the broker-dealer through which it made
the short sale as collateral for its obligation to deliver the
security upon completion of the transaction. A Fund may have to
pay a fee to borrow particular securities, and is often obligated
to relinquish any payments received on such borrowed securities.
Until a Fund replaces a borrowed security, it will maintain
daily a segregated account with its custodian into which it will
deposit liquid securities such that the amount deposited in the
account plus any amount deposited with the broker as collateral
will equal the current value of the security sold short.
Depending on arrangements made with the broker, a Fund may not
receive any payments (including interest) on collateral deposited
with the broker. If the price of the security sold short
increases between the time of the short sale and the time a Fund
replaces the borrowed security, the Fund will incur a loss;
conversely, if the price declines, the Fund will realize a gain.
20<PAGE>
Although a Fund's gain is limited to the amount at which it sold
the security short, its potential loss is limited only by the
maximum attainable price of the security less the price at which
the security was sold.
A Fund will not make a short sale if, after giving affect to such
sale, the market value of all securities sold exceeds 25% of the
value of the Fund's total net assets. A Fund may also effect
short sales where the Fund owns, or has the right to acquire at
no additional cost, the identical security (a technique known as
a short sale "against the box").
Illiquid Securities. A Fund may invest up to 15% of its net
assets in illiquid securities. The term illiquid securities for
this purpose means securities that cannot be disposed of within
seven days in the ordinary course of business. The SEC staff
takes the position that this includes non-terminable repurchase
agreements having maturities of more than seven days.
The Financial Services Fund may invest in restricted
securities, which represent securities that can be sold in
privately negotiated transactions, pursuant to an exemption from
registration under the Securities Act of 1933, or in registered
public offering. Restricted securities deemed to be liquid under
procedures established by the Board are not subject to the
limitations on illiquid securities.
The determination of whether certain IO/PO Strips issued by
the U.S. Government and backed by fixed-rate mortgages or any
other securities in which a Fund desires to invest are liquid
shall be made by the Adviser under guidelines established by the
Trustees in accordance with applicable pronouncements of the SEC.
At present, all other IO/PO Strips, other residual interests of
CMOs and OTC options are treated as illiquid securities. The SEC
staff also currently takes the position that the interest rate
swaps, caps and floors discussed in the Statement of Additional
Information, as well as equity swap contracts and reverse equity
swap contracts, are illiquid.
Portfolio Turnover. The Adviser buys and sells securities for
a Fund whenever it believes it is appropriate to do so.
Portfolio turnover generally involves some expense to a Fund,
including brokerage commissions or dealer mark-ups and other
transaction costs on the sale of securities and reinvestment in
other securities. Such transactions may result in realization of
taxable capital gains. The portfolio turnover rate for each
Fund's previous fiscal periods is shown in the table under the
heading "Financial Highlights" The portfolio turnover rates for
the Short and Intermediate Funds for the fiscal year ended March
31, 1997 were relatively high. Since the Short and Intermediate
Funds' portfolio holdings are very liquid, the Funds may
reposition its holdings between different mortgage sectors
relatively frequently, but without generating substantial
transaction costs. The mortgage securities in which the Short,
Intermediate and Equity Market Plus Funds invest are generally
traded on a "net" basis with dealers acting as principals for
their own account without a stated commission.
21<PAGE>
The Funds will pay commissions in connection with options and
future transactions and, for the Equity Market Plus Fund and
Financial Services Fund, in relation to any purchase of common
stocks or other equity securities.
Until March 31, 1998, for the Short, Intermediate, and Equity
Market Plus Funds only, another potential consequence of high
portfolio turnover is that if 30% or more of a Fund's gross
income for a taxable year is derived from gains from the sale of
securities held for less than three months, the Fund will not
qualify as a regulated investment company and, therefore, would
be subject to corporate income tax during that taxable year.
The Adviser endeavors to manage the investment composition of
these Funds and to adjust the portfolio turnover, if necessary,
to ensure that each Fund will be eligible for treatment as a
regulated investment company.
MANAGEMENT OF THE FUNDS
Its Board of Trustees manages the business affairs of the Funds.
Each of the Funds has entered into an investment advisory
agreement with Smith Breeden Associates, Inc., 100 Europa Drive,
Chapel Hill, North Carolina, 27514 ( the "Investment Advisory
Agreements"). Pursuant to such investment advisory agreements,
the Adviser furnishes continuous investment advisory services to
each of the Funds.
Trustees and Officers
The following is a listing of the Trustees and officers of the
Series Fund and Trust, the legal entities that have issued shares
in the Funds. Unless otherwise indicated, all of the named
individuals serve in their capacities for both the Series Fund
and Trust.
Douglas T. Breeden* Trustee and Chairman
Portfolio Manager, Financial
Services Fund
Dr. Breeden, the Chairman of the Board of Smith Breeden
Associates, co-founded the firm in 1982. In conjunction with
Michael J. Giarla and Robert B.Perry, he is responsible for the
day-to-day operations of the Financial Services Fund. Dr. Breeden
has served on business school faculties at Duke University,
Stanford University and the University of Chicago, and as a
visiting professor at Yale University and at the Massachusetts
Institute of Technology. He is the Editor of the Journal of
Fixed Income. Dr. Breeden served as Associate Editor for five
journals in financial economics, and was elected to the Board of
Directors of the American Finance Association. He has published
several well-cited articles in finance and economics journals.
He holds a Ph.D. in Finance from the Stanford University Graduate
School of Business, and a B.S. in Management Science from the
Massachusetts Institute of Technology. He serves as Chairman of
Harrington Financial Group, the holding company for Harrington
Bank, F.S.B., of Richmond, Indiana.
* Interested Person
22<PAGE>
Michael J. Giarla* Trustee and President
Portfolio Manager, Financial
Services Fund
Mr. Giarla is Chief Operating Officer, President and Director of
Smith Breeden Associates. In conjunction with Douglas T. Breeden
and Robert B. Perry, he is responsible for the day-to-day
operations of the Financial Services Fund He also serves as a
Director of Harrington Financial Group, the holding company for
Harrington Bank, F.S.B., of Richmond, Indiana. Formerly Smith
Breeden's Director of Research, he was involved in research and
programming, particularly in the development and implementation
of models to evaluate and hedge mortgage securities. He also
consults with institutional clients and conducts special
projects. Before joining Smith Breeden Associates, Mr. Giarla
was a Summer Associate in Goldman Sachs & Company's Equity
Strategy Group in New York. Mr. Giarla has published a number
of articles and book chapters regarding MBS investment, risk
management and hedging. He served as an Associate Editor of The
Journal of Fixed Income from 1991-1993. Mr. Giarla holds a
Master of Business Administration with Concentration in Finance
from the Stanford University Graduate School of Business, where
he was an Arjay Miller Scholar. He earned a Bachelor of Arts in
Statistics, summa cum laude, from Harvard University, where he
was elected to Phi Beta Kappa and was a Harvard Club of Boston
Scholar. Mr. Giarla is a Trustee of the Roxbury Latin School,
West Roxbury, Massachusetts.
Stephen M. Schaefer Trustee
Stephen M. Schaefer is Esmee Fairbairn Professor of Finance at
the London Business School. Previously on the Faculty of the
Graduate School of Business of Stanford University, he has also
taught at the Universities of California (Berkeley), Chicago,
British Columbia and Venice. His research interests focus on
capital markets and financial regulation. He served on the
editorial board of a number of professional journals including,
currently, the Journal of Fixed Income, the Review of Derivative
Research, and Ricerche Economiche. He consults for a number of
leading financial institutions and is a former Independent Board
Member of the Securities and Futures Authority of Great Britain.
Myron S. Scholes Trustee
Myron S. Scholes is a Principal in the money management firm
Long-Term Capital Management Co. (since 1993). He is the Frank
E. Buck Professor of Finance Emeritus at the Graduate School of
Business at Stanford University (since 1983. He is a member of
the Econometric Society. Professor Scholes was also a Managing
Director and co-head of the fixed income derivatives group at
Salomon Brothers between 1991-1993. Prior to coming to Stanford
University in 1983, Professor Scholes was the Edward Eagle Brown
Professor of Finance at the Graduate School of Business,
University of Chicago (1974-1983). He served as the Director of
the University of Chicago's Center for Research in Security
Prices from 1974-1980. Prior to coming to the University of
23<PAGE>
Chicago, Professor Scholes was first an Assistant Professor then
an Associate Professor at the Sloan School of Management at
M.I.T. from 1968 to 1973. He received his Ph.D. in 1969 from the
Graduate School of Business, University of Chicago. He has
honorary Doctor of Law degrees from the University of Paris and
McMaster University. He is a past president of the American
Finance Association (1990).
* Interested Person
Dr. Scholes has published numerous articles in academic journals
and in professional volumes. He is most noted as the
co-originator of the Black-Scholes Options Pricing Model as
described in the paper, "The Pricing of Options and Corporate
Liabilities," published in the Journal of Political Economy (with
Fischer Black, May 1973). His other papers include such topics
as risk-return relationships, the effects of dividend policy on
stock prices, and the effects of taxes and tax policy on
corporate decision making. His book with Mark Wolfson (Stanford
University) Taxes and Business Strategy: A Planning Approach was
published by Prentice Hall in 1991.
William F. Sharpe Trustee
William F. Sharpe is the STANCO 25 Professor of Finance at
Stanford University's Graduate School of Business. He is best
known as one of the developers of the Capital Asset Pricing
Model, including the beta and alpha concepts used in risk
analysis and performance measurement. He developed the widely
used binomial method for the valuation of options and other
contingent claims. He also developed the computer algorithm used
in many asset allocation procedures, a procedure for estimating
the style of an investment manager from its historic returns, and
the Sharpe ratio for measuring investment performance. Dr.
Sharpe has published articles in a number of professional
journals. He has also written six books, including Portfolio
Theory and Capital Markets, (McGraw-Hill, 1970), Asset Allocation
Tools, (Scientific Press, 1987), Fundamentals of Investments
(with Gordon J. Alexander and Jeffery Bailey, Prentice-Hall,
1993) and Investments (with Gordon J. Alexander and Jeffrey
Bailey, Prentice-Hall, 1990). Dr. Sharpe is a past President of
the American Finance Association. He also served as consultant
to a number of corporations and investment organizations. He is
Trustee of the Barr Rosenberg mutual funds, a director of
Stanford Management Company and the Chairman of the Board of
Financial Engines, a company providing electronic portfolio
advice. He received the Nobel Prize in Economic Sciences in
1990.
24<PAGE>
Daniel C. Dektar Vice President, Smith Breeden Series
Fund
Portfolio Manager, Short and
Intermediate Funds
Daniel C. Dektar is a Principal, Executive Vice President,
Director of Portfolio Management, and Director of Smith Breeden
Associates. Mr. Dektar has been primarily responsible for the
day-to-day management of the Short and Intermediate Funds since
their commencement of operations in 1992. As head of Smith
Breeden Associates' portfolio management group, Mr. Dektar is
constantly in touch with developments on Wall Street. He serves
as a liaison among the portfolio management, client service, and
research groups to ensure accurate analysis and timely execution
of portfolio management opportunities. Mr. Dektar consults with
institutional clients in the areas of investments and risk
management. He made several presentations on mortgage
investments and risk management at seminars for institutional
investors. Mr. Dektar was an Associate in the Mergers and
Acquisitions Group of Montgomery Securities in San Francisco,
California and a Financial Analyst in the Investment Banking
Division of Morgan Stanley & Co., Incorporated, New York before
joining Smith Breeden Associates. He holds a Master of Business
Administration with Concentration in Finance from Stanford
University Graduate School of Business, where he was an Arjay
Miller Scholar. Mr. Dektar received a Bachelor of Science in
Business Administration, summa cum laude, from the University of
California at Berkeley, where he was University of California
Regent's Scholar, was elected to Phi Beta Kappa and Phi Eta
Sigma, and won the White Award as the top student in finance.
John B. Sprow Vice President, Smith Breeden Trust
Portfolio Manager, Equity Market Plus Fund
John B. Sprow is a Principal, Director and Executive Vice
President of Smith Breeden Associates. Mr. Sprow has been
primarily responsible for the day-to-day management of the Equity
Market Plus Fund from the commencement of its operations in 1992.
Mr. Sprow is a senior portfolio manager who works primarily with
discretionary pension accounts. In addition to traditional
mortgage accounts, he also manages S&P 500 indexed accounts.
Prior to directly managing discretionary accounts, Mr. Sprow
assisted in the development of the Adviser's models for pricing
and hedging mortgage-related securities, risky commercial debt,
and forecasting mortgage prepayment behavior. Mr. Sprow came to
Smith Breeden Associates from the Fuqua School of Business, Duke
University, where he was Research Assistant. Previously, Mr.
Sprow was a Research Assistant to the Department Head of the
Materials Science Department, Cornell University. He received a
Master of Business Administration with Emphasis in Finance from
the Fuqua School of Business, Duke University. Mr. Sprow holds a
Bachelor of Science in Materials Science and Engineering from
Cornell University, where he was awarded the Carpenter Technology
Scholarship three successive years.
25<PAGE>
Robert B. Perry Vice President, Smith Breeden Trust
Portfolio Manager, Financial Services Fund
Mr. Perry is an Associate at Smith Breeden Associates. In
conjunction with Douglas T. Breeden and Michael J. Giarla, Mr.
Perry is responsible for the day-to-day operations of the
Financial Services Fund. Mr. Perry also provides hedging and
investment advice to Smith Breeden's financial services clients.
Prior to joining Smith Breeden, Mr. Perry served as an interest
rate risk analyst for Centura Bank, and secretary to the ALCO
committee. Mr. Perry earned his Bachelor of Arts in Business
Administration from North Carolina State University.
Marianthe S. Mewkill Vice President, Secretary, Treasurer,
and Chief Accounting Officer
Marianthe S. Mewkill is a Principal, Vice President and Chief
Financial Officer of Smith Breeden Associates. Ms. Mewkill
handles financial reporting, budgeting, tax research and planning
for the Smith Breeden Mutual Funds and for Smith Breeden
Associates, Inc.. She ensures compliance with agency regulations
and administers the Adviser's internal trading and other
policies. She was previously employed as a Controller for the
Hunt Alternatives Fund, as an Associate at Goldman Sachs & Co.,
and as a Senior Auditor at Arthur Andersen & Co. She earned a
Master of Business Administration with Concentrations in Finance
and Accounting from New York University and graduated from
Wellesley College, magna cum laude with a Bachelor of Arts degree
in History and French and a Minor in Economics.
Investment Adviser
Smith Breeden Associates, Inc., a registered investment
adviser, acts as investment adviser to the Funds. Approximately
66% of the Adviser's voting stock is owned by Douglas T. Breeden,
its Chairman. Under its Investment Advisory Agreement with each
Fund, the Adviser, subject to the general supervision of the
Board of Trustees, manages the Funds' portfolios and provides for
the administration of all of the Funds' other affairs. For these
services, the Adviser receives a fee, computed daily and payable
monthly, at the annual rate of 0.70% of the Short, Intermediate
and Equity Market Plus Funds' average daily net assets. The
Adviser receives a fee at the rate of 1.50% for its management of
the Financial Services Fund. Until the renewal date of its
contracts with the Funds, August 1, 1998, the Adviser has
voluntarily agreed to reduce its compensation, and to the extent
necessary absorb other expenses of the Funds, such that the total
expenses (exclusive of ordinary brokerage commissions, investment
transaction taxes and extraordinary expenses) do not exceed 0.88%
of the average net assets for each of the Equity Market Plus Fund
and the Intermediate Fund, 0.78% of the average net assets of the
Short Fund and 1.50% of the Financial Services Fund.
The Adviser places all orders for purchases and sales of the
Funds' securities. Subject to seeking the most favorable price
and execution available, the Adviser may consider sales of shares
of the Funds as a factor in the selection of broker-dealers.
26<PAGE>
Distribution
FPS Broker Services, Inc. (the "Principal Underwriter") acts
as distributor for the Funds for which the Adviser pays the
Principal Underwriter an annual fee of $30,000. Shares may also
be sold by authorized dealers who have entered into dealer
agreements with the Principal Underwriter or the Adviser.
Expenses
The Funds pay all of their own expenses, including, without
limitation, the cost of preparing and printing their registration
statements required under the Securities Act of 1933 and the 1940
Act and any amendments thereto, the expense of registering their
shares with the Securities and Exchange Commission and the
various states, the printing and distribution costs of
prospectuses mailed to existing investors, reports to investors,
reports to government authorities and proxy statements, fees paid
to directors who are not interested persons of the Adviser,
interest charges, taxes, legal expenses, association membership
dues, auditing services, insurance premiums, brokerage
commissions and expenses in connection with portfolio
transactions, fees and expenses of the custodian of their assets,
printing and mailing expenses and charges and expenses of
dividend disbursing agents, accounting services agents,
registrars and stock transfer agents.
PRICING OF FUND SHARES
The price you pay when buying a Fund's shares, and the price you
receive when selling (redeeming) a Fund's shares, is the net
asset value of the shares next determined after receipt of a
purchase or redemption request in proper form. No front end sales
charge or commission of any kind is added by the Fund upon a
purchase, and no charge is deducted upon redemption. These
charges may apply if you purchase or sell shares through certain
broker-dealers. The Funds currently charge a $9 fee for each
redemption made by wire. See "How to Redeem Shares."
The per share net asset value of a Fund is determined by dividing
the total value of its assets, less its liabilities, by the total
number of its shares outstanding at that time. The net asset
value is determined as of the close of regular trading (currently
4:00 p.m. Eastern time) each day that the Adviser and Transfer
Agent are open for business and on which there is a sufficient
degree of trading in a Fund's securities such that the net asset
value of a Fund's shares might be affected. Accordingly,
Purchase Applications accepted or redemption requests received in
proper form by the Transfer Agent, or other agent designated by
the Funds, prior to 4:00 p.m. Eastern time each day that the
Adviser and Transfer Agent are open for business, will be
confirmed at that day's net asset value. Purchase Applications
accepted or redemption requests received in proper form after 4
p.m. Eastern Time by the Transfer Agent, or other agent
designated by the Funds, will be confirmed at the net asset value
of the following business day.
27<PAGE>
Current holiday schedules indicate that the Funds' net asset
values will not be calculated on New Year's Day, Martin Luther
King Day, President's Day, Good Friday, Memorial Day,
Independence Day, Labor Day, Thanksgiving Day, the day following
Thanksgiving, Christmas Eve and Christmas Day. The Short and
Intermediate Funds will not be priced on Columbus Day and
Veterans' Day.
Under procedures approved by the Board of Trustees, a Fund's
securities for which market quotations are readily available are
valued at current market value provided by a pricing service,
bank or broker-dealer experienced in such matters. Short-term
investments that will mature in 60 days or less are generally
valued at amortized cost, which approximates market value. All
other securities and assets are valued at fair market value as
determined by following procedures approved by the Board of
Trustees.
HOW TO PURCHASE SHARES
All of the Funds are no-load, so you may purchase, redeem or
exchange shares directly at net asset value without paying a
sales charge. Because the Funds' net asset value changes daily,
your purchase price will be the next net asset value determined
after the Funds' Transfer Agent, or other agent designated by the
Funds, receives and accepts your purchase order. See "Pricing of
Fund Shares."
Initial Additional
Minimum Minimum
Type of Account Investment Investment
Regular $750 $50
Automatic Investment Plan $50 $50
Individual Retirement Account $250 $50
Gift to Minors $250 $50
Each Fund reserves the right to reject any orders for the
purchase of its shares or to limit or suspend, without prior
notice, the offering of its shares. The required minimum
investments may be waived in the case of qualified retirement
plans.
How to Open Your Account by Mail. Please complete the Purchase
Application. You can obtain additional copies of the Purchase
Application and a copy of the IRA Purchase Application from the
Funds by calling 1-800-221-3138. (Please note that you must use a
different application than the one provided in the prospectus for
an IRA.)
Your completed Purchase Application should be mailed directly to:
Smith Breeden Mutual Funds
3200 Horizon Drive
P.O. Box 61503
King of Prussia, PA 19406-0903
28<PAGE>
All applications must be accompanied by payment in the form of a
check or money order made payable to "Smith Breeden Mutual
Funds." All purchases must be made in U.S. dollars, and checks
must be drawn on U.S. banks. No cash, credit cards or third party
checks will be accepted. When a purchase is made by check and a
redemption is made shortly thereafter, the Funds will delay the
mailing of a redemption check until the purchase check has
cleared your bank, which may take up to 10 calendar days from the
purchase date. If you contemplate needing access to your
investment shortly after purchase, you should purchase the shares
by wire as discussed below.
How to Open Your Account by Wire. You may make purchases by
direct wire transfers. To ensure proper credit to your account,
please call the Funds at 1-800-221-3137 for instructions prior to
wiring funds. Funds should be wired through the Federal Reserve
System as follows:
United Missouri Bank
A.B.A. Number 10-10-00695
For the account of FPS Services, Inc.
Account Number 98-7037-071-9
For credit to (identify which Fund to purchase)
For further credit to: (investor account number)
(name or account registration)
(Social Security or Tax Identification Number)
Following such wire transfer, you must promptly complete a
Purchase Application and mail it to the Funds at the following
address: Smith Breeden Mutual Funds, 3200 Horizon Drive, P.O. Box
61503, King of Prussia, PA 19406-0903. Shares will not be
redeemed until the Funds receive a properly completed and
executed Purchase Application.
Telephone Transactions. The privilege to initiate redemption or
exchange transactions by telephone is made automatically
available to shareholders when opening an account, unless they
indicate otherwise by checking the appropriate boxes on the
Purchase Application. Each Fund will employ reasonable
procedures to ensure that instructions communicated by telephone
are genuine. If reasonable procedures are not implemented, the
Funds may be liable for any loss due to unauthorized or
fraudulent transactions. In all other cases, you are liable for
any loss due to unauthorized transactions. The Funds reserve the
right to refuse a telephone transaction if they believe it is
advisable to do so.
If you have any questions, please call the Funds at
1-800-221-3138.
How to Add to Your Account. You may make additional investments
by mail or by wire in an amount equal to or greater than $50.
When adding to an account by mail, you should send the Funds your
check, together with the additional investment form from a recent
statement. If this form is unavailable, you should send a signed
note giving the full name of the account and the account number.
For additional investments made by wire transfer, you should use
the wiring instructions listed above. Be sure to include your
account number.
29<PAGE>
Automatic Investment Plan. You may make purchases of shares of
each Fund automatically on a regular basis ($50 minimum per
transaction). You must meet the Automatic Investment Plan's ("the
Plan") minimum initial investment of $50 before the Plan may be
established. You have two options under the Plan to make
investments. One is by automatic payroll deduction. Under this
method, you authorize your employer to direct a portion of each
paycheck to be invested in the Fund of your choice. Your
employer must be using direct deposit to process its payroll in
order for you to elect this method. Under the other method, your
bank debits a preauthorized amount from your checking or savings
account each month and applies the amount to your investment in
Fund shares. In order to have your bank account debited
automatically for investment into the Funds, your financial
institution must be a member of the Automated Clearing House. No
service fee is currently charged by the Funds for participation
in either method under the Plan. A $20 fee will be imposed by the
Funds if sufficient funds are not available in your bank account,
or if your bank account has been closed at the time of the
automatic transaction. You may adopt either method under the Plan
at the time an account is opened by completing the appropriate
section of the Purchase Application. Enclosed with the
application are the necessary forms to deliver to your employer
to set up the payroll deduction. You may obtain an application to
establish the Automatic Investment Plan after an account is
opened by calling the Funds at 1-800-221-3138. In the event you
discontinue participation in the Plan, the Funds reserve the
right to redeem your Fund account involuntarily, upon sixty days'
written notice, if the account's net asset value is $500 or less.
Purchasing Shares Through Other Institutions. If you purchase
shares through a program of services offered or administered by a
broker-dealer, financial institution, or other service provider,
you should read the program materials, including information
relating to fees, in addition to this Prospectus. Certain
services of a Fund may not be available or may be modified in
connection with the program of services provided, and service
providers may establish higher minimum investment amounts. The
Funds may only accept requests to purchase additional shares into
a broker-dealer street name account from the broker-dealer.
Certain broker-dealers, financial institutions, or other service
providers that have entered into an agreement with the Adviser or
Principal Underwriter may enter purchase orders on behalf of
their customers by phone, with payment to follow within several
days as specified in the agreement. The Funds may effect such
purchase orders at the net asset value next determined after
receipt of the telephone purchase order. It is the responsibility
of the broker-dealer, financial institution, or other service
provider to place the order with the Funds on a timely basis. If
payment is not received within the time specified in the
agreement, the broker-dealer, financial institution, or other
service provider could be held liable for any resulting fees or
losses.
30<PAGE>
Miscellaneous. The Funds will charge a $20 service fee against
your account for any check or electronic funds transfer that is
returned unpaid. You will also be responsible for any losses
suffered by the Funds as a result. In order to relieve you of
responsibility for the safekeeping and delivery of stock
certificates, the Funds do not currently issue certificates.
HOW TO EXCHANGE SHARES
Shares of any Fund may be exchanged for shares of another Fund at
any time. This exchange offer is available only in states where
shares of such other Fund may be legally sold. You may open a new
account, or purchase additional shares in an existing account, by
making an exchange from an identically registered Smith Breeden
Fund account. A new account will have the same registration as
the existing account from which the exchange was made, and is
subject to the same initial investment minimums.
Exchanges may be made either in writing or by telephone. Written
instructions should be mailed to 3200 Horizon Drive, King of
Prussia, PA 19406 and must be signed by all account owners, and
accompanied by any properly endorsed outstanding share
certificates, if applicable. The telephone exchange is
automatically accepted unless checked otherwise. The telephone
exchange privilege is available only for uncertificated shares.
During periods of drastic economic or market changes, it is
possible that exchanges by telephone may be difficult to
implement. In this event, shareholders should follow the written
exchange procedures. The telephone exchange privilege may be
modified or discontinued by the Funds at any time upon a 60 day
notice to the shareholders. To exchange by telephone, you must
follow the instructions below under "How to Redeem by Telephone."
The Funds will accept exchange orders by telephone or other means
of electronic transmission from broker-dealers, financial
institutions or other service providers who execute an agreement
with the Adviser or Principal Underwriter. It is the
responsibility of the broker-dealer, financial institution or
other service provider to place the exchange order on a timely
basis.
Exchanges are made on the basis of the Funds' relative net asset
values. Because the exchange is considered a redemption and
purchase of shares, the shareholder may recognize a gain or loss
for federal income tax purposes. Backup withholding and
information reporting may also apply. Additional information
regarding the possible tax consequences of such an exchange is
included under the caption "Additional Information on
Distributions and Taxation" in the Funds' Statements of
Additional Information.
There are differences among the Funds. When exchanging
shares, shareholders should be aware that the Funds might have
different dividend payment dates. The dividend payment schedules
should be checked before exchanging shares. The amount of any
accumulated, but unpaid, dividend is included in the net asset
value per share.
31<PAGE>
If you buy shares by check, you may not exchange those shares for
up to 10 calendar days to ensure your check has cleared. If you
intend to exchange shares soon after their purchase, you should
purchase the shares by wire or contact the Funds at
1-800-221-3137 for further information.
The Funds reserve the right to temporarily or permanently
terminate, with or without advance notice, the exchange privilege
of any investor who makes excessive use of the exchange privilege
(e.g., more than five exchanges per calendar year).
Additional documentation may be required for exchange requests if
shares are registered in the name of a corporation, partnership
or fiduciary. Please contact the Funds for additional information
concerning the exchange privilege.
HOW TO REDEEM SHARES
You may redeem shares of the Funds at any time. The price at
which the shares will be redeemed is the net asset value per
share next determined after proper redemption instructions are
received by the Transfer Agent or other agent designated by the
Funds. See "Pricing of Fund Shares." There are no charges for the
redemption of shares, except that a fee of $9 is charged for each
wire redemption. Depending upon the redemption price you receive,
you may realize a capital gain or loss for federal income tax
purposes.
How to Redeem by Mail to Receive Proceeds by Check. To redeem
shares by mail, simply send an unconditional written request to
the Funds specifying the number of shares or dollar amount to be
redeemed, the name of the Fund, the name(s) on the account
registration and the account number. A request for redemption
must be signed exactly as the shares are registered. If the
amount requested is greater than $25,000, or the proceeds are to
be sent to a person other than the recordholder or to a location
other than the address of record, each signature must be
guaranteed by a commercial bank or trust company in the United
States, a member firm of the National Association of Securities
Dealers, Inc. or other eligible guarantor institution. A notary
public is not an acceptable guarantor. Guarantees must be signed
by an authorized signatory of the bank, trust company, or member
firm, and "Signature Guaranteed" must appear with the signature.
Additional documentation may be required for the redemption of
shares held in corporate, partnership or fiduciary accounts. In
case of any questions, please contact the Funds in advance.
A Fund will mail payment for redemption within seven days after
receiving proper instructions for redemption. However, the Funds
will delay payment for 10 calendar days on redemptions of recent
purchases made by check. This allows the Funds to verify that the
check used to purchase Fund shares will not be returned due to
insufficient funds and is intended to protect the remaining
investors from loss.
32<PAGE>
How to Redeem by Telephone. The redemption of shares by telephone
is available automatically unless you elected to refuse this
redemption privilege on your Purchase Application. Shares may be
redeemed by calling the Funds at 1-800-221-3137. Proceeds
redeemed by telephone will be mailed to your address, or wired or
credited to your preauthorized bank account. To establish wire
redemption privileges, you must select the appropriate box on the
Purchase Application and enclose a voided check.
In order to arrange for telephone redemptions after your account
has been opened, or to change the bank account or address
designated to receive redemption proceeds, you must send a
written request to your Fund. The request must be signed by each
registered holder of the account with the signatures guaranteed
by a commercial bank or trust company in the United States, a
member firm of the National Association of Securities Dealers,
Inc. or other eligible guarantor institution. A notary public is
not an acceptable guarantor. Further documentation as provided
above may be requested from corporations, executors,
administrators, trustees and guardians.
Payment of the redemption proceeds for Fund shares redeemed by
telephone where you request wire payment will normally be made in
federal funds on the next business day. The Funds reserve the
right to delay payment for a period of up to seven days after
receipt of the redemption request. There is currently a $9 fee
for each wire redemption, which will be deducted from your
account.
The Funds reserve the right to refuse a telephone redemption or
exchange transaction if they believe it is advisable to do so.
Procedures for redeeming or exchanging shares of the Funds by
telephone may be modified or terminated by the Funds at any time.
In an effort to prevent unauthorized or fraudulent redemption or
exchange requests by telephone, the Funds have implemented
procedures designed to reasonably assure that telephone
instructions are genuine. These procedures include: requesting
verification of certain personal information; recording telephone
transactions; confirming transactions in writing; and restricting
transmittal of redemption proceeds only to preauthorized
designations. Other procedures may be implemented from time to
time. If reasonable procedures are not implemented, the Funds may
be liable for any loss due to unauthorized or fraudulent
transactions. In all other cases, you are liable for any loss for
unauthorized transactions.
You should be aware that during periods of substantial economic
or market change, telephone or wire redemptions may be difficult
to implement. If you are unable to contact the Funds by
telephone, you may also redeem shares by delivering or mailing
the redemption request to: Smith Breeden Mutual Funds, 3200
Horizon Drive, P.O. Box 61503, King of Prussia, PA 19406-0903.
33<PAGE>
The Funds reserve the right to suspend or postpone redemptions
during any period when trading on the New York Stock Exchange
("Exchange") is restricted as determined by the Securities and
Exchange Commission ("SEC"), or the Exchange is closed for other
than customary weekend and holiday closing; the SEC has by order
permitted such suspension; or an emergency, as determined by the
SEC, exists, making disposal of portfolio securities or valuation
of net assets of a Fund not reasonably practicable.
Due to the relatively high cost of maintaining small accounts, if
your account balance falls below $500 as a result of a redemption
or exchange, or if you discontinue the Automatic Investment Plan
before your account balance reaches $500, you may be given a
60-day notice to bring your balance to $500 or reactivate an
Automatic Investment Plan. If this requirement is not met, your
account may be closed and the proceeds sent to you.
Check Writing. In addition to telephone and written redemption
requests, the Short Fund offers redemption through check writing.
Shareholders electing this option will receive checks that may be
used like personal or business checks. There is no limit on the
number of checks you may write. Checks must be written for at
least $100. There is a $30 fee for returned checks. Because
dividends declared on shares held in a shareholder's account,
prior redemptions, and possible changes in net asset value may
cause the value of the account to change, shareholders should not
write a check for the entire value of the account or close the
account by writing a check.
In using the check writing privilege, shareholders bear the
responsibility of ensuring that the check amount does not exceed
the value of their account on the day the check is presented to
the Transfer Agent for payment. The day the check is presented
for payment is the day the redemption of Fund shares takes place.
If insufficient shares are in the account, the check will be
returned and no shares will be redeemed. The clearing agent for
the check writing facility is United Missouri Bank. Shareholders
utilizing check writing are subject to United Missouri Bank's
rules governing checking accounts. However, this check writing
facility is purely a means to redeem Fund shares. No facilities
characteristic of bank accounts, such as deposit insurance, are
provided along with the check writing option.
If you would like to initiate check writing, please call
Shareholder Services at 1-800-221-3137 or check the appropriate
box on the Purchase Application.
Systematic Withdrawal Plan. A shareholder may establish a
Systematic Withdrawal Plan to receive regular periodic payments
from the account. An initial balance of $10,000 is required to
establish a Systematic Withdrawal Plan. There are no service
charges for establishing or maintaining a Systematic Withdrawal
Plan. The minimum amount which the shareholder may withdraw
periodically is $100. Capital gain distributions and income
dividends to the shareholder's account are received in additional
shares at net asset value. Payments are then made from the
liquidation of shares at net asset value to meet the specified
34<PAGE>
withdrawals. Liquidation of shares may reduce or possibly
exhaust the shares in the shareholder's account, to the extent
withdrawals exceed shares earned through dividends and
distributions, particularly in the event of a market decline. No
payment pursuant to a Systematic Withdrawal Plan will be made if
there are insufficient shares on deposit on the date of the
scheduled distribution. A subsequent deposit of shares will not
result in a payment under the plan retroactive to the
distribution date. As with other redemptions, a liquidation to
make a withdrawal payment is a sale for federal income tax
purposes. The entire Systematic Withdrawal Plan payment cannot
be considered as actual yield or income since part of the Plan's
payment may be a return of capital.
A Systematic Withdrawal Plan may be terminated upon written
notice by the shareholder, or by a Fund on a 30 day written
notice, and it will terminate automatically if all shares are
liquidated or withdrawn from the account or upon the Fund's
receipt of notification of the death or incapacity of the
shareholder. Shareholders may change the amount (but not below
the specified minimums) and schedule of withdrawal payments, or
suspend such payments, by giving written notice to the Transfer
Agent at least five business days prior to the next scheduled
payment. Share certificates may not be issued while a Systematic
Withdrawal Plan is in effect.
DIVIDENDS AND DISTRIBUTIONS
The Short and Intermediate Funds intend to make monthly
distributions to their shareholders of net investment income.
The Equity Market Plus Fund intends to make quarterly
distributions of net investment income. All Funds will
distribute net realized gains at least annually. The Financial
Services Fund will most likely make only this annual distribution
of net realized gains, and at this time, will also distribute any
net investment income. Each Fund may make additional
distributions if necessary to avoid imposition of a 4% excise tax
or other tax on undistributed income and gains.
The monthly distributions for the Short Fund's shares are quoted
ex-dividend on the business day after record date (the "ex-
date"). Record date is usually the first or second business day
of the month. If a shareholder elects to reinvest dividends, the
date the dividends are reinvested is also the ex-date. Dividends
are paid in cash by the Short Fund generally one week after the
ex-date.
The Intermediate Fund will declare daily dividends for
shareholders of record. The Intermediate Fund's dividend payable
date, and the day that dividends are reinvested for shareholders
who have made this election, is the last business day of the
month. Shares begin accruing dividends on the business day after
federal funds (funds credited to a member bank's account at the
Federal Reserve Bank) are available from the purchase payment for
such shares, and continue to accrue dividends through and
including the day the redemption order for the shares is
executed. If an investor closes his account, any accrued
dividends through and including the day of redemption will be
paid as part of the redemption proceeds.
35<PAGE>
Dividends and capital gains distributions may be declared more or
less frequently at the direction of the Trustees. In order to be
entitled to a dividend or a distribution, an investor must
acquire a Fund's shares on or before the record date. Caution
should be exercised, however, before purchasing shares
immediately prior to a distribution record date. Since the value
of a Fund's shares is based directly on the amount of its net
assets, rather than on the principle of supply and demand, any
distribution of income or capital gain will result in a decrease
in the value of its shares equal to the amount of the
distribution. While a dividend or capital gain distribution
received shortly after purchasing shares represents, in effect, a
return of the shareholder's investment, it may be taxable as
dividend income or capital gain. You may separately elect to
reinvest income dividends and capital gains distributions in
shares of a Fund or receive cash as designated on the Purchase
Application. You may change your election at any time by sending
written notification to your Fund. The election is effective for
distributions with a dividend record date on or after the date
that the Funds receive notice of the election. If you do not
specify an election, all income dividends and capital gains
distributions will automatically be reinvested in full and
fractional shares of the Fund from which they were paid.
Shareholders may also elect to have dividends automatically
reinvested in a fund different than the one from which the
dividends were paid. A shareholder may write the transfer agent,
or complete the appropriate section of the Purchase Application,
to designate such an election, but must have already established
an account in the other fund. The transfer agent's address is on
the back of the Prospectus. Reinvested dividends and
distributions receive the same tax treatment as those paid in
cash.
SHAREHOLDER REPORTS AND INFORMATION
The Funds will provide the following statements and reports:
Confirmation and Account Statements. After each transaction that
affects the account balance or account registration, including
the payment of dividends, you will receive a confirmation
statement.
Form 1099. By January 31 of each year, all shareholders will
receive Form 1099, which will report the amount and tax status of
distributions paid to you by the Funds for the preceding calendar
year.
Financial Reports. Financial reports are provided to shareholders
semiannually. Annual reports will include audited financial
statements. To reduce the Funds' expenses, one copy of each
report will be mailed to each Taxpayer Identification Number even
though the investor may have more than one account in a Fund.
Reports to Depository Institutions. Shareholders of the Short or
Intermediate Funds who are financial institutions may request
receipt of monthly or quarterly reports which provide information
about the Short or Intermediate Fund's investments considering
regulatory risk-based asset categories.
36<PAGE>
If you need additional copies of previous statements, you may
order statements for the current and preceding year at no charge.
Call 1-800-221-3137 to order past statements. If you need
information on your account with the Funds or if you wish to
submit any applications, redemption requests, inquiries or
notifications, please contact: Smith Breeden Mutual Funds, 3200
Horizon Drive, P.O. Box 61503, King of Prussia, PA 19406-0903 or
call 1-800-221-3137.
RETIREMENT PLANS
The Funds have a program under which you may establish an
Individual Retirement Account ("IRA") with the Funds and purchase
shares through such account. Shareholders wishing to establish an
IRA should consult their tax adviser regarding (1) their
individual qualifying status and (2) the tax regulations
governing these accounts. The minimum initial investment in each
Fund for an IRA is $250. There is a $12 annual maintenance fee
charged to process an account. This fee is waived for accounts
greater than $10,000. You may obtain additional information
regarding establishing such an account by calling the Funds at
1-800-221-3138.
The Funds may be used as investment vehicles for established
defined contribution plans, including simplified employee,
401(k), 403(b), profit-sharing, money purchase, and simple
pension plans ("Retirement Plans"). For details concerning
Retirement Plans, please call 1-800-221-3138.
SERVICE AND DISTRIBUTION PLANS
Each Fund has adopted a Distribution and Services Plan (the
"Plans") pursuant to Rule 12b-1 under the 1940 Act. The purpose
of the Plans is to permit the Adviser to compensate investment
dealers and other persons involved in servicing shareholder
accounts for services provided and expenses incurred in promoting
the sale of shares of the Funds, reducing redemptions, or
otherwise maintaining or improving services provided to
shareholders by such dealers or other persons. The Plans provide
for payments by the Adviser out of its advisory fee to dealers
and other persons at an annual rate of up to 0.25% of a Fund's
average net assets, subject to the authority of the Trustees to
reduce the amount of payments permitted under the Plan or to
suspend the Plan for such periods as they may determine. Subject
to these limitations, the Adviser shall determine the amount of
such payments and the purposes for which they are made.
Any distribution and service related payments made by the Adviser
to investment dealers or other persons are subject to the
continuation of the Plans, the terms of any related service
agreements, and any applicable limits imposed by the National
Association of Securities Dealers, Inc.
37<PAGE>
TAXES
Each Fund intends to qualify as a regulated investment company
under the Internal Revenue Code. In each taxable year that a
Fund so qualifies, such Fund (but not its shareholders) will be
relieved of federal income tax on the part of its net investment
income and net capital gain that is distributed to shareholders.
Each Fund will distribute annually, substantially all of its net
investment income and net capital gains on a current basis.
All Fund distributions from net investment income (whether paid
in cash or reinvested in additional shares) will be taxable to
its shareholders as ordinary income, except that any
distributions of a Fund's net long-term capital gain will be
taxable to its shareholders as long-term capital gain, regardless
of how long they have held their Fund shares. Each Fund provides
federal tax information to its shareholders annually about
distributions paid during the preceding year.
It is not anticipated that any of the Funds' distributions will
qualify for either the corporate dividends-received deduction or
tax-exempt interest income. Distributions will also probably be
subject to state and local taxes, depending on each shareholder's
tax situation. While many states grant tax-free status to mutual
fund distributions paid from interest income earned from direct
obligations of the U.S. Government, none of the Short or
Intermediate Fund's distributions are expected to qualify for
such tax-free treatment, and only an insignificant amount of the
Equity Market Plus Fund's distributions are expected to so
qualify.
The Funds will be required to withhold federal income tax at a
rate of 31% ("backup withholding") from distribution payments and
redemption and exchange proceeds if you fail to properly complete
the Purchase Application.
The foregoing is only a summary of some of the important federal
tax considerations generally affecting each Fund and its
shareholders. See "Taxes" in the relevant Statement of Additional
Information for further discussion. There may be other federal,
state or local tax considerations applicable to you as an
investor. You therefore are urged to consult your tax adviser
regarding any tax-related issues.
CAPITAL STRUCTURE
The Smith Breeden Trust and the Smith Breeden Series Fund are
both Massachusetts business trusts. The Trust was organized
under an Agreement and Declaration of Trust, dated December 18,
1991. The Series Fund was organized under an Agreement and
Declaration of Trust dated October 3, 1991. Copies of both
Agreements, which are governed by Massachusetts law, are on file
with the Secretary of State of the Commonwealth of Massachusetts.
The Trust and the Series Fund have the same Trustees.
38<PAGE>
The Trustees have the authority to issue shares in an unlimited
number of funds of either the Series Fund or Trust. Each such
fund's shares may be further divided into classes. The assets and
liabilities of each such fund will be separate and distinct. All
shares when issued are fully paid, non-assessable and redeemable,
and have equal voting, dividend and liquidation rights.
Shareholders of the separate funds of the Series Fund or Trust
will vote together in electing trustees and in certain other
matters. Shareholders in each fund of the Series Fund should be
aware that the outcome of the election of trustees and of certain
other matters could be controlled by the shareholders of another
fund. The shares have noncumulative voting rights, which means
that holders of more than 50% of the shares voting for the
election of the trustees can elect 100% of the trustees if they
choose to do so.
Although neither the Series Fund nor the Trust is required to
hold annual meetings of its shareholders, shareholders have the
right to call a meeting to elect or remove trustees, or to take
other actions as provided in the respective Declaration of Trust.
Upon written request by the holders of at least 1% of the
outstanding shares stating that such shareholders wish to
communicate with the other shareholders for the purpose of
obtaining the signatures necessary to demand a meeting to
consider the removal of a trustee, both the Series Fund and Trust
have undertaken to provide a list of shareholders or to
disseminate appropriate materials (at the expense of the
requesting shareholders).
Under Massachusetts law, shareholders of a business trust may,
under certain circumstances, be held personally liable as
partners for its obligations. However, the risk of a shareholder
incurring financial loss on account of shareholder liability is
limited to circumstances in which both (i) any liability was
greater than a Fund's insurance coverage and (ii) a Fund itself
was unable to meet its obligations.
TRANSFER AND DIVIDEND DISBURSING
AGENT, CUSTODIAN AND
INDEPENDENT ACCOUNTANTS
FPS Services, Inc. ("FPS Services" or the "Transfer Agent"), 3200
Horizon Drive, King of Prussia, PA 19406, acts as each Fund's
Transfer and Dividend Disbursing Agent. See "Management of the
Funds." The Bank of New York acts as the custodian of each
Fund's assets. The Bank of New York's address is 48 Wall Street,
New York, New York 10286. Neither the Transfer and Dividend
Disbursing Agent nor the Custodian has any part in deciding the
Funds' investment policies or which securities are to be
purchased or sold for the Funds' portfolios. Deloitte & Touche,
LLP, has been selected to serve as independent auditors of the
Company for the fiscal year ending March 31, 1998.
39<PAGE>
FUND PERFORMANCE
Each Fund may quote the Fund's average annual total and/or
aggregate total return for various time periods in advertisements
or communications to shareholders. An average annual total
return refers to the rate of return which, if applied to an
initial investment at the beginning of a stated period and
compounded over that period, would result in the redeemable value
of the investment at the end of the period assuming reinvestment
of all dividends and distributions and reflecting the effect of
all recurring fees. An investor's principal in each Fund and the
Fund's return are not guaranteed and will fluctuate according to
market conditions. When considering "average" total return
figures for periods longer than one year, you should note that a
Fund's annual total return for any one year in the period might
have been greater or less than the average for the entire period.
Each Fund also may use "aggregate" total return figures for
various periods, representing the cumulative change in value of
an investment in the Fund for a specific period (again reflecting
changes in the Fund's share price and assuming reinvestment of
dividends and distributions).
The Short and Intermediate Funds may also advertise current yield
and distribution rate information. Current yield reflects the
income per share earned by the Short or Intermediate Fund's
portfolio investments, and is calculated by dividing a Fund's net
investment income per share during a recent 30-day period by a
Fund's net asset value on the last day of that period and
annualizing the result. The current yield (or "SEC Yield"),
which is calculated according to a formula prescribed by the SEC
(see the relevant Statement of Additional Information), is not
indicative of the dividends or distributions which were or will
be paid to a Fund's shareholders. SEC regulations require that
net investment income be calculated on a "yield-to-maturity"
basis, which has the effect of amortizing any premiums or
discounts in the current market value of fixed income securities.
Dividends or distributions paid to shareholders are reflected in
the current distribution rate which may be quoted to
shareholders, and may not reflect amortization in the same
manner.
A Fund may also compare its performance to that of other mutual
funds and to stock and other relevant indices, or to rankings
prepared by independent services or industry publications. For
example, a Fund's total return may be compared to data prepared
by Lipper Analytical Services, Inc., Morningstar, Inc., Value
Line Mutual Fund Survey and CDA Investment Technologies, Inc.
Total return data as reported in such national financial
publications as The Wall Street Journal, The New York Times,
Investor's Business Daily, USA Today, Barron's, Money and Forbes,
as well as in publications of a local or regional nature, may be
used in comparing Fund performance.
40<PAGE>
The Equity Market Plus Fund's total return may also be
compared to the return of the Standard & Poor's 500 Composite
Stock Price Index. For purposes of showing the returns of large
company stocks versus small company stocks, or to compare returns
versus inflation, The Equity Market Plus Fund's total return may
also be compared to the total return of the Nasdaq Composite OTC
Index, Nasdaq Industrials Index, Russell 2000 Index, or the
Consumer Price Index. The Short Fund's total return may also be
compared to that of taxable money funds as quoted in Donaghue's
Money Fund Report and other suppliers, and to total returns for
the six month U.S. Treasury as published by Merrill Lynch or
others. The Intermediate Fund's return will most likely be
compared to the total return of the Salomon Brothers Mortgage
Index, or the total return of intermediate U.S. Treasury Notes as
published by various brokerage firms and others. The Financial
Services Fund's return may be compared to the S&P 500 Index
return, an investment of 80% in the S&P Financial Composite Index
and 20% in money market funds, the Keefe Bruette Wood Index, or
the average of the mutual funds in the Morningstar Specialty
Financial Category. Further information on performance
measurement may be found in the relevant Statement of Additional
Information.
Performance quotations of a Fund represent the Fund's past
performance and should not be considered representative of future
results. The investment return and principal value of an
investment in a Fund will fluctuate so that an investor's shares,
when redeemed, may be worth more or less than their original
cost. The methods used to compute a Fund's total return and yield
are described in more detail in the relevant Statement of
Additional Information.
41<PAGE>
Part B: Information Required in
Statement of Additional Information
N-1A
Item No. Item Location in the
Registration
Statement
10. Cover Page Cover Page
11. Table of Contents "Contents"
12. General Information
and History See Part A Item 4.
13. Investment Objective "Miscellaneous
and Policies Investment Practices
and Risk
Considerations";
"Investment
Restrictions of the
Funds"; "Hedging and
Other Strategies
Using Derivative
Contracts"
14. Management of the
Registrant "Management of the
Funds"
15. Control Persons and
Principal Holders of "Principal Holders
Securities of Securities and
Controlling Persons"
16. Investment Advisory "The Investment
and Other Services Advisory Agreement
and Other Services"
17. Brokerage Allocation "The Investment
Advisory Agreement
and Other Services"
18. Capital Stock and "Additional Information
Other Securities Regarding Purchases
and Redemptions of
Fund Shares"
19. Purchase, Redemption "Additional Information
and Pricing of Regarding Purchases
Securities Being and Redemptions of
Offered Fund Shares"
20. Tax Status "Taxes"
21. Underwriters "Additional Information
Regarding Purchases
and Redemptions of
Fund Shares"
22. Calculation of
Performance Data "Standard Performance
Measures"
23. Financial Statements "Report of Independent
Auditors and Financial
Statements"
<PAGE>
SMITH BREEDEN TRUST
SMITH BREEDEN EQUITY MARKET PLUS FUND
SMITH BREEDEN FINANCIAL SERVICES FUND
STATEMENT OF ADDITIONAL INFORMATION
DECEMBER 22, 1997
100 Europa Drive, Suite 200
Chapel Hill, North Carolina 27514-2310
(919) 967-7221
This Statement of Additional Information contains information
pertaining to Smith Breeden Equity Market Plus Fund and the Smith
Breeden Financial Services Fund, which may be useful to investors
and is not included in the Prospectus of the Smith Breeden Mutual
Funds. This Statement is not a Prospectus and is only authorized
for distribution when accompanied or preceded by the Prospectus
of the Smith Breeden Mutual Funds dated December 22, 1997, as may
be amended from time to time. The Statement should be read
together with the Prospectus.
Contents
Page
DEFINITIONS 2
INVESTMENT RESTRICTIONS OF THE FUND 2
MISCELLANEOUS INVESTMENT PRACTICES AND RISK CONSIDERATIONS 4
HEDGING AND OTHER STRATEGIES USING DERIVATIVE CONTRACTS 10
TAXES 17
FUND CHARGES AND EXPENSES 18
MANAGEMENT OF THE FUND 19
THE INVESTMENT ADVISORY AGREEMENT AND OTHER SERVICES 20
PRINCIPAL HOLDERS OF SECURITIES AND CONTROLLING PERSONS 23
DETERMINATION OF NET ASSET VALUE 24
ADDITIONAL INFORMATION REGARDING PURCHASES
AND REDEMPTIONS OF FUND SHARES 25
SHAREHOLDER INFORMATION 26
SUSPENSION OF REDEMPTIONS 26
SHAREHOLDER LIABILITY 27
STANDARD PERFORMANCE MEASURES 27
INDEPENDENT AUDITORS 29
EXPERTS 30
REPORT OF INDEPENDENT AUDITORS AND FINANCIAL STATEMENTS 30
1<PAGE>
SMITH BREEDEN TRUST
SMITH BREEDEN EQUITY MARKET PLUS FUND
SMITH BREEDEN FINANCIAL SERVICES FUND
Statement of Additional Information
DEFINITIONS
The "Trust" -- Smith Breeden Trust
The "Funds" -- Smith Breeden Equity Market Plus Fund and the
Smith Breeden Financial Services Fund
The "Adviser" -- Smith Breeden Associates, Inc., the
Fund's investment adviser.
The "Custodian" -- The Bank of New York, the Funds'
custodian.
"FPS Services" -- FPS Services, Inc., the Fund's investor
servicing agent.
INVESTMENT RESTRICTIONS OF THE FUND
Subject to the Funds' ability to invest all or substantially
all of its assets in another investment company with
substantially the same investment objective, as fundamental
investment restrictions, which may not be changed without a vote
of a majority of the outstanding voting securities, a Fund may
not and will not engage in the following activities. The
Investment Company Act of 1940 (the "Investment Company Act")
provides that a "vote of a majority of the outstanding voting
securities" of the Fund means the affirmative of the lesser of
(1) more than 50% of the outstanding shares of the Fund, or (2)
67% or more of the shares present at a meeting if more than 50%
of the outstanding shares are represented at the meeting in
person or by proxy.)
1. Issue senior securities, borrow money or pledge its assets,
except that the Fund may borrow from banks or through reverse
repurchase agreements or dollar rolls up to 33 1/3% of the value
of its respective total assets (calculated when the loan is made)
for temporary, extraordinary or emergency purposes and to take
advantage of investment opportunities and may pledge up to 33
1/3% of the value of its total assets to secure such borrowings.
For purposes of this restriction, the purchase or sale of
securities on a "when issued" or delayed delivery basis, the
purchase and sale of futures contracts, the entry into forward
contracts, reverse repurchase agreements and dollar roll
transactions, short sales, interest rate caps, floors and swaps,
mortgage swaps, and collateral arrangements with respect thereto
and such other practices as may be determined by counsel to the
Fund (consistent with pronouncements of the Securities and
Exchange Commission) are not deemed to be a pledge of assets and
none of such transactions or arrangements nor obligations of the
Fund to Trustees pursuant to deferred compensation arrangements
are deemed to be the issuance of a senior security.
2. Act as underwriter except to the extent that, in connection
with the disposition of portfolio securities, it may be
deemed to be an underwriter under certain federal securities
laws.
2<PAGE>
3. Acquire, sell, lease or hold real estate or real estate
limited partnerships, except that it may invest in
securities of companies which deal in real estate and in
securities collateralized by real estate or interests
therein and it may acquire, sell, lease or hold real estate
in connection with protecting its rights as a creditor.
4. Purchase or sell commodities or commodity contracts, except
that the Fund may purchase and sell financial futures
contracts and options thereon. (Does not include caps,
floors, collars or swaps.)
5. Invest in interests in oil, gas, mineral leases or other
mineral exploration or development program.
6. Invest in companies for the purpose of exercising control or
management.
7. Purchase securities of other investment companies, except to
the extent permitted by the Investment Company Act.
8. Make loans of money or property to any person, except
through loans of portfolio securities to qualified
institutions, the purchase of debt obligations in which the
Fund may invest consistently with its investment objectives
and policies and investment limitations or the investment in
repurchase agreements with qualified institutions. The Fund
will not lend portfolio securities if, as a result, the
aggregate of such loans exceeds 33 1/3% of the value of the
Fund's total assets (including such loans).
9. Purchase securities on margin (but the Fund may obtain such
short-term credits as may be necessary for the clearance of
transactions); provided that the deposit or payment by the
Fund of initial or variation margin in connection with
options or futures contracts is not considered the purchase
of a security on margin.
10. Make short sales of securities or maintain a short
position if, when added together, more than 25% of the value
of the Fund's net assets would be (i) deposited as
collateral for the obligation to replace securities borrowed
to effect short sales, and (ii) allocated to segregated
accounts in connection with short sales. Short sales
"against the box" are not subject to this limitation.
In addition to the items listed above, the Equity Market Plus
Fund will not, as a matter of fundamental policy:
1. Purchase any security (other than obligations of the U.S.
Government, its agencies and instrumentalities) if as a
result 25% or more of the Fund's total assets (determined at
the time of investment) would be invested in one or more
issuers having their principal business activities in the
same industry.
3<PAGE>
2. Purchase any security, other than mortgage-backed
securities, obligations of the U.S.
Government, its agencies or instrumentalities or
collateralized mortgage obligations, if as a result the Fund
would have invested more than 5% of its respective total
assets in securities of issuers (including predecessors)
having a record of less than three years of continuous
operation.
It is contrary to the Funds' present policy, which may be changed
without shareholder approval, to:
(a) sell over-the-counter options which it does not own; or
(b) sell options on futures contracts which options it does not
own.
All percentage limitations on investments will apply at the
time of the making of an investment and shall not be considered
violated unless an excess or deficiency exist immediately after
and as a result of such investment.
MISCELLANEOUS INVESTMENT PRACTICES AND RISK
CONSIDERATIONS
Unless so indicated, each Fund may engage in each of the
following investment practices or make the following investments.
However, the fact that a Fund may engage in a particular practice
does not necessarily mean that it will actually do so.
Repurchase Agreements. A repurchase agreement is a contract
under which the Fund acquires a security for a relatively short
period (usually not more than one week) subject to the obligation
of the seller to repurchase and the Fund to resell such security
at a fixed time and price (representing the Fund's cost plus
interest). It is the Funds' present intention to enter into
repurchase agreements only with commercial banks and registered
broker-dealers. Repurchase agreements may also be viewed as loans
made by a Fund which are collateralized by the securities subject
to repurchase. The Adviser will monitor such transactions to
determine that the value of the underlying securities is at least
equal at all times to the total amount of the repurchase
obligation, including the interest factor. If the seller
defaults, a Fund could realize a loss on the sale of the
underlying security to the extent that the proceeds of sale
including accrued interest are less than the resale price
provided in the agreement including interest. In addition, if
the seller should be involved in bankruptcy or insolvency
proceedings, a Fund may incur delay and costs in selling the
underlying security or may suffer a loss of principal and
interest if a Fund is treated as an unsecured creditor and
required to return the underlying collateral to the seller's
estate.
4<PAGE>
Forward Commitments. A forward commitment represents a
contract to purchase securities for a fixed price at a future
date beyond customary settlement time (referred to as "forward
commitments" or "when issued" or "delayed delivery" securities)
if, when entering into a forward commitment, a Fund will hold
until the settlement date, in a segregated account, liquid
securities in an amount sufficient to meet the purchase price, or
the Fund will enter into offsetting contracts for the forward
sale of other securities it owns. Forward commitments may be
considered securities in themselves, and involve a risk of loss
if the value of the security to be purchased declines prior to
the settlement date. Where such purchases are made through
dealers, a Fund relies on the dealer to consummate the sale. The
dealer's failure to do so may result in the loss to the Fund of
an advantageous return or price. Although a Fund will generally
enter into forward commitments with the intention of acquiring
securities for its portfolio or for delivery pursuant to options
contracts it has entered into, a Fund may dispose of a commitment
prior to settlement if the Adviser deems it appropriate to do so.
A Fund may realize short-term profits or losses upon the sale of
forward commitments.
Securities Loans. The Fund may make secured loans of
securities amounting to not more than 33 1/3% of the Fund's total
assets thereby realizing additional income. The risks in lending
portfolio securities, as with other extensions of credit, consist
of possible delay in recovery of the securities or possible loss
of rights in the collateral should the borrower fail financially.
As a matter of the Funds' policy, securities loans are made to
broker-dealers pursuant to an agreement requiring that loans be
continuously secured by collateral in cash or short-term debt
obligations at least equal at all times to the value of the
securities on loan. The borrower pays to the Fund an amount
equal to any dividends or interest received on securities lent.
The Fund retains all or a portion of the interest received on
investment of the cash collateral or receives a fee from the
borrower. Although voting rights, or rights to consent, with
respect to the loaned securities pass to the borrower, the Fund
retains the right to call the loans at any time on reasonable
notice, and it will do so in order that the securities may be
voted by the Fund if the holders of such securities are asked to
vote upon or consent to matters materially affecting the
investment. A Fund may also call such loans in order to sell the
securities involved.
Borrowing. The Funds may borrow from banks and enter into
reverse repurchase agreements or dollar rolls up to 33 1/3% of
the value of the Fund's total assets (computed at the time the
loan is made) to take advantage of investment opportunities and
for extraordinary or emergency purposes, or for the clearance of
transactions. The Funds may pledge up to 33 1/3% of its total
assets to secure these borrowings. If a Fund's asset coverage
for borrowings falls below 300%, the Fund will take prompt action
to reduce its borrowings even though it may be disadvantageous at
that time from an investment point of view. A Fund will incur
borrowing costs when it leverages, including payment of interest
and any fee necessary to maintain a line of credit, and may be
required to maintain a minimum average balance. If the income and
5<PAGE>
appreciation on assets acquired with borrowed funds exceed their
borrowing cost, the Fund's investment performance will increase,
whereas if the income and appreciation on assets acquired with
borrowed funds are less than their borrowing costs, investment
performance will decrease. In addition, if a Fund borrows to
invest in securities, any investment gains made on the securities
in excess of the costs of the borrowing, and any gain or loss on
hedging, will cause the net asset value of the shares to rise
faster than would otherwise be the case. On the other hand, if
the investment performance of the additional securities purchased
fails to cover their cost (including any interest paid on the
money borrowed) to a Fund, the net asset value of the Fund's
shares will decrease faster than would otherwise be the case.
This speculative characteristic is known as "leverage."
Reverse Repurchase Agreements and Dollar Roll Agreements. The
Funds may enter into reverse repurchase agreements and dollar
roll agreements with commercial banks and registered broker-
dealers to seek to enhance returns. Reverse repurchase
agreements involve sales by the Fund of portfolio assets
concurrently with an agreement by the Fund to repurchase the same
assets at a later date at a fixed price. During the reverse
repurchase agreement period, the Fund continues to receive
principal and interest payments on these securities and also has
the opportunity to earn a return on the collateral furnished by
the counterparty to secure its obligation to redeliver the
securities.
Dollar rolls are transactions in which the Fund sells securities
for delivery in the current month and simultaneously contracts to
repurchase substantially similar (same type and coupon)
securities on a specified future date. During the roll period,
the Fund forgoes principal and interest paid on the securities.
The Fund is compensated by the difference between the current
sales price and the forward price for the future purchase (often
referred to as the "drop") as well as by the interest earned on
the cash proceeds of the initial sale.
The Funds will establish a segregated account with its
custodian in which it will maintain cash, U.S. Government
securities or other liquid high-grade debt obligations equal in
value to its obligations in respect of reverse repurchase
agreements and dollar rolls. Reverse repurchase agreements and
dollar rolls involve the risk that the market value of the
securities retained by a Fund may decline below the price of the
securities the Fund has sold but is obligated to repurchase under
the agreement. In the event the buyer of securities under a
reverse repurchase agreement or dollar roll files for bankruptcy
or becomes insolvent, the Fund's use of the proceeds of the
agreement may be restricted pending a determination by the other
party or its trustee or receiver, whether to enforce the Fund's
obligation to repurchase the securities. Reverse repurchase
agreements and dollar rolls are considered borrowings by the Fund
and result in leverage.
6<PAGE>
Foreign Securities. The Financial Services Fund may hold
securities of foreign issuers that are not registered with
Securities and Exchange Commission ("SEC"), and foreign issuers
may not be subject to SEC reporting requirements. Accordingly,
there may be less publicly available information concerning
foreign issuers of securities held by Funds than is available
concerning U.S. companies. Foreign companies are not generally
subject to uniform accounting, auditing and financial reporting
standards or to other regulatory requirements comparable to those
applicable to U.S. companies. The securities of some foreign
companies are less liquid and at times more volatile than
securities of comparable U.S. companies.
The Financial Services Fund may invest in foreign securities
by purchasing American Depository Receipts ("ADRs"), European
Depository Receipts ("EDRs"), Global Depository Receipts ("GDRs")
or other securities convertible into securities of issuers based
in foreign countries and may also purchase the securities
directly in the foreign markets. ADRs are generally in
registered form and are denominated in U.S. dollars and are
designed for use in U.S. securities markets. EDRs are similar to
ADRs but generally are in bearer form, may be denominated in
other currencies, and are designed for use in European securities
markets. GDRs are similar to EDRs and are designed for use in
several international markets. ADRs are typically receipts
issued by a U.S. Bank or trust company evidencing ownership of
the underlying securities. For purposes of the Fund's investment
policies, ADRs, EDRs and GDRs are deemed to have the same
classification as the underlying securities they represent.
Thus, an ADR, EDR, or GDR representing ownership of common stock
will be treated as common stock.
The Financial Services Fund anticipates that its brokerage
transactions involving foreign securities of companies
headquartered outside of the United States will be conducted
primarily on the principal exchanges of such countries.
Transactions on foreign exchanges are subject to fixed
commissions that are generally higher than negotiated commissions
on U.S. transactions, although the Fund will endeavor to achieve
the best net results in effecting its portfolio transactions.
There is generally less government supervision and regulation of
exchanges and brokers in foreign countries than in the United
States and as a result trade and settlement procedures in foreign
securities may involved certain risks or expenses not present in
the settlement of domestic transactions (such as delay in payment
or delivery of securities or in the recovery of the Fund's assets
held abroad).
Investment income on certain foreign securities in which the
Financial Services Fund may invest may be subject to foreign
withholding or other taxes that could reduce the return on these
securities. In addition, with respect to certain foreign
countries, there is a possibility of nationalization or
expropriation of assets, imposition of currency exchange
controls, confiscatory taxation, political or financial
instability, and domestic developments which could affect the
value of investments in those countries. In certain countries,
legal remedies available to investors may be more limited than
7<PAGE>
those available with respect to investments in the United States
or other countries. The laws of some foreign countries may limit
the Fund's ability to invest in securities of certain issuers
located in those countries.
Foreign Currency Transactions. The Financial Services Fund
may conduct foreign currency transactions on a spot (i.e. cash)
or forward basis (i.e. by entering into forward contracts to
purchase or sell foreign currencies). Although foreign exchange
dealers generally do not charge a fee for such conversions, they
do realize a profit based on the difference between the prices at
which they are buying and selling various currencies. Thus a
dealer may offer to sell a foreign currency at one rate, while
offering a lesser rate of exchange should the counterparty desire
to resell that currency to the dealer. Forward contracts are
customized transactions that require a specified amount of a
currency to be delivered at a specific exchange rate on a
specific date or range of dates in the future. Forward contracts
are generally traded in an interbank market directly between
currency traders (usually large commercial banks) and their
customers. The parties to a forward contract may agree to offset
or terminate the contract before its maturity, or may hold the
contract to maturity and complete the contemplated currency
exchange.
The Financial Services Fund may use currency forward
contracts to hedge against a decline in the value of its
investments denominated in foreign currency. For example, if the
Fund owned securities denominated in pounds sterling, it could
enter into a forward contract to sell pounds sterling in return
for U.S. dollars to hedge against possible declines in the
pound's value. Such a hedge, called a "position hedge" would
tend to offset both positive and negative currency fluctuations,
but would not offset changes in the value of its investment
caused by other factors.
Under certain conditions, SEC guidelines require mutual funds
to set aside liquid assets in a segregated custodial account to
cover currency forward contracts, if done for speculative
purposes. Currently, the Fund does not expect to use currency
forward contracts for speculative purposes. The Fund will not
segregate assets to cover its forward contracts entered into for
hedging, such as the position hedge described above.
Collateralized Mortgage Obligations ("CMOs"). The Fixed
Income Segment of the Equity Market Plus Fund may invest in CMOs.
A CMO is a security backed by a portfolio of mortgages or
mortgage-backed securities held under an indenture. The issuer's
obligation to make interest and principal payments is secured by
the underlying portfolio of mortgages or mortgage-backed
securities. CMOs are issued with a number of classes or series,
which have different maturities representing interests in some or
all of the interest or principal on the underlying collateral or
a combination thereof. Payments of interest or principal on some
classes or series of CMOs may be subject to contingencies, or
some classes or series may bear some or all of the risk of
default on the underlying mortgages. CMOs of different classes
are generally retired in sequence as the underlying mortgage
loans in the mortgage pools are repaid. In the event of
8<PAGE>
sufficient early prepayments on such mortgages, the class or
series of CMO first to mature generally will be retired prior to
its stated maturity. Thus, the early retirement of a particular
class or series of a CMO held by the Funds would have the same
effect as the prepayment of mortgages underlying a
mortgage-backed pass-through security. Another type of CMO is a
real estate mortgage investment conduit ("REMIC") which qualifies
for special tax treatment under the Internal Revenue Code and
invests in certain mortgages principally secured by interests in
real property and other permitted investments.
CMOs also include securities representing the interest in any
excess cash flow and/or the value of any collateral remaining
after the issuer has applied cash flow from the underlying
mortgages or mortgage-backed securities to the payment of
principal of and interest on all other CMOs and the
administrative expenses of the issuer ("Residuals"). Residuals
have value only to the extent that income from such underlying
mortgages or mortgage-backed securities exceeds the amounts
necessary to satisfy the issuer's debt obligations represented by
all other outstanding classes or series of the CMOs. In
addition, if a CMO bears interest at an adjustable-rate, the cash
flows on the related Residual will also be extremely sensitive to
the level of the index upon which the rate adjustments are based.
In reliance on an interpretation by the Securities and
Exchange Commission ("SEC"), the Funds' investments in certain
qualifying CMOs and REMICs are not subject to the 1940 Act's
limitations on acquiring interests in other investment companies.
CMOs and REMICs issued by an agency or instrumentality of the
U.S. Government are considered U.S. Government securities for the
purposes of this Prospectus.
Stripped Securities ("STRIPS"). The Fixed Income Segment of
the Equity Market Plus Fund may invest in STRIPS. STRIPS are
usually structured with two classes that receive different
proportions of the interest and principal distributions from a
pool of underlying assets. A common type of STRIP will have one
class receiving all of the interest from the underlying assets
("interest-only" or "IO" class), while the other class will
receive all of the principal ("principal-only" or "PO" class).
However, in some instances, one class will receive some of the
interest and most of the principal while the other class will
receive most of the interest and the remainder of the principal.
STRIPS are unusually volatile in response to changes in interest
rates. The yield to maturity on an IO class of STRIPS is
extremely sensitive not only to changes in prevailing interest
rates but also to the rate of principal payments (including
prepayments) on the underlying assets. A rapid rate of principal
prepayments may have a measurably adverse effect on the Fund's
yield to maturity to the extent it invests in IOs. Conversely,
POs tend to increase in value if prepayments are greater than
anticipated and decline if prepayments are slower than
anticipated. Thus, if the underlying assets experience greater
than anticipated prepayments of principal, the Fund may fail to
fully recover its initial investment in these securities, even if
the STRIPS were rated of the highest credit quality by S&P or
9<PAGE>
Moody's, respectively. The Adviser will seek to manage these
risks (and potential benefits) by investing in a variety of such
securities and by using certain hedging techniques, as described
in "Other Investment Practices and Risk Considerations" in the
Prospectus. In addition, the secondary market for STRIPS may be
less liquid than that for other mortgage-backed or asset-backed
securities, potentially limiting the Fund's ability to buy or
sell those securities at any particular time.
The Adviser expects that IO SMBS will be purchased for their
hedging characteristics. Such SMBS will reduce the variance of
the Fund's respective net asset values from its targeted
option-adjusted durations..
Zero Coupon Securities. The Fixed Income Segment of the
Equity Market Plus Fund may also invest in "zero coupon"
securities, which are issued at a significant discount from face
value and pay interest only at maturity rather than at intervals
during the life of the security. Zero coupon securities tend to
be more volatile than other securities with similar stated
maturities, but which make regular payments of either principal
or interest.
The Fund is required to accrue and distribute income from zero
coupon securities on a current basis, even though it does not
receive the income currently. Thus, the Fund may have to sell
other investments to obtain cash needed to make income
distributions, which may reduce the Fund's assets and may thereby
increase its expense ratio and decrease its rate of return.
HEDGING AND OTHER STRATEGIES USING DERIVATIVE CONTRACTS
Futures Contracts. When a fund purchases a futures contract
it agrees to purchase a specified underlying instrument at a
specified future date. When a fund sells a futures contract, it
agrees to sell the underlying instrument at a specified future
date. The price at which the purchase and sale take place is
fixed when the fund enters the contract. Some currently
available futures contracts are based on specific securities,
such as U.S. Treasury bonds or notes, and some are based on
indices of securities prices, such as the Standard and Poor's 500
Index (S&P 500). Futures can be held until their delivery dates,
or can be closed out before then if a liquid secondary market is
available.
The value of a futures contract tends to increase and decrease
in tandem with the value of its underlying instrument.
Therefore, purchasing futures contracts will tend to increase a
fund's exposure to positive and negative price fluctuations in
the underlying instrument, much as if it had purchased the
underlying instrument directly. When a fund sells a future
contract, by contrast, the value of its futures position will
tend to move in a direction contrary to the market. Selling
futures contracts, therefore, will tend to offset both positive
and negative market price changes, much as if the underlying
instrument had been sold.
The Funds will not use futures contracts for leverage
10<PAGE>
Futures Margin Payments. The purchaser or seller of a futures
contract is not required to deliver or pay for the underlying
instrument unless the contract is held until delivery date, and
it is not cash settled. However, when the contract is entered
into, a purchaser or seller is required to deposit "initial
margin" with a futures broker, known as a futures commission
merchant ("FCM"). Initial margin deposits are typically a
percentage of the contract's value. If the value of either
party's position declines, that party will be required to make
additional "variation margin" payments to settle the change in
value on a daily basis. The party that has a gain may be
entitled to receive all or a portion of this amount. Initial and
variation margin payments do not constitute purchasing securities
on margin for purposes of a Fund's investment limitations. In
the event of the bankruptcy of an FCM that holds margin on behalf
of a fund, the fund may be entitled to return of the margin owed
to it only in proportion to the amount received by the FCM's
other customers, potentially resulting in losses to a Fund.
Asset Coverage and Limitations on Futures and Options
Transactions. The Funds will comply with guidelines established
by the SEC with respect to coverage of options and futures
strategies by mutual funds, and if the guidelines so require,
will set aside liquid assets in a segregated custodial account in
the amount prescribed. Securities held in a segregated account
cannot be sold while the futures and options strategy is
outstanding, unless they are replaced with other suitable assets.
As a result there is a possibility that segregation of a large
percentage of a Fund's assets could impede portfolio management
or a Fund's ability to meet redemption requests.
In accordance with regulations established by the Commodity
Futures Trading Commission, each Fund's aggregate initial margin
and premiums on all futures and options contract positions not
held for bona fide hedging purposes, will not exceed 5% of a
Fund's net assets, after taking into account unrealized profits
and losses on such contracts.
Risks Associated with Correlation of Price Changes. Because
there are a limited number of types of exchange-traded option and
future contracts, it is likely that the standardized contracts
available will not match a Fund's current or anticipated
investments directly. The Funds may invest in options and
futures contracts based on securities with different maturities
or other characteristics from the securities in which they
typically invest, which involves a risk that the options or
futures position will not track the performance of the Funds'
investment.
Options and futures prices can also diverge from the prices of
their underlying instruments, even if the underlying instruments
match a Fund's investments well. Options and futures prices are
affected by such factors as current and anticipated short-term
interest rates, changes in volatility of the underlying
instrument, and the time remaining until expiration of the
contract, which may not affect security prices the same way.
Imperfect correlation may also result from differing levels of
demand in the options and futures markets versus the securities
markets, from structural differences in how options and futures
11<PAGE>
and securities are traded, or from the imposition of daily price
fluctuation limits or trading halts. A fund may purchase or sell
options or futures contracts with a greater or lesser value than
the securities it wishes to hedge or intends to purchase in order
to attempt to compensate for differences in volatility between
the contract and the securities, although this may not be
successful in all cases. If price changes in a Fund's options or
futures positions are poorly correlated with its other
investments, the positions may fail to produce anticipated gains
or result in losses that are not offset by gains in other
investments.
Liquidity of Options and Futures Contracts. There is no
assurance a liquid secondary market will exist for any particular
options or futures contract at any particular time. Options may
have relatively low trading volume and liquidity if their strike
prices are not close to the underlying instrument's current
price. In addition, exchanges may establish daily price
fluctuation limits for options and futures contracts, and may
halt trading if a contract's price moves upward or downward more
than the limit in a given day. On volatile trading days when the
price fluctuation limit is reached or a trading halt is imposed,
it may be impossible for a Fund to enter into new positions or
close out existing positions. If the secondary market for a
contract is not liquid because of price fluctuation limits or
otherwise, it could prevent prompt liquidation of unfavorable
positions, and potentially could require a Fund to continue to
hold a position until delivery or expiration regardless of
changes in its value. As a result, a Fund's access to other
assets held to cover its option or futures positions could also
be impaired.
OTC Options. Unlike exchange traded options, which are
standardized with respect to the underlying instrument,
expiration date, contract size and strike price, the terms of
over-the-counter (OTC) options (options not traded on exchanges)
generally are established through negotiation with the other
party to the option contract. While this type of arrangement
allows the Funds greater flexibility to tailor an option to its
needs, OTC options generally involve greater credit risk than
exchange traded options, which are guaranteed by the clearing
organization of the exchanges where they are traded.
Purchasing Put and Call Options. By purchasing a put option,
a Fund obtains the right (but not the obligation) to sell the
option's underlying instrument at a fixed strike price. In
return for this right, a Fund pays the current market price for
the option (known as the option premium). Options have various
types of underlying instruments, including specified securities,
indices of securities prices, and futures contracts. A Fund may
terminate its position in a put option it has purchased by
allowing it to expire or by exercising the option. If the option
is allowed to expire, a Fund will lose the entire premium it
paid. If a Fund exercises the option, it completes the sale of
the underlying instrument at the strike price. A Fund may also
terminate a put option position by closing it out in the
secondary market at its current price, if a liquid secondary
12<PAGE>
market exists.
The buyer of a typical put option can expect to realize a gain
if security prices fall substantially. However, if the
underlying instrument's price does not fall enough to offset the
cost of purchasing the option, a put buyer can expect to suffer a
loss (limited to the amount of the premium paid, plus related
transaction costs).
The features of call options are essentially the same as those
of put options, except that the purchaser of a call option
obtains the right to purchase, rather than sell, the underlying
instrument at the option's strike price. A call buyer typically
attempts to participate in potential price increases of the
underlying instrument with risk limited to the cost of the
option if security prices fall. At the same time, the buyer can
expect to suffer a loss if security prices do not rise
sufficiently to offset the cost of the option.
Writing Put and Call Options. When a Fund writes a put
option, it takes the opposite side of the transaction from the
option's purchaser. In return for receipt of the premium, the
Fund assumes the obligation to pay the strike price for the
option's underlying instrument if the other party to the option
chooses to exercise it. When writing an option on a futures
contract, a Fund will be required to make margin payments to an
FCM as described above for futures contracts. A Fund may seek to
terminate its position in a put option it writes before exercise
by closing out the option in the secondary market at its current
price. If the secondary market is not liquid for a put option
the Fund has written, however, the Fund must continue to be
prepared to pay the strike price while the option is outstanding,
regardless of price changes, and must continue to set aside
assets to cover its position.
If security prices rise, a put writer would generally expect
to profit although its gain would be limited to the amount of the
premium it received. If security prices remain the same over
time, it is likely that the writer will also profit, because it
should be able to close out the option at a lower price. If
security prices fall, the put writer would expect to suffer a
loss. This loss should be less than the loss from purchasing the
underlying instrument directly, however, because of the premium
received for writing the option.
Writing a call option obligates a Fund to sell or deliver the
option's underlying instrument, in return for the strike price,
upon exercise of the option. The characteristics of writing call
options are similar to those of writing put options, except that
writing calls generally is a profitable strategy if prices remain
the same or fall. Through receipt of the option premium, a call
writer mitigates the effects of a price decline. At the same
time, because a call writer must be prepared to deliver the
underlying instrument in return for the strike price, even if its
current value is greater, a call writer gives up its ability to
participate in security price increases and will suffer a loss in
the event of an increase.
13<PAGE>
Combined Positions. A Fund may purchase and write options in
combination with each other, or in combination with futures or
forward contracts, to adjust the risk and return characteristics
of the overall position. For example, a Fund may purchase a put
option and write a call option on the same underlying instrument,
in order to construct a combined position whose risk and return
characteristics are similar to selling a futures contract.
Another possible combined position would involve writing a call
option at one strike price and buying a call option at a lower
price, in order to reduce the risk of the written call option in
the event of a substantial price increase. Because combined
positions involve multiple trades, they result in higher
transaction costs and may be more difficult to open and close
out.
Options and Futures Relating to Foreign Currencies. The
Financial Services Fund may utilize currency futures contracts.
Currency futures contracts are similar to forward currency
exchange contracts, except that they are traded on exchanges (and
have margin requirements) and are standardized as to contract
size and delivery date. Most currency futures contracts call for
payment or delivery in U.S. dollars. The underlying instrument
of a currency option may be a foreign currency, which generally
is purchased or delivered in exchange for U.S. dollars, or may be
a futures contract. The purchaser of a currency call obtains the
right to purchase the underlying currency, and the purchaser of a
currency put obtains the right to sell they underlying
currency.
The Financial Services Fund may purchase and sell currency
futures and purchase and write currency options to increase or
decrease its exposure to different foreign currencies in order to
hedge against the currency risk implicit in the investments which
it owns that are denominated in other than U.S. dollars.
Currency futures and options values can be expected to correlate
with exchange rates, but may not reflect other factors that
affect the Fund's investments, such as a decline in an issuer's
creditworthiness. Because the value of the Financial Services
Fund's foreign denominated investments changes in response to
many factors other than exchange rates, it may not be possible to
march the amount of currency options and futures to the value of
the Fund's investments exactly over time.
Equity Swap Contracts. Both the Equity Market Plus Fund and
the Financial Services Fund may enter into equity swap
contracts. The counterparty to an equity swap contract will
typically be a bank, investment banking firm or broker-dealer.
The counterparty generally agrees to pay the Fund the amount, if
any, by which the notional amount of the equity swap contract
would have increased in value had it been invested in the basket
of stocks comprising the S&P 500 Index, plus the dividends that
would have been received on those stocks. The Fund agrees to pay
to the counterparty a floating rate of interest (typically the
London Inter Bank Offered Rate) on the notional amount of the
equity swap contract plus the amount, if any, by which that
notional amount would have decreased in value had it been
invested in such stocks. Therefore, the return to the Fund on
any equity swap contract should be the gain or loss on the
notional amount plus dividends on the stocks comprising the S&P
14<PAGE>
500 Index (as if the Fund had invested the notional amount in
stocks comprising the S&P 500 Index) less the interest paid by
the Fund on the notional amount. The Funds will enter into
equity swap contracts only on a net basis, i.e., where the two
parties' obligations are netted out, with the Fund paying or
receiving, as the case may be, only the net amount of any
payments. Payments under an equity swap contract may be made at
the conclusion of the contract or periodically during its term.
If there is default by the counterparty to an equity swap
contract, a Fund will be limited to contractual remedies pursuant
to the agreements related to the transaction. There is no
assurance that the equity swap contract counterparties will be
able to meet their obligations or that, in the event of default,
the Funds will succeed in pursuing contractual remedies. A Fund
thus assume the risk that it may be delayed in or prevented from
obtaining payments owed to it pursuant to these contracts. The
Funds will closely monitor the credit of equity swap contract
counterparties in order to minimize this risk. The Funds will not
use equity swap contracts for leverage.
The Funds may from time to time enter into the opposite side
of equity swap contracts (i.e., where the Fund is obligated to
pay the increase (net of interest) or receive the decrease (plus
interest) on the S&P 500 Index) to reduce the amount of the
Fund's equity market exposure. These positions are sometimes
referred to as "reverse equity swap contracts".
The Funds will not enter into any equity swap contract unless,
at the time of entering into such transaction, the unsecured
senior debt of the counterparty is rated at least A by Moody's
Investors Service, Inc. ("Moody's") or Standard & Poor's ("S&P").
In addition, the staff of the SEC considers equity swap contracts
and reverse equity swap contracts to be illiquid securities.
Consequently, while the staff maintains this position, the Fund
will not invest in equity swap contracts or reverse equity swap
contracts if, as a result of the investment, the total value of
such investments together with that of all other illiquid
securities which the Fund owns would exceed 15% of the Fund's
total assets.
The Adviser and Funds do not believe that a Fund's
obligations under equity swap contracts or reverse equity swap
contracts are senior securities, so long as such a segregated
account is maintained, and accordingly, the Funds will not treat
them as being subject to its borrowing restrictions. The net
amount of the excess, if any, of a Fund's obligations over its
entitlements with respect to each equity swap contract and each
reverse equity swap contract will be accrued on a daily basis,
and liquid securities having an aggregate market value at least
equal to the accrued excess will be maintained in a segregated
account by a Fund's custodian.
Interest Rate and Mortgage Swaps, Caps, Floors and Collars.
Interest rate swaps involve the exchange by a Fund with another
party of their respective commitments to pay or receive interest,
for example, an exchange of floating-rate payments for fixed-rate
payments. Mortgage swaps are similar to interest rate swaps in
that they represent commitments to pay and receive interest. The
notional principal amount, however, is tied to a reference pool
15<PAGE>
or pools of mortgages.
The purchase of an interest rate cap entitles the purchaser,
to the extent that a specified index exceeds a predetermined
interest rate, to receive payments of interest on a notional
principal amount from the party selling such interest rate cap.
The purchase of an interest rate floor entitles the purchaser, to
the extent that a specified index falls below a predetermined
interest rate, to receive payments of interest on a notional
principal amount from the party selling such interest rate floor.
An interest rate collar combines the elements of purchasing a cap
and selling a floor. The collar protects against an interest
rate rise above the maximum amount, but gives up the benefits of
an interest rate decline below the minimum amount. There can be
no assurance that the Funds will be able to enter into interest
rate swaps, caps, floors or collars on favorable terms.
Furthermore, there can be no assurance that any of the Funds will
be able to terminate an interest rate swap or sell or offset
interest rate caps, floors or collars notwithstanding any terms
in the agreements providing for such termination.
Inasmuch as these hedging transactions are entered into for
hedging purposes, the Adviser and the Funds believe swaps, caps,
floors and collars do not constitute senior securities and,
accordingly, will not treat them as being subject to its
borrowing restrictions. The net amount of the excess, if any, of
a Fund's obligations over its entitlement with respect to each
interest rate swap will be accrued on a daily basis, and an
amount of cash or liquid securities having an aggregate net asset
value at least equal to the accrued excess will be maintained in
a segregated account by a custodian that satisfies the
requirements of the Investment Company Act.
The Funds will enter into these transactions with counter
parties who are rated at least A by Moody's and S&P at the time
of entering into a contract.
If there is default by the other party to such a transaction,
the Funds will have contractual remedies pursuant to the
agreements related to the transaction. There is no assurance that
interest-rate swap, cap, floor or collar counterparties will be
able to meet their obligations pursuant to their contracts, or
that, in the event of default, a Fund will succeed in pursuing
contractual remedies. The Funds thus assume the risk that one of
them may be delayed in or prevented from obtaining payments owed
to it pursuant to interest rate swaps, caps, floors or
collars.
The swap, cap, floor and collar market has grown substantially
in recent years with a large number of banks and investment
banking firms acting both as principals and as agents utilizing
standardized documentation. As a result, this market has become
relatively liquid, although the Funds will still treat these
instruments as illiquid investments subject to the limitation on
such investments described under "Illiquid Securities" in the
Prospectus.
16<PAGE>
TAXES
Taxation of the Fund. Each Fund intends to qualify each year as
a regulated investment company under Subchapter M of the Internal
Revenue Code of 1986, as amended (the "Code"). In order so to
qualify and to qualify for the special tax treatment accorded
regulated investment companies and their shareholders, the Fund
must, among other things:
(a) derive at least 90% of its gross income
from dividends, interest, payments with respect to
certain securities loans, and gains from the sale of
stock, securities and foreign currencies, or other
income (including but not limited to gains from
options, futures, or forward contracts) derived with
respect to its business of investing in such stock,
securities, or currencies;
(b) for the Equity Market Plus Fund, and
only until March 31, 1998, derive less than 30% of its
gross income from gains from the sale or other
disposition of certain assets (including securities)
held for less than three months;
(c) distribute with respect to each taxable year at least
90% of its taxable and tax-exempt income for such
year; and
(d) diversify its holdings so that, at the
end of each fiscal quarter (i) at least 50% of the
market value of the Fund's assets is represented by
cash and cash items, U.S. Government securities,
securities of other regulated investment companies, and
other securities limited in respect of any one issuer
to a value not greater than 5% of the value of the
Fund's total assets and 10% of the outstanding voting
securities of such issuer, and (ii) not more than 25%
of the value of its assets is invested in the
securities (other than those of the U.S. Government or
other regulated investment companies) of any one issuer
or of two or more issuers which the Fund controls and
which are engaged in the same, similar, or related
trades or businesses.
Qualification as a regulated investment company exempts a Fund
from federal income tax on income paid to its shareholders in the
form of dividends (including capital gain dividends). A dividend
paid to shareholders by the Fund in January of a year generally
is deemed to have been paid by the Fund on December 31 of the
preceding year, if the dividend was declared and payable to
shareholders of record on a date in October, November or December
of that preceding year.
17<PAGE>
If a Fund failed to qualify as a regulated investment company
accorded special tax treatment in any taxable year, the Fund
would be subject to tax on its taxable income at corporate rates,
and could be required to recognize unrealized gains, pay
substantial taxes and interest and make substantial distributions
before requalifying as a regulated investment company that is
accorded special tax treatment.
If a Fund fails to distribute in a calendar year substantially
all of its ordinary income for such year and substantially all of
its net capital gain for the year ending October 31 (or later if
the Fund is permitted so to elect and so elects), plus any
retained amount from the prior year, the Fund will be subject to
a 4% excise tax on the undistributed amounts. Each Fund intends
generally to make distributions sufficient to avoid imposition of
the 4% excise tax. In calculating its income, each Fund must
include dividends in income not when received but on the date
when the stock in question is acquired or becomes ex-dividend,
whichever is later. Also, a portion of the yield on certain high
yield securities (including certain payment-in-kind bonds) issued
after July 10, 1989 may be treated as dividends.
Return of capital distributions. If a Fund makes a distribution
to you in excess of its current and accumulated "earnings and
profits" in any taxable year, the excess distribution will be
treated as a return of capital to the extent of your tax basis in
your shares, and thereafter as capital gain. A return of capital
is not taxable, but it reduces your tax basis in your shares.
FUND CHARGES AND EXPENSES
Management Fees. The Equity Market Plus Fund pays a monthly
fee to the Adviser based on the average net assets of the Fund,
as determined at the close of each business day during the month,
at an annual rate of 0.70%. The fee for the Financial Services
Fund is 1.50%. Advisory fees paid by Equity Market Plus Fund for
the fiscal year ended March 31, 1997 were $53,341. Advisory fees
paid by the Equity Market Plus Fund for each of the last three
fiscal years ended March 31 were $11,056, $21,727, and $53,341
respectively. The amount paid by Equity Market Plus Fund in the
prior fiscal year from March 31, 1994 through August 1, 1994
reflects a previous advisory contract rate of 0.35% of average
net assets. For each of the last three fiscal years ended March
31, the Adviser reimbursed the Equity Market Plus Fund $128,959,
$114,100 and $131,965, respectively, under expense limitation
provisions. The Financial Services Fund commenced operations
December 22, 1997,and as such has not paid as yet any advisory
fees for its prior fiscal years.
Other Expenses. Each Fund pays its own expenses, including,
but not limited to auditing, legal, tax preparation and
consulting, insurance, custodial, accounting, shareholder
servicing and shareholder report expenses. Fees paid to FPS
Services which serves as the Fund's shareholder servicing and
accounting agent are determined by contract as approved by the
Board of Trustees.
18<PAGE>
MANAGEMENT OF THE FUND
The Board of Trustees has the responsibility for the overall
management of the Funds, including general supervision and review
of its investment activities. The Trustees, in turn, elect the
officers of the Funds who are responsible for administering the
day-to-day operations of the Funds. Trustees and officers of the
Funds are identified in the Prospectus.
All of the Trustees are Trustees of all the other funds
managed by the Adviser and each independent trustee receives fees
for his or her services. The Trustees do not receive pension or
retirement benefits from the Fund. The table below shows the fees
paid by the Equity Market Plus Fund to each independent Director
for the fiscal year ended March 31, 1997, but does not reflect
fees paid by the other funds managed by the Adviser:
Director Aggregate Compensation
William F. Sharpe $ 1,400
Myron S. Scholes $ 0
Stephen M. Schaefer $ 3,373
The Financial Services Fund expects to pay $1,667 to each
Trustee prior to March 31, 1998.
The Agreement and Declaration of Trust of the Funds provides
that the Funds will indemnify its Trustees and officers against
liabilities and expenses incurred in connection with litigation
in which they may be involved because of their offices with the
Funds, except if it is determined in the manner specified in the
Agreement and Declaration of Trust that they have not acted in
good faith in the reasonable belief that their actions were in
the best interests of the Funds or that such indemnification
would relieve any officer or Trustee of any liability to the
Funds or its shareholders by reason of willful misfeasance, bad
faith, gross negligence or reckless disregard of his or her
duties.
Trustees and officers of the Funds who are also officers or
shareholders of the Adviser will benefit from the advisory fees
paid by the Fund.
Potential Conflicts of Interest. Principals of the Adviser as
individuals own approximately 68% of the common stock of
Harrington Financial Group ("HFGI"), the holding company for
Harrington Bank, FSB of Richmond, Indiana (the "Bank"). As of
May 31, 1997, HFGI had total assets of $485 million. HFGI and the
Bank may invest in assets of the same types as those to be held
by the Funds.
Douglas T. Breeden, in combination with immediate family
members, controls over 75% of the common stock of Community First
Financial Group, Inc. ("CFFG"), the holding company for certain
banks and thrifts, to which the Adviser renders Investment
Advisory services. CFFG and its subsidiaries invest in assets of
the same types as those to be held by the Funds.
19<PAGE>
The Adviser may also manage advisory accounts with investment
objectives similar to or the same as those of the Funds, or
different from the Funds but trading in the same type of
securities and instruments as the Funds. Portfolio decisions and
results of the Funds' investments may differ from those of such
accounts managed by the Adviser. When two or more accounts
managed by the Adviser seek to purchase or sell the same assets,
the assets actually purchased or sold may be allocated among the
accounts on a basis determined by the Adviser in its good faith
discretion to be equitable. In some cases, this system may
adversely affect the size or the price of the position obtainable
for the Funds.
THE INVESTMENT ADVISORY AGREEMENT AND OTHER SERVICES
The investment manager of the Fund is Smith Breeden Associates,
Inc. (the "Adviser"). The table in the Prospectus indicates
which officers and trustees are affiliated persons of the
Adviser.
Under the Investment Advisory Agreements between the Funds and
the Adviser, subject to such policies as the Trustees may
determine, the Adviser, at its expense, furnishes continuously an
investment program for the Funds and makes investment decisions
on behalf of the Funds. Subject to the control of the Trustees,
the Adviser also manages, supervises and conducts the other
affairs and business of the Funds, furnishes office space and
equipment, provides bookkeeping and clerical services and places
all orders for the purchase and sale of the Funds' portfolio
securities.
For details of the Adviser's compensation under the Investment
Advisory Agreements, see "Fund Charges and Expenses" in this
Statement. Under the Investment Advisory Agreements, the
Adviser may reduce its compensation to the extent that the Funds'
expenses exceed such lower expense limitation as the Adviser may,
by notice to the Funds, voluntarily declare to be effective. The
expenses subject to this limitation are exclusive of brokerage
commissions, interest, taxes, and extraordinary expenses. The
terms of the expense limitations currently in effect are
described in the Prospectus and on the following page. The Funds
pay all expenses not assumed by the Adviser including, without
limitation, auditing, legal, tax preparation and consulting,
custodial, investor servicing and shareholder reporting
expenses.
The Investment Advisory Agreements provide that the Adviser
shall not be subject to any liability to the Funds or to any
shareholder of the Funds for any act or omission in the course of
or connected with rendering services to the Funds in the absence
of willful misfeasance, bad faith, gross negligence or reckless
disregard of its duties on the part of the Adviser.
The Investment Advisory Agreements may be terminated without
penalty by vote of the Trustees or the shareholders of the Fund,
or by the Adviser, on 60 days written notice. They may be
amended only by a vote of the shareholders of each Fund. The
20<PAGE>
Investment Advisory Agreements also terminate without payment of
any penalty in the event of its assignment as defined in the
Investment Company Act. The Investment Advisory Agreements
provide that they will continue in effect after their initial
term of two years only so long as such continuance is approved at
least annually by vote of either the Trustees or the
shareholders, and, in either case, by a majority of the Trustees
who are not "interested persons" of the Adviser or the Funds. In
each of the foregoing cases, the vote of the shareholders is the
affirmative vote of a "majority of the outstanding voting
securities".
Under the terms of the Investment Advisory Agreements, the
Adviser performs certain administrative services as follows: (1)
coordinates with the Funds' custodian and transfer agent and
monitors the services they provide to the Funds; (2) coordinates
with and monitors other third parties furnishing services to the
Funds; (3) provides the Funds with necessary office space,
telephones and other communications facilities and personnel
competent to perform administrative and clerical functions for
the Funds; (4) supervises the preparation by third parties of all
Federal, state and local tax returns and reports of the Funds
required by applicable law; (5) prepares and, after approval by
the Funds, files and arranges for the distribution of proxy
materials and periodic reports to shareholders of the Funds as
required by applicable law; (6) prepares and, after approval by
the Funds, arranges for the filing of such registration
statements and other documents with the Securities and Exchange
Commission and other Federal and state regulatory authorities as
may be required by applicable law; (7) reviews and submits to the
officers of the Funds for their approval invoices or other
requests for payment of Fund expenses; and (8) takes such other
actions with respect to the Funds as may be necessary in the
opinion of the Advisor to perform its duties under the
agreements.
The Adviser has voluntarily agreed to bear normal operating
expenses (excluding litigation, indemnification and other
extraordinary expenses) of the Funds, and, if necessary, to waive
its advisory fee, for the period ending August 1, 1998 such that
total operating expenses would not exceed 0.88% of the average
net assets of the Equity Market Plus Fund and 1.50% of the
Financial Services Fund. Such expense limitations, if any, are
calculated daily based on average net assets and may be continued
or modified by the Adviser at any time in its sole
discretion.
Portfolio Transactions
Investment decisions. Investment decisions for the Funds and
for the other investment advisory clients of the Adviser are made
with a view to achieving their respective investment objectives.
Investment decisions are the product of many factors in addition
to basic suitability for the particular client involved. Thus, a
particular security may be bought or sold for certain clients
even though it could have been bought or sold for other clients
at the same time. Likewise, a particular security may be bought
for one or more clients when one or more other clients are
selling the security. In some instances, one client may sell a
21<PAGE>
particular security to another client. It also sometimes happens
that two or more clients simultaneously purchase or sell the same
security, in which event each day's transactions in such security
are, insofar as possible, averaged as to price and allocated
between such clients in a manner which in the Adviser's opinion
is equitable to each and in accordance with the amount being
purchased or sold by each. There may be circumstances when
purchases or sales of portfolio securities for one or more
clients will have an adverse effect on other clients.
Brokerage and research services. Transactions on U.S. stock
exchanges, commodities markets and futures markets and other
agency transactions involve the payment by the Funds of
negotiated brokerage commissions. Such commissions vary among
different brokers. In addition, a particular broker may charge
different commissions according to such factors as the difficulty
and size of the transaction. There is generally no stated
commission in the case of securities traded in the over-the-
counter markets, but the price paid by the Funds usually includes
an undisclosed dealer commission or mark-up. In underwritten
offerings, the price paid by the Funds includes a disclosed,
fixed commission or discount retained by the underwriter or
dealer. The Equity Market Plus Fund paid approximately $3,000 in
brokerage commissions on futures and options transactions for the
last fiscal year and approximately $1,000 for each of the two
prior fiscal years ended March 31. The Financial Services Fund
commenced operations December 22, 1997, and as of the date of
this Statement had not incurred any commission expense. For a
discussion of brokerage issues relating to investments by the
Financial Services Fund in foreign securities, see "Miscellaneous
Investment Practices and Risk Considerations-Foreign Securities".
The Adviser places all orders for the purchase and sale of
portfolio investments for the Funds and may buy and sell
investments for the Funds through a substantial number of brokers
and dealers. In so doing, the Adviser uses its best efforts to
obtain for the Funds the most favorable price and execution
available. In seeking the most favorable price and execution,
the Adviser, having in mind the Funds' best interests, considers
all factors it deems relevant, including, by way of illustration,
price, the size of the transaction, the nature of the market for
the security or other investment, the amount of the commission,
the timing of the transaction taking into account market prices
and trends, the reputation, experience and financial stability of
the broker-dealer involved and the quality of service rendered by
the broker-dealer in other transactions.
When it is determined that several brokers or dealers are equally
able to provide the best net price and execution, the Adviser may
execute transactions through brokers or dealers who provide
quotations and other services to its advisory clients, including
the quotations necessary to determine these clients' net assets,
in such amount of total brokerage as may reasonably be required
in light of such services, and through brokers and dealers who
supply statistical and other data to the Adviser and its clients
in such amount of total brokerage as may reasonably be required.
22<PAGE>
Consistent with the Rules of Fair Practice of the National
Association of Securities Dealers, Inc. and subject to seeking
the most favorable price and execution available and such other
policies as the Trustees may determine, the Adviser may consider
sales of shares of the Funds (and, if permitted by law, of the
other funds managed by the Adviser) as a factor in the selection
of broker-dealers to execute portfolio transactions for the
Funds.
The Adviser conducts extensive proprietary research. The
Adviser is not dependent on any broker for such research and
analysis and, thus is able to transact business with brokers
regardless of the brokers' research capabilities or provision of
such research to brokerage customers. The Adviser uses multiple
electronic quotation services for trading and pricing purposes.
The Adviser pays for these services directly out of its advisory
fees. The Adviser is not involved in any soft dollar
arrangements. The Adviser does utilize broker pricing guidance
for certain assets not consistently available through electronic
quotation services.
Investor Servicing Agent and Underwriter
FPS Services is each Fund's investor servicing agent
(transfer, plan and dividend disbursing agent), for which it
receives fees which are paid monthly by each Fund as an expense
of all its shareholders. See "Fund Charges and Expenses" in this
Statement for information on fees and reimbursements received by
FPS Services. FPS Services is also investor-servicing agent for
the other funds managed by the Adviser and receives fees from
each of those funds for its services.
Custodian
The Bank of New York ("Custodian") acts as custodian of each
of the Fund's assets. In carrying out its duties under its
custodian contract, the Custodian may employ one or more
subcustodians whose responsibilities will include safeguarding
and controlling the each Fund's cash and securities, handling the
receipt and delivery of securities and collecting interest and
dividends on each Fund's investments. Each Fund pays the
Custodian an annual fee based on the assets of the Fund and the
Fund's securities transactions. Each Fund also pays the
Custodian an annual fee based on the Fund's securities holdings
for the year and reimburses the Custodian for certain out-of-
pocket expenses incurred by it or any subcustodian employed by it
in performing custodial services. The Custodian pays the fees and
other charges of any subcustodian employed by it.
PRINCIPAL HOLDERS OF SECURITIES AND CONTROLLING PERSONS
To the Equity Market Plus Fund's best knowledge, there were no
beneficial owners who owned 5% or more of shares of the Fund at
September 30, 1997.
Each Fund Trustee owns less than 1% of the shares of the Fund as
of September 30, 1997.
23<PAGE>
DETERMINATION OF NET ASSET VALUE
Each Fund determines net asset value as of the close of
regular trading on the New York Stock Exchange at 4 p.m. If any
securities held by a Fund are restricted as to resale, the
Adviser determines their fair value following procedures approved
by the Trustees. The Trustees periodically review such valuation
procedures. The fair value of such securities is generally
determined as the amount which the Fund could reasonably expect
to realize from an orderly disposition of such securities over a
reasonable period of time. The valuation procedures applied in
any specific instance are likely to vary from case to case.
However, consideration is generally given to the financial
position of the issuer and other fundamental analytical data
relating to the investment and to the nature of the restrictions
on disposition of the securities (including any registration
expenses that might be borne by the Fund in connection with such
disposition). In addition, specific factors are also generally
considered, such as the cost of the investment, the market value
of any unrestricted securities of the same class (both at the
time of purchase and at the time of valuation), the size of the
holding, the prices of any recent transactions or offers with
respect to such securities and any available analysts' reports
regarding the issuer.
Trading in certain securities is substantially completed each
day at various times prior to the close of regular trading on the
Exchange. The values of these securities used in determining the
net asset value of the Fund's shares are computed as of such
times. Because regular trading in most foreign securities
markets is completed simultaneously with, or prior to, the close
of regular trading on the New York Stock Exchange, closing prices
for foreign securities usually are available for purposes of
computing the Financial Services Fund's net asset value.
However, in the event that the closing price of a foreign
security is not available in time to calculate the Financial
Services Fund's net asset value on a particular day, the Fund's
Board of Trustees has authorized the use of the market price for
the security obtained from an approved pricing service at an
established time during the day which may be prior to the close
of regular trading in the security. The value of all of the
Financial Services Fund's assets and liabilities expressed in
foreign currencies will be converted into U.S. dollars at the
spot rate of such currencies against U.S. dollars provided by an
approved pricing service. Because of the amount of time required
to collect and process trading information of large numbers of
securities issues, the values of certain securities (such as
convertible bonds and U.S. Government securities) are determined
based on market quotations collected earlier in the day at the
latest practicable time prior to the close of the Exchange.
Occasionally, events affecting the value of such securities may
occur between such times and the close of the Exchange that will
not be reflected in the computation of a Fund's net asset value.
If events materially affecting the value of such securities occur
during such period, then these securities will be valued at their
24<PAGE>
fair market value following procedures approved by the
Trustees.
ADDITIONAL INFORMATION REGARDING PURCHASES
AND REDEMPTIONS OF FUND SHARES
All checks, drafts, wires and other payment mediums used for
purchasing or redeeming shares of a Fund must be denominated in
U.S. Dollars. A Fund reserves the right, in its sole discretion,
to either (a) reject any order for the purchase or sale of shares
denominated in any other currency, or (b) to honor the
transaction or make adjustments to shareholder's account for the
transaction as of a date and with a foreign currency exchange
factor
determined by the drawee bank.
Dividend checks which are returned to a Fund marked "unable to
forward" by the postal service will be deemed to be a request to
change the dividend option and the proceeds will be reinvested in
additional shares at the current net asset value until new
instructions are received.
Redemptions in Kind. The Funds are committed to pay in cash all
requests for redemption by any shareholder of record, limited in
amount, however, during any 90-day period to the lesser of
$250,000 or 1% of the value of a Fund's net assets at the
beginning of such period. Such commitment is irrevocable without
the prior approval of the Securities and Exchange Commission. In
the case of requests for redemption in excess of such amounts,
the Trustees reserve the right to make payments in whole or in
part in securities or other assets of a Fund in case of any
emergency, or if the payment of such redemption in cash would be
detrimental to the existing shareholders of a Fund. In such
circumstances, the securities distributed would be valued at the
price used to compute the Fund's net assets. Should a Fund do
so, a shareholder may incur brokerage fees or other transaction
costs in converting the securities to cash.
Principal Underwriter. FPS Broker Services, Inc. (the
"Principal Underwriter"), 3200 Horizon Drive, P.O. Box 61503,
King of Prussia, PA 194060903, is the principal underwriter for
the Funds and is acting on a best efforts basis. The Principal
Underwriter is registered as a broker-dealer under the Securities
Exchange Act of 1934 and is a member of the National Association
of Securities Dealers, Inc. The offering of the Funds' shares is
continuous.
The Funds' underwriting agreement with the Principal
Underwriter provides that the Funds will pay all fees and
expenses in connection with: registering and qualifying their
shares under the various state "blue sky" laws; preparing,
setting in type, printing, and mailing its prospectuses and
reports to shareholders; and issuing their shares, including
expenses of confirming purchase orders. The Principal Underwriter
acts as the agent of the Funds in connection with the sale of
their shares in all states in which the shares are qualified and
25<PAGE>
in which the Principal Underwriter is qualified as a broker-
dealer. Under the underwriting agreement, the Principal
Underwriter may accept orders for Funds' shares at their offering
prices. For these services, the Adviser pays the Principal
Underwriter approximately $15,000. The Principal Underwriter may
enter into agreements with other broker-dealers for the sale of
the Funds' shares by them.
Reinvestment Date. The dividend reinvestment date is the date on
which the additional shares are purchased for the investor who
has its dividends reinvested. This date will vary and is not
necessarily the same date as the record date or the payable date
for cash dividends.
Special Services. The Funds may pay certain financial
institutions that maintain accounts with the Funds on behalf of
numerous beneficial owners for record keeping operations
performed with respect to such beneficial owners. Such financial
institutions may also charge a fee for their services directly to
their clients.
SHAREHOLDER INFORMATION
Each time shareholders buy, redeem or exchange shares or
receive a distribution, they will receive a statement confirming
the transaction and listing their current share balance. The
Funds also send annual and semiannual reports that keep
shareholders informed about each Fund's portfolio and
performance, and year-end tax information to simplify their
recordkeeping. Shareholders may call FPS Services toll-free at 1-
800 221-3137 for more information, including account
balances.
SUSPENSION OF REDEMPTIONS
The Funds may not suspend shareholders' right of redemption,
or postpone payment for more than seven
days, unless the New York Stock Exchange (the "Exchange") is
closed for other than customary weekends or holidays, or if
permitted by the rules of the Securities and Exchange Commission
during periods when trading on the Exchange is restricted or
during any emergency which makes it impracticable for the Funds
to dispose of their securities or to determine fairly the value
of their net assets, or during any other period permitted by
order of the Commission for protection of investors.
26<PAGE>
SHAREHOLDER LIABILITY
Under Massachusetts law, shareholders could, under certain
circumstances, be held personally liable for the obligations of
the Funds. However, the Agreement and Declaration of Trust
disclaims shareholder liability for acts or obligations of the
Funds and requires that notice of such disclaimer be given in
each agreement, obligation, or instrument entered into or
executed by the Funds or the Trustees. The Agreement and
Declaration of Trust provides for indemnification out of Fund
property for all loss and expense of any shareholder held
personally liable for the obligations of a Fund. Thus, the risk
of a shareholder incurring financial loss on account of
shareholder liability is limited to circumstances in which a Fund
would be unable to meet its obligations. The likelihood of such
circumstances is remote.
STANDARD PERFORMANCE MEASURES
Total return data for the Funds may from time to time be
presented in this Statement and in advertisements. Total return
for the one-year period and for the life of a Fund is determined
by calculating the actual dollar amount of investment return on a
$1,000 investment in a Fund made at the net asset value at the
beginning of the period, and then calculating the annual
compounded rate of return which would produce that amount. Total
return for a period of one year is equal to the actual return of
the Fund during that period. Total return calculations assume
reinvestment of all Fund distributions at net asset value on
their respective reinvestment dates. As of March 31, 1997, the
average annual total return for the Equity Market Plus Fund since
inception is 18.50% and the average annual total return for the
one-year period ended March 31, 1997 is 21.41%. For the five year
period, the average annual return was 21.3%. Since the Financial
Services Fund commenced operations as of the date of this
Statement, annualized total return information is not yet
available. At times, the Adviser may reduce its compensation or
assume expenses of a Fund in order to reduce a Fund's expenses.
The per share amount of any such fee reduction or assumption of
expenses for the life of a Fund, will be reflected in the
Prospectus as updated. Any such fee reduction or assumption of
expenses would increase a Fund's total return during the period
of the fee reduction or assumption of expenses.
Independent statistical agencies measure a Fund's investment
performance and publish comparative information showing how the
Fund, and similar investment companies, performed in specified
time periods. The agencies whose reports are commonly used are
Morningstar, Inc, Lipper Analytical Services and Wiesenberger
Investment Companies Service. From time to time, a Fund may
distribute these comparisons to its shareholders or to potential
investors.
27<PAGE>
Both Funds' performance may also from time to time be
compared to Standard & Poor's 500 Composite Stock Price Index
(the "S&P 500 Index"). The Financial Services Fund's performance
may also be compared to Standard & Poor's Financial Composite.
Standard & Poor's performance figures reflect changes of market
prices and reinvestment of all regular cash dividends and are not
adjusted for commissions or other costs. Because each Fund is a
managed portfolio investing in a variety of securities and
derivative instruments, the securities it owns will not match
those in the Index. Other publications, indices, and averages
that may be used are as follows:
a) CDA Mutual Fund Report, published by CDA Investment
Technologies, Inc. - analyzes price, current yield, risk,
total return and average rate of return (average annual
compounded growth rate) over specified time periods for the
mutual fund industry.
b) Mutual Fund Source book, published by Morningstar, Inc. -
analyzes price, yield, risk and total return for equity and
fixed income funds.
c) Financial publications: Barron's, Business Week, Changing
Times, Financial World, Forbes,
Fortune, and Money magazines - rate fund performance over
specified time periods.
d) Consumer Price Index (or Cost of Living Index) published by
the U.S. Bureau of Labor Statistics a statistical measure of
change, over time, in the price of goods and services in
major expenditure groups.
e) Stocks, Bonds, Bills, and Inflation, published by Ibbotson
Associates - historical measure of yield, price and total
return for common and small company stock, long-term
government bonds, treasury bills, and inflation.
f) Savings and Loan Historical Interest Rates - as published in
the U.S. Savings & Loan League Fact Book.
g) Salomon Brothers Broad Bond Index or its component indices -
The Broad Index measures yield, price and total return for
Treasury, Agency, Corporate, and Mortgage bonds.
h) Salomon Brothers Composite High Yield Index or its component
indices - The High Yield Index measures yield, price and
total return for Long-Term High-Yield Index, Intermediate-
Term High-Yield Index and Long-Term Utility High-Yield
Index.
i) Lehman Brothers Aggregate Bond Index or its component
indices - The Aggregate Bond Index measures yield, price and
total return for Treasury, Agency, Corporate, Mortgage, and
Yankee bonds.
j) Lehman Brothers Government/Corporate Bond Index.
28<PAGE>
k) Other taxable investments including certificates of deposit
(CD's), money market deposit accounts (MMDA's), checking
accounts, savings accounts, money market mutual funds,
repurchase agreements, and government securities.
l) Historical data supplied by the research departments of
Lehman Brothers, First Boston Corporation, Morgan Stanley,
Salomon Brothers, Merrill Lynch, Goldman Sachs, Prudential
Securities and Donaldson Lufkin and Jenrette.
m) Donoghues's Money Fund Report - industry averages for seven-
day annualized and compounded
yields taxable, tax-free and government money funds.
n) Total returns and yields for Treasury Securities and fixed
income indices as published by Ryan Laboratories or other
suppliers.
Volatility. Occasionally statistics may be used to specify Fund
volatility or risk. Measures of volatility or risk are generally
used to compare fund net asset value or performance relative to a
market index. One measure of volatility is beta. The ratio of
the expected excess return on the portfolio to the expected
excess return on the market index is
called beta. Equity funds commonly use the S&P 500 as their
market index. A beta of more than 1.00 indicates volatility
greater than the market, and a beta of less than 1.00 indicates
volatility less than the market. Another measure of volatility
or risk is standard deviation. Standard deviation is used to
measure variability of net asset value or total return around an
average, over a specified period of time. The premise is that
greater volatility connotes greater risk undertaken in achieving
performance. A statistic often used by sophisticated
institutional investors when comparing the relative performance
of portfolios is the Sharpe Ratio. This statistic is the
portfolio's excess return (relative to T-Bills) divided by the
standard deviation of its returns.
All data are based on past performance and do not predict future
results.
INDEPENDENT AUDITORS
Deloitte & Touche LLP, 117 Campus Drive, Princeton, New Jersey
08540, are the Funds' independent auditors, providing audit
services, tax return review and preparation services and
assistance and consultation in connection with the review of
various Securities and Exchange Commission filings.
29<PAGE>
EXPERTS
The financial statements of the Equity Market Plus Fund and
related notes thereto attached to this Statement of Additional
Information have been so attached in reliance upon the report of
Deloitte & Touche LLP, independent auditors, given on the
authority of said firm as experts in auditing and accounting. As
the Financial Services Fund commenced operations December 22,
1997, the date of this Statement, there are no audited financial
statements yet available for that Fund.
REPORT OF INDEPENDENT AUDITORS AND FINANCIAL STATEMENTS
See attached reports for the Equity Market Plus for the fiscal
year ended March 31, 1997 and for the six-month period ended
September 30, 1997. As the Financial Services Fund commenced
operations December 22, 1997, there are no such statements for
this Fund yet available.
30<PAGE>
Smith Breeden Equity Plus Fund Annual Report and Performance Review
(Effective December 22, 1997, the name of the Equity Plus Fund
will be changed to the Equity Market Plus Fund)
Performance Review
The Smith Breeden Equity Plus Fund provided a total return of
21.41% in the year ending March 31, 1997. The Fund's return exceeded
the 19.84% return of its benchmark, the S&P 500 Index, by 1.57%. Since
the Fund's inception on June 30, 1992, its return has exceeded that of its
benchmark by 14.22%, and on an annualized basis by 1.62%. The graph
below plots the Fund's return versus its benchmark and versus the average
return of Morningstar Inc.'s Growth and Income fund category.
THE LINE GRAPH DETAILING PERFORMANCE VERSUS THE EQUITY PLUS' INDEX
ACCORDING TO ITEM 5a. OF FORM N1-A IS LOCATED HERE IN THE TEXT AND IS
DESCRIBED BELOW IN ACCORDANCE WITH REG 232.304 OF REGULATION S-T:
THE GRAPH DEPICTS THE CHANGE IN VALUE OF A $10,000 INVESTMENT IN
THE VERSUS THE S&P 500 AND VERSUS THE AVERAGE OF
THE FUNDS IN MORNINGSTAR'S GROWTH AND INCOME CATEGORY.
THE EQUITY PLUS' AVERAGE ANNUAL RETURN WAS 21.41% FOR THE ONE YEAR PERIOD,
23.47% THE THREE YEAR PERIOD, 18.50% FOR THE PERIOD
SINCE INCEPTION. THE AVERAGE ANNUAL RETURN OF THE S&P 500 WAS 19.84%
FOR THE ONE YEAR PERIOD, 22.31% FOR THE THREE YEAR PERIOD, 16.88% FOR THE
PERIOD FROM INCEPTION. THE AVERAGE ANNUAL
RETURN OF THE AVERAGE OF THE FUNDS IN MORNINGSTAR'S GROWTH AND INCOME
CATEGORY WAS 16.10% FOR THE ONE YEAR PERIOD, 18.35% FOR THE THREE YEAR PERIOD,
AND 14.87% FOR THE FIVE YEAR AND SINCE INCEPTION RETURNS.
FROM INCEPTION THROUGH MARCH 31, 1997, AN INVESTMENT
OF $10,000 IN THE EQUITY PLUS WOULD HAVE GROWN TO $22,411, VERSUS
$20,988 IN ITS BENCHMARK, AND $19,320 OF THE AVERAGE OF THE FUNDS IN
MORNINGSTAR'S GROWTH AND INCOME CATEGORY.
The S&P 500 index return was produced by strong corporate
earnings rather than by falling interest rates in the year ending March 31,
1997. Corporate earnings were approximately 15% higher in the year
ending December 1996 over a year earlier. First quarter 1997 earnings
were also generally strong, in many cases exceeding analysts' expectations.
The growth in corporate earnings, combined with low unemployment
rates, caused some concern that the U.S. economy is growing too fast and
this led to moderately rising interest rates due to increased fears of
inflation. The thirty-year U.S. Treasury bond yield rose from 6.66% in
March 1996 to 7.09% in March 1997. Rising interest rates in turn
produced several small sell-offs in the stock market, resulting in declines in
the S&P 500 Index in three out of the last twelve months. It is by no
means clear that inflation is on the rise however, and much of the gain in
corporate earnings can be explained by the high levels of productive
investment made by corporations during this economic expansion.
The strategy employed by the Equity Plus Fund to achieve its goal
of providing a return in excess of the S&P 500 index has two components.
The Fund uses equity index futures contracts to track the S&P 500 index,
and it uses a hedged bond portfolio to provide income to cover the
operating costs of the fund as well as the financing costs of the equity index
futures contracts. Equity index futures contracts are available with
different maturity dates. Because the fund controls when it sells one equity
futures contract and buys a new one, it can take advantage of times when
one futures contract is cheap relative to another. Approximately 0.30% of
the Fund's return in excess of its benchmark for the year ending March
1997 was due to purchasing equity index futures at favorable prices relative
to the price of the contracts sold.
U.S. Government agency mortgage securities produced excellent
hedged returns in the year ended March 31, 1997, and the Equity Plus
Fund was able to take advantage of this performance to generate the rest of
the Fund's excess return over the S&P 500 index. One factor explaining
the superior performance by mortgages was a decline in interest rate
volatility. Mortgage buyers demand a yield premium when they purchase
mortgage bonds against the risk that interest rates will move in an
unfavorable direction. Because interest rate volatility measures the
likelihood of changes in the level of interest rates, when volatility falls
mortgage buyers demand a smaller premium and consequently the yield on
mortgages falls relative to the yield on U.S. Treasury securities. The
Equity Plus Fund held approximately 60% of its assets in adjustable-rate
mortgages during the year ended on March 31, 1997, and about 20% in
fixed-rate mortgages. The remaining assets were invested in U.S. Treasury
Bills.
<PAGE>
SMITH BREEDEN EQUITY PLUS FUND
SCHEDULE OF INVESTMENTS MARCH 31, 1997
Market
Face Amount Security Value
U.S. GOVERNMENT & AGENCY OBLIGATIONS - 121.45%
FEDERAL HOME LOAN MORTGAGE CORPORATION - 7.92% *
FHLMC:
$983,120 7.50%, due (a) ................................... $963,150
103,239 9.50%, due 7/1/02 ................................ 106,178
TOTAL FEDERAL HOME LOAN MORTGAGE CORPORATION
(Cost $1,090,669) 1,069,328
FEDERAL NATIONAL MORTGAGE ASSOCIATION - 6.94% *
FNMA:
110,165 12.50%, due 9/1/12 .............................. 126,541
104,722 13.50%, due 11/1/14 to 1/1/15 .................. 120,635
FNMA ARM:
660,968 7.753%, due 9/1/18.............................. 689,968
TOTAL FEDERAL NATIONAL MORTGAGE ASSOCIATION
(Cost $916,731) 937,144
GOVERNMENT NATIONAL MORTGAGE ASSOCIATION - 66.09% *
GNMA ARM:
2,020,000 5.00%, due 3/20/27 ........................... 1,953,136
1,990,000 5.50%, due (a) ............................... 1,944,294
2,632,161 6.50%, due 2/20/16 to 10/20/26 ............... 2,676,380
2,295,509 7.125%, due 4/20/16 to 9/20/22 ............... 2,353,002
TOTAL GOVERNMENT NATIONAL MORTGAGE ASSOCIATION
(Cost $8,904,340) 8,926,812
U.S. GOVERNMENT OBLIGATIONS - 40.50%
U.S. TREASURY BILL **
20,000 5.38%, due 5/29/97 ............................. 19,832
1,000,000 5.05%, due 5/29/97 ............................. 991,622
600,000 4.94%, due 5/29/97*** .......................... 594,973
2,000,000 5.12%, due 5/29/97 ............................. 1,983,244
600,000 5.08%, due 5/29/97 ............................. 594,973
700,000 5.06%, due 5/29/97 ............................. 694,136
500,000 5.02%, due 5/29/97 ............................. 495,812
100,000 5.21%, due 11/13/97*** ......................... 96,566
TOTAL U.S. GOVERNMENT OBLIGATIONS (Cost $5,472,482) 5,471,158
TOTAL U.S. GOVERNMENT & AGENCY OBLIGATIONS
(Cost $16,384,222) 16,404,442
Contracts OPTION CONTRACTS - 0.13%
3 Call on 5 Year US Treasury Note futures, expires 5/97,
strike price $110 47
37 Put on 5 Year US Treasury Note futures, expires 5/97,
strike price $104 17,922
TOTAL OPTION CONTRACTS (Cost $10,196) ................ 17,969
TOTAL INVESTMENTS (Cost $16,394,418) - 121.58% .... 16,422,411
CASH AND OTHER ASSETS LESS LIABILITIES - (21.58%) (2,915,034)
NET ASSETS - 100.00% ........................ $13,507,377
* Mortgage-backed obligations are subject to principal paydowns as a result
of prepayments or refinancings of the underlying mortgage loans. As a
result, the average life may be substantially less than the original
maturity. The interest rate shown in the rate in effect at March 31,
1997. ARMs have coupon rates which adjust periodically. The adjusted
rate is determined by adding a spread to a specified index.
** The interest rate shown is the discount rate paid at the time of purchase
by the Fund.
*** Security is segregated as collateral.
(a) To be Announced
Portfolio Abbreviations:
ARM - Adjustable-Rate Mortgage
FHLMC - Federal Home Loan Mortgage Corporation
FNMA - Federal National Mortgage Association
GNMA - Government National Mortgage Association
The accompanying notes are an integral part of these financial statements.
<PAGE>
SMITH BREEDEN EQUITY PLUS FUND
STATEMENT OF ASSETS AND LIABILITIES
31-Mar-97
ASSETS:
Investments at market value (identified cost $16,394,418)
(Note 1) $16,422,411
Cash........................................................ 62,780
Receivables:
Subscriptions............................................ 180,877
Interest................................................. 53,648
Maturities............................................... 2,590
Securities sold......................................... 2,925,313
Deferred organization expenses (Note 1)................... 6,796
TOTAL ASSETS.......................................... 19,654,415
LIABILITIES:
Variation margin on futures contracts (Note 2).............. 192,294
Payables:
Redemptions .............................................. 50,041
Securities purchased...................................... 5,876,144
Due to adviser (Note 3)..................................... 8,343
Accrued expenses............................................. 20,216
TOTAL LIABILITIES......................................... 6,147,038
NET ASSETS:
(Applicable to outstanding shares of 1,075,509; unlimited number of shares
of beneficial interest authorized; no stated par)....... $13,507,377
Net asset value, offering price and redemption
price per share ($13,507,377/ 1,075,509)................ $12.56
SOURCE OF NET ASSETS:
Paid in capital............................................. $13,094,357
Undistributed net investment income.......................... 36,234
Accumulated net realized gain on investments................. 865,097
Net unrealized depreciation of investments................... (488,311)
NET ASSETS............................................ $13,507,377
The accompanying notes are an integral part of these financial statements.
<PAGE>
SMITH BREEDEN EQUITY PLUS FUND
STATEMENT OF OPERATIONS
FOR THE YEAR ENDED MARCH 31, 1997
INVESTMENT INCOME:
Interest and discount earned, net of premium amortization
(Note 1)...... $473,488
EXPENSES:
Advisory fees (Note 3)........................................... 53,341
Accounting and pricing services fees........................... 25,141
Custodian fees................................................. 13,067
Audit and tax preparation fees.................................... 10,250
Legal fees....................................................... 2,799
Amortization of organization expenses (Note 1).......... 27,791
Transfer agent fees.............................................. 29,506
Registration fees............................................... 27,132
Trustees fees and expenses................................... 3,751
Insurance expense.................................... 6,549
Other.............................................................. 40
TOTAL EXPENSES BEFORE REIMBURSEMENT............ 199,367
Expenses reimbursed by Adviser (Note 3)....................... (131,965)
NET EXPENSES................................................ 67,402
NET INVESTMENT INCOME....................................... 406,086
REALIZED AND UNREALIZED GAIN ON INVESTMENTS:
Net realized gain on investments............................... 1,374,343
Change in unrealized appreciation (depreciation) of investments (526,585)
Net realized and unrealized gain on investments................ 847,758
Net increase in net assets resulting from operations......... $1,253,844
The accompanying notes are an integral part of these financial statements.
<PAGE>
SMITH BREEDEN EQUITY PLUS FUND
STATEMENTS OF CHANGES IN NET ASSETS
Year Ended Year Ended
March 31, 1997 March 31, 1996
OPERATIONS:
Net investment income....................... $406,086 $171,628
Net realized gain on investments............... 1,374,343 709,594
Change in unrealized appreciation (depreciation)
of investments..... (526,585) (66,654)
Net increase in net assets resulting from
operations.................. 1,253,844 814,568
DISTRIBUTIONS TO SHAREHOLDERS:
Dividends from net investment income.......... (382,446) (159,034)
Distributions from net realized gains on
investments............ (808,371) (371,974)
Total distributions........................ (1,190,817) (531,008)
CAPITAL SHARE TRANSACTIONS:
Shares sold................................ 8,844,701 2,256,010
Shares issued on reinvestment of distributions 1,125,870 502,798
Shares redeemed.......................... (1,292,755) (383,180)
Increase in net assets resulting from capital
share transactions (a) 8,677,816 2,375,628
TOTAL INCREASE IN NET ASSETS..... 8,740,843 2,659,188
NET ASSETS:
Beginning of year.......................... 4,766,534 2,107,346
End of year................................. $13,507,377 $4,766,534
(a) Transactions in capital shares were as follows:
Shares sold........................... 695,525 183,531
Shares issued on reinvestment of distributions 93,492 42,520
Shares redeemed........................ (102,037) (32,004)
Net increase........................... 686,980 194,047
Beginning balance ..................... 388,529 194,482
Ending balance........................ 1,075,509 388,529
The accompanying notes are an integral part of these financial statements.
<PAGE>
SMITH BREEDEN EQUITY PLUS FUND
FINANCIAL HIGHLIGHTS
<TABLE>
The following average per share data, ratios and supplemental information has been derived from information provided in the
financial statements.
<CAPTION>
Year Year Year Year Period
Ended Ended Ended Ended Ended
31-Mar-97 31-Mar-96 31-Mar-95 31-Mar-94 31-Mar-93*
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Period...........................$12.27 $10.84 $9.88 $10.85 $10.00
Income From Investment Operations
Net investment income......................................... 0.592 0.615 0.568 0.476 0.355
Net realized and unrealized gain (loss) on investments.........1.813 2.768 1.081 (0.216) 1.281
Total from investment operations.......................... 2.405 3.383 1.649 0.26 1.636
Less Distributions
Dividends from net investment income.......................... (0.59) (0.583) (0.568) (0.472) (0.311)
Dividends in excess of net investment income.................. - - 0.001 - -
Distributions from net realized gains on investments......... (1.525) (1.37) (0.047) (0.701) (0.42)
Distributions in excess of net realized gains on investments. - - (0.073) (0.057) (0.055)
Total distributions........................................(2.115) (1.953) (0.689) (1.23) (0.786)
Net Asset Value, End of Period.............................. $12.56 $12.27 $10.84 $9.88 $10.85
Total Return.................................................... 21.41% 32.30% 17.18% 2.19% 22.59%**
Ratios/Supplemental Data
Net assets, end of period................................ $13,507,377 $4,766,534 $2,107,346 $1,760,519 $903,846
Ratio of expenses to average net assets <F1>................. 0.88% 0.90% 0.90% 0.90% 0.57%**
Ratio of net investment income to average net assets <F2>.......5.30% 5.53% 7.44% 8.02% 5.28%**
Portfolio turnover rate.........................................182% 107% 120% 119% 271%
<FN>
<F1>
The annualized ratio of expenses to average net assets prior to reimbursement of expenses by the Adviser was 2.60%, 4.58%,
7.75%, 7.08%, and 28.48% for the years ended March 31, 1997, March 31, 1996, March 31, 1995, March 31, 1994, and the period ended
March 31, 1993, respectively.
</FN>
<FN>
<F2> The annualized ratio of net investment income to average net assets prior to reimbursement of expenses by the Adviser was
3.58%, 1.85%, 0.59%, 1.84%, and (22.63%) for the years ended March 31, 1997, March 31, 1996, March 31, 1995, March 31, 1994,
and the period ended March 31, 1993, respectively.
</FN>
</TABLE>
* Commenced operations June 30, 1992.
** Annualized
The accompanying notes are an integral part of these financial
statements.
<PAGE>
SMITH BREEDEN EQUITY PLUS FUND
NOTES TO FINANCIAL STATEMENTS
1. SIGNIFICANT ACCOUNTING POLICIES
The Smith Breeden Equity Plus Fund (the "Fund") is a series of the
Smith Breeden Trust (the "Trust"), an open-end, diversified
management investment company registered under the Investment
Company Act of 1940, as amended. The following is a summary of
significant accounting policies consistently followed by the Fund.
A. Security Valuation: Portfolio securities are valued at current
market value provided by a pricing service or by a bank or
broker/dealer experienced in such matters, when over-the-counter
market quotations are readily available. Securities and other assets for
which market prices are not readily available are valued at fair market
value as determined in accordance with procedures approved by the
Board of Trustees.
B. Distributions and Taxes: Dividends to shareholders are
recorded on the ex-dividend date. The Fund intends to continue to
qualify for and elect the special tax treatment afforded regulated
investment companies under Subchapter M of the Internal Revenue
Code, thereby relieving the Fund of federal income taxes. To so
qualify, the Fund intends to distribute substantially all of its net
investment income and net realized capital gains, if any, less any
available capital loss carryforward. As of March 31, 1997, the Fund
had no net capital loss carryforward.
C. Repurchase Agreements: The Fund may enter into
repurchase agreements with member banks of the Federal Reserve
System having total assets in excess of $500 million and securities
dealers, provided that such banks or dealers meet the credit guidelines
of the Fund's Board of Trustees. In a repurchase agreement, the Fund
acquires securities from a third party with the commitment that they
will be repurchased by the seller at a fixed price on an agreed upon
date. The Fund's custodian maintains control or custody of these
securities which collateralize the repurchase agreements until maturity
of the repurchase agreements. The value of the collateral is monitored
daily, and if necessary, additional collateral is received to ensure that
the market value of the underlying assets remains sufficient to protect
the Fund in the event of the seller's default. However, in the event of
default or bankruptcy of the seller, the Fund's right to the collateral
may be subject to legal proceedings.
D. Reverse Repurchase Agreements: A reverse repurchase
agreement involves the sale by the Fund of portfolio assets
concurrently with an agreement by the Fund to repurchase the same
assets at a later date at a fixed price. The Fund will maintain a
segregated account with its custodian, which will be marked to market
daily, consisting of cash, U.S. Government securities or other liquid
high-grade debt obligations equal in value to its obligations under
reverse repurchase agreements. In the event the buyer of securities
under a reverse repurchase agreement files for bankruptcy or becomes
insolvent, the Fund's use of the proceeds of the agreement may be
restricted pending a determination by the other party, or its trustee or
receiver, whether to enforce the Fund's obligation to repurchase the
securities.
<PAGE>
NOTES TO FINANCIAL STATEMENTS (cont.)
E. Determination Of Gains Or Losses On Sales Of
Securities: Gains or losses on the sale of securities are calculated for
accounting and tax purposes on the identified cost basis.
F. Deferred Organization Expenses: Deferred organization
expenses are being amortized on a straight-line basis over five years.
G. Securities Transactions and Investment Income: Interest
income is accrued daily on both long-term bonds and short-term
investments. Interest income also includes net amortization from the
purchase of fixed-income securities. Discounts and premiums on
securities purchased are amortized over the life of the respective
securities. Transactions are recorded on the first business day
following the trade date. Realized gains and losses from security
transactions are determined and accounted for on the basis of
identified cost.
2. FINANCIAL INSTRUMENTS
A. Derivative Financial Instruments Held or Issued for
Purposes other than Trading: The Fund uses interest rate futures
contracts for risk management purposes in order to manage the Fund's
interest-rate risk relative to its benchmark. Upon entering into a
futures contract, the Fund is required to deposit either cash or
securities in an amount (initial margin) equal to a certain percentage of
the contract value. Subsequent payments (variation margin) are made
or received by the Fund each day. The variation margin payments are
equal to the daily changes in the contract value and are recorded as
unrealized gains or losses. The Fund recognizes a realized gain or loss
when the contract is closed or expires equal to the difference between
the value of the contract at the time it was opened and the value at the
time it was closed.
Futures contracts involve costs and may result in losses. The effective
use of futures strategies depends on the Fund's ability to terminate
futures positions at times when the Fund's investment adviser deems it
desirable to do so. The use of futures also involves the risk of
imperfect correlation among movements in the values of the securities
underlying the futures purchased and sold by the Fund, of the futures
contract itself, and of the securities which are the subject of a hedge.
<PAGE>
NOTES TO FINANCIAL STATEMENTS (cont.)
The Fund had the following open futures contracts as of March 31,
1997:
Type Notional Position Expiration Unrealized
Amount Month Gain/(Loss)
3 Month Eurodollar $18,000,000 Long June, 1997 $(6,781)
3 Month Eurodollar 9,000,000 Short March, 1998 8,297
3 Month Eurodollar 9,000,000 Short September, 1998 2,210
3 Month Eurodollar 13,000,000 Short March, 1999 9,692
3 Month Eurodollar 9,000,000 Short September, 1999 584
3 Month Eurodollar 12,000,000 Short March, 2000 8,322
3 Month Eurodollar 1,000,000 Short June, 2000 1,845
3 Month Eurodollar 10,000,000 Short September, 2000 10,705
3 Month Eurodollar 13,000,000 Short March, 2001 10,016
10 Year Treasury 400,000 Short June, 1997 5,982
Total $50,872
B. Derivative Financial Instruments Held or Issued for
Trading Purposes:
The Fund invests in futures contracts on the S&P 500 Index and New
York Stock Exchange Index whose returns are expected to track
movements in the S&P 500 Index and New York Stock Exchange
Index.
The Fund had the following open futures contracts on the S&P 500
and New York Stock Exchange Indices as of March 31, 1997:
Type Notional Position Expiration Unrealized
Amount Month Gain/Loss
S&P 500 $10,599,680 Long June, 1997 $(423,940)
S&P 500 2,271,360 Long September, 1997 (134,280)
NYSE 199,275 Long June, 1997 (8,956)
Total $(567,176)
The aggregate market value of investments pledged to cover margin
requirements for the open positions at March 31, 1997 was $691,539.
3. INVESTMENT ADVISORY FEES AND OTHER
TRANSACTIONS WITH AFFILIATES
Smith Breeden Associates, Inc. (the "Adviser"), a registered
investment adviser, provides the Fund with investment management
services. As compensation for these services, the Fund pays the
<PAGE>
NOTES TO FINANCIAL STATEMENTS (cont.)
Adviser a fee computed daily and payable monthly, at an annual rate
equal to 0.70% of the Fund's average daily net asset value.
The Adviser has voluntarily agreed to reduce or otherwise limit the
expenses of the Fund to 0.88% of the Fund's average daily net assets.
This voluntary agreement may be terminated or modified at any time
by the Adviser in its sole discretion, except that the Adviser has
agreed to limit expenses of the Fund to 0.88% through March 31,
1997. For the year ended March 31, 1997, the Adviser received fees
of $53,341 and reimbursed the Fund $131,965.
Effective August 1, 1994, the Fund adopted a Distribution and
Services Plan (the "Plan") pursuant to Rule 12b-1 under the
Investment Company Act of 1940. The purpose of the Plan is to
permit the Adviser to compensate investment dealers and other
persons involved in servicing shareholder accounts for services
provided and expenses incurred in promoting the sale of shares of the
Fund, reducing redemptions, or otherwise maintaining or improving
services provided to shareholders by such dealers or other persons.
The Plan provides for payments by the Adviser, out of its advisory fee
paid to it by the Fund, to dealers and other persons at the annual rate
of up to 0.25% of the Fund's average net assets subject
to the authority of the Trustees of the Fund to reduce the amount of
payments permitted under the Plan or to suspend the Plan for such
periods as they may determine. Subject to these limitations, the
amount of such payments and the purposes for which they are made
shall be determined by the Adviser.
Certain officers and trustees of the Fund are also officers and directors
of the Adviser.
4. INVESTMENT TRANSACTIONS
During the year-ended March 31, 1997, purchases and proceeds from
sales of securities, other than short-term investments, aggregated
$19,129,765 and $11,798,195, respectively. The cost of securities for
federal income tax purposes is $16,394,418. Net unrealized
depreciation of investments and futures contracts consists of:
Gross unrealized appreciation $ 81,061
Gross unrealized depreciation (569,372)
Net unrealized depreciation $ (488,311)
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Trustees and Shareholders,
Smith Breeden Equity Plus Fund of the Smith Breeden Series Trust:
We have audited the accompanying statement of assets and liabilities,
including the schedule of investments, of the Smith Breeden Equity
Plus Fund of the Smith Breeden Series Trust as of March 31, 1997, and
the related statements of operations and cash flows for the year then
ended, the statements of changes in net assets for each of the years in
the two-year period then ended and the financial highlights for each of
the years in the four-year period then ended and the period June 30,
1992 (commencement of operations) to March 31, 1993. These
financial statements and the financial highlights are the responsibility of
the Fund's management. Our responsibility is to express an opinion on
these financial statements and the financial highlights based on our
audits.
We conducted our audits in accordance with generally accepted
auditing standards. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial
statements and the financial highlights are free of material misstatement.
An audit includes examining, on a test basis, evidence supporting the
amounts and disclosures in the financial statements. Our procedures
included confirmation of securities owned at March 31, 1997 by
correspondence with the custodian and brokers. An audit also includes
assessing the accounting principles used and significant estimates made
by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for
our opinion.
In our opinion, the financial statements and financial highlights referred
to above present fairly, in all material respects, the financial position of
the Smith Breeden Equity Plus Fund of the Smith Breeden Series Trust
as of March 31, 1997, the results of its operations and its cash flows,
the changes in its net assets, and the financial highlights for the
respective stated periods in conformity with generally accepted
accounting principles.
Deloitte & Touche LLP
Princeton, New Jersey
May 12, 1997
<PAGE>
SMITH BREEDEN TRUST
SMITH BREEDEN EQUITY MARKET PLUS
SMITH BREEDEN FINANCIAL SERVICES FUND
FORM N-1A PART C.
OTHER INFORMATION
Item 24. Financial Statements and Exhibits.
(a) Financial Statement filed with Part B
(b) Exhibits:
(1) Declaration of Trust: Incorporated by
Reference for the Smith Breeden Equity
Market Plus Fund; to be filed by
amendment hereto for the Smith Breeden
Financial Services Fund
(2) By-Laws:Incorporated by Reference
(3) Voting Trust Agreement: Not Applicable
(4) Specimen Share Certificate: Not
Applicable
(5) Form of Investment Advisory Agreement for Smith
Breeden Trust: Incorporated by
Reference for the Smith Breeden Equity
Market Plus Fund; filed herein for the
Smith Breeden Financial Services
Fund
(6) Form of Underwriting or Distribution Agreement:
Incorporated by Reference for the
Smith Breeden Equity Market Plus Fund;
filed herein for the Smith Breeden
Financial Services Fund
(7) Bonus, Profit Sharing, Pension and Other
Similar Arrangements: Not Applicable
(8) Custodian Agreement: Incorporated by Reference
(9)(a) Shareholder Services Agreement: Incorporated
by Reference for the Smith Breeden
Equity Market Plus Fund; to be filed by
amendment hereto for the Smith Breeden
Financial Services Fund
(9)(b) Accounting Services Agreement: Incorporated
by Reference for the Smith Breeden
Equity Market Plus Fund; to be filed by
amendment hereto for the Smith Breeden
Financial Services Fund
(9)(c) Sub-Administration Agreement: Not Applicable
(10) Opinion and Consent of Counsel: Incorporated
by Reference to Pre-Effective Amendment
Number 2 filed April 14, 1992
(11) Independent Auditor's Consent: Incorporated
by Reference for the Smith Breeden
Equity Market Plus Fund; filed herein
for the Smith Breeden Financial
Services Fund
(12) Financial Statements Omitted from Item 23:
Not Applicable
(13) Letter of Understanding relating to initial
capital: Incorporated by Reference
(14) Model Retirement Plan: Not Applicable
(15) Form of Rule 12b-1 Plan for Smith Breeden
Trust: Incorporated by Reference for
the Smith Breeden Equity Market Plus
Fund; filed herein for the Smith
Breeden Financial Services Fund
(16) Performance Calculation: Not Applicable
(17) Financial Data Schedule
(18) 18f-3 Multiclass Plan: Not Applicable
<PAGE>
Item 25. Persons Controlled by or under Common
Control with Registrant.
There were no persons controlled by under Common
Control with Registrant.
Item 26. Number of Holders of Securities.
NUMBER OF RECORD HOLDERS
TITLE OF CLASS AS OF SEPTEMBER 30, 1997
Smith Breeden Equity
Market Plus Fund 2,968
Shares of Beneficial Interest
As of September 30, 1997, the Smith Breeden
Financial Services Fund had no record holders.
Item 27. Indemnification.
Reference is made to Article IV,Sections 4.2 and 4.3
of Registrant's Declaration of Trust with respect to
indemnification of the Trustees and officers of
Registrant against liabilities which may be incurred
by them in such capacities.
Insofar as indemnification for liability arising under
the Securities Act of 1933, as amended (the "Act"),
may be permitted to directors, officers and controlling
persons of the Registrant pursuant to the foregoing
provisions, or otherwise, the Registrant has been
advised that, in the opinion of the Securities and
Exchange Commission ("SEC"), such indemnification is
against public policy as expressed in the Act, and is
therefore, unenforceable. In the event that a claim
for indeminfication against such liabilities (other
than the payment by the Registrant of expenses incurred
or paid by a trustee, an officer or a controlling
person of the Registrant in the successful defense of
any action, suit or proceeding) is asserted by such
trustee, officer or controlling person in connection
with the securities being registered, the Registrant
will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a
court of appropriate jurisdiction the question whether
such indemnification by it is against public policy as
expressed in the Act and will be governed by the final
adjudication of such issue.
Each disinterested Trustee has entered into an
indemnity agreement with the Adviser whereby the
Adviser indemnifies each disinterested Trustee against
defense costs in connection with a civil claim which
involves the Trustee by virtue of his position with
the Fund.
<PAGE>
Item 28. Business and Other Connections of Adviser.
Smith Breeden Associates, Inc. (the "Adviser") acts as
investment adviser to financial institution, insurance,
pension, charitable foundation clients and other
registered investment companies. For a description of
the officers and directors of the Adviser and their
business affiliations, see "Management of the Funds"
in the Prospectus contained within this Registration
Statement.
Item 29. Principal Underwriters
(a) FPS Broker Services, Inc., located at 3200 Horizon
Drive, P.O. Box 61503, King of Prussia, Pennsylvania
19406-0903, is the principal underwriter. FPS Broker
Services also serves as the Principal Underwriter for
the following entities:
The Govett Funds, Inc.
Bjurman Funds
Farrell ALpha Strategies
Focus Trust, Inc.
IAA Trust Growth Fund, Inc.
IAA Trust Asset Allocation Fund, Inc.
IAA Trust Tax Exempt Bond Fund, Inc.
IAA Trust Taxable Fixed Income Series
Fund, Inc.
Matthews International Funds
MCM Funds
Metropolitan West Funds
Polynous Trust
Sage/TSO Trust
Smith Breeden Series Fund
Smith Breeden Trust
The Stratton Funds, Inc.
Stratton Growth Fund, Inc.
Stratton Monthly Dividend Shares,Inc.
Trainer Wortham First Mutual Funds
(b) The table below sets forth certain information
as to the Underwriter's Directors, Officers and
Control Persons:
NAME AND PRINCIPAL POSITION AND OFFICES POSITION
BUSINESS ADDRESS WITH UNDERWRITER AND OFFICES
WITH
REGISTRANT
Kenneth J. Kempf Director None
3200 Horizon Drive and President
P.O. Box 61503
King of Prussia, PA
19406-0903
<PAGE>
Lynne M. Cannon Vice President None
3200 Horizon Drive and Principal
P.O. Box 61503
King of Prussia, PA
19406-0903
Rocco C. Cavalieri Director None
3200 Horizon Drive and Vice President
P.O Box 61503
King of Prussia, PA
19406-0903
Gerald J. Holland Director, Senior None
3200 Horizon Drive Vice President
P.O. Box 61503 and Principal
King of Prussia, PA
19406-0903
Joseph M. O'Donnell Director None
3200 Horizon Drive and Vice President
P.O. Box 61503
King of Prussia, PA
19406-0903
Sandra L. Adams Assistant None
3200 Horizon Drive Vice President
P.O. Box 61503 and Principal
King of Prussia, PA
19406-0903
John H. Leven Treasurer None
3200 Horizon Drive
P.O. Box 61503
King of Prussia, PA
19406-0903
Mary P. Efstration Secretary None
3200 Horizon Drive
P.O. Box 61503
King of Prussia, PA
19406-0903
Bruno DiStefano Principal None
3200 Horizon Drive
P.O. Box 61503
King of Prussia, PA
19406-0903
James W. Stratton may be considered a control person
of the Underwriter due to his direct or indirect
ownership of FPS Services, Inc., the parent of the
Underwriter.
c) Not Applicable.
<PAGE>
Item 30. Locations of Accounts and Records.
The accounts, books or other documents required to be
maintained by Section 31(a) of the Investment Company
Act of 1940 and the Rules thereunder will be kept by
the Registrant at the following offices:
(1) FPS Services, Inc., 3200 Horizon Drive,
P. O. Box 61503, King of Prussia,
Pennsylvania 19406-0903
(2) Smith Breeden Associates, Inc., 100 Europa
Drive, Suite 200, Chapel Hill, NC 27514
Item 31. Management Services.
There are no management-related service contracts
not discussed in Part A or Part B.
Item 32. Undertakings.
(a) The Registrant previously has undertaken to
promptly call a meeting of shareholders for the purpose
of voting upon the question of removal of any trustee
or trustees when requested in writing to do so by the
record holders of not less than 10 percent of the
Registrant's outstanding shares and to assist its
shareholders in accordance with the requirements of
Section 16(c) of the Investment Company Act of 1940
relating to shareholder communications.
(b) The registrant hereby undertakes to furnish to
each person to whom a prospectus is delivered a copy
of the Registrant's latest annual report to
shareholders upon request and without charge.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities
Act of 1933, as amended, and the Investment Company Act
of 1940, as amended, the Registrant has duly caused
this Amendment to the Registration Statement to be
signed on its behalf by the undersigned, thereunto
duly authorized, in the City of Chapel Hill,
the State of North Carolina, on the 6th day of
October, 1997.
SMITH BREEDEN TRUST
By
Michael J. Giarla
President
Pursuant to the requirements of the Securities Act
of 1933, this Amendment to the Registration Statement
has been signed below by the following persons in the
capacities and on the dates indicated.
SIGNATURE TITLE DATE
Michael J. Giarla President, October 6, 1997
Trustee
Douglas T. Breeden* Trustee October 6, 1997
Stephen M. Schaefer* Trustee October 6, 1997
Myron S. Scholes* Trustee October 6, 1997
William F. Sharpe* Trustee October 6, 1997
Marianthe S. Mewkill Principal October 6. 1997
Financial
and Accounting
Officer
* By:
Marianthe S. Mewkill
*Attorney-in-Fact pursuant to power-of-attorney filed
previously.
<PAGE>
CONSENT OF INDEPENDENT AUDITORS
Smith Breeden Trust:
We consent to the use in Post-Effective Amendment
No. 12 to Registration Statement No. 33-44909 of
our report dated May 12, 1997 relating to the Smith
Breeden Equity Plus Fund of Smith Breeden Trust incorporated by
reference in the Statement of Additional Information
which is a part of such Registration Statement, and
to the references to us under the captions "Experts"
appearing in the Statement of Additional Information
and "Financial Highlights" appearing in the
Prospectus, which also is a part of such
Registration Statement.
DELOITTE & TOUCHE LLP
Princeton, New Jersey
October 2, 1997
<TABLE> <S> <C>
<ARTICLE> 6
<SERIES>
<NUMBER> 1
<NAME> SMITH BREEDEN EQUITY PLUS FUND
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> MAR-31-1997
<PERIOD-END> MAR-31-1997
<INVESTMENTS-AT-COST> 16394418
<INVESTMENTS-AT-VALUE> 16422411
<RECEIVABLES> 3162428
<ASSETS-OTHER> 69576
<OTHER-ITEMS-ASSETS> 0
<TOTAL-ASSETS> 19654415
<PAYABLE-FOR-SECURITIES> 5876144
<SENIOR-LONG-TERM-DEBT> 0
<OTHER-ITEMS-LIABILITIES> 270894
<TOTAL-LIABILITIES> 6147038
<SENIOR-EQUITY> 0
<PAID-IN-CAPITAL-COMMON> 13094357
<SHARES-COMMON-STOCK> 1075509
<SHARES-COMMON-PRIOR> 388529
<ACCUMULATED-NII-CURRENT> 36234
<OVERDISTRIBUTION-NII> 0
<ACCUMULATED-NET-GAINS> 865097
<OVERDISTRIBUTION-GAINS> 0
<ACCUM-APPREC-OR-DEPREC> (488311)
<NET-ASSETS> 13507377
<DIVIDEND-INCOME> 0
<INTEREST-INCOME> 473488
<OTHER-INCOME> 0
<EXPENSES-NET> 67402
<NET-INVESTMENT-INCOME> 406086
<REALIZED-GAINS-CURRENT> 1374343
<APPREC-INCREASE-CURRENT> (526585)
<NET-CHANGE-FROM-OPS> 1253844
<EQUALIZATION> 0
<DISTRIBUTIONS-OF-INCOME> 382446
<DISTRIBUTIONS-OF-GAINS> 808371
<DISTRIBUTIONS-OTHER> 0
<NUMBER-OF-SHARES-SOLD> 695525
<NUMBER-OF-SHARES-REDEEMED> 102037
<SHARES-REINVESTED> 93492
<NET-CHANGE-IN-ASSETS> 8740843
<ACCUMULATED-NII-PRIOR> 12594
<ACCUMULATED-GAINS-PRIOR> 299125
<OVERDISTRIB-NII-PRIOR> 0
<OVERDIST-NET-GAINS-PRIOR> 0
<GROSS-ADVISORY-FEES> 53341
<INTEREST-EXPENSE> 0
<GROSS-EXPENSE> 199367
<AVERAGE-NET-ASSETS> 7655310
<PER-SHARE-NAV-BEGIN> 12.270
<PER-SHARE-NII> 0.592
<PER-SHARE-GAIN-APPREC> 1.813
<PER-SHARE-DIVIDEND> 0.590
<PER-SHARE-DISTRIBUTIONS> 1.525
<RETURNS-OF-CAPITAL> 0
<PER-SHARE-NAV-END> 12.560
<EXPENSE-RATIO> 0.88
<AVG-DEBT-OUTSTANDING> 0
<AVG-DEBT-PER-SHARE> 0
</TABLE>
UNDERWRITING AGREEMENT
This Agreement, dated as of the 1st day of August,
1997, and amended September 29 , 1997, made by and
between The Smith Breeden Trust a Massachusetts
business trust (the "Trust") operating as an open-end
management investment company registered under the
Investment Company Act of 1940, as amended
(the "Act"); Smith Breeden Associates, Inc. ("Smith
Breeden"), a registered investment advisor duly
organized and existing as a corporation under the
laws of the state of Kansas; and FPS Broker Services,
Inc. ("FPSB"), a corporation duly organized and
existing under the laws of the State of Delaware
(collectively, the "Parties").
WITNESSETH THAT:
WHEREAS, the Trust is authorized by its Declaration
of Trust to issue separate series of shares
representing interests in separate investment
portfolios (the "Series"), which Series are
identified on Schedule "C" attached hereto,
and which Schedule "C" may be amended from
time to time by mutual agreement among the
Parties; and
WHEREAS, Smith Breeden has been appointed investment
adviser to the Trust; and
WHEREAS, FPSB is a broker-dealer registered with the
U.S. Securities and Exchange Commission and a
member in good standing of the National
Association of Securities Dealers, Inc. (the
"NASD"); and
WHEREAS, the Parties are desirous of entering into an
agreement providing for the distribution by
FPSB of the shares of the Trust (the "Shares").
NOW, THEREFORE, in consideration of the premises and
mutual covenants contained herein, and in
exchange of good and valuable consideration,
the sufficiency and receipt of which is hereby
acknowledged, the Parties hereto, intending to
be legally bound, do hereby agree as follows:
1. Appointment.
The Trust hereby appoints FPSB as its principal
agent for the distribution of the Shares in the
fifty United States of America, the District of
Columbia and Commonwealth of Puerto Rico, and
FPS hereby accepts such appointment under the
terms of this Agreement. The Trust agrees that
it will not sell any shares to any person
except to fill orders for the shares received
through FPSB; provided, however, that the
foregoing exclusive right shall not apply:
(a) to shares issued or sold in connection with
the merger or consolidation of any other
investment company with the Trust or the
acquisition by purchase or otherwise of all or
substantially all of the assets of any
investment company or substantially all of the
outstanding shares of any such company by the
Trust; (b) to shares which may be offered by
the Trust to its stockholders for reinvestment
of cash distributed from capital gains or net
investment income of the Trust; or (c) to
shares which may be issued to shareholders of
other funds who exercise any exchange privilege
set forth in the Trust's Prospectus.
Notwithstanding any other provision hereof, the
Trust may terminate, suspend, or withdraw the
offering of the Shares whenever, in their sole
discretion, they deem such action to be
desirable.
2. Sale and Repurchase of Shares.
(a) FPSB is hereby granted the right, as
agent for the Trust, to sell Shares to
the public against orders received at
the public offering price as defined in
the Trust's Prospectus and Statement of
Additional Information.
(b) FPSB will also have the right to take,
as agent for the Trust, all actions
which, in FPSB's judgement, and subject
to the Trust's reasonable approval, are
necessary to carry into effect the
distribution of the Shares.
(c) FPSB will act as agent for the Trust in
connection with the repurchase of
Shares by the Trust upon the terms set
forth in the Trust's Prospectus and
Statement of Additional Information.
(d) The net asset value of the Shares shall
be determined in the manner provided in
the then current Prospectus and
Statement of Additional Information
relating to the Shares, and when
determined shall be applicable to all
transactions as provided in the
Prospectus. The net asset value of the
Shares shall be calculated by the Trust
or by another entity on behalf of the
Trust. FPSB shall have no duty to
inquire into, or liability for, the
accuracy of the net asset value per
Share as calculated.
(e) On every sale, FPSB shall promptly pay
to the Trust the applicable net asset
value of the Shares.
(f) Upon receipt of purchase instructions,
FPSB will transmit such instructions to
the Trust or its transfer agent for
registration of the Shares purchased.
(g) Nothing in this Agreement shall prevent
FPSB or any affiliated person (as
defined in the Act) of FPSB from acting
as underwriter for any other person,
firm or corporation (including other
investment companies), or in any way
limit or restrict FPSB or such
affiliated person from buying, selling
or trading any securities for its or
their own account or for the accounts
of others for whom it or they may be
acting; provided, however, that FPSB
expressly agrees that it will not for
its own account purchase any Shares of
the Trust except for investment
purposes, and that it will not for its
own account dispose of any such Shares
except by redemption of such Shares
with the Trust, and that it will not
undertake in any activities which, in
its judgement, will adversely affect
the performance of its obligations to
the Trust under this Agreement.
3. Rules of Sale of Shares.
FPSB does not agree to sell any specific number
of Shares and serves only in the capacity of
Statutory Underwriter. The Trust reserves the
right to terminate, suspend or withdraw the
sale of its Shares for any reason deemed
adequate by it, and the Trust reserves the
right to refuse at any time or times to sell
any of its Shares to any person for any reason
deemed adequate by it.
4. Rules of NASD, etc.
(a) FPSB will conform to the Conduct Rules
of the NASD and the securities laws of
any jurisdiction in which it directly
or indirectly sells any Shares.
(b) FPSB will require each dealer with whom
FPSB has a selling agreement to conform
to the applicable provisions of the
Prospectus, with respect to the public
offering price of the Shares, and FPSB
shall not cause the Trust to withhold
the placing of purchase orders so as to
make a profit thereby.
(c) The Trust and Smith Breeden agree to
furnish to FPSB sufficient copies of
any and all: agreements, plans,
communications with the public or other
materials which the Trust or Smith
Breeden intend to use in connection
with any sales of Shares, in adequate
time for FPSB to file and clear such
materials with the proper authorities
before they are put in use. FPSB and
the Trust or Smith Breeden may agree
that any such material does not need to
be filed subsequent to distribution.
In addition, the Trust and Smith Breeden
agree not to use any such materials
until so filed and cleared for use, if
required, by appropriate authorities as
well as by FPSB.
(d) FPSB, at its own expense, will qualify
as a dealer or broker, or otherwise,
under all applicable state or federal
laws required in order that the Shares
may be sold in such states as may be
mutually agreed upon by the Parties.
(e) FPSB shall remain registered with the
U.S. Securities and Exchange Commission
and a member of the National
Association of Securities Dealers for
the term of this Agreement.
(f) FPSB shall not, in connection with any
sale or solicitation of a sale of the
Shares, make or authorize any
representative, service organization,
broker or dealer to make any
representations concerning the Shares,
except those contained in the
Prospectus offering the Shares and in
communications with the public or sales
materials approved by FPSB as
information supplemental to such
Prospectus. Copies of the Prospectus
will be supplied by the Trust or Smith
Breeden to FPSB in reasonable
quantities upon request.
(g) FPSB shall only be authorized to make
representations in respect of the Trust
consistent with the then current
Prospectus, Statement of Additional
Information, and other written
information provided by the Trust or
its agents to be used explicitly with
respect to the sale of Shares.
5. Records to be Supplied by the Trust.
The Trust shall furnish to FPSB copies of all
information, financial statements and other
papers which FPSB may reasonably request for
use in connection with the underwriting of the
Shares including, but not limited to, one
certified copy of all financial statements
prepared for the Trust by its independent
public accountants.
6. Expenses.
(a) The Trust will bear the following expenses:
(i) preparation, setting in type,
and printing of sufficient
copies of the Prospectus and
Statement of Additional
Information for distribution to
shareholders, and the cost of
distribution of same to the
shareholders;
(ii) preparation, printing and
distribution of reports and
other communications to
shareholders;
(iii) registration of the Shares
under the federal securities
laws;
(iv) qualification of the Shares
for sale in the jurisdictions
as directed by the Trust;
(v) maintaining facilities for the
issue and transfer of the
Shares;
(vi) supplying information, prices
and other data to be furnished
by the Trust under this
Agreement; and
(vii) any original issue taxes or
transfer taxes applicable to
the sale or delivery of the
Shares or certificates therefor.
(b) Smith Breeden will pay all other
expenses incident to the sale and
distribution of the Shares sold
hereunder.
(c) FPSB agrees to pay all of its own
expenses in performing its obligations
hereunder.
7. Term and Compensation.
(a) The term of this Agreement shall
commence on the date on hereinabove
first written (the "Effective Date").
(b) This Agreement shall remain in effect
for one (1) year from the Effective
Date. This Agreement shall continue
thereafter for periods not exceeding
one (1) year, if approved at least
annually (i) by a vote of a majority
of the outstanding voting securities
of each Series; or (ii) by a vote of
a majority of the Trustees of the Trust
who are not parties to this Agreement
(other than as Trustees of the Trust)
or interested persons of any such party,
cast in person at a meeting called for
the purpose of voting on such approval.
(c) Fees payable to FPSB shall be paid by
Smith Breeden as set forth in Schedule
"B" attached and shall be fixed for the
one (1) year period commencing on the
Effective Date of this Agreement.
Thereafter, the fee schedule will be
subject to annual review and adjustment.
(d) This Agreement (i) may be terminated at
any time without the payment of any
penalty, either by a vote of the
Trustees of the Trust or by a vote of a
majority of the outstanding voting
securities of each Series with respect
to such Series, on sixty (60) days'
written notice to FPSB; and (ii) may be
terminated by FPSB on sixty (60) days'
written notice to the Trust with
respect to any Series.
(e) This Agreement shall automatically
terminate in the event of its
assignment, as defined in the
Investment Company Act of 1940.
8. Indemnification of FPSB by Smith Breeden and
the Trust.
FPSB is responsible for its own conduct and the
employment, control, and conduct of its agents
and employees and for injury to such agents or
employees or to others caused by it, its agents
or employees. Notwithstanding the above.
Smith Breeden and the Trust will indemnify and
hold FPSB harmless for the actions of Smith
Breeden's employees registered with the NASD as
registered representatives of FPSB, and Smith
Breeden hereby undertakes to maintain
compliance with all NASD and U.S. Securities
and Exchange Commission rules and regulations
concerning any activities of such employees.
9. Liability of FPSB.
(a) FPSB, its directors, officers,
employees, shareholders and agents
shall not be liable for any error of
judgement or mistake of law or for any
loss suffered by the Trust in
connection with the performance of this
Agreement, except a loss resulting from
a breach of FPSB's obligations pursuant
to Section 4 of this Agreement (Rules
of NASD), a breach of fiduciary duty
with respect to the receipt of
compensation for services or a loss
resulting from willful misfeasance, bad
faith or gross negligence on the part
of FPSB in the performance of its
obligations and duties or by reason of
its reckless disregard of its
obligations and duties under this
Agreement. FPSB agrees to indemnify
and hold harmless the Trust and each
person who has been, is, or may
hereafter be a Trustee, officer, or
employee of the Trust against expenses
reasonably incurred by any of them in
connection with any claim or in
connection with any action, suit, or
proceeding to which any of them may be
a party, which arises out of or is
alleged to arise out of any
misrepresentation or omission to state
a material fact, or out of any alleged
misrepresentation or omission to state
a material fact, on the part of FPSB or
any agent or employee of FPSB or any
other person for whose acts FPSB
is responsible or is alleged to be
responsible unless such
misrepresentation or omission was made
in reliance upon written information
furnished to FPSB by the Trust. FPSB
also agrees to indemnify and hold
harmless the Trust and each such person
in connection with any claim or in
connection with any action, suit, or
proceeding which arises out of or is
alleged to arise out of FPSB's failure
to exercise reasonable care and
diligence with respect to its services
rendered in connection with the
purchase and sale of Shares. The
foregoing rights of indemnification
shall be in addition to any other
rights to which the Trust or any such
person shall be entitled to as a
matter of law.
(b) The Trust agrees to indemnify and hold
harmless FPSB against any and all
liability, loss, damages, costs or
expenses (including reasonable counsel
fees) which FPSB may incur or be
required to pay hereafter, in
connection with any action, suit or
other proceeding, whether civil or
criminal, before any court or
administrative or legislative body, in
which FPSB may be involved as a party
or otherwise or with which FPSB may be
threatened, by reason of the offer or
sale of the Trust's Shares by persons
other than FPSB or its representatives,
prior to the execution of this
Agreement. If a claim is made against
FPSB as to which FPSB may seek
indemnity under this Section, FPSB
shall notify the Trust promptly after
any written assertion of such claim
threatening to institute an action
or proceeding with respect thereto and
shall notify the Trust promptly of any
action commenced against FPSB within 10
days time after FPSB shall have been
served with a summons or other legal
process, giving information as to the
nature and basis of the claim. Failure
to so notify the Trust shall not,
however, relieve the Trust from any
liability which it may have on account
of the indemnity under this Section
9(b) if the Trust has not been
prejudiced in any material respect by
such failure. The Trust shall have the
sole right to control the settlement of
any such action, suit or proceeding
subject to FPSB's approval, which shall
not be unreasonably withheld. FPSB
shall have the right to participate in
the defense of an action or proceeding
and to retain its own counsel, and the
reasonable fees and expenses of such
counsel shall be borne by the Trust
(which shall pay such fees, costs and
expenses at least quarterly) if:
(i) FPSB has received an opinion of
counsel stating that the use of
counsel chosen by the Trust to
represent FPSB would present
such counsel with a conflict of
interest;
(ii) the defendants in, or targets
of, any such action or
proceeding include both FPSB
and the Trust, and legal
counsel to FPSB shall have
reasonably concluded that there
are legal defenses available to
it which are different from or
additional to those available
to the Trust or which may be
adverse to or inconsistent with
defenses available to the Trust
(in which case the Trust shall
not have the right to direct
the defense of such action on
behalf of FPSB); or
(iii) the Trust shall authorize FPSB
to employ separate counsel at
the expense of the Trust.
(c) Any person, even though also a
director, officer, employee,
shareholder or agent of FPSB, who may
be or become an officer, director,
Trustee, employee or agent of the
Trust, shall be deemed, when rendering
services to the Trust or acting on any
business of the Trust (other than
services or business in connection with
FPSB's duties hereunder), to be
rendering such services to or acting
solely for the Trust and not as a
director, officer, employee,
shareholder or agent, or one under the
control or direction of FPSB even
though receiving a salary from FPSB.
(d) The Trust agrees to indemnify and hold
harmless FPSB, and each person who
controls FPSB within the meaning of
Section 15 of the Securities Act of
1933, as amended (the "Securities
Act"), or Section 20 of the Securities
Exchange Act of 1934, as amended (the
"Exchange Act"), against any and all
losses, claims, damages and
liabilities, joint or several
(including any reasonable
investigative, legal and other expenses
incurred in connection therewith) to
which they, or any of them, may become
subject under the Act, the Securities
Act, the Exchange Act or other federal
or state law or regulation, at common
law or otherwise insofar as such
losses, claims, damages or liabilities
(or actions, suits or proceedings in
respect thereof) arise out of or are
based upon any untrue statement or
alleged untrue statement of a material
fact contained in a Prospectus,
Statement of Additional Information,
supplement thereto, sales literature
(or other written information) prepared
by the Trust and furnished by the Trust
to FPSB for FPSB's use hereunder,
disseminated by the Trust or which
arise out of or are based upon any
omission or alleged omission to state
therein a material fact required to be
stated therein or necessary to make the
statements therein not misleading. Such
indemnity shall not, however, inure to
the benefit of FPSB (or any person
controlling FPSB) on account of any
losses, claims, damages or liabilities
(or actions, suits or proceedings in
respect thereof) arising from the sale
of the Shares of the Trust to any
person by FPSB (i) if such untrue
statement or omission or alleged untrue
statement or omission was made in the
Prospectus, Statement of Additional
Information, or supplement, sales or
other literature, in reliance upon and
in conformity with information
furnished in writing to the Trust by
FPSB specifically for use therein or
(ii) if such losses, claims, damages or
liabilities arise out of or are based
upon an untrue statement or omission or
alleged untrue statement or omission
found in any Prospectus, Statement of
Additional Information, supplement,
sales or other literature, subsequently
corrected, but negligently distributed
by FPSB and a copy of the corrected
Prospectus was not delivered to such
person at or before the confirmation of
the sale to such person.
(e) FPSB shall not be responsible for any
damages, consequential or otherwise,
which Smith Breeden or the Trust may
experience, due to the disruption of
the distribution of Shares caused by
any action or inaction of any
registered representative or affiliate
of FPSB or of FPSB itself.
10. Amendments.
No provision of this Agreement may be amended
or modified in any manner whatsoever, except
by a written agreement properly authorized and
executed by the Parties.
11. Section Headings.
Section and paragraph headings are for
convenience only and shall not be construed as
part of this Agreement.
12. Reports.
FPSB shall prepare reports for the Board of
Trustees of the Trust, on a quarterly basis,
showing such information as, from time to time,
shall be reasonably requested by the Board.
13. Severability.
If any part, term or provision of this
Agreement is held by any court to be illegal,
in conflict with any law or otherwise invalid,
the remaining portion or portions shall be
considered severable and not affected, and the
rights and obligations of the Parties shall be
construed and enforced as if the Agreement did
not contain the particular part, term or
provision held to be illegal or invalid
provided that the basic agreement is not
thereby substantially impaired.
14. Governing Law.
This Agreement shall be governed by the laws of
the Commonwealth of Pennsylvania and the
exclusive venue of any action arising under
this Agreement shall be Montgomery County,
Commonwealth of Pennsylvania.
15. Authority to Execute
The Parties represent and warrant to each other
that the execution and delivery of this
Agreement by the undersigned officer of each
Party has been duly and validly authorized;
and, when duly executed, this Agreement will
constitute a valid and legally binding and
enforceable obligation of each Party.
IN WITNESS WHEREOF, the Parties hereto have caused
this Agreement consisting of ten type
written pages, together with Schedule "A",
Schedule "B", and Schedule "C", to be signed by
their duly authorized officers, as of the day
and year first above written.
Smith Breeden FPS Broker
Associates, Inc. Services, Inc.
By: Michael J. Giarla By: Kenneth J. Kempf
President & COO President
The Smith Breeden Trust
By: Michael J. Giarla
President
SCHEDULE "A"
UNDERWRITER/SPONSOR SERVICES
FOR
THE SMITH BREEDEN TRUST
I. Underwriter/Sponsor services include:
A) Preparation and execution of
Underwriter and 12b-1 Plan
Agreements
-Monitoring accruals
-Monitoring expenses
-Disbursements for expenses and trail
commissions
B) Quarterly 12b-1 Reports to Board of
Trustees
C) Literature review, recommendations and
submission to the NASD
D) Initial NASD Licensing and Transfers of
Registered Representatives
-U-4 Form and Fingerprint Submission to
NASD
-Supplying Series 6 and 63 written
study material
-Registration for Exam Preparation
classes
-Renewals and Terminations of
Representatives
E) Written supervisory procedures and
manuals for Registered Representatives
F) Ongoing compliance updates for
Representatives regarding sales
practices, written correspondence and
other communications with the public.
G) NASD Continuing Education Requirement
SCHEDULE "B"
STATUTORY UNDERWRITER SCHEDULE
FOR
THE SMITH BREEDEN TRUST
This Fee Schedule is fixed for a period of one (1) year
from the Effective Date as that term is defined in the
Agreement.
I. Statutory Underwriter Services
A) The Trust agrees to pay FPS Broker
Services, Inc. (FPSB) $15,000 for the
services performed under this
Agreement.
B) FPSB agrees register certain employees
of Smith Breeden Associates, Inc., as
its representatives follows:
Up to 10 States: $2,000 per
Representative
per Year
All 50 States: $4,000 per
Representative
per Year
SCHEDULE "C"
Identification of Series
Below are listed the Series and Classes of Shares to
which services under this Agreement are to be performed
as of the Effective Date of this Agreement:
"The Smith Breeden Trust"
Smith Breeden Equity Plus Fund
Smith Breeden Financial Services Fund
This Schedule "C" may be amended from time to time by
agreement of the Parties, and was amended
October 1, 1997 to reflect the addition of the new
series: The Smith Breeden Financial Services Fund.
INVESTMENT ADVISORY AGREEMENT
Between
SMITH BREEDEN TRUST
and
SMITH BREEDEN ASSOCIATES, INC.
INVESTMENT ADVISORY AGREEMENT dated October 1, 1997
between SMITH BREEDEN TRUST, a Massachusetts trust
("the Trust"), on behalf of its Smith Breeden Financial
Services Fund series (the "Portfolio"), and SMITH
BREEDEN ASSOCIATES, INC., a corporation organized and
existing under the laws of the State of Kansas
(hereinafter called the "Manager").
WITNESSETH:
Whereas, the Portfolio is engaged in business as an
open-end management investment company and has
registered as such under the federal Investment
Company Act of 1940, as amended (the "Act");
WHEREAS, the Manager is engaged principally in the
business of rendering investment management and
administrative services and is registered as an
investment adviser under the federal investment
Advisers Act of 1940, as amended: and
WHEREAS, the Portfolio wishes to engage the Manager to
provide certain investment management and
administrative services, and the Manager is
willing to provide such services, all on the
terms and conditions hereinafter set forth.
NOW, THEREFORE, in consideration of the premises and
the mutual promises hereinafter set forth, the
parties hereto agree as follows:
1. Duties and Responsibilities of Manager.
A. Investment Advisory Services. The
Manager shall act as investment adviser
to and shall supervise and direct the
investments of the Portfolio in
accordance with the Portfolio's
investment objectives, program and
restrictions as provided in the
Portfolio's then current Registration
Statement under the Act, and such other
directions or limitations as the
Portfolio may impose by notice in
writing to the Manager. The Manager
shall obtain and evaluate such
information relating to the economy,
industries, businesses, securities
markets and securities as it may deem
necessary or useful in the discharge of
its obligations hereunder and shall
formulate and implement a continuing
program for the management of the
assets and resources of the Portfolio
in a manner consistent with its
investment objective. The Manager
shall for all purposes be deemed to be
an independent contractor and shall,
except as expressly provided or
authorized (whether herein or
otherwise), have no authority to act
for or represent the Portfolio in any
way or otherwise be deemed an agent of
the Portfolio.
In furtherance of its duties hereunder,
the Manager is authorized, in its
discretion and without prior
consultation with the Portfolio, to:
(i) buy, sell, exchange, convert,
lend, and otherwise trade in
any stocks, bonds, and other
securities; financial, stock,
and stock index futures and
options; swap contracts or
other assets; and
(ii) directly place orders and
negotiate the commissions (if
any) for the execution of
transactions in securities,
financial futures, swap
contracts or other assets with
or through such brokers,
dealers, underwriters or
issuers as the Manager may
select.
B. Administrative Services. Subject to
the overall authority of the Board of
Trustees of the Portfolio, the Manager
shall provide general administrative
services and oversee the operation of
the Portfolio ("Administrative
Services"). Such Administrative
Services shall not include investment
advisory, custodial, underwriting and
distribution, transfer agency,
shareholder or accounting services, or
the preparation and filing of the
Portfolio's tax returns, but shall
include, without limitation:
(i) the provision of office space
and equipment necessary in
connection with the maintenance
of the headquarters of the
Portfolio;
(ii) the maintenance of the books
and records of the Portfolio,
and making arrangements for the
meetings of the Trustees of the
Portfolio including the
preparation of agendas and
supporting materials therefor;
(iii) the preparation of
communications and reports to
investors in the Portfolio and
making arrangements for
meetings of such investors;
(iv) the preparation and filing of
all required reports and all
updating and other amendments
to the Portfolio's registration
statement under the Act and the
rules and regulations
thereunder;
(v) the periodic computation and,
as necessary, reporting to the
Trustees of the Portfolio of
the Portfolio's compliance with
its investment objective and
policies with the Portfolio
diversification and other
Portfolio requirements of the
Act and, to the extent
required, the Internal Revenue
Code; and
(vi) the negotiation of agreements
or other arrangements with,
and general oversight and
coordination of the activities
of, agents and others retained
by the Portfolio to provide
custodial, net asset value
computation, Portfolio
accounting, legal, tax and
accounting services.
It is understood that the Manager may,
in its discretion and at its expense,
delegate some or all of its
administrative duties and
responsibilities under this paragraph
1.B to any person provided that the
Manager gives prior notice to the
Portfolio.
C. Reports to Portfolio. The Manager shall
furnish to or place at the disposal of
the Portfolio such information, reports,
evaluations, analyses and opinions
relating to the Manager and its
investment management of the
Portfolio's portfolio securities as the
Portfolio may, at any time or from time
to time, reasonably request or as the
Manager may deem helpful.
D. Reports and Other Communications to
Investors. The Manager shall assist
the Portfolio in providing
communications to investors as may
reasonably be necessary.
E. Portfolio Personnel. The Manager will
permit individuals who are officers or
employees of the Manager to serve (if
duly elected or appointed) as officers,
trustees, members of any committee of
trustees, members of any advisory
board, or members of any other
committee of the Portfolio, without
remuneration or other cost to the
Portfolio.
F. Personnel, Office Space, and Facilities
of Manager. The Manager at its own
expense shall furnish or provide and
pay the cost of such office space,
office equipment, office personnel, and
office services as the Manager requires
in the performance of its investment
advisory, administrative and other
obligations under this Agreement.
2. Allocation of Expenses.
A. Expenses Paid by Manager.
(i) Expenses Paid by Manager.
The Manager shall pay all
salaries, expenses, and fees of
the officers and trustees of
the Portfolio who are employees
of the Manager. The Manager is
not obligated to bear any other
expenses incidental to the
operations and business of the
Portfolio.
(ii) Assumption of Expenses by
Manager. The payment or
assumption by the Manager of
any expense of the Portfolio
that the Manager is not
required by this Agreement to
pay or assume shall not
obligate the Manager to pay or
assume the same or any similar
expense on any subsequent
occasion.
B. Expenses Paid by Portfolio. The
Portfolio shall bear all expenses of
its organization, operations, and
business not specifically assumed or
agreed to be paid by the Manager as
provided in this Agreement. In
particular, but without limiting the
generality of the foregoing, the
Portfolio shall pay:
(i) Management Fees. The fees of
the Manager as provided
in paragraph 3 below;
(ii) Custody and Accounting Services.
All expenses of the transfer,
receipt, safekeeping, servicing
and accounting for the cash,
securities, and other property
of the Portfolio, including all
charges of depositories,
custodians, and other agents,
if any;
(iii) Investor Servicing. All
expenses of establishing,
maintaining and servicing
investor accounts, including
all charges of agents for
account transfers, account
record keeping, and account
distribution or disbursement;
(iv) Distribution and Service Fees.
The fees, if any, payable
pursuant to any plan heretofore
or hereafter adopted by the
Portfolio pursuant to Rule
12b-1 under the Act.
(v) Investor Meetings. All
expenses incidental to holding
meetings of the Portfolio's
investors;
(vi) Pricing. All expenses of
computing the Portfolio's net
asset value, including the cost
of any equipment or services
used for obtaining price
quotations and the fees of any
independent pricing service
authorized by the Trustees of
the Portfolio;
(vii) Communication Equipment. All
charges for equipment or
services used for communication
between the Manager or the
Portfolio and the custodian,
transfer agent or any other
agent selected by the
Portfolio;
(viii) Legal, Accounting, and Tax
Preparation Fees and Expenses.
All charges for services and
expenses of the Portfolio's
legal counsel and independent
auditors;
(ix) Trustees' Fees and Expenses.
All compensation of Trustees of
the Portfolio, other than those
who are interested persons of
the Portfolio, and all expenses
(including fees and
disbursements of their legal
counsel) incurred in connection
with their service;
(x) Federal Registration Fees. All
fees and expenses of registering
and maintaining the registration
of the Portfolio under the Act,
including all fees and expenses
incurred in connection with the
preparation and filing of any
registration statement under the
Act, and any amendments or
supplements that may be made
from time to time;
(xi) Bonding and Insurance. All
expenses of bond, liability,
and other insurance coverage
required by law or deemed
advisable by the Trustees of the
Portfolio;
(xii) Brokerage Commissions. All
brokers' commissions and other
charges incident to the
purchase, sale, or lending of
the Portfolio's portfolio
securities.
(xiii) Interest and Taxes. Interest on
borrowed money and all taxes or
governmental fees payable by or
with respect to the Portfolio to
federal, state, or other
governmental agencies, domestic
or foreign, including stamp or
other transfer taxes;
(xiv) Trade Association Fees. All
fees, dues, and other expenses
incurred in connection with the
membership of the Portfolio in
the Investment Company
Institute or any other trade
association or other investment
organization; and
(xv) Nonrecurring and Extraordinary
Expenses. Such nonrecurring
expenses as may arise, including
the costs of actions, suits, or
proceedings to which the
Portfolio is a party and the
expenses that the Portfolio may
incur as a result of its legal
obligation to provide
indemnification to its officers,
trustees, employees and agents.
3. Management Fees. The Portfolio shall pay the
Manager a fee at an annual rate computed as
follows based on the value of the net assets
of the Portfolio.
A. Method of Computation. The fee shall
be accrued for each calendar day and
the sum of the daily fee accruals shall
be paid monthly to the Manager on the
first business day of the next
succeeding calendar month. The daily
fee accruals will be computed by
multiplying the fraction of one over
the number of calendar days in the year
by 1.50%, and multiplying the resulting
product by the net assets of the
Portfolio as determined in accordance
with the Portfolio's Registration
Statement under the Act as of the close
of business on the previous business day
on which the Portfolio was open for
business.
B. Proration of Fee. If this Agreement
becomes effective or terminates before
the end of any calendar month, the fee
for the period from the effective date
to the end of such calendar month or
from the beginning of such calendar
month to the date of termination, as
the case may be, shall be prorated
according to the proportion which such
period bears to the full month in which
such effectiveness or termination
occurs.
4. Limitation of Portfolio's Normal Business
Expenses. In the event that expenses of the
Portfolio for any fiscal year (not including
any distribution expenses paid by the Portfolio
pursuant to any distribution plan) should exceed
the expense limitation on investment company
expenses enforced by any statute or regulatory
authority of any jurisdiction in which shares of
the Trust are qualified for offer and sale, the
compensation due the Manager for such fiscal
year shall be reduced by the amount of such
excess by a reduction or refund thereof. In the
event that the expenses of the Portfolio exceed
any expense limitation which the Manager may, by
written notice to the Trust, voluntarily declare
to be effective with respect to the Portfolio,
subject to such terms and conditions as the
Manager may prescribe in such notice, the
compensation due the Manager shall be reduced,
and, if necessary, the Manager shall bear the
Portfolio's expenses to the extent required by
such expense limitation.
5. Brokerage. In the selection of brokers or
dealers and the placing of orders for the
purchase and sale of portfolio investments for
the Portfolio, the Manager shall seek to obtain
the most favorable price and execution
available, except to the extent it may be
permitted to pay higher brokerage commissions
for brokerage and research services as
described below. In using its best efforts to
obtain for the Portfolio the most favorable
price and execution available, the Manager,
bearing in mind the Portfolio 's best interests
at all times, shall consider all factors it
deems relevant, including, by way of
illustration, price, the size of the
transaction, the nature of the market for the
security, the amount of the commission, the
timing of the transaction taking into account
market prices and trends, the reputation,
experience and financial stability of the broker
or dealer involved and the quality of service
rendered by the broker or dealer in other
transactions. Subject to such policies as the
Trustees may determine, the Manager shall not
be deemed to have acted unlawfully or to have
breached any duty created by this Contract or
otherwise solely by reason of its having caused
the Trust to pay, on behalf of the Portfolio, a
broker or dealer that provides brokerage and
research services to the Manager an amount of
commission for effecting a portfolio investment
transaction in excess of the amount of
commission another broker or dealer would have
charged for effecting that transaction, if the
Manager determines in good faith that such
amount of commission was reasonable in relation
to the value of the brokerage and research
services provided by such broker or dealer,
viewed in terms of either that particular
transaction or the Manager's overall
responsibilities with respect to the Portfolio
and to other clients of the Manager as to which
the Manager exercises investment discretion.
The Trust hereby agrees with the Manager that
any entity or person associated with the Manager
which is a member of a nationalsecurities
exchange is authorized to effect any transaction
on such exchange for the account of the
Portfolio which is permitted by Section 11(a)
of the Securities Exchange Act of 1934 and Rule
11a-2-2(T) thereunder, and the Trust hereby
consents to the retention of compensation for
such transactions in accordance with Rule
11a2-2(T)(2)(iv).
6. Manager's Use of the Services of Others. The
Manager may (at its cost except as contemplated
by Paragraph 5 of this Agreement) employ, retain
or otherwise avail itself of the services or
facilities of other persons or organizations for
the purpose of providing the Manager or the
Portfolio with such statistical and other
factual information, such advice regarding
economic factors and trends, such advice as to
occasional transactions in specific securities
or such other information, advise or assistance
as the Manager may deem necessary, appropriate
or convenient for the discharge of its
obligations hereunder or otherwise helpful to
the Portfolio or in the discharge of the
Manager's overall responsibility with respect to
other accounts which it serves as investment
adviser or manager.
7. Ownership of Records. All records required to
be maintained and preserved by the Portfolio
pursuant to the rules or regulations of the
Securities and Exchange Commission under
Section 31(a) of the Act and maintained and
preserved by the manager on behalf of the
Portfolio are the property of the Portfolio and
will be surrendered by the Manager promptly on
request by the Portfolio. The Manager may
retain, for itself, copies of all such records.
8. Reports to Manager. The Portfolio shall furnish
or otherwise make available to the Manager such
prospectuses, financial statements, proxy
statements, reports, and other information
relating to the business and affairs of the
Portfolio as the Manager may, at any time or
from time to time, reasonably require in order
to discharge its obligations under this
Agreement.
9. Other Agreements, Etc. It is understood that
any of the shareholders, Trustees, officers and
employees of the Trust may be a shareholder,
director, officer or employee of, or be
otherwise interested in, the Manager, and in
any person controlled by or under common control
with the Manager, and that the Manager and any
person controlled by or under common control
with the Manager may have an interest in the
Trust. It is also understood that the Manager
and persons controlled by or under common
control with the Manager have and may have
advisory, management service, distribution or
other contracts with other organizations and
persons, and may have other interests and
businesses.
10. Limitation of Liability of Manager. Neither the
Manager nor any of its officers, directors,
stockholders (or partners of stockholders),
agents or employees, nor any person performing
executive, administrative, trading, or other
functions for the Portfolio (at the direction
or request of the manager) or the Manager in
connection with the Manager's discharge of its
obligation undertaken or reasonably assumed with
respect to this Agreement, shall be liable for
any error of judgment or mistake of law or for
any loss suffered by the Portfolio in connection
with the matters to which this Agreement
relates, except for loss resulting from willful
misfeasance, bad faith, or gross negligence in
the performance of its or his duties on behalf
of the Portfolio or from reckless disregard by
the Manager or any such person of the duties of
the Manager under this Agreement.
11. Limitation of Liability of Portfolio. The term
"Smith Breeden Trust" means and refers to the
trustees from time to time serving under the
Declaration of Trust of the Trust dated
December 18, 1991, as the same may subsequently
thereto have been, or subsequently hereto be,
amended (the "Declaration of Trust"). It is
expressly agreed that the obligations of the
Portfolio hereunder shall not be binding upon
any of the trustees, shareholders, nominees,
officers, agents or employees of the Portfolio
personally, but shall bind only the trust
property of the Portfolio, as provided in the
Declaration of Trust of the Portfolio. The
execution and delivery of this Agreement
have been authorized by the trustees and
shareholders of the Portfolio and this Agreement
has been signed by an authorized officer of the
Portfolio, acting as such, and neither such
authorization by such trustees and shareholders
nor such execution and delivery by such officer
shall be deemed to have been made by any of
them but shall bind only the trust property of
the Portfolio as provided in its Declaration of
Trust.
12. Use of Name. The Manager owns the name "Smith
Breeden," which may be used by the Trust only
with the consent of the Manager. The Manager
consents to the use by the Trust of the name
"Smith Breeden Funds" or any other name
embodying the name "Smith Breeden," but only on
the condition and so long as (i) this Agreement
shall remain in full force, (ii) the Trust shall
fully perform, fulfill and comply with all
provisions of this Agreement expressed herein to
be performed, fulfilled or complied with by it,
and (iii) Smith Breeden Associates, Inc. is the
Manager of the Trust. No such name shall be used
by the Trust at any time or in any place or for
any purposes or under any conditions except as
in this section provided. The foregoing
authorization by the Manager to the Trust to use
the name "Smith Breeden" as a part of a business
or name is not exclusive of the right of the
Manager itself to use, or to authorize others
to use, the same; the Trust acknowledges and
agrees that as between the Manager and the
Trust, the Manager has the exclusive right so
to use, or authorize others to use, said name,
and the Trust agrees to take such action as may
reasonably be requested by the Manager to give
full effect to the provisions of this section
(including, without limitation, consenting to
such use of said name). Without limiting the
generality of the foregoing, the Trust agrees
that, upon (i) any termination of this Agreement
by either party, (ii) the violation of any of
its provisions by the Trust or (iii) termination
of this Investment Advisory Agreement between
Smith Breeden Associates, Inc. and the Trust,
the Trust will, at the request of the Manager
made within six months after such termination or
violation, use its best efforts to change the
name of the Trust so as to eliminate all
reference, if any, to the name "Smith Breeden"
and will not thereafter transact any business in
a name containing the name "Smith Breeden" in
any form or combination whatsoever, or designate
itself as the same entity as or successor
an entity of such name, or otherwise use the
name "Smith Breeden" or any other reference to
the Manager. Such covenants on the part of the
Trust shall be binding upon it, its Trustees,
officers, stockholders, creditors and all other
persons claiming under or through it.
13. Term of Agreement. The term of this Agreement
shall begin on the date first above written, and
unless sooner terminated as hereinafter
provided, this Agreement shall remain in effect
until July 31, 1999. Thereafter, this Agreement
shall continue in effect from year to year,
subject to the termination provisions and all
other terms and conditions hereof, so long as
such continuation shall be specifically approved
at least annually (a) by either the Board of
Trustees of the Portfolio, or by vote of a
majority of the outstanding voting securities of
the Portfolio, and (b) in either event by the
vote, cast in person at a meeting called for the
purpose of voting on such approval, of a
majority of the Trustees of the Portfolio who
are not interested persons of the Trust or the
Manager; provided, however, that if the
continuance of this Agreement is submitted to
the shareholders of the Portfolio for their
approval and such shareholders fail to approve
such continuance of this Contract as provided
herein, the Manager may continue to serve
hereunder in a manner consistent with the
Investment Company Act of 1940 and the rules and
regulations thereunder. The Manager shall
furnish to the Portfolio, promptly upon its
request, such information as may reasonably be
necessary to evaluate the terms of this
Agreement or any extension, renewal or amendment
hereof.
14. Amendment and Assignment of Agreement. This
Agreement may not be amended in any material
respect or assigned without the affirmative vote
of a majority of the outstanding voting
securities of the Portfolio, and this Agreement
shall automatically and immediately terminate
in the event of its assignment.
15. Termination of Agreement. This Agreement may
be terminated by either party hereto, without
the payment of any penalty, upon 60 days' prior
notice in writing to the other party; provided,
that in the case of termination by the
Portfolio, such action shall have been
authorized by resolution of a majority of the
Trustees of the Portfolio who are not parties
to this Agreement or interested persons of any
such party, or by vote of a majority of the
outstanding voting securities of the Portfolio.
16. Miscellaneous.
A. Captions. The captions in this
Agreement are included for convenience
of reference only and in no way define
or delineate any of the provisions
hereof or otherwise affect their
construction or effect.
B. Interpretation. Nothing herein
contained shall be deemed to require the
Portfolio to take any action contrary to
its Declaration of Trust or By-Laws, or
any applicable statutory or regulatory
requirement to which it is subject or by
which it is bound, or to relieve or
deprive the Board of Trustees of the
Portfolio of its responsibility for and
control of the conduct of the affairs of
the Portfolio. This Agreement shall be
construed and enforced in accordance
with and governed by the laws of The
Commonwealth of Massachusetts.
C. Definitions. For the purposes of this
Agreement, the "affirmative vote of a
majority of the outstanding shares" of
the Portfolio means the affirmative
vote, at a duly called and held meeting
of shareholders, (a) of the holders of
67% or more of the shares of the
Portfolio present (in person or by
proxy) and entitled to vote as such
meeting, if the holders of more than 50%
of the outstanding shares of the
Portfolio entitled to vote at such
meeting are present in person or by
proxy, or (b) of the holders of more
than 50% of the outstanding shares of
the Portfolio entitled to vote at such
meeting, whichever is less.
For the purposes of this Agreement, the
terms "affiliated person," "interested
person" and "assignment" shall have
their respective meanings defined in the
Investment Company Act of 1940 and the
rules and regulations thereunder,
subject, however, to such exemptions as
may be granted by the Securities and
Exchange Commission under said Act; the
term "specifically approve at least
annually" shall be construed in a manner
consistent with the Investment Company
Act of 1940 and the rules and
regulations thereunder; and the term
"brokerage and research services" shall
have the meaning given in the Securities
Exchange Act of 1934 and the rules and
regulations thereunder.
IN WITNESS WHEREOF, the parties hereto have caused this
Agreement to be signed by their respective
officers thereunto duly authorized and their
respective corporate seals to be hereunto
affixed, as of the date and year first above
written.
SMITH BREEDEN TRUST
(on behalf of Smith Breeden Financial Services Fund)
Attest: ______________ By:_________________________
SMITH BREEDEN ASSOCIATES, INC.
Attest: _____________ By:_________________________
DISTRIBUTION AND SERVICES PLAN
This Plan (the "Plan") constitutes the Distribution and
Services Plan of Smith Breeden Financial Services Fund
(the "Fund"), a separate series of Smith Breeden Trust,
a Massachusetts business trust (the "Trust"), adopted
pursuant to the provisions of Rule 12b-1 under the
Investment Company Act of 1940 (the "Act"). During the
effective term of this Plan, Smith Breeden Associates,
Inc., the Fund's investment advisor ("Smith Breeden")
may make payments out of the investment advisory fee
to be received by Smith Breeden from the Fund to
investment dealers and other persons providing services
to the Fund upon the terms and conditions hereinafter
set forth. No payments by the Fund shall be made
directly by the Fund under this plan for the purposes
set forth in Section 1.
Section 1. Smith Breeden may make payments to
investment dealers or the other persons providing
services to the Fund, in the form of fees or
reimbursements, as compensation for services provided
and expenses incurred for purposes of promoting the
sale of shares of the Fund, reducing redemptions of
shares, or maintaining or improving services provided
to shareholders by investment dealers and other
persons. The amount of such payments and the purposes
for which they are made shall be determined by Smith
Breeden. Smith Breeden's payments covered by this
Plan shall not exceed in any fiscal year the annual
rate of 0.25% of the average net asset value of the
Fund, as determined at the close of each business day
during the year. A majority of the Qualified Trustees
(as defined below) may, at any time and from time to
time, may reduce the amount of such payments covered
by this Plan, or may suspend the operation of the Plan
for such period or periods of time as they may
determine.
Section 2. This Plan shall not take effect until:
(a) it has been approved by a vote of a
majority of the outstanding voting
securities of the Fund; and
(b) it has been approved, together with
any related agreements, by votes, of
the majority (or whatever greater
percentage may, from time to time, be
required by Section 12(b) of the Act or
the rules and regulations thereunder)
of both (i) the Trustees of the Trust,
and (ii) the Qualified Trustee of the
Trust, cast in person at a meeting
called for the purpose of voting on
this Plan or such agreement.
Section 3. This Plan shall continue in effect for a
period of more than one year after it takes effect only
so long as such continuance is specifically approved at
least annually in the manner provided for approval of
this Plan in Section 2(b).
Section 4. Smith Breeden shall provide to the Trustees
of the Trust, and the Trustees shall review, at least
quarterly, a written report of the amounts covered by
this Plan and the purposes for which such expenditures
were made.
Section 5. This Plan may be terminated at any time by
vote of a majority of the Qualified Trustees, or by
vote of a majority of the Fund's outstanding voting
securities.
Section 6. All agreements with any person relating to
implementation of this Plan shall be in writing, and
any agreement related to this Plan shall provide:
(a) that such agreement may be terminated
at any time, without payment of any
penalty, by vote of a majority of the
Qualified Trustees or by vote of a
majority of the Fund's outstanding
voting securities, on not more than 60
days' written notice to any other party
to the agreement; and
(b) that such agreement shall terminate
automatically in the event of its
assignment.
Section 7. This Plan may not be amended to increase
materially the amount of distribution expenses
permitted pursuant to Section 1 hereof without the
approval of a majority of the outstanding voting
securities of the Fund, and all material amendments to
this Plan shall be approved in the manner provided for
approval of this Plan in Section 2(b).
Section 8. As used in this Plan, (a) the term
"Qualified Trustees" shall mean those Trustees of the
Trust who are not interested persons of the Trust, and
have no direct or indirect financial interest in the
operation of this Plan or any agreements related to it,
and (b) the terms "assignment", "interested person" and
"vote of a majority of the outstanding voting
securities" shall have the respective meaning specified
in the Act and the rules and regulations thereunder,
subject to such exemptions as may be granted by the
Securities and Exchange Commission.
Section 9. A copy of the Amended and Restated
Declaration of Trust of the Trust is on file with the
Secretary of The Commonwealth of Massachusetts and
notice is hereby given that this instrument is executed
on behalf of the Trustees of the Trust as Trustees and
not individually, and that the obligations of or
arising out of this instrument are not binding upon any
of the Trustees, officers or shareholders individually
but are binding only upon the assets and property of
the Trust.
Adopted as of September 29, 1997.
