<PAGE>
2002 TARGET TERM TRUST INC.
COMMON STOCK
---------------
2002 Target Term Trust Inc. ("Trust") is a diversified, closed-end
management investment company. The Trust's investment objective is to manage a
portfolio of high quality fixed-income and adjustable-rate securities in order
to return $15 per Share (the initial public offering price) to investors on or
about November 30, 2002, while providing high monthly income. The Trust
normally invests substantially all of its total assets in a diversified
portfolio of: (1) Mortgage-Backed Securities issued or guaranteed by the U.S.
government, its agencies or instrumentalities; (2) Mortgage-Backed and Asset-
Backed Securities that, at the time of investment, are rated AAA by Standard &
Poor's Ratings Group ("S&P") or Aaa by Moody's Investors Service, Inc.
("Moody's") or are comparably rated by another nationally recognized
statistical rating organization ("NRSRO") or, with respect to up to 20% of the
Trust's total assets, that are unrated but that, at the time of investment,
have been determined by the Trust's Sub-Adviser to be of comparable quality to
those that are rated AAA or Aaa; and (3) Zero Coupon Municipal Securities that
are rated AAA by S&P or Aaa by Moody's. The Trust also may engage in certain
Strategic Transactions, such as options, futures and interest rate protection
transactions. No assurance can be given that the Trust will achieve its
investment objective.
The Trust seeks to return $15 per Share to investors on or about November
30, 2002 by: (1) preserving capital through active management of the Trust's
portfolio; (2) reducing, over time, the price sensitivity of the Trust's
portfolio to changes in interest rates; and (3) retaining a portion of the
income from Zero Coupon Municipal Securities. The Trust seeks to achieve high
monthly income by actively managing its assets in relation to market
conditions, interest rate changes and the remaining term of the Trust. The
Trust may engage in leverage through mortgage dollar rolls and reverse
repurchase agreements. The use of leverage will create the opportunity for
increased net income but, at the same time, will involve special risks. SEE
"RISK FACTORS AND OTHER INVESTMENT POLICIES--LEVERAGE."
Based on current conditions, it is unlikely that the Trust will be able to
return a full $15 per share to investors on or about November 30, 2002.
However, the Sub-Adviser intends to manage the Trust so that the amount
available to distribute to shareholders at that date will be as much as
possible while still providing investors with high monthly income. SEE "RISK
FACTORS AND OTHER INVESTMENT POLICIES--RETURN OF $15 PER SHARE."
The Shares are listed and traded on the New York Stock Exchange, Inc.
("NYSE") under the symbol "TTR." The Shares may be offered pursuant to this
Prospectus from time to time in order to effect over-the-counter ("OTC")
secondary market sales by PaineWebber Incorporated ("PaineWebber") in its
capacity as a dealer and secondary market-maker at negotiated prices related
to prevailing market prices on the NYSE at the time of sale. The closing price
for the Shares on the NYSE on March 23, 1995 was $11.38. See "Trading
History." The Trust will not receive any proceeds from the sale of any Shares
offered pursuant to this Prospectus.
Mitchell Hutchins Asset Management Inc. ("Mitchell Hutchins") serves as
investment adviser and administrator of the Trust and Goldman Sachs Funds
Management, L.P. ("Sub-Adviser") serves as the Trust's sub-adviser. This
Prospectus concisely sets forth certain information an investor should know
before investing and should be retained for future reference. A Statement of
Additional Information ("SAI") dated April 6, 1995 has been filed with the
Securities and Exchange Commission and is incorporated by reference in its
entirety into this Prospectus. A table of contents for the SAI is set forth as
the last section of this Prospectus. A copy of the SAI can be obtained without
charge by writing to the Trust, by contacting your PaineWebber investment
executive or PaineWebber's correspondent firms or by calling toll-free 1-800-
852-4750.
---------------
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 OR ANY STATE SECURITIES
COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS
PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
---------------
PAINEWEBBER INCORPORATED
---------------
THE DATE OF THIS PROSPECTUS IS APRIL 6, 1995.
<PAGE>
TRUST EXPENSES
The following tables are intended to assist investors in understanding the
various direct or indirect costs and expenses associated with investing in the
Trust.
<TABLE>
<S> <C>
SHAREHOLDER TRANSACTION EXPENSES
Sales Load (as a percentage of offering price)................ None(/1/)
Dividend Reinvestment and Cash Purchase Plan Fees............. None
ANNUAL EXPENSES (AS A PERCENTAGE OF AVERAGE NET ASSETS ATTRIB-
UTABLE TO COMMON STOCK)(/2/)
Investment Advisory and Administration Fees................... 0.70%
Interest Payments on Borrowed Funds........................... 1.82%
Other Expenses................................................ 0.20%
----
Total Annual Expenses....................................... 2.72%
====
</TABLE>
- --------
(1) Prices for Shares traded in the OTC market will reflect ordinary dealer
mark ups.
(2) See "Management of the Trust" for additional information. "Other Expenses"
have been estimated based upon expenses actually incurred for the fiscal
year ended November 30, 1994.
EXAMPLE
An investor would directly or indirectly pay the following expenses on a
$1,000 investment in the Trust, assuming a 5% annual return:
<TABLE>
<CAPTION>
ONE YEAR THREE YEARS FIVE YEARS TEN YEARS
-------- ----------- ---------- ---------
<S> <C> <C> <C>
$28 $84 $144 $305
</TABLE>
This Example assumes that all dividends and other distributions are
reinvested at net asset value and that the percentage amounts listed under
Annual Expenses remain the same in the years shown (except that Annual Expenses
have been reduced to reflect the completion of organization expense
amortization after five years from the commencement of investment operations).
The above tables and the assumptions in the Example of a 5% annual return and
reinvestment at net asset value are required by regulations of the Securities
and Exchange Commission ("SEC") applicable to all closed-end investment
companies; the assumed 5% annual return is not a prediction of, and does not
represent, the projected or actual performance of the Shares. In addition,
while this Example assumes reinvestment of all dividends and other
distributions at net asset value, participants in the Trust's Dividend
Reinvestment Plan will receive Shares purchased by the Plan agent at the market
price in effect at that time, which may be at, above, or below net asset value.
THIS EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTATION OF PAST OR FUTURE
EXPENSES, AND THE TRUST'S ACTUAL EXPENSES MAY BE MORE OR LESS THAN THOSE SHOWN.
2
<PAGE>
PROSPECTUS SUMMARY
The following summary is qualified in its entirety by reference to the more
detailed information included elsewhere in this Prospectus.
The Trust............... 2002 Target Term Trust Inc. ("Trust") is a
diversified, closed-end management investment
company. See "The Trust."
The Offering............ The shares of the Trust's common stock ("Shares") may
be offered pursuant to this prospectus from time to
time in order to effect over-the-counter ("OTC")
secondary market sales by PaineWebber Incorporated
("PaineWebber") in its capacity as a dealer and
secondary market-maker at negotiated prices related
to prevailing market prices on the New York Stock
Exchange, Inc. ("NYSE") at the time of sale. The
Shares are listed and traded on the NYSE under the
symbol "TTR." See "The Offering" and "Trading
History."
Investment Objective
and Policies...........
The Trust's investment objective is to manage a
portfolio of high quality fixed-income and
adjustable-rate securities in order to return $15 per
Share (the initial public offering price) to
investors on or about November 30, 2002, while
providing high monthly income. No assurance can be
given that the Trust will achieve its investment
objective.
The Trust seeks to return $15 per Share to investors
on or about November 30, 2002 by: (1) preserving
capital through active management of the Trust's
portfolio; (2) reducing, over time, the price
sensitivity of the Trust's portfolio to changes in
interest rates; and (3) retaining a portion of the
income from Zero Coupon Municipal Securities. The
Trust seeks to achieve high monthly income by
actively managing its assets in relation to market
conditions, interest rate changes and the remaining
term of the Trust.
The Trust normally invests substantially all of its
total assets in a diversified portfolio of: (1)
Mortgage-Backed Securities issued or guaranteed by
the U.S. government, its agencies or
instrumentalities; (2) Mortgage-Backed and Asset-
Backed Securities that, at the time of investment,
are rated AAA by Standard & Poor's Ratings Group
("S&P") or Aaa by Moody's Investors Service, Inc.
("Moody's") or are comparably rated by another
nationally recognized statistical rating organization
("NRSRO") or, with respect to up to 20% of the
Trust's total assets, that are unrated but that, at
the time of investment, have been determined by the
Sub-Adviser to be of comparable quality to those that
are rated AAA or Aaa; and (3) Zero Coupon Municipal
Securities that are rated AAA by S&P or Aaa by
Moody's.
3
<PAGE>
In order to seek to reduce the Trust's exposure to
certain risks that generally are inherent in
Mortgage-Backed Securities, a substantial portion of
the Mortgage-Backed Securities held by the Trust
normally are Planned Amortization Class Mortgage-
Backed Securities ("PAC Bonds") and ARM and Floating
Rate Mortgage-Backed Securities (as defined below).
The Sub-Adviser expects that, in the later years of
the term of the Trust, an increased proportion of the
Trust's total assets may be invested in Asset-Backed
Securities, which generally have shorter effective
terms to maturity than Mortgage-Backed Securities.
The Trust does not invest in CMO residuals and may
invest no more than an aggregate of 10% of its total
assets in Specified Mortgage-Backed Securities.
"Specified Mortgage-Backed Securities" are interest-
only ("IO") and principal-only ("PO") classes of
Mortgage-Backed Securities (other than IOs and POs
that are PAC bonds), inverse floating rate
obligations and other types of Mortgage-Backed
Securities that may be developed in the future and
that are determined by the Sub-Adviser to present
types and levels of risk that are comparable to such
IOs, POs and inverse floating rate obligations. Under
normal circumstances, the Trust concentrates at least
25% of its total assets in Mortgage- and Asset-Backed
Securities issued or guaranteed by Private Mortgage
Lenders or by agencies or instrumentalities of the
U.S. government. In order to invest cash reserves or,
on a temporary basis, during defensive periods or
when, in the opinion of the Sub-Adviser, no suitable
Mortgage- or Asset-Backed Securities or Zero Coupon
Municipal Securities are available, the Trust may
invest in money market instruments and in certain
types of longer term, high quality debt securities.
Under current market conditions, the Trust intends to
borrow through mortgage dollar rolls or reverse
repurchase agreements. Borrowing constitutes
leverage, a speculative technique. The Trust is
authorized to borrow money for investment purposes in
an amount up to 33 1/3% of its total assets
(including the amount of the borrowing and any other
indebtedness representing "senior securities" under
the Investment Company Act of 1940 ("1940 Act") but
reduced by any liabilities and indebtedness other
than senior securities).
The Trust may engage in when-issued and delayed
delivery transactions, purchase restricted or
illiquid securities, enter into repurchase
agreements, lend portfolio securities and enter into
certain Strategic Transactions, such as options,
futures and interest rate protection transactions.
The Trust may enter into Strategic Transactions under
which up to 100% of the Trust's portfolio assets are
at risk.
4
<PAGE>
See "Investment Objective and Policies," "Risk
Factors and Other Investment Policies," and
"Description of the Shares."
Mortgage-Backed Mortgage-Backed Securities represent direct or
Securities............. indirect participations in, or are secured by and
payable from, mortgage loans secured by real
property. Mortgage-Backed Securities (including PAC
Bonds) include single- and multi-class mortgage pass-
through securities and collateralized mortgage
obligations ("CMOs") and are: (1) issued or
guaranteed by U.S. government agencies or
instrumentalities, such as the Government National
Mortgage Association ("Ginnie Mae"), the Federal
National Mortgage Association ("Fannie Mae") or the
Federal Home Loan Mortgage Corporation ("Freddie
Mac"); (2) issued by private issuers (generally
originators of and investors in mortgage loans,
including savings associations, mortgage bankers,
commercial banks, investment bankers and special
purpose entities (collectively, "Private Mortgage
Lenders")) but supported by pools of mortgage loans
or other Mortgage-Backed Securities that are
guaranteed, directly or indirectly, by the U.S.
government or one of its agencies or
instrumentalities; or (3) issued by Private Mortgage
Lenders without any government guarantee of the
underlying mortgage assets, but usually with some
form of non-governmental credit enhancement.
PAC Bonds are a particular type of Mortgage-Backed
Security designed to provide relatively predictable
payments of principal provided that, among other
things, the actual prepayment experience on the un-
derlying mortgage loans falls within a contemplated
range. If the actual prepayment experience on the un-
derlying mortgage loans is at a rate faster or slower
than the contemplated range, or if deviations from
other assumptions occur, principal payments on a PAC
Bond may be greater or smaller than predicted. The
magnitude of the contemplated range varies from one
PAC Bond to another; a narrower range increases the
risk that prepayments will be greater or smaller than
contemplated. Due to the planned amortization feature
of PAC Bonds, the Sub-Adviser believes that invest-
ment in PAC Bonds normally reduces the prepayment
risks that are inherent in Mortgage-Backed Securities
unless, among other things, the actual prepayment ex-
perience on the underlying mortgage loans fails to
fall within the range contemplated when the PAC Bonds
were created. ARM Mortgage-Backed Securities are
Mortgage-Backed Securities that represent a right to
receive interest payments at a rate that is adjusted
to reflect the interest earned on a pool of mortgage
loans bearing variable or adjustable rates of inter-
est (such mortgage loans are referred to as "ARMs").
Floating Rate Mortgage-Backed Securities are classes
of Mortgage-Backed Securities
5
<PAGE>
that have been structured to represent the right to
receive interest payments at rates that fluctuate in
accordance with an index but that generally are sup-
ported by pools comprised of fixed-rate mortgage
loans. Because the interest rates on ARM and Floating
Rate Mortgage-Backed Securities are reset in response
to changes in a specified market index, the values of
such securities tend to be less sensitive to interest
rate fluctuations than the values of fixed-rate secu-
rities.
See "Investment Objective and Policies" and "Appendix
A."
Zero Coupon Municipal
Securities.............
The Trust may invest in zero coupon securities that
are issued for various public purposes by or on be-
half of municipal issuers or that are created by in-
vestment banks or other private parties that separate
the interest and principal components of an interest-
paying security that has been previously issued by or
on behalf of a municipal issuer (collectively, "Zero
Coupon Municipal Securities"). While Zero Coupon Mu-
nicipal Securities do not contribute to the cash
available to the Trust for purposes of paying divi-
dends to shareholders, it is anticipated that the in-
come retained by the Trust from the accrual of origi-
nal issue discount on such securities will increase
the amount available to be distributed to investors
on or about November 30, 2002. See "Investment Objec-
tive and Policies."
Asset-Backed Asset-Backed Securities have structural characteris-
Securities............. tics similar to Mortgage-Backed Securities but relate
to assets other than Mortgage Assets. Under current
conditions the Sub-Adviser does not intend to invest
a significant portion of the Trust's assets in Asset-
Backed Securities until the later years of the
Trust's term. The Sub-Adviser anticipates that a sub-
stantial portion of any Asset-Backed Securities that
it acquires for the Trust would be structured in a
manner similar to PAC Bonds. New types of Asset-
Backed Securities are developed and marketed from
time to time by a variety of new and existing is-
suers, and consistent with its investment limita-
tions, the Trust expects to invest in those new types
of Asset-Backed Securities that the Sub-Adviser be-
lieves may assist the Trust in achieving its invest-
ment objective. See "Investment Objective and Poli-
cies."
Investment Adviser and
Administrator..........
Mitchell Hutchins Asset Management Inc. ("Mitchell
Hutchins"), a wholly owned subsidiary of PaineWebber,
serves as the Trust's investment adviser and adminis-
trator. Mitchell Hutchins provides investment advi-
sory and portfolio management services to investment
companies, pension funds and other institutional,
corporate and individual clients. The Trust pays
Mitchell Hutchins,
6
<PAGE>
as investment adviser and administrator, an invest-
ment advisory fee in an amount equal to an annual fee
of 0.50% of the Trust's average weekly net assets,
and an administration fee in an amount equal to an
annual fee of 0.20% of the Trust's average weekly net
assets. Each such fee is computed weekly and payable
monthly. Mitchell Hutchins (not the Trust) pays the
Sub-Adviser a fee, computed weekly and payable month-
ly, in an amount equal to one-half of the investment
advisory fee received by Mitchell Hutchins from the
Trust.
Sub-Adviser............. Goldman Sachs Funds Management, L.P. ("Sub-Adviser")
serves as the Trust's sub-adviser under a Sub-Invest-
ment Advisory Contract with Mitchell Hutchins. The
Sub-Adviser makes investment decisions and places or-
ders to buy, sell or hold particular securities for
the Trust. The Sub-Adviser is able to draw on the
substantial research and market expertise of its af-
filiate, Goldman, Sachs & Co., which is among the
oldest and largest investment banking firms in the
United States. The Sub-Adviser, together with its af-
filiates, provide investment advisory and portfolio
management services to pension funds, investment com-
panies and other institutional, corporate and indi-
vidual clients. See "Management of the Trust."
Dividends and Other
Distributions...........
The Trust declares and pays monthly dividends from
its net investment income. The Trust currently in-
tends to retain, until its final liquidating distri-
bution, a portion of the tax-exempt income attribut-
able to its Zero Coupon Municipal Securities, but in
no event greater than 10% of its net investment in-
come in any year. The Trust expects to distribute an-
nually all or a portion of any net capital gain real-
ized by the Trust. Various factors may affect the
level of the Trust's income, including the asset mix,
interest rates, remaining term of the Trust, the
amount of leverage utilized by the Trust and the
Trust's use of Strategic Transactions. See "Dividends
and Other Distributions; Dividend Reinvestment Plan."
Dividend Reinvestment
Plan...................
The Trust has established a Dividend Reinvestment
Plan ("Plan") under which all shareholders whose
Shares are registered in their own names, or in the
name of PaineWebber (or its nominee), have all divi-
dends and other distributions automatically rein-
vested in additional Shares, unless such shareholders
elect to receive cash. Shareholders who hold their
Shares in the name of a broker or nominee other than
PaineWebber (or its nominee) should contact such bro-
ker or nominee to determine whether, or how, they may
participate in the Plan. Shares acquired under the
Plan are pur-
7
<PAGE>
chased in the open market, on the NYSE or otherwise,
at prices that may be higher or lower than the net
asset value per Share at the time of the purchase.
The Trust will not issue any new Shares in connection
with the Plan. See "Dividends and Other Distribu-
tions; Dividend Reinvestment Plan."
Share Repurchases and
Tender Offers..........
In recognition of the possibility that the Shares may
trade at a discount from net asset value, the Trust's
board of directors, in consultation with Mitchell
Hutchins, currently intends at least annually to con-
sider the possibility of making open market Share re-
purchases or tender offers. There can be no assurance
that the board of directors will decide to undertake
either of these actions or that, if undertaken, such
actions will result in the Shares trading at a price
that is equal or close to net asset value per Share.
The Trust may borrow to finance such repurchases and
tender offers. See "Description of the Shares --
Share Repurchases and Tender Offers."
Custodian, Transfer and
Dividend Disbursing
Agent and Registrar....
State Street Bank and Trust Company serves as custo-
dian of the Trust's assets. PNC Bank, National Asso-
ciation serves as transfer and dividend disbursing
agent and as registrar of the Trust. See "Custodian,
Transfer and Dividend Disbursing Agent and Regis-
trar."
Special Considerations
and Risk Factors.......
Return of $15 Per Share. To the extent capital losses
realized by the Trust on dispositions of securities
are not offset by capital gains realized in the same
or in subsequent years (subject to the eight year
limit on capital loss carryforwards under the federal
tax law) and by the retention of a portion of the in-
come on Zero Coupon Municipal Securities, the Trust
may be unable to distribute $15 per Share to its
shareholders at the end of the Trust's term. Also, in
order to avoid the imposition of federal income tax
on undistributed gains and the imposition of a 4%
federal excise tax on certain undistributed income
and gains, the Trust would need to distribute all or
a substantial portion of any net income and net capi-
tal gains (in excess of any available capital loss
carryforwards) in the year in which they are real-
ized. Consequently, the Trust may not be able to use
net capital gains to offset any net capital losses
that are realized in years subsequent to the years in
which such net capital gains are realized. In order
to return $15 per Share to the Trust's shareholders
at the end of its term, the Trust also must recoup
amounts paid by the Trust in
8
<PAGE>
connection with its organization and its initial pub-
lic offering. Based on current conditions, it is un-
likely that the Trust will be able to return a full
$15 per share to investors on or about November 30,
2002. However, the Sub-Adviser intends to manage the
Trust so that the amount available to distribute to
shareholders at that date will be as much as possible
while still providing investors with high monthly in-
come.
Interest Rate Sensitivity. The yield on debt securi-
ties, including Mortgage- and Asset-Backed Securities
and Zero Coupon Municipal Securities, depends on a
variety of factors, including general market condi-
tions for such securities, the financial condition of
the issuer, the size of the particular offering, the
maturity, credit quality and rating of the security
and, in the case of securities of municipal issuers,
expectations regarding changes in income tax rates.
Generally, the longer the maturity of such a securi-
ty, the higher its yield and the greater its volatil-
ity. The market value of debt securities, and accord-
ingly the Trust's net asset value, normally will vary
inversely with changes in interest rates. Such
changes in the values of the securities held by the
Trust will affect the net asset value of Shares. Nei-
ther the issuance by, nor the guarantee of a U.S.
government agency, nor a AAA or equivalent rating for
a security, constitutes assurance that the security
will not fluctuate in value or that the Trust will
receive the originally anticipated yield on the secu-
rity. A significant decline in market rates of inter-
est may have an adverse effect on the income earned
and dividends paid by the Trust. In addition, the
Trust's income and dividends may decline in the later
years of the Trust.
Certain types of Mortgage-Backed Securities, commonly
known as CMOs, may be specifically structured in a
manner that provides any of a wide variety of invest-
ment characteristics, such as yield, effective matu-
rity and interest rate sensitivity. As market condi-
tions change, however, and particularly during peri-
ods of rapid or unanticipated changes in market in-
terest rates, the attractiveness of the CMO classes
and the ability of the structure to provide the an-
ticipated investment characteristics may be signifi-
cantly reduced. These changes can result in volatil-
ity in the market value, and in some instances re-
duced liquidity, of the CMO class.
The yields on Specified Mortgage-Backed Securities
(as defined in "Appendix A"), in which the Trust may
invest up to 10% of its total assets, on IOs and POs
that are PAC Bonds and on Zero Coupon Municipal Secu-
rities generally are more sensitive to changes in in-
terest rates than most Mortgage-Backed Securities.
9
<PAGE>
The Trust is not limited in its ability to invest in
IOs and POs that are PAC Bonds. The yields on most
IOs and POs are extremely sensitive to the rate of
principal payments (including prepayments), which can
result in price volatility and, in the case of IOs,
can result in the Trust failing to recoup fully its
initial investment in such securities even though the
securities may be issued or guaranteed by a U.S. gov-
ernment agency or be rated in the highest rating cat-
egory. While the Sub-Adviser seeks to limit the im-
pact of these factors on the Trust, no assurance can
be given that it will achieve this result.
ARM and Floating Rate Mortgage-Backed
Securities. ARMs underlying ARM Mortgage-Backed Secu-
rities generally provide that the borrower's mortgage
interest rate may not be adjusted over a specified
lifetime maximum rate. ARMs also may provide for lim-
itations on the maximum amount by which the mortgage
interest rate may adjust for any single adjustment
period or by which the borrower's monthly payment may
adjust for any single adjustment period. Similarly,
interest rate changes on Floating Rate Mortgage-
Backed Securities are subject to lifetime interest
rate caps. Interest rates on ARMs generally are reset
only at monthly or longer intervals. Moreover, inter-
est rate changes on ARM and Floating Rate Mortgage-
Backed Securities may be based on indices that tend
to lag behind changes in market rates. Accordingly,
the coupon rate on such Mortgage-Backed Securities
often lags behind changes in short-term interest
rates, which may negatively affect the market value
in periods of increasing interest rates. The market
value of ARM and Floating Rate Mortgage-Backed Secu-
rities may be affected adversely if interest rates
increase beyond the applicable limits on interest
rate or interest payment adjustments. In periods of
declining interest rates, the market values of ARM
and Floating Rate Mortgage-Backed Securities gener-
ally will increase to a lesser extent, if at all,
than the values of fixed-rate Mortgage-Backed Securi-
ties.
Special Leverage Risks. The use of leverage is a
speculative technique that provides the opportunity
for increased net income but, at the same time, in-
volves special risks. The Trust only uses leverage
when the Sub-Adviser believes that such leverage ben-
efits the Trust after taking such risks into consid-
eration. For example, leveraging exaggerates changes
in the net asset value of the Shares and in the yield
on the Trust's portfolio which may, in turn, result
in increased volatility of the market price of the
Shares. To the extent the income derived from lever-
age exceeds the interest and other expenses that the
Trust will have to pay in connection with such lever-
age, the Trust's net income will be greater than if
leverage were not used. Conversely, if the income
10
<PAGE>
obtained is not sufficient to cover the cost of the
leverage, the net income of the Trust will be less
than if leverage were not used, and therefore the
amount available for distribution to shareholders
will be reduced.
Other Investment Risks. Certain investment practices
in which the Trust may engage would expose the Trust
to additional risks. These practices include invest-
ing in illiquid securities, entering into securities
transactions on a when-issued or delayed delivery ba-
sis, entering into repurchase agreements, lending
portfolio securities and engaging in Strategic Trans-
actions.
Market Price of Shares. Shares of the Trust and of
other closed-end investment companies frequently
trade at a discount from net asset value. This market
risk is separate and distinct from the risk that the
Trust's net asset value may decrease. Accordingly,
the Shares are designed primarily for long-term in-
vestors and should not be viewed as a vehicle for
trading purposes.
Anti-Takeover Provisions. The Trust's Articles of In-
corporation contain provisions limiting: (1) the
ability of other entities or persons to acquire con-
trol of the Trust; (2) the Trust's freedom to engage
in certain transactions; and (3) the ability of the
Trust's directors or shareholders to amend the Arti-
cles of Incorporation. These provisions of the Arti-
cles of Incorporation may be regarded as "anti-takeo-
ver" provisions.
See "Trading History," "Risk Factors and Other In-
vestment Policies," "Description of the Shares" and
"Appendix A."
11
<PAGE>
FINANCIAL HIGHLIGHTS
The table below provides selected per share data and ratios for one Share for
the periods shown. This information is supplemented by the financial statements
and accompanying notes appearing in the Trust's Annual Report to Shareholders
for the fiscal year ended November 30, 1994, which are incorporated by
reference into the Trust's SAI which can be obtained by shareholders upon
request. The financial statements and notes, as well as the information in the
table below, have been audited by Ernst & Young LLP, independent auditors,
whose report thereon is included in the Annual Report to Shareholders.
<TABLE>
<CAPTION>
FOR THE
FOR THE PERIOD
YEAR DECEMBER 31,
ENDED 1992# TO
NOVEMBER 30, NOVEMBER 30,
1994 1993
------------ ------------
<S> <C> <C>
Net asset value, beginning of period................ $ 14.68 $ 14.10
-------- --------
Net investment income............................... 0.93 0.89
Net realized and unrealized gains (losses) on in-
vestment and futures transactions.................. (1.90) 0.68
-------- --------
Net increase (decrease) in net asset value resulting
from operations.................................... (0.97) 1.57
-------- --------
Dividends and distributions to shareholders from:
Net investment income............................. (0.96) (0.84)
Short-term capital gains.......................... (0.05) (0.11)
-------- --------
Total dividends and distributions to shareholders... (1.01) (0.95)
-------- --------
Offering costs charged to capital................... -- (0.04)
-------- --------
Net asset value, end of period...................... $ 12.70 $ 14.68
======== ========
Per share market value, end of period............... $ 11.25 $ 14.00
======== ========
Total investment return(1).......................... (12.79)% 5.94%
======== ========
Ratios/Supplemental Data:
Net assets, end of period (000 omitted)............. $136,562 $157,888
Ratio of expenses to average net assets............. 2.72%+ 1.79%*+
Ratio of net investment income to average net as-
sets............................................... 6.82% 6.67%*
Portfolio turnover rate............................. 107.86% 354.81%
</TABLE>
- --------
#Commencement of operations
*Annualized
+ This ratio includes 1.82% and 0.91% related to interest expense for the
fiscal year ended November 30, 1994 and the fiscal period ended November 30,
1993, respectively, which represent a cost of leverage to the Trust.
(1) Total investment return is calculated assuming a purchase of one Share of
common stock at the current market price on the first day of each period
reported and a sale at the current market price on the last day of each
period reported, and assuming reinvestment of dividends to common
stockholders at prices obtained under the Plan. Total investment return
does not reflect brokerage commissions and has not been annualized.
12
<PAGE>
The following information relates to the Trust's "senior securities," as
defined under the 1940 Act.
<TABLE>
<CAPTION>
ASSET
COVERAGE
TOTAL PER $1,000 AVERAGE
AMOUNT OF MARKET
OUTSTANDING INDEBTEDNESS VALUE
PERIOD AS OF END OF AS OF END OF PER $1,000 OF
SENIOR SECURITIES ENDED PERIOD PERIOD INDEBTEDNESS*
----------------- ------------------ ------------ ------------ -------------
<S> <C> <C> <C> <C>
Mortgage dollar rolls
and reverse repurchase
agreements............ +November 30, 1993 $74,831,000 $3,110 $3,142
November 30, 1994 $67,516,000 $3,023 $2,227
</TABLE>
- --------
+ Data reflects period from December 31, 1992 (commencement of operations) to
November 30, 1993.
* Calculated by multiplying $1,000 by the result obtained by dividing: (a) the
average market value of the Shares on the last day of each month during the
period indicated, in which the Trust had outstanding indebtedness; by (b)
the average amount of indebtedness outstanding on the last day of each such
month.
13
<PAGE>
THE TRUST
The Trust is a diversified, closed-end management investment company and has
registered as such under the 1940 Act. The Trust was incorporated under the
laws of the State of Maryland on October 16, 1992 and commenced operations on
December 31, 1992. The Trust will terminate and distribute substantially all of
its net assets on or about November 30, 2002. The Trust's principal office is
located at 1285 Avenue of the Americas, New York, New York 10019, and its
telephone number is (212) 713-2000.
THE OFFERING
The Shares may be offered pursuant to this Prospectus from time to time in
order to effect OTC secondary market sales by PaineWebber in its capacity as a
dealer and secondary market-maker at negotiated prices related to prevailing
market prices on the NYSE at the time of sale. Costs incurred in connection
with this offering will be paid by PaineWebber. PaineWebber's principal offices
are located at 1285 Avenue of the Americas, New York, New York 10019. Mitchell
Hutchins is a wholly owned subsidiary of PaineWebber.
USE OF PROCEEDS
The Trust will not receive any proceeds from the sale of any Shares offered
pursuant to this Prospectus. Proceeds received by PaineWebber as a result of
its OTC secondary market sales of the Shares will be utilized by PaineWebber in
connection with its secondary market operations and for general corporate
purposes.
TRADING HISTORY
The Shares are listed and traded on the NYSE under the symbol "TTR." The
following table sets forth for the Shares for each fiscal quarter since the
Trust commenced operations: (a) the per Share high and low sales prices as
reported by the NYSE; (b) the per Share net asset values, based on the Trust's
computation as of 4:00 p.m. on the second to last NYSE business day for the
week corresponding to the dates on which the respective high and low sales
prices were recorded; and (c) the discount or premium to net asset value
represented by the high and low sales prices shown. THE RANGE OF NET ASSET
VALUES AND OF PREMIUMS AND DISCOUNTS FOR THE SHARES DURING THE PERIODS SHOWN
MAY BE BROADER THAN IS SHOWN IN THIS TABLE. On March 23, 1995, the closing
price per Share on the NYSE was $11.38, the Trust's net asset value per Share
was $13.32 and the discount to net asset value per Share was (13.56)%.
<TABLE>
<CAPTION>
(DISCOUNT) OR
NET ASSET PREMIUM TO
SALES PRICES VALUES NET ASSET VALUE
--------------- ------------- -----------------
PERIOD ENDED HIGH LOW HIGH LOW HIGH LOW
------------ ------- ------- ------ ------ -------- -------
<S> <C> <C> <C> <C> <C> <C>
*02/28/93.................. $15.375 $14.750 $14.65 $14.20 4.95 % 3.87 %
05/31/93................... 15.000 14.125 14.37 14.56 4.38 (2.99)
08/31/93................... 14.875 13.500 14.39 14.55 3.37 (7.22)
11/30/93................... 14.625 13.750 15.07 14.69 (2.95) (6.40)
02/28/94................... 14.125 12.750 14.72 14.44 (4.04) (11.70)
05/31/94................... 13.000 11.625 14.31 13.51 (9.15) (13.95)
08/31/94................... 12.375 11.375 13.60 13.40 (9.01) (15.11)
11/30/94................... 12.000 10.375 13.35 12.77 (10.11) (18.75)
02/28/95................... 11.500 10.625 13.11 12.78 (12.28) (16.86)
</TABLE>
- --------
*For the period December 31, 1992 (commencement of operations) to February 28,
1993.
See "Description of Shares -- Share Repurchases and Tender Offers" as to
methods that may be undertaken by the Trust to reduce any discount.
14
<PAGE>
INVESTMENT OBJECTIVE AND POLICIES
The Trust's investment objective is to manage a portfolio of high quality
fixed-income and adjustable-rate securities in order to return $15 per Share
(the initial public offering price) to investors on or about November 30, 2002,
while providing high monthly income. No assurance can be given that the Trust
will achieve its investment objective.
The Trust seeks to return $15 per Share to investors on or about November 30,
2002 by: (1) preserving capital through active management of the Trust's
portfolio; (2) reducing, over time, the price sensitivity of the Trust's
portfolio to changes in interest rates; and (3) retaining a portion of the
income from Zero Coupon Municipal Securities. The Trust seeks to achieve high
monthly income by actively managing its assets in relation to market
conditions, interest rate changes and the remaining term of the Trust.
The Trust normally invests substantially all of its total assets in a
diversified portfolio of: (1) Mortgage-Backed Securities issued or guaranteed
by the U.S. government, its agencies or instrumentalities; (2) Mortgage-Backed
and Asset-Backed Securities that, at the time of investment, are rated AAA by
S&P or Aaa by Moody's or are comparably rated by another NRSRO or, with respect
to up to 20% of the Trust's total assets, that are unrated but that, at the
time of investment, have been determined by the Sub-Adviser to be of comparable
quality to those that are AAA or Aaa; and (3) Zero Coupon Municipal Securities
that are rated AAA by S&P or Aaa by Moody's. Under normal circumstances, the
Trust concentrates at least 25% of its total assets in Mortgage- and Asset-
Backed Securities issued or guaranteed by Private Mortgage Lenders or by
agencies or instrumentalities of the U.S. government. This concentration policy
may not be changed without the approval of the Trust's shareholders.
In order to seek to reduce the Trust's exposure to certain risks that
generally are inherent in Mortgage-Backed Securities, a substantial portion of
the Mortgage-Backed Securities held by the Trust normally are PAC Bonds and ARM
and Floating Rate Mortgage-Backed Securities. The Sub-Adviser expects that, in
the later years of the term of the Trust, an increased proportion of the
Trust's total assets may be invested in Asset-Backed Securities, which
generally have shorter effective terms to maturity than Mortgage-Backed
Securities.
Mortgage-Backed Securities represent direct or indirect participations in, or
are secured by and payable from, mortgage loans secured by real property.
Mortgage-Backed Securities (including PAC Bonds) include single- and multi-
class mortgage pass-through securities and CMOs and will be: (1) issued or
guaranteed by U.S. government agencies or instrumentalities, such as Ginnie
Mae, Fannie Mae or Freddie Mac; (2) issued by Private Mortgage Lenders but
supported by pools of mortgage loans or other Mortgage-Backed Securities that
are guaranteed, directly or indirectly, by the U.S. government or one of its
agencies or instrumentalities; or (3) issued by Private Mortgage Lenders
without any government guarantee of the underlying mortgage assets, but usually
with some form of non-governmental credit enhancement. The types of Mortgage-
Backed Securities in which the Trust may invest are described in Appendix A to
this Prospectus and in the SAI.
Mortgage-Backed and Asset-Backed Securities differ from investments in
traditional debt securities in that, among other things, principal may be
prepaid at any time due to prepayments by the obligors on the underlying loans
or other obligations. Such prepayments may reduce the yield to the Trust on
Mortgage-Backed and Asset-Backed Securities held in its portfolio and may
result in
15
<PAGE>
reinvestment of the proceeds of such prepayments at interest rates that are
lower than on the prepaid securities. Prepayments are influenced by a variety
of economic, geographic, social and other factors. Generally, however,
prepayments will increase during periods of declining interest rates and
decrease during periods of rising interest rates. The Trust's policy of
investing primarily in Mortgage-Backed and Asset-Backed Securities has the
effect of increasing the Trust's exposure to these and other risks related to
such securities and might cause the value of the Trust's portfolio securities
to fluctuate more than otherwise would be the case. The Sub-Adviser believes
that investment by the Trust in PAC Bonds and in ARM and Floating Rate
Mortgage-Backed Securities normally reduces the Trust's exposure to the risks
of prepayments. See "Special Characteristics of Mortgage-Backed and Asset-
Backed Securities" in the SAI.
Certain types of mortgage-backed securities, commonly known as CMOs, may be
specially structured in a manner that provides any of a wide variety of
investment characteristics, such as yield, effective maturity and interest rate
sensitivity. As market conditions change, however, and particularly during
periods of rapid or unanticipated changes in market interest rates, the
attractiveness of the CMO classes and the ability of the structure to provide
the anticipated investment characteristics may be significantly reduced. These
changes can result in volatility in the market value, and in some instances
reduced liquidity, of the CMO class.
The Trust does not invest in CMO residuals. The Trust may invest no more than
an aggregate of 10% of its total assets in Mortgage-Backed Securities
constituting IOs, POs (other than IOs and POs that are PAC Bonds) or inverse
floating rate obligations or other types of Mortgage-Backed Securities that may
be developed in the future and that are determined by the Sub-Adviser to
present types and levels of risk that are comparable to such IOs, POs and
inverse floating rate obligations. The Trust invests in Specified Mortgage-
Backed Securities only when the Sub-Adviser believes that such securities, when
combined with the Trust's other investments, would enable the Trust to achieve
its investment objective. The yields on Specified Mortgage-Backed Securities
generally are more sensitive to changes in interest rates than other Mortgage-
Backed Securities. While the Sub-Adviser will seek to limit the impact of these
factors on the Trust, no assurance can be given that it will achieve this
result.
The Trust also invests in zero coupon securities that are issued for various
public purposes by or on behalf of municipal issuers or that are created by
investment banks or other private parties that separate the interest and
principal components of an interest-paying security that has been previously
issued by or on behalf of a municipal issuer. While Zero Coupon Municipal
Securities do not contribute to the cash available to the Trust for purposes of
paying dividends to shareholders, it is anticipated that the income retained by
the Trust from the accrual of original issue discount on such securities will
increase the amount available to be distributed to investors on or about
November 30, 2002.
Because accrued income on Zero Coupon Municipal Securities is generally not
taxable to holders, Zero Coupon Municipal Securities have lower yields than
other zero coupon securities. The accrued income on Zero Coupon Municipal
Securities in which the Trust invests are generally not taxable to the Trust;
however, when distributed to shareholders, that accrued income will be treated
for tax purposes in the same manner as other dividend distributions. Any
accrued income from Zero Coupon Municipal Securities which is not distributed
will increase the net asset value of the Shares. Income attributable to Zero
Coupon Municipal Securities and retained by the Trust is expected to constitute
a portion of the liquidating distribution returned to investors at the end of
the Trust's term. See "Dividends and Other Distributions; Dividend Reinvestment
Plan" and "Taxation."
16
<PAGE>
The Internal Revenue Code requires that companies such as the Trust which
seek to qualify for federal income tax treatment as regulated investment
companies distribute at least 90% of their net investment income each year,
including tax-exempt and non-cash income. Accordingly, although the Trust will
receive no payments on Zero Coupon Municipal Securities prior to their
maturity, it will be required, in order to maintain its desired tax treatment,
to include in its distributions to shareholders in each year that portion of
income attributable to Zero Coupon Municipal Securities that exceeds 10% of the
Trust's net investment income in that year. The Trust might be required to
borrow or to liquidate portfolio securities at a time that it otherwise would
not have done so in order to make such distributions. See the sections entitled
"Dividends and Other Distributions; Dividend Reinvestment Plan," and "Taxation"
herein and "Taxes" in the SAI.
Asset-Backed Securities have structural characteristics similar to Mortgage-
Backed Securities but relate to assets other than Mortgage Assets. Under
current conditions the Sub-Adviser does not intend to invest a significant
portion of the Trust's assets in Asset-Backed Securities until the later years
of the Trust's term. The Sub-Adviser anticipates that a substantial portion of
any Asset-Backed Securities that it acquires for the Trust would be structured
in a manner similar to PAC Bonds. New types of Asset-Backed Securities are
developed and marketed from time to time by a variety of new and existing
issuers, and consistent with its investment limitations, the Trust expects to
invest in those new types of Asset-Backed Securities that the Sub-Adviser
believes may assist the Trust in achieving its investment objective.
In order to invest cash reserves or, on a temporary basis, during defensive
periods or when, in the opinion of the Sub-Adviser, no suitable Mortgage- or
Asset-Backed Securities or Zero Coupon Municipal Securities are available, the
Trust may invest in money market instruments and longer term debt securities of
various types, including: (1) U.S. government securities; (2) high quality
corporate bonds, debentures, notes and commercial paper that are rated AAA or
A-1+ by S&P or Aaa or Prime-1 by Moody's or that have a comparable rating from
another NRSRO or that are unrated but that, at the time of investment, have
been determined by the Sub-Adviser to be of comparable quality to those that
are so rated; (3) bank obligations (including certificates of deposit, time
deposits and bankers' acceptances) of domestic banks; and (4) repurchase
agreements with respect to any of the foregoing.
The U.S. government securities in which the Trust may invest include
securities that are backed by the full faith and credit of the U.S. government,
securities that are supported primarily or solely by the creditworthiness of a
U.S. government agency or instrumentality as issuer or guarantor, and
securities that are supported primarily or solely by specific pools of assets
and the creditworthiness of a government related issuer.
Repurchase agreements are transactions in which the Trust purchases
securities from a bank or recognized securities dealer and simultaneously
commit to resell the securities to the bank or dealer at an agreed-upon date
and price reflecting a market rate of interest unrelated to the coupon rate or
maturity of the purchased securities. The Trust maintains custody of the
underlying securities prior to their repurchase; thus, the obligation of the
bank or dealer to pay the repurchase price on the date agreed to is, in effect,
secured by such securities. If the value of such securities becomes less than
the repurchase price, plus any agreed-upon additional amount, the other party
to the agreement is required to provide additional collateral so that at all
times the collateral is at least equal to the repurchase price plus any agreed-
upon additional amount. The difference between the total amount to be received
upon repurchase of the securities and the price which was paid by the Trust
upon acquisition is accrued as interest and included in the Trust's net
17
<PAGE>
investment income. Repurchase agreements carry certain risks not associated
with direct investments in securities, including possible declines in the
market value of the underlying securities and delays and costs to the Trust if
the other party to a repurchase agreement becomes bankrupt. The Trust intends
to enter into repurchase agreements only with banks and dealers in transactions
believed by the Sub-Adviser to present minimal credit risks in accordance with
guidelines established by the Trust's board of directors. The Sub-Adviser will
review and monitor the creditworthiness of such institutions under the board's
general supervision.
Although it has no current intention to do so, the Trust also may engage in
securities lending.
RISK FACTORS AND OTHER INVESTMENT POLICIES
RETURN OF $15 PER SHARE
To the extent capital losses realized by the Trust on dispositions of
securities are not offset by capital gains realized in the same or in
subsequent years (subject to the eight year limit on capital loss carryforwards
under the federal tax law) and by the retention of a portion of the income on
Zero Coupon Municipal Securities, the Trust may be unable to distribute $15 per
Share to its shareholders at the end of the Trust's term. Also, in order to
avoid the imposition of federal income tax on undistributed gains and the
imposition of a 4% federal excise tax on certain undistributed income and
gains, the Trust would need to distribute all or a substantial portion of any
net income and net capital gains (in excess of any available capital loss
carryforwards) in the year in which they are realized. Consequently, the Trust
may not be able to use net capital gains to offset any net capital losses that
are realized in years subsequent to the years in which such net capital gains
are realized. In order to return $15 per Share to the Trust's shareholders at
the end of its term, the Trust also must recoup amounts paid by the Trust in
connection with its organization and its initial public offering.
Due to the adverse conditions that affected the Mortgage-Backed Securities
markets during 1994, the Trust sustained realized and unrealized capital losses
aggregating approximately $20.5 million, resulting in a reduction in its net
asset value per share as of November 30, 1994 to $12.70. While the Sub-Adviser
will seek to recoup these losses in the future, there can be no assurance that
it will be able to do so. Additionally, the Trust has included a portion of the
tax-exempt income attributable to Zero Coupon Municipal Securities in its
regular dividends to Shareholders. As a result, that income will not be
available for distribution to Shareholders on or about November 30, 2002. Based
on current conditions, it is unlikely that the Trust will be able to return a
full $15 per share to investors on or about November 30, 2002. The Sub-Adviser
intends to manage the Trust so that the amount available to distribute to
shareholders at that date will be as much as possible while still providing
high monthly income.
The Trust expects to retain a portion of its income on the Zero Coupon
Municipal Securities in its portfolio, provided that such retention is
consistent with the maintenance of the Trust's status as a regulated investment
company ("RIC") for federal income tax purposes. Such retained income is
intended to serve to increase the net asset value of the Trust. See "Investment
Objective and Policies." No assurance can be given that such results will be
achieved.
INTEREST RATE SENSITIVITY
The yield on debt securities, including Mortgage- and Asset-Backed Securities
and Zero Coupon Municipal Securities, depends on a variety of factors,
including general market conditions for such securities, the financial
condition of the issuer, the size of the particular offering, the maturity,
credit quality and rating of the security and, in the case of securities of
Municipal Issuers,
18
<PAGE>
expectations regarding changes in income tax rates. Generally, the longer the
maturity of such a security, the higher its yield and the greater its
volatility. The market value of debt securities, and accordingly the Trust's
net asset value, normally will vary inversely with changes in interest rates.
Such changes in the values of the securities held by the Trust will affect the
net asset value of Shares. Neither the issuance by, nor the guarantee of a U.S.
government agency, nor a AAA or equivalent rating for a security constitutes
assurance that the security will not fluctuate in value or that the Trust will
receive the originally anticipated yield on the security.
The yields on Specified Mortgage-Backed Securities (including IOs, POs (other
than IOs and POs that are PAC Bonds) and inverse floating rate obligations), in
which the Trust may invest up to 10% of its total assets, on IOs and POs that
are PAC Bonds, and on Zero Coupon Municipal Securities generally are more
sensitive to changes in interest rates than most Mortgage-Backed Securities.
The Trust is not limited in its ability to invest in IOs and POs that are PAC
Bonds. The yields on most IOs and POs are extremely sensitive to the rate of
principal payments (including prepayments), which can result in price
volatility and, in the case of IOs, can result in the Trust failing to recoup
fully its initial investment in such securities even though the securities may
be issued or guaranteed by a U.S. government agency or be rated in the highest
rating category. Due to their planned amortization structure, yields on IOs and
POs that are PAC Bonds generally do not have the same sensitivity to
prepayments as other IOs and POs unless, among other things, the actual
prepayment experience on the underlying mortgage loans fails to fall within the
range contemplated when the PAC Bonds were created. While the Sub-Adviser will
seek to limit the impact of these factors on the Trust, no assurance can be
given that it will achieve this result.
The market value of an inverse floating rate obligation will be more volatile
than that of a fixed-rate obligation and, like most debt obligations, will vary
inversely with changes in interest rates. Some inverse floating rate
obligations have coupon rates that adjust to changes in market interest rates
to a greater degree than the change in the market rate and accordingly have
investment characteristics similar to investment leverage. As a result, the
market value of such inverse floating rate obligations are subject to greater
risk of fluctuation than other Mortgage-Backed Securities, and such
fluctuations could adversely affect the ability of the Trust to achieve its
investment objective.
LEVERAGE
The Trust may engage in leverage through the use of mortgage dollar rolls and
reverse repurchase agreements. Leveraging exaggerates changes in the net asset
value of the Shares and in the yield on the Trust's portfolio, which may, in
turn, result in increased volatility of the market price of the Shares.
Leverage also creates interest expenses for the Trust, which can exceed the
income from the assets obtained with the proceeds. To the extent the income
derived from securities purchased with funds obtained through leverage exceeds
the interest and other expenses that the Trust will have to pay in connection
with such leverage, the Trust's net income will be greater than if leverage
were not used. Conversely, if the income from the assets obtained through
leverage is not sufficient to cover the cost of leverage, the net income of the
Trust will be less than if leverage were not used, and therefore the amount
available for distribution to shareholders will be reduced. Because of the
short-term nature of the funding available in the dollar roll and reverse
repurchase markets, relatively low transactions costs, wide availability of
funds at favorable terms and the ability to increase or decrease the amount of
outstanding borrowing in a relatively short period of time, the Trust expects
that substantially all of its leverage will be in the form of mortgage dollar
rolls and reverse repurchase agreements.
19
<PAGE>
The Trust is authorized to borrow money for investment purposes in an amount
up to 33 1/3% of its total assets (including the amount of the borrowing and
any other indebtedness representing "senior securities" under the 1940 Act but
reduced by any liabilities and indebtedness other than senior securities). The
Trust is also authorized to borrow an additional 5% of its total assets without
regard to the foregoing limitation for temporary purposes such as clearance of
portfolio transactions, the payment of dividends and Share repurchases.
Borrowing constitutes leverage, a speculative technique. The use of leverage
provides the opportunity for increased net income but, at the same time,
involves special risks. The Trust will only use leverage when the Sub-Adviser
believes that such leverage will benefit the Trust after taking such risks into
consideration.
Mortgage Dollar Rolls. Mortgage dollar rolls are transactions in which the
Trust sells Mortgage-Backed Securities for delivery in the current month and
simultaneously contracts to purchase substantially similar (same type, coupon
and maturity) securities on a specified future date. During the roll period,
the Trust forgoes principal and interest paid on the Mortgage-Backed
Securities. The Trust is compensated by the difference between the current
sales price and the lower 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 Trust also may be compensated through the receipt of fee
income equivalent to a lower forward price. Unless such benefits exceed the
income, capital appreciation and gain or loss due to mortgage prepayments that
would have been realized on the securities sold as part of the mortgage dollar
roll, the use of this technique will diminish the investment performance of the
Trust compared with what such performance would have been without the use of
mortgage dollar rolls. At the time the Trust enters into a mortgage dollar
roll, the Trust's custodian segregates cash or liquid, high-grade debt
securities having a value not less than the forward purchase price. Mortgage
dollar rolls will be considered borrowings and, accordingly, will be subject to
the Trust's 33 1/3% limitation on borrowings.
Mortgage dollar rolls involve certain risks including the risk that the
broker-dealer to whom the Trust sells the security becomes insolvent, the
Trust's right to purchase or repurchase the mortgage-related securities subject
to the mortgage dollar roll may be restricted, and the instrument which the
Trust is required to repurchase may be worth less than an instrument which the
Trust originally held. Successful use of Trust mortgage dollar rolls will
depend upon the Sub-Adviser's ability to predict correctly interest rates and
mortgage prepayments. For these reasons, there is no assurance that mortgage
dollar rolls can be successfully employed.
Reverse Repurchase Agreements. The Trust also has leveraged by entering into
reverse repurchase agreements with the same parties with whom it may enter into
repurchase agreements. Under a reverse repurchase agreement, the Trust sells
securities and agrees to repurchase them at a mutually agreed date and price.
At the time the Trust enters into a reverse repurchase agreement, an approved
custodian segregates cash or liquid, high grade debt securities having a value
not less than the repurchase price (including accrued interest). The market
value of securities sold under reverse repurchase agreements typically is
greater than the proceeds of the sale, and accordingly, the market value of the
securities sold is likely to be greater than the value of the securities in
which the Trust invests those proceeds. Thus, reverse repurchase agreements
involve the risk that the buyer of the securities sold by the Trust might be
unable to deliver them when the Trust seeks to repurchase. In the event the
buyer of securities under a reverse repurchase agreement files for bankruptcy
or becomes insolvent, such buyer or its trustee or receiver may receive an
extension of time to determine whether to enforce the Trust's obligation to
repurchase the securities and the Trust's use of the proceeds of the reverse
repurchase agreement may effectively be restricted pending such decision.
Reverse repurchase agreements will be considered borrowings and, accordingly,
will be subject to the Trust's 33 1/3% limitation on borrowings.
20
<PAGE>
Effect of Leverage. The Trust's portfolio must experience an annual return of
1.81% in order to cover the 5.78% annualized rate of interest on reverse
repurchase agreements outstanding as of November 30, 1994. Such percentages are
not necessarily indicative of the annualized rate of interest on the Trust's
outstanding senior securities, or of the annual return necessary to cover such
rate of interest, as of other dates. The following table may assist the
investor in understanding the effects of leverage by illustrating the effect of
leverage on return to a shareholder. The figures appearing in the table are
hypothetical and actual returns may be greater or less than those appearing in
the table.
<TABLE>
<S> <C> <C> <C> <C> <C> <C>
Assumed Return on
Portfolio
(Net of Expenses)........ -10% -5% 0% 1.81% 5% 10%
Corresponding Return to
Shareholder.............. -18.64% -10.75% -2.86% 0% 5.04% 12.93%
</TABLE>
WHEN-ISSUED AND DELAYED DELIVERY SECURITIES
The Trust may purchase debt securities on a when-issued basis or may purchase
or sell debt securities for delayed delivery. In when-issued or delayed
delivery transactions, delivery of the securities occurs beyond normal
settlement periods, but no payment or delivery is made by the Trust prior to
the actual delivery or payment by the other party to the transaction. The Trust
does not accrue income with respect to a when-issued or delayed delivery
security prior to its stated delivery date. A security purchased on a when-
issued or delayed delivery basis is recorded as an asset on the commitment date
and is subject to changes in market value, generally based upon changes in the
level of interest rates. Thus, fluctuations in the value of the security from
the time of the commitment date will affect the Trust's net asset value. When
the Trust commits to purchase securities on a when-issued or delayed delivery
basis, its custodian sets aside in a segregated account cash, U.S. government
securities or other liquid, high-grade debt securities with a market value
equal to the amount of the commitment. If necessary, additional assets are
placed in the account daily so that the value of the account equals or exceeds
the amount of the Trust's purchase commitment. Placing securities rather than
cash in the segregated account may have a leveraging effect on the Trust's net
asset value per share; that is, to the extent that the Trust remains
substantially fully invested in securities at the same time that it has
committed to purchase securities on a when-issued or delayed delivery basis,
greater fluctuations in its net asset value per share may occur than if it had
set aside cash to satisfy its purchase commitments.
STRATEGIC TRANSACTIONS
The Trust may use the investment strategies described below to hedge various
market risks (such as the risk of changes in interest rates), to manage the
effective maturity or interest rate sensitivity of its portfolio or to enhance
income or realize gains. New financial products and risk management techniques
continue to be developed, and the Trust may use these products and techniques
to the extent consistent with its investment objective and regulatory and tax
considerations.
In pursuing these investment strategies, the Trust may purchase and sell
exchange-listed and OTC put and call options (including straddles and spreads)
on securities, financial futures, interest
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rate indices and other financial instruments, purchase and sell financial
futures contracts and enter into interest rate protection transactions,
including interest rate swaps, caps, collars and floors (all of the foregoing
transactions are referred to collectively as "Strategic Transactions").
Strategic Transactions may be used to attempt to protect against possible
changes in the market value of securities held in or to be purchased for the
Trust's portfolio, to protect the Trust's unrealized gains in the value of its
portfolio securities, to facilitate the sale of such securities, to manage the
effective maturity or interest rate sensitivity of the Trust's portfolio or to
establish a position as a temporary substitute for purchasing or selling
particular securities. Some Strategic Transactions may also be used to enhance
income or realize gains. The Trust may enter into Strategic Transactions under
which up to 100% of the Trust's portfolio assets is at risk.
The Trust might not employ any Strategic Transactions, and there can be no
assurance that any Strategic Transactions used will succeed. The use of
Strategic Transactions involves certain risks, including: (1) the fact that
skills needed to use Strategic Transactions are different from those needed to
select the Trust's securities; (2) possible imperfect correlation, or even no
correlation, between price movements of Strategic Transactions and price
movements of related portfolio positions; (3) the fact that, while Strategic
Transactions can reduce risk of loss, they can also reduce the opportunity for
gain, or even result in losses, by offsetting favorable price movements in
related portfolio positions; and (4) the possible inability of the Trust to
purchase or sell a portfolio security at a time that otherwise would be
favorable for it to do so, or the possible need for the Trust to sell a
portfolio position at a disadvantageous time, due to the need for the Trust to
maintain "cover" or segregate assets in connection with Strategic Transactions
and the possible inability of the Trust to close out or to liquidate its
related portfolio position. Strategic Transactions also are subject to the risk
that, if the Sub-Adviser is incorrect in its forecast of interest rates, market
values or other economic factors affecting such a transaction, the Trust would
have been better off if it had not entered into the Strategic Transaction. See
the SAI for additional information on Strategic Transactions.
ILLIQUID SECURITIES
The Trust may invest up to 20% of its total assets (determined at the time of
investment) in illiquid securities. "Illiquid securities" for this purpose are
securities that cannot be disposed of within seven days at approximately the
amount at which the Trust has valued the securities and includes, among other
things, certain Zero Coupon Municipal securities, purchased OTC options,
repurchase agreements maturing in more than seven days and restricted
securities other than Rule 144A securities and commercial paper that the Sub-
Adviser has determined to be liquid pursuant to guidelines established by the
Trust's board of directors. The Trust may not be able to sell illiquid
securities when the Sub-Adviser considers it desirable to do so or may have to
sell such securities at a price lower than could be obtained if they were more
liquid. Also, the sale of illiquid securities may require more time and result
in higher dealer discounts, brokerage commissions and other selling expenses
than does the sale of securities that are not illiquid. The lack of a liquid
secondary market for illiquid securities may make it more difficult for the
Trust to assign a value to those securities for purposes of valuing the Trust's
portfolio and calculating its net asset value. Under current guidelines of the
staff of the SEC, IOs and POs are considered illiquid. However, IO and PO
classes of fixed-rate Mortgage-Backed Securities issued by the U.S. Government
or one of its agencies or instrumentalities will not be considered illiquid if
the Sub-Adviser has determined that they are liquid pursuant to guidelines
established by the Trust's board of directors. All or a portion of the assets
used as cover for OTC options also may be considered illiquid.
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<PAGE>
PORTFOLIO TURNOVER
Portfolio turnover may vary from year to year and will not be a limiting
factor when the Sub-Adviser deems portfolio changes appropriate. Higher
portfolio turnover will result in higher Trust expenses, including brokerage
commissions, dealer mark-ups and other transaction costs on the sale of
securities and on reinvestment in other securities. The portfolio turnover rate
is calculated by dividing the lesser of the Trust's annual sales or purchases
of portfolio securities (exclusive of purchases or sales of securities whose
maturities at the time of acquisition were one year or less) by the monthly
average value of the securities in the portfolio during the year. The Trust's
portfolio turnover rates for the fiscal year ended November 30, 1994 and for
the fiscal period ended November 30, 1993 were 107.86% and 354.81%,
respectively.
MARKET PRICE OF SHARES
Shares of the Trust and of other closed-end investment companies frequently
trade at a discount from net asset value. See "Trading History." Accordingly,
there is a risk that, for example, a shareholder who sells Shares of the Trust
at a time when they are trading at a discount could incur a loss of capital
even if the Trust's net asset value has not declined since the shareholder
purchased the Shares. This market risk is separate and distinct from the risk
that the Trust's net asset value may decrease. Accordingly, the Shares are
designed primarily for long-term investors and should not be viewed as a
vehicle for trading purposes.
OTHER INFORMATION
The Trust's investment objective and certain investment limitations described
in the SAI are fundamental policies that may not be changed without shareholder
approval. All other investment policies may be changed by the Trust's board of
directors without shareholder approval.
MANAGEMENT OF THE TRUST
INVESTMENT ADVISORY AND ADMINISTRATION ARRANGEMENTS
Subject to the supervision of the Trust's board of directors, investment
advisory and administration services are provided to the Trust by Mitchell
Hutchins pursuant to an Investment Advisory and Administration Contract dated
as of December 18, 1992 ("Mitchell Hutchins Contract"). Mitchell Hutchins'
principal business address is 1285 Avenue of the Americas, New York, New York
10019. Mitchell Hutchins is a wholly owned subsidiary of PaineWebber, which is
a wholly owned subsidiary of Paine Webber Group Inc., a publicly held financial
services holding company. Mitchell Hutchins provides investment advisory and
portfolio management services to investment companies, pension funds and other
institutional, corporate and individual clients. As of February 28, 1995,
Mitchell Hutchins served as investment adviser or sub-adviser to 42 registered
investment companies with 77 separate portfolios having aggregate assets of
approximately $27.2 billion.
Goldman Sachs Funds Management, L.P. serves as the Sub-Adviser under a Sub-
Investment Advisory Contract with Mitchell Hutchins dated as of December 18,
1992. The Sub-Adviser makes investment decisions and places orders to buy, sell
or hold particular securities for the Trust. The Sub-Adviser's principal
business address is One New York Plaza, New York, New York 10004. The Sub-
Adviser is a limited partnership that is indirectly controlled by Goldman Sachs
Group, L.P. ("Goldman Sachs Group") through Goldman Sachs Funds Management,
Inc. The Sub-Adviser is able
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<PAGE>
to draw on the substantial research and market expertise of its affiliate,
Goldman, Sachs & Co., which is among the oldest and largest investment banking
firms in the United States. The Sub-Adviser and its affiliates provide
investment advisory and portfolio management services to pension funds,
investment companies and other institutional, corporate and individual clients.
As of February 28, 1995, total assets under the management of the Sub-Adviser
and its affiliates were approximately $42.1 billion. Of this amount,
approximately $16.2 billion represented assets invested in fixed-income
securities, of which approximately $6.5 billion was invested in Mortgage-Backed
Securities.
Pursuant to the Mitchell Hutchins Contract, Mitchell Hutchins provides a
continuous investment program for the Trust and makes investment decisions and
place orders to buy, sell or hold particular securities; Mitchell Hutchins has
delegated these responsibilities to the Sub-Adviser subject to the supervision
of Mitchell Hutchins. As administrator, Mitchell Hutchins supervises all
matters relating to the operation of the Trust and provides for it corporate,
administrative and clerical personnel, office space, equipment and services,
including arranging for the periodic preparation, updating, filing and
dissemination of proxy materials, tax returns and reports to the Trust's board
of directors, shareholders and regulatory authorities. The Trust pays Mitchell
Hutchins, as investment adviser and administrator, an investment advisory fee
in an amount equal to an annual fee of 0.50% of the Trust's average weekly net
assets, and an administration fee in an amount equal to an annual fee of 0.20%
of the Trust's average weekly net assets; each such fee is computed weekly and
payable monthly. Mitchell Hutchins (not the Trust) pays the Sub-Adviser a fee,
computed weekly and payable monthly, in an amount equal to one-half of the
investment advisory fee received by Mitchell Hutchins from the Trust.
The Trust incurs various other expenses in its operations, such as custody
and transfer agency fees, brokerage commissions, professional fees, expenses of
board and shareholder meetings, fees and expenses relating to registration of
its Shares, taxes and governmental fees, fees and expenses of the directors,
costs of obtaining insurance, expenses of printing and distributing shareholder
materials, organizational expenses, including costs or losses to any
litigation. For the fiscal year ended November 30, 1994 and for the fiscal
period ended November 30, 1993, the Trust's total expenses, stated as a
percentage of average net assets, were 2.72% and 1.79%, respectively.
Since March 1993, Ms. Sharmin Mossavar-Rahmani has been responsible for the
management of the Trust's portfolio and, subject to Ms. Mossavar-Rahmani's
supervision, Jonathan A. Beinner and Theodore T. Sotir have provided day-to-day
portfolio management for the Trust. Ms. Mossavar-Rahmani is the Chief
Investment Officer of Goldman Sachs Asset Management and a Director of the Sub-
Adviser responsible for fixed-income investments. For six years prior to
joining the Sub-Adviser in 1993, Ms. Mossavar-Rahmani was employed by Fidelity
Management Trust Company, where most recently she was Chief Investment Officer
responsible for all separate and commingled fixed income accounts. Messrs.
Beinner and Waldman each specialize in investing in a particular type of
security the Trust may hold. Mr. Beinner joined the Sub-Adviser in 1990 and is
currently a Vice President, after working in the trading and arbitrage group of
Franklin Savings Association. Mr. Sotir joined Goldman Sachs Asset Management
in 1993 and is currently a Vice President, after working as a portfolio manager
at Fidelity Management Trust Company. Mr. Sotir is a strategist and member of
the risk control team. Prior to joining Fidelity, Mr. Sotir worked for Goldman,
Sachs & Co. for six years.
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<PAGE>
DIVIDENDS AND OTHER DISTRIBUTIONS; DIVIDEND REINVESTMENT PLAN
DIVIDENDS AND OTHER DISTRIBUTIONS
The Trust declares and pays monthly dividends from its net investment income.
The Trust currently intends to retain, until its final liquidating
distribution, a portion of the tax-exempt income attributable to its Zero
Coupon Municipal Securities, but in no event greater than 10% of its net
investment income in any year. For federal income tax purposes, the Trust is
required to distribute at least 90% of its net investment income for each
calendar year. The Trust expects that all or a portion of its net capital gain
(i.e., the excess of net long-term capital gain over net short-term capital
loss), if any, will be distributed at least once annually. "Net investment
income," as used herein, includes all interest (including tax-exempt interest
and accrued income on Zero Coupon Municipal Securities) and other ordinary
income earned by the Trust on its portfolio holdings and net short-term capital
gains, net of the Trust's expenses. Net asset value fluctuates over time. If
the Trust realizes any capital losses on dispositions of securities that are
not offset by capital gains realized on dispositions of other securities and by
the retention of income on Zero Coupon Municipal Securities, the Trust may be
unable to distribute to its shareholders at the end of its term to $15 per
Share then outstanding. In addition, the timing of the realization of any such
capital gains or capital losses, and the possibility that the Trust may be
required to distribute all or a portion of any such gains prior to its
termination date, as well as the level of income earned by the Trust, may
adversely affect its ability to distribute an amount equal to $15 per Share at
the end of its term. See "Investment Objective and Policies" and "Risk Factors
and Other Investment Policies."
Various factors may affect the level of the Trust's income, including the
asset mix, interest rates, remaining term of the Trust, the amount of leverage
utilized by the Trust and the Trust's use of Strategic Transactions. A
significant decline in market rates of interest may have an adverse effect on
the income earned and dividends paid by the Trust. In addition, the Trust's
income and dividends may decline in later years. The Trust expects that a final
liquidating distribution to shareholders of its net assets will be made on or
about the termination of the Trust.
The Trust may not declare any dividend (other than a dividend payable in
Shares) or any other distribution on the Shares, and may not purchase any of
the Shares, unless at the time of such declaration or purchase the amount of
the Trust's obligations constituting senior securities does not exceed 33 1/3%
of its total assets (computed as specified in the 1940 Act) after deducting the
amount of such dividend, other distribution or purchase. See "Description of
the Shares -- Share Repurchases and Tender Offers."
DIVIDEND REINVESTMENT PLAN
Under the Plan, all shareholders whose Shares are registered in their own
names, or in the name of PaineWebber (or its nominee), have all dividends and
other distributions payable to them automatically reinvested in additional
Shares, unless such shareholders elect to receive cash. Shareholders may
affirmatively elect to receive all dividends and other distributions in cash
paid by check mailed directly to them by PNC Bank, National Association
("Transfer Agent"), as dividend disbursing agent. Shareholders who hold their
Shares in the name of a broker or nominee other than PaineWebber (or its
nominee) should contact such broker or nominee to determine whether, or how,
they may participate in the Plan. The ability of such shareholders to
participate in the Plan may change if their Shares are transferred into the
name of another broker or nominee.
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<PAGE>
The Transfer Agent serves as agent for the shareholders in administering the
Plan. After the Trust declares a dividend or determines to make another
distribution, the Transfer Agent, as agent for the participants, receives the
cash payment and uses it to buy Shares in the open market, on the NYSE or
otherwise, for the participants' accounts. Such Shares may be purchased at
prices that are higher or lower than the net asset value per Share at the time
of purchase. The number of Shares purchased with each distribution to a
particular shareholder equals the result obtained by dividing the amount of the
distribution payable to that shareholder by the average price per Share
(including applicable brokerage commissions) that the Transfer Agent was able
to obtain in the open market. The Trust will not issue any new Shares in
connection with the Plan. The Transfer Agent maintains all shareholder accounts
in the Plan and furnishes written confirmations of all transactions in the
accounts, including information needed by shareholders for personal and tax
records. Shares in the account of each Plan participant are held by the
Transfer Agent in non-certificated form in the name of the participant, and
each shareholder's proxy will include the Shares purchased pursuant to the
Plan.
There is no charge to participants for reinvesting dividends or other
distributions. The Transfer Agent's fees for the handling of reinvestment of
distributions are paid by the Trust. However, each participant pays a pro rata
share of brokerage commissions incurred with respect to the Transfer Agent's
open market purchases of Shares in connection with the reinvestment of
distributions. The automatic reinvestment of dividends and other distributions
does not relieve participants of any income tax that may be payable on such
distributions. See "Taxation."
A holder who has elected to participate in the Plan may terminate
participation in the Plan at any time without penalty, and shareholders who
have previously terminated participation in the Plan may rejoin it at any time.
Changes in elections must be made in writing to the Transfer Agent and should
include the shareholder's name and address as they appear on the Share
certificate. An election to terminate participation in the Plan, until such
election is changed, is deemed to be an election by a shareholder to take all
subsequent distributions in cash. An election will be effective only for
distributions declared and having a record date at least ten days after the
date on which the election is received.
Experience under the Plan may indicate that changes are desirable.
Accordingly, the Trust reserves the right to amend or terminate the Plan with
respect to any dividend or other distribution if notice of the change is sent
to Plan participants at least 30 days before the record date for such
distribution. The Plan also may be amended or terminated by the Transfer Agent
by at least 30 days' written notice to all Plan participants. All
correspondence concerning the Plan should be directed to the Transfer Agent at
PNC Bank, National Association, c/o PFPC Inc., P.O. Box 8950, Wilmington,
Delaware 19899.
TAXATION
The Trust intends to continue to qualify for treatment as a RIC under the
Internal Revenue Code. For each taxable year that the Trust so qualifies, it
(but not its shareholders) will be relieved of federal income tax on that part
of its investment company taxable income (consisting generally of taxable net
investment income, net short-term capital gain and net realized gains from
certain transactions) and net capital gain that is distributed to its
shareholders.
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Dividends from the Trust's net investment income (including dividends
attributable to any tax-exempt interest income or original issue discount and
net short-term capital gains, if any) are taxable to its shareholders as
ordinary income to the extent of its earnings and profits, whether received in
cash or reinvested in additional Shares. It is not expected that any portion of
the Trust's distributions will be eligible for the dividends-received deduction
available for corporations.
Distributions of the Trust's net capital gain, if any, are taxable to its
shareholders as long-term capital gains, regardless of the length of time they
have held their Shares. The Trust may decide, however, to retain for
reinvestment all or a portion of its net capital gain and to pay tax on the
undistributed portion. If the Trust did so, it would designate that portion as
undistributed capital gains by notice to its shareholders. In that event, each
person who was a shareholder of record on the last day of the Trust's taxable
year would be required to include his proportionate share of the designated
gains in calculating his own long-term capital gains. Each such shareholder
would be allowed, however, to credit against his federal income tax liability
his proportionate share of the income tax imposed on the Trust with respect to
the undistributed capital gains and to increase the basis of his Shares by 66%
of his proportionate share of those gains.
The Trust intends to distribute a sufficient amount of its net investment
income each year so as to satisfy the Distribution Requirement and to avoid
imposition of the Excise Tax. The Trust may decide, however, to retain for
reinvestment all or a portion of its net investment income and net capital gain
(the excess of net long-term capital gain over net short-term capital loss). If
it did so, the net investment income and undistributed gain would be taxed to
the Trust at corporate income tax rates, in addition to possibly being subject
to the Excise Tax.
A participant in the Plan is treated as having received a distribution in the
amount of cash used to purchase Shares on his behalf, including a pro rata
portion of the brokerage fees incurred by the Transfer Agent. An investor also
should be aware that if Shares are purchased shortly before the record date for
any dividend or other distribution, the investor will pay full price for the
Shares and could receive some portion of the price back as a taxable
distribution. Shareholders who are not liable for tax on their income and whose
Shares are not debt-financed will not be required to pay tax on dividends or
other distributions they receive from the Trust.
Dividends and other distributions declared by the Trust in October, November
or December of any year and payable to shareholders of record on a date in any
of those months will be deemed to have been paid by the Trust and received by
the shareholders on December 31 of that year if the distributions are paid by
the Trust during the following January. Accordingly, those distributions will
be taxed to shareholders for the year in which that December 31 falls. The
Trust notifies its shareholders following the end of each calendar year of the
amounts of dividends and capital gain distributions paid (or deemed paid) that
year.
Upon a sale or exchange of Shares (including a sale pursuant to a Share
repurchase or tender offer by the Trust) or upon receiving a distribution in
liquidation of the Trust, a shareholder generally will recognize a taxable gain
or loss (equal to the difference between his adjusted basis for the Shares and
the amount realized), which will be treated as a capital gain or loss if the
Shares are capital assets in the shareholder's hands and will be a long-term
capital gain or loss if the Shares have been held for more than one year.
Notwithstanding this general rule, however, any loss realized on a sale or
exchange of Shares (1) will be treated as a long-term, rather than as a short-
term, capital loss to the extent of any capital gain distributions received
thereon, if the shares were held for six months or less; and (2) will be
disallowed to the extent those Shares are replaced by
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<PAGE>
other Shares within a period of 61 days beginning 30 days before and ending 30
days after the date of disposition of the Shares (which could occur, for
example, as the result of participation in the Plan), in which event, the
replacement Shares' basis would be adjusted to reflect the disallowed loss.
The Trust is required to withhold 31% of all dividends, capital gain
distributions and repurchase proceeds payable to any individuals and certain
other non-corporate shareholders who do not provide the Trust with a correct
taxpayer identification number. Withholding at that rate from dividends and
capital gain distributions also is required for shareholders who otherwise are
subject to backup withholding.
The Trust is not intended to be an investment for non-U.S. persons.
The foregoing is only a summary of some of the important federal tax
considerations affecting the Trust and its shareholders; see the SAI for a
further discussion. There may be other federal, state or local tax
considerations applicable to a particular investor. Prospective shareholders
are therefore urged to consult their tax advisers.
DESCRIPTION OF THE SHARES
The Trust is authorized to issue 200 million shares of common stock, $0.001
par value. The information contained under this heading is subject to the
provisions contained in the Trust's Articles of Incorporation ("Articles") and
By-Laws.
THE SHARES
Shares of the Trust have no preemptive, conversion, exchange or redemption
rights. Each Share has equal voting, dividend, distribution and liquidation
rights. The Shares are fully paid and nonassessable. Shareholders are entitled
to one vote per Share. All voting rights for the election of directors are
noncumulative, which means that the holders of more than 50% of the shares can
elect 100% of the directors then nominated for election if they choose to do so
and, in such event, the holders of the remaining Shares will not be able to
elect any directors.
The Articles provide that the Trust will terminate on or about November 30,
2002, without shareholder approval. In connection with such termination, the
Trust will liquidate all of its assets and distribute to shareholders the net
proceeds therefrom after making appropriate provision for any liabilities of
the Trust. Prior to such termination, however, the board of directors of the
Trust will consider whether it is in the best interests of the shareholders to
terminate and liquidate the Trust without shareholder approval notwithstanding
the provision of the Articles. In considering the matter, the board of
directors will take into account, among other factors, the adverse effect which
capital losses realized upon disposition of securities in connection with
liquidation (if any such losses are anticipated) would have on the Trust and
its shareholders. In the event that the board of directors determines that
under the circumstances, termination and liquidation of the Trust on or about
November 30, 2002 without a shareholder vote would not be in the best interests
of shareholders, the board of directors will call a special meeting of
shareholders to consider an appropriate amendment to the Articles. The Articles
require the affirmative vote of the holders of at least 66 2/3% outstanding
Shares to approve such an amendment. The foregoing provisions of the Articles
are governed by the laws of the State of Maryland and not the 1940 Act. Under
the rules of the NYSE applicable to listed companies, the Trust will be
required to hold an annual meeting of shareholders in each year. If for any
reason the Shares are no longer listed on the NYSE (or any other national
securities exchange the rules of which require annual meetings of
shareholders), the Trust may decide not to hold annual meetings of
shareholders.
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Any additional offerings of the Shares, if made, will require approval of the
Trust's board of directors and will be subject to the requirement of the 1940
Act that Shares may not be sold at a price below the then current net asset
value, exclusive of underwriting discounts and commissions, except, among other
things, in connection with an offering to existing shareholders or with the
consent of the holders of at least a majority of the Trust's outstanding voting
securities. The Trust has no present intention of issuing any additional
Shares.
The following chart indicates the Shares outstanding as of January 20, 1995.
<TABLE>
<CAPTION>
AMOUNT OUTSTANDING
AMOUNT HELD BY EXCLUSIVE OF AMOUNT HELD
REGISTRANT OR FOR ITS BY REGISTRANT OR FOR ITS
TITLE OF CLASS AMOUNT AUTHORIZED ACCOUNT ACCOUNT
-------------- ----------------- --------------------- ------------------------
<S> <C> <C> <C>
Common Stock. .......... 200,000,000 0 10,756,667
</TABLE>
SHARE REPURCHASES AND TENDER OFFERS
In recognition of the possibility that the Shares might trade at a discount
to net asset value and that any such discount may not be in the interest of
shareholders, the Trust's board of directors has determined that it will
consider taking action to attempt to reduce or eliminate any discount. To that
end, the board may from time to time consider action either to repurchase
Shares in the open market or to make a tender offer for the Shares at their net
asset value. The board currently intends at least annually to consider, in
consultation with Mitchell Hutchins, the possibility of making such open market
Share repurchases or tender offers, and at such times may consider such factors
as the market price of the Shares, the net asset value of the Shares, the
liquidity of the assets of the Trust, whether such transactions would impair
the Trust's status as a RIC, general economic conditions and such other events
or conditions that the board believes may have a material effect of the Trust's
ability to consummate such transactions. Under certain circumstances, it is
possible that open market repurchases or tender offers may constitute a
distribution under the Internal Revenue Code to the remaining shareholders of
the Trust. The Trust may borrow to finance repurchases and tender offers.
Interest on any such borrowings will reduce the Trust's net income.
There can be no assurance that the board of directors will decide to
undertake either Share repurchases or tender offers or that, if undertaken,
such acts will result in the Shares trading at a price that is equal or close
to net asset value per Share. The market price of Trust's Shares will be
determined by, among other things, the relative demand for and supply of such
Shares in the market, the Trust's investment performance, the Trust's dividends
and yield and investor perception of the Trust's overall attractiveness as an
investment as compared with other investment alternatives. Nevertheless, the
fact that the Shares may be the subject of tender offers at net asset value
from time to time may reduce the spread that might otherwise exist between the
market price of the Shares and net asset value per share. In the opinion of
Mitchell Hutchins, sellers may be less inclined to accept a significant
discount if they have a reasonable expectation of being able to recover net
asset value in conjunction with a possible tender offer.
Although the board of directors believes that Share repurchases and tender
offers generally would have a favorable effect on the market price of the
Shares, it should be recognized that the Trust's acquisition of Shares would
decrease the Trust's total assets and therefore have the effect of increasing
the Trust's expense ratio and decreasing the asset coverage with respect to any
outstanding borrowings. Because of the nature of the Trust's investment
objective, policies and portfolio, under current market conditions Mitchell
Hutchins anticipates that repurchases and tender offers generally should not
have a material, adverse effect on the Trust's investment
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<PAGE>
performance and that the Sub-Adviser generally should not have any material
difficulty in disposing of portfolio securities in order to consummate Share
repurchases and tender offers; however, this may not always be the case.
Any tender offer made by the Trust for its Shares generally would be at a
price equal to the net asset value of the Shares on a date subsequent to the
Trust's receipt of all tenders. Each offer would be made, and the shareholders
would be notified, in accordance with the requirements of the Securities
Exchange Act of 1934 and the 1940 Act, either by publication or mailing or
both. Each offering document would contain such information as is prescribed by
such laws and the rules and regulations promulgated thereunder. Each person
tendering Shares would pay to the Trust's Transfer Agent a service charge to
help defray certain costs, including the processing of tender forms, effecting
payment, postage and handling. Any such service charge would be paid directly
by the tendering shareholder and would not be deducted from the proceeds of the
purchase. The Transfer Agent would receive the fee as an offset to these costs.
The Trust expects that the costs of effecting a tender offer would exceed the
aggregate of all service charges received from those who tender their Shares.
Costs associated with the tender would be charged against capital.
Tendered Shares that have been accepted and purchased by the Trust will be
held in the Trust's treasury until retired by the board. If treasury Shares are
retired, Shares issued and outstanding and capital in excess of par will be
reduced. If tendered Shares are not retired, the Trust may hold, sell or
otherwise dispose of the Shares for any lawful corporate purpose as determined
by the board of directors.
CERTAIN ANTI-TAKEOVER PROVISIONS OF THE ARTICLES OF INCORPORATION
The Trust's Articles contain provisions that have the effect of limiting: (1)
the ability of other entities or persons to acquire control of the Trust; (2)
the Trust's freedom to engage in certain transactions; and (3) the ability of
the Trust's directors or shareholders to amend the Articles. These provisions
of the Articles may be regarded as "anti-takeover" provisions. Under Maryland
law and the Trust's Articles, the affirmative vote of the holders of at least a
majority of the votes entitled to be cast is required for the consolidation of
the Trust with another corporation, a merger of the Trust with or into another
corporation (except for certain mergers in which the Trust is the successor), a
statutory share exchange in which the Trust is not the successor, a sale or
transfer of all or substantially all of the Trust's assets, the dissolution of
the Trust and any amendment to the Trust's Articles of Incorporation. In
addition, the affirmative vote of at least 66 2/3% (which is higher than that
required under Maryland law or the 1940 Act) of the outstanding Shares of the
Trust's capital stock is required generally to authorize any of the following
transactions or to amend the provisions of the Articles relating to such
transactions:
(1) merger, consolidation or statutory share exchange of the Trust with or
into any other corporation;
(2) issuance of any securities of the Trust to any person or entity for
cash;
(3) sale, lease or exchange of all or any substantial part of the assets of
the Trust to any entity or person (except assets having an aggregate
market value of less than $1,000,000); or
(4) sale, lease or exchange to the Trust, in exchange for securities of the
Trust, of any assets of any entity or person (except assets having an
aggregate fair market value of less than $1,000,000)
if such corporation, person or entity is directly, or indirectly through
affiliates, the beneficial owner of more than 5% of the outstanding shares (a
"Principal Shareholder"). A similar vote also would be required for any
amendment of the Articles to convert the Trust to an open-end investment
30
<PAGE>
company by making any class of the Trust's capital stock a "redeemable
security," as that term is defined in the 1940 Act. Such vote would not be
required with respect to any of the foregoing transactions, however, when,
under certain conditions, the board of directors approves the transaction,
although in certain cases involving merger, consolidation or statutory share
exchange or sale of all or substantially all of the Trust's assets or the
conversion of the Trust to an open-end investment company, the affirmative vote
of a majority of the outstanding Shares would nevertheless be required.
Reference is made to the Articles, on file with the SEC, for the full text of
these provisions.
The provisions of the Articles described above and the Trust's right to
repurchase or make a tender offer for its Shares could have the effect of
depriving the shareholders of opportunities to sell their Shares at a premium
over prevailing market prices by discouraging a third party from seeking to
obtain control of the Trust in a tender offer or similar transaction. See
"Description of the Shares--Share Repurchases and Tender Offers." The overall
effect of these provisions is to render more difficult the accomplishment of a
merger or the assumption of control by a Principal Shareholder. They provide,
however, the advantage of potentially requiring persons seeking control of the
Trust to negotiate with its management regarding the price to be paid and
facilitating the continuity of the Trust's management, investment objective and
policies. The board of directors of the Trust has considered the foregoing
anti-takeover provisions and concluded that they are in the best interests of
the Trust and its shareholders.
CUSTODIAN, TRANSFER AND DIVIDEND DISBURSING AGENT AND REGISTRAR
State Street Bank and Trust Company, 1776 Heritage Drive, North Quincy,
Massachusetts 02171, serves as custodian of the Trust's assets. PNC Bank,
National Association, whose principal business address is Broad and Chestnut
Streets, Philadelphia, Pennsylvania 19110, is the Trust's transfer and dividend
disbursing agent and registrar.
FURTHER INFORMATION
Further information concerning these securities and the Trust may be found in
the Registration Statement of which this Prospectus constitutes a part, on file
with the SEC.
TABLE OF CONTENTS OF STATEMENT OF ADDITIONAL INFORMATION
The Table of Contents for the SAI is as follows:
<TABLE>
<CAPTION>
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<S> <C>
Investment Policies and Restrictions.................................... 1
Investment Limitations.................................................. 5
Strategic Transactions.................................................. 7
Directors and Officers.................................................. 15
Control Persons and Principal Holders of Securities..................... 19
Investment Advisory Arrangements........................................ 19
Portfolio Transactions.................................................. 21
Valuation of Shares..................................................... 22
Taxes................................................................... 23
Additional Information.................................................. 25
Financial Statements.................................................... 25
Appendix A.............................................................. A-1
</TABLE>
31
<PAGE>
APPENDIX A
TYPES OF MORTGAGE-BACKED SECURITIES
The Trust may invest in the following types of Mortgage-Backed Securities.
New types of Mortgage-Backed Securities are developed and marketed from time to
time and, consistent with its investment limitations, the Trust expects to
invest in those new types of Mortgage-Backed Securities that the Sub-Adviser
believes may assist the Trust in achieving its investment objective. Similarly,
the Trust may invest in Mortgage-Backed Securities issued by new or existing
governmental or private issuers other than those identified in Appendix A to
this Prospectus and in the Statement of Additional Information.
GINNIE MAE CERTIFICATES
Ginnie Mae guarantees certain mortgage pass-through certificates ("Ginnie Mae
certificates") that are issued by Private Mortgage Lenders and that represent
ownership interests in individual pools of residential mortgage loans. These
securities are designed to provide monthly payments of interest and principal
to the investor. Timely payment of interest and principal is backed by the full
faith and credit of the United States government. Each mortgagor's monthly
payments to his lending institution on his residential mortgage are "passed
through" to certificateholders such as the Trust. Mortgage pools consist of
whole mortgage loans or participations in loans. The terms and characteristics
of the mortgage instruments are generally uniform within a pool but may vary
among pools. Lending institutions that originate mortgages for the pools are
subject to certain standards, including credit and other underwriting criteria
for individual mortgages included in the pools.
FANNIE MAE CERTIFICATES
Fannie Mae facilitates a national secondary market in residential mortgage
loans insured or guaranteed by U.S. government agencies and in privately
insured or uninsured residential mortgage loans (sometimes referred to as
"conventional mortgage loans" or "conventional loans") through its mortgage
purchase and Mortgage-Backed Securities sales activities. Fannie Mae issues
guaranteed mortgage pass-through certificates ("Fannie Mae certificates"),
which represent pro rata shares of all interest and principal payments made and
owed on the underlying pools. Fannie Mae guarantees timely payment of interest
and principal on Fannie Mae certificates. The Fannie Mae guarantee is not
backed by the full faith and credit of the United States government.
FREDDIE MAC CERTIFICATES
Freddie Mac also facilitates a national secondary market for conventional
residential and U.S. government-insured mortgage loans through its mortgage
purchase and Mortgage-Backed Securities sales activities. Freddie Mac issues
two types of mortgage pass-through securities: mortgage participation
certificates ("PCs") and guaranteed mortgage certificates ("GMCs"). Each PC
represents a pro rata share of all interest and principal payments made and
owed on the underlying pool. Freddie Mac generally guarantees timely monthly
payment of interest on PCs and the ultimate payment of principal, but it also
has a PC program under which it guarantees timely payment of both principal and
interest. GMCs also represent a pro rata interest in a pool of mortgages. These
instruments, however, pay interest semi-annually and return principal once a
year in guaranteed minimum payments. The Freddie Mac guarantee is not backed by
the full faith and credit of the United States government.
A-1
<PAGE>
PRIVATE, RTC AND SIMILAR MORTGAGE-BACKED SECURITIES
Mortgage-Backed Securities issued by Private Mortgage Lenders are structured
similarly to the pass-through certificates and CMOs issued or guaranteed by
Ginnie Mae, Fannie Mae and Freddie Mac. Such Mortgage-Backed Securities may be
supported by pools of U.S. government or agency insured or guaranteed mortgage
loans or by other Mortgage-Backed Securities issued by a government agency or
instrumentality, but they generally are supported by pools of conventional
(i.e., non-government guaranteed or insured) mortgage loans. Since such
Mortgage-Backed Securities normally are not guaranteed by an entity having the
credit standing of Ginnie Mae, Fannie Mae or Freddie Mac, they normally are
structured with one or more types of credit enhancement. See "--Types of Credit
Enhancement."
The Resolution Trust Corporation ("RTC"), which was organized by the U.S.
government in connection with the savings and loan crisis, holds assets of
failed savings associations as either a conservator or receiver for such
associations, or it acquires such assets in its corporate capacity. These
assets include, among other things, single family and multifamily mortgage
loans, as well as commercial mortgage loans. In order to dispose of such assets
in an orderly manner, RTC has established a vehicle registered with the SEC
through which it sells Mortgage-Backed Securities. RTC Mortgage-Backed
Securities represent pro rata interests in pools of mortgage loans that RTC
holds or has acquired, as described above, and are supported by one or more of
the types of private credit enhancements used by Private Mortgage Lenders.
COLLATERALIZED MORTGAGE OBLIGATIONS AND MULTI-CLASS MORTGAGE PASS-THROUGHS
CMOs are debt obligations that are collateralized either by mortgage loans or
mortgage pass-through securities (such collateral collectively being called
"Mortgage Assets"). CMOs may be issued by Private Mortgage Lenders or by
government entities such as Fannie Mae or Freddie Mac. Multi-class mortgage
pass-through securities are interests in trusts that are comprised of Mortgage
Assets and that have multiple classes similar to those in CMOs. Unless the
context indicates otherwise, references herein to CMOs include multi-class
mortgage pass-through securities. Payments of principal and interest on the
Mortgage Assets (and, in the case of CMOs, any reinvestment income thereon)
provide the funds to pay debt service on the CMOs or to make scheduled
distributions on the multi-class mortgage pass-through securities.
In a CMO, a series of bonds or certificates is issued in multiple classes.
Each class of CMO, also referred to as a "tranche," is issued at a specific
fixed or floating coupon rate and has a stated maturity or final distribution
date. Principal prepayments on the Mortgage Assets may cause CMOs to be retired
substantially earlier than their stated maturities or final distribution dates.
Interest is paid or accrues on all classes of a CMO (other than any PO class)
on a monthly, quarterly or semiannual basis. The principal and interest on the
Mortgage Assets may be allocated among the several classes of a CMO in many
ways. In one structure, payments of principal, including any principal
prepayments, on the Mortgage Assets are applied to the classes of a CMO in the
order of their respective stated maturities or final distribution dates so that
no payment of principal will be made on any class of the CMO until all other
classes having an earlier stated maturity or final distribution date have been
paid in full. In some CMO structures, all or a portion of the interest
attributable to one or more of the CMO classes may be added to the principal
amounts attributable to such classes, rather than passed through to
certificateholders on a current basis, until other classes of the CMO are paid
in full.
A-2
<PAGE>
Parallel pay CMOs are structured to provide payments of principal on each
payment date to more than one class. These simultaneous payments are taken into
account in calculating the stated maturity date or final distribution date of
each class, which, as with other CMO structures, must be retired by its stated
maturity date or final distribution date but may be retired earlier. The Sub-
Adviser anticipates that a substantial portion of the Mortgage-Backed
Securities that it acquires for the Trust normally will be PAC Bonds, which are
a form of parallel pay CMO. PAC Bonds are designed to provide relatively
predictable payments of principal provided that, among other things, the actual
prepayment experience on the underlying mortgage loans falls within a
contemplated range. If the actual prepayment experience on the underlying
mortgage loans is at a rate faster or slower than the contemplated range, or if
deviations from other assumptions occur, principal payments on a PAC Bond may
be greater or smaller than predicted. The magnitude of the contemplated range
varies from one PAC Bond to another; a narrower range increases the risk that
prepayments will be greater or smaller than contemplated.
ARM AND FLOATING RATE MORTGAGE-BACKED SECURITIES
The Sub-Adviser anticipates that a substantial portion of the Mortgage-Backed
Securities that it acquires for the Trust normally will be ARM and Floating
Rate Mortgage-Backed Securities. Because the interest rates on ARM and Floating
Rate Mortgage-Backed Securities are reset in response to changes in a specified
market index, the values of such securities tend to be less sensitive to
interest rate fluctuations than the values of fixed-rate securities. ARM
Mortgage-Backed Securities represent a right to receive interest payments at a
rate that is adjusted to reflect the interest earned on a pool of ARMs. ARMs
generally provide that the borrower's mortgage interest rate may not be
adjusted above a specified lifetime maximum rate or, in some cases, below a
minimum lifetime rate. In addition, certain ARMs provide for limitations on the
maximum amount by which the mortgage interest rate may adjust for any single
adjustment period. ARMs also may provide for limitations on changes in the
maximum amount by which the borrower's monthly payment may adjust for any
single adjustment period. In the event that a monthly payment is not sufficient
to pay the interest accruing on the ARM, any such excess interest is added to
the mortgage loan ("negative amortization"), which is repaid through future
monthly payments. If the monthly payment exceeds the sum of the interest
accrued at the applicable mortgage interest rate and the principal payment that
would have been necessary to amortize the outstanding principal balance over
the remaining term of the loan, the excess reduces the principal balance of the
ARM. Borrowers under ARMs experiencing negative amortization may take longer to
build up their equity in the underlying property and may be more likely to
default.
The rates of interest payable on certain ARMs, and therefore on certain ARM
Mortgage-Backed Securities, are based on indices, such as the one-year constant
maturity Treasury rate, that reflect changes in market interest rates. Others
are based on indices, such as the 11th District Federal Home Loan Bank Cost of
Funds index, that tend to lag behind changes in market interest rates. The
values of ARM Mortgage-Backed Securities supported by ARMs that adjust based on
lagging indices tend to be more sensitive to interest rate fluctuations than
those reflecting current interest rate levels, although the values of such ARM
Mortgage-Backed Securities still tend to be less sensitive to interest rate
fluctuations than fixed-rate securities.
Floating Rate Mortgage-Backed Securities are classes of Mortgage-Backed
Securities that have been structured to represent the right to receive interest
payments at rates that fluctuate in
A-3
<PAGE>
accordance with an index but that generally are supported by pools comprised of
fixed-rate mortgage loans. As with ARM Mortgage-Backed Securities, interest
rate adjustments on Floating Rate Mortgage-Backed Securities may be based on
indices that lag behind market interest rates. Interest rates on Floating Rate
Mortgage-Backed Securities generally are adjusted monthly. Floating Rate
Mortgage-Backed Securities are subject to lifetime interest rate caps, but they
generally are not subject to limitations on monthly or other periodic changes
in interest rates or monthly payments.
TYPES OF CREDIT ENHANCEMENT
To lessen the effect of failures by obligors on Mortgage Assets to make
payments, Mortgage-Backed Securities may contain elements of credit
enhancement. Such credit enhancement falls into two categories: (1) liquidity
protection; and (2) protection against losses resulting after default by an
obligor on the underlying assets and collection of all amounts recoverable
directly from the obligor and through liquidation of the collateral. Liquidity
protection refers to the provisions of advances, generally by the entity
administering the pool of assets (usually the bank, savings association or
mortgage banker that transferred the underlying loans to the issuer of the
security), to ensure that the receipt of payments on the underlying pool occurs
in a timely fashion. Protection against losses resulting after default and
liquidation ensures ultimate payment of the obligations on at least a portion
of the assets in the pool. Such protection may be provided through guarantees,
insurance policies or letters of credit obtained by the issuer or sponsor from
third parties, through various means of structuring the transaction or through
a combination of such approaches. The Trust will not pay any additional fees
for such credit enhancement, although the existence of credit enhancement may
increase the price of a security.
Examples of credit enhancement arising out of the structure of the
transaction include "senior-subordinated securities" (multiple class securities
with one or more classes subordinate to other classes as to the payment of
principal thereof and interest thereon, with the result that defaults on the
underlying assets are borne first by the holders of the subordinated class),
creation of "spread accounts" or "reserve funds" (where cash or investments,
sometimes funded from a portion of the payments on the underlying assets, are
held in reserve against future losses) and "over-collateralization" (where the
scheduled payments on, or the principal amount of, the underlying assets
exceeds that required to make payment of the securities and pay any servicing
or other fees). The degree of credit enhancement provided for each issue
generally is based on historical information regarding the level of credit risk
associated with the underlying assets. Delinquency or loss in excess of that
anticipated could adversely affect the return on an investment in such a
security.
SPECIFIED MORTGAGE-BACKED SECURITIES
Specified Mortgage-Backed Securities include IOs, POs (other than IOs and POs
that are PAC Bonds) or inverse floating rate obligations or other types of
Mortgage-Backed Securities that may be developed in the future and that are
determined by the Sub-Adviser to present types and levels of risk that are
comparable to such IOs, POs and inverse floating rate obligations. An IO is a
class of Morgage-Backed Security that is entitled to receive all or a portion
of the interest, but none of the principal payments, on the underlying Mortgage
Assets; a PO is a class of Mortgage-Backed Security that is entitled to receive
all or a portion of the principal payments, but none of the interest payments,
on the underlying Mortgage Assets.
A-4
<PAGE>
Mortgage-Backed Securities that constitute inverse floating rate obligations
are Mortgage-Backed Securities on which the interest rates adjust or vary
inversely to changes in market interest rates. Typically, an inverse floating
rate Mortgage-Backed Security is one of two components created from a pool of
fixed rate mortgage loans. The other component is a variable rate Mortgage-
Backed Security, on which the amount of interest payable is adjusted directly
in accordance with market interest rates. The inverse floating rate obligation
receives the portion of the interest on the underlying fixed-rate mortgages
that is allocable to the two components and that remains after subtracting the
amount of interest payable on the variable rate component.
A-5
<PAGE>
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NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR MAKE ANY REPRESEN-
TATIONS NOT CONTAINED IN THIS PROSPECTUS IN CONNECTION WITH THE OFFERING MADE
BY THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATIONS
MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY THE TRUST OR PAINEWEBBER.
THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFERING BY THE TRUST OR BY PAINEWEBBER
IN ANY JURISDICTION IN WHICH SUCH OFFERING MAY NOT LAWFULLY BE MADE.
----------------
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
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<S> <C>
Trust Expenses............................................................. 2
Prospectus Summary......................................................... 3
Financial Highlights....................................................... 12
The Trust.................................................................. 14
The Offering............................................................... 14
Use of Proceeds............................................................ 14
Trading History............................................................ 14
Investment Objective and Policies.......................................... 15
Risk Factors and Other Investment Policies................................. 18
Management of the Trust.................................................... 23
Dividends and Other Distributions; Dividend Reinvestment Plan.............. 25
Taxation................................................................... 26
Description of the Shares.................................................. 28
Custodian, Transfer and Dividend Disbursing Agent and Registrar............ 31
Further Information........................................................ 31
Table of Contents of Statement of Additional Information................... 31
Appendix A................................................................. A-1
</TABLE>
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2002 TARGET
TERM TRUST INC.
COMMON STOCK
----------------
PROSPECTUS
----------------
PAINEWEBBER INCORPORATED
----------------
APRIL 6, 1995
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(C) 1995 PaineWebber Incorporated
LOGO Recycled
Paper
<PAGE>
2002 TARGET TERM TRUST INC.
1285 AVENUE OF THE AMERICAS
NEW YORK, NEW YORK 10019
STATEMENT OF ADDITIONAL INFORMATION
2002 Target Term Trust Inc. ("Trust") is a diversified closed-end management
investment company. The Trust's investment objective is to manage a portfolio
of high quality fixed-income and adjustable-rate securities in order to return
$15 per Share (the initial public offering price) to investors on or about
November 30, 2002, while providing high monthly income. No assurance can be
given that the Trust will be able to achieve its investment objective.
Shares of the Trust's common stock ("Shares") may be offered from time to
time in order to effect over-the-counter ("OTC") secondary market sales by
PaineWebber Incorporated ("PaineWebber") in its capacity as a dealer and
secondary market-maker. PaineWebber intends (but is not obligated) to make such
a secondary market.
Mitchell Hutchins Asset Management Inc. ("Mitchell Hutchins"), a wholly owned
subsidiary of PaineWebber, serves as investment adviser and administrator of
the Trust and Goldman Sachs Funds Management, L.P. ("Sub-Adviser") serves as
the Trust's subadviser. This Statement of Additional Information is not a
prospectus and should be read only in conjunction with the Trust's current
Prospectus, dated April 6, 1995. Capitalized terms not otherwise defined herein
have the same meanings as in the Prospectus. A copy of the Prospectus may be
obtained by contacting PaineWebber at 1285 Avenue of the Americas, New York,
New York 10019, or calling 1-800-852-4750. This Statement of Additional
Information is dated April 6, 1995.
INVESTMENT POLICIES AND RESTRICTIONS
The following supplements the information contained in the Prospectus
concerning the Trust's investment policies and limitations.
RATINGS
Standard & Poor's Ratings Group ("S&P"), Moody's Investors Service, Inc.
("Moody's") and other nationally recognized statistical rating organizations
("NRSROs") are private services that provide ratings of the credit quality of
Mortgage-Backed and Asset-Backed Securities and other debt obligations. S&P's
highest rating category is AAA. Moody's highest rating category is Aaa.
Publications of S&P indicate that it assigns such ratings to securities for
which the obligor's "capacity to pay interest and repay principal is extremely
strong." Publications of Moody's indicate that it assigns such ratings to
securities that "are judged to be of the best quality" and "carry the smallest
degree of investment risk," that interest payments on such securities "are
protected by a large or by an exceptionally stable margin and principal is
secure" and that while "the various protective elements are likely to change,
such changes as can be visualized are most unlikely to impair the fundamentally
strong position of such issues." The process by which S&P and Moody's determine
ratings for Mortgage-Backed and Asset-Backed Securities includes consideration
of the likelihood of the receipt by security holders of all distributions, the
nature of the underlying securities, the credit quality of the guarantor, if
any, and the structural, legal and tax aspects associated with such
<PAGE>
securities. Neither of such ratings represents an assessment of the likelihood
that principal prepayments will be made by mortgagors or the degree to which
such prepayments may differ from that originally anticipated, nor do such
ratings address the possibility that investors may suffer a lower than
anticipated yield or that investors in such securities may fail to recoup fully
their initial investment due to prepayments. It should be emphasized that
ratings are general and not absolute standards of quality. Consequently, debt
obligations with the same maturity, interest rate and rating may have different
market prices.
SPECIAL CHARACTERISTICS OF MORTGAGE-BACKED AND ASSET-BACKED SECURITIES
The yield characteristics of Mortgage-Backed and Asset-Backed Securities
differ from those of traditional debt securities. Among the major differences
are that interest and principal payments are made more frequently, usually
monthly, and that principal may be prepaid at any time because the underlying
mortgage loans or other obligations generally may be prepaid at any time. As a
result, if the securities are purchased at a premium, a prepayment rate that is
faster than expected will reduce yield to maturity, while a prepayment rate
that is slower than expected will have the opposite effect of increasing yield
to maturity. Conversely, if the securities are purchased at a discount, faster
than expected prepayments will increase, while slower than expected prepayments
will reduce, yield to maturity. Amounts available for reinvestment are likely
to be greater during a period of decreasing interest rates and are likely to be
reinvested at lower interest rates than during a period of rising interest
rates. Accelerated prepayments on securities purchased at a premium also impose
a risk of loss of principal because the premium may not have been fully
amortized at the time the principal is repaid in full.
Prepayments on a pool of mortgage loans are influenced by a variety of
economic, geographic, social and other factors, including changes in
mortgagors' housing needs, job transfers, unemployment, mortgagors' net equity
in the mortgaged properties and servicing decisions. Generally, however,
prepayments on fixed-rate mortgage loans will increase during a period of
falling interest rates and decrease during a period of rising interest rates.
Similar factors apply to prepayments on Asset-Backed Securities but the
receivables underlying Asset-Backed Securities generally are of a shorter
maturity and thus are less likely to experience substantial prepayments. Such
securities, however, often provide that for a specified time period the issuers
will replace receivables in the pool that are repaid with comparable
obligations. If the issuer is unable to do so, repayment of principal on the
asset-backed securities may commence at an earlier date. Mortgage-Backed and
Asset-Backed Securities may decrease in value as a result of increases in
interest rates and may benefit less than other fixed-income securities from
declining interest rates because of the risk of prepayment.
ARMs also may be subject to a greater rate of prepayments in a declining
interest rate environment. For example, during a period of declining interest
rates, prepayments on ARMs could increase because the availability of fixed
mortgage loans at competitive interest rates may encourage mortgagors to "lock-
in" at a lower interest rate. Conversely, during a period of rising interest
rates, prepayments on ARMs might decrease. The rate of prepayments with respect
to ARMs has fluctuated in recent years.
ARMs underlying ARM Mortgage-Backed Securities generally provide that the
borrower's mortgage interest rate may not be adjusted over a specified lifetime
maximum rate. ARMs also may
2
<PAGE>
provide for limitations on the maximum amount by which the borrower's mortgage
interest rate may adjust for any single adjustment period or by which the
borrower's required monthly payment may adjust for any single adjustment
period. Similarly, interest rate changes on Floating Rate Mortgage-Backed
Securities are subject to lifetime interest rate caps. Interest rates on ARMs
generally are reset only at monthly or longer intervals. Interest rate changes
on ARM and Floating Rate Mortgage-Backed Securities may be based on indices
that tend to lag behind changes in market rates. Accordingly, the coupon rate
on such Mortgage-Backed Securities often lags behind changes in short-term
interest rates, which may negatively affect the market value in periods of
increasing interest rates. The market value of ARM and Floating Rate Mortgage-
Backed Securities may be affected adversely if prevailing interest rates
increase beyond the applicable limits on interest rate or interest payment
adjustments. Since the indices applicable to certain ARMs are at times affected
by factors unrelated to changes in prevailing interest rates, the coupon rate
on ARM Mortgage-Backed Securities could, under some circumstances, be adjusted
at a rate or in a direction that does not reflect prevailing interest rates,
which could adversely affect the market value of the securities. In periods of
declining interest rates, the market values of ARM and Floating Rate Mortgage-
Backed Securities generally will increase to a lesser extent, if at all, than
the values of fixed-rate Mortgage-Backed Securities.
The rate of interest on Mortgage-Backed Securities is lower than the interest
rates paid on the mortgages included in the underlying pool due to the annual
fees paid to the servicer of the mortgage pool for passing through monthly
payments to certificateholders and to any guarantor, such as Ginnie Mae, and
due to any yield retained by the issuer. Actual yield to the holder may vary
from the coupon rate, even if adjustable, if the Mortgage-Backed Securities are
purchased or traded in the secondary market at a premium or discount. In
addition, there is normally some delay between the time the issuer receives
mortgage payments from the servicer and the time the issuer makes the payments
on the Mortgage-Backed Securities and this delay reduces the effective yield to
the holder of such securities.
The size of the primary issuance market, and active participation in the
secondary market by securities dealers and many types of investors, makes
government and government-related pass-through pools highly liquid. Yields on
pass-through securities are typically quoted by investment dealers and vendors
based on the maturity of the underlying instruments and the associated average
life assumption. The average life of pass-through pools varies with the
maturities of the underlying mortgage loans. A pool's term may be shortened by
unscheduled or early payments of principal on the underlying mortgages. Because
prepayment rates of individual pools vary widely, it is not possible to predict
accurately the average life of a particular pool. In the past, a common
industry practice has been to assume that prepayments on pools of fixed rate
30-year mortgages would result in a 12-year average life for the pool. At
present, mortgage pools, particularly those with loans with other maturities or
different characteristics, are priced on an assumption of average life
determined for each pool. In periods of declining interest rates, the rate of
prepayment tends to increase, thereby shortening the actual average life of a
pool of mortgage-related securities. Conversely, in periods of rising rates the
rate of prepayment tends to decrease thereby lengthening the actual average
life of the pool. However, these effects may not be present, or may differ in
degree, if the mortgage loans in the pools have adjustable interest rates or
other special payment terms, such as a prepayment charge. Actual prepayment
experience may cause the yield of mortgage-backed securities to differ from the
assumed average life yield. Reinvestment of prepayments may occur at lower
interest rates than the original investment, thus adversely affecting the yield
of the Trust.
3
<PAGE>
ZERO COUPON MUNICIPAL SECURITIES
As indicated in the Prospectus, the Trust may invest in zero coupon
securities that are issued for various public purposes by or on behalf of
municipal issuers or that are created by investment banks or other private
parties that separate the interest and principal components of an interest-
paying security that has been previously issued by or on behalf of a municipal
issuer (collectively, "Zero Coupon Municipal Securities").
The two principal classifications of the debt obligations of municipal
issuers are (i) "general obligation" bonds and (ii) "revenue" bonds. General
obligation bonds are secured by the issuer's pledge of its full faith, credit
and taxing power for the payment of principal and interest. Revenue bonds are
payable only from the revenues derived from a particular facility or class of
facility or project or, in a few cases, from the proceeds of a special excise
or other tax, but are not supported by the issuer's power to levy taxes. There
are variations in the security and credit quality of municipal obligations,
both within a particular classification and between classifications, depending
on numerous factors. The yields and market values of municipal obligations are
dependent on a variety of factors, including general economic and monetary
conditions, money market factors, the condition of the municipal obligation
market, prevailing income tax rates, the size of a particular offering, the
maturity of the obligation and the rating of the issue.
Zero Coupon Municipal Securities do not entitle the holder to periodic
payments prior to maturity and therefore are issued and traded at a discount
from their face or par value. In the absence of financial difficulties of the
issuer, the discount generally decreases as the maturity of the security
approaches. Zero Coupon Municipal Securities can be sold prior to their
maturity dates in the secondary market at the then prevailing market value,
which depends primarily on the time remaining to maturity, prevailing levels of
interest rates and the perceived credit quality of the issuer.
The market prices of Zero Coupon Municipal Securities are more volatile than
the market prices of securities of comparable quality and similar maturity that
pay interest periodically and may respond to a greater degree to fluctuations
in interest rates than do such other securities. Many of the types of Zero
Coupon Municipal Securities in which the Trust may invest are currently
categorized as illiquid under guidelines of the staff of the SEC. See "Risk
Factors and Other Investment Policies--Illiquid Securities" in the Prospectus.
ASSET-BACKED SECURITIES
Asset-Backed Securities represent participations in, or are secured by and
payable from, assets such as motor vehicle installment sales contracts, other
installment loan contracts, leases of various types of real and personal
property and receivables from revolving credit (credit card) agreements. Such
assets are securitized through the use of trusts and special purpose
corporations. Payments or distributions of principal and interest may be
guaranteed up to certain amounts and for a certain time period by a letter of
credit or a pool insurance policy issued by a financial institution
unaffiliated with the issuer or other credit enhancements may be present. In
general, the collateral supporting Asset-Backed Securities has a shorter
effective term to maturity than Mortgage Assets and, accordingly, such
securities may be less likely to experience substantial prepayments.
Asset-Backed Securities present certain risks that are not presented by
Mortgage-Backed Securities or other securities in which the Trust may invest.
Primarily, these securities do not have the benefit of a security interest in
collateral that is comparable to first lien mortgage loans. Credit
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card receivables are generally unsecured, and the debtors on such receivables
are entitled to the protection of a number of state and federal consumer credit
laws, many of which give such debtors the right to set-off certain amounts owed
on the credit cards, thereby reducing the balance due. Automobile receivables
generally are secured, by automobiles rather than residential real property.
Most issuers of automobile receivables permit the loan servicers to retain
possession of the underlying obligations. If the servicer were to sell these
obligations to another party, there is a risk that the purchaser would acquire
an interest superior to that of the holders of the Asset-Backed Securities. In
addition, because of the large number of vehicles involved in a typical
issuance and technical requirements under state laws, the trustee for the
holders of the automobile receivables may not have a proper security interest
in the underlying automobiles. Therefore, there is the possibility that, in
some cases, recoveries on repossessed collateral may not be available to
support payments on these securities.
LENDING OF PORTFOLIO SECURITIES
Although the Trust has no current intention to do so during the coming year,
the Trust is authorized to lend portfolio securities with a value of up to 33
1/3% of its total assets (determined at the time of the transaction) to broker-
dealers or institutional investors that the Sub-Adviser deems qualified, but
only when the borrower maintains with the Trust's custodian collateral, either
in cash or money market instruments, in an amount at least equal to the market
value of the securities loaned, plus accrued interest and dividends, determined
on a daily basis and adjusted accordingly. In determining whether to lend
securities to a particular broker-dealer or institutional investor, the Sub-
Adviser will consider, and during the period of the loan will monitor, all
relevant facts and circumstances, including the creditworthiness of the
borrower. The Trust will retain authority to terminate any loans at any time.
The Trust may pay reasonable administrative and custodial fees in connection
with a loan and may pay a negotiated portion of the interest earned on the cash
or money market instruments held as collateral to the borrower or placing
broker. The Trust will receive reasonable interest on the loan or a flat fee
from the borrower and amounts equivalent to any dividends, interest or other
distributions on the securities loaned. The Trust will regain record ownership
of loaned securities to exercise beneficial rights, such as voting and
subscription rights and rights to dividends, interest or other distributions,
when regaining such rights is considered by the Sub-Adviser to be in the
Trust's interest.
INVESTMENT LIMITATIONS
The following fundamental investment limitations cannot be changed without
the affirmative vote of the lesser of (a) more than 50% of the outstanding
Shares of the Trust or (b) 67% or more of such Shares present at a
shareholders' meeting if more than 50% of the outstanding Shares are
represented at the meeting in person or by proxy. If a percentage restriction
is adhered to at the time of an investment or transaction, a later increase or
decrease in percentage resulting from a change in values of portfolio
securities or the amount of total assets will not be considered a violation of
any of the following limitations or of any of the Trust's investment policies.
The Trust may not:
(1) issue senior securities or borrow money from banks or other entities
(including borrowings through reverse repurchase agreements and mortgage
dollar rolls), in excess of 33 1/3% of the Trust's total assets (including
the amount of borrowings and senior securities issued, but reduced by any
liabilities and indebtedness not constituting senior securities), except
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that the Trust may borrow up to an additional 5% of its total assets (not
including the amount borrowed) for temporary or emergency purposes;
(2) purchase the securities of any one issuer if as a result more than 5%
of its total assets would be invested in the securities of that issuer,
provided, that securities issued or guaranteed by the U.S. government, its
agencies or instrumentalities are not subject to this limitation and
further provided that up to 25% of the Trust's total assets may be invested
without regard to this 5% limitation;
(3) make an investment in any one industry if the investment would cause
the aggregate value of all the Trust's investments in such industry to
equal 25% or more of the Trust's total assets; provided that this
limitation shall not apply to: (a) investments in securities issued or
guaranteed by the U.S. government, its agencies or instrumentalities; (b)
securities issued by Municipal Issuers other than those backed only by the
assets and revenues of a non-governmental entity; and (c) investments in
mortgage-backed and asset-backed securities, which (whether or not issued
or guaranteed by an agency or instrumentality of the U.S. government) shall
be considered a single industry for purposes of this limitation;
(4) purchase securities on margin, except for short-term credits
necessary for clearance of portfolio transactions, and except that the
Trust may make margin deposits in connection with its use of options,
futures contracts and options on futures contracts;
(5) engage in the business of underwriting securities of other issuers,
except to the extent that, in connection with the disposition of portfolio
securities, the Trust may be deemed an underwriter under federal securities
laws and except that the Trust may write options;
(6) make short sales of securities or maintain a short position, except
that the Trust may maintain short positions in connection with its use of
Strategic Transactions and may sell short "against the box;"
(7) purchase or sell real estate (including real estate limited
partnership interests), provided that the Trust may invest in securities
secured by real estate or interests therein or issued by entities that
invest in real estate or interests therein, and provided further that the
Trust may exercise rights under agreements relating to such securities,
including the right to enforce security interests and to liquidate real
estate acquired as a result of such enforcement;
(8) purchase or sell commodities or commodity contracts, except that the
Trust may engage in Strategic Transactions;
(9) make loans, except through loans of portfolio instruments, mortgage
dollar rolls and repurchase agreements, provided that for purposes of this
restriction the acquisition of bonds, debentures or other debt instruments
or interests therein and investment in government obligations, short-term
commercial paper, certificates of deposit and bankers' acceptances shall
not be deemed to be the making of a loan.
For purposes of fundamental investment limitation (2) above, Mortgage- and
Asset-Backed Securities will not be considered to have been issued by the same
issuer by reason of such securities having the same sponsor, and Mortgage- and
Asset-Backed Securities issued by a finance subsidiary or other single purpose
subsidiary of a corporation that are not guaranteed by the parent corporation
will be considered to be issued by a separate issuer from its parent
corporation.
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STRATEGIC TRANSACTIONS
As discussed in the Prospectus, the Trust may purchase and sell a variety of
financial instruments ("Strategic Transactions"), including certain options,
futures contracts (sometimes referred to as "futures"), options on futures
contracts and interest rate protection transactions, for the purposes described
in the Prospectus under "Risk Factors and Other Investment Policies--Strategic
Transactions."
Strategic Transactions that are entered into for hedging or other risk
management purposes can be broadly categorized as "short hedges" and "long
hedges." A short hedge is a Strategic Transaction intended partially or fully
offset potential declines in the value of one or more investments held in the
Trust's portfolio. Thus, in a short hedge the Trust takes a position in a
Strategic Transaction the price of which is expected to move in the opposite
direction of the price of the investment being hedged. For example, the Trust
might purchase a put option on a security to hedge against a potential decline
in the value of that security. If the price of the security declined below the
exercise price of the put, the Trust could exercise the put and thus limit its
loss below the exercise price to the premium paid plus transaction costs. In
the alternative, because the value of the put option can be expected to
increase as the value of the underlying security declines, the Trust might be
able to close out the put option and realize a gain to offset the decline in
the value of the security.
Conversely, a long hedge is a Strategic Transaction intended partially or
fully to offset potential increases in the acquisition cost of one or more
investments that the Trust intends to acquire. Thus, in a long hedge the Trust
takes a position in a Strategic Transaction the price of which is expected to
move in the same direction as the price of the prospective investment being
hedged. For example, the Trust might purchase a call option on a security it
intends to purchase in order to hedge against an increase in the cost of the
security. If the price of the security increased above the exercise price of
the call, the Trust could exercise the call and thus limit its acquisition cost
to the exercise price plus the premium paid and transaction costs.
Alternatively, the Trust might be able to offset the price increase by closing
out an appreciated call option and realizing a gain.
The use of Strategic Transactions is subject to applicable regulations of the
SEC, the several options and futures exchanges upon which they are traded, the
Commodity Futures Trading Commission ("CFTC") and may become subject to
regulation by various state regulatory authorities. In addition, the Trust's
ability to use Strategic Transactions will be limited by tax considerations.
See "Taxes."
In addition to the products, strategies and risks described below, the Sub-
Adviser expects additional opportunities to develop in connection with options,
futures contracts and other hedging techniques. These new opportunities may
become available as the Sub-Adviser develops new techniques, as regulatory
authorities broaden the range of permitted transactions and as new options,
futures contracts, or other techniques are developed. The Sub-Adviser may
utilize these opportunities to the extent that they are consistent with the
Trust's investment objectives and permitted by the Trust's investment
limitations and applicable regulatory authorities.
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SPECIAL RISKS OF STRATEGIC TRANSACTIONS
The use of Strategic Transactions involves special considerations and risks,
as described below. Risks pertaining to particular Strategic Transactions are
described in the sections that follow.
(1) Successful use of most Strategic Transactions depends upon the Sub-
Adviser's ability to predict movements of the overall securities and
interest rate markets, which requires different skills than predicting
changes in the prices of individual securities. While the Sub-Adviser is
experienced in the use of Strategic Transactions, there can be no assurance
that any particular strategy adopted will succeed.
(2) There might be imperfect correlation, or even no correlation, between
price movements of Strategic Transactions and price movements of the
related portfolio positions. For example, if the value of Strategic
Transactions used to hedge related portfolio positions against market
decline increased by less than the decline in value of the related
portfolio positions, the strategy would not be fully successful. Such a
lack of correlation might occur due to factors unrelated to the value of
the related portfolio positions, such as speculative or other pressures on
the markets in which Strategic Transactions are traded. The effectiveness
of Strategic Transactions involving indices will depend on the degree of
correlation between price movements in the indices and price movements in
the related portfolio positions.
(3) Strategic Transactions, if successful, can reduce risk of loss by
wholly or partially offsetting the negative effect of unfavorable price
movements in the related portfolio positions. However, Strategic
Transactions can also reduce opportunity for gain by offsetting the
positive effect of favorable price movements in the positions. For example,
if the Trust entered into a Strategic Transaction to hedge a related
portfolio position because the Sub-Adviser projected a decline in the price
of that position, and the price of that position increased instead, the
gain from that increase might be wholly or partially offset by a decline in
the price of the Strategic Transaction. Moreover, if the price of the
Strategic Transaction declined by more than the increase in the price of
the position, the Trust could suffer a loss. In either such case, the Trust
would have been in a better position had it not entered into the Strategic
Transaction at all.
(4) As described below, the Trust might be required to maintain assets as
"cover," maintain segregated accounts or make margin payments when it takes
positions in Strategic Transactions involving obligations to third parties
(i.e., Strategic Transactions other than purchased options). If the Trust
were unable to close out its positions in such Strategic Transactions, it
might be required to continue to maintain such assets or accounts or make
such payments until the position expired or matured. These requirements
might impair the Trust's ability to sell a portfolio security or make an
investment at a time when it would otherwise be favorable to do so, or
require that the Trust sell a portfolio security at a disadvantageous time.
The Trust's ability to close out a position in a Strategic Transaction
prior to expiration or maturity depends on the existence of a liquid
secondary market or, in the absence of such a market, the ability and
willingness of the other party to the transaction (the "counterparty") to
enter into a transaction closing out the position. Therefore, there is no
assurance that any hedging position can be closed out at a time and price
that is favorable to the Trust.
COVER FOR STRATEGIC TRANSACTIONS
Strategic Transactions other than purchased options, expose the Trust to an
obligation to another party. The Trust will not enter into any such
transactions unless it owns either (1) an
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offsetting ("covered") position in securities or other options or futures
contracts or (2) cash, receivables and liquid short-term debt securities, with
a value sufficient at all times to cover its potential obligations to the
extent not covered as provided in (1) above. The Trust will comply with SEC
guidelines regarding cover and will, if the guidelines so require, set aside
cash, U.S. government securities or other liquid, high-grade debt securities in
a segregated account with its custodian in the prescribed amount.
Assets used as cover or held in a segregated account cannot be sold while the
position in the corresponding Strategic Transaction is open, unless they are
replaced with similar assets. As a result, the commitment of a large portion of
the Trust's assets to cover or segregated accounts could impede portfolio
management or the Trust's ability to meet current obligations.
OPTIONS
The Trust may purchase and write (sell) put and call options on U.S.
government securities, Mortgage-Backed Securities and corporate debt
securities. The Trust also may purchase and sell put and call options on
securities indices and other financial indices. The purchase of call options
can serve as a long hedge, and the purchase of put options can serve as a short
hedge. Writing put or call options can enable the Trust to enhance income by
reason of the premiums paid by the purchasers of such options. However, if the
market price of the security underlying a put option declines to less than the
exercise price on the option, minus the premium received, the Trust would
expect to suffer a loss. Writing covered call options can serve as a limited
short hedge, because declines in the value of the hedged investment would be
offset to the extent of the premium received for writing the option. However,
if the security appreciates to a price higher than the exercise price of the
call option, it can be expected that the option will be exercised and the Trust
will be obligated to sell the security at less than its market value. If the
covered call option is an OTC option, all or a portion of the securities or
other assets used as cover would be considered illiquid. See "Risk Factors and
Other Investment Policies -- Illiquid Securities" in the Prospectus.
The value of an option position will reflect, among other things, the current
market value of the underlying investment, the time remaining until expiration,
the relationship of the exercise price to the market price of the underlying
investment, the historical price volatility of the underlying investment and
general market conditions. Options that expire unexercised have no value.
The Trust may effectively terminate its right or obligation under an option
by entering into a closing transaction. For example, the Trust may terminate
its obligation under a call option that it had written by purchasing an
identical call option; this is known as a closing purchase transaction.
Conversely, the Trust may terminate a position in a put or call option it had
purchased by writing an identical put or call option; this is known as a
closing sale transaction. Closing transactions permit the Trust to realize
profits or limit losses on an option position prior to its exercise or
expiration.
The Trust may purchase or write both exchange-traded and OTC options.
Exchange-traded options in the United States are issued by a clearing
organization affiliated with the exchange on which the option is listed which,
in effect, guarantees completion of every exchange-traded option
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transaction. In contrast, OTC options are contracts between the Trust and its
counterparty (usually a securities dealer or a bank) with no clearing
organization guarantee. Thus, when the Trust purchases or writes an OTC option,
it relies on its counterparty to make or take delivery of the underlying
investment upon exercise of the option. Failure by the contra party to do so
would result in the loss of any premium paid by the Trust as well as the loss
of any expected benefit of the transaction.
Generally, OTC options on debt securities are European style options. This
means that the option is only exercisable immediately prior to its expiration.
This is the contrast to American-style options, which are exercisable at any
time prior to the expiration date of the option.
The Trust's ability to establish and close out positions in exchange-listed
options depends on the existence of a liquid market. The Trust intends to
purchase or write only those exchange-traded options for which there appears to
be a liquid secondary market. However, there can be no assurance that such a
market will exist at any particular time. Closing transactions can be made for
OTC options only by negotiating directly with the counterparty, or by a
transaction in the secondary market if any such market exists. Although the
Trust will enter into OTC options only with counterparties that are expected to
be capable of entering into closing transactions with the Trust, there is no
assurance that the Trust will in fact be able to close out an OTC option
position at a favorable price prior to expiration. In the event of insolvency
of the contra party, the Trust might be unable to close out an OTC option
position at any time prior to its expiration.
If the Trust were unable to effect a closing transaction for an option it had
purchased, it would have to exercise the option to realize any profit. The
inability to enter into a closing purchase transaction for a covered call
option written by the Trust would result in the Trust being unable to sell the
investment used as cover for the written option until the option expires or is
exercised.
Options on indices are similar to options on a security or other instrument
except that, rather than settling by physical delivery of the underlying
instrument, they settle by cash settlement, i.e., an option on an index gives
the holder the right to receive, upon exercise of the option, an amount of cash
if the closing level of the index upon which the option is based exceeds, in
the case of a call, or is less than, in the case of a put, the exercise price
of the option (except if, in the case of an OTC option, physical delivery is
specified). This amount of cash is equal to the excess of the closing price of
the index over the exercise price of the option, which also may be multiplied
by a formula value. The seller of the option is obligated, in return for the
premium received, to make delivery of this amount. The gain or loss on an
option on an index depends on price movements in the instruments making up the
market, market segment, industry or other composite on which the underlying
index is based, rather than price movements in individual securities, as is the
case with respect to options on securities.
FUTURES
The Trust may purchase and sell financial index futures, other interest rate
futures and options thereon. The purchase of futures or call options thereon
can serve as a long hedge, and the sale of futures or the purchase of put
options thereon can serve as a short hedge. Writing covered call options on
futures contracts can serve as a limited short hedge, using a strategy similar
to that used for writing covered call options on securities or indices.
Similarly, writing put options on futures contracts can serve as a limited long
hedge.
Futures strategies also can be used to manage the average duration of the
Trust's portfolio. If the Sub-Adviser wishes to shorten the average duration of
the Trust, the Trust may sell a futures
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contract or a call option thereon, or purchase a put option on that futures
contract. If the Sub-Adviser wishes to lengthen the average duration of the
Trust, the Trust may buy a futures contract or a call option thereon, or sell a
put option thereon.
No price is paid upon entering into a futures contract. Instead, at the
inception of a futures contract the Trust is required to deposit in a
segregated account with its custodian, in the name of the futures broker
through whom the transaction was effected, "initial margin" consisting of cash,
U.S. government securities or other liquid, high-grade debt securities, in an
amount generally equal to 10% or less of the contract value. Margin must also
be deposited when writing a call option on a futures contract, in accordance
with applicable exchange rules. Unlike margin in securities transactions,
initial margin on futures contracts does not represent a borrowing, but rather
is in the nature of a performance bond or good-faith deposit that is returned
to the Trust at the termination of the transaction if all contractual
obligations have been satisfied. Under certain circumstances, such as periods
of high volatility, the Trust may be required by an exchange to increase the
level of its initial margin payment, and initial margin requirements might be
increased generally in the future by regulatory action.
Subsequent "variation margin" payments are made to and from the futures
broker daily as the value of the futures position varies, a process known as
"marking to market." Variation margin does not involve borrowing, but rather
represents a daily settlement of the Trust's obligations with respect to an
open futures position. When the Trust purchases an option on a future, the
premium paid plus transaction costs is all that is at risk. In contrast, when
the Trust purchases or sells a futures contract or writes an option thereon, it
is subject to daily variation margin calls that could be substantial in the
event of adverse price movements. If the Trust has insufficient cash to meet
daily variation margin requirements, it might need to sell securities at a time
when such sales are disadvantageous.
Holders and writers of futures positions and options on futures can enter
into offsetting closing transactions, similar to closing transactions on
options, by selling or purchasing, respectively, an instrument identical to the
instrument held or written. Positions in futures and options on futures may be
closed only on an exchange or board of trade that provides a secondary market.
The Trust intends to enter into futures transactions only on exchanges or
boards of trade where there appears to be a liquid secondary market. However,
there can be no assurance that such a market will exist for a particular
contract at a particular time. Secondary markets for options on futures are
currently in the development stage, and the Trust will not trade options or
futures on any exchange or board of trade unless, in the Sub-Adviser's opinion,
the liquidity risks for such options are not greater than the corresponding
risks for futures.
Under certain circumstances, futures exchanges may establish daily limits on
the amount that the price of a future or related option can vary from the
previous day's settlement price; once that limit is reached, no trades may be
made that day at a price beyond the limit. Daily price limits do not limit
potential losses because prices could move to the daily limit for several
consecutive days with little or no trading, thereby preventing liquidation of
unfavorable positions.
If the Trust were unable to liquidate a futures or related options position
due to the absence of a liquid secondary market or the imposition of price
limits, it could incur substantial losses. The Trust would continue to be
subject to market risk with respect to the position. In addition, except in the
case of purchased options, the Trust would continue to be required to make
daily variation margin payments and might be required to maintain the position
being hedged by the future or option or to maintain cash or securities in a
segregated account.
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Certain characteristics of the futures market might increase the risk that
movements in the prices of futures contracts or related options might not
correlate perfectly with movements in the prices of the investments being
hedged. For example, all participants in the futures and related options
markets are subject to daily variation margin calls and might be compelled to
liquidate futures or related options positions whose prices are moving
unfavorably to avoid being subject to further calls. These liquidations could
increase price volatility of the instruments and distort the normal price
relationship between the futures or options and the investments being hedged.
Also, because initial margin deposit requirements in the futures market are
less onerous than margin requirements in the securities markets, there might be
increased participation by speculators in the futures markets. This
participation also might cause temporary price distortions. In addition,
activities of large traders in both the futures and securities markets
involving arbitrage, "program trading" and other investment strategies might
result in temporary price distortions.
GUIDELINES FOR FUTURES AND RELATED OPTIONS
In view of the risks involved in using the futures and options strategies
that are described above, the Trust will not purchase or sell futures contracts
or related options if, immediately thereafter, the sum of the amount of initial
margin deposits on the Trust's existing futures positions and initial margin
deposits and premiums paid for related options would exceed 5% of the Trust's
total assets; however, in the case of an option that is in-the-money at the
time of purchase, the in-the-money amount may be excluded in calculating the 5%
limitation. This guideline may be modified by the Trust without shareholder
vote. For purposes of this guideline, options on futures contracts traded on a
commodities exchange are considered "related options." Adoption of this
guideline will not limit the percentage of the Trust's assets at risk to 5%.
COMBINED TRANSACTIONS
The Trust may enter into multiple transactions, including multiple options
transactions, multiple futures transactions and any combination of futures and
options transactions ("component" transactions), instead of a single Strategic
Transaction, as part of a single or combined strategy when, in the opinion of
the Sub-Adviser, it is in the best interests of the Trust to do so. A combined
transaction will usually contain elements of risk that are present in each of
its component transactions. Although combined transactions are normally entered
into based on the Sub-Adviser's judgment that the combined strategies will
reduce risk or otherwise more effectively achieve the desired portfolio
management goal, it is possible that the combination will instead increase such
risks or hinder achievement of the portfolio management objective.
TYPES OF INSTRUMENTS
The instruments used by the Trust in effecting Strategic Transactions include
the following:
OPTIONS ON SECURITIES -- A call option is a contract pursuant to which the
purchaser of the option, in return for a premium, has the right to buy the
security underlying the option at a specified price at any time during the
term, or upon the expiration, of the option. The writer of the call option, who
receives the premium, has the obligation, upon exercise of the option, to
deliver the underlying security against payment of the exercise price. A put
option is a similar contract which gives its purchaser, in return for a
premium, the right to sell the underlying security at a specified price during
the option term or upon expiration. The writer of the put option, who receives
the premium, has the obligation, upon exercise, to buy the underlying security
at the exercise price. Options on debt securities are traded primarily on the
OTC market rather than on any
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of the several options exchanges. At present, only options on U.S. Treasury
securities are listed for trading on any recognized exchange.
OPTIONS ON INDICES OF SECURITIES -- An index assigns relative values to the
securities included in the index and fluctuates with changes in the market
values of such securities. Index options operate in the same way as more
traditional options except that exercises of index options are effected with
cash payments and do not involve delivery of securities. Thus, upon exercise of
an index option, the purchaser will realize and the writer will pay an amount
based on the difference between the exercise price and the closing price of the
index. Currently, options on indices of debt securities do not exist.
FINANCIAL INDEX FUTURES CONTRACTS -- An index futures contract is a bilateral
agreement pursuant to which one party agrees to accept and the other party
agrees to make delivery of an amount of cash equal to a specified dollar amount
times the difference between the index value at the close of trading of the
contract and the price at which the futures contract is originally struck. No
physical delivery of the securities comprising the index is made; generally
contracts are closed out prior to the expiration date of the contract.
INTEREST RATE FUTURES CONTRACTS -- An interest rate futures contract is a
bilateral agreement pursuant to which one party agrees to accept and the other
party agrees to make delivery of the specific type of debt security called for
in the contract at a specified future time and at a specified price.
OPTIONS ON FUTURES CONTRACTS -- Options on futures contracts are similar to
options on securities except that an option on a futures contract gives the
purchaser the right, in return for the premium, to assume a position in a
futures contract (a long position if the option is a call and a short position
if the option is a put), rather than to purchase or sell a security, at a
specified price at any time during the option term. Upon exercise of the
option, the delivery of the futures position to the holder of the option will
be accompanied by delivery of the accumulated balance, which represents the
amount by which the market price of the futures contract exceeds, in the case
of a call, or is less than, in the case of a put, the exercise price of the
option on the future. The writer of an option, upon exercise, will assume a
short position in the case of a call, and a long position in the case of put.
INTEREST RATE PROTECTION TRANSACTIONS -- The Trust may enter into interest
rate protection transactions, including interest rate swaps and interest rate
caps, collars and floors. Interest rate swap transactions involve an agreement
between two parties to exchange payments that are based, for example, on
variable and fixed rates of interest and that are calculated on the basis of a
specified amount of principal (the "notional principal amount") for a specified
period of time. Interest rate cap and floor transactions involve an agreement
between two parties in which the first party agrees to make payments to the
counterparty when a designated market interest rate goes above (in the case of
a cap) or below (in the case of a floor) a designated level on predetermined
dates or during a specified time period. Interest rate collar transactions
involve an agreement between two parties in which the first party makes
payments to the counterparty when a designated market interest rate goes above
a designated level on predetermined dates or during a specified time period,
and the counterparty makes payments to the first party when a designated market
interest rate goes below a designated level on predetermined dates or during a
specified time period.
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The Trust would enter into interest rate protection transactions to preserve
a return or spread on a particular investment or portion of its portfolio, to
protect against any increase in the price of securities the Trust anticipates
purchasing at a later date or to effectively fix the rate of interest that it
pays on one or more borrowings or series of borrowings. The Trust would use
these transactions as a hedge and not as a speculative investment. Interest
rate protection transactions are subject to risks comparable to those described
above with respect to other hedging strategies.
The Trust may enter into interest rate swaps, caps, collars and floors on
either an asset-based or liability-based basis, depending on whether it is
hedging its assets or its liabilities, and will usually enter into interest
rate swaps on a net basis, i.e., the two payment streams are netted out, with
the Trust receiving or paying, as the case may be, only the net amount of the
two payments. Inasmuch as these interest rate protection transactions are
entered into for good faith hedging purposes, and inasmuch as segregated
accounts will be established with respect to such transactions, the Sub-Adviser
and the Trust believe such obligations 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 the Trust's obligations
over its entitlements with respect to each interest rate swap will be accrued
on a daily basis and an amount of cash, U.S. government securities or other
liquid high grade debt obligations having an aggregate net asset value at least
equal to the accrued excess will be maintained in a segregated account by a
custodian that satisfies the requirements of the 1940 Act. The Trust also will
establish and maintain such segregated accounts with respect to its total
obligations under any interest rate swaps that are not entered into on a net
basis and with respect to any interest rate caps, collars and floors that are
written by the Trust.
The Trust will enter into interest rate protection transactions only with
banks and recognized securities dealers or their affiliates believed by the
Sub-Adviser to present minimal credit risks in accordance with guidelines
established by the Trust's board of directors. If there is a default by the
other party to such a transaction, the Trust will have to rely on its
contractual remedies (which may be limited by bankruptcy, insolvency or similar
laws) pursuant to the agreements related to the transaction.
The swap 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 swap documentation. Caps, collars and floors are more
recent innovations for which documentation is less standardized, and
accordingly, they are less liquid than swaps.
14
<PAGE>
DIRECTORS AND OFFICERS
The overall management of the business and affairs of the Trust is vested
with its board of directors. The board of directors approves all significant
agreements between the Trust and persons or companies furnishing services to
it, including the Trust's agreements with its investment adviser and
administrator, custodian and transfer and dividend disbursing agent and
registrar. The day-to-day operations of the Trust are delegated to its officers
and to Mitchell Hutchins and the Sub-Adviser, subject always to the investment
objective and policies of the Trust and to general supervision by the Trust's
board of directors.
The business addresses and principal occupations during the past five years
of the directors and executive officers of the Trust are:
<TABLE>
<CAPTION>
POSITION BUSINESS EXPERIENCE;
NAME AND ADDRESS* WITH THE FUND OTHER DIRECTORSHIPS
- ----------------- ------------- --------------------
<S> <C> <C>
Richard Q. Armstrong; 59 Director Mr. Armstrong is chairman of the board,
chief executive officer and co-owner of
Adirondack Beverages (producer and dis-
tributor of soft drinks and
sparkling/still waters) (since October
1993). He is also a director of HiLo Auto-
motive Inc. Mr. Armstrong was a partner of
The New England Consulting Group (manage-
ment consulting firm) (December 1992-Sep-
tember 1993) and was chairman of RQA En-
terprises (management consulting firm)
(1991-1994); he was managing director of
LMVH U.S. Corporation (U.S. subsidiary of
the French luxury goods conglomerate, Luis
Vuitton Moet Hennessey Corporation) (1987-
1991) and chairman of its wine and spirits
subsidiary, Schieffelin & Somerset Company
(1987-1991). Mr. Armstrong is also a di-
rector or trustee of three other invest-
ment companies for which Mitchell Hutchins
or PaineWebber serves as investment advis-
er.
E. Garrett Bewkes, Director and Mr. Bewkes is a director of Paine Webber
Jr.**; 68 Chairman of the Group Inc. ("PW Group") (holding company
Board of Directors of PaineWebber and Mitchell Hutchins) and
a consultant to PW Group. Prior to 1988,
he was chairman of the board, president
and chief executive officer of American
Bakeries Company. Mr. Bewkes is also a di-
rector of Interstate Bakeries Corporation
and NaPro BioTherapeutics, Inc. and a di-
rector or trustee of 26 other investment
companies for which Mitchell Hutchins or
PaineWebber serves as investment adviser.
</TABLE>
15
<PAGE>
<TABLE>
<CAPTION>
POSITION BUSINESS EXPERIENCE;
NAME AND ADDRESS* WITH THE FUND OTHER DIRECTORSHIPS
- ----------------- ------------- --------------------
<S> <C> <C>
Richard R. Burt; 47 Director Mr. Burt is chairman of International Eq-
uity Partners (international investments
and consulting firm) (since March 1994)
and a partner of McKinsey & Company (man-
agement consulting firm) (since 1991). He
is also a director of American Publishing
Company. He was the chief negotiator in
the Strategic Arms Reduction Talks with
the former Soviet Union (1989-1991) and
the U.S. Ambassador to the Federal Repub-
lic of Germany (1985-1989). Mr. Burt is
also a director or trustee of three other
investment companies for which Mitchell
Hutchins or PaineWebber serves as invest-
ment adviser.
John R. Torell III; 55 Director Mr. Torell is chairman and chief executive
767 Fifth Avenue officer of Fortune Bancorp (since 1990 and
Suite 4605 1991, respectively); chairman of Torell
New York, NY 10153 Management, Inc. (financial advisory firm)
(since 1989). He is the former chairman,
president and chief executive officer of
CalFed, Inc. (savings association) (1988
to 1989) and former president of Manufac-
turers Hanover Corp. (bank) (prior to
1988). Mr. Torell is also a director of
American Home Products Corp., Volt Infor-
mation Sciences Inc. and a director or
trustee of nine other investment companies
for which Mitchell Hutchins or PaineWebber
serves as investment adviser.
William D. White; 61 Director Mr. White is retired. From February 1989
P.O. Box 199 through March 1994, he was president of
Upper Black Eddie, the National League of Professional Base-
PA 18972 ball Clubs. Prior to 1989, he was a tele-
vision sportscaster for WPIX-TV, New York.
He is also a director or trustee of nine
other investment companies for which
Mitchell Hutchins or PaineWebber serves as
investment adviser.
Paul B. Guenther**; 54 President Mr. Guenther is president and a director of
PW Group and Mitchell Hutchins and a di-
rector of Paine Webber. Mr. Guenther is
also president of 26 and a director or
trustee of 17 other investment companies
for which Mitchell Hutchins or PaineWebber
serves as investment adviser.
</TABLE>
16
<PAGE>
<TABLE>
<CAPTION>
POSITION BUSINESS EXPERIENCE;
NAME AND ADDRESS* WITH THE FUND OTHER DIRECTORSHIPS
- ----------------- ------------- --------------------
<S> <C> <C>
Teresa M. Boyle; 36 Vice President Ms. Boyle is a first vice president and
manager --advisory administration of
Mitchell Hutchins. Prior to November 1993,
she was Compliance Manager of Hyperion
Capital Management, Inc., an investment
advisory firm. Prior to April 1993, Ms.
Boyle was a vice president and manager --
legal administration of Mitchell
Hutchins. Ms. Boyle is also a vice presi-
dent of 39 other investment companies for
which Mitchell Hutchins or PaineWebber
serves as investment adviser.
Joan L. Cohen; 30 Vice President and Ms. Cohen is a vice president and attorney
Assistant Secretary of Mitchell Hutchins. Prior to December
1993, she was an associate at the law firm
of Seward & Kissel. Ms. Cohen is also a
vice president and assistant secretary of
26 other investment companies for which
Mitchell Hutchins or PaineWebber serves as
investment adviser.
Ann E. Moran; 37 Vice President and Ms. Moran is a vice president of Mitchell
Assistant Treasurer Hutchins. Ms. Moran is also a vice presi-
dent and assistant treasurer of 39 other
investment companies for which Mitchell
Hutchins or PaineWebber serves as invest-
ment adviser.
Dianne E. O'Donnell; 42 Vice President and Ms. O'Donnell is a senior vice president
Secretary and senior associate general counsel of
Mitchell Hutchins. Ms. O'Donnell is also a
vice president and secretary of 39 other
investment companies for which Mitchell
Hutchins or PaineWebber serves as invest-
ment adviser.
Victoria E. Schonfeld; Vice President Ms. Schonfeld is a managing director and
44 general counsel of Mitchell Hutchins. From
April 1990 to May 1994, she was a partner
in the law firm of Arnold & Porter. Prior
to April 1990, she was a partner in the
law firm of Shereff, Friedman, Hoffman &
Goodman. Ms. Schonfeld is also a vice
president of 39 other investment companies
for which Mitchell Hutchins or PaineWebber
serves as investment adviser.
</TABLE>
17
<PAGE>
<TABLE>
<CAPTION>
POSITION BUSINESS EXPERIENCE;
NAME AND ADDRESS* WITH THE FUND OTHER DIRECTORSHIPS
- ----------------- ------------- --------------------
<S> <C> <C>
Paul H. Schubert; 32 Vice President and Mr. Schubert is a vice president of Mitch-
Assistant Treasurer ell Hutchins. From August 1992 to August
1994, he was a vice president of BlackRock
Financial Management, L.P. Prior to August
1992, he was an audit manager with Ernst &
Young LLP. Mr. Schubert is also a vice
president and assistant treasurer of 39
other investment companies for which
Mitchell Hutchins or PaineWebber serves as
investment adviser.
Martha J. Slezak; 32 Vice President and Ms. Slezak is a vice president of Mitchell
Assistant Treasurer Hutchins. From September 1991 to April
1992, she was fund-raising director for a
U.S. Senate campaign. Prior to September
1991, she was a tax manager with Arthur
Andersen & Co. Ms. Slezak is also a vice
president and assistant treasurer of 39
other investment companies for which
Mitchell Hutchins or PaineWebber serves as
investment adviser.
Julian F. Sluyters; 34 Vice President and Mr. Sluyters is a senior vice president and
Treasurer the director of the mutual fund finance
division of Mitchell Hutchins. Prior to
1991, he was an audit senior manager with
Ernst & Young LLP. Mr. Sluyters is also a
vice president and treasurer of 39 other
investment companies for which Mitchell
Hutchins or PaineWebber serves as invest-
ment adviser.
Gregory K. Todd; 38 Vice President and Mr. Todd is a first vice president and as-
Assistant Secretary sociate general counsel of Mitchell
Hutchins. Prior to 1993, he was a partner
in the law firm of Shereff, Friedman,
Hoffman & Goodman. Mr. Todd is also a vice
president and assistant secretary of 39
other investment companies for which
Mitchell Hutchins or PaineWebber serves as
investment adviser.
</TABLE>
- --------
* Unless otherwise indicated, the business address of each listed person is
1285 Avenue of the Americas, New York, New York 10019.
** Mr. Bewkes is an "interested person" of the Trust, as defined in the 1940
Act, by reason of his position with PW Group, the parent company of PaineWebber
and Mitchell Hutchins.
18
<PAGE>
The Trust pays directors who are not "interested persons" of the Trust $1,500
annually and $250 per meeting of the board of directors or any committee
thereof. Directors also are reimbursed for any expenses incurred in attending
meetings. Directors of the Trust who are "interested persons" receive no
compensation from the Trust. The table below includes certain information
relating to the compensation of the Trust's directors for the fiscal year ended
November 30, 1994. Messrs. Armstrong and Burt are not included in this table
since they were not elected as directors until after the end of the fiscal
year.
COMPENSATION TABLE
<TABLE>
<CAPTION>
PENSION OR TOTAL
RETIREMENT COMPENSATION
BENEFITS ACCRUED ESTIMATED FROM THE TRUST
AGGREGATE AS PART OF THE ANNUAL AND THE TRUST
NAME OF COMPENSATION TRUST'S BENEFITS UPON COMPLEX PAID
PERSON, POSITION FROM THE TRUST* EXPENSES RETIREMENT TO DIRECTORS+
---------------- --------------- ---------------- ------------- --------------
<S> <C> <C> <C> <C>
E. Garrett Bewkes, Jr.,
Director and chairman
of the board of
directors.............. -- -- -- --
John R. Torell III,
Director............... $4,125 0 0 $39,750
William D. White,
Director............... 3,375 0 0 33,250
</TABLE>
- --------
* Represents fees paid to each director during the fiscal year ended November
30, 1994.
+ Represents total compensation paid to each director during the calendar year
ended December 31, 1994.
Because Mitchell Hutchins and the Sub-Adviser perform substantially all of
the services necessary for the operation of the Trust, the Trust requires no
employees. No officer, director or employee of PaineWebber or Mitchell Hutchins
presently receives any compensation from the Trust for acting as a director or
officer.
CONTROL PERSONS AND PRINCIPAL HOLDERS OF SECURITIES
As of March 27, 1995, Cede & Co. (the nominee of The Depository Trust
Company, a securities depository) owned of record 10,142,560 of the Trust's
Shares or 94.3% of the outstanding Shares. To the knowledge of the Trust, no
person is the beneficial owner of 5% or more of its Shares. As of March 27,
1995, the directors and officers of the Trust as a group beneficially owned
less than 1% of the Trust's outstanding Shares.
INVESTMENT ADVISORY ARRANGEMENTS
Pursuant to the Investment Advisory and Administration Contract ("Mitchell
Hutchins Contract"), Mitchell Hutchins provides a continuous investment program
for the Trust and makes investment decisions and places orders to buy, sell or
hold particular securities; Mitchell Hutchins has delegated these
responsibilities to the Sub-Adviser subject to the supervision of Mitchell
Hutchins. As administrator, Mitchell Hutchins supervises all matters relating
to the operation of the Trust and provides for its corporate, administrative
and clerical personnel, office space, equipment and services, including
arranging for the periodic preparation, updating, filing and dissemination of
proxy materials, tax returns and reports to the Trust's board of directors,
shareholders and regulatory authorities. Pursuant to a separate contract with
Mitchell Hutchins, dated as of December 18, 1992 ("Sub-Advisory Contract"), the
Sub-Adviser serves as the Trust's sub-adviser. The Sub-Adviser makes investment
decisions and places orders to buy, sell or hold particular securities for the
Trust.
In addition to the payments to Mitchell Hutchins under the Mitchell Hutchins
Contract described above, the Trust pays certain other costs including: (1) the
costs (including brokerage commissions) of securities purchased or sold by the
Trust and any losses incurred in connection
19
<PAGE>
therewith; (2) expenses incurred on behalf of the Trust by Mitchell Hutchins;
(3) organizational expenses of the Trust, whether or not advanced by Mitchell
Hutchins; (4) filing fees and expenses relating to the registration and
qualification of the Shares under federal and state securities laws; (5) fees
and salaries payable to directors who are not interested persons of the Trust
or Mitchell Hutchins; (6) all expenses incurred in connection with the
directors' services, including travel expenses; (7) taxes (including any
income or franchise taxes) and governmental fees; (8) costs of any liability,
uncollectible items of deposit and any other insurance or fidelity bonds; (9)
any costs, expenses or losses arising out of a liability of or claims for
damages or other relief asserted against the Trust for violation of any law;
(10) legal, accounting and auditing expenses, including legal fees of special
counsel for the independent directors; (11) charges of custodians, transfer
agents and other agents; (12) costs of preparing Share certificates; (13)
expenses of printing and distributing reports to shareholders; (14) any
extraordinary expenses (including fees and disbursements of counsel) incurred
by the Trust; (15) fees, voluntary assessments and other expenses incurred in
connection with membership in investment company organizations; (16) costs of
mailing and tabulating proxies and costs of meetings of shareholders, the
board and any committees thereof; (17) the costs of investment company
literature and other publications provided to directors and officers; (18)
costs of mailing, stationery and communications equipment; (19) interest
charges on borrowings; and (20) fees and expenses of listing and maintaining
any listing of the Shares on the NYSE or any other national securities
exchange.
Under the Mitchell Hutchins Contract, Mitchell Hutchins is not liable for
any error of judgment or mistake of law or for any loss suffered by the Trust
or its shareholders in connection with the Mitchell Hutchins Contract, except
a loss resulting from willful misfeasance, bad faith or gross negligence on
the part of Mitchell Hutchins in the performance of its duties or from
reckless disregard of its duties and obligations under the Mitchell Hutchins
Contract. Under the Sub-Advisory Contract, the Sub-Adviser is not liable for
any error of judgment or mistake of law or for any loss suffered by the Trust,
its shareholders or Mitchell Hutchins in connection with the Sub-Advisory
Contract, except any liability to the Trust, its shareholders or Mitchell
Hutchins to which the Sub-Adviser would otherwise be subject by reason of
willful misfeasance, bad faith or gross negligence on its part in the
performance of its duties or from reckless disregard by it of its obligations
and duties under the Sub-Advisory Contract. The Mitchell Hutchins Contract
terminates automatically upon assignment and is terminable by vote of the
board of directors or by the holders of a majority of the outstanding voting
securities of the Trust, at any time without penalty, on 60 days' written
notice to Mitchell Hutchins. The Mitchell Hutchins Contract may also be
terminated by Mitchell Hutchins on 60 days' written notice to the Trust.
The Sub-Advisory Contract terminates automatically upon assignment or upon
termination of the Mitchell Hutchins Contract and is terminable by vote of the
Trust's board of directors, or by the holders of a majority of the outstanding
voting securities of the Trust, at any time without penalty, on 60 days'
written notice to the Sub-Adviser. The Sub-Advisory Contract may be terminated
by Mitchell Hutchins: (1) on 20 days' notice to the Sub-Adviser upon material
breach by the Sub-Adviser of its representations and warranties, which breach
shall not have been cured within such 20-day notice period; (2) if the Sub-
Adviser becomes unable to discharge its duties and obligations under the Sub-
Advisory Contract; or (3) on 120 days' notice to the Sub-Adviser. The Sub-
Adviser may terminate the Sub-Advisory Contract at any time on 120 days'
notice to Mitchell Hutchins.
For the fiscal year ended November 30, 1994 and for the fiscal period ended
November 30, 1993, the Trust paid or accrued to Mitchell Hutchins $1,031,048
and $1,002,443, respectively, in investment advisory and administration fees,
and Mitchell Hutchins (not the Trust) paid or accrued to the Sub-Adviser
$368,231 and $358,016, respectively, in investment sub-advisory fees.
20
<PAGE>
PORTFOLIO TRANSACTIONS
Subject to policies established by the board of directors and oversight by
Mitchell Hutchins, the Sub-Adviser is responsible for the execution of the
Trust's portfolio transactions and the allocation of brokerage transactions. In
executing portfolio transactions, the Sub-Adviser seeks to obtain the best net
results for the Trust, taking into account such factors as the price (including
the applicable dealer spread or brokerage commission), size of order,
difficulty of execution and operational facilities of the firm involved. The
securities in which the Trust will invest generally are traded on the OTC
market on a "net" basis without a stated commission through dealers acting for
their own account and not as brokers. Prices paid to dealers in principal
transactions generally include a "spread," which is the difference between the
prices at which the dealer is willing to purchase and sell a specific security
at that time.
In placing orders with dealers, the Sub-Adviser attempts to obtain the best
net price and the most favorable execution of its orders. The Sub-Adviser may
purchase and sell portfolio securities from and to dealers who provide the
Trust with research analysis, statistical or pricing advice or similar
services. Portfolio transactions are not directed by the Trust to dealers
solely on the basis of research and advice provided. Research services
furnished by the dealers through which or with which the Trust effects
securities transactions may be used by the Sub-Adviser and in advising other
funds or accounts they advise and, conversely, research services furnished to
Mitchell Hutchins or the Sub-Adviser in connection with other funds or accounts
that either of them advises may be used in advising the Trust.
Goldman, Sachs & Co., an affiliate of the Sub-Adviser, is an active
participant in the securities markets, including the markets for Mortgage-
Backed Securities and other securities and instruments in which the Trust
invests. Goldman, Sachs & Co. and its affiliates have proprietary interests in,
and manage accounts trading in, such markets which have investment objectives
similar to those of the Trust, as well as accounts with investment objectives
different from those of the Trust but trading in the same types of securities
and instruments as those traded on behalf of the Trust. Such activities could
affect the prices of securities and instruments to be purchased or sold by the
Trust, and such accounts may compete with the Trust for investments in
securities and other instruments. Transactions for the proprietary and other
accounts managed by Goldman, Sachs & Co. (other than accounts managed by the
Sub-Adviser or its advisory affiliates) are executed separately from the Sub-
Adviser's execution of trades, including trades for the Trust.
Investment decisions for the Trust and for other investment accounts managed
by the Sub-Adviser are made independently of each other in light of differing
considerations for the various accounts. However, the same investment decision
may occasionally be made for the Trust and one or more such accounts. In such
cases, simultaneous transactions are inevitable. Purchases and sales then are
averaged as to price and allocated between the Trust and such other account(s)
as to amount in a manner determined by the Sub-Adviser in good faith to be fair
and equitable in light of the Sub-Adviser's fiduciary obligations to the Trust
and the other account(s) involved. While in some cases this practice could have
a detrimental effect upon the price or value of the security as far as the
Trust is concerned, or upon its ability to complete its entire order, in other
cases it is believed that coordination and the ability to participate in volume
transactions will be beneficial to the Trust.
Transactions in futures contracts are executed through futures commission
merchants ("FCMs") who receive brokerage commissions for their services. The
Trust's procedures in selecting
21
<PAGE>
FCMs to execute the Trust's transactions in futures contracts, including
procedures permitting the use of the Sub-Adviser and its affiliates are similar
to those in effect with respect to brokerage transactions in securities. For
the fiscal year ended November 30, 1994 and for the fiscal period ended
November 30, 1993, the Trust paid no commissions to FCMs.
The Trust does not purchase securities that are offered in underwritings in
which Mitchell Hutchins, the Sub-Adviser or any of their affiliates is a member
of the underwriting or selling group, except pursuant to procedures adopted by
the board of directors pursuant to Rule 10f-3 under the 1940 Act. Among other
things, these procedures require that the commission or spread paid in
connection with such a purchase be reasonable and fair, that the purchase be at
not more than the public offering price prior to the end of the first business
day after the date of the public offering and that Mitchell Hutchins, the Sub-
Adviser and their affiliates not participate in or benefit from the sale to the
Trust.
For the fiscal year ended November 30, 1994 and for the fiscal period ended
November 30, 1993 the Sub-Adviser did not direct any portfolio transactions to
brokers chosen because they provide research and analysis. For the fiscal year
ended November 30, 1994 and for the fiscal period ended November 30, 1993, the
Trust paid no brokerage commissions.
VALUATION OF SHARES
The net asset value of the Shares is determined weekly on the second to last
day in each week on which the NYSE is open (or on such other day as may be
determined by the Trust's board of directors) and also is determined monthly as
of the close of regular trading on the NYSE on the last day of the month on
which the NYSE is open for trading. The net asset value per Share is computed
by dividing the value of the securities held by the Trust plus any cash or
other assets (including interest and dividends accrued but not yet received and
earned discount) minus all liabilities (including accrued expenses) by the
total number of Shares outstanding at such time.
The Trust's mortgage-backed and U.S. Treasury obligations are valued by the
Sub-Adviser in good faith and under the supervision of the Trust's board of
directors based on yield equivalents, a pricing matrix or other sources. Other
portfolio securities for which accurate market quotations are readily available
are valued on the basis of quotations furnished by a pricing service or
provided by dealers in those securities. When market quotations for securities
held by the Trust are not readily available, they are valued at fair value by
or under the direction of the board of directors utilizing quotations and other
information concerning similar securities derived from recognized dealers in
those securities or information regarding the trading spreads quoted by
recognized dealers between such securities and U.S. Treasury securities whose
maturities are determined by the Sub-Adviser to be most closely matched to the
average life of the Trust's securities. When market quotations for positions in
Strategic Transactions held by the Trust are readily available, those positions
will be valued based upon such quotations. Market quotations generally will not
be available for options traded on the OTC market. When market quotations for
positions in Strategic Transactions are not readily available, they will be
valued at fair value as determined in good faith by or under the direction of
the board of directors. Notwithstanding the above, debt securities with
maturities of 60 days or less generally are valued at amortized cost if their
original term to maturity was 60 days or less, or by amortizing the difference
between their fair value as of the 61st day prior to maturity and their
maturity value if their original term to maturity exceeded 60 days, unless in
either case the board of directors or its delegate determines that this does
not represent fair value.
22
<PAGE>
TAXES
General. In order to continue to qualify for treatment as a regulated
investment company ("RIC") under the Internal Revenue Code, the Trust must
distribute to its shareholders for each taxable year at least 90% of the sum of
its investment company taxable income (consisting generally of taxable net
investment income and net short-term capital gain) plus its net interest income
excludable from gross income under section 103(a) of the Internal Revenue Code
("tax-exempt income") ("Distribution Requirement") and must meet several
additional requirements. Among these requirements are the following: (1) the
Trust must derive at least 90% of its gross income each taxable year from
dividends, interest, payments with respect to securities loans and gains from
the sale or other disposition of securities, or other income (including gains
from options or futures contracts) derived with respect to its business of
investing in securities ("Income Requirement"); (2) the Trust must derive less
than 30% of its gross income each taxable year from the sale or other
disposition of securities, options or futures contracts held for less than
three months ("Short-Short Limitation"); (3) at the close of each quarter of
the Trust's taxable year, at least 50% of the value of its total assets must be
represented by cash and cash items, U.S. government securities, securities of
other RICs and other securities, with those other securities limited, in
respect of any one issuer, to an amount that does not exceed 5% of the value of
the Trust's total assets; and (4) at the close of each quarter of the Trust's
taxable year, not more than 25% of the value of its total assets may be
invested in securities (other than U.S. government securities or the securities
of other RICs) of any one issuer. If the Trust fails to qualify for treatment
as a RIC for any taxable year, it would be taxed as an ordinary corporation on
its taxable income for that year (even if that income was distributed to its
shareholders) and all distributions out of its earnings and profits would be
taxable to its shareholders as dividends (that is, ordinary income).
The Trust will be subject to a nondeductible 4% excise tax ("Excise Tax") to
the extent it fails to distribute by the end of any calendar year at least 98%
of the sum of its ordinary income (not including tax-exempt income) for that
year and its capital gain net income for the one-year period ending on November
30 of that year, plus certain other amounts. For these purposes, any such
taxable income retained by the Trust, and on which it pays federal income tax,
will be treated as having been distributed.
Any capital losses that the Trust may realize can be used only to offset
capital gains and cannot be used to reduce the Trust's ordinary income. Thus,
if the Trust realized a net capital loss in any taxable year, its net asset
value would be reduced thereby, but the amount the Trust would be required to
distribute to satisfy the Distribution Requirement and to avoid imposition of
the Excise Tax would not be decreased. Net capital losses that the Trust cannot
use in one taxable year may be carried forward by it for eight years. If any
capital losses have not been used by the time the Trust terminates, the
potential benefits of those capital losses will be lost.
While any obligations constituting senior securities are outstanding, the
Trust may not declare any cash dividend or other distribution on its Shares
unless, at the time of the declaration, the Trust satisfies certain dividend
payment and asset coverage requirements. See "Dividends and Other
Distributions; Dividend Reinvestment Plan" in the Prospectus. Any such
suspension of distributions on the Shares could prevent the Trust from
satisfying the Distribution Requirement and avoiding imposition of the Excise
Tax.
Original Issue Discount. The Trust may acquire Zero Coupon Municipal
Securities (or other securities, such as PO classes of Mortgage-Backed
Securities) that are issued with original issue discount. As the holder of such
a security, the Trust would have to include in its gross income each
23
<PAGE>
taxable year the original issue discount that accrues on the security for the
year, even if it receives no payment on the security during the year. Because
the Trust annually must distribute (1) at least 90% of its net investment
income, including any accrued original issue discount (whether taxable or not),
to satisfy the Distribution Requirement and (2) substantially all of its non-
tax-exempt income to avoid imposition of the Excise Tax, it may be required in
a particular year to distribute as a dividend an amount that is greater than
the total amount of cash it actually receives. Those distributions will be made
from the Trust's cash assets or from the proceeds of sales of portfolio
securities or from borrowings, if necessary. The Trust may realize capital
gains or losses from those sales, which would increase or decrease its
investment company taxable income or net capital gain. In addition, any such
gains may be realized on the disposition of securities held for less than three
months. Because of the Short-Short Limitation, any such gains would reduce the
Trust's ability to sell other securities, options or futures held for less than
three months that it might wish to sell in the ordinary course of its portfolio
management. The Trust will not invest in Zero Coupon Municipal Securities the
interest on which is a tax preference item for purposes of the federal
alternative minimum tax.
Strategic Transactions. The use of Strategic Transactions, such as writing
(selling) and purchasing options and futures, involves complex rules that will
determine for income tax purposes the character and timing of recognition of
the gains and losses the Trust realizes in connection therewith. These rules
also may require the Trust to "mark to market" (that is, treat as sold for
their fair market value) at the end of each taxable year certain positions in
its portfolio, which may cause the Trust to recognize income without receiving
cash with which to make distributions necessary to satisfy the Distribution
Requirement and to avoid imposition of the Excise Tax. In that event, the Trust
might have to liquidate securities to enable it to make the required
distributions, which would cause it to recognize gains or losses and might
affect its ability to satisfy the Short-Short Limitation.
Income from transactions in options and futures derived by the Trust with
respect to its business of investing in securities will qualify as permissible
income under the Income Requirement. However, income from the disposition of
options and futures will be subject to the Short-Short Limitation if they are
held for less than three months.
If the Trust satisfies certain requirements, any increase in value of a
position that is part of a "designated hedge" will be offset by any decrease in
value (whether realized or not) of the offsetting hedging position during the
period of the hedge for purposes of determining whether the Trust satisfies the
Short-Short Limitation. Thus, only the net gain (if any) from the designated
hedge will be included in gross income for purposes of that limitation. The
Trust will consider whether it should seek to qualify for this treatment for
its hedging transactions. To the extent the Trust does not qualify for this
treatment, it may be forced to defer the closing out of certain options and
futures beyond the time when it otherwise would be advantageous to do so, in
order for the Trust to continue to qualify as a RIC.
Other Securities. As a result of investing in certain securities and also as
a result of leveraging to purchase or hold certain other securities, the Trust
may be required to report taxable income in excess of the economic income
derived therefrom. The timing and character of any deduction attributable to
the Trust's failure to fully recoup its initial investment in certain Mortgage-
Backed Securities as a result of greater than anticipated prepayments of
principal on the underlying mortgage assets are unclear. The tax treatment of
certain securities in which the Trust may invest is not free from doubt, and it
is possible that an Internal Revenue Service examination of the issuers of
those securities or of the Trust could result in adjustments to the Trust's
taxable income.
24
<PAGE>
ADDITIONAL INFORMATION
COMMON STOCK REPURCHASES AND TENDER OFFERS
As discussed in the Prospectus, the Trust's board of directors may make a
tender offer for its Shares to reduce or eliminate the discount to net asset
value at which the Fund's Shares might trade. Even if such a tender offer has
been made, it will be the board's announced policy, which may be changed by the
board, not to accept tenders or effect Share repurchases (or, if a tender offer
has not been made, not to initiate a tender offer) if: (1) such transactions,
if consummated, would (a) result in the delisting of the Shares from the NYSE
(the NYSE having advised the Trust that it would consider delisting if the
aggregate market value of the outstanding Shares is less than $5,000,000, the
number of publicly held Shares falls below 600,000 or the number of round-lot
holders falls below 1,200) or (b) impair the Trust's status as a RIC (which
would eliminate the Trust's eligibility to deduct distributions paid to its
shareholders, thus causing the Trust's income to be fully taxed at the
corporate level in addition to the taxation of shareholders on distributions
received from the Trust); (2) the Trust would not be able to liquidate
portfolio securities in an orderly manner and consistent with the Trust's
investment objective and policies in order to repurchase its Shares; or (3)
there is, in the board's judgment, any (a) material legal action or proceeding
instituted or threatened challenging such transactions or otherwise materially
adversely affecting the Trust, (b) suspension of trading or limitation on
prices of securities generally on the NYSE or any other exchange on which
portfolio securities of the Trust are traded, (c) declaration of a banking
moratorium by federal or state authorities or any suspension of payment by
banks in the United States, New York State or any state in which the Trust
invests, (d) limitation affecting the Trust or the issuers of its portfolio
securities imposed by federal or state authorities on the extension of credit
by lending institutions, (e) commencement of war, armed hostilities or other
international or national calamity directly or indirectly involving the United
States or (f) other event or condition that would have a material adverse
effect on the Trust or its shareholders if Shares were repurchased. The board
of directors may modify these conditions in light of experience.
COUNSEL
The law firm of Kirkpatrick & Lockhart, 1800 M Street, N.W., Washington, D.C.
20036-5891 counsel to the Trust, has passed upon the legality of the shares
offered by the Trust's Prospectus. Kirkpatrick & Lockhart also acts as counsel
to Mitchell Hutchins and PaineWebber in connection with other matters.
INDEPENDENT AUDITORS
Ernst & Young LLP, 787 Seventh Avenue, New York, New York 10019, serves as
the Trust's independent auditors.
FINANCIAL STATEMENTS
The Trust's Annual Report to Shareholders for the fiscal year ended November
30, 1994 is a separate document supplied with this Statement of Additional
Information and the financial statements, accompanying notes and report of
independent auditors appearing therein are incorporated by reference in this
Statement of Additional Information.
25
<PAGE>
APPENDIX A
PERFORMANCE COMPARISONS AND ECONOMIC INFORMATION
The Trust may, in advertisements, reports to shareholders and other publicly-
distributed documents, compare its performance with or otherwise discuss the
investment returns of various securities, such as 6-month Treasury bills, 1-
year Treasury notes, and 10-year and 30-year Treasury bonds. Such comparisons
or discussions also may include economic data and statistics published by the
United States Bureau of Labor Statistics, such as the cost of living index,
information and statistics on the residential mortgage market or the market for
Mortgage-Backed Securities such as those published by the Federal Reserve Bank,
the Office of Thrift Supervision, Ginnie Mae, Fannie Mae and Freddie Mac and
the Lehman Mortgage-Backed Securities Index. The Trust also may compare its
performance with or otherwise discuss data (including average 30-day money
market fund yields) published by Lipper Analytical Services, Inc.,
IBC/Donoghue's Money Market Fund Report, Wiesenberger Investment Service or
Investment Company Data Inc. In comparing the Trust or its performance to money
market funds, investors should keep in mind that money market funds seek to
maintain a constant net asset value per share of $1.00, while the net asset
value of the Shares will fluctuate. The securities held by the Trust generally
have longer maturities than those held by money market funds and may reflect
interest rate fluctuations for longer term securities.
The Trust also may compare its performance with or otherwise discuss the
performance of bank certificates of deposit ("CDs") as measured by the CDA
Investment Technologies Certificate of Deposit Index and the Bank Rate Monitor
Index and the averages of yields of CDs of major banks published by
Banxquote (R) Money Markets. In comparing the Trust or its performance to CD
performance, investors should keep in mind that bank CDs are insured in whole
or in part by an agency of the U.S. government and offer fixed principal and
fixed or variable rates of interest, and that bank CD yields may vary depending
on the financial institution offering the CD and prevailing interest rates. The
Shares are not insured or guaranteed by the U.S. government; returns and net
asset value will fluctuate. The securities held by the Trust generally have
longer maturities than most CDs and may reflect interest rate fluctuations for
longer term securities.
The Trust may include discussions or illustrations of the effects of
compounding in advertisements. "Compounding" refers to the fact that, if
dividends and other distributions are reinvested in additional Shares, any
future income or capital appreciation would increase the net asset value, not
only of the original Trust investment, but also of the additional Shares
received through reinvestment. As a result, the net asset value of an
investment in the Trust would increase more rapidly than if dividends and other
distributions had been paid in cash.
A-1
<PAGE>
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NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY
REPRESENTATIONS NOT CONTAINED IN THE PROSPECTUS OR IN THIS STATEMENT OF
ADDITIONAL INFORMATION IN CONNECTION WITH THE OFFERING MADE BY THE PROSPECTUS
AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED
UPON AS HAVING BEEN AUTHORIZED BY THE TRUST OR PAINEWEBBER. THE PROSPECTUS AND
THIS STATEMENT OF ADDITIONAL INFORMATION DO NOT CONSTITUTE AN OFFERING BY THE
TRUST OR BY PAINEWEBBER IN ANY JURISDICTION IN WHICH SUCH OFFERING MAY NOT
LAWFULLY BE MADE.
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TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Investment Policies and Restrictions....................................... 1
Investment Limitations..................................................... 5
Strategic Transactions..................................................... 7
Directors and Officers..................................................... 15
Control Persons and Principal Holders of Securities........................ 19
Investment Advisory Arrangements........................................... 19
Portfolio Transactions..................................................... 21
Valuation of Shares........................................................ 22
Taxes...................................................................... 23
Additional Information..................................................... 25
Financial Statements....................................................... 25
Appendix A................................................................. A-1
</TABLE>
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2002 TARGET
TERM TRUST INC.
COMMON STOCK
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STATEMENT OF ADDITIONAL INFORMATION
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PAINEWEBBER INCORPORATED
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APRIL 6, 1995
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(C) 1995 PaineWebber Incorporated
LOGO Recycled Paper
