<PAGE>
THE MUNDER DIGITAL ECONOMY FUND
STATEMENT OF ADDITIONAL INFORMATION
September 15, 2000
The Munder Funds, Inc. (the "Company") currently offers a selection of
fourteen investment portfolios, one of which is The Munder Digital Economy Fund
(the "Fund") which is discussed in this Statement of Additional Information (the
"SAI"). The Fund's investment advisor is Munder Capital Management (the
"Advisor").
This SAI, which has been filed with the Securities and Exchange Commission
(the "SEC"), provides supplementary information pertaining to all classes of
shares representing interests in the Fund. This SAI is not a prospectus, and
should be read only in conjunction with the Company's Prospectus dated September
15, 2000. A copy of the Prospectus may be obtained through Funds Distributor,
Inc. (the "Distributor"), or by calling (800) 438-5789.
An investment in the Fund is not a bank deposit and is not insured or guaranteed
by the Federal Deposit Insurance Corporation or any other governmental agency.
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
----
<S> <C>
History and General Information............................ 3
Fund Investments........................................... 3
Investment Limitations..................................... 11
Temporary Defensive Position............................... 13
Management of the Fund..................................... 13
Investment Advisory and Other Service Arrangements......... 16
Code of Ethics............................................. 19
Portfolio Transactions..................................... 19
Additional Purchase and Redemption Information............. 20
Net Asset Value............................................ 23
Performance Information.................................... 23
Taxes...................................................... 25
Additional Information Concerning Shares................... 30
Other Information.......................................... 31
Registration Statement..................................... 31
Appendix A................................................. A-1
Appendix B................................................. B-1
</TABLE>
No person has been authorized to give any information or to make any
representations not contained in this SAI or in the Prospectus 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 Fund
or the Distributor. The Prospectus does not constitute an offering by the Fund
or by the Distributor in any jurisdiction in which such offering may not
lawfully be made.
2
<PAGE>
HISTORY AND GENERAL INFORMATION
The Company is an open-end investment management company, which is a mutual
fund that sells and redeems shares every day that it is open for business. The
Company was organized as a Maryland corporation on November 18, 1992.
The investment advisor of the Fund is Munder Capital Management ("MCM" or
the "Advisor"). The principal partners of the Advisor are Munder Group LLC, WAM
Holdings, Inc. ("WAM") and WAM Holdings II, Inc. ("WAM II"). WAM and WAM II are
indirect, wholly-owned subsidiaries of Comerica Incorporated which owns or
controls approximately 95% of the partnership interests in MCM.
Capitalized terms used in this SAI and not otherwise defined have the same
meanings as are given to them in the Prospectus.
FUND INVESTMENTS
The following supplements the information contained in the Prospectus
concerning the investment objectives and policies of the Fund.
A description of applicable credit ratings is set forth in Appendix A to
this SAI.
Borrowing. The Fund is authorized to borrow money in amounts up to 5% of
the value of its total assets at the time of such borrowings for temporary
purposes, and is authorized to borrow money in excess of the 5% limit as
permitted by the Investment Company Act of 1940, as amended (the "1940 Act"), to
meet redemption requests. This borrowing may be unsecured. The 1940 Act
requires the Fund to maintain continuous asset coverage of 300% of the amount
borrowed. If the 300% asset coverage should decline as a result of market
fluctuations or other reasons, the Fund may be required to sell some of its
portfolio holdings within three days to reduce the debt and restore the 300%
asset coverage, even though it may be disadvantageous from an investment
standpoint to sell securities at that time. Borrowed funds are subject to
interest costs that may or may not be offset by amounts earned on the borrowed
funds. The Fund may also be required to maintain minimum average balances in
connection with such borrowing or to pay a commitment or other fees to maintain
a line of credit; either of these requirements would increase the cost of
borrowing over the stated interest rate. The Fund may, in connection with
permissible borrowings, transfer as collateral securities owned by the Fund.
Foreign Securities. The Fund may invest its assets in foreign securities.
The Fund may purchase foreign securities which are represented by American
Depositary Receipts ("ADRs") listed on a domestic securities exchange or
included in the NASDAQ National Market System, or foreign securities listed
directly on a domestic securities exchange or included in the NASDAQ National
Market System. ADRs are receipts typically issued by a United States bank or
trust company evidencing ownership of the underlying foreign securities.
Certain institutions issuing ADRs may not be sponsored by the issuer. A non-
sponsored depositary may not provide the same shareholder information that a
sponsored depositary is required to provide under its contractual arrangements
with the issuer.
Income and gains on foreign securities may be subject to foreign
withholding taxes. Investors should consider carefully the substantial risks
involved in securities of companies and governments of foreign nations, which
are in addition to the usual risks inherent in domestic investments. There may
be less publicly available information about foreign companies comparable to the
reports and ratings published about companies in the United States. Foreign
companies are not generally subject to uniform accounting, auditing and
financial reporting standards, and auditing practices and requirements may not
be comparable to those applicable to United States companies. Foreign markets
have substantially less trading volume than the New York Stock Exchange and
securities of some foreign companies are less liquid and more volatile than
securities of comparable United States companies. Commission rates in foreign
countries, which are generally fixed rather than subject to negotiation as in
the United States, are likely to be higher. In many foreign countries there is
less government supervision and regulation of stock exchanges, brokers, and
listed companies than in the United States. Such concerns are particularly
heightened for emerging markets and Eastern European countries.
3
<PAGE>
Investments in companies domiciled in developing countries may be subject
to potentially higher risks than investments in developed countries. These
risks include (i) less social, political and economic stability; (ii) the small
current size of the markets for such securities and the currently low or
nonexistent volume of trading, which result in a lack of liquidity and in
greater price volatility; (iii) certain national policies which may restrict a
Fund's investment opportunities, including restrictions on investment in issuers
or industries deemed sensitive to national interest; (iv) foreign taxation; (v)
the absence of developed legal structures governing private or foreign
investment or allowing for judicial redress for injury to private property; (vi)
the absence, until recently in certain Eastern European countries, of a capital
market structure or market-oriented economy; and (vii) the possibility that
recent favorable economic developments in Eastern Europe may be slowed or
reversed by unanticipated political or social events in such countries.
Investments in Eastern European countries may involve risks of
nationalization, expropriation and confiscatory taxation. The Communist
governments of a number of Eastern European countries expropriated large amounts
of private property in the past, in many cases without adequate compensation,
and there can be no assurance that such expropriation will not occur in the
future. In the event of such expropriation, the Fund could lose a substantial
portion of any investments it has made in the affected countries. Further, no
accounting standards exist in Eastern European countries. Finally, even though
certain Eastern European currencies may be convertible into United States
dollars, the conversion rates may be artificial rather than their actual market
values and they may be adverse to a Fund.
The Advisor endeavors to buy and sell foreign currencies on as favorable a
basis as practicable. Some price spread on currency exchange (to cover service
charges) may be incurred, particularly when the Fund changes investments from
one country to another or when proceeds of the sale of Fund shares in U.S.
dollars are used for the purchase of securities in foreign countries. Also,
some countries may adopt policies which would prevent the Fund from transferring
cash out of the country or withhold portions of interest and dividends at the
source. There is the possibility of expropriation, nationalization or
confiscatory taxation, withholding and other foreign taxes on income or other
amounts, foreign exchange controls (which may include suspension of the ability
to transfer currency from a given country), default in foreign government
securities, political or social instability or diplomatic developments that
could affect investments in securities of issuers in foreign nations.
Foreign securities markets have different clearance and settlement
procedures, and in certain markets there have been times when settlements have
been unable to keep pace with the volume of securities transactions, making it
difficult to conduct such transactions. Delays in settlement could result in
temporary periods when assets of the Fund are uninvested and no return is earned
thereon. The inability of the Fund to make intended security purchases due to
settlement problems could cause the Fund to miss attractive investment
opportunities. Inability to dispose of portfolio securities due to settlement
problems could result either in losses to the Fund due to subsequent declines in
value of the portfolio security or, if the fund has entered into a contract to
sell the security, could result in possible liability to the purchaser.
The Fund may be affected either unfavorably or favorably by fluctuations in
the relative rates of exchange between the currencies of different nations, by
exchange control regulations and by indigenous economic and political
developments. Changes in foreign currency exchange rates will influence values
within the Fund from the perspective of U.S. investors, and may also affect the
value of dividends and interest earned, gains and losses realized on the sale of
securities, and net investment income and gains, if any, to be distributed to
shareholders by the Fund. The rate of exchange between the U.S. dollar and
other currencies is determined by the forces of supply and demand in the foreign
exchange markets. These forces are affected by the international balance of
payments and other economic and financial conditions, government intervention,
speculation and other factors. The Advisor will attempt to avoid unfavorable
consequences and to take advantage of favorable developments in particular
nations where, from time to time, it places the Fund's investments.
The exercise of this flexible policy may include decisions to purchase
securities with substantial risk characteristics and other decisions such as
changing the emphasis on investments from one nation to another and from one
type of security to another. Some of these decisions may later prove profitable
and others may not. No assurance can be given that profits, if any, will exceed
losses.
4
<PAGE>
Forward Currency Transactions. In order to protect against a possible loss
on investments resulting from a decline or appreciation in the value of a
particular foreign currency against the U.S. dollar or another foreign currency,
the Fund is authorized to enter into forward currency exchange contracts
("forward currency contracts"). These contracts involve an obligation to
purchase or sell a specified currency at a future date at a price set at the
time of the contract. Forward currency contracts do not eliminate fluctuations
in the values of portfolio securities but rather allow the Fund to establish a
rate of currency exchange for a future point in time.
When entering into a contract for the purchase or sale of a security, the
Fund may enter into a forward currency contract for the amount of the purchase
or sale price to protect against variations, between the date the security is
purchased or sold and the date on which payment is made or received, in the
value of the foreign currency relative to the U.S. dollar or other foreign
currency.
When the Advisor anticipates that a particular foreign currency may decline
substantially relative to the U.S. dollar or other leading currencies, in order
to reduce risk, the Fund may enter into a forward contract to sell, for a fixed
amount, the amount of foreign currency approximating the value of some or all of
the Fund's securities denominated in such foreign currency. Similarly, when the
obligations held by the Fund create a short position in a foreign currency, the
Fund may enter into a forward contract to buy, for a fixed amount, an amount of
foreign currency approximating the short position. With respect to any forward
currency contract, it will not generally be possible to match precisely the
amount covered by that contract and the value of the securities involved due to
the changes in the values of such securities resulting from market movements
between the date the forward contract is entered into and the date it matures.
In addition, while forward contracts may offer protection from losses resulting
from declines or appreciation in the value of a particular foreign currency,
they also limit potential gains which might result from changes in the value of
such currency. The Fund will also incur costs in connection with forward
currency contracts and conversions of foreign currencies and U.S. dollars.
Cash or liquid securities equal to the amount of the Fund's assets that
could be required to consummate forward contracts will be designated on the
records of the Fund's custodian except to the extent the contracts are otherwise
"covered." For the purpose of determining the adequacy of the designated
securities, the designated securities will be valued at market or fair value.
If the market or fair value of such securities declines, additional cash or
securities will be designated daily so that the value of the designated
securities will equal the amount of such commitments by the Fund. A forward
contract to sell a foreign currency is "covered" if the Fund owns the currency
(or securities denominated in the currency) underlying the contract, or holds a
forward contract (or call option) permitting the Fund to buy the same currency
at a price no higher than the Fund's price to sell the currency. A forward
contract to buy a foreign currency is "covered" if the Fund holds a forward
contract (or put option) permitting the Fund to sell the same currency at a
price as high as or higher than the Fund's price to buy the currency.
Futures Contracts and Related Options. The Fund may purchase and sell
futures contracts on interest-bearing securities or securities indices, and may
purchase and sell call and put options on futures contracts. For a detailed
description of futures contracts and related options, see Appendix B to this
SAI.
Illiquid Securities. The Fund may invest up to 15% of the value of its net
assets (determined at time of acquisition) in securities that are illiquid.
Illiquid securities would generally include securities for which there is a
limited trading market, repurchase agreements and time deposits with
notice/termination dates in excess of seven days, and certain securities that
are subject to trading restrictions because they are not registered under the
Securities Act of 1933, as amended (the "Act"). If, after the time of
acquisition, events cause this limit to be exceeded, the Fund will take steps to
reduce the aggregate amount of illiquid securities as soon as reasonably
practicable in accordance with the policies of the SEC.
The Fund may invest in commercial obligations issued in reliance on the
"private placement" exemption from registration afforded by Section 4(2) of the
Act ("Section 4(2) paper"). The Fund may also purchase securities that are not
registered under the Act, but which can be sold to qualified institutional
buyers in accordance with Rule 144A under the Act, ("Rule 144A securities").
Section 4(2) paper is restricted as to disposition under the Federal securities
laws, and generally is sold to institutional investors who agree that they are
purchasing the paper for investment and not with a view to public distribution.
Any resale by the purchaser must be in an exempt transaction. Section 4(2)
paper normally is resold to other institutional investors through or with the
assistance of
5
<PAGE>
the issuer or investment dealers which make a market in the Section 4(2) paper,
thus providing liquidity. Rule 144A securities generally must be sold only to
other qualified institutional buyers. If a particular investment in Section 4(2)
paper or Rule 144A securities is not determined to be liquid, that investment
will be included within the Fund's limitation on investment in illiquid
securities. The Advisor will determine the liquidity of such investments
pursuant to guidelines established by the Board of Directors. It is possible
that unregistered securities purchased by the Fund in reliance upon Rule 144A
could have the effect of increasing the level of the Fund's illiquidity to the
extent that qualified institutional buyers become, for a period, uninterested in
purchasing these securities.
Investment Company Securities. The Fund may invest in securities issued by
other investment companies. As a shareholder of another investment company, the
Fund would bear its pro rata portion of the other investment company's expenses,
including advisory fees. These expenses would be in addition to the expenses
the Fund bears directly in connection with its own operations. The Fund
currently intends to limit its investments in securities issued by other
investment companies so that, as determined immediately after a purchase of such
securities is made: (i) not more than 5% of the value of the Fund's total assets
will be invested in the securities of any one investment company; (ii) not more
than 10% of the value of its total assets will be invested in the aggregate in
securities of investment companies as a group; and (iii) not more than 3% of the
outstanding voting stock of any one investment company will be owned by the
Fund.
Lending of Portfolio Securities. To enhance the return on its portfolio,
the Fund may lend securities in its portfolio (subject to a limit of 25% of the
Fund's total assets to securities firms and financial institutions, provided
that each loan is secured continuously by collateral in the form of cash, high
quality money market instruments or short-term U.S. Government securities
adjusted daily to have a market value at least equal to the current market value
of the securities loaned. These loans are terminable at any time, and the Fund
will receive any interest or dividends paid on the loaned securities. In
addition, it is anticipated that the Fund may share with the borrower some of
the income received on the collateral for the loan or the Fund will be paid a
premium for the loan. The risk in lending portfolio securities, as with other
extensions of credit, consists of the possibility of loss to the Fund due to (i)
the inability of the borrower to return securities, (ii) a delay in recovery of
the securities, or (iii) loss of rights in the collateral should the borrower
fail financially. In determining whether the Fund will lend securities, the
Advisor will consider all relevant facts and circumstances. The Fund will only
enter into loan arrangements with broker-dealers, banks or other institutions
which the Advisor has determined are creditworthy under guidelines established
by the Board of Directors.
Lower-Rated Debt Securities. It is expected that the Fund will invest not
more than 5% of its total assets in securities that are rated below investment
grade by Standard & Poor's Rating Service, a division of McGraw-Hill Companies,
Inc. ("S&P"), or Moody's Investors Service, Inc. ("Moody's"), or in comparable
unrated securities. Such securities are also known as junk bonds. The yields
on lower-rated debt and comparable unrated securities generally are higher than
the yields available on higher-rated securities. However, investments in lower-
rated debt and comparable unrated securities generally involve greater
volatility of price and risk of loss of income and principal, including the
possibility of default by or bankruptcy of the issuers of such securities.
Lower-rated debt and comparable unrated securities (a) will likely have some
quality and protective characteristics that, in the judgment of the rating
organization, are outweighed by large uncertainties or major risk exposures to
adverse conditions and (b) are predominantly speculative with respect to the
issuer's capacity to pay interest and repay principal in accordance with the
terms of the obligation. Accordingly, it is possible that these types of
factors could, in certain instances, reduce the value of securities held in the
Fund's portfolio, with a commensurate effect on the value of the Fund's shares.
Therefore, an investment in the Fund should not be considered as a complete
investment program and may not be appropriate for all investors.
While the market values of lower-rated debt and comparable unrated
securities tend to react more to fluctuations in interest rate levels than the
market values of higher-rated securities, the market values of certain lower
rated debt and comparable unrated securities also tend to be more sensitive to
individual corporate developments and changes in economic conditions than
higher-rated securities. In addition, lower-rated debt securities and
comparable unrated securities generally present a higher degree of credit risk.
Issuers of lower-rated debt and comparable unrated securities often are highly
leveraged and may not have more traditional methods of financing available to
them so that their ability to service their debt obligations during an economic
downturn or during sustained periods of rising interest rates may be impaired.
The risk of loss due to default by such issuers is significantly greater because
lower-rated debt and comparable unrated securities generally are unsecured and
6
<PAGE>
frequently are subordinated to the prior payment of senior indebtedness. The
Fund may incur additional expenses to the extent that they are required to seek
recovery upon a default in the payment of principal or interest on their
portfolio holdings. The existence of limited markets for lower-rated debt and
comparable unrated securities may diminish the Fund's ability to (a) obtain
accurate market quotations for purposes of valuing such securities and
calculating its net asset value and (b) sell the securities at fair value either
to meet redemption requests or to respond to changes in the economy or in
financial markets.
Lower-rated debt securities and comparable unrated securities may have call
or buy-back features that permit their issuers to call or repurchase the
securities from their holders. If an issuer exercises these rights during
periods of declining interest rates, the Fund may have to replace the security
with a lower yielding security, thus resulting in a decreased return to the
Fund. A description of applicable credit ratings is set forth in Appendix A of
this SAI.
Money Market Instruments. The Fund may invest from time to time in "money
market instruments," a term that includes, among other things, bank obligations,
commercial paper, variable amount master demand notes and corporate bonds with
remaining maturities of 397 days or less.
Bank obligations include bankers' acceptances, negotiable certificates of
deposit and non-negotiable time deposits, including U.S. dollar-denominated
instruments issued or supported by the credit of U.S. or foreign banks or
savings institutions. Although the Fund will invest in obligations of foreign
banks or foreign branches of U.S. banks only where the Advisors deem the
instrument to present minimal credit risks, such investments may nevertheless
entail risks that are different from those of investments in domestic
obligations of U.S. banks due to differences in political, regulatory and
economic systems and conditions. All investments in bank obligations are
limited to the obligations of financial institutions having more than $1 billion
in total assets at the time of purchase.
Investments by the Fund in commercial paper will consist of issues rated at
the time of purchase A-1 and/or P-1 by S&P or Moody's. In addition, the Fund
may acquire unrated commercial paper and corporate bonds that are determined by
the Advisors at the time of purchase to be of comparable quality to rated
instruments that may be acquired by such Fund as previously described.
The Fund may also purchase variable amount master demand notes which are
unsecured instruments that permit the indebtedness thereunder to vary and
provide for periodic adjustments in the interest rate. Although the notes are
not normally traded and there may be no secondary market in the notes, the Fund
may demand payment of the principal of the instrument at any time. The notes
are not typically rated by credit rating agencies, but issuers of variable
amount master demand notes must satisfy the same criteria as set forth above for
issuers of commercial paper. If an issuer of a variable amount master demand
note defaulted on its payment obligation, the Fund might be unable to dispose of
the note because of the absence of a secondary market and might, for this or
other reasons, suffer a loss to the extent of the default. The Fund invests in
variable amount master notes only when the Advisor deems the investment to
involve minimal credit risk.
Mortgage-Related Securities. There are a number of important differences
among the agencies and instrumentalities of the U.S. Government that issue
mortgage-related securities and among the securities that they issue. Mortgage-
related securities guaranteed by the Government National Mortgage Association
("GNMA") include GNMA Mortgage Pass-Through Certificates (also known as "Ginnie
Maes") which are guaranteed as to the timely payment of principal and interest
by GNMA and such guarantee is backed by the full faith and credit of the United
States. GNMA is a wholly-owned U.S. Government corporation within the
Department of Housing and Urban Development. GNMA certificates also are
supported by the authority of GNMA to borrow funds from the U.S. Treasury to
make payments under its guarantee. Mortgage-related securities issued by the
Federal National Mortgage Association ("FNMA") include FNMA Guaranteed Mortgage
Pass-Through Certificates (also known as "Fannie Maes") which are solely the
obligations of the FNMA and are not backed by or entitled to the full faith and
credit of the United States, but are supported by the right of the issuer to
borrow from the U.S. Treasury. FNMA is a government-sponsored organization
owned entirely by private stockholders. Fannie Maes are guaranteed as to timely
payment of the principal and interest by FNMA. Mortgage-related securities
issued by the Federal Home Loan Mortgage Corporation ("FHLMC") include FHLMC
Mortgage Participation Certificates (also known as "Freddie Macs" or "PCs").
FHLMC is a corporate instrumentality of the United States, created pursuant to
an Act of Congress, which is owned entirely by Federal Home Loan Banks. Freddie
Macs are not guaranteed by the United
7
<PAGE>
States or by any Federal Home Loan Banks and do not constitute a debt or
obligation of the United States or of any Federal Home Loan Bank. Freddie Macs
entitle the holder to timely payment of interest, which is guaranteed by the
FHLMC. FHLMC guarantees either ultimate collection or timely payment of all
principal payments on the underlying mortgage loans. When FHLMC does not
guarantee timely payment of principal, FHLMC may remit the amount due on account
of its guarantee of ultimate payment of principal at any time after default on
an underlying mortgage, but in no event later than one year after it becomes
payable.
Non-Domestic Bank Obligations. Non-domestic bank obligations include
Eurodollar Certificates of Deposit ("ECDs"), which are U.S. dollar-denominated
certificates of deposit issued by offices of foreign and domestic banks located
outside the United States; Eurodollar Time Deposits ("ETDs"), which are U.S.
dollar-denominated deposits in a foreign branch of a U.S. bank or a foreign
bank; Canadian Time Deposits ("CTDs"), which are essentially the same as ETDs
except they are issued by Canadian offices of major Canadian banks; Schedule Bs,
which are obligations issued by Canadian branches of foreign or domestic banks;
Yankee Certificates of Deposit ("Yankee CDs"), which are U.S. dollar-denominated
certificates of deposit issued by a U.S. branch of a foreign bank and held in
the United States; and Yankee Bankers' Acceptances ("Yankee BAs"), which are
U.S. dollar denominated bankers' acceptances issued by a U.S. branch of a
foreign bank and held in the United States.
Options. The Fund may write covered call options, buy put options, buy
call options and write secured put options. For a detailed description on
options, see Appendix B to this SAI.
Repurchase Agreements. The Fund may agree to purchase securities from
financial institutions such as member banks of the Federal Reserve System, any
foreign bank or any domestic or foreign broker/dealer that is recognized as a
reporting government securities dealer, subject to the seller's agreement to
repurchase the securities at an agreed-upon time and price ("repurchase
agreements"). The Advisor will review and continuously monitor the
creditworthiness of the seller under a repurchase agreement, and will require
the seller to maintain collateral in an amount that is greater than the
repurchase price. Default by, or bankruptcy of, the seller would, however,
expose the Fund to possible loss because of adverse market action or delays in
connection with the disposition of underlying obligations except with respect to
repurchase agreements secured by U.S. Government securities.
The repurchase price under repurchase agreements generally equals the price
paid by the Fund plus interest negotiated on the basis of current short-term
rates (which may be more or less than the rate on the securities underlying the
repurchase agreement).
Securities subject to repurchase agreements will be held, as applicable, by
the Company's custodian in the Federal Reserve/Treasury book-entry system or by
another authorized securities depositary. Repurchase agreements are considered
to be loans by the Fund under the 1940 Act.
Reverse Repurchase Agreements. The Fund may borrow funds for temporary or
emergency purposes by selling portfolio securities to financial institutions
such as banks and broker/dealers and agreeing to repurchase them at a mutually
specified date and price ("reverse repurchase agreements"). Reverse repurchase
agreements involve the risk that the market value of the securities sold by the
Fund may decline below the repurchase price. The Fund will pay interest on
amounts obtained pursuant to a reverse repurchase agreement. While reverse
repurchase agreements are outstanding, the Fund will maintain cash, U.S.
Government securities or other liquid securities designated on the books of the
Fund's custodian in an amount at least equal to the market value of the
securities, plus accrued interest, subject to the agreement.
Rights and Warrants. The Fund may purchase warrants, which are privileges
issued by corporations enabling the owners to subscribe to and purchase a
specified number of shares of the corporation at a specified price during a
specified period of time. Subscription rights normally have a short life span
to expiration. The purchase of warrants involves the risk that the Fund could
lose the purchase value of a warrant if the right to subscribe to additional
shares is not exercised prior to the warrant's expiration. Also, the purchase
of warrants involves the risk that the effective price paid for the warrant
added to the subscription price of the related security may exceed the value of
the subscribed security's market price such as when there is no movement in the
level of the underlying security.
8
<PAGE>
Stock Index Futures, Options on Stock and Bond Indices and Options on Stock
and Bond Index Futures Contracts. The Fund may purchase and sell stock index
futures, options on stock and bond indices and options on stock and bond index
futures contracts as a hedge against movements in the equity and bond markets.
A stock index futures contract is an agreement in which one party agrees to
deliver to the other an amount of cash equal to a specific dollar amount times
the difference between the value of a specific stock index at the close of the
last trading day of the contract and the price at which the agreement is made.
No physical delivery of securities is made.
Options on stock and bond indices are similar to options on specific
securities, described above, except that, rather than the right to take or make
delivery of the specific security at a specific price, an option on a stock or
bond index gives the holder the right to receive, upon exercise of the option,
an amount of cash if the closing level of that stock or bond index is greater
than, in the case of a call option, or less than, in the case of a put option,
the exercise price of the option. This amount of cash is equal to such
difference between the closing price of the index and the exercise price of the
option expressed in dollars times a specified multiple. The writer of the
option is obligated, in return for the premium received, to make delivery of
this amount. Unlike options on specific securities, all settlements of options
on stock or bond indices are in cash, and gain or loss depends on general
movements in the stocks included in the index rather than price movements in
particular stocks.
If the Advisor expects general stock or bond market prices to rise, it
might purchase a stock index futures contract, or a call option on that index,
as a hedge against an increase in prices of particular securities it ultimately
wants to buy. If in fact the index does rise, the price of the particular
securities intended to be purchased may also increase, but that increase would
be offset in part by the increase in the value of the futures contract or index
option resulting from the increase in the index. If, on the other hand, the
Advisor expects general stock or bond market prices to decline, it might sell a
futures contract, or purchase a put option, on the index. If that index does in
fact decline, the value of some or all of the securities in the Fund's portfolio
may also be expected to decline, but that decrease would be offset in part by
the increase in the value of the Fund's position in such futures contract or put
option.
The Fund may purchase and write call and put options on stock index futures
contracts and may purchase and write call and put options on bond index futures
contracts. The Fund may use such options on futures contracts in connection
with its hedging strategies in lieu of purchasing and selling the underlying
futures or purchasing and writing options directly on the underlying securities
or indices. For example, the Fund may purchase put options or write call
options on stock and bond index futures, rather than selling futures contracts,
in anticipation of a decline in general stock or bond market prices or purchase
call options or write put options on stock or bond index futures, rather than
purchasing such futures, to hedge against possible increases in the price of
securities which the Fund intends to purchase.
In connection with transactions in stock or bond index futures, stock or
bond index options and options on stock or bond index futures, the Fund will be
required to deposit as "initial margin" an amount of cash or short-term U.S.
Government securities equal to between 5% to 8% of the contract amount.
Thereafter, subsequent payments (referred to as "variation margin") are made to
and from the broker to reflect changes in the value of the option or futures
contract. The Fund may not at any time commit more than 5% of its total assets
to initial margin deposits on futures contracts, index options and options on
futures contracts.
Supranational Bank Obligations. Supranational banks are international
banking institutions designed or supported by national governments to promote
economic reconstruction, development or trade between nations (e.g., The World
Bank). Obligations of supranational banks may be supported by appropriated but
unpaid commitments of their member countries and there is no assurance these
commitments will be undertaken or met in the future.
U.S. Government Obligations. The Fund may purchase obligations issued or
guaranteed by the U.S. Government and U.S. Government agencies and
instrumentalities. Obligations of certain agencies and instrumentalities of the
U.S. Government, such as those of GNMA, are supported by the full faith and
credit of the U.S. Treasury. Others, such as those of the Export-Import Bank of
the United States, are supported by the right of the issuer to borrow from the
U.S. Treasury; and still others, such as those of the Student Loan Marketing
9
<PAGE>
Association, are supported only by the credit of the agency or instrumentality
issuing the obligation. No assurance can be given that the U.S. Government would
provide financial support to U.S. Government-sponsored instrumentalities if it
is not obligated to do so by law. Examples of the types of U.S. Government
obligations that may be acquired by the Funds include U.S. Treasury Bills, U.S.
Treasury Notes and U.S. Treasury Bonds and the obligations of Federal Home Loan
Banks, Federal Farm Credit Banks, Federal Land Banks, the Federal Housing
Administration, Farmers Home Administration, Export-Import Bank of the United
States, Small Business Administration, FNMA, GNMA, General Services
Administration, Student Loan Marketing Association, Central Bank for
Cooperatives, FHLMC, Federal Intermediate Credit Banks and Maritime
Administration.
Variable and Floating Rate Instruments. Debt instruments may be structured
to have variable or floating interest rates. Variable and floating rate
obligations purchased by the Fund may have stated maturities in excess of the
Fund's maturity limitation if the Fund can demand payment of the principal of
the instrument at least once during such period on not more than thirty days'
notice (this demand feature is not required if the instrument is guaranteed by
the U.S. Government or an agency thereof). These instruments may include
variable amount master demand notes that permit the indebtedness to vary in
addition to providing for periodic adjustments in the interest rates. The
Advisor will consider the earning power, cash flows and other liquidity ratios
of the issuers and guarantors of such instruments and, if the instrument is
subject to a demand feature, will continuously monitor their financial ability
to meet payment on demand. Where necessary to ensure that a variable or
floating rate instrument is equivalent to the quality standards applicable to
the Fund, the issuer's obligation to pay the principal of the instrument will be
backed by an unconditional bank letter or line of credit, guarantee or
commitment to lend.
In determining average weighted portfolio maturity of the Fund, an
instrument will usually be deemed to have a maturity equal to the longer of the
period remaining until the next interest rate adjustment or the time the Fund
involved can recover payment of principal as specified in the instrument.
Variable rate U.S. Government obligations held by the Fund, however, will be
deemed to have maturities equal to the period remaining until the next interest
rate adjustment.
The absence of an active secondary market for certain variable and floating
rate notes could make it difficult to dispose of the instruments, and the Fund
could suffer a loss if the issuer defaulted or during periods that a Fund is not
entitled to exercise its demand rights.
Variable and floating rate instruments held by the Fund will be subject to
the Fund's limitation on illiquid investments when the Fund may not demand
payment of the principal amount within seven days absent a reliable trading
market.
When-Issued Purchases and Forward Commitments (Delayed-Delivery
Transactions). When-issued purchases and forward commitments (known as delayed-
delivery transactions) are commitments by the Fund to purchase or sell
particular securities with payment and delivery to occur at a future date
(perhaps one or two months later). These transactions permit the Fund to lock-
in a price or yield on a security, regardless of future changes in interest
rates.
When the Fund agrees to purchase securities on a when-issued or forward
commitment basis, the Fund will designate cash or liquid portfolio securities
equal to the amount of the commitment. Normally, the Fund will designate
portfolio securities to satisfy a purchase commitment, and in such a case the
Fund may be required subsequently to designate additional assets in order to
ensure that the value of the account remains equal to the amount of the Fund's
commitments. It may be expected that the market value of the Fund's net assets
will fluctuate to a greater degree when it designates portfolio securities to
cover such purchase commitments than when it designates cash. Because the
Fund's liquidity and ability to manage its portfolio might be affected when it
designates cash or portfolio securities to cover such purchase commitments, the
Advisor expects that its commitments to purchase when-issued securities and
forward commitments will not exceed 25% of the value of the Fund's total assets
absent unusual market conditions.
The Fund will purchase securities on a when-issued or forward commitment
basis only with the intention of completing the transaction and actually
purchasing the securities. If deemed advisable as a matter of investment
strategy, however, the Fund may dispose of or renegotiate a commitment after it
is entered into, and may sell
10
<PAGE>
securities it has committed to purchase before those securities are delivered to
the Fund on the settlement date. In these cases the Fund may realize a taxable
capital gain or loss.
When the Fund engages in when-issued and forward commitment transactions,
it relies on the other party to consummate the trade. Failure of such party to
do so may result in the Fund's incurring a loss or missing an opportunity to
obtain a price considered to be advantageous.
The market value of the securities underlying a when-issued purchase or a
forward commitment to purchase securities, and any subsequent fluctuations in
their market value, are taken into account when determining the market value of
the Fund starting on the day the Fund agrees to purchase the securities. The
Fund does not earn interest on the securities it has committed to purchase until
they are paid for and delivered on the settlement date.
Yields and Ratings. The yields on certain obligations, including the money
market instruments in which the Fund may invest (such as commercial paper and
bank obligations), are dependent on a variety of factors, including general
money market conditions, conditions in the particular market for the obligation,
the financial condition of the issuer, the size of the offering, the maturity of
the obligation and the ratings of the issue. The ratings of S&P, Moody's, Duff
& Phelps Credit Rating Co., Thomson Bank Watch, Inc., Fitch IBCA, Inc. and other
NRSROs represent their respective opinions as to the quality of the obligations
they undertake to rate. Ratings, however, are general and are not absolute
standards of quality. Consequently, obligations with the same rating, maturity
and interest rate may have different market prices.
Other. Subsequent to its purchase by the Fund, a rated security may cease
to be rated or its rating may be reduced below the minimum rating required for
purchase by the Fund. The Board of Directors or the Advisor, pursuant to
guidelines established by the Board, will consider such an event in determining
whether the Fund involved should continue to hold the security in accordance
with the interests of the Fund and applicable regulations of the SEC.
11
<PAGE>
INVESTMENT LIMITATIONS
The Fund is subject to the investment limitations enumerated in this
section which may be changed with respect to the Fund only by a vote of the
holders of a majority of the Fund's outstanding shares (as defined under
"Miscellaneous-Shareholder Approvals").
The Fund may not:
1. Invest more than 25% of its total assets in any one industry (i)
provided that securities issued or guaranteed by the U.S. Government,
its agencies or instrumentalities are not considered to represent
industries;
2. With respect to 75% of the Fund's assets, invest more than 5% of the
Fund's assets (taken at a market value at the time of purchase) in the
outstanding securities of any single issuer or own more than 10% of
the outstanding voting securities of any one issuer, in each case
other than securities issued or guaranteed by the U.S. Government, its
agencies or instrumentalities;
3. Borrow money or issue senior securities (as defined in the 1940 Act)
except that the Fund may borrow (i) for temporary purposes in amounts
not exceeding 5% of its total assets and (ii) to meet redemption
requests, in amounts (when aggregated with amounts borrowed under
clause (i)) not exceeding 33 1/3% of its total assets;
4. Pledge, mortgage or hypothecate its assets other than to secure
borrowings permitted by investment limitation 3 above (collateral
arrangements with respect to margin requirements for options and
futures transactions are not deemed to be pledges or hypothecations
for this purpose);
5. Make loans of securities to other persons in excess of 25% of the
Fund's total assets; provided the Fund may invest without limitation
in short-term debt obligations (including repurchase agreements) and
publicly distributed debt obligations;
6. Underwrite securities of other issuers, except insofar as the Fund may
be deemed an underwriter under the Securities Act of 1933, as amended,
in selling portfolio securities;
7. Purchase or sell real estate or any interest therein, including
interests in real estate limited partnerships, except securities
issued by companies (including real estate investment trusts) that
invest in real estate or interests therein;
8. Purchase securities on margin, or make short sales of securities,
except for the use of short-term credit necessary for the clearance of
purchases and sales of portfolio securities, but the Fund may make
margin deposits in connection with transactions in options, futures
and options on futures;
9. Make investments for the purpose of exercising control or management;
or
10. Invest in commodities or commodity futures contracts, provided that
this limitation shall not prohibit the purchase or sale by the Fund of
forward currency contracts, financial futures contracts and options on
financial futures contracts, and options on securities and on
securities, foreign currencies and on securities indices, as permitted
by the Fund's prospectus.
Additional investment restrictions adopted by the Fund of the Company,
which may be changed by the Board of Directors, provide that the Fund may not:
1. Invest more than 15% of its net assets (taken at market value at the
time of purchase) in securities which cannot be readily resold because
of legal or contractual restrictions;
12
<PAGE>
2. Own more than 10% (taken at market value at the time of purchase) of
the outstanding voting securities of any single issuer;
3. Purchase or sell interests in oil, gas or other mineral exploration or
development plans or leases); or
4. Invest in other investment companies except as permitted under the
1940 Act.
If a percentage limitation is satisfied at the time of investment, a later
increase or decrease in such percentage resulting from a change in the value of
the Fund's investments will not constitute a violation of such limitation,
except that any borrowing by the Fund that exceeds the fundamental investment
limitations stated above must be reduced to meet such limitations within the
period required by the 1940 Act (currently three days). Otherwise, the Fund may
continue to hold a security even though it causes the Fund to exceed a
percentage limitation because of fluctuation in the value of the Fund's assets.
TEMPORARY DEFENSIVE POSITION
During periods of unusual economic or market conditions or for temporary
defensive purposes or liquidity, the Fund may invest without limit in cash and
in U.S. dollar-denominated high quality money market and other short-term
instruments. These investments may result in a lower yield than would be
available from investments with a lower quality or longer term.
MANAGEMENT OF THE FUND
DIRECTORS AND OFFICERS
The directors and executive officers of the Company, and their business
addresses, ages, and principal occupations during the past five years, are as
set forth below. An asterik (*) indicates a director who may be deemed to be an
interested person (as defined in section 2(a)(19) of the 1940 Act) of the
Company.
<TABLE>
<CAPTION>
Principal Occupation
Name, Address and Age Positions with Company+ During Past Five Years
---------------------- ----------------------- ----------------------
<S> <C> <C>
Charles W. Elliott Director and Chairman of the Board Senior Advisor to the President,
1024 Essex Circle of Directors Western Michigan University (July 1995
Kalamazoo, MI 49008 through December 1998); Executive Vice
DOB: 1/7/32 President, Administration & Chief
Financial Officer, Kellogg Company
(January 1987 through June 1995).
Trustee and Chairman of Board of Trustees,
Munder @Vantage Fund and
Board of Directors, Steelcase
Financial Corporation.
John Rakolta, Jr. Director and Vice Chairman of the Chairman and Chief Executive Officer,
1876 Rathmor Board of Directors Walbridge Aldinger Company
Bloomfield Hills, MI 48304 (construction company) (1991 to present).
DOB: 5/26/47 Trustee and Vice Chairman of Board of Trustees,
Munder @Vantage Fund.
Thomas B. Bender Director Director, Disciplined Growth Investors
5033 Wood Ridge Road (investment management firm) since
Glen Arbor, MI 49636 (December 1999 to present); Partner, Financial &
DOB: 7/14/33 Investment Management Group (April
1991 to December 1999). Trustee,
Munder @Vantage Fund.
</TABLE>
13
<PAGE>
<TABLE>
<S> <C> <C>
David J. Brophy Director Professor, University of Michigan.
1025 Martin Place Director, River Place Financial
Ann Arbor, MI 48104 Corporation. Trustee, Munder@Vantage Fund.
DOB: 8/7/36
Dr. Joseph E. Champagne Director Dean, University Center, Macomb
319 East Snell Road College (since September 1997);
Rochester, MI 48306 Corporate and Executive Consultant
DOB: 5/19/38 (since September 1993); Chancellor,
Lamar University (September 1994 to
September 1995); Chairman of Board of
Directors, Ross Controls of Troy,
Michigan (manufacturing and engineering
corporation). Trustee, Munder@Vantage Fund.
Thomas D. Eckert Director President and Chief Executive Officer,
10726 Falls Pointe Drive Capital Automotive REIT (real estate
Great Falls, VA 22066 investment trust specializing in
DOB: 9/22/47 retail automotive properties) (since
November 1997); President,
Mid-Atlantic Region of Pulte Home
Corporation (developer of residential
land and construction of housing
units) (1983 to 1997). Director,
Celotex Corporation (building products
manufacturer), Director, BBCN.com
(online purchasing system for autodealers
and their suppliers) and Trustee,
Munder@Vantage Fund.
Michael T. Monahan* Director Chairman of the Advisor (January 2000
480 Pierce Street to present); Chief Executive Officer
Suite 300 of the Advisor (October 1999 to
Birmingham, MI 48009 December 1999); President of Monahan
DOB: 1/26/39 Enterprises, LLC (consulting company)
(June 1999 to present); President of
Comerica Incorporated (1994 to June
1999); President of Comerica Bank
(1994 to June 1999). Director, Hertz
Corporation, Director, Jacobson
Stores, Inc. and Trustee, Munder@Vantage Fund.
Stephen J. Shenkenberg Vice President and General Counsel to the Advisor (July 2000 to present);
480 Pierce Street Secretary Deputy General Counsel of Strong Capital Management, Inc.
Suite 300 (November 1996 to July 2000); Associate Counsel of Strong
Birmingham, MI 48009 Capital Management, Inc. (December 1992 to November
DOB: 6/14/58 1996).
James C. Robinson President Chief Executive Officer of the Advisor
480 Pierce Street (January 2000 to present) Executive
Suite 300 Vice President of the Advisor
Birmingham, MI 48009 (February 1998 to December 1999); and
DOB: 4/24/61 Chief Investment Officer/Fixed Income
of the Advisor (January 1995 to
December 1999).
</TABLE>
14
<PAGE>
<TABLE>
<S> <C> <C>
Elyse G. Essick Vice President Vice President and Director of
480 Pierce Street Communications and Client Services of
Suite 300 the Advisor (since January 1995).
Birmingham, MI 48009
DOB: 4/6/58
Leonard J. Barr Vice President Vice President and Director of Core
480 Pierce Street Equity Research of the Advisor (since
Suite 300 January 1995 ); Director and Senior
Birmingham, MI 48009 Vice President, Old MCM (since 1988);
DOB: 6/16/44 Director of LPM (since June 1993).
Libby Wilson Assistant Secretary and Treasurer Director of Mutual Fund Operations of
480 Pierce Street the Advisor (since July 1999); Global
Suite 300 Portfolio Client Associate of Invesco
Birmingham, MI 48009 Global Asset Management (investment
DOB: 2/24/69 advisor) (March 1999 to July 1999);
Manager of Mutual Funds Operations of
the Advisor (May 1996 to March 1999);
Administrator of Mutual Funds
Operations of the Advisor (March 1993
to May 1996).
Bradford E. Smith Assistant Treasurer Manager of Mutual Fund Operations of
480 Pierce Street the Advisor (March 2000 to present;
Suite 300 Administrator of Mutual Fund
Birmingham, MI 48009 Operations of the Advisor (August 1999
DOB: 4/19/72 to February 2000); Assistant Vice
President, Madison Mosaic, LLC
(advisor to the Mosaic Funds)
(September 1998 to July 1999);
Assistant Director of Shareholder
Service, Madison Mosaic, LLC (April
1997 to August 1998); Cash Manager,
GIT Funds (n.k.a. Mosaic Funds); (June
1996 to March 1997); and Registered
Representative, GIT Investment
Services, Inc. (January 1995 to May
1996).
Mary Ann Shumaker Assistant Secretary Associate General Counsel of the
480 Pierce Street Advisor (since July 1997); and
Suite 300 Associate, Miro Weiner & Kramer (law
Birmingham, MI 48009 firm) (1991 to 1997).
DOB: 7/31/54
Therese Hogan Assistant Secretary Director, State Regulation Department,
101 Federal Street PFPC Inc.(formerly First Data Investor
Boston, MA 02110 Services Group) (since June 1994).
DOB: 2/27/62
</TABLE>
_________________
+ Individual holds same position with The Munder Funds Trust (the "Trust"),
the Munder Framlington Funds Trust ("Framlington"), St. Clair Funds, Inc.,
("St. Clair"), each a registered investment company.
Trustees who are not interested persons of the Trust and Framlington and
Directors who are not interested persons of the Company and St. Clair receive an
aggregate fee from the Trust, Framlington the Company and St. Clair for service
on those organizations' respective Board, comprised of an annual retainer fee of
$35,000 and a fee of $3,500 for each Board meeting attended; and are reimbursed
for all out-of-pocket expenses relating to attendance at such meetings.
15
<PAGE>
The following table summarizes the compensation paid by the Trust,
Framlington, the Company and St. Clair to their respective Trustees/Directors
for the year ended June 30, 2000.
<TABLE>
<CAPTION>
----------------------------------------------------------------------------------------------------------------------------------
Charles W. Elliot John Rakolta, Jr. Thomas B. David J. Dr. Joseph E. Thomas D.
Chairman Vice Chairman Bender Brophy Champagne Eckert
----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Aggregate Compensation
from the Company $ 25,473 $ 23,513 $ 23,513 $ 23,513 $ 23,513 $ 23,513
(comprised of 15 funds)
---------------------------------------------------------------------------------------------------------------------------------
Aggregate Compensation
from the Trust $ 28,733 $ 26,523 $ 26,523 $ 26,523 $ 26,523 $ 26,523
(comprised of 14 funds)
---------------------------------------------------------------------------------------------------------------------------------
Aggregate Compensation
from Framlington $ 768 $ 709 $ 709 $ 709 $ 709 $ 709
(comprised of 4 funds)
---------------------------------------------------------------------------------------------------------------------------------
Aggregate Compensation
from St. Clair $ 1,901 $ 1,755 $ 1,755 $ 1,755 $ 1,755 $ 1,755
(comprised of 11 funds)
---------------------------------------------------------------------------------------------------------------------------------
Pension Retirement
Benefits Accrued as
Part of Fund Expenses None None None None None None
---------------------------------------------------------------------------------------------------------------------------------
Estimated Annual
Benefits upon Retirement None None None None None None
---------------------------------------------------------------------------------------------------------------------------------
Total from the Fund
Complex $ 56,875 $ 52,500 $ 52,500 $ 52,500 $ 52,500 $ 52,500
---------------------------------------------------------------------------------------------------------------------------------
</TABLE>
No officer, director or employee of the Advisor, the Custodian, the
Distributor, the Administrator or the Transfer Agent currently receives any
compensation from the Company. As of September 15, 2000, Directors and officers
of the Company, as a group, owned less than 1% of all classes of outstanding
shares of the Fund.
The initial sales charge on Class A shares of the Fund will be waived for
full-time employees and retired employees of the Advisor and individuals with an
investment account or relationship with the Advisor.
INVESTMENT ADVISORY AND OTHER SERVICE ARRANGEMENTS
Investment Advisor. Munder Capital Management, a Delaware general
partnership is an advisor of the Fund. The general partners of MCM are WAM, WAM
II, Old MCM and Munder Group LLC. WAM and WAM II are wholly-owned subsidiaries
of Comerica Bank - Detroit, which in turn, is a wholly-owned subsidiary of
Comerica Incorporated, a publicly-held bank holding company.
The Fund has entered into an Investment Advisory Agreement (the "Advisory
Agreement") with the Advisor which has been approved by the Board of Directors
and the sole shareholder of the Fund.
Under the terms of the Advisory Agreement, the Advisor furnishes continuing
investment supervision to the Fund and is responsible for the management of the
Fund. The responsibility for making decisions to buy, sell or hold a particular
security rests with the Advisor, subject to review by the Company's Board of
Directors.
The Advisory Agreement will continue in effect for a period of two years
from its effective date. If not sooner terminated, the Advisory Agreement will
continue in effect for successive one year periods thereafter, provided that
each continuance is specifically approved annually by (a) the vote of a majority
of the Board of Directors who are not parties to the Advisory Agreement or
interested persons (as defined in the 1940 Act), cast in person at a meeting
called for the purpose of voting on such approval, and (b) either (i) the vote
of a majority of the outstanding voting securities of the affected Fund, or (ii)
the vote of a majority of the Board of Directors. The Advisory Agreement is
terminable with respect to the Fund by vote of the Board of Directors, or by the
holders of a majority of the outstanding voting securities of the Fund, at any
time without penalty, on 60 days' written notice to the Advisor. The Advisor
may also terminate its advisory relationship with respect to the Fund without
penalty on
16
<PAGE>
90 days' written notice to the Company, as applicable. The Advisory Agreement
terminates automatically in the event of its assignment (as defined in the 1940
Act).
For the advisory services provided and expenses assumed by it, the Advisor
has agreed to a fee from the Fund computed daily and payable monthly at the rate
of 0.75% of average daily net assets of the Fund.
Distribution Agreement. The Company has entered into a distribution
agreement, under which the Distributor, as agent, sells shares of the Fund on a
continuous basis. The Distributor has agreed to use appropriate efforts to
solicit orders for the purchase of shares of the Fund, although it is not
obligated to sell any particular amount of shares. The Distributor pays the
cost of printing and distributing prospectuses to persons who are not holders of
shares of the Fund (excluding preparation and printing expenses necessary for
the continued registration of the shares) and of printing and distributing all
sales literature. The Distributor's principal offices are located at 60 State
Street, Boston, Massachusetts 02109.
Distribution Services Arrangements - Class A, Class B and Class II Shares.
The Fund has adopted a Service Plan with respect to its Class A Shares pursuant
to which it uses its assets to finance activities relating to the provision of
certain shareholder services. Under the Service and Distribution Plans for
Class A Shares, the Distributor is paid an annual service fee at the rate of up
to 0.25% of the value of average daily net assets of the Class A Shares of the
Fund. The Fund has also adopted Service and Distribution Plans with respect to
its Class B and Class II Shares, pursuant to which it uses its assets to finance
activities relating to the distribution of its shares to investors and provision
of certain shareholder services. Under the Service and Distribution Plans for
Class B and Class II Shares, the Distributor is paid an annual service fee of up
to 0.25% of the value of average daily net assets of the Class B and Class II
Shares of the Fund and an annual distribution fee at the rate of up to 0.75% of
the value of average daily net assets of the Class B and Class II Shares of the
Fund.
Under the terms of the Service and Distribution Plans (collectively, the
"Plans"), each Plan continues from year to year, provided such continuance is
approved annually by vote of the Board of Directors, including a majority of the
Directors who are not interested persons of the Company, as applicable, and who
have no direct or indirect financial interest in the operation of that Plan (the
"Non-Interested Plan Directors"). The Plans may not be amended to increase the
amount to be spent for the services provided by the Distributor without
shareholder approval, and all amendments of the Plans also must be approved by
the Directors in the manner described above. Each Plan may be terminated at any
time, without penalty, by vote of a majority of the Non-Interested Plan
Directors or by a vote of a majority of the outstanding voting securities (as
defined in the 1940 Act) of the relevant class of the respective Fund on not
more than 30 days' written notice to the Distributor of the Plan. Pursuant to
each Plan, the Distributor will provide the Board of Directors periodic reports
of amounts expended under the Plan and the purpose for which such expenditures
were made.
The Directors have determined that the Plans will benefit the Company and
their respective shareholders by (i) providing an incentive for broker or bank
personnel to provide continuous shareholder servicing after the time of sale;
(ii) retaining existing accounts; (iii) facilitating portfolio management
flexibility through continued cash flow into the Funds; and (iv) maintaining a
competitive sales structure in the mutual fund industry.
With respect to Class B and Class II Shares of the Fund, the Distributor
expects to pay sales commissions to dealers authorized to sell the Fund's Class
B and Class II Shares at the time of sale. The Distributor will use its own
funds (which may be borrowed) to pay such commissions pending reimbursement by
the relevant Plan. In addition, the Advisor may use its own resources to make
payments to the Distributor or dealers authorized to sell the Fund's shares to
support their sales efforts.
Shareholder Servicing Arrangements - Class K Shares. Class K Shares are
sold to investors through institutions which enter into Shareholder Servicing
Agreements with the Company to provide support services to their Customers who
beneficially own Class K Shares in consideration of the Fund's payment of not
more than 0.25% (on an annualized basis) of the average daily net assets of the
Class K Shares beneficially owned by the Customers.
Services provided by institutions under their service agreements may
include: (i) aggregating and processing purchase and redemption requests for
Class K Shares from Customers and placing net purchase and
17
<PAGE>
redemption orders with the Distributor; (ii) providing Customers with a service
that invests the assets of their accounts in Class K Shares pursuant to specific
or pre-authorized instructions; (iii) processing dividend payments on behalf of
Customers; (iv) providing information periodically to Customers showing their
positions in Class K Shares; (v) arranging for bank wires; (vi) responding to
Customer inquiries relating to the services performed by the institutions; (vii)
providing subaccounting with respect to Class K Shares beneficially owned by
Customers or the information necessary for subaccounting; (viii) if required by
law, forwarding shareholder communications from the Company (such as proxies,
shareholder reports, annual and semi-annual financial statements and dividend,
distribution and tax notices) to Customers; (ix) forwarding to Customers proxy
statements and proxies containing any proposals regarding the Company's
arrangements with institutions; and (x) providing such other similar services as
the Company may reasonably request to the extent the institutions are permitted
to do so under applicable statutes, rules and regulations.
As stated in the Fund's Class K Shares Prospectus, Class K Shares of the
Fund are sold to customers of banks and other institutions. Such banks and
institutions may include Comerica Incorporated (a publicly-held bank holding
company), its affiliates and subsidiaries ("Comerica") and other institutions
that have entered into agreements with the Company providing for shareholder
services for their customers.
Pursuant to the Company's agreements with such institutions, the Board of
Directors will review, at least quarterly, a written report of the amounts
expended under the Company's agreements with institutions and the purposes for
which the expenditures were made. In addition, the arrangements with
institutions must be approved annually by a majority of the Board of Directors,
including a majority of the Directors who are not "interested persons" as
defined in the 1940 Act, and have no direct or indirect financial interest in
such arrangements.
The Board of Directors have approved the arrangements with institutions
based on information provided by the service contractors that there is a
reasonable likelihood that the arrangements will benefit the Fund and their
shareholders by affording the Fund greater flexibility in connection with the
servicing of the accounts of the beneficial owners of their shares in an
efficient manner.
Administrator. State Street Bank and Trust Company ("State Street" or the
"Administrator"), whose principal business address is 225 Franklin Street,
Boston, Massachusetts, 02110, serves as administrator for the Company pursuant
to an administration agreement ("Administration Agreement"). State Street has
agreed to maintain office facilities for the Company; oversee the computation of
the Fund's net asset value, net income and realized capital gains, if any;
furnish statistical and research data, clerical services, and stationery and
office supplies; prepare and file various reports with the appropriate
regulatory agencies; and prepare various materials required by the SEC. State
Street may enter into an agreement with one or more third parties pursuant to
which such third parties will provide administrative services on behalf of the
Fund.
The Administration Agreement provides that the Administrator performing
services thereunder shall not be liable under the Agreement except for its bad
faith, negligence or willful misconduct in the performance of its duties and
obligations thereunder.
Custodian. State Street serves as the custodian (the "Custodian") to the
Fund pursuant to a custodian agreement (the "Custodian Contract") between State
Street and the Company. State Street is also the custodian with respect to the
custody of foreign securities held by the Fund. State Street has in turn
entered into additional agreements with financial institutions located in
foreign countries with respect to the custody of such securities. Under the
Custodian Contract, State Street (i) maintains a separate account in the name of
the Fund, (ii) holds and transfers portfolio securities on account of the Fund,
(iii) accepts receipts and makes disbursements of money on behalf of the Fund,
(iv) collects and receives all income and other payments and distributions on
account of the Fund's securities and (v) makes periodic reports to the Board of
Directors concerning the Fund's operations.
Transfer and Dividend Disbursing Agent. PFPC Inc. serves as the transfer
and dividend disbursing agent ("Transfer Agent") for the Fund pursuant to a
transfer agency agreement with the Company, under which the Transfer Agent (i)
issues and redeems shares of the Fund, (ii) addresses and mails all
communications by the Fund to its record owners, including reports to
shareholders, dividend and distribution notices and proxy materials for its
meetings of shareholders, (iii) maintains shareholder accounts, (iv) responds to
correspondence by shareholders of the Fund and (v) makes periodic reports to the
Board of Directors concerning the operations of the Fund.
18
<PAGE>
Other Information Pertaining to Administration, Custodian and Transfer
Agency Agreements. Except as noted in this SAI the Fund's service contractors
bear all expenses in connection with the performance of their services and the
Fund bears the expenses incurred in its operations. These expenses include, but
are not limited to, fees paid to the Advisor, Administrator, Custodian and
Transfer Agent; fees and expenses of officers and Board of Directors; taxes;
interest; legal and auditing fees; brokerage fees and commissions; certain fees
and expenses in registering and qualifying the Fund and its shares for
distribution under Federal and state securities laws; expenses of preparing
prospectuses and statements of additional information and of printing and
distributing prospectuses and statements of additional information to existing
shareholders; the expense of reports to shareholders, shareholders' meetings and
proxy solicitations; fidelity bond and directors' and officers' liability
insurance premiums; and the expense of using independent pricing services. Any
general expenses of the Company that are not readily identifiable as belonging
to a particular investment portfolio of the Company are allocated among all
investment portfolios of the Company by or under the direction of the Board of
Directors in a manner that the Board determines to be fair and equitable. The
Advisors, Administrator, Custodian and Transfer Agent may voluntarily waive all
or a portion of their respective fees from time to time.
CODE OF ETHICS
The Company, the Advisor and the Distributor each have adopted a code of
ethics as required by applicable law, which is designed to prevent affiliated
persons of the Company, the Advisor and the Distributor from engaging in
deceptive, manipulative or fraudulent activities in connection with securities
held or to be acquired by the Fund (which may also be held by persons subject to
a code of ethics). There can be no assurance that the codes of ethics will be
effective in preventing such activities. Each code of ethics may be examined at
the office of the SEC in Washington, D.C. or on the Internet from the SEC's
website at http:/www.sec.gov.
19
<PAGE>
PORTFOLIO TRANSACTIONS
Subject to the general supervision of the Board of Directors, the Advisor
makes decisions with respect to and places orders for all purchases and sales of
portfolio securities for the Fund.
Transactions on U.S. stock exchanges involve the payment of negotiated
brokerage commissions. On exchanges on which commissions are negotiated, the
cost of transactions may vary among different brokers. Transactions on foreign
stock exchanges involve payment for brokerage commissions which are generally
fixed.
Over-the-counter issues, including corporate debt and government
securities, are normally traded through dealers on a "net" basis (i.e., without
commission), or directly with the issuer. With respect to over-the-counter
transactions, the Advisor will normally deal directly with dealers who make a
market in the instruments except in those circumstances where more favorable
prices and execution are available elsewhere. The cost of foreign and domestic
securities purchased from underwriters includes an underwriting commission or
concession, and the prices at which securities are purchased from and sold to
dealers include a dealer's mark-up or mark-down.
The Fund may participate, if and when practicable, in bidding for the
purchase of portfolio securities directly from an issuer in order to take
advantage of the lower purchase price available to members of a bidding group.
The Fund will engage in this practice, however, only when the Advisor believes
such practice to be in the Fund's interests.
The portfolio turnover rate of the Fund is calculated by dividing the
lesser of the Fund'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 for the Fund) by the monthly average value of
the securities held by the Fund during the year. The Fund may engage in short-
term trading to achieve its investment objectives. Portfolio turnover may vary
greatly from year to year as well as within a particular year.
In the Advisory Agreement, the Advisor agrees to select broker-dealers in
accordance with guidelines established by the Board of Directors from time to
time and in accordance with applicable law. In assessing the terms available
for any transaction, the Advisor shall consider all factors it deems relevant,
including the breadth of the market in the security, the price of the security,
the financial condition and execution capability of the broker-dealer, and the
reasonableness of the commission, if any, both for the specific transaction and
on a continuing basis. In addition, the Advisory Agreement authorizes the
Advisor, subject to the prior approval of the Board of Directors, to cause the
Fund to pay a broker-dealer which furnishes brokerage and research services a
higher commission than that which might be charged by another broker-dealer for
effecting the same transaction, provided that the Advisor determines in good
faith that such commission is reasonable in relation to the value of the
brokerage and research services provided by such broker-dealer, viewed in terms
of either the particular transaction or the overall responsibilities of the
Advisor to the Fund. Such brokerage and research services might consist of
reports and statistics on specific companies or industries, general summaries of
groups of bonds and their comparative earnings and yields, or broad overviews of
the securities markets and the economy.
Supplementary research information so received is in addition to, and not
in lieu of, services required to be performed by the Advisor and does not reduce
the advisory fees payable to the Advisor by the Fund. It is possible that
certain of the supplementary research or other services received will primarily
benefit one or more other investment companies or other accounts for which
investment discretion is exercised. Conversely, the Fund may be the primary
beneficiary of the research or services received as a result of portfolio
transactions effected for such other account or investment company.
Portfolio securities will not be purchased from or sold to the Advisor,
Distributor or any affiliated person (as defined in the 1940 Act) of the
foregoing entities except to the extent permitted by SEC exemptive order or by
applicable law.
Investment decisions for the Fund and for other investment accounts managed
by the Advisor are made independently of each other in the light of differing
conditions. However, the same investment decision may be made for two or more
of such accounts. In such cases, simultaneous transactions are inevitable.
Purchases or sales
20
<PAGE>
are then averaged as to price and allocated as to amount in a manner deemed
equitable to each such account. While in some cases this practice could have a
detrimental effect on the price or value of the security as far as a Fund is
concerned, in other cases it is believed to be beneficial to a Fund. To the
extent permitted by law, the Advisor may aggregate the securities to be sold or
purchased for a Fund with those to be sold or purchased for other investment
companies or accounts in executing transactions.
The Fund will not purchase securities while the Advisor or any affiliated
person (as defined in the 1940 Act) is a member of any underwriting or selling
group for such securities except pursuant to procedures adopted by the Company's
Board of Directors in accordance with Rule 10f-3 under the 1940 Act.
ADDITIONAL PURCHASE AND REDEMPTION INFORMATION
Purchases. As described in the Prospectus, shares of the Fund may be
purchased in a number of different ways. Such alternative sales arrangements
permit an investor to choose the method of purchasing shares that is most
beneficial depending on the amount of the purchase, the length of time the
investor expects to hold shares and other relevant circumstances. An investor
may place orders directly through the Transfer Agent or the Distributor or
through arrangements with his/her authorized broker.
Retirement Plans. Shares of the Fund may be purchased in connection with
various types of tax deferred retirement plans, including individual retirement
accounts ("IRAs"), qualified plans, deferred compensation for public schools and
charitable organizations (403(b) plans) and simplified employee pension IRAs.
An individual or organization considering the establishment of a retirement plan
should consult with an attorney and/or an accountant with respect to the terms
and tax aspects of the plan. A $10.00 annual custodial fee is also charged on
IRAs. This custodial fee is due by December 15 of each year and may be paid by
check or shares liquidated from a shareholder's account.
Redemptions. The redemption price for Fund shares is the net asset value
next determined after receipt of the redemption request in proper order. The
redemption proceeds will be reduced by the amount of any applicable contingent
deferred sales charge ("CDSC").
Contingent Deferred Sales Charge - Class B Shares. Class B Shares redeemed
within six years of purchase are subject to a CDSC. The CDSC is based on the
original net asset value at the time of investment or the net asset value at the
time of redemption, whichever is lower.
The CDSC Schedule for Class B Shares of the Trust Funds purchased before
June 27, 1995 is set forth below. The Prospectus describes the CDSC Schedule
for Class B Shares of Funds of the Trust, the Company and Framlington purchased
after June 27, 1995.
Class B Shares of the Trust Funds
Purchased on or before June 27, 1995
<TABLE>
<CAPTION>
Redemption During CDSC
---------------------------------------------------------------------------
<S> <C>
1/st/ Year Since Purchase..................................... 4.00%
2/nd/ Year Since Purchase..................................... 4.00%
3/rd/ Year Since Purchase..................................... 3.00%
4/th/ Year Since Purchase..................................... 3.00%
5/th/ Year Since Purchase..................................... 2.00%
6/th/ Year Since Purchase..................................... 1.00%
</TABLE>
CDSC Waivers - Class B Shares of the Trust Funds Purchased on or before
June 27, 1995. The CDSC will be waived with respect to Class B Shares of the
Trust Funds purchased on or before June 27, 1995 in the following circumstances:
(1) total or partial redemptions made within one year following the
death or disability of a shareholder or registered joint owner;
(2) minimum required distributions made in connection with an IRA or
other retirement plan following attainment of age 59 1/2; and
21
<PAGE>
(3) redemptions pursuant to a Fund's right to liquidate a shareholder's
account involuntarily.
CDSC Waivers - Class B Shares of the Company Funds Purchased on or before
June 27, 1995. The CDSC will be waived on the following types of redemptions
with respect to Class B Shares of the Company Funds purchased on or before June
27, 1995:
(1) redemptions by investors who have invested a lump sum amount of $1
million or more in the Fund;
(2) redemptions by the officers, directors, and employees of the Advisor
or the Distributor and such persons' immediate families;
(3) dealers or brokers who have a sales agreement with the Distributor,
for their own accounts, or for retirement plans for their employees
or sold to registered representatives or full time employees (and
their families) that certify to the Distributor at the time of
purchase that such purchase is for their own account (or for the
benefit of their families);
(4) involuntary redemptions effected pursuant to the Fund's right to
liquidate shareholder accounts having an aggregate net asset value
of less than $250; and
(5) redemptions the proceeds of which are reinvested in the Fund within
90 days of the redemption.
Contingent Deferred Sales Charge - Class A or Class C Shares. The
Prospectus describes the CDSC for Class A or Class C Shares of the Funds of the
Trust, the Company and Framlington purchased after June 27, 1995.
Class A Shares of the Trust Funds purchased on or before June 27, 1995
without a sales charge by reason of a purchase of $500,000 or more are subject
to a CDSC of 1.00% of the lower of the original purchase price or the net asset
value at the time of redemption if such shares are redeemed within two years of
the date of purchase. Class A Shares of the Trust Funds purchased on or before
June 27, 1995 that are redeemed will not be subject to the CDSC to the extent
that the value of such shares represents: (1) reinvestment of dividends or other
distributions; (2) Class A Shares redeemed more than two years after their
purchase; (3) a minimum required distribution made in connection with IRA or
other retirement plans following attainment of age 59 1/2; or (4) total or
partial redemptions made within one year following the death or disability of a
shareholder or registered joint owner.
No CDSC is imposed to the extent that the current net asset value of the
shares redeemed does not exceed (a) the current net asset value of shares
purchased through reinvestment of dividends or capital gain distributions plus
(b) the current net asset value of shares purchased more than one year prior to
the redemption, plus (c) increases in the net asset value of the shareholder's
shares above the purchase payments made during the preceding one year.
The holding period of Class A or Class C Shares of a Fund acquired through
an exchange of the corresponding class of shares of the Munder Money Market Fund
(which are available only by exchange of Class A or Class C Shares of a Fund, as
the case may be) and the Company Funds, the Framlington Funds and the non-money
market funds of the Trust will be calculated from the date that the Class A or
Class C Shares of a Fund were initially purchased.
In determining whether a CDSC is applicable to a redemption, the
calculation will be made in a manner that results in the lowest possible rate.
It will be assumed that the redemption is made first of amounts representing all
Class A Shares on which a front-end sales charge has been assessed; then of
shares acquired pursuant to the reinvestment of dividends and distributions; and
then of amounts representing the cost of shares purchased one year or more prior
to the redemption.
Other Redemption Information. Redemption proceeds are normally paid in
cash; however, the Fund may pay the redemption price in whole or part by a
distribution in kind of securities from the portfolio of the particular Fund, in
lieu of cash, in conformity with applicable rules of the SEC. If shares are
redeemed in kind, the redeeming shareholder might incur transaction costs in
converting the assets into cash. The Fund is obligated to redeem shares solely
in cash up to the lesser of $250,000 or 1% of its net assets during any 90-day
period for any one shareholder.
22
<PAGE>
The Fund reserves the right to suspend or postpone redemptions during any
period when: (i) trading on the New York Stock Exchange (the "NYSE") is
restricted by applicable rules and regulations of the SEC; (ii) the NYSE is
closed other than for customary weekend and holiday closings; (iii) the SEC has
by order permitted such suspension or postponement for the protection of the
shareholders; or (iv) an emergency, as determined by the SEC, exists, making
disposal of portfolio securities or valuation of net assets of a Fund not
reasonably practicable.
The Fund may involuntarily redeem an investor's shares if the net asset
value of such shares is less than $250; provided that involuntary redemptions
will not result from fluctuations in the value of an investor's shares. A
notice of redemption, sent by first-class mail to the investor's address of
record, will fix a date not less than 30 days after the mailing date, and shares
will be redeemed at the net asset value at the close of business on that date
unless sufficient additional shares are purchased to bring the aggregate account
value up to $250 or more. A check for the redemption proceeds payable to the
investor will be mailed to the investor at the address of record.
Exchanges. In addition to the method of exchanging shares described in the
Fund's Prospectus, a shareholder exchanging at least $1,000 of shares (for which
certificates have not been issued) and who has authorized expedited exchanges on
the application form filed with the Transfer Agent may exchange shares by
telephoning the Funds at (800) 438-5789. Telephone exchange instructions must
be received by the Transfer Agent by 4:00 p.m., Eastern time. The Fund,
Distributor and Transfer Agent reserve the right at any time to suspend or
terminate the expedited exchange procedure or to impose a fee for this service.
During periods of unusual economic or market changes, shareholders may
experience difficulties or delays in effecting telephone exchanges. Neither the
Fund nor the Transfer Agent will be responsible for any loss, damages, expense
or cost arising out of any telephone exchanges effected upon instructions
believed by them to be genuine. The Transfer Agent has instituted procedures
that it believes are reasonably designed to insure that exchange instructions
communicated by telephone are genuine, and could be liable for losses caused by
unauthorized or fraudulent instructions in the absence of such procedures. The
procedures currently include a recorded verification of the shareholder's name,
social security number and account number, followed by the mailing of a
statement confirming the transaction, which is sent to the address of record.
NET ASSET VALUE
Securities traded on a national securities exchange or on NASDAQ for which
there were no sales on the date of valuation and securities traded on other
over-the-counter markets, including listed securities for which the primary
market is believed to be over-the-counter, are valued at the mean between the
most recently quoted bid and asked prices. Options will be valued at market
value or fair value if no market exists. Futures contracts will be valued in
like manner, except that open futures contract sales will be valued using the
closing settlement price or, in the absence of such a price, the most recently
quoted asked price. Restricted securities and securities and assets for which
market quotations are not readily available are valued at fair value by the
Advisor under the supervision of the Board of Directors. Debt securities with
remaining maturities of 60 days or less are valued at amortized cost, unless the
Board of Directors determines that such valuation does not constitute fair value
at that time. Under this method, such securities are valued initially at cost
on the date of purchase (or the 61st day before maturity). In determining the
approximate market value of portfolio investments, the Company may employ
outside organizations, which may use matrix or formula methods that take into
consideration market indices, matrices, yield curves and other specific
adjustments. This may result in the securities being valued at a price
different from the price that would have been determined had the matrix or
formula methods not been used. All cash, receivables and current payables are
carried on the Company's books at their face value. Other assets, if any, are
valued at fair value as determined in good faith under the supervision of the
Board members.
In-kind purchases. Payment for shares may, in the discretion of the
Advisors, be made in the form of securities that are permissible investments for
the Fund as described in the Prospectus. For further information about this
form of payment please contact the Transfer Agent. In connection with an in-
kind securities payment, the Fund will require, among other things, that the
securities (a) meet the investment objectives and policies of the Fund; (b) are
acquired for investment and not for resale; (c) are liquid securities that are
not restricted as to transfer either by law or liquidity of markets; (d) have a
value that is readily ascertainable by a listing on a nationally recognized
securities exchange; and (e) are valued on the day of purchase in accordance
with the pricing methods used by the Fund and that the Fund receive satisfactory
assurances that (i) it will have good and marketable title to
23
<PAGE>
the securities received by it; (ii) that the securities are in proper form for
transfer to the Fund; and (iii) adequate information will be provided concerning
the basis and other tax matters relating to the securities.
PERFORMANCE INFORMATION
Yield. The Fund's 30-day (or one month) standard yield is calculated for
the Fund in accordance with the method prescribed by the SEC for mutual funds:
YIELD = 2 [( a-b + 1)/6/ - 1]__
----
cd
Where:
a =dividends and interest earned by the Fund during the period;
b =expenses accrued for the period (net of reimbursements and waivers);
c =average daily number of shares outstanding during the period entitled
to receive dividends;
d =maximum offering price per share on the last day of the period.
For the purpose of determining interest earned on debt obligations
purchased by the Fund at a discount or premium (variable "a" in the formula),
the Fund computes the yield to maturity of such instrument based on the market
value of the obligation (including actual accrued interest) at the close of
business on the last business day of each month, or, with respect to obligations
purchased during the month, the purchase price (plus actual accrued interest).
Such yield is then divided by 360 and the quotient is multiplied by the market
value of the obligation (including actual accrued interest) in order to
determine the interest income on the obligation for each day of the subsequent
month that the obligation is in the portfolio. It is assumed in the above
calculation that each month contains 30 days. The maturity of a debt obligation
with a call provision is deemed to be the next call date on which the obligation
reasonably may be expected to be called or, if none, the maturity date. For the
purpose of computing yield on equity securities held by the Fund, dividend
income is recognized by accruing 1/360 of the stated dividend rate of the
security for each day that the security is held by the Fund.
Interest earned on tax-exempt obligations that are issued without original
issue discount and that have a current market discount is calculated by using
the coupon rate of interest instead of the yield to maturity. In the case of
tax-exempt obligations that are issued with original issue discount but which
have discounts based on current market value that exceed the then-remaining
portion of the original issue discount (market discount), the yield to maturity
is the imputed rate based on the original issue discount calculation. On the
other hand, in the case of tax-exempt obligations that are issued with original
issue discount but which have the discounts based on current market value that
are less than the then-remaining portion of the original issue discount (market
premium), the yield to maturity is based on the market value.
With respect to mortgage- or other receivables-backed debt obligations
purchased at a discount or premium, the formula generally calls for amortization
of the discount or premium. The amortization schedule will be adjusted monthly
to reflect changes in the market value of such debt obligations. Expenses
accrued for the period (variable "b" in the formula) include all recurring fees
charged by the Fund to all shareholder accounts in proportion to the length of
the base period and the Fund's mean (or median) account size. Undeclared earned
income will be subtracted from the offering price per share (variable "d" in the
formula). The Fund's maximum offering price per share for purposes of the
formula includes the maximum sales charge imposed -- currently 5.50% of the per
share offering price for Class A Shares of the Fund.
Total Return. The Fund, in advertising its "average annual total return"
computes such return by determining the average annual compounded rate of return
during specified periods that equates the initial amount invested to the ending
redeemable value of such investment according to the following formula:
P (1 + T)/n/ = ERV
Where:
P = hypothetical initial payment of $1,000;
T = average annual total return;
n = period covered by the computation, expressed in years; and
24
<PAGE>
ERV = ending redeemable value of a hypothetical $1,000 payment made at the
beginning of the 1, 5 or 10 year (or other) periods at the end of the
applicable period (or a fractional portion thereof).
The Fund, in advertising its "aggregate total return" computes such returns
by determining the aggregate compounded rates of return during specified periods
that likewise equate the initial amount invested to the ending redeemable value
of such investment. The formula for calculating aggregate total return is as
follows:
(ERV) - 1
-----
Aggregate Total Return = P
The calculations are made assuming that (1) all dividends and capital gain
distributions are reinvested on the reinvestment dates at the price per share
existing on the reinvestment date, (2) all recurring fees charged to all
shareholder accounts are included, and (3) for any account fees that vary with
the size of the account, a mean (or median) account size in the Fund during the
periods is reflected. The ending redeemable value (variable "ERV" in the
formula) is determined by assuming complete redemption of the hypothetical
investment after deduction of all non-recurring charges at the end of the
measuring period. The Fund's average annual total return and load adjusted
aggregate total return quotations for Class A Shares will reflect the deduction
of the maximum sales charge charged in connection with the purchase of such
shares - currently 5.50% of the per share offering price for Class A Shares of
the Fund; and the Fund's load adjusted average annual total return and load
adjusted aggregate total return quotations for Class B Shares will reflect any
applicable CDSC; provided that the Fund may also advertise total return data
without reflecting any applicable CDSC sales charge imposed on the purchase of
Class A Shares or Class B Shares in accordance with the views of the SEC.
Quotations which do not reflect the sales charge will, of course, be higher than
quotations which do.
The performance of any investment is generally a function of portfolio
quality and maturity, type of investment and operating expenses. From time to
time, in advertisements or in reports to shareholders, the Fund's yields or
total returns may be quoted and compared to those of other mutual funds with
similar investment objectives and to stock or other relevant indices.
TAXES
The following summarizes certain additional Federal and state income tax
considerations generally affecting the Fund and its shareholders that are not
described in the Fund's Prospectus. No attempt is made to present a detailed
explanation of the tax treatment of the Fund or its shareholders, and the
discussion here and in the applicable Prospectus is not intended as a substitute
for careful tax planning. This discussion is based upon present provisions of
the Internal Revenue Code of 1986, as amended ("Internal Revenue Code"), the
regulations promulgated thereunder, and judicial and administrative ruling
authorities, all of which are subject to change, which change may be
retroactive. Prospective investors should consult their own tax advisors with
regard to the federal tax consequences of the purchase, ownership and
disposition of Fund shares, as well as the tax consequences arising under the
laws of any state, foreign country, or other taxing jurisdiction.
General. The Fund intends to elect and qualify to be taxed separately as a
regulated investment company under Subchapter M of the Internal Revenue Code.
As a regulated investment company, the Fund generally is exempt from Federal
income tax on its net investment income and realized capital gains which it
distributes to shareholders, provided that it distributes an amount equal to the
sum of (a) at least 90% of its investment company taxable income (net investment
income and the excess of net short-term capital gain over net long-term capital
loss), if any, for the year and (b) at least 90% of its net tax-exempt interest
income, if any, for the year (the "Distribution Requirement") and satisfies
certain other requirements of the Internal Revenue Code that are described
below. Distributions of investment company taxable income and net tax-exempt
interest income made during the taxable year or, under specified circumstances,
within twelve months after the close of the taxable year will satisfy the
Distribution Requirement.
In addition to satisfying the Distribution Requirement, the Fund must
derive with respect to a taxable year at least 90% of its gross income from
dividends, interest, certain payments with respect to securities loans and gains
25
<PAGE>
from the sale or other disposition of stock or securities or foreign currencies,
or from other income derived with respect to its business of investing in such
stock, securities, or currencies (the "Income Requirement").
In addition to the foregoing requirements, at the close of each quarter of
its taxable year, at least 50% of the value of the Fund's assets must consist of
cash and cash items, U.S. Government securities, securities of other regulated
investment companies, and securities of other issuers (as to which the Fund has
not invested more than 5% of the value of its total assets in securities of such
issuer and as to which the Fund does not hold more than 10% of the outstanding
voting securities of such issuer) and no more than 25% of the value of the
Fund's total assets may be invested in the securities of any one issuer (other
than U.S. Government securities and securities of other regulated investment
companies), or in two or more issuers which such Fund controls and which are
engaged in the same or similar trades or businesses.
Distributions of net investment income received by the Fund from
investments in debt securities and any net realized short-term capital gains
distributed by the Fund will be taxable to shareholders as ordinary income and
will not be eligible for the dividends-received deduction for corporations.
The Fund intends to distribute to shareholders any excess of net long-term
capital gain over net short-term capital loss ("net capital gain") for each
taxable year. Such gain is distributed as a capital gain dividend and is
taxable to shareholders as gain from the sale or exchange of a capital asset
held for more than one year, regardless of the length of time a shareholder has
held his or her Fund shares and regardless of whether the distribution is paid
in cash or reinvested in shares. The Fund expects that capital gain dividends
will be taxable to shareholders as long-term gain. Capital gain dividends are
not eligible for the dividends-received deduction.
In the case of corporate shareholders, distributions of the Fund for any
taxable year generally qualify for the dividends-received deduction to the
extent of the gross amount of "qualifying dividends" received by the Fund for
the year and if certain holding period requirements are met. Generally, a
dividend will be treated as a "qualifying dividend" if it has been received from
a domestic corporation.
If for any taxable year the Fund does not qualify as a regulated investment
company, all of its taxable income will be subject to tax at regular corporate
rates without any deduction for distributions to shareholders. In such event,
all distributions (whether or not derived from exempt-interest income) would be
taxable as ordinary income and would be eligible for the dividends-received
deduction in the case of corporate shareholders to the extent of the Fund's
current and accumulated earnings and profits.
Shareholders will be advised annually as to the federal income tax
consequences of distributions made by the Fund each year.
Amounts not distributed on a timely basis in accordance with a calendar
year distribution requirement are subject to a nondeductible 4% excise tax. To
prevent imposition of the excise tax, the Fund must distribute during each
calendar year an amount equal to the sum of (1) at least 98% of its ordinary
income (not taking into account any capital gains or losses) for the calendar
year, (2) at least 98% of its capital gains in excess of its capital losses
(adjusted for certain ordinary losses, as prescribed by the Code) for the one-
year period ending on October 31 of the calendar year, and (3) any ordinary
income and capital gains for previous years that was not distributed during
those years. A distribution will be treated as paid on December 31 of the
current calendar year if it is declared by the Fund in October, November or
December with a record date in such a month and paid by the Fund during January
of the following calendar year. Such distributions will be taxable to
shareholders in the calendar year in which the distributions are declared,
rather than the calendar year in which the distributions are made. To prevent
application of the excise tax, the Fund intends to make its distributions in
accordance with the calendar year distribution requirement.
Although the Fund expects to qualify as a "regulated investment company"
and to be relieved of all or substantially all Federal income taxes, depending
upon the extent of its activities in states and localities in which its offices
are maintained, in which its agents or independent contractors are located or in
which it is otherwise deemed to be conducting business, the Fund may be subject
to the tax laws of such states or localities.
26
<PAGE>
The Company will be required in certain cases to withhold and remit to the
United States Treasury 31% of taxable distributions, including gross proceeds
realized upon sale or other dispositions paid to any shareholder (i) who has
provided an incorrect tax identification number or no number at all, (ii) who is
subject to backup withholding by the Internal Revenue Service for failure to
report the receipt of taxable interest or dividend income properly, or (iii) who
has failed to certify that he is not subject to backup withholding or that he is
an "exempt recipient."
Disposition of Shares. Upon a redemption, sale or exchange of his or her
shares, a shareholder will realize a taxable gain or loss depending upon his or
her basis in the shares. Such gain or loss will be treated as capital gain or
loss if the shares are capital assets in the shareholder's hands and will be
long-term or short-term, generally, depending upon the shareholder's holding
period for the shares. Any loss realized on a redemption, sale or exchange will
be disallowed to the extent the shares disposed of are replaced (including
through reinvestment of dividends) within a period of 61 days beginning 30 days
before and ending 30 days after the shares are disposed of. In such a case, the
basis of the shares acquired will be adjusted to reflect the disallowed loss.
Any loss realized by a shareholder on the sale of Fund shares held by the
shareholder for six months or less will be treated as a long-term capital loss
to the extent of any distributions of net capital gains received or treated as
having been received by the shareholder with respect to such shares and treated
as long-term capital gains. Furthermore, a loss realized by a shareholder on
the redemption, sale or exchange of shares of a Fund with respect to which
exempt-interest dividends have been paid will, to the extent of such exempt-
interest dividends, be disallowed if such shares have been held by the
shareholder for six months or less.
In some cases, shareholders will not be permitted to take sales charges
into account for purposes of determining the amount of gain or loss realized on
the disposition of their stock. This prohibition generally applies where (1)
the shareholder incurs a sales charge in acquiring the stock of a Fund, (2) the
stock is disposed of before the 91st day after the date on which it was
acquired, and (3) the shareholder subsequently acquires the stock of the same or
another fund and the otherwise applicable sales charge is reduced under a
"reinvestment right" received upon the initial purchase of regulated investment
company shares. The term "reinvestment right" means any right to acquire stock
of one or more funds without the payment of a sales charge or with the payment
of a reduced sales charge. Sales charges affected by this rule are treated as
if they were incurred with respect to the stock acquired under the reinvestment
right. This provision may be applied to successive acquisitions of Fund shares.
Although the Fund expects to qualify as a "regulated investment company"
and to be relieved of all or substantially all federal income taxes, depending
upon the extent of its activities in states and localities in which its offices
are maintained, in which its agents or independent contractors are located or in
which it is otherwise deemed to be conducting business, the Fund may be subject
to the tax laws of such states or localities.
Foreign Tax Considerations. Income received by the Fund from sources
within foreign countries may be subject to withholding and other foreign taxes.
The payment of such taxes will reduce the amount of dividends and distributions
paid to the Fund's shareholders. So long as the Fund qualifies as a regulated
investment company, certain distribution requirements are satisfied, and more
than 50% of the value of the Fund's assets at the close of the taxable year
consists of securities of foreign corporations, the Fund may elect, subject to
limitation, to pass through its foreign tax credits to its shareholders. The
Fund may qualify for and make this election in some, but not necessarily all, of
its taxable years. If the Fund were to make an election, an amount equal to the
foreign income taxes paid by the Fund would be included in the income of its
shareholders and the shareholders would be entitled to credit their portions of
this amount against their U.S. tax due, if any, or to deduct such portions from
their U.S. taxable income, if any. Shortly after any year for which it makes
such an election, the Fund will report to its shareholders, in writing, the
amount per share of such foreign tax that must be included in each shareholder's
gross income and the amount which will be available for deduction or credit. No
deduction for foreign taxes may be claimed by a shareholder who does not itemize
deductions. Certain limitations are imposed on the extent to which the credit
(but not the deduction) for foreign taxes may be claimed.
Shareholders who choose to utilize a credit (rather than a deduction) for
foreign taxes will be subject to limitations, including the restriction that the
credit may not exceed the shareholder's United States tax (determined without
regard to the availability of the credit) attributable to his or her total
foreign source taxable income. For this purpose, the portion of dividends and
distributions paid by the Fund from its foreign source income will be treated as
foreign source income. The Fund's gains and losses from the sale of securities
will generally be treated as
27
<PAGE>
derived from United States sources and certain foreign currency gains and losses
likewise will be treated as derived from United States sources. The limitation
on the foreign tax credit is applied separately to foreign source "passive
income", such as the portion of dividends received from the Fund which qualifies
as foreign source income. In addition, only a portion of the foreign tax credit
will be allowed to offset any alternative minimum tax imposed on corporations
and individuals. Because of these limitations, shareholders may be unable to
claim a credit for the full amount of their proportionate shares of the foreign
income taxes paid by the Fund.
Taxation of Certain Financial Instruments. Special rules govern the
Federal income tax treatment of financial instruments that may be held by the
Fund. These rules may have a particular impact on the amount of income or gain
that the Fund must distribute to their respective shareholders to comply with
the Distribution Requirement, on the income or gain qualifying under the Income
Requirement, all described above.
Original Issue Discount. The Fund may purchase debt securities with
original issue discount. Original issue discount represents the difference
between the original price of the debt instrument and the stated redemption
price at maturity. Original issue discount is required to be accreted on a
daily basis and is considered interest income for tax purposes and, therefore,
such income would be subject to the distribution requirements applicable to
regulated investment companies.
Market Discount. The Fund may purchase debt securities at a discount in
excess of the original issue discount to the stated redemption price maturity
(for debt securities without original issue discount), and this discount is
called market discount. If market discount is be recognized at the time of
disposition of the debt security, accrued market discount is recognized to the
extent of gain on the disposition of the debt security.
Hedging Transactions. The taxation of equity options and over-the-counter
options on debt securities is governed by Internal Revenue Code section 1234.
Pursuant to Internal Revenue Code section 1234, the premium received by the Fund
for selling a put or call option is not included in income at the time of
receipt. If the option expires, the premium is short-term capital gain to the
Fund. If the Fund enters into a closing transaction, the difference between the
amount paid to close out its position and the premium received is short-term
capital gain or loss. If a call option written by the Fund is exercised, thereby
requiring the Fund to sell the underlying security, the premium will increase
the amount realized upon the sale of such security and any resulting gain or
loss will be a capital gain or loss, and will be long-term or short-term
depending upon the holding period of the security. With respect to a put or call
option that is purchased by the Fund, if the option is sold, any resulting gain
or loss will be a capital gain or loss, and will be long-term or short-term,
depending upon the holding period of the option. If the option expires, the
resulting loss is a capital loss and is long-term or short-term, depending upon
the holding period of the option. If the option is exercised, the cost of the
option, in the case of a call option, is added to the basis of the purchased
security and, in the case of a put option, reduces the amount realized on the
underlying security in determining gain or loss.
Any regulated futures and foreign currency contracts and certain options
(namely, nonequity options and dealer equity options) in which the Fund may
invest may be "Section 1256 contracts." Gains or losses on Section 1256
contracts are generally considered 60% long-term and 40% short-term capital
gains or losses; however, foreign currency gains or losses arising from certain
section 1256 contracts may be treated as ordinary income or loss. Also, Section
1256 contracts held by the Fund at the end of each taxable year (and generally
for purposes of the 4% excise tax, on October 31 of each year) are "marked to
market" with the result that unrealized gains or losses are treated as though
they were realized.
Generally, hedging transactions, if any, undertaken by the Fund may result
in "straddles" for U.S. Federal income tax purposes. The straddle rules may
affect the character of gains (or losses) realized by the Funds. In addition,
losses realized by the Fund on positions that are part of a straddle may be
deferred under the straddle rules, rather than being taken into account in
calculating the taxable income for the taxable year in which such losses are
realized. Because only a few regulations implementing the straddle rules have
been promulgated, the tax consequences of hedging transactions to the Fund are
not entirely clear. The hedging transactions may increase the amount of short-
term capital gain realized by the Fund which is taxed as ordinary income when
distributed to shareholders.
The Fund may make one or more of the elections available under the Code
which are applicable to straddles. If the Fund makes any of the elections, the
amount, character and timing of the recognition of gains or
28
<PAGE>
losses from the affected straddle positions will be determined under rules that
vary according to the election(s) made. The rules applicable under certain of
the elections may operate to accelerate the recognition of gains or losses from
the affected straddle positions.
Because application of the straddle rules may affect the character of gains
or losses, and may defer losses and/or accelerate the recognition of gains or
losses from the affected straddle positions, the amount which must be
distributed to shareholders, and which will be taxed to shareholders as ordinary
income or long-term capital gain, may be more than or less than the
distributions of substantially as compared to a fund that did not engage in such
hedging transactions.
The diversification requirements applicable to the Fund's assets may limit
the extent to which the Fund will be able to engage in transactions in options,
futures or forward contracts.
Constructive Sales. Recently enacted rules may affect the timing and
character of gain if the Fund engages in transactions that reduce or eliminate
its risk of loss with respect to appreciated financial positions. If the Fund
enters into certain transactions in property while holding substantially
identical property, the Fund would be treated as if it had sold and immediately
repurchased the property and would be taxed on any gain (but not loss) from the
constructive sale. The character of gain from a constructive sale would depend
upon the Fund's holding period in the property. Loss from a constructive sale
would be recognized when the property was subsequently disposed of, and its
character would depend on the Fund's holding period and the application of
various loss deferral provisions of the Internal Revenue Code.
Currency Fluctuations - "Section 988" Gains or Losses. Under the Internal
Revenue Code, gains or losses attributable to fluctuations in exchange rates
which occur between the time the Fund accrues receivables or liabilities
denominated in a foreign currency and the time the Fund actually collects such
receivables or pays such liabilities generally are treated as ordinary income
and loss. Similarly, on disposition of debt securities denominated in a foreign
currency and on disposition of certain futures, forward contracts and options,
gains or losses attributable to fluctuations in the value of the foreign
currency between the date of acquisition of the security or contract and the
date of disposition also are treated as ordinary gain or loss. These gains or
losses, referred to under the Internal Revenue Code as "Section 988" gains or
losses, may increase or decrease the amount of the Fund's investment company
taxable income to be distributed to its shareholders as ordinary income.
Passive Foreign Investment Companies. The Fund may invest in shares of
foreign corporations that may be classified under the Internal Revenue Code as
passive foreign investment companies ("PFICs"). In general, a foreign
corporation is classified as a PFIC if at least on-half of its assets constitute
passive assets, or 75% or more of its gross income passive income. If the Fund
receives a so-called "excess distribution" with respect to PFIC shares, the Fund
itself may be subject to a tax on a portion of the excess distribution, whether
or not the corresponding income is distributed by the Fund to shareholders. In
general, under the PFIC rules, an excess distribution is treated as having been
realized ratably over the period during which the Fund held the PFIC shares. The
Fund will itself be subject to tax on the portion, if any, of an excess
distribution that is so allocated to prior Fund taxable years and an interest
factor will be added to the tax, as if the tax had been payable in such prior
taxable years. Certain distributions from a PFIC as well as gain from the sale
of PFIC shares are treated as excess distributions. Excess distributions are
characterized as ordinary income even though, absent application of the PFIC
rules, certain excess distributions might have been classified as capital
gain.
The Fund may be eligible to elect alternative tax treatment with respect to
PFIC shares. Under an election that currently is available in some
circumstances, the Fund generally would be required to include in its gross
income its share of the earnings of a PFIC on a current basis, regardless of
whether distributions were received from the PFIC in a given year. If this
election were made, the special rules, discussed above, relating to the taxation
of excess distributions, would not apply. In addition, another election would
involve marking to market the Fund's PFIC shares at the end of each taxable
year, with the result that unrealized gains would be treated as though they were
realized and reported as ordinary income. Any mark-to market losses and any
loss from an actual disposition of Fund shares would be deductible as ordinary
losses to the extent of any net mark-to-market gains included in income in prior
years.
29
<PAGE>
Income received by the Fund from sources within foreign countries may be
subject to withholding and other taxes imposed by such countries.
Fund shareholders may be subject to state, local and foreign taxes on their
Fund distributions. In many states, Fund distributions which are derived from
interest on certain U.S. Government obligations are exempt from taxation. The
tax consequences to a foreign shareholder of an investment in the Fund may be
different from those described herein. Foreign shareholders are advised to
consult their own tax advisers with respect to the particular tax consequences
to them of an investment in the Fund. Shareholders are advised to consult their
own tax advisers with respect to the particular tax consequences to them of an
investment in the Fund.
Other Taxation. The foregoing discussion relates only to U.S. federal
income tax law and certain state taxes as applicable to U.S. persons (i.e., U.S.
citizens and residents and domestic corporations, partnerships, trusts and
estates). Distributions by the Fund, and dispositions of Fund shares also may
be subject to other state and local taxes, and their treatment under state and
local income tax laws may differ from the U.S. federal income tax treatment.
Shareholders should consult their tax advisers with respect to particular
questions of U.S. federal, state and local taxation. Shareholders who are not
U.S. persons should consult their tax advisers regarding U.S. and foreign tax
consequences of ownership of shares of the Fund, including the likelihood that
distributions to them would be subject to withholding of U.S. federal income tax
at a rate of 30% (or at a lower rate under a tax treaty). Future legislative or
administrative changes or court decisions may significantly change the
conclusions expressed herein, and any such changes or decisions may have a
retroactive effect with respect to the transactions contemplated herein.
ADDITIONAL INFORMATION CONCERNING SHARES
The Company is a Maryland corporation. The Company's Articles of
Incorporation authorize the Board of Directors to classify or reclassify any
unissued shares of the Company into one or more classes by setting or changing,
in any one or more respects, their respective designations, preferences,
conversion or other rights, voting powers, restrictions, limitations,
qualifications and terms and conditions of redemption. Pursuant to the
authority of the Company's Articles of Incorporation, the Directors have
authorized the issuance of shares of common stock representing interests in
fifteen series of shares. The Fund offers Class A, Class B, Class II, Class K
and Class Y Shares.
The Board of the Company has adopted a plan pursuant to Rule 18f-3 under
the 1940 Act ("Multi-Class Plan") on behalf of the Fund. The Multi-Class Plan
provides that shares of each class of the Fund are identical, except for one or
more expense variables, certain related rights, exchange privileges, class
designation and sales loads assessed due to differing distribution methods.
In the event of a liquidation or dissolution of the Company or the Fund,
shareholders of the Fund would be entitled to receive the assets available for
distribution belonging to the Fund, and a proportionate distribution, based upon
the relative net asset values of the Fund, of any general assets not belonging
to the Fund which are available for distribution. Shareholders of the Fund are
entitled to participate in the net distributable assets of the Fund involved on
liquidation, based on the number of shares of the Fund that are held by each
shareholder.
Holders of all outstanding shares of a particular Fund will vote together
in the aggregate and not by class on all matters, except that only Class A
Shares of the Fund will be entitled to vote on matters submitted to a vote of
shareholders pertaining to the Fund's Class A Plan, only Class B Shares will be
entitled to vote on matters submitted to a vote of shareholders pertaining to
the Fund's Class B Plan and only Class II Shares of the Fund will be entitled to
vote on matters submitted to a vote of shareholders pertaining to the Fund's
Class II Plan. Further, shareholders of the Fund, as well as those of any other
investment portfolio now or hereafter offered by the Company, will vote together
in the aggregate and not separately on a Fund-by-Fund basis, except as otherwise
required by law or when permitted by the Board of Directors. Rule 18f-2 under
the 1940 Act provides that any matter required to be submitted to the holders of
the outstanding voting securities of an investment company such as the Company
shall not be deemed to have been effectively acted upon unless approved by the
holders of a majority of the outstanding shares of the Fund affected by the
matter. The Fund is affected by a matter, (i) unless it is clear that the
interests of the Fund in the matter are substantially identical or (ii) that the
matter does not affect any interest of the Fund. Under the Rule, the approval of
an investment advisory agreement or any change in a fundamental investment
policy would be effectively acted upon with respect to the Fund only if approved
by a majority of the outstanding
30
<PAGE>
shares of the Fund. However, the Rule also provides that the ratification of the
appointment of independent auditors, the approval of principal underwriting
contracts and the election of trustees may be effectively acted upon by
shareholders of the Company voting together in the aggregate without regard to a
particular portfolio.
Shares of the Company have noncumulative voting rights and, accordingly,
the holders of more than 50% of the Company's outstanding shares (irrespective
of class) may elect all of the directors. Shares have no preemptive rights and
only such conversion and exchange rights as the Board may grant in its
discretion. When issued for payment as described in the applicable Prospectus,
shares will be fully paid and non-assessable by the Company.
Annual shareholder meetings to elect directors will not be held unless and
until such time as required by law. At that time, the directors then in office
will call a shareholders' meeting to elect directors. Except as set forth
above, the directors will continue to hold office and may appoint successor
directors. Meetings of the shareholders of the Company shall be called by the
directors upon the written request of shareholders owning at least 10% of the
outstanding shares entitled to vote.
OTHER INFORMATION
Counsel. The law firm of Dechert Price & Rhoads, 1775 Eye Street, N.W.,
Washington, D.C. 20006, has passed upon certain legal matters in connection with
the shares offered by the Fund and serves as counsel to the Company.
Independent Auditors. Ernst & Young LLP, 200 Clarendon Street, Boston,
Massachusetts 02116, serves as the Company's independent auditors.
Shareholder Approvals. As used in this SAI, a "majority of the outstanding
shares" of the Fund or investment portfolio means the lesser of (a) 67% of the
shares of the Fund or portfolio represented at a meeting at which the holders of
more than 50% of the outstanding shares of the Fund or portfolio are present in
person or by proxy, or (b) more than 50% of the outstanding shares of the Fund
or portfolio.
REGISTRATION STATEMENT
This SAI and the Fund's Prospectus do not contain all the information
included in the Fund's registration statement filed with the SEC under the 1933
Act with respect to the securities offered hereby, certain portions of which
have been omitted pursuant to the rules and regulations of the SEC. The
registration statement, including the exhibits filed therewith, may be examined
at the offices of the SEC in Washington, D.C. Text-only versions of fund
documents can be viewed online or downloaded from the SEC at http:/www.sec.gov.
Statements contained herein and in the Fund's Prospectus as to the contents
of any contract or other documents referred to are not necessarily complete,
and, in such instance, reference is made to the copy of such contract or other
documents filed as an exhibit to the Fund's registration statement, each such
statement being qualified in all respects by such reference.
31
<PAGE>
APPENDIX A
----------
- Rated Investments -
Corporate Bonds
---------------
From Moody's Investors Services, Inc. ("Moody's") description of its bond
ratings:
"Aaa":
Bonds that are rated "Aaa" are judged to be of the best quality. They
carry the smallest degree of investment risk and are generally referred
to as "gilt edged." Interest payments are protected by a large or by an
exceptionally stable margin and principal is secure. While the various
protective elements are likely to change, such changes as can be
visualized are most unlikely to impair the fundamentally strong position
of such issues.
"Aa":
Bonds that are rated "Aa" are judged to be of high-quality by all
standards. Together with the "Aaa" group they comprise what are
generally known as "high-grade" bonds. They are rated lower than the
best bonds because margins of protection may not be as large as in "Aaa"
securities or fluctuation of protective elements may be of greater
amplitude or there may be other elements present which make the long-term
risks appear somewhat larger than in "Aaa" securities.
"A":
Bonds that are rated "A" possess many favorable investment attributes
and are to be considered as upper-medium-grade obligations. Factors
giving security to principal and interest are considered adequate, but
elements may be present which suggest a susceptibility to impairment
sometime in the future.
"Baa":
Bonds that are rated "Baa" are considered as medium grade obligations,
i.e., they are neither highly protected nor poorly secured. Interest
payments and principal security appear adequate for the present but
certain protective elements may be lacking or may be characteristically
unreliable over any great length of time. Such bonds lack outstanding
investment characteristics and in fact have speculative characteristics
as well.
"Ba":
Bonds that are rated "Ba" are judged to have speculative elements;
their future cannot be considered well assured. Often the protection of
interest and principal payments may be very moderate and thereby not well
safeguarded during both good and bad times over the future. Uncertainty
of position characterizes bonds in this class.
"B":
Bonds that are rated "B" generally lack characteristics of desirable
investments. Assurance of interest and principal payments or of
maintenance of other terms of the contract over any long period of time
may be small.
"Caa":
Bonds that are rated "Caa" are of poor standing. These issues may be
in default or present elements of danger may exist with respect to
principal or interest.
Moody's applies numerical modifiers (1, 2 and 3) with respect to bonds
rated "Aa" through "B". The modifier 1 indicates that the bond being rated
ranks in the higher end of its generic rating category; the modifier 2 indicates
a mid-range ranking; and the modifier 3 indicates that the bond ranks in the
lower end of its generic rating category.
From Standard & Poor's Corporation ("S&P") description of its bond ratings:
A-1
<PAGE>
"AAA":
Debt rated "AAA" has the highest rating assigned by S&P. Capacity to
pay interest and repay principal is extremely strong.
"AA":
Debt rated "AA" has a very strong capacity to pay interest and repay
principal and differs from "AAA" issues by a small degree.
"A":
Debt rated "A" has a strong capacity to pay interest and repay
principal although it is somewhat more susceptible to the adverse effects
of changes in circumstances and economic conditions than debt in higher
rated categories.
"BBB":
Bonds rated "BBB" are regarded as having an adequate capacity to pay
interest and principal. Whereas they normally exhibit adequate
protection parameters, adverse economic conditions or changing
circumstances are more likely to lead to a weakened capacity to pay
interest and repay principal for bonds in this category than for bonds in
higher rated categories.
"BB," "B" and "CCC":
Bonds rated "BB" and "B" are regarded, on balance, as predominantly
speculative with respect to capacity to pay interest and principal in
accordance with the terms of the obligations. "BB" represents a lower
degree of speculation than "B" and "CCC" the highest degree of
speculation. While such bonds will likely have some quality and
protective characteristics, these are outweighed by large uncertainties
or major risk exposures to adverse conditions.
To provide more detailed indications of credit quality, the "AA" or "A"
ratings may be modified by the addition of a plus or minus sign to show relative
standing within these major rating categories.
Commercial Paper
----------------
The rating "Prime-1" is the highest commercial paper rating assigned by
Moody's. These issuers (or related supporting institutions) are considered to
have a superior capacity for repayment of short-term promissory obligations.
Instruments rated "Prime-2" are offered by issuers (or related supporting
institutions) which have a strong capacity for repayment of short-term
promissory obligations. This will normally be evidenced by many of the
characteristics of "Prime-1" rated issues, but to a lesser degree. Earnings
trends and coverage ratios, while sound, will be more susceptible to variation.
Capitalization characteristics, while still appropriate, may be more affected by
external conditions. Ample alternate liquidity is maintained.
Commercial paper ratings of S&P are current assessments of the likelihood
of timely payment of debt having original maturities of no more than 365 days.
Commercial paper rated "A-1" by S&P indicates that the degree of safety
regarding timely payment is either overwhelming or very strong. Those issues
determined to possess overwhelming safety characteristics are denoted "A-1+."
Commercial paper rated "A-2" by S&P indicates that capacity for timely payment
is strong. However, the relative degree of safety is not as high as for issues
designated "A-1."
Rated commercial paper purchased by a Fund must have (at the time of
purchase) the highest quality rating assigned to short-term debt securities or,
if not rated, or rated by only one agency, are determined to be of comparative
quality pursuant to guidelines approved by the Fund's Board of Directors.
A-2
<PAGE>
APPENDIX B
The Fund may enter into certain futures transactions and options for
hedging purposes. The Fund may also write covered call options, buy put
options, buy call options and write secured put options. Such transactions are
described in this Appendix.
I. Interest Rate Futures Contracts
-------------------------------
Use of Interest Rate Futures Contracts. Bond prices are established in
---------------------------------------
both the cash market and the futures market. In the cash market, bonds are
purchased and sold with payment for the full purchase price of the bond being
made in cash, generally within five business days after the trade. In the
futures market, only a contract is made to purchase or sell a bond in the future
for a set price on a certain date. Historically, the prices for bonds
established in the futures markets have tended to move generally in the
aggregate in concert with the cash market prices and have maintained fairly
predictable relationships. Accordingly, the Fund may use interest rate futures
contracts as a defense, or hedge, against anticipated interest rate changes and
not for speculation. As described below, this would include the use of futures
contract sales to protect against expected increases in interest rates and
futures contract purchases to offset the impact of interest rate declines.
The Fund presently could accomplish a similar result to that which it hopes
to achieve through the use of futures contracts by selling bonds with long
maturities and investing in bonds with short maturities when interest rates are
expected to increase, or conversely, selling short-term bonds and investing in
long-term bonds when interest rates are expected to decline. However, because
of the liquidity that is often available in the futures market, the protection
is more likely to be achieved, perhaps at a lower cost and without changing the
rate of interest being earned by the Fund, through using futures contracts.
Description of Interest Rate Futures Contracts. An interest rate futures
-----------------------------------------------
contract sale would create an obligation by the Fund, as seller, to deliver the
specific type of financial instrument called for in the contract at a specific
future time for a specified price. A futures contract purchase would create an
obligation by the Fund, as purchaser, to take delivery of the specific type of
financial instrument at a specific future time at a specific price. The
specific securities delivered or taken, respectively, at settlement date, would
not be determined until or at near that date. The determination would be in
accordance with the rules of the exchange on which the futures contract sale or
purchase was made.
Although interest rate futures contracts by their terms call for actual
delivery or acceptance of securities, in most cases the contracts are closed out
before the settlement date without making or taking of delivery of securities.
Closing out a futures contract sale is effected by the Fund's entering into a
futures contract purchase for the same aggregate amount of the specific type of
financial instrument and the same delivery date. If the price of the sale
exceeds the price of the offsetting purchase, the Fund is immediately paid the
difference and thus realizes a gain. If the offsetting purchase price exceeds
the sale price, the Fund pays the difference and realizes a loss. Similarly,
the closing out of a futures contract purchase is effected by the Fund entering
into a futures contract sale. If the offsetting sale price exceeds the purchase
price, the Fund realizes a gain, and if the purchase price exceeds the
offsetting sale price, the Fund realizes a loss.
Interest rate futures contracts are traded in an auction environment on the
floors of several exchanges -principally, the Chicago Board of Trade, the
Chicago Mercantile Exchange and the New York Futures Exchange. The Fund would
deal only in standardized contracts on recognized exchanges. Each exchange
guarantees performance under contract provisions through a clearing corporation,
a nonprofit organization managed by the exchange membership.
A public market now exists in futures contracts covering various financial
instruments including long-term United States Treasury Bonds and Notes,
Government National Mortgage Association (GNMA) modified pass-through mortgage
backed securities, three-month United States Treasury Bills, and ninety-day
commercial paper. The Fund may trade in any interest rate futures contracts
for which there exists a public market, including, without limitation, the
foregoing instruments.
B-1
<PAGE>
Example of Futures Contract Sale. The Fund would engage in an interest
---------------------------------
rate futures contract sale to maintain the income advantage from continued
holding of a long-term bond while endeavoring to avoid part or all of the loss
in market value that would otherwise accompany a decline in long-term securities
prices. Assume that the market value of a certain security held by a particular
Fund tends to move in concert with the futures market prices of long-term United
States Treasury bonds ("Treasury Bonds"). An advisor wishes to fix the current
market value of the portfolio security until some point in the future. Assume
the portfolio security has a market value of 100, and an advisor believes that,
because of an anticipated rise in interest rates, the value will decline to 95.
The Fund might enter into futures contract sales of Treasury bonds for an
equivalent of 98. If the market value of the portfolio security does indeed
decline from 100 to 95, the equivalent futures market price for the Treasury
bonds might also decline from 98 to 93.
In that case, the five point loss in the market value of the portfolio
security would be offset by the five point gain realized by closing out the
futures contract sale. Of course, the futures market price of Treasury bonds
might well decline to more than 93 or to less than 93 because of the imperfect
correlation between cash and futures prices mentioned below.
An advisor could be wrong in its forecast of interest rates and the
equivalent futures market price could rise above 98. In this case, the market
value of the portfolio securities, including the portfolio security being
protected, would increase. The benefit of this increase would be reduced by the
loss realized on closing out the futures contract sale.
If interest rate levels did not change, the Fund in the above example might
incur a loss of 2 points (which might be reduced by an offsetting transaction
prior to the settlement date). In each transaction, transaction expenses would
also be incurred.
Example of Futures Contract Purchase. The Fund would engage in an interest
-------------------------------------
rate futures contract purchase when they are not fully invested in long-term
bonds but wish to defer for a time the purchase of long-term bonds in light of
the availability of advantageous interim investments, e.g., shorter term
securities whose yields are greater than those available on long-term bonds. A
Fund's basic motivation would be to maintain for a time the income advantage
from investing in the short-term securities; the Fund would be endeavoring at
the same time to eliminate the effect of all or part of an expected increase in
market price of the long-term bonds that the Fund may purchase.
For example, assume that the market price of a long-term bond that the Fund
may purchase, currently yielding 10%, tends to move in concert with futures
market prices of Treasury bonds. An advisor wishes to fix the current market
price (and thus 10% yield) of the long-term bond until the time (four months
away in this example) when it may purchase the bond. Assume the long-term bond
has a market price of 100, and the advisor believes that, because of an
anticipated fall in interest rates, the price will have risen to 105 (and the
yield will have dropped to about 91/2%) in four months. The Fund might enter
into futures contracts purchases of Treasury bonds for an equivalent price of
98. At the same time, the Fund would assign a pool of investments in short-term
securities that are either maturing in four months or designated on the books of
the Fund's custodian for sale in four months, for purchase of the long-term bond
at an assumed market price of 100. Assume these short-term securities are
yielding 15%. If the market price of the long-term bond does indeed rise from
100 to 105, the equivalent futures market price for Treasury bonds might also
rise from 98 to 103. In that case, the 5 point increase in the price that the
Fund pays for the long-term bond would be offset by the 5 point gain realized by
closing out the futures contract purchase.
An advisor could be wrong in its forecast of interest rates; long-term
interest rates might rise to above 10%; and the equivalent futures market price
could fall below 98. If short-term rates at the same time fall to 10% or below,
it is possible that the Fund would continue with its purchase program for long-
term bonds. The market price of available long-term bonds would have decreased.
The benefit of this price decrease, and thus yield increase, will be reduced by
the loss realized on closing out the futures contract purchase.
If, however, short-term rates remained above available long-term rated, it
is possible that the Fund would discontinue its purchase program for long-term
bonds. The yield on short-term securities in the portfolio, including those
originally in the pool assigned to the particular long-term bond, would remain
higher than yields on long-term
B-2
<PAGE>
bonds. The benefit of this continued incremental income will be reduced by the
loss realized on closing out the futures contract purchase. In each transaction,
expenses would also be incurred.
II. Index Futures Contracts
-----------------------
General. A bond index assigns relative values of the bonds included in the
--------
index and the index fluctuates with changes in the market values of the bonds
included. The Chicago Board of Trade has designed a futures contract based on
the Bond Buyer Municipal Bond Index. This Index is composed of 40 term revenue
and general obligation bonds and its composition is updated regularly as new
bonds meeting the criteria of the Index are issued and existing bonds mature.
The Index is intended to provide an accurate indicator of trends and changes in
the municipal bond market. Each bond in the Index is independently priced by
six dealer-to-dealer municipal bond brokers daily. The 40 prices then are
averaged and multiplied by a coefficient. The coefficient is used to maintain
the continuity of the Index when its composition changes.
A stock index assigns relative values to the stocks included in the index
and the index fluctuates with changes in the market values of the stocks
included. Some stock index futures contracts are based on broad market indices,
such as the Standard & Poor's 500 or the New York Stock Exchange Composite
Index. In contrast, certain exchanges offer futures contracts on narrower
market indices, such as the Standard & Poor's 100 or indices based on an
industry or market segment, such as oil and gas stocks.
Futures contracts are traded on organized exchanges regulated by the
Commodity Futures Trading Commission. Transactions on such exchanges are
cleared through a clearing corporation, which guarantees the performance of the
parties to each contract.
The Fund will sell index futures contracts in order to offset a decrease in
market value of its portfolio securities that might otherwise result from a
market decline. The Fund will purchase index futures contracts in anticipation
of purchases of securities. In a substantial majority of these transactions,
the Fund will purchase such securities upon termination of the long futures
position, but a long futures position may be terminated without a corresponding
purchase of securities.
In addition, the Fund may utilize index futures contracts in anticipation
of changes in the composition of its portfolio holdings. For example, in the
event that the Fund expects to narrow the range of industry groups represented
in its holdings it may, prior to making purchases of the actual securities,
establish a long futures position based on a more restricted index, such as an
index comprised of securities of a particular industry group. The Fund may also
sell futures contracts in connection with this strategy, in order to protect
against the possibility that the value of the securities to be sold as part of
the restructuring of the portfolio will decline prior to the time of sale.
Examples of Stock Index Futures Transactions. The following are examples
---------------------------------------------
of transactions in stock index futures (net of commissions and premiums, if
any).
ANTICIPATORY PURCHASE HEDGE: Buy the Future
Hedge Objective: Protect Against Increasing Price
<TABLE>
<CAPTION>
Portfolio Futures
<S> <C>
Anticipate buying $62,500 in Equity Securities -Day Hedge is Placed-
Buying 1 Index Futures at 125
Value of Futures = $62,500/Contract
Buy Equity Securities with Actual Cost = $65,000 Day Hedge is Lifted-
Increase in Purchase Price = $2,500 Sell 1 Index Futures at 130
Value of Futures = $65,000/Contract
Gain on Futures = $2,500
</TABLE>
HEDGING A STOCK PORTFOLIO: Sell the Future
Hedge Objective: Protect Against Declining
Value of the Portfolio
B-3
<PAGE>
Factors:
Value of Stock Portfolio = $1,000,000
Value of Futures Contract - 125 X $500 =
$62,500 Portfolio Beta Relative to the Index = 1.0
<TABLE>
<CAPTION>
Portfolio Futures
<S> <C>
Anticipate Selling $1,000,000 in Equity Securities - Day Hedge is Placed-
Sell 16 Index Futures at 125
Value of Futures = $1,000,000
Equity Securities - Own Stock Day Hedge is Lifted-
with Value = $960,000 Buy 16 Index Futures at 120
Loss in Portfolio Value = $40,000 Value of Futures = $960,000
Gain on Futures = $40,000
</TABLE>
III. Margin Payments
---------------
Unlike the purchase or sale of portfolio securities, no price is paid or
received by the Fund upon the purchase or sale of a futures contract.
Initially, the Fund will be required to deposit with the broker or in a
segregated account with the Fund's custodian in an amount of cash or cash
equivalents, known as initial margin, based on the value of the contract. The
nature of initial margin in futures transactions is different from that of
margin in securities transactions in that futures contract margin does not
involve the borrowing of funds by the customer to finance the transactions.
Rather, the initial margin is in the nature of a performance bond or good faith
deposit on the contract which is returned to the Fund upon termination of the
futures contract assuming all contractual obligations have been satisfied.
Subsequent payments, called variation margin, to and from the broker, will be
made on a daily basis as the price of the underlying instruments fluctuates
making the long and short positions in the futures contract more or less
valuable, a process known as marking to the market. For example, when the Fund
has purchased a futures contract and the price of the contract has risen in
response to a rise in the underlying instruments, that position will have
increased in value and the Fund will be entitled to receive from the broker a
variation margin payment equal to that increase in value. Conversely, where the
Fund has purchased a futures contract and the price of the futures contract has
declined in response to a decrease in the underlying instruments, the position
would be less valuable and the Fund would be required to make a variation margin
payment to the broker. At any time prior to expiration of the futures contract,
the Advisor may elect to close the position by taking an opposite position,
subject to the availability of a secondary market, which will operate to
terminate the Fund's position in the futures contract. A final determination of
variation margin is then made, additional cash is required to be paid by or
released to the Fund, and the Fund realizes a loss or gain.
IV. Risks of Transactions in Futures Contracts
------------------------------------------
There are several risks in connection with the use of futures by the Fund
as hedging devices. One risk arises because of the imperfect correlation
between movements in the price of futures and movements in the price of the
instruments which are the subject of the hedge. The price of futures may move
more than or less than the price of the instruments being hedged. If the price
of futures moves less than the price of the instruments which are the subject of
the hedge, the hedge will not be fully effective but, if the price of the
instruments being hedged has moved in an unfavorable direction, the Fund would
be in a better position than if it had not hedged at all. If the price of the
instruments being hedged has moved in a favorable direction, this advantage will
be partially offset by the loss on the futures. If the price of the futures
moves more than the price of the hedged instruments, the Fund involved will
experience either a loss or gain on the futures which will not be completely
offset by movements in the price of the instruments which are the subject of the
hedge. To compensate for the imperfect correlation of movements in the price of
instruments being hedged and movements in the price of futures contracts, the
Fund may buy or sell futures contracts in a greater dollar amount than the
dollar amount of instruments being hedged if the volatility over a particular
time period of the prices of such instruments has been greater than the
volatility over such time period of the futures, or if otherwise deemed to be
appropriate by the Advisor. Conversely, the Fund may buy or sell fewer futures
contracts if the volatility over a particular time period of the prices of the
instruments being
B-4
<PAGE>
hedged is less than the volatility over such time period of the futures contract
being used, or if otherwise deemed to be appropriate by the Advisor. It is also
possible that, when the Fund had sold futures to hedge its portfolio against a
decline in the market, the market may advance and the value of the futures
instruments held in the Fund may decline. If this occurs, the Fund would lose
money on the futures and also experience a decline in value in its portfolio
securities.
Where futures are purchased to hedge against a possible increase in the
price of securities before the Fund is able to invest its cash (or cash
equivalents) in an orderly fashion, it is possible that the market may decline
instead; if the Fund then concludes not to invest its cash at that time because
of concern as to possible further market decline or for other reasons, the Fund
will realize a loss on the futures contract that is not offset by a reduction in
the price of the securities that were to be purchased.
In instances involving the purchase of futures contracts by the Fund, an
amount of cash and cash equivalents, equal to the market value of the futures
contracts, will be deposited in a segregated account with the Fund's custodian
and/or in a margin account with a broker to collateralize the position and
thereby insure that the use of such futures is unleveraged.
In addition to the possibility that there may be an imperfect correlation,
or no correlation at all, between movements in the futures and the instruments
being hedged, the price of futures may not correlate perfectly with movement in
the cash market due to certain market distortions. Rather than meeting
additional margin deposit requirements, investors may close futures contracts
through off-setting transactions which could distort the normal relationship
between the cash and futures markets. Second, with respect to financial futures
contracts, the liquidity of the futures market depends on participants entering
into off-setting transactions rather than making or taking delivery. To the
extent participants decide to make or take delivery, liquidity in the futures
market could be reduced, thus producing distortions. Third, from the point of
view of speculators, the deposit requirements in the futures market are less
onerous than margin requirements in the securities market. Therefore, increased
participation by speculators in the futures market may also cause temporary
price distortions. Due to the possibility of price distortion in the futures
market, and because of the imperfect correlation between the movements in the
cash market and movements in the price of futures, a correct forecast of general
market trends or interest rate movements by the Advisor may still not result in
a successful hedging transaction over a short time frame.
Positions in futures may be closed out only on an exchange or board of
trade which provides a secondary market for such futures. Although the Fund
intends to purchase or sell futures only on exchanges or Board of trade where
there appear to be active secondary markets, there is no assurance that a liquid
secondary market on any exchange or board of trade will exist for any particular
contract or at any particular time. When there is no liquid market, it may not
be possible to close a futures investment position, and in the event of adverse
price movements, the Fund would continue to be required to make daily cash
payments of variation margin. However, in the event futures contracts have been
used to hedge portfolio securities, such securities will not be sold until the
futures contract can be terminated. In such circumstances, an increase in the
price of the securities, if any, may partially or completely offset losses on
the futures contract. However, as described above, there is no guarantee that
the price of the securities will in fact correlate with the price movements in
the futures contract and thus provide an offset on a futures contract.
Further, it should be noted that the liquidity of a secondary market in a
futures contract may be adversely affected by "daily price fluctuation limits"
established by commodities exchanges which limit the amount of fluctuation in a
futures contract price during a single trading day. Once the daily limit has
been reached in the contract, no trades may be entered into at a price beyond
the limit, thus preventing the liquidation of open futures positions. The
trading of futures contracts is also subject to the risk of trading halts,
suspensions, exchange or clearing house equipment failures, government
intervention, insolvency of a brokerage firm or clearing house or other
disruptions of normal activity, which could at times make it difficult or
impossible to liquidate existing positions or to recover excess variation margin
payments.
Successful use of futures by the Fund is also subject to the Advisor's
ability to predict correctly movements in the direction of the market. For
example, if a particular Fund has hedged against the possibility of a decline in
the market adversely affecting securities held by it and securities prices
increase instead, the Fund will lose part or all of the benefit to the increased
value of its securities which it has hedged because it will have offsetting
losses in
B-5
<PAGE>
its futures positions. In addition, in such situations, if the Fund has
insufficient cash, it may have to sell securities to meet daily variation margin
requirements. Such sales of securities may be, but will not necessarily be, at
increased prices which reflect the rising market. The Fund may have to sell
securities at a time when it may be disadvantageous to do so.
V. Options on Futures Contracts
----------------------------
The Fund may purchase and write options on the futures contracts described
above. A futures option gives the holder, in return for the premium paid, the
right to buy from(call) or sell to(put) the writer of the option a futures
contract at a specified price at any time during the period of the option. Upon
exercise, the writer of, the option is obligated to pay the difference between
the cash value of the futures contract and the exercise price. Like the buyer
or seller of a futures contract, the holder, or writer, of an option has the
right to terminate its position prior to the scheduled expiration of the option
by selling, or purchasing an option of the same series, at which time the person
entering into the closing transaction will realize a gain or loss. A Fund will
be required to deposit initial margin and variation margin with respect to put
and call options on futures contracts written by it pursuant to brokers'
requirements similar to those described above. Net option premiums received
will be included as initial margin deposits.
Investments in futures options involve some of the same considerations that
are involved in connection with investments in future contracts (for example,
the existence of a liquid secondary market). In addition, the purchase or sale
of an option also entails the risk that changes in the value of the underlying
futures contract will not correspond to changes in the value of the option
purchased. Depending on the pricing of the option compared to either the
futures contract upon which it is based, or upon the price of the securities
being hedged, an option may or may not be less risky than ownership of the
futures contract or such securities. In general, the market prices of options
can be expected to be more volatile than the market prices on underlying futures
contract. Compared to the purchase or sale of futures contracts, however, the
purchase of call or put options on futures contracts may frequently involve less
potential risk to the Fund because the maximum amount at risk is the premium
paid for the options (plus transaction costs). The writing of an option on a
futures contract involves risks similar to those risks relating to the sale of
futures contracts.
VI. Currency Transactions
---------------------
The Fund may engage in currency transactions in order to hedge the value of
portfolio holdings denominated in particular currencies against fluctuations in
relative value. Currency transactions include forward currency contracts,
currency futures, options on currencies, and currency swaps. A forward currency
contract involves a privately negotiated obligation to purchase or sell (with
delivery generally required) a specific currency at a future date, which may be
any fixed number of days from the date of the contract agreed upon by the
parties, at a price set at the time of the contract. A currency swap is an
agreement to exchange cash flows based on the notional difference among two or
more currencies and operates similarly to an interest rate swap as described in
the SAI. The Fund may enter into currency transactions with counterparties
which have received (or the guarantors of the obligations which have received) a
credit rating of A-1 or P-1 by S&P or Moody's, respectively, or that have an
equivalent rating from a NRSRO or are determined to be of equivalent credit
quality by the Advisor or World.
The Fund's dealings in forward currency contracts and other currency
transactions such as futures, options, options on futures and swaps will be
limited to hedging involving either specific transactions or portfolio
positions. Transaction hedging is entering into a currency transaction with
respect to specific assets or liabilities of the Fund, which will generally
arise in connection with the purchase or sale of its portfolio securities or the
receipt of income therefrom. Position hedging is entering into a currency
transaction with respect to portfolio security positions denominated or
generally quoted in that currency.
The Fund will not enter into a transaction to hedge currency exposure to an
extent greater after netting all transactions intended wholly or partially to
offset other transactions, than the aggregate market value (at the time of
entering into the transaction) of the securities held in its portfolio that are
denominated or generally quoted in or currently convertible into such currency,
other than with respect to proxy hedging as described below.
B-6
<PAGE>
The Fund may also cross-hedge currencies by entering into transactions to
purchase or sell one or more currencies that are expected to decline in value
relative to other currencies to which the Fund has or in which the Fund expects
to have portfolio exposure.
To reduce the effect of currency fluctuations on the value of existing or
anticipated holdings of portfolio securities, the Fund may also engage proxy
hedging. Proxy hedging is often used when the currency to which the Fund's
portfolio is exposed is difficult to hedge or to hedge against the dollar.
Proxy hedging entails entering into a commitment or option to sell a currency
whose changes in value are generally considered to be correlated to a currency
or currencies in which some or all of the Fund's portfolio securities are or are
expected to be denominated, in exchange for U.S. dollars. The amount of the
commitment or option would not exceed the value of the Fund's securities
denominated in correlated currencies. For example, if the Advisor considers
that the Austrian schilling is correlated to the German mark (the "D-mark"), the
Fund holds securities denominated in shillings and the Advisor believes that the
value of the schillings will decline against the U.S. dollar, the Advisor may
enter into a commitment or option to sell D-marks and buy dollars. Currency
hedging involves some of the same risks and considerations as other transactions
with similar instruments. Currency transactions can result in losses to the
Fund if the currency being hedged fluctuates in value to a degree or in a
direction that is not anticipated. Further, there is the risk that the
perceived correlation between various currencies may not be present or may not
be present during the particular time that the Fund is engaging in proxy
hedging. If the Fund enters into a currency hedging transaction, the Fund will
designate liquid, high grade assets on the books of the Fund's custodian to the
extent the Fund's obligations are not otherwise "covered" through ownership of
the underlying currency.
Currency transactions are subject to risks different from those of other
portfolio transactions. Because currency control is of great importance to the
issuing governments and influences economic planning and policy, purchases and
sales of currency and related instruments can be negatively affected by
government exchange controls, blockages, and manipulations or exchange
restrictions imposed by governments. These can result in losses to the Fund if
it is unable to deliver or receive currency or funds in settlement of
obligations and could also cause hedges it has entered into to be rendered
useless, resulting in full currency exposure as well as incurring transaction
costs. Buyers and sellers of currency futures are subject to the same risks
that apply to the use of futures generally. Further, settlement of a currency
futures contract for the purchase of most currencies must occur at a bank based
in the issuing nation. Trading options on currency futures is relatively new,
and the ability to establish and close to positions on such options is subject
to the maintenance of a liquid market which may not always be available.
Currency exchange rates may fluctuate based on factors extrinsic to that
country's economy.
VII. Other Matters
-------------
Accounting for futures contracts will be in accordance with generally
accepted accounting principles.
B-7
<PAGE>
VIII. Options
-------
The Fund may write covered call options, buy put options, buy call options
and write secured put options. Such options may relate to particular securities
and may or may not be listed on a national securities exchange and issued by the
Options Clearing Corporation. Options trading is a highly specialized activity
which entails greater than ordinary investment risk. Options on particular
securities may be more volatile than the underlying securities, and therefore,
on a percentage basis, an investment in options may be subject to greater
fluctuation than an investment in the underlying securities themselves.
A call option for a particular security gives the purchaser of the option
the right to buy, and the writer of the option the obligation to sell, the
underlying security at the stated exercise price at any time prior to the
expiration of the option, regardless of the market price of the security. The
premium paid to the writer is in consideration for undertaking the obligations
under the option contract. A put option for a particular security gives the
purchaser the right to sell, and the writer of the option the obligation to buy,
the underlying security at the stated exercise price at any time prior to the
expiration date of the option, regardless of the market price of the security.
The writer of an option that wishes to terminate its obligation may effect
a "closing purchase transaction." This is accomplished by buying an option of
the same series as the option previously written. The effect of the purchase is
that the writer's position will be canceled by the clearing corporation.
However, a writer may not effect a closing purchase transaction after being
notified of the exercise of an option. Likewise, an investor who is the holder
of an option may liquidate its position by effecting a "closing sale
transaction." The cost of such a closing purchase plus transaction costs may be
greater than the premium received upon the original option, in which event the
Fund will have incurred a loss in the transaction. There is no guarantee in any
instance that either a closing purchase or a closing sale transaction can be
effected.
Effecting a closing transaction in the case of a written call option will
permit the Fund to write another call option on the underlying security with
either a different exercise price or expiration date or both, or in the case of
a written put option, will permit the Fund to write another put option to the
extent that the exercise price thereof is secured by deposited cash or short-
term securities. Also, effecting a closing transaction will permit the cash or
proceeds from the concurrent sale of any securities subject to the option to be
used for other Fund investments. If the Fund desires to sell a particular
security from its portfolio on which it has written a call option, it will
effect a closing transaction prior to or concurrent with the sale of the
security.
The Fund may write options in connection with buy-and-write transactions;
that is, the Fund may purchase a security and then write a call option against
that security. The exercise price of the call the Fund determines to write will
depend upon the expected price movement of the underlying security. The
exercise price of a call option may be below ("in-the-money"), equal to ("at-
the-money") or above ("out-of-the-money") the current value of the underlying
security at the time the option is written. Buy-and-write transactions using
in-the-money call options may be used when it is expected that the price of the
underlying security will remain flat or decline moderately during the option
period. Buy-and-write transactions using out-of-the-money call options may be
used when it is expected that the premiums received from writing the call option
plus the appreciation in the market price of the underlying security up to the
exercise price will be greater than the appreciation in the price of the
underlying security alone. If the call options are exercised in such
transactions, the maximum gain to the Fund will be the premium received by it
for writing the option, adjusted upwards or downwards by the difference between
the Fund's purchase price of the security and the exercise price. If the
options are not exercised and the price of the underlying security declines, the
amount of such decline will be offset in part, or entirely, by the premium
received.
In the case of writing a call option on a security, the option is "covered"
if the Fund owns the security underlying the call or has an absolute and
immediate right to acquire that security without additional cash consideration
(or, if additional cash consideration is required, cash or liquid securities in
such amount as are earmarked on the books of the Fund's custodian) upon
conversion or exchange of other securities held by it. For a call option on an
index, the option is covered if the Fund maintains with its custodian cash or
liquid securities equal to the contract value. A call option is also covered if
the Fund holds a call on the same security or index as the call written where
the exercise price of the call held is (i) equal to or less than the exercise
price of the call written, or (ii) greater than the exercise price of the call
written provided the difference in cash or liquid securities is earmarked
B-8
<PAGE>
on the books of the Fund's custodian. The Fund will limit its investment in
uncovered call options purchased or written by the Fund to 33 1/3% of the Fund's
total assets. The Fund will write put options only if they are "secured" by cash
or liquid securities earmarked on the books of the Fund's custodian in an amount
not less than the exercise price of the option at all times during the option
period.
The writing of covered put options is similar in terms of risk/return
characteristics to buy-and-write transactions. If the market price of the
underlying security rises or otherwise is above the exercise price, the put
option will expire worthless and the Fund's gain will be limited to the premium
received. If the market price of the underlying security declines or otherwise
is below the exercise price, the Fund may elect to close the position or take
delivery of the security at the exercise price and the Fund's return will be the
premium received from the put option minus the amount by which the market price
of the security is below the exercise price.
The Fund may purchase put options to hedge against a decline in the value
of their portfolios. By using put options in this way, the Fund will reduce any
profit it might otherwise have realized in the underlying security by the amount
of the premium paid for the put option and by transaction costs. The Fund may
purchase call options to hedge against an increase in the price of securities
that they anticipate purchasing in the future. The premium paid for the call
option plus any transaction costs will reduce the benefit, if any, realized by
the Fund upon exercise of the option, and, unless the price of the underlying
security rises sufficiently, the option may expire worthless to the Fund.
When the Fund purchases an option, the premium paid by it is recorded as an
asset of the Fund. When the Fund writes an option, an amount equal to the net
premium (the premium less the commission) received by the Fund is included in
the liability section of the Fund's statement of assets and liabilities as a
deferred credit. The amount of this asset or deferred credit will be
subsequently marked to market to reflect the current value of the option
purchased or written. The current value of the traded option is the last sale
price or, in the absence of a sale, the average of the closing bid and asked
prices. If an option purchased by the Fund expires unexercised the Fund
realizes a loss equal to the premium paid. If the Fund enters into a closing
sale transaction on an option purchased by it, the Fund will realize a gain if
the premium received by the Fund on the closing transaction is more than the
premium paid to purchase the option, or a loss if it is less. If an option
written by the Fund expires on the stipulated expiration date or if the Fund
enters into a closing purchase transaction, it will realize a gain (or loss if
the cost of a closing purchase transaction exceeds the net premium received when
the option is sold) and the deferred credit related to such option will be
eliminated. If an option written by the Fund is exercised, the proceeds of the
sale will be increased by the net premium originally received and the Fund will
realize a gain or loss.
There are several risks associated with transactions in options on
securities and indices. For example, there are significant differences between
the securities and options markets that could result in an imperfect correlation
between these markets, causing a given transaction not to achieve its
objectives. An option writer unable to effect a closing purchase transaction
will not be able to sell the underlying security (in the case of a covered call
option) or liquidate the earmarked securities (in the case of a secured put
option) until the option expires or the optioned security is delivered upon
exercise with the result that the writer in such circumstances will be subject
to the risk of market decline or appreciation in the security during such
period.
There is no assurance that the Fund will be able to close an unlisted
option position. Furthermore, unlisted options are not subject to the
protections afforded purchasers of listed options by the Options Clearing
Corporation, which performs the obligations of its members who fail to do so in
connection with the purchase or sale of options.
In addition, a liquid secondary market for particular options, whether
traded over-the-counter or on a national securities exchange (an "Exchange"),
may be absent for reasons which include the following: there may be insufficient
trading interest in certain options; restrictions may be imposed by an Exchange
on opening transactions or closing transactions or both; trading halts,
suspensions or other restrictions may be imposed with respect to particular
classes or series of options or underlying securities; unusual or unforeseen
circumstances may interrupt normal operations on an Exchange; the facilities of
an Exchange or the Options Clearing Corporation may not at all times be adequate
to handle current trading volume; or one or more Exchanges could, for economic
or other reasons, decide or be compelled at some future date to discontinue the
trading of options (or a particular class or series of options), in which event
the secondary market on that Exchange (or in that class or series of options)
would
B-9
<PAGE>
cease to exist, although outstanding options that had been issued by the Options
Clearing Corporation as a result of trades on that Exchange would continue to be
exercisable in accordance with their terms.
Currency transactions, including options on currencies and currency
futures, are subject to risks different from those of other portfolio
transactions. Because currency control is of great importance to the issuing
governments and influences economic planning and policy, purchases and sales of
currency and related instruments can be negatively affected by government
exchange controls, blockages, and manipulations or exchange restrictions imposed
by governments. These can result in losses to a Fund if it is unable to deliver
or receive currency or funds in settlement of obligations and could also cause
hedges it has entered into to be rendered useless, resulting in full currency
exposure as well as the incurring of transaction costs. Buyers and sellers of
currency futures are subject to the same risks that apply to the use of futures
generally. Further, settlement of a currency futures contract for the purchase
of most currencies must occur at a bank based in the issuing nation. Trading
options on currency futures is relatively new, and the ability to establish and
close out positions on such options is subject to the maintenance of a liquid
market which may not always be available. Currency exchange rates may fluctuate
based on factors extrinsic to the issuing country's economy.
B-10
