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LEGG MASON
FINANCIAL SERVICES FUND
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PRIMARY CLASS AND CLASS A PROSPECTUS October 5, 1999
[LEGG MASON FUNDS Logo Appears Here]
HOW TO INVEST(SM)
As with all mutual funds, the Securities and Exchange Commission has not passed
upon the adequacy of this prospectus, nor has it approved or disapproved these
securities. It is a criminal offense to state otherwise.
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TABLE OF CONTENTS
ABOUT THE FUND:
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1 Investment objective
3 Principal risks
5 Performance
6 Fees and expenses of the fund
8 Management
ABOUT YOUR INVESTMENT:
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10 How to invest
14 How to sell your shares
16 Account policies
17 Services for investors
19 Dividends and taxes
21 Financial highlights
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LEGG MASON FINANCIAL SERVICES FUND
INVESTMENT OBJECTIVE
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INVESTMENT OBJECTIVE: LONG-TERM GROWTH OF CAPITAL.
PRINCIPAL INVESTMENT STRATEGIES:
Gray, Seifert & Co., Inc., the fund's sub-adviser, under normal circumstances
concentrates the fund's investments by investing substantially all of the fund's
assets in equity securities of issuers in the financial services industry that
it believes are undervalued and thus may offer above-average potential for
capital appreciation. Equity securities include common stocks, preferred stocks,
convertible securities, rights and warrants.
Financial services companies include, but are not limited to:
o regional and money center banks
o securities brokerage firms
o asset management companies
o savings banks and thrift institutions
o specialty finance companies (e.g., credit card and mortgage providers)
o insurance and insurance brokerage firms
o government-sponsored agencies, such as Fannie Mae
o financial conglomerates
o foreign financial services companies (limited to 25% of total assets,
not including ADRs)
Investments may also include securities of companies that derive more than 50%
of their revenues from providing products and services to the financial services
industry, including software, hardware, publishing, news services, credit
research and ratings services, internet services and business services.
The sub-adviser believes the financial services industry is undergoing many
changes due to legislation reform and the shifting demographics of the
population. In deciding what securities to buy, the sub-adviser analyzes an
issuer's financial statements to determine earnings per share potential. It also
reviews, as appropriate, the economy where the issuer does business,
Legg Mason Financial Services Fund 1
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the products offered, its potential to benefit from industry changes, and the
strength and goals of management.
The sub-adviser will sell a security in the fund's portfolio if that security
experiences earnings problems.
For temporary defensive purposes, the fund may hold all or a portion of its
assets in money market instruments, cash equivalents, short-term government and
corporate obligations, or repurchase agreements. The fund may not achieve its
investment objective when so invested.
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PRINCIPAL RISKS
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IN GENERAL:
An investment in the fund is not guaranteed; investors may lose money by
investing in the fund. There is no guarantee that the fund will achieve its
investment objective. The principal risks of investing in the fund are described
below.
MARKET RISK:
Stock prices generally fluctuate more than those of other securities. A fund may
experience a substantial or complete loss on an individual stock. Market risk
may affect a single issuer, industry or section of the economy, or may affect
the market as a whole.
CONCENTRATION RISK:
The fund invests primarily in securities in the financial services industry.
A fund concentrating most of its investments in a single industry will be more
susceptible to factors adversely affecting issuers within that industry than
would a more diversified portfolio of securities.
Financial services companies are subject to extensive government regulation. The
profitability of financial services companies is dependent on the availability
and cost of funds, and can fluctuate significantly when interest rates change.
Economic downturns, credit losses and severe price competition can negatively
affect this industry.
CREDIT RISK:
There is a risk that the fund's holdings in fixed income securities could be
downgraded or could default in payment of principal or interest. Credit ratings
are the opinions of the private companies that rate companies or their
securities; they are not guarantees.
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FOREIGN SECURITIES RISK:
Investments in foreign securities (including those denominated in U.S. dollars)
involve certain risks not typically associated with investments in domestic
issuers. The values of foreign securities are subject to economic and political
developments in the countries and regions where the companies operate, such as
changes in economic or monetary policies, and to changes in exchange rates.
Values may also be affected by foreign tax laws and restrictions on receiving
the investment proceeds from a foreign country. Some foreign governments have
defaulted on principal and interest payments.
In general, less information is publicly available about foreign companies than
about U.S. companies. Foreign companies are generally not subject to the same
accounting, auditing and financial reporting standards as are U.S. companies.
Transactions in foreign securities may be subject to less efficient settlement
practices, including extended clearance and settlement periods. Foreign stock
markets may be less liquid and less regulated than U.S. stock markets.
YEAR 2000:
Like other mutual funds (and most organizations around the world), the fund
could be adversely affected by computer problems related to the year 2000. These
could interfere with the operations of the fund, its adviser, distributor or
sub-adviser, and other outside service providers, and could impact companies in
which the fund invests.
While no one knows if these problems will have any impact on the fund or on
financial markets in general, the adviser and its affiliates and the other
service providers to the fund have reported that they are taking steps to
protect fund investors. These include efforts to determine that the problems
will not directly affect the systems used by major service providers.
Whether these steps will be effective can only be known for certain in the year
2000.
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PERFORMANCE
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The fund has three authorized classes of shares: Class A, Primary Class
and Navigator Class. Each class is subject to different expenses and a
different sales charge structure. As of the date of this prospectus,
the fund has not been in operation for a full calendar year; therefore,
no performance information is presented.
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FEES AND EXPENSES OF THE FUND
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The table below describes the fees and expenses you will incur directly or
indirectly as an investor in the fund. The fund pays operating expenses directly
out of its assets, so they will lower the fund's share price and dividends.
Other expenses include transfer agency, custody, professional and registration
fees.
Shareholder Fees
(fees paid directly from your investment)
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Class A Primary Class
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Maximum sales charge (load) imposed on
purchases (as a % of offering price) 4.75% (a) None
Maximum deferred sales charge
(as a % of net asset value) None (b) None
Annual Fund Operating Expenses
(expenses that are deducted from fund assets) (c)
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Class A Primary Class
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Management fees 1.00% (d) 1.00% (e)
Service (12b-1) fees 0.25% 1.00%
Other expenses 0.40% 0.40%
Total annual fund operating expenses 1.65% (d) 2.40% (e)
(a) Sales charge waivers and reduced sales charge purchase plans are available
for Class A shares. See "How to Invest."
(b) A contingent deferred sales charge ("CDSC") of 1% of the net asset value of
Class A shares will be imposed on redemptions of shares purchased pursuant
to the front-end sales charge waiver on purchases of $1 million or more of
Class A shares made within one year of the purchase date. See "How to
Invest."
(c) The fees and expenses shown are for the fiscal year ended December 31, 1998,
and are calculated as a percentage of average net assets.
(d) Legg Mason Fund Adviser, Inc., as investment adviser, has voluntarily agreed
to waive fees so that expenses of Class A shares (exclusive of taxes,
interest, brokerage and extraordinary expenses) do not exceed an # Legg
MasonFinancial Services Fundannual rate of 1.50% of the fund's average daily
net assets attributable
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to Class A shares. This voluntary waiver will continue until May 1, 2000,
and may be terminated at any time. With this waiver, management fees and
total annual fund operating expenses were 0.85% and 1.50%, respectively.
(e) Legg Mason Fund Adviser, Inc., as investment adviser, has voluntarily agreed
to waive fees so that expenses of Primary Class shares (exclusive of taxes,
interest, brokerage and extraordinary expenses) do not exceed an annual rate
of 2.25% of the fund's average daily net assets attributable to Primary
Class shares. This voluntary waiver will continue until May 1, 2000, and may
be terminated at any time. With this waiver, management fees and total
annual fund operating expenses were 0.85% and 2.25%, respectively.
EXAMPLE:
This example helps you compare the cost of investing in the fund with the cost
of investing in other mutual funds. Although your actual costs may be higher or
lower, you would pay the following expenses on a $10,000 investment in the fund,
assuming (1) a 5% return each year, (2) the fund's operating expenses remain the
same as shown in the table above, and (3) that you redeem all of your shares at
the end of the time periods shown.
1 Year 3 Years 5 Years 10 Years
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Class A Shares $635 $971 $1,329 $2,337
Primary Class Shares $243 $748 $1,280 $2,736
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MANAGEMENT
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ADVISER:
Legg Mason Fund Adviser, Inc., 100 Light Street, Baltimore, Maryland 21202, is
the fund's investment adviser. The adviser is responsible for the actual
investment management of the fund, including making investment decisions and
placing orders to buy, sell or hold a particular security. The adviser has
delegated investment advisory functions for the fund to a sub-adviser, as
described below. The adviser also supervises all aspects of the operations of
the fund as administrator.
Prior to October 6, 1999, Bartlett & Co. served as investment adviser to the
fund, under compensation arrangements substantially similar to those with the
current adviser. For its services during the fiscal year ended December 31,
1998, the fund paid the adviser a fee of 1.00% of its average daily net assets,
net of any waivers.
The adviser acts as manager or adviser to investment companies with aggregate
assets of $19.6 billion as of August 31, 1999.
SUB-ADVISER:
Gray, Seifert & Co., 380 Madison Avenue, New York, New York 10017, serves as
investment sub-adviser to the fund. For its services, Gray, Seifert receives a
monthly fee from the adviser equal to 60% of the fee actually paid to the
adviser by the fund (net of any waivers). Gray, Seifert is known for its
research and securities analysis with respect to the financial services
industry. It has not previously advised a mutual fund; however, Gray, Seifert
has been the evaluator of the Legg Mason Regional Bank and Thrift Unit
Investment Trusts. As of August 31, 1999, Gray, Seifert had aggregate assets
under management of $1.1 billion.
PORTFOLIO MANAGEMENT:
Miles Seifert and Amy LaGuardia are responsible for co-managing the fund. Mr.
Seifert has been Chairperson of the Board and a Director of Gray, Seifert since
its inception in 1980. Ms. LaGuardia has been Senior Vice President and Director
of Research at Gray, Seifert for four years. Prior thereto, she was Vice
President. She has been employed at Gray, Seifert since 1982.
8 Legg Mason Financial Services Fund
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DISTRIBUTOR OF THE FUND'S SHARES:
Legg Mason Wood Walker, Incorporated, 100 Light Street, Baltimore, Maryland
21202, is the distributor of the fund's shares. The fund has adopted a separate
plan with respect to each class that allows it to pay distribution fees and/or
shareholder service fees for the sale of its shares and for services provided to
shareholders. The fees are calculated daily and paid monthly.
Each class of shares bears differing class-specific expenses. Salespersons and
others entitled to receive compensation for selling or servicing fund shares may
receive more with respect to one class than another.
For Class A shares, the fund may pay the distributor a service fee at an annual
rate of 0.25% of its average daily Class A net assets.
For Primary Class shares, the fund may pay the distributor a distribution fee at
an annual rate of 0.75% and a service fee of 0.25% of average daily Primary
Class net assets.
Because these fees are paid out of the fund's assets on an ongoing basis, over
time these fees will increase the cost of your investment and may cost you more
than paying other types of sales charges.
The distributor collects the sales charges imposed on purchases of Class A
shares and any CDSCs that may be imposed on certain redemptions of Class A
shares. The distributor reallows a portion of the sales charges on Class A
shares to broker/dealers that have sold such shares in accordance with the Class
A purchase schedule, and may from time to time reallow the full amount of the
sales charge.
The distributor may also pay special additional compensation and promotional
incentives to broker/dealers who sell Class A shares of the fund.
The distributor may enter into agreements with other brokers to sell Primary
Class shares of the fund. The distributor pays these brokers up to 90% of the
distribution and service fees that it receives from the fund for those sales.
The adviser, sub-adviser and distributor are wholly owned subsidiaries of Legg
Mason, Inc., a financial services holding company.
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HOW TO INVEST
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To open a regular account or a retirement account with the fund, contact a Legg
Mason financial advisor or other entity that has entered into an agreement with
the fund's distributor to sell shares of the Legg Mason family of funds. A Legg
Mason financial advisor will explain the shareholder services available from the
fund and answer any questions you may have. For each class of shares the minimum
initial investment is $1,000 and the minimum for each purchase of additional
shares is $100, except as noted below.
Retirement accounts include traditional IRAs, spousal IRAs, education IRAs, Roth
IRAs, simplified employee pension plans, savings incentive match plans for
employees, and other qualified retirement plans. Contact your Legg Mason
financial advisor or other entity offering the fund to discuss which one might
be appropriate for you.
When placing a purchase order, please specify whether the order is for Class A
or Primary Class. All purchase orders that fail to specify a class will
automatically be invested in Primary Class shares.
Once your account is open, you may use the following methods to add to your
account:
In Person Give your financial advisor a check for $100 or more payable
to the fund.
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Mail Mail your check, payable to the fund, for $100 or more to your
financial advisor.
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Telephone or Call your financial advisor to transfer available cash
Wire balances in your brokerage account or to transfer money from
your bank directly to Legg Mason. Wire transfers may be
subject to a service charge by your bank.
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Future First Contact your Legg Mason financial advisor to enroll in Legg
Mason's Future First
Systematic Systematic Investment Plan. Under this plan, you may arrange
for automatic
Investment Plan monthly investments in the fund of $50 or more. The fund's
transfer agent will transfer funds monthly from your Legg
Mason account or from your checking account to purchase shares
of the fund.
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Automatic Arrangements may be made with some employers and financial
institutions for
Investments regular automatic monthly investments of $50 or more in shares
of the fund. You may also reinvest dividends from certain unit
investment trusts in shares of the fund.
Call your financial advisor or another entity offering the fund for sale with
any questions regarding the investment options above.
Certain investment methods may be subject to lower minimum initial and
additional investments.
10 Legg Mason Financial Services Fund
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Investments made through entities other than Legg Mason may be subject to
transaction fees or other purchase conditions established by those entities. You
should consult their program literature for further information.
Purchase orders received by your financial advisor or the entity offering the
fund before the close of the New York Stock Exchange (normally 4:00 p.m.,
Eastern time) will be processed at the fund's net asset value as of the close of
the exchange on that day. Orders received after the close of the exchange will
be processed at the fund's net asset value as of the close of the exchange on
the next day the exchange is open. Payment must be made within three business
days to Legg Mason.
Navigator Class shares are offered through a separate prospectus only to certain
institutional investors.
CLASS A PURCHASE SCHEDULE:
The fund's offering price for Class A purchases is equal to the net asset value
per share plus a front-end sales charge determined from the following schedule
(which may be amended from time to time):
Dealer
Sales Charge Sales Charge Reallowance
as a % of as a % of as a % of
Amount of Purchase Offering Price Net Investment Offering Price
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Less than $25,000 4.75% 4.99% 4.00%
$25,000 to $49,999 4.50 4.71 3.75
$50,000 to $99,999 4.00 4.17 3.25
$100,000 to $249,999 3.50 3.63 2.75
$250,000 to $499,999 2.50 2.56 2.00
$500,000 to $999,999 2.00 2.04 1.60
$1 million or more * 0.00 0.00 1.00
* A CDSC of 1% of the shares' net asset value at the time of purchase or sale,
whichever is less, may be charged on redemptions of shares purchased pursuant to
the front-end sales charge waiver for purchases of $1 million or more made
within one year of the purchase date. See "How to Sell Your Shares" for a
discussion of any applicable CDSC on Class A shares.
Legg Mason Financial Services Fund 11
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The distributor will pay the following commissions to brokers that initiate and
are responsible for purchases of Class A shares of any single purchaser of $2
million or more in the aggregate: 0.80% up to $2,999,999, plus 0.50% of the
excess over $3 million up to $20 million, plus 0.25% of the excess over $20
million.
SALES CHARGE WAIVERS FOR CLASS A SHARES:
Purchases of Class A shares made by the following investors will not be subject
to a sales charge:
o advisory clients (and related accounts) of Gray, Seifert
o certain employee benefit or retirement accounts (subject to the
discretion of Gray, Seifert)
o employees of Legg Mason, Inc. and its affiliates
o registered representatives or full-time employees of broker/dealers that
have dealer agreements with the distributor
o the children, siblings and parents of such persons
o broker/dealers, registered investment advisers, financial institutions
or financial planners for the accounts of clients participating in "wrap
fee" advisory programs that adhere to certain standards and that are
subject to agreements between those entities and the distributor
o purchases of $1,000,000 or more
Investors may be eligible for a reduced sales charge on purchases of Class A
shares through a Right of Accumulation or under a Letter of Intent.
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RIGHT OF ACCUMULATION:
To receive the Right of Accumulation, investors must give the distributor or
their broker/dealer sufficient information to permit qualification. If
qualified, investors may purchase shares of the fund at the sales charge
applicable to the total of:
o the dollar amount being purchased, plus
o the dollar amount of the investors' concurrent purchases of Class A
shares of other funds, plus
o the price of all Class A shares of funds already held by the investor.
LETTER OF INTENT:
Investors may execute a Letter of Intent indicating an aggregate amount to be
invested in Class A shares of any fund in the following 13 months. All purchases
made during that period will be subject to the sales charge applicable to that
aggregate amount.
If a Letter of Intent is executed within 90 days of a prior purchase of
Class A shares, the prior purchase may be included under the Letter of Intent
and an adjustment will be made to the applicable sales charge. The adjustment
will be based on the current net asset value of the respective fund(s).
If the total amount of purchases does not equal the aggregate amount covered by
the Letter of Intent after the thirteenth month, you will be required to pay the
difference between the sales charges paid at the reduced rate and the sales
charge applicable to the purchases actually made.
Shares having a value equal to 5% of the amount specified in the Letter of
Intent will be held in escrow during the 13-month period (while remaining
registered in your name) and will be subject to redemption to assure any
necessary payment to the distributor of a higher applicable sales charge.
Legg Mason Financial Services Fund 13
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HOW TO SELL YOUR SHARES
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Redemptions made through entities other than Legg Mason may be subject to
transaction fees or other conditions imposed by those entities. You should
consult their program literature for further information.
Any of the following methods may be used to sell your shares:
Telephone Call your Legg Mason financial advisor or entity offering the fund
and request a redemption. Please have the following information ready
when you call: the name of the fund, the number of shares (or dollar
amount) to be redeemed, and your shareholder account number.
Proceeds will be credited to your brokerage account or a check will
be sent to you, at your direction, at no charge to you. Wire requests
will be subject to a fee of $18. Be sure that your financial advisor
has your bank account information on file.
The fund will follow reasonable procedures to ensure the validity of
any telephone redemption request, such as requesting identifying
information from callers or employing identification numbers. Unless
you specify that you do not wish to have telephone redemption
privileges, you may be held responsible for any fraudulent telephone
order.
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Mail Send a letter to the fund requesting redemption of your shares. The
letter should be signed by all of the owners of the account and their
signatures guaranteed without qualification. You may obtain a
signature guarantee from most banks or securities dealers.
Your order will be processed promptly and you will generally receive the
proceeds within a week. Fund shares will be sold at the next net asset value
calculated after your redemption request is received by your Legg Mason
financial advisor or another entity.
Payment of the proceeds of redemptions of shares that were recently purchased by
check or acquired through reinvestment of dividends on such shares may be
delayed for up to 10 days from the purchase date in order to allow for the check
to clear.
Additional documentation may be required from corporations, executors,
partnerships, administrators, trustees or custodians.
14 Legg Mason Financial Services Fund
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CONTINGENT DEFERRED SALES CHARGES:
If you redeem any Class A shares within one year that were purchased without a
sales charge because the purchase totaled $1,000,000 or more, you will be
subject to a CDSC of 1% of the lower of the original purchase price or the net
asset value of such shares at the time of redemption. You may exchange such
shares purchased without a sales charge for Class A shares of another fund
without being charged a CDSC. You will be subject to a CDSC if you redeem shares
acquired through exchange.
Class A shares that are redeemed will not be subject to the CDSC to the extent
that the value of such shares represents (i) reinvestment of dividends or other
distributions, or (ii) shares redeemed more than one year after their purchase.
The amount of any CDSC will be paid to the distributor.
The fund will use the "first-in, first-out" method to determine the one- year
holding period. The date of redemption or exchange will be compared with the
earliest purchase date of shares held in the account. The fee will not apply to
any shares purchased through reinvestment of dividends or other distributions or
to shares held in retirement plans; however, it will apply to shares held in IRA
accounts (including IRA-based plans) and to shares purchased through automatic
investment plans.
Legg Mason Financial Services Fund 15
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ACCOUNT POLICIES
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CALCULATION OF NET ASSET VALUE:
Net asset value per Class A share and Primary Class share is determined daily as
of the close of the New York Stock Exchange, on every day the exchange is open.
To calculate the fund's Class A share or Primary Class share price, the fund's
assets attributable to that class of shares are valued and totaled, liabilities
attributable to that class of shares are subtracted, and the resulting net
assets are divided by the number of shares outstanding for that class. The
fund's securities are valued on the basis of market quotations or, lacking such
quotations, at fair value as determined under the guidance of the Board of
Directors.
Securities for which market quotations are readily available are valued at the
last sale price of the day for a comparable position, or, in the absence of any
such sales, the last available bid price for a comparable position. Where a
security is traded on more than one market, the securities are generally valued
on the market considered by the sub-adviser to be the primary market. Fixed
income securities generally are valued using market quotations, independent
pricing services that use prices provided by market makers, or estimates of
market values. Securities with remaining maturities of 60 days or less are
valued at amortized cost.
OTHER:
Fund shares may not be held in, or transferred to, an account with any firm that
does not have an agreement with Legg Mason or its affiliates.
If your account falls below $500 for reasons other than a drop in share price,
the fund may ask you to increase your balance. If, after 60 days, your account
is still below $500, the fund may close your account and send you the proceeds.
The fund reserves the right to:
o reject any order for shares or suspend the offering of shares for a
period of time.
o change its minimum investment amounts.
o delay sending out redemption proceeds for up to seven days. This
generally applies only in cases of very large redemptions, excessive
trading or during unusual market conditions. The fund may delay
redemptions beyond seven days, or suspend redemptions, only as permitted
by the SEC.
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SERVICES FOR INVESTORS
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For further information regarding any of the services below, please contact your
financial advisor or other entity offering the fund for sale.
CONFIRMATIONS AND ACCOUNT STATEMENTS:
You will receive from Legg Mason a confirmation after each transaction involving
Class A shares or Primary Class shares (except a reinvestment of dividends or
capital gain distributions and purchases made through the Future First
Systematic Investment Plan or through automatic investments). Legg Mason or the
entity through which you invest will send you account statements monthly unless
there has been no activity in the account. Legg Mason will send you statements
quarterly if you participate in the Future First Systematic Investment Plan or
if you purchase shares through automatic investments.
SYSTEMATIC WITHDRAWAL PLAN:
If you are purchasing or already own shares of the fund with a net asset value
of $5,000 or more, you may elect to make systematic withdrawals from the fund.
The minimum amount for each withdrawal is $50. You should not purchase shares of
the fund when you are a participant in the plan.
EXCHANGE PRIVILEGE:
Fund shares may be exchanged for the corresponding class of shares of any of the
other Legg Mason funds, provided these funds are eligible for sale in your state
of residence. You can request an exchange in writing or by phone. Be sure to
read the current prospectus for any fund into which you are exchanging.
There is currently no fee for exchanges; however, you may be subject to a sales
charge when exchanging into a fund that has one. A CDSC may apply to the
redemption of Class A shares acquired through an exchange. In addition, an
exchange of the fund's shares will be treated as a sale of the shares and any
gain on the transaction may be subject to tax.
Legg Mason Financial Services Fund 17
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Each fund reserves the right to:
o Terminate or limit the exchange privilege of any shareholder who makes
more than four exchanges from the fund in one calendar year.
o Terminate or modify the exchange privilege after 60 days' written notice
to shareholders.
REINSTATEMENT PRIVILEGE:
If you have redeemed your Class A shares, you may reinstate your fund account
without a sales charge up to the dollar amount redeemed by purchasing shares
within 90 days of the redemption. Within 90 days of a redemption, contact the
distributor or your broker/dealer and notify them of your desire to reinstate
and give them an order for the amount to be purchased. The reinstatement will be
made at the net asset value next determined after the notification and purchase
order have been received by the transfer agent.
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DIVIDENDS AND TAXES
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The fund declares and pays all dividends on an annual basis.
Distributions of substantially all of the fund's net capital gain (the excess of
net long-term capital gain over net short-term capital loss) and any net
realized gain from foreign currency transactions are generally declared and paid
after the end of the tax year in which the gain is realized. A second
distribution of net capital gain may be necessary in some years to avoid
imposition of a federal excise tax.
Your dividends and other distributions will be automatically reinvested in the
same class of shares of the fund. If you wish to begin receiving dividends
and/or other distributions in cash, you must notify the fund at least 10 days
before the next dividend and/or other distribution is to be paid.
If the postal or other delivery service is unable to deliver your check, your
distribution option will automatically be converted to having all dividends and
other distributions reinvested in fund shares. No interest will accrue on
amounts represented by uncashed distribution or redemption checks.
Fund dividends and other distributions are taxable to most investors
(other than retirement plans and other tax-exempt investors) whether received in
cash or reinvested in additional shares of the fund. Dividends from investment
company taxable income are taxable as ordinary income. Distributions of the
fund's net capital gain are taxable as long-term capital gain, regardless of how
long you have held your fund shares.
The sale or exchange of fund shares may result in a taxable gain or loss,
depending on whether the proceeds are more or less than the cost of your shares.
A tax statement is sent to you at the end of each year detailing the tax status
of your distributions.
Legg Mason Financial Services Fund 19
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The fund will withhold 31% of all dividends, capital gain distributions and
redemption proceeds payable to individuals and certain other non-corporate
shareholders who do not provide the fund with a valid taxpayer identification
number or who are otherwise subject to backup withholding. The fund will also
withhold 31% of all dividends and capital gain distributions payable to such
shareholders who are otherwise subject to backup withholding.
Because each investor's tax situation is different, please consult your tax
adviser about federal, state and local tax considerations.
20 Legg Mason Financial Services Fund
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FINANCIAL HIGHLIGHTS
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The financial highlights table below is intended to help you understand the
fund's financial performance since its inception. Total return represents the
rate that an investor would have earned (or lost) on an investment in the fund,
assuming reinvestment of all dividends and other distributions. Certain
information reflects financial results for a single fund share. The information
for the period ended December 31, 1998, has been audited by the fund's
independent accountants, PricewaterhouseCoopers LLP, whose report, along with
the fund's financial statements, is incorporated by reference into the Statement
of Additional Information and is included in the annual report. The annual
report is available upon request by calling toll-free 1-800-822-5544.
Income From Investment Operations
- --------------------------------------------------------------------------------
Net Asset Net Realized &
For the Value, Net Unrealized Total From
Period Beginning Investment Gains On Investment
Ended of Period Income Investments Operations
- --------------------------------------------------------------------------------
Class A:
June 30, 1999* $10.58 $ -- (a) $(.10) $(.10)
Dec. 31, 1998(b) 10.00 -- (a) .58 .58
- --------------------------------------------------------------------------------
Primary Class:
June 30, 1999* $10.57 $(.03)(c) $(.11) $(.14)
Dec. 31, 1998(b) 10.00 (.01)(c) .58 .57
Distributions
- --------------------------------------------------------------------------------
Net Asset
For the From Net From Net Value,
Period Investment Realized Total End of
Ended Income Gain Distributions Period
- --------------------------------------------------------------------------------
Class A:
June 30, 1999* $-- $-- $-- $10.48
Dec. 31, 1998(b) -- -- -- 10.58
- --------------------------------------------------------------------------------
Primary Class:
June 30, 1999* $-- $-- $-- $10.43
Dec. 31, 1998(b) -- -- -- 10.57
Legg Mason Financial Services Fund 21
<PAGE>
- --------------------------------------------------------------------------------
Ratios/Supplemental Data
- --------------------------------------------------------------------------------
Net Investment
Expenses Income (Loss)
For the to Average to Average Portfolio Net Assets,
Period Total Return Net Assets Net Assets Turnover Rate End of Year
Ended: (%) (d) (%) (%) (%) (000)
- --------------------------------------------------------------------------------
Class A:
June 30, 1999* (.95)(e) 1.50(a,f) (.03)(b,f) 18.07(f) $11,090
Dec. 31, 1998(b) 5.80(e) 1.50(a,f) .22(b,f) -- 7,451
- --------------------------------------------------------------------------------
Primary Shares:
June 30, 1999* (1.32)(e) 2.25(c,f) (.76)(c,f) 18.07(f) $32,071
Dec. 31, 1998(b) 5.70(e) 2.25(c,f) (.11)(c,f) -- 14,598
(a) Net of fees waived pursuant to a voluntary expense limitation of 1.50%.
If no fees had been waived, the annualized ratio of expenses to average
daily net assets would have been 1.65%.
(b) November 16, 1998 (commencement of sale of this class) to December 31,
1998.
(c) Net of fees waived pursuant to a voluntary expense limitation of 2.25%.
If no fees had been waived, the annualized ratio of expenses to average
daily net assets would have been 2.40%.
(d) Excluding sales charge.
(e) Not annualized.
(f) Annualized.
* Unaudited. For the period January 1, 1999 to June 30, 1999.
22 Legg Mason Financial Services Fund
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[GRAPHIC]
Legg Mason Financial Services Fund
- --------------------------------------------------------------------------------
The following additional information about the fund is available upon request
and without charge:
STATEMENT OF ADDITIONAL INFORMATION (SAI) - the SAI is filed with the
Securities and Exchange Commission (SEC) and is incorporated by reference
into (is considered part of) this prospectus. The SAI provides additional
details about the fund and its policies.
ANNUAL AND SEMI-ANNUAL REPORTS - additional information about the fund's
investments is available in the fund's annual and semi-annual reports to
shareholders. These reports provide detailed information about the fund's
portfolio holdings and operating results.
To request the SAI or any reports to shareholders, or to obtain
more information:
o call toll-free 1-800-822-5544
o visit us on the Internet via http://www.leggmason.com
o write to us at: Legg Mason Wood Walker, Incorporated
100 Light Street, P.O. Box 1476
Baltimore, Maryland 21203-1476
Information about the fund, including the SAI, can be reviewed and copied at the
SEC's public reference room in Washington, D.C. (phone 1-800-SEC-0330). Reports
and other information about the fund are available on the SEC's Internet site at
http://www.sec.gov. Investors may also write to: SEC, Public Reference Section,
Washington, D.C. 20549-6009. The SEC charges a fee for making copies.
LMF-188 SEC file numbers: 811-7692
<PAGE>
LEGG MASON EQUITY FUNDS
LEGG MASON VALUE TRUST, INC. LEGG MASON INVESTORS TRUST, INC.:
LEGG MASON TOTAL RETURN TRUST, INC. LEGG MASON AMERICAN LEADING COMPANIES
TRUST
LEGG MASON SPECIAL INVESTMENT TRUST, INC. LEGG MASON BALANCED TRUST
LEGG MASON U.S. SMALL-CAPITALIZATION
VALUE TRUST
LEGG MASON FINANCIAL SERVICES FUND
CLASS A SHARES, PRIMARY SHARES AND NAVIGATOR SHARES
STATEMENT OF ADDITIONAL INFORMATION
OCTOBER 5, 1999
This Statement of Additional Information is not a prospectus. It should
be read in conjunction with the Prospectus for Primary Shares or the Prospectus
for Navigator Shares of Value Trust, Total Return Trust, Special Investment
Trust, American Leading Companies Trust, Balanced Trust and Small-Cap Value
Trust (both dated July 31, 1999), or the Prospectus for Class A and Primary
Shares or the Prospectus for Navigator Shares of Financial Services Fund (both
dated September 15, 1999), as appropriate, which have been filed with the
Securities and Exchange Commission ("SEC"). The Funds' annual reports are
incorporated by reference into this Statement of Additional Information. A copy
of any of the Prospectuses or the annual reports may be obtained without charge
from the Funds' distributor, Legg Mason Wood Walker, Incorporated ("Legg
Mason"), at 1-800-822-5544.
Legg Mason Wood Walker,
Incorporated
100 Light Street
P.O. Box 1476
Baltimore, Maryland 21203-1476
(410) 539-0000 (800) 822-5544
<PAGE>
TABLE OF CONTENTS
Page
DESCRIPTION OF THE FUNDS....................................................1
FUND POLICIES...............................................................1
INVESTMENT STRATEGIES AND RISKS.............................................4
ADDITIONAL TAX INFORMATION.................................................28
ADDITIONAL PURCHASE AND REDEMPTION INFORMATION.............................31
VALUATION OF FUND SHARES...................................................33
PERFORMANCE INFORMATION....................................................33
TAX-DEFERRED RETIREMENT PLANS - PRIMARY SHARES AND CLASS A SHARES..........42
MANAGEMENT OF THE FUNDS....................................................44
THE FUNDS' INVESTMENT ADVISER/MANAGER......................................46
PORTFOLIO TRANSACTIONS AND BROKERAGE.......................................50
THE FUNDS' DISTRIBUTOR.....................................................52
CAPITAL STOCK INFORMATION..................................................55
THE FUNDS' CUSTODIAN AND TRANSFER AND DIVIDEND-DISBURSING AGENT............55
THE FUNDS' LEGAL COUNSEL...................................................56
THE FUNDS' INDEPENDENT ACCOUNTANTS/AUDITORS................................56
FINANCIAL STATEMENTS.......................................................56
Appendix A.................................................................57
No person has been authorized to give any information or to make any
representations not contained in the Prospectuses or this Statement of
Additional Information in connection with the offerings made by the Prospectuses
and, if given or made, such information or representations must not be relied
upon as having been authorized by any fund or its distributor. The Prospectuses
and the Statement of Additional Information do not constitute offerings by any
fund or by the distributor in any jurisdiction in which such offerings may not
lawfully be made.
<PAGE>
DESCRIPTION OF THE FUNDS
Legg Mason Value Trust, Inc. ("Value Trust"), Legg Mason Total Return Trust,
Inc. ("Total Return Trust"), Legg Mason Special Investment Trust, Inc. ("Special
Investment Trust") and Legg Mason Investors Trust, Inc. ("Investors Trust") are
each diversified open-end investment companies that were established as Maryland
corporations on January 20, 1982, May 22, 1985, October 31, 1985, and May 5,
1993, respectively. Legg Mason American Leading Companies Trust ("American
Leading Companies"), Legg Mason Balanced Trust ("Balanced Trust"), Legg Mason
U.S. Small-Capitalization Value Trust ("Small-Cap Value"), and Legg Mason
Financial Services Fund ("Financial Services Fund") are separate series of
Investors Trust.
FUND POLICIES
VALUE TRUST's investment objective is to seek long-term growth of
capital. TOTAL RETURN TRUST's investment objective is to seek capital
appreciation and current income in order to achieve an attractive total
investment return consistent with reasonable risk. SPECIAL INVESTMENT's
investment objective is to seek capital appreciation. AMERICAN LEADING
COMPANIES' investment objective is to seek long-term capital appreciation and
current income consistent with prudent investment risk. BALANCED TRUST's
investment objective is to seek long-term capital appreciation and current
income in order to achieve an attractive total investment return consistent with
reasonable risk. SMALL-CAP VALUE's investment objective is to seek long-term
capital appreciation. FINANCIAL SERVICES FUND's investment objective is to seek
long-term growth of capital.
In addition to the investment objective of each Fund described in the
Prospectuses, each Fund has adopted certain fundamental investment limitations
that cannot be changed except by vote of its shareholders. Value Trust, Total
Return Trust and Special Investment Trust each may not:
1. Borrow money, except from banks or through reverse repurchase
agreements for temporary purposes, in an aggregate amount not to exceed 10% of
the value of the total assets of the respective Fund at the time of borrowing;
provided that borrowings, including reverse repurchase agreements, in excess of
5% of such value will be only from banks (although not a fundamental policy
subject to shareholder approval, each Fund will not purchase securities if
borrowings, including reverse purchase agreements, exceed 5% of its total
assets);
2. With respect to 75% of total assets, invest more than 5% of its
total assets (taken at market value) in securities of any one issuer, other than
the U.S. Government, or its agencies and instrumentalities, or purchase more
than 10% of the voting securities of any one issuer;
3. Purchase securities on "margin", except for short-term credits
necessary for clearance of portfolio transactions and except that each Fund may
make margin deposits in connection with the use of futures contracts and options
on futures contracts;
4. Invest 25% or more of its total assets (taken at market value) in
any one industry;
5. Purchase or sell commodities and commodity contracts, but this
limitation shall not prevent each Fund from purchasing or selling options and
futures contracts;
6. Underwrite the securities of other issuers, except insofar as each
Fund may be deemed an underwriter under the Securities Act of 1933, as amended,
in disposing of a portfolio security;
7. Make loans, except loans of portfolio securities and except to the
extent that the purchase of a portion of an issue of publicly distributed notes,
bonds or other evidences of indebtedness or deposits with banks and other
financial institutions may be considered loans;
- 1 -
<PAGE>
8. Purchase or sell real estate, except that each Fund may invest in
securities collateralized by real estate or interests therein or in securities
issued by companies that invest in real estate or interests therein (as a
non-fundamental policy changeable without a shareholder vote, each Fund will not
purchase or sell interests in real estate limited partnerships);
9. Make short sales of securities or maintain a short position, except
that each Fund may (a) make short sales and maintain short positions in
connection with its use of options, futures contracts and options on futures
contracts and (b) sell short "against the box;" or
10. Issue senior securities, except as permitted under the Investment
Company Act of 1940 ("1940 Act").
American Leading Companies, Balanced Trust and Small-Cap Value each
may not:
1. Borrow money, except from banks or through reverse repurchase
agreements for temporary purposes in an aggregate amount not to exceed 5% of the
value of its total assets at the time of borrowings. (Although not a fundamental
policy subject to shareholder approval, the Fund will repay any money borrowed
before any portfolio securities are purchased);
2. Issue senior securities, except as permitted under the 1940 Act;
3. Engage in the business of underwriting the securities of other
issuers except insofar as the Fund may be deemed an underwriter under the
Securities Act of 1933, as amended, in disposing of a portfolio security;
4. Buy or hold any real estate; provided, however, that instruments
secured by real estate or interests therein are not subject to this limitation;
5. With respect to 75% of its total assets, invest more than 5% of its
total assets (taken at market value) in securities of any one issuer, other than
the U.S. Government, its agencies and instrumentalities, or purchase more than
10% of the voting securities of any one issuer;
6. Purchase or sell any commodities or commodities contracts, except
that the Fund may purchase or sell currencies, interest rate and currency
futures contracts, options on currencies, securities, and securities indexes and
options on interest rate and currency futures contracts;
7. Make loans, except loans of portfolio securities and except to the
extent the purchase of notes, bonds or other evidences of indebtedness, the
entry into repurchase agreements, or deposits with banks and other financial
institutions may be considered loans; or
8. Purchase any security if, as a result thereof, 25% or more of its
total assets would be invested in the securities of issuers having their
principal business activities in the same industry. This limitation does not
apply to securities issued or guaranteed by the U.S. Government, its agencies or
instrumentalities and repurchase agreements with respect thereto.
Financial Services Fund may not:
1. Borrow money, except (a) from a bank, provided that immediately
after such borrowing there is an asset coverage of 300% for all borrowings of
the Fund; or (b) from a bank or other persons for temporary purposes only,
provided that such temporary borrowings are in an amount not exceeding 5% of the
Fund's total assets at the time when the borrowing is made.
2. Act as underwriter of securities issued by other persons. This
limitation is not applicable to the extent that, in connection with the
disposition of portfolio securities (including restricted securities), the Fund
may be deemed an underwriter under certain federal securities laws.
- 2 -
<PAGE>
3. Purchase, hold or deal in real estate. This limitation is not
applicable to investments in securities which are secured by or represent
interests in real estate or to securities issued by companies, including real
estate investment trusts, that invest in real estate or interests in real
estate. This limitation does not preclude the Fund from investing in
mortgage-related securities or investing directly in mortgages.
4. Purchase, hold or deal in commodities or commodities futures
contracts except as described in this Statement of Additional Information.
5. Make loans to other persons, except (a) by loaning portfolio
securities, (b) by engaging in repurchase agreements, (c) by purchasing
nonpublicly offered debt securities, or (d) through direct investments in
mortgages. For purposes of this limitation, the term "loans" shall not include
the purchase of a portion of an issue of publicly distributed bonds, debentures
or other securities.
6. Purchase securities or evidences of interest thereon on "margin."
This limitation is not applicable to short term credit obtained by the Fund for
the clearance of purchases and sales or redemption of securities, or to
arrangements with respect to transactions involving options, futures contracts,
short sales and other permitted investments and techniques (including foreign
exchange contracts).
7. Invest more than 25% of its total assets in securities of companies
comprising the financial services industry.
8. Purchase the securities of any issuer if such purchase at the time
thereof would cause less than 75% of the value of its total assets to be
invested in cash and cash items (including receivables), securities issued by
the U.S. government, its agencies or instrumentalities and repurchase agreements
with respect thereto, securities of other investment companies, other securities
for the purposes of this calculation limited in respect of any one issuer to an
amount not greater in value than 5% of the value of the total assets of the Fund
and to not more than 10% of the outstanding voting securities of such issuer.
9. Issue senior securities, except as permitted under the 1940 Act.
The foregoing limitations may be changed with respect to a Fund by "the
vote of a majority of the outstanding voting securities" of that Fund, a term
defined in the 1940 Act to mean the vote (a) of 67% or more of the voting
securities present at a meeting, if the holders of more than 50% of the
outstanding voting securities of the Fund are present, or (b) of more than 50%
of the outstanding voting securities of the Fund, whichever is less.
With respect to the percentages adopted by Financial Services Fund as
maximum limitations on its investment policies and limitations, an excess above
the fixed percentage will not be a violation of the policy or limitation unless
the excess results immediately and directly from the acquisition of any security
or the action taken. This paragraph does not apply to the "Borrowing Money"
limitation. The Fund may borrow money consistent with this limitation and with
the applicable provisions of the 1940 Act.
For purposes of the diversification requirements described above,
Financial Services Fund will treat both the corporate borrower and the financial
intermediary as issuers of a loan participation interest. Investments by the
Fund in CMOs that are deemed to be investment companies under the 1940 Act will
be included in the limitation on investments in other investment companies.
AMERICAN LEADING COMPANIES, BALANCED TRUST AND SMALL-CAP VALUE:
The following are some of the non-fundamental limitations which
American Leading Companies, Balanced Trust and Small-Cap Value currently
observe. Each Fund may not:
- 3 -
<PAGE>
1. Buy securities on "margin," except for short-term credits necessary
for clearance of portfolio transactions and except that the Fund may make margin
deposits in connection with the use of permitted currency futures contracts and
options on currency futures contracts; or
2. Make short sales of securities or maintain a short position, except
that the Fund may sell short "against the box". This limit does not apply to
short sales and short positions in connection with its use of options, futures
contracts and options on futures contracts (no Fund intends to make short sales
in excess of 5% of its net assets during the coming year).
In addition, as a non-fundamental limitation, American Leading
Companies may not purchase or sell interest rate and currency futures contracts,
options on currencies, securities, and securities indexes and options on
interest rate and currency futures contracts, provided, however, that the Fund
may sell covered call options on securities and may purchase options to the
extent necessary to close out its position in one or more call options.
Except as otherwise stated, if a fundamental or non-fundamental
percentage limitation set forth above is complied with at the time an investment
is made, a later increase or decrease in percentage resulting from a change in
value of portfolio securities, in the net asset value of a Fund, or in the
number of securities an issuer has outstanding, will not be considered to be
outside the limitation.
Unless otherwise stated, the investment policies and limitations
contained in this Statement of Additional Information are not fundamental, and
can be changed without shareholder approval.
INVESTMENT STRATEGIES AND RISKS
THE FOLLOWING INFORMATION APPLIES TO VALUE TRUST, TOTAL RETURN TRUST, SPECIAL
INVESTMENT TRUST, AMERICAN LEADING COMPANIES, BALANCED TRUST AND SMALL-CAP
VALUE:
This section supplements the information in the Prospectuses concerning
the investments the Funds may make and the techniques they may use. Each Fund,
unless otherwise stated, may employ several investment strategies, including but
not limited to:
FOREIGN SECURITIES
- ------------------
Each Fund may invest in foreign securities. Investment in foreign
securities presents certain risks, including those resulting from fluctuations
in currency exchange rates, revaluation of currencies, future political and
economic developments and the possible imposition of currency exchange blockages
or other foreign governmental laws or restrictions, reduced availability of
public information concerning issuers, and the fact that foreign issuers are not
generally subject to uniform accounting, auditing and financial reporting
standards or other regulatory practices and requirements comparable to those
applicable to domestic issuers. These risks are intensified when investing in
countries with developing economies and securities markets, also known as
"emerging markets." Moreover, securities of many foreign issuers may be less
liquid and their prices more volatile than those of comparable domestic issuers.
In addition, with respect to certain foreign countries, there is the possibility
of expropriation, confiscatory taxation, withholding taxes and limitations on
the use or removal of funds or other assets.
The costs associated with investment in foreign issuers, including
withholding taxes, brokerage commissions and custodial fees, are higher than
those associated with investment in domestic issuers. In addition, foreign
securities transactions may be subject to difficulties associated with the
settlement of such transactions. Delays in settlement could result in temporary
periods when assets of a Fund are uninvested and no return is earned thereon.
The inability of a Fund to make intended security purchases due to settlement
problems could cause a Fund to miss attractive investment opportunities.
Inability to dispose of a portfolio security due to settlement problems could
result in losses to a Fund due to subsequent declines in value of the portfolio
security or, if a Fund has entered into a contract to sell the security, could
result in liability to the purchaser.
- 4 -
<PAGE>
Since each Fund may invest in securities denominated in currencies
other than the U.S. dollar and since each Fund may hold foreign currencies, a
Fund may be affected favorably or unfavorably by exchange control regulations or
changes in the exchange rates between such currencies and the U.S. dollar.
Changes in the currency exchange rates may influence the value of each Fund's
shares, and also may affect the value of dividends and interest earned by that
Fund and gains and losses realized by that Fund. Exchange rates are determined
by the forces of supply and demand in the foreign exchange markets. These forces
are affected by the international balance of payments, other economic and
financial conditions, government intervention, speculation and other factors.
In addition to purchasing foreign securities, each Fund may invest in
ADRs. Generally, ADRs, in registered form, are denominated in U.S. dollars and
are designed for use in the domestic market. Usually issued by a U.S. bank or
trust company, ADRs are receipts that demonstrate ownership of the underlying
securities. For purposes of each Fund's investment policies and limitations,
ADRs are considered to have the same classification as the securities underlying
them. ADRs may be sponsored or unsponsored; issuers of securities underlying
unsponsored ADRs are not contractually obligated to disclose material
information in the U.S. Accordingly, there may be less information available
about such issuers than there is with respect to domestic companies and issuers
of securities underlying sponsored ADRs. Each Fund may also invest in GDRs,
which are receipts, often denominated in U.S. dollars, issued by either a U.S.
or non-U.S. bank evidencing its ownership of the underlying foreign securities.
Small-Cap Value does not currently intend to invest in foreign securities.
Although not a fundamental policy subject to shareholder vote, the
advisers currently anticipate that Value Trust, Total Return Trust, Special
Investment Trust and American Leading Companies will each invest no more than
25% of its total assets in foreign securities. Bartlett currently anticipates
that Balanced Trust will not invest more than 10% of its total assets in foreign
securities, either directly or through ADRs or GDRs. Small-Cap Value does not
currently intend to invest in foreign securities.
ILLIQUID SECURITIES
- -------------------
Value Trust and Total Return Trust each may invest up to 10% of its net
assets in illiquid securities. American Leading Companies, Balanced Trust,
Special Investment Trust and Small-Cap Value each may invest up to 15% of its
net assets in illiquid securities. For this purpose, "illiquid securities" are
those that cannot be disposed of within seven days for approximately the price
at which the Fund values the security. Illiquid securities include repurchase
agreements with terms of greater than seven days, and restricted securities
other than those the adviser to a Fund has determined are liquid pursuant to
guidelines established by each Fund's Board of Directors. Due to the absence of
an active trading market, a Fund may have difficulty valuing or disposing of
illiquid securities promptly.
Restricted securities may be sold only in privately negotiated
transactions, pursuant to a registration statement filed under the Securities
Act of 1933, or pursuant to an exemption from registration. A Fund may be
required to pay part or all of the costs of such registration, and a
considerable period may elapse between the time a decision is made to sell a
restricted security and the time the registration statement becomes effective.
Judgment plays a greater role in valuing illiquid securities than those for
which a more active market exists.
SEC regulations permit the sale of certain restricted securities to
qualified institutional buyers. The investment adviser to each Fund, acting
pursuant to guidelines established by such Fund's Board of Directors, may
determine that certain restricted securities qualified for trading on this newly
developing market are liquid. If the market does not develop as anticipated,
restricted securities in each Fund's portfolio may adversely affect that Fund's
liquidity.
DEBT SECURITIES
- ---------------
The prices of debt securities fluctuate in response to perceptions of
the issuer's creditworthiness and also tend to vary inversely with market
interest rates. The value of such securities is likely to decline in times of
- 5 -
<PAGE>
rising interest rates. Conversely, when rates fall, the value of these
investments is likely to rise. The longer the time to maturity the greater are
such variations.
Generally, debt securities rated below BBB by Standard & Poor's
("S&P"), or below Baa by Moody's Investors Service, Inc. ("Moody's"), and
unrated securities of comparable quality, offer a higher current yield than that
provided by higher grade issues, but also involve higher risks. Debt securities
rated C by Moody's and S&P are bonds on which no interest is being paid and
which can be regarded as having extremely poor prospects of ever attaining any
real investment standing. However, debt securities, regardless of their ratings,
generally have a higher priority in the issuer's capital structure than do
equity securities.
Lower-rated debt securities are especially affected by adverse changes
in the industries in which the issuers are engaged and by changes in the
financial condition of the issuers. Highly leveraged issuers may also experience
financial stress during period of rising interest rates. Lower-rated debt
securities are also sometimes referred to as "junk bonds."
The market for lower-rated debt securities has expanded rapidly in
recent years. This growth has paralleled a long economic expansion. At certain
times in the past, the prices of many lower-rated debt securities declined,
indicating concerns that issuers of such securities might experience financial
difficulties. At those time, the yields on lower-rated debt securities rose
dramatically reflecting the risk that holders of such securities could lose a
substantial portion of their value as a result of the issuer's financial
restructuring or default. There can be no assurance that such declines will not
recur.
The market for lower-rated debt securities is generally thinner and
less active than that for higher quality debt securities, which may limit a
Fund's ability to sell such securities at fair value. Judgment plays a greater
role in pricing such securities than is the case for securities having more
active markets. Adverse publicity and investor perceptions, whether or not based
on fundamental analysis, may also decrease the values and liquidity of
lower-rated debt securities, especially in a thinly traded market.
The ratings of S&P and Moody's represent the opinions of those
agencies. Such ratings are relative and subjective, and are not absolute
standards of quality. Unrated debt securities are not necessarily of lower
quality than rated securities, but they may not be attractive to as many buyers.
A description of the ratings assigned to corporate debt obligations by Moody's
and S&P is included in Appendix A.
In addition to ratings assigned to individual bond issues, each adviser
will analyze interest rate trends and developments that may affect individual
issuers, including factors such as liquidity, profitability and asset quality.
The yields on bonds and other debt securities in which a Fund invests are
dependent on a variety of factors, including general money market conditions,
general conditions in the bond market, the financial conditions of the issuer,
the size of the offering, the maturity of the obligation and its rating. There
may be a wide variation in the quality of bonds, both within a particular
classification and between classifications. A bond issuer's obligations are
subject to the provisions of bankruptcy, insolvency and other laws affecting the
rights and remedies of bond holders or other creditors of an issuer; litigation
or other conditions may also adversely affect the power or ability of bond
issuers to meet their obligations for the payment of principal and interest.
Regardless of rating levels, all debt securities considered for purchase
(whether rated or unrated) are analyzed by each Fund's adviser to determine, to
the extent possible, that the planned investment is sound.
If a security rated A or above at the time of purchase by American
Leading Companies is subsequently downgraded to a rating below A, Legg Mason
Fund Adviser, Inc. ("LMFA") will consider that fact in determining whether to
dispose of the security, but will dispose of it if necessary to insure that no
more than 5% of net assets are invested in debt securities rated below A. If one
rating agency has rated a security A or better and another agency has rated it
below A, LMFA may rely on the higher rating in determining to purchase or retain
the security on behalf of American Leading Companies. Bonds rated A may be given
a "+" or "-" by the rating agency. The Fund considers bonds denominated A, A+ or
A- to be included in the rating A.
- 6 -
<PAGE>
PREFERRED STOCK
- ---------------
Each Fund may purchase preferred stock as a substitute for debt
securities of the same issuer when, in the opinion of its adviser, the preferred
stock is more attractively priced in light of the risks involved. Preferred
stock pays dividends at a specified rate and generally has preference over
common stock in the payment of dividends and the liquidation of the issuer's
assets but is junior to the debt securities of the issuer in those same
respects. Unlike interest payments on debt securities, dividends on preferred
stock are generally payable at the discretion of the issuer's board of
directors. Shareholders may suffer a loss of value if dividends are not paid.
The market prices of preferred stocks are subject to changes in interest rates
and are more sensitive to changes in the issuer's creditworthiness than are the
prices of debt securities.
CONVERTIBLE SECURITIES
- ----------------------
A convertible security is a bond, debenture, note, preferred stock or
other security that may be converted into or exchanged for a prescribed amount
of common stock of the same or a different issuer within a particular period of
time at a specified price or formula. A convertible security entitles the holder
to receive interest paid or accrued on debt or the dividend paid on preferred
stock until the convertible security matures or is redeemed, converted or
exchanged. Before conversion, convertible securities ordinarily provide a stream
of income with generally higher yields than those of common stocks of the same
or similar issuers, but lower than the yield of non-convertible debt.
Convertible securities are usually subordinated to comparable-tier
nonconvertible securities but rank senior to common stock in a corporation's
capital structure.
The value of a convertible security is a function of (1) its yield in
comparison with the yields of other securities of comparable maturity and
quality that do not have a conversion privilege and (2) its worth, at market
value, if converted into the underlying common stock. The price of a convertible
security often reflects variations in the price of the underlying common stock
in a way that non-convertible debt does not. A convertible security may be
subject to redemption at the option of the issuer at a price established in the
convertible security's governing instrument, which may be less than the ultimate
conversion value.
Many convertible securities are rated below investment grade or, if
unrated, are considered of comparable quality. American Leading Companies does
not intend to purchase any convertible securities rated below BB by S&P or below
Ba by Moody's or, if unrated, deemed by LMFA to be of comparable quality.
Moody's describes securities rated Ba as having "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."
If an investment grade security purchased by Value Trust, Total Return
Trust or Special Investment Trust is subsequently given a rating below
investment grade, LMFA will consider that fact in determining whether to retain
that security in that Fund's portfolio, but is not required to dispose of it.
CORPORATE DEBT SECURITIES
- -------------------------
Corporate debt securities may pay fixed or variable rates of interest,
or interest at a rate contingent upon some other factor, such as the price of
some commodity. These securities may be convertible into preferred or common
equity, or may be bought as part of a unit containing common stock. In selecting
corporate debt securities for a Fund, its adviser reviews and monitors the
creditworthiness of each issuer and issue. The adviser also analyzes interest
rate trends and specific developments which it believes may affect individual
issuers.
- 7 -
<PAGE>
WHEN-ISSUED SECURITIES
- ----------------------
Each Fund may enter into commitments to purchase securities on a
when-issued basis. Such securities are often the most efficiently priced and
have the best liquidity in the bond market. When a Fund purchases securities on
a when-issued basis, it assumes the risks of ownership at the time of the
purchase, not at the time of receipt. However, the Fund does not have to pay for
the obligations until they are delivered to it, and no interest accrues to the
Fund until they are delivered. This is normally seven to 15 days later, but
could be longer. Use of this practice would have a leveraging effect on the
Fund.
American Leading Companies does not currently expect that its
commitment to purchase when-issued securities will at any time exceed, in the
aggregate, 5% of its net assets.
To meet its payment obligation under a when-issued commitment, a Fund
will establish a segregated account with its custodian and maintain cash or
appropriate liquid securities, in an amount at least equal in value to that
Fund's commitments to purchase when-issued securities.
A Fund may sell the securities underlying a when-issued purchase, which
may result in capital gains or losses.
COVERED CALL OPTIONS
- --------------------
Each Fund may write covered call options on securities in which it is
authorized to invest. Because it can be expected that a call option will be
exercised if the market value of the underlying security increases to a level
greater than the exercise price, a Fund might write covered call options on
securities generally when the adviser believes that the premium received by the
Fund will exceed the extent to which the market price of the underlying security
will exceed the exercise price. The strategy may be used to provide limited
protection against a decrease in the market price of the security, in an amount
equal to the premium received for writing the call option less any transaction
costs. Thus, in the event that the market price of the underlying security held
by a Fund declines, the amount of such decline will be offset wholly or in part
by the amount of the premium received by the Fund. If, however, there is an
increase in the market price of the underlying security and the option is
exercised, the Fund would be obligated to sell the security at less than its
market value. A Fund would give up the ability to sell the portfolio securities
used to cover the call option while the call option was outstanding. In
addition, a Fund could lose the ability to participate in an increase in the
value of such securities above the exercise price of the call option because
such an increase would likely be offset by an increase in the cost of closing
out the call option.
If a Fund desires to close out its obligation under a call option it
has sold, it will have to purchase an offsetting option. The value of an option
position will reflect, among other things, the current market price of the
underlying security, futures contract or currency, the time remaining until
expiration, the relationship of the exercise price to the market price, the
historical price volatility of the underlying security, and general market
conditions. Accordingly, when the price of the security rises toward the strike
price of the option, the cost of offsetting the option will negate to some
extent the benefit to the Fund of the price increase of the underlying security.
For this reason, the successful use of options as an income strategy depends
upon the adviser's ability to forecast the direction of price fluctuations in
the underlying market or market sector.
Each Fund may write exchange-traded options. The ability to establish
and close out positions on the exchange is subject to the maintenance of a
liquid secondary market. Although a Fund intends to write only those
exchange-traded options for which there appears to be an active secondary
market, there is no assurance that a liquid secondary market will exist for any
particular option at any specific time. With respect to options written by a
Fund, the inability to enter into a closing transaction may result in material
losses to the Fund. For example, because the Fund must maintain a covered
position with respect to any call option it writes on a security, the Fund may
not sell the underlying security during the period it is obligated under such
option. This requirement may impair the Fund's ability to sell a portfolio
security or make an investment at a time when such a sale or investment might be
advantageous.
- 8 -
<PAGE>
A Fund will not enter into an options position that exposes it to an
obligation to another party unless it owns an offsetting ("covering") position
in securities or other options. A Fund will comply with guidelines established
by the SEC with respect to coverage of these strategies by mutual funds, and, if
the guidelines so require, will set aside cash and/or appropriate liquid
securities in a segregated account with its custodian in the amount prescribed,
as marked-to-market daily. Securities positions used for cover and securities
held in a segregated account cannot be sold or closed out while the strategy is
outstanding, unless they are replaced with similar assets. As a result, there is
a possibility that the use of cover or segregation involving a large percentage
of the Fund's assets could impede portfolio management or the Fund's ability to
meet redemption requests or other current obligations.
As a non-fundamental policy, American Leading Companies will not sell a
covered call option if, as a result, the value of the portfolio securities
underlying all outstanding covered call options would exceed 25% of the value of
the equity securities held by the Fund.
INDEXED SECURITIES
- ------------------
Indexed securities are securities whose prices are indexed to the
prices of securities indexes, currencies or other financial statistics. Indexed
securities typically are debt securities or deposits whose value at maturity
and/or coupon rate is determined by reference to a specific instrument or
statistic. The performance of indexed securities fluctuates (either directly or
inversely, depending upon the instrument) with the performance of the index,
security, currency or other instrument to which they are indexed and may also be
influenced by interest rate changes in the U.S. and abroad. At the same time,
indexed securities are subject to the credit risks associated with the issuer of
the security, and their value may substantially decline if the issuer's
creditworthiness deteriorates. Recent issuers of indexed securities have
included banks, corporations and certain U.S. government agencies. The U.S.
Treasury recently began issuing securities whose principal value is indexed to
the Consumer Price Index (also known as "Treasury Inflation-Protection
Securities"). The Funds will only purchase indexed securities of issuers which
its adviser determines present minimal credit risks and will monitor the
issuer's creditworthiness during the time the indexed security is held. The
adviser will use its judgment in determining whether indexed securities should
be treated as short-term instruments, bonds, stock or as a separate asset class
for purposes of each Fund's investment allocations, depending on the individual
characteristics of the securities. Each Fund currently does not intend to invest
more than 5% of its net assets in indexed securities. Indexed securities may
fluctuate according to a multiple of changes in the underlying instrument and,
in that respect, have a leverage-like effect on a Fund.
STRIPPED SECURITIES
- -------------------
Stripped securities are created by separating bonds into their
principal and interest components and selling each piece separately (commonly
referred to as IOs and POs). Stripped securities are more volatile than other
fixed income securities in their response to changes in market interest rates.
The value of some stripped securities moves in the same direction as interest
rates, further increasing their volatility.
ZERO COUPON BONDS
- -----------------
Zero coupon bonds do not provide for cash interest payments but instead
are issued at a significant discount from face value. Each year, a holder of
such bonds must accrue a portion of the discount as income. Because each Fund is
required to pay out substantially all of its income each year, including income
accrued on zero coupon bonds, a Fund may have to sell other holdings to raise
cash necessary to make the pay-out. Because issuers of zero coupon bonds do not
make periodic interest payments, their prices can be very volatile when market
interest rates change.
CLOSED-END INVESTMENT COMPANIES
- -------------------------------
Each Fund may invest in the securities of closed-end investment
companies. Such investments may involve the payment of substantial premiums
above the net asset value of such issuers' portfolio securities, and the total
return on such investments will be reduced by the operating expenses and fees of
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<PAGE>
such investment companies, including advisory fees. A Fund will invest in such
funds, when, in the adviser's judgment, the potential benefits of such
investment justify the payment of any applicable premium or sales charge.
THE FOLLOWING INFORMATION APPLIES TO SPECIAL INVESTMENT TRUST AND SMALL-CAP
VALUE:
SMALL AND MID-SIZED COMPANY STOCKS
- ----------------------------------
The advisers for Special Investment Trust and Small-Cap Value believe
that the comparative lack of attention by investment analysts and institutional
investors to small and mid-sized companies may result in opportunities to
purchase the securities of such companies at attractive prices compared to
historical or market price-earnings ratios, book value, return on equity or
long-term prospects. Each Fund's policy of investing primarily in the securities
of smaller companies differs from the investment approach of many other mutual
funds, and investment in such securities involves special risks. Among other
things, the prices of securities of small and mid-sized companies generally are
more volatile than those of larger companies; the securities of smaller
companies generally are less liquid; and smaller companies generally are more
likely to be adversely affected by poor economic or market conditions.
It is anticipated that some of the portfolio securities of either
Special Investment Trust or Small-Cap Value may not be widely traded, and that a
Fund's position in such securities may be substantial in relation to the market
for such securities. Accordingly, it may be difficult for a Fund to dispose of
such securities at prevailing market prices in order to meet redemptions.
However, as a non-fundamental policy, Special Investment Trust and Small-Cap
Value will not invest more than 15% of their respective net assets in illiquid
securities.
Investments in securities of companies with small market
capitalizations are generally considered to offer greater opportunity for
appreciation but also may involve greater risks than customarily are associated
with more established companies. The securities of small companies may be
subject to more abrupt fluctuations in market price than larger, more
established companies. Small companies may have limited product lines, markets
or financial resources, or they may be dependent upon a limited management
group. In addition to exhibiting greater volatility, small company stocks may,
to a degree, fluctuate independently of larger company stocks, I.E., small
company stocks may decline in price as the prices of large company stocks rise
or vice versa.
THE FOLLOWING INFORMATION APPLIES TO BALANCED TRUST:
MORTGAGE-RELATED SECURITIES
- ---------------------------
Mortgage-related securities represent an ownership interest in a pool
of residential mortgage loans. These securities are designed to provide monthly
payments of interest, and in most instances, principal to the investor. The
mortgagor's monthly payments to his/her lending institution are "passed-through"
to investors such as the Fund. Most issuers or poolers provide guarantees of
payments, regardless of whether or not the mortgagor actually makes the payment.
The guarantees made by issuers or poolers are backed by various forms of credit,
insurance and collateral. They may not extend to the full amount of the pool.
Pools consist of whole mortgage loans or participations in loans. The
majority of these loans are made to purchasers of one- to four-family homes. The
terms and characteristics of the mortgage instruments are generally uniform
within a pool but may vary among pools. For example, in addition to fixed-rate,
fixed-term mortgages, the Fund may purchase pools of variable-rate mortgages,
growing-equity mortgages, graduated-payment mortgages and other types.
All poolers apply standards for qualification to lending institutions
which originate mortgages for the pools. Poolers also establish credit standards
and underwriting criteria for individual mortgages included in the pools. In
addition, many mortgages included in pools are insured through private mortgage
insurance companies.
- 10 -
<PAGE>
The majority of mortgage-related securities currently available are
issued by governmental or government-related organizations formed to increase
the availability of mortgage credit. The largest government-sponsored issuer of
mortgage-related securities is the Government National Mortgage Association.
GNMA certificates ("GNMAs") are interests in pools of loans insured by the
Federal Housing Administration or by the Farmer's Home Administration ("FHA"),
or guaranteed by the Veterans Administration ("VA"). Fannie Mae and Freddie Mac
each issue pass-through securities which are guaranteed as to principal and
interest by Fannie Mae and Freddie Mac, respectively.
The average life of mortgage-related securities varies with the
maturities and the nature of the underlying mortgage instruments, as well as
with market interest rates. For example, GNMAs tend to have a longer average
life than Freddie Mac participation certificates ("PCs") because there is a
tendency for the conventional and privately-insured mortgages underlying Freddie
Mac PCs to repay at faster rates than the FHA and VA loans underlying GNMAs. In
addition, the term of a security may be shortened by unscheduled or early
payments of principal and interest on the underlying mortgages. The occurrence
of mortgage pre-payments is affected by various factors, including the level of
interest rates, general economic conditions, the location and age of the
mortgaged property and other social and demographic conditions. An increase in
mortgage prepayments could cause the Fund to incur a loss on a mortgage-related
security that was purchased at a premium. On the other hand, a decrease in the
rate of prepayments, resulting from an increase in market interest rates, among
other causes, may extend the effective maturities of mortgage-related
securities, increasing their sensitivity to changes in market interest rates.
In determining the dollar-weighted average maturity of the fixed income
portion of the portfolio, Bartlett, investment adviser to Balanced Trust, will
follow industry practice in assigning an average life to the mortgage-related
securities of the Fund unless the interest rate on the mortgages underlying such
securities is such that Bartlett believes a different prepayment rate is likely.
For example, where a GNMA has a high interest rate relative to the market, that
GNMA is likely to have a shorter overall maturity than a GNMA with a market rate
coupon. Moreover, Bartlett may deem it appropriate to change the projected
average life for the Fund's mortgage-related security as a result of
fluctuations in market interest rates and other factors.
Quoted yields on mortgage-related securities are typically based on the
maturity of the underlying instruments and the associated average life
assumption. Actual prepayment experience may cause the yield to differ from the
average life yield. Reinvestment of the prepayments may occur at higher or lower
interest rates than the original investment, thus affecting the yield of the
Fund. The compounding effect from the reinvestments of monthly payments received
by the Fund will increase the yield to shareholders compared to bonds that pay
interest semi-annually.
Like other debt securities, the value of mortgage-related securities
will tend to rise when interest rates fall, and fall when rates rise. The value
of mortgage-related securities may also change because of changes in the
market's perception of the creditworthiness of the organization that issued or
guaranteed them. In addition, the mortgage securities market in general may be
adversely affected by changes in governmental regulation or tax policies.
PRIVATELY ISSUED MORTGAGE-RELATED SECURITIES
- --------------------------------------------
Mortgage-related securities offered by private issuers include
pass-through securities comprised of pools of conventional residential mortgage
loans; mortgage-backed bonds which are considered to be obligations of the
institution issuing the bonds and are collateralized by mortgage loans; and
bonds and collateralized mortgage obligations ("CMOs") which are collateralized
by mortgage-related securities issued by Freddie Mac, Fannie Mae, or GNMA or by
pools of conventional mortgages.
CMOs are typically structured with two or more classes or series which
have different maturities and are generally retired in sequence. Each class of
obligations is scheduled to receive periodic interest payments according to the
coupon rate on the obligations. However, all monthly principal payments and any
prepayments from the collateral pool are paid first to the "Class 1"
bondholders. The principal payments are such that the Class 1 obligations are
- 11 -
<PAGE>
scheduled to be completely repaid no later than, for example, five years after
the offering date. Thereafter, all payments of principal are allocated to the
next most senior class of bonds until that class of bonds has been fully repaid.
Although full payoff of each class of bonds is contractually required by a
certain date, any or all classes of obligations may be paid off sooner than
expected because of an increase in the payoff speed of the pool.
Mortgage-related securities created by non-governmental issuers
generally offer a higher rate of interest than government and government-related
securities because there are no direct or indirect government guarantees of
payments in the former securities, resulting in higher risks.
The market for conventional pools is smaller and less liquid than the
market for the government and government-related mortgage pools.
MUNICIPAL OBLIGATIONS
- ---------------------
The municipal obligations in which the Fund may invest include
municipal leases and participation interests therein. These obligations, which
may take the form of a lease, an installment purchase or a conditional sales
contract, are issued by state and local governments and authorities to acquire
land and a wide variety of equipment and facilities, such as fire and sanitation
vehicles, telecommunications equipment and other capital assets. Rather than
holding such obligations directly, the Fund may purchase a participation
interest in a municipal lease obligation from a bank or other third party. A
participation interest gives the Fund a specified, undivided pro-rata interest
in the total amount of the obligation.
Municipal lease obligations have risks distinct from those associated
with general obligation or revenue bonds. State constitutions and statutes set
forth requirements that states or municipalities must meet to incur debt. These
may include voter referenda, interest rate limits or public sale requirements.
Leases, installment purchase or conditional sale contracts (which normally
provide for title to the leased asset to pass to the governmental issuer) have
evolved as a means for governmental issuers to acquire property and equipment
without meeting their constitutional and statutory requirements for the issuance
of debt. The debt-issuance limitations are deemed inapplicable because of the
inclusion in many leases and contracts of "non-appropriation" clauses providing
that the governmental user has no obligation to make future payments under the
lease or contract unless money is appropriated for such purpose by the
appropriate legislative body on a yearly or other periodic basis.
In determining the liquidity of a municipal lease obligation, Bartlett
will distinguish between simple or direct municipal leases and municipal
lease-backed securities, the latter of which may take the form of a lease-backed
revenue bond or other investment structure using a municipal lease-purchase
agreement as its base. While the former may present special liquidity issues,
the latter are based on a well established method of securing payment of a
municipal obligation. The Fund's investment in municipal lease obligations and
participation interests therein will be treated as illiquid unless Bartlett
determines, pursuant to guidelines established by the Board of Directors, that
the security could be disposed of within seven days in the normal course of
business at approximately the amount at which the Fund has valued the security.
An issuer's obligations under its municipal obligations are subject to
the provisions of bankruptcy, insolvency and other laws affecting the rights and
remedies of creditors, such as the Bankruptcy Code, and laws that may be enacted
by Congress or state legislatures extending the time for payment of principal or
interest, or both, or imposing other constraints upon enforcement of such
obligations. There is also the possibility that as a result of litigation or
other conditions the power or ability of issuers to meet their obligations for
the payment of interest and principal on their municipal obligations may be
materially and adversely affected.
THE FOLLOWING INFORMATION APPLIES TO VALUE TRUST, TOTAL RETURN TRUST, SPECIAL
INVESTMENT TRUST, BALANCED TRUST AND SMALL-CAP VALUE: (SMALL-CAP VALUE DOES NOT
CURRENTLY INTEND TO INVEST IN FUTURES AND OPTIONS.)
- 12 -
<PAGE>
VALUE TRUST, TOTAL RETURN TRUST, SPECIAL INVESTMENT TRUST AND BALANCED TRUST
- ----------------------------------------------------------------------------
Each of these Funds can invest in futures and options transactions,
including puts and calls. Because such investments "derive" their value from the
value of the underlying security, index, or interest rate on which they are
based, they are sometimes referred to as "derivative" securities. Such
investments involve risks that are different from those presented by investing
directly in the securities themselves. While utilization of options, futures
contracts and similar instruments may be advantageous to a Fund, if its adviser
is not successful in employing such instruments in managing the Fund's
investments, the Fund's performance will be worse than if the Fund did not make
such investments.
The Funds may engage in futures strategies to attempt to reduce the
overall investment risk that would normally be expected to be associated with
ownership of the securities in which each invests. For example, a Fund may sell
a stock index futures contract in anticipation of a general market or market
sector decline that could adversely affect the market value of the Fund's
portfolio. To the extent that a Fund's portfolio correlates with a given stock
index, the sale of futures contracts on that index would reduce the risks
associated with a market decline and thus provide an alternative to the
liquidation of securities positions. A Fund may sell an interest rate futures
contract to offset price changes of debt securities it already owns. This
strategy is intended to minimize any price changes in the debt securities a Fund
owns (whether increases or decreases) caused by interest rate changes, because
the value of the futures contact would be expected to move in the opposite
direction from the value of the securities owned by the Fund.
Each Fund may purchase call options on interest rate futures contracts
to hedge against a market advance in debt securities that the Fund plans to
advance in debt securities that the Fund plans to acquire at a future date. The
purchase of such options is analogous to the purchase of call options on an
individual debt security that can be used as a temporary substitute for a
position in the security itself. The Funds may purchase put options on stock
index futures contracts. This is analogous to the purchase of protective put
options on individual stocks were a level of protection is sought below which no
additional economic loss would be incurred by the Funds. The Funds may purchase
and write options in combination with each other to adjust the risk and return
of the overall position. For example, the Funds may purchase a put option and
write a call option on the same underlying instrument, in order to construct a
combined position whose risk and return characteristics are similar to selling a
futures contract.
The Funds may purchase put options to hedge sales of securities, in a
manner similar to selling futures contracts. If stock prices fall, the value of
the put option would be expected to rise and off-set all or a portion of the
Fund's resulting losses in its stock holdings. However, option premiums tend to
decrease over time as the expiration date nears. Therefore, because of the costs
of the option (in the form of premium and transaction costs), a Fund would
expect to suffer a loss in the put option if prices do not decline sufficiently
to offset the deterioration in the value of the option premium.
The Funds may write put options as an alternative to purchasing actual
securities. If stock prices rise, a Fund would expect to profit from a written
put option, although its gain would be limited to the amount of the premium it
received. If stock prices remain the same over time, it is likely that the Fund
will also profit, because it should be able to close out the option at a lower
price. If stock prices fall, the Fund would expect to suffer a loss.
By purchasing a call option, a Fund would attempt to participate in
potential price increases of the underlying stock, with results similar to those
obtainable from purchasing a futures contract, but with risk limited to the cost
of the option if stock prices fell. At the same time, a Fund can expect to
suffer a loss if stock prices do not rise sufficiently to offset the cost of the
option.
The characteristics of writing call options are similar to those of
writing put options, as described above, except that writing covered call
options generally is a profitable strategy if prices remain the same or fall.
Through receipt of the option premium, a Fund would seek to mitigate the effects
of a price decline. At the same time, when writing call options the Fund would
give up some ability to participate in security price increases.
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<PAGE>
The purchase and sale of options and futures contracts involve risks
different from those involved with direct investments in securities, and also
require different skills from the advisers in managing the Funds' portfolios.
While utilization of options, futures contracts and similar instruments may be
advantageous to the Funds, if the adviser is not successful in employing such
instruments in managing a Fund's investments or in predicting interest rate
changes, the Fund's performance will be worse than if the Fund did not make such
investments. It is possible that there will be imperfect correlation, or even no
correlation, between price movements of the investments being hedged and the
options or futures used. It is also possible that a Fund may be unable to
purchase or sell a portfolio security at a time that otherwise would be
favorable for it to do so, or that a Fund may need to sell a portfolio security
at a disadvantageous time, due to the need for the Fund to maintain "cover" or
to segregate securities in connection with hedging transactions and that a Fund
may be unable to close out or liquidate its hedge position. In addition, the
Funds will pay commissions and other costs in connection with such investments,
which may increase each Fund's expenses and reduce its yield. Each Fund's
current policy is to limit options and futures transactions to those described
above. The Funds may purchase and write both over-the-counter and
exchange-traded options.
A Fund will not enter into any futures contracts or related options if
the sum of the initial margin deposits on futures contracts and related options
and premiums paid for elated options the Fund has purchased would exceed 5% of
the Fund's total assets. A Fund will not purchase futures contracts or related
options if, as a result, more than 20% of the Fund's total assets would be so
invested. Small-Cap Value does not currently intend to invest in futures and
options.
FUTURES CONTRACTS
- -----------------
Each Fund may from time to time purchase or sell futures contracts. In
the purchase of a futures contract, the purchaser agrees to buy a specified
underlying instrument at a specified future date. In the sale of a futures
contract, the seller agrees to sell the underlying instrument at a specified
future date. The price at which the purchase or sale will take place is fixed at
the time the contract is entered into. Some currently available contracts are
based on specific securities, such as U.S. Treasury bonds or notes, and some are
based on indexes of securities such as S&P 500. Futures contracts can be held
until their delivery dates, or can be closed out before then, if a liquid
secondary market is available. A futures contract is closed out by entering into
an opposite position in an identical futures contract (for example, by
purchasing a contract on the same instrument and with the same delivery date as
a contract the party had sold) at the current price as determined on the futures
exchange.
As the purchaser or seller of a futures contract, a Fund would not be
required to deliver or pay for the underlying instrument unless the contract is
held until the delivery date. However, the Fund would be required to deposit
with its custodian, in the name of the futures broker (known as a futures
commission merchant, or "FCM"), a percentage of the contract's value. This
amount, which is known as initial margin, generally equals 10% or less of the
value of the futures contract. Unlike margin in securities transactions, initial
margin on futures contracts does not involve borrowing to finance the futures
transactions. Rather, initial margin is in the nature of a good faith deposit or
performance bond, and would be returned to that Fund when the futures position
is terminated, after all contractual obligations have been satisfied. Initial
margin may be maintained either in cash or appropriate liquid securities.
The value of a futures contract tends to increase and decrease with the
value of the underlying instrument. The purchase of a futures contract will tend
to increase exposure to positive and negative price fluctuations in the
underlying instrument in the same manner as if the underlying instrument had
been purchased directly. By contrast, the sale of a futures contract will tend
to offset both positive and negative market price changes.
As the contract's value fluctuates, payments known as variation margin
or maintenance margin are made to or received from the FCM. If the contract's
value moves against the Fund, (i.e., the Fund's futures position declines in
value), the Fund may be required to make payments to the FCM, and, conversely,
the Fund may be entitled to receive payments from the FCM if the value of the
Fund's futures position increases. This process is known as "marking-to-market"
- 14 -
<PAGE>
and takes place on a daily basis. Variation margin does not involve borrowing to
finance the futures transactions, but rather represents a daily settlement of
the Fund's obligations to or from a clearing organization.
OPTIONS ON SECURITIES, INDEXED SECURITIES AND FUTURES CONTRACTS
- ---------------------------------------------------------------
PURCHASING PUT OR CALL OPTIONS By purchasing a put (or call) option, a
Fund obtains the right (but not the obligation) to sell (or buy) the underlying
instrument at a fixed strike price. The option's underlying instrument may be a
specific security, an indexed security or a futures contract. The option may
give the Fund the right to sell (or buy) only on the option's expiration date,
or may be exercisable at any time up to and including that date. In return for
this right, the Fund pays the current market price for the option (known as the
option premium).
A Fund may terminate its position in an option it has purchased by
allowing the option to expire, closing it out in the secondary market at its
current price, if a liquid secondary market exists, or by exercising it. If the
option is allowed to expire, the Fund will lose the entire premium paid.
WRITING PUT OR CALL OPTIONS By writing a put (or call) option, a Fund
takes the opposite side of the transaction from the option's purchaser (or
seller). In return for receipt of the premium, the Fund assumes the obligation
to pay the strike price for the option's underlying instrument (or to sell or
deliver the option's underlying instrument) if the other party to the option
chooses to exercise it. When writing an option on a futures contract, a Fund
will be required to make margin payments to an FCM as described above for
futures contracts.
Before exercise, a Fund may seek to terminate its position in an option
it has written by closing out the option in the secondary market at its current
price. If the secondary market is not liquid for an option the Fund has written,
however, the Fund must continue to be prepared to pay the strike price while the
option is outstanding, regardless of price changes, and must continue to set
aside assets to cover its position.
OVER-THE-COUNTER AND EXCHANGE-TRADED OPTIONS
- --------------------------------------------
Each Fund may purchase and write both over-the-counter ("OTC") and
exchange-traded options. Exchange-traded options in the United States are issued
by a clearing organization affiliated with the exchange on which the option is
listed which, in effect, guarantees completion of every exchange-traded option
transaction. In contrast, OTC options are contracts between a Fund and its
contra-party with no clearing organization guarantee. Thus, when a Fund
purchases an OTC option, it relies on the dealer from which it has purchased the
OTC option to make/take delivery of the securities underlying the option.
Failure by the dealer to do so would result in the loss of the premium paid by
the Fund, as well as the loss of the expected benefit of the transaction.
Currently, options on debt securities are primarily traded on the OTC market.
Exchange markets for options on debt securities exist, but the ability to
establish and close out positions on the exchanges is subject to the maintenance
of a liquid secondary market.
Value Trust and Total Return Trust each may invest up to 10% and
Special Investment Trust, Balanced Trust and Small-Cap Value may invest up to
15% of its assets in illiquid securities. The term "illiquid securities"
includes purchased OTC options. Assets used as cover for OTC options written by
the Fund also will be deemed illiquid securities, unless the OTC options are
sold to qualified dealers who agree that the Fund may repurchase any OTC options
it writes for a maximum price to be calculated by a formula set forth in the
option agreement. The cover for an OTC option subject to this procedure would be
considered illiquid only to the extent that the maximum repurchase price under
the formula exceeds the intrinsic value of the option.
COVER FOR OPTIONS AND FUTURES STRATEGIES
- ----------------------------------------
No Fund will use leverage in its hedging strategies involving options
and futures contracts. Each Fund will hold securities, options or futures
positions whose values are expected to offset ("cover") its obligations under
the transactions. No Fund will enter into hedging strategies involving options
- 15 -
<PAGE>
and futures contracts that expose the Fund to an obligation to another party
unless it owns either (i) an offsetting ("covered") position in securities,
options or futures contracts or (ii) has cash, receivables and liquid debt
securities with a value sufficient at all times to cover its potential
obligations. Each Fund will comply with guidelines established by the SEC with
respect to coverage of these strategies by mutual funds and, if the guidelines
so require, will set aside cash and/or appropriate liquid securities in a
segregated account with its custodian in the amount prescribed. Securities,
options or futures contracts used for cover and securities held in a segregated
account cannot be sold or closed out while the strategy is outstanding, unless
they are replaced with similar assets. As a result, there is a possibility that
the use of cover or segregation involving a large percentage of a Fund's assets
could impede the portfolio management or the Fund's ability to meet redemption
requests or other current obligations.
RISKS OF FUTURES AND RELATED OPTIONS TRADING
- --------------------------------------------
Successful use of futures contracts and related options depends upon
the ability of the adviser to assess movements in the direction of overall
securities and interest rates, which requires different skills and techniques
than assessing the value of individual securities. Moreover, futures contracts
relate not to the current price level of the underlying instrument, but to the
anticipated price level at some point in the future; trading of stock index
futures may not reflect the trading of the securities that are used to formulate
the index or even actual fluctuations in the index itself. There is, in
addition, the risk that movements in the price of the futures contract will not
correlate with the movements in the prices of the securities being hedged. Price
distortions in the marketplace, such as result from increased participation by
speculators in the futures market, may also impair the correlation between
movements in the prices of futures contracts and movements in the prices of the
hedged securities. If the price of the futures contract moves less than the
price of securities that are subject to the hedge, the hedge will not be fully
effective; however, if the price of the securities being hedged has moved in an
unfavorable direction, a Fund normally would be in a better position than if it
had not hedged at all. If the price of securities being hedged has moved in a
favorable direction, this advantage may be partially offset by losses on the
futures position.
Options have a limited life and thus can be disposed of only within a
specific time period. Positions in futures contracts may be closed out only on
an exchange or board of trade that provides a secondary market for such futures
contracts. Although each Fund intends to purchase and sell futures only on
exchanges or boards of trade where there appears to be a liquid secondary
market, there is no assurance that such a market will exist for any particular
contract at any particular time. In such event, it may not be possible to close
a futures position and, in the event of adverse price movements, the Fund would
continue to be required to make variation margin payments.
Purchasers of options on futures contracts pay a premium in cash at the
time of purchase which, in the event of adverse price movements, could be lost.
Sellers of options on futures contracts must post initial margin and are subject
to additional margin calls that could be substantial in the event of adverse
price movements. In addition, a Fund's activities in the futures markets may
result in a higher portfolio turnover rate and additional transaction costs in
the form of added brokerage commissions. Because combined options positions
involve multiple trades, they result in higher transaction costs and may be more
difficult to open and close out.
The exchanges may impose limits on the amount by which the price of a
futures contract or related option is permitted to change in a single day. If
the price of a contract moves to the limit for several consecutive days, a Fund
may be unable during that time to close its position in that contract and may
have to continue making payments of variation margin. A Fund may also be unable
to dispose of securities or other instruments being used as "cover" during such
a period.
RISKS OF OPTIONS TRADING
- ------------------------
The success of each Fund's option strategies depends on many factors,
the most significant of which is the adviser's ability to assess movements in
the overall securities and interest rate markets.
- 16 -
<PAGE>
The exercise price of the options may be below, equal to or above the
current market value of the underlying securities or indexes. Purchased options
that expire unexercised have no value. Unless an option purchased by a Fund is
exercised or unless a closing transaction is effected with respect to that
position, the Fund will realize a loss in the amount of the premium paid and any
transaction costs.
A position in an exchange-listed option may be closed out only on an
exchange that provides a secondary market for identical options. Although each
Fund intends to purchase or write only those exchange-traded options for which
there appears to be an active secondary market, there is no assurance that a
liquid secondary market will exist for any particular option at any specific
time. Closing transactions with respect to OTC options may be effected only by
negotiating directly with the other party to the option contract. Although each
Fund will enter into OTC options with dealers capable of entering into closing
transactions with the Fund, there can be no assurance that a Fund will be able
to liquidate an OTC option at a favorable price at any time prior to expiration.
In the event of insolvency of the contra-party, a Fund may be unable to
liquidate or exercise an OTC option, and could suffer a loss of its premium.
Also, the contra-party, although solvent, may refuse to enter into closing
transactions with respect to certain options, with the result that a Fund would
have to exercise those options which it has purchased in order to realize any
profit. With respect to options written by a Fund, the inability to enter into a
closing transaction may result in material losses to that Fund. For example,
because each Fund must maintain a covered position with respect to any call
option it writes on a security or index, a Fund may not sell the underlying
security or currency (or invest any cash, government securities or short-term
debt securities used to cover an index option) during the period it is obligated
under the option. This requirement may impair a Fund's ability to sell a
portfolio security or make an investment at a time when such a sale or
investment might be advantageous.
Options on indexes are settled exclusively in cash. If a Fund writes a
call option on an index, the Fund will not know in advance the difference, if
any, between the closing value of the index on the exercise date and the
exercise price of the call option itself, and thus will not know the amount of
cash payable upon settlement. In addition, a holder of an index option who
exercises it before the closing index value for that day is available runs the
risk that the level of the underlying index may subsequently change.
Each Fund's activities in the options markets may result in higher
portfolio turnover rates and additional brokerage costs.
ADDITIONAL LIMITATIONS ON FUTURES AND OPTIONS
- ---------------------------------------------
As a non-fundamental policy, each Fund will write a put or call on a
security only if (a) the security underlying the put or call is permitted by the
investment policies of that Fund, and (b) the aggregate value of the securities
underlying the calls or obligations underlying the puts determined as of the
date the options are sold does not exceed 25% of that Fund's net assets.
Under regulations adopted by the Commodity Futures Trading Commission,
futures contracts and related options may be used by each Fund (a) for hedging
purposes, without quantitative limits, and (b) for other purposes to the extent
that the amount of margin deposit on all such non-hedging futures contacts owned
by the Fund, together with the amount of premiums paid by that Fund on all such
non-hedging options held on futures contracts, does not exceed 5% of the market
value of that Fund's net assets.
The foregoing limitations, as well as those set forth in the prospectus
regarding each Fund's use of futures and related options transactions, do not
apply to options attached to, or acquired or traded together with their
underlying securities, and do not apply to securities that incorporate features
similar to options, such as rights, certain debt securities and indexed
securities.
The above limitations on each Fund's investments in futures contracts
and options may be changed as regulatory agencies permit. However, each Fund
will not modify the above limitations to increase its permissible futures and
options activities without supplying additional information, as appropriate, in
a current Prospectus or Statement of Additional Information.
- 17 -
<PAGE>
FORWARD CURRENCY CONTRACTS
- --------------------------
Each Fund may use forward currency contracts to protect against
uncertainty in the level of future exchange rates. No Fund will speculate with
forward currency contracts or foreign currencies.
Each Fund may enter into forward currency contracts with respect to
specific transactions. For example, when a Fund enters into a contract for the
purchase or sale of a security denominated in a foreign currency, or when a Fund
anticipates the receipt in a foreign currency of dividend or interest payments
on a security that it holds, the Fund may desire to "lock-in" the U.S. dollar
price of the security or the U.S. dollar equivalent of such payment, as the case
may be, by entering into a forward contract for the purchase or sale, for a
fixed amount of U.S. dollars or foreign currency, of the amount of foreign
currency involved in the underlying transaction. A Fund will thereby be able to
protect itself against a possible loss resulting from an adverse change in the
relationship between the currency exchange rates during the period between the
date on which the security is purchased or sold, or on which the payment is
declared, and the date on which such payments are made or received.
Each Fund also may use forward currency contracts in connection with
portfolio positions to lock-in the U.S. dollar value of those positions or to
shift the Fund's exposure to foreign currency fluctuations from one country to
another. For example, when the adviser believes that the currency of a
particular foreign country may suffer a substantial decline relative to the U.S.
dollar or another currency, it may enter into a forward currency contract to
sell the amount of the former foreign currency approximating the value of some
or all of a Fund's securities denominated in such foreign currency. This
investment practice generally is referred to as "cross-hedging" when another
foreign currency is used.
At or before the maturity date of a forward currency contract requiring
a Fund to sell a currency, the Fund may either sell a portfolio security and use
the sale proceeds to make delivery of the currency or retain the security and
offset its contractual obligation to deliver the currency by purchasing a second
contract pursuant to which the Fund will obtain, on the same maturity date, the
same amount of the currency that it is obligated to deliver. Similarly, a Fund
may close out a forward currency contract requiring it to purchase a specified
currency by entering into a second contract entitling it to sell the same amount
of the same currency on the maturity date of the first contract. A Fund would
realize a gain or loss as a result of entering into such an offsetting forward
currency contract under either circumstance to the extent the exchange rate or
rates between the currencies involved moved between the execution dates of the
first contract and the offsetting contract.
The precise matching of the forward contract amount and the value of
the securities involved will not generally be possible because the future value
of such securities in a foreign currency will change as a consequence of market
movements in the value of those securities between the date the forward currency
contract is entered into and the date it matures. Accordingly, it may be
necessary for a Fund to purchase additional foreign currency on the spot (i.e.,
cash) market (and bear the expense of such purchase) if the market value of the
security is less than the amount of foreign currency the Fund is obligated to
deliver under the forward contract and the decision is made to sell the security
and make delivery of the foreign currency. Conversely, it may be necessary to
sell on the spot market some of the foreign currency received upon the sale of
the portfolio security if its market value exceeds the amount of foreign
currency a Fund is obligated to deliver under the forward contract. The
projection of short-term currency market movements is extremely difficult, and
the successful execution of a short-term hedging strategy is highly uncertain.
Forward currency contracts involve the risk that anticipated currency movements
will not be accurately predicted, causing a Fund to sustain losses on these
contracts and transaction costs. Each Fund may enter into forward contracts or
maintain a net exposure to such contracts only if (1) the consummation of the
contracts would not obligate the Fund to deliver an amount of foreign currency
in excess of the value of the Fund's portfolio securities or other assets
denominated in that currency or (2) the Fund maintains cash, U.S. government
securities or other appropriate liquid securities in a segregated account in an
amount not less than the value of the Fund's total assets committed to the
consummation of the contract.
- 18 -
<PAGE>
The cost to a Fund of engaging in forward currency contracts varies
with factors such as the currencies involved, the length of the contract period
and the market conditions then prevailing. Because forward currency contracts
are usually entered into on a principal basis, no fees or commissions are
involved. Each Fund will deal only with banks, broker/dealers or other financial
institutions which the adviser deems to be of high quality and to present
minimum credit risk. The use of forward currency contracts does not eliminate
fluctuations in the prices of the underlying securities each Fund owns or
intends to acquire, but it does fix a rate of exchange in advance. In addition,
although forward currency contracts limit the risk of loss due to a decline in
the value of the hedged currencies, at the same time they limit any potential
gain that might result should the value of the currencies increase.
Although each Fund values its assets daily in terms of U.S. dollars, it
does not intend to convert its holdings of foreign currencies into U.S. dollars
on a daily basis. Each Fund may convert foreign currency from time to time, and
investors should be aware of the costs of currency conversion. Although foreign
exchange dealers do not charge a fee for conversion, they do realize a profit
based on the difference between the prices at which they are buying and selling
various currencies. Thus, a dealer may offer to sell a foreign currency to a
Fund at one rate, while offering a lesser rate of exchange should the Fund
desire to resell that currency to the dealer.
FOR EACH OF VALUE TRUST, TOTAL RETURN TRUST, SPECIAL INVESTMENT TRUST, BALANCED
TRUST AND SMALL-CAP VALUE:
PORTFOLIO LENDING
- -----------------
Each Fund may lend portfolio securities to brokers or dealers in
corporate or government securities, banks or other recognized institutional
borrowers of securities, provided that cash or equivalent collateral, equal to
at least 100% of the market value of the securities loaned, is continuously
maintained by the borrower with the Fund. During the time portfolio securities
are on loan, the borrower will pay the Fund an amount equivalent to any
dividends or interest paid on such securities, and the Fund may invest the cash
collateral and earn income, or it may receive an agreed upon amount of interest
income from the borrower who has delivered equivalent collateral. These loans
are subject to termination at the option of the Fund or the borrower. Each Fund
may pay reasonable administrative and custodial fees in connection with a loan
and may pay a negotiated portion of the interest earned on the cash or
equivalent collateral to the borrower or placing broker. Each Fund does not have
the right to vote securities on loan, but would terminate the loan and regain
the right to vote if that were considered important with respect to the
investment. The risks of securities lending are similar to those of repurchase
agreements. Each Fund presently does not intend to lend more than 5% of its
portfolio securities at any given time.
REPURCHASE AGREEMENTS
- ---------------------
When cash is temporarily available, or for temporary defensive
purposes, each Fund may invest without limit in repurchase agreement and money
market instruments, including high-quality short-term debt securities. A
repurchase agreement is an agreement under which either U.S. government
obligations or high-quality liquid debt securities are acquired from a
securities dealer or bank subject to resale at an agreed-upon price and date.
The securities are held for each Fund by a custodian bank as collateral until
resold and will be supplemented by additional collateral if necessary to
maintain a total value equal to or in excess of the value of the repurchase
agreement. Each Fund bears a risk of loss in the event that the other party to a
repurchase agreement defaults on its obligations and the fund is delayed or
prevented from exercising its rights to dispose of the collateral securities,
which may decline in value in the interim. The Funds will enter into repurchase
agreements only with financial institutions determined by each Fund's adviser to
present minimal risk of default during the term of the agreement based on
guidelines established by the Funds' Board of Directors.
Repurchase agreements are usually for periods of one week or less, but
may be for longer periods. The Funds will not enter into repurchase agreements
of more than seven days' duration if more than 15% of net assets (with respect
to American Leading Companies, Balanced Trust, Special Investment Trust and
Small-Cap Value) or more than 10% of net assets (with respect to Value Trust and
- 19 -
<PAGE>
Total Return Trust) would be invested in such agreements and other illiquid
investments. To the extent that proceeds from any sale upon a default of the
obligation to repurchase were less than the repurchase price, a Fund might
suffer a loss. If bankruptcy proceedings are commenced with respect to the
seller of the security, realization upon the collateral by a Fund could be
delayed or limited. However, each Fund has adopted standards for the parties
with whom it may enter into repurchase agreements, including monitoring by each
Fund's adviser of the creditworthiness of such parties which the Fund's Board of
Directors believes are reasonably designed to assure that each party presents no
serious risk of becoming involved in bankruptcy proceedings within the time
frame contemplated by the repurchase agreement.
When a Fund enters into a repurchase agreement, it will obtain as
collateral from the other party securities equal in value to 102% of the amount
of the repurchase agreement (or 100%, if the securities obtained are U.S.
Treasury bills, notes or bonds). Such securities will be held by a custodian
bank or an approved securities depository or book-entry system.
THE FOLLOWING INFORMATION APPLIES TO FINANCIAL SERVICES FUND:
This section supplements the information in the Prospectuses concerning
the investments the Fund may make and the techniques it may use. The Fund,
unless otherwise stated, may employ several investment strategies, including,
but not limited to:
ILLIQUID SECURITIES
- -------------------
The portfolio of the Fund may contain illiquid securities. Securities
may be illiquid due to contractual or legal restrictions on resale or lack of a
ready market. Illiquid securities generally include securities which cannot be
sold promptly without taking a reduced price.
The following securities are considered generally to be illiquid
(although if they are liquid they will be treated as such): repurchase
agreements and time deposits maturing in more than seven days, options traded in
the OTC market, nonpublicly offered securities, stripped CMOs, CMOs for which
there is no established market, direct investments in mortgages and restricted
securities.
The Fund may not invest more than 15% of its net assets in illiquid
securities.
RESTRICTED SECURITIES
- ---------------------
The Fund may invest in restricted securities, which are subject to
legal or contractual restrictions. Restricted securities may be sold only: in
privately negotiated transactions, in a public offering with respect to which a
registration statement is in effect under the Securities Act of 1933 or pursuant
to Rule 144 or Rule 144A. If registration is required, the Fund may be obligated
to pay all or a part of the registration expense. A considerable period may
elapse between the time of the decision to sell and the time such security may
be sold under an effective registration statement. The Fund may obtain a less
favorable price if adverse market conditions were to develop during this period.
Rule 144A securities will be treated as liquid to the extent they are determined
to be so. To the extent the Fund is invested in Rule 144A securities, the level
of illiquidity of the Fund could increase to the extent qualified buyers become
disinterested.
CONCENTRATION
- -------------
The Fund will not invest more than 25% of its total assets in a
particular industry other than the financial services industry.
FORWARD CONTRACTS
- -----------------
The Fund may wish to lock in the U.S. dollar value of a transaction at
or near the time of the purchase or sale at the exchange rate or rates then
prevailing between the U.S. dollar and the currency in which the foreign
- 20 -
<PAGE>
security is denominated. To do this, the Fund may enter into a forward contract,
which involves an obligation to purchase or sell a specified 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. These
contracts are entered into directly between currency traders (usually large
commercial banks) and their customers.
When it is desirable to limit or reduce exposure in a foreign currency
in order to moderate potential changes in the U.S. dollar value of the
portfolio, the Fund may enter into a forward contract to sell, for a fixed
amount of U.S. dollars, the amount of foreign currency approximating the value
of some or all of that fund's portfolio securities denominated in such foreign
currency. This is known as portfolio hedging. Hedging against a decline in the
value of currency does not eliminate fluctuations in the prices of portfolio
securities or prevent losses if the prices of such securities decline.
The Fund may also employ forward contracts to hedge against an increase
in the value of the currency in which the securities the fund intends to buy are
denominated. The Fund may also hedge its foreign currency exchange rate risk by
engaging in currency futures contracts and options transactions. The Fund will
not engage in foreign currency transactions for speculative purposes.
REPURCHASE AGREEMENTS
- ---------------------
The Fund may enter into repurchase agreements. In a repurchase
agreement transaction, the Fund purchases a security and simultaneously commits
to resell that security to the seller at an agreed upon price and date. In the
event of a bankruptcy or other default of the seller of a repurchase agreement,
the Fund could experience both delays in liquidating the underlying security and
losses.
EMERGING MARKET SECURITIES
- --------------------------
Because of the high levels of foreign-denominated debt owed by many
emerging market countries, fluctuating exchange rates can significantly affect
the debt service obligations of those countries. This could, in turn, affect
local interest rates, profit margins and exports which are a major source of
foreign exchange earnings. Although it might be theoretically possible to hedge
for anticipated income and gain, the ongoing and indeterminate nature of the
foregoing risk (and the costs associated with hedging transactions) makes it
virtually impossible to hedge effectively against such risks.
To the extent an emerging market country faces a liquidity crisis with
respect to its foreign exchange reserves, it may increase restrictions on the
outflow of any foreign exchange. Repatriation is ultimately dependent on the
ability of the Fund to liquidate its investments and convert the local currency
proceeds obtained from such liquidation into U.S. dollars. Where this conversion
must be done through official channels (usually the central bank or certain
authorized commercial banks), the ability to obtain U.S. dollars is dependent on
the availability of U.S. dollars through those channels and, if available, upon
the willingness of those channels to allocate those U.S. dollars to the Fund. In
such a case, the Fund's ability to obtain U.S. dollars may be adversely affected
by any increased restrictions imposed on the outflow of foreign exchange. If the
Fund is unable to repatriate any amounts due to exchange controls, it may be
required to accept an obligation payable at some future date by the central bank
or other government entity of the jurisdiction involved. If such conversion can
legally be done outside official channels, either directly or indirectly, the
Fund's ability to obtain U.S. dollars may not be affected as much by any
increased restrictions except to the extent of the price which may be required
to be paid for the U.S. dollars.
Many emerging market countries have little experience with the
corporate form of business organization, and may not have well developed
corporation and business laws or concepts of fiduciary duty in the business
context.
The securities markets of emerging markets are substantially smaller,
less developed, less liquid and more volatile than the securities markets of the
U.S. and other more developed countries. Disclosure and regulatory standards in
many respects are less stringent than in the U.S. and other major markets. There
- 21 -
<PAGE>
also may be a lower level of monitoring and regulation of emerging markets and
the activities of investors in such markets; enforcement of existing regulations
has been extremely limited.
Some emerging markets have different settlement and clearance
procedures. 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. The inability of the Fund to make
intended securities purchases due to settlement problems could cause the Fund to
miss attractive investment opportunities. Inability to dispose of a portfolio
security caused by settlement problems could result either in losses to the Fund
due to subsequent declines in the value of the portfolio security or, if the
Fund has entered into a contract to sell the security, in possible liability to
the purchaser.
The risk also exists that an emergency situation may arise in one or
more emerging markets as a result of which trading of securities may cease or
may be substantially curtailed and prices for the Fund's portfolio securities in
such markets may not be readily available.
SECURITIES IN THE FINANCIAL SERVICES INDUSTRY
- ---------------------------------------------
Companies in the financial services industry include regional and money
center banks, securities brokerage firms, asset management companies, savings
banks and thrift institutions, specialty finance companies (e.g., credit card,
mortgage providers), insurance and insurance brokerage firms, government
sponsored agencies (e.g., Sallie Mae), financial conglomerates and foreign
banking and financial services companies.
The financial services industry is currently undergoing relatively
rapid change as existing distinctions between financial service segments becomes
less clear. For instance, recent business combinations in the U.S. have included
insurance, finance, banking and/or securities brokerage under single ownership.
Moreover, the federal laws generally separating commercial and investment
banking are being studied actively by Congress. The services offered by banks
may expand if legislation broadening bank powers is enacted. While providing
diversification, expanded powers could expose banks to well-established
competitors, particularly as the historical distinctions between banks and other
financial institutions erode. Increased competition may also result from the
broadening of regional and national interstate banking powers, which has already
reduced the number of publicly traded regional banks.
Banks, savings and loan associations, and finance companies are subject
to extensive governmental regulation which may limit both the amounts and types
of loans and other financial commitments they can make and the interest rates
and fees they can charge. The profitability of these groups is largely dependent
on the availability and cost of capital funds, and can fluctuate significantly
when interest rates change. In addition, general economic conditions are
important to the operations of these concerns, with exposure to credit losses
resulting from possible financial difficulties of borrowers potentially having
an adverse effect.
Finance companies can be highly dependent upon access to capital
markets and any impediments to such access, such as adverse overall economic
conditions or a negative perception in the capital markets of a finance
company's financial condition or prospects, could adversely affect its business.
Insurance companies are likewise subject to substantial governmental
regulation, predominately at the state level, and may be subject to severe price
competition. The performance of the Fund's investments in insurance companies
will be subject to risk from several additional factors. The earnings of
insurance companies will be affected by, in addition to general economic
conditions, pricing (including severe pricing competition from time to time),
claims activity, and marketing competition. Particular insurance lines will also
be influenced by specific matters. Property and casualty insurer profits may be
affected by certain weather catastrophes and other disasters. Life and health
insurer profits may be affected by mortality and morbidity rates. Individual
companies may be exposed to material risk, including reserve inadequacy,
problems in investment portfolios (due to real estate or "junk" bond holdings,
- 22 -
<PAGE>
for example), and the inability to collect from reinsurance carriers. Insurance
companies are subject to extensive governmental regulation, including the
imposition of maximum rate levels, which may not be adequate for some lines of
business. Proposed or potential anti-trust or tax law changes also may affect
adversely insurance companies' policy sales, tax obligations and profitability.
Companies engaged in stock brokerage, commodity brokerage, investment
banking, investment management, or related investment advisory services are
closely tied economically to the securities and commodities markets and can
suffer during a decline in either. These companies also are subject to the
regulatory environment and changes in regulations, pricing pressure and the
availability of funds to borrowing and interest rates.
ADRS AND EDRS
- -------------
American Depositary Receipts ("ADRs"), European Depositary Receipts
("EDRs") and other similar securities convertible into securities of foreign
companies provide a means for investing directly in foreign equity securities.
ADRs are receipts typically issued by a European bank evidencing ownership of
the underlying foreign securities. To the extent an ADR or EDR is issued by a
bank unaffiliated with the foreign company issuer of the underlying security,
the bank has no obligation to disclose material information about the foreign
company issuer. The Fund may invest in ADRs and EDRs.
CORPORATE DEBT SECURITIES
- -------------------------
Corporate debt securities are bonds or notes issued by corporations and
other business organizations, including business trusts, in order to finance
their credit needs. Corporate debt securities include commercial paper which
consists of short-term (usually from 1 to 270 days) unsecured promissory notes
issued by corporations in order to finance their current operations. The Fund
may invest in foreign corporate debt securities denominated in U.S. dollars or
foreign currencies. Foreign debt securities include Yankee dollar obligations
(U.S. dollar denominated securities issued by foreign corporations and traded on
U.S. markets) and Eurodollar obligations (U.S. dollar denominated securities
issued by foreign corporations and traded on foreign markets).
GOVERNMENT OBLIGATIONS AND RELATED SECURITIES
- ---------------------------------------------
U.S. government obligations include a variety of securities that are
issued or guaranteed by the U.S. Treasury, by various agencies of the U.S.
Government or by various instrumentalities that have been established or
sponsored by the U.S. Government. U.S. Treasury securities and securities issued
by the GNMA and Small Business Administration are backed by the "full faith and
credit" of the U.S. Government. Other U.S. government obligations may or may not
be backed by the "full faith and credit" of the U.S. In the case of securities
not backed by the "full faith and credit" of the U.S., the investor must look
principally to the agency issuing or guaranteeing the obligation (such as the
Federal Farm Credit System, the Federal Home Loan Banks, Fannie Mae and Freddie
Mac for ultimate repayment and may not be able to assert a claim against the
U.S. itself in the event the agency or instrumentality does not meet its
commitments.
Participation interests in U.S. government obligations are pro rata
interests in such obligations which are generally underwritten by government
securities dealers. Certificates of safekeeping for U.S. government obligations
are documentary receipts for such obligations. Both participation interests and
certificates of safekeeping are traded on exchanges and in the over-the-counter
market.
The Fund may invest in U.S. government obligations and related
participation interests. In addition, the Fund may invest in custodial receipts
that evidence ownership of future interest payments, principal payments or both
on certain U.S. government obligations. Such obligations are held in custody by
a bank on behalf of the owners. These custodial receipts are known by various
names, including Treasury Receipts, Treasury Investors Growth Receipts ("TIGRs")
and Certificates of Accrual on Treasury Securities ("CATS"). Custodial receipts
- 23 -
<PAGE>
generally are not considered obligations of the U.S. government for purposes of
securities laws. The Fund will consider all interest-only or principal-only
fixed income securities as illiquid.
MUNICIPAL OBLIGATIONS
- ---------------------
Municipal obligations are debt obligations issued by or on behalf of
states, territories and possessions of the United States and the District of
Columbia, and their political subdivisions, agencies, authorities and
instrumentalities and other qualifying issuers which pay interest that is, in
the opinion of bond counsel to the issuer, exempt from federal income tax. The
Fund may invest no more than 5% of its net assets in municipal obligations
(including participation interests). Municipal obligations are issued to obtain
funds to construct, repair or improve various public facilities such as
airports, bridges, highways, hospitals, housing, schools, streets and water and
sewer works, to pay general operating expenses or to refinance outstanding
debts. They also may be issued to finance various private activities, including
the lending of funds to public or private institutions for construction of
housing, educational or medical facilities or the financing of privately owned
or operated facilities. Municipal obligations consist of tax-exempt bonds,
tax-exempt notes and tax-exempt commercial paper. Tax-exempt notes generally are
used to provide short term capital needs and generally have maturities of one
year or less. Tax-exempt commercial paper typically represents short-term,
unsecured, negotiable promissory notes.
The two principal classifications of municipal obligations are "general
obligation" and "revenue" bonds. General obligation bonds are backed by the
issuer's full credit and taxing power. Revenue bonds are backed by the revenues
of a specific project, facility or tax. Industrial development revenue bonds are
a specific type of revenue bond backed by the credit of the private issuer of
the facility, and therefore investments in these bonds have more potential risk
that the issuer will not be able to meet scheduled payments of principal and
interest.
ZERO COUPON AND PAY-IN-KIND BONDS
- ---------------------------------
Corporate debt securities and municipal obligations include so-called
"zero coupon" bonds and "pay-in-kind" bonds. The Fund may invest no more than 5%
of its net assets in zero coupon bonds or pay-in-kind bonds, respectively. Zero
coupon bonds are issued at a significant discount from their principal amount in
lieu of paying interest periodically. Pay-in-kind bonds allow the issuer, at its
option, to make current interest payments on the bonds either in cash or in
additional bonds. The value of zero coupon and pay-in-kind bonds is subject to
greater fluctuation in response to changes in market interest rates than bonds
which make regular payments of interest. Both of these types of bonds allow an
issuer to avoid the need to generate cash to meet current interest payments.
Accordingly, such bonds may involve greater credit risks than bonds which make
regular payments of interest. Even though zero coupon and pay-in-kind bonds do
not pay current interest in cash, the Fund holding those bonds is required to
accrue interest income on such investments and may be required to distribute
that income at least annually to shareholders. Thus, the Fund could be required
at times to liquidate other investments in order to satisfy its dividend
requirements.
MORTGAGE-RELATED SECURITIES
- ---------------------------
The Fund may invest no more than 5% of its net assets in
mortgage-related securities. Mortgage-related securities provide capital for
mortgage loans made to residential homeowners, including securities which
represent interests in pools of mortgage loans made by lenders such as savings
and loan institutions, mortgage bankers, commercial banks and others. Pools of
mortgage loans are assembled for sale to investors (such as the Fund) by various
governmental, government-related and private organizations, such as dealers. The
market value of mortgage-related securities will fluctuate as a result of
changes in interest rates and mortgage rates.
Interests in pools of mortgage loans generally provide a monthly
payment which consists of both interest and principal payments. In effect, these
payments are a "pass-through" of the monthly payments made by the individual
borrowers on their residential mortgage loans, net of any fees paid to the
issuer or guarantor of such securities. Additional payments are caused by
repayments of principal resulting from the sale of the underlying residential
- 24 -
<PAGE>
property, refinancing or foreclosure, net of fees or costs which may be
incurred. Some mortgage-related securities (such as securities issued by GNMA)
are described as "modified pass-through" because they entitle the holder to
receive all interest and principal payments owed on the mortgage pool, net of
certain fees, regardless of whether the mortgagor actually makes the payment.
Commercial banks, savings and loan institutions, private mortgage
insurance companies, mortgage bankers and other secondary market issuers, such
as dealers, create pass-through pools of conventional residential mortgage
loans. Such issuers also may be the originators of the underlying mortgage loans
as well as the guarantors of the mortgage-related securities. Pools created by
such non-governmental issuers generally offer a higher rate of interest than
government and government-related pools because there are no direct or indirect
government guarantees of payments with respect to such pools. However, timely
payment of interest and principal of these pools is supported by various forms
of insurance or guarantees, including individual loan, title, pool and hazard
insurance. There can be no assurance that the private insurers can meet their
obligations under the policies. The Fund may buy mortgage-related securities
without insurance or guarantees if, through an examination of the loan
experience and practices of the persons creating the pools, LMFA determines that
the securities are an appropriate investment for the Fund.
Another type of security representing an interest in a pool of mortgage
loans is known as a collateralized mortgage obligation ("CMO"). CMOs represent
interests in a short-term, intermediate-term or long-term portion of a mortgage
pool. Each portion of the pool receives monthly interest payments, but the
principal repayments pass through to the short-term CMO first and the long-term
CMO last. A CMO permits an investor to more accurately predict the rate of
principal repayments. CMOs are issued by private issuers, such as broker/dealers
and government agencies, such as Fannie Mae and Freddie Mac. Investments in CMOs
are subject to the same risks as direct investments in the underlying
mortgage-backed securities. In addition, in the event of a bankruptcy or other
default of a broker who issued the CMO held by the Fund, the Fund could
experience both delays in liquidating its position and losses. The Fund may
invest in CMOs in any rating category of the recognized rating services and may
invest in unrated CMOs. The Fund may also invest in "stripped" CMOs, which
represent only the income portion or the principal portion of the CMO.
The Fund's sub-adviser expects that governmental, government-related or
private entities may create mortgage loan pools offering pass-through
investments in addition to those described above. The mortgages underlying these
securities may be second mortgages or alternative mortgage instruments (for
example, mortgage instruments whose principal or interest payments may vary or
whose terms to maturity may differ from customary long-term fixed rate
mortgages). As new types of mortgage-related securities are developed and
offered to investors, the sub-adviser will, consistent with the Fund's
investment objective and policies, consider making investments in such new types
of securities. The Prospectuses will be amended with any necessary additional
disclosure prior to the Fund investing in such securities.
The average life of securities representing interests in pools of
mortgage loans is likely to be substantially less than the original maturity of
the mortgage pools as a result of prepayments or foreclosures of such mortgages.
Prepayments are passed through to the registered holder with the regular monthly
payments of principal and interest, and have the effect of reducing future
payments. To the extent the mortgages underlying a security representing an
interest in a pool of mortgages are prepaid, the Fund may experience a loss (if
the price at which the respective security was acquired by the Fund was at a
premium over par, which represents the price at which the security will be
redeemed upon prepayment) or a gain (if the price at which the respective
security was acquired by the Fund was at a discount from par). In addition,
prepayments of such securities held by the Fund will reduce the share price of
the Fund to the extent the market value of the securities at the time of
prepayment exceeds their par value, and will increase the share price of the
Fund to the extent the par value of the securities exceeds their market value at
the time of prepayment. Prepayments may occur with greater frequency in periods
of declining mortgage rates because, among other reasons, it may be possible for
mortgagors to refinance their outstanding mortgages at lower interest rates.
- 25 -
<PAGE>
Although the market for mortgage-related securities issued by private
organizations is becoming increasingly liquid, such securities may not be
readily marketable. The Fund will not purchase mortgage-related securities for
which there is no established market (including CMOs and direct investments in
mortgages as described below) or any other investments which the adviser and/or
the sub-adviser deems to be illiquid pursuant to criteria established by the
Board of Directors if, as a result, more than 10% of the value of the Fund's net
assets would be invested in such illiquid securities and investments.
Government-related organizations which issue mortgage-related securities include
GNMA, Fannie Mae and Freddie Mac. Securities issued by GNMA and Fannie Mae are
fully modified pass-through securities, i.e., the timely payment of principal
and interest is guaranteed by the issuer. Freddie Mac securities are modified
pass-through securities, i.e., the timely payment of interest is guaranteed by
Freddie Mac, principal is passed through as collected but payment thereof is
guaranteed not later than one year after it becomes payable.
DIRECT INVESTMENT IN MORTGAGES
- ------------------------------
Mortgage-related securities include investments made directly in
mortgages secured by real estate. When the Fund makes a direct investment in
mortgages, the Fund, rather than a financial intermediary, becomes the mortgagee
with respect to such loans purchased by the Fund. Direct investments in
mortgages are normally available from lending institutions which group together
a number of mortgages for resale (usually from 10 to 50 mortgages) and which act
as servicing agent for the purchaser with respect to, among other things, the
receipt of principal and interest payments. (Such investments are also referred
to as "whole loans.") The vendor of such mortgages receives a fee from the
purchaser for acting as servicing agent. The vendor does not provide any
insurance or guarantees covering the repayment of principal or interest on the
mortgages. The Fund will invest in such mortgages only if the sub-adviser has
determined through an examination of the mortgage loans and their originators
that the purchase of the mortgages should not present a significant risk of loss
to the Fund.
FLOATING AND VARIABLE RATE OBLIGATIONS
- --------------------------------------
Fixed income securities may be offered in the form of floating and
variable rate obligations. The Fund may invest no more than 5% of its net assets
in floating and variable rate obligations, respectively. Floating rate
obligations have an interest rate which is fixed to a specified interest rate,
such as bank prime rate, and is automatically adjusted when the specified
interest rate changes. Variable rate obligations have an interest rate which is
adjusted at specified intervals to a specified interest rate. Periodic interest
rate adjustments help stabilize the obligations' market values.
The Fund may purchase these obligations from the issuers or may
purchase participation interests in pools of these obligations from banks or
other financial institutions. Variable and floating rate obligations usually
carry demand features that permit the Fund to sell the obligations back to the
issuers or to financial intermediaries at par value plus accrued interest upon
short notice at any time or prior to specific dates. The inability of the issuer
or financial intermediary to repurchase an obligation on demand could affect the
liquidity of the Fund's portfolio. Frequently, obligations with demand features
are secured by letters of credit or comparable guarantees. Floating and variable
rate obligations which do not carry unconditional demand features that can be
exercised within seven days or less are deemed illiquid unless the Board
determines otherwise. The Fund's investment in illiquid floating and variable
rate obligations would be limited to the extent that it is not permitted to
invest more than 10% of the value of its net assets in illiquid investments.
LOANS OF PORTFOLIO SECURITIES
- -----------------------------
The Fund may make short- and long-term loans of its portfolio
securities. Under an authorized lending policy, the borrower must agree to
maintain collateral, in the form of cash or U.S. Government obligations, with
the Fund on a daily mark-to-market basis in an amount at least equal to 100% of
the value of the loan securities.
- 26 -
<PAGE>
The Fund will continue to receive dividends or interest on the loaned
securities and may terminate such loans at any time or reacquire such securities
in time to vote on any matter which the Board of Directors determines to be
serious. There is a risk that the borrower may fail to return the loaned
securities or may not be able to provide additional collateral.
No loans will be made if, as a result, the aggregate amount of such
loans would exceed 25% of the Fund's total assets.
INVESTMENT COMPANIES
- --------------------
The Fund is permitted to invest in other investment companies. The Fund
will not: (a) invest more than 10% of its total assets in securities of other
investment companies; (b) invest more than 5% of its total assets in securities
of any investment company; and (c) purchase more than 3% of the outstanding
voting stock of any investment company.
If the Fund acquires securities of another investment company, you may
be subject to duplicative management fees.
BOND RATINGS
- ------------
The Fund may invest in debt obligations (such as corporate debt
securities and municipal obligations) in any rating category of the recognized
rating services, including issues that are in default, and may invest in unrated
debt obligations. Most foreign debt obligations are not rated.
Generally, investments in securities in the lower rating categories or
comparable unrated securities provide higher yields but involve greater price
volatility and risk of loss of principal and interest than investments in
securities with higher ratings. Securities rated lower than Baa by Moody's
Investors Service, Inc. ("Moody's") or BBB by Standard & Poor's ("S&P")
(commonly know as "junk bonds"), are below investment grade and have speculative
characteristics, and those in the lowest rating categories are extremely
speculative and may be in default with respect to payment of principal and
interest. The Fund does not intend to invest more than 5% of its net assets in
securities rated below investment grade.
Lower ratings reflect a greater possibility that an adverse change in
financial condition will affect the ability of the issuer to make payments of
principal and interest than is the case with higher grade securities. In
addition, lower-rated securities will also be affected by the market's
perceptions of their credit quality and the outlook for economic growth. In the
past, economic downturns or an increase in interest rates have under certain
circumstances caused a higher incidence of default by the issuers of these
securities and may do so in the future, especially in the case of highly
leveraged issuers. The prices for these securities may be affected by
legislative and regulatory developments. For example, federal rules require that
savings and loan associations gradually reduce their holdings of high yield
securities. An effect of such legislation may be to significantly depress the
prices of outstanding lower-rated securities. The market for lower-rated
securities may be less liquid than the market for securities with higher
ratings. Furthermore, the liquidity of lower-rated securities may be affected by
the market's perception of their credit quality. Therefore, judgment may at
times play a greater role in valuing these securities than in the case of
higher-rated securities, and it also may be more difficult during certain
adverse market conditions to sell lower-rated securities at their face value to
meet redemption requests or to respond to changes in the market.
Although the above risks apply to all lower-rated securities, the
investment risk increases when the rating of the security is below investment
grade. The lowest-rated securities (D by S&P and C by Moody's) are regarded as
having extremely poor prospects of ever attaining any real investment standing
and, in fact, may be in default of payment of interest or repayment of
principal. To the extent the Fund invests in these lower-rated securities, the
achievement of its investment objective may be more dependent on Gray, Seifert's
own credit analysis than in the case of the Fund investing in higher-rated
securities.
- 27 -
<PAGE>
The Fund may invest in securities which are in lower rating categories
or are unrated if Gray, Seifert determines that the securities provide the
opportunity of meeting the Fund's objective without presenting excessive risk.
Gray, Seifert will consider all factors which it deems appropriate, including
ratings, in making investment decisions for the Fund and will attempt to
minimize investment risks through diversification, investment analysis and
monitoring of general economic conditions and trends. While Gray, Seifert may
refer to ratings, it does not rely exclusively on ratings, but makes its own
independent and ongoing review of credit quality.
PORTFOLIO TURNOVER
- ------------------
The Fund anticipates that in the future its portfolio turnover rate
will not exceed 100%. The portfolio turnover rate is computed by dividing the
lesser of purchases or sales of securities for the period by the average value
of portfolio securities for that period. Short-term securities are excluded from
the calculation. High portfolio turnover rates (100% or more) will involve
corresponding greater transaction costs which will be borne directly by the
Fund. It may also increase the amount of short-term capital gains realized by
the Fund and thus may affect the tax treatment of distributions paid to
shareholders, because distributions of net short-term capital gains are taxable
as ordinary income. The Fund will take these possibilities into account as part
of its investment strategies. It is expected that the portfolio turnover for the
Fund will be low to moderate.
ADDITIONAL TAX INFORMATION
The following is a general summary of certain federal tax
considerations affecting each Fund and its shareholders. Investors are urged to
consult their own tax advisers for more detailed information and for information
regarding any federal, state or local taxes that might apply to them.
GENERAL
- -------
For federal tax purposes, each Fund is treated as a separate
corporation. To continue to qualify for treatment as a regulated investment
company ("RIC") under the Internal Revenue Code of 1986, as amended ("Code"),
each Fund must distribute annually to its shareholders at least 90% of its
investment company taxable income (generally, net investment income plus any net
short-term capital gain and any net gains from certain foreign currency
transactions) ("Distribution Requirement") and must meet several additional
requirements. For each Fund, these requirements include the following: (1) the
Fund must derive at least 90% of its gross income each taxable year from
dividends, interest, payments with respect to securities loans and gains from
the sale or other disposition of securities or foreign currencies, or other
income (including gains from options, futures or forward currency contracts)
derived with respect to its business of investing in securities or those
currencies ("Income Requirement"); (2) at the close of each quarter of the
Fund's taxable year, at least 50% of the value of its total assets must be
represented by cash and cash items, U.S. government securities, securities of
other RICs and other securities, with those other securities limited, in respect
of any one issuer, to an amount that does not exceed 5% of the value of the
Fund's total assets and that does not represent more than 10% of the issuer's
outstanding voting securities; and (3) at the close of each quarter of the
Fund's taxable year, not more than 25% of the value of its total assets may be
invested in the securities (other than U.S. government securities or the
securities of other RICs) of any one issuer. If any Fund failed to qualify for
treatment as a RIC for any taxable year, (i) it would be taxed at corporate
rates on the full amount of its taxable income for that year without being able
to deduct the distributions it makes to its shareholders and (ii) the
shareholders would treat all those distributions, including distributions of net
capital gain (I.E., the excess of net long-term capital gain over net short-term
capital loss), as dividends (that is, ordinary income) to the extent of the
Fund's earnings and profits. In addition, the Fund could be required to
recognize unrealized gains, pay substantial taxes and interest and make
substantial distributions before requalifying for RIC treatment.
Each Fund will be subject to a nondeductible 4% excise tax ("Excise
Tax") to the extent it fails to distribute by the end of any calendar year
substantially all of its ordinary income for that year and capital gain net
income for the one-year period ending on October 31 of that year, plus certain
other amounts.
- 28 -
<PAGE>
Dividends and interest received by each Fund, and gains realized
thereby, may be subject to income, withholding or other taxes imposed by foreign
countries and U.S. possessions that would reduce the total return on its
securities. Tax conventions between certain countries and the United States may
reduce or eliminate these foreign taxes, however, and many foreign countries do
not impose taxes on capital gains in respect of investments by foreign
investors.
DIVIDENDS AND OTHER DISTRIBUTIONS
- ---------------------------------
Dividends and other distributions declared by a Fund in December of any
year and payable to its shareholders of record on a date in that month will be
deemed to have been paid by the Fund and received by the shareholders on
December 31 if the distributions are paid by the Fund during the following
January. Accordingly, those distributions will be taxed to shareholders for the
year in which that December 31 falls.
A portion of the dividends from each Fund's investment company taxable
income (whether paid in cash or reinvested in Fund shares) may be eligible for
the dividends-received deduction allowed to corporations. The eligible portion
for any Fund may not exceed the aggregate dividends received by that Fund for
the taxable year from domestic corporations. However, dividends received by a
corporate shareholder and deducted by it pursuant to the dividends-received
deduction are subject indirectly to the federal alternative minimum tax.
Distributions of net capital gain made by any Fund do not qualify for the
dividends-received deduction.
If Fund shares are sold at a loss after being held for six months or
less, the loss will be treated as a long-term, instead of a short-term, capital
loss to the extent of any capital gain distributions received on those shares.
PASSIVE FOREIGN INVESTMENT COMPANIES
- ------------------------------------
Each Fund may invest in the stock of "passive foreign investment
companies" ("PFICs"). A PFIC is a foreign corporation -- other than a
"controlled foreign corporation" (i.e., a foreign corporation in which, on any
day during its taxable year, more than 50% of the total voting power of all
voting stock therein or the total value of all stock therein is owned, directly,
indirectly, or constructively, by "U.S. shareholders," defined as U.S. persons
that individually own, directly, indirectly, or constructively, at least 10% of
that voting power) as to which a Fund is a U.S. shareholder -- that, in general,
meets either of the following tests: (1) at least 75% of its gross income is
passive or (2) an average of at least 50% of its assets produce, or are held for
the production of, passive income. Under certain circumstances, a Fund will be
subject to federal income tax on a portion of any "excess distribution" received
on the stock of a PFIC or of any gain on disposition of that stock (collectively
"PFIC income"), plus interest thereon, even if the Fund distributes the PFIC
income as a taxable dividend to its shareholders. The balance of the PFIC income
will be included in the Fund's investment company taxable income and,
accordingly, will not be taxable to it to the extent it distributes that income
to its shareholders.
If a Fund invests in a PFIC and elects to treat the PFIC as a
"qualified electing fund" ("QEF"), then in lieu of the foregoing tax and
interest obligation, the Fund would be required to include in income each year
its PRO RATA share of the QEF's annual ordinary earnings and net capital gain --
which the Fund probably would have to distribute to satisfy the Distribution
Requirement and avoid imposition of the Excise Tax -- even if the QEF did not
distribute those earnings and gain to the Fund. In most instances it will be
very difficult, if not impossible, to make this election because of certain
requirements thereof.
Each Fund may elect to "mark-to-market" its stock in any PFIC.
"Marking-to-market," in this context, means including in ordinary income each
taxable year the excess, if any, of the fair market value of the stock over a
Fund's adjusted basis therein as of the end of that year. Pursuant to the
election, a Fund also would be allowed to deduct (as an ordinary, not capital,
loss) the excess, if any, of its adjusted basis in PFIC stock over the fair
market value thereof as of the taxable year-end, but only to the extent of any
net mark-to-market gains with respect to that stock included in income by the
Fund for prior taxable years under the election (and under regulations proposed
in 1992 that provided a similar election with respect to the stock of certain
- 29 -
<PAGE>
PFICs). A Fund's adjusted basis in each PFIC's stock subject to the election
would be adjusted to reflect the amounts of income included and deductions taken
thereunder.
OPTIONS, FUTURES, FORWARD CURRENCY CONTRACTS AND FOREIGN CURRENCIES
- -------------------------------------------------------------------
The use of hedging instruments, such as writing (selling) and
purchasing options and futures contracts and entering into forward currency
contracts, involves complex rules that will determine for income tax purposes
the amount, character and timing of recognition of the gains and losses each
Fund realizes in connection therewith. Gains from the disposition of foreign
currencies (except certain gains that may be excluded by future regulations) --
and gains from options derived by American Leading Companies, or from options,
futures and forward currency contracts derived by each other Fund, with respect
to its business of investing in securities or foreign currencies -- will qualify
as permissible income under the Income Requirement.
Certain futures and foreign currency contracts in which a Fund may
invest will be subject to section 1256 of the Code ("section 1256 contracts").
Any section 1256 contracts a Fund holds at the end of each taxable year other
than contracts with respect to which the Fund has made a "mixed straddle
election, must be "marked-to-market" (that is, treated as having been sold at
that time for their fair market value), with the result that unrealized gains or
losses will be treated as though they were realized. Sixty percent of any net
gain or loss recognized on these deemed sales, and sixty percent of any net
realized gain or loss on section 1256 contracts actually sold by the Fund during
the year will be treated as long-term capital gain or loss, and the balance will
be treated as short-term capital gain or loss. Section 1256 contracts also may
be marked-to-market for purposes of the Excise Tax. These rules may operate to
increase the amount that a fund must distribute to satisfy the Distribution
Requirement (I.E., with respect to the portion treated as short-term capital
gain), which will be taxable to the shareholders as ordinary income, and to
increase the net capital gain a Fund recognizes, without in either case
increasing the cash available to the Fund. A Fund may elect to exclude certain
transactions from the operation of section 1256, although doing so may have the
effect of increasing the relative proportion of net short-term capital gain
(taxable as ordinary income) and thus increasing the amount of dividends that
must be distributed.
When a covered call option written (sold) by a Fund expires, the Fund
realizes a short-term capital gain equal to the amount of the premium it
received for writing the option. When a Fund terminates its obligations under
such an option by entering into a closing transaction, the Fund realizes a
short-term capital gain (or loss), depending on whether the cost of the closing
transaction is less than (or exceeds) the premium received when the option was
written. When a covered call option written by a Fund is exercised, the Fund is
treated as having sold the underlying security, producing long-term or
short-term capital gain or loss, depending on the holding period of the
underlying security and whether the sum of the option price received on the
exercise plus the premium received when the option was written exceeds or is
less than the basis of the underlying security.
Code section 1092 (dealing with straddles) also may affect the taxation
of options and futures contracts in which a Fund may invest. Section 1092
defines a "straddle" as offsetting positions with respect to personal property;
for these purposes, options and futures contracts are personal property. Under
section 1092, any loss from the disposition of a position in a straddle
generally may be deducted only to the extent the loss exceeds the unrealized
gain on the offsetting position(s) of the straddle; in addition, these rules may
apply to postpone the recognition of loss that otherwise would be recognized
under the mark-to-market rules discussed above. The regulations under section
1092 also provide certain "wash sale" rules, which apply to transactions where a
position is sold at a loss and a new offsetting position is acquired within a
prescribed period, and "short sale" rules applicable to straddles. If a Fund
makes certain elections, the amount, character, and timing of recognition of
gains and losses from the affected straddle positions would be determined under
rules that vary according to the elections made. Because only a few of the
regulations implementing the straddle rules have been promulgated, the tax
consequences to the Funds of straddle transactions are not entirely clear.
If a Fund has an "appreciated financial position" -- generally, an
interest (including an interest through an option, futures or forward currency
contract or short sale) with respect to any stock, debt instrument (other than
- 30 -
<PAGE>
"straight debt") or partnership interest the fair market value of which exceeds
its adjusted basis -- and enters into a "constructive sale" of the position, the
Fund will be treated as having made an actual sale thereof, with the result that
gain will be recognized at that time. A constructive sale generally consists of
a short sale, an offsetting notional principal contract or a futures or forward
currency contract entered into by a Fund or a related person with respect to the
same or substantially identical property. In addition, if the appreciated
financial position is itself a short sale or such a contract, acquisition of the
underlying property or substantially identical property will be deemed a
constructive sale. The foregoing will not apply, however, to any transaction of
a Fund during any taxable year that otherwise would be treated as a constructive
sale if the transaction is closed within 30 days after the end of that year and
the fund holds the appreciated financial position unhedged for 60 days after
that closing (I.E., at no time during that 60-day period is the Fund's risk of
loss regarding that position reduced by reason of certain specified transactions
with respect to substantially identical or related property, such as having an
option to sell, being contractually obligated to sell, making a short sale, or
granting an option to buy substantially identical stock or securities).
To the extent a Fund recognizes income from a "conversion transaction,"
as defined in section 1258 of the Code, all or part of the gain from the
disposition or other termination of a position held as part of the conversion
transaction may be recharacterized as ordinary income. A conversion transaction
generally consists of two or more positions taken with regard to the same or
similar property, where (1) substantially all of the taxpayer's return is
attributable to the time value of its net investment in the transaction and (2)
the transaction satisfies any of the following criteria: (a) the transaction
consists of the acquisition of property by the taxpayer and a substantially
contemporaneous agreement to sell the same or substantially identical property
in the future; (b) the transaction is a straddle, within the meaning of section
1092 of the Code (see above); (c) the transaction is one that was marketed or
sold to the taxpayer on the basis that it would have the economic
characteristics of a loan but the interest-like return would be taxed as capital
gain; or (d) the transaction is described as a conversion transaction in future
regulations.
ADDITIONAL PURCHASE AND REDEMPTION INFORMATION
Each Fund offers two classes of shares, known as Primary Shares and
Navigator Shares. Financial Services Fund also offers a third class of shares:
Class A shares. Primary Shares and Class A shares are available from Legg Mason,
certain of its affiliates and unaffiliated entities having an agreement with
Legg Mason. Navigator Shares are currently offered for sale only to
Institutional Clients of Legg Mason Trust Company for which they exercise
discretionary investment management responsibility and accounts of the customers
with such Institutional Clients, to qualified retirement plans managed on a
discretionary basis and having net assets of at least $200 million, to clients
of Bartlett & Co. who, as of December 19, 1996 were shareholders of Bartlett
Short-Term Bond Fund or Bartlett Fixed Income Fund and for whom Bartlett acts as
an ERISA fiduciary, Class Y shareholders of Bartlett Europe Fund or Bartlett
Financial Services Fund on October 5, 1999, to any qualified retirement plan of
Legg Mason, Inc. or of any of its affiliates, and to certain institutions who
were clients of Fairfield Group, Inc. as of February 28, 1999 for investment of
their own monies and monies for which they act in a fiduciary capacity.
Navigator Shares may not be purchased by individuals directly, but Institutional
Clients may purchase shares for Customer Accounts maintained for individuals.
Primary Shares and Class A shares are available to all other investors.
FUTURE FIRST SYSTEMATIC INVESTMENT PLAN AND TRANSFER OF FUNDS FROM FINANCIAL
INSTITUTIONS
- --------------------------------------------------------------------------------
If you invest in Primary Shares or Class A shares, the Prospectuses for
those shares explains that you may buy Primary Shares or Class A through the
Future First Systematic Investment Plan. Under this plan you may arrange for
automatic monthly investments in Primary Shares or Class A shares of $50 or more
by authorizing Boston Financial Data Services ("BFDS"), each Fund's transfer
agent, to transfer funds each month from your Legg Mason account or from your
checking account to be used to buy Primary Shares at the per share net asset
value determined on the day the funds are sent from your bank. You will receive
a quarterly account statement. You may terminate the Future First Systematic
Investment Plan at any time without charge or penalty. Forms to enroll in the
Future First Systematic Investment Plan are available from any Legg Mason or
affiliated office.
- 31 -
<PAGE>
Investors in Primary Shares may also buy Primary Shares through a plan
permitting transfers of funds from a financial institution. Certain financial
institutions may allow the investor, on a pre-authorized basis, to have $50 or
more automatically transferred monthly for investment in shares of a Fund to:
Legg Mason Wood Walker, Incorporated
Funds Processing
P.O. Box 1476
Baltimore, Maryland 21203-1476
If the investor's check is not honored by the institution it is drawn on, the
investor may be subject to extra charges in order to cover collection costs.
These charges may be deducted from the investor's shareholder account.
SYSTEMATIC WITHDRAWAL PLAN
- --------------------------
If you own Primary Shares or Class A shares with a net asset value of
$5,000 or more, you may also elect to make systematic withdrawals from your Fund
account of a minimum of $50 on a monthly basis. The amounts paid to you each
month are obtained by redeeming sufficient shares from your account to provide
the withdrawal amount that you have specified. The Systematic Withdrawal Plan is
not currently available for shares held in an Individual Retirement Account
("IRA"), Simplified Employee Pension Plan ("SEP"), Savings Incentive Match Plan
for Employees ("SIMPLE") or other qualified retirement plan. You may change the
monthly amount to be paid to you without charge not more than once a year by
notifying Legg Mason or the affiliate with which you have an account.
Redemptions will be made at the shares' net asset value per share determined as
of the close of regular trading of the New York Stock Exchange ("Exchange")
(normally 4:00 p.m., eastern time) ("close of the Exchange") on the first day of
each month. If the Exchange is not open for business on that day, the shares
will be redeemed at the per share net asset value determined as of the close of
the Exchange on the preceding business day. The check for the withdrawal payment
will usually be mailed to you on the next business day following redemption. If
you elect to participate in the Systematic Withdrawal Plan, dividends and other
distributions on all shares in your account must be automatically reinvested in
the applicable class of shares. You may terminate the Systematic Withdrawal Plan
at any time without charge or penalty. Each Fund, its transfer agent, and Legg
Mason also reserve the right to modify or terminate the Systematic Withdrawal
Plan at any time.
Withdrawal payments are treated as a sale of shares rather than as a
dividend or other distribution. These payments are taxable to the extent that
the total amount of the payments exceeds the tax basis of the shares sold. If
the periodic withdrawals exceed reinvested dividends and distributions, the
amount of your original investment may be correspondingly reduced.
Ordinarily, you should not purchase additional shares of the Fund in
which you have an account if you maintain a Systematic Withdrawal Plan, because
you may incur tax liabilities in connection with such purchases and withdrawals.
No Fund will knowingly accept purchase orders from you for additional shares if
you maintain a Systematic Withdrawal Plan unless your purchase is equal to at
least one year's scheduled withdrawals. In addition, if you maintain a
Systematic Withdrawal Plan you may not make periodic investments under the
Future First Systematic Investment Plan.
OTHER INFORMATION REGARDING REDEMPTION
- --------------------------------------
The date of payment for redemption may not be postponed for more than
seven days, and the right of redemption may not be suspended, by a Fund or its
distributor except (i) for any period during which the Exchange is closed (other
than for customary weekend and holiday closings), (ii) when trading in markets
the Fund normally utilizes is restricted, or an emergency, as defined by rules
and regulations of the SEC, exists, making disposal of the Fund's investments or
determination of its net asset value not reasonably practicable, or (iii) for
such other periods as the SEC by regulation or order may permit for protection
of each Fund's shareholders. In the case of any such suspension, you may either
- 32 -
<PAGE>
withdraw your request for redemption or receive payment based upon the net asset
value next determined after the suspension is lifted.
Each Fund reserves the right, under certain conditions, to honor any
request or combination of requests for redemption from the same shareholder in
any 90-day period, totaling $250,000 or 1% of the net assets of the Fund,
whichever is less, by making payment in whole or in part in securities valued in
the same way as they would be valued for purposes of computing the Fund's net
asset value per share. If payment is made in securities, a shareholder should
expect to incur brokerage expenses in converting those securities into cash and
will be subject to fluctuation in the market price of those securities until
they are sold. Each Fund does not redeem "in kind" under normal circumstances,
but would do so where the adviser determines that it would be in the best
interests of the Fund's shareholders as a whole.
Class A shares that were purchased pursuant to the front-end sales charge waiver
on purchases of $1 million or more and are redeemed within one year of their
purchase are subject to a CDSC of 1.00% of the shares' net asset value at the
time of purchase or redemption, whichever is less.
VALUATION OF FUND SHARES
Net asset value of a Fund share is determined daily for each Class as
of the close of the Exchange, on every day the Exchange is open, by dividing the
value of the total assets attributable to that Class, less liabilities
attributable to that Class, by the number of shares of that Class outstanding.
Pricing will not be done on days when the Exchange is closed. The Exchange
currently observes the following holidays: New Year's Day, Presidents' Day,
Martin Luther King, Jr. Day, Good Friday, Memorial Day, Independence Day, Labor
Day, Thanksgiving, and Christmas. As described in the Prospectuses, securities
for which market quotations are readily available are valued at current market
value. Securities traded on an exchange or the NASDAQ Stock Market are normally
valued at last sale prices. Other over-the-counter securities, and securities
traded on exchanges for which there is no sale on a particular day (including
debt securities), are valued at the mean of latest closing bid and asked prices.
Securities with remaining maturities of 60 days or less are valued at amortized
cost. Securities and other assets quoted in foreign currencies will be valued in
U.S. dollars based on the currency exchange rates prevailing at the time of the
valuation. All other securities are valued at fair value as determined by or
under the direction of the appropriate Fund's Board of Directors. Premiums
received on the sale of call options are included in the net asset value of each
Class, and the current market value of options sold by a Fund will be subtracted
from net assets of each Class.
PERFORMANCE INFORMATION
The following tables show the value, as of the end of each fiscal year,
of a hypothetical investment of $10,000 made in each Fund at commencement of
operations of each class of Fund shares. The tables assume that all dividends
and other distributions are reinvested in each respective Fund. They include the
effect of all charges and fees applicable to the respective class of shares the
Fund has paid. (There are no fees for investing or reinvesting in the Funds
imposed by the Funds, and there are no redemption fees other than those
described above for Class A shares.) They do not include the effect of any
income tax that an investor would have to pay on distributions. Performance data
is only historical, and is not intended to indicate any Fund's future
performance.
Financial Services Fund commenced operations on November 16, 1998;
therefore no performance information is provided for this fund.
- 33 -
<PAGE>
VALUE TRUST:
PRIMARY SHARES
- --------------
<TABLE>
<CAPTION>
Value of Original Shares Plus Value of Shares
Shares Obtained Through Acquired Through Reinvestment
Reinvestment of Capital Gain of Income Dividends
Fiscal Year Distributions Total Value
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
1983* $16,160 $ 241 $16,401
1984 18,870 555 19,425
1985 23,583 1,100 24,683
1986 32,556 1,954 34,510
1987 35,503 2,421 37,924
1988 32,268 2,461 34,729
1989 37,650 3,459 41,109
1990 39,891 4,399 44,290
1991 37,701 5,313 43,014
1992 44,210 7,204 51,414
1993 50,184 8,819 59,003
1994 52,789 9,548 62,337
1995 57,817 10,610 68,427
1996 82,356 14,870 97,226
1997 110,379 19,502 129,881
1998 172,493 29,268 201,761
1999 259,794 42,708 302,502
</TABLE>
* April 16, 1982 (commencement of operations) to March 31, 1983.
- 34 -
<PAGE>
NAVIGATOR SHARES
- ----------------
<TABLE>
<CAPTION>
Value of Original Shares Plus Value of Shares
Shares Obtained Through Acquired Through Reinvestment
Reinvestment of Capital Gain of Income Dividends
Fiscal Year Distributions Total Value
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
1995* $10,805 $ 6 $10,811
1996 15,249 268 15,517
1997 20,323 619 20,942
1998 31,713 1,146 32,859
1999 48,038 1,688 49,726
</TABLE>
* December 1, 1994 (commencement of operations) to March 31, 1995.
With respect to Primary Shares, if the investor had not reinvested
dividends and other distributions, the total value of the hypothetical
investment as of March 31, 1999 would have been $146,180, and the investor would
have received a total of $29,223 in distributions. With respect to Navigator
Shares, if the investor had not reinvested dividends and other distributions,
the total value of the hypothetical investment as of March 31, 1999 would have
been $39,707, and the investor would have received a total of $4,062 in
distributions. If the adviser had not waived certain fees in the 1983-1999
fiscal years, returns would have been lower.
- 35 -
<PAGE>
TOTAL RETURN TRUST:
PRIMARY SHARES
- --------------
<TABLE>
<CAPTION>
Value of Original Shares Plus Shares Value of Shares
Obtained Through Reinvestment of Acquired Through Reinvestment
Capital Gain Distributions of Income Dividends
Fiscal Year Total Value
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
1986* $10,780 - $10,780
1987 11,673 $ 211 11,884
1988 10,295 380 10,675
1989 11,690 603 12,293
1990 11,875 846 12,721
1991 11,499 1,216 12,715
1992 13,885 1,830 15,715
1993 16,234 2,605 18,839
1994 16,637 3,064 19,701
1995 16,593 3,482 20,075
1996 21,342 5,194 26,536
1997 26,102 6,890 32,992
1998 37,430 9,565 46,995
1999 34,742 8,903 43,175
</TABLE>
* November 21, 1985 (commencement of operations) to March 31, 1986.
NAVIGATOR SHARES
- ----------------
<TABLE>
<CAPTION>
Value of Original Shares Plus Value of Shares
Shares Obtained Through Acquired Through Reinvestment
Reinvestment of Capital Gain of Income Dividends
Fiscal Year Distributions Total Value
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
1995* $10,203 $ 160 $10,363
1996 13,106 668 13,774
1997 15,989 1,321 17,310
1998 22,606 2,311 24,917
1999 20,509 2,619 23,128
</TABLE>
* December 1, 1994 (commencement of operations) to March 31, 1995.
- 36 -
<PAGE>
With respect to Primary Shares, if the investor had not reinvested
dividends and other distributions, the total value of the hypothetical
investment as of March 31, 1999 would have been $21,690, and the investor would
have received a total of $10,332 in distributions. With respect to Navigator
Shares, if the investor had not reinvested dividends and other distributions,
the total value of the hypothetical investment as of March 31, 1999 would have
been $16,643, and the investor would have received a total of $5,056 in
distributions. If the adviser had not waived certain fees in the 1986-1995
fiscal years, returns would have been lower.
SPECIAL INVESTMENT TRUST:
PRIMARY SHARES
- --------------
<TABLE>
<CAPTION>
Value of Shares
Value of Original Shares Plus Shares Acquired Through Reinvestment
Obtained Through Reinvestment of Capital of Income Dividends Total Value
Fiscal Year Gain Distributions
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
1986* $11,530 - $11,530
1987 13,051 $ 23 13,074
1988 11,107 113 11,220
1989 12,982 144 13,126
1990 14,890 253 15,143
1991 17,777 615 18,392
1992 21,249 905 22,154
1993 23,528 953 24,481
1994 28,511 1,197 29,708
1995 26,707 1,108 27,815
1996 34,291 1,442 35,733
1997 38,345 1,526 39,871
1998 54,898 2,070 56,968
1999 64,288 2,230 66,518
* December 30, 1985 (commencement of operations) to March 31, 1986.
</TABLE>
- 37 -
<PAGE>
NAVIGATOR SHARES
- ----------------
<TABLE>
<CAPTION>
Value of Original Shares Plus Value of Shares
Shares Obtained Through Acquired Through Reinvestment
Reinvestment of Capital Gain of Income Dividends
Fiscal Year Distributions Total Value
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
1995* $10,481 - $10,481
1996 13,489 $121 13,610
1997 15,224 129 15,353
1998 21,996 177 22,173
1999 25,948 193 26,141
</TABLE>
* December 1, 1994 (commencement of operations) to March 31, 1995.
With respect to Primary Shares, if the investor had not reinvested
dividends and other distributions, the total value of the hypothetical
investment as of March 31, 1999 would have been $38,820, and the investor would
have received a total of $10,646 in distributions. With respect to Navigator
Shares, if the investor had not reinvested dividends and other distributions,
the total value of the hypothetical investment as of March 31, 1999 would have
been $21,313, and the investor would have received a total of $3,249 in
distributions. If the adviser had not waived certain fees in the 1986-1998
fiscal years, returns would have been lower.
AMERICAN LEADING COMPANIES:
PRIMARY SHARES
- --------------
<TABLE>
<CAPTION>
Value of Original Shares Plus Shares Value of Shares
Obtained Through Reinvestment of Acquired Through
Capital Gain Distributions Reinvestment of Income
Fiscal Year Dividends Total Value
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
1994* $9,690 $ 24 $ 9,714
1995 10,180 140 10,320
1996 12,230 283 12,513
1997 15,242 366 15,608
1998 20,658 442 21,100
1999 24,713 506 25,219
</TABLE>
* September 1, 1993 (commencement of operations) to March 31, 1994.
- 38 -
<PAGE>
NAVIGATOR SHARES
- ----------------
<TABLE>
<CAPTION>
Value of Original Shares Plus Value of Shares
Shares Obtained Through Acquired Through
Reinvestment of Capital Gain Reinvestment of Income
Fiscal Year Distributions Dividends Total Value
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
1997* $11,428 $ 88 $11,516
1998 15,602 110 15,742
1999** 15,923 109 16,032
</TABLE>
* October 4, 1996 (commencement of operations) to March 31, 1997.
**All outstanding Navigator Shares were redeemed December 3, 1998; this amount
reflects values up to that date. There were no Navigator Shares outstanding at
March 31, 1999.
With respect to Primary Shares, if the investor had not reinvested
dividends and other distributions, the total value of the hypothetical
investment as of March 31, 1999 would have been $20,380, and the investor would
have received a total of $3,295 in distributions.
BALANCED TRUST:
PRIMARY SHARES
- --------------
<TABLE>
<CAPTION>
Value of Original Shares Plus Shares Value of Shares
Obtained Through Reinvestment of Acquired Through
Capital Gain Distributions Reinvestment of Income
Fiscal Year Dividends Total Value
- --------------------------- ------------------------------------------------------------------------------------------
<S> <C> <C> <C>
1997* $10,160 $ 42 $10,202
1998 12,749 289 13,038
1999 12,241 473 12,687
</TABLE>
* October 1, 1996 (commencement of operations) to March 31, 1997.
If the investor had not reinvested dividends and other distributions,
the total value of the hypothetical investment as of March 31, 1999 would have
been $11,980, and the investor would have received a total of $630 in
distributions. If the adviser had not waived certain fees in the fiscal years
ended March 31, 1997, 1998 and 1999, returns would have been lower.
The table above is based only on Primary Shares of Balanced Trust. As
of the date of this Statement of Additional Information, Navigator Shares of
Balanced Trust have no performance history of their own.
- 39 -
<PAGE>
SMALL-CAP VALUE TRUST:
PRIMARY SHARES
- --------------
<TABLE>
<CAPTION>
Value of Original Shares Plus Shares Value of Shares
Obtained Through Reinvestment of Acquired Through
Capital Gain Distributions Reinvestment of Income
Fiscal Year Dividends Total Value
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
1999* $ 7,810 ----- $ 7,810
</TABLE>
* June 15, 1998 (commencement of operations) to March 31, 1999.
If the investor had not reinvested dividends and other distributions, the total
value of the hypothetical investment as of March 31, 1999 would have been
$7,810, and the investor would have received a total of $0.00 in distributions.
NAVIGATOR SHARES
- ----------------
<TABLE>
<CAPTION>
Value of Original Shares Plus Shares Value of Shares
Obtained Through Reinvestment of Acquired Through
Capital Gain Distributions Reinvestment of Income
Fiscal Year Dividends Total Value
- --------------------------- ------------------------------------------------------------------------------------------
<S> <C> <C> <C>
1999* $ 7,944 ----- $7,944
</TABLE>
* June 19, 1998 (commencement of operations) to March 31, 1999.
If the investor had not reinvested dividends and other distributions, the total
value of the hypothetical investment as of March 31, 1999 would have been
$7,944, and the investor would have received a total of $0.00 in distributions.
TOTAL RETURN CALCULATIONS
- -------------------------
Average annual total return quotes used in each Fund's advertising and
other promotional materials ("Performance Advertisements") are calculated
separately for each Class according to the following formula:
P(1+T)n = ERV
where: P = a hypothetical initial payment of $1,000
T = average annual total return
n = number of years
ERV = ending redeemable value of a
hypothetical $1,000 payment made at
the beginning of that period
Under the foregoing formula, the time periods used in Performance
Advertisements will be based on rolling calendar quarters, updated at least to
the last day of the most recent quarter prior to submission of the Performance
Advertisements for publication. Total return, or "T" in the formula above, is
computed by finding the average annual change in the value of an initial $1,000
investment over the period. In calculating the ending redeemable value, all
- 40 -
<PAGE>
dividends and other distributions by a Fund are assumed to have been reinvested
at net asset value on the reinvestment dates during the period.
From time to time each Fund may compare the performance of a Class of
Shares in advertising and sales literature to the performance of other
investment companies, groups of investment companies or various market indices.
One such market index is the S&P 500, a widely recognized, unmanaged index
composed of the capitalization-weighted average of the prices of 500 of the
largest publicly traded stocks in the U.S. The S&P 500 includes reinvestment of
all dividends. It takes no account of the costs of investing or the tax
consequences of distributions. The Funds invest in many securities that are not
included in the S&P 500.
Each Fund may also cite rankings and ratings, and compare the return of
a Class with data published by Lipper Analytical Services, Inc. ("Lipper"), CDA
Investment Technologies, Inc., Wiesenberger Investment Company Services, Value
Line, Morningstar, and other services or publications that monitor, compare
and/or rank the performance of investment companies. Each Fund may also refer in
such materials to mutual fund performance rankings, ratings, comparisons with
funds having similar investment objectives, and other mutual funds reported in
independent periodicals, including, but not limited to, FINANCIAL WORLD, MONEY
Magazine, FORBES, BUSINESS WEEK, BARRON'S, FORTUNE, THE KIPLINGER LETTERS, THE
WALL STREET JOURNAL, and THE NEW YORK TIMES.
Each Fund may compare the investment return of a Class to the return on
certificates of deposit and other forms of bank deposits, and may quote from
organizations that track the rates offered on such deposits. Bank deposits are
insured by an agency of the federal government up to specified limits. In
contrast, Fund shares are not insured, the value of Fund shares may fluctuate,
and an investor's shares, when redeemed, may be worth more or less than the
investor originally paid for them. Unlike the interest paid on many certificates
of deposit, which remains at a specified rate for a specified period of time,
the return of each Class of Shares will vary.
Fund advertisements may reference the history of the distributor and
its affiliates, the education and experience of the portfolio manager, and the
fact that the portfolio manager engages in value investing. With value
investing, the adviser invests in those securities it believes to be undervalued
in relation to the long-term earning power or asset value of their issuers.
Securities may be undervalued because of many factors, including market decline,
poor economic conditions, tax-loss selling, or actual or anticipated unfavorable
developments affecting the issuer of the security. The adviser believes that the
securities of sound, well-managed companies that may be temporarily out of favor
due to earnings declines or other adverse developments are likely to provide a
greater total return than securities with prices that appear to reflect
anticipated favorable developments and that are therefore subject to correction
should any unfavorable developments occur.
In advertising, each Fund may illustrate hypothetical investment plans
designed to help investors meet long-term financial goals, such as saving for a
child's college education or for retirement. Sources such as the Internal
Revenue Service, the Social Security Administration, the Consumer Price Index
and Chase Global Data and Research may supply data concerning interest rates,
college tuitions, the rate of inflation, Social Security benefits, mortality
statistics and other relevant information. Each Fund may use other recognized
sources as they become available.
Each Fund may use data prepared by Ibbotson Associates of Chicago,
Illinois ("Ibbotson") to compare the returns of various capital markets and to
show the value of a hypothetical investment in a capital market. Ibbotson relies
on different indices to calculate the performance of common stocks, corporate
and government bonds and Treasury bills.
Each Fund may illustrate and compare the historical volatility of
different portfolio compositions where the performance of stocks is represented
by the performance of an appropriate market index, such as the S&P 500 and the
performance of bonds is represented by a nationally recognized bond index, such
as the Lehman Brothers Long-Term Government Bond Index.
- 41 -
<PAGE>
Each Fund may also include in advertising biographical information on
key investment and managerial personnel.
Each Fund may advertise examples of the potential benefits of periodic
investment plans, such as dollar cost averaging, a long-term investment
technique designed to lower average cost per share. Under such a plan, an
investor invests in a mutual fund at regular intervals a fixed dollar amount
thereby purchasing more shares when prices are low and fewer shares when prices
are high. Although such a plan does not guarantee profit or guard against loss
in declining markets, the average cost per share could be lower than if a fixed
number of shares were purchased at the same intervals. Investors should consider
their ability to purchase shares through periods of low price levels.
Each Fund may discuss Legg Mason's tradition of service. Since 1899,
Legg Mason and its affiliated companies have helped investors meet their
specific investment goals and have provided a full spectrum of financial
services. Legg Mason affiliates serve as investment advisers for private
accounts and mutual funds with assets of approximately $89 billion as of March
31, 1999.
In advertising, each Fund may discuss the advantages of saving through
tax-deferred retirement plans or accounts, including the advantages and
disadvantages of "rolling over" a distribution from a retirement plan into an
IRA, factors to consider in determining whether you qualify for such a rollover,
and the other options available. These discussions may include graphs or other
illustrations that compare the growth of a hypothetical tax-deferred investment
to the after-tax growth of a taxable investment.
Lipper Analytical Services, Inc., an independent rating service which
measures the performance of most U.S. mutual funds, reported that Value Trust's
total return of Primary Shares ranked 55 among 3,512 general equity funds it
measured during the one year ended April 30, 1999. For the five years ended
April 30, 1999, Value Trust's total return ranked 2 among 1,309 general equity
funds and for the ten years ended April 30, 1999, Value Trust's total return
ranked 9 among 548 general equity funds. Of course, there can be no assurance
that results similar to those achieved by Value Trust in the past will be
realized in future periods. Rankings may have been different if the adviser had
not waived certain fees during the periods in question.
TAX-DEFERRED RETIREMENT PLANS - PRIMARY SHARES AND CLASS A SHARES
In general, income earned through the investment of assets of qualified
retirement plans is not taxed to the beneficiaries of those plans until the
income is distributed to them. Class A or Primary Share investors who are
considering establishing an IRA, SEP, SIMPLE or other qualified retirement plan
should consult their attorneys or other tax advisers with respect to individual
tax questions. The option of investing in those plans with respect to Class A or
Primary Shares through regular payroll deductions may be arranged with a Legg
Mason or affiliated financial advisor and your employer. Additional information
with respect to these plans is available upon request from any Financial Advisor
or Service Provider.
TRADITIONAL IRA. Certain Class A or Primary Share investors may obtain
tax advantages by establishing IRAs. Specifically, except as noted below, if
neither you nor your spouse is an active participant in a qualified employer or
government retirement plan, or if either you or your spouse is an active
participant and your adjusted gross income does not exceed a certain level, then
each of you may deduct cash contributions made to an IRA in an amount for each
taxable year not exceeding the lesser of 100% of your earned income or $2,000. A
married investor who is not an active participant in such a plan and files a
joint income tax return with his or her spouse (and their combined adjusted
gross income does not exceed $150,000) is not affected by the spouse's active
participant status. In addition, if your spouse is not employed and you file a
joint return, you may establish a separate IRA for your spouse and contribute up
to a total of $4,000 to the two IRAs, provided that the contribution to either
does not exceed $2,000. If your employer's plan qualifies as a SEP, permits
voluntary contributions and meets certain other requirements, you may make
voluntary contributions to that plan that are treated as deductible IRA
contributions.
- 42 -
<PAGE>
Even if you are not in one of the categories described in the preceding
paragraph, you may find it advantageous to invest in Class A shares or Primary
Shares through non-deductible IRA contributions, up to certain limits, because
all dividends and other distributions on your Fund shares are then not
immediately taxable to you or the IRA; they become taxable only when distributed
to you. To avoid penalties, your interest in an IRA must be distributed, or
start to be distributed, to you not later than the end of the taxable year in
which you attain age 70 1/2. Distributions made before age 59 1/2, in addition
to being taxable, generally are subject to a penalty equal to 10% of the
distribution, except in the case of death or disability, where the distribution
is rolled over into another qualified plan or certain other situations.
ROTH IRA. A shareholder whose adjusted gross income (or combined
adjusted gross income with his or her spouse) does not exceed certain levels may
establish and contribute up to $2,000 per tax year to a Roth IRA. In addition,
for a shareholder whose adjusted gross income does not exceed $100,000 (or is
not married filing a separate return), certain distributions from traditional
IRAs may be rolled over to a Roth IRA and any of the shareholder's traditional
IRAs may be converted to a Roth IRA; these rollover distributions and
conversions are, however, subject to federal income tax.
Contributions to a Roth IRA are not deductible; however, earnings
accumulate tax-free in a Roth IRA, and withdrawals of earnings are not subject
to federal income tax if the account has been held for at least five years (or
in the case of earnings attributable to rollover contributions from or
conversions of a traditional IRA, the rollover or conversion occurred more than
five years before the withdrawal) and the account holder has reached age 59 1/2
(or certain other conditions apply).
EDUCATION IRA. Although not technically for retirement savings, an
Education IRA provides a vehicle for saving for a child's higher education. An
Education IRA may be established for the benefit of any minor, and any person
whose adjusted gross income does not exceed certain levels may contribute to an
Education IRA, provided that no more than the maximum amount allowable under
current law (currently $500) may be contributed for any year to Education IRAs
for the same beneficiary. Contributions are not deductible and may not be made
after the beneficiary reaches age 18; however, earnings accumulate tax-free, and
withdrawals are not subject to tax if used to pay the qualified higher education
expenses of the beneficiary (or transferred to an Education IRA of a qualified
family member).
SIMPLIFIED EMPLOYEE PENSION PLAN -- SEP
- ---------------------------------------
Legg Mason makes available to corporate and other employers a SEP for
investment in Primary Shares or Class A shares.
SAVINGS INCENTIVE MATCH PLAN FOR EMPLOYEES - SIMPLE
- ---------------------------------------------------
An employer with no more than 100 employees that does not maintain
another retirement plan may establish a SIMPLE either as separate IRAs or as
part of a Code section 401(k) plan. A SIMPLE, which is not subject to the
complicated nondiscrimination rules that generally apply to qualified retirement
plans, will allow certain employees to make elective contributions of up to
$6,000 per year and will require the employer to make either matching
contributions up to 3% of each such employee's salary or a 2% nonelective
contribution.
Withholding at the rate of 20% is required for federal income tax
purposes on certain distributions (excluding, for example, certain periodic
payments) from the foregoing retirement plans (except IRAs and SEPs), unless the
recipient transfers the distribution directly to an "eligible retirement plan"
(including IRAs and other qualified plans) that accepts those distributions.
Other distributions generally are subject to regular wage withholding at the
rate of 10% (depending on the type and amount of the distribution), unless the
recipient elects not to have any withholding apply. Primary Share and Class A
share investors should consult their plan administrator or tax advisor for
further information.
- 43 -
<PAGE>
MANAGEMENT OF THE FUNDS
Each Fund's officers are responsible for the operation of the Fund
under the direction of the Board of Directors. The officers and directors of the
Funds and their principal occupations during the past five years are set forth
below. An asterisk (*) indicates officers and/or directors who are "interested
persons" of the Funds as defined by the 1940 Act. The business address of each
officer and director is 100 Light Street, Baltimore, Maryland 21202, unless
otherwise indicated.
RAYMOND A. MASON* [9/28/36], Chairman of the Board and Director of
Value Trust, Total Return Trust and Special Investment Trust; Chairman of the
Board and President of Legg Mason, Inc. (financial services holding company);
Director of Environmental Elements Corporation (manufacturer of pollution
control equipment); Officer and/or Director of various other affiliates of Legg
Mason.
JOHN F. CURLEY, JR.* [7/24/39], President and Director of Value Trust,
Total Return Trust and Special Investment Trust; Chairman of the Board and
Director of Investors Trust; Retired Vice Chairman and Director of Legg Mason,
Inc. and Legg Mason Wood Walker, Incorporated; Chairman of the Board and
Director of three Legg Mason funds; Chairman of the Board, President and Trustee
of one Legg Mason fund; Chairman of the Board and Trustee of one Legg Mason
fund. Formerly: Director of Legg Mason Fund Adviser, Inc. ("LMFA") and Western
Asset Management Company (each a registered investment adviser); Officer and/or
Director of various other affiliates of Legg Mason, Inc.
RICHARD G. GILMORE [6/9/27], Director of each Fund; 948 Kennett Way,
West Chester, Pennsylvania. Independent Consultant. Director of CSS Industries,
Inc. (diversified holding company whose subsidiaries are engaged in the
manufacture and sale of decorative paper products, business forms, and specialty
metal packaging); Director of PECO Energy Company (formerly Philadelphia
Electric Company); Director/Trustee of five other Legg Mason funds. Formerly:
Senior Vice President and Chief Financial Officer of Philadelphia Electric
Company (now PECO Energy Company); Executive Vice President and Treasurer,
Girard Bank, and Vice President of its parent holding company, the Girard
Company; and Director of Finance, City of Philadelphia.
ARNOLD L. LEHMAN [7/18/44], Director of each Fund; . Director of the
Brooklyn Museum of Art; Director/Trustee of five other Legg Mason funds.
Formerly: Director of the Baltimore Museum of Art.
JILL E. McGOVERN [8/29/44], Director of each Fund; 400 Seventh Street
NW, Washington, DC. Chief Executive Officer of the Marrow Foundation.
Director/Trustee of five other Legg Mason funds. Formerly: Executive Director of
the Baltimore International Festival (January 1991 - March 1993); and Senior
Assistant to the President of The Johns Hopkins University (1986-1991).
T. A. RODGERS [10/22/34], Director of each Fund; 2901 Boston Street,
Baltimore, Maryland. Principal, T. A. Rodgers & Associates (management
consulting); Director/Trustee of five other Legg Mason funds. Formerly: Director
and Vice President of Corporate Development, Polk Audio, Inc. (manufacturer of
audio components).
EDWARD A. TABER, III* [8/25/43], Director of each Fund; President of
the Trust; Senior Executive Vice President of Legg Mason, Inc. and Legg Mason
Wood Walker, Inc.; Vice Chairman and Director of LMFA; President and/or
Director/Trustee of four Legg Mason funds.
The executive officers of the Funds, other than those who also serve as
directors, are:
MARIE K. KARPINSKI* [1/1/49], Vice President and Treasurer of each
Fund; Treasurer of the adviser; Vice President and Treasurer of six other Legg
Mason funds; Vice President of Legg Mason.
SUSAN L. SILVA* [3/29/67], Assistant Secretary of each Fund; Assistant
Secretary of one other Legg Mason fund; employee of Legg Mason since January
1994.
- 44 -
<PAGE>
The Nominating Committee of the Board of Directors is responsible for
the selection and nomination of disinterested directors. The Committee is
composed of Messrs. Gilmore, Lehman, Rodgers and Dr. McGovern.
Officers and directors of a Fund who are "interested persons" of the
Fund receive no salary or fees from the Fund. Each Director of a Fund who is not
an interested person of the Fund ("Independent Directors") receives an annual
retainer and a per meeting fee based on the average net assets of each Fund at
December 31, of the previous year.
On July 1, 1999, the directors and officers of each Fund beneficially
owned in the aggregate less than 1% of that Fund's outstanding shares.
On July 1, 1999, the Legg Mason Profit Sharing Plan and Trust, 7 East
Redwood Street, Baltimore, MD 21202 owned of record and beneficially the
following percentages of the outstanding shares of the Navigator Classes:
Navigator Class of Value Trust 19.66%
Navigator Class of Total Return Trust 95.66%
Navigator Class of Special Investment Trust 95.87%
On July 1, 1999, Fidelity Investments, 100 Magellan Way, Covington, KY
41015 and PEBSCO, P.O. Box 182029, Columbus, OH 43218, owned of record and
beneficially 34.21% and 8.81%, respectively, of the outstanding shares of the
Navigator Class of Value Trust. As of the same date, State Street Bank & Trust
Company, Trustee for the NCR Savings Plan, One Enterprise Drive, North Quincy,
MA, owned of record and beneficially 6.44% of the outstanding shares of the
Navigator Class of Value Trust.
As of the same date, Old Second National Bank, 37 S. River Street,
Aurora, IL 60106, owned of record and beneficially 100% of the outstanding
shares of the Navigator Class of U.S. Small-Cap Value Trust.
The following table provides certain information relating to the
compensation of the Funds' directors for the fiscal year ended March 31, 1999.
None of the Legg Mason funds has any retirement plan for its directors.
- 45 -
<PAGE>
COMPENSATION TABLE
- ------------------
<TABLE>
<CAPTION>
AGGREGATE AGGREGATE
AGGREGATE AGGREGATE COMPENSATION COMPENSATION TOTAL COMPENSATION FROM
NAME OF PERSON COMPENSATION FROM COMPENSATION FROM SPECIAL FROM INVESTORS EACH FUND AND FUND
AND POSITION VALUE TRUST* FROM TOTAL INVESTMENT TRUST* TRUST* COMPLEX PAID TO
RETURN TRUST* DIRECTORS**
- --------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Raymond A. Mason -
Chairman of the
Board
and Director None None None None None
- --------------------------------------------------------------------------------------------------------------------------
John F. Curley,
Jr. -
President and
Director None None None None None
- --------------------------------------------------------------------------------------------------------------------------
Edward A. Taber,
III -
Director None None None None None
- --------------------------------------------------------------------------------------------------------------------------
Richard G. $3,340 $2,283 $3,340 $2,285 $35,100
Gilmore -
Director
- --------------------------------------------------------------------------------------------------------------------------
Charles F. Haugh - $3,340 $2,283 $3,340 $2,285 $25,800
Director (A)
- --------------------------------------------------------------------------------------------------------------------------
Arnold L. Lehman - $3,340 $2,283 $3,340 $2,285 $30,600
Director
- --------------------------------------------------------------------------------------------------------------------------
Jill E. McGovern - $3,340 $2,283 $3,340 $2,285 $35,100
Director
- --------------------------------------------------------------------------------------------------------------------------
T. A. Rodgers- $3,340 $2,283 $3,340 $2,285 $35,100
Director
===========================================================================================================================
</TABLE>
(A) Mr. Haugh retired as a director in September 1998.
* Represents fees paid to each director during the fiscal year ended March
31, 1999.
** Represents aggregate compensation paid to each director during the
calendar year ended December 31, 1998. There are eleven open-end
investment companies in the Legg Mason Complex (with a total of twenty
funds).
THE FUNDS' INVESTMENT ADVISER/MANAGER
LMFA, a Maryland corporation, is located at 100 Light Street,
Baltimore, Maryland 21202. LMFA is a wholly owned subsidiary of Legg Mason,
Inc., which is also the parent of Legg Mason and Legg Mason Capital Management,
Inc. ("LMCM"). LMFA serves as manager and investment adviser to Value Trust,
- 46 -
<PAGE>
Total Return Trust, Special Investment Trust and American Leading Companies and
as manager to Balanced Trust, Small-Cap Value, and Financial Services Fund under
separate Management Agreements with each Fund ("Management Agreement"). The
Management Agreement for Value Trust originally became effective as of April 19,
1982 and was last approved by the shareholders of Value Trust on July 20, 1984.
The Management Agreement for Total Return Trust originally became effective as
of August 5, 1985 and was last approved by the shareholders of Total Return
Trust on July 17, 1986. The Management Agreement for Special Investment Trust
originally became effective as of December 10, 1985 and was last approved by the
shareholders of Special Investment Trust on July 17, 1986. The Management
Agreement for American Leading Companies originally became effective as of
August 2, 1993. The Management Agreement for Balanced Trust became effective on
July 31, 1996. The Management Agreement for Small-Cap Value became effective on
May 1, 1998. The Management Agreement for Financial Services Fund became
effective on October 5, 1999.
The Management Agreements for each Fund (other than Financial Services
Fund) were most recently approved by each Fund's Board of Directors, including a
majority of the directors who are not "interested persons" of the Fund or LMFA,
on November 13, 1998. The Management Agreement for Financial Services Fund was
approved by the Board of Directors on August 6, 1999.
Each Management Agreement provides that, subject to overall direction
by the Fund's Board of Directors, LMFA manages or oversees the investment and
other affairs of each Fund. LMFA is responsible for managing each Fund
consistent with the Fund's investment objective and policies described in its
Prospectuses and this Statement of Additional Information. LMFA also is
obligated to (a) furnish the Fund with office space and executive and other
personnel necessary for the operation of each Fund; (b) supervise all aspects of
each Fund's operations; (c) bear the expense of certain informational and
purchase and redemption services to each Fund's shareholders; (d) arrange, but
not pay for, the periodic updating of prospectuses, proxy material, tax returns
and reports to shareholders and state and federal regulatory agencies; and (e)
report regularly to each Fund's officers and directors. In addition, LMFA paid
Value Trust's, Total Return Trust's and Special Investment Trust's
organizational expenses and has agreed to reimburse Value Trust and Special
Investment Trust for auditing fees and compensation of those Funds' independent
directors. LMFA and its affiliates pay all compensation of directors and
officers of each Fund who are officers, directors or employees of LMFA. Each
Fund pays all of its expenses which are not expressly assumed by LMFA. These
expenses include, among others, interest expense, taxes, brokerage fees and
commissions, expenses of preparing and printing prospectuses, proxy statements
and reports to shareholders and of distributing them to existing shareholders,
custodian charges, transfer agency fees, distribution fees to Legg Mason, each
Fund's distributor, compensation of the independent directors, legal and audit
expenses, insurance expense, shareholder meetings, proxy solicitations, expenses
of registering and qualifying Fund shares for sale under federal and state law,
governmental fees and expenses incurred in connection with membership in
investment company organizations. Each Fund also is liable for such nonrecurring
expenses as may arise, including litigation to which the Fund may be a party.
Each Fund may also have an obligation to indemnify its directors and officers
with respect to litigation.
LMFA receives for its services to each Fund a management fee,
calculated daily and payable monthly. LMFA receives from Value Trust and Special
Investment Trust a management fee at an annual rate of 1% of the average daily
net assets of that Fund for the first $100 million of average daily net assets,
0.75% of average daily net assets between $100 million and $1 billion, and 0.65%
of average daily net assets exceeding $1 billion. LMFA receives from Total
Return Trust a management fee at an annual rate of 0.75% of the average daily
net assets of that Fund. LMFA receives from American Leading Companies a
management fee at an annual rate of 0.75% of the average daily net assets of
that Fund. LMFA receives from Balanced Trust a management fee at an annual rate
of 0.75% of the average daily net assets of that Fund. LMFA receives from
Small-Cap Value a management fee at an annual rate of 0.85% of the average daily
net assets of that Fund. LMFA receives from Financial Services Fund a management
fee at an annual rate of 1.00% of the average daily net assets of that Fund.
LMFA has agreed to waive its fees for Total Return Trust, American Leading
Companies, Balanced Trust, Small-Cap Value and Financial Services Fund for
expenses related to Primary Shares (exclusive of taxes, interest, brokerage and
extraordinary expenses) in excess of the following amounts: for Total Return
- 47 -
<PAGE>
Trust and American Leading Companies, 1.95% of average net assets attributable
to Primary Shares indefinitely; for Balanced Trust, 1.85% of average net assets
attributable to Primary Shares until July 31, 2000; for Small-Cap Value, 2.00%
of average net assets attributable to Primary Shares until July 31, 2000; and
for Financial Services Fund, 2.25% of average net assets attributable to Primary
Shares until May 1, 2000. LMFA has agreed to waive its fees for Total Return
Trust, American Leading Companies, Balanced Trust, Small-Cap Value and Financial
Services Fund for expenses related to Navigator Shares (exclusive of taxes,
interest, brokerage and extraordinary expenses) in excess of the following
amounts: for Total Return Trust and American Leading Companies, 0.95% of average
net assets attributable to Navigator Shares indefinitely; for Balanced Trust,
1.10% of average net assets attributable to Navigator Shares until July 31,
2000; for Small-Cap Value, 1.00% of average net assets attributable to Navigator
Shares until July 31, 2000; for Financial Services Fund, 1.25% of average net
assets attributable to Navigator Shares until May 1, 2000. LMFA has agreed to
waive its fees for Financial Services Fund for expenses related to Class A
shares (exclusive of taxes, interest, brokerage and extraordinary expenses) in
excess of 1.50% of average net assets attributable to Class A shares until May
1, 2000.
For the fiscal years ended March 31, 1999, 1998 and 1997, management
fees of $45,014,441, $24,282,523, and $13,199,924, respectively were received
from Value Trust; $4,952,596, $4,031,818, and $2,404,297, respectively, were
received from Total Return Trust; and $11,608,871, $9,875,632, and $7,272,943,
respectively, were received from Special Investment Trust.
For the fiscal years ended March 31, 1999, 1998 and 1997, LMFA received
management fees of $1,655,396, $1,190,729 (prior to fees waived of $69,496), and
$643,329 (prior to fees waived of $94,059), respectively, from American Leading
Companies.
For the fiscal years ended March 31, 1999, and 1998 LMFA received
management fees of $419,683 (prior to fees waived of $25,964) and $215,415
(prior to fees waived of $83,278) respectively for Balanced Trust. For the
period October 1, 1996 (commencement of operations) to March 31, 1997, all
management fees were waived by LMFA for Balanced Trust.
For the period June 15, 1998 (commencement of operations) to March 31,
1999, LMFA received management fees of $329,973 (prior to fees waived of
$147,480) from Small-Cap Value.
Prior to October 5, 1999, Bartlett & Co. served as manager to Financial
Services Fund under compensation arrangements substantially similar to those
with LMFA. For the period November 16, 1998 (commencement of operations) to
December 31, 1998, the Fund paid Bartlett advisory fees in the amount of
$17,081.
Under each Advisory Agreement or (with respect to Balanced Trust,
Small-Cap Value and Financial Services Fund) Management Agreement, each Fund has
the non-exclusive right to use the name "Legg Mason" until that Agreement is
terminated, or until the right is withdrawn in writing by LMFA.
Gray, Seifert, 380 Madison Avenue, New York, New York, serves as
investment sub-adviser to Financial Services Fund under a Sub-Advisory Agreement
between Gray, Seifert and LMFA ("Financial Services Sub-Advisory Agreement").
Prior to October 5, 1999, Gray, Seifert served as sub-adviser to the Fund under
arrangements with Bartlett substantially similar to those with LMFA.
Gray, Seifert is responsible for providing investment advice to
Financial Services Fund in accordance with its investment objective and
policies, and for placing orders to purchase and sell portfolio securities
pursuant to directions from the Fund's officers. For Gray, Seifert's services to
Financial Services Fund, LMFA (not the Fund) pays Gray, Seifert a fee equal to
60% of the fee it receives from the Fund for advisory and administrative
services. For the period November 16, 1998 (commencement of operations) to
December 31, 1998, Bartlett & Co. paid $10,249 to Gray, Seifert.
- 48 -
<PAGE>
Under the Financial Services Sub-Advisory Agreement, Gray, Seifert will
not be liable for any error of judgment or mistake of law or for any loss
suffered by LMFA or by the Fund in connection with the performance of the
Financial Services Sub-Advisory Agreement, except a loss resulting from a breach
of fiduciary duty with respect to the receipt of compensation for services or a
loss resulting from willful misfeasance, bad faith or gross negligence on its
part in the performance of its duties or from reckless disregard by it of its
obligations or duties thereunder.
The Financial Services Sub-Advisory Agreement terminates automatically
upon assignment and is terminable at any time without penalty by vote of the
Corporation's Board of Directors, by vote of a majority of the Fund's
outstanding voting securities, by LMFA or by Gray, Seifert, on not less than 60
days' notice to the Fund and/or the other party(ies). The Financial Services
Sub-Advisory Agreement terminates immediately upon any termination of the
Management Agreement between Financial Services and LMFA.
LMCM, 100 Light Street, Baltimore, MD 21202, an affiliate of Legg
Mason, also serves as investment adviser to American Leading Companies pursuant
to an Investment Advisory Agreement dated August 2, 1993, between LMCM and LMFA
("Advisory Agreement"). The Advisory Agreement was most recently approved by the
Board of Directors, including a majority of the directors who are not
"interested persons" (as that term is defined in the 1940 Act) of Investors
Trust, LMFA or LMCM, on November 13, 1998. The Advisory Agreement was approved
by LMFA, Inc., as the Fund's sole shareholder, on August 2, 1993.
Under the Advisory Agreement, LMCM may provide the Fund with research
and investment advisory services for which LMFA (not the Fund) may pay a fee.
Currently, LMCM is not providing any services to the Fund.
For the fiscal years ended March 31, 1999, 1998 and 1997, LMFA paid
$0.00, $610,704, and $219,733, respectively, to LMCM on behalf of the Fund for
such services.
Bartlett, 36 East Fourth Street, Cincinnati, Ohio 45202, an affiliate
of Legg Mason, serves as investment adviser to Balanced Trust pursuant to an
Investment Advisory Agreement dated July 31, 1996, between Bartlett and LMFA
("Advisory Agreement"). The Advisory Agreement was most recently approved by the
Board of Directors, including a majority of the directors who are not
"interested persons" (as that term is defined in the 1940 Act) of Balanced
Trust, Bartlett or LMFA, on November 13, 1998. The Advisory Agreement was
approved by LMFA, as the Fund's sole shareholder, on July 31, 1996.
Under the Advisory Agreement, Bartlett is responsible, subject to the
general supervision of the Manager and the Fund's Board of Directors, for the
actual management of the Fund's assets, including responsibility for making
decisions and placing orders to buy, sell or hold a particular security. For
Bartlett's services to the Fund, LMFA (not the Fund) pays Bartlett a fee,
computed daily and payable monthly, at an annual rate equal to 66 2/3% of the
fee received by LMFA from the Fund, net of any waivers by LMFA.
For the fiscal years ended March 31, 1999 and 1998, Bartlett received
$262,479 and $88,092, respectively, in advisory fees on behalf of Balanced
Trust. For the period October 1, 1996 (commencement of operations) to March 31,
1997, Bartlett waived its advisory fees.
Brandywine Asset Management, Inc. ("Brandywine"), 201 North Walnut
Street, Wilmington, Delaware, an affiliate of Legg Mason, serves as investment
adviser to Small-Cap Value pursuant to an Investment Advisory Agreement dated
May 1, 1998, between Brandywine and LMFA ("Advisory Agreement"). The Advisory
Agreement was approved by LMFA as the Fund's sole shareholder, on May 28, 1998.
Under the Advisory Agreement, Brandywine is responsible, subject to the
general supervision of LMFA and Investors Trust's Board of Directors, for the
actual management of the Fund's assets, including responsibility for making
decisions and placing orders to buy, sell or hold a particular security. For
Brandywine's services to the Fund, LMFA (not the Fund) pays Brandywine a fee,
- 49 -
<PAGE>
computed daily and payable monthly, at an annual rate equal to 0.50% of the
Fund's average daily net assets or 58.8% of the fee received by LMFA from the
Fund, net of any waivers by LMFA.
For the fiscal year ended March 31, 1999, Brandywine received $379 in
advisory fees on behalf of U.S. Small-Cap Value Trust.
Under each Advisory Agreement and (with respect to Balanced Trust,
Small-Cap Value and Financial Services Fund) Management Agreement,
LMFA/LMCM/Bartlett/Brandywine/Gray, Seifert will not be liable for any error of
judgment or mistake of law or for any loss by a Fund in connection with the
performance of the Advisory Agreement or Management Agreement, except a loss
resulting from a breach of fiduciary duty with respect to the receipt of
compensation for services or a loss resulting from willful misfeasance, bad
faith or gross negligence on its part in the performance of its duties or from
reckless disregard of its obligations or duties under the respective Agreement.
Each Advisory Agreement and (with respect to Balanced Trust, Small-Cap
Value and Financial Services Fund) Management Agreement terminates automatically
upon assignment and is terminable at any time without penalty by vote of the
respective Fund's Board of Directors, by vote of a majority of the Fund's
outstanding voting securities, or by LMFA/LMCM/Bartlett/Brandywine/Gray,Seifert,
on not less than 60 days' notice to the other party to the Agreement, and may be
terminated immediately upon the mutual written consent of all parties to the
Agreement.
To mitigate the possibility that a Fund will be affected by personal
trading of employees, each Corporation and LMFA have adopted policies that
restrict securities trading in the personal accounts of portfolio managers and
others who normally come into advance possession of information on portfolio
transactions. These policies comply, in all material respects, with the
recommendations of the Investment Company Institute.
PORTFOLIO TRANSACTIONS AND BROKERAGE
The portfolio turnover rate is computed by dividing the lesser of
purchases or sales of securities for the period by the average value of
portfolio securities for that period. Short-term securities are excluded from
the calculation. For the fiscal years ended March 31, 1999 and 1998, the
portfolio turnover rates for Value Trust were 19.3% and 12.9%, respectively; the
portfolio turnover rates for Total Return Trust were 44.2% and 20.6%,
respectively; the portfolio turnover rates for Special Investment Trust were
47.8% and 29.8%, respectively; the portfolio turnover rates for American Leading
Companies were 47.6% and 51.4%, respectively; and the portfolio turnover rates
for Balanced Trust were 50.0% and 34.5%, respectively. For the period June 15,
1998 to March 31, 1999, the portfolio turnover rate for Small-Cap Value Trust
was 29.5% (annualized).
Under the Advisory Agreement with each Fund, each Fund's adviser is
responsible for the execution of the Fund's portfolio transactions and must seek
the most favorable price and execution for such transactions, subject to the
possible payment, as described below, of higher brokerage commissions to brokers
who provide research and analysis. Each Fund may not always pay the lowest
commission or spread available. Rather, in placing orders for a Fund each Fund's
adviser also takes into account such factors as size of the order, difficulty of
execution, efficiency of the executing broker's facilities (including the
services described below), and any risk assumed by the executing broker.
Consistent with the policy of most favorable price and execution, each
Fund's adviser may give consideration to research, statistical and other
services furnished by brokers or dealers to each Fund's adviser for its use, may
place orders with brokers who provide supplemental investment and market
research and securities and economic analysis and may pay to these brokers a
higher brokerage commission than may be charged by other brokers. Such services
include, without limitation, advice as to the value of securities; the
advisability of investing in, purchasing, or selling securities; advice as to
the availability of securities or of purchasers or sellers of securities; and
furnishing analyses and reports concerning issuers, industries, securities,
- 50 -
<PAGE>
economic factors and trends, portfolio strategy and the performance of accounts.
Such research and analysis may be useful to each Fund's adviser in connection
with services to clients other than the Fund whose brokerage generated the
service. LMFA's/Bartlett's/Brandywine's fee is not reduced by reason of its
receiving such brokerage and research services.
From time to time each Fund may use Legg Mason as broker for agency
transactions in listed and over-the-counter securities at commission rates and
under circumstances consistent with the policy of best execution. Commissions
paid to Legg Mason will not exceed "usual and customary brokerage commissions."
Rule 17e-1 under the 1940 Act defines "usual and customary" commissions to
include amounts which are "reasonable and fair compared to the commission, fee
or other remuneration received by other brokers in connection with comparable
transactions involving similar securities being purchased or sold on a
securities exchange during a comparable period of time." In the over-the-counter
market, each Fund generally deals with responsible primary market-makers unless
a more favorable execution can otherwise be obtained.
For the fiscal years ended March 31, 1999, 1998 and 1997, Legg Mason
received $59,620, $3,120, and $0 from Value Trust, $0, $1,134, and $0 from Total
Return Trust, and $0, $0, and $0, respectively, from Special Investment Trust.
Value Trust paid total brokerage commissions of $5,503,410, $1,360,133, and
$693,443, respectively; Total Return Trust paid total brokerage commissions of
$1,024,770, $477,779, and $386,786, respectively; and Special Investment Trust
paid total brokerage commissions of $2,824,033, $1,333,903, and $1,066,917,
respectively, during the fiscal years ended March 31, 1999, 1998 and 1997.
For the fiscal years ended March 31, 1999, 1998 and 1997, American
Leading Companies paid total brokerage commissions of $329,996, $203,625, and
$120,631, respectively. Legg Mason received no brokerage commissions from
American Leading Companies for the same periods.
For the fiscal years ended March 31, 1999, and 1998 Balanced Trust paid
total brokerage commissions of $64,034 and $34,738 respectively. For the period
October 1, 1996 (commencement of operations) to March 31, 1997, Balanced Trust
paid total brokerage commissions of $23,144. Legg Mason received no brokerage
commissions from Balanced Trust for the same periods.
For the period June 15, 1998 (commencement of operations) to March 31,
1999, Small-Cap Value paid total brokerage commissions of $295,140. Legg Mason
received no brokerage commissions from Small-Cap Value for that same period.
Except as permitted by SEC rules or orders, each Fund may not buy
securities from, or sell securities to, Legg Mason or its affiliated persons as
principal. Each Fund's Board of Directors has adopted procedures in conformity
with Rule 10f-3 under the 1940 Act whereby the Fund may purchase securities that
are offered in certain underwritings in which Legg Mason or any of its
affiliated persons is a participant. These procedures, among other things, limit
each Fund's investment in the amount of securities of any class of securities
offered in an underwriting in which Legg Mason or any of its affiliated persons
is a participant so that: a Fund together with all other registered investment
companies having the same adviser, may not purchase more than 25% of the
principal amount of the offering of such class. In addition, a Fund may not
purchase securities during the existence of an underwriting if Legg Mason is the
sole underwriter for those securities.
Section 11(a) of the Securities Exchange Act of 1934 prohibits Legg
Mason from executing transactions on an exchange for its affiliates, such as the
Funds, unless the affiliate expressly consents by written contract.
Each Fund's Advisory Agreement expressly provides such consent.
- 51 -
<PAGE>
Among the broker-dealers regularly used by each respective Fund during
the fiscal year ended March 31, 1999, Value Trust at that date owned shares of
the following parent companies: 3,150,000 shares of The Bear Stearns Companies,
Inc. at a market value of $140,765,625; Total Return Trust at that date owned
shares of the following parent companies: 395,576 shares of The Bear Stearns
Companies, Inc. at a market value of $7,677,300. As of December 31, 1998,
Financial Services Fund owned securities of its regular broker/dealers or their
parents as follows: 12,000 shares of Raymond James Financial Inc., with a market
value of $253,000. American Leading Companies, Balanced Trust and Small-Cap
Value held no shares of their regular broker-dealers. Investment decisions for
each Fund are made independently from those of other funds and accounts advised
by LMFA, Bartlett, Brandywine or Gray, Seifert. However, the same security may
be held in the portfolios of more than one fund or account. When two or more
accounts simultaneously engage in the purchase or sale of the same security, the
prices and amounts will be equitably allocated to each account. In some cases,
this procedure may adversely affect the price or quantity of the security
available to a particular account. In other cases, however, an account's ability
to participate in large-volume transactions may produce better executions and
prices.
THE FUNDS' DISTRIBUTOR
Legg Mason acts as distributor of the Funds' shares pursuant to a
separate Underwriting Agreement with each Fund. The Underwriting Agreement
obligates Legg Mason to promote the sale of Fund shares and to pay certain
expenses in connection with its distribution efforts, including expenses for the
printing and distribution of prospectuses and periodic reports used in
connection with the offering to prospective investors (after the prospectuses
and reports have been prepared, set in type and mailed to existing shareholders
at the Fund's expense), and for supplementary sales literature and advertising
costs.
Each Fund has adopted a Distribution and Shareholder Services Plan for
Primary Shares ("Primary Class Plans"), and Financial Services Fund has also
adopted a Distribution and Shareholder Services Plan for Class A shares ("Class
A Plan"), which, among other things, permits the Funds to pay Legg Mason fees
for its services related to sales and distribution of Primary Shares or Class A
shares and the provision of ongoing services to holders of those shares.
Payments are made only from assets attributable to Primary Shares or Class A
shares. Under the Primary Class Plans, the aggregate fees may not exceed an
annual rate of each Fund's average daily net assets attributable to Primary
Shares as follows: 1.00% for Total Return Trust, Special Investment Trust,
American Leading Companies, Small-Cap Value and Financial Services Fund, 0.75%
for Balanced Trust and 0.95% for Value Trust. Distribution activities for which
such payments may be made include, but are not limited to, compensation to
persons who engage in or support distribution and redemption of Shares, printing
of prospectuses and reports for persons other than existing shareholders,
advertising, preparation and distribution of sales literature, overhead, travel
and telephone expenses, all with respect to Primary Shares only. Under the Class
A Plans, the aggregate fees may not exceed an annual rate of 0.25% of Financial
Services Fund's average daily net assets attributable to Class A shares.
The Primary Class Plans were most recently approved by the shareholders
of Value Trust on July 20, 1984 and on July 17, 1986 for both the Total Return
Trust and Special Investment Trust. The Primary Class Plans were approved by
LMFA, as sole shareholder of: American Leading Companies, on August 2, 1993,
Balanced Trust, on October 7, 1996, Small-Cap Value on June 1, 1998, and
Financial Services on October 5, 1999. The Primary Class Plans of Value Trust,
Total Return Trust and Special Investment Trust were amended, effective July 1,
1993, to make clear that, of the aggregate 1.00% fees with respect to Total
Return Trust and Special Investment Trust, 0.75% is paid for distribution
services and 0.25% is paid for ongoing services to shareholders; and with
respect to Value Trust, 0.70% is paid for distribution services and 0.25% is
paid for ongoing services to shareholders. The amendments also specify that each
Fund may not pay more in cumulative distribution fees than 6.25% of total new
gross assets attributable to Primary Shares, plus interest, as specified in the
Rules of Fair Practice of the National Association of Securities Dealers, Inc.
("NASD"). Legg Mason may pay all or a portion of the fee to its financial
advisors. Continuation of the Primary Class Plans was most recently approved on
November 13, 1998 by the Board of Directors of each respective Fund including a
majority of the directors who are not "interested persons" of each Fund as that
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<PAGE>
term is defined in the 1940 Act and who have no direct or indirect financial
interest in the operation of the Plan or the Underwriting Agreement ("12b-1
Directors").
With respect to Primary Shares, Legg Mason has agreed to waive its fees
for Total Return Trust, American Leading Companies, Balanced Trust and Small-Cap
Value as described under "The Funds' Investment Adviser/Manager."
Each Class A Plan was adopted, as required by Rule 12b-1 under the 1940
Act, by a vote of the 12b-1 Directors on August 6, 1999. The Class A Plans were
approved by the sole shareholder of Financial Services Fund on October 5, 1999.
In approving the establishment or continuation of each Plan, in
accordance with the requirements of Rule 12b-1, the directors determined that
there was a reasonable likelihood that each Plan would benefit the respective
Fund and its Primary Class or Class A shareholders. The directors considered,
among other things, the extent to which the potential benefits of the Plan to
the Fund's Primary Class or Class A shareholders could offset the costs of the
Plan; the likelihood that the Plan would succeed in producing such potential
benefits; the merits of certain possible alternatives to the Plan; and the
extent to which the retention of assets and additional sales of each Fund's
Primary Shares or Class A shares would be likely to maintain or increase the
amount of compensation paid by that Fund to the adviser/LMFA.
In considering the costs of the Plans, the directors gave particular
attention to the fact that any payments made by a Fund to Legg Mason under the
Plan would increase the Fund's level of expenses in the amount of such payments.
Further, the directors recognized that the adviser/LMFA would earn greater
management fees if a Fund's assets were increased, because such fees are
calculated as a percentage of a Fund's assets and thus would increase if net
assets increase. The directors further recognized that there can be no assurance
that any of the potential benefits described below would be achieved if the
Plans were implemented.
Among the potential benefits of the Plans, the directors noted that the
payment of commissions and service fees to Legg Mason and its investment
executives could motivate them to improve their sales efforts with respect to
each Fund's Primary Shares and Class A shares and to maintain and enhance the
level of services they provide to each Fund's Primary Class and Class A
shareholders. These efforts, in turn, could lead to increased sales and reduced
redemptions, eventually enabling each Fund to achieve economies of scale and
lower per share operating expenses. Any reduction in such expenses would serve
to offset, at least in part, the additional expenses incurred by each Fund in
connection with its Plan. Furthermore, the investment management of each Fund
could be enhanced, as net inflows of cash from new sales might enable its
portfolio manager to take advantage of attractive investment opportunities, and
reduced redemptions could eliminate the potential need to liquidate attractive
securities positions in order to raise the funds necessary to meet the
redemption requests.
Each Plan will continue in effect only so long as it is approved at
least annually by the vote of a majority of the Board of Directors, including a
majority of the 12b-1 Directors, cast in person at a meeting called for the
purpose of voting on the Plan. Each Plan may be terminated by a vote of a
majority of the 12b-1 Directors or by a vote of a majority of the outstanding
voting Primary Shares or Class A shares. Any change in a Plan that would
materially increase the distribution cost to a Fund requires shareholder
approval; otherwise the Plan may be amended by the directors, including a
majority of the 12b-1 Directors, as previously described.
In accordance with Rule 12b-1, each Plan provides that Legg Mason will
submit to the Fund's Board of Directors, and the directors will review, at least
quarterly, a written report of any amounts expended pursuant to the Plan and the
purposes for which expenditures were made. In addition, as long as the Plan is
in effect, the selection and nomination of the Independent Directors will be
committed to the discretion of such Independent Directors.
For the fiscal years ended March 31, 1999, 1998 and 1997, Value Trust
paid Legg Mason $60,265,880, $32,477,903, and $16,863,796, respectively in
distribution and service fees under the Plan, from assets attributable to
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<PAGE>
Primary Shares. For the same fiscal years, Total Return Trust paid Legg Mason
$6,436,510, $5,232,873, and $3,120,818, respectively; Special Investment Trust
paid Legg Mason $15,329,259, $12,733,789, and $8,965,838, respectively; and
American Leading Companies paid Legg Mason $2,206,663, $1,587,015, and $857,522,
respectively, in fees under the Plan. For the fiscal years ended March 31, 1999
and 1998, Balanced Trust paid Legg Mason $419,683, and $215,415 in fees under
the Plan and for the period October 1, 1996 (commencement of operations) to
March 31, 1997, Balanced Trust paid distribution and service fees of $45,587
(prior to fees waived of $26,398). For the period June 15, 1998 (commencement of
operations) to March 31, 1999, Small-Cap Value paid distribution and service
fees of $387,871.
Prior to October 5, 1999, LM Financial Partners, Inc. ("LMFP") served
as distributor of Financial Services Fund's Class A and Primary Class shares
under arrangements with LMFP substantially similar to those with Legg Mason. For
the period November 16, 1998 to December 31, 1998, Financial Services Fund paid
LMFP $1,785 and $12,955 in distribution and/or service fees under the Plans,
from assets attributable to Class A shares and Primary Class shares,
respectively.
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<PAGE>
During the year ended March 31, 1999, Legg Mason incurred the following
expenses with respect to Primary Shares:
<TABLE>
<CAPTION>
Total Return Special American Small
Trust Investment Leading Balanced Cap Value
Value Trust Trust Companies Trust Trust*
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Compensation to sales
personnel $35,389,000 $3,987,000 $9,354,000 $1,268,000 $241,000 $144,000
Advertising $431,000 $149,000 $142,000 $92,000 $122,000 $108,000
Printing and mailing of
prospectuses to
prospective shareholders
$586,000 $207,000 $219,000 $119,000 $171,000 $99,000
Other $12,467,000 $2,231,000 $4,492,000 $1,192,000 $855,000 $606,000
- ----------------------------------------------------------------------------------------------------------------------
Total expenses $48,873,000 $6,574,000 $14,207,000 $2,671,000 $1,389,000 $957,000
======================================================================================================================
</TABLE>
* June 15, 1998 (commencement of operations) to March 31, 1999.
The foregoing are estimated and do not include all expenses fairly
allocable to Legg Mason's or its affiliates' efforts to distribute Primary
Shares.
CAPITAL STOCK INFORMATION
Value Trust has authorized capital of 500 million shares of common
stock, par value $0.001 per share. Total Return Trust has authorized capital of
100 million shares of common stock, par value $0.001 per share. Special
Investment Trust has authorized capital of 150 million shares of common stock,
par value $0.001 per share. The Articles of Incorporation of Investors Trust
authorize issuance of 500 million shares of par value $.001 per share of
American Leading Companies, 250 million shares of par value $.001 per share of
Balanced Trust, 100 million shares of par value $.001 per share of Small-Cap
Value, and three hundred seventy five million shares of par value $.001 per
share of Financial Services Fund. Each corporation may issue additional series
of shares. Each Fund currently offers two Classes of Shares - Primary Shares and
Navigator Shares. Financial Services Fund offers a third class of shares: Class
A shares. Each class represents interests in the same pool of assets. A separate
vote is taken by a Class of Shares of a Fund if a matter affects just that Class
of Shares. Each Class of Shares may bear certain differing Class-specific
expenses and sales charges, which may affect performance.
Investors may obtain more information concerning the Navigator Class
from their financial advisor or any person making available to them shares of
the Primary Class or Class A, or by calling 1-800-822-5544.
THE FUNDS' CUSTODIAN AND TRANSFER AND DIVIDEND-DISBURSING AGENT
State Street Bank and Trust Company, P.O. Box 1713, Boston,
Massachusetts 02105, serves as custodian of each Fund's assets. Boston Financial
Data Services, P.O. Box 953, Boston, Massachusetts 02103, serves as transfer and
dividend-disbursing agent, and administrator of various shareholder services.
Legg Mason assists BFDS with certain of its duties as transfer agent and
receives compensation from BFDS for its services. Shareholders who request an
historical transcript of their account will be charged a fee based upon the
number of years researched. Each Fund reserves the right, upon 60 days' written
notice, to make other charges to investors to cover administrative costs.
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<PAGE>
THE FUNDS' LEGAL COUNSEL
Kirkpatrick & Lockhart LLP, 1800 Massachusetts Ave., N.W., Washington,
D.C. 20036-1800, serves as counsel to each Fund.
THE FUNDS' INDEPENDENT ACCOUNTANTS/AUDITORS
PricewaterhouseCoopers LLP, 250 W. Pratt Street, Baltimore, MD 21201,
has been selected by the Directors to serve as independent accountants for Value
Trust, Total Return Trust, Special Investment Trust, and Financial Services
Fund. Ernst & Young LLP, 2001 Market Street, Philadelphia, PA 19103, has been
selected by the Directors to serve as independent auditors for American Leading
Companies Trust, Balanced Trust and Small-Cap Value Trust.
FINANCIAL STATEMENTS
The Statement of Net Assets as of March 31, 1999; the Statements of
Operations for the year ended March 31, 1999; the Statements of Changes in Net
Assets for the years ended March 31, 1999 and 1998; the Financial Highlights for
the periods presented; the Notes to Financial Statements and the Report of the
Independent Accountants, each with respect to Value Trust, Total Return Trust
and Special Investment Trust, are included in the combined annual report for the
year ended March 31, 1999, and are hereby incorporated by reference in this
Statement of Additional Information.
The Statements of Net Assets as of March 31, 1999; the Statements of
Operations for the year ended March 31, 1999; the Statements of Changes in Net
Assets for the years ended March 31, 1999 and 1998; the Financial Highlights for
the periods presented; the Notes to Financial Statements and the Report of
Independent Auditors, each with respect to American Leading Companies Trust,
Balanced Trust and U.S. Small-Cap Value Trust, are included in the combined
annual reports for the year ended March 31, 1999, and are hereby incorporated by
reference in this Statement of Additional Information.
The Statement of Net Assets as of December 31, 1998, the Statement of
Operations for the period ended December 31, 1998; the Statement of Changes in
Net Assets for the period ended December 31, 1998; the Financial Highlights for
the periods presented; the Notes to Financial Statements and the Report of
Independent Public Accountants, each with respect to Financial Services Fund,
are included in Bartlett Capital Trust's annual report for the year ended
December 31, 1998, and are hereby incorporated by reference in this Statement of
Additional Information.
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<PAGE>
Appendix A
RATINGS OF SECURITIES
<TABLE>
<CAPTION>
<S> <C>
DESCRIPTION OF MOODY'S INVESTORS SERVICE, INC. ("MOODY'S") CORPORATE BOND RATINGS:
Aaa-Bonds which are rated Aaa are judged to be of the best quality.
They carry the smallest degree of investment risk and are generally referred to
as "gilt edge". Interest payments are protected by a large or exceptionally
stable margin and principal is secure. While the various protective elements are
likely to change, such changes as can be visualized are most unlikely to impair
the fundamentally strong position of such issues.
</TABLE>
Aa-Bonds which are rated Aa are judged to be of high quality by all
standards. Together with the Aaa group they comprise what are generally known as
high-grade bonds. They are rated lower than the best bonds because margins of
protection may not be as large as in Aaa securities or fluctuation of protective
elements may be of greater amplitude or there may be other elements present
which make the long-term risks appear somewhat larger than in Aaa securities.
A-Bonds which are rated A possess many favorable investment attributes
and are to be considered upper-medium grade obligations. Factors giving security
to principal and interest are considered adequate but elements may be present
which suggest a susceptibility to impairment sometime in the future.
Baa-Bonds which are rated Baa are considered medium-grade obligations,
i.e., they are neither highly protected nor poorly secured. Interest payments
and principal security appear adequate for the present but certain protective
elements may be lacking or may be characteristically unreliable over any great
length of time. Such bonds lack outstanding investment characteristics and in
fact have speculative characteristics as well.
Ba-Bonds which are 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 which are rated B generally lack characteristics of the
desirable investment. Assurance of interest and principal payments or
maintenance of other terms of the contract over any long period of time may be
small.
Caa-Bonds which are rated Caa are of poor standing. Such issues may be
in default or there may be present elements of danger with respect to principal
or interest.
Ca-Bonds which are rated Ca represent obligations which are speculative
in a high degree. Such issues are often in default or have other marked
shortcomings.
C-Bonds which are rated C are the lowest rated class of bonds and
issues so rated can be regarded as having extremely poor prospects of ever
attaining any real investment standing.
DESCRIPTION OF STANDARD & POOR'S ("S&P") CORPORATE BOND RATINGS:
AAA-This is the highest rating assigned by S&P to an obligation and
indicates an extremely strong capacity to pay principal and interest.
AA-Bonds rated AA also qualify as high-quality debt obligations.
Capacity to pay principal and interest is very strong, and in the majority of
instances they differ from AAA issues only in small degree.
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<PAGE>
A-Bonds rated A have a strong capacity to pay principal and interest,
although they are somewhat more susceptible to the adverse effects of changes in
circumstances and economic conditions.
BBB-Bonds rated BBB are regarded as having an adequate capacity to pay
principal and interest. Whereas they normally exhibit adequate protection
parameters, adverse economic conditions or changing circumstances are more
likely to lead to a weakened capacity to pay principal and interest for bonds in
this category than for bonds in the A category.
BB, B, CCC, CC-Bonds rated BB, B, CCC and CC are regarded, on balance,
as predominately speculative with respect to the issuer's capacity to pay
interest and repay principal in accordance with the terms of the obligation. BB
indicates the lowest degree of speculation and CC the highest degree of
speculation. While such bonds will likely have some quality and protective
characteristics, these are outweighed by large uncertainties or major risk
exposure to adverse conditions.
D-Debt rated D is in default, and payment of interest and/or repayment
of principal is in arrears.
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