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STATEMENT OF ADDITIONAL INFORMATION
SCHWAB CAPITAL TRUST
SCHWAB S&P 500 FUND
SCHWAB INTERNATIONAL INDEX FUND(R)
SCHWAB SMALL-CAP INDEX FUND(R)
SCHWAB INVESTMENTS
SCHWAB 1000 FUND(R)
DECEMBER 31, 1997
AS AMENDED FEBRUARY 12, 1998
This Statement of Additional Information (SAI) is not a prospectus. It should be
read in conjunction with the Prospectus dated December 31, 1997 (as amended from
time to time) for the Schwab International Index Fund(R) (International Fund),
Schwab Small-Cap Index Fund(R) (Small-Cap Fund), Schwab S&P 500 Fund (S&P 500
Fund) and Schwab 1000 Fund(R).
To obtain a copy of the Prospectus, please contact Charles Schwab & Co., Inc.
(Schwab) at 1-800-435-4000, 24 hours a day, or 101 Montgomery Street, San
Francisco, California 94104. TDD users may contact Schwab at 800-345-2550, 24
hours a day. The Prospectus also may be available electronically by using our
World Wide Web address: http://www.schwab.com/schwabfunds.
SCHWABFUNDS(R)
1-800-435-4000
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INVESTMENT OBJECTIVES............................................................................................ 2
INVESTMENT SECURITIES AND RISKS.................................................................................. 2
INVESTMENT RESTRICTIONS ......................................................................................... 15
ORGANIZATION AND MANAGEMENT OF THE TRUSTS ....................................................................... 18
MANAGEMENT OF THE FUNDS.......................................................................................... 24
PORTFOLIO TRANSACTIONS AND TURNOVER.............................................................................. 26
TAXES............................................................................................................ 28
SHARE PRICE CALCULATION.......................................................................................... 31
HOW THE FUNDS REFLECT PERFORMANCE................................................................................ 31
THE INDEXES AND INDEXING STRATEGIES.............................................................................. 33
PURCHASE AND REDEMPTION OF SHARES................................................................................ 37
OTHER INFORMATION................................................................................................ 37
FINANCIAL INFORMATION............................................................................................ 38
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INVESTMENT OBJECTIVES
INTERNATIONAL FUND. The investment objective of the International Fund is to
attempt to track the price and dividend performance (total return) of the Schwab
International Index(R) (International Index), an index created to represent the
performance of common stocks and other equity securities issued by large
publicly traded companies from countries around the world with major developed
securities markets, excluding the United States.
SMALL-CAP FUND. The investment objective of the Small-Cap Fund is to attempt to
track the price and dividend performance (total return) of the Schwab Small-Cap
Index(R) (Small-Cap Index), an index created to represent the performance of
common stocks of the second 1,000 largest United States companies, ranked by
market capitalization (share price times the number of shares outstanding).
SCHWAB 1000 FUND(R). The investment objective of the Schwab 1000 Fund(R) is to
match the price and dividend performance (total return) of the Schwab 1000
Index(R), an index created to represent to performance of publicly traded common
stocks of the 1,000 largest United States companies.
S&P 500 FUND. The Fund's investment objective is to seek to track the price and
dividend performance (total return) of common stocks of U. S. companies, as
represented by Standard & Poor's 500 Composite Stock Price Index (the S&P
500(R)).
INVESTMENT SECURITIES AND RISKS
ASSET-BACKED SECURITIES are securities that are backed by the loans or account
receivables of an entity, such as a bank or credit card company. These
securities are obligations that the issuer intends to repay using the assets
backing them (once collected). Therefore, repayment may depend largely on the
cash flows generated by the assets backing the securities. Sometimes the credit
support for these securities is limited to the underlying assets, but, in other
cases, may be provided by a third party via a letter of credit or insurance
guarantee.
CONVERTIBLE SECURITIES. Convertible securities are securities that are
exchangeable for a specific number of another form of security at a specified
price. Bonds and preferred stocks may be convertible. Convertible bonds
typically pay a lower interest rate than nonconvertible bonds of the same
quality and maturity, because the convertible feature allows them to be
exchanged for a specific number of shares of the company's common stock at a
predetermined price. This structure allows the holder of the convertible bond to
participate in share price movements in the company's common stock. The actual
return on a convertible bond may exceed its stated yield if the company's common
stock appreciates in value and the option to convert to common shares becomes
more valuable. Convertible preferred stocks are nonvoting equity securities that
pay a fixed dividend. These securities have a convertible feature similar to
convertible bonds, however, they do not have a maturity date. Due to their
fixed-income features, convertible issues typically are more sensitive to
interest rate changes than the underlying common stock. In the event of
liquidation, bondholders would have claims on company assets senior to those of
stockholders; preferred stockholders would have claims senior to those of common
stockholders.
Restriction. The S&P 500 Fund will not purchase convertible securities directly.
It may, however, hold convertible securities to the extent that such holdings
are incident to the Fund's ownership of common stocks. Each of the Schwab 1000
Fund(R), International Fund and Small-Cap Fund will not purchase convertible
securities if, as a result, more than 5% of its net assets would be invested in
these securities.
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CREDIT AND LIQUIDITY SUPPORTS may be employed by issuers to reduce the credit
risk of their securities. Credit supports include letters of credit, insurance
and guarantees. Liquidity supports include puts and demand features. These
arrangements move the credit risk of an investment from the issuer of the
security to the support provider.
DEBT SECURITIES are obligations, issued by various entities, including
governments and corporations, in order to raise money. They are basically
"IOUs," but are commonly referred to as bonds. Bonds normally require the issuer
to pay a fixed, variable or floating rate of interest on the amount of money
borrowed (the "principal") until it is paid back (at "maturity"). Upon maturity,
the principal must be repaid.
Debt securities experience price changes when interest rates change. As a rule,
when interest rates rise, bond prices decline or "fall", and when interest rates
fall bond prices rise. Typically, longer-maturity bonds react to interest rate
changes more severely than shorter-term bonds (all else being equal) but
generally offer a greater rate of interest. Debt securities also are subject to
the risk that their issuer will fail to meet its obligation to pay interest
and/or principal, and their prices also may be affected by the credit quality of
their issuer. Investment-grade debt securities are medium- and high-quality
securities, although some still possess varying degrees of speculative
characteristics and risk.
FOREIGN CURRENCY TRANSACTIONS. The following sections pertain to foreign
currency transactions: Forward Foreign Currency Exchange Contracts; Writing and
Purchasing Currency Call and Put Option; and Special Risks Associated With
Options on Foreign Currency.
FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS. The International Fund may enter
into forward foreign currency exchange contracts in several circumstances. The
International Fund may engage in foreign currency exchange transactions to
protect against uncertainty in the level of future exchange rates. The
International Fund expects to engage in foreign currency exchange transactions
in connection with the purchase and sale of portfolio securities (so-called
"transaction hedging") and to protect the value of specific portfolio positions
("position hedging").
For transaction hedging purposes, the International Fund enters into foreign
currency transactions with respect to specific receivables or payables of the
fund arising in connection with the purchase or sale of portfolio securities. By
transaction hedging, the International Fund will attempt to protect against a
possible loss resulting from an adverse change in the relationship between the
U.S. dollar and the applicable foreign currency during the period between the
date on which the security is purchased or sold and the transaction's settlement
date. When engaging in position hedging, the International Fund enters into
foreign currency exchange transactions to protect against a decline in the
values of the foreign currencies in which portfolio securities are denominated
(or against an increase in the value of currency in which the International Fund
expects to purchase securities).
When engaging in position and/or transaction hedging, the International Fund may
purchase or sell foreign currencies on a spot (or cash) basis at the prevailing
spot rate. In addition, the International Fund also may enter into contracts to
purchase or sell foreign currencies at a future date ("forward contracts") and
purchase and sell foreign currency futures contracts ("futures contracts"). The
International Fund also may purchase exchange-listed and over-the-counter call
and put options on futures contracts and on foreign currencies. A put option on
a futures contract gives the International Fund the right to assume a short
position in the futures contract until expiration of the option. A put option on
currency gives the International Fund the right to sell a currency at an
exercise price until the expiration of the option. A call option on a futures
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contract gives the International Fund the right to assume a long position in the
futures contract until the expiration of the option. A call option on currency
gives the International Fund the right to purchase a currency at the exercise
price until the expiration of the option.
Hedging transactions involve costs and may result in losses to the International
Fund. The International Fund's ability to engage in hedging transactions may be
limited by tax considerations. Transaction and position hedging do not eliminate
fluctuations in the underlying prices of the securities that the International
Fund owns or expects to purchase or sell. They simply establish a rate of
exchange that may be achieved at some future point in time. Additionally,
although these techniques tend to minimize the risk of loss due to decline in
the value of the hedged currency, they tend to limit any potential gain that
might result from an increase in the value of such currency.
Although the contracts are not presently regulated by the Commodity Futures
Trading Commission (the "CFTC"), the CFTC may in the future assert authority to
regulate these contracts. In such event, the ability of the International Fund
to utilize forward foreign currency exchange contracts may be restricted.
Restriction. The International Fund generally will not enter into a forward
contract with a term of greater than one year.
While the International Fund will enter into forward contracts to reduce
currency exchange rate risks, transactions in such contracts involve certain
other risks. Thus, while the International Fund may benefit from such
transactions, unanticipated changes in currency prices may result in a poorer
overall performance for the International Fund than if it had not engaged in any
such transactions. Moreover, there may be imperfect correlation between the
International Fund's portfolio holdings of securities denominated in a
particular currency and forward contracts into which the International Fund may
enter. Such imperfect correlation may cause the International Fund to sustain
losses, which will prevent the International Fund from achieving a complete
hedge or expose the International Fund to risk of foreign exchange loss.
Writing and Purchasing Currency Call and Put Options. The International Fund may
write covered put and call options and purchase put and call options on foreign
currencies for the purpose of protecting against declines in the dollar value of
portfolio securities and against increases in the dollar cost of securities to
be acquired. A call option written by the International Fund obligates the
International Fund to sell specified currency to the holder of the option at a
specified price at any time before the expiration date. A put option written by
the International Fund would obligate the International Fund to purchase
specified currency from the option holder at a specified time before the
expiration date. The writing of currency options involves risks that the
International Fund will, upon exercise of an option, be required to sell
currency at a price that is less than the currency's market value or be required
to purchase currency at a price that exceeds the currency's market value.
The International Fund may terminate their obligations under a call or put
option by purchasing an option identical to the one it has written. Such
purchases are referred to as "closing purchase transactions." The International
Fund would also be able to enter into closing sale transactions in order to
realize gains or minimize losses on options purchased by the International Fund.
The purchase of a call option would entitle the International Fund to purchase
specified currency at a specified price during the option period in return for
the premium paid. The International Fund ordinarily would realize a gain or a
loss on the purchase of the call option.
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The purchase of a put option would entitle the International Fund to sell
specific currency at a specified price during the option period in exchange for
the premium paid. The purchase of protective puts is designed merely to offset
or hedge against a decline in the dollar value of the International Fund's
portfolio securities due to currency exchange rate fluctuations. The
International Fund ordinarily would realize a gain if, during the option period,
the value of the underlying currency decreased below the exercise price in an
amount that that would more than cover the premium and transaction costs.
Otherwise, the International Fund would realize either no gain or a loss on the
purchase of the put option. Gains and losses on the purchase of protective put
options would tend to be offset by countervailing changes in the value of the
underlying currency.
Special Risks Associated With Options on Foreign Currency. An exchange-traded
option position may be closed out only on an options exchange that provides a
secondary market for an option of the same series. Although the International
Fund generally will purchase or write only those options for which there appears
to be an active secondary market, there is no assurance that a liquid secondary
market on an exchange will exist for any particular option or at any particular
time. For some options, no secondary market on an exchange may exist. In such
event, it might not be possible to effect closing transactions in particular
options. The International Fund would then have to exercise its options in order
to realize any profit and would incur transaction costs upon the sale of
underlying securities pursuant to the exercise of put options. If the
International Fund, as a covered call option writer, is unable to effect a
closing purchase transaction in a secondary market, it will not be able to sell
the underlying currency (or security denominated in that currency) until the
option expires or it delivers the underlying currency upon exercise.
There is no assurance that higher than anticipated trading activity or other
unforeseen events might not, at times, render certain of the facilities of the
OCC inadequate. This could result in an exchange instituting special procedures
that may interfere with the timely execution of customers' orders.
The International Fund will purchase and write over-the-counter options only to
the extent consistent with its limitations on investments in illiquid
securities. Trading in over-the-counter options is subject to the risk that the
other party will be unable or unwilling to close-out purchasing and writing
activities.
FOREIGN REPURCHASE AGREEMENTS. Foreign repurchase agreements involve a Fund
purchasing foreign securities and simultaneously agreeing to sell them back to
the counter-party in exchange for a fixed U.S. dollar or foreign currency
amount. Foreign repurchase agreements may not be fully collateralized at all
times. In addition, the value of the securities purchased by a Fund may be more
or less than the amount the counter-party has agreed to pay upon re-purchase. A
Fund could experience losses of the counter-party fails to perform. Foreign
repurchase agreements involve significantly higher risks than repurchase
agreements, including the risks of currency fluctuations.
FUTURES AND OPTIONS. The following sections pertain to futures and options
transactions: Writing Covered Options; Purchasing Options; Risks Associated with
Options Transactions; Futures Contracts; Options on Futures Contracts; Hedging
Strategies With Futures; and Risks Involved in Futures and Options Transactions.
Writing Covered Options. The Funds may write (sell) covered call and put options
on any securities in which they may invest. The Funds may purchase and write
such options on securities that are listed on domestic or foreign securities
exchanges or traded in the over-the-counter market. All call options written by
the Funds are covered, which means that the Funds will own the securities
subject to the option so long as the option is outstanding. The purpose of
writing covered call options is to realize greater income than
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would be realized on portfolio securities transactions alone. However, in
writing covered call options for additional income, the Funds may forego the
opportunity to profit from an increase in the market price of the underlying
security.
All put options the Funds write will be covered, which means that each of the
Funds will have deposited with its custodian cash, U.S. Government securities or
other high-grade debt securities with a value at least equal to the exercise
price of the put option. High-grade securities are securities rated in one of
the top three categories by Moody's Investor Service (Moody's) or Standard &
Poor's (S&P), or, if unrated, determined by the Investment Manager to be of
comparable credit quality. The purpose of writing such options is to generate
additional income for the Funds. However, in return for the option premium, the
Funds accept the risk that they may be required to purchase the underlying
securities at a price in excess of the securities market value at the time of
purchase.
The Funds may terminate their obligations under a written call or put option by
purchasing an option identical to the one it has written. Such purchases are
referred to as "closing purchase transactions."
Purchasing Options. The Funds may purchase put and call options on any
securities in which they may invest or options on any securities index based on
securities in which they may invest. The Funds may also enter into closing sale
transactions in order to realize gains or minimize losses on options they have
purchased.
For certain options, the writer may be assigned an exercise notice at any time
prior to the termination of the obligation. Therefore, the writer may have no
control over when the underlying securities must be sold, in the case of call
options, or purchased, in the case of put options. Whether or not an option
expires unexercised, the writer retains the amount of the premium. This amount
may, in the case of a covered call option, be offset by a decline in the market
value of the underlying security during the option period. If a call option is
exercised, the writer experiences a profit or loss from the sale of the
underlying security. If a put option is exercised, the writer must fulfill its
obligation to purchase the underlying security at the exercise price, which will
usually exceed the then market value of the underlying security.
The purchase of a call option would entitle the Funds, in return for the premium
paid, to purchase specified securities at a specified price during the option
period. The Funds would ordinarily realize a gain if, during the option period,
the value of such securities exceeded the sum of the exercise price, the premium
paid and transaction costs; otherwise the Funds would realize either no gain or
a loss on the purchase of the call option.
Risks Associated With Options Transactions. There is no assurance that a liquid
secondary market on a domestic or foreign options exchange will exist for any
particular exchange-traded option or at any particular time. If the Funds are
unable to effect a closing purchase transaction with respect to covered options
they have written, the Funds will not be able to sell the underlying securities
or dispose of assets held in a segregated account until the options expire or
are exercised. Similarly, if the Funds are unable to effect a closing sale
transaction with respect to options they have purchased, they would have to
exercise the options in order to realize any profit and will incur transaction
costs upon the purchase or sale of underlying securities.
Reasons for the absence of a liquid secondary market on an exchange include the
following: (i) there may be insufficient trading interest in certain options;
(ii) an exchange may impose restrictions on opening and/or closing transactions;
(iii) trading halts, suspensions or other restrictions may be imposed with
respect to
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particular classes or series of options; (iv) unusual or unforeseen
circumstances may interrupt normal operations on an exchange; (v) the facilities
of an exchange or the Options Clearing Corporation (the "OCC") may not at all
times be adequate to handle current trading volume; and (vi) one or more
exchanges could, for economic or other reasons, decide or be compelled at some
future date to discontinue the trading of options (or a particular class or
series of options), although outstanding options on that exchange that had been
issued by the OCC as a result of trades on that exchange would continue to be
exercisable in accordance with their terms.
The Funds may purchase and sell both options that are traded on U.S. and foreign
exchanges and options traded over-the-counter with broker-dealers who make
markets in these options. The ability to terminate over-the-counter options is
more limited than with exchange-traded options and may involve the risk that
broker-dealers participating in such transactions will not fulfill their
obligations.
The Funds currently treat purchased over-the-counter options and all assets used
to cover written over-the-counter options as illiquid securities, except for
options written with primary dealers in U.S. Government securities pursuant to
an agreement requiring a closing purchase transaction at a formula price.
Restriction. Each of the Funds will write or purchase an option only when the
market value of that option, when aggregated with the market value of all other
options transactions made on behalf of the Fund, does not exceed 5% of the
Fund's net assets.
The Funds may purchase and sell various kinds of futures contracts and options
on futures contracts. The futures contracts may be based on various securities
(such as U.S. Government securities), securities indices, foreign currencies and
other financial instruments and indices. All futures contracts entered into by
the Funds are traded on U.S. exchanges or boards of trade that the CFTC licenses
and regulates on foreign exchanges. The Funds are not permitted to engage in
speculative futures trading.
Futures Contracts. A futures contract generally may be described as an agreement
between two parties to buy and sell particular financial instruments for an
agreed-upon price during a designated month. In the case of a contract relating
to an index or otherwise not calling for physical delivery at the end of trading
in the contract, the parties may agree to deliver the final cash settlement
price.
When interest rates are rising or securities prices are falling, the Funds may
seek, through the sale of futures contracts, to offset a decline in the value of
their current portfolio securities. When rates are falling or prices are rising,
the Funds, through the purchase of futures contracts, may attempt to secure
better rates or prices than might later be available in the market when they
effect anticipated purchases. Similarly, the International Fund may sell futures
contracts on a specified currency to protect against a decline in the value of
that currency and their portfolio securities that are denominated in that
currency. The International Fund may purchase futures contracts on a foreign
currency to fix the price in U.S. dollars of a security denominated in that
currency that the International Fund has acquired or expects to acquire.
Although futures contracts, by their terms, generally call for the actual
delivery or acquisition of underlying securities or the cash value of the index,
in most cases the contractual obligation is fulfilled before the date of the
contract without having to make or take such delivery. The contractual
obligation is offset by buying (or selling, as the case may be) on a commodities
exchange an identical futures contract calling for delivery in the same month.
Such a transaction, which is effected through a member of an exchange, cancels
the obligation to make or take delivery of the securities or the cash value of
the index underlying the contractual obligations. The Funds may incur brokerage
fees when they purchase or sell futures contracts.
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Positions taken in the futures markets are not normally held to maturity but are
instead liquidated through offsetting transactions, which may result in a profit
or a loss. While the Funds' futures contracts on securities or currency will
usually be liquidated in this manner, the Funds may instead make or take
delivery of the underlying securities or currency whenever it appears
economically advantageous for them to do so. A clearing corporation associated
with the exchange on which futures on securities or currencies are traded
guarantees that, if still open, the sale or purchase will be performed on the
settlement date.
Options on Futures Contracts. The acquisition of put and call options on futures
contracts will give the Funds the right (but not the obligation), for a
specified price, to sell or to purchase, respectively, the underlying futures
contract at any time during the option period. As the purchaser of an option on
a futures contract, the Funds obtain the benefit of the futures position if
prices move in a favorable direction but limit their risk of loss in the event
of an unfavorable price movement to the loss of the premium and transaction
costs.
The writing of a call option on a futures contract generates a premium that may
partially offset a decline in the value of the Funds' assets. By writing a call
option, the Funds become obligated, in exchange for the premium, to sell a
futures contract that may have a value lower than the exercise price. Thus, the
loss incurred by the Funds in writing options on futures is potentially
unlimited and may exceed the amount of the premium received. The Funds will
incur transaction costs in connection with the writing of options on futures.
The holder or writer of an option on a futures contract may terminate its
position by selling or purchasing an offsetting option on the same series. There
is no guarantee that these closing transactions can be effected. The Funds'
ability to establish and close out positions on these options will be subject to
the development and maintenance of a liquid market.
Hedging Strategies With Futures. Hedging by use of futures contracts seeks to
establish more certainty than would otherwise be possible with respect to the
effective price, rate of return or currency exchange rate on portfolio
securities or securities that the Funds own or propose to acquire. Such futures
contracts may include contracts for the future delivery of securities held by
the Funds or securities with characteristics similar to those of the Funds'
portfolio securities. Similarly, the International Fund sells futures contracts
on currency in which its portfolio securities are denominated or in one currency
to hedge against fluctuations in the value of securities denominated in a
different currency if there is an established historical pattern of correlation
between the two currencies. If, in the opinion of the Investment Manager, there
is a sufficient degree of correlation between price trends for the Funds'
portfolio securities and futures contracts based on other financial instruments,
securities indices or other indices, the Funds may enter into such futures
contracts as part of their hedging strategy. Although, under some circumstances,
prices of securities in the Funds' portfolio may be more or less volatile than
prices of such futures contracts, the Investment Manager will attempt to
estimate the extent of this difference in volatility based on historical
patterns. The Investment Manager will attempt to compensate for it by having the
Funds enter into a greater or lesser number of futures contracts or by
attempting to achieve only a particular hedge against price changes affecting
the Funds' portfolio securities. When hedging of this character is successful,
any depreciation in the value of the portfolio securities will be substantially
offset by appreciation in the value of the futures position. On the other hand,
any unanticipated appreciation in the value of the Funds' portfolio securities
will be substantially offset by a decline in the value of the futures position.
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On other occasions, the Funds may take "long" positions by purchasing such
futures contracts. This may be done when the Funds anticipate the subsequent
purchase of particular securities when they have the necessary cash but expect
the prices or currency exchange rates available on the intended date of purchase
in the applicable market to be less favorable than prices that are currently
available.
When buying or selling futures contracts, a Fund must deposit an amount of cash,
cash equivalents or liquid, high-quality debt instruments with its broker equal
to a fraction of the contract amount. This amount is known as "initial margin"
and is in the nature of a performance bond or good faith deposit on the
contract, which will be returned to the Fund upon termination of the futures
contract, assuming all contractual obligations have been satisfied. Subsequent
payments to and from the broker, known as "variation margin," will be made at
least daily as the price of the futures contract fluctuates and the Fund's
position in the contract becomes more or less valuable. This process is known as
"marking-to-market."
Regulations of the Commodities Futures Trading Commission ("CFTC") applicable to
the Funds generally require that all of their futures transactions constitute
"bona fide" hedging transactions. As a result, a Fund will normally sell futures
contracts to protect against a decrease in the price of securities it owns but
intends to sell or purchase futures contracts to protect against an increase in
the price of securities it intends to purchase. In addition, the Funds may
purchase and sell futures contracts and options as a substitute for a comparable
market position in the underlying securities. Futures transactions need not
constitute "bona fide" hedging under CFTC regulations if the aggregate initial
margin and premiums required to establish such positions do not exceed 5% of
each Fund's net assets.
Risks Involved in Futures and Options Transactions. Futures and options
transactions involve risks, which in some strategies can be substantial due to
the low margin deposits required and the extremely high degree of leverage
involved in futures and options trading. However, to the extent the Funds'
futures and options practices are limited to hedging purposes, the Investment
Manager does not believe that the Funds are subject to the degree of risk
frequently associated with futures and options transactions. To the extent the
Funds engage in the use of futures and options on futures other than for hedging
purposes, the Funds may be subject to additional risk.
The primary risks associated with the use of futures and options include:
imperfect correlation between the change in market value of the securities held
by a Fund and the prices of the futures or options, possible lack of a liquid
secondary market for futures or options, and the resulting inability to close
such positions prior to their maturity dates. To minimize these risks, the Funds
will invest only in those contracts whose behavior is expected to resemble that
of a Fund's underlying securities. The Funds will attempt to minimize the risks
being unable to close out futures positions by entering into these transactions
on a national exchange with an active and liquid secondary market.
Three principal areas of risk are present when futures and options contracts are
used even in a hedging context. First, there may not always be a liquid
secondary market for a futures or option contract at the time a Fund seeks to
"close out" its position. If a Fund is unable to "close out" a futures or option
position and prices move adversely, the Fund would have to continue to make
daily cash payments to maintain its required margin. If the Fund had
insufficient cash to meet this requirement, it would have to sell portfolio
securities at a disadvantageous time. In addition, the Fund might be required to
deliver the securities underlying futures or options contracts it holds. Each
Fund will seek to reduce the risk that it will be unable to "close out"
contracts by entering into only futures or options contracts that are traded on
national exchanges and for which there appears to be a liquid secondary market.
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It is also possible that changes in the prices of futures or options contracts
might correlate imperfectly, or not at all, with changes in the market values of
the securities being hedged. This situation could result from price distortions
in the futures or options markets due to, among other things, active trading by
speculators and use of offsetting "closing" transactions by other investors
seeking to avoid meeting additional margin deposit requirements. In the event of
significant market distortions, it is possible that a Fund could lose money on
futures or options contracts and experience appreciation in the value of its
portfolio securities, or vice versa.
Finally, adverse market movements could cause a Fund to lose up to its full
investment in an options contract and/or to experience substantial losses on an
investment in a futures contract. However, barring such significant market
distortions, a similar result could be expected were the Fund to invest directly
in the securities being hedged. There is also the risk of loss by a Fund of
margin deposits in the event of bankruptcy of a broker with whom the Fund has an
open position in a futures contract or option.
Restrictions. The value of all futures contracts on stocks and stock indices and
options contracts is not to exceed 10% of the Small-Cap Fund's and the
International Fund's total assets. Each Fund may enter into futures contracts
and options on futures contracts provided that aggregate deposits required do
not exceed 5% of its total assets. In addition, certain provisions of the
Internal Revenue Code of 1986, as amended, (the "Code"), may limit each Fund's
use of futures contracts and options.
Index participations and index participation contracts provide the equivalent of
a position in the securities comprising an index, with each security's
representation equaling its index weighting. Moreover, their holders are
entitled to payments equal to the dividends paid by the underlying index
securities. Generally, the value of an index participation or index
participation contract will rise and fall along with the value of the related
index. A Fund will invest in equity index participations and index participation
contracts only if a liquid market for them appears to exist.
Restriction. The Schwab 1000 Fund(R) may not invest more than 5% of its total
assets in equity index participations.
The extent to which each Fund may purchase and sell futures, options, equity
index participations and index participation contracts may be limited by each
Fund's intention to meet Code requirements for qualification as a regulated
investment company. Read the "Taxes" section in this Statement of Additional
Information (SAI) for more information." An underlying fund's investment in such
instruments may similarly be restricted by Code requirements.
ILLIQUID SECURITIES. Investments that cannot be sold or disposed of in the
normal course of business at their approximate value will be considered
illiquid. The Investment Manager determines the liquidity of a Fund's
investments under the supervision and direction of the Board of Trustees.
Investments currently considered illiquid are repurchase agreements not maturing
within seven days and some restricted securities.
INDEXED SECURITIES. The International Fund may purchase securities whose prices
are indexed to the prices of other securities, securities, indexes, currencies,
precious metals or other commodities, or other financial indicators. Indexed
securities are typically debt securities or deposits whose value at maturity or
interest rate paid is determined by reference to a specified instrument.
Restriction. Each Fund will not purchase indexed securities, if as a result,
more that 5% of net assets would be invested in these securities.
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<PAGE> 11
INTERNATIONAL INVESTMENTS. The International Fund will invest primarily in
foreign securities. International investing involves certain special
considerations, which are typically not associated with investing in U.S.
issuers. Investments may be in securities of foreign issuers, whether located in
developed or undeveloped countries. Foreign companies are not subject to uniform
accounting, auditing and financial reporting standards, practices and
requirements comparable to those applicable to U.S. companies. In addition,
there may be less publicly available information about foreign companies.
Foreign securities typically have less volume, and are generally less liquid and
more volatile than securities of U.S. companies. Fixed commissions on foreign
securities exchanges are generally higher than negotiated commissions on U.S.
exchanges, although the International Fund endeavors to achieve the most
favorable net results on its portfolio transactions. There is generally less
government supervision and regulation of foreign securities exchanges, brokers,
dealers and listed companies than in the United States, thus increasing the risk
of delayed settlements of portfolio transactions or loss of certificates for
portfolio securities. There may be difficulties in obtaining or enforcing
judgments against foreign issuers as well. These factors and others may increase
the risks with respect to the liquidity of the International Fund's portfolio,
and the Fund's ability to meet a large number of shareholder redemption
requests.
Foreign markets also have different clearance and settlement procedures, and in
certain markets there have been times when settlements have been unable to keep
pace with the volume of securities transactions, making it difficult to conduct
such transactions. Such delays in settlement could result in temporary periods
when a portion of the assets of the International Fund is uninvested and no
return is earned thereon. The inability to make intended security purchases due
to settlement problems could cause the International Fund to miss attractive
investment opportunities. Losses to the International Fund arising out of the
inability to fulfill a contract to sell such securities could result in
potential liability to the Fund.
Investments in the securities of foreign issuers are usually made and held in
foreign currencies. In addition, the International Fund may hold cash in foreign
currencies. These investments may be affected favorably or unfavorably by
changes in currency rates and in exchange control regulations, and may cause a
Fund to incur costs in connection with conversions between various currencies.
The rate of exchange between the U.S. dollar and other currencies is determined
by the forces of supply and demand in the foreign exchange market as well as by
political and economic factors. Changes in the foreign currency exchange rates
also may affect the value of dividends and interest earned, gains and losses
realized on the sale of securities, and net investment income and gains, if any,
to be distributed to shareholders by the International Fund.
In addition, conditions within and around foreign countries, such as the
possibility of expropriation or confiscatory taxation, political or social
instability, diplomatic developments, change of government or war, could affect
the value of foreign investments. Moreover, individual foreign economies may
differ favorably or unfavorably from the U.S. economy in such respects as growth
of gross national product, rate of inflation, capital reinvestment, resource
self-sufficiency and balance of payments position.
In addition to the risks discussed above, it is unforeseeable what risk, if any,
may exist to investments as a result of the recent incorporation of the British
Crown Colony of Hong Kong into the People's Republic of China. Shareholders
should note that the risks discussed above may increase depending on political
and economic developments.
Securities that are acquired by the International Fund outside the United States
and that are publicly-traded in the United States on a foreign securities
exchange or in a foreign securities market, are not considered by the Fund to be
illiquid assets provided that: (i) the Fund acquires and holds the securities
with the intention
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<PAGE> 12
of reselling the securities in the foreign trading market, (ii) the Fund
reasonably believes it can dispose of the securities readily in the foreign
trading market or for cash in the United States, or (iii) foreign market and
current market quotations are readily available. Investments in foreign
securities where delivery takes place outside the United States will have to be
made in compliance with any applicable U.S. and foreign currency restrictions
and tax laws (including laws imposing withholding taxes on any dividend or
interest income) and laws limiting the amount and types of foreign investments.
LENDING AND DIRECT DEBT. Direct debt instruments represent ownership interests
in the debt of a company, government or other entity. Lending of securities is a
common practice in the securities industry. The Funds will engage in security
lending arrangements with the primary objective of increasing the Funds' income
through investment of the cash collateral in short-term, interest-bearing
obligations but will do so only to the extent that the Funds will not lose the
tax treatment available to regulated investment companies. The Funds will be
entitled to all dividends or interest on any loaned securities. Loans of
securities involve a risk that the borrower may fail to return the securities or
provide additional collateral. The Funds may loan securities to qualified
broker-dealers or other institutional investors provided: (i) the loan is
secured continuously by collateral consisting of U.S. Government securities,
letters of credit, cash or cash equivalents maintained on a daily
marked-to-market basis in an amount at least equal to the current market value
of the securities loaned; (ii) the Fund may at any time call the loan and obtain
the return of the securities loaned; (iii) the Fund will receive any interest or
dividends paid on the loaned securities; and (iv) the aggregate market value of
securities loaned will not at any time exceed one-third of the total assets of
the Fund.
MORTGAGE-BACKED SECURITIES represent an interest in an underlying pool of
mortgages. Issuers of these securities include agencies and instrumentalities of
the U.S. Government, such as the Federal Home Loan Mortgage Corporation and the
Federal National Mortgage Association, and private entities, such as banks. The
income paid on mortgage-backed securities depends upon the income received from
the underlying pool of mortgages. These securities are subject to interest rate
risk, like other debt securities, in addition to prepayment risk.
Mortgage-backed securities include collateralized mortgage obligations,
mortgage-backed bonds and stripped mortgage-backed securities.
MONEY MARKET SECURITIES are high-quality, short-term securities that may be
issued by entities such as the U.S. Government, corporations and financial
institutions (like banks).
PRECIOUS METAL-RELATED INVESTMENTS. Prices of precious metals can be expected to
respond to changes in rates of inflation and to perceptions of economic and
political instability. Historically, the prices of precious metals and of
securities of companies engaged in the precious metal-related activities have
been subject to extreme fluctuations, as a result of, among other reasons, wider
economic or political instability. The S&P 500 Fund may invest in common stocks
of domestic companies principally engaged in precious metal-related activities,
which include companies principally engaged in the extraction, processing,
distribution or marketing of precious metals, if, at the time of investment, the
Investment Manager considers that at least 50% of the company's assets, revenues
or profits are derived from the precious metal industry.
The S&P 500 Fund also may invest in futures on precious metals, such as gold
futures, and options thereon. Such investments are subject to the investment
limitations on investments in futures and options for the S&P 500 Fund as set
forth in the "Futures Contracts and Options on Futures Contracts" section of the
SAI.
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<PAGE> 13
PREFERRED STOCK. The Funds may invest in preferred stock. Preferred stock has
priority over common stock as to income and generally as to assets of an issuer;
however, income is usually limited to a definitive percentage regardless of the
issuer's earnings. Preferred stock usually has limited voting rights.
Restriction. Each Fund will not purchase preferred stocks, if as a result, it
would have more than 5% of net assets in such securities.
REAL ESTATE-RELATED INVESTMENTS. Real estate-related instruments include real
estate investment trusts, commercial and residential mortgage-backed securities
and real estate financings. Real estate-related instruments are sensitive to
factors such as changes in real estate values and property taxes, interest
rates, cash flow of underlying real estate assets, overbuilding, and the
management skill and creditworthiness of the issuer. Real estate-related
instruments also may be affected by certain tax and regulatory requirements,
such as those relating to the environment.
REPURCHASE AGREEMENTS. Repurchase agreements are instruments under which a buyer
acquires ownership of a security from a seller who agrees to repurchase the
security at a mutually agreed upon time and price (which price is higher than
the purchase price), thereby determining the yield during the buyer's holding
period. Under the 1940 Act, a repurchase agreement is deemed to be a Fund's loan
of money to the seller, collateralized by the underlying security. The interest
rate is effective for the period of time in which the Funds are invested in the
agreement and is not related to the coupon rate on the underlying security. Any
repurchase agreements a Fund enters into will involve the Fund as the buyer and
banks or broker-dealers as sellers (repurchase agreements with broker-dealers
will be limited to obligations of the U.S. Government or its agencies or
instrumentalities). The period of these repurchase agreements will be usually
short--from overnight to one week--and at no time will the Funds invest in
repurchase agreements for more than one year. However, securities subject to
repurchase agreements may have maturity dates in excess of one year from the
effective date of the repurchase agreements. The transaction requires the
initial collateralization of the seller's obligation with securities having a
market value, including accrued interest, equal to at least 102% of the dollar
amount the Funds invest with the value marked-to-market daily to maintain 100%
coverage. A default by the seller might cause the Funds to experience a loss or
delay in the liquidation of the collateral securing the repurchase agreement.
The Funds might also incur disposition costs in liquidating the collateral. The
Funds will make payment for such securities only upon physical delivery or
evidence of book entry transfer to the account of its custodian bank.
Restriction. The Funds may not enter into a repurchase agreement of more than
seven days duration if, as a result, the market value of the Funds' net assets,
together with investments in other securities deemed to be not readily
marketable, would be invested in excess of the Funds' policy on investments in
illiquid securities.
In the event of a bankruptcy or other default of a repurchase agreement's
seller, a Fund might incur expenses in enforcing its rights, and could
experience losses, including a decline in the value of the underlying securities
and loss of income.
Restriction. Each Fund will not invest more than 10% of its net assets at the
time of purchase in repurchase agreements maturing in more than seven days and
other illiquid securities.
RESTRICTED SECURITIES. Restricted securities are securities that are subject to
legal restrictions on their sale. Restricted securities may be considered to be
liquid if a liquid institutional or other market exists for these securities. In
making this determination, the Investment Manager, under the direction of the
Board of Trustees, will take into account the following factors: (i) the
frequency of trades and quotes for the security;
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<PAGE> 14
(ii) the number of dealers willing to purchase or sell the security and the
number of potential purchasers; (iii) dealer undertakings to make a market in
the security; and (iv) the nature of the security and marketplace trades (e.g.,
the time needed to dispose of the security, the method of soliciting offers and
the mechanics of transfer). To the extent the Funds invest in restricted
securities that are deemed liquid, the general level of illiquidity in the
Funds' portfolios may be increased if qualified institutional buyers become
uninterested in purchasing these securities contracts.
SECURITIES OF OTHER INVESTMENT COMPANIES. Each Fund may buy shares of other
investment companies, including those managed by its Investment Manager. Because
other investment companies employ investment adviser and other service
providers, investments by a Fund may cause shareholders to pay duplicative fees.
Restriction. No more than 10% of a Fund's total assets may be invested in other
investment companies, and an investment in any one investment company will be
limited to 5% of a Fund's total assets.
STRIPPED SECURITIES are securities whose income and principal components are
detached and sold separately from each other. While the risks associated with
stripped securities are similar to other securities, stripped securities are
typically subject to greater changes in value. U.S. Treasury securities that
have been stripped by a Federal Reserve Bank are obligations of the U.S.
Treasury.
SWAP AGREEMENTS are an exchange of one security or asset for another. A swap may
be entered into in order to change the maturity of a Fund's portfolio or to
protect a Fund's value from changes in interest rates. By entering into a swap
agreement, a Fund is exposed to the risk that the counter party will not fulfill
its obligations.
U.S. GOVERNMENT SECURITIES are debt securities issued by the U.S. Treasury or
issued or guaranteed by the U.S. Government or any of its agencies or
instrumentalities. U.S. Treasury securities are backed by the full faith and
credit of the United States. Not all U.S. Government securities are backed by
the full faith and credit of the United States. Some U.S. Government securities
are supported by a line of credit the issuing entity has with the U.S. Treasury.
Others are supported solely by the credit of the issuing agency or
instrumentality. Of course U.S. Government securities are among the safest
securities, but they are still subject to interest rate changes which may affect
their yields.
WARRANTS. The Funds may invest in warrants, which are options to purchase equity
securities at specific prices valid for a specific period of time. The prices do
not necessarily move parallel to the prices of the underlying securities.
Warrants have no voting rights, receive no dividends and have no rights with
respect to the assets of the issuer. If a warrant is not exercised within the
specified time period, it will become worthless and a Fund will lose the
purchase price and the right to purchase the underlying security.
Restriction. Each Fund will not purchase warrants, if as a result, it would have
invested more than 5% of net assets in such securities.
WHEN-ISSUED AND DELAYED DELIVERY SECURITIES. The Funds may hold securities on a
"when-issued" or "delayed delivery" basis. When-issued or delayed delivery
securities are securities purchased for future delivery at a stated price and
yield. Generally, a Fund will not pay for securities until the Fund receives
them. Securities purchased on a when-issued or delayed delivery basis are
recorded as assets. During the period between the agreement date and the
settlement date, the value of such securities may change as the
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<PAGE> 15
prices of securities in the stock market increase or decrease, or as interest
rates change. Default by the other party to the agreement may result in a loss
to a Fund.
INVESTMENT RESTRICTIONS
Except as otherwise noted, the restrictions below are fundamental and cannot be
changed without approval of the holders of a majority of the outstanding voting
securities (as defined in the 1940 Act).
THE INTERNATIONAL FUND, THE SMALL-CAP FUND AND THE S&P 500 FUND MAY NOT:
1) As to 75% of its assets, purchase securities of any issuer (other
than obligations of, or guaranteed by, the U.S. Government, its agencies or
instrumentalities or investments in other registered investment companies) if,
as a result, more than 5% of the value of its total assets would be invested in
the securities of such issuer.
2) Purchase securities (other than securities issued or guaranteed by
the U.S. Government, its agencies or instrumentalities) if, as a result of such
purchase, 25% or more of the value of its total assets would be invested in any
industry (except that each Fund may purchase securities under such circumstances
only to the extent that its Index is also so concentrated).
3) Invest more than 10% of its net assets in illiquid securities,
including repurchase agreements with maturities in excess of seven day.
4) Purchase or retain securities of an issuer if any of the officers,
Trustees or Directors of the Trust or the Investment Manager individually own
beneficially more than 1/2 of 1% of the securities of such issuer and together
beneficially own more than 5% of the securities of such issuer.
5) Purchase or sell commodities, commodity contracts or real estate,
including interests in real estate limited partnerships, provided that each Fund
may (i) purchase securities of companies that deal in real estate or interests
therein, (ii) purchase or sell futures contracts, options contracts, equity
index participations and index participation contracts, and (iii) for the S&P
500 Fund, purchase securities of companies that deal in precious metals or
interests therein.
6) Invest for the purpose of exercising control or management of
another issuer.
7) Purchase securities of other investment companies, except as
permitted by the 1940 Act, including any exemptive relief granted by the SEC.
8) Lend money to any person, except that each Fund may (i) purchase a
portion of an issue of short-term debt securities or similar obligations
(including repurchase agreements) that are distributed publicly or customarily
purchased by institutional investors, and (ii) lend its portfolio securities.
9) Borrow money or issue senior securities, except that each Fund may
borrow from banks as a temporary measure to satisfy redemption requests or for
extraordinary or emergency purposes and then only in an amount not to exceed
one-third of the value of its total assets (including the amount borrowed),
provided that each Fund will not purchase securities while borrowings represent
more than 5% of its total assets.
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<PAGE> 16
10) Pledge, mortgage or hypothecate any of its assets, except that, to
secure allowable borrowings, each Fund may do so with respect to no more than
one-third of the value of its total assets.
11) Underwrite securities issued by others, except to the extent it may
be deemed to be an underwriter, under the federal securities laws, in connection
with the disposition of securities from its investment portfolio.
In addition to Investment Restrictions numbered 4, 6, 8, 10, and 11 above, the
Schwab 1000 Fund(R) has the following additional fundamental policies.
THE SCHWAB 1000 FUND(R) MAY NOT:
1) As to 75% of its assets, purchase securities of any issuer (other
than obligations of, or guaranteed by, the U.S. Government, its agencies or
instrumentalities) if, as a result, more than 5% of the value of its total
assets would be invested in the securities of such issuer.
2) Purchase securities (other then securities issued or guaranteed by
the U.S. Government, its agencies or instrumentalities) if, as a result or such
purchase, 25% or more of the value of its total assets would be invested in any
industry (except, to the extent that the Schwab 1000 Index(R) is also so
concentrated). Securities issued by governments or political subdivisions or
authorities of governments are not considered to be securities subject to this
concentration restriction.
3) Invest more than 10% of the total value of its assets in illiquid
securities, including repurchase agreements with maturities in excess of seven
days.
4) Purchase or sell commodities or real estate,
including interests in real estate limited partnerships,
provided that the Fund may (i) purchase securities of
companies that deal in real estate or interests therein, and
(ii) purchase or sell futures contracts, options contracts,
equity index participations and index participation contracts.
5) Purchase securities of other investment companies,
except as permitted by the 1940 Act.
6) Borrow money except from banks as a temporary measure to satisfy
redemption requests or for extraordinary or emergency purposes and then only in
an amount not to exceed one-third of the value of its total assets (including
the amount borrowed), provided that the Fund will not purchase securities while
borrowings represent more than 5% of its total assets.
With respect to the fundamental restriction regarding illiquid
securities, the Fund not calculate its 10% of total assets limit so that it may
invest more than 15% of net assets in illiquid securities.
The Small-Cap Fund has the following additional fundamental limitation.
THE SMALL-CAP FUND will invest at least 65% of its total assets in common
stocks, or other equity securities including preferred stocks, rights and
warrants.
The International Fund has the following additional fundamental limitation.
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<PAGE> 17
THE INTERNATIONAL FUND will invest at least 65% of its total assets in common
stocks and other equity securities including preferred stocks, rights and
warrants of companies located in at least three countries other than the United
States.
In order to permit the sale of shares of each Fund in certain jurisdictions,
each Fund may make commitments more restrictive than the fundamental operating
restrictions described above. Should it do so and later determine that any such
commitment is no longer in the best interests of the Fund and its shareholders,
it will revoke the commitment(s) by terminating sales of its shares in the
jurisdiction(s) involved.
The following restrictions are non-fundamental and may be changed by the Trust's
Board of Trustees.
EACH FUND MAY NOT:
a) Purchase more than 10% of any class of securities of any issuer if,
as a result of such purchase, it would own more than 10% of such issuer's
outstanding voting securities.
b) Invest more than 5% of its net assets in warrants, valued at the
lower of cost or market, and no more than 40% of this 5% may be invested in
warrants that are not listed on the New York Stock Exchange or the American
Stock Exchange, provided, however, that for purposes of this restriction,
warrants acquired by a Fund in units or attached to other securities are deemed
to be without value.
c) Purchase puts, calls, straddles, spreads or any combination thereof
if by reason of such purchase the value of its aggregate investment in such
securities would exceed 5% of the Fund's net assets.
d) Make short sales, except for short sales against the box.
e) Purchase or sell interests in oil, gas or other mineral development
programs or leases, although it may invest in companies that own or invest in
such interests or leases.
f) Purchase securities on margin, except such short-term credits as may
be necessary for the clearance of purchases and sales of securities.
The Schwab 1000 Fund(R) has the following additional non-fundamental investment
limitations.
THE SCHWAB 1000 FUND(R) MAY NOT:
i) Invest more than 5% of its total assets in securities of issuers
(other that obligations of, guaranteed by the U.S. Government, its agencies or
instrumentalities) that, with their predecessors, have a record of less than
three years continuous operation.
ii) Purchase securities that would cause more that 5% of its net assets
to be invested in restricted securities, excluding restricted securities
eligible for resale pursuant to Rule 144A under the Securities Act of 1933 that
have been determined to be liquid under procedures adopted by the Trust's Board
of Trustees based upon the trading markets for the securities.
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<PAGE> 18
ORGANIZATION AND MANAGEMENT OF THE TRUSTS
Each Fund, except the Schwab 1000 Fund(R), is a series of Schwab Capital Trust
(a Trust), an open-end investment management company organized as a
Massachusetts business trust on May 7, 1993. The Schwab 1000 Fund(R) is a series
of Schwab Investments (a Trust), an open-end investment management company
organized as a Massachusetts business trust on October 26, 1990. Each Trust is
authorized to issue and unlimited number of shares of beneficial interests in
one or more series or classes of series (funds and/or classes of funds).
Currently, Schwab Investments offers the following series: Schwab 1000 Fund(R),
Schwab Total Bond Market Index Fund, Schwab Short-Term Bond Market Index Fund,
Schwab Short/Intermediate Tax-Free Bond Fund, Schwab Long-Term Tax-Free Bond
Fund, Schwab California Short/Intermediate Tax-Free Bond Fund and Schwab
California Long-Term Tax-Free Bond Fund. Currently, Schwab Capital Trust offers
the following series: S&P 500 Fund, International Fund, Small-Cap Fund,
Analytics Fund, Schwab Asset Director(R)- High Growth Fund, Schwab Asset
Director(R)- Balanced Fund, Schwab Asset Director(R)- Conservative Fund, Schwab
OneSource(R) Portfolios- Growth Allocation Fund, Schwab OneSource(R) Portfolios-
Balanced Allocation Fund, Schwab OneSource(R) Portfolios- International Fund,
and Schwab OneSource(R) Portfolios- Small Company Fund.
The Trusts generally are not required to hold shareholder meetings. However,
shareholder meetings will be held in connection with the following matters: (1)
election or removal of Trustees if a meeting is requested in writing by a
shareholder or shareholders who beneficially own(s) 10% or more of the Trust's
shares; (2) adoption of any contract for which shareholder approval is required
by the 1940 Act; (3) any termination of the Trust to the extent and as provided
in the Declaration of Trust; (4) any amendment of the Declaration of Trust
(other than amendments changing the name of the Trust or any of its investment
portfolios, supplying any omission, curing any ambiguity or curing, correcting
or supplementing any defective or inconsistent provision thereof); (5)
determining whether a court action, proceeding or claim should or should not be
brought or maintained derivatively or as a class action on behalf of the Trust
or the shareholders, to the same extent as the stockholders of a Massachusetts
business corporation; and (6) such additional matters as may be required by law,
the Declaration of Trust, the Bylaws or any registration of the Trust with the
SEC or any state or as the Board of Trustees may consider desirable. The
shareholders also would vote upon changes to a Fund's fundamental investment
objective, policies or restrictions.
Each Trustee serves until the next meeting of shareholders, if any, called for
the purpose of electing Trustees and until the election and qualification of his
or her successor or until death, resignation, retirement or removal by a
majority vote of the shares entitled to vote (as described below) or of a
majority of the Trustees. In accordance with the 1940 Act, (i) the Trust will
hold a shareholder meeting for the election of Trustees when less than a
majority of the Trustees have been elected by shareholders and (ii) if, as a
result of a vacancy in the Board of Trustees, less than two-thirds of the
Trustees have been elected by the shareholders, that vacancy will be filled by a
vote of the shareholders.
Upon the written request of 10 or more shareholders who have been such for at
least six months and who hold shares constituting at least 1% of a Trust's
outstanding shares stating that they wish to communicate with the other
shareholders for the purpose of obtaining signatures necessary to demand a
meeting to consider removal of one or more Trustees, each Trust has undertaken
to disseminate appropriate materials at the expense of the requesting
shareholders.
The Bylaws of each Trust provide that a majority of shares entitled to vote
shall be a quorum for the transaction of business at a shareholders' meeting,
except that where any provision of law, of the Declaration of Trust or of the
Bylaws permits or requires that (i) holders of any series shall vote as a
series,
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<PAGE> 19
then a majority of the aggregate number of shares of that series entitled to
vote shall be necessary to constitute a quorum for the transaction of business
by that series, or (ii) holders of any class shall vote as a class, then a
majority of the aggregate number of shares of that class entitled to vote shall
be necessary to constitute a quorum for the transaction of business by that
class. Any lesser number shall be sufficient for adjournments. Any adjourned
session or sessions may be held, within a reasonable time after the date set for
the original meeting, without the necessity of further notice. The Declaration
of Trust of each Trust specifically authorizes the Board of Trustees to
terminate the Trust (or any of its investment portfolios) by notice to the
shareholders without shareholder approval.
Under Massachusetts law, shareholders of a Massachusetts business trust could,
under certain circumstances, be held personally liable for the Trust's
obligations. The Declaration of Trust, however, disclaims shareholder liability
for the Trust's acts or obligations and requires that notice of such disclaimer
be given in each agreement, obligation or instrument entered into or executed by
the Trust or the Trustees. In addition, the Declaration of Trust provides for
indemnification out of the property of an investment portfolio in which a
shareholder owns or owned shares for all losses and expenses of such shareholder
or former shareholder if he or she is held personally liable for the obligations
of the Trust solely by reason of being or having been a shareholder. Moreover,
the Trust will be covered by insurance which the Trustees consider adequate to
cover foreseeable tort claims. Thus, the risk of a shareholder incurring
financial loss on account of shareholder liability is considered remote, because
it is limited to circumstances in which a disclaimer is inoperative and the
Trust itself is unable to meet its obligations. There is a remote possibility
that a Fund could become liable for a misstatement in the prospectus or SAI
about another Fund.
For further information, please refer to the registration statement and exhibits
for the Trust on file with the SEC in Washington, D.C. and available upon
payment of a copying fee. The statements in the Prospectus and this Statement of
Additional Information concerning the contents of contracts or other documents,
copies of which are filed as exhibits to the registration statement, are
qualified by reference to such contracts or documents.
PRINCIPAL HOLDERS OF SECURITIES
As of December 19, 1997, the officers and Trustees of the Trust, as a group
owned of record or beneficially less than 1% of the outstanding voting
securities of the remaining classes and series of Schwab Capital Trust and
Schwab Investments.
As of December 19, 1997, the Charles Schwab Trust Company, 101 Montgomery
Street, San Francisco, California, 94104 directly or beneficially owned,
respectively, 7.21%, 12.01% and 10.30% of S&P 500 Fund Investor Shares, Select
Shares and e. Shares. As of this same date, the Morgan Stanley Trust Company, 1
Pierrepont Plaza, Brooklyn, New York, 11201, directly or beneficially owned
19.92% of International Fund - Investor Shares and 15.40% of Small-Cap Fund -
Investor Shares.
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MANAGEMENT OF THE TRUST
OFFICERS AND TRUSTEES. The Officers and Trustees of the Trust, their principal
occupations over the past five years and their affiliations, if any, with The
Charles Schwab Corporation, Schwab and Charles Schwab Investment Management,
Inc., the Investment Manager, are as follows:
<TABLE>
<CAPTION>
POSITION WITH
NAME/DATE OF BIRTH THE TRUST PRINCIPAL OCCUPATION
<S> <C> <C>
CHARLES R. SCHWAB* Chairman and Trustee Chairman, Co-Chief Executive Officer and
July 29, 1937 Director, The Charles Schwab Corporation;
Chairman, Chief Executive Officer and
Director, Charles Schwab Holdings,
Inc.; Chairman and Director, Charles Schwab
& Co., Inc, Charles Schwab Investment
Management, Inc., The Charles Schwab
Trust Company, and Schwab Retirement
Plan Services, Inc.; Chairman
and Director (current board positions),
and Chairman (officer position) until December
1995, Mayer & Schweitzer, Inc. (a
securities brokerage subsidiary of
The Charles Schwab Corporation);Director,
The Gap, Inc. (a clothing retailer),
Transamerica Corporation (a financial
services organization), AirTouch Communications
(a telecommunications company) and Siebel Systems
(a software company).
TOM D. SEIP Executive Vice President, The Charles Schwab
February 15, 1950 Corporation; Enterprise President - International
and Mutual Funds, Charles Schwab & Co., Inc.; Chief
Executive Officer, Charles Schwab Investment
Management, Inc.
DONALD F. DORWARD Trustee Executive Vice President and Managing Director,
September 23, 1931 Grey Advertising. From 1990 to 1996, Mr.
Dorward was President and Chief Executive
Officer, Dorward & Associates. Dorward &
Associates is an advertising and
marketing/consulting firm.
</TABLE>
20
<PAGE> 21
<TABLE>
<CAPTION>
POSITION WITH
NAME/DATE OF BIRTH THE TRUST PRINCIPAL OCCUPATION
<S> <C> <C>
ROBERT G. HOLMES Trustee Chairman, Chief Executive Officer and Director,
May 15, 1931 Semloh Financial, Inc. Semloh Financial is an
international financial services and investment
advisory firm.
DONALD R. STEPHENS Trustee Managing Partner, D.R. Stephens & Co.
June 28, 1938 (investment banking). Prior to 1995, Mr.
Stephens was Chairman and Chief
Executive Officer of North American
Trust (a real estate investment
trust). Prior to 1992, Mr. Stephens was
Chairman and Chief Executive Officer of the
Bank of San Francisco.
MICHAEL W. WILSEY Trustee Chairman, Chief Executive Officer and Director,
August 18, 1943 Wilsey Bennett, Inc. (truck and air
transportation, real estate investment and
management, and investments).
TAI-CHIN TUNG Treasurer and Principal Vice President - Finance, Charles Schwab & Co.,
March 7, 1951 Financial Officer Inc.; Controller, Charles Schwab Investment
Management, Inc. From 1994 to 1996, Ms. Tung
was Controller for Robertson Stephens Investment
Management, Inc. From 1993 to 1994, she was
Vice President of Fund Accounting, Capital
Research and Management Co. Prior to 1993, Ms.
Tung was Senior Vice President of the Sierra
Funds and Chief Operating Officer of Great
Western Financial Securities.
WILLIAM J. KLIPP* Executive Vice Executive Vice President, SchwabFunds(R),
December 9, 1955 President, Chief Charles Schwab & Co., Inc.; President and Chief
Operating Officer and Operating Officer, Charles Schwab Investment
Trustee Management, Inc. Prior to 1993, Mr. Klipp was
Treasurer of Charles Schwab & Co., Inc. and
Mayer & Schweitzer, Inc.
</TABLE>
- ----------------
* This Trustee is an "interested person" of the Trust.
21
<PAGE> 22
<TABLE>
<CAPTION>
POSITION WITH
NAME/DATE OF BIRTH THE TRUST PRINCIPAL OCCUPATION
<S> <C> <C>
STEPHEN B. WARD Senior Vice President Senior Vice President and Chief Investment
April 5, 1955 and Chief Investment Officer, Charles Schwab Investment Management,
Officer Inc.
FRANCES COLE Secretary Vice President, Chief Counsel, Chief Compliance
September 9, 1955 Officer and Assistant Corporate Secretary,
Charles Schwab Investment Management, Inc.
DAVID H. LUI Assistant Secretary Vice President and Senior Counsel, Charles
October 14, 1960 Schwab Investment Management, Inc. From 1991 to
1992, he was Assistant Secretary for the
Franklin Group of Mutual Funds and Assistant
Corporate Counsel for Franklin Resources, Inc.
KAREN L. SEAMAN Assistant Secretary Corporate Counsel, Charles Schwab Investment
February 27, 1968 Management, Inc. From October 1994 to July
1996, she was an Attorney for Franklin
Resources, Inc. Prior to 1994, Ms. Seaman was
an Attorney for The Benham Group.
MATTHEW O'TOOLE Assistant Secretary Corporate Counsel, Charles Schwab Investment
September 26, 1964 Management, Inc. From November 1995 to April
1997, Mr. O'Toole was Assistant General Counsel
for Chancellor LGT Asset Management, Inc. Prior
there to, Mr. O'Toole was Senior Counsel at the
U.S. Securities and Exchange Commission in
Washington, D.C.
AMY L. MAUK Assistant Secretary
January 5, 1969 Corporate Counsel, Charles Schwab Investment
Management, Inc. From April 1995 to March 1997,
she was a Legal Product Manager for Fidelity
Investments.
</TABLE>
Each of the above-referenced Officers and/or Trustees also serves in the same
capacity as described for the Trust for The Charles Schwab Family of Funds,
Schwab Capital Trust and Schwab Annuity Portfolios. The address of each
individual listed above is 101 Montgomery Street, San Francisco, California
94104.
22
<PAGE> 23
COMPENSATION TABLE 1
<TABLE>
<CAPTION>
Pension or
Retirement Estimated
Benefits Accrued Annual Benefits
Aggregate Aggregate as Part of Fund upon Retirement Total Compensation
Name of Person, Compensation from Compensation from Expenses from the from the Fund from the Fund
Position Schwab Capital Trust Schwab Investments Fund Complex 2 Complex 2 Complex 2
<S> <C> <C> <C> <C> <C>
Charles R. Schwab, 0 N/A N/A 0
Chairman and Trustee
Tom D. Seip, 0 N/A N/A 0
President and Trustee
William J. Klipp, 0 N/A N/A 0
Executive Vice
President, Chief Operating
Officer and Trustee
Donald F. Dorward, $18,800 $18,800 N/A N/A $92,000
Trustee
Robert G. Holmes, $18,800 $18,800 N/A N/A $92,000
Trustee
Donald R. Stephens, $18,800 $18,800 N/A N/A $92,000
Trustee
Michael W. Wilsey, $18,000 $18,800 N/A N/A $92,000
Trustee
</TABLE>
1 Figures are for each Trust's fiscal year ended October 31, 1997.
2 "Fund Complex" comprises all 34 funds of the Schwab Capital Trust, The
Charles Schwab Family of Funds, Schwab Investments and Schwab Annuity
Portfolios.
DEFERRED COMPENSATION PLAN
Pursuant to exemptive relief from the SEC, the Trusts may enter into deferred
fee arrangements (the "Fee Deferral Plan" or the "Plan") with Trustees who are
not "interested persons" of any of the Funds (the "Independent Trustees" or the
"Trustees").
As of the date of this SAI, none of the Independent Trustees has elected to
participate in the Fee Deferral Plan. In the event an Independent Trustee does
elect to participate in the Plan, the Plan would operate as described below.
Under the Plan, deferred Trustee's fees will be credited to a book reserve
account established by the Trust (the "Deferred Fee Account") as of the date
such fees would have been paid to such Trustee. The value of the Deferred Fee
Account as of any date will be equal to the value the Account would have had as
of that date if the amounts credited to the Account had been invested and
reinvested in the securities of the Schwab
23
<PAGE> 24
fund or SchwabFunds(R) selected by the participating Trustee (the "Selected
Schwab fund Securities"). SchwabFunds include the series or classes of
beneficial interest of the Trust, The Charles Schwab Family of Funds and Schwab
Investments.
Pursuant to the exemptive relief from the SEC, each Fund will purchase and
maintain the Selected Schwab fund Securities in an amount equal to the deemed
investments in that Fund of the Deferred Fee Accounts of the Independent
Trustees. The exemptive relief granted to the Trust permits the Funds and the
Trustees to purchase the Selected Schwab fund Securities, which transactions
would otherwise be limited or prohibited by the investment policies and/or
restrictions of the Funds. See "Investment Restrictions in this SAI for more
information."
MANAGEMENT OF THE FUNDS
INVESTMENT MANAGER
The Investment Manager, a wholly owned subsidiary of The Charles Schwab
Corporation, serves as the Funds' investment adviser and administrator pursuant
to Investment Advisory and Administration Agreements (the "Advisory Agreements")
between it and each Trust. The Investment Manager is registered as an investment
adviser under the Investment Advisers Act of 1940, as amended, and currently
provides investment management services to the SchwabFunds Family(R), a family
of 30 mutual funds with over $55 billion in assets as of November 28, 1997. The
Investment Manager is an affiliate of: Schwab, the Trusts' distributor, the
shareholder services, and the transfer agent. Each Advisory Agreement will
continue in effect until May 30, 1998 with respect to each of the Funds and
thereafter will continue for one year terms subject to annual approval by: (1)
the Board of Trustees or (2) a vote of a majority (as defined in the 1940 Act)
of the outstanding voting securities of a Fund. In either event, the continuance
also must be approved by a majority of the Board of Trustees who are not parties
to the Agreement or interested persons (as defined in the 1940 Act) of any such
party by vote cast in person at a meeting called for the purpose of voting on
such approval. Each Advisory Agreement may be terminated at any time upon 60
days' notice by either party, or by a majority vote of the outstanding shares of
a Fund, and will terminate automatically upon assignment.
International Fund. For its advisory and administrative services to the
International Fund, the Investment Manager is entitled to receive a graduated
annual fee, payable monthly, of 0.70% of the Fund's average daily net assets not
in excess of $300 million and 0.60% of such assets over $300 million.
The Investment Manager and Schwab have guaranteed that, through at least
February 29, 2000, the total fund operating expenses allocable to the Investor
Shares and Select Shares for the International Fund will not exceed 0.58% and
0.47%, respectively, of the average daily net assets of each class of shares.
For the fiscal years ended October 31, 1997, 1996 and 1995, the International
Fund paid investment advisory fees of $643,000, $886,000, and $665,000,
respectively (fees were reduced by $1,503,000, $675,000, and $415,000,
respectively).
Small-Cap Fund. For its advisory and administrative services to the Small-Cap
Fund, the Investment Manager is entitled to receive a graduated annual fee,
payable monthly, of 0.50% of the Fund's average daily net assets not in excess
of $300 million and 0.45% of such assets over $300 million.
24
<PAGE> 25
The Investment Manager and Schwab have guaranteed that, through at least
February 29, 2000, the total fund operating expenses allocable to the Investor
Shares and Select Shares for the Small-Cap Fund will not exceed 0.49% and 0.38%,
respectively, the average daily net assets of each class of shares.
For the fiscal years ended October 31, 1997, 1996, and 1995, the Small-Cap Fund
paid investment advisory fees of $540,000, $520,000, and $332,000, respectively
(fees were reduced by $1,000,000, $347,000, and $115,000, respectively).
Schwab 1000 Fund(R). For its advisory and administrative services to the Schwab
1000 Fund(R), the Investment Manager is entitled to receive a graduated annual
fee, payable monthly, of 0.30% of the Fund's average daily net assets not in
excess of $500 million and 0.22% of such assets over $500 million.
The Investment Manager and Schwab have guaranteed that, through at least
February 29, 2000, the total fund operating expenses allocable to the Investor
Shares and Select Shares for the Schwab 1000 Fund(R) will not exceed 0.46% and
0.35%, respectively, of the Fund's average daily net assets.
For the fiscal year ended August 31, 1997, 1996 and 1995, the Schwab 1000
Fund(R) paid investment advisory fees of $4,025,000, $2,485,000 and $1,640,000,
(fees were reduced by $1,179,000, 648,000 and $137,000, respectively) and for
the fiscal period ended October 31, 1997 $967,000 (fees were reduced by
$220,000).
S&P 500 Fund. For its advisory and administrative services to the S&P 500 Fund,
the Investment Manager is entitled to receive a graduated annual fee, payable
monthly, of 0.36% of the Fund's average daily net assets not in excess of $1
billion, 0.33% of the next $1 billion and 0.31% of such net assets over $2
billion.
The Investment Manager and Schwab have guaranteed that, through at least
February 29, 2000, the total operating expenses allocable to the Investor
Shares, the e.Shares(TM) and the Select Shares(TM) will not exceed 0.35%, 0.28%
and 0.19% respectively, of the average daily net assets of each class of shares.
For the fiscal year ended October 31, 1997 and for the fiscal period of May 1,
1996 (commencement of operations) to October 31, 1996, the S&P 500 Fund paid
investment advisory fees of $429,000 and $128,000, respectively (fees were
reduced by $2,410,000 and $723,000 respectively).
From time to time, each Fund may compare its total operating expense ratio to
the total operating expense ratio of other mutual funds or mutual fund averages
with similar investment objectives as reported by Lipper Analytical Service,
Inc., Morningstar, Inc. or other independent sources of such information
("independent sources").
SUB-ADVISER
As of May 1, 1995, June 1, 1995 and June 30, 1995, Dimensional Fund Advisors
Inc. ("Dimensional") no longer served as the sub-adviser to the Small-Cap Fund,
Schwab 1000 Fund(R) and International Fund, respectively. As of the same dates,
the Investment Manager became responsible for providing all investment advisory
services to the Funds.
Under the Sub-Advisory Agreement between Dimensional and the Investment Manager
in effect in 1995, the Investment Manager paid Dimensional $143,000, $36,000 and
$436,034 for International Fund, Small-Cap Fund and Schwab 1000 Fund(R),
respectively.
25
<PAGE> 26
DISTRIBUTOR
Pursuant to a Distribution Agreement, Schwab is the principal underwriter for
shares of the Funds and is the Trusts' agent for the purpose of the continuous
offering of the Funds' shares. Each Fund pays the cost of the prospectuses and
shareholder reports to be prepared and delivered to existing shareholders.
Schwab pays such costs when the described materials are used in connection with
the offering of shares to prospective investors and for supplementary sales
literature and advertising. Schwab receives no fee under the Distribution
Agreement. Terms of continuation, termination and assignment under the
Distribution Agreement are identical to those described above with respect to
the Advisory Agreement.
CUSTODIAN AND FUND ACCOUNTANT
Morgan Stanley Trust Company, 1 Pierrepont Plaza, Brooklyn, New York 11201, and
Federated Services Company, 1001 Liberty Avenue, Pittsburgh, Pennsylvania 15222,
serve as Custodian and Fund Accountant for the Funds, except the S&P 500 Fund.
For this Fund, PNC Bank, 400 Bellvue Parkway, Wilmington, Delaware 19809 serves
as custodian; and PFPC, Inc., 103 Bellvue Parkway, Wilmington Delaware 19809
serves as Fund Accountant.
PORTFOLIO TRANSACTIONS AND TURNOVER
PORTFOLIO TRANSACTIONS
In effecting securities transactions for the Funds, the Investment Manager seeks
to obtain best price and execution. Subject to the supervision of the Board of
Trustees, the Investment Manager will generally select brokers and dealers for
the Funds primarily on the basis of the quality and reliability of brokerage
services, including execution capability and financial responsibility. In
assessing these criteria, the Investment Manager will, among other things,
monitor the performance of brokers effecting transactions for the Funds to
determine the effect, if any, the Funds' transactions through those brokers have
on the market prices of the stocks involved. This may be of particular
importance for the Funds' investments in relatively smaller companies whose
stocks are not as actively traded as those of their larger counterparts. The
Funds will seek to buy and sell securities in a manner that causes the least
possible fluctuation in the prices of those stocks in view of the size of the
transactions.
In an attempt to obtain best execution for the Funds, the Investment Manager
also may place orders directly with market makers or with third market brokers,
Instinet or brokers on an agency basis. Placing orders with third market brokers
or through Instinet may enable the Funds to trade directly with other
institutional holders on a net basis. At times, this may allow the Funds to
trade larger blocks than would be possible trading through a single market
maker.
When the execution and price offered by two or more broker-dealers are
comparable, the Investment Manager may, in its discretion, in agency
transactions (and not principal transactions) utilize the services of
broker-dealers that provide it with investment information and other research
resources. Such resources also may be used by the Investment Manager when
providing advisory services to other investment advisory clients, including
mutual funds.
In determining when and to what extent to use Schwab or any other affiliated
broker-dealer as its broker for executing orders for the Funds on securities
exchanges, the Investment Manager will consider (if relevant) whether the
compensation to be paid Schwab or any other affiliated broker-dealer will be (i)
fair and
26
<PAGE> 27
reasonable, (ii) at least as favorable to the Funds as commissions that would be
charged by other qualified brokers having comparable execution capabilities and
(iii) at least as favorable as commissions contemporaneously charged by Schwab
or any other affiliated broker-dealer on comparable transactions for its most
favored unaffiliated customers. The Funds do not consider it practicable or in
the best interests of their shareholders to solicit competitive bids for
commission rates on each transaction. However, the Board of Trustees, including
a majority of the Trustees who are not "interested persons" of Schwab or any
other affiliated broker-dealer within the meaning of the 1940 Act, (i) has
prescribed procedures designed to provide that the Funds do not pay commissions
that do not meet the standards described above, (ii) reviews those procedures
annually to determine whether they remain adequate and (iii) considers quarterly
whether or not the commissions charged by Schwab or any other affiliated
broker-dealer have met the standards.
For the fiscal year ended October 31, 1997, S&P 500 Fund paid brokerage
commissions of $583,314 and for the fiscal year period of May 1, 1996
(commencement of operations) through October 31, 1995 the Fund paid brokerage
commissions of $119,350.
For the fiscal years ended August 31, 1997, 1996 and 1995, the Schwab 1000
Fund(R) paid brokerage commissions of $424,652, $408,000, and $118,000 and for
the fiscal period ended October 31, 1997 $92,582.
For the fiscal years ended October 31, 1996, 1995 and 1994, the International
Fund paid brokerage commissions of $86,632, $101,230, and $54,718, respectively.
For the fiscal years ended October 31, 1997, 1996 and 1995, the Small-Cap Fund
paid brokerage commissions of $281,321, $181,679, and $142,785, respectively.
Of brokerage commissions paid by the Schwab 1000 Fund(R) in 1996, $1,000 (0.25%
of the total amount) was paid to Schwab, an affiliated person of the Fund and
0.54% of transactions involving the payment of a brokerage commission in 1996
were effected through Schwab.
PORTFOLIO TURNOVER
For reporting purposes, each Fund's turnover rate is calculated by dividing the
value of purchases or sales of portfolio securities for the fiscal year,
whichever is less, by the monthly average value of portfolio securities the Fund
owned during the fiscal year. When making the calculation, all securities whose
maturities at the time of acquisition were one year or less ("short-term
securities") are excluded.
A 100% portfolio turnover rate would occur, for example, if all portfolio
securities (aside from short-term securities) were sold and either repurchased
or replaced once during the fiscal year. The Funds expect that their portfolio
turnover rate will not exceed 100% in any given year, a turnover rate lower than
that of most non-index mutual funds.
The International Fund's portfolio turnover rate for the fiscal years ended
October 31, 1997 and 1996 was 13% and 6%, respectively.
The Small-Cap Fund's portfolio turnover rate for the fiscal years ended October
31, 1997 and 1996 was 23% and 23%, respectively.
27
<PAGE> 28
The S&P 500 Fund's portfolio turnover rate for the fiscal year ended October 31,
1997 was 3% and for the period of May 1, 1996 (commencement of operations) to
October 31, 1996 was 1%.
The Schwab 1000 Fund(R)'s portfolio turnover rate for the fiscal years ended
August 31, 1997 and 1996 was 2% and 2%, respectively. The portfolio turnover
rate for the period of August 31, 1997 to October 31, 1997 was 0%.
From time to time, each Fund may compare its portfolio turnover rate with that
of other mutual funds as reported by independent sources.
TAXES
It is each Fund's policy to qualify for taxation as a "regulated investment
company" by meeting the requirements of Subchapter M of the Code. By following
this policy, each Fund expects to eliminate or reduce to a nominal amount the
federal income tax to which it is subject.
In order to qualify as a regulated investment company, each of the Funds must,
among other things, (1) derive at least 90% of its gross income from dividends,
interest, payments with respect to securities loans and gains from the sale or
other disposition of stocks, securities, foreign currencies or other income
(including gains from options, futures or forward contracts) derived with
respect to its business of investing in stocks, securities or currencies; (2)
for taxable years beginning on or before August 5, 1997, derive less than 30% of
its gross income from gains from the sale or other disposition of certain assets
(including stocks and securities) held less than three months; and (3) diversify
its holdings so that at the end of each quarter of its taxable year (i) at least
50% of the market value of the Fund's total assets is represented by cash or
cash items, U.S. Government securities, securities of other regulated investment
companies and other securities limited, in respect of any one issuer, to a value
not greater than 5% of the value of the Fund's total assets and 10% of the
outstanding voting securities of such issuer, and (ii) not more than 25% of the
value of its assets is invested in the securities of any one issuer (other than
U.S. Government securities or securities of any other regulated investment
company) or of two or more issuers that the Fund controls, within the meaning of
the Code, and that are engaged in the same, similar or related trades or
businesses.
These requirements may restrict the degree to which a Fund may engage in certain
hedging transactions and may limit the range of a Fund's investments. If a Fund
qualifies as a regulated investment company, it will not be subject to federal
income tax on the part of its net investment income and net realized capital
gains, if any, which it distributes to shareholders, provided that the Fund
meets certain minimum distribution requirements. To comply with these
requirements, a Fund must distribute at least (a) 90% of its "investment company
taxable income" (as that term is defined in the Code) and (b) 90% of the excess
of its (i) tax-exempt interest income over (ii) certain deductions attributable
to that income (with certain exceptions), for its taxable year. Each Fund
intends to make sufficient distributions to shareholders to meet these
requirements.
The Code imposes a non-deductible excise tax on regulated investment companies
that do not distribute in a calendar year (regardless of whether they otherwise
have a non-calendar taxable year) an amount equal to 98% of their "ordinary
income" (as defined in the Code) for the calendar year plus 98% of their capital
gain net income for the one year period ending on October 31 of such calendar
year. The balance of such income must be distributed during the next calendar
year. For the foregoing purposes, a Fund is treated as having distributed any
amount on which it is subject to income tax for any taxable year ending in such
calendar
28
<PAGE> 29
year. If the distributions during a calendar year were less than the required
amount, the Fund is subject to a non-deductible excise tax equal to 4% of the
deficiency.
INCOME TAX INFORMATION
Any dividends declared by the Funds in October, November or December to
shareholders of record during those months and paid during the following January
are treated, for tax purposes, as if they were received by each shareholder on
December 31 of the year in which they were declared.
Dividends the Funds pay from net investment income and distributions from the
Funds' net short-term capital gains in excess of any net long-term capital
losses, whether received in cash or reinvested, will generally be taxable to
shareholders as ordinary income. Distributions received from the Funds
designated as long-term capital gains (net of capital losses), whether received
in cash or reinvested, will be taxable as long-term capital gains without regard
to the length of time a shareholder owned shares in the Funds. However, if a
shareholder receives a long-term capital gain distribution with respect to
Funds' shares held for six months or less, any loss on the sale or exchange of
those shares shall, to the extent of the long-term capital gain distribution, be
treated as a long-term capital loss. For corporate investors in the Funds,
dividend distributions the Funds designate to be from dividends received from
qualifying domestic corporations will be eligible for the 70% corporate
dividends-received deduction to the extent they would qualify if the Funds were
regular corporations. If a shareholder is not subject to income tax, generally
the shareholder will not be taxed on amounts distributed by the Funds.
A Fund will be required in certain cases to withhold and remit to the U.S.
Treasury 31% of taxable dividends paid to any shareholder who (1) fails to
provide a correct taxpayer identification number certified under penalty of
perjury; (2) is subject to withholding by the Internal Revenue Service for
failure to properly report all payments of interest or dividends; or (3) fails
to provide a certified statement that he or she is not subject to "backup
withholding." This "backup withholding" is not an additional tax and any amounts
withheld may be credited against the shareholder's ultimate U.S. tax liability.
The foregoing discussion relates only to federal income tax law as applicable to
U.S. citizens or residents. Foreign shareholders (i.e., nonresident alien
individuals and foreign corporations, partnerships, trusts and estates) are
generally subject to U.S. withholding tax at the rate of 30% (or a lower tax
treaty rate) on distributions derived from net investment income and short-term
capital gains. Distributions to foreign shareholders of long-term capital gains
and any gains from the sale or other disposition of shares of the Funds are
generally not subject to U.S. taxation, unless the recipient is an individual
who meets the Code's definition of "resident alien." Different tax consequences
may result if the foreign shareholder is engaged in a trade or business within
the United States. In addition, the tax consequences to a foreign shareholder
entitled to claim the benefits of a tax treaty may be different than those
described above. Distributions by a Fund also may be subject to state, local and
foreign taxes, and its treatment under applicable tax laws may differ from the
federal income tax treatment.
Income that the International Fund receives from sources within various foreign
countries may be subject to foreign income taxes withheld at the source. If a
Fund has at least 50% of its assets invested in foreign securities at the end of
its taxable year, it may elect to pass through to its shareholders the ability
to take either the foreign tax credit or the deduction for foreign titles. It is
expected that the International Fund will have more than 50% of the value of its
total assets at the close of its taxable year invested in foreign securities,
and it will make this election. Pursuant to this election, U.S. shareholders
must include in gross income, even though not actually received, their
respective pro rata share of foreign taxes, and may either
29
<PAGE> 30
deduct their pro rata share of foreign taxes (but not for alternative minimum
tax purposes) or credit the tax against U.S. income taxes, subject to certain
limitations described in the Code (but not both). A shareholder who does not
itemize deductions may not claim a deduction for foreign taxes.
The International Fund may invest in a non-U.S. corporation which could be
treated as a passive foreign investment company ("PFIC") or become a PFIC under
the Code. This could result in adverse tax consequences upon the disposition of,
or the receipt of "excess distributions" with respect to, such equity
investments. To the extent the International Fund does invest in PFICs, they may
elect to treat the PFIC as a "qualified fund" or mark-to-marked its investments
in PFICs annually. In either case, the International Fund may be required to
distribute amounts in excess of realized income and gains. To the extent that
the International Fund does invest in foreign securities which are determined to
be PFIC securities and are required to pay a tax on such investments, a credit
for this tax would not be allowed to be passed through to the Fund's
shareholders. Therefore, the payment of this tax would reduce the International
Fund's economic return from their PFIC shares, and excess distributions received
with respect to such shares are treated as ordinary income rather than capital
gains.
A Fund's transactions in futures contracts, forward contracts, foreign currency
transactions, options and certain other investment and hedging activities are
subject to special tax rules. In a given case, these rules may accelerate income
to a Fund, defer its losses, cause adjustments in the holding periods of the
Fund's assets, convert short-term capital losses into long-term capital losses
or otherwise affect the character of the Fund's income. These rules could
therefore affect the amount, timing and character of distributions to
shareholders. The Funds will endeavor to make any available elections pertaining
to these transactions in a manner believed to be in the best interest of the
Funds and their shareholders.
The discussion of federal income taxation presented above only summarizes some
of the important federal tax considerations generally affecting purchasers of
Fund shares. No attempt has been made to present a detailed explanation of the
federal income tax treatment of a Fund and its shareholders, and the discussion
is not intended as a substitute for careful tax planning. Accordingly,
prospective investors (particularly those not residing or domiciled in the
United States) should consult their own tax advisers regarding the consequences
of investing in a Fund.
TAX EFFICIENCY
Taxes can erode the returns a shareholder earns from a mutual fund investment
and are an important, and often overlooked, factor when evaluating a mutual
fund's performance. For many mutual funds, shareholder tax liability is of
minimal concern in the investment management process. In contrast, the
Investment Manager of the Funds actively employs specific investment policies
designed to minimize realized capital gain distributions. These policies include
selling the highest tax cost securities first, not rebalancing the portfolio to
reflect changes in their indexes and trading only round-lots or large blocks of
securities. In order to minimize capital gain distributions, while achieving
each Fund's investment objective, the Investment Manager focuses on individual
tax lots in deciding when and how to manage the realization of net capital
gains. These policies will be utilized only to the extent they do not have a
material effect on each Fund's ability to track or match the performance of its
index. By deferring the realization of capital gains, where possible, until an
investor sells shares, those unrealized gains can accumulate in a Fund, helping
to build the value of a shareholder's investment. In addition, shareholders are
given greater control over the timing of the recognition of such gains and the
impact on their tax situations. The Investment Manager constantly monitors,
analyzes and evaluates the portfolio as well as market conditions to carefully
manage necessary trading activity and to determine when there are opportunities
to harvest capital losses, which can then be used to offset realized capital
gains. Through
30
<PAGE> 31
the use of these and other strategies, the Investment Manager seeks to minimize
current capital gains distributions to an extent not found in most mutual funds.
There can be no assurance that the Investment Manager will succeed in avoiding
realized net capital gains.
In addition, each Fund has adopted a number of policies that should cause its
portfolio turnover rate to be below the portfolio turnover rate of many other
mutual funds. A lower portfolio turnover rate acts to minimize associated
transaction costs as well as the level of realized capital gains. By avoiding,
where possible, distributing capital gains to shareholders, the Funds help to
build the value of a shareholders' shares and defer payment of capital gains
taxes until shares are redeemed. A shareholder's current tax liability for
capital gains should be reduced and the shareholder's total return increased by
these policies.
Each Fund may, from time to time, refer to recent studies that analyze certain
techniques and strategies the Funds may use. In addition, each Fund may, from
time to time, promote the advantages of investing in a series that is part of a
large, diverse mutual fund complex.
SHARE PRICE CALCULATION
Each Fund's net asset value per share (NAV) is determined each Business Day at
the close of trading on the New York Stock Exchange (NYSE), generally as of 4:00
p.m. Eastern time. The NAV of the International Fund is expressed in U.S.
dollars by translating the Fund's assets using the mean price for the U.S.
dollar as quoted by generally recognized, reliable sources. The NYSE may change
its holiday closing schedule at anytime, but, currently, the NYSE is scheduled
to close on the following holidays: New Year's Day, Dr. Martin Luther King Jr.'s
Day (observed), Presidents' Day, Good Friday, Memorial Day, Independence Day,
Labor Day, Thanksgiving Day and Christmas Day. Shares purchased begin to earn
dividends on the next business day with the following exceptions: Columbus Day
and Veterans Day.
The Funds value their portfolio securities daily based on their fair value.
Securities traded on stock exchanges are valued at the last quoted sales price
on the exchange on which such securities are primarily traded, or, lacking any
sales, at the mean between the bid and ask prices. Securities traded in the
over-the-counter market are valued at the last sales price that day, or if no
sales that day, at the mean between the bid and ask prices. In addition,
securities that are primarily traded on foreign exchanges are generally valued
at the preceding closing values of such securities on their respective exchanges
with these values then translated into U.S. dollars at the current exchange
rate. Foreign securities for which the closing values are not readily available
are valued at fair value as determined in good faith pursuant to the Board of
Trustees' guidelines. Securities for which market quotations are not readily
available (including restricted securities that are subject to limitations on
their sale and illiquid securities) are valued at fair value as determined in
good faith pursuant to guidelines adopted by the Board of Trustees. Securities
may be valued on the basis of prices provided by pricing services when such
prices are believed to reflect fair market value. The Investment Manager assigns
fair values to the Funds' other investments in good faith under Board of
Trustees guidelines. The Board of Trustees regularly reviews these values.
HOW THE FUNDS REFLECT PERFORMANCE
STANDARDIZED TOTAL RETURN
Average annual total return is determined by calculating the return on a $1,000
investment in a Fund made at the beginning of the period, then calculating the
average annual compounded rate of return that would produce the same investment
return on the $1,000 over the same period. It is reported for periods of 1, 5,
10
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<PAGE> 32
years or since commencement of operations for periods not falling on those
intervals. In computing average annual total return, a Fund assumes the
reinvestment of all distributions at net asset value on applicable reinvestment
dates.
<TABLE>
<CAPTION>
Fund (Commencement of One Year ended Five Years ended From Commencement of
Operations) October 31, 1997 October 31, 1997 Operations to October 31, 1997
<S> <C> <C> <C>
International Fund - 10.33% N/A 8.20%
Investor Shares (9/09/93)
Small-Cap Fund - 31.03% N/A 16.23%
Investor Shares (12/03/93)
S&P 500 Fund - Investor Shares 31.29% N/A 26.75%
(5/01/96)
S&P 500 Fund - e.Shares 31.48% N/A 26.95%
(5/01/96)
Schwab 1000 Fund(R) - 30.84% 18.97% 16.91%
Investor Shares (5/2/91)
</TABLE>
See "Nonstandardized Total Return" below for the aggregate (cumulative) total
return of the Select Shares of the Funds, which have not operated for a full
fiscal year as of October 31, 1997.
NONSTANDARDIZED TOTAL RETURN
Nonstandardized total return for a Fund differs from standardized total return
in that it relates to periods other than the period for standardized total
return and/or that it represents aggregate (rather than average) total return.
In addition, an after-tax total return for each Fund may be calculated by taking
that Fund's standardized or non-standardized total return and subtracting
applicable federal taxes from the portions of each Fund's total return
attributable to capital gain distributions and ordinary income. This after-tax
total return may be compared to that of other mutual funds with similar
investment objectives as reported by independent sources.
Each Fund also may report the percentage of that Fund's standardized or
non-standardized total return which would be paid to taxes annually (at the
applicable federal personal income and capital gains tax rates) before
redemption of Fund shares. This proportion may be compared to that of other
mutual funds with similar investment objectives as reported by independent
sources.
A Fund may also advertise its cumulative total return since inception. This
number is calculated using the same formula that is used for average annual
total return except that, rather than calculating the total return based on a
one-year period, cumulative total return is calculated from commencement of
operations to the fiscal year ended October 31, 1997.
<TABLE>
<CAPTION>
Name of Fund (Commencement of Operations) Cumulative Total Return
<S> <C>
International Fund - Investor Shares (9/09/93) 38.69%
International Fund - Select Shares (5/19/97) 1.99%
Small-Cap Fund - Investor Shares (12/03/93) 80.26%
</TABLE>
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<PAGE> 33
<TABLE>
<CAPTION>
Name of Fund (Commencement of Operations) Cumulative Total Return
<S> <C>
Small-Cap Fund - Select Shares (5/19/97) 22.41%
Schwab 1000 Fund(R) - Investor Shares ( 5/2/91) 179.92%
Schwab 1000 Fund(R) - Select Shares (5/19/97) 11.57%
S&P 500 Fund - Investor Shares (5/01/96) 42.84%
S&P 500 Fund - e.Shares (5/01/96) 43.18%
S&P 500 Fund - Select Shares (5/19/97) 10.43%
</TABLE>
YIELD
A Fund's yield refers to the net investment income generated by a hypothetical
investment in the Fund over a specific 30-day period. This net investment income
is then annualized, which means that the net investment income generated during
the 30-day period is assumed to be generated in each 30-day period over an
annual period, and is shown as a percentage of the investment.
EFFECTIVE YIELD
A Fund's effective yield is calculated similarly, but the net investment income
earned by the investment is assumed to be compounded monthly when annualized.
The effective yield will be slightly higher than the yield due to this
compounding effect.
COMPARING THE PERFORMANCE OF THE FUNDS WITH OTHER FUNDS AND INDICES
The performance of the Funds may be compared with the performance of other
mutual funds by comparing the ratings of mutual fund rating services, various
indices of investment performance, U.S. Government obligations, bank
certificates of deposit, the consumer price index and other investments for
which reliable data is available. For example, the International Fund and the
Small Cap Index Fund may be compared to the Schwab 1000 Index(R), the
International Index, the Small-Cap Index, and the Standard & Poor's 500
Index(R), and the Small Cap Index Fund(R) may also be compared to Standard &
Poor's Small-Cap 600 Index.
From time to time, the Funds may include discussions in advertisements of the
income tax savings shareholders may experience as a result of their policy of
limiting portfolio trading in order to reduce capital gains. This information
may be supplemented by presentations of statistical data illustrating the extent
of such income tax savings and the impact of such savings on the yield and/or
total return of the Funds. In addition, such advertisements may include
comparisons of the Funds' performance against that of investment products that
do not employ the Funds' policy of seeking to limit capital gains.
THE INDEXES AND INDEXING STRATEGIES
Because the unmanaged performance of a broad-based equity index often has proven
superior to that of many individually selected stock portfolios, a growing
percentage of assets invested in the equity markets are being placed in "index"
portfolios. Institutional investors often devote a substantial percentage of
their assets to indexed strategies.
An index typically tracks the performance of a group of securities selected to
represent a particular market, and most often is used to gauge that market's
performance. The Dow Jones Industrial Average ("DJIA") and S&P 500 are two
indices designed to measure the performance of U.S. stocks. When investment
managers invest indexed separate accounts or index fund assets, they attempt to
replicate the
33
<PAGE> 34
performance of the applicable target index by holding all or a representative
sample of the securities included in the index.
An index's performance data assumes the reinvestment of dividends but does not
reflect deductions for administrative and management expenses. The Funds will be
subject to these costs and expenses, while an index does not have these
expenses. In addition, various factors, such as holding a cash balance, may
cause the Funds' performance to be higher or lower than that of an index.
The Funds are intended to make indexed investing easily available to Schwab
customers with the highest level of convenience and economy, thereby
facilitating their ability to participate in the long-term performance of the
U.S. stock market. The Schwab 1000 Index(R), Schwab Small Cap-Index(R) and
International Index were developed and are maintained by Schwab. They serve as a
comparison for their Fund's performance. Schwab receives no compensation from
the Funds for maintaining the Indexes. The performance (i.e., the market value
of all Index Stocks) of the Schwab 1000 Index(R), the Small-Cap Index and the
International Index is calculated and made available each business day by
Schwab. The total return of the Schwab 1000 Index(R), the Small-Cap Index and
the International Index is computed monthly (using beginning of month
capitalization weightings and assuming reinvestment of dividends) and may be
reported from time to time to each Fund's shareholders.
Schwab reviews and, as necessary, revises the lists of companies whose
securities are included in the Schwab 1000 Index(R), the Small-Cap Index and the
International Index at least annually. Companies known by Schwab to meet or no
longer meet the inclusion criteria will be added or deleted as appropriate.
Schwab will also modify each index as necessary to account for corporate actions
(e.g., new issues, repurchases, stock dividends/splits, tenders, mergers, swaps,
spin-offs, or Chapter 11 bankruptcy filings made because of a company's
inability to continue operating as a going concern). Schwab may change the
Schwab 1000 Index(R) and the Small-Cap Index inclusion criteria if it determines
that doing so would cause the Schwab 1000 Index(R) and the Small-Cap Index to be
more representative of the domestic equity market. Schwab may also change
International Index inclusion criteria if it determines that doing so would
cause the International Index to be more representative of the large, publicly
traded international company equity market. In the future, each Trust's Board of
Trustees, subject to shareholder approval, may select another index should it
decide that taking such action would be in the best interest of a Fund's
shareholders.
The difference between a fund's total return and the total return of its
benchmark index is referred to as a fund's tracking error. The Funds may report
or advertise tracking error.
INTERNATIONAL INDEX
The International Index is a broad-based international stock index, which
contains the common stocks of 350 of the largest non-U.S. operating companies
(i.e., non-investment companies) within the fifteen countries used to represent
developed markets. For securities to be included in the International Index, a
liquid market must exist for the securities, and the securities must be issued
by an operating company (not an investment company) whose principal trading
market is in a country with a major developed securities markets outside the
United States. In addition, the market value of the securities must place them
among the top 350 such companies as measured by market capitalization. The Fund
may purchase securities of companies with which it is affiliated to the extent
these companies are represented in its Index. By tracking the largest companies
in developed markets, the Index represents the performance of the "blue chips"
of international markets. The Index also is designed to provide a broad
representation of the international market, by limiting each country to no more
than 35% of the total market capitalization of the Index. As the
34
<PAGE> 35
stocks contained in the Index represent about 35% of the total market
capitalization of international companies, the Index provides a reliable measure
of market performance. The International Index was first made available to the
public on July 29, 1993.
As of October 31, 1997, the aggregate market capitalization of Index Stocks
included in the International Index was approximately $5.362 trillion. This
represents approximately 48% of the total market value of all publicly traded
non-U.S. companies.
SMALL-CAP INDEX
To be included in the Small-Cap Index, a company must satisfy all of the
following criteria: (1) it must be an "operating company" (i.e., not an
investment company) incorporated in the United States, its territories or
possessions; (2) a liquid market for its common shares must exist on the New
York Stock Exchange, American Stock Exchange or the NASDAQ/NMS and (3) its
market value must place it among the second 1,000 such companies as measured by
market capitalization (i.e., from the company with a rank of 1,001 through the
company with a rank of 2,000). The Fund may purchase securities of companies
with which it is affiliated to the extent these companies are represented in its
Index. Shareholders generally avoid exposure to the smallest companies, whose
shares are often thinly traded and very volatile, because these stocks are not
included in the Index.
From time to time, the International Index Fund and Small-Cap Fund may compare
the historical performance of the International Index and Small-Cap Index,
respectively, to the historical performance of various other indices, including
the S&P 500, as reported by independent sources.
As of October 31, 1997, the aggregate market capitalization of Index Stocks
included in the Small-Cap Index was approximately $680 billion. This represents
approximately 6.9% of the total market value of all publicly traded United
States companies, as represented by the Wilshire 5000 Index.
THE S&P 500 INDEX(R)
The S&P 500 is representative of the performance of the U.S. stock market. The
Index consists of 500 stocks chosen for market size, liquidity and industry
group representation. It is a market value weighted index (stock price times
number of shares outstanding), with each stock's weight in the Index
proportionate to its market value. The S&P 500 does not contain the 500 largest
stocks, as measured by market capitalization. Although many of the stocks in the
Index are among the largest, there also are some relatively small companies in
the Index. Those companies, however, generally are established companies within
their industry group. S&P identifies important industry groups within the U.S.
economy and then allocates a representative sample of stocks with each group to
the S&P 500. There are four major industry sectors within the Index:
Industrials, Utilities, Financial and Transportation.
For the 20 years ended 1996, the S&P 500 Index provided on average annual total
return of 14.57%. This total return assumes reinvestment of all dividends paid
by stocks included in the S&P 500 Index, but does not include taxes, brokerage
fees or fees charged by the S&P 500 Fund. (Source: Micropal, December 31, 1996.
Past performance of the S&P 500 Index is not indicative of future results of the
S&P 500 or the S&P 500 Fund.
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<PAGE> 36
THE SCHWAB 1000 INDEX(R)
The Schwab 1000 Index(R) is a broad-based stock market index, which contains the
common stocks of the 1,000 largest operating companies (i.e., non-investment
companies) incorporated in the United States. As the stocks contained in the
index represent about 84% of the total market capitalization of all U.S.
companies, as represented by the Wilshire 500 Index, the Schwab 1000 Index(R)
provides a reliable measure of broad market performance and can serve as a
benchmark against which individual investors can compare the performance of
their equity investments. Relative to some indices that primarily track one
group of stocks, and as a result do not capture movements in other areas of the
market, the Schwab 1000 Index(R), because it contains the stocks of the more
established blue-chip companies as well as those of relatively smaller
companies, reflects an expanded breadth of market coverage. This distinction is
important because historically the stocks of smaller companies have
out-performed those of their blue-chip counterparts in some years, while the
reverse has been true in other years. Of course, past performance may not
necessarily be indicative of future results.
As of October 31, 1997, the aggregate market capitalization of Index Stocks
included in the Schwab 1000 Index(R) was approximately $8.153 trillion. This
represents approximately 83.88% of the total market value of all publicly traded
United States companies, as represented by the Wilshire 5000 Index.
To be included in the Schwab 1000 Index(R), a company must satisfy all of the
following criteria: (1) it must be an "operating company" (i.e., not an
investment company) incorporated in the United States, its territories or
possessions; (2) a liquid market for its common shares must exist on the New
York Stock Exchange, American Stock Exchange or the NASDAQ/NMS and (3) its
market value must place it among the top 1,000 such companies as measured by
market capitalization. The Fund may purchase securities of companies with which
it is affiliated to the extent these companies are represented in its Index.
Charles R. Schwab, a veteran investor, was instrumental in developing the Schwab
1000 Fund(R). The investment objective of the Fund, which is designed to make
indexed investing available with a high level of convenience and economy, is to
match the total return of the Schwab 1000 Index(R).
From time to time, the Schwab 1000 Fund(R) may compare the historical
performance of the Schwab 1000 Index(R) to the historical performance of various
other indices, including the S&P 500, as reported by independent sources.
A particular stock's weighting in the International Index, Small-Cap Index or
Schwab 1000 Index(R) is based on its relative total market value (i.e., its
market price per share times the number of shares outstanding), divided by the
total market capitalization of its Index.
The data reported below is current as of December 1996. The Source for all
information below is Micropal, with the exception of the data for the Schwab
1000 Index(R), which is from Schwab's Mutual Fund Research Group.
The following is a line chart comparing the Schwab 1000 Index(R), S&P 500 Index,
3-Month CDs, Corporate Bonds, Treasury Bills and Inflation (CPI).
<TABLE>
<CAPTION>
SCHWAB 1000 S&P 500 3-MONTH CD'S CORPORATE TREASURY INFLATION
INDEX INDEX BONDS BILLS (CPI)
<S> <C> <C> <C> <C> <C> <C>
1979 21.34 18.61 11.22 -2.11 9.81 13.29
</TABLE>
36
<PAGE> 37
<TABLE>
<CAPTION>
SCHWAB 1000 S&P 500 3-MONTH CD'S CORPORATE TREASURY INFLATION
INDEX INDEX BONDS BILLS (CPI)
<S> <C> <C> <C> <C> <C> <C>
1980 61.20 57.16 25.69 -2.39 22.24 27.47
1981 54.95 49.42 45.67 0.49 39.5 38.85
1982 87.60 81.61 63.51 39.88 54.75 44.17
1983 128.48 122.58 78.34 52.85 68.04 49.63
1984 142.83 136.54 96.81 78.25 84.16 55.54
1985 221.19 211.59 112.65 121.18 98.01 61.45
1986 277.88 269.75 126.51 157.76 110 63.22
1987 289.34 289.16 142.04 164.35 122.08 70.46
1988 355.39 353.79 160.74 188.74 137.07 77.99
1989 492.10 497.58 184.42 229.43 156.44 86.26
1990 465.16 479.03 207.59 252.67 175.64 97.64
1991 656.08 655.44 225.54 317.99 190.41 103.69
1992 723.39 712.98 237.52 354.3 200.45 109.6
1993 807.71 794.93 248.27 409.57 209.51 115.36
1994 812.16 806.75 264.5 389.57 222.93 121.12
1995 1153.87 1,147.48 284.46 498.43 240.49 126.74
1996 1430.75 1,433.91 303.19 518.07 257.63 134.27
</TABLE>
Source: Micropal. Corporate Bonds are represented by the Lehman Brothers
Long-Term Corporate Bond Index.
PURCHASE AND REDEMPTION OF SHARES
We designed the Funds for long-term investors. You should not use the Funds to
speculate on short-term market movements. Doing so can disrupt our investment
strategy and operations. It also raises costs for other Fund investors. As a
result, we may refuse any purchase or buy exchange order that we deem to be
disruptive to the Funds or their investments.
The Funds and classes have set minimum initial and subsequent investment
requirements, as disclosed in the Prospectus. These minimum investment
requirements may be changed at any time and are not applicable to certain types
of investors. The Trust may waive the minimums for purchases by Trustees,
Directors, officers or employees of the Sub-Adviser.
The Funds have made an election with the SEC to pay in cash all redemptions
requested by any shareholder of record limited in amount during any 90-day
period to the lesser of $250,000 or 1% of its net assets at the beginning of
such period. This election is irrevocable without the SEC's prior approval.
Redemption requests in excess of applicable limits (as summarized below) may be
paid, in whole or in part, in investment securities or in cash, as the Board of
Trustees may deem advisable. However, payment will be made wholly in cash unless
the Board of Trustees believes that economic or market conditions exist that
would make such a practice detrimental to the best interests of the Fund. If
redemption proceeds are paid in investment securities, such securities will be
valued as set forth in the "Share Price Calculation" section of the SAI. A
redeeming shareholder would normally incur brokerage expenses if he or she were
to convert the securities to cash.
OTHER INFORMATION
The Prospectus and SAI do not contain all the information included in the
Registration Statement filed with the SEC under the Securities Act of 1933, as
amended, with respect to the securities offered by the Prospectus. Certain
portions of the Registration Statement have been omitted from the Prospectus and
SAI
37
<PAGE> 38
pursuant to the rules and regulations of the SEC. The Registration Statement,
including the exhibits filed therewith, may be examined at the office of the SEC
in Washington, D.C.
Statements contained in the Prospectuses or SAI as to the contents of any
contract or other document referred to are not necessarily complete, and, in
each instance, reference is made to the copy of the contract or other document
filed as an exhibit to the Registration Statement. Each such statement is
qualified in all respects by such reference.
FINANCIAL INFORMATION
The Funds' independent accountants, Price Waterhouse LLP, audit and report on
the annual financial statements of each series of the Trusts and review certain
regulatory reports and each Fund's federal income tax return. It also performs
other professional accounting, auditing, tax and advisory services when the
Trusts engage it to do so. Their address is 555 California Street, San
Francisco, California 94104. Each Fund's financial statements and financial
highlights for the fiscal periods ended October 31, 1997, are included in each
Fund's Annual Report, which are separate reports supplied with this SAI.
THIS STATEMENT OF ADDITIONAL INFORMATION DOES NOT CONSTITUTE AN OFFERING BY THE
TRUST, ANY SERIES THEREOF, OR BY THE DISTRIBUTOR IN ANY JURISDICTION IN WHICH
SUCH OFFERING MAY NOT BE LAWFULLY MADE.
38
