Rule 497e
File Nos. 33-69686 and 811-8064
MONTGOMERY ASSET MANAGEMENT(SM)
101 California Street
San Francisco, California 94111
(415) 248-6032
Invest wisely.(R)
Montgomery Institutional Series: International Growth Portfolio
Prospectus
June 30, 1998
Montgomery Institutional Series: International Growth Portfolio (the "Fund")
seeks capital appreciation for institutional investors by investing primarily in
equity securities of companies outside the United States having total market
capitalizations of more than $1 billion. As with all mutual funds, attainment of
the Fund's investment objective cannot be ensured.
The Fund's shares are sold at net asset value ("NAV") with no sales load, no
commissions, no Rule 12b-1 fees and no dividend reinvestment or exchange fees.
In general, the minimum initial investment in the Fund is $2,000,000, and
subsequent investments must be at least $100,000. The Manager or the Distributor
may waive these minimums. See "How to Invest in the Fund."
The Fund is a separate series of The Montgomery Funds II, an open-end management
investment company (the "Trust") managed by Montgomery Asset Management, LLC
(the "Manager"), an affiliate of Commerzbank AG, and is intended primarily for
institutional investors. Funds Distributor, Inc., which is not affiliated with
the Manager, is the distributor of the Fund (the "Distributor").
This prospectus sets forth concisely the information about the Fund that a
prospective investor should know before investing. Please read it and retain it
for future reference. A Statement of Additional Information dated June 30, 1998,
as may be revised, has been filed with the Securities and Exchange Commission
(the "SEC"), is incorporated by this reference and is available without charge
by calling (415) 248-6659. If you are viewing the electronic version of this
prospectus through an online computer service, you may request a printed version
free of charge by calling (415) 248-6659.
Like all mutual funds, these securities have not been approved or disapproved by
the Securities and Exchange Commission or any state securities commission, nor
has the Securities and Exchange Commission or any state securities commission
passed upon the accuracy or adequacy of this prospectus. Any representation to
the contrary is a criminal offense.
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TABLE OF CONTENTS
Fees and Expenses of the Fund..................................................3
The Fund's Investment Objective and Policies...................................4
Management of the Fund.........................................................4
How to Invest in the Fund......................................................6
How to Redeem an Investment in the Fund........................................7
How Net Asset Value Is Determined..............................................8
Dividends and Distributions....................................................9
Taxation.......................................................................9
Portfolio Securities..........................................................10
Other Investment Practices....................................................11
Risk Considerations...........................................................14
General Information...........................................................16
Backup Withholding Instructions...............................................17
2
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Fees and Expenses of the Fund
<TABLE>
Shareholder Transaction Expenses
An investor would pay the following charges when buying or redeeming shares of
the Fund in cash:
<CAPTION>
- ----------------------------------------------------------------------------------------------------------
MAXIMUM SALES MAXIMUM SALES LOAD MAXIMUM
LOAD IMPOSED IMPOSED ON DEFERRED REDEMPTION
ON PURCHASES REINVESTED DIVIDENDS SALES LOAD FEES+ EXCHANGE FEES
- ----------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
None None None 1.50%++ None
- ----------------------------------------------------------------------------------------------------------
<FN>
+ Shareholders effecting redemptions via wire transfer may be required to
pay fees, including a $10 wire fee and other fees, that will be directly
deducted from redemption proceeds. Shareholders who request redemption
checks to be sent by Federal Express may be required to pay a $10 fee that
will be directly deducted from redemption proceeds.
++ The 1.50% redemption fee applies only to those shares redeemed within
one year from the date of purchase and is paid to the Fund. Shareholders
who have invested at least $2,000,000 in the Fund (less any prior
redemptions) are not subject to the redemption fee. See "How to Redeem an
Investment in the Fund - Redemption Fee."
</FN>
</TABLE>
Annual Operating Expenses (as a percentage of average net assets)
- --------------------------------------------------------------------------------
MONTGOMERY INSTITUTIONAL SERIES:
INTERNATIONAL GROWTH PORTFOLIO
- --------------------------------------------------------------------------------
Management Fee* 0.75%
- --------------------------------------------------------------------------------
Rule 12b-1 fees None
- --------------------------------------------------------------------------------
Other Expenses (after reimbursement)* 0.15%
- --------------------------------------------------------------------------------
Total Fund Operating Expenses* 0.90%
- --------------------------------------------------------------------------------
*Expenses for the Fund are estimated. The Manager will reduce its fees and
may absorb or reimburse the Fund for certain expenses to the extent
necessary to limit total annual Fund operating expenses to the amount
indicated in the table for the Fund, subject to possible reimbursement by
the Fund within the following three years if such reimbursement can be
achieved within the foregoing expense limit. The Manager generally seeks
reimbursement for the oldest fee reductions and expense reimbursements
before payment by the Fund for fees and expenses for the current year.
Absent the reduction, actual total Fund operating expenses is estimated to
be 1.35% (0.60% other expenses). The Manager may terminate these voluntary
reductions at any time. See "Management of the Fund."
The previous tables are intended to assist the investor in understanding the
various direct and indirect costs and expenses of the Fund. Operating expenses
are paid out of the Fund's assets and are factored into the Fund's share price.
The Fund estimates that it will have the expenses listed (expressed as a
percentage of average net assets) for the current fiscal year.
Example of Expenses for the Fund
Assuming, hypothetically, that the Fund's annual return is 5% and that its
operating expenses are as set forth above, an investor buying $1,000 of the
Fund's shares would have paid the following total expenses upon redeeming such
shares (assuming application of the redemption expense reimbursement fee):
-------------------------------------------------------------------------------
MONTGOMERY INSTITUTIONAL SERIES:
INTERNATIONAL GROWTH PORTFOLIO
-------------------------------------------------------------------------------
1 Year $ 9
-------------------------------------------------------------------------------
3 Years $ 29
-------------------------------------------------------------------------------
This example is to help potential investors understand the effect of expenses.
Investors should understand that this example does not represent past or future
expenses or returns and that actual expenses and returns may vary.
3
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The Fund's Investment Objective and Policies
The investment objective and general investment policies of the Fund are
described below. Specific portfolio securities that may be purchased by the Fund
are described in "Portfolio Securities." Specific investment practices that may
be employed by the Fund are described in "Other Investment Practices." Certain
risks associated with investing in the Fund are described in those sections as
well as in "Risk Considerations."
The investment objective of the Fund is capital appreciation which, under normal
conditions, it seeks by investing at least 85% of its total assets in equity
securities of companies outside the United States having total market
capitalizations of more than $1 billion. The Fund generally invests the
remaining 15% of its total assets in a similar manner, but may invest those
assets in equity securities of U.S. companies, in lower-capitalization companies
or in debt securities. The Fund does not expect to invest more than 10% of its
assets in securities of emerging markets companies. The Fund invests in foreign
securities and smaller companies, which may involve special risks not present in
other mutual funds. See "Portfolio Securities" and "Risk Considerations."
The Fund targets companies with potential for above-average, long-term growth in
sales and earnings on a sustained basis with securities reasonably priced at the
time of purchase, in the Manager's opinion, compared with the potential for
capital appreciation. In evaluating investments, the Fund considers a number of
factors, including a company's per-share sales and earnings growth; return on
capital; balance sheet; financial and accounting policies; overall financial
strength; industry sector; competitive advantages and disadvantages; research;
product development and marketing; new technologies or services; pricing
flexibility; quality of management; and general operating characteristics.
The Fund may invest substantially in securities denominated in one or more
foreign currencies. Under normal conditions, it invests in at least three
different countries outside the United States, but no country may represent more
than 40% of its total assets. The Manager uses its financial expertise and
research capabilities in markets throughout the world in attempting to identify
those countries, currencies and companies providing the greatest potential for
long-term growth. The Fund also will use a strategic allocation of assets among
countries based on fundamental and quantitative research. See "Risk
Considerations."
Management of the Fund
The Montgomery Funds II (the "Trust") has a Board of Trustees (a "Board") that
establishes the Fund's policies and supervises and reviews its management.
Day-to-day operations of the Fund are administered by the officers of the Trust
and by the Manager pursuant to the terms of an investment management agreement
with the Fund.
Montgomery Asset Management, LLC, is the Fund's Manager. The Manager, a Delaware
limited liability company, is a subsidiary of Commerzbank AG ("Commerzbank").
The Manager was formed in February 1997 as an investment adviser registered as
such with the SEC under the Investment Advisers Act of 1940, as amended. It
advises private accounts as well as the Fund. Commerzbank, one of the largest
publicly held commercial banks in Germany, had total assets of approximately
$288 billion as of December 31, 1997. Commerzbank and its affiliates had more
than $92 billion in assets under management as of October 31, 1997.
Commerzbank's asset management operations involve more than 1,000 employees in
13 countries worldwide.
Portfolio Managers
The Fund is co-managed by John D. Boich and Oscar A. Castro.
John D. Boich, CFA, is a senior portfolio manager and principal. From 1990 to
1993, he was vice president and portfolio manager at The Boston Company
Institutional Investors Inc. From 1985 to 1989, Mr. Boich worked as a financial
advisor with Prudential-Bache Securities and E.F. Hutton & Company.
Oscar A. Castro, CFA, is a senior portfolio manager and principal. Before
joining the Manager, he was vice president/portfolio manager at G.T. Capital
Management, Inc. from 1991 to 1993. From 1987 to 1991, he was deputy portfolio
manager/analyst at Templeton International.
Management Fees and Other Expenses
<TABLE>
The Manager provides the Fund with advice on buying and selling securities,
manages the Fund's investments, including the placement of orders for portfolio
transactions, furnishes the Fund with office space and certain administrative
services, and
4
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provides personnel needed by the Fund with respect to the Manager's
responsibilities under the Manager's Investment Management Agreement with the
Fund. The Manager also compensates the members of the Board who are interested
persons of the Manager, and assumes the cost of printing prospectuses and
shareholder reports for dissemination to prospective investors. As compensation,
the Fund pays the Manager a management fee (accrued daily but paid when
requested by the Manager) based upon the value of its average daily net assets,
according to the following table:
<CAPTION>
- -------------------------------------------- --------------------------------- ---------------------------
MANAGEMENT FEE
AVERAGE DAILY NET ASSETS (ANNUAL RATE)
- -------------------------------------------- --------------------------------- ---------------------------
<S> <C> <C>
Montgomery Institutional Series: First $500 million 0.75%
International Growth Portfolio More than $500 million 0.65%
- -------------------------------------------- --------------------------------- ---------------------------
</TABLE>
The management fee is higher than for most mutual funds but is believed by the
Manager to be comparable for other mutual funds with similar strategies and
policies.
The Manager also serves as the Fund's Administrator (the "Administrator"). The
Administrator performs services with regard to various aspects of the Fund's
administrative operations. As compensation, the Fund pays the Administrator a
monthly fee at an annual rate of five one-hundredths of one percent (0.05%) of
average daily equity assets.
The Fund is responsible for its own operating expenses including but not limited
to: the Manager's fee; the Administrator's fee; taxes, if any; brokerage and
commission expenses, if any; interest charges on any borrowings; transfer agent,
custodian, legal and auditing fees; shareholder servicing fees including fees to
third-party servicing agents; fees and expenses of Trustees who are not
interested persons of the Manager; salaries of certain personnel; costs and
expenses of calculating its daily net asset value; costs and expenses of
accounting, bookkeeping and recordkeeping required under the Investment Company
Act; insurance premiums; trade association dues; fees and expenses of
registering and maintaining registration of its shares for sale under federal
and applicable state securities laws; all costs associated with shareholders
meetings and the preparation and dissemination of proxy materials, except for
meetings called solely for the benefit of the Manager or its affiliates;
printing and mailing prospectuses, Statements of Additional Information and
reports to shareholders; and other expenses relating to the Fund's operations,
plus any extraordinary and nonrecurring expenses that are not expressly assumed
by the Manager.
The Manager has agreed to reduce its management fee if necessary to keep total
annual operating expenses at or below nine-tenths of one percent (0.90%) of the
Fund's average net assets. The Manager also may voluntarily reduce additional
amounts and/or to reimburse the Fund for its expenses to increase the return to
the Fund's investors. The Manager may terminate these voluntary reductions
and/or reimbursements at any time. Any reductions made by the Manager in its
fees and any reimbursements by the Manager of Fund expenses are subject to
reimbursement by the Fund within the following three years provided that the
Fund is able to effect such reimbursement and remain in compliance with
applicable expense limitations. The Manager generally seeks reimbursement for
the oldest reductions before payment by the Fund for fees and expenses for the
current year.
In addition, the Manager may elect to absorb operating expenses that the Fund is
obligated to pay in order to increase the return to the Fund's investors. To the
extent the Manager performs a service or assumes an operating expense for which
the Fund is obligated to pay and the performance of such service or payment of
such expense is not an obligation of the Manager under the Investment Management
Agreement, the Manager is entitled to seek reimbursement from the Fund for the
Manager's costs incurred in rendering such service or assuming such expense. The
Manager, out of its own funds, also may compensate broker-dealers and other
intermediaries who distribute the Fund's shares as well as other providers of
shareholder and administrative services. In addition, the Manager, out of its
own funds, may sponsor seminars and educational programs on the Fund for
financial intermediaries and shareholders.
The Manager considers a number of factors in determining which brokers or
dealers to use for the Fund's portfolio transactions. These factors are more
fully discussed in the Statement of Additional Information; they include, but
are not limited to: reasonableness of commissions; quality of services and
execution; and availability of research that the Manager may lawfully and
appropriately use in its investment management and advisory capacities. Provided
the Fund receives prompt execution at competitive prices, the Manager also may
consider sale of the Fund's shares as a factor in selecting broker-dealers for
the Fund's portfolio transactions. See "Execution of Portfolio Transactions" in
the Statement of Additional Information for further information regarding Fund
policies concerning execution of portfolio transactions.
Investors Fiduciary Trust Company, 127 West 10th Street, Kansas City, Missouri
64105, serves as the master transfer agent for the Fund (the "Master Transfer
Agent") and performs certain recordkeeping and accounting functions. The Master
Transfer Agent delegates certain transfer agent functions to DST Systems, Inc.,
P.O. Box 419073, Kansas City, Missouri 64141-6073, the Funds' transfer agent
(the "Transfer Agent"). Morgan Stanley Trust Company, located at One Pierrepont
Plaza, Brooklyn, New York 11201, serves as the Fund's principal custodian (the
"Custodian").
5
<PAGE>
How to Invest in the Fund
The Fund's shares are offered directly to the institutional investors, with no
sales load, at their next-determined net asset value after receipt of an order
with payment. The Fund's shares are offered for sale by Funds Distributor, Inc.,
the Fund's Distributor, 101 California Street, San Francisco, California 94111,
(800) 572-FUND (3863), and through selected securities brokers and dealers.
If an order, together with payment in proper form, is received by the Transfer
Agent, the Distributor or certain intermediaries that have an agreement with the
Fund by the close of trading (generally, 4:00 P.M. eastern time, except when the
market closes earlier due to a holiday or for any other reason) on any day that
the New York Stock Exchange (the "NYSE") is open, Fund shares will be purchased
at the Fund's next-determined net asset value. Orders for Fund shares received
after the Fund's cutoff time will be purchased at the next-determined net asset
value after receipt of the order.
Initial Investment
The minimum initial investment in the Fund is $2,000,000. Subsequent investments
must be at least $100,000. The Manager or the Distributor, at its discretion,
may waive these minimums. Shareholders who invest in the Fund through a
financial intermediary (such as a no transaction fee network or a financial
adviser) may qualify for a lower minimum initial and subsequent investment.
Purchases may also be made in certain circumstances by payment of securities.
See "In Kind Purchases" below and the Statement of Additional Information for
further details.
Initial Investment by Check
o Complete the New Account application. Tell us that you wish to invest in
the Montgomery Institutional Series: International Growth Portfolio. Make
your check payable to Montgomery Institutional Series: International Growth
Portfolio.
o Mail or deliver the completed New Account application and your check(s) to
the Transfer Agent: Montgomery Institutional Series: International Growth
Portfolio, P.O. Box 419073, Kansas City, MO 64141-6073.
Initial Investment by Wire
o Call the Transfer Agent to tell it that you intend to make your initial
investment by wire. Provide the Transfer Agent with your name and the
dollar amount to be invested, and tell the Transfer Agent that you wish to
invest in the Montgomery Institutional Series: International Growth
Portfolio. The Transfer Agent will provide you with an account number and
further instructions to complete your purchase. Complete information
regarding your account must be included in all wire instructions to ensure
accurate handling of your investment.
o Complete the New Account application. Be sure to include the date and the
account number. Mail or deliver the completed New Account application to
the appropriate address shown at the end of the New Account application.
o Request your bank to transmit immediately available funds by wire for
purchase of shares in your name to the following:
Investors Fiduciary Trust Company
ABA #101003621
For: DST Systems, Inc.
Account #7526601
Attention: Montgomery Institutional Series: International Growth Portfolio
For credit to: (shareholder(s) name)
Shareholder account number: (shareholder(s) account number)
o Your bank may charge a fee for any wire transfers.
o The Fund and the Distributor each reserve the right to reject any purchase
order in whole or in part.
Subsequent Investments by Check
o Make your check payable to Montgomery Institutional Series: International
Growth Portfolio. Enclose an investment stub with your check. If you do not
have an investment stub, mail your check with written instructions
indicating the Montgomery Institutional Series: International Growth
Portfolio and the account number to which your investment should be
credited. Write your shareholder account number on the check.
o Mail the check(s) and investment stub to the Transfer Agent: Montgomery
Institutional Series: International Growth Portfolio, P.O. Box 419073,
Kansas City, MO 64141-6073.
6
<PAGE>
Subsequent Investments by Wire
o You do not need to contact the Transfer Agent prior to making subsequent
investments by wire. Instruct your bank to wire funds to the Transfer
Agent's affiliated bank by using the bank wire information under "Initial
Investment by Wire" above.
It is essential that complete information regarding your account be included in
all wire instructions in order to facilitate prompt and accurate handling of
investments. Investors may obtain further information about remitting funds in
this manner and any fees that may be imposed from their own banks.
All investments must be made in U.S. dollars, and, to avoid fees and delays,
checks must be drawn only on banks located in the United States. A charge may be
imposed if any check used for investment does not clear. The Fund and the
Distributor each reserve the right to reject any purchase order in whole or in
part.
If an order, together with payment in proper form, is received by the Transfer
Agent by the close of trading (generally, 4:00 P.M. eastern time, except when
the market closes earlier due to a holiday or for any other reason) on any day
that the New York Stock Exchange (the "NYSE") is open, Fund shares will be
purchased at the Fund's next-determined net asset value. Orders for Fund shares
received after the Fund's cutoff times will be purchased at the next-determined
net asset value after receipt of the order.
In-Kind Purchases
An investor may purchase shares of the Fund by tendering payment in-kind in the
form of securities, provided that any such tendered securities are readily
marketable, their acquisition is consistent with the Fund's investment objective
and policies, and the tendered securities are otherwise acceptable to the Fund's
Manager. For purposes of in-kind purchases, a security will be considered
"readily marketable" if it is in the process of undergoing customary settlement
and/or registration in its primary market. For the purposes of sales of shares
of the Fund for such securities, the tendered securities shall be valued at the
identical time and in the identical manner that the portfolio securities of the
Fund are valued for the purpose of calculating the net asset value of the Fund's
shares.
Share Certificates
Share certificates will not be issued by the Fund. All shares are held in
non-certificated form, registered on the books of the Fund and the Transfer
Agent for the account of the shareholder.
How to Redeem an Investment in the Fund
The Fund will redeem all or any portion of an investor's outstanding shares upon
request. Redemptions can be made on any day that the NYSE is open for trading.
The redemption price is the net asset value per share next determined after the
shares are validly tendered for redemption and such request is received by the
Transfer Agent or, in the case of purchase orders, securities dealers. The
procedures for requesting a redemption are set forth below.
Direct Redemption by Check or Wire
Redemptions can be requested by writing to the Fund's Transfer Agent. If you
want to have redemption proceeds wired directly to your bank account, include a
voided check with your letter. Send your letter to Montgomery Institutional
Series: International Growth Portfolio, P.O. Box 419073, Kansas City, MO
64141-6073. The minimum amount that may be wired is $100,000 (wire charges, if
any, will be deducted from redemption proceeds). The Fund reserves the right to
permit lesser wire amounts or fees at the Manager's discretion. The Transfer
Agent requires that the signature(s) on any written request be guaranteed by an
eligible guarantor institution, such as a commercial bank, a member firm of a
domestic stock exchange or the National Association of Securities Dealers, Inc.,
an authorized credit union, a national securities exchange, a registered
securities association, a clearing agency or a savings association. Please
contact the Transfer Agent for more information.
In-Kind Redemptions
When in the judgment of the Manager it is consistent with the best interests of
the Fund, an investor may redeem shares of the Fund and receive securities from
the Fund's portfolio selected by the Manager at its sole discretion, provided
that such redemption is not expected to affect the Fund's ability to attain its
investment objective or otherwise materially affect its operations. For the
purposes of redemptions in kind, the redeemed securities shall be valued at the
identical time and in the identical manner that the other portfolio securities
are valued for purposes of calculating the net asset value of the Fund's shares.
7
<PAGE>
General
Payment of redemption proceeds is made promptly regardless of when redemption
occurs, and normally within three days after the receipt of all documents in
proper form, including a written redemption order with appropriate signature
guarantee. Redemption proceeds will be mailed or wired in accordance with the
shareholder's instructions on the New Account application to a predesignated
account. The minimum amount that may be wired is $100,000 (wire charges, if any,
will be deducted from redemption proceeds). The Fund reserves the right to
permit lesser wire amounts or fees at the Manager's discretion. The Fund may
suspend the right of redemption under certain extraordinary circumstances in
accordance with the rules of the SEC. In the case of shares purchased by check
and redeemed shortly after the purchase, the Transfer Agent will not mail
redemption proceeds until it has been notified that the monies used for the
purchase have been collected, which may take up to 15 days from the purchase
date. Shares tendered for redemptions through brokers or dealers (other than the
Distributor) may be subject to a service charge by such brokers or dealers.
Due to the relatively high cost of maintaining smaller accounts, the Fund may
redeem shares from any account if at any time, because of redemptions by the
shareholder, the total value of a shareholder's account is less than $100,000.
If the Fund decides to make such an involuntary redemption, the shareholder will
first be notified that the value of the shareholder's account is less than the
minimum level and will be allowed 30 days to make an additional investment to
bring the value of that account back up to $100,000 before the Fund takes any
action.
Redemption Fee
The Fund imposes a 1.50% redemption fee on shares redeemed within one year of
purchase. The redemption fee will be deducted from the redemption proceeds and
will be paid to the Fund.
Shareholders who have invested at least $2,000,000 in the Fund (less any prior
redemptions) are exempt from the redemption fee. This $2,000,000 requirement
also applies individually to shareholders who own shares indirectly through a
financial intermediary (such as a no transaction fee network or a financial
adviser). When calculating the total amount invested for purposes of this
exception, any increase or decrease in the value of a shareholder's account due
to market appreciation and/or depreciation is not taken into account.
How Net Asset Value Is Determined
The net asset value of the Fund is determined once daily as of the Fund's cutoff
time on each day that the NYSE is open for trading. Generally, this is 4:00 P.M.
eastern time, or earlier when trading closes earlier. Per-share net asset value
is calculated by dividing the value of the Fund's total net assets by the total
number of the Fund's shares then outstanding.
As more fully described in the Statement of Additional Information, portfolio
securities are valued using current market valuations: either the last reported
sales price or, in the case of securities for which there is no reported last
sale and fixed-income securities, the mean between the closing bid and asked
price. Securities for which market quotations are not readily available or that
are illiquid are valued at their fair values as determined in good faith under
the supervision of the Trust's officers, and by the manager and the Pricing
Committee of the Board, respectively, in accordance with methods that are
specifically authorized by the Board. Short-term obligations with maturities of
60 days or less are valued at amortized cost as reflecting fair value.
The value of securities denominated in foreign currencies and traded on foreign
exchanges or in foreign markets will be translated into U.S. dollars at the last
price of their respective currency denomination against U.S. dollars quoted by a
major bank or, if no such quotation is available, at the rate of exchange
determined in accordance with policies established in good faith by the Board.
Because the value of securities denominated in foreign currencies must be
translated into U.S. dollars, fluctuations in the value of such currencies in
relation to the U.S. dollar may affect the net asset value of Fund shares even
without any change in the foreign currency-denominated values of such
securities.
Because foreign securities markets may close prior to the time the Fund
determines its net asset value, events affecting the value of portfolio
securities occurring between the time prices are determined and the time the
Fund calculates its net asset value may not be reflected in the Fund's
calculation of its net asset value unless the Manager, under the supervision of
the Board, determines that a particular event would materially affect the Fund's
net asset value.
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<PAGE>
Dividends and Distributions
The Fund distributes substantially all of its net investment income and net
capital gains to shareholders each year. Dividends and capital gains are
declared and paid in the last quarter of each year. Additional distributions, if
necessary, may be made following the Fund's fiscal year end (June 30) in order
to avoid the imposition of tax on the Fund. The amount and frequency of Fund
distributions are not guaranteed and are at the discretion of the Board.
Unless you request cash distributions in writing at least seven business days
prior to the distribution, or on the New Account application, all dividends and
other distributions will be reinvested automatically in additional shares of the
Fund and credited to your account at the closing net asset value on the
reinvestment date, without the imposition of an investment expense reimbursement
fee. Furthermore, if you have elected to receive cash distributions in cash and
the postal or other delivery service is unable to deliver checks to your address
of record, your distribution option will automatically be converted to having
all dividend and other distributions reinvested in additional shares. Also, as
is the case for redemption checks, no interest will accrue on amounts
represented by uncashed distribution checks.
Distributions Affect the Fund's Net Asset Value
Distributions are paid to you as of the record date of a distribution of the
Fund, regardless of how long you have held the shares. Dividends and capital
gains awaiting distribution are included in the Fund's daily net asset value.
The share price of the Fund drops by the amount of the distribution, net of any
subsequent market fluctuations. For example, assume that on December 31, the
Fund declared a dividend in the amount of $0.50 per share. If the Fund's share
price was $10.00 on December 30, the Fund's share price on December 31 would be
$9.50 barring market fluctuations.
"Buying a Dividend"
If you buy shares of the Fund just before a distribution, you will pay the full
price for the shares and receive a portion of the purchase price back as a
taxable distribution. This is called "buying a dividend." In the example above,
if you bought shares on December 30, you would have paid $10.00 per share. On
December 31, the Fund would pay you $0.50 per share as a dividend, and your
shares would now be worth $9.50 per share. Unless your account is a tax-deferred
account, dividends paid to you would be included in your gross income for tax
purposes even though you may not have participated in the increase of net asset
value of the Fund, regardless whether you reinvested the dividends.
Taxation
The Fund intends to elect and to qualify to be treated as a regulated investment
company under Subchapter M of the Internal Revenue Code of 1986, as amended (the
"Code"), by distributing substantially all of its net investment income and net
capital gains to its shareholders and meeting other requirements of the Code
relating to the sources of its income and diversification of its assets.
Accordingly, the Fund generally will not be liable for federal income tax or
excise tax based on the net income except to the extent that its earnings are
not distributed or are distributed in a manner that does not satisfy the
requirements of the Code pertaining to the timing of distributions. If the Fund
is unable to meet certain requirements of the Code, it may be subject to
taxation as a corporation. The Fund may also incur tax liability to the extent
that it invests in "passive foreign investment companies." See "Portfolio
Securities" and the Statement of Additional Information.
For federal income tax purposes, any dividends derived from net investment
income and any excess of net short-term capital gain over net long-term capital
loss that investors (other than certain tax-exempt organizations that have not
borrowed to purchase Fund shares) receive from the Fund are considered ordinary
income. Part of the distributions paid by the Fund may be eligible for the
dividends-received deduction allowed to corporate shareholders under the Code.
Distributions of the excess of net long-term capital gain over net short-term
capital loss from transactions of the Fund are treated by shareholders as
long-term capital gains regardless of the length of time the Fund's shares have
been owned. Distributions of income and capital gains are taxed in the manner
described above, whether they are taken in cash or are reinvested in additional
shares of the Fund.
The Fund will inform its investors of the source of their dividends and
distributions at the time they are paid, and will promptly after the close of
each calendar year advise investors of the tax status of those distributions and
dividends. Investors (including tax-exempt and non U.S. investors) are advised
to consult their own tax advisors regarding the particular tax consequences to
them of an investment in shares of the Fund. Additional information on tax
matters relating to the Fund and its shareholders is included in the Statement
of Additional Information.
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Portfolio Securities
The following describes portfolio securities in which the Fund may invest.
Equity Securities
In seeking its investment objective, the Fund emphasizes investments in common
stock. The Fund also may invest in other types of equity securities and
equity-derivative securities such as preferred stocks, convertible securities,
warrants, units, rights, and options on securities and on securities indices.
Depositary Receipts
The Fund may invest in both sponsored and unsponsored American Depositary
Receipts ("ADRs"), European Depositary Receipts ("EDRs"), Global Depositary
Receipts ("GDRs") and other depositary receipts. Depositary receipts are
receipts typically issued in connection with a U.S. or foreign bank or trust
company and evidence ownership of underlying securities issued by a foreign
corporation. Unsponsored depositary receipts programs are organized
independently and without the cooperation of the issuer of the underlying
securities. As a result, available information concerning the issuer may not be
as current as for sponsored depositary receipts, and the prices of unsponsored
depositary receipts may be more volatile than if such depositary receipts were
sponsored by the issuer.
Convertible Securities
The Fund may invest in convertible securities as a form of equity securities. A
convertible security is a fixed-income security (a bond or preferred stock) that
may be converted at a stated price within a specified period of time into a
certain quantity of the common stock of the same or a different issuer.
Convertible securities are senior to common stocks in a corporation's capital
structure but are usually subordinated to similar non-convertible securities.
Convertible securities provide, through their conversion feature, an opportunity
to participate in capital appreciation resulting from a market price advance in
a convertible security's underlying common stock. The price of a convertible
security is influenced by the market value of the underlying common stock. For
purposes of allocating the Fund's investments, the Manager regards convertible
securities as a form of equity securities.
Securities Warrants
The Fund may invest up to 5% of its net assets in warrants. Typically a warrant
is a long-term option issued by a corporation that gives the holder the
privilege of buying a specified number of shares of the underlying common stock
of the issuer at a specified exercise price at any time on or before an
expiration date. A warrant not exercised or disposed of by its expiration date
expires worthless.
Privatizations
The Fund believes that foreign government programs of selling interests in
government-owned or -controlled enterprises ("privatizations") may represent
opportunities for significant capital appreciation and the Fund may invest in
privatizations. The ability of U.S. entities such as the Fund to participate in
privatizations in certain foreign countries may be limited by local law and the
terms may be less advantageous than for local investors. There can be no
assurance that foreign governments will continue to sell their interests in
companies currently owned or controlled by them or that privatization programs
will be successful.
Special Situations
The Fund believes that carefully selected investments in joint ventures,
cooperatives, partnerships, private placements, unlisted securities and other
similar vehicles (collectively, "special situations") could enhance its capital
appreciation potential. This Fund also may invest in certain types of vehicles
or derivative securities that represent indirect investments in foreign markets
or securities in which it is impracticable for the Fund to invest directly.
Investments in special situations may be illiquid, as determined by the Manager
based on criteria established by the Board of Trustees. The Fund will not invest
more than 5% of its net assets in illiquid investments, including special
situations.
Investment Companies
The Fund may invest up to 5% of its total assets in shares of other investment
companies. Because of restrictions on direct investment by U.S. entities in
certain countries, other investment companies may provide the most practical or
only way for the Fund to invest in certain markets. Such investments may involve
the payment of substantial premiums above the net asset value of those
investment companies' portfolio securities and are subject to limitations under
the Investment Company Act. The Fund
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also may incur tax liability to the extent that it invests in stock of a foreign
issuer that is a "passive foreign investment company" regardless of whether such
"passive foreign investment company" makes distributions to the Fund. See the
Statement of Additional Information.
The Fund does not intend to invest in other investment companies unless, in the
Manager's judgment, the potential benefits exceed the associated costs. As a
shareholder in an investment company, the Fund bears its ratable share of that
investment company's expenses, including advisory and administration fees. The
Manager has agreed to waive its own management fee with respect to the portion
of the Fund's assets invested other open-end (but not closed-end) investment
companies.
Other Investment Practices
Repurchase Agreements
The Fund may enter into repurchase agreements. Pursuant to a repurchase
agreement, a Fund acquires a U.S. government security or other high-grade liquid
debt instrument from a financial institution that simultaneously agrees to
repurchase the same security at a specified time and price. The repurchase price
reflects an agreed-upon rate of return not determined by the coupon rate on the
underlying security. Under the Investment Company Act, repurchase agreements are
considered to be loans by the Fund and must be fully collateralized by cash,
letters of credit, U.S. government securities or other high-grade liquid debt or
equity securities ("collateral assets"). If the seller defaults on its
obligation to repurchase the underlying security, the Fund may experience delay
or difficulty in exercising its rights to realize upon the security, may incur a
loss if the value of the security declines and may incur disposition costs in
liquidating the security. See the Statement of Additional Information for
further information.
Borrowing
The Fund may borrow money from banks in an aggregate amount not to exceed
one-third of the Fund's total assets to meet temporary or emergency needs, and
the Fund may pledge its assets in connection with such borrowings. The Fund will
not purchase securities while such borrowings exceed 10% of the Fund's total
assets.
Securities Lending
The Fund may lend securities to brokers, dealers and other financial
organizations. These loans may not exceed 30% of the Fund's total assets. Each
securities loan is collateralized with collateral assets in an amount at least
equal to the current market value of the loaned securities, plus accrued
interest. There is a risk of delay in receiving collateral or in recovering the
securities waived or even a loss of rights in the collateral should the borrower
of the securities fail financially.
Hedging and Risk Management Practices
In seeking to protect against the effect of adverse changes in the financial
markets, or against currency exchange rate or interest rate changes that are
adverse to the present or prospective positions of the Fund, the Fund may employ
certain risk management practices using the following derivative securities and
techniques (known as "derivatives"): forward currency exchange contracts, stock
options, currency options, and stock and stock index options; futures contracts;
and swaps and options on futures contracts on U.S. government and foreign
government securities and currencies. The Board has adopted derivatives
guidelines that require the Board to review each new type of derivative that may
be used by the Fund. Markets in some countries currently do not have instruments
available for hedging transactions relating to currencies or to securities
denominated in such currencies or to securities of issuers domiciled or
principally engaged in business in such countries. To the extent that such
instruments do not exist, the Manager may not be able to hedge its investment
effectively in such countries. Furthermore, the Fund engages in hedging
activities only when the Manager deems it to be appropriate and does not
necessarily engage in hedging transactions with respect to each investment.
Although utilization of options, futures contracts and related options and
similar instruments may be advantageous to the Fund, if the Manager is not
successful in employing such instruments in managing the Fund's investments or
in predicting changes in the market, the Fund's performance will be worse than
if the Fund did not make such investments. In addition, the Fund pays
commissions and other costs in connection with such investments, which may
increase the Fund's expenses and reduce its return. See the Statement of
Additional Information for a further discussion of the possible risks involved
in transactions in options and futures contracts and related options.
Hedging transactions involve certain risks. Although the Fund may benefit from
the use of hedging positions, unanticipated changes in interest rates or
securities prices may result in poorer overall performance for the Fund than if
it had not entered into a hedging position. If the correlation between a hedging
position and a portfolio position is not properly protected, the desired
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protection may not be obtained and the Fund may be exposed to risk of financial
loss. In addition, the Fund pays commissions and other costs in connection with
such investments. The Statement of Additional Information contains further
information on the Fund's hedging and risk management practices, including
related risks and other special considerations.
Forward Currency Contracts
A forward currency contract is individually negotiated and privately traded by
currency traders and their customers and creates an obligation to purchase or
sell a specific currency for an agreed-upon price at a future date. The Fund
normally conducts its foreign-currency exchange transactions either on a spot
(i.e., cash) basis at the spot rate prevailing in the foreign-currency exchange
market at the time of the transaction, or through entering into forward
contracts to purchase or sell foreign currencies at a future date. The Fund
generally does not enter into forward contracts with terms greater than one
year.
The Fund generally enters into forward contracts only under two circumstances.
First, if the Fund enters into a contract for the purchase or sale of a security
denominated in a foreign currency, it may desire to "lock in" the U.S. dollar
price of the security in relation to another currency by entering into a forward
contract to buy or sell the amount of foreign currency needed to settle the
transaction. Second, if the Manager believes that the currency of a particular
foreign country may rise or fall or substantially against the U.S. dollar, it
may enter into a forward contract to buy or sell the currency of such country
approximating the value of some or all of the Fund's portfolio securities
denominated in such foreign currency. The Fund will not enter into forward
contracts if, as a result, it would have more than one-third of its total assets
committed to such contracts (unless it owns the currency that it is obligated to
deliver or has caused its Custodian to segregate segregable assets having a
value sufficient to cover its obligations). Although forward contracts will be
used primarily to protect the Fund from adverse currency movements, they involve
the risk that currency movements will not be accurately predicted.
Options on Securities, Securities Indices and Currencies
The Fund may purchase put and call options on securities and currencies traded
on U.S. exchanges and, to the extent permitted by law, foreign exchanges, as
well as in the over-the-counter market. The Fund may purchase call options on
securities that it intends to purchase (or on currencies in which those
securities are denominated) in order to limit the risk of a substantial increase
in the market price of such security (or an adverse movement in the applicable
currency). The Fund may purchase put options on particular securities (or on
currencies in which those securities are denominated) in order to protect
against a decline in the market value of the underlying security below the
exercise price less the premium paid for the option (or an adverse movement in
the applicable currency). Put options allow the Fund to protect the unrealized
gains in an appreciated security that it owns without actually selling the
security. Prior to expiration, most options are expected to be sold in a closing
sale transaction. Profit or loss from the sale depends upon whether the amount
received is more or less than the premium paid plus transaction costs.
The Fund also may purchase put and call options on stock indices in order to
hedge against the risk of stock market or industrywide stock price fluctuations.
The Fund may purchase options on currencies in order to hedge its positions in a
manner similar to its use of forward foreign-exchange contracts and futures
contracts on currencies.
The Fund may purchase and write options in the over-the-counter market ("OTC
options") to the same extent that it may engage in transactions in
exchange-traded options. OTC options differ from exchange-traded options in that
they are negotiated individually and terms of the contract are not standardized
as is the case with exchange-traded options. Moreover, because there is no
clearing corporation involved in an OTC option, there is a risk of
non-performance by the counterparty to the option. However, OTC options
generally are much more available for securities in a wider range of expiration
dates and exercise prices than exchange-traded options. It is the current
position of the staff of the SEC that OTC options (and securities underlying the
OTC options) are illiquid securities except to the extent that OTC options are
entered into with U.S. government securities dealers designated by the Federal
Reserve Bank of New York under guidelines specified by the SEC staff.
Accordingly, the Fund will treat OTC options as subject to the Fund's
limitations on illiquid securities until such time as there is a change in the
SEC's position.
Futures and Options on Futures
The Fund may purchase and sell equity index futures contracts like S&P 500 Index
futures contracts. The S&P 500 Index futures contract (or other similar equity
futures contract) is an agreement to purchase or sell the cash value of the S&P
500 Index (or other applicable basket of securities) at a specified date and
price. The Fund may sell an equity index futures contract (i.e., enter into a
futures contract to sell a basket of the securities underlying the index) in an
attempt to hedge against an anticipated market decline. Conversely, the Fund may
purchase an equity index futures contract (i.e., enter into a futures contract
to purchase a basket of securities underlying the index) in an attempt to hedge
against any increase in the value of securities it anticipates purchasing. In
addition, the Fund may also purchase and sell put and call options on futures
contracts. The Fund will have collateral assets equal to the purchase price of
the portfolio securities represented by the underlying interest rate futures
contracts it has an obligation to purchase.
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An equity index futures contract does not require the physical delivery of the
securities underlying the index. The Fund will settle its gains and losses on
futures transactions in cash.
The Fund will not enter into any futures contracts or related options if the sum
of the initial margin deposits on futures contracts, related options (including
options on securities, securities indices and currencies) and premiums paid for
any such related options purchased by the Fund would exceed 5% of the value of
the Fund's total assets. The Fund will not purchase futures contracts or related
options if, as a result, more than one-third of the value of the Fund's total
assets would be so invested.
Hedging Considerations
Hedging transactions involve certain risks. Although a Fund may benefit from the
use of hedging positions, unanticipated changes in interest rates or securities
prices may result in poorer overall performance for the Fund than if it had not
entered into a hedging position. If the correlation between a hedging position
and a portfolio position is not properly protected, the desired protection may
not be obtained and the Fund may be exposed to risk of financial loss. In
addition, the Fund pays commissions and other costs in connection with such
investments. The Fund also could be exposed to risks if it could not close out
its futures or options positions because of an illiquid secondary market. The
Statement of Additional Information contains further information on the Fund's
hedging and risk management practices, including related risks and other special
considerations.
Futures, options and options on futures have effective durations which, in
general, are closely related to the effective duration of their underlying
securities. Holding purchased futures or call option positions (supported by
collateral assets) may lengthen the effective duration of the Fund's portfolio.
Illiquid Securities
The Fund may not invest more than 15% of its net assets in illiquid securities.
The Fund treats as illiquid any securities that are subject to restrictions on
repatriation for more than seven days and securities issued in connection with
foreign debt conversion programs that are restricted as to remittance of
invested capital or profit. The Fund also treats as illiquid repurchase
agreements with maturities in excess of seven days. Illiquid securities do not
include securities that are restricted from trading on formal markets for some
period of time but for which an active informal market exists, or securities
that meet the requirements of Rule 144A under the Securities Act of 1933, as
amended, and that, subject to review by the Board and guidelines adopted by the
Board, the Manager has determined to be liquid.
Defensive Investments and Portfolio Turnover
Notwithstanding its investment objective, the Fund may increase the cash or cash
equivalent position for temporary defensive purposes to protect against the
erosion of its capital base. Depending upon the Manager's analysis of the
various markets and other considerations, all or part of the assets of the Fund
may be held in cash and cash equivalents (denominated in U.S. dollars or foreign
currencies) such as U.S. government securities or obligations issued or
guaranteed by the government of a foreign country or by an international
organization designed or supported by multiple foreign governmental entities to
promote economic reconstruction or development, high-quality commercial paper,
time deposits, savings accounts, certificates of deposit, bankers' acceptances
and repurchase agreements with respect to all of the foregoing. Such investments
also may be made for temporary purposes pending investment in other securities
and following substantial new investment in the Fund.
Portfolio securities are sold whenever the Manager believes it is appropriate,
regardless of how long the securities have been held by the Fund. The Manager
therefore changes the Fund's investments whenever it believes doing so will
further the Fund's investment objective or when it appears that a position of
the desired size cannot be accumulated. Portfolio turnover generally involves
some expense to the Fund, including brokerage commissions or dealer markups and
other transaction costs and may result in the recognition of capital gains that
may be distributed to shareholders. Portfolio turnover in excess of 100% is
considered high and increases such costs. The annual portfolio turnover for the
Fund is anticipated to be approximately 100%. The Manager does not regard
portfolio turnover as a limiting factor, however.
Investment Restrictions
The investment objective of the Fund is fundamental and may not be changed
without shareholder approval, but unless otherwise stated, the Fund's other
investment policies may be changed by the Board. If there is a change in the
investment objective or policies of the Fund, shareholders should consider
whether the Fund remains an appropriate investment in light of their
then-current financial positions and goals. The Fund is subject to additional
investment policies and restrictions described in the Statement of Additional
Information, some of which are fundamental.
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Risk Considerations
Shareholders should understand that all investments involve risk and there can
be no guarantee against loss resulting from an investment in the Fund.
Foreign Securities
The Fund invests primarily in foreign securities, including debt or equity
securities denominated in foreign currencies. Accordingly, shareholders should
carefully consider the substantial risks involved in investing in securities
issued by companies and governments of foreign nations, which are in addition to
the usual risks inherent in domestic investments. Investments in securities of
companies domiciled in, and markets of, emerging markets countries may be
subject to higher risks than investments in more-developed countries.
Foreign investments involve the possibility of expropriation, nationalization or
confiscatory taxation; taxation of income earned in foreign nations (including,
for example, withholding taxes on interest and dividends) or other taxes imposed
with respect to investments in foreign nations; foreign exchange controls (which
may include suspension of the ability to transfer currency from a given country
and repatriation of investments); default in foreign government securities; and
political or social instability or diplomatic developments that could adversely
affect investment in securities of issuers in foreign nations. In addition,
there is often less publicly available information about foreign issuers than
those in the United States. Foreign companies are not generally subject to
uniform accounting, auditing and financial reporting standards, and auditing
practices and requirements may not be comparable to those applicable to U.S.
companies. Further, the Fund may encounter difficulties or be unable to pursue
legal remedies and obtain judgments in foreign courts. Further risk factors,
including use of domestic and foreign custodian banks and depositories, are
described elsewhere in the prospectus and in the Statement of Additional
Information.
Brokerage commissions, fees for custodial services, and other costs relating to
investments by the Fund in other countries generally are greater than in the
United States. Such markets have different clearance and settlement procedures,
and in certain markets there have been times when settlements have been unable
to keep pace with the volume of securities transactions which resulted in
settlement difficulty. The inability of the Fund to make intended security
purchases due to settlement difficulty problems could cause the Fund to miss
attractive investment opportunities. Inability to sell a portfolio security due
to settlement problems could result either in loss to the Fund if the value of
the portfolio security subsequently declined or, if the Fund entered into a
contract to sell the security, could result in possible claims against the Fund.
In certain countries there is less government supervision and regulation of
business and industry practices, stock exchanges, brokers and listed companies
than in the United States. The securities markets of many of the countries in
which the Fund may invest may also be smaller, less liquid and subject to
greater price volatility than those in the United States.
Because the securities of the Fund may be denominated in foreign currencies, the
value of such securities to the Fund will be affected by changes in currency
exchange rates and in exchange control regulations, and costs will be incurred
in connection with conversions among currencies. A change in the value of a
foreign currency against the U.S. dollar will result in a corresponding change
in the U.S. dollar value of the Fund's securities denominated in that currency.
Such changes also will affect the Fund's income and distributions to
shareholders. The Fund may be affected either favorably or unfavorably by
fluctuations in the relative rates of exchange among the currencies of different
nations, and the Fund therefore may engage in certain foreign currency hedging
strategies. Such strategies involve certain investment risks and transaction
costs to which the Fund might not otherwise be subject. These risks include
dependence on the Manager's ability to predict movements in exchange rates, as
well as the difficulty of predicting, and the imperfect movements among,
exchange rates and currency hedges.
Some countries in which the Fund may invest may also have fixed or managed
currencies that are not free-floating against the U.S. dollar. Further, certain
currencies may not be internationally traded. Certain of these currencies have
experienced a steady devaluation relative to the U.S. dollar. Any devaluations
in the currencies in which the Fund's portfolio securities are denominated may
have a detrimental impact on the Fund.
Many countries in which the Fund may invest have experienced substantial, and in
some periods extremely high, rates of inflation for many years. Inflation and
rapid fluctuations in inflation rates have had and may continue to have negative
effects on the economies and securities markets of certain countries. Moreover,
the economies of some countries may differ favorably or unfavorably from the
U.S. economy in such respects as the rate of growth of gross domestic product,
the rate of inflation, capital reinvestment, resource self-sufficiency and
balance of payments position.
Certain countries also limit the amount of foreign capital that can be invested
in their markets and local companies, creating a "foreign premium" on capital
investments available to foreign investors such as the Fund. The Fund may pay a
"foreign premium" to establish an investment position which it cannot later
recoup because of changes in that country's foreign investment laws.
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Small Companies
While the Fund may invest in mature suppliers of products, services and
technologies, the Fund also may invest in smaller companies that can benefit
from the development of new products and services. These smaller companies may
present greater opportunities for capital appreciation, but may also involve
greater risks than larger, more mature issuers. Such smaller companies may have
limited product lines, markets or financial resources, and their securities may
trade less frequently and in more limited volume than those of larger, more
mature companies. As a result, the prices of the securities of such smaller
companies may fluctuate to a greater degree than those of the securities of
other issuers.
Interest Rates
The market value of debt securities that are interest rate sensitive is
inversely related to changes in interest rates. That is, an interest rate
decline produces an increase in a security's market value and an interest rate
increase produces a decrease in value. The longer the remaining maturity of a
security, the greater the effect of interest rate changes. Changes in the
ability of an issuer to make payments of interest and principal and in the
market's perception of its creditworthiness also affect the market value of that
issuer's debt securities.
Equity Swaps
The Fund may invest in equity swaps. Equity swaps are derivatives and their
value can be very volatile. To the extent that the Manager does not accurately
analyze and predict the potential relative fluctuation of the components swapped
with another party, a Fund may suffer a loss. The value of some components of an
equity swap (like the dividends on a common stock) may also be sensitive to
changes in interest rates. Furthermore, during the period a swap is outstanding,
the Fund may suffer a loss if the counterparty defaults.
General Information
The Trust
The Fund is a series of The Montgomery Funds II, a Delaware business trust
organized on September 8, 1993 (the "Trust"). The Trust's Agreement and
Declaration of Trust permits the Board to issue an unlimited number of full and
fractional shares of beneficial interest, $0.01 par value, in any number of
series. The assets and liabilities of each series within the Trust are separate
and distinct from those of each other series.
This prospectus relates only to the Class R shares of the Fund. The Fund may in
the future designate other classes of shares for specific purposes.
Shareholder Rights
Shares issued by the Fund have no preemptive, conversion or subscription rights.
Each whole share is entitled to one vote as to any matter on which it is
entitled to vote, and each fractional share is entitled to a proportionate
fractional vote. Shareholders have equal and exclusive rights as to dividends
and distributions as declared by the Fund and to the net assets of the Fund upon
liquidation or dissolution. The Fund, as a separate series of the Trust, votes
separately on matters affecting only the Fund (e.g., approval of the Investment
Management Agreement); all series of the Trust vote as a single class on matters
affecting all series of the Trust jointly or the Trust as a whole (e.g.,
election or removal of Trustees). Voting rights are not cumulative, so the
holders of more than 50% of the shares voting in any election of Trustees can,
if they so choose, elect all of the Trustees. Although the Trust is not required
and does not intend to hold annual meetings of shareholders, such meetings may
be called by the Board at its discretion, or upon demand by the holders of 10%
or more of the outstanding shares of the Trust, for the purpose of electing or
removing Trustees. Shareholders may receive assistance in communicating with
other shareholders in connection with the election or removal of Trustees
pursuant to the provisions of Section 16(c) of the Investment Company Act.
The Fund has reserved the right, if approved by the Board of Trustees, to
convert in the future to a "feeder" fund that would invest all of its assets in
a "master" fund having substantially the same investment objective, policies and
restrictions. At least 30 days' prior written notice of any such action would be
given to all shareholders if and when such a proposal is approved, although no
such action has been proposed as of the date of this prospectus.
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Performance Information
From time to time, the Fund may publish its total return, such as in
advertisements and communications to investors. Total return information
generally will include the Fund's average annual compounded rate of return over
the most recent four calendar quarters and over the period from the Fund's
inception of operations. The Fund may also advertise aggregate and average total
return information over different periods of time. The Fund's average annual
compounded rate of return is determined by reference to a hypothetical $1,000
investment that includes capital appreciation and depreciation for the stated
period according to a specific formula, but is subject to the expense
reimbursement fees discussed elsewhere in this prospectus. Aggregate total
return is calculated in a similar manner, except that the results are not
annualized. Total return figures will reflect all recurring charges against the
Fund's income. See "Performance Information" in the Statement of Additional
Information.
Investment results of the Fund will fluctuate over time, and any presentation of
the Fund's total return for any prior period should not be considered as a
representation of what an investor's total return or current yield may be in any
future period. The Fund's annual report contains additional performance
information and is available upon request and without charge by calling (415)
248-6659.
Legal Opinion
The validity of shares offered by this prospectus will be passed on by Paul,
Hastings, Janofsky & Walker LLP, 345 California Street, San Francisco,
California 94104.
Shareholder Reports and Inquiries
Unless otherwise requested, only one copy of each shareholder report or other
material sent to shareholders will be mailed to each household with accounts
under common ownership and the same address regardless of the number of
shareholders or accounts at that household or address. Any questions should be
directed to Montgomery Asset Management at (415) 248-6032.
Backup Withholding Instructions
Shareholders are required by law to provide the Fund with their correct Social
Security or other Taxpayer Identification number ("TIN"), regardless of whether
they file tax returns. Failure to do so may subject a shareholder to penalties.
Failure to provide a correct TIN or to check the appropriate boxes in the New
Account application and to sign the shareholder's name could result in backup
withholding by the Fund of an amount of federal income tax equal to 31% of
taxable dividends, capital-gains distributions, redemptions, exchanges and other
payments made to a shareholder's account. Any tax withheld may be credited
against taxes owed on a shareholder's federal income tax return.
A shareholder who does not have a TIN should apply for one immediately by
contacting the local office of the Social Security Administration or the
Internal Revenue Service (the "IRS"). Backup withholding could apply to payments
made to a shareholder's account while awaiting receipt of a TIN. Special rules
apply for certain entities. For example, for an account established under the
Uniform Gifts to Minors Act, the TIN of the minor should be furnished. If a
shareholder has been notified by the IRS that he or she is subject to backup
withholding because he or she failed to report all interest and dividend income
on his or her tax return and the shareholder has not been notified by the IRS
that such withholding will cease, the shareholder should cross out the
appropriate item on the New Account application. Dividends paid to a foreign
shareholder's account by the Fund may be subject to up to 30% withholding
instead of backup withholding.
If a shareholder has been notified by the IRS that the shareholder is subject to
backup withholding because the shareholder failed to report all interest and
dividend income on his, her or its tax return and the shareholder has not been
notified by the IRS that such withholding should cease, the shareholder should
cross out the backup withholding certification in the signature portion of the
New Account application.
If a shareholder is a nonresident alien or foreign entity, a completed Form W-8
should be provided to the Fund in order to avoid backup withholding on
redemptions and other payments. Dividends paid to a shareholder account by the
Fund may be subject to up to 30% withholding instead of backup withholding.
A shareholder who is an exempt recipient should furnish a TIN and check the
appropriate box. Exempt recipients include: certain corporations, certain
tax-exempt entities, tax-exempt pension plans and IRAs, government agencies,
financial institutions, registered securities and commodities dealers and
others.
For further information, see Section 3406 of the Code and consult a tax advisor.
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This prospectus is not an offering of the securities herein described in any
state in which such offering is unauthorized. No salesperson, dealer or other
person is authorized to give any information or make any representation other
than those contained in this prospectus, the Statement of Additional Information
or in the Fund's official sales literature.
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Investment Manager
Montgomery Asset Management, LLC
101 California Street
San Francisco, California 94111
(415) 248-6032
Distributor
Funds Distributor, Inc.
101 California Street
San Francisco, California 94111
Custodian
Morgan Stanley Trust Company
One Pierrepont Plaza
Brooklyn, New York 11201
Transfer Agent
DST Systems, Inc.
P.O. Box 419073
Kansas City, Missouri 64141-6073
(800) 572-3863
Independent Auditors
Price Waterhouse LLP
555 California Street
San Francisco, California 94104
Legal Counsel
Paul, Hastings, Janofsky & Walker LLP
345 California Street
San Francisco, California 94104
Invest wisely.(R)
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Rule 497(e)
File Nos. 33-69686 and 811-8064
THE MONTGOMERY FUNDS II
MONTGOMERY INSTITUTIONAL SERIES: INTERNATIONAL GROWTH PORTFOLIO
101 California Street
San Francisco, California 94111
(415) 248-6330
STATEMENT OF ADDITIONAL INFORMATION
June 30, 1998
The Montgomery Funds II (the "Trust") is an open-end management
investment company organized as a Delaware business trust with different series
of shares of beneficial interest. Montgomery Institutional Series: International
Growth Portfolio (the "Fund") is a series of the Trust. The Fund is managed by
Montgomery Asset Management LLC (the "Manager") and its shares are distributed
by Funds Distributor, Inc. (the "Distributor"). This Statement of Additional
Information contains information in addition to that set forth in the Prospectus
for the Fund (the "Prospectus"), dated June 30, 1998, as may be revised from
time to time. The Prospectus provides the basic information a prospective
investor should know before purchasing shares of the Fund and may be obtained
without charge at the address or telephone number provided above. This Statement
of Additional Information is not a prospectus and should be read in conjunction
with the Prospectus.
TABLE OF CONTENTS
Page
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Investment Objective and Policies of the Fund..................................2
Risk Factors..................................................................12
Investment Restrictions.......................................................13
Distributions and Tax Information.............................................16
Trustees and Officers.........................................................20
Investment Management and Other Services......................................23
Execution of Portfolio Transactions...........................................25
Additional Purchase and Redemption Information................................28
Determination of Net Asset Value..............................................29
Principal Underwriter.........................................................31
Performance Information.......................................................31
General Information...........................................................34
Financial Statements..........................................................35
Appendix......................................................................36
The Trust
The Trust is an open-end management investment company organized as a
Delaware business trust on September 10, 1993, and registered under the
Investment
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Company Act of 1940, as amended (the "Investment Company Act"). The Trust
currently offers shares of beneficial interest, $.01 par value per share, in
various series. Each series offers three classes of shares (Class R, Class P and
Class L). This Statement of Additional Information pertains to Class R shares of
Montgomery Institutional Series: International Growth Portfolio.
Investment Objective and Policies of the Fund
The investment objective and policies of the Fund are described in
detail in the Prospectus. The following discussion supplements the discussion in
the Prospectus.
The Fund is a diversified series of the Trust, an open-end management
investment company offering redeemable shares of beneficial interest. The
achievement of the Fund's investment objective will depend on market conditions
generally and on the Manager's analytical and portfolio management skills.
Portfolio Securities
Depositary Receipts. The Fund may hold securities of foreign issuers in
the form of American Depositary Receipts ("ADRs"), European Depositary Receipts
("EDRs"), Global Depositary Receipts ("GDRs") and other similar instruments
available in emerging markets, or other securities convertible into securities
of eligible issuers. These securities may not necessarily be denominated in the
same currency as the securities for which they may be exchanged. Generally, ADRs
in registered form are designed for use in U.S. securities markets, and EDRs and
other similar global instruments in bearer form are designed for use in European
securities markets. For purposes of the Fund's investment policies, the Fund's
investments in ADRs, EDRs, and similar instruments will be deemed to be
investments in the equity securities representing the securities of foreign
issuers into which they may be converted.
Other Investment Companies. The Fund may invest up to 10% of its total
assets in securities issued by other investment companies investing in
securities in which the Fund can invest provided that such investment companies
invest in portfolio securities in a manner consistent with the Fund's investment
objective and policies. Applicable provisions of the Investment Company Act
require that the Fund limit its investments so that, as determined immediately
after a securities purchase is made: (a) not more than 10% of the value of the
Fund's total assets will be invested in the aggregate in securities of
investment companies as a group; and (b) either the Fund and affiliated persons
of the Fund not own together more than 3% of the total outstanding shares of any
one investment company at the time of purchase (and that all shares of the
investment company held by the Fund in excess of 1% of the company's total
outstanding shares be deemed illiquid); or the Fund not invest more than 5% of
its total assets in any one investment company and the investment not represent
more than 3% of the total outstanding voting stock of the investment company at
the time of purchase. As a shareholder of another investment company, the Fund
would bear, along with other shareholders, its pro rata portion of the other
investment company's expenses, including advisory fees. These expenses would be
in addition to the advisory and other expenses that the Fund bears directly in
connection with its own operations. In accordance with applicable regulatory
provisions of the State of California, the Manager has agreed to
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waive its management fee with respect to assets of the Fund that are invested in
other investment companies.
U.S. Government Securities. Generally, the value of obligations issued
or guaranteed by the U.S. Government, its agencies or instrumentalities ("U.S.
Government securities") held by the Fund will fluctuate inversely with interest
rates.
U.S. Government securities in which the Fund may invest include debt
obligations of varying maturities issued by the U.S. Treasury or issued or
guaranteed by an agency or instrumentality of the U.S. Government, including the
Federal Housing Administration ("FHA"), Farmers Home Administration,
Export-Import Bank of the United States, Small Business Administration,
Government National Mortgage Association ("GNMA"), General Services
Administration, Central Bank for Cooperatives, Federal Farm Credit Bank, Farm
Credit System Financial Assistance Corporation, Federal Home Loan Banks, Federal
Home Loan Mortgage Corporation ("FHLMC"), Federal Intermediate Credit Banks,
Federal Land Banks, Financing Corporation, Federal Financing Bank, Federal
National Mortgage Association ("FNMA"), Maritime Administration, Tennessee
Valley Authority, Resolution Funding Corporation, Student Loan Marketing
Association and Washington Metropolitan Area Transit Authority. Direct
obligations of the U.S. Treasury include a variety of securities that differ
primarily in their interest rates, maturities and dates of issuance. Because the
U.S. Government is not obligated by law to provide support to an instrumentality
that it sponsors, the Fund will not invest in obligations issued by an
instrumentality of the U.S. Government unless the Manager determines that the
instrumentality's credit risk makes its securities suitable for investment by
the Fund.
Risk Factors/Special Considerations Relating to Debt Securities
The Fund may invest in debt securities which are rated below Baa by
Moody's Investors Service, Inc. ("Moody's") or BBB by Standard & Poor's
Corporation ("S&P") or Fitch Investor Services ("Fitch"), or, if unrated, are
deemed to be of equivalent investment quality by the Manager. As an operating
policy, which may be changed by the Board of Trustees (the "Board") without
shareholder approval, the Fund will invest no more than 5% of its assets in debt
securities rated below Baa by Moody's or BBB by S&P or Fitch, or, if unrated, of
equivalent investment quality as determined by the Manager. The market value of
debt securities generally varies in response to changes in interest rates and
the financial condition of each issuer. During periods of declining interest
rates, the value of debt securities generally increases. Conversely, during
periods of rising interest rates, the value of such securities generally
declines. These changes in market value will be reflected in the Fund's net
asset value.
Bonds which are rated C by Moody's are the lowest rated class of bonds,
and issues so rated can be regarded as having extremely poor prospects of ever
attaining any real investment standing. Bonds rated C by S&P or Fitch are
obligations on which no interest is being paid. Bonds rated below BBB or Baa are
often referred to as "junk bonds."
Although such bonds may offer higher yields than higher rated
securities, low rated debt securities generally involve greater price volatility
and risk of principal and income, including the possibility of default by, or
bankruptcy of, the issuers of the
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securities. In addition, the markets in which low rated debt securities are
traded are more limited than those for higher rated securities. The existence of
limited markets for particular securities may diminish the Fund's ability to
sell the securities at fair value either to meet redemption requests or to
respond to changes in the economy or in the financial markets and could
adversely affect, and cause fluctuations in, the daily net asset value of the
Fund's shares.
Adverse publicity and investor perceptions, whether or not based on
fundamental analysis, may decrease the values and liquidity of low rated debt
securities, especially in a thinly traded market. Analysis of the
creditworthiness of issuers of low rated debt securities may be more complex
than for issuers of higher rated securities, and the ability of the Fund to
achieve its investment objective may, to the extent it invests in low rated debt
securities, be more dependent upon such credit analysis than would be the case
if the Fund were investing in higher rated debt securities.
Low rated debt securities may be more susceptible to real or perceived
adverse economic and competitive industry conditions than investment grade
securities. The prices of low rated debt securities have been found to be less
sensitive to interest rate changes than higher rated debt securities, but more
sensitive to adverse economic downturns or individual corporate developments. A
projection of an economic downturn or of a period of rising interest rates, for
example, could cause a sharper decline in the prices of low rated debt
securities because the advent of a recession could lessen the ability of a
highly leveraged company to make principal and interest payments on its debt
securities. If the issuer of low rated debt securities defaults, the Fund may
incur additional expenses to seek financial recovery. The low rated bond market
is relatively new, and many of the outstanding low rated bonds have not endured
a major business downturn.
Hedging and Risk Management Practices
In order to hedge against foreign currency exchange rate risks, the
Fund may enter into forward foreign currency exchange contracts ("forward
contracts") and foreign currency futures contracts, as well as purchase put or
call options on foreign currencies, as described below. The Fund also may
conduct its foreign currency exchange transactions on a spot (i.e., cash) basis
at the spot rate prevailing in the foreign currency exchange market at the time
of the transaction.
The Fund also may purchase other types of options and futures and may,
in the future, write covered options, as described below and in the Prospectus.
Forward Contracts. The Fund may enter into forward contracts to attempt
to minimize the risk to the Fund from adverse changes in the relationship
between the U.S. dollar and foreign currencies. A forward contract is an
obligation to purchase or sell a specific currency for an agreed-upon price at a
future date which is individually negotiated and privately traded by currency
traders and their customers.
The Fund may enter into a forward contract, for example, when it enters
into a contract for the purchase or sale of a security denominated in a foreign
currency or is expecting a dividend or interest payment in order to "lock in"
the U.S. dollar price of the security or dividend or interest payment. In
addition, when the Fund believes that a
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foreign currency may suffer a substantial decline against the U.S. dollar, it
may enter into a forward contract to sell an amount of that foreign currency
approximating the value of some or all of the Fund's portfolio securities
denominated in such foreign currency, or when the Fund believes that the U.S.
dollar may suffer a substantial decline against a foreign currency, it may enter
into a forward contract to buy that foreign currency for a fixed dollar amount.
In connection with the Fund's forward contract transactions, an amount
of the Fund's assets equal to the amount of the Fund's commitments will be held
aside or segregated to be used to pay for the commitments. Accordingly, the Fund
always will have cash, cash equivalents or liquid equity or debt securities
denominated in the appropriate currency available in an amount sufficient to
cover any commitments under these contracts. Segregated assets used to cover
forward contracts will be marked to market on a daily basis. While these
contracts are not presently regulated by the Commodity Futures Trading
Commission ("CFTC"), the CFTC may in the future regulate forward contracts. In
such event, the Fund's ability to utilize forward contracts in the manner set
forth above may be restricted. Forward contracts may limit potential gain from a
positive change in the relationship between the U.S. dollar and foreign
currencies. Unanticipated changes in currency prices may result in poorer
overall performance by the Fund than if it had not engaged in such contracts.
The Fund generally will not enter into a forward foreign currency exchange
contract with a term greater than one year.
Futures Contracts and Options on Futures Contracts. To hedge against
movements in interest rates, securities prices or currency exchange rates, the
Fund may purchase and sell various kinds of futures contracts and options on
futures contracts. The Fund also may enter into closing purchase and sale
transactions with respect to any such contracts and options. Futures contracts
may be based on various securities (such as U.S. Government securities),
securities indices, foreign currencies and other financial instruments and
indices.
The Fund has filed a notice of eligibility for exclusion from the
definition of the term "commodity pool operator" with the CFTC and the National
Futures Association, which regulate trading in the futures markets, before
engaging in any purchases or sales of futures contracts or options on futures
contracts. Pursuant to Section 4.5 of the regulations under the Commodity
Exchange Act, the notice of eligibility included the representation that the
Fund will use futures contracts and related options for bona fide hedging
purposes within the meaning of CFTC regulations, provided that the Fund may hold
positions in futures contracts and related options that do not fall within the
definition of bona fide hedging transactions if the aggregate initial margin and
premiums required to establish such positions will not exceed 5% of the Fund's
net assets (after taking into account unrealized profits and unrealized losses
on any such positions) and that in the case of an option that is in-the-money at
the time of purchase, the in-the-money amount may be excluded from such 5%.
The Fund will attempt to determine whether the price fluctuations in
the futures contracts and options on futures used for hedging purposes are
substantially related to price fluctuations in securities held by the Fund or
which it expects to purchase. The Fund's futures transactions generally will be
entered into only for traditional hedging purposes - i.e., futures contracts
will be sold to protect against a decline in the price of
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securities or currencies and will be purchased to protect the Fund against an
increase in the price of securities it intends to purchase (or the currencies in
which they are denominated). All futures contracts entered into by the Fund are
traded on U.S. exchanges or boards of trade that are licensed and regulated by
the CFTC or on foreign exchanges.
Positions taken in the futures markets are not normally held to
maturity but are instead liquidated through offsetting or "closing" purchase or
sale transactions which may result in a profit or a loss. While the Fund's
futures contracts on securities or currencies will usually be liquidated in this
manner, the Fund may instead make or take delivery of the underlying securities
or currencies whenever it appears economically advantageous for it 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.
By using futures contracts to hedge its positions, the Fund 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 Fund proposes to acquire. For example, when
interest rates are rising or securities prices are falling, the Fund can seek,
through the sale of futures contracts, to offset a decline in the value of its
current portfolio securities. When rates are falling or prices are rising, the
Fund, through the purchase of futures contracts, can attempt to secure better
rates or prices than might later be available in the market with respect to
anticipated purchases. Similarly, the Fund can sell futures contracts on a
specified currency to protect against a decline in the value of such currency
and its portfolio securities which are denominated in such currency. The Fund
can purchase futures contracts on a foreign currency to fix the price in U.S.
dollars of a security denominated in such currency that the Fund has acquired or
expects to acquire.
As part of its hedging strategy, the Fund also may enter into other
types of financial futures contracts if, in the opinion of the Fund's Manager,
there is a sufficient degree of correlation between price trends for the Fund's
portfolio securities and such futures contracts. Although under some
circumstances prices of securities in the Fund's portfolio may be more or less
volatile than prices of such futures contracts, the Manager will attempt to
estimate the extent of this difference in volatility based on historical
patterns and to compensate for it by having the Fund enter into a greater or
lesser number of futures contracts or by attempting to achieve only a partial
hedge against price changes affecting the Fund's securities portfolio. When
hedging of this character is successful, any depreciation in the value of the
portfolio securities can be substantially offset by appreciation in the value of
the futures position. However, any unanticipated appreciation in the value of
the Fund's portfolio securities could substantially be offset by a decline in
the value of the futures position.
The acquisition of put and call options on futures contracts gives the
Fund the right (but not the obligation), for a specified price, to sell or
purchase, respectively, the underlying futures contract at any time during the
option period. Purchasing an option on a futures contract gives the Fund the
benefit of the futures position if prices move in a favorable direction, and
limits its risk of loss, in the event of an unfavorable price movement, to the
loss of the premium and transaction costs.
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The Fund may terminate its position in an option contract by selling an
offsetting option on the same series. There is no guarantee that such a closing
transaction can be effected. The Fund's ability to establish and close out
positions on such options will be subject to the development and maintenance of
a liquid market.
Loss from investing in futures transactions by the Fund is potentially
unlimited.
The Fund will engage in transactions in futures contracts and related
options only to the extent such transactions are consistent with the
requirements of the Internal Revenue Code of 1986, as amended, for maintaining
its qualification as a regulated investment company for federal income tax
purposes.
Options on Securities, Securities Indices and Currencies. The Fund may
purchase put and call options on securities in which it has invested, on foreign
currencies represented in its portfolio and on any securities index based in
whole or in part on securities in which the Fund may invest. The Fund also may
enter into closing sales transactions in order to realize gains or minimize
losses on options it has purchased.
The Fund normally will purchase call options in anticipation of an
increase in the market value of securities of the type in which it may invest or
a positive change in the foreign currency in which such securities are
denominated. The purchase of a call option would entitle the Fund, in return for
the premium paid, to purchase specified securities or a specified amount of a
foreign currency at a specified price during the option period.
The Fund may purchase and sell options that are traded on U.S. and
foreign exchanges and options traded over the counter ("OTC options") with
broker-dealers who make markets in these options. The ability to terminate OTC
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. Trading in OTC options is also subject to the risk that the
other party will be unable or unwilling to close out options purchased by the
Fund.
Although the Fund will generally purchase only those options for which
there appears to be an active secondary market, there can be 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, with the result that the Fund would have to exercise its
options in order to realize any profit and would incur transaction costs upon
the purchase or sale of the underlying securities.
Secondary markets on an exchange may not exist or may not be liquid for
a variety of reasons including: (i) insufficient trading interest in certain
options; (ii) restrictions on opening transactions or closing transactions
imposed by an exchange; (iii) trading halts, suspensions or other restrictions
may be imposed with respect to particular classes or series of options; (iv)
unusual or unforeseen circumstances which interrupt normal operations on an
exchange; (v) inadequate facilities of an exchange or the Options Clearing
Corporation to handle current trading volume at all times; or (vi)
discontinuance in the future by one or more exchanges for economic or other
reasons, of trading of options (or of a particular class or series of options),
in which event the secondary market on that exchange (or in that class or series
of options) would cease
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to exist, although outstanding options on that exchange that had been issued by
the Options Clearing Corporation as a result of trades on that exchange would
continue to be exercisable in accordance with their terms.
Although the Fund does not currently intend to do so, the Fund may, in
the future, write (i.e., sell) covered put and call options on securities,
securities indices and currencies in which the Fund may invest. A covered call
option is an option where the Fund, in return for a premium, gives another party
the right to buy specified securities owned by the Fund at a specified future
date and price set at the time of the contract. A covered call option serves as
a partial hedge against the price of the underlying security declining. However,
by writing a covered call option, the Fund gives up the opportunity, while the
option is in effect, to realize gain from any price increase in the underlying
security above the option exercise price. In addition, the Fund's ability to
sell the underlying security will be limited while the option is in effect
unless the Fund effects a closing purchase transaction.
The Fund also may write covered put options which give the holder of
the option the right to sell the underlying security to the Fund at the stated
exercise price. The Fund will receive a premium for writing a put option but
will be obligated to purchase the underlying security at a price that may be
higher than the market value of that security at the time of exercise for as
long as the option is outstanding. In order to "cover" the put options that it
has written, the Fund will cause its custodian to segregate cash, cash
equivalents, U.S. Government securities or other liquid equity or debt
securities with a value equal to or greater than the exercise price of the put
options. The Fund will not write put options if the aggregate value of the
obligations underlying the put options shall exceed 10% of the Fund's total
assets.
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 Options Clearing Corporation inadequate, and thereby result in the
institution by an exchange of special procedures which may interfere with the
timely execution of the Fund's orders.
Other Investment Practices
Repurchase Agreements. As noted in the Prospectus, the Fund may enter
into repurchase agreements. The Fund's repurchase agreements generally will
involve a short-term investment in a U.S. Government security or other high
grade liquid debt security, with the seller of the underlying security agreeing
to repurchase it from the Fund at a mutually agreed-upon time and price. The
repurchase price generally is higher than the purchase price, the difference
being interest income to the Fund. Alternatively, the purchase and repurchase
prices may be the same, with interest at a stated rate due to the Fund together
with the repurchase price on the date of repurchase. In either case, the income
to the Fund is unrelated to the interest rate on the underlying security itself.
Under each repurchase agreement, the seller is required to maintain the
value of the securities subject to the repurchase agreement at not less than
their repurchase price. The Manager, acting under the supervision of the Board
of Trustees, reviews on a periodic basis the suitability and creditworthiness,
and the value of the collateral, of those sellers with whom the Fund enters into
repurchase agreements to evaluate potential risk.
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All repurchase agreements will be made pursuant to procedures adopted and
regularly reviewed by the Trust's Board of Trustees.
The Fund generally will enter into repurchase agreements of short
maturities, from overnight to one week, although the underlying securities will
generally have longer maturities. The Fund regards repurchase agreements with
maturities in excess of seven days as illiquid. The Fund may not invest more
than 15% of the value of its net assets in illiquid securities, including
repurchase agreements with maturities greater than seven days.
For purposes of the Investment Company Act, a repurchase agreement is
deemed to be a collateralized loan from the Fund to the seller of the security
subject to the repurchase agreement. It is not clear whether a court would
consider the security acquired by the Fund subject to a repurchase agreement as
being owned by the Fund or as being collateral for a loan by the Fund to the
seller. If bankruptcy or insolvency proceedings are commenced with respect to
the seller of the security before its repurchase under a repurchase agreement,
the Fund may encounter delays and incur costs before being able to sell the
security. Delays may involve loss of interest or a decline in price of the
security. If a court characterizes such a transaction as a loan and the Fund has
not perfected a security interest in the security, the Fund may be required to
return the security to the seller's estate and be treated as an unsecured
creditor of the seller. As an unsecured creditor, the Fund would be at risk of
losing some or all of the principal and income involved in the transaction. As
with any unsecured debt instrument purchased for the Fund, the Manager seeks to
minimize the risk of loss through repurchase agreements by analyzing the
creditworthiness of the seller of the security.
Apart from the risk of bankruptcy or insolvency proceedings, the Fund
also runs the risk that the seller may fail to repurchase the security. However,
the Fund always requires collateral for any repurchase agreement to which it is
a party in the form of securities acceptable to it, the market value of which is
equal to at least 100% of the amount invested by the Fund plus accrued interest,
and the Fund makes payment against such securities only upon physical delivery
or evidence of book entry transfer to the account of its custodian bank. If the
market value of the security subject to the repurchase agreement becomes less
than the repurchase price (including interest), the Fund, pursuant to its
repurchase agreement, may require the seller of the security to deliver
additional securities so that the market value of all securities subject to the
repurchase agreement at all times equals or exceeds the repurchase price.
The Fund may participate in one or more joint accounts with other funds
of the Trust that may invest in repurchase agreements collateralized either by
(i) obligations issued or guaranteed as to principal and interest by the U.S.
Government or by one of its agencies or instrumentalities, or (ii) privately
issued mortgage-related securities that are in turn collateralized by securities
issued by GNMA, FNMA or FHLMC, and are rated in the highest rating category by a
nationally recognized statistical rating organization, or, if unrated, are
deemed by the Manager to be of comparable quality using objective criteria. Any
such repurchase agreement will have, with rare exceptions, an overnight,
over-the-weekend or over-the-holiday duration, and in no event will have a
duration of more than seven days.
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Lending of Portfolio Securities. Although the Fund does not currently
intend to do so, the Fund may lend its portfolio securities having a value of up
to 10% of its total assets in order to generate additional income. Such loans
may be made to broker-dealers or other financial institutions whose
creditworthiness is acceptable to the Manager. These loans would be required to
be secured continuously by collateral, including cash, cash equivalents,
irrevocable letters of credit, U.S. Government securities, or other high grade
liquid debt securities, maintained on a current basis (i.e., marked to market
daily) at an amount at least equal to 100% of the market value of the securities
loaned plus accrued interest. The Fund may pay reasonable administrative and
custodial fees in connection with a loan and may pay a negotiated portion of the
income earned on the cash to the borrower or placing broker. Loans are subject
to termination at the option of the Fund or the borrower at any time. Upon such
termination, the Fund is entitled to obtain the return of the securities loaned
within five business days.
For the duration of the loan, the Fund will continue to receive the
equivalent of the interest or dividends paid by the issuer on the securities
loaned, will receive proceeds from the investment of the collateral and will
continue to retain any voting rights with respect to the securities. As with
other extensions of credit, there are risks of delay in recovery or even losses
of rights in the securities loaned should the borrower of the securities fail
financially. However, the loans will be made only to borrowers deemed by the
Manager to be creditworthy, and when, in the judgment of the Manager, the income
which can be earned currently from such loans justifies the attendant risk.
When-Issued and Forward Commitment Securities. The Fund may purchase
securities on a "when-issued" basis and may purchase or sell securities on a
"forward commitment" or "delayed delivery" basis. The price of such securities
is fixed at the time the commitment to purchase or sell is made, but delivery
and payment for the securities take place at a later date. Normally, the
settlement date occurs within one month of the purchase; during the period
between purchase and settlement, no payment is made by the Fund to the issuer.
While the Fund reserves the right to sell when-issued or delayed delivery
securities prior to the settlement date, the Fund intends to purchase such
securities with the purpose of actually acquiring them unless a sale appears
desirable for investment reasons. At the time the Fund makes a commitment to
purchase a security on a when-issued or delayed delivery basis, it will record
the transaction and reflect the value of the security in determining its net
asset value. The market value of the when-issued securities may be more or less
than the settlement price. The Fund does not believe that its net asset value
will be adversely affected by its purchase of securities on a when-issued or
delayed delivery basis. The Fund causes its custodian to segregate cash, U.S.
Government securities or other liquid equity or debt securities with a value
equal in value to commitments for when-issued or delayed delivery securities.
The segregated securities either will mature or, if necessary, be sold on or
before the settlement date. To the extent that assets of the Fund are held in
cash pending the settlement of a purchase of securities, the Fund will earn no
income on these assets.
Illiquid Securities. The Fund may invest up to 15% of its net assets in
illiquid securities. The term "illiquid securities" for this purpose means
securities that cannot be disposed of within seven days in the ordinary course
of business at approximately the amount at which a Fund has valued the
securities and includes, among other things, purchased OTC options, repurchase
agreements maturing in more than seven days,
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certain restricted securities and securities that are otherwise not freely
transferable. Illiquid securities also include shares of an investment company
held by the Fund in excess of 1% of that company's total outstanding shares.
Restricted securities may be sold only in privately negotiated transactions or
in public offerings with respect to which a registration statement is in effect
under the Securities Act of 1933, as amended ("1933 Act"). Illiquid securities
acquired by the Fund may include those that are subject to restrictions on
transferability contained in the securities laws of other countries. Securities
that are freely marketable in the country where they are principally traded, but
that would not be freely marketable in the United States, will not be considered
illiquid. Where registration is required, the Fund may be obligated to pay all
or part of the registration expenses and a considerable period may elapse
between the time of the decision to sell and the time the Fund may be permitted
to sell a security under an effective registration statement. If, during such a
period, adverse market conditions were to develop, the Fund might obtain a less
favorable price than prevailed when it decided to sell.
In recent years a large institutional market has developed for certain
securities that are not registered under the 1933 Act, including securities sold
in private placements, repurchase agreements, commercial paper, foreign
securities and corporate bonds and notes. These instruments often are restricted
securities because the securities are sold in transactions not requiring
registration. Institutional investors generally will not seek to sell these
instruments to the general public, but instead will often depend either on an
efficient institutional market in which such unregistered securities can be
resold readily or on an issuer's ability to honor a demand for repayment.
Therefore, the fact that there are contractual or legal restrictions on resale
to the general public or certain institutions is not determinative of the
liquidity of such investments.
Rule 144A under the 1933 Act establishes a safe harbor from the
registration requirements of the 1933 Act for resales of certain securities to
qualified institutional buyers. Institutional markets for restricted securities
sold pursuant to Rule 144A in many cases provide both readily ascertainable
values for restricted securities and the ability to liquidate an investment to
satisfy share redemption orders. Such markets might include automated systems
for the trading, clearance and settlement of unregistered securities of domestic
and foreign issuers, such as the PORTAL System sponsored by the National
Association of Securities Dealers, Inc. An insufficient number of qualified
buyers interested in purchasing Rule 144A-eligible restricted securities held by
the Fund, however, could affect adversely the marketability of such portfolio
securities, and the Fund might be unable to dispose of such securities promptly
or at favorable prices.
The Board of Trustees has delegated the function of making day-to-day
determinations of liquidity to the Manager pursuant to guidelines approved by
the Board. The Manager takes into account a number of factors in reaching
liquidity decisions, including but not limited to (i) the frequency of trades
for the security, (ii) the number of dealers that quote prices for the security,
(iii) the number of dealers that have undertaken to make a market in the
security, (iv) the number of other potential purchasers, and (v) the nature of
the security and how trading is effected (e.g., the time needed to sell the
security, how bids are solicited and the mechanics of transfer). The Manager
monitors the liquidity of restricted securities in the Fund's portfolio and
reports periodically on such decisions to the Board of Trustees.
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Risk Factors
Foreign Securities
Investors in the Fund should consider carefully the substantial risks
involved in securities of companies located or doing business in, and
governments of, foreign nations, which are in addition to the usual risks
inherent in domestic investments. There may be less publicly available
information about foreign companies comparable to the reports and ratings
published regarding companies in the U.S. Foreign companies are not generally
subject to uniform accounting, auditing and financial reporting standards, and
auditing practices and requirements may not be comparable to those applicable to
U.S. companies. Many foreign markets have substantially less volume than either
the established domestic securities exchanges or the OTC markets. Securities of
some foreign companies are less liquid and more volatile than securities of
comparable U.S. companies. Commission rates in foreign countries, which may be
fixed rather than subject to negotiation as in the U.S., are likely to be
higher. In many foreign countries there is less government supervision and
regulation of securities exchanges, brokers and listed companies than in the
U.S. and capital requirements for brokerage firms are generally lower.
Settlement of transactions in foreign securities may, in some instances, be
subject to delays and related administrative uncertainties.
Emerging markets Countries
The Fund may invest in securities of companies domiciled in, and in
markets of, so-called "emerging markets countries." These investments may be
subject to potentially higher risks than investments in developed countries.
These risks include (i) volatile social, political and economic conditions; (ii)
the small current size of the markets for such securities and the currently low
or nonexistent volume of trading, which result in a lack of liquidity and in
greater price volatility; (iii) the existence of national policies which may
restrict the Fund's investment opportunities, including restrictions on
investment in issuers or industries deemed sensitive to national interests; (iv)
foreign taxation; (v) the absence of developed structures governing private or
foreign investment or allowing for judicial redress for injury to private
property; (vi) the absence, until recently in certain emerging markets
countries, of a capital market structure or market-oriented economy; and (vii)
the possibility that recent favorable economic developments in certain emerging
markets countries may be slowed or reversed by unanticipated political or social
events in such countries.
Exchange Rates and Polices
The Fund endeavors to buy and sell foreign currencies on favorable
terms. Some price spreads on currency exchange (to cover service charges) may be
incurred, particularly when the Fund changes investments from one country to
another or when proceeds from the sale of shares in U.S. dollars are used for
the purchase of securities in foreign countries. Also, some countries may adopt
policies which would prevent the Fund from repatriating invested capital and
dividends, withhold portions of interest and dividends at the source, or impose
other taxes, with respect to the Fund's investments in securities of issuers of
that country. There also is the possibility of expropriation,
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nationalization, confiscatory or other taxation, foreign exchange controls
(which may include suspension of the ability to transfer currency from a given
country), default in foreign government securities, political or social
instability, or diplomatic developments that could adversely affect investments
in securities of issuers in those nations.
The Fund may be affected either favorably or unfavorably by
fluctuations in the relative rates of exchange between the currencies of
different nations, exchange control regulations and indigenous economic and
political developments.
The Trustees consider at least annually the likelihood of the
imposition by any foreign government of exchange control restrictions which
would affect the liquidity of the Fund's assets maintained with custodians in
foreign countries, as well as the degree of risk from political acts of foreign
governments to which such assets may be exposed. The Trustees also consider the
degree of risk attendant to holding portfolio securities in domestic and foreign
securities depositories (see "Investment Management and Other Services").
Hedging Transactions
While transactions in forward contracts, options, futures contracts and
options on futures (i.e., "hedging positions") may reduce certain risks, such
transactions themselves entail certain other risks. Thus, while the Fund may
benefit from the use of hedging positions, unanticipated changes in interest
rates, securities prices or currency exchange rates may result in a poorer
overall performance for the Fund than if it had not entered into any hedging
positions. If the correlation between a hedging position and portfolio position
which is intended to be protected is imperfect, the desired protection may not
be obtained, and the Fund may be exposed to risk of financial loss.
Perfect correlation between the Fund's hedging positions and portfolio
positions may be difficult to achieve because hedging instruments in many
foreign countries are not yet available. In addition, it is not possible to
hedge fully against currency fluctuations affecting the value of securities
denominated in foreign currencies because the value of such securities is likely
to fluctuate as a result of independent factors not related to currency
fluctuations.
Investment Restrictions
The following policies and investment restrictions have been adopted by
the Fund and (unless otherwise noted) are fundamental and cannot be changed
without the affirmative vote of a majority of the Fund's outstanding voting
securities as defined in the Investment Company Act. The Fund may not:
1. With respect to 75% of its total assets, invest in the securities of
any one issuer (other than the U.S. Government and its agencies and
instrumentalities) if immediately after and as a result of such investment more
than 5% of the total assets of the Fund would be invested in such issuer. There
are no limitations with respect to the remaining 25% of its total assets, except
to the extent other investment restrictions may be applicable.
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2. Make loans to others, except (a) through the purchase of debt
securities in accordance with its investment objective and policies, (b) through
the lending of up to 30% of its portfolio securities as described above and in
its Prospectus, or (c) to the extent the entry into a repurchase agreement is
deemed to be a loan.
3. (a) Borrow money, except for temporary or emergency purposes from a
bank, and then not in excess of one-third of the value of its total assets
(including the proceeds of such borrowings, at the lower of cost or fair market
value). Any such borrowing will be made only if immediately thereafter there is
an asset coverage of at least 300% of all borrowings, and no additional
investments may be made while any such borrowings are in excess of 10% of total
assets. Transactions that are fully collateralized in a manner that does not
involve the prohibited issuance of a "Senior Security" within the meaning of
Section 18(f) of the Investment Company Act shall not be regarded as borrowings
for the purpose of this restriction.
(b) Mortgage, pledge or hypothecate any of its assets
except in connection with permissible borrowings and permissible forward
contracts, futures contracts, option contracts or other hedging transactions.
4. Except as required in connection with permissible hedging
activities, purchase securities on margin or underwrite securities. (This does
not preclude the Fund from obtaining such short-term credit as may be necessary
for the clearance of purchases and sales of its portfolio securities.)
5. Buy or sell real estate (including interests in real estate limited
partnerships or issuers that qualify as real estate investment trusts under
federal income tax law) or commodities or commodity contracts; however, the
Fund, to the extent not otherwise prohibited in the Prospectus or this Statement
of Additional Information, may invest in securities secured by real estate or
interests therein or issued by companies which invest in real estate or
interests therein, including real estate investment trusts, and may purchase or
sell currencies (including forward currency exchange contracts), futures
contracts and related options generally as described in the Prospectus and
Statement of Additional Information.
6. Buy or sell interests in oil, gas or mineral exploration or
development leases and programs. (This does not preclude permissible investments
in marketable securities of issuers engaged in such activities.)
7. Invest in securities of other investment companies, except to the
extent permitted by the Investment Company Act and discussed in the Prospectus
or this Statement of Additional Information, or as such securities may be
acquired as part of a merger, consolidation or acquisition of assets.
8. Invest, in the aggregate, more than 15% of its net assets in
illiquid securities, including (under current SEC interpretations) restricted
securities (excluding liquid Rule 144A-eligible restricted securities),
securities which are not otherwise readily marketable, repurchase agreements
that mature in more than seven days and OTC options (and securities underlying
such options) purchased by a Fund. (This is an operating policy which may be
changed without shareholder approval, consistent with the Investment Company
Act, changes in relevant SEC interpretations).
9. Invest in any issuer for purposes of exercising control or
management of the issuer. (This is an operating policy which may be changed
without shareholder approval, consistent with the Investment Company Act.)
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10. Invest more than 25% of the market value of its total assets in the
securities of companies engaged in any one industry. (This does not apply to
investment in the securities of the U.S. Government, its agencies or
instrumentalities.) For purposes of this restriction, the Fund generally relies
on the U.S. Office of Management and Budget's Standard Industrial
Classifications.
11. Issue senior securities, as defined in the Investment Company Act,
except that this restriction shall not be deemed to prohibit the Fund from (a)
making any permitted borrowings, mortgages or pledges, or (b) entering into
permissible repurchase transactions.
12. Acquire or dispose of put, call, straddle or spread options except
as described herein and in the Prospectus and subject to the following
conditions:
(A) such options are written by other persons (except
as described herein or in the Prospectus), and
(B) the aggregate premiums paid on all such options
which are held at any time do not exceed 5% of the Fund's total assets.
(This is an operating policy which may be changed without shareholder approval.)
13. Except as and unless described in the Prospectus and this Statement
of Additional Information, engage in short sales of securities. (This is an
operating policy which may be changed without shareholder approval, consistent
with applicable regulations.)
14. Invest in warrants, valued at the lower of cost or market, in
excess of 5% of the value of the Fund's net assets. Warrants acquired by the
Fund in units or attached to securities may be deemed to be without value. (This
is an operating policy which may be changed without shareholder approval.)
15. Purchase more than 10% of the outstanding voting securities of any
one issuer. (This is an operating policy which may be changed without
shareholder approval.)
16. Invest in commodities, except for futures contracts or options on
futures contracts, if, as a result thereof, more than 5% of the Fund's total
assets (taken at market value at the time of entering into the contract) would
be committed to initial deposits and premiums on open futures contracts and
options on such contracts.
To the extent these restrictions reflect matters of operating policy
which may be changed without shareholder vote, these restrictions may be amended
upon approval by the Board of Trustees and notice to shareholders.
If a percentage restriction is adhered to at the time of investment, a
subsequent increase or decrease in a percentage resulting from a change in the
values of assets will not constitute a violation of that restriction, except as
otherwise noted.
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Distributions and Tax Information
Distributions. The Fund will receive income in the form of dividends
and interest earned on its investments in securities. This income, less the
expenses incurred in its operations, is the Fund's net investment income,
substantially all of which will be declared as dividends to the Fund's
shareholders.
The amount of income dividend payments by the Fund is dependent upon
the amount of net investment income received by the Fund from its portfolio
holdings, is not guaranteed and is subject to the discretion of the Fund's
Board. The Fund does not pay "interest" or guarantee any fixed rate of return on
an investment in its shares.
The Fund also may derive capital gains or losses in connection with
sales or other dispositions of its portfolio securities. Any net gain the Fund
may realize from transactions involving investments held less than the period
required for long-term capital gain or loss recognition or otherwise producing
short-term capital gains and losses (taking into account any carryover of
capital losses from previous years), although a distribution from capital gains,
will be distributed to shareholders with and as a part of dividends giving rise
to ordinary income. If during any year the Fund realizes a net gain on
transactions involving investments held more than the period required for
long-term capital gain or loss recognition or otherwise producing long-term
capital gains and losses, the Fund will have a net long-term capital gain. After
deduction of the amount of any net short-term capital loss, the balance (to the
extent not offset by any capital losses carried over from the eight previous
taxable years) will be distributed and treated as long-term capital gains in the
hands of the shareholders regardless of the length of time the Fund's shares may
have been held by the shareholders.
Any dividend or distribution paid by the Fund reduces the Fund's net
asset value per share on the date paid by the amount of the dividend or
distribution per share. Accordingly, a dividend or distribution paid shortly
after a purchase of shares by a shareholder would represent, in substance, a
partial return of capital (to the extent it is paid on the shares so purchased),
even though it would be subject to income taxes.
As stated in the Prospectus, dividends and other distributions will
generally be made in the form of additional shares of the Fund. Investors have
the right to change their elections with respect to the reinvestment of
dividends and distributions by notifying the Transfer Agent in writing, but any
such change will be effective only as to dividends and other distributions for
which the record date is seven or more business days after the Transfer Agent
has received the written request.
Tax Information. The Fund intends to qualify and elect to be treated as
a regulated investment company under Subchapter M of the Internal Revenue Code
of 1986, as amended (the "Code"), for each taxable year by complying with all
applicable requirements regarding the source of its income, the diversification
of its assets, and the timing of its distributions. The Fund's policy is to
distribute to its shareholders all of its investment company taxable income and
any net realized capital gains for each fiscal year in a manner that complies
with the distribution requirements of the Code, so that the Fund will not be
subject to any federal income or excise taxes based on net income. However, the
Board of Trustees may elect to pay such excise taxes if it determines that
payment is, under the circumstances, in the best interests of the Fund.
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In order to qualify as a regulated investment company, the Fund must,
among other things, (a) derive at least 90% of its gross income each year from
dividends, interest, payments with respect to loans of stock and securities,
gains from the sale or other disposition of stock or securities or foreign
currency gains related to investments in stock or securities, or other income
(generally including gains from options, futures or forward contracts) derived
with respect to the business of investing in stock, securities or currency, and
(b) diversify its holdings so that, at the end of each fiscal quarter, (i) at
least 50% of the market value of its assets is represented by cash, cash items,
U.S. Government securities, securities of other regulated investment companies
and other securities limited, for purposes of this calculation, in the case of
other securities of any one issuer to an amount not greater than 5% of the
Fund's assets or 10% of the voting securities of the 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 other regulated
investment companies). As such, and by complying with the applicable provisions
of the Code, the Fund will not be subject to federal income tax on taxable
income (including realized capital gains) that is distributed to shareholders in
accordance with the timing requirements of the Code. If the Fund is unable to
meet certain requirements of the Code, it may be subject to taxation as a
corporation.
Distributions of net investment income and net realized capital gains
will be taxable to shareholders whether made in cash or reinvested in shares. In
determining amounts of net realized capital gains to be distributed, any capital
loss carryovers from the eight prior taxable years will be applied against
capital gains. Shareholders receiving distributions in the form of additional
shares will have a cost basis for federal income tax purposes in each share so
received equal to the net asset value of a share of the Fund on the reinvestment
date. Fund distributions also will be included in individual and corporate
shareholders' income on which the alternative minimum tax may be imposed.
The Fund or the securities dealer effecting a redemption of the Fund's
shares by a shareholder will be required to file information reports with the
Internal Revenue Service ("IRS") with respect to distributions and payments made
to the shareholder. In addition, the Fund will be required to withhold federal
income tax at the rate of 31% on taxable dividends, redemptions and other
payments made to accounts of individual or other non-exempt shareholders who
have not furnished their correct taxpayer identification numbers and certain
required certifications on the Account Application Form or with respect to which
the Fund or the securities dealer has been notified by the IRS that the number
furnished is incorrect or that the account is otherwise subject to withholding.
The Fund intends to declare and pay dividends and other distributions,
as stated in the Prospectus. In order to avoid the payment of any federal excise
tax based on net income, the Fund must declare on or before December 31 of each
year, and pay on or before January 31 of the following year, distributions at
least equal to 98% of its ordinary income for that calendar year and at least
98% of the excess of any capital gains over any capital losses realized in the
one-year period ending October 31 of that year, together with any undistributed
amounts of ordinary income and capital gains (in excess of capital losses) from
the previous calendar year.
The Fund may receive dividend distributions from U.S. corporations. To
the extent that the Fund receives such dividends and distributes them to its
shareholders, and
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meets certain other requirements of the Code, corporate shareholders of the Fund
may be entitled to the "dividends received" deduction. Availability of the
deduction is subject to certain holding period and debt-financing limitations.
If more than 50% in value of the total assets of the Fund at the end of
its fiscal year is invested in stock or securities of foreign corporations, the
Fund may elect to pass through to its shareholders the pro rata share of all
foreign income taxes paid by the Fund. If this election is made, shareholders
will be (i) required to include in their gross income their pro rata share of
the Fund's foreign source income (including any foreign income taxes paid by the
Fund), and (ii) entitled either to deduct their share of such foreign taxes in
computing their taxable income or to claim a credit for such taxes against their
U.S. income tax, subject to certain limitations under the Code, including
certain holding period requirements. If not more than 50% in value of the Fund's
total assets at the end of its fiscal year is invested in stock or securities of
foreign corporations, the Fund will not be entitled under the Code to pass
through to its shareholders their pro rata share of the foreign taxes paid by
the Fund. In this case, these taxes will be taken as a deduction by the Fund. In
either case, shareholders will be informed in writing by the Fund at the end of
each calendar year regarding the availability of any credits on and the amount
of foreign source income (including or excluding foreign income taxes paid by
the Fund) to be included in their income tax returns.
The Fund may be subject to foreign withholding taxes on dividends and
interest earned with respect to securities of foreign corporations. The Fund may
invest up to 10% of its total assets in the stock of foreign investment
companies that may be treated as "passive foreign investment companies"
("PFICs") under the Code. Certain other foreign corporations, not operated as
investment companies, may nevertheless satisfy the PFIC definition. A portion of
the income and gains that the Fund derives from PFIC stock may be subject to a
non-deductible federal income tax at the Fund level. In some cases, the Fund may
be able to avoid this tax by electing to be taxed currently on its share of the
PFIC's income, whether or not such income is actually distributed by the PFIC.
The Fund will endeavor to limit its exposure to the PFIC tax by investing in
PFICs only where the election to be taxed currently will be made. Because it is
not always possible to identify a foreign issuer as a PFIC in advance of making
the investment, the Fund may incur the PFIC tax in some instances.
Hedging. The use of hedging strategies, such as entering into futures
contracts and forward contracts and purchasing options, involves complex rules
that will determine the character and timing of recognition of the income
received in connection therewith by the Fund. Income from foreign currencies
(except certain gains therefrom that may be excluded by future regulations) and
income from transactions in options, futures contracts and forward contracts
derived by the Fund with respect to its business of investing in securities or
foreign currencies will qualify as permissible income under Subchapter M of the
Code.
For accounting purposes, when the Fund purchases an option, the premium
paid by the Fund is recorded as an asset and is subsequently adjusted to the
current market value of the option. Any gain or loss realized by the Fund upon
the expiration or sale of such options held by the Fund generally will be
capital gain or loss.
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Any security, option, or other position entered into or held by the
Fund that substantially diminishes the Fund's risk of loss from any other
position held by the Fund may constitute a "straddle" for federal income tax
purposes. In general, straddles are subject to certain rules that may affect the
amount, character and timing of the Fund's gains and losses with respect to
straddle positions by requiring, among other things, that the loss realized on
disposition of one position of a straddle be deferred until gain is realized on
disposition of the offsetting position; that the Fund's holding period in
certain straddle positions not begin until the straddle is terminated (possibly
resulting in the gain being treated as short-term capital gain rather than
long-term capital gain); and that losses recognized with respect to certain
straddle positions, which would otherwise constitute short-term capital losses,
be treated as long-term capital losses. Different elections are available to the
Fund that may mitigate the effects of the straddle rules.
Certain options, futures contracts and forward contracts that are
subject to Section 1256 of the Code ("Section 1256 Contracts") and that are held
by the Fund at the end of its taxable year generally will be required to be
"marked to market" for federal income tax purposes, that is, deemed to have been
sold at market value. Sixty percent of any net gain or loss recognized on these
deemed sales and 60% of any net gain or loss realized from any actual sales of
Section 1256 Contracts will be treated as long-term capital gain or loss, and
the balance will be treated as short-term capital gain or loss.
Section 988 of the Code contains special tax rules applicable to
certain foreign currency transactions that may affect the amount, timing and
character of income, gain or loss recognized by the Fund. Under these rules,
foreign exchange gain or loss realized with respect to foreign
currency-denominated debt instruments, foreign currency forward contracts,
foreign currency denominated payables and receivables and foreign currency
options and futures contracts (other than options and futures contracts that are
governed by the mark-to-market and 60/40 rules of Section 1256 of the Code and
for which no election is made) is treated as ordinary income or loss. Some part
of the Fund's gain or loss on the sale or other disposition of shares of a
foreign corporation may, because of changes in foreign currency exchange rates,
be treated as ordinary income or loss under Section 988 of the Code.
A shareholder who purchases shares of the Fund by tendering payment for
the shares in the form of other securities may be required to recognize gain or
loss for income tax purposes on the difference, if any, between the adjusted
basis of the securities tendered to the fund and the purchase price of the
Fund's shares acquired by the shareholder.
Section 475 of the Code requires that a "dealer" in securities must
generally "mark to market" at the end of its taxable year all securities which
it owns. The resulting gain or loss is treated as ordinary (and not capital)
gain or loss, except to the extent allocable to periods during which the dealer
held the security for investment. The "mark to market" rules do not apply,
however, to a security held for investment which is clearly identified in the
dealer's records as being held for investment before the end of the day in which
the security was acquired. The IRS has issued guidance under Section 475 that
provides that, for example, a bank that regularly originates and sells loans is
a dealer in securities, and subject to the "mark to market" rules. Shares of the
Fund held by a dealer
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in securities will be subject to the "mark to market" rules unless they are held
by the dealer for investment and the dealer property identifies the shares as
held for investment.
Redemptions and exchanges of shares of the Fund will result in gains or
losses for tax purposes to the extent of the difference between the proceeds and
the shareholder's adjusted tax basis for the shares. Any loss realized upon the
redemption or exchange of shares within six months from their date of purchase
will be treated as a long-term capital loss to the extent of distributions of
long-term capital gain dividends during such six-month period. All or a portion
of a loss realized upon the redemption of shares may be disallowed to the extent
shares are purchased (including shares acquired by means of reinvested
dividends) within 30 days before or after such redemption.
Distributions and redemptions may be subject to state and local income
taxes, and the treatment thereof may differ from the federal income tax
treatment. Foreign taxes may apply to non-U.S. investors.
The above discussion and the related discussion in the Prospectus are
not intended to be complete discussions of all applicable federal tax
consequences of an investment in the Fund. The law firm of Paul, Hastings,
Janofsky & Walker LLP has expressed no opinion in respect thereof. Nonresident
aliens and foreign persons are subject to different tax rules, and may be
subject to withholding of up to 30% on certain payments received from the Fund.
Shareholders are advised to consult with their own tax advisers concerning the
application of foreign, federal, state and local taxes to an investment in the
Fund.
Trustees and Officers
The Trustees of the Trust are responsible for the overall management of
each Fund, including general supervision and review of its investment
activities. The officers (the Trust, as well as two an affiliated Trusts, The
Montgomery Funds and The Montgomery Funds III, have the same officers), who
administer each Fund's daily operations, are appointed by the Boards of
Trustees. The current Trustees and officers of the Trusts performing a
policy-making function and their affiliations and principal occupations for the
past five years are set forth below:
George A. Rio, President and Treasurer (Age 43)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Mr. Rio is Executive
Vice President and Client Service Director of Funds Distributor, Inc. (since
April 1998). From June 1995 to March 1998, he was Senior Vice President, Senior
Key Account Manager for Putnam Mutual Funds. From May 1994 to June 1995, he was
Director of business development for First Data Corporation. From September 1993
to May 1994, he was Senior Vice President and Manager of Client Services; and
Director of Internal Audit at the Boston Company.
Karen Jacoppo-Wood, Vice President and Assistant Secretary (Age 31)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Ms. Jacoppo-Wood is
the Assistant Vice President of FDI and an officer of certain investment
companies advised or administered by Morgan, Waterhouse, RCM and Harris or their
respective affiliates.
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From June 1994 to January 1996, Ms. Jacoppo-Wood was a Manager, SEC
Registration, Scudder, Stevens & Clark, Inc. From 1988 to May 1994, Ms.
Jacoppo-Wood was a Senior Paralegal at The Boston Company Advisers, Inc.
("TBCA").
Margaret W. Chambers, Secretary (Age 38)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Ms. Chambers is Senior
Vice President and General Counsel of Funds Distributor Inc. (since April 1998).
From August 1996 to March 1998, Ms. Chambers was Vice President and Assistant
General Counsel for Loomis, Sayles & Company, L.P. from January 1986 to July
1996, she was an associate with the law firm of Ropes & Gray.
Christopher J. Kelley, Vice President and Assistant Secretary (Age 33)
60 State Street, Suite 300, Boston, Massachusetts 02109. Mr. Kelley is the Vice
President and Associate General Counsel of FDI and Premier Mutual, and an
officer of certain investment companies advised or administered by Morgan,
Waterhouse and Harris or their respective affiliates. From April 1994 to July
1996, Mr. Kelley was Assistant Counsel at Forum Financial Group. From 1992 to
1994, Mr. Kelley was employed by Putnam Investments in Legal and Compliance
capacities. Prior to 1992, Mr. Kelley attended Boston College Law School, from
which he graduated in May 1992.
Mary A. Nelson, Vice President and Assistant Treasurer (Age 34)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Ms. Nelson is the Vice
President and Manager of Treasury Services and Administration of FDI and Premier
Mutual, and an officer of certain investment companies advised or administered
by Morgan, Dreyfus, Waterhouse, RCM and Harris or their respective affiliates.
From 1989 to 1994 Ms. Nelson was Assistant Vice President and Client Manager for
The Boston Company, Inc.
Gary S. MacDonald, Vice President and Assistant Treasurer (Age 33)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Mr. MacDonald is the
Vice President of FDI with which he has been associated since November 1996. He
also is an officer of certain investment companies advised or administered by
RCM. From September 1992 to November 1996 he was Vice President of Bay. Banks
Investment Management/Bay Bank Financial Services; and from April 1989 to
September 1992 he was an Analyst at Wellington Management Company.
Marie E. Connolly, Vice President and Assistant Treasurer (Age 40)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Ms. Connolly is the
President, Chief Executive Officer, Chief Compliance Officer and Director of FDI
and Premier Mutual, and an officer of certain investment companies advised or
administered by Morgan and Dreyfus or their respective affiliates. From December
1991 to July 1994, Ms. Connolly was President and Chief Compliance Officer of
FDI. Prior to December 1991, Ms. Connolly served as Vice President and
Controller, and later Senior Vice President of TBCA.
Douglas C. Conroy, Vice President and Assistant Treasurer (Age 29)
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60 State Street, Suite 130, Boston, Massachusetts 02109. Mr. Conroy is the
Assistant Vice President and Manager of Treasury Services and Administration of
FDI and an officer of certain investment companies advised or administered by
Morgan and Dreyfus or their respective affiliates. Prior to April 1997, Mr.
Conroy was Supervisor of Treasury Services and Administration of FDI. From April
1993 to January 1995, Mr. Conroy was a Senior Fund Accountant for Investors Bank
& Trust Company. From December 1991 to March 1993, Mr. Conroy was employed as a
Fund Accountant at The Boston Company, Inc.
Joseph F. Tower, III, Vice President and Assistant Treasurer (Age 36)
60 State Street, Suite 1300, Boston, Massachusetts 02109. Mr. Tower is the
Executive Vice President, Treasurer and Chief Financial Officer, Chief
Administrative Officer and Director of FDI; Senior Vice President, Treasurer and
Chief Financial Officer, Chief Administrative Officer and Director of Premier
Mutual, and an officer of certain investment companies advised or administered
by Morgan, Dreyfus and Waterhouse or their respective affiliates. Prior to April
1997, Mr. Tower was Senior Vice President, Treasurer and Chief Financial
Officer, Chief Administrative Officer and Director of FDI. From July 1988 to
November 1993, Mr. Tower was Financial Manager of The Boston Company, Inc.
John A. Farnsworth, Trustee (Age 56)
One California Street, Suite 1950, San Francisco, California 94111. Mr.
Farnsworth is a partner of Pearson, Caldwell & Farnsworth, Inc., an executive
search consulting firm. From May 1988 to September 1991, Mr. Farnsworth was the
Managing Partner of the San Francisco office of Ward Howell International, Inc.,
and executive recruiting firm. From May 1987 until May 1988, Mr. Farnsworth was
Managing Director of Jeffrey Casdin & Company, an investment management firm
specializing in biotechnology companies. From May 1984 until May 1987, Mr.
Farnsworth served as a Senior Vice President of Bank of America and head of the
U.S. Private Banking Division.
Andrew Cox, Trustee (Age 54)
750 Vine Street, Denver, Colorado 80206. Since June 1988, Mr. Cox has been
engaged as an independent investment consultant. From September 1976 until June
1988, Mr. Cox was a Vice President of the Founders Group of Mutual Funds,
Denver, Colorado, and Portfolio Manager or Co-Portfolio Manager of several of
the mutual funds in the Founders Group.
Cecilia H. Herbert, Trustee (Age 49)
2636 Vallejo Street, San Francisco, California 94123. Ms. Herbert was Managing
Director of Morgan Guaranty Trust Company. From 1983 to 1991 she was General
Manager of the bank's San Francisco office, with responsibility for lending,
corporate finance and investment banking. Ms. Herbert is a member of the Board
of Schools of the Sacred Heart, and is a member of the Archdiocese of San
Francisco Finance Council, where she chairs the Investment Committee.
22
<PAGE>
R. Stephen Doyle, Chairman of the Board of Trustees (Age 58).*
101 California Street, San Francisco, California 94111. Mr. Doyle has been the
Chairman and a Director of Montgomery Asset Management, Inc., the general
partner of the Manager, and Chairman of the Manager since April 1990. Mr. Doyle
is a managing director of the investment banking firm of Montgomery Securities,
the Fund's former Distributor, and has been employed by Montgomery Securities
since October 1983.
<TABLE>
The officers of the Trusts, and the Trustees who are considered
"interested persons" of the Trusts, receive no compensation directly from the
Trusts for performing the duties of their offices. However, those officers and
Trustees who are officers or partners of the Manager or the Distributor may
receive remuneration indirectly because the Manager will receive a management
fee from the Funds and Funds Distributor, Inc., will receive commissions for
executing portfolio transactions for the Funds. The Trustees who are not
affiliated with the Manager or the Distributor receive an annual retainer and
fees and expenses for each regular Board meeting attended. The aggregate
compensation paid by each Trust to each of the Trustees during the year ended
June 30, 1998, and the aggregate compensation paid to each of the Trustees
during the year ended June 30, 1998, by all of the registered investment
companies to which the Manager provides investment advisory services, are set
forth below.
<CAPTION>
- ---------------------------- ------------------------ --------------------------- --------------------------
Total Compensation From
Pension or Retirement the Trust and Fund
Aggregate Compensation Benefits Accrued as Part Complex
Name of Trustee from the Trust of Fund Expenses* (2 additional Trusts)
- ---------------------------- ------------------------ --------------------------- --------------------------
<S> <C> <C> <C>
R. Stephen Doyle None -- None
- ---------------------------- ------------------------ --------------------------- --------------------------
John A. Farnsworth $5,000 -- $35,000
- ---------------------------- ------------------------ --------------------------- --------------------------
Andrew Cox $5,000 -- $35,000
- ---------------------------- ------------------------ --------------------------- --------------------------
Cecilia H. Herbert $5,000 -- $35,000
- ---------------------------- ------------------------ --------------------------- --------------------------
<FN>
* The Trusts do not maintain pension or retirement plans.
</FN>
</TABLE>
Each of the above persons serves in the same capacity for The
Montgomery Funds and The Montgomery Funds III, investment companies registered
under the Investment Company Act, with separate series of funds managed by the
Manager.
Investment Management and Other Services
Investment Management Services. As stated in the Prospectus, investment
management services are provided to the Fund by Montgomery Asset Management LLC,
the Manager, pursuant to an Investment Management Agreement between the Manager
and The Montgomery Funds II dated June 30, 1998 (the "Agreement").
- ----------
* Trustee deemed an "interested person" of the Funds as defined in the
Investment Company Act.
23
<PAGE>
The Agreement is in effect with respect to the Fund for two years after
the Fund's inclusion in its Trust's Agreement (on or around its beginning of
public operations) and then continues for periods not exceeding one year so long
as such continuation is approved at least annually by (1) the Board or the vote
of a majority of the outstanding shares of the Fund, and (2) a majority of the
Trustees who are not interested persons of any party to the Agreement, in each
case by a vote cast in person at a meeting called for the purpose of voting on
such approval. The Agreement may be terminated at any time, without penalty, by
the Fund or the Manager upon 60 days' written notice, and is automatically
terminated in the event of its assignment as defined in the Investment Company
Act.
For services performed under the Agreement, the Fund pays the Manager a
monthly management fee (accrued daily but paid when requested by the Manager)
based upon the average daily net assets of the Fund, at the annual rate of
seventy-five one-hundredths of one percent (0.75%) of the first $500 million in
average daily net assets, and sixty-five one hundredths (0.65%) of all amounts
over $500 million in average daily net assets.
As noted in the Prospectus, the Manager has agreed to reduce some or
all of its management fee if necessary to keep total operating expenses,
expressed on an annualized basis, at or below ninety one hundredths of one
percent (0.90%) of the Fund's average net assets. The Manager also may
voluntarily reduce additional amounts to increase the return to the Fund's
investors. Any reductions made by the Manager in its fees are subject to
reimbursement by the Fund within the following three years provided the Fund is
able to effect such reimbursement and remain in compliance with the foregoing
expense limitations. The Manager generally seeks reimbursement for the oldest
reductions and waivers before payment by the Fund for fees and expenses for the
current year. Operating expenses for purposes of the Agreement include the
Manager's management fee but do not include any taxes, interest, brokerage
commissions, if any, expenses incurred in connection with any merger or
reorganization, any extraordinary expenses such as litigation, and such other
expenses as may be deemed excludable with the prior written approval of any
state securities commission imposing an expense limitation. The Manager may also
at its discretion from time to time pay for other Fund expenses from its own
funds or reduce the management fee of the Fund in excess of that required.
The Agreement was approved with respect to the Fund by the Board of
Trustees of the Trust at a duly called meeting. In considering the Agreement,
the Trustees specifically considered and approved the provision which permits
the Manager to seek reimbursement of any reduction made to its management fee
within the three-year period following such reduction subject to the Fund's
ability to effect such reimbursement and remain in compliance with applicable
expense limitations. The Trustees also considered that any such management fee
reimbursement will be accounted for on the financial statements of the Fund as a
contingent liability of the Fund and will appear as a footnote to the Fund's
financial statements until such time as it appears that the Fund will be able to
effect such reimbursement. At such time as it appears probable that the Fund is
able to effect such reimbursement, the amount of reimbursement that the Fund is
able to effect will be accrued as an expense of the Fund for that current
period.
24
<PAGE>
The Manager also may act as an investment adviser or administrator to
other persons, entities, and corporations, including other investment companies.
Please refer to the table above, which indicates officers and trustees who are
affiliated persons of the Trust and who are also affiliated persons of the
Manager.
The use of the name "Montgomery" by the Trust and by the Fund is
pursuant to the consent of the Manager, which may be withdrawn if the Manager
ceases to be the Manager of the Fund.
The Distributor. The Distributor may provide certain administrative
services to the Fund on behalf of the Manager. The Distributor will also perform
investment banking, investment advisory and brokerage services for persons other
than the Fund, including issuers of securities in which the Fund may invest.
These activities from time to time may result in a conflict of interests of the
Distributor with those of the Fund, and may restrict the ability of the
Distributor to provide services to the Fund.
The Custodian. Morgan Stanley Trust Company serves as principal
Custodian of the Fund's assets, which are maintained at the Custodian's
principal office and at the offices of its branches and agencies throughout the
world. The Custodian has entered into agreements with foreign sub-custodians
approved by the Trustees pursuant to Rule 17f-5 under the Investment Company
Act. The Custodian, its branches and sub-custodians generally hold certificates
for the securities in their custody, but may, in certain cases, have book
records with domestic and foreign securities depositories, which in turn have
book records with the transfer agents of the issuers of the securities.
Compensation for the services of the Custodian is based on a schedule of charges
agreed on from time to time.
Execution of Portfolio Transactions
In all purchases and sales of securities for the Fund, the primary
consideration is to obtain the most favorable price and execution available.
Pursuant to the Agreement, the Manager determines which securities are to be
purchased and sold by the Fund and which broker-dealers are eligible to execute
the Fund's portfolio transactions, subject to the instructions of, and review
by, the Fund and the Trust's Board of Trustees. Purchases and sales of
securities within the U.S. other than on a securities exchange will generally be
executed directly with a "market-maker" unless, in the opinion of the Manager or
the Fund, a better price and execution can otherwise be obtained by using a
broker for the transaction.
The Fund contemplates purchasing most equity securities directly in the
securities markets located in foreign countries or in the over-the-counter
markets. The Fund may purchase ADRs and EDRs listed on stock exchanges, or
traded in the over-the-counter markets in the U.S. or Europe, as the case may
be. ADRs, like other securities traded in the U.S., will be subject to
negotiated commission rates. The foreign and domestic debt securities and money
market instruments in which the Fund may invest may be traded in the
over-the-counter markets.
Purchases of portfolio securities for the Fund also may be made
directly from issuers or from underwriters. Where possible, purchase and sale
transactions will be effected through dealers (including banks) which specialize
in the types of securities
25
<PAGE>
which the Fund will be holding, unless better executions are available
elsewhere. Dealers and underwriters usually act as principals for their own
account. Purchases from underwriters will include a concession paid by the
issuer to the underwriter and purchases from dealers will include the spread
between the bid and the asked price. If the execution and price offered by more
than one dealer or underwriter are comparable, the order may be allocated to a
dealer or underwriter that has provided research or other services as discussed
below.
In placing portfolio transactions, the Manager will use its best
efforts to choose a broker-dealer capable of providing the services necessary
generally to obtain the most favorable price and execution available. The full
range and quality of services available will be considered in making these
determinations, such as the firm's ability to execute trades in a specific
market required by the Fund, such as in a foreign market, the size of the order,
the difficulty of execution, the operational facilities of the firm involved,
the firm's risk in positioning a block of securities, and other factors.
Provided the Trust's officers are satisfied that the Fund is receiving
the most favorable price and execution available, the Manager may also consider
the sale of the Fund's shares as a factor in the selection of broker-dealers to
execute its portfolio transactions. The placement of portfolio transactions with
broker-dealers who sell shares of the Fund is subject to rules adopted by the
National Association of Securities Dealers, Inc. ("NASD").
While the Fund's general policy is to seek first to obtain the most
favorable price and execution available, in selecting a broker-dealer to execute
portfolio transactions, weight may also be given to the ability of a
broker-dealer to furnish brokerage, research and statistical services to the
Fund or to the Manager, even if the specific services were not imputed just to
the Fund and may be lawfully and appropriately used by the Manager in advising
other clients. The Manager considers such information, which is in addition to,
and not in lieu of, the services required to be performed by it under the
Agreement, to be useful in varying degrees, but of indeterminable value. In
negotiating any commissions with a broker or evaluating the spread to be paid to
a dealer, the Fund may therefore pay a higher commission or spread than would be
the case if no weight were given to the furnishing of these supplemental
services, provided that the amount of such commission or spread has been
determined in good faith by the Fund and the Manager to be reasonable in
relation to the value of the brokerage and/or research services provided by such
broker-dealer, which services either produce a direct benefit to the Fund or
assist the Manager in carrying out its responsibilities to the Fund. The
standard of reasonableness is to be measured in light of the Manager's overall
responsibilities to the Fund.
Investment decisions for the Fund are made independently from those of
other client accounts of the Manager or its affiliates, and suitability is
always a paramount consideration. Nevertheless, it is possible that at times the
same securities will be acceptable for the Fund and for one or more of such
client accounts. The Manager and its personnel may have interests in one or more
of those client accounts, either through direct investment or because of
management fees based on gains in the account. The Manager has adopted
allocation procedures to ensure the fair allocation of securities and prices
between the Fund and the Manager's various other accounts. These procedures
26
<PAGE>
emphasize the desirability of bunching trades and price averaging (see below) to
achieve objective fairness among clients advised by the same portfolio manager
or portfolio team. Where trades cannot be bunched, the procedures specify
alternatives designed to ensure that buy and sell opportunities are allocated
fairly and that, over time, all clients are treated equitably. The Manager's
trade allocation procedures also seek to ensure reasonable efficiency in client
transactions, and they provide portfolio managers with reasonable flexibility to
use allocation methodologies that are appropriate to their investment discipline
on client accounts.
To the extent any of the Manager's client accounts and the Fund seek to
acquire the same security at the same general time (especially if the security
is thinly traded or is a small cap stock), that Fund may not be able to acquire
as large a portion of such security as it desires, or it may have to pay a
higher price or obtain a lower yield for such security. Similarly, the Fund may
not be able to obtain as high a price for, or as large an execution of, an order
to sell any particular security at the same time. If one or more of such client
accounts simultaneously purchases or sells the same security the Fund is
purchasing or selling, each day's transactions in such security generally will
be allocated between the Fund and all such client accounts in a manner deemed
equitable by the Manager, taking into account the respective sizes of the
accounts, the amount being purchased or sold and other factors deemed relevant
by the Manager. In many cases, the Fund's transactions are bunched with the
transactions for other client accounts. It is recognized that in some cases this
system could have a detrimental effect on the price or value of the security
insofar as the Fund is concerned. In other cases, however, it is believed that
the ability of the Fund to participate in volume transactions may produce better
executions for the Fund.
The Manager's sell discipline for the Fund's investment in issuers is
based on the premise of a long-term investment horizon; however, sudden changes
in valuation levels arising from, for example, new macroeconomic policies,
political developments, and industry conditions could change the assumed time
horizon. Liquidity, volatility, and overall risk of a position are other factors
considered by the Manager in determining the appropriate investment horizon. The
Fund will limit investments in illiquid securities to 15% of net assets.
Sell decisions at the country level are dependent on the results of the
Manager's asset allocation model. Some countries impose restrictions on
repatriation of capital and/or dividends which would lengthen the Manager's
assumed time horizon in those countries. In addition, the rapid pace of
privatization and initial public offerings creates a flood of new opportunities
which must continually be assessed against current holdings.
At the company level, sell decisions are influenced by a number of
factors including current stock valuation relative to the estimated fair value
range, or a high P/E relative to expected growth. Negative changes in the
relevant industry sector, or a reduction in international competitiveness and a
declining financial flexibility may also signal a sell.
The Fund does not effect securities transactions through brokers in
accordance with any formula, nor does it effect securities transactions through
such brokers solely for
27
<PAGE>
selling shares of the Fund. Brokers who execute brokerage transactions as
described above may from time to time effect purchases of shares of the Fund for
their customers.
Depending on the Manager's view of market conditions, the Fund may or
may not purchase securities with the expectation of holding them to maturity,
although its general policy is to hold securities to maturity. The Fund may,
however, sell securities prior to maturity to meet redemptions or as a result of
a revised management evaluation of the issuer.
Additional Purchase and Redemption Information
The Trust reserves the right in its sole discretion to (i) suspend the
continued offering of the Fund's shares, and (ii) reject purchase orders in
whole or in part when in the judgment of the Manager or the Distributor such
suspension or rejection is in the best interest of the Fund.
When in the judgment of the Manager it is in the best interests of the
Fund, an investor may purchase shares of the Fund by tendering payment in kind
in the form of securities, provided that any such tendered securities are
readily marketable, their acquisition is consistent with the Fund's investment
objective and policies, and the tendered securities are otherwise acceptable to
the Fund's Manager. For the purposes of sales of shares of the Fund for such
securities, the tendered securities shall be valued at the identical time and in
the identical manner that the portfolio securities of the Fund are valued for
the purpose of calculating the net asset value of the Fund's shares.
Payments to shareholders for shares of the Fund redeemed directly from
the Fund will be made as promptly as possible but no later than three days after
receipt by the Transfer Agent of the written request in proper form, with the
appropriate documentation as stated in the Prospectus, except that the Fund may
suspend the right of redemption or postpone the date of payment during any
period when (a) trading on the New York Stock Exchange ("NYSE") is restricted as
determined by the SEC or the NYSE is closed for other than weekends and
holidays; (b) an emergency exists as determined by the SEC (upon application by
the Fund pursuant to Section 22(e) of the Investment Company Act) making
disposal of portfolio securities or valuation of net assets of the Fund not
reasonably practicable; or (c) for such other period as the SEC may permit for
the protection of the Fund's shareholders.
The Fund intends to pay cash (U.S. dollars) for all shares redeemed,
but, as described below or under abnormal conditions that make payment in cash
unwise, the Fund may make payment partly in its portfolio securities with a
current amortized cost or market value, as appropriate, equal to the redemption
price. Although the Fund does not anticipate that it will normally make any part
of a redemption payment in securities, if such payment were made, an investor
may incur brokerage costs in converting such securities to cash. The Trust has
elected to be governed by the provisions of Rule 18f-1 under the Investment
Company Act, which require that the Fund pay in cash all requests for redemption
by any shareholder of record limited in amount, however, during any 90-day
period to the lesser of $250,000 or 1% of the value of the Trust's net assets at
the beginning of such period.
28
<PAGE>
When in the judgment of the Manager it is in the best interests of the
Fund, an investor may redeem shares of the Fund and receive securities from the
Fund's portfolio selected by the Manager in its sole discretion, provided that
such redemption is not expected to affect the Fund's ability to attain its
investment objective or otherwise materially affect its operations. For the
purposes of redemptions in kind, the redeemed securities shall be valued at the
identical time and in the identical manner that the other portfolio securities
are valued for purposes of calculating the net asset value of the Fund's shares.
The value of shares on redemption or repurchase may be more or less
than the investor's cost, depending upon the market value of the Fund's
portfolio securities at the time of redemption or repurchase.
Determination of Net Asset Value
The net asset value per share of the Fund is calculated as follows: all
liabilities incurred or accrued are deducted from the valuation of total assets,
which includes accrued but undistributed income; the resulting net assets are
divided by the number of shares of the Fund outstanding at the time of the
valuation and the result (adjusted to the nearest cent) is the net asset value
per share.
As noted in the Prospectus, the net asset value of the Fund is
determined once daily as of the Fund's cutoff time on each day that the NYSE is
open for trading. Generally, this is 4:00 P.M. eastern time or earlier when
trading closes earlier. It is expected that the Exchange will be closed on
Saturdays and Sundays and on New Year's Day, Martin Luther King Day, Presidents'
Day, Good Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day
and Christmas. The Fund may, but does not expect to, determine the net asset
value of its shares on any day when the NYSE is not open for trading if there is
sufficient trading in its portfolio securities on such days to materially affect
the net asset value per share.
Generally, trading in and valuation of foreign securities is
substantially completed each day at various times prior to the close of the
NYSE. In addition, trading in and valuation of foreign securities may not take
place on every day in which the NYSE is open for trading. Furthermore, trading
takes place in various foreign markets on days in which the NYSE is not open for
trading and on which the Fund's net asset values are not calculated.
Occasionally, events affecting the values of such securities in U.S. dollars on
a day on which the Fund calculates its net asset value may occur between the
times when such securities are valued and the close of the NYSE which will not
be reflected in the computation of the Fund's net asset value unless the
Trustees or their delegates deem that such events would materially affect the
net asset value, in which case an adjustment would be made.
Generally, the Fund's investments are valued at market value or, in the
absence of a market value, at fair value as determined in good faith by the
Manager and the Trust's Pricing Committee pursuant to procedures approved by or
under the direction of the Board of Trustees.
The Fund's securities, including ADRs, EDRs and GDRs, which are traded
on securities exchanges are valued at the last sale price on the exchange on
which such
29
<PAGE>
securities are traded, as of the close of business on the day the securities are
being valued or, lacking any reported sales, at the mean between the last
available bid and asked price. Securities that are traded on more than one
exchange, are valued on the exchange determined by the Manager to be the primary
market. Securities traded in the over-the-counter market are valued at the mean
between the last available bid and asked price prior to the time of valuation.
Securities and assets for which market quotations are not readily available
(including restricted securities which are subject to limitations as to their
sale) are valued at fair value as determined in good faith by or under the
direction of the Board of Trustees.
Short-term debt obligations with remaining maturities in excess of 60
days are valued at current market prices, as discussed above. Short-term
securities with 60 days or less remaining to maturity are, unless conditions
indicate otherwise, amortized to maturity based on their cost to the Fund if
acquired within 60 days of maturity or, if already held by the Fund on the 60th
day, based on the value determined on the 61st day.
Corporate debt securities, mortgage-related securities and asset-backed
securities held by the Fund are valued on the basis of valuations provided by
dealers in those instruments or by an independent pricing service, approved by
the Board of Trustees. Any such pricing service, in determining value, will use
information with respect to transactions in the securities being valued,
quotations from dealers, market transactions in comparable securities, analyses
and evaluations of various relationships between securities and yield to
maturity information.
An option that is written by the Fund is generally valued at the last
sale price or, in the absence of the last sale price, the last offer price. An
option that is purchased by the Fund is generally valued at the last sale price
or, in the absence of the last sale price, the last bid price. The value of a
futures contract equals the unrealized gain or loss on the contract that is
determined by marking the contract to the current settlement price for a like
contract on the valuation date of the futures contract if the securities
underlying the futures contract experience significant price fluctuations after
the determination of the settlement price. When a settlement price cannot be
used, futures contracts will be valued at their fair market value as determined
by or under the direction of the Trust's Board of Trustees.
If any securities held by the Fund are restricted as to resale or do
not have readily available market quotations, the Manager and the Trust's
Pricing Committee determine their fair value, following procedures approved by
the Board of Trustees. The Trustees periodically review such valuations and
valuation procedures. The fair value of such securities is generally determined
as the amount which the Fund could reasonably expect to realize from an orderly
disposition of such securities over a reasonable period of time. The valuation
procedures applied in any specific instance are likely to vary from case to
case. However, consideration is generally given to the financial position of the
issuer and other fundamental analytical data relating to the investment and to
the nature of the restrictions on disposition of the securities (including any
registration expenses that might be borne by the Fund in connection with such
disposition). In addition, specific factors are also generally considered, such
as the cost of the investment, the market value of any unrestricted securities
of the same class (both at the time of purchase and at the time of
30
<PAGE>
valuation), the size of the holding, the prices of any recent transactions or
offers with respect to such securities and any available analysts' reports
regarding the issuer.
Any assets or liabilities initially expressed in terms of foreign
currencies are translated into U.S. dollars at the official exchange rate or,
alternatively, at the mean of the current bid and asked prices of such
currencies against the U.S. dollar last quoted by a major bank that is a regular
participant in the foreign exchange market or on the basis of a pricing service
that takes into account the quotes provided by a number of such major banks. If
neither of these alternatives is available or both are deemed not to provide a
suitable methodology for converting a foreign currency into U.S. dollars, the
Board of Trustees in good faith will establish a conversion rate for such
currency.
All other assets of the Fund are valued in such manner as the Board of
Trustees in good faith deems appropriate to reflect their fair value.
Principal Underwriter
The Distributor acts as the Fund's principal underwriter in a
continuous public offering of the Fund's shares. The Distributor is currently
registered as a broker-dealer with the SEC and in all 50 states, and is a member
of most of the principal securities exchanges in the U.S. and is a member of the
NASD. The Underwriting Agreement between the Fund and the Distributor is in
effect for the same periods as the Agreement, and shall continue in effect
thereafter for periods not exceeding one year if approved at least annually by
(i) the Board of Trustees of the Trust or the vote of a majority of the
outstanding securities of the Fund (as defined in the Investment Company Act),
and (ii) a majority of the Trustees who are not interested persons of any such
party, in each case by a vote cast in person at a meeting called for the purpose
of voting on such approval. The Underwriting Agreement may be terminated without
penalty by the parties thereto upon 60 days' written notice, and is
automatically terminated in the event of its assignment as defined in the
Investment Company Act. There are no underwriting commissions paid with respect
to sales of the Fund's shares.
Performance Information
As noted in the Prospectus, the Fund may, from time to time, quote
various performance figures in advertisements and investor communications to
illustrate its past performance. Performance figures will be calculated
separately for Class R, Class P and Class L shares.
Average Annual Total Return. Total return may be stated for any
relevant period as specified in the advertisement or communication. Any
statements of total return for the Fund will be accompanied by information on
the Fund's average annual compounded rate of return over the most recent four
calendar quarters and the period from the Fund's inception of operations. The
Fund may also advertise aggregate and average total return information over
different periods of time. The Fund's "average annual total return" figures are
computed according to a formula prescribed by the SEC, expressed as follows:
P(1 + T)n=ERV
31
<PAGE>
Where: P = a hypothetical initial payment of $1,000.
T = average annual total return.
n = number of years.
ERV = Ending Redeemable Value of a hypothetical
$1,000 investment made at the beginning of a
1-, 5- or 10-year period at the end of each
respective period (or fractional portion
thereof), assuming reinvestment of all
dividends and distributions and complete
redemption of the hypothetical investment at
the end of the measuring period.
Aggregate Total Return. The Fund's "aggregate total return" figures
represent the cumulative change in the value of an investment in the Fund for
the specified period and are computed by the following formula:
ERV - P
-------
P
Where: P = a hypothetical initial payment of $10,000.
ERV = Ending Redeemable Value of a hypothetical
$10,000 investment made at the beginning of a
l-, 5- or 10-year period at the end of a l-,
5- or 10-year period (or fractional portion
thereof), assuming reinvestment of all
dividends and distributions and complete
redemption of the hypothetical investment at
the end of the measuring period.
The Fund's performance will vary from time to time depending upon
market conditions, the composition of its portfolio and its operating expenses.
The total return information also assumes cash investments and redemptions and,
therefore, includes the applicable expense reimbursement fees discussed in the
Prospectus. Consequently, any given performance quotation should not be
considered representative of the Fund's performance for any specified period in
the future. In addition, because performance will fluctuate, it may not provide
a basis for comparing an investment in the Fund with certain bank deposits or
other investments that pay a fixed yield for a stated period of time. Investors
comparing the Fund's performance with that of other investment companies should
give consideration to the quality and maturity of the respective investment
companies' portfolio securities.
Comparisons. To help investors better evaluate how an investment in the
Fund might satisfy their investment objectives, advertisements and other
materials regarding the Fund may discuss various financial publications.
Materials may also compare performance (as calculated above) to performance as
reported by other investments, indices, and averages. The following
publications, indices and averages may be used:
32
<PAGE>
a) Standard & Poor's 500 Composite Stock Index, one or more of the
Morgan Stanley Capital International Indices, and one or more of the
International Finance Corporation Indices.
b) Bank Rate Monitor -- A weekly publication which reports various bank
investments, such as certificate of deposit rates, average savings account rates
and average loan rates.
c) Lipper - Mutual Fund Performance Analysis and Lipper Fixed Income
Fund Performance Analysis -- A ranking service that measures total return and
average current yield for the mutual fund industry and ranks individual mutual
fund performance over specified time periods assuming reinvestment of all
distributions, exclusive of any applicable sales charges.
d) Salomon Brothers Bond Market Roundup -- A weekly publication which
reviews yield spread changes in the major sectors of the money, government
agency, futures, options, mortgage, corporate, Yankee, Eurodollar, municipal,
and preferred stock markets. This publication also summarizes changes in banking
statistics and reserve aggregates.
In addition, one or more portfolio managers or other employees of the
Manager may be interviewed by print media, such as by the Wall Street Journal or
Business Week, or electronic news media, and such interviews may be reprinted or
excerpted for the purpose of advertising regarding the Fund.
In assessing such comparisons of performance, an investor should keep
in mind that the composition of the investments in the reported indices and
averages is not identical to the Fund's portfolios, that the averages are
generally unmanaged, and that the items included in the calculations of such
averages may not be identical to the formulae used by the Fund to calculate its
figures.
Investors should note that the investment results of the Fund will
fluctuate over time, and any presentation of the Fund's total return for any
period should not be considered as a representation of what an investment may
earn or what an investor's total return may be in any future period.
Reasons to Invest in the Fund. From time to time, the Fund may publish
or distribute information and reasons supporting the Manager's belief that the
Fund may be appropriate for investors at a particular time. The information will
generally be based on internally generated estimates resulting from the
Manager's research activities and projections from independent sources. These
sources may include, but are not limited to, I/B/E/S Consensus Forecast,
Worldscope and Reuters as well as both local and international brokerage firms.
For example, the Fund may suggest that certain countries or areas may be
particularly appealing to investors because of interest rate movements,
increasing exports and/or economic growth.
Research. The Manager has made intensive research one of the important
characteristics of the Montgomery Funds style.
The portfolio managers for the Fund work extensively on developing an
in-depth understanding of particular foreign markets and particular companies.
And they very
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often discover that they are the first analysts from the United States to meet
with representatives of foreign companies, especially those in emerging markets
nations.
Extensive research into companies that are not well known --
discovering new opportunities for investment -- is a theme that may be used for
the Fund.
In-depth research, however, goes beyond gaining an understanding of
unknown opportunities. The portfolio analysts have also developed new ways of
gaining information about well-known parts of the domestic market.
General Information
Investors in the Fund will be informed of the Fund's progress through
periodic reports. Financial statements will be submitted to shareholders
semi-annually, at least one of which will be certified by independent public
accountants. All expenses incurred in connection with the Trust's organization
and the registration of shares of the Fund as one of the three initial series of
the Trust have been assumed pro rata by each series; expenses incurred in
connection with the establishment and registration of shares of any other funds
constituting a separate series of the Trust will be assumed by each respective
series. The expenses incurred in connection with the establishment and
registration of shares of the Fund as a separate series of the Trust have been
assumed by the Fund and are being amortized over a period of five years
commencing with the date of the Fund's inception. The Manager has agreed, to the
extent necessary, to advance the organizational expenses incurred by the Fund
and will be reimbursed for such expenses after commencement of the Fund's
operations. Investors purchasing shares of the Fund bear such expenses only as
they are amortized daily against the Fund's investment income.
As noted above, Morgan Stanley and Trust Company (the "Custodian") acts
as custodian of the securities and other assets of the Fund. The Custodian does
not participate in decisions relating to the purchase and sale of securities by
the Fund.
Investors Fiduciary Trust Company, 127 West 10th Street, Kansas City,
Missouri 64105, is the Fund's Master Transfer Agent. The Master Transfer Agent
has delegated certain transfer agent functions to DST Systems, Inc., P.O. Box
419073, Kansas City, Missouri 64141-6073, the Fund's Transfer and Dividend
Disbursing Agent.
_____________________, 555 California Street, San Francisco, California
94104, are the independent auditors for the Fund.
The validity of shares offered hereby will be passed on by Paul,
Hastings, Janofsky & Walker LLP, 345 California Street, San Francisco,
California 94104.
Among the Trustees' powers enumerated in the Declaration of Trust is
the authority to terminate the Trust or any series of the Trust, or to merge or
consolidate the Trust or one or more of its series with another trust or company
without the need to seek shareholder approval of any such action.
The Trust is registered with the Securities and Exchange Commission as
a non-diversified management investment company, although the Fund is a
diversified series of the Trust. Such a registration does not involve
supervision of the management or policies
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of the Fund. The Prospectus and this Statement of Additional Information omit
certain of the information contained in the Registration Statement filed with
the SEC. Copies of the Registration Statement may be obtained from the SEC upon
payment of the prescribed fee.
Financial Statements
The Fund has recently commenced operations, and therefore, has not yet
prepared financial statements for public distribution.
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Appendix
Description ratings for Standard & Poor's Ratings Group ("S&P"); Moody's
Investors Service, Inc., ("Moody's"), Fitch Investors Service, L.P. ("Fitch")
and Duff & Phelps Credit Rating Co. ("Duff & Phelps").
Standard & Poor's Rating Group
Bond Ratings
AAA Bonds rated AAA have the highest rating assigned by S&P.
Capacity to pay interest and repay principal is extremely
strong.
AA Bonds rated AA have a very strong capacity to pay interest and
repay principal and differ from the highest rated issues only
in small degree.
A Bonds rated A have a strong capacity to pay interest and repay
principal although they are somewhat more susceptible to the
adverse effects of changes in circumstances and economic
conditions than obligations in higher-rated categories.
BBB Bonds rated BBB are regarded as having an adequate capacity to
pay interest and repay principal. Whereas they normally
exhibit adequate protection parameters, adverse economic
conditions or changing circumstances are more likely to lead
to a weakened capacity to pay interest and repay principal for
bonds in this category than for bonds in higher rated
categories.
BB Bonds rated BB have less near-term vulnerability to default
than other speculative grade debt. However, they face major
ongoing uncertainties or exposure to adverse business,
financial or economic conditions which could lead to
inadequate capacity to meet timely interest and principal
payments.
B Bonds rated B have a greater vulnerability to default but
presently have the capacity to meet interest payments and
principal repayments. Adverse business, financial or economic
conditions would likely impair capacity or willingness to pay
interest and repay principal.
CCC Bonds rated CCC have a current identifiable vulnerability to
default and are dependent upon favorable business, financial
and economic conditions to meet timely payments of interest
and repayment of principal. In the event of adverse business,
financial or economic conditions, they are not likely to have
the capacity to pay interest and repay principal.
CC The rating CC is typically applied to debt subordinated to
senior debt which is assigned an actual or implied CCC rating.
C The rating C is typically applied to debt subordinated to
senior debt which is assigned an actual or implied CCC-rating.
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D Bonds rated D are in default, and payment of interest and/or
repayment of principal is in arrears.
S&P's letter ratings may be modified by the addition of a plus (+) or a
minus (-) sign designation, which is used to show relative standing
within the major rating categories, except in the AAA (Prime Grade)
category.
Commercial Paper Ratings
An S&P commercial paper rating is a current assessment of the
likelihood of timely payment of debt having an original maturity of no
more than 365 days. Issues assigned an A rating are regarded as having
the greatest capacity for timely payment. Issues in this category are
delineated with the numbers 1, 2 and 3 to indicate the relative degree
of safety.
A-1 This designation indicates that the degree of safety regarding
timely payment is either overwhelming or very strong. Those
issues determined to possess overwhelming safety
characteristics are denoted with a plus (+) designation.
A-2 Capacity for timely payment on issues with this designation is
strong. However, the relative degree of safety is not as high
as for issues designated A-1.
A-3 Issues carrying this designation have a satisfactory capacity
for timely payment. They are, however, somewhat more
vulnerable to the adverse effects of changes in circumstances
than obligations carrying the higher designations.
B Issues carrying this designation are regarded as having only
speculative capacity for timely payment.
C This designation is assigned to short-term obligations with
doubtful capacity for payment.
D Issues carrying this designation are in default, and payment
of interest and/or repayment of principal is in arrears.
Moody's Investors Service, Inc.
Bond Ratings
Aaa Bonds which are rated Aaa are judged to be of the best
quality. They carry the smallest degree of investment risk and
generally are referred to as "gilt edge." Interest payments
are protected by a large or by an exceptionally stable margin
and principal is secure. While the various protective elements
are likely to change, such changes as can be visualized are
most unlikely to impair the fundamentally strong position of
such issues.
Aa Bonds which are rated Aa are judged to be of high quality by
all standards. Together with the Aaa group they comprise what
generally are known as high-grade bonds. They are rated lower
than the best bonds because
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margins of protection may not be as large as in Aaa securities
or fluctuation of protective elements may be of greater
amplitude or there may be other elements present which make
the long-term risks appear somewhat larger than in Aaa
securities.
A Bonds which are rated A possess many favorable investment
attributes and are to be considered as upper medium-grade
obligations. Factors giving security to principal and interest
are considered adequate, but elements may be present which
suggest a susceptibility to impairment sometime in the future.
Baa Bonds which are rated Baa are considered as medium-grade
obligations, i.e., they are neither highly protected nor
poorly secured. Interest payments and principal security
appear adequate for the present but certain protective
elements may be lacking or may be characteristically
unreliable over any great length of time. Such bonds lack
outstanding investment characteristics and, in fact, have
speculative characteristics as well.
Ba Bonds which are rated Ba are judged to have speculative
elements; their future cannot be considered as well assured.
Often the protection of interest and principal payments may be
very moderate and, therefore, not well safeguarded during both
good and bad times in the future.
Uncertainty of position characterizes bonds in this class.
B Bonds which are rated B generally lack the characteristics of
a desirable investment. Assurance of interest and principal
payments or of maintenance of other terms of the contract over
any long period of time may be small.
Caa Bonds which are rated Caa are of poor standing. Such issues
may be in default or there may be present elements of danger
with respect to principal or interest.
Ca Bonds which are rated Ca present obligations which are
speculative in a high degree. Such issues are often in default
or have other marked shortcomings.
C Bonds which are rated C are the lowest rated class of bonds,
and issues so rated can be regarded as having extremely poor
prospects of ever attaining any real investment standing.
Moody's applies the numerical modifiers 1, 2 and 3 to show relative
standing within the major rating categories, except in the Aaa category
and in the categories below B. The modifier 1 indicates a ranking for
the security in the higher end of a rating category; the modifier 2
indicates a mid-range ranking; and the modifier 3 indicates a ranking
in the lower end of a rating category.
Commercial Paper Ratings
The rating Prime-1 (P-1) is the highest commercial paper rating
assigned by Moody's. Issuers of P-1 paper must have a superior capacity
for repayment of
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short-term promissory obligations, and ordinarily will be evidenced by
leading market positions in well established industries, high rates of
return on funds employed, conservative capitalization structures with
moderate reliance on debt and ample asset protection, broad margins in
earnings coverage of fixed financial charges and high internal cash
generation, and well established access to a range of financial markets
and assured sources of alternate liquidity.
Issuers (or related supporting institutions) rated Prime-2 (P-2) have a
strong capacity for repayment of short-term promissory obligations.
This ordinarily will be evidenced by many of the characteristics cited
above but to a lesser degree. Earnings trends and coverage ratios,
while sound, will be more subject to variation. Capitalization
characteristics, while still appropriate, may be more affected by
external conditions. Ample alternate liquidity is maintained.
Issuers (or related supporting institutions) rated Prime-3 (P-3) have
an acceptable capacity for repayment of short-term promissory
obligations. The effect of industry characteristics and market
composition may be more pronounced. Variability in earnings and
profitability may result in changes in the level of debt protection
measurements and the requirements for relatively high financial
leverage. Adequate alternate liquidity is maintained.
Issuers (or related supporting institutions) rated Not Prime do not
fall within any of the Prime rating categories.
Fitch Investors Service, L.P.
Bond Ratings
The ratings represent Fitch's assessment of the issuer's ability to
meet the obligations of a specific debt issue or class of debt. The
ratings take into consideration special features of the issue, its
relationship to other obligations of the issuer, the current financial
condition and operative performance of the issuer and of any guarantor,
as well as the political and economic environment that might affect the
issuer's future financial strength and credit quality.
AAA Bonds rated AAA are considered to be investment grade and of
the highest credit quality. The obligor has an exceptionally
strong ability to pay interest and repay principal, which is
unlikely to be affected by reasonably foreseeable events.
AA Bonds rated AA are considered to be investment grade and of
very high credit quality. The obligor's ability to pay
interest and repay principal is very strong, although not
quite as strong as bonds rated AAA. Because bonds rated in the
AAA and AA categories are not significantly vulnerable to
foreseeable future developments, short-term debt of these
issuers is generally rated F-1+.
A Bonds rated A are considered to be investment grade and of
high credit quality. The obligor's ability to pay interest and
repay principal is considered to be strong, but may be more
vulnerable to adverse changes in economic conditions and
circumstances than bonds with higher ratings.
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BBB Bonds rated BBB are considered to be investment grade and of
satisfactory credit quality. The obligor's ability to pay
interest and repay principal is considered to be adequate.
Adverse changes in economic conditions and circumstances,
however, are more likely to have an adverse impact on these
bonds and, therefore, impair timely payment. The likelihood
that the ratings of these bonds will fall below investment
grade is higher than for bonds with higher ratings.
BB Bonds rated BB are considered speculative. The obligor's
ability to pay interest and repay principal may be affected
over time by adverse economic changes. However, business and
financial alternatives can be identified which could assist
the obligor in satisfying its debt service requirements.
B Bonds rated B are considered highly speculative. While bonds
in this class are currently meeting debt service requirements,
the probability of continued timely payment of principal and
interest reflects the obligor's limited margin of safety and
the need for reasonable business and economic activity
throughout the life of the issue.
CCC Bonds rated CCC have certain identifiable characteristics,
which, if not remedied, may lead to default. The ability to
meet obligations requires an advantageous business and
economic environment.
CC Bonds rated CC are minimally protected. Default in payment of
interest and/or principal seems probable over time.
C Bonds rated C are in imminent default in payment of interest
or principal.
DDD, DD and D Bonds rated DDD, DD and D are in actual default of
interest and/or principal payments. Such bonds are extremely
speculative and should be valued on the basis of their
ultimate recovery value in liquidation or reorganization of
the obligor. DDD represents the highest potential for recovery
on these bonds and D represents the lowest potential for
recovery.
Plus (+) and minus () signs are used with a rating symbol to indicate
the relative position of a credit within the rating category. Plus and
minus signs, however, are not used in the AAA category covering 12-36
months.
Short-Term Ratings
Fitch's short-term ratings apply to debt obligations that are payable
on demand or have original maturities of up to three years, including
commercial paper, certificates of deposit, medium-term notes, and
municipal and investment notes.
Although the credit analysis is similar to Fitch's bond rating
analysis, the short-term rating places greater emphasis than bond
ratings on the existence of liquidity necessary to meet the issuer's
obligations in a timely manner.
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F-1+ Exceptionally strong credit quality. Issues assigned this
rating are regarded as having the strongest degree of
assurance for timely payment.
F-1 Very strong credit quality. Issues assigned this rating
reflect an assurance of timely payment only slightly less in
degree than issues rated F1+.
F-2 Good credit quality. Issues carrying this rating have a
satisfactory degree of assurance for timely payments, but the
margin of safety is not as great as the F-l+ and F-1
categories.
F-3 Fair credit quality. Issues assigned this rating have
characteristics suggesting that the degree of assurance for
timely payment is adequate; however, near-term adverse changes
could cause these securities to be rated below investment
grade.
F-S Weak credit quality. Issues assigned this rating have
characteristics suggesting a minimal degree of assurance for
timely payment and are vulnerable to near-term adverse changes
in financial and economic conditions.
D Default. Issues assigned this rating are in actual or imminent
payment default.
Duff & Phelps Credit Rating Co.
Bond Ratings
AAA Bonds rated AAA are considered highest credit quality. The
risk factors are negligible, being only slightly more than for
risk-free U.S. Treasury debt.
AA Bonds rated AA are considered high credit quality. Protection
factors are strong. Risk is modest but may vary slightly from
time to time because of economic conditions.
A Bonds rated A have protection factors which are average but
adequate. However, risk factors are more variable and greater
in periods of economic stress.
BBB Bonds rated BBB are considered to have below average
protection factors but still considered sufficient for prudent
investment. There may be considerable variability in risk for
bonds in this category during economic cycles.
BB Bonds rated BB are below investment grade but are deemed by
Duff as likely to meet obligations when due. Present or
prospective financial protection factors fluctuate according
to industry conditions or company fortunes. Overall quality
may move up or down frequently within the category.
B Bonds rated B are below investment grade and possess the risk
that obligations will not be met when due. Financial
protection factors will
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fluctuate widely according to economic cycles, industry
conditions and/or company fortunes. Potential exists for
frequent changes in quality rating within this category or
into a higher or lower quality rating grade.
CCC Bonds rated CCC are well below investment grade securities.
Such bonds may be in default or have considerable uncertainty
as to timely payment of interest, preferred dividends and/or
principal. Protection factors are narrow and risk can be
substantial with unfavorable economic or industry conditions
and/or with unfavorable company developments.
DD Defaulted debt obligations. Issuer has failed to meet
scheduled principal and/or interest payments.
Plus (+) and minus () signs are used with a rating symbol (except AAA)
to indicate the relative position of a credit within the rating
category.
Commercial Paper Ratings
Duff-1 The rating Duff-1 is the highest commercial paper rating
assigned by Duff. Paper rated Duff-1 is regarded as having
very high certainty of timely payment with excellent liquidity
factors which are supported by ample asset protection. Risk
factors are minor.
Duff-2 Paper rated Duff-2 is regarded as having good certainty of
timely payment, good access to capital markets and sound
liquidity factors and company fundamentals. Risk factors are
small.
Duff-3 Paper rated Duff-3 is regarded as having satisfactory
liquidity and other protection factors. Risk factors are
larger and subject to more variation. Nevertheless, timely
payment is expected.
Duff-4 Paper rated Duff-4 is regarded as having speculative
investment characteristics. Liquidity is not sufficient to
insure against disruption in debt service. Operating factors
and market access may be subject to a high degree of
variation.
Duff-5 Paper rated Duff-5 is in default. The issuer has failed to
meet scheduled principal and/or interest payments.
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